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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 are the disadvantages of private exchange funds for low basis stock?
Income rising - assets growing - long time horizon - above-avg. ability to take risk
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
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
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk

2. What are the different retirment risks and how can they be hedged?
The testator
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 demand for life insurance increases - regardless of age
1) active 2) passive

3. Who is responsible for gains/losses in a taxable (accrual taxation) account?
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
The government shares in both gains and losses
Implied assets
Demand for insurance decreases; less human capital to replace

4. What is human capital?
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
HC = PV of future labor income
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

5. Describe the equity holding life three stages from the perspective of the stock.
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)
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
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
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

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

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7. What are the disadvantages of an outright sale of low basis stock?
Methodical - cautious - individualist - spontaneous
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
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)
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

8. What is the eifference in willingness to take risk between active and passive wealth creators?
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up
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) source of wealth 2) measure of wealth 3) 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

9. template for return objective
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
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
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
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

10. Describe a spontaneous investor personality type.
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
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
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
Young -Building a foundation for future wealth -above avg risk tolerance

11. 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
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
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
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

12. situational profiling

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13. Describe biased expectations in a behavioral finance context.
The more equity-like - the less the demand for life insurance
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
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
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

14. What is the reinvestment caveat when considering tax loss harvesting?
- 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
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
Retirement -Wealth has been accumulated -Liabilities paid off -Investor looking to live off of portfolio and/or considering distributions to others -need + ability to bear risk really starts to decline
The testator

15. characteristics of distribution phase
Transferring assets directly to a third generation avoids possible double taxation
The testator
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
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

16. What is human capital?
HC = PV of future labor income
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
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase

17. characteristics of methodical investor
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
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
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

18. What are the equity holding life risk attributes for an entrepreneur?
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
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
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
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

19. What is loss aversion?
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
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
1) source of wealth 2) measure of wealth 3) stage of life
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

20. As probability of death increases...
The demand for life insurance increases - regardless of age
Implied liabilities
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
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)

21. What are the disadvantages of completion portfolios for low basis stock?
Implied assets
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
It is expenseive - time consuming - public
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely

22. What are the main characteristics of fixed annuities?

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23. What are the different global tax regimes and their respective ordinary income tax structure?
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
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)
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
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

24. stages of life
1. foundation 2. accumulation 3. maintenance 4. distribution
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
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
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

25. What are the different types of trusts?
Income rising - assets growing - long time horizon - above-avg. ability to take risk
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
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely

26. What are the advantages of an outright sale of low basis stock?
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
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
Income rising - assets growing - long time horizon - above-avg. ability to take risk
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

27. What are the main characteristics of the distribution phase of life?
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
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
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
Wealth transfer stage - focus on tax min. with trusts and foundations

28. If human capital is equity-like/fixed-income like - how should you generally allocate financial assets?
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
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 risk of a premature death with accompanying loss of future human capital

29. What are the equity holding life risk attributes for an entrepreneur?
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
A will (also known as a testament)
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
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

30. 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?
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
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification

31. 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
The risk of a premature death with accompanying loss of future human capital
Excess capital
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely

32. What are the different global tax regimes and their respective ordinary income tax structure?
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) 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)
Income rising - assets growing - long time horizon - above-avg. ability to take risk
1. foundation 2. accumulation 3. maintenance 4. distribution

33. What is mortality risk?
- 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
Taxes paid on the gain (long or short position) when an asset is sold or purchased
1) active 2) passive
The risk of a premature death with accompanying loss of future human capital

34. What are the benefits of an IPS to the client?
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
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
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)
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

35. What are typical characteristics of active wealth creators?
HC = PV of future labor income
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
- 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
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

36. Describe an individualistic investor personality type.
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) 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)
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
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n

37. What is HIFO accounting?
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) growing the portfolio (capital gains) 2) liquidity needs - total return approach
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
Demand for insurance decreases; less human capital to replace

38. What is the most common estate planning tool?
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
A will (also known as a testament)
- 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 positive relationship

39. What are the diversification techniques for low basis stock?
It is expenseive - time consuming - public
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
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
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax

40. Describe the different types of double taxation conflicts.
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
The decedent's estate
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
Taxes paid on the gain (long or short position) when an asset is sold or purchased

41. typical IPS elements
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
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) credit method 2) exemption method 3) deduction method

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

43. What are the advantages of public exchange funds for low basis stock?
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely

44. What is typically considered when imposing an exit tax?
Demand for life insurance decreases
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
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
- 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

45. Describe a cautious investor personality type.
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
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
Demand for life insurance increases
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift

46. What are the main characteristics of the foundation phase of life?
The client's psychological profile
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
Income rising - assets growing - long time horizon - above-avg. ability to take risk
Early career 8accumulating education - developing skills - above-average ability to take risk

47. Why would someone want to use a valuation discount?
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
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
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes

48. What are wealth taxes.
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) 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)
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification

49. What are the disadvantages of hedging for low basis stock?
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) credit method 2) exemption method 3) deduction method
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
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)

50. Why do individuals often take steps to avoid probate?
Implied assets
It is expenseive - time consuming - public
Young -Building a foundation for future wealth -above avg risk tolerance
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible