Broker-dealers chapter recap

Ch 4-4 Exam Essentials — Regulation of Broker-Dealers

Definition (USA §401). A BD is a person engaged in the business of effecting securities transactions for others (broker) or for its own account (dealer). Most BDs are firms, and an individual who represents a BD or issuer is an agent — but an individual acting as a sole proprietor may be a BD.

Exclusions. Agents, issuers, banks/trust companies in banking capacity, and the no-place-of-business + limited-clientele exclusion (BDs, institutional investors, existing customers temporarily in state).

Place of business. Any location at which the firm regularly conducts business OR is publicly held out as a business address. Even one in-state retail customer defeats the no-place-of-business exclusion.

Federal vs state (SEA §15 + USA §201). Federal registration for interstate-commerce BDs (SEC + FINRA membership). State registration in each state of business or with state-resident clients. Same Form BD covers both.

Form BD. Filed through CRD. Identifying info, control affiliates, disclosure questions, jurisdictions sought. Amendments "promptly" for material changes.

USA §202(a) effectiveness. Becomes effective at noon on the 30th day after filing unless administrator denies, issues stop order, or accelerates.

Net capital (SEC 15c3-1). $250K carrying / $100K market maker / $50K introducing / $5K limited. Aggregate indebtedness limit: 6 2/3%. Below minimum → cease operations + notify.

Customer protection (SEC 15c3-3). Customer Reserve Bank Account (weekly/monthly reserve formula); possession or control of customer securities (segregation). Loan consent agreement authorizes lending.

SIPC. $500K total / $250K cash per customer per capacity. Covers insolvency, NOT market loss. Mandatory for SEC-registered BDs holding customer accounts.

Withdrawal/denial/suspension/revocation (USA §204). Voluntary withdrawal effective in 30 days unless administrator acts. Denial/suspension/revocation requires prior notice, opportunity for hearing, and written findings (§204(f)); the 15-day set-down is the summary-order rule.

BD types. Introducing ($50K), clearing/carrying ($250K), market maker ($100K + formula).

Supervision (FINRA 3110). WSPs, principal designations, OSJ designations, annual compliance meeting, CEO certification. OSJ inspections annual; non-OSJ branches every 3 years.

Records. Customer accounts 6 years (2 easily accessible). Order tickets, confirms, 2210 comms 3 years. Org documents lifetime + 2 years. FOCUS reports periodic; X-17A-5 Part III annual.

BD-regulation exam traps — consolidated

1. "Only a firm can be a broker-dealer." False — most BDs are firms, but an individual acting as a sole proprietor can be a BD. An individual who represents a BD or issuer is an agent.
2. "A bank effecting securities trades is excluded from BD registration." Only when acting within its banking capacity. The Gramm-Leach-Bliley push-out provisions limit how much securities activity a bank can conduct without registering a separate BD.
3. "An out-of-state BD with one in-state retail customer can use the no-place-of-business exclusion." Wrong. Any in-state retail customer defeats the exclusion regardless of the rest of the clientele.
4. "State registration replaces federal registration." Wrong. They are parallel regimes; federal registration (SEC + FINRA) and state registration each apply where their triggers are met.
5. "Form BD becomes effective on the day filed." Wrong. Effectiveness is at noon on the 30th day unless accelerated.
6. "SIPC insures against market losses." Wrong. SIPC is insolvency protection — it pays customer claims when a BD fails. It does not guarantee returns or protect against decline in value.
7. "Net capital minimum is the same for all BDs." Wrong. $250K carrying / $100K market maker / $50K introducing / $5K limited. The activity drives the requirement.
8. "A BD below net capital can keep operating while it raises capital." Wrong. Below minimum → immediate cessation of operations + immediate notification to SEC/FINRA.
9. "BD withdrawal is immediate." Wrong. 30 days; the administrator may institute proceedings during the window.
10. "OSJ offices and non-OSJ branches are inspected on the same schedule." Wrong. OSJ at least annual; non-OSJ branches at least every 3 years.
11. "Customer Reserve Bank Account is computed monthly for all BDs." Wrong. Most carrying firms compute it weekly; some small firms qualify for monthly. Computation frequency is driven by size.
12. "FINRA Rule 3110 supervision applies only to introducing firms." Wrong. Rule 3110 applies to every FINRA member BD, regardless of business model. Specific obligations scale with firm size and activity.