General Principles Of FP Flashcards
Emergency fund ratio
Cash & cash equivalents / MONTHLY non discretionary expenses = EFR
Ex) C&CE -> $40k; Ann. ND Exp -> $82,944 for a 2 income family
40,000 / 82,944 = 5.79 months (between 3-6 months, E. Fund is adequate)
What’s the difference between funding an UGMA vs an UTMA?
UGMA funding
- cash & equiv, securities, MF’s
UTMA funding
- cash & equiv’s, securities, MF’s, Real Prop/RE
Think “Title” for UTMA (as in title to Real Prop/Estate)
What are the deductibility rules around student loan interest?
- Interest is tax deductible
- $2,500 annual limit
- expenses that qualify
• tuition and enrollment fees
• ROOM & BOARD (typically isn’t but it’s ok here)
• “the kitchen sink” (transportation, necessary expenses) -> kitchen sink = stuff other than T/Enr fees - student must be at least half time in a degree program*
- undergrad and grad programs*
PHASEOUTS
S -> 70,000-85,000
MFJ -> 140,000-170,000
What are the provisions of student loan forgiveness?
General Rule: the amount forgiven is taxable income
Exceptions to the rule
- death
- disability
- cancellation due to loan provisions around certain work arrangements (aka work for x years/in a certain profession/etc)
Federal Student Loan Default rules
Loan is considered DELINQUENT on the FIRST DAY AFTER PAYMENT IS MISSED
No pmts after 270 days (9 months) -> loan is in default
When a loan defaults
- entire balance is due
- borrower is no longer eligible for federal student loans/grants
What does the fed control and afffect?
The fed controls monetary policy
The Fed uses
- open market operations
- raises & lowers discount rates and reserve requirements
Explain easy and tight monetary policy?
“BEST” - buy easy, sell tight
Easy -> the fed buys govt securities causing more $ to circulate, increases lending; lowering rates
Tight -> the fed sells govt securities, taking $ out of circulation, decreases lending; increasing rates
Explain who controls fiscal policy and how & with what?
Fiscal policy is controlled by POTUS/Congress
Pursue economic growth, price stability, and full employment
Expansionary policy (easy) - govt buys G/S & creates a budget deficit
Restrictive policy (tight) - govt stops buying/sells and/or raises taxes
Describe the peak business cycle
Peak of expansion phase
Most biz’s operating at capacity & GDP growth is increasing rapidly/is at its highest point
Employment is at its peak
Explain the trough biz cycle
End of contraction phase
Biz’s operating at lowest capacity levels, GDP growth is at its lowest or is negative
Explain expansionary phase
Leads to peak phase
Biz sales rise, GDP grows, Unemployment declines
Aka recovery phase
Explain contraction phase
Leads to trough
Biz sales & GDP drops, unemployment rises
What are leading indicators?
Predict changes in biz cycle
Include
- bond yields
- housing starts
- investor sentiment
- durable good orders (greatest cyclical fluctuations)
- STOCK CHANGES
What are coincident indicators?
Occur simultaneously with biz cycle & confirm current state of economy
Include
- personal income
- industrial production
- amount of corporate profits
What are lagging indicators?
Change after economy has shifted
Include
- average duration of unemployment
- prime interest rate
What are non dischargeable debts for Chapter 7 bankruptcy
- Back taxes (w/in 3 yrs)
- “Bad Shit” (penalties for fraud, embezzlement, etc)
- Alimony/Child Support
- debts due to intentional torts
- student loans
- consumer debt above $650 for luxury goods/services to a single creditor w/in 90 days of order of relief
Describe who controls Fiscal policy and with what
Fiscal policy controlled by POTUS/Congress
Expansionary policy (easy)
- govt buys g/s & keeps revenue constant
- “money in” (rates down)
Restrictive policy (tight)
- govt reduces expenditures &/or raises taxes
- “money out” (rates rise)
What’s the current ratio?
CR = Current Assets / Current Liabilities
Represents the ability of a person to meet an emergency expenditure
Uses assets that are liquid ($/money market funds, etc) and debts maturing w/in 1 year
Ratio above 1.0 is preferred
What is the net investment assets to net worth ratio?
Net investment assets / net worth
Compares value of investment assets EXCLUDING THE HOME with net worth
Should be at least 50%
- can be lower for younger people
- should be higher for older people
What is the process for calculating IRR?
- $, +/- (outflow only), CFj
- 0, CFj (if no in/outflow)
- X, Nj (# of yrs repeating the same in/outflow)
- SHIFT, IRR (when finished)
If there’s an inflow/outflow the year of the sale, net them out before calculating IRR
How to calculate the PV and NPV on uneven cash flows? (Ex - purchase price is $100k, can sell $40k at end of 5yrs. CF earned is expected to be $25k, $30k, $20k, $15k, and $10k. If opportunity cost is 8%, what’s NPV?)
- $100,000 +/- CFj
- $25k, CFj
- $30k, CFj
- $20k, CFj
- $15k, CFj
- $50k (10k inflow, 40k sale), CFj
- 8, i/yr
- SHIFT NPV -> +$9,799.5652
Investor will earn an additional ~$9,800 on this investment
What is price elasticity? What do the terms “inelastic” and “elastic” mean?
Elasticity -> The degree of movement in the quantity demanded in response to price changes
Inelastic (thick rubber band, tough to move)
- demand for necessities (food/water) responds very little to price changes
Elastic (thin rubber goods, easily moved)
- demand for luxuries (fancy cars) responds relatively more to price changes
What is the equilibrium price?
The intersection of supply and demand curves
Prices should always move to equilibrium unless restricted by outside sources
What is chapter 13 bankruptcy?
The “adjusting” of debts
Applies to individuals with regular income
Pmts are restructured/sometimes reduced so they are more manageable for the debtor
Debtor isn’t typically required to relinquish any assets in payment if creditors
What is chapter 7 bankruptcy
An individuals personal unsecured debts are generally canceled
Significantly restricted following bankruptcy protection act of 2005
What are some exemptions for Ch 7 bankruptcy?
- ones homestead
- a certain amount of personal property
- pension/ERISA plans
- existing cash value life insurance
- annuity contract proceeds
- disability income payments
- property held as Tenants by the Entirety
Why is chapter 11 bankruptcy?
The reorganization of debts
For individual/biz/corporate debtors who are elective for ch 7 bankruptcy
- excluding stock/commodity brokers, railroads
Voluntary/involuntary petitions may be filed and automatic stay and entry, or order for relief provisions will apply
Debtors will remain in possession of, and continue operating, their business
What is disinflation?
The reduction in the inflation rate
What is deflation?
A decline in general price levels
What best describes consumer debt?
Short term debt used to acquire consumer goods
What is the “economic & resource” approach to financial counseling?
The financial planner is an agent of change, focus is on obtaining and analyzing quantitive data reports (cash flow summary, etc) and making rational decisions
Clients are assumed to be rational and will change to most favorable behavior if given appropriate counseling
What is the “classical economics” approach to financial counseling?
Clients choose among alternatives based on objectively defined cost-benefit and risk-return trade offs
Increase financial resources/reducing financial expenditures result in improved outcomes
What is the “strategic management” approach to financial counseling?
Clients goals and values drive the client-planner relationship
FP conducts SWOT analysis and acts more as a consultant than an agent of change
“Phil SWOT loves the STRATEGIC MANAGEMENT approach”
What is the “cognitive behavioral” approach to financial counseling?
FP attempts to substitute clients negative beliefs with positive attitudes so that they may achieve better financial results
Essentially the cognitive behavioral approach is an “attitude adjustment”
What are the purposes of the Fed?
- influencing and monitoring the flow of capital
- maintaining steady economic growth w/ moderate inflation
What WOULDNT be on a statement of financial position?
- mortgage payments
- investment income
- adjusted tax basis of real estate
it WOULD include
- FMV of owned assets
- principal balances of liabilities
What is the equation to determine the remaining equity in ones home?
1) Determine the amount of principal paid off
— 1, input, X months paid, shift AMORT; press “=“ x1
2) subtract principal paid from step 1 from the original mortgage loan amount
3) subtract result from step 2 from the current FMV of the home
What can budgeting help you accomplish if close to retirement?
Determine your wage replacement ratio for capital needs analysis
How can consumer debt best be described as?
Short term debt used to acquire consumer goods
What are some statements regarding budgeting?
- plans for the expected, the recurring, and the unexpected
- projects, monitors, adjusts, and controls future income and expenditures
- can be used to determine wage replacement ratio for retirement capital needs analysis
Can an employee get educational assistance from their employer? If so to what extent ($ & benefits)?
Yes an employer can reimburse an employees certain GRADUATE AND UNDERGRADUATE expenses
- tuition & enrollment fees
- books, supplies, equipment
- NOT room & board
These benefits are EXCLUDED FROM GROSS INCOME to an extent of $5,250 per year
CANNOT claim the AOTC/LLC credits for the same expenses
What is “mental accounting”?
Aka “money jar mentality” - a COGNITIVE bias
The tendency of individuals to put their money into separate accounts (“money jars”) based on the function of these accounts
- money may be earmarked for savings, investments, debt reduction, etc
If client sets money aside for a future vacation while being in significant debt
What is loss aversion theory?
An EMOTIONAL bias
Client values gains and losses separately, and will make decisions based on perceived gains rather than perceived losses
If presented with 2 equal opportunities, the client will select by the option based on potential gains rather than potential losses
What is overconfidence?
An EMOTIONAL bias
Consider their abilities are better than they actually are
Take credit for any financial decisions that have positive results, and blame 3rd parties/external sources for negative results
What is prospect theory?
An EMOTIONAL bias
Clients fear losses much more than value gains & will avoid the smaller of two potential gains if it means avoiding losses
What is self-attribution bias?
A COGNITIVE bias
Client exhibits an ego defense mechanism that helps them avoid having to admit they made a mistake
What’s conservatism bias?
A COGNITIVE bias
Clients initially assume a rational view but refuse to change it as new information becomes available
What is hindsight bias?
A cognitive bias
“Selective memory”
Clients look to past events to support their decisions
Clients tend to remember the their correct views and tend to forget their incorrect views
What is illusion of control bias?
A Cognitive bias
When clients think they can influence outcomes but they can’t
Is often combined with the EMOTIONAL biases
- overconfidence bias (an unwarranted belief you’re correct)
- self attribution bias (you think you did something but you didn’t)
- illusion of knowledge (you think know something you don’t)
What is affinity bias?
An EMOTIONAL bias
The tendency to favor things one can identify with emotionally because they’re familiar
- ethic, religious, alumni affiliations
What is endowment bias?
An EMOTIONAL bias
An asset is deemed special due to the fact it’s already owned
What is regret aversion bias?
An EMOTIONAL bias
When a client refuses to do anything out of fear their decision will be wrong
What is visual learning?
When a client responds well to visual objects
- graphs, charts, pictures
Includes visuals in data collection software or presentations
What is auditory learning?
When the client retains information by hearing or speaking
FP process will be more effective if the needs, priorities, and goals of a client are discussed prior to writing them down
What is kinesthetic learning?
Clients understand concepts rather better using a hands on approach
- writing goals & objectives with bullet points
Calculate the emergency fund ratio and explain what the result means
EFR = current assets / NONDISCRETIONARY MONTHLY EXPENSES
• ex) current assets of $17,500, nondis m exp of $27,000
• $17,500 / $27,000 = 0.70
• client has 0.7 months of expenses covered
What is quantitative data?
Objective data that’s measurable or expressed as a quantity or number
Examples
- assets & liabilities
- copies of wills and trusts
- a list of current investments
- risk capacity***
What is qualitative data?
Subjective data that is related the quality of a clients life. A clients subjective feelings, opinions, and attitudes.
Examples
- goals and objectives
- health status
- family circumstances
- risk tolerance***
When can a debtor in Chapter 7 bankruptcy be granted an order of relief?
An order of relief will be granted if the petition is proper and if the debtor has not been discharged in bankruptcy within the past SIX YEARS
Do debtors need to be insolvent in Chapter 7 bankruptcy?
No, UNLESS it is a Partnership
