CFP Book 1
Relevant Elements
"Relevant elements" of financial planning (SEE DEFINITION BY BOARD) are incorporated in the financial planning process when financial planning takes place Elements vary based on clients and their circumstances
Fiscal Policy
Conducted by Congress and also attempts to influence consumer demand but does so through gov't policies
Monetary Policy
Conducted by the Federal Reserve Board and attempts to affect economic activity by raising and lowering short term interest because they affect consumer spending, or demand
Psychological Profiles
Consider these to accurately predict the way clients will perceive and judge any recommendations
Verbal Mirroring
Copying word use, tone of voice, and communication method
Series 65
Entitles holder to provide investment advice to clients within the holder's primary state of residence NOTE: CFP board has entered into a reciprocity agreement with many state securities departments permitting a waiver of this exam if they are a CFP certificant
Securities Investor Protection Act of 1970
Established the Securities Investor Protection Corporation (SIPC) to ensure investors against losses arising from the failure of any brokerage firm Membership in SIPC is voluntary, although most B/Ds are members and pay a separate (insurance) premium
Financial Planning Engagement
Exists when a CFP certificant performs any type of mutually agreed-upon financial planning services for a client. Must have an "oral or written agreement, arrangement, or understanding" that financial planning will be provided
Illusion of Control Bias
Exists when market participants think they can control or affect outcomes when they cannot
The Code of Ethics has 6 principles:
1. Act with honesty, integrity, competence, and diligence 2. Act in the client's best interests 3. Exercise due care 4. Avoid or disclose and manage conflicts of interest 5. Maintain the confidentiality and protect the privacy of client information 6. Act in a manner that reflects positively on the financial planning profession and CFP certification
The Securities Exchange Act of 1934 AKA Exchange Act, 34 Act or People Act
Extended the regulation of securities to the secondary market or exchanges Also established the SEC as the primary regulatory body overseeing the sale/purchase of securities by investors
Firm Element
FINRA licensed individuals are required to maintain continuing education requirements through their BD each year, AKA firm element
Veterans Administration (VA) Mortgages
Feature the same federal guarantee of repayment as that for FHA mortgages, BUT these are for service members and veterans of the US armed services, their spouses, and eligible beneficiaries An even more favorable attribute for this is that, in certain cases, no initial down payment is required - the entire purchase can be borrowed - AND no mortgage INS is required
Property ownership on statement of financial position: S1
Individual ownership of the named spouse In community property state, the spouse's separate property Name of S1 spouse is on statement
Property ownership on statement of financial position: S2
Individual ownership of the other named spouse In community property state, the other spouse's separate property Name of S2 spouse is on statement
Perception
Individual's personal awareness of things, people, events, or ideas
3 consequences when cash is used to complete a transaction
1. Clients assets increase - on statement of FP 2. Clients liabilities decrease - on statement of FP 3. Cash outflow increase - on statement of CF
8 items are included in the Letter of Engagement
1. Description of products/services to be provided 2. How client pays for P/S + other costs clients may incur 3. Compensation for CFP/firm/providing P/S 4. Location of all relevant public websites that shows CFP's history, such as disciplinary action, personal bankruptcies, etc. 5. A "catch all" that includes any other disclosures 6. Full disclosure of Material conflicts of interests 7. Policies regarding the protection/handling of non-public info 8. Info required under the Engagement and reasonable client requests
Approaches to Financial Counseling
1. Economic and resource approach 2. Classic economics approach 3. Strategic management approach 4. Cognitive behavioral approach 5. Psychoanalytical approach
Fed uses 3 major tools to conduct monetary policy, all to seek control of overall money supply (MS)
1. Lowering or increasing the amount of required reserves that must be held by banking members of the Fed 2. Raising or lowering the Fed's discount rate (the amount of interest that is charged by one of the 12 Federal Reserve Banks to other banks) 3. Engaging in open-market operations, which is the buying or selling of gov't securities in the open marketplace by the Fed
In determining the EFC, four separate calculations are made - the total of which constitutes the EFC 4 calculations include:
1. Parental income 2. Parental assets This includes almost everything owned by parents (with certain exceptions) 3. Student income 4. Student assets This includes the value of everything the student owns or that has been saved on his behalf (Ex. custodial account)
2 types of Section 529 (QTP) plans
1. Prepaid tuition plan 2. College savings plan
The 6 main components of a comprehensive financial plan
1. Savings, budgeting, emergency planning, education planning 2. Risk management and insurance planning 3. Investment planning 4. Tax planning 5. Retirement savings and income planning 6. Estate planning
Congress uses 2 tools in executing fiscal policy
1. The power to tax 2. The power to spend
CFP Board's Practice Standards for the Financial Planning Process - 7 step framework
1. Understand client's personal and financial circumstances 2. ID and select goals 3. Analyze current course of action + potential alternative courses 4. Develop recommendations 5. Present recommendations 6. Implement recommendations 7. Monitoring progress and updating
7 steps in the Practice Standards
1. Understanding the client's personal and financial circumstances 2. Identifying and selecting goals 3. Analyzing the client's current course of action and potential alternative course(s) of action 4. Developing the financial planning recommendations 5. Presenting the financial planning recommendations 6. Implementing the financial planning recommendations 7. Monitoring progress and updating
Bank
A bank is an organization chartered by the federal or state gov't to do any of the following: - Accept deposits and maybe pay interest on deposits depending on type of account - Make various types of loans - Invest customer funds in securities - Honor instruments drawn on accounts - Issue cashiers checks - Provide safety deposit boxes
Investment Bank
A business or muni gov't that plans to issue securities usually works with an investment bank - a securities BD that underwrites new issues
Financial Planning
A collaborative process that helps maximize a client's potential for meeting life goals through financial advice that integrates relevant elements of the client's personal and financial circumstances. Allows a client to get a realistic overview of current financial status, set goals, plan to meet goals, and to follow the plan to accomplish goals.
Behavioral Finance
A field of study which relates behavioral and cognitive psychology to financial planning and economics in an attempt to understand why people act irrationally during the financial decision making process.
Prospectus
A legal document created as a part of the security registration process per The Securities Act of 1933 It discloses material info regarding the particular security and it is required to be updated on a regular basis CFPs are required by law to make sure this document is available to any prospects or current customers who they solicit if the security is part of the solicitation Some examples of material info include, fees, expenses, investment objectives, investment strategies, risk, performance, pricing, and if the fund is allowed to utilize derivatives and leverage
Installment Loan
A loan for which the client borrows a single amount of money and repays the balance with interest at stated intervals Most loans are installment loans
Unsecured (signature) Loan
A loan for which the client merely promises to repay the debt in exchange for the borrowed funds In event of default, lenders can take legal action but most will attempt to settle the debt for less than the amount owed Will negatively affect individual's credit rating
Residential Mortgage
A loan for which the collateral that underlies the loan is residential real estate If borrower defaults on the loan, the lender has a legal claim to the collateral property
Secured Loan
A loan for which the creditor maintains a security interest in property, such as personal property, which serves as collateral for the debt If debtor falls behind on secured loan payments, the lender can repossess the property that secures the debt
Single Payment (Bridge) Loan
A loan which provides ST, temporary financing which is repaid with interest in one lump sum at the end of the term Often used to provide funds for a period of time between 2 transactions, like the purchase of one house and the subsequent sale of another
Serial Payments
A payment increases each year by the amount of inflation (to maintain a constant or real dollar amount) so as to protect the client's future purchasing power Calculated by using an inflation-adjusted rate of return formula: [ [(1+r) / (1+i)] - 1 ] * 100 = I/YR on calculator Where r is the nominal or before-tax rate of return of an investment i is the assumed annual inflation rate
Financial Planning Practitioner
A person who engages in financial planning using the financial planning process when working with a client.
Financial Counseling
A process that helps clients change their poor financial behavior through education and guidance
Discretionary Expenses
A recurring or non-recurring expense for goods and services which are either non-essential or more expensive than necessary
Hindsight Bias
A selective memory of past events/actions or what was knowable in the past
Rule of 72
A shortcut method may be used to determine the number of years it takes for a single amount to double in value, or alternatively, the interest rate that is required for an investment to double within a specific number of years To calculate the number of years for an investment to double in value, simple divide 72 by the annual interest rate
Reverse Mortgages
A special type of home loan where the payment stream is reversed (lender pays the homeowner a stream of income secured by the considerable amount of equity in the home)
Beliefs
A type of attitude because they reveal the understanding of some aspect of a person's life
Qualitative Data
A way of obtaining client data. Related to the quality of the client's life and often represents a client's subjective feelings, opinions, and attitudes. EX: financial goals, health status, risk tolerance
Quantitative Data
A way to obtain client data. Measurable or expressed as a quantity or number - may include factual info. EX: current financial status (assets, liabilities), wills, trusts, current investments. Remember that Step 1 of the FP process is one of the most challenging because it requires in depth knowledge.
Standards also have 6 sections:
A. Duties Owed to Clients (15 OF THESE) B. Financial Planning and Application of the Practice Standards for the Financial Planning Process C. Practice Standards for the Financial Planning Process (7 OF THOSE) D. Duties Owed to Firms and Subordinates E. Duties Owed to CFP Board F. Prohibition on Circumvention
ABLE Accounts
ABLE accounts provide individuals with disabilities and their families the ability to fund a tax-preferred savings account to pay for qualified disability related expenses
Cash and Cash Equivalents
AKA current assets Short term in nature, maturity date of < 1 year Commonly in money market positions
Fair and Accurate Transaction Act of 2003 AKA FACTA
Added new sections to the federal Fair Credit Reporting Act that gives consumers greater protection against the growing crime of identity theft Under FACTA, consumers can obtain a free credit report every 12 month from one of the 3 national credit reporting agencies: equifax, transunion, and experian FACTA also requires that consumer information be disposed of in a secure manner Under the act, individuals can place alerts on their credit histories if identity theft is suspected or if deploying overseas in the military
Myers-Briggs Assessments
Allows us to evaluate psychological profiles, specifically personalities, by: 1. Introverted vs extroverted 2. Driven by senses or intuition 3. Apt to perceive or judge
Certification marks: CFP (in a box)
Always reproduce the plaque design from original artwork Never alter or modify the plaque design Always associate with individuals certified by board Maintain a minimum size of 0.5 in for print of 50 px on screen Always maintain the clear space around the mark to maintain legibility
Certification Marks: CFP(R)
Always use capital letters Never use periods Always use the "R" symbol Always use with one of the CFP boards approved nouns (certificant, professional, practitioner, certification, mark, or exam) unless directly following the name of the individual Always associate with the individuals certified by board
Certification Marks: Certified Financial Planner (™)
Always use capital letters or small cap font Always use the ™ symbol Always use with one of the CFP board's approved nouns (see above) Always associate with individuals certified by board
Brokerage Company
An intermediary that facilitates transactions involving sales of investments or real estate
Chapter 11 Bankruptcy (Reorganization)
Any individual, business, or corporate debtor who is eligible for Chapter 7 liquidation (Except stockbrokers, commodities brokers, and railroads) are also eligible A voluntary or involuntary petition may be filed and the automatic stay and entry or order for relief provisions will apply The debtor remains in possession and may continue to operate the debtors' business
Investment Adviser Registration Depository (IARD)
Applications for registration as an adviser with SEC must be submitted electronically through an internet-based filing system called the Investment Adviser Registration Depository (IARD) Within 45 days, SEC must grant registration or institute an administrative proceeding to determine whether reg should be denied
Framing Bias
Asserts that people are given a frame of reference (a set of beliefs or values) that they use to interpret facts or conditions as they make decisions. EX: positive/negative, higher/lower, winner/loser
What is on the balance sheet AKA statement of financial position?
Assets on left side = what you own - Cash/equivalents, investments, personal use Liabilities on top right side = what you owe - Current, long-term, total Net worth on bottom right side = assets - liabilities
Fair Market Value (FMV)
Assets on statement of financial position are always represented as FMV It is the price that property will bring when offered for sale by a willing seller to a willing buyer, with neither one being obligated to sell or buy NOTE: liabilities are presented at their principal value without regard to any interest obligation
Values
Attitudes and beliefs for which a person feels strongly for
Investment Company Act of 1940
Authorized the SEC to regulate certain financial products, like open-end investment companies (mutual funds) Also gave SEC regulatory authority regarding the sale of variable products like variable annuities, as well as the separate accounts within the variable product
Representativeness
Based on a belief that the past will persist and new information is classified based on past experience or classification
Psychoanalytic approach to financial counseling
Based on the use of psychoanalytic theories, such as Freudian or Gestalt. Not widely used by planners
Self-attribution Bias
Belief you personally caused something to happen (ego-defense mechanism)
Maloney Act of 1938
Brought the OTC market under the regulation of SEC and called for self-regulation of OTC securities dealers
Fiduciary
C&S specify that "at all times when providing financial advice to a client, a CFP must act as a fiduciary, and therefore, act in the best interests of the client" To uphold the fiduciary standard, required to fulfill 3 duties: 1. Duty of Loyalty Placing the client's interests ahead of the CFPs, the firm, or any other entity Includes avoiding, fully disclosing, obtaining consent, or managing Material Conflicts of Interest 2. Duty of Care Must engage the client with care, skill, prudence, and diligence Fulfillment of this duty requires consideration of the client's goals, risk tolerance, objectives, and circumstances 3. Duty to Follow Client's Instructions Obligated to adhere to the Terms of the Engagement and must follow "reasonable and lawful" client instructions
Mental Accounting
Categorizing spending and saving decisions into "accounts" or "money jars" mentally designated for specific transactions, goals, or situations.
Economic and resource approach to financial counseling
Clients assumed to be rational and will change to most favorable behavior if given the appropriate counseling. CFP = agent of change. Focus on obtaining and analyzing quantitative data, such as cash flows, assets, and debt
Classic economics approach to financial counseling
Clients choose among alternatives based on objectively defined cost/benefit and risk/return trade offs. Belief is that increasing financial resources or reducing financial expenditures is done early in FP process
Strategic management approach to financial counseling
Clients gains and values drive the client-planner relationship. Conducting SWOT (strengths, weaknesses, opportunities, threats) analysis is done early in the process. CFP = consultant
Interpersonal Communication
Communicating one on one
Property ownership on statement of financial position: CP
Community property of the spouses
Bankruptcy Abuse Prevention and Consumer Protection Act of 2005
Individuals who have the ability to pay their debts, as defined in the act, are required to file under Chapter 13 This is in substitution for having their debts cancelled entirely under a chapter 7 filing Consumer use of chapter 7 filing is limited to the liquidation of credit card bills or loans that are not secured by a house or other asset Debtors who want to file for Chapter 7 are required to submit to credit counseling before doing so Lenders are required to provide consumer information about the financial dangers of paying only minimum balances on credit card debts
Prepaid tuition plan
Inflation-based performance Suitable for risk-averse investor May offer state-guaranteed return on assets Usually restricted enrollment options May restrict out-of-state tuition costs, and, if less than in-state, may not refund difference Covers tuition and mandatory fees only
Adjustable Rate Mortgage (ARM)
Initial rate + payments may change every month, quarter, year, 3 years, 5 years Interest rate changes usually tied to a specific index, like one year LIBOR (London Interbank Offer Rate)
Insurance Company
Insurance company is primarily engaged in the business of furnishing INS protection to businesses and consumers Each state has its own department of INS that regulates INS companies in that state
Prospect Theory
Investors generally fear losses more than gains so they will often choose the smaller of 2 potential gains if it avoids a sure loss
Loss Aversion Theory
Involves clients valuing gains and losses differently and as a result will make decisions based on perceived gains rather than perceived losses. EX: if a client was presented with 2 equal opportunities, one stated in terms of potential gains and the other of potential losses, client would most likely choose potential gains
Body Language
Involves facial expressions, eye contact, gestures, and body posture. Impacts how clients receive messages more than any other type of communication
Judgement
Involves making conclusions about what has been perceived
Chapter 13 Bankruptcy
Involves the adjustment of debts of an individual with regular income When an individual files this form of bankruptcy, payments are typically restructured and, in some cases, reduced so that payments are more manageable for the debtor However, the debtor is not generally required to relinquish any assets in payment of creditors
Overconfidence
Leads clients to believe they can control random events by acquiring more knowledge. Consider their ability to be better than they are
Open Ended Questions
Less formal means of profiling by conducting fact-finding interviews. No "yes or no" answers. Clients use their own words to answer
Conventional Fixed Rate Mortgage
Level interest rate for the term of the loan and a fixed payment amortization schedule Shorter loan term = higher monthly payment
Fixed Rate Loan
Loan with interest rate that is constant until paid in full NOTE: initial rates are higher than those of variable/ARM loans, but offer more security because underlying
Long-Term Loan
Loans due > 1 year from a specified date
Short Term Loan
Loans due in < 1 year from a specified date
Savings and Loan Association AKA Thrift Institution
Main purpose is to accept savings and provide home loans Not permitted to provide demand deposits like checking accounts, but can offer interest bearing NOW accounts, which are similar to demand deposit accounts All federal and many state chartered S&Ls are regulated by the OCC
Exemptions for Chapter 7 Bankruptcy
State law exemptions generally include: - An exemption for one's homestead - Some limited amount of personal property - Pension and retirement plan rights = ERISA plans - The existing cash value of any life insurance policies - The proceeds of any annuity contracts - Disability income benefits - Property that is held as tenants by the entirety Federal law exemptions include: - Federal Civil Service retirement benefits - Railroad pensions - Veterans' benefits Debts and obligations that are not generally dischargeable: - Student and gov't loans - child support and alimony obligations, - recent federal income taxes due
Loan to Value Ratio (LTV)
One key characteristic of a mortgage loan is its loan-to-value (LTV) ratio: the percentage of the value of the collateral real estate that is loaned to the borrower The lower the LTV, the higher the borrower's equity in the property
Ordinary Annuity
Opposite of annuity due If each of these payments towards a financial goal are made at the end of each period (ex. with mortgage payments), the series is known as an ordinary annuity
Deflation
Opposite of inflation is deflation, which is a decline in the general price level and is often caused by a reduction in the MS and consumer demand Deflation is characterized by a surplus of goods and a shortage of cash
Active Listening
Paying close attention to what someone is saying and responding by paraphrasing the client's comments.
Mutual Fund Company
Pool money from shareholders and invests the funds in various types of securities, like stock, bond, and MM instruments according to fund's prospectus Regulated by SEC
Custodial Accounts
Popular way of income shifting and saving for college in a child's name, including UGMA/UTMA 2 limitations with these accounts: 1. When the child attains the age of majority, either 18 or 21 depending on state law, the child could gain access to the funds in the account, regardless of whether the child actually used the funds to pay for a college education 2. Portability issues - these accounts can only be assigned to one child and cannot be transferred to another sibling or family member
Price Elasticity
Price elasticity in the responsiveness of the quantity of a good demanded to changes in the good's price, all other economic forces remaining constant
Equal Credit Opportunity Act
Prohibits credit discrimination on the basis of: - Race, color, religion, national origin, gender, marital status, or age - The fact that all or part of the applicant's income derives from a public assistance program - The fact that the applicant has in good faith exercised any right under the Consumer Credit Protection Act
Property ownership on statement of financial position: JT
Property held jointly with rights of survivorship *Usually married spouses If non-spouses, it will be reflected in the footnotes of the statement
Statement of Financial Position AKA Net Worth Statement AKA Personal Balance Sheet
Provides a snapshot of a client's net worth on a given date, usually at the end of a calendar year
Leading Responses
Questions that guide clients to provide more detail, making a "meeting of the minds" more likely
Availability AKA Recency Bias
Recent information is given more importance because it is more vividly remembered. Based on data that is readily available
Attitudes
Reflects a person's opinions, values, and wants
Federal Bankruptcy Act of 1938
Requires a court appointed trustee to oversee the affairs of a firm for which bankruptcy has been filed This act provides for the liquidation of hopelessly troubled firms and provides for the re-organization of troubled firms that might be able to survive
Fair Credit Billing Act
Requires consumers to notify the creditor in writing of any billing errors within 60 days of the date they receive the billing statement Creditors then have 30 days to respond to the consumer with respect to the possible billing error, and 90 days to resolve the complaint
Consumer Credit Reporting Reform Act AKA the Consumer Credit Reporting Act
Requires credit bureau reports to include accurate, relevant, and recent information about the financial situation of credit applicants The act also restricts access to credit files only to bona fide users of financial information Applicants who are denied credit must be advised why and must be given the name and address of the reporting credit agency
Consumer Credit Protection Act AKA the Truth In Lending Act
Requires lenders, before extending credit, to disclose both the dollar amount of finance charges and the annual percentage rate APR, as well as other loan terms and conditions The act also limits a consumer liability for a lost or stolen credit card to the lesser of the amount charged or a maximum of $50 per card
Investment Advisors Act of 1940 (IAA)
Requires persons who fall within the definition of investment advisor to register with the Securities and Exchange Commission SEC or with the states in which they do business with clients
The Securities Act of 1933 (AKA the 33 Act or Paper Act)
Requires the registration of new issues of securities or issues in the primary securities market and provides applicable procedures for issuing an initial public offering IPO of securities, while also specifying which securities are exempt from registration requirements
Visual Learning Style
Responds to visual objects, like graphs, charts, pictures, and reading information. Presentations are effective. Express themselves through facial expressions, and have an interest in movies or sports
Auditory Learning Style
Retain information by hearing or speaking. Effective if things are discussed verbally before written. People with this style often express themselves with words and enjoy music and conversation
Cash inflow examples
Salary, wages, or both Rental income Capital gains (realized only) Interest and dividend income Alimony or child support received Trust income as beneficiary or grantor Gifts
Scholarships
Scholarships are merit-based and almost always given by the institution as an incentive for the student to study at the awarding institution
Coverdell Education Savings account CESA
Serves as an incentive for parents, grandparents, and others to save for a child's education expenses Total contributions to all CESAs for a beneficiary, who must be under age 18 when the contribution is made, cannot be more than $2,000 per year Contributions to a CESA are NOT tax deductible BUT the earnings on the account accumulate tax free Can be used for tuition, room, and board expenses for all education expenses, not just higher
Practice Standards for the Financial Planning Process AKA Practice Standards
Set forth the level of professional practice expected of CFPs engaged in financial planning Practice Standards are statements describing the elements of the financial planning process Total of 7 steps
Education Savings Bond Program
Special tax advantages are provided to certain owners of US savings bonds who qualify under the Education Savings Bond Program The savings bond education tax exclusion permits the exclusion from income at the time of redemption any amount used to pay for qualified higher education expenses
Insider Trading and Securities Fraud Enforcement Act of 1988
Specified what constitutes as investor trading of securities and stiffened the penalties for engaging in such trading Under this act, for insider trading to occur, there must be action taken related to material, nonpublic info
Tone
The inflection of voice or emphasis on certain words and shows attitude like humor, anger, sincerity, or sarcasm
Federal Funds Rate
The interest rate charged on ST borrowing (often overnight to fulfill reserve requirements) between banks The fed targets, but does not directly control this rate in all of its interest rate decisions
Variable (Adjustable) Rate Loan
The interest rate on this type of loan adjusts at various intervals throughout loan term; these are riskier The initial interest rate on these types of loans is typically lower than those of fixed rate loans
Parent Loan for Undergraduate Students (PLUS)
This is a non-need-based loan available to parents of dependent undergraduate students If a parent does not otherwise qualify for financial aid because of a high-income level, this is the only federal loan that will be typically available to assist in the payment of college education expenses The only requirement is that the parent or borrower meets federal standard of creditworthiness
Coincident Indicators
Those that occur simultaneously during the business cycle and confirm the stage that the economy is currently experiencing EX: - Industrial production - Level of personal income - Amount of corporate profits
Leading Indicators
Those that tend to precede actual economic change EX: - Housing starts - New claims for unemployment - Bond yields - Orders for durable goods - Changes in investor sentiment
Lagging or confirming Indicators
Those that usually change after the economy has passed through one business cycle and is in another EX: - Prime interest rate - Change in CPI, particularly for services - Amount of business and consumer loan outstanding - Average duration of unemployment
Small Advisers
Those with < $25 million of AUM (assets under management) are regulated by one or more states unless the state in which the adviser has its principal office and place of business has not enacted a statute regulating advisers
Mid-sized Advisers
Those with between $25 mil - 100 mil of AUM are regulated by one or more states if 1. The adviser is registered with the state where it has its principal office and place of business 2. The adviser is subject to examination by that state authority
Large Advisers
Those with more than $100 mil AUM must register with SEC unless exemption is available, and state adviser laws are preempted for these advisers
Trust Company
Trust company typically owned by one of 3 entities: independent partnership, a bank, or a law firm, each of which specializes in managing estates and serving as a trustee for various types of trusts
Herding
When investors trade in the same direction or in the same securities and possibly even trade contrary to the information they have available
Amortization
When making mortgage payments, the borrower's monthly payments are allocated between repayment of the principal (original amount borrowed) and the interest payable on the unpaid principal balance
Substitution Effect
When the price of a good rises, consumers substitute other similar lower-priced goods
Income Effect
When the price of a good rises, consumers will discontinue or significantly reduce their use, unless their incomes are also rising at a comparable rate
Perkins Loan
With this federal loan, the institution determines whether the student needs the loan If the student does, he can borrow up to one specified amount per year for graduate study The Perkins Loan has the advantage of a low interest rate and a longer deferral period than Stafford loans
Closed-ended Questions
Yes or no answers. Limits data gathering
Expected Family Contribution (EFC)
an index number that colleges use to determine how much financial aid students would receive if they attend that school The EFC term is used on the Free Application for Federal Student Aid or FAFSA
CFP certificant AKA CFP professional
an individual who passed the CFP exam and fulfilled the E's: examination, education, experience and ethics requirement by the Board
Series 24
any person actively engaged in managing a member's securities or investment banking business, including supervising, soliciting, and conducting business, or in training persons, must qualify by this exam and register with FINRA as a general securities principal Series 7 or 62 is prerequisite for this license
Fitness Standards
character and fitness standards for individuals seeking to obtain CFP certification
Phishing
posing as a financial institution or company and sending spam over the Internet to entice an individual to provide personal information
Business Cycle
reflects movements in economic activity and illustrates the concepts of supply and demand
Depression
when the GDP has experienced a decrease in real terms for 6 consecutive quarters or a minimum of 18 months from a baseline of zero
Current (or short term) Liabilities
On statement of financial position Those due in < 1 year from the statement date Ex. promissory note
Long Term Liabilities
On statement of financial position Those due in > 1 year from the statement date
Credit Union
Credit unions, like banks, sponsor a number of financial products Members of these are provided with a convenient place to save and borrow, although membership may be restricted on the basis of employer or another association affiliation The National CU Share Insurance Fund (NCUSIF), an agency of the federal gov't, regulates CU's unless the institution is chartered by a state where separate regulation is required
Current ratio AKA Liquidity Ratio
Current assets (cash/cash equivalents) / Current liabilities (due < 1 year) Goal is 1.0 - 2.0 Higher ratio is preferable - if it's greater than 1, then the client can pay off short term liabilities with readily available liquid assets
Fair Debt Collection Practices Act
Debt collectors from engaging in certain practices such as contacting a debtor at his place of employment if the employer objects, harassing or intimidating a debtor, or using false/misleading practices
What is the appropriate date to ID the statement of financial position of a calendar year client for year 2017?
December 31, 2017
Letter of Engagement
Defines the legal relationship between the financial planner and the client.
Elastic
Demand for luxuries, such as a new boat, respond relatively more to price changes
Inelastic
Demand for necessities, such as good or gasoline, respond relatively little to price changes
Inflation
Denotes an increase in the general level of prices. It increases the cost of buying a home, durable goods, and consumption goods Rate of inflation is the rate of change in the general price level Disinflation indicates a decline in the rate of inflation
Disciplinary Rules and Procedures
Devised to ensure a fair and reasonable process for a CFP professional against whom allegations of C&S noncompliance are brought The Disciplinary and Ethics Commission is responsible for investigating, reviewing, and considering recommendations and issuing a final decision in these instances
Cognitive Errors
Due primarily to faulty reasoning and could arise from a lack of understanding proper statistical analysis techniques, information processing mistakes, faulty reasoning or memory errors. Can be corrected or mitigated with better training or information
Credit Card Accountability Responsibility and Disclosure Act of 2009 AKA CARD Act
Enacted to establish fair practices and to enable customers to better understand their credit transactions
FDIC insurance
Federal Deposit Insurance Corporation that protects the money in a bank account Basic FDIC insured amount of a depositor is $250,000 Deposits maintained in different categories of legal ownership are separately insured Accordingly, a depositor can have more than 250k of FDIC coverage in a single institution if the funds are owned in different ownership categories Common ownership categories include: - Single or individual ownership - Joint or joint tenancy - Retirement account like IRA - Revocable trust (250k limit is PER beneficiary with this type) NOTES: - FDIC insurance covers 50% of each joint accounts, per individual - Money market mutual funds are excluded
McCarran Ferguson Act of 1945
Federal legislation that made it clear that insurance was to be regulated on the state level, as long as the state implemented and executed this regulation adequately
Asset Accumulation Phase
Financial Life Cycle stage #1. Typically clients who are under the age of 45 (later if their children aren't independent). Debt is high, cash flow/net worth is low
Conservation/Protection Phase
Financial Life Cycle stage #2. Typically clients who are age 45-60, or immediately preceding client's planned retirement date. Debt is decreasing, cash flow/net worth is increasing
Distribution/Gifting Phase
Financial Life Cycle stage #3. Typically clients who are age 60 (or planned retirement age) until date of death. Distribution strategies are primary focus for estate planning. Debt is lower, cash flow/net worth are higher than previous years
Total Debt Ratio
Financial planners generally recommend that total debts do not exceed 36% of gross income.
2 types of cash outflows
Fixed and variable NOTE: taxes (income and payroll) are usually reported separately from other cash flows
Examples of variable outflows
Food expenses Utilities Clothing expenses Travel/entertainment NOTE: some variation of occurrence and amount
FAFSA
Free Application for Federal Student Aid
Emergency Fund
General rule of thumb = 3-6 months worth of living expenses, both fixed and variable
Federal Housing Administration (FHA)
Guaranteed by federal government through various programs Appeals to buyers who don't meet the underwriting requirements for conventional 15-30 year mortgages or ARMs and also may not have the 20% down payment Key feature = low initial down payment and sometimes lower interest rates given federal government's guarantee of repayment
Chapter 7 Bankruptcy
Historically been the most popular type of bankruptcy filed because an individual's personal unsecured debts are generally canceled
Advisor's Brochure
IAA (Investment Advisors Act) requires IA's entering into advisory contract with client to deliver a written disclosure statement detailing the IA's background and business practices Key document is Part 2A of Form ADV, aka the adviser's brochure Must clearly spell out all the details of the relationship and other business interests of the advisor
Open-Market Operations (OMOs)
If Fed wants to expand economic activity: buy additional gov't securities, therefore increasing monetary supply, lowering interest rates and increasing prices If Fed wants to contract economic activity: sell gov't securities from its existing inventory, therefore decreasing monetary supply, driving up interest rates and lowering prices
Annuity Due
If each of these payments towards a financial goal is made at the beginning of each period (Ex. with lease periods), the series of payments is called an annuity due
Annuity
If these payments to save for a future goal are equal and regular, this series of savings deposits or PMTs is called an annuity
Mirroring
Imitating clients' gestures and physical positions or by using a similar verbal style
Prime Loans
In the US, mortgages with higher LTV ratios made to borrowers with good credit, are prime loans Mortgages to borrowers of lower credit quality, or that have a lower-priority claim to the collateral in the event of default, are subprime loans
Context
Includes past history or any conditions that presently exist
Examples of taxes on statement of cash flows
Income taxes - federal, state, local FICA taxes AKA payroll - Social Security, Medicare Self-employment taxes
Budget
Income, expenses, and spending patterns are monitored and evaluated through this
Adjustment
Market participants who stay anchored to an initial estimate and do not adjust for new information
College savings plan
Market-based performance Suitable for risk-tolerance investor No state-guaranteed return on assets Open enrollment Available for out-of-state tuition costs without any refund difference Covers tuition, mandatory fees, books, required supplies, room and board (as long as student attends at least half time)
Consumer Debt Ratio
Monthly consumer debt payments / Monthly net income NOTE: Monthly consumer debt payments = debt other than mortgage Monthly net income = gross income - taxes Goal < 20%
Housing Cost Ratio
Monthly non-discretionary housing costs / Monthly gross income Where, Monthly non-discretionary housing costs = PITI (principal, interest, property taxes, and insurance) Goal < or = 28%
Examples of fixed outflows
Mortgage payments Insurance payments Auto loan payments Property taxes NOTE: there are some predictability in these
UGMA/UTMA 529 accounts
Most states that have previously established a Section 529 QTP plan will permit a contributor to roll over UGMA/UTMA proceeds to the 529 plan account on behalf of the child
Who is excluded from the definition of IA?
NOTE - excluded means they don't meet the ABC definition - LATE: lawyers, accountants, teachers, engineers, whose performance of advisor services is solely incidental to the practice of their profession - A BD whose performance of these services is solely incidental to their business, and receive no special compensation - A bank or bank holding company - A publisher of a newspaper or financial publication - A person whose advice is limited to securities issued and guaranteed by US gov't
Who is exempt from registering as IA?
NOTE: exempt means they meet the ABC definition but they are bigger and more knowledgeable/tenured so they don't need the extra regulation - Intrastate advisor for unlisted securities - Adviser whose only clients are INS companies - Foreign private advisers - Charitable organizations/plans - Commodity trading advisors - Private fund advisors - Venture capital advisers - Advisers to small business investment companies (SBICs)
Net Present Value (NPV)
NPV is the amount determined by discounting a potential investment's projected cash flow inflows at the rate of return (also known as the cost of capital or opportunity cost) required by the investor (either an individual or an institution, and subtracting the original investment (or initial cash flow) If the result is positive, the investor will earn a rate of return greater than the required rate of return and should consider making the investment If the result is negative, then the investor will earn a rate of return less than the required rate of return and should reject the investment
Emotional Biases
Not related to conscious thought and stem from feelings, impulses, or intuition. Difficult to overcome and may have to be accommodated
Endowment Bias
Occurs when an asset is felt to be special or more valuable simply because it is already owned. Very common with inherited assets
Status Quo Bias
Occurs when comfort with an existing situation leads to an unwillingness to make changes
Self-control Bias
Occurs when individuals lack self-discipline and favor immediate gratitude over LT goals
Conservation Bias
Occurs when market participants initially form a rational view, but fail to change that view when new information becomes available
Regret-aversion Bias
Occurs when participants do nothing out of excess fear that actions could go wrong
Net Cash Flow
On statement of cash flow Formula: net cash flow = inflows - outflows (fixed, variable, and taxes) Will be a cash surplus or a cash deficit
Cash Outflows
On statement of cash flows Expenditures that were made during a specific period of time
Cash Inflows
On statement of cash flows Income (like salary, wages, or both) that were received during a specific period of time
Investments (invested assets)
On statement of financial position Commonly in market Ex. retirement funds
Net Worth
On statement of financial position Goal is to increase every year Formula: assets - liabilities = net worth OR assets = liabilities + net worth
Personal Use Asset
On statement of financial position Owned and used by client as a part of their personal lifestyle, not as an investment
Cash Flow Statement AKA Statement of Cash Flow
Summarizes the items of income (including wages, salary, or both) that were received (cash inflows) and the expenditures that were made (cash outflows) during a specific period of time (ex. monthly, quarterly, or annually)
Affinity Bias
Tendency to favor things that can be identified with emotionally because they are similar to us. Ethnic, religion, or alumni affiliations can be the source of this bias.
FINRA
The Financial Industry Regulatory Authority (FINRA) is a self-regulatory organization (SRO), which has primary authority to regulate the registration of IAs, any planner or BD who wishes to sell securities must register with FINRA
Investment Adviser
The IAA provides 3 criteria, all of which must be met (ABC) - Providing Advice or issuing reports or analysis regarding securities - Being in the Business of providing such services - Being Compensated for such services
Emotional Intelligence
The ability to recognize emotional expressions, as well as selecting socially appropriate responses to circumstances and other's emotions
Future Value (FV) of an Annuity
The accumulation of funds to meet a future financial goal
Supply
The amount of good or service available for purchase by suppliers at a given price In general, the higher the price that can be obtained for the good or service, the higher the quantity supplied Supply curve slopes upward from left to right, with price on the vertical axis, and quantity supplied on horizontal
Cognitive behavioral approach to financial counseling
The approach to financial counseling that believes a client's attitudes, beliefs, and values influence their behavior. Tries to replace negative beliefs with positive attitudes that should lead to better financial results
Risk Perception
The client's assessment of risks being traded off
Opportunity Cost
The cost of capital
Risk Capacity
The degree to which a client's financial resources can cushion risk
Internal Rate of Return (IRR)
The discount rate that, when applied to the cash flows of an investment, equates the net cash inflows to the net cash outflows If the IRR is greater than or equal to the investor's required rate of return, then the investor should consider making the investment If the IRR is less than the investor's required rate of return, the investor should reject the investment IRR tells you the rate of return that will be realized, given the original investment amount and projected cash flows
Physical Mirroring
The financial planner uses the clients body language
Future Value (FV) of a single amount
The future value of a dollar Single amount is the PV lump-sum amount, FV of that sum is the value to which it grows over a period of time at an assumed rate of return
Interest-Only Mortgages
The homeowner tries to keep the mortgage payment at a minimum while hoping that the FMV of the home will increase so that the principal amount will be paid off by the sale proceeds
If 2 or more children in the same household incur qualified expenses in the same year: FOR THE CREDITS*
The parents may claim a Lifetime Learning Credit for the family An American Opportunity tax credit may be claimed for each eligible child A Lifetime Learning Credit may be claimed for one child and an American credit may be claimed for each other other eligible children
Equilibrium
The price of a G/S and how much will be produced is indicated at the intersection of the S & D curves = equilibrium Prices should always move toward equilibrium
Compounding
The process of interest being earned on increasing sums of principal and interest over time When a single sum is converted to a future value (FV) that represents the value to which the single sum grows over a given period at an assumed or actual rate of return
Demand
The quantity of goods and services consumers want to purchase at a given price The relationship between the price of a good and the quantity purchased by the consumer is plotted on a demand curve Generally, the higher the price, the lower the demand The demand curve is therefore usually represented as sloping downwards from left to right
Discount Rate
The rate at which banks can borrow from any of the FRBs If the Fed raises the discount rate, it increases the cost of borrowing and discourages member banks from borrowing funds → contracts MS If the Fed lowers the discount rate, it decreases cost of borrowing so banks are able to borrow at lower rates and lend more money → increases MS in circulation and this stimulates demand
Prime Rate
The rate of interest charged by commercial banks to its best business and personal customers This rate is set directly by commercial banks NOT the fed. However, it is normally about 3% higher than the federal funds rate
Pitch
The sound quality of highness or lowness in voice; depends on frequency
Gross National Product GNP
The total market value of all G/S produced by US residents' labor and property Unlike GDP, which defines production based on geographical location of production, GNP measures production based on ownership
Gross Domestic Product GDP
The total monetary value of all G/S produced within the domestic US over the course of a given year, including income generated domestically by a foreign firm Measured in constant dollars, which translates into real GDP after accounting for inflation (subsequent to a predetermined base or index year)
Risk Tolerance
The tradeoffs the clients are willing to make between potential risks and rewards
Discounting
The value today of a single amount that will be received in the future when discounted (discounting) for a given number of periods at a given interest rate
Home Equity Loans and Lines of Credit
These are 2nd mortgages that use the current equity in the homeowner's primary residence to provide money for home improvements and other purposes Loan receives a lump sum - borrowers repay loan with equal monthly payments over a fixed term Line of credit (AKA HELOC) - provides a set amount of credit and funds are drawn out as needed - only make payments on amount borrowed, not the full amount
Supplemental Educational Opportunity Grants (SEOGs)
These are federal grants given to students, with priority given to students who also received Pell Grants
Federal Work-Study Program
These programs provide students with part-time jobs while attending colleges In turn, the institution disburses the earned funds to the student
Standards of Conduct AKA Standards
They outline obligations between CFPs and current/prospective clients, employers, and the CFP Board regarding information, property, disclosure, and the defining of relationships
Pell Grant
This federal grant is available to undergraduates pursuing degrees only and is available if the family's EFC does not exceed a specified amount, as determined annually
Subsidized Stafford Loan
This is a need-based loan The US Dep't of Education pays the accrued interest while the student is in school and during any deferment periods
Unsubsidized Stafford Loan
This is a non-need-based loan Interest begins to accrue as soon as funds are disbursed However, the interest may be capitalized while the student is in school and during any deferment period
Qualified Series EE Bonds
Type of education savings bond issued after 1989
Series EE or I Bonds
Type of education savings bond that must have been issued to an individual at least 24 years old at the time of issuance
Fixed (equal) payments
Unchanging over the entire period
Kinesthetic Learning Style
Understands concepts using a hands-on approach. Writing goals/objectives in bullet points is most effective. Express themselves through body language and tend to enjoy physical activities
Series 66
Uniform Combined State Law Examination, which combines the 63 with 65 license requirements An individual who holds this license may provide IA and sell securities to any client in any state 66 candidates must pass the 7 prior to registering for 66
Series 63
Uniform Securities Agent State Law Examination State securities law requires individual to pass qualification exam to sell securities within their states Almost all states require individuals to pass this exam as a condition to state registration
Lifetime Learning Credit
Up to $2000 credit per taxpayer return Available for all years of postsecondary education and courses Student does not need to be pursuing an undergraduate degree or other credential Credit is available for one or more courses without regard to enrollment status Felony drug conviction rule does not apply
American Opportunity Tax Credit
Up to $2500 credit per student Available first 4 years of postsecondary education Student must be pursuing an undergraduate degree or other credential Student must be enrolled at least half-time for academic period No felony drug conviction is permitted
Required Rate of Return
What the investor must make from the investment in order to pursue it
Privacy Act of 1974
establishes a code of fair information practices that regulates the types of personal information the federal gov't can collect and how this information can be used
Series 7
broadest license and entitles holder to sell any security, including stocks and ETFs
Code of Ethics and Standards of Conduct (AKA Code and Standards)
define the expected level of professional conduct and practice for the CFP
Series 6
entitled the holder to sell all open-end investment companies (mutual funds), variable annuities, variable life INS, and initially offered (not secondary) unit investment trusts
Skimming
involves the stealing of credit or debit card information by using a special storage device when processing these types of cards
Stagflation
occurs when inflation and unemployment both rise and the general growth of the economy is slow as business output falls
Recession
occurs when the GDP has experienced a decrease in real terms for 2 consecutive quarters or a minimum of 6 months from a baseline of zero
Section 529 plans AKA Qualified Tuition Programs QTP
tax-advantaged program that helps families save money for college expenses incurred when pursuing a degree QTP offers significant income tax benefits, including the ability to make contributions regardless of the contributor's AGI, tax-free earnings growth, and tax-free withdrawals RULE: must be used to pay for qualified higher education expenses For distributions after December 31, 2017, qualified higher education expenses include tuition at an elementary or secondary public, private, or religious school UP TO a $10,000 limit per tax year If withdrawals are not used to pay for qualified education expenses, the income portion is included in the gross income of the bene and generally subject to a 10% penalty tax
Macroeconomics
the study of an economy as a whole Ex. examines factors that affect a country's economic growth Macroeconomic conditions affect the actions and behaviors of business, consumers, and gov'ts
Microeconomics
the study of how individuals and companies make decisions to allocate scarce resources, which helps in understanding how they prioritize their wants
Economics
the study of production, distribution, and consumption, aka the study of choices in the presence of scarce resources
