July 17, 2001
Mr. Jonathan G. Katz
Securities and Exchange Commission
450 5th Street, N.W.
Washington, D.C. 20549-0609
Re: Release File No. S7-12-01 - Interim Final Rules for Banks, Savings Associations, and Savings Banks Under Sections 3(a) (4) and 3(a) (5) of the Securities Exchange Act of 1934 ("Interim Final Rules")
Dear Secretary Katz:
Wilmington Trust Company, established in 1903, is the 13th largest personal trust company in the United States. Together with our affiliates, we have more than 27,250 accounts in our departments that are subject to examination by Federal and State bank trust examiners, with more than $96 billion in total assets, of which we have investment management responsibilities for more than $24.9 billion. We are writing to express our strenuous objections to the impact the SEC's Interim Final Rules will have on our business and to comment on specific provisions of the Interim Final Rules as requested.
Prior to the issuance of the Interim Final Rules, we fully anticipated that the broker-dealer "push out" provisions would have no material or adverse impact on our core businesses. The Interim Final Rules, however, if not soon withdrawn in their current form and substantially revised based on industry input, will require Wilmington Trust to invest substantial resources, including programming, legal, operations, administrative and capital resources, in an effort to evidence compliance with rules that we firmly believe are overreaching, unworkable and in many cases ambiguous. In other cases, we will be required to significantly restructure and disrupt longstanding client relationships, with likely cost increases to precisely those investors the SEC is attempting to protect. The threat of being an unlicensed broker-dealer is not one we take lightly. We have a registered broker within our corporate family, and we fully appreciate the SEC's desire to prevent the operation of a brokerage business within the guise of a bank trust department, ensure that investors are protected and defend the integrity of securities markets. However, the Interim Final Rules, which we believe exceed the scope of the SEC's authority in several respects, do far more to prevent banks from providing traditional services than was intended by the Gramm-Leach-Bliley Act (the "GLB Act") and fail to advance the interests of investors.
Wilmington Trust firmly endorses the positions put forth by the American Bankers Association and ABA Securities Association in their letter to the SEC dated June 4, 2001, and by the Board of Governors of the Federal Reserve System, the Federal Deposit Insurance Corporation and the Office of the Comptroller of the Currency in their comments to the SEC dated June 29, 2001 (the "Banking Letters"). It is imperative that the banking industry, banking regulators and SEC work together to implement the intent of the GLB Act and achieve the legitimate objectives of the SEC without such a drastic and unwarranted disruption on traditional bank services. It is also essential that the effective date of the Interim Final Rules be postponed to permit banks like Wilmington Trust the opportunity to analyze and implement changes that may be necessary. Wilmington Trust would welcome the opportunity to meet with your staff and to actively participate in this effort.
In addition, Wilmington Trust has attached its more specific comments. Of critical importance to us are the challenges presented by the "Trust and Fiduciary Activities", "Custody and Safekeeping" and "Networking" exemptions.
Wilmington Trust appreciates the opportunity to express its concerns and provide comments on the Interim Final Rules. We look forward to continuing a dialogue with the SEC on these very important issues. Such a dialogue is necessary to prevent material disruption of our business - disruption that we believe is excessive and unnecessary in view of other measures that the SEC, working together with the banking industry and bank regulators, can and should develop to implement the intent of the GLB Act, protect investors and ensure the integrity of our securities markets.
WILMINGTON TRUST COMPANY
By: /s/Ted T. Cecala
Ted T. Cecala
Chairman & CEO
Comments of Wilmington Trust on the Interim Final Rules for Banks, Savings Associations, and Savings Banks Under Sections 3(a) (4) and 3(a) (5) of the Securities Exchange Act of 1934 ("Interim Final Rules")
I. Trust and Fiduciary Activities
A. "Chiefly Compensated"
1. Account-by-Account Analysis
The account-by-account analysis called for by the Interim Final Rules, while perhaps a necessary effort to develop an objective standard by which to evidence compliance with the GLB Act, fails completely as a workable formula to determine whether Wilmington Trust is "chiefly compensated" on the basis provided for by the GLB Act. Wilmington Trust firmly believes that it is chiefly compensated for our trust and fiduciary services in the manner described in the GLB Act exemption, and yet establishing compliance with the account-by-account analysis in the Interim Final Rules to demonstrate this fact will be impossible. The sheer variety and complexity of our trust and fiduciary fee arrangements we have developed to accommodate the desires of our clients over the generations is a factor that is clearly not contemplated in the Interim Final Rules. The computer programming alone to extract account-by-account information when we do not categorize our fees by the three categories identified in the Interim Final Rules is staggering, and should be completely unnecessary. While many fees are calculated based on programmed fee schedules, in many cases fees are manually calculated according to individually customized fee arrangements. The Interim Final Rules will require each one of these arrangements to be analyzed separately. The Interim Final Rules will produce different analyses for seemingly indistinguishable situations based on whether fees are bundled or unbundled. As the SEC recognizes in its commentary, family relationships often involve a multitude of accounts, many of which may be established for discreet or special purposes, and fees may or may not be incurred by any particular account.
Our trustee and fiduciary services are governed by applicable fiduciary laws that clearly prohibit Wilmington Trust from being compensated as a broker would be compensated. Fiduciary responsibilities should not be undertaken lightly by any organization, and the threat of fiduciary liability is a very real force to shape the behavior of bank trust departments in a manner that is entirely consistent with the stated goals of the SEC.
2. Aggregate Safeharbor
Because of the protections afforded by fiduciary laws against the abusive practices the SEC desires to prevent, we firmly believe that an aggregate test is the only meaningful and appropriate manner to evidence compliance with the statutory standard and appreciate the SEC's recognition that such an approach is appropriate. We are confident that a test on an aggregate basis can be devised that will achieve the goals of the SEC without unnecessarily burdening bank trust departments. However, the safeharbor in the Interim Final Rules fails to do this in at least three respects.
First, rather than a 90%/10% test, we believe that a 51%/49% test is an adequate measure to evidence compliance with Congressional intent of the "chiefly compensated" requirement of the GLB Act and yet afford bank trust departments some flexibility in how fees are structured without the threat of being an unlicensed broker. This greater flexibility should also assist to ease some of the computer programming and manual analysis that may otherwise be required to categorize and refine trust and fiduciary compensation data in accordance with the Interim Final Rules. Second, a transaction charge that is designed to reimburse the bank for costs associated with executing trades is not sales compensation and should not be treated entirely as "sales compensation" if any portion of it exceeds the bank's costs. This standard is thoroughly unreasonable and unnecessary. Finally, the procedural requirements that accompany the safeharbor in the Interim Final Rules effectively undermine its usefulness for an institution like Wilmington Trust. These requirements create an undue burden by re-introducing an account-by-account analysis at certain points which draws in all the issues and complexities discussed above. Further, these requirements fail to give adequate weight to the fiduciary laws, principles and standards that will very effectively mitigate against a bank trust department operating an unregistered brokerage business. The duties of loyalty and due care, the prudent person standard, serving the interests of current beneficiaries and future remaindermen - it is these together with oversight by the courts that create checks and balances far more effective to protect the interests of investors than those included in the Interim Final Rules.
3. Components of Compensation
In addition to focusing on an aggregate level test, the characterization of compensation for testing compliance with the "chiefly compensated" standard of the GLB Act needs to be streamlined. Otherwise, extensive resources will be expended analyzing and characterizing raw fee data in a manner that we do not believe is necessary or warranted to serve the goals of the SEC. For instance, whether trustee compensation is bundled for some clients and unbundled and very specifically itemized for others should be irrelevant. Rather than force legitimate trust departments such as Wilmington Trust to invest significant resources to prove that trustees are not chiefly compensated based on sales commissions, we firmly believe that the banking industry, banking regulators and the SEC, working together, can devise a much more meaningful, streamlined, and yet effective, method of analyzing trust department compensation to achieve the SEC's goals without unnecessarily interfering with the legitimate activities of bank trust departments and creating excessively burdensome compliance costs.
B. Trustee/Fiduciary Capacity
In addition, Wilmington Trust firmly supports the proposition that the trust and fiduciary activities exemption must encompass these activities as bank trust departments know them unless specifically carved out by the regulations for a very specific and legitimate purpose. Otherwise, the exemption fails to provide the certainty that we believe was intended to be provided for bank trust departments. To imply that "trustee" does not mean "trustee" for purposes of this exemption unless the SEC confirms it means "trustee" causes unnecessary uncertainty and ambiguity, and invites chaos.
C. Other Roles
There are certainly other roles and services provided throughout our trust departments that we believe should fall within the trust and fiduciary activities exemption. Escrow accounts are just one such example that has already been identified for the SEC. It is clear that the parties to an escrow agreement have specific purposes, and placing securities trades is merely an incidental activity of the escrow agent for the escrow account. It is clear that brokerage firms may well not be best suited to comply with what are often complex administrative provisions designed to meet the goals of the various parties to an escrow arrangement. In addition, Wilmington Trust provides a number of niche services to various segments of the marketplace, and we do not believe the intent of Congress was to disrupt these services.
In addition, Wilmington Trust provides both trustee and custody services to retirement plans. As noted in the Banking Letters, the custody relationship is sometimes equated to a trust for tax purposes, such as with the IRA custody account. This is equally true with a number of other types of retirement plans for which Wilmington Trust may serve as custodian (e.g., retirement plans for non-profit organizations or governmental entities established under Section 403(b) and under Section 457 of the Internal Revenue Code). Given various safeguards associated with retirement plan accounts for the benefit of plan participants, and the passive order taking role of the custodian, Wilmington Trust recommends that the Interim Final Rules be expanded to include additional custody relationships for retirement plans under the trust and fiduciary activities exemption. Alternatively, the restrictions on order taking and other restrictions imposed under the custody and safe keeping exemption must be eliminated. Otherwise, Wilmington Trust will be unable to continue to service substantial portions of our current business for retirement plan assets and will be required to integrate a registered broker-dealer into what is already a highly automated and efficient process among the plan sponsor, plan recordkeeper and Wilmington Trust that fully and fairly protects the interests of plan participants. It is a process that is identical to that for 401(k) plans, which the SEC acknowledges provides sufficient safeguards against the abusive practices the SEC wants to prevent. This will cause unnecessary disruption and additional costs. Wilmington Trust is pleased to provide more details on these account relationships to support this recommendation.
Wilmington Trust's corporate trust business area includes a variety of trust and agency relationships, in addition to the bond indenture trustee role identified by the SEC and the other roles identified in the GLB Act. Our corporate trust area is subject to examination by our Federal and State bank trust examiners, and we believe that additional corporate trust and agency roles should clearly be included within this exemption. While the primary purpose of these accounts is clearly a business objective other than placing trades in securities (such as perfecting security interests in various types of property for the benefit of a consortium of lenders, facilitating complex structured financings, facilitating the emergence of a company in a bankruptcy restructuring), placing securities trades may from time to time be incidental to these account relationships. While the SEC identifies the indenture trustee role and identifies several factors that make clear that the interests of investors are protected when bond indenture trustees accept trade directions from time to time, our corporate trust services encompass many more roles that continually evolve to keep pace with the needs of the capital markets for service providers. In each case, the purpose of the transaction is clearly something other than brokerage, safeguards exist to protect the interests of investors and the multi-party nature and often extensive administrative responsibilities would make these accounts incapable of being serviced by a brokerage firm. Wilmington Trust is confident that, working together with the SEC, a more generic description of corporate trust and agency relationships can and should be developed as part of the trust and fiduciary activities exemption, and looks forward to providing more input on these corporate trust and agency relationships.
II. Custody and Safekeeping Exemption
Wilmington Trust has a longstanding business of providing custody and safekeeping services, to both individuals and institutions. We provide these services within the same departments that are subject to examination by our Federal and State trust examiners. While many clients may choose to appoint third party money managers who will arrange for trades to be executed for their accounts, some clients prefer to have Wilmington Trust accept their orders to buy or sell securities from time to time knowing that Wilmington Trust will relay these directions to registered brokers. In other cases, the client's money manager may not arrange for execution but will instead direct Wilmington Trust to place trades for all of the client accounts they manage. Our clients understand that brokerage accounts may, in many cases, be an alternative for them, but they choose for any number of reasons to have their assets held by a well-capitalized bank such as Wilmington Trust and not by a brokerage firm. We are confident that appropriate disclosures, limitations and restrictions can be developed to implement the intent of this exemption and fully protect investors without disrupting client relationships that have operated without difficulty at our institution for many, many years. We do not believe that prohibiting order taking generally, prohibiting transaction-related fee charges, and prohibiting Wilmington Trust from properly compensating its employees for developing and retaining this type of business are necessary or appropriate to achieve the intent of the GLB Act and the goals of the SEC.
At Wilmington Trust, serving as custodian for individuals is often a first step to establishing a long term relationship with our trust department. For many families, the ability of the institution to administer their wealth is first demonstrated at a custody account level and investment advisory and trust relationships develop over time. Order taking may be just one component of the range of services sought by our custody clients. Having all of their assets with one institution with sufficient accounting and reporting capabilities to handle anything from a simple, individual custody account to a complex series of trust accounts may be an objective of the client. If Wilmington Trust serves just as custodian for trust accounts where these individuals or others may serve as trustee, housing the account at a brokerage firm may well not even be an option since a brokerage firm's accounting systems are not designed to maintain the separate principal and income ledgers and other information required to administer a complex trust. This type of custody relationship should either be recognized as permitted under the trust and fiduciary activities exemption or the custody and safekeeping exemption must be expanded.
With respect Wilmington Trust's custody accounts for corporations and other entities, it is even more difficult to see how the interests of these clients are better served by preventing us from taking trade orders as we have traditionally done from time to time. These clients clearly have the sophistication to understand that brokerage may be an option for them, and for various reasons choose to have the custody and safekeeping of their assets maintained at a well-capitalized bank. Under the Interim Final Rules, rather than accepting orders and having trades placed by our trust trading desks, we will need to route those instructions through our affiliated broker, assuming the client is agreeable to using this broker, or have the client establish an account at a brokerage firm. This eliminates our clients' access to the variety of brokers with whom we regularly conduct business, and creates inconvenience without a corresponding tangible benefit.
In addition to the disruption caused by the prohibition of order taking generally, Wilmington Trust believes it is unnecessary and unwarranted to prohibit banks from imposing transaction charges as part of their custody fee arrangements and instead mandate that all clients be subject to a fee schedule that fails to take into consideration the trading activity that a client independently chooses to initiate. We do not solicit trading activity and therefore any trade that is placed is done so solely at the direction of the client. This requirement is likely to result in higher fees for many clients, including those for whom a brokerage account is not a viable alternative. Further, prohibiting bank employees who service these accounts from having any dual role with our affiliated broker and from receiving compensation for developing custody relationships in a manner that may be tied at least to the size of the account seems calculated to force banks out of the role of service provider for custody accounts. A multitude of rules apply to our staff who may serve in such dual roles that are specifically designed to protect the interests of our clients, the investors. Further, incentive compensation is a necessary part of our staff's compensation and prohibiting it outright is an extreme and excessive measure.
We firmly believe that appropriate disclosures, limitations and restrictions can and should be developed to protect investors and prevent the abusive practices the SEC and we want to prohibit, without preventing banks such as Wilmington Trust from remaining a viable competitive alternative for custody services in the marketplace. Focusing on individual and non-individual clients separately may be a productive starting point as we believe the nature and scope of the appropriate disclosures, limitations and restrictions are likely to differ. We believe that there is little confusion among our clients, and firmly believe that our clients should be permitted to continue to be serviced as they have for nearly 100 years.
The Final Interim Rules prohibit bank employees from receiving incentive compensation for brokerage transactions, but permit compensation for the referral of customers if the compensation is a nominal, one-time cash fee of a fixed dollar amount and the payment is not contingent on whether the referral results in a transaction.
In using the term "incentive compensation," however, we believe Congress meant to prohibit bank employees from receiving brokerage commissions for securities transactions. Under the Final Interim Rules, bonus programs for unregistered bank employees that include performance goals for securities transactions directed to a branch, department or line of business are prohibited. We do not believe Congress meant to reach such company-, departmental-, or division-wide bonus programs, and that the SEC is mandating the restructuring of existing bank bonus programs unnecessarily.
In addition, the restriction that a referral payment not exceed "one hour of the gross cash wages of the unregistered bank employee making the referral" is unworkable and extremely onerous. Banks would be required to incur significant additional administrative burdens to calculate a separate referral fee for each employee making a referral. This administrative burden is further increased since the referral fee program would need to keep track of each adjustment in an employee's salary or wages.
We further request the SEC to provide more flexibility in determining what is a "nominal" bonus. Limiting bonuses to those permitted by the Final Interim Rules would minimize referrals to licensed bank affiliates. For example, while the Final Interim Rules permit payment of referral fees in the form of points, they require that those points be part of a "system or program that covers a range of bank products and non-securities related services." The statute does not require that points awarded for securities referrals be part of a broader system or program that also rewards employees for banking and other non-securities related services, and the SEC provides no justification why this requirement is imposed in the Final Interim Rules.
Additionally, requiring that securities-related referral points have a value no greater than points received under a bonus program for referrals of any product or service would result in awards for securities brokerage referrals being reduced to a lowest common denominator. An award for referring a safety deposit box rental should not be required to be the same as an award for referral of $100,000 in investable assets. An employee referring a customer for the more complex product should be able to be rewarded commensurate with the complexity of the product.
The SEC states that "banks cannot indirectly pay their unregistered bank employees incentive compensation for securities transactions through a branch, department, or line of business or through a bonus program related to the securities transaction of a branch, department or line of business." This language is so broad that it would prevent a bank with a networking arrangement from paying any officer a bonus based on the success of a department or line of business that engages in securities transactions, even if the employee, department or line of business has no connection with the networking arrangement. For example, an officer with oversight responsibilities for a trust department that effects securities transactions in accordance with the trust and fiduciary activities exception might not be able to receive a bonus based on the success of the department if the bank also was a party to a networking arrangement. Any such restriction would be incompatible with functional regulation, and we assume the SEC did not intend to regulate bank bonus programs so broadly.
The SEC has placed severe limits on the payment of referral fees to reduce a perceived "salesman stake" in the sale of securities of a bank employee who is not familiar with the protections afforded investors under the securities laws. However, we believe this concern is misplaced. The statute permits bank employees to be compensated for referrals to the registered broker-dealer, not for the actual securities transaction. There always will be a registered broker-dealer between the customer and any securities transaction effected. It is the registered representative of the broker-dealer who will be responsible for ensuring that the eventual securities transaction is consistent with the suitability standards and other investor protection requirements of the securities laws.
The Final Interim Rules further prohibit banks from deferring securities referral fees until the end of the year. The statute does not prohibit payment in this manner, and doing so will prevent a legitimate compensation program that furthers the SEC's stated goal of reducing a salesman's stake that may be inherent in a referral fee by separating by time the referral from the payment of fees.
In light of the fact that the SEC has not historically imposed limits on referral fees, the words of the statute and the administrative burdens the limits the SEC has adopted would cause, we do not believe it is necessary or appropriate for the SEC to change its practices regarding referral fees or to define the upper limits of permissible referral fees. As under current practice, the SEC instead should allow banks to interpret these terms in a manner that best fits their networking arrangements.
IV. Other Issues - Mutual Funds
Wilmington Trust, as the second largest user of the NSCC/FundServe automated settlement of mutual fund trades, applauds the SEC's recognition that executing mutual fund trades with mutual fund transfer agents or complexes through this process does not raise concerns. However, there are numerous mutual fund trades that Wilmington Trust processes that are not processed on the NSCC/FundServe platform. We firmly believe that it is equally appropriate and necessary for Wilmington Trust to continue to place purchase and redemption orders for these funds.
In many cases, these purchase and redemption orders will be placed for trust accounts, either personal trusts or trusts relating to retirement plan accounts, and thus should be permitted under the trust and fiduciary activities exemption. However, in other instances these are placed for custody accounts. As noted above, various custody relationships for retirement plan accounts are equated to trusts for tax purposes. Without qualification under the trust and fiduciary exemption, Wilmington Trust will be able to execute trades for some, but not all, of the mutual fund investment options selected by a plan sponsor for its plans. These accounts are often participant directed plans, and whether the trades are processed electronically through NSCC or communicated manually to the fund's transfer agent makes no difference to the plan participants that we can discern. Wilmington Trust accepts trade instructions at an aggregate level from various plan recordkeepers and introducing a registered broker to the process is unlikely to add any tangible benefit for plan participants. It is likely to add confusion to processing systems that are in place and function smoothly, increase the costs of plan administration, cause inefficiencies, interfere with existing control procedures and increase the likelihood of errors. If the suggested changes are made to the custody and safekeeping exemption, then clarification as to non-NSCC/FundServe processed mutual funds will be unnecessary. However, if such changes are not made, it is essential that the Mutual Fund clarification be expanded to include non-NSCC/FundServe processed mutual fund purchases and redemptions to prevent significant, and wholly unnecessary, disruption to the current servicing of retirement plans.
For mutual fund trades for non-retirement plan custody clients, we again see no benefit served by unnecessarily forcing directed trades to be channeled through a registered broker so long as appropriate restrictions are in place to protect the interests of our clients, the investors, who are directing those trades. So long as the custodian is merely a passive recipient of purchase and redemption orders, we see no benefit to be served by not extending the clarification to all mutual fund orders, whether or not processed through NSCC/FundServe.