1
,TABLE OF CONTENTS X X
Answers to Chapter Concept Checks ........................................................................................................... 2
x x x x
What Do You Recommend Now? ................................................................................................................. 4
x x x x
Let’s TalkAbout It ........................................................................................................................................ 5
x x x
Do the Math................................................................................................................................................... 6
x x
FinancialPlanning Cases.............................................................................................................................. 8
x x
Extended Learning..................................................................................................................................... 10
x
2
,ANSWERS TO CHAPTER CONCEPT CHECKS X X X X
LO1.1 Recognize the keys to achieving financial success.
x x x x x x x
1. Explain the five steps in the financial planning process.
x x x x x x x x
Answer: There are five fundamental steps to the personal financial planning process: (1) evaluate your
x x x x x x x x x x x x x x
financial health to your education and career choice; (2) define your financial goals; (3) develop a plan of action
x x x x x x x x x x x x x x x x x x x
to achieve your goals; (4) implement spending and saving plans to monitor and control progress toward your
x x x x x x x x x x x x x x x x x
goals; and (5) review your financial progress and make changes as appropriate.
x x x x x x x x x x x x
2. Distinguish among financial success, financial security, and financial happiness.
x x x x x x x x
Answer: Financial success is the achievement of financial aspirations that are desired, planned, or attempted.
x x x x x x x x x x x x x x
Success is defined by the individual or family that seeks it. Financial success may be defined as being able to live
x x x x x x x x x x x x x x x x x x x x x
according to one’s standard of living. Financial security is that comfortable feeling that your financial
x x x x x x x x x x x x x x x
resources will be adequate to fulfill any needs you have as well as your wants. Financial happiness is the
x x x x x x x x x x x x x x x x x x x
experience you have when you are satisfied with money matters. People who are happy about their finances
x x x x x x x x x x x x x x x x x
will see a spillover into positive feelings about life in general.
x x x x x x x x x x x
3. Summarize what you will accomplish studying personal finance. x x x x x x x
Answer: Several things can be accomplished by studying personal finance. Recognize how to manage
x x x x x x x x x x x x x
unexpected and expected financial events. Pay as little as possible in income taxes. Understand how to
x x x x x x x x x x x x x x x x
effectivelycomparison shop for vehicles and homes. Protect what we own. Invest wisely. Accumulate and
x x x x x x x x x x x x x x x
protect the wealth that we may choose to spend during our non-working years (e.g., retirement) or donate.
x x x x x x x x x x x x x x x x x
4. What are the building blocks to achieving financial success?
x x x x x x x x
Answer: The building blocks for achieving financial success include a foundation of regular income that
x x x x x x x x x x x x x x
provides the means to support your lifestyle and save for desired goals in the future. The foundation supports a
x x x x x x x x x x x x x x x x x x x
base of various banking accounts, insurance protection, and employee benefits. Then we can establish goals, a
x x x x x x x x x x x x x x x x
recordkeeping system, a budget, and an emergency savings fund. We will also manage various expenses such
x x x x x x x x x x x x x x x x
as housing, transportation, insurance, and the payment of taxes. We will also need to handle credit, savings, and
x x x x x x x x x x x x x x x x x x
educational costs. Finally, we invest in various investment alternatives such as mutual funds, stocks, and
x x x x x x x x x x x x x x x
bonds, often for retirement. As a result of all these building blocks, we are more apt to have a financially
x x x x x x x x x x x x x x x x x x x x
successful life.
x x
LO1.2 Understand how the economy affects your personal financial success.
x x x x x x x x x
1. Summarize the phases of the business cycle. x x x x x x
Answer: The business cycle entails a wavelike pattern of rising and falling economic activity as measured by
x x x x x x x x x x x x x x x x
economic indicators like unemployment rates or the gross domestic product. The phases of the business cycle
x x x x x x x x x x x x x x x x
include expansion (preferred stage—production is high, unemployment low, interest rates low or falling,
x x x x x x x x x x x x x
stock market and consumer demand high), peak, contraction, downturn, trough, and recovery.
x x x x x x x x x x x x
2. Describe two statistics that help predict the future direction of the economy.
x x x x x x x x x x x
Answer: Forecasting the state of the economy involves predicting, estimating, or calculating what will
x x x x x x x x x x x x x
happen in advance. We need to be able to forecast the state of the economy, inflation, and interest rates so that
x x x x x x x x x x x x x x x x x x x x x
we have advance warning of the directions and strength of changes in economic trends since they will affect our
x x x x x x x x x x x x x x x x x x x
personal finances. Two statistics we could watch are the consumer confidence index (how consumers feel
x x x x x x x x x x x x x x x
about the economy and their personal finances) and the index of leading economic indicators (composite
x x x x x x x x x x x x x x x
index, averages ten components of economic growth).
x x x x x x x
3
, 3. Givean example of how inflation affects income and consumption.
x x x x x x x x x
Answer: Inflation reduces the purchasing power of the dollar. This means that our income will not go as far
x x x x x x x x x x x x x x x x x x
and, thus, in real terms will be lowered by inflation. Because items cost more, we will have to consume less and
x x x x x x x x x x x x x x x x x x x x x
may cut back on some expenditures to be able to afford those with a higher priority.
x x x x x x x x x x x x x x x x
LO1.3 Think like an economist when making financial decisions.
x x x x x x x x
1. Define opportunity cost and give an example of how opportunity costs might affect your financial
x x x x x x x x x x x x x x
decision making.
x x
Answer: The opportunity cost of a decision is measured as the value of the next-best alternative that must be
x x x x x x x x x x x x x x x x x x
forgone. If we, for example, put our retirement savings in a regular savings account instead of in a tax- sheltered
x x x x x x x x x x x x x x x x x x x x
retirement account, we may be forgoing the tax benefits associated with investing in retirement accounts such
x x x x x x x x x x x x x x x x
as IRAs or 401(k) plans. In another example, if we decide to borrow the maximum student loan amount for
x x x x x x x x x x x x x x x x x x x
which we qualify to live a bit more comfortably while in college, we will not be able to live as nicely, save as
x x x x x x x x x x x x x x x x x x x x x x x
much for the down payment on a home or save for retirement once we graduate because of the higher loan
x x x x x x x x x x x x x x x x x x x x
payments.
x
2. Explain and give an example of how marginal utility and marginal cost make some financial
x x x x x x x x x x x x x x
decisions easier.
x x
Answer: Marginal analysis focuses on the next increment of usefulness or cost when making financial
x x x x x x x x x x x x x x
decisions. Marginal utility is the extra satisfaction derived from having one more incremental unit of a
x x x x x x x x x x x x x x x x
product or service. Marginal cost is the additional cost of that unit. When marginal utility exceeds marginal
x x x x x x x x x x x x x x x x x
cost, and we compare the two, we can make better financial decisions. As an example, if you must fly to some
x x x x x x x x x x x x x x x x x x x x x
destination, is the marginal cost of checking a bag using a carry-on worth the marginal utility?
x x x x x x x x x x x x x x x x
3. Describe and give an example of how your marginal income tax rate can affect financial decision
x x x x x x x x x x x x x x x
making.
x
Answer: As our income rises, we will find ourselves in higher and higher tax brackets. One type of decision
x x x x x x x x x x x x x x x x x x
that is affected by income taxes is how we should invest for retirement. We might want to invest through a 401(k)
x x x x x x x x x x x x x x x x x x x x x
plan instead of keeping our retirement money in a savings account, which is taxable.
x x x x x x x x x x x x x x
Since most types of income are taxable, it is important that we understand the impact of income taxes on
x x x x x x x x x x x x x x x x x x
financial decisions. Of particular importance is the marginal tax rate (the tax rate at which our last dollar earned
x x x x x x x x x x x x x x x x x x x
is taxed). If we are in the 25 percent marginal tax bracket, we will get to keep 75 percent (100 percent minus 25
x x x x x x x x x x x x x x x x x x x x x x x
percent) of our last taxable dollar earned. If the income is tax-free income, on the other hand, we would get to
x x x x x x x x x x x x x x x x x x x x x
keep 100 percent of it. Therefore, it is important to know our marginal tax rate as well as what types of income
x x x x x x x x x x x x x x x x x x x x x x
are subject to federal income taxes. It is also important to remember the impact of state income taxes and
x x x x x x x x x x x x x x x x x x x
Social Security taxes.
x x x
LO1.4 Performtime value of money calculations in personal financial decision making.
x x x x x x x x x x x
1. What are the two common questions about money?
x x x x x x x
Answer: The two common questions about money are its future value and present value. Future value is what
x x x x x x x x x x x x x x x x x
investment or series of investments will be at a point in the future. Present value is how much we would need
x x x x x x x x x x x x x x x x x x x x x
to invest today and/or in a series of future investments to provide some amount in the future.
x x x x x x x x x x x x x x x x x
2. Explain the difference between simple interest and compound interest, and describe why that
x x x x x x x x x x x x
difference is critical.
x x x
Answer: Simple interest is money paid on a principal amount for a given number of years. The interest is paid
x x x x x x x x x x x x x x x x x x x
only on the principal (the original amount invested). For example, we might put $1,000 in a bank savings
x x x x x x x x x x x x x x x x x x
account at 5 percent interest for one year. We would have accumulated $50 in that year.
x x x x x x x x x x x x x x x x
4
,TABLE OF CONTENTS X X
Answers to Chapter Concept Checks ........................................................................................................... 2
x x x x
What Do You Recommend Now? ................................................................................................................. 4
x x x x
Let’s TalkAbout It ........................................................................................................................................ 5
x x x
Do the Math................................................................................................................................................... 6
x x
FinancialPlanning Cases.............................................................................................................................. 8
x x
Extended Learning..................................................................................................................................... 10
x
2
,ANSWERS TO CHAPTER CONCEPT CHECKS X X X X
LO1.1 Recognize the keys to achieving financial success.
x x x x x x x
1. Explain the five steps in the financial planning process.
x x x x x x x x
Answer: There are five fundamental steps to the personal financial planning process: (1) evaluate your
x x x x x x x x x x x x x x
financial health to your education and career choice; (2) define your financial goals; (3) develop a plan of action
x x x x x x x x x x x x x x x x x x x
to achieve your goals; (4) implement spending and saving plans to monitor and control progress toward your
x x x x x x x x x x x x x x x x x
goals; and (5) review your financial progress and make changes as appropriate.
x x x x x x x x x x x x
2. Distinguish among financial success, financial security, and financial happiness.
x x x x x x x x
Answer: Financial success is the achievement of financial aspirations that are desired, planned, or attempted.
x x x x x x x x x x x x x x
Success is defined by the individual or family that seeks it. Financial success may be defined as being able to live
x x x x x x x x x x x x x x x x x x x x x
according to one’s standard of living. Financial security is that comfortable feeling that your financial
x x x x x x x x x x x x x x x
resources will be adequate to fulfill any needs you have as well as your wants. Financial happiness is the
x x x x x x x x x x x x x x x x x x x
experience you have when you are satisfied with money matters. People who are happy about their finances
x x x x x x x x x x x x x x x x x
will see a spillover into positive feelings about life in general.
x x x x x x x x x x x
3. Summarize what you will accomplish studying personal finance. x x x x x x x
Answer: Several things can be accomplished by studying personal finance. Recognize how to manage
x x x x x x x x x x x x x
unexpected and expected financial events. Pay as little as possible in income taxes. Understand how to
x x x x x x x x x x x x x x x x
effectivelycomparison shop for vehicles and homes. Protect what we own. Invest wisely. Accumulate and
x x x x x x x x x x x x x x x
protect the wealth that we may choose to spend during our non-working years (e.g., retirement) or donate.
x x x x x x x x x x x x x x x x x
4. What are the building blocks to achieving financial success?
x x x x x x x x
Answer: The building blocks for achieving financial success include a foundation of regular income that
x x x x x x x x x x x x x x
provides the means to support your lifestyle and save for desired goals in the future. The foundation supports a
x x x x x x x x x x x x x x x x x x x
base of various banking accounts, insurance protection, and employee benefits. Then we can establish goals, a
x x x x x x x x x x x x x x x x
recordkeeping system, a budget, and an emergency savings fund. We will also manage various expenses such
x x x x x x x x x x x x x x x x
as housing, transportation, insurance, and the payment of taxes. We will also need to handle credit, savings, and
x x x x x x x x x x x x x x x x x x
educational costs. Finally, we invest in various investment alternatives such as mutual funds, stocks, and
x x x x x x x x x x x x x x x
bonds, often for retirement. As a result of all these building blocks, we are more apt to have a financially
x x x x x x x x x x x x x x x x x x x x
successful life.
x x
LO1.2 Understand how the economy affects your personal financial success.
x x x x x x x x x
1. Summarize the phases of the business cycle. x x x x x x
Answer: The business cycle entails a wavelike pattern of rising and falling economic activity as measured by
x x x x x x x x x x x x x x x x
economic indicators like unemployment rates or the gross domestic product. The phases of the business cycle
x x x x x x x x x x x x x x x x
include expansion (preferred stage—production is high, unemployment low, interest rates low or falling,
x x x x x x x x x x x x x
stock market and consumer demand high), peak, contraction, downturn, trough, and recovery.
x x x x x x x x x x x x
2. Describe two statistics that help predict the future direction of the economy.
x x x x x x x x x x x
Answer: Forecasting the state of the economy involves predicting, estimating, or calculating what will
x x x x x x x x x x x x x
happen in advance. We need to be able to forecast the state of the economy, inflation, and interest rates so that
x x x x x x x x x x x x x x x x x x x x x
we have advance warning of the directions and strength of changes in economic trends since they will affect our
x x x x x x x x x x x x x x x x x x x
personal finances. Two statistics we could watch are the consumer confidence index (how consumers feel
x x x x x x x x x x x x x x x
about the economy and their personal finances) and the index of leading economic indicators (composite
x x x x x x x x x x x x x x x
index, averages ten components of economic growth).
x x x x x x x
3
, 3. Givean example of how inflation affects income and consumption.
x x x x x x x x x
Answer: Inflation reduces the purchasing power of the dollar. This means that our income will not go as far
x x x x x x x x x x x x x x x x x x
and, thus, in real terms will be lowered by inflation. Because items cost more, we will have to consume less and
x x x x x x x x x x x x x x x x x x x x x
may cut back on some expenditures to be able to afford those with a higher priority.
x x x x x x x x x x x x x x x x
LO1.3 Think like an economist when making financial decisions.
x x x x x x x x
1. Define opportunity cost and give an example of how opportunity costs might affect your financial
x x x x x x x x x x x x x x
decision making.
x x
Answer: The opportunity cost of a decision is measured as the value of the next-best alternative that must be
x x x x x x x x x x x x x x x x x x
forgone. If we, for example, put our retirement savings in a regular savings account instead of in a tax- sheltered
x x x x x x x x x x x x x x x x x x x x
retirement account, we may be forgoing the tax benefits associated with investing in retirement accounts such
x x x x x x x x x x x x x x x x
as IRAs or 401(k) plans. In another example, if we decide to borrow the maximum student loan amount for
x x x x x x x x x x x x x x x x x x x
which we qualify to live a bit more comfortably while in college, we will not be able to live as nicely, save as
x x x x x x x x x x x x x x x x x x x x x x x
much for the down payment on a home or save for retirement once we graduate because of the higher loan
x x x x x x x x x x x x x x x x x x x x
payments.
x
2. Explain and give an example of how marginal utility and marginal cost make some financial
x x x x x x x x x x x x x x
decisions easier.
x x
Answer: Marginal analysis focuses on the next increment of usefulness or cost when making financial
x x x x x x x x x x x x x x
decisions. Marginal utility is the extra satisfaction derived from having one more incremental unit of a
x x x x x x x x x x x x x x x x
product or service. Marginal cost is the additional cost of that unit. When marginal utility exceeds marginal
x x x x x x x x x x x x x x x x x
cost, and we compare the two, we can make better financial decisions. As an example, if you must fly to some
x x x x x x x x x x x x x x x x x x x x x
destination, is the marginal cost of checking a bag using a carry-on worth the marginal utility?
x x x x x x x x x x x x x x x x
3. Describe and give an example of how your marginal income tax rate can affect financial decision
x x x x x x x x x x x x x x x
making.
x
Answer: As our income rises, we will find ourselves in higher and higher tax brackets. One type of decision
x x x x x x x x x x x x x x x x x x
that is affected by income taxes is how we should invest for retirement. We might want to invest through a 401(k)
x x x x x x x x x x x x x x x x x x x x x
plan instead of keeping our retirement money in a savings account, which is taxable.
x x x x x x x x x x x x x x
Since most types of income are taxable, it is important that we understand the impact of income taxes on
x x x x x x x x x x x x x x x x x x
financial decisions. Of particular importance is the marginal tax rate (the tax rate at which our last dollar earned
x x x x x x x x x x x x x x x x x x x
is taxed). If we are in the 25 percent marginal tax bracket, we will get to keep 75 percent (100 percent minus 25
x x x x x x x x x x x x x x x x x x x x x x x
percent) of our last taxable dollar earned. If the income is tax-free income, on the other hand, we would get to
x x x x x x x x x x x x x x x x x x x x x
keep 100 percent of it. Therefore, it is important to know our marginal tax rate as well as what types of income
x x x x x x x x x x x x x x x x x x x x x x
are subject to federal income taxes. It is also important to remember the impact of state income taxes and
x x x x x x x x x x x x x x x x x x x
Social Security taxes.
x x x
LO1.4 Performtime value of money calculations in personal financial decision making.
x x x x x x x x x x x
1. What are the two common questions about money?
x x x x x x x
Answer: The two common questions about money are its future value and present value. Future value is what
x x x x x x x x x x x x x x x x x
investment or series of investments will be at a point in the future. Present value is how much we would need
x x x x x x x x x x x x x x x x x x x x x
to invest today and/or in a series of future investments to provide some amount in the future.
x x x x x x x x x x x x x x x x x
2. Explain the difference between simple interest and compound interest, and describe why that
x x x x x x x x x x x x
difference is critical.
x x x
Answer: Simple interest is money paid on a principal amount for a given number of years. The interest is paid
x x x x x x x x x x x x x x x x x x x
only on the principal (the original amount invested). For example, we might put $1,000 in a bank savings
x x x x x x x x x x x x x x x x x x
account at 5 percent interest for one year. We would have accumulated $50 in that year.
x x x x x x x x x x x x x x x x
4
