Chapter 3 SIE

Question 1

Market order

Answer 1

buy or sell, executed immediately at the best available market price

The fastest way to get an execution since the investor is not price sensitive.

These at market orders should not be used if the security in question is illiquid. In that case limit orders might be the better choice.

Question 2

limit order

Answer 2

buy or sell, limits the acceptable purchase or selling price paid or received for the securities.

Come with inherent risk. The risk is that the market may never go as low as the buy limit designated on the order, or as high as the sell limit designated on the order. As a consequence it is possible that the order will never be executed.

stand in time priority. There may be multiple orders to buy stock at a particular price. Once the stock begins trading at that price, those limit orders that were entered first will be filled first.

Question 3

for a buy limit order, or better means at the limit price or

Answer 3

lower

Question 4

for a sell limit order, or better means at the limit price or

Answer 4

higher

Question 5

buy limit order buy 1000 shares of xyz at 32

Answer 5

this order could only be executed to purchase xyz at 32 or better. because this is an instruction to buy, or better would be lower. therefore it would need to be executed at 32 or lower

Question 6

sell limit order sell 1000 shares of xyz at 32

Answer 6

this order could only be executed to sell xyz at 32 or better. Because this is an instruction to sell, or better would be higher. therefore it would need to be executed at 32 or higher.

Question 7

stop order

Answer 7

buy or sell a stop order does not become a “live” working order in the marketplace until the stock trades at or through a specified stop price, the order becomes a market order, and like any other market order, it should be executed immediately at the best available price.

Question 8

xyz cmv = 12

Order: buy 2000 shares xyz at 15 stop

Answer 8

as soon as xyz trades at or through the stop price of 15, this order will become a live working market order, and like all market orders, will be executed at the next available price.

Question 9

Stop limit order

Answer 9

Buy or sell, this order type also has a stop price and does not become a “live” working order until the stock trades at or through the stop price. However it also has a limit price, so once the order is triggered by the stock reach the specified stop price, the order becomes a limit order to buy or sell at a specified limit. Like any other limit order, it may or may not be executed depending on where the price of the stock is.

Question 10

day order

Answer 10

Unless marked to the contrary, an order is assumed to be a day order, valid only until the close of trading on the day it is entered. If the order has not been filled(executed in full), it is canceled at the close of the day’s trading. Keep in mind that while market orders should be filled immediately, this is of more importance with limit orders.

Question 11

good till canceled order

Answer 11

are valid until executed or canceled. However, all gtc orders are automatically canceled if unexecuted on the last business day of April and the last business day of October. If the customer wishes to have the order remain working beyond those specific days, the customer must reenter the order.

Question 12

market at open or market on close order

Answer 12

these are market orders designed to be executed at the opening of the day or at the close of the day. Depending on the market (exchange or otc) the order is being sent to, the customer is not guaranteed the exact opening or closing price but instead a price at, or close to, the first or last price of the day.

Question 13

Fill or kill order

Answer 13

Applicable to limit orders, this is an instruction to fill(execute in its entirety) the order immediately or kill(cancel) the order completely. In this light there can’t ever be a partial execution

Question 14

all or none order

Answer 14

must be executed in their entirety or not at all. AON orders can be day orders or good till canceled orders. They differ from Fill or Kill in that they do not have to be filled immediately. In other words, they can be held until the end of the day(for day orders) or beyond for gtc orders until they can be filled in their entirety.

Question 15

bid price and ask(offer) price

Answer 15

the current bid price for a security is the highest price anyone is willing to pay for the securities at that moment in time. The current ask( offer) price is the lowest price that anyone is willing to accept to sell the securities at that moment in time.

Question 16

all quotes maintained in active markets, like the stock exchange are

Answer 16

dynamic and change constantly throughout the trading day.

Question 17

spread

Answer 17

difference between the bid and the ask price.

Question 18

agent

Answer 18

if the firm acts as an agent, it is a broker acting on behalf of its customer to buy or sell securities in the market. The rm is paid a commission when acting as an agent.

agent=broker=commission

Question 19

principal

Answer 19

If the firm is acting as a principal, the firm is buying into or selling out of, its own inventory to accommodate its customer. In this capacity, the firm is a dealer and will mark up the securities it is selling out of its inventory or mark down the securities it is buying into its inventory, rather than charge the customer a commission.

principal=dealer=markup or markdown

Question 20

buy in an open position=

Answer 20

long= bullish

Question 21

sell to open a position=

Answer 21

short= bearish

Question 22

naked short selling

Answer 22

Selling a stock short without first borrowing the shares or confirming a location where the shares can be borrowed from

this is a violation

By contrast, if the shares have been properly borrowed or they have been located (and therefore, it is known they can be borrowed), the short seller can now move forward and sell short. These shares, because they have already been borrowed or located to be borrowed, are known to be covered.

Question 23

whats a discretionary account

discretion is defined as the authority to decide

Answer 23

what security

An account set up with preapproved authority for an RR to make transactions without having to ask for speci c approval is a discretionary account.

the number of shares or units

whether to buy or sell

Discretion does not apply to decisions regarding the timing of an investment or the price at which it is acquired only.

Question 24

A customer can give discretionary power over his account(s) only by filing a

Answer 24

trading authorization or a limited power of attorney with the bd

Question 25

solicited order

Answer 25

A transaction initiated by an agent or RR is known as a solicited transaction.

Question 26

unsolicited order

Answer 26

those initiated by the customer.

Question 27

order tickets should be marked ether

Answer 27

solicited or unsolicited

Question 28

ordinary income

Answer 28

Ordinary income can be de fined as the income earned from interest, wages, rents, royalties, and similar income streams. Ordinary income is taxed at different rates depending on the amount of income received by a taxpayer in a given tax year. The IRS divides ordinary income into tax brackets.

Question 29

capital gains

Answer 29

Capital gains are usually associated with the sale or exchange of property, including securities. The category of capital gain taxation is further broken down into long-term and short-term capital gains. If an asset is sold within one year (12 months or less) of its purchase, the gain is considered to be a short-term gain, and it will be taxed at the same rate as the taxpayer’s other ordinary income. Therefore, for short-term capital gains, the tax rates are the same as the taxpayer’s ordinary income. However, if the asset is held for more than one year, the gain is considered to be a long-term capital gain, and is taxed at a favorable long-term rate.

Question 30

dividends

Answer 30

are distributions of a company’s profits to its shareholders. Investors who buy stock or mutual funds, for example, are entitled to dividends if and when the board of directors (BOD) votes to make such distributions. Shareholders are automatically sent any dividends to which their shares entitle them.

Question 31

cash dividends

Answer 31

Cash dividends are normally distributed by check if an investor holds the stock certi cate, or they are automatically deposited to a brokerage account if the shares are held in street name (held in a brokerage account in the rm’s name to facilitate payments and delivery). When declared, cash dividends are typically paid quarterly and are taxed in the year they are distributed.

Question 32

stock dividends

Answer 32

If a company wishes to reinvest its pro ts for business purposes rather than to pay cash dividends, its BOD may declare a stock dividend. This is typical of many growth companies that invest their cash resources in research and development. Under these circumstances, the company issues additional shares of its common stock as a divi- dend to its current stockholders instead of cash. The net result is that the shareholder now owns more shares after the distribution. but the cost per share is adjusted downward. The stock dividend itself is not taxable, but the adjusted cost per share (new cost basis) will impact the tax consequences when the shares are sold.

Question 33

There are four dates to remember that are associated with the dividend disbursing process:

Answer 33

derp

declaration date
ex-dividend date
record date
payable date

Question 34

declaration date

Answer 34

When a company’s BOD approves a dividend payment, it is recognized as the date the dividend was declared. At this time, the BOD would also designate the payment date and the dividend record date, discussed as follows.

Question 35

ex-dividend date

Answer 35

on the basis of the dividend record date, FINRA or the exchange (if the stock is listed) posts an ex-date. The ex-date is one business day before the record date. Because most trades settle the regular way—two business days after the trade date—a customer must purchase the stock two business days before the record date to qualify for
the dividend. Or said another way, to receive the dividend, the stock must be purchased
before the ex-dividend date.
— Conversely, if the stock is purchased on or after the ex-date, the new owner has pur- chased the stock “ex” without the dividend, and is therefore not entitled to receive it.

Question 36

record date

Answer 36

The stockholders of record (those who own the stock) on the record date receive the dividend distribution.

Question 37

payable date

Answer 37

On the payable date, the dividend disbursing agent sends dividend checks to all stockholders whose names appear on the books as owners as of the record date.

Question 38

declaration, record and payment are determined by

Answer 38

the BOD

Question 39

the ex dividend dat is determined by

Answer 39

finer

Question 40

interest

Answer 40

is the income paid to those who purchase debt securities—bondholders. It is generally stated as a percentage of face value (a.k.a. par value) on an annual basis. Interest is taxed as ordinary income.

Question 41

capital gain

Answer 41

occurs when a security is sold for a price higher than the cost basis.

Question 42

capital loss

Answer 42

If the selling price is lower than the cost basis

Question 43

upon liquidation, cost basis represents

the cost basis is not taxed

Answer 43

a return on capital

as a gain, but any sales proceeds above cost basis would be

Question 44

index funds

Answer 44

Some mutual funds are created to track a particular index. These types of funds do not attempt to beat the market, but simply try to match the performance of a given index. Index funds are usually a lower cost for investors and have far less portfolio turnover when compared to actively managed funds.

Question 45

trade settlement

Answer 45

The date a transaction occurs is known as the trade date. Settlement date, on the other hand, is the date on which ownership actually changes between the buyer and seller. It is the date on which BDs are required to exchange the securities and funds involved in a transaction and customers are requested to pay for securities bought and to deliver securities sold.

Question 46

regular way settlement

Answer 46

In the securities industry, it is FINRA’s Uniform Practice Code (UPC) that standardizes the dates and times for each type of settlement. Regular way, as its name suggests, is the regular way that securities transactions settle after the securities trade. Regular way settlement for most corporate securities (equity and debt) transactions is the second business day (holidays and weekends are not settlement days) following the trade date, known as T + 2.

Question 47

t+2 for

Answer 47

corporate securities, municipal bonds, government agency securities

Question 48

t+1

Answer 48

federal government securities

like T bills notes and bonds, and options

Question 49

same day as trade for

Answer 49

money market securities

Question 50

cash settlement

Answer 50

Cash settlement, or same-day settlement, requires delivery of securities from the seller and payment from the buyer on the same day a trade is executed. Stocks or bonds sold for cash settlement must be available on the spot for delivery to the buyer. Both parties to the transac- tion would have to agree for cash settlement to occur.

Question 51

sellers option

Answer 51

A seller’s option contract lets a customer lock in a selling price for securities without having to make delivery on the second business day. Instead, the seller can settle the trade as speci ed in the contract. Or, if the seller elects to settle earlier than originally speci ed, the trade can be settled on any date from the fourth business day through the contract date, provided the buyer is given a one-day written notice. A buyer’s option contract works the same way, with the buyer specifying when settlement will take place.

Question 52

Seller’s or buyer’s settlement option cannot take place any sooner than

Answer 52

the trade date plus three business days (T + 3)

Question 53

physical certificate

Answer 53

When securities are issued with physical paper certi cates (bonds or shares), it is those certi cates that would be required for physical delivery. Certi cates must be endorsed by all owners to constitute a good delivery.

Question 54

book entry

Answer 54

some securities are sold without a physical certi cate. In those instances, evidence of ownership is kept on record at a central agency. For example, earlier, we noted that government securities issued by the U.S. Treasury are all issued in book-entry form, meaning that no physical securities (paper certi cates) exist. Transfer of ownership is recorded by entering the change on the books or electronic les.

Question 55

forward split

Answer 55

A forward stock split increases the number of shares and reduces the price without affect- ing the total market value of shares outstanding; an investor will receive more shares, but the value of each share is reduced. The total market value of the ownership interest is the same before and after the split.

Question 56

even split

Answer 56

the investor will always be given a certain number of shares for each share owned: 2 for 1, or 3 for 1, for example.

Question 57

uneven split

Answer 57

n an uneven split, the split can be designated in any ratio: 3 for 2, or 5 for 4, for example.

Question 58

reverse split

Answer 58

Sometimes, a stock price becomes so low that it attains an undesirable aura about it. In some cases, a low stock price might not meet the listing criteria of a stock exchange that it is listed on and delisting can occur. To combat these issues, one corporate action that can be taken, strictly related to the price of the stock, is a reverse stock split. Unlike a forward split where the number of shares is increased and the price per share is decreased, a reverse split has the opposite effect on the number and price of shares. After a reverse split, investors own fewer shares worth more per share.

Question 59

there are more or fewer shares at lower or greater value as a result of

Answer 59

the corporate action split depending on if its a forward or reverse split .

Question 60

preemptive rights

Answer 60

entitle existing common stock- holders to maintain their proportionate ownership shares in a company by buying newly issued shares before the company offers them to the general public.

Question 61

rights

Answer 61

short term, given to existing shareholders, allows one to purchase shares below current market value

Question 62

warrants

Answer 62

long term, bundled with other securities, allows someone to purchase shares at a price that is above the current market value at the time the warrants were issued

Question 63

mergers and acquisitions

Answer 63

hese are transactions in which the ownership of companies or their operating units are transferred as in the case of an acquisition, or combined as in the case of a merger. M&A can allow enterprises to grow, shrink, or change the nature of their business.

Question 64

takeover

Answer 64

A takeover is the purchase of one company, known as the target company, by another company, known as the bidder or buyer. A hostile takeover is accomplished when the buyer goes directly to the target company’s shareholders, bypassing the BOD or management.

Question 65

spin-off

Answer 65

This is a type of divestiture where a parent company sells all of the shares of a subsidiary or distributes new shares of a company or division it owns to create a new company.

Question 66

tender offer

Answer 66

This is an offer to buy securities for cash or for cash plus securities.

Question 67

buyback

Answer 67

A buyback, sometimes referred to as a repurchase, is when a company buys its own outstanding shares in the open market from existing shareholders. Companies might buy back shares for numerous reasons. For example, doing so reduces the number of shares available (supply) and therefore can increase the value of shares still available (demand). Sometimes, by removing available shares from the market, a company might be trying to eliminate any threats of takeover.

Question 68

a notice is not required for

Answer 68

an ordinary interest payment on a corporate debt security

Question 69

proxy solicitation

Answer 69

Stockholders can receive multiple proxy solicitations for controversial company proposals. If proxies are solicited, the SEC requires a company to give stockholders information about the items to be voted on and allow the SEC to review this information before it sends the proxies to stockholders. In a proxy contest, everyone who participates must register with the SEC. Also, anyone who is not a direct participant but who provides stockholders with unsolicited advice must register as a participant.

Question 70

member firms are reimbursed

Answer 70

by issuers for all costs relating to the forwarding of proxy materials. such costs include postage and related clerical expenses

Question 71

cash account

Answer 71

is the basic type of investment account. Anyone eligible to open an investment account can open a cash account. In a cash account, a customer pays in full for any securities purchased. Payment in full as de ned by the SEC under Regulation T must occur not later than two business days after the standard settlement period. in other words T +4

Question 72

long margin account

Answer 72

customers purchase securities and pay interest on the money borrowed until the loan is repaid.(borrow money)

Question 73

short margin

Answer 73

stock is borrowed and then sold short, enabling the customer to pro t if its value declines. (borrow securities)

Question 74

hypothecation

Answer 74

is the pledging of customer securities as collateral for margin loans. A hypothecation agreement must be signed by a customer who wants to open a margin account. This agreement is generally contained within the margin agreement, and thus, customers are giving permission for this process to occur when they sign the margin agreement.

Question 75

rehypothecates

Answer 75

After customers pledge their securities to the BD by signing the margin agreement, the BD rehypothecates (repledges) them as collateral for a loan from a bank. In this light, you can see that a BD is not lending its own funds to customers purchasing securities on margin but instead is borrowing money from a bank for that purpose. Regulation U oversees the process of a bank lending money to BDs based on customer securities having been pledged as collateral for the loan.

Question 76

individual and joint accounts about margin

Answer 76

those with more than one party to the account) can utilize margin.

Question 77

corporate accounts about margin

Answer 77

may utilize margin only if it is not restricted in the corporation’s char- ter or bylaws. In other words, trading on margin may be listed as being prohibited, and if so, would not be allowed.

Question 78

partnership accounts about margin

Answer 78

may utilize margin only if it is not restricted in the partnership reso- lution. Like a corporate account, a partnership agreement might list trading on margin as being prohibited, and if so, would not be allowed.

Question 79

fiduciary accounts about margin

Answer 79

could only utilize margin if it is specifically per- mitted within the trust or custodial agreement. Note the difference here. In this instance, margin must be specifically listed as being permitted.

Question 80

IRA can use margin?

Answer 80

and other qualified plans prohibit the use of margin.

Question 81

margin and approval

Answer 81

Like all accounts, margin accounts would need to be approved by a principal of the rm before the rst trade. The approval would need to be in accordance with whether or not mar- gin is permissible for the type of account being set up, as outlined in the previous section.

Question 82

margin account

margin

Answer 82

it allows customers to increase their trading capital by borrowing either cash or securities via their BDs.

the amount of equity that must be deposited to buy securities in a margin account

Question 83

marginable

Answer 83

refers to securities that can be used as collateral in a margin account

Question 84

the frb can change regulation t __

Answer 84

at any time , but the current requirement(50%) has been in place since 1974. assume regulation t equals 50% in a test question unless it is specified different.

Question 85

credit agreement

Answer 85

nt form.
Credit agreement—The credit agreement discloses the terms of the credit extended by the BD, including the method of interest computation and situations under which interest rates may change.

Question 86

hypothecation agreement

Answer 86

As noted earlier in this unit, the hypothecation agreement allows the securities to be pledged for the loan and gives permission to the BD to repledge customer margin securities as collateral. The rm rehypothecates customer securities to the bank, and the bank loans money to the BD on the basis of the loan value of these securities. All customer securities must be held in street name (registered in the name of the BD) to facilitate this process. When customer securities are held in street name, the BD is known as the nominal, or named, owner. The customer is the bene cial owner because he retains all rights of ownership.

Question 87

loan consent form

Answer 87

If signed, the loan consent form gives permission to the rm to loan the customers margin securities to other customers or BDs, usually to facilitate short sales where securities need to be borrowed.

Question 88

to open a margin account

Answer 88

it is mandatory that the customer signs the credit agreement and hypothecation agreement. the loan consent form is optional

Question 89

the initial deposit and maintenance requirement in a short account is a minimum of

Answer 89

2000 regardless of how small the initial transaction is

Question 90

A firm’s designated examining authority (DEA) could be

Answer 90

a U.S. exchange or FINRA. This would be the designated authority tasked with monitoring and auditing the firm for industry rule compliance.

Question 91

in a non discretionary account

Answer 91

no order can be entered without the customer’s prior approval.

Question 92

commission based accounts- vs fee based accounts

Answer 92

Accounts can be set up as commission based, where a commission is billed for each trans- action, or as fee based. Firms can offer investors fee-based accounts that charge a single fee (either xed or a percentage of assets in the account) instead of commission-based charges for brokerage services.
Fee-based accounts are appropriate only for investors who engage in at least a moderate level of trading activity. Accounts with a low level of trading activity may be better off with commission-based charges. Rules require that, before opening a fee-based account, investors be given a disclosure document describing the services to be provided and the cost.

Question 93

wrap accounts

Answer 93

Wrap accounts are accounts for which rms provide a group of services, such as asset allo- cation, portfolio management, executions, and administration, for a single fee. Wrap accounts are generally investment advisory accounts.

Question 94

section 529 plans

Answer 94

Section 529 plans (as previously discussed in section 2.1.2.5.5) are some of the most popu- lar methods of saving for education. Remember, these state-sponsored plans are eligible for tax-free distributions for quali ed withdrawals. Ownership of a 529 plan does not preclude the opening of a Coverdell account.

Question 95

coverdell(education IRA)

Answer 95

Coverdell Education IRAs allow after-tax contributions of up to $2,000 per student per year for children younger than age 18. Contribution limits may be reduced or eliminated for higher-income tax payers. Distributions are tax free as long as the funds are used for qualified education expenses. These expenses include those for college, secondary, or elementary school. If a student’s account is not depleted by age 30, the funds must be distributed to the individual subject to income tax and 10% penalty or rolled into an education IRA for another family member bene ciary.

Question 96

single account

Answer 96

has one bene cial owner. The account holder is the only person who can control the investments within the account and request distributions of cash or securities from the account.

Question 97

If a person not named on an account will have any authority over the account, the customer must

Answer 97

le written authorization with the BD giving that person access to the account. This trading authorization usually takes the form of a power of attorney. Two basic types of trading authorizations are full powers of attorney and limited pow- ers of attorney. Both would be canceled upon the death of either party.

Question 98

full power of attorney

Answer 98

A full power of attorney allows someone who is not the owner of an account to deposit or withdraw cash or securities and make investment decisions for the account owner. Custodians, trustees, guardians, and other people lling similar legal duties are often given full powers of attorney.

Question 99

limited power of attorney

Answer 99

A limited power of attorney allows an individual to have some, but not total, control over an account. The document speci es the level of access the person may exercise. Limited power of attorney, also called limited trading authorization, allows the entering of buy and sell orders but no withdrawal of assets. Entry of orders and withdrawal of assets is allowed if full power of attorney is granted.

Question 100

numbered accounts

Answer 100

Customers are permitted to open numbered accounts, which use a number, a symbol, or a nominee name in lieu of their real name. These accounts are subject to all customer identi cation procedures and other associated anti-money laundering rules. The rm must maintain a written statement signed by the client attesting to the ownership of the account.

Question 101

transfer on death

Answer 101

Transfer on death (TOD) is a type of individual account that allows the registered owner of the account to pass all or a portion of it, upon death, to a named bene ciary or bene ciaries. This account avoids probate (i.e., having the decedent’s will declared genuine by a court of law) because the estate is bypassed. However, the assets in the account do not avoid estate tax, if applicable.

Question 102

joint account

Answer 102

two or more adults are named on the account as co-owners, with each allowed some form of control over the account. The account forms for joint accounts require the signatures of all owners.

Question 103

tenants in common

Answer 103

ownership provides that a deceased tenant’s fractional interest in the account is retained by that tenant’s estate and is not passed to the surviving tenant(s).

each party must specific a percentage interest in the account*

Question 104

joint tenants with right to survivorship

Answer 104

ownership stipulates that a deceased tenant’s interest in the account passes to the surviving tenant(s).

all parties have an undivided interest in the account *

Question 105

corporate accounts

Answer 105

Corporations, like individuals, will invest in securities. When opening an account for a corporation, a rm must obtain a copy of the corporate charter as well as a corporate resolution.

Question 106

partnership accounts

Answer 106

A partnership is an unincorporated association of two or more individuals. Partnerships frequently open accounts necessary for business purposes.
The partnership must complete a partnership agreement stating which of the partners can make transactions for the account.

Question 107

fiduciary account

Answer 107

When securities are placed in a duciary account, a person other than the owner initiates trades. The most familiar example of a duciary account is a trust account. Money or securities are placed in trust for one person, often a minor, but someone else manages the account. The manager or trustee is a duciary.

Question 108

uniform gift to minors

Answer 108

Accounts set up for minors can be established under either the Uniform Gift to Minors Act (UGMA) or the Uniform Transfers to Minors Act (UTMA). These accounts require an adult to act as custodian for a minor (the bene cial owner). Any kind of security or cash may be given to the account without limitation.

Question 109

When a person makes a gift of securities to a minor under the UGMA or UTMA laws,

Answer 109

that person is the donor of the securities. A gift under these acts conveys an indefeasible title; that is, the donor may not take back the gift, nor may the minor return the gift. Once the gift is donated, the donor gives up all rights to the property.

Question 110

when opening a custodial account

Answer 110

representative must ensure that the account appli- cation contains the custodian’s name, the minor’s name and Social Security number, and the state in which the account is registered.

Question 111

beneficial owner

Answer 111

account contains the minors social security number

Question 112

If the bene ciary of a custodial account (minor) dies,

Answer 112

the securities in the account pass to the minor’s estate, not to the parents’ or custodian’s estate.

Question 113

contributions for ira

Answer 113

An eligible individual may make contributions up to a maximum dollar amount that can change from year to year (as determined by the IRS tax code), provided that the contribution does not exceed earned income (normally compensation and income from self-employment) for the year. The dollar cap is increased by a catch-up amount for individuals age 50 and older.

Question 114

current ira contribution limits and catch up contributions limit for those age

Answer 114

50 and older may be tested

these limits may change, sometimes annually. current contribution limits can be found on www. irs.gov/retirement -plans

Question 115

funding for ira

Answer 115

Within an IRA, investments can be made in stocks, bonds, investment com- pany securities, U.S.-minted gold and silver coins, and many other securities.

Question 116

are life insurance allowed in iras

Answer 116

no but other life insurance products like annuities are.

Question 117

rollovers and transfers or iras

Answer 117

Individuals may take possession of the funds and investments in a quali ed plan to move them to another quali ed plan, but may do so no more than once every 12 months. This is known as a rollover and it must be completed within 60 calendar days of withdrawal.

Question 118

distributions/withdrawals for ira

Answer 118

Distributions may begin without penalty after age 591⁄2 and must begin by April 1 of the year after the individual turns 701⁄2. Distributions before age 591⁄2 are subject to a 10% penalty as well as regular income tax, except in the event of:
■ death;
■ disability;
■ first-time homebuyer for purchase of a principal residence;
■ education expenses for the taxpayer, spouse, child, or grandchild;
■ medical premiums for unemployed individuals; and
■ medical expenses in excess of de ned AGI limits.

Question 119

roth iras

Answer 119

Roth IRAs allow after-tax con- tributions up to a maximum annual allowable limit per individual per year. Contributions to other (traditional) IRAs when combined with contributions to a Roth IRA may not exceed the maximum annual allowable limit.
Contributions to Roth IRAs are not deductible on one’s tax return. Note the difference here between a traditional IRA and a Roth IRA.

Question 120

RMDS at age 70 ½ do not apply to

Answer 120

roth iras. the 10% penalty for distributions before 591/2 is waived for first time homebuyers if they use the funds to purchase a principal residence

Question 121

a simple ira

Answer 121

is an employer-sponsored retirement plan offered by small businesses that employ 100 or fewer people. SIMPLE is an acronym for savings incentive match for employees. These plans are typically a less expensive and less complicated alternative to 401(k) plans, which are often favored by larger companies [401(k)s are discussed next]. Plan participants are typically given a menu of investment choices, such as stock and bond mutual funds.

Question 122

401 k

Answer 122

is a type of retirement contribution plan that allows an employee to elect to contribute a percentage of salary up to a maximum dollar limit to a retirement account each year (a de ned contribution). Just like with IRAs, catch-up contributions for those age 50 and older are also allowed. Contributions are excluded from the employee’s gross income and accumulate tax deferred, as do any earnings in the account. Employers are permitted to make matching contributions up to a speci ed percentage of the employee’s contributions. In addition, 401(k) plans permit hardship withdrawals for situations such as unemployment or rst-time homebuyers and can also allow loans against any vested balance.

Question 123

403 b plans

Answer 123

is a type of quali ed retirement plan available to employees of public edu- cational institutions. In general, employees of colleges, universities, elementary schools, and secondary schools are eligible to participate if they are at least 21 years old and have completed one year of service.

Question 124

besides 403 b plans for employees of educational institutions , tax sheltered annuities are also available for

Answer 124

employees of tax exempt organizations and religious organizations

Question 125

anti money laundering

Answer 125

The Bank Secrecy Act establishes the U.S. Treasury Department as the lead agency for developing regulations in connection with anti-money laundering (AML) programs.

Question 126

3 stages of money laundering

Answer 126

placement
layering
integration

Question 127

placement

Answer 127

This first stage of laundering is when funds or assets are moved into the laundering system. This stage is recognized as the time when illegal funds are the most susceptible to detection.

Question 128

layering

Answer 128

The goal of money launderers during this stage is to conceal the source of the funds or assets. This is done through a series of layers of transactions that are generally numerous and can vary in form and complexity.

Question 129

integration

Answer 129

In the final stage, illegal funds are commingled with legitimate funds in what appear to be viable legitimate business concerns. This can be accomplished using front companies operating on a cash basis, import and export companies, and many other types of businesses.

Question 130

aml compliance program

Answer 130

BDs are required to establish internal compliance procedures to detect abuses. There are signs or red ags that might suggest the possibility of money laundering. If a red ag is detected, it should be reported to the principal designated to receive such reports immediately.

Examples of red ags include:
■ a customer exhibiting a lack of concern regarding risks, commissions, or other transaction costs;
■ a customer attempting to make frequent or large deposits of currency or cashier’s checks;
■ a customer making a large number of wire transfers to unrelated third parties;
■ a customer engaging in excessive journal entries between unrelated accounts; and
■ a customer who designs currency deposits or withdrawals to fall under the $10,000 cash transaction report (CTR) ling threshold, a practice known as structuring.

Question 131

suspicious activity report

Answer 131

The USA PATRIOT Act requires rms to report to the Financial Crimes Enforcement Network (FinCEN) when there is an event, transaction, or series of events or transactions that appear to be questionable.

Question 132

FinCEN

Answer 132

FinCEN is a bureau of the U.S. Treasury Department that collects and analyzes information about financial transactions to combat money laundering, domestic and international terrorist financing, and other financial crimes.

Question 133

current transaction report

Answer 133

The Bank Secrecy Act requires BDs to report any currency received in the amount of more than $10,000 on a single day. Though paying for purchased securities with currency is not pro- hibited, many firms do not permit this. Failure to report can result in fines of up to $500,000, 10 years in prison, or both. Records relating to filed reports must be retained for five years.

Question 134

use patriot act

Answer 134

requires financial institutions to maintain Customer Identi cation Programs (CIPs) to prevent nancing of terrorist operations and money laun- dering. Financial institutions, such as banks and BDs, must keep records of identi cation information and check customer names against the Specially Designated Nationals (SDN) list maintained by the Of ce of Foreign Assets Control (OFAC).

Question 135

office of foreign assets control

Answer 135

publishes and maintains a list of indi- viduals and companies owned or controlled by, or who are acting for, or on behalf of, targeted countries and individuals, groups, or entities that are designated under programs that are not country speci c, such as terrorists and those traf cking in narcotics.

Question 136

lifetime records

Answer 136

Records that must be kept for the life of the rm are partnership articles if a partnership, articles of incorporation if a corporation, minute books (records of directors’ or partners’ meetings), stock certi cate books, and organizational documents such as Form BD and amendments.

Question 137

six year records

Answer 137

There are ve primary records that must be retained for six years.

blotters
general ledger
stock record
customer ledgers
customer account records

Question 138

blotters

Answer 138

A blotter is a record of original entry. A member generally maintains blotters relating to the purchase and sale of securities, the receipt and delivery of securities, and the receipt and disbursement of cash. Blotters must re ect transactions as of trade date (or event date) and must be prepared no later than the following business day.

Question 139

general ledger

Answer 139

The general ledger contains accounting records of the rm’s assets, lia- bilities, and net worth accounts. From the general ledger, a rm prepares its nancial statements. The general ledger must be prepared as frequently as necessary to determine compliance with the net capital rule, but in no event less frequently than monthly.

Question 140

stock record

Answer 140

The stock record shows all securities held by the rm, the ownership of those securities, and where the securities are held. The stock record must be posted no later than the business day after the settlement date.

Question 141

customer ledger

Answer 141

ustomer ledgers are customer statements. Cash accounts and margin accounts are shown on separate ledgers. These ledgers must be posted no later than the settlement date.

Question 142

customer account records

Answer 142

Customer account records might include the new account form and margin agreement, if appropriate.

Question 143

3 year records

Answer 143

Most other records are three-year records. Examples of these records include the following:
■ Advertising
■ Trial balances
■ Form U4, U5, and ngerprint cards for terminated personnel
■ Customer con rmations
■ Order tickets
■ Subsidiary ledgers such as securities borrowed and securities loaned, monies borrowed and monies loaned, and dividends and interest received
■ A list of every of ce where each associated person regularly conducts business
Unit 3 Understanding Trading, Customer Accounts, and Prohibited Activities 155
■ Associated persons’ compensation records
■ The rm’s Compliance and Procedures Manual

Question 144

One exception to the lifetime, six-year, and three-year retention is the

Answer 144

requirement for written customer complaints. Customer complaint records must be retained

Question 145

electronic delivery

Answer 145

FINRA allows members to electronically send documents, such as con rmations and account statements, to customers as long as certain conditions are met. To do so, the rm must have procedures in place to show that the information sent has been delivered as intended and that the con dentiality and security of personal information are protected. Further, customers must provide written consent to electronic delivery.

Question 146

updating customer account records

Answer 146

To ensure that the information obtained from each new customer is accurate, rms must furnish to each customer, within 30 days of opening the account, a copy of the account record. The rm must include a statement that the customer should mark any corrections on the record and return it along with a statement that the customer should notify the rm of any future changes to information in the account record so that accurate and current records can be maintained.

Question 147

account statements provided to customers give

Answer 147

give a general accounting of securities and cash held in the account.

Question 148

activity is defined as

Answer 148

Activity is de ned as purchases, sales, interest, or dividends received, or any funds flowing in or out of the account. Penny stocks are defined as those price under $5 per share.

Question 149

trade confirmation

Answer 149

is a printed document that confirms a trade, its settlement date, and the amount of money due from or owed to the customer. For each transaction, a customer must be sent or given a written confirmation of the trade at or before the completion of the transaction—the settlement date.

Question 150

nontrade confirmations/ third party activity

Answer 150

Firms are required to send con rmations of activity in accounts even when the activity is not trade related or initiated by a third party.

Question 151

business continuity plans

Answer 151

INRA requires member rms to create and maintain a business continuity plan (BCP) to deal with the possibility of a signi cant business disruption. The plan must address certain points having to do with the consequences of the event, including but not limited to the following:
■ Data backup and recovery (hard copy and electronic)
■ Alternate communications between the rm and its customers
■ Alternate communications between the rm and its employees
■ Alternate physical location of employees
■ Communications with regulators
■ Prompt customer access to funds and securities in the event the rm is unable to continue its business

Question 152

privacy requirements-regulation SP

Answer 152

This regulation was enacted by the SEC to protect the privacy of customer information. In particular, the regulation deals with nonpublic personal information.

Question 153

nonpublic personal information

Answer 153

The SEC, in Regulation SP, notes examples of nonpublic personal information. This type of information would include a customer’s Social Security number, account balances, transac- tion history, and any information collected through an internet cookie.

Question 154

confidentiality of information

Answer 154

If your rm reserves the right to disclose to unaf liated third parties nonpublic personal information, the notice must provide customers a reasonable means to opt out of this disclo- sure. Reasonable opt-out means providing customers with a form with check-off boxes along with a prepaid return envelope, providing an electronic means to opt out for customers who have agreed to the electronic delivery of information, and providing a toll-free telephone number. Asking customers to write a letter to express their disclosure preferences or to opt out would not be considered reasonable under Regulation SP.

Question 155

privacy of consumer financial information

Answer 155

Regulation SP is designed to pro- tect a customer’s nonpublic, personal information. Under Regulation SP, rms must provide their customers with a description of their privacy policies (a privacy notice). The notice must state the types of personal information that the rm collects and who the rm shares this infor- mation with. Firms must initially provide every customer with a privacy notice at the time the relationship is rst established. Once the relationship is established, the firm must provide with an updated version of this notice annually.

Question 156

safeguard requirements

Answer 156

In addition, the regulation embodies the obligation of nancial institutions to safeguard customer information as related to all forms of existing and developing technology. For exam- ple, this would include, but not be limited to, securing desktop and laptop computers and encrypting email.

Question 157

retail communication

Answer 157

means any written (including electronic) communication that is distributed or made available to more than 25 retail investors within any 30-calendar-day period. A retail investor is any person other than an institutional investor, regardless of whether the person has an account with the member.

Question 158

correspondence

Answer 158

means any written (including electronic) communication that is distributed or made available to 25 or fewer retail investors within any 30-calendar-day period.

Question 159

institutional communication

Answer 159

means any written (including electronic) communication that is distributed or made available only to institutional investors, but does not include a member’s internal communications (e.g., internal memos).

Question 160

if an entity does not fall under any of the designated categories for institutional investor

Answer 160

then it must be considered and treated as a retail customer.

Question 161

do not call list

Answer 161

The TCPA requires an organization that does telemarketing (cold-calling in particular)

Question 162

suitability requirements

Answer 162

Whether or not an investment strategy or security is suitable for a customer is a determina- tion made by an RR as to whether the strategy or security matches the customer’s investment objectives and nancial capability. The representative must have enough information about the customer to make this judgment.

Question 163

know your customer

Answer 163

FINRA and other SROs require brokers to know their customers. This implies under- standing a customer’s nancial status (net worth and net income), investment objectives, and all facts essential in making suitable recommendations. It is an RR’s responsibility to perform due diligence to determine the validity of a customer’s information.

Question 164

pump and dump

Answer 164

is the act of in ating (pumping) the price of an owned stock by perpetrating false and misleading positive rumors, in order to sell the stock at a higher price later.

Question 165

front running

Answer 165

is the act of placing orders for one’s own account ahead of other orders that are known to be entering the market in an attempt to gain from the price movement that is likely to occur.

Question 166

excessive trading

Answer 166

in a customer’s account to generate commissions rather than to help achieve the customer’s stated investment objectives is an abuse of duciary responsibility known as churning.

Question 167

marking the open

Answer 167

Entering orders before the opening for a stock or falsely reporting trades that never occurred to in uence the opening price of a stock is called marking the open.

Question 168

marking the close

Answer 168

Effecting trades at or near the close of the trading day or falsely reporting trades that never occurred to in uence the closing price of a stock is called mark- ing the close. For example, putting in buy orders at the close for the purpose of pushing up the price of a stock so that it is valued higher in one’s portfolio or account at the end of the day is marking the close.

Question 169

backing away

Answer 169

A market maker can revise a rm quote in response to market conditions and trading activity, but a market maker who refuses to do business at the price(s) quoted is backing away from the quote. Backing away is a violation of trading rules.

Question 170

free riding

Answer 170

Freeriding is a term used when securities are purchased and then sold before making pay- ment for the purchase. Freeriding is generally prohibited in both cash and margin accounts. As a penalty, the account will be frozen for 90 days, and no new transactions can occur unless there is cash or marginable securities in the account before the purchase is made.

Question 171

capping

Answer 171

Capping is usually associated with those who are short option call contracts. This is the act of entering sell orders in a stock for the purpose of keeping it from rising above the strike price of calls someone is short; this is done so the calls won’t be in the money and thus likely to be exercised.

Question 172

supporting

Answer 172

Supporting is usually associated with those who are short put option contracts.
This is the act of entering purchase orders in a stock for the purpose of keeping the price from falling below the strike price of put contracts that an investor has written. This arti cial price support is done to prevent the puts from moving in the money and being exercised.

Question 173

pegging

Answer 173

Pegging is a generic term that applies to any activity intended to keep the price of a stock from moving. This can involve entering either buy or sell orders, or both.

Question 174

wash sales

Answer 174

A wash sale viola- tion is an attempt to create a loss for tax purposes (sell at a loss) when one’s intent is to still maintain ownership of the securities.

Question 175

the rules of wash sales

Answer 175

do not prohibit the initial sale (for a loss) or the recreation of the position. These are permissible actions. The rule does, however, prohibit taking the loss on one’s tax return if the position was recreated within the 30 days before or after the sale window.

Question 176

matched orders

Answer 176

s a manipulation that involves one party selling stock to another with the understanding that the stock will be repurchased later (usually the same day) at virtually the same price. The intent of such transactions is to make it appear that far more activity in a stock (share volume) exists than actually does. This is sometimes referred to as painting the tape.

Question 177

breakpoint sales

Answer 177

To understand a breakpoint sale, one must rst know what a breakpoint is.
Breakpoints are quantity discounts on open-end management company shares (mutual funds)—the greater the dollar amount of a purchase, the lower the sales charge. There is no industry standardized breakpoint schedule, so they can vary across mutual fund families.

Question 178

insider and insider trading

Answer 178

The Insider Trading Act de nes an insider as any person who has access to nonpublic information about a company that would most likely in uence the price of the company’s stock. Utilizing that information for the purpose of gain, or to avoid a loss, constitutes insider trading.

Question 179

material nonpublic information

Answer 179

Inside information, by de nition, is any material nonpublic information—that is, any information that has not been disseminated to, or is not readily available to, the general public.

Question 180

identifying involved parties

Answer 180

The Insider Trading Act prohibits insiders from trading on or communicating nonpublic information. Both the tipper (the person who relays the information) and the tippee (the person who receives the information) are liable, as is anyone who trades on information that they know or should know is not public or who has control over the misuse of this information.

Question 181

insider trading pentacles

Answer 181

The SEC can investigate any person suspected of violating any of the provisions of the Insider Trading Act. If the SEC determines that a violation has occurred, civil penalties of up to three times pro ts made or losses avoided may be levied. A controlling person such as an RR or BD could be ned $1 million or three times the pro t made or loss avoided, whichever is greater.
Violators may also face criminal penalties of up to $5 million and up to 20 years in jail. If the violator is an employee of a BD, a rm (which is supposed to have procedures in place to prevent this) could be ned up to three times damages or $25 million, whichever is greater.

Question 182

contemporaneous traders.

Answer 182

Persons who enter trades at or near the same time in the same security as a person who has inside information

may sue persons that have violated insider trading regulations, and suits may be initiated up to ve years after the violation has occurred.

Question 183

informal bounties

Answer 183

The Insider Trading Act speci cally allowed for payment to informers. However, amended under the Dodd-Frank legislation, awards may now be paid in connection with original infor- mation concerning any violation of securities law, including insider trading. The information bounty or award can range from 10% to 30% of amounts recovered based on the information received.

Question 184

Generally, before borrowing from or lending to a customer, a representative must

Answer 184

advise his rm in writing and receive written permission. However, notice and ap- proval are not needed if the loan is between immediate family members, and approv- al is not needed if the customer is a lending institution and the loan is on standard commercial terms.

Question 185

firms cannot have joint accounts with

Answer 185

customers

representatives may have joint accounts with customers only if the arrangement has been approved by the principal and account proceeds are shared in proportion to each party’s contribution

Question 186

financial exploitation of seniors

Answer 186

FINRA, along with other regulators, speci cally addresses the nancial exploitation of seniors and other speci ed adult customers. FINRA de nes the impacted accounts as those for individuals:
■ age 65 and older, or
■ age 18 and older who the member reasonably believes has a mental or physical impairment
that renders the individual unable to protect her own interests. FINRA notes nancial exploitation to be:
■ the wrongful or unauthorized taking, withholding, appropriation, or use of funds or securi- ties; or
■ any act or omission of an act taken by a person to obtain control, through deception, intimidation or undue in uence, over the speci ed adult’s money, assets or property; or convert the speci ed adult’s money, assets, or property.

Question 187

unregistered persons are prohibited against

Answer 187

oliciting customers and taking orders to buy or sell securities.

Question 188

only registered persons can be paid

Answer 188

commissions

Question 189

continuing commissions may never be paid

Answer 189

on business referred or introduced by

an employee after that person ceases to be registered with the member.