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Private Wealth Management

Subjects : personal-finance, business-skills

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 advantages of an outright sale of low basis stock?
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
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
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

2. As desire to leave an estate increases...
1) credit method 2) exemption method 3) deduction method
Taxes paid on the gain (long or short position) when an asset is sold or purchased
Demand for life insurance increases
It is expenseive - time consuming - public

3. What are the main characteristics of the accumulation phase of life?
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
Implied liabilities
Income rising - assets growing - long time horizon - above-avg. ability to take 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

4. What is mortality risk?
Transferring assets directly to a third generation avoids possible double taxation
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
The risk of a premature death with accompanying loss of future human capital
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase

5. Why would an individual try to use generation skipping in estate planning?
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
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance

6. What is tax alpha?
Extra investment value created by effective tax management
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
1) source of wealth 2) measure of wealth 3) stage of life
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)

7. What are the equity holding life risk attributes for an investor?
Implied liabilities
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
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
Both increase with longer holding periods and higher returns

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

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9. What are investment objectives and constraints?
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
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
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
Demand for life insurance decreases

10. What is an equity collar? What is the purpose of the underlying positions
Demand for insurance decreases; less human capital to replace
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
Implied assets
Income rising - assets growing - long time horizon - above-avg. ability to take risk

11. Calculating the required return component is driven by what 2 elements?
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
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
Wealth transfer stage - focus on tax min. with trusts and foundations
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach

12. What is HIFO accounting?
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
1. foundation 2. accumulation 3. maintenance 4. distribution
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
Wealth transfer stage - focus on tax min. with trusts and foundations

13. What happens to both tax drag $ and tax drag % with holding period changes and return changes?
The government shares in both gains and losses
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
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
Both increase with longer holding periods and higher returns

14. What are the benefits of an IPS to the client?
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
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
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
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

15. What should an investor use in mean-variance optimization
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
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
Should use accrual-equivalent returns and after-tax risk
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

16. typical IPS elements
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
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) 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)
Early career 8accumulating education - developing skills - above-average ability to take risk

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

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18. What is core capital?
Taxes paid on the gain (long or short position) when an asset is sold or purchased
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
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
The amount of assets (i.e.present value) necessary to meet all future liabilities

19. characteristics of accumulation phase
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
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
Should use accrual-equivalent returns and after-tax risk
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)

20. What is measure of wealth?
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
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
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
- a subjective assessment of financial well-being based on perceived wealth

21. What is the eifference in willingness to take risk between active and passive wealth creators?
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
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
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
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax

22. four types of investors
Demand for life insurance decreases
Methodical - cautious - individualist - spontaneous
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)

23. What are typical characteristics of passive recipients of wealth?
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
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
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
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one

24. What is the general relationship between tax drag% and tax rate when capital gains taxes are deferred and B=1; and as investment horizon increases and return increases?
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
HC = PV of future labor income
The risk of a premature death with accompanying loss of future human capital
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

25. What are the two sources of wealth?
It is expenseive - time consuming - public
1) active 2) passive
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
1. foundation 2. accumulation 3. maintenance 4. distribution

26. What should an investor use in mean-variance optimization
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
Should use accrual-equivalent returns and after-tax risk
Investors begin to shift portfolios into less volatile assets -Reduced focus on accumulating additional wealth and more focus on preserving current wealth -Reduced ability to recover from market downturns -diminishing risk tolerance
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

27. What are the main characteristics of fixed annuities?

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28. When calculating a required return - you typically must identify 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
Total wealth = financial assets + human capital
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
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date

29. What are the different methods of relief from double taxation?
The reduction in return caused by the payment of taxes
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
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
1) credit method 2) exemption method 3) deduction method

30. What are the advantages of public exchange funds for low basis stock?
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
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
Excess capital
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

31. Calculating the required return component is driven by what 2 elements?
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
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach

32. What is the general relationship b/t a client's perception of wealth and risk willingness?
HC = PV of future labor income
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
A positive relationship
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)

33. What are the advantages of completion portfolios for low basis stock?
Demand for life insurance increases
- cautious - methodical - individualistic - spontaneous
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely

34. What are the disadvantages of hedging for low basis stock?
Young -Building a foundation for future wealth -above avg risk tolerance
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
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

35. As age increases..
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 subjective assessment of financial well-being based on perceived wealth
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
Demand for insurance decreases; less human capital to replace

36. 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
The demand for life insurance increases - regardless of age
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
1) active 2) passive

37. 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
- 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) 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
Young -Building a foundation for future wealth -above avg risk tolerance

38. What are the disadvantages of completion portfolios for low basis stock?
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
The decedent's estate
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

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

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40. What are the disadvantages of an outright sale of low basis stock?
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) Entrepreneur - large position in 1 private stock 2) Executive - large position in 1 public stock 3) Investor - large positions in 1 successful public stock
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
- 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

41. What are the advantages of an outright sale of low basis stock?
Fixed income streat set at inception - usually no inflation adjustment - so real value falls over time - usually illiquid (can't withdraw funds) - lock in at the prevailing rate - which might be historically low
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up
Quick to make decisions in the heat of moment (don't want to miss opportunities) - High PTO - Focus on return w/out considering risk - Don't consider themselves experts - Don't trust professionals
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification

42. template for return objective
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n

43. Generally - how does portfolio size - liquidity - time horizon - and/or importance of spending affect ability to tolerate risk?
Total wealth = financial assets + human capital
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up
Demand for life insurance decreases
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one

44. What is the general relationship between tax drag% and tax rate with accrual taxes; and as investment horizon increases and return increases?
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
Demand for life insurance decreases
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
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

45. 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
- 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
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
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging

46. What are the different types of trusts?
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
The client's psychological profile
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
Fixed income streat set at inception - usually no inflation adjustment - so real value falls over time - usually illiquid (can't withdraw funds) - lock in at the prevailing rate - which might be historically low

47. Define capital gains taxes.
Taxes paid on the gain (long or short position) when an asset is sold or purchased
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
- 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
HC = PV of future labor income

48. What is the eifference in willingness to take risk between active and passive wealth creators?
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
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
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
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today

49. What are the equity holding life risk attributes for an investor?
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
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)
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
Extra investment value created by effective tax management

50. What are the equity holding life risk attributes for an entrepreneur?
1) credit method 2) exemption method 3) deduction method
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
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
- 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