FINRA Series 7 — All Questions

A client asks what a AAA rating on a corporate bond tells her. Which answer is accurate?

• a.It measures how little the bond's market price will move
• b.It estimates the chance the issuer will call the bond before maturity
• c.It is a recommendation that the bond is good value at today's price
• d.The agency's opinion of whether the issuer can pay on schedule✓

A credit rating is an opinion about the issuer's ability and willingness to meet interest and principal obligations when due. Price stability depends on duration and interest rates, so even a AAA long-term bond can fall sharply when rates rise. A rating says nothing about whether the price is attractive. Call risk depends on the call provisions and interest-rate levels, not on the rating.Credit ratings: what an agency rating measures

A customer buys 10 corporate bonds of $1,000 par each, with a 6% coupon paid January 1 and July 1, on Tuesday, September 16, 2025, for regular-way settlement. What accrued interest does the buyer pay?

• a.$128.22, for 78 actual days on a 365-day year
• b.$128.33, for 77 days counted through settlement
• c.$126.67, for 76 days from July 1 to settlement✓
• d.$125.00, for 75 days counted to the trade date

Corporate bonds settle the next business day, so this trade settles Wednesday, September 17. Accrued interest runs from the last coupon date up to, but not including, the settlement date, on a 30-day month and 360-day year: 2 months x 30 + 16 days = 76 days. Annual interest on 10 bonds is $600, and $600 x 76 / 360 = $126.67. Counting to the trade date gives 75 days and $125.00. Counting through the settlement date gives 77 days and $128.33. Actual days over 365 is the convention for Treasury notes and bonds, not corporates, and gives $128.22.FINRA Rule 11620 (accrued interest, 30/360 day count)

Which of these purchases would not show a separate accrued-interest charge on the customer's confirmation?

• a.A convertible debenture bought three months after its last coupon
• b.A first mortgage bond bought two months before its next coupon
• c.A corporate zero-coupon bond bought in the secondary market✓
• d.A floating-rate note bought midway between interest reset dates

A zero-coupon bond pays no periodic interest. Its return is the difference between the discounted price and par, which is already built into the price, so no accrued interest is added to the confirmation. A convertible debenture, a first mortgage bond and a floating-rate note all pay periodic coupons, so a buyer between payment dates compensates the seller for the interest earned since the last payment.Accrued interest: bonds that do not accrue

On Monday, December 8, 2025, a customer sells 10 of the 8% corporate bonds of $1,000 par each, with interest paid April 1 and October 1, at 101 for regular-way settlement. What are the seller's total proceeds before commissions?

• a.$10,100.00, the price with no accrued interest
• b.$10,500.00, the price plus a full semiannual coupon
• c.$10,251.11, the price plus 68 days of interest✓
• d.$9,948.89, the price less 68 days of interest

The trade settles Tuesday, December 9. Accrued interest runs from October 1 to December 9 on a 30/360 basis: 2 x 30 + 8 = 68 days. Annual interest on 10 bonds is $800, so $800 x 68 / 360 = $151.11. Ten bonds at 101 is $10,100, and the buyer pays the seller the accrued interest on top, for $10,251.11. Subtracting it treats the seller as the one paying. Leaving it out ignores interest the seller earned. A full coupon of $400 would only be added if the seller had held the bond through the coupon date.FINRA Rule 11620 (accrued interest, 30/360 day count)

An investor buys a corporate zero-coupon bond at original issue for $600 and reports $30 of original issue discount in the first year. In the second year, the investor sells the bond for $650. What is the tax result of the sale?

• a.A $50 capital gain, because basis stays at the $600 purchase price
• b.A $20 ordinary gain, because discount bonds are taxed as ordinary income
• c.No taxable gain, because the whole $50 gain was OID already taxed
• d.A $20 capital gain, because the reported OID raised the basis to $630✓

Each year's OID is taxed as interest and added to the bond's basis, so after year one the basis is $600 + $30 = $630. Selling at $650 produces a $20 gain over that adjusted basis, which is a capital gain. Keeping the basis at $600 would tax the $30 of OID a second time. Only $30 of the $50 rise was accreted OID, and the remaining $20 comes from the price move. Ordinary treatment applies to the OID accrual itself, while the gain above adjusted basis is capital.IRC 1272 (OID accrual) and basis adjustment

An investor buys a taxable corporate bond with 10 years to maturity at 90 in the secondary market and holds it until it is redeemed at par. How is the $100 of discount taxed?

• a.As ordinary income taxed every year, with no election required
• b.Not at all, because par redemption returns the principal
• c.As ordinary income at redemption, as accrued market discount✓
• d.As a long-term capital gain, since the bond was held to maturity

Discount on a bond bought below par in the secondary market is market discount, and when the bond is redeemed or sold the gain is ordinary income up to the accrued discount. The de minimis exception would apply only if the discount were under 0.25% of par for each full year to maturity, which is $25 here, so $100 is too large to be capital gain. Annual inclusion happens only if the investor elects it. Principal is returned at par, but the investor paid only $900, so $100 is a gain.IRC 1276 and 1278 (market discount on bonds)

A taxable corporate bond was bought at 104 and has 5 years remaining. The investor elects to amortize the premium under IRC 171 and amortizes $8 in the first year. What are the effects?

• a.Taxable interest falls by $8 but the basis stays at $1,040
• b.Taxable interest falls by $8 and basis falls by $8✓
• c.The $8 is a capital loss deduction and basis falls by $8
• d.Taxable interest is unchanged and the basis rises by $8

For taxable bonds, an investor who elects to amortize the premium offsets each year's amortization against the bond's interest income, and basis is reduced by the same amount so that it reaches par at maturity. Leaving basis at $1,040 would produce a capital loss at maturity on money already deducted. The amortization is an offset to interest, not a capital loss. Raising the basis would move it away from par instead of toward it.IRC 171 (amortizable bond premium) and 1016(a)(5)

An investor bought a corporate bond at 95 ($950) and sells it 15 months later for 99 ($990) plus $20 of accrued interest. How is the sale taxed?

• a.A $40 short-term capital gain and $20 of ordinary interest income
• b.A $60 long-term capital gain, because the buyer paid one price
• c.A $40 long-term capital gain and $20 of ordinary interest income✓
• d.A $60 ordinary gain, because the proceeds include interest

Part of the amount received at a sale between coupon dates is interest earned by the seller, and it is reported as interest income. The remaining $40 is the gain over the $950 cost, and a holding period of 15 months makes it long-term. Treating all $60 as capital gain converts interest into a lower-taxed gain. Treating all $60 as ordinary income taxes the true price gain at the wrong rate. A short-term label would require a holding period of one year or less.Pub. 550: bonds sold between interest dates

A single investor sells corporate bond A at a $7,000 loss and bond B at a $2,000 gain, with no other capital transactions this year. What happens to the net loss?

• a.Nothing is deducted now; $5,000 offsets future gains only
• b.$3,000 offsets ordinary income and $2,000 carries forward✓
• c.$5,000 offsets ordinary income in the year of the sales
• d.$2,000 offsets ordinary income and $3,000 carries forward

The $2,000 gain absorbs part of the loss, leaving a $5,000 net capital loss. Up to $3,000 of net capital loss can be deducted against ordinary income in a year for a single filer, and the $2,000 balance carries forward indefinitely. The full $5,000 cannot be deducted in one year. Reversing the split gives up part of the allowable deduction. Carried-forward losses can offset ordinary income too, so a net loss is not limited to future gains.IRC 1211(b) (limit on capital loss deduction)

A representative is comparing Yankee bonds and Eurodollar bonds for a client. Which statement distinguishes them correctly?

• a.A Yankee bond is issued in the foreign issuer's home currency in the U.S.; a Eurodollar bond is issued in euros outside the U.S.
• b.Both are sold only to foreign investors, but Yankee bonds pay in dollars and Eurodollar bonds pay in the foreign currency
• c.A Yankee bond is sold outside the U.S. in dollars; a Eurodollar bond is a foreign issuer's dollar bond registered with the SEC
• d.A Yankee bond is a foreign issuer's dollar bond registered and sold in the U.S.; a Eurodollar bond is sold outside the U.S.✓

Yankee bonds are issued by foreign borrowers in the U.S. market, denominated in dollars and registered with the SEC. Eurodollar bonds are also denominated in dollars but are issued and traded outside the U.S., generally without SEC registration. The first reversed description swaps the two markets. A Yankee bond is not issued in a foreign currency, and a Eurodollar bond is not a euro bond, since the name refers to dollars held outside the U.S. Yankee bonds are aimed at U.S. investors, and Eurodollar bonds pay in dollars.Foreign-issuer and Eurodollar bonds

A customer buys $300,000 of brokered CDs issued by one FDIC-insured bank. They are held in one individual name, with no other deposits at that bank, and $4,000 of interest has accrued. How much is covered by FDIC insurance?

• a.$254,000, which is $250,000 of principal plus the accrued interest
• b.$500,000, because the FDIC and SIPC limits stack on a brokered CD
• c.$250,000, with principal and accrued interest counted together✓
• d.$300,000, because each CD bought through a broker is insured on its own

FDIC coverage is $250,000 per depositor, per insured bank, per ownership category, and the limit includes accrued interest as well as principal. At least $50,000 of this position is uninsured. Interest is not covered on top of the limit. Buying through a broker does not create separate coverage for each CD at the same bank. SIPC protects against a brokerage failure, not a bank loss, and does not add to the FDIC limit.12 CFR Part 330 (FDIC standard maximum deposit insurance amount)

A town of 50,000 people has net direct debt of $40 million and its share of overlapping debt is $10 million. What is its overall net debt per capita?

• a.$1,200, from overlapping debt counted twice
• b.$200, from overlapping debt without the direct debt
• c.$1,000, from direct plus overlapping debt✓
• d.$800, from direct debt without the overlapping debt

Overall net debt combines the issuer's own net direct debt with its share of the overlapping debt of other governments that tax the same residents: $40 million + $10 million = $50 million. Divided by 50,000 residents, that is $1,000 per person. Direct debt alone gives $800, while overlapping debt alone gives $200. Counting the overlapping share twice gives $60 million and $1,200, which overstates the burden.Municipal GO analysis: overall net debt per capita

A county has assessed valuation of $600 million, which is 60% of a market value of $1 billion. It has gross direct debt of $36 million, of which $6 million is self-supporting revenue debt. What is its ratio of net direct debt to assessed valuation?

• a.5.0%, from net direct debt over assessed valuation✓
• b.3.0%, from net direct debt over market value
• c.6.0%, from gross direct debt over assessed valuation
• d.3.6%, from gross direct debt over market value

Net direct debt excludes self-supporting debt, so it is $36 million - $6 million = $30 million. Analysts measure it against assessed valuation, the tax base on which the levy is applied: $30 million / $600 million = 5.0%. Using gross debt gives 6.0%. Using market value for the base gives 3.0% for net debt and 3.6% for gross debt, but market value is not the base on which taxes are levied.Municipal GO analysis: net debt to assessed valuation

A county's general obligation bonds are secured by property taxes, but state law caps the rate that may be levied for debt service. How are these bonds best described?

• a.Revenue bonds, since a capped levy makes the pledge a dedicated source
• b.Double-barreled bonds, since the capped levy backs a second source of payment
• c.Unlimited-tax GO bonds, since the county pledges its full faith and credit
• d.Limited-tax GO bonds, whose holders face a cap on the revenue available✓

When the tax rate available for debt service is capped, the bonds are limited-tax GO bonds. If costs or a shrinking tax base push the needed rate above the cap, the county cannot raise the levy to make up the difference, which is the added risk. Unlimited-tax GO bonds carry no cap on the rate. A capped property tax is still a general tax pledge, not a dedicated revenue stream from a facility. Double-barreled bonds pair a revenue source with a tax pledge, which is not described here.Municipal GO bonds: limited-tax versus unlimited-tax pledge

A city plans to finance a new library with bonds and a water plant with bonds repaid from user fees. Which statement about approvals is typically accurate?

• a.Voters usually must approve both issues, since each adds to the city's debt
• b.Voters usually must approve the water plant's revenue bonds, but not the library GO bonds
• c.Neither issue needs voter approval, since a city council can pledge taxes on its own
• d.Voters usually must approve the library GO bonds, not the water plant revenue bonds✓

General obligation bonds commit the taxing power of the community, so most states and local charters require voter approval, often by referendum, and subject them to constitutional or statutory debt limits. Revenue bonds are repaid only from the facility's income, do not pledge taxes and usually do not need a vote. Reversing the two ignores how the taxpayers are affected. A requirement of voter approval for both overlooks that no tax is pledged for revenue bonds. Councils generally cannot pledge taxes for GO debt on their own.Municipal bond approvals: voter approval and revenue bonds

A school district has assessed valuation of $500 million and levies 20 mills for debt service. Historically it collects 96% of the taxes levied. How much does it expect to collect?

• a.$10.4 million, the levy grossed up for delinquent taxes
• b.$9.6 million, the levy less the 4% not collected✓
• c.$0.96 million, from a mill rate off by a factor of ten
• d.$10.0 million, the levy with no delinquency allowance

One mill is $1 of tax per $1,000 of assessed value, so 20 mills is 2% of assessed value: $500 million x 0.02 = $10 million. At a 96% collection rate, the district expects $10 million x 0.96 = $9.6 million. The full $10 million is the levy before delinquencies. Grossing up for delinquent taxes adds money that is not collected. Treating 20 mills as 0.2% gives $1 million, then $0.96 million after collection.Municipal GO analysis: property tax levy and collection rate

A water authority's indenture pledges net revenues. In what order are the funds applied from the revenue fund?

• a.Operation and maintenance, debt service reserve, debt service, renewal and replacement, then surplus
• b.Operation and maintenance, debt service, renewal and replacement, debt service reserve, then surplus
• c.Operation and maintenance, debt service, debt service reserve, renewal and replacement, then surplus✓
• d.Debt service, operation and maintenance, debt service reserve, renewal and replacement, then surplus

Under a net revenue pledge, the facility must first be kept running, so operation and maintenance is paid first. Debt service follows, then the debt service reserve is topped up, then renewal and replacement, with anything left going to surplus. Paying debt service first describes a gross revenue pledge. Funding renewal and replacement before the debt service reserve, or funding the reserve before debt service itself, changes the priority of the claims on revenue.Revenue bond flow of funds under a net revenue pledge

A toll bridge reports gross revenues of $24 million, operation and maintenance expenses of $14 million and annual debt service of $8 million. What is its debt service coverage ratio on net revenues?

• a.0.80 times, from debt service over net revenues
• b.1.25 times, from net revenues over debt service✓
• c.3.00 times, from gross revenues over debt service
• d.1.75 times, from operating expenses over debt service

Net revenues are gross revenues less operation and maintenance: $24 million - $14 million = $10 million. Coverage is $10 million / $8 million = 1.25 times. Using gross revenues ignores the operating costs that are paid before debt service on a net pledge. Dividing the other way around gives 0.80, which is a ratio of claims to resources instead of the reverse. Operating expenses over debt service has no meaning as a coverage measure.Revenue bonds: debt service coverage ratio

A revenue bond rate covenant requires net revenues of at least 1.25 times annual debt service of $10 million. Gross revenues are $30 million and operating expenses are $18 million. Has the covenant been met?

• a.Yes; net revenues of $12 million exceed debt service of $10 million
• b.No; coverage is 1.20 times against 1.25 required, so rates must rise✓
• c.No; coverage is 0.83 times because debt service exceeds net revenues
• d.Yes; coverage is 3.0 times, using gross revenues over debt service

Net revenues are $30 million - $18 million = $12 million, and $12 million / $10 million = 1.20 times, short of the 1.25 times required ($12.5 million). The covenant obliges the authority to raise rates or cut costs. Exceeding debt service by $2 million would satisfy only a 1.0 times test. Gross revenues are not the measure under a net pledge. A 0.83 ratio inverts the calculation, and debt service of $10 million is covered by net revenues of $12 million.Revenue bonds: rate covenant test

An airport authority's open-end indenture allows additional parity bonds only if historical net revenues are at least 1.5 times the maximum annual debt service on all bonds, old and new. Existing maximum annual debt service is $16 million and the new bonds would add $6 million. What historical net revenue must the authority show?

• a.$24 million, which is 1.5 times the existing $16 million
• b.$30 million, which is $24 million of coverage plus the new $6 million
• c.$22 million, which is the combined debt service at 1.0 times
• d.$33 million, which is 1.5 times the combined $22 million✓

The test applies to all bonds that would be outstanding, so maximum annual debt service becomes $16 million + $6 million = $22 million, and 1.5 times that is $33 million. Using only existing debt service gives $24 million and ignores the new bonds. Using the combined amount at 1.0 times ignores the coverage margin. Adding the new debt service without applying the 1.5 times coverage gives $30 million, which leaves the new bonds uncovered.Revenue bonds: additional bonds test (open-end indenture)

A hospital authority's revenue bonds require a debt service reserve fund. One year, patient revenues fall short of a scheduled debt service payment. What is the reserve fund's role?

• a.It funds equipment replacement to keep the hospital competitive
• b.It pays operating costs first so that revenues can go to bondholders
• c.It redeems bonds early when revenues exceed what the covenant needs
• d.It covers the missing payment and is restored from later revenues✓

A debt service reserve fund is a cushion held for bondholders, typically sized to a year of debt service. If revenues are insufficient, the trustee draws on it to make the payment on time, and the issuer must restore it from later revenues. Operating costs are covered through the operation and maintenance account. Equipment replacement is the job of the renewal and replacement fund. Early redemption comes from surplus or a sinking fund rather than the reserve.Revenue bonds: debt service reserve fund

Two revenue bonds on similar facilities carry the same rating. One has a gross revenue pledge and the other a net revenue pledge. Which statement is accurate?

• a.With a net pledge, debt service comes ahead of operating costs, so holders are stronger
• b.With a gross pledge, debt service comes ahead of operating costs, so holders are stronger✓
• c.The two differ only in the size of the reserve fund, not the order of payments
• d.With a gross pledge, operating costs are paid ahead of debt service, so holders rank second

A gross revenue pledge commits all revenue first to debt service, with operating expenses paid afterward, which gives bondholders the stronger position, though the facility can suffer if it cannot pay to operate. A net pledge pays operation and maintenance first, then debt service. The other two descriptions reverse that order. The reserve fund is a separate feature and does not define the pledge.Revenue bonds: gross versus net revenue pledge

A county development authority issues bonds to build a plant that it leases to a manufacturer. The lease payments are the only source of repayment. What is the principal credit risk?

• a.The county's ability to levy property taxes on its residents
• b.The state legislature's willingness to appropriate funds each year
• c.The manufacturer's ability to keep making the lease payments✓
• d.Traffic or usage on the plant, as with a toll facility

Industrial development bonds are repaid from payments by the corporate lessee, so the bondholders effectively hold that company's credit even though a government authority is the issuer. The county does not pledge its taxing power and is not obligated to make up shortfalls. No annual appropriation is involved. A plant leased to one manufacturer produces no user fees, so usage risk is not the primary concern.Industrial development revenue bonds: lessee credit

A city leases a new office building from a building authority and pays annual rent from its general fund. The lease is subject to annual appropriation, and certificates of participation fund the construction. What is the main risk to the holders?

• a.The building's tenants may leave and reduce rental income
• b.The council may decline to appropriate the rent in a future budget✓
• c.The state may revoke the city's power to issue general obligation bonds
• d.The city may be forced to raise property taxes above a legal cap

Under a lease with an annual-appropriation clause, the city's obligation to pay rent exists only if the council appropriates the funds each year, and non-appropriation is not a default on the city's GO debt. That makes the certificates riskier than GO bonds. A tax-rate cap relates to limited-tax GO bonds. Rent comes from the city, not from outside tenants. The authority to issue GO bonds is a separate matter unrelated to the lease.Lease rental bonds and certificates of participation

A state housing finance agency's bonds carry a moral obligation pledge. What does the pledge mean for investors?

• a.The legislature may restore the reserve but has no legal duty✓
• b.The state's insurance fund pays the bonds if the agency defaults
• c.The state's full faith and credit guarantee the principal and interest
• d.The state is legally required to appropriate funds for any shortfall

A moral obligation pledge states that if the debt service reserve is drawn, the state legislature may consider appropriating money to restore it, but it has no legal duty to do so. That is weaker than a legal obligation or a full faith and credit guarantee. It does not create a state-backed insurance fund. Investors rely mainly on the agency's own revenues, with the pledge as a secondary comfort.Moral obligation bonds

A county issues bonds payable first from the tolls of a new bridge, with a pledge of its taxing power if the tolls fall short. What type of bond is this?

• a.A double-barreled bond✓
• b.A moral obligation bond
• c.A limited-tax GO bond
• d.A special tax bond

A double-barreled bond has a primary source of repayment from a revenue-producing project, here the bridge tolls, and a second source in the issuer's general taxing power. A moral obligation pledge relies on a legislature that is not legally bound. A special tax bond is repaid only from a specific tax, such as a sales or fuel tax, and has no second source. A limited-tax GO bond is backed by property taxes within a rate cap rather than by project revenues.Double-barreled municipal bonds

A city issues bonds to build streets and sewer lines in a new subdivision. The bonds are repaid from assessments on the lots in that district. Which risk is greatest for the bondholders?

• a.Residents elsewhere in the city may vote down a general tax increase
• b.Owners of undeveloped lots may stop paying their assessments✓
• c.The sewer fees may be set below the level the state commission allows
• d.The city may be unable to raise the sales tax throughout the area

Special assessment bonds are secured only by assessments on the properties that benefit from the improvements, so delinquent owners, especially of unbuilt lots in a new development, threaten debt service. The city's general taxes are not pledged, so a sales tax or a general levy does not matter. Sewer fee regulation concerns revenue bonds backed by user charges rather than assessments.Special assessment bonds

An investor holds Build America Bonds issued by a city in 2010. Which statement is accurate?

• a.The interest is exempt from federal income tax but subject to AMT
• b.Interest is taxable, and direct-pay issuers got a federal subsidy✓
• c.The city may issue more Build America Bonds today under the program
• d.Every Build America Bond gave the investor a federal tax credit

Build America Bonds were taxable municipal bonds authorized for 2009 and 2010. For the direct-pay version, the issuer received a federal payment equal to 35% of its interest cost, later reduced by sequestration. The interest is not tax-exempt, so the AMT question does not arise. The authority to issue new bonds expired at the end of 2010. Only the tax-credit version gave investors a credit, and the direct-pay version paid the issuer.Build America Bonds (ARRA 2009)

A school district's bond anticipation notes mature in 60 days, but weak market conditions have delayed the long-term bond sale that was to repay them. What is the noteholders' main risk?

• a.The district may be unable to repay without a bond sale or a note rollover✓
• b.The notes lose their tax exemption whenever the bond sale is delayed
• c.The notes convert automatically into the delayed bonds at the same rate
• d.The notes must be repaid from property taxes, which cannot be collected in time

Bond anticipation notes are repaid from the proceeds of the bonds the issuer plans to sell. If the market for the bonds is poor, the issuer must either sell them on worse terms or issue new notes to pay off the old ones, and if neither is possible the noteholders face a delay in payment. The notes are not repaid from the property tax collection, which is the source for tax anticipation notes. Nothing converts the notes into bonds automatically, and a delay does not by itself remove their tax exemption.Municipal notes: bond anticipation notes and rollover risk

A client holds municipal VRDOs that reset their interest rate weekly and wants to know how liquid they are. Which statement is accurate?

• a.The client can tender only on the issuer's call date, with no notice required
• b.The client must hold to maturity, because the weekly reset takes the place of any put right
• c.The client can tender only at market price, with no backup if no buyer is found
• d.The client can tender at par on about seven days' notice, backed by a bank facility✓

VRDOs combine a floating rate that resets frequently, often weekly, with a put option. Holders can tender at par plus accrued interest on short notice, usually seven days, and a remarketing agent tries to resell the bonds. If it cannot, the liquidity facility, such as a letter of credit or standby purchase agreement from a bank, funds the purchase. The put is not tied to the call date, and the price is par, not market.Variable-rate demand obligations (VRDOs)

An investor holds municipal auction rate securities. At the scheduled auction, there are not enough buyers for all the securities offered. What happens?

• a.The auction is repeated at successively lower rates until every holder can sell
• b.The issuer must redeem the securities at par on the next business day
• c.The auction fails, holders cannot sell, and the rate resets to the maximum✓
• d.The securities convert automatically into fixed-rate bonds at par value

Auction rate securities depend on periodic auctions for liquidity. When sell orders exceed buy orders, the auction fails: holders keep the securities, and the interest rate is set at the maximum rate stated in the terms. Nothing obliges the issuer to redeem at par or repeat the auction, and the terms do not convert them into fixed-rate bonds. This risk surfaced widely in 2008, when many auctions failed at once.Auction rate securities: failed auctions

The indenture for a hospital revenue bond requires the issuer to redeem the bonds at par from insurance proceeds if the financed hospital building is destroyed and not rebuilt. Which call feature is this?

• a.Optional redemption, exercised when the issuer decides that rates are low enough
• b.Extraordinary redemption, caused by an event beyond the issuer's choice✓
• c.Mandatory sinking-fund redemption, retiring a set amount of bonds every year
• d.Make-whole call, priced at the present value of all the remaining payments

An extraordinary (special) redemption is triggered by a named event, such as destruction or condemnation of the project or an unspent-proceeds situation, and is usually at par. An optional redemption is at the issuer's discretion, usually after a call-protection period, and is not forced by an event. A mandatory sinking-fund redemption follows a fixed annual schedule whether or not anything happens to the project. A make-whole call is a corporate-bond feature priced at a Treasury-based premium, which is not how an insurance-funded par redemption works.Municipal bond call provisions: extraordinary (special) redemption

A county sells new bonds and uses the proceeds to buy Treasury securities held in an escrow account that will pay the county's older 5% bonds through their first call date. How are the older bonds described, and how are they usually priced?

• a.They are called now, with holders receiving par plus the full coupon today
• b.They are pre-refunded, with the county's credit unchanged and priced to maturity
• c.They are pre-refunded, with very high credit quality and a price based on the call date✓
• d.They are escrowed, with a lower rating and a price based on the call date

Once escrowed Treasuries are set aside to pay the old bonds, they are pre-refunded. Repayment no longer depends on the county, so the bonds typically trade at a very high credit quality (often AAA-equivalent). Because the escrow is sized to retire them at the first call date and price, they are priced to that call date rather than their final maturity. The old bonds are not redeemed at once, since the escrow carries them to the call date. The escrow improves the credit, so a lower rating or an unchanged county credit would be wrong.Pre-refunded municipal bonds: escrow of Treasury securities

A city has outstanding bonds that can first be called in six months. It wants to issue new tax-exempt bonds today, place the proceeds in escrow and use them to retire the old bonds on the call date. Under current federal tax law, what is the result?

• a.They can be tax-exempt, because the old bonds will be called within a year after the new bonds are sold
• b.They cannot be tax-exempt, because refunding over 90 days before the call is an advance refunding✓
• c.They cannot be tax-exempt, because only refundings that close after the call date qualify
• d.They can be tax-exempt, because each issue is allowed one advance refunding before its first call date

A current refunding closes within 90 days of the call or maturity date of the old bonds. This one is six months ahead, so it is an advance refunding. The 2017 tax act ended tax-exempt advance refundings, and an issuer that wants to refinance early must issue taxable bonds or wait until the 90-day window. The older rule that allowed one tax-exempt advance refunding per issue no longer applies. A one-year test does not exist. A current refunding does not have to wait until after the call date; it may close up to 90 days before it.IRC section 149(d), as amended by the Tax Cuts and Jobs Act of 2017 (advance refundings)

A 10-year, $24 million term bond has a mandatory sinking fund that retires $3 million of bonds in each of years 5, 6, 7, 8 and 9. How much principal is still outstanding to be repaid at final maturity in year 10?

• a.$15 million, the total retired by all the installments
• b.$9 million, the amount outstanding after five installments✓
• c.$6 million, after counting the installments from year 4
• d.$12 million, after counting only four of the five installments

Five installments of $3 million retire $15 million, leaving $24 million - $15 million = $9 million to be paid at maturity. This remaining amount is the balloon. Counting four installments would leave $12 million. Counting six installments, which would require a payment in year 4, would leave $6 million. The $15 million figure is what the sinking fund retires, not what remains.Municipal indenture: mandatory sinking fund

An issuer sells refunding bonds and places the proceeds in an escrow that pays interest on the new bonds until the crossover date. What happens to the old bonds in the meantime, and at the crossover date?

• a.The escrow pays them to their call date; at crossover new bond payments begin
• b.They are defeased on the sale date; at crossover the lien on them is released
• c.The escrow pays both issues; at crossover the old bonds are exchanged for new ones
• d.Revenues keep paying the old bonds; at crossover the escrow redeems them✓

In a crossover refunding the escrow first pays interest on the refunding bonds, while the old bonds are still serviced from the original pledged revenues. At the crossover date the escrow assets pay off (redeem) the old bonds, and the pledged revenues then begin paying debt service on the refunding bonds. In a typical (defeasance) structure the escrow pays the old bonds from the start. In a crossover, the escrow does not pay both issues and the bonds are not exchanged.Municipal refundings: crossover refunding structure

Three municipal bonds have the same 5% coupon, rating and maturity. One is non-callable, one is callable at 102 in ten years, and one is callable at par in two years. If market yields fall by 100 basis points, which bond's price rises the least?

• a.The non-callable bond, because it has the least protection against rate moves
• b.The bond callable at 102 in ten years, because a long call date caps its gain
• c.The bond callable at par in two years, whose price is held near the call price✓
• d.The three rise by the same amount, as their coupons and maturities match

Price compression limits the rise of a bond that is close to a call at a price near par. The bond callable in two years at par is likely to be redeemed once rates fall, so buyers price it toward the call date and it will not rise much above par. The non-callable bond has no such cap and rises the most. The bond callable in ten years at 102 sits between the two. Matching coupons and maturities do not make the prices move equally, because call terms change the likely life of the bond.Call risk: price compression and callable municipal bonds

What does an unqualified opinion from bond counsel normally say about a municipal issue?

• a.The bonds are secured by the full faith and credit of the state and carry no default risk
• b.The bonds are priced fairly and are suitable for investors seeking tax-exempt income
• c.The bonds are valid, binding obligations and interest is exempt from federal income tax✓
• d.The issuer's audited statements are accurate and it will be able to pay the debt service

Bond counsel's opinion addresses legal points: that the issue was legally authorized, that the bonds are valid and binding obligations of the issuer, and that interest is excluded from federal gross income (and usually from state tax in the issuing state). It is not a guarantee of payment or a state's backing, and it does not speak to credit quality, the fairness of the price, suitability or the accuracy of financial statements. Those are for the rating agencies, the official statement and the investor's own analysis.Municipal bond legal opinion: bond counsel opinion

A municipal official statement says that the legal opinion on a new issue is 'qualified.' What does the term mean?

• a.The bonds meet the test to be bank-qualified under the tax code
• b.Counsel stated a reservation or exception about a legal point✓
• c.The attorney is MSRB-certified to issue municipal legal opinions
• d.Counsel has confirmed the bonds are of investment-grade quality

A qualified legal opinion is one in which counsel states a reservation, condition or exception on a legal matter concerning the issue, so a buyer should read what has been carved out. It is not a certification of the attorney by the MSRB. Bank-qualified status is a separate designation under the tax code for small issuers. A legal opinion speaks to validity and tax treatment, not to credit quality or rating.MSRB glossary: qualified legal opinion

An underwriter's final agreement to purchase a new municipal issue is signed on Monday, March 2, 2026. Under the contract that Rule 15c2-12 requires the underwriter to obtain, by what date must the issuer deliver the final official statement? Assume no holidays fall in the period.

• a.Thursday, March 12, 2026, eight business days after signing
• b.Tuesday, March 10, 2026, counting the signing day as day one
• c.Monday, March 9, 2026, which is seven calendar days after the agreement
• d.Wednesday, March 11, 2026, seven business days after the agreement✓

The rule requires the underwriter to contract for the issuer to deliver the final official statement within seven business days after the final agreement to purchase. Counting business days from the next day: March 3, 4, 5, 6, 9, 10 and 11, which makes Wednesday, March 11. Seven calendar days gives March 9. Counting the agreement day itself as day one gives March 10. Eight business days gives March 12.SEC Rule 15c2-12: final official statement delivery timeline

A client is considering an insured municipal bond and asks what the insurance covers. What is the best answer?

• a.It pays the holder a premium if the issuer redeems the bonds before maturity
• b.It guarantees timely payment of interest and principal if the issuer defaults on them✓
• c.It protects the bond's tax exemption if the IRS later rules the interest taxable
• d.It protects against a fall in the bond's market price when interest rates rise

Municipal bond insurance is a financial guaranty: if the issuer fails to pay scheduled interest or principal, the insurer pays on time. It improves credit quality but does not remove interest-rate risk, so the market value still falls when rates rise. It does not insure the tax-exempt status of the interest, which depends on the legal opinion and compliance with the tax rules. It does not pay a premium when bonds are called, since redemption at the call price is not a default.Municipal bond insurance: what the policy guarantees

A customer wants to sell $15,000 par of municipal bonds from a small, unrated local issuer. The dealer's bid is well below the quotes seen for large AA-rated state bonds. What is the best explanation?

• a.Interest becomes taxable once a dealer buys the bonds back from the owner
• b.The MSRB requires odd-lot sales to be priced at a discount to par value
• c.Unrated municipal bonds cannot be resold by their holders before they mature
• d.Few buyers exist, so the market is thin and the spread is wide✓

Marketability depends on issue size, rating, name recognition and trading volume. A small unrated issue in an odd lot has few buyers, so the dealer must hold it longer and quotes a lower bid and a wider spread. Nothing bars resale of an unrated bond. The MSRB has no rule that odd lots must be priced below par; the discount reflects market conditions. Selling to a dealer has no effect on the tax-exempt status of the interest.Municipal secondary market: marketability of small and unrated issues

A customer buys 25 municipal bonds with a $5,000 par value each at a dollar price of 98.5. Ignoring accrued interest, what is the purchase price?

• a.$123,125, which is 98.5% of the $125,000 par✓
• b.$125,000, par value of the whole position
• c.$126,875, which adds the 1.5 points to par instead
• d.$24,625, which is 98.5% of 25 bonds at $1,000 each

Municipal bond prices are quoted as a percentage of par. Par is 25 x $5,000 = $125,000, and 98.5% of that is $123,125. Adding the 1.5 points to par instead of subtracting them gives $126,875, a premium price. Using par alone ignores the discount. Computing 98.5% of $25,000 applies the price to the number of bonds times $1,000 and understates the cost.Municipal bond pricing: dollar price on par value

An investor buys a tax-exempt municipal bond at 104 when it has 8 years to maturity and sells it at 102 after holding it for 3 years. For this problem, assume the premium is amortized straight-line. What is the tax result per $1,000 bond?

• a.A $20 capital loss, because the basis stays at $1,040
• b.A $35 capital loss, because amortization raises the basis
• c.A $5 capital loss, because the basis falls to $1,025✓
• d.A $20 loss, with $15 as deductible amortization and $5 capital

The $40 premium is amortized over 8 years, or $5 a year, so after 3 years the basis is reduced by $15 to $1,025. Selling at $1,020 is a $5 capital loss. Under Publication 550 the premium on a tax-exempt bond must be amortized, but the amortization is not deductible. A $20 loss ignores the required basis reduction. Adding amortization to basis moves it the wrong way. A deduction for the $15 would be allowed on a taxable bond, not on a tax-exempt one.Tax basis of tax-exempt bonds bought at a premium (IRS Publication 550)

On Thursday, May 14, 2026, a customer buys 25 municipal bonds of $5,000 par each with a 4% coupon that pay interest on March 1 and September 1. The trade settles on Friday, May 15, 2026. Using 30/360, what is the accrued interest due from the buyer?

• a.$1,041.67, from 75 days, including the settlement date itself
• b.$1,013.89, from 73 days, starting the count a day late
• c.$1,027.78, for 74 days of accrual from March 1 up to settlement✓
• d.$833.33, from two full months, ignoring the days in May

Annual interest on $125,000 of par is $5,000. On the 30/360 basis, accrual runs from March 1 up to, but not including, the May 15 settlement date: two months (60 days) plus 14 days is 74 days. Then $5,000 x 74/360 = $1,027.78. Counting 75 days includes the settlement date and gives $1,041.67. Counting 73 days gives $1,013.89, because it starts a day late. Using two months only gives $5,000 x 60/360 = $833.33, which ignores the days in May.MSRB Rule G-33 and FINRA Rule 11620: municipal accrued interest on 30/360

A taxable corporate bond yields 4.25% and a municipal bond of similar quality and maturity yields 3.40% tax-exempt. At what federal tax bracket would an investor be indifferent between them?

• a.80%, found by dividing 3.40% by 4.25% and stopping there
• b.0.85%, the gap between the yields, read as a tax rate
• c.20%, because 3.40% / 4.25% = 0.80 and 1 - 0.80 = 0.20✓
• d.25%, found by dividing the 0.85% gap by the 3.40% municipal yield

The investor is indifferent when the taxable yield times (1 - tax rate) equals the tax-exempt yield, so the break-even rate is 1 - (3.40% / 4.25%) = 1 - 0.80 = 20%. In a higher bracket, the municipal bond wins; in a lower bracket, the corporate bond does. Dividing the gap by the municipal yield measures the wrong base and gives 25%. The ratio 0.80 is the share of the corporate yield the investor keeps, not the tax rate. The yield gap is a number of percentage points, not a tax rate.Taxable-equivalent yield: break-even tax bracket for a municipal bond

A municipal bond with a 5% coupon is priced at 106 with 10 years to maturity and is callable in 3 years at 102. Using the approximate yield formulas, which yield is the yield to worst?

• a.About 4.3%, yield to the 10-year maturity
• b.About 3.5%, yield to the 3-year call✓
• c.5.0%, the coupon rate stated on the bond
• d.About 4.7%, current yield on the price paid

Yield to worst is the lowest of the yields to each possible redemption date. For a premium bond, the call usually gives the lowest yield because the premium is lost sooner. The yield to the call is about ($50 - $13.33 premium lost per year) / $1,040 average price, or about 3.5%. The yield to maturity is about $44 / $1,030, or 4.3%. The current yield is $50 / $1,060 = 4.7%, and the coupon is 5.0%. These all exceed the yield to the call.Yield to worst on a premium callable municipal bond (approximation)

A municipal bond with a 4% coupon paying interest semiannually has six months to maturity and is priced to yield 5.00%. Ignoring accrued interest on the pricing date, what is its approximate price per $1,000 bond?

• a.$971.43, from discounting $1,020 at the full 5%
• b.$995.12, from discounting $1,020 at 2.5% for one period✓
• c.$1,000.00, because a bond near maturity trades at par
• d.$990.48, from discounting $1,040 at the full 5%

With one period left the bond pays its final $20 coupon plus $1,000 of principal, or $1,020. At a 5% annual yield the semiannual rate is 2.5%, so the price is $1,020 / 1.025 = $995.12. Using the full 5% for a six-month period discounts too much and gives $971.43. Using a $1,040 payment treats the whole year's coupon as due and gives $990.48. Par only applies if the yield equals the 4% coupon, and here the yield is higher, so the price is below par.Municipal bond pricing: price of a bond one coupon from maturity

A municipal bond financing a privately used facility carries the notice 'interest subject to AMT.' How is the interest treated for a taxpayer who holds it?

• a.Exempt from regular tax and the AMT, like any other municipal bond
• b.Exempt from regular tax but subject to the 3.8% investment income surtax
• c.Exempt from regular federal tax but a preference item for AMT✓
• d.Fully taxable at regular rates because a private user benefits

Interest on specified private activity bonds is generally excluded from regular taxable income, but a portion may be a tax preference item that enters the alternative minimum tax calculation, which is why such bonds usually carry a higher yield than similar governmental-purpose bonds. The interest is not fully taxable, because the exclusion still applies to regular tax. It is not exempt from the AMT, which is the reason for the notice. The 3.8% surtax is a separate tax on net investment income and is not the consequence flagged by the notice.IRS Publication 550: specified private activity bonds and the alternative minimum tax

An investor buys a tax-exempt municipal bond in the secondary market at 96 with 5 years to maturity, and sells it two years later at 98.5. The bond had no original issue discount. Assume the market discount accrues ratably. What is the tax result per $1,000 bond?

• a.$25 is capital gain, because the sale was at a price below par
• b.$16 is ordinary income and the other $9 of the gain is capital gain✓
• c.$9 is ordinary income and the other $16 of the gain is capital gain
• d.$25 is tax-exempt, because the bond is a municipal security

The $40 discount exceeds the de minimis amount of 0.25% x $1,000 x 5 years = $12.50, so it is market discount. Accruing it ratably gives $8 a year, or $16 after two years. The total gain is $985 - $960 = $25. Publication 550 treats gain up to the accrued market discount as ordinary interest income, so $16 is ordinary and the remaining $9 is capital gain. Market discount on a tax-exempt bond is not itself tax-exempt. Treating the whole gain as capital ignores the accrued discount. Reversing the two amounts would put the larger share in the lower-taxed category.IRS Publication 550: market discount on a tax-exempt bond sold before maturity