AF5 Practise Test 2 Flashcards
Apr 2019
- Identify the additional information that you would require to enable you to
assess the suitability of Tom’s and Sally’s existing pension arrangements to meet
their retirement objectives.
(14)
CLIENTS’ FINANCIAL OBJECTIVES
You have now been able to determine from the information in the fact-find that your clients
have the following financial objectives:
Immediate objectives
* To review the suitability of Tom and Sally’s current savings and investments.
* To establish a strategy to protect the long-term financial security of Tom’s business.
* To mitigate Tom’s current Income Tax liabilities.
Longer-term objectives
* To ensure they are able to generate sufficient income in retirement.
* To construct a long-term investment strategy to meet all of their objectives.
* To evaluate the benefits of purchasing a buy-to-let property.
Model answer for Question 1
- Target retirement date and income/capital required.
- Inflation rates.
- State Pension forecasts/BR19.
- Identify/purchase voluntary National Insurance contributions for Sally.
- Expected growth rates/fund performance/projections.
- Asset allocation/fund choice.
- Any guaranteed/protected benefits under deferred schemes.
- Charges.
- Amount of additional employer contributions for Tom.
- Contribution history for Tom/carry forward available.
- Willingness to maximise pension contributions for Sally/£3,600 maximum.
- Future earnings for Tom/Sally.
- Capacity for Loss/other assets.
- When do they plan to repay mortgage/date?
- In respect of Tom and Sally’s pension arrangements:
(a) Identify twelve benefits for Tom and his company if his employer pension
contributions are increased.
(12)
CLIENTS’ FINANCIAL OBJECTIVES
You have now been able to determine from the information in the fact-find that your clients
have the following financial objectives:
Immediate objectives
* To review the suitability of Tom and Sally’s current savings and investments.
* To establish a strategy to protect the long-term financial security of Tom’s business.
* To mitigate Tom’s current Income Tax liabilities.
Longer-term objectives
* To ensure they are able to generate sufficient income in retirement.
* To construct a long-term investment strategy to meet all of their objectives.
* To evaluate the benefits of purchasing a buy-to-let property.
Model answer for Question 2 (a)
Benefits:
* Builds up pension savings/greater pension commencement lump sum (PCLS).
* No Capital Gains Tax/Income Tax within fund/tax-efficient growth.
* Income tax-efficient death benefits.
* Inheritance Tax (IHT) efficient as they are not married/only asset Sally can receive IHT
free.
* Nominations in place for Sally.
* Not a P11D benefit/not taxable on Tom.
* Tax-free extraction of profit from company.
* Higher Carry Forward available.
* Reduced Corporation Tax/allowable business expense.
* National Insurance contribution (NIC’s) saving.
* Employer contributions not limited by income.
* In Trust so protected against bankruptcy.
- In respect of Tom and Sally’s pension arrangements:
(b) Explain in detail to Tom and Sally why it may not be suitable to use Tom’s
two existing personal pension plans as a vehicle to repay their mortgage.
(10)
CLIENTS’ FINANCIAL OBJECTIVES
You have now been able to determine from the information in the fact-find that your clients
have the following financial objectives:
Immediate objectives
* To review the suitability of Tom and Sally’s current savings and investments.
* To establish a strategy to protect the long-term financial security of Tom’s business.
* To mitigate Tom’s current Income Tax liabilities.
Longer-term objectives
* To ensure they are able to generate sufficient income in retirement.
* To construct a long-term investment strategy to meet all of their objectives.
* To evaluate the benefits of purchasing a buy-to-let property.
Model answer for Question 2 (b)
Candidates would have gained full marks for any ten of the following:
- Cannot access until age 55/57 at earliest/based on proposed changes to legislation.
- Mortgage due to be repaid at age 56/2027.
- Only 25% PCLS available so £1,400,000 pot needed to repay.
- PCLS/pensions will not be enough to repay £350,000 mortgage/£268,275* max due
*to current lifetime allowance (£1,073,100). - Investment risk.
- Reduced pension benefits in retirement.
- Reduces flexibility of income if all PCLS used/cannot use uncrystallised funds pension
lump sum (UFPLS)/phased. - Withdrawals in excess of PCLS are taxable at Tom’s marginal rate.
- More interest paid over term/mortgage term extended.
- Reduction in flexible/Income tax-efficient death benefits.
- Loss of Inheritance Tax efficient fund.*
*Lifetime Allowance is due to be abolished in April 2024. Candidates should note that this
question is based on legislation in force in April 2019.
- In respect of Tom and Sally’s pension arrangements:
(a) Identify twelve benefits for Tom and his company if his employer pension
contributions are increased. (12)
(b) Explain in detail to Tom and Sally why it may not be suitable to use Tom’s
two existing personal pension plans as a vehicle to repay their mortgage. (10)
(c) Recommend and justify the actions that Sally should take to ensure that
she can maximise her income in retirement in respect of her:
(i) State Pension entitlement.
(7)
CLIENTS’ FINANCIAL OBJECTIVES
You have now been able to determine from the information in the fact-find that your clients
have the following financial objectives:
Immediate objectives
* To review the suitability of Tom and Sally’s current savings and investments.
* To establish a strategy to protect the long-term financial security of Tom’s business.
* To mitigate Tom’s current Income Tax liabilities.
Longer-term objectives
* To ensure they are able to generate sufficient income in retirement.
* To construct a long-term investment strategy to meet all of their objectives.
* To evaluate the benefits of purchasing a buy-to-let property.
Model answer for Question 2 (c) (i)
- Obtain State Pension forecast/BR19.
- To identify shortfall in National Insurance record/any home responsibilities/
needs 35 years. - Voluntary Class 3 NICs/purchase additional years/buy back.
- Can go back up to six years.
- Make ongoing voluntary Class 3 contributions.
- Class 3 is affordable for Sally/value for money.
- Provides guaranteed and index-linked income in retirement.
- In respect of Tom and Sally’s pension arrangements:
(c) Recommend and justify the actions that Sally should take to ensure that
she can maximise her income in retirement in respect of her:
(ii) Existing personal pension plan.
(9)
CLIENTS’ FINANCIAL OBJECTIVES
You have now been able to determine from the information in the fact-find that your clients
have the following financial objectives:
Immediate objectives
* To review the suitability of Tom and Sally’s current savings and investments.
* To establish a strategy to protect the long-term financial security of Tom’s business.
* To mitigate Tom’s current Income Tax liabilities.
Longer-term objectives
* To ensure they are able to generate sufficient income in retirement.
* To construct a long-term investment strategy to meet all of their objectives.
* To evaluate the benefits of purchasing a buy-to-let property.
Model answer for Question 2 (c) (ii)
- Contribute maximum £3,600 per annum/£2,880 per annum.
- She is a non-taxpayer/she has no earned income.
- Switch existing funds for growth/equities.
- Current funds do not match attitude to risk.
- Review past performance.
- Review charges.
- Any guaranteed benefits?
- Transfer to alternative provider if uncompetitive/poor performance/better fund
choice etc. - Ongoing reviews.
- In respect of Tom and Sally’s current savings and investments:
(a) Explain in detail to Tom and Sally why Tom’s existing Corporate Bond
holdings may not be suitable to meet their long-term objectives.
(11)
CLIENTS’ FINANCIAL OBJECTIVES
You have now been able to determine from the information in the fact-find that your clients
have the following financial objectives:
Immediate objectives
* To review the suitability of Tom and Sally’s current savings and investments.
* To establish a strategy to protect the long-term financial security of Tom’s business.
* To mitigate Tom’s current Income Tax liabilities.
Longer-term objectives
* To ensure they are able to generate sufficient income in retirement.
* To construct a long-term investment strategy to meet all of their objectives.
* To evaluate the benefits of purchasing a buy-to-let property.
Model answer for Question 3 (a)
- Limited growth potential/main return is from income.
- Inflation risk/credit risk.
- Likely rise in interest rates will lead to;
- reduced capital value.
- Lack of asset class diversification.
- Limited global exposure/lack of geographical diversification/UK only.
- Does not match attitude to risk.
- Not held in ISA.
- 20% Capital Gains Tax (CGT) on sale.
- 40% tax on income.
- Not using Sally’s lower rates of tax/her personal savings allowance.
- In respect of Tom and Sally’s current savings and investments:
(b) Outline the process you would follow to enable you to review the
performance of Tom and Sally’s existing stocks and shares ISAs.
(12)
CLIENTS’ FINANCIAL OBJECTIVES
You have now been able to determine from the information in the fact-find that your clients
have the following financial objectives:
Immediate objectives
* To review the suitability of Tom and Sally’s current savings and investments.
* To establish a strategy to protect the long-term financial security of Tom’s business.
* To mitigate Tom’s current Income Tax liabilities.
Longer-term objectives
* To ensure they are able to generate sufficient income in retirement.
* To construct a long-term investment strategy to meet all of their objectives.
* To evaluate the benefits of purchasing a buy-to-let property.
Model answer for Question 3 (b)
- Letter of authority/obtain plan details.
- Confirm date of purchase.
- Base cost/any further investments/withdrawals/fund switches.
- Identify reinvested income.
- Calculate gain/performance history.
- Assess asset allocation.
- Identify suitable benchmark.
- Identify Alpha/compare against benchmark.
- Review charges.
- Comparison with risk-free return/risk adjusted return.
- Review volatility/risk rating of fund.
- Assess funds against attitude to risk/capacity for loss.
- In respect of Tom and Sally’s current savings and investments:
(c) Identify the factors that you would take into consideration when
constructing an investment portfolio to enable Tom and Sally to repay
their mortgage when it matures.
(11)
CLIENTS’ FINANCIAL OBJECTIVES
You have now been able to determine from the information in the fact-find that your clients
have the following financial objectives:
Immediate objectives
* To review the suitability of Tom and Sally’s current savings and investments.
* To establish a strategy to protect the long-term financial security of Tom’s business.
* To mitigate Tom’s current Income Tax liabilities.
Longer-term objectives
* To ensure they are able to generate sufficient income in retirement.
* To construct a long-term investment strategy to meet all of their objectives.
* To evaluate the benefits of purchasing a buy-to-let property.
Model answer for Question 3 (c)
Candidates would have gained full marks for any eleven of the following:
- Mortgage matures in 2027.
- Existing funds already earmarked/ISAs/Unit Trust/PCLS.
- Affordability/budget/planned expenditure.
- They have an adventurous attitude to risk/capacity for loss.
- Charges/early redemption penalties.
- Growth required/growth assumptions.
- Pound cost averaging/monthly investment.
- Tax efficiency/use of ISA and pension allowances.
- Use of Sally’s lower tax status/hold investments in Sally’s name.
- Use of different asset classes/geographical.
- They have sufficient life cover/no need for additional life cover.
- Is mortgage interest rate fixed or variable?/future interest rate expectations/cost of
repayment mortgage.
- In respect of Tom’s company:
(a) Explain in detail to Tom how a key person protection policy could be set up and used to protect his company in the event of serious illness or death of the sales manager at Lincoln Specialist Paints Ltd.
(10)
CLIENTS’ FINANCIAL OBJECTIVES
You have now been able to determine from the information in the fact-find that your clients
have the following financial objectives:
Immediate objectives
* To review the suitability of Tom and Sally’s current savings and investments.
* To establish a strategy to protect the long-term financial security of Tom’s business.
* To mitigate Tom’s current Income Tax liabilities.
Longer-term objectives
* To ensure they are able to generate sufficient income in retirement.
* To construct a long-term investment strategy to meet all of their objectives.
* To evaluate the benefits of purchasing a buy-to-let property.
Model answer for Question 4 (a)
- Life cover and critical illness cover.
- Calculate their value to the company/Identify appropriate sum assured/loss of
profits/multiple of salary. - Term to planned retirement age/five year/renewable.
- Indexation/guaranteed premiums.
- Key person is underwritten.
- Company is the policyholder and pays premiums.
- Key person is the life assured.
- Premiums may be an allowable business expense.
- Policy pays proceeds to the company/for benefit of business.
- In respect of Tom’s company:
(b) Identify five drawbacks for Tom and his company of setting up the key
person protection policy.
(5)
CLIENTS’ FINANCIAL OBJECTIVES
You have now been able to determine from the information in the fact-find that your clients
have the following financial objectives:
Immediate objectives
* To review the suitability of Tom and Sally’s current savings and investments.
* To establish a strategy to protect the long-term financial security of Tom’s business.
* To mitigate Tom’s current Income Tax liabilities.
Longer-term objectives
* To ensure they are able to generate sufficient income in retirement.
* To construct a long-term investment strategy to meet all of their objectives.
* To evaluate the benefits of purchasing a buy-to-let property.
Model answer for Question 4 (b)
Drawbacks:
* Cost of premiums.
* Key person may have medical conditions/policy may be rated/underwriting
restrictions.
* Lump sum will be taxed to Corporation Tax/trading receipt.
* Lump sum may be insufficient/key person may become more valuable/change in
company circumstances/key person may leave.
* Policy has no surrender value/no claim = loss of premiums.
- Explain in detail to Tom how he could use an Enterprise Investment Scheme to potentially mitigate his Income Tax liability and state the long-term benefits of using such a scheme.
(14)
CLIENTS’ FINANCIAL OBJECTIVES
You have now been able to determine from the information in the fact-find that your clients
have the following financial objectives:
Immediate objectives
* To review the suitability of Tom and Sally’s current savings and investments.
* To establish a strategy to protect the long-term financial security of Tom’s business.
* To mitigate Tom’s current Income Tax liabilities.
Longer-term objectives
* To ensure they are able to generate sufficient income in retirement.
* To construct a long-term investment strategy to meet all of their objectives.
* To evaluate the benefits of purchasing a buy-to-let property.
Model answer for Question 5
- 30% Income Tax Relief on contributions;
- Tax Relief limited to total income tax paid in the tax year.
- Tom has £8,000 tax bill so invest up to £26,666 to mitigate.
- Must be held for three years for Income Tax;
- otherwise tax relief is clawed back.
- Can carry back contribution to previous tax year.
- Tom is likely to have a tax bill from previous tax year.
- Losses on encashment can be set against Income Tax.
- CGT deferral available on investment/reinvestment relief.
- CGT deferral available for gains made in previous three tax years/following tax year.
- CGT free if held for three years.
- Business Relief/Inheritance Tax relief available if held for two years/must hold on death.
- High risk investment suits his attitude to risk/he has sufficient capacity for loss.
- Diversification/growth potential.
- Tom and Sally are considering the purchase of a buy-to-let property.
(a) Recommend and justify a suitable and tax-efficient strategy to enable Tom and Sally to purchase a buy-to-let property, minimising the use of their existing savings and investments. Candidates should assume that Tom and Sally do not re-mortgage their main residence.
(12)
CLIENTS’ FINANCIAL OBJECTIVES
You have now been able to determine from the information in the fact-find that your clients
have the following financial objectives:
Immediate objectives
* To review the suitability of Tom and Sally’s current savings and investments.
* To establish a strategy to protect the long-term financial security of Tom’s business.
* To mitigate Tom’s current Income Tax liabilities.
Longer-term objectives
* To ensure they are able to generate sufficient income in retirement.
* To construct a long-term investment strategy to meet all of their objectives.
* To evaluate the benefits of purchasing a buy-to-let property.
Model answer for Question 6 (a)
- Use cash as liquid asset for deposit/use Unit trust as does not match attitude to risk.
- No market timing for deposit/tax issues for cash/limited volatility in Corporate
Bonds/Unit trust not tax-efficient. - Use (buy-to-let) mortgage on interest-only basis.
- Interest rates currently low.
- Rental income can be used to repay capital/interest.
- Make full use of annual ISA/pension allowances;
- provides tax-efficient growth (to repay lump sums from mortgage).
- Purchase property as joint tenants/as unmarried.
- Tom would be taxed at 40%/higher rate tax on rental income.
- 20% tax credit on mortgage interest payments.
- Sally has unused personal allowance/reduces tax on rental income.
- Can use two CGT exemptions in future/buy in Sally’s name as non-taxpayer.
- Tom and Sally are considering the purchase of a buy-to-let property.
(b) Identify six benefits for Tom and Sally of purchasing a buy-to-let property.
(6)
CLIENTS’ FINANCIAL OBJECTIVES
You have now been able to determine from the information in the fact-find that your clients
have the following financial objectives:
Immediate objectives
* To review the suitability of Tom and Sally’s current savings and investments.
* To establish a strategy to protect the long-term financial security of Tom’s business.
* To mitigate Tom’s current Income Tax liabilities.
Longer-term objectives
* To ensure they are able to generate sufficient income in retirement.
* To construct a long-term investment strategy to meet all of their objectives.
* To evaluate the benefits of purchasing a buy-to-let property.
Model answer for Question 6 (b)
- Potential for capital growth/property normally keeps pace with inflation/real asset.
- Diversification.
- Rental income can be used to repay capital/interest.
- Can use rental income to supplement pension income.
- Tax-efficient for Sally.
- Provides accommodation for Hannah at university.
- (a) Explain to Tom and Sally how their assets will be distributed and treated for Inheritance Tax purposes in the event of either death before they complete their Wills. No calculations are required.
(12)
CLIENTS’ FINANCIAL OBJECTIVES
You have now been able to determine from the information in the fact-find that your clients
have the following financial objectives:
Immediate objectives
* To review the suitability of Tom and Sally’s current savings and investments.
* To establish a strategy to protect the long-term financial security of Tom’s business.
* To mitigate Tom’s current Income Tax liabilities.
Longer-term objectives
* To ensure they are able to generate sufficient income in retirement.
* To construct a long-term investment strategy to meet all of their objectives.
* To evaluate the benefits of purchasing a buy-to-let property.
Model answer for Question 7 (a)
- Rules of intestacy apply.
- They are unmarried.
- Sally/Tom has no legal right to each other’s assets.
- Assets held jointly will pass to survivor.
- Sally can claim financial dependency on Tom if he dies.
- No guarantee that Sally receives any monies from Court.
- Hannah is sole beneficiary under rules of intestacy.
- Life policy will pay proceeds to survivor.
- Inheritance Tax would be due on first death if estate exceeds £325,000/no Residence
Nil Rate Band (RNRB)/no transferable Nil Rate Band. - Pensions should pass to survivor as nominations in place.
- Shares in business may pass to Hannah/depends on Articles of Association.
- No Additional Permitted Subscription (APS) on ISA/no Continuing ISA.
- (b) Outline how setting up Wills would improve the financial situation of the survivor in the event of death of either Tom or Sally.
(8)
CLIENTS’ FINANCIAL OBJECTIVES
You have now been able to determine from the information in the fact-find that your clients
have the following financial objectives:
Immediate objectives
* To review the suitability of Tom and Sally’s current savings and investments.
* To establish a strategy to protect the long-term financial security of Tom’s business.
* To mitigate Tom’s current Income Tax liabilities.
Longer-term objectives
* To ensure they are able to generate sufficient income in retirement.
* To construct a long-term investment strategy to meet all of their objectives.
* To evaluate the benefits of purchasing a buy-to-let property.
Model answer for Question 7 (b)
- Avoids time delays due to intestacy/laws of intestacy do not apply.
- Reduces cost/no administrative stress/simplicity.
- Guaranteed destination of assets.
- Survivor would be worse off/protects Sally as she has limited income/assets.
- Protects Tom’s company/protects Sally’s interest in company.
- Assets pass to surviving partner then to Hannah on second death.
- Establish Will Trust.
- Enables future tax-efficiency.
- State seven factors you should consider when reviewing Tom and Sally’s mortgage repayment strategy for their main residence at your next annual review. Candidates should assume that there have been no changes to their
personal circumstances since the last review.
(7)
CLIENTS’ FINANCIAL OBJECTIVES
You have now been able to determine from the information in the fact-find that your clients
have the following financial objectives:
Immediate objectives
* To review the suitability of Tom and Sally’s current savings and investments.
* To establish a strategy to protect the long-term financial security of Tom’s business.
* To mitigate Tom’s current Income Tax liabilities.
Longer-term objectives
* To ensure they are able to generate sufficient income in retirement.
* To construct a long-term investment strategy to meet all of their objectives.
* To evaluate the benefits of purchasing a buy-to-let property.
Model answer for Question 8
* Change in income/capital needs/ new money available/strength of Tom’s business/
affordability.
* Current level of mortgage/any capital repayments made/early repayment charges.
* Current interest rate on mortgage/still competitive.
* Fund values/performance/rates/rebalancing/attitude to risk/capacity for loss.
* Shortfall based on expected growth/on target to repay.
* Use of tax allowances.
* New products available/legislation/taxation/economic conditions.
