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Private Wealth Management

Subjects : personal-finance, business-skills

Instructions:

Answer 50 questions in 15 minutes.
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Match each statement with the correct term.
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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 HIFO accounting?
Extra investment value created by effective tax management
The risk of a premature death with accompanying loss of future human capital
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
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

2. What is the reinvestment caveat when considering tax loss harvesting?
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
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
- 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 insurance decreases; less human capital to replace

3. Human capital is sometimes referred to as what?
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
Implied assets
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk

4. Describe a methodical investor personality type.
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one
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
Diligently gather the best possible investment info - tend to be conservative and - since they base decision on facts - they rarely form emotional attachments to investments - continually seek better info to confirm past investment decisions
If 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

5. Investor questionnaires help to determine what?
Risk tolerance and decision-making style
1) active 2) passive
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
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis

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

7. What is tax alpha?
Extra investment value created by effective tax management
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up
- 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
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax

8. What are the diffferent types of tax jurisdictions?
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
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
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
Hedged with life insurance - think of the life insurance as a replacement for lost human capital

9. Describe a methodical investor personality type.
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)
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 rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
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

10. characteristics of accumulation 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
Should use accrual-equivalent returns and after-tax risk
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 more equity-like - the less the demand for life insurance

11. Why would an individual try to use generation skipping in estate planning?
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax
- 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
Transferring assets directly to a third generation avoids possible double taxation
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

12. What are the general legal and regulatory considerations for individuals?
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
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
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

13. What are the advantages of completion portfolios for low basis stock?
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
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

14. Describe asset segregation in a behavioral finance context.
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
Sources of wealth - measure of wealth - stage of life
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
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

15. four types of investors
Methodical - cautious - individualist - spontaneous
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
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
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. All costs associated with probate are born by whom?

17. Generally - how does portfolio size - liquidity - time horizon - and/or importance of spending affect ability to tolerate risk?
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
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
The risk of a premature death with accompanying loss of future human capital
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up

18. What are the diversification techniques for low basis stock?
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
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 = as risk tolerance increases - demand for life insurance decreases
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging

19. What are the main characteristics of variable annuities?

20. As wealth increases...
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)
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
Demand for life insurance decreases
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

21. In contrast to standard finance (MPT) - behavioral finance assumes individuals do what?
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
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
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
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

22. What are the benefits of an IPS to the client?
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
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
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized

23. How is demand for insurance affected by risk tolerance - financial wealth - probability of death - age - and bequest desire?
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
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
Sources of wealth - measure of wealth - 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

24. What are the psychological issues of low basis stock held by an entrepreneur?
The amount of assets (i.e.present value) necessary to meet all future liabilities
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
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
The government shares in both gains and losses

25. benefits of IPS to manager
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
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
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

26. benefits of IPS to client
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
Taxes paid on the gain (long or short position) when an asset is sold or purchased
Excess capital
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

27. What is the general relationship b/t a client's perception of wealth and risk willingness?
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
A positive relationship
Demand for insurance decreases; less human capital to replace
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk

28. What is the difference between a deterministic approach and a monte carlo approach to portfolio construction?
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax
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

29. What are the different methods of relief from double taxation?
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
1) credit method 2) exemption method 3) deduction method
The reduction in return caused by the payment of taxes
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

30. An investor's willingness to take risk is determined by what?

31. What are the main characteristics of fixed annuities?

32. What are the main characteristics of variable annuities?

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

34. What are the advantages of an outright sale of low basis stock?
Sources of wealth - measure of wealth - stage of life
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired 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
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk

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

36. benefits of IPS to client
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
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
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
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

37. 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?
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
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
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
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

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

39. What is tax alpha?
The reduction in return caused by the payment of taxes
Extra investment value created by effective tax management
1) credit method 2) exemption method 3) deduction method
The demand for life insurance increases - regardless of age

40. characteristics of distribution phase
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
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
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
Total wealth = financial assets + human capital

41. Living expenses in retirment can be referred to as what?
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
Implied liabilities
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 2. accumulation 3. maintenance 4. distribution

42. characteristics of maintenance phase
Demand for insurance decreases; less human capital to replace
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
- cautious - methodical - individualistic - spontaneous
Demand for life insurance decreases

43. What are the different retirment risks and how can they be hedged?
Demand for insurance decreases; less human capital to replace
Income rising - assets growing - long time horizon - above-avg. ability to take 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)
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)

44. What are the different types of trusts?
The more equity-like - the less the demand for life insurance
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
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
HC = PV of future labor income

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

46. What are the disadvantages of private exchange funds for low basis stock?
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one
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
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) 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

47. What are ways that individuals can avoid probate?
Demand for life insurance increases
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
Sources of wealth - measure of wealth - stage of life
Sources of wealth - measure of wealth - stage of life

48. What is HIFO accounting?
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
Sources of wealth - measure of wealth - stage of life
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
Income rising - assets growing - long time horizon - above-avg. ability to take risk

49. Who is responsible for gains/losses in a taxable (accrual taxation) account?
The government shares in both gains and losses
1. foundation 2. accumulation 3. maintenance 4. distribution
The client's psychological profile
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

50. Describe the equity holding life three stages from the perspective of the stock.
The reduction in return caused by the payment of taxes
Implied liabilities
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
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