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LIBF Unit 2 > Topic 4 - Dealing w Long-term Risks > Flashcards

Topic 4 - Dealing w Long-term Risks Flashcards

1
Q

What is the relationship between risk and reward?

A
  • the greater the risk, the greater the possible reward
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2
Q

What are examples of risk associated w possibility that something harmful or damaging could occur if things go wrong?

A
  • physical injury or death
  • loss of or damage to possessions
  • a legal liability
  • a financial loss
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3
Q

Why is risk associated w uncertainty?

A
  • bc future can’t be predicted accurately
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4
Q

What does risk associated w probability mean?

A
  • risk of an adverse event is higher when a situation makes it more likely that something will go wrong
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5
Q

What is speculative risk?

A
  • risk associates w chance, where outcome could be either favourable or adverse
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6
Q

When does risk also arise? (Not associated w probability or taking a chance)

A
  • when the actual outcome of an event or situation differs from what someone expected or planned for
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7
Q

What is the consequence of the risk/reward relationship?

A
  • someone wanting potentially high rewards must accept a higher level of risk of loss
  • someone keen to dec. or avoid risk must accept they’ll earn a lower return
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8
Q

What is the ‘trade-off’ between risk + reward?

A
  • when deciding what combo of risk + reward to accept, a saver or investor pays for the chance of earning a higher reward by accepting more risk
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9
Q

What motivates ppl into taking a higher risk?

A
  • earning a higher return on savings (regardless to their attitude to risk)
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10
Q

What are some examples of savings + investment products that have diff levels of risk?

A
  • premium bonds: no risk bc 100% backed by gov but have no guaranteed reward
  • a banks savings account: little risk but pays low interest rate
  • unit trusts: more risk as value can go up + down, according to stock market movements
  • shares in an established company: risk as no diversification but chance of dividends
  • shares in newly quoted company: higher risk as company is unknown but if in an innovated sector, return could be high
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11
Q

Who earns a stated rate of interest + when may it be set?

A
  • ppl who saves in a normal notice account, cash ISA or bond
  • may be set in advance or may vary w changes in general lvl of interest rates in country
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12
Q

What are the 2 ways someone who buys an investment product hoping to be rewarded?

A
  • to earn a return
  • to make a capital gain
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13
Q

What does interest rates in the UK being very low in recent yrs mean?

A
  • v. low rates are paid on saving accounts + causing some savers to choose a riskier product to earn a higher return
  • financial regulators concerned: as unsuitable for many small savers who may lose money
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14
Q

Why has the Bank of England kept its interest rates v. low?

A
  • to make it easier for ppl to borrow + for economy to come out of its low lvl of activity
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15
Q

When ppl borrow money, what does the interest rate reflect?

A
  • risk to lender
  • e.g. rate charged on mortgage (secured) is cheaper than rate quoted on personal loan (unsecured)
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16
Q

What risk does a person who borrows for a medium or long period of time take?

A
  • may be unable to keep up w repayments + may lose their property
  • accept risk in return for reward of being able to buy consumer products
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17
Q

What does a person’s attitude to risk have implications for?

A
  • kinds of financial product they’re willing to buy
  • financial plans they make
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18
Q

What does having a certain amount of risk acceptance/tolerance mean?

A
  • willing to accept risk but probs set a limit to risk + take steps to manage it so can minimise risk
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19
Q

What does being risk adverse mean?

A
  • cautious + always try to avoid risk in any way they can
  • give up higher reward to dec. risk
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20
Q

What is a good way of managing risk?

A
  • to transfer it (risk transfer)
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21
Q

What does a risk transfer mean?

A
  • person facing risk decides to spend money on passing risk to someone else, who accepts financial responsibility
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22
Q

What does an insurance company do?

A
  • collects premium from ppl who insured risk + pays out compensation who suffer the loss
  • company calculates premiums carefully so high enough to cover losses + make profit
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23
Q

What are the 2 main dimensions of risk?

A
  • impact of risk
  • probability of risk occurring
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24
Q

What are the aspects to the impact of a risk?

A
  • amount of money involved
  • effect on lifestyle
  • timing of event
  • frequency of event
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25
Q

How is the amount of money involved an impact of risk?

A
  • more money lost, greater the impact of someone’s situation
  • amount needs to be compared w a person’s income + wealth
  • longer it takes to replenish money, more sig. the loss
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26
Q

How is the effect of lifestyle an impact of risk?

A
  • can change someone’s life
  • e.g. if injured in accident, may means yrs of medical treatment: may affect person’s family + social life
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27
Q

How is the timing of an event an impact of risk?

A
  • e.g. if younger person loses savings, have rest of life to save up again, if older, wouldn’t have a change to make money again
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28
Q

How is the frequency of a risk an impact of risk?

A
  • if event is frequent, accumulated impact much worse than if event happens once
29
Q

How is it possible for someone to have an idea of the likelihood of an event happening?

A
  • if they have some control over event
  • able to take some risk reduction measures
30
Q

How do you calculate the significance of a risk?

A
  • probability x impact = degree of risk
  • greater number = higher risk
31
Q

How can a saver reduce risk of losing their money?

A
  • choose a safer firm of saving
  • avoid high risk by keeping away from v. risky financial products
32
Q

What is 1 method ppl can use to manage LT risks?

A
  • insurance
33
Q

What are the diff types of LT insurance products?

A
  • life assurance
  • critical illness insurance
  • income protection insurance
  • accident, sickness + unemployment (ASU) insurance
34
Q

Why is the term ‘assurance’ used instead of insurance in life assurance?

A
  • bc dying is inevitable
35
Q

What are the 2 types of policy life assurance protection is provided primarily by?

A
  • whole-of-life assurance
  • term assurance
36
Q

What are the characteristics inc. in whole-of-life assurance?

A
  • sum assured is payable on death of life assured (whenever death occurs)
  • no fixed time limit + remains until policyholder dies/surrenders it
  • more expensive: certain sum will be paid out in future
  • less common
37
Q

What are the characteristics inc. in term assurance?

A
  • sum assured is payable only if person dies before end of a specified term
  • if person survives term: cover ceases + no payment or refund of premiums is made
  • suitable as mortgage protection
  • if they have a repayment mortgages, sum assured dec. /yr to reflect reductions in amount own on loan
38
Q

What is mortgage protection?

A
  • where borrower wishes to insure their life for term of loan, so if they die before loan is repaid, loan can still be paid off w/o property being sold
39
Q

What’s are the reasons for buying life assurance?

A
  • family protection
  • debt protection
  • managing a tax liability
  • cover for older ppl
40
Q

How does buying life assurance protect family?

A
  • death of a breadwinner can leave family large debts + no income to support standard of living
41
Q

How does buying life assurance protect debt?

A
  • when someone pays a mortgage/loan, their death can result in failure to make repayments: may lead to loss of property used as security as loan
42
Q

How does buying life assurance manage a tax liability?

A
  • if expecting to inherit money: may take out life policy to cover inheritance tax that needs paying when person dies
43
Q

How is buying life assurance a cover for older ppl?

A
  • ppl >50 may want to provide for grandchildren or cover costs of funeral/any unpaid bills
44
Q

What is critical insurance?

A
  • pays out guaranteed cash lump if person insured is diagnosed w a critical illness (that’s listed)
  • may be combined w a life insurance policy
45
Q

What are income protection policies?

A
  • pays out monthly income to insured ppl suffering an accidental injury or a LT illness + so are unable to work
46
Q

What does income protection insurance allow ppl to manage?

A
  • LT risk of loss of earnings + being unable to pay mortgage, debts + household bills
47
Q

What are the characteristics of ASU insurance?

A
  • provides cover to insured party if accident or sickness prevents them from working or if they become involuntarily unemployed
  • pays out for max of 12 or 24 months
  • lower cost
48
Q

What is PPI?

A
  • type of ASU linked to e.g. loan or credit card rather than amount of cover being based on income
49
Q

Why is any savings product seen as a form of risk management?

A
  • it’s a result of ppl making a deliberate decision not to spend all their income + to put it away to cover future needs
50
Q

Why is it important for ppl to have some knowledge of savings + investment products?

A
  • in case of a positive future event (e.g. promotion at work bringing a higher salary or winning money)
  • to know how to invest xtra money safely + wisely
51
Q

What is the Financial Services Compensation Scheme (FSCS)?

A
  • a type of insurance that helps ppl manage their LT risks
52
Q

What does the FSCS’s do and what was its aim?

A
  • set up to protect ppl’s savings up to a certain limit
  • gives savers peace of mind + promotes confidence in financial institutions as ppl know they won’t lose all their money
53
Q

What does the FSCS offer max. protection on?

A
  • deposits on banks, building societies + credit unions (must be authorised by PRA)
  • investments
  • home finance
  • LT insurance
  • compulsory insurance
  • non-compulsory insurance
  • general insurance advice + arranging
54
Q

What are the main ways of dealing w the LT risk of providing for others after death?

A
  • making a will
  • providing for inheritance tax
55
Q

What does making a will allow?

A
  • someone to make provision for their property after their death
56
Q

What are the advantages to making a will?

A
  • a person can decide what happens to their money, property + possessions after death
  • can provide for a partner where no marriage or civil partnership
  • can make arrangements for children in event of death of 1 or both parents
  • can minimise amount of inheritance tax they pay
57
Q

What’s are the main items ppl include in their will?

A
  • details of their assets
  • names + details of all beneficiaries
  • arrangement for guardianship of any children < 18
  • named of executors
58
Q

What are the requirements for a will to be valid?

A
  • must be made by a person 18 or over
  • who’s of sound, mind + aware of what it contains
  • who is making it voluntarily
  • w/o pressure from anyone else
  • must be made in writing + signed by person in presence of 2 witnesses
  • witnesses must also sign, in presence of person making will
59
Q

What is the nil rate band?

A
  • when inheritance tax is paid on an estate when somebody dies if value of estate exceeds a certain amount
60
Q

What happens to the inheritance tax if a partner in a marriage or civil partnership dies?

A

- the surviving partner can use any unused portion of deceased partner’s nil rate band to inc. their own

61
Q

What is the inheritance tax usually paid from?

A
  • funds in estate by executor of a will or by deceased’s personal representative
62
Q

Why do some ppl like to make provision for the payment of inheritance tax before they die?

A
  • so that the beneficiaries can inherit estate w/o having is value dec. by tax
63
Q

What is a good way to make a provision for the payment of inheritance tax?

A
  • for person making will to calculate approximate amount of inheritance tax that will be levied on state + take out a life insurance policy for this amount
  • could save an annual sum in a savings account or investment fund: runs risk of being insufficient
64
Q

What is a trust?

A
  • a financial relationship where property is held by 1 party for benefit of another
65
Q

What is the Child Trust Find (CTF)?

A
  • a LT tax-free savings account aimed to ensure every child living in country has savings at age of 18
66
Q

What are junior ISAs?

A
  • LT tax-free savings accounts for children, + a child is eligible to have 1 if <18, live in UK + we’re not entitled to a CTF
67
Q

What did junior ISAs replace?

A
  • Child Trust Funds
68
Q

What are the 2 types of junior ISAs?

A
  • a cash junior ISA (interest tax free)
  • a stocks + shares junior ISA (cash is invested + child doesn’t pay tax on any capital growth or dividends)
69
Q

What is a legal guardian?

A
  • person who has legal authority + a corresponding duty to care for the person + property of another person (ward)

LIBF Unit 2 (10 decks)

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