PFS Education Planning & Financial Analysis 2 — Questions and Answers
Question 1: The debt-to-income (DTI) ratio is primarily used in financial planning to evaluate a client's:
- Investment risk tolerance
- Ability to manage and service existing and new debt (Correct answer)
- Business profitability margins
- Net worth growth trend over time
Correct answer: Ability to manage and service existing and new debt
The DTI ratio compares total monthly debt payments to gross monthly income and is a standard measure of a client's debt-servicing capacity.
Question 2: A client has total assets of $850,000 and total liabilities of $320,000. What is the client's net worth?
- $320,000
- $530,000 (Correct answer)
- $850,000
- $1,170,000
Correct answer: $530,000
Net worth equals total assets minus total liabilities: $850,000 − $320,000 = $530,000.
Question 3: The standard financial planning recommendation for an emergency fund is liquid assets covering how many months of living expenses?
- 1–2 months
- 3–6 months (Correct answer)
- 12–18 months
- 24 months
Correct answer: 3–6 months
Financial planners typically recommend 3–6 months of living expenses in accessible, liquid accounts, with those having variable income targeting the higher end.
Question 4: Which personal finance ratio measures the percentage of income directed toward savings and investments?
- Debt service ratio
- Liquidity ratio
- Savings ratio (Correct answer)
- Net worth ratio
Correct answer: Savings ratio
The savings ratio (savings ÷ gross income) measures what fraction of income is being accumulated for future goals rather than spent on current consumption.
Question 5: On a personal cash flow statement, net cash flow is calculated as:
- Total assets minus total liabilities
- Gross income minus income taxes only
- Total income minus total expenses (Correct answer)
- Net income minus only debt payments
Correct answer: Total income minus total expenses
Net cash flow equals total inflows (all income) minus total outflows (all expenses), revealing whether the client has a monthly surplus or deficit.
Question 6: The personal 'liquidity ratio' in financial planning is calculated as:
- Percentage of portfolio allocated to equities vs. fixed income
- Liquid (monetary) assets divided by monthly expenses (Correct answer)
- Total liabilities divided by total assets
- Monthly savings divided by monthly gross income
Correct answer: Liquid (monetary) assets divided by monthly expenses
The liquidity ratio equals liquid monetary assets divided by monthly expenses, indicating how many months of expenses the client can cover without any new income.
PFS Education Planning & Financial Analysis 2
The debt-to-income (DTI) ratio is primarily used in financial planning to evaluate a client's: