Compass Bancshares, Inc.
P. O. Box 10566
Birmingham, Alabama 35296
Jerry W. Powell
July 17, 2001
Jonathan G. Katz
Securities and Exchange Commission
405 5th Street, NW
Washington, DC 20549
Re:Interim Final Rules on Bank Broker-Dealer Exceptions
Release No. 34-44291; File No. S7-12-01
Dear Mr. Katz:
Compass Bancshares, Inc. appreciates the opportunity to comment to the Securities and Exchange Commission ("Commission") on the interim final rules (the "Interim Final Rules") concerning various of the exceptions to the bank broker-dealer "push-out" provisions, which implement Title II of the Gramm-Leach-Bliley Act ("GLB Act").
Compass Bancshares, Inc. ("Compass") is a Delaware bank holding company, headquartered in Birmingham, Alabama. Compass qualified as a financial holding company under the authority of the GLB Act on March 13, 2000. Through Compass Bank, its lead-bank subsidiary, and various other affiliates, Compass provides a broad range of banking and financial services to customers in Alabama, Arizona, Colorado, Florida, New Mexico, Nebraska and Texas. The Compass group of companies include, among other affiliates, a broker-dealer affiliate and several insurance-agency affiliates. The broker-dealer affiliate, Compass Brokerage, Inc. has been registered with the Commission and a member of the National Association of Securities Dealers ("NASD") since 1986. Through its Asset Management Group, a division of Compass Bank, Compass also provides a broad range of trust and fiduciary services to its customers, and currently administers approximately $10 billion in assets and exercises discretion over approximately $3.4 billion of those assets.
The express provisions of the GLB Act, as well as the accompanying legislative history, evidence Congressí intent to allow banks to continue providing trust, fiduciary, custodial and other traditional banking services without material disruption of the manner in which such activities were conducted by banks prior to the GLB Act, provided that the bank is not attempting to evade Commission regulation by conducting a full-service brokerage operation within a trust or other separate department. Compass formed a broker-dealer affiliate nearly 15 years ago. The broker-dealer affiliate was formed precisely so that Compassí bank-based retail investment sales would be conducted in a regulatory environment designed to ensure proper employee training, recordkeeping and customer disclosure. These retail-based investment product sales activities have been conducted successfully in tandem with trust department/trust company affiliate activities to ensure that customers who have more complicated, specialized or time-consuming financial-service needs will be able to obtain them. The pairing of a particular customer with Compassí trust and fiduciary services units is a reflection of customer needs and preferences, and does not emanate from an intention to avoid regulation. In fact, the relationships conducted within Compassí Asset Management Group are regulated, extensively and vigorously, by our primary federal bank regulator, the Federal Reserve Board and the home state bank regulator for Compassí lead bank subsidiary, as well as under comprehensive and exacting statutory and common-law principles of fiduciary conduct (including the state fiduciary laws of numerous states and, in the case of qualified plans, the Employee Retirement Income Security Act of 1974 ("ERISA")).
Compass does not question whether the Commission should adopt detailed guidance under the GLB Act. In fact, we believe that such guidance is not only beneficial, but is essential in ensuring that institutions like Compass may determine how to structure their widespread and diverse activities in a manner that complies with the requirements of the GLB Act. In this regard, Compass also believes that the Commissionís guidance under the GLB Act push-out provisions should address all of the push-out exceptions, not just the six broker exceptions and the one dealer exception covered by the Interim Final Rules, and should also provide specific guidance regarding the applicability of NASD Conduct Rule 3040 to "dual hatted" employees of banks and broker-dealers. Moreover, the Commissionís guidance regarding the push-out exceptions should be devised to allow banks to utilize the expanded legal powers afforded under the GLB Act with the greatest degree of flexibility possible, consistent with the admitted purpose of the GLB Act to prevent full-service financial services firms from circumventing Commission regulation through a trust department.
As currently drafted, the Interim Final Rules, would require the fragmentation of customer relationships and impose burdens on banks in a number of instances that simply do not appear to be warranted under the GLB Act. As discussed below, we also believe that, in some cases, the manner in which the Interim Final Rules attempt to differentiate between activities that must be pushed-out and those that do not either will have minimal impact on providing investor protection or will in fact have a negative impact on investor protection.
In addition, and equally important, is our concern that it is not realistic to expect banks to comply with the provisions of the Interim Final Rules within the very short timeframe afforded by the Interim Final Rules. This is particularly true given the fact that the Interim Final Rules were issued without the Commission receiving the benefit of public comment, a process that the Commission itself clearly advocates. Banks thus have been placed in the position of having to take steps now to comply by the effective date, without knowing whether or when the rules might be changed. Given the importance and complexity of the Interim Final Rules, and the enormous potential impact they will have on the way banks do business, finalization of the rules should occur only following a suitable period of public comment, followed by a reasonable period to achieve compliance.
In light of these concerns, Compass respectfully requests that the Commission withdraw the Interim Final Rules in their current form and reissue them as proposed rules in a significantly revised form that is more consistent with congressional intent. This would allow affected institutions more time to provide constructive comments. In any event, Compass strongly encourages the Commission to delay the effectiveness of any Commission guidance concerning the GLB Actís push-out provisions until at least one year following the publication of the rule in final form following a suitable period of public comment.
On June 29, 2001, the federal banking regulatory agencies (the "Bank Regulators") submitted an extensive comment letter (the "Bank Regulator Comment Letter") to the Commission regarding the Interim Final Rules. The Bank Regulators expressed "serious concerns about the validity and content of a number of provisions of the Interim Final Rules, as well as the process the Commission employed to issue them." In calling for the Commission to modify the Interim Final Rules, to take steps immediately to treat the Interim Final Rules as proposed rules and to extend the effective date of the GLB Actís push-out provisions until at least one-year after the proposed rules are issued as final rules, the Bank Regulators note, among other things, the following:
The Bank Regulator Comment Letter provides a detailed discussion of many of Compassí concerns regarding the Interim Final Rules. As noted above, Compass also agrees, in substance, with the course of action the Bank Regulators recommend that the Commission take in addressing these concerns. Rather than rehashing each of the points discussed in the Bank Regulator Comment Letter, we will amplify below our concerns regarding certain aspects of the Interim Final Rules.
A.Issuance of the Rules in "Interim Final" Form.
The Commission issued its "interim final" rules on May 11, 2001, without a period of advance notice, public comment and Commission response to public comment. The rule release requires institutions to comply by October 1, 2001 (or January 1, 2002, in the case of necessary changes in compensation arrangements). In order to avoid the legal risk associated with possible noncompliance as of the effective date, banks must adopt expensive and complex procedures to comply with the rules without knowing whether, or when, the rules will be revised.
Given the complexity of the Interim Final Rules and the need for clarification, if not substantial revision, to a number of its key provisions, it must be recognized that there is significant likelihood that many institutions will not be able to comply by the bifurcated effective date. Although Compass is fully committed to taking all steps available to us to achieve compliance with the GLB Act push-out provisions at the earliest practicable date, Compass had hoped that the Commissionís guidance, once issued, would assist us in determining the best alternative for achieving compliance from the standpoint of cost-effectiveness and minimization of fragmentation of personnel and customer relationships. Several of the Interim Final Rulesí provisions as presently written -- most notably, the trust and fiduciary exception guidelines, the chiefly compensated guidelines, the restrictions on order-taking in custodial/safekeeping accounts and the restrictions on employee compensation -- are contrary to current practice to such an extent as to give rise to serious questions on our part regarding whether compliance realistically can be achieved prior to the effective date. The potential impact on the current framework on some lines of business may be so significant that Compass may have no choice but to discontinue those activities until clarification is provided. This will harm not only Compass, but also will result in disruption of the services our customers look to us to provide. Our hope that these provisions will be significantly rewritten in response to the Bank Regulator Comment Letter and our comments only serves to exacerbate our concerns with undertaking at this time the substantial changes in operations, recordkeeping and reporting structures that compliance ultimately will entail.
The Commission should reissue the rules in proposed form, and following the comment period, issue the rules in final form with an extended compliance date at least one year after the final rules are issued. This will allow institutions to make the necessary preparations for the rules, as they will exist in final form.
1.Calculation of the "Chiefly Compensated" Requirement for Trust and Fiduciary Activities Exception
The Bank Regulator Comment Letter discusses in detail many of the reasons why the "chiefly compensated" test under the trust and fiduciary exception is unduly and unnecessarily restrictive and burdensome and likely to interfere with the conduct of the traditional trust and fiduciary activities of banks. We concur with the Bank Regulators that such a result is inconsistent with the intent of Congress in enacting the GLB Act and is not necessary in order to achieve the purposes of the GLB Act. The following are among the most significant of the concerns we have regarding the unworkable nature of the chiefly compensated test, as presently written, and the inconsistency of the test with traditional bank trust and fiduciary practices:
The language of the GLB Act does not mandate an account-by-account review under the chiefly compensated test and, in light of the clear intent of Congress to avoid disturbing the manner in which banks have typically provided trust and fiduciary services, the Commission should not adopt a rule requiring such a review unless doing so is essential in achieving the goals of the GLB Act. The Commissionís push-out rule should be designed to recognize that a bankís trust and fiduciary accounts are subject to push-out only if the institutionís trust operations, taken as a whole, reflect an attempt to evade Commission regulation by wide-scale "housing" of brokerage accounts in the trust department. We would respectfully submit that requiring account-by-account analysis of the chiefly compensated test is not essential to achieving this goal and is unwarranted in light of the extreme recordkeeping and administrative burdens it will place on banks.
The prospect of having to track compliance with the chiefly compensated test on a manual, as compared to an automated, basis is virtually unfathomable. Instituting an automated tracking system, and particularly a system that would track compensation in a manner consistent with the relationship compensation, sales compensation, and unrelated compensation classifications created by the Interim Final Rules, would require negotiation of additional services from Compassí trust accounting system vendor. Assuming the vendor agrees to provide such additional services, the development and implementation of the tracking systems would likely involve considerable lead time for the vendor to program and test the systems and for the proper training of bank personnel. The implementation of such a tracking system, whether manual or automated, surely would involve considerable expense -- expense that ultimately may have to be passed on to customers in the form of additional fees.
Of particular concern is the manner in which the Interim Final Rules appear to impact the receipt of investment advisory fees and other asset-based fees from mutual funds. In order to comply with applicable fiduciary laws (including ERISA, where applicable), banks investing trust and fiduciary assets into their "proprietary" mutual funds take action to avoid charging for investment advice at the account level while at the same time receiving a full investment advisory fee at the mutual-fund level. In some instances this is achieved by not charging an account-level fee for investment advice on assets invested in the mutual funds (the "unbundled" approach), while in other instances this is achieved by an offset, credit or rebate of the mutual-fund level investment advisory fee. The banking regulators, as well as the Department of Labor in the case of ERISA accounts, have mandated these fee structures precisely because these account are trust and fiduciary accounts under applicable law. In any event, investment advisory fees may be paid by a mutual fund only for bona fide investment advisory services and, when retained by a bank in respect of a trust or fiduciary account, such fees are being accepted for investment advisory services, not as compensation for effecting transactions in the shares of the mutual fund. Under these circumstances, treating the investment advisory compensation as anything other than qualifying compensation for purposes of the chiefly compensated test is unfair and unnecessary. In the case of Compass, we would estimate that, absent modifications or clarifications in the Interim Final Rules, this single aspect of the Interim Final Rules may require that thousands of trust and fiduciary relationships be disrupted by the push-out.
Similarly, in recent years, banks and other financial institutions have accepted payments from mutual funds, including third-party mutual funds for shareholder servicing, subaccounting, administrative and similar services provided on behalf of trust and fiduciary customers. Again, the receipt of these fees by bank fiduciaries is authorized under state law and ERISA under guidelines designed to ensure the trust or fiduciary account receives sufficient benefit from the arrangement. Under the Interim Final Rules, some of these fees would appear to be classified as sales compensation and others as "unrelated compensation." Mutual fund investment advisory fees, shareholder servicing fees, administrative service fees, subaccounting fees and the like are not the type of transaction-based sales commissions that should trigger push-out. We would also note that it is our understanding that the Commission has recognized that shareholder servicing, subaccounting, administrative and similar fees may be paid by mutual funds to third parties for services that benefit the funds, and that these fees, even if paid under a Rule 12b-1 plan, are distinguishable from fees paid for distribution/sales services. Moreover, by excluding all fees received from mutual funds from "relationship compensation," the Interim Final Rules would create a clear bias against unbundled relationships and may require that virtually all such relationships either be restructured or disrupted by transfer of the relationship to the bankís broker-dealer affiliate or networking partner. This result is not consistent with the intent of the GLB Act and is not necessary in order to achieve the purposes of the push-outs.
For the foregoing reasons, we request that the Commission revise the Interim Final Rules to provide that investment advisory and other fees paid by mutual funds or their sponsors, managers or administrators based on a percentage of assets constitute qualifying compensation under the chiefly compensated test. In addition, if the related/sales/unrelated classification test is retained in the rule, the rule should address the manner in which banks should account for fee offsets, credits and rebates of fund-level fees.
The Commission requested comments regarding whether the threshold under the chiefly compensated test should be more than 50%. In our view, to the extent that Section 201 of the GLB Act can fairly be read as requiring that a particular percentage of overall compensation be "qualifying" compensation, the imposition of a threshold in excess of 50% would be wholly unwarranted. Moreover, in our view the chiefly compensated language of Section 201 should be read as establishing a flexible standard that takes into account that compensation arrangements may vary for many reasons that are unrelated to any attempt on the part of the bank to run an unregistered broker-dealer operation, including based on customer preferences, legal restraints and the type of account. As noted above, we encourage the Commission to adopt an approach designed to look at an institutionís trust and fiduciary account operations as a whole, rather than on an account-by-account basis. Without regard to whether the Commission adopts such an alternative approach, guidance adopted by the Commission regarding the chiefly compensated test should reflect that the test will be satisfied so long as the primary purpose of the bankís compensation arrangements with its trust and fiduciary accounts is to compensate the bank for its trust and fiduciary services. In addition, as discussed above, accounts with court-established or court-approved fee arrangements should be deemed to satisfy the test solely by their nature.
2. Scope of the Trust and Fiduciary Services Exception
The exclusions from "trust and fiduciary," as delineated in the Interim Final Rules, for many kinds of very typical relationships is without clear basis in the GLB Act and potentially will unjustifiably and unnecessarily disrupt many types of relationships traditionally conducted in bank trust departments. The language of the GLB Act indicates that the trust and fiduciary exception is available for a bank effecting transactions in securities so long as the bank is able to comply with the statuteís compensation and advertising restrictions. Among our concerns with the manner in which the Interim Final Rules address the parameters of the trust and fiduciary exception are the following:
The continuous and regular requirement was devised by the Commission under the Investment Advisers Act for the purpose of identifying whether an adviser has a level of "assets under management" that would qualify the adviser for registration with the Commission. The application of the continuous and regular test to a determination of whether a relationship is, by its nature, a fiduciary relationship or a brokerage relationship is anomalous, and may produce results not intended by the GLB Act. The trust and fiduciary exception, in so far as it relates to situations in which the bankís only fiduciary relationship with the customer is non-discretionary investment advice, should not exclude any account where the bank effects transactions in securities for a customer primarily as an incident to investment advice it provides to the customer, for a fee, based on the bankís assessment of the individual needs of the customer. The fact that advice is provided only on a periodic or an intermittent basis, rather than "continuously and regularly," does not make the advice provided by the bank any less an exercise of fiduciary judgment. In fact, many banks, like Compass, believe that "market timing" generally is ill- advised and thus encourages its customers to take a long view of investing.
We respectfully submit to the Commission that the application of the "continuous and regular" requirement will unnecessarily interfere with the normal methods used by most banks to perform their fiduciary responsibilities to these types of accounts, without any attendant protections to the customer. Alternatively, we would submit that periodic account reviews by the bank in accordance with the guidelines of its banking regulators should be sufficient to allow reliance on the trust and fiduciary exception in this context.
As noted in Part 1 above, the Commissionís guidance concerning the chiefly compensated test should be sufficiently flexible to acknowledge that compensation structures may legitimately vary dependent on a number of factors, including the types of account. In addition, such guidance must acknowledge that accounts with court-established or court-approved fee arrangements automatically satisfy the chiefly compensated test without the necessity for further inquiry.
3.Sweep Accounts Exemption
The GLB Act exception for bank "sweep accounts" requires that customer balances be invested in "no-load," open-end investment companies. The Commissionís Interim Final Rules, however, adopt the definition used in NASD Rule 2830. Rule 2830(d)(4) provides that:
No member or person associated with a member shall, either orally or in writing, describe an investment company as being "no load" or as having "no sales charge" if the investment company has a front-end or deferred sales charge or its total charges against net assets to provide for sales related expenses and/or service fees exceed .25 of 1% of average net assets per annum.
Rule 2830(b)(8) defines "sales charge":
"Sales charge" and "sales charges," as used in paragraph (d), shall mean all charges or fees that are paid to finance sales or sales promotion expenses, including front-end, deferred and asset-based sales charges, excluding charges and fees for ministerial, recordkeeping or administrative activities and investment management fees. For purposes of this Rule, members may rely on the sales-related fees and charges disclosed in the prospectus of an investment company . . .. An "asset-based sales charge" is a sales charge that is deducted from the net assets of an investment company and does not include a service fee.
Rule 2830(b)(9) defines service fees:
"Service fees," as used in paragraph (d), shall mean payments by an investment company for personal service and/or the maintenance of shareholder accounts.
The NASDís sales charge rule was adopted as a part of the advertising standards applicable to NASD member firms. There is no indication on the face of the GLB Act or in the legislative history that Congress intended to apply this standard to a determination of whether a money market fund sweep program may continue to be conducted through the bank, or instead must be pushed-out to a broker-dealer affiliate or networking partner. In fact, we believe that the intent of the GLB Act was to preserve the ability of banks to continue to conduct sweep services directly through the bank as such services were typically conducted prior to passage of the GLB Act, i.e., by sweeping deposit-account balances into money market funds that do no charge front-end or back-end sales charges.
We believe that in enacting the sweep services exception to the push-out provisions, Congress understood that the vast majority, if not virtually all, banks providing sweep services do so in conjunction with their general cash management services, which are unquestionably part of the traditional banking services provided by banks. Business customers in particular have a strong preference for being able to link the bank deposit accounts that serve as the operating accounts for their businesses with money market mutual funds and other "overnight" investment options in order to maximize the ability to avoid uninvested cash balances. The ability to link the investment alternatives to the customerís deposit accounts is a key component. Of equal importance is the fact that most business customers utilizing sweep accounts also utilize a wide array of the other cash management services offered through the bank, including lock boxes, wiring and payment services, zero balance accounts and the like. For this reason, maintenance of the account relationship through the bankís treasury management department where all other aspects of the customerís relationship are handled is vital. If push-out is required, instead of a straightforward arrangement under which a qualified and experienced bank employee supervises all aspects of the customerís integrated treasury management relationships, the bank would have to institute complicated and costly relationships among the bank, the customer, and a broker-dealer. The GLB Act should not be read as mandating this result. This is particularly true given that money market mutual funds regulated under the Commissionís Rule 2a-7 under the Investment Company Act of 1940 are among the safest and most easily understood investment products available. In the case of deposit-account sweep programs involving money market funds without front-end or back-end sales charges, any commensurate benefit to customers of mandating push-out is equally lacking in the case of sweep programs for individual customers as in the case of business customers.
For the foregoing reasons, we encourage the Commission to modify the Interim Final Rules to clarify that the sweep services exception is available to bank in connection with money market funds that do not impose front-end or bank-end sales charges, without regard to whether the funds impose "asset-based charges" in excess of 25 basis points.
The GLB Act expressly permits banks to offer brokerage services to the bankís customers through so-called networking arrangements with a registered broker-dealer, regardless of whether the registered broker-dealer is affiliated or unaffiliated with the bank. Reliance on the networking exception is subject to a number of specific conditions imposed under Section 201 of the GLB Act, including the requirement that unregistered bank employees not receive "incentive compensation . . ., except that the bank employees may receive compensation for the referral of any customer if the compensation is a nominal one-time cash fee of a fixed-dollar amount and the payment of the fee is not contingent on whether the referral results in a transaction." In the Interim Final Rules, the Commission (a) interprets "nominal one-time cash fee of a fixed dollar amount" as a payment not exceeding one hourís gross cash wages or points in a system where the points awarded for referrals involving securities are not greater than the points awarded for activities not involving securities, (b) solicits comment on whether there should be an aggregate limit on the gross referral compensation payable to an employee, (c) interprets a referral as being contingent on the results of a transaction if certain factors are taken into account, and (d) interprets the restriction on incentive compensation in a manner that would effectively prohibit any bank branch, department or line-of-business incentive programs where securities transactions are taken into account.
The Commissionís approach to the networking exception, and particularly in the recognition of point systems in lieu of cash referral fees, reflects sensitivity on the part of the Commission to the need to provide flexibility to banks in the way they structure compensation arrangements within the context of the networking rule. However, in several important respects we believe that the Commissionís approach is unduly restrictive and fails to take into account the practical issues banks face in attempting to ensure compliance with the securities laws, ensure that customers will be solicited for suitable products (whether securities products or traditional banking products), and ensure that their employees at every level have appropriate incentives to pursue these goals. We will outline some of our critical concerns below for the Commissionís consideration.
Compass has maintained a successful networking arrangement for years. Because Compass seeks to empower its "relationship managers" to identify customer needs and act promptly and efficiently in addressing those needs, Compass currently has licensed approximately 8% of its workforce as representatives of its broker-dealer affiliate. Our understanding is that the networking exception was included in the GLB Act so that pre-existing networking arrangements of this type would be allowed to continue without material change. Nonetheless, the narrow reading of the networking exception reflected in the Interim Final Rules may require Compass to license many additional employees. Alternatively, in lieu of licensing a significant number of additional employees, Compass may be required to shift the responsibilities of certain licensed employees, in some cases drastically, and to train many other unlicensed employees to perform non-securities-related task previously performed by licensed employees. Either of these alternatives will entail significant additional expense and disruption that appear unwarranted in light of the purpose of the networking exception. Accordingly, we encourage the Commission to modify the Interim Final Rules to more clearly limit the restrictions on compensation of unlicensed employees to true transaction-based compensation.
5.Safekeeping and Custody Activities Exception
The Interim Final Rules reflect an extremely narrow reading of the provisions of the safekeeping and custody exception to the push-out rules. Section 3(a)(4)(B)(viii) of the Securities Exchange Act of 1934 ("Exchange Act"), as added by Section 201 of the GLB Act, provides that a bank will not be considered a broker merely because, as part of customary bank activities, it engages in certain specified safekeeping and custody services with respect to securities on behalf of its customers. The specified activities set forth in Exchange Act Section 3(a)(4)(B)(viii) are holding securities for customers, executing warrants or other rights on behalf of customers, facilitating the transfer of funds or securities in connection with the clearance and settlement of the customerís transactions, effecting securities lending or borrowing transactions when the securities are in the custody of the bank, investing cash collateral pledged in connection with securities lending or borrowing transactions, and facilitating the pledging or transfer of securities that involve the sale of those securities. Separate provisions, appearing in Section 3(a)(4)(C) of the Exchange Act as added by the GLB Act, require that banks relying on the safekeeping and custody exception execute trades of publicly traded U. S. securities through a registered broker or dealer. The Commissionís issuing release accompanying the Interim Final Rules nevertheless indicates that a bank may accept orders for custody accounts only in conjunction with the narrow set of specified activities listed in Section 3(a)(4)(B)(viii). This conclusion does not appear to be mandated by the language of the GLB Act and will be highly disruptive of the custody services traditionally provided by banks.
Custody and safekeeping services have been part of the core business of banking for many years. The GLB Act did not evidence an intent that banks would have to discontinue providing this core banking service. However, the highly restrictive reading of the safekeeping and custody exception appearing in the Interim Final Rules, and particularly the restrictions on order-taking except under very limited circumstances, would appear to have precisely that effect.
We share the views expressed in the Bank Regulator Comment Letter regarding the conceptual difficulties in understanding the basis for the Commissionís broad prohibition of order-taking by banks acting in a safekeeping or custody capacity. Given that the purpose of the safekeeping and custody exception is to provide an exemption from broker registration and that broker registration is only required in the first instance in regard to "effecting transactions in securities," it is difficult to understand why the Commission feels compelled to read the exception so narrowly. We would also note that, if Congress had intended to restrict order-taking under the safekeeping and custody exception, then the requirement that orders for the purchase or sale of publicly traded securities be directed to a registered broker-dealer for execution would be superfluous.
Compass provides securities safekeeping and custody services to a wide variety of customers, including other financial institutions (acting on their own behalf or acting in a fiduciary capacity), investment advisers, insurance companies, public bodies, hospitals, industrial firms and foundations, as well as wealthy individuals. Compass estimates that it currently maintains approximately 1,000 safekeeping and custody accounts containing more than $6 billion in funds and securities. Our customers chose Compass for these services not only because Compass has established the internal and external operational systems to enable the bank to "hold" the securities, but also because of Compassí extensive experience in handling the numerous administrative functions that may be necessary from time to time in conjunction with the holding of securities. These functions include, in addition to identifying and handling "corporate actions" (e.g., shareholder votes) as they arise, standing ready to assist the customer in buying or selling securities into or out of the safekeeping/custody account in an expeditious manner whenever the customer determines that such transaction should occur. In our experience, it is difficult to imagine that customers would be willing to pay a bank to handle a safekeeping or custody account unless the bank would be ready and able to assist in order-taking at some point. The prohibition on order-taking likely would require the transfer of a large number of these accounts to a registered broker-dealer.
By contrast to the extensive systems and procedures that are in place within the areas of the bank that currently provide safekeeping and custody services, Compassí broker-dealer affiliate clears through a nationally recognized clearing firm and, accordingly, is not equipped to hold customer funds or assets. This clearing relationship serves our broker-dealer and its customers well in the context of supporting genuine brokerage accounts where the regular trading of securities for the customerís account is the primary, if not exclusive, purpose of the relationship. Aside from the enormous potential disruption of long-standing customer relationships, attempting to replicate the same level of personal service for safekeeping and custody accounts within our broker-dealer may require that the firm undertake the complicated and expensive step of becoming self-clearing. We urge the Commission to revise the Interim Final Rules to avoid these costly and disruptive changes by recognizing that order-taking is a normal and expected part of providing the services covered by the safekeeping and custody exception.
While we believe that the GLB Act cannot fairly be read as restricting bank custodian order-taking activities at all, the GLB Act provides express authorization for banks to serve as custodian in conjunction with individual retirement account, pension, retirement, profit sharing, bonus, thrift savings, incentive and other similar plans. Despite the express reference to these retirement-account activities, the Interim Final Rules limit order-taking to other "specified activities" mentioned in the GLB Act. At a minimum, the Interim Final Rules should be revised to clarify that order-taking activities are permissible in conjunction with these types of retirement plan and related accounts.
Retirement assets, by their nature, are held for investment and, as a practical matter, order-taking is an inherent part of the services a custodian provides to retirement plan and related accounts. In many instances, one or more individuals serve as trustee of the plan or related account; the use of individual trustees being driven by the desire to reduce costs or to comport with the design features of the plan. Obviously, these individuals do not have the facilities or expertise to perform the securities holding, accounting, and recordkeeping and securities transactions that routinely arise. Investments within many, if not most, of these accounts are directed by the individual trustees or by plan participants. In the issuing release accompanying the Interim Final Rules, the Commission states its view that the point at which orders are taken is a critical juncture in the investment process, at which juncture customers should be protected by broker-dealer regulation. This misses the point that in the case of a highly significant number of situations in which a customer establishes a custody or safekeeping account with a bank, the customer has made the conscious decision that they do not wish to bear the expense of obtaining investment recommendations or advice concerning transactions in the account. The Commissionís rule should not mandate that this additional expense be borne by customers.
We acknowledge the Commissionís apparent recognition of these burdens and its efforts to address them through the limited exceptions for "small banks" effecting transactions for tax-deferred accounts and for banks engaging in order-taking as an accommodation for its customers. As noted above, however, in our view the GLB Actís push-out exception for safekeeping and custody activities cannot fairly be read as restricting order-taking activities that are incidental to safekeeping and custody activities, and thus, we consider the exemptions to be unnecessary. If exemptive relief is to be provided by the Commission, however, for the reasons noted below we consider the exemptions provided in Rules 3a4-4 and 3a4-5 to be unduly limited in scope and restrictive.
6.Applicability of NASD Rule 3040
We concur with the Banking Regulators that it is essential that the Commission clarify that NASD Rule 3040 is not applicable to dual employees operating in their capacity as bank employees when effecting transactions pursuant to one of the push-out exceptions. As noted in the Bank Regulator Comment Letter, if Rule 3040 is deemed applicable to bank/broker "dual employees," the rule may require that a dual employee effecting a securities transaction in his or her capacity as a bank employee have the transaction approved and monitored by the broker-dealer and that the funds for the transaction be transferred to the books and records of the broker-dealer. The push-out exceptions should not be applied in a manner that negates the ability of banks to use dual-employee arrangements where doing so will ensure that a properly securities-licensed employee is involved in those transactions triggering push-out and that the same employee can act in his or her bank employee capacity in those transactions not triggering the push-out. The use of dual employees will significantly reduce the instances in which it is necessary to "uproot" a customer relationship that has traditionally been handled in a particular department (e.g., the trust department or municipal/government bond department) and only limited aspects of the customer relationship require the involvement of a licensed securities representative.
7.Execution Through Registered Broker-Dealers
Section 3(a)(4)(C) of the Exchange Act, as added by Section 201 of the GLB Act, provides that a bank relying on certain exceptions to the push-out requirement, including the trust and fiduciary exception and the safekeeping and custody exception, must direct trades of publicly traded securities to a registered broker or dealer for execution. A statutory exception is granted for cross trades and substantially similar trades.
In Rule 3a4-6, the Commission has granted an exemption to permit transactions in investment company securities to be processed through the National Securities Clearing Corporationís Mutual Fund Services, including Fund/SERV. The Fund/SERV system has greatly enhanced the operational efficiency of processing mutual fund transactions in a number of instances, and we appreciate the efforts of the Commission to clarify that continued use of the system is not restricted by Section 3(a)(4)(C). It should be noted, however, that many mutual funds are not supported on the Fund/SERV system and that bank trust departments routinely buy and sell mutual fund shares directly through mutual fund transfer agents. Fund/SERV is a relatively recent development, whereas direct transactions through mutual fund transfer agents have been highly prevalent for many years. In fact, it would be enormously inefficient to require that a separate brokerage arrangement be established for each account and that each trade be executed separately through the broker. We certainly are not aware of any investor-protection issues that have arisen from direct mutual fund trades that would justify institutionalizing this inefficiency or the attendant added expense the customer will suffer.
As the Commission is aware, mutual fund shares typically are not "traded" in the normal sense and, instead are purchased from the fund and redeemed upon sale. Accordingly, we believe that the Commission should clarify that shares of open-end investment companies (i.e., mutual funds) are not "publicly traded securities" within the meaning of Section 3(a)(4)(C) unless the shares are, in fact, traded on a recognized exchange.
If, however, the Commission determines to retain the exemptive approach, the exemption should be expanded to permit transactions through other registered clearing agencies and to permit banks acting on behalf of their trust, fiduciary, custody and stock-purchase-plan customers to execute trades directly with the fundís transfer agent.
Compass wholeheartedly supports the efforts of the Commission to provide much-needed guidance regarding the scope and effect of the exceptions to the GLB Act push-out provisions. Compass believes, however, that the Interim Final Rules fail, in several important respects, to provide guidance that is consistent with the GLB Actís purposes of allowing banks to preserve the manner in which a number of important practices have been conducted and providing a framework for banks to utilize their expanded powers under the GLB Act with a minimal level of overlapping regulation. Perhaps more importantly, implementation of the Interim Final Rules in their current form would result in unnecessary and confusing fragmentation of customer relationships. Accordingly, Compass respectfully requests that the Commission withdraw the Interim Final Rules in their current form and work with the Banking Regulators and representatives of the financial services industry to reissue them as proposed rules that are more reflective of congressional intent and less complex and unduly burdensome on the financial services industry.
Additionally, Compass feels strongly that the Commission needs to act as soon as possible to address the legal risk faced by banks of potential non-compliance with the push-out provisions of the GLB Act. In our view, this is best achieved by delaying the compliance date of the GLB Act push-outs and of the effective date of any corresponding Commission guidance until at least one year following the publication of the rule in final form following a suitable period of public comment.
The elimination of barriers to expansion of financial products and services pursuant to the GLB Act offers enormous potential benefits to the public. The expansion of bank powers as contemplated in the GLB Act in an environment that avoids unnecessary regulatory restraints and burdens is essential to the financial modernization contemplated by the GLB Act. Compass is confident that a cooperative effort by the Commission and the Banking Regulators, aided by appropriate input from the financial services industry, can result in an approach to the push-outs that properly balances the need for investor protection and the expansion of bank powers under the GLB Act.
Thank you for considering Compassí views on these important issues. If you have any further questions or comments on this matter, please do not hesitate to contact me at (205) 297-3960 or our counsel Richard L. Pearson, Balch & Bingham LLP at (205) 226-3443.
/s/ Jerry W. Powell
Jerry W. Powell