Final Exam Missed Questions

Published quotes for mutual funds show:

. Bid price at NAV: Ask price at NAV plus the maximum sales charge Remember that Bid and Ask quotes are always from the standpoint of a dealer. The customer buys from the dealer at the dealer's Ask price; and sells to the dealer at that Dealer's Bid price. Simplified, customers buy at the Ask price and sell and the Bid price.

By what amount must market indices fall to constitute a "bear" market?

20%

If a customer fails to pay for a securities purchase, which statement is true?

An extension can be requested from FINRA only for an extraordinary reason

customer recently sold all of his Goofy Mutual Fund shares that he bought over a period of several years at a profit. The cost basis used to determine the capital gain is calculated using:

Average Price If a taxpayer sells all his or her shares, the IRS uses the average price for all shares as the cost basis. This is simply the total dollar amount paid for all purchases divided by the current number of shares.

A 200% Leveraged Dow Jones Industrial Average Index ETF would be expected to move: I up 50% in price when the DJIA moves up 100% II up 100% in price when the DJIA moves up 50% III down 50% in price when the DJIA moves down 100% IV down 100% in price when the DJIA moves down 50% A. I and III B. I and IV C. II and III D. II and IV

The best answer is D. A leveraged ETF uses borrowing (margin) and options to magnify price movement as compared to the reference index. A 200% leveraged ETF can be expected to move 2 times as fast as the reference index, either up or down. A 300% leveraged ETF can be expected to move 3 times as fast as the reference index, either up or down

Form 1099-B

The proceeds from the sale or redemption of shares by shareholders is reported by the brokerage firm or fund distributor

The maximum civil penalty to a controlling person for violation of the Insider Trading and Securities Fraud Enforcement Act of 1988 is:

Three times the profit achieved or loss avoided or $1,000,000, whichever is larger

Money Purchase Plan

a pension plan in which the employer contributes a set percentage of employees' salaries to their retirement plans annually

Variable life policy holders must receive a policy statement at least:

annually

Form 1099-DIV

provides shareholders with information needed for reporting dividend and capital gains distributions from the fund on the investor's tax return. In addition, if the fund makes a "non-dividend" distribution that is a return of the investor's original capital, this is reported on Form 1099-DIV as well.

An open-end fund's ex-dividend date is:

the date designated by the fund board of directors Because mutual fund shares do not trade, the ex-date is not set by an exchange. Rather, the ex-date for a mutual fund is set by the Board of Directors of the fund. The ex-date for mutual fund shares is the business day following the record date - this is the date the fund actually pays out the distribution. This is the first day that an order placed to buy fund shares will no longer entitle the purchaser to the dividend.

Under FINRA rules, an open-end management company that adopts a 12b-1 plan may charge a maximum sales charge of:

7.25% If an open-end investment company (a mutual fund) has adopted a 12b-1 plan, FINRA reduces the maximum permitted sales charge from 8.50% to 7.25%. If an open-end management company does not offer its shareholders breakpoints and rights of accumulation, it may not charge FINRA's maximum permitted sales charge of 8.50%. If the fund omits both of these features, FINRA reduces the maximum sales charge that may be imposed to 7.25%. Finally, competition among mutual funds has, in reality, reduced real-world sales charges well below the FINRA maximums for almost all mutual funds.

High-Yield Fund

A mutual fund that seeks to provide high current income by investing in high-yielding debt securities such as low rated or "junk" corporate bonds. These funds have greater risk than other income funds

In which type of underwriting does the underwriter have an obligation to buy the ENTIRE issue at a set price?

Firm commitment In a firm commitment underwriting, the underwriter agrees to buy the issue outright from the issuer; and will then resell it to the public at a higher price. The underwriter takes full financial liability for any shares that cannot be sold.

Which of the following statements concerning mortgage bonds are correct? I Mortgage bonds are secured II Mortgage bonds are unsecured III Mortgage bonds pledge the company's land and buildings as collateral. IV Mortgage bonds pledge the company's wholly owned subsidiary as collateral. A. I and III B. I and IV C. II and III D. II and IV

The best answer is A. A mortgage bond is a secured bond where the issuer pledges its property, plant and equipment (it gives a mortgage on these assets) as collateral for the bond issue. This reduces the issuer's interest cost. Utilities are large issuers of mortgage bonds, since pledging this collateral reduces the issuer's interest rate.

Today, a customer signed a Letter of Intent that was backdated for 60 days. From today, the customer will be able to make purchases to complete the Letter of Intent for what period of time? A. 11 months. B. 12 months C. 13 months D. 14 months

The best answer is A. The Letter of Intent (LOI) must be completed within a 13-month time window. Since the LOI was backdated for two months, the customer has 11 months to complete it.

In order to qualify for Subchapter M treatment as a regulated investment company, what minimum amount of its assets must a mutual fund invest in diversified securities? A. 50% B. 60% C. 80% D. 90%

The best answer is A. Aside from the requirement to distribute at least 90% of Net Investment Income to shareholders, other requirements for conduit tax treatment under Subchapter M include: •The company must file an election with the IRS; •The company must register under the Investment Company Act of 1940; •The company must derive at least 90% of its income from dividends, interest, and capital gains on portfolio securities; and •The company must have

All of the following terms apply to dealers EXCEPT: A. principal B. market maker C. agent D. mark-up or mark-down

The best answer is C. When a firm acts as a dealer, it is a principal in a transaction, buying the security into its inventory or selling it out of its inventory. Dealers are also called market makers. When dealers execute transactions for retail customers, they get to charge a mark-up when they sell to the customer; or a mark-down when they buy from a customer. In contrast, a broker is an agent that acts as a "finder" for the customer, finding the market maker with the best price. For this service, the broker earns a commission.

For any one year, what is the maximum amount that PARENTS(important word) can contribute to a 529 plan for a child without incurring gift tax liability? A. $10,000 B. $15,000 C. $75,000 D. $150,000

The best answer is D. Donors contributing to a 529 plan can make a 1-time lump sum contribution to a 529 plan equal to 5 years of contributions based on the annual gift tax exclusion of $15,000 (in 2019). Using the 5 year rule, each parent may contribute 5 times the annual maximum ($15,000 x 5) or $75,000. A couple could double that amount to $150,000 without gift tax consequences.

Which of the following statements about member firm business continuity plans are correct? I A registered principal in senior management must approve the firm's business continuity plan II The member firm must provide a written copy of the plan to each customer at the time an account is opened III The plan must tell customers how they will get prompt access to their funds and securities when the member cannot continue in business IV The plan must be posted on the member's Internet Web site and must be mailed to customers upon request A. I and II only B. III and IV only C. I, II and IV D. I, II, III, IV

The best answer is D. Every member must prepare a detailed business continuity plan to deal with possible business disruptions due to a calamity. A copy must be provided to customers at account opening; and the plan must be made available to customers upon request. The plan must be approved by a principal and must be reviewed and updated at least annually.

A mutual fund wishing to terminate a 12b-1 plan must obtain majority vote of the: A. fund officers B. shareholders and board of directors C. entire board of directors D. non-interested members of the board of directors

The best answer is D. Adoption of a 12b-1 plan requires majority vote of the shareholders and both the board of directors and non-interested directors (3 levels of approval). Termination of the 12b-1 plan requires only the majority vote of the non-interested members of the board of directors OR a majority vote of the outstanding shares (1 level of approval).

Which of the following statements concerning initial public offerings (IPOs) is correct? A. With IPOs, proceeds of the offering do not go to the issuer B. IPOs are offered OTC, rather than on an exchange C. IPOs only occur after a company's stock is publicly traded D. IPOs are usually large trades by an investment banking firm

The best answer is B. Initial Public Offerings are made OTC, in a managed offering where an underwriter manages the sale of the issue to the public. The net proceeds of the offering are received by the issuing company. Once the offering is completed, the underwriter "closes the books" on the deal and the shares are either listed on an exchange or trade OTC. Therefore, the IPO occurs before the shares are publicly traded, making Choices c and d incorrect.

Which of the following is available to purchasers of variable annuity contracts? A. The guarantee of a minimum growth rate in the separate account if a higher annual fee is paid for this rider B. The guarantee of payments for life if the purchaser chooses to take a lump sum distribution at retirement C. Tax deductibility of contributions made to the contract if distributions are not taken until age 59 1/2 or later D. Payments covering the lives of both a husband

The best answer is A. A "GMIB" - Guaranteed Minimum Income Benefit - is a rider that can be purchased in a variable annuity contract. It guarantees that the separate account will be annuitized based on a minimum annual growth rate (say 4% per year), regardless of how the investments in the separate account actually perform. This is a nice feature, but it comes at a cost of around 1% a year in additional fees. At retirement age (59 1/2 or later), distributions can be taken from the separate account without a 10% penalty tax (but tax on the build-up in the account must be paid). The customer can either take a lump sum distribution or can annuitize the separate account. With a lump sum distribution, the customer gets to deplete the account value and can do this in installments. The risk is that the customer depletes the entire account with many years left to live. This leaves the customer without an income stream in later life. If the customer annuitizes, he or she gets payments for life, but loses any value in the account if he or she dies early. A Life Annuity option only pays for 1 person's life, so if it were a Life Annuity on a husband, and he dies, the annuity stops and the surviving spouse gets no more payments. To cover both lives, a Joint and Last Survivor Annuity option must be chosen. Finally, annuity contributions are not tax deductible (these are non-qualified annuities). When distributions are taken after age 59 1/2, the portion of the distribution representing the tax-deferred build up in the separate account is taxable and the portion of any payment attributable to principal is a tax-free return of capital (since there was no deduction for the contribution amount).

Z Great Mutual Fund has a 12b-1 fee. Which of the following items can Z Great Fund charge to shareholders under this fee? I Concessions to sales agents II Sales literature III Management fees IV Sales loads A. I & II only B. II & III only C. I, II & III only D. I, II, III & IV

The best answer is A. SEC Rule 12b-1 permits a mutual to charge the cost of soliciting new investment into a fund to that fund's existing shareholders. The distribution expenses that the fund can charge to shareholders under a 12b-1 plan are: advertising; compensation of underwriters, dealers, and sales personnel; printing and mailing of prospectuses to anyone other than current shareholders; and the printing and mailing of sales literature. Note that up-front sales loads are not included under 12b-1 plans. These are a separate charge. Finally, management fees have nothing to do with the cost of soliciting new investment into the fund.

Which of the following statements concerning the variable annuity exchange privilege is correct? A. The exchange privilege allows an owner to shift investments without selling the annuity B. The exchange privilege is available only during the accumulation period C. The exchange privilege is available only during the annuity payout period D. Exercising the exchange privilege results in a taxable event for the owner

The best answer is A. The variable annuity exchange privilege allows an owner to shift an investment in one separate account to another separate account with a different investment objective without charge and without selling the annuity. An exercise of the exchange privilege does not result in a taxable event for the owner (but it is taxable if there is a mutual fund exchange). Note however, that a surrender is a taxable event. The exchange privilege is available during both the accumulation period and the annuity period.

A mutual fund may adopt all of the following names EXCEPT: A. The Federal Assurance Fund B. The Acme Accumulation Fund C. The Beta Bond Fund D. Gabriel's Growth Fund

The best answer is A. A mutual fund may not, in its name, state or imply any federal backing or guarantee. The Federal Assurance Fund (Choice (A)) does that. All other names are legitimate (if a bit corny) choices.

Henrietta James bought $3,000 of the Arbor Growth Mutual Fund which has a 5% front-end sales load. Ms. James decided to change her investment to a different fund. When she redeems 10 days after the purchase, what amount of sales charges will be refunded to her? A. 0 B. $50 C. $75 D. $150

The best answer is A. The mutual fund does not refund sales charges upon redemption for a single purchase in an open account purchase.

George is 65 years of age. Seven years ago, he purchased a variable annuity for $150,000. George elects to annuitize the variable annuity and accept a lifetime income. His life expectancy is 15 years and the account is currently valued at $250,000. The first annual payment is $19,000. How much of the first payment is taxable? A. $4,000 B. $9,000 C. $15,000 D. $19,000

The best answer is B. Each year George may exclude the portion of the annual payment received that is attributable to his cost basis. His aggregate cost basis is $150,000. This is divided by 15 (life expectancy), for an annual exclusion amount of $10,000. Since the first payment is $19,000, only $9,000 is taxable ($19,000 payment less $10,000 exclusion amount).

A variable annuity contract has an AIR of 5%. The performance of the separate account during the first month is actually 6% on an annualized basis; in the second period, the account performance is 4% on an annualized basis. The separate account's performance in the third month is 5% as well. A person who has annuitized his or her contract can expect that the: A. first, second, and third payments will be the same B. first payment will be the largest; the second payment will be lower; and the third payment will be the same as the second C. second payment will be larger than the first or third payments D. third payment will be the largest; the second payment will be lower; and the first payment will be the lowest

The best answer is B. Here is an example of how the assumed interest rate works relative to the actual performance of the separate account in determining the monthly annuity payment. (This example shows the annual return applied to the monthly payment for simplicity. In actuality, the return would be 1/12th of the amount shown.) Month 1: Assumed monthly payment $100 (based on account earning 5% AIR) Assumed interest rate 5%; Actual interest rate 6% Since the actual performance was 6%, the excess is 1% over the 5% AIR The first month's payment is increased by this excess and is now $100 + $1 = $101 This becomes the base for the next month's computation. Month 2: Assumed monthly payment $101 (based on account earning 5% AIR) Assumed interest rate 5%; Actual interest rate 4% Since the actual performance was 4%, the deficit is 1% under the 5% AIR The second month's payment is now $101 - $1 = $100. This becomes the base for the next month's computation. Month 3 Assumed monthly payment $100 (based on account earning 5% AIR) Assumed interest rate 5%; Actual interest rate 5% Since the actual performance was 5%, there is no adjustment to unit value. The third month's payment is now $100. This becomes the base for the next month's computation.

If a customer refuses to disclose income, net worth or other financial information when a representative makes a suitability determination, which statement is true? A. An account cannot be opened for the customer B. An account may be opened, but only unsolicited trades can be accepted from the customer C. An account may be opened, but only solicited trades can be accepted from the customer D. An account may be opened, and both solicited and unsolicited trades can be accepted from the customer

The best answer is B. If a customer refuses to disclose personal financial information that is requested during a suitability determination, then the account can be opened, but the representative cannot make recommendations to that customer. Only unsolicited trades can be accepted from such a customer.

Which of the following statements concerning the netting of short-term and long-term capital gains from sale of mutual fund shares are correct? I When a short-term gain exceeds a short-term loss, the investor reports a net short-term gain II When a short-term gain exceeds a long-term gain, the investor reports a net short-term gain III When a short term gain exceeds a long-term loss, the investor reports a net short-term gain IV When a long-term gain exceeds a short-term gain, the investor reports a net long-term gain A. I and II only B. I and III only C. II and IV only D. I, II, III, and IV

The best answer is B. Capital gains and losses are "netted" against each other for tax purposes. When a short-term gain exceeds a short-term loss, the investor reports a net short-term gain. When a short term gain exceeds a long-term loss, the investor reports a net short-term gain. When an investor has both a short-term and a long-term capital gain, the investor reports both the long-term and the short-term gains separately, since they are both taxable, but at different tax rates. There is no netting of a gain against a gain; or netting of a loss against a loss. Only gains and losses are "netted."

All of the following statements concerning the valuation of accumulation units are correct EXCEPT: A. the value of the accumulation units will increase if the assets in the separate account yield only 1% B. investment income and capital gains are used to buy additional accumulation units in the separate account C. additional premium payments by the owner will buy additional accumulation units D. accumulation units are the accounting measure used to show a person's ownership interest

The best answer is B. Accumulation units represent the purchaser's ownership interest (similar to investment value) in a deferred variable annuity contract. There are no accumulation units with an immediate annuity - only annuity units. The accumulation phase and annuity phase are two separate and distinct parts of an annuity contract. Once the annuity starts, any accumulation units will have been converted to annuity units - accumulation units no longer exist once the annuity starts making payments. Thus, the purchaser of an immediate annuity has all of his or her investment dollars used to purchase "annuity" units that start paying immediately. Additional payments into the contract (the premiums paid) buy additional accumulation units. If the assets in the separate account increase in value, the accumulation unit value will increase. Investment income and capital gains from the underlying mutual fund shares are automatically reinvested in additional mutual fund shares. They do not buy additional accumulation units in the separate account - rather, they increase the value of the existing separate account units owned.

All of the following statements regarding the income tax treatment of a variable life insurance policy during the life of the policy are TRUE EXCEPT: A. premiums paid are not tax deductible B. the owner may borrow all the cash value without tax consequences C. investment earnings grow tax deferred D. investments can be shifted between separate accounts without tax due

The best answer is B. Dividends, interest, and capital gains accumulate tax-deferred for the life of any insurance policy with an investment feature. This includes whole life, variable life, universal life, and variable universal life. Variable and variable universal life offer the advantage to policy owners that they can choose among investment options, so they can select investments compatible with their financial objectives. Investments can be shifted between separate accounts without any tax consequence as investment objectives and needs change. Policy owners may borrow only a portion of the cash value (typically 75-90%) of variable policies, not all of it, because the value of the securities held in the separate account can fluctuate. In contrast, 100% of cash value can be borrowed from a whole life or universal life policy.

Under FINRA rules, an open-end management company that does not offer its shareholders breakpoints and rights of accumulation may charge a maximum sales charge of: A. 6.25% B. 7.25% C. 8.00% D. 8.50%

The best answer is B. If an open-end investment company (a mutual fund) does not offer its shareholders breakpoints and rights of accumulation, it may not charge FINRA's maximum permitted sales charge of 8 1/2%. If the fund omits both of these features, FINRA reduces the maximum sales charge that may be imposed to 7.25%.

Which of the following are advantages of a mutual fund investment? I Each investor's shares are sent immediately to the investor for safekeeping II An investor can invest any dollar amount above a minimum purchase amount III Minimum purchases are generally in smaller amounts than for other investments IV Purchases are generally made in round lots as with other stock purchases A. I and II only B. II and III only C. III and IV only D. I, II, III, and IV

The best answer is B. Mutual funds do not issue physical share certificates to purchasers. Shareholder recordkeeping is done electronically, so account holders simply get statements. Purchases can be made in any dollar amount. There is no such thing as a "round lot trade" of 100 shares as there is with stocks. Whatever dollar amount is invested buys that amount of full and fractional shares. For example, a customer that invests $1,000 at an NAV of $15.50 per share will buy $1,000 / $15.50 = 64.516 shares. Minimum purchases for mutual funds are usually in smaller amounts than for other investments. For example, a GNMA mutual fund might require only $2,500 for the initial purchase, but a GNMA certificate would cost $25,000.

Which of the following statements concerning the "kiddie tax" rules are correct? I A child's unearned income is not subject to federal tax II A child who receives dividends from mutual funds in excess of a specified amount must pay tax at the gift and estate tax rate III A child who has only investment income may be subject to the kiddie tax rules IV A child's interest income from an UGMA account is not subject to the kiddie tax rules A. I and II only B. II and III only C. I and IV only D. III and IV only

The best answer is B. The "kiddie tax" is intended to stop parents from opening custodian accounts for their children as a way of "shifting" their income to their child, who is likely in a lower tax bracket. If the child is under age 18 and the account has substantial income, then the income in the account above $2,100 (in 2019) is taxed at the gift and estate tax rate schedule. The kiddie tax rules apply to unearned income received by a child under age 18. Unearned income includes all kinds of investment income such as dividends, and interest. Under the kiddie tax rules, a child who has unearned income above the specified amount must pay tax at the gift and estate tax rate schedule (which quickly goes up to 40%).

The SEC requires FINRA member firms to keep the records of original entry records for all transactions, the name of the security involved, the amount, and the account name. These records must be retained: A. for the first 2 years in the member's office and for the next year in storage B. for the first 2 years in the member's office and for the next 4 years in storage C. 6 years in the member's office D. indefinitely in storage

The best answer is B. The books and records of "original entry" (cash receipts and disbursements, securities received and delivered, and purchases and sales) must be retained for at least 6 years. For all records, the prior 2 years' worth must be kept readily accessible for audit by FINRA or the SEC. This means they should be kept in the member's office. After 2 years, they can be transferred into "dead" storage for the remaining 4 years of the total 6 year retention period.

Which statement is TRUE about interest income received from private activity revenue bonds? A. The interest income is taxable to investors in low tax brackets B. The interest income is a tax preference item included in the AMT C. The interest income is exempt from all Federal income taxes D. The interest income is subject to all Federal income taxes

The best answer is B. While the general rule is that municipal interest income is exempt from Federal income tax, any revenue bonds that are "private activity" issues such as Industrial Development Bonds, are subject to a form of Federal income tax called the "AMT" - Alternative Minimum Tax. The idea behind the AMT is that "creative" taxpayers with high incomes can take advantage of "tax preferences" included in the tax code to reduce their taxable income, often to almost nothing. The AMT tax takes these "tax preferences" and adds them back to that person's reported taxable income and then taxes the whole amount at a flat rate of 26-28%. Congress felt that municipal bonds that are not benefitting the public should be taxable; but they included their interest as an "AMT" tax preference item. Thus, the interest becomes taxable only to high-income taxpayers that use tax preferences to reduce taxable income and thus, that become subject to AMT.

Which statements are true about taxation of partial withdrawals from variable annuity contracts prior to annuitization and partial withdrawal from variable life insurance policies? I Partial withdrawals from variable annuity contracts made prior to annuitization are taxed on a LIFO basis II Partial withdrawals from variable annuity contracts made prior to annuitization are taxed on a FIFO basis III Partial withdrawals (surrenders) from variable life contracts made prior to payment of a death benefit are taxed on a LIFO basis IV Partial withdrawals (surrenders) from variable life contracts made prior to payment of a death benefit are taxed on a FIFO basis A. I and III B. I and IV C. II and III D. II and IV

The best answer is B. Withdrawals from variable annuity contracts prior to annuitization are taxed on a LIFO basis, while withdrawals from life insurance policies are taxed on a FIFO basis. LIFO taxation means that the first dollars out of a variable annuity contract are the tax-deferred build up (last-in dollars) and these are taxable as ordinary income. The last dollars out of a variable annuity contract represent the premiums paid (first-in dollars) - these are a non-taxable return of capital (since these are post-tax dollars - there was no tax deduction for the premiums paid). FIFO taxation means that the first dollars out of a variable life insurance contract represent the premiums paid (first-in dollars) - these are a non-taxable return of capital (since these are post-tax dollars - there was no tax deduction for the premiums paid). The last dollars out of the life insurance contract are the tax-deferred build up and these are taxable as ordinary income. So in this case, from the standpoint of taxation of withdrawals, insurance policies are the big winners!

Which of the following statements concerning a "no-load" mutual fund is correct? I The fund does not charge a front-end sales charge or a contingent deferred sales charge II The fund may sell its shares without a prospectus because shares are offered by direct mail and media advertising III The fund can charge annual 12b-1 fees to shareholders of no more than .25% of net assets IV The fund can charge annual 12b-1 fees to shareholders of no more than .75% of net assets A. I and IV B. I and III C. II and III D. II and IV

The best answer is B. A "no-load" fund cannot impose a front-end sales charge or a contingent deferred-sales charge on investors. However, FINRA rules permit it to charge annual 12b-1 fees of no are more than 1/4 of 1% of net assets (not 3/4% of net assets, which is the maximum permitted 12b-1 fee for "load" funds). All mutual funds must offer their shares with a prospectus, since every share is considered to be a "new issue."

A mortgage-backed pass-through certificate offers which of the following features? I Monthly payment of principal and interest II Semi-annual repayment of interest and repayment of principal at maturity III A maturity date that is known with certainty IV A maturity date that will vary depending on market interest rate movements A. I and III B. I and IV C. II and III

The best answer is B. A mortgage-backed pass-through security represents an undivided interest in a pool of mortgages. With a pass-through security, the pro-rata share of the monthly mortgage payments are "passed-through" to the certificate holder. Each monthly payment is a combined payment of principal and interest, just like the underlying mortgages. Homeowners have the right to prepay their mortgages, so if interest rates fall, the homeowners in the mortgage pool will pay off their "old" mortgages early - and these prepayments will be passed through to the certificate holders. Thus, the maturity of the issue is not known with certainty - it depends on future interest rate movements.

Contributions to a Coverdell Education Savings Account must cease when the beneficiary reaches the age of: A. 16 B. 18 C. 21 D. 30

The best answer is B. Contributions to a Coverdell Education Savings Account (formerly known as Education IRAs) must stop once the beneficiary reaches age 18.

Who sets the "ex" date and when is it set for mutual fund cash dividends? I Fund Board of Directors II NASDAQ III 2 business days prior to the record date IV 1 business day following the record date A. I and III B. I and IV C. II and III D. II and IV

The best answer is B. For dividends paid by mutual funds, the fund Board of Directors sets the "ex" date. For cash dividends, the date is set at the business day following the record date. Anyone who buys on the ex-date or later will not receive the dividend. Therefore, the price of fund shares is reduced on this date for the dividend that will no longer be received by the purchaser of the shares.

Which of the following statements concerning a contingent deferred sales charge are correct? I It is a redemption fee imposed when a customer sells mutual fund shares II It is a percentage that will usually increase over time III The sum of the contingent deferred sales charge and the front-end load cannot exceed 8½ % IV It is generally a permissible charge for no-load mutual funds A. I and II only B. I and III only C. II and III only D. III and IV only

The best answer is B. The contingent deferred sales charge is a redemption fee imposed when a customer sells mutual fund shares. The sum of the contingent deferred sales charge and any front-end load cannot exceed the 8½ % FINRA maximum. The contingent deferred sales charge decreases over time and is typically eliminated after holding the fund shares for 5-7 years. This gives the customer the incentive to hold the fund shares for that period and not to redeem them early. No-load funds have no front end loads and no CDSCs.

The compensation received by the underwriter for distributing mutual fund shares is called the: A. spread B. selling concession C. dealer fee D. broker's commission

The best answer is B. The underwriter is paid a selling concession out of the sales charge on mutual fund shares.

Which statements are true regarding variable annuities during the annuity phase? I Periodic payments of fixed dollar amounts are made II Periodic payments of varying dollar amounts are made III Payments are based on a fixed number of units IV Payments are based on a varying number of units A. I and III B. I and IV C. II and III D. II and IV

The best answer is C. Once the separate account interest is "annuitized," the accumulation units are converted into a fixed number of annuity units. Since the NAV of the underlying mutual fund shares held in the separate account will vary, each payment based on a fixed number of annuity units also varies (hence the term variable annuity).

Participants in a local government investment pool could include which of the following? I federal government units II counties III school districts IV state or local municipalities A. I only B. I and IV C. II, III, IV D. I, II, III, IV

The best answer is C. Participants in a local government investment pool may include state or local municipalities, counties, school districts, utility districts, and local government units. State laws or GIP rules and procedures govern the types of participants that can invest in a GIP. A federal government unit cannot participate in this state plan.

A customer places an order to buy 500 shares of ABC stock in a margin account. Which of the following statements are true about taking this order? I The customer must agree to receive the securities against payment on settlement date II The customer must accept a partial execution of the order III The customer has no claim against the firm if the order cannot be executed IV The customer must have the funds available to pay for the purchase amount prior to entry of the order A. I and II only B. III and IV only C. I, II, III D. I, II, III, IV

The best answer is C. When a customer places a buy order in a margin account, the customer agrees to pay the required deposit on settlement - there is no requirement for the funds to be on deposit before the order can be accepted. The customer also agrees to accept a partial execution if the member firm is unable to fill the entire order. In addition, the member firm may not be able to fill the order at all, in which case the customer has no claim against the member firm.

Which of the following are requirements for an open account with a mutual fund? I Periodic investments after opening account II Minimum amount to open an account III Minimum holding period IV Minimum amount for subsequent investments A. I and II only B. I and III only C. II and IV only D. I, II, III, and IV

The best answer is C. With a mutual fund open account, a customer is required to invest a low initial amount (of around $2,500), and subsequent investments are in lower minimum amounts (of around $50). There is no requirement for periodic investments after the account is opened, and there is no minimum holding period.

Brothers Joe and John have a joint account with tenants in common. Which of the following statements are true regarding the activities in the account? I Checks drawn on the account may be made out to Joe only or John only II Checks drawn on the account must be made out to both Joe and John jointly III Orders may be entered into the account by Joe only or John only IV Orders must be entered into the account by Joe and John jointly A. I and III B. I and IV C. II and III D. II and IV

The best answer is C. Any checks that are drawn on a joint account must be made out to the full name of the account - in this case checks are made out to both Joe and John. Orders in joint accounts can be entered by any single party - so Joe can enter an order or John can enter the order - they don't have to do this together.

If an investor holds a bond until the redemption date, the annualized yield is called the: A. Expiration yield B. Annuity yield C. Yield to maturity D. Average yield

The best answer is C. For a bond held to maturity, the annualized yield is the yield to maturity. This yield factors in the annual income earned plus any annual pro-rata gain if the bond was purchased at a discount or minus any pro-rata loss if the bond was purchased at a premium.

ABC Growth Fund, an open-end investment company established 10 years ago, currently has Total Net Assets of $300,000,000. The portfolio consists of $250,000,000 in various common stocks and $50,000,000 in debt securities. Under the Investment Company Act of 1940, the fund is permitted to borrow up to: A. $100,000,000 B. $125,000,000 C. $150,000,000 D. $600,000,000

The best answer is C. The Investment Company Act of 1940 allows open-end investment companies to borrow up to one-third of its NAV to leverage its portfolio. Neither the length of time the fund has been in existence nor the nature of its holdings will determine the amount a fund may borrow. If the fund borrows $150,000,000, its assets will then total $450,000,000 ($300,000,000 original holding plus $150,000,000 in new securities purchases). The total net assets of $450,000,000/$150,000,000 borrowing = 300% asset coverage ratio.

A customer buys 300 shares of ACCO fund at $5.00 per share. The NAV per share is $4.80. The fund charges a 4% sales charge. The customer's cost basis per share is: A. $4.61 B. $4.80 C. $5.00 D. $5.20

The best answer is C. The POP includes the 4% sales charge. The beginning cost basis is the amount paid by the customer, which is $5.00 per share. This includes $.20 of sales charge per share. When the customer redeems the shares, this is the cost that is used to determine any resulting capital gain or loss.

For a regulated investment company which distributes 95% of its net income, who bears the tax liability for that year? A. The fund only B. The shareholders only C. Both the fund and the shareholders D. Neither the fund nor the shareholders

The best answer is C. An investment company regulated under Subchapter M pays no tax on distributed income. The shareholders who receive the income bear the tax burden. However, the fund must still pay tax on any net income it does NOT distribute (retained income). In this example, the shareholders will be taxed on the 95% earnings distribution and the fund will be taxed on the 5% retained earnings. Subchapter M requires distribution of at least 90% of this net investment income, so a fund can retain up to 10% of earnings and still get "conduit" tax treatment. However, the fund must pay the income tax on any amount of earnings retained in that year.

A customer invests $1,000 in a money market fund. If the fund earns 10% over 1 year, the customer will now have: A. 1,000 shares at $1.00 each B. 1,000 shares at $1.10 each C. 1,100 shares at $1.00 each D. 1,100 shares at $1.10 each

The best answer is C. Money market funds account for their earnings in a different manner than all other mutual funds. Money market funds use a constant share value of $1 per share. If an investment of $1,000 is made, the investor gets 1,000 shares. If the fund earns 10% ($100), then the investor gets another 100 shares for a total holding of 1,100 shares at $1 each ($1,100 aggregate value). This is very different from the way that other mutual funds compute NAV. Earnings in other funds increase NAV per share. For example, if a customer invests $1,000 in a mutual fund with a current NAV of $1 per share, the customer will get 1,000 shares. If the fund earns 10% ($100), then the investor still has 1,000 shares, but each share now has a NAV of $1.10 ($1,100 aggregate value).

All of the following statements describe FINRA rules limiting sales charges on mutual funds EXCEPT: A. to impose an 8.50% sales charge, a fund must offer rights of accumulation, and volume discounts (breakpoints) B. a fund's sales charges may not exceed 7.25% if the fund has a 12b-1 fee C. a fund's sales charges may not exceed 8.50% of the net asset value D. a fund's sales charges may not exceed 7.25% if the fund does not offer breakpoints and rights of accumulation

The best answer is C. Sales charges are always expressed as a percentage of the offering price; not as a percentage of NAV, making Choice C incorrect. Under FINRA rules, to impose the full 8.50% sales charge, a fund must offer rights of accumulation and volume discounts (breakpoints). Sales charges greater than 8.50% of POP are not allowed. If a fund has a 12b-1 fee, the maximum sales charge is reduced to 7.25%. If a fund does not offer breakpoints and rights of accumulation using FINRA's schedules, then the maximum permitted sales charge is again reduced to 7.25%.

Which of the following securities must be registered in a state in order to be sold in that state? A. Mutual fund shares B. Initial public offering of a closed-end fund C. Initial public offering of a penny stock D. Variable annuity accumulation units

The best answer is C. State blue sky laws require registration of securities offerings in each state, in addition to SEC registration. The intent is to stop fraudulent stock offerings at the state level. Investment company offerings are not required to be registered in each state because they are already highly regulated; nor are shares of companies that are traded on recognized stock exchanges because they are reporting to the SEC and also are highly regulated. What is required to be registered at the state level are offerings of penny stocks and other risky securities that do not have an exchange listing.

Distributions from a non-qualified variable annuity separate account taken prior to age 59 1/2 are: A. non-taxable B. subject to regular income tax only C. subject to regular income tax plus a 10% penalty tax D. subject to capital gains tax plus a 10% penalty tax

The best answer is C. The "magic" age for any retirement plan, whether it is qualified or non-qualified, is 59 1/2. Distributions taken at age 59 1/2 or later are only subject to ordinary income tax rates. Distributions taken prior to age 59 1/2 are subject to ordinary income tax rates plus a 10% penalty tax. Also remember that 100% of the distribution from a qualified plan is subject to these tax rules; while a distribution from a non-qualified plan is only subject to taxation on the "build-up" portion (pre-tax dollars) and not on the portion of the distribution attributable to original investment (post-tax dollars).

A customer invested $4,000 in the ACME Balanced Fund at a POP of $27.50 per share. Sales charges were $200. The fund made dividend distributions of $150 and capital gains distributions of $75, and the customer reinvested his distributions. The customer sold the shares for $4,800. What cost basis should the customer use to calculate his capital gain on the shares? A. $4,000 B. $4,200 C. $4,225 D. $4,425

The best answer is C. The customer's cost basis begins with the purchase price of $4,000 which is the amount invested. This amount includes the sales charges. The reinvested dividends and capital gains increase cost basis. The adjusted cost basis is the $4,000 purchase price plus $150 of reinvested dividends plus $75 of reinvested capital gains for a total of $4,225. Note that if the dividends and capital gains were not reinvested, the cost basis would have stayed the same at $4,000.

Which statement concerning variable life insurance (VLI) is FALSE? A. The insurance company calculates the value of the separate account at the end of each day the NYSE is open B. The insurance company calculates the value of the policy's death benefit at least annually C. The typical policy has a minimum death benefit and a minimum cash value D. The policy's internal investment growth receives the same

The best answer is C. Variable life contracts promise a minimum death benefit. If the separate account performs better than expected, the death benefit will increase; if it performs worse than expected, the death benefit can decline, but will not fall below the promised minimum. Variable life contracts also promise a cash value, based upon the performance of the separate account. However, there is no minimum cash value guarantee. If the separate account performs better than expected, then the account will build cash value. If the separate account performs worse than expected, there may be no cash value. Separate account NAV is computed daily, as is the case with the underlying mutual fund. Because insurance coverage amounts vary with the performance of the separate account, the death benefit amount must be recomputed to reflect this at least annually. Investments held in both insurance company general accounts and separate accounts grow tax deferred, making Choice (D) true.

Marsha received payments for several years from a non-qualified variable annuity. At her death, her husband received a lump-sum payment. What settlement option had she selected with her annuity? A. Straight life annuity B. Joint and last survivor annuity C. Unit refund life annuity D. Second-to-die annuity

The best answer is C. With a unit refund life annuity, the insurer guarantees to pay a minimum number of annuity units. If the annuitant dies before this minimum payout, the beneficiary receives a lump-sum payment. With a joint and last survivor annuity, payments would continue as long as either spouse is alive and there is no lump sum payment. With a straight life annuity, payments continue only while the annuitant is alive and there is no additional payment to anyone after the annuitant's death. There is no settlement option with variable annuities comparable to the second-to-die life insurance policy.

Which of the following statements are TRUE regarding a Tax Sheltered Annuity (403(b)) being rolled over into an IRA? I The rollover must be completed within 60 days II There is a 20% withholding tax III This can only be done once a year IV The rollover must be completed within 120 days A. I and III B. II and IV C. I, II, III D. II, III, IV

The best answer is C. A rollover from a Tax Sheltered Annuity (403(b)) is similar to that of a rollover of any other retirement plan. One can rollover tax-free all or any part of a distribution from a 403(b) plan to a Traditional IRA. If a distribution is taken directly by check from the plan, only 80% is received since 20% must be withheld as a credit against taxes due if the rollover is not completed. The rollover must be completed within 60 days of the distribution date; and can be done only once per year.

Which of the following items are taxed at the same rates as long term capital gains? I Interest received from money market instruments II Interest received from bonds III Dividends received from common stocks IV Dividends received from preferred stocks A. I and II only B. II and III only C. III and IV only D. I, II, III, and IV

The best answer is C. Interest is taxed at the same rate as for ordinary income, which currently is a maximum of 37%. Dividends (whether common or preferred) and long-term capital gains are taxed at a maximum of 15% or 20% (15% for individuals who are not in the maximum tax bracket; 20% for individuals who are in the maximum tax bracket).

Which of the following statements concerning financial reports sent to mutual fund shareholders are correct? I A fund must send semi-annual reports with financial statements to shareholders II A fund must send shareholders an annual report that contains audited financial statements III A fund must send financial statements that include a balance statement, an income statement, and a valuation of the assets in the fund's portfolio IV A fund must send financial statements with a current prospectus to shareholders A. I and II only B. III and IV only C. I, II, III only D. I, II, III, IV

The best answer is C. Mutual funds must send their financial statements to shareholders semi-annually. They must be audited annually. The financial statements include an income statement; balance sheet (assets and liabilities); a listing of all fund holdings at current market value; and a statement that reconciles the difference between period-beginning net assets and period-ending net assets. Existing shareholders will not receive a current prospectus unless they request one. A prospectus is provided only when a purchase of fund shares is made.

A customer has contributed $100,000 to a variable annuity contract that has a current account value of $200,000. The customer has a life expectancy of 20 years. The customer wishes to annuitize. Which statements are true? I The customer has a cost basis of "0" II The customer has a cost basis of $100,000 III $5,000 will be an annual return of principal IV All payments will be 100% taxable A. I and III B. I and IV C. II and III D. II and IV

The best answer is C. Only distributions in excess of the customer's cost basis are taxable. The customer's basis is the total premiums contributed, or $100,000. The customer has a life expectancy of 20 years, so $100,000/20 = $5,000 of payments received each year are excluded from tax. Only annual amounts received in excess of the $5,000 are taxable.

Institutional Prime Money Market funds value their portfolios using which of the following? A. prime rate B. discount rate C. fixed NAV D. market-based factors

The best answer is D. Institutional Prime Money Market funds allow for a floating NAV. These funds value their portfolios using market-based factors and sell and redeemshares based on a floating NAV. These funds can no longer use special pricing and valuation conventions to maintain a constant share price of $1.00.

Z Greatest Mutual Fund distributes 86% of its net investment income. On which of the following will Z Greatest Mutual Fund pay federal income tax at corporate rates? A. None of the income, because Z Greatest is a Subchapter M fund B. 14% of the income C. 86% of the income D. All of the income

The best answer is D. Unless a regulated investment company distributes 90% of its net investment income, it will be taxed on ALL of its net investment income. Then, when any of the "after-tax" income is distributed to shareholders as a dividend, it is subject to income tax at the shareholder level as well. Because of this punitive tax treatment, every fund chooses to be "regulated."

The Shredder Mutual Fund expects to have long-term capital gains from its portfolio of technology stocks in each of the first three quarters of the year. How often can the fund distribute these capital gains? A. Monthly B. Quarterly C. Semi-annually D. Annually

The best answer is D. Under the Internal Revenue Code, mutual funds may distribute capital gains only once each year. They may make a supplemental distribution only to avoid an excise tax on undistributed income. The fund may distribute its net investment income as dividends at any time.

A fund's financial report includes which of the following? I Schedule of investments II Statement of assets and liabilities III Income and expense statement IV Statement of changes in net assets A. II and III only B. I, II and III only C. II and IV only D. I, II, III and IV

The best answer is D. A mutual fund must send its financial statements to shareholders semi-annually. These statements include an income statement; balance sheet (assets and liabilities); a listing of all fund holdings at current market value; and a statement that reconciles the difference between period beginning net assets and period ending net assets.

All of the following statements concerning FINRA functions are correct EXCEPT that FINRA oversees: A. the primary market for non-exempt securities B. trading of non-exempt securities in the secondary market C. the sale of investment company securities D. the trading of exempt securities in the secondary market

The best answer is D. FINRA - Financial Industry Regulatory Authority - is the SRO - self-regulatory organization, whose members consist of all registered broker-dealers in the United States. FINRA regulates the offering of all non-exempt securities made through broker-dealers, including new issues, investment company offerings and the trading of non-exempt securities. FINRA has no jurisdiction over exempt securities. For example, FINRA rules do not apply to government, agency or municipal securities.

What is the maximum amount that a customer will have available to invest from periodic income? A. Disposable income B. Assets minus liabilities C. Working capital D. Discretionary income

The best answer is D. The maximum amount that a customer will have available to invest from periodic income is his or her discretionary income. Discretionary income is Total Income less Expenses and Taxes. In contrast, Disposable income is Total Income less Taxes only. It is the income available to pay remaining expenses.

Which of the following statements concerning the wash sale rule are correct? I Wash sales to establish gains are subject to a 30-day limitation II The taxpayer can avoid the wash sale rule concerning losses by buying the same securities two weeks before selling them III Wash sales to establish losses are subject to a 30-day limitation IV The taxpayer can avoid the wash sale rule by buying the same securities 31 days before selling them A. I & II only B. I & IV only C. II & III only D. III & IV only

The best answer is D. The wash sale rule disallowing a loss deduction only applies to sales that give rise to a loss; it does not apply to sales that give rise to a gain! If an investor sells a security at a loss and then re-establishes that position within 30 days of the sale date (either before or after the sale date), then the loss deduction is disallowed because the IRS view is that there is no real change of ownership. To avoid the rule, simply wait for 31 days to buy back a security that was sold at a loss.

Which of the following statements concerning a dual purpose fund is correct? A. It allows new customers to select a single investment with an investment objective of income and growth B. It allows new customers to create their own fund of funds from any two or more funds C. It allows new customers to combine the benefits of passive index investing with active management D. It allows new customers to select shares with either an income objective or growth objective

The best answer is D. A dual purpose fund allows new customers to select either income shares or growth shares, but not both. Shareholders choosing growth get the capital gain distributions. Shareholders choosing income get the dividend distributions. After the choice is made, the shareholder really owns the equivalent of either a growth fund or an income fund. These are an obsolete fund type, but still should be known for the exam

The Total Return Chart found in a mutual fund prospectus: I shows Total Return on a before-tax basis only II shows Total Return on both a before-tax and after-tax basis III does not include a comparison to the performance of a relevant index IV does include a comparison to the performance of a relevant index A. I and III B. I and IV C. II and III D. II and IV

The best answer is D. The SEC requires a Total Return chart at the front of a mutual fund prospectus. It shows, for 1, 5 and 10 year periods, Total Return expressed as a percentage, on both a before-tax and after-tax basis and compares these fund return measures to the performance of a relevant index.

Which of the following operating expenses does the insurance company deduct monthly from the separate account for a variable life insurance policy? I Administrative fees II Policy rider fees III Mortality and expense risk fees IV Cost of insurance A. I and II only B. III and IV only C. I, II, III only D. I, II, III, IV

The best answer is D. The insurer deducts the sales load and premium taxes from the premiums of a variable life insurance policy before depositing the "net premium" to the separate account. It deducts a variety of costs from net assets, typically monthly. These monthly charges include: •Cost of Insurance: The amount charged for the cost of the actual insurance policy based on actuarial standards; •Administrative Expense Fee: Usually $10 - $15 per month to cover the "paperwork" costs of depositing the premium check and crediting it to the customer's account; •Mortality and Expense Risk Fee: A fee to cover the possibility that the insured's life expectancy might differ from the actuarial table and that expenses may increase at a faster rate than expected; •Policy Rider Charges: Another insurance charge for the cost of any alterations or "riders" placed into the insurance policy.

Reinvestment of cash dividends and capital gains will:

increase aggregate cost basis Aggregate cost basis is the valuation used to calculate resulting gain or loss if an entire mutual fund holding is redeemed. Cost basis must be adjusted upwards for reinvested dividends and capital gains; and downwards for returns of capital. For example, assume that a customer buys 100 shares of ACME fund at $20 per share, which includes any sales charge. The beginning aggregate cost basis is $2,000 (100 shares at $20 per share). There is no deduction or reduction for the sales charge paid. If the fund distributes $100 in dividends, these do not affect aggregate cost basis - they are taxable income. If the customer reinvests the $100 of dividends, these buy additional shares and the aggregate cost basis is increased from $2,000 to $2,100. If the fund distributes a return of capital (a very rare event), this is a reduction of cost basis. For example, if the fund distributed a $100 return of capital, the cost basis is reduced from $2,100 to $2,000. If the shares are now redeemed for $2,500, there is a $500 capital gain ($2,500 sales proceeds versus $2,000 adjusted cost basis).