Financial Planning Test 1: C1, 2, & 3

What is financial planning?

• A disciplined, multi-step process

• assessing current circumstances against future desires

• to optimize resource allocation

• achieve personal financial goals

What are the main reasons for financial planning?

• Cash flow management

• capital accumulation

• lifetime perspective

• dependents

• tax

• investment planning

What are the three financial time horizons?

• Short-term: Within 1 year (sometimes up to 3 years).

• Intermediate-term: 1 (or 3) to 10 years.

• Long-term: More than 10 years.

What is the fiduciary relationship in financial planning?

• client relies on the advisor’s expertise

• is vulnerable due to knowledge gaps

• trusts the advisor to act in their best interest with discretion

Name the six steps of the financial planning process.

1. Develop goals

2. Determine current situation

3. Identify alternatives

4. Evaluate alternatives

5. Create & implement plan

6. Review & revise

What two statements are required to assess a client’s financial situation?

Net Worth Statement and Cash Flow Statement

What does a Net Worth Statement measure?

Measures financial position (wealth) at a single point in time: Net Worth = Assets − Liabilities

What does a Cash Flow Statement measure?

Tracks inflows (income) and outflows (expenses) over a period; determines surplus or deficit.

Difference between personal and business financial statements?

• Businesses use IFRS & accrual accounting

• personal statements use cash-basis accounting (record when cash is received/paid)

What is an asset vs a liability?

Asset = anything you own with value (FMV). Liability = money you owe and have not fully paid.

Liquid vs Non-liquid assets?

Liquid = easily converted to cash (

Ways to improve net worth?

Increase assets (savings, investments) and reduce liabilities (pay off debt).

Formula for Net Cash Flow?

Net Cash Flow = Income − Expenses

Why is positive cash flow important?

Enables savings and investment, grows assets, avoids debt.

What is discretionary vs non-discretionary spending?

• Discretionary = non-essential (entertainment).

• Non-discretionary = essential (rent, food, utilities).

2026 CPP/YBE/YMPE/YAMPE values

• CPP Employee rate: 5.95%

• CPP Employer rate: 5.95%

• CPP Self-employed rate: 11.9%

• Enhanced CPP: 4% above YMPE

• YBE Max: 3,500

• YMPE Max: 74,600

• YAMPE Max: 85,000

2026 EI rates and max earnings?

• Employee: 1.63%

• Employer: 2.28%

• Max insurable earnings = 68,900

Emergency Fund Ratio (EFR)?

• Liquid Assets ÷ Monthly Non-Discretionary Expenses

• Recommended: 3–6 months of expenses

• measures liquidity

Debt Ratio (Assets-Based)?

• Total Liabilities ÷ Total Assets

• think L.A Los Angeles

• lower is better, ≤0.5 recommended

• shows portion of assets financed by debt

Savings Ratio?

• Monthly Savings ÷ Gross Income

• at least 10% recommended

• measures portion of income saved

Gross Debt Service Ratio (GDSR)?

PITH ÷ Gross Monthly Income; PITH = Principal + Interest + Taxes + Heating (+50% condo fees); ≤35% recommended; measures housing costs as % of income

Total Debt Service Ratio (TDSR)?

(PITH + Other Debt Payments) ÷ Gross Monthly Income; ≤40% recommended; measures total debt burden as % of income

Current Ratio?

Liquid Assets ÷ Current Liabilities; ≥2 recommended; measures short-term liquidity

Debt Payments Ratio?

• Monthly non-mortgage debt ÷ Take-home pay

• <20% recommended

• shows portion of income going to debt payments

Why is surplus important in budgeting?

Extra money available to save, invest, pay down debt, and grow net worth.

Lifecycle impact on finances?

• Younger: higher debt, building assets

• Older: lower debt, wealth preservation, retirement focus

Why analyze unexpected events in cash flow?

To plan emergency funds and manage financial disruptions

What is a S.M.A.R.T goal?

Specific, Measurable, Achievable, Relevant, Time-bound

Why track cash flow?

• Ensure bills are paid

• credit rating protected

• determine surplus or deficit

Which statement is used to assess financial position?

Net Worth Statement

Which statement is used to assess financial sustainability?

Cash Flow Statement

How much should you save monthly and emergency fund recommendations?

At least 10% of gross income; emergency fund = 3–6 months of expenses

What life events usually don't affect spending/saving?

• Regular salary adjustments or predictable benefits

• not large unexpected events

Why consider lifecycle stage in financial planning?

Younger clients: higher debt, building assets; Older clients: debt reduction, wealth preservation, retirement planning

Why avoid double-counting CPP/EI in cash flow?

They are already subtracted from gross income; including them again would overstate expenses

How does RRSP/TFSA impact tax efficiency?

• RRSP = tax-deferred growth

• TFSA = tax-free growth

What is at-risk asset?

Volatile (stocks, crypto) or illiquid (real estate, private assets) asset

Why should debt ratio decline over time?

Shows improving financial stability and increasing asset ownership

What are good debts?

Debts that build long-term value (education, mortgage)

What are key points when presenting budgets to clients?

• Clearly communicate

• realistic

• flexible

• respectful

• track progress

Why track ratios?

To assess:

• liquidity

• debt management

• affordability

• savings

• financial risk

What does PITH stand for in GDSR/TDSR?

Principal + Interest + Taxes + Heating; "PI" specifically refers to the Principal and Interest portions of the mortgage payment

How do you interpret Emergency Fund Ratio (EFR)?

• Measures liquidity

• shows how many months of expenses you can cover if income stops

• recommended 3–6 months

• higher is better

• lower = risk of financial strain

How do you interpret Debt Ratio (Assets-Based)?

• Shows percentage of assets financed by debt

• recommended ≤0.5

• lower is better

• higher = more leveraged and higher financial risk

How do you interpret Savings Ratio?

• Measures portion of income being saved

• recommended ≥10%

• higher is better

• lower = not saving enough for goals or security

How do you interpret Gross Debt Service Ratio (GDSR)?

Measures housing cost as % of gross income; recommended ≤35%; lower is better, higher = mortgage/housing may be unaffordable.

How do you interpret Total Debt Service Ratio (TDSR)?

Measures total debt burden including other loans; recommended ≤40%; lower is better, higher = total debt may be risky relative to income.

How do you interpret Current Ratio?

• Measures ability to pay short-term obligations

• recommended ≥2

• higher is better

• lower = risk of liquidity problems

How do you interpret Debt Payments Ratio?

• Measures portion of take-home pay used for non-mortgage debt

• recommended <20%

• lower is better

• higher = risk of cash flow stress from debt

Why track net worth over time?

• Measures growth and progress toward goals

• must grow faster than inflation

What does a Cash Flow Statement measure?

• Tracks inflows vs outflows over a period

• Formula: Net Cash Flow = Income − Expenses

gray-area spending?

Gray area = lifestyle-dependent

How are RRSP and TFSA contributions treated in cash flow?

Treated as expenses because they reduce disposable income

Seven-step budgeting process?

1. Set financial goals (short- & long-term)

2. Estimate total income

3. Pay yourself first (savings & emergency fund)

4. Budget fixed expenses

5. Budget variable expenses

6. Record actual spendin

7. Review & adjust

Types of expenses?

Fixed, Variable, Discretionary, Non-discretionary, Irregular, Gray area

What is an opportunity cost?

The value of the next best alternative given up when making a decision.

Example of opportunity cost in personal finance?

Buying on credit reduces future income available for spending.

What defines a life situation?

Major life events (e.g., marriage, having children, career change).

What is NOT a life situation?

Purchases (e.g., buying a car).

How do you calculate take-home pay?

Take-home pay = Gross income − deductions (tax, CPP, EI).

What is NOT included in take-home pay?

Investment income.

Are CPP and EI included as expenses in cash flow?

No — they are already deducted before net income.

EFR = 2.1 → what should you conclude?

Emergency fund is too low → increase liquid savings.

Is buying a car a life situation?

No — it is a purchase, not a life event.

If someone includes investment income in take-home pay, is that correct?

No — take-home pay only includes employment income after deductions.