Free CFP Practice Questions with Answers

Correct answer: C. Estate tax on the transferred assets is deferred until Carol's death (or a subsequent taxable transfer), not eliminated

The unlimited marital deduction under IRC §2056 allows an unlimited amount of property to pass estate-tax-free to a U.S.-citizen surviving spouse. However, this is a deferral mechanism, not permanent forgiveness — the assets move into the surviving spouse's estate, where they will be taxed at her death unless sheltered by exclusion, further deduction, or charitable giving.

• A. The marital deduction defers tax rather than forgiving it; the assets will generally be included in Carol's estate and be subject to tax at her death or a later taxable transfer.
• B. There's no 50% reduction mechanism in the unlimited marital deduction; the full qualifying amount is deferred, not partially reduced.
• C. Correct. The unlimited marital deduction defers estate tax on assets passing to a surviving U.S.-citizen spouse until the surviving spouse's death (or an earlier taxable transfer), rather than eliminating the tax altogether.
• D. The marital deduction is unlimited for qualifying transfers to a U.S.-citizen spouse and is unrelated to the annual gift tax exclusion; its effect is deferral of tax on the whole amount.

Correct answer: D. Understanding the client's personal and financial circumstances

The seven-step process begins with understanding the client's personal and financial circumstances, which provides the factual foundation for every subsequent step, including goal identification, analysis, and recommendation development. The other listed steps occur later and depend on this initial understanding being established first.

• A. Identifying and selecting goals is Step 2, which comes after understanding the client's circumstances.
• B. Analyzing the client's current course of action follows the initial data-gathering step; it isn't the first step.
• C. Developing recommendations happens later, after data gathering, goal-setting, and analysis.
• D. Correct. Understanding the client's personal and financial circumstances is the first of the seven steps in the CFP Board's financial planning process.

Correct answer: C. They often lack the same level of regulatory oversight and may present unique custody and valuation risks

Direct digital asset holdings generally fall outside traditional securities regulation and custody/insurance frameworks like SIPC, and they present distinctive risks around self-custody, exchange counterparty risk, and valuation — all points advisors must address when discussing suitability and disclosure.

• A. Wrong — direct crypto holdings typically lack the custody protections and insurance coverage (like SIPC) that apply to traditional brokerage-held securities.
• B. Wrong — cryptocurrencies have generally exhibited higher, not lower, historical price volatility compared to large-cap equities.
• C. Correct — direct digital asset investments commonly face less regulatory oversight than traditional securities and carry unique custody and valuation risks.
• D. Wrong — cryptocurrencies are not classified as fixed-income securities; they lack the contractual interest payments and maturity structure that define fixed income.

Correct answer: A. It works to return missing customer securities and cash up to statutory limits, but it does not cover market losses.

SIPC returns customers' missing securities and cash, within statutory limits, when a member broker-dealer fails. It is not insurance against investment performance or poor advice.

• A. SIPC protects against custodial loss when a member firm fails, within statutory limits.
• B. SIPC does not insure against declines in market value.
• C. Unsuitable advice is handled through arbitration or litigation; SIPC does not pay such claims.
• D. SIPC offers no return guarantee; it restores securities and cash held in customer accounts.

Correct answer: D. Exploring the client's own ambivalence and eliciting her personal reasons for change, rather than arguing for the change

Motivational interviewing is a client-centered counseling approach built around exploring a client's own ambivalence toward change, rather than the planner arguing or mandating action, since external pressure tends to increase resistance.

• A. Wrong — confrontational, directive statements tend to increase resistance ('the righting reflex') rather than resolve ambivalence, contrary to motivational interviewing principles.
• B. Wrong — ignoring the client's stated resistance and proceeding unilaterally undermines the collaborative, client-centered spirit of motivational interviewing.
• C. Wrong — ending the engagement abandons the client rather than working through normal, expected ambivalence about behavior change.
• D. Correct — motivational interviewing calls for exploring the client's own ambivalence and drawing out her personal motivations for change, rather than arguing the case for her.

Correct answer: D. The survivor generally receives the higher total applicable benefit, not both amounts added together.

Social Security coordinates a person's own retirement benefit with the survivor benefit rather than stacking them. Under the stated timing the survivor's total would generally be $2,400 per month.

• A. Fails: the two benefits are coordinated, not added, so the total is not $4,100.
• B. Fails: the death of a wage earner creates survivor benefits rather than ending family benefits.
• C. Fails: the survivor is not confined to the smaller personal amount; the higher total applies.
• D. Correct: the survivor generally receives the larger applicable total, here $2,400, rather than the sum.

Correct answer: D. The exchange is not covered by Section 1035, so the gain is taxable to the extent of the surrender.

Section 1035 permits tax-free exchanges of life insurance for life insurance or annuity, and of annuity for annuity. An annuity cannot be exchanged tax-free for a life policy, so the gain is recognized as ordinary income.

• A. Section 1035 lists permitted exchange directions; annuity to life insurance is not among them.
• B. No such nonrecognition-with-reset exists for this exchange.
• C. Annuity gain is ordinary income when distributed, regardless of holding period.
• D. Section 1035 allows annuity-to-annuity but not annuity-to-life-insurance exchanges tax-free.

• Source: IRC section 1035 (exchanges of insurance policies)

Correct answer: C. No gain or loss is recognized on the sale

When gifted property has declined in value (FMV at the gift date is less than the donor's basis), the dual basis rule applies: the donee uses the donor's carryover basis ($50,000) to measure gain, but uses the lower FMV at the gift date ($30,000) to measure loss. Since the $35,000 sale price falls between these two figures — greater than $30,000 but less than $50,000 — no gain or loss is recognized at all. Using $50,000 to compute a loss (A) or $30,000 to compute a gain (B) misapplies which basis governs which direction of the calculation, and D compounds that error.

• A. A loss can only be calculated using the FMV-at-gift basis ($30,000) when there's a loss, and even then the sale price here ($35,000) is above that FMV, so no loss exists; using the $50,000 carryover basis for a loss is the wrong basis rule for this scenario.
• B. The gain-basis (donor's carryover basis, $50,000) applies only when the sale price exceeds that carryover basis; since $35,000 is below $50,000, the gain basis doesn't apply, so this isn't a taxable gain scenario.
• C. Correct. Under the dual-basis gift rule, when FMV at the date of gift is less than the donor's basis, the sale price ($35,000) falls between the loss basis (FMV, $30,000) and the gain basis (donor's basis, $50,000), so no gain or loss is recognized.
• D. A loss is only recognized when the sale price is below the FMV-at-gift basis; here the sale price ($35,000) exceeds that $30,000 figure, so no loss exists under the dual-basis rule.

• Source: IRC section 1015 (basis of property acquired by gift)

Correct answer: B. Generation-Skipping Transfer (GST) tax, generally imposed at a flat rate equal to the top estate tax rate

Transfers that skip a generation (e.g., grandparent to grandchild, bypassing the parent) can trigger the Generation-Skipping Transfer tax in addition to any applicable gift or estate tax, once the donor's GST exemption is exhausted. GST tax is imposed at a flat rate equal to the top federal estate tax rate, making unplanned generation-skipping transfers potentially very costly.

• A. There's no separate income tax surcharge for generation-skipping trusts; the additional layer of tax is the GST tax, a transfer tax, not an income tax mechanism.
• B. Correct. Transfers to a generation more than one level below the transferor (skipping the parents' generation) that exceed the GST exemption are subject to GST tax, generally imposed at a flat rate equal to the top estate tax rate, on top of any gift or estate tax otherwise due.
• C. IRC §2704 addresses valuation rules for family-controlled entities, not a "luxury transfer tax"; it has nothing to do with the generation-skipping scenario described.
• D. Paying gift tax on the initial transfer does not exempt a transfer from GST tax; the GST tax is a separate, additional tax layered on top of gift or estate tax when a skip transfer exceeds the GST exemption.

• Source: IRC section 2601 (generation-skipping transfer tax imposed)

Correct answer: D. Implementation may involve the CFP professional and/or other professionals, with responsibilities that should be clearly agreed upon and appropriately documented

Step 6 (Implementation) explicitly contemplates that implementation may be shared with or delegated to other professionals such as attorneys, accountants, or insurance agents, provided the division of responsibilities is clearly established and documented. Referrals are not prohibited, but they also don't automatically eliminate the CFP professional's own ongoing duties under the engagement's agreed scope.

• A. Implementation doesn't have to be performed solely by the CFP professional — referring specialized work like trust drafting to a qualified attorney is an accepted part of implementation.
• B. A referral doesn't automatically end the planner's responsibility for the client — ongoing duties depend on the agreed scope of the engagement.
• C. Referrals to other professionals aren't categorically prohibited — they're routine when specialized expertise (such as legal drafting) is required.
• D. Correct. Implementation may be carried out by the CFP professional, other professionals, or both, with responsibilities clearly agreed upon and documented between the parties.

Correct answer: A. Market (systematic) risk

Diversification across companies and industries eliminates most unsystematic (company-specific) risk, including individual business and credit risk. Systematic (market) risk, however, affects essentially all securities and cannot be diversified away.

• A. Correct — systematic (market) risk affects all securities broadly and cannot be eliminated through diversification, so it remains largely undiversified even in a broad 50-stock portfolio.
• B. Wrong — business risk specific to individual companies is largely diversified away across 50 stocks in multiple industries.
• C. Wrong — the credit risk of any single issuer is company-specific and is substantially reduced by spreading holdings across many issuers.
• D. Wrong — unsystematic risk tied to any one company is exactly the type of risk diversification across many holdings is designed to reduce.

Correct answer: B. Within 30 calendar days of the plea.

CFP Board's procedural rules require certificants to report certain events, such as a felony charge or plea, within 30 calendar days. The duty is independent of the periodic renewal declaration.

• A. The period is 30 calendar days, and no principal's explanation is required to trigger the report.
• B. CFP Board requires certificants to self-report specified events, including a felony plea, within 30 calendar days.
• C. Waiting for renewal is too late; the self-report is event-driven and runs on a 30-day clock.
• D. Renewal disclosures supplement, but do not replace, the timely event-based report.

Correct answer: D. This is the framing effect — the client's reaction is influenced by how equivalent information is presented, whereas anchoring involves over-relying on an initial reference point when estimating a value

The framing effect describes how identical information can produce different reactions depending solely on how it is presented. Anchoring involves over-relying on an initial reference point when making a subsequent estimate — nothing is being estimated relative to a prior reference point here.

• A. Fixating on the 10% figure would be closer to anchoring, but the scenario is about how differently the client reacts to two mathematically identical statements depending on wording — that's framing, not anchoring on a number.
• B. Confirmation bias involves seeking or favoring information that supports an existing belief; there's no prior belief being confirmed here — the reaction is driven purely by how the same fact is worded.
• C. Loss aversion (weighing losses more heavily than equivalent gains) is related to but distinct from anchoring, and the two do not share a mechanism; conflating them misses the distinction being tested.
• D. Correct. Differing reactions to logically equivalent information based solely on how it's presented (gain-framed vs. loss-framed) is the framing effect; anchoring instead involves over-relying on an initial reference point or number when making an estimate, which is a distinct mechanism.

Correct answer: C. $18,340

RMD = prior year-end balance ÷ the Uniform Lifetime Table divisor for the participant's age. $486,000 ÷ 26.5 = $18,339.62, which rounds to $18,340.

• A. $16,343 doesn't match dividing the prior year-end balance by the applicable life expectancy factor.
• B. $20,250 overstates the RMD and doesn't correspond to dividing $486,000 by the factor of 26.5.
• C. Correct. RMD = prior year-end balance ÷ life expectancy factor = $486,000 ÷ 26.5 ≈ $18,340.
• D. $24,300 is too high and doesn't match the correct division of the account balance by the age-73 Uniform Lifetime Table factor.

• Source: IRS: Retirement topics - Required minimum distributions (RMDs)

Correct answer: A. A cross-purchase buy-sell agreement, with each owner as owner and beneficiary of a policy on the life of the other owner

A cross-purchase buy-sell agreement has each owner personally own and be the beneficiary of a life insurance policy on each other owner. On the first death, policy proceeds go directly to the surviving owner(s), who use them to buy the deceased owner's interest from the estate at the agreed price, providing liquidity and a smooth, pre-arranged ownership transition. Key person insurance instead protects the business against the financial loss of losing a key employee's talents or revenue-generating ability — it does not fund an ownership buyout of that person's interest. Split-dollar is a premium-sharing arrangement, and a Section 162 bonus plan is an executive compensation technique, neither of which is structured to fund a specific buy-sell obligation between owners.

• A. Correct — in a cross-purchase buy-sell agreement, each owner personally owns and is beneficiary of a policy on the other owner's life, using the proceeds to buy the deceased owner's interest at the agreed price.
• B. Wrong — key person insurance protects the business against the financial loss of losing a key person; it isn't structured to fund a buyout of a deceased owner's interest by the surviving owner.
• C. Wrong — split-dollar is a method of sharing policy costs and benefits between two parties, not the buy-sell funding structure itself.
• D. Wrong — a Section 162 bonus plan is an executive compensation technique using employer-paid premiums; it isn't designed to fund a business ownership transfer.

Correct answer: B. Direct the IRA custodian to transfer up to the annual Qualified Charitable Distribution limit directly to a qualified charity, which counts toward the RMD and is excluded from taxable income

A Qualified Charitable Distribution (QCD), transferred directly from the IRA custodian to a qualified charity, counts toward satisfying the RMD without being included in the account owner's taxable income — a more tax-efficient path than withdrawing, being taxed, and then deducting the after-tax donation as an itemized deduction.

• A. Wrong — this path still includes the RMD in taxable income first, and the itemized deduction may not fully offset it (and gives no benefit if the taxpayer does not itemize), so it is less direct than a QCD.
• B. Correct — a Qualified Charitable Distribution (QCD) sent directly from the IRA custodian to a qualified charity, up to the annual QCD limit, counts toward satisfying the RMD while being excluded entirely from taxable income.
• C. Wrong — an amount converted to a Roth cannot satisfy the RMD; the RMD must be taken first, and the conversion would increase current taxable income.
• D. Wrong — taking the RMD in-kind does not defer taxation; the fair market value of the distributed shares is taxable in the year received.

Correct answer: A. Both spouses must consent to gift-splitting, and if elected, each spouse is treated as having made one-half of the gift, regardless of which spouse's separate property funded it

Gift-splitting under IRC §2513 allows married couples to treat a gift made by one spouse to a third party as if made one-half by each spouse. It requires both spouses to consent and does not require the gifted property to be jointly owned; it can be entirely separate property of one spouse.

• A. Correct. Gift-splitting requires both spouses' consent (typically via a timely filed gift tax return), and once elected, each spouse is treated as making one-half of the gift, regardless of whose separate property actually funded it.
• B. Gift-splitting is designed to let a couple treat a gift as made half by each spouse even when the asset is titled solely in one spouse's name; sole titling doesn't disqualify the election when both spouses consent.
• C. Gift-splitting is not automatic; it requires an affirmative election with both spouses' consent, generally made on a filed gift tax return.
• D. Gift-splitting applies to gifts to any qualifying recipient, including a child, and is not limited to charitable gifts.

• Source: IRC section 2513 (gift splitting by spouses)

Correct answer: C. $48,900

Using the future value formula FV = PV × (1 + i)^n: FV = $30,000 × (1.05)^10 ≈ $30,000 × 1.6289 ≈ $48,867, which rounds to approximately $48,900.

• A. This understates the result, consistent with using fewer years of 5% compounding than the actual 10-year horizon to college.
• B. This is close to the figure you'd get compounding for only 8 years (the child's current age) rather than the correct 10-year horizon until college begins.
• C. Correct. $30,000 x (1.05)^10 ≈ $48,900, reflecting 10 years of 5% education-cost inflation on the current annual cost.
• D. This overstates the result, consistent with compounding for more than 10 years or assuming a higher inflation rate than 5%.

Correct answer: C. In-kind redemptions let the ETF hand low-basis shares to authorized participants without selling them in the market.

Most ETFs create and redeem shares in kind with authorized participants. This lets the fund purge low-basis securities without realizing gains, so fewer capital gains reach shareholders than in a mutual fund that sells holdings to meet redemptions.

• A. ETFs are generally regulated investment companies subject to the same distribution rules.
• B. Tax rates depend on holding period and income, not on how or when the fund shares trade.
• C. Removing the lowest-basis lots through in-kind exchanges avoids realizing gains inside the fund.
• D. Realized gains must still be distributed; reinvestment does not remove the tax liability.

Correct answer: C. All CFP professionals, regardless of compensation method, must accurately describe their compensation method to clients and prospective clients

The Standards of Conduct require every CFP professional — fee-only, commission-based, or fee-and-commission — to accurately represent how they are compensated to clients and prospective clients. There is no exemption based on compensation model or state law; this is a national, CFP Board-imposed obligation independent of state statutes.

• A. The disclosure requirement isn't limited to commission-based professionals; all CFP professionals must disclose their compensation method regardless of how they're paid.
• B. Fee-only professionals are not exempt from disclosure, and commission arrangements are not treated as "self-evident"; the Standards require accurate disclosure across all compensation models.
• C. Correct. The Standards of Conduct require every CFP professional, regardless of compensation method, to accurately describe their compensation method to clients and prospective clients.
• D. This is a CFP Board Standards requirement, not something contingent on state-specific fee-disclosure statutes; it applies uniformly to all CFP professionals under the Code and Standards.

Correct answer: B. Explore the emotional reaction, revisit goals and capacity for loss, and use a disciplined decision framework while staying open to real changes.

Loss aversion makes losses feel disproportionately painful. Empathetic discussion, education and an agreed decision process support better choices while remaining open to genuine changes in circumstances.

• A. Labeling the client irrational and ending the discussion damages the relationship and does not address the behavior.
• B. Correct: understand the emotion, revisit goals and risk capacity, and use a structured process.
• C. A recovery promise is unsupported and skips the review of whether the plan still fits her capacity for loss.
• D. Adding risk after a loss, for a client who cannot tolerate small losses, contradicts her capacity and tolerance.

• Source: CFP Board: Understanding the client's personal and financial circumstances

Correct answer: A. Up to 50% of benefits may be taxable once provisional income exceeds $25,000, and up to 85% may be taxable once provisional income exceeds $34,000 (single filer thresholds)

Social Security benefit taxation depends on 'provisional income' (AGI excluding Social Security, plus tax-exempt interest, plus 50% of Social Security benefits). For a single filer, provisional income between $25,000 and $34,000 makes up to 50% of benefits potentially taxable; above $34,000, up to 85% may be taxable. Here, provisional income = $30,000 + (50% × $40,000) = $50,000, which exceeds $34,000, so up to 85% of benefits are potentially includible — with the exact taxable amount computed using the IRS worksheet, not simply 85% of all benefits paid.

• A. Correct — the tiered thresholds ($25,000/$34,000 for single filers) determine the taxable percentage cap.
• B. Incorrect — taxability depends on provisional income, not on the age at which benefits are claimed; benefits can be taxable at any age.
• C. Incorrect — the 85% figure is a cap on the taxable portion once the upper threshold is crossed, not a flat rate triggered by any other income.
• D. Incorrect — taxability depends on provisional income from all sources, including other taxable income and half of the benefits, not just earned income from working.

Correct answer: D. 3 years

Divide the total pool by the daily benefit to get total days: $328,500 ÷ $300 = 1,095 days. Dividing by 365 days/year gives exactly 3 years of coverage at maximum utilization.

• A. Wrong — understates the benefit period; $328,500 ÷ $300/day is far more than 2 years' worth of days.
• B. Wrong — overstates the benefit period; the math only supports 3 years, not 5.
• C. Wrong — overstates the benefit period based on the given pool and daily maximum.
• D. Correct — $328,500 ÷ $300/day = 1,095 days, which equals exactly 3 years (365 x 3).

Correct answer: B. 6.15%

Taxable-equivalent yield = 4% / (1 - 0.35) = 6.15%. Credit, call, liquidity and state-tax differences can still affect the choice.

• A. This multiplies 4% by (1 - 0.35), which gives the after-tax yield of a taxable bond, not the equivalent yield.
• B. Correct: 4% / 0.65 is about 6.15%.
• C. This adds 35% of 4% to the yield instead of dividing by one minus the tax rate.
• D. This equals the municipal yield and ignores the tax advantage.

Correct answer: B. $2,500 long-term capital gain

Under IRC Section 1014, inherited property receives a basis step-up to fair market value as of the date of death ($85/share = $42,500 basis). Gain is measured against this stepped-up basis, so taxable gain is $45,000 proceeds minus $42,500 basis = $2,500. Separately, inherited property is automatically deemed to have been held long-term regardless of how long the beneficiary or decedent actually held it, so the $2,500 gain is long-term.

• A. Wrong classification: inherited property is always treated as long-term, regardless of the beneficiary's actual holding period.
• B. Correct. Stepped-up basis of $42,500 against $45,000 proceeds yields $2,500 gain, automatically long-term for inherited property.
• C. Wrong basis: uses the decedent's original 1995 cost basis instead of the date-of-death stepped-up basis.
• D. Wrong: treats the entire stepped-up value as if it were the taxable gain, rather than as the new basis used to compute gain on the later sale.

• Source: IRC section 1014 (basis of property acquired from a decedent)