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90-20 Proposed Amendments to Article III, Section 5(b) and Article IV, Sections 3 and 4 of The NASD By-Laws, and Article IV, Section 5 of the NASD Rules of Fair Practice; Last Date for Comment: May 5, 1990

SUGGESTED ROUTING*

Senior Management
Legal & Compliance

*These are suggested departments only. Others may be appropriate for your firm.

REQUEST FOR COMMENTS

EXECUTIVE SUMMARY

The NASD requests comments on proposed amendments to Article III, Section 5(b) and Article IV, Sections 3 and 4 of the NASD By-Laws, and Article IV, Section 5 of the NASD Rules of Fair Practice. The amendments to the By-Laws would codify current procedures employed by the NASD in processing terminations for cause and cancellations or revocations of members. The amendment to the Rules of Fair Practice would clarify the obligation of members and persons who remain subject to the NASD's jurisdiction to respond to requests for information made by the NASD. The texts of the proposed amendments follow this notice.

BACKGROUND

A significant aspect of the NASD's self-regulatory activity involves the investigation of terminations of associated persons for cause to determine whether the circumstances leading to the termination involved violations of the NASD's or other securities rules. To ensure adequate time to investigate such matters fully and to bring disciplinary action where appropriate, the NASD's practice has been to place a hold on terminations for cause when the Uniform Termination Notice For Securities Industry Registration ("Form U-5") indicates the possibility of misconduct. The effect of the hold is to prevent the termination from becoming effective and thus postpone the commencement of the one-year period within which, under Article IV, Section 4 of the By-Laws, an individual no longer associated with a member firm remains subject to the NASD's jurisdiction to file a complaint.

The investigation of a termination for cause necessarily involves obtaining information from the terminated individual, typically by means of a request for information pursuant to Article IV, Section 5 of the Rules of Fair Practice. The NASD has consistently taken the position that an individual who remains subject to the filing of a complaint pursuant to Article IV, Section 4 of the By-Laws, or whose termination is subject to a hold, remains a "person associated with a member" for purposes of the individual's obligation to provide information requested by the NASD pursuant to Article IV, Section 5 of the Rules of Fair Practice. Furthermore, the NASD regards any failure by a member or associated person to respond to Article IV, Section 5 requests for information to be a violation of Article III, Section 1 of the Rules of Fair Practice. When required to provide information with regard to any matter involved in an NASD investigation, a member or associated person is required to testify on the record if so directed by any committee, or duly authorized agent of any such committee, in order to comply with Article IV, Section 5. The NASD's ability to require such persons to provide information regarding the circumstances of their termination and to impose sanctions for failure to do so is essential to the discharge of its regulatory obligations.

As a result of a significant number of recent disciplinary actions involving failure to provide information regarding terminations for cause, as well as cancellations and revocations of memberships, in response to the NASD's requests made pursuant to Article IV, Section 5, the NASD Board of Governors has determined that it is appropriate to publish these amendments for comment.

SUMMARY OF PROPOSED AMENDMENTS

Article III of the NASD By-Laws

Section 5

Article III, Section 5(b) of the NASD's By-Laws currently subjects members that have voluntarily resigned from NASD membership to the NASD's jurisdiction for one year after the effective date of the resignation. The membership of numerous firms has been cancelled or revoked by the NASD for failure to pay dues and fees and to file financial reports with the NASD. However, because Article III, Section 5(b) of the By-Laws does not apply to cancelled or revoked firms, the NASD does not cancel the membership of a firm as a matter of practice. Instead, the NASD holds the cancellation or revocation of the firm membership in abeyance pending completion of any investigation in which it is determined that formal disciplinary action may be warranted. This procedure frustrates the NASD's obligation to cancel or revoke the membership of firms that do not comply with NASD requirements and can lead to firms remaining in the securities business for an extended period of time.

The NASD is, therefore, proposing to renumber current Section 5(b) as new Section 6 and revise the provision so that the retention of jurisdiction provisions will apply to members whose membership has been cancelled or revoked by the NASD.

Article IV of the NASD By-Laws

Section 3

The NASD is proposing to amend Article IV, Section 3(a) of the NASD By-Laws to codify the NASD's current practice of placing a hold on a termination for cause of a person associated with a member when the Form U-5 indicates that the circumstances surrounding the termination may have involved actionable misconduct. The proposed amendment would also codify the NASD's position that a hold may be imposed retroactively; that is, in cases when a termination is permitted to become effective, the NASD may rescind the effective termination date based on the subsequent receipt of an amended Form U-5 that discloses previously undiscovered misconduct.

Section 4

Article IV, Section 4 of the NASD By-Laws currently provides that the NASD retains, for one year following the effective date of termination, jurisdiction to bring a disciplinary action against a person formerly associated with a member alleging misconduct that occurred during the period of association. The NASD is proposing to amend Section 4 to codify the NASD's practice of extending the one-year jurisdictional period by placing a hold on a termination for cause and preventing the termination from taking effect. The amendment would also provide that failure of a person to respond to a request for information pursuant to Article IV, Section 5 of the Rules of Fair Practice during the period that a person is subject to the NASD's jurisdiction to file a complaint may be charged as a violation of the NASD's rules, notwithstanding that such failure occurred after the person ceased to be associated with an NASD member.

Article IV of the NASD Rules of Fair Practice

Section 5

The NASD is proposing to amend Article IV, Section 5 of the Rules of Fair Practice to codify the NASD's position that the obligation to respond to a request for information extends to persons who remain subject to the NASD's jurisdiction to file a complaint. The NASD believes it essential that persons whose terminations are being investigated for possible misconduct be under an obligation to provide information necessary to enable the staff to determine whether a complaint is warranted.

In addition, Section 5 is proposed to be amended to provide that "failure" to respond to an Article IV, Section 5 request for information, rather than a "refusal" as is presently provided, constitutes a violation of the NASD's rules. When a member or associated person is required to report with regard to any matter, the NASD also proposes that such person must testify on the record if so directed by any committee or duly authorized agent of any such committee. Finally, the NASD proposes that Section 5 be amended to provide that a request for information is properly made if sent to a member's or person's last address of record with the NASD.

* * * * *

The NASD encourages all members and other interested persons to comment on the proposed amendments. Comments should be directed to:

Mr. Lynn Nellius
Corporate Secretary
National Association of Securities Dealers, Inc.
1735 K Street, NW
Washington, DC 20006

Comments must be received no later than May 5, 1990. All comments will be made available for public inspection. Comments received by this date will be considered by the NASD's National Business Conduct Committee and the NASD Board of Governors. If the Board approves the proposed amendments, the NASD will submit them to the membership for a vote. If approved by the membership, the amendments must be filed with and approved by the Securities and Exchange Commission before becoming effective.

Questions concerning this notice may be directed to Deborah F. Mcllroy, Senior Attorney, NASD Office of the General Counsel, at (202) 728-8816.

PROPOSED AMENDMENTS TO NASD BY-LAWS

(Note: New text is underlined; deleted text is in brackets.)

ARTICLE III

Resignation, Cancellation or Revocation of Members

[Sec. 5(b)] Sec. 6. A resigned member or a member that has had its membership cancelled or revoked shall continue to be subject to the filing of a complaint under the Code of Procedure based upon conduct which commenced prior to the effective date of the member's resignation from the Corporation or the cancellation or revocation of its membership. Any such complaint, however, shall be filed within one year after the effective date of the resignation, cancellation or revocation.

Current Section 5(a) renumbered as Section 5.

Current Sections 6-9 renumbered as Sections 7-10, respectively.

ARTICLE IV

Notification by Member to Corporation and Associated Person of Termination; Amendments to Notification

Sec. 3(a). Following the termination of the association with a member of a person who is registered with it, such member shall promptly, but in no event later than thirty (30) calendar days after such termination, give written notice to the Association on a form designated by the Board of Governors of the termination of such association, and concurrently shall provide to the person whose association has been terminated a copy of said notice as filed with the Association. A member who does not submit such notification in writing, and provide a copy thereof to the person whose association has been terminated, within the time period prescribed shall be assessed a late filing fee as specified by the Board of Governors. Termination of registration of such person associated with a member shall not take effect so long as any complaint or action is pending against a member and to which complaint or action such person associated with a member is also a respondent, or so long as any complaint or action is pending against such person individually or so long as any examination of the member or person associated with such member is in process. The Corporation may at its discretion determine that termination of registration of such person associated with a member shall not take effect where the written notice thereof discloses that such person engaged or may have engaged in conduct that may constitute a violation of any statute, rule or regulation governing such person's activities while associated with a member. The Corporation, however, may in its discretion declare the termination effective at any time; provided, however, that if, during the period that such person remains subject to the Corporation's jurisdiction to file a complaint under the Code of Procedure as provided in Section 4 of this Article IV, the Corporation shall receive notice that such person engaged or may have engaged in conduct that may constitute a violation of any statute, rule or regulation governing such person's activities while associated with a member, the Corporation may at its discretion declare the termination ineffective as of the date the Corporation first received notice of the termination.

(b) The member shall notify the Association in writing by means of an amendment to the notice filed pursuant to paragraph (a) above in the event that the member learns of facts or circumstances causing any information set forth in said notice to become inaccurate or incomplete. Such amendment shall be filed with the Association and provided to the person whose association with the member has been terminated not later than thirty (30) calendar days after the member learns of the facts or circumstances giving rise to the amendment.

Retention of Jurisdiction

Sec. 4. A person whose association with a member has been terminated and is no longer associated with any member of the Corporation shall continue to be subject to the filing of a complaint under the Code of Procedure based upon conduct which commenced prior to the termination or upon such person's failure, while subject to the Corporation's jurisdiction as provided herein, to provide information requested by the Corporation pursuant to Article IV, Section 5 of the NASD Rules of Fair Practice, but any such complaint shall be filed within one (1) year after the effective date of termination of registration pursuant to Section 3 above or, in the case of an unregistered person, within one (1) year after the date upon which such person ceased to be associated with the member. In the event that the Corporation shall determine pursuant to Section 3 above that the termination of a person's association with a member shall not take effect, such person shall continue to be subject to the filing of a complaint as provided herein until, and for one (1) year following, the Corporation's determination to permit the termination to take effect.

PROPOSED AMENDMENT TO NASD RULES OF FAIR PRACTICE

(Note: New text is underlined, deleted text is in brackets.)

ARTICLE IV

Reports and Inspection of Books for Purposes of Investigating Complaints

Sec. 5. For the purpose of any investigation, or determination as to filing of a complaint or any hearing of any complaint against any member of the Corporation or any person associated with a member made or held in accordance with the Code of Procedure, any Local Business Conduct Committee, any District Business Conduct Committee, or the Board of Governors, or any duly authorized member or members of any such Committees or Board or any duly authorized agent or agents of any such Committee or Board shall have the right (1) to require any member of the Corporation, [or] person associated with a member, or person no longer associated with a member when such person is subject to the Corporation's jurisdiction to report, either informally or on the record, orally or in writing with regard to any matter involved in any such investigation or hearing, and (2) to investigate the books, records and accounts of any such member with relation to any matter involved in any such investigation or hearing. No member, [or] person associated with a member, or person no longer associated with a member, where such person is subject to the Corporation's jurisdiction shall [refuse] fail to make any report as required in this Section, or [refuse] fail to permit any inspection of books, records and accounts as may be validly called for under this Section. Any notice requiring an oral or written report or calling for an inspection of books, records and accounts pursuant to this Section shall be deemed to have been received by the member or person to whom it is directed by the mailing thereof to the last known address of such member or person as reflected on the Corporation's records.


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