Unit 12 - Practice Exam 2

Your 65-year-old client owns a nonqualified variable annuity. He originally invested $29,000 4 years ago; it now has a value of $39,000. If your client, who is in the 28% tax bracket, makes a lump-sum withdrawal of $15,000, what tax liability results from the withdrawal? A) 0. B) 4200. C) 3800. D) 2800.

Your answer, 2800., was correct!. This annuity is nonqualified, which means the client has paid for it with after-tax dollars and has a basis equal to the original $29,000 investment. Consequently, the client pays taxes only on the growth portion of the withdrawal ($10,000). The tax on this is $2,800 ($10,000 x 28%). Because the client is older than age 59-½, he does not pay 10% premature distribution penalty tax. Reference: 12.3.3 in the License Exam Manual.

Your 55-year-old client invested $50,000 four years ago in a nonqualified variable annuity. The original investment has grown to a value of $60,000. If the client, who is in a 30% tax bracket, makes a random withdrawal of $15,000, what will the tax liability to the IRS be? A) 4500. B) 4000. C) 0. D) 3000.

Your answer, 4500., was incorrect. The correct answer was: 4000. Since this is a nonqualified annuity (with no tax deduction), the client pays taxes only on the growth portion or, in this case, $10,000. The tax on this amount is $3,000. However, because the client is not yet age 59-½ when making the withdrawal, he also pays a 10% penalty, or $1,000. This makes a total of $4,000 tax and penalty paid on the random withdrawal. Reference: 12.3.3 in the License Exam Manual.

Of the four client profiles below which might be the best suited for a variable annuity recommendation? A) A 25year old public school teacher who would like to save enough for the purchase of her first home within the next 3 to 5 years. B) A 75 year old women, who is a former executive retired for over ten years who wants to preserve as much capital as she can to leave to her two grandchildren. C) A 30 year old construction worker recently unemployed who wants to invest his severance pay amounting to 9 months salary. D) A 50 year old individual with $50,000 cash to invest who has already made the maximum contributions to an IRA and the 401(k) plan at his place of employment and would like to minimize some of the tax consequences of his currently high tax bracket.

Your answer, A 50 year old individual with $50,000 cash to invest who has already made the maximum contributions to an IRA and the 401(k) plan at his place of employment and would like to minimize some of the tax consequences of his currently high tax bracket., was correct!. Of the four customer profiles the individual already making the maximum retirement account contributions available to him and wanting to minimize the tax consequences of being in a high income tax bracket would be most suitable for a VA recommendation. Supplemental income stream for retirement, not preservation of capital should be the catalyst to consider a VA and for anyone who may need access to the sum invested for any reason a VA would not be considered a suitable recommendation. Reference: 12.3.4 in the License Exam Manual.

When may a variable annuity account be surrendered? A) Only during the payout period. B) During the annuity period. C) During the accumulation period. D) Any time before the accumulation period.

Your answer, During the accumulation period., was correct!. A variable annuity may only be surrendered during the accumulation period. If the account is annuitized, the investor has chosen a payout option. Reference: 12.2.1 in the License Exam Manual.

The payout of an annuitized variable annuity account changes from month to month in a manner determined by which of the following? The separate account performance compared to last month's performance. The payout compared to the initial payout upon annuitization. The separate account performance compared to an assumed interest rate. The payout compared to last month's payout. A) I and III. B) I and II. C) II and IV. D) III and IV.

Your answer, I and II., was incorrect. The correct answer was: III and IV. A variable annuity payout is determined by comparing account performance with AIR, and this month's payout with last month's payout. Reference: 12.3.1 in the License Exam Manual.

Once a customer annuitizes a variable annuity, which of the following statements are TRUE? The number of annuity units is fixed. The number of annuity units varies. The value of the annuity units is fixed. The value of the annuity units varies. A) II and III. B) II and IV. C) I and IV. D) I and III.

Your answer, I and III., was incorrect. The correct answer was: I and IV. Once a variable annuity is annuitized, the accumulation units are converted into a fixed number of annuity units. The value of these units varies with the performance of the separate account. Reference: 12.2.1 in the License Exam Manual.

For an insurance company, mortality risk turns out unfavorably if: an annuitant lives longer than expected. an annuitant dies sooner than expected. a life insurance holder lives longer than expected. a life insurance holder dies sooner than expected. A) II and IV. B) I and IV. C) I and III. D) II and III.

Your answer, I and IV., was correct!. Mortality assumptions are based on life expectancy or mortality tables prepared by insurance company actuaries. If an annuitant lives longer than expected, the insurance company will have to continue payments longer than expected. If an insurance holder dies sooner than expected, the insurance company will have to pay the death benefit sooner than expected-that is, before receiving some of the expected premium payments. Reference: 12.1 in the License Exam Manual.

A 45-year-old investor takes a lump-sum distribution from a nonqualified variable annuity. How is the distribution taxed? The entire amount is taxed as ordinary income. The growth portion is taxed as ordinary income. The growth portion is taxed as a capital gain. The growth portion is subject to a 10% penalty. A) II and III. B) II and IV. C) I and IV. D) III and IV.

Your answer, I and IV., was incorrect. The correct answer was: II and IV. On withdrawals from a nonqualified annuity, taxes are paid only on the amount that exceeds cost basis (the amount paid into the annuity). In this case, the investor is taking a lump-sum distribution before reaching age 59-½ and must pay an additional 10% penalty on the taxable amount. Reference: 12.3.3 in the License Exam Manual.

Variable annuities must be registered with: the state banking commission. the state insurance commission. the SEC. FINRA. A) II and III. B) II and IV. C) I and III. D) III and IV.

Your answer, II and III., was correct!. A variable annuity is a combination of 2 products: an insurance contract and a mutual fund. Therefore, variable annuities must be registered with the state insurance commission and the Securities and Exchange Commission. Reference: 12.1.2 in the License Exam Manual.

If your customer invests in a variable annuity and chooses to annuitize at age 65, which of the following statements are TRUE? She will receive the annuity's entire value in a lump-sum payment. She may choose to receive monthly payments for the rest of her life. The accumulation unit's value is used to calculate the total value of the account. The annuity unit's value represents a guaranteed return. A) I and III. B) I and IV. C) II and IV. D) II and III.

Your answer, II and III., was correct!. When a variable contract is annuitized (distributed in regular payments, not as a lump sum), the number of accumulation units is multiplied by the unit value to arrive at the account's current value. An annuity factor is taken from the annuity table, which considers, for example, the investor's sex and age. This factor is used to establish the dollar amount of the first annuity payment. Future annuity payments will vary according to the separate account's performance. Reference: 12.3.1 in the License Exam Manual.

You have 4 clients each expressing interest in a variable annuity contract. Which 2 of the 4 client profiles would a VA be least suitable for? A 45-year-old employed individual with no other retirement accounts in place A 58-year-old individual near retirement who is in good health and anticipates a lengthy retirement A 32-year-old with a company-sponsored 401k plan and will need a lump sum soon to finance graduate school tuition A 60-year-old individual, nearing retirement who has both IRAs and a 401k in place, is comfortable with market risk associated with the stock market, and has a lump sum in cash available to fund the annuity A) II and IV B) I and II C) I and III D) II and III

Your answer, II and IV, was incorrect. The correct answer was: I and III VAs are less suitable for individuals who have not yet made maximum contributions to other retirement accounts such as IRAs and 401ks. They are also not considered suitable for anyone who anticipates needing a lump sum within a short time frame to fund other endeavors. They are more suitable for individuals who can fund the annuity with cash, want to supplement existing retirement benefits they have already funded, are comfortable with the market risk associated with a VA separate account portfolio and anticipate a long retirement. Reference: 12.3.4 in the License Exam Manual.

Your client owns a variable annuity contract with an AIR of 4%. In March, the actual net return to the separate account was 8%. If this client is in the payout phase, how would his April payment compare to his March payment? A) It cannot be determined until the April return is calculated. B) It will be higher. C) It will stay the same. D) It will be lower.

Your answer, It cannot be determined until the April return is calculated., was incorrect. The correct answer was: It will be higher. If the separate account of a variable annuity with an AIR of 4% had actual net earnings of 8% in March, the April payment will be higher than the March payment. Reference: 12.3.1 in the License Exam Manual.

For an investor, which of the following is the most important factor in determining the suitability of a variable annuity investment? A) The fact that the annuity payment may increase or decrease. B) The investor's marital status. C) The investor's concerns about taxes. D) The fact that periodic payments into the contract may increase or decrease.

Your answer, The fact that the annuity payment may increase or decrease., was correct!. The most important consideration in purchasing a variable annuity is to be aware that benefit payments will fluctuate with the investment performance of the separate account. Periodic payments are not a consideration because normally the payments into an annuity are level or in a lump sum. Reference: 12.1.2.1.1 in the License Exam Manual.

Who assumes the investment risk in a variable annuity contract? A) The policyowner. B) The investment risk is shared between the insurance company and the policyowner. C) There is no risk in a variable annuity. D) The insurance company.

Your answer, The policyowner., was correct!. Variable annuity contracts were devised to help investors keep pace with inflation. Because this is not guaranteed, the policyowner bears the investment risk. Reference: 12.1.2 in the License Exam Manual.

For a retired person, which of the following investments would provide the greatest protection against inflation? A) Municipal bonds. B) Corporate bonds. C) Fixed annuities. D) Variable annuities.

Your answer, Variable annuities., was correct!. Fixed income instruments, like bonds and fixed annuities, are subject to purchasing power risk. Variable annuities provide protection from inflation because their monthly income can increase depending on the separate account's performance. Reference: 12.1.2 in the License Exam Manual.

In a variable life annuity with 10-year period certain, a contract holder receives: A) a minimum of 10 years of variable payments, followed by additional variable payments for life. B) fixed payments for 10 years, followed by variable payments for life. C) 10 years of variable payments. D) variable payments for 10 years, followed by fixed payments for life.

Your answer, a minimum of 10 years of variable payments, followed by additional variable payments for life., was correct!. The owner of a life annuity with 10-year period certain will receive payments for life, subject to a minimum of 10 years. If the contract holder dies before the period expires, the remaining payments are made to the beneficiary. An example would be if a life annuity with 10-year period certain contract holder died after 5 years, payments would continue for 5 more years to the beneficiary and then stop. Reference: 12.3.2.2 in the License Exam Manual.

All of the following statements about variable annuities are true EXCEPT: A) such an annuity is designed to combat inflation risk. B) a minimum rate of return is guaranteed. C) the number of annuity units becomes fixed when the contract is annuitized. D) the rate of return is determined by the underlying portfolio's value.

Your answer, a minimum rate of return is guaranteed., was correct!. The return on a variable annuity is not guaranteed; it is determined by the underlying portfolio's value. Variable annuities are designed to combat inflation risk. The number of annuity units becomes fixed when the contract is annuitized; it is the value of each unit that fluctuates. Reference: 12.1.2.1.1. in the License Exam Manual.

If a 42-year-old customer has been depositing money in a variable annuity for 5 years, and he plans to stop investing but has no intention of withdrawing any funds for at least 20 years, he is holding: A) mutual fund units. B) annuity units. C) accumulation shares. D) accumulation units.

Your answer, accumulation units., was correct!. The customer, in the accumulation stage of the annuity, is holding accumulation units. The value of the customer's account is converted into annuity units if and when the customer decides to annuitize the contract. Reference: 12.2.1 in the License Exam Manual.

A separate account will invest in a number of different securities. The separate account is NOT likely to invest in: A) equity funds. B) municipal bonds. C) corporate stock. D) money market funds.

Your answer, money market funds., was incorrect. The correct answer was: municipal bonds. The earnings on dollars invested into a variable annuity accumulate tax deferred, which is why variable annuities are popular products for retirement accumulation. As with all tax-deferred accounts, municipal bonds are not appropriate investments because interest earned on municipals is already tax exempt at the federal level. Reference: 12.1.4.2 in the License Exam Manual.

A rider or statement of condition that allows a variable life insured to maintain policy coverage after becoming disabled is a benefit known as A) annuity phase B) waiver of premium C) life income D) minimum guaranteed death benefit

Your answer, waiver of premium, was correct!. Waiver of premium is a benefit available on qualified life insurance contracts, usually in the form of a rider, which provides for the waiver of premium payments that fall due while the policyholder is totally disabled. Reference: 12.4.1 in the License Exam Manual.