Nflat Book

Target

NCFE’s

NFLAT (NATIONAL FINANCIAL LITERACY ASSESSMENT TEST) for the students of Classes 8, 9 and 10

by Manju Goel

his book provides : T ® Syllabus for the Test ® General Instructions for the Test ® Chapter-wise key notes ® Chapter-wise Question Bank  

with Answers and Explanations

GOYAL BROTHERS PRAKASHAN

GOYAL BROTHERS PRAKASHAN E D U C A T I O N A L  P U B L I S H E R S Sales & Registered Office : 11/1903, Chuna Mandi, Paharganj, New Delhi - 110055 Post Box : 5720, Phones : 23584658 & 23582812 E-mail : [email protected]

Administrative Office :

D-231, Sector 63, Noida-201301 (U.P.) Phone : 0120-3830000, Fax : 0120-3830001 Ahmedabad

Branches :

: BL-Y, Shop No.9, Dev Castle, Opp. Radhe Krishna Complex, Jay Mala Society Road (Opp. St. Mary’s School), Govindwadi, Isanpur, Maninagar, Ahmedabad–383443, Mobile: 09925004030

Chennai

: No. 51 (New) 87 (Old), East CIT Nagar, 5th Main Road, Nandanam, Chennai-600 035 (Tamil Nadu) Phones : 044-24322767, Fax No. 044-24322777 Guwahati : Bishop Plaza, Col. J. Ali Road, Lakhtokia, Guwahati – 781001 (Assam), Phone : 0361-2735337 Hyderabad : F-7/8/41, First Floor, Agarwal Chambers, 5-9-1121, King Kothi Road, Hyderabad - 500001 Tele-fax : 23211332 Kochi : Chelliyanthara House, Maplassery Road, Vyttila P.O., Kochi - 682019 (Kerala) Phone : 09847036566 Kolkata : No. 203, 2nd Floor, Fomra Towers, 84-A, Acharya Jagdish Chandra Bose Road, Kolkata - 700014 Phone : 033-22262683

Showrooms :

Bangalore : 1681/5/4, Ground Floor, 3rd Main Ramamohanapuram, Bangalore - 560 021, Phone : 080-23320655 Bhopal : Plot No. 203, Zone-II, M.P. Nagar, Bhopal-462 011 (M.P.), Tele-fax : 0755-4271371 Lucknow : B-318, Sector-B, Mahanagar, Opposite P.A.C Main Gate, Lucknow - 226 006, Phone : 0522-2320841 Patna : Ravi Kiran Apartment, Flat No. 2-A, Second floor, Near Water Pumping Station, Pani Tanki Lane, Pirmohani, Patna – 800003 © Reserved with Goyal Brothers Prakashan First Edition : December, 2013

Published & Printed by Roshan Lal Goyal for Goyal Brothers Prakashan, New Delhi

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General Instructions About the Test

l Students

can register for the test through their schools only. No direct registration available.



l The



l There



l Please



l Particulars to be noted : Please note carefully your Roll Number,

examination consists of 75 questions to be completed in 1 hour. is no passing mark for this test and all students will receive a certificate. note that there is negative marking of 25% for wrongly attempted questions, i.e., – 0.25 for 1-mark questions, – 0.5 for 2-marks questions, – 0.75 for 3-marks questions, etc. Date of Exam., Time and Venue for the examination given in the hall ticket/ admit card.



l Punctuality

in Attendance : You should be present at the examination hall before the time given in the hall ticket/ admit card. Candidates arriving late will not be permitted to enter the Examination Hall.



l Hall



l Compliance



l Use

ticket /admit card to be surrendered: Bring this hall ticket/ admit card in original with a passport size photo duly pasted & attested by the head of the institution (with school stamp).You will not be permitted to appear for the examination if you do not bring the hall ticket/ admit card as instructed. You should hand over your hall ticket/ admit card to the invigilator in the examination hall. with instructions : You should scrupulously follow the instructions given by test administrator and the invigilators at all the stages of the examination. If you violate the instructions you will be disqualified and may also be asked to leave the examination hall. of Books, Notes and Copying or Receiving/Giving Assistance Not Allowed : No calculator, separate or with watch,

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pagers, cellphones, books, slide rules, foot rules, notebooks or written notes will be allowed inside the examination hall. Any candidate who is found either copying or receiving or giving assistance will be disqualified.

l Do

not leave your seat unless you are allowed.



l Use



l Rough



l Travelling Allowance not admissible : No travelling allowance

of Stationery : You must bring a ball point pen with you.

work to be done on the sheet provided : You should do all the necessary rough work on sheet provided only. After the test is over, you should hand over the sheet, given for rough work to the invigilator before leaving the examination hall. or other expenses in connection with the examination will be paid.



l The

travelling, boarding & lodging expenses for attending the Grand Award Ceremony will be reimbursed to all award winners as per NCFE norms.



l NCFE’s

decision in this regard shall be final and binding on all the participants.

Test Details

Duration of Examination : 1 hour



Medium of Examination : English and Hindi



Number of Questions : 75



Type of Questions :



Combination of 1 mark, 2 marks and 3 marks questions 4 options (alternatives) for each question



Negative marking of 25% for wrongly attempted questions, i.e., – 0.25 for 1-mark questions, – 0.5 for 2-marks questions, – 0.75 for 3-marks questions, etc.

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Detailed Test Syllabus 1. Money Matters : Smart Goals and Financial Analysis P Understand the concept of Money P Money as medium of exchange and as medium of storage P Understand the concept of Net-worth  Know the difference between money and wealth  Difference between Assets and Liabilities  Understand the relation between assets and income; liabilities and expenses; and calculation of net worth P Understand importance of financial goals in personal financial planning (S.M.A.R.T. goals)  Understand the meaning of each term in S.M.A.R.T. goals: Specific, Measurable, Attainable, Realistic and Time bound 2. Budgeting : Balancing the Means and the Ends P Know the different sources of income  Understand the difference between professional income and investment income – active income and passive income P Understand your expenditures  Understand regular and lump sum expenses  Understand discretionary and non-discretionary expenses P Deficit: Concept and calculation of deficit given income and expense numbers P Surplus: Concept and calculation of surplus given the income and expense numbers P Know about savings  Understand the need for saving  Understand the difference between saving and investing P What is Cash-flow Statement  Understand the structure of cash flow statement – what items are included  Understand the purpose of a cash flow statement  Know the different heads under the cash flow statement P Know the essence of Budget: meaning, purpose and different heads under budget P What is Opportunity Cost P Understand the difference between instant gratification and delayed gratification

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3. Understanding Insurance and Risk Management P The concept of insurance:  Understand the difference between “pure risk” and “investment risks”  Ways to manage risk: Avoid, Reduce, Retain, Share & Transfer  Understand the concepts of spreading the risks and sharing of losses  Know that insurance premium is an expense P Understand various insurance products  Know the terminology of insurance: Indemnity, Sum assured, Premium, Risk cover, Human life value and Deductions  Life insurance  Term plan – the pure insurance  Hybrids - combination of insurance and investment: Endowment plan, Money back plan, Whole life plan, ULIPs and Pension plans (accumulation and distribution products)  Critical illness  General insurance: Vehicle insurance, Medical insurance, Disability insurance and Property insurance  Know the differences in the features of various products  Know about functions and powers of IRDA, the insurance regulator in India 4. Understanding Investments P Understand the importance of Investment  Understand diversification as a risk mitigation tool  Learn about liquidity: definition, need and concept of Impact Cost  Learn about growth of money / concept of “returns” P Learn what is Inflation  Understand the short-term and long-term impact of inflation on personal finances  Understand the concept of real rate of returns  Understand the terms: CPI, WPI P Understand Time Value of Money P Understanding Interest  Simple Interest, Compound Interest, Annualized Interest  Know the equations to calculate simple interest and compound interest  Understanding the impact of different compounding frequencies  Understand nominal interest and effective interest rate  Understand the Rule of 72 and Rule of 144 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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5. Basics of Banking P Know what are banks and the transaction related facilities offered by banks P Know about the types of bank accounts  Savings account  Current account  Fixed deposit account or term deposit account  Recurring Deposit account  Special Bank Term Deposit Scheme P Compare different types of accounts P Know the eligibility criteria for opening a bank account  Permanent Account Number (PAN) and its importance in opening of Bank accounts P Understand the features of Cheques  Know what is account payee cheque (two parallel lines at left hand corner of a cheque)  Signing a cheque and validity period of a cheque  Understand the precautionary measures while using a cheque  Understand how can we get money by depositing a cheque P Know what is Demand Draft?  Features of Demand Draft  Highlight the difference between Demand Draft and Cheques P Know the features of ATM  Benefits of having an ATM card  Know what is ATM Pin and precautions pertaining to usage of ATM cards P What is E-banking or internet banking  Benefits of E-banking  How to use the facility of E-banking and precautions pertaining to E-banking P What is Tele-banking  How to register for Tele-Banking  Precautions pertaining to Tele-Banking P Know about functions and powers of Reserve Bank of India, the banking sector regulator P Know about the spam mails and precautions one needs to take 6. Introduction to Stocks and Bonds P Understand what is Equity Stocks or equity shares  Know what is face value of each share  When are shares at a premium and at a discount  What is dividend Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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 What

is the market value of each share and how is it determined  Know what is Earnings per share (EPS) and how is it calculated  Know what is Price to Earnings Ratio (P/E ratio) and how is it calculated P Understand what are Bonds and debentures P What are different types of bonds / debentures: Issuers, Term to maturity, Interest rate – fixed or floating, Secured / unsecured, Convertible / non-convertible, Understand credit risk and credit rating P Know about functions and powers of Securities and Exchange Board of India, the securities market regulator in India P What are stock exchanges, their main functions and stock exchanges in India P Understand what is Primary Market and Secondary Market P Understand how a company gets traded on Stock Exchanges  Know about Initial Public Offer and how companies are listed on stock exchange  Learn about dematerialization of shares: Demat account and depositories in India P Learn about the screen based trading system in India P Stock market indices such as Nifty and Sensex. P Know what are the Bear and Bull Phase in Stock Market P Understand the do’s and don’ts in stock market investing 7. Investments : The wider Spectrum P Learn about different products or asset classes for investment P Understand Mutual Funds  Understand the different types of mutual fund in the context of structure, features, advantages and risks: Equity funds, Debt funds, Balanced funds, Tax saving funds, Open ended funds and Closed ended fund  Understand various facilities offered by mutual funds: Growth plans and Dividend plans  Know the differences between various mutual fund products and options  Understand Net Asset Value (NAV) and calculation using simple numbers  What is Entry Load and Exit Load

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P Know the difference between direct investing and investing through mutual funds P Know what is Public Provident Fund (PPF) and understand its features P Learn about the National Savings Certificate (NSC) P Learn about Post Office Monthly Income Scheme (POMIS) P Compare the different fixed income investment options P Learn about investing in Real Estate: Products available and the associated risks & rewards P Understand Ponzi schemes and unregulated products 8. Beyond Savings : Borrowing P Know when to Borrow  Know the parameters of Equated Monthly Installment (EMI): Amount of Loan, Loan Period and Rate of Interest  Understand the concept of amortization  Know what is the cost of borrowing and how much one should borrow (the 70-30 Rule) P Credit Cards: Advantages, disadvantages and precautions to be taken w.r.t. credit cards P Understand what are Loans  Different types of loans: Housing, Vehicle, Consumer, Personal and Education Loan  Know various features of loans:  Term, Rate of interest (fixed vs. floating), Processing charges, Secured vs. unsecured loans, Pre-termination, Termination charges, Partial pre-payment and the charges  Understand the difference between good loans and bad loans  Understand the concept of credit score (CIBIL score) 9. Retirement as a Financial Goal P Understand the two phases of retirement: Accumulation and Distribution P Understand the importance of retirement goal  Revisiting the impact of inflation  Defined benefit v/s defined contribution P Understand the difference between other goals and retirement  Option of loan is not available to fund retirement goal  Understand the features of NPS and NPS Swavalamban P Know about functions and powers of PFRDA, the pension sector regulator in India

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CONTENTS 1. Money Matters : Smart Goals and Financial Analysis   ...  ... 11 – 21 2. Budgeting : Balancing the Means and the Ends   ...  ...

22 – 31

3. Understanding Insurance and Risk Management   ...  ...

32 – 42

4. Understanding Investments   ...  ...

43 – 54

5. Basics of Banking   ...  ...

55 – 66

6. Introduction to Stocks and Bonds   ...  ...

67 – 76

7. Investments : The wider Spectrum   ...  ...

77 – 85

8. Beyond Savings : Borrowing   ...  ...

86 – 95

9. Retirement as a Financial Goal   ...  ... 96 – 103

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1 MONEY MATTERS : SMART GOALS AND FINANCIAL ANALYSIS Key Points l Meaning of money : Money is something which is freely

used and generally accepted as medium of exchange and as a unit of account.

l

Functions of money : Money performs four major functions: – – – –

Medium of exchange Measure of value Standard of deferred payments Store of value

l Wealth and money : Wealth is a measure of the value of all the assets of worth owned by a person, community or country. It includes goods such as cars, homes, bread for which anybody is willing to pay. It also includes any services anybody is willing to hire, such as, medical, education etc. Money is a tool which is used to exchange goods and services. l Assets : Any item of economic value owned by an individual or corporation, especially that which could be converted to cash. l Liabilities : Any type of borrowing from persons or banks for improving a business or personal income that is payable during short or long time, e.g., interests payable, salaries payable, unclaimed dividend, short and long-term loans etc.

l Net worth : Net worth is the total assets minus total outside liabilities of an individual or a company. 11 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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l SMART goals : SMART is an acronym for the 5 steps in personal financial planning i.e., Specific, Measurable, Achievable, Realistic and Time Bound.

l Financial planning : It is the process of meeting goals of life through the proper management of funds and finances. l Specific : The objectives of the goal should address the five Ws, i.e. who, what, when, where and why. The goal must specify what needs to be done within the time frame for completion. l Measurable : Goal objectives should include numeric or descriptive measures which define quantity, quality, cost, etc. The goal should focus on elements such as observable actions, efficiency, outcomes etc. l Achievable : The goal objectives should not be beyond reach. In order to achieve the goal the steps should be planned wisely within a time frame. l Realistic : A goal must represent an objective towards which you are both willing and able to work. The goal should be high and realistic because a high goal is easier to reach than a low one. The low goal exerts low motivational force. l Time bound : The goal should be grounded within a time frame because with no time frame there is no sense of urgency. It results in tension between the current reality and the vision of the goal. The goal is unlikely to produce a relevant outcome without such tension.

Multiple Choice Questions 1. Which is the most liquid form of wealth? (a) Commodity (b) Money (c) Services (d) Bank deposit 2. One of the primary functions of money is (a) Store of value (b) Transfer of value (c) Basis of credit (d) Distribution of national income 12 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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3. The term ‘net worth’ refers to (a) Total assets (b) Total liabilities (c) Total assets minus total outside liabilities (d) Total assets plus total outside liabilities 4. For banks, a bank deposit is a/an (a) Asset (b) Liability (c) Capital (d) Net worth 5. In SMART goals of financial planning, the acronym ‘A’ refers to (a) Accountable (b) Achievable (c) Avoidable (d) Admirable 6. When you put your spare change into your child’s piggy bank, money is serving as a (a) Medium of exchange (b) Measure of value (c) Store of value (d) Standard of deferred payments 7. In the SMART goal acronym for promotional objectives, the ‘S’ stands for (a) Special (b) Successful (c) Sales (d) Specific 8. Which of the following statements is correct regarding profit maximisation as the primary goal of a firm? (a) Considers the firm’s risk level (b) Will not lead to increasing short-term projects at the expense of lowering the expected future profits (c) Does consider the impact on individual shareholder’s earning per share (EPS) (d) Is concerned more with maximising net income than the stock price 9. Which is the most important of the three financial management decisions? (a) Asset management decision (b) Accounting decision (c) Investment decision (d) Financing decision 13 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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10. For the success of every business enterprise, it is essential to have a suitable (a) Commodity planning (b) Financial planning (c) Population planning (d) State planning 11. An example of fixed capital used by any organisation is (a) Land & building (b) Wages & salaries (c) Rent (d) Taxes 12. Which is not the appropriate financial goal of a firm? (a) Stakeholder maximisation (b) Earning Per Share (EPS) maximisation (c) Shareholder wealth minimisation (d) Profit maximisation 13. Which of the following assets is not an intangible asset? (a) Patent (b) Brand name (c) Goodwill (d) Inventory 14. Yash and Vijay know the value of the commodities they possess. But they want to know that who is richer among the two. Can you help them in knowing this on the basis of the following options? (Tick the most suitable option.) (a) Net worth (b) Capital (c) Assets (d) Liabilities 15. The starting point to achieve any goal is to have a plan for it. Once you have a plan, it is no more a vague goal. It becomes a SMART goal. Tick the SMART goal out of the following options : (a) I will start saving to buy a cycle (b) I want to go to picnic (c) I will win the cricket match alone (d) I will buy a cricket bat some time in future 16. Which one of the following statements regarding ‘financial literacy’ is false? (a) Objective is to make people aware of the risks and rewards of investments so that they can make an informed choice. (b) It reduces the government’s burden in protecting the common person from the elements of market failure. 14 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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(c) India has a formal nationwide structured financial education programme. (d) It enhances the effectiveness and integrity of financial markets. 17. Meena purchased a washing machine worth `15000. She took a loan of `7000. What is her net worth? (a) `4000 (b) `6000 (c) `8000 (d) `1000 18. Ashish and Avinash are students of class 10th of Children Public School. One day both of them went into an argument about who is wealthier. The argument peaked up and they started to mention the things which they possessed. Ashish started first and mentioned the following things available with him: l Watch worth `800 l Cycle worth `2200 l Books worth `3000 l Badminton racquet worth `500 l Five comic books each worth `50. Out of five books he borrowed two books from Deepak. Avinash has the following things available with him. l A mobile phone worth `5000 l A video game worth `2000 l A tennis racquet worth `500. He has lent the racquet to Dinesh for few days. l He borrowed two music CD from Mohan for worth `100 each. Here, both of them know the things available with them and their respective prices. But they do not know who is wealthier among them. Can you help both of them to know who is wealthier? (a) Ashish is wealthier than Avinash (b) Avinash is wealthier than Ashish (c) Both have the same worth (d) Ashish have more liabilities 15 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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19. For a thing to serve as money, it must possess the quality of (a) Divisibility (b) General acceptability (c) Durability (d) All of these 20. Assets which are in cash or can be converted into cash easily and quickly are called (a) Fixed assets (b) Liquid assets (c) Cash assets (d) Convertible assets 21. The starting point to achieve any goal is to have a plan for it. Once you have a plan, it is no more a vague goal. It becomes a SMART goal. Out of the following which is not a SMART Goal? (a) Specific (b) Achievable (c) Realistic (d) Tiring 22. Rohit is a 15 years old boy staying in Mumbai with his family. His family consists of his father, his mother and his sister Prisha. Rohit gets `2000 as a monthly allowance from his parents. Out of this he pays `600 as school bus fees, `400 for yoga classes and `500 for canteen. Out of the remaining amount, he uses `300 for recharge voucher for his mobile. Rest of the money he spends on stationery and ice cream etc. His sister Prisha always gives him a birthday present but he never gave anything. But this year he wants to give her a surprise gift on her birthday which is after 2 months. But as of now, he has no savings and he does not want to borrow money. He wants to give her a dress worth `600. Can you help Rohit to attain his goal by choosing the right option? (a) Analyze the needs (b) Follow SMART goals (c) Planning budget (d) All of these 23. Nidhi is working in a bank. Her monthly disposable income is `4000. Her household expenditure on basic necessities like food, electricity bill, rent, school fees etc. is `2700. She is having a (a) Deficit of `1300 (b) Deficit of `6700 (c) Surplus of `1300 (d) Surplus of `6700 16 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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24. Reeta is the only earning member in the family. She has to support for husband and two children. Her total household expenditure per month is `8500. By the end of the month she faces a deficit of `2000. What is her monthly income? (a) `5000 (b) `6500 (c) `7000 (d) `8500 25. Mr. Mehta’s total income and expenditure detail is given below. Month’s total income = `15000 Month’s total expenses = `19000 What does his balance tell him? (a) His balance is positive (b) His balance is negative (c) His balance is zero (d) His balance is increasing 26. The pay actually received by an employee after deducting taxes and Provident Fund contributions and after adding bonuses (if any) gives. (a) Gross pay (b) Basic pay (c) Take home pay (d) Deductions 27. As you just start working and begin to earn, your aim at this stage should be (a) To enjoy your money with your friends (b) To watch a movie every week in the theatre (c) To throw parties fortnightly (d) To build a strong financial foundation 28. Money possesses the characteristic of general acceptability. Which is not the feature of money? (a) Divisibility (b) Durability (c) Portability (d) Lack of common measure of value 29. Read the following statements carefully and tell which is a SMART goal. (a) I will arrange all the money myself (b) I want to go somewhere with my friends during summer vacation (c) I will save `100 and buy lottery tickets (d) I need to save `1000 for my trip to Shimla 17 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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30. Read the following statements and tell which is not a SMART goal? (a) I want to go to Nainital with friends during the summer vacation (b) I will save `100 per month for the next five months (c) I want to save the money by first week of March (d) I will arrange the money myself 31. For a commodity being considered as money it must be easily recognised. It should have certain distinct marks so as to avoid mistake by the receiving person. Which feature of money does it indicate? (a) Portability (b) Stability (c) Homogeneity (d) Cognisability 32. Observe the picture carefully. What type of money is this?

(a) Standard money (b) Near money (c) Bank money (d) Pocket money 33. According to Prof. Benham, “A person will accept money in payment, not because he necessarily wants money for its own sake, but because he knows that other people in turn will accept it from him in return for the goods and services which he himself requires.” Which function of money this indicates? (a) Measure of value (b) Medium of exchange (c) Store of value (d) Transfer of value 18 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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34. The value of all goods and service are measured and expressed in terms of money e.g. a shirt may cost `500 a chair `600, a book `100, a pen `10 and so on. Which function of money does it indicate? (a) Measure of value (b) Store of value (c) Transfer of value (d) Medium of exchange 35. What enables the consumers in making payments for goods and services for their requirements? (a) Income (b) Money (c) Wealth (d) Savings 36. In the modern economic system, credit plays a key role and money constitutes the basis of credit. Which of the following is not a credit instrument? (a) Cheques (b) Bills of exchange (c) Draft (d) Property 37. The information furnished below is of Mr. Puri. You need to calculate the net worth of Mr. Puri by identifying the items as assets and liabilities. (in `) Savings bank account balance Car

50,000 2,50,000

House

25,00,000

Home loan outstanding

12,00,000

Payment to maid due

2,000

Gold jewellery

50,000

School fees due

5,000

Electricity bill pending

2,000

Furniture

12,500

(a) `15,02,500 (b) `15,32,090 (c) `15,53,500 (d) `16,53,500 19 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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38. State which statement is false. (a) Standard money is legal tender money (b) Bank money is optional (c) Standard money is issued by commercial banks (d) Cheques are issued by banks 39. Money performs the function of a standard of deferred payments because (a) Its value is relatively more stable than that of other commodities (b) The element of durability is higher as compared to other commodities (c) It possesses the quality of general acceptability (d) All of these 40. Under the barter system commodities were exchanged for commodities. Out of the following which is not the feature of barter system? (a) Lack of double co-incidence of wants (b) Lack of common measure of value (c) Ease of storing wealth (d) Lack of divisibility

Answers

1. (b) 2. (a) 3. (c) 4. (b) 5. (b) 6. (c) 7. (d) 8. (d) 9. (c) 10. (b) 11. (a) 12. (c) 13. (d) 14. (a) 15. (c) 16. (c) 17. (c) 18. (b) Explanation : Net worth = Asset – Liabilities (wealth is determined by net worth) 19. (d) 20. (b) 21. (d) 22. (d) 23. (c) Note : Income > Expenditure ⇒ Surplus Income < Expenditure ⇒ Deficit 24. (b) Note : Expenditure – Deficit = Income 25. (b) Note : Positive balance = Income is more than expenses Negative balance = Income is less than expenses

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26. (c)

27. (d)

28. (d)

29. (d)

30. (d)

31. (d) 32. (a) Note : Standard money is legal tender money in the sense that no one can refuse it to accept e.g. notes and coins. 33. (b) 34. (a) 35. (b) 36. (d) 37. (d) Note : Net worth = Total assets – Liabilities = `2862500 – `1209000 = `1653500 38. (c)

39. (d)

40. (c) Explanation : Under barter system it was difficult to store values. In the absence of money, the individuals had to store wealth in the form of goods like horses, wheat, rice etc. The value of stored commodities changed in the due course of time.

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2 BUDGETING : BALANCING THE MEANS AND THE ENDS Key Points l Wants and needs : Needs are basic necessities one cannot wish away, e.g., in summer fan becomes a need. Whereas wants make our life comfortable, e.g., an Air Conditioner makes life more comfortable in summer. l Income : The amount of money or its equivalent received during a period of time in exchange for services rendered, from the sale of goods or property or as profit from financial investments. l Sources of income : Different sources of income are : – Income from salaries – Income from capital gains – Income from house property – Income from profits or gains of business – Income from other legal sources l Business : Any economic activity carried on for earning profits. l Professional income : It is the earned income and is classified as ordinary income for tax purposes. l Investment income : The income one derives from capital gains, dividends and other activities related to the purchase and sale of securities. l Capital gain : Profit from the sale of property or an investment. l Active income : Income for which services have been performed, e.g., wages, salaries, tips, commissions etc. 22 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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l Passive income : An income received on regular basis with little effort required to maintain it, e.g., rent from property, pensions, dividend etc. l Discretionary expenses : These expenses are not necessary for the running of a business or home. These are undertaken to promote the goodwill of an organisation, e.g., expenses on entertainment or meals etc. l Non-discretionary expenses : These expenses are not subject to or influenced by someone’s discretion, judgement or preference, e.g., spending that is required by a budget, contract or other commitment. l Budget : An estimate of income and expenditure for a set period of time. l Budget surplus : Projected income is greater than projected expenditure. l Budget deficit : Projected income is less than projected expenditure. l Cash flow statement : It shows the amount of cash generated and used by a company in a given period. l Necessity of budget : Budget is important to – monitor business throughout the year – avoid losses and overspending – optimise savings – effectively allot funds to various areas of expenditure in advance l Opportunity cost : The cost of an alternative that must be foregone in order to pursue a certain action. It is the benefit received by taking an alternative action. l Instant gratification : An immediate satisfaction or pleasure which focuses on the present. It is experienced without doing much effort, e.g., purchasing an i-phone when you want it. l Delayed gratification : It is the ability to resist the temptation for an immediate reward and wait for a later reward. It shows a person’s ability to modulate or control impulses. 23 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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Multiple Choice Questions 1. Which one of the following is not a function of budgeting? (a) Controlling (b) Motivating (c) Planning (d) Decision-making 2. Which one is not a source of income? (a) Income from salaries (b) Income from illegal activities (c) Income from house property (d) Income from capital gains 3. The budgetary deficit in India is (a) Increasing (b) Decreasing (c) Constant (d) Stationary 4. When public revenue exceeds public expenditure, it is said to be a (a) Deficit budget (b) Surplus budget (c) Balanced budget (d) Planned budget 5. A desire for something is known as (a) Want (b) Demand (c) Scarcity (d) Choice 6. The amount of money received during a period of time in exchange for services is called (a) Payment (b) Income (c) Investment (d) Returns 7. An organisation or economic system where goods and services are exchanged for one another for money is called (a) Company (b) Equity (c) Business (d) Trading 8. Money that is spent for need and wants is (a) Saving (b) Investment (c) Expenditure (d) Satisfaction 9. Which is not a pillar of investment? (a) Safety (b) Consumption (c) Liquidity (d) Growth 24 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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10. Mr Kapoor earns a monthly income of `20,000. He spends money on his family members. Following are the areas of expenditure of monthly budget in rupees. Medical 2500 Electricity bill 1000 Phone bill 1800 Grocery 2500 School fees of children 5000 Miscellaneous 2500 Family’s monthly budget shows (a) Surplus (b) Deficit (c) Balance (d) Borrowings 11. Which of the following is not considered saving? (a) Putting change in piggy bank (b) Putting money in bank (c) Consumption plan (d) Pension plan 12. Putting money into an asset with the expectation of capital appreciation is called (a) Investment (b) Saving (c) Accumulation (d) Interest earnings 13. A benefit or value of something that must be given up to acquire something else is (a) Total cost (b) Opportunity cost (c) Fixed cost (d) Prime cost 14. Ram goes to a college to study. If he would have worked in the office at the same time, then he would have earned some money. In this case, his opportunity cost would be (a) Going to the college (b) Going to the office to earn money (c) Sitting at home doing nothing (d) Playing in the field 25 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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15. Which of the following activities is not included in cash flow statement? (a) Operating activities (b) Consuming activities (c) Investing activities (d) Financing activities 16. A cash flow statement reflects a firm’s (a) Liquidity (b) Safety (c) Durability (d) Accountability 17. Statement of cash flows is useful in determining (a) The ability to pay bills (b) Short-term viability of a company (c) Financial activities (d) All of the above 18. Mr and Mrs Singh have following family demands to meet. State the want which is not urgent. (a) Payment of school fees (b) Purchase of medicine (c) Gift for the marriage of common friend (d) Electricity bill payment 19. Satisfaction gained by more impulsive behaviour is known as (a) Instant gratification (b) Delayed gratification (c) Impulsive gratification (d) Behaviour gratification 20. The ability to resist temptation for an immediate reward is called (a) Instant gratification (b) Delayed gratification (c) Temporary gratification (d) Immediate gratification 21. Budgetary control requires expenditure of time, money and efforts. We need to draw an effective budget in order to : (a) Optimise savings (b) Ensure that we do not spend beyond our means (c) Effectively allot funds to various areas of expenditure in advance (d) All of the above 26 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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22. Shamit has `2000 in his pocket. He goes to the market and after looking at a beautiful dress, she is tempted to buy it. But, suddenly she realised that next month she has to purchase a textbook on ‘Finance’ and she has to pay the school fees of `1500. Therefore, she did not buy the dress and saved the money for future use. Can you tell what type of gratification does it show? (a) Instant gratification (b) Delayed gratification (c) Regular gratification (d) Shopping gratification 23. Deepak has `500 a week to spend on food and clothing. The price of food is `10 and the price of clothing is `25. Which of the following pairs of food and clothing are in Deepak’s choice set? (a) 20 units of clothing and 50 units of food (b) 0 units of clothing and 500 units of food (c) 50 units of clothing and 50 units of food (d) 10 units of clothing and 25 units of food 24. An increase in the value of a capital asset (Real estate or investment) that gives it a higher worth than the purchase price is called (a) Financial gain (b) Capital gain (c) Property gain (d) Business gain 25. An income received on regular basis with little effort required to maintain it is known as (a) Active income (b) Professional income (c) Business income (d) Passive income 26. It is important to analyse the cash flow statement, to draw an optimum savings plan and then draw a judicious budget in order to achieve (a) Budget goal (b) Financial planning (c) SMART goal (d) Business goal 27. Which is not the key point of financial goal setting? (a) Set simple, measurable goals (b) Set realistic time line for goal (c) Commit to achieving goals (d) Planning financial goals casually 27 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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28. The term budgetary period refers to (a) The subdivisions of the main budget (b) The period for which the budget is prepared (c) The period for which the budget is finalised (d) A specific year for which budget has been prepared 29. A plan expressed in financial terms may also be known as (a) Budget (b) Final account (c) Forecast (d) Balanced score card 30. Net cash flow can be calculated by (a) Cash inflows less cash outflows (b) Opening balance of cash plus cash inflows (c) Cash inflows plus cash outflows (d) Opening balance of cash plus cash inflows 31. An increase in the value of capital asset that gives it a higher worth than the purchase price is called (a) Investment (b) Capital gain (c) Saving (d) Property accumulation 32. Income and expenditure account is prepared with the object of finding out (a) Surplus of current incomes over current expenses (b) Deficit of current incomes over current expenses (c) Both surplus and deficit of current incomes over current expenses (d) Income of current year 33. An institution organised and operated to provide goods and services to society under the incentive of private gain is known as (a) Business (b) Investment (c) Operational working (d) None of the above 34. Which is not the characteristic of business? (a) Economic activity (b) Regularity of dealing (c) Narrow scope (d) Creation of utility 28 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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35. Which is not the objective of business? (a) Profit motive (b) Limited utilisation of resources (c) Satisfaction of human needs (d) Innovation 36. Different factors which influence the choice of a suitable form of organisation includes (a) Ease of formation (b) Capital requirement (c) Direction and control (d) All of the above 37. In spite of best effort, sometimes financial planning fails to achieve the desired results because (a) It involves huge cost (b) It may result in delay in decisions (c) Of natural calamities (d) All of the above 38. Observe the picture given below. State what does it show?



(a) Deficit budget (b) Surplus budget (c) Balanced budget (d) Government expenses 29 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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39. Income is the money received, especially on a regular basis, for work or through investments. There are different sources of income. Observe the picture given below and state the source of income.

(a) Income from salaries (b) Income from business (c) Income from house property (d) Income from profits 40. Which is not the example of active Income? (a) Wages and salaries (b) Commissions (c) Dividends and Interest (d) Income from business

Answers

1. (d) 2. (b) 3. (a) 4. (b) 5. (a) 6. (b) 7. (c) 8. (c) 9. (b) 10. (a) 11. (c) 12. (a) 13. (b) 14. (b) Explanation : The opportunity cost of any good is the next best alternative good or activity that is sacrificed. It is the cost of forgone alternative, therefore, it is also known as alternative cost. 15. (b) 16. (a) 17. (d) 18. (c) 19. (a) 20. (b) 21. (d) 22. (b) 30 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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23. (d) Explanation: Here he will get maximum satisfaction by spending `500 Clothing = Price × Quantity = 25 × 10 = `250 Food = Price × Quantity = 10 × 25 = `250 (250 + 250 = 500) 24. (b) 25. (d) 26. (c) Explanation : Dreams should be translated to SMART goals if they are to be realised. 27. (d) Explanation : Setting financial goal is a smart choice and can be very rewarding. Financial goals or financial target is an objective which is expressed in or based upon money. 28. (b) Explanation : The period for which the budget is prepared is known as budgetary period. Although, in most cases, it will be a year, whereas some companies may have either shorter or a longer period. 29. (a) 30. (a) 31. (b) 32. (c) Explanation : Income and Expenditure Account is a summary of all incomes and expenses relating to the current accounting year. It is prepared like the Trading and Profit and Loss Account. 33. (a)

34. (c)

35. (b) Explanation : Business objective is optimum utilisation of resources i.e., the best use of men, material and machinery. 36. (d)

37. (d)

38. (c) Explanation : Balanced budget is the budget in which revenues (income) is equal to the expenditure. 39. (c) Explanation : The house property consists of any building or land owned by an individual. The annual value of the property is subject to tax. 40. (c) Explanation : Passive incomes are the earnings an individual derives from a rental property, limited partnership, or other enterprises in which he or she is not actively involved. 31 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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3 UNDERSTANDING INSURANCE AND RISK MANAGEMENT Key Points l Insurance : A mechanism wherein the insurer undertakes to l l

l l l

l l

l l l

indemnify the insured in the event of loss. Premium : The amount paid by the insured to the insurer for covering the risk. Insurance policy : The formal document or agreement in writing, setting out the terms and conditions related to the insurance. Indemnity : Refers to compensating for loss or security for loss. Pure risks : These are unpredictable risks, e.g., fire, theft, strike etc. Predictable risks : These can be predicted and can also be insured for covering the future losses, e.g., seasonal changes in demand, change in technology etc. Risk : Risk is the possibility of suffering harm or loss due to some unfavourable occurrence. Investment risks : Probability or likelihood of occurrence of losses relative to the expected return on any particular investment. Sum insured : It is the maximum amount that an insurance company will pay to someone who makes a claim. Risk management : Management of the pure risks to which a company might be subject. Deductions or deductible : Amount of loss that the insured pays before the insurance kicks in or starts. 32 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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l Life insurance : A contract providing for payment of a sum of money to the person insured or following him to the person entitled to receive the same in the event of death/accident of the insured. l Term life insurance : The insurance company pays a specific lump sum to the designated beneficiary in case of the death of the insured. l Endowment plan : These policies provide for period payment of premiums and a lump sum amount either in the event of death of the insured or on the date of expiry of the policy, whichever occurs earlier. l Money-back plan : These policies provide for periodic payments of partial survival benefits during the term of the policy itself. l Vehicle insurance : Under this, vehicles such as motors, trucks, cars, etc. are insured. If the insured vehicle is lost or damaged by accident, the insurance company compensates for the actual loss or the amount of the policy, whichever is lower. l Mediclaim insurance : This policy re-imburses expenses of treatment during hospitalisation and other medical bills incurred on specific diseases. l Disability insurance : This insurance policy covers the risk of physical disability. The insured is provided compensation depending upon the type and extent of disability. l General insurance : It provides insurance for fire, marine, theft, accident etc. It is done mainly for properties like car, scooter, building etc. l Property insurance : It provides protection against most risks to property, such as fire, theft and some weather damages. l IRDA : Insurance Regulatory and Development Authority is an agency of the Government of India for supervision and development of the insurance sector. It regulates, promotes and ensures orderly growth of the insurance business. l Whole life policy : This plan is mainly to create an estate for the heirs of the policy holders as the plan basically provides for payment of sum assured plus bonuses on the death of the policy holders. 33 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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l ULIPs : A Unit Linked Insurance Plan is a product offered by insurance companies that gives investors the benefits of both insurance and investment under a simple integrated plan. l Pension plans : These are most suited for senior citizens. These are individual plans that foresee future financial stability during the old age. It provides secure future to old people.

Multiple Choice Questions 1. By taking an insurance cover an individual (a) Transfers the risk to someone else (b) Reduces the certainty of major loss (c) Converts the possibility of large loss to a small one (d) Reduces the cost of an accident 2. IRDA is associated with (a) Railways (b) Insurance sector (c) Telecommunication (d) Banking 3. Collection of a fixed amount at a fixed interval of time by the insurance companies is called (a) Contribution (b) Premium (c) Instalment (d) EMI 4. LIC (a) (b) (c) (d)

plan in the name of ‘Anmol Jeevan’ is Children’s plan Basic life insurance plan Pension plan Term insurance plan

5. What is covered under a Comprehensive Car Insurance? (a) You and your car against theft or fire (b) Accidents and also third parties (c) Costs for replacing or repairing the car (d) All of the above 6. Can insurance of the vehicle be transferred to the purchaser of vehicle? (a) Yes, by informing the insurance company 34 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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(b) No, it cannot be transferred (c) Yes, by giving in writing to the insurance company (d) No, it is not required

7. For how much time an insurance for vehicle is valid after paying one time premium? (a) Six months (b) One year (c) Two years (d) Three years 8. What is no claim bonus? (a) A benefit for those who have claimed insurance during the current year of cover (b) A benefit for those who have not claimed insurance during the preceding year of cover (c) A benefit for those who have not got the vehicle insured (d) A benefit for those who sell vehicle to other party 9. Will the insurer get no claim bonus if he changes the insurance company? (a) No (b) Yes (c) May be (d) Never 10. Generally, when is the first premium instalment paid by the proposer? (a) After one year (b) After six months (c) After one month (d) Along with the proposal 11. Who is entitled to get the assured sum of the policy in case of death of the policy holder? (a) Daughter (b) Son (c) Nominee (d) Brother 12. What is not required for getting fire insurance policy? (a) Details of insured property (b) Amount of insurance (c) Amount of premium (d) Financial status of insurer 13. Which type of policy re-imburses expenses of treatment during hospitalisation? (a) Mediclaim insurance (b) Burglary insurance (c) Life insurance (d) ULIP 35 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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14. Vijay wants to take an insurance policy which provides for periodic payments of partial survival benefits during the time of the policy itself. Which type of life insurance policy he should opt for ? (a) Term life insurance (b) Money-back life insurance plan (c) Mediclaim insurance (d) None of the above 15. The term risk management refers to the management of (a) Pure risks (b) Predictable risks (c) Investment risks (d) Death risks 16. Shweta is unaware of the name of the government authority which regulates, promotes and ensures an orderly growth of the insurance business. Can you guide her by telling the right name? (a) Insurance Regulatory and Growth Authority (b) Insurance Regular Development Authority (c) Insurance Remote Development Authority (d) Insurance Regulatory and Development Authority 17. Anoop purchased a car and got it insured by an insurance company. But one day he noticed that he has lost his policy documents. In this case, can he get duplicate policy documents from the insurance company? (a) No, he cannot get it. (b) No, he has to get it insured again. (c) Yes, he can get it after paying a certain amount of money. (d) Yes, he can get it without paying any charges. 18. Which is not the advantage of having life insurance policy? (a) Risk cover (b) Builds the habit of thrift (c) Tax benefits (d) Buying expensive policies 19. Principles of risk management include the feature (a) Take human factors into account (b) Be transparent and inclusive 36 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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(c) Be part of decision-making process (d) All the above 20. Multiple ways of managing risks include (a) Risk retention (b) Risk reduction (c) Risk avoidance (d) All of these 21. Suppose a house is insured for `2 lakh against fire. The house is damaged by fire and the insurer pays the full value of `1 lakh to the insured. Later, the damaged house is sold for `20,000. The insurer is entitled to receive the sum of `20,000, because (a) The insurer is subrogated (substituted) to the rights only after he has compensated the insured (b) The insurer must not exercise the rights in the name of the insured (c) The insurer is not entitled to the benefit (d) The insured is entitled to the benefit 22. Amit insured his house for `2 lakh against fire. The house is partially burnt and it is estimated that a sum of `1 lakh will be required to restore into the original. The insurer is liable to pay Amit an amount of (a) `1 lakh (b) `2 lakh (c) `3 lakh (d) `4 lakh 23. Heterogeneity is the nature of which type of business service? (a) Banking (b) Warehousing (c) Insurance (d) All of the above 24. Which of the following is not a business service? (a) Transport (b) Banking (c) Production (d) Communication 25. Which of the following elements is contained by the life insurance? (a) Investment interest (b) Security of life (c) Profit (d) Both (a) and (b) 37 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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26. Which of the following is not covered under the ‘Contract of Indemnity?’ (a) Marine insurance (b) Theft insurance (c) Life insurance (d) Fire insurance 27. A person gets an insurance policy for `50,00,000 on his house from the New India Assurance Company. The company considers it to be an excessive risk coverage and it gets an insurance policy on the same house from the National Insurance Company for `40,00,000. This is the example of which type of insurance? (a) Re-insurance (b) Double insurance (c) Theft insurance (d) None of the above 28. The word ‘Assurance’ is used for (a) Life insurance (b) Marine insurance (c) Fire insurance (d) Theft insurance 29. A person gets insured his stock worth `60,000. At present the value of the stock is `80,000. A fire occurs and the whole stock gets damaged. Insurance company will pay him only `60,000 and not the actual value of `80,000. In this case, which principle of insurance is applied? (a) Principle of subornation (b) Principle of contribution (c) Principle of indemnity (d) Principle of interest 30. A person gets his house, which is worth `18,00,000 insured from three insurance companies. Company A for `3,00,000 Company B for `6,00,000 Company C for `9,00,000 At the time of incurrence of loss, the composition will be paid by all three insurance companies in the ratio for 1 : 2 : 3. Which principle of insurance applies here? (a) Principle of mitigation of loss (b) Principle of contribution (c) Principle of indemnity (d) Principle of proximate cause 38 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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31. Which of the following is not covered under General insurance? (a) Marine insurance (b) Fire insurance (c) Theft insurance (d) Life insurance 32. The advantages of insurance include (a) Providing protection (b) Distribution of risk (c) Loan facility (d) All of the above 33. Under which type of insurance, the insurance company compensate the loss suffered by the insured employer on account of the fraud, dishonesty, etc. of his employees? (a) Health insurance (b) Theft insurance (c) Fidelity insurance (d) Marine insurance 34. Out of the following which is not used in the basic terminology of insurance? (a) Insured (b) Premium (c) Insurer (d) Interest 35. Which is not the characteristic of insurance? (a) Based on good faith (b) Three parties (c) Based on co-operative system (d) Payment of premium 36. In case of life insurance, a husband gets his wife insured. Later on he divorces his wife. With this divorce, will he have insurable interest in his former wife? (a) Yes, he will have (b) No, he will not have (c) May be (d) May not be 37. If a fire broke out in any godown and the owner does not make any effort to extinguish the fire, just because the godown is insured. Will he get the insurance claim? (a) Yes, because Godown is insured (b) No, because Godown owner has paid the premium on time (c) Yes, because the Godown owner has not paid the premium on time. (d) No, because the owner has not made any effort to extinguish fire 39 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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38. Mr. Dhawan takes an insurance policy of `100,000/- for his house. The fire broke out and the whole house burnt out. How much compensation the insurance company will pay him? (a) `80,000 (b) `100,000 (c) More than one lakh (d) Not at all (No payment) 39. A person insures his house from A and B insurance companies for `40,000 and `60,000 respectively. If that person suffers a loss of `40,000 due to the damage of his house then he can claim (a) `20,000 each from both the companies (b) `40,000 each from both the companies (c) `60,000 each from both the companies (d) Both companies A and B will divide the compensation paid according to the ratio of insured amount. 40. Which is not the subject matter of marine insurance? (a) Hull insurance (b) Cargo insurance (c) Freight insurance (d) Health insurance 41. One who does the insurance and who takes the responsibility of risk is known as (a) Insurer (b) Insured (c) Owner of policy (d) Third party

Answers

1. (c) 2. (b) 3. (b) 4. (d) 5. (d) Explanation : Comprehensive car insurance is for damage to the policy holder’s car that does not involve a collision with another car. It covers the risks like fire, theft, explosion, earthquake, civil commotion etc. 6. (c) 7. (b) 8. (b) 9. (b) Explanation : No claim bonus is a benefit for those who have not claimed insurance during the preceding year of cover. It means the premium they would pay in the following year would be lower. 10. (d) 40 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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11. (c) 12. (d) 13. (a) 14. (b) 15. (a) 16. (d) 17. (c) 18. (d) 19. (d) 20. (d) 21. (a) Explanation : The principle of subrogation applies to all insurance contracts which are contracts of indemnity. 22. (a) Explanation : The principle of indemnity is applicable in case of fire. 23. (d) Explanation : Heterogeneity is opposite of homogeneity. It is fundamental characteristic of services which results in variation from one service to another or from one customer to another. 24. (c) 25. (c) 26. (c) Explanation : It is a contract whereby one party promises to save the other from loss caused to him by the conduct of the promisor himself or by the conduct of any other person. 27. (a) Explanation : Re-insurance refers to that insurance in which an insurance company gets its risk insured from another insurance company. 28. (a) Explanation : The term ‘Assurance’ is used in life insurance policy. It means that the policy holder is assured of receiving money from insurance company whether alive or dead (to his heirs.) 29. (c) Explanation : It refers that the insured can get only the compensation against actual loss and he cannot make profit out of insurance. 30. (b) Explanation : It refers that if the same subject matter, except life, is insured by more than one insurer, the actual loss will be shared among all insurers. 31. (d) Explanation : It includes insurance contracts other than life insurance contracts like insurance for theft, fire, accident etc. 32. (d) 33. (c) Explanation : In this, the insurance company compensates the loss suffered by the insured employer on account of the fraud, dishonesty etc. 34. (d) 35. (b)

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36.

(b) Explanation : It refers that insurable interest is given when there is a relationship between the insured. The subject matter of insurance stands to benefit by its safety and to lose by its loss. 37. (d) Explanation : The principle of mitigation of loss suggests that insured should try to minimize the loss of his property if it is insured. 38. (b) 39. (d) Explanation : Double insurance refers to that insurance in which the same risk is insured by two or more insurance companies. 40. (d) 41. (a)

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4 UNDERSTANDING INVESTMENTS Key Points l Investment : In finance, an investment is a monetary asset l l

l

l

l

l

purchased with the idea that the asset will provide income in future. Liquidity : The degree to which an asset or security can be bought or sold in the market without affecting the asset’s price. Impact cost : It is the cost of executing a transaction on the stock exchanges. Market impact cost is a measure of market liquidity that reflects the cost faced by a trader of security. Risk mitigation : It is defined as taking steps to reduce adverse effects of something. Four types of risk mitigation tools, unique to business continuity, are – Risk acceptance – Risk avoidance – Risk limitation – Risk transference Inflation : The rate at which the general level of prices for goods and services is rising and, consequently, the people’s purchasing power is falling. Time value of money : Time value of money is the principle that a certain currency amount of money today has a different buying power than the same currency amount of money in the future. This is because of the interest earned or inflation accrued over a given period of time. Simple Interest : It is the interest calculated only on the principal regardless of the interest earned so far. The formula for simple interest is: 43 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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prt 100 where, I is the simple interest p is the principal r is the rate of interest t is the period of time

I=

l Compound interest : It is calculated on the initial principal

and also on the accumulated interest of previous periods of a deposit or loan. Compound interest formula is as follows :

r A = P 1 +   n

nt

where, P = Principal amount r = Annual rate of interest t = Number of years the amount is deposited or borrowed for A = Amount of money accumulated after n years, including interest n = Number of times the interest is compounded per year

l Annualised interest : The effective annual interest rate is

the rate of interest that investor earns in a year after accounting for the effects of compounding. It is calculated with the help of following formula.

(

)

n

A = 1 + i n − 1 where, i = the stated annual interest rate n = the number of compounding periods in one year l Consumer Price Index (CPI) : CPI measures changes in the price level of a market basket of consumer goods and services purchased by households. The annual percentage change in a CPI is used as a measure of inflation. Updated cost CPI = Base period cost 44 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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l Wholesale Price Index (WPI) : WPI is the price of a representative basket of wholesale goods. It focuses on the prices of goods traded between corporations. The purpose of WPI is to monitor price movements that reflect supply and demand in industry, manufacturing and construction. l Nominal interest rate : It is the periodic interest rate multiplied by the number of periods per year. It is the rate before adjusting for inflation. l Effective interest rate : It is the true rate of interest earned. It is also referred to as market interest rate, the yield to maturity, the discount rate etc. l Rule 72 : In finance, the rule of 72, rule of 70 and rule of 69 are methods of estimating an investment’s doubling time. The rule number is divided by the interest percentage per period to obtain the approximate number of periods required for doubling. l Rule 144 : A Securities and Exchange Commission Rule that sets the conditions under which restricted, unregistered and controlled securities can be sold.

Multiple Choice Questions 1. Yash and Kabir are two friends. Yash is thinking of setting up a tea stall in the school fete on Sunday. But he has to buy ingredients for `60. He wants to borrow money from his friend Kabir as he has no time to write to his parents about it. He asks Kabir to lend `60 and after some time he will return `70. Kabir agrees to it. What is this extra `10 that Yash is offering to Kabir? (a) Profit (b) Gift (c) Interest (d) Price 2. Aman : Mom, will you please give me `500? My friends and me are planning to go to McDonalds to have burgers after school today. Grandfather : (After overhearing the conversation) Beta, we used to meet the total monthly expenditure of the entire household in that much of money, 20 years ago. 45 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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Boy : Really! I do not believe it. Can you tell what is grandfather referring to? (a) Change in lifestyle (b) Increasing demand (c) Increasing expenditure (d) Inflation 3. Investment is putting money into an asset with the expectation of capital appreciation. Investment is considered necessary because (a) It provides a cushion against inflation (b) It provides steady source of income (c) It helps in maintaining standard of living (d) All of the above 4. The interest calculated only on the principal regardless of the interest earned so far is called (a) Compound interest (b) Simple interest (c) Annualised interest (d) Real interest 5. A person invests in the RBI Bond, which is fully secured, yielding 8% annually, compounded half yearly with a lock-in period of 6 years and pays 33.33% tax on the return. If the average inflation during 6 years was 6% then, at the end of 6 years, the purchasing power of one’s investment will be (a) Higher than what it was when he started (b) Lower than what it was when he started (c) Same as what it was when he started (d) Double than what it was when he started 6. Changes in the price level of a market basket of consumer goods and services purchased by households is measured by (a) CPI (b) WPI (c) PPI (d) EPI 7. Assuming a 5% interest rate, `100 invested today will be worth `105 in one year (`100 multiplied by 1.05). Conversely `100 received one year from now will be of how much of worth today? (a) `95.0 (b) `95.1 (c) `95.2 (d) `95.3 46 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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8. What will be the simple interest for 2 years at a rate of 6% on `1500? (a) `285 (b) `180 (c) `110 (d) `95 9. An amount of `1500 is deposited in a bank paying an annual interest rate of 4.3%, compounded quarterly. What is the balance after 6 years? (a) `1639.85 (b) `1838.84 (c) `1754.30 (d) `1938.84 10. Vivek buys a certificate of deposit with a 12% stated annual interest rate. If the bank compounds the interest every month (i.e., 12 times in a year), then the effective annual interest rate would be (a) 12.483% (b) 12.683% (c) 12.583% (d) 12.783% 11. A nominal interest rate of 12% based on monthly compounding means (a) 1% interest rate per month (b) 1.25% interest rate per month (c) 1.15% interest rate per month (d) 2.0% interest rate per month 12. Shyam purchases a bond of `1000. The bond that promises to pay 5% interest is said to have a stated contractual, face or nominal interest rate of 5%. How much the corporation will pay each year? (a) `40 (b) `50 (c) `55 (d) `60 13. The degree to which an asset or security can be bought or sold in the market without affecting the asset’s price is known as (a) Safety (b) Liquidity (c) Return (d) Comparability 14. Periodic interest rate multiplied by the number of periods per year is (a) Nominal interest rate (b) Effective interest rate (c) CPI (d) WPI 47 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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15. When prices rise very fast at double or triple digit rate it is called (a) Creeping inflation (b) Walking inflation (c) Hyper inflation (d) Running inflation 16. The method of estimating an investment’s doubling time (in finance) is known as (a) Rule 50 (b) Rule 60 (c) Rule 72 (d) Rule 144 17. With the rising prices, profit expectations (a) Increase (b) Decrease (c) Remain same (d) Stop 18. The disadvantage of inflation includes (a) Hoarding (b) Fall in quality (c) Reduction in saving (d) All of the above 19. On January 1, 2007, a short time investment was purchased for `10,000. On December 31, 2007, the market value was `12,000. On March 1, 2008, the security was sold for `3,000 loss. The amount reported on the 2008 cash flow statement as a result of sale is (a) `8000 cash inflow (b) `7000 cash inflow (c) `4000 cash inflow (d) `3000 cash inflow 20. Income and expenditure accounts is a summary of all incomes and expenses relating to the (a) Previous accounting year (b) Current accounting year (c) Future accounting year (d) Two year accounts 21. Mr. Kapoor : What is the matter? You look very much disturbed. Is something bothering you? Friend : Yes, actually I am worried about my wife. She is sick and medical care is very expensive. Now, I am also retired and my pension cannot make up for all the expenses that I have to incur. I do not know how to manage? Mr. Kapoor : True my friend. One needs to make enough provisions for some regular income in one’s old age. 48 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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Can you tell the suitable plan for old age financial security? (a) Investment in property to earn rental income (b) Purchasing tax free bonds (c) Depositing money in Public Provident Fund for 15 years. (d) All of the above 22. Rajul has got his first pay today. He is thrilled and has already made plans to spend his hard earned income. But he is wondering where should he keep his money safely. On the other hand Bhavesh, a friend of Rajul, wants to start his own business for which he needs funds. He is wondering from whom he can borrow money. What is that one place where both of these people can find a solution to their problem?

(a) Parents (b) Friends (c) Banks (d) Market 23. Which is not an important aspect of investment? (a) Safety (b) Liquidity (c) Business (d) Growth 24. Kritika :

l Starts investing `1000 per year from the age of 15.



l At the age of 30 she stops investing



l She does not withdraw a single penny from this money. 49 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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Kanika : l Starts investing `5000 per year from the time she is 30 years old. l She continues to invest the same amount till the age of 60. l She does not withdraw a single penny from this money. Both earn 15% return on their investment. What does this show? (a) Time value of money (b) Friends co-operation (c) Consumption value of money (d) Expenditure value of money 25. A single investment of `100 for one year at 15% of interest rate will become (a) `105 (b) `110 (c) `115 (d) `120 26. Sonu has `1000 to invest for 3 years at the rate of 5% compound interest. After 3 years, his money will be worth (a) `1057.50 (b) `1123.12 (c) `1089.29 (d) `1157.62 27. A sum of money at simple interest amounts to `815 in 3 years and to `854 in 4 years. The sum is (a) `640 (b) `680 (c) `698 (d) `720 28. How much time will it take for an amount of `450 to yield `81? The simple rate of interest is 4.5% per annum. (a) 1 year (b) 2 years (c) 3 years (d) 4 years 29. Meena took a loan of `1200 with simple interest for as many years as the rate of interest. At the end of the loan period she paid `432 as interest. What was the rate of interest? (a) 5% per annum (b) 6% per annum (c) 7% per annum (d) 8% per annum 50 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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30. If interest rate rises, the present value of any future earnings is bound to (a) Fall (b) Rise (c) Suffer from inflation (d) Increase in risk 31. By opportunity cost we mean the cost (a) Which is incurred in the past before we make a decision about what to do in the future (b) That cannot be avoided, regardless of what is done in the future (c) That we forgo or give up, when we make a choice or a decision (d) None of these 32. Which of the following classes of risk cannot generally be avoided or mitigated? (a) Currency risk (b) Business risk (c) Financial risk (d) Interest rate risk 33. Which of he following is not an economic motive for holding money in the liquid form? (a) Transaction motive (b) Speculative motive (c) Saving motive (d) Precautionary motive 34. Interest paid or earned on both the original principal amount borrowed/lent and previous interest earned is often referred to as (a) Simple interest (b) Compound interest (c) Present value (d) Future value 35. A Rule of 72 says (a) Poor countries double their standard of living every 72 years (b) Modern countries double their standard of living every 72 year (c) A 7.2% annual growth rate doubles the standard of living in 10 years. (d) A 7.2% annual growth rate increases the standard of living by 100% in 72 years. 51 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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Answers

1. (c)



2. (d) 3. (d) 4. (b) 5. (b) Explanation : Because he will have to pay 33.33% tax on the return which is compulsory. 6. (a) 7. (c) Explanation : Interest rate of 5% on 95.2 will be `4.76 (Thus 95.2 + 4.76 = 99.96) prt 8. (b) Explanation : Simple Interest = 100 1500 × 6 × 2 100 = 180



=



9. (d) Explanation : Compound interest is, A =



P = 1500, r =

r   P 1 +  100n 

nt

4.3 = 0.043, n = 4, t = 6. 100

 0.043  Therefore, A = 1500 1 +   4 

4( 6)

= 1938.84 So, the balance after 6 years is approximately `1938.8 10. (b) Explanation : Annualised interest is calculated as : n

 i A = 1 +  − 1  n 12

 .12  = 1 +  12 

−1

= 12.683% 11. (a) Explanation : Nominal interest rate is the periodic interest rate multiplied by the number of periods per year. e.g. a nominal interest rate of 12% based on monthly compounding means a 1% interest rate per month. 5 12. (b) Note : `1000 × = `50 100 13. (b) 14. (a) 52 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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15. (c) Explanation : In case of hyper inflation prices rise from 20 to 100 per cent per annum or more. It is also called galloping inflation. It brings total collapse of the monetary system because of the continuous fall in the purchasing power of money. 16. (c)

17. (a)

18. (d) Explanation : Hoarding refers to the purchase of large quantities of a commodity with the intent of pushing up the price by creating shortage in the market. 19. (b) Note : Cash inflow = Purchase price – Loss = `10,000 – `3000 = `7000 20. (b)

21. (d)

22. (c) Explanation : Bank is a financial institution whose primary activity is to act as a payment agent for customers and to lend and borrow. 23. (c) Explanation : Liquidity refers to the immediate ready availability of money when a person wants to use it. 24. (a)

25. (c)

26. (d) Explanation : Formula for calculating final amount including the principal is as follows: M = P(1 + i)n Here, M = Final amount including the principal P = Principal amount i = the rate of interest per year n = the number of years invested Thus, M = 1000(1 + 0.05)3 = `1157.62 27. (c) Explanation :

Simple interest for 1 year = `(854 – 815) = `39



Simple interest for 3 years = `(39 × 3) = `117



∴ Principal = `(815 – 117) = `698 53 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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 100 × 81  28. (d) Explanation : Time =  years  450 × 4.5  = 4 years 29. (b) Explanation : Let rate = R% and Time = R years 1200 × R × R  Therefore,   = 432  100 ⇒ 12 R2 = 432 ⇒ R2 = 36 ⇒R=6 30. (a) 31. (c) 32. (b) 33. (c) 35. (c)

54 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

34. (b)

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5 BASICS OF BANKING Key Points l Meaning of Bank : A bank is a company which collects money from the public in the form of deposits and lends the same to borrowers. It provides facilities for safekeeping. l Central Bank : Central Bank serves as a leader of the banking system and the money market. It exercises supervision and control over all other banks in the country. In India, Reserve Bank of India is the Central Bank. l Commercial Banks : These are joint stock banks which receive deposits from the public and business firms. They also provide short-term and medium term loans to the customers. l Savings Account : Savings account is meant for the general public to encourage thrift. It fosters the habit of savings. A reasonable rate of interest is allowed on the credit balance in the savings account. No overdraft facility is available. l Current Account : It is generally opened by businessmen. A person or a firm can open this account with a bank by depositing a certain amount, usually `5000. There is no restriction on the numbers of withdrawals. No interest is paid on current account. l Recurring Deposit Account : In this type of account, a customer is allowed to deposit a certain amount of money every month for a specified period of time. At the end of the period, he is given the total deposit amount alongwith interest at the prescribed rate. l Fixed Deposit Account : Under this account, a person makes a deposit of money in one lump sum for a specified period of time, say one year, three years, five years or more. Passbook 55 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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l

l

l

l

l

l

l

or cheque book facility is not required. The customer is not allowed to withdraw from the account before the expiry of the specified period, but he can borrow against the security of deposit. Depositor is given a higher rate of interest. Demand Drafts : Bank drafts are known as demand drafts, as they are always payable on demand without any days of grace. These are always payable to a certain payee named in the draft or to his order. Banks charge a nominal commission for this service. Banker’s Cheque or Pay Order : Cheque is drawn by one person upon another. It can be drawn payable or bearer. A cheque is an unconditional order in writing drawn upon a specified banker, directing the bank to pay a certain sum of money to the order of a person or to the bearer of the instrument. Automated Teller Machines (ATM) : Banks provide ATM card to the current account holder or savings account holder who is an individual or proprietor. It offers transaction related interactive customer exchange facility to customers. Tele-banking : Under this facility, a customer can get information about the balance in his/her account or information about the latest transactions on the telephone. This facility is available round the clock. Electronic Funds Transfer System (EFTs) : EFT system enables employers to transfer salaries or wages directly from the company’s bank account to the employees’ bank accounts. Internet banking : This gives to the customers anytime access to their banks. They can check their account details, get their bank statements, perform transactions, and pay their bills sitting in their homes and offices. Electronic mail (e-mail) : It is a system of electronic correspondence used to send and receive messages through a network of computer and telecommunication links. It is a subscription service in certain cases. 56 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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l Permanent Account Number (PAN) : Permanent Account Number is issued by Income Tax Department under the supervision of the Central Board of Direct Taxes. It also serves as an important ID proof. This number is mandatory or compulsory for financial transactions like opening a bank account, receiving taxable salary, sale and purchase of assets above specified limits etc. l Personal Identification Number (PIN) : PIN is a secret numeric code shared between a user and a system that is used to authenticate the user of the system. PINs are used for ATMs and debit cards and credit cards at the point of sale.

Multiple Choice Questions 1. The apex bank which supervises and controls the entire banking system of our country is (a) Reserve Bank of India (b) Commercial Bank (c) Exchange Bank (d) Industrial Bank 2. Exchange banks are a type of commercial banks. Their main function is (a) Financing foreign trade (b) Buying and selling of gold and silver (c) Facilitating foreign remittances (d) All of these 3. Which is not the function of commercial banks? (a) Accepting deposits (b) Lending money (c) Discounting of bills (d) Issue of currency notes 4. In which type of bank account, the account holder is required to deposit a specific amount every month? (a) Savings deposit account (b) Recurring deposit account 57 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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(c) Current account (d) Fixed deposit account 5. Which is not the advantage of payment by cheques? (a) Safety (b) Convenience (c) Easy transfer (d) Risk of loss 6. Which is not considered essential while investing money? (a) Safety (b) Return (c) Liquidity (d) Acceptability 7. The cheque book contains printed blank forms of cheques which the customer can fill in and sign whenever he wants to pay money to somebody or for himself/herself. Out of the following statements, which is not an essential feature of cheques? (a) It is payable to self or any other person (b) It is drawn on a specified bank (c) It is signed by the drawer (d) It is a conditional order to pay 8. Observe the pictures carefully and tell the correct answer.

(a) Automated Teller Machine and Debit Card (b) Automated wending Machine and Credit Card (c) Automatic Telephone Machine and PAN Card (d) Automatic Calling Machine and PAN Card 9. Two parallel transverse lines across the face of a cheque is called (a) Cancelling (b) Crossing (c) Endorsing (d) Withdrawing money 58 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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10. Looking at the sample form of Savings Bank Account, state the requirements for opening a savings bank account.

(a) Address proof (b) Passport size photo (c) PAN card/number (d) All of the above 11. The banks have a system of clearing. What is required for the clearing process? (a) All banks meet at one place 59 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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(b) Exchange the cheques received by them from their respective customers (c) Settle the accounts among themselves (d) All of these

12. Looking at the picture of Demand Draft Requisition Form and the Demand Draft, can you tell what is a demand draft?

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(a) (b) (c) (d)

Bill drawn on demand Bill drawn on supply Bill drawn on by government None of these

13. Name the account in which a person makes a deposit of money in one lump sum for a specified period of time. (a) Savings account (b) Current account (c) Fixed deposit account (d) Recurring deposit account 14. Which is not the function of commercial banks as an agent? (a) Sale and purchase of securities on behalf of customers (b) Collecting various receipts like dividends, interest etc. on behalf of customers (c) Collecting and paying cheques, bills of exchange on behalf of customers (d) Issuing of currency notes 15. When a bank gives permission to a client to withdraw more money than his actual deposit in his account, then the excess withdrawal is called (a) Bank draft (b) Discounting (c) Overdraft (d) Remittances 61 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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16. Real Time Gross Settlement System (RTGS) is managed by (a) State Bank of India (b) Reserve Bank of India (c) Government of India (d) Foreign Bank 17. What enables the card holders to have overdraft facility of an amount depending upon the creditworthiness of the party? (a) Debit Cards (b) ATM (c) Credit Cards (d) Cheques 18. Following picture gives the specimen of a cheque. Looking at the picture can you tell the parties of the cheque?



(a) Drawer (c) Payee

(b) Drawee (d) All the above

19. Which one is not the commercial bank of India? (a) Punjab National Bank (b) State Bank of India (c) Reserve Bank of India (d) Syndicate Bank of India 20. Which is not the function of Central Bank? (a) Monopoly of note issue (b) Government’s bank (c) Controller of credit (d) Accepting public deposits 21. Punjab Bank Ltd. comes under which category of banks? (a) Private Sector Banks (b) Public Sector Banks (c) Co-operative Banks (d) Foreign Banks 62 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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22. Which bank is known as the ‘Apex Bank’ of India? (a) Reserve Bank of India (b) State Bank of India (c) Central Bank (d) Bank of India 23. Accepting deposit is which type of function of banks? (a) Primary function (b) Secondary function (c) Social function (d) Agency function 24. Which of the following does not come under e-banking? (a) Automated Teller Machine (b) Electronic Fund Transfer (c) Depositing cash in account (d) Debit card 25. A central bank which sets the short term rate of interest must (a) Sell government bonds (b) Change the reserve ratios (c) Meet the resulting demand for reserves (d) Seek government approval 26. Government securities with terms of more than one year are called (a) Capital bills (b) Treasury bills (c) Bills of exchange (d) Government bonds 27. By the term ‘money’ we mean (a) the same as income (b) the values of all coins and currency in circulation at anytime (c) anything that is generally accepted as a medium of exchange (d) the fixed assets of a person or individual 28. The difference between a bank’s actual reserves and its required reserves is its (a) Profit margin (b) Required reserve ratio (c) Net worth (d) Excess reserves 29. Which of the following is not the function of Central Bank? (a) Lending to the government 63 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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(b) Conduct of monetary policy (c) Issue of currency notes and coins (d) Supervising the stock market 30. Indian commercial banks are categorized into (a) Private sector banks (b) Public sector banks (c) Foreign banks (d) All of the above 31. An increase in Cash Reserve Ratio by Reserve Bank of India leads to (a) Increase in deposit (b) Decrease in deposit (c) Increase in lendable resources (d) Decrease in lendable resources 32. The affairs of Reserve Bank of India are conducted by (a) Regional Board (b) Local Board (c) Central Board (d) All of the above 33. Who intervenes in the markets to maintain the external value of Indian rupee? (a) Reserve Bank of India (b) Exporters (c) International Monetary Fund (d) Importers 34. Currency notes of which of the following denominations are not printed in India? (a) `10 (b) `50 (c) `1000 (d) `2500 35. When banks accept a fixed sum of money from an individual for a definite period and pay with interest on maturity, the deposit is known as (a) Term deposit (b) Demand deposit (c) Bond (d) Security 1. (a)

Answers 2. (d)

3. (d)

4. (b)

6. (d) 64 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

5. (d)

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7. (d) Explanation: The essential features of cheque are as follows: l A cheque is a written document l It is an unconditional order to pay l It is drawn on a specified bank l It contains the sum payable l The amount is payable on demand l It is signed by the drawer l It is payable to self (drawer) or to any other person There are three parties to a cheque : l Drawer, who writes the cheque l Drawee, the bank on which the cheque is drawn l Payee, the person to whom the money is payable. Drawer and Payee are the same person in case of a cheque for ‘self’. 8. (a)

9. (b) 10. (d) 11. (d) 12. (a) Explanation : Bank draft is a bill drawn either on demand

or o therwise by one banker on another in favour of a third party or by one branch of a bank on another branch of the same bank or by the head office on a branch or vice versa for a sum of money payable on demand or order. These are also known as Demand Drafts.

13. (c) 14. (d) 15. (c) 16. (b) Explanation : RTGS is a gross settlement system in which

17. (c)

b oth processing and final settlement of funds transfer instructions can take place continuously i.e., in real time. Transfers are settled individually, without vetting debits against credits. 18. (d)

19. (c)

20. (d)

21. (a) Explanation : Private sector banks are owned by a private individual. Majority of stake is held by private individuals and not by government.

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22. (a) Explanation : Central Bank is the supreme monetary institution at the apex of the monetary and banking structure of a country. 23. (a)

24. (c)

25. (c)

26. (d) Explanation : Government bond is a debt security issued by a government to support government spending. It is most often issued in the country’s domestic currency. 27. (c)

28. (d)

29. (d)

30. (d)

31. (d) Explanation : CRR is the specified minimum fraction of the total deposits of customers which commercial banks hold as cash. 32. (c)

33. (a)

34. (d)

35. (a) Explanation : It is a money deposit in the banks that cannot be withdrawn for a certain ‘term’ or period of time. The longer the term, the better the yield on the money deposited.

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6 INTRODUCTION TO STOCKS AND BONDS Key Points l Stocks : It is a type of security that signifies ownership in a corporation and represents a claim on part of the corporation’s assets and earnings. l Equity : It is the residual claimant or interest of the most junior class of investors in assets, after all liabilities are paid. l Equity shares : Shares that carry no preferential or special rights in respect of annual dividends and in the repayment of capital at the time of liquidation of the company are called equity shares. l Share premium : It is the amount that is over and above par value on the amount that has been subscribed to for a new issue of corporate capital. It can only be used for certain specific purposes that are laid out in the corporation’s by-laws. l Bonds : It is a debt instrument issued for a period of more than one year with the purpose of raising capital by borrowing. Generally, a bond is a promise to repay the principal alongwith interest on a specified date. l Debentures : It is a type of debt instrument that is not secured by physical assets or collateral. Debentures are backed only by the general creditworthiness and reputation of the issuer. l Dividend : A sum of money paid regularly (typically annually) by a company to its shareholders out of its profits or reserves. l Earning Per Share (EPS) : It is the portion of the company’s profits allocated to each outstanding share of common stock. The essential equation for EPS is: 67 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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EPS =

Net Income Total Number of Capital Stock Shares

l Price-Earnings Ratio (P/E Ratio) : It is the valuation ratio of company’s current share price compared to its per share earnings. It is calculated as: Market Value Per Share P/E Ratio = Earnings Per Share (EPS) l Stock exchange : It is the organized and regulated financial market where securities are bought and sold at prices governed by the forces of demand and supply. l Face value of stocks or bonds : The face value of bonds represents the principal or redemption value. Interest payments are expressed as a percentage of face value. l Market value of stock : The current quoted price at which investors buy or sell a share of common stock or a bond at a given time.

l Primary market : It is the part of the capital market that deals with issuing of new securities. It is the market in which buyers and sellers negotiate and transact business directly without any intermediary such as resellers.

l Secondary market : It is also called after-market. It is the financial market in which previously issued financial instruments such as stocks, bonds, options etc., are bought and sold. l Dematerialization : It refers to the absolute and relative reduction in the quality of materials required to serve economic functions in society. In finance, it refers to the substitution of paper form securities by book-entry securities. l Demat account : In India, shares and securities are held electronically in a Dematerialized Account (Demat Account), instead of the investor taking physical possession of certificates. The account is opened by the investor while registering with the investment broker. 68 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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l Nifty : Nifty stands for National Stock Exchange’s Fifty. It is an index computed from performance of top stocks from different sectors listed on National Stock Exchange (NSE). l BSE SENSEX : The BSE SENSEX also called the BSE 30 or simply the SENSEX is a free float market index of 30 well established and financially sound companies. (It stands for Bombay Stock Exchange Sensitive Index.) l National Stock Exchange of India (NSEI) : The NSEI was set up by All India Financial Institutions and Commercial Banks in November 1992. In this, the system of transaction of securities is very efficient and transparent. It is also called a ‘Model Exchange’. l Bear : A bear is a pessimistic speculator in the stock market who always sells securities in anticipation of falling prices. l Bull : A bull is an optimistic speculator who always buys securities in anticipation of selling them at higher prices and thereby makes a profit. l Initial Public Offer (IPO) : An Initial Public Offering (IPO) is a type of public offering where shares of stock in a company are sold to the general public, on a securities exchange, for the first time.

Multiple Choice Questions

1. A place where stocks and shares and other long term commitments or investments are bought and sold is called (a) Commodity market (b) Stock market (c) Business market (d) People’s market 2. An optimistic speculator who buys securities in anticipation of selling them at higher prices is called (a) Bull (b) Bear (c) Trader (d) Speculator 3. Suppose Companies A and B both earn `1000, but Company A has 10 shares outstanding, while Company B has 50 shares outstanding. Which company’s stock would you like to own? 69 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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(a) Stock of company A (b) Stock of both A and B (c) Stock of company B (d) None of these 4. What is the market value of a `10,000 face value bond with a 10 percent coupon rate when the market’s rate of return is 9%? (a) More than its face value (b) Less than its face value (c) Same as its face value (d) Decreasing face value 5. What is the yield on a share of preferred stock, which has a `100 par value and is currently selling for `160 in the market place? The shares of preferred stock pays a 16% annual dividend. (a) 10% (b) 14% (c) 16% (d) 19% 6. If the intrinsic value of a share of common stock is less than its market value, which of the following is the most reasonable conclusion? (a) The market is undervaluing the stock (b) The market is overvaluing the stock (c) The stock has a low level of risk (d) The stock offers a high dividend payout ratio 7. In case the market’s required rate of return for a particular bond is less than its coupon rate, the bond is called (a) Discount bond (b) Premium bond (c) Face bond (d) Par bond 8. The record of a country’s transactions in goods and services and assets with the rest of the world is called . (a) Current account (b) Capital account (c) Balance of Payments (d) Balance of trade 70 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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9. Look at the picture and identify the building

(a) Stock Exchange (b) Reserve Bank of India (c) Parliament House (d) None of these 10. If the market value of a share is lower than the face value, then the shares are said to be at a (a) Discount (b) Dividend (c) Premium (d) Equality 11. Mr. Chopra wants to start a company, ABC Limited with 8 friends. Mr Chopra invests `500 and invites the friends to invest `200 each, to which all the friends agree. In this case, the total capital of the company would be (a) `2000 (b) `2200 (c) `2100 (d) `2300 12. A trading account of a company reveals the (a) Financial position of an organisation (b) Assets of the company (c) Liabilities of the company (d) Gross profit during the year 13. The regulatory power of SEBI includes (a) Protecting the interests of investors in securities (b) Promoting the development of the securities market (c) Regulating the securities market (d) All of the above 71 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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14. Shares and debentures of a company or corporate body or government are the (a) Economic instruments (b) Financial instruments (c) Credit instruments (d) None of the above 15. If a company is currently trading at `43 a share and earnings over the last 12 months were `1.95 per share, then P/E Ratio for the stock would be (a) 21.05 (b) 22.05 (c) 23.05 (d) 24.05 16. Business in stock exchanges and any other securities market is regulated by (a) Stock Exchange Market (b) Government Authorities (c) SEBI (d) Nifty 17. Bonds issued by companies with a low credit rating and high growth potential are called (a) Convertible bonds (b) Non-convertible bonds (c) Secured bonds (d) Floating bonds 18. The part of the capital market that deals with issuing of new securities is known as (a) Primary market (b) Secondary market (c) Capital market (d) Trading market 19. A sum of money paid regularly by a company to its shareholders is called (a) Profit (b) Dividend (c) Share (d) Equity 20. An optimistic speculator in the stock market is called (a) Bear (b) Bull (c) Jobber (d) Broker 21. Interest on government securities on fixed basis is known as (a) Bank Rate (b) Prime Lending Rate (c) Coupon (d) None of these 72 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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22. A market for existing securities rather than new issues is known as the (a) Secondary market (b) Prime market (c) Tertiary market (d) Capital market 23. A market where new securities are bought and sold for the first time is known as (a) Primary market (b) Secondary market (c) Tertiary market (d) Current market 24. A market for relatively long term financial instruments is called (a) Tertiary market (b) Secondary market (c) Primary market (d) Capital market 25. Which of the following is not a characteristic of stock exchange? (a) It allows securities to be listed on more than one exchange (b) It requires one to be a member in order to be allowed to trade (c) It allows exchange listed issues to trade off the exchange floor with the aid of brokers (d) Stocks traded on exchange must meet minimum listing requirements 26. What is the most appropriate goal of a firm? (a) Profit maximisation (b) Stakeholder maximisation (c) EPS maximisation (d) Shareholder wealth maximisation 27. Securities and Exchange Board of India (SEBI) was established in 1988 and was given statutory status through an Act in (a) 1988 (b) 1989 (c) 1990 (d) 1992 28. Which is not the function of stock exchange? (a) Pricing of securities (b) Safety of transaction (c) Providing scope for speculation (d) Purchase of property 73 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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29. Important money market instruments are? (a) Treasury Bills (b) Commercial Bills (c) Call money (d) All of the above 30. Equity shareholders are called (a) Partners of the company (b) Owners of the company (c) Guardian of the company (d) Executives of the company 31. Public deposits are the deposits that are raised directly from (a) The Directors (b) The Auditors (c) The Public (d) The owners 32. Those shares which do not carry any preferential rights in the payment of annual dividend and repayment of capital in the event of liquidation are called (a) Equity Shares (b) Preferential Shares (c) Debentures (d) All of the above 33. Which is not the advantage of public deposit? (a) Easy method (b) Fair weather friend (c) No need of mortgage (d) Benefit of trading on Equity 34. Trade credit is an example of (a) Short term finance (b) Long term finance (c) Medium term finance (d) All of the above 35. Functions of financial markets include (a) Facilitating price discovery (b) Providing liquidity to financial assets (c) Reducing the cost of transactions (d) All of the above 74 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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Answers

1. (b) 2. (a) 3. (a) E xplanation: EPS of Company A Net Earnings 1000 =    = = 100 Outstanding Shares 10 Net Earnings 1000 = 20 = Outstanding Shares 50 You would like to own the stock of company A with an EPS of 100, whereas company B has EPS of 20 4. (a) Explanation : When the required rate of return is less than the coupon rate, the bond sells at a premium i.e., greater than the face value. 5. (a) Explanation : The dividend on the share of preferred stock is `16 (16% × 100). The yield is : 16 Dividend Yield = = 10% = Market Price 160 EPS of Company B =

6. (b) 7. (b) 8. (c) 9. (a) 10. (a) 11. (c) 12. (d) 13. (c) Explanation : Securities and Exchange Board of India (SEBI) is authorised to regulate all merchant banks on issue activity, lay guidelines and supervise and regulate the working of mutual funds and oversee the working of stock exchanges in India. 14. (b) Explanation : All securities are financial instruments. 15. (b) Note : P/E Ratio =

Market Value Per Share Earnings Per Share (EPS)

16. (c) 17. (a) Note : Bond holders can convert these into a specified number of shares of common stock in the issuing company or cash of equal value. 18. (a) 19. (b) 20. (b) 21. (c) Explanation : A coupon payment on a bond is a periodic interest payment that the bondholder receives during the time between when the bond is issued and when it matures. 75 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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22. (a)

23. (a)

24. (d) Explanation : Capital market is a part of a financial system concerned with raising capital by dealing in shares, bonds and other long-term investments. 25. (c)

26. (d)

27. (d)

28. (d)

29. (d)

30. (b) Explanation : The entity owner of shares or stock, are more commonly known as shareholder or stockholder. 31. (c)

32. (a)

33. (b)

34. (a) Explanation : Trade credit refers to that credit facility which is extended by one businessman to another for purchase of goods and services. 35. (d) Explanation : Financial market is a market for the creation and exchange of financial assets.

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7 INVESTMENTS : THE WIDER SPECTRUM Key Points l Asset class : It is a group of securities that exhibit similar

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characteristics and behave similarly in the market place. They are subject to the same laws and regulations. The three main classes are Equities (stocks), fixed income (bonds) and cash equivalents (money market instruments). Mutual funds : It is a type of professionally managed collective investment scheme that pools money from many investors to purchase securities. Most mutual funds are open ended i.e., the investors can buy or sell shares of the fund anytime. Equity fund : A mutual fund that invests principally in stocks is called ‘Equity fund’ or ‘Stock fund’. It can be managed actively or passively. Debt funds : These are the funds that invest predominantly in fixed income bearing instruments like corporate debentures, treasury bills, commercial papers etc. Balanced funds : It is a mutual fund that buys a combination of common stock, preferred stock, bonds, etc. to provide both income and capital appreciation while avoiding excessive risk. Tax saving funds : These cater to the investor’s need of minimising tax burden on the returns from investments. Closed end funds : It has fixed number of shares which are publicly traded. The price of closed end share fluctuates based on investor supply and demand . 77 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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l Growth plans : It is mutual fund whose primary investment l l l l l

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objective is long-term growth of capital. Dividend plans : In this the fund pays dividend from time to time as and when the dividend is declared. Net Asset Value (NAV) : It is the value of an entity’s assets less the value of its liabilities. This may also be the same as the book value or the equity value of the business. Entry load : This is the amount which the Mutual Fund companies collect from investors when they join or leave the scheme. The fee charged is generally referred to as ‘load’. Exit load : This fee is charged when investors leave the scheme. Public Provident Fund (PPF) : PPF is a privately held international financial group. It operates in the area of consumer financing, retail banking and insurance. Individuals who are residents of India are eligible to open their account in the PPF scheme. Interest earned is fully exempt from tax without limit. National Savings Certificate (NSC) : It is a saving bond. NSCs can be purchased from a Post Office by an adult in his own name or in the name of the minor, a trust or two adults jointly. These are issued for six year maturity and can be pledged to banks for taking loans. Post Office Monthly Income Scheme (POMIS) : It is a guaranteed return investment available at the Post Office. It gives an assured monthly income which is paid every month. Real estate : Real estate refers to the land, buildings and things permanently attached to land and buildings. It is also called realty and real property. Ponzi schemes : It is an investment operation that pays returns to its investors from existing capital or new capital paid by investors, rather than from profit earned by the individual or organization operating it.

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Multiple Choice Questions 1. Can you guess? l This is a six year deposit scheme earning interest at 8% per annum. l The amount invested is also eligible for deduction from taxable income within limits. l Available in post offices or through agents. (a) PPF (b) NSC (c) POMIS (d) NAV 2. Read the following points carefully: l A lump sum investment is made in the post office for 6 years at a monthly interest of 8%. l The interest earned on the amount is paid as monthly income to the investor. Tick the right choice : (a) NSC (b) NAV (c) PONIS (d) POVAS 3. What is the advantage of investing in real estate? (a) One can save on rental expenditure by owning a house (b) Capital appreciation takes place (c) Provides cushion against inflation (d) All of the above 4. Observe the picture given below and tell what does NAV stand for?



(a) Normal Asset Value (c) Not Actual Value

(b) Net Asset Value (d) Normal Actual Value 79

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5. The total market value of the shares in which the mutual fund has invested its money is known as (a) NAV (b) NSC (c) MIS (d) VAT 6. Mutual funds have advantages compared to direct investing in individual securities. Which one is not the advantage of mutual fund? (a) Increased diversification (b) Daily liquidity (c) No opportunity to customize (d) Ease of comparison 7. The main investing objective of a debt fund will usually be (a) Preservation of capital (b) Expenditure of money (c) Capital depletion (d) Asset appreciation 8. Tax planning funds cater to the investor’s need of (a) Minimizing tax (b) Maximising tax (c) Increasing revenue (d) Increasing income 9. Who is eligible to open an account in PPF? (a) Minor child (b) Individuals (Resident of India) (c) Individuals (NRI) (d) Person already having one account 10. The minimum deposit limit in PPF account is (a) `100 (b) `500 (c) `1000 (d) `2000 11. The maximum deposit limit in PPF account is (a) `50,000 (b) `60,000 (c) `80,000 (d) `100,000 12. What is the minimum tenure period of PPF account? (a) 5 years (b) 10 years (c) 12 years (d) 15 years 13. Under dividend plan the fund pays dividend as and when it is declared (a) Every year (b) After 4 months (c) After 6 months (d) From time to time 80 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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14. The use of money in the hope of making more money is known as (a) Deposit (b) Investment (c) Money making (d) Financing 15. Which of the following observations concerning financial assets is true? (a) They are claims to the income generated by real assets (b) They generate net income to the economy (c) They contribute directly to the productive capacity of the economy (d) They increase knowledge that can be used to produce goods and services 16. The key to any good investment strategy is to (a) Balance the risks and returns (b) Maximize the risks (c) Minimize the returns (d) Less investment 17. Adjustable rate of interest that can vary through the term of debt, loan or bond depending upon the market conditions is (a) Fixed rate of interest (b) Floating rate of interest (c) Equal rate of interest (d) Decreasing rate of interest 18. Spreading investments across asset classes to minimize risks and maximise returns is called (a) Centralisation (b) Deductions (c) Diversification (d) Borrowing 19. A professionally managed investment scheme that pools money from many investors is (a) NIS (b) NSC (c) Mutual fund (d) Rescue fund 20. Price paid for borrowing money or that received for lending money is called (a) Investment (b) Borrowing (c) Interest (d) Money rate 81 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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21. A long-term safe investment and tax saving option issued by Government of India’s Department of Post is (a) NSC (b) NAV (c) MIS (d) VAT 22. An arrangement with the lending agency to borrow money on certain repayment terms is called (a) Insurance (b) Loan (c) Interest (d) Installment 23. Which type of fund invests in debt securities with very short maturities? (a) Growth fund (b) Money market mutual fund (c) Bond fund (d) Certified fund 24. Shares of close end funds often sell (a) At the net asset value, plus a load fee (b) At a premium to the net asset value (c) Exactly at the net asset value (d) At a discount to the net asset value 25. Shares of a closed end fund are trading at a 4% premium over NAV. If NAV is `10 per share, what is the current market price of the fund’s share. (a) `9.60 (b) `9.80 (c) `10.40 (d) `12.05 26. The process of investment involves (a) Understanding your investment needs (b) Understanding risks and returns (c) Creating a balanced portfolio (d) All of the above 27. Life cycle needs pose a risk to your household expenses. These if not planned for would often take a toll on your finances. Can you tell which is not a risk management approach? (a) Avoiding the risk (b) Transferring the risk (c) Reducing the risk (d) Facing the risk 82 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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28. Every Mutual Fund is allowed to charge for operating expenses, which are basically the cost of doing business. The costs are deducted from the income earned by the fund and are called “expense ratios” which include : (a) Marketing and selling expenses (b) Legal and audit fees (c) Investment management and advisory fees (d) All of the above 29. Load are the most talked about fees that mutual funds charge. These are one time charges for purchasing or redeeming shares of a mutual fund. These include (a) Front end load (b) Back end load (a) Both (a) and (b) (b) None of these 30. The entity who borrows money by issuing the bond and is due to pay interest and repay capital in due course is the (a) Investor (b) Issuer (c) Principal (d) Government 31. Can you tell which is not a type of ownership investment? (a) Stocks (b) Business (c) Real Estate (d) Profit 32. A Ponzi scheme generates returns for old investors by (a) Acquiring old investors (b) Acquiring new investors (c) Contacting earlier investors (d) Removing earlier investors 33. No matter how large the number of stocks in the portfolio is, the risk that cannot be diversified away is the (a) Unique risk (b) Systematic risk (c) Company specific risk (d) Business risk 34. Foreign investments in and by a country are referred to as (a) Capital flows (b) Capital account (c) Current account (d) Government transactions 35. The activity concerned with the planning, raising controlling and administering of the funds used in business is called (a) Business finance (b) Business transactions (c) Business dealings (d) Business profit 83 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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36. The financial position of the organisation on a specified date is shown by (a) Income transactions (b) Profit of the company (c) Balance sheet (d) Liabilities of the company 37. Read the following feature and mention the name of the fund l The scheme is for 15 years l A person can invest maximum `1,00,000 per year l The interest is tax free l Loan facility is available l Partial withdrawal facility is available (a) Mutual Fund (b) Public Provident Fund (c) Debt Fund (d) Standard Fund 38. Mr. Varma is a professional and works for a private company. The company will not offer him a pension after he retires. He wants the investment to be secure and offer him a lump sum amount after his retirement along with tax benefits. Can you suggest an appropriate investment plan? (a) NSC (b) Fixed deposit (c) Public Provident Fund (d) Savings deposit 39. Mohit saves a small amount every month and deposits the money in his savings bank account. The bank offers him an interest of 3.5%. But he wants his money to grow faster. His college classes keep him fairly busy. He does not have the time or the expertise to invest in share market. He wants a solution within the bank. Can you suggest him the best solution? (a) Fixed deposit account (b) Current deposit account (c) Recurring deposit account (d) None of these 84 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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40. Ruchika earned a considerable amount throughout the year. She invested a lot of money in shares, fixed deposits, Systematic Investment Plan and Growth Mutual Funds. However, at the end of the year she had to pay huge amount of income tax. Can you suggest her the way to reduce her tax liability? (a) Investing in NSC (b) Avoiding investment (c) Opening recurring deposit (d) Purchasing shares 1. (b)

Answers

2. (c) 3. (d) 4. (b) Explanation : NAV stands for the Net Asset Value (b) Upward trends show increase in the value Downward trends show decrease in the value NAV 5. (a) Note : NAV per unit = No. of units outstanding 6. (c) 7. (a) 8. (a) 9. (b) 10. (b) 11. (d) 12. (d) 13. (d) 14. (b) 15. (a) 16. (a) 17. (b) 18. (c) 19. (c) 20. (c) 21. (a) 22. (b) 23. (b) 24. (d) 25. (c) 26. (d) 27. (d) 28. (d) 29. (c) 30. (b) 31. (d) 32. (b) 33. (b) 34. (a) 35. (a) 36. (c) 37. (b) 38. (c) 39. (c) 40. (a)

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8 BEYOND SAVINGS : BORROWING Key Points l Meaning of borrowing : Borrowing means receiving

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something of value in exchange for an obligation to pay back something of usually greater value at a particular time in the future. Loan : Loan is an arrangement in which a lender gives money or property to a borrower, and the borrower agrees to return it, usually alongwith interest at some future point of time. Interest rate : It is the rate at which interest is paid by borrower for the use of money that they borrow from a lender. Equated Monthly Instalment (EMI) : EMI is the fixed payment amount made by a borrower to a lender at a specified date in each calendar month. These are used to pay off both interest and principal each month, so that over a specified number of years, the loan is paid off in full. Amortization : It is the reduction of the value of an asset by prorating its cost over a period of years. The term means the same as depreciation. Credit card : Credit card is a small plastic card issued by a bank, society etc. It gives the holder an option to borrow funds, usually at point of sale. Home loan : It is a loan given by a bank, mortgaged company or other financial institution to purchase a home. Personal Loan : A personal loan is made for any purpose not specifically defined. It does not have to be secured by any assets. The recipients use the money for general purposes. 86 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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These are of two main types, i.e., secured personal loan and unsecured personal loan. Secured personal loan : It is backed by collateral or security in the form of home, car or any other financial asset. Lack of payment will result in repossession of the property by the creditor. Unsecured personal loan : It is not secured by anything other than the signature of the recipient. It is usually based on general creditworthiness of the person who borrows it. Education loan : It is a term loan granted to Indian Nationals for persuing higher education in India or abroad where admission has been secured. Consumer loan : It is an amount of money lent to an individual, usually on a non-secured basis for personal, family or household purposes. These are monitored by government regulatory agencies for their compliance with consumer protection regulations. Vehicle loan : Loans given for buying a vehicle listed under assets of an individual or an organization. Fixed rate loans : These loans maintain the same interest rate for the duration of the loan. Normally higher rates are charged by lenders because they may lose money if market interest rates increase. Floating interest rate : It is the rate of interest that is allowed to move up and down with the rest of the market or alongwith an index. It is also called the variable interest rate because it can vary over the duration of the debt obligation. Processing charges : Loan process fee is a charge that passes on costs to the borrowers for obtaining documentation appraisals, employment and credit history or any other information necessary for the lender’s underwriting department. Termination fee : An early termination fee is a charge levied when a party wants to break the term of an agreement or long term contract. 87 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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l Prepayment of loan : The satisfaction of a debt or instalment payment before its official due date e.g., payment of rent and early loan payments. l Good loans : It is the loan which helps you build or buy the most precious asset of lifetime e.g., house, land, education loan etc. l Bad loans : This loan is usually taken to satisfy immediate personal requirements or expenses like, buying consumer durables or going on vacation etc. l Credit score : It is numerical expression based on a level analysis of a person’s credit files, to represent the creditworthiness of that person. l CIBIL : Credit Information Bureau (India) Limited is India’s first Credit Information Company founded in August 2000. It collects and maintains records of an individual’s payments pertaining to loans and credit cards.

Multiple Choice Questions 1. The act of giving money to another party in exchange for future repayment of the principal amount along with interest is called (a) Borrowing (b) Paying (c) Loan (d) Rate of Interest 2. A home loan taken to purchase a house or property for investment purpose is a (a) Good loan (b) Bad loan (c) Not so good loan (d) Not so bad loan 3. Vineet has taken a personal loan of 5 lakh rupees for an yearly interest rate of 13% and a tenure of 5 years, then the EMI of the loan is (a) `10350 (b) `11475 (c) `11377 (d) `11503 4. The payment of loan including part of principal and some interest repaid at regular intervals are called (a) Secured loans 88 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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(b) Unsecured loans (c) Simple payment loans (d) Instalment loans 5. Which of the following statements is true? (a) The providers of loan capital are paid a dividend (b) Loan capital is money borrowed from outsiders (c) Loan capital is not normally repaid to the lender (d) Loan capital is money subscribed by shareholders of a company 6. EMI stands for (a) Easy Monthly Instalment (b) Equated Monthly Instalment (c) Equated Mortgage Instalment (d) Easy Mortgage Investment 7. To increase the given present value, the discount rate should be adjusted (a) Downward (b) Upward (c) Parallel (d) Same 8. About an year ago, Vipin took a loan of `10,000 to buy a new mobile phone costing `11500. Today he finds that the price of that phone has come down to `7000. Now he is wondering why he took the loan. As per your opinion, which of the following is correct? (a) Vipin should have saved money to buy a phone later (b) Vipin should not have saved money to buy a phone later (c) Yes, Vipin did the right thing by taking loan (d) None of these 9. Puneet was looking for 2BHK (Two bed room apartment) two years back. Later, he dropped the idea as he was not having money to buy the property. He was not prepared to take loan though he was eligible for it. Now the price of the same property has gone up. It was logical to take loan two years back for buying property because (a) Puneet would have saved the rent (b) Puneet would have got tax benefits 89 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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(c) Puneet would have got the property at less price (d) All of the above

10. Public deposits represent loans from the public including employees and shareholders of the company. Which is not an advantage of public deposit? (a) No charge on assets (b) Flexibility (c) Risk to investors (d) No interference 11. Trade credit is the credit extended by one business firm to another as incidental to sale or purchase of goods and services. It has the advantage of (a) Simple and convenient method (b) No formalities are involved (c) No interest is payable (d) All of the above 12. Instalment credit refers to the facility of buying machinery, equipment and other durable goods on credit. Which is not the feature of instalment credit? (a) The buyer has to pay a part of the price of the asset at the time of delivery (b) The balance is payable in a number of instalments (c) It is more economical than bank loans (d) The supplier charges interest on the balance due 13. Which is not an advantage of bank credit? (a) Flexible and can be repaid whenever desired (b) Loans are available for a short period (c) Loans can be repaid in easy instalments (d) Banks do not interfere in the management of client’s business 14. The borrower is required to pay the interest on the whole amount from the date of sanction in case of (a) Taking loan (b) Buying goods (c) Doing expenditure (d) Transaction 90 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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15. Loans granted for some immediate need are known as (a) Transaction loans (b) Unsecured loans (c) Secured loans (d) Vehicle loans 16. Long term loans are raised by the companies from financial institutions. Which is not the limitation of it? (a) Risk of financial insolvency (b) Interference with the management (c) Long processing time (d) Low cost of term loan 17. Functions of financial markets include (a) Facilitate price discovery (b) Provide liquidity to financial assets (c) Mobilise savings (d) All of the above 18. In comparison to credit cards, the interest rate charged on bank loan is (a) Higher (b) Lower (c) Same (d) No connection 19. In case of failure to repay the loan, bank can affect your credit (a) Positively (b) Negatively (c) Optimistically (d) Basically 20. The opportunity cost of holding money is determined by (a) the discount rate (b) the inflation rate (c) the interest rate (d) the level of aggregate output 21. In terms of demand for money, the interest rate represents (a) the rate at which current consumptions can be exchanged for future consumption (b) the price of borrowing money (c) the return on money that is saved for the future (d) the opportunity cost of holding money 22. Reduction of the value of an asset by prorating its cost over a period of years is called (a) Amortization (b) Interest rate (c) Termination fee (d) Processing charges 91 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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23. Anita earns `25,000 per month. She is the only earning number in the family of four. Her entire income goes towards meeting the household expenses. She wants a bank loan i.e., Personal loan to meet the expenses of her daughter’s marriage. Will she be able to get it from the bank? (a) Yes, after giving or depositing collateral (b) Yes, without any collateral (c) No, because the loan is required for personal use (d) No, because she is a woman 24. Kamal was a call centre employee and had taken a car loan three years back. He left the job a year back after the illness. After that, he could not pay the monthly instalment of the car loan. Now, he needs a loan for starting a company of his own. Will Kamal get the loan? (a) Yes, as he is not sick now (b) Yes, because he wants to open a company (c) No, because his creditworthiness is not good (d) No, because he wants to open a company 25. Vijay wants to buy an apartment of `50 lakhs in Delhi. If he takes a housing loan from a bank, then the original documents of the house will (a) Be with him (b) Be with the broker (c) Be with the bank (d) Be with the government 26. Sonu is crazy about bikes and wants to buy it which is priced around `1,00,000. He plans to take a loan from the bank for the entire amount. If the bank agrees to give him the loan, will the bank deposit the loan amount in his bank account or will they give him in cash? (a) Give him cash (b) Give him bike (c) Deposit loan amount in his account (d) None of these 27. What are the parameters for taking bank loan and calculating EMI? (a) Amount of loan (b) Loan period (c) Rate of interest (d) All of the above 92 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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28. Meena wants to take loan for meeting her household expenditure because her income is less than the expenditure. How much should she borrow following the 70-20-10 rule? (a) Borrow less (b) Borrow more (c) Should not borrow (d) None of these 29. An option given to the holder to borrow funds usually at point of sale, is (a) Credit Card (b) Debit Card (c) ID Card (d) PAN Card 30. Loan given by a bank, mortgage company or other financial institution to purchase a property is called (a) Secured loan (b) Unsecured loan (c) Personal loan (d) Home loan 31. Loans monitored by government regulatory agencies for their compliance with consumer protection regulations are known as (a) Personal loan (b) Secured loan (c) Consumer loan (d) Vehicle loan 32. Rate of interest that is allowed to move up and down with an index is (a) Fixed rate of interest (b) Floating rate of interest (c) Zero rate of interest (d) High rate of interest 33. The loan secured only by the signature of the recipient is called (a) Secured loan (b) Unsecured loan (c) Education loan (d) Personal loan 34. Loan backed by collateral is called (a) Unsecured loan (b) Secured loan (c) Home loan (d) Vehicle loan 35. Loan that helps in building the most precious asset of lifetime is known as (a) Good loan (b) Bad loan (c) Personal loan (d) Consumer loan 93 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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36. Loan taken usually to satisfy immediate personal requirements is considered (a) Good loan (b) Bad loan (c) Secured loan (d) None of the above 37. CIBIL stands for (a) Credit Information Bureau India Ltd. (b) Credit Information Business India Ltd. (c) Credit India Business of Information Ltd. (d) Credit Information Broadcasting India Ltd. 38. The creditworthiness of a person is represented by (a) Bank score (b) Interest score (c) Credit score (d) Debit score 39. Borrowing should be individual’s (a) Need based (b) Comfort based (c) Luxury based (d) None of the above 40. Cost attached to the borrowings is called (a) Rate of interest (b) Multiple cost (c) Basic cost (d) Fixed cost 1. (c)

2. (a)

3. (c) Note : EMI = P

Answers r (1 + r )

(1 + r )

n

n

− 1

where, P = Principal loan amount r = Annual interest rate/12 n = Number of monthly instalments 4. (d) 5. (b) 6. (b) 7. (a) 8. (a) Explanation : He should have saved money to buy the mobile phone, instead of taking loan. In this way, he would have got the call phone at a lower price. Besides this he would have saved the money that he had to pay towards interest on the loan. Another advantage is that he would have earned some interest on the saved money by keeping it in bank account. 94 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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9. 14. 19. 24. 26.

(d) 10. (c) 11. (d) 12. (c) 13. (b) (a) 15. (a) 16. (d) 17. (d) 18. (b) (b) 20. (c) 21. (d) 22. (a) 23. (a) (c) 25. (c) (c) Note : The sanctioned amount of loan is credited in the debtor’s account. Bank charges interest on the whole amount from the day it was sanctioned. Loan is never given to the borrower in the form of cash. 27. (d) 28. (a) Explanation : She should allocate her monthly income properly and borrow less. The 70-20-10 rate states that :



l 70%

is allocated for living expenses (rent, food, clothing etc)

l 20%

is allocated for saving (retirement, investment, emergency fund etc).

l 10% is allocated for debt repayment or fun money. 29. (a) 30. (d) 31. (c) 32. (b) 33. (b) 34. (b) 35. (a) 36. (b) 37. (a) 38. (c) 39. (a) 40. (a)

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9 RETIREMENT AS A FINANCIAL GOAL Key Points l Retirement : It is a stage in the life cycle of an individual l l

l

l l

l l

when one stops being an active part of the productive and working population due to the advanced age. Retirement planning : In a financial context it refers to the allocation of finances for retirement. It is the planning for the purpose of achieving financial independence after retirement. Pension : Pension is a regular payment made by the State to people above the official retirement age and to some widows and disabled people. It is the regular income to the individual after retirement. Defined benefit pension plan : It is a pension plan in which a specified monthly benefit or payment is available on retirement. It is predetermined on the basis of the employee’s earnings history, tenure of service and age. Defined contribution : In this type of pension plan the pension amount is dependent upon the aggregated retirement corpus, determined by the amount of individual contribution. Accumulation phase : In this phase a person invests money in an annuity for the purpose of providing income for retirement. The more invested during the accumulation phase, the more will be received during the annuitization phase. Defined benefit plan : It is a retirement account for which your employer does all the work, including ponying up the money and deciding where to invest it. Defined contribution plan : In this type of plan, you decide how much you want to contribute, and your employer puts the money into your individual account on your behalf. 96 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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l Employees Provident Fund (EPF) : This scheme is an

l

l

l

l

l

l

individual account defined contribution scheme wherein both the employee and the employer contribute to the fund at the rate of 12% of the employee’s pay which can be withdrawn at the time of retirement. Employees Pension Scheme (EPS) : It is a defined benefit scheme, based on a contribution rate of 8.33% from the employee to which government makes an additional contribution of 1.16%. EPS was introduced in 1995. National Pension System (NPS) : It is an Indian Government defined contribution based pension system which was launched in 2004. Apart from offering wide choice of investment options to employees, this scheme also helps Government of India to reduce its pension liabilities. It is a move from a defined benefit pension to a defined contribution based pension system. PFRDA : Pension Fund Regulatory and Development Authority (PFRDA) was established by Government of India on 23rd August 2003. The mandate of PFRDA is development and regulation of pension sector in India. NPS Swavalamban model : It is designed to ensure ultralow administrative and transactional cost, so as to make small investments viable. It works on a group model. Distinguishing features are such as, voluntary, focussed, simple, economical, portable etc. Inflation : Inflation is a persistent increase in the general price level of goods and services in an economy over a period of time. It reflects the reduction in the purchasing power per unit of money. Pension plan : It is a type of retirement plan usually enjoying tax exemption. In this, the employer makes contributions toward a pool of funds set aside for an employee’s future benefit. 97 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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Multiple Choice Questions 1. The act of ending working or professional career is called (a) Rest (b) Retirement (c) Escaping (d) Tiredness 2. Retirement planning requires to (a) Determine how much annual income will be needed in each year after retirement (b) Determine how much must be contributed to retirement savings in each working year (c) Determine how much corpus must be accumulated in retirement savings (d) All of the above 3. Which of the the following is not included in retirement planning? (a) Identifying sources of income (b) Estimating expenses (c) Managing assets (d) Outflow of money 4. Which of following is not considered as pension? (a) Sum of money paid regularly to a widow (b) Person who is working in a company and earning `10,000 per month (c) Person who is getting `500 per month after leaving the job (d) A soldier who has been seriously injured in a war getting regular income 5. A period of time when an annuity investor is in the stages of building up the cash value of the annuity is known as (a) Distribution phase (b) Accumulation phase (c) Observation phase (d) Working phase 6. The first and the most important step in managing retirement portfolio is (a) Setting financial goals (b) Setting family goals (c) Setting priorities (d) Setting management goals 98 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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7. In which type of pension plan you decide how much you want to contribute out of your salary? (a) Defined benefit plan (b) Defined contribution plan (c) Accumulation plan (d) Distribution plan 8. In the EPF, both the employee and the employer contribute to the fund out of the employee’s pay at the rate of (a) 8% (b) 10% (c) 12% (d) 14% 9. In the EPS, the employee makes the contribution at the rate of (a) 5.35% (b) 7.15% (c) 8.20 (d) 8.33% 10. In the Employees Pension Scheme the government makes an additional contribution of (a) 0.50% (b) 1.00% (c) 1.16% (d) 1.82% 11. In India, the Employees Pension Scheme was introduced in the year (a) 1992 (b) 1993 (c) 1994 (d) 1995 12. Employees Pension Scheme (EPS) is a (a) Defined benefit scheme (b) Defined contribution scheme (c) Defined money scheme (d) Defined collection scheme 13. An example of defined contribution scheme introduced for employees is (a) EPF (b) EPS (c) PPF (d) NSC 14. Pension Fund Regulatory and Development Authority was established by Government of India on (a) 23rd July 2003 (b) 23rd August 2003 (c) 23rd July 2004 (d) 23rd August 2004 99 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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15. The PFRDA performs promotional, developmental and regulatory functions relating to the pension funds, through regulations or guidelines. Proposed functions include (a) Establishing mechanism for grievance redressal of the subscribers (b) Regulating the NPS (c) Educating the subscribers and general public on issues related to pension (d) All of the above 16. Which of the following is not a main feature of NPS? (a) The account shall be portable in case of change of employment (b) Every subscriber will have an individual pension account (c) The subscriber may not chose the allocation of his funds across various pension schemes (d) On attaining the maturity, a minimum amount has to be invested as annuity 17. The distinguishing features of NPS Swavalamban include (a) Voluntary (b) Economical (c) Portable (d) All of the above 18. Negative effects of inflation does not include (a) An increase in the opportunity cost of holding money (b) Uncertainty over future inflation which may discourage savings (c) Encouraging investments (d) Shortage of goods due to hoarding 19. Inflation or increase in general price level results in (a) Decrease in purchasing power (b) Increase in purchasing power (c) Same purchasing power (d) None of the above 100 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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20. Retirement is the point where a person leaves job and cease to work (a) Completely (b) Partially (c) For long period (d) For some time 21. Any plan, fund or scheme which provides retirement income is called (a) Retirement fund (b) Pension fund (c) Plan fund (d) Benefit fund 22. Monthly sum that will be received by the subscriber at the time of retirement is known as (a) Annuity (b) Subscription (c) Benefit (d) Deposit 23. The amount invested to receive annuity i.e., monthly pension by the subscriber at the time of retirement is called (a) Privatisation (b) Standardisation (c) Annuitisation (d) Investment 24. CRA (Central Recordkeeping Agency) is the core infrastructure for the NPS and is critical for its successful operation. The main functions and responsibilities include (a) Recordkeeping, administration and customer service/ functions (b) Issuing of unique Permanent Retirement Account Number (PRAN) to each subscriber (c) Acting as an operational interface between PFRDA and other NPS intermediaries (d) All of the above 25. A single payment for the total amount due is called (a) Total amount (b) Lump sum (c) Single amount (d) Instalment 26. BPL stands for (a) Below Poverty Line (b) Bumper Population Level (c) Below Poor Level (d) Below Poverty Level 101 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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27. Establishing a retirement goal allows to proactively manage individual’s. (a) Financial life (b) Medical life (c) Health structure (d) Economic structure 28. A traditional defined benefit scheme which runs on the basis of pay-as-you-go system is (a) Employees Provident Fund (EPF) (b) Employees Pension Scheme (EPS) (c) Civil Servant’s Pension (CSP) (d) Public Provident Fund (PPF) 29. Indira Gandhi National Old Age Pension Scheme (IGNOAPS) provides old age pension to BPL population (a) Above 40 years of age (b) Above 45 years of age (c) Above 50 years of age (d) Above 60 years of age 30. Indira Gandhi National Disability Pension Scheme (IGNDPS) provide pensions to BPL (Below Poverty Line) persons with severe or multiple disability in the age group of (a) 5-10 years (b) 10-15 years (c) 18-59 years (d) 30-59 years 31. In the IGNDPS, the Central Government Assistance for pension is (a) `200 per month per beneficiary (b) `300 per month per beneficiary (c) `400 per month per beneficiary (d) `500 per month per beneficiary 32. Subscriber contributions accumulated and invested for specified period is known as (a) Lump sum (b) Corpus (c) Aggregate (d) Annuity 33. Defined benefit plans are post retirement benefit plans where (a) The risk and benefits will be less than expected falls upon the employees (b) The employer is legally not obliged to provide an agreed level of post employment benefit 102 Published by Goyal Brothers Prakashan New Delhi, Ph. 0120-3830000 Email : [email protected]

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(c) The employer is legally obliged to provide an agreed level of post employment benefits (d) The employer pays an agreed level of amount into the pension fund each year 34. Which of the following items is always treated as a long term employee benefit? (a) A bonus payable within 12 months after the end of the period of service (b) A company car provided for an employee’s use (c) A bonus payable more than 12 months after the end of the period of service (d) Employee’s wages and salaries 35. Short term employee benefits do not include (a) Benefits in kind (b) Employee’s social security contributions (c) Bonuses payable more than 12 months after the end of the period of service (d) Short term sick pay 1. 6. 11. 16. 21. 26. 31.

(b) (a) (d) (c) (b) (a) (a)

2. (d) 7. (b) 12. (a) 17. (d) 22. (a) 27. (a) 32. (b)

Answers

3. (d) 4. (b) 8. (c) 9. (d) 13. (a) 14. (b) 18. (c) 19. (a) 23. (c) 24. (d) 28. (c) 29. (d) 33. (c) 34. (c)

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5. (b) 10. (c) 15. (d) 20. (a) 25. (b) 30. (c) 35. (c)