Registered representatives must know their customers well enough to make suitable recommendations. New account forms ask detailed questions to build a clear picture of a client’s financial situation, including:
This suitability information can be grouped into two categories: financial and non-financial considerations.
When a suitability attribute relates directly to money, it’s a financial consideration. These are the financial considerations you’ll want to understand:
Annual income is the amount of money an investor receives from employment, investment income, or other sources. It directly affects:
Higher annual income generally means the investor can invest more and may be able to pursue more aggressive strategies. If the investor is saving more than they need to meet their goals, they may be able to take additional risk with the “extra” funds in pursuit of higher returns.
Annual income also connects to liquidity. An investor with substantial ongoing income may be more comfortable investing in less liquid securities (for example, municipal bonds). With steady income coming in, the investor may be less concerned about having to access invested principal quickly.
Lower annual income usually means less money is available to invest and save. In that situation, taking significant risk may not be prudent. A major market decline could interfere with the investor’s ability to meet important goals. Investors with lower income levels should also be cautious about securities with high liquidity risk if they might need to sell investments to cover living expenses.
In the common stock chapter, we learned about income statements for corporations. Individuals can also create personal income statements to track cash flows. Here’s an example:
| Event | Amount (monthly) |
|---|---|
| Retirement benefits | $2,000 |
| Investment income | $1,500 |
| Social security | $1,000 |
| Rent payment | -$3,000 |
| Utilities | -$300 |
| Various bills | -$500 |
| Total | +$700 |
When you review an investor’s income statement, watch for potential red flags. In this example, rent is a large expense and the investor is only saving $700 per month. That’s a reason to ask follow-up questions about expenses and whether costs could be reduced.
Keep in mind that an income statement is only part of the picture. The investor could also have substantial assets in a bank account or in investments that don’t generate current income, and those wouldn’t appear here.
In the common stock chapter, we learned about corporate balance sheets, which help determine a company’s net worth. Individuals can create a similar statement by listing assets and liabilities to calculate personal net worth. Here’s an example of a personal balance sheet:
| Assets | Liabilities | Net worth |
|---|---|---|
| $250k home | $200k mortgage | |
| $20k car | $10k car loan | |
| $100k IRA | $10k credit card | |
| $25k cash | ||
| $5k jewelry | ||
| $400k | $220k | $180k |
Net worth often helps you gauge how much risk an investor can afford.
A higher net worth generally makes an investor more suitable for higher-risk investments because they may have more capital available to absorb losses. For example, a $1,000,000 portfolio yielding 4% could provide $40,000 per year in income without touching principal. When an investor has millions in investment accounts, they may have additional capital they can expose to higher risk in pursuit of higher return potential.
A lower net worth generally points toward lower-risk investments. Low net worth can reflect low annual income, high debt levels, significant family obligations, or a combination of these. Investors in these situations may have less ability to save and less capacity to take on risk.
An investor’s tax status can provide useful context about their financial situation. In the US, we operate under a marginal income tax system: as income increases, the marginal tax bracket increases. As of tax year 2025, these are the income tax brackets for individuals and those filing jointly:
| Rate | Individuals | Married filing jointly |
|---|---|---|
| 10% | $0 | $0 |
| 12% | $11,926 | $23,851 |
| 22% | $48,476 | $96,951 |
| 24% | $103,351 | $206,701 |
| 32% | $197,301 | $394,601 |
| 35% | $250,526 | $501,051 |
| 37% | $626,351 | $751,601 |
Do not memorize these tax brackets; this chart is only for context.
Higher income generally means a higher marginal tax bracket. When a suitability question includes an investor’s tax bracket, it can help you infer annual income and identify investments that may be more appropriate. For example, if an investor is in the 37% tax bracket, you can safely assume they earn more than half a million dollars annually. Investors with incomes at that level may be able to save significant sums and invest more aggressively with disposable income.
Tax brackets also affect after-tax returns.
Short-term capital gains are also taxable at the investor’s tax bracket. That creates a strong incentive for investors in higher brackets to pursue long-term capital gains instead.
Liquidity is the ability to turn an investment or asset into cash easily. An investor’s financial situation and stage in life often determine how important liquidity is.
For example, older investors living on fixed incomes typically should avoid securities with significant liquidity risk. If an unexpected liability occurs (such as medical bills), they may need to sell investments quickly to raise cash. Securities that can be difficult to sell include:
*While municipal bonds are generally illiquid, municipal bond funds are not. Mutual funds are required by law to be redeemed within 7 days of request, while municipal bond closed-end funds and ETFs are typically actively traded in the market.
Liquidity concerns aren’t limited to older investors. Younger investors living on disability, unemployed investors with children, and investors planning a large purchase in the near term (such as a home purchase) are also examples of investors who may need to avoid securities with liquidity risk.
In general, these securities are suitable for investors concerned with short-term liquidity:
An investor with high annual income or high net worth is often less concerned with liquidity and may be able to invest in securities with higher liquidity risk.
When a suitability attribute isn’t directly about money, it’s a non-financial consideration. These attributes focus on preferences, goals, and personal characteristics. Here are the non-financial considerations to understand:
People move through several life stages: childhood, adolescence, adulthood, middle age, and senior years. Stage in life often affects time horizon, income sources, and the need for investment income.
Younger investors are often employed, tend to invest more aggressively, and may invest larger amounts in stocks. Because employment income covers living costs, younger investors typically don’t rely on investment income. They also often have longer time horizons, which gives them more time to recover from market declines.
Older investors are often retired, tend to be more conservative (risk averse), and may invest larger amounts in fixed-income securities. Without employment income, older investors often pay living expenses using retirement benefits (defined benefit plans, defined contribution plans, IRAs, and annuities), social security, and income from investments (like bonds, preferred stock, and mutual funds that invest in these securities). These investors typically have shorter time horizons, which often leads to taking less risk and avoiding growth-oriented investments with higher volatility.
Earlier in this chapter, we discussed the specific investment objectives. Registered representatives help clients determine an appropriate investment objective based on the client’s suitability information.
Risk tolerance describes how much investment risk an investor is willing and able to accept. It ranges from low-to-no risk tolerance (conservative investors who want to avoid risk) to high risk tolerance (aggressive investors seeking risk for higher return potential).
Risk discussions are essential because higher returns typically require taking more risk. Investors who want to pursue large returns should also understand that significant losses are possible if the market moves against them.
Investment experience isn’t always the most critical suitability characteristic, but it can affect how complex a recommendation should be. Some investments are more complicated, including leveraged and inverse ETFs and option strategies. Before recommending complex securities, registered representatives should confirm that the client understands how the investments work. Investors with stronger market knowledge and familiarity with finance concepts are typically the only ones suitable for these products.
At different stages of life, different goals become priorities. In most cases, goals require funding, and investing can be one way to build that funding. Setting goals is an important part of building a suitability profile because goals often influence which products and securities are recommended.
Examples include:
Time horizon matters. In general, the longer the time horizon, the more risk an investor may be able to take in exchange for return potential. For example, a 25-year-old saving for retirement or a couple saving for a young child’s college education may have decades to invest. With a 10- to 20-year (or longer) time horizon, there’s often enough time to recover from unexpected market declines.
Markets can be volatile in the short run but have historically trended upward over long periods. For example, the 1-year S&P 500 return from April 2019 to April 2020 was approximately -3%, while the 30-year annualized return from April 1990 to April 2020 was roughly 9.5% (including dividend reinvestments).
Shorter time frames usually require safer investing. Significant losses can occur over short periods, even in broad market investments. For example, assume an investor has $50,000 for a down payment on a first home purchase that will occur in the next 3 months. If the $50,000 was invested in an S&P 500 ETF in January 2020, the investor would’ve lost almost $15,000 (the S&P 500 was down nearly 30% from early January 2020 to end of March 2020). That would leave $35,000 for the down payment, and the investor might lose the opportunity to buy the house if $50,000 was required.
This is why it’s important to avoid risk for short-term goals. In this example, the investor should’ve considered a short term debt security like a Treasury bill or a money market fund.
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