CFP Mock Exam Topics to Study

Which of the following statements describe tax implications of the employer-provided life insurance on Francis's life?

Francis is subject to Section 79 tax on the cost of approximately $110,000 of coverage. Francis's employer provides group term life insurance coverage in the amount of two times salary; Francis is thus covered for $159,984. The cost of the first $50,000 coverage is exempt from income taxation, but the cost of coverage in excess of $50,000 is taxable to Francis. Death proceeds paid from the policy are included in the decedent's gross estate so they could be subject to estate taxation if the estate was large enough but are not subject to income tax. The employer's deduction is not affected by the $50,000 exemption, as the deduction is available for the full cost of premiums.

Three investors wish to start a manufacturing business. The business is expected to generate a large income, which it will reinvest for many years. John has substantial assets that he plans to contribute to the business. John is also concerned about showing too much business income on his personal return. Which business structure would be most appropriate for the business?

A C corporation with all three as shareholders A C corporation is the only listed entity that is not a conduit. Since John is concerned about showing too much business income on his personal return, a separate taxable entity is appropriate.

Which one of these describes the life and 10-year certain income settlement option?

Guaranteed periodic payments for the lifetime of the payee, but lasting at least 10 years This is the definition of the life and 10-year certain income settlement option.

Which of the following are functions of the dealer, known as a specialist?

Buy securities at the posted bid price and sell at the posted ask price A specialist is a dealer whose function is to stabilize the prices of securities in which they specialize by balancing supply and demand on a listed exchange, such as the NYSE. To perform this function, the dealer must buy at the bid price when no other buyers are available and he must sell at the ask price when no other sellers are available.

Northwest Instruments Corp. made matching contributions to its SIMPLE 401(k) in the last three years. Assume all eligible employees earn at least the maximum includible compensation limit and all defer the maximum amount allowed. Due to extensive capital expenses anticipated this year, the company is considering how to reduce expenses. The company will not be able to continue to make the 3% matching contribution and has called you to discuss their options. Which of these could you recommend?

By providing adequate notice, Northwest Instruments Corp. could move to the 2% nonelective contribution this year, although the savings would be minimal. Under a SIMPLE 401(k), an employer does not have the option to change the percentage used for the matching contribution. However, the employer can use the 2% nonelective contribution instead of the 3% matching contribution. Under the scenario described, however, the savings would be minimal.

Which of the following statements regarding Section 179 property is CORRECT?

Depreciable tangible personal property that is purchased by the taxpayer for business or trade qualifies as Section 179 property. The choice to expense property as Section 179 property is only available when the property involved is an otherwise depreciable tangible item of personal property. Property that is held for the production of income (inventory) and other specified assets do not qualify for Section 179 treatment, but a new office desk generally would qualify. The cost of the property is expensed for the current year rather than capitalized and depreciated over time.

As Jamie approaches retirement, she wants to establish a fund that will provide her with $500 per month after retirement to supplement her other income. Assuming that she can earn 5.5% annually and that she takes interest only from the fund, how much must Jamie have at retirement to provide this income?

$109,091 This is a calculation for capitalization of a number. On any calculator, divide the desired income (expressed annually), $6,000 ($500 × 12), by the decimal equivalent of the expected interest rate, 0.055. When interest only is being taken from the fund, the principal is being retained, so that the income will be provided indefinitely.

Glen retired five years ago from Continental Pipeline, Inc. (CPI). At his retirement, he received 567 shares of CPI common stock, resulting from the full distribution of his ESOP account. The ESOP was the only qualified plan offered by CPI. The shares had a cost basis (the employer's basis in the stock) of $50,000 and were valued at $200,000 at Glen's retirement date. He held the shares until this year, when he sold the stock for $300,000. Which of these accurately describes the income tax treatment of the distribution and sale, assuming Glen took advantage of the net unrealized appreciation feature of the distribution?

Taxation of $50,000 at distribution and $250,000 at sale Because Glen took advantage of the net unrealized appreciation feature of this distribution, he paid tax on the employer's cost basis of $50,000 at distribution, deferring the tax on any capital appreciation until actual sale of the shares. At sale, given the selling price of $300,000, he had $250,000 of taxable gain. If he preferred, he could have made an election to recognize the gain at the time of distribution of the stock—$200,000—and paid tax on any subsequent gains at sale of the shares. Instead, he elected net unrealized appreciation treatment in connection with his distribution.

Sally and Ben are siblings. They want to jointly purchase a parcel of land that they expect to appreciate rapidly in value. The only money Sally and Ben have for the $100,000 down payment for the land is $60,000 received by Sally and $40,000 received by Ben from their grandfather. They do not want to use any of their gift tax credit amounts, but can each contribute toward the monthly mortgage payments. Which of these is the most appropriate form to take title to the land?

Tenancy in Common They cannot take title as community property since they are not husband and wife. Since they need each other's current funds for the down payment, if Sally took sole title, there would be a taxable gift from Ben to Sally. There would also be a taxable gift from Sally to Ben if they took title as joint tenants since each would have a 50% interest, but Sally would have contributed more than 50% of the down payment. Tenancy in common will allow Sally and Ben to take title and receive income in proportion to their initial contributions, thus avoiding any gift tax consequences. Tenancy in common would also allow each of them to control disposition of his or her interest at death.

Your client has asked you to compute the federal estate tax liability of her mother's estate to double check the calculations already performed by the attorney probating the estate. Your client's mother was survived by her spouse. The attorney has made the following deductions from the gross estate to arrive at the taxable estate: Which of these items are proper deductions?

Termination expenses incurred by the trustee of a living revocable trust established by the mother Nonprobate expenses of a trustee to terminate a trust because of the grantor's death are deductible. A lien against property of the estate is not deductible as a debt because the decedent is not personally liable for the debt. Rather, the lien balance is used to reduce the value of the asset in the gross estate. The casualty loss is not deductible, as the estate was reimbursed by insurance. Only half of the mortgage on the residence can be deducted because only half of the residence is included in the gross estate.

LMN Corporation owns 5% of the outstanding stock of the STU Corporation. During the current year, LMN receives $10,000 of dividends from STU Corporation. Both corporations are domestic corporations. Which of these correctly identifies the tax treatment of the dividends received by LMN?

The dividends may be 50% Excluded 50% of the dividends received from a qualifying corporation may be excluded if the recipient corporation owns 20% or less of the distributing corporation; there is a 65% exclusion with 20% to 80% ownership.

SIMPLE IRA contributions

every year

You are advising a high-net-worth individual with large, diversified holdings across many asset classes on the potential use of futures contracts as a means of risk reduction. The client has never invested in futures contracts before and has always considered them risky. In explaining the characteristics of futures, you could tell him all of these except

a futures contract is constructed to suit the individual needs of two parties, whereas a forward contract has a standardized delivery date and unit amount. Futures contracts are standardized contracts for delivery, whereas a forward contract is custom made.

Dion sold an apartment building to Deanna last year for $100,000. Dion paid a sales commission of $5,000 plus $2,500 in closing costs. The building originally cost $80,000 20 years ago. Total straight-line depreciation of $40,000 had been taken. The building had a mortgage of $60,000 that was assumed by the buyer. The client is in the 24% marginal income tax bracket. What is Deanna's cost basis?

$100,000 Deanna's cost basis is simply what she paid for the property—$100,000.

Jae and Yasmine purchased their home eight years ago for $239,500. They made a 20% down payment, and financed the balance using a 30-year mortgage with a 5.15% interest rate. What is their outstanding principal balance?

$165,071 Set the calculator for one payment per year or 1 P_Yr. Next, be sure the calculator is in END mode. A 20% down payment equals $47,900 and means that the couple financed the balance of $191,600. This is used as the PV in the calculation. Because we must first calculate the regular monthly payment, N = 360 (or 30 years × 12 months per year). The interest or I/YR = 5.15/12 = 0.4292 and all that needs to be done is to calculate the payment or PMT = $1,046.19. Keystrokes: 30 × 12 = 360, N; 5.15/12 = 0.4292, I/YR; 191,600, PV; 0, FV; Solve for PMT = $1,046.1862. Without clearing the calculator enter: 1 [INPUT]; 96 [SHIFT], [AMORT] (look under the FV key for AMORT). The following should be on your screen: 1 - 96. This represents the period from 1 month to 96 months (8 years) for which payments have already been made. Push the [=] key and the principal paid will display ($265,529.44). Press the [=] key again and interest paid to date shows up ($73,904.44). Press [=] key one more time and the remaining principal balance will be displayed ($165,070.56).

Jerry, age 48, works for Parts Unlimited Inc. and earns $350,000 per year. The company provides a nonelective contribution under a SIMPLE IRA plan. What would be the maximum amount that Jerry could contribute to the account for 2023 (total of employer and employee contribution)?

$22, 100 Under a SIMPLE IRA plan, the employee could defer up to $15,500 in 2023. The employer's 2% nonelective contribution was limited by the Section 401(a)(17) annual limit on includible compensation, which is $330,000 in 2023. With the nonelective contribution, the maximum the employer would contribute for one employee would be $6,600 ($330,000 × 2%). If the employer were to make a 3% matching contribution, the 401(a)(17) limit would not apply and the entire salary of $350,000 would be included.

Louise is 43 years old and a teacher in the Ferndale County school system. She has taught in the Ferndale County schools for 12 years and will earn $52,000 this year. She has contributed a total of $56,000 to the school's tax-sheltered annuity (TSA) over the years. What is the maximum amount she can contribute to the plan as a salary deferral in 2023?

$22,500 Her maximum salary deferral is $22,500, the lesser of 100% of compensation or $22,500 in 2023. She has less than 15 years of service, so she does not qualify for the extra $3,000 per year up to a lifetime maximum of $15,000.

Assume that Francis and Kathleen were recently involved in an automobile accident and that the other driver was at fault. They live in a comparative negligence state that does not have any form of no-fault insurance. The couple suffered a loss of $70,000 in bodily damage and related expenses. If the other driver's insurance was limited so that the total amount available from his insurance company was $25,000, how much, if any, would Francis and Kathleen's auto insurer pay?

$25,000 under the uninsured/underinsured motorist coverage The maximum that Francis and Kathleen can receive for an uninsured or underinsured loss is $50,000. The $50,000 is reduced by whatever limits the other driver has. In this case, the other driver has $25,000. The Blacks have $25,000 available ($50,000 - $25,000). Since the loss exceeded this amount, they would collect $25,000 from the at-fault party and $25,000 from their own insurance policy.

Ron was experimenting in the garage and managed to inadvertently cause $28,000 of damage to the garage and house. How much will his parents' insurance company pay, assuming this is considered a covered loss?

$26,016 First, determine if there is enough insurance to meet the 80% coinsurance requirement. This is done by first calculating the amount of insurance required, which is 0.8 × $165,000 = $132,000 to determine if a coinsurance penalty applies. With only $125,000 in coverage there will be a coinsurance penalty. The second step is to determine how much of the loss will be covered. To do this, divide $125,000 (amount of actual coverage) by $132,000 (amount of coverage required) to get 0.9470, which is multiplied by the amount of the loss ($28,000) to get $26,516 and then the $500 deductible is subtracted to arrive at what the insurance company will pay, $26,016.

Bill's 2022 income tax return, which was for a full year, showed an AGI of $140,000 and an income tax liability of $32,100. He estimates his 2023 income tax to be $38,000 and his total wage withholding to be $5,000. What minimum amount of estimated tax payments must Bill pay (in equal quarterly installments) for 2023?

$33,000 The safe harbor for avoiding the underpayment penalty is the lesser of 90% of the current year tax liability or 100% of the prior year tax liability (110% if the prior year's AGI was over $150,000). One hundred percent of the prior year tax liability is $32,100. Ninety percent of the current year tax liability of $38,000 is $34,200. The smaller of these numbers, reduced by the $5,000 withholding, equals $27,100.

Walter terminated his employment with Montclair, Inc. After termination, he received a lump-sum distribution from the company's employee stock ownership plan (ESOP) in the form of 1,500 shares of Montclair stock. The market value at the time of distribution was $100,000. The cost basis of the stock when contributed to the plan on Walter's behalf was $60,000. Walter did not elect NUA treatment at the time of the distribution. Three years later, Walter sold the stock for $150,000. What is the amount of capital gain on which Walter will be taxed because of the sale?

$50,000 Because Walter did not elect NUA treatment at the time of the lump-sum distribution, the entire $100,000 was taxable as ordinary income, which became his basis in the stock. His subsequent sale of the stock for $150,000 results in a LTCG of $50,000.

Jim, a single taxpayer, sells Section 1244 stock for a $250,000 loss during the tax year. The stock had been held for two years. Which of the following is CORRECT regarding the treatment of the loss?

$50,000 is treated as an ordinary loss; $200,000 is treated as long-term capital loss Loss on the sale of Section 1244 stock is deductible as an ordinary loss up to $100,000 per year on a jointly filed return, or $50,000 on any other return. Any Section 1244 loss in excess of the annual limits is treated as a capital loss; long- or short-term depending on the holding period.

In February, Cheri went to her physician for treatment of abdominal cramps. The visits and treatment cost a total of $450. In April, Bruce had some skin cancer lesions removed with related medical bills of $3,800. By midsummer, Cheri's problem progressed and she required surgery. Medical bills related to this totaled an additional $6,200. Ron had miscellaneous doctor visits with total expenses of $730. How much of their medical bills were paid by W.X. & P. Insurance Company?

$7,744 First, the policy only states that the policyowner/spouse are covered under the policy. According to PPACA, children under the age of 26 are covered, therefore Ron's expenses would be covered. Cheri has a total of $6,650 in expenses. She pays her $500 deductible and 20% of the difference, leaving $4,920 paid by the insurer. Bruce had a total of $3,800 in expenses. He first pays his $500 deductible and 20% of the difference, leaving $2,640 paid by the insurer. Ron has $730 in expenses, paying his $500 deductible and 20% of the difference, leaving $184 paid by the insurer. W.X.&P. Insurance Company paid a total of $7,744 ($4,920 + $2,640 + $184).

You have determined with Bob and Jill that their current resources will result in a retirement income deficit of $37,000 for their first year in retirement. This deficit will increase with inflation each year. They expect to earn an average annual 6% investment return. They assume inflation will average 4%. Using a 27-year retirement period, what is the lump sum retirement fund required?

$773,605 Calculator input (with calculator set for beginning-of-period payments): 37,000 PMT, 27 N, 1.9231 I/YR; solve for PV.

Tom's city was affected by a hurricane that was also a federally declared disaster that damaged his 1963 mint condition Chevy Corvette. Tom recently purchased the car for $36,000. Damages are estimated to be $20,000. Because Tom only intended to use the vehicle for special occasions, he did not fully insure it. The insurance company paid $5,000 toward the damages. Tom's adjusted gross income is $62,000. What amount can Tom deduct for the loss on his federal income tax return?

$8,700 Casualty losses are limited to those incurred as a result of a federally declared disaster. Individual casualty losses on property not used for business are deductible only to the extent that the casualty loss exceeds $100 and 10% of the taxpayer's adjusted gross income. The casualty loss deduction is the lesser of the asset's basis or decrease in FMV. In this situation, the decrease in value is less than the basis of the asset. The calculation is: (Loss − insurance reimbursement − $100 − 10% of AGI) or ($20,000 − $5,000 − $100 − $6,200) = $8,700

Ruth owns a convertible bond that can be converted into common stock at a price of $18 per share. The bond's coupon is 8.5% and its maturity is 22 years. The current market rate for similar nonconvertible bonds is 9.5%, and the current market price of the stock is $16.75. What is the conversion value of Ruth's bond?

$930.63 1000/18=55.6 55.6*16.75 = $930.63

Barbara, a CFP® professional, is meeting with her client Jerry at the end of the tax year. Jerry reports he has received dividend income from Brando Manufacturing, Inc. this year. From the records Barbara has on Brando for this tax year, she learns the following: Jerry is the sole shareholder of Brando Manufacturing, Inc., a C corporation. His basis in the stock is $10,000. This year, Brando had current and accumulated earnings and profits of $97,000, but distributed $111,000 to Jerry. Jerry believes this is all dividend income. How much of this distribution does Barbara tell Jerry represents a capital gain to Jerry and how much represents dividend income?

$97,000 dividend income; $4,000 capital gain; $10,000 return of capital. Dividends are taxable to the recipient as dividend income, but only to the extent of the corporation's current and accumulated earnings and profits. Because Brando had $97,000 in earnings and profits, the first $97,000 of the distribution would be taxable as dividend income to Jerry. The next $10,000 of the distribution would be treated as a tax-free return of Jerry's basis, and the remaining $4,000 is a capital gain.

Jane owns a printing business. She wants to trade her old copiers for new fax machines. In the contemplated exchange, Jane will pay $750 in cash. Use the following information to answer the question. The copiers have an adjusted basis of $1,500. The copiers have a fair market value of $1,000. The fax machines have a fair market value of $1,750. What is Jane's recognized gain or loss in this exchange?

($500) Jane is paying $750 plus the adjusted basis of $1,500, compared to the fair market value of the property received of $1,750, yields a $500 loss. There is no loss recognized in a like-kind exchange. This exchange is simply treated as a sale of the asset. A loss on a Section 1231 asset may be recognized in the year of the loss. TCJA restricted the like-kind exchange rules to real estate only. Personality no longer qualifies for like-kind exchange treatment.

Walker Electric Co. has 8 employees and maintains a traditional defined benefit pension plan with the most restrictive eligibility requirements. The employee census is as follows:

6 Six employees are eligible to be covered under the plan. Employees G and H are not eligible because they are either younger than the age of 21 (Employee G) or have less than 1 year of service (Employee H).

Your client has decided to establish an irrevocable life insurance trust (ILIT) to own life insurance policies on her life. She is now trying to decide whether the ILIT should be funded or unfunded. Which of the following statements regarding these two types of ILIT are correct?

A funded ILIT will require the grantor to gift more property in the year of creation. A funded ILIT has assets other than a life insurance policy or policies. Therefore, the grantor would have to gift more property in the year of creation. The income of a funded ILIT that is or may be used to pay life insurance premiums on the life of the grantor or the grantor's spouse is taxable income to the grantor. There is no need to give the beneficiaries of a funded ILIT a Crummey power, as such a trust is not dependent on future contributions to make the premium payments on the policy or policies.

Bruce and Cheri would like to establish a trust that will provide for Claire's needs in the event that Claire survives both Bruce and Cheri. Which of the following trust provisions should NOT be included in such a trust that meets Claire's needs and Bruce and Cheri's objectives?

A provision granting Claire a Crummey power A standby funding provision must be coupled with some other technique such as a durable power of attorney to fund the trust when a stated contingency occurs. In this situation, the contingency would be Claire surviving both Bruce and Cheri. While a durable power of attorney survives the principal's incompetency, it does not survive the principal's death. Therefore, the trust for Claire should be a testamentary contingent trust, which would be funded only if Claire survives both Bruce and Cheri. A Crummey power is a form of general power of appointment, and thus would have the possibility of needlessly subjecting part of the trust assets to estate tax in Claire's estate (if she should subsequently acquire a taxable estate). The power could also subject Claire to possible gift tax if she were to let the power lapse and the amount she could have taken had she exercised the power were to exceed the 5 and 5 provision of Code Section 2514. All of the other options would help to protect trust assets from creditors—including the government—or from the impulsive actions of Claire herself.

Which of these statements accurately describes a provision that a rabbi trust must contain to obtain a favorable ruling?

A rabbi trust must provide that the sponsoring employer must notify the trustee of any financial hardship, insolvency, or bankruptcy. The trustee must then stop any payments to plan participants or their beneficiaries and hold assets for the employer's general creditors. The assets of a rabbi trust must be available to the employer's creditors, and cannot have insolvency triggers that would accelerate payment to the participants in the event that the employer's net worth fell below a certain point. In the event that the employer faced bankruptcy or a financial hardship, the trustee must be notified. The trust's assets are then frozen so that the assets will be available to the employer's creditors. Due to Section 409A, an offshore rabbi trust will result in immediate taxation of the benefits, interest at the underpayment rate plus 1%, and a 20% penalty tax.

Which of the following legal requirements apply to defined contribution pension plans?

A separate funding standard account must be maintained for each plan participant. A separate account is required for defined contribution pension plans. The rest of the statements pertain to defined benefit pension plans.

Peak Inc., a C corporation, has three employees: Paul (age 50), Kristi (age 25), and Rachel (age 25). Paul owns 60% of the Peak stock, and Rachel and Kristi each own 20%. This is a new venture, but cash flows are expected to be relatively stable. The retirement planning objective of the company is to design a qualified retirement plan that provides the maximum contribution to Paul with minimum plan costs and some flexibility in terms of cash commitment. The total annual profit-sharing contributions will be $40,000. Annual salaries: Paul: $100,000; Rachel: $30,000; Kristi: $30,000; total: $160,000. Which of the following qualified plans best meets the above objective?

Age-based profit-sharing plan. From the age-weighted profit-sharing plan, Paul will receive a greater share because of his income and age. Money purchase pension plans will not provide this advantage to Paul. Traditional defined benefit pension plans require annual mandatory funding.

Seven years ago, Karen purchased U.S. EE savings bonds for $5,000. During the current year, at 27 years old, she redeemed the bonds to help pay for her graduate school tuition. The accrued value at the time of redemption was $7,000.

All accrued interest is taxable in the current year The exclusion for EE bond interest redeemed to pay for qualifying higher education expenses applies only to bonds purchased by an individual age 24 or older, and held in that person's name, or jointly with a spouse. Karen is 27 years old; the bonds were purchased seven years ago, when Karen was approximately 20. Because Karen does not qualify for the exclusion of the interest income, all of the interest is taxable in the year the bonds are redeemed. Remember that the interest of EE bonds is deferred until maturity, unless an election has been made to have the interest taxed each year as it accrues. Also, the interest income from EE bonds (and other federal government obligations) is generally not subject to state income tax.

Which of these charitable gifting techniques will meet all of the couple's charitable gifting objectives?

An inter vivos charitable remainder annuity trust (CRAT) Bruce and Cheri want to make a charitable gift that will allow them to retain the income from the gifted property while either of them is alive. Therefore, they want to make an inter vivos gift. A CRUT and PIF will not work because they are testamentary gifts. A charitable lead trust will not work because it gives the income to the charity. Statement I allows an inter vivos charitable gift that will allow Bruce and Cheri to retain the income from the gifted assets during their joint lives.

Your client owns the following two corporate bonds: PMN: AA, 4.75%, 12 YTM BKH: BBB, 6.50%, 8 YTM Which of the following statements are true about the relationship between bond prices and bond features? (Consider each statement with respect to only the single feature stated; do not attempt to integrate the impact of all features simultaneously.)

BKH's lower rating makes its volatility higher than PMN's volatility. Bonds with lower coupons, longer maturities, and lower risk ratings are more volatile than bonds with higher coupons, shorter maturities, and higher ratings.

Martin has a son who is in first grade. Martin is concerned about the cost of college education in 12 years. He wants to make sure $80,000 is available to send his son to college. Which of the following bonds should he select? Bond A: A zero coupon bond that matures in 12 years Bond B: AAA-rated, 12-year maturity coupon bond

Bond A, because its duration matches the goal time frame The goal is to match a bond's duration, not its maturity, with the financial time horizon. A zero coupon bond has a duration equal to its maturity because it does not pay a coupon, which makes it the perfect choice for a stated need in the future. Also a zero has no reinvestment risk.

Which of these types of investors derives the greatest tax benefit from investing in preferred stocks?

Corporate Because 50% of the preferred dividends received by a corporation are exempt from federal income taxes, a corporation gains a tax advantage. The government and nonprofit organizations pay no income taxes. Mutual funds are also exempt from taxation. (The Tax Cuts and Jobs Act of 2017 reduced the dividend-received deduction to 50%.)

Your client Aya, age 30, is designing an educational investment program for her eight-year-old son. She expects to need the funds in about 10 years when her AGI will be approximately $70,000. She wants to invest at least part of the funds in tax-exempt securities. Which of these investments may yield tax-exempt interest on her federal return if the proceeds were used to finance her son's education?

EE Bonds Proceeds from EE savings bonds may be exempt if the proceeds are used for qualified higher education expenses of the taxpayer, spouse, or dependent. There is an AGI phaseout, which for 2023 is approximately $91,850 to $106,850 for a single taxpayer. (The actual phaseouts are provided on the exam.) All of the other options generate currently taxable income. The Treasury bills and GNMA funds both produce taxable income on the federal return (Treasury bill interest would typically be tax-exempt on her state return). The zero Treasury also produces taxable income each year as the amortized discount is added to taxable income, even though no cash income is received.

Which of these statements about life insurance products and their tax attributes is correct?

If a person purchased a life and 20-year term-certain immediate annuity at age 50, there would be no premature distribution penalty. An immediate annuity is one that is purchased by a single payment (premium), where payments commence no later than one year from the contract date, and which provides for a series of substantially equal periodic payments (paid at least annually). As such, immediate annuities avoid the 10% premature withdrawal penalty. Death benefit tax status of a MEC is the same as for any other non-MEC contract. Non-death-benefit distributions from a MEC will most likely be taxable as ordinary income to the extent that the cash surrender value exceeds the investment in the contract. With some exceptions, annuity contracts owned by a corporation are not treated as an annuity for tax purposes; thus the annual increase in value is subject to income tax. Part of the death benefit paid from life insurance owned by a pension may be taxable. Normally, any amount in excess of the cash value will be treated as death proceeds from a life insurance policy, and amounts equal to the cash value will be treated as a pension plan distribution. Nonperiodic (lump sum) distributions from deferred annuity contracts issued after to August 14, 1982, are treated on a LIFO basis—taxable earnings are first distributed.

In a multiple-plan situation consisting of a defined benefit (DB) pension plan and a profit sharing plan (PSP) that does not have a 401(k) feature, which of the following is the general rule for determining the maximum combined contribution?

If the DB plan is not covered by the Pension Benefit Guaranty Corporation (PBGC), then up to 6% can be contributed to the PSP plan, regardless of the amount contributed to the DB plan. If a sponsor provides two plans, a DB plan and a PSP, and the DB plan is not covered by PBGC, then up to 6% can be contributed to the PSP. If the DB plan is covered by PBGC, then the limit on the PSP is 25%, regardless of the amount being contributed to the DB plan.

Which of the following statements about yield curve environments are CORRECT?

Increasing money market yields and increasing Treasury bond yields would characterize a tight policy by the Federal Reserve (the Fed) and a yield curve that might change to a negative slope. When the Fed increases the discount rate or the federal funds rate, it is using a tight monetary policy. This causes both short- and long-term yields to increase. If inflation is especially strong, the Fed may increase short-term rates so sharply that the yield curve becomes negatively sloped, downward from left to right.

With the expansion of the company, Bruce anticipates hiring a number of new employees in the next several years. He wants to provide a qualified retirement plan to attract and retain employees. Consider the following constraints in recommending a course of action: Bruce expects that cash flow available for a plan contribution will be uneven in the next 5 to 10 years. Bruce and Cheri need to save approximately 20% of their combined salaries annually to build an adequate retirement fund. Which one of the following recommendations would best meet the couple's needs and address their constraints?

Install an age-weighted profit sharing/401(k) plan that allows the allocation of company contributions to be skewed in favor of older employees (like Bruce and Cheri) Because of the uncertain cash flow projection, only a profit sharing plan (PSP) would be appropriate. A defined benefit plan and tandem plans both would involve some annual employer contribution commitment. New SARSEPs cannot be established; SARSEPs are permitted only if they were established prior to 1997. The age-weighted profit sharing 401(k) plan will allow an allocation of more than 20% to Bruce and Cheri, due to their ages and still keep the cost of including the other employees reasonably low. In good years, when they can afford the maximum deferrals, they can achieve the 20% savings goal through mostly deferrals and reduce the profit sharing contribution to minimize the cost of other employees.

In January 2021, Thomas received 10,000 ISOs to purchase Wine Tasting, Inc., stock at $5 per share. In February 2022, he exercised the options when the market price of the stock was $15 per share. In March 2023, Thomas sells the 10,000 shares of the stock for $50 per share. How will Thomas's sale in 2023 be treated for federal income tax purposes?

Long-term capital gain of $450,000 and a negative $100,000 AMT adjustment There are no regular tax implications associated with exercising ISO shares. The only tax consequence from the exercise is a positive AMT adjustment of $100,000 on the bargain element ($15 - $5 = $10, $10 × 10,000 = $100,000). In 2023, Thomas's sale would be categorized as a qualifying disposition because the sale occurred over two years from the grant and over one year from the exercise date. As a result of meeting the holding period requirements, Thomas will have a long-term capital gain of $450,000 [($50 − $5) × 10,000] and a negative AMT adjustment of $100,000.

Five years ago, Mario purchased stock in YoGulp, a publicly traded company that manufactures drinkable yogurt. He purchased the stock for $10,000, and the fair market value is now $17,000. Yesterday, he gifted the stock to his single 25-year-old son, Larry, who has taxable income this year of $30,000. What would be the income tax consequences to Larry if he sold the stock tomorrow and recognized a $7,000 gain on the sale?

Long-term capital gain that is not taxed When appreciated property is gifted, the holding period of the donor carries over to the recipient of the gift. Therefore, Larry would have long-term capital gain even though he sold the stock after owning it for only two days. For a single taxpayer with Larry's taxable income, the long-term capital gain tax rate is 0%.

Maxwell established an irrevocable trust for his son, Jeff, whom he is legally obligated to support. The trust income is used to support Jeff, and the trustee is free to use any portion of the income for that purpose. In the current year, 25% of the income is used for Jeff's support. Based on this information, which of the following statements is CORRECT?

Maxwell will pay taxes on 25% of the trust income. In this case, the income is used to fulfill Maxwell's support obligation and is, therefore, benefiting the grantor. The grantor of a trust is taxed on the income from the trust when the income is used for the grantor's benefit. However, only the portion used for the grantor's benefit is taxable. In this situation, Maxwell will pay tax on 25% of the income, while the trust will pay tax on 75% of the income.

Which of the following statements regarding the arbitrage pricing theory (APT) is CORRECT?

Multiple factors affect the return of a security. The APT determines returns based on multiple factors. These factors might include inflation, growth in GDP, major political upheavals, or changes in interest rates.

Naomi is self-employed. Which of the following restrictions would prohibit Naomi from borrowing against the firm's retirement plan?

Naomi's retirement plan is a SEP. A SEP plan is funded through an IRA. IRAs do not permit loans.

SEP IRA contributions

Only employer contributions

Craig gives his son Scott stock with a basis of $80,000 and a fair market value of $70,000. No gift tax is paid. Scott subsequently sells the stock for $78,000. What is Scott's recognized gain or loss?

No gain or loss This is a gift of loss property and the double basis rule applies. Scott's gain basis is $80,000. His loss basis is $70,000. Because his selling price of $78,000 is between the gain basis and the loss basis, he has no recognized gain or loss.

Which of these provisions in a disability income contract does not allow the insurer to raise policy premiums during the specified policy period?

Noncancelable A disability income policy in which the insurer may not increase premiums during the term of the contract is called a noncancelable policy.

Which of the following statements accurately describe the treatment of the income from SaniTruck? (S Corp/Rental Income)

None of the income from SaniTruck is subject to the self-employment tax. Neither the flow through of income from an S corporation, nor the income from the rental of realty is considered to be self-employment income.

You want to compute portfolio statistics for the equity assets in the couple's portfolio. A weighted average approach is NOT used to calculate which of these?

Portfolio standard deviation To compute the portfolio standard deviation, a simple weighted average approach cannot be used (except in the extremely unlikely case that the assets were perfectly positively correlated). The covariance of assets is required, and the formula for standard deviation of a portfolio, which includes the covariance, must be used. A weighted average approach is routinely used to compute the rest of the options.

You are a CFP® certificant, and as an integral part of your financial planning business expansion plan, you have recently employed a young woman who is eminently qualified as a paraplanner and is currently studying for the CFP® Certification Examination. According to the Duties Owed to Firms and Subordinates section of the Code and Standards, reasonable care in your supervision of the paraplanner involves all of the following except

Prohibition of circumvention As stated in the Code and Standards, Duties Owed to Firms and Subordinates, Section D.1 (Use Reasonable Care When Supervising), "[a] CFP® professional must exercise reasonable care when supervising persons acting under the CFP® professional's direction, including employees and other persons over whom the CFP® professional has responsibility, with a view toward preventing violations of applicable laws, rules, regulations, and these Standards." Prohibition on Circumvention is a separate section of the Code and Standards that prevents CFP® professionals from using third parties to go around the rules and provisions stated in the code.

Which business owner objectives would be best served through a profit sharing plan?

Provide employer with some discretion in funding A profit sharing plan does provide the employer with some discretion in funding. (Contributions still must be substantial and recurring.) It is also a plan that is easy to communicate to employees. A profit sharing plan may also motivate employees, although some employees may be skeptical if contribution levels are inconsistent and may not appreciate the plan as much as a plan that provides a fixed annual contribution.

Johanna, an attorney, is considering revoking the existing S corp status of her practice. She is in the 37% bracket. She will be the sole owner and employee of the corporation. Which one the following statements accurately describes the income tax consequences of the proposed arrangement?

The corporation would be subject to a flat rate of 21%. C corporations are subject to a flat rate of 21%. The personal service corporation classification for a C corporation was effectively repealed with TCJA. C corps are not flow-through entities subject to personal income tax rates. None of the income is from passive sources. Therefore, it would not be subject to PHC rules.

Your client has brought her nephew to your office to advise them regarding a net gift transaction, as your client has completely exhausted her gift tax applicable credit amount on previous gifts. Accordingly, you have thoroughly explained both the tax and nontax implications of such a transfer. Which of the following statements concerning goals and expectations is one your client and her nephew should NOT have if this transaction takes place?

The donor should expect that her estate will not have to include the taxable portion of this gift as an adjusted taxable gift. Although the nephew will pay the gift tax, it is the aunt's taxable gift. The gift tax to be paid by the nephew will be based on his aunt's gift tax situation (i.e., her remaining gift tax applicable credit amount and marginal transfer tax rate). The aunt will realize an immediate economic benefit if the gift tax she will not have to pay exceeds her costs in acquiring and improving the property (her basis).

Which one of the following requirements is a possible disadvantage of a simplified employee pension (SEP) for an employer?

The vesting requirements for a SEP prohibit forfeitures. SEP contributions must be 100% vested (i.e., nonforfeitable at all times). Prohibited transaction excise tax penalties do not apply to SEPs. The contribution formula of a SEP is not required to be fixed. Employer contributions to a SEP are not subject to payroll taxes.

Martin and Pamela have a combined gross annual income of $76,000. After taxes, their annual income is $62,300. Currently, their monthly housing payment (PITI) totals $1,510. Their car loans and credit card payments are additional $1,150 per month. They have no other debt. Which of the following is a CORRECT statement?

Their total debt is too high relative to the standard rules of thumb. With these totals, the couple's total debt is too high in that it exceeds 36% of gross income. Housing costs are less than 28% of gross income, but consumer debt is in excess of 20% of net income, leading to an excessive debt burden.

Which of the following are CORRECT regarding eligible individual account plans?

They are permitted to invest plan assets in qualifying employer securities. Eligible individual account plans (i.e., defined contribution plans such as profit sharing plans, stock bonus plans, and money purchase pension plans) are permitted to invest in qualifying employer securities and are subject to ERISA's diversification requirements. Note: Defined contribution plans are not subject to PBGC coverage.

Your client, who is the executor of an estate, has asked you to advise him on the requirements and considerations involved in selecting the alternate valuation date for estate assets. Which of these statements is CORRECT regarding this postmortem election?

This election can be made only if it will decrease the value of the decedent's gross estate. There are two requirements for using the alternate valuation date: (1) the value of the decedent's gross estate must be reduced, and (2) the transfer tax owed by the estate must be reduced. If the election is made, any assets that have naturally declined in value due to the mere passage of time must be valued without consideration of such decline in value, which can mean that such assets are valued at their date-of-death value. The election does not automatically extend the filing deadline, and applies to probate as well as nonprobate assets.

Janice has owned her own company for 25 years. She is now 54 and wishes to retire at 64. She currently employs 5 people, all between the ages of 24 and 33. If Janice wanted to establish a retirement plan with the highest benefit for her, assuming the company has adequate cash flow, what is the most appropriate plan?

Traditional defined benefit pension plan. A defined benefit pension plan is the best choice because a traditional defined benefit pension plan favors older participants and would allow the maximum contribution for Janice. This plan is especially appropriate because the company has adequate cash flow. The other plans are incorrect because: A cash balance pension plan does not favor older participants. Janice is age 54 and wants to retire in 10 years. Money purchase pension plans do not favor older participants with larger annual contributions than a similarly compensated younger participant. Although an age-based profit-sharing plan will favor older participants, it is still a defined contribution plan and would be subject to annual additions limits. A traditional defined benefit pension plan will allow for a larger contribution for Janice. An age-based profit-sharing plan would only be appropriate if the company had unstable cash flows.

Assume that you have a portfolio of fixed-income securities and U.S. large-cap growth stocks, and you want to reallocate dollars from fixed-income investments to equities. You want to add a combination of equities to the portfolio that will result in the lowest possible portfolio standard deviation. Which one of these combinations of equity securities will best achieve the goal of the lowest possible portfolio standard deviation?

U.S. small-cap value stocks and foreign medium-cap growth stocks To lower the standard deviation of a portfolio, securities added should have low correlations with the existing portfolio, which contains U.S. large-cap growth securities. U.S. small-cap growth and small-cap value stocks will lower the standard deviation, but not as much as when foreign securities are added. Securities have relatively high positive correlations with each other. Global large-cap stocks include U.S. securities. Therefore, this option may add more U.S. growth securities to a portfolio that already contains large-cap growth securities. It may not lower the portfolio standard deviation as much as U.S. small-cap value and foreign medium-cap growth stocks. Global medium-cap growth stocks and U.S. large-cap value stocks also may include more U.S. securities. Choosing the option with strictly foreign medium-cap growth stocks will have a lower correlation with the current portfolio. U.S. small-cap value stocks will have a lower correlation with the portfolio than U.S. large-cap value stocks have, because the current portfolio already contains all large-cap stocks.

Which of the following statements does NOT describe a function of the security market line?

Uses standard deviation to measure risk Standard deviation is used in the capital market line to measure risk, not at the individual security level. The securities market line uses beta to measure risk.

Can an S corp be a personal service corp?

no

All of the following likely signal financial conflict among partners during meeting except:

one partner pausing longer than the other before answering questions directed at them. One partner pausing longer than the other before answering questions directed at them does not necessarily indicate financial conflict. One partner may simply take more time than the other to gather their thoughts and process information. All of the other actions likely signal financial conflict.

Robert has just inherited $200,000 that he wants to invest. He does not trust the stock market, but his father has told him real estate always goes up. So he is interested in buying an apartment building. He asks for your help in evaluating the net operating income for the building he is considering. You would explain to him that net operating income for a rental real estate project equals gross rental receipts plus non-rental income less

operating expenses and vacancy and collection losses Capital improvements, debt service, and depreciation expense are not used to compute NOI.

All of the following statements regarding financial transparency are correct except:

planners should help clients understand that a lack of transparency will likely result in different goals between partners. Planners should help clients understand that a lack of transparency will likely sabotage the financial planning to meet shared goals. Lack of financial transparency does not necessarily foster different goals between partners. All of the other statements are correct.

Emergency reserves

subtract savings and taxes from expenses and multiply by 3-6 months

The approach to financial counseling that believes a client's attitudes, beliefs, and values influence the client's behavior and that tries to replace negative beliefs with positive attitudes that should result in better financial results is known as

the cognitive-behavioral approach. The answer is the cognitive-behavioral approach. This approach to financial counseling is known as the cognitive-behavioral approach. In contrast, the economic and resource approach focuses on obtaining and analyzing quantitative data, such as cash flow, assets, and debt. In the classical economics approach, planners attempt to achieve better financial outcomes by increasing financial resources or reducing expenditures. In the strategic management approach, the client's goals and values drive the client-planner relationship and the planner serves as a consultant.