Financial Planning: The Process, Statements, and Client Data
The planning process
Expect questions on the six-step financial planning process: establishing the engagement, gathering data, analyzing the situation, developing recommendations, implementing, and monitoring. Know the purpose of a written engagement letter, the role of the financial planning standards in defining the fiduciary-style duty of care, and the difference between a financial plan and a product sale. Candidates should be able to identify when a plan must be updated versus reviewed.
Statements and ratios
Be able to construct and interpret a net worth statement (assets minus liabilities) and a cash flow statement (income minus expenses). Learn the standard ratios: emergency fund (liquid assets divided by monthly expenses, typically three to six months), savings rate, debt service ratio, gross debt service ratio, and total debt service ratio. Questions often ask which ratio reveals a problem and what action follows.
Time value and goal analysis
Understand present and future value, the difference between nominal and real returns, and the effect of inflation on goal funding. Know how to adjust a savings target for an assumed return and how to treat a defined-benefit pension in a capital-needs analysis. Recognize the trap of using a nominal return to fund a real goal without adjusting for inflation.
Traps
Watch for questions that mix up assets and cash flow, count a principal residence in the emergency fund, or treat a credit card balance as long-term debt in the TDS ratio. Also watch for the assumption that a higher return always improves a plan, ignoring risk tolerance and liquidity.
Rule of thumb
Emergency fund equals three to six months of essential expenses held in liquid, low-volatility assets. If monthly essentials are $4,000, target $12,000 to $24,000.