Series 7 Unit 1

The amount paid into a defined contribution plan is set by A) the employee's age. B) the ERISA-defined contribution requirements. C) the trust agreement. D) the employer's profits.

C A defined contribution plan's trust agreement contains a section explaining the formula(s) used to determine the contributions to the retirement plan

When a customer, who is at least 59½, withdraws money from a traditional IRA that has been funded totally with deductible contributions, A) the entire amount withdrawn is subject to taxation at ordinary income tax rates with an additional 10% penalty. B) the basis is taxed as ordinary income, and the gains are taxed at the capital gains rate. C) the withdrawal causes the entire IRA balance to be subject to taxation at ordinary income tax rates. D) the entire amount withdrawn is subject to taxation at ordinary income tax rates.

D All withdrawals from a traditional IRA that has been funded with pretax contributions are subject to taxation at ordinary income tax rates. There is no 10% penalty once the account holder has reached age 59½.

A pension plan might invest in each of the following except A) variable annuities. B) tax-free municipal bonds. C) equities. D) corporate bonds.

B It is inappropriate to place tax-free investments into a tax-deferred plan because there is no benefit to the deferral.

Section 408 of the Internal Revenue Code set the minimum age requirement to establish an IRA at A) 21 years. B) 18 years. C) no minimum. D) the age of majority in the individual's state of residence.

C There is no minimum age requirement to establish an IRA. However, to be eligible to make an IRA contribution, you must have earned income such as wages or tips. As with any IRA, that earned income must equal or exceed the amount of your IRA contribution.

Under ERISA, all of the following retirement plans must set standards for vesting, eligibility, and funding except A) profit-sharing plans. B) corporate pension plans. C) Keogh plans. D) deferred compensation plans.

D Deferred compensation plans are not qualified plans and may be discriminatory. Keogh, profit-sharing, and corporate pension plans must meet set standards for vesting, eligibility, and funding under ERISA.

Perhaps the most important thing to understand when a business is organized as a sole proprietorship is that A) all profits are taxed at business level, which will likely lower overall taxes. B) all losses are taxed to the sole proprietorship. C) this type of business mode is best for raising large amounts of money. D) the owner is liable for all the debts of the business.

D

Two friends would like to open a joint account but have the tax filed under the name of the nonemployed individual. That could be done in A) an account opened as a partnership. B) a tenants in common account with the percentage ownership in the name of the designated person. C) a joint account with a TOD designation. D) a JTWROS account with the Social Security number of the designated person used. Explanation

D. In a JTWROS account, the assets are considered jointly owned. Only one tax identification number (Social Security number) is placed on the account. If it is the number of the nonemployed individual, the Form 1099 will go to that person and that is whom the IRS will expect to pay the taxes. That might be the correct answer to a test question. In the real world, it might not satisfy the IRS that the one in the lower tax bracket is being credited with all the income and gains. If the IRS audits the account and sees that the funds came from the working individual, there could be tax issues. However, the exam does not always deal with the real world and we won't either on this one.

To comply with the regulations regarding customer identification programs, the minimum identifying information that must be obtained from each customer before opening an account includes which of the following? Their name Oral assurance that the customer is of legal age A street address, unless the primary mailing address is a post office box located in the state of residence A taxpayer identification number

their name and takpayer Id Oral assurance that the customer is of legal age is not sufficient; the actual date of birth must be obtained. A post office box is never acceptable without a physical address. In addition, the identity of the person opening the account must be verified through documentation such as an unexpired drivers license or passport.

Obtaining all of the following complies with the regulations regarding customer identification programs except A) post office box, instead of a physical address, if it is the primary mailing address. B) taxpayer identification number. C) date of birth. D) name.

A

A customer asks your advice regarding a deferred compensation plan at work. You should state that A) deferred compensation plans may be somewhat risky because the employee covered by the plan becomes a general creditor if the business fails. B) if they sit on the board of directors and are also an employee of the company, they are not eligible for the plan. C) deferred compensation plans usually benefit younger employees because the money in the plan has more time to grow prior to retirement. D) if the business fails, the employee is considered a secured bondholder in terms of liquidation priority and getting paid back.

A If the business fails, the employee can lose everything they put in the plan. The participant will become a general creditor of the company and will be on the same level as unsecured bondholders in the liquidation priority.

One of your customers has maintained a traditional IRA for the past 15 years. Some of her annual contributions were not tax deductible due to her income level and participation in another qualified plan. At age 60, the customer elects to make a lump-sum withdrawal. Which of the following statements is true? A) The entire withdrawal is taxable as ordinary income. B) The portion representing principal from the nondeductible contributions is tax free, while the balance is taxable as ordinary income. C) The portion representing earnings from the nondeductible contributions is tax free, while the balance is taxable as ordinary income. D) The portion representing earnings and principal from the nondeductible contributions is tax free, while the balance is taxable as ordinary income.

B All earnings, whether from deductible or nondeductible contributions, are tax deferred. Therefore, all earnings are taxable as ordinary income upon withdrawal. Only the nondeductible contribution is returned tax free.

All of the following are true regarding nonqualified deferred compensation plans except A) employees may use accumulated funds as collateral for a bank loan. B) IRS approval is not needed for deferred compensation plans. C) income taxes on compensation are not due until constructive receipt. D) the plans need not be offered to all employees.

A. Deferred compensation is a promise made by an employer to defer a certain amount of an employee's salary upon retirement. The employee has no right to the money until retirement, death, or disability, and thus cannot use it as collateral.

All of the following statements regarding a qualified pension plan are true except A) growth in the account is tax free. B) it must comply with nondiscrimination rules. C) it requires advance approval from the IRS. D) it must cover all of its eligible employees.

A. Growth in qualified pension plans, as well as other qualified plans, is tax deferred, not tax free. All growth is taxable at the time of distribution.

An employee of a firm registers to open an account at another member firm. Under FINRA rules, all of the following statements are true except A) the employing member firm must receive duplicate statements and confirmations if requested in writing. B) the employing member firm must be notified, in writing, of the intent to open the account. C) the employee must receive prior written permission from the employing member firm. D) FINRA must receive duplicate statements and confirmations for each transaction.

D Under FINRA rules, the employing member must be notified, in writing, of the prospective account and must give prior written approval before the account can be opened. It must be provided with duplicate statements and confirmations only if it makes a written request. There is no requirement that FINRA be either notified or provided with duplicate statements and confirmations.

It is generally understood that the least complicated employer-sponsored retirement plan is the Savings Incentive Match Plan for Employees (SIMPLE). These plans tend to have certain restrictions. Among them are the restriction that A) there must be fewer than 100 employees who earned at least $5,000 during the preceding calendar year. B) the catch-up provision for those 50 and older is limited to $1,000. C) employer matching contributions are made with after-tax funds. D) the business cannot have another retirement plan in place.

D To institute a SIMPLE plan, the business cannot have any other retirement plan in place. The limit is 100 or fewer, not fewer than 100. The catch-up provision is $3,000, and both employee and employer contributions are made with pre-tax funds.

All of the following securities would be suitable investments for a traditional IRA except A) AAA rated municipal bonds. B) blue-chip common stocks. C) A rated corporate bonds. D) AAA rated U.S. government agency bonds.

A Municipal bonds, which generate tax-free interest income, are unsuitable for retirement plans. One loses the federally tax-free income at distribution.

Which of the following would be considered an inappropriate investment for your client's traditional IRA? A) A unit investment trust whose portfolio consists solely of tax-free municipal bonds B) A valuable collection of rare postage stamps C) A taxable municipal bond D) A mutual fund whose portfolio consists solely of shares of over-the-counter stocks

A Tax-free bonds, whether purchased individually or through a mutual fund or UIT, are considered inappropriate investments because the tax-free benefit is lost. On the other hand, taxable municipal bonds benefit from the tax deferral offered in an IRA. What about the stamp collection? That is an ineligible investment, not merely inappropriate.

One concern that FINRA has with fee-based accounts is that they might lead to A) reverse churning. B) higher commissions. C) churning. D) over-trading.

A Churning is the practice of over-trading an account, resulting in higher commissions. Reverse churning occurs when a client in a fee-based account pays more in fees than would be paid in a commission-based account. This is generally the case when the customer trades infrequently.

Under FINRA's rules governing the activities of member broker-dealers, prior notification to the employing firm and prior written consent from the employing firm would be required to open a brokerage account for all of the following except A) a registered representative of another member opening a 529 plan. B) a clerical employee of another member opening a margin account. C) an officer of another member firm opening a cash account. D) a registered representative of another member opening an options account.

A FINRA requires prior written notification be made and prior written consent be received before any employee can open a brokerage account with other members or financial institutions. Exceptions include accounts where the only activity will be in 529 plans, mutual funds, or variable annuities.

Services offered by prime brokers include all of the following except A) complying with FINRA's advertising rules. B) processing transactions. C) providing back office support. D) supplying clearing services.

A Prime brokers provide services primarily to institutional investors. They have nothing to do with that institution's advertising. They do supply clearing services, lending services for marginable transactions, as well as back office support including cash management, account statements and transaction processing.

When a broker-dealer sends a communication to its customers that the sweep account used for customer credit balances will be changed from one money market fund to a different one, the communication must include A) a tabular comparison of the nature and amount of the fees charged by each fund. B) a statement that the change will not take place until at least 45 days after the communication was sent. C) a description of the objectives of the new fund and its prospectus. D) a detailed explanation of the reason for the change.

A. The only one of these meeting FINRA's requirement when a negative response letter is sent is the tabular comparison. While a description of the new fund and its prospectus is required, the communication must also include a comparison of the objectives of the two funds. The minimum time is 30 days (not 45) and there is no requirement to include an explanation.

A 45-year-old employment counselor has a savings incentive match plan for employees (SIMPLE) plan for herself and three full-time employees who have been working for her for the past four years. If she earns $150,000 this year and contributes the maximum amount allowed to her SIMPLE plan, how much may she invest in a traditional IRA? A) She may contribute 100% of earned income or the maximum allowable IRA limit, whichever is less. B) She may not have an IRA. C) She may invest any amount up to 100% of his earned income. D) She may have an IRA but may not make a contribution for this year.

A Regardless of how much is invested in a SIMPLE IRA through work, an investor may still invest in an IRA if she has earned income. The maximum contribution to an IRA is 100% of earned income or the maximum allowable limit, whichever is less. In this individual's case, however, the contribution would probably be nondeductible. Please note this reflects the SECURE Act which removed any age restriction on contributions to a traditional IRA.

A 40-year-old individual who is covered by an employer-sponsored retirement plan wants to save more for retirement. Which of the following is the most suitable recommendation? A) A Roth IRA, as long as the individual's income level does not exceed the maximum allowed to make a contribution (phase-out schedule) B) A traditional IRA, as there will be no limit to the amount of the contribution that can be deducted C) A hedge fund utilizing high-risk, high-potential yield strategies D) An investment account utilizing only tax-free municipal bond mutual funds

A Given the limited information, the Roth IRA is the most suitable as long as the investor's income level, due to the phaseout schedule, does not limit what can be contributed to the IRA. Dollars invested will grow, and distributions will be tax free as long as the dollars have been in the account for five years once the IRA owner has reached age 59½. Because the individual is covered by an employer-sponsored plan, we know that the contribution to a traditional IRA may not be fully tax deductible, if at all, and the earnings would be taxable when distributed. Growth in an investment account would be taxable, and the utilization of tax-free municipal bonds with low yields are unlikely to accommodate saving for retirement. Hedge funds utilizing high-risk investment strategies are inappropriate for retirement saving.

Your customer, age 60, is retired and living at home with a fully paid-off mortgage. Her portfolio contains growth stocks and high-quality bonds, and she is a long-time investor and comfortable with moderate risk. Her objective is a moderate level of current income to supplement her corporate pension plan distributions and the earnings from her traditional IRA. How are the distributions taxed from her IRA? A) If the IRA has been owned for more than one year, the distributions are long-term capital gains. B) All taxable distributions from a traditional IRA are taxed as ordinary income. C) If a security is sold for more than it was purchased for, the distribution of the profit is taxed as a capital gain. D) The distribution is taxed as either ordinary income or capital gains, depending on the source of the distribution.

B All taxable distributions from a retirement account, including IRAs, are taxed as ordinary income, not capital gains.

A businessman owns a small incorporated manufacturing company. Comfortable with the risks associated with the equity markets, the owner lays out an objective to save for retirement and provides a plan in which employees can contribute to save for retirement as well. Which of the following options is the best choice to suitably meet the objective? A) 403(b) plan B) 401(k) plan C) Section 529 plan D) Traditional IRA

B For a company incorporated in the private sector, a 401(k) (a defined contribution) plan will meet the objective. 403(b) plans (tax-sheltered annuities) are used in the public sector (i.e., educational institutions, tax-exempt organizations, and religious organizations), and therefore, are not suitable here. IRAs are plans that individuals can set up for retirement saving, and Section 529 plans are specifically designed to allow for education saving.

Greater Growth Capital (GGC), a FINRA member firm, has just been acquired by Better Retirement Outcomes (BRO), a much larger FINRA member. If GGC would like to effect a bulk transfer of its customer accounts using a negative consent procedure, FINRA rules A) prohibit GGC from charging a fee to any existing GGC customers who elect to transfer their accounts to BRO, but permit a nominal charge if the customer wishes to transfer to another member firm. B) prohibit GGC from charging a fee to any existing GGC customers who decide to transfer their accounts to a different firm. C) require that GGC send a notice to each affected customer at least 60 calendar days before it effects the bulk transfer. D) require GGC to obtain affirmative written consent before transferring a customer's account to BRO.

B In the case of a bulk transfer, such as when a member firm is acquired by another member, some customers may wish to opt out of the transfer. In those cases, it is prohibited for them to be charged any fees for transferring their accounts to another member firm. This is true only if the customer opts out during the allowable time period, which is 30 calendar days, not 60. The FINRA rule permits negative consent as long as the requirements are met.

A customer wants to be a day trader but is interested in the term pattern day trader and asks you to define the term. You state that all of the following are true of pattern day traders except A) they must have a minimum of $25,000 of equity in their account on any day in which trading occurs. B) the buying power in margin accounts is the same as for other customers. C) in a margin account the minimum maintenance requirement is 25%. D) they make four or more day trades in a five-business day period.

B Pattern day traders are also treated differently when it comes to buying power. Buying power for day traders is four times the maintenance margin excess. Maintenance margin excess is defined as the equity in the account above the 25% minimum requirement. For regular customers, buying power is double SMA.

The owner of an IRA, age 45, has contributed $10,000 into the account and the IRA is now worth $20,000. The owner is going to convert the entire $20,000 into a Roth IRA. What are the tax consequences of this conversion? A) $10,000 will be taxable as ordinary income, and $10,000 will be taxed as a capital gain; in addition, there will be a $2,000 tax penalty for early withdrawal. B) The $20,000 is taxable as ordinary income in the year of the conversion. C) The $20,000 is taxable as ordinary income, but there is a $2,000 tax penalty for early withdrawal. D) $10,000 will be taxable as ordinary income, and $10,000 will be taxed as a capital gain.

B When converting from a traditional IRA to a Roth IRA, the distribution is all taxed as ordinary income in the year of the conversion. There is no 10% tax penalty if the conversion is done prior to age 59½.

One of your customers is a self-employed insurance agent specializing in long-term care insurance. She employs her eight-year-old daughter to perform certain clerical duties, such as filing and mailing. The daughter's hourly wage is competitive with industry standards. Your customer asks about her daughter's eligibility for a Roth IRA. The proper response is A) the daughter can open the account only if her parents' income does not exceed the Roth limit. B) as a self-employed person, the mother would have to open a Keogh plan and then cover her daughter. C) because the daughter has earned income, she may contribute up to 100% of that or the current limit. D) no child under the age of majority may open any IRA.

C Any natural person, of any age, can open a Roth IRA as long as they meet two requirements. The first, as with any IRA, is that the person must have earned income. The second is that the income must not exceed certain limits. The daughter's hourly wage is evidence of meeting the earned income requirement. We do not know the amount of the wage, but it is highly unlikely that a competitive wage for a clerical worker, regardless of age, is going to exceed the Roth limits. This is an example of the test-taking tip of not reading anything into a question to make it more complex.

Under what circumstances would the fiduciary of a qualified corporate retirement plan be permitted to write covered calls on the securities in the portfolio? A) If specifically approved by the SEC B) Under no circumstances C) If this strategy is consistent with the objectives of the plan D) If specifically approved by the covered employees

C As covered calls are not considered to be a speculative option strategy, they would be permitted as long as the strategy is deemed prudent and is consistent with the objectives of the plan. No outside approval is required.

Your customer has contributed $1,000 annually into her Roth IRA for seven years. Which of the following statements concerning her Roth IRA distributions is true? A) The distributions are taxed as ordinary income. B) She will pay ordinary income taxes on the part of the distribution that represents earnings. C) She will not be taxed on the distributions if she is over age 59½ and the money has been held in the account for five years beginning with the first tax year for which a contribution was made to any Roth IRA established for her. D) The distributions are taxed as capital gains.

C Distributions from Roth IRAs made after age 59½ are tax free if the money was in the account for five years beginning with the first tax year for which a contribution was made to any Roth IRA established for the individual. Contributions to Roth IRAs are made with after-tax dollars.