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93-42 SEC Approves NASD's Minor Rule Violations Plan
On May 28, 1993, the Securities and Exchange Commission (SEC) approved amendments to Article II, Section 10 of the NASD® Code of Procedure (Code) to provide for a Minor Rule Violations Plan (Plan). The Plan will permit the NASD to dispose of certain minor rule violations expeditiously and to report the violations disposed of under the Plan in summary reports submitted periodically to the SEC.
The amendments take effect October 1, 1993. The text of the amendments follows this Notice.
Description of Amendments
On May 28, 1993, the SEC approved amendments to Article II, Section 10 of the Code to provide for a Plan pursuant to SEC Rule 19d-1. The Plan allows the NASD to process and report disciplinary actions involving fines that do not exceed $2,500 and a censure in a manner that will relieve many of the administrative burdens normally associated with formal disciplinary actions.1
The amendments adopted by the NASD to implement the Plan are set forth in Subsections 10(b)(1) through 10(b)(4) of the Code. The Summary Complaint Procedure is being renumbered as Subsection 10(c). New subsection 10(b)(1) provides general authority to the District Business Conduct Committees and the Market Surveillance Committee (the Committee, or, together, the Committees) and the National Business Conduct Committee (NBCC) to impose a fine (not to exceed $2,500) and/or censure on any member or associated person for the rule violations set forth in the Appendix to Section 10 (the violations included in the Appendix are described separately below). The Appendix lists violations that, pursuant to Rule 19d-1, under certain factual circumstances, are appropriate for disposition under the Plan and carry a fine of $2,500 or less, and/or a censure, according to the NASD's Sanction Guidelines.2 Under Rule 19d-1, the NASD may amend the Appendix to add or delete violations from the Plan. Any such amendments must be filed with the SEC for approval.
Even though a violation would qualify for Plan treatment, if the Committee reviewing a potential disciplinary action determines that the nature of the violation is too indeterminate or serious to dispose of under the Plan, the Committee will authorize formal disciplinary action. Serious violations will not be treated as "technical" or trivial infractions even if a fine of less than $2,500 might be called for and any violation that would justify a fine of more than $2,500 will not be disposed of under the Plan.
New Subsection 10(b)(2) provides that any disciplinary action taken by the NASD under the Plan shall be accomplished through the submission of a written Minor Rule Violation Letter (Letter) to the NASD by the member or associated person specifying the nature of the violation; stating the rule, regulation, or statute violated; and consenting to the sanction for the violation. New Subsection 10(b)(2) also specifies that the Letter shall include an agreement by the member or associated person to waive the member or person's rights to a hearing or to appeal to the NBCC, the SEC, or the courts.
Subsection 10(b)(3) provides that the Letter must be submitted to and accepted by the Committee and the NBCC and, if accepted, will be reported to the SEC pursuant to the Plan. The NASD undertakes, as part of the Plan, to report minor violations to the SEC quarterly. If the Letter is rejected by the Committee or the NBCC, Subsection 10(b)(3) authorizes the Committee or NBCC to take any other appropriate disciplinary action on the violation or violations. Submission and acceptance of a Letter will constitute a "finding" of the violation(s) described in the Letter for purposes of an individual's disciplinary history3.
Subsection 10(b)(4) provides that the submission of a Letter shall have no effect on the determination of any issues raised in a subsequent disciplinary proceeding against the same party on the same facts, matter, or transaction. This provision parallels the rule of evidence (usually codified) against using settlement offers or their equivalent as evidence to prove fault against the offering party in any subsequent proceedings on the same matter. This provision does not, however, prevent the NASD from using a Letter that has been accepted as evidence of disciplinary history for sanctions purposes in subsequent unrelated proceedings or as pattern evidence to demonstrate the occurrence of acts or omissions consistent with the pattern.
Description of Plan Violations
Following is a discussion of the violations included in the Appendix to the Plan and the limitations on the eligibility of such violations for disposition under the Plan.
• Excess Spread Violations —
Under Schedule D, Part VI, Section 2(d) Nasdaq market makers may not enter quotations that exceed the maximum allowable spreads published in Section 2(d). The NASD established these maximum allowable spreads after evaluating average spreads and determining the appropriate maximum allowable spread in relation to the average spread. Each day that a market maker has an excess spread is counted as one violation. The first violation in any 12-month period will generally result in a Letter of Caution and the second or third violations may warrant fines of $1,000 and $2,000, respectively, each appropriate for disposition under the Plan. Subsequent violations would warrant a formal complaint.
• Advertising Violations — The NASD Advertising Rules require members to submit certain classes of communications with the public to the NASD for review and approval and to maintain records of their internal review and approval. Specifically, Article III, Sections 35(b) and 35A(b) of the Rules of Fair Practice and Section 8(b) of the Government Securities Rules require a principal of the member to approve each item of advertising or sales literature before use and require members to maintain separate files on such advertising and sales literature for three years. Article III, Sections 35(c) and 35A(c), and Section 8(c) of the Government Securities Rules require members to file advertising and sales literature with the NASD before or immediately after use, depending on the subject matter and the member's experience, status, and disciplinary history.
Failure to comply with the internal review and recordkeeping requirements of the advertising rule are treated in a manner similar to the recordkeeping violations discussed below. The number, egregiousness, and history of violations will determine whether they warrant fines of less than $2,500 and, therefore, may be disposed of under the plan. For the filing requirements, the first two late filings within the previous 12 months will result in a Warning Letter and a Letter of Caution, respectively. The third, fourth, and fifth late filings will warrant progressively higher fines and will exceed $2,500 for the fifth late filing. For those violations which would warrant a fine of $2,500 or less, disposition under the Plan would be appropriate; for all others, a formal complaint would be warranted.
• Schedule H Reports — Schedule H, Section 2 to the NASD By-Laws requires member firms to submit price and volume reports concerning principal transactions in Non-Nasdaq securities to the Non-Nasdaq Reporting System between 4 and 6:30 p.m. on the trade date or between 7:30 and 9:30 a.m. on the day after the trade date. Failure to either make the report or to make it within the required time for securities priced at $5 per share or more results in a Warning Letter and a Letter of Caution for the first two violations, with the third, fourth, and fifth violations resulting in fines of $250, $500, and $1,000, respectively. For securities priced at less than $5, the first violation results in a Letter of Caution, with the second, third, and fourth violations resulting in fines of $500, $1,000, and $2,000, respectively. Continuing violations would warrant a formal complaint.
• Late Short-Sale Filings — Article III, Section 41 of the Rules of Fair Practice requires members to report total short positions to the NASD on Form NS-1 by the second business day following the "reporting settlement date," which is the 15th of each month, or the preceding settlement date if the 15th is not a settlement date. The first late filing violation will result in a Letter of Caution. The second late filing within the previous 12 months will result in a $1,000 fine, and the third will result in a $2,500 fine. For cases where a fine of less than $2,500 is justified, disposition under the Plan is warranted; otherwise, the NASD will institute formal disciplinary proceedings.
• Violations of Trade- and Volume-Reporting Rules.
Violations of the above-referenced requirements, particularly for volume reports and trade data, will generally result in a Warning Letter or Letter of Caution for the first two violations in any 12-month period. Third, fourth, and fifth violations in any 12-month period will result in $250, $500, and $1,000 fines, respectively. Failure to report trades, as opposed to failure to report volume or certain trade data, is generally regarded as a more serious violation and may warrant a higher fine. Further, in egregious cases of failing to report volume, trade data, or transactions, a formal complaint may be warranted.
• Recordkeeping Violations — Article III, Section 21 of the NASD Rules of Fair Practice requires members to keep and preserve various books, accounts, records, memoranda, and correspondence. Minor or isolated failures to make, keep, or preserve books and records as required will generally result in a Warning Letter or Letter of Caution for the first and second violations. Subsequent or more serious first violations, especially where a pattern of careless or inadequate attention to the recordkeeping requirements is present, will result in fines starting at $500 and may result in a formal complaint.
The amendments are effective October 1, 1993. Questions concerning this notice may be directed to Elliott R. Curzon, Senior Attorney, Office of General Counsel, (202) 728-8451.
1 Under its Code of Procedure, the NASD may initiate disciplinary proceedings by issuing a formal complaint or by offering the respondent the opportunity to waive a hearing and accept a Summary Complaint proceeding. Before issuing a formal complaint, the NASD may conclude a disciplinary matter with a Letter of Acceptance, Waiver and Consent. These proceedings are generally referred to as "formal disciplinary actions" and are reported to the SEC by the NASD individually as "final disciplinary actions" pursuant to SEC Rule 19d-1. Disciplinary actions taken under the Plan will not be considered "final" pursuant to SEC Rule 19d-1(c)(2) and may be reported to the SEC by the NASD in quarterly or periodic summary reports.
2 The NASD included a copy of the Sanction Guidelines in the May 1993 edition of Notices to Members.
3 Recent amendments to the Form BD exempt members from reporting disciplinary actions disposed of through a Minor Rule Violation Plan; however, an associated person disposing of a matter through a Minor Rule Violation Plan will be required to answer "Yes" to question 22F on Form U-4 and/or questions 13, 14, and 15 on Form U-5, as appropriate.
Text of Amendments to Article II, Section 10 of the Code of Procedure
(Note: New language is underlined.)
Disciplinary Actions by District Business Conduct Committees, the Market Surveillance Committee and Others
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Acceptance, Waiver and Consent, Minor Rule Violations, and Summary Complaint Procedures
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Minor Rule Violations Procedure
Summary Complaint Procedure
Subsection (b) is renumbered Subsection (c).
Violations Appropriate For Disposition Under The Minor Rule Violations Plan
- Schedule D, Part VI, Section 2(d) to the NASD By-Laws — Failure to comply with the limitations on maximum allowable spreads for securities in which the member makes a market.
- Article III, Subsections 35(b) and (c) and 35A(b) and (c) of the Rules of Fair Practice and Subsections 8(b) and (c) of the Government Securities Rules — Failure to have advertisements and sales literature approved by a principal prior to use, failure to maintain separate files of advertisements and sales literature containing required information, and failure to file advertisements with the Association within the required time limits.
- Schedule H to the NASD By-Laws — Failure to file, or filing inaccurate, price and volume reports required to be filed under Schedule H with respect to Non-Nasdaq securities.
- Article III, Section 41 of the Rules of Fair Practice — Failure to timely file reports of short positions on Form NS-1.
- Schedule D, Part VI, Sections 4 and 5, Part XII, Section 2, and Part XIII, Section 2, to the NASD By-Laws; Schedule G, Section 2 to the NASD By-Laws — Failure to timely submit required reports and other trade and volume data to the NASD and to transmit trade reports as required over the Nasdaq System.
- Article III, Section 21 of the Rules of Fair Practice — Failure to keep and preserve books, accounts, records, memoranda and correspondence in conformance with all applicable laws, rules, regulations and statements of policy promulgated thereunder and with the rules of the Association.