Unit 16
An investment adviser could enter into an advisory contract with any of the following except A) a person declared mentally incompetent. B) the custodian for a minor. C) a political subdivision. D) an LLC.
A) a person declared mentally incompetent. Contracts can be entered into with any person as the term is defined in the law. Excluded from that definition are minors, deceased persons, and those declared mentally incompetent.
A Schedule K-1 would not be used for tax reporting to the owners by which of the following business entities? A) LLC B) Sole proprietorship C) S corporation D) Limited partnership
B) Sole proprietorship Sole proprietorships generally complete Schedule C of the individual Form 1040. Legal entities that pass through income or loss use the Schedule K-1 to indicate the amount of that income or loss attributable to the individual shareholder/member/partner.
When are estate taxes due? A) Six months after death B) Nine months after valuation C) Nine months after death D) Six months after valuation
C) Nine months after death Estate taxes are due nine months after death. The taxes are based on either the value at death or the alternative valuation six months after death.
One of your customers purchased a variable life insurance contract through your firm. After 14 years, he had deposited $15,000 in premiums, and his death benefit had grown to $80,000. Shortly after taking out a loan against cash value of $10,000, he was killed in an automobile accident. What will be the tax consequences of this situation to the death benefit? A) His beneficiary must pay taxes on the amount of the death benefit that is over and above the cost base of $15,000. B) The first $15,000 is tax-free with the excess being treated as a long-term capital gain. C) His beneficiary must pay taxes on the amount of the death benefit that is over and above the cost base of $15,000 plus the unpaid loan. D) His beneficiary need not pay taxes on the death benefit.
D) His beneficiary need not pay taxes on the death benefit. A death benefit payable on a life insurance policy or contract is not subject to taxation. The insurance company will deduct the balance of the $10,000 loan before it releases the death benefit to the beneficiary, but that does not affect the tax consequences.
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 irrevocable beneficiary B) Use a complex trust with her daughter as revocable beneficiary C) Use a simple trust with her daughter as irrevocable beneficiary D) Use a simple trust with her daughter as revocable beneficiary
C) 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.
Agatha has an account with her aunt, Sally, which is registered as TIC. If Sally predeceases Agatha, the assets in the account go to A) the person designated under the laws of escheat in her state. B) Agatha. C) Sally's spouse. D) Sally's estate.
D) Sally's estate. When an account is opened as tenants in common (TIC), upon the death of one of the cotenants, that individual's share now becomes part of the deceased's estate. It might be that Agatha or Sally's spouse are beneficiaries named in Sally's will, but we don't know that.
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 three children. She also wants the ability to change the allocation in the event that conditions change and one 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) as a joint account with tenants in common. B) as a joint account with right of survivorship. C) under a discretionary power. 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.
Which of the following statements regarding estates are correct? I. Estate taxes are due on April 15 of the first year following the death of the deceased. II. Estate taxes are due nine months after the date of death of the deceased. III. Assets are valued based on their market value as of the date of death, or, alternatively, six months later. IV. Assets are valued based on their cost, or, alternatively, six months after the date of death. A) II and III B) II and IV C) I and III D) I and IV
A) II and III Estate taxes are due, unless an extension has been obtained, no later than nine months after the date of death. For estate tax purposes, the executor (or administrator) may elect to use the values as of the date of death or those six months later (the alternative valuation date).
A married couple wishes to open an account at your firm. Which choice of registration would you recommend if they insist that no trading be done without the consent of both of them? A) Tenants in the entirety B) Tenants in common C) Joint tenancy D) Tenants with right of survivorship
A) Tenants in the entirety Tenants in the entirety (TBE) is unique in that it is the only common form of account registration requiring the consent of both parties prior to any activity taking place in the account. With the other forms, any party to the account can initiate trading activity.
The president of a business entity opens an account in the name of the business. When determining the suitability of recommendations to the account, knowing the president's personal financial condition is necessary for each of the following forms of business structure except A) a C corporation. B) an S corporation. C) a sole proprietorship. D) an LLC.
A) a C corporation. Only in the case of the C corporation are the income and losses of the investment account taxed at the corporate level rather than passed through to the owners.
Benefits of structuring a business as a general partnership include A) avoidance of taxation at the entity level so the partners are not taxed twice. B) that general partners are only liable to the extent of their investment. C) longevity. D) the ability to raise large sums of money.
A) avoidance of taxation at the entity level so the partners are not taxed twice. General partnerships file a Form 1065 and pay no tax. Instead, each partner's share of the income is reported on Schedule K-1 making for a single rather than double layer of tax. On the downside is that general partners have unlimited liability for the debts of the business. Unlike corporations, where there is no scheduled termination date, in general, partnerships will have a dissolution date or a specified event described that will lead to termination. It is the C corporation structure that lends itself to raising large sums of money.
J.B. Rich founded Rich, Inc., and he owns a substantial block of stock with a very low cost basis. Which of the following statements are true regarding the disposition of J.B.'s stock? I. If it is given away, the recipient of the gift assumes J.B.'s cost basis. II. If it is given away, the recipient of the gift receives a stepped-up basis to the market value as of the date of the gift. III. If it is inherited, the beneficiary will assume J.B.'s cost basis. IV. If it is inherited, the beneficiary receives a stepped-up basis to the market value as of the date of J.B.'s death. A) I and III B) I and IV C) II and III D) II and IV
B) I and IV It is much better to inherit appreciated securities than to receive them as a gift. In the case of a gift, the donee (recipient) takes over the donor's cost basis. Upon death, assets in the estate receive a stepped-up basis to current market value thereby avoiding capital gains on the appreciated low cost basis stock.
Keisha has three married children, each with children of their own. She wishes to leave equal shares of her estate to each of her children. What happens if one of those children dies before Keisha? A) The estate is divided on a per capita basis B) The share belonging to the deceased child is distributed per stirpes C) The estate is divided equally among the two surviving children D) The estate is divided equally between the 2 surviving children and the children of the deceased child
B) The share belonging to the deceased child is distributed per stirpes Unless specified otherwise, assets in an estate are distributed per stirpes (sometimes called in stirpes). Stirpes is a Latin word meaning branches and, in this context, it is used to determine how the next generation receives a share in an estate when the parent predeceases the grandparent. As an example, if Keisha had child A, B, and C, and C died having 2 living children, the estate would be divided as follows: Child A gets ⅓, child B gets ⅓, and the two children of child C receive ¹⁄₆ each (sharing half of child C's portion). If you selected, "The estate is divided equally between the two surviving children and the children of the deceased child," that would mean that everyone would receive ¼ and that is not the way it is done.
If a trust has been established under which the father is to receive income for life, and his son is to receive the trust principal on the father's death, which of the following statements is true? A) The trustee must notify the son each time an income distribution is made to the father. B) The trustee is not required to notify the son when an income distribution is made to the father. C) The trustee can withhold income distributions to the father to preserve principal to the son. D) The trustee does not need to keep records of the income distribution to the father.
B) The trustee is not required to notify the son when an income distribution is made to the father. It is not required that the trust's remainder beneficiary be notified when income is distributed from the trust. The trustee must report distributions from the trust for federal income tax purposes. The trustee must follow the terms of the trust, making distributions as required by the trust instrument.
A deceased individual with two surviving children and a spouse, had established a trust for his family. The trust document appointed both children as co-trustees. The surviving spouse is to receive current income, and his two children will receive equal shares of the remaining principal upon the spouse's death. As the adviser to the account, you A) focus on generating income for the spouse. B) follow the instructions of the trustees. C) attempt to generate reasonable income while keeping the principal intact for the children. D) focus on increasing principal for the children.
B) follow the instructions of the trustees. The responsibility of following the trust's instructions is that of the trustees. Should they attempt to deviate from that, the adviser should inform them that they face potential liability under trust law. However, in all cases, the adviser must follow the direction of the trustees. As a practical matter (not tested), if the trustees appear to violate the trust's instructions, many advisers would terminate their relationship to avoid any potential liability.
When comparing the tax treatment of C corporations, S corporations, and LLCs, it would be correct to state that A) all three of these have the same tax filing date. B) the C corporation is the only one that pays taxes. C) registered personnel opening a brokerage account for any of these would follow similar suitability procedures. D) only the C and S corporations offer the benefit of "flow-through."
B) the C corporation is the only one that pays taxes. Only the C corporation is a separately taxed entity; the income (or loss) from an S corporation or LLC flows-through to the shareholders/members. The tax filing dates for the two flow-through entities is the same, generally March 15, while that for the C corporation is the 15th day of the 4th month after the end of the fiscal year (April 15 for a calendar year filer). The suitability for the S corporation and the LLC generally looks through to the individual owners where that is not the case with the C corporation.
Your client recently sold his business for $5 million. He is 55 and feels that he is too young to retire. He plans to start a new business venture and will be funding the $250,000 start-up costs with his own funds. With substantial personal assets, he could limit his personal exposure by using any of the following business structures except A) an S corporation. B) a C corporation. C) a sole proprietorship. D) a limited liability company.
C) a sole proprietorship. The limited liability company (LLC) and both corporations offer the benefit of limited liability to the owner. If the business is structured as a sole proprietorship, personal assets are put at risk.
Which of the following statements about S corporations is not correct? A) An S corporation may have only one class of stock. B) An S corporation may have no more than 100 shareholders. C) Stockholders of S corporations are taxed on the net profits of the corporation, even if they do not receive taxable dividends. D) S corporation status offers greater opportunity for raising additional capital than do other forms of business structure.
D) S corporation status offers greater opportunity for raising additional capital than do other forms of business structure. S corporations are flow-through vehicles, so any earnings are taxable to shareholders, whether or not they are paid out as dividends. An S corporation may have no more than 100 shareholders and may issue only one class of stock so its ability to raise large amounts of capital is rather limited.
When opening an account for a trust, which of the following sets of terms are synonymous? A) Beneficiary/trustee B) Trustee/settlor C) Grantor/trustee D) Settlor/grantor
D) Settlor/grantor The settlor, sometimes referred to as the grantor, is the person who establishes the trust. The trustee administers the trust and could be the grantor but does not have to be.
