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?
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
The demand for life insurance increases - regardless of age
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


2. What is intestate?
When a decedent leaves no will or if the will is deemed invalid
- 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
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
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


3. Equation for total wealth.
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax
The demand for life insurance increases - regardless of age
Total wealth = financial assets + human capital
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. Define tax drag.
The reduction in return caused by the payment of 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
- 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. foundation 2. accumulation 3. maintenance 4. distribution


5. What are the main characteristics of the accumulation phase of life?
1) credit method 2) exemption method 3) deduction method
Demand for life insurance decreases
Income rising - assets growing - long time horizon - above-avg. ability to take risk
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


6. Why would an individual try to use generation skipping in estate planning?
Transferring assets directly to a third generation avoids possible double taxation
HC = PV of future labor income
Income rising - assets growing - long time horizon - above-avg. ability to take risk
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool


7. What are the psychological issues of low basis stock held by an investor?
The decedent's estate
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either
Total wealth = financial assets + human capital
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


8. What risks must be considered when discussing each concentrated investor category?
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
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) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)
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


9. If human capital is equity-like/fixed-income like - how should you generally allocate financial assets?
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
Young -Building a foundation for future wealth -above avg risk tolerance
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) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification


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

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11. What is the difference between a deterministic approach and a monte carlo approach to portfolio construction?
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
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
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
Implied assets


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

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13. When dealing with low basis stock - emotional issues can arise from what?
Demand for life insurance decreases
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
The demand for life insurance increases - regardless of age
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one


14. What are the advantages of completion portfolios for 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
The testator
Transferring assets directly to a third generation avoids possible double taxation
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses


15. What are the different global tax regimes and their respective ordinary income tax structure?
Income rising - assets growing - long time horizon - above-avg. ability to take risk
Transferring assets directly to a third generation avoids possible double taxation
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
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)


16. What progressive tax regimes do not have favorable treatment for interest income/dividend income/capital gains?
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax
Early career 8accumulating education - developing skills - above-average ability to take risk
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
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


17. What are the problems that financial advisers can face with low basis stock?
Implied liabilities
It is expenseive - time consuming - public
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
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification


18. What are the different methods of relief from double taxation?
The risk of a premature death with accompanying loss of future human capital
1) credit method 2) exemption method 3) deduction method
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
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


19. stages of life
Both increase with longer holding periods and higher returns
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
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
1. foundation 2. accumulation 3. maintenance 4. distribution


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

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21. What are the 3 categories of investors when discussing concentrated positions?
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
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
The more equity-like - the less the demand for life insurance
Total wealth = financial assets + human capital


22. Investor questionnaires help to determine what?
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
Risk tolerance and decision-making style
1. foundation 2. accumulation 3. maintenance 4. distribution
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk


23. What is an equity collar? What is the purpose of the underlying positions
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
Extra investment value created by effective tax management
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one
- 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


24. Describe the different types of double taxation conflicts.
Transferring assets directly to a third generation avoids possible double taxation
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
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
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


25. What is human capital?
HC = PV of future labor income
Early career 8accumulating education - developing skills - above-average ability to take risk
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
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


26. What are the different global tax regimes and their respective ordinary income tax structure?
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
Wealth transfer stage - focus on tax min. with trusts and foundations
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
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)


27. The client's risk tolerance (mostly willingness) is affected by what personal characteristics?
1) source of wealth 2) measure of wealth 3) stage of life
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
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
When a decedent leaves no will or if the will is deemed invalid


28. characteristics of methodical investor
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
1. foundation 2. accumulation 3. maintenance 4. distribution
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


29. 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
- 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
Demand for life insurance decreases
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


30. What are the 3 categories of investors when discussing concentrated positions?
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
- 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) Entrepreneur - large position in 1 private stock 2) Executive - large position in 1 public stock 3) Investor - large positions in 1 successful public stock
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


31. What happens to both tax drag $ and tax drag % with holding period changes and return changes?
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
Both increase with longer holding periods and higher returns
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk


32. Why do individuals often take steps to avoid probate?
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
The more equity-like - the less the demand for life insurance
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
It is expenseive - time consuming - public


33. What are the equity holding life risk attributes for an executive?
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
The amount of assets (i.e.present value) necessary to meet all future liabilities
Demand for life insurance decreases
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


34. What are the advantages of hedging for low basis stock?
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
Wealth transfer stage - focus on tax min. with trusts and foundations
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible


35. Who is responsible for gains/losses in a taxable (accrual taxation) account?
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
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
The government shares in both gains and losses
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


36. What is typically considered when imposing an exit tax?
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
- 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
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


37. characteristics of spontaneous investor

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38. What are the benefits of an IPS to the adviser?
- a subjective assessment of financial well-being based on perceived wealth
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
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
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


39. What is another name for a variable prepaid forward and What is its main purpose?
A will (also known as a testament)
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
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase


40. What are the equity holding life risk attributes for an investor?
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
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
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date


41. What are the different methods of relief from double taxation?
Methodical - cautious - individualist - spontaneous
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
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
1) credit method 2) exemption method 3) deduction method


42. situational profiling - considerations
Sources of wealth - measure of wealth - stage of life
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)
The amount of assets (i.e.present value) necessary to meet all future liabilities
- cautious - methodical - individualistic - spontaneous


43. What are the equity holding life risk attributes for an entrepreneur?
The testator
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
Extra investment value created by effective tax management
The risk of a premature death with accompanying loss of future human capital


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

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45. How does the nature of human capital affect the demand for life insurance?
The more equity-like - the less the demand for life insurance
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
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
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either


46. Why would someone want to use a valuation discount?
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
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
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
Risk tolerance = as risk tolerance increases - demand for life insurance decreases


47. What are the different types of trusts?
Implied liabilities
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance
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


48. What are the diffferent types of tax jurisdictions?
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
Hedged with life insurance - think of the life insurance as a replacement for lost 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
A will (also known as a testament)


49. What are the steps involved in creating an IPS?

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50. What are the four broad categories of investor personality types (BB&K)?
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
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
- cautious - methodical - individualistic - spontaneous
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging