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Private Wealth Management

Subjects : personal-finance, business-skills

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Answer 50 questions in 15 minutes.
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Match each statement with the correct term.
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1. 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
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
1) source of wealth 2) measure of wealth 3) stage of life
The amount of assets (i.e.present value) necessary to meet all future liabilities

2. Describe biased expectations in a behavioral finance context.
The testator
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
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
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

3. What are the different retirment risks and how can they be hedged?
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)
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
- 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

4. What is the general relationship b/t a client's perception of wealth and risk willingness?
A positive relationship
Demand for insurance decreases; less human capital to replace
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
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will

5. Human capital is sometimes referred to as what?
Sources of wealth - measure of wealth - stage of life
- 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 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
Implied assets

6. benefits of IPS to client
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
Transferring assets directly to a third generation avoids possible double taxation
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
A will (also known as a testament)

7. Any amount above core capital is considered what?
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
Extra investment value created by effective tax management
Excess capital

8. In contrast to standard finance (MPT) - behavioral finance assumes individuals do 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
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
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

9. Any amount above core capital is considered 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
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
Excess capital
1) Source jurisdiction = country levies taxes on all income generated within its borders - whether by citizens or foreigners 2) Residence jurisdiction = a country taxes income of its residents whether generated inside or outside the country (most pre

10. What is tax alpha?
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
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
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
Extra investment value created by effective tax management

11. What are the disadvantages of hedging for low basis stock?
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
1. foundation 2. accumulation 3. maintenance 4. distribution
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)

12. What are the disadvantages of completion portfolios for low basis stock?
Early career 8accumulating education - developing skills - above-average ability to take risk
- 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
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
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely

13. How does the nature of human capital affect the demand for life insurance?
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
The more equity-like - the less the demand for life insurance
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach

14. What are the four broad categories of investor personality types (BB&K)?
- cautious - methodical - individualistic - spontaneous
Transferring assets directly to a third generation avoids possible double taxation
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) 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)

15. What are the advantages of completion portfolios for low basis stock?
The demand for life insurance increases - regardless of age
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses

16. typical IPS elements
1. foundation 2. accumulation 3. maintenance 4. distribution
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
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
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

17. What is typically considered when imposing an exit tax?
- 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
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
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
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification

18. 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
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
- a subjective assessment of financial well-being based on perceived wealth
Young -Building a foundation for future wealth -above avg risk tolerance

19. What are the main types of investors?
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) 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)
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
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)

20. What are the equity holding life risk attributes for an executive?
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)
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
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
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

21. How does the nature of human capital affect the demand for life insurance?
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
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
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)
The more equity-like - the less the demand for life insurance

22. What is core capital?
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
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
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
The amount of assets (i.e.present value) necessary to meet all future liabilities

23. What are wealth taxes.
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
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 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
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk

24. benefits of IPS to manager
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
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
The more equity-like - the less the demand for life insurance
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

25. What is HIFO accounting?
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
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
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) 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

26. 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
Implied liabilities
The decedent's estate
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will

27. What are the different stages of life?
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
A will (also known as a testament)
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
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)

28. What are the disadvantages of an outright sale of low basis stock?
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance
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

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

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30. What are the main characteristics of the foundation phase of life?
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
Early career 8accumulating education - developing skills - above-average ability to take risk
- 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
Extra investment value created by effective tax management

31. What risks must be considered when discussing each concentrated investor category?
Methodical - cautious - individualist - spontaneous
1. foundation 2. accumulation 3. maintenance 4. distribution
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance

32. What are investment objectives and constraints?
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
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
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
The reduction in return caused by the payment of taxes

33. Describe an individualistic investor personality type.
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
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)
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
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification

34. Why do individuals often take steps to avoid probate?
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 more equity-like - the less the demand for life insurance
It is expenseive - time consuming - public
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

35. Describe a spontaneous investor personality type.
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
A will (also known as a testament)
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
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

36. 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
The risk of a premature death with accompanying loss of future human capital
Should use accrual-equivalent returns and after-tax risk
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up

37. Describe a methodical investor personality type.
Diligently gather the best possible investment info - tend to be conservative and - since they base decision on facts - they rarely form emotional attachments to investments - continually seek better info to confirm past investment decisions
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer taxes
Income rising - assets growing - long time horizon - above-avg. ability to take risk
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date

38. Why would an individual try to use generation skipping in estate planning?
1) credit method 2) exemption method 3) deduction method
The client's psychological profile
Transferring assets directly to a third generation avoids possible double taxation
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach

39. What are the advantages of public exchange funds for low basis stock?
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
- 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

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

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41. What is the general relationship b/t a client's perception of wealth and risk willingness?
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
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)
A positive relationship
Implied assets

42. characteristics of distribution phase
The amount of assets (i.e.present value) necessary to meet all future liabilities
Retirement -Wealth has been accumulated -Liabilities paid off -Investor looking to live off of portfolio and/or considering distributions to others -need + ability to bear risk really starts to decline
1) 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

43. What happens to both tax drag $ and tax drag % with holding period changes and return changes?
- 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
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
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
Both increase with longer holding periods and higher returns

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

45. What is the eifference in willingness to take risk between active and passive wealth creators?
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
The more equity-like - the less the demand for life insurance
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
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 reinvestment caveat when considering tax loss harvesting?
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
Wealth transfer stage - focus on tax min. with trusts and foundations
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
- 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

47. stages of life
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) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
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
1. foundation 2. accumulation 3. maintenance 4. distribution

48. Investor questionnaires help to determine what?
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
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
The demand for life insurance increases - regardless of age
Risk tolerance and decision-making style

49. What are the different methods of relief from double taxation?
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
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) credit method 2) exemption method 3) deduction method
Hedged with life insurance - think of the life insurance as a replacement for lost human capital

50. What is measure of wealth?
- a subjective assessment of financial well-being based on perceived wealth
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
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
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