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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 advantages of an outright sale of low basis stock?
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance
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
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification

2. What is another name for a variable prepaid forward and What is its main purpose?
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
1) source of wealth 2) measure of wealth 3) stage of life
Implied assets
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today

3. As wealth increases...
Demand for life insurance decreases
Forced heirship rules (children have the right to parents' estate) - community property rights (each spouse has right to 1/2 the estate) - separate property rights (each spouse's estate considered separately)
1. foundation 2. accumulation 3. maintenance 4. distribution
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

4. What are the different types of trusts?
Risk tolerance and decision-making style
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
Transferring assets directly to a third generation avoids possible double taxation
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

5. What are the psychological issues of low basis stock held by an executive?
The government shares in both gains and losses
- 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
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
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)

6. What are the main characteristics of the accumulation phase of life?
Income rising - assets growing - long time horizon - above-avg. ability to take 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
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
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool

7. What are the problems that financial advisers can face with low basis stock?
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax
Deterministic = use point estimates to generate a forecasted value such as an expected return or terminal value Monte Carlo = use probability distributions of inputs to generate expected returns with accompanying probability distributions
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification

8. benefits of IPS to manager
- 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
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
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
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

9. If human capital is equity-like/fixed-income like - how should you generally allocate financial assets?
Wealth transfer stage - focus on tax min. with trusts and foundations
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
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
Sources of wealth - measure of wealth - stage of life

10. stages of life
1. foundation 2. accumulation 3. maintenance 4. distribution
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
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

11. When dealing with low basis stock - emotional issues can arise from what?
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one
Wealth transfer stage - focus on tax min. with trusts and foundations
Demand for insurance decreases; less human capital to replace

12. What is measure of wealth?
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
- a subjective assessment of financial well-being based on perceived wealth
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) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)

13. As desire to leave an estate increases...
- a subjective assessment of financial well-being based on perceived wealth
Demand for life insurance increases
Income rising - assets growing - long time horizon - above-avg. ability to take risk
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)

14. What are the diffferent types of tax jurisdictions?
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either
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
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) 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

15. What is the general relationship b/t a client's perception of wealth and risk willingness?
A positive relationship
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)
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
HC = PV of future labor income

16. characteristics of maintenance phase
1) source of wealth 2) measure of wealth 3) stage of life
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
Should use accrual-equivalent returns and after-tax 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

17. template for return objective
The more equity-like - the less the demand for life insurance
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 reduction in return caused by the payment of taxes
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n

18. What are the diversification techniques for low basis stock?
A positive relationship
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging

19. Why do individuals often take steps to avoid probate?
Simple and quick - removes all residual risk - allows reinvestment of proceeds to achieve desired diversification
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
It is expenseive - time consuming - public
1) source of wealth 2) measure of wealth 3) stage of life

20. Any amount above core capital is considered what?
Excess capital
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
- 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
The risk of a premature death with accompanying loss of future human capital

21. What is the general relationship b/t a client's perception of wealth and risk willingness?
A positive relationship
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory risk)
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. As probability of death increases...
A positive relationship
- a subjective assessment of financial well-being based on perceived wealth
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
The demand for life insurance increases - regardless of age

23. What are the psychological issues of low basis stock held by an investor?
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
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
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
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either

24. What are the disadvantages of private exchange funds for low basis stock?
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
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
The decedent's estate

25. characteristics of methodical investor
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
Total wealth = financial assets + human capital
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
It is expenseive - time consuming - public

26. Describe the different types of double taxation conflicts.
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
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
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

27. If human capital is equity-like/fixed-income like - how should you generally allocate financial assets?
Income rising - assets growing - long time horizon - above-avg. ability to take risk
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)
Total wealth = financial assets + human 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

28. What is core capital?
The amount of assets (i.e.present value) necessary to meet all future liabilities
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
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
Sources of wealth - measure of wealth - stage of life

29. Describe asset segregation in a behavioral finance context.
The government shares in both gains and losses
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
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
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

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)
- 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. foundation 2. accumulation 3. maintenance 4. distribution
The decedent's estate

31. What are wealth taxes.
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
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
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
Risk tolerance = as risk tolerance increases - demand for life insurance decreases

32. 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?
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
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
- 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
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

33. 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
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
When a decedent leaves no will or if the will is deemed invalid
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification

34. What are the disadvantages of public exchange funds for low basis stock?
The government shares in both gains and losses
The risk of a premature death with accompanying loss of future human capital
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
Achieves diversification slowly over time - capital gains taxes avoided to extent of matching gains and harvesting losses

35. What are the benefits of an IPS to the adviser?
Depends on the investor's goals and time horizon and the volatility the portfolio can bear b/f those goals are jeopardized
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
When a decedent leaves no will or if the will is deemed invalid
Can be used for clarification if questions areise about specific invesetment decisions - should outline a process for dispute resolution

36. What are the two sources of wealth?
1) active 2) passive
- 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
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances

37. What progressive tax regimes do not have favorable treatment for interest income/dividend income/capital gains?
1. foundation 2. accumulation 3. maintenance 4. distribution
Implied assets
- 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
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax

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

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39. Who is responsible for gains/losses in a taxable (accrual taxation) account?
Tax rate lower today = use tax-exempt - tax rate lower in future = use tax deferred - not expected to change = use either
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
The government shares in both gains and losses
1) growing the portfolio (capital gains) 2) liquidity needs - total return approach

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

41. characteristics of spontaneous investor

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42. What are the different stages of life?
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
Sources of wealth - measure of wealth - stage of life
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

43. What is the difference between a deterministic approach and a monte carlo approach to portfolio construction?
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
Extra investment value created by effective tax management
Transferring assets directly to a third generation avoids possible double taxation
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

44. characteristics of maintenance phase
1) active 2) passive
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
A positive relationship
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax

45. typical IPS elements
1) specific risk (unsystematic risk) 2) market risk (systematic risk) 3) residual risk (counterparty risk and regulatory 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
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
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

46. Human capital is sometimes referred to as what?
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
Total wealth = financial assets + human capital
Implied assets
The testator

47. 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
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
INTEREST = heavy interest tax; light capital gain tax DVIDIDEND = heavy capital gain tax; light capital gain tax CAPITAL GAIN = heavy capital gain tax
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely

48. characteristics of accumulation 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
The client's psychological profile
Methodical - cautious - individualist - spontaneous
Risk tolerance = as risk tolerance increases - demand for life insurance decreases

49. When calculating a required return - you typically must identify what?
The risk of a premature death with accompanying loss of future human capital
Should use accrual-equivalent returns and after-tax risk
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date
- 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

50. What are the disadvantages of private exchange funds for low basis stock?
Lock up period (7-10 yrs) - must hold >20% illiquid assets - lack of control (no changes - manager determines asset mix) - original cost basis
The amount of assets (i.e.present value) necessary to meet all future liabilities
Must partner with an outside - unrelated investor - lock up period - taxesdeferred but not avoided - potential regulatory (IRS) risk
HC = PV of future labor income