F303 INTERMEDIATE FINANCE  SPRING 1997  HOLDEN, MYSKER, WEDIG
PROJECT 2: LIFETIME FINANCIAL PLAN
This is a team project. Each team will develop a lifetime financial plan designed to meet the needs a typical IU business graduate with medium risk aversion. Each team will do one out of three alternative extensions to account for: (1) higher or lower realized returns, (2) higher or lower risk aversion, and (3) the benefit of taxfavored retirement plans.
HISTORICAL DATA
This project uses historical data on annual returns for two risky assets:
and the annual US riskfree rate and US inflation rate. The F303 Home Page provides a data file for this project in both Lotus and Excel formats. They are also available on the Instruct server for F303 Holden under the menu options EXCEL2 and LOTUS2.
BASE CASE
Each team should guess/estimate the following for each working year for a typical IU business graduate with medium risk aversion:
Then put together an investment plan and consumption plan covering both working years and retirement years. The investment plan should recommend how much to invest in each of the assets. To do this, you need to estimate the following:
You will need to account for taxes. Here are the applicable tax rates:
Condition Outcome
If Income < $38,000 ==> Tax = (Income) (18%)
Otherwise If Income < $91,850 ==> Tax = ($38,000) (18%) + (Income  $38,000) (28%)
Otherwise If Income < $140,000 ==> Tax = ($38,000) (18%) + ($91,850  $38,000) (28%)
+ (Income  $91,850) (31%)
Otherwise ==> Tax = ($38,000) (18%) + ($91,850  $38,000) (28%)
+ ($140,000  $91,850) (31%) + (Income  $140,000) (36%)
Nested IF statements in Excel:
=IF(First_Condition,First_Outcome,IF(Second_Condition,Second_Outcome,IF(Third_Condition,
Third_Outcome,Fourth_Outcome)))
Nested IF statements in Lotus:
@IF(First_Condition,First_Outcome,@IF(Second_Condition,Second_Outcome,@IF(Third_Condition,
Third_Outcome,Fourth_Outcome)))
Assume that you have access to a beforetax, taxdeferred retirement account (such as a 401(k), 403(b), or Keogh account) for all of the money you are saving for retirement. For simplicity, ignore the cap on such accounts. Inside this retirement account you can invest in four assets: (1) US stocks, (2) foreign stocks, (3) the US riskfree asset, and (4) a lifetime annuity at the US riskfree rate as described below. You can freely transfer funds between these four assets while still keeping all of the funds inside the retirement account and thus deferring taxes. You only pay taxes when money is withdrawn from the retirement account to use for consumption.
When there are two risky assets, the weights of the optimal risky portfolio in asset B and asset S are given by the formula at the bottom of page 145 of the textbook:
Next put together a consumption plan for both working years and retirement years.
EXTENSIONS
Each team will be designated as TypeA, TypeB, or TypeC and should do the corresponding extension described below.
(1) FOR TYPEA TEAMS: BASE CASE VS. ALTERNATIVE REALIZED RETURNS
Modify the consumption plan for: (A) low average realized returns from the risky assets and (B) high average realized returns from the risky assets.
(2) FOR TYPEB TEAMS: BASE CASE VS. ALTERNATIVE RISK AVERSION
Modify the investment and consumption plan for: (A) a high risk aversion investor and (B) a low risk aversion investor.
(3) FOR TYPEC TEAMS: BENEFIT OF TAXFAVORED RETIREMENT PLANS
Modify the investment and consumption plan by assuming that no taxfavored retirement accounts (such as a 401(k), 403(b), Keogh plan, or IRA) are available. Specifically, compare the difference in consumption plans between using a beforetax, taxdeferred retirement account vs. using an aftertax, nondeferred retirement account.
SALES PRESENTATION AND REPORT
On Thursday, February 20th, half of the teams will make a brief sales presentation to the class to summarize their findings. Each team will have twelve minutes to present their results, there will two minutes for questions, and one minute for transition between teams. These time limits will be strictly observed in order to be fair to everyone. A computer projector with Lotus FreeLance and Microsoft PowerPoint will be available. All teams are required to use one of these two presentation software packages. With presentation software, it is typical for one team member to operate the computer presentation while other members to talk.
Professors Holden, Mysker, or Wedig will evaluate the presentation based on:
A written report is also due in class on Thursday, February 20th. The format is onepage executive summary, fourpage doublespaced body, and no more than ten pages of appendices, including all graphs, spreadsheets, and presentation print outs. The body of the paper should tell the complete story. It should be written as if we were very busy bosses, who probably would not look at the appendices at all.
GRADING
The project is graded as follows:

20 points 20 points 20 points 
Confidential peer evaluations of individual contributions to the team project will made. Individuals who have contributed significantly more or significantly less than the group average will be rewarded or penalized accordingly. The purpose of these peer evaluations is to provide direct incentives for individual contributions to the team project.
TIPS FOR REPORT EXPOSITION
Here are some general suggestions for report exposition that would apply to a broad range of reports:
TIPS FOR A QUALITY PRESENTATION
Here are some general suggestions for a quality presentation that would apply to a broad range of presentations:
Appendix: Projecting Cash Flows
Here are sample spreadsheet layouts for the two cases: (1) when savings are beforetax and taxdeferred and (2) when savings are aftertax and not taxdeferred.
When Savings are BeforeTax and TaxDeferred
Working Years 

Retirement Years 



Beforetax Income 

Money withdrawn from 401(k) plan 
Less Mortgage Interest Expense 

Less Taxes 
Less 401(k) Savings Amount 

Money available for consumption 
Taxable Income 

==> pay taxes on the full amount, since you 
Less Taxes 

haven’t paid any taxes so far! 
Aftertax Income 


Less Mortgage Principal Reduction Expense 


Less All Other Consumption Expenses 


Zero 








When Savings are After Tax and Not Tax Deferred
Working Years 

Retirement Years 



Beforetax Income 

No taxes paid on when you use your savings 
Less Mortgage Interest Expense 

==> you already paid taxes 
Taxable Income 

==> you don’t have to pay twice! 
Less Taxes 


Aftertax Income 


Less Mortgage Principal Reduction Expense 


Less All Other Consumption Expenses 


Less Savings 


Zero 





Earn Recognized Capital Gain on Savings 


Less Taxes 


Reinvest Aftertax Capital Gain 


Directions for downloading the Project 2 dataset from the F303 Home Page.