SEC Issues Relief from Certain Financial Responsibility Rule Requirements

by Morgan Lewis

In two separate letters, the SEC staff addresses operational concerns raised by broker-dealers in connection with sweep program authorizations and the use of certain nonaffiliated U.S. branches of foreign banks.

On February 26, the Securities and Exchange Commission (SEC) staff issued two no-action letters that provide broker-dealers with relief from certain of the financial responsibility rule amendments adopted on July 30, 2013.[1] The first letter provides temporary relief in connection with the disclosure, notice, and consent requirements for sweep programs (the Sweep Program Letter).[2] Firms that comply with the terms of the Sweep Program Letter are eligible for certain temporary relief until March 3, 2015. The second letter provides relief in connection with the use of nonaffiliated U.S. branches of foreign banks to deposit cash for the purposes of the customer and proprietary securities account of a broker-dealer (PAB) account reserve requirements (the Reserve Bank Letter).[3] The relief in the Reserve Bank Letter is only available in circumstances where there is an exemptive application pending with the SEC on or before March 3, 2014. Both letters are discussed in more detail below.

Sweep Program Letter

Rule 15c3-3(j)(2)(ii) under the Securities Exchange Act of 1934 (Exchange Act) establishes customer disclosure, notice, and affirmative consent requirements for programs where a customer’s free credit balances in a securities account are “swept” into a money market mutual fund or an account at a bank whose deposits are insured by the Federal Deposit Insurance Corporation. Under the rule, for accounts opened on or after March 3, 2014, a broker-dealer may transfer free credit balances held in a customer’s securities account into a product in the broker-dealer’s sweep program if the broker dealer has received the customer’s affirmative written consent after having notified the customer of (1) the general terms and conditions of the products available through the broker-dealer’s sweep program and (2) that it may change the products available in the sweep program.

The letter requesting the relief indicated that strict compliance with the rule’s requirements would be operationally difficult and often contrary to a customer’s expressed preference. In light of these difficulties, the SEC staff will not recommend enforcement action to the SEC against a broker-dealer that does not obtain prior written consent to include a customer’s free credit balances in a sweep program if the following criteria are met:

  1. The customer instead provides affirmative verbal consent to have his or her free credit balances included in a sweep program and the broker-dealer otherwise complies with the requirements of Rule 15c3-3(j)(2)(ii). In obtaining verbal consent, however, a broker-dealer still has to notify the customer (i) of the general terms and conditions of the products available through the sweep program and (ii) that the broker-dealer may change the products available under the sweep program prior to receipt of the customer’s consent.
  2. The customer specifically consents to having his or her free credit balances being included in the broker-dealer’s sweep program even though the customer has not yet executed the account agreement or otherwise provided written consent.
  3. The broker-dealer documents at the time of account opening that the broker-dealer has obtained the affirmative consents noted in items (1) and (2) above.
  4. The broker-dealer establishes a process that is reasonably designed to obtain the customer’s written consent no later than 90 calendar days after account opening and, if such written consent has not been obtained, to stop including free credit balances in the broker-dealer’s sweep program.

The relief under the Sweep Program Letter expires on March 3, 2015.

Reserve Bank Letter

Exchange Act Rule 15c3-3(e)(5) places limitations on those banks with which a broker-dealer can deposit cash to meet its customer or PAB account reserve requirements under Rule 15c3-3(e). The rule limits the amount of cash a broker-dealer can deposit with a nonaffiliated bank to 15% of that bank’s equity capital as reported by the bank in its most recent Call Report. Because U.S. branches of foreign banks do not report equity capital in their Call Reports, this inconsistency could prevent broker-dealers that use U.S. branches of foreign banks from being able to meet their reserve requirements. In recognition of this concern, the SEC stated in the Financial Responsibility Rules Amendments that it would consider requests for exemptive relief from broker-dealers that wished to hold cash in reserve accounts at U.S. branches of foreign banks.

As mentioned in the Reserve Bank Letter, the SEC is reviewing and evaluating exemptive requests from certain foreign banks on behalf of broker-dealers that maintain reserve accounts at the foreign bank’s U.S. branch. Recognizing the potential issues that could arise if broker-dealers are forced to move deposits before the SEC takes action on these exemptive requests, the Reserve Bank Letter permits a broker-dealer, in determining whether it maintains the minimum deposits required under Rule 15c3-3(e), to include cash held in a reserve account at a nonaffiliated U.S. branch of a foreign bank. This relief is subject to the following two conditions:

  • The foreign bank has an exemptive request pending with the SEC on or before March 3, 2014 with respect to its U.S. branch.
  • The broker-dealer uses the foreign bank’s equity capital, as reported in the foreign bank’s most recent financial statements, to calculate the 15% bank equity capital threshold under Rule 15c3-3(e), on or after March 3, 2014.


While the Reserve Bank Letter provides needed relief in connection with an issue that could have caused significant operational disruptions for some broker-dealers, the narrow universe of broker-dealers that can rely on the relief (i.e., those with pending exemptive applications at the SEC), coupled with the short notice the SEC staff provided regarding the relief, could result in broker-dealers otherwise missing an opportunity to avail themselves of the relief. The late notice may have caused a number of broker-dealers to have already transferred accounts away from U.S. branches of foreign banks to ensure compliance with the March 3, 2014 deadline, even where an exemptive application had been filed with the SEC. In any event, for those broker-dealers who can avail themselves of the relief, they should be sure to review the financial statements of the bank, and not those of the bank’s holding company, when calculating the 15% threshold.

In connection with the Sweep Program Letter, broker-dealers will have to develop operational controls to ensure that registered representatives notify customers regarding the general terms and conditions of products available through the sweep program. In addition, broker-dealers will have to maintain appropriate books and records reflecting the verbal notifications that registered representatives provide to customers as well as the verbal authorization provided by the customer. Further, while the one-year reprieve from compliance with the full scope of Rule 15c3-3(j)(2)(ii) provides broker-dealers with much-needed breathing room, it is unclear whether the operational concerns that prompted the issuance of the letter will be fully resolved by March 3, 2015. In this regard, the SEC and its staff may have three options: (1) permit the letter to expire without further action, (2) reissue the letter, or (3) amend Rule 15c3-3(j)(2)(ii). We will continue to monitor the situation for any further updates.

[1]. See Financial Responsibility Rules for Broker-Dealers, Release No. 34-70072, 78 Fed. Reg. 51,824 (Aug. 21, 2013), available here [hereinafter Financial Responsibility Rules Amendments]. For more information on the Financial Responsibility Rules Amendments, see our August 27, 2013 LawFlash, “SEC Amends Financial Responsibility Rules for Broker-Dealers,” available here. The Financial Responsibility Rules Amendments were originally scheduled to take effect on October 21, 2013. However, on October 17, 2013, the SEC issued an order providing a temporary exemption for broker-dealers from certain of the Financial Responsibility Rules Amendments until March 3, 2014. For more information on the order, see our October 18, 2013 LawFlash, “Temporary Exemption from Certain SEC Financial Responsibility Rules Amendments,” available here. With the exception of the relief provided in the letters, we understand that the temporary exemptions are otherwise set to expire as scheduled.

[2]. View the Sweep Program Letter here.

[3]. View the Reserve Bank Letter here.


DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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