Current and Future Financial Situation

A complete financial profile requires understanding where the client stands today and where they are headed. Before recommending any investment, the adviser must assess the client's current resources, obligations, and future income sources.

Cash Flow

  • Cash flow = income minus expenses over a period
  • Positive cash flow means the client can save and invest; negative cash flow signals spending exceeds income
  • Income sources: salary, business income, rental income, Social Security, pensions, investment income
  • Advisers must assess whether cash flow is stable (salaried employee) or variable (commission-based, self-employed)

Balance Sheet (Net Worth Statement)

  • Assets minus liabilities = net worth
  • Assets: liquid (cash, securities), illiquid (real estate, business interests, collectibles)
  • Liabilities: mortgage, student loans, credit card debt, margin balances
  • A client's asset allocation should consider assets held outside the advisory account (e.g., employer stock, real estate equity, pension)

Think of it this way: A balance sheet is a snapshot at a specific moment, capturing everything you own and owe right now. Cash flow is like a video, showing money moving in and out over a period of time.

Exam Tip: Gotchas

  • Paying off a $4,000 credit card from savings does not change net worth. Both assets and liabilities decrease by $4,000. Net worth stays the same.

Existing Investments

Before making recommendations, the adviser must review:

  • Current holdings for concentration risk, overlap, and alignment with goals
  • Employer stock concentration: common in executive portfolios, creates unsystematic risk
  • Asset location: taxable vs. tax-deferred vs. tax-free accounts
  • Locked-up or restricted assets (vesting schedules, partnership interests)

Exam Tip: Gotchas

  • Recommending a new stock in a sector where the client already has 60% concentration is not acting in the client's best interest, even if the security itself is excellent. Context matters.

Tax Situation

  • Current marginal tax bracket affects the suitability of taxable vs. tax-exempt investments
  • High-bracket clients may benefit from municipal bonds (tax-exempt interest) or tax-managed funds
  • Capital gains and losses affect rebalancing decisions (tax-loss harvesting)
  • Tax situation includes state taxes. A client in a high-tax state has different needs than one in a no-income-tax state.

Social Security and Pensions

Social Security benefits depend on earnings history and claiming age:

  • Claiming at 62 (earliest) permanently reduces benefits
  • Full retirement age (FRA) is 67 for most current workers
  • Delaying from 62 to 70 increases benefits by approximately 77%

Defined benefit pensions provide guaranteed income regardless of market performance. A client with a substantial pension has a reduced need for income-generating investments and can tilt the portfolio more aggressively.

  • Pension risk: if a pension replaces the bond allocation, the portfolio can afford more equity exposure
  • Advisers must factor in whether pension benefits have cost-of-living adjustments (COLAs). Without COLAs, purchasing power erodes over time.

Exam Tip: Gotchas

  • A client with a generous pension and Social Security may actually tolerate MORE equity risk in their portfolio, not less. The exam tests whether you understand that guaranteed income sources act like a bond allocation, freeing up the portfolio for growth.