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 happens to both tax drag $ and tax drag % with holding period changes and return changes?
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
Excess capital
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
Both increase with longer holding periods and higher returns


2. What are the main characteristics of variable annuities?

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3. What is mortality risk?
Taxes paid on the gain (long or short position) when an asset is sold or purchased
The risk of a premature death with accompanying loss of future human capital
Both increase with longer holding periods and higher returns
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


4. What are the different types of trusts?
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
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
Implied liabilities
Risk tolerance = as risk tolerance increases - demand for life insurance decreases


5. What are the problems that financial advisers can face with low basis stock?
Excess capital
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
The government shares in both gains and losses


6. How is mortality risk typically hedged?
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
The client's psychological profile
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


7. 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)
Investors begin to shift portfolios into less volatile assets -Reduced focus on accumulating additional wealth and more focus on preserving current wealth -Reduced ability to recover from market downturns -diminishing risk tolerance
Most risk 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
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


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

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9. What are the disadvantages of hedging for low basis stock?
1) credit method 2) exemption method 3) deduction method
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
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)
Risk tolerance and decision-making style


10. As age increases..
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 insurance decreases; less human capital to replace
Excess capital
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either


11. When should you use a tax-exempt versus a tax-deferred account?
Should use accrual-equivalent returns and after-tax risk
The client's psychological profile
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either


12. As probability of death increases...
The demand for life insurance increases - regardless of age
The amount of assets (i.e.present value) necessary to meet all future liabilities
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


13. What are the benefits of an IPS to the adviser?
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
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
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase


14. What are the psychological issues of low basis stock held by an entrepreneur?
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
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance
1) source of wealth 2) measure of wealth 3) stage of life


15. As desire to leave an estate increases...
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)
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer 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
Demand for life insurance increases


16. What are typical characteristics of passive recipients of wealth?
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
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


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

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18. Describe the different types of double taxation conflicts.
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
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance
Implied assets
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


19. What are the disadvantages of private exchange funds for low basis stock?
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
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
Early career 8accumulating education - developing skills - above-average ability to take risk


20. Why do individuals often take steps to avoid probate?
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
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
It is expenseive - time consuming - public
1. foundation 2. accumulation 3. maintenance 4. distribution


21. What are typical characteristics of active wealth creators?
- extrepreneurs - for example - are usually familiar with taking business risk - they are willing to take risk b/c they feel they control their business and personal circumstances
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
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
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


22. situational profiling - considerations
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
Demand for life insurance increases
The amount of assets (i.e.present value) necessary to meet all future liabilities
Sources of wealth - measure of wealth - stage of life


23. What are the disadvantages of completion portfolios for low basis stock?
Risk tolerance and decision-making style
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
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


24. What are the advantages of private exchange funds for low basis stock?
- 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
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
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
The decedent's estate


25. characteristics of distribution phase
Demand for life insurance decreases
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
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
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


26. Equation for total wealth.
- cautious - methodical - individualistic - spontaneous
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
Total wealth = financial assets + human capital


27. characteristics of cautious investor

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

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29. What is another name for a variable prepaid forward and What is its main purpose?
1) credit method 2) exemption method 3) deduction method
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
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
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification


30. What is measure of wealth?
1) source of wealth 2) measure of wealth 3) stage of life
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
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
- a subjective assessment of financial well-being based on perceived wealth


31. What are the equity holding life risk attributes for an executive?
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
Implied assets
Should use accrual-equivalent returns and after-tax risk
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)


32. 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
Income rising - assets growing - long time horizon - above-avg. ability to take risk
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
- if 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


33. What are the main characteristics of variable annuities?

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34. 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
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
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
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax


35. What are the equity holding life risk attributes for an executive?
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
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
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool


36. As probability of death increases...
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
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
Demand for life insurance decreases


37. What are typical characteristics of active wealth creators?
- extrepreneurs - for example - are usually familiar with taking business risk - they are willing to take risk b/c they feel they control their business and personal circumstances
- the higher in the ranks - the more the executive acts like an entrepreneur - the more control = the more attached the executie is to the firm
- a subjective assessment of financial well-being based on perceived wealth
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized


38. situational profiling

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39. 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
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
Wealth transfer stage - focus on tax min. with trusts and foundations
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)


40. 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
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
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
When a decedent leaves no will or if the will is deemed invalid


41. What is the person called that transfers assets through a will?
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
The testator
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
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis


42. What are the benefits of an IPS to the client?
1) Traders (all gains short term) 2) Active investors (less churn - some gains taxed at reduced rates) 3) Passive investor (buy and hold - most gains are deferred) 4) Exempt investors (no investment taxes)
1) active 2) passive
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
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


43. What are the diffferent types of tax jurisdictions?
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
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 decedent's estate
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses


44. What are the advantages of public exchange funds for low basis stock?
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
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
Wealth transfer stage - focus on tax min. with trusts and foundations
A positive relationship


45. template for return objective
1) active 2) passive
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
Sources of wealth - measure of wealth - stage of life
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


46. What is the eifference in willingness to take risk between active and passive wealth creators?
A will (also known as a testament)
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
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


47. What are the psychological issues of low basis stock held by an executive?
- 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
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
Decisions should be optimal -process is dynamic - thus factors in changing circumstances -focus on long-term objectives -new investment advisors should be able to use the IPS
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


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

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49. How does the nature of human capital affect the demand for life insurance?
The more equity-like - the less the demand for life insurance
Excess capital
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
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date


50. What is measure of wealth?
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
- a subjective assessment of financial well-being based on perceived wealth
A will (also known as a testament)
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