Stock Broker Customer Accounts & Suitability 2 — Questions and Answers
Question 1: What is the main difference between a Roth IRA and a Traditional IRA?
- Roth IRAs have higher contribution limits
- Roth IRA contributions are made with after-tax dollars and qualified withdrawals are tax-free; Traditional IRA contributions may be pre-tax but withdrawals are taxed (Correct answer)
- Roth IRAs require employer sponsorship
- Roth IRAs invest only in government bonds
Correct answer: Roth IRA contributions are made with after-tax dollars and qualified withdrawals are tax-free; Traditional IRA contributions may be pre-tax but withdrawals are taxed
Roth IRA contributions are made with after-tax money so qualified withdrawals in retirement are completely tax-free; Traditional IRA contributions may be tax-deductible but withdrawals are taxed as ordinary income.
Question 2: What is a 401(k) plan and who is eligible to contribute?
- A government pension for federal workers only
- An employer-sponsored defined contribution retirement plan for eligible employees to contribute pre-tax dollars (Correct answer)
- A self-employed retirement account with no contribution limits
- A savings account with guaranteed government returns
Correct answer: An employer-sponsored defined contribution retirement plan for eligible employees to contribute pre-tax dollars
A 401(k) is an employer-sponsored defined contribution retirement plan allowing eligible employees to contribute pre-tax dollars from their salary, with many employers matching a portion of contributions.
Question 3: What does 'suitability' mean when a broker recommends an investment product?
- The investment must be approved by the SEC
- The recommendation must align with the customer's investment profile, including risk tolerance, time horizon, and financial situation (Correct answer)
- The investment must be the cheapest available option
- The broker must personally own the same investment
Correct answer: The recommendation must align with the customer's investment profile, including risk tolerance, time horizon, and financial situation
Suitability requires that a broker's recommendation be appropriate for the specific customer based on their financial situation, investment objectives, risk tolerance, experience, time horizon, and other relevant factors.
Question 4: Which document must a customer sign before trading options in their brokerage account?
- A margin agreement
- An options agreement and receive the Options Disclosure Document (ODD) (Correct answer)
- A power of attorney
- A trust agreement
Correct answer: An options agreement and receive the Options Disclosure Document (ODD)
Before approving options trading, broker-dealers must have the customer sign an options agreement, and they must provide the Options Disclosure Document (ODD) titled 'Characteristics and Risks of Standardized Options.'
Question 5: What is a 'fee-based account' versus a 'commission-based account'?
- Fee-based charges per trade; commission-based charges an annual flat fee
- Fee-based charges a flat annual percentage of assets under management; commission-based charges per transaction (Correct answer)
- Fee-based is for institutional clients only; commission-based is for retail
- Fee-based accounts pay interest on cash balances; commission-based accounts do not
Correct answer: Fee-based charges a flat annual percentage of assets under management; commission-based charges per transaction
Fee-based accounts charge an annual fee as a percentage of assets under management (AUM) regardless of trading activity, while commission-based accounts charge a fee for each transaction executed.
Question 6: Under what circumstances can a broker-dealer share in the profits and losses of a customer's account?
- Never under any circumstances
- Only with written authorization from the customer and FINRA permission, and only if the broker contributes proportionate capital (Correct answer)
- At any time if the customer verbally agrees
- Only for accounts with more than $1 million in assets
Correct answer: Only with written authorization from the customer and FINRA permission, and only if the broker contributes proportionate capital
A registered representative may only share in the profits and losses of a customer's account with written customer authorization and the firm's approval, and must contribute capital in proportion to the share of profits/losses they receive.
Stock Broker Customer Accounts & Suitability 2
What is the main difference between a Roth IRA and a Traditional IRA?