1 Flashcards
What is financial planning?
A collaborative process that helps maximize a client’s potential for meeting life goals through financial advice that integrates relevant elements of the client’s personal and financial circumstances.
List the 7 steps of the financial planning process.
- Understand the Client’s Personal and Financial Circumstances
- Identify and Select Goals
- Analyze the Current Course of Action and Potential Alternative Courses of Action
- Develop Recommendations
- Present the Planning Recommendations
- Implement the Plan
- Monitor Progress and Update
What is the time frame to notify the CFP Board of adverse conduct?
30 calendar days.
True or False: The more tailored the communication, the more likely it will be viewed as Financial Advice.
True.
Define ‘Engagement’ in the context of financial advice.
An oral or written agreement, arrangement, or understanding.
What is the Duty of Loyalty?
Place Client’s interests above self, disclose conflicts, and obtain consent.
What distinguishes Fee-Based from Fee-Only compensation?
Fee-Based includes any part of compensation deemed sales-related; Fee-Only has no sales-related compensation.
Name the three duties owed to clients.
- Definitional: Integrity, Competence, Professionalism
- Detailed: Provide information to client, compensation methods
- General Rule + Exceptions: Borrowing/lending money, confidentiality, privacy
What are the three categories of adverse conduct?
- Unacceptable: Felony theft/embezzlement, tax fraud, violent felony within 5 years
- Presumed to be Unacceptable: 2+ bankruptcies, felony non-violent +5 years ago
- Other Conduct that may reflect adversely: customer complaints, civil proceedings, misdemeanors
What are the four forms of discipline?
- Private Censure
- Public Letter of Admonition
- Suspension
- Revocation
What are the two general phases of the business cycle?
- Expansion
- Contraction
Define GDP.
Total market value of income and output produced by all the people and companies in the US.
What is price elasticity?
How quantity demanded changes in response to changes in price.
What is the Law of Demand?
An increase in price will decrease quantity demanded and vice versa.
Fill in the blank: Deficit spending occurs when government expenditures exceed _______.
revenues.
List the three primary tools of the Federal Reserve.
- Discount rate
- Reserve Requirement
- Open market activities
What is the Front End/Housing Cost Ratio maximum percentage?
28%.
How many months of emergency funds are recommended for a two-income household?
3 months.
What is Chapter 7 bankruptcy?
Eliminates consumer debt by having a trustee sell the debtor’s personal property.
What are the five categories of credit score?
- Payment History
- Amounts Owed/Utilization
- Length of Credit History
- New Credit
- Credit Mix
What is the maximum amount for a conventional mortgage?
Below $766,550.
What does the Emergency Fund Ratio measure?
Monetary assets divided by monthly living expenses.
What is the FAFSA?
Free Application for Federal Student Aid.
What does ‘Disability’ mean in insurance terms?
A condition that prevents a person from performing their job.
What is the Last-Month Rule regarding HSAs?
If eligible under HDHP on the first day of the last month of the tax year, you may fund HSA for the entire year.
What is the definition of ‘Peril’ in homeowners insurance?
The actual cause of loss.
What is a Personal Umbrella policy?
Extends coverage for libel and slander.
What is the purpose of the Coinsurance clause in property insurance?
To require that the dwelling is insured for at least 80% of Replacement Cost Value for a partial loss to be paid in full.
What does ‘ADLs’ stand for?
Activities of Daily Living.
What is the 1035 Exchange?
A tax-free exchange of one insurance product for another.
What is a Modified Endowment Contract (MEC)?
A cash value life policy that fails the 7-Pay test and changes the tax treatment for cash distributions.
What is the ‘House Money Effect’?
Taking more risk with gains made from prior investments.
What does ‘Mental Accounting’ refer to?
The tendency to separate money into different categories based on subjective criteria.
What is the formula for calculating ACV of damage?
((Did Have/should have) * Loss Amount) - Deductible
Will a policy pay more than the stated limit?
No, the policy will never pay more than the stated limit.
What type of damage is covered when striking an animal under a Personal Auto Policy?
Comprehensive coverage
What does a Personal Umbrella policy extend coverage for?
- Libel and slander
- Boat coverage if minimum is maintained
What are money markets?
Short term debt instruments, cash and equivalents
What are capital markets?
Trade in long-term debt and equity instruments
What is the primary market?
Initial Public Offerings (IPOs)
Which act regulates the primary market?
Securities Act of 1933
What is the secondary market?
Trading among investors
What did the Securities Act of 1934 create?
The SEC (Securities and Exchange Commission)
What is the Investment Company Act of 1940 related to?
Mutual Funds
What does the Investment Advisor Act of 1940 regulate?
Investment advisors
What does SIPC stand for and when was it established?
Securities Investor Protection Corporation, established in 1970
What year was insider trading legislation introduced?
1988
What did the Gramm-Leach-Bliley Act of 1999 repeal?
Glass-Steagall Act
What is the formula for Holding Period Return?
Profit / Cost
What does Annual Yield not account for?
Capital appreciation
What is the Time Weighted Return?
A global standard for fund performance based solely on appreciation or depreciation period to period
What is the Dollar-Weighted return?
Return specific to a client with their own cash flows
How is total risk defined?
Total Risk = Systematic Risk + Unsystematic Risk
What quantifies systematic risk?
Beta
What is Purchasing Power Risk?
Risk associated with inflation
What is Reinvestment Risk?
Risk that future cash flows will need to be reinvested at lower rates
What is Market Risk?
Risk of losses in positions arising from movements in market prices
What is the r-squared (r²) threshold for using beta?
If r² > 0.7 use beta; if r² < 0.7 use standard deviation
What factors influence an investor’s capacity for risk?
- Time horizon
- Liquidity needs
- Total investible assets
What are Junk Bonds rated?
Below BBB
What percentage of observations fall within one standard deviation?
68%
What does positively skewed distribution indicate?
A long right tail
What is Leptokurtic distribution characterized by?
More peaked than normal
What is the Efficient Market Theory?
Belief that all available information is reflected in stock prices
What does the Sharpe Ratio measure?
Risk-adjusted return
What does the Treynor Ratio use instead of standard deviation?
Beta
What does CAPM stand for?
Capital Asset Pricing Model
What does Jensen’s Alpha measure?
Performance relative to expected return based on risk
What does an upward sloping yield curve indicate?
Normal economic conditions
What is Nominal Yield?
Stated or coupon yield
What is Duration in bond valuation?
Estimates sensitivity of a bond to changes in interest rates
What happens to duration as maturity increases?
Duration increases
What is the purpose of matching the duration of a portfolio to a time horizon?
Immunizes those assets against interest rate risks
What does Yield to Worst represent?
The lower of Yield to Maturity (YTM) and Yield to Call (YTC)
What is the Multi-Stage Dividend Discount Model used for?
Valuing stocks based on expected future dividends
What is a Margin Call?
A demand by a broker for additional funds to cover potential losses
What does the Options Clearing Corporation do?
Guarantees performance of options contracts and eliminates counterparty risk
What is the Time Premium of an option?
The additional amount over intrinsic value, greatest at contract creation
What is a Covered Call?
Selling call options while owning the underlying stock
What is the risk associated with Naked Call Writing?
Unlimited risk
What is a Protective Put?
Buying a put option while owning the underlying stock
What is a Collar strategy?
Buying a put and selling a call to protect against stock price decreases
What is a Straddle in options trading?
Buying a put and call on the same stock with the same expiration date
What does Hedging involve?
Taking a position to offset potential losses in another investment
What distinguishes forwards from futures?
Forwards are not standardized and carry counterparty risk
What does NPV stand for?
Net Present Value
What is a wash sale?
Realizing a loss and acquiring a substantially identical security within 61 days
What is the tax formula for calculating taxable income?
- Income
- Minus Exclusions
- Gross Income
- Minus Deductions FOR AGI
- AGI
- Minus deductions FROM AGI
- Minus Greater of itemized deductions or the standard deduction
- Minus Qualified business income deduction
- Taxable Income
What are some common exclusions from taxable income?
- Muni Bond Interest
- Fringe Benefits
- Inheritances and Gifts
- Scholarships
- Personal Residence Sale (up to $250,000/$500,000)
What is Schedule 1 used for?
Above the line deductions to arrive at AGI
What is the limit for SALT deductions?
$10,000 limit
What is the standard deduction based on?
Client’s age and blindness status
What are refundable tax credits?
Credits that exceed liability are refunded directly to the taxpayer
What is the penalty for negligence in tax matters?
20%
What is the maximum penalty for failure to file taxes?
25% of unpaid taxes
What is the maximum number of owners for an S-Corp?
100 owners
What is a key feature of a C-Corp?
Double taxation
What is a General Partner in a partnership?
Has full control and unlimited liability
What is the FIFO method of inventory valuation?
First-In, First-Out; more realistic inventory valuation
What is the Straight Line depreciation method?
Cost divided by useful life
What does Section 179 allow?
Businesses to deduct the full cost of qualifying capital assets immediately
What is a capital asset according to the tax code?
Not including accounts or notes receivable, copyrights, inventory, or depreciable property
What are 1231 properties?
Used in trade or business and held for production of income
What is a 1031 exchange?
Like-kind exchange of business realty
What is the treatment of related party transactions?
Gains treated normally, losses not recognized until sold to an unrelated party
What is recognized gain?
Lesser of realized gain or net boot received.
Define deferred gain.
Realized gain minus recognized gain.
What is substituted basis?
FMV of qualifying property received minus the deferred gain.
Who are considered related parties in transactions?
Family and related entities if taxpayer owned 50% or more of the stock or interests.
How are gains treated in related party transactions?
Treated normally, as if sold to an unrelated party.
When are losses recognized in related party transactions?
Losses will NOT BE RECOGNIZED until the related party sells the asset to an unrelated party.
What happens to suspended losses when sold in a taxable transaction?
Used to offset gain as well as other active and portfolio income.
What qualifies for the personal use property exemption?
Can rent for 14 days or less, NOT required to report income.
What is the exclusion amount for personal residence sale under Section 121?
250k for single filers, 500k for married couples.
What are the requirements for the personal residence sale exclusion?
Must have owned and USED the property for 2 out of last 5 years.
What is the AGI limit for deducting rental real estate losses?
25k loss allowed if MAGI is equal to or less than 100k.
What is the phase-out range for rental real estate loss deduction?
From 100k to 150k AGI.
What is the maximum allowable deduction for charitable contributions of LTCG property?
May elect to value at FMV or basis.
What is the carrying over limit for contributions exceeding AGI limits?
Contributions can be carried over to each of the FIVE succeeding years.
What are the requirements for written acknowledgment for charitable contributions?
Must obtain written acknowledgment for any single contribution of $250 or more.
What is the imputed interest rule?
If taxpayer charges less than adequate rate of interest, imputed to lender.
What is the formula for calculating Alternative Minimum Tax (AMT)?
Regular taxable income + preference items + standard deduction + AMT adjustments - exemption amount.
What is the Kiddie Tax threshold for unearned income?
1300 standard deduction or earned income plus $450.
What is the maximum contribution limit for defined contribution plans?
69k limit with 345k max compensation considered in formula.
What is the maximum employer contribution rate for retirement plans?
Max deductible employer contribution is 25% of covered payroll.
What are the characteristics of a Money Purchase Pension plan?
Mandatory annual employer contributions, 100% employer funded, easy for participants to understand.
What is the special catch-up provision for Section 403b plans?
Employees with a minimum of 15 years of service can contribute an additional allowance up to 3k/year.
What is the self-employment tax rate?
15.3%, consisting of 12.4% for Social Security and 2.9% for Medicare.
What is the penalty for early withdrawal from retirement accounts?
10% penalty unless exceptions apply.
What is the 5-year rule for Roth distributions?
Applies to owners’ death, disability, first-time home purchase, or age 59.5.
What is a Rabbi Trust?
Funds safeguarded in event of merger or acquisition and not trigger immediate recognition of compensation.
What is the maximum retirement plan contribution for self-employed individuals?
First subtract ½ SE tax from net earnings and multiply by the adjusted employer plan contribution rate.
What is the requirement for inherited IRA distribution for non-spouse beneficiaries?
Subject to RMDs.
What is the goal regarding constructive receipt and current taxation?
To avoid constructive receipt and current taxation, there must be a substantial risk of forfeiture.
This is crucial for the non-recognition of income by executives until the risk is no longer present.
What is a Rabbi Trust?
A Rabbi Trust safeguards funds for executives, ensuring they are not available for corporate use and protecting them in the event of a merger or acquisition.
It does not trigger immediate recognition of compensation.
What are the tax implications of a large CVLI?
Executive owns the policy, employer pays premiums, executive pays taxes as bonus compensation, and death benefits are tax-free.
The executive also has access to cash value.
What are the three types of plans recommended regarding employer contributions and employee taxation?
- Qualified Tax-Advantaged Plan
- Non-Qualified Section 162 Bonus Plan
- Non-Qualified Deferred Compensation Plan
You cannot have all three at once.
What is the difference between NQSO and ISOs?
NQSO gives a corporate deduction when the employee pays tax at exercise, while ISOs may never grant a corporate deduction and can create AMT.
NQSO is subject to W-2 taxation, whereas ISOs have specific holding period requirements.
What are the Social Security tax rates for employees and employers?
6.2% OASDI and 1.45% Medicare, totaling 7.65% from both employee and employer up to $168,600, with 1.45% unlimited above that.
Additional Medicare tax of 0.9% applies above certain income thresholds.
What is AIME in the context of Social Security?
Average Indexed Monthly Earnings based on the 35 best years of earnings.
This figure is crucial for calculating the Primary Insurance Amount (PIA).
What is the earliest age to claim Social Security benefits?
62, but benefits are permanently reduced if claimed early.
Benefits increase by 8% per year if delayed up to age 70.
What is the maximum reduction for early retirement benefits?
30% maximum reduction.
The reduction is calculated based on the number of months prior to Full Retirement Age (FRA).
What is the taxation rule for Social Security benefits?
Up to 85% of Social Security benefits may be subject to income tax based on provisional income calculations.
Provisional income includes 50% of SS benefits, tax-exempt income, and AGI without SS.
What are the eligibility requirements for spousal Social Security benefits?
The worker must be receiving benefits, and the spouse must have been married for at least 1 year.
Former spouses can apply if divorced for more than 2 years, having been married for at least 10 years.
What is the primary purpose of Medicare Part A?
To provide hospital insurance for individuals aged 65 or older who have paid into Medicare for at least 10 years.
It includes flat co-pays for days beyond the initial coverage period.
What is the penalty for failing to take Required Minimum Distributions (RMDs) from IRAs?
A 25% penalty tax on the undistributed amount.
RMDs must start by April 1 of the year following age 73.
What is a Qualified Charitable Distribution?
A nontaxable distribution from a traditional IRA directly to an eligible charity.
Must be at least 70.5 years old on the date of distribution.
What is a Qualified Domestic Relations Order (QDRO)?
A legal order in divorce proceedings that recognizes a spouse’s right to receive a portion of the other spouse’s retirement plan benefits.
Distributions made under a QDRO are not subject to the 10% early withdrawal penalty.
What are the types of wills recognized in estate planning?
- Mutual Will
- Reciprocal Will
- Holographic Will
- Nuncupative Will
Each type has different legal implications and requirements.
What is the role of a Durable Power of Attorney (POA)?
Allows an individual to make decisions on behalf of another person, remaining effective even if the principal becomes incapacitated.
Essential for managing financial and healthcare decisions.
What is the annual gift exclusion amount?
$18,000 for present interest gifts.
Applies to gifts made to individuals without incurring gift tax.
What is the lifetime gift/estate exemption amount?
$13,610,000 for gifts and transfers at death.
Unified credit allows for a tax-free transfer up to this amount.
What are the tax implications of a step-up in basis for community property?
100% step-up to the fair market value for the surviving spouse.
This is beneficial for minimizing capital gains taxes upon sale.
What is the Generation-Skipping Transfer Tax?
Tax applied to transfers made to individuals two or more generations below the transferor.
It includes taxable distributions, taxable terminations, and direct skips.
What is the process for calculating estate tax liability?
Gross estate minus deductions equals adjusted gross estate, then subtract charitable bequests and marital deductions to determine taxable estate.
Form 706 must be filed within 9 months of the decedent’s death.
What is an irrevocable trust?
A trust that cannot be modified or revoked by the grantor after its creation.
Irrevocable trusts often provide tax benefits and asset protection.
What is a Grantor Trust?
A revocable trust where all income is taxed to the grantor.
The grantor retains control over the trust and can modify it.
What is the 65 Day Rule?
Allows fiduciaries to make distributions within 65 days of the new tax year.
This rule is important for tax planning purposes.
What is a Testamentary Trust?
A trust created through a will that is funded with assets after the grantor’s death.
It helps in managing estate taxes and ensuring proper asset distribution.
What is the Section 645 Election?
Allows the executor of an estate and the trustee of a revocable trust to treat the estate and trust as one for tax purposes.
This can simplify tax reporting.
What is Distributable Net Income (DNI)?
Represents the maximum amount that can be taxed to the beneficiaries of a trust.
It allocates taxable income between beneficiaries and the trust.
True or False: A Grantor Trust must file Form 1041.
False.
Grantor Trusts do not require Form 1041 if the grantor is taxed.
What is a GRAT?
A Grantor Retained Annuity Trust that provides fixed payments to the grantor for a specified term.
Future appreciation passes to non-charitable beneficiaries.
What is a CLAT?
A Charitable Lead Annuity Trust that pays fixed income to charity for a period, with the remainder going to non-charitable beneficiaries.
Can be inter-vivos or testamentary.
Fill in the blank: A QPRT is a ________ that holds a person’s residence and allows them to live rent-free.
Qualified Personal Residence Trust
The grantor must rent the home at fair market value or move out at the end of the term.
What does a Spousal B-Trust do?
Utilizes the decedent’s maximum unified credit and allows the surviving spouse to obtain income as needed.
Assets are not included in the surviving spouse’s estate at death.
What is a Qualified Domestic Trust (QDOT)?
A trust for non-citizen spouses that allows the estate to qualify for the marital deduction.
This is crucial for estate tax planning in mixed-nationality marriages.
True or False: Special Needs Trusts preserve eligibility for government benefits.
True.
They provide for extra services not covered by public assistance programs.
What is an ILIT?
An Irrevocable Life Insurance Trust that removes life insurance from the owner’s estate.
Must survive three years to avoid inclusion in the estate.
What is a Family Limited Partnership?
A pass-through entity consisting of family members that allows property transfer at reduced costs.
It provides income tax reduction and protection from creditors.
What is a Private Annuity?
An agreement where the buyer pays the seller for life, with no collateral required.
Payments continue even if the buyer dies before the seller.
What is the penalty for a frivolous tax return?
$5,000.
This penalty applies if the tax return is deemed to have no merit.
What is the maximum compensation considered for contribution formula?
$345,000.
This is relevant for retirement plan contributions.
What is the measure of total risk in investments?
Standard deviation.
It quantifies the volatility of investment returns.
What is the 300 deduction for educators?
A deduction for educator expenses up to $300.
This applies to eligible educators for unreimbursed expenses.
What is the waiting period for Social Security disability benefits?
5 months.
Benefits begin after this waiting period.
What is the penalty for early withdrawal from an annuity purchased before 8/14/82?
FIFO method applies for tax purposes.
This affects the tax treatment of withdrawals.
What does the Endowment Effect refer to?
The tendency to overvalue items owned, affecting negotiation decisions.
This can lead to suboptimal choices in trades or sales.
What is the tax treatment of damages received for personal physical injuries?
Excluded from income.
Only damages for physical injuries or sickness are excludable.
What happens if a client doesn’t have children regarding the GSTT?
There is a special exemption for the 37.5 rule.
This affects generation-skipping transfer taxes.
What is the penalty for a deficiency in tax payments?
20% tax penalty.
This applies to underpayment of taxes owed.
What is the maximum exclusion for educational assistance programs from an employer?
$5,250.
Amounts above this threshold are considered taxable income.
