Essentials of Personal Financial Planning

Introduction xiii
<p>Chapter 1: Personal Financial Planning 1</p>
<p>Introduction 2</p>
<p>Phases of the Personal Financial Planning Engagement 2</p>
<p>Engage 3</p>
<p>Discover 4</p>
<p>Analyze 5</p>
<p>Recommend 5</p>
<p>Expanded or Additional Engagements 6</p>
<p>Behavioral and Psychological Methods of Building Client Rapport 8</p>
<p>Active Listening 8</p>
<p>Behavioral Biases and Heuristics 9</p>
<p>Socratic Questioning 9</p>
<p>Application of Behavioral Techniques to Client Relationships 10</p>
<p>Gathering Data: Quantitative Versus Qualitative Data 12</p>
<p>Quantitative Data 12</p>
<p>Qualitative Data 13</p>
<p>Risk Tolerance 14</p>
<p>Life Planning and the Personal Financial Planning Process 14</p>
<p>Chapter Review 16</p>
<p>Chapter 2: The Statement on Standards in Personal Financial Planning Services No. 1 19</p>
<p>Introduction 20</p>
<p>The Pathway to Standards in PFP 21</p>
<p>A Timeline of Personal Financial Planning in the United States 21</p>
<p>Statement on Standards in Personal Financial Planning Services 23</p>
<p>Personal Financial Planning Services 24</p>
<p>Applicability 26</p>
<p>Requirements of the Member 27</p>
<p>Steps in a Personal Financial Planning Engagement 27</p>
<p>Planning the PFP Engagement 27</p>
<p>Selecting Other Service Providers 28</p>
<p>Obtaining and Analyzing Information 28</p>
<p>Developing and Communicating PFP Recommendations 29</p>
<p>Other Types of Personal Financial Planning Engagements 29</p>
<p>Implementation Engagement 29</p>
<p>Monitoring Engagement 30</p>
<p>Updating Engagement 30</p>
<p>Chapter Review 30</p>
<p>Chapter 3: Time Value of Money Concepts 35</p>
<p>Introduction 36</p>
<p>Tools for Calculating Time Value of Money 36</p>
<p>Efficiency 37</p>
<p>Establishing Realistic Expectations 37</p>
<p>Fundamental Time Value of Money Functions 38</p>
<p>Present Value 39</p>
<p>Periods (n) 39</p>
<p>Interest (i) 40</p>
<p>Payment (PMT) 41</p>
<p>Future Value (FV) 42</p>
<p>Mode 42</p>
<p>Examples 43</p>
<p>Unequal Cash Flows 46</p>
<p>Present Value 47</p>
<p>Net Present Value 48</p>
<p>Internal Rate of Return 48</p>
<p>Serial Payments 48</p>
<p>Examples 49</p>
<p>Chapter Review 52</p>
<p>Chapter 4: Fundamentals of Personal Financial Planning 57</p>
<p>Introduction 58</p>
<p>Personal Financial Planning Assumptions 58</p>
<p>Personal Statement of Financial Position 60</p>
<p>Spending Plan 62</p>
<p>Financial Ratios 65</p>
<p>Debt–to–Income Ratio 65</p>
<p>PITI Ratio 66</p>
<p>Savings Ratio 66</p>
<p>Emergency Fund 69</p>
<p>Financing Strategies 69</p>
<p>Automobile Purchase or Lease 70</p>
<p>Home: Purchase or Rent 70</p>
<p>Bankruptcy 74</p>
<p>Consumer Protection Issues 74</p>
<p>The Fair Credit Reporting Act and Identity Theft 74</p>
<p>Electronic Fund Transfer Act 75</p>
<p>Fair Credit Reporting Laws 75</p>
<p>Chapter Review 76</p>
<p>Chapter 5: Estate Planning Basics 79</p>
<p>Introduction 80</p>
<p>Fundamentals of Estate Planning 80</p>
<p>The Unified Tax System 81</p>
<p>Generation Skipping Transfer Tax 81</p>
<p>Credits, Deductions, and Other Tax Reductions 81</p>
<p>Step Up In Basis 83</p>
<p>Probate and Intestacy 83</p>
<p>Expatriate Issues 84</p>
<p>Impact of Property Ownership and Beneficiary Designations 84</p>
<p>Community Property and Common Law 84</p>
<p>Basic Estate Planning 85</p>
<p>Data Gathering 86</p>
<p>State Estate Tax 87</p>
<p>Estate Tax Filing Requirements 87</p>
<p>Gross Estate 88</p>
<p>Adjusted Gross Estate 88</p>
<p>Prior Transfer Credit 88</p>
<p>Sources for Estate Liquidity 89</p>
<p>Estate Planning Documents 89</p>
<p>Wills 89</p>
<p>Powers of Attorney 90</p>
<p>Advance Medical Directives 90</p>
<p>Beneficiary Forms 91</p>
<p>Trusts 91</p>
<p>Crummey Power 92</p>
<p>Testamentary Trust 92</p>
<p>Powers of Appointment 92</p>
<p>Chapter Review 93</p>
<p>Chapter 6: Charitable Gift Planning Basics 97</p>
<p>Introduction 98</p>
<p>What is a Charity? 98</p>
<p>Types of Gifts 99</p>
<p>Real Estate 100</p>
<p>Personal Property 100</p>
<p>Charitable Trusts and Planning Tools 101</p>
<p>Charitable Lead Trust 101</p>
<p>Charitable Remainder Trust 102</p>
<p>Wealth Replacement Trust 104</p>
<p>Pooled Income Fund 104</p>
<p>Other Charitable Vehicles 104</p>
<p>Taxation and Income Tax Planning 105</p>
<p>Application of Limitations 105</p>
<p>Carryovers of Excess Charitable Contributions 106</p>
<p>Tax Impacts of Transfers 107</p>
<p>Qualified Charitable Distributions 108</p>
<p>Chapter Review 109</p>
<p>Chapter 7: Principles of Risk and Insurance 113</p>
<p>Introduction 114</p>
<p>Risk Management Concepts 114</p>
<p>Risk 114</p>
<p>Peril and Hazard 115</p>
<p>The Law of Large Numbers and Adverse Selection 115</p>
<p>Self–Insurance 116</p>
<p>Managing Risk 116</p>
<p>Controlling Risk 116</p>
<p>Financing Risk 117</p>
<p>The Risk Management Process 117</p>
<p>Risk Management Matrix 118</p>
<p>Insurance Policy and Company Selection 119</p>
<p>Types of Insurance 120</p>
<p>Life/Health/Disability 121</p>
<p>Property Risk and Insurance 121</p>
<p>Legal Aspects of Insurance 123</p>
<p>Offer and Acceptance 123</p>
<p>Adequate Considerations 124</p>
<p>Competent Parties 124</p>
<p>Legal Purpose 124</p>
<p>Legal Form 124</p>
<p>Chapter Review 125</p>
<p>Chapter 8: Insurance Planning Basics, Part I 129</p>
<p>Introduction 130</p>
<p>Life Insurance 130</p>
<p>Life Insurance Types 131</p>
<p>Term Life Insurance 132</p>
<p>Permanent Life Insurance 132</p>
<p>Additional Life Insurance Policy Considerations 134</p>
<p>Contractual Provisions of Life Insurance 134</p>
<p>Riders 135</p>
<p>Nonforfeiture Options 136</p>
<p>Settlement Options 137</p>
<p>Advanced Death Benefits 138</p>
<p>Health Insurance 139</p>
<p>Hospital, Surgical, and Physician s Expense Insurance Plans 139</p>
<p>Managed Care Plans 140</p>
<p>Medicare (Parts A, B and D) 141</p>
<p>Medicare Supplement Insurance (MEDIGAP) 142</p>
<p>Medicare Advantage Plan (Part C) 142</p>
<p>Medicaid 142</p>
<p>Tricare 143</p>
<p>Health Savings Accounts and Other Tax–Favored Health Plans 143</p>
<p>Health Savings Accounts (HSA) 143</p>
<p>Health Flexible Spending Arrangements (FSA) 144</p>
<p>Health Reimbursement Arrangements (HRA) 144</p>
<p>Chapter Review 144</p>
<p>Chapter 9: Insurance Planning Basics, Part II 149</p>
<p>Introduction 150</p>
<p>Annuities 150</p>
<p>Deferred Fixed, Variable, or Equity–Indexed Annuity 150</p>
<p>Taxation 151</p>
<p>Payment Options 151</p>
<p>Disability Insurance 152</p>
<p>Own Occupation Versus any Occupation 152</p>
<p>Continuance Provisions 153</p>
<p>Additional Provisions 154</p>
<p>Long–term Care Insurance 155</p>
<p>Qualified Care 155</p>
<p>Taxation and Income Tax Planning 156</p>
<p>Medicare Limitations 156</p>
<p>Property and Casualty Insurance 157</p>
<p>Homeowners Insurance 157</p>
<p>Personal Auto Insurance 161</p>
<p>Umbrella Liability Insurance 164</p>
<p>Chapter Review 164</p>
<p>Chapter 10: Investment Basics 169</p>
<p>Introduction 170</p>
<p>Securities Defined 170</p>
<p>The Role of the Personal Financial Planner and Compensation 170</p>
<p>Business Models 172</p>
<p>Broker–Dealer Model 172</p>
<p>Registered Investment Adviser (RIA) Model 172</p>
<p>Dual–License Model 173</p>
<p>CPA Disclosure Requirements 173</p>
<p>The Investment Planning Process 174</p>
<p>The Planning Phase 174</p>
<p>Determine and Prioritize Client s Specific Financial Goals 175</p>
<p>Client s Financial Condition 175</p>
<p>Assessing Risk Tolerance 175</p>
<p>Identify Unique Needs 176</p>
<p>Identify Potential Client Investment Constraints 177</p>
<p>Chapter Review 178</p>
<p>Chapter 11: Investment Planning 181</p>
<p>Introduction 182</p>
<p>Capital Markets 182</p>
<p>Types of Investment Vehicles 183</p>
<p>Cash and Cash Equivalents 183</p>
<p>Guaranteed Investment Contract 185</p>
<p>Bond 185</p>
<p>Stock 190</p>
<p>Mutual Fund 190</p>
<p>Exchange Traded Fund 191</p>
<p>Real Estate 192</p>
<p>Alternative Investments 192</p>
<p>Investment Valuation 193</p>
<p>Investment Strategies 194</p>
<p>Market Timing 194</p>
<p>Dollar–Cost Averaging 194</p>
<p>Systematic Withdrawal Plan 195</p>
<p>Bond Ladder 195</p>
<p>Option Strategies 195</p>
<p>Short Selling 195</p>
<p>Margin Account 196</p>
<p>Chapter Review 197</p>
<p>Chapter 12: Planning for Retirement and Financial Independence 199</p>
<p>Introduction 200</p>
<p>PFP Assumptions for Financial Independence 201</p>
<p>Inflation 201</p>
<p>Life Expectancy 202</p>
<p>Financial Independence Spending Plan 203</p>
<p>Modeling Techniques 204</p>
<p>Investment Returns 204</p>
<p>Income Sources 205</p>
<p>Time Value of Money and Inflation–Adjusted Return 208</p>
<p>Mini Case Study 208</p>
<p>Chapter Review 210</p>
<p>Chapter 13: Planning Vehicles for Retirement 215</p>
<p>Introduction 216</p>
<p>Social Security Benefits 216</p>
<p>Eligibility and Benefits 217</p>
<p>Spousal Benefits 218</p>
<p>Working After Retirement 218</p>
<p>Taxation of Benefits 219</p>
<p>Government Pension Offset 219</p>
<p>Railroad Employees 219</p>
<p>Employer–Sponsored Retirement Plans 219</p>
<p>ERISA: Overview of Qualified Plan Rules 221</p>
<p>Vesting 223</p>
<p>Defined Benefit Plans 224</p>
<p>Defined Contribution Plans 226</p>
<p>Other Retirement Plans 232</p>
<p>Additional Employer–Sponsored Retirement Plans 234</p>
<p>Individual Retirement Accounts 234</p>
<p>Spousal IRA 235</p>
<p>Nondeductible IRA 235</p>
<p>Roth IRA 235</p>
<p>Roth IRA Conversions 236</p>
<p>Chapter Review 236</p>
<p>Chapter 14: Elder Planning Basics 239</p>
<p>Introduction 240</p>
<p>Nonfinancial Factors 240</p>
<p>Types of Care 241</p>
<p>Communicating with Cognitively Impaired Clients 242</p>
<p>Incapacity and Incompetency 242</p>
<p>Financial Decisions 243</p>
<p>Financial Fraud 243</p>
<p>Housing Decisions 244</p>
<p>Health Care Options 245</p>
<p>Government Programs 245</p>
<p>Veterans Benefits 247</p>
<p>Funding Sources for Elder Care 248</p>
<p>Taxation and Income Tax Planning 250</p>
<p>Filing a Tax Return 250</p>
<p>Medical Expenses 250</p>
<p>Home Care 251</p>
<p>Long–Term Care 251</p>
<p>Integration and Application of Elder Planning with Personal Financial Planning 251</p>
<p>Estate Planning 251</p>
<p>Advance Directives 252</p>
<p>Health Care Proxy 252</p>
<p>Power of Attorney and Durable Power of Attorney 252</p>
<p>Chapter Review 254</p>
<p>Chapter 15: Education Planning Basics 257</p>
<p>Introduction 258</p>
<p>Funding Methods 258</p>
<p>Qualified Tuition Programs (529 Plans) 258</p>
<p>Coverdell Education Savings Accounts 260</p>
<p>Uniform Gifts to Minors Act (UGMA) and Uniform Transfers to Minors Act (UTMA) 261</p>
<p>Education Savings Bond Program 261</p>
<p>Financial Aid 262</p>
<p>Federal Student Aid 262</p>
<p>Scholarships 264</p>
<p>Loans 264</p>
<p>Taxation and Income Tax Planning 265</p>
<p>Taxation of Scholarships and Grants 265</p>
<p>Credits 265</p>
<p>Deductions 266</p>
<p>Educational Assistance Program 267</p>
<p>Integratuion and Application of Education Planning with PFP 267</p>
<p>Risk Management and Insurance Planning 267</p>
<p>Retirement Planning 267</p>
<p>Estate Planning 268</p>
<p>Investment Planning 268</p>
<p>Education Needs Analysis Case Study 268</p>
<p>Step One Calculate the Future Value of One–Third of the Cost of College 269</p>
<p>Step Two Calculate the Present Value of the Serial Payments Need to Fund College 269</p>
<p>Step Three Calculate the Total Amount Needed 270</p>
<p>Chapter Review 270</p>
<p>Chapter 16: Applications in Estate Planning 273</p>
<p>Introduction 274</p>
<p>Trusts Revisited 274</p>
<p>Credit Shelter Trust 274</p>
<p>Marital Trust 275</p>
<p>Qualified Terminable Interest Property Trust 275</p>
<p>Disclaimer Trust 275</p>
<p>Additional Trust Types 276</p>
<p>Gifting Strategies 277</p>
<p>Interest–Free Loans 277</p>
<p>Installment Sales to Family Members 277</p>
<p>Self–Cancelling Installment Note 278</p>
<p>Additional Tax Issues 278</p>
<p>Generation–Skipping Transfer (GST) Tax 278</p>
<p>Income in Respect of the Decedent 279</p>
<p>Closely Held Business Issues 280</p>
<p>Special Valuation Under Section 2032(A) Farm and Real Estate 280</p>
<p>Section 6166 Deferrals of Estate Tax 280</p>
<p>Buy–Sell Agreement 281</p>
<p>Section 303 Redemption 282</p>
<p>Other Estate Planning Considerations 283</p>
<p>Qualified Domestic Trust 283</p>
<p>Planning for Blended Family Relationships 283</p>
<p>Cohabitation 284</p>
<p>Integration and Application of Estate Planning with PFP 284</p>
<p>Life Insurance 284</p>
<p>Retirement Planning 285</p>
<p>Private Foundation 285</p>
<p>Chapter Review 285</p>
<p>Chapter 17: Applications in Risk Management 289</p>
<p>Introduction 290</p>
<p>Life Insurance Applications 290</p>
<p>Life Insurance Illustrations 290</p>
<p>Settlements 291</p>
<p>Modified Endowment Contracts 293</p>
<p>Transfer for Value Rules, Section 101(A)(2) 293</p>
<p>Section 1035 Exchanges 294</p>
<p>Impact on Other Aspects of Personal Financial Planning 294</p>
<p>Annuities 296</p>
<p>Medical Insurance 296</p>
<p>Taxation and Income Tax Planning 296</p>
<p>Affordable Care Act 297</p>
<p>Healthcare Marketplace Individual and Small Employer 298</p>
<p>Premium Tax Credits 298</p>
<p>Individual Shared Responsibility Provision 298</p>
<p>Employer Shared Responsibility Provision 298</p>
<p>Disability Insurance 299</p>
<p>Long–term Care Insurance 299</p>
<p>Taxation and Income Tax Planning 299</p>
<p>Retaining the Risk The Self–Insurance Option 300</p>
<p>Integration and Application of Long–Term Care Insurance with Personal Financial Planning 301</p>
<p>Property and Casualty Insurance 301</p>
<p>Additional Insured Endorsement 301</p>
<p>Taxation and Income Tax Planning 302</p>
<p>Business Owners Insurance 302</p>
<p>Chapter Review 303</p>
<p>Chapter 18: Applications in Investment Planning 307</p>
<p>Introduction 308</p>
<p>Perform Financial Analysis 308</p>
<p>Investment Risk 308</p>
<p>Taxation and Income Tax Planning 309</p>
<p>Assess Impact of Constraints 309</p>
<p>Asset Class Allocation Strategy 310</p>
<p>The Investment Policy Statement 310</p>
<p>The Monitoring and Updating Phase 315</p>
<p>Measuring Performance and Goal Achievement 316</p>
<p>Reevaluation of the IPS 317</p>
<p>Integration and Application of Investment Planning with PFP 317</p>
<p>Risk Management and Insurance Planning 317</p>
<p>Planning for Financial Independence 318</p>
<p>Estate Planning 318</p>
<p>Charitable Planning 318</p>
<p>Chapter Review 319</p>
<p>Chapter 19: Applications in Planning for Retirement 323</p>
<p>Introduction 324</p>
<p>Employer Considerations 324</p>
<p>Contribution Limits 325</p>
<p>Defined Benefit Plans 325</p>
<p>Defined Contribution Plans 327</p>
<p>Retirement Distribution Optimization Planning (Income Management) 328</p>
<p>Avoiding Early Withdrawal Penalties 329</p>
<p>Employer Stock and Net Unrealized Appreciation (NUA) 330</p>
<p>Required Beginning Dates and Minimum Distributions 332</p>
<p>Annuity Options 333</p>
<p>Lump–Sum Distributions 334</p>
<p>Qualified Domestic Relations Order 335</p>
<p>Income Tax Issues 336</p>
<p>Incorporating Tax Rate Diversification in the Choice of Retirement Savings Vehicles 336</p>
<p>Impact of Tax–Loss Harvesting in the Retirement Planning Process 336</p>
<p>Investment Management During Retirement 338</p>
<p>Withdrawal Rates 339</p>
<p>Asset Allocation 339</p>
<p>Integration and Application of Retirement Planning in the PFP Process 340</p>
<p>Life Expectancy 340</p>
<p>Asset Protection 340</p>
<p>Chapter Review 341</p>
<p>Chapter 20: Applications in Employee Benefits Planning 345</p>
<p>Introduction 346</p>
<p>Group Insurance Benefits 346</p>
<p>Group Disability Insurance 346</p>
<p>Group Life Insurance 347</p>
<p>Group Medical Insurance 348</p>
<p>Section 125 Cafeteria Plans 350</p>
<p>Group Long–Term Care Insurance 351</p>
<p>Group Dental Insurance 351</p>
<p>Group Vision Insurance 351</p>
<p>Other Employee Benefits 352</p>
<p>Fringe Benefits 352</p>
<p>Adoption Assistance Program 353</p>
<p>De Minimis Benefits 353</p>
<p>Employee Achievement Awards 353</p>
<p>Educational Assistance Program 354</p>
<p>Prepaid Legal Services 354</p>
<p>Retirement Planning Services 354</p>
<p>Job Placement or Outplacement Services 354</p>
<p>Meals 354</p>
<p>On–Premise Athletic Facilities 355</p>
<p>Qualified Moving Expenses 355</p>
<p>Chapter Review 355</p>
<p>Chapter 21: Applications in Executive Compensation Planning 359</p>
<p>Introduction 360</p>
<p>Executive Compensation Agreements 360</p>
<p>Employment Agreement 360</p>
<p>Severance Agreement 360</p>
<p>Noncompete Agreement 360</p>
<p>Other Arrangements 361</p>
<p>Nonqualified Deferred Compensation 363</p>
<p>Funded and Unfunded Plans 364</p>
<p>Types of Nonqualified Deferred Compensation Plans 364</p>
<p>Equity Compensation Plans 365</p>
<p>Restricted Stock Plan 366</p>
<p>Phantom Stock Plan 366</p>
<p>Qualified Employee Stock Purchase Plan 367</p>
<p>Incentive Stock Option and Nonqualified Stock Option 367</p>
<p>Stock Appreciation Right 368</p>
<p>Section 83(B) Election 368</p>
<p>Top–Hat Plan 369</p>
<p>Chapter Review 369</p>
<p>Chapter 22: Applications in Personal Financial Planning in Special Circumstances 373</p>
<p>Introduction 374</p>
<p>Housing 374</p>
<p>Sale of Principal Residence 374</p>
<p>Vacation Home 376</p>
<p>Household Employees 376</p>
<p>Closely Held Business Basics 378</p>
<p>Entity Selection Process 378</p>
<p>Application of Trusts 382</p>
<p>Employing Spouse or Children and FICA Taxes 382</p>
<p>Business Applications of Insurance 382</p>
<p>Divorce 383</p>
<p>Income Tax Considerations 384</p>
<p>Statement on Standards in Personal Financial Planning and Conflicts of Interest 385</p>
<p>Chapter Review 385</p>
<p>Chapter 23: Delivery Models and Regulatory Issues 389</p>
<p>Introduction 390</p>
<p>Regulatory Landscape 390</p>
<p>Regulatory Bodies 390</p>
<p>Significant Federal Legislation 391</p>
<p>Significant State Legislation 392</p>
<p>Financial Services Industry Regulations and Requirements 393</p>
<p>Securities Licensing 393</p>
<p>Insurance Licensing 394</p>
<p>Regulatory Investment Reporting 395</p>
<p>Delivery Platforms (Business Models) 395</p>
<p>Investment Advisers 395</p>
<p>Registered Investment Adviser 397</p>
<p>Broker–Dealer 398</p>
<p>Insurance Company 398</p>
<p>Trust Company 398</p>
<p>Chapter Review 399</p>