[Federal Register Volume 79, Number 190 (Wednesday, October 1, 2014)]
[Notices]
[Pages 59322-59331]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2014-23308]
[[Page 59322]]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-73210; File No. SR-FINRA-2014-037]
Self-Regulatory Organizations; Financial Industry Regulatory
Authority, Inc.; Notice of Filing of a Proposed Rule Change To Adopt
FINRA Rules 0190 (Effective Date of Revocation, Cancellation,
Expulsion, Suspension or Resignation) and 2040 (Payments to
Unregistered Persons) in the Consolidated FINRA Rulebook, and Amend
FINRA Rule 8311 (Effect of a Suspension, Revocation, Cancellation, or
Bar)
September 25, 2014.
Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934
(``Act'') \1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that
on September 10, 2014, Financial Industry Regulatory Authority, Inc.
(``FINRA'') filed with the Securities and Exchange Commission (``SEC''
or ``Commission'') the proposed rule change as described in Items I,
II, and III below, which Items have been substantially prepared by
FINRA. The Commission is publishing this notice to solicit comments on
the proposed rule change from interested persons.
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\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of Substance
of the Proposed Rule Change
FINRA is proposing to adopt FINRA Rule 2040 (Payments to
Unregistered Persons) regarding the payment of transaction-based
compensation by members to unregistered persons, and Supplementary
Material .01 (Reasonable Support for Determination of Compliance with
Section 15(a) of the Exchange Act). The proposed rule change would
streamline provisions of NASD Rule 2410 (Net Prices to Persons Not in
Investment Banking or Securities Business), NASD Rule 2420 (Dealing
with Non-Members), NASD IM-2420-1 (Transactions Between Members and
Non-Members), NASD IM-2420-2 (Continuing Commissions Policy),
Incorporated NYSE Rule 353 (Rebates and Compensation), Incorporated
NYSE Rule Interpretation 345(a)(i)/01 (Compensation to Non-Registered
Persons) and Incorporated NYSE Rule Interpretation 345(a)(i)/02
(Compensation Paid for Advisory Solicitations), which would be deleted
from the current FINRA rulebook. The proposed rule change also would
adopt the requirements of NASD Rule 1060(b) (Persons Exempt from
Registration) and Incorporated NYSE Rule Interpretation 345(a)(i)/03
(Compensation to Non-Registered Foreign Persons Acting as Finders), as
FINRA Rule 2040(c) (Nonregistered Foreign Finders) in the consolidated
FINRA rulebook without material change. In addition, the proposed rule
change would amend FINRA Rule 8311 (Effect of a Suspension, Revocation,
Cancellation, or Bar), add new Supplementary Material .01 (Remuneration
Accrued Prior to Effective Date of Sanction or Disqualification), and
adopt the requirements of NASD IM-2420-1(a) (Non-members of the
Association), as FINRA Rule 0190 (Effective Date of Revocation,
Cancellation, Expulsion, Suspension or Resignation).
The text of the proposed rule change is available on FINRA's Web
site at http://www.finra.org, at the principal office of FINRA and at
the Commission's Public Reference Room.
II. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
In its filing with the Commission, FINRA included statements
concerning the purpose of and basis for the proposed rule change and
discussed any comments it received on the proposed rule change. The
text of these statements may be examined at the places specified in
Item IV below. FINRA has prepared summaries, set forth in sections A,
B, and C below, of the most significant aspects of such statements.
A. Self-Regulatory Organization's Statement of the Purpose of, and
Statutory Basis for, the Proposed Rule Change
1. Purpose
As part of the process of developing a new consolidated rulebook
(``Consolidated FINRA Rulebook''),\3\ FINRA is proposing to adopt FINRA
Rule 2040 (Payments to Unregistered Persons) regarding the payment of
transaction-based compensation by members to unregistered persons, and
Supplementary Material .01 (Reasonable Support for Determination of
Compliance with Section 15(a) of the Exchange Act). The proposed rule
change would streamline provisions of NASD Rule 2410 (Net Prices to
Persons Not in Investment Banking or Securities Business), NASD Rule
2420 (Dealing with Non-Members), NASD IM-2420-1 (Transactions Between
Members and Non-Members), NASD IM-2420-2 (Continuing Commissions
Policy), NYSE Rule 353 (Rebates and Compensation), NYSE Rule
Interpretation 345(a)(i)/01 (Compensation to Non-Registered Persons)
and NYSE Rule Interpretation 345(a)(i)/02 (Compensation Paid for
Advisory Solicitations), which would be deleted from the current FINRA
rulebook. The proposed rule change also would adopt the requirements of
NASD Rule 1060(b) (Persons Exempt from Registration) and NYSE Rule
Interpretation 345(a)(i)/03 (Compensation to Non-Registered Foreign
Persons Acting as Finders), as FINRA Rule 2040(c) (Nonregistered
Foreign Finders) in the Consolidated FINRA Rulebook without material
change. In addition, the proposed rule change would amend FINRA Rule
8311 (Effect of a Suspension, Revocation, Cancellation, or Bar), add
new Supplementary Material .01 (Remuneration Accrued Prior to Effective
Date of Sanction or Disqualification), and adopt the requirements of
NASD IM-2420-1(a) (Non-members of the Association), as FINRA Rule 0190
(Effective Date of Revocation, Cancellation, Expulsion, Suspension or
Resignation).
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\3\ The current FINRA rulebook consists of (1) FINRA Rules; (2)
NASD Rules; and (3) rules incorporated from NYSE (``Incorporated
NYSE Rules''). While the NASD Rules generally apply to all FINRA
members, the Incorporated NYSE Rules apply only to those members of
FINRA that are also members of the NYSE (``Dual Members''). The
FINRA Rules apply to all FINRA members, unless such rules have a
more limited application by their terms. For more information about
the rulebook consolidation process, see Information Notice, March
12, 2008 (Rulebook Consolidation Process). For convenience, the
Incorporated NYSE Rules are referred to as the NYSE Rules.
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A. Background
NASD Rule 1060(b) (Persons Exempt from Registration), NASD Rule
2410 (Net Prices to Persons Not in Investment Banking or Securities
Business), NASD Rule 2420 (Dealing with Non-Members), NASD IM-2420-1
(Transactions Between Members and Non-Members), and NASD IM-2420-2
(Continuing Commissions Policy) (collectively, the ``NASD Non-Member
Rules'') govern payments by members to unregistered persons. The NASD
Non-Member Rules (other than NASD Rule 1060(b)) were developed in an
era when a registered broker-dealer could engage in an over-the-counter
securities business and elect not to be a member of a registered
securities association.\4\ An original
[[Page 59323]]
purpose of the NASD Non-Member Rules was to encourage non-members to
become members by generally prohibiting members from providing
commissions or discounts/concessions to non-members.\5\ Since the
adoption of the NASD Non-Member Rules, the laws governing broker-
dealers have changed, and today virtually all broker-dealers doing
business with the public are FINRA members.\6\
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\4\ See Maloney Act of 1938, Public Law 75-719, 52 Stat. 1070,
which added Section 15A of the Exchange Act to provide for the
establishment of national securities associations with authority,
subject to SEC review, to supervise the over-the-counter securities
market and promulgate rules governing voluntary membership of
broker-dealers.
\5\ Section 15A(e)(1) of the Exchange Act states that ``[t]he
rules of a registered securities association may provide that no
member thereof shall deal with any nonmember professional (as
defined in paragraph (2) of this subsection) except at the same
prices, for the same commissions or fees, and on the same terms and
conditions as are by such member accorded to the general public.''
Section 15A(e)(2) of the Exchange Act defines ``nonmember
professional'' as ``(A) with respect to transactions in securities
other than municipal securities, any registered broker or dealer who
is not a member of a registered securities association, except such
a broker or dealer who deals exclusively in commercial paper,
bankers' acceptances, and commercial bills, and (B) with respect to
transactions in municipal securities, any municipal securities
dealer (other than a bank or division or department of a bank) who
is not a member of any registered securities association and any
municipal securities broker who is not a member of any such
association.'' The legislative reports from Congress on this
provision state that exclusion from membership would in effect be a
form of economic sanction on such non-members. See S. Rep. No. 1455
and H. R. Rep. No 2307, 75th Cong., 3rd Sess. (1938).
\6\ Section 15(b)(8) of the Exchange Act provides that ``[i]t
shall be unlawful for any registered broker or dealer to effect any
transaction in, or induce or attempt to induce the purchase or sale
of, any security (other than commercial paper, bankers' acceptances,
or commercial bills), unless such broker or dealer is a member of a
securities association registered pursuant to Section 15A of this
title or effects transactions in securities solely on a national
securities exchange of which it is a member.''
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As a result, FINRA generally has interpreted the provisions of the
NASD Non-Member Rules, through interpretive letters and other guidance,
to prohibit the payment of commissions or fees derived from a
securities transaction to any non-member that may be acting as an
unregistered broker-dealer. Section 15(a)(1) of the Exchange Act
generally requires any broker-dealer effecting transactions in
securities to be registered with the SEC. FINRA has refrained from
providing interpretive guidance on whether a person is acting as an
unregistered broker-dealer, as the authority to interpret Section 15(a)
of the Exchange Act rests with the SEC. Registration as a broker-dealer
provides a framework of rules to regulate the conduct of persons who
receive transaction-based compensation, the receipt of which can create
potential incentives for abusive sales practices. SEC guidance states
that receipt of securities transaction-based compensation is an
indication that a person is engaged in the securities business and that
such person generally should be registered as a broker-dealer.
B. Proposed FINRA Rule 2040
FINRA is proposing to adopt new FINRA Rule 2040 (Payments to
Unregistered Persons), which eliminates the current NASD Non-Member
Rules and related NYSE Non-Member Rules (discussed further below) and
replaces them with a more straightforward rule. The proposed rule
expressly aligns with Section 15(a) of the Exchange Act and its related
guidance to determine whether registration as a broker-dealer is
required for certain persons to receive transaction-related
compensation. As further discussed in Item II.C. below, the proposed
rule change was published for comment in Regulatory Notice 09-69.\7\
FINRA received seven comment letters. A significant number of the
commenters expressed concern regarding the potential regulatory burden
of obtaining SEC no-action letters to determine whether particular
activities would require registration of persons as broker-dealers
under Section 15(a) of the Exchange Act, and the proposed deletion of
NASD Rule 1060(b) and NYSE Rule Interpretation 345(a)(i)/03 relating to
payments to foreign finders. In an effort to respond to these concerns,
FINRA is proposing to adopt Supplementary Material .01 (Reasonable
Support for Determination of Compliance with Section 15(a) of the
Exchange Act) to proposed FINRA Rule 2040 to provide guidance to
members regarding the manner in which they can reasonably support a
determination that an unregistered person is not required to be
registered under Section 15(a) of the Exchange Act by reason of
receiving payments from the member and the activities related thereto.
FINRA is also proposing to retain NASD Rule 1060(b) and NYSE Rule
Interpretation 345(a)(i)/03 relating to foreign finders as proposed
FINRA Rule 2040(c). The proposed rule sets forth the following
requirements:
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\7\ See Regulatory Notice 09-69 (December 2009).
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Payments to Unregistered Persons
FINRA is proposing to adopt new FINRA Rule 2040(a), which prohibits
members or associated persons from, directly or indirectly, paying any
compensation, fees, concessions, discounts, commissions or other
allowances to:
(1) any person that is not registered as a broker-dealer under
Section 15(a) of the Exchange Act but, by reason of receipt of any such
payments and the activities related thereto, is required to be so
registered under applicable federal securities laws and SEA rules and
regulations; or
(2) any appropriately registered associated person, unless such
payment complies with all applicable federal securities laws, FINRA
rules and SEA rules and regulations.
The proposed change would make the rule consistent with FINRA staff
interpretations under NASD Rule 2420 and SEC rules and regulations
under Section 15(a) of the Exchange Act.\8\ Under the proposal, persons
would look to SEC rules and regulations to determine whether the
activities in question require registration as a broker-dealer under
Section 15(a) of the Exchange Act. Persons may also rely on related
published guidance issued by the SEC or its staff in the form of
releases, no-action letters or interpretations. The proposal would
align the rule with SEC staff guidance that states that receipt of
securities transaction-based compensation is an indication that a
person is engaged in the securities business and that such person
generally should be registered as a broker-dealer. The proposed change
also prohibits payments to appropriately registered associated persons
unless such payments comply with applicable federal securities laws,
FINRA rules and SEA rules and regulations.
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\8\ See FINRA Interpretative Letters issued under NASD Rule
2420: Letter to Richard Schultz, Triad Securities Corp., dated
December 28, 2007; Letter to Jonathan K. Lagemann, Esq., Law Offices
of Jonathan Kord Lagemann, dated June 27, 2001; Letter to Jay Adams
Knight, Esq., Musick, Peeler & Garrett LLP, dated March 8, 2001; and
Letter to Michael R. Miller, Esq., Kunkel Miller & Hament, dated May
31, 2000 (available at http://www.finra.org/Industry/Regulation/Guidance/InterpretiveLetters/ConductRules/index.htm).
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FINRA is proposing to adopt Supplementary Material .01 (Reasonable
Support for Determination of Compliance with Section 15(a) of the
Exchange Act) to proposed FINRA Rule 2040 to provide guidance to
members. In applying the proposed rule, FINRA will expect members to
determine that their proposed activities would not require the
recipient of the payments to register as a broker-dealer and to
reasonably support such determination. Members that are uncertain as to
whether an unregistered person may be required to be registered under
Section 15(a) of the Exchange Act by reason of receiving payments from
the member and the activities related thereto can derive support for
their determination by, among other things, (1) reasonably relying on
previously published releases, no-action letters or interpretations
from the Commission or Commission staff that apply to their facts and
circumstances; (2) seeking a
[[Page 59324]]
no-action letter from the Commission staff; or (3) obtaining a legal
opinion from independent, reputable U.S. licensed counsel knowledgeable
in the area. The member's determination must be reasonable under the
circumstances and should be reviewed periodically if payments to the
unregistered person are ongoing in nature. In addition, a member must
maintain books and records that reflect the member's determination.
Retiring Representatives
FINRA is also proposing to adopt new FINRA Rule 2040(b), which
codifies existing FINRA staff guidance on the payment by members of
continuing commissions to retiring registered representatives.\9\ The
proposal permits members to pay continuing commissions to retiring
registered representatives of the member, after they cease to be
associated with the member, that are derived from accounts held for
continuing customers of the retiring registered representative
regardless of whether customer funds or securities are added to the
accounts during the period of retirement, provided that: (1) A bona
fide contract between the member and the retiring registered
representative providing for the payments was entered into in good
faith while the person was a registered representative of the member
and such contract, among other things, prohibits the retiring
registered representative from soliciting new business, opening new
accounts or servicing the accounts generating the continuing commission
payments; and (2) the arrangement complies with applicable federal
securities laws and SEA rules and regulations.
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\9\ See FINRA Interpretative Letters issued under NASD IM-2420-
2: Letter to Name Not Public, dated November 27, 2012; Letter to Ted
A. Troutman, Esquire, Muir & Troutman, dated February 4, 2002;
Letter to Joe Tully, Commonwealth Financial Network, dated August 9,
2001; and Letter to Peter D. Koffer, Esq, Twenty-First Securities
Corporation, dated January 21, 2000 (available at http://www.finra.org/Industry/Regulation/Guidance/InterpretiveLetters/ConductRules/index.htm).
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The proposal defines the term ``retiring registered
representative'' to mean an individual who retires from a member
(including as a result of a total disability) and leaves the securities
industry.\10\ In the case of death of the retiring registered
representative, the retiring registered representative's beneficiary
designated in the written contract or the retiring registered
representative's estate if no beneficiary is so designated may be the
beneficiary of the respective member's agreement with the deceased
representative.
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\10\ See SEC No-Action Letter to the Securities Industry and
Financial Markets Association, 2008 SEC No-Act. LEXIS 695, November
20, 2008. The letter provides that ``[t]he retiring representative
must sever association with the Firm and with any municipal
securities dealer, government securities dealer, investment adviser
or investment company affiliates (except as may be required to
maintain any licenses or registrations required by any state) and,
is not permitted to be associated with any other broker, dealer,
municipal securities dealer, government securities dealer,
investment adviser or investment company, during the term of his or
her agreement. The retiring representative also may not be
associated with any bank, insurance company or insurance agency
(affiliated with the Firm or otherwise) during the term of his or
her agreement if the retiring representative's activities relate to
effecting transactions in securities.'' See also SEC No-Action
Letter to Amy Lee, Chief Compliance Officer, Co-CEO, Packerland
Brokerage Services, 2013 SEC No-Act. LEXIS 237, March 18, 2013.
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FINRA believes this proposal is consistent with SEC guidance on the
payment of compensation to retiring representatives.\11\
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\11\ See supra note 10.
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Nonregistered Foreign Finders
As further discussed in Item II.C. below, in light of comments
raised in response to Regulatory Notice 09-69, FINRA is proposing to
transfer NASD Rule 1060(b) (Persons Exempt from Registration) and NYSE
Rule Interpretation 345(a)(i)/03 (Compensation to Non-Registered
Foreign Persons Acting as Finders) with minor technical changes into
the Consolidated FINRA Rulebook as FINRA Rule 2040(c).\12\ As approved
by the SEC in 1993 and 1995, respectively, NYSE Rule Interpretation
345(a)(i)/03 and NASD Rule 1060(b) are largely identical provisions and
provide that members and persons associated with a member may pay
transaction-related compensation to nonregistered foreign finders,
based upon the business of customers such persons direct to members,
subject to identified conditions. FINRA is proposing non-substantive,
technical changes to the proposed rule text to make it easier to read.
Specifically, proposed FINRA Rule 2040(c) would provide that a member
may pay to a nonregistered foreign finder (the ``finder'') transaction-
related compensation based upon the business of customers the finder
directs to the member if the following conditions are met (``foreign
finders exemption''):
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\12\ See supra note 7.
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(1) The member has assured itself that the finder who will receive
the compensation is not required to register in the United States as a
broker-dealer nor is subject to a disqualification as defined in
Article III, Section 4 of FINRA's By-Laws, and has further assured
itself that the compensation arrangement does not violate applicable
foreign law;
(2) the finder is a foreign national (not a U.S. citizen) or
foreign entity domiciled abroad;
(3) the customers are foreign nationals (not U.S. citizens) or
foreign entities domiciled abroad transacting business in either
foreign or U.S. securities;
(4) customers receive a descriptive document, similar to that
required by Rule 206(4)-3(b) of the Investment Advisers Act of 1940
(``Investment Advisers Act''), that discloses what compensation is
being paid to finders;
(5) customers provide written acknowledgment to the member of the
existence of the compensation arrangement and such acknowledgment is
retained and made available for inspection by FINRA;
(6) records reflecting payments to finders are maintained on the
member's books, and actual agreements between the member and the finder
are available for inspection by FINRA; and
(7) the confirmation of each transaction indicates that a referral
or finders fee is being paid pursuant to an agreement.
The rule provides that if all the conditions set forth in the rule
are satisfied, members can pay transaction-related compensation to
nonregistered foreign finders based on the business of non-U.S.
customers that finders refer to members. Specifically, the rule permits
compensation to ``be made on an ongoing basis and tied to such
variables as the level of business generated or assets under control,
notwithstanding the fact that the foreign finders' sole involvement
would be the initial referral to a member.'' \13\ The SEC Foreign
Finders Approval Order states that ``[t]he provision was intended to
give members the opportunity to enhance their competitive position in
foreign countries where new accounts are frequently opened on a
referral basis with ongoing compensation for such referral.'' \14\
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\13\ See Securities Exchange Act Release No. 32431 (June 8,
1993), 58 FR 33128 (June 15, 1993) (Order Approving File No. SR-
NYSE-92-33 Relating to an Interpretation to NYSE Rule 345
(Employees--Registration, Approval, Records)) (``SEC Approval Order
of NYSE Rule 345 Interpretation''). See also Securities Exchange Act
Release No. 35361 (February 13, 1995), 60 FR 9417 (February 17,
1995) (Order Approving File No. SR-NASD-94-51) (``SEC Foreign
Finders Approval Order'').
\14\ See supra note 13.
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Proposed FINRA Rule 2040(c) would have the same scope as the
current rule and continue to allow on-going transaction-based payments
to nonregistered foreign finders under the limited circumstances set
forth in the current rule. As in the current rule, ``[w]hile the
foreign finders' sole involvement would be the initial referral
[[Page 59325]]
to a member or member organization [of non-U.S. customers to the firm],
compensation could be made on an ongoing basis and tied to such
variables as the level of business generated or assets under control.
All accounts referred by such foreign finders would be carried on the
books of the member.'' \15\ Similar to NASD Rule 1060(b), any
activities beyond the initial referral of non-U.S. customers and
payment of transaction-based compensation for any such activities would
not be within the permissible scope of the foreign finders exception as
set forth in proposed FINRA Rule 2040(c). Based solely on its
activities in compliance with proposed FINRA Rule 2040(c), the foreign
finder would not be considered an associated person of the member.
However, unless otherwise permitted by the federal securities laws or
FINRA rules, a person who receives commissions or other transaction-
based compensation in connection with securities transactions generally
has to be a registered broker-dealer or an appropriately registered
associated person of a broker-dealer who is supervised by a broker-
dealer. Members that engage foreign finders would be required to have
reasonable procedures that appropriately address the limited scope of
activities permissible under such arrangements.\16\
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\15\ See Securities Exchange Act Release No. 34941 (November 4,
1994), 59 FR 56102 (November 10, 1994) (Notice of Filing of File No.
SR-NASD-94-51). See also SEC Approval Order of NYSE Rule 345
Interpretation.
\16\ See SEC Foreign Finders Approval Order. FINRA notes that
the scope of permissible activities and associated regulatory
requirements differ between foreign finders and foreign associates,
who are registered persons of the member. See also NASD Rule 1100
(Foreign Associates).
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C. Amendments to FINRA Rule 8311
FINRA Rule 8311
FINRA is proposing amendments to FINRA Rule 8311 to eliminate
duplicative provisions in NASD IM-2420-2 and to clarify the scope of
the rule on payments by members to persons subject to suspension,
revocation, cancellation, bar (each a ``sanction'') or other
disqualification. The proposed rule provides that if a person is
subject to a sanction or other disqualification, a member may not allow
such person to be associated with it in any capacity that is
inconsistent with the sanction imposed or disqualified status,
including a clerical or ministerial capacity. The proposed rule further
provides that a member may not pay or credit to any person subject to a
sanction or disqualification, during the period of the sanction or
disqualification or any period thereafter, any salary, commission,
profit, or any other remuneration that the person might accrue, not
just earn, during the period of the sanction or disqualification.
However, a member may make payments or credits to a person subject to a
sanction that are consistent with the scope of activities permitted
under the sanction where the sanction solely limits an associated
person from conducting specified activities (such as a suspension from
acting in a principal capacity) or to a disqualified person that has
been approved (or is otherwise permitted pursuant to FINRA rules and
the federal securities laws) to associate with a member.
Specifically, the proposal clarifies that:
(1) Other disqualifications, not just suspensions, revocations,
cancellations or bars, are subject to the rule (and the rule is not
limited to orders issued by FINRA or the SEC);
(2) a member may not allow a person subject to a sanction or
disqualification to ``be'' associated with such member in any capacity
that is inconsistent with the sanction imposed or disqualified status,
including a clerical or ministerial capacity, not simply ``remain''
associated;
(3) a member may not pay any remuneration to a person subject to a
sanction or disqualification, not just payments that result directly or
indirectly from any securities transaction; and
(4) the rule applies to any salary, commission, profit or
remuneration that the associated person might ``accrue,'' not just
``earn'' during the period of a sanction or disqualification, not just
suspension.
FINRA is also proposing to add a new paragraph to the rule that
would expressly permit a member to pay to any person subject to a
sanction or disqualification any remuneration pursuant to an insurance
or medical plan, indemnity agreement relating to legal fees, or as
required by an arbitration award or court judgment. FINRA believes that
these exceptions strike the correct balance by permitting certain key
payments.
Proposed Supplementary Material .01
In addition, FINRA is proposing to add new Supplementary Material
.01 (Remuneration Accrued Prior to Effective Date of Sanction or
Disqualification) that relates to commissions accrued by a person prior
to the effective date of a sanction or disqualification. The proposed
supplementary material would permit a member to pay a person that is
subject to a sanction or disqualification remuneration that the member
can evidence accrued to the person prior to the effective date of the
sanction or disqualification. However, a member may not pay any
remuneration that accrued to the person that relates to or results from
the activity giving rise to the sanction or disqualification, and any
such payment or credit must comply with applicable federal securities
laws. FINRA believes that adopting this new provision is necessary to
address questions by the industry on a member's ability to pay
commissions and other remuneration that was accrued by the person prior
to a sanction or disqualification going into effect. FINRA also
believes the supplementary material, together with the proposed
amendments discussed above, clarify that a member may not pay trail
commissions to a person that may accrue during the period of the
sanction or disqualification; rather, the member can only make such
payments where the member can evidence that they accrued to the person
prior to the effective date of the sanction or disqualification.
D. Adoption of New General Standard--FINRA Rule 0190
In addition, FINRA is proposing to adopt a new general standard,
proposed FINRA Rule 0190 (Effective Date of Revocation, Cancellation,
Expulsion, Suspension or Resignation), that is based largely on
provisions of NASD IM-2420-1(a) and would provide that a member will be
treated as a non-member of FINRA from the effective date of any order
or notice from FINRA or the SEC issuing a revocation, cancellation,
expulsion or suspension of its membership. In the case of suspension, a
member will be automatically reinstated to membership in FINRA at the
termination of the suspension period. FINRA believes this is consistent
with the current provisions of NASD IM-2420-1(a) and should be retained
in the FINRA rulebook.
E. NASD and NYSE Rules To Be Deleted
FINRA proposes to eliminate the following NASD and NYSE Rules and
related interpretations because FINRA believes that proposed FINRA Rule
2040 simplifies and clarifies the meaning of such rules consistent with
Section 15(a) of the Exchange Act. Specifically, NASD Rule 2410, NASD
Rule 2420, NASD IM-2420-1, NASD IM-2420-2, NYSE Rule 353, NYSE Rule
Interpretation 345(a)(i)/01 and NYSE Rule Interpretation 345(a)(i)/02
will be consolidated into proposed FINRA Rule 2040, providing members
with one concise rule that
[[Page 59326]]
outlines the applicable requirements for payments to non-members.
NASD Rule 2410
NASD Rule 2410 (Net Prices to Persons Not in Investment Banking and
Securities Business) prohibits payments or concessions by members to
``any person not actually engaged in the investment banking or
securities business.''
NASD Rule 2420
NASD Rule 2420 (Dealing with Non-Members) generally prohibits
members from dealing with, or making payments to, non-member broker-
dealers, except at the same prices, fees or concessions offered to the
general public. NASD Rule 2420(b) specifically prohibits members from
joining any non-member broker-dealer syndicate or group in connection
with the sale of securities. NASD Rule 2420(c) provides that members
may pay concessions and fees to a non-member broker or dealer in a
foreign country who is not eligible for membership, provided the member
obtains an agreement from such foreign broker or dealer in making sales
of securities within the United States that such foreign broker or
dealer will act in accordance with the general requirements of the rule
to prohibit the payment of concessions or discounts to non-members that
are not allowed to the general public. NASD Rule 2420(d) provides
restrictions on payments by or to persons that have been suspended or
expelled.
NASD IM-2420-1
NASD IM-2420-1 (Transactions between Members and Non-Members)
provides certain exemptions from the general prohibition on
arrangements with non-members set forth in NASD Rule 2420. For example,
the rule provides exemptions for arrangements with certain non-members
relating to transactions in ``exempted securities,'' or transactions on
a national securities exchange. The rule further clarifies that a firm
that is suspended or expelled from FINRA membership, or whose
registration is revoked by the SEC, is to be considered a non-member
for purposes of the rule.
NASD IM-2420-2
NASD IM-2420-2 (Continuing Commissions Policy) allows members to
pay continuing commissions to former registered representatives after
they cease to be employed by a member, if, among other things, a bona
fide contract between the member and the registered representative
calling for the payments was entered into in good faith while the
person was a registered representative of the employing member. The
rule states that such contracts cannot permit the solicitation of new
business or the opening of new accounts by persons who are not
registered, and must conform with all applicable laws and regulations.
The rule also provides that NASD Rule 2830(c) (Investment Company
Securities, Conditions for Discounts to Dealers) should not be
interpreted to require a sales agreement for a dealer to receive
commissions on direct payments by clients or automatic dividend
reinvestments. The rule further contains a prohibition on the payment
of any kind by a member to any person who is not eligible for FINRA
membership or eligible to be associated with a member because of any
disqualification, such as revocation, expulsion or suspension that is
still in effect. The rule recognizes the validity of contracts entered
into in good faith to allow retired representatives to receive
continuing compensation on their accounts or to designate a widow or
other beneficiary; however, the rule states that members are not
required to enter into such contracts and FINRA will not specify the
terms of such contracts.
NYSE Rule 353
NYSE Rule 353 (Rebates and Compensation) prohibits a member,
principal executive, registered representative or officer from,
directly or indirectly, rebating to any person any part of the
compensation he receives from the solicitation of orders for the
purchase or sale of securities or other similar instruments for the
accounts of customers of the member, or pay such compensation, or any
part thereof, as a bonus, commission, fee or other consideration for
business sought or procured for him or for any other member. NYSE Rule
353(b) further provides that a member, principal executive, registered
representative or officer cannot be compensated for business done by or
through his employer after the termination of his employment except as
may be permitted by the NYSE.
NYSE Rule Interpretations 345(a)(i)/01 and/02
NYSE Rule Interpretation 345(a)(i)/01 (Compensation to Non-
Registered Persons) prohibits a member from paying to nonregistered
persons compensation based upon the business of customers they direct
to the member if such compensation is, among other things, formulated
as a direct percentage of commissions generated and is other than on an
isolated basis.
NYSE Rule Interpretation 345(a)(i)/02 (Compensation Paid for
Advisory Solicitations) provides that a member that is also registered
with the SEC as an investment adviser may enter into arrangements that
comply with Rule 206(4)-3 (Cash Payments for Client Solicitations) of
the Investment Advisers Act.
FINRA will announce the effective date of the proposed rule change
in a Regulatory Notice to be published no later than 90 days following
Commission approval. The effective date will be no later than 240 days
following Commission approval.
2. Statutory Basis
FINRA believes that the proposed rule change is consistent with the
provisions of Section 15A(b)(6) of the Exchange Act,\17\ which
requires, among other things, that FINRA rules must be designed to
prevent fraudulent and manipulative acts and practices, to promote just
and equitable principles of trade, and, in general, to protect
investors and the public interest. FINRA believes that the proposed
rule change will clarify and streamline current NASD and NYSE rules
relating to payments to unregistered persons for adoption as FINRA
Rules in the new Consolidated FINRA Rulebook. Specifically, proposed
FINRA Rule 2040(a) expressly aligns with Section 15(a) of the Exchange
Act and its related guidance to determine whether registration as a
broker-dealer is required for certain persons to receive transaction-
related compensation; proposed FINRA Rule 2040(b) codifies existing
FINRA guidance on the payment by members of continuing commissions to
retiring registered representatives consistent with SEC guidance in
this area; and proposed FINRA Rule 2040(c) adopts the foreign finders
provisions of NASD Rule 1060(b) and NYSE Rule Interpretation 345(a)(i)/
03 with technical changes. Proposed amendments to FINRA Rule 8311
eliminate duplicate provisions in NASD IM-2420-2 and clarify the scope
of the rule on payments by members to persons subject to sanctions.
---------------------------------------------------------------------------
\17\ 15 U.S.C. 78o-3(b)(6).
---------------------------------------------------------------------------
B. Self-Regulatory Organization's Statement on Burden on Competition
FINRA does not believe that the proposed rule change will result in
any burden on competition that is not necessary or appropriate in
furtherance of the purposes of the Act. FINRA believes the proposed
rule change is consistent with Section 15(a) of the Exchange Act and
its related guidance, and will promote the goal of clarity concerning
the rules applicable to payments of transaction-based compensation to
unregistered persons. Specifically, the proposed rule change will
clarify and streamline current
[[Page 59327]]
NASD and NYSE rules relating to payments to unregistered persons for
adoption as FINRA Rules in the new Consolidated FINRA Rulebook.
Proposed FINRA Rule 2040(a) expressly aligns with Section 15(a) of the
Exchange Act and its related guidance to determine whether registration
as a broker-dealer is required for certain persons to receive
transaction-related compensation; proposed FINRA Rule 2040(b) codifies
existing FINRA guidance on the payment by members of continuing
commissions to retiring registered representatives consistent with SEC
guidance in this area; and proposed FINRA Rule 2040(c) adopts the
foreign finders provisions of NASD Rule 1060(b) and NYSE Rule
Interpretation 345(a)(i)/03 with technical changes.
As the proposed rule change aligns FINRA's requirements with the
requirements of Section 15(a) of the Exchange Act, FINRA believes that
the proposed rule change is appropriately tailored to minimize the
burden and cost of complying with the proposed rule change. Moreover,
FINRA believes that any burden from the proposal will be minimal
because, while the proposal streamlines the current rule to make it
more concise, the obligation of firms to analyze payment arrangements
for compliance with Section 15(a) of the Exchange Act is not new. In
addition, proposed Supplementary Material .01 (Reasonable Support for
Determination of Compliance with Section 15(a) of the Exchange Act) to
proposed FINRA Rule 2040 aims to assist compliance efforts by firms by
providing guidance to members regarding the manner in which they can
reasonably support a determination that an unregistered person is not
required to be registered under Section 15(a) of the Exchange Act by
reason of receiving payments from the member and the activities related
thereto. Proposed Supplementary Material .01 (Remuneration Accrued
Prior to Effective Date of Sanction or Disqualification) to FINRA Rule
8311 also provides guidance to firms regarding permissible payments.
C. Self-Regulatory Organization's Statement on Comments on the Proposed
Rule Change Received From Members, Participants, or Others
The proposed rule change was published for comment in Regulatory
Notice 09-69 (December 2009) (``Notice''). Seven comment letters were
received in response to the Notice.\18\ A copy of the Notice is
attached as Exhibit 2a. A list of the comment letters received in
response to the Notice is attached as Exhibit 2b. Copies of the comment
letters received in response to the Notice are attached as Exhibit 2c.
Below is a summary of the comments and FINRA's responses.
---------------------------------------------------------------------------
\18\ See comment letters from Everarado Vidaurri, Chief
Executive Officer, Intercam Securities, Inc., received January 21,
2010 (``Intercam''); Jorge Ramos, President, Monex Securities, to
Marcia E. Asquith, Corporate Secretary, FINRA, dated January 29,
2010 (``Monex''); Daniel E. LeGaye, The LeGaye Law Firm P.C.,
received February 1, 2010 (``LeGaye Law''); Peter J. Chepucavage,
Executive Director, CFAW, General Counsel, Plexus Consulting LLC, on
behalf of the International Association of Small Broker-Dealers and
Advisers, received February 1, 2010 (``Plexus''); Cliff Kirsch and
Eric Arnold, Sutherland Asbill & Brennan LLP for The Committee of
Annuity Insurers, to Marcia E. Asquith, Corporate Secretary, FINRA,
dated February 1, 2010 (``CAI''); Ethan W. Johnson, Partner, Morgan,
Lewis & Bockius LLP, to Marcia E. Asquith, Corporate Secretary,
FINRA, dated February 1, 2010 (``Morgan Lewis''); and Rex A.
Staples, General Counsel, North American Securities Administrators
Association, Inc., to Marcia E. Asquith, Corporate Secretary, FINRA,
dated February 16, 2010 (``NASAA'').
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Most commenters appreciated the intent of the proposed rule change
to more directly align the rules on payments made by FINRA members to
unregistered persons with SEC positions regarding broker-dealer
registration requirements. However, the commenters had concerns with a
number of the proposed changes. Specifically, the comments focused on
the following issues: (a) The proposed deletion of NASD Rule 1060(b)
and NYSE Rule Interpretation 345(a)(i)/03 relating to payments to
foreign finders; (b) the proposed adoption of FINRA Rule 2040(b) to
replace NASD IM-2420-2 (Continuing Commissions Policy); (c) the
proposed deletion of NASD Rule 2420(c) relating to transactions with
foreign non-members; (d) the proposed deletion of NYSE Rule
Interpretation 345(a)(i)/02 (Compensation Paid for Advisory
Solicitations); (e) the potential regulatory burden of obtaining SEC
no-action letters to determine whether particular activities would
require registration as a broker-dealer; (f) the concern that the
proposal does not recognize state law statutory exemptions for the
payment of compensation in limited circumstances; and (g) the proposed
amendments to FINRA Rule 8311 regarding payments to sanctioned persons.
As further discussed below, in light of the comments, FINRA is
proposing to adopt Supplementary Material .01 (Reasonable Support for
Determination of Compliance with Section 15(a) of the Exchange Act) to
proposed FINRA Rule 2040 to provide guidance to members regarding the
manner in which they can reasonably support a determination that an
unregistered person is not required to be registered under Section
15(a) of the Exchange Act by reason of receiving payments from the
member and the activities related thereto. FINRA is also proposing to
retain NASD Rule 1060(b) and NYSE Rule Interpretation 345(a)(i)/03
relating to foreign finders as proposed FINRA Rule 2040(c).
(a) Foreign Finders (Proposed Deletion of NASD Rule 1060(b) and NYSE
Rule Interpretation 345(a)(i)/03)
In the Notice, FINRA proposed deleting NASD Rule 1060(b) and NYSE
Rule Interpretation 345(a)(i)/03 (``Existing Foreign Finders Rules''),
which permit members to pay transaction-based compensation to
nonregistered foreign finders under specified conditions. The Notice
indicated that these largely identical rules would be deleted and the
activity would be subject to the general requirement in proposed FINRA
Rule 2040(a) that would require firms to look to SEC rules and
regulations to determine whether the activity in question requires
registration as a broker-dealer under Section 15(a) of the Exchange
Act. Six commenters raised concerns regarding the proposed deletion of
these rules and argued strongly that FINRA retain the Existing Foreign
Finders Rules.\19\ Specifically, the commenters stated that the
proposed elimination of these rules would harm U.S. business by
reducing competitiveness and that SEC guidance in this area is not
clear and, therefore, the conditions set forth in the Existing Foreign
Finders Rules provide necessary clarity to the industry.\20\
---------------------------------------------------------------------------
\19\ See Intercam, Monex, LeGaye Law, Plexus, Morgan Lewis and
NASAA.
\20\ See supra note 19.
---------------------------------------------------------------------------
Harm Business/Reduce Competitiveness
Several commenters expressed concern regarding the potential harm
to current business models if NASD Rule 1060(b) is eliminated.\21\ One
commenter stated that foreign ``finders provide an important and
necessary service in that they have introduced foreign customers to
U.S. markets, which is consistent with the transition of the financial
markets to be international in nature.'' \22\ Another commenter stated
that the proposed elimination of the standard established by the NASD
and NYSE rules ``may reduce the competitiveness of FINRA members
outside the United States.'' \23\ The commenter further stated that the
rules present low risk to the securities markets and investors
[[Page 59328]]
because, according to the commenter, ``the sole involvement of the
referring foreign person is to make a referral to the member firm or to
obtain execution, clearing or settlement services from such member and
they do not permit broader contact with U.S. persons.'' \24\ Another
commenter noted that the main activity in Miami and South Florida is to
provide International Private Banking Services in the U.S. to non-U.S.
citizens, primarily domiciled in Latin America, and elimination of the
rules would ``have a very negative impact in our industry, our labor
market and to the U.S. economy as a whole.'' \25\ This commenter
believed the proposal to eliminate the Existing Foreign Finders Rules
would destroy completely the business model in which firms have been
operating under for many years under NASD Rule 1060(b). Two commenters
noted that foreign finders provide a valuable service to firms because
they have an integral knowledge of their customers that are referred to
firms, including suitability and investment needs.\26\
---------------------------------------------------------------------------
\21\ See Intercam, Monex, LeGaye Law and Morgan Lewis.
\22\ See Monex.
\23\ See Morgan Lewis.
\24\ See Morgan Lewis. As noted above, if a foreign finder's
activities go beyond an initial referral of non-U.S. customers to
the member, the foreign finders provisions in proposed FINRA Rule
2040(c) would not be applicable.
\25\ See Monex.
\26\ See Monex and LeGaye Law.
---------------------------------------------------------------------------
SEC Guidance Relating to Foreign Finder Relationships is
Not Clear
Four commenters noted that the SEC's position on payments to
foreign finders is not clear, and as such, will result in additional
confusion for regulatory compliance professionals and members.\27\ One
commenter stated ``that SEC rules and staff interpretations in this
area are sparse and fact specific and do not give adequate guidance on
the question when a non U.S. person is required to register with the
SEC as a broker-dealer as a result of a relationship with a U.S. member
firm.'' \28\ Two commenters noted that SEA Rule 15a-6 does not
contemplate a foreign broker-dealer introducing its non-U.S. customers
to a member to make recommendations and effect transactions on behalf
of the customers, while simultaneously paying the foreign broker-dealer
compensation for such referral.\29\
---------------------------------------------------------------------------
\27\ See Intercam, Monex, LeGaye Law and Morgan Lewis.
\28\ See Morgan Lewis.
\29\ See Monex and LeGaye Law.
---------------------------------------------------------------------------
Several commenters urged FINRA to work with the SEC to develop
comprehensive guidance on this matter.\30\ One commenter noted that the
existing framework provides adequate protection to referred clients in
the forms of additional disclosure mandated by the existing rules.\31\
Other commenters noted that foreign finders are subject to regulation
in their respective countries.\32\ One commenter recommended that FINRA
``ask that the [C]ommission clarify its position including the numerous
no-action letters issued over the last 30 years . . . it would help the
investment community understand the current status of the issue and may
inform the [C]ommission as to how widespread a problem exists.'' \33\
---------------------------------------------------------------------------
\30\ See Monex, LeGaye Law and Morgan Lewis.
\31\ See Morgan Lewis.
\32\ See Monex and LeGaye Law.
\33\ See Plexus.
---------------------------------------------------------------------------
Existing Foreign Finders Rules Provide Necessary Clarity
Several commenters expressed concern that the proposed elimination
of the Existing Foreign Finders Rules would eliminate rules that the
industry has relied on for decades to pay transaction-based
compensation to foreign finders.\34\ One commenter stated that the
Existing Foreign Finders Rules have ``generally allowed FINRA members,
under the enumerated conditions, to pay transaction-based compensation
to a non-U.S. finder that solicits non-U.S. business for the member.''
\35\ The same commenter further stated that ``there were a number of
critical components that had to be met with respect to the rule, two of
the fundamental conditions with respect to the payment of compensation
to a foreign finder was: (1) That the foreign finder limit its
activities so that the finder was not required to register in the U.S.
as a broker-dealer; and (2) that the compensation arrangement not
violate applicable foreign law.'' As a result, the commenter contended
that ``FINRA member firms should be able to rely on clear guidance with
respect to these activities, and the current rules gave that guidance
to members.'' \36\ Another commenter stated that ``the existing rules
with respect to foreign referrals and dealing with non-member firms are
helpful and provide adequate protection to foreign customers that are
referred to FINRA members.'' \37\
---------------------------------------------------------------------------
\34\ See Intercam, Monex, Morgan Lewis and LeGaye Law.
\35\ See Monex.
\36\ See supra note 35.
\37\ See Morgan Lewis.
---------------------------------------------------------------------------
FINRA Response to Comments on Existing Foreign Finders
Rules
In response to the commenters' concerns, FINRA is proposing to
adopt the Existing Foreign Finders Rules, with minor technical changes,
as new FINRA Rule 2040(c) in the Consolidated FINRA Rulebook. As in the
current rule, a member could pay transaction-related compensation to
nonregistered foreign finders where the finders' sole involvement is
the initial referral to the member of non-U.S. customers to the member,
and the member complies with all the conditions set forth in the rule.
(b) Continuing Commission Payments to Retiring Registered
Representatives (Proposed FINRA Rule 2040(b)(2))
Proposed Rule 2040(b)(2) would permit FINRA members to pay
continuing commissions to retiring registered representatives of the
member after they cease to be associated with the member provided that
(1) a bona fide contract between the member and the retiring registered
representative providing for the payments was entered into in good
faith while the person was a registered representative of the member
and such contract, among other things, prohibits the retiring
registered representative from soliciting new business, opening new
accounts, or servicing the accounts generating the continuing
commission payments; and (2) the arrangement complies with applicable
federal securities laws, SEA rules and regulations. In the Notice, the
proposed rule included text that provided that the arrangement also
must comply with ``published guidance issued by the SEC or its staff in
the form of releases, no-action letters or interpretations.'' Based on
concerns raised by commenters described hereinafter, FINRA has deleted
this language from the proposed rule text in this rule filing.\38\
However, FINRA believes that members should review applicable SEC and
SEC staff guidance in the form of releases, no-action letters and
interpretations because they contain helpful interpretative information
regarding the Commission's and the SEC staff's views on the application
of SEA rules and regulations.
---------------------------------------------------------------------------
\38\ See CAI.
---------------------------------------------------------------------------
One commenter stated it is unclear whether the proposal is intended
to add any substantive restrictions or requirements, or if it merely
forbids members from making payments that are already otherwise
prohibited.\39\ The commenter noted that FINRA members are already
subject to SEC rules and regulations, so FINRA rules containing blanket
references to SEC rules and published guidance is problematic,
especially when SEC guidance is extremely fact specific. The commenter
further states ``such positions do not allow for the notice and comment
period that accompanies formal rulemaking and, would in effect give
such positions the force and effect of a
[[Page 59329]]
rule.'' \40\ The same commenter further requested clarification from
FINRA that a retiring registered representative who receives
compensation payable under a group variable annuity contract may
receive compensation on individuals who become certificate holders
under such contract after the registered representative has retired.
---------------------------------------------------------------------------
\39\ See supra note 38.
\40\ See supra note 38.
---------------------------------------------------------------------------
Another commenter raised concerns regarding the open-ended nature
of this provision.\41\ The commenter expressed concern regarding the
extent of hidden fee arrangements between shadow parties who trade
consumers' accounts and questioned, ``[h]as there been consideration as
to potential trigger points wherein these types of post `retirement'
payment pose potential and/or actual conflicts of interest, the dangers
to the underlying account holder whose assets are being used to
generate fees that are split by multiple parties, and is full
disclosure to consumers being provided?'' \42\
---------------------------------------------------------------------------
\41\ See NASAA.
\42\ See supra note 41.
---------------------------------------------------------------------------
FINRA believes that the SEC guidance in this area combined with
current FINRA guidance are accurately summarized in the proposal and,
as such, declines to make any substantive changes to the proposal.
Guidance regarding the permissibility of payments to retiring
registered representatives primarily focuses on compliance with Section
15(a) of the Exchange Act. In November 2008, the staff of the Division
of Trading and Markets of the Commission issued a no-action letter in
which it stated that it would ``not recommend enforcement action to the
Commission under Section 15(a) of the Securities Exchange Act of 1934
against a retiring representative of a registered broker-dealer
(``Firm'') if the retiring representative, the Firm, and the receiving
representative, comply with the terms and conditions described in [the]
letter, without the retiring representative maintaining his or her
status as a registered associated person of the Firm upon retirement.''
\43\ The no-action letter was based on the use of procedures described
in the letter with respect to the circumstances by which a retiring
representative may be compensated after the termination of employment
for business done by or through his or her employer before the
termination of employment. The staff of the Division of Trading and
Markets has issued several other prior no-action letters regarding
payments to retiring registered representatives.\44\
---------------------------------------------------------------------------
\43\ See supra note 10.
\44\ See SEC No-Action Letters: Gruntal & Co., L.L.C., 1998 SEC
No-Act. LEXIS 1146, October 14, 1998, Prudential Securities
Incorporated, 1994 SEC No-Act. LEXIS 750, October 11, 1994 and
Shearson Lehman Brothers Inc., 1993 SEC No-Act. LEXIS 548, March 25,
1993.
---------------------------------------------------------------------------
Consistent with such SEC no-action letters, FINRA has issued
guidance in the form of interpretative letters under NASD IM-2420-2
that specifically notes that members need to be aware of SEC no-action
letters that address the conditions under which a former, retired
registered representative, who is no longer employed by a broker-
dealer, may continue to receive commissions without being required to
register as a broker-dealer under Section 15 of the Exchange Act.\45\
Such FINRA interpretative letters have expressly stated that ``[t]he
determination of whether a person should be registered as a broker/
dealer rests with the Securities and Exchange Commission (the ``SEC'').
In this regard, [the firm] may wish to direct [its] inquiry to the
SEC's Division of [Trading and Markets] for guidance. To the extent
that [the member] receives no-action relief from the SEC to make such
payments, [the member's] payment of continuing commissions to [the
retiring registered representative] would not violate NASD Rule 2420 so
long as the requirements of NASD IM-2420 are satisfied.'' \46\
---------------------------------------------------------------------------
\45\ See supra note 9.
\46\ See supra note 9.
---------------------------------------------------------------------------
(c) Transactions with Foreign Non-Members (Proposed Deletion of
NASD Rule 2420(c))
NASD Rule 2420(c) generally provides that payments can be made to
any non-member broker-dealer in a foreign country who is not eligible
for membership in a registered securities association provided that, in
any transaction with any such non-member broker-dealer where a selling
concession, discount, or other allowance is allowed, the member making
the payment secures from the foreign broker-dealer an agreement that,
in making any sales to purchasers within the U.S. of securities
acquired as a result of such transactions, the foreign broker-dealer
will comply with paragraphs (a) and (b) of NASD Rule 2420 to the same
extent the member must in connection with the transaction.
One commenter stated that ``[w]hile this rule does not expressly
address the relationship between U.S. clearing firms and their non-U.S.
correspondents, it is frequently cited as confirmation that the FINRA
rules permit members to enter into a variety of clearing and sub-
clearing agreements and other brokerage arrangements with foreign non-
members and to share fees or pay other forms of compensation without
requiring the foreign firms or their personnel to register with the
SEC.'' \47\ The same commenter recommended that NASD Rule 2420(c) be
retained in its current form, but suggested one clarification whereby
the ``eligible for membership in a national securities association'' is
changed to ``not being required to be a registered broker-dealer in the
United States and member of a national securities association,''
because the commenter believed it is difficult to determine when a
foreign firm would not be eligible for membership and further
eligibility is not a relevant determinant of whether a foreign firm
should register. In the alternative, assuming the Existing Foreign
Finders Rules and NASD Rule 2420(c) are not retained in their current
forms, the same commenter recommended the following changes to the
proposed rule text: (i) Eliminate ``or offer to pay'' from the
introductory clause in paragraph (a) since determining whether and when
an offer to pay has been made would add a level of subjectivity that
would undercut the effort to bring clarity to this area; (ii) eliminate
``appropriately'' from the beginning of paragraph (a)(2) as a
requirement in the paragraph will need to be satisfied even if the
person is ``inappropriately'' registered (if, according to the
commenter, that is even possible); and (iii) narrow the scope of the
pre-conditions in paragraph (a)(2) to just those of verifying that the
person is registered and not subject to any statutory
disqualifications, as the burden of checking all the laws, rules and
regulations cited in the proposed rule will be a strong disincentive
against members ever making such payments.\48\
---------------------------------------------------------------------------
\47\ See Morgan Lewis.
\48\ Id.
---------------------------------------------------------------------------
FINRA declines to retain NASD Rule 2420(c) because, as discussed in
detail above, proposed FINRA Rule 2040(a) expressly aligns with Section
15(a) of the Exchange Act and its related guidance to determine whether
registration as a broker-dealer is required for persons to receive
transaction-related compensation. In this regard, FINRA notes the
commenter's suggestion that, if FINRA were to retain NASD Rule 2420(c),
FINRA should replace the phrase ``eligible for membership in a national
securities association'' with ``not being required to be a registered
broker-dealer in the United States and member of a national securities
association.'' FINRA believes that proposed FINRA Rule 2040(a) is
consistent with such
[[Page 59330]]
recommendation. FINRA further does not agree with the commenter's
implication that NASD Rule 2420(c) can validly be used as confirmation
that FINRA rules permit members to enter into a variety of brokerage
arrangements with foreign non-members and to share fees or pay other
forms of compensation without requiring the foreign firms or their
personnel to register with the SEC. FINRA is considering guidance on
circumstances where such arrangements may comply with FINRA rules.
FINRA also declines to eliminate the word ``appropriately'' and to
narrow the scope of the pre-conditions in proposed FINRA Rule 2040(c)
to require that the member only determine that a person receiving
transaction-related compensation is registered and not subject to any
statutory disqualification because FINRA believes that members need to
determine that the person receiving the transaction-related
compensation is registered in the appropriate category necessary to
receive the type of compensation being paid, and that the payments are
permissible under applicable laws, consistent with SEC guidance in this
area. In response to the commenter, however, FINRA is proposing to
eliminate the phrase ``or offer to pay'' from proposed FINRA Rule
2040(a) as it agrees that the language may add uncertainty and
subjectivity to the proposed rule and is not needed to achieve the
regulatory purpose of the proposed rule.
(d) Compensation Paid for Advisory Solicitations (Proposed Deletion of
NYSE Rule Interpretation 345(a)(i)/02)
One commenter stated ``there has been substantial confusion related
to the regulation of broker-dealers and investment advisers that were
dually registered with the SEC (``Dual Registrants'') in recent
history.'' \49\ The commenter stated that members face uncertainty
where definitions or guidelines differ between the Investment Advisers
Act and the Exchange Act, and by proposing to eliminate NYSE Rule
Interpretation 345(a)(i)/02, FINRA is creating further confusion for
Dual Registrants. NYSE Rule Interpretation 345(a)(i)/02 \50\ generally
provides that a broker-dealer that is registered with the SEC as an
investment adviser under the Investment Advisers Act may enter into
arrangements that comply with Rule 206(4)-3 (Cash Payments for Client
Solicitations) of the Investment Advisers Act, and that such
arrangements will not be deemed contrary to the registration
requirements of NYSE Rule 345.\51\ The commenter stated, for example,
that while Rule 206(4)-3 of the Investment Advisers Act allows for the
cash payment to a solicitor under certain circumstances, the proposal
would require the payment to comply with all applicable federal
securities laws, including FINRA rules.\52\
---------------------------------------------------------------------------
\49\ See LeGaye Law.
\50\ NYSE Rule Interpretation 345/(a)(i)/02 (Compensation Paid
for Advisory Solicitations) reads as follows: ``A member
organization, registered with the SEC as an investment adviser, may
enter into any arrangement that fully complies with Rule 206(4)-3
(`Cash Payments for Client Solicitations') of the Investment
Advisers Act of 1940. Such arrangements will not be deemed contrary
to the registration requirements of Rule 345 (see also Rule 10
`Definition of Registered Representative'). Member organizations are
advised to check on the applicability of any state registration
requirements for member organizations and associated persons.''
\51\ See Rule 206(4)-3 (Cash Payments for Client Solicitations)
of the Investment Advisers Act, which generally makes it unlawful
for any investment adviser that is required to be registered under
the Investment Advisers Act to pay a cash fee, directly or
indirectly, to a solicitor with respect to solicitation activities
unless certain specified conditions are met.
\52\ See supra note 49.
---------------------------------------------------------------------------
FINRA does not believe that it is necessary to retain the content
of NYSE Rule Interpretation 345(a)(i)/02. It is FINRA's view that
proposed FINRA Rule 2040 does not narrow the scope of Rule 206(4)-3
under the Investment Advisers Act, which applies to cash payments by
investment advisers for client solicitations for advisory business.
Where Rule 206(4)-3 payments to an investment adviser by a dually
registered broker-dealer do not require the solicitor to register under
Section 15(a) of the Exchange Act, proposed FINRA Rule 2040 would
continue to permit them. The question of whether activities permissible
under Rule 206(4)-3 under the Investment Advisers Act would require the
solicitor to be registered as a broker-dealer under Section 15(a) of
the Exchange Act is determined by the SEC.\53\
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\53\ See Mayer Brown LLP, 2008 SEC No-Act. LEXIS 515, July 15,
2008 and Response of the Office of Chief Counsel, Division of
Investment Management, 2008 SEC No-Act. LEXIS 524, July 28, 2008,
which state that ``[Firm has] not asked, and this letter does not
address, whether a person's receipt of cash compensation from an
investment adviser of an investment pool for soliciting or referring
investors or prospective investors to invest in the pool would
result in the person being considered a `broker' under Section
3(a)(4) of the Securities Exchange Act of 1934.''
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(e) Burden of Obtaining SEC No-Action Relief
Two commenters raised concerns regarding the requirement in
proposed FINRA Rule 2040 to look to SEC no-action letters to determine
compliance with Section 15(a) of the Exchange Act.\54\ Specifically,
one commenter stated ``FINRA is placing additional regulatory
uncertainty on FINRA member firms and further hampering their efforts
to obtain meaningful compliance.'' \55\ Several commenters were
concerned that it will be expensive and cumbersome to seek no-action
relief and such no-action relief would be subject to continuous
revision.\56\ In addition, one commenter raised concerns that since
there is no ``reasonable belief'' standard for reliance on specific SEC
no-action relief, members will need to hire attorneys to support their
positions that the SEC rules, regulations and other guidance are
applicable to their arrangement.\57\ Moreover, the commenter stated
that the SEC has declined to consider the matter in prior no-action
letters, noting that the SEC does not as ``a matter of practice,''
provide no-action relief in this context and questioned how a firm can
meaningfully comply with the proposed rule.\58\
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\54\ See Monex and LeGaye Law.
\55\ See Monex.
\56\ See Monex, LeGaye Law, Morgan Lewis and NASAA.
\57\ See supra note 55.
\58\ See supra note 55.
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FINRA believes that interpretation of Section 15(a) of the Exchange
Act is a critical component in determining whether payments to
unregistered persons are permissible under the federal securities laws.
FINRA acknowledges that while Section 15(a) of the Exchange Act does
not specifically address the numerous and varying arrangements that may
exist with respect to payments to unregistered persons, SEC guidance is
controlling in this area.
As described in Item 3 above, FINRA is proposing to adopt
Supplementary Material .01 (Reasonable Support for Determination of
Compliance with Section 15(a) of the Exchange Act) to proposed FINRA
Rule 2040 to provide guidance to members regarding the manner in which
they can reasonably support a determination that an unregistered person
is not required to be registered under Section 15(a) of the Exchange
Act by reason of receiving payments from the member and the activities
related thereto. Members can derive support for their determination by,
among other things, (1) reasonably relying on previously published
releases, no-action letters or interpretations from the Commission or
Commission staff that apply to their facts and circumstances; (2)
seeking a no-action letter from the Commission
[[Page 59331]]
staff; or (3) obtaining a legal opinion from independent, reputable
U.S. licensed counsel knowledgeable in the area. The member's
determination must be reasonable under the circumstances and should be
reviewed periodically if payments to the unregistered person are
ongoing in nature. In addition, a member must maintain books and
records that reflect the member's determination.
(f) Proposal Does Not Recognize State Law Exemptions
One commenter expressed concern that the proposal does not address
those FINRA members that engage in primarily an intra-state business,
and the state of their domicile recognizes statutory exemptions for the
payment of compensation in limited circumstances for certain
finders.\59\ FINRA acknowledges that state rules and regulations may
permit different types of payment arrangements, and where such payments
are permissible under the federal securities laws and SEC rules,
regulations or guidance, such payments would be in compliance with
proposed FINRA Rule 2040.
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\59\ See LeGaye Law.
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(g) Payments to Sanctioned Persons (FINRA Rule 8311)
The proposed rule change prohibits FINRA members from allowing
persons subject to suspension, revocation, cancellation of
registration, bar from association with a member or other
disqualification to be associated with the member in any capacity
inconsistent with the sanction. The proposal also would prohibit
payment to a person during the period of sanction or anytime thereafter
if the payment might accrue during the time of sanction.
One commenter believed the proposal is unclear as to whether
registered representatives subject to sanctions would be permitted to
continue to receive compensation earned as a result of automatic
payments to a variable annuity contract made during the period of
sanction.\60\ The commenter recommended that registered representatives
be permitted to receive these automatic payments, where such payments
were arranged for during a time period that preceded the sanctions.
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\60\ See CAI.
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FINRA believes that proposed Supplementary Material .01
(Remuneration Accrued Prior to Effective Date of Sanction or
Disqualification) to FINRA Rule 8311 addresses this question. Proposed
Supplementary Material .01 provides that a member can pay or credit a
person subject to a sanction salary, commission, profit or other
remuneration that the member can evidence accrued to the person prior
to the effective date of the sanction, unless such remuneration relates
to results from the activity giving rise to the sanction. Accordingly,
a member would need to demonstrate that the remuneration accrued prior
to the effective date of the sanction in order to pay or credit the
remuneration to the sanctioned individual.
The commenter also requested that FINRA clarify that the sanctions
identified under the proposal do not in any way impact the current
FINRA rules and guidance regarding registered representatives who are
deemed to be ``inactive'' due to failure to complete the regulatory
element of continuing education requirements in a timely manner under
NASD Rule 1120 (now FINRA Rule 1250).\61\ FINRA notes that the proposal
is not intended to alter existing guidance under FINRA Rule 1250 with
respect to registered representatives who are deemed to be ``inactive''
due to failure to complete the regulatory element of continuing
education requirements in a timely manner.
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\61\ The SEC approved the adoption of NASD Rule 1120 (Continuing
Education Requirements) as new FINRA Rule 1250 (Continuing Education
Requirements), subject to certain amendments, effective on October
17, 2011. See Securities Exchange Act Release No. 64687 (June 16,
2011); 76 FR 36586 (June 22, 2011) (Order Approving File No. SR-
FINRA-2011-013).
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III. Date of Effectiveness of the Proposed Rule Change and Timing for
Commission Action
Within 45 days of the date of publication of this notice in the
Federal Register or within such longer period (i) as the Commission may
designate up to 90 days of such date if it finds such longer period to
be appropriate and publishes its reasons for so finding or (ii) as to
which the self-regulatory organization consents, the Commission will:
(A) By order approve or disapprove such proposed rule change, or
(B) institute proceedings to determine whether the proposed rule
change should be disapproved.
IV. Solicitation of Comments
Interested persons are invited to submit written data, views and
arguments concerning the foregoing, including whether the proposed rule
change is consistent with the Act. Comments may be submitted by any of
the following methods:
Electronic Comments
Use the Commission's Internet comment form (http://www.sec.gov/rules/sro.shtml); or
Send an email to [email protected]. Please include
File Number SR-FINRA-2014-037 on the subject line.
Paper Comments
Send paper comments in triplicate to Brent J. Fields,
Secretary, Securities and Exchange Commission, 100 F Street NE.,
Washington, DC 20549-1090.
All submissions should refer to File Number SR-FINRA-2014-037. This
file number should be included on the subject line if email is used. To
help the Commission 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/sro.shtml). Copies of the submission, all subsequent amendments, all
written statements with respect to the proposed rule change that are
filed with the Commission, and all written communications relating to
the proposed rule change between the Commission and any person, other
than those that may be withheld from the public in accordance with the
provisions of 5 U.S.C. 552, will be available for Web site viewing and
printing in the Commission's Public Reference Room, 100 F Street NE.,
Washington, DC 20549, on official business days between the hours of 10
a.m. and 3 p.m. Copies of such filing also will be available for
inspection and copying at the principal office of FINRA. All comments
received will be posted without change; the Commission does not edit
personal identifying information from submissions. You should submit
only information that you wish to make available publicly. All
submissions should refer to File Number SR-FINRA-2014-037 and should be
submitted on or before October 22, 2014.
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\62\
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\62\ 17 CFR 200.30-3(a)(12).
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Kevin M. O'Neill,
Deputy Secretary.
[FR Doc. 2014-23308 Filed 9-30-14; 8:45 am]
BILLING CODE 8011-01-P