Free FINRA SIE Practice Exam: Securities Industry Essentials

This free full-length FINRA SIE practice exam includes 75 original Finance Prep questions across the official topic areas.

These are original Finance Prep practice questions aligned to the exam outline. They are not official FINRA SIE questions, copied live-exam content, or exam dumps. Use them to preview question style and explanation depth before continuing with mixed sets, topic drills, and timed mock exams in Finance Prep.

How to use this practice set

Complete the questions before opening their explanations. Write down your answer and mark any guess or unfamiliar term. This is a fixed reading-based set; it does not record your choices or run an app timer.

The set contains 12 Capital Markets, 33 Products and Risks, 23 Trading/Accounts/Prohibited Activities, and 7 Regulatory Framework questions. All have one correct answer from four choices. Calculations appear alongside knowledge and application questions; this construction mix is our practice choice, not an official FINRA formula quota.

FINRA’s exam has 75 scored questions plus 5 unscored pretest questions in 105 minutes. This page has 75 questions and no simulated pretest items. If you time it, allow about 98 minutes to approximate the official average pace of 105 minutes for 80 items. Check the official outline before your appointment.

Afterward, review misses and correct guesses by topic. For calculations, write the formula, units, and reason each input belongs in the calculation. A score on this set is a learning signal, not a validated prediction of your FINRA result. For your next mixed attempt, use questions you have not recently seen.

Exam snapshot

Full-length exam mix

Practice questions

Questions 1-25

Question 1

Topic: Products and Risks

An investor compares a Treasury receipt representing only a $1,000 principal payment due in 10 years with a 10-year Treasury note that pays semiannual coupons. Assuming comparable yields and credit exposure, which relationship generally applies to the Treasury receipt?

• A. Lower price sensitivity to yield changes and more reinvestment risk from interim cash flows.
• B. Greater price sensitivity to yield changes and more reinvestment risk from interim cash flows.
• C. Greater price sensitivity to yield changes and less reinvestment risk from interim cash flows.
• D. Lower price sensitivity to yield changes and less reinvestment risk from interim cash flows.

Best answer: C

Explanation: The receipt’s single future payment creates greater interest-rate sensitivity while eliminating the need to reinvest periodic coupons.

A Treasury receipt or STRIP represents a single future Treasury cash flow and makes no periodic interest payments. Because all value is received at a distant payment date, its duration is generally greater than that of a coupon-paying Treasury with the same maturity. Consequently, its market price responds more sharply to changes in interest rates.

The absence of coupons also means the holder does not face the risk of having to reinvest interim interest payments at lower rates. This reduces coupon reinvestment risk, although the receipt’s market value can fluctuate substantially if it is sold before its payment date.

• Greater interim reinvestment risk is inconsistent with a security that distributes no periodic coupons.
• Lower price sensitivity is incorrect because concentrating the entire cash flow at the final payment date produces greater duration.
• Combining lower sensitivity with greater reinvestment risk reverses both relationships associated with stripped payments.

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Question 2

Topic: Products and Risks

An investor owns an agency mortgage-backed pass-through security and planned to use its principal distributions for a large expense in five years.

The underlying borrowers remain current on their scheduled payments. Which interpretation best describes the change in the investor’s position?

• A. The principal-return horizon will likely lengthen, weakening cash-flow liquidity and reducing sensitivity to further interest-rate changes.
• B. The principal-return horizon will likely lengthen, weakening cash-flow liquidity and increasing sensitivity to further interest-rate changes.
• C. The principal-return horizon will likely shorten, improving cash-flow liquidity and increasing the need to reinvest early principal distributions.
• D. The principal-return horizon will likely remain stable, preserving cash-flow liquidity because the agency guarantee fixes principal-payment timing.

Best answer: B

Explanation: Higher mortgage rates have reduced prepayments, extending the security’s life and delaying the investor’s recovery of principal.

When mortgage rates rise, homeowners have less incentive to refinance existing lower-rate mortgages. Prepayments therefore tend to slow, causing an MBS investor to receive principal later than originally projected. This is extension risk. The security’s expected life becomes longer, so the investor may not receive enough principal distributions by the planned five-year date. Selling the security could provide liquidity, but the higher-rate environment may produce a loss.

The longer expected life also extends exposure to the security’s below-market cash flows and generally increases its price sensitivity to additional interest-rate changes. An agency guarantee addresses the credit risk of receiving covered principal and interest; it does not guarantee that homeowners will prepay according to the original projection.

• Reduced rate sensitivity is incorrect because slower prepayments extend the period during which the security is exposed to interest-rate movements.
• A shorter principal-return horizon describes contraction risk, which is more commonly associated with falling rates and faster refinancing.
• An agency guarantee does not fix prepayment behavior or preserve the security’s projected average life.

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Question 3

Topic: Products and Risks

An investor is comparing two ETFs for a strategy involving 12 complete round trips during one year. Each round trip includes one purchase and one sale of 500 shares. The proceeds are immediately reinvested, so the average amount invested throughout the year is $20,000.

Assume each purchase occurs at the ask, each sale occurs at the bid, and the market midpoint remains unchanged. Exclude taxes and market movements. Which statement correctly estimates the annual cost and identifies the lower-cost ETF? Round to the nearest dollar.

• A. ETF B costs $70, which is $90 less than ETF A.
• B. ETF B costs $372, which is $228 less than ETF A.
• C. ETF A costs $280, which is $42 less than ETF B.
• D. ETF A costs $160, which is $102 less than ETF B.

Best answer: D

Explanation: ETF A’s $40 operating expense plus $120 in spreads is $102 less than ETF B’s total cost of $262.

The expense ratio applies to the average amount invested, not the cumulative value of all purchases. ETF A’s operating cost is $20,000 x 0.20% = $40. Its spread cost is 12 x 500 x $0.02 = $120, producing a $160 total.

ETF B’s operating cost is $10, and its spread cost is 12 x 500 x $0.01 = $60. Twelve round trips involve 24 transactions, so its transaction charges are 24 x $8 = $192. ETF B therefore costs $262. ETF A is less expensive by $102. Frequent trading can make transaction charges and spreads more important than a fund’s expense ratio.

• The $70 estimate excludes ETF B’s $192 of transaction charges, reversing the cost comparison.
• The $372 estimate applies expense ratios to cumulative purchase volume rather than the average amount invested.
• The $280 estimate counts a full spread on both sides of each round trip, although the complete round trip crosses one full spread.

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Question 4

Topic: Trading and Customer Accounts

A shareholder owns 1,200 shares trading at $6 per share, with an aggregate cost basis of $4,800. The issuer conducts a 1-for-4 reverse stock split. Assuming no market movement or fractional-share issue, what are the shareholder’s adjusted shares, theoretical share price, and aggregate cost basis?

• A. 300 shares, $1.50 per share, and a $4,800 aggregate cost basis
• B. 300 shares, $24 per share, and a $4,800 aggregate cost basis
• C. 300 shares, $24 per share, and a $1,200 aggregate cost basis
• D. 4,800 shares, $1.50 per share, and a $4,800 aggregate cost basis

Best answer: B

Explanation: A 1-for-4 reverse split divides the share count by four and multiplies both market price and per-share basis by four, leaving aggregate basis unchanged.

In a 1-for-4 reverse stock split, every four old shares become one new share. The shareholder’s 1,200 shares therefore become 300 shares. Absent market movement, the theoretical price increases inversely from $6 to $24, preserving the $7,200 market value.

A stock split does not itself create a taxable gain or reduce the shareholder’s aggregate cost basis. The $4,800 aggregate basis remains unchanged, although the basis per share rises from $4 to $16. Thus, reverse splits reduce the number of shares while proportionately increasing both the theoretical market price and cost basis per share.

• The $1.50 theoretical price applies the ratio in the direction associated with a forward split rather than a reverse split.
• The 4,800-share result multiplies the existing share count instead of dividing it by four.
• The $1,200 aggregate basis incorrectly divides total basis by four; only the share count is reduced.

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Question 5

Topic: Products and Risks

Which statement accurately compares account backing and investment risk in fixed and variable annuities?

• A. Fixed annuity premiums fund separate-account options, and the insurer bears investment risk; variable annuity premiums support the insurer’s general account, and the contract owner bears investment risk.
• B. Fixed annuity premiums support the insurer’s general account, and the owner bears investment risk; variable annuity premiums fund separate-account options, and the insurer bears investment risk.
• C. Fixed annuity premiums support the insurer’s general account, and the insurer bears investment risk; variable annuity premiums fund separate-account options, and the contract owner bears investment risk.
• D. Fixed annuity premiums fund separate-account options, and the owner bears investment risk; variable annuity premiums support the insurer’s general account, and the insurer bears investment risk.

Best answer: C

Explanation: Fixed guarantees depend on the insurer’s general account, while variable account values fluctuate with separate-account investment performance borne by the owner.

A fixed annuity is supported by the insurer’s general account. The insurer determines the credited rate and bears the risk that its investments may not earn enough to support its contractual guarantees. Those guarantees remain subject to the insurer’s claims-paying ability.

A variable annuity allocates premiums among investment options within a separate account. Its accumulation value and variable benefits rise or fall with the selected investments, so the contract owner bears the investment risk. Separate-account assets are maintained apart from the insurer’s general-account assets, although the insurer remains responsible for contractual features such as any stated insurance guarantees.

• Assigning fixed-annuity investment risk to the owner and variable-annuity investment risk to the insurer reverses the applicable risk allocation.
• Placing fixed premiums in a separate account and variable premiums in the general account reverses the account structure.
• Reversing both the account structure and risk allocation mischaracterizes each type of annuity.

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Question 6

Topic: Trading and Customer Accounts

A customer will travel abroad for six months and asks a broker-dealer to hold account statements and confirmations. The customer cites security concerns about mail arriving at a vacant home and can communicate through the firm’s secure portal. The representative suggests changing the address of record to the branch office for convenience.

Which procedure meets FINRA’s requirements?

• A. Retain the mail under a representative’s written memorandum stating the period, valid reason, and portal contact method; provide alternative-access information, obtain confirmation, verify periodically, and monitor for suspicious activity.
• B. Retain the mail under prior written customer instructions stating the period and portal method, with the valid reason documented separately by the representative; provide alternative-access information, obtain confirmation, verify periodically, and monitor for suspicious activity.
• C. Change the address of record to the representative’s branch after obtaining written hold instructions stating the period, valid reason, and portal method; provide alternative-access information, obtain confirmation, verify periodically, and monitor for suspicious activity.
• D. Retain the mail under prior written customer instructions stating the period, valid reason, and portal contact method; provide alternative-access information, obtain confirmation, verify periodically, and monitor for suspicious activity.

Best answer: D

Explanation: A hold exceeding three months requires prior written customer instructions containing a valid reason, along with communication, periodic verification, and anti-fraud safeguards.

FINRA Rule 3150 permits a firm to hold mail for a customer who will be away from the usual address. The firm must receive the customer’s prior written instructions specifying the holding period. For a period longer than three consecutive months, those instructions must include a valid reason. The firm must also inform the customer about alternative methods for receiving or monitoring account information, obtain confirmation, remain able to communicate as directed, and verify at reasonable intervals that the instructions still apply. Monitoring must be reasonably designed to detect suspicious activity involving held mail. An employee’s memorandum cannot replace the customer’s written instructions, and changing the address of record for employee convenience is not the requested mail hold.

• A representative’s internal memorandum does not satisfy the requirement for prior written instructions from the customer.
• Documenting the security reason separately fails to include the valid reason in the customer’s instructions for a hold exceeding three months.
• Changing the address of record to the branch redirects delivery rather than implementing the customer’s documented holding request.

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Question 7

Topic: Regulatory Framework

During 2026, Northstar Securities and its associated persons provide these gifts. All amounts are fair market value, each item is a gift rather than hosted business entertainment, and no personal-gift exception applies.

• Northstar gives a $90 gift basket to Erica, an employee of Meridian Asset Management who helps select broker-dealers for institutional business.
• One Northstar representative gives Erica a $110 watch related to Meridian’s business.
• Another Northstar representative gives Erica a $65 restaurant gift card related to Meridian’s business.
• Northstar gives a $100 holiday gift to Jordan, a retail customer acting solely on Jordan’s own behalf.
• Meridian’s policy permits an employee to receive no more than $250 per calendar year from one vendor, counting the vendor and its personnel collectively.

Which calculation correctly states the FINRA aggregate for Erica and interprets both the FINRA limit and Meridian’s policy?

• A. The covered aggregate is $265; FINRA leaves $35 of capacity, while Meridian’s policy has been exceeded by $15.
• B. The covered aggregate is $365; FINRA has been exceeded by $65, while Meridian’s policy has been exceeded by $115.
• C. The highest covered gift is $110; FINRA leaves that donor $190, while Meridian’s policy leaves that donor $140.
• D. The covered aggregate is $175; FINRA leaves $125 of capacity, while Meridian’s policy leaves $75 of capacity.

Best answer: A

Explanation: The three gifts to Erica total $265, leaving $35 under FINRA’s $300 limit while exceeding Meridian’s stated cap by $15.

Erica is a covered recipient because she works for another firm and the gifts relate to her employer’s securities business. Gifts from Northstar and its associated persons must be aggregated by recipient for the calendar year. The calculation is $90 + $110 + $65 = $265.

Jordan’s $100 gift is not added because annual aggregation is recipient-specific. Moreover, the FINRA business-gift limit is not a blanket limit on every gift to a retail customer acting solely in a personal capacity.

FINRA’s current $300 limit leaves $35 of capacity for Erica. Meridian’s separate policy is stricter: the $265 aggregate exceeds its $250 limit by $15. The FINRA dollar limit has not been violated, but no additional gift could be made while complying with Meridian’s policy.

• The $175 calculation improperly excludes the member firm’s direct $90 gift from the aggregate.
• The $365 calculation improperly combines gifts made to two different recipients.
• Applying separate limits to each donor ignores the required firmwide aggregation by recipient and calendar year.

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Question 8

Topic: Products and Risks

A Class A mutual fund has the following front-end sales charge schedule:

• Less than $50,000: 5.75%
• $50,000 to $99,999: 4.50%
• $100,000 to $249,999: 3.50%

An investor signs a 13-month letter of intent to purchase $100,000 and makes an initial purchase of $20,000. The fund uses a standard letter-of-intent escrow arrangement. Which treatment correctly applies?

• A. Apply 3.50% to the initial purchase; if the commitment is not completed, leave prior sales charges unchanged.
• B. Apply 3.50% to the initial purchase; if the commitment is not completed, redeem escrowed shares as needed to recover the charge deficiency.
• C. Apply 4.50% to the initial purchase; reduce the charge to 3.50% only after cumulative purchases reach $100,000.
• D. Apply 5.75% to the initial purchase; if the commitment is completed, refund the excess sales charges on all purchases.

Best answer: B

Explanation: The letter of intent grants the $100,000 breakpoint rate immediately, while escrowed shares secure any additional charge due if the commitment is not completed.

A letter of intent allows an investor to receive the sales-charge breakpoint associated with the intended aggregate investment during the stated period. Here, the investor intends to purchase $100,000, so the initial $20,000 purchase receives the 3.50% rate rather than the rate based solely on its size.

The investor is not legally required to complete the intended purchases. However, shares are held in escrow to secure the difference between the discounted charge and the charge otherwise applicable. If the investor does not complete the commitment, escrowed shares may be redeemed as needed to collect that difference. This legitimate aggregation mechanism differs from improperly dividing an intended investment into amounts below a breakpoint, which can deny the investor an available discount.

• Charging 5.75% and later issuing a refund fails to provide the intended breakpoint rate during the letter’s purchase period.
• Charging 4.50% uses an intermediate breakpoint even though the signed intent qualifies for the $100,000 breakpoint.
• Leaving charges unchanged after a shortfall confuses the nonbinding commitment with the fund’s right to recover the sales-charge deficiency.

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Question 9

Topic: Trading and Customer Accounts

An investor sells short 300 shares of XYZ at $42 per share. While the borrowed position remains open, XYZ pays a cash dividend of $0.50 per share. The investor later covers the short position at $39 per share.

Ignore commissions, borrowing fees, and taxes. Which result correctly reflects the dividend obligation and the investor’s net profit?

• A. A $150 dividend is credited, producing a $1,050 net profit.
• B. A $150 payment in lieu is charged, producing a $750 net profit.
• C. A $300 payment in lieu is charged, producing a $600 net profit.
• D. No dividend-related cash flow is posted, producing a $900 net profit.

Best answer: B

Explanation: The $900 price gain is reduced by the $150 dividend-equivalent payment owed on the borrowed shares.

A short seller borrows shares and sells them, so the lender remains entitled to the economic benefit of any dividend paid while the position is open. The short seller must make a payment in lieu of the dividend equal to $0.50 x 300 shares, or $150.

The price-based gain is ($42 - $39) x 300 shares, or $900. Subtracting the $150 payment produces a net profit of $750. Thus, a dividend increases the carrying cost of a short position and reduces its economic profit.

• Crediting $150 incorrectly treats the short seller as the shareholder entitled to receive the dividend.
• Omitting a dividend-related cash flow ignores the obligation created by borrowing the shares.
• Charging $300 applies twice the stated $0.50-per-share dividend amount.

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Question 10

Topic: Products and Risks

An investor buys one XYZ 55 put for a premium of $4 per share. The contract covers 100 shares and is held to expiration. XYZ closes at $47 on the expiration date. Ignore transaction fees.

Which result correctly states the investor’s net gain or loss at expiration and maximum possible loss?

• A. A net profit of $400 and a maximum loss of $5,100
• B. A net loss of $400 and a maximum loss of $400
• C. A net profit of $400 and a maximum loss of $400
• D. A net profit of $800 and a maximum loss of $400

Best answer: C

Explanation: The put has $800 of intrinsic value at expiration, producing a $400 net profit after the $400 premium, which is also the maximum possible loss.

A long put benefits when the underlying stock falls below the strike price. At expiration, its intrinsic value is the strike price minus the stock price: $55 - $47 = $8 per share. For 100 shares, the put is worth $800. The investor paid a premium of $4 per share, or $400 total, so the net profit is $800 - $400 = $400.

A put buyer is not obligated to exercise. If the stock finishes at or above the $55 strike price, the put expires worthless, and the investor loses only the $400 premium. Therefore, the premium paid is the long put’s maximum possible loss. The expiration breakeven price is $51, calculated as the $55 strike price minus the $4 premium.

• The $800 profit reflects intrinsic value but does not subtract the $400 premium paid.
• A $400 loss would apply if the put expired worthless, not when the stock closes below the $51 breakeven price.
• The $5,100 amount represents the maximum potential profit if the stock fell to zero, not the maximum loss.

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Question 11

Topic: Products and Risks

Elena is comparing two real estate investments:

• An exchange-listed equity REIT whose management selects and operates the properties
• A private real estate limited partnership managed by a general partner and lacking an established secondary market

Elena wants passive ownership and ready marketability. She also believes both investments will allocate property depreciation and operating losses directly to her tax return.

Which comparison is accurate?

• A. The listed REIT provides professional management and exchange liquidity without passing property losses through; the private partnership is general-partner managed, relatively illiquid, and likewise retains tax items at the entity level.
• B. The listed REIT provides professional management and exchange liquidity while passing property losses through; the private partnership is general-partner managed, relatively illiquid, and retains tax items at the entity level.
• C. The listed REIT provides professional management and exchange liquidity while passing property losses through; the private partnership is general-partner managed, relatively illiquid, and also passes tax items through.
• D. The listed REIT provides professional management and exchange liquidity without passing property losses through; the private partnership is general-partner managed, relatively illiquid, and passes tax items through.

Best answer: D

Explanation: A listed REIT offers professional management and marketability, while only the partnership passes property-level tax items through to investors.

A publicly traded equity REIT provides indirect real estate ownership through exchange-traded shares. The REIT’s management operates the properties, and investors generally have no property-management responsibilities. Although a qualifying REIT distributes most of its taxable income, it does not allocate property-level depreciation or operating losses directly to shareholders as a partnership does.

A private real estate limited partnership is usually managed by its general partner, while limited partners remain passive. Partnership income, deductions, gains, and losses generally pass through to partners, although basis, at-risk, and passive activity rules may restrict loss deductions. Because private partnership interests ordinarily lack an active secondary market, they are less marketable than listed REIT shares. The listed REIT therefore better satisfies Elena’s management and liquidity priorities, but not her expectation of receiving pass-through property losses.

• Treating both vehicles as loss pass-throughs confuses REIT distributions with partnership tax allocations.
• Reversing the tax treatment ignores the partnership’s pass-through structure.
• Treating neither vehicle as a pass-through overlooks the partnership’s allocation of tax items to its partners.

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Question 12

Topic: Products and Risks

A corporate officer acquired common shares of the officer’s company in a registered public offering eight months ago and remains an affiliate. The officer plans to sell 10,000 shares worth $300,000 through a broker and rely on Rule 144. The issuer is current in its required SEC reporting.

Which statement correctly describes the officer’s Rule 144 obligations?

• A. A holding period applies, but the affiliate volume, manner-of-sale, and Form 144 notice conditions do not apply.
• B. A holding period applies, and the affiliate volume, manner-of-sale, and Form 144 notice conditions also apply.
• C. No holding period applies, but the affiliate volume, manner-of-sale, and Form 144 notice conditions apply.
• D. No holding period applies, and the affiliate volume, manner-of-sale, and Form 144 notice conditions do not apply.

Best answer: C

Explanation: The registered offering made the shares unrestricted, while the officer’s affiliate status triggers the applicable Rule 144 resale conditions.

Rule 144 distinguishes restricted securities from control securities. Shares acquired in a registered public offering are not restricted securities, so the Rule 144 holding period does not apply. However, securities held by an officer or another affiliate are control securities because of the holder’s relationship with the issuer.

An affiliate relying on Rule 144 must satisfy applicable current-public-information, volume, and manner-of-sale conditions. Form 144 notice is required when the proposed sale during a three-month period exceeds 5,000 shares or $50,000. This officer’s proposed sale exceeds both thresholds. Registration of the original offering removes the restricted-security holding-period issue, but it does not eliminate obligations arising from affiliate status.

• Applying both the holding period and affiliate conditions incorrectly treats registered shares as restricted securities.
• Eliminating every resale condition incorrectly assumes registration overrides the officer’s affiliate status.
• Applying only a holding period reverses the distinction between acquisition-based restrictions and affiliate resale obligations.

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Question 13

Topic: Products and Risks

A corporation has 10,000 outstanding voting common shares. An investor owns 2,100 shares. Four directors are elected at the annual meeting using cumulative voting.

Which statement correctly describes the investor’s economic ownership and voting power?

• A. 84% economic ownership and 8,400 votes that may all be cast for one nominee
• B. 21% economic ownership and 2,100 total votes that may be divided among the nominees
• C. 21% economic ownership and 2,100 votes for each nominee, with no vote concentration
• D. 21% economic ownership and 8,400 votes that may all be cast for one nominee

Best answer: D

Explanation: The investor owns 21% of the shares and receives 2,100 votes for each of four director positions under cumulative voting.

Economic ownership is based on the percentage of outstanding shares owned: 2,100 divided by 10,000 equals 21%. Under cumulative voting, total votes equal the shares owned multiplied by the number of directors being elected. The investor therefore receives 8,400 votes: 2,100 shares multiplied by four positions. These votes may be divided among multiple nominees or concentrated on one nominee, increasing a minority shareholder’s ability to obtain board representation. The additional voting power does not increase the investor’s economic ownership, which remains 21%.

• Casting 2,100 votes for each nominee without concentration describes straight voting rather than cumulative voting.
• Treating 8,400 votes as 84% ownership confuses voting allocation with the percentage of outstanding shares owned.
• Limiting the investor to 2,100 total votes fails to multiply the shares owned by the four director positions.

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Question 14

Topic: Trading and Customer Accounts

A customer sells short 200 shares and keeps the position open when the issuer pays a cash dividend of $0.75 per share. Ignoring fees and market-price changes, what dividend-related cash flow affects the short position?

The short position was established before the ordinary ex-dividend date and remained open through the record date.

• A. The customer pays $150 in lieu of the dividend to the share lender, decreasing the position’s return by $150.
• B. The customer receives a $150 dividend from the issuer, increasing the position’s return by $150.
• C. The customer pays $150 as a dividend to the share purchaser, decreasing the position’s return by $150.
• D. The customer makes no payment because the share purchaser receives the dividend, leaving the position’s return unchanged.

Best answer: A

Explanation: The short seller owes the lender $0.75 on each of 200 borrowed shares, so the $150 payment reduces the position’s return.

A short seller borrows shares and sells them to a purchaser. The purchaser becomes the holder entitled to receive the issuer’s dividend. Because the lender no longer holds the shares during the dividend event, the short seller must compensate the lender with a payment in lieu of the dividend.

The required payment is $150, calculated as 200 shares x $0.75 per share. This payment is an expense of maintaining the short position and therefore reduces its return. It applies independently of whether the stock’s market price rises or falls. Dividend obligations are one reason short positions can become more costly to maintain over time.

• The purchaser receives the actual dividend from the issuer, not a separate dividend payment from the short seller.
• A short seller does not receive the issuer’s dividend because the borrowed shares were sold to another investor.
• The purchaser’s receipt of the dividend does not eliminate the short seller’s obligation to compensate the lender.

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Question 15

Topic: Products and Risks

An investor purchased 1,000 mutual fund shares at $20 per share with no front-end sales charge. Exactly 3 years and 4 months later, the investor redeems all shares when the NAV is $18.50 per share. No additional shares were purchased.

The fund’s contingent deferred sales charge (CDSC) schedule is:

The CDSC applies to the lesser of the original purchase cost or the shares’ value at redemption.

Ignoring taxes and other fees, what are the investor’s net redemption proceeds?

• A. $17,945
• B. $18,130
• C. $18,315
• D. $18,100

Best answer: B

Explanation: The year-4 rate is 2%, producing a $370 charge on the lower redemption value of $18,500.

The redemption occurs during the fourth year because the shares have been held for 3 years and 4 months. The applicable CDSC rate is therefore 2%. The original purchase cost was $20,000, while the shares are worth $18,500 at redemption. Because the prospectus applies the charge to the lesser amount, the CDSC is based on $18,500. Two percent of $18,500 is $370. Deducting the charge from the redemption value results in net proceeds of $18,130. The investor’s market loss does not eliminate the CDSC, but the lesser-of provision prevents the charge from being based on the higher original cost.

• $18,315 applies the 1% fifth-year rate rather than the applicable fourth-year rate.
• $17,945 applies the 3% third-year rate even though more than three years have elapsed.
• $18,100 applies 2% to the $20,000 purchase cost instead of the lower redemption value.

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Question 16

Topic: Trading and Customer Accounts

An issuer executive privately tells the same material fact to five selected institutional clients. The issuer has not released the fact through a public filing, press release, open webcast, or broadly available news source.

Immediately after the last private call, what is the fact’s information status?

• A. It becomes public upon disclosure to every client selected for the calls.
• B. It becomes public upon disclosure to the first unaffiliated client.
• C. It remains nonpublic pending broad dissemination to the investing public.
• D. It becomes public when any selected client trades based on the fact.

Best answer: C

Explanation: Sharing a material fact with a limited, selected audience does not constitute broad public dissemination.

Information does not become public merely because it reaches people outside the issuer. Public dissemination generally requires distribution through channels reasonably designed to reach the investing public, followed by sufficient time for investors to absorb the information. Private calls to five selected clients constitute selective disclosure, not broad dissemination. Completing the calls does not change that result, and trading by a recipient may affect market prices without revealing the underlying fact to the public. The information therefore remains material nonpublic information until it is broadly disseminated and available to investors generally.

• Disclosure to one unaffiliated client remains selective because the wider investing public lacks access.
• Reaching every intended private recipient completes the limited distribution but does not make it public.
• A recipient’s trade may influence price, but the trade itself does not broadly disclose the underlying fact.

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Question 17

Topic: Products and Risks

A retail money market mutual fund uses permitted valuation methods to seek a stable net asset value (NAV) of $1.00 per share. Which statement accurately describes that $1.00 price?

• A. The $1.00 target receives SIPC protection at a member broker-dealer, so covered shares cannot fall below $1.00.
• B. The $1.00 target is an adviser guarantee, and compliance with money market rules prevents the NAV from falling below $1.00.
• C. The $1.00 target receives FDIC protection when a bank sells the fund, so eligible shares cannot fall below $1.00.
• D. The $1.00 target is an investment objective, and portfolio losses can cause the fund’s NAV to fall below $1.00.

Best answer: D

Explanation: A money market fund seeks price stability but can lose value because its portfolio remains exposed to investment risks.

Money market mutual funds invest primarily in short-term, high-quality debt instruments and generally seek stability and liquidity. A stable $1.00 NAV is an objective, not a contractual guarantee. Credit events, liquidity pressures, or changes in market conditions can cause a fund to lose value and “break the buck.”

Money market fund shares are securities rather than bank deposits. FDIC insurance does not apply, even when a bank sells the shares. SIPC may protect missing customer securities or cash if a member broker-dealer fails, subject to applicable limits, but it does not reimburse investment losses. A fund adviser may voluntarily support a fund in some circumstances, but investors cannot assume that such support will occur.

• Regulatory compliance reduces risk but does not require an adviser to guarantee the fund’s NAV.
• A bank’s sale of mutual fund shares does not convert those securities into FDIC-insured deposits.
• SIPC addresses custody shortfalls at a failed member firm, not declines in a fund’s market value.

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Question 18

Topic: Products and Risks

An investor owns two Treasury securities with the following terms:

• Original principal of each security: $10,000
• Annual coupon rate: 2%
• Interest payments: Semiannual
• TIPS inflation adjustment immediately before the next payment: +4%
• Conventional Treasury principal adjustment: None

What are the principal amounts and next semiannual interest payments after the adjustment?

• A. TIPS: $10,400 principal and $104 interest; conventional Treasury: $10,400 principal and $104 interest.
• B. TIPS: $10,000 principal and $104 interest; conventional Treasury: $10,000 principal and $100 interest.
• C. TIPS: $10,400 principal and $104 interest; conventional Treasury: $10,000 principal and $100 interest.
• D. TIPS: $10,400 principal and $100 interest; conventional Treasury: $10,000 principal and $100 interest.

Best answer: C

Explanation: The TIPS principal increases by 4%, and its fixed annual coupon rate is applied to the adjusted principal.

TIPS principal is indexed to inflation. A 4% increase changes the principal from $10,000 to $10,400. Although the 2% coupon rate remains fixed, the dollar interest payment changes because the rate is applied to adjusted principal. The next semiannual payment is $10,400 x 2% / 2, or $104.

A conventional Treasury’s principal and coupon payment do not change with inflation. Its next payment remains $10,000 x 2% / 2, or $100. Thus, TIPS provide inflation protection through principal adjustment, while conventional fixed-rate Treasuries maintain fixed nominal principal and interest payments.

• Applying the inflation adjustment to principal but leaving TIPS interest at $100 overlooks that the coupon is calculated from adjusted principal.
• Increasing only the TIPS interest payment incorrectly leaves its inflation-indexed principal at the original amount.
• Adjusting both securities incorrectly treats the conventional Treasury as inflation-indexed.

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Question 19

Topic: Products and Risks

A customer will invest $40,000 today and plans two additional $40,000 purchases during the next 13 months. Before the first order, the customer signs a valid letter of intent for the full $120,000. The customer has no existing holdings eligible for rights of accumulation.

Fund terms:

• The sales charge is calculated as a percentage of the amount paid.
• A valid letter of intent applies the rate for the intended total immediately.
• The fund escrows shares to cover any additional charge if the intended total is not completed.

Which calculation and interpretation are correct for the initial $40,000 purchase?

• A. $2,300 sales charge and $37,700 invested; the initial purchase remains in the under-$50,000 tier until later purchases independently reach a breakpoint.
• B. $1,400 sales charge and $38,600 invested; the valid letter of intent applies the $100,000 breakpoint now, subject to an escrow adjustment if the commitment is not completed.
• C. $1,800 sales charge and $38,200 invested; the initial purchase receives only the $50,000 tier because the full commitment has not yet been funded.
• D. $1,400 sales charge and $38,600 invested; using the intended total is improper breakpoint splitting because each scheduled purchase is less than $50,000.

Best answer: B

Explanation: The $120,000 intended total qualifies for the 3.50% rate, making the initial charge $40,000 x 3.50% = $1,400.

A letter of intent allows an investor to receive a breakpoint sales charge based on intended purchases during the specified period, even before all purchases are completed. The $120,000 commitment falls within the $100,000 to $249,999.99 tier, so the initial $40,000 payment receives the 3.50% rate. The sales charge is $1,400, leaving $38,600 invested.

Purchases properly aggregated under a valid letter of intent are not improper breakpoint splitting. Improper splitting generally involves structuring purchases below a breakpoint so the customer does not receive an available discount. The letter of intent does not obligate the customer to complete the purchases, but failure to reach the stated amount permits the fund to recover the additional sales charge through the escrow arrangement.

• The $2,300 calculation incorrectly applies the standalone 5.75% tier and ignores the letter of intent.
• The $1,800 calculation incorrectly uses the $50,000 tier rather than the tier for the full $120,000 commitment.
• Treating the scheduled purchases as improper splitting confuses a valid aggregation method with conduct intended to deny a breakpoint discount.

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Question 20

Topic: Regulatory Framework

A registered representative receives a client’s signed instruction to wire $40,000 from her brokerage account to Northstar Ventures LLC. Operations completes a callback and confirms that the client authorized the transfer.

Before the wire is released, the client forwards an email from another registered representative at the firm:

“Wire $40,000 to Northstar for your two-year 10% promissory note. I own Northstar and will receive a 5% placement fee.”

Firm records show no prior written notice or approval related to Northstar. The firm’s procedures require disbursements connected to suspected employee misconduct to enter compliance review before release.

Which response is most appropriate?

• A. Place the wire in compliance review and promptly submit the email and transfer records as evidence of a potentially unapproved compensated private securities transaction.
• B. Place the wire in compliance review and first obtain the issuer documents from the client, reporting the matter only if those documents contain discrepancies.
• C. Place the wire in compliance review and first ask the colleague for approval records, reporting the matter only if those records are unavailable.
• D. Place the wire in operations review and submit the signed authorization for enhanced third-party verification before deciding whether an internal conduct report is necessary.

Best answer: A

Explanation: The note sale and placement fee indicate a compensated private securities transaction, and the missing firm record requires prompt compliance review.

The signed instruction and successful callback support the client’s authorization, but they do not resolve the separate employee-conduct concern. The colleague appears to be selling a promissory note issued by an entity the colleague owns and receiving transaction-based compensation. Those facts indicate a potentially compensated private securities transaction under FINRA Rule 3280. Such activity generally requires prior written notice and, when compensation is involved, firm approval and supervision.

Because firm records show no notice or approval, the email is sufficient evidence of a red flag requiring prompt internal reporting. The representative should preserve and submit the relevant records through the firm’s compliance process rather than independently investigating the colleague or waiting for further discrepancies. Compliance, not the representative processing the transfer, determines whether the activity was properly disclosed and approved.

• Asking the colleague first delays required internal reporting and could compromise the firm’s review.
• Obtaining offering documents may support a later investigation, but document discrepancies are not required before reporting the existing red flag.
• Enhanced verification addresses customer authorization, which the callback already established, rather than the possible undisclosed securities activity.

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Question 21

Topic: Products and Risks

An investor owns one share of convertible preferred stock and wants to maximize immediate proceeds by either selling the preferred share or converting it and selling the common shares.

Ignore taxes and transaction costs. Which conclusion is supported?

• A. Convert into 4 common shares worth $108; the conversion value exceeds the preferred share’s $100 par value by $8.
• B. Sell the preferred share for $110; conversion provides 3.70 common shares worth $100, so the sale provides $10 more.
• C. Convert into 4.4 common shares worth $118.80; conversion provides $8.80 more than selling the preferred share.
• D. Sell the preferred share for $110; conversion provides 4 common shares worth $108, so the sale provides $2 more.

Best answer: D

Explanation: The conversion ratio is 4 shares, making the $108 conversion value lower than the preferred share’s $110 market price.

The conversion ratio equals the preferred stock’s par value divided by its conversion price: $100 / $25 = 4 common shares. The conversion value is the conversion ratio multiplied by the common stock’s current market price: 4 x $27 = $108. Because the preferred share can be sold directly for $110, selling it produces $2 more than converting and selling the common shares. Although the common stock trades above the $25 conversion price and the conversion value exceeds the preferred stock’s par value, the relevant comparison is between the $108 conversion value and the preferred stock’s current $110 market price.

• Comparing the $108 conversion value with par value ignores the available $110 market price for the preferred share.
• Using the preferred stock’s current market price as the conversion-ratio numerator incorrectly changes the fixed conversion terms.
• Dividing par value by the common stock’s market price reverses the calculation; the common price values the shares after the ratio is determined.

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Question 22

Topic: Products and Risks

A corporation has two classes of preferred stock, each with $100 par value and an 8% annual dividend paid quarterly. Class C is cumulative, while Class N is noncumulative. No dividends were declared during the first three quarters of the year.

In the fourth quarter, the board intends to pay a common stock dividend after satisfying preferred claims through the current quarter. How much per share must be paid to each preferred class before the common dividend is paid?

• A. Class C: $6; Class N: $2
• B. Class C: $8; Class N: $8
• C. Class C: $8; Class N: $2
• D. Class C: $2; Class N: $2

Best answer: C

Explanation: Class C claims all four quarterly dividends, while Class N claims only the current quarter’s $2 dividend.

Each preferred share has an annual dividend of $8, calculated as 8% of its $100 par value. Because dividends are paid quarterly, each quarterly dividend is $2.

Cumulative preferred stock retains unpaid dividends from prior periods. Class C therefore has a claim for the three missed quarterly dividends plus the current quarterly dividend, totaling $8 per share. These dividends in arrears must be satisfied before common shareholders receive a dividend.

Noncumulative preferred stock does not retain claims for omitted prior-period dividends. Class N therefore has a claim only for the current quarter’s $2 dividend before the common dividend is paid.

• A $6 cumulative payment covers the three missed quarters but omits the current quarter.
• An $8 noncumulative payment incorrectly carries the three omitted dividends forward.
• A $2 cumulative payment incorrectly treats the cumulative shares as noncumulative.

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Question 23

Topic: Products and Risks

An investor writes one standard XYZ 45 put and receives a premium of $3.20 per share. The put is assigned, requiring the investor to purchase 100 XYZ shares at the strike price. Assume XYZ later becomes worthless, and ignore commissions and taxes.

Which calculation correctly gives the investor’s effective acquisition cost and maximum total loss?

• A. Effective cost: $41.80 per share; maximum loss: $4,180.
• B. Effective cost: $41.80 per share; maximum loss: $4,500.
• C. Effective cost: $45.00 per share; maximum loss: $4,500.
• D. Effective cost: $48.20 per share; maximum loss: $4,820.

Best answer: A

Explanation: The $3.20 premium reduces the $45 strike cost to $41.80 per share, leaving $4,180 at risk for 100 shares.

A put writer must purchase the underlying shares at the strike price if assigned. The premium received reduces the writer’s net acquisition cost:

\[ USD 45.00 - USD 3.20 = USD 41.80 \text{ per share} \]

One standard equity option contract covers 100 shares, so the net amount invested is $4,180. If the stock becomes worthless, that entire net investment is lost. The premium provides only a limited cushion against a decline; it does not eliminate the substantial downside exposure created by assignment.

• The $45.00 and $4,500 figures ignore the premium received.
• The $48.20 and $4,820 figures incorrectly add the premium to the strike price.
• The $41.80 cost paired with a $4,500 loss fails to apply the premium offset when measuring total loss.

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Question 24

Topic: Products and Risks

In 2026, a beneficiary receives a distribution from one 529 plan.

Form 1099-Q amounts:

• Gross distribution: $24,000
• Earnings: $6,000
• Contribution basis: $18,000

Documented expenses paid during 2026:

• Tuition and mandatory fees: $13,000
• Required books: $1,000
• Computer used primarily by the beneficiary during enrollment: $2,000
• Room and board: $5,000
• Transportation: $3,000

The beneficiary attended an eligible institution less than half-time throughout the year. Assume there were no refunds, tax-free educational assistance, education credits, other 529 distributions, or exceptions to the 10% additional tax.

Which calculation and federal tax treatment are correct?

• A. Treat $10,000 as nonqualified: $2,500 is taxable earnings, $7,500 is nontaxable basis, and the additional tax is $250.
• B. Treat $8,000 as nonqualified: $6,000 is taxable earnings, $2,000 is nontaxable basis, and the additional tax is $600.
• C. Treat $8,000 as nonqualified: $2,000 is taxable earnings, $6,000 is nontaxable basis, and the additional tax is $200.
• D. Treat $3,000 as nonqualified: $750 is taxable earnings, $2,250 is nontaxable basis, and the additional tax is $75.

Best answer: C

Explanation: Qualified expenses are $16,000, and the 25% earnings ratio allocates $2,000 of earnings to the $8,000 nonqualified portion.

Tuition, mandatory fees, required books, and the computer are qualified higher education expenses, totaling $16,000. Room and board do not qualify because the beneficiary was enrolled less than half-time, and transportation is not a qualified expense. Therefore, $8,000 of the $24,000 distribution is nonqualified.

Earnings represent 25% of the distribution: $6,000 divided by $24,000. Applying that percentage to the $8,000 nonqualified portion produces $2,000 of taxable earnings. The remaining $6,000 is a nontaxable return of contributions. With no applicable exception, the taxable earnings are also subject to a 10% additional tax of $200.

• The $2,500 result incorrectly excludes the computer from qualified expenses.
• The $750 result incorrectly treats room and board as qualified despite enrollment below half-time.
• The $6,000 result assigns all distributed earnings to the nonqualified portion instead of allocating earnings proportionately.

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Question 25

Topic: Trading and Customer Accounts

Maria, a competent customer, created and funded two trusts. Assume no court order or other legal mechanism changes the authority stated in the trust instruments.

Trust A:

During Maria’s lifetime, Maria may amend or revoke this trust by delivering a signed writing to the trustee. The corporate trustee has sole investment discretion.

Trust B:

This trust is irrevocable. The trust protector may replace the trustee for stated cause. No person is granted authority to amend the beneficiary designations. The corporate trustee has sole investment discretion.

Both accounts declined 12% during the past year. Maria now wants to change the remainder beneficiary of each trust because she is dissatisfied with the investment performance.

Which interpretation of Maria’s authority is supported by the trust terms?

• A. Maria may change the beneficiary of both trusts by using the signed-writing procedure stated in Trust A.
• B. Maria may change the beneficiary of Trust A under its amendment procedure but cannot change the beneficiary of Trust B.
• C. Maria cannot change the beneficiary of either trust because the corporate trustee has sole investment discretion.
• D. Maria may change the beneficiary of Trust A directly and the beneficiary of Trust B with the trustee’s written consent.

Best answer: B

Explanation: Trust A expressly reserves amendment authority to Maria, while Trust B grants no authority to change its beneficiaries.

A revocable trust generally permits the settlor to revoke or amend the trust according to its stated procedure. Maria therefore retains legal control over Trust A’s beneficiary designation through a signed writing delivered to the trustee.

An irrevocable trust does not give the settlor the same unilateral authority. Trust B grants the trust protector power to replace the trustee, but that limited power does not include changing beneficiaries. It also does not authorize the trustee to approve such a change.

Investment discretion and amendment authority are separate. The corporate trustee may make investment decisions for both accounts, but that authority does not determine who may alter the trust terms. Similarly, a decline in account value does not expand Maria’s legal authority over either trust.

• Trust A’s amendment procedure does not apply to the separately governed irrevocable trust.
• Sole investment discretion concerns management of trust assets, not amendment of beneficiary designations.
• Trustee consent cannot create amendment authority that Trust B does not grant.

Questions 26-50

Question 26

Topic: Trading and Customer Accounts

A public company sends an outside financial printer a draft announcement concerning a signed acquisition at a 40% premium. The acquisition has not been publicly disclosed, and the printer is subject to a confidentiality agreement.

An employee of the printer accesses the draft as part of her job and texts her brother:

“The client will announce the acquisition tomorrow. Buy today, and if you profit, take me on vacation.”

Her brother knows the information came from her confidential work, agrees to the vacation, and purchases the target company’s shares before the announcement.

Which interpretation is best supported for insider-trading purposes?

• A. The issuer’s vendor disclosure is permissible; the employee’s tip and the brother’s trade raise insider-trading concerns.
• B. The issuer’s vendor disclosure is permissible and the employee’s tip raises concern; the brother’s trade is permissible before benefit payment.
• C. The issuer’s vendor disclosure and the brother’s trade raise concerns; the employee’s tip is permissible as a nontrading disclosure.
• D. The issuer’s vendor disclosure and the employee’s tip raise concerns; the brother’s trade is permissible as an outsider trade.

Best answer: A

Explanation: The employee disclosed material nonpublic information for a personal benefit, and her brother knowingly traded on that improper tip.

Material nonpublic information must be traced through each disclosure and trade. The issuer may provide confidential deal information to a service provider for a legitimate business purpose when the provider is bound to maintain confidentiality. The printer employee, however, owes a duty to protect information obtained through her work. Her disclosure in exchange for a promised vacation indicates a breach for personal benefit.

The brother need not be an issuer employee or other traditional insider. He knows the information came from confidential work, understands that the employee is improperly disclosing it, agrees to provide a benefit, and trades before public dissemination. Those facts create insider-trading concerns for both the employee as the tipper and the brother as the recipient and trader. The vacation need not occur before the trade for the arrangement to be relevant.

• A recipient does not avoid insider-trading concerns merely because the recipient is not a corporate insider.
• A person can create tipping liability by improperly disclosing information even if that person never trades.
• Completion of the promised benefit is not required when the agreement already evidences the tipper’s personal benefit.

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Question 27

Topic: Products and Risks

An investor buys 3 XYZ 45 call contracts for a premium of $2.50 per share. Each contract covers 100 shares. At expiration, XYZ is trading at $51, and the investor exercises the calls and immediately sells the shares at market value.

Ignore commissions and taxes. Which result and interpretation are correct?

• A. The net profit is $1,800, the maximum loss is $750, and another $1 stock increase adds $300 to profit.
• B. The net profit is $1,050, the maximum loss is $750, and another $1 stock increase adds $300 to profit.
• C. The net profit is $1,050, the maximum loss is $13,500, and another $1 stock increase adds $300 to profit.
• D. The net profit is $350, the maximum loss is $250, and another $1 stock increase adds $100 to profit.

Best answer: B

Explanation: The calls earn $3.50 per share after premium across 300 shares, while the premium paid is the maximum possible loss.

A long call’s expiration profit equals the stock price minus the strike price minus the premium paid. Here, the per-share profit is $51 - $45 - $2.50 = $3.50. Three contracts represent 300 shares, so the total profit is $3.50 x 300 = $1,050.

The investor paid $2.50 x 300 = $750 in premiums. Because a call buyer has a right rather than an obligation to exercise, that premium is the maximum possible loss. The expiration breakeven price is $47.50. Above breakeven, each additional $1 increase in the stock price adds $1 per share, or $300 across the position. Thus, the long call combines limited loss with rising-price exposure and theoretically unlimited upside.

• The $1,800 amount is the gross intrinsic value and does not subtract the $750 premium.
• The $350 result and related figures account for only one of the three contracts.
• The $13,500 exercise cost is not the maximum loss because the call holder is not obligated to exercise.

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Question 28

Topic: Capital Markets

A saver deposits $10,000 in an account earning 4% annually. Over the same year, the general price level rises 6%. Assume no taxes, deposits, or withdrawals.

Which statement, with amounts rounded to the nearest dollar, correctly describes the account after one year?

• A. Nominal wealth ends at $10,400, while real purchasing power is approximately $10,000 in beginning-of-year dollars.
• B. Nominal wealth ends at $10,400, while real purchasing power is approximately $9,800 in beginning-of-year dollars.
• C. Nominal wealth ends at $10,400, while real purchasing power is approximately $9,811 in beginning-of-year dollars.
• D. Nominal wealth ends at $10,400, while real purchasing power is approximately $9,434 in beginning-of-year dollars.

Best answer: C

Explanation: The balance grows to $10,400, and dividing by 1.06 gives real purchasing power of approximately $9,811.

Nominal wealth measures the account balance in current dollars, so the 4% return increases the balance from $10,000 to $10,400. Real purchasing power adjusts that balance for the 6% increase in prices:

\[ \text{Real value} = \frac{USD 10{,}400}{1.06} \approx USD 9{,}811 \]

The exact real return is \( (1.04 / 1.06) - 1 \approx -1.89\% \). Thus, the saver has more dollars but can purchase less than at the beginning of the year. A positive nominal return does not ensure increased purchasing power when inflation is higher.

• The $9,800 value treats the 2 percentage-point difference between return and inflation as an exact real return rather than an approximation.
• The $9,434 value adjusts the original deposit for inflation but omits the account’s 4% earnings.
• Unchanged purchasing power would require the nominal return to equal the inflation rate; here, the return is lower.

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Question 29

Topic: Regulatory Framework

A registered person fails to complete the annual Regulatory Element by the applicable deadline. What is the consequence?

• A. The person becomes CE inactive and may not perform or receive compensation for activities requiring registration until completing the requirement.
• B. The person becomes CE inactive but may service existing accounts while refraining from opening new accounts until completing the requirement.
• C. The person’s registration terminates, requiring a new qualification examination and registration application before returning to work.
• D. The person remains active for a 30-day grace period but may not receive commissions during that period.

Best answer: A

Explanation: Missing the deadline causes CE inactive status, which restricts registered activities and related compensation until the Regulatory Element is completed.

A registered person who does not complete the Regulatory Element by the applicable annual deadline is designated CE inactive. While inactive, the person may not engage in activities requiring registration and may not receive compensation for those activities. Completing the overdue Regulatory Element generally restores active status; missing the deadline does not itself terminate the person’s registration or automatically require retaking a qualification examination. The restriction is also broader than a prohibition on opening new accounts or receiving commissions because it covers registered activities and compensation associated with them.

• Servicing existing accounts may involve activities requiring registration, so it is not generally permitted during CE inactive status.
• FINRA does not provide an automatic 30-day grace period after the applicable annual deadline.
• CE inactive status restricts registered activity but does not itself terminate registration or require requalification by examination.

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Question 30

Topic: Trading and Customer Accounts

A representative plans four live promotional calls to individuals’ personal telephone numbers. All times are local to the recipient, and no stricter state rules apply.

Which planned call is permitted under FINRA’s telemarketing controls?

• A. Place Avery’s 8:30 a.m. call under the established-business-relationship exception.
• B. Place Drew’s 2:00 p.m. call under the current-customer exception.
• C. Place Casey’s 10:00 a.m. call under the verbal-permission exception.
• D. Place Blake’s 7:50 a.m. call under the signed-permission exception.

Best answer: A

Explanation: The call is within permitted hours, and Avery’s recent transaction supports an established-business-relationship exception with no firm-specific suppression request.

FINRA generally limits outbound telephone solicitations to the period from 8:00 a.m. through 9:00 p.m. in the recipient’s local time. A number on the national do-not-call list may still be contacted when a valid exception applies, including an established business relationship based on a qualifying recent transaction. Prior express permission can also support an exception, but it must be evidenced by a signed written agreement that identifies the telephone number. A recipient’s firm-specific do-not-call request must be honored even when the person recently conducted business with the firm. Avery’s call satisfies the time restriction and established-business-relationship exception, and Avery has not asked the firm to suppress calls.

• The 7:50 a.m. call occurs before the permitted calling window, despite the signed permission.
• Verbal permission does not satisfy the signed written agreement requirement for overriding national-list status.
• A recent purchase does not override a later firm-specific do-not-call request.

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Question 31

Topic: Trading and Customer Accounts

For tax year 2025, Elena is age 52, single, and covered by her employer’s retirement plan. Her only compensation for IRA purposes is $7,500 of wages. Other income increases her modified adjusted gross income (MAGI) to $95,000. She has made no other IRA contributions.

2025 assumptions:

• The traditional IRA contribution limit is $7,000, plus a $1,000 catch-up contribution for someone age 50 or older.
• An IRA contribution cannot exceed the individual’s compensation.
• For a single active participant, the deduction phases out between $79,000 and $89,000 of MAGI and is eliminated at or above $89,000.

What is Elena’s maximum traditional IRA contribution and deductible amount for 2025?

• A. Contribute up to $7,000, with no deduction.
• B. Contribute up to $8,000, with no deduction.
• C. Contribute up to $7,500, with a $7,500 deduction.
• D. Contribute up to $7,500, with no deduction.

Best answer: D

Explanation: Her $8,000 age-based limit is reduced to $7,500 by compensation, while her MAGI eliminates the deduction.

Elena’s age-based contribution ceiling is $8,000: the $7,000 standard limit plus the $1,000 catch-up contribution. However, an individual’s IRA contribution is limited to the lesser of the annual ceiling or eligible compensation. Because Elena has only $7,500 of compensation, her maximum contribution is $7,500.

Contribution eligibility and deductibility are separate. Elena may fund a traditional IRA even though she participates in an employer plan and has MAGI above the deduction phaseout range. Her $95,000 MAGI eliminates the deduction, so the $7,500 contribution is permitted but nondeductible.

• The $8,000 amount applies the catch-up limit but fails to apply the lower compensation ceiling.
• The $7,000 amount disregards the catch-up contribution available at age 50 or older.
• A $7,500 deduction incorrectly treats contribution eligibility as establishing deductibility despite the stated MAGI phaseout.

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Question 32

Topic: Products and Risks

Jordan owns 500 shares of a mutual fund in a taxable brokerage account. Jordan purchased the shares one month ago.

• NAV immediately before the distribution: $20 per share
• Distribution: $2 per share, designated entirely as a long-term capital-gain distribution
• NAV immediately after the distribution: $18 per share
• Election: Automatically reinvest the distribution at $18 per share
• Assumption: No other market movement or fees occur

Immediately after reinvestment, which statement correctly describes Jordan’s account value and the distribution’s tax character?

• A. The account is worth $11,000, and the $1,000 distribution is taxable as a long-term capital gain.
• B. The account is worth $10,000, and the $1,000 distribution is taxable as a short-term capital gain.
• C. The account is worth $9,000, and the $1,000 distribution is taxable as a long-term capital gain.
• D. The account is worth $10,000, and the $1,000 distribution is taxable as a long-term capital gain.

Best answer: D

Explanation: Reinvestment restores the account to $10,000, while the fund’s capital-gain distribution retains its long-term tax character.

Before the distribution, the account is worth 500 x $20, or $10,000. The $2-per-share distribution totals $1,000. When the fund pays it, NAV falls by $2, making the original shares worth 500 x $18, or $9,000. Reinvesting the $1,000 at $18 purchases approximately 55.56 additional shares, restoring the account value to $10,000.

The distribution is not free additional return because the NAV reduction offsets the payout. In a taxable account, reinvestment does not prevent current taxation. Because the fund designated the payment as a long-term capital-gain distribution, it receives long-term treatment even though Jordan held the fund shares for only one month.

• Short-term treatment incorrectly applies Jordan’s one-month holding period rather than the fund’s designation of the distribution.
• The $9,000 value reflects the NAV reduction but omits the additional shares purchased through reinvestment.
• The $11,000 value adds the distribution to the original value while ignoring the offsetting decline in NAV.

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Question 33

Topic: Trading and Customer Accounts

Two traders agree in advance to enter offsetting buy and sell orders for the same stock, at substantially the same time, price, and quantity. Their purpose is to make the stock appear more actively traded than it is. Which prohibited practice does this conduct most directly represent?

• A. Prearranged matched orders creating fictitious market activity
• B. Marking-the-close trades intended to influence the closing price
• C. Wash trades leaving beneficial ownership substantially unchanged
• D. Unsupported market rumors intended to stimulate investor demand

Best answer: A

Explanation: Coordinated offsetting orders entered on substantially identical terms to simulate trading interest are matched orders.

Matched orders involve prearranged purchases and sales entered on substantially the same terms to create a misleading appearance of market activity, supply, or demand. Here, two traders coordinate offsetting orders with matching timing, price, and quantity to manufacture apparent trading volume. A wash trade instead generally involves no genuine change in beneficial ownership. Marking the close focuses on improperly influencing a security’s closing price through transactions near the market close. Spreading an unsupported rumor can also manipulate investor behavior, but it uses false or unsubstantiated information rather than coordinated fictitious transactions. The decisive feature is the advance coordination of offsetting orders to simulate genuine market interest.

• Wash trading is distinguished by the absence of a genuine change in beneficial ownership, rather than coordination between two traders.
• Marking the close concerns influencing the reported closing price, which is not the stated purpose.
• Rumor-based manipulation relies on unsupported information, not offsetting securities orders.

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Question 34

Topic: Regulatory Framework

An employee of a municipal securities dealer was a municipal finance professional throughout 2027. She was entitled to vote for a city candidate in both the primary and general elections. The candidate’s office can influence the award of the city’s municipal securities business.

The employee made these contributions:

On December 15, 2027, the city is considering awarding municipal securities business to the dealer. Assume no contribution was returned and the employee made no other contributions to the candidate.

How should the dealer calculate and interpret these contributions under MSRB Rule G-37?

• A. Treat the combined $475 against a $500 annual allowance for two elections; all contributions qualify for the exception and no business ban applies.
• B. Treat each payment separately, with no payment above $250; all contributions qualify for the exception and no business ban applies.
• C. Treat the combined $475 as one election’s total, exceeding the $250 threshold by $225 and creating a potential two-year business ban.
• D. Treat the primary total as $275 and the general total as $200; the primary excess creates a potential two-year business ban.

Best answer: D

Explanation: The $275 primary-election total exceeds the voting-eligible exception by $25, potentially triggering Rule G-37’s two-year ban.

MSRB Rule G-37 permits a municipal finance professional to contribute up to $250 per election to an issuer official for whom the person is entitled to vote. Contributions must be aggregated for each election, while a primary and general election are treated separately.

The two primary contributions total $275: $150 + $125. This exceeds the primary-election exception by $25. The $200 general-election contribution independently remains within the exception. Because the employee was a municipal finance professional, the recipient could influence the city’s municipal securities business, and the dealer seeks business within the relevant two-year period, the primary-election excess creates a potential two-year prohibition on municipal securities business with the issuer.

• Comparing each payment separately ignores the required aggregation of contributions for the same election.
• Combining primary and general contributions into one $475 election total ignores their treatment as separate elections.
• Multiplying $250 by two does not create a transferable $500 annual allowance; each election has its own limit.

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Question 35

Topic: Regulatory Framework

Jordan works in a clerical position at a FINRA member firm and has never been registered. The firm plans to transfer him to a role soliciting customers and accepting orders for listed stocks, corporate bonds, and mutual funds.

The firm has no stricter internal requirement. On which earliest date may Jordan begin performing the securities-selling activities?

• A. April 12, when Jordan completed the Series 7 requirement
• B. April 15, when Jordan’s required representative registrations became effective
• C. April 3, when the firm filed Form U4 and provided sponsorship
• D. March 1, when Jordan completed the SIE requirement

Best answer: B

Explanation: Jordan may perform the registered sales activities once his required representative registrations are effective.

Moving from clerical work into securities solicitation and order-taking requires the appropriate representative qualification and effective registration. The SIE can be taken without firm sponsorship, but passing it does not confer registered status. The member firm must file Form U4 and sponsor the appropriate representative-level examination, such as the Series 7. Passing that examination satisfies a qualification requirement, but the employee still may not perform registered activities while the registration remains pending. Jordan can begin the new activities on April 15 because CRD then shows that his required FINRA and state registrations are effective.

• Passing the SIE demonstrates foundational knowledge but does not create representative registration.
• Filing Form U4 and providing sponsorship begin the registration and qualification process but do not authorize selling activities.
• Passing the Series 7 completes an examination requirement, but registered activities must wait until the applicable registrations are effective.

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Question 36

Topic: Capital Markets

A saver begins the year with $20,000 in an account earning a 3% annual nominal return. A representative basket of goods costs $200 at the beginning of the year, and its price rises by 5% during the year. Assume no taxes, fees, deposits, or withdrawals.

Round the number of baskets and the percentage change to the nearest tenth. Which result best describes the account after one year?

• A. The account ends at $20,600 and buys 103.0 baskets, so real purchasing power rises by 3.0%.
• B. The account ends at $20,600 and buys 98.0 baskets, so real purchasing power falls by 2.0%.
• C. The account ends at $20,600 and buys 102.0 baskets, so real purchasing power rises by 2.0%.
• D. The account ends at $20,600 and buys 98.1 baskets, so real purchasing power falls by 1.9%.

Best answer: D

Explanation: Dividing the $20,600 ending balance by the $210 ending basket price gives 98.1 baskets, a 1.9% real decline.

The account’s nominal balance increases to $20,600 because $20,000 x 1.03 = $20,600. However, the basket price increases to $210 because $200 x 1.05 = $210. The ending balance therefore purchases $20,600 / $210 = 98.095 baskets, or 98.1 baskets. It purchased 100 baskets initially, so real spending ability declines by approximately 1.9%.

The exact real return is (1.03 / 1.05) - 1 = -0.01905, or about -1.9%. A positive nominal return does not ensure greater purchasing power when inflation exceeds that return.

• A 2.0% decline merely subtracts the inflation rate from the nominal return and treats the approximation as exact.
• A 3.0% increase measures nominal account growth while ignoring the higher basket price.
• A 2.0% increase reverses the real effect even though prices rose faster than the account balance.

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Question 37

Topic: Capital Markets

A corporation’s SEC registration statement for a public stock offering is effective, and the NYSE has approved the shares for listing. The shares are offered to residents of 12 states. Several investors complain to a state securities administrator that the offering materials omitted a material debt covenant default.

An issuer executive states:

“Because this is an interstate, exchange-listed offering, the states have no jurisdiction, and NASAA serves as the states’ approval authority.”

Which interpretation correctly identifies the applicable regulatory roles?

• A. The SEC administers federal registration; interstate solicitation preempts state registration and antifraud enforcement; NASAA coordinates complaints that state administrators must refer to the SEC.
• B. The SEC administers federal registration; each state may require offering registration despite the exchange listing; state administrators retain antifraud authority; NASAA can coordinate multistate review.
• C. The SEC administers federal registration; covered-security status preempts state offering registration; state administrators retain antifraud authority; NASAA can coordinate but cannot approve the offering.
• D. The SEC administers federal antifraud rules; NASAA grants multistate offering approval; state administrators enforce that approval instead of conducting separate antifraud investigations.

Best answer: C

Explanation: Exchange-listed shares are federally covered securities, but federal preemption of state registration does not eliminate state antifraud authority or make NASAA a regulator.

NYSE-listed shares are federally covered securities. Federal law therefore preempts state requirements to register or qualify the offering, avoiding separate substantive registration review in every state. That preemption does not eliminate state authority to investigate and enforce state antifraud provisions. The alleged omission of a material debt covenant default can therefore support a state investigation even though the federal registration statement is effective.

NASAA is an association of state and provincial securities administrators. It promotes coordination, model rules, information sharing, and certain multistate review processes, but it is not itself a government regulator and does not issue binding approval on behalf of the states. Federal effectiveness also does not represent an endorsement of the offering’s merits.

• Interstate solicitation does not eliminate preserved state antifraud enforcement authority.
• Exchange-listed covered securities are not subject to separate state offering registration or merit review.
• NASAA coordinates securities administrators but does not grant regulatory approval or replace their enforcement authority.

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Question 38

Topic: Products and Risks

An investor establishes a protective put position and holds it through expiration:

• Buys 100 shares at $48 per share.
• Buys one standard $45 put for a premium of $2 per share.
• Pays no commissions.
• At expiration, the stock is $54 per share, and the investor sells the shares at that price.

What is the combined realized outcome, and how should the put’s expiration be interpreted?

• A. A $600 net gain; the put expires unexercised, and its premium is excluded from the result because no exercise occurs.
• B. A $1,300 net gain; the put settles for the $9 difference above $45 while the stock appreciation remains in the position.
• C. A $400 net gain; the put expires unexercised, but it provided the right to sell the shares at $45 during its term.
• D. A $500 net loss; the put is exercised at $45 to apply the hedge, replacing the stock’s $54 expiration value.

Best answer: C

Explanation: The $600 stock gain less the $200 put premium produces a $400 net gain, while the put provided downside protection despite expiring unused.

The stock produces a gain of ($54 - $48) x 100 = $600. The put costs $2 x 100 = $200 and expires out of the money because the stock’s market price exceeds the $45 exercise price. The combined realized gain is therefore $600 - $200 = $400.

An unused hedge can still fulfill its purpose. The put gave the investor the right to sell the shares for $45 through expiration, limiting exposure to a severe stock-price decline. Because the stock instead appreciated, selling at the $54 market price was preferable to exercising the put. The premium was the cost of obtaining that protection and remains part of the position’s financial result.

• The $600 calculation counts the stock appreciation but incorrectly omits the $200 premium paid for protection.
• Treating the $9 amount above the strike as put value reverses put intrinsic value; a put has intrinsic value when the stock is below its strike.
• Exercising at $45 would be inferior to selling at the available $54 market price and is not the expiration outcome.

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Question 39

Topic: Products and Risks

A corporation plans to issue three 10-year bonds with the same coupon rate, maturity, credit quality, and liquidity. Market conditions are identical for all three.

Assuming both early-redemption provisions have meaningful value, which ordering of required yields at issuance is most likely?

• A. Puttable bond highest, straight bond next, callable bond lowest
• B. Callable bond highest, puttable bond next, straight bond lowest
• C. Callable bond highest, straight bond next, puttable bond lowest
• D. Straight bond highest, callable bond next, puttable bond lowest

Best answer: C

Explanation: Investors require more yield for the issuer’s call flexibility and accept less yield for their own put flexibility.

A call provision benefits the issuer because it can redeem the bond, commonly when interest rates fall and refinancing becomes attractive. This exposes investors to call and reinvestment risk, so a callable bond generally must offer a higher yield, or lower price, than an otherwise identical straight bond.

A put provision benefits investors because they can require early redemption, commonly when interest rates rise or the issuer’s credit quality deteriorates. Investors therefore accept a lower yield, or pay a higher price, for a puttable bond. With coupon, maturity, credit quality, and liquidity held constant, the expected required-yield ordering is callable, straight, then puttable. The exact yield differences depend on the redemption dates and prices, but the direction reflects which party receives the contractual flexibility.

• Placing the puttable bond between the callable and straight bonds overlooks that investor-controlled redemption adds value relative to a straight bond.
• Giving the puttable bond the highest yield reverses the effect of investor protection and issuer call risk.
• Giving the straight bond the highest yield fails to recognize the additional compensation investors demand for an issuer call right.

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Question 40

Topic: Trading and Customer Accounts

Account: A client owns 600 shares of XYZ common stock and is not enrolled in dividend reinvestment.

Issuer notices:

• XYZ declared a $0.40-per-share cash dividend. The client is a shareholder of record, and payment is scheduled for August 15.

Shareholders may tender up to 200 shares to XYZ for $28 per share through August 20. All properly tendered shares will be accepted.

Which interpretation correctly compares the notices, including the result if the client participates fully in the repurchase offer?

• A. The $240 dividend is credited automatically and leaves 600 shares; the repurchase processes 200 shares by default for $5,600 and leaves 400 shares.
• B. The client must elect the $240 dividend, which leaves 600 shares; tendering 200 shares produces $5,600 and leaves 400 shares.
• C. The client must elect the $240 dividend, which leaves 600 shares; the repurchase processes 200 shares by default for $5,600 and leaves 400 shares.
• D. The $240 dividend is credited automatically and leaves 600 shares; electing to tender 200 shares produces $5,600 and leaves 400 shares.

Best answer: D

Explanation: A cash dividend requires no election and does not reduce shares, while participation in the repurchase offer constitutes a sale of the tendered shares.

An ordinary cash dividend is distributed automatically to eligible shareholders. The client receives \(600 \times \$0.40 = \$240\), and the payment does not exchange or cancel any shares, so the position remains 600 shares.

An issuer repurchase offer is voluntary. The shareholder must elect to tender shares; no response means no sale. If the client tenders the maximum 200 shares and they are accepted, the proceeds are \(200 \times \$28 = \$5,600\). Because those shares are sold back to the issuer, the client’s position falls from 600 to 400 shares.

• Treating the repurchase as a default transaction ignores the shareholder’s required tender election.
• Requiring an election for the declared cash dividend confuses an automatic distribution with a voluntary corporate action.
• Reversing both treatments incorrectly delays the dividend and causes an unauthorized share sale.

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Question 41

Topic: Capital Markets

An economic report describes the following sequence:

Inflation expectations and major production costs remain stable throughout the period. Which interpretation is most consistent with the monetarist explanation of economic activity?

• A. The deterioration in productive capacity reduced aggregate supply and output, so removing production constraints would promote recovery.
• B. The monetary slowdown reduced total spending and output, so steadier money supply growth would promote economic stability.
• C. The fall in expected profitability reduced business investment and output, so investment tax incentives would promote recovery.
• D. The decline in private spending reduced total demand and output, so temporary government spending would promote recovery.

Best answer: B

Explanation: Monetarists assign the primary causal role to changes in the money supply, which preceded the declines in spending and output.

Monetarists view changes in the money supply as a major cause of fluctuations in nominal spending, output, and prices. Here, money supply growth slows before consumer spending, business spending, real GDP, and employment decline. That sequence supports the monetarist interpretation that monetary instability initiated the contraction and that steadier money growth would support economic stability.

Keynesian analysis instead emphasizes fluctuations in aggregate spending. A Keynesian could focus on the decline in consumption and investment and support fiscal stimulus to raise aggregate demand. Although both schools recognize relationships among money, spending, and output, they differ in which force receives the primary explanatory role and which stabilization policy they generally emphasize.

• Emphasizing deficient private spending and government expenditure reflects a Keynesian demand-management approach.
• Emphasizing profitability and investment tax incentives reflects a supply-side or investment-incentive explanation rather than monetarism.
• A productive-capacity explanation is unsupported because the report identifies no significant change in production costs or constraints.

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Question 42

Topic: Products and Risks

A mortgage-backed security was expected to return most principal in eight years. After market interest rates decline, homeowners refinance and the security returns principal in four years, when comparable yields are lower.

Which statement correctly identifies the two risks illustrated?

• A. The accelerated principal return is prepayment risk, and investing that cash at lower yields is interest-rate risk.
• B. The accelerated principal return is reinvestment risk, and investing that cash at lower yields is prepayment risk.
• C. The accelerated principal return is prepayment risk, and investing that cash at lower yields is reinvestment risk.
• D. The accelerated principal return is extension risk, and investing that cash at lower yields is reinvestment risk.

Best answer: C

Explanation: Prepayment risk concerns receiving principal earlier than expected, while reinvestment risk concerns putting the returned cash to work at lower yields.

Prepayment risk arises when borrowers repay principal earlier than anticipated, commonly when falling interest rates encourage mortgage refinancing. The investor then receives cash sooner and loses some expected future interest payments. Reinvestment risk concerns the return available when that principal or other cash flow is reinvested. Because prepayments often increase after market rates decline, the investor may have to reinvest at yields below the original security’s yield. Thus, one event can expose an investor to both risks: accelerated repayment creates prepayment risk, and the lower rate available for the returned cash creates reinvestment risk.

• Reversing the two terms misclassifies both the timing event and its consequence.
• Extension risk involves principal returning more slowly than expected, typically when rising rates discourage refinancing.
• Interest-rate risk primarily concerns a security’s price response to changing rates, not the yield earned by reinvested cash.

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Question 43

Topic: Trading and Customer Accounts

An investor buys 400 shares of a closed-end fund for $20 per share. The fund’s final year-end tax reporting classifies a subsequent $3-per-share distribution as return of capital. The investor receives no other distributions or basis adjustments and sells all shares 18 months after purchase for $18.50 per share.

Ignoring commissions, which calculation and interpretation is correct?

• A. Treat the $1,200 as recovered investment, increase basis to $9,200, and report a $1,800 long-term capital loss.
• B. Treat the $1,200 as taxable dividend income, retain basis of $8,000, and report a $600 long-term capital loss.
• C. Treat the $1,200 as recovered investment, reduce basis to $5,600, and report a $1,800 long-term capital gain.
• D. Treat the $1,200 as recovered investment, reduce basis to $6,800, and report a $600 long-term capital gain.

Best answer: D

Explanation: The return of capital reduces basis to $6,800, so the $7,400 sale proceeds produce a $600 long-term capital gain.

The initial cost basis is $8,000: 400 shares times $20. The $1,200 return of capital is less than the investor’s basis, so it is a recovery of invested capital rather than current income. It reduces total basis dollar-for-dollar to $6,800, or $17 per share. Sale proceeds are $7,400: 400 shares times $18.50. Therefore, the investor realizes a $600 gain because $7,400 minus $6,800 equals $600. The 18-month holding period makes the gain long-term. A sale price below the original purchase price can still produce a taxable gain when prior return-of-capital distributions have reduced the adjusted basis.

• Retaining the $8,000 basis incorrectly treats the distribution as income rather than a basis reduction.
• Increasing basis reverses the required treatment of recovered investment.
• Reducing basis to $5,600 subtracts the same $1,200 distribution twice.

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Question 44

Topic: Capital Markets

A firm is registered as both a broker-dealer and an investment adviser. The same employee, whose business title is “financial consultant,” services two customer accounts.

• Portfolio-review account: The employee monitors the portfolio, conducts quarterly reviews, and recommends allocation changes. The customer pays an annual fee of 0.75% of account assets and approves each trade.
• Self-directed account: The employee accepts customer-initiated orders. The customer pays a commission for each transaction and receives no portfolio monitoring or recommendations.

Which classification most accurately identifies the service relationship for each account?

• A. Classify both the portfolio-review account and the self-directed account as brokerage.
• B. Classify the portfolio-review account as advisory and the self-directed account as brokerage.
• C. Classify the portfolio-review account as brokerage and the self-directed account as advisory.
• D. Classify both the portfolio-review account and the self-directed account as advisory.

Best answer: B

Explanation: Ongoing portfolio advice for an asset-based fee is advisory, while customer-directed transaction execution for commissions is brokerage.

The nature of the service and its compensation determine the relationship, not the employee’s title or the firm’s dual registration. The portfolio-review account involves continuing monitoring, periodic reviews, and allocation recommendations in exchange for an asset-based fee. These facts establish an advisory relationship even though the customer retains authority to approve each trade.

The self-directed account has a different service model. The employee executes customer-initiated securities transactions, receives transaction-based commissions, and provides no ongoing advice or monitoring. That account is therefore a brokerage relationship. A financial professional may act in different capacities for the same customer, but the applicable capacity must be determined separately for each service or account.

• Reversing the classifications overlooks that the asset-based fee compensates ongoing advice, while commissions compensate transaction execution.
• Treating both accounts as advisory improperly relies on the firm’s dual registration rather than the services provided.
• Treating both accounts as brokerage ignores the continuing monitoring and compensated recommendations in the portfolio-review account.

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Question 45

Topic: Products and Risks

An investor purchased Class B mutual fund shares for $20,000. The shares are now worth $24,000, and the investor redeems all shares 3 years and 7 months after purchase. There were no additional purchases or reinvested distributions.

The fund applies the CDSC rate to the lesser of the original purchase amount or the redemption value.

Ignoring taxes and other fees, what CDSC applies, and how much does the investor receive?

• A. The CDSC is $600, so the investor receives $23,400.
• B. The CDSC is $400, so the investor receives $23,600.
• C. The CDSC is $480, so the investor receives $23,520.
• D. The CDSC is $200, so the investor receives $23,800.

Best answer: B

Explanation: The redemption occurs during year 4, and 2% of the lower $20,000 original investment equals $400.

A contingent deferred sales charge is assessed when shares are redeemed within the period covered by the fund’s schedule. A holding period of 3 years and 7 months places the redemption during year 4, producing a 2% rate.

The fund applies that rate to the lesser of the $20,000 original investment or the $24,000 redemption value. Therefore, the charge is $20,000 x 2% = $400. The investor’s net redemption proceeds are $24,000 - $400 = $23,600. Applying the charge to the original investment prevents the $4,000 appreciation from increasing the CDSC.

• A $480 charge incorrectly applies the 2% rate to the appreciated redemption value.
• A $600 charge incorrectly uses the year 3 rate after the investor has entered year 4.
• A $200 charge incorrectly uses the year 5 rate before four full years have elapsed.

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Question 46

Topic: Products and Risks

An investor buys one XYZ 50 call for a premium of $3 per share. Each contract covers 100 shares. XYZ closes at $58 on the expiration date. Which statement correctly describes the long call?

• A. It has an $800 profit at expiration, a maximum loss of $300, and theoretically unlimited upside.
• B. It has a $500 profit at expiration, a maximum loss of $300, and theoretically unlimited upside.
• C. It has a $500 profit at expiration, a maximum loss of $5,000, and theoretically unlimited upside.
• D. It has a $500 profit at expiration, a maximum loss of $300, and maximum profit of $800.

Best answer: B

Explanation: The call’s $800 intrinsic value minus its $300 premium produces a $500 profit, while loss is limited to the premium and upside has no fixed ceiling.

A long call gives its buyer the right to purchase stock at the strike price. At expiration, its intrinsic value equals the amount by which the stock price exceeds the strike price. Here, intrinsic value is $8 per share: $58 minus $50. After subtracting the $3 premium, the investor earns $5 per share, or $500 for 100 shares.

The breakeven price is $53, calculated as the $50 strike plus the $3 premium. If the stock finishes at or below $50, the call expires worthless and the buyer loses the $300 premium. That premium is the maximum possible loss. Because the stock price has no fixed upper limit, the long call’s potential profit is theoretically unlimited.

• The $800 result is intrinsic value before subtracting the $300 premium paid.
• The $5,000 amount is the strike price multiplied by 100 shares, not the buyer’s maximum loss.
• The $800 intrinsic value at the stated stock price does not cap future profit if the stock rises further.

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Question 47

Topic: Trading and Customer Accounts

Alex, age 45, requests a $75,000 distribution of pretax funds from his former employer’s 401(k) plan. The entire distribution is eligible for rollover, but Alex has the payment made directly to himself. The plan applies mandatory federal income tax withholding and sends him the balance.

Within 60 days, Alex deposits exactly the amount he received into a traditional IRA. He does not replace the withheld amount and has no exception from the 10% additional tax on early distributions.

Which result correctly compares this indirect rollover with a direct rollover?

• A. The indirect rollover leaves $15,000 taxable and incurs $1,500 of additional tax; a direct rollover would transfer $75,000 with no mandatory withholding.
• B. The indirect rollover leaves $60,000 taxable and incurs $6,000 of additional tax; a direct rollover would transfer $75,000 with no mandatory withholding.
• C. The indirect rollover leaves $15,000 taxable and incurs $1,500 of additional tax; a direct rollover would transfer $60,000 after $15,000 of withholding.
• D. The indirect rollover leaves $0 taxable and incurs $0 of additional tax; a direct rollover would transfer $75,000 with no mandatory withholding.

Best answer: A

Explanation: The plan withholds $15,000, and that unrolled amount is taxable and subject to a $1,500 additional tax.

An eligible rollover distribution paid to the participant is generally subject to 20% mandatory federal income tax withholding. The plan therefore withholds $15,000 and pays Alex $60,000. Because Alex rolls over only the $60,000 received, the withheld $15,000 is not rolled over and remains taxable. At age 45, with no applicable exception, the 10% additional tax is $1,500.

The $15,000 withholding is an income tax prepayment credited on Alex’s tax return; it does not make the withheld distribution tax deferred. To roll over the entire $75,000 indirectly, Alex would have needed to contribute $15,000 from other funds within 60 days. A direct rollover would instead transfer the full $75,000 to the IRA without mandatory 20% withholding.

• Treating the withholding as part of the rollover incorrectly assumes that a tax prepayment remains in the retirement arrangement.
• Applying withholding to a direct rollover incorrectly uses the rule for a distribution paid to the participant.
• Treating the deposited $60,000 as taxable ignores that this amount was rolled into the IRA within 60 days.

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Question 48

Topic: Products and Risks

A customer has the following listed equity option position:

• Existing position: Short 1 XYZ December 45 put, established through an opening sale
• Contract deliverable: 100 XYZ shares
• Current transaction: Buy 1 XYZ December 45 put in the same account, marked as a closing purchase
• Status: The purchase is completed before any assignment is allocated

What is the result of the current transaction?

• A. It offsets the short put and ends the customer’s obligation to buy 100 XYZ shares at $45.
• B. It exercises the purchased put and obligates the customer to sell 100 XYZ shares at $45.
• C. It transfers the original short put to the seller of the purchased contract, who assumes the obligation.
• D. It creates a separate long put while the short put obligation continues until expiration.

Best answer: A

Explanation: Purchasing the same option series as a closing transaction eliminates the short position and its assignment obligation.

A writer closes a listed option position by purchasing an option of the same series, meaning the same underlying security, option type, strike price, and expiration. Because listed options are fungible and positions are cleared on a net basis, the closing purchase offsets the customer’s short put. The customer no longer faces assignment requiring the purchase of 100 XYZ shares at $45.

This transaction is not an exercise. Exercise involves a holder using the contractual right of an option. A put holder who exercises sells the underlying shares at the strike price. By contrast, the customer here entered the purchase specifically as a closing transaction, so no stock transaction results.

• Exercising a put would involve selling the underlying shares, but the purchase was entered to close an existing short position.
• A separate long position would result from an opening purchase, not the stated closing purchase.
• Listed options are fungible; a closing writer does not transfer the original contract or obligation to a specific counterparty.

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Question 49

Topic: Products and Risks

An investor owns equal-value positions in an exchange-listed REIT and a publicly offered nontraded REIT. The investor wants to liquidate one position as soon as possible. Which position is generally more suitable for this immediate liquidity need?

• A. The nontraded REIT, because sponsor repurchases generally provide cash before a listed-share sale completes regular-way settlement on T+1.
• B. The nontraded REIT, because sponsor repurchase programs generally guarantee redemption at NAV even between scheduled repurchase dates.
• C. The listed REIT, because exchange rules require the issuer to redeem its shares at NAV within one business day of a request.
• D. The listed REIT, because exchange trading permits a prompt sale at the prevailing market price, while sponsor repurchases may be limited or suspended.

Best answer: D

Explanation: Exchange access generally provides greater liquidity than a nontraded REIT’s restricted and potentially suspended sponsor repurchase program.

Exchange-listed REIT shares trade in the secondary market, allowing an investor to submit a sell order and receive the prevailing market price. Although execution is not guaranteed at a particular price, exchange access generally provides substantially greater liquidity.

Nontraded REIT shares do not trade on a national securities exchange. Investors may need to rely on a sponsor’s repurchase or redemption program, which can operate only periodically, impose volume limits, offer less than the stated NAV, or be suspended. Therefore, a nontraded REIT may not meet an immediate need for cash even when the sponsor publishes a NAV.

• Exchange listing does not require the REIT issuer to redeem shares at NAV; investors normally sell through the secondary market.
• Sponsor repurchase programs do not guarantee redemption at NAV or acceptance between scheduled dates.
• Regular-way T+1 settlement is generally faster and more predictable than a restricted or periodic sponsor repurchase process.

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Question 50

Topic: Trading and Customer Accounts

A new customer submits an online brokerage account application.

Verification record:

• Application date of birth: July 14, 1992
• Unexpired driver’s license date of birth: July 14, 1993
• Approved database: name, address, and Social Security number match; date of birth is not verified
• Utility bill: name and address match
• Applicant states the application is correct and cooperates with further verification

Firm procedure: For a date-of-birth discrepancy, keep the application pending, obtain the applicant’s signed confirmation or correction, and verify the date of birth using another approved documentary or non-documentary source. Escalate unresolved or suspicious discrepancies to AML/compliance. Do not accept funding or permit trading while the application is pending.

Which response best follows the firm’s procedure?

• A. Keep the application pending, obtain signed DOB confirmation and approved DOB verification, and escalate if the conflict remains unresolved.
• B. Keep the application pending, obtain signed DOB confirmation and the utility bill, and submit after documenting the database match.
• C. Keep the application pending, escalate the mismatch to AML/compliance now, and seek a decline decision before further verification.
• D. Keep the application pending, require a replacement driver’s license, and resume review after the state issues it.

Best answer: A

Explanation: This follows the required verification sequence and reserves escalation for a discrepancy that remains unresolved.

Customer identification procedures must enable the firm to form a reasonable belief that it knows the customer’s true identity. A document discrepancy is not, by itself, proof of fraud or identity theft. Here, the firm’s procedure requires the application to remain pending while the applicant provides signed confirmation and an approved source verifies the disputed date of birth. The database matches other identifying information, but it does not verify the date of birth. Likewise, the utility bill supports the address but does not resolve the birth-year conflict. If approved additional verification resolves the mismatch, the review can proceed. If the discrepancy remains unresolved or suspicious facts arise, the matter must be escalated to AML/compliance. Funding and trading remain prohibited while verification is pending.

• The utility bill verifies the address, not the disputed date of birth, so it cannot resolve the material conflict.
• Requiring a replacement license is unnecessarily restrictive because the procedure permits other approved verification sources.
• Immediate escalation skips the required verification attempt when the record contains no additional suspicious facts.

Questions 51-75

Question 51

Topic: Trading and Customer Accounts

A customer has the following cash-account position before a rights offering:

Each common share receives one right. Four rights plus $30 purchase one new share. The customer instructs the firm to exercise 1,200 rights and allows the remaining 800 rights to expire. There are no fees or other account transactions.

Which ending account reconciliation is correct after the corporate action is completed?

• A. Cash of $41,000; 2,000 original shares; 300 new shares; 2,300 total shares
• B. Cash of $41,000; 800 original shares; 300 new shares; 1,100 total shares
• C. Cash of $35,000; 2,000 original shares; 500 new shares; 2,500 total shares
• D. Cash of $14,000; 2,000 original shares; 300 new shares; 2,300 total shares

Best answer: A

Explanation: Exercising 1,200 rights acquires 300 shares for $9,000, while the original 2,000 shares remain in the account.

Stock rights are separate from the common shares that generated them. Exercising rights does not surrender or reduce the customer’s original common-stock position. Because four rights purchase one new share, exercising 1,200 rights produces 300 new shares. At $30 per new share, the subscription requires $9,000. The cash balance therefore declines from $50,000 to $41,000. The customer retains all 2,000 original shares and adds 300 subscription shares, producing an ending position of 2,300 common shares. The 800 unexercised rights expire and do not affect the original shares.

• Acquiring 500 shares incorrectly assumes that all 2,000 distributed rights were exercised.
• Debiting $36,000 incorrectly applies the $30 subscription price to each right rather than each new share.
• Reducing the original position to 800 shares incorrectly treats exercised rights as surrendered common shares.

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Question 52

Topic: Products and Risks

A no-load open-end mutual fund accepts orders until 4:00 p.m. ET and computes NAV once each business day. The fund’s transfer agent receives a customer’s $9,800 purchase order at 4:07 p.m. ET on Tuesday. Assume fractional shares are issued and no fees apply.

How many shares will the customer purchase, and which NAV determines the price? Round shares to the nearest 0.01 share.

• A. 500.00 shares using Wednesday’s $19.60 NAV, the first NAV computed after receipt
• B. 490.00 shares using Tuesday’s $20.00 NAV, the NAV displayed when the order was submitted
• C. 505.15 shares using Thursday’s $19.40 NAV, the NAV calculated on the settlement date
• D. 494.95 shares using an average $19.80 NAV, blending the Tuesday and Wednesday prices

Best answer: A

Explanation: Because the order arrived after Tuesday’s cutoff, forward pricing applies at Wednesday’s NAV, and $9,800 / $19.60 equals 500.00 shares.

Open-end mutual fund orders use forward pricing at the next NAV computed after the fund or its authorized agent receives the order. Because the transfer agent received this order at 4:07 p.m. Tuesday, it missed the 4:00 p.m. cutoff. Tuesday’s displayed $20.00 NAV is therefore stale for this transaction. Wednesday’s $19.60 NAV applies.

The number of shares purchased is:

\[ \frac{USD 9,800}{USD 19.60} = 500.00\text{ shares} \]

The lower Wednesday NAV allows the customer to purchase 10 more shares than the 490 shares that Tuesday’s NAV would have provided. Settlement timing does not determine the NAV used for pricing.

• Using Tuesday’s NAV incorrectly applies a stale price to an order received after the cutoff.
• Using Thursday’s NAV incorrectly treats the settlement date as the pricing date.
• Averaging two NAVs is not permitted because mutual funds do not use blended after-hours prices.

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Question 53

Topic: Products and Risks

Maya is considering an investment in a private REIT.

• The shares are offered under Regulation D Rule 506(c) and are not SEC-registered.
• The issuer accepts only verified accredited investors.
• Maya meets the accredited-investor financial standard, but verification is pending.
• The private placement memorandum (PPM) describes a 7% annual distribution target that the board may reduce or suspend.
• The shares are not exchange-traded, and the REIT does not provide the same SEC periodic reports as a public REIT.

All account and recommendation requirements have been satisfied. Which interpretation is most accurate?

• A. The REIT must complete SEC registration before accepting Maya; real estate ownership does not create an offering exemption, and the 7% distribution is not guaranteed.
• B. The REIT may accept Maya after PPM delivery alone; private-offering disclosure satisfies the purchaser condition, and the 7% distribution is not guaranteed.
• C. The REIT may accept Maya after accredited-status verification; she should not expect public-REIT reporting, and occupied properties make the 7% distribution dependable.
• D. The REIT may accept Maya after accredited-status verification; she should not expect public-REIT reporting, and the 7% distribution is not guaranteed.

Best answer: D

Explanation: Rule 506(c) allows an unregistered offering to verified accredited investors, while the REIT’s stated distribution remains discretionary.

A REIT issues securities even though its portfolio consists primarily of real estate. Under Rule 506(c), the securities may be offered without SEC registration, but every purchaser must be an accredited investor and the issuer must take reasonable steps to verify that status. Merely delivering a PPM does not complete that verification.

Because the REIT is private, investors should not expect the same SEC periodic reporting, exchange liquidity, or market pricing available for a publicly traded REIT. They rely heavily on the PPM and other information supplied by the issuer. Real estate ownership also does not guarantee investment performance. Rental income can support distributions, but the board’s authority to reduce or suspend the stated target means the 7% rate is not a fixed payment obligation.

• Delivering the PPM does not replace Rule 506(c)’s accredited-investor verification requirement.
• Rule 506(c) provides an exemption from registration, so SEC registration is not required before an eligible purchaser invests.
• Occupied real estate may generate income, but it does not make a discretionary distribution target dependable or guaranteed.

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Question 54

Topic: Trading and Customer Accounts

Alpha Corporation makes a voluntary exchange offer for Beta Corporation shares.

• Exchange ratio: 0.8 Alpha share for each Beta share tendered
• Customer holding: 500 Beta shares
• Shares tendered and accepted: 300 Beta shares
• No proration or mandatory conversion applies

What will the customer hold immediately after the exchange settles?

• A. 400 Alpha shares and no Beta shares
• B. 240 Alpha shares and 200 Beta shares
• C. 375 Alpha shares and 200 Beta shares
• D. 300 Alpha shares and 200 Beta shares

Best answer: B

Explanation: The 300 tendered shares produce 240 Alpha shares, while the 200 untendered Beta shares remain in the account.

A voluntary exchange offer applies only to shares that the investor tenders and the issuer accepts. The new Alpha holding is calculated as:

\[ 300 \times 0.8 = 240\text{ Alpha shares} \]

The customer tendered 300 of the 500 Beta shares, leaving 200 Beta shares in the account. Therefore, the customer holds 240 Alpha shares and 200 Beta shares after settlement. This differs from a mandatory merger conversion, in which all affected target-company shares are automatically converted according to the merger terms. An exchange ratio should be multiplied by the number of shares actually exchanged, not necessarily the customer’s entire original holding.

• Converting all 500 Beta shares incorrectly treats the voluntary offer as a mandatory conversion.
• Dividing 300 by 0.8 reverses the stated exchange relationship.
• Crediting 300 Alpha shares incorrectly assumes a one-for-one exchange ratio.

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Question 55

Topic: Trading and Customer Accounts

An investor bought 300 shares of ABC common stock exactly one year ago for $40 per share. ABC now trades at $48 and pays a quarterly dividend of $0.60 per share. Assume the quarterly dividend continues at the same rate for the next four quarters, and ignore taxes and transaction costs.

For comparison, the investor owns a bond whose yield to maturity reflects coupon payments and redemption at par. To the nearest 0.01%, what is ABC’s indicated dividend yield based on its current market price, and how should it be interpreted?

• A. 6.00%; annualized dividends divided by original cost, an income yield that assumes no fixed redemption value.
• B. 26.00%; annualized dividends plus price appreciation divided by original cost, a holding-period return that assumes no fixed redemption value.
• C. 5.00%; annualized dividends divided by current market value, an income yield that assumes no fixed redemption value.
• D. 1.25%; one quarterly dividend divided by current market value, a quarterly yield that assumes no fixed redemption value.

Best answer: C

Explanation: The $2.40 annual dividend divided by the $48 current share price produces a 5.00% dividend yield.

ABC’s indicated annual dividend is $0.60 x 4, or $2.40 per share. Dividend yield equals the indicated annual dividend divided by the current market price: $2.40 / $48 = 5.00%. The same result arises from using aggregate values because 300 shares produce $720 of annual dividends and have a current market value of $14,400.

Dividend yield measures expected dividend income relative to current equity value. It excludes past or future price changes and does not assume that the shares will be redeemed for a fixed amount. In contrast, a bond’s yield to maturity incorporates coupon payments, the purchase price, time to maturity, and the bond’s redemption value. The indicated stock dividend may also change if the issuer changes its dividend.

• The 6.00% result uses the $40 purchase price, producing yield on cost rather than current dividend yield.
• The 1.25% result uses one quarterly payment and fails to annualize the dividend.
• The 26.00% result combines prospective annualized dividends with past price appreciation. It is neither the requested dividend yield nor a valid historical holding-period return because prior-year dividends received are not provided.

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Question 56

Topic: Trading and Customer Accounts

A customer holds 200 shares in a taxable brokerage account with an aggregate adjusted tax basis of $8,000. The corporation pays a taxable cash dividend of $1.20 per share, with no return-of-capital component. The broker automatically reinvests the entire dividend at $48 per share with no transaction fee.

Which result correctly reconciles the account immediately after the reinvestment?

• A. $240 of taxable dividend income; a 5-share new lot with $240 basis; 205 shares with $8,240 total basis
• B. $240 of taxable dividend income; a 5-share new lot with $240 basis; 205 shares with $8,480 total basis
• C. No taxable dividend income; a 5-share new lot with $240 basis; 205 shares with $8,240 total basis
• D. $240 of taxable dividend income; a 5-share new lot with no basis; 205 shares with $8,000 total basis

Best answer: A

Explanation: The $240 dividend is taxable and purchases five new shares whose $240 cost increases aggregate basis to $8,240.

Dividend reinvestment involves two related events in a taxable account. First, the customer receives taxable dividend income of $240, calculated as 200 shares times $1.20. Reinvesting that amount does not eliminate or defer the income event.

Second, the $240 is used to acquire five shares at $48 each. Those shares form a new tax lot with a $240 basis and a new acquisition date. The original 200-share lot retains its $8,000 basis. Therefore, the account holds 205 shares with an aggregate adjusted basis of $8,240. The reinvested amount is included once in taxable income and once as basis in the newly acquired shares; these treatments serve different tax purposes and do not constitute double-counting.

• Reporting no dividend income incorrectly treats automatic reinvestment as tax deferral.
• Assigning no basis to the new shares omits their $240 acquisition cost.
• Increasing basis by $480 counts the $240 reinvested amount twice in aggregate basis.

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Question 57

Topic: Products and Risks

An investor has held 200 shares of a mutual fund for three months in a taxable account. The fund’s NAV is $25 per share before a $2-per-share distribution consisting entirely of net long-term capital gains.

Assume:

• The NAV decreases by the distribution amount, with no other market movement.
• The distribution is automatically reinvested at the adjusted NAV.
• Fractional shares are permitted.
• Taxes are not withheld from the account.

Which statement correctly describes the investor’s position immediately after reinvestment? Round shares to the nearest hundredth and account value to the nearest dollar.

• A. 216.00 shares worth $4,968; the $400 distribution is currently taxable as a long-term capital gain.
• B. 217.39 shares worth $5,000; the $400 distribution is tax-deferred until the reinvested shares are sold.
• C. 217.39 shares worth $5,400; the $400 distribution is currently taxable as a long-term capital gain.
• D. 217.39 shares worth $5,000; the $400 distribution is currently taxable as a long-term capital gain.

Best answer: D

Explanation: The $400 distribution buys 17.39 shares at the adjusted $23 NAV, while reinvestment does not defer taxation of the long-term capital gain distribution.

Before the distribution, the investment is worth 200 x $25 = $5,000. The $2-per-share distribution totals $400, and the fund’s NAV declines from $25 to $23. Reinvesting $400 at $23 purchases 17.39 additional shares, producing 217.39 total shares. Their value is approximately 217.39 x $23 = $5,000.

The distribution does not create an extra $400 of investment value because the NAV declines by the amount distributed. In a taxable account, reinvestment also does not postpone the tax. The $400 retains its character as a long-term capital gain distribution even though the investor held the original shares for only three months.

• Using the original $25 NAV as the reinvestment price understates the additional shares and ending value.
• Adding the distribution to the post-reinvestment value treats the payout as free additional return despite the NAV reduction.
• Reinvestment purchases additional shares but does not defer current taxation of a taxable capital gain distribution.

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Question 58

Topic: Trading and Customer Accounts

An employee learns of four probable company developments that have not been publicly disclosed. The estimates are equally reliable, and no unusual qualitative factors are present. Which development is most likely material to a reasonable investor?

• A. A product delay affecting about 1% of annual revenue
• B. The loss of a customer that provides 22% of annual revenue
• C. A scheduled equipment replacement equal to 1% of total assets
• D. A litigation settlement equal to 1% of annual net income

Best answer: B

Explanation: Losing a customer responsible for 22% of revenue would likely have substantial economic significance to a reasonable investor.

Information is material when there is a substantial likelihood that a reasonable investor would consider it important when making an investment decision. Another formulation asks whether disclosure would significantly alter the total mix of available information. Materiality has no fixed numerical threshold, but the likely economic effect is an important consideration.

The probable loss of a customer providing 22% of annual revenue could substantially affect future sales, earnings, and valuation. By comparison, the other developments have effects near 1% and lack unusual qualitative circumstances that could make a small amount significant. Information can be nonpublic without being material; confidentiality or investor interest alone does not establish materiality.

• The settlement is relatively small compared with annual net income, and no special qualitative concern is identified.
• The equipment replacement is routine and small relative to total assets.
• The limited product delay affects only a small portion of annual revenue.

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Question 59

Topic: Trading and Customer Accounts

An investor purchased the same common stock in three separate lots:

Each total purchase cost includes the applicable commission. The investor later sells 220 shares for $40 per share and pays a $12 selling commission. The investor timely identifies all 200 shares from Lot C and 20 shares from Lot B, and the broker confirms that identification. Assume no other basis adjustments.

Which result correctly states the realized gain and the aggregate cost basis of the remaining shares? Round to the nearest cent.

• A. Realized gain: $976.80; remaining aggregate basis: $6,315.80.
• B. Realized gain: $1,000.00; remaining aggregate basis: $6,300.00.
• C. Realized gain: $1,881.47; remaining aggregate basis: $7,220.47.
• D. Realized gain: $2,772.80; remaining aggregate basis: $8,111.80.

Best answer: A

Explanation: Net proceeds are $8,788.00, and the identified shares have a $7,811.20 basis, leaving a $976.80 gain and $6,315.80 remaining basis.

Specific identification determines which shares are treated as sold when the investor provides timely instructions and the broker confirms them. Lot C has a per-share basis of $36.05, while Lot B has a per-share basis of $30.06. The sold shares therefore have a basis of $7,210.00 plus $601.20, or $7,811.20.

The $12 selling commission reduces the $8,800 gross sale amount, producing net proceeds of $8,788.00. Realized gain equals net proceeds minus the basis of the shares sold, resulting in $976.80. The remaining shares are all 100 shares from Lot A and 130 shares from Lot B. Their aggregate basis is $2,408.00 plus $3,907.80, or $6,315.80. Sale proceeds affect gain or loss but do not become the tax basis of the unsold shares.

• The $2,772.80 gain applies FIFO instead of the confirmed specific-lot identification.
• The $1,881.47 gain averages the basis across all shares rather than using the identified lots.
• The $1,000.00 gain substitutes rounded $36 and $30 per-share costs for the stated all-in lot costs and omits the $12 selling commission.

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Question 60

Topic: Products and Risks

Elena and Marcus enter positions in the same listed equity call:

At expiration, ABC trades at $52. Elena exercises the call, and Marcus is assigned. Which statement correctly describes the resulting transaction and premium payment?

• A. Elena paid $250 and buys 100 shares at $52; Marcus received $250 and must deliver 100 shares at $52.
• B. Elena paid $250 and buys 100 shares at $47.50; Marcus received $250 and must deliver 100 shares at $47.50.
• C. Elena paid $250 and buys 100 shares at $45; Marcus received $250 and must deliver 100 shares at $45.
• D. Marcus paid $250 and buys 100 shares at $45; Elena received $250 and must deliver 100 shares at $45.

Best answer: C

Explanation: The call buyer paid the premium for the right to buy at the strike price, while the assigned writer must deliver at that price.

A call buyer pays the premium and receives the right to buy the underlying stock at the strike price. The call writer receives the premium and assumes the obligation to deliver the stock at the strike price if assigned. Here, the total premium is $250 because the quoted premium of $2.50 applies to each of 100 shares. The $52 market price makes the call in the money but does not change the $45 exercise price. The buyer’s $47.50 breakeven, calculated as the $45 strike plus the $2.50 premium, measures expiration profit or loss; it is not the price paid to the writer for the shares upon exercise.

• Using $52 confuses the stock’s market value with the contract’s exercise price.
• Using $47.50 confuses the call buyer’s breakeven with the exercise price.
• Giving Marcus the purchase right reverses the buyer and writer roles, including the premium flow.

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Question 61

Topic: Products and Risks

A Class A mutual fund has a public offering price of $20.00 per share and a front-end sales charge equal to 5% of the public offering price. A customer makes a total purchase of $8,000. Assume no breakpoint discount, other fee, or market movement.

Rounded to the nearest cent, which amount is invested at NAV, and what is the resulting NAV per share?

• A. $7,578.95 credited at NAV, implying an initial NAV of about $18.95 per share.
• B. $7,619.05 credited at NAV, implying an initial NAV of about $19.05 per share.
• C. $8,000 credited at NAV, implying an initial NAV of $20.00 per share.
• D. $7,600 credited at NAV, implying an initial NAV of $19.00 per share.

Best answer: D

Explanation: The customer buys 400 shares, and the 5% sales charge reduces the $20.00 offering price to a $19.00 NAV per share.

A mutual fund’s front-end sales charge is stated as a percentage of the public offering price, not as a percentage of NAV. The charge per share is 5% of $20.00, or $1.00. Therefore, NAV is $20.00 minus $1.00, or $19.00 per share.

The $8,000 purchase buys 400 shares at the $20.00 offering price. Of the total payment, $7,600 is invested at NAV, while $400 pays the sales charge. With no market movement, the customer’s initial account value is therefore $7,600, even though the total purchase was $8,000.

• $7,619.05 treats the 5% charge as a markup on NAV rather than a percentage of the offering price.
• $7,578.95 incorrectly converts the stated percentage to a NAV-based rate and deducts that rate from the purchase.
• $8,000 treats the offering price as NAV and fails to separate the front-end sales charge.

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Question 62

Topic: Capital Markets

A market maker displays the following two-sided quotation for XYZ stock:

• Bid: $39.90 for 500 shares
• Offer: $40.10 for 800 shares

The dealer begins with 2,000 XYZ shares. It fills a customer’s market order to sell 500 shares and later fills another customer’s market order to buy 500 shares. The quotation remains unchanged, and transaction costs are ignored.

What is the dealer’s gross trading profit, and how does the first transaction affect its inventory?

• A. $200; the dealer provides liquidity while temporarily increasing its inventory by 500 shares.
• B. $100; the dealer provides liquidity while temporarily decreasing its inventory by 500 shares.
• C. $100; the dealer provides liquidity while temporarily increasing its inventory by 500 shares.
• D. $50; the dealer provides liquidity while temporarily increasing its inventory by 500 shares.

Best answer: C

Explanation: The dealer buys 500 shares at the $39.90 bid and sells them at the $40.10 offer, earning $100 while initially adding the shares to inventory.

A market maker buys from customers at its bid and sells to customers at its offer. The gross spread is $40.10 - $39.90 = $0.20 per share. Applied to 500 shares, the gross trading profit is $0.20 x 500 = $100.

When the first customer sells 500 shares, the dealer purchases those shares as principal. Its inventory therefore rises from 2,000 to 2,500 shares. Until the shares are resold, the dealer bears the risk that their market value may decline. The later customer purchase reduces inventory back to 2,000 shares. By standing ready to buy and sell at quoted prices, the market maker supplies liquidity while assuming short-term inventory risk.

• The $50 result incorrectly applies only half of the $0.20 bid-offer spread.
• The $200 result incorrectly applies the spread to the combined 1,000-share order volume rather than the 500 shares bought and resold.
• A customer’s sale increases the dealer’s inventory because the dealer is the buyer in that transaction.

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Question 63

Topic: Trading and Customer Accounts

A customer made the following purchases of XYZ common stock:

The customer later sells 150 shares at $25 per share and pays a $15 sales commission. The customer properly identifies 100 shares from the January 8 lot and 50 shares from the April 3 lot.

What is the customer’s realized tax result?

• A. A realized gain of $835
• B. A realized gain of $820
• C. A realized gain of $620
• D. A realized gain of $520

Best answer: B

Explanation: Net proceeds are $3,735, and the identified shares have a total cost basis of $2,915, producing an $820 gain.

Purchase commissions are included in the cost basis of the purchased shares. The January lot has a basis of $2,010. The basis of 50 shares from the April lot is $905, including half of that lot’s $10 commission. The total identified-lot basis is therefore $2,915.

The sale generates gross proceeds of $3,750. After subtracting the $15 sales commission, net proceeds are $3,735. The realized result is calculated separately from the basis determination:

$3,735 net proceeds - $2,915 identified-lot basis = $820 realized gain.

• The $835 gain uses gross proceeds and fails to subtract the sales commission.
• The $620 gain uses an average basis across all 300 shares rather than the identified lots.
• The $520 gain applies FIFO by using the January lot and part of the March lot.

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Question 64

Topic: Capital Markets

A corporation reports $3.6 million in assets and $2.4 million in liabilities. Its assets then decline by $500,000 while its liabilities remain unchanged. What is the resulting owners’ equity, and which investors bear the decline first?

• A. $1.7 million; shareholders bear the decline first because creditors have priority
• B. $700,000; shareholders bear the decline first because creditors have priority
• C. $700,000; creditors bear the decline first because shareholders have priority
• D. $1.7 million; creditors bear the decline first because shareholders have priority

Best answer: B

Explanation: Equity equals assets minus liabilities, and shareholders hold the residual claim after creditors.

After the decline, assets equal $3.1 million. Owners’ equity is the residual amount after subtracting liabilities:

\[ \text{Owners' equity} = USD 3.1\text{ million} - USD 2.4\text{ million} = USD 700,000 \]

Creditors have claims that take priority over shareholder claims. Therefore, a decline in asset value reduces owners’ equity while liabilities remain unchanged. Shareholders bear this risk because common stock represents a residual claim on corporate assets. If the corporation is liquidated, creditors generally must be paid before shareholders may receive any remaining assets.

• Giving shareholders priority reverses the established order of corporate claims.
• The $1.7 million figure adds the asset decline rather than subtracting liabilities from the reduced assets.
• Combining $1.7 million with creditor-first loss allocation misstates both the accounting calculation and claim priority.

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Question 65

Topic: Capital Markets

A corporation has 2 million common shares outstanding and no preferred stock.

The corporation liquidates all assets for $14.5 million and incurs $500,000 of liquidation costs. Assume all liabilities are settled at their carrying amounts and costs are paid before distributions to owners.

Which projected distribution per common share correctly illustrates shareholders’ residual claim?

• A. $1.25 per share; common shareholders receive gross asset proceeds remaining after creditor claims are paid.
• B. $1.00 per share; common shareholders receive the amount remaining after liquidation costs and creditor claims are paid.
• C. $7.00 per share; common shareholders receive net asset-sale proceeds allocated across outstanding shares before creditor settlement.
• D. $4.00 per share; common shareholders receive the balance-sheet owners’ equity allocated across outstanding shares.

Best answer: B

Explanation: Net proceeds of $14 million less $12 million of liabilities leave $2 million, or $1.00 for each of 2 million shares.

Owners’ equity equals assets minus liabilities, but balance-sheet equity does not guarantee a liquidation payment. Actual liquidation proceeds determine the amount available. The asset sale produces $14.5 million, and liquidation costs reduce that amount to $14 million. Creditors then receive their $12 million claims, leaving a $2 million residual for common shareholders. Dividing by 2 million shares produces a $1.00 distribution per share.

The result illustrates the greater risk borne by common shareholders. Creditors have priority over owners, so shareholders absorb declines in asset values before creditors suffer losses. Although book equity was $8 million, the realized residual is only $2 million because the assets sold below carrying value and costs reduced the available proceeds.

• The $1.25 calculation subtracts liabilities but incorrectly omits the $500,000 liquidation cost.
• The $4.00 calculation uses book equity rather than the residual based on actual liquidation proceeds.
• The $7.00 calculation allocates net sale proceeds to shareholders before satisfying creditor claims.

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Question 66

Topic: Regulatory Framework

An individual seeking association with a FINRA member passes the Securities Industry Essentials (SIE) exam. The individual’s Form U4 discloses a felony conviction entered six years ago. Assume the conviction is covered by the statutory disqualification provisions and no eligibility approval has been granted.

Which statement correctly describes the regulatory effect of passing the SIE?

• A. Passing the SIE satisfies an examination component, but the member must obtain required FINRA eligibility approval before association.
• B. Passing the SIE satisfies an examination component, but association is prohibited until ten years have elapsed because earlier eligibility approval is unavailable.
• C. Passing the SIE satisfies an examination component, and complete Form U4 disclosure permits association without separate eligibility approval.
• D. Passing the SIE satisfies an examination component, and the member may approve association under heightened supervision while eligibility review is pending.

Best answer: A

Explanation: Passing an examination does not remove a statutory disqualification or replace the required eligibility process.

A felony conviction within the preceding ten years can create a statutory disqualification. Passing the SIE demonstrates proficiency in the material tested, but it does not confer registration, authorize association with a FINRA member, or eliminate a statutory disqualification.

A member seeking to associate with a disqualified person generally must use FINRA’s eligibility proceedings and obtain approval before the association begins. FINRA may evaluate the circumstances and impose conditions, including heightened supervision. Accurate Form U4 disclosure is required, but disclosure by itself is not permission to associate. The ten-year lookback identifies a statutory disqualification period for certain convictions; it does not prevent the person and sponsoring member from seeking eligibility relief during that period.

• Form U4 disclosure provides regulatory information but does not independently authorize association by a disqualified person.
• A member’s heightened-supervision plan may support an eligibility request, but the firm cannot substitute its own approval for FINRA’s decision.
• The eligibility process can permit association during the applicable statutory period, so waiting for the full ten years is not the exclusive route.

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Question 67

Topic: Trading and Customer Accounts

A broker-dealer confirms unauthorized access to files containing customers’ nonpublic personal information. Its systems remain available, and orders and communications continue normally. Which action most directly addresses the purpose associated with this event?

• A. Apply business continuity procedures to transfer essential functions and provide alternative order-entry instructions.
• B. Apply privacy notice procedures to describe information-sharing practices and provide applicable customer opt-out rights.
• C. Apply incident response procedures to contain unauthorized access and provide any required customer notification.
• D. Apply identity theft procedures to review account activity and place risk-based restrictions on customer accounts.

Best answer: C

Explanation: Because customer information was compromised while operations continued, incident response procedures address containment and any required notification.

An information security incident response program addresses unauthorized access to or use of customer information. Its purposes include containing and controlling the incident, assessing the information affected, and providing customer notification when required. A business continuity plan instead focuses on maintaining or restoring mission-critical operations during a significant business disruption. Because the firm’s systems, order handling, and communications remain available, transferring essential functions is not the principal response. Routine privacy notices explain information-sharing practices and opt-out rights, while identity theft procedures focus on detecting and responding to red flags involving covered accounts. Those procedures may become relevant depending on later findings, but they do not replace the response to a confirmed information compromise.

• Transferring essential functions addresses an operational disruption, which the facts do not indicate.
• Routine privacy disclosures do not substitute for an incident-specific response or required notice.
• Identity theft controls may address suspicious account activity, but they do not replace containment of a confirmed information compromise.

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Question 68

Topic: Products and Risks

A Treasury Inflation-Protected Security (TIPS) has an original principal of $10,000 and a fixed coupon rate of 2%. On an adjustment date, its applicable inflation index ratio is 1.04. What principal amount will be used to calculate the next coupon payment?

• A. $10,400
• B. $10,200
• C. $10,000
• D. $10,408

Best answer: A

Explanation: The original principal is multiplied by the 1.04 inflation index ratio, producing adjusted principal of $10,400.

TIPS principal changes with the applicable inflation index ratio. The adjusted principal is:

\[ USD 10{,}000 \times 1.04 = USD 10{,}400 \]

The stated coupon rate remains fixed, but the dollar coupon payment changes because that rate is applied to inflation-adjusted principal. This differs from a conventional fixed-rate Treasury bond, whose principal ordinarily remains at its fixed nominal amount. The 2% coupon rate does not determine the principal adjustment and should not be added to the inflation adjustment.

• $10,200 applies the 2% coupon rate to principal rather than using the inflation index ratio.
• $10,000 treats the security like a conventional nominal Treasury with unadjusted principal.
• $10,408 incorrectly applies both the inflation adjustment and the coupon rate to the principal balance.

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Question 69

Topic: Products and Risks

At 11:00 a.m., a customer enters a market order to buy 200 shares of an ETF. The following information is available:

Ignoring commissions, which calculation correctly states the amount paid and compares the execution price with the end-of-day NAV? Round the percentage to the nearest hundredth.

• A. $10,020; the execution price was 0.40% above the end-of-day NAV.
• B. $9,980; the execution price was 0.20% below the end-of-day NAV.
• C. $10,000; the transaction occurred at the end-of-day NAV with no premium.
• D. $10,020; the execution price was 0.20% above the end-of-day NAV.

Best answer: D

Explanation: The customer paid 200 x $50.10 = $10,020, and the $0.10 premium equals 0.20% of the $50.00 NAV.

ETF shares trade intraday on an exchange at market prices, which can differ from the fund’s end-of-day net asset value. The amount paid is based on the reported execution price: 200 shares x $50.10 = $10,020. The execution price exceeded the later NAV by $0.10 per share. Dividing that difference by the $50.00 NAV gives 0.002, or 0.20%.

The $0.20 difference between the bid and ask is the bid-ask spread. It is distinct from the $0.10 difference between the execution price and the later NAV. Because the prices come from different times, this difference does not establish the premium paid at 11:00 a.m.; the fund’s underlying value may have moved during the day. Unlike a traditional open-end mutual fund transaction priced at NAV, an ETF transaction occurs at its exchange-determined market price.

• Using $50.00 per share incorrectly treats the ETF purchase as an end-of-day NAV transaction.
• Using $49.90 applies the bid, which generally represents the price available to a seller rather than this buyer’s reported execution.
• Calculating 0.40% uses the full bid-ask spread instead of the $0.10 difference between execution price and NAV.

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Question 70

Topic: Capital Markets

A broker-dealer is the managing underwriter for a registered public offering and will receive underwriting compensation. The firm recommends the new issue to a retail customer. Which statement most accurately describes the firm’s obligations?

• A. The firm must provide the required prospectus, disclose the material conflict arising from its underwriting role, and independently satisfy Regulation Best Interest.
• B. The firm must provide the required prospectus, disclose its underwriting role only if the customer asks, and independently satisfy Regulation Best Interest.
• C. The firm may substitute a conflict disclosure for the required prospectus when issuer information is public, while independently satisfying Regulation Best Interest.
• D. The firm must provide the required prospectus, disclose the material conflict arising from its underwriting role, and may treat those disclosures as satisfying Regulation Best Interest.

Best answer: A

Explanation: The prospectus and conflict disclosure inform the customer, but the recommendation must still independently comply with Regulation Best Interest.

A prospectus for a registered offering provides material information about the issuer, the securities, offering terms, risks, and underwriting arrangements. Because the broker-dealer is the managing underwriter and receives compensation, its interest in the distribution creates a material conflict associated with its retail recommendation. The firm must disclose material facts about that conflict as required. However, disclosure permits an informed decision; it does not establish that the recommendation is in the customer’s best interest. The broker-dealer must separately evaluate the investment’s risks, rewards, costs, and relevant alternatives and must not place its financial interest ahead of the retail customer’s interest.

• Conflict disclosure does not depend on the customer specifically requesting information about the underwriting role.
• Providing the prospectus and conflict disclosure does not by itself satisfy all Regulation Best Interest obligations.
• Public availability of issuer information does not replace applicable prospectus delivery or access requirements.

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Question 71

Topic: Regulatory Framework

A registered representative has several activities outside the securities firm, which has no stricter policy. Under FINRA Rule 3270, which activity requires prior written notice to the firm as an outside business activity?

• A. Receives rental income from property and delegates all management to an independent manager.
• B. Receives a monthly consulting fee and directs staffing schedules for a local retailer.
• C. Receives dividends from listed stocks and performs no services for the issuers.
• D. Receives limited-partnership distributions and takes no part in managing the partnership.

Best answer: B

Explanation: The compensated operational role constitutes an outside business activity requiring prior written notice.

FINRA Rule 3270 requires a registered person to provide prior written notice before participating in a business activity outside the scope of the person’s relationship with the member firm. Classification depends on actual participation, such as working as an employee or consultant, managing operations, serving in a business role, or receiving compensation for outside services.

Merely holding an investment and receiving its economic returns generally does not create an outside business activity when the person performs no services and exercises no operational control. Directing staffing schedules for compensation demonstrates active participation in the retailer’s operations, rather than passive ownership. After receiving notice, the firm evaluates whether the activity could interfere with the person’s responsibilities or be viewed by customers or the public as part of the firm’s business.

• Listed-stock dividends are returns on passive ownership when no services are provided to the issuers.
• Nonmanaging limited-partnership distributions do not establish an operational role under the stated facts.
• Rental income remains passive when an independent manager performs all property-management functions.

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Question 72

Topic: Capital Markets

An economist compares building permits, industrial production, and the average duration of unemployment. Which classification most accurately describes their timing relative to overall economic activity?

• A. Building permits: lagging; industrial production: coincident; average duration of unemployment: leading.
• B. Building permits: leading; industrial production: lagging; average duration of unemployment: coincident.
• C. Building permits: leading; industrial production: coincident; average duration of unemployment: lagging.
• D. Building permits: coincident; industrial production: leading; average duration of unemployment: lagging.

Best answer: C

Explanation: Building permits tend to anticipate activity, industrial production reflects current activity, and unemployment duration responds after conditions change.

Leading indicators tend to change before the overall economy changes, so they may signal a future expansion or contraction. Building permits are leading because planned construction often precedes actual economic activity. Coincident indicators move roughly with the current business cycle; industrial production measures present output and therefore reflects current conditions. Lagging indicators generally change after the economy has shifted. The average duration of unemployment often remains elevated after a recovery begins because labor-market improvement takes time. These timing relationships are useful signals, but no single indicator predicts the economy with certainty.

• Treating industrial production as leading confuses current output with an advance signal.
• Treating industrial production as lagging and unemployment duration as coincident reverses their usual timing.
• Treating building permits as lagging and unemployment duration as leading reverses advance planning and delayed labor-market response.

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Question 73

Topic: Capital Markets

A U.S. investor buys 100 shares of a British company and later sells the entire position.

• Purchase price: £40 per share
• Sale price: £38 per share
• Exchange rate at purchase: $1.25 per £1
• Exchange rate at sale: $1.35 per £1
• No dividends, taxes, or transaction costs apply.

Rounded to the nearest tenth of a percent, what is the investor’s total return in U.S. dollar terms, and how should it be interpreted?

• A. 12.0% loss; the exchange-rate movement compounds the stock’s local-market decline.
• B. 3.0% gain; pound appreciation more than offsets the stock’s local-market decline.
• C. 2.5% gain; pound appreciation more than offsets the stock’s local-market decline.
• D. 2.6% gain; pound appreciation more than offsets the stock’s local-market decline.

Best answer: D

Explanation: The position rises from $5,000 to $5,130, producing a 2.6% dollar return because pound appreciation offsets the local price decline.

The initial dollar cost is 100 x £40 x $1.25 per pound, or $5,000. At sale, the shares are worth 100 x £38 x $1.35 per pound, or $5,130. The dollar return is ($5,130 - $5,000) / $5,000 = 2.6%.

The stock lost 5% in pounds, but the pound appreciated 8% against the dollar. Foreign investment returns combine multiplicatively: 0.95 x 1.08 - 1 = 2.6%. Therefore, the favorable currency movement more than offsets the stock’s local-market loss.

• A 2.5% result uses the $5,130 ending value rather than the $5,000 initial investment as the return denominator.
• A 3.0% result directly nets the 5% decline and 8% appreciation instead of compounding the two movements.
• A 12.0% loss reverses the exchange-rate movement; the increase from $1.25 to $1.35 per pound represents pound appreciation.

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Question 74

Topic: Capital Markets

An analyst records the following simplified national-account totals for one year. All relevant cross-border production-income flows are included.

What are U.S. gross domestic product (GDP) and U.S. gross national product (GNP) based on these activities?

• A. U.S. GDP is $11 million, and U.S. GNP is $8 million.
• B. U.S. GDP is $13 million, and U.S. GNP is $10 million.
• C. U.S. GDP is $11 million, and U.S. GNP is $10 million.
• D. U.S. GDP is $10 million, and U.S. GNP is $11 million.

Best answer: C

Explanation: GDP is domestic production of $11 million. GNP adds $2 million of income receipts from abroad and subtracts $3 million paid abroad, yielding $10 million.

GDP measures final production within a country’s borders. The stated U.S. domestic production is $11 million.

GNP adjusts GDP for production income flowing between residents and the rest of the world: $11 million + $2 million - $3 million = $10 million. The distinction is domestic location versus the labor and property supplied by residents, not citizenship alone. Foreign ownership does not automatically attribute a foreign factory’s entire output to the owner’s home country.

• $10 million GDP and $11 million GNP reverse the two measures.
• $13 million GDP incorrectly adds overseas income to domestic production.
• $8 million GNP subtracts income paid abroad but omits income received from abroad.

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Question 75

Topic: Trading and Customer Accounts

A pooled investment account seeks an allocation of a covered equity IPO. A registered representative of an unaffiliated broker-dealer holds exactly 10% of the account’s profits and losses. The remaining owners are unrestricted persons, and no other restricted person has a beneficial interest.

How may the account participate under FINRA Rule 5130?

• A. The account may purchase under the de minimis exception because restricted interests do not exceed 10%.
• B. The account may not purchase because any indirect beneficial interest held by a registered representative disqualifies it.
• C. The account may not purchase because the de minimis exception requires restricted interests to remain below 10%.
• D. The account may purchase because employees of broker-dealers not participating in the offering are unrestricted.

Best answer: A

Explanation: The account qualifies because its aggregate restricted-person beneficial interest is exactly 10%, which does not exceed the exception’s limit.

FINRA Rule 5130 generally restricts broker-dealer personnel from acquiring covered new issues. When an account has multiple beneficial owners, the rule looks through the account to determine whether restricted persons will benefit from the allocation.

The de minimis exception permits an account to participate when restricted persons hold no more than 10% of its beneficial interests in aggregate. Exactly 10% satisfies this limit; the rule does not require ownership to be below 10%. The representative remains a restricted person even though the representative’s broker-dealer is not participating in the offering, but the account qualifies for the exception because no other restricted person has an interest.

• Indirect ownership is considered, but it does not automatically disqualify an account that meets the de minimis exception.
• The de minimis standard is no more than 10%, so an interest equal to 10% qualifies.
• A registered representative is generally restricted regardless of whether the employing broker-dealer participates in the offering.

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