Financial Planning Process Flashcards
Methods to value a business
- Book Value
Uses balance sheet
book value assets- book value liabilities = net worth of business - Capitalization of Income
Projected flow of income converted to PV
Income/Capitalization rate (given) = Capitalized Value
Pro Forma Statement
projects the expected results over the next year for business
estimates excess income over expenses
like a budget
Emergency Fund
3 months married jt income
6 months single or single income (alimony, trust income, very wealthy)
can consist of: checking (current months expenses must be subtracted from value) gov money market CD's < 90 days laddered CD's < 6 months savings accounts
Emergency fund ratio (EFR) = liquid assets ÷ nondiscretionary monthly expenses
Current Ratio
Current Ratio= Current Assets/Current Liabilities
Ability to meet short term obligations 1 or higher is good
(always use credit card debt even if paid off monthly)
(only use taxes when material says “taxes due” or “taxes payable”
(mortgage if say current amount due)
current assets can be converted to cash in 1yr or less
Housing Cost Ratio
aka Housing Expense Ratio (PITI)
Principal interest, taxes, insurance/ gross monthly income
< or = 28%
Debt to Income Ratio
Consumer and housing debt/ gross monthly income
< or = 36%
Consumer Debt Ratio
non housing monthly payments (no PITI) / NET monthly income
(not gross income like other ratios)
< or = 20%
Savings Ratio
Savings per Yr/ Gross Income
5-8% increasing with age
Behavioral Finance Stages
Denial
Ambivalence - use charts, graphs and spreadsheets to teach consequences for behavior)
Preparation
Action
Banks
Establishment that performs financial transactions like receiving, investing and lending money.
3 federal agencies oversee
1. Comptroller of Currency (fed and national banks)
(state banks are subject to authority in that state)
2. Federal Reserve
3. Federal Deposit Insurance Corp (FDIC)
Savings and loan (S&L or Thrift)
Acquire funds through time deposits
Regulated by FDIC and Federal Home Bank Board
FDIC - Deposit Insurance Fund
Coverage depends on titling
$250,000 per titling not account
Trust $250,000 per bene unless trustee can direct funds elsewhere
Negotiable CD’s
marketable deposit
holder receives deposit plus interest at maturity
can be sold before maturity
Credit Union
non profit financial organization
members have common affiliation
National Credit Union Insurance Fund (like FDIC)
most do not offer commercial loans
Insurance Companies
Mechanism for risk sharing and risk transfer
also:
underwriting, rate making, reinsurance, investing, claims adjusting.
regulated by the state
Regulation of insurance Companies
3 branches of State Gov:
- maintain solvency
- protect policyholders
- maintain competition
- assure coverage is avail to all who want it
regulate licensing, policy forms, rebating, insolvencies and liquidation, competence, reserves, twisting and access
Federal - COBRA/HIPPA, Standardization of Medicare Policy, Taxation
Securities Act 1933
Purchasers of New Issues need to be provided a prospectus. Full and Fair disclosure
Securities Act 1934
Provides regulation of secondary market trading.
Created SEC to enforce securities law.
Investment Company Act 1940
Authorized by SEC to regulate (through FINRA):
Unit Investment Trusts (UIT)
Investment companies (closed end and open end)
Variable Life Insurance
Securities Investor Protection Act 1970
Established SIPC insurance
limited protection against failure of brokerage firms
Trust companies
Regulated by the State
Organization that acts as trustee, fiduciary or agent for individuals.
Engage in fiduciary investment management, estate planning, administration, stock registration and transfer, etc..
Can be named as executor or representative in will
Inflation Adjusted Rate
((After tax rate/Inflation rate)-1)x 100
Example
((1.09/1.06)-1)x100= 2.8302%
Home Sale Exclusion
Married $500,000
Single $250,000
Alimony
Deductible by payor
Taxable to Payee
Can’t file joint tax return or live together
Can’t be used in place of child support
End at recipient spouse death or when court mandated
No transfers of non cash items, services, property or use of property, or promissory notes
Payments to maintain property owned (PITI) by payor and used by payee are not alimony i.e Mortgage unless owned by payee.
Premium Payments of life insurance owned by payee and payee is bene- on life of payor are alimony if made under divorce decree. Payor can’t own!
Tuition and rent pursuant to divorce decree qualify
Child Support
Not deductible by Payor
Not taxable to Payee
Payments that continue after occurrence or contingency tied to a child end are not child support
example: $1000 mo until child is 18 then $400. $400 is alimony.
Divorce Property Settlements
Gift tax free
Basis is carried over
Dependency Exemption after Divorce
Awarded to custodial parent or parent having custody longer. More than 1/2 support from parent unless divorce decree says otherwise.
Disability Insurance Options
Disability Insurance Policy (employer or private) Long Term Care Ins SSI Disability Worker Compensation Medicare/Medicaid
Compensatory Damages
Generally tax free
Discrimination award-taxable
Damages up to medical cost for emotional distress is tax-free
Nothing vague like headaches or stomach disorders. Need details of auto accident to prove comensatory
Punitive Damages
Taxable
punish wrongdoing
wrongful death-tax free
Prizes and Awards
full value included in gross income
if annuity is over 10 years or more then taxable as recieved
Long Term vs Short Term Debt
Long term - all non-consumer and auto debt; i.e. Home equity, mortgage
Short term- auto loan, line of credit, credit card balance
Collateralized…something backing it…home, car, business
Buying vs Renting
Buying
Advantages - higher marginal tax bracket, tax deduction, cap gains on sale over exemption
Disadvantages- Down payment, closing costs, PITI, utilities, maintenance.
Renting
Advantages - Rent is lower than mortgage; favor shorter time periods; no closing costs, lower maintenance and utilities
Disadvantages- security deposit, no ultimate ownership
FHA Loan
Guaranteed by government but not originated by gov. If borrower defaults FHA makes good on the loan.
Typically lower income borrowers who lack sufficient down payment.
VA loan - similar but for veterans (less stringent than traditional mortgage)
Qualified Residence Interest Deduction
Home indebtedness $1M
Home Equity Indebtedness $100K
interest over indebtedness limit is not deductible
1/2 if married filing seperately
Refinancing
Consider: length of time will remain in home and cash flow.
Reverse Mortgage
Accessing equity in home until death, event or conclusion of term.
Nursing home - not a barrier under $500,000.
Is sold to satisfy reverse mortgage-remaining cash proceeds are barrier.
If distributed as annuity may be consider income for SSI
Better to do line of credit
Rules:
- 62 or older
- no income qualifications
- property is re-titled and can still live there as long as needed
- No mortgage payments during life of loan(can still have mortgage)
- Tax free proceeds
- Amt depends on age, value, interest rates, reverse mortgage selected
- No repaid until move out of home
- Repayment can’t exceed home value
- Any remaining equity distributed to homeowner or estate
Registered Investment Advisor
Investment Advisor Act 1940 <100M Assets Register in state office of domicile May need to register in several states Registers with ADV $150min Records kept 5 years
Definition: All 3
Person who provides Advice
Is in the Business of providing advice
Provides advice for Compensation
Exceptions:
Bank
Lawyer, Engineer, Teacher, Accountant - incidental
Broker dealer- incidental to broker dealer business- no compensation
Publisher - newspaper
Advice in Gov securities
Exemptions: intrastate adviser - unlisted securities insurance companies family office venture capital funds Foreign advisers outside US
Family Office
Advice only to family members (trusts and charities)
Wholly controlled by family
Does not hold itself out as advisor
FINRA Must be notified in writing…..
Must be notified in writing PROMPTLY if firm or advisor:
- violated securities law
- written customer complaint -theft, misappropriation or forgery
- defendant or respondent in any lawsuit alleging violation of Securities Act by regulatory authority
- indicted, convicted, or pleads guilty to criminal offense.
Contract
Agreement between 2 or more parties
Offer and acceptance
Consideration (something of value)
Principal must have legal capacity to execute
can’t be incompetent or intoxicated (can be voided by incompetent party)
minors (food, shelter and clothing only)
can’t be illegal
If does not meet above it is void
Chapter 11
Chapter 11 -Those that don’t qualify for chapter 13
Chapter 13
Chapter 13- Reorganization-payments are reduced. Creditors can’t harass, usually not required to relinquish assets
Chapter 7 Exemptions
Chapter 7- NOT 13 or 11 - can claim federal or state exemptions
33 States have opted out
State Law exemptions:
- Homestead (house adjacent to land)
- Limited amount personal property
- Wages due to head of family-providing more than 1/2 support to child
- Limited equity in MV
- ERISA plans
- Cash value life ins/proceeds annuity
- Disability benefits/unemployment/workers comp
- Property held TIE
Federal Exemptions
-Civil Service retirement benefits/ railroad pensions/ veterans benefits.
Bankruptcy
Not canceled by bankruptcy:
- student/government loans
- 3years back taxes
- Wage withholding FICA and income taxes
- Child support/alimony
Chapter 7
Mean Test- Average monthly (60months) net income >10,000 Chapter 7 not an option
Average monthly (60months) net income <6000 chapter 7 not allowed
completed consumer credit counseling w/in 6 months
Must provide: tax returns detailed earning projections Retirement account info ESA and 529 - can be protected if opened for 2 years
SEP/SIMPLE/ERISA/DC generally protected
Traditional and Roth Exempt to 1M
Unlimited Rollover Exemption
IRA’s not exempt if exceeds debtors need
