Last month, the Securities and Exchange Commission (SEC) approved a new set of rules proposed by the Financial Industry Regulatory Authority (FINRA) intending to consolidate and simplify qualification and registration requirements for registered representatives. These rules have been long in the making by FINRA, which first filed the proposed rule change with the SEC on March 28, 2017. After publication in the Federal Register for comment on April 10, 2017, the SEC approved them on June 26, 2017. The new consolidated registration rules appear in FINRA Rules 1210, 1220, 1230 and 1240 and they become effective on October 1, 2018. FINRA announced these rules in the form of Regulatory Notice 17-30 (the “Notice”). Beginning on this date, registered representatives and principals and individuals desiring to register as such will be subject to a new regime.
The new rules make the following changes for former, current and future registered representatives:
- Introduces a new two-tier exam qualification process that requires both a general knowledge exam and a specialized knowledge exam;
- Expands the permissive registration categories such that more individuals associated with a firm, regardless of their job function, may apply to become a registered representative;
- Requires broker-dealer firms to designate one Principal Financial Officer and at least one Principal Operations Officer with primary responsibility for financial filings and day-to-day operations, respectively;
- Creates several new principal registration categories including Compliance Officer, Investment Banking Principal, and Private Securities Offering Principal; and
- Establishes a waiver program which grants waivers from requalification requirements for eligible individuals.
Securities Industries Essentials (“SIE”) Exam and Specialized Knowledge Exam
FINRA has reconfigured qualification exams into a two-tiered approach. Starting on October 1, 2018, new representative-level applicants are required to pass both the newly created SIE Exam and a specialized knowledge exam. The SIE Exam is a general knowledge exam that tests topics such as fundamental securities-related knowledge, basic products, regulatory agencies and their functions, and regulated and prohibited practices. The specialized knowledge exam is a qualification exam appropriate to the applicant’s job function at the firm with which they are associated before his or her registration can become effective, such as the Series 7 Exam (General Securities Representative exam). This two-tier exam approach also applies to a principal-level registration applicant seeking the representative-level registration as a pre-requisite. Any individual may take the SEI Exam, but must be associated with a broker dealer firm and pass a specialized test in order to become a registered representative or a principal.
Certain former and current representatives will enjoy “grandfathered” status and be deemed to have passed the SIE Exam. The Notice contains several examples about how the new system applies to former and current representatives and to new applicants.
Expanded Permissive Registration
FINRA has expanded the current categories of permissive registration, opening up qualification to any associated person regardless of job function. Currently, permissive registration is limited to individuals performing legal compliance, internal audit, back-office operations or similar activities for the firm as well as an individuals engaged in the investment banking or securities business of a foreign securities affiliate or foreign securities subsidiary of a firm. Starting on October 1, 2018, any individual associated with a firm – administrative and clerical support, those working in technology or accounting departments, for example – may be a permissively registered individual. Firms are required to have in place supervisory procedures reasonably designed to ensure that permissively registered individuals do not engage in activities outside their permitted scope. With respect to an individual who solely maintains a permissive registration, the firm must assign to him or her a supervisor who is responsible for periodically confirming that the individual is not acting beyond his or her assigned function(s).
Designation of Principal Financial Officer and Principal Operations Officer
Effective October 1, 2018, each broker-dealer firm is required to designate a Principal Financial Officer (PFO) and at least one Principal Operations Officer (POO). The PFO will have primary responsibility for oversight of financial filings and related books and records, while the POO’s primary responsibility will include day-to-day operations of the firm, including oversight of 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 the books and records related to such activities. A firm may appoint more than one POO, but may not designate multiple PFOs. Where multiple POOs are appointed, the firm should clearly define and document the primary responsibilities of each individual so appointed. Firms that are not engaged in clearing activities – they neither self-clear nor provide clearing services — may designate the same individual to serve as PFO, POO and Financial and Operations Principal or Introducing Broker-Dealer Financial and Operations Principal. Self-clearing firms and firms that provide clearing services must appoint separate individuals to perform PFO and POO functions though they can also serve as Financial and Operations Principal. A firm of limited size and resources may seek a waiver of this requirement.
New Principal Registration Categories
FINRA has created three new principal registration categories:Compliance Officer, Investment Banking Principal, and Private Securities Offerings Principal.
Compliance Officer. An individual designated as a firm’s Chief Compliance Officer (CCO) on Schedule A of Form BD must be registered as a Compliance Officer. For a firm that engages in limited investment banking or securities business, the designated CCO may be registered in a principal category that corresponds to the limited scope of the firm’s business in lieu of registration as a Compliance Officer. An individual can qualify for registration as a Compliance Officer in several ways described in the new consolidated rules.
Investment Banking Principal. A principal responsible for supervising investment banking activities described in FINRA Rule 1220(a)(5) is required to register as an Investment Banking Principal. To do so, the principal is required to pass the SEI Exam and the General Securities Principal (Series 24) exam and to satisfy the Investment Banking Representative prerequisite registration. A person already registered as an Investment Banking Representative and a General Securities Principal prior to October 1, 2018 and who continues to maintain those registrations on such date, will be automatically registered as an Investment Banking Principal under the new rules. An individual whose registrations as an Investment Banking Representative and General Securities Principal were terminated between October 1, 2016 and September 30, 2018, is qualified as an Investment Banking Principal without having to take any exams, provided that he or she registers as an Investment Banking Principal within two years from the date of terminating those registrations.
Private Securities Offerings Principal. A principal solely responsible for supervising specified securities offerings activities described in FINRA Rule 1220(a)(13) may register as a Private Securities Offerings Principal instead of registering as a General Securities Principal. The requirements are similar to those of the Investment Banking Principal. To do so, the principal is required to pass the SEI Exam and the General Securities Principal (Series 24) exam and to satisfy the Private Securities Offerings prerequisite registration. A person already registered as an Private Securities Offering Representative and a General Securities Principal prior to October 1, 2018 and who continues to maintain those registrations on such date, will be automatically registered as a Private Securities Offerings Principal. An individual whose registrations as an Private Securities Offering Representative and General Securities Principal were terminated between October 1, 2016 and September 30, 2018, is qualified as an Private Securities Offerings Principal without having to take any exams, provided that he or she registers as an Private Securities Offerings Principal within two years from the date of terminating those registrations.
FINRA has also eliminated a number of representative-level registration categories and their related examinations, but has grandfathered individuals registered in these categories. Order Processing Assistant Representative, United Kingdom Securities Representative, Canada Securities Representative, Options Representative, Corporate Securities Representative, Government Securities Representative and Foreign Associate have all been eliminated.
Financial Services Affiliate Waiver Program
FINRA has created a program that waives requalification requirements for registered individuals who terminate their registrations as representatives or principals with the firm in order to work for a foreign or domestic financial services industry affiliate. Upon reapplying with FINRA for registration as a representative or principal, a wavier of requalification requirements will be granted if certain conditions are met with respect to the individual, including: (1) (a) must have been registered as a representative or principal for a total of five years within the most recent 10-year period prior to initial designation under the waiver program, (b) must have been registered as a representative or principal for at least one year prior to initial designation with the designating member firm; (2) all waiver requests must be made within seven years of the initial designation; (3) initial and subsequent designations must be made concurrently with the filing of the individual’s Form U5; (4) must have continuously worked for a financial services industry affiliate of a member firm since the filing of the last Form U5; (5) must have complied with the Regulatory Element of Continuing Education; and (6) must not have any Pending or adverse matters, or terminations, reportable on Form U4, and must not have been subject to a statutory disqualification while eligible under the waiver program. Note that the firm is responsible for designating the individual as program-eligible, requesting the waiver and filing Form U5 terminating the individual’s registration with FINRA. The Notice contains several examples about how the new waiver program works.
With the effective date of the new rules less than a year away, broker-dealer firms should be aware of the new exam requirements and the grandfathering conditions that will apply to its former, current and future representatives and principals. The elimination and expansion of registration categories, their roles and responsibilities will need to be reflected in written supervisory procedures.
Interestingly, FINRA is also seeking comment as to whether compensated non-attorneys should continue to be permitted to represent parties in securities arbitration and mediation, typically populated by former attorneys, justices and regulators or by individuals with industry experience. In 2015, the FINRA Dispute Resolution Task Force recommended that FINRA conduct a study to determine, among other matters, whether non-attorney representatives (NAR firms) are performing competently. FINRA’s review revealed that there are a small number of NAR firms regularly practicing in this area, and raised the question whether there has been any exploitation of clients.