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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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1. What are the disadvantages of completion portfolios for low basis stock?
Extra investment value created by effective tax management
Implied liabilities
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
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

2. What is typically considered when imposing an exit tax?
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up
- 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
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
- a subjective assessment of financial well-being based on perceived wealth

3. What are the benefits of an IPS to the client?
It is expenseive - time consuming - public
- 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) credit method 2) exemption method 3) deduction method
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

4. When calculating a required return - you typically must identify what?
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
The demand for life insurance increases - regardless of age

5. Define tax drag.
The more equity-like - the less the demand for life insurance
The reduction in return caused by the payment of taxes
A will (also known as a testament)
The demand for life insurance increases - regardless of age

6. situational profiling

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7. When should you use a tax-exempt versus a tax-deferred account?
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
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
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either

8. Human capital is sometimes referred to as what?
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
Implied assets
Demand for life insurance increases
The government shares in both gains and losses

9. What is the difference between a deterministic approach and a monte carlo approach to portfolio construction?
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
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one
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

10. What is the general relationship between tax drag% and tax rate with accrual taxes; and as investment horizon increases and return increases?
Risk tolerance and decision-making style
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
Should use accrual-equivalent returns and after-tax risk
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

11. What is an equity collar? What is the purpose of the underlying positions
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)
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
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
A positive relationship

12. What are investment objectives and constraints?
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
Taxes paid on the gain (long or short position) when an asset is sold or purchased
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk

13. characteristics of distribution phase
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
The client's psychological profile
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
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education

14. 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
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
Income rising - assets growing - long time horizon - above-avg. ability to take 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

15. What are the different retirment risks and how can they be hedged?
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
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)
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

16. What are the different methods of relief from double taxation?
1) credit method 2) exemption method 3) deduction method
When a decedent leaves no will or if the will is deemed invalid
- 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
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either

17. What is 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
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
HC = PV of future labor income
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

18. characteristics of spontaneous investor

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19. What are typical characteristics of passive recipients of wealth?
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
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
The demand for life insurance increases - regardless of age

20. In contrast to standard finance (MPT) - behavioral finance assumes individuals do what?
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)
Risk tolerance and decision-making style
1) credit method 2) exemption method 3) deduction method
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

21. What is the general relationship b/t a client's perception of wealth and risk willingness?
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
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
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
A positive relationship

22. When calculating a required return - you typically must identify what?
Demand for life insurance increases
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date

23. Describe a methodical investor personality type.
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
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
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
- 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

24. If human capital is equity-like/fixed-income like - how should you generally allocate financial assets?
1. foundation 2. accumulation 3. maintenance 4. distribution
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
1) source of wealth 2) measure of wealth 3) stage of life
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

25. four types of investors
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
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
Methodical - cautious - individualist - spontaneous
It is expenseive - time consuming - public

26. Describe a spontaneous investor personality type.
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either
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
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
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

27. What is human capital?
Implied liabilities
1) active 2) passive
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
HC = PV of future labor income

28. Living expenses in retirment can be referred to as what?
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
Implied liabilities
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
Young -Building a foundation for future wealth -above avg risk tolerance

29. What are the disadvantages of hedging for low basis stock?
The reduction in return caused by the payment of taxes
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
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
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)

30. situational profiling

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31. What are the main characteristics of the foundation phase of life?
1) credit method 2) exemption method 3) deduction method
The amount of assets (i.e.present value) necessary to meet all future liabilities
Early career 8accumulating education - developing skills - above-average ability to take risk
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool

32. characteristics of foundation stage
Young -Building a foundation for future wealth -above avg risk tolerance
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
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
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

33. What are ways that individuals can avoid probate?
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
The risk of a premature death with accompanying loss of future human capital

34. When dealing with low basis stock - emotional issues can arise from what?
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)
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) active 2) passive
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one

35. typical IPS elements
Demand for life insurance decreases
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
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one
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

36. Describe the different types of double taxation conflicts.
Young -Building a foundation for future wealth -above avg risk tolerance
Transferring assets directly to a third generation avoids possible double taxation
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
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

37. What is intestate?
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
1) active 2) passive
When a decedent leaves no will or if the will is deemed invalid
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

38. What are the psychological issues of low basis stock held by an executive?
Demand for life insurance decreases
- 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
- 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
- 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

39. characteristics of maintenance phase
Extra investment value created by effective tax management
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
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
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

40. What are the psychological issues of low basis stock held by an investor?
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
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either
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

41. What are the disadvantages of public exchange funds for low basis stock?
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
Demand for life insurance increases
1. foundation 2. accumulation 3. maintenance 4. distribution
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

42. characteristics of maintenance phase
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
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
Should use accrual-equivalent returns and after-tax risk
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging

43. What are the different types of trusts?
Risk tolerance and decision-making style
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
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
Demand for life insurance increases

44. What are the diversification techniques for low basis stock?
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
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
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

45. What are the advantages of public exchange funds for low basis stock?
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
- 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

46. What is intestate?
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
When a decedent leaves no will or if the will is deemed invalid
Income rising - assets growing - long time horizon - above-avg. ability to take risk
Taxes paid on the gain (long or short position) when an asset is sold or purchased

47. Define tax drag.
Taxes paid on the gain (long or short position) when an asset is sold or purchased
Young -Building a foundation for future wealth -above avg risk tolerance
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
The reduction in return caused by the payment of taxes

48. characteristics of cautious investor

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49. What is the reinvestment caveat when considering tax loss harvesting?
Both increase with longer holding periods and higher returns
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either
- 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

50. What is the general relationship between tax drag% and tax rate with accrual taxes; and as investment horizon increases and return increases?
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
- 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 government shares in both gains and losses
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible