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91-32 Request for Comments on Compensation Arrangements for Activities of Registered Representatives Who Are Also Registered With the Securities and Exchange Commission as Investment Advisers; Last Date for Comments: July 1, 1991
The NASD requests comments on the compensation arrangements for investment advisory activities of registered representatives who are also registered as investment advisers and are conducting their advisory activities outside the scope of their association with the employing member.
The NASD has recently received several requests from members seeking advice on the applicability of Article III, Sections 27, 40, and 43 of the Rules of Fair Practice to the investment advisory activities of registered representatives who are also registered with the Securities and Exchange Commission (SEC) as investment advisers ("RR/IA") where such activity is not undertaken through the member with which the RR/IA is registered.
Article III, Section 40 provides that any person associated with a member who participates in a private securities transaction must, prior to such participation, provide written notice to the member with which the person is associated, describing the proposed transaction and stating whether he or she will receive selling compensation. The member must then respond in writing whether it approves or disapproves the proposed transaction. If the registered person is to receive selling compensation, the member, if it approves the transaction, must record the transaction on its books and records and supervise this transaction under Article III, Section 27 of the Rules of Fair Practice as if the transaction were its own. If the registered person will not receive selling compensation and the member approves the transaction, the member may, at its discretion, require the registered person to adhere to specified conditions in connection with his or her participation in the transaction.
Section 40 defines "private securities transaction" as any securities transaction outside the regular course or scope of an associated person's employment with a member, including, though not limited to, new offerings of securities that are not registered with the SEC. Selling compensation is defined as any compensation paid directly or indirectly, from whatever source, in connection with or as a result of the purchase or sale of a security, including, though not limited to, commissions; finder's fees; securities or rights to acquire securities; rights of participation in profits, tax benefits, or dissolution proceeds, as a general partner or otherwise; or expense reimbursements.
In Notice to Members 85-84, which announced the approval of Article III, Section 40, attention was directed to what constitutes selling compensation. The notice stated that this definition was deliberately broad in its scope and was meant to include the receipt of any item of value whether directly or indirectly from the execution of any such securities transaction. The notice also discussed the fact that Article III, Section 40 was specifically designed to apply not only to situations where registered persons were acting in a sales capacity outside of their association with the member but also to any situations where the registered person was involved in securities transactions including but not limited to acting in the capacity of a general partner.
The NASD's National Business Conduct Committee (NBCC), at its May 1991 meeting, considered the applicability of Article III, Section 40 to investment advisory activities. The NBCC concluded that Section 40, consistent with the policy announced when this section was adopted, should be applied in such a manner as to cover these situations. The NBCC believes that Section 40 should apply to all investment advisory activities conducted by registered representatives other than their activities on behalf of the member that result in the purchase or sale of securities by the associated person's advisory clients. The NBCC believes that if the RR/IA receives no compensation from any source whatever in connection with the outside activities, the books, records, and supervisory obligations of Article III, Section 40 would not apply. If, however, the RR/IA receives compensation for, or as a result of, such advisory activities, from a person or entity other than the member, the books, records, and supervision requirements of Section 40 would apply. The Committee believes that to conclude otherwise would permit registered persons to participate in securities transactions outside the scope of the oversight and supervision of the employer member and of a self-regulatory organization to the potential detriment of customers.
The NBCC also examined the issue of whether the receipt of management or advisory fees for activities conducted away from the member would constitute the receipt of selling compensation under the rule. The Committee determined that the receipt of any compensation by RR/IAs outside the scope of their employment with a member, whether that compensation is directly related to the transactions (e.g., a portion of the commission) or in the form of an asset- or performance-based advisory fee, constitutes the receipt of selling compensation. Members that allow their registered persons to conduct such activities are fully subject to the requirements of Section 40 and must, therefore, record all such transactions on their books and records and supervise them as if these transactions had occurred at the member.
The NBCC believes that Article III, Section 43 is inapplicable to these situations since this section specifically excludes from its coverage activities subject to the requirements of Article III, Section 40.
The NBCC is concerned that there may be compensation arrangements including "wrap" fees other than those discussed above that have not been considered, and solicits comments on any such compensation arrangements to help it determine which, if any, of the provisions of Article III, Section 40 should be applied to those arrangements. In addition, the NBCC would like to receive comments on whether broader-based amendments to the NASD's supervision rule (Article III, Section 27) should be considered in addition to the application of Article III, Section 40. Prior to making any final determinations on these other arrangements, the Committee believes that it should have information concerning other arrangements that may be affected by its conclusions.
The NASD encourages all members and other interested parties to comment on these compensation arrangements. Comments should be forwarded to:
Stephen D. Hickman,
Secretary National Association of
Securities Dealers, Inc.
1735 K Street, NW
Washington, DC 20006-1506.
Comments should be received by July 1, 1991.
Questions concerning this notice should be directed to John E. Pinto, Executive Vice President, at (202) 728-8233, T. Grant Callery, Vice President and Deputy General Counsel, at (202) 728-8285, or Craig L. Landauer, Assistant General Counsel, at (202) 728-8291.