Questions Flashcards
In order to give the stock price a boost a corporate officer posts favorable, yet slightly inaccurate information, about his company's earnings in an internet chat room. After a few days of posting and blogging, the stock starts to rise a couple of points and the officer decides to exercise a number of stock options in order to make a sizable profit. Which of the following acts did this officer violate by his actions? A) Securities Act of 1933 B) The Investment Company Act of 1940 C) The Investment Advisers Act of 1940 D) Securities Exchange Act of 1934
D)
Securities Exchange Act of 1934
Which of the following statements regarding bonds is(are) CORRECT?
1) Lower coupon bonds are more volatile than higher coupon bonds as interest rates change.
2) Bond prices and changes in interest rates have an inverse relationship.
3) A direct relationship exists between a bond’s coupon rate and duration.
1 & 2
Lower coupon bonds are more volatile than higher coupon bonds as interest rates change. When interest rates fall, bond prices increase and vice versa. Bond prices and the direction of market interest rates have an inverse relationship. The greater the bond’s duration, the greater the price volatility of the bond. The coupon rate and duration of a bond have an inverse relationship.
Rob built a house several years ago in New Orleans. The replacement value has increased to $200,000. Rob originally purchased insurance on the house under a homeowners broad form HO-2 policy in the amount of $150,000. The policy contains an 80% coinsurance clause. The roof of the house has been damaged by fire. Since the home was built, the roof had depreciated by 25%. The cost to replace the roof will be $20,000. How much will Rob collect from his insurance policy? A) $20,000 less the deductible B) $18,750 less the deductible C) $0 D) $15,000 less the deductible
B) $18,750 less the deductible
Jeff and Kay, ages 67 and 65, respectively, filed a joint income tax return for the current year. They provided all of the support for their 18-year-old son, who had $2,200 of gross income. Their 23-year-old daughter was a full-time student until her graduation on June 25 of the current year. Before her graduation, she earned $4,450, which was 40% of her total support for the current year. Her parents provided the balance of her support. Jeff and Kay also provided 100% of the support for Kay's father, who is a lifelong resident and citizen of Colombia. How many dependents may Jeff and Kay list on their income tax return for the current year? A) 2. B) 5. C) 3. D) 4.
A) 2
Which of the following statements regarding employee elective deferrals under a Section 401(k) plan is(are) CORRECT?
A) These contributions are subject to FICA and FUTA but not to federal income tax at the time of contribution to the plan.
B) These contributions are not subject to federal income tax, FICA, or FUTA.
C) The actual deferral percentage (ADP) for highly compensated employees in a Section 401(k) plan cannot be more than the ADP of the nonhighly compensated employees multiplied by 1.50.
D) These contributions are not subject to payroll taxes but are subject to federal income tax.
A)
These contributions are subject to FICA and FUTA but not to federal income tax at the time of contribution to the plan.
Joan gives her son property with an adjusted tax basis of $35,000 and a fair market value of $30,000. No gift tax is paid. Joan's son subsequently sells the property for $33,000. What is his recognized gain (or loss)? A) $2,000 loss. B) $3,000 gain. C) $33,000 gain. D) No gain or loss.
D) No gain or loss.
Because the fair market value (FMV) on the date of the gift was less than the donor’s (Joan’s) adjusted tax basis, the double basis rule applies. Under the double basis rule, no gain or loss is recognized if the donee sells the property at a price that is between the donor’s adjusted basis and the FMV on the date of the gift.
Janice, age 50, wants an investment that will offer her the opportunity for long-term growth with moderate risk. She wants a customized portfolio based on an asset-based fee structure. Which of the following would be the best choice for Janice?
A) Large-cap growth separately managed account.
B) S&P 500 Index exchange-traded fund.
C) Growth and income mutual fund.
D) Balanced mutual fund.
A) Large-cap growth separately managed account.
The best choice for Janice is the large-cap growth separately managed account. This type of investment account offers a customized portfolio approach and an asset-based fee structure for portfolio management services.
Vicki, age 62, has a net worth of $540,000. Her home has a fair market value of $250,000. She recently had a stroke and is paralyzed. Vicki has 2 children and 6 grandchildren. As her financial planner, which of the following would you recommend?
1) Transfer the house to an irrevocable trust in an effort to qualify for Medicaid immediately.
2) Transfer both the house and contents to a revocable living trust to avoid probate.
3) Give 1 of the adult children a durable power of attorney for health care.
4) Gift $15,000 to every child and grandchild each year.
2 & 3
Transferring both the house and contents to a revocable living trust to avoid probate and giving 1 of the adult children a durable power of attorney for health care are good recommendations. Because of the look-back period, transferring the house to an irrevocable trust in an effort to qualify for Medicaid may result in Vickie being subject to a delay before qualifying for Medicaid. Gifting $15,000 to every child and grandchild each year would divert resources needed for Vickie’s care. With her poor health and low level of assets, it is not advisable for Vickie to reduce her available resources.
Sally purchased a single premium deferred annuity (SPD in 1990 at a cost of $42,000. Her lifetime annuity distributions of $833.33 per month will begin on September 1st of the current year, at which time her life expectancy will be 21 years. How much must Sally include in her gross income from this SPDA in the current year? (Round to the nearest dollar)
A) $2,667
B) $8,000
C) $667
D) $2,000
$2,667
Sally must include $2,667 in her gross income in the current year. Before the annuitant reaches the age of projected life expectancy, each payment from a fixed annuity is considered partially a return of basis and partially as taxable income as determined by an exclusion ratio. Therefore, $42,000 (cost basis) divided by $210,000 (total expected benefits over 21 years) equals 20% exclusion ratio. This means 20% of the payments in the current year ($3,333 × 20%), or $667, is excluded from gross income. The remaining 80%, or $2,667, must be included in gross income.
Based on Markowitz’s theory, which of the following portfolios do NOT belong on the efficient frontier?
Portfolio Expected Return Standard Deviation
1 10% 12%
2 11% 13%
3 14% 12%
4 17% 17%
5 19% 17%
1, 2 & 4
The efficient frontier consists of portfolios with the highest expected return for a given level of risk. Portfolio 3 has a higher expected return and a standard deviation less than or equal to portfolios 1 and 2. Therefore, portfolios 1 and 2 are not on the efficient frontier. Portfolio 5 has a higher expected return and a standard deviation equal to portfolio 4. Therefore, portfolio 4 is not on the efficient frontier.
On January 10 of the current year, Mark sold stock with an adjusted tax basis of $6,000 to his son Les for $4,000 (fair market value). On July 31 of the next year, Les sold the same stock for $5,000 in a bona fide arms-length transaction to Sara, who is unrelated to Les or Mark. What is the proper tax treatment for these transactions?
A) Les has a recognized gain of $1,000 in the next year.
B) Neither Mark nor Les has a recognized gain or loss in either year.
C) Mark has a recognized loss of $2,000 in the current year.
D) Les has a recognized gain of $2,000 in the current year.
B) Neither Mark nor Les has a recognized gain or loss in either year.
This is an application of the related party rules. Neither Mark nor Les has a recognized gain or loss in either year. Mark has a $2,000 realized loss in the first year, but cannot recognize it because of the related party rule. Mark forever loses the ability to take a deduction for the loss because it is the result of a related party transaction. Les has a realized gain of $1,000 in the second year. He can reduce his gain by Mark’s loss (up to the amount of gain). Les has no gain or loss in the second year. The remaining $1,000 loss is no longer available to either of them.
All of the following are reasons an employer might favor a nonqualified deferred compensation plan over a qualified retirement plan EXCEPT
A) nonqualified plans do not have to comply with the nondiscrimination rules that apply to qualified plans.
B) nonqualified deferred compensation plans are not subject to all the reporting and disclosure requirements that pertain to qualified retirement plans.
C) a nonqualified plan typically has lower administrative costs.
D) nonqualified plans provide the employer with an immediate income tax deduction.
D) nonqualified plans provide the employer with an immediate income tax deduction.
Nonqualified deferred compensation plans provide deferred employer deductions and do not allow an income tax deduction until the employee recognizes the income on his tax return.
Which of the following statements regarding the income tax treatment of involuntary conversion of real property is(are) CORRECT?
1) Gain may be deferred if the taxpayer reinvests the amount realized from the converted property in another property.
2) The period for reinvestment is 2 years from the end of the year in which the realization took place for conversion events caused by nature (e.g., fire, earthquake).
3) The reinvestment period for conversion acts caused by government (eminent domain) is 3 years from the end of the year in which realization of the conversion took place.
4) If the conversion was into cash, the nonrecognition treatment is mandatory, not elective.
1, 2, & 3
Gain may be deferred if the taxpayer reinvests the amount realized from the converted property in another property. The period for reinvestment is 2 years from the end of the year in which the realization took place for conversion events caused by nature. The reinvestment period for conversion acts caused by government/eminent domain is 3 years from the end of the year in which realization of the conversion took place. If the conversion is into cash, nonrecognition is elective.
Which of the following statements regarding nonqualified stock options (NQSOs) and incentive stock options (ISOs) is(are) CORRECT?
1) NQSOs will not create an AMT adjustment upon exercise, but ISOs will.
2) Gain may be included in W-2 wages upon exercise for NQSOs but not ISOs.
3) Once vested, both NQSOs and ISOs can be exercised and the stock can be sold immediately.
4) Typically, on the date of the option grant, W-2 compensation income, which is a type of ordinary income, is created for an NQSO but not for an ISO.
B)
1, 2, and 3.
Statement 4 is incorrect. The grant date of the option is not typically a taxable event for either an NQSO or an ISO.
John, age 55, is divorced and retired. He has the following liquid assets on deposit at Allworld Bank, an FDIC-insured financial institution:
Account Ownership Balance
Certificate of deposit John $225,000
Savings account Joint with son $70,000
Rollover traditional IRA John $150,000
Checking account John $80,000
What amount is insured by the FDIC?
$470,000
The FDIC insures separate legal categories of accounts. As a result, the IRA will be insured for $150,000, but can be insured up to $250,000 as the balance increases. The individual accounts (checking and CD owned by John are aggregated and are insured up to $250,000 in total. The joint account is insured for $70,000.
Portfolio A has a standard deviation of 12%, and the market has a standard deviation of 16%. The correlation between Portfolio A and the market is 0.5. What percentage of the total risk is unsystematic risk?
A) 25%
B) 0%
C) 75%
D) 50%
C) 75%
The coefficient of determination (R-squared) of Portfolio A is 25% (0.25). This is calculated by squaring the correlation coefficient (R) of 0.50 (0.50 × 0.50 = 0.25). Therefore, 25% is the percentage of Portfolio A returns that may be explained by the market (or systematic risk). The remainder of the percentage of returns (movement) of Portfolio A is explained by factors independent of the market (or unsystematic risk). To determine this, subtract the systematic risk from 1.0 (1.0 − 0.25 = 0.75).
Which of the following pension plans must be covered by Pension Benefit Guarantee Corporation (PBG) insurance?
1) Cash balance pension plan.
2) Money purchase pension plan.
3) Target benefit pension plan.
4) Traditional defined benefit pension plan.
1 & 4
Only defined benefit pension plans (including cash balance pension plans) are covered by the PBGC.
Janice has owned her own company for 25 years. She is now 54 and wishes to retire at 64. She currently employs 5 people, all between the ages of 24 and 33. If Janice wanted to establish a retirement plan with the highest benefit for her, assuming the company has adequate cash flow, what is the most appropriate plan?
A) Age-based profit-sharing plan.
B) Money purchase pension plan.
C) Cash balance pension plan.
D) Traditional defined benefit pension plan.
D) Traditional defined benefit pension plan.
A defined benefit pension plan is the best choice because a traditional defined benefit pension plan favors older participants and would allow the maximum contribution for Janice. This plan is especially appropriate because the company has adequate cash flow.
The other plans are incorrect because:
A cash balance pension plan does not favor older participants. Janice is age 54 and wants to retire in 10 years. Money purchase pension plans do not favor older participants with larger annual contributions than a similarly compensated younger participant.
Although an age-based profit-sharing plan will favor older participants, it is still a defined contribution plan and would be subject to annual additions limits. A traditional defined benefit pension plan will allow for a larger contribution for Janice. An age-based profit-sharing plan would only be appropriate if the company had unstable cash flows.
Ray is 72 years old and must take a required minimum distribution from his IRA. The calculation will be based on an account balance of $200,000. His 53-year-old wife, Susie, is his beneficiary. The Table III life expectancy factor for someone 72 is 26.5 The Table II life expectancy for a 72- and 53-year-old married couple is 32.4. What is the lowest amount Ray can receive from his IRA without incurring a penalty (round to the nearest dollar).
$6,173
Based on the required minimum distribution rules, the lowest amount Ray can withdraw without incurring a penalty is $6,173. The minimum distribution rules automatically factor in a 10-year age difference for the single life expectancy table; however, when the beneficiary is a spouse who is more than 10 years younger, the joint life expectancy factor from Table II may be used. Therefore, Ray can use the 32.4 factor ($200,000 divided by 32.4 equals $6,173).
Which of the following individuals are highly compensated employees for qualified plan purposes for 2020? Assume the company made no relevant elections regarding the top 20% of employees.
1) Steve, a 6% owner of an incorporated law firm.
2) Mike whose salary was $180,000 last year and who was the company’s top-paid employee.
3) James, whose salary was the 10th highest of 40 people, and who earned $135,000 last year.
4) Donna, the corporate vice president of marketing, and an officer, whose salary last year was $85,000.
1, 2 & 3
Your client has received a large financial windfall. She is concerned her family will be tempted to spend it unwisely, so she would like as much as possible designated for retirement over the years. Rank the following retirement funding approaches from largest to smallest according to the size of the annual saving amount needed to fund the goal.
1) Capital Preservation Approach
2) Capital Utilization Approach
3) Wealth Preservation Approach
4) Never retiring
3, 1, 2, 4
The wealth preservation approach retains the purchasing power of the money in the fund at the assumed retirement date. The capital preservation approach only retains the amount of dollars in the retirement account at the assumed retirement date. If the retirement is planned for about 25 years and inflation averages around 3%, the purchasing value of the capital will be cut in half. The wealth preservation approach addresses this issue. The capital utilization approach consumes the principal at retirement over time. Since never retiring is the obvious choice for the lowest amount, only two answers were viable candidates.
Bonnie, age 45, has a Roth IRA she established at age 35 and a qualified tuition plan (QTP) under Section 529. She has previously contributed $8,000 to the Roth IRA. Three years ago, she converted $20,000 from a traditional IRA to a Roth IRA. Her Roth IRAs have a combined balance of $35,000. There is another $35,000 in the QTP. If the entire $70,000 were distributed today to pay for her son’s college tuition, which of the following is CORRECT?
A) The QTP distribution is taxable, but no penalty is applied.
B) A portion of the Roth distribution is subject to regular income tax but the QTP distribution is tax free.
C) The entire distribution of $70,000 will be tax free.
D) A portion of the Roth distribution will incur a 10% early withdrawal penalty.
B) A portion of the Roth distribution is subject to regular income tax but the QTP distribution is tax free.
While Bonnie has satisfied the 5-year holding period requirement, the distribution is nonqualified because the distribution is not attributed to attainment of age 59½, death, disability, or first time home purchase. The portion of the distribution attributable to earnings is subject to regular income tax. None of the Roth distribution will incur a 10% penalty because the funds are being used to pay for higher education for her son. The QTP distribution is tax and penalty free.
Mary is 32 years-old. She worked in high school resulting in her earning two credits. She didn’t work while in college or graduate school. She was employed at a non-profit for three years after graduating. After two years of employment, she married Juan. A year later, she had a child and was a homemaker for the next five years. She reentered the workforce one year ago following a divorce. Which of the following are true concerning the Social Security program?
1) She is fully insured.
2) She is currently insured.
3) Mary would receive Social Security disability benefits if she experienced a qualifying disabling event this year.
4) Upon her death, her child would receive survivor benefits.
1 & 4
The best way to process a scenario is working backwards in time. If the question says someone worked “a year” or “for 6 years,” etc., assume they get four credits per year. She has 4 of the last 4 credits. Then she has none of the previous 20 credits. She has 12 of the next 12 credits and she has 2 of all previous credits. Thus, she has 18 total credits. She is fully insured. She needs 10 credits (32 – 22) and she has 18. She is not currently insured because she only has 4 of the most recent 13 credits, not 6 of the last 13. Mary is not currently eligible for disability benefits. Even though she is fully insured, she is age 31 and over with less than 20 of the most recent 40 credits. She has 16 of the 40 most recent credits. Her child would receive survivor benefits because she is fully insured.
Which of the following individuals are highly compensated employee(s) of XYZ Corporation for qualified plan purposes this year? Assume the highly compensated election was made by the corporation.
1) Bill, who owns 10% of XYZ and is an employee, but he does not rank in the top 20% based on compensation.
2) Mary, the president, whose compensation was $140,000 last year and who was in the top 20% of paid employees.
3) Ralph, an employee salesman, who earned $145,000 last year and was the top-paid employee in XYZ this year.
4) Joe, who earned $132,000 last year as the XYZ Corporation legal counsel (not in the top 20%).
1, 2 & 3
Joe is not considered an HCE if the company makes the top 20% election. Notice that he does not own more than 5% of the company and his salary is not in the top 20%. Mary and Ralph are considered HCEs because they each have compensation in excess of $130,000 (2020) and rank in the top 20%. Bill is an HCE because he is a greater-than-5% owner, even though his compensation does not rank in the top 20%. A greater-than-5% owner is always considered HCE, regardless of compensation.