Net Capital Computation

Question 1

If there is a deficiency in the value of securities pledged on a secured demand note, the broker-dealer must begin selling the securities if the lender fails to deposit additional collateral:

a. On the day the deficiency occurs
b. Prior to noon on the business day after the deficiency occurs
c. Prior to noon on the second business day after the deficiency occurs
d. On the fifth business day after the deficiency occurs

Answer 1

B- If the collateral value of securities pledged on a secured demand note drops below the amount of the note, the broker-dealer must immediately notify the lender and the Examining Authority. The lender will be required to deposit additional cash or securities prior to noon on the next business day. If the lender fails to deposit additional cash or securities by noon of the next business day, the broker-dealer must liquidate sufficient shares to raise the collateral value to the required amount

Question 2

In regard to fails to deliver on municipal securities, which TWO of the following statements are CORRECT?
I. The securities are subject to a haircut when they are 11 days old.
II. The securities are subject to a haircut when they are 21 days old.
III. The haircut on fails to deliver is the same as the amount applied to securities held in the broker-dealer’s proprietary account.
IV. The haircut is 5% regardless of the maturity date.
a. I and III
b. I and IV
c. II and III
d. II and IV

Answer 2

C- A fail to deliver on a municipal security becomes aged when it is 21 days old. For corporate securities a fail to deliver is aged when it is five days old. In both cases, a haircut is applied in the same amount as is applied to a broker-dealer’s proprietary position.

Question 3

Receivables due from participation in municipal securities underwritings:

a. Are not allowable assets in computing net capital
b. Are allowable assets under all circumstances
c. Are allowable assets if they are less than 115 days old
d. Are allowable assets if they are 60 days old or less

Answer 3

D- Receivables due from municipal securities underwritings are not allowable assets if they are more than 60 days old.

Question 4

A broker-dealer has tentative net capital of 1,500,000. In its trading account is a position of 20,000 shares of Executron Inc. at $10. The haircut on this position would be:

a. $225,000
b. $36,000
c. $30,000
d. $37,500

Answer 4

B- The applicable charge is based on the $200,000 value of the equity position, which is $30,000 ($200,000 x 15%). Keep in mind that the standard common stock haircut is 15%, assuming a ready market exists. Since this position exceeds 10% of the tentative net capital of the firm, an undue concentration charge is also applied. The undue concentration charge is applied to the amount that exceeds 10% of the tentative net capital. In this example, the amount subject to the undue concentration charge is $50,000. This amount is then reduced by the greater of $10,000 or the value of 500 shares. As a result, the $50,000 is reduced to $40,000, and this amount is subject to an additional15% (or $6,000) charge. This leaves a total haircut for this equity position of $36,000 ($30,000 + $6,000).

Question 5

When a subordinated loan matures, a broker-dealer:

a. Must return the principal amount of the loan to the lender
b. May not repay the principal amount of the loan if it would cause aggregate indebtedness to exceed 1,500% of net capital, or the dollar amount of net capital to fall below 120% of the minimum dollar requirement of Rule 15c3-1
c. May not repay the principal amount of the loan if it would cause aggregate indebtedness to exceed 1,200% of net capital, or the dollar amount of net capital to fall below 120% of the minimum dollar requirement of Rule 15c3-1
d. May not repay the principal amount of the loan if it would cause aggregate indebtedness to exceed 1,000% of net capital, or the dollar amount of net capital to fall below 120% of the minimum dollar requirement of Rule 15c3-1

Answer 5

C- A subordinated loan may not be repaid at maturity if repayment would cause aggregate indebtedness to exceed net capital by more than 1,200% or if the dollar amount of net capital falls below 120% of the minimum requirement. A subordinated loan may not be prepaid prior to maturity if prepayment would cause aggregate indebtedness to exceed net capital by more than 1,000% or if the dollar amount of net capital falls below 120% of the minimum requirement.

Question 6

A broker-dealer is a sole proprietorship with net capital of $400,000 and aggregate indebtedness of $1,500,000. The broker-dealer carries customer accounts but clears its trades through a bank and claims an exemption from Rule 15c3-3 under paragraph (k). The maximum amount of equity that may be withdrawn by the broker-dealer is:

a. $300,000
b. $250,000
c. $150,000
d. $100,000

Answer 6

B- A withdrawal of capital is not allowed if it would cause the ratio of aggregate indebtedness to net capital to exceed 10 to 1, or if it would cause net capital to decline below 120% of the minimum. A withdrawal of $250,000 would leave $150,000 of net capital. This would give the broker-dealer a ratio of 10 to 1 ($1,500,000 of aggregate indebtedness divided by $150,000 of net capital). Net capital would also exceed $120,000, which is 120% of the minimum requirement of $100,000.

Question 7

A broker-dealer may not allow the withdrawal of equity capital if it would cause which TWO of the following situations to occur?
I. The aggregate indebtedness would exceed the net capital by 1,200%, or the net capital would fall below 120% of the minimum dollar requirement.
II. The aggregate indebtedness would exceed the net capital by 1,000%, or the net capital would fall below 120% of the minimum dollar requirement.
III. The dollar amount of subordinated agreements would exceed 70% of the total of debt and equity.
IV. The dollar amount of subordinated agreements would exceed 60% of the total of debt and equity.
a. I and III
b. I and IV
c. II and III
d. II and IV

Answer 7

C- A broker-dealer may not withdraw equity capital if such withdrawal would cause aggregate indebtedness to exceed net capital by more than 1,000% or if such withdrawal would cause the dollar amount of net capital to fall below 120% of the minimum dollar requirement. For example, if a broker-dealer has aggregate indebtedness of $1,000,000 and net capital of $100,000, its ratio would be 10 to 1. No withdrawal of capital would be allowed as this would cause the ratio to exceed 10 to 1.
Equity capital may not be withdrawn if such withdrawal would cause subordinated loans to exceed 70% of the debt-equity total.

Question 8

In regard to a subordinated loan that is considered part of a broker-dealer’s capital, which of the following statements are CORRECT?
I. The lender must be a stockholder or partner of the broker-dealer.
II. The lender must agree that all claims for payment are subordinated to the claims of present and future creditors.
III. The minimum amount of the loan must be $5,000.
IV. The lender must agree that the proceeds of the loan are part of the broker-dealer’s capital.
a. II and IV only
b. I, II, and III only
c. II, III, and IV only
d. I, II, III, and IV

Answer 8

A- In order for a subordinated loan to be considered as part of a broker-dealer’s capital, certain conditions must be met. Among the conditions are that the lender agrees that the proceeds of the loan are part of the broker-dealer’s capital and the lender agrees that any claim for repayment is subordinated to the claims of all present and future customers. There are no minimum or maximum amounts for subordinated loans. The lender need not be a stockholder or partner of the broker-dealer unless the broker-dealer wishes to consider the loan to be part of its equity capital

Question 9

A broker-dealer holds securities on a secured demand note with a collateral value that is less than the amount of the note. Under what circumstances may the broker-dealer reduce the amount of the note?
I. Under no circumstances
II. With the permission of the broker-dealer’s Examining Authority
III. If the reduction does not cause aggregate indebtedness to exceed net capital by 1,200% or more
IV. If the reduction does not cause aggregate indebtedness to exceed net capital by 1,000% or more
a. I only
b. II only
c. II and III only
d. II and IV only

Answer 9

D- If a broker-dealer wishes to reduce the amount of a loan on a secured demand note, it may do so only with the permission of its Examining Authority. Such reduction will not be allowed if it will cause aggregate indebtedness to exceed net capital by 1,000% or more.

Question 10

A broker-dealer maintains the following long and short positions in municipal bonds.
Long
$1,000,000 ABC 5% of 2025	
Short
$400,000 DEF 5% of 2025
The haircut applicable to its security positions would be:
a.	$92,500
b.	$82,500
c.	$75,000
d.	$70,000

Answer 10

D- The haircut on municipal bonds is applied to the greater of the long or short position. For municipal bonds with maturities of 20 years or more, the haircut is 7% on the greater position. 7% of $1,000,000 equals $70,000.

Question 11

Which of the following statements regarding temporary subordination agreements under Rule 15c3-1 is/are CORRECT?
I. The agreement must have a minimum duration of 45 days.
II. The agreement may be established for the purpose of engaging in the underwriting of securities.
III. The agreement may be established for the purpose of reducing the ratio of aggregate indebtedness to net capital below the reporting level of Rule 17a-11.
IV. The agreement may be established to increase the dollar amount of net capital to the minimum requirement of Rule 15c3-1.
a. II only
b. I and II only
c. II, III, and IV only
d. I, II, III, and IV

Answer 11

A- Regular subordination agreements must have a minimum duration of one year. However, temporary subordination agreements are permitted to facilitate underwritings or used for other extraordinary activities if the duration of the agreement does not exceed 45 days. Temporary subordination agreements may not be used to raise permanent capital in order to comply with the provisions of Rule 15c3-1.

Question 12

The proceeds of a subordination agreement may be considered as part of the equity capital of a broker-dealer if which of the following criteria are met?
I. The lender is a partner or stockholder of the broker-dealer.
II. The agreement has a minimum duration of three years.
III. The agreement does not provide for repayment if it would cause aggregate indebtedness to exceed net capital by eight times.
IV. The agreement does not contain a provision for accelerated maturity.
a. I, II, and III only
b. I, II, and IV only
c. II, III, and IV only
d. I, II, III, and IV

Answer 12

The minimum duration of a subordinated loan is normally one year. Subordinated loans may be considered to be part of a broker-dealer’s capital if they are qualified. If a broker-dealer wishes to consider the proceeds of a subordinated loan to be part of its equity as well as part of its capital, then the lender must be a partner or stockholder, the agreement may not provide for accelerated maturity, and the minimum duration must be three years.

Question 13

Notification must be sent to the SEC for which of the following?

a. Change in a broker-dealer’s fiscal year
b. Extension of time to submit the annual report
c. Change in the broker-dealer’s fixed date for filing an annual report
d. All of the above

Answer 13

A- Choices (b) and (c) are submitted to the broker-dealer’s Designated Examining Authority.

Question 14

Review the Fail Run at Holdover Brokerage.

Fail to Deliver Past Settlement Date Market Price Contract Price
1000 sh. Blumquist 6 business days $24 $20
1000 sh. Ragamuffin 7 business days $28 $31

Fail to Receive
1500 shares Incipient 9 business days $16 $18
Which of the following statements is/are TRUE regarding the fails?
I. There is a $7,600 charge for the fail in Blumquist.
II. There is no charge for the trade in Blumquist.
III. There is $7,200 charge for the fail in Ragamuffin.
IV. There is a $4,400 charge for the trade in Incipient.
a. I only
b. I and II only
c. II and III only
d. II and IV only

Answer 14

C- Blumquist Calculation:
15% times $24,000 = $3,600 minus excess of market over contract = 0. A broker-dealer cannot have a negative haircut, so there is no fail to deliver charge on this position.
Ragamuffin: 15% times $28,000 = $4,200 plus $3,000 ‘the excess of contract price over market price) = $3,000. There is no charge for the fail to receive.

Question 15

A customer has a margin account with a debit balance of $75,000, and the broker-dealer holds stock worth $60,000. The broker-dealer has issued a margin call for an additional $20,000. The broker-dealer must deduct from net capital:

a. $75,000
b. $60,000
c. $20,000
d. $15,000

Answer 15

D- A broker-dealer is required to reduce its net capital by the full amount of a customer’s unsecured debit balance which is $15,000.

Question 16

Constable Securities, a partnership, computes its net capital under the alternative method. A partner is contemplating a withdrawal of $250,000. Before the withdrawal is made the firm should verify that:
I. The withdrawal does not cause the capital to fall below 120% of the required minimum.
II. The AI/NC ratio does not exceed 8:1 after the withdrawal.
III. Net capital does not fall below the amount of subordinated loans outstanding.
IV. Net capital does not fall below 5% of aggregate debit items pursuant to SEC Rule 15c3-3.
a. I and II only
b. I and IV only
c. I and III only
d. III and IV only

Answer 16

B- These are some of the conditions that must be met before equity capital may be withdrawn by a stockholder or partner. If a broker-dealer is subject to the aggregate indebtedness provisions, the AI/NC ratio may not exceed 10:1, not 8:1. Constable would not be subject to the AI/NC ratio anyway, as it computes under the alternative method.

Question 17

If the collateral value of securities pledged on a secured demand note falls below the principal amount of the note:

a. The broker-dealer must immediately notify the lender and the Designated Examining Authority
b. The broker-dealer must immediately liquidate a sufficient amount of securities to raise the collateral value of the cash plus the remaining securities to the amount of the secured demand note
c. The broker-dealer must comply with the requirements of (a) and (b) only if the collateral value of the securities drops below 50% of the amount of the note
d. None of the above are correct

Answer 17

A- If the collateral value of securities pledged on a secured demand note falls below the principal amount of the note, the broker-dealer must immediately notify the lender and the Designated Examining Authority.
 

Question 18

On a secured demand note, the value of the note may not be more than what percentage of the market value of common stock pledged to back the note?

a. 30%
b. 50%
c. 70%
d. 85%

Answer 18

C- Securities that are pledged on a secured demand note are usually subject to the same haircuts that apply to securities held in a broker-dealer’s proprietary accounts. However, if common stock is pledged as collateral to back a secured demand note, it is subject to a haircut of 30%, rather than 15%. Therefore, the value of the note may not exceed 70% of the value of the stock.
 

Question 19

In determining whether an undue concentration charge applies in the net capital computation, the broker-dealer would NOT need to determine:

a. Capital after deductions but before the application of haircuts
b. The number of shares of a specific equity security in the trading account
c. For any equity security in the trading account, whether a limited market or a ready market exists
d. The market value of the shares of a specific equity security in the trading account

Answer 19

C- In determining if an undue concentration charge needs to be applied, the firm must determine its tentative net capital, which is capital after deductions but before haircuts. If any single position in the trading account exceeds 10% of the tentative net capital of the broker-dealer, the concentration charge is applied. The number of shares and the market value of the shares is necessary in making this determination.

Question 20

Good-faith deposits arising in connection with an underwriting of stock:

a. Are not an allowable asset
b. Are an allowable asset only if the underwriting has not settled
c. Are an allowable asset if 11 days or less have elapsed from the settlement of the underwriting with the issuer
d. Are an allowable asset if less than 30 days have elapsed from the settlement of the underwriting with the issuer

Answer 20

C- A good faith deposit represents the cash deposit made by a broker-dealer that is bidding for an underwriting. Once the underwriting is completed, the issuer that is holding the good-faith deposit will return it to the broker-dealers. If the deposit has not been returned within 11 days of the settlement of the underwriting, the full amount of the deposit must be deducted from capital.

Question 21

Pembridge Brokerage has a fail to deliver on its books. The fail is three days old. The contract value is $45,000, and the market value is $40,000. The security is heavily traded on the Nasdaq system. The haircut on this fail to deliver is:

a. $6,750
b. $0
c. $11,000
d. $1,000

Answer 21

B- Since this fail to deliver contract for a Nasdaq security is three days old, there is no haircut required. A fail to deliver for an equity security is considered to be aged when it becomes five days old. At that point the haircut is applied to the market value of the contract ($40,000) with an adjustment for any differential between market value and contract value. In this case, there is an unrealized loss of $5,000, which would be added to the initial haircut, which is $6,000, for a total haircut of $11,000.

Question 22

A broker-dealer has the following long and short positions in municipal securities.

Long
$900 000New Jersey 7% of 2025 $600,000 Florida 6% of 2020

Short
$100,000 California 6% of 2025
$200,000 Texas 7% of 2020

The haircut that must be applied is:

a. $90,000
b. $105,000
c. $67,500
d. $60,000

Answer 22

B- The haircut on municipal bonds is applied to the greater of the long or short position in each maturity category. In this question, the long position of $1,500,000 is greater than the short position of $300,000, and both are in the same maturity category. Therefore, the 7% haircut would be applied to $1,500,000 and would total $105,000.

Question 23

Pembridge Brokerage has a fail to deliver on its books. The fail is three days old. The contract value is $45,000, and the market value is $40,000. The security is heavily traded on the Nasdaq system. The haircut on this fail to deliver is:

a. $6,750
b. $0
c. $11,000
d. $1,000

Answer 23

B- Since this fail to deliver contract for a Nasdaq security is three days old, there is no haircut required. A fail to deliver for an equity security is considered to be aged when it becomes five days old. At that point the haircut is applied to the market value of the contract ($40,000) with an adjustment for any differential between market value and contract value. In this case, there is an unrealized loss of $5,000, which would be added to the initial haircut, which is $6,000, for a total haircut of $11,000.

Question 24

Which of the following statements is TRUE regarding aged fail to deliver haircuts?

a. Only customer positions are considered.
b. Market values are ignored.
c. They are offset by aged fails to receive.
d. They begin on the fifth business day after settlement.

Answer 24

D- A fail to deliver becomes aged and is subject to a charge on the fifth business day after settlement. Both firm and customer fails are subject to the charge.

Question 25

On Tuesday, April 9, Bridgewater Securities conducts a securities count. Bridgewater is missing 1,000 shares of Rigamarole Corp. valued at $50 per share. The impact on its financial statements at the end of April would be a:

a. $50,000 charge to capital
b. $25,000 charge to capital
c. $50,000 credit item in the reserve formula
d. $50,000 debit item in the reserve formula

Answer 25

B- Bridgewater must deduct $25,000 from its capital to recognize the short difference. After 14 business days from the time it occurred, the charge is 50% of the market value of the securities. April 30 is 15 business days after April 9. The short securities difference does not affect the reserve formula until more than 30 calendar days have passed.

Question 26

A broker-dealer has a short contractual commitment for $6,000 in ABC common stock, a non-exchange-listed OTC security. The current market value is $7,000. The haircut would be:

a. $3,100
b. $2,800
c. $2,100
d. $1,800

Answer 26

A- The haircut is 30%, since ABC is not a Nasdaq or NYSE listed security. There is also a loss of $1,000. The broker-dealer will receive $6,000 when it delivers the stock, which currently has a market value of $7,000. Therefore, the net haircut is $3,100 (30% of $7,000, plus the $1,000 unrealized loss).

Question 27

When the securities subject to a fail to deliver haircut are finally delivered:

a. Net capital increases
b. Cash falls
c. Inventory decreases
d. All of the above

Answer 27

A- Because the firm is no longer taking haircuts on the fail, net capital would increase. Cash would increase upon the delivery of securities.

Question 28

With regard to the haircuts on U.S. government securities and municipal securities, which TWO of the following statements are TRUE?
I. The haircut on governments applies only to the net position.
II. Longer maturities will have smaller haircuts than shorter maturities.
III. Municipal securities haircuts are only on the greater of the long or short position.
IV. Governments are subject to a maximum haircut of 15%.
a. I and II
b. I and III
c. II and III
d. III and IV

Answer 28

B- Haircuts on government securities are applied to the net position only. The haircuts range from 0% for maturities of less than 3 months to 6.0% for maturities of more than 25 years. Municipal securities are subject to a haircut on either the long or short position, whichever is greater. There is no deduction for the other side, even if it is more than 25% of the position that is subject to the haircut.

Question 29

Which of the following percentages is not a published haircut value for equity securities according to SEC Rule 15c3-1?

a. 15%
b. 30%
c. 40%
d. 50%

Answer 29

D- According to SEC Rule 15c3-1, the haircut for an equity security with a ready market is 15%. If a limited market is deemed to exist for the security, the haircut is 40%. Where there is no ready market for the security, the haircut is 100%. In the case of equity securities being pledged as collateral on a secured demand note, the applicable haircut on those securities is 30%.

Question 30

In regard to common stock, fails to deliver are considered to be aged if they are:

a. 4 days or more old
b. 5 days or more old
c. 15 days or more old
d. 21 days or more old

Answer 30

B- Fails to deliver for common stock are considered to be aged, and therefore subject to a deduction in the computation of net capital, if they are 5 days or more old.

Question 31

Consider the following information from Shepherd Brokerage in answering this question.
Net customer debits $1,000,000
Loans collateralized by customer securities $600,000
Cash in Reserve Bank Account $300,000
Assume customers liquidate $600,000 of their holdings and the loans collateralized by customer securities are retired. The effect of these transactions would be a(n):
a. Reduction of net customer debits
b. Increase in cash
c. Increase in cash in the Reserve Bank Account
d. Increase capital

Answer 31

A- Net customer debits would fall by the amount of the securities liquidated. The loans collateralized by customer securities would fall to zero. There is no impact on net capital.

Question 32

Your firm is holding an inventory of short-term corporate debt (commercial paper) maturing in 28 days. The current market value of this position is $186,000. When computing the net capital of the firm, the haircut on this inventory position would be:

a. No haircut since there are only 28 days to maturity
b. A 6.0% haircut since it is commercial paper
c. A 15% haircut because it is a corporate security
d. A 40% haircut since commercial paper has a limited market

Answer 32

A- Commercial paper with less than 30 days to maturity is not subject to a haircut.

Question 33

The inventory records of your firm indicate that 12,200 shares of Nitsy should be in inventory. When the quarterly box count is completed, the actual inventory is 12,500. The market value of Nitsy is $11.85. As the financial principal of the firm, how will you handle this long securities difference when computing the firm’s net capital?

a. Deduct $3,555 from the net capital of the firm.
b. Add $3,555 to the net capital of the firm.
c. Ignore the overage resulting from the box count.
d. Sell the overage and record the proceeds as operating income.

Answer 33

C- Long securities differences for stock that has not been sold have no effect on the net capital of the firm. The broker-dealer will neither add nor deduct the value when computing its net capital. If, however, the securities have been sold, the sale proceeds will be recorded as a special item of revenue and a deduction from net capital is required.

Question 34

A client buys 1,000 shares of Wellman Brothers for a total cost of $30,000. He does not pay for the trade, and his position is liquidated for $26,000. The difference is a(n):

a. An unsecured credit
b. An unsecured debit
c. Haircut at 10%
d. Part of the firm’s tentative net capital

Answer 34

B- This is an unsecured debit. The broker-dealer cannot be sure it can collect this from the client. The net effect is to lower the firm’s capital.

Question 35

A broker-dealer has total assets on its trial balance in the amount of $8,395,000. When calculating allowable assets for net capital purposes, all the following would be included EXCEPT:

a. Fails to deliver, 3 days old
b. Syndicate receivables, 4 days old
c. Good faith deposit, underwriting settled for 62 days
d. Commissions receivable, 8 days old

Answer 35

C- Good-faith deposits for an underwriting that has been settled for more than 60 days are not allowable assets. The other receivables are within the appropriate time frames for consideration as allowable assets

Question 36

When calculating allowable assets for net capital purposes, which of the following statements is TRUE?

a. Cash in the customer Reserve Bank Account is not an allowable asset.
b. Unsecured customer debit balances are allowable assets.
c. Fails to deliver for customer accounts are not allowable at any time.
d. Securities borrowed for customer short sales are allowable assets.

Answer 36

D- Securities borrowed for customer short sales are allowable assets for net capital purposes since broker-dealer assets collateralize the borrowing. Cash in the reserve account is an allowable asset, while unsecured debit items are not allowable. Fails to deliver are allowable assets.

Question 37

If a secured demand note is collateralized by listed stock, the stock is valued at:

a. 100% of market value
b. 85% of market value
c. 70% of market value
d. 15% of market value

Answer 37

C- The value of securities that collateralize a secured demand note depends on the type of security. Securities that have specific haircut rules, such as governments and municipals, are reduced in value by the amount of those haircuts. Equity securities subject to a general haircut are instead reduced in value by 30% when they back a secured demand note. Therefore, the stock is valued at 70% for net capital purposes.

Question 38

Regarding the undue concentration rule, a broker-dealer may exclude debt securities that do not exceed:

a. $10,000
b. $25,000
c. $40,000
d. $100,000

Answer 38

B- There is an exclusion to the undue concentration rule for debt positions that do not exceed $25,000.

Question 39

A broker-dealer owns real estate with a market value of $1,500,000. There is a mortgage on the property in the amount of $1,200,000. When calculating allowable assets for net capital, the amount that would NOT be allowed is:

a. $1,500,000
b. $1,200,000
c. $300,000
d. $0

Answer 39

C- The deduction on a fixed asset for net capital purposes is the amount by which the asset value exceeds the liability. (In this case, $1,500,000 - $1,200,000 = $300,000.)

Question 40

A broker-dealer has an open contractual commitment for $100,000 of municipal bonds maturing in 2025. The current market value of the bonds is $102,000. The haircut that would be applied is:

a. $7,140
b. $7,000
c. $5,140
d. $5,000

Answer 40

C- The haircut on open contractual commitments is based on the current market value minus any unrealized profit or plus any unrealized loss. Note that the haircut is based on the market value, not the contractual value.
In this question, the broker-dealer has a commitment for $100,000. The current market price of the bonds is $102,000. Therefore, the broker-dealer has an unrealized profit of $2,000. The haircut is 7% of the market value of $102,000 ($7,140) minus the unrealized profit of $2,000, for a net haircut of $5,140.

Question 41

A broker-dealer changes from an introducing firm to a clearing firm. The item that would NOT be affected by this change would be:

a. Net capital requirement
b. Calculation of reserve requirement
c. Frequency of FOCUS filing
d. Subordinated loan eligibility for capital

Answer 41

D- Whether a firm is a clearing broker or introducing broker would have no bearing as to whether a subordinated loan is or is not eligible for capital purposes.

Question 42

Answer this question based on the following data for Winthrop Associates.
Cash in Reserve Bank Account	$250,000
Long stock inventory (Nasdaq)	$200,000
Furniture and fixtures	$100,000
Fails to receive	$75,000
Bank loans	$50,000
Retained earnings	$300,000
Common stock	$125,000
The net capital for Winthrop Associates is:
a.	$425,000
b.	$325,000
c.	$295,000
d.	$250,000

Answer 42

C- Add the retained earnings and common stock: $300,000 plus $125,000 = $425,000. This is the beginning equity. Subtract nonallowable assets of $100,000 (furniture and fixtures) to equal $325,000 of tentative net capital. Then deduct haircuts of $30,000 on the long stock position. The net capital of the broker-dealer would be $295,000.

Question 43

Steadfast Brokerage has 5,000 shares of Fenom, Inc. in its trading inventory. The stock is quoted at 10 - 11.50 by two market makers in the Pink Sheets. The value of Fenom, Inc., after applying the appropriate regulatory haircut, would be:

a. $42,500
b. $30,000
c. $20,000
d. $0

Answer 43

B- When a security is quoted by fewer than three market makers, it is considered a limited market security and is subject to a 40% haircut. As the position has a current market value of $50,000, the haircut would be $20,000, leaving a value for net capital purposes of $30,000.

Question 44

Which of the following positions would be subject to the greatest haircut?
a. A T-bill with 6 months to maturity
b. A zero-coupon corporate bond having 30 years to maturity
c. A state G.O. bond maturing in 15 years
d. A $2,000,000 commercial paper issue
Explanation:
Correct.

Answer 44

B- Haircuts are assessed according to product type, based on maturity. In general, the greater the time to maturity, the higher the haircut will be. Corporate bonds carry the largest haircuts, which is 9% for bonds with 25 year maturities.

Question 45

When calculating the net capital of a broker-dealer, certain assets would be allowed, others are disallowed, and still others must be adjusted for their liquidity factors. Which of the following assets would be considered nonallowable assets for net capital purposes?
a. Cash in the Reserve Bank Account
b. Secured customer debit balances
c. Securities borrowed to facilitate customer short sales
d. Syndicate receivables – common stock, 15 days old
Explanation:
Correct.

Answer 45

D- Syndicate receivables for underwritings that have settled are allowable for certain periods. If the underwriting relates to common stock, the receivable would not be allowable after 11 days; however, for a municipal underwriting, the syndicate receivable becomes nonallowable after 60 days.

Question 46

Your firm is carrying convertible bonds that are currently trading at a price of 92% of par. For net capital purposes, the haircut applied would be:
a.	0, as there is no haircut on bonds
b.	2% to 9% of the face amount
c.	15% of the face amount
d.	15% of the market value
Explanation:
Correct.

Answer 46

B- If a convertible bond is trading for 100% or more of par value, the haircut is the same as it were common stock; however, if the bond is trading at a discount to par, the haircut is the same as if the bond were a nonconvertible bond. The haircuts for nonconvertible bonds vary from 2% to 9% depending on maturity.

Question 47

Brighton Brokerage owns 5 unlisted call options on Chamberlain Corp. The strike price is 65. The stock is currently 63, and Brighton paid $3,000 to establish the position. The treatment of the calls for net capital purposes is:
a. There is a haircut of 15%
b. There is a 50% haircut
c. No value is given
d. The firm will deduct 20% of the value of the shares, less the out-of-money amount
Explanation:
Correct.

Answer 47

C- This topic is addressed under adjustments to net worth in the Net Capital Rule. If an unlisted call or put is out of the money, it is given no value. In this case the value of the stock is less than the exercise price, therefore the calls are given no value.

Question 48

In regard to subordination agreements under Rule 15c3-1, which of the following statements are CORRECT?
I. Secured demand notes are collateralized by the pledging of cash and/or securities by the lender.
II. Subordinated loans are agreements for the borrowing of cash.
III. The collateral value of securities pledged on a secured demand note is the market value less the percentage deduction prescribed by Rule 15c3-1.
IV. The minimum duration of a subordination agreement is three years.
a. I and II only
b. II and III only
c. I, II, and III only
d. I, II, and IV only

Answer 48

C- Secured demand notes may be collateralized by either cash, securities, or a combination of cash and securities. Subordinated loans are borrowings of cash only. In the case of the secured demand note, the value assigned to the securities that are pledged as collateral is the market value of the securities minus the appropriate haircut.
The minimum duration of a subordinated loan is normally one year. Properly subordinated loans may be considered to be part of a broker-dealer’s capital. If a broker-dealer wishes to consider the proceeds of a subordinated loan to be part of its equity as well as part of its capital, then the lender must be a partner or stockholder, the agreement may not provide for accelerated maturity, and the minimum duration must be three years.

Question 49

The trial balance of your firm at the end of the month shows the following trading account balances.
Firm Trading Account	
Common stock -- Long	$1,350,000
Common stock -- Short	$900,000
The total haircut on the firm trading accounts would be:
a.	$84,375
b.	$202,500
c.	$286,875
d.	$337,500
Explanation:
Incorrect.

Answer 49

C- The firm would be subject to a standard 15% haircut on the greater of the two positions ($1,350,000 x 15% = $202,500), plus an additional haircut of 15% on any amount that lesser side exceeds 25% of the value of the greater side.
Long trading $1,350,000 25% = $337,500
Short trading $900,000
Excess $562,500

Haircut on the short position: ($562,500 15% = $84,375)
Total haircut: $202,500 + $84,375 = $286,875

Question 50

The stock loan department records indicate that the broker-dealer has borrowed $240,000 worth of common stock for delivery against customer short sales. When computing the net capital of the broker-dealer, the haircut on the securities borrowed would be:
a.	No haircut would be required
b.	15% of the market value of the stock
c.	50% of the market value of the stock
d.	100% of the market value of the stock
Explanation:
Incorrect.

Answer 50

A- When borrowing stock from another broker-dealer, the firm is required to deposit 100% of the market value of the borrowing in cash. This deposit will be marked to the market on a daily basis. Since the lending firm is holding the cash equal to the market value of the stock, no haircut would be required.

Question 51

A firm has an open contractual commitment to underwrite stock in the amount of $10,000,000 with a 10% concession. The current market value of the stock is $9,800,000. The haircut on the position would be:
a.	$1,470,000
b.	$1,500,000
c.	$1,270,000
d.	$670,000
Explanation:
Correct.

Answer 51

D- The haircut on an open contractual commitment to underwrite stock is 15% of the market value reduced by any concession to the broker-dealer and increased by any unrealized loss. In the example:
15% of $9,800,000 (market value) = $ 1,470,000
Less the concession (10% of $10,000,000) = $ 1,000,000
Plus the unrealized loss = $ 200,000
Haircut = $ 670,000

Question 52

At the beginning of each month, your new registered representatives are given a $5,000 draw against their commission production for the month. If commissions produced exceed their draw, they will receive the higher amount. If commissions do not meet the draw, they will receive the $5,000 as their commissions for the month. When calculating haircuts for net capital, the prepaid commissions would be:
a. An allowable asset at 100%
b. A nonallowable asset
c. A subtraction from actual commissions to determine if they are allowable
d. An entry not subject to any haircut
Explanation:
Correct.

Answer 52

B- Prepaid expenses are non liquid assets and therefore are not allowable when calculating net capital.

Question 53

A broker-dealer has real estate carried on its books for $1,000,000. The market value is $1,800,000. The deduction from net worth is:
a.	$1,800,000
b.	$1,000,000
c.	$800,000
d.	$0
Explanation:
Incorrect.

Answer 53

B- The deduction would be $1,000,000, the carrying value of the real estate. Market value is disregarded. If there is a mortgage, the mortgage liability is deducted from the carrying value to determine the net deduction.

Question 54

Wireless Security Trading (WST) has begun an investor education campaign by purchasing a recreational vehicle and outfitting it as a working trading floor. The cost of the vehicle and equipment is $450,000. WST paid $150,000 and obtained a loan on the RV for $300,000. How will WST account for this investment?
I. A $150,000 nonallowable asset
II. A $450,000 nonallowable asset
III. No increase to aggregate indebtedness
IV. A $450,000 increase to aggregate indebtedness
a. I and III only
b. I and IV only
c. II and III only
d. II and IV only
Explanation:
Correct.

Answer 54

C- Automobiles, boats, and aircraft are 100% nonallowable assets. Any broker-dealer liability secured by these assets will not be part of the broker-dealer’s aggregate indebtedness.

Question 55

Half and Nelson Leverage Capital Inc. currently maintain long call positions in the following securities:
120 at-the-money contracts LHVZ Oct 65 @ 3.50
16 in-the-money contracts PLUM Nov 45 @ 12.10
320 out-of-the-money contracts SLIB Nov 70 @ 1.20
What is the broker-dealer’s required haircut on these positions?
a. $14,964
b. $38,400
c. $49,880
d. $99,760

Answer 55

C- Haircuts on long option positions are 50% of the market value of the premium.
120 contracts x $350 = $42,000 x 50% = $21,000
16 contract x $1,210 = $19,360 x 50% = $9,680
320 contracts x $120 = $38,400 x 50% = $19,200
Total haircut = $49,880

Question 56

Andrews, Lowell, Barbican & Co., a registered broker-dealer has the following positions in J. Verne Publishing (JVP):
5,000 shares of JVP, current market value 67.50
50 short JVP covered calls, exercise price 65 @ 4.75
What is the total haircut on this stock and option position?
a. $11,250
b. $26,875
c. $38,125
d. $50,625

Answer 56

C- Covered calls require a 15% haircut on the stock position, which is reduced by the amount that the options are in-the-money. In this case the option contracts are in the money by 2.50 points, which amounts to $250 per contract. The calculations for the haircuts are:
5,000 x $67.50 = $337,500 x 15% = $50,625
$50,625 - ($250 x 50) =
$50,625 - $12,500 = $38,125
Total Haircut = $38,125

Question 57

Stallion, Trotter and Gelding Investments have the following proprietary positions:
Long 1,000 shares of Horsefeathers Mattresses Inc. (HFM) at 42
Long 10 HFM Apr 40 puts @ 1.75
What is the required haircut based on this hedged stock position?
a. 0
b. $2,000
c. $6,300
d. $7,175

Answer 57

B- robisonThe haircut on a hedged position is the lesser of 15% of the market value of the stock ($42 x 1,000 = $42,000 x 15% = $6,300) not to exceed the out-of-the-money amount of the option. In this example, the maximum loss is 2 points per share. This amounts to a maximum potential loss of $2,000

Question 58

Ali, Frazier & Co. is an introducing broker-dealer that has a PAIB with the member firm that conducts its clearing. Ali, Frazier & Co. has the following proprietary positions in Manila Paper and Corrugated Box Co. (MPB):
Short 500 shares of MPB at 37 
Long 5 MPB Feb 35 calls @ 4.75
What is the required haircut for this stock and option position?
a.	0
b.	$1,000
c.	$2,300
d.	$2,775

Answer 58

A- A short stock and long call create a hedged position. The haircut is based on the lesser of 15% of the contract value of the stock position ($37 x 500 = $18,500 x 15% = $2,775) or the maximum potential loss for the position. Since the call option can be exercised at 35, the stock can be acquired at a price lower than the contract sale value of the stock (37). The position would result in a gain upon exercise of the option. As such, the haircut is 0.

Question 59

Volcanic Investments does not have a proprietary trading account. It clears through Magma Securities. Which of the following statements is TRUE?

a. Volcanic Investments does not need to enter into a PAIB agreement in order for its deposits with Magma Securities to be treated as an allowable asset for capital purposes.
b. Magma Securities may never use the deposits made by Volcanic Investments for its own capital calculations.
c. Volcanic Investments must enter into a PAIB agreement in order for it to treat its deposit with Magma Securities as an allowable asset for capital purposes.
d. The deposit with Magma Securities will not be an allowable asset for either Magma Securities or Volcanic Investments if a PAIB agreement is not in place.

Answer 59

C- If an introducing firm does not have a proprietary trading account, it must still enter into a PAIB agreement with its clearing firm in order to treat its deposit at the clearing firm as an allowable asset for capital purposes.

Question 60

When a broker-dealer enters into a PAIB agreement with a clearing member, which of the following statements is CORRECT?
a. The introducing broker must notify its DEA five business days before the agreement will become effective.
b. The clearing member must notify its DEA five business days before the agreement becomes effective.
c. The introducing broker must notify its DEA within two business days of the agreement’s effective date.
d. The clearing member must notify its DEA within two business days of the agreement’s effective date.
Explanation:
Incorrect.

Answer 60

C- The introducing broker is required to notify its designated examining authority (in writing) no later than two business days following the effective date of a PAIB agreement.

Question 61

A person operates a broker-dealer as a sole proprietor. His personal liabilities exceed his personal assets. How is this treated under the net capital rule?
a. Personal liabilities have no impact on the broker-dealer’s net capital.
b. The amount of liabilities in excess of assets is deducted from net capital.
c. One-half of the excess of liabilities over assets is deducted from net capital.
d. The excess liabilities are included as a footnote in the Statement of Annual Financial Condition.
Explanation:
Correct.

Answer 61

B- The entire excess of liabilities over assets is deducted from net capital.

Question 62

What is the haircut on cumulative nonconvertible preferred stock?
a. 10% of par value
b. 10% of market value
c. 15% of par value
d. The haircut percentage varies based on maturity
Explanation:
Incorrect.

Answer 62

B- Haircuts are based on market value. For nonconvertible preferred stock, the haircut is 10%.

Question 63

Winchell Brokerage has a long inventory position in Freeport Edison preferred stock shares. The shares have been called for redemption on November 15. In computing Winchell's net capital as of October 31, the deduction for the preferred shares is:
a.	0
b.	2%
c.	10%
d.	15%
Explanation:
Correct.

Answer 63

A- Securities called for redemption within 90 days are not subject to any haircut.

Question 64

Use the following information to answer this question:
Fleming Brokerage is long the following unlisted option: Hightower Corporation April 42 call, purchased for 4, current premium 8.25.
The current market price for Hightower shares is 48. The treatment for capital purposes is:
a. Add $425 to net worth
b. Subtract $400 from net worth
c. Add $600 to net worth
d. Add $825 to net worth
Explanation:
Incorrect.

Answer 64

C- The call is in-the-money; the in-the-money ($600 per contract) amount is added to net worth.

Question 65

Use the following information to answer this question:
Fleming Brokerage is long the following unlisted option: Hightower Corporation April 42 call, purchased for 4, current premium 8.25.
Suppose the strike price of the Hightower unlisted call is 51 and the shares are selling at 48. What is the capital treatment?
a. Add 3 ($300) to net worth
b. Subtract 3 ($300) from net worth
c. No value is given
d. Add 20% of the market value of the shares to net worth
Explanation:
Correct.

Answer 65

C- This call is out-of-the-money; no value is given, and there is no change to net worth.

Question 66

A bond guaranteed by the Canadian government with a 28-year maturity would have a haircut deduction of:
a.	5%
b.	6%
c.	15%
d.	20%
Explanation:
Correct.

Answer 66

B- Canadian government bonds are subject to the same haircut schedule as U.S. government securities. For maturities of 25 years or more, the haircut is 6%

Question 67

Worthington Securities provides a $40,000 advance to one of its salespeople. How is this treated according to the net capital rule?
a. It is an allowable asset.
b. It is subject to 100% deduction.
c. It must be added to aggregate indebtedness.
d. It is an allowable asset, subject to a 100% haircut.
Explanation:
Correct.

Answer 67

B- The advance is a nonallowable asset and is subject to a 100% deduction rather than a 100% haircut. If the asset had been included as allowable, but subject to a 100% haircut, the tentative net capital of the broker-dealer would be overstated.

Question 68

Caspian Securities is a general securities broker-dealer that intends to obtain a temporary subordination to participate in an underwriting of Chicago Rivet Inc. The broker-dealer’s net capital is $325,000 and AI to NC ratio is 1,100%. The DEA will:

a. Require daily computation of net capital
b. Deny the subordination
c. Grant the subordination
d. Require an amendment to the broker-dealer application

Answer 68

B- A temporary subordination is not available if a firm’s AI/NC ratio exceeds 1,000 percent (10:1 ratio) or if net capital is less than 120% of the required minimum. The high percentage of AI to NC in this case will result in a denial for the request of a temporary subordination loan.

Question 69

Highridge Securities has recently conducted its quarterly box count. The inventory revealed a long securities difference. If Highridge liquidates the securities, what is the impact on net capital?

a. Net capital will increase.
b. The difference should be deducted from net capital.
c. The difference can be ignored.
d. There is a deduction of 40%.

Answer 69

B- When a long securities difference exists, the securities held long do not contribute to net capital. When long securities differences are liquidated, the cash received does not contribute to the net capital of the firm. Since cash is an allowable asset, the cash received from the sale of the long securities difference must be subtracted and treated as a nonallowable asset.

Question 70

McCutcheon Securities has sold one of its exchange seats for $1,300,000 dollars. The broker-dealer has a receivable for that amount. Under what conditions will the receivable be treated as an allowable asset?

a. If the seat is on a national exchange
b. Under no circumstances
c. If the buyer has net capital equal to the amount of the receivable
d. Once the buyer’s membership is ratified by the exchange

Answer 70

B- Neither the ownership of the seat nor a receivable created from its sale is treated as an allowable asset.

Question 71

What is the deduction from net worth if the following positions are held in the proprietary account of a broker-dealer?
Long 1 Thermo May 40 call
Short 1 Thermo May 45 call
Thermo’s stock price is 42
a. 0
b. $500
c. 20% times $4,200 less the out-of-the-money amount
d. 20% times $4,000 plus the in-the-money amount
Explanation:
Incorrect.

Answer 71

A- There is no deduction necessary in this example. If the exercise price of a long call is equal to or less than exercise value of a short call (based on the same underlying security), a deduction is not required.

Question 72

What is the deduction from net worth in the firm's proprietary account for the following positions?
Long Thermo July 50 call @ 2.15 
Short Thermo July 45 call @ 4.55
a.	0
b.	$500
c.	The difference in premiums
d.	$4,500
Explanation:
Correct.

Answer 72

B- The broker-dealer has a proprietary position in a spread. In this case, the deduction required is based on the level of risk associated with the difference in strike prices. The stock can be called away from the broker-dealer at $45 per share. The broker-dealer may exercise its long call at $50 per share. The 5-point difference in strike prices amounts to a deduction of $500.

Question 73

Haskins Trading (a broker-dealer) introduces customers to Lionheart Brokerage. The clearing agreement states that deficits in accounts are the liability of the introducing firm. Who must deduct the deficiency?

a. Haskins
b. Lionheart
c. Both
d. Neither

Answer 73

C- FINRA rules require that both firms deduct deficits in customer accounts from net capital.

Question 74

Utopia Securities has a trading account containing $200,000 of XYZ common stock and an investment account with $350,000 of XYZ common. In addition, the broker-dealer holds $550,000 of XYZ common stock as collateral for a secured demand note. When determining undue concentration:
a. Only securities in the firm’s trading account are considered
b. A value of $1,100,000 for XYZ common stock will be applied
c. The $550,000 lien on the note is excluded from undue concentration considerations
d. The shares in the investment account and 70% of the value of the securities pledged are aggregated
Explanation:
Incorrect.

Answer 74

B- All positions contributing to net capital are subject to undue concentration haircuts if the positions exceed 10% of tentative net capital. In this case, the trading, investment, and secured demand note holdings must be aggregated.

Question 75

Which of the following would be considered non-control locations under Rule 15c3-3?
a. Fails to receive, open for 25 days
b. Dividends receivable, open for 45 days
c. Securities in transfer for 45 days
d. Customer securities carried in a special omnibus account
Explanation:
Correct.

Answer 75

C- If securities are at the transfer agent for more than 40 calendar days, they are not in control of the broker-dealer. The position must be verified.

Question 76

A broker-dealer is set up as a limited partnership. If one of the partners dies, what is the capital treatment of shares registered in his name while the decedent’s estate is in probate?
a. No haircut is taken.
b. A 30% haircut is applied.
c. A 100% haircut is applied.
d. The securities are treated as a nonallowable asset.
Explanation:
Incorrect.

Answer 76

D- The securities cannot be sold for legal reasons and are treated as a nonallowable asset.

Question 77

Ralph Gordon, CFO of Quicktrade Brokerage, would like to pledge $800,000 of Enervate common stock to secure a $500,000 SDN. Mr. Gordon acquired the shares six months ago in a private placement. The regulators would find this:
a. Adequately collateralized
b. Acceptable provided that the SDN had a minimum term of one year
c. Unacceptable because the shares are not registered
d. Insufficient collateral because of the 40% haircut
Explanation:
Correct.

Answer 77

C- Only securities fully paid and marketable under the Securities Act of 1933 may be pledged as collateral for a secured demand note.

Question 78

The maximum reduction of a secured demand note below its original principal amount is:

a. 10%
b. 15%
c. 25%
d. 30%

Answer 78

B- The maximum reduction of a secured demand note is 15%; after such reduction, net capital must still be maintained at 120% of the required minimum amount.

Question 79

Blueridge Partners is a broker-dealer and a lender of a revolving subordination agreement. They are required to take a capital charge:

a. If the borrower files under 17a-11
b. For the full amount of the loan commitment
c. If their AI/NC exceeds 8/1
d. Never

Answer 79

B- Broker-dealers that lend pursuant to a revolving subordinated agreement must take a capital charge for the full amount of the loan commitment. The amount actually lent to the borrower is immaterial to the capital charge taken. The capital charge will begin on the effective date of the revolving subordinated loan agreement and continue through the maturity date of the loan.

Question 80

A broker-dealer upon request is NOT required to provide its most recent statement of financial condition to which of the following?

a. Another broker-dealer that has securities that are being held at the broker-dealer
b. Another broker-dealer that has cash and securities that are being held at the broker-dealer
c. A client that has cash and securities that are being held at the broker-dealer
d. A prospective client that has indicated she will open an account at the broker-dealer

Answer 80

D- There are two SRO rules regarding a broker-dealer’s obligation, upon request, to provide its most recent statement of financial condition (balance sheet). One rule concerns other member firms (i.e., other broker-dealers) and states that if a member has an open transaction or a deposit of cash or securities at another member firm, that member is required to furnish its most recent statement of financial condition. The other rule applies to customers of a broker-dealer and defines a customer as a person who has cash or securities held by the broker-dealer. There is no requirement under this rule to provide such financial information to prospective clients.

Question 81

A client purchases 1,000 shares of XAM at $50 in his cash account. The client has not met his Regulation T requirement by the payment date and the price of XAM has now declined to $48. If your firm requested an extension, which of the following statements is TRUE?

a. The firm is required to take a $2,000 charge against its capital.
b. The firm is not required to take a charge against its capital.
c. The firm is required to take a $48,000 charge against its capital.
d. The firm is not permitted to request an extension for a client who has a cash account.

Answer 81

B- The firm is not required to take a capital charge as an extension has been requested. Without the request, a $2,000 charge should be taken.

Question 82

A broker-dealer’s proprietary account contains the following position:
Short 100 XYZ @ 40 and Long 1 XYZ May 50 call
What is the amount of the haircut applied to this position?
a. $500
b. $600
c. $400
d. $1,000

Answer 82

B- In the case of proprietary accounts involving short stock positions and protective calls, the haircut is based on the short stock position. A charge of 15% is applied to the current market value of the short position for a haircut of $600 ($4,000 x .15). The haircut applied to the short position may not exceed the out-of-the-money amount of the option. Since the option is out-of-the-money by 10 points or $1,000, a haircut of $600 is appropriate.

Question 83

A broker-dealer has insurance claims that are not covered by an opinion of outside counsel that the claims are valid. When is a deduction taken in calculating the firm’s net capital?

a. After 7 calendar days
b. After 7 business days
c. After 30 calendar days
d. After 30 business days

Answer 83

B- Net capital is computed by starting with net worth (equity) and making certain deductions based on the liquidity of the broker-dealer’s assets. These adjustments can generally be classified into two general groups – (1) haircuts on securities positions and (2) any other reductions, which are usually referred to as deductions. Insurance claims which after 7 business days from the date of the loss that are not covered by an opinion of outside counsel that the claim is valid, are deducted when calculating the firms net capital.