FP511 Exam- General Financial Planning Principles
|Questions with Complete Solutions
Housing cost ratio - Ans all monthly nondiscretionary housing costs (PITI) ÷ monthly gross
income ≤ 28%
All monthly nondiscretionary housing costs include principal, interest, taxes, insurance, and
any condominium or neighborhood association fees
Gross income is salary, dividend, & interest (not Sch C income)
(if a renter, then the ratio is rent + insurance ÷ monthly gross income ≤ 28%)
Debt-to-income ratio (total debt ratio) type of Housing Ratio - Ans all monthly debt
payments and housing costs (PITI) ÷ gross monthly income ≤ 36%
Monthly debt payments include, but are not limited to, payments for automobile loans, credit
card debt, and student loans
All monthly nondiscretionary housing costs include principal, interest, taxes, insurance, and
any condominium or neighborhood association fees
Savings ratio - Ans savings per year ÷ gross income
for older individuals, this ratio should be higher
Emergency Fund - Ans -Three months is generally used when there are two working spouses
or a second source of income
-Six months is generally used when the client is single or married and only one of the
spouses work
-nondiscretionary income amount
,Snowball technique - Ans smaller debt balances are paid off first so clients feel encouraged by
their success and motivated to continue the process
The Avalanche Technique - Ans prioritizes high-interest debt to save money, but it may take
longer to get the first debt eliminated
Fixed rate mortgage - Ans -Level interest rate for the term of the loan
-Fixed payment amortization schedule
-The shorter the term, the higher the monthly payment, given the same interest rate
Adjustable rate mortgage (ARM) - Ans -Interest rate changes, usually in relation to an
index, and monthly payments may go up and down accordingly
-Initial rate and payment can change every month, quarter, year, three years, or five years
-Interest-rate caps place a limit on the amount the interest rate can change
a.) Negative amortization occurs when the monthly payments are not high enough to cover
all of the interest due on the mortgage. This unpaid interest is added to the principal
-If the length of ownership will be relatively short, an ARM may be most cost-effective
-usually with a 2%/6% cap (2% maximum rate increase per year, 6% lifetime cap)
FHA (Federal Housing Administration) - Ans -Guaranteed by the federal government
-Low down payment, and sometimes lower interest rate due to the federal
government's guarantee of repayment
-Mortgage insurance requirement
a.) Mortgage insurance is a policy that protects lenders against losses that result from
defaults on home mortgages
b.) FHA requirements include mortgage insurance primarily for borrowers making a
down payment of less than 20%
,VA (Veterans Administration) - Ans -For veterans of the U.S. armed services only
-No down payment required
-No mortgage insurance requirement
-Same federal guarantee of repayment as with FHA loans
Interest only - Ans -Only interest on the mortgage is paid monthly for a specific time (5-10
years)
-Keeps mortgage payment to a minimum, principal balance remains unchanged
-Suitable for homeowners with a short time horizon for ownership and those with sizable
liquid assets
-If housing prices fall, the home may not be worth as much as the mortgage balance; May
be difficult to refinance
Reverse mortgage - Ans -A homeowner who is 62 or older, has a residence that is free from
indebtedness, & considerable home equity can borrow against the value of their home and
receive funds as a lump sum, fixed monthly payment, or line of credit.
-Amount of payments based on the fair market value of the home and the age of the borrower
-Repayment of the outstanding mortgage is required if the homeowner dies, sells the home, a
predetermined loan period comes to an end, or the owner no longer occupies the home
(typically for a period of 6-12 months)
Home equity loans/lines of credit (second mortgage) - Ans -Home Equity Loan:
borrower receives a lump sum in the amount of the loan
-Home equity line of credit (HELOC): borrower is given a set amount of credit from which
to borrow
Home equity loan interest is only deductible if the loan was used for buying, building, or
"substantially" improving a home
Evaluating Mortgage Option - Ans -ARM lowest interest rate to start but payment & rate will
increase
, -30 years will have 0.5% higher of rate & a lower payment
-15 years will have 0.5% lower of a rate & a higher payment
Mortgage payments consist of four components - Ans principal (P), interest (I), taxes (T), and
insurance (I) (Acronym: PITI)
Rent or buy home - Ans Renting a home is beneficial if clients will not be in the home for a long
period (over three to five years). If occupancy will be longer, purchasing a home is likely to be
advantageous. Two major advantages of home ownership are the potential for itemized tax
deductions (e.g., mortgage interest and property taxes, within limits) and home equity.
Federal Deposit Insurance Corporation (FDIC) insurance - Ans -Federal deposit insurance
protects deposits that are payable in the United States.
-The maximum FDIC-insured amount of a depositor is $250,000
-Deposits maintained in different categories of legal ownership are separately insured
-Separate insurance is also available for funds held for retirement and business purposes
($250,000)
-Only cash & cash equivalents are covered by insurance
-Revocable trust accounts: $250,000 of coverage is afforded per owner, per beneficiary. The
$250,000 per beneficiary coverage applies only up to $1,250,000 of total coverage for any one
person's revocable trust; the FDIC coverage is the greater of $1,250,000 million or the
aggregate of all beneficiaries' proportional interests, limited to $250,000 per beneficiary
Credit Union - Ans Nonprofit financial institutions owned by members with a
common association
National Credit Union Share Insurance Fund (NCUSIF) - Ans a. Backed by full faith and credit of
U.S. government
b. Insures member accounts of all federal and most state-chartered credit unions up to
$250,000
|Questions with Complete Solutions
Housing cost ratio - Ans all monthly nondiscretionary housing costs (PITI) ÷ monthly gross
income ≤ 28%
All monthly nondiscretionary housing costs include principal, interest, taxes, insurance, and
any condominium or neighborhood association fees
Gross income is salary, dividend, & interest (not Sch C income)
(if a renter, then the ratio is rent + insurance ÷ monthly gross income ≤ 28%)
Debt-to-income ratio (total debt ratio) type of Housing Ratio - Ans all monthly debt
payments and housing costs (PITI) ÷ gross monthly income ≤ 36%
Monthly debt payments include, but are not limited to, payments for automobile loans, credit
card debt, and student loans
All monthly nondiscretionary housing costs include principal, interest, taxes, insurance, and
any condominium or neighborhood association fees
Savings ratio - Ans savings per year ÷ gross income
for older individuals, this ratio should be higher
Emergency Fund - Ans -Three months is generally used when there are two working spouses
or a second source of income
-Six months is generally used when the client is single or married and only one of the
spouses work
-nondiscretionary income amount
,Snowball technique - Ans smaller debt balances are paid off first so clients feel encouraged by
their success and motivated to continue the process
The Avalanche Technique - Ans prioritizes high-interest debt to save money, but it may take
longer to get the first debt eliminated
Fixed rate mortgage - Ans -Level interest rate for the term of the loan
-Fixed payment amortization schedule
-The shorter the term, the higher the monthly payment, given the same interest rate
Adjustable rate mortgage (ARM) - Ans -Interest rate changes, usually in relation to an
index, and monthly payments may go up and down accordingly
-Initial rate and payment can change every month, quarter, year, three years, or five years
-Interest-rate caps place a limit on the amount the interest rate can change
a.) Negative amortization occurs when the monthly payments are not high enough to cover
all of the interest due on the mortgage. This unpaid interest is added to the principal
-If the length of ownership will be relatively short, an ARM may be most cost-effective
-usually with a 2%/6% cap (2% maximum rate increase per year, 6% lifetime cap)
FHA (Federal Housing Administration) - Ans -Guaranteed by the federal government
-Low down payment, and sometimes lower interest rate due to the federal
government's guarantee of repayment
-Mortgage insurance requirement
a.) Mortgage insurance is a policy that protects lenders against losses that result from
defaults on home mortgages
b.) FHA requirements include mortgage insurance primarily for borrowers making a
down payment of less than 20%
,VA (Veterans Administration) - Ans -For veterans of the U.S. armed services only
-No down payment required
-No mortgage insurance requirement
-Same federal guarantee of repayment as with FHA loans
Interest only - Ans -Only interest on the mortgage is paid monthly for a specific time (5-10
years)
-Keeps mortgage payment to a minimum, principal balance remains unchanged
-Suitable for homeowners with a short time horizon for ownership and those with sizable
liquid assets
-If housing prices fall, the home may not be worth as much as the mortgage balance; May
be difficult to refinance
Reverse mortgage - Ans -A homeowner who is 62 or older, has a residence that is free from
indebtedness, & considerable home equity can borrow against the value of their home and
receive funds as a lump sum, fixed monthly payment, or line of credit.
-Amount of payments based on the fair market value of the home and the age of the borrower
-Repayment of the outstanding mortgage is required if the homeowner dies, sells the home, a
predetermined loan period comes to an end, or the owner no longer occupies the home
(typically for a period of 6-12 months)
Home equity loans/lines of credit (second mortgage) - Ans -Home Equity Loan:
borrower receives a lump sum in the amount of the loan
-Home equity line of credit (HELOC): borrower is given a set amount of credit from which
to borrow
Home equity loan interest is only deductible if the loan was used for buying, building, or
"substantially" improving a home
Evaluating Mortgage Option - Ans -ARM lowest interest rate to start but payment & rate will
increase
, -30 years will have 0.5% higher of rate & a lower payment
-15 years will have 0.5% lower of a rate & a higher payment
Mortgage payments consist of four components - Ans principal (P), interest (I), taxes (T), and
insurance (I) (Acronym: PITI)
Rent or buy home - Ans Renting a home is beneficial if clients will not be in the home for a long
period (over three to five years). If occupancy will be longer, purchasing a home is likely to be
advantageous. Two major advantages of home ownership are the potential for itemized tax
deductions (e.g., mortgage interest and property taxes, within limits) and home equity.
Federal Deposit Insurance Corporation (FDIC) insurance - Ans -Federal deposit insurance
protects deposits that are payable in the United States.
-The maximum FDIC-insured amount of a depositor is $250,000
-Deposits maintained in different categories of legal ownership are separately insured
-Separate insurance is also available for funds held for retirement and business purposes
($250,000)
-Only cash & cash equivalents are covered by insurance
-Revocable trust accounts: $250,000 of coverage is afforded per owner, per beneficiary. The
$250,000 per beneficiary coverage applies only up to $1,250,000 of total coverage for any one
person's revocable trust; the FDIC coverage is the greater of $1,250,000 million or the
aggregate of all beneficiaries' proportional interests, limited to $250,000 per beneficiary
Credit Union - Ans Nonprofit financial institutions owned by members with a
common association
National Credit Union Share Insurance Fund (NCUSIF) - Ans a. Backed by full faith and credit of
U.S. government
b. Insures member accounts of all federal and most state-chartered credit unions up to
$250,000
