What is Cash Account?

B is correct. A cash account is most suitable for Patricia because it requires full payment for all purchases and completely prohibits borrowing or leverage. This aligns with her risk-averse profile, fear of debt, and desire to avoid owing more than she invests. Cash accounts eliminate margin interest and leverage risk entirely.

A is unsuitable because margin accounts allow borrowing and leverage, directly contradicting Patricia's stated fear of debt and risk aversion. Even with "flexibility," margin accounts expose clients to potential losses exceeding their initial investment. C describes account management authority (discretionary), not account type, and does not address her leverage concerns. D still involves margin borrowing capabilities, which conflicts with her "terrified of debt" statement and risk-averse profile.

B is correct. Cash accounts prohibit short selling because short sales require borrowing securities from the broker, which is not permitted in cash accounts. Margin accounts are required for short selling because the broker must lend securities to the customer, and the customer must post collateral.

A is incorrect because maintenance fees are not the defining characteristic. Both account types may have fees depending on the broker. C is incorrect because both account types use the same settlement period (T+1 for stocks and bonds as of May 2024). The settlement timeline is determined by security type, not account type. D is incorrect because options can be traded in cash accounts (cash-secured puts, covered calls), though certain complex options strategies require margin accounts.

B is correct. David committed a free-riding violation by selling the security before paying for it and planning to use the sale proceeds as his payment. Regulation T gives a cash account customer until the end of the payment period (T+3 under T+1 settlement, so Thursday) to pay, but David sold the shares before paying for them and is using the sale proceeds to cover the purchase. The consequence is a 90-day freeze, requiring David to have cash in hand before making any future purchases during the restriction period.

A is incorrect because even though David made a profit, the free-riding violation still occurred. Profit or loss is irrelevant to settlement violations. C describes a different violation (good faith violation occurs when you use unsettled proceeds to buy, then sell before the original sale settles). D is incorrect because no cash account rule requires $25,000 in equity; the former FINRA pattern day trader rule, which set that minimum for margin accounts, was repealed effective June 4, 2026.

C is correct (the exception). Individual taxable brokerage accounts for adults can be either cash or margin accounts, depending on the client's choice and suitability. They are not barred from margin borrowing. Adults can choose margin accounts if they meet suitability requirements, sign margin agreements, and understand leverage risks.

A cannot borrow: IRAs cannot borrow on margin because the Internal Revenue Code treats any portion of an IRA used as security for a loan as distributed. Some firms offer a limited margin IRA that lets a trade settle before sale proceeds arrive, but it permits no borrowing. B cannot borrow: UTMA/UGMA custodial accounts cannot be margin accounts because minors cannot legally sign margin agreements (credit agreements). D cannot borrow: Coverdell ESAs are subject to rules similar to the IRA pledging rule, so they cannot be pledged for margin borrowing.

B is correct. Statements 1 and 3 are accurate.

Statement 1 is true: Cash accounts require full payment within the Regulation T payment period (T+3 under T+1 settlement), and a firm may require it sooner. No borrowing or partial payment is allowed. This is the defining characteristic of cash accounts.

Statement 2 is false: Cash accounts do not charge interest because they do not allow borrowing. Only margin accounts charge interest on borrowed funds (margin loans). Cash accounts are "cash only," meaning no credit extension.

Statement 3 is true: Cash accounts are ideal for risk-averse investors who want to avoid leverage, margin interest, and the risk of owing more than they invest. They eliminate leverage-related risks entirely.

Statement 4 is false: Cash accounts allow trading; the restriction is that you must have sufficient funds in the account or pay in full within the Regulation T payment period. You can trade before funds "clear" as long as you pay within the payment period. The issue is free-riding (selling a security before paying for it and using the sale proceeds as the payment), not prohibition of trading.