Personal Finance Exam 1 Questions and Answers Already Passed

Personal Finance Exam 1 Questions and Answers Already Passed Personal Finance process of planning, spending, financing, and investing so as to optimize your financial situation Personal Financial Plan A plan that specifies your financial goals and plans to achieve them Opportunity Cost What you give up as a result of a decision Financial Plan Components 1. Budgeting and tax planning 2. Managing your liquidity 3. Financing your large purchases 4. Protecting your assets and income (insurance) 5. Investing your money 6. Planning your retirement estate Budget Planning Process of forecasting future expenses and savings Assets What you own Liabilities What you owe Net Worth (Value of what you own) - (Value of what you owe) Liquidity Access to funds to cover any short term cash deficiencies Money Management Decisions regarding how much money to retain in a liquid form, and how to allocate the funds among short-term investments Credit Management Decisions regarding how much credit to obtain to support your spending and which source of credit to use Plans for Investing Any funds beyond what you need to maintain liquidity should be invested. Estate Planning determining how your wealth will be distributed before or upon your death Effective financial plan can... enhance net worth and build wealth Financing focuses on... obtaining cash for large purchases or repaying loans Steps of Developing a Financial Plan 1. Establish Your Financial Goals 2. Consider Your Current Financial Position 3. Identify and Evaluate Alternative Plans That Could Achieve Your Goals 4. Select and Implement the Best Plan for Achieving Your Goals Cash Inflows Salaries, interest, dividends Cash Outflows All expenses, large and small Personal Cash Flow Statement statement by recording your revenues and expenses over a period of time Net Cash Flows (Cash Inflows) - (Cash Outflows) Factors that Affect Cash Inflows -Stage in career path -Type of job -Number of income earners in your family Factors that Affect Cash Outflows -Size of Family -Age -Personal Consumption Behavior Budget Cash flow statement based on the forecast of cash flow for a future time period. -Helps prepare for shortages in cash Balance Sheet -Reflects financial position at specific point in time -Allows you to determine your net worth Types of Assets -Liquid -Household Liquid Assets Easily sold without a loss in value Household Assets Normally owned by a household (home, car, furniture) -Need to get market value (amount you'd receive if you sold the asset today) Types of Investments -Bonds -Stocks -Mutual Funds -Real Estate Bonds Certificates issued by borrower, usually firms and government agencies, to raise funds Stocks Certificates representing partial ownership in a firm Mutual Funds Investment companies that sell shares and invest the proceeds in investment instruments Types of Liabilities -Current -Long-Term Current Liabilities Debts that will be paid within a year Long-Term Liabilities Debts that will be paid over a period longer than one year Wealth is built by... Using NET CASH FLOWS to INVEST in assets WITHOUT increasing liabilities Liquidity Ratio -Measures liquidity. (liquid assets) / (current liabilities) -Higher ratio=Greater Liquidity Debt-to-Asset Ratio -Measures debt level (total liabilities) / (total assets) -Higher ratio=Higher debt relative to assets Savings Rate -Measures savings over period in comparison to disposable income over the period (savings during the period) / (disposable income during the period) Lump Sum single payment at one time rather than many small Annuity A series of equal cash flow payments that occur at the end of each period -e.g. monthly deposit of $50 to savings Compounding How money accumulates interest To determine future value of an amount of money deposited today, must know... -Amount of deposit today -Interest rate to be earned on the deposit -Number of years it'll be invested Future Value Interest Factor (FVIF) A factor multiplied by todays savings to determine how the savings will accumulate over time. -As years increase so does FVIF -Calculate with Future Value Table or Calculator Discounting The process of obtaining present values To determine present values, must know... -Amount of money to be received in the future -Interest rate to be earned on the deposit -Number of years the money will be invested Present Value Interest Factor (PVIF) A factor multiplied by a future value to determine present value of that amount ***PVIF is lower as the number of years and interest rate increases*** Annuity Due A series of equal cash flow payments that occur at the beginning of each period Future Value Interest Factor for an Annuity (FVIFA) A factor multiplied by the periodic savings level (annuity) to determine how the savings will accumulate over time Present Value of Annuity is determined by... Discounting the individual cash flows of the annuity and adding them up Present Value Interest Factor for an Annuity (PVIFA) A factor multiplied by a periodic saving level (annuity) to determine present value of the annuity