Bob Morrison was working up a comprehensive financial plan last year for new clients when he began noticing some odd behavior. Morrison, a planner based in Littleton, Colo., had been working with the couple—a 64-year-old man and his 52-year-old wife—over a four-month period, and several conversations with the husband concerned him.

“He would call and ask peculiar questions in areas where I don't have expertise and where I wasn't really the appropriate person to speak to,” Morrison recalls. Since the relationship was new and he didn't yet know the couple well, he chalked it up to a quirky personality. But as the planning work proceeded, Morrison became convinced his client was suffering from the initial stages of dementia.

“I was worried about what the future held, and really didn't know how to bring it up with his wife. I finally found a way to raise it during a discussion with her about adding long term insurance to their plan. She agreed to move forward with an application for insurance, and part of that is a medical examination that includes cognitive testing. He didn't do well on the cognitive test—the insurance company tested him multiple times and ultimately declined to insure him.”

Morrison's client was diagnosed later in the year with Alzheimer’s disease. “It's created some unique planning challenges because of their age difference and his medical condition at a fairly early age,” Morrison says. “And it's been emotionally difficult going through this with my clients and being on the front line with them.”

Morrison's experience underscores a critical issue all financial planners should consider: the need to plan for the possibility of cognitive decline in a client. “This has been very difficult. I've developed a very close relationship with these folks. I care about them and want to do the best for them but you can't make up for lost time or a lack of planning. And it wasn't their fault—they just didn't know. The wife now says she wished they had been working with me five years ago—and I do too,” he says.

Morrison has been working to adapt to the couple's looming long-term-care needs, but it's a challenge. “Once problems occur you're not in good position to fix it.”

A growing body of evidence suggests that the aging brain isn't well-suited to financial decision-making. Roughly half of adults in their 80s suffer from dementia or cognitive decline that impacts financial management skills, according to David Laibson, an economics professor at Harvard University and co-author of a research report with three other economic and financial experts on aging and reasoning ability. Laibson laid out the worrisome findings at a recent Morningstar Investment Conference.

Other researchers have documented characteristics of poor decision-making in the elderly that leave them vulnerable to the marketing tactics of fraudulent and abusive financial services. A research team at the University of Iowa points toward problems with complex decision-making in some older adults who haven't been diagnosed with any specific neurological or psychiatric diseases.

"Many older people experience far more dramatic declines in cognitive abilities that are not related to memory, such as concentration, problem solving, and decision-making," according to Natalie Denburg, an assistant professor of neurology and neuroscience at the University of Iowa Carver College of Medicine.

Denburg's team found that impaired decision-makers were more vulnerable to deceptive advertising claims and tended to go for promises of short-term rewards at the expense of long-term benefits. "They also often assumed long-term benefits in situations where there are none," she adds. "We see these characteristics as direct consequences of neurological dysfunction in systems that are critical for bringing emotion-related signals to bear on decision-making."

Much is at stake: Laibson says that $18.1 trillion of the $53.1 trillion in U.S. household net worth is held by the vulnerable population over age 65—a percentage that will rise as the baby boom generation ages in the years ahead.

And a study by the Metlife Mature Market Institute found that of financial abuse of elderly Americans has risen 12 percent just since 2008, resulting in an annual loss of at least $2.9 billion dollars.

"It turns out that our peak ability to make good choices in the world comes in the mid-50s, and after that there is a decline," Laibson says. "So we have to think about that, and of course dementia makes that decline even more severe."

The evidence on cognitive decline raises unpleasant, sensitive questions that financial planners need to address with older clients and their adult children—before issues arise. Laibson says investors in their 50s and 60s should make plans for the possibility that "things will go badly" in their 80s.

Procrastination can be your worst enemy, because the timing of cognitive decline is impossible to predict—and once problems occur, you're no longer in a position to fix them yourself. That requires a proactive approach to issues that no one wants to contemplate.

"People who had been functioning well start to make poor investment and spending decisions," says Harry Margolis, an elder law attorney at Margolis & Bloom, LLP. "It's often very difficult to intervene. We see cases where the husband has been in control of finances and wants to keep doing so even if he can't do it very well."

Adult children can find getting involved just as difficult. Parents and children need to discuss and plan for issues that include everyday household finance, but also longer-range issues such as long-term care and estate planning. But these topics can be so charged with emotion that no one knows how to get the conversation started.

Just 47 percent of adult children say they have had detailed discussions with their parents about their income and expenses, according to the Employee Benefit Research Institute (EBRI) 2010 Health Confidence Survey. A slightly larger number (54 percent) of retired parents reported that they had those discussions.

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Researchers on cognitive decline and other experts offer these suggestions on how to prepare your clients:

Start with a financial checkup. "Many of my clients get a medical check-up before they retire, and we recommend a financial check-up as well," says Martha J. Schilling, an investment advisor in the Philadelphia area. "We work on simplifying their accounts, reviewing the estate-related legal documents and ensuring that spouses have a good understanding of assets and that they communicate with each other on how they would like assets distributed at their demise or incapacity."

Put assets on cruise control. Our ability to make sound investment decisions declines with age, so consider taking steps in advance to reduce the need for active management of your clients' assets. Active investors should consider becoming passive investors past their 60s by placing assets in low-cost index funds.

Protect against fraud. Elderly people with decision-making impairment need more than support from family and friends. They need legal and societal protection from fraud and predatory marketing.

"Unfortunately, we cannot always rely on the patient to report his own problems," says Denburg. "People with frontal lobe dysfunction often suffer from impaired awareness and insight, and they aren't aware of both their own deficits and the ways in which their behavior affects other people. They will deny that they have anything wrong with them, even though their deficits are patently obvious to everyone around them."

Denburg recommends that family and friends be on the lookout for disturbing external signs, including accumulation of large amounts of mailers with disguised sales pitches, frequent phone and mail-order purchases, large bank withdrawals and dwindling savings. "Some older adults and their families have set up safety mechanisms such as putting limits on bank withdrawals, and personal checks," she says.

Make sure a succession plan is in place. Clients should pick a trusted family member or friend to manage your affairs in the event that they cannot do so. Elder law attorney Harry Margolis sometimes recommends bringing in a bank or trust company as professional trustee at the same time that he establishes revocable trusts for clients.

Many attorneys point to the living, or revocable trust as the preferred vehicle for giving your trusted co-pilot the legal power to act on your behalf if necessary. The process involves retitling your key accounts and assets to the trust.

"They're well accepted by financial institutions, and you don't have to give up control," says Margolis. "You're naming a co-trustee who can step in if necessary. And your trustee can keep an eye on what's going on—if you make a crazy investment or suddenly start spending a lot of money on the Home Shopping Network, the trustee can take action."

The living trust also serves as the controlling document for disposition of most of your estate after your death. These are most appropriate for individuals with substantial assets and complex holdings; sometimes durable power of attorney documents can suffice.

Plan long-term care. All financial plans should consider the possible cost of incapacitation that requires nursing care. One-third of Americans will need long-term care at some point in their lives, according to the Center for Retirement Research at Boston College, with semi-private nursing room costs hitting $77,000 per year.

Mark Miller is a journalist and author who writes about trends in retirement and aging. He has a special focus on how the baby boomer generation is revising its approach to money, careers and lifestyle after age 50.

Mark edits and publishes RetirementRevised.com, featured as one of the best retirement planning sites on the web in the May 2010 issue of Money Magazine. He writes Retire Smart, a syndicated weekly newspaper column and also contributes weekly to Reuters.com. He is the author of The Hard Times Guide to Retirement Security: Practical Strategies for Money, Work and Living (John Wiley & Sons, 2010).

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