6-Client Profiles, Portfolio Strategies, and Taxation

Which of the following is generally NOT an appropriate product for retirement planning? A) Commodities. B) Mutual funds. C) Bonds. D) Life insurance.

Answer: A Commodities are among the most speculative investments and not generally an element in retirement planning.

When are estate taxes due? A) Nine months after death. B) Nine months after valuation. C) Six months after death. D) Six months after valuation.

Answer: A Estate taxes are due nine months after death. The taxes are based on either the value at death or the alternative valuation six months after death.

Formula methods of investing that involve selling equities in rising markets and buying them in falling markets would include: constant dollar plan. constant ratio plan. dollar cost averaging. DRIPs. A) I and II. B) II and III. C) I and IV. D) III and IV.

Answer: A In both a constant dollar plan and a constant ratio plan, a balance between equity and debt securities in the portfolio. This is done by selling equities as their price rises (the proportion has now changed) and buying equities when the prices fall to get back to the constant dollar or ratio

Advantages of using the partnership form of business organization include which of the following? A) Ease of dissolution. B) Permanent life. C) Ease of raising large amounts of capital. D) Limited liability.

Answer: A Partnerships are relatively easy to form and to dissolve. They are not practical for raising large sums of capital as are corporations. General partners have full personal liability, and partnership agreements specify events that will lead to the termination of the entity.

The tactical approach to the asset allocation review process: A) intentionally deviates from the normal asset mix to take advantage of market opportunities. B) strives to maintain a constant asset mix over a long period of time. C) is designed to maintain a minimum or floor for the value of the portfolio's assets. D) requires no predictive abilities.

Answer: A The approach to asset review that intentionally deviates from the normal asset mix to take advantage of market opportunities is the tactical approach. Investors using this approach try to use market timing to beat the market, so this approach requires a great deal of predictive ability.

**TRICK QUESTION*** John and Jane have a net worth of $20,000 and total assets of $150,000. If their revolving credit and unpaid bills totals $8,000, how much are their total liabilities? A) $130,000. B) $150,000. C) $122,000. D) $138,000.

Answer: A The balance sheet formula is assets − liabilities = net worth. Therefore, $150,000 − liabilities = $20,000, where liabilities = $130,000. Did you answer $122,000? That is the amount of the liabilities other than the revolving credit, but that is not what the question is asking for.

The Jones family has scheduled an initial visit with a financial planner. Mr. Jones has an annual salary of $70,000 and this is their first attempt at financial planning. Which of the following should be the first step taken by the financial planner? A) Establish an emergency fund. B) Determine a reasonable fee for designing the plan. C) Pay off credit card debt. D) Set goals and dates for reaching them.

Answer: A There are many questions on the exam where you will be forced to choose between two possible answers, only one of which is correct. In many cases, it is strictly a matter of opinion, but only NASAA's opinion counts. This is one of them. Goal setting is important, but the regulators feel that the first step in any plan is making sure that there is a "rainy day" fund. We can argue about that because some will say that a good plan can be used to establish that fund where none has existed before. But, please go with the right choice.

Which of the following investment companies would be most suitable for an investor concerned about short-term price volatility? A) Money market fund. B) Index fund. C) Balanced fund. D) Growth fund.

Answer: A While not guaranteed, historically, money market funds do not fluctuate in price.

An investment adviser who switches among investment classes based upon anticipated market changes is using a technique known as: A) indexing. B) asset allocation. C) dollar cost averaging. D) value investing.

Answer: B A money management strategy that switches among asset classes based upon anticipated market moves is asset allocation. Indexing is a passive strategy that makes no attempt to anticipate market moves. An index strategy reflects an underlying index with the adviser keeping securities in the portfolio in proportion to their weight in the underlying index. Value investing seeks to actively invest in securities that are selling at a discount to their book value and out of favor with the market. Dollar cost averaging is a method of acquiring shares at a lower average cost over time and is not an investment style.

At his death, on January 1, 2009, Morris owned shares of ABC Corporation common stock, with a fair market value of $50 per share, which he had purchased in 2001 for $25 per share. If Morris' executor elected to value the estate by using the alternate valuation date, but then sold the shares through a broker/dealer on May 15, 2009 at $40 per share, what is the estate's basis per share for estate tax purposes? A) $125. B) $40. C) $15. D) $50.

Answer: B If the executor elects to value the decedent's estate by using the alternate valuation date, the value per share is the value at the date six months after death, unless the property is sold prior. In this case, the value per share is the FMV on the date of sale, $40 in this example.

Which of the following losses would be disallowed by the IRS under wash sale rules? A) An investor sells the Financial Short-Term Corporate Bond Fund at a loss and purchases the Investors Advantage Short-Term Corporate Bond Fund the next day. B) An investor sells Ben Corp nonconvertible preferred stock at a loss, and 3 weeks later purchases Ben Corp common stock. C) An investor shorts 1,000 shares of Key Corp common at $17 per share. 26 days after closing this short position at $25 per share, the investor shorts another 1,000 shares of Key Corp common at $28. D) An investor sells 700 shares of OBL common stock at a loss, and 5 weeks later goes long 7 OBL Jan 40 calls at a premium of $3.25.

Answer: C Establishing a new and equally identical short position within 30 days from the day of the trade that creates the loss results in a violation of wash sale rules and the loss would not be allowed. With Ben Corp and with the Corporate Bond funds, the investor is trading different securities so the wash sale rule does not apply. The purchase of a call option contract after selling common stock at a loss in the case of OBL would be considered purchasing a substantially similar security. The loss would be limited by the wash sale rule. However, in this case the loss would not be limited by the rule, as the time of the option purchase is more than 30 days after the sale at a loss.

***Based on the following information, which stock is most likely to appeal to a growth investor? A) Book value of $22 per share, current market value of $17 per share. B) P/E ratio of 8:1. C) Dividend yield of 0.3%. D) Net worth per share of $13, current market price of $15 per share.

Answer: C Growth investors usually seek out stocks with high growth expectations, reflected by a higher than normal P/E ratio and a low dividend yield. It would be unlikely to find a growth stock selling for close to its book value and certainly not below it.

One of your clients has named you as the trustee for a trust he has established. The beneficiary of the trust approaches you with a request for a disbursement that is contrary to the provisions of the trust document. In accordance with the provisions of the Uniform Prudent Investor Act, you should: A) contact the grantor. B) do nothing. C) follow the terms of the trust. D) follow the wishes of the beneficiary.

Answer: C Trust law requires that the trustee act in accordance with the terms of the trust document at all times.

You have a client who wishes to manage his own portfolio of individual stocks. The simplest style for him to follow would be: A) core. B) tactical. C) buy and hold. D) indexing.

Answer: C When it comes to individual stocks, nothing is simpler than buy and hold. If the client wished to have the simplest overall portfolio and didn't want to manage things, then indexing would be the answer.

An individual is a participant in the 403(b) plan offered by his employer. If he were to invest $200 per month into one of the growth sub-accounts offered under the plan, he would be: A) following a constant ratio plan. B) maintaining a constant dollar plan. C) rebalancing. D) dollar cost averaging.

Answer: D Dollar cost averaging is the investment formula where an investor invests the same amount at regular intervals.

If an investor is in a low tax bracket and wishes to invest a moderate sum to gain some protection from inflation, which of the following would you recommend? A) GNMA fund. B) Money market mutual fund. C) Municipal unit investment trust. D) Growth mutual fund.

Answer: D Growth funds invest chiefly in common stock. Historically, common stock provides greater protection from inflation than debt securities do.

A client is in the 28% marginal federal income tax bracket, and the 3% state income tax bracket. Which of the following investments would produce the highest after-tax yield for the client? A) Federally backed Treasury note yielding 7%. B) The answer cannot be determined using the information provided. C) AAA corporate bond yielding 7.75%. D) Public purpose municipal bond yielding 6%.

Answer: D Since your client is in the 28% tax bracket, he has to earn more than the 6% on a taxable bond for the yield to be equal to, or higher than, the tax-free bond. That number can easily be calculated because 72% of the taxable amount must be equal to or greater than the 6% return (6% ÷ 72% = 8.33%). The 8.33% is higher than the return on the other bonds listed, so the public purpose municipal bond would produce the highest retained return. This would be even more appropriate if the issue was tax exempt in the client's state.