Tuesday, June 16, 2015

Wealth Projector: Death by Assumptions

The financial services industry is big on listing assumptions. Take, for example, a simple Income Tax Calculator. This calculator calculates income tax, given employment income and other taxable income. It explictly ignores several factors, which it lists at the bottom under Assumptions.

There are several good reasons for listing assumptions: it avoids misleading the client; it makes the calculations reproducible; and it disclaims liability. However such refrains miss a very important point. Take, for example, this assumption from the calculator above:

"The calculations do not include rebates and tax offsets that may lower the tax you pay"

This is the typical formulation. A less charitable way of writing the same statement would be:

"If your income includes any rebates or tax offsets, this calculator is not meaningful for you"

For example, if some portion of a person's income comes from a negatively-geared investment property, this calculator is simply no good to them. We tend to treat assumptions as disclaimers, but assumptions are weaknesses: every assumption a calculator makes is effectively saying 'this calculator is not useful for anybody that doesn't fit this assumption'. And given how many assumptions are often listed, this can exclude a lot of people.

As an industry, we should strive to minimise the amount we assume. In doing so, we maximise our usefulness. This requires a holistic approach to financial calculations, considering as many diverse aspects of a person's life as possible, in order to be truly meaningful.