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  • Notices

    • 2018

      • 18-19 FINRA Amends Rule 3310 to Conform to FinCEN's Final Rule on Customer Due Diligence Requirements for Financial Institutions

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        Regulatory Notice
        Notice Type

        Rule Amendment
        Referenced Rules & Notices

        Bank Secrecy Act
        FINRA Rule 3310
        Regulatory Notice 17-40
        Suggested Routing

        Compliance
        Legal
        Operations
        Senior Management
        Key Topics

        Anti-Money Laundering
        Compliance Programs

        Summary

        FINRA has filed for immediate effectiveness amendments to FINRA Rule 3310 (Anti-Money Laundering Compliance Program) to reflect the Financial Crimes Enforcement Network's (FinCEN) adoption of a final rule on Customer Due Diligence Requirements for Financial Institutions (CDD Rule).1 The implementation date is May 11, 2018. This implementation date aligns with the compliance date for FinCEN's CDD Rule.

        The text of the rule is set forth in Attachment A.

        Questions concerning this Notice should be directed to:

        •   Michael Rufino, Executive Vice President, Head of Member Regulation – Sales Practice, at (202) 728-8381 or by email at Michael.Rufino@finra.org;
        •   Victoria Crane, Associate General Counsel, Office of General Counsel (OGC), at (202) 728-8104 or by email at Victoria.Crane@finra.org; or
        •   Julia Bogolin, Counsel, OGC, at (202) 728-8111 or by email at Julia.Bogolin@finra.org.

        Background & Discussion

        On May 11, 2016, FinCEN, the bureau of the Department of the Treasury responsible for administering the Bank Secrecy Act2 (BSA) and its implementing regulations, issued the CDD Rule3 to clarify and strengthen customer due diligence for covered financial institutions,4 including broker-dealers. In its CDD Rule, FinCEN identifies four components of customer due diligence: (1) customer identification and verification; (2) beneficial ownership identification and verification; (3) understanding the nature and purpose of customer relationships; and (4) ongoing monitoring for reporting suspicious transactions and, on a risk basis, maintaining and updating customer information.5 As the first component is already an AML program requirement, the CDD Rule focuses on the other three components.

        Specifically, the CDD Rule focuses particularly on the second component by adding a new requirement that covered financial institutions identify and verify the identity of the beneficial owners of all legal entity customers at the time a new account is opened, subject to certain exclusions and exemptions. The CDD Rule also addresses the third and fourth components by amending the existing AML program rules for covered financial institutions to explicitly require these components to be included in AML programs as a new "fifth pillar."

        On November 21, 2017, FINRA published Regulatory Notice 17-40 to provide guidance to member firms regarding their obligations under FINRA Rule 3310 in light of the adoption of FinCEN's CDD Rule.6 In addition, the Notice summarized the CDD Rule's impact on member firms, including the ongoing customer due diligence requirement, or "fifth pillar," required for member firms' AML programs.

        The recently filed amendments to FINRA Rule 3310 incorporate into the rule this ongoing customer due diligence requirement to conform the rule to the CDD Rule and aid member firms in complying with the CDD Rule's requirements. Specifically, FINRA Rule 3310(f) requires member firms' AML programs to, at a minimum include appropriate risk-based procedures for conducting ongoing customer due diligence, to include, but not be limited to: (1) understanding the nature and purpose of customer relationships for the purpose of developing a customer risk profile; and (2) conducting ongoing monitoring to identify and report suspicious transactions and, on a risk basis, to maintain and update customer information.

        As stated in the CDD Rule, these provisions are not new and merely codify existing expectations for firms to adequately identify and report suspicious transactions as required under the BSA, and encapsulate practices generally already undertaken by securities firms to know and understand their customers.

        Member firms should ensure that their AML programs are updated, as necessary, to comply with the CDD Rule by May 11, 2018.


        1. See Securities Exchange Act Release No. 83154 (May 2, 2018) (Notice of Filing and Immediate Effectiveness File No. SR-FINRA-2018-016).

        2. 31 U.S.C. 5311, et seq.

        3. FinCEN Customer Due Diligence Requirements for Financial Institutions; CDD Rule, 81 FR 29397 (May 11, 2016) (CDD Rule Release); 82 FR 45182 (September 28, 2017) (making technical correcting amendments to the final CDD Rule published on May 11, 2016). FinCEN is authorized to impose AML program requirements on financial institutions and to require financial institutions to maintain procedures to ensure compliance with the BSA and associated regulations. 31 U.S.C. 5318(h)(2) and (a)(2). The CDD Rule is the result of the rulemaking process FinCEN initiated in March 2012. See 77 FR 13046 (March 5, 2012) (Advance Notice of Proposed Rulemaking) and 79 FR 45151 (Aug. 4, 2014) (Notice of Proposed Rulemaking).

        4. See 31 C.F.R. 1010.230(f) (defining "covered financial institution").

        5. See CDD Rule Release at 29398.

        6. See Regulatory Notice 17-40 (November 2017).


        ATTACHMENT A

        Below is the text of the amended rule text. New language is underlined; deletions are in brackets.

        * * * * *

        3000. SUPERVISION AND RESPONSIBILITIES RELATING TO ASSOCIATED PERSONS

        * * * * *

        3300. ANTI-MONEY LAUNDERING
        3310. Anti-Money Laundering Compliance Program
        Each member shall develop and implement a written anti-money laundering program reasonably designed to achieve and monitor the member's compliance with the requirements of the Bank Secrecy Act (31 U.S.C. 5311, et seq.), and the implementing regulations promulgated thereunder by the Department of the Treasury. Each member's anti-money laundering program must be approved, in writing, by a member of senior management. The anti-money laundering programs required by this Rule shall, at a minimum,
        (a) through (c) No change.
        (d) Designate and identify to FINRA (by name, title, mailing address, e-mail address, telephone number, and facsimile number) an individual or individuals responsible for implementing and monitoring the day-to-day operations and internal controls of the program (such individual or individuals must be an associated person of the member) and provide prompt notification to FINRA regarding any change in such designation(s); [and]
        (e) Provide ongoing training for appropriate personnel;[.] and
        (f) Include appropriate risk-based procedures for conducting ongoing customer due diligence, to include, but not be limited to:
        (i) Understanding the nature and purpose of customer relationships for the purpose of developing a customer risk profile; and
        (ii) Conducting ongoing monitoring to identify and report suspicious transactions and, on a risk basis, to maintain and update customer information. For purposes of paragraph (f)(ii), customer information shall include information regarding the beneficial owners of legal entity customers (as defined in 31 CFR 1010.230(e)).

      • 18-18 FINRA Extends Effective Date of Margin Requirements for Covered Agency Transactions

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        Regulatory Notice
        Notice Type

        Guidance
        Referenced Rules & Notices

        FINRA Rule 4210
        Regulatory Notice 16-31
        Regulatory Notice 17-28
        SEA Rule 15c3-1
        SEA Rule 15c3-3
        Suggested Routing

        Compliance
        Legal
        Margin Department
        Operations
        Regulatory Reporting
        Risk Management
        Senior Management
        Key Topics

        Covered Agency Transactions
        Margin

        Summary

        In June 2016, the SEC approved1 FINRA's rule change (referred to as the "rule change") amending FINRA Rule 4210 to establish margin requirements for Covered Agency Transactions.2 FINRA is extending, to March 25, 2019, the effective date of the requirements pursuant to the rule change that otherwise would have become effective on June 25, 2018.3

        Questions regarding this Notice should be directed to:

        •   Kris Dailey, Vice President, Risk Oversight & Operational Regulation (ROOR), at (646) 315-8434 or Kris.Dailey@finra.org;
        •   Adam Rodriguez, Director, Credit Regulation, ROOR, at (646) 315-8572 or Adam.Rodriguez@finra.org;
        •   Adam Arkel, Associate General Counsel, Office of General Counsel, at (202) 728-6961 or Adam.Arkel@finra.org.

        Questions may also be directed to covered.agency.margin@finra.org. FINRA will publish additional guidance as appropriate to address questions that FINRA receives.

        Background & Discussion

        FINRA issued Regulatory Notice 16-31 in August 2016 to announce the SEC's approval of the rule change and the effective dates of the new requirements. FINRA announced that the risk limit determination requirements as set forth in paragraphs (e)(2)(F), (e)(2)(G) and (e)(2)(H) of Rule 4210, and Supplementary Material .05 of Rule 4210, each as respectively amended or established by the rule change (collectively referred to as the "risk limit determination requirements") would become effective on December 15, 2016.

        In September 2017, FINRA issued Regulatory Notice 17-28 to announce the extension of the implementation date for all other requirements pursuant to the rule change—broadly, the substantive margin requirements for Covered Agency Transactions—to June 25, 2018.

        FINRA is issuing this Notice to announce that FINRA is extending, until March 25, 2019, the effective date of the requirements that otherwise would have become effective on June 25, 2018.4 Members should note that the risk limit determination requirements became effective on December 15, 2016, and are not affected by this Notice.

        Members are reminded that, in response to questions received from industry participants, FINRA has made available a set of Responses To Frequently Asked Questions & Guidance Regarding Covered Agency Transactions Under FINRA Rule 4210 [http://www.finra.org/sites/default/files/faq_coveredtransactions_rule4210.pdf] to facilitate members' efforts to comply with the new requirements.5 Further, FINRA has made available a set of Frequently Asked Questions Regarding SEA Rule 15c3-1 and Rule 15c3-3 in Connection With Covered Agency Transactions Under FINRA Rule 4210 [http://www.finra.org/sites/default/files/faq_coveredtransactions_sec.pdf] provided by the staff of the SEC's Division of Trading and Markets.


        1. See Securities Exchange Act Release No. 78081 (June 15, 2016), 81 FR 40364 (June 21, 2016) (Notice of Filing of Amendment No. 3 and Order Granting Accelerated Approval to a Proposed Rule Change To Amend FINRA Rule 4210 (Margin Requirements) To Establish Margin Requirements for the TBA Market, as Modified by Amendment Nos. 1, 2, and 3; File No. SR-FINRA-2015-036); see also Regulatory Notice 16-31 (August 2016) (announcing the SEC's approval of the rule change).

        2. Covered Agency Transactions include (1) To Be Announced (TBA) transactions, inclusive of adjustable rate mortgage (ARM) transactions, (2) Specified Pool Transactions and (3) transactions in Collateralized Mortgage Obligations (CMOs), issued in conformity with a program of an agency or Government-Sponsored Enterprise (GSE), with forward settlement dates, as defined more fully in paragraph (e)(2)(H)(i)c. of FINRA Rule 4210.

        3. See Securities Exchange Act Release No. 83155 (May 2, 2018) (Notice of Filing and Immediate Effectiveness of a Proposed Rule Change to Extend the Implementation Date of Certain Amendments to FINRA Rule 4210 Approved Pursuant to SR-FINRA-2015-036; File No. SRFINRA-2018-017) (extending, until March 25, 2019, the implementation date of the amendments to FINRA Rule 4210 pursuant to SR-FINRA-2015-036, other than the amendments pursuant to SR-FINRA-2015-036 that were implemented on December 15, 2016).

        4. See note 3.

        5. FINRA will periodically update the frequently asked questions and guidance as appropriate.

      • 18-17 FINRA Revises the Sanction Guidelines; Effective Date: June 1, 2018

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        Regulatory Notice
        Notice Type

        Guidance
        Key Topics

        FINRA Sanction Guidelines
        Suggested Routing

        Legal
        Registered Representatives
        Senior Management

        Sanction Guidelines

        Summary

        FINRA is revising its Sanction Guidelines to instruct adjudicators in the disciplinary process to consider customer-initiated arbitrations that result in adverse arbitration awards or settlements when assessing sanctions. Thus, when a respondent's disciplinary history, and history of arbitration awards and arbitration settlements together with the violation found in a disciplinary case, form a pattern, the Sanction Guidelines advise that adjudicators should consider imposing more stringent sanctions.

        These revisions to the Sanction Guidelines take effect for all complaints filed in FINRA's disciplinary system beginning on June 1, 2018. They are available on FINRA's website at www.finra.org/Industry/Enforcement/SanctionGuidelines.

        Questions concerning this Notice may be directed to Alan Lawhead, Office of General Counsel, at (202) 728-8853 or alan.lawhead@finra.org.

        Background & Discussion

        FINRA's Sanction Guidelines provide both general principles that apply to the overall process of determining sanctions for every case and specific recommendations of a range of sanctions for particular rule violations. The Sanction Guidelines familiarize firms with a wide variety of typical securitiesindustry rule violations, and the range of disciplinary sanctions that may result from those rule violations. The goals of the Sanction Guidelines are to assist FINRA's adjudicators in determining the appropriate sanctions in disciplinary proceedings and to provide consistency in the imposition of sanctions.

        Revisions to General Principle No. 2 to Include Consideration of Customer-Initiated Disputes Resolved in Arbitration

        The Sanction Guidelines begin with "General Principles Applicable to All Sanction Determinations." General Principles Nos. 1 and 2 emphasize that FINRA's disciplinary sanctions are designed to protect the investing public, deter misconduct and uphold high standards of business conduct. They also advise adjudicators to impose progressively escalating sanctions on repeat violators to deter future misconduct.

        Currently, the Sanction Guidelines instruct that a respondent's disciplinary history should trigger higher sanctions when that disciplinary history: (a) is similar to the misconduct in the current disciplinary case; or (b) evidences a "reckless disregard for regulatory requirements, investor protection, or market integrity." The newly added section in General Principal No. 2 of the Sanction Guidelines instructs adjudicators to consider customer-initiated arbitrations that result in adverse arbitration awards or settlements when evaluating an individual respondent's background. The revisions replace the term "disciplinary history" with "Disciplinary and Arbitration History," which is defined as:

        disciplinary history by regulators, and arbitration awards and arbitration settlements resulting from disputes between a customer and the respondent, including those when the respondent is the subject of an arbitration claim that only names a FINRA member firm.

        Disciplinary and Arbitration History includes in its definition arbitrations that a customer filed involving investment-related disputes that have been resolved through an adverse award or settlement. The definition excludes customer-initiated arbitration claims that have been filed but not resolved.1 It also excludes customer complaints when no arbitration claim has been filed and settlements reached with a customer when no arbitration claim was filed. Dismissals and withdrawals of customers' arbitration claims also will not be relevant to determinations of disciplinary sanctions. The Sanction Guidelines revisions apply only to individual respondents; they do not apply to member firms.2

        Pattern of Causing Harm

        By enabling adjudicators to consider arbitration settlements and adverse arbitration awards, in addition to the traditionally considered final disciplinary actions, the Sanction Guidelines will allow adjudicators to take such settlements and awards into account in appropriate cases when determining whether a pattern of harm to investors or market integrity, or disregard of regulatory requirements exists. When such a pattern is established, an adjudicator should consider imposing more severe sanctions than what would have been imposed if no pattern existed. These Sanction Guidelines revisions will bolster the ability of adjudicators to fulfill the goals of General Principles Nos. 1 and 2 to protect investors and deter misconduct.

        FINRA is posting on its website guidance specifically for these Sanction Guidelines revisions. Questions and answers 19 to 22 have been added to the frequently asked questions related to the Sanction Guidelines, which can be found at www.finra.org/industry/march-2006- revisions-nasd-sanction-guidelines-faq.

        Finality

        The Sanction Guidelines currently provide that pending investigations or ongoing regulatory proceedings prior to a final decision are not disciplinary history. There has been no change to this finality requirement for the treatment of regulatory matters. A similar finality rule will also apply to the consideration of arbitration awards and arbitration settlements. An arbitration award that a party has not moved to vacate qualifies as arbitration history, but pending arbitrations do not. If a respondent lost an arbitration award and has filed a motion to vacate, the arbitration award does not qualify as arbitration history while the motion to vacate is pending.3 Arbitration settlements reflect the voluntary agreement of the parties and, accordingly, are final.

        Effective Date

        These revisions will take effect for disciplinary matters on June 1, 2018. For disciplinary cases, the revisions will apply to all complaints filed on or after June 1, 2018. The revisions will not apply to cases in which the complaint is filed before June 1, 2018, or to cases that are currently pending before the Office of Hearing Officers or are on appeal.


        1. The definition of "investment-related" is the same as the definition supplied in the Form U4 or U5 Explanation of Terms (version 2014.1): "Pertains to securities, commodities, banking, insurance, or real estate (including, but not limited to, acting as or being associated with a broker-dealer, issuer, investment company, investment adviser, futures sponsor, bank, or savings association)."

        2. Disciplinary history has been defined by case law to include, but not be limited to, final disciplinary actions and settlements by FINRA, other selfregulatory organizations, the Securities and Exchange Commission, CFTC, and state securities regulators.

        3. Once a court has denied a motion to vacate the arbitration award, the award is included in the category of arbitration history. The Sanction Guidelines follow the same rule that FINRA does for requiring associated persons to pay arbitration awards. See Michael Albert DiPietro, Exchange Act Release No. 77398 (Mar. 17, 2016) (holding that FINRA may suspend or cancel an associated person's registration for failure to pay an arbitration award when a motion to vacate the award has been denied, and need not stay its proceedings to await a decision on an appeal).

      • 18-16 FINRA Requests Comment on FINRA Rule Amendments Relating to High-Risk Brokers and the Firms That Employ Them; Comment Period Expires: June 29, 2018

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        High-Risk Brokers

        Regulatory Notice
        Notice Type

        Request for Comment
        Referenced Rules & Notices

        FINRA Rule 3110
        FINRA Rule 3170
        FINRA Rule 8312
        FINRA Rule 9200 Series
        FINRA Rule 9300 Series
        FINRA Rule 9520 Series
        FINRA Rule 9556
        NASD IM-1011-1
        NASD IM-1011-2
        NASD Rule 1010 Series
        Regulatory Notice 18-15
        Suggested Routing

        Compliance
        Legal
        Operations
        Registered Representatives
        Senior Management
        Key Topics

        BrokerCheck Disclosure
        Disciplinary Proceedings
        Eligibility Proceedings
        Heightened Supervision
        Statutorily Disqualified Persons
        Supervision
        Taping Rule

        Comment Period Expires: June 29, 2018

        Summary

        FINRA seeks comment on proposed rule amendments that would impose additional restrictions on member firms that employ brokers with a history of significant past misconduct. These brokers, while relatively small in number, may present heightened risk of harm to investors, and any misconduct by them also may undermine confidence in the securities markets as a whole. The rule proposals would strengthen the existing controls, some of which are highlighted below, FINRA has applied to such brokers to further promote investor protection and market integrity.

        The new proposals are one part of FINRA's initiatives to confront high-risk brokers. FINRA will continue to evaluate various rules, examination and risk-monitoring programs, and technologies to determine further enhancements that FINRA can make to keep high-risk brokers from potentially harming investors and compromising the integrity of the financial markets.

        FINRA is requesting comment on proposed amendments to:

        1. the Rule 9200 Series (Disciplinary Proceedings) and the 9300 Series (Review of Disciplinary Proceedings by National Adjudicatory Council and FINRA Board; Application for SEC Review) to allow a Hearing Panel to impose conditions or restrictions on the activities of member firms and brokers while a disciplinary matter is on appeal to the National Adjudicatory Council (NAC), and to require member firms to adopt heightened supervisory procedures for brokers during the period the appeal is pending;
        2. the Rule 9520 Series (Eligibility Proceedings) to require member firms to adopt heightened supervisory procedures for brokers during the period a statutory disqualification (SD) eligibility request is under review by FINRA;
        3. Rule 8312 (FINRA BrokerCheck Disclosure) to disclose the status of a member firm as a "taping firm" under Rule 3170 (Tape Recording of Registered Persons by Certain Firms); and
        4. the NASD Rule 1010 Series (Membership Proceedings) (MAP rules) to place additional limitations on member firms by requiring a member firm to first submit a written letter to FINRA's Department of Member Regulation, through the Membership Application Program Group (MAP Group), seeking a materiality consultation when a natural person that has, in the prior five years, one or more final criminal actions or two or more specified risk events seeks to become an owner, control person, principal or registered person of an existing member firm. Specified risk events (as described in detail below) generally means final, adjudicated disclosure events disclosed on a person's or firm's Uniform Registration Forms.1

        The proposed rule text is available in Attachment A. With respect to proposal number 4, FINRA also seeks specific comment on the proposed numeric threshold and criteria that would trigger a materiality consultation. A detailed economic analysis of the proposed rule amendments, including the numeric threshold and criteria used for identifying brokers that would be impacted by the proposed amendments, is discussed below, and the exhibits referenced in this economic impact assessment are available in Attachment B, Exhibits 1, 2, 3 and 4.

        In addition, FINRA is focusing attention on high-risk brokers by publishing Regulatory Notice 18-15 to reiterate the existing obligation of member firms to adopt and implement tailored heightened supervisory procedures under Rule 3110 (Supervision) for high-risk brokers;2 and revising FINRA's qualification examination waiver guidelines and related procedures to more broadly consider past misconduct when considering examination waiver requests.3

        Questions concerning this Notice should be directed to:

        •   Kosha Dalal, Associate Vice President and Associate General Counsel, Office of General Counsel, at (202) 728-6903.

        Questions concerning the Economic Impact Assessment in this Notice should be directed to:

        •   Jonathan Sokobin, Senior Vice President and Chief Economist, Office of the Chief Economist (OCE), at (202) 728-8248; and
        •   Hammad Qureshi, Senior Economist, OCE, at (202) 728-8150.

        Action Requested

        FINRA encourages all interested parties to comment on the proposal. The comment period ends June 29, 2018.

        Comments must be submitted through one of the following methods:

        •   Emailing comments to pubcom@finra.org; or
        •   Mailing comments in hard copy to:

        Jennifer Piorko Mitchell
        Office of the Corporate Secretary
        FINRA
        1735 K Street, NW
        Washington, DC 20006-1506

        To help FINRA process comments more efficiently, persons should use only one method to comment on the proposal.

        Important Notes: All comments received in response to this Notice will be made available to the public on the FINRA website. In general, FINRA will post comments as they are received.4

        The proposed rule change must be filed with the Securities and Exchange Commission (SEC) pursuant to Section 19(b) of the Securities Exchange Act of 1934 (SEA or Exchange Act).5

        Background & Discussion

        FINRA uses a combination of tools to reduce misconduct by member firms and the brokers they hire, including SD processes, review of membership applications, disclosure of brokers' regulatory backgrounds,6 supervision requirements, focused examinations, risk monitoring and disciplinary actions. These tools, among others, serve to further the Exchange Act goals reflected in FINRA's mission of protecting investors and market integrity, including protecting investors from brokers with a history of significant past misconduct and the firms that choose to employ them.

        Formal action to bar or suspend a broker requires FINRA to satisfy procedural safeguards established by federal law and FINRA rules to ensure fair process and to protect the rights of brokers to engage in business unless proven guilty of serious misconduct. Those safeguards include the right to defend oneself before a hearing panel and the right to appeal to the NAC, the SEC, and ultimately the federal courts. In addition, federal law and regulations define the types of misconduct that presumptively disqualify a broker from associating with a firm, and also govern the standards and procedures FINRA must follow when a broker who was found to have engaged in such misconduct applies to remain in or re-enter the industry.7

        Current Programs

        As discussed further below, FINRA strives to prevent and deter misconduct by member firms and the individuals they hire through a number of different measures.

        •   Licensing and Registration

        To become a FINRA member, a firm is subject to review through FINRA's membership application program. As part of a new membership application (NMA) or a continuing membership application (CMA) under the Rule 1010 Series, FINRA reviews, among other factors, whether persons associated with an applicant have material disciplinary history, customer complaints, pending and final arbitrations, civil actions or other industry-related matters that could pose a threat to public investors. Where FINRA can show strong cause for concern, we can deny membership or place restrictions on membership to mitigate the risk. The membership application process also provides procedural safeguards for the applicant: applicants have the right to request review by the NAC of an adverse decision or the FINRA Board may call for a discretionary review of a membership proceeding. The applicant also may appeal final FINRA decisions to the SEC and the circuit courts.
        •   Statutory Disqualifications — Eligibility Proceedings

        FINRA administers the SD process by assessing applications from member firms that wish to retain or employ an individual who is the subject of an SD. In conducting the assessment, FINRA seeks to exclude individuals who pose a risk of recidivism from continuing in the securities business. As a general framework, the Exchange Act sets out the types of broker misconduct that presumptively exclude brokers from engaging in the securities business. These types of misconduct, entitled "statutory disqualifications," are actions against an individual or member firm taken by a regulator or court based on a finding of serious misconduct that calls into question the integrity of the broker or firm. SDs include any felony and certain misdemeanors for a period of 10 years from the date of conviction; expulsions or bars (and current suspensions) from membership or participation in a self-regulatory organization; bars (and current suspensions) ordered by the SEC, Commodity Futures Trading Commission, or other appropriate regulatory agency or authority; willful violations of the federal securities and commodities laws or MSRB rules; and certain final orders of a state securities commission.
        •   Monitoring and Examinations

        FINRA addresses high-risk brokers or high-risk activity through several of its examination programs. First, FINRA executes a High-Risk Registered Representative (HRR) Program that uses various methodologies to identify brokers from across the entire securities industry whose individual risk profiles suggest they are more likely than the general broker population to engage in misconduct. A specialized High-Risk Registered Representative Examination Unit is responsible for the identification, monitoring and examination activities of high-risk registered representatives with additional examination support provided by examiners located in FINRA's various district offices.

        FINRA also reviews individual brokers as part of the firm examination program where every broker-dealer receives an examination at least once every four years. Because our firm examinations are risk-based, the focus on individual brokers varies depending on the specific firm. Also covered during these examinations are assessments of the firms' supervisory and compliance controls over the conduct of brokers.

        Further, FINRA examines individual brokers through its cause examination program. These examinations are allegation driven, and triggered by specific and sometimes high-risk events such as a customer complaint, whistleblower tip, arbitration referral or call to the FINRA Securities Helpline for SeniorsTM.

        Lastly, FINRA conducts high-risk branch office examinations that focus on business conduct risks at the point of sale. Branch office examinations look at the core activities conducted from the specific branch location, including customer transactions, money and security movements, customer complaints, communications, account designation changes and credit extensions. The identification of high-risk branch offices is determined in large part by the aggregation of individual registered representative risk assessments.
        •   BrokerCheck

        BrokerCheck provides the public with information on the professional background, business practices, and conduct of FINRA member firms and their associated persons, as well as on firms and their associated persons who are registered with national securities exchanges that use the Central Registration Depository (CRD®). BrokerCheck information is derived from the CRD system to, among other things, help investors make informed choices about the individuals and firms with which they conduct business. In addition to BrokerCheck disclosure, FINRA publishes on its website a list of individuals who have been barred by FINRA from association with any member firm in any capacity.8 The list is updated on a monthly basis.
        •   Supervision Obligations of Member Firms

        FINRA Rule 3110 requires member firms to establish and maintain a system to supervise the activities of each associated person that is reasonably designed to achieve compliance with applicable securities laws and FINRA rules. Further, the rule requires member firms to establish, maintain and enforce written procedures to supervise the types of business in which it engages and the activities of its associated persons that are reasonably designed to achieve compliance with applicable securities laws and regulations and FINRA rules. An effective supervisory system plays an essential role in the prevention of sales abuses, and thus, enhances investor protection and market integrity. As such, FINRA has long emphasized that member firms have a fundamental obligation to implement a supervisory system, including written supervisory procedures, that is tailored specifically to the member firm's business and addresses the activities of all its associated persons.9
        •   Enforcement and Disciplinary Actions

        An important part of FINRA's supervision of firms and the individuals they employ is our ongoing enforcement of FINRA and MSRB rules, and federal securities laws and rules. We aggressively investigate potential securities violations and, when warranted, bring formal disciplinary actions against member firms and their associated persons.

        With respect to problem individuals, FINRA can take a range of formal actions, including barring them from the industry. As previously noted, formal action to bar or suspend a broker requires satisfying procedural safeguards required by the Exchange Act and, with respect to FINRA actions, safeguards include the right to a hearing before a FINRA hearing panel; appeal to the NAC; appeal to the SEC; and ultimately to the circuit courts of appeal.

        Proposed Amendments

        As part of FINRA's ongoing initiatives to protect investors from high-risk brokers, FINRA is proposing rule amendments that would impose additional obligations on member firms that seek to associate with high-risk brokers. The proposed rule amendments are designed to strengthen oversight of high-risk brokers and the firms that employ them.

        1. Proposed Amendments to the Rule 9200 Series (Disciplinary Proceedings) and Rule 9300 Series (Review of Disciplinary Proceedings by National Adjudicatory Council and FINRA Board; Application for SEC Review)
        A. Overview of Current Disciplinary Process

        FINRA's Department of Enforcement initiates a formal disciplinary action by filing a complaint with FINRA's Office of Hearing Officers (OHO) when it believes that a member firm or associated person of a member firm is violating or has violated any FINRA rule, SEC regulations or federal securities laws, and formal disciplinary action is necessary. Following the filing of the complaint, the Chief Hearing Officer will assign a Hearing Officer to preside over the disciplinary proceeding, and appoint a Hearing Panel, or an Extended Hearing Panel, if applicable, to conduct a hearing and issue a decision.10

        At a hearing, the parties present evidence for the Hearing Panel to determine whether a member firm or broker has engaged in conduct that violates FINRA rules, MSRB rules, SEC regulations or federal securities laws. The Hearing Panel also considers previous court, SEC, NAC and Hearing Panel decisions to determine if violations occurred.

        For each case, the Hearing Panel, or the Hearing Officer in the case of default decisions,11 will issue a written decision explaining the reasons for its ruling and consult the FINRA Sanction Guidelines to determine the appropriate sanctions if violations have occurred. FINRA also, when feasible and appropriate, can order member firms and brokers to make restitution to harmed customers.

        Under FINRA's disciplinary procedures, a member firm or broker has the right to appeal a Hearing Panel or Hearing Officer decision to the NAC, or the NAC may on its own initiate a review of a decision. On appeal, the NAC will determine if a Hearing Panel's or Hearing Officer's findings were legally correct, factually supported and consistent with FINRA's Sanction Guidelines. The NAC's decision constitutes a final disciplinary action of FINRA, unless the FINRA Board calls the case for review and issues its own decision. A member firm or broker may appeal a final disciplinary action of FINRA to the SEC, and further to a U.S. Court of Appeals.

        Currently, while a Hearing Panel or Hearing Officer decision is on appeal to the NAC, any sanctions imposed by the Hearing Panel or Hearing Officer, including bars or expulsions, are automatically stayed and not enforced against the member firm or broker during the pendency of the appeal.12
        B. Proposed Rule 9285 (Interim Orders While on Appeal)

        FINRA is proposing new FINRA Rule 9285 (Interim Orders While on Appeal) to bolster investor protection during the pendency of an appeal to the NAC of a Hearing Panel or Hearing Officer decision.
        •   Conditions and Restrictions

        Proposed Rule 9285(a) would provide that the Hearing Panel or, if applicable, the Extended Hearing Panel, or Hearing Officer may impose such conditions or restrictions on the activities of a respondent as the Hearing Panel or Hearing Officer considers reasonably necessary for the purpose of preventing customer harm.13 This approach would be consistent with the rules of several exchanges that have provisions that allow an exchange adjudicator to impose restrictions on the respondent during the exchange's appeal process.14

        Under the proposal, as part of the hearing, FINRA's Department of Enforcement could request that the Hearing Panel or Hearing Officer order conditions and restrictions imposed against the respondent. The Hearing Panel or Hearing Officer would consider the request at the same time it makes findings of violations and imposes sanctions for the misconduct. FINRA believes the Hearing Panel's or Hearing Officer's knowledge about the violations would provide the qualifications to evaluate the potential for customer harm and craft tailored conditions and restrictions to minimize that potential harm. The order would describe the activities that the respondent shall refrain from taking and any conditions imposed.

        In considering whether conditions or restrictions should be imposed on the activities of a respondent, the Hearing Panel or Hearing Officer would be guided by the principle of imposing conditions and restrictions reasonably necessary for the purpose of preventing customer harm. These conditions or restrictions could include, for example, prohibiting a member firm or broker from offering private placements in cases of misrepresentations and omissions made to customers, or prohibiting penny stock liquidations in cases involving violations of the penny stock rules. A condition could also include posting a bond to cover harm to customers before the sanction imposed becomes final or precluding a broker from acting in a specified capacity. The conditions and restrictions would be tailored to the specific risks posed by the member firm or broker during the appeal period.

        Unlike sanctions imposed in the Hearing Panel or Hearing Officer decision, the proposal would amend FINRA Rule 9311 (Appeal by Any Party; Cross-Appeal) to expressly state that the conditions and restrictions imposed by the Hearing Panel or Hearing Officer would not be stayed during the pendency of the appeal to the NAC. The interim order of conditions and restrictions would remain effective and enforceable until issuance of the NAC's decision in the matter.

        FINRA believes authorizing the Hearing Panel or Hearing Officer to order conditions and restrictions during an appeal would allow FINRA to target the demonstrated bad conduct of a respondent during the pendency of the appeal to the NAC. In addition, the proposal would amend FINRA Rule 9556 to grant FINRA staff the authority to start an expedited proceeding in accordance with Rule 9556 if a respondent failed to abide by the conditions and restrictions ordered.15
        •   Expedited Review

        Proposed Rule 9285(b) would establish an expedited review process to allow a respondent that has conditions or restrictions imposed by a Hearing Panel or Hearing Officer to file a motion with the Review Subcommittee of the NAC to modify or remove any or all of the restrictions.

        Specifically, proposed Rule 9285(b)(1) would establish an expedited review process available to a respondent that has conditions or restrictions imposed by a Hearing Panel or Hearing Officer to file a motion with the Review Subcommittee of the NAC to modify or remove any or all of the restrictions. Proposed Rule 9285(b)(2) would provide that the respondent has the burden to show that the Hearing Panel or Hearing Officer committed an error by ordering the condition or restrictions imposed. The respondent must show that the conditions or restrictions are not reasonably necessary for the purpose of preventing customer harm. The respondent's motion to modify or remove conditions or restrictions must be filed with FINRA's Office of General Counsel and served simultaneously on OHO and all other parties to the disciplinary proceedings.

        Proposed Rule 9285(b)(3) would give FINRA's Department of Enforcement five days from service of the respondent's motion to file an opposition to the motion. As proposed, unless ordered otherwise by the Review Subcommittee, the motion to modify or remove conditions or restrictions would be decided based on the moving and opposition papers and would be decided in an expeditious manner and no later than 30 days after the filing of the opposition.

        Proposed Rule 9285(b)(4) would provide that the filing of such an expedited motion to modify or remove a condition or restriction would stay the effectiveness of the ordered conditions and restrictions until the Review Subcommittee issues its ruling.
        •   Mandatory Heightened Supervision

        Proposed Rule 9285(c) would require any firm with which a respondent is associated to adopt a written plan of heightened supervision if any party appeals a Hearing Panel or Hearing Officer decision to the NAC, or if the NAC calls the case for review.16 The proposed amendments would require a firm to adopt a plan of heightened supervision regarding such respondents within ten days of filing an appeal, and this requirement would need to take into account any conditions or restrictions imposed by the Hearing Panel or Hearing Officer.

        Specifically, when a Hearing Panel or Hearing Officer issues a decision pursuant to Rule 9268 or Rule 9269 in which the adjudicator finds that an associated person, the respondent, has violated a statute or rule provision, the proposed rule would require any firm with which the respondent is associated to adopt a written plan of heightened supervision that must remain in place until FINRA's final decision takes effect.17 The member firm would be required to submit the written plan of heightened supervision within ten days of any party filing an appeal or the case being called for review by filing a copy of the plan of heightened supervision with FINRA's Office of General Counsel and serving a copy on the Department of Enforcement. If a respondent becomes associated with another firm while the Hearing Panel's or Hearing Officer's decision is on appeal to the NAC, that member firm must file a copy of a plan of heightened supervision, taking into account any conditions or restrictions imposed by the Hearing Panel or Hearing Officer, with the Office of General Counsel and serve a copy on the Department of Enforcement within ten days of the respondent becoming associated with the firm.

        The proposed rule would require a member firm to implement tailored supervisory procedures that are reasonably designed to prevent or detect a reoccurrence of the violations found by the Hearing Panel or Hearing Officer. In addition, the plan of heightened supervision must comply with Rule 3110, which requires firms to establish and maintain supervisory systems for each of their associated persons that are reasonably designed to achieve compliance with applicable securities laws and FINRA rules. The plan of heightened supervision must, at a minimum, include the designation of an appropriately registered principal who is responsible for carrying out the plan of heightened supervision. The plan of heightened supervision also must be signed by the designated principal, and include an acknowledgement that the principal is responsible for implementing and maintaining the plan of heightened supervision.
        2. Proposed Amendments to the Rule 9520 Series (Eligibility Proceedings)
        A. Overview of Current Statutory Disqualification Eligibility Process

        Brokers who have engaged in the types of misconduct specified in the Exchange Act statutory disqualification provisions must undergo special review by FINRA before they are permitted to re-enter or continue working in the securities industry. In conducting its review, FINRA seeks to exclude brokers who pose a risk of recidivism from continuing in the securities business, subject to the limits developed in SEC case law.

        As a general framework, the Exchange Act sets out the types of misconduct that presumptively exclude brokers from engaging in the securities business, identified as statutory disqualifications or SDs.18 These SDs are the result of actions against a broker taken by a regulator or court based on a finding of serious misconduct that calls into question the integrity of the broker, and include any felony and certain misdemeanors for a period of ten years from the date of conviction; expulsions or bars (and current suspensions) from membership or participation in a self-regulatory organization; bars (and current suspensions) ordered by the SEC, Commodity Futures Trading Commission, or other appropriate regulatory agency or authority; willful violations of the federal securities and commodities laws or MSRB rules; and certain final orders of a state securities commission.

        The Exchange Act and SEC rules thereunder establish a framework within which FINRA evaluates whether to allow individuals who are the subject of an SD to associate with a member firm.19 A member firm that seeks to employ or continue the employment of an individual who is the subject of an SD therefore files an application (SD Application) seeking approval from FINRA.20 FINRA Rule 9520 Series sets forth eligibility proceedings under which FINRA may allow a member, person associated with a member, potential member, or potential associated person subject to an SD to enter or remain in the securities industry.21 A firm's SD Application is subject to careful scrutiny by FINRA to best ensure that the individual's association with the member firm is subject to heightened supervision and is consistent with the public interest and the protection of investors. To determine whether the SD Application will be approved or denied, FINRA takes into account factors that include the nature and gravity of the disqualifying event; the length of time that has elapsed since the disqualifying event and any intervening misconduct occurring since; the regulatory history of the disqualified individual, the firm and individuals who will act as supervisors; and any proposed plan of supervision.22

        If FINRA recommends approval of the SD Application, the recommendation is submitted either directly to the SEC for its review or to the NAC and ultimately to the SEC for their reviews and approvals. If FINRA recommends disapproval of the SD Application, the member firm has the right to a hearing before a panel of the Statutory Disqualification Committee and the opportunity to demonstrate why the SD Application should be approved.23 If the NAC denies the SD Application, the member firm can appeal the decision to the SEC and the federal circuit courts.24

        As part of an SD Application, a member firm will propose a written plan of heightened supervision to closely monitor the SD individual's securities-related activities. A heightened supervisory plan must be acceptable to FINRA, and FINRA will reject any plan that is not specifically tailored to address the SD individual's prior misconduct and to mitigate the risk of future misconduct. In this regard, FINRA's primary consideration is a heightened supervisory plan carefully constructed to best ensure investor protection.

        Despite the requirement of heightened supervision to receive approval of an SD Application, there is currently no explicit rule requirement that these SD individuals be placed on heightened supervision by their employing member firm during the pendency of the SD Application review.25

        B. Proposed Amendments to Require Automatic Heightened Supervision During Review Period

        FINRA is proposing to amend Rule 9523 (Acceptance of Member Regulation Recommendations and Supervisory Plans by Consent Pursuant to SEA Rule 19h-1) to require a member firm to immediately place an individual on an interim plan of heightened supervision once an SD Application is filed. The proposed amendments would delineate the circumstances under which an individual who is statutorily disqualified may remain associated with a FINRA member while FINRA is reviewing his or her SD Application.

        As with proposed Rule 9285 that would require a plan of heightened supervision during an appeal of a disciplinary action, proposed amendments to Rule 9523 provides flexibility regarding the details of specific interim plans of heightened supervision. However, the proposal would provide that, in order for supervision over a disqualified individual to be reasonable under Rule 3110, the interim plan of heightened supervision must be tailored to the disqualified individual, and must take into account the nature of the disqualification, the nature of the firm's business, the disqualified person's current and proposed activities at the firm, and the qualifications of the supervisor. Every interim plan would be required to identify a qualified principal responsible for carrying out such plan who has evidenced his or her acknowledgement of such responsibility by signing such plan.

        The proposed amendments would require that a copy of the interim plan of heightened supervision be submitted with the SD Application, and that the plan be in effect throughout the entire SD Application review process. The proposal would also make clear that an interim plan of heightened supervision may be modified by FINRA through the SD eligibility proceeding, that compliance with the interim plan of heightened supervision will be monitored through FINRA's examination program, and that the firm or individual could be subject to further disciplinary proceedings for failure to comply with the interim plan. The proposed amendments also would provide that an SD Application may be determined to be substantially incomplete if the interim plan is not reasonably designed in compliance with the standards of the proposed amendments. If the applicant fails to timely remedy a substantially incomplete SD Application, FINRA will provide written notice to the member that the SD Application has been rejected, its reasons for so doing, and refund the application fee, less $1,000 as a FINRA processing fee. Upon such rejection, the SD Application is terminated and the member firm must promptly disassociate with the individual. FINRA would generally cover compliance with interim plans of heightened supervision as part of its examination program.
        3. Proposed Amendments to Rule 8312 (FINRA BrokerCheck Disclosure)

        Rule 8312 governs the information FINRA releases to the public through its BrokerCheck system.26 BrokerCheck helps investors make informed choices about the brokers and member firms with which they conduct business by providing extensive registration and disciplinary history to investors at no charge. FINRA has required member firms to inform their customers of the availability of BrokerCheck.27

        FINRA is proposing to amend Rule 8312 to disclose the status of a member firm as a "taping firm" under Rule 3170 (Tape Recording of Registered Persons by Certain Firms)28 through BrokerCheck. Rule 3170 is designed to ensure that member firms with a significant number of registered persons that previously were employed by "disciplined firms" have specific supervisory procedures in place to prevent fraudulent and improper sales practices or other customer harm.29 Under the rule, a member that hires a specified percentage of registered persons from disciplined firms is designated as a "taping firm" and must establish, maintain, and enforce special written procedures for supervising the telemarketing activities of all its registered persons.30

        A taping firm must adopt procedures that include tape-recording all telephone conversations between such firms' registered persons and both existing and potential customers. Such firms also are required to review the tape recordings, maintain appropriate records, and file quarterly reports with FINRA.

        To assist member firms in complying with Rule 3170, FINRA publishes on its website a "Disciplined Firms List" identifying those member firms that meet the definition of "disciplined firm."31 A member firm that either is notified by FINRA or otherwise has actual knowledge that it is a taping firm is subject to the requirements of the rule.

        FINRA believes disclosing the status of a member firm as a taping firm through BrokerCheck will help inform investors of the heightened procedures required of the firm, which may incent the investors to research more carefully the background of a broker associated with the firm.

        Currently, Rule 8312 provides that FINRA will release whether a particular member firm is a taping firm subject to Rule 3170 in response to telephonic inquiries via the BrokerCheck toll-free telephone listing. To better inform investors, the proposed amendment would permit FINRA to release information through BrokerCheck, in general, as to whether a particular member is subject to the provisions of Rule 3170.
        4. Proposed Amendments to the NASD Rule 1010 Series (MAP Rules)
        A. Current MAP Process

        FINRA also seeks to prevent member firm recidivism by reviewing new member applications or membership changes pursuant to the NASD Rule 1010 Series.

        Rule 1014(a) (Standards for Admission) sets forth the 14 standards for admission applied by FINRA's Department of Member Regulation, through the MAP Group (collectively, the Department) in determining whether to approve a New Member Application (NMA) or a Continuing Member Application (CMA). The MAP rules require an applicant to demonstrate its ability to comply with the federal securities laws and FINRA rules, including observing high standards of commercial honor and just and equitable principles of trade applicable to its business. The Department evaluates an applicant's financial, operational, supervisory and compliance systems to ensure that each applicant meets these standards for admission. The Department considers whether persons associated with an applicant have material disciplinary actions taken against them by other industry authorities, customer complaints, adverse arbitrations, pending or unadjudicated matters, civil actions, remedial actions imposed or other industry-related matters that could pose a threat to public investors.

        In addition, Rule 1017 provides, among other things, that a member shall file a CMA when there are certain changes in ownership, control or business operations.32 IM-1011-1 creates a safe harbor for specified changes that are presumed not to be a "material change in business operations" and, therefore, do not require a member to file a CMA for approval of the change. One such change is an increase in the number of associated persons involved in sales within the parameters prescribed in the safe harbor. FINRA is concerned about instances where a member may onboard high-risk associated persons without prior consultation or review by FINRA.

        Currently the materiality consultation process is used when a member contemplates a change in business operations that may not squarely fall within one of the categories or definitions that would require a CMA under Rule 1017 and the member firm seeks guidance to determine how best to proceed with the proposed change by voluntarily seeking a materiality consultation from the Department. A request for a materiality consultation is a written request from a member firm for a determination from the Department of whether a proposed change is material. There is no fee associated with submitting this request to the Department. The characterization of a proposed change as material depends on an assessment of all the relevant facts and circumstances. The Department may communicate with the member firm to obtain further information regarding the proposed change and its anticipated impact on the member firm. Where the Department determines that a proposed change is material, the Department will instruct the member to file a CMA if it intends to proceed and will advise that effecting the change without approval would constitute a violation of NASD Rule 1017.
        B. Proposed Amendments to MAP Rules

        FINRA is proposing amendments to the MAP rules to impose additional obligations on member firms that associate with persons who have, in the prior five years, either one or more final criminal matters, or two or more specified risk events. The proposed amendments to the MAP rules would allow FINRA to review and potentially restrict or deny a member firm from allowing such a person to become an owner, control person, principal or registered person. FINRA believes the proposed MAP rules would further promote investor protection by applying stronger standards for continuing membership with FINRA and for changes to a current member firm's ownership, control or business operations.
        •   Materiality Consultation

        Proposed IM-1011-2 (Business Expansions and Persons with Specified Risk Events) would require an existing member firm to submit a written letter seeking a materiality consultation to the Department, if the member is not otherwise required to file a CMA, when a natural person that has, in the prior five years, one or more final criminal matters or two or more specified risk events seeks to become an owner, control person, principal or registered person of the member.

        In addition, the proposed rule would expressly state that the safe harbor for business expansion in IM-1011-1 (Safe Harbor for Business Expansions) would not be available to member firms in this circumstance.

        The proposed rule would provide that the member may not effect the contemplated activity until the member has first submitted a written letter to the Department seeking a materiality consultation for the contemplated activity, and would require that the letter address the issues that are central to the materiality consultation, in a manner prescribed by FINRA. The Department would consider the letter and other information or documents and determine in the public interest and the protection of investors that either (1) the member is not required to file a CMA in accordance with Rule 1017 and may effect the contemplated activity; or (2) the member is required to file a CMA in accordance with Rule 1017 and the member may not effect the contemplated activity, unless the Department approves the CMA.

        In this regard, the materiality consultation would focus on, and the submitting member firm would need to provide information relating to, the conduct underlying the specified risk events, as well as other matters relating to the subject person such as disciplinary actions taken by FINRA or other industry authorities, adverse examination findings, customer complaints, pending or unadjudicated matters, terminations for cause or other incidents that could pose a threat to public investors. The Department's assessment would factor in, among other things, whether the events are customer-related; represent discrete actions or are based on the same underlying conduct; the anticipated activities of the person; the disciplinary history, experience and background of the proposed supervisor, if applicable; the disciplinary history, supervisory practices, standards, systems and internal controls of the member firm and whether they are reasonably designed to achieve compliance with applicable securities laws and regulations, and FINRA rules; whether the member firm employs or intends to employ in any capacity multiple persons with one or more final criminal matters or two or more specified risk events in the prior five years; and any other impact on investor protection raised by seeking to make the person an owner, control person, principal or registered person of the member firm.
        •   Definitions

        The proposal would amend Rule 1011 to define a "final criminal matter" as a criminal matter that resulted in a conviction of, or guilty plea or nolo contendere (no contest) by, a person that is disclosed, or was required to be disclosed, on the applicable Uniform Registration Forms.33

        The proposal would further amend Rule 1011 to define a "specified risk event" as any one of the following events that are disclosed, or are or were required to be disclosed, on the applicable Uniform Registration Forms:
        i. a final investment-related,34 consumer-initiated customer arbitration award or civil judgment against the person for a dollar amount at or above $15,000 in which the person was a named party;
        ii. a final investment-related, consumer-initiated customer arbitration settlement or civil litigation settlement for a dollar amount at or above $15,000 in which the person was a named party;
        iii. a final investment-related civil action where the total monetary sanctions (including civil and administrative penalties or fines, disgorgement, monetary penalties other than fines, or restitution) were ordered for a dollar amount at or above $15,000; and iv. a final regulatory action where (A) the total monetary sanctions (including civil and administrative penalties or fines, disgorgement, monetary penalties other than fines, or restitution) were ordered for a dollar amount at or above $15,000; or (B) the sanction against the person was a bar (permanently or temporarily), expulsion, rescission, revocation or suspension from associating with a member.
        As noted above, the proposed additional MAP obligations would apply only where the person has, within the prior five years, one or more final criminal matters or two or more specified risk events, and seeks to become an owner, control person, principal or registered person of the member firm.35

        Economic Impact Assessment

        1. Regulatory Need

        As discussed above, FINRA continually strives to strengthen its oversight of the brokers and firms it regulates in order to further its mission of protecting investors and market integrity, including protecting investors from brokers with a history of significant past misconduct and the firms that choose to employ them. Moreover, recent studies provide evidence of the predictability of future regulatory-related events for brokers with a history of past regulatory-related events such as repeated disciplinary actions, arbitrations and customer complaints.36 Therefore, notwithstanding the extensive protections afforded by the federal securities laws and FINRA rules, investors may reasonably continue to be concerned that without additional protections, the risk of potential customer harm may continue where these patterns exist. The proposals discussed in this Notice are designed to further promote investor protection by mitigating these concerns while recognizing the need to preserve principles of fairness.
        2. Economic Baseline

        The following provides the economic baseline for each of the current proposals. These baselines serve as the primary points of comparison for assessing economic impacts, including incremental benefits and costs of the proposed rule amendments. For this proposal, FINRA reviewed and analyzed relevant data over the 2013-2016 period (review period).
        A. Proposed Amendments to the Rule 9200 Series and Rule 9300 Series

        The economic baseline used to evaluate the economic impacts of the proposed rule changes to the Rule 9200 Series and Rule 9300 Series is the current regulatory framework under these rules. FINRA analyzed disciplinary matters that were appealed to the NAC over the review period that reached a final decision by the NAC.37 During the review period, there were approximately 18 such appeals filed each year, of which approximately 82 percent were filed by brokers, 8 percent were filed by firms, and the remaining 10 percent were filed jointly by brokers and firms.38 FINRA determined that, on average, these disciplinary decisions were on appeal for approximately 14 months.39
        B. Proposed Amendments to the Rule 9520 Series

        The economic baseline used to evaluate the economic impacts of the proposed rule changes to the Rule 9520 Series is the current regulatory framework under these rules. FINRA analyzed SD Applications filed during the review period and determined that there were 122 SD Applications filed for 119 individuals by 105 firms, or approximately 31 requests that were filed by 26 firms each year.40 Approximately 54 percent of these applications were associated with small firms, 17 percent with mid-sized firms and 29 percent with large firms.41 FINRA also examined the resolution of these applications and determined that approximately 21 percent of the SD Applications were approved, 8 percent were denied, 9 percent were pending during the review period, and the remaining applications (62 percent) did not require a resolution because the SD individual's registration with the filing firm was terminated or the SD Application was subsequently withdrawn.42 FINRA determined that, on average, the processing time for an SD Application that reached a final resolution (i.e., an approval or a denial) was approximately 10 months.43
        C. Proposed Amendments to the BrokerCheck Rule

        The economic baseline used to evaluate the economic impacts of the proposed rule changes to the BrokerCheck Rule is the current regulatory framework under Rules 8312 and 3170. During the review period, FINRA determined that 13 firms hired or retained enough registered persons from previously disciplined firms to be designated as a "taping firm" under Rule 3170 and were notified about their status during this period. All of these firms were small firms with the average size of approximately 40 registered persons. Of these 13 firms, nine firms did not become subject to the rule's tape-recording requirements because they either took advantage of the onetime opportunity to reduce the number of their registered persons from previously disciplined firms below the specified thresholds or terminated their FINRA membership, and one firm was exempted from the requirements of the rule pursuant to Rule 3170(d). As a result, only three of the 13 firms designated as "taping firms" during the review period became subject to the requirements of Rule 3170.
        D. Proposed Amendments to the MAP Rules

        The economic baseline used to evaluate the economic impacts of the proposed rule changes to the MAP rules is the current regulatory framework under these rules. The proposed rule change would directly impact individuals with one or more final criminal matters or two or more specified risk events within the prior five years, who seek to become owners, control persons, principals or registered persons of a member firm. The criteria used for identifying individuals for this proposal and the number of individuals meeting the proposed criteria are discussed below.
        3. Economic Impacts

        The following provides the economic impacts, including the anticipated benefits and the anticipated costs for each of the current proposals.
        A. Proposed Amendments to the Rule 9200 Series and Rule 9300 Series

        The proposed rule amendments would directly impact firms and brokers whose disciplinary matters are on appeal to the NAC. These impacts would vary across appeals and depend on, amongst other factors, the nature and severity of the conditions or restrictions imposed on the activities of respondents and the likely risk that they would continue to harm customers if permitted to remain working during the appeal period without those conditions or restrictions. As discussed above, the scope of these conditions or restrictions would depend on what the Hearing Panel determines to be reasonably necessary for the purpose of mitigating the risk of customer harm. Further, the conditions and restrictions would be tailored to the specific risks posed by the brokers or firms during the appeal period. Accordingly, the conditions and restrictions are not intended to rise to the level of the underlying sanctions and would likely not be economically equivalent to imposing the sanctions during the appeal.

        The primary benefit of this proposal accrues from limiting the potential risk of continued harm to customers by respondents during the appeal period by imposing conditions or restrictions on their activities as well as imposing mandatory heightened supervision of brokers while their disciplinary matter is on appeal. In order to evaluate these benefits and assess the potential risk posed by brokers during the appeal period, FINRA examined cases that were appealed to the NAC during the review period and determined whether the brokers associated with an appeal to the NAC had a disclosure event at any time from the filing of the appeal through 2016. Specifically, FINRA identified brokers that were associated with one or more final criminal matters or specified risk events, as defined above, that occurred after they filed their appeals to the NAC.44 Based on this analysis, FINRA estimates that 16 of the 65 brokers who appealed to the NAC were associated with a total of 21 disclosure events that occurred subsequent to the filing of their appeal to the NAC.45 FINRA anticipates that the proposed heightened supervision requirement and the conditions or restrictions placed on the activities of these brokers would lead to greater oversight of their activities by their firm during the appeal period, thereby reducing the potential risk of future customer harm during this period.

        The cost of this proposal would primarily fall upon brokers or firms whose activities during the appeal period would be subject to the specific conditions or restrictions imposed by the Hearing Panel. In addition, firms would incur costs associated with implementing heightened supervision for brokers while their disciplinary matters are under appeal. These costs would likely vary significantly across firms and could escalate if the broker acts in a principal capacity. For example, firms employing brokers that serve as principals, executive management, owners, or operate in other senior capacities would likely take on more costs in developing and implementing tailored supervisory plans. Such plans may entail re-assignments of responsibilities, restructuring within senior management and leadership, and more complex oversight and governance approaches. These potential costs, in turn, may result in some brokers voluntarily leaving the industry rather than waiting for the resolution of the appeal process.46

        The costs associated with this proposal would apply to brokers and their employing firms only while the brokers are employed during the pendency of the NAC appeals. While the disciplinary decisions are on appeal for approximately 14 months on average, many brokers filing an appeal to the NAC are not employed at the time the appeal is filed or leave shortly after the appeal is filed. FINRA examined the employment history, including the employment start and end dates, of the 65 brokers associated with NAC appeals during the review period, and estimates that 31 (or 48 percent) of these brokers were not employed by any member firm at any point during the appeal process, 14 (or 21 percent) of the brokers were employed by a member firm only for part of the appeal process, and the remaining 20 (or 31 percent) of the brokers were employed by a member firm throughout the appeal process.

        In developing the proposal, FINRA considered the possibility that, in some cases, this proposal may limit activities of brokers and firms, while their disciplinary matter is under appeal, in instances where the restricted activities do not pose a risk to customers. In such cases, these brokers and firms may lose economic opportunities and their customers may lose the benefits associated with the provision of these services. FINRA believes that the proposed rule changes mitigate such risks by requiring the conditions or restrictions imposed to be reasonably necessary for the purpose of reducing the potential risk of future customer harm and by providing a respondent with the right to seek to modify or remove any or all of the conditions and restrictions in an expedited proceeding. Further, as discussed above, only 31 percent of the brokers associated with NAC appeals were employed by a member firm for the full duration of their appeals. Approximately 69 percent of the brokers were not employed by a member firm at any time during the appeal process or were employed by a member firm only for part of the appeal process. Accordingly, these brokers would not be impacted by this proposal or would be subject to the proposed limitations only for a limited period of time.
        B. Proposed Amendments to the Rule 9520 Series

        The proposed rule amendments would impact SD individuals and their firms while the SD Application goes through an eligibility proceeding. The primary benefit of this proposed rule change would arise from greater oversight by firms of the activities of SD individuals during the pendency of their SD Applications. In order to assess the potential risk posed by these individuals during the pendency of their SD Applications, FINRA examined whether individuals associated with an SD Application filed during the review period had a disclosure event at any time from the filing of the application through 2016. Based on this analysis, FINRA estimates that 18 (or 15 percent) of the 119 individuals that filed SD Applications during the review period were associated with a total of 20 disclosure events subsequent to the filing of their SD Application.47 FINRA anticipates that the proposed heightened supervision requirement would lead to greater oversight by firms of the activities of these individuals during the pendency of their SD Application, thereby reducing the potential risk of customer harm during this period.

        Firms may incur costs associated with implementing a tailored heightened supervision program for these individuals while their SD Application is under review. As discussed above, the costs would likely vary significantly across firms and could escalate if the SD individuals also serve as principals, executive management, owners or operate in other senior capacities. Moreover, the heightened supervision requirement may deter some firms from filing an SD Application for these individuals who, as a result, may find it more difficult to remain in the industry.
        C. Proposed Amendments to the BrokerCheck Rule

        The proposed amendments would impact taping firms and their registered persons. Taping firms have a proportionately significant number of registered persons that were associated with firms that were expelled by a self-regulatory organization or had their registration revoked by the SEC for sales practice violations, and as a result, may pose greater risk to their customers. Disclosing a firm's status as a "taping firm" through BrokerCheck would help investors make more informed choices about the brokers and firms with which they conduct business. This proposal to disclose a firm's status as a "taping firm" would not impose any direct costs on brokers or firms. Nonetheless it may impact their businesses, as investors may also rely on this information in determining whom to engage for financial services and brokerage activities. Disclosing the status of a firm as a "taping firm" through BrokerCheck may also further deter firms from hiring or retaining brokers that previously were employed by disciplined firms in order to avoid the "taping firm" disclosure on BrokerCheck.
        D. Proposed Amendments to MAP Rules

        The primary benefit of the proposed amendments would be to reduce the potential risk of future customer harm by individuals who meet the proposed criteria and seek to become an owner, control person, principal, or registered person of a member firm. FINRA believes the proposed rule change would further promote investor protection by applying stronger standards for continuing membership with FINRA and for changes to a current member firm's ownership, control or business operations. These benefits would primarily arise from changes in broker and firm behavior and increased scrutiny by FINRA of brokers who meet the proposed criteria during the review of the applications.

        The cost of these proposals would fall on the firms that seek to add owners, control persons, principals or registered persons who meet the proposed criteria. These firms would be directly impacted by the proposals through the requirement to seek a materiality consultation with FINRA and potential requirement to file a CMA. While there is no FINRA fee for seeking a materiality consultation, firms may incur internal costs or costs associated with engaging external experts in conjunction with the filing of a CMA if necessary. The requirement of a materiality consultation could result in delays to a firm's ability to add owners, control persons, principals or registered persons who meet the proposed criteria. Based on its review of the materiality consultation, FINRA may require the firm to file a CMA and the firm may not effect the applicable activity until the CMA is approved. FINRA examined the time to process materiality consultations and determined that, on average, these consultations are completed within 8-10 days, although this time period could be longer depending on the complexity of the contemplated expansion or transaction. FINRA recognizes that these anticipated costs may deter some firms from hiring individuals meeting the proposed criteria, who as a result may find it difficult to remain in the industry or bear other labor market related costs.

        To provide transparency regarding the application of this proposal, the proposed criteria is based on disclosure events required to be reported on the Uniform Registration Forms. These Uniform Registration Forms are generally available to firms and FINRA.48 Accordingly, firms, with a few exceptions, can identify the specific set of disclosure events that would count towards the proposed criteria and replicate the proposed thresholds using available data.49 In determining the proposed numeric threshold, FINRA considered three key factors: (1) the different types of reported disclosure events; (2) the counting criteria or number of reported events required to trigger the obligations; and (3) the time period over which the events are counted. In evaluating the proposed numeric threshold versus alternative criteria, significant attention was given to the impact of possible misidentification of individuals; specifically, the economic trade-off between including individuals who are less likely to subsequently pose risk of harm to customers, and not including individuals who are more likely to subsequently pose risk of harm to customers but do not meet the proposed numeric threshold. There are costs associated with both types of misidentifications. For example, subjecting individuals who are less likely to pose a risk to customers to the MAP process would impose additional costs on these individuals, their affiliated firms and customers. The proposed numerical threshold aims to appropriately balance these costs in the context of economic impacts associated with the proposed amendments to the MAP rules.

        The proposal may create incentives for changes in behavior to avoid meeting the proposed threshold. For example, brokers and firms may be more likely to try to settle customer complaints or arbitrations below $15,000 so that their settlements do not count towards the proposed threshold.50 To the extent, if any, that customers also would be willing to settle for less, this change may reduce the compensation provided to customers. Brokers and firms also may consider underreporting the disclosure events in an effort to avoid the attendant costs. However, this potential impact is mitigated by the fact that many of the events are reported by FINRA or other regulators and any incorrect or missing reports can trigger regulatory action by FINRA. FINRA rules require firms to take appropriate steps to verify the accuracy and completeness of the information contained in the Uniform Registration Forms before they are filed. FINRA also has the ability to check for unreported events, particularly those that are reported in a separate public notice by a third party, such as the outcome of some civil proceedings.

        FINRA recognizes that in some instances, firms may not be able to identify certain individuals with disclosure events that may seek to become owners, control persons, principals or registered persons of the firm. Similarly, firms may have less incentive to conduct appropriate due diligence on those individuals for whom firms may not have readily available disclosure history.51 Firms, in these instances, would however still be required to seek information on relevant disclosure events from those individuals who seek to become principals or otherwise act as registered persons of the firm as part of their employment and registration process and take reasonable steps (e.g., by conducting background checks) to verify the accuracy and completeness of the information provided by them. Nonetheless, FINRA recognizes that in some cases, even after conducting reasonable due diligence, firms may not have the required information to identify certain individuals that meet the proposed criteria, and these individuals may continue to pose risk of future investor harm to investors. FINRA believes that these risks are mitigated by its own examination risk programs that monitor and examine individuals for which there are concerns of ongoing misconduct or imminent risk of harm to investors. These programs identify high-risk individuals based on the analysis of data available to the firms as well as additional regulatory data available to FINRA.52

        In developing this proposal, FINRA analyzed disclosure events reported on the Uniform Registration Forms for all individuals during the review period. For each year, FINRA evaluated the data and determined the approximate number of individuals who would have met the proposed numeric threshold of one or more final criminal matters or two or more specified risk events in the prior five years. Exhibit 1 shows the disclosure categories that FINRA considered and the subcategories that were used for identifying final criminal matters and specified risk events. The exhibit also shows the mapping of these disclosure categories to the underlying questions in the Uniform Registration Form U4.53 Exhibit 2 shows the corresponding mapping between these disclosure categories to the questions in the Uniform Registration Form BD.54 Exhibit 3 provides a breakdown of the disclosure categories for all individuals registered with FINRA in 2016.55 The exhibit illustrates the impact of refining subcategories of reported disclosure events and the impact of different numeric thresholds on the number of disclosure events and registered persons associated with these events.56 This analysis has led FINRA to initially propose the numeric threshold set forth in the current proposal.

        The additional proposed obligations would only apply to individuals with one or more final criminal matters or two or more specified risk events within the prior five years who seek to become owners, control persons, principals or registered persons of a firm. Accordingly, FINRA examined registration information in order to identify all individuals that would have met the proposed criteria during the review period. Those identified serve as a reasonable estimate for the number of individuals who would have been directly impacted by this proposal had it been in place at the time they were seeking to become an owner, control person, principal or registered person of a firm. This analysis indicates that there were approximately 100–160 such individuals, per year, as shown in Exhibit 4. These individuals represent 0.09 percent–0.14 percent of individuals who became owners, control persons, principals, or registered persons with a new member in any year during the review period.57

        FINRA also analyzed firms that employed individuals who would be directly impacted by this proposal. The analysis shows that in each year over the review period, there were between 115 and 170 firms employing individuals meeting the proposed conditions. Approximately 50 percent of these firms were small, 13 percent were mid-sized and the remaining 37 percent were large firms.58 FINRA estimates that approximately 38 percent of the individuals meeting the proposed criteria were employed by small firms, 17 percent by mid-sized firms and 45 percent by large firms.
        4. Alternatives Considered

        FINRA recognizes that the design and implementation of the rule proposals may impose direct and indirect costs on a variety of stakeholders, including member firms, associated persons, regulators, investors and the public. Accordingly, in developing its rule proposals, FINRA seeks to identify ways to enhance the efficiency and effectiveness of the proposals while maintaining their regulatory objectives. FINRA seeks comment on potential alternatives to the proposed amendments in this Notice and why these alternatives may be more efficient or effective at addressing broker misconduct than the proposed amendments.

        FINRA considered several alternatives to the numerical and categorical thresholds for identifying individuals that would be subject to the proposed MAP rules amendments. In determining the proposed threshold, FINRA focused significant attention on the economic trade-off between incorrect identification of individuals that may not subsequently pose risk of harm their customers, and not including individuals that may subsequently pose risk of harm to customers but do not meet the proposed numeric threshold. FINRA also considered three key factors: (1) the different types of reported disclosure events, (2) the counting criteria or number of reported events, and (3) the time period over which the events are counted. FINRA considered several alternatives for each of these three factors.
        A. Alternatives Associated With the Types of Disclosure Events

        In determining the different types of disclosure events, FINRA considered all categories of disclosures events reported on the Uniform Registration Forms, including the financial disclosures and the termination disclosures. FINRA decided to exclude financial disclosures because they include personal bankruptcies, civil bonds, or judgments and liens. While these events may be of interest to investors in evaluating whether or not to engage a broker, these types of events by themselves are not evidence of customer harm. FINRA also considered whether termination disclosures should be included as specified risk events. Termination disclosures include job separations after allegations against the brokers.59 FINRA notes that certain termination disclosures reflect conflicts of interest between the firm and the broker and, as a result, may not necessarily be indicative of misconduct. Further, the underlying allegations in the termination disclosures may result in other disclosure events, such as those associated with customer settlements or awards, regulatory actions or civil actions, which are already included in the proposed criteria. If so, the underlying customer harm conduct would be captured in the proposed criteria. As a result, FINRA did not include termination disclosures as specified risk events. Accordingly, FINRA considered the remaining five categories of disclosure events listed in Exhibit 1.

        Within each disclosure category included in the proposed criteria, FINRA considered whether pending matters should be included or if the criteria should be restricted to final matters that have reached a resolution not in favor of the broker. Pending matters include disclosure events that may remain unresolved or subsequently get dismissed because they lack merit or suitable evidence. For example, customers may file complaints that are false or erroneous and such complaints may subsequently be withdrawn by the customers or get dismissed by firms or arbitrators. Accordingly, FINRA excluded pending matters from the proposed criteria because these events may not always be associated with customer harm or misconduct.60

        Exhibit 1 shows the five categories of disclosure events that were considered and the subcategories that were included in the proposed criteria. For criminal matters, FINRA considered whether criminal charges that do not result in a conviction, or guilty plea or nolo contendere (no contest), should be included in the proposed criteria. These events correspond to criminal matters in which the associated charges were subsequently dismissed or withdrawn, and, as a result, are not necessarily evidence of misconduct. Accordingly, FINRA only included criminal convictions, including guilty plea or nolo contendere (no contest), in the proposed criteria.

        For customer settlements and awards, FINRA considered whether settlements and awards in which the broker was not "named" should be considered as a specified risk event. These "subject of" customer settlements and awards correspond to events where the customer initiates a claim against the firm and does not specifically name the broker, but the firm identifies the broker as required by the Uniform Registration Forms.61 In these cases, the broker is not party to the proceedings or settlement. There may be conflicts of interest between the firm and the broker such that the claim may be attributed to the broker without the ability of that broker to directly participate in the resolution. Accordingly, FINRA excluded "subject of" customer settlements and awards from the proposed criteria. FINRA recognizes that excluding these events may also undercount instances where the broker may have been responsible for the alleged customer harm.

        For civil actions and regulatory actions, FINRA considered whether all sanctions associated with final matters should be included or certain less severe sanctions be excluded from the proposed criteria. Final regulatory action or civil action disclosures may be associated with a wide variety of activities, ranging from material customer harm to more technical rule violations, such as a failure to file in time or other events not directly related to customer harm. However, due to the way in which such information is currently reported, it is not straightforward to distinguish regulatory or civil actions associated with customer harm from other such actions.62 In the absence of a reliable way to identify regulatory and civil actions associated with customer harm, FINRA considered using a proxy of severity of the underlying sanctions as a way to exclude events that are likely not associated with material customer harm. Specifically, FINRA only included regulatory actions or civil actions that are associated with more severe sanctions, such as bars and suspensions or monetary sanctions above a de minimis dollar threshold of $15,000. FINRA notes that relying strictly on a proxy for severity would likely exclude certain regulatory actions or civil actions that are associated with customer harm.

        FINRA also considered several alternative de minimis dollar thresholds used for identifying disclosure events that are included in the proposed criteria. For example, FINRA considered higher dollar thresholds of $25,000, $50,000 and $100,000 for customer settlements, customer awards, and monetary sanctions associated with regulatory actions and civil actions. A dollar threshold may capture a dimension of severity of the alleged customer harm. FINRA has established a de minimis dollar reporting threshold of $10,000 for complaints filed prior to 2009 and $15,000 afterwards. The reporting threshold may, however, be low and possibly include instances where the payment was made to end the complaint and minimize litigation costs. However, the dollar threshold does not account for the value of the customers' account and there are likely cases where even low dollar amounts represent remuneration of a significant portion of customer investments. Accordingly, a dollar threshold may be both under-inclusive and over-inclusive, and as a result FINRA considered a range of alternative thresholds. Increasing the dollar threshold from $15,000 to $25,000, $50,000 and $100,000 for identifying individuals that would have met the proposed criteria would decrease the number of individuals impacted by this proposal from 100–160 individuals each year to approximately 90–155 individuals, 80–145 individuals and 65–135 individuals each year, respectively, over the review period. Finally, FINRA notes that establishing a de minimis dollar threshold that is different from that for the current reporting requirements would likely create incentives for individuals and firms to keep future settlements below the dollar level that would trigger the restrictions.
        B. Alternatives Associated With the Counting Criteria

        FINRA considered a range of alternative criteria used for counting criminal matters or specified risk events for classifying individuals. For example, FINRA considered whether the counting criteria for final criminal matters should be two or more final criminal matters or one final criminal matter and another specified risk event. This alternative would effectively count final criminal matters the same way as other specified risk events. FINRA believes that final criminal matters are generally more directly tied to serious misconduct than some of the other specified risk events. Accordingly, FINRA believes that one final criminal matter, as defined by this proposal, by itself should be sufficient to trigger the proposed criteria.63 FINRA also considered alternative criteria for counting specified risk events. For example, FINRA considered decreasing the proposed threshold for counting specified risk events from two to one such event during the prior five-year period. This alternative would change the proposed criteria to one or more final criminal matters or one (instead of two) or more specified risk events during the prior five-year period. This approach would increase the number of individuals impacted by this proposal from 100–160 individuals to 360–620 individuals each year, over the review period. FINRA also considered increasing the proposed threshold for counting specified risk events from two to three such events, thereby changing the proposed criteria to one or more final criminal matter or three (instead of two) or more specified risk events during the prior five year period. This approach would decrease the number of individuals impacted by this proposal from approximately 100–160 individuals to 55–105 individuals each year, over the review period.
        C. Alternatives Associated With the Time Period Over Which the Disclosure Events Are Counted

        FINRA also considered alternative criteria for the time period over which final criminal matters and specified risk events are counted for classifying individuals. For example, FINRA considered whether final criminal matters or specified risk events should be counted over the individual's entire reporting period or counted over a more recent period. Based on its experience, FINRA believes that events that are more than ten years ago do not necessarily pose the same level of possible future risk to customers as more recent events. Further, counting final criminal matters or specified risk events over an individual's entire reporting period would imply that individuals with such events would be subject to the criteria for their entire career, even if they subsequently worked without being associated with any future events. Accordingly, FINRA decided only to include final criminal matters or specified risk events in the more recent period. In addition to the proposed criteria based on a five year period, FINRA considered a criteria that would count two (or more) specified risk events in individuals' reported histories over a ten-year and a five-year period; specifically, the first specified risk event having resolved during the previous ten years and the second specified risk event resolved during the previous five years, or one or more final criminal matters having resolved in the prior five-year period. This approach would increase the number of individuals impacted by this proposal from 100–160 individuals to 115–200 individuals each year, over the review period.

        Request for Comment

        FINRA requests comment on all aspects of the proposal, including specifically the proposed amendments to the MAP rules. FINRA requests that commenters provide empirical data or other factual support for their comments wherever possible. FINRA specifically requests comment concerning the following issues.

        1. How could current FINRA rules be amended to better address the problem(s) of broker misconduct? To what extent have the original purposes of and need for the rules been affected by subsequent changes to the markets, the delivery of financial services, the applicable regulatory framework, or other considerations?
        2. What have been your experiences with current FINRA rules, including specifically Rule 3110 (Supervision), including any ambiguities in the rules or challenges to effectively address the problem(s) of broker misconduct?
        3. Are there alternative ways to address broker misconduct that should be considered? What are the alternative approaches, other than the proposal, that FINRA should consider?
        4. Are there any material economic impacts, including costs and benefits, to investors, issuers and firms that are associated specifically with the proposal? If so:
        a. What are these economic impacts and what are their primary sources?
        b. To what extent would these economic impacts differ by business attributes, such as size of the firm or differences in business models?
        c. What would be the magnitude of these impacts, including costs and benefits?
        5. Are there any expected economic impacts associated with the proposal not discussed in this Notice? What are they and what are the estimates of those impacts?
        6. As discussed above, FINRA considered several numerical and categorical thresholds for identifying individuals that would be subject to the proposed MAP rules amendments. In determining the proposed threshold, FINRA paid significant attention to the economic trade-offs associated with misidentifications, including both over- and under-identification of individuals. FINRA specifically seeks comments on the proposed numerical threshold, including (1) the different types of reported disclosure events, (2) the counting criteria, and (3) the time period of which the events are counted:
        a. Are there any other types of disclosure events that FINRA should consider including in the proposed criteria? Which other disclosure events should FINRA consider including and how does including them improve the economic trade-offs associated with misidentifications?
        i. What counting criteria should FINRA consider for counting these additional disclosure events? What time period should FINRA consider for counting these events?
        b. Are there any reported disclosure events in Exhibit 1 that FINRA should consider excluding from the proposed criteria? Which events should FINRA consider excluding and how does excluding these events impact the economic trade-offs associated with misidentifications?
        c. Should FINRA consider alternative counting criteria for the specified risk events or the final criminal matter? What are these alternative counting criteria and why are they a better alternative to the proposed counting criteria of one or more final criminal matters or two or more specified risk events?
        d. Should FINRA consider alternative time periods over which one or more final criminal matters or two or more specified risk events are counted? Should FINRA consider using different time periods for criminal matters and specified risk events? Should FINRA consider different time periods for the four different types of specified risk events? What are these alternative approaches and why could they be better alternatives to the proposed period of prior five years?
        7. As discussed above, the proposed MAP rules amendments would apply to individuals that meet the proposed criteria and seek to become an owner, control person, principal or registered person of a member firm. Should FINRA consider expanding the scope of the MAP requirements to:
        a. all individuals who meet the proposed criteria and are currently owners, control persons, principals, or registered persons with a firm; or
        b. all individuals who meet the proposed criteria and are currently associated with a firm, irrespective of their registration type or ownership and control status?
        What are the incremental economic impacts, including incremental costs and benefits associated with these alternatives and why are they better than the proposed requirements?
        8. Should FINRA consider expanding the scope of the proposed MAP rule amendments to individuals meeting the proposed numerical threshold who are already a principal and seek to add an additional principal registration with their existing firm?
        9. FINRA is proposing to disclose information through BrokerCheck on the status of a firm as a "taping firm." Should FINRA also consider disclosing information of a broker's association with a "taping firm" through BrokerCheck?

        In addition to comments responsive to these questions, FINRA invites comment on any other aspects of the rules that commenters wish to address. FINRA further requests any data or evidence in support of comments. While the purpose of this Notice is to obtain input as to whether or not the current rules are effective and efficient, FINRA also welcomes specific suggestions as to how the rules should be changed.


        1. The Uniform Registration Forms for firms and brokers are the Uniform Application for Broker-Dealer Registration (Form BD), the Uniform Application for Securities Industry Registration or Transfer (Form U4), the Uniform Termination Notice for Securities Industry Registration (Form U5) and the Uniform Disciplinary Action Reporting Form (Form U6). Firms have access to disclosure events reported on the Form U4, U5, and U6 filings for brokers who were previously registered with the same firms or with other firms. Firms, however, do not readily have available to them disclosure events for persons who were not previously registered, including control affiliates, that are reported on another firm's Form BD. FINRA would expect firms to take reasonable steps to obtain information on the disciplinary history of non-registered individuals that may be disclosed on another firm's Form BD through for example, questionnaires, certifications, and reasonable background checks for those individuals seeking to become an owner, control person, principal or registered person of the firm.

        2. See Regulatory Notice 18-15 (Heightened Supervision, Guidance on Implementing Effective Heightened Supervisory Procedures for Associated Persons With a History of Past Misconduct (April 2018)).

        3. FINRA also expects to file a proposed rule change to amend Schedule A to the FINRA By-Laws to increase current application fees for individuals, and impose new application fees for member firms, subject to an SD that are seeking approval by FINRA to enter or remain in the securities industry. In connection with our on-going efforts to address high-risk brokers, FINRA also will be publishing revised Sanction Guidelines shortly.

        4. Persons submitting comments are cautioned that FINRA does not redact or edit personal identifying information, such as names or email addresses, from comment submissions. Persons should submit only information that they wish to make publicly available. See Notice to Members 03-73 (November 2003) (Online Availability of Comments) for more information.

        5. See SEA Section 19 and rules thereunder. After a proposed rule change is filed with the SEC, the proposed rule change generally is published for public comment in the Federal Register. Certain limited types of proposed rule changes take effect upon filing with the SEC. See SEA Section 19(b)(3) and SEA Rule 19b-4.

        6. See Individuals Barred by FINRA [http://www.finra.org/industry/individuals-barred-finra-a]. The list is updated monthly.

        7. See General Information on FINRA's Eligibility Requirements [http://www.finra.org/industry/general-information-finras-eligibility-requirements].

        8. See supra note 6.

        9. See supra note 2.

        10. This Notice will refer to both a Hearing Panel and Extended Hearing Panel collectively as "Hearing Panel" unless otherwise noted. The Hearing Panel is chaired by the assigned Hearing Officer who is an employee of OHO. The Chief Hearing Officer appoints two industry panelists, drawn primarily from a pool of current and former securities industry members of FINRA's District Committees, as well as its Market Regulation Committee, former members of FINRA's NAC and former FINRA Governors. The NAC is the national committee that reviews initial decisions rendered in FINRA disciplinary and membership proceedings.

        11. If a respondent fails to answer the complaint, or a party fails to appear at a pre-hearing conference, or a party fails to appear at any hearing that the party is required to attend, the Hearing Officer may issue a default decision in accordance with Rule 9269.

        12. See FINRA Rule 9311(b), which further provides that an appeal will not stay a decision, or part of a decision, that imposes a permanent cease and desist order.

        13. As such terms are defined in Rule 9120 (Definitions).

        14. See, e.g., CBOE Rule 17.11(b) ("Pending effectiveness of a decision imposing a sanction on the Respondent, the Business Conduct Committee may impose such conditions and restrictions on the activities of the Respondent as the Committee considers reasonably necessary for the protection of investors and the Exchange"); BATS Rule 8.11 ("Pending effectiveness of a decision imposing a penalty on the Respondent, the CRO, Hearing Panel or committee of the Board, as applicable, may impose such conditions and restrictions on the activities of the Respondent as he, she or it considers reasonably necessary for the protection of investors, creditors and the Exchange."); CHX Article 12, Rule 6 (explaining that sanctions are stayed during appeal process "subject, however, to the power of the Hearing Officer to impose such limitations on the respondent as are necessary or desirable, in the judgment of the Hearing Officer for the protection of the respondent's customers, creditors or the Exchange or for the maintenance of just and equitable principles of trade"); Nasdaq PHLX Rule 960.10(b) ("Pending effectiveness of a decision imposing sanctions on a Respondent, the Hearing Panel may impose such conditions and restrictions on the activities on such Respondent which it finds to be necessary or appropriate for the protection of the investing public, members, member organizations and the Exchange and its subsidiaries.")

        15. Proposed Rule 9556(a)(2) would permit FINRA staff to issue a notice to a respondent stating that the failure to comply with the conditions or restrictions imposed under Rule 9285 within seven days of service of the notice will result in a suspension or cancellation of membership or a suspension or bar from associating with any member. Proposed Rule 9556(c)(2) would govern the content of the notice similar to current Rule 9556(c).

        16. See FINRA Rule 3110. The rule requires member firms to establish and maintain a system to supervise the activities of each associated person that is reasonably designed to achieve compliance with applicable securities laws and FINRA rules. An effective supervisory system plays an essential role in the prevention of sales abuses, and thus, enhances investor protection and market integrity. As such, irrespective of whether a matter is on appeal or under review, a firm should routinely evaluate its supervisory procedures to ensure they are appropriately tailored for each associated person and take into consideration, among other things, the person's activities and history of industry and regulatory-related incidents. FINRA and the SEC have emphasized the need for heightened supervision when a member firm associates with persons who have a history of industry or regulatory-related incidents.

        17. See supra note 16.

        18. SDs are defined in Section 3(a)(39) of the Exchange Act.

        19. See 15 U.S.C. § 78o-3(g)(2) ("A registered securities association may, and in cases in which the Commission, by order, directs as necessary or appropriate in the public interest orforthe protection of investors shall, deny membership to any registered broker or dealer, and barfrom becoming associated with a member any person, who is subjectto a statutory disqualification."); see also Exchange Act Rule 19h-l.

        20. See supra note 7.

        21. The Rule 9520 Series stems from Section 3(a) (39) of the Exchange Act, which sets forth the definition of SD. In 2007, FINRA amended the definition of SD in its By-Laws to incorporate by reference Exchange Act Section 3(a)(39). This change incorporated three additional SD categories, including willful violations of the federal securities or commodities laws, grounds for SD that were enacted by the Sarbanes-Oxley Act of 2002, and associations with certain other persons subjectto SD. As a result, there was an increase in the number of individuals subjectto SD pursuant to FINRA's By-Laws, and by derivation, an increase in the number of individuals seeking FINRA's approval to enter or remain in the securities industry despite their status as a disqualified individual.

        22. FINRA's review of many SD applications is governed by the standards set forth in Paul Edward Van Dusen, 47 S.E.C. 668 (1981) and Arthur H. Ross, 50 S.E.C. 1082 (1992). These standards provide that in situations where an individual's misconduct has already been addressed by the SEC or FINRA, and certain sanctions have been imposed for such misconduct, FINRA should not consider the individual's underlying misconduct when it evaluates an SD application. In Van Dusen, the SEC stated that when the period of time specified in the sanction has passed, in the absence of "new information reflecting adversely on [the applicant's] ability to function in his proposed employment in a manner consonant with the public interest," it is inconsistent with the remedial purposes of the Exchange Act and unfair to deny an application for re-entry. 47 S.E.C. at 671. The SEC also noted in Van Dusen, however, that an applicant's re-entry is not "to be granted automatically" after the expiration of a given time period. Id. Instead, the SEC instructed FINRA to consider other factors, such as: (1) "other misconduct in which the applicant may have engaged"; (2) "the nature and disciplinary history of a prospective employer"; and (3) "the supervision to be accorded the applicant." Id. Further, in Ross, the SEC established a narrow exception to the rule that FINRA confine its analysis to "new information." 50 S.E.C. at 1085. The SEC stated that FINRA could considerthe conduct underlying a disqualifying order if an applicant's later misconduct was so similar that it formed a "significant pattern." Id. n.10.

        23. The hearing panel considers evidence and other matters in the record and makes a written recommendation on the SD Application to the Statutory Disqualification Committee. See Rule 9524(a)(10). The Statutory Disqualification Committee, in turn, recommends a decision to the NAC, which issues a written decision to the member firm that filed the SD Application. See Rule 9524(b).

        24. Approximately 75 percent of the applications filed in 2016that have reached a resolution were either denied by FINRA, withdrawn because the applicant expected FINRA would recommend denial of its application or closed as the SD application was not required by operation of law. For the other 25 percent, FINRA approval resulted from legal principles, including those embodied in the Exchange Act and in case law, as noted above, which limits FINRA's discretion to deny an application.

        25. But see Regulatory Notice 18-15 (reminding member firms of their obligation to tailor the firm's supervisory systems to account for brokers with a history of industry or regulatory-related incidents, including disciplinary actions).

        26. See BrokerCheck [https://brokercheck.finra.org/].

        27. See Rules 2210(d)(8) and 2267.

        28. Rule 3170(a)(5)(A) defines a "taping firm" to mean:

        (i) A member with at least five but fewer than ten registered persons, where 40% or more of its registered persons have been associated with one or more disciplined firms in a registered capacity within the last three years;
        (ii) A member with at least ten but fewer than twenty registered persons, where four or more of its registered persons have been associated with one or more disciplined firms in a registered capacity within the last three years;
        (iii) A member with at least twenty registered persons where 20% or more of its registered persons have been associated with one or more disciplined firms in a registered capacity within the last three years.

        29. Rule 3170(a)(2) defines a "disciplined firm" to mean:

        (A) a member that, in connection with sales practices involving the offer, purchase, or sale of any security, has been expelled from membership or participation in any securities industry self-regulatory organization or is subject to an order of the SEC revoking its registration as a broker-dealer;
        (B) a futures commission merchant or introducing broker that has been formally charged by either the Commodity Futures Trading Commission or a registered futures association with deceptive telemarketing practices or promotional material relating to security futures, those charges have been resolved, and the futures commission merchant or introducing broker has been closed down and permanently barred from the futures industry as a result of those charges; or
        (C) a futures commission merchant or introducing brokerthat, in connection with sales practices involving the offer, purchase, or sale of security futures is subjectto an order of the SEC revoking its registration as a broker or dealer.

        30. Rule 3170 provides member firms that trigger application of the taping requirement a one-time opportunity to adjust their staffing levels to fall below the prescribed threshold levels and thus avoid application ofthe rule.

        31. There are currently 11 firms identified as "disciplined firms," and one firm is identified as a taping firm under Rule 3170.

        32. Specifically, such changes are (1) a merger of the member with another member, unless both are members ofthe New York Stock Exchange (NYSE) or the surviving entity will continue to be a member of the NYSE; (2) a direct or indirect acquisition by the member of another member, unless the acquiring member is a member of the NYSE; (3) direct or indirect acquisitions or transfers of 25 percent or more in the aggregate ofthe member's assets or any asset, business or line of operation that generates revenues composing 25 percent or more in the aggregate ofthe member's earnings measured on a rolling 36-month basis, unless both the seller and acquirer are members of the NYSE; (4) a change in the equity ownership or partnership capital of the memberthat results in one person or entity directly or indirectly owning or controlling 25 percent or more of the equity or partnership capital; or (5) a material change in business operations as defined in Rule 1011(k). The term "material change in business operations" includes, but is not limited to: (1) removing or modifying a membership agreement restriction; (2) market making, underwriting or acting as a dealer for the first time; and (3) adding business activities that require a higher minimum net capital under Rule 15c3-l of the Exchange Act.

        33. Proposed Rule 1011(p) would define the "Uniform Registration Forms," to mean the Uniform Application for Broker-Dealer Registration (Form BD),the Uniform Application for Securities Industry Registration or Transfer (Form U4), the Uniform Termination Notice for Securities Industry Registration (Form U5) and the Uniform Disciplinary Action Reporting Form (Form U6).

        34. Form U4 Explanation of Terms defines the term "investment-related" as pertaining to securities, commodities, banking, insurance, or real estate (including, but not limited to, acting as or being associated with a broker-dealer, issuer, investment company, investment adviser, futures sponsor, bank, or savings association).

        35. The proposed MAP rules amendments would apply to individuals that meet the proposed criteria and seek to obtain their first principal registration at one of their existing firms or at a new firm. It would not apply to individuals who meet the proposed numerical threshold and are already a principal but seek to add an additional principal registration with one of their existing firms.

        36. For example, in 2015 the Office of the Chief Economist (OCE) published a study that examined the predictability of disciplinary and other disclosure events associated with investor harm based on past similar events. The OCE study showed that past disclosure events, including regulatory actions, customer complaints, arbitrations and litigations of brokers have significant power to predict investor harm. In a subsequent research paper by academics at the University of Chicago and the University of Minnesota, the authors present evidence that suggests a higher rate of new disciplinary and other disclosure events is highly correlated with past disciplinary and other disclosure events, as far back as nine years prior. See Oureshi & Sokobin, Do Investors Have Valuable Information About Brokers?[http://www.finra.org/sites/default/files/OCE-Working-Paper.pdf] (2015); Mark Egan et al., The Market for Financial Adviser Misconduct [https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2739170] (2016).

        37. This analysis included all NAC appeals filed during the review period that reached a final decision by the end of 2017. The analysis includes all NAC decisions, including affirmations, modifications or reversals of the findings in the disciplinary matters. The analysis excludes appeals that were withdrawn prior to the resolution of the appeal process.

        38. FINRA further estimates that approximately 94 percent of the appeals filed by brokers involved one broker and the remaining 6 percent involved two brokers. All the appeals filed by firms were associated with one firm.

        39. The median processing time was approximately 15 months, while the 25th and the 75th percentiles were approximately 11 months and 18 months, respectively.

        40. Three of these 119 individuals were associated with multiple SD Applications over the review period. Approximately 90 percent of the firms filed one request duringthe review period, and the remaining 10 percent filed two or more requests.

        41. FINRA defines a small firm as a member with at least one and no more than 150 registered persons, a mid-size firm as a member with at least 151 and no more than 499 registered persons, and a large firm as a member with 500 or more registered persons. See FINRA By-Laws, Article I.

        42. In approximately 12 percent of the SD Applications, the application was withdrawn because the decision leading to the disqualifying event was overturned, thus the individual was no longer subject to an SD orthe sanctions were no longer in effect. In one of the 122 SD Applications, the resolution of the application was subsequently reversed.

        43. The median processing time was approximately 9 months and the 25th and the 75th percentiles were approximately 3 months and 14 months, respectively.

        44. To be consistent with the definitions used for classifying brokers for the proposed MAP requirements, FINRA based its analysis on the occurrence of one or more final criminal matters or specified risk events, as defined in the proposed amendments to the NASD Rule 1010 Series discussed above.

        45. These estimates are based on appeals filed by brokers, or jointly filed by brokers and firms, and excludes appeals that were filed only by firms. These estimates likely under represent the overall risk of customer harm posed by these brokers because they are based on a specific set of events and outcomes used for classifying brokers for the proposed amendments to the MAP rules. In addition, these brokers had other disclosure events after their appeal was filed and some of these other events may also be associated with risk of customer harm.

        46. The proposal may also impose costs on issuers in limited instances where a firm is enjoined from participating in a private placement and the issuer is especially reliant on that firm. The private issuer may incur search costs to find a replacement firm or individual and incur other direct and indirect costs associated with the offering.

        47. These estimates are based on the definitions for specified risk events and final criminal matters used for the proposed the MAP requirements, and as result, likely under represents the overall risk of customer harm posed by these SD individuals.

        48. Firms have access to disclosure events reported on the Form U4, U5 and U6 filings for individuals who were previously registered with the same firms or with other firms. Firms do not, however, readily have available to them disclosure events for individuals where such individuals were not previously registered, including control affiliates, or where information regarding such individuals is reported on anotherfirm's Form BD

        49. See supra note 48.

        50. The proposed $15,000 threshold for customer settlement corresponds to the reporting threshold forthe Uniform Registration Forms and forthe settlement information to be displayed through BrokerCheck. As a result, brokers and firms already have incentives to settle below the $15,000 amount. Accordingly, FINRA does not anticipate that the proposed dollar threshold would result in a material change in customer settlements.

        51. For example, FINRA uses disclosure events reported on Form BD across all firms to identify disclosure records of non-registered control affiliates.

        52. For example, as discussed above, firms do not have access to disclosure events for non-registered control affiliates at other firms.

        53. The Uniform Registration Forms U5 and U6 have questions similarto Form U4 that can also be mapped to the disclosures categories in Exhibit 1.

        54. The Uniform Registration Form BD includes information on disclosures events for individual control affiliates, including non-registered control affiliates, that may not have Form U4, U5 or U6 filings. Form BD is the primary source of information on disclosure events for these unregistered control affiliates. Form BD includes information on final criminal matters and certain specified risk events associated with regulatory actions and civil actions, but does not include information on customer awards or settlements.

        55. Exhibit 3 does not include information on individuals that were not registered with FINRA in 2016. These non-registered individuals may include non-registered associated persons, including non-registered control affiliates.

        56. Exhibit 3 shows the number of criminal disclosures and disclosures considered in developing specified risk events (regulatory action disclosures, civil judicial disclosures, and customer complaint, arbitration and civil litigation disclosures), including pending and final disclosures, overthe entire reporting history of brokers who were registered with FINRA in 2016. The exhibit also reports the number of brokers associated with these disclosure events and the impact of refining the disclosure categories and the period over which these events are counted. For example, the exhibit shows that there are a total of approximately 20,900 criminal disclosures and 140,200 disclosures considered in developing specified risk events overthe entire reporting history of these brokers. Refining the disclosure categories to include final criminal matters and specified risk events, as defined in this proposal, would result in approximately 155 final criminal matters and 3,425 specified risk events. Exhibit 3 also shows that there were approximately 490 brokers who were registered with FINRA in 2016 and met the proposed numeric threshold of one or more final criminal matters or two or more specified risk events in the prior five years.

        57. These percentages are calculated by dividing FINRA's estimate of the number of individuals who met the proposed criteria each year duringthe review period (approximately 100 -160 individuals per year), by the number of individuals who became owners, control persons, principals, or registered persons with a new member each year during the review period (approximately 105,500–112,800 individuals peryear).

        58. See supra note 41.

        59. Termination disclosures involve situations where the individual voluntarily resigned, was discharged, or was permitted to resign after allegations.

        60. More than 50 percent of the pending matters duringthe review period remain unresolved or were subsequently dismissed. For example, Exhibit 3 shows that approximately 69,000 (or 49 percent) of the 140,000 disclosures considered in developing specified risk events resulted in final matters. Accordingly, more than 50 percent of the pending matters remain unresolved or were subsequently dismissed or did not reach a resolution that was unfavorable to the broker.

        61. For example, the Instructions to Form U4, Questions 141(4) or 141(B) provide that the answer should be "yes" if the broker was not named as a respondent/defendant but (1) the Statement of Claim or Complaint specifically mentions the individual by name and alleges the broker was involved in one or more sales practice violations or (2) the Statement of Claim or Complaint does not mention the broker by name, but the firm has made a good faith determination that the sales practice violation(s) alleged involves one or more particular brokers.

        62. For example, the Uniform Registration Forms contain a description on the allegation, which could be useful in identifying regulatory actions or civil actions associated with customer harm, but this information is stored as "free-text" and, therefore, cannot be reliably compared across disclosures.

        63. FINRA recognizes that final criminal matters include felony convictions that may not be investment related (e.g., a conviction associated with multiple DUIs).


        Attachment A

        Below is the text of the proposed rule change. Proposed new language is underlined; proposed deletions are in brackets.

        * * * * *

        Text of Proposed New FINRA Rules

        (Marked to Show Changes from NASD Rule 1010 Series; NASD Rule 1010 Series to be

        Deleted in their Entirety from the Transitional Rulebook)i

        * * * * *

        1000. MEMBERSHIP APPLICATION AND ASSOCIATED PERSON REGISTRATION

        * * * * *

        [1010. Membership Proceedings] 1011. Definitions

        * * * * *

        (g) "final criminal matter"

        The term "final criminal matter" means a final criminal matter that resulted in a conviction of, or guilty plea or nolo contendere ("no contest") by a person that is disclosed, or was required to be disclosed, on the applicable Uniform Registration Forms.
        (g) through (m) renumbered to (h) through (n)
        (o) "specified risk event"

        The term "specified risk event" means any one of the following events that are disclosed, or are or were required to be disclosed, on an applicable Uniform Registration Form;
        (1) a final investment-related, consumer-initiated customer arbitration award or civil judgment against the person for a dollar amount at or above $15,000 in which the person was a named party;
        (2) a final investment-related, consumer-initiated customer arbitration settlement or civil litigation settlement for a dollar amount at or above $15,000 in which the person was a named party;
        (3) a final investment-related civil action where the total monetary sanctions (including civil and administrative penalties or fines, disgorgement, monetary penalties other than fines, or restitution) were ordered for a dollar amount at or above $15,000; and
        (4) a final regulatory action where (A) the total monetary sanctions (including civil and administrative penalties or fines, disgorgement, monetary penalties other than fines, or restitution) were ordered for a dollar amount at or above $15,000; or (B) the sanction against the person was a bar (permanently or temporarily), expulsion, rescission, revocation, or suspension from associating with a member.
        ([n]p) "Subcommittee"

        The term "Subcommittee" means a subcommittee of the National Adjudicatory Council that is constituted pursuant to Rule 1015 to conduct a review of a Department decision issued under the Rule [1010]1000 Series.
        (q) "Uniform Registration Forms"

        The term "Uniform Registration Forms" means the Uniform Application for Broker-Dealer Registration (Form BD), the Uniform Application for Securities Industry Registration or Transfer (Form U4), the Uniform Termination Notice for Securities Industry Registration (Form U5) and the Uniform Disciplinary Action Reporting Form (Form U6), as such may be amended or any successor(s) thereto.

        * * * * *

        IM-1011-2. Business Expansions and Persons with Specified Risk Events

        If a natural person who has, in the prior five years, one or more final criminal matters or two or more specified risk events seeks to become an owner, control person, principal, or registered person of a member, and the member is not otherwise required to file a Form CMA in accordance with Rule 1017, the member may not effect the contemplated activity until the member has first submitted a written letter to the Department, in a manner prescribed by FINRA, seeking a materiality consultation for the contemplated activity. The letter must address the issues that are central to the materiality consultation. The Department will consider the letter and other information or documents and determine in the public interest and the protection of investors that either (1) the member is not required to file a CMA in accordance with Rule 1017 and may effect the contemplated activity; or (2) the member is required to file a CMA in accordance with Rule 1017 and the member may not effect the contemplated activity, unless the Department approves the CMA.

        * * * * *

        1017. Application for Approval of Change in Ownership, Control, or Business Operations
        (a) Events Requiring Application

        A member shall file an application for approval of any of the following changes to its ownership, control, or business operations:
        (1) through (5) No Change.
        (6) Notwithstanding subparagraphs (4) and (5) of Rule 1017(a), whenever the natural person seeking to become an owner, control person, principal or registered person of a member has, in the prior five years, one or more final criminal matters or two or more specified risk events, and the member is not otherwise required to file a Form CMA in accordance with Rule 1017, unless the member has submitted a written letter to the Department, in a manner prescribed by FINRA, seeking a materiality consultation for the contemplated activity. The letter must address the issues that are central to the materiality consultation. As part of the materiality consultation, the Department shall consider the letter and other information or documents provided by the member to determine in the public interest and the protection of investors that either (A) the member is not required to file a CMA in accordance with Rule 1017 and may effect the contemplated activity; or (B) the member is required to file a CMA in accordance with Rule 1017 and the member may not effect the contemplated activity, unless the Department approves the CMA. The safe harbor for business expansions under IM-1011-1 shall not be available to the member in such circumstance.

        * * * * *

        8310. Sanctions for Violation of the Rules

        * * * * *

        8312. FINRA BrokerCheck Disclosure
        (a) No Change.
        (b)
        (1) No Change.
        (2) The following information shall be released pursuant to this paragraph (b):
        (A) any information reported on the most recently filed Form U4, Form U5, Form U6, Form BD, and Form BDW (collectively "Registration Forms");
        (B) currently approved registrations;
        (C) summary information about certain arbitration awards against a BrokerCheck Firm involving a securities or commodities dispute with a public customer;
        (D) the most recently submitted comment, if any, provided to FINRA by the person who is covered by BrokerCheck, in the form and in accordance with the procedures established by FINRA, for inclusion with the information provided through BrokerCheck. Only comments that relate to the information provided through BrokerCheck will be included;
        (E) information as to qualifications examinations passed by the person and date passed. FINRA will not release information regarding examination scores or failed examinations;
        (F) [in response to telephonic inquiries via the BrokerCheck toll-free telephone listing, ]information as to whether a particular member is subject to the provisions of Rule 3170 ("Taping Rule");
        (G) Historic Complaints (i.e., the information last reported on Registration Forms relating to customer complaints that are more than two (2) years old and that have not been settled or adjudicated, and customer complaints, arbitrations or litigations that have been settled for an amount less than $10,000 prior to May 18, 2009 or an amount less than $15,000 on or after May 18, 2009 and are no longer reported on a Registration Form), provided that any such matter became a Historic Complaint on or after August 16, 1999; and
        (H) the name and succession history for current or former BrokerCheck Firms.
        (c) through (f) No Change.

        • • • Supplementary Material: --------------

        .01 through .03 No Change.

        * * * * *

        9000. CODE OF PROCEDURE

        * * * * *

        9200. DISCIPLINARY PROCEEDINGS

        * * * * *

        9285. Interim Orders While on Appeal
        (a) Conditions and Restrictions

        The Hearing Panel or, if applicable, the Extended Hearing Panel ("Hearing Panel"), or Hearing Officer may impose such conditions or restrictions on the activities of a Respondent as the Hearing Panel or Hearing Officer considers reasonably necessary for the purpose of preventing customer harm.
        (b) Expedited Review
        (1) Availability

        A Respondent that has conditions or restrictions imposed by a Hearing Panel or Hearing Officer may file a motion with the Review Subcommittee of the National Adjudicatory Council to modify or remove any or all of the conditions or restrictions.
        (2) Requirements for the Motion

        The Respondent has the burden to show that the Hearing Panel or Hearing Officer committed an error by ordering the conditions or restrictions imposed. The Respondent must show that the conditions or restrictions are not reasonably necessary for the purpose of preventing customer harm. The Respondent's motion to modify or remove conditions or restrictions shall be filed with FINRA's Office of General Counsel and shall be served simultaneously on the Office of Hearing Officers and all other parties to the disciplinary proceeding. Respondent's motion and the opposition to the motion shall comply with Rules 9133, 9134, 9135, 9136 and 9137.
        (3) Opposition to the Motion

        The Department of Enforcement shall have five days from service of Respondent's motion to file an opposition to the motion. The Respondent may not file a reply to the opposition. Unless ordered otherwise by the Review Subcommittee, the motion to modify or remove conditions or restrictions shall be decided based on the moving and opposition papers and without oral argument. The Review Subcommittee shall issue a written order ruling upon a motion to modify or remove conditions or restrictions in an expeditious manner and no later than 30 days after any opposition filed pursuant to this paragraph (b)(3), and serve the order on all parties.
        (4) Effectiveness

        The filing of a motion to modify or remove a condition or restriction shall stay the effectiveness of the conditions or restrictions ordered by a Hearing Panel or Hearing Officer until the Review Subcommittee rules on the motion.
        (c) Mandatory Heightened Supervision
        (1) Requirement

        When a Hearing Panel or Hearing Officer issues a decision pursuant to Rule 9268 or Rule 9269 in which the adjudicator finds that a Respondent violated a statute or rule provision, any firm with which the Respondent is associated must adopt a written plan of heightened supervision if any party appeals the decision to the National Adjudicatory Council, or if the National Adjudicatory Council calls the case for review. The firm must submit the written plan of heightened supervision within ten days of any party filing an appeal or the case being called for review. Respondent shall file a copy of the plan of heightened supervision with FINRA's Office of General Counsel and shall serve a copy on the Department of Enforcement. If a Respondent becomes associated with another firm while the Hearing Panel's or Hearing Officer's decision is on appeal to the National Adjudicatory Council, that firm, within ten days of the Respondent becoming associated with the firm, shall file a copy of a plan of heightened supervision with FINRA's Office of General Counsel and shall serve a copy on the Department of Enforcement.
        (2) Provisions

        The plan of heightened supervision shall comply with Rule 3110, and shall be reasonably designed and tailored to include specific supervisory policies and procedures that address the violations found by the Hearing Panel or Hearing Officer and shall be reasonably designed to prevent or detect a reoccurrence of those violations. The plan of heightened supervision shall, at a minimum, include the designation of an appropriately registered principal who is responsible for carrying out the plan of heightened supervision, and take into account any conditions and restrictions imposed by the Hearing Panel or Hearing Officer pursuant to paragraph (a) of this Rule.
        (3) Signature of Principal

        The plan of heightened supervision shall be signed by the designated principal, and shall include an acknowledgement that the principal is responsible for implementing and maintaining the plan of heightened supervision.
        (4) Duration

        The plan of heightened supervision shall remain in place until FINRA's final decision takes effect.

        * * * * *

        9300. REVIEW OF DISCIPLINARY PROCEEDING BY NATIONAL ADJUDICATORY COUNCIL AND FINRA BOARD; APPLICATION FOR SEC REVIEW
        9310. Appeal to or Review by National Adjudicatory Council
        9311. Appeal by Any Party; Cross-Appeal
        (a) No Change.
        (b) Effect

        An appeal to the National Adjudicatory Council from a decision issued pursuant to Rule 9268 or Rule 9269 shall operate as a stay of that decision until the National Adjudicatory Council issues a decision pursuant to Rule 9349 or, in cases called for discretionary review by the FINRA Board, until a decision is issued pursuant to Rule 9351. Any such appeal, however, will not stay a decision, or that part of a decision, that imposes a permanent cease and desist order. Notwithstanding the stay of sanctions under this Rule, the Hearing Panel or Hearing Officer may impose such conditions and restrictions on the activities of a Respondent as the Hearing Panel or Hearing Officer considers reasonably necessary for the purpose of preventing customer harm in accordance with Rule 9285(a).
        (c) through (f) No Change.

        * * * * *

        9500. OTHER PROCEEDINGS

        * * * * *

        9520. Eligibility Proceedings

        * * * * *

        9523. Acceptance of Member Regulation Recommendations and Supervisory Plans by Consent Pursuant to SEA Rule 19h-1, and Requirements for an Interim Plan of Heightened Supervision
        (a) through (b) No Change.
        (c) Submission of an Interim Plan of Heightened Supervision An application filed pursuant to FINRA Rule 9522(a)(3) or FINRA Rule 9522(b)(1)(B) or (C) that seeks the continued association of a disqualified person must include:
        (1) An interim plan of heightened supervision. The application shall identify an appropriately registered principal responsible for carrying out the interim plan of heightened supervision, who has signed the plan and acknowledged his or her responsibility for implementing and maintaining such plan. The interim plan of heightened supervision shall be in effect throughout the entirety of the application review process which shall be considered concluded only upon the final resolution of the eligibility proceeding. The interim plan of heightened supervision shall comply with the provisions of Rule 3110, and be reasonably designed and tailored to include specific supervisory policies and procedures that address any regulatory concerns related to the nature of the disqualification, the nature of the sponsoring member's business, and the disqualified person's current and proposed activities during the review process. As a condition to the eligibility proceeding, the Department of Member Regulation, in its discretion and consistent with the public interest and the protection of investors, may modify any interim plan of heightened supervision.
        (2) A written representation from the sponsoring member that the disqualified person is currently subject to an interim plan of heightened supervision as set forth in paragraph (c)(1) of this Rule.
        (d) Determination that an Application is Substantially Incomplete

        If the Department of Member Regulation determines that an application is substantially incomplete, it may reject the application and deem it not to have been filed. In such case, the Department of Member Regulation shall provide the disqualified member or sponsoring member notice of the delinquency and its reasons for so doing. The disqualified member or sponsoring firm shall have ten business days to remedy the application, or such other time period prescribed by FINRA. An application will be deemed to be substantially incomplete if:
        (1) It does not include the representation required by paragraph (c)(2) of this Rule; or
        (2) FINRA determines that it does not include a reasonably designed interim plan of heightened supervision that complies with the standards of paragraph (c)(1) of this Rule.
        (e) Consequences for Failure to Timely Remedy an Application that is Substantially Incomplete

        If an applicant fails to remedy an application that is substantially incomplete, the Department of Member Regulation shall serve a written notice on the disqualified member or sponsoring member of its determination to reject the application and its reasons for so doing. FINRA shall refund the application fee, less $1,000, which shall be retained by FINRA as a processing fee. Upon such rejection, the disqualified member or sponsoring member must promptly terminate association with the disqualified person.

        * * * * *

        9550. Expedited Proceedings

        * * * * *

        9556. Failure to Comply with Temporary and Permanent Cease and Desist Orders, or Hearing Panel or Hearing Officer Decisions that Impose Conditions or Restrictions
        (a) Notice of Suspension, Cancellation or Bar
        (1) If a member, person associated with a member or person subject to FINRA's jurisdiction fails to comply with a temporary or permanent cease and desist order issued under the Rule 9200, 9300 or 9800 Series, FINRA staff, after receiving written authorization from FINRA's Chief Executive Officer or such other senior officer as the Chief Executive Officer may designate, may issue a notice to such member or person stating that the failure to comply with the temporary or permanent cease and desist order within seven days of service of the notice will result in a suspension or cancellation of membership or a suspension or bar from associating with any member.
        (2) If a respondent fails to comply with conditions or restrictions imposed pursuant to Rule 9285 in a Hearing Panel's or Hearing Officer's decision issued pursuant to Rule 9268 or Rule 9269, FINRA staff may issue a notice to a respondent stating that the failure to comply with the conditions or restrictions within seven days of service of the notice will result in a suspension or cancellation of membership or a suspension or bar from associating with any member.
        (b) No Change.
        (c) Contents of Notice
        (1) [The]A notice issued pursuant to paragraph (a)(1) shall explicitly identify the provision of the permanent or temporary cease and desist order that is alleged to have been violated and shall contain a statement of facts specifying the alleged violation. The notice shall state when the FINRA action will take effect and explain what the respondent must do to avoid such action. The notice shall state that the respondent may file a written request for a hearing with the Office of Hearing Officers pursuant to Rule 9559. The notice also shall inform the respondent of the applicable deadline for filing a request for a hearing and shall state that a request for a hearing must set forth with specificity any and all defenses to the FINRA action. In addition, the notice shall explain that, pursuant to Rules 8310(a) and 9559(n), a Hearing Officer or, if applicable, Hearing Panel, may approve, modify or withdraw any and all sanctions or limitations imposed by the notice, and may impose any other fitting sanction.
        (2) A notice issued pursuant to paragraph (a)(2) shall explicitly identify conditions or restrictions that are alleged to have been violated and shall contain a statement of facts specifying the alleged violation. The notice shall state when the FINRA action will take effect and explain what the respondent must do to avoid such action. The notice shall state that the respondent may file a written request for a hearing with the Office of Hearing Officers pursuant to Rule 9559. The notice also shall inform the respondent of the applicable deadline for filing a request for a hearing and shall state that a request for a hearing must set forth with specificity any and all defenses to the FINRA action. In addition, the notice shall explain that, pursuant to Rules 8310(a) and 9559(n), a Hearing Officer or, if applicable, Hearing Panel, may approve, modify or withdraw any and all sanctions imposed by the notice, and may impose any other fitting sanction.
        (d) through (h) No Change.

        * * * * *


        i FINRA will separately issue a Regulatory Notice soliciting comment on proposed changes to the membership application rules resulting from a retrospective review of the rules.


        Exhibit 1: Disclosures Categories Considered for Criminal Matters and Specified Risk Events (Mapped to the Uniform Form U4)

        Subcategories Considered Subcategories Included
        Disclosure Categories* Subcategories U4 Question # Subcategories U4 Question #
        Final Criminal Matters
        I) Convictions
        II) Adjudicated charges with unspecified outcomes
        I) 14A(1)a, (2)a; 14B(1)a, (2)a
        II)14A(1)b, (2)b; 14B(1)b,(2)b
        I) Convictions
        I) 14A(1)a, (2)a; 14B(1)a, (2)a
        Specified Risk Events        
        a) Customer Awards (above de minimis threshold)**
        Customer awards in which:
        I) Individual was named
        II)Individual was subject of
        I) 14I (1)b
        II) 14I (4)b
        Customer awards in which:
        I) Individual was named
        I) 14I (1)b
        b) Customer Settlements (above de minimis threshold)**
        Customer settlements in which:
        I) Individual was named
        II)Individual was subject of
        I)14I (1)c–d
        II)14I (2)a–b; 14I (4)a
        Customer settlements in which:
        I) Individual was named
        I) 14I (1)c–d
        c) Final Civil Judicial
        Sanctions ordered:
        I) Monetary Sanctions
        II) Cease and Desist Sanctions
        III) Other Sanctions
        Civil Judicial DRP, Q12A
        I)Civil and Administrative penalties, Disgorgement, Monetary Penalty other than fines, Restitution
        II)Cease and Desist, Injunction
        III)Other Sanctions
        Sanctions ordered:
        I) Monetary Sanctions (above de minimis threshold)**
        Civil Judicial DRP, Q12A
        I) Civil and Administrative penalties, Disgorgement, Monetary Penalty other than fines, Restitution
        d) Final Regulatory Actions
        Sanctions ordered:
        I)Bars and Suspensions
        II)Monetary Sanctions
        III)Cease and Desist Sanctions
        IV)Other Sanctions
        Regulatory Action-DRP 13 A.
        I)Bar(permanent), Bar (temporary), Rescission, Suspension, Revocation, Expulsion
        II)Civil and Admin Penalties/Fines, Restitution, Disgorgement, Monetary penalties and other fines
        III)Censure, Cease and Desist, Prohibition
        IV)Undertaking, Requalification, Denial, Letter of Reprimand, Other
        Sanctions ordered:
        I)Bars and Suspensions
        II)Monetary Sanctions (above de minimis threshold)**
        Regulatory Action-DRP 13 A.
        I)Bar(permanent), Bar (temporary), Rescission, Suspension, Revocation, Expulsion
        II)Civil and Admin Penalties/Fines, Restitution, Disgorgement, Monetary penalties and other fines

        Notes and Assumptions:

        * Excludes matters that are pending or are known to have reached a resolution in favor of the Individual (e.g. pending or dismissed complaints).

        ** Corresponds to a dollar threshold of $15,000.

        Exhibit 2: Disclosures Categories Considered for Criminal Matters and Specified Risk Events (Mapped to the Uniform Form BD)

        Subcategories Considered Subcategories Included
        Disclosure Categories* Subcategories Form BD Question # Subcategories Form BD Question #
        Final Criminal Matters
        I)Convictions
        II)Adjudicated charges with unspecified outcomes
        I) 11A(1), 11B(1)
        II) 11A(2), 11B(2)
        I) Convictions
        I) 11A(1), 11B(1)
        Specified Risk Events
        a) Customer Awards (above de minimis threshold)**
        Customer awards in which:
        I) Individual was named
        II) Individual was subject of
        NA*** Customer awards in which:
        I) Individual was named
        NA***
        b) Customer Settlements (above de minimis threshold)**
        Customer settlements in which:
        I) Individual was named
        II) Individual was subject of
        NA*** Customer settlements in which:
        I) Individual was named
        NA***
        c) Final Civil Judicial
        Sanctions ordered:
        I)Monetary Sanctions
        II)Cease and Desist Sanctions
        III)Other Sanctions
        Civil Action-DRP Part II, 13 A.
        I)Bar, Suspension, Revocation, Expulsion
        II)Disgorgement, Restitution, Monetary Fine
        III)Censure, Cease and Desist Injunctions
        IV)Other Sanctions
        Sanctions ordered:
        I) Monetary Sanctions (above de minimis threshold)**
        Civil Action-DRP Part II, 13 A.
        I) Bar, Suspension, Revocation, Expulsion
        II) Disgorgement, Restitution, Monetary Fine
        d) Final Regulatory Actions
        Sanctions ordered:
        I) Bars and Suspensions
        II) Monetary Sanctions
        III) Cease and Desist Sanctions
        IV) Other Sanctions
        Regulatory Action-DRP Part II, 12 A.
        I) Bar, Suspension, Revocation, Expulsion
        II) Disgorgement, Restitution, Monetary Fine
        III) Censure, Cease and Desist Injunctions
        IV) Other Sanctions
        Sanctions ordered:
        I) Bars and Suspensions
        II)Monetary Sanctions (above de minimis threshold)**
        Regulatory Action-DRP Part II, 12 A.
        I) Bar, Suspension, Revocation, Expulsion
        II) Disgorgement, Restitution, Monetary Fine

        Notes and Assumptions:

        * Form BD includes information on these disclosure categories for individual control affiliates. These disclosure categories exclude matters that are pending or are known to have reached a resolution in favor of the Individual (e.g. pending or dismissed complaints).

        ** Corresponds to a dollar threshold of $15,000.

        *** Form BD does not include information on customer awards or settlements.

        Exhibit 3: Breakdown of Criminal Matters and Specified Risk Events

        Disclosures Considered in Developing Specified Risk Events (SREs)
        Look-back Period? Criminal Matters Regulatory Action Disclosures Civil Judicial Disclosures Customer Complaint, Arbitration, Civil Litigation Disclosures Any SREs Criminal Matters OR SREs
            Disclosure Subcategory Events Individuals with ≥1 events Disclosure Subcategory Events Disclosure Subcategory Events Disclosure Subcategory Events Events Individuals with ≥1 events Individuals with ≥2 events Events Individuals with ≥1 Criminal Event Or ≥2 SREs
        [1] All years All Criminal Disclosures 20,895 17,813 All Regulatory Action Disclosures 13,567 All Civil Judicial Disclosures 1,282 Complaint, Arbitration, Civil Litigation Disclosures 125,348 140,197 69,376 27,924 161,092 44,060
        [2] All years Final Criminal Matters 17,491 14,970 Final Regulatory Actions 12,298 Final Civil Judicial Disclosures 529 Customer Awards and Settlements above de minimis threshold Customer Awards 55,731 68,558 39,658 12,858 86,049 26,957
        [3] 5 years Final Criminal Matters 846 805 Final Regulatory Actions 2,296 Final Civil Judicial Disclosures 117 Customer Awards and Settlements above de minimis threshold 7,435 12,410 9,271 1,551 13,256 2,345
        [4] 5 years Criminal Convictions 154 145 Final Regulatory Actions associated with i) bars and suspensions or ii) monetary sanctions above de minimis threshold 1,311 Final Civil Judicial Actions with monetary sanctions above de minimis threshold 10 Customer Awards and Settlements above de minimis threshold in which Individual was "named" 2,105 3,426 2,870 348 3,578 493

        Notes and Assumptions:

        [1]: Disclosures within each subcategory include all disclosures including pending and resolved events, regardless of the resolution.
        [2]: Final events exclude matters that are pending or are known to have reached a resolution in favor of the Individual. Final criminal matters include convictions and outcome that are not specified.
        [3]: 5 year look-back is based on resolution date being within the last 5 years.
        [4]: Regulatory Actions corresponding to bars and suspensions include, permanent or temporary bar, suspension, revocation, rescission or expulsion. Customer Awards and Settlements in which the individual was "named" exclude any settlements prior to initiation of arbitration or civil litigation.
        [5]: De minimis threshold corresponds to a dollar threshold of $15,000

        Exhibit 4: Individuals and Firms Impacted by the Proposed MAP Requirement

        Year Individuals impacted by proposed MAP requirement Firms impacted by the Proposed MAP requirement
        Individuals meeting the Proposed Criteria who became:*        
        (1) Principal (2) Registered Person (3) Owner or Control Person (1) or (2) or (3) Small Firms Medium Firms Large Firms All Firms
        2013 42 146 11 160 91 24 55 170
        2014 30 111 13 124 72 14 59 145
        2015 34 114 10 129 72 20 49 141
        2016 17 94 7 99 51 16 46 113

        Notes and Assumptions

        * Proposed criteria corresponds to individuals with one final criminal matter or two or more specified risk events within the prior five years reported on Uniform Registration Forms U4, U5, U6 and Form BD.

      • 18-15 Guidance on Implementing Effective Heightened Supervisory Procedures for Associated Persons With a History of Past Misconduct

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        Regulatory Notice
        Notice Type

        Guidance
        Referenced Rules & Notices

        FINRA Rule 3110
        Notice to Members 97-19
        Notice to Members 98-38
        Regulatory Notice 18-16
        Suggested Routing

        Compliance
        Legal
        Operations
        Registered Representatives
        Senior Management
        Key Topics

        Heightened Supervision
        Supervision

        Heightened Supervision

        Summary

        FINRA is publishing this Notice to reiterate the supervisory obligations of member firms regarding associated persons with a history of past misconduct that may pose a risk to investors. FINRA Rule 3110 (Supervision) requires member firms to establish and maintain a system to supervise the activities of each associated person that is reasonably designed to achieve compliance with applicable securities laws and FINRA rules. An effective supervisory system plays an essential role in the prevention of sales abuses, and thus, enhances investor protection and market integrity. As such, FINRA has long emphasized that member firms have a fundamental obligation to implement a supervisory system that is tailored specifically to the member firm's business and addresses the activities of all its associated persons. This Notice highlights particular instances where heightened supervision of an associated person may be appropriate. Firms are encouraged to adopt the practices that are outlined in this Notice to strengthen their own supervisory procedures, as appropriate to their business.

        This Notice is one of several FINRA initiatives focused on associated persons with a history of past misconduct that pose a risk to investors and the firms that employ them. These initiatives are designed to strengthen oversight of such associated persons and firms through a combination of guidance, rule changes, and FINRA examination and surveillance programs. FINRA also is simultaneously issuing Regulatory Notice 18-16 seeking comment on proposed rule amendments to further efforts to protect investors.1

        Questions concerning this Notice should be directed to Kosha Dalal, Associate Vice President and Associate General Counsel, Office of General Counsel (OGC), at (202) 728-6903 or kosha.dalal@finra.org.

        Background & Discussion

        FINRA administers comprehensive regulatory programs designed to help our members maintain trust in the financial markets. These programs serve multiple purposes in advancing FINRA's mission of protecting investors and market integrity—including promoting compliance with applicable rules, creating a level playing field, and enhancing transparency and access to information. One of their most important purposes is to protect investors from bad actors: those who seek to evade regulatory requirements and harm investors for their own personal gain. FINRA continues to evaluate and augment its regulatory programs to better identify and supervise potential bad actors.

        Member firms also have a key role to play in protecting investors from bad actors. While FINRA believes that the vast majority of registered representatives seek to serve their clients in accordance with all applicable regulatory requirements, ongoing vigilance by member firms is critical. Member firms should be reviewing and updating their supervisory systems and procedures for hiring practices, monitoring brokers and investigating red flags suggestive of misconduct. FINRA requires member firms to establish and maintain supervisory systems for each of their associated persons and to test and verify annually that they have established reasonable procedures, including procedures for heightened supervision of associated persons, where necessary. FINRA and the SEC have emphasized the need for heightened supervision when a member firm associates with persons who have a history of industry or regulatory-related incidents.2 These heightened supervisory procedures are a critical element in a member firm's supervisory system. As such, it is essential that firms monitor the histories of their associated persons and establish heightened measures to supervise the activities of those associated persons with greater potential of creating customer harm.

        FINRA previously issued guidance regarding the application of heightened supervisory plans for associated persons with a history of industry or regulatory-related incidents.3 For example, a firm that hires an associated person with a recent history of customer complaints, disciplinary actions involving sales practice abuse or other customer harm, or adverse arbitration decisions should determine whether it needs special supervisory procedures for that associated person, or whether its existing supervisory procedures are sufficient to address the circumstances.4 Firms also should make this determination where an associated person, during his or her employment with the firm, develops a history of problems.

        Member firms often serve as the first line of defense against customer harm through establishing and maintaining effective supervisory systems, particularly with regard to associated persons who may pose higher risks of causing customer harm. In order to provide additional guidance to firms, FINRA has identified certain circumstances under which firms are encouraged to consider implementing heightened supervisory procedures for an associated person.5 Implementation of the suggested recommendations may help to reduce future customer harm by brokers; however, the recommendations below are not intended to be an exhaustive list of circumstances firms should consider when determining whether to implement heightened supervisory procedures. Moreover, a firm's implementation of the recommendations in and of themselves would not necessarily satisfy its obligations under Rule 3110(a) to establish and maintain a supervisory system reasonably designed to achieve compliance with applicable securities laws and applicable FINRA rules or other obligations that may arise under FINRA rules.

        Heightened Supervisory Procedures

        A firm should routinely evaluate its supervisory procedures to ensure they are appropriately tailored for each associated person and take into consideration, among other things, the person's activities and history of industry and regulatory-related incidents. When an associated person of the firm has a history of industry or regulatory-related incidents, the firm must make a reasonable determination as to whether its standard supervisory and educational programs are adequate to address the issues such person's history raises or whether the firm should develop tailored heightened supervisory procedures to address such issues. The failure to assess the adequacy of its supervisory procedures in light of an associated person's history of industry or regulatory-related incidents would be closely evaluated in determining whether the firm itself should be subject to disciplinary action for a failure to supervise should that person be the subject of a future industry or regulatoryrelated incident.

        A. Identifying Individuals for Heightened Supervision

        In identifying which associated persons to place on heightened supervision, firms should consider, among other things, customer-related regulatory actions; criminal matters; the firm's pre-registration investigation; internal investigations; firm-imposed discipline; disciplinary actions; final, pending and settled arbitrations; past, open or settled customer complaints; terminations for cause; and other items disclosed on the person's uniform registration forms.6 While final adverse adjudicated matters such as disciplinary actions, criminal matters and arbitrations clearly indicate a disciplinary problem, a pattern of unadjudicated matters, such as unadjudicated customer complaints, also may be indicative of a history that should be carefully reviewed.

        In addition, FINRA believes that the following two circumstances raise significant investor protection concerns, and firms should evaluate the facts and circumstances to make a determination of whether heightened supervision would be appropriate.7

        •   Heightened Supervision of Statutorily Disqualified Persons During Eligibility Review Process

        Currently, if an associated person who has an industry or regulatory-related event that qualifies as a statutory disqualification (SD) under the Securities Exchange Act of 1934 (Exchange Act) wants to continue associating with a member firm, he or she must undergo a FINRA eligibility proceeding.8 Under FINRA's current rules, a person who becomes statutorily disqualified while associated with a member firm is allowed to remain associated with that member firm during FINRA's review process, so long as the member firm promptly files a Form MC-400 application (SD Application). In reviewing an SD Application, FINRA can seek to prevent the statutorily disqualified person from associating with a member firm or can permit the statutorily disqualified person to associate with a member firm if it is consistent with the public interest and protection of investors. Generally, where FINRA permits the statutorily disqualified person to associate or continue association with a member firm, FINRA will condition the association on the establishment of certain safeguards, including the adoption and implementation of a heightened supervisory plan by the member firm of the person's business activities. To further promote investor protection, member firms should consider adopting and implementing an interim plan of heightened supervision for any statutorily disqualified person associated with the firm once the SD Application is filed with FINRA and to keep such heightened supervisory plan in place while the review is pending. FINRA believes heightened supervision may be appropriate for such persons because they have already been statutorily disqualified, and, in nearly every case, the continued association of a statutorily disqualified person approved through a FINRA eligibility proceeding is conditioned on the individual being subject to a robust heightened supervision plan.
        •   Heightened Supervision of Persons While Disciplinary Case Is On Appeal

        Currently, when an associated person or member firm in a litigated disciplinary case appeals a Hearing Panel decision to the National Adjudicatory Council (NAC), sanctions are generally stayed pending an appeal.9 In cases where the Hearing Panel has rendered a decision making a finding of violation against the associated person and where an appeal is filed, to further promote investor protection, firms should consider adopting and implementing an interim plan of heightened supervision for such associated person and keep such heightened supervisory plan in place while the appeal is pending. FINRA believes heightened supervision may be appropriate for such persons because they have already been found to have violated a rule.

        B. Developing and Implementing a Heightened Supervision Plan

        Once a firm determines that heightened supervision is necessary, the firm should develop written, tailored heightened supervisory procedures designed to address the nature of the particular concerns the associated person's incident history raises and the nature of such person's ongoing activities. When developing a heightened supervision plan, the firm should determine the parameters of the plan on a case-by-case basis for each associated person that the firm has identified as requiring heightened supervision.

        In making this determination, a firm should consider whether the nature of the concerns the associated person's incident history raises involved a particular product, customer type or activity. In any of these instances, the firm should examine the product, customer type or activity to identify the level and type of risk it presents. The firm should then determine what type of supervision might best control and limit this type of risk. The plan should reflect a firm's reasonable consideration of how to effectively supervise the individual through tailored provisions designed to prevent and deter future incidents.

        FINRA has provided a number of factors that firms should consider including in a heightened supervision plan. Firms are cautioned that these factors are neither exhaustive nor will they constitute a safe harbor for FINRA rules. Based on staff experience, FINRA believes effective heightened supervision plans should include, at a minimum:

        •   designating a principal with the appropriate training and experience to implement and enforce the plan;
        •   requiring appropriate additional training for the associated person subject to the plan to address the nature of incidents resulting in the plan;
        •   requiring the written acknowledgment of the heightened supervisory plan by the associated person subject to the plan and the designated supervisory principal; and
        •   periodically reviewing the heightened supervision plan to assess its effectiveness.

        In addition to these minimum provisions, FINRA has seen, among other things, effective heightened supervision plans that provide for:

        •   heightened supervision of the associated person's business activities, including customer-related activities, employee personal trading accounts, outside business activities and private securities transactions;
        •   proximity of the supervisor to the associated person;
        •   more frequent contact between the supervisor and the associated person;
        •   more frequent review of the associated person's communications, particularly with customers;
        •   more frequent monitoring or inspection of the associated person's office(s); and
        •   expediting the handling of customer complaints related to the associated person.

        A member firm's supervisory system is critical to protecting investors and market integrity, particularly where persons associated with the firm have a history of industry or regulatory-related incidents. It is essential that firms monitor the regulatory histories of their associated persons and establish additional measures to supervise the activities of those individuals with greater potential of creating customer harm. The implementation of heightened supervision does not diminish the importance of a member firm's overall supervisory obligations. Member firms must continue to have supervisory systems reasonably designed to ensure compliance with applicable securities laws and FINRA rules for each type of business conducted by the firm and its associated persons.


        1. See Regulatory Notice 18-16 (FINRA Requests Comment on FINRA Rule Amendments Relating to High-Risk Brokers and the Firms that Employ Them) (April 2018). In connection with our on-going efforts to address high-risk brokers, FINRA also will be publishing revised Sanction Guidelines shortly.

        2. See, e.g., Dep't of Enforcement v. J. Alexander Sec., Inc., No. CAF010021, 2004 NASD Discip. LEXIS 16, at *51 (NAC Aug. 16, 2004), aff'd sub nom. Robert J. Prager, Exchange Act Rel. No. 51974, 2005 SEC LEXIS 1558 (July 6, 2005); Signal Sec., Inc., Exchange Act Rel. No. 43350, 2000 SEC LEXIS 2030, at *17 (Sept. 26, 2000); James Harvey Thornton, 53 S.E.C. 1210, 1216 (1999); Consolidated Inv. Serv., Inc., 52 S.E.C. 582, 588-89 (1996); Notice to Members 97-19 (April 1997); Notice to Members 98-39 (May 1998).

        3. See Notice to Members 97-19 (stating that a member firm with a registered representative who develops a history of customer complaints, final disciplinary actions involving sales practice abuse or other customer harm, or adverse arbitration decisions should consider developing special supervisory procedures for that registered representative); and Notice to Members 98-39 (indicating that unexpected supervisory visits to offices with personnel who have disciplinary records may be appropriate). See also, Robert W. Cook, President and CEO, FINRA, Address at the McDonough School of Business, Georgetown University: Protecting Investors From Bad Actors (June 12, 2017), available at www.finra. org/newsroom/speeches/061217-protectinginvestors-bad-actors; and FINRA 2018 Regulatory and Examination Priorities Letter (January 8, 2018), available at www.finra.org/industry/2018- regulatory-and-examination-priorities-letter.

        4. See FINRA Rule 3110(e), which requires a firm to ascertain by investigation the good character, business reputation, qualifications and experience of an applicant before it registers that applicant with FINRA. Firms are advised to consider all available information gathered in the pre-registration process for this purpose, including Form U4 and U5 responses, searches of the CRD system, fingerprint results, private background checks and communications with previous employers. In addition, FINRA strengthened the background check obligations of firms by requiring firms to adopt written procedures reasonably designed to verify the accuracy of completeness of the information contained in the applicant's Form U4. See also Notice to Members 97-19.

        5. FINRA also requires heightened supervision in some cases when a firm hires numerous individuals from a disciplined firm. In such cases, a firm can become a "taping firm," and be required to tape record all of its registered persons' phone calls with investors. See FINRA Rule 3170 (Tape Recording of Registered Person by Certain Firms).

        6. See the Uniform Application for Securities Industry Registration or Transfer (Form U4), the Uniform Termination Notice for Securities Industry Registration (Form U5) and the Uniform Disciplinary Action Reporting Form (Form U6).

        7. See Regulatory Notice 18-16 (April 2018), in which FINRA is seeking, among other things, comment on proposals to require mandatory heightened supervision in the two instances described.

        8. Events triggering statutory disqualification include, for example, certain enumerated misdemeanor and all felony criminal convictions for a period of ten years from the date of conviction; temporary and permanent injunctions (regardless of their age) involving a broad range of unlawful investment activities; bars (and current suspensions) ordered by the SEC or a self-regulatory organization (SRO); and findings that a person willfully has made or caused to be made false statements of a material fact to an SRO. See Sections 3(a)(39) and 15(b)(4) (A) of the Exchange Act; FINRA By-Laws Article III, Section 4. Persons who are or become subject to a statutory disqualification may seek to enter, reenter, or in the case of incumbents, continue in the securities industry.

        9. See FINRA Rule 9311(b).

      • 18-14 FINRA Requests Comment on the Effectiveness and Efficiency of Its Rule on the Annual Compliance Meeting; Comment Period Expires: June 25, 2018

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        Regulatory Notice
        Notice Type

        Request for Comment
        Referenced Rules & Notices

        FINRA Rule 3110
        NTM 99-45
        NTM 05-44
        Suggested Routing

        Compliance
        Continuing Education
        Legal
        Operations
        Registered Representatives
        Registration
        Senior Management
        Training
        Key Topics

        Annual Compliance Meeting

        Retrospective Rule Review

        Summary

        FINRA is conducting a retrospective review of Rule 3110 (Supervision), governing annual compliance meetings to assess its effectiveness and efficiency. This Notice outlines the general retrospective rule review process and seeks responses to several questions related to firms' experiences with this specific rule.

        Questions regarding this Notice should be directed to:

        •    Kosha Dalal, Associate Vice President and Associate General Counsel, Office of General Counsel (OGC), at (202) 728-6903 or Kosha.Dalal@finra.org;
        •    Sarah Kwak, Assistant General Counsel, OGC, at (202) 728-8471 or Sarah.Kwak@finra.org; or
        •    Lori Walsh, Deputy Chief Economist, Office of the Chief Economist, at (202) 728-8323 or Lori.Walsh@finra.org.

        Action Requested

        FINRA encourages all interested parties to comment. Comments must be received by June 25, 2018.

        Comments must be submitted through one of the following methods:

        •    Emailing comments to pubcom@finra.org; or
        •    Mailing comments in hard copy to:

        Jennifer Piorko Mitchell
        Office of the Corporate Secretary
        FINRA
        1735 K Street, NW
        Washington, DC 20006-1506

        To help FINRA process comments more efficiently, persons should use only one method to comment.

        Important Notes: All comments received in response to this Notice will be made available to the public on the FINRA website. In general, FINRA will post comments as they are received.1

        Background & Discussion

        FINRA believes that it is appropriate, after a reasonable period of time, to look back at its significant rulemaking to determine whether a FINRA rule or rule set2 is meeting its intended investor-protection objectives by reasonably efficient means. FINRA further believes that a retrospective review should include a review not only of the substance and application of a rule or rule set, but also FINRA's processes to administer the rules. FINRA intends to select relevant rules and to conduct retrospective rule reviews on an ongoing basis to ensure that its rules remain relevant and appropriately designed to achieve their objectives, particularly in light of environmental, industry and market changes.

        In conducting the review, FINRA staff will follow a similar process to previous retrospective rule reviews. In general, the review process consists of an assessment and action phase. During the assessment phase, FINRA will evaluate the efficacy and efficiency of the rule or rule set as currently implemented, including FINRA's internal administrative processes. FINRA will seek input from affected parties and experts, including its advisory committees, subject-matter experts inside and outside of the organization, and other stakeholders, including industry members, investors, interested groups and the public. FINRA staff will assess issues including the existence of duplicative, inconsistent or ineffective regulatory obligations; whether market or other conditions have changed to suggest there are ways to improve the efficiency or effectiveness of a regulatory obligation without loss of investor protections; and potential gaps in the regulatory framework. Upon completion of this assessment, FINRA staff will consider appropriate next steps, which may include some or all of the following: modifications to the rule, updated or additional guidance, administrative changes or technology improvements, or additional research or information gathering.

        The action phase will then follow. To the extent action involves modification of rules, FINRA will separately engage in its usual rulemaking process to propose amendments to the rules based on the findings. This process will include input from FINRA's advisory committees and an opportunity for comment on specific proposed revisions in a Regulatory Notice or rule filing with the SEC, or both.

        Request for Comment

        FINRA has identified Rule 3110(a)(7) and Supplementary Material .04 (Annual Compliance Meeting) for review. Rule 3110(a)(7) requires each registered representative and registered principal to participate, at least once each year, in an interview or meeting at which compliance matters relevant to the particular representative or principal are discussed. Supplementary Material .04 provides that a firm is not required to conduct in-person meetings with each registered person or groups of registered persons to comply with the annual compliance meetings (or interviews) required by Rule 3110(a)(7).3 However, a firm that chooses to conduct compliance meetings using other methods (e.g., on-demand webcast or course, video conference, interactive classroom setting, telephone or other electronic means) must ensure, at a minimum, that each registered person attends the entire meeting. For example, the firm might use an on-demand annual compliance webcast requiring each registered person to use a unique user ID and password to gain access and use a technology platform to track the time spent on the webcast, provide click-as-you-go confirmation and have an attestation of completion at the end of a webcast. The firm also must ensure that registered persons are able to ask questions regarding the presentation and receive answers in a timely fashion. For example, a firm could host an on-demand annual compliance webcast that allows registered persons to ask questions via an email to a presenter or a centralized address or via a telephone hotline and receive timely responses directly or view such responses on the firm's intranet site.

        FINRA seeks answers to the following questions with respect to these rules:

        1. Has the rule effectively addressed the problem(s) it was intended to mitigate? To what extent has the original purposes of and need for the rule been affected by subsequent changes to the markets, the delivery of financial services, the applicable regulatory framework, or other considerations? Are there alternative ways to achieve the goals of the rule that FINRA should consider?
        2. What has been your experience with implementation of the rule, including any ambiguities in the rule or challenges to comply with them?
        3. What have been the economic impacts, including costs and benefits, from conducting compliance meetings? Has the rule furthered the supervision of registered persons, and are the benefits of compliance meetings commensurate with their costs? To what extent do the costs and benefits relate to the business attributes of the firm, such as its size and business model? Has the rule led to any negative unintended consequences?
        4. Are compliance meetings held in-person or by other methods (e.g., on-demand webcast or course, video conference, interactive classroom setting, telephone or other electronic means)? To what extent is the method chosen dependent on the business attributes of the firm? Which methods are the most effective to conduct a compliance meeting?
        5. What are the costs and benefits to conduct compliance meetings either in-person or using other methods (e.g., on-demand webcast or course, video conference, interactive classroom setting, telephone or other electronic means)? Relative to conducting meetings in-person, to what extent do the other methods decrease costs or increase efficiency? When using the other methods to conduct compliance meetings, are firms able to use existing, internal technologies? Is a firm's ability to use existing, internal technologies dependent on the business attributes of the firm?
        6. Can FINRA make the rules, interpretations or attendant administrative processes more efficient and effective? Are there alternatives to the rule that would better communicate compliance obligations to registered persons or would reduce its costs?

        In addition to comments responsive to these questions, FINRA invites comment on any other aspects of the rule that commenters wish to address. FINRA further requests any data or evidence in support of comments. While the purpose of this Notice is to obtain input as to whether or not the current rule is effective and efficient, FINRA also welcomes specific suggestions as to how the rule should be changed. As discussed above, FINRA will separately consider during the action phase specific changes to the rules.


        1. Persons submitting comments are cautioned that FINRA does not redact or edit personal identifying information, such as names or email addresses, from comment submissions. Persons should submit only information that they wish to make publicly available. See Notice to Members 03-73 (November 2003) (Online Availability of Comments) for more information.

        2. A rule set is a group of rules identified by FINRA staff to contain a similar subject, characteristics or objectives.

        3. See Rule Rule 3110.04 (Annual Compliance Meeting); see also Notices to Members 99-45 (June 1999) and 05-44 (June 2005); see also letter from Afshin Atabaki [http://www.finra.org/industry/interpretive-letters/november-30-2006-1200am], FINRA, to Evan Charkes, Citigroup Global Markets, Inc., dated November 30, 2006 (firms may use on-demand webcast technology to satisfy the annual compliance meeting requirement, subject to specified safeguards and conditions); letter from Afshin Atabaki [http://www.finra.org/industry/interpretive-letters/february-5-2013-1200am], FINRA, to S. Kendrick Dunn, Pacific Select Distributors, Inc., dated February 5, 2013 (firms may use on-demand course without voice narration to satisfy annual compliance meeting requirement, subject to specified safeguards and conditions).

      • 18-13 FINRA Requests Comment on Proposed Amendments to the Quantitative Suitability Obligation Under FINRA Rule 2111; Comment Period Expires: June 19, 2018

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        Regulatory Notice
        Notice Type

        Request for Comment
        Referenced Rules & Notices

        FINRA Rule 2111
        Notice to Members 01-23
        Regulatory Notice 11-02
        Regulatory Notice 11-25
        Regulatory Notice 12-25
        Suggested Routing

        Compliance
        Legal
        Operations
        Registered Representatives
        Senior Management
        Key Topics

        Excessive Trading
        Quantitative Suitability
        Suitability

        Quantitative Suitability

        Summary

        FINRA seeks comment on proposed rule amendments that would revise the quantitative suitability obligation under FINRA Rule 2111 (Suitability) to more effectively address instances of excessive trading in customers' accounts. The proposed rule amendments would remove the element of control that currently must be proved to demonstrate a violation, but would not change the obligations to prove that the transactions were recommended and that the level of trading was excessive and unsuitable in light of the customer's investment profile.

        The proposed rule text is available in Attachment A.

        Questions regarding this Notice should be directed to:

        •    James S. Wrona, Vice President and Associate General Counsel, Office of General Counsel (OGC), at (202) 728-8270; or
        •    Meredith Cordisco, Associate General Counsel, OGC, at (202) 728-8018.

        Action Requested

        FINRA encourages all interested parties to comment on the proposal. Comments must be received by June 19, 2018.

        Comments must be submitted through one of the following methods:

        •    Emailing comments to pubcom@finra.org; or
        •    Mailing comments in hard copy to:
        Jennifer Piorko Mitchell
        Office of the Corporate Secretary
        FINRA
        1735 K Street, NW
        Washington, DC 20006-1506

        To help FINRA process comments more efficiently, persons should use only one method to comment on the proposal.

        Important Notes: All comments received in response to this Notice will be made available to the public on the FINRA website. In general, FINRA will post comments as they are received.1

        Before becoming effective, the proposed rule change must be filed with the Securities and Exchange Commission (SEC) pursuant to Section 19(b) of the Securities Exchange Act of 1934 (SEA or Exchange Act).2

        Background & Discussion

        In 2010, when FINRA amended its longstanding suitability rule, it codified the line of cases on excessive trading (sometimes referred to as "churning") as the rule's quantitative suitability obligation.3 Consistent with the case law, FINRA's quantitative suitability obligation requires a broker who has control over a customer's account to have a reasonable basis for believing that a series of transactions the broker recommends is not excessive and unsuitable for the customer, even if the individual transactions are suitable when viewed in isolation. However, if a broker does not control a customer's account, the quantitative suitability obligation does not apply when the broker recommends a series of transactions, even if that series of transactions is excessive and unsuitable for the customer. FINRA has reconsidered the appropriateness of the control element in light of its experience with the rule, the other requirements of the rule and, more recently, the SEC's proposed Regulation Best Interest (Regulation BI).4 FINRA seeks comment on its proposal to amend Supplementary Material .05(c) of Rule 2111 to remove the control element from the quantitative suitability obligation.

        A. Actual or De Facto Control Under Quantitative Suitability

        Under the quantitative suitability obligation, control can be actual or de facto. In general, actual control exists when a broker has formal discretionary authority over a customer's account.5 A showing of de facto control over a customer's account depends on whether the customer routinely follows the broker's advice because the customer is unable to evaluate the broker's recommendations and exercise independent judgment.6 In practice, however, these assessments can be difficult to make and they place a heavy and unnecessary burden on customers by, in effect, asking them to admit that they lack sophistication or the ability to evaluate a broker's recommendations. This is true even where it is otherwise clear that the broker recommended the transactions and that they were excessive and unsuitable. FINRA is concerned that the control element serves as an impediment to investor protection and an unwarranted defense to unscrupulous brokers.

        B. Proposed Amendments

        The proposed amendments would remove the phrase "who has actual or de facto control over a customer account" from the quantitative suitability obligation under Supplementary Material .05(c) of Rule 2111. The original basis for requiring the control element is unnecessary under the suitability rule. The inclusion of the control element has its historic roots, in part, in the perceived need to ensure that the culpability for excessive trading rested with the party responsible for initiating the transactions in actions brought pursuant to the antifraud provisions of the federal securities laws.7 That concern is not present under FINRA's suitability rule. Because FINRA must show that the broker recommended the transactions in order to prove a Rule 2111 violation, culpability for excessive trading will still rest with the appropriate party even absent the control element.8 Moreover, the existence of the control element may impede investor protection by acting as an unintended shield for unscrupulous brokers engaged in excessive trading. Indeed, as the SEC noted in proposing Regulation BI, "the fact that a customer may have some knowledge of financial markets or some 'control' should not absolve the broker-dealer of its ultimate responsibility to have a reasonable basis for any recommendations that it makes."9

        Finally, the proposed rule would continue to require FINRA to prove that the series of recommended transactions was excessive and unsuitable, and the proposed amendments would not affect the extensive case law concerning whether trading activity is excessive. Whether trading activity in a customer's account is excessive would still depend on the facts and circumstances of a particular case and would continue to be assessed in light of the customer's investment profile.10 Although no single test defines excessive activity, factors such as turnover rate,11 cost-to-equity ratio12 or the use of in-and-out trading13 may provide a basis for a finding of excessive trading.14 A turnover rate of six or a cost-toequity ratio above 20 percent generally is indicative of excessive trading.15 However, lower ratios have supported findings of excessive trading for customers with very conservative investment objectives,16 while somewhat higher ratios have not supported findings of excessive trading for some customers with highly speculative investment objectives and the financial resources to withstand potential losses.17 In addition to these ratios, a pattern of in-and-out trading in relatively short periods of time is a "hallmark" of excessive trading, which, by itself, can provide a basis for finding excessive trading.18

        Economic Impact Assessment

        A. Economic Baseline

        The economic impact of the proposed rule is dependent on the effects of removing the control element from the quantitative suitability obligation. The control element in the current rule makes it difficult to enforce the quantitative suitability obligation, even where the excessiveness of the trading and the broker's responsibility for the recommendations are clear. As a result, brokers may be able to recommend excessive levels of trading to their customers but avoid disciplinary actions for violating the quantitative suitability obligation because of the difficulty in assessing and proving de facto control over their customers' accounts.

        B. Economic Impact

        The proposed amendment to Rule 2111 would promote investor protection. Removing the control element from the quantitative suitability obligation would likely increase FINRA's ability to hold brokers responsible for recommendations resulting in excessive trading and serve as a deterrent to possible future misconduct.

        As a general proposition, a potential impact of reducing the threshold for establishing a violation of any rule may be that it increases the probability of establishing a violation in the presence of less evidence. However, FINRA does not believe the removal of the control element would lead to disciplinary actions against brokers for excessive trading when the brokers are not responsible for initiating the transactions. In the absence of the control element, FINRA's suitability rule will continue to require FINRA to prove that the broker recommended the transactions and that the transactions were excessive and unsuitable in light of the customer's investment profile. These elements ensure that the culpability for excessive trading continues to rest with the appropriate party. The control element is an unnecessary layer of proof regarding the identity of the responsible party (i.e., the party initiating the transactions) and does not in any way touch on the proof needed to establish the underlying, substantive misconduct (i.e., the excessive trading activity inconsistent with the customer's investment profile).

        FINRA believes, moreover, that the proposed change would impose minimal, if any, additional compliance burdens on members because FINRA understands that firms already routinely perform compliance reviews for excessive trading activity without consideration of whether a broker controls the account. The primary cost may be that member firms would need to update written supervisory procedures.

        Request for Comment

        FINRA requests comment on all aspects of the proposal. FINRA requests that commenters provide empirical data or other factual support for their comments wherever possible. FINRA specifically requests comment concerning the following questions:

        1. How does your firm currently monitor for potentially excessive trading in customer accounts? Does your firm consider whether brokers have de facto control over customers' accounts when monitoring for potential excessive trading? If so, how does your firm conduct such monitoring?
        2. The proposal would remove the element of control from the quantitative suitability obligation. Would the requirement to prove that the transactions were recommended continue to ensure that the culpability for excessive trading rests with the appropriate party?
        3. Are there alternative ways to address excessive trading that should be considered? If so, what are the alternative approaches that FINRA should consider?
        4. Are there any material economic impacts, including costs and benefits, to investors, brokers and firms that could result from implementation of the proposed amendments?

        1. Persons submitting comments are cautioned that FINRA does not redact or edit personal identifying information, such as names or email addresses, from comment submissions. Persons should submit only information that they wish to make publicly available. See Notice to Members 03-73 (Online Availability of Comments) (November 2003) for more information.

        2. See SEA Section 19 and rules thereunder. After a proposed rule change is filed with the SEC, the proposed rule change generally is published for public comment in the Federal Register. Certain limited types of proposed rule changes take effect upon filing with the SEC. See SEA Section 19(b)(3) and SEA Rule 19b-4.

        3. See Regulatory Notice 12-25, at 14 (May 2012). Although the terms "churning" and "excessive trading" are often used interchangeably, churning requires scienter in order to prove a fraud, whereas "excessive trading," now known as quantitative suitability, does not. See David A. Roche, 53 S.E.C. 16, 22 (1997).

        4. On April 18, 2018, the SEC proposed Regulation Best Interest, which would create a new rule under the Exchange Act and establish a "best interest" standard of conduct for brokerdealers and associated persons when making a recommendation of any securities transaction or investment strategy involving securities to a retail customer. See Regulation Best Interest, Exchange Act Release No. 83062 (Apr. 18, 2018) (Regulation BI Proposing Release). One element of the multi-pronged approach proposed by the SEC would incorporate and go beyond existing suitability obligations under the federal securities laws and FINRA Rule 2111. Id. at 10. In incorporating a prohibition on excessive trading, the SEC expressly excluded the "control" element currently present in FINRA's quantitative suitability rule, noting that the SEC proposed requirement would apply irrespective of whether a broker-dealer exercises actual or de facto control over a customer's account. Id. at 150. As a result, in order to satisfy the best interest standard, the SEC proposal would require that a broker-dealer or associated person exercise reasonable diligence, care, skill, and prudence to, among other things, have a reasonable basis to believe that a series of recommended transactions, even if in the retail customer's best interest when viewed in isolation, is not excessive and is in the retail customer's best interest when taken together in light of the retail customer's investment profile. Id. at 133. The SEC's decision to eliminate the "control" element from its proposal is consistent with FINRA's proposed amendment to the quantitative suitability obligation described herein. FINRA notes, as well, that it will consider the potential impact of Regulation BI, if adopted, on FINRA's suitability rule more generally.

        5. See Peter C. Bucchieri, 52 S.E.C. 800, 805 n.11 (1996). Where a broker exercises discretion over an account or engages in unauthorized trading, he or she is viewed as having implicitly recommended the transactions. See Dep't of Enforcement v. Murphy, No. 2005003610701, 2011 FINRA Discip. LEXIS 42, *42 n.33 (NAC Oct. 20, 2011) ("Any violation of the suitability rule also requires proof that there was a 'recommendation.' When a broker exercises discretion to make trades or engages in unauthorized trading, . . . such trades are considered to be implicitly recommended for purposes of the suitability rule.").

        6. See Harry Gliksman, 54 S.E.C. 471, 475 (1999).

        7. See E.H. Rollins & Sons, Inc., 18 S.E.C. 347, 380 (1945) (stating that a broker "cannot be held guilty of overtrading in an account where transactions are initiated by the customer" and that, with regard to excessive trading liability under the antifraud provisions of the Exchange Act, the question is whether the broker occupied "such a status with respect to the customer that he may be held responsible for excessive trading in such customer's account").

        8. Although FINRA has not defined "recommendation," FINRA has provided several guiding principles through past Notices that are relevant to the analysis. See, e.g., Regulatory Notice 12-25; Regulatory Notice 11-02 (January 2011); Regulatory Notice 01-23 (April 2001). These guiding principles remain applicable for the determination of a recommendation under the proposed amendments to the quantitative suitability obligation.

        9. Regulation BI Proposing Release, supra note 4, at 155.

        10. See Richard G. Cody, Exchange Act Release No. 64565, 2011 SEC LEXIS 1862, at *40-41 (May 27, 2011), aff'd sub. nom., Cody v. SEC, 693 F.3d 251 (1st Cir. 2012).

        11. Turnover rate is calculated by "dividing the aggregate amount of purchases in an account by the average monthly investment. The average monthly investment is the cumulative total of the net investment in the account at the end of each month, exclusive of loans, divided by the number of months under consideration." Rafael Pinchas, 54 S.E.C. 331, 339-40 n.14 (1999).

        12. The cost-to-equity ratio represents "the percentage of return on the customer's average net equity needed to pay broker-dealer commissions and other expenses." Id. at 340.

        13. In-and-out trading refers to the "sale of all or part of a customer's portfolio, with the money reinvested in other securities, followed by the sale of the newly acquired securities." Costello v. Oppenheimer & Co., 711 F.2d 1361, 1369 n.9 (7th Cir. 1983).

        14. See Dep't of Enforcement v. Medeck, No. E9B2003033701, 2009 FINRA Discip. LEXIS 7, *34 (NAC July 30, 2009).

        15. See Howard, 55 S.E.C. at 1100-01 ("While there is no definitive turnover rate or cost-to-equity ratio that establishes excessive trading, a turnover rate of 6 or a cost-to-equity ratio in excess of 20% generally indicates that excessive trading has occurred."); Pinchas, 54 S.E.C. at 340 (recognizing that "a cost-to-equity ratio in excess of 20% indicates excessive trading"); Mihara v. Dean Witter & Co., 619 F.2d 814, 821 (9th Cir. 1980) (recognizing that "an annual turnover rate of six reflects excessive trading"); Arceneaux v. Merrill Lynch, Pierce, Fenner & Smith, 767 F.2d 1498, 1502 (11th Cir. 1985) (same); Craighead v. E.F. Hutton & Co., 899 F.2d 485, 490 (6th Cir. 1990) (same).

        16. Turnover rates between three and six may trigger liability for excessive trading, depending on the facts and circumstances. See Cody, 2011 SEC LEXIS 1862, at *51 (finding turnover rate of 3.21 to be excessive given customers' conservative investment objectives); Dep't of Enforcement v. Stein, No. C07000003, 2001 NASD Discip. LEXIS 38, at *17 (NAC Dec. 3, 2001) ("Turnover rates between three and five have triggered liability for excessive trading"), aff'd sub. nom., Jack H. Stein, 56 S.E.C. 108 (2003). Even turnover rates below three may provide a basis for finding excessive trading. See Sandra K. Simpson, 55 S.E.C. 766, 794 (2002) (finding turnover rate as low as 2.10 provided support that trading was excessive for customers with conservative investment objectives); Jenny v. Shearson, Hammill & Co., 1978 U.S. Dist. LEXIS 15077, at *6 (S.D.N.Y. Oct. 6, 1978) (refusing to hold, as a matter of law, that a turnover rate of 1.84 cannot be excessive for any account). In addition, cost-to-equity ratios as low as 8.7 percent have been considered indicative of excessive trading and ratios above 12 percent generally are viewed as strong evidence of excessive trading. See Cody, 2011 SEC LEXIS 1862, at *49 and *55 (finding cost-to-equity ratio of 8.7 percent excessive); Thomas F. Bandyk, Exchange Act Release No. 35415, 1995 SEC LEXIS 481, at *2–3 (Feb. 24, 1995) (finding cost-to-equity ratios ranging between 12.1 percent and 18 percent excessive).

        17. See DBCC v. Zandford, No. WA-530, 1989 NASD Discip. LEXIS 39, *21 (DBCC June 7, 1989) (finding that a turnover rate of 9.6 was not excessive under the unique facts of the case, including that the customers had highly speculative investment objectives and financial resources such that they could withstand potential losses).

        18. See Howard, 55 S.E.C. at 1100-01; Pinchas, 54 S.E.C. at 339.


        Attachment A

        Below is the text of the proposed rule change. Proposed new language is underlined; proposed deletions are in brackets

        * * * * *

        2000. DUTIES AND CONFLICTS

        * * * * *

        2100. TRANSACTIONS WITH CUSTOMERS

        * * * * *

        2110. Recommendations

        * * * * *

        2111. Suitability
        (a) through (b) No Change.

        • • • Supplementary Material: ------------------

        .01 through .04 No Change
        .05 Components of Suitability Obligations. Rule 2111 is composed of three main obligations: reasonable-basis suitability, customer-specific suitability, and quantitative suitability.
        (a) through (b) No Change.
        (c) Quantitative suitability requires a member or associated person [who has actual or de facto control over a customer account] to have a reasonable basis for believing that a series of [recommended] transactions the member or associated person recommended to the customer account, even if suitable when viewed in isolation, are not excessive and unsuitable for the customer when taken together in light of the customer's investment profile, as delineated in Rule 2111(a). No single test defines excessive activity, but factors such as the turnover rate, the cost-equity ratio, and the use of in-and-out trading in a customer's account may provide a basis for a finding that a member or associated person has violated the quantitative suitability obligation.
        .06 through .07 No Change.

      • 18-12 2018 GASB Accounting Support Fee to Fund the Governmental Accounting Standards Board

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        GASB Accounting Support Fee

        Regulatory Notice
        Notice Type

        Guidance
        Referenced Rules & Notices

        Dodd-Frank Act Section 978
        FINRA By-Laws, Schedule A
        Regulatory Notice 12-15
        Regulatory Notice 13-17
        Regulatory Notice 14-17
        Regulatory Notice 15-12
        Regulatory Notice 16-16
        Regulatory Notice 17-10
        Securities Act Section 19(g)
        Suggested Routing

        Compliance
        Government Securities
        Institutional
        Legal
        Municipal
        Operations
        Senior Management
        Systems
        Trading
        Key Topics

        Financial Accounting Foundation
        GASB Accounting Support Fee
        Governmental Accounting Standards Board
        Municipal Securities Transactions

        Summary

        In February 2012, pursuant to an SEC order, FINRA established an accounting support fee (GASB Accounting Support Fee) to adequately fund the annual budget of the Governmental Accounting Standards Board (GASB). The GASB Accounting Support Fee is collected on a quarterly basis from member firms that report trades to the Municipal Securities Rulemaking Board (MSRB). Each member firm's assessment is based on the member firm's portion of the total par value of municipal securities transactions reported by all FINRA member firms to the MSRB during the previous quarter. FINRA will assess and collect a total of $8,346,300 to adequately fund the GASB's annual budget by collecting $2,086,575 from its member firms each calendar quarter beginning in April 2018.

        Questions regarding this Notice should be directed to:

        •    Finance Department at (240) 386-5910; or
        •    Office of General Counsel at (202) 728-8071.

        Background & Discussion

        Pursuant to Section 14 of Schedule A to FINRA's By-Laws, which was adopted in response to the SEC's 2011 order under Section 19(g) of the Securities Act of 1933 (Securities Act),1 FINRA assesses a reasonable annual accounting support fee to adequately fund the annual budget of the GASB.2 The GASB Accounting Support Fee is assessed on a quarterly basis and is based on member firms' municipal securities trading volume reported to the MSRB during the previous calendar quarter. Each quarter, FINRA collects one-fourth of the annual GASB Accounting Support Fee from its members. A member firm's quarterly assessment reflects its portion of the total par value of municipal securities transactions reported to the MSRB by all FINRA members in the previous calendar quarter. To exclude firms with de minimis transactions in municipal securities in a given quarter from being assessed the fee, members with a quarterly assessment of less than $25 are not charged the fee for that quarter, and any amounts originally assessed to those firms are reallocated among the firms with an assessment that quarter of $25 or more. Firms that do not engage in reportable municipal securities transactions during a particular calendar quarter are not subject to the GASB Accounting Support Fee for that quarter.

        For 2018, GASB's annual budget expenses of $10,080,700 will be partially funded from $1,734,400 of excess reserves of the Financial Accounting Foundation. As a result, the recoverable annual budgeted expense for purposes of the GASB Accounting Support Fee is $8,346,300;3 therefore, FINRA will collect $2,086,575 from its members each quarter beginning in April 2018.4

        Because some firms may seek to pass the GASB Accounting Support Fee onto customers engaged in municipal securities transactions, FINRA will continue to provide firms with an estimated fee rate (per $1,000 par value) based on the GASB recoverable annual budgeted expenses reported to FINRA for that year and historical municipal security trade reporting volumes so that firms will have a basis on which to establish a fee. Based on reported municipal trading activity by FINRA member firms in 2017 and the 2018 GASB budget, FINRA estimates that the GASB Accounting Support Fee for 2018 will be between $0.0024 and $0.0030 per $1,000 par value. Member firms are reminded that, if they choose to pass along the fee, they must ensure that any such fees are properly disclosed, including, if applicable, the fact that the fee is an estimate and that the firm ultimately may pay more or less than the fee charged to the customer. In addition, any disclosure used by a member firm cannot be misleading and must conform to FINRA rules, including just and equitable principles of trade, as well as any applicable MSRB rules.


        1. Securities Exchange Act Release No. 64462 (May 11, 2011), 76 FR 28247 (May 16, 2011). Section 19(g) of the Securities Act, as added by Section 978 of the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank Act), gave the SEC the authority to require a national securities association to establish a reasonable annual accounting support fee to adequately fund the annual budget of the GASB and to draft the rules and procedures necessary to equitably assess the fee on the association's members. See 15 U.S.C. 77s(g); Dodd-Frank Wall Street Reform and Consumer Protection Act, Pub. L. No. 111-203, 124 Stat. 1376 (2010).

        2. See Securities Exchange Act Release No. 66454 (February 23, 2012), 77 FR 12340 (February 29, 2012); see also Regulatory Notice 17-10 (March 2017); Regulatory Notice 16-16 (May 2016); Regulatory Notice 15-12 (April 2015); Regulatory Notice 14-17 (April 2014); Regulatory Notice 13-17 (April 2013); Regulatory Notice 12-15 (February 2012). In accordance with Section 19(g) (5)(B) of the Securities Act, collection of the GASB Accounting Support Fee shall not be construed to provide the SEC or FINRA direct or indirect oversight of the budget or technical agenda of the GASB or to affect the setting of generally accepted accounting principles by the GASB. See 15 U.S.C. 77s(g)(5)(B).

        3. For purposes of the GASB Accounting Support Fee, the annual budget of the GASB is the annual budget reviewed and approved according to the internal procedures of the Financial Accounting Foundation (FAF). See 15 U.S.C. 77s(g)(2). GASB's 2018 budget includes an administrative fee to FINRA of $30,000 that is intended to cover FINRA's costs associated with calculating, assessing, and collecting the GASB Accounting Support Fee. The amount of the administrative fee is reviewed and evaluated each year by FINRA and the FAF in light of FINRA's experience in assessing and collecting the GASB Accounting Support Fee and the actual costs incurred by FINRA.

        4. The invoice firms received in January 2018 covers the fourth quarter of GASB's 2017 budget and is based on the amounts set forth in Regulatory Notice 17-10. As required by Section 19(g) of the Securities Act, any GASB Accounting Support Fees collected by FINRA are remitted to the FAF and used to support the efforts of the GASB to establish standards of financial accounting and reporting applicable to state and local governments. See 15 U.S.C. 77s(g)(1), (3). Section 19(g)(4) of the Securities Act prohibits FINRA from collecting GASB Accounting Support Fees for a fiscal year in excess of GASB's recoverable annual budgeted expenses. See 15 U.S.C. 77s(g)(4).

      • 18-11 FINRA Cautions Members Regarding Recommending and Entering Unpriced Customer Orders at and Around the Opening on the First Day of Trading of a Direct Listing

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        Regulatory Notice
        Notice Type

        Guidance

        Suggested Routing

        Compliance
        Internal Audit
        Legal
        Operations
        Risk
        Senior Management
        Systems
        Trading
        Training
        Key Topics

        Direct Listing
        Limit Orders
        Market Orders

        Unpriced Customer Orders

        Summary

        FINRA advises firms to exercise caution in recommending and entering unpriced customer orders at and around the opening on the first day of trading of a direct listing of a security. FINRA is concerned that, without the use of a limit price, customers may receive executions at prices that are not in line with their expectations and ultimate investment decision. FINRA encourages firms to consider the appropriateness of using and recommending (and discussing with customers the benefits of using) priced, limit orders at and around the opening on the first day of trading of a direct listing.

        Questions regarding this Notice should be directed to:

        •   Patrick Geraghty, Vice President, Market Regulation, at (240) 386-4973 or by email at patrick.geraghty@finra.org; or
        •   Racquel Russell, Associate General Counsel, Office of General Counsel, at (202) 728-8363 or by email at racquel.russell@finra.org.

        Discussion

        Exchange rules may permit the direct initial listing of shares by an issuer where such listing is not accompanied by a concurrent underwritten offering (sometimes called a "direct listing").1 In such circumstances, a public market has not yet been established for the security and a prior public market price does not exist.

        In the absence of an established trading history for a security, even where volatility is not anticipated or present, the potential exists for substantial variance in the opening price of a direct listing and in the subsequent prices at which trading on the secondary market occurs on the first day of trading. As a result, investors who place unpriced orders, such as market orders,2 for a direct listing may find their orders filled at prices beyond their reasonable expectations.

        For these reasons, FINRA is advising firms to exercise caution when recommending or entering unpriced customer orders at and around the opening on the first day of trading of a direct listing of a security. FINRA encourages firms to consider the appropriateness of using and recommending priced, customer limit orders at and around the opening on the first day of trading of a direct listing.3 Firms should consider the benefits of using limit orders, including that a limit price can be used as a tool for managing market risk and achieving a desired target price rather than obtaining an immediate execution irrespective of price. Similarly, firms should consider discussing the use of limit orders with customers that intend to enter orders at and around the opening on the first day of trading of a direct listing.4


        1. See e.g., Securities Exchange Act Release No. 80933 (June 15, 2017), 82 FR 28200 (June 20, 2017); Securities Exchange Act Release No. 82627 (February 2, 2018), 83 FR 5650 (February 8, 2018).

        2. A "market order" generally is an order for immediate execution to buy or sell at the best price obtainable in the market during normal trading hours.

        3. A "limit order" generally is an order to buy or sell a security at or better than a specified price (i.e., "limit price").

        4. See FINRA Investor Alert, Understanding Order Types Can Save Time and Money [http://www.finra.org/investors/alerts/understanding-order-types-can-save-time-and-money].

      • 18-10 FINRA Requests Comment on the Effectiveness and Efficiency of Its Carrying Agreements Rule; Comment Period Expires: June 22, 2018.

        Regulatory Notice
        Notice Type

        Request for Comment
        Referenced Rules & Notices

        FINRA Rule 4311
        Regulatory Notice 11–26
        SEA Rule 15c3–3
        Suggested Routing

        Compliance
        Legal
        Operations
        Regulatory Reporting
        Senior Management
        Key Topics

        Capital Compliance
        Carrying Agreements
        Financial Responsibility
        Operational Rules

        Retrospective Rule Review

        Summary

        FINRA is conducting a retrospective review of the rule governing carrying agreements to assess its effectiveness and efficiency. This Notice outlines the general retrospective rule review process and seeks responses to several questions related to firms' experiences with this specific rule.

        Questions regarding this Notice should be directed to:

        •    Kris Dailey, Vice President, Risk Oversight & Operational Regulation (ROOR), at (646) 315-8434 or Kris.Dailey@finra.org; or
        •    Adam Arkel, Associate General Counsel, Office of General Counsel, at (202) 728-6961 or Adam.Arkel@finra.org.

        Action Requested

        FINRA encourages all interested parties to comment on the proposal. Comments must be received by May 23, 2018.

        Comments must be submitted through one of the following methods:

        •    Emailing comments to pubcom@finra.org; or
        •    Mailing comments in hard copy to:

        Jennifer Piorko Mitchell
        Office of the Corporate Secretary
        FINRA
        1735 K Street, NW
        Washington, DC 20006–1506

        To help FINRA process and review comments more efficiently, persons should use only one method to comment.

        Important Notes: All comments received in response to this Notice will be made available to the public on the FINRA website. In general, FINRA will post comments as they are received.1

        Background & Discussion

        FINRA believes that it is appropriate, after a reasonable period of time, to look back at its significant rulemaking to determine whether a FINRA rule or rule set2 is meeting its intended investor-protection objectives by reasonably efficient means. FINRA further believes that a retrospective review should include a review not only of the substance and application of a rule or rule set, but also FINRA's processes to administer the rules. FINRA intends to select relevant rules and to conduct retrospective rule reviews on an ongoing basis to ensure that its rules remain relevant and appropriately designed to achieve their objectives, particularly in light of environmental, industry and market changes.

        In conducting the review, FINRA staff will follow a similar process to previous retrospective rule reviews. In general, the review process consists of an assessment and action phase. During the assessment phase, FINRA will evaluate the efficacy and efficiency of the rule or rule set as currently implemented, including FINRA's internal administrative processes. FINRA will seek input from affected parties and experts, including its advisory committees, subject-matter experts inside and outside of the organization, and other stakeholders, including industry members, investors, interested groups and the public. FINRA staff will assess issues including the existence of duplicative, inconsistent or ineffective regulatory obligations; whether market or other conditions have changed to suggest there are ways to improve the efficiency or effectiveness of a regulatory obligation without loss of investor protections; and potential gaps in the regulatory framework. Upon completion of this assessment, FINRA staff will consider appropriate next steps, which may include some or all of the following: modifications to the rule, updated or additional guidance, administrative changes or technology improvements, or additional research or information gathering.

        The action phase will then follow. To the extent action involves modification of rules, FINRA will separately engage in its usual rulemaking process to propose amendments to the rules based on the findings. This process will include input from FINRA's advisory committees and an opportunity for comment on specific proposed revisions in a Regulatory Notice or rule filing with the SEC, or both.

        Request for Comment

        FINRA has identified FINRA Rule 4311 (Carrying Agreements) for review. The rule, which governs requirements applicable to members when entering into agreements for the carrying of customer accounts, was approved by the SEC in 2011 and is the consolidated successor to former NASD Rule 3230, Incorporated NYSE Rule 382 and corresponding interpretations (the predecessor rules).3 Broadly, based on the predecessor rules, current Rule 4311 prohibits a member, unless otherwise permitted by FINRA, from entering into an agreement for the carrying, on an omnibus or fully disclosed basis, of any customer account in which securities transactions can be effected unless the agreement is with a carrying firm that is a FINRA member. Among other things, the rule requires that each carrying agreement must identify and bind every direct and indirect recipient of clearing services as a party to the agreement. The rule also requires that the carrying firm shall submit to FINRA for prior approval any agreement for the carrying of accounts, whether on an omnibus or fully disclosed basis, before such agreement may become effective. The carrying firm is also required to submit to FINRA for prior approval any material changes to an approved carrying agreement before such changes may become effective. Under the rule, each carrying agreement in which accounts are to be carried on a fully disclosed basis must specify the responsibilities of each party to the agreement, including certain responsibilities as set forth in the rule. Further, Rule 4311, like the predecessor rules, allows FINRA members to allocate between themselves responsibility for each of the functions enumerated therein. Allocation between the parties to the agreement can effectively assign responsibility for rule compliance to one (or more, if applicable) of the other parties. Thus, a smaller firm can, for example, maintain relationships with its customers and take responsibility for opening accounts and accepting orders from its customers, while the carrying firm takes responsibility for the extension of credit, the receipt and delivery of funds and securities and safeguarding funds and securities for purposes of SEA Rule 15c3-3, without exposing a firm to potential liability for a function allocated to another firm.

        Additionally, the rule includes requirements that address such areas as notification to be submitted to FINRA when a new introducing firm is added to a carrying agreement; the carrying firm's due diligence with respect to new introducing firm relationships; notification to customers with respect to the existence of the carrying agreement; the furnishing of written customer complaints and specified reports, such as exception reports, to the introducing firm; books and records requirements as to reports requested by and furnished to the introducing firm; and requirements as to maintenance and identification of proprietary and customer accounts.

        FINRA seeks answers to the following questions with respect to this rule:

        1. Is the rule effective in ensuring clear allocation of responsibilities between parties to a carrying agreement? If not, why not? Are there additional responsibilities that the rule should specifically require to be allocated? Are there responsibilities that the rule should not permit to be allocated? Why?
        2. Has the rule served its intended purposes? To what extent have the original purposes of and need for the rule been affected by subsequent changes to the markets, the delivery of financial services, the applicable regulatory framework or other considerations? Are there alternative ways to achieve the goals of the rule that FINRA should consider?
        3. What has been your experience with implementation of the rule, including any ambiguities in the rule or challenges to complying with it?
        4. What has been your experience with FINRA's approval process for carrying agreements and changes to carrying agreements? What modifications to the process, if any, would be appropriate? Why?
        5. The rule sets forth specified requirements with respect to the furnishing of reports by the carrying firm to the introducing firm. Are these requirements effective? What modifications, if any, would be appropriate? Why?
        6. To what extent does the rule impact the availability of clearing services to small firms? How could the rule or FINRA's approval process be changed to help small firms obtain access to clearing consistent with investor protection?
        7. What are the challenges for small firms in coordinating with clearing firms to respond to regulatory inquiries or to assist their customers? How could these challenges be addressed by FINRA consistent with investor protection? Are there uniform templates or formats that could be used to increase the efficiency of such coordination?
        8. With respect to "intermediary" or "piggyback" clearing, does the rule and approval process provide sufficient flexibility and clarity to establish such clearing arrangements? What, if any, changes should be made to the rule and process to accommodate such arrangements consistent with investor protection?
        9. What have been the economic impacts, including costs and benefits, arising from FINRA's rule? Have the economic impacts been in line with expectations described in the rulemaking? To what extent would these economic impacts differ by business attributes, such as size of the firm or differences in business models? Has the rule led to any negative unintended consequences?
        10. Can FINRA make the rule, interpretations or attendant administrative processes more efficient and effective? If so, how?

        In addition to comments responsive to these questions, FINRA invites comment on any other aspects of the rule that commenters wish to address. FINRA further requests any data or evidence in support of comments. While the purpose of this Notice is to obtain input as to whether or not the current rule is effective and efficient, FINRA also welcomes specific suggestions as to how the rule should be changed. As discussed above, FINRA will separately consider during the action phase specific changes to the rule.


        1. Persons submitting comments are cautioned that FINRA does not redact or edit personal identifying information, such as names or email addresses, from comment submissions. Persons should submit only information that they wish to make publicly available. See Notice to Members 03-73 (November 2003) (Online Availability of Comments) for more information.

        2. A rule set is a group of rules identified by FINRA staff to contain a similar subject, characteristics or objectives.

        3. See Securities Exchange Act Release No. 63999 (March 1, 2011), 76 FR 12380 (March 7, 2011) (Order Granting Approval to Proposed Rule Change; File No. SR-FINRA-2010-061); see also Regulatory Notice 11-26 (May 2011) (announcing the SEC's approval of FINRA Rule 4311, among other consolidated financial responsibility and related operational rules).

        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. 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 3/12/08 (Rulebook Consolidation Process).

      • 18-09 FINRA Updates Designation Criteria to Require Firms Reporting U.S. Treasury Securities to TRACE to Participate in FINRA's Business Continuity/Disaster Recovery Testing

        Regulatory Notice
        Notice Type

        Guidance
        Referenced Rules & Notices

        FINRA Rule 4380
        SEC Rule 1001
        SEC Rule 1004
        Regulatory Notice 15-43
        Suggested Routing

        Compliance
        Legal
        Operations
        Systems
        Trading
        Training
        Key Topics

        Business Continuity
        Disaster Recovery Planning
        Regulation SCI
        TRACE
        U.S. Treasury Securities

        Summary

        As required by Regulation Systems Compliance and Integrity (Regulation SCI), FINRA, in 2015, adopted Rule 4380 requiring member firm participation in business continuity and disaster recovery (BC/DR) testing.1 The rule authorizes FINRA to designate firms that must participate in FINRA's annual BC/DR test based on established standards, which FINRA published in Regulatory Notice 15-43. Since FINRA published Notice 15-43, it began collecting transaction reports for U.S. Treasury securities. This Notice updates the criteria in Notice 15-43 to include criteria for designating firms that report a significant volume of transactions in U.S. Treasury securities to TRACE for mandatory BC/DR testing participation.

        Questions regarding this Notice should be directed to:

        •   Ron Miller, Senior Principal Compliance Analyst, Transparency Services, at (212) 858-5178 or ron.miller@finra.org; or
        •   Alex Ellenberg, Associate General Counsel, Office of General Counsel, at (202) 728-8152 or alexander.ellenberg@finra.org.

        Background and Discussion

        Regulation SCI requires that FINRA, as an SCI entity, establish, maintain, and enforce written policies and procedures that address, among other things, "[b]usiness continuity and disaster recovery plans that include maintaining backup and recovery capabilities sufficiently resilient and geographically diverse…."2 In addition, Regulation SCI requires each SCI entity, including FINRA, to designate firms that must participate in the testing of the entity's BC/DR plans.3

        To comply with these Regulation SCI requirements, FINRA, in 2015, adopted Rule 4380, which authorizes FINRA to designate member firms according to established criteria that are designed to ensure participation by those firms that FINRA reasonably determines are, taken as a whole, the minimum necessary for the maintenance of fair and orderly markets in the event of the activation of its BC/DR plan.

        FINRA then published Regulatory Notice 15-43 to establish the criteria that FINRA uses to designate firms under Rule 4380. Consistent with Notice 15-43, FINRA designates firms for mandatory BC/DR test participation that account for significant activity on FINRA's equity trade reporting facilities (the FINRA/NYSE TRF, the FINRA/Nasdaq TRF and ORF), equity order audit trail system (OATS), equity quotation display and trade reporting facility (ADF), unlisted equity quotation display facility (OTCBB) and fixed income trade reporting system (TRACE).

        Since Notice 15-43, FINRA expanded its TRACE system to create a new reporting process for U.S. Treasury securities.4 This Notice updates the criteria from Notice 15-43 to include criteria for designating firms that report a significant volume of transactions in Treasury securities to TRACE for mandatory BC/DR test participation. Specifically:

        •   With respect to TRACE for Treasuries, FINRA will designate participants that account for at least 5 percent or more of the average dollar volume over the six-month period immediately preceding designation, provided that the cumulative dollar volume represented by designated firms amounts to at least 50 percent of all dollar volume in Treasury securities reported to TRACE during the applicable six-month period.

        The criteria contained in Notice 15-43, including the criteria for designating TRACE participants that account for specified activity in corporate and agency debt securities and securitized products, remain otherwise unchanged. The designation process and test-related guidance in Notice 15-43 also remain unchanged. FINRA expects that the designation and test schedule will be similar this year to last year, with designation occurring in April and the test occurring in October.


        1. See Securities Exchange Act Release No. 76360 (November 5, 2015), 80 FR 70043 (November 12, 2015) (Notice of Filing and Immediate Effectiveness of SR-FINRA-2015-046).

        2. SEC Rule 1001(a)(2)(v).

        3. SEC Rule 1004.

        4. See Regulatory Notice 16-39 (October 2016).

      • 18-08 FINRA Requests Comment on Proposed New Rule Governing Outside Business Activities and Private Securities Transactions; Comment Period Expires: April 27, 2018

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        Outside Business Activities

        Regulatory Notice
        Notice Type

        Request for Comment
        Referenced Rules & Notices

        FINRA Rule 2010
        FINRA Rule 3210
        FINRA Rule 3270
        FINRA Rule 3280
        FINRA Rule 5130
        Notice to Members 85-21
        Notice to Members 94-44
        Notice to Members 96-33
        Regulatory Notice 17-20
        Suggested Routing

        Compliance
        Legal
        Operations
        Registered Representatives
        Senior Management
        Systems
        Key Topics

        Outside Business Activities
        Private Securities Transactions
        Recordkeeping
        Supervision

        Comment Period Expires: April 27, 2018

        Summary

        FINRA seeks comment on a proposed new rule to address the outside business activities of registered persons. The proposal is the result of FINRA's recent retrospective review of FINRA's rules governing outside business activities and private securities transactions, FINRA Rule 3270 (Outside Business Activities of Registered Persons) and FINRA Rule 3280 (Private Securities Transactions of an Associated Person), respectively. The proposed rule would replace FINRA Rules 3270 and 3280 and is intended to reduce unnecessary burdens while strengthening investor protections relating to outside activities.

        The proposed rule text is available in Attachment A.

        Questions regarding this Notice should be directed to:

        •   James S. Wrona, Vice President and Associate General Counsel, Office of General Counsel (OGC), at (202) 728-8270; or
        •   Meredith Cordisco, Associate General Counsel, OGC, at (202) 728-8018.

        Action Requested

        FINRA encourages all interested parties to comment on the proposal. Comments must be received by April 27, 2018.

        Comments must be submitted through one of the following methods:

        •   Emailing comments to pubcom@finra.org; or
        •   Mailing comments in hard copy to:

        Jennifer Piorko Mitchell
        Office of the Corporate Secretary
        FINRA
        1735 K Street, NW
        Washington, DC 20006-1506

        To help FINRA process comments more efficiently, persons should use only one method to comment.

        Important Notes: All comments received in response to this Notice will be made available to the public on the FINRA website. In general, FINRA will post comments as they are received.1

        Before becoming effective, the proposed rule change must be filed with the Securities and Exchange Commission (SEC or Commission) pursuant to Section 19(b) of the Securities Exchange Act of 1934 (SEA or Exchange Act).2

        Background & Discussion

        In May 2017, FINRA launched a retrospective review of its outside business activities and private securities transactions rules to assess their effectiveness and efficiency.3 These rules serve important goals—they seek to protect the investing public when a member's registered or associated persons engage in potentially problematic activities that are unknown to the member but could be perceived by the investing public as part of the member's business. An ancillary benefit is that the rules protect the member from resulting reputational and litigation risks.

        The retrospective rule review confirmed the continuing importance of rules relating to outside activities, but also indicated that the current rules, as well as related guidance,4 could benefit from changes to better align the investor protection goals with the current regulatory landscape and business practices.5 In particular, FINRA received significant feedback on members' obligations with respect to the investment advisory (IA) activities of their registered persons, which is addressed in detail below.

        Consistent with a number of recommendations by stakeholders6 during the retrospective review, FINRA is proposing a single streamlined rule to address the outside business activities of registered persons.7 The proposed rule would clarify the obligations in this area and reduce unnecessary burdens while strengthening protections relating to activities that may pose a greater risk to the investing public. The proposed rule would require registered persons to provide their members with prior written notice of a broad range of outside activities, while imposing on members a responsibility to perform a reasonable risk assessment of a narrower set of activities that are investment related, allowing members to focus on outside activities that are most likely to raise investor protection concerns. The proposed rule also would generally exclude from the rule a registered person's personal investments (sometimes referred to as "buying away") and work performed on behalf of a member's affiliates. Moreover, the proposed rule would not impose supervisory and recordkeeping obligations for most other outside activities, including IA activities at an unaffiliated third-party IA. At the same time, the proposal would hold a member responsible for approved activities that could not take place but for the registered person's association with a member.

        The following illustration summarizes core concepts of the proposed rule, which are discussed in greater detail in this Notice.

        Registered Persons' Obligation to Provide Notice of Outside Activities

        A majority of stakeholders that provided feedback during the retrospective review believed that the scope of activities subject to the outside business activities rule, Rule 3270, should be narrowed.8 On the other hand, a significant minority of stakeholders favored the rule's current notice requirement to ensure that registered persons report a broad range of outside activities to their employing firms. Moreover, a number of stakeholders believed that notice of private securities transactions under Rule 3280 should not be narrowed.9 The proposed rule takes a balanced approach that would ensure that members are apprised of their registered persons' outside activities, while tailoring members' responsibilities to those activities that are most likely to raise investor protection concerns.

        To that end, FINRA is proposing a single rule that would require registered persons to provide their firms with prior written notice for all investment-related or other business activities outside the scope of their relationship with the member. The proposed rule would require that a registered person include in the notice a description of the proposed activity and the registered person's proposed role therein, and that the registered person update the notice in the event of a material change to the activity.10 With respect to investment-related activities only, a registered person would be required to receive prior written approval from the member before participating in the activity.

        The rule would define "investment-related" as "pertaining to securities, commodities, banking, insurance, or real estate (including, but not limited to, acting as or being associated with a broker-dealer, issuer, investment company, investment adviser, futures sponsor, bank, or savings association)." This definition is also used for purposes of the Uniform Application for Securities Industry Registration or Transfer (Form U4) and would better harmonize the Form U4 reporting requirements and the notice obligations under FINRA rules, an issue frequently raised during the retrospective review.11 The concept of "business activity" would be similar to current Rule 3270, with minor clarifying changes, and would be defined in the rule as (1) acting as an employee, independent contractor, sole proprietor, officer, director or partner of another person; or (2) receiving compensation, or having the reasonable expectation of compensation, from any other person as a result of the activity.12

        Similar to current Rule 3270, the proposed rule would apply only to the outside activities of registered persons. It would not apply to the activities of members' non-registered associated persons because the risk of potential conflicts is more prevalent with regard to registered persons.13 However, the proposed rule would not preclude members from instituting policies and procedures relating to the outside activities of associated persons more broadly.

        Members' Responsibilities Upon Receiving Notice

        Although the proposed rule would require registered persons to provide prior written notice of a broad range of outside activities, the focus of a member's responsibilities is on investment-related activities.14 If an activity is not investment related, the member has no obligation under the rule. If the activity is investment related, then the member would be required to perform a reasonable risk assessment, as described below.

        Assessment

        Upon receiving written notice of an outside investment-related activity, the proposed rule would require that a member perform an upfront reasonable assessment of the risks created by the engagement of the registered person in the proposed activity. Specifically, the member would be required to evaluate whether the proposed activity will: (1) interfere with or otherwise compromise the registered person's responsibilities to the member's customers; or (2) be viewed by customers or the public as part of the member's business based upon, among other factors, the nature of the proposed activity and the manner in which it will be offered. These considerations are similar to those required by current Rule 3270 and are aimed at assessing possible conflicts that could negatively impact the member's customers or the investing public. Although the risk assessment must be reasonable and will vary depending on the facts and circumstances, the rule's focus is on the registered person's participation in the activity and ordinarily would not require the member to perform an analysis of the underlying outside business activity.15 In addition to this risk assessment, the member would be required to consider whether the person is relying on a member's registration as a broker or dealer to conduct the activity, in which case the activity would be deemed to be that of the member, if approved.16

        Then, based on the foregoing, the member would determine whether to approve the registered person's participation, to approve it subject to conditions or limitations or to disapprove it. The member would be required to advise the registered person in writing of its determination.

        By focusing the member's assessment on investment-related activities, the proposed rule would allow members to concentrate their compliance resources on those activities that may pose a greater chance of harm to investors. Members would no longer be required to conduct a risk assessment on a non-investment-related activity, such as a registered person driving for a car service or holding seasonal retail employment, regardless of whether the registered person receives compensation.17

        Supervision

        The proposed rule would impose a supervisory obligation in two situations. First, if a member imposes conditions or limitations on a registered person's participation in an investment-related activity, the member would be required to reasonably supervise the registered person's compliance with those conditions or limitations. The proposed rule would not require members to supervise the underlying activities. For example, after conducting the required risk assessment of an investment-related activity, a member may approve a registered person to act as a registered investment adviser through an unaffiliated, third-party IA; however, the member also may condition that approval on the IA's custody of its clients' advisory assets with the member. In this example, the proposed rule would require the member to reasonably supervise the registered person's adherence to that condition, but the member would not be required by the rule to otherwise supervise the IA activity.18

        Second, to the extent that a member approves a registered person's participation in a proposed investment-related activity and such activity would require, if not for the person's association with a member, registration as a broker or dealer under the Exchange Act and the person is not so registered, the activity would be deemed to be the member's business. In other words, if the person can only legally engage in the outside business activity because the person is associated with a member, the member approving that activity must treat it as its own. Accordingly, all applicable securities laws and regulations and FINRA rules, including supervision and recordkeeping, would apply to the member with respect to that activity. This provision serves a critical investor protection interest and requires the member's supervision over the types of activities that the private securities transactions rule was originally adopted to address.19 It would ensure that a registered person's outside broker-dealer activity—for example, selling private placements away from the member in a manner that would require broker-dealer registration—would be reported to the member and that such activity, if approved, would be under the supervision and control of a broker-dealer and subject to the same supervisory safeguards as any of the member's other broker-dealer business.

        Under this second scenario, if the registered person is associated with more than one member, the proposed rule would allow members to develop a formal allocation arrangement whereby at least one member agrees in writing with specificity to comply with all applicable securities laws and regulations and FINRA rules regarding the proposed activity, including those covering supervision and recordkeeping.20

        Recordkeeping

        The proposed rule would require a member to maintain and preserve records demonstrating compliance with the obligations of the rule for at least three years after the registered person's employment or association with the member has terminated.21 Records required to demonstrate compliance with the rule would depend upon the facts and circumstances, but would include, for example, the registered person's written notice of the proposed activity, a record of the member's risk assessment, the member's written determination and whether any conditions or limitations are imposed. The proposed rule would not impose a general obligation to record transactions resulting from a registered person's outside activities on the member's books and records, except in the circumstance discussed above where a member approves an activity for which the registered person is relying on a member's broker-dealer registration.

        Proposed Exclusions from the Rule

        The proposed rule has several exclusions that would reduce unnecessary burdens without lessening investor protection. First, the proposal would exclude from the rule's coverage registered persons' personal investments (e.g., buying away), which commenters and stakeholders consistently noted do not raise the same investor protection concerns as selling away activities. Second, the proposed rule would exclude activities conducted on behalf of a member's affiliate, unless those activities would require registration as a broker or dealer if not for the person's association with a member. Therefore, a registered person generally would not be required to provide prior written notice, and a member would not be required to conduct the assessment required by the proposed rule, of any non-broker-dealer activity conducted for a member's affiliate, such as an affiliated IA, insurance entity or bank. In addition, any non-broker-dealer activity conducted on behalf of the member (e.g., any IA activities for a dually registered broker-dealer/investment adviser (BD/IA)) would not be subject to the rule. These exclusions recognize members' ability to implement meaningful controls across business lines and are consistent with functional regulation—that such activities are subject to other regulatory regimes and oversight.22 They also ensure that dually registered BD/IAs or members that share employees with affiliates are not faced with unnecessary additional burdens. The rule would define an "affiliate" as "any entity that controls, is controlled by or is under common control with a member," which is consistent with other FINRA rules.23 For these purposes, a member would not be deemed to control an IA firm merely because it is owned by the member's registered person.

        Finally, similar to the current private securities transactions rule, the proposed rule would not apply to transactions in accounts that are subject to FINRA Rule 3210 or to transactions on behalf of the registered person's immediate family members (as defined in FINRA Rule 5130) for which the registered person receives no transaction-related compensation.24

        Application to Registered Persons' Investment Advisory Activities

        The proposed rule would change the current approach with respect to IA activities of registered persons. Under Rule 3280 and related guidance, members must supervise and record on the members' books and records the transactions resulting from most outside IA activities of their associated persons.25 This approach has caused significant confusion and practical challenges, including, for example, privacy challenges with a member obtaining account information for customers of an unaffiliated IA through which a member's registered person may be acting in an IA capacity. Given these challenges, and in light of the fact that these activities are subject to another regulatory regime, some stakeholders argued that the current approach imposes unnecessary burdens without providing meaningful investor protections over the activities.

        Based on FINRA's review of the rules, public comment and other stakeholder feedback, and the evolving environment in which members operate, modifications to the current approach appear appropriate. Under the proposed rule, as discussed above, any IA activity conducted on behalf of a dually registered BD/IA or for an IA affiliate of a member would be excluded from the rule. Any IA activity conducted for a third-party, non-affiliated IA would constitute an "investment-related" activity under the rule. As such, the rule would require that the registered person provide prior written notice of such activity, and the member would be required to conduct the upfront risk assessment described above and, based on its assessment, to approve the registered person's participation, to approve it subject to conditions or limitations or to disapprove it. However, the proposed rule would not impose a general supervisory obligation over the IA activities and would not require the member to record on its books and records transactions resulting from such IA activities. Although this proposed approach streamlines members' obligations over IA activities, these IA activities would continue to be subject to regulatory oversight by the SEC and states under a different regulatory scheme.26

        Economic Impact of the Proposal

        Regulatory Need

        FINRA's recent review of the current rules on outside business activities and private securities transactions and industry and stakeholder input indicate that the current rules may benefit from substantive changes that clarify the obligations and tailor them to better achieve investor protection.

        Economic Baseline

        The current rules governing member employees' business and securities activities outside the regular course or scope of their employment with their firms, Rules 3270 and 3280, and related guidance, serve as the economic baseline for the analysis. These rules impact a broad spectrum of members, irrespective of business model, client base and product type.

        A survey on the rules sent to all FINRA members provided insights into the extent to which registered and associated persons are conducting, or proposing to engage in, activities subject to the rules.

        Rule 3270 requires registered persons to provide prior written notice before engaging in an outside business activity. Approximately 80 percent of the members responding to the survey stated that they have received at least one written notice in the last five years pursuant to Rule 3270. Approximately 40 percent of the registered persons within those members provided written notices. Also, approximately 89 percent of the respondents stated that they had internal policies to limit or prohibit outside business activities, and 42 percent stated that they have limited or prohibited a registered person's participation in an outside business activity before, mostly due to potential conflicts of interest and potential confusion by the customer as to whether the activity falls within the firm's business.

        Rule 3280 requires associated persons to provide prior written notice before participating in any manner in private securities transactions. In the survey, approximately 40 percent of the responding members stated that they have received at least one written notice in the last five years pursuant to Rule 3280. Approximately 19 percent of the associated persons within those members provided written notices. Also, approximately 89 percent of the respondents stated that they had internal policies to limit or prohibit private securities transactions for compensation to address the potential conflicts of interest between associated persons and the firm or its customers and to mitigate the litigation risk.

        Economic Impacts

        The proposed rule would directly impact registered persons that seek to engage in outside investment-related or other business activities and the members that employ them, and may potentially provide benefits for customers through better investor protection.

        Streamlining the rules into a single combined rule will benefit both members and registered persons by reducing the likelihood of regulatory confusion, as raised by stakeholders and identified in the survey, and should make it easier for both members and registered persons to determine the activities that are within the proposed rule's scope. Stakeholders noted that the potential overlap between the two rules may lead to inconsistent interpretation and application of the rules. Moreover, some outside business activities may evolve into private securities transactions, resulting in confusion over which rule applies. The simplified approach may encourage registered persons who have previously avoided these activities because of the perceived regulatory uncertainty to pursue outside activities.

        The proposal's requirement that registered persons provide their firms with prior written notice for all investment-related or other business activities will benefit members by ensuring they receive notice of a broad range of registered persons' outside activities. At the same time, there could be marginal costs for registered persons who would be required to report a broad range of activities. It may also increase compliance costs for members to the extent that members must determine which of the reported activities are subject to a risk assessment under the rule.

        With respect to a narrower set of activities—investment-related activities—the rule requires the member to conduct a reasonable assessment of the risks created by the registered person's engagement in the proposed activity and to approve or disapprove the registered person's participation. Imposing these requirements on the narrower set of activities will reduce unnecessary burdens to members of having to conduct a risk assessment of non-investment-related activities that may pose little harm to the member or the investing public. Specifically, members may benefit from employing compliance resources on those outside activities that are more likely to raise investor protection concerns.

        Unlike current Rule 3270, the proposed rule imposes a requirement, with respect to investment-related activities only, to determine whether to approve or disapprove the activity, and to provide the registered person with written notice of this determination. Although FINRA understands that many members already do so, members may incur compliance costs associated with the proposal in providing written responses to registered persons regarding approval or disapproval decisions. On the other hand, this requirement will provide clarity for registered persons, as they will have a clear understanding of the member's determination. However, it may delay registered persons' participation in the activity until the member's written approval decision, if provided, which could result in additional costs to registered persons up to and including the possibility of lost business opportunities. At the same time, where the member disapproves of the investment-related activity, ex post costs of such prohibition would be relatively lower under the proposal as the registered person receives the information before engaging in the activity. In addition, requiring registered persons to receive an approval determination before engaging in an investment-related activity may also benefit the investing public as registered persons will not have the opportunity to engage in activities that the member ultimately disapproves.27

        The current rules apply to different populations, with Rule 3270 applying to registered persons and Rule 3280 applying to associated persons. The proposed rule would eliminate this disparate treatment and apply uniformly to registered persons. In doing so, the proposal relieves associated persons from some obligations, which could potentially impact behaviors. Because non-registered associated persons would not be subject to the rule, they would have lower costs to engage in the covered activities under the proposal. This may create an incentive for associated persons to remain unregistered, to the extent that costs associated with the notification and, with respect to investment-related activities, assessment and approval requirements outweigh the benefits of being a registered person. The possible negative impact of this hypothetical may be tempered, however, by the fact that many activities require a person to be registered in one capacity or another before the person may engage in them.

        Under current Rule 3280, if a member approves an associated person's participation in a private securities transaction for compensation, the member must record the transaction on the member's books and records and supervise the associated person's participation as if the transaction were executed on behalf of the member. The proposed rule, which imposes supervision only in the two limited situations described above, would eliminate those current requirements with respect to the majority of activities that fall within the current rule and, accordingly, should simplify the supervisory efforts and lower the direct compliance costs.

        In addition, the proposed rule excludes non-broker-dealer activities conducted on behalf of a dually registered firm, such IA or banking activities, and activities conducted for an affiliate of the member (unless those activities would require registration as a broker or dealer if not for the person's association with a member). These exclusions should potentially alleviate some of the burdens that are associated with reporting and assessing outside activities that may pose relatively little risk to the member and investing public.

        FINRA also considered the potential impacts of the proposed amendments on investors. Limiting the risk assessment and approval requirements of the proposed rule to investment-related activities, as defined in the Form U4, mitigates the confusion and misalignment between the Form U4 and Rule 3270, and should enhance the investor protection purpose of the rule.

        Alternatives Considered

        FINRA staff also considered a principles-based approach, as suggested by some stakeholders, which potentially would provide members with more flexibility in developing the systems and the protocols to assess and approve or disapprove outside business activities and private securities transactions. However, the approach presented here was deemed to better balance the costs and benefits of governing registered persons' outside business and private securities activities. It also takes into account the views of numerous other stakeholders that favored a rules-based approach with specific requirements.

        Request for Comment

        FINRA requests comment on all aspects of the proposal. FINRA requests that commenters provide empirical data or other factual support for their comments wherever possible. FINRA specifically requests comment concerning the following issues:

        1. What are the alternative approaches, other than the proposal, that FINRA should consider?
        2. How would consolidation of the rules governing outside business activities and private securities transactions in this proposal simplify compliance? What impact would it have on the cost of compliance?
        3. Unlike Rule 3280, the proposed rule would apply to registered persons, rather than to associated persons. Should the proposed rule be expanded to apply to all associated persons? If so, why?
        4. Is the proposed scope of the notice requirement appropriately tailored to balance the interest of members to receive information regarding their registered persons' outside activities and any investor protection concerns?
        a. Should the proposal be modified to require registered persons to provide notice with respect to a narrower set of activities? If so, should notice be required only with respect to investment-related or some other categorization of activities?
        b. Would narrowing the scope of the proposal impose any additional risks to investors?
        5. A member's obligation to conduct a risk assessment is only triggered under the proposal with respect to investment-related activities.
        a. Does limiting the required risk assessment to activities that are "investment-related" properly balance the interest of allowing members to focus compliance efforts on activities that pose the greatest concerns and any potential harm to investors?
        b. Is the definition of "investment-related," which is based on the definition used by the Form U4, appropriate given the regulatory objectives of the proposal, or should other activities be included in or excluded from the definition? If so, why?
        c. The proposed rule's focus is on assessing the risks created by the registered person's engagement in the outside investment-related activity, rather than the underlying activity itself. Is this an appropriate focus? Should the risk assessment include a requirement for the member to perform due diligence of the underlying outside activity?
        d. The member would be required in the risk assessment to evaluate whether the proposed activity will: (i) interfere with or otherwise compromise the registered person's responsibilities to the member's customers; or (ii) be viewed by customers or the public as part of the member's business based upon, among other factors, the nature of the proposed activity and the manner in which it will be offered. Are these appropriate criteria to evaluate conflicts of interests and other potential areas of harm to investors?
        6. The proposal has several exclusions, including for registered persons' personal investments and activities conducted on behalf of an affiliate of a member, unless those activities would require registration as a broker or dealer if not for the person's association with a member. Are the proposed exclusions appropriate?
        a. Should any other activities be excluded from the rule? If so, why?
        b. Should the proposed exclusions, including the exclusion for activities on behalf of affiliates, be limited in any manner? For example, should the exclusion be limited to activities on behalf of affiliates that are subject to federal or state financial registration or licensing requirements, such as registered investment advisers, banks and insurance companies?
        7. Unlike current Rule 3280 and related guidance, the proposed rule would not impose a general supervisory obligation over IA activities and would not require the member to record on its books and records transactions resulting from such IA activities. Does the treatment of IA activities under the proposed rule appropriately address investor protection concerns while recognizing that separate obligations exist under the IA regulatory regime?
        8. Under paragraph (b)(4), if a member approves a person's participation in a proposed activity that would require, if not for the person's association with a member, registration as a broker or dealer under the Exchange Act, the activity is deemed to be the member's business and the member must supervise accordingly.
        a. Is registration under the Exchange Act the appropriate trigger for this provision?
        b. Should paragraph (b)(4) be expanded to require a member to supervise a registered person's sale of securities through an entity that is not required to register under the Exchange Act?
        c. When the registered person is associated with more than one member, the proposed rule allows members to develop a formal allocation arrangement whereby at least one member has the regulatory responsibility, including the supervision and recordkeeping of the proposed outside business activity. Are there any competitive effects of such allocation arrangements? Does this flexibility potentially create a disadvantage for some firms regarding how the costs are allocated? Should FINRA consider any other approaches?
        9. Are there any material economic impacts, including costs and benefits, to investors, issuers and firms that are associated specifically with the proposal? If so:
        a. What are these economic impacts and what are their primary sources?
        b. To what extent would these economic impacts differ by business attributes, such as size of firm or differences in business models?
        c. What would be the magnitude of these impacts, including costs and benefits?
        10. Are there any expected economic impacts associated with the proposal not discussed in this Notice? What are they and what are the estimates of those impacts?

        1. Persons submitting comments are cautioned that FINRA does not redact or edit personal identifying information, such as names or email addresses, from comment submissions. Persons should submit only information that they wish to make publicly available. See Notice to Members 03-73 (Online Availability of Comments) (November 2003) for more information.

        2. See SEA Section 19 and rules thereunder. After a proposed rule change is filed with the SEC, the proposed rule change generally is published for public comment in the Federal Register. Certain limited types of proposed rule changes take effect upon filing with the SEC. See SEA Section 19(b)(3) and SEA Rule 19b-4.

        3. See Regulatory Notice 17-20 (May 2017).

        4. See, e.g., Notice to Members 94-44 (May 1994); Notice to Members 96-33 (May 1996).

        5. FINRA Rule 3270 is incorporated by reference into the Capital Acquisition Broker (CAB) Rules. See CAB Rule 327. Persons associated with a capital acquisition broker may not participate in any manner in a private securities transaction as defined in Rule 3280(e). See CAB Rule 328. FINRA will consider whether conforming changes to the CAB rules are appropriate as a result of any changes to FINRA Rules 3270 and 3280.

        6. The term "stakeholder" is used to describe those entities, organizations and persons who may be impacted by or otherwise have an interest in FINRA Rules 3270 and 3280 and this proposed rule.

        7. A number of stakeholders commented on the similar notice requirements of Rules 3270 and 3280 and noted confusion over the often overlapping concepts. A combined rule would eliminate this confusion and streamline the requirements.

        8. Subject to specified exemptions, Rule 3270 prohibits a registered person from being an employee, independent contractor, sole proprietor, officer, director or partner of another person, or being compensated, or having the reasonable expectation of compensation, from another person as a result of any business activity outside the scope of the relationship with his or her member firm, unless he or she has provided prior written notice to the member. In a survey sent to all FINRA members as part of the retrospective review, approximately 60 percent of the respondents believed that there are outside business activities that should not be included within the scope of Rule 3270.

        9. Rule 3280 provides that, prior to participating in any private securities transaction, an associated person must provide written notice to the member with which he or she is associated, describing the transaction and the associated person's role, and disclosing whether the associated person has received or may receive selling compensation in connection with the transaction. The rule 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 which are not registered with the Commission, but excludes transactions subject to the notification requirements of FINRA Rule 3210 (Accounts At Other Broker-Dealers and Financial Institutions), transactions among immediate family members (as defined in FINRA Rule 5130 (Restrictions on the Purchase and Sale of Initial Equity Public Offerings)), for which no associated person receives any selling compensation, and personal transactions in investment company and variable annuity securities.

        10. For example, some stakeholders noted that an outside business activity that appears on its face to pose little risk to the investing public may evolve into a private securities transaction if the registered person seeks to sell interests in an outside business. Such a material change in the activity would require the registered person to provide updated written notice and, in this example, would trigger the member to conduct a risk assessment and, depending on the activity and whether the member approves the registered person's participation, may require the member's supervision.

        11. See Form U4 Explanation of Terms, available at https://www.finra.org/file/explanation-terms-crd-forms.

        12. FINRA notes that, irrespective of whether an outside activity is investment related, other rules may apply, depending on the facts and circumstances, to business-related conduct, including FINRA Rule 2010 (Standards of Commercial Honor and Principles of Trade).

        13. FINRA Rule 3270 applies to registered persons, while FINRA Rule 3280 applies to associated persons. The proposed rule would harmonize this distinction, which was an issue raised by stakeholders during the retrospective review.

        14. Because a member's obligations under the rule apply with respect to investment-related activities, a member necessarily must have a process for reasonably determining which activities are investment related.

        15. As part of the risk assessment, FINRA would expect a member, for example, to consider the registered person's proposed role in the activity, whetherthe registered person intends to use separate or shared facilities or electronic presence, whether the registered person intends to solicit the member's customers and the general nature of the underlying activity. A member also must consider any "red flags" indicating problematic activities that raise the risks of the engagement of the registered person in the proposed activity. See, e.g., Dep't of Enforcement v. Fox Fin. Mgmt. Corp., Complaint No. 2012030724101, 2017 FINRA Discip. LEXIS 3, at *17&ndashndash;18 (FINRA NAC Jan. 6, 2017) (stating that the "supervisory duties imposed under NASD Rule 3010 include a responsibility to investigate and act upon 'red flags' that reveal irregularities or the potential for misconduct" and finding that the firm failed to investigate and act upon red flags indicating that an outside business activity in fact involved private securities transactions); Dep't of Enforcement v. Merrimac Corp. Securities, Inc., Complaint No. 2009017195204, 2015 FINRA Discip. LEXIS 4, at *9 (FINRA NAC Apr. 29, 2015) (affirming the imposition of sanctions for the firm's failure to adequately consider red flags of outside business activities and private securities transactions, for example, by neglecting "to investigate after it learned of allegations on a website that one of the outside businesses was a Ponzi scheme and was suffering serious financial difficulties").

        16. As discussed more fully infra, in this circumstance, a firm would be responsible for complying with all applicable securities laws and FINRA rules, including supervision and recordkeeping.

        17. The rule would not prohibit a member from deciding for its own business reasons to create additional obligations and procedures for its registered or associated persons regarding outside business activities.

        18. In this example, the member would have other obligations related to its custodial role, but those are separate and apart from the proposed rule's treatment of outside business activities.

        19. See, e.g., Notice to Members 85-21 (March 1985) (requesting comment on private securities transactions rule, which was aimed at addressing transactions that had long been a regulatory concern, namely "transactions in which an associated person is selling securities to public investors on behalf of another party, e.g., as part of a private offering of limited partnership interests, without the participation of the person's employer firm").

        20. This provision is consistent with current guidance regarding the application of the private securities transactions rule to the activities of registered persons employed by more than one member. See Notice to Members 96-33 (May 1996), Question 5 (allowing members to develop a detailed, formal allocation arrangement whereby at least one member agrees and is able to provide required supervision and recordkeeping under the private securities transactions rule with respect to outside investment advisory activities of a registered person employed with more than one member).

        21. This retention period is consistent with the retention period in the current rule on outside business activities and with the retention period of other records relating to associated persons required to be made and preserved underthe Exchange Act. See SEA Rule 17a-4(e)(l) (setting forth the retention period for specified records relatingto associated persons).

        22. For example, investment advisers registered with the SEC are overseen by the SEC and subject to the obligations of the Investment Advisers Act of 1940 (Advisers Act) and the regulations and rules promulgated thereunder. Other investment advisers are subject to state registration systems, many of which have requirements similar to the Advisers Act.

        23. See, e.g., FINRA Rule 5121(f)(1) (defining "affiliate" for purposes of the rule governing public offerings of securities when a participating firm has a conflict of interest); FINRA Rule 6710(ee) (defining "Non-member Affiliate" for purposes of the rules relating to the Trade Reporting and Compliance Engine (TRACE)).

        24. The proposal would not alter the obligations under FINRA Rule 3210.

        25. See Rule 3280(c)(2) (requiring a member that approves an associated person's participation in a private securities transaction for compensation to record the transaction on the member's books and records and supervise the associated person's participation as if the transaction were executed on behalf of the member); see also Notice to Members 94-44 (May 1994) (providing that an associated person is considered to be participating in the execution of the transaction, and, therefore, triggering the application of Rule 3280, if the person's investment advisory activities exceed the mere recommendation of securities).

        26.. See supra note 22. To the extent that FINRA becomes aware of potentially problematic IA or other non-broker-dealer activities during the course of its oversight of broker-dealers, FINRA would take appropriate action within the scope of its authority, including, but not limited to, referring the matter to the SEC or states.

        27. Under Rule 3270, a registered person must provide prior written notice to the firm of outside business activity, but there is no requirement in the rule that the member approve the activity before the registered person may engage in it.


        ATTACHMENT A

        Below is the text of the proposed rule change. Proposed new language is underlined.

        * * * * *

        3290. Outside Business Activities
        (a) Obligations of a Registered Person

        No registered person may participate in any manner in an investment-related or other business activity outside the scope of the relationship with the person's member firm unless the person provides prior written notice to and, with respect to any investment-related activity, receives prior written approval from, the member. In the case of a material change to the activity, a registered person must provide the member with updated prior written notice and, with respect to any investment-related activity, receive updated prior approval. The notification shall be provided in such form as specified by the member, describing the proposed activity and the person's proposed role therein. If the member disapproves the proposed activity or places conditions or limitations on it, the registered person shall not participate in the activity or shall comply with such conditions or limitations.
        (b) Obligations of a Member Receiving Notice of an Investment-Related Activity
        (1) Upon receipt of a written notice of any investment-related activity, a member shall:
        (A) perform a reasonable assessment of the risks created by the engagement of the registered person in the proposed activity, including an evaluation of whether the proposed activity will:
        (i) interfere with or otherwise compromise the registered person's responsibilities to the member's customers; or
        (ii) be viewed by customers or the public as part of the member's business based upon, among other factors, the nature of the proposed activity and the manner in which it will be offered;
        (B) consider whether the activity would require the person's registration as a broker or dealer under the Exchange Act if not for the person's association with a member; and
        (C) make a reasonable determination of whether to approve the registered person's participation in the proposed activity, to approve it subject to specific conditions or limitations, or to disapprove it.
        (2) Upon completion of the member's assessment, a member shall advise the registered person in writing whether the member:
        (A) approves the person's participation in the proposed activity and imposes any conditions or limitations on that participation; or
        (B) disapproves the person's participation in the proposed activity.
        (3) If the member imposes conditions or limitations on its approval of the person's participation in the proposed activity, the member shall reasonably supervise the registered person's compliance with such conditions or limitations.
        (4) If the member approves the person's participation in the proposed activity and such activity would require, if not for the person's association with a member, registration as a broker or dealer under the Exchange Act and the person is not so registered, the activity shall be deemed to be that of the member and the member shall be subject to all applicable securities laws and regulations and FINRA rules, including those requiring supervision and recordkeeping, with respect to that activity. If the person is associated with more than one member, the members may develop a detailed, formal allocation arrangement, which must be in writing, whereby at least one member agrees to be responsible for compliance with respect to all applicable securities laws and regulations and FINRA rules regarding the proposed activity, including those requiring supervision and recordkeeping.
        (5) A member must keep a record demonstrating its compliance with the obligations pursuant to this Rule and must preserve this record at least three years after the registered person's employment or association with the member has terminated.

        • • • Supplementary Material: ------------------

        .01 This Rule shall not apply to:
        (a) a registered person's personal investments (including transactions in accounts that are subject to FINRA Rule 3210);
        (b) transactions on behalf of the registered person's immediate family members (as defined in FINRA Rule 5130) for which the registered person receives no transaction-related compensation;
        (c) activities conducted on behalf of a member's affiliate, unless those activities would require, if not for the person's association with a member, registration as a broker or dealer under the Exchange Act and the person is not so registered; or
        (d) a member's non-broker-dealer activities.
        .02 For purposes of this Rule:
        (a) "Affiliate" means any entity that controls, is controlled by or is under common control with a member.
        (b) "Business activity" means: (i) acting as an employee, independent contractor, sole proprietor, officer, director or partner of another person; or (ii) receiving compensation, or having the reasonable expectation of compensation, from any other person as a result of the activity.
        (c) "Investment-related" means pertaining to securities, commodities, banking, insurance, or real estate (including, but not limited to, acting as or being associated with a broker-dealer, issuer, investment company, investment adviser, futures sponsor, bank, or savings association).

      • 18-07 Extension of Time Requests Relating to FINRA Rule 4210

        View PDF

        Regulatory Extension (REX) System Update

        Regulatory Notice
        Notice Type

        Guidance
        Referenced Rules & Notices

        FINRA Rule 4210
        SEA Rule 15c3-3
        Regulation T
        Regulatory Notice 17-28
        Regulatory Notice 16-31
        Regulatory Notice 14-13
        Regulatory Notice 10-28
        Suggested Routing

        Compliance
        Legal
        Margin
        Operations
        Registered Representatives
        Risk
        Senior Management
        Systems
        Key Topics

        Extension of Time Requests

        Executive Summary

        FINRA is updating the Regulatory Extension (REX) system1 to include enhanced functionality that will better enable firms to request extensions of time related to FINRA Rule 4210, inclusive of requests for extensions of time in connection with the margin requirements for Covered Agency Transactions that will become effective beginning June 25, 2018.2 This Notice contains information about the REX system update, including a REX Customer Test Environment (CTE) that FINRA will make available to assist firms in testing their systems to ensure their readiness for the updated system.

        Questions concerning this Notice may be directed to:

        •   Adam Rodriguez, Director, Credit Regulation, at (646) 315-8572 or adam.rodriguez@finra.org;
        •   Peter Grassi, Principal Specialist, Credit Regulation, at (212) 416-1786 or peter.grassi@finra.org; or
        •   Theresa Reynolds, Senior Credit Specialist, Credit Regulation, at (646) 315-8567 or theresa.reynolds@finra.org.

        Background & Discussion

        REX System Update

        FINRA is updating the REX system so that, beginning June 25, 2018, firms may submit requests for an extension of time pursuant to FINRA Rule 4210 by:

        •   completing an online form via the FINRA Firm Gateway [https://ews.finra.org/auth/ews_logon.jsp?CTAuthMode=BASIC&login_form_location_basic&aa_param=user]; or
        •   submitting a batch file by logging into the REX system.

        Appendix A of this Notice describes the new data elements firms will be required to submit when requesting extensions of time related to Rule 4210. Appendix B of this Notice provides updated reason codes and validation identifiers for use when making such requests.

        Firms should note that the updated REX system will permit them, when making requests related to FINRA Rule 4210 via the batch file process, to use the REX batch XML file format that currently is in use for requests related to Regulation T and SEA Rule 15c3-3. As such, firms will be able to use the REX batch XML file format for all extension of time requests related to Regulation T, SEA Rule 15c3-3 and FINRA Rule 4210. In order to be able to file Rule 4210 extension of time requests via the batch file process, firms must update their batch file data fields. Information about the batch file process and the required changes is available at FINRA's How to Use the REX System [http://www.finra.org/industry/rex/how-to-use-the-rex-system] page.

        As with the current REX system, the updated REX system will permit a firm to review the status of each extension of time request immediately through the FINRA Firm Gateway after it is submitted and, on the next business day, via the firm's daily extension report, which provides a report for all extensions filed by the firm. Also, as with the current REX system, the updated REX system will permit a firm to search, amend and resubmit its extension of time requests through the FINRA Firm Gateway.

        Test Phases: REX Customer Test Environment (CTE)

        To assist firms in preparing for the update, FINRA has created a REX CTE that firms may use to test extension of time requests using the online form or the batch file process. FINRA is dividing testing into two phases and encourages firms to begin testing as soon as possible to ensure their readiness to file extension of time requests when the updated REX system is implemented on June 25, 2018. The two test phases are summarized below and in Appendix C of this Notice. Firms may consult FINRA's How to Use the REX System [http://www.finra.org/industry/rex/how-to-use-the-rex-system] page for further information.

        Phase 1–available beginning February 20, 2018

        During Phase 1, firms will be able to preview the online form for extension of time requests related to Rule 4210. The form will be available under the "Forms and Filing" section in the FINRA CTE Gateway [https://ews.finra.org/auth/ews_logon.jsp?CTAuthMode=BASIC&login_form_location_basic&aa_param=user]. Through the CTE, firms will be able to submit, search and modify extension of time requests. Validation and summary reports will not be available during this phase.

        Phase 2–available beginning March 16 through June 15, 2018

        During Phase 2, firms will be able to submit extension of time requests related to Rule 4210 via both the FINRA CTE Gateway online request form and the batch process. Connectivity testing to the CTE for submissions of extension of time requests via the REX batch process will be available at https://filetransfer.ct.finra.org/ beginning on March 9, 2018.

        FINRA will begin accepting test files through the REX batch file CTE on March 16, 2018. During Phase 2, firms will have access to reports with details of all the extension of time requests submitted. Firms will also be able to query the REX test environment for information on all extension of time requests granted, denied or rejected. The reports will be available the business day after the request(s) was submitted.

        During both testing phases, firms must use their current FINRA Gateway user ID and password to log into the CTE. Firms that encounter technical problems, or that need to request a FINRA user ID and password, may contact the FINRA Help Desk at (800) 321-6273.


        1. FINRA introduced the REX system in August 2010 and implements updates as appropriate. See, e.g., Regulatory Notice 10-28 (June 2010) (Extension of Time Requests) and Regulatory Notice 14-13 (March 2014) (REX System Update).

        2. See Regulatory Notice 16-31 (August 2016) (announcing the SEC's approval of amendments to FINRA Rule 4210 to establish margin requirements for Covered Agency Transactions (the "Covered Agency Transactions amendments")) and Regulatory Notice 17-28 (September 2017) (announcing availability of a set of frequently asked questions and guidance in connection with the Covered Agency Transactions amendments and extending, to June 25, 2018, the effective date of the requirements pursuant to such amendments that otherwise would have become effective on December 15, 2017). Covered Agency Transactions include (1) To Be Announced (TBA) transactions, inclusive of adjustable rate mortgage (ARM) transactions, (2) Specified Pool Transactions and (3) transactions in Collateralized Mortgage Obligations (CMOs), issued in conformity with a program of an agency or Government-Sponsored Enterprise (GSE), with forward settlement dates, as defined more fully in paragraph (e)(2)(H)(i)c. of FINRA Rule 4210.


        Appendix A

        Updated Data Elements For Extension of Time Requests Relating To FINRA Rule 4210 (Effective June 25, 2018)

        •   Submitter Filing reference ID— This field is optional and is provided to enable the submitting firm to identify or track each extension of time request for internal purposes.
        •   Reason Code — Select one of the following reason codes:
        •   060 — Mark to Market Disputes
        •   061 — Collateral Valuation Disputes
        •   062 — Non US Holiday
        •   063 — Acts of God
        •   067 — Other – Covered Agency Transaction (FINRA Rule 4210(e)(2)(H)(ii)d. & FINRA Rule 4210(e)(2)(H)(ii)e.)
        •   068 — Other – Interpretation /02 of FINRA Rule 4210(f)(6)
        •   069 — Other – FINRA 4210(g)(10)(D)
        •   Days Requested — The number of days being requested for the extension of time. For Reason Codes 060, 061, 063 and 067, the system will default to 14 calendar days for each request submitted. For Reason Codes 062, 068 and 069, firms may request up to 7 calendar days for each extension of time request filed.
        •   Date of Mark to Market Loss or Deficiency — The date the mark to market loss or deficiency, as applicable, occurred.
        •   Mark to Market Loss or Deficiency Amount — The current mark to market loss or deficiency amount, as applicable.
        •   Branch CRD — The CRD number of the branch assigned to the counterparty.
        •   Account Number — The counterparty's account number.
        •   Account Name — The counterparty's name.
        •   Is the counterparty a US B/D? — For online requests, indicate either "Yes" or "No" whether the counterparty is a broker/dealer. If responding, "Yes", include the CRD number assigned to the broker-dealer counterparty.
        •   Is the extension of time request on behalf of a US correspondent? — For online requests, indicate either "Yes" or "No" whether the extension of time request is filed on behalf of a correspondent for its counterparty. If responding, "Yes", include the CRD number of the correspondent.
        •   Withdrawn Flag — Indicate "Yes" if withdrawing a previously submitted extension of time request. Firms must complete the "Comment" field explaining why the extension of time is being withdrawn. If the extension of time is not being withdrawn, this field will default to "No."
        •   Comment — This field is mandatory for Reason Codes 063, 067, 068 and 069.

        Appendix B

        FINRA Rule 4210 Extension of Time Request Reason Codes and Request Validation Identifiers

        FINRA Rule 4210 — Reason Codes
        Reason
        Code
        Reason
        No. of Days
        Permitted
        Limit Per
        Code
        Special Remarks
        060 Mark to Market Disputes
        14 Calendar days
        2
        Final on Second Extension of
        Time Request
        061 Collateral Valuation Disputes
        14 Calendar days
        2
        Final on Second Extension of
        Time Request
        062 Non-US Holiday
        7 Calendar days
        2
        Final on Second Extension of
        Time Request
        063 Acts of God
        14 Calendar days
        0
        Requires FINRA Approval
        Reason Codes 064 – 066 reserved for future assignment
        067 Other – Covered Agency Transaction
        (FINRA Rule 4210(e)(2)(H)(ii)d. &
        FINRA Rule 4210(e)(2)(H)(ii)e.)
        14 Calendar days
        2
        Final on Second Extension of
        Time Request: Third Extension
        of Time Request Requires
        FINRA Approval
        068 Other – Interpretation /02 of
        FINRA Rule 4210(f)(6)
        7 Calendar days
        0
        Requires FINRA Approval
        069 Other – FINRA Rule 4210(g)(10)(D)
        7 Calendar days
        0
        Requires FINRA Approval

        Appendix B

        Extension of Time Request Validation Identifiers
        Extension Type
        Validation
        Identifier
        Rex Message
        Disposition
        If Pass
        Validation
        Disposition
        If Fail
        Validation
        Covered Agency Transaction
        (FINRA Rule 4210(e)(2)(H)(ii)d. &
        FINRA Rule 4210(e)(2)(H)(ii)e.)
        BR5000
        For FINRA Rule 4210 extension of time
        requests filed under codes 060, 061,
        062 and 067, the request must be
        made on the date the mark to market
        loss or deficiency, as applicable, occurs
        + 5 business days.
        Approve
        Deny
        Interpretation /02 of
        FINRA Rule 4210(f)(6)
        BR5100
        For FINRA Rule 4210 extension of time
        requests filed under code 068, the
        request must be made on the date the
        margin or mark to market deficiency,
        as applicable, occurs + 15 business
        days.
        Pending
        Deny
        FINRA 4210(g)(10)(D)
        BR5200
        For FINRA Rule 4210 extension of time
        requests filed under code 069, the
        request must be made on the date the
        portfolio margin deficiency occurs + 3
        business days.
        Pending
        Deny
        Covered Agency Transaction
        (FINRA Rule 4210(e)(2)(H)(ii)d. &
        FINRA Rule 4210(e)(2)(H)(ii)e.)
        BR5300
        For the first FINRA Rule 4210
        extension of time follow-on request
        under code 060, 061, 062 or 067,
        the request must be made on the
        expiration date (or the next business
        day after such date) of the previous
        request.
        Approve
        Deny
        Interpretation /02 of
        FINRA Rule 4210(f)(6) &
        FINRA 4210(g)(10)(D)
        BR5400
        For FINRA Rule 4210 follow-on
        extension of time requests under
        codes 068 and 069, the request must
        be made on the expiration date (or
        the next business day after such date)
        of the previous request.
        Pending
        Deny
        Covered Agency Transaction
        (FINRA Rule 4210(e)(2)(H)(ii)d. &
        FINRA Rule 4210(e)(2)(H)(ii)e.)
        BR5500
        For FINRA Rule 4210 extension of time
        requests filed under code 063, the
        request must be made on the date the
        mark to market loss or deficiency, as
        applicable, occurs +5 business days.
        Pending
        Deny

        Appendix B

        Extension of Time Request Validation Identifiers
        Extension Type
        Validation
        Identifier
        Rex Message
        Disposition
        If Pass
        Validation
        Disposition
        If Fail
        Validation
        Covered Agency Transaction
        (FINRA Rule 4210(e)(2)(H)(ii)d. &
        FINRA Rule 4210(e)(2)(H)(ii)e.)
        BR5600
        For FINRA Rule 4210 extension of time
        follow-on requests under code 063,
        the request must be made on the
        expiration date (or the next business
        day after such date) of the previous
        request.
        Pending
        Deny
        Covered Agency Transaction
        (FINRA Rule 4210(e)(2)(H)(ii)d. &
        FINRA Rule 4210(e)(2)(H)(ii)e.)
        BR5700
        For all extension of time requests
        after the first FINRA Rule 4210
        extension of time follow-on request,
        the request must be made on the
        expiration date (or the next business
        day) of the previous request and filed
        under reason code 067.
        Pending
        Deny

        Note:

        The REX system permits a firm to search for specific extension of time requests or groups of extension of time requests that the firm has submitted, based on a wide variety of search criteria, including Disposition Status (Granted, Denied, Pending). When a firm elects to use the REX batch file format, the firm receives an enhanced XML results report via FTP or SFTP (depending on how the batch file was submitted). The results report is an XML-formatted file that contains all of the information regarding all extension of time requests the firm submitted, including extension requests submitted via the online request form.


        Appendix C

        REX System Testing and Implementation Timeline

        REX System Testing and Implementation Timeline
        Week
        Action
        February 20 - March 15, 2018 Preview the online form for FINRA Rule 4210 at
        https://firmstest.finra.org/.
        Friday, March 09, 2018 Batch connectivity testing will be available at
        https://filetransfer.ct.finra.org/.
        March 16 - June 15, 2018 Testing cycle begins for both online and batch filers
        for FINRA Rule 4210 extension of time requests.
        End of testing cycle, June 15, 2018.
        Friday, June 15, 2018 End of testing cycle for FINRA Rule 4210 extension
        of time requests
        Monday, June 25, 2018 Implementation date of Covered Agency Transaction
        margin requirements.
        Monday, July 02, 2018 First date available to file FINRA Rule 4210 extension
        of time requests.

      • 18-06 FINRA Requests Comment on Proposed Amendments to its Membership Application Program to Incentivize Payment of Arbitration Awards; Comment Period Expires: April 9, 2018

        View PDF

        Membership Application Program

        Regulatory Notice
        Notice Type

        Request for Comment
        Referenced Rules & Notices

        NASD IM-1011-1
        NASD Rule 1011
        NASD Rule 1013
        NASD Rule 1014
        NASD Rule 1017
        SEA Rule 15c3-1
        Suggested Routing

        Compliance
        Legal
        Operations
        Registered Representatives
        Registration
        Senior Management
        Key Topics

        Arbitration
        Membership Application Program
        Supervision

        Summary

        FINRA is requesting comment on proposed amendments to its Membership Application Program (MAP) rules to create further incentives for the timely payment of arbitration awards by preventing an individual from switching firms, or a firm from using asset transfers or similar transactions, to avoid payment of arbitration awards while staying in business. The amendments would address situations where: (1) a FINRA member firm hires individuals with pending arbitration claims, where there are concerns about the payment of those claims should they go to award or result in a settlement, and the supervision of those individuals; and (2) a member firm with substantial arbitration claims seeks to avoid payment of the claims should they go to award or result in a settlement by shifting its assets, which are typically customer accounts, or its managers and owners, to another firm and closing down.

        The text of the proposed amendments can be found at www.finra.org/notices/18-06.

        Questions concerning this Notice should be directed to Victoria Crane, Associate General Counsel, Office of General Counsel, at (202) 728-8104.

        Action Requested

        FINRA encourages all interested parties to comment on the proposal. Comments must be received by April 9, 2018.

        Comments must be submitted through one of the following methods:

        •   Emailing comments to pubcom@finra.org; or
        •   Mailing comments in hard copy to:

        Jennifer Piorko Mitchell
        Office of the Corporate Secretary
        FINRA
        1735 K Street, NW
        Washington, DC 20006-1506

        To help FINRA process comments more efficiently, persons should use only one method to comment on the proposal.

        Important Notes: All comments received in response to this Notice will be made available to the public on the FINRA website. In general, FINRA will post comments as they are received.1

        Before becoming effective, a proposed rule change must be authorized for filing with the Securities and Exchange Commission (SEC) by the FINRA Board of Governors, and then must be filed with the SEC pursuant to Section 19(b) of the Securities Exchange Act of 1934 (SEA).2

        Background & Discussion

        FINRA's membership application rules are intended to promote investor protection by applying strong standards for admission to FINRA as a member firm and for material changes to a current member firm's ownership, control or business operations. These MAP rules require an applicant to demonstrate its ability to comply with the federal securities laws and FINRA rules, including observing high standards of commercial honor and just and equitable principles of trade applicable to its business.

        FINRA's Department of Member Regulation, through the MAP Group (collectively, the Department), evaluates an applicant's financial, operational, supervisory and compliance systems to ensure that the applicant meets FINRA's standards for admission. In addition, the Department considers whether persons associated with an applicant have material disciplinary actions taken against them by other industry authorities, customer complaints, adverse arbitrations, pending arbitration claims, unpaid arbitration awards, pending or unadjudicated matters, civil actions, remedial actions imposed or other industry-related matters that could pose a threat to public investors.

        FINRA is proposing to amend the MAP rules to allow FINRA to take a stronger approach to addressing the issue of pending arbitration claims, as well as arbitration awards and settlement agreements related to arbitrations that have not been paid in full in accordance with their terms, in connection with the new membership application (NMA) or continuing membership application (CMA) processes.3 In addition, the proposed amendments would enable the Department to consider the supervision of individuals with pending arbitration claims and, therefore, who may have a history of non-compliance.

        Among other things, the proposed amendments are intended to address concerns regarding situations where: (1) a FINRA member firm hires individuals with pending arbitration claims, where there are concerns about the payment of those claims should they go to award or result in a settlement, and the supervision of those individuals; and (2) a member firm with substantial arbitration claims seeks to avoid payment of the claims should they go to award or result in a settlement by shifting its assets, which are typically customer accounts, or its managers and owners, to another firm and closing down.

        First, the proposed amendments would provide the Department with rule-based authority to presumptively deny an NMA if the applicant or its associated persons are subject to pending arbitration claims. Today, the Department considers if an applicant's or its associated person's record reflects a pending arbitration in determining if the applicant meets the standards for admission, but a record of a pending arbitration does not create a presumption of denial. Under the proposal, the applicant could overcome the presumption of denial if the applicant demonstrates its ability to satisfy the pending arbitration claims such as through an escrow agreement, insurance coverage, a clearing deposit, a guarantee, a reserve fund, or the retention of proceeds from an asset transfer, or such other forms that the Department may determine to be acceptable.

        This presumption of denial for pending arbitration claims would not apply to a CMA. Instead, consistent with today's practice, the Department would consider if an applicant's or its associated person's record reflects a pending arbitration in determining if the applicant meets the standards for admission.

        Second, the proposed amendments would not permit a member to effect a business expansion that involves adding one or more associated persons with a "covered pending arbitration claim" (as discussed in further detail below), unpaid arbitration award or unpaid settlement related to an arbitration, and the member is not otherwise required to file a CMA, unless the member first seeks a materiality consultation for the contemplated expansion with the Department and the Department determines that the member may effect the contemplated business expansion without a CMA.

        Third, the proposed amendments would not permit any direct or indirect acquisitions or transfers of a member's assets or any asset, business or line of operation where the transferring member or one or more of its associated persons has a covered pending arbitration claim, unpaid arbitration award or unpaid settlement related to an arbitration, and the member is not otherwise required to file a CMA, unless the member first seeks a materiality consultation for the contemplated acquisition or transfer and the Department has determined that the member is not required to file a CMA for approval of the acquisition or transfer.4

        As further detailed below, "covered pending arbitration claims" for purposes of the proposed amendments are those whose amount (either individually or in the aggregate) exceed the member's excess net capital. In conducting its materiality consultation and determining whether a CMA is required, the Department would consider the risk that the proposed business expansion, acquisition or transfer would result in non-payment of an arbitration claim if it goes to award, or the continued non-payment of an arbitration award or settlement related to an arbitration, and would permit transactions to proceed where there is no material risk of non-payment.

        Proposed Amendments

        A. Standards for Admission

        Rule 1014(a) sets forth 14 standards for admission applied by the Department in determining whether to approve an NMA or a CMA. Currently, Rule 1014(a)(3) specifies the factors that the Department considers to determine an applicant's ability to comply with the federal securities laws, the rules and regulations thereunder, and FINRA rules, including observing high standards of commercial honor and just and equitable principles of trade. The standard enumerates factors that the Department will consider when making this assessment, some of which have a presumption of denial.

        One such factor in Rule 1014(a)(3)(C) to be considered by the Department, and that creates a presumption of denial, is whether the applicant, its control persons, principals, registered representatives, other associated persons, any lender of five percent or more of the applicant's net capital, and any other member with respect to which these persons were a control person or a five percent lender of its net capital is subject to unpaid arbitration awards, other adjudicated customer awards or unpaid arbitration settlements.

        The rebuttable presumption does not apply, however, to pending arbitration claims. As noted above, today, the Department considers if an applicant's or its associated person's record reflects a pending arbitration in determining if the applicant meets the standard for admission under Rule 1014(a)(3), but a record of a pending arbitration does not create a presumption of denial.

        FINRA is concerned about new members onboarding principals and registered representatives with pending arbitration claims without the firm having to demonstrate how those claims would be paid if they go to award. In addition, FINRA is concerned about the new firm's supervision of such individuals who may have a history of non-compliance. Accordingly, FINRA is proposing to amend Rules 1014(a) and (b) to specify that a presumption of denial exists if the new member applicant or its associated persons are subject to pending arbitration claims. Creating a presumption of denial in connection with pending arbitration claims for NMAs would shift the burden to the new member to demonstrate how its claims would be paid should they go to award. In addition, it would shine a spotlight on the individuals with the pending arbitration claims and the firm's supervision of such individuals.

        This presumption of denial for pending arbitration claims would not apply to a member firm filing a CMA. Instead, consistent with today's practice, the Department would consider if an applicant's or its associated person's record reflects a pending arbitration in determining if the applicant meets the standards for continued membership, but the record of a pending arbitration would not create a presumption of denial.5

        In addition, to allow an applicant to demonstrate that it has the resources to satisfy such claims (with respect to a new member applicant), as well as unpaid arbitration awards and unpaid arbitration settlement agreements, FINRA is proposing to add new supplementary material to Rule 1014 to provide that an applicant can overcome the presumption of denial, if the applicant demonstrates its ability to satisfy the pending arbitration claims (with respect to a new member applicant), unpaid arbitration awards, other adjudicated customer awards or unpaid arbitration settlements. The applicant could demonstrate its ability to satisfy such obligations through an escrow agreement, insurance coverage, a clearing deposit, a guarantee, a reserve fund, or the retention of proceeds from an asset transfer, or such other forms that the Department may determine to be acceptable.6 The applicant could provide a written opinion of an independent, reputable U.S. licensed counsel knowledgeable in the area as to the value of the arbitration claims (which might be zero). Any demonstration by an applicant of its ability to satisfy these outstanding obligations would be subject to a reasonableness assessment by the Department.
        B. Materiality Consultation for Business Expansions and Asset Acquisitions and Transfers
        1. Business Expansions

        To help further incentivize payment of arbitration awards, FINRA is proposing not to permit a member to effect a business expansion that would involve adding one or more associated persons with a "covered pending arbitration claim," unpaid arbitration award or unpaid settlement related to an arbitration, and the member is not otherwise required to file a CMA, unless the member first seeks a materiality consultation for the contemplated expansion with the Department and the Department determines that the member may effect the contemplated business expansion without a CMA.

        For purposes of a business expansion, FINRA is proposing to define a "covered pending arbitration claim" as: (1) an investment-related, consumer-initiated claim filed against the associated person that is unresolved; and (2) whose claim amount (individually or, if there is more than one claim, in the aggregate) exceeds the member's excess net capital. For purposes of this definition, the claim would include only claimed compensatory loss amounts, not requests for pain and suffering, punitive damages or attorney's fees.

        Rule 1017(a) provides, among other things, that a member shall file a CMA for a material change in business operations. A "material change in business operations" includes: (1) removing or modifying a membership agreement restriction; (2) market making, underwriting or acting as a dealer for the first time; and (3) adding business activities that require a higher minimum net capital under SEA Rule 15c3-1. IM-1011-1 creates a safe harbor for specified changes that are presumed not to be a "material change in business operations" and, therefore, do not require a member to file a CMA for approval of the change. One such change includes increases in the number of associated persons involved in sales within the parameters prescribed in the safe harbor.

        Currently, the materiality consultation process is used when a member contemplates a change in business operations that may not squarely fall within one of the categories or definitions that would require a CMA under Rule 1017 and the member firm seeks guidance to determine how best to proceed with the proposed change by voluntarily seeking a materiality consultation from the Department. A request for a materiality consultation is a written request from a member firm for a determination from the Department of whether a proposed change is material. There is no fee associated with submitting this request to the Department. The characterization of a proposed change as material depends on an assessment of all the relevant facts and circumstances. The Department may communicate with the member firm to obtain further information regarding the proposed change and its anticipated impact on the member firm. Where the Department determines that a proposed change is material, the Department will instruct the member to file a CMA if it intends to proceed and will advise that effecting the change without approval would constitute a violation of NASD Rule 1017.

        FINRA is concerned that the definition of a material change in business operations and the availability of the safe harbor for business expansions could allow a member to, for example, onboard principals and registered representatives with substantial pending arbitration claims without consideration as to the supervision of those individuals.

        Accordingly, FINRA is proposing to add IM-1011-2 (Business Expansions and Covered Pending Arbitration Claims) to provide that if a member is seeking to add one or more associated persons involved in sales and one or more of those associated persons has a covered pending arbitration claim, an unpaid arbitration award or an unpaid settlement related to an arbitration, and the member is not otherwise required to file a CMA, the member may not effect the contemplated business expansion unless the member has first submitted a written letter to the Department, in a manner prescribed by FINRA, seeking a materiality consultation for the contemplated business expansion and the Department determines that the member is not required to file a CMA in accordance with Rule 1017 and may effect the contemplated business expansion. Thus, under such circumstances, a member would not be able to avail itself of the safe harbor for business expansions.

        The materiality consultation would allow the Department to, among other things, assess the nature of the anticipated activities of the principals and registered representatives with the arbitration claims; the impact on the firm's supervisory and compliance structure, personnel and finances; and any other impact on investor protection raised by adding the principals and registered representatives.

        The Department would consider the letter and other information or documents provided, and determine in the public interest and the protection of investors that either: (1) the member is not required to file a CMA in accordance with Rule 1017 and may effect the proposed business expansion; or (2) the member is required to file a CMA in accordance with Rule 1017 and the member may not effect the proposed business expansion unless the Department approves the CMA.

        If the Department determines that a member must file a CMA, the member's application would be subject to the full membership application process, including a review of any record of a pending arbitration and the presumption of denial with respect to any unpaid arbitration awards, other adjudicated customer awards or unpaid arbitration settlements.
        2. Asset Acquisitions and Transfers

        In addition, FINRA believes that member firms engaging in asset acquisitions or transfers that have covered pending arbitration claims, unpaid arbitration awards or unpaid settlement agreements related to an arbitration should be required to seek a materiality consultation for the contemplated acquisition or transfer. Under the current requirements for filing a CMA, a member must file an application for approval for direct or indirect acquisitions or transfers of 25 percent or more in the aggregate of the member's assets or any asset, business or line of operation that generates revenues composing 25 percent or more in the aggregate of the member's earnings measured on a rolling 36-month basis, unless both the seller and acquirer are members of the New York Stock Exchange (NYSE).7 FINRA is concerned that this 25 percent threshold permits firms with pending claims that ultimately produce awards to avoid satisfying those awards by transferring assets without encumbrance and then closing down.

        Accordingly, FINRA is proposing not to permit any direct or indirect acquisitions or transfers of a member's assets or any asset, business or line of operation where the transferring member or an associated person of the transferring member has a covered pending arbitration claim, unpaid arbitration award or unpaid settlement related to an arbitration, and the member is not otherwise required to file a CMA, unless the member has submitted a written letter to the Department, in a manner prescribed by FINRA, seeking a materiality consultation for the contemplated transfer and the Department has determined that the member is not required to file for approval of the transfer. As part of the materiality consultation, the Department would consider the letter and other information or documents provided by the member to determine if the acquisition or transfer could result in non-payment of an arbitration claim should it go to award, or the continued non-payment of an arbitration award or settlement related to an arbitration.

        For purposes of this proposed amendment, FINRA is proposing to define a "covered pending arbitration claim" as: (1) an investment-related, consumer initiated claim filed against the transferring member or its associated persons that is unresolved; and (2) whose claim amount (individually or, if there is more than one claim, in the aggregate) exceeds the transferring member's excess net capital. The claim amount would include claimed compensatory loss amounts only, not requests for pain and suffering, punitive damages or attorney's fees.

        The proposed materiality consultation would allow the Department to consider whether the transferring member has documentation with regard to the pending arbitration claims and whether the member could pay the claims, or any unpaid arbitration awards or unpaid settlements related to an arbitration, if the member engages in the contemplated transaction. FINRA would make its determination through, for example, discussions with the firm and reviewing relevant documentation and any other information submitted by the firm in the materiality consultation process.

        Following its review, the Department would determine in the public interest and the protection of investors that either: (1) the member is not required to file a CMA in accordance with Rule 1017 and may effect the proposed transaction; or (2) the member is required to file a CMA in accordance with Rule 1017 and the member may not effect the proposed transaction unless the Department approves the CMA.

        If the Department determines that a member must file a CMA, the member's application would be subject to the full membership application process, including a review of any record of a pending arbitration and the presumption of denial with respect to any unpaid arbitration awards, other adjudicated customer awards or unpaid arbitration settlements.
        3. Other Proposed Amendments
        a. Notification of Changes

        FINRA also proposes to amend Rules 10138 and 1017 to add a new provision to require an applicant to provide prompt notification, in writing, of any pending arbitration claim that is filed, awarded, settled or becomes unpaid before a decision constituting final action of FINRA is served on the applicant. Any such pending claim (for a new member applicant), unpaid arbitration award or unpaid arbitration settlement would result in the Department being able to presumptively deny the application under the standards in Rule 1014(a)(3) and the ability of the applicant to overcome such presumption by demonstrating its ability to satisfy its obligation as discussed above.
        b. Effecting Change and Imposition of Interim Restrictions

        Rule 1017(c) sets forth the timing and conditions for effecting a change under Rule 1017. Under paragraph (1), an application for a change in ownership or control requires an application for approval to be filed at least 30 days prior to the proposed change. While a member may effect the change prior to the conclusion of the Department's review of the application, the Department may place interim restrictions on the member based upon the standards in Rule 1014 pending a final determination. Under paragraph (2), a member may file an application to remove or modify a membership agreement restriction at any time, but such existing restriction shall remain in effect during the pendency of the proceeding. Finally, paragraph (3) permits a member to file an application for approval of a material change in business operations at any time but the member may not effect such change until the conclusion of the proceeding, unless the Department and the member otherwise agree.

        FINRA proposes to amend Rule 1017(c) by adding new paragraph (4) that would provide that notwithstanding the existing conditions under paragraphs (1) through (3), where a member or an associated person has an unpaid arbitration award or unpaid settlement agreement related to an arbitration at the time of filing an application under Rule 1017, the member may not effect such change until the member has demonstrated its ability to satisfy such obligation in accordance with Rule 1014 and the proposed supplementary material, as discussed above.

        Economic Impact Assessment

        A. Need for the Rule

        The MAP rules are intended to promote investor protection by applying uniform standards for admission to FINRA as a member firm, and for the review of changes to a current member firm's ownership, control, or business operations. For new and continuing member applications, however, the MAP rules do not take as strong of an approach with respect to the issue of pending arbitrations as they do with respect to the issue of unpaid arbitration awards and unpaid settlements related to an arbitration. The MAP rules also include a safe harbor from having to file a CMA for changes presumed not to be material, and a 25 percent threshold above which member firms must file a CMA for asset acquisitions and transfers. These provisions reduce the Department's ability to oversee changes to the business of member firms. The proposed amendments would strengthen the MAP rules when claimants and investors may need additional protections.
        B. Economic Baseline

        The economic baseline for the proposal is the current set of MAP rules. The MAP rules include the non-presumption of denial for pending arbitration claims for NMAs and CMAs, the definition of a material change in business operations and the availability of the safe harbor for some business expansions, and the requirements for a member firm to file a CMA relating to asset acquisitions and transfers.

        The proposed amendments would affect new member applicants (and their associated persons) if the applicant or an associated person is subject to a pending arbitration claim. In addition, the proposed amendments would affect member firms (and their associated persons) that, but for the proposed amendments, may not file a CMA because they believe the contemplated transaction is not a material change in business operations or avail themselves of the safe harbor for business expansions. The proposed amendments would also affect member firms (and their associated persons) that, but for the proposed amendments, would not be required to file a CMA due to reliance on the provision relating to asset acquisitions and transfers. Lastly, the proposed amendments would affect the claimants to arbitrations filed against the applicant or an associated person of the applicant, and other investors exposed to individuals or firms with a history of non-compliance.

        Currently, claimants to arbitration claims or awards are at risk for non-payment when the individuals or firms responsible for those claims or awards actively maneuver to avoid payment. For instance, individuals may join a new firm without being required to demonstrate an ability to pay should the claim go to award. Further, member firms may transfer assets or engage in similar transactions, in an attempt to avoid payment of arbitration awards.

        When deciding NMAs and CMAs, the Department considers pending arbitration claims and unpaid arbitration awards and unpaid settlements related to an arbitration. The Department, however, may not have the ability to ascertain how new member applicants would pay pending arbitration claims if they go to award. In addition, the Department may not receive notification from member firms of business expansions and asset acquisitions and transfers. In these instances, the Department is not able to review any related pending arbitration claims or unpaid arbitration awards or settlements related to an arbitration. Claimants to these arbitrations may therefore be at a greater risk for nonpayment of awards or settlements.

        The Department received 246 NMAs from January 2015 to December 2016. Among these applications, FINRA staff identified few new member applicants or their associated persons as having a pending arbitration claim at the time of the NMA filing. Among the 246 NMAs, FINRA staff identified seven NMAs (or three percent) as having a pending arbitration claim at the time of the filing.9

        The Department also received 786 CMAs from January 2015 to December 2016. The Department does not receive notice from member firms that do not file a CMA, including those member firms that do not file a CMA because they either believe the contemplated transaction is not a material change in business operations or they avail themselves of the safe harbor for business expansions or the provision relating to asset acquisitions and transfers. The number of these transactions, therefore, is not known to the staff.

        The member firms identified above as not providing notice may be different from the member firms that currently file a CMA. Thus, the sample only provides a potential indication of the scope of the proposed amendments. Of the CMAs that member firms filed, 276 CMAs related to material changes in business operations. These CMAs could have related to an increase in one or more associated persons involved in sales, or could have related to other business expansions that required the filing of a CMA. Another 122 CMAs related to asset acquisitions (nine) and transfers (113). FINRA staff identified 35 (or 29 percent) as having pending arbitration claims or unpaid arbitration awards or settlements related to an arbitration at the time of the filing.10
        C. Economic Impact

        The proposed amendments are designed to enhance the review of membership applications by strengthening the MAP rules in relation to pending arbitration claims, as well as unpaid arbitration awards and unpaid settlements related to arbitrations.

        The proposed amendments would shift the burden to the new member applicant to demonstrate how pending arbitration claims would be paid if they go to an award. The proposed amendments would also help to ensure that member firms are not engaging in business expansions or asset acquisitions and transfers to avoid the payment of arbitration claims should the claims go to award.

        The proposed amendments would benefit claimants by decreasing the risk that firms are avoiding the payment of awards by shifting their assets, including capital and customer accounts, to another firm. A decrease in the ability of firms to avoid satisfying their arbitration awards in this manner could result in a higher likelihood that arbitration claims that eventually go to award are paid in full in accordance with their terms. The proposed amendments would also benefit investors by increasing the oversight of associated persons who may have a history of non-compliance.

        The proposed amendments would impose both direct and indirect costs on new member applicants. New member applicants with pending arbitration claims would incur direct costs to demonstrate their ability to satisfy pending arbitration claims. These costs include the time and expense of firm staff and outside experts to demonstrate the ability to satisfy the claims. New member applicants could also incur the costs to notify FINRA of changes to pending arbitration claims.11 In addition, they could incur the opportunity costs associated with setting aside funds that could otherwise be used for new business. A new member applicant could incur more opportunity costs than is necessary if it sets aside more capital than the actual award amount.

        New member applicants could also incur indirect costs if the rebuttal process delays the applicant's ability to begin earning revenues or otherwise negatively impacts the business. The magnitude of these costs is related to the ability of the new member applicant and FINRA to adequately gauge the likelihood of an award and the size of the award (conditional on its grant). However, as noted above, FINRA estimates that few associated persons related to new member applicants have pending arbitration claims at the time of the filing.12 Most new member applicants are therefore unlikely to be affected by the proposed amendments.

        Member firms that are seeking to add one or more associated persons involved in sales or an asset transfer or acquisition, and are not otherwise required to file a CMA, would incur the direct costs associated with seeking a materiality consultation. The direct costs of a materiality consultation include the expense to hire outside experts (where applicable), the time of firm staff, and the expense to submit documentation describing the covered pending arbitration claim as well as the ability of the firm to pay the claim should it go to award.

        Member firms that seek a materiality consultation would also incur costs that are dependent on its outcome. If the member firm does not have to file a CMA, the only additional cost would be the delay in effecting the contemplated expansion or transaction. A delay could negatively impact the value of the expansion or transaction, and potentially lead to a loss of business opportunities. Given the experience of FINRA staff, this delay is anticipated to be small as the time for a materiality consultation averages approximately ten days; although this time period could be longer depending on the complexity of the contemplated expansion or transaction.

        Alternatively, if the member firm must file a CMA, the costs to member firms would increase. The increase in costs relate to the fees associated with a CMA, time of firm staff, the submission of documentation, and the notification of changes to any pending arbitration claim.13 The filing of a CMA would also delay the effectuation of the contemplated expansion or transaction. In the event of a delay, member firms, associated persons and the customers of member firms could lose the benefits associated with lost business opportunities. A determination that a CMA must be filed, however, would indicate that the risks to claimants, and therefore the potential benefits of a closer examination, would be higher. If the actual risks to claimants are low (e.g., the amount awarded is a small percentage of that claimed), then the higher costs to member firms would not correspond to a similar increase in benefits.

        FINRA believes that the proposed definition of a covered pending arbitration claim would mitigate the risk that a member firm would be required to file a CMA when the risk to claimants is small. Only pending arbitration claims (individually or, if there is more than one claim, in the aggregate) that exceed the member's excess net capital would trigger a materiality consultation. Member firms, however, could become more constrained in their future business activities to the extent that those activities would require additional capital. Future business activities that require additional capital could increase the likelihood of a materiality consultation in the event of a business expansion or asset acquisition or transfer. As noted above, the evidence suggests that a number of member firms that engage in asset acquisitions or transfers could have covered pending arbitration claims and, therefore, would be required to seek a materiality consultation with the Department to determine if they must file a CMA.14

        Lastly, member firms that file a CMA would not be able to effect the transaction if at the time of filing the application, the member firm or an associated person has an unpaid arbitration award or unpaid settlement related to an arbitration. Although this aspect of the proposed amendments would increase the likelihood of payment, it could also delay the effectuation of the transaction. A delay could cause member firms, associated persons, and the customers of member firms to lose the benefits associated with lost business opportunities.
        D. Alternatives Considered

        FINRA considered a range of suggestions in developing the proposal. The proposal reflects the changes that FINRA believes at this time to be the most appropriate for the reasons discussed herein.

        An alternative that FINRA considered involved proposing a presumption of denial for pending arbitration claims for CMAs. This alternative would increase the costs to member firms associated with CMAs. Member firms would incur costs to demonstrate their ability to satisfy the claims, as well as the opportunity costs associated with setting aside funds that could otherwise be used for other business opportunities. A presumption of denial, however, would reduce concern with respect to how the pending arbitration claims would be paid if they go to award. FINRA requests comment below as to whether there are circumstances under which member firms that file a CMA should have a presumption of denial for pending arbitration claims.

        Other alternatives that FINRA considered include the elimination of the safe harbor to file a CMA for changes presumed not to be material, and the elimination of the 25 percent threshold to file a CMA for asset acquisitions and transfers. These alternatives would increase the number of member firms that file a CMA. The member firms that would file a CMA under this alternative would incur additional costs. FINRA staff believes that the requirement under the proposed amendments for member firms to instead seek a materiality consultation would provide for additional investor protections while minimizing the costs to member firms.

        Request for Comment

        FINRA is interested in receiving comments on all aspects of the proposed amendments. In particular, FINRA requests comment on the following:

        1. Should FINRA consider proposing to apply a presumption of denial in connection with pending arbitration claims and CMAs? If so, under what circumstances?
        2. If an applicant designates a clearing deposit or the proceeds from an asset transfer for purposes of demonstrating its ability to satisfy a pending arbitration claim, unpaid award or unpaid arbitration settlement, should FINRA require the applicant to provide some form of guarantee that the funds would be used for that purpose?
        3. The proposed amendments would not permit any direct or indirect acquisitions or transfers of a member's assets or any asset, business or line of operation where one or more of the transferring member's associated persons has a covered pending arbitration claim, unpaid arbitration award or unpaid settlement related to an arbitration, unless the member first seeks a materiality consultation for the contemplated acquisition or transfer and the Department has determined that the member is not required to file a CMA for approval of the acquisition or transfer. Should the proposed amendment be limited to principals, control persons or officers? Please explain.
        4. Are there any material economic impacts associated with the proposed definition of a "covered pending arbitration claim"? Should FINRA include in the definition only those pending arbitration claims filed prior to a specified time period or event? For example, should FINRA limit the definition of a covered pending arbitration claim to those claims filed prior to public announcement of the contemplated transaction? Please explain.
        5. Are there any material economic impacts, including costs and benefits, to investors, issuers and firms that are associated specifically with the proposed amendments? If so: a) What are these economic impacts and what are their primary sources? b) To what extent would these economic impacts differ by business attributes, such as size of the firm or differences in business models? c) What would be the magnitude of these impacts, including costs and benefits?
        6. Are there any expected economic impacts associated with the proposed amendments not discussed in this Notice? What are they and what are the estimates of those impacts?

        1. Persons submitting comments are cautioned that FINRA does not redact or edit personal identifying information, such as names or email addresses, from comment submissions. Persons should submit only information that they wish to make publicly available. See Notice to Members 03-73 (Online Availability of Comments) (November 2003) for more information.

        2. See SEA Section 19 and rules thereunder. After a proposed rule change is filed with the SEC, the proposed rule change generally is published for public comment in the Federal Register. Certain limited types of proposed rule changes take effect upon filing with the SEC. See SEA Section 19(b)(3) and SEA Rule 19b-4.

        3. In addition, FINRA intends to transfer the NASD Rule 1010 Series (Membership Proceedings), which governs FINRA's membership application program to the FINRA Rule 1000 Series in the Consolidated FINRA Rulebook, either as part of this proposal or a separate rulemaking. For purposes of this Notice, all references to the MAP rules will be to the NASD Rule 1010 Series. The proposed amendments would also update cross-references and make other non-substantive, technical changes, and make corresponding changes to the Forms NMA and CMA. FINRA is separately developing changes to the MAP rules in connection with the retrospective review of this rule set. See Retrospective Rule Review Report—Membership Application Rules and Processes (March 2016) at http://www.finra.org/sites/default/files/RetroRuleReview-03-2016.pdf.

        4. These changes would not prevent other slower ways of closing down potentially to avoid arbitration awards, such as the firm terminating while the registered representatives moved en masse to another firm. Note that in this case the new firm would need the customers' individual consent to transfer their accounts, rather than moving them as a group based on a negative consent notice as permitted when the terminating firm arranges for transfer of the accounts.

        5. FINRA is continuing to consider under what circumstances a presumption of denial in connection with pending arbitration claims and CMAs may be appropriate.

        6. FINRA is considering whether to provide that, if an applicant designates a clearing deposit or the proceeds from an asset transfer for purposes of demonstrating its ability to satisfy a pending arbitration claim, unpaid award or unpaid arbitration settlement, the applicant would have to provide some form of guarantee that the funds would be used for that purpose.

        7. See NASD Rule 1017(a). Other events that require a member to file a CMA for approval before effecting the proposed event include:

        •   a merger of the member with another member, unless both members are members of the NYSE or the surviving entity will continue to be a member of the NYSE;
        •   a direct or indirect acquisition by the member of another member, unless the acquiring member is a member ofthe NYSE;
        •   a change in the equity ownership or partnership capital of the member that results in one person or entity directly or indirectly owning or controlling 25 percent or more of the equity or partnership capital; or
        •   a material change in business operations as defined in NASD Rule 1011(k).

        8. Rule 1013 sets forth the requirements for the filing of an NMA, including how to file the documents that must be submitted with the application, the ability of the Department to request additional documentation and to reject an application that is "not substantially complete," and the process and information needed for conducting membership interviews.

        9. The seven NMAs relate to four arbitration claims filed against associated persons. Of the four pending arbitration claims, three related to customer claims. One of the customer claims resulted in a settlement, and two were withdrawn. The total amount of compensatory damages sought by customers was over $500,000 (including the claims that resulted in a settlement). The fourth claim was an industry claim that resulted in a $4.5 million award. FINRA staff is not able to identify an NMA in the sample that relates to an unpaid award or an unpaid settlement related to an arbitration.

        10. FINRA staff identified 211 pending customer arbitration claims relating to the 35 CMAs including claims made against both member firms and associated persons of member firms. Of the 211 pending arbitration claims, 16 claims resulted in an arbitration award in favor of customers, 37 claims resulted in no arbitration award (including cases withdrawn), 131 claims resulted in a settlement, and 27 claims were still pending. Customers requested a total of $244 million in compensatory relief (including the claims that resulted in a settlement); and in the claims resulting in an arbitration award in favor of customers, customers were awarded approximately $4 million in compensatory damages. Among these member firms, seven reported excess net capital greater than the total compensatory damages customers requested for relief. FINRA staff also identified one CMA in the sample relating to asset acquisitions and transfers where the member firm and an associated person had an unpaid arbitration award of approximately $1.5 million. The member firm later withdrew the CMA and is no longer registered. The associated person was suspended for non-payment of the award. The suspension was later terminated based on evidence of a settlement agreement between the parties.

        11. FINRA staff identified three NMAs as relating to a pending arbitration claim either filed or closed after the filing of the NMA but before the Department's decision. Two of the three NMAs relate to a pending arbitration claim filed after the filing of the NMA. The third NMA relates to a pending arbitration claim that closed prior to the Department's decision.

        12. See supra note 9 and related text.

        13. FINRA staff identified 115 of the 786 CMAs (or 15 percent) as relating to a pending arbitration claim either filed or closed after the filing of the CMA but before the Department's decision. Eighty-six of the CMAs relate to pending arbitration claims filed after the filing of the CMA, and 73 of the CMAs relate to pending arbitration claims that closed prior to the Department's decision. Forty-four of the 115 CMAs had both pending arbitration claims that were filed after the filing of the CMA and had pending arbitration claims that closed prior to the Department's decision. The median number of changes to a pending arbitration claim for the 115 CMAs is two.

        14. See supra note 10 and related text. Customers may have a new incentive to file an arbitration claim for the sole purpose of disrupting a contemplated transaction. This incentive could increase the number of member firms that would be required to seek a materiality consultation and potentially to file a CMA. This new incentive is not reflected in the numbers above. FINRA staff has no reasonable basis on which to predict the frequency of this occurring if the rule proposal is adopted.

      • 18-05 FINRA Requests Comment on the Application of Certain Rules to Government Securities and to Other Debt Securities More Broadly; Comment Period Expires: April 9, 2018

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        Regulatory Notice
        Notice Type

        Request for Comment
        Referenced Rules & Notices

        Exchange Act Sections 3(a)(10), (12), (29) and (42)
        FINRA Rules 0150, 2010, 2241, 2242, 2320, 4370, 5240, 5250, 5270, 5280, 5310, 5320, 6420 and 6710
        NASD Rules 1021, 1022, 1031, 1032 and 1050
        SEA Regulation NMS
        SEC Regulation AC
        Suggested Routing

        Compliance
        Fixed Income
        Investment Banking
        Legal
        Market Making
        Operations
        Research
        Senior Management
        Trading
        Key Topics

        Anti-Intimidation and Coordination
        Customer Order Protection
        Exempted Securities
        Fixed Income Securities
        Front Running
        Government Securities
        Investment Banking
        Market Making
        Research Activities
        Securities Trading
        Trading Ahead
        Treasury Securities

        Government Securities Initiative

        Comment Period Expires: April 9, 2018

        Summary

        FINRA is requesting comment on the application of the following rules to government securities, including U.S. Treasury securities: FINRA Rules 2242 (Debt Research Analysts and Debt Research Reports);1 5240 (Anti-Intimidation/Coordination); 5250 (Payments for Market Making); 5270 (Front Running of Block Transactions); 5280 (Trading Ahead of Research Reports); 5320 (Prohibition Against Trading Ahead of Customer Orders); and NASD Rules 1032(f) (Securities Trader), 1032(i) (Limited Representative—Investment Banking) and 1050 (Registration of Research Analysts).2 In addition, FINRA is requesting comment on the application of FINRA Rule 5320 as well as NASD Rules 1032(f) and 1050 to all debt securities, in addition to government securities.

        Questions regarding this Notice should be directed to:

        •   Afshin Atabaki, Associate General Counsel, Office of General Counsel (OGC), at (202) 728-8902; or
        •   Meredith Cordisco, Associate General Counsel, OGC, at (202) 728-8018.

        Action Requested

        FINRA encourages all interested parties to comment. Comments must be received by April 9, 2018.

        Comments must be submitted through one of the following methods:

        •   Emailing comments to pubcom@finra.org; or
        •   Mailing comments in hard copy to:
        Jennifer Piorko Mitchell
        Office of the Corporate Secretary
        FINRA
        1735 K Street, NW
        Washington, DC 20006-1506

        To help FINRA process comments more efficiently, persons should use only one method to comment.

        Important Note: All comments received in response to this Notice will be made available to the public on the FINRA website. In general, FINRA will post comments as they are received.3

        Background and Discussion

        A number of FINRA rules do not apply to government securities or other exempted securities.4 FINRA Rule 0150 (Application of Rules to Exempted Securities Except Municipal Securities) lists the FINRA rules5 that expressly apply to transactions in, and business activities relating to, exempted securities, including government securities6 (other than municipal securities7).

        In August 2016, the SEC's Division of Trading and Markets, in consultation with the staff of the U.S. Department of the Treasury, requested that FINRA undertake a comprehensive review of its rulebook to identify existing FINRA rules that exclude or do not clearly apply to U.S. Treasury securities (or government securities more generally), and to assess the continuing validity for such exclusions.8 In response, FINRA undertook a review of its rulebook for this purpose.9

        As a result of its review, FINRA identified several rules that apply to exempted securities, including government securities (other than municipal securities), but that are not currently listed in FINRA Rule 0150. These include rules that generally apply to the activities of all FINRA members, without regard to the type of products they sell, such as FINRA Rule 4370 (Business Continuity Plans and Emergency Contact Information).10

        In assessing the application of its rules to government securities, FINRA identified several rules that would benefit from additional industry comment. Specifically, as discussed below, FINRA is requesting comment on the implications of expressly applying FINRA Rules 2242, 5240, 5250, 5270, 5280 and 5320 as well as NASD Rules 1032(f), 1032(i) and 1050 to government securities, including U.S. Treasury securities. FINRA is also requesting comment on the implications of applying FINRA Rule 5320 and NASD Rules 1032(f) and 1050 to other types of debt securities, in addition to government securities.

        FINRA Rule 2242 (Debt Research Analysts and Debt Research Reports)

        FINRA Rule 2242 governs conflicts of interest in connection with the publication of debt research reports and public appearances by debt research analysts. The rule defines "debt research report" to mean any written communication that includes an analysis of a debt security or issuer of a debt security and that provides information reasonably sufficient upon which to base an investment decision. The rule defines "debt security" to mean any security as defined in Section 3(a)(10) of the Exchange Act but excludes, among other securities, U.S. Treasury securities.

        In general, FINRA Rule 2242 requires firms to implement policies and procedures to identify and manage research-related conflicts of interest. Among other things, the policies must restrict or, in some cases, prohibit investment banking and sales and trading and principal trading personnel from the supervision and compensation determination of debt research analysts and research budget determinations. The rule further prohibits promises of favorable research and analyst participation in solicitation of investment banking business and road shows. The rule also requires disclosure of investment banking relationships and other material conflicts of interest, such as personal and firm ownership of a subject company's securities and principal trading of those securities. In addition, the rule specifies the prohibited and permissible interactions between the debt research personnel and sales and trading and principal trading personnel.

        In many ways, FINRA Rule 2242 mirrors FINRA Rule 2241 (Research Analysts and Research Reports), the equity research rule, with respect to debt research distributed to retail investors. However, unlike FINRA Rule 2241, the rule also exempts from many of its provisions and all of the specific disclosure requirements debt research that is distributed only to eligible institutional investors from which the firm has obtained consent to receive the less protected research.

        In explaining the exclusion of U.S. Treasury securities from FINRA Rule 2242, FINRA stated that it was reticent to become involved with direct obligations of the United States.11 However, FINRA differentiated agency securities, which are subject to FINRA Rule 2242, noting that it already required reporting of transactions in those securities to the Trade Reporting and Compliance Engine (TRACE).12 That distinction has since disappeared as FINRA, with the encouragement of the U.S. Department of the Treasury, now requires reporting of trades in U.S. Treasury securities to TRACE. FINRA also notes that FINRA Rule 2242 currently applies to research reports on foreign sovereign securities since many of the conflicts that rule addresses are present with respect to research on those securities. Further, the SEC's Regulation AC does not exclude U.S. Treasury securities from its certification requirements.

        Questions

        1. FINRA Rule 2242 governs conflicts of interest in connection with the publication of debt research reports and public appearances by debt research analysts. Is the nature of conflicts related to research on U.S. Treasury securities similar to those related to other debt securities? Is the magnitude of conflicts related to research on U.S. Treasury securities more than, less than or the same as those associated with other debt securities?
        2. If FINRA Rule 2242 applied to U.S. Treasury securities, firms would be required to establish and implement policies and procedures to identify and manage conflicts of interest if they prepare research on U.S. Treasury securities that does not qualify for an exception to the definition of "debt research report." What are the associated costs of establishing and implementing such policies and procedures? What are the implementation challenges that member firms may face, such as challenges relating to walling off research analysts in U.S. Treasury securities from the government securities trading desk? Are associated costs and implementation challenges similar for small and large member firms?
        3. FINRA understands that there are existing regulations by the U.S. Department of the Treasury and the Board of Governors of the Federal Reserve System on the auction process for U.S. Treasury securities. Given such regulations, would an additional layer of regulation be necessary? What would be the direct and indirect impacts of such additional layer of regulation?
        4. Are there any other potential costs associated with extending the rule to U.S. Treasury securities?
        5. What are the potential benefits of extending the rule to U.S. Treasury securities? Who would potentially be receiving the benefits?

        FINRA Rule 5280 (Trading Ahead of Research Reports)

        FINRA Rule 5280(a) states that no member firm shall establish, increase, decrease or liquidate an inventory position in a security or derivative of such security based on non-public advance knowledge of the content or timing of a research report in that security. FINRA Rule 5280(b) requires a member firm to establish, maintain and enforce policies and procedures reasonably designed to restrict or limit the information flow between research department personnel, or other persons with knowledge of the content or timing of a research report, and trading department personnel, so as to prevent trading department personnel from utilizing non-public advance knowledge of the issuance or content of a research report for the benefit of the firm or any other person.

        The objective of this rule is to prevent an unfair trading advantage for a firm or select customers based on knowledge of non-public research department information that is intended for a broader audience of customers. The rule, therefore, aims to ensure that where a firm chooses to provide information from its research department to its customers that may result in a transaction, it must give those customers priority in acting on the information vis-à-vis the member firm's own trading or that of select customers.

        As FINRA noted in the proposed rule change adopting FINRA Rule 5280 and in an FAQ published in March 2016,13 because of the differing objective of FINRA Rule 5280, the definition of research report in the rule is not only intended to apply to both debt and equity research reports, but also to be broader than the definitions of "research report" and "debt research report" in FINRA Rules 2241 and 2242, respectively. Instead, it captures any written information from the research department that a reasonable person would expect to result in a transaction based on that information. Thus, for example, whereas FINRA Rules 2241 and 2242 exclude research reports distributed to fewer than 15 persons, those communications would be covered by FINRA Rule 5280.

        Questions

        1. The rule currently applies to debt and equity research reports as defined in FINRA Rules 2241 and 2242 as well as to any written information from the research department that a reasonable person would expect to result in a transaction based on that information. Is there any reason to exclude research reports relating to government securities from the scope of the rule?
        2. What are the potential costs, including the costs associated with establishing policies and procedures regarding information barriers, and potential benefits of expressly extending the rule to government securities?

        FINRA Rule 5240 (Anti-Intimidation/Coordination)

        FINRA Rule 5240 generally prohibits member firms and their associated persons from coordinating prices (including quotations) and trades or trade reports with any other person, asking or directing a member firm to alter a price, and attempting, directly or indirectly, to improperly influence any other person. The rule's prohibition includes but is not limited to behavior such as attempts to influence a member firm or associated person to adjust or maintain a price or quotation or other conduct that retaliates against or discourages the activities of another market maker or market participant.

        The rule is designed to prevent behavior that could impair the fair and orderly functioning of the market by prohibiting specific conduct that is inconsistent with just and equitable principles of trade.14 FINRA's policy concerning unlawful coordination and retribution or retaliatory conduct was originally codified by FINRA (then NASD) in 1997 as NASD IM-2110-5 (Anti-Intimidation/Coordination).15 NASD noted at that time that it believed the conduct covered by the rule was already prohibited by then-NASD Rule 2110 (now FINRA Rule 2010 (Standards of Commercial Honor and Principles of Trade)), which requires member firms to observe high standards of commercial honor and just and equitable principles of trade. However, NASD adopted the specific prohibitions of IM-2110-5 as part of an undertaking that NASD agreed to in response to a 1996 SEC report on the activities of certain Nasdaq market makers that impeded price competition in the Nasdaq market.16 FINRA then adopted the language of IM-2110-5 without material change in FINRA Rule 5240 in 2009 as part of FINRA's effort to develop its consolidated rulebook.17

        The rule identifies seven types of business activity by a firm that would not be prohibited, provided such activity is otherwise in compliance with all applicable law: (1) unilaterally setting its own bid or ask in a security at a bona fide price in a bona fide quantity; (2) unilaterally setting its own dealer spread, quote increment or quantity of shares for its quotations; (3) communicating its own bid or ask or bona fide prices or quantities in which it is willing to buy or sell in order to negotiate for or agree to a purchase or sale; (4) communicating its own bid or ask or bona fide prices or quantities in which it is willing to buy or sell to a person to retain that person as an agent or subagent for the member firm or its customer, and to negotiate for or agree to the purchase or sale; (5) underwriting; (6) taking unilateral action or making unilateral decisions regarding which market maker it will trade with and the relevant terms as long as such action is not otherwise prohibited by the rule; and (7) delivering an order to another member firm for handling.

        Questions

        1. The rule is not currently limited to equity securities. However, priced quotes are not as prevalent in the debt markets as in the equities markets, and there is not a "consolidated tape" of transactions. Are the policy goals underlying the rule—promoting price competition and preventing unlawful coordination, retribution and retaliatory conduct—still equally important in the context of debt securities, including government securities? Is there a risk of harm from price coordination or collusion in the government securities markets?
        2. If the rule were extended to government securities, what would be the practical impacts? Would there be a need for any exceptions to the requirements, for example for primary dealers in the government securities market? If so, why?
        3. What are the potential costs and benefits of expressly extending the rule to government securities?

        FINRA Rule 5250 (Payments for Market Making)18

        FINRA Rule 5250 prohibits member firms and their associated persons from accepting any payment or other consideration, directly or indirectly, from an issuer (or an issuer's affiliate or promoter), for publishing a quotation,19 acting as a market maker or submitting an application in connection therewith. The rule contains exceptions that permit a firm to accept: (1) payments for bona fide services, including but not limited to investment banking services; (2) reimbursement of registration and listing fees; and (3) payments provided for under the effective rules of a national securities exchange.

        The rule is designed to assure that member firms act in an independent capacity when publishing a quotation or making a market in an issuer's securities. FINRA's policy concerning payments for market making was originally set forth in Notice to Members 75-16 and later codified as NASD Rule 2460 (now FINRA Rule 5250) in 1997.20 Among other things, FINRA (then NASD) recognized that firms generally have considerable latitude and freedom to make or terminate market-making activities and was concerned that payments by an issuer to a market maker could influence a firm's decision to make a market. In particular, the existence of undisclosed, private arrangements between market makers and an issuer or its promoters may make it difficult for investors to ascertain the true market for the securities.21

        Questions

        1. The rule is not currently limited to equity securities. The rule may have limited applicability to government securities where the "issuer" of such securities is the U.S. government, such as in the case of U.S. Treasury securities. However, the rule may have applicability to other types of government securities, such as government-sponsored enterprise issues, or possibly in the context of payments by a "promoter," which is broadly defined to include, among others, employees, advisors and any other person with a similar interest in promoting the entry of quotations or market making in an issuer's securities. Are payments for market making a meaningful concern in the context of the government securities market?
        2. What are the potential costs and benefits of expressly extending the rule to government securities?

        FINRA Rule 5270 (Front Running of Block Transactions)

        General Prohibition

        FINRA Rule 5270 prohibits trading ahead of customer block transactions. Specifically, the rule prohibits trading, while in possession of material, non-public market information concerning an imminent customer block transaction, in the same security that is the subject of the block transaction as well as any "related financial instrument."22 The reverse is also true: When the imminent block transaction involves a related financial instrument, the rule prevents trading in the underlying security. The rule applies to trading ahead orders for: (1) any account in which a member firm or a person associated with a firm has an interest; (2) any account with respect to which the member firm or associated person exercises investment discretion; or (3) accounts of customers or affiliates of the firm when the customer or affiliate has been provided with the material, non-public market information concerning the imminent block transaction by the firm or associated person. FINRA Rule 5270 provides that the trading prohibitions in the rule apply until the time the information concerning the block transaction has been made publicly available or has otherwise become stale or obsolete.

        Although FINRA Rule 5270 applies to most debt securities, it does not currently apply to block transactions involving government securities, which include U.S. Treasury securities.23 However, in the rule filing to adopt FINRA Rule 5270, FINRA noted that it has long been FINRA's view that front running conduct of the type contemplated by FINRA Rule 5270 in a government security would be prohibited pursuant to FINRA Rule 2010 requiring that member firms observe high standards of commercial honor and just and equitable principles of trade.24 Thus, although general standards of just and equitable principles of trade prohibit firms from trading in front of a customer block order in government securities to benefit the firm, this type of trading activity is not currently subject to the more detailed and specific provisions in FINRA Rule 5270.

        Supplementary Material

        FINRA Rule 5270 includes five separate Supplementary Material provisions addressing different aspects of the rule.

        •   Knowledge of Block Transactions. Supplementary Material .01 provides that the prohibitions in the rule may include transactions that are executed based upon knowledge of less than all of the terms of the block transaction, so long as there is knowledge that all of the material terms of the transaction have been or will be agreed upon imminently.
        •   Publicly Available Information. Supplementary Material .02 provides guidance on when information is deemed to be "publicly available" for purposes of the rule and states that information will be considered "publicly available" when it is disseminated via a last sale reporting system or other similar system and only when the entire block transaction has been completed and publicly reported.
        •   Examples of Block Transactions. Supplementary Material .03 provides that, in the context of equity securities, a transaction involving 10,000 shares or more of a security or a related financial instrument overlying such number of shares is "generally deemed to be a block transaction." The Supplementary Material notes, however, that a transaction of fewer than 10,000 shares could be considered a block transaction.
        •   Permitted Transactions. Supplementary Material .04 lists several types of transactions that would generally not violate FINRA Rule 5270, including transactions that the firm can demonstrate are unrelated to the material, non-public market information received in connection with the customer order (such as where information barriers exist, transactions related to prior customer orders, and transactions to correct errors or offset odd-lot orders) and transactions undertaken for the purpose of fulfilling or facilitating the execution of the customer order.
        •   Front Running of Non-Block Transactions. Supplementary Material .05 notes that, although the prohibitions in FINRA Rule 5270 are limited to imminent block transactions, front running of other types of orders that place the financial interests of the member firm or associated person ahead of those of its customer, or the misuse of knowledge of an imminent customer order, may violate other FINRA rules, including FINRA Rules 2010 and 5320, or provisions of the federal securities laws.

        Questions

        1. The rule is not currently limited to equity securities. If the rule were extended to government securities, would any modifications to the rule be necessary, including to the restrictions on the trading of "related financial instruments," in light of the unique characteristics of the government securities market and the use of government securities as part of larger trading strategies? Are these concerns true across all types of government securities, or are they more significant for certain types of government securities (e.g., "on-the-run" U.S. Treasury securities)?
        2. If the rule were extended to government securities, should FINRA define, or provide guidance on, the types or sizes of transactions in government securities that could be considered "block transactions" for purposes of the rule? What is considered a typical block transaction in the government securities market? Is this the same across all government securities or is it different for different categories of government securities?
        3. Would extending the rule to government securities have an impact on firms' hedging activities or on transactions that are undertaken involving government securities to facilitate other transactions?
        4. What are the potential costs, including the costs associated with establishing policies and procedures regarding information barriers and modifying trading systems, and potential benefits of extending the rule to government securities? Are there operational and business challenges associated with such extension of the rule?
        5. Would extending the rule to government securities have an impact on member firms' ability to execute workup trades?25

        FINRA Rule 5320 (Prohibition Against Trading Ahead of Customer Orders)

        General Prohibition

        FINRA Rule 5320 generally addresses a firm's obligations with respect to handling customer orders in an equity security when also trading proprietarily in the same security. Specifically, the rule prohibits a member firm from trading for its own account in a security on the same side of the market at a price that would satisfy a customer order in the same security, unless it immediately thereafter executes the customer order up to the size and at the same or better price at which it traded for its own account.

        If a member firm trades proprietarily at a price and size that would satisfy a pending customer order in an equity security, a firm would not violate the rule if it "cures" the trading ahead by immediately executing the customer order up to the size and at the same or better price at which it traded for its own account. FINRA has also provided guidance on the timeframe required to meet the "immediately" aspect of the cure obligation (i.e., within one minute of the execution of the proprietary transaction).

        The rule also requires that a member firm have a written methodology in place governing the execution and priority of all pending orders that is consistent with the requirements of FINRA Rules 5310 (Best Execution and Interpositioning) and 5320, and a firm further must ensure that such methodology is consistently applied.

        Exceptions

        FINRA Rule 5320.01 (Large Orders and Institutional Account Exceptions) provides an exception for large-sized customer orders and customer orders from an institutional account, if the member firm has provided the customer clear and comprehensive disclosure at account opening and annually thereafter that it may trade proprietarily at prices that would satisfy the customer order and provides the customer a meaningful opportunity to opt in to the rule's protections. Under the exception, a "large order" in an equity security is an order of 10,000 shares or more (unless such orders are less than $100,000 in value).

        FINRA Rule 5320.02 (No-Knowledge Exception) generally provides firms with an exception for proprietary trading activity that occurs in a separate trading unit where the firm utilizes information barriers that prevent that trading unit from obtaining knowledge of customer orders held at another trading unit. For NMS stocks, all proprietary trading units may be walled off pursuant to the exception, whereas, for OTC equity securities, only non-market making desks may be walled off. Firms relying on the no-knowledge exception are required to comply with FINRA's Order Audit Trail System (OATS) reporting rules by providing a unique identifier on order information where information barriers are in place at departments within the firm where orders are received or originated.

        FINRA Rule 5320.03 (Riskless Principal Exception) generally provides that the prohibitions of the rule would not apply to a member firm's proprietary trade if such proprietary trade is for the purposes of facilitating the execution, on a riskless principal basis, of an order from a customer. Among other things, the exception is conditioned upon member firms submitting a contemporaneous regulatory report identifying the trade as "riskless principal." The firm also must have in place policies and procedures requiring, among other things, that the customer order was received prior to the offsetting principal transaction, that the offsetting principal transaction is at the same price as the customer order (exclusive of any markup or markdown, commission equivalent or other fee), and that the securities be allocated to a riskless principal or customer account in a consistent manner within 60 seconds of execution. Member firms also must have supervisory systems in place that produce records that enable the firm and FINRA to reconstruct accurately, readily, and in a time-sequenced manner all facilitated orders for which the firm relies on this exception.

        FINRA Rule 5320.04 (ISO Exception) provides firms with an exception under certain circumstances for proprietary trading resulting from an intermarket sweep order (ISO) routed in compliance with Rule 600(b)(30)(ii) of SEC Regulation NMS where the customer order is received after the firm routed the ISO. ISO orders are specific to trading in NMS stocks and are not applicable to trading in debt securities.

        FINRA Rule 5320.05 (Odd Lot and Bona Fide Error Transaction Exceptions) provides an exception for a firm's proprietary trade to (1) offset a customer order that is in an amount less than a normal unit of trading; or (2) correct a bona fide error.

        Other Provisions

        FINRA Rule 5320.06 (Minimum Price Improvement Standards) prescribes the minimum amount of price improvement necessary for a member firm to execute an order on a proprietary basis when holding an unexecuted limit order in that same security without violating the rule's requirements. This provision is intended to prevent firms from "pennying" their customer order by trading ahead at a price in a very small increment better than the customer order. It also relies on best bid and offer (BBO) quotation information for calculation of the minimum amount of price improvement required for lower priced securities.

        FINRA Rule 5320.07 (Order Handling Procedures) requires that: (1) a firm must make every effort to execute a marketable customer order that it receives fully and promptly; (2) a firm that is holding a marketable customer order that has not been immediately executed must make every effort to cross such order with any other order received at a price that is no less than the best bid and no greater than the best offer; and (3) in the event a firm is holding multiple orders on both sides of the market that have not been executed, the firm must make every effort to cross or otherwise execute such orders in a manner that is reasonable and consistent with the objectives of the rule and with the terms of the orders.

        Finally, FINRA Rule 5320.08 (Trading Outside Normal Market Hours) provides that member firms generally may limit the life of a customer order to the period of normal market hours of 9:30 a.m. to 4:00 p.m. ET; however, if the customer and firm agree to the processing of the customer's order outside normal market hours, the protections of the rule shall apply to that customer's order(s) at all times the customer order is executable by the firm.

        Questions

        1. The rule is currently limited to equity securities. Should FINRA consider extending the rule to debt securities, including government securities, corporates and other types of TRACE-eligible securities? Are the conflicts related to the prohibition against trading ahead of customer orders in equity securities similar to those for debt securities?
        2. If the rule were extended to debt securities, to what universe of debt securities should it apply—e.g., would "TRACE-Eligible Security," as defined in FINRA Rule 6710 (Definitions), be the appropriate universe?26
        3. The rule currently requires firms to have a written methodology governing the execution and priority of all pending orders in equity securities. Are there any concerns with applying this requirement to debt securities?
        4. If the rule were extended to debt securities, what timeframe should be considered "immediately" within which a member firm must execute a customer order in a debt security following a proprietary trade by the firm under paragraph (a) of FINRA Rule 5320 (for equities, "immediately" means within one minute of the execution of the proprietary transaction)? In addition, should the timeframe to be considered "immediately" differ depending upon the type of debt security at issue (e.g., a U.S. Treasury security versus a corporate bond, a securitized product or other type of debt security)?
        5. If the rule were extended to debt securities, is an exception for institutional accounts sufficient or should an exception for large orders also be adopted? If so, what is the appropriate minimum par value for an order in a debt security to be considered a "large order" and, therefore, not due protection under FINRA Rule 5320 (subject to the disclosure and opt-in conditions of the exception)? Should the "large order" threshold amount differ for different types of debt securities?
        6. If the rule were extended to debt securities, should the no-knowledge exception be available for any proprietary desk, whether market-making or non-market-making?27
        7. If the rule were extended to debt securities, is a riskless principal exception useful for member firms in the debt context? If the riskless principal exception were to apply to debt securities, use of the exception would be subject to the policy and procedures and supervisory systems conditions that exist for equity securities. However, instead of a 60-second allocation timeframe, is 15 minutes more appropriate for all types of debt securities? Are there any other distinctions that should be drawn in the operation of a riskless principal exception for different types of debt securities? Would a "riskless principal" capacity type in TRACE reporting be useful in connection with a riskless principal exception?
        8. FINRA notes that the concept of round and odd lots differ for debt and equities (e.g., in the debt market, trades in less than 100 bonds are common). If the rule were extended to debt securities, should the odd lot exception not apply to debt for this reason? The exception for bona fide errors could be applicable to debt securities. Is this distinction appropriate?
        9. If the rule were extended to debt securities, should any additional exceptions be made available for debt securities?
        10. If the rule were extended to debt securities, the order handling provisions of Supplementary Material .07 would, at a minimum, be modified such that the best bid and offer crossing requirement (i.e., that a member firm make every effort to cross a marketable customer order that has not been immediately executed with any other order received at a price that is no less than the best bid and no greater than the best offer) would not apply to debt securities because best bid and offer information is not widely available for debt securities. The full and prompt execution requirement and the requirement regarding multiple orders would apply. Is this approach to order handling appropriate for debt securities?
        11. If the rule were extended to debt securities, should the rule prescribe a minimum amount of price improvement necessary for a member firm's proprietary trade in a debt security not to be considered trading ahead of a customer limit order? Is this provision necessary to prevent firms from "pennying" their customer order by trading ahead at a price in a very small increment better than the customer order? Should a minimum price improvement amount be prescribed for certain types of debt securities but not others? If so, please explain. The current minimum price improvement provision calculation approach relies on best bid and offer quotation information for lower-priced securities. What would be an appropriate methodology for determining a minimum price improvement amount for debt securities, given that best bid and offer quotation information is not widely available? When placed, are limit orders used differently in the debt market or do they operate differently? Are priced orders used more for certain types of debt securities than others?
        12. Trading in debt securities does not observe the same normal market hours as equity securities. Moreover, uniform normal market hours do not exist for debt securities. For example, the Treasury market is a 24-hour market and platforms that trade debt securities may operate according to differing schedules. In addition, TRACE system hours generally run from 8:00 a.m. ET through 6:29:59 p.m. ET. Thus, if the rule were extended to debt securities, should the rule's protections apply to a customer order at all times the customer order is executable by the member firm?
        13. If the rule were extended to debt securities, are any other modifications to the rule necessary in light of the unique characteristics of debt securities, the market for debt securities, and the current regulatory framework for debt securities, which have not been addressed above? If so, please explain.
        14. Are there potential impacts on firms' ability to provide services to clients on an agency basis, or to engage in principal trading activity, in U.S. Treasury securities?
        15. What are the potential costs and benefits of extending the rule to debt securities? What are the potential direct and indirect impacts of extending the rule in such a manner? Would firms potentially adopt a different compliance regime and alter business practices because of such extension?
        16. What are the potential impacts on trading behavior and liquidity provision by member firms? How likely are clients to be impacted by any potential change in trading behavior?

        NASD Rule 1032(f) (Securities Trader)

        Currently, associated persons engaged in trading are subject to different representative-level qualification and registration requirements depending on whether the trading activity involves an equity or a debt security. Specifically, associated persons engaged in equity trading are subject to the qualification and registration requirements of NASD Rule 1032(f), whereas associated persons engaged in debt trading are subject to the qualification and registration requirements of NASD Rules 1032(a) (General Securities Representative), 1032(e) (Limited Representative—Corporate Securities) or 1032(g) (Limited Representative—Government Securities), as applicable.

        By way of background, in 1995, FINRA (then NASD) became concerned about the escalating number of rule violations by associated persons trading in the equity securities markets. Subsequently, in 1998, NASD adopted NASD Rule 1032(f) with the view that better training and qualification of individuals engaged in equity trading was necessary. Thus, the rule has historically applied to equity or equity-like securities, but not debt securities in general.

        Pursuant to NASD Rule 1032(f), each associated person of a member firm who is included within the definition of "representative" in NASD Rule 1031 (Registration Requirements) is required to register as a Securities Trader if, with respect to transactions in equity (including equity options), preferred or convertible debt securities28 effected otherwise than on a securities exchange, such person is engaged in proprietary trading, the execution of transactions on an agency basis or the direct supervision of such activities.29 The rule provides an exception from the registration requirement for any associated person whose trading activities are conducted principally on behalf of an investment company that is registered with the SEC pursuant to the Investment Company Act of 1940 and that controls, is controlled by, or is under common control with the member firm. Individuals registering as Securities Traders must pass the Securities Trader qualification examination (Series 57).

        Unlike associated persons engaged in equity trading, associated persons engaged in debt trading are not required to pass a specific qualification examination or to register as traders. Rather, associated persons who are included within the definition of "representative" in NASD Rule 1031 and who are trading government securities are required to register as General Securities Representatives or Government Securities Representatives and pass the General Securities Representative qualification examination (Series 7) or the Government Securities Representative qualification examination (Series 72), respectively.30 In addition, associated persons who meet the definition of "representative" and who are trading other types of debt, such as corporate debt, are required to register as General Securities Representatives or Corporate Securities Representatives and pass the Series 7 or the Corporate Securities Representative qualification examination (Series 62), respectively.31

        The principal-level qualification and registration requirements for associated persons supervising trading also vary depending on whether the trading activity involves an equity or a debt security. Paragraph (a)(6) of NASD Rule 1022 (Categories of Principal Registration) currently requires that each associated person who is included within the definition of "principal" in NASD Rule 1021 (Registration Requirements) with supervisory responsibility over the securities trading activities described in NASD Rule 1032(f) register as a Securities Trader Principal.32 To qualify for registration as a Securities Trader Principal, an individual must be registered as a Securities Trader and pass the General Securities Principal qualification examination (Series 24). However, associated persons functioning as principals responsible for supervising debt trading currently are required to register as General Securities Principals and pass the Series 24 examination,33 provided that if their activities are limited solely to the supervision of government securities trading, they may instead register as Government Securities Principals.34

        The debt market constitutes a significant portion of the overall securities market and includes numerous complex product types with unique attributes. Moreover, debt securities are subject to specific laws, rules and regulations, which may require specialized knowledge. For instance, member firms engaged in over-the-counter secondary market transactions in eligible fixed income securities are required to report such transactions to TRACE, which has distinct reporting requirements and conventions.

        Questions

        1. The rule does not currently apply to associated persons who are engaged in the trading of debt securities or their supervisors. Should FINRA extend the existing qualification and registration requirements for Securities Traders to associated persons who are engaged in the trading of debt securities, including the trading of government securities, or in the direct supervision of such activities? Alternatively, should FINRA adopt a separate qualification examination and registration category for associated persons engaged in debt trading and their direct supervisors?
        2. How likely are potential costs to be passed on to associated persons or clients? Are individuals likely to be discouraged from associating with a member firm in a capacity that requires registration? Would a potential increase in the compliance costs lead to any competitive disadvantages for member firms, as some non-FINRA debt dealers would not be subject to similar registration requirements?
        3. Is there a need for a more specialized qualification requirement, such as an expanded Series 57 or a new examination, for debt traders? Would the costs of such requirements be passed on to associated persons or customers? Would some individuals be discouraged from associating with a member firm in a capacity that requires registration based on such requirements? Are there increased compliance costs associated with such requirements and would such costs lead to competitive disadvantages for firms (to the extent that some non-FINRA debt dealers would not be subject to similar requirements)? What are the other costs of such requirements on firms' compliance and supervisory systems, including on supervisors and principals responsible for supervising debt trading? Should associated persons who are currently registered and engaged in debt trading be grandfathered or provided other relief, from any new requirements?

        NASD Rule 1032(i) (Limited Representative—Investment Banking)

        NASD Rule 1032(i) requires each person associated with a member firm who is engaged in specified investment banking activities to register as an Investment Banking Representative and to pass the Series 79 qualification examination. The requirement is triggered if the individual's activities involve:

        •   advising on or facilitating debt or equity securities offerings through a private placement or a public offering, including but not limited to origination, underwriting, marketing, structuring, syndication, and pricing of such securities and managing the allocation and stabilization activities of such offerings; or
        •   advising on or facilitating mergers and acquisitions, tender offers, financial restructurings, asset sales, divestitures or other corporate reorganizations or business combination transactions, including but not limited to rendering a fairness, solvency or similar opinion.

        The rule provides exceptions to the registration requirement for persons whose activities involve only retail or institutional sales and trading activities, advising on or facilitating placement of direct participation program securities (as those activities are defined in the registration requirements for Direct Participation Programs Representatives), or effecting private securities offerings (as those activities are defined in the registration requirements for Private Securities Offering Representatives). There is currently no exception for investment banking activities related to government securities.

        The purpose of this registration provision was to create a core competency examination requirement more specifically tailored to the activities of investment bankers than the more generalized Series 7 qualification examination previously required of most investment bankers. To that end, the triggers for this registration requirement encompass a broad range of investment banking activities, including advising on or facilitating all types of debt and equity offerings, other than the narrow exceptions noted above.35

        Questions

        1. The rule currently applies to debt securities offerings. What are the significant differences between investment banking activities in the government securities market and investment banking activities in the corporate debt space? Are there any specific rules and regulations relating to investment banking activities in the government securities market that would warrant excluding such activities from the scope of the rule?
        2. What are the potential costs and benefits of extending the rule to government securities? How likely are member firms going to be required to register additional associated persons?

        NASD Rule 1050 (Registration of Research Analysts)

        NASD Rule 1050 requires all persons associated with a member firm who are to function as research analysts to register with FINRA as such and pass the Series 86 (Analysis) and Series 87 (Regulatory Administration) qualification examinations.36 For the purposes of the rule, "research analyst" means an associated person whose primary job function is to provide investment research and who is primarily responsible for the preparation of the substance of a research report or whose name appears on a research report. Registration as a General Securities Representative is currently a prerequisite to taking the research analyst qualification examinations.

        The rule became effective in 2004, when only an equity research conflict of interest rule existed. In July 2016, FINRA Rule 2242, a dedicated debt research conflict of interest rule became effective. However, as FINRA noted in proposing FINRA Rule 2242 and in an FAQ after its approval,37 NASD Rule 1050 was not amended and applies only to equity research analysts. FINRA also noted that it was considering whether a similar requirement should apply to debt research analysts.38

        Questions

        1. The rule does not currently apply to debt research analysts or their supervisors. Should FINRA extend the existing qualification and registration requirements for equity research analysts to debt research analysts, including associated persons primarily responsible for the substance of research reports on government securities? Is the current content covered on the Series 86 appropriate for debt research analysts, or should the content be modified? Alternatively, should FINRA adopt a separate qualification examination and registration category for debt research analysts?
        2. Is there is a need for a qualification and registration requirement for debt research analysts? Would some individuals be discouraged from associating with a member firm in a capacity that requires registration based on such requirements? What is the impact of such requirements on firms' compliance and supervisory systems, including on supervisors and principals responsible for supervising debt research analysts? Are there any associated persons primarily responsible for the substance of debt research reports that should be exempted from such requirements based on their job function? Should associated persons who are currently registered and functioning as debt research analysts be grandfathered or provided other relief, from such requirements?

        Other Exempted Securities

        The rules listed in FINRA Rule 0150 are applicable to transactions in, and business activities relating to, other exempted securities39 (excluding municipal securities), depending on the context of a particular rule. For example, FINRA Rule 2320(g) (Member Compensation), which is listed in FINRA Rule 0150, is applicable to group variable contracts that are exempted securities, but not to government securities.

        Question

        1. As a general matter, are there any potential issues with applying the rules discussed in this Notice to other exempted securities (excluding municipal securities)?

        Potential Economic Impact of the Proposals

        The rules discussed above are intended to create benefits for member firms and the investing public. Specifically, these rules, among other things, mitigate the research-related conflicts of interest, prevent an unfair trading advantage for a firm or select customers based on knowledge of non-public research department information, maintain fair and orderly functioning of the markets, assure that member firms act in an independent capacity when publishing a quotation or making a market, and set the qualification and registration requirements for individuals engaged in trading or investment banking activities. However, FINRA also acknowledges that these rules may currently impose compliance costs on member firms, in the form of staffing costs, costs associated with establishing and implementing policies and procedures, fees associated with qualification examinations and registration as well as supervision and monitoring costs. In some instances, compliance with these rules may limit a member firm's ability to transact in a security at a given time and there may be an opportunity cost associated with the restrictions.

        The anticipated costs and benefits associated with expressly applying these rules to government securities and, in some cases, to debt securities more broadly, may be substantially the same or may differ in important ways from the securities already covered by the rules. FINRA invites comment generally and in connection with the questions above on any economic impacts that might be associated with the application of the rules discussed in this Notice to government securities, including U.S. Treasury securities, and other debt securities more broadly. FINRA understands that the application of these rules to government securities and other debt securities may potentially have both direct and indirect impacts on member firms, the government securities market, customers and the investing public. FINRA requests that commenters provide a discussion of the types (direct vs. indirect) and sources (e.g., compliance, staffing or technology) of potential costs and benefits wherever possible.

        Request for Comments

        FINRA seeks comments on the implications of expressly applying the rules discussed in this Notice to government securities, including U.S. Treasury securities, and, in some cases, to debt securities more broadly. In responding to the questions above or in providing general comments, FINRA requests that commenters provide empirical data or other factual support for their comments wherever possible.


        1. FINRA Rule 2242 currently applies to debt securities, including most government securities. However, the rule expressly excludes U.S. Treasury securities.

        2. The SEC approved a proposed rule change to adopt NASD Rules 1032(f), 1032(i) and 1050 as FINRA Rules 1220(b)(4) (Securities Trader), 1220(b)(5) (Investment Banking Representative) and 1220(b)(6) (Research Analyst), respectively, in the consolidated FINRA rulebook. The consolidated FINRA registration rules have been approved by the SEC and will become effective October 1, 2018. See Securities Exchange Act Release No. 81098 (July 7, 2017), 82 FR 32419 (July 13, 2017) (Order Approving File No. SR-FINRA-2017-007); Regulatory Notice 17-30 (October 2017) (SEC Approves Consolidated FINRA Registration Rules, Restructured Representative-Level Qualification Examinations and Changes to Continuing Education Requirements).

        3. Persons submitting comments are cautioned that FINRA does not redact or edit personal identifying information, such as names or email addresses, from comment submissions. Persons should submit only information that they wish to make publicly available. See Notice to Members 03-73 (November 2003) (Online Availability of Comments) for more information.

        4. The term "exempted securities" is defined in Section 3(a)(12) of the Securities Exchange Act of 1934 (SEA or Exchange Act).

        5. Some of these rules have been expressly approved by the Securities and Exchange Commission (SEC). See, e.g., Securities Exchange Act Release No. 37588 (August 20,1996), 61 FR 44100 (August 27, 1996) (Order Approving File No. SR-NASD-95-39). Others were filed with the SEC for immediate effectiveness. See, e.g., Securities Exchange Act Release No. 61747 (March 19, 2010), 75 FR 15470 (March 29, 2010) (Notice of Filing and Immediate Effectiveness of File No. SR-FINRA-2010-010).

        6. The term "government securities" is defined in Section 3(a)(42) of the Exchange Act.

        7. The term "municipal securities" is defined in Section 3(a)(29) of the Exchange Act.

        8. See letter from Stephen Luparello, Director, Division of Trading and Markets, SEC, to Robert W. Cook, President and Chief Executive Officer, FINRA, dated August 19, 2016, available at https://www.sec.gov/divisions/marketreg/letter-to-finra-regulation-of-us-treasury-securities.pdf.

        9. See letter from Robert W. Cook, President and Chief Executive Officer, FINRA, to Stephen Luparello, Director, Division of Trading and Markets, SEC, dated October 17, 2016, available at https://www.sec.gov/divisions/marketreg/letter-from-finra-regulation-of-us-treasury-securities.pdf.

        10. FINRA is considering filing a proposed rule change with the SEC to codify these rules under FINRA Rule 0150(c).

        11. See Securities Exchange Act Release No. 73623 (November 18, 2014) 79 FR 69905, 69922 (November 24, 2014) (Notice of Filing of File No. SR-FINRA-2014-048).

        12. See id.

        13. See Securities Exchange Act Release No. 59254 (January 15, 2009) 74 FR 4271, 4272 (January 23, 2009) (Order Approving File No. SR-FINRA-2008-054) and Research Rules Frequently Asked Questions (FAQ), Applicability of Rule 5280 (Trading Ahead of Research Reports), 01, posted March 4, 2016, available at http://www.finra.org/industry/faq-research-rules-frequently-asked-questions-faq#5280.

        14. See Securities Exchange Act Release No. 59119 (February 2, 2009) 74 FR 6335 (February 6, 2009) (Order Approving File No. SR-FINRA-2008-061).

        15. See Securities Exchange Act Release No. 38845 (July 17,1997) 62 FR 39564 (July 23,1997) (Order Approving File No. SR-NASD-97-37).

        16. See Order Approving File No. SR-FINRA-2008-061, supra note 14.

        17. See id.

        18. In November 2017, FINRA published Regulatory Notice 17-41 announcing its retrospective rule review to assess the effectiveness and efficiency of FINRA Rule 5250 and soliciting comment on the rule. Upon completion of its assessment, FINRA staff will consider appropriate next steps, which may include some or all of the foilowing: modifications to the rule, updated or additional guidance, administrative changes ortechnology improvements, or additional research or information gathering.

        19. "Quotation" is defined under FINRA Rule 5250 as (1) any bid or offer at a specified price with respect to a security, (2) any indication of interest by a member firm in receiving bids or offers from others for a security, or (3) an indication by a firm that it wishes to advertise its general interest in buying or selling a particular security.

        20. See Notice to Members 75-16 (February 20,1975) and Securities Exchange Act Release No. 38812 (July 3, 1997), 62 FR 37105 (July 10, 1997) (Order Approving File No. SR-NASD-97-29).

        21. As stated in the SEC's approval order, "If payments... were permitted, investors would not be able to ascertain which quotations in the marketplace are based on actual interest and which quotations are supported by issuers or promoters. This structure would harm investor confidence in the overall integrity of the marketplace." Securities Exchange Act Release No. 38812, 62 FR at 37107.

        22. A "related financial instrument" is defined as an option, derivative, or other financial instrument that overlies a security that is the subject of an imminent block transaction if the value of the underlying security is materially related to, or otherwise acts as a substitute for, such security, as well as any contract that is the functional economic equivalent of a position in such security.

        23. See Regulatory Notice 12-52, n. 9 (December 2012).

        24. See Securities Exchange Act Release No. 67774 (September 4, 2012), 77 FR 55519, 55520 n.6 (September 10, 2012); see also Regulatory Notice 12-52, n. 9 and Notice to Members 96-66 (October 1996).

        25. In a "workup," the execution of a marketable order opens a short time window where participants can transact additional volume at the same price. For a detailed description of the workup process, please see http://libertystreeteconomics.newyorkfed.org/2015/08/the-evolution-of-workups-in-the-us-treasury-securities-market.html.

        26. FINRA would also clarify the meaning of "equity security" under the rule. Specifically, FINRA would replace the term "equity security" with the terms "NMS stock," as defined in Rule 600 of SEC Regulation NMS, and "OTC equity security," as defined in FINRA Rule 6420, which would make clear that the rule does not apply to options.

        27. The unique identifier requirement would not apply because debt securities would not be subject to the OATS reporting rules.

        28. FINRA included convertible debt securities under the rule because, under specific conditions, convertible debt securities trade similarly to equity securities.

        29. The rule also requires that associated persons primarily responsible for the design, development or significant modification of algorithmic trading strategies (or responsible for the day-to-day supervision or direction of such activities) register as Securities Traders.

        30. See NASD Rules 1032(a) and (g).

        31. See NASD Rules 1032(a) and (e).

        32. The corresponding consolidated registration rule is FINRA Rule 1220(a)(7) (Securities Trader Principal). See supra note 2.

        33. See NASD Rule 1022(a)(1).

        34. Individuals registering as Government Securities Principals are not subject to a principal qualification examination. However, they are required to satisfy the General Securities Representative or Government Securities Representative prerequisite registration. See NASD Rule 1022(h) (Limited Principal–Government Securities).

        35. In addition, NASD Rule 1022(a)(1)(B) currently requires that a General Securities Principal with responsibility over the investment banking activities specified in NASD Rule 1032(i) also satisfy the Investment Banking Representative registration requirement. The corresponding consolidated registration rule is FINRA Rule 1220(a)(5) (Investment Banking Principal). See supra note 2.

        36. Associated persons supervising the conduct of equity research analysts are also subject to specific principal-level qualification and registration requirements. Specifically, NASD Rule 1022(a)(5) requires persons who supervise the conduct of "research analysts" under NASD Rule 1050 to register as Research Principals. The corresponding consolidated registration rule is FINRA Rule 1220(a)(6) (Research Principal). See supra note 2. Currently, a Research Principal is required to be registered as a General Securities Principal and pass either the Series 87 or the Supervisory Analyst qualification examination (Series 16).

        37. See Securities Exchange Act Release No. 73623 (November 18, 2014) 79 FR 69905 (November 24, 2014) (Notice of Filing of File No. SR-FINRA-2014-048) and Research Rules Frequently Asked Questions (FAQ), Registration Requirements, 01, posted March 4, 2016, available at http://www.finra.org/industry/faq-research-rules-frequently-asked-questions-faq#registration.

        38. See Research Rules Frequently Asked Questions (FAQ), Registration Requirements, 01, posted March 4, 2016, available at http://www.finra.org/industry/faq-research-rules-frequently-asked-questions-faq#registration.

        39. Exempted securities, other than government securities, include, for example, interests or participations in specified qualified plans and insurance company contracts, interests or participations in specified church plans, pooled income funds, and various collective investment vehicles that are excluded from the definition of "investment company" under Section 3(c) of the Investment Company Act, and such other securities as determined by SEC rule.

      • 18-04 FINRA and ISG Announce Extension of Effective Date for Certain Electronic Blue Sheet Data Elements and Updates to Certain Requestor and Exchange Codes Effective Date: November 15, 2018; Updates to Requestor and Exchange Codes are Effective Immediately

        View PDF

        Electronic Blue Sheet Submissions

        Regulatory Notice
        Notice Type

        Guidance
        Referenced Rules & Notices

        FINRA Rule 8211
        FINRA Rule 8213
        Notice to Members 05-58
        Notice to Members 06-33
        Regulatory Notice 11-56
        Regulatory Notice 12-36
        Regulatory Notice 12-47
        Regulatory Notice 13-16
        Regulatory Notice 13-38
        Regulatory Notice 15-44
        Regulatory Notice 16-24
        Regulatory Notice 17-05
        SEA Rule 13h-1
        Suggested Routing

        Compliance
        Legal
        Operations
        Senior Management
        Key Topics

        Blue Sheets

        Summary

        FINRA and the other U.S. members of the Intermarket Surveillance Group1 (ISG members) have extended the effective date for compliance with certain data elements for Electronic Blue Sheets (EBS) identified in FINRA Regulatory Notice 15-44 to November 15, 2018. FINRA and the other ISG members are extending the effective date for these data elements to be consistent with the exemptive relief recently granted by the SEC, which extended the compliance date for certain broker-dealer recordkeeping and reporting requirements of SEA Rule 13h-1 (Large Trader Rule) from November 1, 2017, to November 15, 2018.

        FINRA and the other ISG members are also updating certain data elements for EBS in response to Cboe Options Regulatory Circular RG17-144, C2 Options Regulatory Circular RG17-058, CFE Regulatory Circular RG17-014, NYSE MKT Trade Update Dated July 21, 2017, Securities Exchange Act Release Nos. 80325 and 81917. The updates are effective immediately.

        Attachments A to this Notice set forth the EBS record layout and reflect the modifications noted below and changes from the version previously published in FINRA Regulatory Notice 17-05.

        Questions concerning the EBS enhancements should be directed to ebsfaq@finra.org.

        Discussion

        FINRA and the other ISG members have extended the effective date for compliance with certain data elements to be consistent with the exemptive relief provided by the SEC, which recently extended the compliance date for certain broker-dealer recordkeeping and reporting requirements of the Large Trader Rule from November 1, 2017, to November 15, 2018.2 FINRA and the other ISG members are extending the effective date for compliance with certain data elements accordingly, to November 15, 2018.

        The SEC has grouped the Large Trader Rule into three phases for purposes of implementation.

        •   Phase One required clearing broker-dealers for large traders to keep records of and report, upon SEC request, specified data concerning (1) proprietary trades by large traders that are U.S.-registered broker-dealers; and (2) transactions effected by large traders through a sponsored access arrangement.3 Transaction data includes both the large trader identification number (LTID) and execution time. The compliance date for Phase One was November 30, 2012.
        •   Phase Two extended the recordkeeping and reporting requirements for clearing broker-dealers to transactions effected pursuant to a direct market access arrangement.4 As with Phase One, this requires clearing broker-dealers to report Transaction Data that includes both LTID and execution time. With respect to all other types of transactions, the prime broker or other carrying broker broker-dealer that carries an account for a Large Trader will have to report Transaction Data other than execution time, e.g., the applicable LTID. The compliance date for Phase Two was November 1, 2013.
        •   The remaining types of large traders and the transactions not covered by Phases One and Two are covered by Phase Three. Phase Three will therefore apply to all other broker-dealers subject to the recordkeeping and reporting requirements of the rule (i.e., broker-dealers that are large traders but do not self-clear, and broker-dealers effecting transactions directly or indirectly for a large trader where a non-broker-dealer carries the account for the large trader). Phase Three will require all remaining broker-dealers subject to the recordkeeping and reporting requirements of Rule 13h-1 to come into full compliance with those provisions. The compliance date for Phase Three was November 1, 2017,5 and as noted above, has been extended to November 15, 2018.

        Given the SEC's extension of the Phase Three reporting requirements and the corresponding extension of the EBS data elements, broker-dealers must be in EBS reporting compliance by November 15, 2018, for the Order Execution Time, Large Trader Identification Number 1-3 and Large Trader Identification Qualifier fields as outlined in Phase Three of the recordkeeping, reporting and monitoring requirements of SEA Rule 13h-1.

        The EBS fields that are subject to this extension are set forth below and are unchanged from Regulatory Notice 17-05. Attachment A contains additional detail on these fields.

        Order Execution Time, Record Sequence Number Five, Field Position 72 to 77
        Firms should use this record to submit the order execution time in 24-hour format and in Eastern Time formatted as HHMMSS. This information is not limited to the blue sheet transactions relating to the SEC Large Trader Reporting Rule (SEA Rule 13h-1). Please note that all firms must synchronize their time clocks to the atomic clock to maintain an accurate audit trail in connection to the reported execution time.
        Large Trader Identification Number 1, Record Sequence Number Seven, Field Position 2 to 14
        Firms should use this record to submit the Large Trader Identification Number. This information is requested under the approved SEC Large Trader Reporting Rule (SEA Rule 13h-1) requirements.
        Large Trader Identification Number 2, Record Sequence Number Seven, Field Position 15 to 27
        Firms should use this record to submit the Large Trader Identification Number. This information is requested under the approved SEC Large Trader Reporting Rule (SEA Rule 13h-1) requirements.
        Large Trader Identification Number 3, Record Sequence Number Seven, Field Position 28 to 40
        Firms should use this record to submit the Large Trader Identification Number. This information is requested under the approved SEC Large Trader Reporting Rule (SEA Rule 13h-1) requirements.
        Large Trader Identification Qualifier, Record Sequence Number Seven, Field Position 41
        Firms should use this record to submit the Large Trader Identification Qualifier. If more than three LTIDs exist for a transaction, then firms should mark the field "Y" for Yes. Otherwise it should be marked "N" for No. This information is requested under the approved SEC Large Trader Reporting Rule (SEA Rule 13h-1) requirements.
        FINRA and the other ISG members are also updating certain data elements for EBS in response to Cboe Options Regulatory Circular RG17-144, C2 Options Regulatory Circular RG17-058, CFE Regulatory Circular RG17-014, NYSE MKT Trade Update Dated July 21, 2017, Securities Exchange Act Release Nos. 80325 and 81917.6 The updates are effective immediately.

        Attachments A to this Notice set forth the EBS record layout and reflect the modifications noted below and changes from the version previously published in Regulatory Notice 17-05.

        FINRA and the other ISG members have updated the data elements for EBS noted below.

        The following Requestor Codes were updated and a modification was made to Attachment A of this Notice:

        •   NYSE American, LLC = 'B'
        •   The Nasdaq Stock Market, LLC = 'D'
        •   Nasdaq BX, Inc. = 'F'
        •   NYSE National, Inc. = 'G'
        •   Cboe BZX Exchange, Inc. = 'H'
        •   Nasdaq ISE, LLC, Nasdaq GEMX, LLC, Nasdaq MRX, LLC = 'I'
        •   Cboe EDGA Exchange, Inc. and Cboe EDGX Exchange, Inc. = 'J'
        •   Cboe Exchange, Inc. and Cboe C2 Exchange, Inc. = 'K'
        •   Cboe BYX Exchange, Inc. = 'Y'

        The following Exchange Codes were updated and a modification was made to Attachment A of this Notice:

        •   NYSE American, LLC = 'B'
        •   Nasdaq PHLX, LLC = 'D'
        •   Nasdaq BX, Inc. = 'F'
        •   NYSE National, Inc. = 'G'
        •   Cboe BZX Exchange, Inc. = 'H'
        •   Nasdaq ISE, LLC = 'I'
        •   Cboe C2 Exchange, Inc. = 'J'
        •   Cboe Exchange, Inc. = 'K'
        •   Cboe EDGA Exchange, Inc. = 'P'
        •   The Nasdaq Stock Market, LLC, The Nasdaq Options Market, LLC = 'R'
        •   Cboe EDGX Exchange, Inc. = 'V'
        •   For Future Use = 'W'
        •   Nasdaq PSX, LLC = 'X'
        •   Cboe BYX Exchange, Inc. = 'Y'
        •   Nasdaq GEMX, LLC = '1'
        •   Nasdaq MRX, LLC = '2'

        Firms are reminded that failure to properly fill out the EBS fields is a violation of FINRA Rule 8211 or 8213.


        1. The U.S. members of the ISG include the following exchanges and self-regulatory organizations (SROs): Cboe BZX Exchange, Inc., Cboe BYX Exchange, Inc., Cboe Exchange, Inc., Cboe C2 Exchange, Inc., Chicago Stock Exchange, Inc., Cboe EDGA Exchange, Inc., Cboe EDGX Exchange, Inc., FINRA, Nasdaq ISE, LLC, The Nasdaq Stock Market, LLC, Nasdaq BX, Inc., Nasdaq PHLX LLC, Nasdaq PSX, LLC, NYSE National, Inc., New York Stock Exchange, LLC, NYSE American, LLC, NYSE Area, Inc., BOX Options Exchange, LLC, Miami International Securities Exchange, Nasdaq GEMX, LLC, Nasdaq MRX, LLC, Investors Exchange, LLC and MIAX PEARL.

        2. See Securities Exchange Act Release No. 81993 (October 31, 2017), 82 FR 51449 (November 6, 2017) ("Extension Order").

        3. The SEC defines a sponsored access arrangement as one where a broker-dealer permits a customer to enter orders into a trading center without using the broker-dealer's trading system (i.e., using the customer's own technology or that of a third party provider). See Extension Order.

        4. The SEC defines a direct market access arrangement as an arrangement whereby a broker-dealer permits customers to enter orders into a trading center but such orders flow through the broker-dealer's trading systems prior to reaching the trading center. See Extension Order.

        5. The SEC previously extended the compliance date for Phase Three from November 1, 2015, to November 1, 2017, and FINRA and the other ISG members granted a corresponding extension of certain EBS data elements. See Regulatory Notice 15-44 (November 2015).

        6. See Securities Exchange Act Release No. 80325 (March 29, 2017), 82 FR 16445 (April 4, 2017) (Notice of Filing and Immediate Effectiveness of File No. SR-ISE-2017-25) and Securities Exchange Act Release No. 81917 (October 23, 2017), 82 FR 49879 (October 27, 2017) (Notice of Filing and Immediate Effectiveness of File No. SR-NASDAQ-2017-111).


        Attachment A

        Record Layout for Submission of Trading Information

        Field Position Field Length Field Name/Description/Remarks Field Format Justify Picture Clause Default Value
        From To
        ***This record must be the first record of the file***
        1 3 3 FILLER A LJ X(3) HDR
        4 5 2 FILLER A LJ X(2) .S
        6 10 5 DTRK-SYSID N LJ 9(5) 12343
        11 12 2 FILLER A LJ X(2) .E
        13 14 2 FILLER N LJ 9(2) 00
        15 16 2 FILLER A LJ X(2) .C
        17 20 4 DTRK-ORIGINATOR
        Please contact SIAC for assignment at
        efp-support@nyse.com
        A LJ X(4) --
        21 22 2 FILLER A LJ X(2) .S
        23 26 4 DTRK-SUB-ORIGINATOR
        Please contact SIAC for assignment at
        efp-support@nyse.com
        A LJ X(4) --
        27 27 1 FILLER A LJ X(1) B
        28 33 6 DTRK-DATE
        Contains submission date.
        N LJ 9(6) MMDDYY
        34 34 1 FILLER A LJ X(1) B
        35 59 25 DTRK-DESCRIPTION
        Required to identify this file.
        A LJ X(25) FIRM TRADING INFORMATION
        60 80 21 FILLER A LJ X(21) B
        1 1 1 HEADER RECORD CODE Value: Low Values OR ZERO A -- X --
        2 5 4 SUBMITTING BROKER NUMBER
        If NSCC member use NSCC clearing number.
        If not a NSCC member, use clearing number assigned to you by your clearing agency.
        A-R LJ X(4) B
        6 40 35 FIRM'S REQUEST NUMBER Tracking number used by the firm to record requests from an organization. A -- X(35) B
        41 46 6 FILE CREATION DATE Format is YYMMDD A -- X(6) --
        47 54 8 FILE CREATION TIME
        Format is HH:MM:SS
        A -- X(8) --
        55 55 1 REQUESTOR CODE
        Requesting Organization Identification Values:
        A -- X --
          A = New York Stock Exchange  
        B = NYSE American, LLC
        C = Chicago Stock Exchange
        D = The Nasdaq Stock Market, LLC
        E = NYSE Arca
        F = Nasdaq BX, Inc.
        G = NYSE National, Inc.
        H = Cboe BZX Exchange, Inc. (Equity and Options)
        I = Nasdaq ISE, LLC, Nasdaq GEMX, LLC, Nasdaq MRX, LLC
        J = Cboe EDGA Exchange, Inc. and Cboe EDGX Exchange, Inc. (Equity and Options)
        K = Cboe Exchange, Inc. and Cboe C2 Exchange, Inc.
        R = FINRA
        U = BOX Options Exchange, LLC
        X = U.S. Securities and Exchange Commission
        Y = Cboe BYX Exchange, Inc.
        3 = Investors Exchange, LLC
        7 = Miami International Securities Exchange
        8 = MIAX PEARL
        56 70 15 REQUESTING ORGANIZATION NUMBER
        Number assigned by requesting organization
        A LJ X(15) B
        71 80 10 FILLER A -- X(10) B
        1 1 1 RECORD SEQUENCE NUMBER ONE The first record of the transaction. Value: 1 A -- X --
        2 5 4 SUBMITTING BROKER NUMBER Identical to Submitting Broker A-R LJ X(4) --
        6 9 4 OPPOSING BROKER NUMBER The NSCC clearing house number of the broker on the other side of the trade. A-R LJ X(4) B
        10 21 12 CUSIP NUMBER
        The cusip number assigned to the security.
        Left justified since the number is nine characters at present (8+ check
        A LJ X(12) B
        22 29 8 TICKER SYMBOL The symbol assigned to this security. For options (pre-OSI), the OPRA option symbol (space), OPRA expiration month symbol and OPRA strike price symbol should be used. (Ex. Maytag May 20 call option series would be reported as MYG ED. This example uses six spaces in the field with a space between the OPRA symbol and the OPRA expiration month.)
        Post OSI this field must contain OPTIONXX and a Record Sequence Number Six must be completed
        A-R LJ X(8) B
        30 35 6 TRADE DATE
        The date this trade executed.
        Format is YYMMDD.
        A-R -- X(6) B
        36 41 6 SETTLEMENT DATE
        The date this trade will settle.
        Format is YYMMDD
        A -- X(6) B
        42 53 12 QUANTITY
        The number of shares or quantity o bonds or option contracts.
        N-R RJ 9(12) Z
        54 67 14 NET AMOUNT
        The proceeds of sales or cost of purchases after commissions and other charges.
        N RJ S9(12) V99 Z
        68 68 1 BUY/SELL CODE
        Values: 0 = Buy, 1 = Sale, 2 = Short Sale, 3 = Buy Open, 4 = Sell Open, 5 = Sell Close, 6 = Buy Close. A = Buy Cancel, B = Sell Cancel, C = Short Sale Cancel, D = Buy Open Cancel, E = Sell Open Cancel, F = Sell Close Cancel, G = Buy Close Cancel. Value 3 to 6 and D to G are for options
        A-R -- X B
        69 78 10 PRICE
        The transaction price. Format: $$$$
        CCCCCC.
        N-R RJ 9(4) V(6) Z
        79 79 1 EXCHANGE CODE Exchange where trade was executed. Values: A-R -- X B
              A = New York Stock Exchange        
              B = NYSE American, LLC        
              C = Chicago Stock Exchange        
              D = Nasdaq PHLX, LLC        
              E = NYSE Arca        
              F = Nasdaq BX, Inc.        
          G = NYSE National, Inc.  
        H = Cboe BZX Exchange, Inc. (Equity and Options)
        I = Nasdaq ISE, LLC (Options Only)
        J = Cboe C2 Exchange, Inc.
        K = Cboe Exchange, Inc.
        L = London Stock Exchange
        M =Toronto Stock Exchange
        N = Montreal Stock Exchange
        O =TSX Venture Exchange
        P = Cboe EDGA Exchange, Inc.
        Q=FINRA ADF
        R = The Nasdaq Stock Market, LLC, The Nasdaq Options Market, LLC
        S = Over-the-Counter
        T = Tokyo Stock Exchange
        U = BOX Options Exchange, LLC
        V = Cboe EDGX Exchange, Inc. (Equity and Options)
        W = For Future Use
        X = Nasdaq PSX, LLC
        Y = Cboe BYX Exchange, Inc.
        Z = Other
        1 = Nasdaq GEMX, LLC
        2 = Nasdaq MRX, LLC
        3 = Investors' Exchange, LLC
        7 = Miami International Securities Exchange
        8 = MIAX PEARL
        80 80 1 BROKER/DEALER CODE
        Indicate if trade was done for another Broker/Dealer.
        Values: 0 = No; 1 = Yes
        A-R -- X B
        1 1 1 RECORD SEQUENCE NUMBER TWO Value: 2 A -- X --
        2 2 1 SOLICITED CODE Values: 0 = No; 1 = Yes A-R -- X B
        3 4 2 STATE CODE
        Standard Postal two character identification.
        A-R -- X(2) B
        5 14 10 ZIP CODE/COUNTRY CODE
        Zip Code—five or nine character (zip plus four)
        Country code—for future use.
        A-R LJ X(10) B
        15 22 8 BRANCH OFFICE/REGISTERED
        REPRESENTATIVE NUMBER
        Each treated as a four-character field.
        Both are left justified.
        A-R LJ X(8) B
        23 28 6 DATE ACCOUNT OPENED Format is YYMMDD A-R -- X(6) B
        29 48 20 SHORT NAME FIELD Contains last name followed by comma (or space) then as much of first name as will fit. A LJ X(20) B
        49 78 30 EMPLOYER NAME A LJ X(30) B
        79 79 1 TIN 1 INDICATOR Values: 1 = SS#; 2 = TIN A-R -- X B
        80 80 1 TIN 2 INDICATOR
        Values: 1 = SS#; 2 = TIN—for future use.
        A -- X B
        1 1 1 RECORD SEQUENCE NUMBER THREE Value: 3 A -- X --
        2 10 9 TIN ONE
        Taxpayer Identification Number
        Social Security or Tax ID Number.
        A-R LJ X(9) B
        11 19 9 TIN TWO
        Taxpayer Identification Number #2
        Reserved for future use.
        A LJ X(9) B
        20 20 1 NUMBER OF N&A LINES A -- X B
        21 50 30 NAME AND ADDRESS LINE ONE A-R LJ X(30) B
        51 80 30 NAME AND ADDRESS LINE TWO A-R LJ X(30) B
        1 1 1 RECORD SEQUENCE NUMBER FOUR Value: 4 A -- X --
        2 31 30 NAME AND ADDRESS LINE THREE A-R LJ X(30) B
        32 61 30 NAME AND ADDRESS LINE FOUR A-R LJ X(30) B
        62 62 1 TRANSACTION TYPE IDENTIFIERS
        See Attachment B for current codes.
        A-R -- X B
        63 80 18 ACCOUNT NUMBER Account number A-R LJ X(18) B
        1 1 1 RECORD SEQUENCE NUMBER FIVE
        Value: 5
        A -- X(1) --
        2 31 30 NAME AND ADDRESS LINE FIVE A-R LJ X(30) B
        32 61 30 NAME AND ADDRESS LINE SIX A-R LJ X(30) B
        62 65 4 PRIME BROKER
        Clearing number of the account's prime broker.
        A-R LJ X(4) B
        66 66 1 AVERAGE PRICE ACCOUNT
        1= recipient of average price transaction.
        2= average price account itself.
        N-R -- 9(1) Z
        67 71 5 DEPOSITORY INSTITUTION
        IDENTIFIER
        Identifying number assigned to the account by the depository institution.
        A-R LJ X(5) B
        72 77 6 Order Execution Time
        HHMMSS—Time format will be in Eastern Time and 24 hour format.
        A-R LJ -- --
        78 80 3 FILLER A -- X B
        1 1 1 RECORD SEQUENCE NUMBER SIX Value: 6 A -- --  
        2 9 8 DERIVATIVE SYMBOL
        The symbol assigned to the derivative
        A-R LJ -- B
        10 15 6 EXPIRATION DATE
        The date the option expires. Format is YYMMDD
        A-R -- -- B
        16 16 1 CALL/PUT INDICATOR C = Call, P = Put A-R -- -- B
        17 24 8 STRIKE DOLLAR
        The dollar amount of the strike price
        N-R RJ -- Z
        25 30 6 STRIKE DECIMAL
        The decimal amount of the strike price
        N-R LJ -- Z
        31 80 50 FILLER A LJ -- B
        1 1 1 RECORD SEQUENCE NUMBER SEVEN Value: 7 A -- --  
        2 14 13 Large Trader Identification 1 A-R LJ -- Z
        15 27 13 Large Trader Identification 2 A-R LJ -- Z
        28 40 13 Large Trader Identification 3 A-R LJ -- Z
        41 41 1 Large Trader Identification Qualifier A-R LJ -- Z
        42 49 8 Primary Party Identifier
        Identity of the party to the trade that is represented by the Submitting Broker of an EBS. Acceptable values include MPID, CRD or OCC Clearing Number.
        A-R LJ -- B
        50 57 8 Contra Party Identifier
        Identity of the contra party to the trade that is represented by the Opposing Broker of an EBS. Acceptable values include MPID, CRD or OCC Clearing Number.
        A-R LJ -- B
        58 80 23 FILLER A LJ -- B
        1 1 1 TRAILER RECORD DATE One record per submission. Must be the last record on the file. Value: High Values or "9" A -- X --
        2 17 16 TOTAL TRANSACTIONS The total number of transactions. This total excludes Header and Trailer Records. N RJ 9(16) B
        18 33 16 TOTAL RECORDS ON FILE The total number of 80 byte records. This total includes Header and Trailer Records, but not the Datatrak Header Record (i.e., it does not include the first record on the file). N RJ 9(16) Z
        34 80 47 FILLER A -- X(47) B

        Field Format

        A = Alphanumeric (all caps)

        N = Numeric

        P = Packed

        B = Binary

        R = Validation Required

        Default Values

        B = Blanks

        Z= Zero

        Justify

        RJ = Right Justification of Data

        LJ = Left Justification of Data


        Attachment B

        Record Layout for Submission of Trading Information

        Transaction Type Security Type
        Equity* Options
        Agency A C
        Proprietary P F
        Market-Maker   M
        Non-Member Market-Maker/Specialist Account   N
        Customer Range Account of a Broker/Dealer   B
        Error Trade Q  
        Professional Customer   W
        Joint Back Office   J
        Riskless Principal R  

        * Equity securities include those securities that trade like equities (e.g., ETFs and structured products).
        © 2018 FINRA. All rights reserved.

      • 18-03 FINRA Announces Updates of the Interpretations of Financial and Operational Rules

        View PDF

        SEC Financial Responsibility Rules

        Regulatory Notice
        Notice Type

        Guidance
        Referenced Rules & Notices

        Regulatory Notice 08-56
        Regulatory Notice 13-44
        Regulatory Notice 14-06
        Regulatory Notice 14-12
        Regulatory Notice 14-25
        Regulatory Notice 14-38
        Regulatory Notice 15-25
        SEA Rule 15c3-1
        SEA Rule 15c3-3
        SEA Rule 15c6-1
        Suggested Routing

        Compliance
        Finance
        Legal
        Operations
        Regulatory Reporting
        Senior Management
        Key Topics

        Customer Protection
        Net Capital

        Executive Summary

        FINRA is making available updates to interpretations in the Interpretations of Financial and Operational Rules that have been communicated to FINRA by the staff of the SEC's Division of Trading and Markets (SEC staff). The updated interpretations relate to amendments that the SEC adopted to Securities Exchange Act (SEA) Rule 15c6-1 in connection with the standard settlement cycle.1

        Questions concerning this Notice should be directed to:

        •   Yui Chan, Managing Director, Risk Oversight & Operational Regulation (ROOR), at (646) 315-8426 or Yui.Chan@finra.org; or
        •   Adam Rodriguez, Director, Credit Regulation, ROOR, at (646) 315-8572 or Adam.Rodriguez@finra.org.

        Background & Discussion

        On March 22, 2017, the SEC adopted amendments to SEA Rule 15c6-1 in connection with the standard settlement cycle.2 FINRA is updating interpretations in the Interpretations of Financial and Operational Rules that relate to the amendments, as set forth below. Page references are to the hardcopy version. These interpretations are being updated with specific revisions.

        The following interpretations have been revised:

        •   SEA Rule 15c3-1(c)(2)(iv)(E)/11 (Foreign Issued, Foreign Settled Securities—Haircut Alternative to Buy-In for Aged Items) on page 328;
        •   SEA Rule 15c3-3(d)(1)/01 (Margin Section) on pages 2301-2302;
        •   SEA Rule 15c3-3(n)/04 (Date Extensions Due) on page 2562; and
        •   SEA Rule 15c3-3(n)/13 (Reason for Extension Under Paragraph (m)) on pages 2567-2568.

        These interpretation updates are available in portable digital format (pdf) on FINRA's Interpretations of Financial and Operational Rules [http://www.finra.org/industry/interpretationsfor] page.

        Further, SEC staff continues to communicate and issue written and oral interpretations of the financial responsibility and reporting rules. FINRA has previously updated the Interpretations of Financial and Operational Rules on its website in Regulatory Notices 08-56, 13-44, 14-06, 14-12, 14-25, 14-38 and 15-25.

        FINRA member firms and others that maintain the hardcopy version of the Interpretations of Financial and Operational Rules may refer to the accompanying updated pages [http://www.finra.org/sites/default/files/Regulatory-Notice-18-03-Attachment.pdf], containing the aforementioned interpretation updates, which are being made available to enable the replacement of existing pages in the hardcopy version of the Interpretations of Financial and Operational Rules. The filing instructions for the new pages are as follows:

        SEA Rule Remove Old Pages Add New Pages
        15c3-1 328 328
        15c3-3 2301-2302 2301-2302
        15c3-3 2562 2562
        15c3-3 2567-2568 2567-2568

        1. See Securities Exchange Act Release No. 80295 (March 22, 2017), 82 FR 15564 (March 29, 2017) (Securities Transaction Settlement Cycle) (shortening the standard settlement cycle for most broker-dealer transactions from three business days after the trade date ("T+3") to two business days after the trade date ("T+2")). The SEC set September 5, 2017, as the compliance date for the amendments.

        2. See note 1.

      • 18-02 FINRA Requests Comment on Proposed Amendments to FINRA Rule 4521 and New Supplemental Liquidity Schedule; Comment Period Expires: March 8, 2018

        View PDF

        Liquidity Reporting and Notification

        Regulatory Notice
        Notice Type

        Request for Comment
        Referenced Rules & Notices

        FINRA Rule 4521
        FINRA Rule 4524
        FINRA Rule 6710
        Notice to Members 99-92
        Regulatory Notice 10-57
        Regulatory Notice 15-33
        SEA Rule 15c3-3
        SEA Rule 17a-5
        Suggested Routing

        Compliance
        Legal
        Operations
        Regulatory Reporting
        Risk Management
        Senior Management
        Key Topics

        FOCUS Reports
        Liquidity Reporting and Notification
        Supplemental Liquidity Schedule

        Comment Period Expires: March 8, 2018

        Summary

        FINRA is seeking comment on proposed amendments to FINRA Rule 4521 (Notifications, Questionnaires and Reports) that would require specified member firms to notify FINRA no more than 48 hours after specified events that may signal an adverse change in liquidity risk. FINRA also seeks comment on a proposed new Supplemental Liquidity Schedule (SLS) that member firms with the largest customer and counterparty exposures would file as a supplement to the FOCUS Report. On the new SLS, these firms would report information related to specified financing transactions and other sources or uses of liquidity. The information would include among other things financing term, collateral types and large counterparties.

        FINRA is seeking comment on all aspects of the proposed amendments to Rule 4521 and the proposed new SLS (together, referred to as the "proposal"), including the impact of the proposal on market participants. The proposed amendments to Rule 4521 are available as Attachment A. The proposed SLS and instructions to the SLS are available as Attachments B and C, respectively.

        Questions regarding this Notice should be directed to:

        •   Kris Dailey, Vice President, Risk Oversight & Operational Regulation, at (646) 315-8434;
        •   Kathryn E. Mahoney, Director, Financial Operations Policy Group, at (646) 315-8428; or
        •   Adam H. Arkel, Associate General Counsel, Office of General Counsel, at (202) 728-6961.

        Action Requested

        FINRA encourages all interested parties to comment on the proposal. Comments must be received by March 8, 2018.

        Comments must be submitted through one of the following methods:

        •   Emailing comments to pubcom@finra.org; or
        •   Mailing comments in hard copy to:

        Jennifer Piorko Mitchell
        Office of the Corporate Secretary
        FINRA
        1735 K Street, NW
        Washington, DC 20006-1506

        To help FINRA process comments more efficiently, persons should use only one method to comment on the proposal.

        Important Notes: All comments received in response to this Notice will be made available to the public on the FINRA website. In general, FINRA will post comments as they are received.1

        Before becoming effective, a proposed rule change must be authorized for filing with the SEC by the FINRA Board of Governors, and then must be filed with the SEC pursuant to SEA Section 19(b).2

        Background & Discussion

        Effective monitoring of liquidity and funding risks is an essential element of firms' financial responsibility and an ongoing focus for FINRA's financial supervision programs. To that end, FINRA is issuing this Notice to seek comment on proposed amendments to FINRA Rule 4521 (Notifications, Questionnaires and Reports) and on a new Supplemental Liquidity Schedule (SLS) that specified member firms would file as a supplement to the FOCUS Report. The proposed rule amendments and the new SLS, in combination, are tailored requirements that will improve FINRA's ability to monitor for events that signal an adverse change in the liquidity risk of the firms that would be subject to the new requirements.

        Firms' liquidity and funding stress was a significant factor in the financial crisis of 2008.3 Since that time, FINRA has looked closely at firms' liquidity and funding risk management practices.4 Regulatory Notice 10-57 expressed FINRA's expectation that firms develop and maintain robust funding and liquidity risk management practices and discussed examinations that FINRA had conducted of the practices of selected firms. Regulatory Notice 15-33 provided guidance on liquidity risk management practices and described FINRA's review of policies and practices at selected firms related to managing liquidity needs in a stressed environment. FINRA believes that the proposed requirements are a logical complement to ongoing priorities and guidance that FINRA has communicated to firms.

        In developing the proposal, FINRA has engaged in discussions with industry participants and has tailored the proposal to firms with the largest customer and counterparty exposures. As discussed further below, FINRA is seeking comment on all aspects of the proposal, including the proposal's impact on market participants.

        Following is a summary of the key aspects of the proposal.

        New SLS

        The new, proposed SLS is tailored to larger firms and is intended to provide more detailed information about such firms' liquidity profile than is reflected on the FOCUS Report (Part II, Part IIA or Part II CSE, as appropriate). Under the proposal, unless otherwise permitted by FINRA in writing, the SLS is required to be filed by each carrying or clearing FINRA firm with $25 million or more in total credits, as determined pursuant to the customer reserve formula computation as set forth in SEA Rule 15c3-3 Exhibit A, and by each FINRA firm whose aggregate amount outstanding under repurchase agreements, securities loan contracts and bank loans is equal to or greater than $1 billion, as reported on the most recently filed FOCUS Report.5

        These firms would report information related to specified financing transactions and other sources or uses of liquidity.

        Specifically, they would provide detailed reporting as to their reverse repurchase and repurchase agreements, securities borrowed and securities loaned, bank loans and other credit facilities, total available collateral, margin loans, collateral securing margin loans, deposits at clearing organizations, and cash and securities received and delivered on derivative transactions not cleared through a central clearing counterparty. The required information will enable FINRA to more effectively assess these firms' ability to continue to fund their operations and to meet their settlement, customer and counterparty obligations, thereby enabling FINRA to more effectively evaluate these firms' liquidity and funding profiles and to identify higher risk firms. In particular, the information would facilitate FINRA's efforts to distinguish among firms that may have similar balance sheets but very different liquidity risk profiles that could impact their ability to fund their operations during stress scenarios.6

        Amendments to FINRA Rule 4521

        The SEC approved Rule 4521 as part of FINRA's new, consolidated financial responsibility rules in 2009.7 The rule provides FINRA authority to request information from firms to carry out its surveillance and examination responsibilities. Paragraph (c) of the rule currently requires each carrying or clearing firm to notify FINRA in writing, no more than 48 hours after its tentative net capital as computed pursuant to SEA Rule 15c3-1 has declined 20 percent or more from the amount reported in its most recent FOCUS Report or, if later, the most recent such notification filed with FINRA.

        Under the proposal, additional notification requirements would be applied to the same firms that would be subject to the SLS (that is, unless otherwise permitted by FINRA in writing, each carrying or clearing firm with $25 million or more in total credits, as determined pursuant to the customer reserve formula computation as set forth in SEA Rule 15c3-3 Exhibit A, and each firm whose aggregate amount outstanding under repurchase agreements, securities loan contracts and bank loans is equal to or greater than $1 billion, as reported on the most recently filed FOCUS Report).8 Specifically, the specified firms would be required to notify FINRA in writing, no more than 48 hours after:

        •   the firm becomes aware of a loss of access to secured funding through repurchase agreements, and where such loss, excluding funding collateralized by U.S. Treasury Securities,9 or funding collateralized by securities issued by a U.S. Government Agency10 or Government-Sponsored Enterprise (GSE),11 in the aggregate, across all counterparties, represents 20 percent or more of the highest amount borrowed through such contracts within a 35 rolling calendar day period;
        •   the firm becomes aware of a loss of access to secured funding through securities loans, and where such loss, excluding funding collateralized by U.S. Treasury Securities, or funding collateralized by securities issued by a U.S. Government Agency or GSE, in the aggregate, across all counterparties, represents 20 percent or more of the highest amount borrowed through such contracts within a 35 rolling calendar day period;
        •   any one of the firm's five largest repurchase agreement counterparties or any one of the firm's five largest securities loan counterparties increases collateral haircuts on the counterparty's repurchase agreements or securities loan contracts with the firm, excluding funding collateralized by U.S. Treasury Securities, or funding collateralized by securities issued by a U.S. Government Agency or GSE, by 20 percent or more within a 35 rolling calendar day period;
        •   any one of the firm's five largest repurchase agreement counterparties, excluding funding collateralized by U.S. Treasury Securities, or funding collateralized by securities issued by a U.S. Government Agency or GSE, initiates termination of outstanding repurchase contracts prior to maturity, initiates the option not to renew or rollover the contract, or reduces access to undrawn or unused financing through repurchase contracts by 20 percent or more from the highest amount borrowed through such counterparty within a 35 rolling calendar day period;
        •   any one of the firm's five largest securities loan counterparties, excluding funding collateralized by U.S. Treasury Securities, or funding collateralized by securities issued by a U.S. Government Agency or GSE, initiates termination of securities loaned contracts prior to maturity, or reduces access to financing through securities loans by 20 percent or more of the highest amount borrowed through such counterparty within a 35 rolling calendar day period;
        •   the firm becomes aware of a reduction in or termination of committed or uncommitted lines of credit from banks, whether secured or unsecured, by 20 percent or more within a 35 rolling calendar day period;
        •   the firm triggers a material adverse change clause in any contract containing such clause, including events of acceleration or default, provided that the notification required pursuant to the rule shall be required within 48 hours after the expiration of any applicable cure period without remedy; or
        •   (only for firms that, pursuant to Rule 4210(g), have received approval from FINRA, or the firm's DEA if other than FINRA, to establish a portfolio margin methodology for eligible participants) the total change in the firm's customer margin balances, or decrease in the firm's free credit balances, in the gross aggregate, is greater than or equal to five percent or $5 billion in one business day, whichever is lower. For purposes of this requirement, the daily customer margin balances and free credit balances would be as determined pursuant to current paragraphs (d)(3)(A) and (d)(3)(B) of the rule.12

        These notification requirements should enable FINRA to be promptly alerted by a firm whose ability to fund its operations has been reduced significantly within a short period of time. FINRA believes that the notifications are consistent with the types of events or conditions that many firms currently monitor for as part of prudent funding and liquidity risk management programs. Further, the notifications dovetail with the reporting that the specified firms would provide pursuant to the proposed SLS, as discussed above.

        Impact on Market Participants and Request for Comment on the Proposal

        The purpose of the proposed SLS is to provide FINRA with more detailed information about the specified firms' liquidity profiles than what is reflected on the current FOCUS Reports. This will enable FINRA to more effectively assess firms' ability to meet their settlement, customer and counterparty obligations and to differentiate between high and low risk firms by analyzing firm-specific risk factors. The primary anticipated net benefit would be that FINRA is provided a more granular level of detail on firms' funding sources such as term or maturity information, collateral quality, haircuts and use of secured versus unsecured financing, so that FINRA can assess whether firms possess adequate liquidity pools to fund their daily operations without relying on relatively less stable sources such as short-term unsecured loans or borrowing against customer collateral.

        A potential significant benefit of this proposal may also arise from the information that can be generated on the interconnectedness of firms through significant counterparty exposure, which is a key component in FINRA's efforts to effectively monitor liquidity and funding risks as a part of its regulatory programs.

        FINRA estimates that, based on the quarterly FOCUS data from 2016, approximately 110 firms, of which approximately half are part of a bank holding company, would be required to file the SLS under the proposal, though the actual number may fluctuate from month to month as a firm will not be required to file the SLS for any month where the firm does not meet the specified thresholds. Based on discussions with a select number of firms, FINRA does not expect the filing of the SLS to create significant direct compliance costs for these firms, as the information required to complete the SLS should be readily available to the firms. However, firms may potentially incur costs associated with processing data to compute certain items on the SLS.

        Similarly, the new notification requirements in the proposed amendments to FINRA Rule 4521 are expected to cause minimal direct burdens on firms that are subject to the SLS, as FINRA believes that firms already monitor events that trigger notification to FINRA as a part of funding and liquidity risk management programs. Some level of one-time direct costs may be incurred by firms that establish automated monitoring tools to comply with the rule. However, to the extent that firms and liquidity providers alter their demand and supply for funding as a result of the proposal, there might be an indirect impact on competition in the funding markets. Firms may choose to diversify their counterparties to mitigate counterparty risk and to report less concentration of counterparties in the SLS. As a result, current counterparties would have to search for other firms that demand funding. Similarly, liquidity providers may potentially shift their client base from specified FINRA firms, to non-specified FINRA firms or to non-firms, to avoid being reported as a counterparty on the SLS. Such change in behavior is expected to be more likely for firms and liquidity providers that are at the margin with respect to the reporting thresholds. These effects may lead to greater search costs or funding costs for some impacted firms.

        As discussed above, FINRA is seeking comment on all aspects of the proposed new SLS and the proposed notification amendments to Rule 4521, including the impact of the proposal on market participants.

        Request for Comment with Regard to the Proposed SLS

        •   Do the items on the proposed SLS sufficiently capture the material secured and unsecured exposures of firms that would be subject to reporting?
        •   Are the proposed thresholds for firms that would be required to report under the proposed SLS appropriate? Are there alternative thresholds that would be more effective in capturing the liquidity risk profiles of firms?
        •   Are the proposed thresholds for the activities that would be required to be reported under the proposed SLS appropriate? What other, if any, information should FINRA consider capturing in order to meet its goals? Should FINRA consider any changes to the proposed items to increase the efficiency or reduce the costs of compliance while maintaining FINRA's ability to meet its goals?
        •   Is the proposed SLS expected to create significant compliance costs, including data collection and processing costs, for the impacted firms? If so, please provide information about these costs, including their potential magnitude, cost drivers that might differ among firms based on their business or business model, and ways that FINRA could mitigate these costs through the design of the collection or reporting mechanism.
        •   Are there additional costs for firms that are part of a bank holding company, stemming from potential discrepancies between the computation and reporting of items on the proposed SLS and other regulatory forms?
        •   To what extent do firms report substantially the same information to other regulators today? Do the proposed SLS items overlap with or differ from items that are reported to other regulators? Should any changes be made to the proposed SLS? If so, why?
        •   What are the potential impacts of the proposed SLS on counterparties? Are some counterparties more likely to be impacted by the proposed requirements than others?
        •   The proposed SLS will require firms to report the gross contract value of all reverse repurchase and repurchase agreements by collateral type, including all intercompany and third party agreements. Should FINRA exclude from the SLS reverse repurchase contracts where the collateral is used to satisfy the SEA Rule 15c3-3 reserve deposit?
        •   Are there any other economic impacts or competitive effects of the proposed SLS?

        Request for Comment with Regard to the Proposed Amendments to FINRA Rule 4521

        •   Under the proposed amendments to Rule 4521, is the specified 35 rolling calendar day timeframe appropriate? Would use of a fixed time period, such as the most recent month-end date or most recently filed report, be more operationally feasible or more cost effective to implement than use of the highest open amount in a rolling period? If yes, would use of a fixed date cause the rule to be less effective?
        •   Should the proposed notification requirement with respect to margin and free credit balances exclude changes resulting from the firm sweeping customer funds to a bank or money market sweep? Should there be other exclusions?
        •   The proposed amendments to Rule 4521 include specified notification requirements with respect to any of the firm's five largest repurchase agreement counterparties or five largest securities loan counterparties. Are the specified requirements appropriate? Why? If not, why not?
        •   The proposed amendments include specified reporting requirements when a firm triggers a material adverse change clause. Are the specified requirements appropriate? Should there be any exclusions from the requirement? Why? If not, why not?

        Additional Request for Comment with Regard to the Impact of the Proposal

        •   Has FINRA identified the appropriate events to trigger notification of a material change in liquidity and funding risk? Are there other events that FINRA should consider?
        •   Instead of listing specific events that trigger notification, should FINRA use different notification triggers? If yes, what should the different triggers be? What are the benefits and drawbacks of such different triggers?
        •   Are the proposed thresholds that would trigger notification to FINRA relevant and do they appropriately address material changes in liquidity and funding risks? Are there alternative thresholds that FINRA should consider?
        •   Do the proposed notifications with respect to secured and unsecured funding sources appropriately address the sources of funding risk? Are there other unsecured financing sources and collateral types that FINRA should consider for notification events?
        •   Do impacted firms currently monitor events that may potentially trigger notification to FINRA? How likely are firms to change their risk management practices due to the proposed notification requirements?
        •   Are the proposed notification requirements with respect to liquidity and funding events likely to impact the supply and demand for funding? Specifically, are impacted firms likely to alter their behavior, collateral management and choice of counterparties in the funding markets?
        •   Are there any other economic impacts or competitive effects of the proposed notification requirements?

        1. FINRA will not edit personal identifying information, such as names or email addresses, from submissions. Persons should submit only information that they wish to make publicly available. See NTM 03-73 (November 2003) (NASD Announces Online Availability of Comments) for more information.

        2. See SEA Section 19 and rules thereunder. After a proposed rule change is filed with the SEC, the proposed rule change generally is published for public comment in the Federal Register. Certain limited types of proposed rule changes, however, take effect upon filing with the SEC. See SEA Section 19(b)(3) and SEA Rule 19b-4.

        3. See, e.g., Final Report of the National Commission on the Causes of the Financial and Economic Crisis in the United States (January 2011).

        4. See Regulatory Notice 10-57 (November 2010) (Risk Management) and Regulatory Notice 15-33 (September 2015) (Liquidity Risk). However, even prior to the financial crisis, FINRA noted the importance of risk management practices. See, e.g., Notice to Members 99-92 (November 1999) (Risk Management Practices) (setting forth a joint statement by the SEC, NASD and NYSE on broker-dealer risk management practices). FINRA has also discussed liquidity risk in its recent Annual Regulatory and Examination Priorities Letters.

        5. Under the proposal, the SLS must be filed within 22 business days after the end of each month. The SLS need not be filed for any period where the firm does not meet the $25 million or $1 billion thresholds.

        6. Upon receiving comment on the proposed SLS, FINRA proposes to file the SLS with the SEC pursuant to Rule 4524. Rule 4524 provides that, as a supplement to filing FOCUS reports required pursuant to SEA Rule 17a-5 and FINRA Rule 2010, each member, as FINRA shall designate, shall file such additional financial or operational schedules or reports as FINRA may deem necessary or appropriate for the protection of investors or in the public interest. The rule provides that the content of such schedules or reports, their format, and the timing and the frequency of such supplemental filings shall be specified in a Regulatory Notice (or similar communication) issued pursuant to the rule. The rule further provides that FINRA shall file with the SEC pursuant to Section 19(b) of the Exchange Act the content of any such Regulatory Notice (or similar communication) issued pursuant to the rule.

        7. See Regulatory Notice 09-71 (December 2009) (SEC Approves Consolidated FINRA Rules Governing Financial Responsibility).

        8. Supplementary Material .01 of Rule 4521 provides that, for purposes of the rule, all requirements that apply to a member that clears or carries customer accounts shall also apply to any member that, operating pursuant to the exemptive provisions of SEA Rule 15c3-3(k)(2) (i), either clears customer transactions pursuant to such exemptive provisions or holds customer funds in a bank account established thereunder. By way of clarification, FINRA notes that firms otherwise subject to the rule by virtue of Supplementary Material .01 would not be subject to the new requirements if they do not meet the specified $25 million or $1 billion thresholds.

        9. FINRA Rule 6710(p) defines "U.S. Treasury Security" to mean "a security issued by the U.S. Department of the Treasury to fund the operations of the federal government or to retire such outstanding securities."

        10. FINRA Rule 6710(k) defines "agency" to mean a United States executive agency as defined in 5 U.S.C. 105 that is authorized to issue debt directly or through a related entity, such as a government corporation, or to guarantee the repayment of principal or interest of a debt security issued by another entity. The term excludes the U.S. Department of the Treasury in the exercise of its authority to issue U.S. Treasury Securities as defined under FINRA Rule 6710(p). Under 5 U.S.C. 105, the term "executive agency" is defined to mean an "Executive department, a Government corporation, and an independent establishment."

        11. FINRA Rule 6710(n) defines GSE to have the meaning set forth in 2 U.S.C. 622(8). Under 2 U.S.C. 622(8), a GSE is defined, in part, to mean a corporate entity created by a law of the United States that has a Federal charter authorized by law, is privately owned, is under the direction of a board of directors, a majority of which is elected by private owners, and, among other things, is a financial institution with power to make loans or loan guarantees for limited purposes such as to provide credit for specific borrowers or one sector and raise funds by borrowing (which does not carry the full faith and credit of the Federal Government) or to guarantee the debt of others in unlimited amounts.

        12. Paragraphs (d)(3)(A) and (d)(3)(B) address free credit balances and margin balances for purposes of specified monthly reporting requirements under current paragraph (d) of Rule 4521.


        ATTACHMENT A

        Below is the text of the proposed rule change. Proposed new language is underlined; proposed deletions are in brackets.

        * * * * *

        4000. FINANCIAL AND OPERATIONAL RULES

        * * * * *

        4520. Financial Records and Reporting Requirements
        4521. Notifications, Questionnaires and Reports
        (a) Each carrying or clearing member shall submit to FINRA, or its designated agent, at such times as may be designated, or on an ongoing basis, in such form and within such time period as may be prescribed, such financial and operational information regarding the member or any of its correspondents as FINRA deems essential for the protection of investors and the public interest.
        (b) Every member approved by the SEC pursuant to SEA Rule 15c3-1 to use the alternative method of computing net capital contained in Appendix E to that Rule shall file such supplemental and alternative reports as may be prescribed by FINRA.
        (c)
        (1) Each carrying or clearing member shall notify FINRA in writing, no more than 48 hours after its tentative net capital as computed pursuant to SEA Rule 15c3-1 has declined 20 percent or more from the amount reported in its most recent FOCUS Report or, if later, the most recent such notification filed with FINRA. For purposes of this paragraph, "tentative net capital as computed pursuant to SEA Rule 15c3-1" shall exclude withdrawals of capital previously approved by FINRA.
        (2) Unless otherwise permitted by FINRA in writing, each carrying or clearing member with $25 million or more in total credits, as determined pursuant to the customer reserve formula computation as set forth in SEA Rule 15c3-3 Exhibit A, and each member whose aggregate amount outstanding under repurchase agreements, securities loans contracts and bank loans is equal to or greater than $1 billion, as reported on the member's most recently filed FOCUS Report, shall notify FINRA in writing, no more than 48 hours after:
        (A) the member becomes aware of a loss of access to secured funding through repurchase agreements, and where such loss, excluding funding collateralized by U.S. Treasury Securities, or funding collateralized by securities issued by a U.S. Government Agency or Government-Sponsored Enterprise, in the aggregate, across all counterparties, represents 20 percent or more of the highest amount borrowed through such contracts within a 35 rolling calendar day period;
        (B) the member becomes aware of a loss of access to secured funding through securities loans, and where such loss, excluding funding collateralized by U.S. Treasury Securities, or funding collateralized by securities issued by a U.S. Government Agency or Government-Sponsored Enterprise, in the aggregate, across all counterparties, represents 20 percent or more of the highest amount borrowed through such contracts within a 35 rolling calendar day period;
        (C) any one of the member's five largest repurchase agreement counterparties or any one of the member's five largest securities loan counterparties increases collateral haircuts on the counterparty's repurchase agreements or securities loan contracts with the member, excluding funding collateralized by U.S. Treasury Securities, or funding collateralized by securities issued by a U.S. Government Agency or Government-Sponsored Enterprise, by 20 percent or more within a 35 rolling calendar day period;
        (D) any one of the member's five largest repurchase agreement counterparties, excluding funding collateralized by U.S. Treasury Securities, or funding collateralized by securities issued by a U.S. Government Agency or Government-Sponsored Enterprise, initiates termination of outstanding repurchase contracts prior to maturity, initiates the option not to renew or rollover the contract, or reduces access to undrawn or unused financing through repurchase contracts by 20 percent or more from the highest amount borrowed through such counterparty within a 35 rolling calendar day period;
        (E) any one of the member's five largest securities loan counterparties, excluding funding collateralized by U.S. Treasury Securities, or funding collateralized by securities issued by a U.S. Government Agency or Government-Sponsored Enterprise, initiates termination of securities loaned contracts prior to maturity, or reduces access to financing through securities loans by 20 percent or more of the highest amount borrowed through such counterparty within a 35 rolling calendar day period;
        (F) the member becomes aware of a reduction in or termination of committed or uncommitted lines of credit from banks, whether secured or unsecured, by 20 percent or more within a 35 rolling calendar day period;
        (G) the member triggers a material adverse change clause in any contract containing such clause, including events of acceleration or default, provided that the notification required pursuant to this Rule shall be required within 48 hours after the expiration of any applicable cure period without remedy; or
        (H) the total change in the member's customer margin balances, or decrease in the member's free credit balances, in the gross aggregate, is greater than or equal to five percent or $5 billion in one business day, whichever is lower; provided, however, that paragraph (c)(2)(H) of this Rule shall apply to members that, pursuant to Rule 4210(g), have received approval from FINRA, or the member's DEA if other than FINRA, to establish a portfolio margin methodology for eligible participants. For purposes of this paragraph (c)(2)(H), the daily customer margin balances and free credit balances shall be as determined pursuant to paragraphs (d)(3)(A) and (d)(3)(B) of this Rule.
        (d)
        (1) Unless otherwise permitted by FINRA in writing, members carrying margin accounts for customers are required to submit, on a settlement date basis, the information specified in paragraphs (d)(2)(A) and (d)(2)(B) of this Rule as of the last business day of the month. If a member has no information to submit, a report should be filed with a notation thereon to that effect. Reports are due as promptly as possible after the last business day of the month, but in no event later than the sixth business day of the following month. Members shall use such form as FINRA may prescribe for these reporting purposes.
        (2) Each member carrying margin accounts for customers shall submit reports containing the following customer information:
        (A) Total of all debit balances in securities margin accounts; and
        (B) Total of all free credit balances in all cash accounts and all securities margin accounts.
        (3) For purposes of this paragraph (d):
        (A) Only free credit balances in cash and securities margin accounts shall be included in the member's report. Balances in short accounts and in special memorandum accounts (see Regulation T of the Board of Governors of the Federal Reserve System) shall not be considered as free credit balances.
        (B) Reported debit or credit balance information shall not include the accounts of other FINRA members, or of the associated persons of the member submitting the report where such associated person's account is excluded from the definition of customer pursuant to SEA Rule 15c3-3.
        (e) Unless a specific temporary extension of time has been granted, there shall be imposed upon each member required to file any report, notification or information pursuant to this Rule, a late fee as set forth in Schedule A Section 4(g)(1) to the FINRA By-Laws.
        (f) For purposes of this Rule, any report filed pursuant to this Rule containing material inaccuracies shall be deemed not to have been filed until a corrected copy of the report has been resubmitted.

        • • • Supplementary Material: --------------

        .01 Members Operating Pursuant to the Exemptive Provisions of SEA Rule 15c3-3(k)(2)(i). For purposes of this Rule, all requirements that apply to a member that clears or carries customer accounts shall also apply to any member that, operating pursuant to the exemptive provisions of SEA Rule 15c3-3(k)(2)(i), either clears customer transactions pursuant to such exemptive provisions or holds customer funds in a bank account established thereunder.

        * * * * *


        ATTACHMENT B

        FINRA SLS

        Supplemental Report to FOCUS REPORT

        Supplemental Liquidity Schedule ("SLS")

        (Please read instructions before completing form)

        NAME OF BROKER-DEALER   SEC FILE NO.
        ADDRESS OF PRINCIPAL PLACE OF BUSINESS FIRM ID NO.
        (No. and Street)     FOR PERIOD ENDING (MM/DD/YY)
        (City) (State) (Zip Code)  
        NAME OF PERSON COMPLETING THIS REPORT
        TELEPHONE NO. OF PERSON COMPLETING THIS REPORT
         

        All amounts should be reported in thousands.

        REVERSE REPURCHASE AND REPURCHASE AGREEMENTS Reverse Repurchase (000s) Repurchase (000s)
        1. U.S. Treasury Securities    
           a. Open and Overnight $ $
           b. Term $ $
        Weighted Average Maturity _______________ _______________
           c. Forward Starting $ $
        2. U.S. Government Agency & Government-Sponsored Enterprise Securities    
           a. Open and Overnight $ $
           b. Term $ $
        Weighted Average Maturity _______________ _______________
           c. Forward Starting $ $
        3. Equity Securities    
           a. Open and Overnight $ $
           b. Term $ $
        Weighted Average Maturity _______________ _______________
           c. Forward Starting $ $
        4. Investment Grade Corporate Obligations    
           a. Open and Overnight $ $
           b. Term $ $
        Weighted Average Maturity _______________ _______________
           c. Forward Starting $ $
        5. Other Collateral    
           a. Open and Overnight $ $
           b. Term $ $
        Weighted Average Maturity _______________ _______________
           c. Forward Starting $ $
             
        6. Total at Tri-Party Custodian or DTCC $ $
        7. TOTAL $ $
        Top 5 Counterparties: Reverse Repurchase and Repurchase Agreements
        Reverse Repurchase Counterparty Name Contract Value (000s) Repurchase Counterparty Name Contract Value (000s)
               
        1. $ 1. $
        2. $ 2. $
        3. $ 3. $
        4. $ 4. $
        5. $ 5. $
        SECURITIES BORROWED AND SECURITIES LOANED Securities Borrowed (000s) Securities Loaned (000s)
        1. U.S. Treasury Securities    
           a. Open and Overnight $ $
           b. Term $ $
        Weighted Average Maturity ______________ ______________
           c. Forward Starting $ $
        2. U.S. Government Agency & Government-Sponsored Enterprise Securities    
           a. Open and Overnight $ $
           b. Term $ $
        Weighted Average Maturity ______________ ______________
           c. Forward Starting $ $
        3. Equity Securities    
           a. Open and Overnight $ $
           b. Term $ $
        Weighted Average Maturity ______________ ______________
           c. Forward Starting $ $
        4. Investment Grade Corporate Obligations    
           a. Open and Overnight $ $
           b. Term $ $
        Weighted Average Maturity ______________ ______________
           c. Forward Starting $ $
        5. Other Collateral    
           a. Open and Overnight $ $
           b. Term $ $
        Weighted Average Maturity ____________ _____________
           c. Forward Starting $ $
             
        6. Total Guaranteed by a CCP $ $
        7. TOTAL $ $
        Top 5 Counterparties: Securities Borrowed and Securities Loaned
        Securities Borrowed Counterparty Name Contract Value (000s) Securities Loaned Counterparty Name Contract Value (000s)
               
        1. $ 1. $
        2. $ 2. $
        3. $ 3. $
        4. $ 4. $
        5. $ 5. $
        BANK LOAN AND OTHER CREDIT FACILITIES
          Total (000s) Affiliate Non-Affiliate
          Committed (000s) Uncommitted (000s) Committed (000s) Uncommitted (000s)
         
        1. U.S. Treasury, U.S. Government Agency & Government-Sponsored Enterprise Securities          
           a. Open and Overnight $ $ $ $ $
           b. Term $ $ $ $ $
        2. Equity Securities  
           a. Open and Overnight $ $ $ $ $
           b. Term $ $ $ $ $
        3. Other Collateral          
           a. Open and Overnight $ $ $ $ $
           b. Term $ $ $ $ $
        4. Unused Portion of Secured Credit Facilities $ $ $ $ $
        5. Unsecured Credit Facilities          
           a. Drawn Amounts $ $ $ $ $
           b. Undrawn Amounts $ $ $ $ $
        TOTAL AVAILABLE COLLATERAL (Free Box)
          Total Market Value
        1. U.S. Treasury Securities $
         
        MARGIN LOANS
          Balance (000s)
        1. Demand Loans $
        2. Term Loans—Drawn $
           a. Weighted Average Maturity of Term Loans ______________  
        3. Term Loans—Undrawn $
        COLLATERAL SECURING MARGIN LOANS    
        a. Top 5 Equity Securities
        CUSIP # ISSUER Market Value (000s)
        1.   $
        2.   $
        3.   $
        4.   $
        5.   $
        b. Top 5 Fixed Income Securities (excluding U.S. Treasury, Government Agency & Government-Sponsored Enterprise Securities)
        CUSIP ISSUER Market Value (000s)
        1.   $
        2.   $
        3.   $
        4.   $
        5.   $
        DEPOSITS AT CLEARING ORGANIZATIONS
          Amount Required (000s) Amount Posted (000s) Proprietary Largest Single Intra-Month Call (000s) Date
        1. DTCC (total) $ $ $ $  
           a. NSCC $ $ $ $  
           b. FICC $ $ $ $  
        2. OCC $ $ $ $  
        3. CME $ $ $ $  
        4. ICE $ $ $ $  
        5. Other>10% of $ $ $ $  
        CASH AND SECURITIES RECEIVED AND DELIVERED ON DERIVATIVE TRANSACTIONS NOT CLEARED THROUGH A CCP
        Cash and Securities Delivered In to Collateralize Receivables  
        Counterparty Name Affiliate (Y/N) Total Cash (000s) Total Securities
               
        1.   $ $
        2.   $ $
        3.   $ $
        4.   $ $
        5.   $ $
        Cash and Securities Delivered Out to Collateralize Payables
        Counterparty Name Affiliate (Y/N) Total Cash (000s) Total Securities
        1.   $ $
        2.   $ $
        3.   $ $
        4.   $ $
        5.   $ $

        ATTACHMENT C

        SUPPLEMENTAL SCHEDULE TO FOCUS REPORT

        Supplemental Liquidity Schedule

        GENERAL INSTRUCTIONS

        The Supplemental Liquidity Schedule ("SLS") is intended to provide more detailed information about a member's liquidity profile than what is reflected on the FOCUS Report (Part II, Part IIA or Part II CSE, as appropriate). Unless otherwise permitted by FINRA in writing, the SLS is required to be filed by each carrying or clearing FINRA member with $25 million or more in total credits, as determined pursuant to the customer reserve formula computation as set forth in SEA Rule 15c3-3 Exhibit A, and by each FINRA member whose aggregate amount outstanding under repurchase agreements, securities loans contracts and bank loans is equal to or greater than $1 billion, as reported on the member's most recently filed FOCUS report.

        The SLS must be filed within 22 business days after the end of each month. A member need not file the SLS for any period where the member does not meet the $25 million or $1 billion thresholds.

        SPECIFIC INSTRUCTIONS

        Note: For explanations of the types of securities to be included in the requested line items of the SLS, please refer to "Explanation of Terms" on pages 3 and 4 of these instructions.

        Reverse Repurchase and Repurchase Agreements

        Report the gross contract value of all reverse repurchase and repurchase agreements by collateral type, including all intercompany and third party agreements. Exclude intracompany agreements between desks within the same legal entity. Report collateral upgrade transactions based on the contract type for each leg of the transaction (i.e., report Master Repurchase Agreements ("MRA") contracts in the Reverse Repurchase and Repurchase Agreements section and Master Stock Loan Agreement ("MSLA") contracts in the Securities Borrowed and Securities Loaned section, as discussed further below).

        Compute the "Weighted Average Maturity" on term agreements only (i.e., exclude open and overnights). For contracts that contain an option feature that permits the counterparty to choose not to renew with an agreed-upon notice period ("evergreen contracts"), use the earliest possible close date.

        Report in "Other Collateral" the gross contract value of all reverse repurchase and repurchase agreements not otherwise reported in the previous product categories.

        For "Total at Tri-Party Custodian or DTCC," report the gross contract value of all reverse repurchase and repurchase agreements where the collateral is held at a tri-party custodian or at Depository Trust & Clearing Corporation (DTCC), including DTCC's subsidiary Fixed Income Clearing Corporation (FICC).

        For "Top 5 Counterparties: Reverse Repurchase and Repurchase Agreements," report the top 5 counterparties after netting (in accordance with ASC 210-20-45-1 and ASC 210-20-45-11). Where contracts have been novated to FICC, FICC should be reported as the counterparty. Where the counterparty contracted with the member through an agent (Agency Repo), report the name of the underlying principal as counterparty.

        Securities Borrowed and Securities Loaned

        Report the gross contract value of all securities borrowed and securities loaned agreements by collateral type, including all intercompany and third party agreements. Exclude intracompany agreements between desks within the same legal entity. Report collateral upgrade transactions based on the contract type for each leg of the transaction (i.e., report Master Repurchase Agreement contracts in the Reverse Repurchase and Repurchase Agreements section and Master Securities Lending Agreement contracts in the Securities Borrowed and Securities Loaned section).

        Compute the "Weighted Average Maturity" on term agreements only (i.e., exclude open and overnight contracts).

        Report in "Other Collateral" the gross contract value of all securities borrowed and securities loaned agreements not otherwise reported in the previous product categories, if applicable.

        "Total Guaranteed by a CCP" shall include the gross contract value of all securities borrowed and securities loaned agreements guaranteed by a Central Clearing Counterparty.

        "Top 5 Counterparties: Securities Borrowed and Securities Loaned" shall include the Top 5 Counterparties after netting (in accordance with ASC 210-20-45-1 and ASC 210-20-45-11). Where the counterparty contracted with the member through an agent bank (Agency Lending), report the name of the underlying principal as the counterparty.

        Bank Loan and Other Credit Facilities

        Report the dollar value of bank loan and other credit facilities (for example, subordinated loans, liens of credit, secured demand notes, etc.) by collateral type for secured lines, separating affiliated sources from unaffiliated sources.

        For purposes of this SLS, a committed line of credit is one where the lender is contractually committed to lend to the member, provided the member has not violated any conditions or covenants in the terms of the contract.

        Total Available Collateral (Free Box)

        Report U.S. Treasury Securities (see "Explanation of Terms") in the member's possession or control that can be re-hypothecated, are otherwise unencumbered and are not required to be returned upon demand of the owner.

        Margin Loans

        Report margin loans, including non-purpose loans extended by the member. For purposes of this SLS, "Demand" loans are those that are callable for immediate repayment. "Term" loans are those that are not callable for immediate repayment and have stated maturity dates.

        Collateral Securing Margin Loans

        For "Top 5 Equity Securities," report the top five equity securities by total market value, collateralizing all margin loans.

        For "Top 5 Fixed Income Securities," report the top five fixed income securities, excluding U.S. Treasury, Government Agency & Government-Sponsored Enterprise Securities, collateralizing all margin loans.

        Deposits at Clearing Organizations

        Report the total amount required to be on deposit, as well as the total amount of cash and securities on deposit, at clearing organizations at the report date. The amount may include the clearing deposit, adequate assurance deposits, additional liquidity deposits, guarantee fund deposits, etc. In addition, report in this section the largest single call intra-month by the clearing organization.

        For "Other>10% Total," report the total clearing deposit at any one clearing organization that is greater than 10% of the total amounts required and on deposit at all clearing organizations, if applicable.

        Cash and Securities Received and Delivered on Derivative Transactions Not Cleared Through a CCP

        Report cash and securities used to collateralize marks to market on derivative transactions that are not cleared through a central clearing counterparty ("CCP"). For purposes of this SLS, "derivatives transactions" include non-regular way settlement transactions (including To Be Announced ("TBA") securities and delayed delivery and settlement transactions) as well as swap contracts.

        For "Cash and Securities Delivered In to Collateralize Receivables," report the top five counterparties with gross derivative mark-to-market receivables, by counterparty name, and identify whether the derivative counterparty is an affiliate.

        For "Cash and Securities Delivered Out to Collateralize Payables," report the top five counterparties with gross derivative mark-to-market payables, by counterparty name, and identify whether the derivative counterparty is an affiliate.

        EXPLANATION OF TERMS

        U.S. Treasury Securities

        Direct obligations of the U.S. Treasury, including but not limited to, bills, notes, bonds, Treasury Inflation-Protected Securities (TIPS), U.S. Treasury Strips (IO) or (PO), and Treasury floating rate notes.

        U.S. Government Agency & Government-Sponsored Enterprise Securities

        Securities issued by a United States federal agency, or a United States Government-Sponsored Enterprise, including agency securities guaranteed as to principal or interest by the U. S. government (e.g., GNMA securities).

        Equity Securities

        Preferred and common stocks, warrants and ETFs issued by any domestic or foreign issuer.

        Investment Grade Corporate Obligations

        Investment grade debt securities issued by any corporation, whether domestic or foreign. Corporate obligations include but are not limited to non-convertible, convertible, floating rate debt securities and ETNs.

        Other Collateral

        All other securities not otherwise included in the other categories.

      • 18-01 Final Statements for Broker-Dealers, Investment Adviser Firms, Agents and Investment Adviser Representatives, and Branches; Payment Deadline: January 22, 2018

        View PDF

        BD and IA Renewals for 2018

        Regulatory Notice
        Notice Type

        Renewals
        Suggested Routing

        Compliance
        Legal
        Operations
        Registration
        Senior Management
        Key Topics

        IARDTM
        Registration
        Renewals
        Web CRD®

        Executive Summary

        FINRA is issuing this Notice to help firms review, reconcile and respond to their Final Statements in E-Bill as well as view the reports that are currently available in Web CRD/IARD for the annual registration renewal process. The payment deadline is January 22, 2018.

        Please direct questions concerning this Notice to the FINRA Call Center at (301) 869-6699.

        Background & Discussion

        Final Statements

        On January 2, 2018, Final Statements became available for viewing and printing in E-Bill. These statements reflect the final status of broker-dealer, registered representative, investment adviser firm, investment adviser representative, and branch registrations and/or notice filings as of December 31, 2017. Any adjustments in fees owed because of registration terminations, approvals, IA firm registrations, reporting status or notice filings subsequent to the Preliminary Statement are included in this final reconciled statement. Renewal reports are available in Web CRD/IARD for request, print and/or download.

        If the amount assessed on the Final Statement is greater than the amount assessed on the Preliminary Statement, the additional renewal fees are due by January 22, 2018. If the amount assessed on the Final Statement is less than the amount assessed on the Preliminary Statement, FINRA has issued a credit to the firm's Flex-Funding Account.

        The Final Statements include the following fees (if applicable):

        •   Web CRD/IARD system processing fees;
        •   FINRA branch office and branch processing fees;
        •   participating Self-Regulatory Organization (SRO) maintenance fees, if applicable;
        •   state broker-dealer firm, branch and agent (AG) renewal fees, if applicable;
        •   state investment adviser firm, branch and investment adviser representative (RA) renewal fees, if applicable; and
        •   FINRA annual statutory disqualification fees for registered individuals.

        Renewal Payment

        Web CRD/IARD issues a refund if a firm owes less for registrations at year-end than what was reflected on the Preliminary Statement. FINRA transferred overpayments to firms' Flex-Funding Accounts on January 2, 2018. Firms that have a credit balance in their FlexFunding Accounts may submit a refund request [http://www.finra.org/industry/e-bill-user-guide#Refunds] through E-Bill or leave the funds in their account to pay for other future fees.

        If the Final Statement reflects an amount due, FINRA must receive payment no later than January 22, 2018. Firms may pay electronically through E-Bill, send a wire transfer or mail a check; however, FINRA highly recommends that firms remit funds via E-Bill. Firms are encouraged to check their Renewal Statements to confirm FINRA has received payment and that the firm's Renewal Statement balance is paid in full.

        Electronic Payment via E-Bill

        Firms may submit electronic payments to fund their Renewal Accounts through E-Bill [http://www.finra.org/industry/finra-e-bill]. FINRA does not charge for using E-Bill; however, firms should verify if their banks charge additional fees. Firms must enroll to use E-Bill.

        Please Note: Firm users with the proper entitlement may transfer funds from their Flex-Funding Account to their Renewal Account or transfer funds between affiliated firms at any time by using E-Bill. For further details, please refer to the E-Bill User Guide [http://www.finra.org/industry/e-bill-user-guide].

        ACH/Wire Transfer and Check Payments

        Wire transfer and check payments are initially deposited into a firm's Flex-Funding Account. Beginning January 22, 2018, if sufficient funds are available, FINRA will systematically transfer funds from Flex-Funding Accounts to Renewal Accounts. Firms do not have to wait for FINRA to systematically transfer funds on January 22 as firms have the ability to transfer funds to their Renewal Accounts using E-Bill. Funds will only be systematically transferred if the entire renewal amount owed is available in the firm's Flex-Funding Account.

        ACH/Wire Transfer

        To initiate a wire or ACH transfer, instruct your firm's bank to contact Bank of America and provide your bank with the following information:

        Wire ABA Number: 026009593
        ACH ABA Number: 054001204
        Beneficiary: FINRA
        FINRA Account: 226005684771
        Reference Number: Firm CRD number

        Inform your bank to credit funds to the FINRA bank account and to only use your firm's CRD number as a reference. Record the confirmation number of the wire transfer provided by your bank.

        If you send your wire transfer by 2 p.m., ET, your firm may confirm receipt the next business day by reviewing your Flex-Funding Account online or calling the FINRA Gateway Call Center at (301) 869-6699. Wire payments received after 2 p.m., ET, should be available in two business days. Please note that while wire transfers are received by FINRA on the same day they are initiated, ACH bank transfers typically take several days longer to be received by FINRA.

        Checks

        Checks should be made payable to FINRA and your firm's CRD number should be written on the check memo line. Processing of check payments may take up to two business days. Please account for mail delivery and payment processing time when sending payment. Write the address on an envelope exactly as noted in this Notice:

        U.S. Mail Overnight or Express Delivery
        FINRA
        P.O. Box 418911
        Boston, MA 02241-8911

        Note: This P.O. Box will not accept courier or overnight deliveries.
        Bank of America Lockbox Services
        FINRA 418911
        MA5-527-02-07
        2 Morrissey Blvd.
        Dorchester, MA 02125

        Provide the following phone number, if required:(800) 376-2703

        Renewal Reports

        Renewal reports include all individual registrations renewed for 2018; however, they do not include registrations that were "pending approval" or "deficient" at year-end. Firms should examine their reports carefully to ensure that all registration approvals are correct. FINRA also suggests that firms include these reports in firms' permanent records.

        •   Firm Renewal Report—lists individuals included in the Renewal Program and includes billing codes (if the firm provided them).
        •   Branches Renewal Report—lists each branch registered with FINRA and/or with any other regulator that renews branches through Web CRD/IARD and for which the firm is being assessed a fee.
        •   Approved AG Reg Without FINRA Approval Report—contains all individuals who are not registered with FINRA, but are registered with one or more jurisdictions. Firms should request this report as soon as possible to determine if they need to request any FINRA registrations or terminate jurisdiction registrations.

        Discrepancies

        If your firm believes there are discrepancies on your Final Statement, report them in writing directly to FINRA by January 22, 2018. Along with your letter describing the discrepancy, please include a copy of your Final Statement and any supporting documentation to:

        FINRA
        Registration & Disclosure—Regulatory Services & Operations
        9509 Key West Avenue
        Rockville, MD 20850

        If you have questions regarding renewal discrepancies, please call FINRA at (240) 386-4182.

    • 2017

      • 17-43 Guidance on Reporting Short Interest Positions Held in Master/Sub-Accounts or Parent/Child Accounts

        View PDF

        Short Interest Reporting

        Regulatory Notice
        Notice Type

        Guidance
        Referenced Rules & Notices

        31 CFR 1023.100
        FINRA Rule 4560
        FINRA Regulatory Notice 10-18
        FINRA Regulatory Notice 12-38
        SEA Rule 200
        Suggested Routing

        Compliance
        Legal
        Operations
        Senior Management
        Trading
        Key Topics

        Master and Sub-Accounts
        Parent and Child Accounts
        Short Interest Reporting

        Summary

        FINRA is issuing this Notice to reiterate that firms must report short positions in each individual firm or customer account on a gross basis under FINRA Rule 4560. Therefore, firms that maintain positions in master/sub-accounts or parent/child accounts must calculate and report short interest based on the short position in each sub- or child account. FINRA has observed that some firms erroneously report a net short interest position for each account grouping, i.e., by parent or master account, rather than reporting on a gross basis for each account, i.e., by child or sub-account.

        Questions concerning this Notice or FINRA Rule 4560 should be directed to:

        •   Yvonne Huber, Vice President, Market Regulation Department, at (240) 386-5034 or Yvonne.Huber@finra.org;
        •   Lisa Horrigan, Associate General Counsel, Office of General Counsel (OGC), at (202) 728-8190 or Lisa.Horrigan@finra.org; or
        •   Cara Rosen, Counsel, OGC, at (202) 728-8852 or Cara.Rosen@finra.org.

        Background and Discussion

        FINRA Rule 4560 (Short-Interest Reporting) requires firms to maintain a record of total "short" positions in all customer and proprietary firm accounts and to regularly report such information to FINRA in such a manner as may be prescribed by FINRA.1 The rule further requires firms to record and report all gross short positions existing in each individual firm or customer account, including the account of a broker-dealer, that resulted from either a "short sale," as that term is defined in Rule 200(a) of Regulation SHO, or where the transaction(s) that caused the short position was marked "long," consistent with Regulation SHO, due to the firm's or the customer's net long position at the time of the transaction.2 Firms shall report only those short positions resulting from short sales that have settled or reached settlement date by the close of the reporting settlement date designated by FINRA.

        Some firms maintain "parent/child" or "master/sub-" accounts for clients and may create these structures for various reasons, e.g., to facilitate separate trading strategies. FINRA has observed that some firms report a net short interest position for each such account grouping, i.e., by parent or master account, rather than reporting on a gross basis for each account, i.e., by child or sub-account. However, as noted above, firms must report short interest in each individual firm or customer account—including each sub- or child account—on a gross, as opposed to net, basis, e.g., not netted against the other subor child accounts.3 FINRA notes that this is consistent with the approach it has taken relating to short interest reporting for positions held in aggregation units as defined under Regulation SHO.4 While firms are permitted to look to the net position within an independent aggregation unit for purposes of order marking under Regulation SHO, for purposes of short interest, firms must report the gross short position for each proprietary account within the independent aggregation unit.5

        FINRA recognizes that in some contexts, the determination whether a firm should treat a sub-account as a separate account depends upon the firm's ability to identify the beneficial owner of the sub-account.6 However, identifying the beneficial owner of a sub- or child account is not required for purposes of short interest reporting. Regardless of whether subor child accounts share the same beneficial owner, or whether the firm has actual or inquiry notice of common ownership (or the lack thereof), the firm is required to report gross short positions existing in each individual customer account, if otherwise reportable under Rule 4560. Additionally, firms are required to report gross short positions in sub- or customer accounts regardless of whether they treat the accounts as separate in other contexts.


        1. See Rule 4560(a). FINRA uses short interest data to, among other things, assess members' short selling activity and compliance with Regulation SHO. Short interest data also provides analytical and investment data that the brokerage industry, academic institutions and public investors use.

        2. See Rule 4560(b); see also Regulatory Notice 12-38 (August 2012). As noted in Regulatory Notice 12-38, the requirement that short interest reporting be limited to gross short positions was an interpretation previously issued by the Intermarket Surveillance Group (ISG). See Intermarket Surveillance Group, Consolidated Reporting of Short Interest Positions, ISG Regulatory Memorandum 95–01 (March 6, 1995).

        3. The firm is required to add this short interest to all other short positions in that security that are held in all other accounts at the firm, and then report the aggregate short position in that security across all accounts to FINRA.

        4. Under SEA Rule 200, a firm may aggregate its positions in a security by independent aggregation unit to determine its net position in that security for order marking purposes. See 17 CFR 242.200(f). To meet the independent aggregation unit requirements, a firm must, among other things, have a written plan of organization that identifies each aggregation unit, specifies its trading objective, and supports its independent identity. In addition, all traders in an aggregation unit may pursue only the particular trading objective or strategy of that aggregation unit and may not coordinate that strategy with any other aggregation unit.

        5. See Regulatory Notice 12-38.

        6. For example, in Regulatory Notice 10-18, FINRA stated that, when a firm maintains master/subaccounts, the firm is generally obligated to treat the sub-accounts as separate accounts if the firm is able to establish the beneficial owners of such accounts either through actual or inquiry notice. In that Notice, FINRA also recognized that there may be limited instances where a firm does not know the beneficial owners of a sub-account. In some contexts where the identity or uniqueness of the customer is relevant, such as defining a "customer" in connection with the Broker-Dealer Customer Identification Program Rule, the SEC has found that firms are not required to identify the beneficial owners of sub-accounts and treat such accounts separately. See Question and Answer Regarding the Broker-Dealer Customer Identification Program Rule (31 CFR 103.122) (October 1, 2003) (subsequently renumbered as 31 CFR 1023.100); see also 31 CFR 1023.100 (defining a customer for purposes of the Rules for Brokers or Dealers in Securities).

      • 17-42 FINRA Requests Comment on Proposed Amendments to the Codes of Arbitration Procedure Relating to Requests to Expunge Customer Dispute Information Comment Period Expires: February 5, 2018

        View PDF

        Expungement of Customer Dispute Information

        Regulatory Notice
        Notice Type

        Request for Comment
        Referenced Rules & Notices

        Code of Arbitration Procedure for Customer Disputes, Rule 12000 Series
        Code of Arbitration Procedure for Industry Disputes, Rule 13000 Series
        FINRA Rule 12100
        FINRA Rule 12805
        FINRA Rule 13805
        FINRA Rule 13806
        Suggested Routing

        Compliance
        Legal
        Operations
        Registered Representatives
        Senior Management
        Key Topics

        Arbitration
        Associated Person
        Code of Arbitration Procedure
        Dispute Resolution

        Summary

        FINRA seeks comment on establishing a roster of arbitrators with additional training and specific backgrounds or experience from which a panel would be selected to decide an associated person's request for expungement of customer dispute information.1 The arbitrators from this roster would decide expungement requests where the underlying customer-initiated arbitration is not resolved on the merits or the associated person files a separate claim requesting expungement of customer dispute information. The Notice also proposes additional changes to the expungement process that would apply to all requests for expungement of customer dispute information.

        This proposal is one in a series of regulatory initiatives that FINRA is considering related to the expungement process. For example, the FINRA Board of Governors has approved filing with the Securities and Exchange Commission (SEC) proposed amendments to the Codes of Arbitration Procedure for Customer and Industry Disputes (Codes) to make the best practices from the Notice to Arbitrators and Parties on Expanded Expungement Guidance2 (Guidance) rules that arbitrators must follow when considering expungement requests. In addition, FINRA staff has been working with the North American Securities Administrators Association (NASAA) on various expungement issues, including potential amendments to the existing regulatory review process.

        The text of the proposed amendments can be found at www.finra.org/notices/17-42.

        Questions concerning this Notice should be directed to:

        •   Kenneth L. Andrichik, Senior Vice President and Chief Counsel, Office of Dispute Resolution, at (212) 858-3915;
        •   Victoria Crane, Associate General Counsel, Office of General Counsel, at (202) 728-8104; or
        •   Mignon McLemore, Assistant Chief Counsel, Office of Dispute Resolution, at (202) 728-8151.

        Action Requested

        FINRA encourages all interested parties to comment on the proposal. Comments must be received by February 5, 2018.

        Member firms and other interested parties can submit their comments using the following methods:

        •   Emailing comments to pubcom@finra.org; or
        •   Mailing comments in hard copy to:
        Marcia E. Asquith
        Office of the Corporate Secretary
        FINRA
        1735 K Street, NW
        Washington, DC 20006-1506

        To help FINRA process and review comments more efficiently, persons should use only one method to comment on the proposal.

        Important Notes: The only comments that FINRA will consider are those submitted pursuant to the methods described above. All comments received in response to this Notice will be made available to the public on the FINRA website. Generally, FINRA will post comments as they are received.3

        Before becoming effective, a proposed rule change must be authorized for filing with the SEC by the FINRA Board of Governors, and then must be filed with the SEC pursuant to Section 19(b) of the Securities Exchange Act of 1934 (SEA).4

        Background & Discussion

        Through the expungement process, associated persons may seek to remove allegations made by customers from the Central Registration Depository (CRD ®) system and hence from the FINRA BrokerCheck (BrokerCheck ®) system.5 It has been FINRA's long-held position that expungement of customer dispute information is an extraordinary measure, but it may be appropriate in certain circumstances.

        CRD is the central licensing and registration system for the U.S. securities industry. In general, registered securities firms and regulatory authorities submit information in CRD in response to questions on the uniform registration forms.6 These forms collect administrative, disciplinary and other information about registered personnel, including customer complaints, arbitration claims and court filings made by customers, and the arbitration awards or court judgments that may result from those claims or filings (i.e., customer dispute information).7 The SEC, FINRA, state and other regulators use this information in connection with their licensing and regulatory activities. Most of the CRD information is made publicly available through BrokerCheck. Associated persons may seek to have customer dispute information removed from CRD (and thereby, from BrokerCheck) pursuant to FINRA Rule 2080 because the claim or allegation is factually impossible, clearly erroneous or false, or if the associated person was not involved in the alleged investment-related sales practice violation.8

        Critics of expungement have raised specific concerns about expungement hearings held after a settlement in the customer's arbitration case that gave rise to the customer dispute information (Underlying Customer Case). In these instances, critics argue that the panel from the Underlying Customer Case has not heard the full merits of that case and, therefore, may not have any special insights in determining whether to grant a request for expungement of customer dispute information under Rule 2080. Further, claimants and their counsel have little incentive to participate in an expungement hearing after the Underlying Customer Case settles and typically do not participate in such hearings. Thus, during these expungement hearings, the panel may receive information that is one-sided, which may favor the associated person requesting expungement.

        The proposed amendments to the Codes would make a number of important changes to the current framework related to the expungement of customer dispute information. Among other things, the proposed amendments would:

        All Requests for Expungement of Customer Dispute Information

        •   amend the Codes to require that for all requests for expungement of customer dispute information:
        •   the associated person who is seeking to have his or her CRD record expunged must appear at the expungement hearing; and
        •   to grant expungement, a three-person panel of arbitrators must unanimously agree that expungement is appropriate under Rule 2080(b)(1) and find that the customer dispute information has no investor protection or regulatory value.

        Expungement Requests During the Underlying Customer Case

        •   limit an associated person who is named as a party to one opportunity to request expungement, and that opportunity must be exercised during the Underlying Customer Case;
        •   create limitations on requests for expungement of customer dispute information, including a one-year limitation period after the Underlying Customer Case closes for an associated person to file an expungement request that was not decided during the Underlying Customer Case;
        •   codify a party's ability to request expungement on behalf of an associated person not named as a respondent in the Underlying Customer Case (hereinafter referred to as an unnamed person)9 during the Underlying Customer Case, and establish procedures for such requests;
        •   require associated persons who file expungement requests outside of the Underlying Customer Case to file the request under the Industry Code against the firm at which he or she was associated at the time of the events giving rise to the customer dispute;
        •   remove the option to file an expungement request outside of the Underlying Customer Case against a customer; and
        •   specify a minimum filing fee of $1,425 for expungement requests.

        Expungement Arbitrator Roster

        •   establish a roster of public chairpersons with additional qualifications to decide expungement requests (Expungement Arbitrator Roster) filed against a firm under the Industry Code.

        Expungement Requests in Simplified Arbitration Cases

        •   require that an associated person or an unnamed person wait until the conclusion of a customer's simplified arbitration case to file an expungement request, which must be filed against the firm not the customer and would be heard by a panel selected from the Expungement Arbitrator Roster.

        Expungement Requests relating to Customer Complaints that Do Not Result in an Arbitration Claim

        •   require that the associated person seek expungement of the customer dispute information relating to a customer complaint within one year of the member firm initially reporting the customer complaint to CRD.

        I. Requesting Expungement Relief During the Underlying Customer Case

        Current FINRA Rule 12805 provides a list of requirements that arbitrators must meet before they may grant expungement.10 The rule does not, however, provide any guidance for associated persons on how and when an associated person may request expungement relief during the Underlying Customer Case. As discussed further below, the proposal would amend Rule 12805 to set forth requirements for expungement requests filed by an associated person as a party as well as on behalf of an unnamed person.

        A. Expungement Requests by an Associated Person Named as a Party
        1. Applicability

        Currently, under FINRA Rule 12805, an associated person who is a named party in an arbitration may request expungement during that arbitration, but is not required to do so. Some associated persons have filed requests seeking to expunge customer dispute information years after FINRA closed the Underlying Customer Case. Given the length of time between case closure and filing of the request, in many of these instances, the customers cannot be located and any documentation that could explain what happened in the case is not available or cannot be located. Thus, under the proposal, an associated person who is named as a party would be required to request expungement in the Underlying Customer Case. If the associated person does not request expungement in the Underlying Customer Case, the associated person would be prohibited from seeking to expunge the customer dispute information arising from the customer's statement of claim during any subsequent proceeding under the Codes. Requiring an associated person who is named in an arbitration to request expungement of the customer dispute information during the Underlying Customer Case would eliminate expungement requests filed years after the Underlying Customer Case concludes.
        2. Method of Request and Fees

        The proposed amendments would permit the associated person to file an expungement request or include such request in the answer or any pleading.11 The associated person would be permitted to file the request no later than 60 days before the first scheduled hearing session,12 otherwise, the associated person would be required to file a motion13 to seek an extension to file the expungement request. Thus, if an associated person files an expungement request after the 60-day timeframe, the non-moving parties could object and the panel would be required to decide the associated person's motion.

        Along with the expungement request, the associated person would be required to pay a filing fee of $1,425 or the applicable filing fee provided in Rule 12900(a)(1), whichever is greater.14 In addition, consistent with existing provisions under the Codes, there would be an assessment of a member surcharge15 and process fee16 against each member that is named as a party or respondent, or that employed the associated person named as a respondent or party at the time of the events giving rise to the dispute, as applicable.17
        3. Underlying Customer Case Closes by Award

        If the Underlying Customer Case closes by award, the panel would be required to consider and decide the expungement request during the Underlying Customer Case. The panel must, among other things, agree unanimously to grant expungement and in the arbitration award: (1) identify at least one of the Rule 2080(b)(1) grounds for expungement that serves as the basis for expungement and provide a brief written explanation of the reasons for its finding that one or more Rule 2080(b)(1) grounds for expungement applies to the facts of the case; and (2) find that the customer dispute information has no investor protection or regulatory value.

        The unanimity requirement would apply to all requests for expungement of customer dispute information. Thus, when a panel decides an associated person's expungement request during the Underlying Customer Case, the panel would be required to agree unanimously to grant expungement. In deciding the customer's claims, however, a majority agreement of the panel would continue to be sufficient.
        4. Underlying Customer Case Closes Other than by Award

        If the Underlying Customer Case closes other than by award (e.g., the parties settle the arbitration), the panel in the Underlying Customer Case would not decide the associated person's expungement request. In this situation, the associated person would be permitted to file the expungement request as a new claim under the Industry Code against the firm at which he or she was associated at the time of the events giving rise to the customer dispute.18 Under the proposal, an associated person would not be permitted to file the new expungement request against the customer because the customer should not be asked to participate in another arbitration hearing that could increase the customer's costs and expenses. Instead, the associated person would be required to name the firm at which he or she was associated at the time of the events giving rise to the customer dispute with the goal of having a more robust expungement proceeding that will help the panel determine whether to grant expungement. As discussed in further detail below, this new claim would be decided by a three-person panel selected from the Expungement Arbitrator Roster.
        5. Limitations on Expungement Requests

        For the expungement request to be considered after the Underlying Customer Case closes other than by award, the associated person would be required to file the request within one year after FINRA closes the Underlying Customer Case, provided the expungement request is not barred. Under the proposal, an associated person would be barred from requesting expungement relief if: (1) a panel or arbitrator in the Underlying Customer Case issued a decision on the expungement request for the same customer dispute information; (2) the associated person requested expungement of the same customer dispute information in court and the court denied the request; (3) the Underlying Customer Case has not concluded; (4) it has been more than a year since FINRA closed the Underlying Customer Case; or (5) if there was no Underlying Customer Case involving the customer dispute information, more than one year has elapsed since the date that the member firm initially reported the customer complaint to CRD.19

        The first two limitations would prevent an associated person from forum shopping to garner a favorable outcome on his or her expungement request. Under the proposal, these limitations would apply to all requests for expungement of customer dispute information filed in the forum, including requests decided prior to the effective date of the proposal.

        With respect to the third limitation, if an associated person's expungement request was not decided during the Underlying Customer Case, the associated person would be required to wait until the Underlying Customer Case concludes before filing a request for expungement. Thus, under the proposal, if the Underlying Customer Case has not concluded and an associated person has filed a request for expungement of the customer dispute information at issue in the Underlying Customer Case, FINRA would stay the associated person's expungement request until the Underlying Customer Case concludes and permit the associated person to refile it under the Industry Code so that it could be heard by a panel from the Expungement Arbitrator Roster.

        With respect to the fourth limitation, if the expungement request is not filed within a year after the Underlying Customer Case closes, the associated person would forfeit his or her right to request expungement. The one-year limitation period would ensure that the expungement hearing is held close in time to the Underlying Customer Case, when information regarding the Underlying Customer Case is available and in a timeframe that would increase the likelihood for the customer to participate if he or she chooses to do so.

        Under the proposal, the one-year limitation period would apply where the Underlying Customer Case closes after the effective date of the proposal. If the Underlying Customer Case closes on or prior to the effective date of the proposal, the associated person would have six months from the effective date to file the expungement request.

        The fifth limitation would establish a one-year period for associated persons to expunge customer dispute information that arose from a customer complaint and did not result in an arbitration claim. Under the proposal, the associated person would have a year from the date that a member firm initially reported a customer complaint to CRD to file an expungement request.20 If a member firm initially reports a customer complaint to CRD on or prior to the effective date of the proposal, the associated person would have six months from the effective date of the proposal to file the expungement request.
        B. Expungement Requests by a Party on Behalf of an Unnamed Person
        1. Applicability

        The proposal would define an unnamed person to mean an associated person or formerly associated person who is identified in Forms U4 or U5 as having been the subject of an investment-related customer-initiated arbitration that alleged that he or she was involved in one or more sales practice violations, but who was not named as a respondent in the arbitration.21

        Currently, unnamed persons have three arbitration avenues to pursue expungement under the Codes: (1) a party to an arbitration may request expungement on their behalf during the Underlying Customer Case; (2) the unnamed persons may try to intervene in the Underlying Customer Case; and (3) the unnamed persons may file a separate arbitration case seeking expungement after the Underlying Customer Case closes.

        As explained further below, the proposed amendments would codify the ability of a party in the Underlying Customer Case to request expungement on behalf of an unnamed person with the written approval of the unnamed person. The proposed amendments would also codify procedures regarding when and how an unnamed person may file a separate case seeking expungement of customer dispute information after the Underlying Customer Case closes.

        As these would be the only avenues by which an unnamed person may request expungement of customer dispute information under the Codes, the proposed amendments would foreclose the option for an unnamed person to intervene in the Underlying Customer Case and thereby remove the potential for the unnamed person to become a party in the Underlying Customer Case.
        2. Procedural Similarities to Expungement Requests by an Associated Person Named as a Party

        The proposed procedures discussed above that would apply to expungement requests by an associated person named as a party (i.e., method of request and fees, customer case closure either by award or otherwise, and one-year limitation period) would also apply to expungement requests by a party on behalf on an unnamed person, with some modifications as explained below.

        First, a party requesting expungement relief on behalf of an unnamed person would be required to file with the Director of the Office of Dispute Resolution22 (Director) and serve on all parties no later than 60 days before the first scheduled hearing session: (1) a Form Requesting Expungement Relief on Behalf of an Unnamed Person, signed by the unnamed person whose CRD record would be expunged;23 and (2) a statement requesting expungement relief.24 The signed form would represent an acknowledgement by the unnamed person that he or she agrees to be bound by the panel's decision on the request for expungement relief. If the party does not request expungement within the 60-day timeframe, the party would be required to file a motion seeking an extension to file the expungement request.

        Second, if the Underlying Customer Case closes other than by award, FINRA would notify the unnamed person in writing that the case has closed. This milestone in the customer's case would start the one-year limitation period for the unnamed person to seek expungement of the customer dispute information against the firm at which he or she was associated at the time of the events giving rise to the customer dispute, in a separate action under the Industry Code (as discussed in further detail below).

        Finally, if a party from the Underlying Customer Case does not request expungement relief on behalf of the unnamed person, the unnamed person would be permitted to file an expungement request under the Industry Code against the firm at which he or she was associated at the time of the events giving rise to the customer dispute, within one year of the Underlying Customer Case closure, provided the expungement request is not barred.25

        II. Proposed Changes that Apply to All Requests for Expungement of Customer Dispute Information

        Currently, the Codes provide criteria that a panel must follow before it may decide an expungement request.26 As explained in further detail below, under the proposal, the current requirements to hold a hearing session and to provide a basis for expungement in an arbitration award would be expanded to clarify the process and guide further the arbitrators' decision-making. The proposed changes would apply to all requests to expunge customer dispute information filed under the Codes.

        A. Hold a Hearing Session

        Currently, the Codes require a panel that is deciding an expungement request to hold a recorded hearing session (by telephone or in person) regarding the appropriateness of expungement.27 The proposed amendments would require that an associated person who is seeking to have his or her CRD record expunged appear at the expungement hearing, either in person or by videoconference; appearance by telephone would not be an option. As the associated person is requesting the permanent removal of information from CRD, FINRA believes that the associated person should be available in person or by videoconference to present his or her case and respond to questions from the panel.
        B. Unanimity and Additional Finding Required to Grant Expungement of Customer Dispute Information

        Currently, the Codes require that the panel indicate in the arbitration award which of the Rule 2080 grounds for expungement serves as the basis for its expungement order and provide a brief written explanation of the reasons for its finding that one or more Rule 2080 grounds for expungement applies to the facts of the case.28

        The proposed amendments would require that the panel agree unanimously to grant expungement and in the arbitration award: (1) identify at least one of the Rule 2080(b)(1) grounds for expungement that serves as the basis for expungement and provide a brief written explanation of the reasons for its finding that one or more Rule 2080(b)(1) grounds for expungement applies to the facts of the case; and (2) find that the customer dispute information has no investor protection or regulatory value.

        The proposal would clarify for arbitrators that the standard for granting the permanent removal of customer dispute information from CRD is a finding that the customer dispute information has no investor protection or regulatory value. Since Rule 2080 has been in effect, FINRA has implemented policies and procedures to strengthen the expungement process. For example, in 2008, FINRA adopted Rule 12805 to require arbitrators to perform additional fact finding before granting expungement of customer dispute information.29 After the approval of FINRA Rule 12805, FINRA staff updated the arbitrator training materials and all arbitrators were required to certify that they had familiarized themselves with the requirements of the expungement rules.30 In 2013, in response to FINRA staff's concerns about the number of expungement requests granted after the Underlying Customer Case settles, FINRA published the Guidance for arbitrators to use when considering expungement requests.31

        Based on FINRA's review of awards where expungement has been granted, arbitrators appear to be following the practices identified in the Guidance and have a heightened awareness that expungement is an extraordinary remedy. FINRA has noticed a marked improvement in the quality of the awards in which expungement is granted. Notwithstanding these positive results, FINRA believes that expanding the findings that arbitrators must make before granting expungement of customer dispute information would help FINRA maintain the accuracy of the data that appears in CRD by ensuring that only information that is not valuable to regulators and investors is expunged from CRD.32

        III. Requests for Expungement of Customer Dispute Information Under the Industry Code and the Expungement Arbitrator Roster

        As explained above, if an expungement request is not decided during the Underlying Customer Case, the proposal would permit an associated person to file the expungement request as a new claim against the firm33 at which he or she was associated at the time of the events giving rise to the customer dispute, provided the claim is not barred.34 A three-person panel selected from the Expungement Arbitrator Roster would decide this new claim.

        A. Selection of Panel

        Under the proposal, the Neutral List Selection System35 (NLSS) would randomly select three public chairpersons36 from the Expungement Arbitrator Roster to decide an expungement request.37 To be on the Expungement Arbitrator Roster, the public chairpersons would be required to have the following additional qualifications:
        (1) completed enhanced expungement training;38
        (2) admitted to practice law in at least one jurisdiction; and
        (3) five years' experience in any one of the following disciplines:
        (a) litigation;
        (b) federal or state securities regulation;
        (b) administrative law;
        (c) service as a securities regulator; or
        (d) service as a judge.
        The proposed changes to the expungement framework would help arbitrators on the Expungement Arbitrator Roster better understand the unique nature of this extraordinary remedy and the importance of maintaining the integrity of the public record. The proposed roster composition and the proposed additional requirements to grant expungement, taken together, should help FINRA maintain the integrity of its CRD records and ensure that expungement is only granted in appropriate circumstances.
        B. Expungement Hearing

        Under the proposal, once the panel is selected from the Expungement Arbitrator Roster, it must hold a recorded hearing session regarding the appropriateness of the associated person's request for expungement of customer dispute information. With respect to the hearing session, the proposal provides that: (1) the associated person whose CRD record would be expunged must appear at the expungement hearing either in person or by videoconference;39 (2) the Director would notify the parties from the Underlying Customer Case or the customer complaint of the time and place of the expungement hearing; and (3) all customers in the Underlying Customer Case or customers who filed a customer complaint are entitled to appear at the expungement hearing. At the customer's option, the customer may appear by telephone.

        As discussed above in connection with expungement hearings in the Underlying Customer Case, FINRA believes that as the associated person is requesting the permanent removal of information from CRD, the associated person should be available in person to present his or her case and respond to questions from the panel. In addition, FINRA believes that allowing customers to appear by telephone would make it easier for them to participate in the expungement hearing and, therefore, could encourage them to participate.
        C. Unanimity and Additional Finding Required to Grant Expungement

        Consistent with requests for expungement relief considered by a panel under the Customer Code, a panel selected from the Expungement Arbitrator Roster under the Industry Code may grant expungement of customer dispute information only if the panel agrees unanimously. In addition, in the arbitration award the panel must: (1) identify at least one of the Rule 2080(b)(1) grounds for expungement that serves as the basis for expungement and provide a brief written explanation of the reasons for its finding that one or more Rule 2080(b)(1) grounds for expungement applies to the facts of the case; and (2) find that the customer dispute information has no investor protection or regulatory value.

        IV. Expungement Requests in Simplified Arbitrations

        Under the Codes, arbitrations involving $50,000 or less are decided by a single arbitrator without a hearing, also referred to as a decision "on the papers," and are called simplified arbitrations.40 The Codes provide that the requirement to hold a hearing to decide an expungement request applies to expungement requests made in simplified arbitrations.41

        Under the proposal, an associated person or unnamed person would be required to file an expungement request under the Industry Code against the firm at which he or she was associated at the time of the events giving rise to the customer dispute, and only at the conclusion of the simplified case. Thus, a panel from the Expungement Arbitrator Roster would consider and decide the expungement request.42

        The proposed amendments would address a concern raised by customers that when an associated person requests expungement during a simplified case, the arbitrator holds a hearing during the simplified case to decide the appropriateness of expungement. When the arbitrator conducts a hearing in this situation, the customer is forced to participate in a hearing that he or she did not request, which delays the customer's case and the rendering of an award in the customer's simplified case. The proposed amendments would ensure that expungement requests would not be heard during a simplified case.43

        V. Preliminary Economic Impact Analysis

        A. Regulatory Need

        Associated persons can request expungement of customer dispute information from CRD. As discussed above, some critics have raised concerns about arbitration panels granting requests for expungement of customer dispute information when the panel has not heard the full merits of the Underlying Customer Case. Claimants and their counsel may not have the incentive to participate in expungement hearings. Panels, therefore, may receive information that is one-sided, which could favor the associated person seeking expungement. The proposed amendments would provide for an increased opportunity for customer participation in expungement decisions, make information regarding the Underlying Customer Case more readily available, make the expungement decision more timely relative to the Underlying Customer Case, and establish an Expungement Arbitrator Roster to decide expungement requests when expungement has not been decided as part of the Underlying Customer Case.
        B. Economic Baseline

        The economic baseline for the proposed amendments is the current rules under the Codes that address the process for associated persons to expunge customer dispute information from CRD. The proposed amendments are expected to affect associated persons; firms; customers to complaints or arbitration cases; customers that publicly view CRD information through BrokerCheck; and the SEC, FINRA, state and other regulators that use CRD.

        Associated persons have incentive to file for expungement relief to remove customer dispute information from CRD. By removing customer dispute information from CRD, associated persons would also remove customer dispute information from BrokerCheck. Customer dispute information on CRD and BrokerCheck may impact the business of associated persons and reduce their professional opportunities. Investors (including current and prospective customers) use BrokerCheck to learn about the professional background and conduct of associated persons. Current and prospective customers may be less likely to select or remain with associated persons who have customer dispute information on their records. Current and future employers can also consider customer dispute information when making employment decisions.

        Although panels that decide expungement requests receive information related to the expungement request from associated persons, they may not receive such information from customers. Panels are likely to receive information from customers if the panel decides the expungement request during the Underlying Customer Case. Panels are less likely to receive such information if the Underlying Customer Case is settled or withdrawn. Panels may also not receive information from customers if associated persons file separate claims requesting expungement and the customers are unwilling or unable to participate. In these instances, customers and their counsel may not have the incentive to participate in the separate expungement hearing. Associated persons may also request expungement of customer dispute information long after the Underlying Customer Case closes, making it potentially more difficult for customers to participate and the panel to verify or validate the information provided.

        One-sided information could favor the associated persons seeking expungement, which has the potential to reduce the integrity and reliability of the information on CRD and BrokerCheck. As noted above, investors use that information to make decisions about associated persons with whom they may wish to do business. The SEC, FINRA, state and other regulators use CRD information for licensing and regulatory activities. Accordingly, the integrity and reliability of CRD information is critical to the needs of these stakeholders.

        FINRA staff is able to identify 5,482 customer claims in arbitration that were filed from 2014 to 2016, and that were closed as of June 30, 2017. FINRA staff is also able to identify 12,849 customer complaints that were filed against associated persons and closed during the same time period but did not result in an arbitration claim. These customer claims and complaints are available in the CRD system and disclosed through BrokerCheck and, therefore, could be the subject of an expungement request by an associated person.

        FINRA staff is able to identify 2,232 customer arbitration cases involving an expungement request that were filed from 2014 to 2016 and closed as of June 30, 2017. Among the 2,232 cases, 1,738 (78 percent) were closed by settlement or mediation. Another 384 (17 percent) of the 2,232 cases were closed by hearing or on the papers; another 92 (4 percent) were withdrawn; and 18 (less than 1 percent) were closed by other means. In addition to the 2,232 customer arbitration cases, FINRA staff is also able to identify 183 intra-industry arbitration cases that involve an expungement request of customer dispute information.

        Among the cases containing a request for expungement of customer dispute information that were filed from 2014 to 2016 and closed as of June 30, 2017, arbitrators made a determination regarding the expungement of customer dispute information in 808 of these cases. The 808 cases include decisions regarding expungement requests as part of the Underlying Customer Case as well as decisions regarding expungement requests when associated persons filed a separate claim for expungement following the close of the Underlying Customer Case.

        Arbitrators recommended expungement for at least one associated person in 608 (75 percent) of the 808 cases. In another 213 (26 percent) of the 808 cases, arbitrators did not grant expungement for at least one associated person. In a few of the 808 cases where more than one associated person sought expungement relief, arbitrators both granted and did not grant expungement relief for at least one associated person. Among the 808 cases in which arbitrators made a determination regarding the expungement of customer dispute information, the Underlying Customer Case closed by settlement in 436 of the cases. Arbitrators recommended expungement for at least one associated person in 88 percent of these 436 cases.

        If an arbitration panel grants expungement of customer dispute information, the associated person must obtain an order from a court of competent jurisdiction confirming the arbitration award containing expungement relief. In the experience of FINRA staff, courts typically confirm arbitration awards containing expungement relief. Associated persons that obtain a court order confirming the arbitration award must then serve the confirmed award on FINRA to have the customer dispute information expunged. Not all panel expungement recommendations result in the expungement of customer dispute information from CRD and BrokerCheck. Some associated persons may determine not to confirm the award in court. As of June 30, 2017, FINRA had expunged customer dispute information in connection with 391 (64 percent) of the 608 cases pursuant to a court order. As of that date, associated persons may have not yet sought or obtained a court order for the remaining 217 of the 608 cases. Other associated persons may have not yet served the confirmed award on FINRA.

        Lastly, the current fee structure for filing a request to expunge customer dispute information provides incentives for associated persons to file a request separately from the Underlying Customer Case and add a small monetary claim, thus making it a simplified claim, to reduce the filing fee to $50 from $1,575 (i.e., the filing fee for a non-monetary/ unspecified claim). Further, by making the request a simplified claim, the case can be heard by one arbitrator as opposed to the default of a three-arbitrator panel for non-monetary or unspecified claims.44
        C. Economic Impacts

        The proposed amendments are designed, among other things, to improve the quality and timeliness of the information available to panels determining requests for expungement. The panels assigned to the Underlying Customer Case would be more likely to decide expungement requests, if any. In addition, expungement decisions would occur soon after the Underlying Customer Case closes or a member firm initially reports a customer complaint to CRD. The proposed amendments would therefore increase the opportunity for or likelihood that panels would receive information from customers when considering expungement requests. The information is therefore less likely to be one-sided and favor associated persons. The proposed amendments would also establish qualifications for those arbitrators on the Expungement Arbitrator Roster who decide expungement requests when customers are less likely to provide information in connection with an expungement request. With these additional qualifications, the arbitrators should be better able to evaluate the information they receive in a more judicious and discerning manner.

        The proposed amendments would benefit investors, member firms, and regulators by helping to ensure that the customer dispute information on CRD and, therefore, BrokerCheck more accurately reflects those customer disputes that have investor protection or regulatory value. Stakeholders would be more confident in the reliability of the customer dispute information contained on CRD and BrokerCheck. The customer dispute information contained on CRD and BrokerCheck would also be more meaningful and valuable to stakeholders.

        Customers would benefit from the proposed amendments that restrict the manner and timing of associated persons' requests for expungement of customer dispute information. Associated persons would have one year after a customer complaint was initially reported to CRD to request expungement of the information. For customer complaints that result in an arbitration claim, associated persons named in an Underlying Customer Case would be required to request expungement during the Underlying Customer Case. Associated persons whose expungement request is not determined during the Underlying Customer Case would then have one year following the close of the Underlying Customer Case to request expungement of the customer dispute information. Customers would therefore have a greater ability to participate in the expungement hearings, if they so choose. In addition, if a separate expungement case were filed, the associated person would no longer be able to name the customer as the opposing party. Customers would therefore no longer incur the costs and inconvenience to be a party to these claims. Lastly, expungement requests would not be heard during a simplified case. As a result, customer claimants in simplified cases would no longer experience delays in the resolution of their cases as a result of expungement hearings, and would not be forced to attend a hearing in a case that the customer chose to be decided on the papers.

        The proposed amendments would impose costs on associated persons, primarily by restricting how and when they could file an expungement request and, in some cases, by increasing the cost of filing an expungement request. The stricter requirements for requesting expungement of customer dispute information are meant to improve the quality and timeliness of the information that the panel hearing the request receives. The information that panels receive is less likely to be one-sided from associated persons only. The information is therefore less likely to favor the associated persons requesting expungement.

        The requirement that the decision be unanimous, rather than a majority decision, could also increase the difficulty for an associated person to obtain expungement. To the extent that customers and firms use customer dispute information to make business and employment decisions, if customer dispute information is not expunged as frequently, associated persons could experience a loss of business and professional opportunities, loss of employment at their current firm, and thus, decreased income.45

        Associated persons could also incur additional fees to file expungement requests. The associated person would be required to pay a filing fee of $1,425 or the applicable filing fee provided in Rule 12900(a)(1), whichever is greater. This aspect of the proposed amendments would end the practice of associated persons adding a monetary claim of less than $1,000 to separately filed expungement requests to reduce their filing fee to the minimum of $50.46

        Associated persons would also be required to attend expungement hearings in person, either by traveling to the hearing location or by videoconference, depending on the method permitted by the arbitration panel. Traveling to the hearing location could significantly increase the cost of having their request heard, by increasing both transportation and room and board costs as well as lost time in transit. Attendance by videoconference would eliminate many of these costs.

        The potential decrease in the frequency in which panels recommend expungement and the potential increase in costs to file and to attend hearings could reduce the incentive of associated persons to request expungement of customer dispute information. Associated persons could continue to request expungement relief if they believe that the request is likely to be granted and that any reduction to their income potential is greater than any costs that they could incur. Accordingly, the types of expungement cases that arbitration panels would consider under the proposed amendments would likely be more meritorious.

        The proposed amendments would also impose additional costs on member firms. If associated persons file a separate claim for expungement, they would be required to file the claim against the firm at which he or she was associated at the time of the events giving rise to the customer dispute, rather than against the customer. To the extent that member firms would become a party to the expungement case more frequently, they could experience higher costs associated with those cases.

        The magnitude of the benefits and costs of the proposed amendments depends on the change in the number of associated persons requesting expungement of customer dispute information, the number of arbitration awards that grant expungement, and the number of expungement awards confirmed by the courts. The extent to which awards granting expungement become more informed would enhance the integrity and reliability of the customer dispute information on CRD and, therefore, BrokerCheck and the ability of customers and regulators to rely on the information as an accurate description of the conduct of associated persons. The magnitude of the benefits and costs also depends on the extent to which the record of associated persons decreases their business or professional opportunities. A greater decrease in business or professional opportunities would result in a greater economic transfer between associated persons. The proposed amendments would have no effect on associated persons that do not have future customer claims or complaints.
        D. Alternatives Considered

        As noted above, FINRA staff has been working with NASAA on various expungement issues, including potential amendments to the existing regulatory review process. The proposed amendments in this Notice reflect just one approach. FINRA requests comment below to inform subsequent revisions to the proposed amendments, including other approaches that could reduce the potential that panels receive information that is one-sided, which may favor the associated person requesting expungement.

        Request for Comment

        FINRA is interested in receiving comments on all aspects of the proposed amendments. In particular, FINRA seeks comment on the following questions:

        1. FINRA Rules 12805 and 13805 provide, in relevant part that, in order to grant expungement of customer dispute information under Rule 2080, the panel must comply with the requirements stated in the rule. (Emphasis added.) FINRA notes, however, that if a panel issues an arbitration award containing expungement relief, the award must be confirmed by a court of competent jurisdiction and FINRA could decide to oppose the confirmation. Thus, as the associated person is required to complete additional steps after the arbitrators make their finding in the award before FINRA will expunge the customer dispute information, FINRA believes the word "grant" may not be an appropriate description of the panel's authority in the expungement process. FINRA is considering changing the word to "recommend." Please discuss whether the rule should retain "grant" or change to "recommend" or some other description to more accurately reflect the panel's authority in the expungement process.
        2. Would named associated persons request expungement in every case to preserve the right to have the expungement claim heard and decided, either in the Underlying Customer Case or as a new claim under the Industry Code? If so, what would be the potential costs and benefits of a named person requesting expungement in every case?
        3. Should FINRA consider bifurcating the expungement request from the customer's claim in all cases relating to customer disputes? What would be the costs and benefits of such an approach?
        4. What are the costs and benefits of requiring the unanimous consent of a three-person panel to grant all requests for expungement of customer dispute information?
        5. Is the one-year limitation on being able to request expungement of customer dispute information appropriate? Should the time period be longer or shorter? Please discuss.
        6. Should the associated person who is requesting expungement be required to appear in person or by videoconference, rather than by phone, at the expungement hearing?
        7. Should the arbitrators on the Expungement Arbitrator Roster have specific qualifications? If so, are the proposed additional qualifications appropriate or should FINRA consider other qualifications?
        8. Should the arbitrators on the Expungement Arbitrator Roster be lawyers only or could the experience of serving on three arbitrations through award be a sufficient substitute?
        9. How would the proposed amendments affect the granting or denying of expungement requests? Which aspect of the proposed amendments would have the largest impact on expungement determinations? Why?
        10. The proposal would establish a one-year limitation period for associated persons to expunge customer dispute information that arose from a customer complaint. The limitation period would start on the date that the member firm initially reported the customer complaint to CRD. Should the one-year limitation period be based on a different milestone? If so, what should it be?
        11. The proposal would clarify for arbitrators that the standard for granting the permanent removal of customer dispute information from CRD is a finding that at least one of the Rule 2080(b)(1) factors applies and that the customer dispute information has "no investor protection or regulatory value." Are there specific factors that arbitrators should consider when making a finding that the customer dispute information has "no investor protection or regulatory value"?
        12. In a simplified arbitration case, if a customer requests a hearing, should the single arbitrator be permitted to decide an expungement request, if a request is filed?

        1. On December 16, 2015, the FINRA Dispute Resolution Task Force (Task Force) issued its Final Report and Recommendations (Final Report). One of the recommendations was that FINRA create a special arbitrator roster to handle expungement requests in settled cases and in cases when a claimant did not name the associated person as a respondent. A list of the Task Force members is available at http://www.finra.org/arbitration-and-mediation/finra-dispute-resolution-task-force. The Final Report is available at http://www.finra.org/sites/default/files/Final-DR-task-force-report.pdf.

        2. See Expanded Expungement Guidance (September 2017), available at http://www.finra.org/arbitration-and-mediation/notice-arbitrators-and-parties-expanded-expungement-guidance.

        3. Persons submitting comments are cautioned that FINRA does not redact or edit personal identifying information, such as names or email addresses, from comment submissions. Persons should submit only information that they wish to make publicly available. See Notice to Members 03-73 (Online Availability of Comments) (November 2003) for more information.

        4. See Section 19 and rules thereunder. After a proposed rule change is filed with the SEC, the proposed rule change generally is published for public comment in the Federal Register. Certain limited types of proposed rule changes take effect upon filing with the SEC. See SEA Section 19(b)(3) and SEA Rule 19b-4.

        5. FINRA operates the CRD system pursuant to policies developed jointly with NASAA. FINRA works with the SEC, NASAA, other members of the regulatory community, and member firms to establish policies and procedures reasonably designed to ensure that information submitted and maintained on the CRD system is accurate and complete. These procedures, among other things, cover expungement of customer dispute information from the CRD system in narrowly defined circumstances.

        6. For example, broker-dealers use the Uniform Application for Securities Industry Registration or Transfer, referred to as Form U4, to register or transfer the registrations of, associated persons with self-regulatory organizations (SROs), and with states, commonwealths and territories. Also, broker-dealers use the Uniform Termination Notice for Securities Industry Registration, referred to as Form UB, to terminate the registrations of associated persons with SROs, and with states, commonwealths and territories.

        7. See Notice to Members 04-16 (March 2004).

        8. FINRA Rule 2080 requires members or associated persons seeking expungement of customer dispute information to obtain an order from a court of competent jurisdiction directing expungement or confirming an arbitration award recommending expungement relief and requires the member or associated person to name FINRA as a party in any judicial proceeding seeking expungement relief. FINRA may, however, waive the requirement to name it as a party if it determines that the requested expungement relief is based on affirmative judicial or arbitral findings that: (1) the claim, allegation or information is factually impossible or clearly erroneous, (2) the associated person was not involved in the alleged investment-related sales practice violation, forgery, theft, misappropriation or conversion of funds, or (3) the claim, allegation, or information is false. In addition, FINRA has sole discretion "under extraordinary circumstances" to waive the requirement if the expungement request is meritorious and expungement would not have a material adverse effect on investor protection, the integrity of the CRD system, or regulatory requirements.

        9. In 2009, Forms U4 and U5 were amended to add questions that required registered persons to report allegations of sales practice violations made in customer-initiated arbitrations even if they were not named as a respondent in the arbitration. See Securities Exchange Act Release No. 59916 (May 13, 2009), 74 FR 23750 (May 20, 2009) (Order Approving SR-FINRA-2009-008); see also Regulatory Notice 09-23 (May 2009). Such persons may believe these allegations are unfounded and seek to have them expunged. Because they are not parties to the customer-initiated arbitration, they are unable to seek expungement relief in the Underlying Customer Case.

        10. FINRA Rule 12805 provides that a panel must comply with the following criteria before granting expungement: (1) hold a hearing to decide the issue of expungement; (2) review settlement documents, and consider the amount of payments made to any party, and any other terms and conditions of the settlement; (3) indicate in the award which of the grounds in FINRA Rule 2080 is the basis for expungement and provide a brief written explanation of the reasons for granting expungement; and (4) assess all forum fees for hearing sessions in which the sole topic is the determination of the appropriateness of expungement against the parties requesting expungement relief. See also FINRA Rule 13805.

        11. Under the Codes, a pleading is a statement describing a party's causes of action or defenses (e.g., statement of claim, answer, or counterclaim). See FINRA Rule 12100(v).

        12. A hearing session is any meeting between the parties and the arbitrator(s) of four hours or less, including a hearing or prehearing conference. See FINRA Rules 12100(p) and 13100(p).

        13. See FINRA Rule 12503.

        14. Currently, if an associated person requests expungement relief only in a claim filed separately, the filing fee would be the non-monetary/unspecified claim amount, or $1,575. See FINRA Rules 12900(a) and 13900(a). Associated persons have been adding a monetary claim of less than $1,000 to a request for expungement relief to reduce the filing fee to $50. By converting the non-monetary/ unspecified claim into a simplified claim, the associated person reduces the number of arbitrators who would hear and consider a complex matter like expungement from three to one. See FINRA Rules 12401 and 13401.

        15. A surcharge is assessed against each member that is named as a respondent in or employed, at the time the dispute arose, an associated person who is named as a respondent in a claim, counterclaim, cross claim, or third party claim filed and served under the Codes. See FINRA Rules 12901(a)(1)(B) and 12901(a)(1)(C) and FINRA Rules 13901(a)(2) and 13901(a)(3).

        16. Each member that is a party to an arbitration claim in which more than $25,000 is in dispute is required to pay a process fee based on the amount of the claim. In addition, if an associated person of a member is a party, the member that employed the associated person at the time the dispute arose is charged the process fee, even if the member is not a party. See FINRA Rules 12903(a) and (b) and FINRA Rules 13903(a) and (b).

        17. Under the Codes, no member is assessed more than a single surcharge or one process fee in any arbitration. See FINRA Rules 12901(a)(4) and 12903(b) and FINRA Rules 13901(d) and 13903(b).

        18. The proposed amendments would not allow an associated person named in the Underlying Customer Case to file the claim requesting expungement relief against the customer from the Underlying Customer Case.

        19. See proposed FINRA Rule 13805(a)(3).

        20. A customer complaint can be reported to the CRD system via a Form U4 or Form U5. Pursuant to the requirements of FINRA Rule 1010, an associated person should be aware of the filing of a Form U4 by the associated person's member firm, as well as any amendments to the Form U4 to report a customer complaint involving that person. Article V, Section 3 of FINRA's By-Laws requires that a member firm provide an associated person a copy of an amended Form UB, including one reporting a customer complaint involving the associated person. Moreover, FINRA provides several methods for associated persons and former associated persons to check their records (e.g., by requesting an Individual Snapshot or by checking BrokerCheck).

        21. See proposed FINRA Rule 12100(dd). See also supra note 9.

        22. The term "Director" means the Director of the Office of Dispute Resolution. Unless the Codes provide that the Director may not delegate a specific function, the term includes staff to whom the Director has delegated authority. See FINRA Rules 12100(m) and 13100(m).

        23. The text of the form can be found at www.finra.orq/notices/17-42.

        24. Under the proposal, the party may include the request for expungement relief in an answer or pleading.

        25. See proposed FINRA Rule 13805(a)(3). The unnamed person also would be prohibited from filing an expungement request against a customer.

        26. See supra note 10.

        27. See FINRA Rules 12805(a) and 13805(a).

        28. See FINRA Rules 12805(c) and 13805(c).

        29. Id.

        30. In 2014, FINRA staff revamped the arbitrator training materials and amended them again in 2016.

        31. See supra note 2.

        32. See Securities Exchange Act Release No. 48933 (Dec. 16, 2003), 68 FR 74667, 74672 (Dec. 24, 2003) (Order Approving File No. SR-NASD-2002-168).

        33. A firm, named as a respondent, would be assessed a member surcharge and process fee as provided under the Codes. See supra notes 15,16 and 17.

        34. See proposed FINRA Rule 13805(a)(3).

        35. See FINRA Rule 13400.

        36. A public arbitrator is an individual who does not have significant ties to the securities industry. See FINRA Rule 13100(x). Arbitrators are eligible to serve as chairpersons if they have completed chairperson training and: (1) have a law degree and are a member of a bar of at least one jurisdiction and have served as an arbitrator through award on at least one arbitration administered by an SRO in which hearings were held; or (2) have served as an arbitrator through award on at least three arbitrations administered by an SRO in which hearings were held. See FINRA Rule 13400(c).

        37. The first arbitrator selected by NLSS would be the chairperson of the panel. The parties would not be permitted to strike any arbitrators selected by NLSS, but would be permitted to challenge any arbitrator selected for cause, pursuant to FINRA Rule 13410. If an arbitrator is removed, NLSS would randomly select a replacement subject only to a challenge for cause. The parties would not be permitted to agree to fewer than three arbitrators on the panel, and the parties would not be permitted to stipulate to the use of preselected arbitrators. Finally, if the associated person withdraws the claim after a panel is appointed, the case would be closed with prejudice, unless the panel decides otherwise. See proposed FINRA Rule 13806.

        38. The Task Force suggested that the arbitrators be chair-qualified. In addition, it suggested that the arbitrators who would serve on the special arbitrator panel complete enhanced expungement training. FINRA agrees that the training for arbitrators selected for the Expungement Arbitrator Roster should be expanded. Thus, FINRA would create training for these arbitrators, which would emphasize that, if there is no party opposing the associated person's request for expungement relief, the panel would need to review more proactively the request and documentation and, if necessary, ask questions and for more information, before making a decision. The training would also focus on the need to identify one or more of the grounds for expungement in FINRA Rule 2080(b) (1) as the basis for expungement.

        39. The panel would determine the method of appearance.

        40. See FINRA Rules 12800(a)–(c); see also FINRA Rules 13800(a)–(c).

        41. See FINRA Rules 12805(a) and 13805(a).

        42. See proposed FINRA Rule 12800. FINRA Rule 13800 would also be amended to require that an associated person may only request expungement of customer dispute information under Rule 2080 by filing the request pursuant to Rule 13805(a) at the conclusion of the simplified arbitration case.

        43. FINRA Rule 12800(c)(1) permits a customer to request a hearing. Under the proposal, if a customer requests a hearing, the arbitrator would decide the customer's case and at the conclusion of the customer's case, the associated person could file the expungement request against the firm and a panel from the Expungement Arbitrator Roster would decide the request. See also FINRA Rule 13800(c)(1).

        44. Among the 2,232 customer arbitration cases and 183 intra-industry arbitration cases (mentioned above) that involve an expungement request of customer dispute information, 67 (3 percent) of the cases had an initial filling fee of $50.

        45. Researchers find a negative relationship between misconduct disclosures on CRD and the employment opportunities of associated persons. The misconduct disclosures in their analysis, however, include more than just customer allegations. See Mark Egan, Gregor Matvos, and Amit Seru, The Market for Financial Adviser Misconduct, 2016.

        46. Among the 2,232 customer arbitration cases and 183 intra-industry arbitration cases (mentioned above) that involve an expungement request of customer dispute information, approximately one-fifth of the expungement filing fees would have increased to $1,425 under the proposed amendments. The increase in fees would range from $450, for claims greater than $50,000 but less than or equal to $100,000 which currently have a filing fee of $975, to $1,375, for claims with a monetary value of less than or equal to $1,000 which currently have a filing fee of $50.

      • 17-41 FINRA Requests Comment on the Effectiveness and Efficiency of Its Payments for Market Making Rule; Comment Period Expires: January 29, 2018

        Retrospective Rule Review

        Regulatory Notice
        Notice Type

        Request for Comment
        Referenced Rules & Notices

        FINRA Rule 5250
        Notice to Members 75-16
        Regulatory Notice 17-14
        Suggested Routing

        Compliance
        Legal
        Market Making
        Senior Management
        Training
        Key Topics

        Market Making

        Summary

        FINRA is conducting a retrospective review of the rule governing payments for market making to assess its effectiveness and efficiency. This Notice outlines the general retrospective rule review process and seeks responses to several questions related to firms' experiences with this specific rule.

        Questions regarding this Notice should be directed to:

        •   Racquel Russell, Associate General Counsel, Office of General Counsel (OGC), at (202) 728-8363 or by email at racquel.russell@finra.org;
        •   Cara Rosen, Counsel, OGC, at (202) 728-8852 or by email at cara.rosen@finra.org; or
        •   Shawn O'Donoghue, Economist, Office of the Chief Economist, at (202) 728-8273 or by email at Shawn.Odonoghue@finra.org.

        Action Requested

        FINRA encourages all interested parties to comment on the proposal.
        Comments must be received by January 29, 2018.

        Comments must be submitted through one of the following methods:

        •   Emailing comments to pubcom@finra.org; or
        •   Mailing comments in hard copy to:
        Jennifer Piorko Mitchell
        Office of the Corporate Secretary
        FINRA
        1735 K Street, NW
        Washington, DC 20006-1506

        To help FINRA process and review comments more efficiently, persons should use only one method to comment.

        Important Notes: All comments received in response to this Notice will be made available to the public on the FINRA website. In general, FINRA will post comments as they are received.

        Background and Discussion

        FINRA believes that it is appropriate, after a reasonable period of time, to look back at its significant rulemaking to determine whether a FINRA rule or rule set2 is meeting its intended investor-protection objectives by reasonably efficient means. FINRA further believes that a retrospective review should include a review not only of the substance and application of a rule or rule set, but also FINRA's processes to administer the rules. FINRA intends to select relevant rules and to conduct retrospective rule reviews on an ongoing basis to ensure that its rules remain relevant and appropriately designed to achieve their objectives, particularly in light of environmental, industry and market changes.

        In conducting the review, FINRA staff will follow a similar process to previous retrospective rule reviews. In general, the review process consists of an assessment and action phase. During the assessment phase, FINRA will evaluate the efficacy and efficiency of the rule or rule set as currently implemented, including FINRA's internal administrative processes. FINRA will seek input from affected parties and experts, including its advisory committees, subject-matter experts inside and outside of the organization, and other stakeholders, including industry members, investors, interested groups and the public. FINRA staff will assess issues including the existence of duplicative, inconsistent or ineffective regulatory obligations; whether market or other conditions have changed to suggest there are ways to improve the efficiency or effectiveness of a regulatory obligation without loss of investor protections; and potential gaps in the regulatory framework. Upon completion of this assessment, FINRA staff will consider appropriate next steps, which may include some or all of the following: modifications to the rule, updated or additional guidance, administrative changes or technology improvements, or additional research or information gathering.

        The action phase will then follow. To the extent action involves modification of rules, FINRA will separately engage in its usual rulemaking process to propose amendments to the rules based on the findings. This process will include input from FINRA's advisory committees and an opportunity for comment on specific proposed revisions in a Regulatory Notice or rule filing with the SEC, or both.

        Request for Comment

        FINRA received comments on Rule 5250 (Payments for Market Making) in response to Regulatory Notice 17-14, which requested comment on FINRA rules impacting capital formation.3 FINRA believes it would be useful to solicit further comment on the effectiveness and efficiency of Rule 5250 as part of the retrospective rule review process. Rule 5250 explicitly prohibits a member or associated person from accepting payment or other consideration, directly or indirectly, from an issuer or its affiliates and promoters, for publishing a quotation, acting as a market maker or submitting an application in connection therewith. The rule excepts: (1) payment for bona fide services, including, but not limited to, investment banking services (including underwriting compensation and fees); (2) reimbursement of any payment for registration imposed by the SEC or state regulatory authorities and for listing fees imposed by a self-regulatory organization; and (3) any payment expressly provided for under the rules of a national securities exchange that are effective after being filed with, or filed with and approved by, the SEC pursuant to the requirements of the Exchange Act.

        The prohibition on accepting payments for market making, originally articulated in a Notice to Members in 1975 and codified in 1997, is intended to assure that members act in an independent capacity when publishing a quotation or making a market in an issuer's securities.4 FINRA has stated that such payments may be viewed as a conflict of interest since they may influence the member's decision as to whether to quote or make a market in a security and, thereafter, the prices that the member would quote.

        FINRA seeks answers to the following questions with respect to this rule:

        1. Has the rule effectively addressed the problem(s) it was intended to mitigate? To what extent have the original purposes of and need for the rule been affected by subsequent changes to the markets, the delivery of financial services, the applicable regulatory framework or other considerations? Are there alternative ways to achieve the goals of the rule that FINRA should consider?
        2. What has been your experience with implementation of the rule, including any ambiguities in the rule or challenges to comply with it?
        3. What have been the economic impacts, including costs and benefits, arising from FINRA's rule? Have the economic impacts been in line with expectations described in the rulemaking? To what extent would these economic impacts differ by business attributes, such as size of the firm or differences in business models? Has the rule led to any negative unintended consequences?
        4. Can FINRA make the rule, interpretations or attendant administrative processes more efficient and effective?

        In addition to comments responsive to these questions, FINRA invites comment on any other aspects of the rule that commenters wish to address. FINRA further requests any data or evidence in support of comments. While the purpose of this Notice is to obtain input as to whether or not the current rule is effective and efficient, FINRA also welcomes specific suggestions as to how the rule should be changed. As discussed above, FINRA will separately consider during the action phase specific changes to the rule.


        1. Persons submitting comments are cautioned that FINRA does not redact or edit personal identifying information, such as names or email addresses, from comment submissions. Persons should submit only information that they wish to make publicly available. See Notice to Members 03-73 (November 2003) (Online Availability of Comments) for more information.

        2. A rule set is a group of rules identified by FINRA staff to contain a similar subject, characteristics or objectives.

        3. See letter to Joseph Price, Senior Vice President and Counsel, FINRA, from Vincent R. Molinari, Chief Executive Officer, and Joseph K. Latona, Ouisa Capital, LLC, dated June 20, 2017; letter to Jennifer Piorko Mitchell, Office of the Corporate Secretary, FINRA, from Chris Concannon, President and COO, Cboe Global Markets, Inc., dated November 22, 2017.

        4. See Securities Exchange Act Release No. 38812 (July 3, 1997), 62 FR 37105 (July 10, 1997) (Order Approving File No. SR-NASD-97-29) and Notice to Members 75-16 (February 20, 1975).

      • 17-40 FINRA Provides Guidance to Firms Regarding AntiMoney Laundering Program Requirements Under FINRA Rule 3310 Following Adoption of FinCEN's Final Rule to Enhance Customer Due Diligence Requirements for Financial Institutions Effective Date: *

        *November 21, 2017

        View PDF

        FinCEN's Customer Due Diligence Requirements for Financial Institutions and FINRA Rule 3310

        Regulatory Notice
        Notice Type

        Guidance
        Referenced Rules & Notices

        31 CFR 1023.210, Bank Secrecy Act
        FINRA Rule 3310
        Suggested Routing

        Compliance
        Legal
        Operations
        Senior Management
        Key Topics

        Anti-Money Laundering
        Compliance Programs

        Summary

        FINRA is issuing this Notice to provide guidance regarding member firms' obligations under FINRA Rule 3310 (Anti-Money Laundering Compliance Program) in light of the Financial Crimes Enforcement Network's (FinCEN) adoption of a final rule on Customer Due Diligence Requirements for Financial Institutions (CDD Rule).

        FinCEN's CDD Rule became effective July 11, 2016. Member firms must be in compliance with its provisions by May 11, 2018.

        Questions concerning this Notice should be directed to:

        •   Michael Rufino, Executive Vice President, Head of Member Regulation—Sales Practice, at (212) 858-4487 or by email at Michael.Rufino@finra.org;
        •   Victoria Crane, Associate General Counsel, Office of General Counsel, at (202) 728-8104 or by email at Victoria.Crane@finra.org; or
        •   Meredith Cordisco, Associate General Counsel, Office of General Counsel, at (202) 728-8018 or by email at Meredith.Cordisco@finra.org.

        Background & Discussion

        The Bank Secrecy Act1 (BSA), among other things, requires financial institutions,2 including broker-dealers, to develop and implement anti-money laundering (AML) programs that, at a minimum, meet the statutorily enumerated "four pillars."3 These four pillars require brokerdealers to have written AML programs that include, at a minimum:

        •   the establishment and implementation of policies, procedures and internal controls reasonably designed to achieve compliance with the applicable provisions of the BSA and implementing regulations;
        •   independent testing for compliance by broker-dealer personnel or a qualified outside party;
        •   designation of an individual or individuals responsible for implementing and monitoring the operations and internal controls of the AML program; and
        •   ongoing training for appropriate persons.4

        In addition to meeting the BSA's requirements with respect to AML programs, brokerdealers must also comply with FINRA Rule 3310, which incorporates the BSA's four pillars, including requiring broker-dealers' AML programs to establish and implement policies and procedures that can be reasonably expected to detect and cause the reporting of suspicious transactions.

        On May 11, 2016, FinCEN, the bureau of the Department of the Treasury responsible for administering the BSA and its implementing regulations, issued the CDD Rule5 to clarify and strengthen customer due diligence for covered financial institutions,6 including brokerdealers. In its CDD Rule, FinCEN identifies four components of customer due diligence: (1) customer identification and verification; (2) beneficial ownership identification and verification; (3) understanding the nature and purpose of customer relationships; and (4) ongoing monitoring for reporting suspicious transactions and, on a risk basis, maintaining and updating customer information.7 As the first component is already an AML program requirement, the CDD Rule focuses on the other three components.

        Specifically, the CDD Rule focuses particularly on the second component by adding a new requirement that covered financial institutions identify and verify the identity of the beneficial owners of all legal entity customers at the time a new account is opened, subject to certain exclusions and exemptions. The CDD Rule also addresses the third and fourth components, which FinCEN states "are already implicitly required for covered financial institutions to comply with their suspicious activity reporting requirements," by amending the existing AML program rules for covered financial institutions to explicitly require these components to be included in AML programs as a new "fifth pillar." As a result of the CDD Rule, member firms should ensure that their AML programs are updated, as necessary, to comply with the CDD Rule by May 11, 2018.

        This Notice provides guidance to member firms regarding their obligations under FINRA Rule 3310 in light of the adoption of FinCEN's CDD Rule. In addition, the Notice summarizes the CDD Rule's impact on member firms, including the addition of the new fifth pillar required for member firms' AML programs. Member firms should also consult the CDD Rule as well as FinCEN's related FAQs,8 which FinCEN indicates it will periodically update.

        FINRA Rule 3310 and Amendments to Minimum Requirements for Member Firms' AML Programs

        Section 352 of the USA PATRIOT Act of 20019 amended the BSA to require broker-dealers to develop and implement AML programs that include the four pillars mentioned above. Consistent with Section 352 of the PATRIOT Act, and incorporating the four pillars, FINRA Rule 3310 requires each member firm to develop and implement a written AML program reasonably designed to achieve and monitor the member firm's compliance with the BSA and implementing regulations. Among other requirements, FINRA Rule 3310 requires that each member firm, at a minimum: (1) establish and implement policies and procedures that can be reasonably expected to detect and cause the reporting of suspicious transactions; (2) establish and implement policies, procedures, and internal controls reasonably designed to achieve compliance with the BSA and implementing regulations; (3) provide for annual (on a calendar-year basis) independent testing for compliance to be conducted by member firm personnel or a qualified outside party;10 (4) designate and identify to FINRA an individual or individuals (i.e., AML compliance person(s)) who will be responsible for implementing and monitoring the day-to-day operations and internal controls of the AML program and provide prompt notification to FINRA of any changes to the designation; and (5) provide ongoing training for appropriate persons.

        FinCEN's CDD Rule does not change the requirements of FINRA Rule 3310, and member firms must continue to comply with its requirements.11 However, FinCEN's CDD Rule amends the minimum statutory requirements for member firms' AML programs by requiring such programs to include risk-based procedures for conducting ongoing customer due diligence.12 This ongoing customer due diligence element, or "fifth pillar" required for AML programs, includes: (1) understanding the nature and purpose of customer relationships for the purpose of developing a customer risk profile; and (2) conducting ongoing monitoring to identify and report suspicious transactions and, on a risk basis, to maintain and update customer information.13 As stated in the CDD Rule, these provisions are not new and merely codify existing expectations for firms to adequately identify and report suspicious transactions as required under the BSA and encapsulate practices generally undertaken already by securities firms to know and understand their customers.14 However, to the extent that these elements, which are briefly summarized below, are not already included in member firms' AML programs, the CDD Rule requires member firms to update their AML programs to explicitly incorporate them.

        FINRA is considering whether further rulemaking is necessary to more closely align FINRA Rule 3310 with FinCEN's CDD Rule in light of the now-codified fifth pillar requirement for firms' AML programs.

        Summary of Fifth Pillar's Requirements

        Understanding the Nature and Purpose of Customer Relationships

        FinCEN states in the CDD Rule that firms must necessarily have an understanding of the nature and purpose of the customer relationship in order to determine whether a transaction is potentially suspicious and, in turn, to fulfill their suspicious activity reporting obligations.15 To that end, the CDD Rule requires that firms understand the nature and purpose of the customer relationship in order to develop a customer risk profile. The customer risk profile refers to information gathered about a customer to form the baseline against which customer activity is assessed for suspicious transaction reporting.16 Information relevant to understanding the nature and purpose of the customer relationship may be self-evident and, depending on the facts and circumstances, may include such information as the type of customer, account or service offered, and the customer's income, net worth, domicile, or principal occupation or business, as well as, in the case of existing customers, the customer's history of activity.17 The CDD Rule also does not prescribe a particular form of the customer risk profile.18 Instead, the CDD Rule states that depending on the firm and the nature of its business, a customer risk profile may consist of individualized risk scoring, placement of customers into risk categories or another means of assessing customer risk that allows firms to understand the risk posed by the customer and to demonstrate that understanding.19

        The CDD Rule also addresses the interplay of understanding the nature and purpose of customer relationships with the ongoing monitoring obligation discussed below. The CDD Rule explains that firms are not necessarily required or expected to integrate customer information or the customer risk profile into existing transaction monitoring systems (for example, to serve as the baseline for identifying and assessing suspicious transactions on a contemporaneous basis).20 Rather, FinCEN expects firms to use the customer information and customer risk profile as appropriate during the course of complying with their obligations under the BSA in order to determine whether a particular flagged transaction is suspicious.21

        Conducting Ongoing Monitoring

        As with the requirement to understand the nature and purpose of the customer relationship, the requirement to conduct ongoing monitoring to identify and report suspicious transactions and, on a risk basis, to maintain and update customer information, including information regarding the beneficial ownership of legal entity customers, merely adopts existing supervisory and regulatory expectations as explicit minimum standards of customer due diligence required for firms' AML programs.22 If, in the course of its normal monitoring for suspicious activity, the member firm detects information that is relevant to assessing the customer's risk profile, the member firm must update the customer information, including the information regarding the beneficial owners of legal entity customers, as discussed below.23 However, there is no expectation that the member firm update customer information, including beneficial ownership information, on an ongoing or continuous basis.24

        Identifying and Verifying the Identity of Beneficial Owners of Legal Entity Customers

        In addition to requiring that member firms incorporate the fifth pillar into their AML programs, the CDD Rule also requires member firms to establish and maintain written procedures as part of their AML programs that are reasonably designed to identify and verify the identities of beneficial owners25 of legal entity customers.26 FinCEN states that this information can provide law enforcement with key details about suspected criminals who conceal illicit activity and assets through legal structures they own or control.27 In addition, FinCEN states the information will help financial institutions to assess and mitigate risk more effectively in connection with existing requirements, such as enhancing suspicious activity report filings.28

        Under the CDD Rule, member firms must obtain from the natural person opening the account29 on behalf of the legal entity customer, the identity of the beneficial owners of the entity.30 In addition, that individual must certify, to the best of his or her knowledge, as to the accuracy of the information. FinCEN intends that the legal entity customer identify its ultimate beneficial owner(s) and not "nominees" or "straw men."31 The CDD Rule does not prescribe the form in which member firms must collect the required information, which includes the name, date of birth, address and Social Security number or other government identification number of beneficial owners.32 Rather, member firms may choose to obtain the information by using FinCEN's standard certification form33 adopted as part of this rulemaking or by another means, provided that the chosen method satisfies the identification requirements in the CDD Rule.34 In any case, the CDD Rule requires that member firms maintain records of the beneficial ownership information they obtain.35

        Once member firms obtain the required beneficial ownership information, the CDD Rule requires that member firms verify the identity of the beneficial owner(s)—in other words, that they are who they say they are and not their status as beneficial owners—through riskbased procedures that include, at a minimum, the elements required for member firms' CIP procedures for verifying the identity of individual customers.36 Such verification must be completed within a reasonable time after account opening.37 Member firms may rely on the beneficial ownership information supplied by the individual opening the account, provided that they have no knowledge of facts that would reasonably call into question the reliability of that information.38

        To the same extent as permitted under the CIP rules, the CDD Rule permits member firms to rely on another financial institution for the performance of the CDD Rule's requirements.39

        The CDD Rule's requirements with respect to beneficial owners of legal entity customers applies on a prospective basis, that is, only with respect to legal entity customers that open new accounts from the date of the CDD Rule's implementation. However, a member firm should obtain beneficial ownership information for an existing legal entity customer if, during the course of normal monitoring, it receives information that is needed to assess or reevaluate the risk of the customer.40


        1. 31 U.S.C. 5311, et seq.

        2. See 31 U.S.C. 5312(a)(2) (defining "financial institution").

        3. 31 U.S.C. 5318(h)(1).

        4. 31 CFR 1023.210(b).

        5. FinCEN Customer Due Diligence Requirements for Financial Institutions; CDD Rule, 81 FR 29397 (May 11, 2016) (CDD Rule Release); 82 FR 45182 (September 28, 2017) (making technical correcting amendments to the final CDD Rule published on May 11, 2016). FinCEN is authorized to impose AML program requirements on financial institutions and to require financial institutions to maintain procedures to ensure compliance with the BSA and associated regulations. 31 U.S.C. 5318(h)(2) and (a)(2). The CDD Rule is the result of the rulemaking process FinCEN initiated in March 2012. See 77 FR 13046 (March 5, 2012) (Advance Notice of Proposed Rulemaking) and 79 FR 45151 (August 4, 2014) (Notice of Proposed Rulemaking).

        6. See 31 CFR. 1010.230(f) (defining "covered financial institution").

        7. See CDD Rule Release at 29398.

        8. On July 19, 2016, FinCEN published Frequently Asked Questions on the CDD Rule. See U.S. Department of the Treasury Financial Crimes Enforcement Network Guidance FIN-2016-G003, Frequently Asked Questions Regarding Customer Due Diligence Requirements for Financial Institutions (July 19, 2016) (FinCEN FAQs).

        9. Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001, Pub. L. No. 107-56, 115 Stat. 272 (2001).

        10. If a member firm does not execute transactions for customers or otherwise hold customer accounts or act as an introducing broker with respect to customer accounts (e.g., engages solely in proprietary trading or conducts business only with other broker-dealers), then "independent testing" is required every two years. See FINRA Rule 3310(c).

        11. In fact, FinCEN notes that broker-dealers must continue to comply with FINRA Rules, notwithstanding differences between the CDD Rule and FINRA Rule 3310. See CDD Rule Release 29421, n. 85.

        12. See CDD Rule Release at 29420; 31 CFR 1023.210.

        13. See id. at 29420-21.

        14. See id. at 29419.

        15. See id. at 29421.

        16. See id. at 29422.

        17. See id.

        18. See id.

        19. See id.

        20. See id.

        21. See id.

        22. See id. at 29402.

        23. See id. at 29420-21.

        24. See id.

        25. There are both ownership and control prongs of the definition of beneficial owner for purposes of the CDD Rule. A beneficial owner is: (1) each individual (if any) who directly or indirectly owns 25 percent of the equity interests of a legal entity customer; and (2) a single individual with significant responsibility to control, manage, or direct a legal entity customer, including an executive officer or senior manager. See id. at 29409; FinCEN FAQs Question 9; 31 CFR 1010.230(d). Despite imposing a 25 percent threshold for the ownership prong, FinCEN's guidance suggests that financial institutions may find it appropriate to identify and verify beneficial owners at a lower ownership threshold if circumstances warrant. See CDD Rule Release at 29410. For guidance on the types of individuals that have "significant responsibility to control, manage, or direct a legal entity customer," see FinCEN FAQs, Question 13.

        26. A legal entity customer is a "corporation, limited liability company, or other entity that is created by the filing of a public document with a Secretary of State or similar office, a general partnership, and any similar entity formed under the laws of a foreign jurisdiction, that opens an account." 31 CFR 1010.230(e)(1). The requirements to identify and verify the identity of beneficial owners do not apply to, among others, financial institutions regulated by a Federal functional regulator or a bank regulated by a state bank regulator, investment advisers, as defined in the Investment Advisers Act of 1940, that are registered with the Securities and Exchange Commission (SEC), entities registered with the SEC under the Securities Exchange Act of 1934, state-regulated insurance companies and specified pooled investment vehicles. For a full list of entities excluded from the legal entity customer definition, see 31 CFR 1010.230(e)(2).

        In addition, in the FinCEN FAQs, FinCEN stated that the definition of legal entity customer does not include sole proprietorships, unincorporated associations, trusts (other than statutory trusts) or natural persons opening the account on their own behalf. See FinCEN FAQs, Question 20. Furthermore, the CDD Rule clarifies who is the legal entity customer in the context of intermediated account relationship. It explains that, to the extent that existing guidance provides that, for purposes of the customer identification program (CIP) rules, a financial institution shall treat an intermediary (and not the intermediary's customers) as its customer, the financial institution should treat the intermediary as its customer for the CDD Rule. See CDD Rule Release at 29416.

        27. See CDD Rule Release at 294000.

        28. See id.

        29. The CDD Rule incorporates the definition of "account" that is used in the CIP rules. See 31 CFR 1010.230(c). See also 31 CFR 1020.100(a)(2) (for banks); 1023.100(a)(2) (for brokers and dealers in securities); 1024.100(a)(2) (for mutual funds); and 1026.100(a)(2) (for futures commission merchants or introducing brokers in commodities). Covered financial institutions are not required to identify and verify the beneficial owners of certain entities that are excluded from the definition, and covered financial institutions that open certain types of accounts for legal entity customers do not have to verify the beneficial owners of those entities. See FinCEN FAQs, Questions 17, 20, 21 and 22.

        30. The natural person opening the account on behalf of the legal entity customer could be, though need not be, a beneficial owner of the legal entity customer. See FinCEN FAQs, Question 10.

        31. See FinCEN FAQs, Question 1.

        32. See FinCEN FAQs, Question 11.

        33. See Appendix A to 31 CFR 1010.230; CDD Rule Release at 29454.

        34. See 31 CFR 1010.230(b)(1); CDD Rule Release at 29405.

        35. See CDD Rule Release at 29405.

        36. See id. at 29407.

        37. See id. at 29408.

        38. See id. at 29407.

        39. See 31 CFR 1010.230(i) and (j). A financial institution must have procedures for maintaining a record of information obtained in connection with identifying and verifying beneficial owners for a period of five years after the date the account is closed. See also Letter from Emily Westerberg Russell, Senior Special Counsel, Division of Trading and Markets, SEC, to Aseel Rabie, Managing Director and Associate General Counsel, Securities Industry and Financial Markets Association (SIFMA), dated December 12, 2016 (SIFMA SEC No-Action Letter), availableat https://www.sec.gov/divisions/marketreg/mr-noaction/2016/securities-industry-financialmarkets-association-120916.pdf (extending no action relief when broker-dealers rely on investment advisers for identifying and verifying beneficial owners of legal entity customers, subject to enumerated conditions).

        40. See id. at 29404.

      • 17-39 SEC Approves the CAT Fee Dispute Resolution Process Rule Implementation Date: December 1, 2017 (Note: the CAT Fee Dispute Resolution Process will not be in effect until CAT fees are operative.)

        View PDF

        Consolidated Audit Trail (CAT) Fee Dispute Resolution Process

        Regulatory Notice
        Notice Type

        New Rule
        Referenced Rules & Notices
        Rule 6800 Series
        Rule 6898
        Suggested Routing
        Accounts Payable
        Compliance
        Finance
        Internal Audit
        Legal
        Operations
        Senior Management
        Trading
        Key Topics
        Consolidated Audit Trail
        Fees
        Trade Reporting

        Summary

        The SEC approved Rule 6898 to establish the procedures for resolving potential disputes related to CAT fees charged to industry members.1 This rule will be implemented on December 1, 2017; however, the CAT Fee rules currently are pending and not yet operative. FINRA will provide additional information in a Regulatory Notice promptly following the adoption of the CAT fees.2

        Questions concerning this Notice should be directed to Julia Bogolin, Counsel, Office of General Counsel, at (202) 728-8111 or julia.bogolin@finra.org.

        Background & Discussion

        The National Market System Plan Governing the Consolidated Audit Trail (CAT NMS Plan) is designed to create, implement and maintain a consolidated audit trail that will capture customer and order event information for orders in NMS securities and OTC equity securities, across all markets, from the time of order inception through routing, cancellation, modification or execution in a single consolidated data source. Under the CAT NMS Plan, the Operating Committee of CAT NMS, LLC (Operating Committee) has discretion to establish funding to operate the CAT, including establishing fees that the participants will pay, and establishing fees for industry members that will be implemented by the participants (CAT fees), subject to any necessary filings with the SEC.3 FINRA has filed a rule change in conjunction with the other CAT NMS Plan participants to establish Rule 6897 imposing the CAT fees, but the rule has not yet been adopted.4 Rule 6898 adopts into the FINRA rulebook the procedures approved by CAT NMS, LLC for resolving potential disputes relating to CAT fees charged to industry members (Procedures).5

        On September 14, 2017, the SEC approved Rule 6898 (Consolidated Audit Trail – Fee Dispute Resolution) to establish the procedures for resolving potential disputes related to CAT fees charged to industry members under proposed Rule 6897. Rule 6898 incorporates the procedures adopted by the Operating Committee into the FINRA rulebook; the other CAT NMS Plan participants are also adopting this rule. This rule details the procedure for industry members that dispute CAT fees, including disputes related to the designated tier and the fee calculated pursuant to such tier,6 to apply for an opportunity to be heard and for review of the disputed CAT fees. The procedures are modeled after the adverse action procedures various exchanges adopted,7 and will be posted on the website for the CAT NMS Plan.8

        Under the procedures, an industry member that disputes CAT fees it is charged and that desires to have a hearing on the disputed fees must file a written application with the CAT NMS, LLC within 15 business days after being notified of the disputed fees. Please note this application would not be filed with FINRA or any of the other self-regulatory organizations of which the firm may be a member. The application must:

        •   identify the disputed CAT fees;
        •   state the specific reason(s) why the applicant takes exception to such CAT fees; and
        •   set forth the relief sought.

        In addition, if the applicant intends to submit any additional documents, statements, arguments or other material in support of the application, the same should be so stated and identified.9

        CAT NMS, LLC will refer applications for hearing and review promptly to a Fee Review Subcommittee.10 The Fee Review Subcommittee will hold hearings promptly and keep a record of the proceedings. The parties to the hearing will consist of the applicant and a representative of CAT NMS, LLC who shall present the reasons for the action taken by the company that allegedly aggrieved the applicant.11 The parties to the hearing shall furnish the Fee Review Subcommittee with all materials relevant to the proceedings at least 72 hours prior to the date of the hearing. Each party will have the right to inspect and copy the other party's materials prior to the hearing.12 The applicant is entitled to be represented by counsel at all stages of the proceedings.13

        The Fee Review Subcommittee will determine all questions concerning the admissibility of evidence and will otherwise conduct of the hearing. Each of the parties will be permitted to make an opening statement, present witnesses and documentary evidence, cross examine opposing witnesses and present closing arguments orally or in writing as determined by the Fee Review Subcommittee. The Fee Review Subcommittee also will have the right to question all parties and witnesses to the proceeding. The formal rules of evidence will not apply.14

        The Fee Review Subcommittee must set forth its decision in writing and send the written decision to the parties to the proceeding. Such decisions will contain the reasons supporting the conclusions of the Fee Review Subcommittee.15 The decision of the Fee Review Subcommittee will be subject to review by the Operating Committee either on its own motion within 20 business days after issuance of the decision or upon written request submitted by the applicant within 15 business days after issuance of the decision. The applicant's petition must be in writing and must specify the findings and conclusions to which the applicant objects, together with the reasons for such objections. Any objection to a decision not specified in writing will be considered to have been abandoned and may be disregarded. Parties may petition to submit a written argument to the Operating Committee and may request an opportunity to make an oral argument before the Operating Committee. The Operating Committee will have sole discretion to grant or deny either request.16

        If a review is granted, the Operating Committee will conduct the review. The review will be made upon the record and will be made after such further proceedings, if any, as the Operating Committee may order. Based upon such record, the Operating Committee may affirm, reverse or modify, in whole or in part, the decision of the Fee Review Subcommittee. The decision of the Operating Committee will be in writing, will be sent to the parties to the proceeding and will be final.17

        A final decision regarding the disputed CAT fees by the Operating Committee, or the Fee Review Subcommittee (if there is no review by the Operating Committee), must be provided within 90 days of the date on which the industry member filed a written application regarding disputed CAT fees with the CAT NMS, LLC. The Operating Committee may extend the 90-day time limit at its discretion.18

        The decisions on CAT fee disputes made pursuant to this rule will be binding on industry members, without prejudice to the rights of any industry member to seek redress from the SEC, or in any other appropriate forum.19 Finally, an industry member that files a written application with the CAT NMS, LLC regarding disputed CAT fees in accordance with this rule is not required to pay the disputed fees until the dispute is resolved in accordance with the procedures, including any review by the SEC, or in any other appropriate forum. For these purposes, the disputed CAT fees means the amount of the invoiced CAT fees that the industry member has asserted the industry member does not owe to the CAT NMS, LLC. The industry member must pay any invoiced CAT fees that are not disputed when due as set forth in the original invoice.20

        Once the dispute regarding CAT fees is resolved pursuant to these procedures, if it is determined that the industry member owes any of the disputed CAT fees, then the industry member must pay the disputed CAT fees that are owed, as well as interest on the disputed CAT fees from the original due date (that is, 30 days after receipt of the original invoice of such CAT fees) until such disputed CAT fees are paid at a per annum rate equal to the lesser of (i) the prime rate plus 300 basis points, or (ii) the maximum rate permitted by applicable law.21

        As noted above, Rule 6898 relating to the CAT Fee Dispute Resolution Process will be implemented on December 1, 2017; however, Rule 6897 imposing the CAT Fees currently is pending and is not yet operative. FINRA will provide additional information in a Regulatory Notice promptly following the adoption of the CAT Fees and Rule 6897.


        1. See Securities Exchange Act Release No. 81616 (September 14, 2017), 82 FR 44010 (September 20, 2017) (Order Approving File No. SR-FINRA-2017-020).

        2. On October 30, 2017, the participants filed Amendment No. 3 to the National Market System Plan Governing the Consolidated Audit Trail. The proposed amendment details the CAT fees and would add a fee schedule to a new Exhibit B of the Plan which sets forth the CAT fees to be paid by the participants.

        On May 8, 2017, FINRA filed a proposed rule change with the SEC to adopt CAT fees pursuant to new proposed Rule 6897 (Consolidated Audit Trail Funding Fees), which will require industry members that are FINRA members and have order or trading activity that would be reportable to the CAT to pay the CAT fees determined by the Operating Committee. See Securities Exchange Act Release No. 80710 (May 17, 2017), 82 FR 23629 (May 23, 2017) (SR-FINRA-2017-011). The SEC subsequently suspended FINRA's CAT fee filing proposing Rule 6897 on June 30, 2017. See Securities Exchange Act Release No. 81067 (June 30, 2017), 82 FR 31656 (July 7, 2017) (Suspension Order).

        3. Section 11.1(b) of the CAT NMS Plan.

        4. See supra note 2.

        5. Unless otherwise specified, capitalized terms used in this Notice are defined as set forth herein, or in the Rule 6800 Series (Consolidated Audit Trail Compliance Rule) or in the CAT NMS Plan.

        6. Under proposed Rule 6897, CAT fees will be assessed by placing CAT reporters into fixed tiers based on "message traffic" for industry members (other than Execution Venue ATSs) and on market share for Execution Venues (including Execution Venue ATSs). See Securities Exchange Act Release No. 80710 (May 17, 2017), 82 FR 23629 (May 23, 2017) (SR-FINRA-2017-011).

        7. See, e.g., Chapter X of BATS BZX Exchange, Inc. (Adverse Action); and Chapter X of NYSE National, Inc. (Adverse Action).

        8. The CAT NMS Plan website is available at http://www.catnmsplan.com/.

        9. See Rule 6898(c)(2).

        10. See Rule 6898(c)(3)(A). The members of the Fee Review Subcommittee will be subject to the provisions of Section 4.3(d) of the Plan regarding recusal and Conflicts of Interest.

        11. See Rule 6898(c)(4)(A).

        12. See Rule 6898(c)(3)(C).

        13. See Rule 6898(c)(4)(B).

        14. See Rule 6898(c)(4)(C).

        15. See Rule 6898(c)(4)(D).

        16. See Rule 6898(c)(5)(A).

        17. See Rule 6898(c)(5)(B).

        18. See Rule 6898(c)(6).

        19. See Rule 6898(c)(8).

        20. See Rule 6898(c)(9)(A).

        21. See Rule 6898(c)(9)(B).

      • 17-38 FINRA Requests Comment on a Proposal to Amend Rule 3110 (Supervision) to Provide Firms the Option to Conduct Remote Inspections of Offices and Locations That Meet Specified Criteria Comment Period Expires: January 12, 2018

        View PDF

        Remote Branch Office Inspections

        Regulatory Notice
        Notice Type

        Request for Comment
        Referenced Rules & Notices

        FINRA Rule 3110
        Notice to Members 98-38
        Regulatory Notice 11-54
        Suggested Routing

        Compliance
        Internal Audit
        Legal
        Operations
        Registered Representatives
        Risk
        Senior Management
        Training
        Key Topics

        Branch Office Inspections
        Risk Management
        Supervision

        Summary

        This Notice seeks comment on a proposal to amend Rule 3110 to add new Supplementary Material .151 to provide firms with the flexibility to conduct remote inspections of "qualifying offices" that meet specified criteria, in lieu of physical, on-site inspections of such offices as currently required under the rule.2

        The proposed rule text is available in Attachment A.

        Questions concerning this Notice should be directed to:

        •   Philip Shaikun, Vice President and Associate General Counsel, Office of General Counsel (OGC), at (202) 728-8451; or
        •   Sarah Kwak, Counsel, OGC, at (202) 728-8471.

        Action Requested

        FINRA encourages all interested parties to comment on the proposal. Comments must be received by January 12, 2018.

        Comments must be submitted through one of the following methods:

        •   Emailing comments to pubcom@finra.org; or
        •   Mailing comments in hard copy to:

        Jennifer Piorko Mitchell
        Office of the Corporate Secretary
        FINRA
        1735 K Street, NW
        Washington, DC 20006-1506

        To help FINRA process comments more efficiently, persons should use only one method to comment on the proposal.

        Important Notes: All comments received in response to this Notice will be made available to the public on the FINRA website. In general, FINRA will post comments as they are received.3

        Before becoming effective, a proposed rule change must be authorized for filing with the Securities and Exchange Commission (SEC or Commission) by the FINRA Board of Governors, and then must be filed with the SEC pursuant to Section 19(b) of the Securities Exchange Act of 1934 (Exchange Act).4

        Background & Discussion

        The responsibility of firms to supervise their associated persons is a critical component of federal broker-dealer regulation.5 This obligation is derived from Sections 15(b)(4)(E)6 and 15(b)(6)(A)7 of the Exchange Act, which authorize the SEC to impose sanctions on a firm or any person that fails to reasonably supervise a person subject to their supervision that commits a violation of the federal securities laws. Firms must supervise all of their associated persons, regardless of their location, compensation or employment arrangement, or registration status, in accordance with FINRA By-Laws and rules.8

        FINRA's Supervision Rule, Rule 3110, requires each firm to establish and maintain a system to supervise the activities of each associated person that is reasonably designed to achieve compliance with applicable securities laws and regulations, and with applicable FINRA rules. Rule 3110(c) requires each firm to review, at least annually (on a calendar-year basis), the businesses in which it engages. The review must be reasonably designed to assist the firm in detecting and preventing violations of, and achieving compliance with, applicable securities laws and regulations, and with applicable FINRA rules. The rule requires that a firm review the activities of each office and inspect each office on a specified cycle depending on the office classification.9 FINRA has interpreted the rule to require that inspections take place on-site, irrespective of the type of office.10

        Supplementary Material for the Supervision Rule, Rule 3110.12, elaborates on the inspection requirement and emphasizes the importance of supervising remote locations. That provision states that each member must establish and maintain supervisory procedures that take into consideration, among other things, the firm's size, organizational structure, scope of business activities, number and location of the firm's offices, the nature and complexity of the products and services offered by the firm, the volume of business done, the number of associated persons assigned to a location, the disciplinary history of registered representatives or associated persons, and any indicators of irregularities or misconduct (i.e., "red flags"). The provision further states that the procedures established and reviews conducted must provide that the quality of supervision at remote locations is sufficient to ensure compliance with applicable securities laws and regulations and with FINRA rules, and that members must be especially diligent with respect to a non-branch location where a registered representative engages in securities activities.

        This provision accords with the principles set out in SEC staff guidance on the elements of effective supervision of small, remote (or geographically dispersed) offices.11 The SEC guidance emphasizes the importance of inspections and encourages unannounced on-site inspections either on a random basis or where there are red flags about unusual activity in those offices.

        Over the last few years, firms have raised questions about the manner in which they must conduct the internal inspections, particularly for those offices or locations with a limited number of associated persons or where only operational or limited supervisory functions take place. These locations often include personal residences of an associated person, an office of convenience where an associated person may meet a customer occasionally and exclusively by appointment, an office used by "circuit riders," or other public places. Firms have noted that advances in communications technology and increased acceptance of flexible work arrangements have made remote locations more commonplace. They have further noted that most such locations do not hold themselves out to the public as a place where securities business takes place and engage in low-risk activity, with no books or records or funds or securities kept on the premises.

        In light of these factors, and in recognition of the fact that technology already plays a prominent role in how firms conduct office inspections, firms have questioned the practicality and efficiency of conducting on-site inspections of such locations in fulfilling their obligations under Rule 3110(c). Among other things, they note the travel and related expenses incurred in connection with on-site inspections of these low-risk locations and have suggested that those resources could be better allocated to higher risk activities. Accordingly, the proposal seeks to reduce the burden of on-site inspections in limited circumstances that would not result in a diminution in investor protection.

        Proposal

        FINRA is proposing to adopt new Supplementary Material .15 (Remote Inspections), which would give firms the option to fulfill their obligations under Rule 3110(c) by conducting a remote inspection of a "qualifying office," in lieu of a physical, on-site inspection of such office. Specifically, proposed Rule 3110.15(a) would require a firm that conducts remote inspections to have policies and procedures reasonably designed to determine whether a location is eligible for remote inspection as a "qualifying office" and to assess whether a remote inspection of any such office is reasonable.

        In making the latter assessment, the proposal would require a firm to consider the factors set forth in Rule 3110.12, as well as whether any associated person that conducts business at the designated office or location has an event that is disclosed, or is or was required to be disclosed, under Questions 14C through 14J of that person's Form U4. These questions include adjudicated matters by federal and state regulatory agencies, self-regulatory organizations and foreign financial regulatory agencies, and settlements of investment-related civil complaints and arbitration claims above specified thresholds. The questions also include some unadjudicated regulatory complaints, investigations and arbitration claims. Under the proposal, these disclosures would be treated as red flags in determining whether it is reasonable to conduct a remote inspection of such office or location. The proposal would further require that, if a firm determines to proceed with a remote inspection where there has been such a reportable disclosure event, the firm must document, in writing, the basis for that determination.

        Proposed Rule 3110.15(b) would define a "qualifying office" as an office or location that meets the following conditions:

        (1) not more than three associated persons that conduct business for the firm are designated to the location;
        (2) the location is not held out to the public as an office of the firm;
        (3) the associated person(s) at the location conducts business, including electronic communications, on behalf of the member at that location solely through the use of the firm's authorized electronic systems and platforms;
        (4) all books or records required to be made and preserved by the member under the federal securities laws or FINRA rules are maintained by the member other than at the location;
        (5) no customer funds or securities are handled at the location;
        (6) the location is either (i) not required to be inspected annually pursuant to Rule 3110(c)(1)(A); (ii) designated as an OSJ solely because of the supervisory activities described in Rule 3110(f)(1)(D) through (G);12 or (iii) designated as a branch office solely because of the supervisory activities described in Rule 3110(f)(2)(B);13 and
        (7) no registered person at the location has a disciplinary history (as defined in Rule 3170(a)(3))14 and no associated person at the location is subject to a statutory disqualification.

        Under the proposal, remote inspections would be subject to the same qualitative standard as on-site inspections in that they must be reasonably designed to assist in detecting and preventing violations of, and achieving compliance with, applicable securities laws and regulations, and with FINRA rules. As with on-site inspections, remote inspection reports would be required to be written and kept on file for the periods of time specified for the relevant inspection cycle.

        Preliminary Economic Impact Assessment

        Need for the Rule

        FINRA recognizes the prominent role that technology already plays in conducting office inspections. Technological advances have significantly reduced the costs of performing inspections. The resources firms expend to conduct on-site inspections of low-risk offices or locations could be better allocated to higher risk activities. As such, the proposal is intended to address the changes in the technological landscape and provide firms another effective way to perform inspections that is cost efficient without diminishing investor protection.

        Economic Baseline

        The economic baseline for the proposal is the current inspection requirement for supervision of offices and locations in Rule 3110. To comply with the existing inspection requirement, firms must perform on-site inspections of OSJs and supervising branch offices at least annually (on a calendar-year basis), non-supervisory branch offices at least every three years, and non-branch locations on a regular periodic schedule with a presumption of at least every three years. The inspection process requires sending an associated person to perform an on-site inspection, incurring both travel costs and travel-related lost work hours of the associated person conducting the inspection. The proposal provides for an alternative, cost efficient inspection framework for offices and locations that meet the proposed criteria.

        Based on data available as of October 2017, firms conduct approximately 86,500 on-site inspections annually, of which approximately 21,000 are for OSJs or supervisory branch offices and approximately 65,500 are for non-supervisory branch offices and non-branch locations.15

        Economic Impact

        FINRA does not believe that the proposal adds new burdens on firms. The use of remote inspections is optional. The proposal overall is expected to lend some practical relief to firms in fulfilling their obligations under Rule 3110(c) such as a reduction in travel costs, as well as lost productivity during travel. In addition, the proposal would foster the opportunity for firms to enhance their risk management programs by providing firms with the flexibility to conduct remote inspections on a more frequent cycle or to use the additional compliance resources on inspecting offices or locations at which associated persons engage in higher risk activities. Further, remote inspections allow firms to assign more firm personnel to conduct inspections without incurring undue additional costs. Giving firms the option to have more than one person conduct an inspection may create training opportunities that would help firms improve the inspection process, and also potentially enhance compliance practices.

        A firm would be required to implement the appropriate infrastructure to conduct remote inspections to the extent it does not already exist. Such infrastructure would need to address cybersecurity issues, such as unauthorized access to personally identifiable information, potentially exacerbated by the remote inspection process. A potential indirect cost of the proposed amendments is the increased risk that the inspection process does not properly identify ongoing misconduct, or the risk for future misconduct, by the associated persons at the office or location. Broker misconduct could remain unidentified for a longer period of time without a physical presence by oversight staff at the office or location. The stringent proposed criteria that members must apply to branch offices and non-branch locations to determine whether they are eligible for remote inspection are designed to largely mitigate these risks.

        FINRA recognizes that not all branch offices and non-branch locations will be able to benefit from the new option due to the conditions defining a "qualifying office." For example, the first condition of a "qualifying office" limits the location to no more than three associated persons designated to that location. To provide a sense of the scope of the population of offices or locations that may meet this criterion, of the approximately 138,500 nonsupervisory branch offices as of October 2017, approximately 11,500 have three registered persons designated to that office, approximately 27,000 have two registered persons designated to that office, and approximately 83,000 have one registered person designated to that office. The remaining 17,000 have more than three registered persons designated to that office. In addition to non-supervisory branch offices, of the approximately 21,000 OSJs or supervisory branch offices, approximately 2,100 have three registered persons designated to that office, approximately 2,800 have two registered persons designated to that office, and approximately 3,500 have one registered person designated to that office. The remaining 12,600 have more than three registered persons designated to that office. Finally, approximately 81,000 registered persons are located at the approximately 58,000 non-branch locations, averaging 1.4 registered persons per non-branch location. Branch offices and non-branch locations may also have non-registered associated persons located there. Moreover, a location that meets the threshold for the number of associated persons designated to such location would not necessarily meet the other criteria for a "qualifying office." Thus, these numbers put an upper bound on the number of locations that meet the definition of "qualifying office."

        Alternatives Considered

        FINRA considered a range of suggestions in developing the proposal. The alternatives to the proposed amendments included an alternative definition of the number of associated persons for the definition of a qualifying office, and alternative criteria and conditions regarding associated person misconduct as a prerequisite for eligibility for remote inspections. The proposal reflects the changes that FINRA believes strike the appropriate balance to address the concerns of firms while preserving the investor protection purposes of an inspection requirement.

        Request for Comment

        FINRA requests comment on all aspects of the proposal. FINRA requests that commenters provide empirical data or other factual support for their comments wherever possible. FINRA specifically requests comment concerning the following issues:

        1. How does the firm currently fulfill its obligations under Rule 3110(c) for those offices or locations at which few associated persons reside and limited or low-risk activities occur? In what way(s) would the use of remote inspections impact the firm's current inspection process or practices?
        2. Should a firm with a disciplinary history of supervisory violations or other investmentrelated violations be able to avail itself of the option to conduct remote inspections?
        3. Are there other criteria for a "qualifying office" that should be considered? For example:
        a. The proposal requires a firm to determine whether a remote inspection of a qualifying office would be reasonable by considering the factors set forth under Rule 3110.12 including the volume of business. Should a threshold be imposed on the volume of business generated from the qualifying office, or should offices that are responsible for a significant proportion of a firm's business be excluded from the definition?
        b. Should there be a prerequisite that a firm must have conducted an on-site inspection of an office or location before such office or location could become a qualifying office?
        c. Should the firm be required to conduct an interview with the associated person(s) designated to the qualifying office by video conference or in-person at any mutually agreed upon office or location?
        d. Should there be a minimum distance between the qualifying office and the OSJ or supervisory branch office?
        Please provide specific thresholds and the underlying rationale for the thresholds.
        4. The proposal seeks to limit the number of associated persons designated to a qualifying office to three. Is this threshold reasonable? If not, why not? Is there a more appropriate threshold and why?
        Please provide a specific threshold and the underlying rationale for the threshold.
        5. Are there criteria for a qualifying office that should be excluded?
        6. Does the proposal have any potential negative impacts on a firm's ability to fulfill its obligations under Rule 3110(c)?
        7. Are there any material economic impacts, including costs and benefits, to investors, issuers and firms that are associated specifically with the proposal? If so:
        a. What are these economic impacts and what are their primary sources?
        b. To what extent would these economic impacts differ by business attributes, such as size of the firm or differences in business models?
        c. To what extent would these economic impacts affect existing business models and existing organizational structures?
        d. What would be the magnitude of these impacts, including costs and benefits (e.g., travel, infrastructure, human resources)?
        e. How many and what percentage of your firm's branch offices and non-branch locations do you estimate would be able to take advantage of the remote inspection option?
        8. Are there any expected economic impacts associated with the proposal not discussed in this Notice? What are they and what are the estimates of those impacts?

        1. FINRA also proposes to delete existing Supplementary Material .15 (Temporary Program to Address Underreported Form U4 Information) as obsolete.

        2. Earlier this year, FINRA announced a new initiative—called FINRA360—to evaluate various aspects of its operations and programs to identify opportunities to more effectively further its mission. As part of this initiative, FINRA received comments on the effectiveness and efficiency of its rules, operations and administrative processes governing brokerdealer activities. One concern raised by firms was about the manner in which they must conduct internal inspections of firm offices under Rule 3110, particularly for those offices or locations with a limited number of associated persons or where only operational or limited supervisory functions take place. See Special Notice 03/21/17, Engagement Initiative.

        3. Persons submitting comments are cautioned that FINRA does not redact or edit personal identifying information, such as names or email addresses, from comment submissions. Persons should submit only information that they wish to make publicly available. See Notice to Members 03-73 (November 2003) (Online Availability of Comments) for more information.

        4. See SEA Section 19 and rules thereunder. After a proposed rule change is filed with the SEC, the proposed rule change generally is published for public comment in the Federal Register. Certain limited types of proposed rule changes take effect upon filing with the SEC. See SEA Section 19(b)(3) and SEA Rule 19b-4.

        5. See SEC Division of Market Regulation, Staff Legal Bulletin No. 17: Remote Office Supervision (March 19, 2004) (SEC Staff Legal Bulletin No. 17), available at https://www.sec.gov/interps/legal/mrslb17.htm.

        6. Section 15(b)(4)(E) provides that the "Commission, by order, shall censure, place limitations on the activities, functions, or operations of, suspend for a period not exceeding twelve months, or revoke the registration of any broker or dealer if it finds, on the record after notice and opportunity for hearing, that such censure, placing of limitations, suspension, or revocation is in the public interest and that such broker or dealer . . . has willfully aided, abetted, counseled, commanded, induced, or procured the violation by any person of any provision of the Securities Act of 1933, the Investment Advisers Act of 1940, the Investment Company Act of 1940, the Commodity Exchange Act, [the Exchange Act], the rules or regulations under any of such statutes, or the rules of the Municipal Securities Rulemaking Board, or has failed reasonably to supervise, with a view to preventing violations of the provisions of such statutes, rules, and regulations, another person who commits such a violation, if such other person is subject to his supervision." 15 U.S.C. § 78o(b)(4)(E).

        7. 15 U.S.C. § 78o(b)(6)(A) (authorizing the Commission to impose sanctions on any associated person of a broker-dealer that violates the federal securities laws).

        8. See Regulatory Notice 11-54 (November 2011) and Notice to Members 98-38 (May 1998).

        9. Firms must inspect offices of supervisory jurisdiction (OSJs) and supervising branch offices every year, non-supervisory branch offices at least every three years, and non-branch locations on a regular periodic schedule with a presumption of least every three years. See Rules 3110(c)(1) and 3110.13.

        10. See Regulatory Notice 11-54 (November 2011).

        11. See SEC Staff Legal Bulletin No. 17.

        12. These supervisory activities involve final acceptance (approval) of new accounts, review and endorsement of customer orders, final approval of retail communications other than research reports, or responsibility for supervising the activities of persons associated with the member at one or more other branch offices of the member. An office that is designated as an OSJ because of the supervisory activities described in Rule 3110(f)(1)(A) through (C)—order execution or market making, structuring of public offerings or private placements, or maintaining custody of customers' funds or securities—would not meet the conditions to become a "qualifying office."

        13. Rule 3110(f)(2)(B) provides that any location that is responsible for supervising the activities of persons associated with the member at one or more non-branch locations of the member is considered to be a branch office.

        14. Rule 3170(a)(3) defines "disciplinary history" as a finding of a violation by a registered person in the past five years by the SEC, a self-regulatory organization, or a foreign financial regulatory authority of a litany of specified rules.

        15. As of October 2017, there are 3,731 firms with approximately 21,000 OSJs or supervisory branch offices that are required to be inspected at least annually, approximately 138,500 non-supervisory branch offices that are required to be inspected at least every three years, and approximately 58,000 non-branch locations that are required to be inspected on a regular periodic schedule, presumed to be at least every three years.


        ATTACHMENT A

        Below is the text of the proposed rule change. Proposed new language is underlined; proposed deletions are in brackets.

        * * * * *

        3000. SUPERVISION AND RESPONSIBILITIES RELATING TO ASSOCIATED PERSONS

        * * * * *

        3100. Supervisory Responsibilities

        * * * * *

        3110. Supervision

        (a) through (f) No Change.

        • • • Supplementary Material: --------------

        .01 through .14 No Change

        .15 Remote Inspections.

        (a) In fulfilling its obligations under Rule 3110(c), a member may determine to conduct a remote inspection of a "qualifying office" (as defined in this Supplementary Material) in lieu of a physical, on-site inspection of such office. A member that conducts remote inspections must have policies and procedures reasonably designed to determine whether a location is eligible for remote inspection as a "qualifying office" and to assess whether a remote inspection of any such office is reasonable. To determine whether a remote inspection is reasonable, a member must consider the factors set forth in Rule 3110.12, as well as whether any associated person that conducts business designated to the location has an event that is disclosed, or is or was required to be disclosed, under Questions 14C through 14J on the person's Form U4. If a member determines to conduct a remote inspection where there has been such a reportable disclosure event, the member must document in writing the basis for that determination.
        (b) A "qualifying office" is a location that meets the following conditions:
        (1) Not more than three associated persons that conduct business for the member are designated to the location;
        (2) The location is not held out to the public as an office of the member;
        (3) The associated person(s) at the location conducts business, including electronic communications, on behalf of the member at that location solely through the use of the member's authorized electronic systems and platforms;
        (4) All books or records required to be made and preserved by the member under the federal securities laws or FINRA rules are maintained by the member other than at the location;
        (5) No customer funds or securities are handled at the location;
        (6) The location is either (i) not required to be inspected annually pursuant to Rule 3110(c)(1)(A); (ii) designated as an OSJ solely because of the supervisory activities described in Rule 3110(f)(1)(D) through (G); or (iii) designated as a branch office solely because of the supervisory activities described in Rule 3110((f)((2)(B); and
        (7) No registered person at the location has a disciplinary history (as defined in Rule 3170(a)(3)) and no associated person at the location is subject to a statutory disqualification.
        [Temporary Program to Address Underreported Form U4 Information. FINRA is establishing a temporary program that will issue a refund to members of Late Disclosure Fees assessed for the late filing of responses to Form U4 Question 14M (unsatisfied judgments or liens) if the Form U4 amendment is filed between April 24, 2014 and December 1, 2015 and one of the following conditions is met: (1) the judgment or lien has been satisfied, and at the time it was unsatisfied, it was under $5,000 and the date the judgment or lien was filed with a court (as reported on Form U4 Judgment/Lien DRP, Question 4.A.) was on or before August 13, 2012; or (2) the unsatisfied judgment or lien was satisfied within 30 days after the individual learned of the judgment or lien (as reported on Form U4 Judgment/Lien DRP, Question 4.B.). This program has a retroactive effective date of April 24, 2014, and it will automatically sunset on December 1, 2015. Members will not be able to use the program after December 1, 2015.]

      • 17-37 SEC Approves “Pay-to-Play” and Related Rules for Capital Acquisition Brokers (CABs) Effective Date: December 6, 2017

        View PDF

        Capital Acquisition Brokers

        Regulatory Notice
        Notice Type

        New Rule
        Referenced Rules & Notices

        Advisers Act Rule 206(4)-5
        CAB Rule 203
        CAB Rule 458
        FINRA Rule 2030
        FINRA Rule 4580
        Suggested Routing

        Compliance
        Government Securities
        Legal
        Municipal
        Registered Representatives
        Senior Management
        Key Topics

        Capital Acquisition Brokers
        Political Contributions
        Recordkeeping

        Summary

        The Securities and Exchange Commission (SEC) approved1 Capital Acquisition Broker (CAB) Rule 203 (Engaging in Distribution and Solicitation Activities with Government Entities) and CAB Rule 458 (Books and Records Requirements for Government Distribution and Solicitation Activities). These rules apply established "pay-to-play" and related recordkeeping rules to the activities of member firms that have elected to be governed by the CAB Rules. The rules will allow CABs to engage in distribution or solicitation activities for compensation with government entities on behalf of registered investment advisers.

        The rules become effective on December 6, 2017.

        The text of the rules is set forth in Attachment A.

        Questions concerning this Notice should be directed to:

        •   Joseph P. Savage, Vice President and Counsel, Office of Regulatory Analysis, at (240) 386-4534 or joe.savage@finra.org; or
        •   Victoria Crane, Associate General Counsel, Office of General Counsel, at (202) 728-8104 or victoria.crane@finra.org.

        Background and Discussion

        Pay-to-Play Rules

        In July 2010, the SEC adopted Rule 206(4)-5 under the Investment Advisers Act of 1940 addressing pay-to-play practices2 by investment advisers (SEC Pay-to-Play Rule).3 The SEC Pay-to-Play Rule prohibits, in part, an investment adviser and its covered associates from providing or agreeing to provide, directly or indirectly, payment to any person to solicit a government entity for investment advisory services on behalf of the investment adviser unless the person is a "regulated person."4 A "regulated person" includes a member firm, provided that: (a) FINRA rules prohibit member firms from engaging in distribution or solicitation activities if political contributions have been made; and (b) the SEC finds, by order, that such rules impose substantially equivalent or more stringent restrictions on member firms than the SEC Pay-to-Play Rule imposes on investment advisers and that such rules are consistent with the objectives of the SEC Pay-to-Play Rule.5

        Based on this regulatory framework, on August 25, 2016, the SEC approved FINRA Rules 2030 and 4580 to establish a comprehensive regime to regulate the activities of member firms that engage in distribution or solicitation activities with government entities on behalf of investment advisers.6 On September 20, 2016, the SEC, by order, found that FINRA Rule 2030 imposes substantially equivalent or more stringent restrictions on member firms than the SEC Pay-to-Play Rule imposes on investment advisers and is consistent with the objectives of the SEC Pay-to-Play Rule.7 These rules enable member firms to continue to engage in distribution and solicitation activities with government entities on behalf of investment advisers while at the same time deterring member firms from engaging in pay-to-play practices. Rules 2030 and 4580 do not expressly apply to CABs.

        In October 2016, FINRA published a Regulatory Notice8 announcing SEC approval of FINRA Rules 2030 and 4580, which became effective on August 20, 2017.

        FINRA Capital Acquisition Broker Rules

        FINRA adopted a separate set of FINRA rules for firms that meet the definition of a "capital acquisition broker" and that elect to be governed under this rule set. CABs are member firms that engage in a limited range of activities, essentially advising companies and private equity funds on capital raising and corporate restructuring, and acting as placement agents for sales of unregistered securities to institutional investors under limited conditions. Member firms that elect to be governed under the CAB rule set are not permitted, among other things, to carry or maintain customer accounts, handle customers' funds or securities, accept customers' trading orders, or engage in proprietary trading or market-making.

        The CAB Rules became effective on April 14, 2017, after SEC approval.9 In order to provide new CAB applicants with lead time to apply for FINRA membership and obtain the necessary qualifications and registrations, CAB Rules 101-125 became effective on January 3, 2017.10

        Addition of FINRA Pay-to-Play Rules to CAB Rule Set

        The CAB Rules subject CABs to a number of FINRA Rules, but do not expressly provide that FINRA Rules 2030 and 4580 apply to CABs. As stated above, the SEC Pay-to-Play Rule prohibits, in part, an investment adviser and its covered associates from providing or agreeing to provide, directly or indirectly, payment to any person to solicit a government entity for investment advisory services on behalf of the investment adviser unless the person is a "regulated person." The SEC Pay-to-Play Rule defines a "regulated person" to include a member firm subject to a FINRA pay-to-play rule.

        CAB Rules 203 and 458 make clear that CABs are subject to FINRA's pay-to-play and related recordkeeping rules and, therefore, that CABs, similarly to non-CAB member firms, are "regulated persons" that can engage in distribution and solicitation activities with government entities on behalf of investment advisers in accordance with the SEC's Pay-toPlay Rule, while at the same time deterring CABs from engaging in pay-to-play practices.11

        The rules become effective on December 6, 2017.


        1. See Securities Exchange Act Release No. 81781(September 29, 2017), 82 FR 46559 (October 5, 2017) (Order Approving File No. SR-FINRA-2017-027).

        2. "Pay-to-play" practices typically involve a person making cash or in-kind political contributions (or soliciting or coordinating others to make such contributions) to help finance the election campaigns of state or local officials or bond ballot initiatives as a quid pro quo for the receipt of government contracts. See Regulatory Notice 16-40 (October 2016) at 9, note 1.

        3. See Investment Advisers Act Release No. 3043 (July 1, 2010), 75 FR 41018 (July 14, 2010) (S7-18-09) (Political Contributions by Certain Investment Advisers). See also Investment Advisers Act Release No. 3221 (June 22, 2011), 76 FR 42950 (July 19, 2011) (S7-36-10) (Rules Implementing Amendments to the Investment Advisers Act of 1940); Investment Advisers Act Release No. 3418 (June 8, 2012), 77 FR 35263 (June 13, 2012) (S7-18-09) (Political Contributions by Certain Investment Advisers; Ban on Third Party Solicitation; Extension of Compliance Date).

        4. See Investment Advisers Act Rule 206(4)-5(a)(2)(i)(A), 17 CFR 275.206(4)-5(a)(2)(i)(A).

        5. See Investment Advisers Act Rule 206(4)-5(f)(9), 17 CFR 275.206(4)-5f)(9). A "regulated person" also includes SEC-registered investment advisers and SEC-registered municipal advisors, subject to specified conditions.

        6. See Securities Exchange Act Release No. 78683 (August 25, 2016), 81 FR 60051 (August 31, 2016) (Order Approving File No. SR-FINRA-2015-056). See also Securities Exchange Act Release No. 76767 (December 24, 2015), 80 FR 81650(December 30, 2015) (Notice of Filing of File No. SR-FINRA-2015-056).

        7. See Investment Advisers Act Release No. 4532 (September 20, 2016), 81 FR 66526 (September 28, 2016) (S7-16-16).

        8. See Regulatory Notice 16-40 (October 2016).

        9. See Securities Exchange Act Release No. 78617(August 18, 2016), 81 FR 57948 (August 24, 2016) (Order Approving File No. SR-FINRA-2015-054).

        10. See Regulatory Notice 16-37 (October 2016).

        11. CABs' distribution and solicitation activities with government entities on behalf of investment advisers must be consistent with the activities permitted for CABs under CAB Rule 016(c).

      • 17-36 SEC Approves Rule Amendment to Create a New TRACE Security Activity Report and End-of-Day TRACE Transaction File Effective Date: February 1, 2018

        Trade Reporting and Compliance Engine (TRACE)

        Regulatory Notice
        Notice Type

        Rule Amendment
        Referenced Rules & Regulatory Notices

        FINRA Rule 6710
        FINRA Rule 7730
        Suggested Routing

        Fixed Income
        Research
        Trading
        Key Topics

        Agency Bonds
        Corporate Bonds
        Fees
        TRACE-eligible Securities
        TRACE Transaction Data

        Summary

        A new End-of-Day TRACE Transaction File and TRACE Security Activity Report will be made available to subscribers, each for a fee, beginning on February 1, 2018. The rule text is available in the online FINRA Manual.

        Questions regarding this Notice should be directed to:

        •   Chris Stone, Vice President, Transparency Services (TS), at (202) 728-8457 or by email at chris.stone@finra.org;
        •   Alié Diagne, Director, TS, at (212) 858-4092 or by email at alie.diagne@finra.org; or
        •   for legal and interpretive questions, Cara Rosen, Counsel, Office of General Counsel, at (202) 728-8852 or by email at cara.rosen@finra.org.

        For inquiries regarding how to access TRACE Data products, please contact TRACE Data Services at (888) 507-3665.

        Background and Discussion

        On July 11, 2017, the SEC approved an amendment to FINRA Rule 7730 to create a new End-of-Day TRACE Transaction File,1 and on August 4, 2017, a new TRACE Security Activity Report.2 FINRA's TRACE data product offerings include both real-time as well as historic data for most TRACE-eligible securities. The new TRACE data products each will be made available to members and any others that choose to subscribe for a fee, as further discussed below.

        End-of-Day TRACE Transaction File

        The new End-of-Day TRACE Transaction File is a daily file that includes all transaction data disseminated as part of Real-Time TRACE transaction data on that day.4 The End-of-Day TRACE Transaction File will be provided to subscribers after the TRACE system closes at the end of each trading day, and will be separately available for each data set for which Real-Time TRACE transaction data is available (i.e., the Corporate Bond Data Set, the Agency Data Set, SP Data Set and Rule 144A Data Set).5 The new data product will include the same transaction data elements as those disseminated in Real-Time TRACE transaction data, such as the CUSIP, price, size and contra-party identifier.6

        The End-of-Day TRACE Transaction File will be available for a fee of $750 per month per data set, or $250 per month per data set if the subscriber is a qualifying tax-exempt organization. Subscribers to the Vendor Real-Time Data Feed may receive at no charge the End-of-Day TRACE Transaction File for the Vendor Real-Time data set(s) to which they have subscribed.7

        TRACE Security Activity Report

        The new TRACE Security Activity Report is a monthly report, provided on a 90-day delayed basis, that provides aggregated statistics by security for corporate and agency bonds ("CA Bonds").8 Specifically, the TRACE Security Activity Report will contain basic descriptive security elements for each CA Bond, such as the issuer's name and the security's coupon and maturity date, and the following volume and transaction related information for each security:
        •   total par value traded (reflecting actual volume of capped transactions (if six or more) and uncapped volume);
        •   par value traded of customer buys;
        •   par value traded of customer sells;
        •   par value traded of inter-dealer transactions;
        •   aggregate par value volume of transactions with sizes up to the dissemination cap (i.e., "uncapped transactions");
        •   if six or more capped transactions9 were disseminated during the calendar month, the aggregate par value volume of capped transactions will reflect the actual trade size of each underlying transaction within size categories of up to and including $10 million, and over $10 million;10
        •   number of unique reporting market participant identifiers (MPIDs) for trades of any size (displaying the actual number of unique MPIDs where there are six or more unique MPIDs or "1 to 5," as applicable);
        •   number of unique MPIDs for disseminated capped transactions (displaying the actual number of unique reporting MPIDs where there are six or more unique MPIDs, "0" or "1 to 5," as applicable);
        •   total number of transactions;
        •   number of customer buys;
        •   number of customer sells;
        •   number of inter-dealer transactions;
        •   total number of transactions with sizes over the dissemination cap;
        •   total number of transactions with sizes up to the dissemination cap (i.e., "uncapped transactions"); and
        •   if six or more capped transactions, the number of capped transactions within size categories of up to and including $10 million and over $10 million—displayed within incremental ranges of less than or equal to 5, less than or equal to 10, less or equal to 25, less than or equal to 50, or over 50, as applicable.

        The report also includes a "top five" snapshot for each CA Bond showing the percentage of the total number of transactions that is represented by the activity of the top five MPIDs for each CUSIP, and the percentage of total par value traded by the top five MPIDs for each CUSIP. The percentage of the total number of transactions and total par value traded for the top 5 MPIDs will be provided, irrespective of the number of capped transactions (e.g., where there is only one MPID, the number of unique MPIDs will be displayed as "1 to 5" and both the number of transactions and par value percentages will be displayed as 100 percent). The market participants that engaged in the transactions will not be identified.

        The TRACE Security Activity Report will be made available for a fee of $750 per month, or $250 per month for qualifying tax-exempt organizations.

        Effective Date

        FINRA will make both the End-of-Day TRACE Transaction File and the TRACE Security Activity Report available to subscribers beginning February 1, 2018. Thus, on February 1, 2018, the End-of-Day TRACE Transaction File will be available daily after the TRACE system closes. The TRACE Security Activity Report available on February 1, 2018, will cover statistics for the month of October 2017 due to the 90-day delay.

        File layouts for the End-of-Day TRACE Transaction File and the TRACE Security Activity Report will be made available on the FINRA website by January 2, 2018.


        1. See Securities Exchange Act Release No. 81114 (July 11, 2017), 82 FR 32728 (July 17, 2017) (Order Approving File No. SR-FINRA-2017-015).

        2. See Securities Exchange Act Release No. 81318 (August 4, 2017), 82 FR 37484 (August 10, 2017) (Order Approving File No. SR-FINRA-2017-021).

        3. Rule 6710 (Definitions) provides that a "TRACEEligible Security" is a debt security that is United States (U.S.) dollar-denominated and issued by a U.S. or foreign private issuer, and, if a "restricted security" as defined in Securities Act Rule 144(a)(3), sold pursuant to Securities Act Rule 144A; or is a debt security that is U.S. dollar-denominated and issued or guaranteed by an Agency as defined in paragraph (k) or a Government-Sponsored Enterprise as defined in paragraph (n); or a U.S. Treasury Security as defined in paragraph (p). "TRACE-Eligible Security" does not include a debt security that is issued by a foreign sovereign or a Money Market Instrument as defined in paragraph (o).

        4. FINRA currently makes available a Real-Time TRACE transaction data product, which provides subscribers with access to all disseminated transactions as they are reported throughout the trading day.

        5. Transaction data for U.S. Treasury securities, as defined in Rule 6710, is not disseminated as part of Real-Time TRACE transaction data, and thus, is not included in the End-of-Day TRACE Transaction File data product.

        6. The data elements disseminated in Real-Time TRACE transaction data are described in the technical specifications, available at: http:// www.finra.org/industry/trace-vendor-subscriberagreement-information.

        7. See Securities Exchange Act Release No. 81995 (November 1, 2017) (Notice of Filing and Immediate Effectiveness of File No. SR-FINRA-2017-033).

        8. CA Bonds do not include U.S. Treasury securities and thus, are not included in the TRACE Security Activity Report.

        9. Due to transaction confidentiality concerns, FINRA has applied "dissemination caps" and does not disseminate in its real-time TRACE transaction data the actual size (volume) of transactions over a certain par value. Specifically, for transactions in investment grade corporate bonds and in agency bonds over a 5 million dollar par value, TRACE disseminates the size as "5MM+." For transactions in non-investment grade corporate bonds over a 1 million dollar par value, TRACE disseminates the size as "1MM+." For capped transactions, actual volumes for CA Bonds are not made available today until 6 months after the transaction in the Historic TRACE Data Product.

        10. These incremental ranges and size categories may be adjusted in the future based on FINRA's experience with the data product.

      • 17-35 Broker-Dealer, Investment Adviser Firm, Agent and Investment Adviser Representative, and Branch Renewals for 2018 Payment Deadline: December 18, 2017

        View PDF

        BD and IA Renewals for 2018

        Regulatory Notice
        Notice Type

        Renewals
        Referenced Rules & Notices

        NTM 02-48
        Suggested Routing

        Compliance
        Legal
        Operations
        Registration
        Senior Management
        Key Topics

        IARDTM
        Registration
        Renewals
        Web CRD®

        Executive Summary

        The 2018 Renewal Program begins on November 13, 2017, when FINRA makes the Preliminary Statements available to all firms in E-Bill. Preliminary Statements are not mailed to firms.

        Firms should note the following key dates in the renewal process:

        October 23, 2017 Firms may begin submitting post-dated Form U5 and BR Closing/Withdrawal filings via Web CRD/IARD.
        November 1, 2017 Firms may begin submitting post-dated Form BDW and ADV-W filings via Web CRD/IARD.

        Please Note: Registrations terminated by post-dated filings submitted by 11 p.m., Eastern Time (ET), November 10, 2017, do not appear on the firm's Preliminary Statement. The only allowed date for post-dated filings is December 31, 2017.
        November 13, 2017 Preliminary Statements are available in E-Bill.
        December 18, 2017 Full payment of Preliminary Statements is due.
        January 2, 2018 Final Statements are available in E-Bill.
        January 22, 2018 Full payment of Final Statements is due.

        FINRA advises FINRA-registered firms that failure to remit full payment of their Preliminary Statements to FINRA by December 18, 2017, may cause the firm to become ineligible to do business in the jurisdictions where it is registered, effective January 1, 2018. FINRA-registered firms will also be subject to a late fee if payment is not received by December 18, 2017.

        In addition to this Notice, firms should review the renewal instructions [http://www.finra.org/industry/renewal], the IARD Renewal Program Bulletin (if applicable) on the Investment Adviser Registration Depository [https://www.iard.com/renewal-program] (IARD) website, and any information mailed to ensure continued eligibility to do business in 2018.

        Please direct questions concerning this Notice to the FINRA Gateway Call Center at (301) 869-6699.

        Background & Discussion

        Preliminary Statements

        Beginning November 13, 2017, Preliminary Statements are available for viewing and printing in E-Bill [https://ews.finra.org/auth/ews_logon.jsp?CTAuthMode=BASIC&login_form_location_basic&aa_param=user ]. The statements include the following fees.

        FINRA assesses a fee of $45 for each individual who renews his/her BD registration with any regulator through Web CRD. Firms can access a list of agents (AGs) assessed this fee by requesting the Renewals—Firm Renewal report from Web CRD. FINRA also assesses the annual statutory disqualification fees for registered individuals.

        In addition, any IARD system fees as determined by the North American Securities Administrators Association (NASAA) for investment adviser (IA) firms and their representatives (RAs) who renew through IARD will also be included on the Preliminary Statement.

        Based on the number of active FINRA branches, FINRA assesses each firm a branch office annual registration renewal fee per branch. Additionally, FINRA assesses each firm a FINRA branch system processing renewal fee of $20 per branch. FINRA waives one branch registration renewal and system processing renewal fee per firm.

        Please Note: FINRA does not assess the personnel assessment fees through the Renewal Program. All FINRA-registered firms will receive a separate invoice for these fees. Firms can obtain a list of AGs for whom the firms will be assessed the personnel assessment fee by requesting the Renewals—Firm Renewal Roster.

        Web CRD/IARD assesses renewal fees for participating state regulators, exchanges, and SelfRegulatory Organizations (SROs). Renewal statements reflect any applicable renewal fees assessed for BD and IA firms, branches, and individuals with each SRO and/or jurisdiction.

        Some participating jurisdictions may require steps beyond the payment to FINRA of renewal fees to complete their renewal process. Firms should contact each jurisdiction directly for further information on state renewal requirements. A Regulator Directory is located on the NASAA website.

        For detailed information regarding IA renewals, you may also visit the IARD website. For information on states' participation in the IARD Renewal Program, review the Fees and Accounting page on the IARD website.

        FINRA must receive full payment of the Preliminary Statement fees by December 18, 2017.

        If payment is not received by December 18, 2017, FINRA-registered firms will be assessed a Renewal Late Fee. FINRA includes this late fee as part of the Final Statement and calculates the fee as follows: 10 percent of a firm's cumulative final renewal assessment or $100, whichever is greater, with a cap of $5,000. Please see Notice to Members (NTM) 02-48 for details. In addition, if FINRA fails to receive payment by the deadline, firms risk becoming ineligible to do business in the jurisdictions where their registrations are not renewed.

        Renewal Payment

        Firms may pay electronically through E-Bill, send a wire transfer or mail a check; however, it is highly recommended that funds be remitted via E-Bill. Firms are encouraged to check their Renewal Statements to confirm FINRA has received payment and that the firm's Preliminary Statement is paid in full.

        Electronic Payment via E-Bill

        Firms may submit electronic payments to fund their Renewal Accounts through E-Bill. FINRA does not charge for using E-Bill; however, firms should verify if their banks charge additional fees. Firms must entitle users to use E-Bill.

        Fund Transfers (Flex-Funding to Renewal Account)

        Wire transfer and check payments are initially deposited into a firm's Flex-Funding Account in E-Bill. E-Bill users with the proper entitlement may transfer funds from their Flex-Funding Account directly to their Renewal Account (or to an affiliated firm) at any time to ensure their firm's renewal payment is processed prior to the December 18 payment deadline. Beginning December 18, FINRA will systematically transfer funds from Flex-Funding Accounts to Renewal Accounts if the entire outstanding renewal amount is available in the firm's Flex-Funding Account. This automatic transfer process will occur daily for firms that still owe fees on their Preliminary Statements until the system shuts down for renewal processing on December 26.

        ACH/Wire Transfer

        To initiate a wire or ACH transfer, instruct your firm's bank to contact Bank of America and provide your bank with the following information:

        Wire ABA Number: 026009593
        ACH ABA Number: 054001204
        Beneficiary: FINRA
        FINRA Account: 226005684771
        Reference Number: Firm CRD number

        Inform your bank to credit funds to the FINRA bank account and to only use your firm's CRD number as a reference. Record the confirmation number of the wire transfer provided by your bank.

        If you send your wire transfer by 2 p.m., ET, you may confirm receipt the next business day by reviewing your Flex-Funding Account.

        Checks

        Checks should be made payable to FINRA and your firm's CRD number should be written on the check memo line. Processing of check payments may take up to two business days. Please account for mail delivery and payment processing time when sending payment. Send payment in the blue, pre-addressed renewal payment envelope mailed to your firm in early November or write the address on an envelope exactly as noted in this Notice:

        U.S. Mail Express/Overnight Delivery
        FINRA
        P.O. Box 418911
        Boston, MA 02241-8911

        Note: This P.O. Box will not accept courier or overnight deliveries.
        Bank of America Lockbox Services
        FINRA 418911
        MA5-527-02-07
        2 Morrissey Blvd.
        Dorchester, MA 02125

        Provide the following phone number, if required:(800) 376-2703

        Renewal Reports

        When Preliminary Statements are made available, firms should request, print and/or download renewal reports via Web CRD/IARD. The three following renewal reports are available for reconciliation with the Preliminary Statement:

        •   Firm Renewal Report—lists individuals included in the Renewal Program and includes billing codes (if the firm has provided them).
        •   Branches Renewal Report—lists each branch registered with FINRA and/or with any other regulator that renews branches through Web CRD/IARD and for which the firm is being assessed a fee.
        •   Approved AG Reg Without FINRA Approval Report—contains all individuals who are not registered with FINRA, but are registered with one or more jurisdictions. Firmsshould request this report as soon as possible to determine if it needs to request any FINRA registrations or terminate jurisdiction registrations.

        Post-Dated Form Filings

        Firms can begin filing post-dated Form U5 and BR Closing/Withdrawal termination filings on October 23, 2017, and Form BDW and ADV-W filings on November 1, 2017. Post-dated filings are filings that have a termination date of December 31, 2017. If a post-dated Form U5, BDW, BR Closing/Withdrawal or ADV-W filing is submitted, the affected individual, firm, and/or branch may continue doing business in that jurisdiction until the end of the calendar year without being assessed renewal fees. December 31, 2017, is the only date allowed for a post-dated form filing.

        Firms that submit post-dated termination filings by 11 p.m., ET, on November 10, 2017, will not be assessed renewal fees for the select registrations on their Preliminary Statements. Firms that submit post-dated termination filings on, or after, November 12, 2017, will not be assessed renewal fees for the select registrations on their Final Statements. Those firms should see a credit balance on their Final Statements if the firm has not requested additional registrations during that period to offset the credit balance.

        After submitting a termination filing, firms should query individual, branch and/or firm registrations to ensure that Form U5, BR Closing/Withdrawal, BDW and ADV-W filings process by the renewal filing deadline date of 6 p.m., ET, on December 26, 2017. Firms should exercise care when submitting all post-dated filings. Web CRD/IARD processes these forms when they are submitted and FINRA cannot withdraw a post-dated termination filing. A firm that submits a post-dated termination filing in error will have to file a new Form U4, BD, Form BR or Form ADV when Web CRD/IARD resumes normal processing on January 2, 2018, and Web CRD/IARD will assess new registration fees.

        Filing Form BDW

        The deadline for electronic filing of a Form BDW for any firm that wants to terminate a registration before year-end is 6 p.m., ET, December 26, 2017.

        Filing Form ADV to Cancel Notice Filings or Form ADV-W to Terminate Registrations

        Firms that either unmark a state notice filing on a Form ADV Amendment, (generating the status of "Removal Requested at End of Year") or terminate a state registration on a Form ADV-W filed by 11 p.m., ET, November 10, 2017, will avoid the assessment of applicable renewal fees on their Preliminary Statements. The deadline to submit a form filing that will cancel a notice filing or terminate a state registration before year-end is 6 p.m., ET, December 26, 2017.

        Renewals Mass Transfer Moratorium

        A mass transfer is used to systematically transfer individuals and branch offices from one firm to another firm as a result of a merger, acquisition, succession or consolidation. December 9, 2017, is the last day firms will be able to request that a mass transfer occur in 2017. There will be a moratorium on mass transfer processing from December 26, 2017, through January 2, 2018.

        Final Statements

        On January 2, 2018, FINRA makes available all Final Statements in E-Bill. These statements reflect the status of BD, AG, IA firm and RA registrations, exempt reporting, or notice filings as of December 31, 2017. Any adjustments in fees owed resulting from registration terminations, approvals, notice filings or transitions after the Preliminary Statement appear on the Final Statement.

        •   The Final Statement reflects an amount owed if a firm has more individuals, branch offices or jurisdictions registered and/or notice filed at year-end than it did when the Preliminary Statement was generated.
        •   If a firm has fewer individuals, branch offices or jurisdictions registered or notice filed at year-end than it did on the Preliminary Statement, FINRA transfers any overpayments to firms' Flex-Funding Accounts on January 2, 2018.

        When Final Statements are made available, firms should access the Web CRD reports functionality for the Firm Renewal Report, which will list all individuals renewed with SROs/exchanges and each jurisdiction. AGs and RAs whose registrations are "approved" in any of these jurisdictions during November and December will be included in this roster. "Pending" and "deficient" registrations at year's end are not included in the Renewal Program. Firms will also be able to request the Branches Renewal Report that lists all branches for which they have been assessed renewal fees. Versions of these reports will also be available for download.

        Firms have until January 22, 2018, to report any discrepancies on the renewal reports. This is also the deadline for receipt of final payment. Specific information and instructions concerning the Final Statement and renewal reports will be available in a January 2018 Regulatory Notice.

      • 17-34 FINRA Requests Comment on the Efficacy of Allowing Compensated Non-Attorneys to Represent Parties in Arbitration Effective Date: October 18, 2017

        Non-Attorney Representatives in Arbitration

        Regulatory Notice
        Notice Type

        Request for Comment
        Referenced Rules & Notices

        FINRA Rule 12208
        FINRA Rule 13208
        FINRA Rule 14106
        Suggested Routing

        Compliance
        Legal
        Registered Representatives
        Senior Management
        Key Topics

        Arbitration
        Associated Person
        Code of Arbitration Procedure
        Code of Mediation Procedure
        Dispute Resolution
        Mediation

        Summary

        The FINRA Codes of Arbitration and Mediation Procedure permit compensated non-attorneys to represent clients in securities arbitration and mediation subject to certain exceptions. FINRA is conducting a review of the efficacy of continuing to allow such representation. The Notice outlines FINRA's review of compensated non-attorney representatives' (NAR firms) activities at the forum and seeks responses to questions related to forum users' experiences with NAR firms.

        Questions concerning this Notice should be directed to:

        •   Kenneth L. Andrichik, Senior Vice President and Chief Counsel, Office of Dispute Resolution, at (212) 858-3915; or
        •   Kristine Vo, Assistant Chief Counsel, Office of Dispute Resolution, at (212) 858-4106.

        Action Requested

        FINRA encourages all interested parties to comment on the proposal. Comments must be received by December 18, 2017.

        Member firms and other interested parties can submit their comments using the following methods:

        •   Emailing comments to pubcom@finra.org; or
        •   Mailing comments in hard copy to:

        Marcia E. Asquith
        Office of the Corporate Secretary
        FINRA
        1735 K Street, NW
        Washington, DC 20006-1506

        To help FINRA process and review comments more efficiently, persons should use only one method to comment on the proposal.

        Important Notes: The only comments that FINRA will consider are those submitted pursuant to the methods described above. All comments received in response to this Notice will be made available to the public on the FINRA website. Generally, FINRA will post comments as they are received.1

        Before becoming effective, a proposed rule change must be authorized for filing with the Securities and Exchange Commission (SEC) by the FINRA Board of Governors, and then must be filed with the SEC pursuant to Section 19(b) of the Securities Exchange Act of 1934 (SEA).2

        Background & Discussion

        The FINRA Codes of Arbitration and Mediation Procedure (Codes) permit non-attorneys to represent clients in securities arbitration and mediation subject to certain exceptions.3 Some parties are represented by relatives or friends who assist with case preparation or presentation. Typically, NAR firms provide public investors an alternative to representation by attorneys in disputes between investors and broker-dealers.

        The Dispute Resolution Task Force in its Final Report and Recommendations4 recommended that FINRA conduct a study to determine, among other matters, whether NAR firms are performing competently. FINRA's review revealed that there are a small number of NAR firms regularly practicing in the forum. Forum users have reported that the following NAR firm activities have taken place at the forum:

        •   using the forum as a vehicle to employ inappropriate business practices;
        •   requiring retainer agreements that reflect a non-refundable fee of $25,000;
        •   representing parties in hearing locations where state law prohibits such representation or, in the alternative, handling only small claims (decided on written submissions) to avoid hearing locations in which the unauthorized practice of law would become an issue;
        •   signing required arbitration submission agreements with the name of the NAR firm to avoid naming an individual representative who could be engaging in the unauthorized practice of law;
        •   pursuing frivolous or stale claims to attempt to elicit settlements; or
        •   breaching confidentiality provisions in settlement agreements by posting a picture of the settlement check to market the NAR firm's services.

        FINRA permits parties to represent themselves in the forum. Investors with small claims (claims of $100,000 or less) who want to be represented in the forum have limited access to attorneys because some attorneys may not be willing to offer services given the small dollar value of a dispute. In recent filings, approximately one-fifth of customer claims with specified damages have relief amounts of less than $100,000.5 Some of these investors are served by law school arbitration clinics,6 and others are served by NAR firms.

        While NAR firms provide service to public investors with small claims, among others, the allegations reported to FINRA raise serious concerns. There are no rules of professional conduct applicable to NAR firms' activities. Moreover, NAR firms are not subject to malpractice insurance requirements. Any recovery against a NAR firm for negligence is generally limited to the assets of the corporation. Therefore, investors have little recourse if a NAR firm negligently represents or defrauds them. In addition, NAR firms are not subject to licensing boards and there is no supervisory body with authority to police their activities. Therefore, FINRA is considering whether it would be prudent to further restrict representation of parties by NAR firms.

        Preliminary Economic Impact Assessment

        In considering whether to further restrict representation of parties by NAR firms, FINRA will evaluate the economic effects of further restrictions with respect to the current rules under the Codes that permit non-attorneys to represent clients in securities arbitration and mediation.7 Further restrictions on NAR firms are likely to affect investors, brokerdealers, NAR firms and other entities that offer services to investors in arbitration including attorneys.

        As described previously, investors typically retain representation by attorneys, NAR firms, relatives and friends, and law school arbitration clinics. Investors can benefit from their representative's experience and expertise to prepare and present a case, and to decide when to settle or arbitrate a claim. The benefits of representation are likely to increase with the competency and experience of the representation and the difficulty for investors to make informed decisions, such as when the legal issues are more complex. Investors can also incur costs from retaining representation in arbitration. For example, investors incur fees to retain attorneys and NAR firms. Other types of representation, including law school arbitration clinics, typically charge no fee.

        Economically rational investors will likely retain the representation that provides the most benefits relative to its costs, including retaining no representation if that is the most beneficial option. However, not all options may be available to all investors. Attorneys with the relevant competency are often not willing to offer services to smaller claims, and law school arbitration clinics may not be locally available. Law school arbitration clinics may also impose other restrictions, such as not handling claims above a set amount or offering services to high income investors.

        Although NAR firms are an alternative to representation by attorneys, NAR firms are not subject to the same professional rules or guidelines, nor are they subject to malpractice insurance requirements. As a result, relative to representation by attorneys, investors who retain representation by NAR firms may be more likely to experience harm at the hand of their representative and have less legal recourse to receive compensation for that harm. Investors may also not be aware of the absence of these protections, and therefore may not properly evaluate the benefits and costs of representation by NAR firms.

        Further restricting the representation of parties by NAR firms could benefit investors by reducing their exposure to firms that provide fewer client protections or redress options for malpractice. The absence of similar rules and requirements could result in a higher incidence of harmful practices, and thereby impose additional costs on investors when retaining representation. To the extent that harmful activities hinder the dispute resolution process, then broker-dealers would also incur additional legal expense and time to resolve disputes. Further restrictions on NAR firms would thereby also benefit broker-dealers through the reduction of these potential costs.

        Alternatively, further restricting the representation of parties by NAR firms could also impose additional costs. A primary cost could be a decrease in the ability of some investors, including investors with smaller claims, to find other beneficial sources of representation. The available alternatives to NAR firms may not be as beneficial as representation by NAR firms, even if there is a higher risk of negligent representation or fraud, and therefore impose costs on investors. The loss of representation could result in worse arbitration outcomes. Also, to the extent that NAR firms market their services to investors, and in particular investors with smaller claims, then further restrictions could also reduce the number of investors who are aware of the potential need to seek recourse in arbitration.

        Further restricting representation of parties by NAR firms would also have other economic effects. An inability by some investors to find other beneficial sources of representation in arbitration could impact the outcome of an arbitration hearing by affecting the quality and completeness of the information presented. Attorneys could also experience an increase in business from investors who would otherwise retain representation by NAR firms, which would then experience a loss of business. Holding the likely outcome of the arbitration constant, these impacts represent an economic transfer and not a new cost or benefit imposed.

        The magnitude of the benefits and costs depends on the restriction on NAR firms that may be imposed. The magnitude of the benefits and costs would also depend on the exposure of these investors to harmful activities and their ability to retain other representation. For example, investors with higher exposure to harmful activities by NAR firms or better access to beneficial sources of alternative representation would likely experience greater benefits, while those with lower exposure or less access to other beneficial sources of alternative representation could experience higher costs. The magnitude of the benefits and costs to investors and other affected parties would depend on the nature and severity of the potential changes to the Codes. The magnitude of the benefits and costs does not depend on the investors that would not otherwise retain representation by NAR firms.

        Request for Comment

        FINRA seeks answers to the following questions with respect to the efficacy of allowing NAR firms to continue to represent clients in the forum.

        1. What experiences have you had with a NAR firm in the forum? Do you believe the party received competent representation by the NAR firm? What was the economic impact to you or your firm of the experience?
        2. What other types of representation or assistance do investors retain in arbitration? What experiences have you had with other types of representation or assistance in the forum? Do you believe the party received competent representation or assistance? What was the economic impact to you or your firm of the experience?
        3. How does the expense to retain representation or assistance differ between NAR firms, law firms and other entities that offer services?
        4. Have you been unsuccessful at obtaining attorney representation in arbitration, and if so, what factors drove this? If a small claim size was a factor, how much was the claim that you were seeking? What factors limit investors' access to attorney representation in arbitration other than the size of the claim?
        5. Do you believe that FINRA should amend the Codes to restrict NAR firm activities in some way, or to prohibit entirely NAR firms from representing clients at the forum? If so, what are the appropriate restrictions?
        6. If you believe that FINRA should continue to allow NAR firms to represent clients at the forum, do you believe it would be helpful to forum users if FINRA published a checklist of questions on the FINRA website that investors could review before hiring a NAR firm? What questions would you suggest that FINRA include? What other alternatives should FINRA consider to reduce the incidence of harmful activities by NAR firms but ensure investors are able to retain representation?
        7. Are there other relevant benefits and costs associated with the further restriction on NAR firms that were not discussed in the economic impact analysis? What are the effects of these benefits and costs, and what are the magnitudes of the effects?

        1. FINRA will not edit personal identifying information, such as names or email addresses, from submissions. Persons should submit only information that they wish to make publicly available. See Notice to Members 03-73 (Online Availability of Comments) (November 2003) for more information.

        2. See Section 19 and rules thereunder. After a proposed rule change is filed with the SEC, the proposed rule change generally is published for public comment in the Federal Register. Certain limited types of proposed rule changes take effect upon filing with the SEC. See SEA Section 19(b)(3) and SEA Rule 19b-4.

        3. Under Rule 12208 of the Code of Arbitration Procedure for Customer Disputes, Rule 13208 of the Code of Arbitration Procedure for Industry Disputes, and Rule 14106 of the Code of Mediation Procedure, parties may be represented in an arbitration or mediation by a person who is not an attorney, unless: (1) state law prohibits such representation; (2) the person is currently suspended or barred from the securities industry in any capacity; or (3) the person is currently suspended from the practice of law or disbarred.

        4. In October 2014, FINRA formed the Dispute Resolution Task Force (Task Force) to consider possible enhancements to its arbitration and mediation forum. On December 16, 2015, the Task Force issued its Final Report, available at http://www.finra.org/sites/default/files/Final-DRtask-force-report.pdf.

        5. FINRA staff is able to identify over 6,300 customer claims filed from 2014 to 2016 with specified compensatory, punitive or other damages.

        6. See How to Find an Attorney on FINRA's website.

        7. We request comment below for information that would improve FINRA's ability to evaluate the benefits and costs of further restricting the representation of parties by NAR firms. The benefits and costs of representation are dependent on the competency of the representation, the fees, as well as the incidence and degree of harmful activities. Whether these factors systematically differ across representatives would impact the economic effects of further restricting representation by NAR firms.

      • 17-33 Amendments to the Code of Arbitration Procedure for Customer Disputes to Expand the Options Available to Customers if a Firm or Associated Person Is or Becomes Inactive Effective Date: October 18, 2017

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        Arbitration

        Regulatory Notice
        Notice Type

        Request for Comment
        Referenced Rules & Notices

        Code of Arbitration Procedure for Customer Disputes, Rule 12000 Series
        FINRA Rule 12100
        FINRA Rule 12202
        FINRA Rule 12214
        FINRA Rule 12309
        FINRA Rule 12400
        FINRA Rule 12601
        FINRA Rule 12702
        FINRA Rule 12801
        FINRA Rule 12900
        Suggested Routing

        Compliance
        Legal
        Operations
        Registered Representatives
        Senior Management
        Key Topics

        Arbitration
        Associated Person
        Code of Arbitration Procedure
        Dispute Resolution

        Comment Period Expires: December 18, 2017

        Summary

        When respondents are no longer in business, recovery of arbitration awards against them often is unavailing. Accordingly, FINRA is proposing to amend the Code of Arbitration Procedure for Customer Disputes (Code) to expand a customer's options to withdraw an arbitration claim if a firm or an associated person becomes inactive before a claim is filed or during a pending arbitration. In addition, the proposed amendments would allow customers to amend pleadings, postpone hearings and receive a refund of filing fees under these situations.

        The text of the proposed amendments can be found at www.finra.org/notices/17-33.

        Questions concerning this Notice should be directed to:

        •   Kenneth L. Andrichik, Senior Vice President and Chief Counsel, Office of Dispute Resolution, at (212) 858-3915;
        •   Victoria Crane, Associate General Counsel, Office of General Counsel, at (202) 728-8104; or
        •   Mignon McLemore, Assistant Chief Counsel, Office of Dispute Resolution, at (202) 728-8151.

        Action Requested

        FINRA encourages all interested parties to comment on the proposal. Comments must be received by December 18, 2017.

        Member firms and other interested parties can submit their comments using the following methods:

        •   Emailing comments to pubcom@finra.org; or
        •   Mailing comments in hard copy to:

        Marcia E. Asquith
        Office of the Corporate Secretary
        FINRA
        1735 K Street, NW
        Washington, DC 20006-1506

        To help FINRA process and review comments more efficiently, persons should use only one method to comment on the proposal.

        Important Notes: The only comments that FINRA will consider are those submitted pursuant to the methods described above. All comments received in response to this Notice will be made available to the public on the FINRA website. Generally, FINRA will post comments as they are received.1

        Before becoming effective, a proposed rule change must be authorized for filing with the Securities and Exchange Commission (SEC) by the FINRA Board of Governors, and then must be filed with the SEC pursuant to Section 19(b) of the Securities Exchange Act of 1934 (SEA).2

        Background & Discussion

        FINRA has implemented a number of changes to its arbitration program that expand the options available to a customer when dealing with those member firms or associated persons who are responsible for most unpaid awards—firms and associated persons who are no longer in business either at the time the claim is filed or at the time of the award.3

        When a customer claimant first files an arbitration claim, FINRA staff alerts, by letter, the customer claimant when the respondent firm or broker is no longer in business. FINRA also informs the customer that awards against such firms or brokers have a much higher incidence of non-payment and that FINRA has limited disciplinary authority over inactive firms or associated persons that fail to pay arbitration awards. Thus, the customer knows before pursuing the claim in arbitration that collection of an award may be more difficult. In addition, upon learning that the respondent firm or associated person is inactive, a customer may determine to amend his or her claim to add other respondents from whom the customer may be able to collect should the claim go to award.

        As discussed in more detail below, FINRA is proposing to amend the Code to expand further the options available to customers in situations where a firm becomes inactive during a pending arbitration, or where an associated person becomes inactive either before a claim is filed or during a pending arbitration. FINRA is also proposing to amend the Code to allow customers to amend pleadings, postpone hearings, and receive a refund of filing fees under these situations.4

        A. Arbitrating Claims Against Inactive Members and Associated Persons

        Currently, under FINRA Rule 12202 (Claims Against Inactive Members), a customer's claim against a firm whose membership is terminated, suspended, cancelled or revoked, or that has been expelled from FINRA, or that is otherwise defunct, is ineligible for arbitration unless the customer agrees in writing to arbitrate after the claim arises. In these situations, the customer is able to evaluate the likelihood of collecting on an award and make an informed decision whether to proceed in arbitration, to file the claim in court or to amend his or her claim to add other respondents from whom the customer may be able to collect should the claim go to award, regardless of whether the customer signed a predispute arbitration agreement.5 Accordingly, claims against inactive firms proceed in arbitration only at the customer's option.6

        The Code does not address situations, however, where a member firm becomes inactive during a pending arbitration. In addition, the Code does not provide specific procedures for a customer to withdraw, and file in court, a claim against an associated person whose registration FINRA has terminated, revoked or suspended either before the customer files a claim or during a pending arbitration.

        Accordingly, FINRA is proposing to amend FINRA Rule 12202 to expand a customer's option to withdraw a claim to situations where a member becomes inactive during a pending arbitration, or where an associated person becomes inactive either before a claim is filed or during a pending arbitration. Under the proposal, FINRA Rule 12202 would specify that a customer's claim against an inactive associated person, as defined, is ineligible for arbitration unless the customer agrees in writing to arbitrate after the claim arises. In addition, FINRA Rule 12202 would specify that if a member or an associated person becomes inactive during a pending arbitration, FINRA would notify the customer of the status change, and provide the customer with 60 days to withdraw the claim(s) with or without prejudice.7

        Similar to the current rules and procedures relating to claims filed against inactive members, the proposed amendments would allow the customer to evaluate the likelihood of collecting on an award and make an informed decision whether to proceed in arbitration, to file the claim in court or to amend his or her claim to add other respondents from whom the customer may be able to collect should the claim go to award, regardless of whether the customer signed a predispute arbitration agreement.

        In addition, FINRA is proposing to amend FINRA Rule 12100 (Definitions) to add definitions of "inactive member" and "inactive associated person." Consistent with Rule 12202 today, FINRA is proposing to define an "inactive member" as a member whose membership is terminated, suspended, cancelled or revoked; that has been expelled from FINRA; or that is otherwise defunct.

        An "inactive associated person" would be defined as a person associated with a member whose registration is revoked8 or suspended,9 or whose registration has been terminated for a minimum of 365 days.10 Thus, if an associated person's registration is not revoked or suspended and the individual re-registers within a year, the individual would not be classified as terminated and, therefore, would not be deemed inactive.
        B. Amending Pleadings

        FINRA Rule 12309 (Amending Pleadings) limits a party's ability to amend a statement of claim, among other pleadings, after FINRA has appointed a panel to the case. Specifically, once FINRA appoints a panel to a case, a party can amend a pleading only if the arbitrators grant a party's motion to do so. FINRA Rule 12309 also provides that a party cannot add a new party to the case after arbitrator ranking lists are due to the Director of Arbitration until FINRA appoints the panel and the arbitrators grant a party's motion to add the new party.

        FINRA believes that a customer should be able to change his or her litigation strategy during a pending case once the customer learns that a firm or an associated person has become inactive. Accordingly, FINRA is proposing to amend FINRA Rule 12309 to provide that if FINRA notifies a customer that a firm or an associated person has become inactive during a pending arbitration, the customer may amend a pleading, including adding a new party, within 60 days of receiving such notice.
        C. Postponing Hearings

        FINRA Rule 12601 (Postponement of Hearings) addresses when a scheduled hearing date can be postponed. The parties can agree to postpone a hearing. Absent an agreed upon postponement, a hearing can be postponed by the FINRA staff in extraordinary circumstances, by the arbitrators at their discretion, or by the arbitrators upon a party's motion. FINRA is proposing to amend FINRA Rule 12601 to provide that if FINRA notifies a customer that a firm or an associated person has become inactive and the scheduled hearing date is within 60 days of the date the customer receives the notice from FINRA, the customer may postpone the hearing date. Since the proposed amendment would provide a customer with 60 days to determine how to proceed after FINRA notifies the customer of the status change to inactive, it would be appropriate, FINRA believes, to allow the customer to postpone a scheduled hearing that falls within that time period.

        In addition, FINRA assesses postponement fees against the parties for each postponement agreed to by the parties, or granted upon the request of one or more parties. FINRA also charges an additional fee of $600 per arbitrator if a postponement takes place within 10 days of a scheduled hearing date. The additional $600 per arbitrator fee is paid to the arbitrators to compensate them for the late adjournment.11 FINRA is proposing to amend FINRA Rule 12601 to provide that if FINRA notifies a customer that a firm or an associated person has become inactive and the scheduled hearing date is within 60 days of the date the customer receives the notice from FINRA, then FINRA would not charge the customer a postponement fee or an additional fee of $600 per arbitrator if a customer chooses to postpone a scheduled hearing.

        FINRA is also proposing to amend FINRA Rule 12214 to make it clear that it would continue to pay the $600 honoraria to the arbitrators to compensate them for their time if a customer chooses to postpone a scheduled hearing within 10 days before a scheduled hearing session because the customer learns that the firm or associated person has become inactive.
        D. Default Proceedings

        FINRA Rule 12801 (Default Proceedings) permits a claimant to request default proceedings against any associated person respondent whose registration is terminated, revoked or suspended, and who failed to file an answer to a claim within the time provided in the Code. A single arbitrator will decide the case based on the claimant's pleadings and other documentation.12 The claimants must present a sufficient basis to support the making of an award.13 The arbitrator may not issue an award based solely on the nonappearance of a party.14

        As noted, the proposed amendments would define an inactive associated person as a person associated with a member whose registration is revoked or suspended, or whose registration has been terminated for a minimum of 365 days.15 In the context of a default proceeding, FINRA believes that it would be appropriate to continue to allow a customer to request default proceedings against any terminated associated person who fails to answer a claim regardless of how long the associated person has been terminated, consistent with the existing rule.

        Accordingly, FINRA is proposing to amend FINRA Rule 12801(a) to specify that a claimant may request a default proceeding against a terminated associated person who fails to file an answer within the time provided in the Code regardless of the number of days since termination. For example, the proposed amendment would make clear that a customer could initiate a default proceeding against an associated person who left a firm, joined a new firm one week later and failed to answer a claim relating to activities at the former firm.
        E. Refunding Filing Fees

        FINRA Rule 12900 (Fees Due When a Claim is Filed) specifies that if a claim is settled or withdrawn more than 10 days before the date that the hearing is scheduled to begin, a party paying a filing fee will receive a partial refund of the filing fee. The rule also provides that FINRA will not refund any portion of the filing fee if a claim is settled or withdrawn within 10 days of the date that the hearing is scheduled to begin.

        FINRA is proposing to amend FINRA Rule 12900 to provide that FINRA will refund a customer's full filing fee if FINRA notifies a customer that a firm or an associated person has become inactive during a pending arbitration, and the customer withdraws the case against all parties within 60 days of the notification. FINRA would refund the filing fee even if the customer withdraws the case within 10 days of the date that the hearing is scheduled to begin.

        Preliminary Economic Impact Assessment

        A. Regulatory Need

        FINRA has adopted rules and procedures that expand the options available to a customer when dealing with those member firms or associated persons that are responsible for most unpaid awards—firms and associated persons who are no longer in business either at the time the claim is filed or at the time of the award. Despite these measures, the rules do not always enable customers to collect awards. Ultimately, it is difficult for customers to collect from firms or associated persons who are no longer in business, whether the customer has an arbitration award or a court judgment.

        The proposed amendments are intended to help further address the issue of unpaid customer arbitration awards by expanding the options available to customers when filing a claim in arbitration against an inactive firm or associated person, or if the firm or associated person becomes inactive during a pending arbitration.
        B. Economic Baseline

        The economic baseline for the proposed amendments is the current rules under the Code that address customer disputes in arbitration. The proposal is expected to affect parties in an arbitration including customers, member firms and associated persons.

        The Code currently provides that a customer's claim against a firm whose membership is terminated, suspended, cancelled or revoked, or that has been expelled from FINRA, or that is otherwise defunct, is ineligible for arbitration unless the customer agrees in writing to arbitrate after the claim arises. The Code does not address situations where a firm becomes inactive during a pending arbitration. In addition, the Code does not currently provide specific procedures for a customer to withdraw, and file in court, a claim against an associated person whose registration FINRA has terminated, revoked, or suspended either before the customer files a claim or during a pending arbitration. The Code also does not currently provide specific procedures for a customer to amend pleadings, postpone hearings, and receive a refund of filing fees where a firm or an associated person becomes inactive during a pending arbitration.

        FINRA staff is able to identify 1,328 customer cases closed by hearing or by papers (or by stipulated awards) from 2014 to 2016. Among these cases, FINRA staff is able to identify 278 cases (21 percent) where a firm or an associated person would have been identified as inactive under the proposed amendments either before or during a pending arbitration.
        C. Economic Impacts

        The benefit of the proposed amendments arises from the expansion of a customer's options under the Code where a member firm becomes inactive during a pending arbitration, or where an associated person becomes inactive either before a claim is filed or during a pending arbitration. The proposed amendments would enable customers to determine whether to proceed in arbitration or to file a claim in court, regardless of whether the customer signed a predispute arbitration agreement. Customers who withdraw claims would also benefit from the refund of the filing fee. Upon learning that the respondent firm or associated person is inactive, a customer may determine to amend his or her claim to add other respondents from whom the customer may be able to collect should the claim go to award. Customers would also have the ability to postpone hearings without penalty and thereby have additional time to prepare.16 More generally, the proposed amendments would increase the ability of customers to alter their litigation strategy if they remain in arbitration.

        The proposal may impose costs on customers, firms and associated persons. For customers who withdraw their claims in arbitration and file in court, they could incur additional legal expense and time to resolve the dispute. The proposal could also impose costs on firms and associated persons. If customers withdraw their claims and then file them in court, inactive firms and associated persons could incur additional costs to resolve the dispute. If customers remain in arbitration and amend their pleadings, firms and associated persons who remain parties to the arbitration could incur legal expense to alter their litigation strategy.

        The magnitude of the aggregate benefits and costs of the proposal depends upon whether customers would exercise the options under the proposed amendments and the resulting outcomes. FINRA believes that few customers would withdraw claims from arbitration in the presence of the proposed rules. In FINRA's experience, customers typically proceed with arbitration even when notified that a firm is inactive at the time of filing and remain in arbitration in the event that a firm or an associated person leaves the industry while the arbitration is pending.

        One reason customers remain in arbitration when the named party is inactive may be the additional costs of restarting a case in another venue. Another reason may be the expectation that another venue would not result in a higher likelihood of redress. As discussed above, customers can today confirm an arbitration award in court in order to avail themselves of its judicial authority. Based on this experience, FINRA believes that customers would continue to remain in arbitration and exercise the newly provided options under the proposed amendments relating to amending pleadings and postponing hearings.

        The proposed amendments would provide no significant benefits and impose no material costs on customers who would not change their behavior in the presence of the rule, nor on the firms and associated persons who are party to their claims. In the event that a panel would otherwise grant the requests provided under the proposal (e.g., amended pleadings), the benefits to the proposed amendments would be limited to the streamlining of the arbitrators' decisions. In general, however, the use of the options in a limited number of circumstances suggests that the magnitude of the benefits and costs of the proposal are likely to be small.
        D. Alternatives Considered

        FINRA exercised discretion in setting the requirement for associated persons to be considered inactive if their registrations have been terminated for a minimum of 365 days. FINRA also exercised discretion by not including a similar requirement for associated persons whose registrations have been revoked or suspended. The 365 minimum day requirement would typically delay the ability of customers to use the options under the proposed amendments. If access to the options under the proposed amendments is beneficial to customers and increases the likelihood of redress, then the requirement could reduce these benefits.17 FINRA considered the loss of customer benefits in addition to the costs to customers of withdrawing claims or amending pleadings when associated persons only temporarily leave the industry.18 FINRA also considered the costs to associated persons from the loss of FINRA arbitration as the agreed upon forum for dispute resolution. The 365 minimum day requirement is one alternative. FINRA requests comment below regarding the length of the minimum-day requirement or other alternatives that would provide customers the most benefits while minimizing their costs.

        Lastly, FINRA exercised discretion in setting the amount of time from when customers receive notification of the inactive status of a firm or an associated person to when they could exercise their options under the proposed amendments. After 60 days, customers would lose the benefits under the proposed amendments. However, the 60-day timeframe would limit the effect of an inactive firm or associated person on a pending arbitration, and provide certainty that the arbitration would continue in regular order after the time period had elapsed. FINRA believes that 60 days is sufficient for a customer to decide on the proper course of action.

        Request for Comment

        FINRA is interested in receiving comments on all aspects of the proposed amendments, including the economic impact of the proposed amendments. FINRA requests data and other quantitative measures in support of comments where possible.

        •   Under what scenarios would customers withdraw their claims without prejudice under the proposed amendments? How likely are these scenarios?
        •   Does the 365 minimum day requirement properly balance the benefits to customers from the ability to exercise the options under the proposed amendments to the potential costs to customers from exercising the options and having the inactive associated person return to the industry? Should the minimum number of days be more or less than 365? Why?
        •   In proposing the 365 minimum day requirement, FINRA considered that approximately 75 percent of individuals who leave the industry return within one year. Are there other factors FINRA should consider in determining whether to include a 365 minimum day requirement for terminated associated persons to be considered inactive?
        •   Are there other relevant benefits and costs associated with the proposal that were not discussed in the economic impact analysis? What are the consequences of the benefits and costs, and what are the magnitudes of its effects?
        •   Would the proposed amendments impact the incentives of firms and associated persons? If so, how?

        1. FINRA will not edit personal identifying information, such as names or email addresses, from submissions. Persons should submit only information that they wish to make publicly available. See Notice to Members 03-73 (Online Availability of Comments) (November 2003) for more information.

        2. See Section 19 and rules thereunder. After a proposed rule change is filed with the SEC, the proposed rule change generally is published for public comment in the Federal Register. Certain limited types of proposed rule changes take effect upon filing with the SEC. See SEA Section 19(b)(3) and SEA Rule 19b-4.

        3. Unpaid awards occur in customer cases, those involving an investor, as well as intra-industry cases, those involving industry members only. The proposed amendments relate to unpaid customer arbitration awards only.

        4. FINRA is also proposing to amend the Code to update cross-references and make other non-substantive, technical changes to rules impacted by the proposal.

        5. If the customer notifies FINRA in writing that he or she does not want to proceed against the inactive firm in FINRA's forum, the staff deems the customer's agreement to submit to arbitration rescinded and sends the customer a full refund of any filing fee remitted.

        6. In FINRA's experience, customer claimants almost always decide to pursue arbitration claims. Claimants' counsel has indicated to FINRA staff that they continue to pursue claims against inactive firms and associated persons due to the possibility of collection from various parties, sources and entities not named in the arbitration case, including: (1) bankruptcy trustees; (2) commercial insurance policies; (3) successor firms; (4) fidelity bonds; and (5) control persons.

        7. FINRA Rule 12702 (Withdrawal of Claims) provides that before a party answers a statement of claim, the claimant can withdraw the claim with or without prejudice. However, after a party submits an answer, the claimant can only withdraw the claim with prejudice unless the panel or the parties agree otherwise. FINRA is proposing to make a conforming change to Rule 12702 to provide that a customer can withdraw a claim without prejudice if the party that submitted an answer is an inactive member or inactive associated person. Withdrawal without prejudice would a How the customer to re-file the arbitration at a later date.

        8. In the Central Registration Depository (CRD®), a "revoked" status of an individual's registration reflects revocation of an individual's license.

        9. A "suspended" status in CRD indicates that an individual's registration has been suspended.

        10. An associated person's registration may be terminated either fully or partially. A full termination means the termination of registration with all self-regulatory organizations (SROs) and all jurisdictions. A partial termination means the termination of registration or registration category with one or more, but not all, SROs and jurisdictions. For purposes of the proposal, the associated person's registration must be a full termination for at least 365 days.

        11. See FINRA Rule 12214 (Payment of Arbitrators).

        12. See FINRA Rule 12801(b)(2)(B). No hearings are held in default proceedings unless the customer requests one. See FINRA Rule 12801(c).

        13. See FINRA Rule 12801(e)(1).

        14. Id. If the defaulting respondent files an answer before an award has been issued, the proceedings against this respondent will be terminated and the claim will proceed under the regular provisions of the Code. See FINRA Rule 12801(f).

        15. See supra note 10.

        16. Among the 1,328 customer cases closed by hearing or by papers (or by stipulated awards) from 2014 to 2016, FINRA staff is able to identify 145 cases where a firm or an associated person would have been identified as inactive after arbitrator ranking lists were due or FINRA appointed a panel. FINRA staff is also able to identify 63 cases where a firm or an associated person would have been identified as inactive within 60 days of a scheduled hearing.

        17. For example, among the 1,328 customer cases closed by hearing or by papers (or by stipulated awards) from 2014 to 2016, FINRA staff is able to identify 84 cases where an associated person had left the industry fewer than 365 days before the arbitration close date. These associated persons may or may not have returned to the industry after the arbitration close date. The customers to these cases would not have been able to avail themselves of the benefits of the new options under the proposed amendments, as a result of the 365 day requirement. The number of such cases decreases to 42 cases if instead a 180-day window is used and 20 cases if instead a 90-day window is used.

        18. Among the 1,328 customer cases closed by hearing or by papers (or by stipulated awards) from 2014 to 2016, FINRA staff is ableto identify 67 cases where an associated person had left during a pending arbitration but returned to the industry in fewer than 365 days before the arbitration close date. The 365-day window prevents customers from exercising the new options under the proposed amendments and potentially reduces the additional costs to the parties to resolve disputes when the associated person has only temporarily left the industry. The number of such cases decreases to 57 cases if instead a 180-day window is used and 51 cases if instead a 90-day window is used.

      • 17-32 FINRA Reminds Firms of Sales Practice Obligations for Volatility-Linked Exchange-Traded Products Effective Date: October 16, 2017

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        Volatility-Linked Exchange-Traded Products

        Regulatory Notice
        Notice Type

        Guidance
        Referenced Rules & Notices

        FINRA Rule 2111
        FINRA Rule 2210
        FINRA Rule 3110
        Regulatory Notice 10-51
        Regulatory Notice 12-03
        Suggested Routing

        Advertising
        Compliance
        Legal
        Senior Management
        Key Topics

        Communications with the Public
        Exchange-Traded Products
        Suitability
        Supervision
        Training
        Volatility-Linked Exchange-Traded Products

        Summary

        Volatility-linked exchange-traded products (ETPs)1 are designed to track Chicago Board Options Exchange Volatility Index (VIX) futures, rather than the VIX itself. For the reasons explained further below, many volatility-linked ETPs are highly likely to lose value over time. Accordingly, volatility-linked ETPs may be unsuitable for certain retail investors, particularly those who plan to use them as traditional buy-and-hold investments.

        This Notice reminds firms of their sales practice obligations in connection with volatility-linked ETPs as discussed more generally in Regulatory Notice , including, without limitation, that recommendations to customers must be based on a full understanding of the terms, features and risks of the product recommended, sales materials must be fair and accurate, and firms must have reasonable supervisory procedures in place to ensure that these obligations are met.

        Questions concerning this Notice should be directed to:

        •   Thomas M. Selman, Executive Vice President, Regulatory Policy, at (202) 728-6977 or by email at Thomas.Selman@finra.org;
        •   James S. Wrona, Vice President and Associate General Counsel, Office of General Counsel (OGC), at (202) 728-8270 or by email at Jim.Wrona@finra.org; or
        •   Kathryn Moore, Associate General Counsel, OGC, at (202) 728-8200 or by email at Kathryn.Moore@finra.org.

        Background and Discussion

        The VIX is frequently cited as a measure of investor fear, which historically tends to be elevated in periods of market distress and lower under normal market conditions.2 The VIX often moves sharply higher when stock indices decline significantly. As such, the VIX has the desirable attribute that it is negatively correlated with the broader stock market.

        Volatility-linked ETPs generally provide exposure to volatility by tracking short- and mid-term VIX futures indices.3 Volatility-linked ETPs that seek to maintain a continuous, targeted maturity exposure to VIX futures will either track or hold VIX futures contracts on a rolling basis, meaning that they will sell shorter-term contracts or contracts about to expire with contracts that have more distant or deferred maturity dates in order to maintain the desired exposure. Historically, the prices for VIX futures have tended to increase as the futures contract dates go out farther into the future, so the strategy of maintaining a targeted maturity exposure to VIX futures can often involve selling a contract with a lower price than the one bought to replace it. This rolling of contracts can result in a loss on the trade or a negative roll yield.4

        Because of the negative roll yield, many volatility-linked ETPs that seek to maintain a continuous, targeted maturity exposure to VIX futures, particularly to shorter maturities, have lost a significant amount of value over time; some have lost more than 90 percent of their value since they launched. And, such products will likely continue to lose value over longer periods of time. Moreover, the performance of VIX futures can diverge from that of the VIX, and in general, movements in the futures are smaller in magnitude than those of the VIX. For these reasons, the performance of volatility-linked ETPs that seek to maintain a continuous, targeted maturity exposure to VIX futures may also be less correlated to that of the VIX than investors might expect.5

        The risks of volatility-linked ETPs have been highlighted by both academic and financial publications6 and firms, registered representatives, their supervisors and investors should understand the risks of these products. Without understanding the key features of these volatility-linked ETPs, some investors and registered representatives could mistakenly believe that these products are likely to exhibit behavior similar to that of the VIX over short as well as long time horizons and thus provide protection against market losses over a variety of time periods. In fact, these products have not exhibited, and likely will not exhibit, behavior similar to the VIX over longer periods and exhibit imperfect correlation even over shorter periods.7

        Sales Practice Obligations Relating to Volatility-Linked ETPs

        As detailed in Regulatory Notice , products that offer retail investors exposure to stock market volatility, such as volatility-linked ETPs, are "complex" products. Firms should review that Notice and consider whether to use the type of heightened scrutiny and supervision suggested therein for these complex products.8 Firms are similarly reminded that they must comply with the obligations discussed below when offering volatility-linked ETPs.

        Suitability

        FINRA Rule 2111 requires member firms and associated persons to have a reasonable basis to believe that a recommended transaction or investment strategy involving a security or securities is suitable for the customer, based on the information obtained through the reasonable diligence of the member or associated person to ascertain the customer's investment profile. Two of the main suitability obligations delineated in Rule 2111 that are particularly relevant to volatility-linked ETPs are customer-specific and reasonable-basis suitability. The former requires a reasonable basis to believe that a recommendation is suitable for a particular customer based on the customer's investment profile, including the customer's investment experience, risk tolerance, liquidity needs, investment objectives, and financial situation and needs.9 The latter requires that the member or associated person perform reasonable diligence to understand the nature of a recommended security or strategy, as well as potential risks, and then determine whether there is a reasonable basis to believe, based on the reasonable diligence, that the recommendation is suitable for at least some investors. The level of reasonable diligence that is required will rise with the complexity and risks associated with the security or strategy. With regard to a complex product such as a volatility-linked ETP, an associated person should be capable of explaining, at a minimum, the product's main features and associated risks.10

        Communications with the Public

        FINRA Rule 2210 requires, among other things, that all communications with the public be based on principles of fair dealing and good faith, be fair and balanced, and provide a sound basis for evaluating the facts in regard to any particular security or type of security, industry or service.

        Supervision

        FINRA Rule 3110 requires that member firms establish and maintain a system to supervise the activities of each associated person that is reasonably designed to achieve compliance with applicable securities laws and regulations, and with applicable FINRA rules. A reasonably designed system must be specifically tailored to a member's business, taking into account, among other things, the nature and complexity of the products offered and the customer base. Firms also must train registered representatives and supervisors about the terms, features and risks of the products they recommend, as well as the factors that would make such products either suitable or unsuitable for certain investors.

        Volatility-linked ETPs are complex products that could be easily misunderstood and improperly sold by registered representatives. As discussed in Regulatory Notice and noted above, firms should consider whether to use heightened scrutiny and supervision of ETPs.11 Firms must act reasonably to ensure that their registered representatives and supervisors understand the risks presented by such products and that their systems and training are reasonably designed to avoid unsuitable sales or improper communications.12

        Conclusion

        Volatility-linked ETPs are complex products that are not suitable for all investors. Firms are reminded of their obligation to vet complex products, to put reasonable supervisory controls in place, and to train their registered representatives and supervisors to ensure that suitability and other obligations under FINRA rules are met.


        1 An exchange-traded product (ETP) is a security listed on an exchange that seeks to provide exposure to the performance of an index, benchmark, or actively-managed strategy. The most common type of ETP is the exchangetraded fund (ETF). Other ETPs include commodity pools, which invest in futures, and exchangetraded notes (ETNs), which track an index or benchmark but are debt obligations of an issuer and hold no underlying portfolio. Volatility-linked ETPs include ETPs that provide exposure to volatility as an asset, as represented by the VIX or other analogous index. These products typically track derivatives such as futures to achieve volatility exposure and have been structured as commodity pools, ETFs or ETNs.

        2 The VIX is calculated using one month put and call options on the S&P 500 Index and is designed to measure the market's expectations of volatility in large cap U.S. stocks over the next 30-day period. While the VIX is perhaps the best known and most widely cited, there are numerous other indices that are similar to the VIX but measure volatility in other markets, such as the markets for non-U.S. stocks, as well as for interest rates, currencies and commodities.

        3 Current U.S.-listed volatility ETPs include VIX futures trackers, inverse versions of the VIX futures trackers and two-times leveraged VIX futures trackers, as well as more sophisticated strategies providing exposure to different combinations of long and short positions in VIX futures of varying maturities.

        4 "Roll yield" is measured by the percentage difference between the price of the futures contract sold and the new one purchased. A futures market in which the roll yield is negative—because the prices of futures contracts increase as the contract expiration dates go further out into the future—is said to be in "contango." Conversely, for a market in "backwardation," the prices of futures contracts decrease as the contract expiration dates go farther out into the future. Rolling a position in a market in backwardation results in a positive roll yield, as the contract that is sold has a higher price than the one with which it is replaced. See FINRA Regulatory Notice (discussing sales practice obligations for commodity futureslinked securities).

        5 For example, over a recent 12-month period, while the VIX was down around six percent, one volatility ETP tracking the short-term VIX futures index lost more than 70 percent of its value.

        6 For example, according to the academic researcher who developed the VIX:

        "Unlike other securities traded on stock exchanges, however, [volatility-linked ETPs] are not suitable buy-and-hold investments and are virtually guaranteed to lose money through time…. The nature and performance of [volatilitylinked ETPs] suggest that a significant proportion of holders are either irrational and/or unaware of how these products are structured and perform through time. Among the finding is that [volatility-linked ETPs] benchmarked to the VIX Short-Term Futures indices are virtually certain to lose money through time.... Over their three-year history, the holders of ETPs bench-marked to the VIX Short-Term Futures indices have lost nearly $4 billion."

        See Robert E. Whaley, "Trading Volatility: At What Cost?" Journal of Portfolio Management, Fall 2013, pp. 95-108. See also Brendan Conway, "No, Your ETF Doesn't Track the VIX Volatility Index – and Here are the Numbers," Barron's (June 17, 2014); Chris Dieterich, "The Fear Gauge: Investors Should Avoid VIX ETFs," Barron's, (March 26, 2016).

        7 In a FINRA enforcement action being issued contemporaneously with this Notice, for example, FINRA found that certain brokers were making unsuitable recommendations of volatility-linked ETPs to customers with the mistaken belief that such products could be used as a long-term hedge on their customers' equity positions in the event of a market downturn. See Wells Fargo Clearing Services, LLC (AWC No. 2014042465601) (October 16, 2017).

        8 See FINRA Regulatory Notice (discussing heightened scrutiny and supervision of complex products).

        9 A customer's investment profile also includes the customer's age, other investments, tax status, investment time horizon, and any other information the customer may disclose to the member or associated person in connection with such recommendation.

        10 FINRA notes, as well, the importance of a firm's vetting of new products, particularly new products that are complex or have potentially high levels of risk associated with them. See, e.g., FINRA Regulatory Notices (April 2005) (highlighting best practices for vetting new products); and (June 2009) (reminding firms of their obligation to vet new complex and non-traditional exchange-traded funds).

        11 See FINRA Regulatory Notice (discussing heightened scrutiny and supervision of complex products).

        12 In this regard, firms are also encouraged to consider adopting effective conflict-review practices for the introduction of complex new products, such as those highlighted in FINRA's October 2013 Report on Conflicts of Interest.

      • 17-31 FINRA Amends Section 13 of Schedule A to the FINRA By-Laws to Establish Charges for New Option to File Websites and Web Pages in Native Format Implementation Date: October 5, 2017

        Advertising Fees

        Regulatory Notice
        Notice Type

        Rule Amendment
        Referenced Rules & Notices

        FINRA Rule 2210
        FINRA Rule 2220
        Section 13 of Schedule A to the FINRA By-Laws
        Suggested Routing

        Advertising
        Compliance
        Legal
        Senior Management
        Key Topics

        Advertising Review Charges
        Communications with the Public

        Summary

        FINRA has filed for immediate effectiveness amendments to Section 13 of Schedule A to the FINRA By-Laws governing the review charge for communications filed with or submitted to FINRA's Advertising Regulation Department.1 The amendments do not increase the filing fees for the review of communications. The amendments establish charges for a new option to submit websites and web pages in their native format in anticipation of the impending upgrade to the Advertising Regulation Electronic Files (AREF) System. The amendments do not change the current filing requirements under FINRA Rules 2210 (Communications with the Public) or 2220 (Options Communications).

        Included with this Notice is Attachment A, the text of amended Section 13.

        Questions concerning this Notice should be directed to:

        •   Amy C. Sochard, Senior Director, Advertising Regulation, at (240) 386-4508 or Amy.Sochard@finra.org; or
        •   Pramit K. Das, Associate Director, Advertising Regulation Technology, at (240) 386-4544 or Pramit.Das@finra.org.

        Background & Discussion

        In April 2014, FINRA launched a retrospective review of its communications with the public rules to assess their effectiveness and efficiency. One of the actions arising from this retrospective review has been an effort to upgrade FINRA's AREF System, a web-based application available through the FINRA Firm Gateway2 that enables firms to electronically submit communications with the public for review by the FINRA.3

        Currently, the AREF System accepts such submissions in a variety of file formats for print (e.g., .doc, .rtf, .txt), video (e.g., .mov, .mp4, .wmv), audio (e.g., .aif, .mp3, .wav) or other form (e.g., .pdf), but not for website or web page communications in their native format (e.g., .html). Consequently, firms submitting website or web page communications through the AREF System must convert them from native format to a format such as Portable Document Format (PDF). This conversion process can be burdensome, sometimes resulting in voluminous PDF pages. The impending upgrades to the AREF System will make the submission of website or web page communications more efficient by including the capability to accept such communications in their native format. Firms that choose to use the new capability will package websites or web pages in a compressed file format and submit them through the AREF System for review by FINRA. Firms will include in their submissions a manifest that lists each unique web page address (Uniform Resource Locator or URL) submitted for review.

        Amendments

        Rules 2210 and 2220 require members to file with FINRA specified retail communications at least 10 business or calendar days prior to use, within 10 business days of first use, or within such shorter period as FINRA may allow, as applicable. For example, new members, for a period of one year beginning on the date their FINRA membership becomes effective, generally must file with FINRA at least 10 business days prior to first use, any retail communication that is published or used in any electronic or other public media, including any generally accessible website.4 As another example, all members generally must file within 10 business days of first use any retail communication-including a website communication-that promotes or recommends a specific registered investment company or family of registered investment companies.5 FINRA evaluates these and other communications that are subject to filing requirements or which firms file voluntarily for compliance with applicable rules of FINRA, the SEC, the Municipal Securities Rulemaking Board and the Securities Investors Protection Corporation. Pursuant to the content standards of Rule 2210, FINRA helps to ensure that all member firms' communications are based on principles of fair dealing and good faith, are fair and balanced, and provide a sound basis for evaluating the facts in regard to any particular security or type of security, industry or service. Among other things, FINRA rules prohibit member communications from including false, exaggerated, unwarranted, promissory or misleading statements or claims.

        Currently, Section 13 imposes a review charge for each communication filed with or submitted to FINRA (except for items that are filed or submitted in response to a written request from FINRA issued pursuant to the spot check procedures set forth in Rules 2210(c)(6) and 2220(c)(3)). The rates charged are based on the number of pages for printed material or the length of video or audio media. In addition, there are surcharges for expedited review.

        The amendments to Section 13 establish charges for submission of websites and web pages in native format, in anticipation of the upgraded AREF System capabilities. FINRA anticipates this upgraded AREF System capability will be operational in October 2017. A firm's use of the upgraded AREF functionality will be voluntary. The amendments establish rates of $125, plus $10 for each web page reviewed in excess of 10 pages. For expedited reviews, the amendments establish rates of $600 per item plus $50 for each web page reviewed in excess of 10 pages. For the purposes of the charging schedule, each distinct URL would be treated as a web page. The amendments mirror the current rates for printed material, which remain unchanged. Thus, the amendments maintain parity in charging, irrespective of the form of filing or submission.

        FINRA notes that firms will not be obligated to file or submit website communications in native format. They may continue to convert those communications to a printed format and submit them at the unchanged printed page rate if they find that method more efficient or economical. The underlying filing requirements have not changed.


        1 See Exchange Act Release No. 81801 (October 3, 2017) (Notice of Filing and Immediate Effectiveness of a Proposed Rule Change Relating to the Review Charges for Communications Filed with or Submitted to FINRA) (File No. SRFINRA-2017-030).

        2 FINRA Firm Gateway is an online compliance tool that provides consolidated access to FINRA applications and allows members to submit required filings electronically to meet their compliance and regulatory obligations.

        3 Other actions FINRA has taken in response to the recommendations include additional guidance for, and amendments to, the communications with the public rules. See Regulatory Notice 17-18 (April 2017) (Guidance on Social Networking Websites and Business Communications); Exchange Act Release No. 78823 (September 13, 2016), 81 FR 64240 (September 19, 2016) (Notice of Filing of Partial Amendment No. 1 and Order Granting Accelerated Approval of a Proposed Rule Change Amending FINRA Rules 2210 (Communications with the Public), 2213 (Requirements for the Use of Bond Mutual Fund Volatility Ratings), and 2214 (Requirements for the Use of Investment Analysis Tools), as Modified by Partial Amendment No. 1) (File No. SR-FINRA-2016-018); Regulatory Notice 15-17 (May 2015) (Guidance on Rules Governing Communications With the Public).

        4 See FINRA Rule 2210(c)(1).

        5 See FINRA Rule 2210(c)(3).

        ATTACHMENT A

        Below is the text of the proposed rule changes. Proposed new language is underlined; proposed deletions are in brackets.

        * * * * *

        SCHEDULE A TO THE BY-LAWS OF THE CORPORATION

        * * * * *

        Section 13—Review Charge for Communications Filed or Submitted There shall be a review charge for each and every communication, whether in printed, video or other form, filed with or submitted to FINRA, except for items that are filed or submitted in response to a written request from FINRA's Advertising Regulation Department ("the Department") issued pursuant to the spot check procedures set forth in FINRA rules as follows: (1) for printed or website material reviewed, $125.00, plus $10.00 for each printed page or webpage reviewed in excess of 10 pages; and (2) for video or audio media, $125.00, plus $10.00 per minute for each minute of tape reviewed in excess of 10 minutes.

        Where a member requests expedited review of material submitted to the Department there shall be a review charge of $600.00 per item plus $50.00 for each printed page or webpage reviewed in excess of 10 pages. Expedited review shall be completed within three business days, not including the date the item is received by the Department, unless a shorter or longer period is agreed to by the Department. The Department may, in its sole discretion, refuse requests for expedited review.

      • 17-30 SEC Approves Consolidated FINRA Registration Rules, Restructured Representative-Level Qualification Examinations and Changes to Continuing Education Requirements Effective Date: October 1, 2018

        View PDF

        Qualification and Registration

        Regulatory Notice
        Notice Type

        Consolidated Rulebook
        Rule Amendment and New Rule
        Referenced Rules & Notices

        FINRA By-Laws, Article V, Section 4
        FINRA Rule 1200 Series
        FINRA Rules 2010, 3110, 3130(a),3220, 3240, 3270 and 3280
        SEA Section 15A(g)(3)
        Suggested Routing

        Compliance
        Finance
        Legal
        Operations
        Registered Representatives
        Registration
        Senior Management
        Training
        Key Topics

        Central Registration Depository(CRD®)
        Compliance Officer
        Consolidated FINRA Rules
        Continuing Education
        Financial Services Affiliate Waiver Program
        Permissive Registrations
        Principal Financial Officer and Principal Operations Officer
        Qualification and Registration
        Securities Industry Essentials™ (SIE™)

        Qualification and Registration

        Summary

        The Securities and Exchange Commission (SEC) approved a proposed rule change to: (1) adopt consolidated FINRA registration rules;1 (2) restructure the representative-level qualification examinations by creating a general knowledge examination called the Securities Industry Essentials (SIE) and transforming the representative-level examinations into specialized knowledge examinations; and (3) amend the Continuing Education (CE) requirements.2

        These changes become effective October 1, 2018.

        The text of the new and amended rules is available at www.finra.org/notices/17-30.

        Questions regarding this Notice should be directed to:

        •   Afshin Atabaki, Associate General Counsel, Office of General Counsel, at (202) 728-8902 or by email at afshin.atabaki@finra.org;
        •   Joe McDonald, Senior Director, Testing and Continuing Education Department, at (240) 386-5065 or by email at joe.mcdonald@finra.org; or
        •   Alexandra Toton, Associate Director, Testing and Continuing Education Department, at (240) 386-4677 or by email at alexandra.toton@finra.org.

        Background and Discussion

        Section 15A(g)(3) of the Securities Exchange Act of 1934 (Exchange Act or SEA) authorizes FINRA to prescribe standards of training, experience and competence for persons associated with FINRA members. FINRA's registration rules ensure that associated persons attain and maintain specified levels of competence and knowledge pertinent to their function. In general, the registration rules: (1) require that persons engaged in a firm's investment banking or securities business who are to function as representatives or principals register with FINRA in each category of registration appropriate to their functions by passing one or more qualification examinations; (2) provide a process for firms to request a waiver of a qualification examination; (3) exempt specified associated persons from the registration requirements; and (4) allow firms to permissively register specified persons.

        FINRA has consolidated the NASD and Incorporated NYSE registration rules as FINRA rules. The consolidated rules streamline, and bring consistency and uniformity to, the qualification and registration requirements. The consolidated rules, among other things, allow a member firm to permissively register, or maintain the registration(s) as a representative or principal of, any associated person of the firm, establish a waiver program for individuals registered with a member firm who move to a financial services industry affiliate of a member firm and require firms to designate a Principal Financial Officer and a Principal Operations Officer. In conjunction with these changes, FINRA has also restructured the representative-level qualification examination program into a more efficient format whereby all representative-level applicants will take a general knowledge examination (the SIE) and a tailored, specialized knowledge examination (a revised representative-level qualification examination) for their particular registered role. Individuals who are not associated persons of firms, such as members of the general public, are also eligible to take the SIE. The restructured program, among other things, eliminates duplicative testing of general securities knowledge on representative-level examinations and eliminates several representative-level registration categories that have become outdated or have limited utility. In addition, FINRA has made corresponding and clarifying changes to the CE requirements.

        Summary of Consolidated Registration Rules

        The following is a summary of the consolidated registration rules.

        FINRA Rule 1210 (Registration Requirements)

        FINRA Rule 1210 requires that each person engaged in the investment banking or securities business of a member firm register with FINRA as a representative or principal in each category of registration appropriate to his or her functions and responsibilities as specified in FINRA Rule 1220 (Registration Categories), unless exempt from registration pursuant to FINRA Rule 1230 (Associated Persons Exempt from Registration). FINRA Rule 1210 also provides that such person is not qualified to function in any registered capacity other than that for which the person is registered, unless otherwise stated in the rules. In addition, FINRA Rule 1210 addresses the following: (1) requirement to have a minimum number of registered principals;3 (2) ability to maintain permissive registrations for associated persons;4 (3) requirement to pass an appropriate qualification examination and, in the case of representatives, the SIE, and process for obtaining a waiver of a qualification examination;5 (4) requirements applicable to registered persons functioning as principals prior to passing an appropriate principal qualification examination;6 (5) rules of conduct for taking examinations and confidentiality of examinations;7 (6) waiting periods for retaking a failed examination;8 (7) requirement that registered persons satisfy CE;9 (8) lapse of registration and expiration of the SIE;10 (9) waiver program for individuals working for a financial services industry affiliate of a member firm;11 (10) status of persons serving in the Armed Forces of the United States;12 and (11) impermissible registrations.13

        FINRA Rule 1220 (Registration Categories)

        FINRA Rule 1220 sets forth the definitions of "principal"14 and "representative"15 as well as the qualification and registration requirements for principals,16 such as General Securities Principals, and representatives,17 such as General Securities Representatives. The rule also addresses the following: (1) status of certain foreign registrations;18 (2) additional requirements for registered persons engaged in security futures activities;19 (3) requirements applicable to firms operating with only one Registered Options Principal;20 (4) scope of the General Securities Sales Supervisor registration category;21 (5) scope of the Operations Professional registration category;22 and (6) status of eliminated registration categories.23

        FINRA Rule 1230 (Associated Persons Exempt from Registration)

        FINRA Rule 1230 identifies associated persons who are not required to be registered with FINRA, including, among others, associated persons whose functions are solely and exclusively clerical or ministerial. The rule further provides that the function of accepting customer orders is not considered a clerical or ministerial function.24 FINRA Rule 1240 (Continuing Education Requirements) FINRA Rule 1240 sets forth the CE requirements, which consist of a Regulatory Element and a Firm Element. The Regulatory Element consists of periodic online-based training on regulatory, compliance, ethical, supervisory subjects and sales practice standards.25 The Firm Element consists of annual, firm-developed and administered training programs designed to keep specified registered persons current regarding job- and product-related subjects.26

        Significant Changes

        For the most part, the consolidated registration rules are substantially similar to the legacy NASD and Incorporated NYSE rules that they replaced. Yet, there are some significant differences between the consolidated rules and the legacy rules, which are described below.

        SIE

        FINRA has restructured the representative-level qualification examination program by creating the SIE and revising the representative-level qualification examinations. Beginning on October 1, 2018, all new representative-level applicants are required to pass the SIE and a revised representative-level qualification examination, such as the revised General Securities Representative (Series 7) examination,27 appropriate to their job functions at the firm with which they are associating before their registration can become effective.28 For example, an individual who is applying for registration as a General Securities Representative, for the first time on October 10, 2018, is required to pass both the SIE and the revised General Securities Representative (Series 7) examination. This requirement also applies to applicants who are seeking a representative-level registration as a prerequisite to a principal-level registration.29 As described below, certain former and current registered representatives will be considered to have passed the SIE. Further, similar to the current waiver process, firms can request a waiver of the qualification requirements for applicants required to pass the SIE.

        The restructured program eliminates duplicative testing of general securities knowledge on the representative-level qualification examinations by moving such content into the SIE. The SIE will test fundamental securities-related knowledge, including knowledge of basic products, the structure and function of the securities industry, the regulatory agencies and their functions and regulated and prohibited practices,30 whereas the revised representative-level qualification examinations will test knowledge relevant to day-to-day activities, responsibilities and job functions of representatives.31

        As stated below, FINRA is eliminating several representative-level registration categories and associated examinations. Individuals maintaining the eliminated representativelevel registrations will be grandfathered (i.e., they may continue to maintain their current registration on or after October 1, 2018, unless the registration lapses). FINRA, however, is retaining the following representative-level registrations: Investment Company and Variable Contracts Products Representative; General Securities Representative; Direct Participation Programs Representative; Securities Trader; Investment Banking Representative; Private Securities Offerings Representative; Research Analyst; and Operations Professional. The table below lists the representative-level registration categories that FINRA is retaining and the current and future examinations that individuals must pass in order to register in these categories. The table also includes the number of questions on each current examination and the anticipated number of questions on each future examination.32

        FINRA Representative-Level Registration Categories and Qualification Examinations
        Registration Category (and CRD System Designation) Current Examination(s)(prior to October 1, 2018) Future Examination(s)(on or after October 1, 2018)
        Investment Company and Variable Contracts Products Representative (IR) Series 6 (100 questions) SIE (75 questions) + Revised Series 6 (50 questions)
        General Securities Representative (GS) Series 7 (250 questions) SIE (75 questions) + Revised Series 7 (125 questions)
        Direct Participation Programs Representative (DR) Series 22 (100 questions) SIE (75 questions) + Revised Series 22 (50 questions)
        Securities Trader (TD) Series 57 (125 questions) SIE (75 questions) + Revised Series 57 (50 questions)
        Investment Banking Representative (IB) Series 79 (175 questions) SIE (75 questions) + Revised Series 79 (75 questions)
        Private Securities Offerings Representative (PR) Series 82 (100 questions) SIE (75 questions) + Revised Series 82 (50 questions)
        Research Analyst (RS) Series 7 (250 questions) + Series 86 (Part I: Analysis) (100 questions) + Series 87 (Part II: Regulatory Administration and Best Practices) (50 questions) SIE (75 questions) + Revised Series 86 (Part I: Analysis) (100 questions) + Revised Series 87 (Part II: Regulatory Administration and Best Practices) (50 questions)
        Operations Professional (OS) Series 99 (100 questions) SIE (75 questions) + Revised Series 99 (50 questions)

        Individuals applying for registration with FINRA as a representative can schedule both the SIE and the applicable representative-level qualification examination(s)33 for the same day, provided they are able to reserve space at one of FINRA's designated testing centers. Individuals applying for registration as a representative must pass both the SIE and the applicable representative-level qualification examination(s). Therefore, individuals who fail either the SIE or the applicable representative-level qualification examination(s) will not qualify for registration as a representative. In addition, individuals applying for registration must satisfy all other requirements relating to the registration process (e.g., submit fingerprints).

        With the exception of individuals registered solely as Order Processing Assistant Representatives or Foreign Associates, the following individuals will be considered to have passed the SIE: (1) individuals whose registration as a representative was terminated between October 1, 2014, and September 30, 2018, provided they re-register as a representative within four years from the date of their last registration; and (2) individuals who registered as representatives prior to October 1, 2018, and who continue to maintain those registrations on or after October 1, 2018.34 All other individuals seeking representative-level registration must pass the SIE, unless they obtain a waiver.

        Further, the representative-level (and principal-level) registrations continue to be subject to a two-year lapse of registration period, while the SIE is subject to a four-year expiration period. Accordingly, if an individual was last registered as a representative two or more years immediately preceding the date of receipt by FINRA of a new application for registration as a representative, the individual would not be able to re-register as a representative without passing an appropriate representative-level qualification examination. If an individual last passed the SIE or was last registered as a representative, whichever occurred last, four or more years immediately preceding the date of receipt by FINRA of a new application for registration as a representative, the individual would not be able to re-register as a representative without passing the SIE in addition to passing an appropriate representative-level qualification examination. FINRA uses the termination date stated on an individual's Form U5 (Uniform Termination Notice for Securities Industry Registration) to determine when the individual was last registered for purposes of lapse of registration.

        The following examples illustrate the application of the new requirements to former, current and future representative-level applicants who re-register as representatives on or after October 1, 2018:

        •   Individual A was last registered as a Private Securities Offerings Representative prior to October 1, 2014. He applies to re-register as a Private Securities Offerings Representative on or after October 1, 2018. To re-register as a Private Securities Offerings Representative, he would need to pass both the SIE and the revised Private Securities Offerings Representative (Series 82) examination. Likewise, if he applies to register in another representative-level registration category on or after October 1, 2018, he would need to pass both the SIE and the representative-level examination(s) applicable to that category.
        •   Individual B was last registered as an Investment Company and Variable Contracts Products Representative on April 1, 2016. He applies to re-register as an Investment Company and Variable Contracts Products Representative at some point between October 1, 2018, and March 31, 2020. To re-register as an Investment Company and Variable Contracts Products Representative, he would need to pass the revised Investment Company and Variable Contracts Products Representative (Series 6) examination, but not the SIE. Similarly, if he applies to register in another representative-level registration category at some point between October 1, 2018, and March 31, 2020, he would need to pass the applicable representative-level examination(s), but not the SIE. If he waits to apply for registration in a representative category until April 1, 2020, or thereafter, he would need to pass both the SIE and the applicable representative-level examination.
        •   Individual C was last registered as a Direct Participation Programs Representative on December 1, 2016. She applies to re-register as a Direct Participation Programs Representative on November 1, 2018. To re-register as a Direct Participation Programs Representative, she is not required to pass any examinations. If she were to apply for registration as a Direct Participation Programs Representative at some point between December 1, 2018, and November 30, 2020, she would be required to pass the revised Direct Participation Programs Representative (Series 22) examination, but not the SIE. Similarly, if she applies to register in another representative-level registration category at some point between December 1, 2018, and November 30, 2020, she would need to pass the applicable representative-level examination(s), but not the SIE. If she waits to apply for registration as a Direct Participation Programs Representative until December 1, 2020, or thereafter, she would need to pass both the SIE and the revised Direct Participation Programs Representative (Series 22) examination.
        •   Individual D, who registered as a General Securities Representative on August 1, 2016, remains registered as a General Securities Representative after October 1, 2018. He is not required to take any additional examinations to maintain that registration. He subsequently applies for registration as an Investment Banking Representative on February 1, 2019. To register as an Investment Banking Representative, he is required to pass the revised Investment Banking Representative qualification (Series 79) examination, but not the SIE. He then terminates his registrations altogether on March 2, 2020. He applies for registration as a General Securities Representative with another member firm on February 1, 2022. To re-register as a General Securities Representative, he is not required to pass any examinations. If he were to apply for registration at some point between March 2, 2022, and March 1, 2024, he would be required to pass the revised General Securities Representative (Series 7) examination, but not the SIE. If he waits to apply for registration until March 2, 2024, or thereafter, he would need to pass both the SIE and the revised General Securities Representative (Series 7) examination.

        Individuals are not precluded from applying to register as representatives between now and September 30, 2018. Individuals who apply for registration as a representative prior to October 1, 2018, will be required to pass the current representative-level examination appropriate to that registration category, not the revised version. In addition, such individuals will not be required to pass the SIE in order to register as a representative. However, if such individuals fail to pass the current representative-level examination and the next eligibility date for retaking the examination is on or after October 1, 2018,35 they will be required to pass the SIE and the revised representative-level qualification examination in order to register as a representative. Such individuals may take the SIE and the revised representative-level examination at the next available date on or after October 1, 2018. These individuals would not have to wait the requisite period for retaking a failed examination because the SIE and the revised representative-level examinations are different examinations than the current representative-level examinations.

        The following examples address the application of the new requirements to individuals who apply for registration as a representative between now and September 30, 2018:

        •   Individual E applies for registration as an Investment Banking Representative on August 1, 2018, which will open a 120-day enrollment window for the individual to schedule an appointment to take the current Investment Banking Representative (Series 79) examination. She schedules to take the examination at a designated testing center on November 1, 2018, and she passes the examination. She is now eligible to register as an Investment Banking Representative.
        •   Individual F, who has no prior registration, applies for registration as an Operations Professional on September 3, 2018, which will open a 120-day enrollment window for the individual to schedule an appointment to take the current Operations Professional (Series 99) examination. He schedules to take the examination at a designated testing center on December 3, 2018, and he fails the examination. He will be required to pass the SIE and the revised Operations Professional (Series 99) examination in order to register. Further, he could schedule to take the SIE and the revised Operations Professional (Series 99) examination immediately at the next available date on or after October 1, 2018, and does not have to wait 30 calendar days to take them, which is the mandatory waiting period for retaking a failed examination.
        •   Individual G, who has no prior registration, applies for registration as a General Securities Representative on July 2, 2018, which will open a 120-day enrollment window for the individual to schedule an appointment to take the current General Securities Representative (Series 7) examination. He schedules to take the examination at a designated testing center on September 5, 2018, and he fails the examination. He must wait 30 calendar days to be eligible to retake that examination. However, because the eligibility date falls on October 5, 2018, which is after October 1, 2018, he is required to pass the SIE and the revised General Securities Representative (Series 7) examination to register. Moreover, he could take the SIE and the revised General Securities Representative (Series 7) examination on any available date on or after October 1, 2018.

        In addition, beginning on October 1, 2018, all associated persons, such as associated persons whose functions are solely and exclusively clerical or ministerial, as well as individuals who are not associated persons of firms, such as members of the general public, are eligible to take the SIE.36 While all associated persons of firms as well as individuals who are not associated persons are eligible to take the SIE, passing the SIE alone, as noted above, will not qualify an individual for registration with FINRA. Rather, to be eligible for registration, an individual must be associated with a firm, pass an appropriate qualification examination(s) for representative or principal and satisfy the other requirements relating to the registration process.

        Associated persons who take the SIE are subject to the SIE Rules of Conduct.37 Further, associated persons taking a representative- or principal-level examination are subject to the Rules of Conduct for representative and principal examinations.38 A violation of the SIE Rules of Conduct or the Rules of Conduct for representative and principal examinations by an associated person will be deemed to be a violation of FINRA Rule 2010 (Standards of Commercial Honor and Principles of Trade). Moreover, if FINRA determines that an associated person has violated the SIE Rules of Conduct or the Rules of Conduct for representative and principal examinations, the associated person may forfeit the results of the examination and may be subject to disciplinary action by FINRA.

        Further, individuals taking the SIE who are not associated persons must agree to be subject to the SIE Rules of Conduct. Among other things, the SIE Rules of Conduct require individuals to attest that they are not qualified to engage in the investment banking or securities business based on passing the SIE and prohibits individuals from cheating on the examination or misrepresenting their qualifications to the public subsequent to passing the SIE. Individuals taking the SIE who are not associated persons may forfeit their SIE results and may be prohibited from retaking the SIE if FINRA determines that they cheated on the SIE or that they misrepresented their qualifications to the public subsequent to passing the SIE.39 In addition, if FINRA discovers that such individuals have engaged in other types of misconduct subsequent to passing the SIE, FINRA will refer the matter to the appropriate authorities or regulators.

        As is the case today, firms must use the CRD system to request registrations for representatives. Firms may also use the CRD system to request the SIE for an associated person who is not seeking registration as a representative. FINRA is creating an enrollment system separate from the CRD system to allow individuals who are not associated persons of a firm, including members of the general public, to enroll and pay the SIE fee. An associated person who is not seeking registration as a representative may also use this enrollment system to schedule the SIE and pay the associated fee, rather than going through the CRD system.

        All individuals who take an examination will receive a passing or failing result. FINRA is exploring options for providing appropriate performance feedback to individuals who fail an examination. Firms will be able to access passing or failing results for associated persons who are registering as representatives through the CRD system. In addition, firms will be able to view whether an associated person who is not registering as a representative or an individual seeking to associate with the firm has passed or failed the SIE using an interface within the CRD system. For such individuals, the firm must obtain written permission, from the individual, authorizing the firm to review the individual's CRD record or SIE results. The CRD system will also automatically obtain the SIE passing or failing result of an individual who is seeking to associate with a firm once the firm submits a Form U4 (Uniform Application for Securities Industry Registration or Transfer) and requests a registration for that individual.

        Consistent with current practice and guidelines, FINRA will consider examination waiver requests submitted by a firm for individuals associated with the firm who are seeking registration in a representative- or principal-level registration category. FINRA will also consider waivers of the SIE alone or the SIE and the representative- and principal-level examination(s) for such individuals. In addition, firms may request a waiver of the SIE for an individual applying for registration with FINRA as a representative who is in good standing as a representative with the Financial Conduct Authority in the United Kingdom or with a Canadian stock exchange or securities regulator. Finally, FINRA will not consider a waiver of the SIE for individuals who are not associated persons of a firm or for associated persons who are not seeking registration as representatives with a firm.

        Financial Services Affiliate Waiver Program

        Effective October 1, 2018, FINRA is implementing a waiver program for individuals who terminate their registrations as representatives or principals to go to work for a foreign or domestic financial services industry affiliate of a member firm.40 Under the waiver program, individuals who go to work for a financial services industry affiliate of a member firm would terminate their registrations with the firm and would be granted a waiver of their requalification requirements, including the SIE, upon reapplying with FINRA for registration as a representative or principal, subject to the following conditions:

        •   the individual must have been registered as a representative or principal for a total of five years within the most recent 10-year period prior to his or her initial designation under the waiver program;
        •   the individual must have been registered as a representative or principal for at least one year prior to his or her initial designation under the waiver program with the member firm that is designating him or her;
        •   all waiver requests under the program must be made within seven years of the individual's initial designation;
        •   the individual's initial designation and any subsequent designation must be made concurrently with the filing of the individual's related Form U5;
        •   the individual must have continuously worked for a financial services industry affiliate of a member firm since his or her last Form U5 filing;
        •   the individual must have complied with the Regulatory Element of CE; and
        •   the individual must not have any pending or adverse regulatory matters,41 or terminations,42 that are reportable on the Form U4, and must not have been subject to a statutory disqualification as defined in Section 3(a)(39) of the Exchange Act while eligible under the program.

        Individuals would be eligible for a single, fixed seven-year waiver period from the date of their initial designation, and the period will not be tolled or renewed. However, individuals are not required to return to the member firm that designated them as eligible for a waiver under the program. They could return to a firm other than the one that designated them.

        Further, during the seven-year period, an individual can move back and forth between a member firm and its affiliate or move to another member firm. An individual could also move between the financial services affiliates of a member firm or move from a financial services affiliate of one member firm to the financial services affiliate of another member firm, so long as the individual is continuously working for a financial services affiliate of a member firm since his or her last Form U5 filing. While individuals must be continuously working for a financial services affiliate of a member firm to be eligible for a waiver, FINRA recognizes that eligible individuals may need sufficient time to transfer between member firms and their affiliates or between affiliates of member firms. FINRA expects eligible individuals to make such transfers promptly and no later than 30 calendar days.

        Under the program, firms are responsible for designating eligible individuals upon terminating their registrations and requesting waivers and providing the necessary representations upon registering them. Specifically, when a registered person is transferring to a financial services industry affiliate of a member firm, the member firm with which the individual is associated must designate the individual as an eligible person by notifying FINRA. Firms must notify FINRA through the CRD system. The firm must also concurrently file a Form U5 to terminate the individual's registration with FINRA, which would also terminate the individual's other SRO and state registrations. Further, BrokerCheck® would reflect that the individual is no longer registered or associated with a firm.43 Under the program, an individual cannot be registered with a member firm while working for a financial services industry affiliate of a member firm. In addition, an individual who has been designated as eligible under the program will not be able to take additional examinations to gain additional registrations while working for a financial services affiliate of a member firm.

        An eligible individual will be subject to a Regulatory Element program that correlates to his or her most recent registration category, and CE would be based on the same cycle had he or she remained registered. If the individual fails to complete the prescribed Regulatory Element during the 120-day window for taking the session, he or she would lose eligibility under the waiver program (i.e., the individual would have the standard two-year period after termination to re-register without having to retake an examination). FINRA will directly notify eligible individuals of upcoming Regulatory Element CE via email, and it will provide them an interface to the FINRA CE Online System™ so that they can complete the requirement within the 120-day window. Eligible individuals will be responsible for providing FINRA their contact information, including a valid email address, and for updating such information. Eligible individuals will also be responsible for paying the CE fee.

        If a firm decides to associate with and register an individual who is eligible for a waiver under the program, the firm must file a Form U4 and request the appropriate registration(s) for the individual. To request a waiver, the firm must also submit an examination waiver request to FINRA, similar to the process used today for waiver requests. As part of the waiver request, the firm must represent that the individual has satisfied the conditions of the waiver, as described above.44 While FINRA will rely on the firm's representation, FINRA may also independently verify whether the individual has satisfied the conditions of the waiver. For instance, FINRA will be able to identify whether an individual was designated as eligible under the program and track whether the individual completed the Regulatory Element of CE while working for a financial services industry affiliate of a member firm. FINRA will review the waiver request and determine whether to grant the request within 30 calendar days of receiving the request. FINRA will consider a waiver of the SIE, the representative-level qualification examination(s) or the principal-level qualification examination(s), whichever is applicable. Individuals who do not qualify for a waiver under the program may still be eligible for a waiver under FINRA's general waiver process, which FINRA evaluates on a case-by-case basis.

        The following examples illustrate the application of the waiver program:

        •   Individual A has been registered with Firm A as a General Securities Representative since September 1, 2017. Prior to that, she had been registered with Firm B since August 1, 2013. Firm A decides to transfer her to Firm A's insurance affiliate located in Nebraska. On December 3, 2018, Firm A notifies FINRA through the CRD system that it is designating her as eligible for a waiver under the financial services affiliate waiver program. Firm A concurrently files a Form U5 to terminate her registration with FINRA.

        Within a month of leaving Firm A, Individual A starts working for the insurance affiliate. After working for Firm A's insurance affiliate for six and a half years, she leaves the affiliate and rejoins Firm A. She rejoins Firm A within a month of leaving the affiliate.

        Individual A completed the Regulatory Element of CE while working for the affiliate. Further, while working for the affiliate, she does not have any pending or adverse regulatory matters, or terminations, that are reportable on the Form U4, and is not subject to a statutory disqualification. On August 1, 2025, Firm A files a Form U4 requesting registration for her as a General Securities Representative. Firm A also submits an examination waiver request to FINRA, requesting a waiver of the SIE and the revised General Securities Representative (Series 7) examination. Firm A represents in its waiver request that she has satisfied the conditions of the financial services affiliate waiver program. FINRA grants the waiver.
        •   Individual B has been registered with Firm A as an Investment Company and Variable Contracts Products Representative since April 2, 2012. Firm A decides to transfer him to Firm A's insurance affiliate located in New York. On October 1, 2018, Firm A notifies FINRA through the CRD system that it is designating him as eligible for a waiver under the financial services affiliate waiver program. Firm A concurrently files a Form U5 to terminate his registration with FINRA.

        Within a month of leaving Firm A, Individual B starts working for the insurance affiliate. After working for Firm A's affiliate for three years, he leaves the affiliate and rejoins Firm A. He rejoins Firm A within a month of leaving the affiliate.

        Individual B completed the Regulatory Element of CE while working for Firm A's affiliate. Further, while working for the affiliate, he does not have any pending or adverse regulatory matters, or terminations, that are reportable on the Form U4, and is not subject to a statutory disqualification. On December 1, 2021, Firm A files a Form U4 requesting registration for him as an Investment Company and Variable Contracts Products Representative. Firm A also submits an examination waiver request to FINRA, requesting a waiver of the SIE and the revised Investment Company and Variable Contracts Products Representative (Series 6) examination. Firm A represents in its waiver request that he has satisfied the conditions of the financial services affiliate waiver program. FINRA grants the waiver.

        After six months at Firm A, the firm transfers Individual B back to its insurance affiliate. On June 1, 2021, Firm A notifies FINRA through the CRD system that it is designating him as eligible for a waiver under the financial services affiliate waiver program. Firm A concurrently files a Form U5 to terminate his registration with FINRA. Within a month of leaving Firm A, he returns to the insurance affiliate. After working for the insurance affiliate for three years, he leaves the affiliate and rejoins Firm A. Within a month of leaving the affiliate, he rejoins Firm A.

        Individual B completed the Regulatory Element of CE while working for Firm A's affiliate for a second time. Further, while working for the affiliate, he does not have any pending or adverse regulatory matters, or terminations, that are reportable on the Form U4, and is not subject to a statutory disqualification. On August 1, 2025, Firm A files a Form U4 requesting registration for him as an Investment Company and Variable Contracts Products Representative. Firm A also submits an examination waiver request to FINRA, requesting a waiver of the SIE and the revised Investment Company and Variable Contracts Products Representative (Series 6) examination. Firm A represents in its waiver request that he has satisfied the conditions of the financial services affiliate waiver program. FINRA grants the waiver.
        •   Individual C has been registered with Firm A as a Private Securities Offering Representative since June 1, 2012. Firm A decides to transfer him to Firm A's advisory affiliate located in the United Kingdom. On February 1, 2019, Firm A notifies FINRA through the CRD system that it is designating him as eligible for a waiver under the financial services affiliate waiver program. Firm A concurrently files a Form U5 to terminate his registration with FINRA.

        Within a month of leaving Firm A, Individual C starts working for the advisory affiliate. After working for Firm A's advisory affiliate for four years, he leaves the affiliate and rejoins Firm A. He rejoins Firm A within a month of leaving the affiliate.

        Individual C completed the Regulatory Element of CE while working for Firm A's affiliate. Further, while working for the affiliate, he does not have any pending or adverse regulatory matters, or terminations, that are reportable on the Form U4, and is not subject to a statutory disqualification. On April 3, 2023, Firm A files a Form U4 requesting registration for him as a Private Securities Offering Representative. Firm A also submits an examination waiver request to FINRA, requesting a waiver of the SIE and the revised Private Securities Offering Representative (Series 82) examination. Firm A represents in its waiver request that he has satisfied the conditions of the financial services affiliate waiver program. FINRA grants the waiver.

        After three months at Firm A, the firm transfers Individual C back to its advisory affiliate. On July 3, 2023, Firm A notifies FINRA through the CRD system that it is designating him as eligible for a waiver under the financial services affiliate waiver program. Firm A concurrently files a Form U5 to terminate his registration with FINRA. Within a month of leaving Firm A, he returns to the advisory affiliate. After working for Firm A's advisory affiliate for one year, he leaves the affiliate and joins the banking affiliate of Firm B, another member firm. Within a month of leaving Firm A's affiliate, he starts working for Firm B's affiliate. He works for Firm B's banking affiliate for one year then decides to leave the affiliate and join Firm B. He joins Firm B within a month of leaving the affiliate.

        Individual C completed the Regulatory Element of CE while working for Firm B's affiliate. Further, while working for Firm B's affiliate, he does not have any pending or adverse regulatory matters, or terminations, that are reportable on the Form U4, and is not subject to a statutory disqualification. On October 1, 2025, Firm B files a Form U4 requesting registration for him as a Private Securities Offering Representative. Firm B also submits an examination waiver request to FINRA, requesting a waiver of the SIE and the revised Private Securities Offering Representative (Series 82) examination. Firm B represents in its waiver request that he has satisfied the conditions of the financial services affiliate waiver program. FINRA grants the waiver.
        •   Individual D has been registered as an Investment Banking Representative with a member firm, Firm A, since August 1, 2012. Firm A decides to transfer her to Firm A's banking affiliate located in California. On November 1, 2018, Firm A notifies FINRA through the CRD system that it is designating her as eligible for a waiver under the financial services affiliate waiver program. Firm A concurrently files a Form U5 to terminate her registration with FINRA.

        Within a month of leaving Firm A, Individual D starts working for the banking affiliate. After working for Firm A's banking affiliate for four years, she leaves the affiliate and joins the insurance affiliate of Firm B, another member firm. Within a month of leaving Firm A's banking affiliate, she starts working for Firm B's insurance affiliate, which is located in France. She works for Firm B's insurance affiliate for one year and then decides to leave the affiliate and join the advisory affiliate of another FINRA member, Firm C. Within a month of leaving Firm B's insurance affiliate, she starts working for Firm C's advisory affiliate located in New York. Finally, after working for Firm C's advisory affiliate for a year, she decides to return to the securities industry by joining Firm D, another member firm that is also located in New York. Within a month of leaving Firm C's advisory affiliate, she joins Firm D.

        Individual D completed the Regulatory Element of CE while working for the affiliates of Firms A, B and C. Further, while working for the affiliates of Firms A, B and C, she does not have any pending or adverse regulatory matters, or terminations, that are reportable on the Form U4, and is not subject to a statutory disqualification. On March 1, 2024, Firm D files a Form U4 requesting registration for her as an Investment Banking Representative. Firm D also submits an examination waiver request to FINRA, requesting a waiver of the SIE and the revised Investment Banking Representative (Series 79) examination. Firm D represents in its waiver request that she has satisfied the conditions of the financial services affiliate waiver program. FINRA grants the waiver.

        Permissive Registrations

        Beginning on October 1, 2018, firms may permissively register or maintain the registration of any associated person,45 including individuals working solely in a clerical or ministerial capacity. This is an expansion of the current categories of permissive registrations.46 For instance, an individual working in the technology department of a firm would be able to obtain and maintain a General Securities Representative registration with the firm. As another example, an associated person of a firm who is registered and functioning as a General Securities Representative would be able to permissively obtain and maintain a General Securities Principal registration with the firm. In addition, as is the case today, a firm may continue to permissively register or maintain the registration of individuals engaged in the investment banking or securities business of a foreign securities affiliate or foreign securities subsidiary of the firm.

        Individuals maintaining a permissive registration are considered associated persons as well as registered persons and subject to all FINRA rules, to the extent relevant to their activities. By way of example, FINRA rules that relate to interactions with customers, such as FINRA Rule 3240 (Borrowing From or Lending to Customers), would not have any practical application to the conduct of a permissively-registered individual who does not have any customer contact. However, rules that have general application to the conduct of all associated persons, or all registered persons, would also apply to the conduct of permissively-registered individuals. For instance, FINRA Rules 3270 (Outside Business Activities of Registered Persons) and 3280 (Private Securities Transactions of an Associated Person) apply to an individual's activities outside the course of the individual's association with a member firm, regardless of the individual's function at the firm. Therefore, these rules apply to the outside activities of all permissively-registered persons, irrespective of their activities for member firms. As another example, all registered persons, including those who solely maintain a permissive registration, are required to satisfy the Regulatory Element of CE.

        Firms are required to have adequate supervisory systems and procedures reasonably designed to ensure that individuals with permissive registrations do not act outside the scope of their assigned functions. FINRA does not anticipate that this requirement will have any significant impact on the supervision of individuals who are currently registered and functioning as representatives or principals who permissively maintain another registration under the new requirements. Firms are currently required to supervise the activities of these individuals consistent with the requirements of FINRA Rule 3110 (Supervision), including the assignment of an appropriately registered supervisor under FINRA Rule 3110(a)(5) who is responsible for supervising their activities.

        Firms will also have to address the supervision of an individual who solely maintains a permissive registration, such as an individual working in a firm's technology department who is permissively registered as a General Securities Representative. While firms are not required to assign a registered person as the day-to-day supervisor of an individual who solely maintains a permissive registration, for purposes of compliance with FINRA Rule 3110(a)(5), firms are required to assign a registered supervisor to the permissively registered individual who will be responsible for periodically contacting the individual's day-to-day supervisor to verify that the individual is not acting outside the scope of his or her assigned functions. If the permissively-registered individual is registered as a representative, the assigned registered supervisor must be registered as a representative or principal. If the permissively-registered individual is registered as a principal, the assigned registered supervisor must be registered as a principal. However, the assigned registered supervisor is not required to be registered in the same representative or principal registration category as the permissively-registered individual. For instance, in the example above, an Investment Company and Variable Contracts Products Representative is eligible to function as the assigned registered supervisor of the individual in the technology department who is permissively registered as a General Securities Representative.

        FINRA is enhancing the CRD system and BrokerCheck to enable the general public, firms, FINRA and other regulators to identify whether a registered person is maintaining only a permissive registration. FINRA will provide additional information regarding the process for identifying such individuals in the future.

        Principal Financial Officer and Principal Operations Officer

        Effective October 1, 2018, firms are required to designate: (1) a Principal Financial Officer with primary responsibility for financial filings and the related books and records; and (2) a Principal Operations Officer with primary responsibility for the day-to-day operations of the business, including overseeing the receipt and delivery of securities and funds, safeguarding customer and firm assets, calculation and collection of margin from customers and processing dividend receivables and payables and reorganization redemptions and those books and records related to such activities.47 This requirement replaces the current requirement that dual members of FINRA and the NYSE designate a Chief Financial Officer (CFO) and a Chief Operations Officer (COO) and that other FINRA members designate a CFO.

        The requirement to designate a Principal Financial Officer and a Principal Operations Officer applies to all firms, including those firms that are currently exempt from the requirement to have a Financial and Operations Principal or an Introducing Broker-Dealer Financial and Operations Principal. Further, individuals designated as Principal Financial Officers or Principal Operations Officers must qualify and register as Financial and Operations Principals or Introducing Broker-Dealer Financial and Operations Principals, as applicable.48 Principal Financial Officers and Principal Operations Officers must also be registered in the CRD system as Operations Professionals because their activities and responsibilities intersect with those of covered persons as specified in FINRA Rule 1220(b)(3). However, individuals designated as Principal Financial Officers and Principal Operations Officers are not required to pass the Operations Professional (Series 99) examination in order to register as Operations Professionals, if they already hold a qualifying registration. Moreover, because Principal Financial Officers and Principal Operations Officers are required to be registered as Financial and Operations Principals or Introducing Broker-Dealer Financial and Operations Principals, they will be eligible to register as Operations Professionals as these registrations qualify for the Operations Professional registration.49

        Firms that neither self-clear nor provide clearing services may designate the same person as the Principal Financial Officer, Principal Operations Officer and Financial and Operations Principal or Introducing Broker-Dealer Financial and Operations Principal (that is, such firms are not required to designate different persons to function in these capacities). Firms that are clearing and self-clearing must designate separate persons to function as Principal Financial Officer and Principal Operations Officer, though such individuals may also carry out the responsibilities of a Financial and Operations Principal. A clearing or selfclearing firm that is limited in size and resources may request a waiver of the requirement to designate separate persons to function as Principal Financial Officer and Principal Operations Officer.

        A firm is not precluded from designating multiple Principal Operations Officers, provided that the firm precisely defines and documents the areas of primary responsibility and makes specific provision for which of the officers has primary responsibility in areas that can reasonably be expected to overlap. A firm, however, may not designate multiple Principal Financial Officers, given the importance of having one principal who is responsible for the financial statements of a firm as a whole. Finally, a Principal Financial Officer or a Principal Operations Officer is permitted to delegate his or her day-to-day duties to other principals at the firm with the understanding that ultimate responsibility for the function rests with the Principal Financial Officer and the Principal Operations Officer.

        New Principal Registration Categories

        FINRA has established three new principal registration categories, Compliance Officer, Investment Banking Principal and Private Securities Offerings Principal.

        Compliance Officer

        Beginning on October 1, 2018, an individual designated as Chief Compliance Officer (CCO) on Schedule A of Form BD (Uniform Application for Broker-Dealer Registration) of a member firm,50 other than a firm engaged in limited investment banking or securities business, is required to register as a Compliance Officer.51 An individual designated as a CCO on Schedule A of Form BD of a firm that is engaged in limited investment banking or securities business may be registered in a principal category that corresponds to the limited scope of the firm's business,52 rather than register as a Compliance Officer.

        Individuals can qualify for registration as Compliance Officers in several ways. An individual who is designated as CCO on Schedule A of Form BD of a member firm and who is registered with FINRA as a General Securities Representative and a General Securities Principal prior to October 1, 2018, and who continues to maintain the CCO designation and the General Securities Representative and General Securities Principal registrations on October 1, 2018, will automatically be granted Compliance Officer registration on October 1, 2018. Further, other individuals who are registered with FINRA as a General Securities Representative and a General Securities Principal prior to October 1, 2018, and who continue to maintain those registrations on or after October 1, 2018, are qualified to register as Compliance Officers without having to take any additional examinations. Similarly, an individual who is registered as a Compliance Official in the CRD system prior to October 1, 2018, and who continues to maintain that registration on or after October 1, 2018, is qualified to register as a Compliance Officer without having to take any additional examinations.

        In addition, individuals whose registrations as General Securities Representatives and General Securities Principals, or whose registrations as Compliance Officials, were terminated between October 1, 2016, and September 30, 2018, are qualified to register as Compliance Officers without having to take any additional examinations, provided they register as a Compliance Officer within two years from the date of terminating those registrations.

        All other individuals registering as Compliance Officers on or after October 1, 2018, are required to: (1) satisfy the General Securities Representative prerequisite registration, including pass the SIE, and pass the General Securities Principal (Series 24) qualification examination; or (2) pass the Compliance Official (Series 14) qualification examination.

        Investment Banking Principal

        Effective October 1, 2018, principals responsible for supervising specified investment banking activities are required to register as Investment Banking Principals.53 Individuals can qualify for registration as an Investment Banking Principal in several ways. An individual who is registered with FINRA as an Investment Banking Representative and a General Securities Principal prior to October 1, 2018, and who continues to maintain those registrations on October 1, 2018, will automatically be granted an Investment Banking Principal registration on October 1, 2018.54 Further, an individual whose registrations as an Investment Banking Representative and a General Securities Principal were terminated between October 1, 2016, and September 30, 2018, is qualified to register as an Investment Banking Principal without having to take any additional examinations, provided he or she registers as an Investment Banking Principal within two years from the date of terminating those registrations. All other individuals registering as Investment Banking Principals on or after October 1, 2018, are required to satisfy the Investment Banking Representative prerequisite registration, including passing the SIE, and passing the General Securities Principal (Series 24) qualification examination.

        Private Securities Offerings Principal

        Also effective on October 1, 2018, principals solely responsible for supervising specified activities relating to private securities offerings may register as Private Securities Offerings Principals, instead of registering as General Securities Principals.55 Individuals can qualify for registration as a Private Securities Offerings Principal in several ways. An individual who is registered with FINRA as a Private Securities Offerings Representative and a General Securities Principal prior to October 1, 2018, and who continues to maintain those registrations on October 1, 2018, will automatically be granted a Private Securities Offerings Principal registration on October 1, 2018.56 Further, an individual whose registrations as a Private Securities Offerings Representative and a General Securities Principal were terminated between October 1, 2016, and September 30, 2018, is qualified to register as a Private Securities Offerings Principal without having to take any additional examinations, provided he or she registers as a Private Securities Offerings Principal within two years from the date of terminating those registrations. All other individuals registering as Private Securities Offerings Principals on or after October 1, 2018, are required to satisfy the Private Securities Offerings Representative prerequisite registration, including pass the SIE, and pass the General Securities Principal (Series 24) qualification examination.

        To lessen the administrative burden on firms from multiple registration submissions to the CRD system, FINRA is considering enhancements to the system to automatically register individuals as principals, including individuals registering as Investment Banking Principals, Research Principals, Securities Trader Principals and Private Securities Offerings Principals, based on a combination of their approved representative-level registrations and their principal-level qualification examination(s). Such automatic registrations will be subject to firm review. For instance, such an enhancement would enable the CRD system to automatically register an individual who is registered as a General Securities Representative and a Securities Trader as a General Securities Principal and a Securities Trader Principal upon his passing the General Securities Principal (Series 24) examination, subject to review by the firm with which the person is registered.

        Eliminated Representative-Level Registration Categories

        As part of the restructuring of the representative-level examinations, FINRA is eliminating several representative-level registration categories, and the related examinations, that have become outdated or have limited utility. Specifically, FINRA is eliminating the current registration categories of Order Processing Assistant Repr