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ETFs are:

Exchange Traded Funds, as the name says, trade on stock exchanges. Most are AMEX (now renamed the NYSE American) listed, but there are ETFs on the NYSE and NASDAQ as well.

What type of DPP is eligible for tax credits? Direct participation program

Low income housing program To promote the building of low income housing, which generates lower than market rents, the government subsidizes these programs by offering tax credits to those builders.

Which statement is TRUE regarding ETFs (Exchange Traded Funds)?

The purchaser of an ETF is required to receive either a prospectus or a Product Description summarizing key information about the ETF

Mutual funds that have an automatic reinvestment provision will reinvest:

both dividends and capital gains at NAV If a fund offers an automatic reinvestment provision, both dividend distributions and capital gains distributions are reinvested at Net Asset Value.

Which of the following terms are synonymous when talking about open-end funds?

load / sales charge When talking about mutual funds, the Fund Sponsor is the Fund Underwriter and the Investment Advisor is the fund portfolio manager. Broker-dealers may join in a selling group to sell these funds, acting as agent only. Public Offering Price (POP) of a fund is the same as the fund's ask price. Net asset Value (NAV) is the fund's redemption price. The "load" is the fund's sales charge.

The provisions of the Investment Company Act of 1940 include all of the following EXCEPT:

setting maximum sales charges on mutual fund purchases The Investment Company Act of 1940 requires that the minimum capital to start a fund is $100,000; that at least 40% of the Board of Directors be "non-interested parties" - that is, they are not affiliated with the sponsor, custodian, transfer agent, or firms in the selling group; and that the fund have a stated investment objective that can only be changed by majority vote of the shareholders. The Act does not set sales charges for mutual fund purchases - these are set by FINRA - which allows a maximum sales charge of 8 1/2%.

Who would be MOST likely to invest in a BDC?

A BDC (Business Development Company) is a type of investment company that makes private equity investments in small, privately-held start up companies. These are higher risk investments that pay the private equity investors high dividend payments (remember, these are small private companies that cannot access the public markets, so they must pay a higher return to their investors). The BDC shares are listed and trade like any other stock. As a corporate security, they are not a tax sheltered investment, making Choice D incorrect.

All of the following statements are true regarding a mutual fund "Letter of Intent" EXCEPT:

A letter of intent can cover a period of 13 months, inclusive of a 90 day "backdate." The extra shares purchased at the lower sales charge are held in escrow until the letter is completed. If the letter is not completed, the purchase price is recalculated to the higher sales charge and the customer does not get the extra shares. The customer can always redeem his or her shares.

If a regulated mutual fund pays out a dividend and capital gains distribution, which the shareholder has automatically reinvested, which statement is TRUE?

Both the dividend and the capital gain are taxable Every year that the fund distributes dividends and capital gains, both must be included on that year's income tax return - whether or not the investor reinvests the monies in additional fund shares or whether the investor takes the monies as cash.

Which statement is FALSE regarding ETFs (Exchange Traded Funds)?

ETFs are available on individualized stock portfolios ETFs have been increasing in popularity as compared to traditional mutual funds because of their low cost (low expense ratios); ease of buying and selling like any other stock; and tax efficiency (no mandatory annual long term capital gain distributions). ETFs are available based on sector indexes; narrow-based stock indexes; broad based stock indexes; bond indexes and international stock indexes. Note that there is no such thing as an ETF based on an individualized stock portfolio. The whole point of an ETF is to create a negotiable security that benchmarks a recognized index.

Intangible drilling costs consist of:

Intangible drilling costs (IDC) in an oil and gas limited partnership, these are the costs of drilling for oil, including labor, fuel, and rental of drilling equipment that have no salvage value. Under current tax law, intangible drilling costs are 100% deductible as drilling occurs. (compare Tangible costs) labor, fuel, rental and materials expenses, with no salvage value Intangible drilling costs are 100% deductible as drilled, and represent the costs of drilling holes in the ground to find oil and gas reserves. These costs include drilling equipment rental fees, labor, fuel, materials, etc. Once the holes are drilled, there is no residual value to these costs, hence they are termed "intangible."

Which statement about management fees is TRUE?

Management fees cannot be based on fund performance A no-load fund is one that does not have a sales charge. All mutual funds charge management fees, whether they are load or no-load funds. The maximum sales charge on a load fund is set at 8 1/2% by FINRA. FINRA does not set maximum management fees. The Investment Company Act of 1940 does not set maximum management fees either - it requires that shareholders vote on the management contract, which will tend to limit compensation; and that compensation cannot be based on fund gains and losses. The permitted management fee structure is either a flat fee; or a fee based on percentage of assets under management.

A customer invests $1,000 in a money market fund. If the fund's assets appreciate by 10%, the customer will have:

Money market funds are unusual in that the Net Asset Value per share is constant at $1.00. As the fund has earnings, and Total Assets increase, the shareholder receives more shares worth $1.00 each. For example, if an investor has 1,000 shares @ $1 ($1,000 total) in the fund, and the assets appreciate by 10%, then the customer will have 1,100 shares at $1 ($1,100 total).

When comparing an ETN to an ETF, which statement is TRUE?

Only ETNs have both credit risk and market risk An ETN is an Exchange Traded Note. It is a type of structured product offered by banks that gives a return tied to a benchmark index. The note is a debt of the bank, and is backed by the faith and credit of the issuing bank. It is listed and trades like a stock, so it has little marketability risk. Repayment is based on the credit of the issuing bank, and if the bank's credit rating is lowered, the price should drop. This is credit risk. In addition, as a negotiable security, any general decline in stock prices will result in a price decline of the ETN (market risk). ETFs (Exchange Traded Funds) have an NAV that is based on the value of the physical underlying securities. There is no credit risk here. If a single company held in the underlying stock portfolio has its credit rating lowered, this will have a minimal impact on the value of the overall portfolio. However, since these are negotiable securities, they do have market risk.

Which of the following customers is allowed a breakpoint on mutual fund purchases?

Participants in a corporate 401(k) plan People cannot "join together" to obtain a breakpoint on a mutual fund purchase. Therefore, investment clubs cannot group purchases for a breakpoint, nor can investment advisers group their customers' purchases. Individuals whether acting alone, or in a family unit, or as part of a corporation's retirement plan are considered to be "one" purchaser and qualify for the breakpoint. An investment adviser (IA) omnibus account is a single account held at a broker-dealer for all of the investment adviser's clients. The investment adviser cannot get a breakpoint based on aggregated purchases for these clients - each IA client is considered to be a separate purchaser.

Which statement is TRUE regarding the tax status of limited partnerships?

Partnerships are not taxable entities; all items of income and loss "flow through" to the tax returns of the partners. Tax liability only exists at the partner level - not at the partnership level.

"SPIDERS" trade on the:

SPIDERS is the trade name for the "SPDR" - Standard and Poor's 500 Index Exchange Traded Fund. SPDRs trade on the AMEX (now renamed the NYSE American), as do - DIAmonds (Dow Jones Industrial Average Index - symbol = DIA). QQQs (NASDAQ 100 Index) trade on the NASDAQ Stock Market.

At the market opening, a customer purchases 200 shares of an S&P 500 2X ETF at $50 per share. At the end of that day, the S&P 500 Index increases by 10%. The next day, the index declines by 5%. What will be the market value of the 200 share position?

Since this ETF is "2x," it is an ETF that moves in the same direction as the market, but it moves twice as fast The customer starts with 200 shares at $50, or a $10,000 position. At the end of the first day, because the index rises by 10%, this position will rise by 20% to $12,000 value ($10,000 x 1.2). At the end of the second day, because the index goes down by 5%, the ETF value will decline by 10%. $12,000 x .90 = $10,800

A Real Estate Limited Partnership would most likely invest in:

Strip malls and apartment houses An "existing housing" RELP (Real Estate Limited Partnership) invests in office buildings, shopping centers, apartments building, etc, for rental income. The RELP uses mortgage financing to buy the properties, so there are interest deductions, as well as depreciation deductions. RELPs do not buy single family homes (too hard to manage) and do not invest in securities such as bonds and REITs.

A registered representative receives an unsolicited order from a client to buy a mutual fund position that the client had not taken before. Which statement is TRUE about delivery of the fund prospectus?

The fund prospectus must be delivered no later than the confirmation of the purchase The basic rule on prospectus delivery is that the prospectus must be delivered "at, or prior to, confirmation." When a customer buys a security that requires a prospectus delivery (a new issue), in the "good old days," a confirmation was generated detailing the purchased security and amount due, a prospectus was included in the envelope, and this was mailed by "snail mail" to the customer. When the customer opened the envelope, the prospectus was included with the confirmation, meeting the rule's requirements. The SEC has modernized the prospectus delivery rule for stock and bond offerings, allowing an electronic prospectus to be sent to the customer's e-mail address. However, the mutual fund rule still requires a paper "profile prospectus" sent to the customer with the confirmation, with the full paper prospectus being available electronically if requested.

Which of the following would NOT reduce the Net Asset Value per share of a mutual fund?

The fund sells a portfolio position to realize a large loss NAV per share of a mutual fund declines when asset values decline in the portfolio. When a fund pays either a dividend distribution or capital gains distribution, the NAV per share is reduced on the ex date to reflect the lower per share value. Of course, any person who elects to reinvest the distributions in more shares will have now hold more shares, each one worth less than before. But in aggregate, the investment value would not have changed. Surprisingly, whenever a fund sells a position at a significant loss, there is no reduction in NAV. Why? The position has already been marked to market and the loss is reflected in the fund's NAV each day.

What is the MOST important item to disclose to a customer who invests in a fund of hedge funds?

The illiquidity of the investment Hedge funds typically only allow redemption 1 time per year, or maybe 1 time per quarter - and the percentage of one's investment that can be redeemed is limited as well (say 25% of one's investment can be redeemed each quarter).

Regarding an oil and gas "income" program, which statement is TRUE?

The primary benefit is the depletion deduction In an oil and gas "income" program, proven reserves in the ground are being purchased so these programs have far less risk than "wildcatting". There are no intangible drilling costs since no drilling to find oil is performed. The benefit to the limited partners is the depletion deduction.

A customer switches from a growth fund to an income fund within the same "family of funds." Which statement is TRUE?

The sale results in a "taxable event" on which tax on any gain is due, and the purchase establishes a new cost basis When the shares of one fund are sold, unless the monies are reinvested in the same fund, (resulting in a non-taxable "like-kind" exchange), capital gains tax is due on the sale proceeds versus the cost basis in the shares. The purchase of the new (different) shares results in a new cost basis.

Which statement is TRUE regarding oil drilling programs?

These programs incur intangible drilling costs which are 100% deductible in the year the drilling takes place Oil drilling programs incur heavy intangible drilling costs, which are 100% deductible in the year the drilling takes place. Thus, this type of oil and gas program gives the greatest immediate deduction.

All of the following are major tax benefits of real estate limited partnerships EXCEPT:

When the real estate is sold, all profits are taxed at preferential short term rates The major tax benefits of real estate programs are numerous. Once property is ready for occupancy, it can be depreciated over a straight line basis over a 27 1/2 year life (for residential property). Each year, a depreciation deduction is allowed, even if the market value of the property is rising. The amount of cash needed to purchase the property is reduced if a mortgage is obtained from a lender. Interest on the mortgage is fully deductible. Finally, when the property is sold, there is the possibility of having a long term capital gain which would be taxed at a lesser rate than a short term gain.

For an investor seeking a tax sheltered investment, the primary advantage of a real estate direct participation program is the:

ability of the program to generate losses for tax purposes but provide positive cash flow Limited partnership interests are not liquid. To avoid the corporate characteristic of "free transferability of shares," most partnership agreements place restrictions on transfer. The ideal structure for a partnership is to generate losses for tax purposes (in a real estate program, through mortgage interest and depreciation deductions), yet show positive cash flow (since depreciation is a "paper" write-off). Since real estate is considered a passive investment, any losses can only be offset against passive income - not earned income. The structure of partnerships generates higher losses in the early years, and lower losses in the later years. This gives people with "tax problems" the incentive to buy such a program, since the deductions are "front loaded," and the potential purchaser needs those deductions today.

ask price

ask = bid / 100% - sales charge

All of the following statements are true about exchange traded index funds EXCEPT exchange traded index funds:

can be traded at no commission cost to the customer Exchange traded funds such as SPDRs (the "Spider" is the Standard and Poor's 500 Index ETF) can be traded anytime during normal trading hours; can be bought on margin and sold short; and typically have comparable or lower expense ratios than do similar index mutual funds. However, to buy or sell an ETF, a regular stock trade commission is charged.

A no-load mutual fund:

can charge a management fee and can charge an annual 12b-1 fee limited to .25% Note, in contrast, that if a fund wishes to advertise itself as a "pure no-load fund" then it cannot charge any 12b-1 fees. Finally, generally all mutual funds charge management fees.

A "regulated" investment company is one that:

complies with Subchapter M of the Internal Revenue Code and receives special tax treatment on distributions to shareholders. "Regulated" is the term used for an investment company regulated under Subchapter M of the Internal Revenue Code. If a fund distributes at least 90% of its Net Investment Income (NII) to shareholders, then the distributed income is not taxed at the fund level. It receives "flow-through" tax treatment and is only taxed at the shareholder level. If a fund were to distribute less than 90% of NII to shareholders, then all of its Net Investment Income would be taxable, and any distributions made to shareholders out of after-tax income would become taxable to the shareholders. Needless to say, there isn't any investment company that is not "regulated." Also note that mutual fund distributions are taxable whether reinvested or not. The only way to avoid this is to hold the fund in a "tax deferred envelope" such as an IRA or qualified retirement plan.

A customer buys $10,000 of Government Bond Fund shares from Acme Investors, a fund sponsor and broker-dealer. Acme is the sponsor for a variety of funds within the Acme "family." The ACME family has an "exchange feature" at NAV. The customer decides to exchange his Government Bond Fund shares for Growth Fund shares within the same family. All of the following statements are true EXCEPT the:

customer will pay a sales charge The statement that the customer will pay a sales charge to exchange shares within a family is not true. This fund family has an "exchange feature" at NAV, which means that shares of one fund can be redeemed and reinvested in shares of another fund within the family without any sales charge. For the customer exchanging Government Bond Fund shares for Growth Fund shares, a tax event has occurred. It would be expected that the customer's yield will decrease but that capital gains will increase, since he or she is moving from an "income" fund to a "growth" fund.

An oil and gas program that is designed to give immediate deductions with moderate risk is a(n)?

developmental program In a developmental program, a well is drilled near an existing field (a "step-out" well, since the driller is stepping out from the existing field). The cost of drilling is an "Intangible Drilling Cost" (IDC) and is 100% deductible as drilled. This drilling program has lower risk than an exploratory program, since there is a higher probability of finding oil near an existing field.

All of the following statements are true regarding money market funds EXCEPT:

fund dividends are not taxable if reinvested in additional shares AND money market funds have an objective of long term capital gains Money funds typically do not have sales charges. All distributions are fully taxable as investment income. Money market funds are unusual in that the NAV per share is constant at $1.00. As the fund has earnings, and Total Assets increase, the shareholder receives more shares worth $1.00 each. Money market funds invest in very short term (usually 30 day maximum maturity) money market instruments with an investment objective of high current income.

A new customer wishes to open an account at your firm by purchasing $5,000 of DEF mutual fund shares. He informs you that he has previously invested $30,000 in the fund at another broker-dealer. As the registered representative handling the account, you should tell the customer that:

he qualifies for a breakpoint sales charge reduction on the $5,000 purchase

An oil and gas program that is designed to take advantage of the depletion allowance, without immediate deductions is a(n):

income program In an income program, proven reserves in the ground are purchased. No drilling is required - this work is already complete. All that is left to the program is to extract the oil from the ground and sell it. As the oil is sold, the depletion allowance shelters income.

A customer asks the following; "One of my neighbors was talking about his investment in an ETF (Exchange Traded Fund) and said that it is tax-efficient. Is this true?" The registered representative should respond that:

mutual funds are obligated to distribute capital gains to their shareholders once a year, which are taxable; whereas exchange traded funds are not under this obligation, so capital gains taxation generally occurs when the shares are sold Mutual funds distribute dividends and short term capital gains to shareholders as often as they wish. They are obligated to distribute long-term capital gains once per year. Thus, a mutual fund shareholder will have an annual tax bill on appreciated securities held by the fund because of this annual distribution requirement. In contrast, exchange traded funds are not obligated to distribute long-term capital gains annually. Thus, as shares appreciate in the exchange traded fund, the NAV per share appreciates, but there is no annual tax bill on the appreciation. The tax is due when the appreciated shares are sold. Thus, ETFs are said to be "tax-efficient."

In an oil and gas income program, there are:

no intangible drilling costs and high depletion deductions In an income program, proven reserves in the ground are purchased. No drilling is required - this work is already complete. All that is left to be done is to extract the oil from the ground and sell it. As the oil is sold, the percentage depletion allowance shelters income from taxation.

A fund that distributes at least 90% of its Net Investment Income to shareholders is termed a(n):

regulated fund A fund that distributes at least 90% of Net Investment Income to shareholders is "regulated" under Subchapter M of the Internal Revenue Code and pays no tax on the distributed amount.

The percentage depletion allowance offered of oil and gas program investors is based upon oil:

sold The percentage depletion deduction is currently 15% of oil revenue, that is, oil sold. Any small producer of oil and gas may use the percentage depletion deduction as the method for recovering the monies paid for the mineral rights.