Understanding Trading, Customer Accounts and Prohibited Activities practice questions

Answer: A) Contributions are made after tax, and qualified withdrawals, including earnings, are tax-free

Roth 401(k) deferrals are taxed when contributed, and qualified distributions (5-year rule plus age 59½, death or disability) come out tax-free, earnings included. This is the reverse of traditional pre-tax deferrals.

• ACorrect. Designated Roth contributions are included in gross income when made. A qualified distribution (after the 5-year period and at age 59½, death or disability) is not included in gross income, earnings included.
• BIncorrect. This describes traditional pre-tax 401(k) deferrals, not Roth deferrals.
• CIncorrect. This describes after-tax, non-Roth money, where only the basis comes out tax-free. Qualified Roth distributions exclude the earnings from income too.
• DIncorrect. There's no tax break on both ends. Pre-tax deferrals are taxed when withdrawn, whatever the participant's age.

Answer: B) The short seller, to the lender of the shares

• AIncorrect. It pays only once.
• BCorrect. They owe the dividend.
• CIncorrect. The short seller pays.
• DIncorrect. The lender is owed it.

Answer: A) A collection of rare postage stamps

Collectibles such as art, rugs, antiques, stamps, most coins and alcoholic beverages are treated as distributions when an IRA buys them. Certain U.S.-minted coins and qualifying bullion are exceptions.

• ACorrect. Stamps are collectibles under IRC 408(m). When an IRA buys a collectible, the owner is treated as receiving a distribution equal to its cost in the year of purchase.
• BIncorrect. Certain gold, silver and platinum coins minted under 31 U.S.C. 5112 are a specific exception to the collectibles rule, so an IRA may hold them.
• CIncorrect. REIT shares are securities, not tangible collectibles, and an IRA may hold them.
• DIncorrect. A municipal bond is a permitted IRA investment. Its tax exemption is wasted inside an IRA, but buying it is not treated as a distribution.

Answer: A) Locate the shares

• ACorrect. There must be reasonable grounds to borrow them.
• BIncorrect. A locate is required.
• CIncorrect. No such wait exists.
• DIncorrect. A locate is required.

Answer: C) Placement

• AIncorrect. That is the final stage.
• BIncorrect. That obscures the source.
• CCorrect. Placement is followed by layering and integration.
• DIncorrect. That is a trading term.

Answer: A) Entering large orders on one side of the market without intending to execute them, then canceling after trading on the other side

Spoofing means placing orders you do not intend to execute in order to create false supply or demand, then canceling them after trading on the other side. It is manipulative. Genuine orders, cancellations and firm quotes are legitimate.

• ACorrect. This is spoofing: orders that are not bona fide create a false impression of supply or demand, and the trader profits on the other side. FINRA Rule 5210 treats non-bona fide quotations and this kind of disruptive quoting pattern as manipulative.
• BIncorrect. Canceling a bona fide order that the investor genuinely meant to execute is a normal right. It is not manipulation.
• CIncorrect. Splitting a genuine order into smaller pieces to reduce market impact is a legitimate execution technique, because every piece is meant to be executed.
• DIncorrect. Firm, bona fide two-sided quotes are what market makers are supposed to provide. Rule 5210 prohibits only fictitious or non-bona fide quotations.

Answer: A) At or before completion of the transaction (settlement)

• ACorrect. It shows the trade details.
• BIncorrect. That's too late.
• CIncorrect. It's required.
• DIncorrect. Statements are quarterly; confirms aren't.

Answer: B) All owners

• AIncorrect. All owners must be named.
• BCorrect. Joint account checks go to all named owners.
• CIncorrect. Payment goes to owners.
• DIncorrect. All owners must be named.

Answer: A) Ponzi scheme

• ACorrect. It is fraud that collapses when new money stops.
• BIncorrect. That raises capital legally.
• CIncorrect. That changes share count.
• DIncorrect. That buys more shares.

Answer: B) Date of birth

CIP rules require a firm to get, verify and record a customer's name, date of birth, address and identification number before opening an account. Financial details such as income and objectives are suitability information, not CIP identifiers.

• AIncorrect. Income is collected for suitability and the customer profile. It is not one of the CIP minimum identifiers.
• BCorrect. The CIP minimum for an individual is name, date of birth, address and an identification number such as an SSN. The firm uses this information to verify the customer's identity.
• CIncorrect. Investment objectives are part of the suitability profile, not the CIP identifying information.
• DIncorrect. Firms may ask about employment for account records, but it is not one of the four CIP minimum identifiers.