Question 1

Suppose you have maxed out your allowable contributions to your tax sheltered retirement plans and you still want to shelter income.The best choice of investment for you to minimize the tax bill is to invest in _________.

Accepted Answer

Stocks with low or zero dividend yields would be the best choice because they would generate less taxable income compared to stocks with high dividend yields or a bond portfolio that would generate interest income. Additionally, the tax on capital gains from the appreciation of the stocks would not be due until the stocks are sold, allowing for further tax deferral.

Question 2

A worker plans to retire in 30 years.He hopes to receive $65,000 per year in retirement income.If inflation is forecast at 2.5% per year,what annual income should he plan to receive in the first year of retirement in order to maintain the purchasing power on $65,000?

Accepted Answer

To maintain the purchasing power of $65,000 in 30 years with 2.5% annual inflation, the future value is calculated using the formula: Future Value = Present Value * (1 + inflation rate)^number of years. This results in $65,000 * (1 + 0.025)^30 = $136,342.

Question 3

In planning for retirement,an investor decides she will save $2,000 every year for 25 years.At a 7% return on her investment,how much money will she have at the end of 25 years?

Accepted Answer

This question requires the use of the future value formula for an annuity. FV = PMT x [(1 + r)^n - 1]/r, where PMT is the annual payment, r is the annual interest rate, and n is the number of years. Plugging in the values given, we get FV = 2,000 x [(1 + 0.07)^25 - 1]/0.07 = $126,498. Therefore, the best choice is C.

Question 4

Statistics show that life expectancy at age 65 for males is about ___ years and for females is about ___ years.

Accepted Answer

Life expectancy at age 65 for males is approximately 17 years and for females is approximately 20 years, based on recent statistical data.

Question 5

A worker plans to retire in 20 years.He needs $20,000 per year in retirement income in today's dollars.If inflation is forecast at 3.5% per year,what annual income should he plan to receive in the first year of retirement in order to maintain the purchasing power on $20,000?

Accepted Answer

The answer of A worker plans to retire in 20...

Question 6

Which one of the following statements about 401(k)plans is not correct?

Accepted Answer

Withdrawals from 401(k) plans are taxed as income upon retirement.

Question 7

A safe driver who drives faster as a result of purchased collision car insurance would be an example of the ___________ problem.

Accepted Answer

The moral hazard problem occurs when an individual's behavior changes after they have purchased insurance, knowing that they are protected from financial losses. In this case, the safe driver may drive faster because they know they are protected in the event of a collision.

Question 8

A bond and a stock portfolio both provided unrealized pretax return of 8% to a taxable investor.If the stocks paid no dividends we know that the ________.

Accepted Answer

Stocks typically benefit from lower capital gains tax rates compared to the ordinary income tax rates applied to bond interest. Since the stocks paid no dividends, the entire return is likely subject to capital gains tax, resulting in a higher after-tax return for the stock portfolio.

Question 9

An employee uses his firm's 401(k)plan.If he decides to contribute $11,000 per year and pays an effective tax rate for all items at 28%,what is the reduction in her take home pay each year?

Accepted Answer

The contribution to a 401(k) plan is made with pre-tax dollars, so the reduction in take-home pay is the contribution amount minus the tax savings. The tax savings is $11,000 * 28% = $3,080. Therefore, the reduction in take-home pay is $11,000 - $3,080 = $7,920.

Question 10

An insurance company plans to sell annuities to investors.Based on actuarial calculations,an investor has a 15 year life span and they want a $30,000 per year annuity,payable at the end of each year.If the insurance company uses a 4% assumed investment rate,how much should the annuity cost?

Accepted Answer

To calculate the cost of the annuity, we need to use the present value formula, which is:
Present Value = Annuity Payment x (1 - (1 + i)^-n) / i
Where i = assumed investment rate = 4%, n = life span = 15 years, and annuity payment = $30,000 per year.
Plugging in these values, we get:
Present Value = $30,000 x (1 - (1 + 0.04)^-15) / 0.04 = $333,552
Therefore, the cost of the annuity should be $333,552, which is option C.

Question 11

The employees of a firm complain that they can not afford to contribute $8,000 per year to a 401k,because of the loss of $8,000 of take home pay.In fact,how much will the take home pay be reduced if all taxes combined total 33%?

Accepted Answer

The contribution to a 401k is made with pre-tax dollars, so the reduction in take-home pay is the contribution amount minus the tax savings. The tax savings is 33% of $8,000, which is $2,640. Therefore, the reduction in take-home pay is $8,000 - $2,640 = $5,360.

Question 12

An investor plans to retire at age 60,with a total savings of $1,000,000.If she is currently 35 years old,has no savings,and expects to earn 8% per year on her investments,how much money must she set aside every year?

Accepted Answer

To find out how much money the investor must set aside every year, we can use the present value annuity formula. We know the present value (PV) is $0, the future value (FV) is $1,000,000, the interest rate (r) is 8%, and the number of periods (n) is (60-35) = 25 years. Plugging these values into the formula, we get:

PMT = FV / [(1 + r)^n - 1] / r
PMT = 1,000,000 / [(1 + 0.08)^25 - 1] / 0.08
PMT = $13,679

Therefore, the investor must set aside $13,679 every year to achieve her retirement goal. The answer is B.

Question 13

Withdrawals after retirement from a traditional IRA are __________ and withdrawals after retirement from a Roth IRA are ____________.

Accepted Answer

Withdrawals after retirement from a traditional IRA are taxable because contributions were made on a pretax basis, while withdrawals after retirement from a Roth IRA are not taxable because contributions were made on an after-tax basis.

Question 14

An investor must decide between putting $2,000 into a regular IRA or put $1,440 into a Roth IRA.If the investor's tax rate is 28% now and in retirement,and she expects to earn 12% per year over the next 20 years,which will produce more cash in the end?

Accepted Answer

The answer of An investor must decide between putting $2,000...

Question 15

An insurance company plans to sell annuities to investors.Based on actuarial calculations,an investor has a 20 year life span and they want a $50,000 per year annuity,payable at the end of each year.If the insurance company uses a 3% assumed investment rate,how much should the annuity cost?

Accepted Answer

The cost of the annuity can be calculated using the present value of an annuity formula, which is:

PV = A * (1 - (1 + r)^(-n)) / r

Where PV is the present value of the annuity, A is the annual payment, r is the assumed investment rate, and n is the number of periods (in this case, 20 years).

Substituting the given values, we get:

PV = 50,000 * (1 - (1 + 0.03)^(-20)) / 0.03
PV = $743,874.46

Therefore, the cost of the annuity should be $743,874. Option B is the correct choice.

Question 16

A regular IRA requires taxes be paid at the time the money is removed from the plan.What is the after-tax value of a $5,000 deposit into an IRA today that generates an 8% return for 20 years if the investor is taxed at the 28% level?

Accepted Answer

The answer of A regular IRA requires taxes be paid...

Question 17

An investor has an effective tax rate on all items of 30% and he decides to put $8,000 into a 401(k).The future value of the investment that results from the deferral of taxes over 30 years at an 8% return equals _____________.

Accepted Answer

To calculate the future value of the investment that results from the deferral of taxes over 30 years, we need to use the following formula:

FV = (1 + r)^n * (P * (1 - t))

Where: 
r = rate of return = 8%
n = number of years = 30
P = initial investment = $8,000
t = tax rate = 30%

Plugging in the values, we get:

FV = (1 + 0.08)^30 * ($8,000 * (1 - 0.30))
FV = 10.064 ^ 30 * $5,600
FV = $24,150.99

Therefore, the future value of the investment that results from the deferral of taxes over 30 years at an 8% return is $24,150. Answer: D.

Question 18

In planning for retirement,an investor decides she will save $11,000 every year for 40 years.At an 11% return on her investment,how much money will she have at the end of 40 years (to the nearest hundred thousand dollars)?

Accepted Answer

The answer of In planning for retirement,an investor decides she...

Question 19

What is the value of a $2,500 payment into an IRA,if the investment earns 12% per year for 15 years?

Accepted Answer

To calculate the future value of the investment in the IRA, we can use the formula FV = PV(1+r)^n, where PV is the present value (or initial payment), r is the annual interest rate as a decimal, and n is the number of years. Plugging in the values given, we get FV = 2500(1+0.12)^15 = $13,684. Therefore, the best choice is B.

Question 20

If you start saving for retirement only in your later years and your income growth from that point is rapid then ________________________.

Accepted Answer

If your income growth is rapid, it is likely that your tax bracket will also increase in the future. Therefore, by choosing a Roth IRA, you can pay taxes now at a lower rate and withdraw tax-free in retirement when your tax bracket is higher.

Quiz 21: Taxes,inflation,and Investment Strategy