Category Archives: Preparing for a FINRA Exam

Nontraded REITs may be a suitable way for investors to earn good returns while diversifying their portfolios. However, FINRA is concerned about the way these programs are being marketed, particularly to retail investors. Many investors may not understand the risks of nontraded REITs, especially their lack of liquidity and the difficulty in valuing their shares. Other issues for investors are high fees (as much as 15%) and the fact that dividend payments may be confused with returns of capital.

What Are REITs? 

A real estate investment trust (REIT) is an entity that invests in real estate projects or real estate-related assets, such as shopping centers, office buildings, apartment buildings, hotels, and mortgages. REITs are designed to make it possible for individuals to invest in large-scale real estate projects. Their benefits include regular dividend income and the potential for capital appreciation.

A REIT is structured in a way that avoids paying corporate income taxes on its earnings. In order to qualify, a REIT must distribute 90% of its income to its shareholders each year in the form of dividends. Individual investors are responsible for paying taxes at ordinary income rates on the dividends they receive.

In order for an entity to qualify as a REIT and avoid corporate taxes, it must:

  • Be structured as a corporation, trust, or association
  • Be managed by a board of directors or trustees
  • Not be a financial institution or insurance company
  • Issue shares that are fully transferable
  • Have a minimum of 100 shareholders
  • Have no more than 50% of its shares held by five or fewer individuals during the last half of the taxable year
  • Pay out at least 90% of its taxable income in the form of shareholder dividends
  • Invest at least 75% of its total assets in real estate
  • Derive at least 75% of its gross income from rent or mortgage interest
  • Have no more than 20% of its assets invested in the stocks in taxable REIT subsidiaries

Different Types and Different Advantages and Disadvantages

Many REITs are public companies registered with the SEC and listed on a major exchange. Nontraded REITs are public offerings that are registered with the SEC, but their shares are not listed on any of the exchanges. Note that there are also private REITs, which are issued as private placements under Regulation D—they are not registered with the SEC or listed on an exchange. Generally, only accredited investors may purchase private REITs.

A publicly traded REIT has certain advantages for investors who can easily determine the value of their shares and can liquidate them quickly. Of course, this does not protect them from steep losses if the market is not doing well, but at least investors have a quick exit. The disadvantage is that listed REITs may pay lower dividends than unlisted ones.

Most nontraded REITs are finite investments—they are not designed to last forever. After a certain number of years, they either list their shares on an exchange or liquidate (a liquidity event). In either case, there is no guarantee what the value of the investor’s shares will be at this point—they may be worth more than the original investment but they may also be worth less.

Investors in nontraded REITs will find it difficult to redeem their shares early. Often, the investor’s only avenue is to sell his shares back to the REIT itself. Some programs do offer early redemption options but the terms vary depending on the REIT and may be very limited—only a small percentage of shares may be redeemed each year, and/or the price may be below the purchase price or current estimated value. Investors must be prepared to hold their shares for as long as eight years, or until a liquidity event occurs.

Valuation Issues

The shares of a nontraded REIT are difficult to value precisely. Often, the only way to value the shares is through an expert appraisal of its underlying real estate holdings. For this reason, FINRA has special rules about how REITs may be presented on client account statements.

If the REIT’s annual report includes an estimated value of its shares, then the firm must include this information on the client’s account statement unless it is either outdated (more than 18 months old) or the firm has reason to believe that the estimate is inaccurate. The account statement must identify the source of the estimate and how it was developed. The statement must also explain that REITs are generally illiquid securities and the investor will not necessarily receive the estimated value if he wants to sell his shares.

A client account statement that does not include an estimated value of a REIT’s shares must state that REITs are generally illiquid, that the value of the securities may differ from their purchase price and, if applicable, that no accurate valuations are available.

Most nontraded REITs are currently issued at a nominal price of $10 per share. Annual reports may show this value for many years. FINRA has proposed a new rule that would require these programs to deduct the cost of fees from these valuations and make other changes in the way the valuations are calculated.


The illiquid nature of nontraded REITs means that they are not suitable for short-term investors. Registered representatives should always inform their clients that their capital will be locked up for many years and their shares difficult to value. Generally, only a small portion of an investor’s portfolio—usually no more than 10%—should be invested in nontraded REITs or other illiquid investments such as limited partnerships. Massachusetts and some other states have incorporated this limit into their regulations.

Investors in nontraded REITs must receive copies of the prospectus, along with any other relevant disclosure documents. These documents will explain the nature of the assets or projects in which the REIT invests along with its risks.

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—Securities Training Corporation

There are a number of important regulatory issues concerning sales practices associated with municipal fund securities and, therefore, 529 plans. The cornerstone of the securities industry is the principle that brokers, dealers, and municipal securities dealers conduct their business fairly with all persons and not engage in a deceptive, dishonest, or unfair practice. (The MSRB’s Rule G-17 is at the core of its customer protection rule.) This simple statement contains the underlying premise that sales activities may not mislead the public and that errors of omission or misstatements of fact are contrary to fair and equitable trade practices. Therefore, if a customer purchasing a Section 529 plan can benefit from an unlimited state tax benefit, then not informing the client of this fact violates MSRB and FINRA rules.

In fact, the MSRB stated in 2006 that dealers have an affirmative obligation to make the following disclosures to any client purchasing an out-of-state 529 plan.

• Depending on the state in which either the client or the plan’s beneficiary resides, favorable state tax treatment may only be available only if the client invests in his home state’s 529 plan.

• Potential state tax benefits are one of many factors that the client should consider in making a decision.

• The client should consult with his financial or tax adviser about his particular situation to determine the advantages and limitations of investing in his home state’s 529 plan. He may also want to contact his home state and other states to learn more about their plans.

One of the ways of fulfilling this “out-of-state disclosure obligation” is to include these disclosures in the plan’s official statement (program disclosure document). If this is the case, however, they may not be buried in the fine print—they must be included in a way that they are “reasonably likely to be noted by the investor.” The client must also receive the official statement no later than the time the sale takes place.

If these disclosures are not included in the official statement, then the dealer must provide them separately either before or at the time of the transaction.

In its guidelines concerning communications with the public, FINRA states that member communications must be clear and not overly complex or technical in order to avoid confusion. In such cases, a lengthy, highly technical explanation may be more confusing than shorter, less technical information. Sales material and advertising should also take into account the audience who receives the information. Different levels of explanation may be necessary for varied categories of clients, and it may be difficult to limit the audience to a particular piece of information. When using promotional material, it is important to state the potential tax implications associated with a particular product. General references to tax-exempt or tax-free may not be sufficient unless the product is in fact both federal and state tax-free. An indication should be made as to which taxes apply, if any, or which taxes do not apply. A registered representative should act prudently when recommending a particular 529 savings plan to an investor. Consideration should be given as to why the investor is purchasing the plan, when the funds will be needed, the risk of loss of principal, and market performance failing to meet expectations. A determination should be made as to the ultimate goal, i.e., how much money needs to be invested in order to achieve the desired result and whether the individual can sustain the program over the necessary time frame. The commissions that the registered representative expects to earn from the sale should not be part of this analysis.

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—Securities Training Corporation


Hi Everyone,

This next video blog covers the taxation of withdrawals from variable annuities. Enjoy!

Thanks for spending time with us. We hope you found it worthwhile.

—Securities Training Corporation


The Municipal Securities Rulemaking Board (MSRB) has released the content outline for the first qualifying examination for individuals who provide municipal advisory services to state and local governments. The outline includes the topics that will be covered on the exam, sample questions and a list of reference materials to assist municipal advisor professionals in preparing for the Municipal Advisor Representative Qualification Examination, which will first be administered as a pilot later this year. The content outline has been filed with the Securities and Exchange Commission for immediate effectiveness. Read the filing and regulatory notice.

To help municipal advisors prepare to take the exam, the MSRB has scheduled a webinar to review the content outline, provide more information about participating in the pilot and discuss the administration of the exam on June 11, 2015 at 3:00 p.m. ET. Register for the webinar.

The Series 50 examination will consist of 100 multiple-choice questions and candidates will be allowed 180 minutes to complete the examination.3 Consistent with other financial regulatory qualification examinations, candidates may receive (at the option of their firm) an informational breakdown of their performance on each section of the examination and their pass/fail status at the completion of the testing session. As provided for in MSRB Rule G-3(g) and consistent with other MSRB examinations, candidates that fail to pass the Series 50 examination are permitted to take the examination again after a period of 30 days has elapsed from the date of the prior examination. Any person, however, who fails to pass the Series 50 examination three or more times in succession will be prohibited from taking the examination again until six months has elapsed from the date the candidate last failed the examination.

Securities Training Corporation will offer training materials for this examination. Stay tuned for further details on our website:

Read the content outline.

View the full press release.

Hi Everyone,

FINRA Rule 4370Business Continuity Plans and Emergency Contact Information, is an item that can appear on the Series 24 and Series 99. We thought we would provide an overview here for you today.

The essence of this proactive rule is preparing for unpredictable events—requiring that a member implement and maintain a written and updated business continuity plan identifying reasonable procedures the member will take in responding to a significant business disruption (SBD) in meeting its obligation to customers, and communicating these procedures to these customers. The plan could include a statement that the member intends to stay in business, or discontinue business temporarily and for how long, or even go out of business permanently. A member stating in its plan that it might need to go out of business would be required to disclose to customers how it would afford them prompt access to their funds and securities under those circumstances.

Each member needs to conduct its own risk exposure analysis to determine specific vulnerability points not only within itself but also within firms it depends on to function, e.g., software suppliers and data backup. A senior management official who is also a registered principal must approve the plan. Procedures must be updated whenever there is a material change in the member’s business. There is also a requirement for an annual review.

The BCP must be tailored to the nature of its business—no one template fits all. The plan should take into account such considerations as size (one building with few employees or numerous buildings spread out over many states with a large number of employees?), location (hurricane or earthquake country?), type of business (introducing firm only or full-service?), and the businesses with which it has ongoing commercial relationships (e.g., counter-parties, banks, and vendors).


Disclosing how a firm intends to meet an emergency is an important requirement of the rule. Customers must be provided with enough information to make informed decisions about whether they want to do business with a firm. “Is this a firm I am comfortable enough with to handle my funds and securities now and in an emergency?”

Required Elements of the Plan

While the components of a BCP are flexible, there are 10 critical elements that must be addressed. If a member feels an element is not applicable to its business model, it need not address that category; however, it must document the rationale for not including it. Members that rely on another entity to address any of these elements are required to supply the details of this arrangement.

  1. Data Backup and Recovery—Hardcopy and Electronic
  2. All Mission Critical Systems
  3. Financial and Operational Assessments
  4. Alternate Communications between Customers and the Member
  5. Alternate Communications between the Member and Its Employees
  6. Alternate Physical Location of Employees
  7. Critical Business Constituent, Bank, and Counter-Party Impact
  8. Regulatory Reporting
  9. Communications with Regulators
  10. Assurance of Customers’ Access to Funds and Securities in the Event that the Member Is Unable to Continue Its Business


While Rule 4370 does not specifically require that a business plan be tested, it is the final step in assuring continuity of service to customers. It is through testing that we determine whether our plan is practical or theoretical, whether we are addressing our vulnerability to disasters—man-made or natural—or simply adding pages to our compliance manual. You do not want to find out during an emergency that your backup systems are not backing you up, or your servers are unable to service your needs.

Thanks for spending time with us. We hope you found it worthwhile.

—Securities Training Corporation

Hello Everyone,

Unit Investment Trusts appear on many Finra exams. We thought it may be helpful to review them here.

A unit investment trust (UIT) may look like a mutual fund but it is not. Similar to a mutual fund, a UIT is required to register with the SEC under the Securities Act of 1933 and the Investment Company Act of 1940. UIT portfolios are created to meet a stated investment objective, just like to a mutual fund. However, unlike a mutual fund, these portfolios are not actively managed. Instead, once created, a UIT follows a buy and hold strategy.

A mutual fund can continue to issue new shares theoretically for perpetuity. A UIT, however, will cease to exist after a specific date, often call the termination date. The date when the trust will terminate or dissolve is established upon the creation of the UIT. If securities remain invested in the portfolio on the termination date, they will be liquidated and the proceeds paid to the investor.

Some UITs are in existence for as little as one year. Others have a life that spans more than 50 years. Due to the buy and hold strategy and time horizon, there may be instances where the securities within the UIT are worthless, upon dissolution. Therefore, as with all investments, the amount received upon sale or dissolution may be less than the original investment; a profit is not guaranteed.

A UIT can be organized under a contract of custodianship or agency, trust indenture, or a similar instrument and therefore, it is not required to have a board of directors. The UIT will issue redeemable securities or units that represent an undivided interest in a portfolio. Unlike mutual funds, this fixed portfolio is issued through a one-time public offering.

The UIT stands ready to redeem (buy back) the investors units at their calculated net asset value (NAV). In addition, a UIT sponsor will often maintain a secondary market allowing investors to purchase previously redeemed units.

Types of UITs

 The sponsor will also be responsible for selecting the securities, which will compose the portfolio, keeping in mind its overall investment objective. Portfolios are created using equity securities or fixed income securities.

Some UITs mirror a specific index. Other portfolios are created using a quantitative selection process chosen by the sponsor. Another strategy is to create a series of short-term trusts that investors can use as part of their long-term investment planning. When a short-term trust is ready to dissolve, the investor is given the opportunity to invest in the next trust in the series, therefore maintaining a long-term strategy. Investors who rollover their money into the next trust usually receive discounted sales charges (more about these soon). Whether long-term or short-term, the trust is supervised by a professional investment manager.

Equity Unit Investment Trusts have portfolios consisting of domestic and/or international equity securities that are constructed to meet various investment objectives. Common objectives for an equity UIT include capital appreciation and income. The portfolio of an equity UIT with a capital appreciation objective would be invested in growth or aggressive growth stocks, while an equity UIT with an income objective would invest in preferred stock or dividend paying common stock.

Fixed Income Unit Investment Trusts feature portfolios primarily consisting of fixed income securities such as bonds. These portfolios can include both international and domestic securities that can provide a steady stream of income. Some trusts may be created with the objective of providing a tax advantages to investors while others are more conservative and seek capital preservation.

Thanks for spending time with us. We hope you found it worthwhile.

—Securities Training Corporation

Taking a regulatory exam can be a stressful experience. However, if you know what to expect beforehand, it will not be a traumatic one.

The FINRA Regulatory Examination Committee has zero tolerance for cheating. It goes to great lengths to prevent it, and has fined and suspended associated persons caught cheating from working with a FINRA member.

When you arrive at the examination center, you will be asked for up-to-date, government-issued picture identification such as a driver’s license or passport. A locker will be provided for coats, purses, phones, and other belongings. The only possessions permitted in the testing room are identification and locker key.

You will be fingerprinted, scanned with a metal detector, and instructed to empty your pockets. When you enter the testing room, you’ll be provided with a basic calculator that does basic addition, subtraction, multiplication, division but no exponent capability, as well as writing materials. The materials are usually a fine-tip, dry-erase marker and some form of dry-erase board. It’s usually three sheets of the dry-erase paper on a key ring, so you may need to flip back and forth if you make notes.

People will be taking different types of exams. While the room will be quiet, some centers supply headphones for those who are easily distracted. Centers usually videotape their testing room, so expect to see cameras.

Before starting, you will be given a tutorial on how the system works, how to choose answers, and how to grade your exam. A few students have commented that the fonts and feel of the software seem dated but, aesthetics aside, the functions (e.g., mark for review) will be similar to your STC Practice Exams.

You are allowed restroom breaks during the exam. However, the exam timer does not stop. If you finish all the questions early, you are allowed to leave, although the time you save does not carry over to an afternoon session. Each time you take a break, you will be required to place your fingers in the scan and show identification.

There is a maximum 60-minute break between the two parts of the Series 7 Examination. During this time, you are permitted to leave the building. Most students don’t wander far, often returning before the time is up. The two parts are like two separate exams. You can’t go back to Part One to revisit the questions, and you don’t learn your final score until you complete the second part.

After you choose to grade the exam, it takes approximately 30 to 40 seconds for the computer screen to display your score. As you leave the testing room, the center will collect the calculator and writing materials and will give you a paper copy of your grade—hopefully a passing one.

For more information, go to

Thanks for spending time with us. We hope you found it worthwhile.

—Securities Training Corporation


Continuing our series of videos about answering questions methodically; here’s a video about how to answer a Series 63/65/66 question. Click the link below to view it.

Thanks for spending time with us. We hope you found it worthwhile.

—Securities Training Corporation


Something a little different for today’s blog; a video about how to answer questions. Click the link below to view it.

Thanks for spending time with us. We hope you found it worthwhile.

—Securities Training Corporation

In July 2012, the new FINRA Suitability Rule 2111 became the standard for all broker-dealers to adhere to. Suitability is a large component of the Series 7 Examination and may also be covered on the Series 6, 10, 24, and 26 Examinations. With this in mind, let’s review FINRA Rule 2111. The rule is divided into parts A (retail investors) and B (institutional investors). We will discuss Part A only as it relates to your regulatory examination.

The rule states: “A member or an associated person must have a reasonable basis to believe that a recommended transaction or investment strategy involving a security or securities is suitable for the customer, based on the information obtained through the reasonable diligence of the member or associated person to ascertain the customer’s investment profile. A customer’s investment profile includes, but is not limited to,

  1. The customer’s age
  2. Other investments
  3. Financial situation and needs
  4. Tax status
  5. Investment objectives
  6. Investment experience
  7. Investment time horizon
  8. Liquidity needs
  9. Risk tolerance
  10. Any other information the customer may disclose to the member or associated person in connection with such recommendation”


Clearly, the Rule 2111 list is long and specific. However, since FINRA acknowledges that some firms currently ask customers for this information without using these specific terms, the rule does not dictate the use of specific terminology or a method for obtaining this information.


If a firm decides to exclude any of these factors as irrelevant, it needs to explain in writing why it is not requesting the information. (Age, for example, would not be relevant for clients that are entities.)


FINRA confirms that nothing in the rule changes the long-standing practice that suitability becomes an issue as soon as the firm or one of its associated personnel makes a recommendation.

FINRA spells out several guiding principles for determining whether a communication is a recommendation.

  • Content, context, and presentation are important—e.g., would it be reasonably viewed as a suggestion to take or not take action?
  • The more individually tailored a communication is, the more likely it will be classified as a recommendation.
  • Although a series of actions that, considered individually, may not be considered a recommendation, may collectively be viewed as one.
  • A recommendation does not need to come from a live person—it may be computer-generated.

FINRA also notes that a recommendation is not suitable just because the client agreed to act upon it, and that a firm (and its personnel) may not avoid liability for unsuitable investments by using disclaimers.

Rule 2011 identifies three main suitability obligations: reasonable-basis, customer-specific, and quantitative suitability. Each one must be addressed with regard to recommendations to clients.

Reasonable-Basis Suitability: Is it appropriate for anyone?  According to FINRA, “Reasonable-basis suitability requires a broker to have a reasonable basis to believe, based on reasonable diligence, that the recommendation is suitable for at least some investors.”

In general, the amount of diligence that a firm or its associated personnel is required to undertake will vary depending on the complexity and potential risks of the investment product or strategy, and how familiar the firm or its personnel are with the product or strategy. The firm and its personnel must understand the potential risks and rewards associated with recommendations made to clients.

Customer-Specific Suitability: Is it appropriate for that client? FINRA states “Customer-specific suitability requires that a broker have a reasonable basis to believe that the recommendation is suitable for a particular customer based on that customer’s investment profile. …. The new rule requires a broker to attempt to obtain and analyze a broad array of customer-specific factors.”

Quantitative Suitability:  Are you trading too much? The third and final obligation under the new suitability rules addresses discretion. It is called quantitative suitability and requires a registered representative “who has actual or de facto control over a customer account to have a reasonable basis for believing that a series of recommended transactions, even if suitable when viewed in isolation, are not excessive and unsuitable for the customer when taken together in light of the customer’s investment profile.”

While FINRA does not state how many questions may appear on a given topic, we believe that you should be prepared to answer a number of questions covering the various aspects of suitability.

Thanks for spending time with us. We hope you found it worthwhile.

—Securities Training Corporation