Financial Statements and Analysis (Lesson 5) Flashcards
What are financial statements used for
as a scoring mechanism for capturing and analyzing an individuals financial position and performance
Financial statements include:
- Balance sheet
- Income and Expense statement
What is a balance sheet
A snapshot of account balances at a moment in time. (As of December 31, 20XX)
CD <= 12 Months is considered
Cash
CD >= 12 Months is considered
Invested assets
All assets are stated at what value on a Balance sheet
FMV
What are the three categories of assets on a balance sheet
- Cash and Cash Equivalents
- Invested assets
- Personal Use assets
What value are liabilities stated at
principal outstanding
Liabilities are classified as either
- Current liabilities
- Long Term liabilities
Net worth is the
difference between assets and liabilities
A statement of income and expenses (statement of cash flows) is
a listing of income, savings, expenses, and taxes
Expenses are both
Variable and fixed
Statement of cash flows presents income and expenses over
a period of time. For the year of 20XX
A statement of cash flows does not
- Consider an employers contributions to retirement plans
- Capture and report the giving or receiving of gifts or inheritances
A financial statement of analysis gives us insight to
a clients strengths and weaknesses
Financial statement analysis allows the CFP to answer questions related to
- How well the client manages debt
- How well the client is progressing towards their financial goal
- How well the client is able to meet short term obligations
The objective of ratio analysis is to
- Gain additional insight into the financial situation and behavior of the client
- Generate questions for the client to answer to further gain insight
What does the current ratio measure
a measure of the clients ability to meet short term obligations
For the Current ratio what do current assets include
- Cash and Cash equivalents
- CDs less than 12 months in maturity
- Money market
- Savings
- Cash and accounts receivable
For the Current ratio what do current liabilities include
- Credit cards
- short term debts less than 12 months
What is the formula for the current ratio
Current assets divided by current liabilities
What are considered current assets
- cash
- checking
- money market
- savings
- short term CD
- US T-Bill
- Life insurance cash value
- money market
what is the formula for emergency fund
Current Assets / Monthly nondiscretionary expenses
Consumer debt should not exceed
20% of NET income
Housing debt should be less than or equal to
28% of GROSS income (PITI/Monthly gross Income)
Housing plus all other recurring debt should be less than or equal to
36% of GROSS income (PITI + all recurring debt / Monthly Gross Income)
When is appropriate to rent?
Clients time in the property is going to be short 1 to 3 years
When is it appropriate to buy
- Clients time in the property is going to be long (>3 years)
- Clients goal is to build equity
- Client is in a high marginal tax bracket because of the income tax deduction for interest expense associated with the clients primary residence
When is an adjustable rate mortgage appropriate
When the clients time in the property will be short 1-3 years
What does a 2/6 ARM mean
the interest rate cannot increase more than 2% per year or 6% during the term of the loan
What is a reverse mortgage
the homeowner receives monthly payments or lump sum from a bank while retaining the right to live in the house
When is a reverse mortgage appropriate and who is it available to?
- appropriate to generate income for elderly homeowners
- available if the home owner is age 62 or older
How are points calculated?
Equal to 1% of the loan balance and can be spread over the loan in a refinance
What is the annual saving ratio formula
Annual savings (Employee + Employer contributions) / Annual gross income
What is the formula for average invested assets for ROI formula
(Beginning investments + Ending Investments) / 2
What is the formula for ROI
(EI - BI - S - GR) / Average invested assets
EI = Ending investments
BI = Beginning Investments
S = Savings
GR = Gifts Received
What are some limitations of financial statements
- Inflation (Difficult to compare year to year)
- Use of estimates
- Benchmarks (very few benchmarks)
