Chapter 11: Financial Advice Flashcards
What is Financial Advice?
Help given to an individual when a financial adviser considers their financial needs and recommends products to meet them.
How much financial advice does an adviser give?
They can give advice about an individual’s finances as a whole, or about on particular need they have.
What does receiving financial advice entail?
Having a face-to-face interview with an adviser, although can be received in other ways.
What must an adviser to before giving advice?
Should gather info about individual to find out their specific needs and circumstances.
Adviser then uses this info to recommend that they buy particular products; however, must only recommend products that are suitable for the individual.
Why’s it important to manage your money?
Helps you to stay on top of bills and save money each year.
What does budgeting mean to an individual?
- Less likely to end up in debt.
- Less likely to be caught out by unexpected costs.
- More likely to have a good credit rating.
- More likely to be accepted for a mortgage or loan.
- Able to spot areas where they can make savings.
- Able to save for planned spending or just for the future.
What’s the first step to taking control of finances?
Produce a budget, recording areas of income and expenditure over a period of a year.
What does a budget make clear to the individual?
- Identifies where spending can be cut back on.
- Highlights major areas of expenditure, e.g. mortgage, where shopping around could reduce costs.
- Highlights loans or money owed on credit cards, where it usually makes sense to pay off debt that charges the highest areas of interest first.
What key questions do you need to ask yourself when borrowing?
- Do you need to spend the money?
- Do you have other ways of financing the purchase?
- Can you afford to pay back the money that you’re planning to borrow?
What are the benefits of good debts?
Sensible investment in a person’s financial future - should leave them better off in long-term, and shouldn’t have negative impact on their overall financial position.
What are negatives of bad debt?
Drain their wealth, are not affordable and offer no real prospect of ‘paying for themselves’ in the future.
If someone is going to borrow money, and they’re sure they can repay it, what key factors do they need to consider?
- How much can they afford to repay each month - affects which borrowing option is best for them.
- What’s the right type of credit or loan for their situation; otherwise they could find themselves paying more than they need to.
- Interest rate and annual percentage rate (APR).
- How much will be repaid in total.
- Any penalties that nay occur for missed or late payments.
- The cost per week or per month and whether this might vary.
The type of financial protection required depends on what factors?
Number of circumstances including, e.g. requirements and available income.
What are the four main areas that might be in need of protection?
- Family and personal
- Mortgage
- Long-term care
- Business
What does the adviser explore with the client to determine what type of protection is required?
What might happen and what the consequences might be. Although no-one can predict the future, it doesn’t prevent us from considering future events and then assessing whether we’re prepared for them. These areas are serviced by a range of protection products marketed by insurance companies.
What are the different protection products?
- Critical Illness Insurance cover
- Income Protection cover
- Mortgage Payment Protection cover
- Accident and Sickness cover
- Household cover
- Long-Term care
- Business Insurance
What’s Critical Illness Insurance cover?
Designed to pay lump sum in event that a person suffers from any one of a wide range of critical illness. Illness may force an individual to give up work so could cause financial hardship.
What are some of the key features of CII policies?
- Critical illness covered will be clearly defined, illness resulting from activities such as war or civil unrest won’t be covered.
- Critical illness is usually available to those aged between 18-64 yrs and often must end before an individual’s 70th birthday. It will pay a lump sum if an individual is diagnosed with a critical illness and will normally be tax-free. The cover will then cease.
- Critical illness cover can usually be taken out on a level, decreasing or increasing cover basis and can often be combined with other cover, e.g. life cover.
What is Income protection insurance designed to do?
Designed to pay out an income benefit when a person is unable to work for a prolonged period due to sickness or incapacity. Have high use and value considering family would be able to continue to pay bills if main earner were to fall ill.
Why are premiums for income protection insurance usually expensive?
As they may need to be paid for a significant period of time.
What are some of the key features of such policies of income protection insurance?
- Circumstances under which a benefit will be payable are clearly defined. Illness/injury is referred to as ‘incapacity’ and insurance policy will define what constitutes this in relation to their occupation.
- Policy provides a regular income after a certain waiting period (deferred period - longer this is the lower the premiums). The income generally represents 50-75% of pre-tax earnings considering state benefits and the fact the income from the policy isn’t subject to tax. Payments will differ or cease on return to work.
- Once a claim is made, the insurance company may extend the deferred period or even decline the claim. The claim won’t be met if incapacity arises as a result or specific situations including, e.g. unreasonable failure to follow medical advice, alcohol or solvent abuse and intentional self-inflicted injury.
What’s the relationship between income protection and critical illness insurance cover?
They’re complementary in the cover they offer. For most people, an element of each may be required, so some insurance companies offer menu products that allow a combination of covers under one policy.
What is Mortgage Payment Protection Cover designed to do?
Designed to ensure payments that are due for a mortgage continue to be paid if the borrower is unable to work because of accident, sickness or unemployment.
Who offers Mortgage Payment Protection cover?
Available from lending institutions, as well as insurance companies, although costs need to be carefully compared. They’re designed to cover short-term problems, e.g. cover costs if an individual loses their job and until they find alternative work, rather than long-term benefits.
What are features of Mortgage Payment Protection cover?
Same basic features as other policies, plus further considerations:
* Protection provided will be on a level basis, so regular reviews are needed so that the cover reflects the payments due as mortgage interest rates change.
* Amount of benefit payable can be reduced to take account of income from other sources and there may be limits on the maximum amounts that will be paid. As a result, the amount of benefit paid may not cover the mortgage payments.
What’s Accident and Sickness cover?
Personal accident policies are generally taken out for annual periods and can provide for income or lump sum payments in the event of an accident.
Is Accident and Sickness cover expensive? What detail needs to be looked at when taking the cover?
They’re relatively inexpensive, but care needs to be taken to look in detail at the exclusions and limits that apply:
* Amount of cover may be the lower of a set amount or a maximum percentage of the individual’s gross monthly salary.
* Waiting period between when an individual becomes unable to work and when benefits start may be 30 or 60 days.
Who assesses someone’s eligibility for accident and sickness cover?
Insurance company will assess eligibility at the time of the claim and may refuse a claim as a result of pre-existing medical conditions even if they’ve been disclosed.
What are key considerations of household cover?
- Is the cover enough to pay for the complete rebuild of the home?
- To what extent are external features of a house covered, such as walls, gates, drives and pathways?
- What cover is there in case a neighbour sues you for your tree falling on their property or a similar accident?
- What is the extent of cover for personal possessions?
- Is legal cover included?
What’s household cover?
House and contents insurance.
What’s medical insurance?
Private medical insurance is intended to cover the cost of medical and hospital expenses. It may be taken out by individuals, or provided as part of an individual’s employment.
What are some key features of medical insurance?
- Costs that will be covered are usually closely defined.
- There’s limits on what will be paid out per claim, or even over a period such as a year.
- Standard care that can be dealt with by a person’s local doctor may not be included.
What’s the purpose of long-term care?
Provide funds that will be needed later in life to meet the cost of care. Need for such policy explained by cost of nursing, but its value to an individual depends on the amount of state funding for care costs that’s available.
Are long-term care premiums expensive?
Yes - reflects cost of care, and the benefit will normally be paid as an income that can be used to cover the expenditure.
What two forms can business insurance protection take?
Liability insurance (e.g. public liability insurance) and indemnity insurance.
What are some examples of business insurance?
- Providing indemnity cover for claims against the business for faulty work or goods.
- Protecting loans that have been taken out and secured against an individual’s assets.
- Providing an income of the owner is unable to work and the business ceases.
- Providing payments in the event of a key member of a business dying, to cover any impact on its profits.
- Providing money in the even of death of a major shareholder or partner so that the remaining shareholders can buy out their share and their estate can distribute the funds to their family.
What is compound interest?
Interest on interest - if you save regularly, savings add up and keep growing, because each time any interest earned on money is paid into an account it will start earning interest too.
What does the UK gov’t define the term ‘saving’ as?
Putting money aside without any risk, and usually chance to earn interest.
What are some key considerations when comparing returns on different savings accounts?
- Advertised rates don’t always represent the true rate actually earned.
- Tax treatment may vary.
- May be minimum or maximum investment amounts which may restrict usefulness of an account.
- Attractive accounts may only be available for funds that are new to that savings institution and not from existing accounts with the same firm.
- There may be penalty charges if withdrawals are made or early encashment is needed, which will reduce returns.
- High quoted returns may only last for a limited period, to be replaced by lower rates. Many top-of-the-table-rates include temporary bonuses for 3, 6 or 12 months, after which time the accounts often switch to uncompetitive rates.
What are some key considerations when comparing returns on different savings accounts?
- Advertised rates don’t always represent the true rate actually earned.
- Tax treatment may vary.
- May be minimum or maximum investment amounts which may restrict usefulness of an account.
- Attractive accounts may only be available for funds that are new to that savings institution and not from existing accounts with the same firm.
- There may be penalty charges if withdrawals are made or early encashment is needed, which will reduce returns.
- High quoted returns may only last for a limited period, to be replaced by lower rates. Many top-of-the-table-rates include temporary bonuses for 3, 6 or 12 months, after which time the accounts often switch to uncompetitive rates.
What does investing involve?
Involves committing money into an investment vehicle in the hope of making a financial gain.
Why is investing different from saving?
As it involves greater level of risk, and there’s no guarantee of you getting money back. Wide range of investment products available, inc individual savings accounts (ISAs), unit trusts, shares and bonds.
How long are investment products for?
Longer term, and generally suitable if individual already has enough cash savings to keep them going for 3 to 6 months.
Typically outperform cash savings over the longer term but, as their value can rise and fall, investors have to be prepared to take on some risk.
How are people’s demographics changing?
People are living longer due to improvements in healthcare.
What’s an issue with these changing demographics in terms of income?
To enjoy those extra years of life you’ll need a greater level of income to fund it.
What is the trend of retirement income?
Declining (becoming modestly adequate) - due to changing demographics and increasing cost of state pension.
What is Estate planning concerned with?
Making sure that a client takes appropriate steps to ensure that their accumulated wealth passes to their intended beneficiaries, and in as tax-efficient a method as possible.
Involves determining who is to inherit assets of the client and what can be done to reduce any estate taxes that will arise on client’s death.
What’s the first step in estate planning?
Assess extent of client’s assets and liabilities - property, savings, any investments or funds that would become payable if the client were to die (e.g. proceeds of any lif assurance policies or the payment of death benefits if the client is still working.
What should the assessment of client’s liabilities take into account?
Should also take into account any protection policies that may be in place to meet that liability, such as mortgage protection policy.
Clients balance sheet can then be used to direct the client to consider what 3 areas?
- Whether they need to execute power of attorney (POA) to protect their interests when they are incapable of managing their affairs.
- Whom they wish to inherit their estate, and whether there are any specific gifts they wish to make which should be expressed in a will.
- The extent of any liability to inheritance tax (IHT) that may arise, and whether action should be taken to mitigate this.
What is a will?
Legal document that specifies what is to happen to an individual’s assets on their death.
Why should a client write a will?
To ensure that the assets of their estate pass in accordance with their wishes, and should take specialist advice so that relevant laws are taken into account.
Why is a will particularly essential for families with young children?
- What happens to children if parents pass?
- Who looks after them?
- Who would invest any money until they came of age?
- What would happen if the children needed some essential expenditure?
Why is a will particularly essential for a second marriage?
Partners may wish their assets to be split in precise ways on the death of the survivor.
If overseas assets are held, where should wills be written?
Separate wills should be made in each country; generally, these should be drafted by a specialist in the jurisdiction in question.
If no will is made, who decides who inherits the estate?
When a person dies without leaving a will, they’re described as having died intestate and a set of intestacy rules will determine who is to inherit. These rules may well provide for the estate to pass in a way that the client would not have intended.
What is Tax avoidance?
Legal exploitation of the tax system to one’s own advantage, to attempt to reduce the amount of tax that’s payable by means that are within law, while making a full disclosure of the material information to tax authorities.
What is Tax evasion?
Efforts by individuals, companies, trusts and other entities to evade the payment of taxes by illegal means.
What does the term ‘tax mitigation’ refer to?
Used to refer to acceptable tax planning. Minimising tax liabilities in ways that are expressly endorsed by tax legislation.
What two systems of taxation are there?
- Worldwide
- Territorial
What is a worldwide system of taxation?
Residents of that country are taxed on their worldwide income and capital gains irrespective of where the income or gains arise. E.g. the US has a worldwide-based system of taxation.
What is a territorial-based system of taxation?
Residents are taxed only on income and capital gains arising in that country, and income and gains arising outside of that country are not liable to tax.
What do some countries do with a territorial tax system?
They adopt the territorial based tax system, however, extend the tax base of residents to include overseas income and gains, but only if such income or gain is remitted to the country of residence.
What’s a Legal Person?
An individual or an entity that is recognised as having legal rights and obligations, such as having the ability to enter into contracts, to sue, and to be sued. Entities can take many forms such as companies, partnerships and trusts.
When do individuals acquire their status as legal persons?
When they’re born, but their legal capacity to enter into contracts or otherwise exercise their rights is limited in certain circumstances.
When does an individual have the legal capacity to make their own choices and decisions?
A person who is of age and of sound mind, and so can enter into contracts providing that it’s not illegal or void for reasons of public policy.
How is individuals having legal capacity relevant for a financial services firm?
Relevance is that they can, for example, open accounts, enter into agreements and give instructions to trade with individuals they know are of age and of sound mind.
What age is known as a minor in the UK?
Under 18
What does it mean for minors enforcing a contract?
They’re able to enter into a contract, but is voidable by the minor before they reach 18 and for a short time afterwards - minor can enforce contract but terminate it if they wish subject to some exceptions.
What happens to a contract when a minor reaches 18 and ratifies a contract in some way?
It becomes legally binding on both parties.
What does it mean for minors opening up accounts?
Banks do offer accounts, but may put additional requirements in place to protect themselves.
What is power of attorney?
Legal document that authorises a person who has legal capacity to act on their behalf.
What is Ordinary Power of Attorney (OPA)?
Authorises one or more persons, known as attorneys, to make financial decisions on an individual’s behalf, or to undertake specific actions.
