IAR Investment Vehicles 2 — Questions and Answers
Question 1: Which characteristic distinguishes a closed-end fund from an open-end mutual fund?
- Closed-end funds issue a fixed number of shares traded on exchanges (Correct answer)
- Closed-end funds must redeem shares daily at NAV
- Closed-end funds are prohibited from using leverage
- Closed-end funds can only invest in bonds
Correct answer: Closed-end funds issue a fixed number of shares traded on exchanges
Closed-end funds issue a fixed number of shares at IPO and trade on exchanges at market prices that may differ from NAV.
Question 2: A real estate investment trust (REIT) must distribute at least what percentage of its taxable income to shareholders to maintain its tax status?
- 50%
- 75%
- 90% (Correct answer)
- 100%
Correct answer: 90%
REITs must distribute at least 90% of their taxable income annually to shareholders to qualify for pass-through tax treatment.
Question 3: An investor holds a zero-coupon bond purchased at $600 that matures in 5 years at $1,000. How is the annual accreted interest treated for federal tax purposes?
- Tax-deferred until maturity
- Taxed as capital gain each year
- Taxed as ordinary income each year even though no cash is received (Correct answer)
- Exempt from federal tax
Correct answer: Taxed as ordinary income each year even though no cash is received
Zero-coupon bond holders must recognize phantom income (OID) as ordinary income each year even though no cash coupon is paid.
Question 4: Which type of preferred stock allows unpaid dividends to accumulate and be paid before common stock dividends?
- Participating preferred
- Convertible preferred
- Cumulative preferred (Correct answer)
- Callable preferred
Correct answer: Cumulative preferred
Cumulative preferred stock requires that any missed dividends accumulate and must be paid in full before common shareholders receive any dividends.
Question 5: A structured note whose return is linked to the S&P 500 index with principal protection at maturity is best described as a:
- Exchange-traded note
- Principal-protected note (Correct answer)
- Collateralized debt obligation
- Convertible debenture
Correct answer: Principal-protected note
A principal-protected note guarantees return of the invested principal at maturity while linking upside potential to an underlying index.
Question 6: Which of the following is a key difference between ETFs and traditional mutual funds regarding intraday trading?
- ETFs can only be purchased at end-of-day NAV
- Mutual funds trade continuously on stock exchanges throughout the day
- ETFs trade on exchanges throughout the day at market prices (Correct answer)
- Both trade only at the close of market
Correct answer: ETFs trade on exchanges throughout the day at market prices
ETFs trade on stock exchanges throughout the trading day at market-determined prices, unlike mutual funds which price only once per day at NAV.
Question 7: A master limited partnership (MLP) is primarily used by companies in which sector because of favorable tax treatment on asset depreciation?
- Technology
- Healthcare
- Energy infrastructure (pipelines) (Correct answer)
- Financial services
Correct answer: Energy infrastructure (pipelines)
MLPs are predominantly used in energy infrastructure because the sector's large depreciable assets generate deductions that shelter distribution income.
IAR Investment Vehicles 2
Which characteristic distinguishes a closed-end fund from an open-end mutual fund?