[Federal Register Volume 69, Number 129 (Wednesday, July 7, 2004)]
[Rules and Regulations]
[Pages 41060-41087]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 04-15081]
[[Page 41059]]
-----------------------------------------------------------------------
Part III
Securities and Exchange Commission
-----------------------------------------------------------------------
17 CFR Parts 200, 240, and 249
Collection Practices Under Section 31 of the Exchange Act; Final Rule
Federal Register / Vol. 69, No. 129 / Wednesday, July 7, 2004 / Rules
and Regulations
[[Page 41060]]
-----------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
17 CFR Parts 200, 240, and 249
RIN 3235-AJ02
[Release No. 34-49928; File No. S7-05-04]
Collection Practices Under Section 31 of the Exchange Act
AGENCY: Securities and Exchange Commission.
ACTION: Final rule; request for comments on Paperwork Reduction Act
burden estimates.
-----------------------------------------------------------------------
SUMMARY: The Securities and Exchange Commission is establishing new
procedures that govern the calculation, payment, and collection of fees
and assessments on securities transactions owed by national securities
exchanges and national securities associations to the Commission
pursuant to Section 31 of the Securities Exchange Act of 1934. Under
these new procedures, each exchange or association must provide the
Commission with data on its securities transactions. The Commission
will calculate the amount of fees and assessments due based on the
volume of these transactions and bill the exchange or association that
amount. The Commission is also adopting a temporary rule that will
enable it to calculate Section 31 fees and assessments using the new
procedures for the whole of its fiscal year 2004.
DATES: Effective Date: August 6, 2004, except Sec. 240.31T is
effective August 6, 2004 to January 1, 2005.
Compliance Date: The first Form R31 required by Rule 31 (covering
the month of July 2004) is due by August 13, 2004, the tenth business
day of August. The Form R31 submissions required by temporary Rule 31T
(for the months September 2003 to June 2004, inclusive) also are due by
August 13, 2004.
Comment Date: Comments regarding the collection of information
requirements within the meaning of the Paperwork Reduction Act of 1995
should be received by August 6, 2004.
ADDRESSES: Comments may be submitted by any of the following methods:
Electronic Comments
Use the Commission's Internet comment form (http://
www.sec.gov/rules/final.shtml); or
Send an e-mail to rule-comments@sec.gov. Please include
File Number S7-05-04 on the subject line; or
Use the Federal eRulemaking Portal http://
www.regulations.gov. Follow the instructions for submitting comments.
Paper Comments
Send paper comments in triplicate to Jonathan G. Katz,
Secretary, Securities and Exchange Commission, 450 Fifth Street, NW.,
Washington, DC 20549-0609.
All submissions should refer to File Number S7-05-04. This file
number should be included on the subject line if e-mail is used. To
help us process and review your comments more efficiently, please use
only one method. The Commission will post all comments on the
Commission's Internet Web site (http://www.sec.gov/rules/final.shtml).
Comments are also available for public inspection and copying in the
Commission's Public Reference Room, 450 Fifth Street, NW., Washington,
DC 20549. All comments received will be posted without change; we do
not edit personal identifying information from submissions. You should
submit only information that you wish to make available publicly.
FOR FURTHER INFORMATION CONTACT: Michael Gaw, Senior Special Counsel,
202-942-0158, or Christopher Solgan, Attorney, 202-942-7937; Division
of Market Regulation; Securities and Exchange Commission; 450 5th
Street, NW.; Washington, DC 20549-1001.
SUPPLEMENTARY INFORMATION:
I. Background
Beginning with fiscal year 2004 (``FY2004''), the Securities and
Exchange Commission (``Commission'') is required to prepare financial
statements audited by an external auditor. This requirement was created
by the Accountability of Tax Dollars Act of 2002 (``Accountability
Act'').\1\ In anticipation of its external audit and to further the
principles of the Accountability Act, the Commission reviewed its
policies and procedures for collecting, processing, and documenting its
accounts receivable, including the fees and assessments that national
securities exchanges and national securities associations
(collectively, ``self-regulatory organizations'' or ``SROs'') owe the
Commission pursuant to Section 31 of the Securities Exchange Act of
1934 (``Exchange Act'').\2\
---------------------------------------------------------------------------
\1\ Public Law 107-289, 31 U.S.C. 3515. The Accountability Act
requires each federal executive agency with appropriated budget
authority of more than $25 million to prepare annual audited
financial statements.
\2\ 15 U.S.C. 78ee.
---------------------------------------------------------------------------
Pursuant to Section 31(b) of the Exchange Act,\3\ a national
securities exchange must pay the Commission a fee based on the
aggregate dollar amount of sales of securities transacted on the
exchange.\4\ Pursuant to Section 31(c),\5\ a national securities
association must pay the Commission a fee based on the aggregate dollar
amount of sales of securities transacted by or through any member of
the association otherwise than on a national securities exchange.\6\
Section 31(d)\7\ requires a national securities exchange to pay the
Commission an assessment \8\ for each ``round turn transaction''\9\ in
a security future.\10\
---------------------------------------------------------------------------
\3\ 15 U.S.C. 78ee(b).
\4\ One exchange--the International Securities Exchange
(``ISE'')--trades only options. Three exchanges--the New York Stock
Exchange (``NYSE''), the Chicago Stock Exchange (``CHX''), and the
National Stock Exchange (``NSX'')--trade only equity securities.
Five exchanges--the American Stock Exchange (``Amex''), the Boston
Stock Exchange (``BSX''), the Chicago Board Options Exchange
(``CBOE''), the Pacific Exchange (``PCX''), and the Philadelphia
Stock Exchange (``Phlx'')--trade both options and equity securities.
\5\ 15 U.S.C. 78ee(c).
\6\ Currently, only one national securities association--the
National Association of Securities Dealers (``NASD'')--is subject to
this requirement. The National Futures Authority is also registered
with the Commission as a national securities association but
currently is not required to pay fees or assessments under Section
31.
\7\ 15 U.S.C. 78ee(d).
\8\ Paragraphs (b) and (c) of Section 31 require the Commission
to collect ``fees'' on sales of securities (other than security
futures and certain other enumerated securities). Paragraph (d) of
Section 31 requires the Commission to collect ``assessments'' on
transactions in security futures.
\9\ A ``round turn transaction'' is one purchase and one sale of
a contract of sale for future delivery. See 15 U.S.C. 78ee(d); 17
CFR 240.31(a)(15).
\10\ Currently, only two national securities exchanges--NQLX and
OneChicago--trade security futures.
---------------------------------------------------------------------------
The Commission has not previously defined ``sales of securities''
as used in Section 31 or mandated a formal procedure for aggregating
trading volumes for purposes of determining Section 31 fees. Instead,
the Commission has allowed the SROs to develop their own procedures.
However, in view of the requirements of the Accountability Act, the
Commission seeks to make the Section 31 calculation and collection
process more transparent, accurate, and reliable. Therefore, in January
2004, the Commission proposed new Rule 31, Form R31, and temporary Rule
31T to establish a procedure for the calculation and collection of
Section 31 fees and assessments.\11\
One of the most significant features of the Commission's proposed
procedure is that the calculation of fees and assessments would for the
first time be performed exclusively by the Commission. The
centralization of the
[[Page 41061]]
calculation function should provide a clearer basis for the amounts
collected. Moreover, a single methodology will be used for all SROs,
thereby making the calculation process more straightforward and easier
to understand. Finally, the likelihood of errors due to inconsistent
interpretation of the terms of Section 31 would be reduced.
---------------------------------------------------------------------------
\11\ See Securities Exchange Act Release No. 49014 (January 20,
2004), 69 FR 4018 (January 27, 2004) (File No. S7-05-04)
(``Proposing Release'').
---------------------------------------------------------------------------
The proposal also sought to codify the SRO procedures that have
proven effective in generating auditable and dependable results, while
curbing others that have proven unreliable or are impractical to audit.
One practice that the Commission believes has proven effective is
calculating Section 31 fees based on data provided by the exchanges to
a registered clearing agency that allow securities transactions
negotiated on the exchange to clear and settle. This is the mechanism
currently used to calculate Section 31 fees for the national securities
exchanges that trade options. All options that trade on an exchange are
cleared and settled by the Options Clearing Corporation (``OCC''), a
clearing agency registered under Section 17A of the Exchange Act.\12\
OCC and the options exchanges have established arrangements whereby OCC
tabulates the aggregate dollar amount of sales of options that occur on
the exchanges, based on the data captured by OCC's systems. OCC then
calculates the Section 31 fees owed by the exchanges for that trading
volume.\13\
---------------------------------------------------------------------------
\12\ 15 U.S.C. 78q-1.
\13\ In addition, OCC clears and settles all transactions in
security futures occurring on the two national securities exchanges
that trade security futures. OCC tabulates the total number of round
turn transactions in security futures and pays the Section 31
assessments on behalf of these exchanges.
---------------------------------------------------------------------------
The Commission believes that clearing data provide an accurate
measure of trading volume because there are strong incentives for all
market participants to ensure their accuracy. A registered clearing
agency cannot transfer the correct amount of funds and securities
between participant accounts to settle transactions without accurate
data. Accordingly, the market participants involved have a strong
incentive to detect and correct any errors prior to settlement so as to
prevent an incorrect amount of funds or securities from being
transferred. The internal and external audits of registered clearing
agencies, as well as regulatory reviews performed by the Commission,
enhance the reliability of clearing data. For all these reasons, the
Commission believes that, in codifying a procedure for the calculation
and collection of Section 31 fees, clearing data should be the primary
source of the trading volumes for both the equities exchanges and the
options exchanges. Thus, pursuant to the rules adopted by the
Commission today, clearing data will serve as the primary basis for the
Commission's calculations of Section 31 fees and assessments. This
approach follows the arrangements among OCC and the options and
security futures exchanges, although the Commission rather than OCC
will perform the actual calculations. In addition, national securities
exchanges that trade equity securities are henceforth required to
provide the Commission with clearing data captured by the National
Securities Clearing Corporation (``NSCC'') as their primary source of
the sales volume subject to Section 31 fees.
Comments on the proposal were generally positive. The Securities
Industry Association (``SIA'') stated that ``the SEC has devised a
reasonable approach that generally should yield accurate numbers and
will enable the SEC to verify that correct amounts are being
collected.''\14\ CHX stated that it ``understands the Commission's
desire to implement a more defined process for the collection of this
data and, in general, agrees with the Commission's proposal to use
clearing data for that purpose.''\15\ NYSE stated that it ``support[s]
the Commission's desire to make uniform the way in which the collection
process is conducted among the various [SROs] subject to the Section 31
fee'' and that it ``believes that the desired approach is
feasible.''\16\ A joint comment submitted by OCC and five options
exchanges called the Commission's decision to rely on clearing data
``well founded.''\17\
---------------------------------------------------------------------------
\14\ Letter from Ernest A. Pittarelli, Chairman, Securities
Industry Association Operations Committee, to Jonathan G. Katz,
Secretary, Commission, dated March 5, 2004 (``SIA Comment'').
\15\ Letter from David A. Herron, Chief Executive Officer, CHX,
to Jonathan G. Katz, Secretary, Commission, dated February 26, 2004
(``CHX Comment'').
\16\ Letter from Darla C. Stuckey, Corporate Secretary, NYSE, to
Jonathan G. Katz, Secretary, Commission, dated March 17, 2004
(``NYSE Comment'').
\17\ Letter from Amex, CBOE, ISE, OCC, PCX, and Phlx to Jonathan
G. Katz, Secretary, Commission, dated March 1, 2004 (``OCC
Comment'').
---------------------------------------------------------------------------
However, one commenter, BSE, disagreed with the Commission's
proposal to rely primarily on clearing data to determine the aggregate
dollar amount of sales of equity securities that are subject to Section
31 fees.\18\ According to BSE, ``the proposal will require numerous
exceptions which could likely lead to it becoming unworkable and
inherently unreliable.'' BSE argued instead that the most appropriate
source of data is each exchange's trade reporting system. Furthermore,
BSE claimed that, by allowing one SRO (NASD) to report its sales volume
based on its trade reporting system,\19\ the Commission was unfairly
endorsing that SRO's trade reporting system over the systems of other
SROs.
---------------------------------------------------------------------------
\18\ See letter from John A. Boese, Vice President, BSE, to
Jonathan G. Katz, Secretary, Commission, dated March 16, 2004 (``BSE
Comment'').
\19\ See infra notes 46-47 and accompanying text.
---------------------------------------------------------------------------
As discussed above, the Commission believes that clearing data
provide an accurate measure of trading volume. While the Commission
acknowledges that certain sales of equity securities subject to Section
31 fees are not cleared and settled by NSCC, and thus do not appear in
NSCC's clearing data, their number is not so great as to impair the use
of clearing data as the Commission's primary source of trading volume.
In the near term, exchanges that are subject to Section 31 must
supplement clearing data by providing data captured in their own trade
reporting systems. In time, NSCC and the equities exchanges may develop
new means to bring more of these trades into the clearing record. This
should further simplify Section 31 calculations as well as strengthen
the risk management function that NSCC performs on behalf of the
equities exchanges and broker-dealer participants.
Under the procedure proposed by the Commission and being adopted
today, NASD is required to tabulate aggregate sales volume based on its
own trade reporting systems rather than by obtaining clearing data.
This approach should not be viewed as favoring one SRO's trade
reporting system over another's. While the Commission believes that
clearing data is the most accurate record of covered sales when it is
available, the structure of the over-the-counter (``OTC'') equity
market--transactions on which NASD is liable for Section 31 fees--makes
clearing data unavailable for a large volume of sales. Many
internalized trades in equity securities, for example, are never
reported to NSCC. Furthermore, the OTC market includes a large number
of electronic communication networks (``ECNs'') that might not provide
NSCC with a trade-by-trade record of their activity. ECNs generally
clear and settle their trades using the facilities of NSCC but are not
required to provide a trade-by-trade record. Many ECNs report their
trades to NSCC in their capacity as, or through, ``qualified special
[[Page 41062]]
representatives'' (``QSRs'').\20\ QSRs may net their trades and report
to NSCC only net changes in positions. Without trade-by-trade data, the
aggregate dollar amount of sales of securities cannot be determined for
purposes of Section 31.
---------------------------------------------------------------------------
\20\ A QSR is a member of NSCC that operates, has an affiliate
that operates, or clears for a broker-dealer that operates an
automated execution system where the designated clearing agency
member is on the contra-side of every transaction. See Form R31
Instructions; NSCC Rule 39.
---------------------------------------------------------------------------
Internalized trades and trades reported through a QSR represent a
substantial number of all sales of securities for which NASD incurs a
liability to the Commission under Section 31,\21\ and the Commission
does not believe it would be practical to require NASD to separate
these trades from other trades for which NSCC can obtain a complete
trade-by-trade record. Therefore, in a case such as this where there
are significant gaps in the clearing data, the Commission believes, on
balance, that the best alternative is to rely on the SRO's trade
reporting systems for the aggregate sales volume. However, in a case
where an exchange (such as BSE) that has only a small number of ECNs
(or only one ECN) that report trades directly to NSCC as a QSR, the
exchange should obtain the data that it can from NSCC and supplement
the clearing data by using its trade reporting systems to provide the
sales volume transacted by the ECNs. The Commission believes that this
approach will provide the most accurate record of the exchange's
volume.
---------------------------------------------------------------------------
\21\ The Commission has been informed that there are in excess
of 20 ECNs trading in the OTC markets that may account for up to 50%
of OTC volume.
---------------------------------------------------------------------------
II. Details of New Rule 31 and Form R31
A. Description of Rule
Except for the modifications discussed below, the Commission is
adopting new Rule 31 as proposed. Most of the proposed definitions did
not generate comment.
Under new Rule 31, ``covered exchanges'' \22\ and ``covered
associations'' \23\ (collectively, ``covered SROs'' \24\) are required
to pay Section 31 fees and assessments in the manner set forth in the
rule. These terms do not impose new liabilities on any entity; in the
absence of a Commission rule, the same entities would be required by
the statute to pay Section 31 fees and assessments.
---------------------------------------------------------------------------
\22\ A ``covered exchange'' is ``any national securities
exchange on which covered sales or covered round turn transactions
occur.'' 17 CFR 240.31(a)(5).
\23\ A ``covered association'' is ``any national securities
association by or through any member of which covered sales or
covered round turn transactions occur otherwise than on a national
securities exchange.'' 17 CFR 240.31(a)(4).
\24\ See 17 CFR 240.31(a)(8).
---------------------------------------------------------------------------
Paragraph (b)(1) of new Rule 31 requires a covered SRO to submit to
the Commission a completed Form R31 within ten business days after the
end of each month.\25\ A covered exchange must provide on Form R31 the
aggregate dollar amount of all ``covered sales'' \26\ and the total
number of ``covered round turn transactions'' \27\ occurring on the
exchange; a covered association must provide the aggregate dollar
amount of all covered sales and the total number of covered round turn
transactions occurring by or through any member of the association
otherwise than on a national securities exchange.\28\ The Commission
will calculate the amount of Section 31 fees due from a covered SRO by
multiplying the aggregate dollar amount of its covered sales by the
``fee rate,'' \29\ and the amount of Section 31 assessments due from a
covered SRO by multiplying the total number of covered round turn
transactions by the ``assessment charge.'' \30\ The fee rate is set by
the Commission in a procedure set forth in Section 31(j) of the
Exchange Act; \31\ the assessment charge is set by Section 31(d) of the
Exchange Act \32\ and cannot be changed by the Commission. Rule 31 does
not alter the manner in which either the fee rate or the assessment
charge is determined.
---------------------------------------------------------------------------
\25\ See 17 CFR 240.31(b)(1).
\26\ A ``covered sale'' is ``a sale of a security, other than an
exempt sale or a sale of a security future, occurring on a national
securities exchange or by or through any member of a national
securities association otherwise than on a national securities
exchange.'' 17 CFR 240.31(a)(6). See also infra notes 52-54 and
accompanying text (discussing ``exempt sales'').
\27\ A ``covered round turn transaction'' is ``a round turn
transaction in a security future, other than a round turn
transaction in a future on a narrow-based security index, occurring
on a national securities exchange or by or through a member of a
national securities association otherwise than on a national
securities exchange.'' 17 CFR 240.31(a)(7).
\28\ A covered sale occurring by or through a member of an
association on a national securities exchange would create liability
under Section 31 for the exchange rather than the association.
\29\ The ``fee rate'' is the fee rate applicable to covered
sales under Section 31(b) or (c) of the Exchange Act, 15 U.S.C.
78ee(b) or (c), as adjusted from time to time by the Commission
pursuant to Section 31(j), 15 U.S.C. 78ee(j). See 17 CFR
240.31(a)(12).
\30\ The ``assessment charge'' is the amount owed by a covered
SRO for a covered round turn transaction pursuant to Section 31(d)
of the Exchange Act, 15 U.S.C. 78ee(d). See 17 CFR 240.31(a)(1).
\31\ 15 U.S.C. 78ee(j).
\32\ 15 U.S.C. 78ee(d).
---------------------------------------------------------------------------
As provided in Section 31(e) of the Exchange Act,\33\ Section 31
fees and assessments are due twice per year, by March 15 and September
30. These are the two ``due dates'' in Rule 31.\34\ The September 30
due date covers the period January 1 to August 31 of the same calendar
year; the March 15 due date covers the period September 1 to December
31 of the preceding calendar year. These are the two ``billing
periods'' in Rule 31.\35\ Before each of the due dates, the Commission
will send a ``Section 31 bill'' to each covered SRO showing the total
amount due from the covered SRO for the billing period, as calculated
by the Commission. The amount of a covered SRO's Section 31 bill will
equal the sum of the covered SRO's monthly liabilities under Section 31
for each month in the billing period.\36\ A covered SRO is required to
pay the Commission the full amount stipulated in its Section 31 bill by
the due date.\37\
---------------------------------------------------------------------------
\33\ 15 U.S.C. 78ee(e).
\34\ See 17 CFR 240.31(a)(10).
\35\ See 17 CFR 240.31(a)(2).
\36\ See 17 CFR 240.31(a)(17) and (c)(1).
\37\ See 17 CFR 240.31(c)(3). The covered SRO may pay its
Section 31 bill directly or through a designated clearing agency
acting as agent of the covered SRO. See infra Section II(B)(1).
---------------------------------------------------------------------------
Form R31 requires a covered SRO to report trade data in separate
parts, depending on how the trades are reported and settled. Part I of
Form R31 requires a covered exchange to provide the aggregate dollar
amount of covered sales and the total number of covered round turn
transactions that: (1) Occurred on the exchange; (2) had a ``charge
date'' \38\ in the month of the report; and (3) the exchange reported
to a ``designated clearing agency.'' \39\ Also in Part I, a covered
exchange that trades ``physical delivery exchange-traded options'' \40\
or security futures that are
[[Page 41063]]
settled by physical delivery of the underlying securities must
separately report the aggregate dollar amount of covered sales that
resulting from options exercises or matured security futures.\41\
---------------------------------------------------------------------------
\38\ The ``charge date'' is the date on which a covered sale or
covered round turn transaction occurs for purposes of determining
the liability of a covered SRO pursuant to Section 31. The charge
date is: (i) The settlement date, with respect to any covered sale
(other than a covered sale resulting from the exercise of an option
settled by physical delivery or from the maturation of a security
future settled by physical delivery) or covered round turn
transaction that a covered SRO is required to report to the
Commission based on data that the covered SRO receives from a
designated clearing agency; (ii) the exercise date, with respect to
a covered sale resulting from the exercise of an option settled by
physical delivery; (iii) the maturity date, with respect to a
covered sale resulting from the maturation of a security future
settled by physical delivery; and (iv) the trade date, with respect
to all other covered sales and covered round turn transactions. See
17 CFR 240.31(a)(3); see also infra notes 56-64 and accompanying
text (discussing revisions made to definition of ``charge date'' in
final rule).
\39\ A ``designated clearing agency'' means a clearing agency
registered under Section 17A of the Exchange Act, 15 U.S.C. 78q-1,
that clears and settles covered sales or covered round turn
transactions. See 17 CFR 240.31(a)(9).
\40\ A ``physical delivery exchange-traded option'' is ``a
securities option that is listed and registered on a national
securities exchange and settled by the physical delivery of the
underlying securities.'' 17 CFR 240.31(a)(16).
\41\ See infra Section II(B)(3) (revising the Commission's
proposal relating to covered sales resulting from exercises of
physical delivery exchange-traded options and from matured security
futures).
---------------------------------------------------------------------------
Rule 31 requires a covered SRO to provide in Part I of Form R31
only the data supplied to it by a designated clearing agency.\42\ A
designated clearing agency, upon request, must provide the data in its
possession needed by the covered SRO to complete Part I.\43\ Under Rule
31, two entities currently meet the criteria for being ``designated
clearing agencies'': OCC, which clears and settles transactions in
options and security futures, and NSCC, which clears and settles
transactions in equity securities. A covered SRO that trades both
options and equities must obtain data from both designated clearing
agencies and must separately report that data in Part I of Form R31.
This will allow the Commission to distinguish the covered SRO's covered
sale volume in equities from its covered sale volume in options.
---------------------------------------------------------------------------
\42\ See 17 CFR 240.31(b)(5).
\43\ See 17 CFR 240.31(b)(4)(i). See also infra Section II(B)(9)
(discussing possible liability of a designated clearing agency).
---------------------------------------------------------------------------
Parts II and III of Form R31 are designed to capture data on
covered sales that are not reported (or are not reported on a trade-by-
trade basis) to a designated clearing agency. Part II requires a
covered exchange to report the aggregate dollar amount of covered sales
that: (1) Occurred on the exchange; (2) had a charge date in the month
of the report; (3) the exchange did not report to a designated clearing
agency; and (4) the exchange captured in a ``trade reporting system.''
\44\ The covered exchange is required to separate its Part II covered
sales into those that were reported to a designated clearing agency by
a QSR and those that were ``ex-clearing transactions.'' \45\ Thus, a
covered exchange that permits its members to report exchange trades to
NSCC through a QSR would include such trades in Part II of Form R31
rather than Part I. Although these trades are reported to NSCC for
settlement, they must be included in Part II rather than Part I because
they were not reported to a designated clearing agency by the covered
exchange itself, as Part I requires.
---------------------------------------------------------------------------
\44\ A ``trade reporting system'' is ``an automated facility
operated by a covered SRO used to collect or compare trade data.''
17 CFR 240.31(a)(18).
\45\ An ``ex-clearing transaction'' is a securities transaction
that is not reported to a designated clearing agency and clears and
settles otherwise than through a designated clearing agency. See
Form R31 Instructions. A cash, next day, or seller's option trade
that is reported to NSCC should be reported in Part I; a cash, next
day, or seller's option trade that is not reported to NSCC should be
reported in Part II (assuming this trade were captured in a trade
reporting system). See infra Section II(B)(7).
---------------------------------------------------------------------------
In addition, Part II requires a covered association to provide the
aggregate dollar amount of covered sales that: (1) Occurred by or
through a member of the association otherwise than on a national
securities exchange; (2) had a charge date in the month of the report;
and (3) the association captured in a trade reporting system.\46\ Thus,
even if the covered association reports some of its covered sales to a
designated clearing agency, the association should not report any of
these covered sales in Part I. Instead, the association should rely on
its trade reporting systems to provide data in Part II on all covered
sales captured by those systems.\47\
---------------------------------------------------------------------------
\46\ In paragraphs (b)(3)(ii) and (iii) of proposed Rule 31, the
Commission inadvertently used the term ``trade comparison system''
to describe the facility in which a covered association captures
trade data. In Rule 31 as adopted, the Commission has corrected this
to the defined term ``trade reporting system.''
\47\ Currently, there is one covered association, NASD. It
operates two trade reporting systems within the meaning of Rule 31,
the Automated Confirmation Transaction Service (``ACT'') and the
Trade Reporting and Confirmation Service (``TRACS''). TRACS is the
trade reporting system for the Alternative Display Facility
(``ADF''), a pilot system that NASD operates for members that choose
to quote or effect trades in Nasdaq securities otherwise than
through Nasdaq's SuperMontage system or on an exchange. See
Securities Exchange Act Release No. 46249 (July 24, 2002), 67 FR
49821 (July 21, 2002) (approving ADF pilot). ACT is the trade
reporting system for all other OTC equity trades that must be trade-
reported pursuant to NASD rules.
---------------------------------------------------------------------------
Part III of Form R31 requires a covered exchange to report the
aggregate dollar amount of covered sales that: (1) Occurred on the
exchange; (2) had a charge date in the month of the report; and (3) the
exchange neither captured in a trade reporting system nor reported to a
designated clearing agency. Part III also requires a covered
association to report the aggregate dollar amount of covered sales
that: (1) Occurred by or through a member of the association otherwise
than on a national securities exchange; (2) had a charge date in the
month of the report; and (3) the association did not capture in a trade
reporting system. The Commission anticipates that there will be very
few if any Part III covered sales reported by the covered exchanges,
because all trading activity should be captured by the exchanges' trade
reporting systems. In the OTC market, however, various covered sales
currently are not captured in an NASD trade reporting system.
Therefore, NASD must report the following in Part III:
Any covered sales in odd lots (i.e., less than 100 shares)
that are not captured in a trade reporting system (and thus not
reported in Part II); \48\
---------------------------------------------------------------------------
\48\ See NASD Rules 4632(e)(2), 6130(a), and 6420(e)(2).
---------------------------------------------------------------------------
Covered sales resulting from the exercise of options
settled by physical delivery and not listed or traded on a national
securities exchange;\49\ and
---------------------------------------------------------------------------
\49\ See NASD Rules 4632(e)(6), 4642(e)(5), and 6420(e)(8)
(providing that ``purchases or sales of securities effected upon the
exercise of an option pursuant to the terms thereof or the exercise
of any other right to acquire securities at a pre-established
consideration unrelated to the current market'' need not be reported
to ACT).
---------------------------------------------------------------------------
Covered sales where the buyer and seller have agreed to
trade at a price substantially unrelated to the current market for the
security.\50\
---------------------------------------------------------------------------
\50\ See NASD Rules 4632(e)(5), 4642(e)(4), 6420(e)(5), and
6920(e)(2) (providing that transactions at a price unrelated to the
current market--for example, to make a gift--need not be reported to
ACT). A gift of a security without consideration is not a ``sale''
for purpose of Sections 31(c) of the Exchange Act, 15 U.S.C.
78ee(c), and is not subject to Section 31 fees. However, if
consideration is given for the securities, even if that
consideration is not at the current market price, the transaction is
a covered sale, provided the securities in question are registered
on a national securities exchange. See 15 U.S.C. 78ee(c).
---------------------------------------------------------------------------
Currently, these trades are not captured in any trade reporting
system. NASD employs a paper-based reporting system to obtain the trade
volume for these sales and to calculate the Section 31 fees due on such
volume.
Not every sale of a security is subject to Section 31 fees, and not
every transaction in a security future is subject to Section 31
assessments. The statute itself exempts certain sales of securities and
round turn transactions in security futures, and the Commission has
exempted others pursuant to the authority granted by Section 31(f) of
the Exchange Act.\51\ As discussed below, paragraph (a)(11) of Rule 31
sets forth a comprehensive list of all sales of securities (other than
security futures) that are exempt from Section 31 fees (``exempt
sales'').
---------------------------------------------------------------------------
\51\ 15 U.S.C. 78ee(f).
---------------------------------------------------------------------------
Paragraphs (a)(11)(i) to (v) restate exemptions set forth in
paragraphs (a) to (e) of former Rule 31-1. Paragraph (a)(11)(vi), which
exempts any sale of an option on a security index, combines an
exemption granted by statute (for a sale of an option on a non-
``narrow-based security index'' \52\) with an exemption that the
Commission has previously granted by rule (for a sale of an option
[[Page 41064]]
on a narrow-based security index).\53\ The net result is that the sale
of an option on any security index--be it narrow-based or non-narrow-
based--is exempt from Section 31 fees. Paragraph (a)(11)(vi) of new
Rule 31 clarifies this point. Paragraph (a)(11)(vii) of new Rule 31
incorporates language from the statute that specifically exempts sales
of bonds, debentures, and other evidences of indebtedness. Paragraph
(a)(11)(viii) creates a new exemption for ``registered riskless
principal sales.'' \54\
---------------------------------------------------------------------------
\52\ A ``narrow-based security index'' has the same meaning as
in Section 3(a)(55)(B) and (C) of the Exchange Act, 15 U.S.C.
78c(a)(55)(B) and (C). See 17 CFR 240.31(a)(13).
\53\ See Securities Exchange Act Release No. 45371 (January 31,
2002), 67 FR 5199 (February 5, 2002).
\54\ See infra Section II(B)(8).
---------------------------------------------------------------------------
Section 31 applies only to sales of securities, not to purchases of
securities; a covered SRO incurs liability to the Commission under
Section 31 for only one side (the sell side) of the transaction. Thus,
all of the exemptions listed in paragraph (a)(11) of new Rule 31 are
only for certain sales of securities because Section 31 does not impose
fees on purchases of securities.
Currently, one type of security futures transaction is exempt from
assessments under Section 31: a round turn transaction in a future on a
narrow-based security index.\55\ This exemption is incorporated
directly into the definition of ``covered round turn transaction'' in
paragraph (a)(7) of new Rule 31.
---------------------------------------------------------------------------
\55\ See former Rule 31-1(g) under the Exchange Act, 17 CFR
240.31-1(g).
---------------------------------------------------------------------------
The Commission adopted the definitions in Rule 31 as proposed, with
the following exceptions:
Billing Period. The Commission is making a minor revision to the
definition of ``billing period,'' by changing the words ``to the close
of'' to ``through'' in two places. Thus, the two billing periods under
Rule 31 are ``January 1 through August 31'' and ``September 1 through
December 31.'' The Commission believes that the final definition
preserves the intended meaning but with greater economy of words.
Charge Date. One commenter stated: ``In light of the totality of
the burden and duplicity of effort which would result from the proposed
rules, [the commenter] does not believe that the issue of charge dates
adds significantly to the endeavor.'' \56\ Two other commenters asked
for clarification as to whether the equities exchanges should use the
trade date or the settlement date as the charge date for covered sales
under Rule 31.\57\ One of these commenters noted that some SROs have
traditionally used the trade date and may be reluctant to change.\58\
---------------------------------------------------------------------------
\56\ BSE Comment.
\57\ See letter from Donald F. Donahue, President, National
Securities Clearing Corporation, Inc., to Jonathan G. Katz,
Secretary, Commission, dated May 12, 2004 (``NSCC Comment''); NYSE
Comment.
\58\ See NYSE Comment.
---------------------------------------------------------------------------
The Commission believes that the concept of a ``charge date''--
clearly defined and consistently applied across markets--is necessary
for establishing an accurate and reliable system for calculating and
collecting Section 31 fees and assessments. Section 31 establishes two
billing periods over the course of the year (January 1 through August
31 and September 1 through December 31). Any system for calculating
fees and assessments must, among other things, specify whether a trade
that is negotiated at the end of August but not settled until the
beginning of September ``occurs'' in August or September for purposes
of Section 31. Covered SROs also must determine whether a trade
``occurs'' before or after a fee rate change, so that the appropriate
aggregate dollar amounts of securities sales are multiplied by the
correct fee rate. Under existing arrangements for the collection and
payment of Section 31 fees, covered SROs make these determinations,
albeit implicitly.\59\ New Rule 31 codifies and makes explicit the
charge date concept.\60\
---------------------------------------------------------------------------
\59\ As a general matter, NASD and the equities exchanges
currently use the trade date as the basis for Section 31
calculations, while OCC, the options exchanges, and the security
futures exchanges use the settlement date. However, for sales of
securities resulting from the maturation of security futures or the
exercise of physical delivery exchange-traded options, OCC bases its
Section 31 calculations on the date of maturation or exercise.
\60\ Rule 31 requires covered SROs to submit Form R31 on a
monthly basis, so there will be 11 additional occasions (other than
the August/September transition and any transitions caused by fee
rate changes) when a discrepancy might arise as to when a sale
``occurred.''
---------------------------------------------------------------------------
However, the Commission believes that certain changes to the
definition of ``charge date'' are appropriate. As discussed below,\61\
the OCC Comment is prompting the Commission to revise the manner in
which covered sales resulting from options exercises and matured
security futures are being treated under Rule 31. The Commission
believes that, in light of this revision, it would be helpful to
clarify the definition of ``charge date'' to specify when covered sales
resulting from options exercises or matured security futures ``occur''
for purposes of Section 31. The proposed definition was as follows:
---------------------------------------------------------------------------
\61\ See infra Section II(B)(3).
Charge date means the date on which a covered sale or covered
round turn transaction occurs for purposes of determining the
liability of a covered SRO pursuant to section 31 of the Act. The
charge date is the settlement date with respect to a covered sale or
a covered round turn transaction that a covered exchange reports to
a designated clearing agency. The charge date is the trade date with
respect to a covered sale occurring on a covered exchange that the
exchange does not report to a designated clearing agency, and with
respect to any covered sale occurring otherwise than on a national
---------------------------------------------------------------------------
securities exchange.
The Commission is adopting the first sentence of the definition as
proposed and replacing the remaining sentences as follows:
The charge date is: (i) The settlement date, with respect to any
covered sale (other than a covered sale resulting from the exercise
of an option settled by physical delivery or from the maturation of
a security future settled by physical delivery) or covered round
turn transaction that a covered SRO is required to report to the
Commission based on data that the covered SRO receives from a
designated clearing agency; (ii) The exercise date, with respect to
a covered sale resulting from the exercise of an option settled by
physical delivery; (iii) The maturity date, with respect to a
covered sale resulting from the maturation of a security future
settled by physical delivery; and (iv) The trade date, with respect
to all other covered sales and covered round turn transactions.
Under the proposed definition, the charge date of covered sales
resulting from options exercises or matured security futures would have
been the trade date. But because the physical delivery of equity
securities underlying an option or security future is not effected by a
trade on a public market, the Commission believes that it would be more
appropriate to employ the terms ``exercise date'' and ``maturity
date,'' which are more specific to the type of transaction being
undertaken. Trade date, exercise date, and maturity date are
substantively similar in that, on these dates, instructions to effect a
sale of securities are issued. They contrast with the settlement date,
which is the date on which the movement of funds and securities between
the accounts of the trade counterparties has been completed.
Rules 31 and 31T and Form R31 require covered exchanges to obtain
from one or more designated clearing agencies a tabulation of the
aggregate dollar amount of their covered sales and to report that data
to the Commission in Part I of Form R31. For covered sales of options
and equity securities that a covered exchange reports to a designated
clearing agency, the Commission believes that the settlement date is
the most practical charge date. A designated clearing agency knows the
settlement date for every trade that it clears and settles. The
Commission has determined to use the settlement date rather than the
trade date as the charge
[[Page 41065]]
date in these cases because it would be more burdensome for a
designated clearing agency to track the trade date than the settlement
date. This approach codifies the existing methods used by OCC to
calculate Section 31 fees for the options exchanges and Section 31
assessments for the security futures exchanges. The Commission believes
that the settlement date also should be used as the charge date for all
covered sales that a covered exchange reports to NSCC.
For covered sales resulting from the exercise of an option settled
by physical delivery or from the maturation of a security future
settled by physical delivery,\62\ the charge date is the exercise date
or the maturity date, respectively. The Commission is employing
exercise date and maturity dates as charge dates under these
circumstances because OCC already tabulates these sales based on
exercise date and maturity date, and codifying this approach will place
the least amount of burden on the designated clearing agencies and
covered SROs, while satisfying the Commission's need to obtain accurate
data on covered exchanges' trading volume.
---------------------------------------------------------------------------
\62\ There must be physical delivery of the underlying
securities for there to be a covered sale. The cash settlement of a
derivative product does not result in a covered sale.
---------------------------------------------------------------------------
For all covered sales reported in Part II of Form R31, the charge
date is the trade date. The Commission believes that it would be
impractical for covered SROs to use the settlement date for such sales.
Part II is designed to capture covered sales the records of which
cannot be obtained, or cannot be obtained on a trade-by-trade basis,
from a designated clearing agency. Instead, information on these
covered sales will be obtained from a covered SRO's trade reporting
system. For these trades, the Commission believes that the only
practical choice for a charge date is the trade date. Part III data
also will use the trade date for the charge date, with one exception:
The charge date for covered sales resulting from the exercise of OTC
options that settle by physical delivery will be the exercise date.\63\
---------------------------------------------------------------------------
\63\ Currently, Section 31 fees on these covered sales are paid
by NASD and NASD collects data on these transactions from its
members using a paper-based reporting system.
---------------------------------------------------------------------------
By taking the approach of having different charge dates in
different circumstances, a different fee could arise from essentially
the same trade depending on whether it occurred on an exchange or OTC.
Under Rule 31, a covered association will use the trade date as the
charge date for all of its covered sales, while a covered exchange will
use the settlement date for any covered sale that it reports to NSCC.
The Commission notes that the potential for a different fee rate
applying will arise only the few days before a fee rate change goes
into effect. Moreover, the Commission believes that applying different
charge dates to different covered SROs in these limited circumstances
will create no significant arbitrage opportunities that might affect
order-routing practices.\64\
---------------------------------------------------------------------------
\64\ The following example will demonstrate the effect of a
different charge date applying during a transitional period created
by a fee rate change. Assume that equity security XYZ is traded on
covered exchange E and OTC through members of covered association A,
and that a fee rate increase becomes effective on April 1.
Therefore, for the last three business days of March, a different
fee rate will apply based on whether XYZ is traded OTC through
members of association A (which will use the lower fee rate) or on
exchange E (where the trades will not ``occur'' until they are
settled in April, thus making them subject to the higher fee rate).
However, the size of the difference is likely to be very small. For
example, on April 1, 2003, the Commission implemented the largest
increase in the fee rate since Congress amended Section 31 to allow
fee rate changes. The Commission increased the fee rate from $25.20
per million of sales transacted to $46.80 per million, an increase
of $21.60 per million. For a covered sale having the principal
amount of $25,000, this fee rate differential would result in an
extra charge to B of only $0.54 ($21.60/$1 million x $25,000). This
example also assumes that exchange E reports its covered sales to
NSCC for clearance and settlement, broker B is a member of both E
and A, and both E and A pass Section 31 fees to their members.
---------------------------------------------------------------------------
Fee Rate. The Commission made minor, non-substantive changes to the
definition of ``fee rate.'' The Commission made this revision to
harmonize the manner in which sections of the Exchange Act are cited
throughout Rule 31.
B. Issues Raised by Commenters
The Commission received nine comments on the proposal.\65\ Many of
these comments discussed specific issues relating to the proposed
rules. The Commission's responses to these comments appear below.
---------------------------------------------------------------------------
\65\ See e-mail from Thomas J. Westergard to rule-
comments@sec.gov dated February 23, 2004; letter from William
O'Brien, Chief Operating Officer, Brut LLC, to Commission, dated
March 8, 2004 (``Brut Comment''); letter from Kathleen O'Mara,
Associate General Counsel, NASD, to Jonathan G. Katz, Secretary,
Commission, dated April 30, 2004 (``NASD Comment''); BSE Comment;
CHX Comment; OCC Comment; NSCC Comment; NYSE Comment; SIA Comment.
---------------------------------------------------------------------------
1. Section 31 Payments Made by Agent
The Commission proposed to require every covered SRO to pay its
Section 31 fees or assessments directly to the Commission rather than
through an agent, but requested comment on whether designated clearing
agencies should be permitted to make payments on behalf of covered
SROs.\66\ Three comments disagreed with this proposal.\67\ One comment,
submitted jointly by OCC and five exchanges for which OCC clears and
settles options transactions, stated that OCC presently calculates and
pays Section 31 fees to the Commission on behalf of the options
exchanges \68\ and urged the Commission to continue to allow this
arrangement.\69\ After carefully considering the comments submitted,
the Commission believes it is reasonable to continue the current
practice of allowing a designated clearing agency to pay Section 31
fees and assessments on behalf of one or more covered exchanges.
Therefore, the Commission has added the phrase ``directly or through a
designated clearing agency acting as agent'' to paragraph (c)(3) of
Rule 31 to specify that the payment need not be made directly by the
covered SRO. However, ultimate responsibility for making the payment
remains with the covered SRO. If the Commission does not receive the
total amount stipulated in a covered exchange's Section 31 bill by the
due date, the covered exchange--not the designated clearing agency--
will be in violation of Rule 31 (or temporary Rule 31T).\70\
---------------------------------------------------------------------------
\66\ See Proposing Release, 69 FR at 4026.
\67\ See BSE Comment; NSCC Comment; OCC Comment.
\68\ OCC also calculates and pays Section 31 assessments to the
Commission on behalf of the two security futures exchanges, although
these exchanges were not signatories to the OCC Comment. In
addition, since the Commission proposed Rule 31, a sixth national
securities exchange--BSE--has started to trade options through its
facility, the Boston Options Exchange. OCC clears and settles
options transactions negotiated on BSE. BSE, like the security
futures exchanges, was not a signatory to the OCC Comment.
\69\ The BSE Comment agreed with the position taken by OCC and
the other five options exchanges. In its comment, NSCC stated
generally that it agreed with the view that designated clearing
agencies should be able to submit payment on behalf of covered SROs
but that it had not yet determined ``if this is a service it could
reasonably provide to a covered SRO.''
\70\ The Commission expects that a designated clearing agency
will clearly indicate the amount that it is paying on behalf of each
covered exchange for which it is acting as agent. If a covered
exchange has requested a designated clearing agency to pay some or
all of its Section 31 fees and assessments on its behalf, the
Commission also expects that the covered exchange will indicate the
total amount that it owes, the amount that it is submitting to the
Commission directly, and the amount to be expected from a designated
clearing agency.
---------------------------------------------------------------------------
2. Timeframe for Submission of Form R31
Paragraph (b)(1) of Rule 31 requires every covered SRO to submit a
completed Form R31 to the Commission within ten business days after the
end
[[Page 41066]]
of the month.\71\ One commenter, NASD, recommended instead that covered
SROs be allowed 12 business days.\72\ In its comment, NASD stated that
it currently allows its members to submit trade data for odd-lot
transactions and exercises of OTC options by the tenth calendar day of
each month, and thus that it might not have sufficient time to compile
this information for reporting in Part III of Form R31.
---------------------------------------------------------------------------
\71\ 17 CFR 240.31(b)(1).
\72\ See NASD Comment.
---------------------------------------------------------------------------
The Commission is adopting this provision as proposed, with only a
minor technical change.\73\ The Commission believes that a maximum of
ten business days is necessitated by external requirements to which the
Commission is subject. First, as the Commission has previously noted,
Section 31 requires each covered SRO to make a payment no later than 30
days after the close of the January-through-August billing period (on
September 30).\74\ To allow sufficient time for the Commission to
prepare and send the Section 31 bills before September 30, and for the
covered SROs to pay the bills, the Commission believes it must receive
the data on the Form R31 submissions no later than the middle of the
month. Second, in addition to the obligation to prepare audited
financial statements annually, the Commission is required to submit
unaudited financial statements to the Office of Management and Budget
(``OMB'') within 21 days after the end of each quarter. For the
Commission to meet this requirement, it must determine and book its
accounts receivable within this very short time frame. Thus, the
Commission believes that ten business days strikes an appropriate
balance between allowing the covered SROs sufficient time to tabulate
and submit their trade data and the Commission's need to meet external
deadlines set by the Exchange Act and the accounting requirements to
which the Commission is subject.
---------------------------------------------------------------------------
\73\ The Commission added the words ``a completed'' between the
words ``submit'' and ``Form R31'' in paragraph (b)(1) to emphasize
that only a submission that includes all relevant data and that has
been properly executed complies with the filing requirements of new
Rules 31 and 31T.
\74\ See Proposing Release, 69 FR at 4022, n.37. The other
billing period allows for two and a half months between the close of
the period (December 31) and the due date for payment (March 15).
---------------------------------------------------------------------------
The Commission does not believe that the NASD Comment raises any
issue that precludes adopting the ten-business-day requirement. The
Commission notes that paragraph (b)(1) of Rule 31 allows covered SROs
ten business days in which to submit a completed Form R31, while NASD's
rules require members to submit their Part III trade data within ten
calendar days. Because of weekends, NASD always will have at least two
business days from when the member data is due and when the aggregate
data that is self-reported by the members must be provided on Form R31.
Moreover, if NASD finds that two business days is not sufficient time,
NASD might wish to consider reducing the time frame within which its
members must self-report their trade data or to examine ways to
systematize the submission of this data and thereby reduce the time
that it spends processing the paper forms.\75\
---------------------------------------------------------------------------
\75\ In addition, one commenter stated that ten business days
would be enough time under the proposal, but that ``[t]he real
burden would be the daily reconciliation required between the
information reported back to the exchanges by NSCC and the
exchange's own trade reporting systems.'' BSE Comment. This comment
is addressed in Section VII(D)(1)(b), infra.
---------------------------------------------------------------------------
3. Settlement by Physical Delivery
Options are settled by one of two methods: Cash settlement or
physical delivery of the underlying securities. In the former case, the
option is settled by payment of the difference between the strike price
of the option and the market price of the underlying security or
security index. Because there is no sale of securities upon exercise of
a cash-settled option, no SRO incurs a Section 31 liability upon
settlement. With physical delivery, on the other hand, one party must
sell to the other party (at the strike price) the underlying securities
to fulfill the option contract. Such sale would create Section 31
liability for the covered exchange on which the related option had been
traded.
Presently, Section 31 fees for sales of securities resulting from
the exercise of physical delivery exchange-traded options are paid to
the Commission by OCC on behalf of the options exchanges. When OCC
receives notice that an option held in the account of one of its
participants is being exercised, OCC instructs NSCC to move funds and
securities between NSCC participant accounts to effect the exercise.
OCC also calculates the Section 31 fees on such covered sales and
includes these fees as part of its aggregate Section 31 payment to the
Commission.\76\ OCC currently does not assign the sales of securities
resulting from such exercises to a particular SRO.
---------------------------------------------------------------------------
\76\ For example, assume that X is long 10 put options and Y is
short 10 put options, and that X and Y hold accounts at OCC and
NSCC. The security underlying the options is ABC, the strike price
is $20, and the options are settled through physical delivery. X
elects to exercise the put options and the exercise is assigned to
Y. Y now must buy from X 1000 shares of ABC (10 puts x 100 shares
underlying each put) for a price of $20,000 ($20/share x 1000
shares). OCC instructs NSCC to move $20,000 from Y's NSCC account to
X's NSCC account and to move 1000 shares of ABC from X's NSCC
account to Y's NSCC account. OCC also deducts a fee from X's OCC
account in the amount of $20,000 times the Section 31 fee rate in
effect when the exercise occurs.
---------------------------------------------------------------------------
As stated in the Proposing Release, the Commission believes that it
is not appropriate for these fees to be combined in a single payment
that obscures the SRO on whose behalf the payment is being made.\77\
Each covered SRO is individually liable for Section 31 fees and
assessments; therefore, the Commission should be able to match each
Section 31 payment with the specific covered SRO that had the legal
duty to make it. Because OCC had informed the Commission that it would
be extremely costly and difficult for it to configure its systems to
trace the exchanges on which physical delivery exchange-traded options
are originally sold,\78\ the Commission proposed instead to deem the
exercise sales as occurring OTC for purposes of Section 31 and to
assign them to the covered association by or through the members of
which the sales of the underlying securities were effected.\79\ The
Commission acknowledged in the Proposing Release that this arrangement
would represent a departure from current practices. Nevertheless, the
Commission believed this was the least burdensome means of
accomplishing the necessary goal of assigning these exercises to a
specific covered SRO.
---------------------------------------------------------------------------
\77\ See Proposing Release, 69 FR at 4022.
\78\ OCC stated that this is because the exercise of an option
takes place through instructions communicated by the holder of the
option to OCC, rather than by instructions given to an exchange. See
OCC Comment.
\79\ See paragraph (b)(3)(i) of proposed Rule 31.
---------------------------------------------------------------------------
Two comments disagreed with this approach,\80\ arguing that the
proposal would be unduly burdensome for NASD (the covered association
that would have been assigned Section 31 liability for these covered
sales), OCC, and the options exchanges. Nevertheless, OCC and the
options exchanges recognized the Commission's concern to assign every
covered sale to a specific covered SRO and recommended a method of
assigning covered sales resulting from options exercises. While the OCC
Comment states that it is still impractical to trace options back to
the exchange on which they were traded, it suggests that a reasonable
proxy would be the exchange's pro rata share of the dollar volume from
the previous month of all options settled by physical delivery.
---------------------------------------------------------------------------
\80\ See NASD Comment; OCC Comment.
---------------------------------------------------------------------------
The Commission agrees with this suggestion and is incorporating it
into
[[Page 41067]]
the final rule by adding new paragraph (b)(4)(ii) to Rule 31. This
paragraph explains the manner in which a designated clearing agency
must conduct this pro rata attribution.\81\ The Commission also has
added new text to paragraph (b)(2)(ii) of Rule 31 to recognize that a
covered exchange, rather than a covered association, must report in
Part I of its Form R31 the aggregate dollar amount of covered sales
resulting from the exercise of physical delivery exchange-traded
options, as reflected in the data provided by a designated clearing
agency that clears and settles options or security futures. Proposed
paragraph (b)(3)(i), which would have required a covered association to
report the aggregate dollar amount of covered sales resulting from the
exercise of physical delivery exchange-traded options, has been
deleted.\82\ Corresponding changes have been made to Form R31.
---------------------------------------------------------------------------
\81\ The following example will illuminate how new paragraph
(b)(4)(ii) of Rule 31 will operate. Assume that OCC is required by
Rules 31 and 31T to provide exchange E with clearing data to
complete its Form R31 for September 2003. Assume also that exchange
E in August 2003 accounted for 10% of the aggregate dollar amount of
covered sales of options that settled by physical delivery. For
September 2003, OCC should allocate to exchange E 10% of the
aggregate dollar amount of covered sales resulting from the exercise
of physical delivery exchange-traded options and having a charge
date in September 2003. For purposes of the pro rata allocation,
exchange E's volume of cash-settled options is irrelevant. A cash-
settled option cannot lead to a covered sale of the underlying
securities, so the volume of cash-settled options should not be
included in the proxy for exercise volume.
\82\ The remaining portions of paragraphs (b) and (c) have been
renumbered accordingly.
---------------------------------------------------------------------------
In light of the OCC Comment, the Commission believes it would be
appropriate to treat covered sales resulting from the maturation of
security futures settled by physical delivery in the same manner
because the means by which the underlying securities are transferred is
substantially similar. A security future is a standardized contract
between two parties to trade a security at a specific future date. If
the security future is settled by physical delivery, one party upon
maturation of the security future is required to sell to the other
party the underlying securities at a predetermined price, which could
result in a covered sale. As with physical delivery exchange-traded
options, OCC currently pays Section 31 fees on behalf of covered
exchanges that trade security futures but does not identify the amount
being paid on behalf of each exchange. The Commission believes that a
reasonable proxy for the actual dollar amount of sales of securities
resulting from the maturation of security futures would be a covered
exchange's pro rata share of the volume of all security futures settled
by physical delivery and traded on all covered exchanges in the
previous month. This approach is reflected in paragraphs (b)(2)(ii) and
(b)(4)(ii) of Rule 31, as adopted.
4. Brut Comment
One commenter, Brut, is an ECN that currently reports trades to the
consolidated tape through BSE. However, BSE generally does not report
Brut's trades to NSCC for clearance and settlement. Instead, Brut
reports its trades to NSCC either directly, in its capacity as a QSR,
or indirectly, through the facilities of a second SRO (generally
NASD).\83\ Brut urged the Commission to provide guidance that would
prevent it from being double-billed for transactions reported in this
manner.\84\
---------------------------------------------------------------------------
\83\ Brut stated that it often submits trades to ACT at the
request of clients that utilize the risk-management functionality
that ACT offers. See Brut Comment.
\84\ The Commission notes that neither Section 31 of the
Exchange Act nor any Commission rule imposes fees on Brut or any
other broker-dealer for covered sales. Section 31 does not give the
Commission authority to assess fees on any broker-dealer. These fees
are imposed on Brut by the SRO(s) of which it is a member. See infra
Section IV.
---------------------------------------------------------------------------
The Commission does not believe that Brut's comment requires any
revisions to the proposed rule. Under Rule 31 as proposed and as
adopted, a covered exchange must report to the Commission on Form R31
only covered sales that occur on that exchange.\85\ Similarly, a
covered association must report only covered sales that occur by or
through any member of the association otherwise than on a national
securities exchange.\86\ Thus, a covered association may report a
covered sale in its Form R31 data only if the sale did not occur on a
national securities exchange, even if an ECN submitted a clearing-only
report to the covered association for that sale. In cases where an ECN
reports a covered sale to a covered exchange for purposes of printing
the sale to the consolidated tape, the Commission, for purposes of
Section 31, will consider the covered sale to have occurred on the
covered exchange. Thus, the covered exchange rather than the covered
association is required to report the covered sale on its Form R31.
---------------------------------------------------------------------------
\85\ See 17 CFR 240.31(b)(2).
\86\ See 17 CFR 240.31(b)(3).
---------------------------------------------------------------------------
Any covered association that receives and forwards clearing-only
reports to a designated clearing agency for trades that occur on a
covered exchange should ensure that these trade reports are not
tabulated as part of the association's covered sales. A covered
association may need to coordinate with its ECN members to ensure that
these trades are properly marked so that the association can filter
them out of the trade data that the covered association tabulates on
Form R31.
5. Assigning Trades to the Appropriate Covered SRO
The CHX Comment asked the Commission to address how the new rules
will treat sales of securities that occur through the Intermarket
Trading System (``ITS'').\87\ CHX described the following situation:
SRO A sends an ITS commitment to a member of SRO B to sell a security,
and the commitment is executed on SRO B. Under existing arrangements,
SRO A pays the Section 31 fee arising from this trade and passes the
fee to its member that initiated the trade. According to CHX, the SROs
have devised this system because SRO B does not have the ability to
require members of SRO A to reimburse it for the cost of its Section 31
fees. CHX stated that ``[p]roposed Rule 31 might be read to suggest
that SRO B should pay the fee on the transaction--because it occurred
on SRO B--but that outcome is not consistent with current practice.''
CHX requested the Commission to provide guidance on both the ITS
situation and other similar circumstances.
---------------------------------------------------------------------------
\87\ ITS is a National Market System plan approved by the
Commission pursuant to Section 11A of the Exchange Act, 15 U.S.C.
78k-1, and Rule 11Aa3-2 thereunder, 17 CFR 240.11Aa3-2. ITS was
developed to facilitate intermarket trading in exchange-listed
equity securities based on the current quotation information
emanating from the linked markets. Securities eligible for trading
through ITS include securities listed or traded pursuant to unlisted
trading privileges on NYSE, Amex, or a regional exchange that
substantially meets the listing requirements of NYSE or Amex. ITS
enables a broker-dealer that is physically present in one market
center to execute orders, as principal or agent, in an ITS security
at another market center.
---------------------------------------------------------------------------
One such circumstance was described in a no-action letter sent by
the Commission's Division of Market Regulation to CHX and NASD in March
2001.\88\ The no-action letter was precipitated by the following facts.
Securities that are listed and traded on Nasdaq also may be traded on a
national securities exchange, such as CHX, pursuant to unlisted trading
privileges (``UTP'').\89\ CHX specialists can trade
[[Page 41068]]
these securities either on CHX itself or through a Nasdaq execution
system.\90\ In cases where a CHX specialist sells a Nasdaq security
through a Nasdaq system, both CHX and NASD were collecting and paying
the Section 31 fees associated with this trading volume. To avoid the
double payment, CHX and NASD established an arrangement whereby CHX
would be the SRO responsible for collecting and paying Section 31 fees
for these sales. In its March 2001 letter, the Division raised no
objection to this arrangement.
After carefully considering the CHX Comment and the situation
raised in the March 2001 no-action letter, the Commission has
determined to adopt Rule 31 as proposed. The adoption of Rule 31,
therefore, rescinds the position taken by Commission staff in the no-
action letter, and covered SROs may need to revisit current
arrangements they may have for reassigning liability for Section 31
fees. Section 31(b) of the Exchange Act provides that a national
securities exchange must pay a fee to the Commission based on the
aggregate dollar amount of covered sales ``transacted on such national
securities exchange.'' \91\ In the ITS situation discussed above, the
sale is not ``transacted'' on CHX because the CHX member has routed the
order through ITS for execution at another exchange. Similarly, in the
case of a Nasdaq security sold by CHX members through a Nasdaq system,
the sale is not ``transacted'' on CHX. Therefore, the Commission
concludes that CHX does not have Section 31 liability for such covered
sales.
---------------------------------------------------------------------------
\88\ See letter from Annette L. Nazareth, Director, Division,
Commission, to Paul O'Kelly, Executive Vice President, CHX, and
James Shelton, Associate Director, NASD, dated March 5, 2001.
\89\ See 15 U.S.C. 78l(f) (setting forth the circumstances in
which a national securities exchange may trade securities pursuant
to UTP). See also Securities Exchange Act Release No. 45081
(November 19, 2001), 66 FR 59273 (November 27, 2001) (extending UTP
eligibility to all Nasdaq securities).
\90\ At the time of the no-action letter, the relevant Nasdaq
execution system was SelectNet. However, Nasdaq has since replaced
SelectNet with SuperMontage. See Securities Exchange Act Release No.
43863 (January 19, 2001), 66 FR 8020 (January 26, 2001) (approving
SuperMontage).
\91\ 15 U.S.C. 78ee(b).
---------------------------------------------------------------------------
Besides adhering to the terms of the governing statute, this
approach should simplify the tabulation of the covered sales occurring
at each SRO and thereby facilitate the creation of auditable records of
the fees calculated and collected by the Commission. The Commission
believes that it would be needlessly complicated to devise special
provisions on Form R31 for a covered exchange to record covered sales
that in fact occurred in another market. Great care would have to be
taken to ensure not only that these ``away transactions'' were properly
tabulated and recorded on the Form R31 of the covered exchange that
routed them away, but also that they were not recorded as part of the
covered sales of the covered SRO where the orders were executed. The
Commission believes it will be simpler and more transparent for each
covered SRO to report all covered sales that occur on its market.
The Commission acknowledges that a covered SRO on which a covered
sale occurs as a result of an incoming ITS order may not be able to
collect funds to pay the Section 31 fee from one of its own members.
However, Section 31 does not address the manner or extent to which
covered SROs may seek to recover the amounts that they pay pursuant to
Section 31 from their members. Covered SROs may wish to devise new
arrangements for passing fees between themselves so that the funds are
collected from the covered SRO that originated the ITS order.\92\ The
legal duty to pay the Section 31 fee, however, remains with the covered
SRO on which the sale was in fact transacted.
---------------------------------------------------------------------------
\92\ Any such arrangement would have to be established pursuant
to Section 19(b) of the Exchange Act, 15 U.S.C. 78s(b), and Rule
19b-4 thereunder, 17 CFR 240.19b-4.
---------------------------------------------------------------------------
6. No De Minimis Exemption
In the Proposing Release, the Commission asked whether it would be
appropriate for Rule 31 and Form R31 to include a de minimis exemption
from the obligation to provide the aggregate dollar amount of covered
sales that are ex-clearing trades.\93\ Under this suggested approach, a
covered exchange would not be required to tabulate and report the
aggregate dollar amount of covered sales for Part II of Form R31, if
the exchange certified that the amount was below a certain threshold.
The Commission also sought comment on what would be an appropriate
threshold. In its comment letter, CHX stated that over a 30-day time
period it averaged five ex-clearing trades per day with an average
daily value of $16.5 million. CHX urged the Commission to adopt a de
minimis exemption from Rule 31 for these transactions until such time
as they could be systematically tabulated by NSCC and thereby included
in Part I of Form R31.
The Commission does not believe that commenters have provided
sufficient rationale to warrant the creation of a de minimis exemption
for reporting ex-clearing trades. Even though these covered sales
cannot be included in the Part I data, the Commission believes that
they can be provided in Part II without undue difficulty. In CHX's
case, the Commission believes that it would be inappropriate to exempt
sales representing such a significant dollar amount, and that
tabulating and reporting such a small number of covered sales should
not be unduly burdensome.\94\ Furthermore, if the Commission were to
exempt these sales, the result this fiscal year would \95\ result in
some amount of foregone fees.\96\
---------------------------------------------------------------------------
\93\ See Proposing Release, 69 FR at 4025.
\94\ The Commission notes that, in a previous case where it
granted an exemption from Section 31, the amounts in question were
smaller and the costs of tracking the transactions involved much
greater. See Securities Exchange Act Release No. 45371 (January 31,
2002), 67 FR 5199 (February 2, 2002). In this matter, the Commission
exercised its authority under Section 31(f) of the Exchange Act, 15
U.S.C. 78ee(f), to exempt sales of options on narrow-based security
indexes from Section 31 fees. In the absence of the exemption, an
exchange trading such options would have to monitor the value of the
underlying indexes on almost a moment-by-moment basis and pay
Section 31 fees on option sales only when an index fell under the
definition of ``narrow-based.'' The Commission noted that the fees
paid by exchanges for all sales of options on indexes that were, or
in the near future might become, narrow-based was below $35,000. The
Commission concluded that an exemption was warranted ``[i]n light of
currently low dollar volume of sales of options on narrow-based
security indexes and the resources that exchanges and associations
must devote to monitoring the narrow-based status of the underlying
indexes.'' 67 FR at 5200. However, the Commission noted that, to the
extent that the dollar volume of sales of options on narrow-based
security indexes might increase, the Commission might reevaluate
whether the exemption were warranted. See id.
\95\ In later years, however, exempting these sales would result
in a higher fee rate on the remaining non-exempt sales. See 15
U.S.C. 78ee(j) (requiring the Commission to adjust the fee rate to
attain the target offsetting collection amount).
\96\ Currently, the fee rate is $23.40 per million dollars of
covered sales. See Securities Exchange Act Release No. 49332
(February 27, 2004), 69 FR 10278 (March 4, 2004) (making mid-year
adjustment to fee rate). Absent an exemption, CHX would owe the
Commission $386.10 per day for this $16.5 million of covered sales
($16.5 million/day x $23.40/million) or approximately $8,494.20 per
month (assuming 22 business days/month x $386.10/day).
---------------------------------------------------------------------------
7. Cash, Next-Day, and Seller's Option Trades
Generally, when a trade is forwarded to a registered clearing
agency for settlement, the clearing agency will settle the trade in
three business days (i.e., T+3). However, a covered sale might be
settled other than through the regular T+3 settlement process. For
example, a covered sale might settle by cash payment on the same day
(i.e., T+0), next day (i.e., T+1), or seller's option (i.e., the seller
may choose the date on which it wishes the trade to settle). In its
comment letter, NSCC stated that it and the covered SROs will have to
reach a common understanding for the treatment of cash, next-day, and
seller's option trades for purposes of Rule 31.
NSCC has records of cash, next-day, and seller's option trades
occurring on NYSE and Amex since before September 1, 2003. For the
other covered
[[Page 41069]]
exchanges, NSCC did not begin receiving trade reports of cash, next-
day, and seller's options trades until mid-April 2004. For any month in
which NSCC has data on covered sales resulting from cash, next-day, and
seller's option trades, NSCC should provide that data to the respective
covered exchanges for inclusion in Part I of Form R31. For any covered
sales resulting from cash, next-day, or sellers option trades that a
covered exchange did not report to NSCC, the covered exchange should
treat these as ex-clearing transactions and report them in Part II
(assuming that such trades were captured in the exchange's trade
reporting system).
8. Transactions With Multiple Parties
Several commenters asked whether certain transactions involving
multiple parties would be treated as a single covered sale under Rule
31.\97\ Some of the transactions mentioned by the commenters involve
only a single trade on a securities market, coupled with a prior
arrangement between one of the trade counterparties and a third party
to shift the settlement obligations for the trade to the third
party.\98\ To that extent, the Commission believes that these
transactions include only one covered sale under Rule 31. However, one
type of multi-party transaction--a so-called ``riskless principal''
transaction--may result in either one covered sale or two, depending on
the circumstances. In a ``riskless principal'' transaction, a broker-
dealer receives an order from a customer to buy (sell) a security,
purchases (sells) the security as principal from (to) a third party,
and immediately sells (buys) the security to (from) the customer at the
same price. The broker-dealer's position can be considered riskless to
the extent that the two transactions offset each other and the broker-
dealer incurs no net liability to its principal account. Nevertheless,
a riskless-principal transaction differs from the other multi-party
transactions mentioned by the commenters in that two separate
executions occur on an exchange or an OTC market.
---------------------------------------------------------------------------
\97\ See BSE Comment; CHX Comment; NSCC Comment; NYSE Comment.
\98\ These include ``flips,'' ``step-outs,'' and ``correspondent
clearing transactions.''
---------------------------------------------------------------------------
The Commission may relieve an SRO from incurring a Section 31
liability for a particular type of sale of securities by exercising its
authority under Section 31(f), which states: ``The Commission, by rule,
may exempt any sale of securities or any class of sales of securities
from any fee or assessment imposed by [Section 31], if the Commission
finds that such exemption is consistent with the public interest, the
equal regulation of markets and brokers and dealers, and the
development of a national market system.'' \99\ The Commission hereby
finds that, subject to certain conditions discussed below, an exemption
from Section 31 fees for the second of two offsetting principal
transactions meets this standard.
The Commission is codifying this exemption as part of the
definition of ``exempt sale'' in paragraph (a)(11) of Rule 31. New
paragraph (a)(11)(viii) provides that an exempt sale includes a
``recognized riskless principal sale.'' The Commission has added a new
paragraph (a)(14) to Rule 31 to define ``recognized riskless principal
sale'' as a sale of a security where all of the following conditions
are satisfied:
---------------------------------------------------------------------------
\99\ 15 U.S.C. 78ee(f).
---------------------------------------------------------------------------
A broker-dealer receives from a customer an order to buy
(sell) a security;
The broker-dealer engages in two contemporaneous
offsetting transactions as principal, one in which the broker-dealer
buys (sells) the security from (to) a third party and the other in
which the broker-dealer sells (buys) the security to (from) the
customer; and
The Commission, pursuant to Section 19(b)(2) of the
Exchange Act,\100\ has approved a rule change submitted by the covered
SRO on which the second of the two contemporaneous offsetting
transactions occurs that permits that transaction to be reported as
riskless.
---------------------------------------------------------------------------
\100\ 15 U.S.C. 78s(b)(2).
---------------------------------------------------------------------------
These requirements are designed to ensure that the two transactions
in which the broker-dealer acts as principal are the economic
equivalent of a single agency transaction or, in other words, that the
combined transaction is indeed riskless for the broker-dealer. The
Commission believes that the term ``recognized riskless principal
sale'' is appropriate because a sale of securities occurring on a
covered SRO will qualify for the Section 31 exemption only if, among
other things, such sale can be recognized in the covered SRO's audit
trail as having a second, offsetting transaction. The rule filing
process affords the Commission the opportunity to assure that the
covered SRO's trade reporting rules and audit trail systems are
sufficiently robust to allow riskless principal transactions to be
recognized as such.
The Commission previously has approved rule changes relating to
riskless principal transactions for one covered SRO, NASD. In 1981, the
Commission approved an NASD rule change requiring a non-market-maker
member to report two offsetting transactions in which the member acts
as principal as a single agency trade.\101\ In 1999, the Commission
approved a second NASD rule change that extended this trade reporting
convention to all NASD members, including market makers.\102\ In the
latter case, the Commission stated that ``[r]educing the number of
transactions required to be reported should result in a corresponding
reduction in transaction fees.'' \103\ That outcome was reached by
treating the two offsetting principal transactions as a single agency
transaction, resulting in a single covered sale. The Commission
believes that it now would be appropriate to exercise its authority
under Section 31(f) of the Exchange Act to formally exempt the second
of the two offsetting transactions. The codified exemption makes clear
that only sales that meet the enumerated criteria qualify for the
exemption.
---------------------------------------------------------------------------
\101\ See Securities Exchange Act Release No. 17501 (January 29,
1981), 46 FR 10891 (February 4, 1981).
\102\ Securities Exchange Act Release No. 41208 (March 24,
1999), 64 FR 15386 (March 31, 1999) (``Second NASD Riskless
Principal Order'').
\103\ Second NASD Riskless Principal Order, 64 FR at 15388.
---------------------------------------------------------------------------
9. Possible Liability of a Designated Clearing Agency
Paragraph (b)(4) of proposed Rule 31 stated that ``[a] designated
clearing agency shall provide a covered SRO, upon request, the data in
its possession needed by the covered SRO to complete Part I of Form
R31.'' In the Proposing Release, the Commission stated that, if a
covered SRO did not submit its Form R31 in a timely manner but the
delay was caused by a designated clearing agency, the designated
clearing agency, rather than the covered SRO, would be in violation of
Rule 31.\104\ In its comment letter, NSCC stated that its ability to
provide covered SROs with trade data ``will involve dealing on a
continuous basis with a number of complex definitional and operational
issues'' and that ``[i]t would be inappropriate for NSCC as an
intermediary data processing entity to be subject to implied potential
liability arising out of delays that it might incur in seeking to
perform the data reporting function [required by Rule 31].'' NSCC,
taking the view that ``this implied imposition of potential liability *
* * does not appear in the Proposed Rule itself,'' argued that ``it
would be appropriate for the Commission to avoid
[[Page 41070]]
the implication of such liability'' in the final rule.
---------------------------------------------------------------------------
\104\ See Proposing Release, 69 FR at 4024.
---------------------------------------------------------------------------
The Commission does not believe that the NSCC Comment warrants a
revision of paragraph (b)(4), and the Commission is adopting it as
proposed (although it has been renumbered as paragraph (b)(4)(i)). With
this provision, the Commission is imposing specific responsibilities on
designated clearing agencies, including NSCC. A designated clearing
agency's failure to perform those responsibilities would be a violation
of Rule 31. To that extent, the Commission disagrees with NSCC's view
that the liability of a designated clearing agency is only ``implied''
by Rule 31. However, the Commission recognizes that a designated
clearing agency's ability to carry out its responsibilities under Rule
31 is dependent on its receiving timely, complete, and accurate data
from the covered exchanges for which it clears and settles
transactions. Before assigning liability to any party for a potential
violation of Rule 31, the Commission would examine the facts and
circumstances of each situation to ascertain the cause of the potential
violation and the party or parties responsible. The Commission notes,
furthermore, that a designated clearing agency is responsible only for
tabulating and reporting data ``in its possession.'' \105\ If a covered
exchange never reports a covered sale to a designated clearing agency,
or does not report the covered sale such that it can be recognized as
such by the systems of its designated clearing agency, the designated
clearing agency will not be in violation of Rule 31 because that
covered sale was not included in the covered exchange's Part I data.
---------------------------------------------------------------------------
\105\ 17 CFR 240.31(b)(4)(i).
---------------------------------------------------------------------------
10. Netting by QSRs
In the Proposing Release, the Commission stated that QSRs might be
engaged in the practice of netting trades before reporting them to
NSCC, instead of reporting to NSCC on a trade-by-trade basis.
Therefore, the Commission proposed to rely on data generated by a
covered exchange's trade reporting system rather than by NSCC to obtain
the aggregate dollar amount of covered sales reported by QSRs.\106\ One
commenter, NSCC, stated that this approach ``impli[es] that the SEC
does not have any concerns about QSRs netting trades.'' \107\
Furthermore, NSCC recommended that the Commission state in the Rule 31
adopting release that ``QSR trades should come to NSCC non-netted.''
NSCC noted, however, that its current rules do not prohibit a QSR from
summarizing and netting its trades before reporting them to NSCC.
---------------------------------------------------------------------------
\106\ See Proposing Release, 69 FR at 4023.
\107\ NSCC Comment.
---------------------------------------------------------------------------
By adopting a new procedure for the calculation and collection of
fees pursuant to Section 31 of the Exchange Act, including covered
sales reported to NSCC through QSRs, the Commission is expressing no
opinion on the operational practices of QSRs, including any potential
netting. New Rules 31 and 31T and Form R31 are designed to obtain
aggregate trading volume for covered sales from the best currently
available sources. Nothing in this adopting release should be construed
as prohibiting NSCC from proposing rule changes that it deems necessary
and appropriate to improve the clearance and settlement system,
including the manner in which QSRs report trades to NSCC.
11. Creations and Redemptions of ETFs
The NSCC Comment also asked whether creations and redemptions of
shares of exchange-traded funds (``ETFs'') would be covered sales under
Rule 31. ETF shares are securities issued by an open-end investment
company (i.e., a mutual fund) that can be traded on an exchange. A
mutual fund that issues such shares generally will do so only in
aggregations of a specified number (``creation units''), and purchasers
of creation units can separate the units into individual shares that
can be traded on an exchange. An authorized participant may deposit a
basket of the fund's component securities (and, in some cases, cash)
into the fund and receive creation units in return. ETF shares can be
redeemed by aggregating them into creation units, presenting them to
the fund, and receiving a basket of component securities (and, in some
cases, cash) in return.
The Commission believes that the creation of ETF shares falls
within paragraph (a)(11)(i) of Rule 31, which provides that the term
``exempt sale'' includes any sale of securities offered pursuant to an
effective registration statement under the Securities Act of 1933. In
addition, the Commission believes that the delivery of creation units
to the fund falls within paragraph (a)(11)(iv) of Rule 31. The
Commission views the redemption of creation units as transactions
similar to those covered by that paragraph, such as sales upon
conversion of convertible securities. Therefore, neither creations nor
redemptions of ETF shares are covered sales under Rule 31.
III. Temporary Rule 31T
Beginning in FY2004, the Commission is required to prepare an
annual financial statement that will be audited by the Government
Accounting Office (``GAO''). To satisfy applicable auditing standards,
the Commission must be able to document the sources of its accounts
receivable, including Section 31 fees and assessments, for its entire
fiscal year. Rule 31 enables the Commission to obtain from the covered
SROs aggregate data on all covered sales occurring in the U.S.
markets--but will not become effective until July 2004. As the
Commission noted in the Proposing Release, the purpose of temporary
Rule 31T is to allow the Commission to obtain similar data for the
months of FY2004 prior to the effective date of Rule 31 so that it can
calculate, using the new procedure set forth in Rule 31, the fees and
assessments due from covered SROs for all of its FY2004.\108\ The
Commission originally hoped that proposed temporary Rule 31T could be
adopted before the Section 31 payment on March 15, 2004. However,
because the Commission is adopting these final rules after the March 15
due date, and covered SROs already have made that payment using their
existing methods, the Commission has revised temporary Rule 31T to
carry out the original intent of the rule.
---------------------------------------------------------------------------
\108\ See 69 FR at 4025.
---------------------------------------------------------------------------
New paragraph (a)(1)(ii) of temporary Rule 31T defines the ``FY2004
prepayment amount'' as the total dollar amount of fees and assessments
already paid by a covered SRO pursuant to the March 15, 2004, due
date.\109\ New paragraph (b) of temporary Rule 31T requires each
covered SRO, by August 13, 2004, to file with the Commission a
completed Form R31 for each of the months September through December
2003. The Form R31 submissions for these months will enable the
Commission to calculate the amounts payable for this billing period
using the new procedure. New paragraph (a)(1)(iii) of temporary Rule
31T defines the ``FY2004 recalculated amount'' as the total dollar
amount of fees or assessments owed by a covered SRO for the September-
through-December 2003 billing period, as calculated by the Commission
based on the data submitted by each covered SRO in its Form R31
submissions for those four months.\110\
---------------------------------------------------------------------------
\109\ 17 CFR 240.30T(a)(1)(ii).
\110\ 17 CFR 240.30T(a)(1)(iii).
---------------------------------------------------------------------------
For each covered SRO, the Commission will subtract the FY2004
prepayment amount from the FY2004 recalculated amount; the result is
the
[[Page 41071]]
``FY2004 adjustment amount.'' \111\ If a covered SRO's FY2004
adjustment amount is a positive number, the Commission will send the
covered SRO a Section 31 bill for the months September to December
2003, and the covered SRO must include the FY2004 adjustment amount
with the payment for its next Section 31 bill (due by September 30,
2004).\112\ If the covered SRO's FY2004 adjustment amount is a negative
number, the Commission will credit the adjustment amount to the covered
SRO's next Section 31 bill.\113\
---------------------------------------------------------------------------
\111\ 17 CFR 240.30T(a)(1)(i).
\112\ See 17 CFR 240.30T(c).
\113\ See 17 CFR 240.30T(d).
---------------------------------------------------------------------------
Temporary Rule 31T also requires each covered SRO to file with the
Commission, by August 13, 2004, a completed Form R31 for each of the
months January 2004 to July 2004, inclusive.\114\ Taken together, new
Rules 31 and 31T will give the Commission a complete set of data from
which to prepare the Section 31 bills for the present billing period
(January through August 2004). Thereafter, temporary Rule 31T will no
longer be necessary, and covered SROs will be subject to the ongoing
obligation to file a completed Form R31 on a monthly basis pursuant to
paragraph (b)(1) of Rule 31. Temporary Rule 31T expires on January 1,
2005.\115\
---------------------------------------------------------------------------
\114\ See 17 CFR 240.30T(b).
\115\ See 17 CFR 240.30T(f).
---------------------------------------------------------------------------
Four comments expressed concern with applying the new procedure to
recalculate Section 31 fees and assessments for the months September to
December 2003.\116\ One commenter argued that ``the benefits of
retroactive implementation do not outweigh the costs of work necessary
to recertify the September through December 2003 submission.'' \117\
Two of these comments stated that trade data in the possession of NSCC
for these months would likely be inaccurate because NSCC's systems were
not properly configured to capture the correct data.\118\ These
comments also questioned how the adjustment payments required by
temporary Rule 31T would correspond with the payments already made
pursuant to the exchanges' existing rules. NYSE noted, for example,
that it would be forced to make a retroactive adjustment to its Rule
440H, which governs the manner in which NYSE passes Section 31 fees to
its members. Similarly, CHX argued that ``[i]f there are differences
between the NSCC reports and the data used by CHX in its billing, the
CHX will be required to reconcile the two sets of data, on a trade-by-
trade basis.''
---------------------------------------------------------------------------
\116\ See CHX Comment; NASD Comment; NSCC Comment; NYSE Comment.
\117\ NASD Comment.
\118\ See CHX Comment; NYSE Comment.
---------------------------------------------------------------------------
After carefully considering these comments, the Commission
continues to believe that it is necessary to adopt a temporary Rule 31T
that requires covered SROs to provide Form R31 submissions for every
month from September 2003 to the present. Despite the costs associated
with temporary Rule 31T, the Commission believes that obtaining this
historical trade data is necessary for the Commission to carry out its
obligations under the Accountability Act.\119\ Furthermore, although
there may be some discrepancy between the amounts that covered SROs
must pay the Commission pursuant to temporary Rule 31T and the amounts
that covered SROs already have collected from their members pursuant to
their rules, the Commission does not believe this justifies delaying
the implementation of a more accurate and reliable system.
---------------------------------------------------------------------------
\119\ See infra Section VIII.
---------------------------------------------------------------------------
Historical data are available for the options and security futures
exchanges because OCC's systems are already configured to capture this
data \120\ and Rule 31 does not require a fundamental revision of the
methods by which options and security futures exchanges pay their
Section 31 fees or assessments. With the equities exchanges, however,
the Commission understands that trade data going back to September 1,
2003, may not have been reported to NSCC in a form that can immediately
be tabulated under the procedure created by new Rule 31. Nevertheless,
the Commission believes that NSCC, with the assistance of the
exchanges, can sift the data to produce an accurate record of each
exchange's covered sales in equities since September 1, 2003. In that
regard, the Commission anticipates that the following issues will need
to be addressed:
---------------------------------------------------------------------------
\120\ Currently, all transactions in options or security futures
that occur on a national securities exchange are cleared and settled
by OCC. OCC already has in place procedures to filter out exempt
transactions listed in former Rule 31-1 under the Exchange Act, 17
CFR 240.31-1. Therefore, the Commission believes that OCC should,
with only minor system modifications, be able to tabulate the trade
data required by the covered SROs for Part I of Form R31.
---------------------------------------------------------------------------
Debt securities. Sales of debt securities are exempt from
Section 31 fees.\121\ NSCC clears and settles trades in debt as well as
equity securities. Any covered exchange that trades debt securities
should provide NSCC with the CUSIP numbers for such securities so that
NSCC can filter such trades from its clearing data going back to
September 1, 2003.
---------------------------------------------------------------------------
\121\ See 15 U.S.C. 78ee(b) and (c); 17 CFR 240.31(a)(11)(vii).
---------------------------------------------------------------------------
Reversals. A reversal occurs when a trade is reported
incorrectly to a designated clearing agency and the covered SRO on
which the trade occurred sends a second record to inform the clearing
agency to negate the first record.\122\ Although NSCC's reporting
system allows a reversal to be marked as such, a covered SRO could
choose instead to effect the reversal by reporting a second trade that
nets out the first.\123\ Although no NSCC rule prohibits this practice,
it would cause two covered sales to appear in NSCC's record when in
fact there was no covered sale. Any covered exchange that engaged in
this practice during the period September to December 2003 should
coordinate with NSCC to ensure that these reverse trades are not
counted as covered sales.
---------------------------------------------------------------------------
\122\ If the terms of the trade were adjusted, the covered SRO
would send a third record to the clearing agency with the correct
trade data. If the trade were merely canceled, no third record would
be sent.
\123\ For example, assume A sells to B 100 shares of XYZ stock
and this trade was reported to NSCC in error. A covered exchange
could obtain the same effect as a reversal message by reporting a
second trade in which B sells to A 100 shares of XYZ stock.
---------------------------------------------------------------------------
Creations and redemptions of ETFs. As noted above, neither
the creation nor the redemption of ETF shares results in any covered
sale under Section 31 of the Exchange Act.\124\ Therefore, NSCC should
not tabulate as part of a covered exchange's Part I data any securities
transactions that resulted from the creation or redemption of ETF
shares.
---------------------------------------------------------------------------
\124\ See supra Section II(B)(11).
---------------------------------------------------------------------------
Trades cleared through but not executed on a covered SRO.
In some cases, a covered exchange will report a covered sale to NSCC on
behalf of one of its members even though the sale was executed on
another covered SRO. No liability for a covered sale should result for
the covered exchange that sent the report.\125\ The Commission expects
NSCC and any covered exchange \126\ that engages in this practice to
devise a means by which to remove clearing-only reports from the
exchange's Part I data.
---------------------------------------------------------------------------
\125\ See supra Section II(B)(4).
\126\ A covered association also could send clearing-only
reports to NSCC, but the procedure created by Rule 31 does not rely
on clearing data for covered associations. Therefore, Rule 31 does
not require NSCC to segregate a covered association's clearing-only
reports for trades that were in fact executed on another SRO from
the trades that did occur by or through the association's members
otherwise than on an exchange.
---------------------------------------------------------------------------
Cash, next-day, and seller's option trades. As noted
above, during the period covered by temporary Rule 31T, some covered
sales of equity securities resulting from cash, next-day, and
[[Page 41072]]
seller's option trades were reported to NSCC while others were
not.\127\ NSCC should tabulate what data it has on these trades and
provide them to the respective covered SRO for inclusion in Part I of
Form R31. For any such covered sales that a covered exchange did not
report to NSCC, the covered exchange should treat these as ex-clearing
transactions and report them in Part II (assuming that such trades were
captured in the exchange's trade reporting system).
---------------------------------------------------------------------------
\127\ See supra Section II(B)(7).
---------------------------------------------------------------------------
``Riskless principal'' trades. To date, no covered
exchange has received the Commission's approval of a rule change
relating to riskless principal transactions. Therefore, for all trade
data from September 1, 2003, to the present, NSCC should not exclude
any covered sales on the grounds that they are ``riskless principal''
transactions.
Step-outs, universal flips, and correspondent clearing
transactions. As noted above, the Commission believes that each of
these transactions would constitute only a single covered sale.\128\
---------------------------------------------------------------------------
\128\ See supra Section II(B)(8).
---------------------------------------------------------------------------
In their comment letters, CHX and NYSE suggested that adjustments
required by temporary Rule 31T could require a covered exchange
retroactively to amend its rules that pass Section 31 fees on to member
firms. The Commission notes that neither Section 31 of the Exchange Act
nor the rules adopted by the Commission thereunder address the manner
or extent to which covered SROs may seek to recover the costs of their
Section 31 obligations from their members. While the Commission has
approved SRO rules establishing fees to be paid by SRO members to
reimburse the covered SROs for Section 31 fees paid to the Commission,
an SRO's Section 31 obligations are independent of any such
reimbursement. The rules adopted by the Commission today establish a
procedure for the amount of an SRO's Section 31 fees to be calculated;
they do not affect an SRO's obligation to pay fees or assessments to
the Commission.
The Commission also acknowledges that the application of temporary
Rule 31T, particularly the assigning of charge dates, might result in a
slight discrepancy with respect to the transactions included in the
billing period. Under the existing arrangements for the calculation and
payment of Section 31 fees, covered exchanges that trade equity
securities often use the trade date as the basis for assigning the
period to which a sale belongs. Thus, fees on sales that occurred on a
covered exchange between August 27 and August 29, 2003--the last three
business days of August 2003--likely were deemed by the exchanges to
have occurred in August 2003, and fees for such sales were included in
the covered exchange's Section 31 payment made on September 30, 2003.
For most covered sales in equity securities, however, the charge date
is now the settlement date. Thus, when the covered exchange submits
Form R31 for September 2003 pursuant to temporary Rule 31T, most of its
covered sales having a trade date on August 27, 28, or 29 will settle
T+3 in September 2003. Thus, the terms of the new rule could
inadvertently impose a second fee on trades during this three-day
period. To prevent this outcome, the Commission has adopted paragraph
(e) of temporary Rule 31T, which provides that ``[a]ny covered exchange
that as of August 2003 was reporting its Section 31 volume to the
Commission based on trade date shall not include in its aggregate
dollar value of covered sales for its September 2003 Form R31 any
covered sale that had a trade date prior to September 1, 2003.''
IV. Reconciliation of Fees Paid to Funds Collected by Covered SROs
Various commenters argued that the Commission's proposal would
create difficulties in reconciling the amount that a covered SRO would
owe the Commission with the amount collected by covered SROs from their
members.\129\ One commenter discussed various sources of the
reconciliation problem and stated that ``the Commission should be
involved in developing a uniform process for allocating transaction
fees beyond SROs.'' \130\ A second commenter ``strongly urge[d] the
Commission to work hand-in-hand with NASD and representatives from the
industry to address th[e] issue'' of reconciling these amounts.\131\ A
third commenter stated that avoiding a mismatch between what is billed
by the Commission and what it collects from its member firms would
necessitate an amendment to the exchange rule that passes the fee to
its members.\132\
---------------------------------------------------------------------------
\129\ See NASD Comment; NYSE Comment; SIA Comment.
\130\ See SIA Comment.
\131\ See NASD Comment.
\132\ See NYSE Comment.
---------------------------------------------------------------------------
Section 31 of the Exchange Act places obligations only on national
securities exchanges, national securities associations, and the
Commission. National securities exchanges and national securities
associations must pay certain fees \133\ and assessments \134\ to the
Commission. The Commission is required by Section 31 to collect such
fees and assessments.\135\ Section 31, however, does not address the
manner or extent to which covered SROs may seek to recover the costs of
their Section 31 obligations from their members. Nor does Section 31
address the manner or extent to which members of covered SROs may seek
to pass any such charges on to their customers. In practice, the
covered SROs obtain the funds for these fees and assessments by
assessing charges on their members, and the members in turn pass these
charges to their customers. It is customary for a customer who sells a
security to see an ``SEC Fee'' on his or her trade confirmation.
Furthermore, the broker-dealer typically rounds up the amount of the
customer's charges to the next whole cent. The accumulation of extra
fractional cent amounts often results in broker-dealers having ``over-
collected'' for the fees assessed by their SROs for Section 31
purposes.\136\
---------------------------------------------------------------------------
\133\ See 15 U.S.C. 78ee(b) and (c).
\134\ See 15 U.S.C. 78ee(d).
\135\ See 15 U.S.C. 78ee(a).
\136\ The SIA Comment discussed three additional reasons for the
collection discrepancies: (1) Double-counting of OTC odd-lot
transactions; (2) orders executed partly on an exchange but partly
OTC but confirmed to the customer at a single average price; and (3)
the several layers of billing on ECNs and other mechanisms designed
to provide trading anonymity that are difficult to reconcile.
---------------------------------------------------------------------------
The Commission is concerned about the manner in which SROs label
the fees that they pass to their members and the manner in which
members label the fees passed to their customers. These are not
``Section 31 Fees'' or ``SEC Fees.'' Section 31 places no obligation on
members of covered SROs or their customers, and it is misleading to
suggest that a customer or an SRO member incurs an obligation to the
Commission under Section 31. Accordingly, the Commission believes that
covered SROs and their members should take prompt action to correct any
such misperceptions.
V. Delegation of Authority
Under new Rule 31 and temporary Rule 31T, the Commission will
calculate the Section 31 fees and assessments due from covered SROs and
issue bills to the covered SROs for those amounts. The Commission is
amending its rules of organization and program management to delegate
authority to the Director of the Division of Market Regulation, in
consultation with the Executive Director and the Chief Economist, to
make these calculations and to issue Section 31 bills pursuant to new
Rule 31 and temporary Rule 31T.\137\ This amendment is a ``rule[] of
agency organization, procedure, or practice''
[[Page 41073]]
within the meaning of Section 553(b)(A) of the Administrative Procedure
Act (``APA'').\138\ Therefore, publication of this proposed rule in the
Federal Register, opportunity for public comment, and publication of
the rule prior to its effective date are not required by Section 553 of
the APA.
---------------------------------------------------------------------------
\137\ See 17 CFR 200.30-3(a)(82).
\138\ 5 U.S.C. 553(b)(A).
---------------------------------------------------------------------------
VI. Consideration of the Burden on Competition, and Promotion of
Efficiency, Competition, and Capital Formation
Section 3(f) of the Exchange Act \139\ requires the Commission,
whenever it engages in rulemaking and is required to consider or
determine whether an action is necessary or appropriate in the public
interest, to consider whether the action will promote efficiency,
competition, and capital formation. In addition, Section 23(a)(2) of
the Exchange Act \140\ requires the Commission, when promulgating rules
under the Exchange Act, to consider the impact any such rules would
have on competition. Section 23(a)(2) further provides that the
Commission may not adopt a rule that would impose a burden on
competition not necessary or appropriate in furtherance of the purposes
of the Exchange Act.
---------------------------------------------------------------------------
\139\ 15 U.S.C. 78c(f).
\140\ 15 U.S.C. 78w(a)(2).
---------------------------------------------------------------------------
The duty imposed on covered SROs to pay fees and assessments on
securities transactions arises from Section 31 of the Exchange Act
itself; this rulemaking establishes a process for calculating and
collecting these fees and assessments. The Commission believes that
this rulemaking will promote efficiency, competition, and capital
formation by making this process more transparent and reliable.
Furthermore, the data received on Form R31 should provide the
Commission with more complete and more precise data on aggregate
trading volumes that will assist the Commission in setting the
appropriate fee rate pursuant to Section 31(j) of the Exchange
Act.\141\
---------------------------------------------------------------------------
\141\ 15 U.S.C. 78ee(j).
---------------------------------------------------------------------------
In the Proposing Release, the Commission requested comment on the
proposal's effect on efficiency, competition, and capital
formation.\142\ Although no commenter specifically addressed this
section of the Proposing Release, one commenter stated that it ``does
not believe that the Commission's proposal is an efficient way of
achieving their recognizable goal of assuring the accuracy of Section
31 fees due by each market center.'' \143\ The commenter added that ``a
much simpler solution'' would be to require covered exchanges to
document the basis of their Section 31 fees by submitting or making
available to the Commission their internal trade reporting records.
---------------------------------------------------------------------------
\142\ See 69 FR at 4026.
\143\ BSE Comment.
---------------------------------------------------------------------------
The Commission does not believe that the ``simpler'' solution
suggested by this commenter would be the more accurate or the more
efficient solution. As noted above, the Commission believes that
clearing data captured by the designated clearing agencies provide the
most accurate basis for the Commission's calculation of Section 31 fees
and assessments. Moreover, although there will be some initial
development burdens to adapt to the new rules,\144\ the Commission
believes that the new procedure for calculating Section 31 fees,
particularly for the covered exchanges that trade equity securities,
will eventually yield significant efficiencies. Currently, the manner
in which Section 31 fees are calculated differs significantly between
the options and equities exchanges. The options exchanges have
arrangements with its clearing agency, OCC, whereby OCC calculates the
aggregate dollar amount of their covered sales and pays the Section 31
fees on behalf of each options exchange. Under this rulemaking, the
Commission is leaving this system essentially unchanged, an approach
strongly endorsed by OCC and five options exchanges. The Commission
believes that this system has evolved into an efficient means for the
options exchanges to discharge their responsibilities under Section
31--as, apparently, do the exchanges themselves.\145\
---------------------------------------------------------------------------
\144\ See infra Section VII(D)(1).
\145\ See OCC Comment.
---------------------------------------------------------------------------
On the equities exchanges, by contrast, there is no central
mechanism to standardize the data collection and calculation function.
This rulemaking will require the equities exchanges for the first time
to utilize such a mechanism to obtain trade data that must be reported
on new Form R31. This in turn will cause the equities exchanges and
their principal clearing agency, NSCC, to further standardize the
manner in which they report transactions, particularly with regard to
indicating on trade reports whether or not the transaction is a covered
sale. Such conventions are particularly helpful with regard to
transactions involving multiple parties \146\ and transactions that are
reported through more than one SRO.\147\ The Commission believes that,
as NSCC and the equities exchanges become familiar with new Rules 31
and 31T and Form R31 and technical issues are resolved, an efficient
and reliable system for calculating Section 31 fees for the equities
exchanges--similar to what already exists for the options exchanges--
will emerge.
---------------------------------------------------------------------------
\146\ See supra Section II(B)(8).
\147\ See supra Sections II(B)(4) and (5).
---------------------------------------------------------------------------
VII. Paperwork Reduction Act
Rule 31 and Form R31 contain ``collection of information''
requirements within the meaning of the Paperwork Reduction Act of 1995
(``PRA'').\148\ Accordingly, the Commission submitted them to OMB for
review in accordance with 44 U.S.C. 3507 and 5 CFR 1320.11. OMB
approved the new collection of information for Rule 31 and Form 31R and
assigned OMB Control number 3235-0597. Neither Rule 31's development
burden nor the burden associated with the temporary Rule 31T, both
discussed in the Proposing Release and below, was included in OMB's
approval. The Commission, therefore, is resubmitting the collection of
information to OMB to account for these burdens. We solicit comment on
this collection of information below. Compliance with Rules 31 and 31T
and Form R31 will be mandatory. An agency may not conduct or sponsor,
and a person is not required to respond to, a collection of information
unless it displays a valid control number.\149\ Any information filed
with the Commission will be made publicly available.
---------------------------------------------------------------------------
\148\ 44 U.S.C. 3501 et seq.
\149\ See 44 U.S.C. 3512(a).
---------------------------------------------------------------------------
In the Proposing Release, the Commission solicited comments on the
collection of information requirements.\150\ NSCC was the only
commenter to specifically address the Commission's burden estimates
made in the PRA portion of the Proposing Release. However, some
commenters expressed concern that compliance with temporary Rule 31T
would be burdensome.\151\ The Commission is making certain adjustments
to its initial burden estimate, discussed below, to reflect these
comments. The Commission's other burden estimates are unchanged.
---------------------------------------------------------------------------
\150\ See 69 FR at 4028-29.
\151\ See BSE Comment; CHX Comment; NYSE Comment.
---------------------------------------------------------------------------
A. Summary of Collection of Information
Rules 31 and 31T and Form R31 require each covered SRO to provide
the Commission with data on its covered sales and covered round turn
transactions. Form R31, due on a
[[Page 41074]]
monthly basis, consists of three parts. Part I requires each covered
exchange to provide the following:
1. The aggregate dollar amount of covered sales of equity
securities that: (a) Occurred on the exchange; (b) had a charge date in
the month of the report; and (c) the exchange reported to a designated
clearing agency;
2. The aggregate dollar amount of covered sales of options that:
(a) Occurred on the exchange; (b) had a charge date in the month of the
report; and (c) the exchange reported to a designated clearing agency;
3. The total number of covered round turn transactions that: (a)
Occurred on the exchange; (b) had a charge date in the month of the
report; and (c) the exchange reported to a designated clearing agency;
and 4.The aggregate dollar amount of covered sales of equity securities
that: (a) occurred on the exchange; (b) had a charge date in the month
of the report; and (c) resulted from the maturation of a security
future or the exercise of a physical delivery exchange-traded option.
Paragraph (b)(4)(i) of Rule 31 requires a designated clearing
agency to provide a covered SRO, upon request, the data in its
possession needed by the covered SRO to complete Part I of Form R31.
Covered associations should not report any data in Part I of Form R31.
Part II requires each covered exchange to provide the following:
1. The aggregate dollar amount of covered sales that: (a) Occurred
on the exchange; (b) had a charge date in the month of the report; (c)
the covered exchange captured in a trade reporting system; and (d) were
reported to a designated clearing agency by a QSR; and
2. The aggregate dollar amount of covered sales that: (a) Occurred
on the exchange; (b) had a charge date in the month of the report; (c)
the covered exchange captured in a trade reporting system; and (d) were
ex-clearing transactions.
Part II also requires a covered association to provide the
aggregate dollar amount of any covered sales that: (a) Occurred by or
through any member of the association otherwise than on a national
securities exchange; (b) had a charge date in the month of the report;
and (c) the association captured in a trade reporting system.
Part III requires a covered exchange to provide the aggregate
dollar amount of covered sales (other than covered sales resulting from
the maturation of a security future or the exercise of a physical
delivery exchange-traded option) that: (a) Occurred on the exchange;
(b) had a charge date in the month of the report; and (c) the exchange
neither captured in a trade reporting system nor reported to a
designated clearing agency. In addition, Part III requires a covered
association to provide the aggregate dollar amount of covered sales
that: (a) Occurred by or through a member of the association otherwise
than on a national securities exchange; (b) had a charge date in the
month of the report; and (c) the association did not capture in a trade
reporting system.
For any month in which the Commission is required to adjust the
Section 31 fee rate, a covered SRO would have to separate the data on
its aggregate dollar amount of covered sales into two parts. The first
part would consist of the aggregate dollar amount of covered sales
having a charge date in that month before the date of the fee rate
adjustment; the second part would consist of the aggregate dollar
amount of covered sales having a charge date on or after the date of
the fee rate adjustment. The Commission does not have authority under
Section 31 of the Exchange Act to adjust the assessment charge.
Therefore, respondents will never need to provide the total numbers of
covered round turn transactions before and after any adjustment.
Respondents should provide the total number of covered round turn
transactions in a single entry on Form R31.
B. Use of Information
The Commission will use the information obtained on Form R31 to
calculate the fees and assessments owed by each covered SRO to the
Commission pursuant to Section 31 of the Exchange Act. Although such
fees and assessments are due only twice a year (by March 15 and
September 30), the Commission will use this data to calculate and
record a receivable on its financial statement every month.
C. Respondents
There are currently 12 covered SROs that are subject to the
collection of information requirements of this rulemaking. In addition,
there are currently two entities--NSCC and OCC--that are designated
clearing agencies required by paragraph (b)(4)(i) of Rule 31 to provide
data to the covered SROs. Therefore, there are 14 respondents in total.
D. Total Annual Reporting and Recordkeeping Burden
1. Development Burden for System Modifications
Pursuant to this rulemaking, each covered SRO has a duty to provide
on Form R31 the aggregate dollar amount of its covered sales and the
total number of its covered round turn transactions having a charge
date in the month of the report. To comply with this collection of
information requirement, the covered SROs will incur one-time burdens
to develop new systems and procedures to record and tabulate the
necessary trade data. The two designated clearing agencies also will
incur burdens in configuring their systems to enable them to meet their
obligations under Rule 31.
a. Options and Security Futures
Currently, the options exchanges and security futures exchanges
have arrangements with OCC whereby OCC calculates, collects, and pays
all Section 31 fees and assessments on behalf of the exchanges. OCC
already has procedures, therefore, to prevent exempt sales from being
included in the calculation of Section 31 fees. For reasons discussed
above, the Commission has determined to continue to allow these
arrangements. OCC currently makes payments to the Commission in one
lump-sum on behalf of the exchanges without stipulating the amount
being paid on behalf of each exchange. However, under Rule 31, OCC must
stipulate the amount paid on behalf of each exchange. Furthermore, OCC
must provide to each covered exchange for which it clears and settles
transactions monthly data on the exchange's aggregate dollar amount of
covered sales and the total number of covered round turn transactions
cleared and settled by OCC on behalf of the exchange. OCC, therefore,
must develop procedures to allocate each covered sale or covered round
turn transaction to a specific exchange. The Commission initially
estimated this development time to be 180 staff hours.\152\ Although no
commenter specifically addressed whether this estimate was accurate,
the OCC Comment stated that ``OCC will be ready to provide the
Commission with information specifying the amount that it is paying on
behalf of each exchange by the time that the Commission finalizes its
Section 31 fee collection rules.''
---------------------------------------------------------------------------
\152\ See Proposing Release, 69 FR at 4027.
---------------------------------------------------------------------------
As noted above, the Commission has revised its original proposal
relating to covered sales resulting from exercises of physical delivery
exchange-traded
[[Page 41075]]
options.\153\ Under the final rule, the duty to pay fees for such
covered sales will remain with the covered exchanges that trade the
overlying derivative products. However, to allocate the volume for
these covered sales among the covered exchanges, OCC must devise a new
procedure for making the pro rata allocations. Paragraph (b)(4)(ii) of
Rule 31 governs this procedure. The Commission estimates that this
procedure will take 20 OCC staff hours to develop. The Commission's
total estimate of the initial development burdens of OCC is 200 staff
hours (180 + 20).
---------------------------------------------------------------------------
\153\ See supra Section II(B)(3).
---------------------------------------------------------------------------
Because all covered sales in options and covered round turn
transactions in security futures are cleared and settled by OCC, and
the designated clearing agencies will bear the primary burden for
making systems changes to accommodate Rule 31, the Commission believes
that the initial development burden on the options and security futures
exchanges themselves will be minimal. The Commission estimates that the
total initial burden on these exchanges will be 10 staff hours per
exchange for a total of 80 staff hours (8 exchanges x 10 hours/
exchange).\154\ Thus, the Commission concludes that OCC, the options
exchanges, and the security futures exchanges together will incur
burdens for initial development of new systems and processes of 280
staff hours (200 + 80).
---------------------------------------------------------------------------
\154\ The Commission originally estimated that this burden would
be 70 staff hours (7 exchanges x 10 hours/exchange). See Proposing
Release, 69 FR at 4027. However, since the Commission issued the
Proposing Release, a sixth national securities exchange--BSE--began
trading options. As with the other options exchanges, OCC
calculates, collects, and pays all of the Section 31 fees on BSE's
behalf. Therefore, the Commission is increasing this burden estimate
to reflect the addition of BSE.
---------------------------------------------------------------------------
b. Exchange-Traded Equity Securities
NSCC does not currently perform any functions with respect to
Section 31 of the Exchange Act. Therefore, NSCC is likely to incur more
initial development burdens than OCC. To provide the data required by
the new rules, NSCC must configure its systems to accurately tabulate
the aggregate dollar amount of covered sales forwarded to it by the
covered exchanges that trade equity securities. Such configuration will
include, among other things, ensuring that reversals and exempt sales
are filtered out of the exchanges' Part I data; ensuring that covered
sales that result in no net change of position in any NSCC account are
still tabulated; and presenting the data to the covered exchanges in a
manner that can be easily reported on Form R31.
The Commission originally estimated that NSCC and the eight
exchanges that trade equities would collectively incur an aggregate
burden of 1000 staff hours to develop new systems and processes to
fulfill their obligations under Rule 31.\155\ In response to that
estimate, NSCC stated in its comment that ``it would take approximately
1000 hours, at a total cost of $140,000, to be able to develop the
systems and procedures needed to fulfill its role under the Proposed
Rule.'' In view of the NSCC Comment and the likelihood that the
equities exchanges also will incur some burdens to develop new
procedures to comply with Rule 31 and Form R31, the Commission now
estimates that NSCC and the eight equities exchanges together will
incur a total development burden of 1100 staff hours.
---------------------------------------------------------------------------
\155\ See Proposing Release, 69 FR at 4027.
---------------------------------------------------------------------------
Another commenter, BSE, stated that the proposal would require
``the institution of a new internal process to conduct a daily
reconciliation of trades reported to the NSCC against those reported
internally on BSE systems.''\156\ BSE estimated this process to take a
minimum of two man-hours per day. The Commission notes, however, that
Rule 31 does not require BSE or any other covered SRO ``to conduct a
daily reconciliation of trades.'' A covered SRO may wish, but is under
no obligation, to do so. Therefore, the Commission is not revising its
estimate in response to the BSE Comment.
---------------------------------------------------------------------------
\156\ BSE Comment.
---------------------------------------------------------------------------
c. OTC Equity Securities
NASD is currently the only covered association that will be
required to report on Form R31 covered sales occurring otherwise than
on a national securities exchange. Under the current arrangements for
the payment of Section 31 fees, NASD calculates the aggregate dollar
amount of sales reported to ACT after filtering out sales that are
exempt from Section 31 fees. NASD also administers a paper-based system
whereby NASD members report and pay fees on odd-lot sales as well as
sales of securities resulting from the exercise of non-exchange-listed
options, neither of which are reported to ACT. The Commission
anticipates that these NASD procedures will continue under the
proposal. In addition, Rule 31 requires NASD to tabulate and report all
covered sales occurring in the ADF, although TRACS, the trade reporting
system for the ADF, currently is not configured to provide such data.
Based on conversations between Commission staff and NASD, the
Commission preliminarily estimated that the necessary configurations to
TRACS would require 50 hours of NASD staff time. NASD already has
established procedures to pass Section 31 fees to its members based on
their transaction volume (as reflected in ACT) and to collect data and
fees on sales of certain securities self-reported by its members. The
Commission preliminarily estimated that only 15 staff hours would be
needed to adapt these processes to the requirements of this
rulemaking.\157\ The Commission received no comments on these
estimates.
---------------------------------------------------------------------------
\157\ See Proposing Release, 69 FR at 4027.
---------------------------------------------------------------------------
The Commission is revising one element of its initial burden
estimates for NASD. The Commission originally proposed that NASD would
be the covered SRO liable for Section 31 fees on covered sales
resulting from exercises of physical delivery exchange-traded options.
The Commission initially estimated that 25 hours of OCC and NASD staff
would be required to develop a process whereby OCC would convey, and
NASD would receive and report on its Form R31, data on covered sales
resulting from exercises of physical delivery exchange-traded options.
However, for reasons discussed above,\158\ this aspect of the proposal
has been eliminated. Therefore, the Commission is reducing its estimate
of NASD's initial development burden by 25 hours. In sum, the
Commission now estimates that NASD's initial development burden for
this rulemaking will be 65 staff hours (50 + 15).
---------------------------------------------------------------------------
\158\ See supra Section II(B)(3).
---------------------------------------------------------------------------
d. Total Initial Development Burden
The Commission estimates that the 14 respondents subject to the
collection of information requirements of this rulemaking will incur a
total one-time development burden of 1445 staff hours (280 hours for
OCC and the options and security futures exchanges + 1100 for NSCC and
the equities exchanges + 65 for NASD).
2. Ongoing Compliance Burden
On an ongoing basis, covered SROs are required to submit to the
Commission Form R31 within ten business days after the end of every
month. Rule 31 requires a designated clearing agency to furnish to a
covered SRO, upon request, the data in its possession needed by the SRO
to complete Part I of Form R31. Each covered SRO also must submit
payment for its fees and assessments by March 15 and September 30 of
each year, although this requirement is established by Section 31
itself and is merely reiterated in this rulemaking.
[[Page 41076]]
a. Designated Clearing Agencies
Presently, NSCC clears transactions occurring on eight national
securities exchanges while OCC also clears transactions occurring on
eight exchanges.\159\ Equities trading volume is far larger than
options trading volume. Therefore, the Commission believes that NSCC's
monthly burden in tabulating the necessary data and providing it to the
exchanges will be larger than OCC's burden. The NSCC Comment stated
that NSCC's monthly operating costs following initial development of
its processing systems would be minimal. Therefore, the Commission
estimates that NSCC will incur an average monthly burden of 4 staff
hours to provide the exchanges with the data for Part I of Form R31
while OCC will incur an average monthly burden of 2 staff hours to
provide data to the options and securities futures exchanges.
---------------------------------------------------------------------------
\159\ Currently, three exchanges--CHX, NSX, and NYSE--trade only
equity securities, which are cleared and settled by NSCC. Three
exchanges--ISE, NQLX, and OneChicago--trade securities that are
cleared and settled only by OCC. Five exchanges--Amex, BSE, CBOE,
PCX, and Phlx--trade both equities and options, thus requiring the
clearance and settlement services of both NSCC and OCC.
---------------------------------------------------------------------------
In addition, the Commission anticipates that Rule 31 will impose
additional financial resource burdens on NSCC. These resources will
provide, among other things, CPU time, data storage, power, and systems
maintenance. The Commission estimates that this burden will be $1000
per month.
b. Covered Exchanges
The covered exchanges also will incur burdens in fulfilling the
requirement imposed by paragraph (b)(2) of Rule 31 to complete and
submit to the Commission proposed Form R31 on a monthly basis. The
Commission believes that an exchange's burden will be slightly larger
if it trades both equities and options, since the exchange would have
to coordinate inputs from both NSCC and OCC. Furthermore, the
Commission believes that an exchange that trades only options or
security futures would incur slightly less burden than an exchange that
trades only equities, because all data on all of its covered sales of
options should be obtainable from OCC and reported in Part I of Form
R31. By contrast, a covered exchange that trades equities is more
likely to have covered sales that must be reported in Parts II or III.
The Commission preliminarily estimated that the ongoing monthly burden
for the covered exchanges to complete and submit to the Commission Form
R31 would be as follows:
Two exchanges that trade only security futures and one
exchange that trades only options: 0.5 hours/form.
Four exchanges that trade only equities: 1.0 hours/form.
Four exchanges that trade both equities and options: 1.5
hours/form.
The Commission is adopting these estimates as proposed, but with a
minor adjustment due to the fact that since the Proposing Release was
issued one exchange that previously traded only equities (BSE) now also
trades options. Thus, the Commission estimates that the covered
exchanges will incur a total of 12.0 burden hours \160\ to complete the
Form R31 submissions required in a given month.
---------------------------------------------------------------------------
\160\ This total of 12.0 burden hours is calculated as follows:
(3 OCC-only exchanges x 0.5 hour/exchange = 1.5 hours) + (3 NSCC-
only exchanges x 1.0 hour/exchange = 3.0 hours) + (5 dual exchanges
x 1.5 hours/exchange = 7.5 hours).
---------------------------------------------------------------------------
c. Covered Associations
The Commission estimates that 2 NASD staff hours will be required
to produce monthly reports from ACT and TRACS of all covered sales and
to record those data on Form R31. The Commission estimates that 1 NASD
staff hour will be required to aggregate and record in Part III of Form
R31 data on covered sales that are self-reported by NASD members. The
Commission estimates that the total monthly burden imposed on the NASD
by proposal will be 3 staff hours (2 + 1). In the Proposing Release,
the Commission initially estimated that NASD would incur a monthly
burden of 4 staff hours to comply with Rule 31 and Form R31.\161\ This
extra hour's difference was caused by the proposal to require NASD to
record on its Form R31 data on covered sales resulting from exercises
of physical delivery exchange-traded options. However, since the
Commission has revised that proposal,\162\ NASD will no longer have
this responsibility. Therefore, the Commission is lowering its estimate
of NASD's monthly compliance burden from 4 staff hours to 3.
---------------------------------------------------------------------------
\161\ See 69 FR at 4028.
\162\ See supra Section II(B)(3).
---------------------------------------------------------------------------
d. Total Ongoing Monthly Burden
In summary, the Commission believes that the total burden on the 14
respondents for completing Form R31 for a single month will be 21.0
staff hours (6.0 hours for two designated clearing agencies + 12.0
hours for 11 covered exchanges + 3.0 hours for one covered
association), or 252 staff hours per year (21.0 hours/month x 12
months).\163\ This represents a reduction in the Commission's original
estimate of 270 staff hours for the annual ongoing compliance burdens
of Rule 31 and Form R31.\164\ The 18-hour difference results from 24
fewer staff hours per year on the part of OCC and NASD for OCC to
provide NASD with data on covered sales resulting from the exercise of
physical delivery exchange-traded options, plus 6 staff hours per year
due to the fact that BSE now trades both options and securities.
---------------------------------------------------------------------------
\163\ In addition, the Commission estimates that one designated
clearing agency, NSCC, will incur additional financial burdens of
$1000 per month or $12,000 per year.
\164\ See Proposing Release, 69 FR at 4028.
---------------------------------------------------------------------------
3. Temporary Rule 31T
Temporary Rule 31T requires every covered SRO--by August 13, 2004--
to submit to the Commission a completed Form R31 for each of the months
September 2003 to June 2004, inclusive.\165\ This will enable the
Commission to obtain data on all covered sales and covered round turn
transactions occurring in its FY2004 and to make any necessary
adjustments to the amount that a covered SRO paid pursuant to the March
15, 2004, due date. The Commission notes that the obligation of
national securities exchanges and national securities associations to
pay fees and assessments on securities transactions arises directly
from Section 31 of the Exchange Act and would exist even in the absence
of this rulemaking.
---------------------------------------------------------------------------
\165\ The first Form R31 required by Rule 31 also is due by
August 13, 2004 (the tenth business day of August) and will cover
the month of July 2004.
---------------------------------------------------------------------------
The Commission initially estimated that temporary Rule 31T would
require each covered SRO to provide six Form R31 submissions.\166\
However, because Rule 31T is not being adopted until June 2004 and the
Form 31 submissions required by the rule will not be due until August
13, Rule 31T will now require covered SROs to provide ten historical
Form R31 submissions (for September 2003 through June 2004, inclusive).
In addition, various commenters, although not specifically addressing
the Commission's hourly burden estimates, stated that compliance with
temporary Rule 31T would be burdensome.\167\ In light of these comments
and the expanded period that temporary Rule 31T will cover, the
Commission is increasing the estimated burden on all respondents for
temporary Rule 31T from 135 staff hours to 200 staff hours.
---------------------------------------------------------------------------
\166\ See Proposing Release, 69 FR at 4028.
\167\ See CHX Comment; NYSE Comment.
---------------------------------------------------------------------------
[[Page 41077]]
4. Total Burdens of Rules 31 and 31T
In summary, the Commission estimates that the burdens imposed by
new Rules 31 and 31T together before August 2004 will be 1645 staff
hours. This figure represents the initial development burdens to be
incurred by covered SROs and designated clearing agencies to establish
new systems and procedures to comply with Rules 31 and 31T and to
provide historical trading data going back to September 1, 2003. The
Commission estimates that, after August 2004 (the first month that a
Form R31 is due pursuant to Rule 31), the 14 respondents will incur
annual burdens of 252 staff hours per year to comply with Rule 31 and
Form R31.
E. Record Retention Period
Rule 17a-1 under the Exchange Act \168\ requires national
securities exchanges, national securities associations, and registered
clearing agencies to preserve at least one copy of all documents,
including all correspondence, memoranda, papers, books, notices,
accounts, and other such records as shall be made or received by it in
the course of its business as such and in the conduct of its self-
regulatory activity for a period of not less than five years, the first
two years in an easily accessible place, subject to the destruction and
disposition provisions of Rule 17a-6 under the Exchange Act.\169\
---------------------------------------------------------------------------
\168\ 17 CFR 240.17a-1.
\169\ 17 CFR 240.17a-6.
---------------------------------------------------------------------------
F. Request for Comments
The Commission requests comment in order to:
Evaluate whether the proposed collection of information is
necessary for the proper performance of the functions of the
Commission, including whether the information has practical utility;
Evaluate the accuracy of the Commission's estimates of the
burden of the proposed collection of information;
Determine whether there are ways to enhance the quality,
utility, and clarity of the information to be collected; and
Evaluate whether there are ways to minimize the burden of
the collection of information on the respondents, including through the
use of automated collection techniques or other forms of information
technology.
Any member of the public may direct to the Commission any comments
concerning the accuracy of these burden estimates and any suggestions
for reducing the burdens. Persons who desire to submit comments on the
collection of information requirements should direct their comments to
OMB, Attention: Desk Officer for the Securities and Exchange
Commission, Office of Information and Regulatory Affairs, Washington,
DC 20503; and send a copy of the comments to Jonathan G. Katz,
Secretary, Securities and Exchange Commission, 450 Fifth Street, NW.,
Washington, DC 20549-0609, with reference to File No. S7-05-04.
Requests for materials submitted to OMB by the Commission with regard
to these collections of information should be in writing, refer to File
No. S7-05-04, and be submitted to the Securities and Exchange
Commission, Records Management, Office of Filings and Information
Services, 450 Fifth Street, NW., Washington, DC 20549. Because OMB is
required to make a decision concerning the collections of information
between 30 and 60 days after publication, your comments are best
assured of having their full effect if OMB receives them within 30 days
of publication of this notice.
VIII. Consideration of Costs and Benefits
To assist the Commission in its evaluation of the costs and
benefits that might result from the proposal, commenters were requested
to provide analysis and data relating to the costs and benefits. The
Commission preliminarily identified certain costs and benefits
associated with the new system for calculating and collection Section
31 fees and assessments in the Proposing Release.\170\ The Commission
requested comment on its preliminary analysis and asked specifically
whether, in the commenters' view, the benefits justify the costs. One
commenter argued that ``the benefits of retroactive implementation [of
temporary Rule 31T] do not outweigh the costs of the work necessary to
recertify the September to December 2003 submission'' of trade data
supporting the Section 31 payment for that period.\171\ However,
neither this commenter nor any other commenter provided any empirical
data relating to the costs and benefits of this proposal. After
carefully considering the comments received, the Commission concludes
that the benefits of this proposal justify the costs that it will
impose.
---------------------------------------------------------------------------
\170\ See 69 FR at 4029-30.
\171\ NASD Comment.
---------------------------------------------------------------------------
A. Benefits
A primary benefit of this rulemaking is that the Commission will be
able to obtain more accurate data on all covered sales and covered
round turn transactions occurring in the U.S. securities markets. This
data will facilitate the Commission's compliance with the
Accountability Act, pursuant to which the Commission must prepare
annual financial statements that are audited by an external auditor.
The Commission's obligations under the Accountability Act begin in
FY2004. To meet these obligations, the Commission must be able to
demonstrate the accuracy of the payments collected by the Commission,
including payments made by covered SROs pursuant to Section 31. The
Commission believes that the trade data provided on Form R31 will yield
the most accurate bases for their Section 31 payments. The Commission's
annual audit, as required by the Accountability Act, necessitates that
the Commission verify the amount of fees and assessments that it
collects using the most accurate data available.
A related benefit of this rulemaking is that the means by which the
Commission derives a large source of its revenue will become more
transparent and more easily subject to verification. These data are to
be provided on a simple form. Requiring the covered SROs to report
their trade data in this manner should improve the ability of an
auditor or other interested person to understand the sources and
calculation of Section 31 payments. The Commission believes, and the
SIA agrees,\172\ that the public interest benefits when the Commission
can demonstrate that it is properly carrying out the fiscal
responsibilities assigned to it by Congress.
---------------------------------------------------------------------------
\172\ See SIA Comment.
---------------------------------------------------------------------------
Another benefit of this proposal is that the data used by the
Commission to determine whether a fee rate adjustment is required
pursuant to Section 31(j) of the Exchange Act \173\ will be more
precise. Paragraph (j) requires the Commission to make an annual and
(in some circumstances, a mid-year) adjustment to the fee rate. The
data received on Form R31 should provide the Commission with more
complete and more precise data on aggregate trading volumes that will
assist the Commission in determining the appropriate fee rate.
---------------------------------------------------------------------------
\173\ 15 U.S.C. 78ee(j).
---------------------------------------------------------------------------
B. Costs
Rule 31 and Form R31 require covered SROs to provide the
Commission, on a monthly basis beginning with the month of July 2004,
data on their covered sales and covered round turn transactions.
Temporary Rule 31T requires covered SROs to provide the Commission with
Form R31
[[Page 41078]]
submissions for the months of September 2003 until June 2004,
inclusive. As discussed above, this rulemaking will cause the covered
SROs and designated clearing agencies to incur certain paperwork costs
in tabulating and reporting to the Commission the data required by Form
R31.\174\ The Commission estimates that the covered SROs and designated
clearing agencies will incur a burden of 1445 staff hours for initial
development, 252 staff hours per year to submit Form R31 on a monthly
basis, and 200 staff hours to comply with temporary Rule 31T. The
Commission also estimates that one designated clearing agency, NSCC,
will incur a monthly financial cost of $1000 for systems maintenance to
comply with Rule 31.
---------------------------------------------------------------------------
\174\ See supra Section VII.
---------------------------------------------------------------------------
In addition, the Commission believes that certain covered exchanges
may incur additional costs to develop new methods for allocating
Section 31 fees among their members.\175\ NYSE and Amex require their
members to self-report the aggregate dollar amount of their covered
sales and the corresponding Section 31 fees due based on that volume.
The other equities exchanges impose fees on their members based on the
sales of securities that the exchange reports to the consolidated tape.
Since the rules adopted here base the calculation of Section 31 fees
largely on clearing data, either or both of the existing methods for
allocating Section 31 fees among members of the equities exchanges
could yield an amount that differs from that calculated by the
Commission pursuant to Rule 31. A covered exchange that seeks to ensure
that the amount paid to the Commission is as close as possible to the
amount collected from its members might wish to develop new procedures
to subdivide Section 31 fees among its members. Any new rule to
implement such a procedure would have to be filed as a rule change
pursuant to Section 19(b) of the Exchange Act.\176\
---------------------------------------------------------------------------
\175\ See NYSE Comment (stating that NYSE would have to amend
its Rule 440H).
\176\ 15 U.S.C. 78s(b).
---------------------------------------------------------------------------
To assist a covered exchange in dividing the fee equitably among
its members, the exchange could request that NSCC subdivide the data by
exchange member so that the exchange can pass to each member its
accurate pro rata portion of the total exchange fee. While subdividing
the data in this manner is not required by Rule 31, the Commission
anticipates that covered exchanges may elect to establish such
arrangements to collect from their members only the precise amount that
the Commission bills them under Rule 31.
The Commission notes that this proposal does not impose new costs
on covered SROs in the form of higher fees or assessments. The target
amounts that the Commission should collect under Section 31 are set by
statute; the rules approved today establish a procedure for the
Commission to use to calculate the fees and assessments from each
covered SRO.
IX. Regulatory Flexibility Act
Pursuant to Section 605(b) of the Regulatory Flexibility Act,\177\
the Commission certified that Rules 31 and 31T and Form R31 will not
have a significant economic impact on a substantial number of small
businesses. This certification, including the reasons supporting the
certification, were set forth in the Proposing Release.\178\ The
Commission solicited comments on the potential impact of Rules 31 and
31T and Form R31 on small entities in the Proposing Release.
Specifically, the Commission requested that commenters describe the
nature of any impact on small businesses and provide empirical data to
support the extent of the impact. The Commission received no comments
on this certification and is adopting it as proposed.
---------------------------------------------------------------------------
\177\ 5 U.S.C. 605(b).
\178\ See 69 FR at 4030.
---------------------------------------------------------------------------
X. Statutory Authority
Rules 31 and 31T under the Exchange Act are adopted pursuant to 15
U.S.C. 78a et seq., particularly Sections 6, 15A, 17A, 19, 23(a), and
31 of the Exchange Act (15 U.S.C. 78f, 78o-3, 78q-1, 78s, 78w(a), and
78ee).
List of Subjects
17 CFR Part 200
Administrative practice and procedure, Authority delegations
(Government agencies).
17 CFR Parts 240 and 249
Reporting and recordkeeping requirements, Securities.
Text of Final Rule
0
For the reasons set out in the preamble, the Commission is amending
Title 17, Chapter II of the Code of Federal Regulations as follows:
PART 200--ORGANIZATION; CONDUCT AND ETHICS; AND INFORMATION AND
REQUESTS
0
1. The authority citation for part 200 continues to read in part as
follows:
Authority: 15 U.S.C. 77s, 77o, 77sss, 78d, 78d-1, 78d-2, 78w,
78ll(d), 78mm, 79t, 80a-37, 80b-11, and 7202, unless otherwise
noted.
0
2. Section 200.30-3 is amended by adding new paragraph (a)(82) as
follows:
Sec. 200.30-3 Delegation of authority to Director of Division of
Market Regulation.
* * * * *
(a) * * *
(82) To calculate the amount of fees and assessments due from
covered SROs based on the trade data that the covered SROs submit on
Form R31 (17 CFR 249.11) and to issue Section 31 bills to covered SROs,
in consultation with the Executive Director and the Chief Economist,
pursuant to Rules 31 and 31T of this chapter (17 CFR 240.31 and
240.31T).
* * * * *
PART 240--GENERAL RULES AND REGULATIONS, SECURITIES EXCHANGE ACT OF
1934
0
3. The authority citation for part 240 continues to read in part as
follows:
Authority: 15 U.S.C. 77c, 77d, 77g, 77j, 77s, 77z-2, 77z-3,
77eee, 77ggg, 77nnn, 77sss, 77ttt, 78c, 78d, 78e, 78f, 78g, 78i,
78j, 78j-1, 78k, 78k-1, 78l, 78m, 78n, 78o, 78p, 78q, 78s, 78u-5,
78w, 78x, 78ll, 78mm, 79q, 79t, 80a-20, 80a-23, 80a-29, 80a-37, 80b-
3, 80b-4, 80b-11, and 7201 et seq.; and 18 U.S.C. 1350, unless
otherwise noted.
* * * * *
0
4. Section 240.31-1 is removed.
0
5. Section 240.31 is added to read as follows:
Sec. 240.31 Section 31 transaction fees.
(a) Definitions. For the purpose of this section, the following
definitions shall apply:
(1) Assessment charge means the amount owed by a covered SRO for a
covered round turn transaction pursuant to section 31(d) of the Act (15
U.S.C. 78ee(d)).
(2) Billing period means, for a single calendar year:
(i) January 1 through August 31 (``billing period 1''); or
(ii) September 1 through December 31 (``billing period 2'').
(3) Charge date means the date on which a covered sale or covered
round turn transaction occurs for purposes of determining the liability
of a covered SRO pursuant to section 31 of the Act (15 U.S.C. 78ee).
The charge date is:
(i) The settlement date, with respect to any covered sale (other
than a covered sale resulting from the exercise of an option settled by
physical delivery or from the maturation of a security future settled
by physical delivery) or
[[Page 41079]]
covered round turn transaction that a covered SRO is required to report
to the Commission based on data that the covered SRO receives from a
designated clearing agency;
(ii) The exercise date, with respect to a covered sale resulting
from the exercise of an option settled by physical delivery;
(iii) The maturity date, with respect to a covered sale resulting
from the maturation of a security future settled by physical delivery;
and
(iv) The trade date, with respect to all other covered sales and
covered round turn transactions.
(4) Covered association means any national securities association
by or through any member of which covered sales or covered round turn
transactions occur otherwise than on a national securities exchange.
(5) Covered exchange means any national securities exchange on
which covered sales or covered round turn transactions occur.
(6) Covered sale means a sale of a security, other than an exempt
sale or a sale of a security future, occurring on a national securities
exchange or by or through any member of a national securities
association otherwise than on a national securities exchange.
(7) Covered round turn transaction means a round turn transaction
in a security future, other than a round turn transaction in a future
on a narrow-based security index, occurring on a national securities
exchange or by or through a member of a national securities association
otherwise than on a national securities exchange.
(8) Covered SRO means a covered exchange or covered association.
(9) Designated clearing agency means a clearing agency registered
under section 17A of the Act (15 U.S.C. 78q-1) that clears and settles
covered sales or covered round turn transactions.
(10) Due date means:
(i) March 15, with respect to the amounts owed by covered SROs
under section 31 of the Act (15 U.S.C. 78ee) for covered sales and
covered round turn transactions having a charge date in billing period
2; and
(ii) September 30, with respect to the amounts owed by covered SROs
under section 31 of the Act (15 U.S.C. 78ee) for covered sales and
covered round turn transactions having a charge date in billing period
1.
(11) Exempt sale means:
(i) Any sale of a security offered pursuant to an effective
registration statement under the Securities Act of 1933 (except a sale
of a put or call option issued by the Options Clearing Corporation) or
offered in accordance with an exemption from registration afforded by
section 3(a) or 3(b) of the Securities Act of 1933 (15 U.S.C. 77c(a) or
77c(b)), or a rule thereunder;
(ii) Any sale of a security by an issuer not involving any public
offering within the meaning of section 4(2) of the Securities Act of
1933 (15 U.S.C. 77d(2));
(iii) Any sale of a security pursuant to and in consummation of a
tender or exchange offer;
(iv) Any sale of a security upon the exercise of a warrant or right
(except a put or call), or upon the conversion of a convertible
security;
(v) Any sale of a security that is executed outside the United
States and is not reported, or required to be reported, to a
transaction reporting association as defined in Sec. 240.11Aa3-1 and
any approved plan filed thereunder;
(vi) Any sale of an option on a security index (including both a
narrow-based security index and a non-narrow-based security index);
(vii) Any sale of a bond, debenture, or other evidence of
indebtedness; and
(viii) Any recognized riskless principal sale.
(12) Fee rate means the fee rate applicable to covered sales under
section 31(b) or (c) of the Act (15 U.S.C. 78ee(b) or (c)), as adjusted
from time to time by the Commission pursuant to section 31(j) of the
Act (15 U.S.C. 78ee(j)).
(13) Narrow-based security index means the same as in section
3(a)(55)(B) and (C) of the Act (15 U.S.C. 78c(a)(55)(B) and (C)).
(14) Recognized riskless principal sale means a sale of a security
where all of the following conditions are satisfied:
(i) A broker-dealer receives from a customer an order to buy (sell)
a security;
(ii) The broker-dealer engages in two contemporaneous offsetting
transactions as principal, one in which the broker-dealer buys (sells)
the security from (to) a third party and the other in which the broker-
dealer sells (buys) the security to (from) the customer; and
(iii) The Commission, pursuant to section 19(b)(2) of the Act (15
U.S.C. 78s(b)(2)), has approved a proposed rule change submitted by the
covered SRO on which the second of the two contemporaneous offsetting
transactions occurs that permits that transaction to be reported as
riskless.
(15) Round turn transaction in a security future means one purchase
and one sale of a contract of sale for future delivery.
(16) Physical delivery exchange-traded option means a securities
option that is listed and registered on a national securities exchange
and settled by the physical delivery of the underlying securities.
(17) Section 31 bill means the bill sent by the Commission to a
covered SRO pursuant to section 31 of the Act (15 U.S.C. 78ee) showing
the total amount due from the covered SRO for the billing period, as
calculated by the Commission based on the data submitted by the covered
SRO in its Form R31 (Sec. 249.11 of this chapter) submissions for the
months of the billing period.
(18) Trade reporting system means an automated facility operated by
a covered SRO used to collect or compare trade data.
(b) Reporting of covered sales and covered round turn transactions.
(1) Each covered SRO shall submit a completed Form R31 (Sec.
249.11 of this chapter) to the Commission within ten business days
after the end of each month.
(2) A covered exchange shall provide on Form R31 the following data
on covered sales and covered round turn transactions occurring on that
exchange and having a charge date in that month:
(i) The aggregate dollar amount of covered sales that it reported
to a designated clearing agency, as reflected in the data provided by
the designated clearing agency;
(ii) The aggregate dollar amount of covered sales resulting from
the exercise of physical delivery exchange-traded options or from
matured security futures, as reflected in the data provided by a
designated clearing agency that clears and settles options or security
futures;
(iii) The aggregate dollar amount of covered sales that it captured
in a trade reporting system but did not report to a designated clearing
agency;
(iv) The aggregate dollar amount of covered sales that it neither
captured in a trade reporting system nor reported to a designated
clearing agency; and
(v) The total number of covered round turn transactions that it
reported to a designated clearing agency, as reflected in the data
provided by the designated clearing agency.
(3) A covered association shall provide on Form R31 the following
data on covered sales and covered round turn transactions occurring by
or through any member of such association otherwise than on a national
securities exchange and having a charge date in that month:
(i) The aggregate dollar amount of covered sales that it captured
in a trade reporting system;
(ii) The aggregate dollar amount of covered sales that it did not
capture in a trade reporting system; and
[[Page 41080]]
(iii) The total number of covered round turn transactions that it
reported to a designated clearing agency, as reflected in the data
provided by the designated clearing agency.
(4) Duties of designated clearing agency.
(i) A designated clearing agency shall provide a covered SRO, upon
request, the data in its possession needed by the covered SRO to
complete Part I of Form R31 (Sec. 249.11 of this chapter).
(ii) If a covered exchange trades physical delivery exchange-traded
options or security futures that settle by physical delivery of the
underlying securities, the designated clearing agency that clears and
settles such transactions shall provide that covered exchange with the
data in its possession relating to the covered sales resulting from the
exercise of such options or from the matured security futures. If,
during a particular month, the designated clearing agency cannot
determine the covered exchange on which the options or security futures
originally were traded, the designated clearing agency shall assign
covered sales resulting from exercises or maturations as follows. To
provide Form R31 data to the covered exchange for a particular month,
the designated clearing agency shall:
(A) Calculate the aggregate dollar amount of all covered sales in
the previous calendar month resulting from exercises and maturations,
respectively, occurring on all covered exchanges for which it clears
and settles transactions;
(B) Calculate, for the previous calendar month, the aggregate
dollar amount of covered sales of physical delivery exchange-traded
options occurring on each covered exchange for which it clears and
settles transactions, and the aggregate dollar amount of covered sales
of physical delivery exchange-traded options occurring on all such
exchanges collectively;
(C) Calculate, for the previous calendar month, the total number of
covered round turn transactions in security futures that settle by
physical delivery that occurred on each covered exchange for which it
clears and settles transactions, and the total number of covered round
turn transactions in security futures that settle by physical delivery
that occurred on all such exchanges collectively;
(D) Determine for the previous calendar month each covered
exchange's percentage of the total dollar volume of physical delivery
exchange-traded options (``exercise percentage'') and each covered
exchange's percentage of the total number of covered round turn
transactions in security futures that settle by physical delivery
(``maturation percentage''); and
(E) In the current month, assign to each covered exchange for which
it clears and settles covered sales the exercise percentage of the
aggregate dollar amount of covered sales on all covered exchanges
resulting from the exercise of physical delivery exchange-traded
options and the maturation percentage of all covered sales on all
covered exchanges resulting from the maturation of security futures
that settle by physical delivery.
(5) A covered SRO shall provide in Part I of Form R31 only the data
supplied to it by a designated clearing agency.
(c) Calculation and billing of section 31 fees.
(1) The amount due from a covered SRO for a billing period, as
reflected in its Section 31 bill, shall be the sum of the monthly
amounts due for each month in the billing period.
(2) The monthly amount due from a covered SRO shall equal:
(i) The aggregate dollar amount of its covered sales that have a
charge date in that month, times the fee rate; plus
(ii) The total number of its covered round turn transactions that
have a charge date in that month, times the assessment charge.
(3) By the due date, each covered SRO shall pay the Commission,
either directly or through a designated clearing agency acting as
agent, the entire amount due for the billing period, as reflected in
its Section 31 bill.
0
6. Section 240.31T is added to read as follows:
Sec. 240.31T Temporary rule regarding fiscal year 2004.
(a) Definitions.
(1) For the purpose of this section, the following definitions
shall apply:
(i) FY2004 adjustment amount means the FY2004 recalculated amount
minus the FY2004 prepayment amount.
(ii) FY2004 prepayment amount means the total dollar amount of fees
and assessments paid by a covered SRO pursuant to the March 15, 2004,
due date for covered sales and covered round turn transactions having a
charge date between September 1, 2003, and December 31, 2003,
inclusive.
(iii) FY2004 recalculated amount means the total dollar amount of
fees and assessments owed by a covered SRO for covered sales and
covered round turn transactions having a charge date between September
1, 2003, and December 31, 2003, inclusive, as calculated by the
Commission based on the data submitted by the covered SRO in its Form
R31 (Sec. 249.11 of this chapter) submissions for September 2003,
October 2003, November 2003, and December 2003, and indicated on a
Section 31 bill for these months.
(2) Any term used in this section that is defined in Sec.
240.30(a) of this chapter shall have the same meaning as in Sec.
240.30(a) of this chapter.
(b) By August 13, 2004, each covered SRO shall submit to the
Commission a completed Form R31 for each of the months September 2003
to June 2004, inclusive.
(c) If the FY2004 adjustment amount of a covered SRO is a positive
number, the covered SRO shall include the FY2004 adjustment amount with
the payment for its next Section 31 bill.
(d) If the FY2004 adjustment amount is a negative number, the
Commission shall credit the FY2004 adjustment amount to the covered
SRO's next Section 31 bill.
(e) Notwithstanding paragraph (a)(1)(iii) of this section, any
covered exchange that as of August 2003 was calculating its Section 31
fees based on the trade date of its covered sales shall not include on
its September 2003 Form R31 data for any covered sale having a trade
date before September 1, 2003.
(f) This temporary section shall expire on January 1, 2005.
PART 249--FORMS, SECURITIES EXCHANGE ACT OF 1934
0
7. The authority citation for part 249 continues to read in part as
follows:
Authority: 15 U.S.C. 78a et seq. and 7201 et seq.; and 18 U.S.C.
1350, unless otherwise noted.
* * * * *
0
8. Section 249.11 and Form R31 (referenced in Sec. 249.11) are added
to read as follows:
Sec. 249.11 Form R31 for reporting covered sales and covered round
turn transactions under section 31 of the Act.
This form shall be used by each national securities exchange to
report to the Commission within ten business days after the end of
every month the aggregate dollar amount of sales of securities that
occurred on the exchange, had a charge date in the month of the report,
and are subject to fees pursuant to section 31(b) of the Act (15 U.S.C.
78ee) and Sec. 240.31 of this chapter; and the total number of round
turn transactions in security futures that occurred on the exchange,
had a charge date in the month of the report, and are subject to
assessments pursuant to section 31(d) of the Act and Sec. 240.31 of
this chapter. This form also shall be used by a national securities
association to report to the Commission within ten
[[Page 41081]]
business days after the end of every month the aggregate dollar amount
of sales of securities that occurred by or through a member of the
association otherwise than on a national securities exchange, had a
charge date in the month of the report, and are subject to fees
pursuant to section 31(c) of the Act and Sec. 240.31 of this chapter;
and the total number of round turn transactions in security futures
that occurred by or through any member of the association otherwise
than on a national securities exchange, had a charge date in the month
of the report, and are subject to assessments pursuant to section 31(d)
of the Act and Sec. 240.31 of this chapter.
Note: The text of Form R31 does not, and this amendment will
not, appear in the Code of Federal Regulations.
BILLING CODE 8010-01-P
[[Page 41082]]
[GRAPHIC] [TIFF OMITTED] TR07JY04.009
[[Page 41083]]
[GRAPHIC] [TIFF OMITTED] TR07JY04.010
[[Page 41084]]
[GRAPHIC] [TIFF OMITTED] TR07JY04.011
[[Page 41085]]
[GRAPHIC] [TIFF OMITTED] TR07JY04.012
[[Page 41086]]
[GRAPHIC] [TIFF OMITTED] TR07JY04.013
[[Page 41087]]
[GRAPHIC] [TIFF OMITTED] TR07JY04.014
By the Commission.
Dated: June 28, 2004.
Jill M. Peterson,
Assistant Secretary.
[FR Doc. 04-15081 Filed 7-6-04; 8:45 am]
BILLING CODE 8010-01-C