AFP Exam 1 cheat sheet

Fiduciary duty requires placing client interests ahead of the planner's own; suitability standards are weaker and only require recommendations be appropriate.

The six-step planning process: establish engagement, gather data and goals, analyze, develop recommendations, implement, monitor.

Material conflicts of interest must be disclosed in writing; disclosure alone does not cure a conflict that biases advice.

Compensation models: fee-only (no commissions), fee-based (fees plus commissions), commission-only; each creates different conflict profiles.

Confidentiality is limited by legal compulsion, client permission, and the need to defend against client allegations.

Practice standards define what a client is entitled to expect; they are not aspirational ethics but enforceable minimums of care.

Document the scope of engagement in writing: services included, excluded, fee schedule, and termination terms.

Planner competence must match engagement complexity; refer or decline when the engagement exceeds documented expertise.

Quantitative data: income, assets, liabilities, cash flows, insurance coverage, tax returns. Qualitative data: goals, risk tolerance, time horizon, health, values.

Goal specificity rule: a goal needs a target amount, a target date, and a funding source to be analyzable.

Time horizon buckets: short (0-3 years), intermediate (3-10), long (10+); bucket drives liquidity and volatility limits.

Risk tolerance has two parts: willingness (psychological) and ability (financial capacity); the lower of the two governs allocation.

Present value of a future goal = future cost / (1 + inflation)^n; use education and medical inflation separately when known.

Money-purchase funding: annual savings = goal PV divided by future value annuity factor at assumed return.

Prioritize goals by mandatory versus discretionary and by deadline proximity when resources are insufficient for all goals.

Revisit data annually or on triggering events: marriage, birth, job change, inheritance, disability, retirement.

Net cash flow = total inflows - total outflows; a negative value must be funded by debt or asset drawdown.

Emergency reserve target: 3-6 months of essential expenses; 6-12 months for variable or single-income households.

Savings rate = savings / gross income; measure against goals, not against a universal benchmark.

Fixed vs variable expenses: fixed costs are contractual and hard to cut short-term; variable costs are the first budget lever.

Debt priority rule: compare after-tax interest cost to after-tax expected return; pay down debt when the cost exceeds the return.

Housing ratios: front-end (housing payment / gross income) and back-end (total debt / gross income) ratios screen affordability.

Budget variance analysis compares actual to planned spending by category to locate leakage before it compounds.

Liquidity ratio = liquid assets / monthly expenses; it measures how long the household survives without new income.

Marginal rate applies to the next dollar; effective rate = total tax / total income; average rate = total tax / taxable income.

Taxable income = gross income - above-the-line adjustments - standard or itemized deductions - qualified business income deduction.

Ordinary income is taxed at graduated rates; long-term capital gains and qualified dividends use preferential brackets.

Capital gain = proceeds - basis; short-term (held one year or less) is ordinary, long-term (over one year) is preferential.

Wash sale rule disallows a loss when substantially identical securities are bought within 30 days before or after the sale.

Above-the-line adjustments reduce both taxable income and AGI; itemized deductions reduce taxable income only.

Tax credits reduce tax dollar-for-dollar; deductions reduce tax by the deduction times the marginal rate.

Bracket management: accelerate income into low-bracket years and defer deductions into high-bracket years, subject to phaseouts.

Risk handling methods: avoidance, reduction, retention, transfer, and sharing; insurance is transfer for a premium.

Insure large, low-probability losses; retain small, high-probability losses through deductibles and reserves.

Life insurance need methods: human life value (present value of future earnings), needs analysis (capital needs minus resources), and rule-of-thumb multiples.

Term insurance has no cash value and lowest cost per death benefit; permanent coverage bundles death benefit with cash accumulation.

Disability definition drives value: own-occupation is strongest, then any-occupation; benefit period and elimination period set cost.

Long-term care triggers on inability to perform a set number of activities of daily living or cognitive impairment.

Umbrella liability sits above auto and homeowners limits; it is inexpensive per dollar of coverage relative to underlying policies.

Coinsurance clause: payout = loss x (carried insurance / required insurance), capped at the policy limit.

Expected portfolio return = sum of (asset weight x asset expected return); portfolio risk also depends on correlations.

Diversification reduces unsystematic risk; systematic (market) risk remains and is compensated with expected return.

Correlation below +1 produces portfolio risk lower than the weighted average of component risks.

Sharpe ratio = (portfolio return - risk-free rate) / standard deviation; it measures excess return per unit of total risk.

Real return approximation: nominal return - inflation; exact real return = (1 + nominal) / (1 + inflation) - 1.

Rebalancing restores target weights; calendar (time-based) and threshold (band) rules are the two common triggers.

Tax-efficient placement: hold tax-inefficient assets (taxable bonds, REITs) in tax-advantaged accounts when capacity allows.

Efficient frontier plots portfolios with the highest expected return for each level of risk; rational investors choose on it.

Replacement ratio estimates required retirement income as a percentage of pre-retirement income; lower-income households need higher ratios.

Capital need at retirement = present value of the inflation-adjusted spending gap over the retirement horizon.

Sequence-of-returns risk: early negative returns during drawdown deplete a portfolio faster than the same average return later.

Safe withdrawal rate research (e.g., 4% rule) assumes a defined horizon and asset mix; it is a planning heuristic, not a guarantee.

Social Security claiming: delaying past full retirement age raises the benefit; claiming early permanently reduces it.

Required minimum distributions begin at the statutory age and are based on the prior year-end balance divided by a life-expectancy factor.

Inflation erodes purchasing power; a 3% inflation rate roughly doubles the cost of living in about 24 years.

Monte Carlo simulation reports probability of funding goals across randomized return paths, not a single deterministic outcome.

Gross estate includes all assets owned at death plus includible transfers (retained interests, certain lifetime gifts).

The unlimited marital deduction defers estate tax between spouses; it does not eliminate tax at the second death.

Step-up in basis at death eliminates capital gains on appreciation during the decedent's life for inherited assets.

Annual exclusion gifts avoid gift tax reporting per donor per donee per year; lifetime exemption covers transfers above that.

Portability lets a surviving spouse use the deceased spouse's unused exclusion amount, subject to a timely election.

Probate is the court process to validate a will and transfer title; trusts and beneficiary designations can bypass it.

Beneficiary designations on retirement accounts and insurance override the will and must be coordinated with the plan.

Powers of attorney and health care directives handle incapacity; they are distinct documents from the will.

Defined benefit plans promise a benefit formula; defined contribution plans specify contributions and leave investment risk with the employee.

Employer 401(k) match is an immediate return on contribution; capture the full match before other savings goals.

Vesting schedules determine ownership of employer contributions; cliff vesting occurs all at once, graded vesting ratably.

Nonqualified deferred compensation is an unsecured promise; creditors of the employer can reach it in bankruptcy.

Restricted stock units are taxed as ordinary income at vesting based on fair market value; no election is available.

Incentive stock options get favorable treatment only if holding periods are met; otherwise they are disqualifying and taxed as ordinary income.

Section 83(b) election taxes restricted stock at grant rather than vesting and must be filed within 30 days of grant.

Health savings accounts require a qualifying high-deductible plan and offer tax-deductible contributions, tax-free growth, and tax-free qualified withdrawals.

A financial plan states assumptions explicitly: inflation, returns, tax rates, longevity, and savings rates drive every projection.

Sensitivity analysis tests which assumptions most affect outcomes; report ranges rather than single-point projections.

Recommendations must be prioritized by urgency, impact, and client readiness, not by planner revenue.

Implementation assigns responsibility, deadline, and cost to each action item; unassigned items rarely get done.

Monitoring triggers include scheduled review dates and events: market shifts, law changes, job loss, birth, divorce, death.

Performance reporting should compare against the client's goals and an appropriate benchmark, net of fees.

Plan updates require re-running projections with actual data; stale assumptions invalidate the original recommendations.

Engagement documentation should record client decisions, including declined recommendations, to protect both parties.