Incorrect Questions
Three years ago, one of your clients invested $100,000 into the newly formed GHI Corporate Bond UIT. Another client invested $100,000 into the JKL Corporate Bond Fund, an open-end investment company. At that time, both investments were yielding about 7%. Today, the yield on corporate bonds of comparable quality is 5%. Therefore, one would expect that A) the investor owning the UIT is receiving more current income than the investor owning the bond fund. B) both investors are receiving approximat
A. A unit investment trust has a fixed portfolio. When a UIT is formed, the bonds in the initial portfolio would have a yield comparable to the going market rate, in this case 7%. Three years later, regardless of the current market interest rate, the UIT still holds those 7% bonds, so the current income hasn't changed. On the other hand, because a mutual fund is constantly bringing in new money and redeeming old shares, its portfolio composition is going to reflect the influence of the current market. That means many of the newly purchased bonds will be offering a return of 5%. The effect of this is that the current income of a bond mutual fund is going to fluctuate along with interest rate changes while that of a UIT will not. There is no management fee for a UIT because there is no ongoing management. LO 3.f
A stock is currently worth $75. If the stock was purchased one year ago for $60, and the stock paid a $1.50 dividend over the course of the year, what is the holding period return? A) 27.5% B) 25.0% C) 24.0% D) 22.0%
A. (75 − 60 + 1.50) ÷ 60 = 0.2750, or 27.5%. LO 22.a
If a client has realized a capital gain from the sale of a municipal bond, to reduce tax liability, the capital gain can be offset against a capital loss in which of these? GOs Equity securities Corporate bonds REITs
All A realized capital gain on a security may be offset by a capital loss realized from the sale of any type of security, including municipal bonds, equities, corporate bonds, or REITs. LO 15.c
Adnan is an investment adviser representative associated with a state-registered investment adviser. He is registered in several states. To be in compliance with the Uniform Securities Act, Adnan A) must meet the financial requirements of the state in which the investment adviser's principal office is located. B) has no financial requirements with regard to a minimum net worth. C) must meet the financial requirements of the state with the most stringent requirements. D) must meet the financial
B There are no financial requirements placed on IARs, only the IA. Investment advisers must meet the financial requirements of the state where the firm's principal office is located. LO 10.c
How often must an investment company file reports with the SEC as required by the Investment Company Act of 1940? A) Quarterly B) Annually C) Semiannually D) Monthly
C, Registered investment companies are similar to other publicly registered entities in that an annual audited report must be filed with the SEC. Unrelated to this question is the requirement that semiannual reports must be sent to shareholders. LO 3.a
Which of the following is unlikely to be issued at a discount? A) Treasury bill B) Commercial paper C) Jumbo CD D) Zero-coupon bond
C. RTFQ (unlikely) Jumbo (negotiable) CDs are one of the few money market instruments issued at face value. Unlike those issued at a discount, they are interest bearing. LO 2.f
An investor purchases $10,000 of A-rated debentures in early January. At the end of the year, $500 in interest has been received and the value of the investment is $9,500. If the investor is in the 25% tax bracket, the after-tax yield is A) 0.0%. B) 5.0%. C) 3.75%. D) -1.25%.
C. The only return (as far as yield is concerned) is the $500 of interest. Subtracting 25% for taxes leaves $375 which, when divided by the $10,000 initial cost, is an after-tax yield of 3.75%. If the question had asked about total return, then the $500 unrealized loss would have been included, although there would have been no tax benefit to it because it is only a "paper" loss. LO 22.a
Kellie is a senior equity analyst for a large brokerage firm. She primarily uses fundamental analysis techniques to assist her in picking stocks for her firm's clients. Today, she is reviewing the XYZ Corporation. The company is a manufacturer of computer keyboards and is currently going through an expansion phase. Which of the following techniques would Kellie be least likely to use to determine whether to buy, sell, or hold this company's stock? A) She may consider trends towards tablets and smart phones. B) She may review the company's stock 200-day moving average. C) She may examine the overall state of the economy, the computer industry, and then XYZ Corporation. D) She may calculate the intrinsic value of the stock using one or more of the stock valuation models.
b Reviewing the company's stock 200-day moving average is a technique used by technical analysts (chartists). All of the other techniques are used by fundamental analysts. The process of examining the economy, the specific industry, and the specific company is a reflection of top-down fundamental analysis. LO 21.d
Which of the following statements regarding a mutual fund that offers Class A, B, and C shares are true? 1. Class A shares have a front-end sales charge and a low 12b-1 fee. 2. Class B shares have a declining contingent-deferred sales charge and a high 12b-1 fee. 3. Class C shares have a high 12b-1 fee and a level contingent-deferred sales charge. 4. Class B and C shares allow investors to put the shares back to the fund for their original purchase price for up to one year after purchase.
1,2,3 There is no put provision that guarantees the return of an investor's purchase price associated with mutual fund shares. LO 3.c
An investor who chooses to use preferred stock as an income source instead of bonds would potentially incur which of the following risks? Loss of principal can occur. Price volatility of preferred stock is closely related to interest rates. Preferred stock cannot be traded as readily as bonds. If the stock is callable, the client's income can be suddenly lowered.
1,2,4 Because bonds have seniority over any equity security, there is a greater risk of loss of principal with preferred stock than with bonds. The price volatility of preferred stocks, like bonds, is impacted by interest rate changes. Unlike bonds, however, preferred stock does not have a maturity date. This means that preferred shares may never return to their par value, as bonds do at maturity date. Because the preferred stock may have a callable feature, the company can redeem its shares anytime after the call protection period (if any) is over. This usually happens when interest rates have declined, so the client whose stock was called will not be able to reinvest the proceeds at the same rate and could, therefore, suffer an unexpected drop in income. Preferred shares, particularly those listed on the exchanges, are generally easier to trade than corporate bonds (and certainly no worse). LO 1.c
The risk/return pyramid where the bottom is lowest risk and the "point" is the highest, generally places commodities A) at the top. B) halfway between the middle and the top. C) at the bottom. D) in the middle.
A The risk/return pyramid shown in your LEM places commodities at the very top, the point of the pyramid. LO 21.b
All of the following would flow through as a loss to limited partners except A) principal repayment on partnership debt. B) depletion. C) interest payments on partnership debt. D) accelerated depreciation.
A. Principal repayments are not an expense for tax purposes. The interest on the debt is an expense and, along with depletion and depreciation expenses, does flow through to the limited partners as passive loss. LO 5.a
An analyst is viewing financial statements of Diderot Clothing Stores (DCS), a chain of high-fashion women's apparel. DCS had $7 million as its beginning-of-year retained earnings and it made post-tax profits of $3 million. The board of directors decides to pay a dividend of $1 million. Once paid, what will be the ending retained earnings? A) $10 million B) $9 million C) $3 million D) $7 million
B The ending retained earnings = beginning retained earnings + net income - dividend. That means $7 million + $3 million - $1 million = $9 million. LO 7.c
Julian and Jane are discussing risk-return measures. Julian states that "beta is used when looking at the performance of a fund or portfolio and refers to the extent of any outperformance against its benchmark." Jane disagrees and says that "outperformance of a fund or portfolio is actually measured by standard deviation." Which of the following statement is correct? A) Both Julian and Jane are correct. B) Only Jane is correct. C) Only Julian is correct. D) Both are incorrect.
D. Both Julian and Jane are incorrect. It is alpha, not beta, that is used when looking at the performance of a fund or portfolio. Alpha refers to the extent of any outperformance of a portfolio against its benchmark. Standard deviation is used for measuring volatility, not performance. LO 20.f
Your client who owns a DPP that generated a $10,000 passive loss for the year could A) deduct $10,000 against ordinary income. B) deduct $10,000 against capital gains. C) deduct $3,000 against ordinary income and carry over the rest. D) only deduct the passive loss against passive income.
D. Passive losses, such as those generated by limited partnership investments (DPPs), are only deductible against passive income. LO 5.a
Prohibited business practices under the NASAA Statement of Policy on Dishonest or Unethical Business Practices of Broker-Dealers and Agents would not include A) sharing commissions with an agent of a nonaffiliated broker-dealer. B) making specific investment recommendations to the group attending a free lunch seminar. C) borrowing money for graduate school tuition from a client who happens to be the agent's father. D) sharing in the profits and losses in a client's account without making a f
D. Unlike the FINRA rule, agents may share in the profits and losses in a client's account without making a financial contribution; all that is required is consent of the client and the employing broker-dealer. The so-called free lunch seminars are typically promoted as educational, and in any case, how can the agent make specific recommendations to a group without having suitable information on each attendee? Borrowing money from a client, regardless of the purpose, is not permitted unless the lender is in the business of lending money. Sharing commissions with an agent licensed with the same or affiliated broker-dealer is permitted, but one with which there is no affiliation is not permitted. LO 14.i
A state-registered investment advisory firm that plans to take custody of clients' securities must do which of the following? 1.Receive permission from the state Administrator. 2.Give notice to the state Administrator. 3.Provide a copy of its balance sheet to clients. 4.Provide a custody brochure to clients.
2,3 For a state-registered investment adviser to take custody of customer funds and securities, it must give notice to the state Administrator and provide those customers with a copy of its balance sheet. Permission from the state Administrator is not required and there is no such thing as a custody brochure. LO 14.e
A working group convened by NASAA has developed a model fee disclosure schedule to help investors better understand the costs involved in doing business with their broker-dealer. The template has broker-dealers disclosing which of the following fees? A) Markups and markdowns B) Account closing fees C) Commissions D) Advisory fees
B It is very common for a broker-dealer to charge a fee for processing the closing of an account. There are three primary expenses involved with brokerage accounts that are not included in the fee disclosure template. Those are commissions; markups and markdowns; and advisory fees for those firms that are also registered as investment advisers.
The type of analysis that attempts to value securities by examining general economic trends and the growth potential and productivity of individual companies is A) technical analysis B) fundamental analysis C) holding period analysis D) credit analysis
B. There are two main approaches to valuing securities. Fundamental analysis takes the approach described in this question. The other approach—technical analysis—relies on charts of past performance to forecast future price movements. LO 21.d
What is the appropriate procedure to follow when an advisory client delivers a stock certificate to the office of a broker-dealer? A) Accept the certificate and send the customer a receipt within 24 hours of the delivery. B) Accept the certificate and give the customer a receipt. C) Instruct the client to send the certificate to the transfer agent because you cannot accept it. D) File a currency transaction report if the current market value of the stock represented by the certificate exceeds $1
B. When a client delivers a stock certificate to the broker-dealer's office, the appropriate procedure is to furnish the customer with a receipt on the spot. Broker-dealers are far more likely to have custody arrangements than are investment advisers. LO 14.e
If the net present value of a series of discounted cash flows is less than zero, one could conclude that A) the return on investment is higher than the internal rate of return. B) the discounted cash flows are lower than the investment outlay. C) the internal rate of return equals the discount rate. D) the rate of return is higher than the cost of capital.
B. A negative net present value of a series of discounted cash flows means the investment outlay exceeds the discounted cash flows. Net present value is the difference between the initial cash flows and the present value of future cash inflows. If the net present value is negative, the present value of future cash flows is less than the initial investment. An investment with a negative net present value is generally an undesirable investment. LO 20.a
Which of the following actions by an investment adviser registered in three states is permitted? A) Guaranteeing a rate of return equivalent to a 5-year insured bank CD or waiving their yearly fees B) Stating in the advisory contract that fees will be reimbursed if account performance is less than agreed upon C) Delivering the brochure within 48 hours after signing of the contract, as long as there is a 5-day, penalty-free withdrawal provision D) As long as the firm's brochure indicates that fee
D This is not considered discrimination, because the discount applies equally to all (if they are among the first 50). The regulators consider this to be a negotiated fee. Fee reimbursement or waivers are not permitted. The five-day withdrawal provision applies to state-registered investment advisers when the brochure is not delivered at least 48 hours prior to (not after) the signing of the contract. LO 13.a
Which of the following would be considered an unethical business practice? A) Agents exercising discretion in discretionary accounts B) Broker-dealers charging larger-than-ordinary commissions on certain transactions C) Broker-dealers sending retail clients an email 30 days in advance of a change to fees D) Agents correcting execution orders in their customer's accounts
D. When a good-faith error is made, only the firm can make the correction; the regulators are concerned that giving that power to an agent could lead to covering up unethical activity. When the security involved in the trade is thinly traded (inactive), it is customary to charge a higher commission to cover the added expense. Broker-dealers are required to deliver a copy of their fee schedule no later than account opening. When changes are made, notice must be given at least 30 days in advance and may be done electronically (by email or posting on the firm's website). LO 13.d
Dan is the owner of a mutual fund that returned him a before-tax return of 15% last year. Inflation is running at an annual rate of 3%, and Dan is in a 27% marginal income tax bracket. What has been Dan's approximate inflation-adjusted after-tax return on the fund over the course of the last year (rounded to the nearest 2 decimal points)? A) 10.95% B) 8.76% C) 12.00% D) 7.95%
D. First, compute Dan's after-tax rate of return of 10.95% as follows: .15 × (1 − .27), or .73 = .1095. Then, compute Dan's inflation-adjusted, or real, rate of return by subtracting the 3% inflation rate from his 10.95% after-tax return. LO 22.a
According to the Uniform Securities Act, which of the following is an investment adviser representative? 1.A clerical employee of the AAA Investment Management Company, an investment advisory firm registered in the state that offers investment portfolio services to the public 2.An employee of AAA Investment Management Company who is properly registered under the USA and supervises analysts who provide research to clients 3.An employee of a federal covered adviser with an office in the state who
2,3 An investment adviser representative means any partner, officer, director, or other individual, except clerical or administrative personnel, who is employed by an investment adviser that is registered or required to be registered. Therefore, unregistered personnel are not investment adviser representatives. An employee who supervises analysts who deal with the public must be an investment adviser representative. The employee of the federal covered adviser with an office in the state is also an investment adviser representative. The agent is an agent of a broker-dealer, not an investment adviser representative. LO 10.b
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? 1. An account opened in the name of the XYZ Corporation, organized as a C corporation, by their chief investment officer 2. An account opened by a sole proprietor in the name of the company 3. An account opened in the name of ABC Corporation, an S corporation by one of its shareholders 4.
2,3 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. LO 16.c
Among the many exempt transactions under the Uniform Securities Act are the private placement and the preorganization certificate or subscription. While these two exemptions have several requirements in common, they have which of the following differences? 1.The private placement exemption places a limit on the number of sales to retail investors, while the preorganization certificate places a limit on the number of offers to all investors. 2.Payment for the purchase may be made in the case o
2,3 The term sale means that there has been an exchange of value. No money changes hands in the case of a preorganization certificate or subscription. It is simply a commitment to invest when the corporation's charter has been granted. On the other hand, a private placement is a sale because the seller receives payment—value is exchanged. The state will consider a private placement an exempt transaction if it is anticipated that individual (noninstitutional) investors are purchasing for investment only, not immediate resale. No holding period restrictions are placed on preorganization certificates. Only in the case of a sale of a private placement to an institutional client is it permissible to pay commissions. Finally, Choice I has it backwards. When referring to retail (noninstitutional) investors, there is a limit to the number of offerees (10), while in the preorganization certificate, the number of subscribers is limited to 10, regardless of whether they are retail or institutio
If an employed client has $12,000 of capital gains and $15,000 of capital losses in the most recent taxable year, how much unused loss, if any, is carried forward by the client to the following tax year? A) $15,000 B) $0 C) $12,000 D) $3,000
B In this question, the client had $12,000 of capital gains and $15,000 of capital losses. Step 1: Offset the capital gains with the capital losses ($15,000 - $12,000). This leaves $3,000 remaining in capital losses. Step 2: Note that the client can apply up to a maximum of $3,000 of any remaining losses against ordinary income. Once all $3,000 in remaining losses is used to reduce ordinary income, this would leave $0 to carry forward to the next year. Therefore, the reason you would not carry $3,000 to the next year is that it would be used to reduce ordinary income for the current year. It can be safely assumed than an employed client of a broker-dealer makes at least $3,000 per year. LO 15.c
Which of the following attributes best describes a tactical asset allocation portfolio style? A) Has an aggressive growth objective B) Employs an active management style C) Employs a passive management style D) Employs a strategic management style
B Tactical asset allocation managers actively manage their portfolios, switching the percentage of holding in each asset category according to the performance of the asset class. An aggressive growth manager would actively pursue specific growth securities such as stocks and not allocate funds between bonds, real estate, or other asset categories. A passive or strategic style is, as the name implies, relatively inactive rather than active. LO 21.c
An investment adviser representative is preparing a financial plan for a new client. As part of the data collection process, the IAR needs to collect the relevant information to analyze the client's cash flow. Included in the cash flow statement would be all of the following except A) interest on savings B) assets C) salary D) income taxes
B The income statement is the basis for an individual's cash flow statement. Rather than assets and liabilities, as would be found on a balance sheet, the concern is measuring income and expenses. LO 17.a
In the context of purchasing shares in a mutual fund, the term breakpoint refers to the point at which A) the shares are selling for less than the net asset value (NAV). B) the dollar amount of shares being purchased qualifies the investor for a lower sales charge. C) the investor is assured of making a profit on the shares D) the mutual fund company stops offering new shares to the public.
B The term breakpoint refers to the point at which the number of shares being purchased is large enough to qualify the investor for a reduced sales load. FINRA prohibits broker-dealers and their agents from making a mutual fund sale at just below the breakpoint merely to obtain a larger commission. LO 3.c
A client is completing a new account form that contains questions about the investor's investing experience and knowledge. More than likely, what type of account is being opened? A) Discretionary B) Options C) Margin D) Retirement
B. One question asked on a new options account form that is not required on a normal brokerage account opening is investment experience and knowledge (e.g., number of years, size, frequency, and type of transactions) for options, stocks and bonds, commodities, and other financial instruments. LO 16.a
From the standpoint of diversification, which of the following would be considered the most conservative? A) A sector fund B) An income fund C) A growth fund D) A balanced fund
D. Balanced funds invest in a variety of investment vehicles; therefore, they have more diversification. Because of the diversification, they are better protected against downturns in the financial markets and are more conservative than the other choices listed. LO 17.d
Certain documents belonging to a federal covered investment adviser must be kept for a period of time after the enterprise closes. Those documents are A) the responsibility of the investment adviser. B) required to be shredded. C) sent to the SEC for safekeeping. D) sent to the Administrator for safekeeping.
A. Broker-dealers and investment advisers must keep certain records for a period of three years after the termination of the business. How and where those records are maintained is the responsibility of the firm, not the regulators. This is a separate requirement from the one that has active broker-dealers keeping records for three years and investment advisers for five. LO 9.f
What is the name of the bond document that states the issuer's obligation to pay back a specific amount of money on a specific date? A) The indenture B) The bond agreement C) The bond coupon D) The debenture
A. The indenture is the contract that sets forth the promises of the issuer of the bond and the rights of the lenders (the investors). A debenture is an unsecured long-term debt security (that has an indenture). One of the details in the indenture is the coupon (interest) rate that will be paid on the loan. LO 2.a
Each of the following are advantages offered by a nonqualified deferred compensation plan that are not found in a qualified plan except A) employer contributions to the plan are not subject to current taxation to the employee. B) deferred compensation plans are not subject to most of the requirements of the Employee Retirement Income and Security Act of 1974 (ERISA). C) they are an attractive benefit to the employer because participation requirements and nondiscrimination restrictions do not apply. D) they are an attractive benefit for highly compensated employees because they're free from the contribution limits.
A. Tax deferral is found in both NQDC plans and qualified plans, so there is no advantage that one has over the other. However, NQDC plans have much more flexibility without the burdensome compliance issues with ERISA. LO 18.e
An investor purchased stock for $50 per share at the beginning of the year. In December, the investor liquidated his stock for $55 per share, while also receiving dividends of $2 per share during the year. Assuming an inflation rate of 3%, what is the investor's real rate of return? A) 11% B) 14% C) 10% D) 4%
A. Given the fact the client liquidated his shares at a price of $55, we can conclude that he attained a 10% ($5 profit ÷ $50 initial investment) return based on capital appreciation of the stock. He also received dividends of $2 per share giving him an additional return of 4% ($2 ÷ $50). By adding these 2 percentages together, we can conclude that his total return is 14%, less an inflation rate of 3%, which would give a real rate of return of 11%. LO 22.a
Adam Samuels suffered a massive heart attack and died at the age of 62. As part of his estate, there is an IRA with a current value of $170,000. A review of the IRA documents reveals that Eve Samuels, his wife, is the primary beneficiary and their two children have been named as contingent beneficiaries. Eve is 50 years old and does not need the income from the IRA and would like to preserve the IRA for her children to inherit. Which of the following steps would you recommend Eve take? A) Cash i
B This is a highly complicated question, and there is room for disagreement. However, if a similar question was on your exam, the answer here is the one that NASAA would consider correct on its test. The key to this question is the word preserve. By executing a rollover into an IRA in her name, tax deferral of the assets continues, and under the SECURE ACT 2.0, RMDs are not required until after Eve turns 73. Thus, the assets are preserved for at least 20+ years. If she took the distribution, she would not have to pay the penalty tax, but there would be ordinary income tax due and this would not meet her objective of preservation of the IRA. If she disclaimed, the assets would then go to the children, but they would have to begin taking distributions over a 10-year period. Not a bad choice, but the assets are being distributed and taxed, not preserved. The benefit of rolling over into an inherited IRA (sometimes called a beneficiary IRA) instead of one in her own name is that she can be
Which of the following statements relating to Form ADV-E are correct? 1. The form is completed by an investment adviser who maintains custody of customer funds and/or securities. 2. The form is completed by the independent public accountant who examines the funds and/or securities in the custody of an investment adviser. 3. The form is submitted by the independent public accountant who examines the funds and/or securities in the custody of an investment adviser. 4. The form may be used to amend
1,3 Form ADV-E (E for Examination) must be completed by investment advisers (IAs) that have custody of client funds or securities and that are subject to an annual surprise examination. Then the IA gives this form to the independent public accountant, who examines client funds and securities in the custody of the IA, in compliance with the Investment Advisers Act of 1940 or applicable state law. The independent public accountant performing the surprise examination must submit this form within 120 days of the time chosen by the accountant for the surprise examination. LO 14.e
If XYZ is a registered broker-dealer with its lone office located in State T, under which of the following circumstances must it also register in State L? 1. XYZ's only dealings in State L are directly with issuers of securities in State L. 2. XYZ engages in extensive transactions with the largest insurance company in State L. 3. XYZ routinely sells nonexempt securities to extremely high net-worth residents of State L. 4. XYZ purchases exempt securities from extremely high net-worth residents of
3, 4 Under the Uniform Securities Act, broker-dealers must register in any state where they engage in securities transactions with individual investors. The net worth of the individual is irrelevant. Broker-dealers with no offices in the state who engage in transactions in the state with certain institutional investors, such as insurance companies or investment companies, need not register in that state. Transactions between the issuer and a broker-dealer are exempt transactions. LO 11.b
In discussing a direct participation program with your customer, rank the following items in order of importance from most to least. 1. Tax write-offs 2. Liquidity and marketability 3. Potential for economic gain
3,1,2 The reason why the program's economic viability is the first priority in the assessment of DPPs is that the IRS considers programs designed solely to generate tax benefits to be abusive tax shelters. This can lead to tax penalties. During an audit, the first thing the IRS agent will examine is if the program has a reasonable expectation of generating a profit. As the IAR recommending the program to your client, you want to do your best due diligence to make sure to limit the potential audit exposure. Assuming this program passes that test, you want to examine the potential tax benefits. Finally, because there is a very limited secondary market for DPPs, liquidity and marketability should be a low priority. LO 5.g
An individual has been employed by a broker-dealer to solicit new subscriptions for the firm's free monthly stock market report. The individual is paid a salary plus bonus based on his success rate with signing up subscribers. Under the USA, this person would A) not have to be registered as an agent of the broker-dealer. B) have to be registered as an agent of the broker-dealer. C) have to be registered as an investment adviser representative. D) only be allowed to contact existing clients of th
A Agents of broker-dealers are in the business of securities-related transactions on behalf of clients of the firm. A free market report is not a security, so this individual is not soliciting securities business. LO 11.d
Among the special characteristics of a universal life insurance policy is A) the policy may be overfunded B) death benefits may increase above the initial face amount C) that policyowners may borrow against the cash value D) early termination could lead to surrender charges
A. This question is looking for a feature found in universal life that is not generally found in other forms of life insurance, i.e, something special. In the case of universal life, the policyowner is permitted to pay in an amount in excess of the stated premiums (one of the reasons universal life is known as flexible premium life). The IRS puts limits on the amount of the overfunding before certain tax advantages are lost, but that is beyond the scope of the exam. Not only universal life, but variable life as well, has the possibility of increased death benefits. In fact, some whole life policies allow policy dividends to be used to increase the death benefit. Permanent forms of insurance policies, including whole life, universal life, and variable life, permit loans against the cash value. Therefore, being able to borrow against the cash value is nothing special. Many forms of life insurance have surrender charges for early termination. LO 24.f
All of the following actions, if performed by a registered agent, would be considered a prohibited activity under the Uniform Securities Act except A) accepting an order from a client wishing to purchase a nonexempt security that is not properly registered in the state B) the client informs the agent that the appropriate written discretionary authorization forms are being hand-couriered to the agent and should arrive within the hour. Knowing the required paperwork is on its way, the agent begins
A. An unsolicited order is an exempt transaction, so accepting this from the agent's client would not be a prohibited practice. There is never a case when backdating of confirmations is permitted, even by 1 day. No discretionary activity may take place until the written authorization is actually received by the firm. Although an agent can use discretion as to time and price without written authority, oral instructions from the client are required, and nothing in the question indicates that the client instructed the agent to "buy when you think the price is right." LO 14.i
A client has invested $25,000 into a variable annuity which has grown to $150,000 over the accumulation period. At age 60, the account is liquidated. The tax treatment of the withdrawal would be A) ordinary income tax on $125,000. B) capital gains tax on $125,000. C) ordinary income tax on $125,000 with a 10% tax penalty. D) partly ordinary income and partly capital gains depending on the length of time the variable annuity was in force.
A. Any increase in the value of a variable annuity is taxed as ordinary income, never capital gain. In this case, there is no 10% penalty tax because the client is over 59½ years old. On the exam, all annuities are non-qualified unless the question says it is qualified or there is a clue, such as being part of a 403(b) plan. LO 24.e
Under the National Securities Markets Improvement Act of 1996, the federal covered security exemption from state registration includes which of these? Securities issued by investment companies registered under the Investment Company Act of 1940 Securities traded on the Nasdaq Stock Market Securities traded on the New York Stock Exchange Securities traded on the NYSE American LLC (formerly known as the American Stock Exchange [AMEX])
All Federal covered securities refer to securities exempt from registration because they are regulated, or covered by federal legislation. The National Securities Markets Improvement Act of 1996 (NSMIA) eliminated dual regulation of securities by both federal and state securities legislation. The term federal covered security also refers to any security listed on a national securities exchange, any security equal to or senior in standing to one listed on a national securities exchange, or a right or warrant to purchase a security listed on a national securities exchange. LO 8.c
A man is planning to start his own glass-sculpturing business. He wants to be able to deduct his anticipated losses for the first 2 years. He anticipates that the enterprise will borrow money from lenders and is willing to personally guarantee the debt. He also wants to attract other investors but does not want to give up control of the day-to-day business decisions. What business form do you recommend? A) S corporation B) Limited partnership C) General partnership D) C corporation
B. A limited partnership with him as general partner would allow for additional investment capital without giving up management control. C corporations do not allow deductibility of losses; S corporations do not allow guaranteed debt to be included in the taxpayer's basis. General partnerships could allow the other partners to more easily control the day-to-day operations than a limited partnership, in which the other investors (presumably limited partners) would not be permitted to take a role in the running of the business. LO 16.b
Under the Investment Company Act of 1940, an investment company may initially retain the services of an investment adviser only with approval of the majority vote of A) the outstanding shares. B) the board of directors. C) the outstanding shares and a majority of that portion of the board of directors that is considered noninterested members. D) the noninterested directors.
C. When it comes to retaining the services (hiring) of a person (or persons) to manage the portfolio of a mutual fund, there are three parties involved in the approval process. Those three parties are the shareholders, the fund's board of directors, and that portion of the fund's board consisting of noninterested members. (Remember, the board must be at least 40% noninterested, which is sometimes stated as a maximum of 60% interested.) This question asks about the initial contract. That contract is always for two years and requires the approval of a majority vote of the outstanding shares (the shareholders) and a majority vote of that group of board members who are noninterested. You should also know that, when it comes to renewal (done annually after the initial two-year contract), once again, a majority vote of that group of board members who are noninterested is required, along with either a majority of the total board or a majority of the outstanding shares. The one constant is the
A 50-year-old client with modest means wants to construct an investment program. He has no investment experience, his major consideration is saving for retirement, and he has limited risk tolerance. Which of the following would you recommend? A) High-grade bond fund B) Aggressive growth mutual funds C) Growth and income mutual funds D) Call options on the S&P 500 Index
C. Mutual funds that offer growth and income best meet the client's needs, offering growth for retirement and current income. A high-grade bond fund would not offer the growth that the client needs for retirement, although the fund would supplement the modest income of the client. A client of modest means may not be able to sustain the risk of principal that accompanies an aggressive growth fund; in addition, this alternative is unsuitable because the client has limited risk tolerance. Index options are a speculative investment. LO 17.d
An agent is discussing an equity index annuity purchase with a client. The agent explains that there are several that she feels are equally suitable for the client, but one of the companies is offering a trip for two to Las Vegas for reaching certain sales goals. She continues by stating that this sale will put her over the goal and win her the trip. If the client purchases that annuity, the agent A) will probably be disciplined for failure to disclose the potential conflict of interest. B) shou
C. The annuity recommended by the agent is offering an incentive. The agent is clearly disclosing that fact to the client, and if the client goes ahead and makes the purchase, it is with full knowledge of the potential conflict of interest. The question states that the agent considers this annuity, along with others, to be suitable. LO 13.b
The Uniform Securities Act empowers the Administrator to begin proceedings to revoke the registration of an investment adviser when certain violations are suspected. Which of the following is considered serious enough to warrant a revocation? A) Failure to obtain approval to maintain custody of client funds or securities B) Being charged with commission of a felony involving a nonfinancial matter C) Failure to supervise the activities of investment adviser representatives D) Being charged with c
C. Among the many violations justifying a revocation is failure to supervise. Maintaining custody of customer funds or securities requires notification to the Administrator, not approval. It is only a conviction, not being charged of a crime, that would be cause for revocation. LO 14.e
An individual has been hired by a person to assist in the selling of securities it is issuing to residents of State A. The individual would be defined as an agent under the Uniform Securities Act if the issuer is A) a trust company organized and supervised under the laws of State B. B) issuing commercial paper in minimum denominations of $100,000 with a AA rating and a six-month maturity. C) the city of Saskatoon, Saskatchewan (Canada). D) a credit union organized and supervised under the laws o
D Please remember the broad definition of person—it does not mean an individual unless preceded by the word natural. When an individual represents the issuer of certain exempt securities in the sale of those securities to the public, that individual is not included in the USA's definition of agent. Credit unions are not in that list, so those individuals are agents and must be registered as such. Individuals representing banks, including savings institutions and trust companies when organized and supervised under the laws of any state (not necessarily the state in which the securities will be sold), are not agents. If the agent represents the issuer of commercial paper meeting the exemption requirements of the USA ($50,000 minimum denomination, top three grades, and maximum nine-month maturity), that individual is not an agent. Finally, representing the United States or Canadian federal government, or any of their political subdivisions, excludes one from the definition of agent. LO
Your client with $100,000 to invest is looking for maximum current income. Which of the following would offer the highest current return? A) $100,000 AA rated corporate bonds trading at par with a 6% coupon rate B) $100,000 of zero-coupon bonds with a yield to maturity of 6% C) $200,000 of utility common stock paying a current dividend of 3.5% D) $100,000 market value of corporate bonds selling at a premium and yielding 6% to maturity
D When you read the full question, including the answer choices, you can immediately disregard two of the four options. With $100,000 to invest, the answer cannot be to purchase $200,000 of anything. Maximizing current income excludes zero-coupon bonds because there is no current income. Now, to the correct choice. Why does a bond sell at a premium over par? Although there are exceptions, primarily it is because the coupon rate on that bond is higher than the current market interest rate. Therefore, with a higher coupon rate, the current income on the same amount of principal invested ($100,000 in our question) will always be higher for a bond selling at a premium. That is the KISS (Keep It Simple Student) answer. For those who want to delve further, here we go. For example, if current market interest rates are 6% (likely the case here because the AA rated bonds with a 6% coupon are trading at par), then a bond with a 7% coupon will be selling at a premium. The current yield on $100,00
