Free Series 7 practice test: 15 questions with every answer explained

Answer: D

Form 144 has two triggers. A notice is due if sales in any three-month period exceed 5,000 shares or $50,000. Either one is enough.

Her 4,000 shares at about $16 come to roughly $64,000. That clears the dollar test, so she must file. The notice goes in at the same time she places the sell order with her broker. The volume limit is a separate test of how much she may sell.

Source: SEC Rule 144(h), 17 CFR 230.144(h) (notice of proposed sale on Form 144: more than 5,000 shares or $50,000 in any three months, filed when the sell order is placed); FINRA Series 7 content outline, Function 1.2

Answer: A

Since 2020 there's no age limit on regular contributions to a traditional or Roth IRA. She only needs taxable compensation, and her $18,000 of wages qualifies. Her contribution can't exceed the annual limit or her pay, whichever is less.

Contributing doesn't change her required minimum distributions. At 75 she's past the age when RMDs start, so she must still withdraw this year's amount. Putting money in doesn't count as taking money out. The old cutoff at 70 1/2 ended with the SECURE Act.

Source: IRS, Retirement topics: IRA contribution limits (no age limit on regular contributions for 2020 and later; limited to taxable compensation); SECURE Act of 2019, sec. 107; IRS, Retirement plan and IRA required minimum distributions FAQs; FINRA Series 7 content outline, Function 2.1

Answer: C

Start with the formula for an uncovered equity option: the option's value plus 20% of the stock's value. Here that's $300 plus $1,040. The total is $1,340.

The put is $2 out of the money, so subtract $200. That leaves $1,140. Then check the floor: the option's value plus 10% of the strike. That's $300 plus $500, or $800. The higher figure applies, so the requirement is $1,140. The $300 premium she received counts toward it, so she deposits $840 of her own money.

Source: FINRA Rule 4210(f)(2)(E)(i) (short listed options: option value plus 20% of the underlying, less any out-of-the-money amount, but at least option value plus 10% of a put's exercise price); FINRA Series 7 content outline, Function 3.2 (uncovered writing)

Answer: A

A listed option on a broad-based index is a Section 1256 contract. Two special rules apply. At year-end it's treated as sold at its market value, so her $2,000 gain counts this year. That gain is then split 60% long-term and 40% short-term, however long she has held it.

So she reports $1,200 of long-term gain and $800 of short-term gain. Options on single stocks work differently. Their gain or loss waits until they're closed out or expire.

Source: 26 U.S.C. 1256(a), (b) and (g) (section 1256 contracts, including nonequity options: year-end mark to market and the 60/40 split); FINRA Series 7 content outline, Function 3.2 (tax treatment of index options)

Answer: C

The calls cost $6,000 in total: $6 a share times 100 shares times 10 contracts. An option with nine months or less to expiration must be paid for in full. Long-dated options like these are the exception.

For a listed option with more than nine months left, FINRA requires margin of 75% of its market value. So she deposits at least $4,500. The firm can lend her the other $1,500.

Source: FINRA Rule 4210(f)(2) (long listed options with more than nine months to expiration: 75% of current market value; nine months or less: 100% of the purchase price); FINRA Series 7 content outline, Function 3.2 (LEAPS)

Answer: C

Writing a put against a short sale caps the gain. If XYZ falls below $70, the put is assigned. The investor buys 100 shares at $70 and uses them to close the short sale with no gain or loss. Only the $400 premium remains, and that's the most the position can make.

If XYZ rises, the short sale loses money and the put expires worthless. The $4 premium covers the first $4 of the rise, so the breakeven is $74. Above that the loss has no limit.

Source: FINRA Series 7 content outline, Function 3.2 (covered call and put writing for equity options; profit and loss calculations, break-even points)

Answer: B

Interest on money borrowed to buy or carry tax-exempt bonds isn't deductible. Federal tax law blocks it, because the bonds' interest is already tax-free. Otherwise investors could deduct the cost of earning income that's never taxed.

So none of her $4,000 of margin interest is deductible. Here the trade loses money even before tax. That's worth pointing out before a customer uses margin to buy municipal bonds.

Source: 26 U.S.C. 265(a)(2) (no deduction for interest on debt incurred or continued to purchase or carry tax-exempt obligations); FINRA Series 7 content outline, Function 3.2 (municipal securities taxation)

Answer: A

Market discount on a muni bought in the secondary market is taxed as ordinary income. A small discount is the exception: it's treated as zero. The cutoff is a quarter point for each full year left to maturity.

Bond X has 15 years left, so its cutoff is 3.75 points. Its 3-point discount is under that, so the $30 is a long-term capital gain. Bond Y has 8 years left, so its cutoff is just 2 points. Its 3-point discount is over that, so the whole $30 is ordinary income. The same price can be taxed two ways, because the cutoff grows with the years to maturity.

Source: 26 U.S.C. 1278(a)(2)(C) (market discount under 1/4 of 1 percent of the stated redemption price times the complete years to maturity is treated as zero); 26 U.S.C. 1276(a)(1) (gain on a market discount bond is ordinary income up to the accrued market discount); FINRA Series 7 content outline, Function 3.2 (municipal securities taxation)

Answer: B

In a tax-free spinoff she pays no tax when the new shares arrive. Instead, her old basis is split between the two stocks by their market values.

Her Parent shares are worth $8,000 and her SpinCo shares $2,000. So SpinCo holds 20% of the total value and gets 20% of the $9,000 basis. That's $1,800, or $18 a share. Her Parent basis drops to $7,200, or $36 a share.

Source: 26 U.S.C. 358(b) and (c) and Treas. Reg. 1.358-2(a)(2)(iv) (basis in a section 355 distribution is allocated in proportion to fair market values); FINRA Series 7 content outline, Function 3.2 (spinoffs)

Answer: D

An ETF redeems shares only in large blocks called creation units. Only authorized participants can do this. They're clearing firms with a written agreement with the fund, and they swap creation units for baskets of securities.

Everyone else buys and sells ETF shares on an exchange at market prices. So she places a sell order through her broker. Her price may be a little above or below the fund's NAV.

Source: SEC Rule 6c-11, 17 CFR 270.6c-11(a)(1) (definitions of exchange-traded fund, creation unit and authorized participant: creation units are issued and redeemed with authorized participants, and shares trade at market-determined prices); FINRA Series 7 content outline, Function 3.2 (exchange-traded funds)

Answer: D

Inventory turnover shows how many times a company sells through its stock of goods in a year. Divide cost of goods sold by average inventory.

Average inventory is $5 million plus $7 million, divided by 2: $6 million. Then $36 million divided by $6 million is 6.0 times. A higher figure generally means goods move quickly. A falling figure can be a sign that unsold stock is piling up.

Source: FINRA Series 7 content outline, Function 3.1 (principal tools to measure financial health: efficient use of assets, inventory turnover ratio)

Answer: B

FINRA requires markup disclosure on many retail bond trades. It applies when a firm sells a corporate or agency bond to a non-institutional customer as principal. The trigger is that the firm bought at least as much of the bond as principal on the same trading day.

Here the firm bought $40,000 and sold $25,000 that afternoon. So the confirmation must show the markup in dollars and as a percentage of the prevailing market price, not the firm's cost. It must also show the execution time to the second and a link to TRACE data for the bond.

Source: FINRA Rule 2232(c) and (e) (markup disclosure on non-institutional confirmations for corporate and agency debt bought the same trading day; execution time and TRACE link); FINRA Series 7 content outline, Function 3.4 (customer confirmations)

Answer: A

Rule 2273 applies for three months after a representative joins a new firm. If she or the firm contacts a former customer about moving assets, the customer gets an educational communication that FINRA prepares.

On a phone call, she tells him the communication will follow. Firm B then sends it within three business days of the call. If transfer papers go out first, it goes with them. If he had said he wasn't interested, nothing would be due.

Source: FINRA Rule 2273(a) and (b), Supplementary Material .01 and .02 (educational communication to former customers for three months after hiring; within three business days of oral contact); FINRA Series 7 content outline, Function 3.4

Answer: C

On the ex-date the stock's price usually falls by about the amount of the dividend. Rule 5330 adjusts the open orders that sit below the market, so that drop alone doesn't set them off. Buy limits, sell stops and sell stop limits are reduced by the dividend.

Orders above the market aren't adjusted. That covers sell limits and buy stops. So the sell stop becomes $49.60, and the sell limit stays at $62.00. A customer can mark an order "do not reduce" to keep its price.

Source: FINRA Rule 5330(a)(1) and (e) (open buy limit, sell stop and sell stop limit orders reduced by a cash dividend on the ex-date; sell limit and buy stop orders exempt); FINRA Series 7 content outline, Function 4.2

Answer: B

Treasuries are exempt securities, so Regulation T doesn't set a fixed margin rate for them. The firm applies good-faith margin instead. FINRA then sets a maintenance minimum that rises with the time to maturity.

Notes with three years but less than five years left need 3% of market value. On $200,000 that's $6,000. The 25% minimum applies to stocks, not to government bonds. A firm may still ask for more.

Source: FINRA Rule 4210(e)(2)(A) (U.S. government obligations: 3% of market value with three to less than five years to maturity); Regulation T, 12 CFR 220.12(b) (good-faith margin for exempted securities); FINRA Series 7 content outline, Function 4.4