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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 psychological issues of low basis stock held by an executive?
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either
- 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
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)
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up

2. What is tax alpha?
When a decedent leaves no will or if the will is deemed invalid
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
Extra investment value created by effective tax management
Demand for life insurance decreases

3. What are the different stages of life?
Transferring assets directly to a third generation avoids possible double taxation
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
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
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase

4. What is another name for a variable prepaid forward and What is its main purpose?
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
Both increase with longer holding periods and higher returns
HC = PV of future labor income

5. What are typical characteristics of passive recipients of wealth?
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
The risk of a premature death with accompanying loss of future human capital
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)

6. Who is responsible for gains/losses in a taxable (accrual taxation) account?
Sources of wealth - measure of wealth - stage 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
The government shares in both gains and losses
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

7. What is mortality risk?
The decedent's estate
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
The risk of a premature death with accompanying loss of future human capital
Demand for insurance decreases; less human capital to replace

8. What are the advantages of private exchange funds for low basis stock?
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
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
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
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

9. Equation for total wealth.
Total wealth = financial assets + human capital
1) credit method 2) exemption method 3) deduction method
The risk of a premature death with accompanying loss of future human capital
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

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

11. sources of wealth
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) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education

12. If human capital is equity-like/fixed-income like - how should you generally allocate financial assets?
HC = PV of future labor income
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
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
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

13. What are the diffferent types of tax jurisdictions?
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) 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
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
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

14. Investor questionnaires help to determine what?
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
Risk tolerance and decision-making style
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 reduction in return caused by the payment of taxes

15. What is the general relationship between tax drag% and tax rate with accrual taxes; and as investment horizon increases and return increases?
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
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
Should use accrual-equivalent returns and after-tax risk
It is expenseive - time consuming - public

16. What is core capital?
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
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
The amount of assets (i.e.present value) necessary to meet all future liabilities
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification

17. What are the advantages of the monte carlo approach to portfolio construction?
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
A will (also known as a testament)
Demand for life insurance decreases
Single publicly traded mature company stock or vested options - greater appetite for specific risk due to higher degree of control - less residual risk - b/c the firm is more mature - less liquidity risk - but may have restrictions - desires tax effi

18. 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
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
Excess capital
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

19. The client's risk tolerance (mostly willingness) is affected by what personal characteristics?
The government shares in both gains and losses
1) source of wealth 2) measure of wealth 3) stage of life
The more equity-like - the less the demand for life insurance
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale

20. characteristics of spontaneous investor

21. What is mortality 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
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
The risk of a premature death with accompanying loss of future 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

22. What progressive tax regimes do not have favorable treatment for interest income/dividend income/capital gains?
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
The client's psychological profile
- a subjective assessment of financial well-being based on perceived wealth
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax

23. What are the different stages of life?
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
The amount of assets (i.e.present value) necessary to meet all future liabilities
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

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

25. What are the advantages of hedging for low basis stock?
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
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
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)
- 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

26. What are the disadvantages of hedging for low basis stock?
- 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
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
- 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
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

27. characteristics of methodical investor
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
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
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible

28. Any amount above core capital is considered what?
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
Excess capital
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
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. When dealing with low basis stock - emotional issues can arise from what?
The risk of a premature death with accompanying loss of future human capital
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one
The reduction in return caused by the payment of taxes
Risk tolerance and decision-making style

30. What are typical characteristics of active wealth creators?
1. foundation 2. accumulation 3. maintenance 4. distribution
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
- 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

31. 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
A will (also known as a testament)
Income rising - assets growing - long time horizon - above-avg. ability to take risk
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education

32. What is core capital?
The amount of assets (i.e.present value) necessary to meet all future liabilities
Demand for life insurance decreases
The client's psychological profile
- if you sell a security to harvest its loss and then reinvest the proceeds in a very similar security - the selling price fo the old security becomes the tax basis for the new security - in that case - the loss harvest only delays the payment of t

33. What are the general legal and regulatory considerations for individuals?
- 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 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
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
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

34. Why do individuals often take steps to avoid probate?
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
Sources of wealth - measure of wealth - stage of life
It is expenseive - time consuming - public
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses

35. Calculating the required return component is driven by what 2 elements?
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach
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
Methodical - cautious - individualist - spontaneous
1) active 2) passive

36. benefits of IPS to manager
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
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
- 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
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

37. What are the advantages of hedging for low basis stock?
The government shares in both gains and losses
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)
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
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

38. What are the disadvantages of hedging for low basis stock?
When a decedent leaves no will or if the will is deemed invalid
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely
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
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)

39. What are the advantages of completion portfolios for low basis stock?
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
- 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
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses
1) credit method 2) exemption method 3) deduction method

40. stages of life
1. foundation 2. accumulation 3. maintenance 4. distribution
The client's psychological profile
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
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance

41. What are the advantages of an outright sale of low basis stock?
Methodical - cautious - individualist - spontaneous
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
Extra investment value created by effective tax management
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach

42. 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
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either
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
- 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

43. situational profiling - considerations
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
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
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
Sources of wealth - measure of wealth - stage of life

44. Why would an individual try to use generation skipping in estate planning?
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
Transferring assets directly to a third generation avoids possible double taxation
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
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk

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

46. characteristics of maintenance phase
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
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
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) active 2) passive

47. When should you use a tax-exempt versus a tax-deferred account?
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)
The demand for life insurance increases - regardless of age
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
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either

48. What is the general relationship b/t a client's perception of wealth and risk willingness?
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
A positive relationship
The amount of assets (i.e.present value) necessary to meet all future liabilities
- cautious - methodical - individualistic - spontaneous

49. What are the different global tax regimes and their respective ordinary income tax structure?
Demand for insurance decreases; less human capital to replace
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
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)
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education

50. What are the equity holding life risk attributes for an investor?
Methodical - cautious - individualist - spontaneous
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
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