Helping Clients With an ESG Investing Policy Statement

For financial advisors, one of the first steps in integrating sustainable investing into a practice is creating the process for understanding your clients’ interests and how that will fit into their financial plans.

What many advisors are finding is that to truly incorporate sustainable investing into an advisor business requires more than having a handful of funds to choose from that rank high on environmental, social, and governance scoring.

There’s also an increasing number of clients for whom accumulating wealth is not a meaningful goal in itself. They are asking for help defining “enough” and for advice directing their investments to have a wider impact outside of their own household.

One option for creating this structure is to borrow something from the traditional financial planning tool kit: the Investment Policy Statement, or IPS. By layering in sustainable investing, you can create an Investment and Impact Policy Statement, or IIPS.

Whether you are familiar with the process behind an IPS may depend on whether you manage discretionary accounts. For those who aren’t familiar, with the IPS process you set out a template with questions and investment choices that can be used to create a client’s sustainable investing strategy. This information can be turned into a client-facing document or used for your own internal reference.

This article is a continuation of a series providing a framework for incorporating sustainable investing into your advisory practice. In the previous column, How To Incorporate Sustainable Investing Into Your Practice, we explored how defining your impact goals as an advisor creates a strong foundation for your work. In this column, I’ll focus on how you can support your clients to clarify and document their sustainable investing goals alongside their financial goals.

The Value of Financial Planning Policies

Financial plannersDavid Yeske and Elissa Buie first described “policy-based financial planning” as a way for advisors to help clients stay the course in their financial plans, grounded in their short- and long-term goals. Written policies provide a framework for clients' goals and values, and leaves room for the technical steps of the financial plan to stay flexible to changing life circumstances.

One common tool of a policy-based financial planning approach is the IPS. The IPS provides guidance for how advisors can invest their clients’ assets, and it’s also a way for the advisor and client to develop clear expectations for what the advisor will do for the client.

A typical IPS includes sections summarizing the client’s goals and liquidity needs, risk tolerance, time horizon, and asset allocation. Including impact policies to the IPS can deepen your client’s relationship to their wealth as well as open the door to conversations about sustainable investing options.

How to Create an Investment and Impact Policy Statement

Here’s how to take the IPS process and adapt it into an IIPS:

Section 1 - Goals: This is where the client’s “why” is outlined. Clarifying and outlining goals can take place within and outside of meetings with clients. These are similar to the questions I shared in the first column of this series, to help advisors determine their own “why” for incorporating sustainable investing into their work. Reflecting on these questions personally will prepare you for having these conversations with clients.

• Objectives - What are the overarching needs and/or intentions for the investments (for example growth, income, and/or impact)?
• Causes - What are the issues that the client cares about and why?
  1. Are there specific themes the client wants to focus on? (for example, environmental sustainability, racial justice, gender equity, animal rights)
  2. Are there specific geographies the client wants to focus on? (for example, global, country- or state-specific, local) 
  3. Are there specific communities the client wants to support? (for example, Native businesses and communities, BIPOC entrepreneurs and leaders, women, LGBTQ+)
  4. Are there specific sectors to exclude? (for example, tobacco, weapons, prisons)
  5. Are there specific sectors to include? (for example, renewable energy, affordable housing)

Section 2 - Risk and Taxes: The responses to the questions may be account-specific, especially for clients still saving or preparing for retirement alongside pursuing giving goals. For example, a client may have an inheritance they'd like to redistribute within a certain period of time or a trust they do not yet have authority over. You might have different investment and impact policies by account, or one overarching one. 

• Risk tolerance - How does the client fare on the advisor’s traditional risk assessment tool? Or are there other aspects of risk that the client would like assessed?
• Time horizon - How long will the assets be invested? You may want to break this down into short-, medium-, and long-term horizons connected to the client’s objectives.
• Tax considerations - Are there specific tax considerations or sensitivity that would be important to note?

Section 3 - Liquidity and Drawdown Rates: Clients in retirement or who are redistributing their wealth may require including in their IIPS a rate of withdrawal, also called the Retirement (or Withdrawal) Policy Statement. In addition, it’s important for people of all ages to maintain cash for emergencies whenever possible.

• Liquidity needs - How much cash will the client keep as an emergency fund for short-term living expenses?
• Income needs - Does the client expect to withdraw from their investments for income for themselves and/or loved ones? If so, what is the estimated drawdown rate for income, and from which accounts? Certain individuals or obligations can be listed here.
• Redistribution rate - Does the client expect to redistribute their investments during their lifetime and at what rate? Which accounts will the income draw from? Where will the funds be redistributed? The last question may be answered in the Goals section. Certain communities, individuals, or organizations can be listed here.

Section 4 - Asset Allocation and Selection: Typically, this section includes investment options in three main categories: equities, fixed income, and cash. USSIF provides a helpful chart of community (also referred to as regenerative or direct) investment options by asset class.

• Asset allocation - How will the funds be invested in different asset classes? List a percentage breakdown within each class.
• Asset location - What are each of the accounts being managed? What are the account types? These can include retirement accounts, taxable accounts, and trusts.
• Investment selection - What types of investments will the advisor use to construct the portfolios, and what types will not be used? Refer to the Goals section for the client’s responses regarding causes they care about. Below are guiding questions to support investment selection.
  1. Is the client interested only in regenerative investments outside of public markets (“Wall Street”) or a mix of both?
  2. Are there specific types of entities the client would like to prioritize in their investments? (for example, worker-owned cooperatives, small/local businesses, community land trusts)
  3. What types of investment products may be incorporated into the portfolio? (Equities: mutual funds, index funds, exchange-traded funds, individual stocks, private investments in local businesses, and so on; fixed income: CDFI and community loan funds, bond funds, individual bonds or promissory notes, and so on.)
  4. Where will cash in the portfolio be held?

Section 5 - Roles And Responsibilities: This section outlines the expectations of both the advisor and investor for maintaining, monitoring, and updating the IIPS. Documenting these roles is important, and they depend highly on the processes of your firm. Commonly, the advisor is restricted to rebalancing assets, as well as investing new monthly deposits, dividends, and capital gains distributions, according to the target asset allocation. However, clients shifting their investments toward sustainable investing may want a different approach for additional investments, and you can outline those instructions in this section.

It can be a triumph to complete the IIPS, so be sure to celebrate with the client. At the end of the IIPS, leave a space for you as the advisor and the client to both sign.

Putting Sustainable Investing into Practice

For a client shifting toward sustainable investing, it could mean a lot of changes to their financial plan and current investments. The framework of an IIPS can support your conversations with clients and frame what they can expect from your services in an organized way. An IIPS aligns clients’ financial and impact goals for their assets, so you as their advisor can support them with a clear focus and purpose. In addition, the IIPS is always adaptable to fit how you and clients want to work together in support of their goals.

In my next column, I’ll explore how to help investors across income and wealth spectrums practice sustainable investing.

Phuong Luong, CFP, is an educator, financial planner, and investment strategist focused on economic justice and closing racial wealth divides. She is currently the investment strategist for Adasina Social Capital and the founder of Just Wealth, a virtual, solo, fee-only Registered Investment Advisor. She is also the online facilitator for the Boston University Financial Planning Program and a subject matter expert in ESG and regenerative investing. The views expressed in this article do not necessarily reflect the views of Morningstar.