By Steven M. Rice

Taxes are a part of life. Investors face additional taxes that aren’t imposed on your average consumer, including capital gains and dividends. The Series 7 exam tests your ability to understand the tax categories, what happens when you purchase a bond at a discount or premium.

Practice questions

  1. An investor buys 1,000 shares of a stock at $40. If the stock increases in value to $60, how would the result be categorized?

    A. as a profit

    B. ordinary income

    C. appreciation

    D. capital gain

    Answer: C. appreciation

    At this point, the investor just has appreciation of securities. You don’t know whether the investor is going to have a profit or loss until the securities are sold. Capital gains or losses take place when a security is sold, and ordinary income would be from interest or dividends received.

  2. An investor receives interest from a corporate bond that he has held for more than one year. If the investor is in the 28% tax bracket, what tax rate will he be required to pay on the interest received?

    A. 0%

    B. 15%

    C. 20%

    D. 28%

    Answer: D. 28%

    When dealing with bond interest, the holding period doesn’t come into play. Unlike qualified dividends and long-term capital gains, corporate bond interest is taxed at the investor’s tax bracket.

  3. An investor purchases 1,000 shares of common stock at $23. If the stock increases in value to $25, how would the result be categorized?

    A. appreciation

    B. capital gain

    C. passive income

    D. ordinary income

    Answer: A. appreciation

    In this case, the shares just appreciated in value. The investor wouldn’t have a capital gain or loss unless selling the securities at a price other than his cost basis. Passive income is income received from limited partnerships, and ordinary income is interest received from bonds or dividends received from stock.