Assessing the financial capacity of older adults

Assessing the financial capacity of older adults

According to the Australian Bureau of Statistics, in Australia there are around 3.3 million people aged over 65 who represent 14.4% of the population. This is expected to rise to 8.3 million (or 23%) by 2050. The net wealth accumulated by older adults is more than $900 billion1.

Living longer is generally a welcome prospect but the process of ageing can be accompanied by a decline in cognitive processes or mild cognitive impairment. This can include changes in language, memory and reasoning. In this situation however, adults can still perform daily tasks sufficiently well.

More serious cognitive impairment, like that associated with dementia, may result in diminished capacity to make decisions, including financial capacity. Therefore, the growing segment of 65+ who face longer life expectancy but a simultaneous decline in mental health and cognitive ability poses important legal and ethical considerations for advisers in relation to financial capacity.
Financial capacity means “the ability to satisfactorily manage one’s financial affairs in a manner consistent with personal self-interest and values.” These abilities will differ according to a person’s background and working experience. For example, a retired financial analyst and retired music teacher may have different financial competencies.

Domains of financial capacity

Cognitive impairment operates on a continuum, therefore financial advisers may need guidance to identify if any clients are impacted. It’s important to understand that task-related abilities may fluctuate over the course of a day and incapacity in one cognitive area may not translate to other areas. So advisers need to be mindful of making incorrect assumptions which can devalue a person.

Detecting diminished financial capacity can be a challenge but there are some established domains that offer a place to start including the ability to demonstrate basic monetary skills, financial conceptual knowledge, cash transactions, check book management, bank statement management, financial judgement, bill payment, estate planning/wills and investment decision making.

In thinking about these domains, advisers may consider whether a person understands and retains the information related to a decision, understands the consequences of a decision and can clearly communicate their decision.

Implications for advisers with aged clients

If a person’s financial capacity is affected this could lead to them make inappropriate money-related or investment decisions, make it difficult to live independently, open them up to exploitation/elder abuse and influence estate planning decisions.

It’s important to recognise the difference between lack of financial literacy, mere confusion about certain financial matters, and diminished financial capacity. They are not the same thing – and you don’t want to make an incorrect ‘financial’ diagnosis.

To avoid this situation, it has been suggested that three questions can help test financial literacy in older adults.2
Qu. Suppose you had $100 in a savings account which paid an interest rate of 2% per year (calculated at the end of the year). After five years, how much do you think you would have in the account if you left the money to grow?
  1. More than $102?
  2. Exactly $102?
  3. Less than $102?
  4. Do not know?
Qu. Imagine that the interest rate on your savings account was 1% per year and the inflation rate was 2% per year. After 1 year, with the money in this account, would you be able to buy:
  1. More than today
  2. Exactly the same as today
  3. Less than today
  4. Do not know?
Qu. Buying a single company stock usually provides a safer return than a stock in a mutual fund. Is this statement:
  1. true
  2. false
  3. don't know?

Ethical guidance

From a legislative standpoint advisers always need to act in the best interests of clients. There are also important ethical considerations:
  • Consider whether investment products are appropriate
  • Develop rigorous protocols/processes when advising clients with reduced financial capacity
  • Use appropriate communications and language, be prepared to spend more time providing explanations
  • Recognise the risk of fraud/ financial abuse by family members, friends and strangers.
It is important advisers are confident in each client’s capacity and seek further advice if there is any uncertainty.
Alongside normal client ageing, the fact that around 450,000 people live with dementia in Australia makes it likely that advisers will need to informally assess a client’s financial capacity at some point.

If you believe or suspect that a client is unable to make a decision, supported or substitute decision making may be required. Where possible though, encouraging people to make the decisions they are able to helps maintain dignity and self-esteem which is an important part of ageing.

  1. Australian Bureau of Statistics (ABS) (2013). Household Wealth and Wealth Distribution, Australia, 2011-12. Cat. No. 6554.0, Canberra, ABS.
  2. Lusardi, A., and Mitchell, O.S. (2011). ‘Financial Literacy and Planning: Implications for Retirement Wellbeing’, in Financial Literacy: Implications for Retirement Security and the Financial Marketplace. Oxford: Oxford University Press.
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