2011 CFAI morning (return objective)

Hello all, in the 2011 level 3 morning exam, the son inherited $8m and would get it at year end. he had a salary of $450,000, in the current year. they asked for a return requirement at year-end. why would his current salary not be counted towards his investable assets? thank you

His salary is completely taken up by the current year expenses. $475,000 salary less $225,000 mortgage and $250,000 living.

^^^ correct. Inflows/outflows nets it out.

In the current year we have


Salary + 475,000

Current Living Expense -250,000

Mortgage Payment -225,000

Leaving the net inflows/outflows at $0 for year 0. So nothing will have to get added to investable assets.

Now, in the first year of his retirment, he is not working so he will not be bringing in a salary, only his pension. So we have


Pension +48,000

Expenses 250,000(1.03) = 257,500 [this is adjusted for 1 year of inflation]

Net inflows/outflows = -$209,500

Investable assets of:

Inheritance +8,000,000

Mortgage -3,500,000

Debt -150,000

Total investable assets = $4,350,000

So we take the after tax year cash flow $209,500 / $4,350,000 = 4.82% and then adjust for inflation to get the after-tax nominal return of (1.0482)(1.03)-1 = 7.96%