Try 10 focused Series 27 questions on Funding and Cash Management, with explanations, then continue with the full Securities Prep practice test.
Series 27 Funding and Cash Management questions help you isolate one part of the FINRA outline before returning to a mixed practice test. The questions below are original Securities Prep practice items aligned to this topic and are not copied from any exam sponsor.
| Item | Detail |
|---|---|
| Exam | FINRA Series 27 |
| Official topic | Function 5 - Funding and Cash Management |
| Blueprint weighting | 9% |
| Questions on this page | 10 |
Which statement best defines a broker-dealer subordinated loan agreement and explains why it can be treated as regulatory capital for net capital purposes when properly structured?
Best answer: C
Explanation: Because repayment is subordinated and restricted, the funds can absorb losses like capital and may be included in net capital when properly approved and documented.
A subordinated loan agreement is a borrowing arrangement where the lender agrees its claim is junior to the broker-dealer’s general creditors. When the agreement restricts repayment (so the funds are not readily withdrawable) and is properly documented/approved, regulators view it as loss-absorbing and allow it to be treated as regulatory capital in net capital.
A broker-dealer subordinated loan agreement is debt in legal form, but it is structured so the lender’s claim is subordinate to the claims of general creditors (and typically to customers) and repayment is not permitted if it would impair the firm’s net capital. Because the funds cannot be pulled out like ordinary borrowings and must remain available to absorb operating losses, the arrangement functions economically like equity.
For net capital purposes under SEC Net Capital Rule 15c3-1, properly structured subordinated borrowings (with required terms, documentation, and SRO/SEC conditions) may be included as part of the firm’s regulatory capital base rather than treated as a routine liability that would undermine financial responsibility. The key concept is subordination plus repayment restrictions, not collateralization or segregation of customer funds.
A carrying broker-dealer completes its weekly customer reserve computation under SEC Rule 15c3-3 on Friday and deposits exactly the required amount ( 7,500,000) into its Special Reserve Bank Account for the Exclusive Benefit of Customers. On Wednesday, the Treasurer asks the FINOP to approve a 1,000,000 withdrawal from the reserve account to cover a proprietary settlement need, stating it will be replaced the next day when customer wires arrive. No new reserve computation will be performed before the withdrawal.
Which is the primary risk/red flag the FINOP should identify?
Best answer: A
Explanation: Withdrawing from the customer reserve account without demonstrating an excess can underfund the reserve and misuse customer funds to meet firm liquidity needs.
The Special Reserve Bank Account is restricted because it is designed to segregate customer-related credits and prevent the firm from using customer funds as a liquidity source. If the firm deposited only the required amount on the last computation, a mid-cycle withdrawal without showing an excess creates a high risk of an underfunded reserve and a Customer Protection Rule breach. The restriction supports customer protection and funding stability by forcing the firm to fund itself with firm capital/financing instead of customer money.
A key FINOP control is preventing the firm from treating customer-protection accounts as a cash-management tool. Under SEC Rule 15c3-3, amounts in the Special Reserve Bank Account for the Exclusive Benefit of Customers are restricted; withdrawals are generally permitted only to the extent the account contains an excess over the required reserve amount (as supported by a reserve computation). Here, the firm deposited exactly the required amount on Friday, so a Wednesday withdrawal to meet a proprietary need would likely create (or risk creating) a reserve deficit.
These withdrawal restrictions protect customers by keeping customer-related credits segregated and also support funding stability by forcing proprietary liquidity needs to be met through firm financing (e.g., credit lines, capital contributions), not by temporarily tapping customer reserve funds. The core control expectation is to verify/document an excess (via computation) before authorizing a withdrawal.
Which statement is most accurate regarding a broker-dealer’s recordkeeping expectations for regulatory funding arrangements used for net capital purposes (for example, a subordinated loan or secured demand note)?
Best answer: A
Explanation: Regulatory funding must be supported by a signed agreement, evidence of required regulatory acceptance, and complete books-and-records support for all payments and repayments.
When a broker-dealer treats a funding arrangement as regulatory capital, it must be able to evidence the arrangement end-to-end. That includes a fully executed written agreement, proof of any required regulatory filing/acknowledgment before relying on it for net capital, and complete books-and-records support showing all interest and principal payments or repayments.
Regulatory funding arrangements (such as subordinated borrowings) are not just cash receipts; they are capital structures the firm may rely on to meet net capital and liquidity needs. A FINOP should ensure the firm maintains a complete documentation package that supports (1) the legal terms (a signed, executed agreement), (2) the firm’s ability to include the funding in net capital (evidence of required regulatory filing/acknowledgment/approval, as applicable), and (3) an audit trail for ongoing activity.
That audit trail should tie the general ledger and bank activity to the agreement terms and show amounts, dates, and authorization/support for interest payments, principal reductions, renewals/amendments, and any repayment-related correspondence or approvals. The key expectation is that an examiner or auditor can reconstruct the funding arrangement and all cash flows from the firm’s records.
A FINOP is reviewing two customer margin accounts to assess intraday funding risk. The firm applies the following high-level standard: a customer is a “pattern day trader” (PDT) if the account executes 4 or more day trades (opening and closing the same security on the same day) in any rolling 5-business-day period; PDT accounts must maintain at least $25,000 equity to continue day-trading.
Exhibit: Activity summary (last 5 business days)
Which statement best matches the regulatory treatment and the FINOP’s funding-risk concern?
Best answer: C
Explanation: Account 1 meets the firm’s PDT definition, and rapid intraday turnover can create same-day margin deficits that require immediate funding.
Account 1 triggers PDT status under the firm’s stated standard because it has 4 day trades in the rolling 5-day window. Day-trading increases intraday margin and funding risk because exposures can expand and reverse quickly within the day, producing same-day margin calls/deficits that may require the firm to deliver cash to its clearer on short notice.
The key differentiator is whether the account is executing day trades (round trips in the same security on the same day) frequently enough to be classified as a pattern day trader under the stated firm standard. Account 1 has 4 day trades in the last 5 business days, so it is treated as a PDT and must maintain the minimum equity to continue day-trading.
Day-trading activity elevates intraday margin and funding risk because positions can be increased and closed multiple times in a single session, which can:
In contrast, Account 2’s activity is overnight trading (not day trades) and does not, by itself, trigger PDT treatment under the provided definition.
A FINOP at an introducing broker-dealer receives a $2,000,000 wire from its parent labeled “sub debt funding.” Management wants to reflect the funds as regulatory capital for net capital purposes and begin using the cash immediately. The parent also asks that it be able to demand repayment at any time and receive monthly interest.
Which action best aligns with high-level recordkeeping expectations for a regulatory funding arrangement?
Best answer: A
Explanation: Regulatory funding should be supported by executed documentation, documented approvals, accurate booking, and ongoing repayment/interest tracking for audit and regulatory review.
Funding treated as regulatory capital must be supported by complete, retained documentation and control evidence. That includes an executed written agreement reflecting the terms, documented required approvals, accurate general ledger recording, and an auditable method to track interest accruals and any repayments. This supports books-and-records integrity and readiness for regulatory/audit review.
For funding intended to support regulatory capital, the FINOP’s records should allow an examiner or auditor to reconstruct the arrangement and verify that the books reflect it correctly. At a high level, that means maintaining a centralized file with (1) an executed written funding agreement that clearly states key terms, (2) evidence of required internal approvals (and any regulatory approval/notice process the firm follows for such capital funding), and (3) accounting support that ties the cash receipt and ongoing activity to the general ledger.
Ongoing recordkeeping should also include a repayment/interest log (or schedule) that supports accruals, payments, and any restrictions/approvals around repayments so the firm can demonstrate the capital remained available as represented. The key takeaway is complete documentation plus continuous, reconcilable tracking—not informal or after-the-fact records.
A carrying broker-dealer is subject to a minimum net capital requirement of $250,000. The FINOP projects that tomorrow morning the firm’s net capital will be $230,000 due to a large underwriting position increasing haircuts, and the firm must continue trading without using customer reserve funds. An affiliate offers $100,000 but wants the funds repayable “on demand.” Under SEC Net Capital Rule 15c3-1, the firm may treat a borrowing as regulatory capital only if it is properly subordinated (written agreement, regulatory approval/filing before use, not payable on demand, and repayment permitted only with prior regulatory approval).
What is the single best FINOP decision?
Best answer: B
Explanation: A properly approved subordinated loan is not payable on demand and is treated as regulatory capital for net capital purposes.
A subordinated loan agreement is a borrowing that is contractually junior to all other creditors, so it can absorb losses and function like capital. When properly structured and approved, it is included in net capital because it cannot be demanded back at a time that would weaken the firm’s financial responsibility. Here, the affiliate funding must be converted from an on-demand loan into approved subordinated debt before the firm can rely on it for compliance.
Subordination is treated as regulatory capital because the lender agrees, in a written subordinated loan agreement, that its claim is junior to all other creditors and cannot be repaid (or accelerated) in a way that would impair the broker-dealer’s net capital. That loss-absorbing, non-withdrawable characteristic makes the funds “capital-like” for SEC Net Capital Rule 15c3-1.
In this scenario, the firm needs immediate, compliant funding and cannot use customer reserve assets. The FINOP should ensure the affiliate loan is documented as subordinated debt and is filed/approved before being included in net capital, and that it is not payable on demand with any repayment requiring prior regulatory approval. The key takeaway is that ordinary borrowings increase liabilities, but properly subordinated borrowings can increase regulatory capital.
An introducing broker-dealer receives a $500,000 wire from its parent on June 28 and plans to treat it as a subordinated loan to support net capital. The subordination agreement is still a draft (not executed), legal review is incomplete, the board has not approved it, and the firm has not submitted it for required regulatory review/acceptance.
On the June 30 FOCUS filing, the FINOP includes the $500,000 as subordinated capital. Without counting it, the firm’s net capital would be $180,000 versus a $250,000 minimum.
What is the most likely consequence of recording the funding this way on the FOCUS report?
Best answer: D
Explanation: Unapproved/undocumented subordination cannot be included in net capital, so the firm likely reports a deficiency requiring escalation and corrective filings.
Subordinated borrowings can only support net capital when properly documented and approved/accepted under the firm’s regulatory process. Because the agreement is not executed and has not completed required reviews/approvals, the $500,000 should not be treated as allowable capital on the FOCUS. Excluding it leaves the firm below its minimum net capital, triggering deficiency and escalation consequences.
A FINOP must ensure new funding arrangements are fully authorized and properly documented before they are relied upon for regulatory capital reporting. For subordinated borrowings, that means a finalized, executed agreement; appropriate internal approvals (often including board authorization); and completion of any required regulatory review/acceptance process before the funds are treated as allowable capital for net capital and FOCUS reporting.
Here, the firm treated a draft, unapproved arrangement as subordinated capital. As a result, the $500,000 would be disallowed for net capital purposes and the firm’s reported net capital would revert to $180,000—below the $250,000 requirement—creating a net capital deficiency and the need to escalate, correct filings, and potentially restrict business until cured.
A carrying broker-dealer has net capital of $1,000,000 and aggregate indebtedness (AI) of $12,000,000.
To raise cash for margin funding, the firm enters into a 7-day repurchase agreement (repo) and receives $5,000,000 cash, collateralized by U.S. Treasury securities.
Assume for this question that (1) the repo is treated as a collateralized borrowing that is included in AI, and (2) net capital remains $1,000,000 immediately after the transaction.
What is the firm’s AI-to-net-capital ratio immediately after entering into the repo?
Best answer: B
Explanation: A repo borrowing increases AI by the cash received ($12,000,000 + $5,000,000), while net capital is unchanged at $1,000,000, resulting in 17:1.
A repo is a secured borrowing used to obtain short-term cash (often to finance margin activity). For net capital monitoring, the borrowing increases aggregate indebtedness, but it does not automatically increase net capital because it also creates a corresponding liability. Adding the $5,000,000 repo borrowing to AI produces a higher AI-to-net-capital ratio.
In a repurchase agreement (repo), the broker-dealer receives cash and agrees to repurchase the securities later; economically, it functions like a collateralized loan. From a cash management perspective, a repo provides immediate liquidity to meet funding needs (such as customer margin financing).
For net capital monitoring, the key consideration in this question is the effect on aggregate indebtedness (AI): if the repo is treated as a collateralized borrowing included in AI, AI increases by the repo proceeds while net capital is assumed unchanged.
\[ \begin{aligned} \text{New AI} &= USD 12{,}000{,}000 + USD 5{,}000{,}000 = USD 17{,}000{,}000\\ \text{AI-to-NC ratio} &= USD 17{,}000{,}000 / USD 1{,}000{,}000 = 17{:}1 \end{aligned} \]The common error is assuming the cash received increases net capital rather than increasing indebtedness.
A self-clearing broker-dealer’s treasury asks the FINOP to approve an internal cash transfer from the Special Reserve Bank Account for the Exclusive Benefit of Customers to the firm’s operating account.
Exhibit: Customer Reserve summary (USD)
| Item | Amount |
|---|---|
| Reserve requirement (Rule 15c3-3) | $12,000,000 |
| Cash on deposit in reserve bank account | $12,600,000 |
| Proposed transfer out of reserve account | $1,000,000 |
Based on the exhibit, which interpretation is supported?
Best answer: B
Explanation: After the transfer, the reserve deposit would fall below the Rule 15c3-3 requirement.
Withdrawals from a customer reserve bank account are restricted by the Customer Protection Rule because the deposit must be at least equal to the computed reserve requirement. Here, moving $1,000,000 out would reduce the deposit to $11,600,000, which is below the $12,000,000 requirement. The restriction protects customer funds and prevents the firm from using them to finance operations.
Under SEC Rule 15c3-3, a broker-dealer that maintains a Special Reserve Bank Account for the Exclusive Benefit of Customers must keep the deposit at or above the computed reserve requirement; the account is segregated to safeguard customer free credit balances and limit the firm’s ability to fund itself with customer money. Using the exhibit, the post-transfer deposit would be $12,600,000 \(-\) $1,000,000 = $11,600,000, which is less than the $12,000,000 requirement, so the withdrawal is not permitted absent an offsetting action (e.g., additional deposit or a reduced requirement based on a recomputation). This is a withdrawal restriction that directly supports customer protection and funding stability by preventing a reserve deficiency.
Key takeaway: net capital compliance does not override the need to maintain the required customer reserve deposit.
A broker-dealer needs additional regulatory funding to support its net capital position. The parent company proposes to wire $1,500,000 cash to the broker-dealer under a promissory note that pays 6% interest and is payable on demand. No subordination agreement will be executed or filed/approved.
Which statement about this proposal is INCORRECT?
Best answer: D
Explanation: Cash from a parent is not equity if documented as a demand promissory note; without subordination it remains a liability and is not regulatory capital.
A demand promissory note is debt-like funding: it creates a liability and can be called, so it generally cannot be relied on as stable regulatory capital for net capital purposes. Equity-like capital is non-withdrawable (or effectively locked up), such as paid-in capital or a properly subordinated loan. Therefore, treating a demand note as paid-in capital is the incorrect statement.
For net capital purposes under SEC Rule 15c3-1, the key distinction is whether the funding is available on a continuing basis to absorb losses. A demand promissory note is debt-like because it is repayable on demand and is not contractually subordinated to customer and general creditor claims.
Equity-like regulatory funding is typically:
Without subordination, the promissory note remains a liability and can pressure net capital (and raise capital withdrawal/repayment concerns), rather than supporting it as regulatory capital.
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