Personal Financial Planning Mini-Case
Jeff and Mary Douglas, a couple in their mid-30s, have twochildren - Paul age 6 and Marcy age 7. The Douglas' do not havesubstantial assets and have not yet reached their peak earningyears. Jeff is a general manager of a jewelry manufacturer inProvidence, RI while Mary teaches at the local elementary school inthe town of Tiverton, RI. The family needs both incomes to meettheir normal living expenses and to meet unforeseen emergencypurchases. Their cash flow situation is tight and they have haddifficulty growing a "nest egg" through savings and investing.
Jeff and Mary have discussed the needs of their two children whoare typical, healthy, and active kids. They have discussed tryingto have Mary stay at home, be with the kids more and run thehousehold but her income is very much needed and she also wants acareer and doesn't want to put her teaching job on hold to be astay-at-home mother. Jeff also wants (and needs) to work and hisjob often requires long days - beyond the 9-5 grind.
Now that both children are in school there is no day care needand Mary's job schedule actually matches nicely with the children'sschedule so she not only wants to continue to work but is thinkingabout completing a graduate degree. Currently, Mary is able to takemost of the summer off from teaching (when the children are home onvacation) and so she enjoys a great deal of flexibility in thesummer and spends quite a bit of time with the children in thesummer.
Jeff is the breadwinner of the family but Mary's contribution isalso very significant. Jeff earns about 65% of the total householdincome with Mary earning the remainder. By completing a graduatedegree, Mary could increase her salary by at least 20% but shewould need to commit to a continuing education program at eitherProvidence College or URI.
Although their net worth is not substantial, they have bigdreams and aspirations. Their personal financial objectives includegoals that if achieved would provide a better life for theirchildren than both Jeff and Mary had growing up in working classfamilies in the Fall River and New Bedford areas. They want to helptheir children go to good colleges and Jeff and Mary want to haveassets that allow them (Jeff and Mary) live a comfortableretirement. Both are in excellent health and have family historiesof long life expectancies. Their retirements (at age 65 or so)could be a period of 20 or more years.
They own their home which has an assessed value of $200,000 anda market value of about $300,000 (as determined by a real estateappraiser based on recent sales of comparable homes in similarneighborhoods.) The mortgage on the home has a balance of $140,000.A review of the Douglas' financial information, bank statements,and other documents shows the following as of 6/1/18:
- 2011 Camry worth about $11,000, with a bank loan balance of$3,000
- 2012 Volvo S60 worth about $15,000, with a bank loan balanceof $10,000
- An insurance policy on Jeff's life with a face value of$100,000 and no cash surrender value. Mary is the beneficiarylisted on Jeff's policy.
- An insurance policy on Mary's life with a face value of$10,000 and no cash surrender value. Jeff is the beneficiary listedon Mary's policy.
- Credit card balances that total $3,500.
- A savings account with a $1,000 balance.
- Two mutual funds earmarked for the children's collegeeducation. The account for Paul has a balance of $10,000 andMarcy's has $11,000 as a current balance. The fund has averaged an8% annual rate of return over its life.
- 100 shares of Apple Inc. (NASDAQ: stock symbol = AAPL),formerly Apple Computer, Inc. You need to value this stock based onthe 1/2/18 price per share. You will need to find that on theInternet.
- 200 Shares of AT&T.
- 150 shares of Twitter.
- A checking account with a balance of $3,000.
- Jeff estimates that their furniture, fixtures etc. in the homeare worth about $7,000.
- Jeff and Mary have retirement accounts that have a currentmarket value of approximately $200,000.
- Mary still has an education loan with an outstanding balanceof $15,000. It still has seven years left on it.
- A vacation loan of $750 due in 6 months and a home improvementloan of $2,000 due in 2 years (unsecured - not a home equityloan.)
- Jeff wants to finish the basement and he has discussed this atlength with Mary. He is getting estimates from contractors based onideas that both he and Mary have to create a play area for thechildren and a TV/den for the family. Jeff and Mary love to playping pong and pool and would love to introduce the children to both"sports." He believes that the project will cost about $30,000 andhe is interested in tapping into the home equity.
- Jeff is also an avid baseball fan and is looking at buying amembership to a local baseball/softball facility for both Paul andMarcy. He figures that since he doesn't have any expensive hobbies,it would be fun to get Paul started as a baseball player and Marcyas a softball player. The membership costs and related costs are asfollows: $1,500 per year (covers both kids), equipment $500 peryear, and team registration and travel costs will be about another$1,000 to $2,000 a year depending on how serious the kids become.Mary is not sure that this is a priority at this point and wants toexplore this possibility in more detail.
General instructions: Please read through the questions below,compile your own answers and responses. I need to have you submityour solution (answers to the questions below) by attaching fileswithin the Assignment tab in myCourses (not CONNECT!).PLEASE DO NOT EMAIL ME YOUR SOLUTION AS IT MAY GET LOST INTHE HUNDREDS OF EMAILS I RECEIVE EACH WEEK. IT MAKES THINGS MUCHEASIER IF YOU SUBMIT VIA MYCOURSES. ALSO YOUR GRADE FOR THIS CASEWILL ALSO BE REPORTED IN MYCOURSES.
1. What is the family's net worth? Please attach support forthis with either an Excel or MS Word document to the PersonalFinance Case assignment tab in myCourses. Your Excel or MS Wordfile should clearly reveal the Balance Sheet for the DouglasFamily. Please produce it in good form - emulating what you see forexamples in the book. The balance sheet "as of date" should be6/1/18
2. What is the current ratio? (Use the formula from thebook)
3. What is the debt ratio?
4. Any comments about the familyâs investment portfolio? Pleasekeep in mind that their investment portfolio currently consists ofcommon stocks. Their home is not considered part of theirinvestment portfolio. Strengths or weaknesses?
5. If the family's monthly living expenses are about $6,000,what is their liquidity ratio?
6. Jeff Douglas believes strongly that they should help fullyfund the equivalent of a state university education (4 years) forPaul and Marcy. Both sets of grandparents have volunteered to makea lump sum donation (50/50 spilt) to the mutual funds today. Inother words, these generous grandparents have stated that they arewilling to pool their funds and make a substantial deposit tosupport an education fund.
Assuming that today's cost of that type of college education is$25,000 per year and that it will inflate by 4% per year, how muchmust the grandparents donate to the mutual funds to fully fundthese investments (to meet Jeff's goal)? (Assume that Paul andMarcy will start college in 12 and 11 years respectively. You willneed to determine the present value of the future college costs. Ihave put a worksheet at the end of this document that you mightfind helpful. If you are an Excel user, you can set this up withinan Excel worksheet. Here are some steps to follow:
A. First by growing the cost of education by 4% per year (12years into the future for Paul and 11 years for Marcy) and thencalculating the present value of those future cash flows. Keep inmind that Paul will be going to school for 4 years and so too willMarcy. So you will need to figure the future value of the cost ofeducation for the first year, second year, third year, and fourthyear - each year 4% more costly than the year before!
B. Calculate the present value of the future costs of educationusing the investment yield prediction (8% - see below and notice inthe data above that the investment fund has averaged 8% peryear).
C. Once you have the present value of the future costs - you cansubtract the current balance in these accounts to derive the"donation" that the grandparents will need to make.) Assume thatthe investment will grow at 8% per year as a result of investmentyields. How much (in total) must the grandparents invest today toestablish the education fund for Paul and Marcy?
NOTE: There is more on how to approach solving requirement 6 atthe end of this document.
7. Calculate the percentage of net worth represented by the homeand the next two largest assets. Take into account any loansattributed to those assets so that you show the following - theassetâs net value/Total family net worth. Count both cars as oneasset (Automobiles).
This is called the âdominantâ asset â other words, if a familyis âcar richâ then that would mean a significant percentage oftheir wealth (as defined by net worth) would be from the value ofits cars. The cars would be the dominant asset. If the familyâs networth is mostly from their retirement accounts, then we could saythat a significant amount of their wealth is from pensions.
8. Jeff is considering applying for a home equity loan tofinance the basement project. What is the maximum home equity loanthe Douglas' could possibly get based only on equity (and ignoringcash flow considerations)? Assume that a bank is willing to loan upto 80% of the value of the home (between the mortgage and the homeequity loan).
9. Home equity loans have many advantages. For example, the homeequity loan may be the source of funds to help Jeff and Mary finishtheir basement. The interest on the loan will be tax deductible.The arrangement that Jeff and Mary are looking at will involve a15-year payback period and would allow for them to draw down on anyunused funds in a credit line arrangement.
Please describe two disadvantages of a home equity loan andrecommend an amount that Jeff and Mary should request for theirline of credit.
10. In your textbook chapter on Life Insurance,read about "Determining Your Life Insurance Needs." Please use thefollowing methods: Easy Method (assume Jeff makes $70,000 per yearand Mary makes about $40,000), DINK method (even though they dohave two kids still use DINK to come up with an estimated amountand assume that funeral expenses will be $10,000 for Jeff and$10,000 for Mary.) and the "Family Need" method. Also, when usingthe DINK method, assume that "other debts" are 100% of the balancesfor the vacation, home improvement, and education loans.
For the Family Need method, use the samecalculations as shown the book example. Assume that living expensesare 70% of their income (you need this to estimate an emergencyfund). Be conservative and estimate an emergency fund of 6 monthsof living expenses. Keep in mind that when using the "Family Need"method, you have to run the analysis twice (see the bookexample) - once based on the what-if assumption that Jeffdies now and once based on the what-if assumption that Mary diesnow. Assume that the retirement account on the balance sheet is 90%Jeff's funds and 10% Mary's. Ignore social security death benefits.Also, the assumption should be that the Mutual Fund investmentshould not be considered as a liquid asset because it is earmarkedfor the children's education.
What do you recommend for death benefit amounts for each person(Jeff and Mary)? Please write a paragraph or two mentioning theamount of life insurance each needs and why you chose the amountyou did.
11. Pretend you are a personal financial planning professionalattempting to devise a comprehensive personal financial plan forJeff and Mary. What other areas of Jeff and Mary's personalfinancial situation should be examined? Please mention at least 2other concepts that they should take a careful look at. Pleasewrite a few paragraphs that answer this question. Feel free to poseadditional questions that you would like to ask Jeff and Mary as away of making sure you, as a financial planner, understand theirsituation.
_________________________________________________________________
Requirement 6 of the Douglas Personal Financial PlanningCase
These steps and the worksheet below might help you solverequirement 6. I find it easier to set this type of thing up withinan Excel worksheet and I like to utilize the FV and PV functions ofExcel. However, you can also do this with the time value of moneytables within the text or with a financial calculator. Itâs up toyou. In any event, please show your work - how you derived yourfinal answer.
1. First step involves growing the cost of education by 4% peryear (12 years into the future for Paul and 11 years for Marcy) andthen finding the present value of those future costs by assuming an8% annual return. So here's what you need to do. Set upa table like these for both kids:
(GO TO NEXT PAGE)
Paul's projections
Years (end of year)
Future Value of Education Cost (4%)
Present value of Education Costs (using 8% as the discountrate)
12
$40,026
$15,894.80
13
$41,627
$$15,306.10
14
$43,292
$14,739.21
15
$45,024
$14,193.31
Total
$60,133.42
Marcy's projections
Years (end of year)
Future Value of Education Cost (4%)
Present value of Education Costs (using 8% as the discountrate)
11
12
13
14
Total
$
Once you have the present value of the future costs - you cansubtract the current balance in the current education accounts toderive the "donation" that the grandparents will need to make.) Howmuch (in total) must the grandparents invest today to establish theeducation fund for Paul and Marcy? Use the following formula:
Total present value of the education costs less the $21,000 inthe current education accounts = the donation that the grandparentswill make.
Personal Financial Planning Mini-Case
Jeff and Mary Douglas, a couple in their mid-30s, have twochildren - Paul age 6 and Marcy age 7. The Douglas' do not havesubstantial assets and have not yet reached their peak earningyears. Jeff is a general manager of a jewelry manufacturer inProvidence, RI while Mary teaches at the local elementary school inthe town of Tiverton, RI. The family needs both incomes to meettheir normal living expenses and to meet unforeseen emergencypurchases. Their cash flow situation is tight and they have haddifficulty growing a "nest egg" through savings and investing.
Jeff and Mary have discussed the needs of their two children whoare typical, healthy, and active kids. They have discussed tryingto have Mary stay at home, be with the kids more and run thehousehold but her income is very much needed and she also wants acareer and doesn't want to put her teaching job on hold to be astay-at-home mother. Jeff also wants (and needs) to work and hisjob often requires long days - beyond the 9-5 grind.
Now that both children are in school there is no day care needand Mary's job schedule actually matches nicely with the children'sschedule so she not only wants to continue to work but is thinkingabout completing a graduate degree. Currently, Mary is able to takemost of the summer off from teaching (when the children are home onvacation) and so she enjoys a great deal of flexibility in thesummer and spends quite a bit of time with the children in thesummer.
Jeff is the breadwinner of the family but Mary's contribution isalso very significant. Jeff earns about 65% of the total householdincome with Mary earning the remainder. By completing a graduatedegree, Mary could increase her salary by at least 20% but shewould need to commit to a continuing education program at eitherProvidence College or URI.
Although their net worth is not substantial, they have bigdreams and aspirations. Their personal financial objectives includegoals that if achieved would provide a better life for theirchildren than both Jeff and Mary had growing up in working classfamilies in the Fall River and New Bedford areas. They want to helptheir children go to good colleges and Jeff and Mary want to haveassets that allow them (Jeff and Mary) live a comfortableretirement. Both are in excellent health and have family historiesof long life expectancies. Their retirements (at age 65 or so)could be a period of 20 or more years.
They own their home which has an assessed value of $200,000 anda market value of about $300,000 (as determined by a real estateappraiser based on recent sales of comparable homes in similarneighborhoods.) The mortgage on the home has a balance of $140,000.A review of the Douglas' financial information, bank statements,and other documents shows the following as of 6/1/18:
- 2011 Camry worth about $11,000, with a bank loan balance of$3,000
- 2012 Volvo S60 worth about $15,000, with a bank loan balanceof $10,000
- An insurance policy on Jeff's life with a face value of$100,000 and no cash surrender value. Mary is the beneficiarylisted on Jeff's policy.
- An insurance policy on Mary's life with a face value of$10,000 and no cash surrender value. Jeff is the beneficiary listedon Mary's policy.
- Credit card balances that total $3,500.
- A savings account with a $1,000 balance.
- Two mutual funds earmarked for the children's collegeeducation. The account for Paul has a balance of $10,000 andMarcy's has $11,000 as a current balance. The fund has averaged an8% annual rate of return over its life.
- 100 shares of Apple Inc. (NASDAQ: stock symbol = AAPL),formerly Apple Computer, Inc. You need to value this stock based onthe 1/2/18 price per share. You will need to find that on theInternet.
- 200 Shares of AT&T.
- 150 shares of Twitter.
- A checking account with a balance of $3,000.
- Jeff estimates that their furniture, fixtures etc. in the homeare worth about $7,000.
- Jeff and Mary have retirement accounts that have a currentmarket value of approximately $200,000.
- Mary still has an education loan with an outstanding balanceof $15,000. It still has seven years left on it.
- A vacation loan of $750 due in 6 months and a home improvementloan of $2,000 due in 2 years (unsecured - not a home equityloan.)
- Jeff wants to finish the basement and he has discussed this atlength with Mary. He is getting estimates from contractors based onideas that both he and Mary have to create a play area for thechildren and a TV/den for the family. Jeff and Mary love to playping pong and pool and would love to introduce the children to both"sports." He believes that the project will cost about $30,000 andhe is interested in tapping into the home equity.
- Jeff is also an avid baseball fan and is looking at buying amembership to a local baseball/softball facility for both Paul andMarcy. He figures that since he doesn't have any expensive hobbies,it would be fun to get Paul started as a baseball player and Marcyas a softball player. The membership costs and related costs are asfollows: $1,500 per year (covers both kids), equipment $500 peryear, and team registration and travel costs will be about another$1,000 to $2,000 a year depending on how serious the kids become.Mary is not sure that this is a priority at this point and wants toexplore this possibility in more detail.
General instructions: Please read through the questions below,compile your own answers and responses. I need to have you submityour solution (answers to the questions below) by attaching fileswithin the Assignment tab in myCourses (not CONNECT!).PLEASE DO NOT EMAIL ME YOUR SOLUTION AS IT MAY GET LOST INTHE HUNDREDS OF EMAILS I RECEIVE EACH WEEK. IT MAKES THINGS MUCHEASIER IF YOU SUBMIT VIA MYCOURSES. ALSO YOUR GRADE FOR THIS CASEWILL ALSO BE REPORTED IN MYCOURSES.
1. What is the family's net worth? Please attach support forthis with either an Excel or MS Word document to the PersonalFinance Case assignment tab in myCourses. Your Excel or MS Wordfile should clearly reveal the Balance Sheet for the DouglasFamily. Please produce it in good form - emulating what you see forexamples in the book. The balance sheet "as of date" should be6/1/18
2. What is the current ratio? (Use the formula from thebook)
3. What is the debt ratio?
4. Any comments about the familyâs investment portfolio? Pleasekeep in mind that their investment portfolio currently consists ofcommon stocks. Their home is not considered part of theirinvestment portfolio. Strengths or weaknesses?
5. If the family's monthly living expenses are about $6,000,what is their liquidity ratio?
6. Jeff Douglas believes strongly that they should help fullyfund the equivalent of a state university education (4 years) forPaul and Marcy. Both sets of grandparents have volunteered to makea lump sum donation (50/50 spilt) to the mutual funds today. Inother words, these generous grandparents have stated that they arewilling to pool their funds and make a substantial deposit tosupport an education fund.
Assuming that today's cost of that type of college education is$25,000 per year and that it will inflate by 4% per year, how muchmust the grandparents donate to the mutual funds to fully fundthese investments (to meet Jeff's goal)? (Assume that Paul andMarcy will start college in 12 and 11 years respectively. You willneed to determine the present value of the future college costs. Ihave put a worksheet at the end of this document that you mightfind helpful. If you are an Excel user, you can set this up withinan Excel worksheet. Here are some steps to follow:
A. First by growing the cost of education by 4% per year (12years into the future for Paul and 11 years for Marcy) and thencalculating the present value of those future cash flows. Keep inmind that Paul will be going to school for 4 years and so too willMarcy. So you will need to figure the future value of the cost ofeducation for the first year, second year, third year, and fourthyear - each year 4% more costly than the year before!
B. Calculate the present value of the future costs of educationusing the investment yield prediction (8% - see below and notice inthe data above that the investment fund has averaged 8% peryear).
C. Once you have the present value of the future costs - you cansubtract the current balance in these accounts to derive the"donation" that the grandparents will need to make.) Assume thatthe investment will grow at 8% per year as a result of investmentyields. How much (in total) must the grandparents invest today toestablish the education fund for Paul and Marcy?
NOTE: There is more on how to approach solving requirement 6 atthe end of this document.
7. Calculate the percentage of net worth represented by the homeand the next two largest assets. Take into account any loansattributed to those assets so that you show the following - theassetâs net value/Total family net worth. Count both cars as oneasset (Automobiles).
This is called the âdominantâ asset â other words, if a familyis âcar richâ then that would mean a significant percentage oftheir wealth (as defined by net worth) would be from the value ofits cars. The cars would be the dominant asset. If the familyâs networth is mostly from their retirement accounts, then we could saythat a significant amount of their wealth is from pensions.
8. Jeff is considering applying for a home equity loan tofinance the basement project. What is the maximum home equity loanthe Douglas' could possibly get based only on equity (and ignoringcash flow considerations)? Assume that a bank is willing to loan upto 80% of the value of the home (between the mortgage and the homeequity loan).
9. Home equity loans have many advantages. For example, the homeequity loan may be the source of funds to help Jeff and Mary finishtheir basement. The interest on the loan will be tax deductible.The arrangement that Jeff and Mary are looking at will involve a15-year payback period and would allow for them to draw down on anyunused funds in a credit line arrangement.
Please describe two disadvantages of a home equity loan andrecommend an amount that Jeff and Mary should request for theirline of credit.
10. In your textbook chapter on Life Insurance,read about "Determining Your Life Insurance Needs." Please use thefollowing methods: Easy Method (assume Jeff makes $70,000 per yearand Mary makes about $40,000), DINK method (even though they dohave two kids still use DINK to come up with an estimated amountand assume that funeral expenses will be $10,000 for Jeff and$10,000 for Mary.) and the "Family Need" method. Also, when usingthe DINK method, assume that "other debts" are 100% of the balancesfor the vacation, home improvement, and education loans.
For the Family Need method, use the samecalculations as shown the book example. Assume that living expensesare 70% of their income (you need this to estimate an emergencyfund). Be conservative and estimate an emergency fund of 6 monthsof living expenses. Keep in mind that when using the "Family Need"method, you have to run the analysis twice (see the bookexample) - once based on the what-if assumption that Jeffdies now and once based on the what-if assumption that Mary diesnow. Assume that the retirement account on the balance sheet is 90%Jeff's funds and 10% Mary's. Ignore social security death benefits.Also, the assumption should be that the Mutual Fund investmentshould not be considered as a liquid asset because it is earmarkedfor the children's education.
What do you recommend for death benefit amounts for each person(Jeff and Mary)? Please write a paragraph or two mentioning theamount of life insurance each needs and why you chose the amountyou did.
11. Pretend you are a personal financial planning professionalattempting to devise a comprehensive personal financial plan forJeff and Mary. What other areas of Jeff and Mary's personalfinancial situation should be examined? Please mention at least 2other concepts that they should take a careful look at. Pleasewrite a few paragraphs that answer this question. Feel free to poseadditional questions that you would like to ask Jeff and Mary as away of making sure you, as a financial planner, understand theirsituation.
_________________________________________________________________
Requirement 6 of the Douglas Personal Financial PlanningCase
These steps and the worksheet below might help you solverequirement 6. I find it easier to set this type of thing up withinan Excel worksheet and I like to utilize the FV and PV functions ofExcel. However, you can also do this with the time value of moneytables within the text or with a financial calculator. Itâs up toyou. In any event, please show your work - how you derived yourfinal answer.
1. First step involves growing the cost of education by 4% peryear (12 years into the future for Paul and 11 years for Marcy) andthen finding the present value of those future costs by assuming an8% annual return. So here's what you need to do. Set upa table like these for both kids:
(GO TO NEXT PAGE)
Paul's projections
Years (end of year) | Future Value of Education Cost (4%) | Present value of Education Costs (using 8% as the discountrate) |
12 | $40,026 | $15,894.80 |
13 | $41,627 | $$15,306.10 |
14 | $43,292 | $14,739.21 |
15 | $45,024 | $14,193.31 |
Total | $60,133.42 |
Marcy's projections
Years (end of year) | Future Value of Education Cost (4%) | Present value of Education Costs (using 8% as the discountrate) |
11 | ||
12 | ||
13 | ||
14 | ||
Total | $ |
Once you have the present value of the future costs - you cansubtract the current balance in the current education accounts toderive the "donation" that the grandparents will need to make.) Howmuch (in total) must the grandparents invest today to establish theeducation fund for Paul and Marcy? Use the following formula:
Total present value of the education costs less the $21,000 inthe current education accounts = the donation that the grandparentswill make.
