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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 is another name for a variable prepaid forward and What is its main purpose?
Immediate diersification - ability to borrow (monetize) - at end of partnership receive proportional share of pool
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
Wealth transfer stage - focus on tax min. with trusts and foundations
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today

2. What are the main characteristics of the distribution phase of life?
Valuation discounts can reduce the value of wealth transfers - so high net worth indiiduals utilize them whenever possible to minimize transfer 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
1) credit method 2) exemption method 3) deduction method
Wealth transfer stage - focus on tax min. with trusts and foundations

3. Describe asset segregation in a behavioral finance context.
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
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 reduction in return caused by the payment of taxes
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

4. What happens to both tax drag $ and tax drag % with holding period changes and return changes?
Both increase with longer holding periods and higher returns
Transferring assets directly to a third generation avoids possible double taxation
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances
Taxes paid on the gain (long or short position) when an asset is sold or purchased

5. What are the advantages of hedging for low basis stock?
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
Both increase with longer holding periods and higher returns
Demand for life insurance increases
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)

6. What are the different methods of relief from double taxation?
1) credit method 2) exemption method 3) deduction method
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
Wealth transfer stage - focus on tax min. with trusts and foundations
1. foundation 2. accumulation 3. maintenance 4. distribution

7. Describe biased expectations in a behavioral finance context.
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance
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
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
Must have a very large portfolio or be willing to borrow - may take a long time to diversifiy completely

8. Why would an individual try to use generation skipping in estate planning?
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
A will (also known as a testament)
Transferring assets directly to a third generation avoids possible double taxation
- a subjective assessment of financial well-being based on perceived wealth

9. What are the diffferent types of tax jurisdictions?
Total wealth = financial assets + human 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
- 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 = as risk tolerance increases - demand for life insurance decreases

10. How does the nature of human capital affect the demand for life insurance?
Excess capital
The more equity-like - the less the demand for life insurance
1) revocable trust = the settlor can rescind the trust and resume ownership of the assets 2) irrevocable trust = the settlor relinquishes ownership and control 3) fixed trust = pattern of distributions to the beneficiaris is predetermined by the sett
Demand for insurance decreases; less human capital to replace

11. What is the general relationship between tax drag% and tax rate with accrual taxes; and as investment horizon increases and return increases?
Hedged with life insurance - think of the life insurance as a replacement for lost human capital
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)
- 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

12. characteristics of spontaneous investor

13. What is the person called that transfers assets through a will?
Upside potential of hedged position limited - regulatory risk (avoid constructive sale - some risk exposure required)
Demand for life insurance increases
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 testator

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

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

16. 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
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
Young -Building a foundation for future wealth -above avg risk tolerance
Transferring assets directly to a third generation avoids possible double taxation

17. As age increases..
Required = critical financial objectives (e.g. living expenses - kids' college expenses) Desired = objectives the client would like to meet (e.g. - large bequests to family or charity - early retirement)
1) source of wealth 2) measure of wealth 3) stage of life
To earn a total ______-tax __________ return of ______% covering: -expense 1 -expense 2 -expense n
Demand for insurance decreases; less human capital to replace

18. What is the most common estate planning tool?
The decedent's estate
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 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
A will (also known as a testament)

19. When dealing with low basis stock - emotional issues can arise from what?
Relies on hard facts -decisions tend to be conservative in nature -more risk averse -thinking/analysis
- 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
Client is a foundign family member - the firm still bears the family name - the shares were acquired by a loved one
When a decedent leaves no will or if the will is deemed invalid

20. What are the psychological issues of low basis stock held by an investor?
Sources of wealth - measure of wealth - stage of life
- does not ordinarily exhibit the same attachments to the firm as an entrepreneur or top executive - does not have any degree of control either
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
Should use accrual-equivalent returns and after-tax risk

21. The client's risk tolerance (mostly willingness) is affected by what personal characteristics?
The client's psychological profile
1) source of wealth 2) measure of wealth 3) stage of life
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
The testator

22. benefits of IPS to manager
A positive relationship
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
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)
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase

23. Why would an individual try to use generation skipping in estate planning?
When a decedent leaves no will or if the will is deemed invalid
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
Transferring assets directly to a third generation avoids possible double taxation
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)

24. What are the main characteristics of chritable gifts?
HC = PV of future labor income
- gifts to charitable organizations are not taxed - donor is allowed to take a tax deduction in the amount of the gift
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
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

25. What are the different stages of life?
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
Implied liabilities
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
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

26. What are the problems that financial advisers can face with low basis stock?
1) Taxes - outright sale produces large capital gains taxes 2) Psychological factors - client might have emotional attachment or not care about diversification
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale
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
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

27. When calculating a required return - you typically must identify what?
A will (also known as a testament)
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up
1) source of wealth 2) measure of wealth 3) stage of life
Number of years to retirement/death - investable assets - annual liquidity requirement - specific amount (if any) needed at a future date

28. Define capital gains taxes.
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
Taxes paid on the gain (long or short position) when an asset is sold or purchased
Implied liabilities
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

29. Describe a cautious investor personality type.
Aka - unbalanced collar - forward sale of shares with an agreed delivery date in exchange for cash today
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 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
Triggers tax on unrealized capital gains - requires liquidity - shares must be publicly traded or have low restrictions on sale

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

31. What are typical characteristics of passive recipients of wealth?
1) source of wealth 2) measure of wealth 3) stage of life
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 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
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

32. What are the general legal and regulatory considerations for individuals?
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
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
Implied assets
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

33. characteristics of individualist investor
Transferring assets directly to a third generation avoids possible double taxation
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)
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
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 equity holding life risk attributes for an executive?
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
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

35. Define tax drag.
Sources of wealth - measure of wealth - stage of life
The reduction in return caused by the payment of taxes
The more equity-like - the less 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

36. What are the psychological issues of low basis stock held by an executive?
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
Young -Building a foundation for future wealth -above avg risk tolerance
- 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

37. Human capital is sometimes referred to as what?
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) credit method 2) exemption method 3) deduction method
1) outright sale 2) exhcange funds (public or priate) 3) completion portfolios 4) hedging
Implied assets

38. 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?
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
Self confident - Gather information from a wide variety of sources to make their own decisions - Willing to take risk
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
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

39. What is intestate?
When a decedent leaves no will or if the will is deemed invalid
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)
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)
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

40. Generally - how does portfolio size - liquidity - time horizon - and/or importance of spending affect ability to tolerate risk?
Portfolio size incr. = ability up - Liquidity needs up = ability down - Time horizon up = ability up - Spending importance down = ability up
The decedent's estate
Risk tolerance = as risk tolerance increases - demand for life insurance decreases
Wealth transfer stage - focus on tax min. with trusts and foundations

41. What is typically considered when imposing an exit tax?
Wealth attained through inheritance - windfalls - long steady employment - etc. - might have less experience and less understanding of risk/return - might require investment education
- 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
Income rising - assets growing - long time horizon - above-avg. ability 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

42. Human capital is sometimes referred to as what?
1) foundation phase 2) accumulation phase 3) maintenance phase 4) distribution phase
- tax drag% > tax rate - as investment horizon increases - tax drag $ and tax drage % increase - as investment return increases - tax drag $ and tax drag % increase
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
Implied assets

43. situational profiling - considerations
Sources of wealth - measure of wealth - stage of life
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) 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
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

44. What should an investor use in mean-variance optimization
1) credit method 2) exemption method 3) deduction method
Should use accrual-equivalent returns and after-tax risk
Extra investment value created by effective tax management
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

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

46. What are the main characteristics of fixed annuities?

47. What are the main characteristics of the maintenance phase of life?
Retired - focus on lifestyle maintenance and security - preservation of wealth - shortening time horizon and declining risk tolerance
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
- a subjective assessment of financial well-being based on perceived wealth
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

48. Living expenses in retirment can be referred to as what?
Should use accrual-equivalent returns and after-tax risk
Early career 8accumulating education - developing skills - above-average ability to take risk
Implied liabilities
Excess capital

49. The client's risk tolerance (mostly willingness) is affected by what personal characteristics?
Demand for life insurance decreases
1) source of wealth 2) measure of wealth 3) stage of life
Joint ownership with rights of survivorship - living trusts - retirement plans - life insurance - other means that transfer assets without the need for a will
- 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 investment objectives and constraints?
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) Entrepreneur - large position in 1 private stock 2) Executive - large position in 1 public stock 3) Investor - large positions in 1 successful public stock
Can be implemented quickly - can facilitate low cost borrowing (to monetize) - borrowing costs may be tax-deductible
Objectives = required return; risk tolerance - Constraints = time horizon - tax concerns; liquidity needs - legal/regulatory; unique circumstances