Speaking Engagement - 2024 FINRA National Conference: Capital Markets and Crowdfunding

The 2024 FINRA Annual Conference offers insights from the regulators and industry experts on a number of emerging regulatory priorities. This year, Brandon Klerk, Founder of Halyard Compliance, joins FINRA Capital Markets and Funding Portal Member Regulation to discuss current capital markets considerations for Broker-Dealers and Funding Portals.

Crowdfunding Capital Raises - Considerations for Broker-Dealers & Funding Portals:

This session discusses aspects of Regulation CF and considerations for broker-dealers and funding portals within the crowdfunding industry. The purpose of the panel discussion is for attendees to gain knowledge on emerging regulatory risks and best practices broker-dealers and funding portals can implement to stay in compliance.

Sign up to attend in-person or virtually at FINRA.org. The panel discussion will take place Wednesday, May 15, in Washington D.C.

SEC Off Channel Communications Enforcement Update Broker-Dealers and Municipal Advisors

In remarks at April 3rd, 2023, SEC Speaks 2024 in Washington D.C., the SEC Deputy Director, Division of Enforcement explained the rationale that they SEC has used for determining penalties for Off Channel Communications for Broker-Dealers and Investment Advisors thus far, which includes the select remarks below.

Note that Municipal Advisors as well as Funding Portals are also subject to certain books and records keeping regulations where similar SEC enforcement considerations may be applied. Please contact us for more information.

“Perhaps as a result of that wide range in penalties, there has been a critique from the defense bar that we’re picking numbers at random; that they’re not informed by individualized determinations. I’m here to disabuse you all of that perception: stated simply, we do make an individualized assessment of each firm. I’ll share some of the factors we focus on:

• We consider the size of the firm to ensure that the penalties are adequate to serve as a deterrent against future violations. A penalty that may be adequate with one firm may not be adequate with another. That means we look at the firm’s revenues from the regulated parts of its business. We also look at the number of registered professionals at the firm.

• We consider the scope of the violations. How many individuals communicated off-channel? How many off-channel communications were there? But since we’re generally dealing with samples, not with the total numbers, there is not a strict correlation between these numbers and the penalty. Consideration of other factors may also result in a relatively larger or smaller recommended penalty.

• We take into consideration a firm’s efforts to comply with its recordkeeping obligations and to prevent off-channel communications, focusing, for example, on timely adoption of meaningful technological or other solutions.

• We consider precedent. The SEC has now issued 40 settled orders in these matters since December 2021. These precedents are a guide but are not determinative. They are part of an individualized determination; not a substitute for it.

• We also consider whether a firm self-reported. This is, in fact, the most significant factor in terms of moving the needle on penalties. From our prior actions, you can see how much we have credited those firms which have chosen to self-report, including the $2.5 million penalty I mentioned.[3]

• Finally, we consider cooperation. Firms that do not self-report can still receive credit based on their cooperation with ENF staff during our investigation. We’ll address what cooperation looks like during the panel discussion to follow.

• Those are some of the factors we consider when assessing what penalty to recommend in each action. While none of these is dispositive, I want to reiterate that self-reporting is the factor most likely to significantly lower the penalty we recommend.

  Those are some of the factors we consider when assessing what penalty to recommend in each action. While none of these is dispositive, I want to reiterate that self-reporting is the factor most likely to significantly lower the penalty we recommend.”

  -Deputy Director, Division of Enforcement April 3rd, 2024, Remarks at SEC Speaks 2024 in Washington D.C.

  [1] See Press Release, SEC, “SEC Announces Enforcement Results for Fiscal Year 2023” (Nov. 14, 2023), available at www.sec.gov/news/press-release/2023-234.

  [2] See Press Release, SEC, “Sixteen Firms to Pay More Than $81 Million Combined to Settle Charges for Widespread Recordkeeping Failures” (Feb. 9, 2024), available at www.sec.gov/news/press-release/2024-18; Press Release, SEC, “SEC Charges Two Credit Rating Agencies, DBRS and KBRA, with Longstanding Recordkeeping Failures” (Sept. 29, 2023), available at https://www.sec.gov/news/press-release/2023-211; Press Release, SEC, “SEC Charges 10 Firms with Widespread Recordkeeping Failures” (Sept. 29, 2023), available at www.sec.gov/news/press-release/2023-212; Press Release, SEC, “SEC Charges 11 Wall Street Firms with Widespread Recordkeeping Failures” (Aug. 8, 2023), available at www.sec.gov/news/press-release/2023-149; Press Release, SEC, “SEC Charges HSBC and Scotia Capital with Widespread Recordkeeping Failures” (May 11, 2023), available at www.sec.gov/news/press-release/2023-91; Press Release, SEC, “SEC Charges 16 Wall Street Firms with Widespread Recordkeeping Failures” (Sept. 27, 2022), available at https://www.sec.gov/news/press-release/2022-174; Press Release, SEC, “JPMorgan Admits to Widespread Recordkeeping Failures and Agrees to Pay $125 Million Penalty to Resolve SEC Charges” (Dec. 17, 2021), available at https://www.sec.gov/news/press-release/2021-262.

  [3] See Press Release, SEC, “SEC Charges 10 Firms with Widespread Recordkeeping Failures” (Sept. 29, 2023) (referencing $2.5 million civil penalty against Perella Weinberg), available at www.sec.gov/news/press-release/2023-212; see also Press Release, SEC, “SEC Charges HSBC and Scotia Capital with Widespread Recordkeeping Failures” (May 11, 2023), available at www.sec.gov/news/press-release/2023-91.

  [4] See Press Release, SEC, “SEC Sweep into Marketing Rule Violations Results in Charges Against Nine Investment Advisers” (Sept. 11, 2023), available at www.sec.gov/news/press-release/2023-173.

Please see the complete remarks here for additional information: https://www.sec.gov/news/speech/sanjay-wadhwa-sec-speaks-2024-04032024

Halyard Compliance & Crowdfunding Conference

Halyard Compliance is proud to again sponsor the SUPERCROWD24 Crowdfunding Conference 🌟.

Use the promo code HALYARD for 50% 💲 off tickets.

Securities Transaction Settlement Cycle Amendment

On May 28, 2024, the standard settlement cycle for most broker-dealer transactions in the U.S. shortens from two (2) business days after the trade date to one business day after the trade date (“T+1”). 

Broker-dealers should note that shortening the standard settlement cycle may impact on compliance with other existing regulatory obligations, including reducing the timeframes to effect the closeout of most types of fail-to-deliver positions under Rule 204 of Regulation SHO.

Additionally, shortening the standard settlement cycle to T+1 also shortens the timeframe for broker-dealers to comply with the requirements under Exchange Act Rule 10b-10 to give or send a written confirmation at or before completion of the transaction.

There are also compliance considerations related to these rule changes, which broker-dealers and market participants should consider.

Review the SEC Division of Examination’s Risk Alert here for more information:

https://www.sec.gov/files/risk-alert-tplus1-032724.pdf

Final Rule here:

https://www.sec.gov/files/rules/final/2023/34-96930.pdf

SEC and MSRB Registration of Municipal Advisors

Section 975 of the Dodd-Frank Wall Street Reform and Consumer Protection Act amended Section 15B of the Securities Exchange Act of 1934 (“Exchange Act”) to add a new requirement that “municipal advisors” register with the Securities and Exchange Commission (“Commission” or “SEC”), effective October 1, 2010.

The SEC issued final rules for Municipal Advisors (“MAs”) in January 2014 and have since provided guidance regarding requirements for registration with the SEC and MSRB. Some of the topics include:

• The General Information Exclusion from Advice versus Recommendations:

• Treatment of Business Promotional Materials Provided By Potential Underwriters Under the General Information Exclusion from Advice

• Indirect Advice

• Terms for the Purchase of Securities in a Principal Capacity

• Parameters and Formality of RFP/RFQ Process

• Use of Independent Registered Municipal Advisor Exemption

• Registered Municipal Advisor Serving in a General Capacity

• Representations about Independent Registered Municipal Advisors

• Independence of a Registered Municipal Advisor

• And much more…

Reach out to us for more information…

FINRA Publishes Crypto Asset Communications Industry Sweep Update

FINRA published its report regarding its industry sweep regarding (aka targeted examinations) crypto assets. FINRA has identified potential violations of FINRA Rule 2210 (Communications with the Public) in 70 percent of crypto asset communications it reviewed, according to a report it published.

FINRA’s Key Findings of the Sweep

The potential substantive violations of FINRA Rule 2210 include:

• Failure to clearly differentiate in communications, including those on mobile apps, between crypto assets offered through an affiliate of the member or another third party, and products and services offered directly by the member itself;

• False statements or implications that crypto assets functioned like cash or cash equivalent instruments;

• Other false or misleading statements or claims regarding crypto assets;

• Comparisons of crypto assets to other assets (e.g., stock investments or cash) without providing a sound basis to compare the varying features and risks of these investments;

• Unclear and misleading explanations of how crypto assets work and their core features and risks;

• Failure to provide a sound basis to evaluate crypto assets by omitting clear explanations of how crypto assets are issued, held, transferred or sold;

• Misrepresenting that the protections of the federal securities laws or FINRA rules applied to the crypto assets; and

• Misleading statements about the extent to which certain crypto assets are protected by the Securities Investor Protection Corporation under the Securities Investor Protection Act.

Read FINRA’s report here:

https://www.finra.org/rules-guidance/guidance/targeted-examination-letters/sweep-update-jan2024

Additional Resources

• Regulatory Notice 21-25 (FINRA Continues to Encourage Firms to Notify FINRA if They Engage in Activities Related to Digital Assets) 

• Regulatory Notice 20-23 (FINRA Encourages Firms to Notify FINRA if They Engage in Activities Related to Digital Assets) 

• 2024 Regulatory Oversight Report – Crypto Asset Developments

• 2024 Regulatory Oversight Report – Communications with the Public

• Communications with the Public section of the 2023 Report on FINRA’s Examination and Risk Monitoring Program  

• Member Application Program (MAP) Compliance Resources – Guidance for Digital Asset Applications

• FINRA’s Crypto Assets Topic Page

• FINRA’s FinTech Key Topic Page 

• FINRA Podcast – A Closer Look at Crypto: The Crucial Role of FINRA’s Crypto Asset Investigations (CAI) Team 

• FINRA Podcast – An Introduction to the Blockchain Lab 

• FINRA Podcast – An Introduction to FINRA’s Crypto Asset Work and the Crypto Hub 

• FINRA Blog – An Inside Look into FINRA’s Crypto Asset Work 

• FINRA Podcast – Membership Application Program: Reviewing and Approving Digital Asset Firms 

• FINRA Investor Alert: How to Avoid Cryptocurrency-Related Stock Scams (February 2023) 

• SIPC Bylaws 

• SIPC Official Brochure 

FINRA Funding Portals - FP Revenue Statement Due

FINRA Rule 300(e) requires Funding Portal members to report its gross revenue on Form FP-Statement of Revenue no later than 60 calendar days following each calendar year-end.  (Due March 1st.)

2024 FINRA Regulatory Oversight Report

FINRA’s 2024 Examination and Risk Monitoring Program

On January 9, 2024, FINRA published its 2024 FINRA Annual Regulatory Oversight Report (f.k.a. FINRA’s Examination and Risk Monitoring Program. FINRA intends this report provides member firms with its insights and observations regarding to help strengthen compliance programs of FINRA members firms.

New Topics for 2024 :

• Crypto Asset Developments

• OTC Quotations in Fixed Income Securities 

• Advertised Volume 

• Market Access Rule

Topics Include:

• Financial Crimes

  • Cybersecurity and Technology Management

  • Anti-Money Laundering, Fraud and Sanctions

  • Manipulative Trading

• Crypto Asset Developments 

• Firm Operations

  • Outside Business Activities and Private Securities Transactions

  • Books and Records

  • Regulatory Events Reporting

  • Trusted Contact Persons

  • Crowdfunding Offerings: Broker-Dealer and Funding Portals

• Communications and Sales

  • Communications with the Public

  • Reg BI and Form CRS

  • Private Placements

  • Variable Annuities

• Market Integrity

  • Consolidated Audit Trail (CAT)

  • Best Execution

  • Disclosure of Routing Information

  • Regulation SHO – Bona Fide Market Making Exemptions

  • Fixed Income – Fair Pricing

  • OTC Quotations in Fixed Income Securities 

  • Advertised Volume 

  • Market Access Rule

• Financial Management

  • Net Capital

  • Liquidity Risk Management

  • Credit Risk Management

  • Portfolio Margin and Intraday Trading

  • Segregation of Assets and Customer Protection

• Appendix – Using FINRA Reports in Your Firm’s Compliance Program

You may review the report here:

https://www.finra.org/rules-guidance/guidance/reports/2024-finra-annual-regulatory-oversight-report

FINRA Releases Reg CF FAQs

FINRA Reg CF - Frequently Asked Questions (FAQs) on Regulation Crowdfunding

On December 20, 2023 FINRA published a set of FAQs on Regulation Crowdfunding for the guidance of FINRA members. The FAQs addressed the following topics.

Who Can Engage in Regulation Crowdfunding Transactions?

Q1. Who can offer or sell securities under Regulation Crowdfunding?

Q2. My firm is a registered broker-dealer and a member of FINRA.  We want to begin making Regulation Crowdfunding offerings available on our platform to our customers.  Do we have to notify FINRA? 

Q3. Is it permissible for an issuer to conduct a Regulation Crowdfunding offering on its own website? What if the issuer’s website says that my firm is the intermediary for the offering?

Testing the Waters

Q4. What are “testing the waters” communications?  Who is allowed to “test the waters” for investor interest in a potential offering under Regulation Crowdfunding? 

Q5. Can an intermediary “test the waters” for investor interest in an offering?  

Public Availability of Information

Q6. After the Form C offering statement is filed with the SEC, is it permissible for an intermediary to make information about a Regulation Crowdfunding offering available only via a private link or private web page that is not publicly accessible to all viewers of the intermediary’s platform? 

Highlighting Offerings

Q7. Is it permissible for a funding portal to highlight specific Regulation Crowdfunding offerings on its platform using terms such as “Hot this week,” “Almost Sold Out,” “Invest Now!,” “Last Chance,” or “Don’t miss this opportunity,” or similar terminology?

You can view the FINRA FAQs here: https://www.finra.org/registration-exams-ce/funding-portals/faq-regulation-crowdfunding

Funding Portals and Crowdfunding Offerings - 2023 Report on FINRA’s Examination and Risk Monitoring Program

Regulatory Obligations and Related Considerations

Regulatory Obligations

Title III of the Jumpstart Our Business Startups (JOBS) Act enacted in 2012 contains provisions relating to securities offered or sold through crowdfunding. The SEC’s Regulation Crowdfunding and FINRA's corresponding set of Funding Portal Rules set forth the principal requirements that apply to funding portal members. Funding portals must register with the SEC and become a member of FINRA. Broker-dealers contemplating engaging in the sale of securities in reliance on Title III of the JOBS Act must notify FINRA in accordance with FINRA Rule 4518 (Notification to FINRA in Connection with the JOBS Act).

Regulation Crowdfunding imposes certain gatekeeper responsibilities on intermediaries (i.e., both funding portals and broker-dealers that engage in Regulation Crowdfunding transactions). Rule 301(a) under Regulation Crowdfunding provides in part that an intermediary must have a reasonable basis for believing that an issuer seeking to offer and sell securities through the intermediary’s platform complies with the requirements of Regulation Crowdfunding. Furthermore, Rule 301(c)(2) requires an intermediary to deny access to its platform if it has a reasonable basis for believing the issuer or the offering presents the potential for fraud or otherwise raises concerns about investor protection.

Additionally, Rule 404 under Regulation Crowdfunding imposes certain recordkeeping requirements on funding portals. (Broker-dealer members that engage in Regulation Crowdfunding transactions are subject to the full recordkeeping requirements under Exchange Act Rules 17a-3 and 17a-4, as well as FINRA Rule 3110(b) and the 4510 Rule Series.) Rule 404 requires funding portal members to maintain certain books and records relating to their funding portal activities. Using a third party to prepare and maintain records on behalf of a funding portal does not relieve the funding portal of its recordkeeping responsibilities.

Findings

• Failure to Obtain Attestation: Not obtaining the attestation required by Regulation Crowdfunding Rule 404 when using a third-party vendor to store the required records.

• Missing Disclosures: Offerings on the platform do not contain all required disclosures as codified in Regulation Crowdfunding, in particular:

  • names of officers and directors of the issuer, and the positions these individuals held for the past three years;

  • descriptions of the purpose and intended use of proceeds, the process to complete the offering transaction or cancel an investment commitment, the ownership and capital structure, the material terms of any indebtedness of the issuer; and

  • financial statements, as required by Regulation Crowdfunding Rule 201(t).

• Failure to Report Customer Complaints: Not reporting written customer complaints, as required by Funding Portal Rule 300(c).

• Untimely Required Filings: Not making required filings in a timely manner—such as filing the funding portal’s Statement of Gross Revenue by the deadline of March 1—and not filing updates or changes to contact information within 30 days of the change.

• Not Filing CMAs: Funding portals effecting changes in ownership without obtaining prior approval from FINRA, as required by Funding Portal Rule 110(a)(4).

• Offering Investment Advice or Recommendations; Soliciting Purchases, Sales or Offers: Sending electronic correspondence to customers that recommended investments or otherwise solicited purchases of securities, thereby violating the prohibitions under Regulation Crowdfunding Rule 402(a) against funding portals engaging in such activity.  

• Misleading Statements: Failing to correct misleading statements that appeared on funding portals’ websites for offerings on their platforms.

• Failing to Transmit Funds: Failing to promptly direct the transmission of funds to the issuers upon the successful completion of the offerings or to return funds to investors upon cancellation of the offerings or in the event of oversubscription.

• Failing to Take Measures to Reduce Risk of Fraud: Not denying issuers or offerings access to funding portals’ platforms, after funding portals had become aware of warning signs of potentially fraudulent activity during the onboarding process and during issuers’ campaigns.

• Effective Practices

  • Compliance Resources: Developing annual compliance questionnaires to verify the accuracy of associated persons’ disclosures, including follow-up questions (such as whether they have ever filed for bankruptcy, have any pending lawsuits, are subject to unsatisfied judgments or liens or received any written customer complaints), as well as compliance checklists and schedules to confirm that required obligations are being met in a timely manner, such as providing all issuer disclosure requirements of Regulation Crowdfunding Rule 201.

  • Supervision: Implementing supervisory review procedures tailored to funding portal communications requirements that, for example, clearly define permissible and prohibited communications and identify whether any contemplated structural or organizational changes necessitate the filing of a CMA.

  Source: https://www.finra.org/rules-guidance/guidance/reports/2023-finras-examination-and-risk-monitoring-program/funding-portal-crowdfunding

2024 SEC Examination Priorities Report: Municipal Advisors

U.S. Securities and Exchange Commission (SEC) Division of Examinations (EXAMS or Division) issued its annual examination priorities, which, for the first time, was published at the start of the SEC’s fiscal year to “better inform investors and registrants of key risks, trends, and examination topics” the Division intends to focus on in the coming year.

As related to Municipal Advisors, the 2024 Examination Priorities include:

Examinations will continue to review whether municipal advisors have met their fiduciary duty obligation to clients, particularly when providing advice regarding the pricing, method of sale, and structure of municipal securities. Examiners will review whether municipal advisors are complying with their obligations to document municipal advisory relationships and disclose conflicts of interest and requirements related to registration, professional qualification, continuing education, recordkeeping, and supervision.

New MSRB Rule G-46, which becomes effective on March 1, 2024, is designed to establish the core standards of conduct for solicitor municipal advisors, which include disclosure of conflicts of interest and documentation of client relationships, among other things. Examinations of solicitor municipal advisors during the second half of fiscal year 2024 will focus on compliance with new MSRB Rule G-46.

New MSRB Rule G-46, which becomes effective on March 1, 2024, is designed to establish the core standards of conduct for solicitor municipal advisors, which include disclosure of conflicts of interest and documentation of client relationships, among other things.

Ref: https://www.sec.gov/files/2024-exam-priorities.pdf

2024 SEC Examination Priorities Report: Broker-Dealers

U.S. Securities and Exchange Commission (SEC) Division of Examinations (EXAMS or Division) issued its annual examination priorities, which, for the first time, was published at the start of the SEC’s fiscal year to “better inform investors and registrants of key risks, trends, and examination topics” the Division intends to focus on in the coming year.

As related to Broker-Dealers, the 2024 Examination Priorities include:

• Crypto assets and new technology

• Security, resilience, and systems integrity for registrants and markets,

• Anti-money-laundering (AML) for broker-dealers and other financial institutions, specifically including compliance with Office of Foreign Asset Control (OFAC) sanctions (including for advisers);

• Recommended products, including complex, high-cost, illiquid, proprietary, or microcap securities;

• Adequacy of Written Supervisory Procedures (WSPs);

• Financial controls and related policies and procedures;

  Reg BI and Form CRS

  • Recommendations with regard to products, investment strategies, and account types

  • Form CRS, including the relationships and services that it offers to retail customers, fees and costs, conflicts of interest, and disciplinary history;

  • Conflicts of interest mitigation and avoidance procedures;

  • Processes for reviewing reasonably available alternatives

  • Factors considered in light of the investor’s investment profile, including investment goals and account characteristics

  • Obligations to file Form CRS with the SEC and deliver it to retail customers

Ref: https://www.sec.gov/files/2024-exam-priorities.pdf

Reporting of Securities Loans

The long story, short is…

• The SEC is issuing new securities loan reporting requirements, which includes reporting of terms and modifications

• Daily reporting by lenders (“covered persons”) and publication by FINRA, which is intended to increase market transparency

The Securities and Exchange Commission (“SEC” or “Commission”) is adopting a new rule under the Securities Exchange Act of 1934 (“Exchange Act”) to increase the transparency and efficiency of the securities lending market by requiring certain persons to report information about securities loans to a registered national securities association (“RNSA”).

The new rule also requires certain confidential information to be reported to an RNSA to enhance an RNSA’s oversight and enforcement functions. Further, the new rule requires that an RNSA make certain information it receives, along with daily information pertaining to the aggregate transaction activity and distribution of loan rates for each reportable security, available to the public.

Reference: https://www.sec.gov/files/rules/final/2023/34-98737.pdf

SEC Final Rule: Short Sales & Investment Managers

The long story, short is….

• This rule applies to institutional investment managers that meet or exceed certain specified reporting thresholds are required to report

• There are new short sale reporting requirements under new Rule 13f-2 and new Form SHO

• Under the rule the SEC will aggregate data and publish it in an effort to increase market transparency, which is intended to fill an existing data gap

The Securities and Exchange Commission (“Commission”) is adopting new Rule 13f-2 and new Form SHO pursuant to the Securities Exchange Act of 1934 (“Exchange Act”) and the Dodd-Frank Wall Street Reform and Consumer Protection Act (“DFA”).

The new rule and related form are designed to provide greater transparency through the publication of short sale-related data to investors and other market participants.

Under the new rule, institutional investment managers that meet or exceed certain specified reporting thresholds are required to report, on a monthly basis using the related form, specified short position data and short activity data for equity securities.

In addition, the Commission is adopting an amendment to the national market system (“NMS”) plan governing the consolidated audit trail (“CAT”) created pursuant to the Exchange Act to require the reporting of reliance on the bona fide market making exception in the Commission’s short sale rules. The Commission is publishing the text of the amendments to the NMS plan governing the CAT (“CAT NMS Plan”) in a separate notice.

Reference: https://www.sec.gov/files/rules/final/2023/34-98738.pdf

SEC Announces 2024 Priorities for Municipal Advisors

Washington D.C., Oct. 16, 2023 —

The Securities and Exchange Commission’s Division of Examinations today released its 2024 examination priorities to inform investors and registrants of the key risks, examination topics, and priorities that the Division plans to focus on in the upcoming year. This year’s examinations will prioritize areas that pose emerging risks to investors or the markets in addition to core and perennial risk areas.

Municipal Advisors

A. Municipal Advisor Examinations

Examinations will continue to review whether municipal advisors have met their fiduciary duty obligation to clients, particularly when providing advice regarding the pricing, method of sale, and structure of municipal securities. Examiners will review whether municipal advisors are complying with their obligations to document municipal advisory relationships and disclose conflicts of interest and requirements related to registration, professional qualification, continuing education, recordkeeping, and supervision.

New MSRB Rule G-46, which becomes effective on March 1, 2024, is designed to establish the core standards of conduct for solicitor municipal advisors, which include disclosure of conflicts of interest and documentation of client relationships, among other things.

Examinations of solicitor municipal advisors during the second half of fiscal year 2024 will focus on compliance with new MSRB Rule G-46.

https://www.sec.gov/files/2024-exam-priorities.pdf

SEC Announces 2024 Priorities for Broker-Dealers

Washington D.C., Oct. 16, 2023 —

The Securities and Exchange Commission’s Division of Examinations today released its 2024 examination priorities to inform investors and registrants of the key risks, examination topics, and priorities that the Division plans to focus on in the upcoming year. This year’s examinations will prioritize areas that pose emerging risks to investors or the markets in addition to core and perennial risk areas.

Broker-Dealers:

A. Regulation Best Interest

Regulation Best Interest establishes the standard of conduct for broker-dealers at the time they recommend to a retail customer a securities transaction or investment strategy. When making such a recommendation, a broker-dealer must act in the retail customer’s best interest and cannot place the financial or other interest of the broker-dealer ahead of the customer’s interest. This obligation is satisfied only if the broker-dealer complies with the following specified component obligations: (1) providing certain required disclosure, before or at the time of the recommendation, about the recommendation and the relationship between the retail customer and the broker-dealer (Disclosure Obligation); (2) exercising reasonable diligence, care, and skill in making the recommendation (Care Obligation); (3) establishing, maintaining, and enforcing policies and procedures reasonably designed to address conflicts of interest (Conflict of Interest Obligation); and (4) establishing, maintaining, and enforcing policies and procedures reasonably designed to achieve compliance with Regulation Best Interest (Compliance Obligation).

In reviewing whether broker-dealer recommendations are in customers’ best interest, areas of particular interest will include: (1) recommendations with regard to products, investment strategies, and account types; (2) disclosures made to investors regarding conflicts of interest; (3) conflict mitigation practices; (4) processes for reviewing reasonably available alternatives; and (5) factors considered in light of the investor’s investment profile, including investment goals and account characteristics. Examinations will focus on those recommended products that are: (1) complex, such as derivatives and leveraged ETFs; (2) high cost, such as variable annuities; (3) illiquid, such as nontraded REITs and private placements; (4) proprietary; and (5) microcap securities. Examinations may also focus on recommendations to certain types of investors, such as older investors and those saving for retirement or college.

B. Form CRS

The Division’s examinations will review the content of a broker-dealer’s relationship summary, such as how the broker-dealer describes: (1) the relationships and services that it offers to retail customers; (2) its fees and costs; and (3) its conflicts of interest, and whether the broker-dealer discloses any disciplinary history. These examinations will also evaluate whether broker-dealers have met their obligations to file their relationship summary with the Commission and deliver their relationship summary to retail customers. C. Broker-Dealer Financial Responsibility Rules Examinations will focus on broker-dealer compliance with the Net Capital Rule and the Customer Protection Rule and related internal processes, procedures and controls. Areas of review will include fully paid lending programs and broker-dealer accounting for certain types of liabilities, such as reward programs, point programs, gift cards and non-brokerage services, and will also assess broker-dealer credit, interest rate, market, and liquidity risk management controls to assess whether broker-dealers have sufficient liquidity to manage stress events. D. Broker-Dealer Trading Practices Examinations will cover broker-dealer equity and fixed income trading practices. In particular, examinations will review compliance with: (1) Regulation SHO, including the rules regarding aggregation units and locate requirements; (2) Regulation ATS, and whether the operations of alternative trading systems are consistent with the disclosures provided in Forms ATS and ATS-N; and (3) Exchange Act Rule 15c2-11.

C. Broker-Dealer Financial Responsibility Rules

Examinations will focus on broker-dealer compliance with the Net Capital Rule and the Customer Protection Rule and related internal processes, procedures and controls. Areas of review will include fully paid lending programs and broker-dealer accounting for certain types of liabilities, such as reward programs, point programs, gift cards and non-brokerage services, and will also assess broker-dealer credit, interest rate, market, and liquidity risk management controls to assess whether broker-dealers have sufficient liquidity to manage stress events.

D. Broker-Dealer Trading Practices

Examinations will cover broker-dealer equity and fixed income trading practices. In particular, examinations will review compliance with: (1) Regulation SHO, including the rules regarding aggregation units and locate requirements; (2) Regulation ATS, and whether the operations of alternative trading systems are consistent with the disclosures provided in Forms ATS and ATS-N; and (3) Exchange Act Rule 15c2-11. During examinations of wholesale market makers, examinations may include quote generation, order routing and execution practices, market data ingestion, regulatory controls, and risk management.

https://www.sec.gov/files/2024-exam-priorities.pdf

SEC Risk Alert: Broker-Dealers Anti-Money Laundering Compliance

SEC Risk Alert: Observations from Anti-Money Laundering Compliance Examinations of Broker-Dealers

Observations from Anti-Money Laundering Compliance Examinations of Broker-Dealers

Today the Division of Examinations published a Risk Alert presenting examination observations about key AML requirements. It reiterates the critical importance of AML compliance to the Commission and law enforcement’s pursuit of misconduct that could threaten the safety of investor assets and the integrity of the financial markets.

The Risk Alert presents examination observations about key AML requirements, such as independent testing of firms’ AML programs and training of their personnel, and identification and verification of customers and their beneficial owners.

Broker-dealers are required to implement and maintain a written AML program, approved in writing by senior management, that includes, at a minimum:

• policies, procedures, and internal controls reasonably designed to achieve compliance with the Bank Secrecy Act (BSA)5 and the implementing regulations thereunder;

• policies and procedures that can be reasonably expected to detect and cause the reporting of transactions under 31 U.S.C. § 5318(g) and the implementing regulations thereunder;

• the designation of an AML compliance officer responsible for implementing and monitoring the operations and internal controls of the program (including notification to FINRA);

• ongoing employee AML training;

• an independent test of the firm’s AML program, annually for most firms; and

• appropriate risk-based procedures for conducting ongoing CDD. These should include, but not be limited to, procedures to: (1) understand the nature and purpose of customer relationships to be able to develop a risk profile, and (2) conduct ongoing monitoring to identify and report suspicious transactions as well as maintain and update customer information, including beneficial ownership information for legal entity customers.

View the Risk Alert:  Observations from Anti-Money Laundering Compliance Examinations of Broker-Dealers. https://www.sec.gov/files/risk-alert-aml-compliance-examinations-bd-073123.pdf

SEC Charges Broker-Dealers with Widespread Recordkeeping Failures

Washington D.C., Aug. 8, 2023 —

The Securities and Exchange Commission today announced charges against 10 firms in their capacity as broker-dealers and one dually registered broker-dealer and investment adviser for widespread and longstanding failures by the firms and their employees to maintain and preserve electronic communications. The firms admitted the facts set forth in their respective SEC orders. They acknowledged that their conduct violated recordkeeping provisions of the federal securities laws, agreed to pay combined penalties of $289 million as outlined below, and have begun implementing improvements to their compliance policies and procedures to address these violations.

….

The SEC’s investigation uncovered pervasive and longstanding “off-channel” communications at all 11 firms. As described in the SEC’s orders, the firms admitted that from at least 2019, their employees often communicated through various messaging platforms on their personal devices, including iMessage, WhatsApp, and Signal, about the business of their employers. The firms did not maintain or preserve the substantial majority of these off-channel communications, in violation of the federal securities laws. By failing to maintain and preserve required records, certain of the firms likely deprived the Commission of these off-channel communications in various SEC investigations. The failures involved employees at multiple levels of authority, including supervisors and senior executives.

https://www.sec.gov/news/press-release/2023-149

FINRA Regulatory Notice 23-08 and Selling Private Placements

Part I of this Notice provides an overview of developments in the unregistered offering market generally. Part II discusses members’ regulatory requirements when participating in private placements. It focuses primarily on members’ critical role, when recommending private placements, in performing reasonable investigations under the reasonable basis obligations of Reg BI, the suitability rule and caselaw interpreting the antifraud provisions of the federal securities laws. Part II also examines key member obligations applicable to private placement activity irrespective of whether recommendations are involved. For instance, Part II discusses FINRA’s filing requirements for private placement memoranda (PPMs) and related documents, as well as FINRA’s communications with the public and supervision rules, including the duty to investigate and act upon “red flags” revealing irregularities or potential misconduct.

Here are the highlights of this Notice:

• Best Interest and Suitability Requirements: Applicable When Recommending Private Placements

• FINRA Rule 2111 - Reasonable Basis Obligations and the Duty to Conduct a Reasonable Investigation

• Resasonable Investigations & Background Checks

• FINRA Rule 2111 and Recommendations of Securities

• Reg BI and Disclosures of Conflicts of Interest

• Communications with the Publiic - FINRA Rule 2210 and when a member firm prepares offering materials

• Form Filings - FINRA Rule 5122 and 5123, FINRA requires members to submit a form that contains information about the member selling the private placement securities, the issuer and the offering terms as well as any offering documents, if applicable, electronically through the FINRA Gateway (the Filer Form).

• Supervision - FINRA Rule 3110, a member must establish and maintain a system to supervise the activities of each associated person, and must 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 with FINRA rules.

Read the full Notice here: https://www.finra.org/rules-guidance/notices/23-08

Online Capital Raising - FINRA Request for Comment

Regulatory Notice 23-09

FINRA Requests Comment on FINRA Rules Impacting Capital Formation

FINRA is requesting comment on a range of topics related to current FINRA rules impacting online capital formation and the fintech industry, including rules related to Regulation D, Regulation A and more. These topics include, but are not limited to the following:

• Regulation A and FINRA Rule 5110

• Projections of Performance under FINRA Rule 2210 (Communications with the Public)

• Capital Acquisition Brokers (CABs)

• Settlement of Syndicate Accounts (FINRA Rule 11880)

• Restrictions on the Purchase and Sale of Initial Equity Public Offerings (FINRA Rule 5130) and New Issue Allocations and Distributions (FINRA Rule 5131)

• Filings of Private Placements (FINRA Rules 5122 and 5123)

• Corporate Financing Rule – Underwriting Terms and Arrangements (FINRA Rule 5110) and FINRA’s Public Offering System

• Communications with the Public (FINRA Rule 2210) and Research Analysts and Research Reports (FINRA Rule 2241)

You can read more here: https://www.finra.org/rules-guidance/notices/23-09