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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 hedging for low basis stock?
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
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

2. What are the different stages 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
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) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
Demand for insurance decreases; less human capital to replace

3. What is the reinvestment caveat when considering tax loss harvesting?
Demand for life insurance decreases
Sources of wealth - measure of wealth - stage of life
- 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
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either

4. What are the different global tax regimes and their respective ordinary income tax structure?
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
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
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
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)

5. How is demand for insurance affected by risk tolerance - financial wealth - probability of death - age - and bequest desire?
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
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
- 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 will (also known as a testament)

6. Define tax drag.
The reduction in return caused by the payment of taxes
Sources of wealth - measure of wealth - 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
When a decedent leaves no will or if the will is deemed invalid

7. Investor questionnaires help to determine what?
- 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
Risk tolerance and decision-making style
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification

8. What are the two sources of wealth?
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
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) active 2) passive
A will (also known as a testament)

9. What is the general relationship between tax drag% and tax rate with accrual taxes; and as investment horizon increases and return increases?
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
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date

10. How does the nature of human capital affect the demand for life insurance?
1) Source jurisdiction = country levies taxes on all income generated within its borders - whether by citizens or foreigners 2) Residence jurisdiction = a country taxes income of its residents whether generated inside or outside the country (most pre
The more equity-like - the less the demand for life insurance
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
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances

11. What are the benefits of an IPS to the client?
High need for financial security - High need to avoid losses - Don't like to make own investment decisions - Don't trust others to make investment decisions - either - Tend to select least volatile assets - Low asset turnover - Frequently miss invest
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
Extra investment value created by effective tax management
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

12. Who is responsible for gains/losses in a taxable (accrual taxation) account?
Excess capital
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
The government shares in both gains and losses
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

13. Describe the equity holding life three stages from the perspective of the stock.
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
Extra investment value created by effective tax management
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
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

14. What are the diversification techniques for low basis stock?
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
Should use accrual-equivalent returns and after-tax risk
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
Demand for life insurance increases

15. What is core 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
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach
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 amount of assets (i.e.present value) necessary to meet all future liabilities

16. 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 reduction in return caused by the payment of taxes
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up
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

17. What are the main characteristics of the accumulation phase of life?
Income rising - assets growing - long time horizon - above-avg. ability to take risk
A positive relationship
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
- cautious - methodical - individualistic - spontaneous

18. What are the psychological issues of low basis stock held by an investor?
- 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
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either
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
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date

19. The client's risk tolerance (mostly willingness) is affected by what personal characteristics?
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
1) exhibit loss aversion rather than risk aversion 2) exhibit biased expectations rather than rational expectations 3) tend to segregate investments rather than considering them in a portfolio perspective
- 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
1) source of wealth 2) measure of wealth 3) stage of life

20. What are the equity holding life risk attributes for an executive?
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
Implied assets
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
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis

21. Any amount above core capital is considered what?
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance
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
Excess capital

22. Describe a spontaneous investor personality type.
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
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
- a subjective assessment of financial well-being based on perceived wealth
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift

23. Why do individuals often take steps to avoid probate?
It is expenseive - time consuming - public
Demand for life insurance increases
A positive relationship
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. sources of wealth
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
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
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

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

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26. What is the most common estate planning tool?
Young -Building a foundation for future wealth -above avg risk tolerance
A will (also known as a testament)
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
- a subjective assessment of financial well-being based on perceived wealth

27. What is HIFO accounting?
The more equity-like - the less the demand for life insurance
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
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. foundation 2. accumulation 3. maintenance 4. distribution

28. What are the different retirment risks and how can they be hedged?
Excess capital
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)
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
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

29. characteristics of accumulation phase
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
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
Demand for life insurance decreases
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

30. 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)
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
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
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis

31. If human capital is equity-like/fixed-income like - how should you generally allocate financial assets?
- 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
If human capital is equity-like - allocate financial assets more to fixed income - if the human capital is fixed-income like - allocate financial assets more to equities
1) 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
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

32. characteristics of methodical investor
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
Transferring assets directly to a third generation avoids possible double taxation
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis

33. What are the disadvantages of public exchange funds for low basis stock?
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
HC = PV of future labor income
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)
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis

34. What are the benefits of an IPS to the adviser?
Wealth transfer stage - focus on tax min. with trusts and foundations
Should use accrual-equivalent returns and after-tax risk
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk

35. As age increases..
Young -Building a foundation for future wealth -above avg risk tolerance
Demand for insurance decreases; less human capital to replace
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
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

36. What is another name for a variable prepaid forward and What is its main purpose?
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
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
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
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

37. When should you use a tax-exempt versus a tax-deferred account?
Income rising - assets growing - long time horizon - above-avg. ability to take risk
Young -Building a foundation for future wealth -above avg risk tolerance
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
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

38. 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
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
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized

39. What are the disadvantages of an outright sale of low basis stock?
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase

40. stages of life
Methodical - cautious - individualist - spontaneous
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. foundation 2. accumulation 3. maintenance 4. distribution
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

41. What progressive tax regimes do not have favorable treatment for interest income/dividend income/capital gains?
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
Sources of wealth - measure of wealth - stage of life
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax

42. What are the main characteristics of the distribution phase of life?
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
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
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
Wealth transfer stage - focus on tax min. with trusts and foundations

43. What are the main characteristics of the foundation phase of life?
Early career 8accumulating education - developing skills - above-average ability to take risk
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
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 decedent's estate

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

45. 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
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
Extra investment value created by effective tax management
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)

46. What is the eifference in willingness to take risk between active and passive wealth creators?
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
Extra investment value created by effective tax management
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
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk

47. What are the main characteristics of fixed annuities?

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

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49. What is loss aversion?
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
An investor focuses on gains and losses - prefer certain (riskless) gains and uncertain losses - are willing to face incerased risk to avoid losses - causes investors to exhibit risk-seeking behavior
The government shares in both gains and losses

50. 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
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one
Both increase with longer holding periods and higher returns
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