Private Wealth Management

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• Answer 50 questions in 15 minutes.
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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 is the general relationship between tax drag% and tax rate with accrual taxes; and as investment horizon increases and return increases?
Decisions should be optimal -process is dynamic - thus factors in changing circumstances -focus on long-term objectives -new investment advisors should be able to use the IPS
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
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


2. What are the different global tax regimes and their respective ordinary income tax structure?
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
Transferring assets directly to a third generation avoids possible double taxation
Methodical - cautious - individualist - spontaneous
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)


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

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4. What are the main characteristics of chritable gifts?
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
Using HIFO accounting - an investor assumes the lot with the highest tax basis was sold to either maximize the loss for harvesting or minimize the taxable gain
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


5. characteristics of cautious investor

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6. What are the main characteristics of the accumulation phase of life?
The reduction in return caused by the payment of taxes
The client's psychological profile
Income rising - assets growing - long time horizon - above-avg. ability to take risk
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


7. Generally - how does portfolio size - liquidity - time horizon - and/or importance of spending affect ability to tolerate risk?
Implied liabilities
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up
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
When a decedent leaves no will or if the will is deemed invalid


8. What are the disadvantages of public exchange funds for low basis stock?
Should use accrual-equivalent returns and after-tax risk
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
Transferring assets directly to a third generation avoids possible double taxation
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis


9. What are the equity holding life risk attributes for an investor?
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
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
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized


10. What progressive tax regimes do not have favorable treatment for interest income/dividend income/capital gains?
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
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax
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


11. What is mortality risk?
The risk of a premature death with accompanying loss of future human capital
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
Anticipate individual investors' concerns and risk tolerance by specifying the investor's source of wealth - measure or adequacy of wealth in relation to needs - and stage of life -observables - reasonably objective
Extra investment value created by effective tax management


12. When should you use a tax-exempt versus a tax-deferred account?
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
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
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either


13. Describe asset segregation in a behavioral finance context.
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
1) credit method 2) exemption method 3) deduction method
1) Entrepreneur - large position in 1 private stock 2) Executive - large position in 1 public stock 3) Investor - large positions in 1 successful public stock
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


14. What are the disadvantages of an outright sale of low basis stock?
A positive relationship
The risk of a premature death with accompanying loss of future human capital
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
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)


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

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16. Describe the equity holding life three stages from the perspective of the stock.
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one
Early career 8accumulating education - developing skills - above-average 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
It is expenseive - time consuming - public


17. Human capital is sometimes referred to as what?
Implied assets
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
A will (also known as a testament)
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach


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

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19. What is measure of wealth?
Anticipate individual investors' concerns and risk tolerance by specifying the investor's source of wealth - measure or adequacy of wealth in relation to needs - and stage of life -observables - reasonably objective
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
- a subjective assessment of financial well-being based on perceived wealth
A positive relationship


20. What are the different stages of life?
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
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
High need for financial security - High need to avoid losses - Don't like to make own investment decisions - Don't trust others to make investment decisions - either - Tend to select least volatile assets - Low asset turnover - Frequently miss invest
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


21. Living expenses in retirment can be referred to as what?
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
Implied liabilities
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)
An investor focuses on gains and losses - prefer certain (riskless) gains and uncertain losses - are willing to face incerased risk to avoid losses - causes investors to exhibit risk-seeking behavior


22. What are the 3 categories of investors when discussing concentrated positions?
1) Entrepreneur - large position in 1 private stock 2) Executive - large position in 1 public stock 3) Investor - large positions in 1 successful public stock
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
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
Implied liabilities


23. What are typical characteristics of active wealth creators?
- 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
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
Both increase with longer holding periods and higher returns
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)


24. characteristics of individualist investor
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax
A will (also known as a testament)
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


25. What are the different retirment risks and how can they be hedged?
Acts as an operational guideline that represents the long-term - best interests of the investor - the process is dynamic and can incorporate changed circumstances (review at least annually) - the IPS allows continuity over time and portability to new
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either
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
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)


26. What progressive tax regimes do not have favorable treatment for interest income/dividend income/capital gains?
More subjective than situational profiling -helps to understand how an investor perceives risk and return. -Bridges the differences between traditional finance and behavioral finance -Methodical - cautious - individualist - spontaneous
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax
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
Extra investment value created by effective tax management


27. What are the different methods of relief from double taxation?
1) credit method 2) exemption method 3) deduction method
A positive relationship
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education


28. What are the benefits of an IPS to the adviser?
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
Both increase with longer holding periods and higher returns
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


29. Define tax drag.
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
The amount of assets (i.e.present value) necessary to meet all future liabilities
- 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
The reduction in return caused by the payment of taxes


30. 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
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
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
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


31. characteristics of distribution phase
More risk toelrant than than methodical investors - do their own research; very confident in their ability to make investment decisions - confidence in their ability to achieve their long-term investment objectives - unlike methodical investors - th
Retirement -Wealth has been accumulated -Liabilities paid off -Investor looking to live off of portfolio and/or considering distributions to others -need + ability to bear risk really starts to decline
Transferring assets directly to a third generation avoids possible double taxation
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)


32. What are the psychological issues of low basis stock held by an entrepreneur?
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
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
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


33. characteristics of methodical investor
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
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
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift


34. An investor's willingness to take risk is determined by what?

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35. Human capital is sometimes referred to as what?
Implied assets
Wealth transfer stage - focus on tax min. with trusts and foundations
High need for financial security - High need to avoid losses - Don't like to make own investment decisions - Don't trust others to make investment decisions - either - Tend to select least volatile assets - Low asset turnover - Frequently miss invest
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)


36. What are the psychological issues of low basis stock held by an executive?
The client's psychological profile
- 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
Both increase with longer holding periods and higher returns
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


37. What are the equity holding life risk attributes for an entrepreneur?
The government shares in both gains and losses
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
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
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


38. What are the benefits of an IPS to the adviser?
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
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
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
Using HIFO accounting - an investor assumes the lot with the highest tax basis was sold to either maximize the loss for harvesting or minimize the taxable gain


39. stages of life
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
1. foundation 2. accumulation 3. maintenance 4. distribution
Transferring assets directly to a third generation avoids possible double taxation
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


40. What are the two sources of wealth?
Anticipate individual investors' concerns and risk tolerance by specifying the investor's source of wealth - measure or adequacy of wealth in relation to needs - and stage of life -observables - reasonably objective
The reduction in return caused by the payment of taxes
1) active 2) passive
1) credit method 2) exemption method 3) deduction method


41. What are the diversification techniques for low basis stock?
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
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


42. Describe an individualistic investor personality type.
More risk toelrant than than methodical investors - do their own research; very confident in their ability to make investment decisions - confidence in their ability to achieve their long-term investment objectives - unlike methodical investors - th
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
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


43. What are the diffferent types of tax jurisdictions?
1) Source jurisdiction = country levies taxes on all income generated within its borders - whether by citizens or foreigners 2) Residence jurisdiction = a country taxes income of its residents whether generated inside or outside the country (most pre
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
Implied assets
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


44. Equation for total wealth.
1) active 2) passive
Total wealth = financial assets + human capital
The client's psychological profile
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


45. What is the difference between a deterministic approach and a monte carlo approach to portfolio construction?
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
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
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one
The more equity-like - the less the demand for life insurance


46. What are the main characteristics of fixed annuities?

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47. What is core capital?
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
The demand for life insurance increases - regardless of age
1) Source jurisdiction = country levies taxes on all income generated within its borders - whether by citizens or foreigners 2) Residence jurisdiction = a country taxes income of its residents whether generated inside or outside the country (most pre
The amount of assets (i.e.present value) necessary to meet all future liabilities


48. What is typically considered when imposing an exit tax?
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
- 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
Total wealth = financial assets + human capital
1) active 2) passive


49. As wealth increases...
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 decreases
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


50. What are the advantages of an outright sale of low basis stock?
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax
The client's psychological profile
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification