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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. Generally - how does portfolio size - liquidity - time horizon - and/or importance of spending affect ability to tolerate risk?
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
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
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses


2. What is the most common estate planning tool?
A will (also known as a testament)
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)
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 decedent's estate


3. What is typically considered when imposing an exit tax?
Methodical - cautious - individualist - spontaneous
Extra investment value created by effective tax management
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
- 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


4. 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
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up
The client's psychological profile
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances


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

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6. What are the advantages of an outright sale of low basis stock?
Should use accrual-equivalent returns and after-tax 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
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification


7. What is human capital?
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
The reduction in return caused by the payment of taxes
HC = PV of future labor income


8. What is tax alpha?
Extra investment value created by effective tax management
1) Source jurisdiction = country levies taxes on all income generated within its borders - whether by citizens or foreigners 2) Residence jurisdiction = a country taxes income of its residents whether generated inside or outside the country (most pre
The more equity-like - the less the demand for life insurance
Sources of wealth - measure of wealth - stage of life


9. What are the problems that financial advisers can face with low basis stock?
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
The government shares in both gains and losses
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n


10. How is mortality risk typically hedged?
Sources of wealth - measure of wealth - stage of life
Demand for life insurance decreases
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
Demand for insurance decreases; less human capital to replace


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

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12. What are the different global tax regimes and their respective ordinary income tax structure?
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
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
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) 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)


13. What are the problems that financial advisers can face with low basis stock?
- 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
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
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
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


14. Generally - how does portfolio size - liquidity - time horizon - and/or importance of spending affect ability to tolerate risk?
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
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
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up
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


15. The client's risk tolerance (mostly willingness) is affected by what personal characteristics?
Demand for insurance decreases; less human capital to replace
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
The amount of assets (i.e.present value) necessary to meet all future liabilities
1) source of wealth 2) measure of wealth 3) stage of life


16. benefits of IPS to client
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
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 higher in the ranks - the more the executive acts like an entrepreneur - the more control = the more attached the executie is to the firm
Sources of wealth - measure of wealth - stage of life


17. stages of life
The testator
Wealth transfer stage - focus on tax min. with trusts and foundations
1. foundation 2. accumulation 3. maintenance 4. distribution
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


18. What are the main characteristics of chritable gifts?
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
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
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
Extra investment value created by effective tax management


19. What are the main characteristics of the accumulation phase of life?
Wealth transfer stage - focus on tax min. with trusts and foundations
Income rising - assets growing - long time horizon - above-avg. ability to take risk
1) active 2) passive
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


20. What are the different stages of life?
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
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
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
The client's psychological profile


21. Describe biased expectations in a behavioral finance context.
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
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
Demand for life insurance increases


22. When should you use a tax-exempt versus a tax-deferred account?
Wealth transfer stage - focus on tax min. with trusts and foundations
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
Payments are based on the performance of a mixed-asset class portfolio selected by the investor (client) - investor receives a fixed number of 'units' each period - value of each unit increases (decreases) during periods of rising (falling) market re
Demand for life insurance decreases


23. Describe a spontaneous investor personality type.
Transferring assets directly to a third generation avoids possible double taxation
1. foundation 2. accumulation 3. maintenance 4. distribution
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
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


24. 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
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
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
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized


25. How does the nature of human capital affect the demand for life insurance?
The more equity-like - the less the demand for life insurance
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
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
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


26. What are the different stages of life?
- 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 phase 2) accumulation phase 3) maintenance phase 4) distribution phase
The government shares in both gains and losses
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


27. Calculating the required return component is driven by what 2 elements?
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach
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
Total wealth = financial assets + human capital
Implied liabilities


28. situational profiling - considerations
Sources of wealth - measure of wealth - stage of life
The testator
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique 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


29. situational profiling

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30. As wealth increases...
Demand for life insurance decreases
Deterministic = use point estimates to generate a forecasted value such as an expected return or terminal value Monte Carlo = use probability distributions of inputs to generate expected returns with accompanying probability distributions
- 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
Demand for life insurance increases


31. What is the general relationship between tax drag% and tax rate with accrual taxes; and as investment horizon increases and return 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
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) Entrepreneur - large position in 1 private stock 2) Executive - large position in 1 public stock 3) Investor - large positions in 1 successful public stock
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase


32. How is demand for insurance affected by risk tolerance - financial wealth - probability of death - age - and bequest desire?
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
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
The reduction in return caused by the payment of taxes
Risk tolerance = as risk tolerance increases - demand for life insurance decreases


33. Describe a spontaneous investor personality type.
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)
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)
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
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today


34. What are the different types of trusts?
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
When a decedent leaves no will or if the will is deemed invalid
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale


35. Any amount above core capital is considered what?
Excess capital
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
Demand for life insurance increases
Young -Building a foundation for future wealth -above avg risk tolerance


36. What are the disadvantages of an outright sale of low basis stock?
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
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
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
Demand for life insurance increases


37. What are the advantages of completion portfolios for low basis stock?
Excess capital
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)
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses


38. template for return objective
Income rising - assets growing - long time horizon - above-avg. ability to take 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
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today


39. What is core capital?
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
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
Implied assets
The amount of assets (i.e.present value) necessary to meet all future liabilities


40. What is an equity collar? What is the purpose of the underlying positions
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
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
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance
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


41. What are the disadvantages of public exchange funds for low basis stock?
The client's psychological profile
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
1) exhibit loss aversion rather than risk aversion 2) exhibit biased expectations rather than rational expectations 3) tend to segregate investments rather than considering them in a portfolio perspective
Single 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


42. When should you use a tax-exempt versus a tax-deferred account?
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
The reduction in return caused by the payment of taxes
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either


43. What are the main characteristics of fixed annuities?

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44. As probability of death increases...
Income rising - assets growing - long time horizon - above-avg. ability to take risk
The demand for life insurance increases - regardless of age
The reduction in return caused by the payment of taxes
A will (also known as a testament)


45. As wealth increases...
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
Demand for life insurance decreases
Extra investment value created by effective tax management
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool


46. What is the general relationship b/t a client's perception of wealth and risk willingness?
Demand for insurance decreases; less human capital to replace
A positive relationship
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
The decedent's estate


47. What are typical characteristics of passive recipients of wealth?
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
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
The amount of assets (i.e.present value) necessary to meet all future liabilities
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


48. In contrast to standard finance (MPT) - behavioral finance assumes individuals do what?
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
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
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. As probability of death 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
The demand for life insurance increases - regardless of age
The risk of a premature death with accompanying loss of future human capital
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)


50. What are the main characteristics of fixed annuities?

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