Question 1

A person in excellent health with a long life expectancy chooses a lifetime annuity.This is an example of _________.

Accepted Answer

This is an example of adverse selection, where individuals who are likely to live longer and therefore receive more payments from the annuity are more likely to choose to purchase it. This can be a problem for insurance companies offering annuities, as they may end up paying out more than they anticipated.

Question 2

You can tax shelter only one-half of your retirement savings.You want to invest one-half of your savings in bonds and one-half in stocks.How much of the bonds and how much of the stocks should you allocate to the tax sheltered investment?

Accepted Answer

Since you can tax shelter only one-half of your retirement savings, it is best to allocate all the bond investments in the tax sheltered account since they generate more taxable income. On the other hand, stocks offer preferential tax treatment by means of capital gains and dividends, so it is better to allocate them in the non-sheltered accounts. Placing all bonds in the tax sheltered and all the stocks in non-sheltered accounts is the most tax-efficient allocation strategy.

Question 3

No taxes are paid on withdrawals made during retirement from a _________.

Accepted Answer

Withdrawals from a Roth IRA during retirement are not subject to taxes since contributions to the account were made with after-tax dollars. This makes a Roth IRA a popular retirement savings option for those who anticipate being in a higher tax bracket during retirement.

Question 4

The tax effect of a traditional IRA is to _____ taxes.

Accepted Answer

The tax effect of a traditional IRA is to postpone taxes. This means that the money that is contributed to a traditional IRA is not taxed in the year that it is earned, but will be taxed when it is withdrawn in retirement. This allows individuals to potentially have a lower tax rate in retirement, when their income and tax bracket may be lower.

Question 5

Annuity income is positively correlated with ___________.
I.longevity
II.durability of marriage
III.expected length of your base (Social Security)annuity

Accepted Answer

Annuity income is positively correlated with longevity, durability of marriage, and expected length of your base (Social Security) annuity.

Question 6

In a private defined benefit pension plan the ___________ bears the investment risk and in a private defined contribution plan the ____________ bears the investment risk.

Accepted Answer

In a defined benefit plan, the plan sponsor (employer) bears the investment risk because they are responsible for providing a specific benefit to the employee at retirement, regardless of how the investments perform. In a defined contribution plan, such as a 401(k), the employee bears the investment risk because they are responsible for contributing to their own retirement account and the performance of the investments within that account will determine the final amount available for retirement.

Question 7

Social Security is ____________.

Accepted Answer

Social Security is a combination of a pension and insurance plan. It provides retirement, disability, and survivor benefits, making it both a pension plan and an insurance plan. Additionally, Social Security is funded through current workers' payroll taxes, which are used to pay for current recipients, making it an involuntary intergenerational transfer.

Question 8

A decrease of 1% in both your tax exemption and your income tax rate would on net _______________.

Accepted Answer

A decrease in both tax exemption and income tax rate would result in a lower tax burden for the individual, making them better off.

Question 9

Which one of the following represents local consumption smoothing?
I.Saving during your working years for retirement
II.Borrowing money to buy a car
III.Putting off a vacation for a year until you can afford it

Accepted Answer

Local consumption smoothing is the practice of adjusting one's consumption patterns to match changes in one's financial circumstances, such as fluctuations in income or expenses. Saving for retirement is a long-term decision that does not address short-term shocks to income or expenses, so it is not an example of consumption smoothing. Borrowing money to buy a car is an example of consumption smoothing because it allows the individual to spread out the cost of the car over time, rather than paying for it all at once. Putting off a vacation for a year is also an example of consumption smoothing because it allows the individual to delay the expense until they are better able to afford it.

Question 10

You have the broadest choice of investment alternatives for your _____________.

Accepted Answer

A taxable savings account offers the broadest choice of investment alternatives because it is not subject to the same restrictions and regulations as retirement accounts like IRAs or 401k plans.

Question 11

If you wish to tilt your savings toward later years you might be well advised to purchase which of the following types of readily available insurance?

Accepted Answer

Disability insurance provides coverage in the event that the policyholder becomes unable to work due to an injury or illness. This can help protect your savings if you are no longer able to earn a paycheck, allowing you to support yourself and your family even if you are unable to work for an extended period of time. It is a type of insurance that can be particularly beneficial for those who are looking to tilt their savings toward later years, as it provides a safety net in the event of a long-term disability.

Question 12

Inflation has an adverse effect on your savings because ____________.
I.it erodes the purchasing power of the dollars you have saved
II.it increases the real rate of return on the dollars you save
III.unless sheltered,it increases the taxes owed on investment income

Accepted Answer

Inflation reduces the purchasing power of the dollars you have saved, making them worth less in the future than they are today. This means that your savings may not be able to cover the same expenses in the future as they do now. Additionally, unless sheltered, inflation can increase the taxes owed on investment income. However, inflation does not increase the real rate of return on the dollars you save, as stated in option II, as it actually reduces the real value of your savings.

Question 13

Contributions to a _____________ are not tax deductible.

Accepted Answer

Contributions to a Roth IRA are made with after-tax dollars, which means they are not tax deductible. However, qualified distributions from a Roth IRA are tax-free, making it a good choice for long-term savings. Options A, C, and D may offer tax deductions for contributions, but they have different rules for withdrawals and taxation. The best choice ultimately depends on an individual's financial situation and goals.

Question 14

You earn 6% on your corporate bond portfolio this year and you are in a 25% federal tax bracket and an 8% state tax bracket.Your after tax return is _____.(Assume that federal taxes are not deductible against state taxes and vice versa).

Accepted Answer

The answer of You earn 6% on your corporate bond...

Question 15

Which one of the following is an example of "global" consumption smoothing?

Accepted Answer

Saving during your working years for retirement is an example of global consumption smoothing because it involves sacrificing present consumption for future consumption. By saving during their working years, individuals can maintain a relatively stable level of consumption throughout their lifetime, smoothing out the fluctuations in income that may occur. It is a global strategy because it takes into account an individual's entire lifetime consumption, rather than just short-term fluctuations. The other choices, such as borrowing to buy a car or a home, or saving for college, may involve consumption smoothing in the short term, but they do not address an individual's long-term consumption needs.

Question 16

The U.S.income tax code is generally _____.

Accepted Answer

The U.S. income tax code is generally considered to be progressive, which means that those with higher incomes pay a higher percentage of their income in taxes compared to those with lower incomes. This is achieved through a system of marginal tax rates, where higher income amounts are taxed at higher rates.

Question 17

The solvency of Social Security is threatened by ______________.

Accepted Answer

The growing population longevity is putting a strain on the solvency of Social Security because more people are living longer and collecting benefits for a longer period of time.

Question 18

A person in poor health trying to buy supplemental health insurance is an example of ________.

Accepted Answer

Adverse selection is when individuals with higher risk are more likely to buy insurance, leading to an imbalance in the risk pool and potentially higher premiums for everyone. The person in poor health is more likely to need supplemental health insurance, making them an example of adverse selection. Moral hazard refers to the increased risk-taking behavior of insured individuals, a Texas hedge is a financial strategy, and actuarial error refers to mistakes in calculating risk and pricing insurance.

Question 19

Tax shelters __________________.

Accepted Answer

Tax shelters are designed to postpone the payment of tax liabilities by reducing taxable income or increasing deductions. They do not necessarily decrease investment risk or increase pre-tax rate of return earned. In fact, some tax shelters may have high risk investment strategies. Tax shelters benefit the investor more than the government, as they decrease the tax liability owed by the investor.

Question 20

The Social Security system _______________.

Accepted Answer

The Social Security system is financed in a regressive way because the payroll taxes that fund it are capped, meaning higher-income earners pay a smaller percentage of their income into the system as their income increases beyond a certain point.

Quiz 21: Taxes,inflation,and Investment Strategy