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Private Wealth Management

Subjects : personal-finance, business-skills

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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 to obvious but it re-enforces your understanding as you take the test each time.

1. What is measure of wealth?
Young -Building a foundation for future wealth -above avg risk tolerance
- a subjective assessment of financial well-being based on perceived wealth
1) credit method 2) exemption method 3) deduction method
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

2. What are the main characteristics of the distribution phase of life?
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one
- a subjective assessment of financial well-being based on perceived wealth
Wealth transfer stage - focus on tax min. with trusts and foundations
Demand for insurance decreases; less human capital to replace

3. What are the psychological issues of low basis stock held by an entrepreneur?
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
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
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
- 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

4. 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?
- 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
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
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach

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

6. What are wealth 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
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 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
Taxes paid on the gain (long or short position) when an asset is sold or purchased

7. What are the diversification techniques for low basis stock?
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
Transferring assets directly to a third generation avoids possible double taxation
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) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging

8. When should you use a tax-exempt versus a tax-deferred account?
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
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
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
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today

9. characteristics of cautious investor
A will (also known as a testament)
1) active 2) passive
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
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

10. What are the advantages of completion portfolios for low basis stock?
The reduction in return caused by the payment of taxes
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
- cautious - methodical - individualistic - spontaneous

11. What are the disadvantages of hedging for low basis stock?
Wealth transfer stage - focus on tax min. with trusts and foundations
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)
A positive relationship
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)

12. What is another name for a variable prepaid forward and What is its main purpose?
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
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
Excess capital
Income rising - assets growing - long time horizon - above-avg. ability to take risk

13. What are ways that individuals can avoid probate?
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
Methodical - cautious - individualist - spontaneous
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
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will

14. What is measure of wealth?
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)
- a subjective assessment of financial well-being based on perceived wealth
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase

15. What are the main characteristics of the foundation phase of life?
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
Early career 8accumulating education - developing skills - above-average ability to take 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

16. Any amount above core capital is considered what?
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
Excess capital
HC = PV of future labor income
Implied assets

17. What is the eifference in willingness to take risk between active and passive wealth creators?
The decedent's estate
1) active 2) passive
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)
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

18. An investor's ability to take risk depends on what?
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
- 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
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)
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will

19. What is the most common estate planning tool?
A will (also known as a testament)
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
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
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

20. An investor's willingness to take risk is determined by 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
The client's psychological profile
Transferring assets directly to a third generation avoids possible double taxation
Taxes paid on the gain (long or short position) when an asset is sold or purchased

21. Equation for total wealth.
Total wealth = financial assets + human capital
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
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase

22. What is the general relationship b/t a client's perception of wealth and risk willingness?
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
A positive relationship
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
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

23. What are the advantages of completion portfolios for low basis stock?
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
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
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification

24. Living expenses in retirment can be referred to as what?
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
Implied liabilities
Implied assets
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk

25. What is loss aversion?
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
- 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
HC = PV of future labor income
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

26. What are the different types of trusts?
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
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
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
Demand for life insurance decreases

27. Who is responsible for gains/losses in a taxable (accrual taxation) account?
The government shares in both gains and losses
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
Risk tolerance and decision-making style
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

28. Define tax drag.
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
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
The reduction in return caused by the payment of taxes
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

29. As wealth increases...
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 decedent's estate
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 decreases

30. What is the person called that transfers assets through a will?
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either
The testator
1. foundation 2. accumulation 3. maintenance 4. distribution

31. What are the equity holding life risk attributes for an entrepreneur?
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
Demand for insurance decreases; less human capital to replace
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today

32. What are the diffferent types of tax jurisdictions?
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
The client's psychological profile
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

33. What are the disadvantages of completion portfolios for low basis stock?
- cautious - methodical - individualistic - spontaneous
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
Sources of wealth - measure of wealth - stage of life
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

34. What is mortality risk?
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 risk of a premature death with accompanying loss of future human capital
Implied liabilities
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

35. Living expenses in retirment can be referred to as what?
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
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
Implied liabilities
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes

36. Why do individuals often take steps to avoid probate?
It is expenseive - time consuming - public
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
The government shares in both gains and losses
The demand for life insurance increases - regardless of age

37. What are the advantages of the monte carlo approach to portfolio construction?
Risk tolerance and decision-making style
A will (also known as a testament)
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)
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

38. 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
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
- 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 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

39. When should you use a tax-exempt versus a tax-deferred account?
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
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
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one
Excess capital

40. What are the main characteristics of fixed annuities?
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
The amount of assets (i.e.present value) necessary to meet all future liabilities
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
- 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. characteristics of foundation stage
Young -Building a foundation for future wealth -above avg risk tolerance
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)
Early career 8accumulating education - developing skills - above-average ability to take risk
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift

42. What risks must be considered when discussing each concentrated investor category?
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)
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
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
The client's psychological profile

43. What are the two sources of wealth?
- a subjective assessment of financial well-being based on perceived wealth
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
1) active 2) passive
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances

44. What are the main types of investors?
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) 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)
Both increase with longer holding periods and higher returns
The more equity-like - the less the demand for life insurance

45. What is the person called that transfers assets through a will?
The testator
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 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
Implied liabilities

46. What risks must be considered when discussing each concentrated investor category?
A positive relationship
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)
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)
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)

47. What are the advantages of hedging for low basis stock?
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
The decedent's estate
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
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. benefits of IPS to manager
The government shares in both gains and losses
Methodical - cautious - individualist - spontaneous
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
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

49. What are the main types of investors?
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
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
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)
The client's psychological profile

50. Describe asset segregation in a behavioral finance context.
Demand for life insurance decreases
The amount of assets (i.e.present value) necessary to meet all future liabilities
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
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

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