On July 30, 2013, the U.S. Securities and Exchange Commission (the “SEC”) adopted amendments to its financial responsibility rules, including changes to the net capital rule, the customer protection rule, the recordkeeping rules and the notification rules applicable to broker-dealers under the Securities Exchange Act of 1934, as amended (“Exchange Act”). The SEC first proposed the amendments on March 9, 2007. In 2012, the SEC re-opened the public comment period.

The amendments were published in the Federal Register on August 21, 2013. Most of the rule changes are effective 60 days from the date of publication, which will be October 21, 2013.

On August 16, 2013, Seward & Kissel attorneys met with members of the SEC staff to discuss certain of the amendments to the financial responsibility rules. The staff informed us that it is their intention to issue “frequently asked questions,” or FAQs, in order to provide guidance on various aspects of the amendments. We have submitted some questions on behalf of clients to the SEC for consideration. While we do not know when the SEC plans on issuing the FAQs, we believe that questions should be submitted no later than the end of September to ensure consideration. Please contact an attorney in our Broker-Dealer group if you would like to discuss the amendments or submit questions to the SEC staff for possible inclusion in the FAQs.

I. Financial Responsibility Rules for Broker-Dealers: Amendments to the Customer Protection Rule

The SEC amended the customer protection rule, which was designed to give “more specific protection to customer funds and securities”¹ effectively forbidding brokers and dealers from using customer assets to finance any part of their businesses unrelated to servicing securities customers.

(A) Proprietary Accounts of Broker-Dealers

Proprietary accounts of broker-dealers, also known as “PAB Accounts”, are accounts that hold proprietary securities and cash of other broker-dealers. With respect to such accounts, the SEC adopted amendments to Rule 15c3-3 and 15c3-3a to require carrying broker-dealers to: (1) perform a separate reserve computation for PAB accounts (in addition to the customer reserve computation currently required for Rule 15c3-3 customer accounts); (2) establish and fund a separate reserve account for the benefit of PAB account holders; and (3) obtain and maintain physical possession or control of non-margin securities carried for PAB accounts unless the carrying broker has provided written notice to the PAB account holders that it will use those securities in the ordinary course of its securities business and has provided opportunity for the PAB account holder to object to such use. Given that this rulemaking incorporates many of the requirements from the 1998 SEC PAIB² no-action letter (the “PAIB Letter”), the SEC will be withdrawing the PAIB Letter as of the effective date of these amendments, which is October 21, 2013.

The SEC adopted the amendments to reconcile the disparity in treatment of a broker-dealer as a customer under Rule 15c3-3 and the Securities Investor Protection Act of 1970 (“SIPA”)³. A carrying broker-dealer may carry PAB accounts that hold proprietary securities and cash of other broker-dealers. Prior to the recent amendments, under Rule 15c3-3, a broker-dealer did not fall within the definition of a customer, meaning that a carrying broker-dealer that carries PAB accounts was not required to treat these accounts as customer accounts for the purposes of Rule 15c3-3. This meant that the carrying broker-dealer was not required to maintain possession or control of the securities of PAB account holders that are not securing margin loans to the account holders or include credit and debit items associated with those accounts in the customer reserve computation.

However, the definition of “customer” under SIPA is broader than the definition under Rule 15c-3 as SIPA does not exclude broker-dealers from the definition of customers. Customers under SIPA are generally entitled to a number of protections, including the right to share pro rata with other SIPA customers in the customer property held by the broker-dealer and, if the customer property is insufficient to make each SIPA customer whole, the entitlement to receive an advance from the Securities Investor Protection Corporation (“SIPC”) of up to $500,000 (of which $250,000 currently can be used to cover cash claims). Broker-dealers, as SIPA customers, have the right to a pro rata share of the customer property, but are not entitled to receive an advance from the SIPC fund. As a result, when a carrying broker-dealer is liquidated in a SIPA proceeding, each customer, including a SIPA customer that is a broker-dealer, has a claim on the customer property. However, because the possession and control and customer reserve account provisions of Rule 15c3-3 do not apply to PAB account holders based on the definition of customer in the rule, the carrying broker-dealer is not restricted by Rule 15c3-3 from using the securities and cash in these accounts for its own business purposes. The SEC expressed concern that inconsistent definitions of “customer” under SIPA and Rule 15c3-3 created a risk that in the event a carrying broker-dealer is liquidated under SIPA, the claims of SIPA customers will exceed the amount of customer property available and thereby expose the SIPC fund and potentially SIPA customers to losses.⁴ Moreover, if customer property is not sufficient to fully satisfy all SIPA customer claims and losses that are incurred, the PAB account holders could be placed in financial distress and potentially adversely impact the securities markets beyond just the failure of the carrying broker-dealer.⁵

(i) Definition of PAB Account

The SEC revised the definition of PAB account in Rule 15c3-3(a)(16) to mean “a proprietary securities account of a broker or dealer (which includes a foreign broker or dealer, or a foreign bank acting as a broker or dealer) other than a delivery-versus-payment account or a receipt-versus-payment account.” The definition of PAB Account does not include accounts that have been subordinated to the claims of a carrying broker-dealer’s creditors. Thus, as noted in the adopting release, a PAB account holder that has subordinated its claims with respect to that account to claims of creditors of the carrying broker-dealer will not be entitled to SIPA protection for that account.⁶

(ii) Written Permission to Use PAB Account Securities

Given that PAB account holders are not customers for purposes of Rule 15c3-3, a carrying broker dealer is not required to maintain possession or control of their non-margin securities. However, under the final rule, a carrying broker-dealer that uses PAB securities in their business activities will need to include the market value of the securities as a credit in the formula when performing the PAB reserve computations. Thus, the amount that the carrying broker-dealer must maintain in its PAB reserve account will increase by the amount of these credits because there would be no corresponding debit item.

Furthermore, the SEC added paragraph (b)(5) to Rule 15c3-3 to accommodate the industry practice of carrying broker-dealers using PAB securities in their business activities, but added an additional requirement whereby the carrying broker-dealer is required to provide written notice from a PAB account holder before it can use the PAB account holder’s non-margin securities in the ordinary course of its securities business.⁷ The SEC requires the carrying broker-dealer to provide the PAB account holders an opportunity to object to the use of their non-margin securities after they receive the written notice from the carrying broker-dealer. If the PAB account holder objects, then the carrying broker-dealer is not permitted to use the securities and the account holder can seek to move the account to another carrying broker-dealer or negotiate different terms with the broker-dealer with regard to the use of its securities. In the final rule release, the SEC highlighted that paragraph (b)(5) is intended to clarify that a broker-dealer is affirmatively required to maintain possession and control of non-margin securities unless the broker-dealer has provided written notice to the PAB account holder.⁸

(iii) PAB Reserve Bank Accounts

The SEC also adopted amendments to paragraph (e) of Rule 15c3-3 to require a carrying broker with PAB accounts to establish and maintain a PAB reserve account for PAB accounts, perform a separate PAB reserve computation for PAB accounts, and maintain cash or qualified securities in the PAB reserve account in an amount equal to the PAB reserve requirement. The SEC also adopted substantially as proposed amendments to paragraph (f) of Rule 15c3-3 to require carrying broker-dealers with PAB accounts to notify the bank about the status of the PAB reserve account and obtain an agreement and notification from the bank that the PAB reserve account will be maintained for the benefit of the PAB account holders. In addition, amendments to paragraph (g) of Rule 15c3-3 specify when the carrying broker-dealer can make withdrawals from a PAB reserve account. Finally, the SEC adopted new paragraph (e)(4) to Rule 15c3-3, which allows a carrying broker-dealer to use credits related to PAB accounts to finance customer debits, but does not allow a carrying broker-dealer to use Rule 15c3-3 customer credits to finance PAB debits.

(B) Banks Where Special Reserve Deposits May Be Held

Paragraph (e) of Rule 15c3-3 requires a carrying broker-dealer to deposit cash or qualified securities into the customer or PAB reserve account (each, a “reserve account”), which must be maintained at a bank. Paragraph (f) of Rule 15c3-3 requires that a broker-dealer obtain a written contract from the bank wherein the bank agrees not to re-lend or hypothecate the securities deposited into the reserve account. The SEC explained that these rules provide a measure of protection by requiring that the securities will be available to the broker-dealer if the bank falls into financial difficulty.⁹ However, the SEC explained that cash deposits may be freely used in the course of the bank’s commercial activities, which means that to the extent a broker-dealer deposits cash in a reserve account, the SEC is concerned there remains a risk that the cash could become inaccessible if the bank experiences financial difficulties.¹⁰ In order to limit this risk, the SEC, under the new rule: (1) prohibits a broker-dealer from maintaining cash deposits in the reserve accounts for customers and PAB account holders if the bank is affiliated and (2) limits the amount of cash that can be deposited in both types of reserve accounts at non-affiliated banks.

With respect to the first prohibition, despite comments urging the SEC not to adopt the prohibition on broker-dealers maintaining cash in reserve accounts at affiliated banks, the SEC retained such a prohibition out of concern that a carrying broker-dealer may not exercise “due diligence with the same degree of impartiality and care when assessing the financial soundness of an affiliated bank as it would with an unaffiliated bank”¹¹. Further, the SEC pointed out that the goal of the Customer Protection Rule would be undermined in the event a holding company becomes insolvent, given that corresponding adverse consequences would affect both the bank and the broker-dealer subsidiaries. Thus, to the extent any cash is deposited at affiliate banks, such deposited funds are excluded from the calculation of determining whether a broker-dealer has met its reserve account requirements.

In terms of the limits of cash that can be deposited at non-affiliated banks, the SEC established the limit to 15% of the bank’s equity capital as reported by the bank in its most recent Call Report or any successor form the bank is required to file by its federal banking agency. Originally in the proposing release, the SEC used 50% of the broker-dealer’s excess net capital as the limit. However, the SEC ultimately determined that the equity capital threshold of the bank is a more relevant metric than the broker-dealer’s excess net capital as it relates “directly to the financial strength of the bank, which is the entity holding the account.”¹²

Lastly, the SEC noted the requirement that the bank’s equity be determined using its most recent Call Report meant that broker-dealers would not be able to hold reserve accounts at U.S. branches of foreign banks. The SEC explained that while U.S. branches of foreign banks meet the definition of a “bank” under Section 3(a)(6) of the Exchange Act, these banks are generally not FDIC-insured. FDIC insurance provides an additional layer of protection to cash deposited in a reserve account at a bank in the event of a bank failure.¹³ The SEC stated, however, that it will consider requests for exemptive relief for broker-dealers that wish to hold reserve accounts at a U.S. branch of a foreign bank.¹⁴

As adopted, when determining whether a broker-dealer maintains the minimum deposits required under paragraph (e) of Rule 15c3-3, the final rule excludes (1) cash deposited with an affiliated bank and (2) cash deposited at a “non-affiliated bank to the extent that the amount of the deposit exceeds 15% of the bank’s equity capital as reported by the bank in its most recent Call Report or any successor form the bank is required to file by its appropriate Federal banking agency”¹⁵.

(C) Allocation of Customers’ Fully Paid and Excess Margin Securities to Short Positions

The SEC also added an additional step a broker-dealer must take to retrieve securities from non-control locations in the event there is a deficit in the fully paid or excess margin securities it is required to hold for its customers. Currently, there is no requirement that the broker-dealer obtain possession or control of a fully paid or excess margins security that is reflected on the broker-dealer’s stock record as a long position of a customer that allocates to a broker-dealer or non-customer short position. For example, in the final rule release, the SEC explained that in a situation where a carrying broker-dealer as principal sells short a security to its own customer, prior to the adoption of the amendments, the broker-dealer was not required to have possession or control of the security even though the customer had paid for the security in full. The SEC considered this to permit the broker-dealer to “partially monetize the customer’s security”¹⁶ and contrary to the goals of Rule 15c3-3.¹⁷

To address the issue, Paragraph (d)(4) of Rule 15c3-3 requires a broker-dealer to take prompt steps to obtain “physical possession or control over securities of the same issuer and class as those included on the broker’s or dealer’s books or records that allocate to a short position of the broker or dealer or a short position for another person… for more than 30 calendar days…”¹⁸ Further elaborating on 30 calendar day period, the SEC stated the 30 calendar day period with respect to a syndicate short position established in connection with the offering does not begin to run until the underwriter’s participation in the distribution is complete as determined pursuant to Rule 100(b) of Regulation M.

II. Treatment of Free Credit Balances

The SEC’s new rule 15c3-3(j) addresses the treatment of customer free credit balances by broker-dealers.¹⁹ Generally, free credit balances result from the accumulation of funds in a customer account due to cash deposited into the customer account, the sale of securities or other assets, or earnings from dividends and interest on securities held in a customer account. Free credit balances are payable by a broker or dealer to its customers on demand.

Broker-dealers typically offer to customers the option of having their free credit balances automatically transferred, or “swept”, to various liquid investments, including money market funds and bank deposit accounts. New section (j)(2) prohibits a broker-dealer from investing or transferring free credit balances to another account or institution except as provided in the new rules.

Section (j)(2)(i) provides that a broker-dealer that intends to invest or transfer free credit balances to another account or institution may do so only upon (and in the manner and under the terms imposed by) a specific order, authorization, or draft from the customer. SEC staff has indicated to us that this requirement is not intended to change the manner in which broker-dealers customarily obtain customer authorization, such as by a specific oral instruction from a customer to the broker.²⁰ As noted in the adopting release, customers need only provide a one-time standing instruction for ongoing routine transfers that are substantially identical.²¹

A broker-dealer that sweeps free credit balances to an eligible Sweep Program investment product and satisfies certain conditions, may make a change to the Sweep Program upon 30 days advance written notice to customer.²² Eligible Sweep Program investment products include only money market mutual funds as described in Rule 2a-7 of the Investment Company Act of 1940 and deposit accounts at FDIC insured banks.

To satisfy the conditions of (j)(2)(ii) a broker-dealer must provide the customer with (i) disclosures and notices regarding the Sweep Program required by each self-regulatory organization of which the broker-dealer is a member, and (ii) notice, as part of the customer’s quarterly statement, that balances in a Sweep Program investment product can be liquidated on the customer’s order and the proceeds returned to the securities account or remitted to the customer. In addition, for accounts opened after the effective date of the new rules (October 21, 2013), the customer must also have been notified of (i) the general terms and conditions of the investment products available through the Sweep Program, and (ii) that the broker or dealer may change the investment products available under the Sweep Program. Such customers must provide prior written consent to having free credit balances in the customer’s securities account swept through the Sweep Program.

If the conditions in (j)(2)(ii) are met, a broker-dealer offering investment products within the definition of Sweep Program can, upon 30 calendar days prior written notice to a customer, (i) make changes to the terms and conditions of the Sweep Program, (ii) make changes to the terms and conditions of a product currently available through the Sweep Program, (iii) change, add or delete products available through the Sweep Program, or (iv) change the customer’s investment through the Sweep Program from one product to another.

III. Amendments to the Net Capital Rule

Under Rule 15c3-1, broker-dealers are required at all times to maintain a minimum amount of net capital. The capital standard in Rule 15c3-1 is a net liquid assets test that is designed in a manner that places the firm in the position of holding at all times more than one dollar of highly liquid assets for each dollar of unsubordinated liabilities. Rule 15c3-1 requires that a broker-dealer perform two calculations: (1) a computation of the minimum amount of net capital the broker-dealer must maintain; and (2) a computation of the amount of net capital the broker-dealer is maintaining. The minimum net capital requirement is the greater of a fixed-dollar amount specified in Rule 15c3-1 and an amount determined by applying one of two financial ratios: the 15-to-1 aggregate indebtedness to net capital ratio or the 2% of aggregate debit items ratio.

(A) Requirement to Deduct From Net Worth Certain Liabilities or Expenses Assumed by Third Parties

The SEC has previously expressed concern where a broker-dealer excludes from its net worth calculations certain liabilities that relate directly to expenses or debts incurred by the broker-dealer. By way of example, the SEC stated such circumstances may arise under broker-dealer expense sharing arrangements with a third party, usually a parent or an affiliate. The SEC believes that excluding liabilities from the broker-dealer’s net worth calculations in such a situation misrepresents the firm’s actual net worth and hampers the ability of regulators to monitor the firm’s financial condition.²³The SEC adopted an amendment to Rule 15c3-1 to add a new paragraph (c)(2)(i)(F) that will require a broker-dealer, in calculating net capital, to include any liabilities that are assumed by a third party if the broker-dealer cannot demonstrate that the third party has the resources – independent of the broker-dealer’s income and assets – to pay the liabilities. A broker-dealer can demonstrate the adequacy of the third party’s financial resources by maintaining records such as the third party’s most recent²⁴ audited financial statements, tax returns or regulatory filings containing financial reports.²⁵

(B) Requirement to Subtract From Net Worth Certain Non-Permanent Capital Contributions

The SEC adopted an amendment which adds paragraph (c)(2)(i)(G) to Rule 15c3-1 to require a broker-dealer to treat as a liability any contributions of capital to the broker or dealer that is (1) under an agreement that provides the investor with the option to withdraw it, or (2) that is intended to be withdrawn within a period of one year of contribution. The final rule further provides that any capital withdrawn within one year of contribution is deemed to have been intended to be withdrawn within one year unless the broker-dealer receives permission in writing for the withdrawal from its designated examining authority (“DEA”). The SEC stated that the ability of a broker-dealer to seek permission in writing from its DEA to withdraw capital contributed within one year will allow firms to seek to withdraw capital in limited circumstances after review by its DEA without having to reclassify the withdrawn capital as a liability for net capital purposes.

(C) Requirement to Deduct the Amount by Which a Fidelity Bond Deductible Exceeds SRO Limits

The SEC adopted paragraph (c)(2)(xiv) to Rule 15c3-1 in order to conform the capital calculation under 15c3-1 with fidelity bonding requirements prescribed by broker-dealers’ self-regulatory organizations (“SROs”). The amendment provides that a broker-dealer must deduct from net capital (with regard to fidelity bonding requirements prescribed by a broker-dealer’s SRO) the excess of any deductible amount over the amount permitted by SRO rules.²⁶

(D) Broker-Dealer Solvency Requirement

The SEC adopted an amendment to paragraph (a) of Rule 15c3-1 to require a broker-dealer to cease conducting a securities business if certain insolvency events occur. Amended paragraph (a) of Rule 15c3-1 provides that a broker-dealer must not be “insolvent” as that term is defined in new paragraph (c)(16) of Rule 15c3-1.²⁷ By making solvency a requirement of Rule 15c3-1, this amendment requires an insolvent broker-dealer to cease conducting a securities business pursuant to Section 15(c)(3) of the Exchange Act, which generally prohibits a broker-dealer from effecting any transaction in, or inducing or attempting to induce the purchase or sale of, any security in contravention of the SEC’s financial responsibility rules (which includes 15c3-1). In addition, the SEC amended Rule 17a-11 of the Exchange Act to require insolvent broker-dealers to provide notice to regulatory authorities.²⁸

(E) Other Net Capital Amendments

In addition to certain technical amendments, the SEC also adopted an amendment to Appendix A of Rule 15c3-1 and a clarifying amendment regarding money market funds. Moreover, the SEC amended paragraph (e) of Rule 15c3-1 (which places certain conditions on a broker-dealer when withdrawing capital and allows the SEC to issue temporary orders restricted a broker-dealer from withdrawing capital or making loans or advances to stockholders, insiders and affiliates under certain circumstances) to make it broader and more general.

IV. New Broker-Dealer Financial Reporting Requirements

The SEC began reviewing rules governing the safekeeping of investor assets in light of several SEC enforcement actions. New rules were initially proposed in 2011.²⁹After a comment period that elicited 27 comment letters, the SEC adopted the proposed rules with modifications.³⁰

The rules were adopted with a focus on the following issues:

1. increase the focus of broker-dealers that maintain custody of customer funds and securities, and their independent public accountants on compliance, and internal control over compliance, with certain financial and custodial requirements;
2. strengthen and clarify broker-dealer audit and reporting requirements in order to facilitate consistent compliance with these requirements;
3. facilitate the ability of the PCAOB to implement the explicit oversight authority over broker-dealer audits provided to the PCAOB by the Dodd Frank Act;
4. ensure that SIPC receives the necessary information to assess whether the liquidation fund it maintains is appropriately sized to the risks of a large broker-dealer failure;
5. enable the SEC and DEA examiners to conduct risk-based examinations of carrying and clearing broke-dealers by assisting the examiners in selecting areas of focus for their examinations; and
6. provide the SEC and the DEAs with a comprehensive overview of a broker-dealer’s custody practices.

(A) Final Rules

The SEC adopted amendments to Rule 17a-5 that require the filing by broker-dealers on an annual basis of a financial report and either a compliance report (“carrying firms”) or an exemption report (“non-carrying firms”) as well as reports prepared by an independent public accountant based upon the reports prepared by the broker-dealer.³¹

Broker-dealers that did not claim exemption from Rule 15c3-3 at any time during the fiscal year will file the compliance report. The compliance report will enable the auditor and the DEA to review the custody practices of broker-dealers and also identify broker-dealers that have weak controls for safeguarding investor assets.

The compliance report requires that the broker-dealer states:

1. whether it has established and maintained Internal Control Over Compliance (ICOC)
2. the ICOC of the broker-dealer was effective during the most recent fiscal year;
3. the ICOC was effective as of the end of the most recent fiscal year;
4. the broker-dealer was in compliance with Rule 15c3-1 and 15c3-3(e) as of the end of the most recent fiscal year; and
5. the information the broker used to state whether it was in compliance with Rule 15c3-1 and Rule 15c3-3(e) was derived from the books and records of the broker-dealer.

In addition, if applicable, the carrying-firm must identify any material weakness in the ICOC during the fiscal year including any at the end of the fiscal year and any non-compliance with Rules 15c3-1 and 15c3-3 as of the end of the fiscal year.

Non-carrying broker-dealers who claim exemption from Rule 15c3-3 will file the exemption report. The exemption report must make the following statements:

1. a statement that identifies the provision of Rule 15c3-3(k) under which the broker-dealer claims exemption;
2. a statement that the broker-dealer met the exemption provisions; and
3. if applicable, a statement that identifies each exception during the most recent fiscal year in meeting the exemption provisions of Rule 15c3-3(k).

All broker-dealers must engage PCAOB-registered independent public accountants to prepare reports based upon the financial report and either the compliance report or the exemption report.

(B) Form Custody

Rule 17a-5 has also been amended to require that all broker-dealers file a new form, Form Custody. Form Custody will be filed with the DEA within 17 business days after the end of each quarter with its FOCUS report. The information on the form will be used to determine if a broker-dealer maintained custody of customer and non-customer assets and how such assets were maintained.³²

(C) SIPC Filings

Finally effective December 31, 2013 all annual reports must be filed with SIPC concurrently with their filing with the SEC.

(D) Effective Dates

The SEC established December 31, 2013 as the effective date for the filing of Form Custody and filing of annual reports with SIPC. The other rule changes become effective on June 1, 2014.

(E) Compliance

Broker-dealers should begin to put in place procedures to ensure that they are monitoring their compliance with Rules 15c3-1 and Rule 15c3-3 and also that they make timely filing of these reports and Form Custody. This process should include a full review of your written supervisory procedures.

* * * * *

If you have any questions concerning this memorandum, please contact an attorney at Seward & Kissel LLP.

______________________________________________________

¹ See Financial Responsibility Rules for Broker-Dealers, Release No. 34-70072, p 8, 78 Fed. Reg. 51823 (Aug. 21, 2013), [hereinafter SEC Release No. 34-70072].

² Letter from Michael A. Macchiaroli, Associate Director, Division of Market Regulation, Commission, to Raymond J. Hennessy, Vice President, NYSE, and Thomas Cassella, Vice President, NASD Regulation, Inc. (Nov. 3, 1998).

³ See SEC Release No. 34-70072, p. 14.

⁴ See SEC Release No. 34-70072, p. 14.

⁵ See SEC Release No. 34-70072, p. 14.

⁶ See SEC Release No. 34-70072, p. 19.

⁷ See SEC Release No. 34-70072, p. 21.

⁸ See SEC Release No. 34-70072, p. 24.

⁹ See SEC Release No. 34-70072, pp. 29-30.

¹⁰ See SEC Release No. 34-70072, p. 30.

¹¹ See SEC Release No. 34-70072, p. 34.

¹² See SEC Release No. 34-70072, p. 38.

¹³ See SEC Release No. 34-70072, p. 41.

¹⁴ See SEC Release No. 34-70072, p. 41.

¹⁵ Rule 15c3-3(e)(5).

¹⁶ See SEC Release No. 34-70072, p. 42.

¹⁷ See SEC Release No. 34-70072, p. 45.

¹⁸ See SEC Release No. 34-70072, p. 45.

¹⁹ The SEC deleted Rule 15c3-2 and imported its relevant requirements by amending Rule 15c3-3 to add new paragraph (j)(1) which provides that, “[a] broker or dealer must not accept or use any free credit balance carried for the account of any customer of the broker or dealer unless such broker or dealer has established adequate procedures pursuant to which each customer for whom a free credit balance is carried will be given or sent, together with or as part of the customer’s statement of account, whenever sent but not less frequently than once every three months, a written statement informing the customer of the amount due to the customer by the broker or dealer on the date of the statement, and that the funds are payable on demand of the customer.” SEC Release No. 34-70072, p. 48.

²⁰ The Staff indicated concerns about authorization imbedded in a “click through” application on a broker-dealer’s website.

²¹ See SEC Release No. 34-70072, p. 54.

²² As adopted, the term Sweep Program means “a service provided by a broker or dealer where it offers to its customers the option to automatically transfer free credit balances in the securities account of the customer to either a money market mutual fund product as described in [Rule 2a-7] or an account at a bank whose deposits are insured by the Federal Deposit Insurance Corporation.” SEC Release No. 34-70072, p. 58.

²³ See SEC Release No. 34-70072, pp. 97-98.

²⁴ “Most recent” would mean “as of a date within the previous twelve months”. See SEC Release No. 34-70072, p. 100.

²⁵ The SEC noted that a Letter on third party expenses is still relevant SEC guidance, notwithstanding that it contains a condition that has been codified in Rule 15c3-1 (i.e., that an expense of the broker-dealer assumed by a third party will be considered a liability for net capital purposes unless the broker-dealer can demonstrate that the third party has adequate resources independent of the broker-dealer to pay the liability or expense). See Letter from Michael A. Macchiaroli, Associate Director, Division of Market Regulation, Commission, to Elaine Michitsch, Member FirmOperations, NYSE, and Susan DeMando, Director, Financial Operations, NASD Regulation, Inc. (July 11, 2003). The Letter contains additional SEC guidance not incorporated into the Rule that is still relevant (e.g., guidance with respect to records relating to broker-dealer liabilities and expenses assumed by a third party, and guidance with respect to written expense sharing agreements). See SEC Release No. 34-70072, pp. 100-102.

²⁶ See SEC Release No. 34-70072, pp. 109-112.

²⁷ Under the new rules, a broker-dealer is “insolvent” if it (i) is the subject of any bankruptcy, equity receivership proceeding or any other proceeding to reorganize, conserve, or liquidate such broker or dealer or its property or is applying for the appointment or election of a receiver, trustee, or liquidator or similar official for such broker or dealer or its property; (ii) Has made a general assignment for the benefit of creditors; (iii) Is insolvent within the meaning of section 101 of title 11 of the United States Code, or is unable to meet its obligations as they mature, and has made an admission to such effect in writing or in any court or before any agency of the United States or any State; or (iv) Is unable to make such computations as may be necessary to establish compliance with this section or with § 240.15c3-3.

²⁸ See SEC Release No. 34-70072, pp. 112-117.

²⁹ See Broker-Dealer Reports, Exchange Act Release No. 34-64676 (June 15, 2011) 76 FR 37572 (June 27, 2011)(the “Proposing Release”).

³⁰ See Broker-Dealer Reports, Securities Exchange Act Release 34-70073 78 Fed. Reg. 51909 (Aug. 21, 2013)(the, “Adopting Release”).

³¹ See Adopting Release No. 34-70073, pp. 29-30.

³² See Adopting Release No. 34-70073, pp. 136-138.