Private Wealth Management

Instructions:

• Answer 50 questions in 15 minutes.
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• Match each statement with the correct term.
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This is a study tool. The 3 wrong answers for each question are randomly chosen from answers to other questions. So, you might find at times the answers obvious, but you will see it re-enforces your understanding as you take the test each time.

1. What are the diffferent types of estate ownership rights?

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2. What progressive tax regimes do not have favorable treatment for interest income/dividend income/capital gains?
Long stock position + long put + short call - long put protects downside (like purchasing insurance) - short call generates income to at least partially offset the cost of the put
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
Both increase with longer holding periods and higher returns
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax


3. What are investment objectives and constraints?
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
Demand for life insurance increases
Methodical - cautious - individualist - spontaneous
Can borrow and/or use derivatives to diversify - ability to borrow (monetize) increased - owners retain upside potential of the original investment - not required to hodl illiquid assets - partners can change fund composition


4. What is tax alpha?
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
Extra investment value created by effective tax management
1) Financial market risk (reduced with efficient diversification) 2) Longevity risk (hedged w/ annuities) 3) Savings risk (hedged by employing a savings program and consuming less)
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)


5. What is intestate?
When a decedent leaves no will or if the will is deemed invalid
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
1) source of wealth 2) measure of wealth 3) stage of life
Should use accrual-equivalent returns and after-tax risk


6. What are the disadvantages of an outright sale of low basis stock?
Transferring assets directly to a third generation avoids possible double taxation
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
Required = critical financial objectives (e.g. living expenses - kids' college expenses) Desired = objectives the client would like to meet (e.g. - large bequests to family or charity - early retirement)
Client description -purpose of IPS -identification of duties - responsibilities -formal statement of objectives and constraints -calendar schedule for portfolio performance and IPS review -performance measures and benchmarks -considerations for devel


7. What are the diversification techniques for low basis stock?
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
If board of director member = inside - prudent investor rules usually applies - recommend legal counsel for setting up personal trust or family foundation - if a trust - balance the needs of income beneficiaries and remainderment
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
Tax drag % = tax rate - as the investment horizon increases - tax drag is unchanged - as the investment return increases - tax drag is unchanged - as the investment horizon increases - value of the tax deferral increases - as the inestment return inc


8. What is the most common estate planning tool?
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
1) exhibit loss aversion rather than risk aversion 2) exhibit biased expectations rather than rational expectations 3) tend to segregate investments rather than considering them in a portfolio perspective
A will (also known as a testament)
The testator


9. benefits of IPS to manager
Multiple-security holding with one superstar - the result is a concentrated equity position - high specific risk - diversifies from concentrated - active and core concentrations into passive index positions
Provides clarification in the event of questions regarding suitability -process for resolution of disputes with client -helps identify issues to be resolved to avoid problems
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
The reduction in return caused by the payment of taxes


10. As probability of death increases...
Transferring assets directly to a third generation avoids possible double taxation
Implied liabilities
Transferring assets directly to a third generation avoids possible double taxation
The demand for life insurance increases - regardless of age


11. What are the equity holding life risk attributes for an executive?
Transferring assets directly to a third generation avoids possible double taxation
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)
Determine: the client's contraints - as well as risk/return objectives - the best strategy - given capital market expectations for achieving the client's objectives - the appropriate strategic (long term) asset allocation which meets those goals
Single publicly traded mature company stock or vested options - greater appetite for specific risk due to higher degree of control - less residual risk - b/c the firm is more mature - less liquidity risk - but may have restrictions - desires tax effi


12. Human capital is sometimes referred to as what?
- Deemed disposition = amount is usually based on the gains on assets leaving - as if the individuals sold the assets and realized the gains - Shadow period = could include a tax on income earned for a period after leaving
1) Financial market risk (reduced with efficient diversification) 2) Longevity risk (hedged w/ annuities) 3) Savings risk (hedged by employing a savings program and consuming less)
Most risk averse/least risk tolerant - primary focus is financial security: preservation of wealth - hard to advise - can over-analyze - slow in making decisions and then changing investments - low portfolio turnover/volatility
Implied assets


13. What are investment objectives and constraints?
The client's psychological profile
Investors have too much confidence in their ability to forecast - they tend to discount or even ignore info that does not support their choices - they interpret info based on their current frame of mind and the medium through which it is received
Diligently gather the best possible investment info - tend to be conservative and - since they base decision on facts - they rarely form emotional attachments to investments - continually seek better info to confirm past investment decisions
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances


14. What are the problems that financial advisers can face with low basis stock?
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
The reduction in return caused by the payment of taxes
The amount of assets (i.e.present value) necessary to meet all future liabilities
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool


15. What are the main characteristics of the maintenance phase of life?
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
The testator
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)


16. What is measure of wealth?
Typically very loyal to the firm - views the concentrated position as a positive - does not desire diversification - b/c feels in control of the future - as entrepreneurs delegate more and more control to others - they strive for more and more divers
- a subjective assessment of financial well-being based on perceived wealth
Income rising - assets growing - long time horizon - above-avg. ability to take risk
Starts as a private stock held by an entrepreneur - Sold publicly in IPO (now held by exec - still major part of wealth - less specific risk b/c more mature) - Contributes less and less specific risk as other securities are added to portfolio - ends


17. When should you use a tax-exempt versus a tax-deferred account?
1) source of wealth 2) measure of wealth 3) stage of life
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
Iinvestors analyze ind. investments on a stand-alone basis - do not consider how the asset will affect portfolio risk and return - manifests itself as mental accounting/pyramiding - lack of diversification


18. What is the eifference in willingness to take risk between active and passive wealth creators?
1) Traders (all gains short term) 2) Active investors (less churn - some gains taxed at reduced rates) 3) Passive investor (buy and hold - most gains are deferred) 4) Exempt investors (no investment taxes)
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
Active wealth creators typically have an above-avg. willingness to take risk - passive recipients of wealth typically have an average or below-average willingness to take risk
It is expenseive - time consuming - public


19. What is another name for a variable prepaid forward and What is its main purpose?
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
Should use accrual-equivalent returns and after-tax risk
Distribution of outcomes provides a better indication of the risk/return tradeoff - show the tradeoff b/t short-term risk and ability meet long-term goals - incorporates the impact of taxes and the compounding effect of reinvestment - can build in f
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today


20. What are the disadvantages of an outright sale of low basis stock?
Long stock position + long put + short call - long put protects downside (like purchasing insurance) - short call generates income to at least partially offset the cost of the put
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
Entrepreneurial activity (likely to have highly concentrated portfolio) -inheritance - one-time windfalls (may be more willing to diversify) -built up over long periods of safe employment (e.g. middle mgr - easier to divest than huge entrepreneurial
Required = critical financial objectives (e.g. living expenses - kids' college expenses) Desired = objectives the client would like to meet (e.g. - large bequests to family or charity - early retirement)


21. What risks must be considered when discussing each concentrated investor category?
Tax drag % = tax rate - as the investment horizon increases - tax drag is unchanged - as the investment return increases - tax drag is unchanged - as the investment horizon increases - value of the tax deferral increases - as the inestment return inc
Total wealth = financial assets + human capital
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)
Single privately-held stock - high degree of control - immature firm - very high unsystematic risk - face significant residual risk - limited or restricted liquidity - zero cost basis in the original investment - desires tax efficient transfer to hei


22. Describe a methodical investor personality type.
Distribution of outcomes provides a better indication of the risk/return tradeoff - show the tradeoff b/t short-term risk and ability meet long-term goals - incorporates the impact of taxes and the compounding effect of reinvestment - can build in f
Can borrow and/or use derivatives to diversify - ability to borrow (monetize) increased - owners retain upside potential of the original investment - not required to hodl illiquid assets - partners can change fund composition
Diligently gather the best possible investment info - tend to be conservative and - since they base decision on facts - they rarely form emotional attachments to investments - continually seek better info to confirm past investment decisions
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either


23. What are the psychological issues of low basis stock held by an investor?
Income rising - assets growing - long time horizon - above-avg. ability to take risk
Most risk averse/least risk tolerant - primary focus is financial security: preservation of wealth - hard to advise - can over-analyze - slow in making decisions and then changing investments - low portfolio turnover/volatility
Early career 8accumulating education - developing skills - above-average ability to take risk
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either


24. What is the person called that transfers assets through a will?
1) active 2) passive
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
The testator
Most risk tolerant - fear that failing to respond to changing market conditions will negatively impact their portfolio - constantly adjust their portfolios in response to changing market conditions - tend to doubt investment advice. - high turnover a


25. An investor's ability to take risk depends on what?

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26. What are wealth taxes.
The client's psychological profile
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
Tax on the entire value of assets held - principal + earnings - not just earnings - has the same effect as an accrual tax - only taxes are paid at a (usually) reduced rate
Most risk tolerant - fear that failing to respond to changing market conditions will negatively impact their portfolio - constantly adjust their portfolios in response to changing market conditions - tend to doubt investment advice. - high turnover a


27. What is the difference b/t a required and desired return objective?

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28. What are the psychological issues of low basis stock held by an executive?
- the higher in the ranks - the more the executive acts like an entrepreneur - the more control = the more attached the executie is to the firm
1) active 2) passive
Tax on the entire value of assets held - principal + earnings - not just earnings - has the same effect as an accrual tax - only taxes are paid at a (usually) reduced rate
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax


29. What are the main characteristics of the accumulation phase of life?
The demand for life insurance increases - regardless of age
Income rising - assets growing - long time horizon - above-avg. ability to take risk
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach
1) active 2) passive


30. Why would someone want to use a valuation discount?
Risk tolerance and decision-making style
Excess capital
When a decedent leaves no will or if the will is deemed invalid
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes


31. situational profiling - considerations
Sources of wealth - measure of wealth - stage of life
Extra investment value created by effective tax management
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
Hedged with life insurance - think of the life insurance as a replacement for lost human capital


32. What are the different types of trusts?
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
1) revocable trust = the settlor can rescind the trust and resume ownership of the assets 2) irrevocable trust = the settlor relinquishes ownership and control 3) fixed trust = pattern of distributions to the beneficiaris is predetermined by the sett
Transferring assets directly to a third generation avoids possible double taxation
The government shares in both gains and losses


33. Describe the different types of double taxation conflicts.
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
1) Residence-residence = 2 individuals claim residence for the same individual 2) Source-Source = 2 countries claim authority over the same income (i.e. multinational company) 3) Residence-Source = individual is subject to residence jurisdiction and
A will (also known as a testament)
Long stock position + long put + short call - long put protects downside (like purchasing insurance) - short call generates income to at least partially offset the cost of the put


34. What is the difference between a deterministic approach and a monte carlo approach to portfolio construction?
Earnings start to accelerate -Expenses increase - but so do savings -Long time horizon over which to recover from short-term losses -above-average risk tolerance
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
Single privately-held stock - high degree of control - immature firm - very high unsystematic risk - face significant residual risk - limited or restricted liquidity - zero cost basis in the original investment - desires tax efficient transfer to hei
Deterministic = use point estimates to generate a forecasted value such as an expected return or terminal value Monte Carlo = use probability distributions of inputs to generate expected returns with accompanying probability distributions


35. Why would an individual try to use generation skipping in estate planning?
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
Diligently gather the best possible investment info - tend to be conservative and - since they base decision on facts - they rarely form emotional attachments to investments - continually seek better info to confirm past investment decisions
Transferring assets directly to a third generation avoids possible double taxation
Excess capital


36. What are the different methods of relief from double taxation?
The demand for life insurance increases - regardless of age
1) credit method 2) exemption method 3) deduction method
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances


37. What is the difference b/t a required and desired return objective?

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38. If human capital is equity-like/fixed-income like - how should you generally allocate financial assets?
A positive relationship
Most risk averse/least risk tolerant - primary focus is financial security: preservation of wealth - hard to advise - can over-analyze - slow in making decisions and then changing investments - low portfolio turnover/volatility
If human capital is equity-like - allocate financial assets more to fixed income - if the human capital is fixed-income like - allocate financial assets more to equities
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education


39. As age increases..
Tax on the entire value of assets held - principal + earnings - not just earnings - has the same effect as an accrual tax - only taxes are paid at a (usually) reduced rate
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach
Iinvestors analyze ind. investments on a stand-alone basis - do not consider how the asset will affect portfolio risk and return - manifests itself as mental accounting/pyramiding - lack of diversification
Demand for insurance decreases; less human capital to replace


40. All costs associated with probate are born by whom?

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41. characteristics of foundation stage
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
1) common progressive (progressive) 2) heavy dividend tax (progressive) 3) heavy capital gain tax (progressive) 4) heavy interest tax (progressive) 5) light capital gain tax (progressive) 6) flat and light (flat) 7) flat and heavy (flat)
Multiple-security holding with one superstar - the result is a concentrated equity position - high specific risk - diversifies from concentrated - active and core concentrations into passive index positions
Young -Building a foundation for future wealth -above avg risk tolerance


42. characteristics of accumulation phase
Determine: the client's contraints - as well as risk/return objectives - the best strategy - given capital market expectations for achieving the client's objectives - the appropriate strategic (long term) asset allocation which meets those goals
- if you sell a security to harvest its loss and then reinvest the proceeds in a very similar security - the selling price fo the old security becomes the tax basis for the new security - in that case - the loss harvest only delays the payment of t
Earnings start to accelerate -Expenses increase - but so do savings -Long time horizon over which to recover from short-term losses -above-average risk tolerance
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible


43. What are the advantages of the monte carlo approach to portfolio construction?
Distribution of outcomes provides a better indication of the risk/return tradeoff - show the tradeoff b/t short-term risk and ability meet long-term goals - incorporates the impact of taxes and the compounding effect of reinvestment - can build in f
The government shares in both gains and losses
1) Financial market risk (reduced with efficient diversification) 2) Longevity risk (hedged w/ annuities) 3) Savings risk (hedged by employing a savings program and consuming less)
Demand for life insurance increases


44. What is an equity collar? What is the purpose of the underlying positions
1) common progressive (progressive) 2) heavy dividend tax (progressive) 3) heavy capital gain tax (progressive) 4) heavy interest tax (progressive) 5) light capital gain tax (progressive) 6) flat and light (flat) 7) flat and heavy (flat)
The risk of a premature death with accompanying loss of future human capital
Long stock position + long put + short call - long put protects downside (like purchasing insurance) - short call generates income to at least partially offset the cost of the put
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution


45. What is intestate?
When a decedent leaves no will or if the will is deemed invalid
Payments are based on the performance of a mixed-asset class portfolio selected by the investor (client) - investor receives a fixed number of 'units' each period - value of each unit increases (decreases) during periods of rising (falling) market re
Demand for life insurance decreases
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool


46. As desire to leave an estate increases...
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
1) revocable trust = the settlor can rescind the trust and resume ownership of the assets 2) irrevocable trust = the settlor relinquishes ownership and control 3) fixed trust = pattern of distributions to the beneficiaris is predetermined by the sett
Demand for life insurance increases
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education


47. What are the different global tax regimes and their respective ordinary income tax structure?
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
1) Financial market risk (reduced with efficient diversification) 2) Longevity risk (hedged w/ annuities) 3) Savings risk (hedged by employing a savings program and consuming less)
Should use accrual-equivalent returns and after-tax risk
1) common progressive (progressive) 2) heavy dividend tax (progressive) 3) heavy capital gain tax (progressive) 4) heavy interest tax (progressive) 5) light capital gain tax (progressive) 6) flat and light (flat) 7) flat and heavy (flat)


48. Define capital gains taxes.
- if you sell a security to harvest its loss and then reinvest the proceeds in a very similar security - the selling price fo the old security becomes the tax basis for the new security - in that case - the loss harvest only delays the payment of t
Taxes paid on the gain (long or short position) when an asset is sold or purchased
1) Financial market risk (reduced with efficient diversification) 2) Longevity risk (hedged w/ annuities) 3) Savings risk (hedged by employing a savings program and consuming less)
Total wealth = financial assets + human capital


49. What are typical characteristics of active wealth creators?
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
- extrepreneurs - for example - are usually familiar with taking business risk - they are willing to take risk b/c they feel they control their business and personal circumstances
Forced heirship rules (children have the right to parents' estate) - community property rights (each spouse has right to 1/2 the estate) - separate property rights (each spouse's estate considered separately)


50. situational profiling

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