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U.S. Securities and Exchange Commission

Frequently Asked Questions Concerning the July 30, 2013 Amendments to the Broker-Dealer Financial Reporting Rule

Division of Trading and Markets

April 4, 2014

The Division of Trading and Markets, U.S. Securities and Exchange Commission (“Commission”), is providing guidance concerning the amendments to the broker-dealer reporting rule, Rule 17a-5 under the Exchange Act (“Rule 17a-5”), that were adopted on July 30, 2013.1  This guidance was prepared by and represents the views of the staff of the Division of Trading and Markets (“staff”) and is not a rule, regulation, or statement of the Commission.  The Commission has neither approved nor disapproved this guidance.  Additional information is available at: http://www.sec.gov/rules/final/2013/34-70073.pdf; and http://www.sec.gov/info/smallbus/secg/bd-small-entity-compliance-guide.htm.

The staff may update this guidance periodically.  Updates will be marked “MODIFIED” or “NEW.”

For Further Information Contact: Michael A. Macchiaroli, Associate Director, at (202) 551-5525; Thomas K. McGowan, Associate Director, at (202) 551-5521; Randall W. Roy, Assistant Director, at (202) 551-5522; Mark M. Attar, Branch Chief, at (202) 551-5889; Rose Russo Wells, Special Counsel, at (202) 551-5527; or Kimberly N. Chehardy, Special Counsel, at (202) 551-5791, Office of Financial Responsibility, Division of Trading and Markets, Securities and Exchange Commission, 100 F Street, NE, Washington DC 20549-7010.

Background

On July 30, 2013, the Commission amended certain reporting, audit, and notification requirements for broker-dealers registered with the Commission.2  Among other things, under the amendments, broker-dealers must file one of two new reports with the Commission annually – either a compliance report if the broker-dealer did not claim it was exempt from Rule 15c3-3 under the Securities Exchange Act of 1934 (“Exchange Act”) throughout the broker-dealer’s fiscal year or an exemption report if the broker-dealer did claim it was exempt from Rule 15c3-3 throughout the fiscal year.3  Subject to limited exception, a broker-dealer must file with the compliance report a report prepared by its independent public accountant based on an examination of the compliance report.4  A broker-dealer must file with the exemption report a report prepared by its independent public accountant based on a review of the exemption report.5  The examination and review, as well as the audit of the financial statements, must be conducted in accordance with standards of the Public Company Accounting Oversight Board.6 

Additionally, the amendments generally provide new notice requirements for independent public accountants and broker-dealers.  The amendments also require a broker-dealer that clears transactions or carries customer accounts to agree to allow representatives of the Commission or the broker-dealer’s designated examining authority (“DEA”) to review the documentation associated with certain reports of the broker-dealer’s independent public accountant and to allow the accountant to discuss its findings with Commission or DEA representatives if requested in writing for purposes of an examination of the broker-dealer.7  The amendments also require broker-dealers that are members of the Securities Investor Protection Corporation (“SIPC”) to file their annual reports with SIPC.  Finally, the Commission adopted Form Custody, a new form that a broker-dealer must file with its DEA that elicits information about the broker-dealer’s practices with respect to, among other things, the custody of securities and funds of customers and non-customers.8

Responses to Frequently Asked Questions

Amendments to Rule 17a-5

Question 1.

A broker-dealer that is required to file a compliance report must state in the report, among other things, whether the broker-dealer’s Internal Control Over Compliance was effective during the most recent fiscal year.9  A broker-dealer that is required to file an exemption report must state in the report, among other things, that, to its best knowledge and belief the broker-dealer met: (1) the identified exemption provisions in paragraph (k) of Rule 15c3-3 throughout the most recent fiscal year without exception; or (2) the identified exemption provisions in paragraph (k) of Rule 15c3-3 throughout the most recent fiscal year except as described in the exemption report.  The requirement to file either a compliance or exemption report is effective for fiscal years ending on or after June 1, 2014. 

In instances where a broker-dealer’s 2014 or 2015 fiscal year begins prior to June 1, 2014, must statements that refer to the “most recent fiscal year” in the compliance report or exemption report, as the case may be, cover the portion of the broker-dealer’s fiscal year that is prior to June 1, 2014?

Answer 1: 

No.  Where a broker-dealer’s 2014 or 2015 fiscal year begins prior to June 1, 2014, the staff will not object if the broker-dealer submits statements in its compliance report or exemption report that do not cover the period of the fiscal year that is prior to June 1, 2014 and instead cover only the period beginning after that date through the end of the broker-dealer’s fiscal year.  However, in such cases a broker-dealer may still elect to have its statements cover the entire fiscal year.

Question 2. 

The amendments to Rule 17a-5 will permit the independent public accountant’s report based on an examination of the compliance report to satisfy the internal control report requirement under Rule 206(4)-2 of the Investment Advisers Act of 1940 (“Custody Rule”).  However, it may be the case that the period covered by the broker-dealer’s most recent internal control report under the Custody Rule ends prior to the beginning of the period that will be covered by the broker-dealer’s compliance report and corresponding accountant’s report based on an examination of the compliance report.  For an investment adviser to rely on the independent public accountant’s report based on an examination of the compliance report to satisfy the requirement for an internal control report under the Custody Rule, can the broker-dealer extend the period of compliance and elect to file a compliance report and corresponding accountant’s report based on an examination of the compliance report that will cover the gap between the end of the period covered by the most recent internal control report under the Custody Rule and the beginning of the period that will be covered by the compliance report and corresponding accountant’s report based on an examination of the compliance report?  

Answer 2: 

Yes.  The staff will not object if a broker-dealer elects to extend the period of the compliance report and corresponding accountant’s report based on an examination of the compliance report to cover the gap between the end of the period covered by the most recent internal control report under the Custody Rule and the beginning of the period covered by the compliance report and corresponding accountant’s report based on an examination of the compliance report.  For example, a broker-dealer with a fiscal year end of December 31, 2014 that obtained an internal control report as of and for the period ended September 30, 2013 can elect to have its compliance report and corresponding accountant’s report based on an examination of the compliance report cover a period from October 1, 2013 through December 31, 2014 to satisfy its obligations under the Custody Rule.  However, a broker-dealer will need to obtain an internal control report under the Custody Rule if the firm’s compliance report and corresponding accountant’s report based on an examination of the compliance report do not cover all of the gap between the end of the period covered by the most recent internal control report and the beginning of the period covered by the compliance report and corresponding accountant’s report based on an examination of the compliance report.  For example, a broker-dealer that obtained an internal control report as of and for the period ended September 30, 2013 and that files its 2014 compliance report and corresponding accountant’s report based on an examination of the compliance report for the period from June 1, 2014 through the end of its fiscal year (as indicated above, the staff will not object to this approach), would need to obtain an internal control report for the period from October 1, 2013 to May 31, 2014 to satisfy the requirements in the Custody Rule.  An approach which includes obtaining an internal control report and/or filing a compliance report and corresponding accountant’s report based on an examination of the compliance report covering all periods will also satisfy the Custody Rule (i.e., there are no gaps).   

Question 3.

As noted in question 2 above, the independent public accountant’s report based on an examination of the compliance report can be used to satisfy the internal control report requirement under the Custody Rule.  Can the accountant’s report also be used to satisfy the Custody Rule’s independent verification requirement (i.e., the annual surprise examination)?

Answer 3.

No.  The independent public accountant’s report based on an examination of the compliance report will not satisfy any other requirement under the Custody Rule.     

Question 4.

Paragraph (f)(2) of Rule 17a-5 requires a broker-dealer to file a statement regarding its independent public accountant no later than December 10 of each year.  As a result of the amendments to Rule 17a-5, a broker-dealer that is required by Rule 17a-5 to engage an independent public accountant must file a new statement that contains the information and representations required under amended paragraph (f)(2) of Rule 17a-5 (even if the broker-dealer is not changing accountants). 

Since the amendments to paragraph (f)(2) of Rule 17a-5 do not become effective until June 1, 2014, when must a broker-dealer file a new statement regarding its independent public accountant pursuant to paragraph (f)(2) of Rule 17a-5?  What audit period should the new statement cover?

Answer 4: 

A broker-dealer need not file a new statement regarding its independent public accountant under paragraph (f)(2) until after the amendments to this paragraph become effective on June 1, 2014.  For a broker-dealer with a 2014 fiscal year end between June and December 2014, the new statement must be filed on or before the 10th day of the month in which the broker-dealer’s fiscal year ends because the representations in the statement need to address the work that the accountant will perform with respect to the broker-dealer’s annual reports for its fiscal year ending in 2014.  

Broker-dealers that file their new statement between June and December 2014 for their 2014 fiscal year annual audit do not need to file a second new statement for their 2015 fiscal year by December 10, 2014 if the contractual commitment between the broker-dealer and independent public accountant is of a continuing nature.  If the contractual commitment between the broker-dealer and independent public accountant is not of a continuing nature, then the broker-dealer must file a new statement under paragraph (f)(2) for the annual audit to be conducted the following calendar year no later than December 10, 2014. 

Question 5.

Paragraph (d)(2)(ii) of Rule 17a-5 requires a broker-dealer’s financial report to contain supporting schedules that include, from Part II or Part IIA of the Financial and Operational Combined Uniform Single Reports (“FOCUS Reports”): (1) a Computation of Net Capital Under Rule 15c3-1; (2) a Computation for Determination of the Reserve Requirements under Exhibit A of Rule 15c3-3; and (3) Information Relating to the Possession or Control Requirements Under Rule 15c3-3.  The recent amendments to Rule 15c3-3 require broker-dealers to perform reserve computations for proprietary accounts of broker-dealers (“PAB”).10  Should the PAB computation be included in the supporting schedules under paragraph (d)(2)(ii) of Rule 17a-5?

Answer 5:

Yes.  Paragraph (d)(2)(ii) requires the supporting schedules to include “a Computation for Determination of the Reserve Requirements under Exhibit A of Rule 15c3-3.”  Since both the customer and PAB reserve requirements are calculated under Exhibit A, the PAB reserve computation is required to be included in the schedule. 

Question 6.

Paragraph (d)(1)(i)(B)(1) of Rule 17a-5 requires a broker-dealer that did not claim it was exempt from Rule 15c3-3 throughout the most recent fiscal year to file a compliance report.  Footnote 74 of the adopting release for the Rule 17a-5 amendments states: “There may be circumstances in which a broker-dealer has not held customer securities or funds during the fiscal year, but does not fit into one of the exemptive provisions [for Rule 15c3-3] listed under Item 24 of Part IIa [of the FOCUS Report].  Even though there is not a box to check on the FOCUS Report, these broker-dealers should file an exemption report and related accountant’s report.”11  What types of broker-dealers would fall under the terms of footnote 74 and, on that basis, file an exemption report as opposed to a compliance report? 

Answer 6:

A broker-dealer that does not hold customer funds or securities may file an exemption report (and corresponding accountant’s report based on a review of the exemption report) rather than a compliance report (and corresponding accountant’s report based on an examination of the compliance report) if the broker-dealer does not claim an exemption from Rule 15c3-3, and its business activities are limited to one or more of the following: (1) proprietary trading; (2) effecting securities transactions via subscriptions; and (3) receiving transaction-based compensation for identifying potential merger and acquisition opportunities for clients, referring securities transactions to other broker-dealers, or providing technology or platform services. 

Form Custody

Question 7.

Are there any types of broker-dealer that are not required to file Form Custody (e.g., broker-dealers that do not carry customer accounts)?  How and when must Form Custody be filed?

Answer 7: 

Beginning December 31, 2013, all broker-dealers must file Form Custody with their DEA within 17 business days after the end of each calendar quarter, with the first filing due in January 2014.  A broker-dealer that files its FOCUS Report annually must file Form Custody each calendar quarter. 

The Financial Industry Regulatory Authority, Inc. (“FINRA”) requires designated member firms to file Form Custody through FINRA’s eFOCUS system.  The Chicago Board Options Exchange (“CBOE”) requires designated member firms to submit Form Custody in hard copy to the CBOE through a dedicated fax/email location until such time as the designated firms are notified by the CBOE that Form Custody is available for transmission through the WinJammer Online Filing System.

Question 8.

Certain line items in Form Custody ask for information regarding “broker-dealers.”  What is meant by this term?

Answer 8:

For purposes of Items 1, 2, and 4.A, the term “broker-dealers” refers to a broker-dealer registered with the Commission. 

For purposes of Item 4.B, refer to the definition section of Form Custody. 

Question 9.

Should the entries in Form Custody be based on settlement date positions or trade date positions? 

Answer 9:

Settlement date positions.      

Question 10.

How should futures collateral be reported on Form Custody?

Answer 10:

Futures collateral held in a non-securities account is outside the scope of Form Custody and should not be included in information reported on the form.  However, if futures collateral is held in a securities account, then the account must be treated as a customer or non-customer account (as applicable) for purposes of Form Custody.

Question 11.

Items 3.D and 3.E of Form Custody elicit information about, among other things, the values of securities carried for the accounts of customers and non-customers.  Do these items seek information only about fully-paid and excess margin securities?       

Answer 11:

No.  For Form Custody reporting purposes, it makes no difference if the securities are fully-paid, margin, or excess margin securities.  All securities carried by a broker-dealer should be included.

Question 12.

Items 3.D and 3.E of Form Custody require a broker-dealer to indicate in terms of specified ranges the approximate market value of various types of securities carried for customers and non-customers, respectively.  Should a broker-dealer take into account the market value of short positions?  For example, if a broker-dealer carries customer accounts and those customers are long $30 million in U.S. equities and short $110 million in U.S. equities, resulting in a net short approximate market value of $80 million in U.S. equities, for Item 3.D should the broker-dealer check the box for U.S. equities and also check the box for: (1) “$50 million or less” (using the long amount); (2) “Greater than $50 million to $100 million” (using the net short amount); or (3) “Greater than $100 million to $500 million” (using the short amount)?

Answer 12:

A broker-dealer should report the approximate market value of aggregate long positions only.  In the example, above, the broker-dealer should check the box for U.S. equities and the box for “$50 million or less” using the $30 million long amount. 

Question 13.

For purposes of Items 3.D and 3.E of Form Custody, if a broker-dealer clears DVP/RVP accounts and the accounts are “long” or “short” due to failed transactions, should those market values be included? 

Answer 13:

No. 

Question 14.

For purposes Items 3.D and 3.E of Form Custody, how should a broker-dealer treat “un-priced” positions, such as alternative investments which might only be valued for Internal Revenue Service reporting purposes, but for which pricing is not carried on statements?  Must the clearing firm value such positions for these purposes, or may they be valued as zero?

Answer 14:

To the extent that a position is valued, it should be reported.  “Un-priced” positions for which prices are not reported on account statements may be valued at zero for purposes of Items 3.D and 3.E.   

Question 15.

Item 4 of Form Custody elicits information about the operations of broker-dealers that carry accounts of customers that are introduced by other broker-dealers.  For purposes of Item 4.A, who has the responsibility to report sub-clearing relationships?            

Answer 15:

The clearing firm is responsible for reporting sub-clearing relationships.

Question 16.

Items 5 and 6 of Form Custody elicit information about whether a broker-dealer sends trade confirmations and account statements directly to its customers.  Item 7 of Form Custody elicits information about whether a broker-dealer provides its customers and other accountholders with electronic access to information about securities and cash positions in their accounts.  A broker-dealer may send trade confirmations and account statements directly to some customers, while allocating the responsibility to send confirmations and statement to certain customers to other broker-dealers.  Likewise, a broker-dealer may provide some, but not all, customers and other account holders with electronic access to information about securities and cash positions in their accounts.  In these situations, how should such a broker-dealer respond to these line items?

Answer 16:

In these situations, the appropriate response is “yes.”  For Items 5 and 6, the broker-dealer should also identify any broker-dealers to which it has allocated the responsibility to send the trade confirmations and account statements.  For Item 7, the broker-dealer should explain that it does not provide electronic access for all its customers.  In order to provide these identifications and explanations, a broker-dealer should use the technology provided by its DEA for purposes of filing Form Custody.


1 See Broker-Dealer Reports, Exchange Act Release No. 70073 (July 30, 2013), 78 FR 51910 (Aug. 21, 2013).

2 Id. at 51913–51945.

3 Id. at 51916–51923.

4 Id. at 51932–51936.

5 Id.

6 Id.

7 See Broker-Dealer Reports, 78 FR at 51945–51947.

8 Id. at 51947–51956.

9 The term “Internal Control Over Compliance” is defined in the rule to mean internal controls that have the objective of providing the broker-dealer with reasonable assurance that non-compliance with certain broker-dealer financial responsibility rules will be prevented or detected on a timely basis.  Id. at 51918. 

10 See Financial Responsibility Rules for Broker-Dealers, Exchange Act Release No. 70072 (July 30, 2013), 78 FR 51824 (Aug. 21, 2013).    

11 See Broker-Dealer Reports, 78 FR at 51915 n.74.

 

http://www.sec.gov/divisions/marketreg/amendments-to-broker-dealer-reporting-rule-faq.htm

Modified: 04/04/2014