Checkpoint Exam U18

Which of the following statements regarding an S corporation owner and an owner of an LLC are TRUE? I. Creditors have very limited recourse rights to the owners. II. They may not be nonresident aliens. III. They both are considered stockholders. IV. Both receive the tax benefit of owning flow-through entities. A) I and IV B) II and IV C) I and III D) II and III

A) I and IV Creditors don't have recourse to the owners of either entity unless the owners have specifically allowed it. Both are flow-through or conduit entities. Owners of S corporations are stockholders, whereas those in an LLC are members. Nonresident aliens may not own an S corporation. U18LO3

Several entrepreneurs form an S corporation. Under which of the following circumstances will the entrepreneurs risk losing their tax benefits? I. 150 new investors buy into the corporation during the year. II. 1 new member is a nonresident alien. III. 50% of the corporation's income is derived from passive investments in limited partnerships. IV. The corporation issues several classes of stock. A) I, II, III, and IV B) I and II C) I only D) I, II, and III

A) I, II, III, and IV S corporations must not have more than 100 stockholders, and each stockholder must be a citizen or resident of the United States. The corporation can only have 1 class of stock, and no more than 25% of the corporation's income can come from passive activities. If you were not sure of this last fact, a useful test-taking technique is recognizing that all the other choices are correct and there is no way to select them without this one. U18LO3

One of the portions of the USA PATRIOT Act of 2001that affects the opening of an account for a new customer is A) the customer identification program B) the Transportation Security Administration (TSA) C) the "know-your-customer rule" D) the requirement to obtain suitability information

A) the customer identification program The customer identification program (CIP) is mandated by the PATRIOT Act and requires that broker-dealers (and other financial institutions) obtain certain specified information about new customers. The "know-your-customer" rule was written many decades before the PATRIOT Act. The PATRIOT Act, through the CIP, is concerned with validating identity, not suitability. U18LO2

When does a customer have to receive the OCC Options Disclosure Document? A) With the confirmation of his first options transaction B) Within 5 business days of the first options trade C) At or prior to the time the account is approved for options trading D) Within 15 days of account approval

C) At or prior to the time the account is approved for options trading Before opening an account to trade options, the owner must be told about the risks involved with trading options. By providing the owner with an options disclosure document titled Understanding the Risks and Uses of Options at or prior to the time of account approval, the broker-dealer satisfies the risk disclosure requirements. U18LO2

Samantha Wells, a British citizen temporarily working in the United States, wants to form a business venture with other investors. She is looking for favorable tax treatment of earnings and losses. She also wants to limit the number of investors, but is willing to share control of the enterprise with others to attract them. What business form do you advise to her? A) Limited Partnership B) C Corporation C) S Corporation D) General Partnership

D) General Partnership Limited partnerships would not work because the other investors have limited say in how the enterprise is run. C corporations do not provide favorable tax treatment of gains or losses. While an S corporation appears to be the right answer, only U.S. citizens or resident aliens can own one. U18LO3

The customer identification program (CIP) requires that certain information relating to new customers be obtained. Included in that requirement for individual clients who are citizens of the United States are all of the following EXCEPT A) date of birth B) a physical address C) Social Security number D) current employment status

D) current employment status The 4 primary requirements of the CIP are the individual client's name, physical address, DOB, and SSN. Although current employment status would be asked as part of opening a new account, that is not a CIP requirement. U18LO2

An investment adviser registered with the SEC could have all of the following as advisory clients EXCEPT A) Mildred, an accredited investor B) the DEF Life Insurance Company C) the XYZ Growth Fund D) the ABC Unit Investment Trust

D) the ABC Unit Investment Trust Be careful—UITs do not have investment advisers. Any of the others could have advisory accounts. U18LO1

A form of business organization that offers flow-through of income and loss while providing the owner(s) with limited liability is I. a sole proprietorship II. an LLC III. a C corporation IV. an S corporation A) II and IV B) I and IV C) II and III D) I and III

A) II and IV Only an LLC or an S corporation allows for direct participation in the income or losses of the business while offering limited liability. The sole proprietorship has flow-through, but unlimited liability. The C corporation limits liability but has no flow-through. U18LO3

If 150 investors want to form a corporation to limit their financial liability to the amount of money they invest and do not want to be responsible for any debt that the corporation incurs, they would most likely form A) a C corporation B) a general partnership C) a proprietorship D) an S corporation

A) a C corporation The investors would form a C corporation. The advantages of the C corporation are that stockholders are not liable for corporate debt; that it is easier to raise money by issuing stock; that it is easier to transfer ownership; and that unlike a partnership or a proprietorship, a C corporation has a continuous life because it does not terminate on the death of shareholders, officers, or directors. An S corporation is limited to 100 investors. U18LO3

During a trip to visit grandchildren, one of your clients suffers a massive heart attack and dies, intestate. Directions for handling the account could only come from A) the person appointed as administrator of the estate B) the person with a durable power of attorney C) the spouse D) the person named as the executor of the estate

A) the person appointed as administrator of the estate Dying intestate means that there is no valid will. In that case, the state will appoint someone as the administrator of the estate with the responsibility of handling all of the affairs of the deceased. Only when there is a will is there an executor, and a durable power of attorney is canceled upon the death of either party to the power. Only if the account was registered as JTWROS with the spouse (or if the spouse was named the executor) would the spouse have any authority. U18LO4

Gloria wishes to set up a trust where income must be annually distributed to her daughter. She wants her daughter to pay any income taxes because she is in a lower tax bracket than Gloria is. What should Gloria do? A) Use a complex trust with her daughter as revocable beneficiary B) Use a simple trust with her daughter as irrevocable beneficiary C) Use a complex trust with her daughter as irrevocable beneficiary D) Use a simple trust with her daughter as revocable beneficiary

B) Use a simple trust with her daughter as irrevocable beneficiary Simple trusts must annually distribute income to the beneficiaries. Complex trusts do not. If Gloria makes the beneficiary revocable, the trust is subject to grantor trust rules and the income will be taxed to Gloria. U18LO4

If the Smiths want to open a joint account at AAA Securities Corporation and have their securities transferred to their 3 daughters upon the death of the last surviving account holder, their agent should recommend that the Smiths open A) individual accounts in the name of each daughter B) a joint tenancy account with right of survivorship and execute a transfer on death (TOD) registration form C) a joint tenancy account with right of survivorship D) a tenants in common account

B) a joint tenancy account with right of survivorship and execute a transfer on death (TOD) registration form The agent should recommend that the Smiths open a joint account with right of survivorship and complete a transfer of death registration form. The joint tenancy account gives the Smiths joint ownership in the securities in the account. The surviving joint tenant immediately becomes the owner of the whole property upon the death of the other joint tenant (right of survivorship). The transfer upon death registration identifies the beneficiaries to receive the securities upon the death of the last joint tenant. Only individual and JTWROS accounts may be opened with a TOD provision. U18LO5

Limited liability is a characteristic of being an owner of I. a general partnership II. an interest in a limited partnership III. shares of an S corporation IV. a sole proprietorship A) II and III B) I and IV C) III only D) I, II, and III

D) I, II, and III Limited partnerships and any corporate form of ownership offer limited liability. Such is not the case with a general partnership and certainly not the case with a sole proprietorship. U18LO3

If a client wishes the assets in her account to pass directly to specific beneficiaries after her death, her account should be titled A) JTWROS B) TIC C) testamentary account D) TOD

D) TOD TOD (transfer on death) provides that, upon the death of the account holder, the assets pass to the named beneficiary or beneficiaries without going through probate. U18LO5

One respect in which an LLC differs from an S corporation is that A) not only income, but losses, if generated, pass through to investors in an LLC B) an LLC can be formed with as little as a single investor C) there is more favorable tax treatment afforded to members of an LLC D) there is no statutory limit on the number of investors in an LLC

D) there is no statutory limit on the number of investors in an LLC There is no limit to the number of investors (members) in an LLC, while current regulations limit the number of investors (shareholders) in an S corporation to 100. The tax treatment is the same, and both can be formed with a single owner. U18LO3

Suzie McQueen has a very successful interior design shop she has run as a sole proprietorship. She has just celebrated her 60th birthday and has been giving thought to an eventual sale of the business. She wants your opinion on whether she should incorporate or change to a partnership. You might respond that A) the corporate form of business structure would be the least expensive to form B) the corporate form of business structure would be the easiest for ultimate transfer of ownership C) the partnership form of business structure would be the easiest for ultimate transfer of ownership D) the partnership form of business structure would enable Suzie to maximize her sale price

B) the corporate form of business structure would be the easiest for ultimate transfer of ownership In general, the corporate form of business leads to the easiest transfer of ownership. Because Suzie would probably own 100% of the stock, all she would have to do is sell that stock to a new purchaser and the corporation could continue just as before. If Suzie wanted to reorganize as a partnership, she would have to bring in at least one additional individual, ending her total ownership of the business. Even then, a partnership interest is not as easy to sell as stock. U18LO3

Tax considerations are frequently an important factor when determining appropriate recommendations for advisory clients. In which of the following accounts is the tax status of the individual a critical factor? I. An account opened in the name of the XYZ Corporation, organized as a C corporation, by their chief investment officer II. An account opened by a sole proprietor in the name of the company III. An account opened in the name of ABC Corporation, an S corporation by one of its shareholders IV. An account opened in the name of the GHI Fund, a regulated investment company, by the fund's portfolio manager A) I and II B) III and IV C) I and IV D) II and III

D) II and III Sole proprietorships and S corporations have their income and losses pass through to the owners. Therefore, an account opened in the name of the business will create tax consequences for the owners. Regular, or C corporations, pay taxes on their earnings and, even though a regulated investment company passes through at least 90% of its earnings to shareholders, the tax situation of each individual shareholder of the fund is of no consideration when making recommendations to the fund's portfolio manager. U18LO3

An individual opens an account with your firm. She tells you that upon her death, she wants any assets in the account to be divided equally among her 3 children. She also wants the ability to change the allocation in the event that conditions change and 1 of the children is in greater need than the others, but she does not want to incur any significant legal expense. You would suggest that the account be opened A) under a discretionary power B) as a joint account with right of survivorship C) as a joint account with tenants in common D) as an individual TOD account

D) as an individual TOD account TOD, the term used for transfer on death, will allow this client to fulfill her wishes. U18LO5

Two sisters might wish to open an account as tenants in common (TIC) rather than JTWROS in order to A) provide for an undivided interest in the assets of the account. B) limit the right of each party to withdraw assets from the account. C) allow the spouse of each sister to have access to the account. D) ensure that their respective shares go to their heirs instead of the surviving sister.

D) ensure that their respective shares go to their heirs instead of the surviving sister. In a TIC account, when one of the cotenants dies, that individual's share of the account passes to her estate, not directly to the survivor (as is the case with JTWROS). For either kind of account, only the named cotenants have access to the account, not their spouses. In both types of accounts, there is an undivided interest in the account and any cotenant has full right to withdraw assets (but any certificates or checks must be in all names). U18LO2