Amendments to Rule 15c3-1 and Rule 17a-11 Applicable to Broker-Dealers Also Registered as Futures Commission Merchants, 60636-60644 [E6-16956]
Download as PDF
60636
Federal Register / Vol. 71, No. 198 / Friday, October 13, 2006 / Proposed Rules
SECURITIES AND EXCHANGE
COMMISSION
17 CFR Part 240
[Release No. 34–54575; File No. S7–16–06]
RIN 3235–AJ72
Amendments to Rule 15c3–1 and Rule
17a–11 Applicable to Broker-Dealers
Also Registered as Futures
Commission Merchants
Securities and Exchange
Commission.
ACTION: Proposed rule.
AGENCY:
SUMMARY: The Securities and Exchange
Commission is proposing for comment
amendments to conform provisions of
its net capital rule to changes to the net
capital rule of the Commodity Futures
Trading Commission. The proposed
amendments would apply to brokerdealers also registered as futures
commission merchants with the
Commodity Futures Trading
Commission. The Securities and
Exchange Commission also is proposing
to amend certain rules related to
subordinated debt agreements to
conform those rules to the Commodity
Futures Trading Commission’s amended
net capital rules. Finally, the Securities
and Exchange Commission is proposing
to amend its early warning provisions to
require that it be notified if a brokerdealer also registered as a futures
commission merchant must warn the
Commodity Futures Trading
Commission or a designated selfregulatory organization that its adjusted
net capital has fallen below specified
levels.
Comments should be received on
or before November 13, 2006.
ADDRESSES: Comments may be
submitted by any of the following
methods:
DATES:
Electronic Comments
ycherry on PROD1PC64 with PROPOSALS2
• Use the Commission’s Internet
comment form (https://www.sec.gov/
rules/proposed.shtml); or
• Send an e-mail to rulecomments@sec.gov. Please include File
Number S7–16–06 on the subject line;
or
• Use the Federal eRulemaking Portal
(https://www.regulations.gov). Follow the
instructions for submitting comments.
Paper Comments
• Send paper comments in triplicate
to Nancy M. Morris, Secretary,
Securities and Exchange Commission,
100 F Street, NE., Washington, DC
20549–1090.
VerDate Aug<31>2005
15:27 Oct 12, 2006
Jkt 211001
All submissions should refer to File
Number S7–16–06. This file number
should be included on the subject line
if e-mail is used. To help us process and
review your comments more efficiently,
please use only one method. The
Commission will post all comments on
the Commission’s Internet Web site
(https://www.sec.gov/rules/
proposed.shtml). Comments also are
available for public inspection and
copying in the Commission’s Public
Reference Room, 100 F Street, NE.,
Washington, DC 20549. All comments
received will be posted without change;
we do not edit personal identifying
information from submissions. You
should submit only information that
you wish to make available publicly.
FOR FURTHER INFORMATION CONTACT:
Michael A. Macchiaroli, Associate
Director, at (202) 551–5525; Thomas K.
McGowan, Assistant Director, at (202)
551–5521; or Bonnie L. Gauch, Special
Counsel, at (202) 551–5524, Division of
Market Regulation, Securities and
Exchange Commission, 100 F Street,
NE., Washington, DC 20549–6628.
I. Introduction
The Securities and Exchange
Commission (‘‘Commission’’) is
proposing to amend its financial
responsibility rules for broker-dealers
registered with the Commodity Futures
Trading Commission (‘‘CFTC’’) under
the Commodity Exchange Act (‘‘CEA’’)
as futures commission merchants
(‘‘FCMs’’). The Commission’s net capital
rule, Rule 15c3–1,1 imposes minimum
financial (net capital) requirements on
broker-dealers. The CFTC’s adjusted net
capital rule, Rule 1.17,2 similarly
imposes minimum financial
requirements on FCMs. Under Rule
15c3–1(a)(1)(iii), a broker-dealer/FCM
must maintain net capital of no less
than the greater of its requirements
under the applicable provisions of Rule
15c3–1 or four percent of the funds that
must be segregated under the CEA and
its rules. The requirement to maintain at
least four percent of segregated funds
was intended to conform Rule 15c3–1 to
the CFTC’s Rule 1.17.3
In 2004, the CFTC amended Rule 1.17
and adopted certain new net capital
requirements applicable to FCMs.4
Before adoption of the amended capital
1 17 CFR 240.15c3–1. Section 15(c)(3) of the
Securities Exchange Act of 1934 (the ‘‘Exchange
Act’’) authorizes the Commission to impose, by
regulation, minimum financial requirements on
broker-dealers (15 U.S.C. 78o(c)(3)).
2 17 CFR 1.17.
3 See Exchange Act Release No. 15898 (Jun. 5,
1979), 44 FR 24884 (Jun. 15, 1979).
4 The new rules became effective on September
30, 2004. See 69 FR 49784 (Aug. 12, 2004).
PO 00000
Frm 00002
Fmt 4701
Sfmt 4702
requirements, Rule 1.17(a)(1)(i)(A)–(D)
required an FCM to maintain minimum
adjusted net capital equal to, or in
excess of, the greatest of the following:
(1) $250,000; (2) four percent of an
amount that equals the total of funds
required to be segregated for customer
trading on U.S. commodity markets
under section 4d(a)(2) of the CEA and
the funds required to be secured for
customer trading on foreign commodity
markets under Rule 30.7 to the CEA,
less the market value of options
purchased by customers for which the
full premiums have been paid
(‘‘segregated funds’’); (3) the amount of
adjusted net capital required by a
registered futures association; or (4) for
broker-dealer/FCMs, the amount of net
capital required under Rule 15c3–1(a).
CFTC Rule 1.17(a)(1)(i)(B), as
amended, eliminates the four percent of
segregated funds provision. Instead, the
amended rule requires an FCM to
maintain adjusted net capital equal to a
specified percentage of the margin
required to be collected under exchange
or clearing organization rules. Under
amended CFTC Rule 1.17(a)(1)(i)(B), an
FCM must maintain adjusted net capital
equal to the following: (1) Eight percent
of the total risk margin requirement 5 for
positions carried by the FCM in
customer accounts; 6 plus (2) four
percent of the total risk margin
requirement for positions carried by the
FCM in noncustomer accounts.7
The CFTC intended changes to Rule
1.17 to address material limitations on
the segregated funds method of
computing net capital.8 For example,
the segregated funds method did not
reflect fully the extent to which an FCM
was exposed to commodity positions
carried for both customers and
noncustomers. The segregated funds
method did not include ‘‘funds held by
an FCM on behalf of foreign-domiciled
customers trading on foreign commodity
markets, nor [did] it include funds held
by an FCM on behalf of noncustomers
trading on either U.S. or foreign futures
and options markets.’’ 9 This method
also did not include ‘‘letters of credit
deposited as margin or reflect the
additional risks posed by open positions
in customer accounts that liquidate to a
deficit.’’ 10 Finally, the segregated funds
method of calculating net capital
‘‘subjects an FCM to a higher
5 CFTC Rule 1.17(b)(8) defines ‘‘risk margin’’ (17
CFR 1.17(b)(8)).
6 CFTC Rule 1.17(b)(7) defines ‘‘customer
account’’ (17 CFR 1.17(b)(7)).
7 CFTC Rule 1.17(b)(4) defines ‘‘noncustomer
account’’ (17 CFR 1.17(b)(4)).
8 See 68 FR 40835, 40837 (July 9, 2003).
9 Id.
10 Id.
E:\FR\FM\13OCP2.SGM
13OCP2
Federal Register / Vol. 71, No. 198 / Friday, October 13, 2006 / Proposed Rules
requirement in situations where the
FCM requires additional margin from
customers or carries free credit balances
for its customers, despite the risk
reducing effect of holding higher levels
of customer funds.’’ 11 The CFTC
amended Rule 1.17 to address these
concerns and conform its net capital
requirement to the net capital
requirements implemented by the
National Futures Association (‘‘NFA’’),
two exchanges, and a clearing
organization.
The Commission is proposing to
amend Rule 15c3–1 to reflect the
amendments to CFTC Rule 1.17, and is
also proposing to amend paragraph (c)
of Rule 17a–11,12 which generally
requires a broker-dealer to notify the
Commission and its designated
examining authority (‘‘DEA’’) if it fails
to maintain certain levels of net capital.
II. Proposed Amendments
A. Amendments to Rule 15c3–1
1. Amendments to Rule 15c3–1(a)(1)(iii)
The Commission is proposing to
amend Rule 15c3–1(a)(1)(iii) to conform
to amended CFTC Rule 1.17. The
proposed amendments to Rule 15c3–
1(a)(1)(iii) would require a brokerdealer/FCM to maintain net capital of
not less than the greater of the
following: (1) Its requirement under
paragraph (a)(1)(i) or (ii) of Rule 15c3–
1; or (2) eight percent of the total risk
margin requirement for positions carried
by the FCM in customer accounts plus
four percent of the total risk margin
requirement for positions carried by the
FCM in noncustomer accounts (‘‘risk
margin-based capital requirement’’).
ycherry on PROD1PC64 with PROPOSALS2
2. Amendments to Rule 15c3–1(e)(2)(ii)
The Commission also is proposing to
amend Rule 15c3–1(e)(2)(ii) to conform
it to CFTC Rule 1.17(e)(1)(ii). Rule
15c3–1(e)(2)(ii) prohibits a brokerdealer/FCM from withdrawing equity
capital if the withdrawal would cause
the broker-dealer/FCM’s net capital to
fall below, among other standards, a
specified percentage of its minimum net
capital dollar amount or a specified
level of aggregate indebtedness, or its
‘‘net capital would be less than 7
percent of the funds required to be
segregated pursuant to the Commodity
Exchange Act and the regulations
thereunder’’ after the withdrawal. The
Commission is proposing to replace the
seven percent of segregated funds
requirement with the amended CFTC
Rule 1.17(e)(1)(ii) requirement of 120
percent of the risk margin-based capital
requirement.
B. Amendments to Appendix D to Rule
15c3–1
The Commission also is proposing to
amend certain provisions of Appendix
D to Rule 15c3–1 (‘‘Rule 15c3–1d’’),13
which contains minimum and nonexclusive requirements for satisfactory
broker-dealer subordination agreements.
Specifically, the Commission is
proposing to amend paragraphs
(b)(6)(iii), (b)(7), (b)(8)(i)(A),
(b)(10)(ii)(B), (c)(2), (c)(5)(i)(B),
(c)(5)(ii)(A), and (c)(7) of Rule 15c3–1d,
which relate to repayment and
prepayment of subordinated debt. Both
Rule 15c3–1 and CFTC Rule 1.17
prohibit a broker-dealer or an FCM,
respectively, from repaying or prepaying
subordinated debt if the payments
would cause the broker-dealer’s or
FCM’s net capital to fall below certain
thresholds.
1. Amendments to Rule 15c3–
1d(b)(6)(iii)
The Commission is proposing to
replace the segregated funds
requirement of Rule 15c3–1d(b)(6)(iii)
with a risk margin-based capital
requirement to conform it to the CFTC’s
amended Rule 1.17(h)(2)(vi)(C)(2). Rule
15c3–1d(b)(6)(iii) permits a
subordinated lender to reduce the
unpaid principal amount of a secured
demand note pledged to a broker-dealer
with the consent of the broker-dealer
and its DEA. The reduction, however,
may not cause the broker-dealer’s
aggregate indebtedness to exceed a
specified level of net capital or its net
capital to fall below a specified level of
aggregate debit items or, if the brokerdealer also is registered as an FCM, its
net capital to fall below seven percent
of the funds that must be segregated
under the CEA and its rules, if that
segregated amount is greater. The
proposed amendment to Rule 15c3–
1d(b)(6)(iii) would conform to amended
CFTC Rule 1.17(h)(2)(vi)(C)(2) and
replace the seven percent of segregated
funds requirement with 120 percent of
the risk margin-based capital
requirement.
2. Amendments to Rule 15c3–1d(b)(7)
The Commission is proposing to
replace the segregated funds
requirement of Rule 15c3–1d(b)(7) with
a risk margin-based capital requirement
to conform it to the CFTC’s amended
Rule 1.17(h)(2)(vii)(A)(2). Rule 15c3–
1d(b)(7) permits a broker-dealer to
prepay subordinated debt if the
11 Id.
12 17
CFR 240.17a–11(c).
VerDate Aug<31>2005
15:27 Oct 12, 2006
13 17CFR
Jkt 211001
PO 00000
240.15c3–1d.
Frm 00003
Fmt 4701
Sfmt 4702
60637
prepayment occurs at least one year
after the effective date of the
subordination agreement and the
broker-dealer meets certain other
requirements. A broker-dealer/FCM may
not prepay subordinated debt, however,
if the prepayment would cause its
aggregated indebtedness to exceed a
specified level of net capital or its net
capital to fall below a specified
percentage of the minimum net capital
dollar amount, fall below a specified
level of aggregate debit items or, if the
broker-dealer also is registered as an
FCM, its net capital to fall below seven
percent of the funds that must be
segregated under the CEA and its rules,
if that amount is greater. The proposed
amendment to Rule 15c3–1d(b)(7)
would conform to amended CFTC Rule
1.17(h)(2)(vii)(A)(2) and replace the
seven percent of segregated funds
requirement with 120 percent of the risk
margin-based capital requirement.
3. Amendments to Rule 15c3–
1d(b)(8)(i)(A)
The Commission is proposing to
replace the segregated funds
requirement of Rule 15c3–1d(b)(8)(i)(A)
with a risk margin-based capital
requirement to conform it to the CFTC’s
amended Rule 1.17(h)(2)(viii)(A)(2).
Rule 15c3–1d(b)(8)(i)(A) requires a
broker-dealer/FCM to suspend
repayment of subordinated debt if the
repayment would cause its aggregated
indebtedness to exceed a specified level
of net capital or its net capital to fall
below a specified level of aggregate
debit items or, if the broker-dealer also
is registered as an FCM, its net capital
to fall below six percent of the funds
required to be segregated under the CEA
and its rules, if that amount is greater.
The proposed amendment to Rule 15c3–
1d(b)(8)(i)(A) would conform to
amended CFTC Rule
1.17(h)(2)(viii)(A)(2) and replace the six
percent of segregated funds requirement
with 120 percent of the risk marginbased capital requirement.
4. Amendments to Rule 15c3–
1d(b)(10)(ii)(B)
The Commission also is proposing to
replace the segregated funds
requirement of Rule 15c3–
1d(b)(10)(ii)(B) to reflect the CFTC’s risk
margin-based capital requirements. Rule
15c3–1d(b)(10)(ii)(B) limits the events of
default that may accelerate a brokerdealer/FCM’s obligation to repay
subordinated debt. Those events of
default occur if a broker-dealer/FCM’s
aggregate indebtedness exceeds 1500
percent of its net capital, its net capital
computed under Rule 15c3–1(a)(1)(ii) is
less than two percent of aggregate debit
E:\FR\FM\13OCP2.SGM
13OCP2
60638
Federal Register / Vol. 71, No. 198 / Friday, October 13, 2006 / Proposed Rules
items as computed under Rule 15c3–3a,
or its net capital is less than four
percent of the funds required to be
segregated under the CEA and its rules,
if that amount is greater. The proposed
amendment to Rule 15c3–1(b)(10)(ii)(B)
would replace the four percent of
segregated funds requirement with the
risk margin-based capital requirements
of proposed Rule 15c3–1(a)(1)(iii).
ycherry on PROD1PC64 with PROPOSALS2
5. Amendments to Rule 15c3–1d(c)(2)
Furthermore, the Commission is
proposing to replace the segregated
funds requirement of Rule 15c3–1d(c)(2)
with a risk margin-based capital
requirement to conform it to the CFTC’s
amended Rule 1.17(h)(3)(ii)(B). Rule
15c3–1d(c)(2) requires a broker-dealer/
FCM to notify its DEA if repayment of
its subordinated debt would cause its
aggregate indebtedness to exceed 1200
percent of its net capital; its net capital
to be less than 120 percent of the
minimum dollar amount required by
Rule 15c3–1; less than five percent of
aggregate debit items computed in
accordance with Rule 15c3–3a; or its net
capital to be less than six percent of the
funds required to be segregated under
the CEA and its rules, if that amount is
greater. The proposed amendment to
Rule 15c3–1d(c)(2) would conform to
amended CFTC Rule 1.17(h)(3)(ii)(B)
and replace the six percent of segregated
funds requirement with 120 percent of
the risk margin-based capital
requirement.
6. Amendments to Rule 15c3–
1d(c)(5)(i)(B)
The Commission also is proposing to
replace the segregated funds
requirement of Rule 15c3–1d(c)(5)(i)(B)
with a risk margin-based capital
requirement to conform it to the CFTC’s
amended Rule 1.17(h)(3)(v)(B). Rule
15c3–1d(5)(i)(B) permits a broker-dealer
to enter into temporary subordination
agreements (terms of no more than 45
days), subject to specified conditions, so
that the broker-dealer may engage in
securities underwriting and other
extraordinary activities. A brokerdealer/FCM operating under Rule 15c3–
1(a)(1)(ii) may not enter into a
temporary subordination agreement,
however, if its net capital is less than
five percent of its aggregate debit items
computed under Rule 15c3–3a or seven
percent of the funds required to be
segregated under the CEA or its rules, if
that amount is greater. The proposed
amendment to Rule 15c3–1d(c)(5)(i)(B)
would conform to amended CFTC Rule
1.17(h)(3)(v)(B) and replace the seven
percent of segregated funds requirement
with 120 percent of the risk marginbased capital requirement.
VerDate Aug<31>2005
15:27 Oct 12, 2006
Jkt 211001
7. Amendments to Rule 15c3–
1d(c)(5)(ii)(A)
Finally, the Commission is proposing
to replace the segregated funds
requirement of Rule 15c3–1d(c)(5)(ii)(A)
with a risk margin-based capital
requirement to conform it to the CFTC’s
amended Rule 1.17(h)(2)(vii)(B)(2). Rule
15c3–1d(c)(5)(ii)(A) permits a brokerdealer to enter into a revolving
subordinated loan agreement that
provides for prepayment within less
than one year. A broker-dealer/FCM
may not prepay subordinated debt,
however, if, as a result of the
prepayment, its aggregate indebtedness
would exceed 900 percent of its net
capital; its net capital would be less
than 200 percent of the minimum dollar
amount required under Rule 15c3–1; its
net capital would be less than six
percent of aggregate debit items
computed under Rule 15c3–3a (for
broker-dealer operating under Rule
15c3–1(a)(1)(ii)); or its net capital would
be less than ten percent of the funds
required to be segregated under the CEA
or its rules, if that amount is greater.
The proposed amendment to Rule 15c3–
1d(c)(5)(ii)(A) would conform to
amended CFTC Rule 1.17(h)(2)(vii)(B)(2)
and replace the ten percent of
segregated funds requirement with 125
percent of the risk margin-based capital
requirement.
8. Applicability of Amendments to Rule
15c3–1d to Existing Subordination
Agreements
Under the proposed amendments to
Rule 15c3–1d(c)(7), satisfactory
subordination agreements that comply
with Rule 15c3–1d, as in effect before
adoption of these proposed amendments
to that rule, would continue to be
deemed satisfactory until their maturity
date, if the agreements are not amended
or renewed. However, all subordination
agreements would be required to meet
the requirements of amended Rule
15c3–1d within five years of adoption of
these proposed amendments to that
rule. Amendments to, or renewals of,
subordination agreements would be
required to comply with the proposed
amendments to Rule 15c3–1d, as would
any new subordination agreements. This
proposed ‘‘grandfathering’’ provision is
intended to allow broker-dealer/FCMs
sufficient time to comply with the
proposed amendments to subordinated
debt rules in a manner that is not
unduly burdensome on either the
broker-dealer/FCMs or their DEAs,
which must approve subordinated debt
agreements under Appendix D.
PO 00000
Frm 00004
Fmt 4701
Sfmt 4702
C. Rationale for the Amendments to
Rules 15c3–1 and 15c3–1d
The Commission believes that the
proposed amendments to Rules 15c3–1
and 15c3–1d are necessary and
appropriate. First, compliance with both
the current Commission and the
amended CFTC rules could impose
duplicative or conflicting obligations on
a broker-dealer/FCM because the rules
may apply different standards. Under
current Rule 15c3–1(a)(1)(iii) and
amended CFTC Rule 1.17, a brokerdealer/FCM must maintain net capital
equal to at least the greatest of its
requirements under Rule 15c3–1(a)(1)(i)
or (ii), four percent of the funds required
to be segregated under the CEA and its
applicable rules, or the risk marginbased capital requirement under
amended CFTC Rule 1.17. That is, a
broker-dealer/FCM must maintain net
capital equal to at least the Commission
minimum applicable to broker-dealers,
the now-eliminated CFTC segregated
funds minimum, or the new CFTC
minimum applicable to FCMs. Section
15 of the Exchange Act requires the
Commission to issue those rules, in
consultation with the CFTC, that are
necessary to avoid imposing duplicative
or conflicting financial responsibility
regulations on broker-dealer/FCMs.14
The proposed amendments to Rules
15c3–1 and 15c3–1d are intended to
avoid imposing potentially duplicative
or conflicting regulations on brokerdealer/FCMs by eliminating the four
percent of segregated funds requirement
and replacing it with a risk marginbased capital requirement identical to
that contained in amended CFTC Rule
1.17.
Second, the risk margin-based capital
requirement applicable to FCMs should
be an adequate substitute for the
previous segregated funds standard. The
risk margin-based requirement has been
in place at futures exchanges for a
number of years without significant
problems.
Third, the proposed amendments to
Rule 15c3–1 also are necessary to avoid
potentially placing a broker-dealer/FCM
at a competitive disadvantage with
respect to entities registered solely as
broker-dealers or FCMs. Sole registrants
might be subject to lower regulatory
14 Section 15 of the Exchange Act requires the
Commission, in consultation with the CFTC, to:
issue such rules, regulations, or orders as are
necessary to avoid duplicative or conflicting
regulations applicable to any broker or dealer
registered with the Commission pursuant to section
15(b) (except paragraph (11) thereof), that is also
registered with the Commodity Futures Trading
Commission pursuant to section 4f(a) of the
Commodity Exchange Act * * * with respect to
application of * * * financial responsibility rules.
15 U.S.C. 78o(c)(3)(B).
E:\FR\FM\13OCP2.SGM
13OCP2
Federal Register / Vol. 71, No. 198 / Friday, October 13, 2006 / Proposed Rules
ycherry on PROD1PC64 with PROPOSALS2
costs than a combined broker-dealer/
FCM, which could be required to
maintain higher capital than either the
broker-dealer or FCM net capital rules
would require a sole registrant to
maintain.
Fourth, the proposed amendments
should provide the Commission with
enhanced ability to monitor the
financial position of broker-dealer/
FCMs. The proposed amendments to
Rule 15c3–1 would permit the
Commission to oversee a broker-dealer/
FCM for capital problems arising from
the firm’s futures business. A brokerdealer/FCM might be in a financial
position in which its net capital
otherwise is sufficient for the securities
aspect of Rule 15c3–1, but is insufficient
for purposes of the risk margin-based
capital requirement for its futures
business. Under the proposed
amendments to Rule 15c3–1, a brokerdealer’s failure to maintain sufficient
risk margin-based capital, which is a
violation of CFTC Rule 1.17, also would
be a violation of the Commission’s net
capital rule. The Commission, therefore,
could force the broker-dealer/FCM to
take corrective action (or require it to
cease conducting business), an ability
the Commission would not have
without the proposed amendments.
D. Amendments to Rule 17a–11,
Notification Provisions for Brokers and
Dealers
We are proposing to amend paragraph
(c) of Rule 17a–11,15 which generally
requires a broker-dealer to notify the
Commission and its DEA if it fails to
maintain certain levels of net capital.
Specifically, the Commission is
proposing to amend paragraph (c) of
Rule 17a–11 to redesignate existing
paragraph (c)(4) as paragraph (c)(5); and
add a new paragraph (c)(4).
Proposed new paragraph (c)(4) would
require a broker-dealer/FCM to notify
the Commission and its DEA under
circumstances in which the CFTC’s
rules would require an FCM to provide
notification to the CFTC that its
adjusted net capital had fallen below a
particular threshold. We are proposing
these amendments to help protect
customers from broker-dealer failures.
Current Rule 17a–11 does not require a
broker-dealer/FCM to notify the
Commission if its adjusted net capital
under the CFTC’s net capital rule falls
below specified requirements. The
proposed notification requirement
should provide an early warning to the
Commission that a broker-dealer/FCM
may be experiencing financial
difficulties whatever the source and
15 17
CFR 240.17a–11(c).
VerDate Aug<31>2005
15:27 Oct 12, 2006
Jkt 211001
60639
allow the Commission to take corrective
action with respect to the firm, if
necessary. The proposed amendments to
Rule 17a–11 also are consistent with
amended CFTC Rule 1.12(b)(2),16 which
requires an FCM to notify the CFTC and
its designated self-regulatory
organization if its adjusted net capital
falls below 110% of its risk marginbased requirements under
1.17(a)(1)(i)(B).
B. Proposed Use of Information
The Commission would use the
information collected under the
proposed amendments to Rule 17a–11
to determine if a broker-dealer is in
compliance with financial responsibility
rules. Specifically, the Commission
would use the information to monitor
whether broker-dealer/FCMs are
complying with the net capital rule and
relevant notification requirements.
III. Request for Comments
C. Respondents
The proposed amendments to Rule
17a–11 would apply only to brokerdealer/FCMs. As of July 31, 2006, there
were approximately 67 broker-dealer/
FCMs.19 A broker-dealer/FCM would be
required to notify the Commission and
its DEA under circumstances in which
the CFTC’s rules would require an FCM
to provide notification that its adjusted
net capital had fallen below a particular
threshold.
We invite interested persons to
submit written comments on all aspects
of the proposed amendments. Further,
we invite comment on other matters that
might have an effect on the proposals
contained in the release.
IV. Paperwork Reduction Act
Certain provisions of the proposed
amendments to Rule 17a–11 17 contain
‘‘collection of information
requirements’’ within the meaning of
the Paperwork Reduction Act of 1995.18
The Commission has submitted the
proposed amendments to the Office of
Management and Budget (‘‘OMB’’) for
review in accordance with 44 U.S.C.
3507(d) and 5 CFR 1320.11. The
Commission is revising the collection of
information entitled, ‘‘Rule 17a–11 (17
CFR 240.17a–11) Notification Provision
for Brokers and Dealers,’’ OMB Control
Number 3235–0085. An agency may not
conduct or sponsor, and a person is not
required to respond to, a collection of
information unless it displays a
currently valid control number.
A. Collection of Information under these
Amendments
As discussed, the Commission is
proposing to amend Rule 17a–11 to
provide the Commission with an early
warning of a broker-dealer/FCM’s low
capital level, which should help protect
customers from broker-dealer failures.
The proposed amendments to paragraph
17a–11(c)(4) would require a brokerdealer/FCM to notify the Commission
and its DEA under circumstances in
which the CFTC’s rules would require
an FCM to provide notification that its
adjusted net capital had fallen below a
particular threshold.
16 17
CFR 1.12(b)(2).
is no new collection of information
imposed on broker-dealer/FCMs under the
amendments to Rules 15c3–1 and 15c3–1d. The
Commission’s and CFTC’s rules, both in previous
form and as amended, require broker-dealer/FCMs
to comply with the net capital rules of both
agencies. Accordingly, the proposed amendments to
Rules 15c3–1 and 15c3–1d do not impose any new
requirements on broker-dealer/FCMs.
18 44 U.S.C. 3501 et seq.
17 There
PO 00000
Frm 00005
Fmt 4701
Sfmt 4702
D. Total Annual Reporting and
Recordkeeping Burden
Under the proposed amendment to
Rule 17a–11(c)(4), a broker-dealer/FCM
would be required to notify the
Commission and its DEA under
circumstances in which the CFTC’s
rules would require an FCM to provide
notification that its adjusted net capital
had fallen below a particular threshold.
The Commission staff estimates that 5
out of 67 broker-dealer/FCMs will file
Rule 17a–11 notifications annually.20
The staff further estimates that these
broker-dealer/FCMs would spend
annually approximately 1.25 hours (or
.25 hours each × 5 broker-dealer/FCMs)
to send the notifications.21
E. Collection of Information Is
Mandatory
The collection of information under
the proposed amendments to Rule 17a–
11 is mandatory if a broker-dealer/
FCM’s net capital falls below the
Commission’s or the CFTC’s early
warning thresholds.
19 Selected FCM Financial Data as of July 31,
2006, CFTC Division of Clearing and Intermediary
Oversight.
20 There were approximately 5,980 registered
broker-dealers as of December 31, 2005.
Approximately 450, or 7.5% (450/5,980), of those
firms filed early warning notices under Rule 17a–
11. The Commission, therefore, expects that 5
broker-dealer/FCMs (approximately 7.5% of 67
broker-dealer/FCMs) would file early warning
notices annually under Rule 17a–11.
21 A broker-dealer/FCM is already required to
draft and send these notifications to the CFTC or
DSROs pursuant to CFTC Rules. Consequently, the
only additional cost relates to the additional time
it would take the broker-dealer/FCM’s staff to send
the notification to the Commission and its DEA.
The Staff estimates, based on its experience, that it
would take an individual 15 minutes to send these
additional notifications.
E:\FR\FM\13OCP2.SGM
13OCP2
60640
Federal Register / Vol. 71, No. 198 / Friday, October 13, 2006 / Proposed Rules
F. Confidentiality
The collection of information under
the proposed amendments to Rule 17a–
11(c)(4) would be provided to the
Commission and to a broker-dealer/
FCM’s DEA, but would not be subject to
public availability.
ycherry on PROD1PC64 with PROPOSALS2
G. Record Retention Period
Rule 17a–4(b)(4) requires a brokerdealer to preserve copies of all
communications sent relating to its
business as such for no less than three
years, the first two years in an accessible
place.
H. Request for Comment
Under 44 U.S.C. 3506(c)(2)(B), the
Commission solicits comments to:
(i) Evaluate whether the proposed
collection of information is necessary
for the proper performance of the
functions of the Commission, including
whether the information would have
practical utility;
(ii) Evaluate the accuracy of the
Commission’s estimate of the burden of
the proposed collection of information;
(iii) Enhance the quality, utility, and
clarity of the information to be
collected; and
(iv) Minimize the burden of the
collection of information on those
required to respond, including through
the use of automated collection
techniques or other forms of information
technology.
Persons who desire to submit
comments on the collection of
information requirements should direct
them to OMB, Attention: Desk Officer
for the Securities and Exchange
Commission, Office of Information and
Regulatory Affairs, Washington, DC
20503, and should also send a copy of
their comments to Nancy M. Morris,
Secretary, Securities and Exchange
Commission, 100 F Street, NE.,
Washington, DC 20549–1090, and refer
to File No. S7–16–06. OMB is required
to make a decision concerning the
collections of information between 30
and 60 days after publication of this
document in the Federal Register;
therefore, comments to OMB are best
assured of having full effect if OMB
receives them within 30 days of this
publication. The Commission has
submitted the proposed collections of
information to OMB for approval.
Requests for the materials submitted to
OMB by the Commission with regard to
these collections of information should
be in writing, refer to File No. S7–16–
06, and be submitted to the Securities
and Exchange Commission, Records
Management, Office of Filings and
Information Services, 100 F Street, NE.,
Washington, DC 20549.
VerDate Aug<31>2005
15:27 Oct 12, 2006
Jkt 211001
V. Costs and Benefits of the Proposed
Amendments
A. Introduction
As discussed, the Commission is
proposing to amend Exchange Act Rules
15c3–1(a)(1)(iii) and (e)(2)(ii); 15c3–
1d(b)(6)(iii), (b)(7), (b)(8)(i)(A),
(b)(10)(ii)(B), (c)(2), (c)(5)(i)(B),
(c)(5)(ii)(A), and (c)(7); and 17a–11(c)(3),
(c)(4), and (c)(5). The CFTC amended
Rules 1.17 and 1.12 to adopt certain
new net capital requirements applicable
to FCMs.22 Broker-dealer/FCMs must
comply with both the CFTC’s and the
Commission’s net capital rules under
Rule 15c3–1(a)(1)(iii). Accordingly, the
Commission is amending Rules 15c3–1
and 15c3–1d to conform those rules to
the CFTC’s amendments. Finally, the
Commission is amending Rule 17a–11
to provide itself with an early warning
that a broker-dealer/FCM may be
experiencing financial difficulties.
The Commission has identified below
certain costs and benefits associated
with its proposed amendments. We
encourage commenters to discuss,
analyze, and supply relevant data
regarding any additional costs or
benefits.
B. Benefits
We believe that the proposed
amendments to Rules 15c3–1 and 15c3–
1d will benefit both broker-dealer/FCMs
and investors. As discussed, the
Commission is proposing to amend Rule
15c3–1(a)(1)(iii) by eliminating the
rule’s segregated funds requirement and
replacing it with the risk margin-based
capital requirement. Rule 15c3–
1(a)(1)(iii) requires a broker-dealer/FCM
to maintain net capital of not less than
the greater of its requirement under Rule
15c3–1 or four percent of the funds
required to be segregated under the CEA
and its rules. The four percent of
segregated funds requirement was
intended to conform Rule 15c3–
1(a)(1)(iii) to Rule 1.17, the CFTC’s
adjusted net capital rule, and ensure
that a broker-dealer/FCM complied with
the net capital rules of both the CFTC
and the Commission. Rule 1.17, as
amended, eliminates the four percent of
segregated funds requirement and
replaces it with a new risk margin-based
capital requirement. Proposed Rule
15c3–1(a)(1)(iii) would require a brokerdealer/FCM to maintain net capital of
not less than the greater of its
requirement under Rule 15c3–1 or a risk
margin-based capital requirement
identical to the one contained in CFTC
Rule 1.17, as amended.
22 See
PO 00000
supra, note 4.
Frm 00006
Fmt 4701
Sfmt 4702
We also are proposing to amend Rule
15c3–1(e)(2)(ii) to conform it to the
CFTC’s new risk margin-based capital
requirement. Rule 15c3–1(e)(2)(ii)
prohibits a broker-dealer/FCM from
withdrawing equity capital if the
withdrawal would cause the brokerdealer/FCM’s net capital to fall below,
among other standards, a specified
percentage of its minimum net capital
dollar amount, a specified level of
aggregate indebtedness, or a specified
percentage of the funds required to be
segregated under the CEA. CFTC Rule
1.17(e)(1)(ii), as amended, prohibits an
FCM from withdrawing equity capital if
the withdrawal would cause the FCM’s
adjusted net capital to fall below a
specified percentage of risk marginbased capital, rather than a specified
percentage of segregated funds. The
proposed amendments would substitute
the segregated funds requirement in
Rule 15c3–1(e)(2)(ii) with a risk marginbased requirement calculated under
Rule 15c3–1(a)(1)(iii).
Furthermore, the Commission is
proposing amendments to various
provisions of Rule 15c3–1d, which
contains minimum and non-exclusive
requirements for satisfactory
subordination agreement involving
broker-dealers. Repayment and
prepayment of subordinated debt under
Rule 15c3–1d generally is permissible
only if the broker-dealer/FCM maintains
net capital equal to at least a specified
percentage of net capital calculated
under Rule 15c3–1 and a specified
percentage of segregated funds. Rather
than permitting repayment or
prepayment of subordinated debt if an
FCM maintains a specified percentage of
segregated funds, the CFTC’s Rule 1.17,
as amended, permits repayment or
prepayment if the FCM maintains net
capital equal to at least a specified
percentage of its risk margin-based
capital requirement. Accordingly, the
Commission is proposing to amend Rule
15c3–1d by substituting the risk marginbased capital requirement for the
segregated funds requirement to avoid
subjecting broker-dealer/FCMs to
conflicting or duplicative regulation.
The Commission believes that the risk
margin-based capital requirement is
appropriate. Each of the amendments to
Rules 15c3–1 and 15c3–1d substitutes
the risk margin-based capital
requirement for the segregated funds
standard. The risk margin-based capital
requirement should be an adequate
substitute for the segregated funds
standard based on its implementation
and use by the futures exchanges and
FCMs’ comfort level with the
requirement.
E:\FR\FM\13OCP2.SGM
13OCP2
ycherry on PROD1PC64 with PROPOSALS2
Federal Register / Vol. 71, No. 198 / Friday, October 13, 2006 / Proposed Rules
As noted, the Commission also
believes that the amendments to Rules
15c3–1 and 15c3–1d would benefit both
broker-dealer/FCMs and investors. First,
the proposed amendments would
prevent the imposition of potentially
conflicting or duplicative regulation on
a broker-dealer/FCM. Current Rule
15c3–1(a)(1)(iii) requires a brokerdealer/FCM to maintain net capital
equal to the greater of its net capital
requirement under Rule 15c3–1 or four
percent of the funds required to be
segregated under the CEA and its rules.
The four percent of segregated funds
requirement reflects the previous
version of CFTC Rule 1.17 and has been
substituted in current CFTC Rule 1.17
with the risk margin-based capital
requirement. The proposed amendments
would substitute the risk margin-based
capital requirement for the segregated
funds requirement in Rules 15c3–1 and
15c3–1d and, therefore, free a brokerdealer/FCM from complying with a
capital requirement no longer applicable
to FCMs that are sole registrants.
Second, the proposed amendments
would help to avoid potentially placing
a broker-dealer/FCM at a competitive
disadvantage with respect to an entity
registered solely as a broker-dealer or
FCM. Neither a broker-dealer nor an
FCM is subject to the four percent of
segregated funds requirement; a brokerdealer/FCM is subject to such a
requirement unless the proposed
amendments are adopted. Accordingly,
the proposed amendments could free a
broker-dealer/FCM from making three
separate capital computations (one
based on Rule 15c3–1(a)(1)(i) or (ii), one
based on CFTC Rule 1.17, and one based
on the four percent of segregated
requirement under current Rule 15c3–
1(a)(1)(iii)) and holding unnecessarily
more net capital than its sole registrant
competitors.
Third, the proposed amendments
would enhance the Commission’s
ability to monitor the financial
condition of a broker-dealer/FCM.
Under the proposed amendments to
Rule 15c3–1, a broker-dealer’s failure to
maintain sufficient risk margin-based
capital, which is a violation of CFTC
Rule 1.17, also would be a violation of
the Commission’s net capital rule. The
Commission, therefore, could force the
broker-dealer/FCM to take corrective
action (or require it to cease conducting
business), an ability the Commission
would not have without the proposed
amendments.
Finally, the proposed amendments to
Rule 17a–11 would help protect
customers from broker-dealer failures.
Current Rule 17a–11 does not require a
broker-dealer/FCM to notify the
VerDate Aug<31>2005
15:27 Oct 12, 2006
Jkt 211001
Commission if its adjusted net capital
falls below specified requirements. The
proposed amendments to Rule 17a–11
would require a broker-dealer/FCM to
notify the Commission if its net capital
falls below certain thresholds
determined in accordance with Rule
15c3–1 or if the CFTC’s rules would
require it to notify the CFTC or a DSRO
that its adjusted net capital had
breached certain thresholds. This
notification requirement should provide
an early warning to the Commission that
a broker-dealer/FCM may be
experiencing financial difficulties.
C. Costs
There would be no costs associated
with the proposed amendments to Rules
15c3–1 and 15c3–1d. A broker-dealer/
FCM already must comply with the net
capital rules of both the Commission
and the CFTC. Likewise, a brokerdealer/FCM already must comply with
Rule 15c3–1d and comparable CFTC
subordinated debt rules.
The proposed amendments would
help ensure that broker-dealer/FCMs are
not subject to inconsistent or
duplicative regulation under Rules
15c3–1 and 15c3–1d by eliminating the
four percent of segregated funds
standard in those rules and replacing it
with the risk margin-based capital
requirement. With respect to 15c3–1d,
the applicable thresholds no longer will
be calculated based upon a segregated
funds, but upon risk margin-based,
capital, which the broker-dealer/FCM
already calculates under CFTC Rule
1.17.
As discussed, proposed Rule 17a–
11(c)(4) would require a broker-dealer/
FCM to notify the Commission and its
DEA under circumstances in which the
CFTC’s rules would require an FCM to
notify the CFTC or a DRSO that its
adjusted net capital had fallen below a
particular threshold. The cost of
notification in these circumstances
should be minimal because the brokerdealer/FCM already must notify the
CFTC.23 We estimate the annual cost of
notification under Rule 17a–11(c)(4)
would be $331 (.25 hours × $265 per
hour for a financial reporting manager 24
× 5 broker-dealer/FCMs).25
23 See
supra, note 21.
financial reporting manager is a person at a
broker-dealer with responsibility for helping to
ensure that the broker-dealer complies with its
financial reporting requirements with respect to the
Commission, other federal or state agencies and
SROs.
25 Security Industry Association’s (‘‘SIA’’) Report
on Management & Professional Earnings in the
Securities Industry 2005, modified to account for an
1800-hour work-year and multiplied by 5.35 to
account for bonuses, firm size, employee benefits
and overhead. The amount also reflects the average
24 A
PO 00000
Frm 00007
Fmt 4701
Sfmt 4702
60641
VI. Consideration of Burden on
Competition, and Promotion of
Efficiency, Competition, and Capital
Formation
Section 3(f) of the Exchange Act 26
requires the Commission, whenever it
engages in rulemaking and must
consider or determine if an action is
necessary or appropriate in the public
interest, to consider if the action will
promote efficiency, competition, and
capital formation. Under section 23(a)(2)
of the Exchange Act,27 the Commission
must consider the impact of its
rulemaking on competition. It also
prohibits the Commission from adopting
any rule that would impose a burden on
competition not necessary or
appropriate in furtherance of the
purposes of the Exchange Act.
We preliminarily believe that the
amendments to Rules 15c3–1, 15c3–1d,
and 17a–11 would promote efficiency,
competition, and capital formation. The
amendments to Rules 15c3–1 and 15c3–
1d should promote efficiency because
they would help to ensure that brokerdealer/FCMs are not subject to net
capital requirements beyond those that
the Commission already imposes on
broker-dealers and those that the CFTC
already imposes on FCMs. That is, the
amendments would not subject brokerdealer/FCMs to any new requirements
and, consequently, would not impose
any new costs. Furthermore, the
proposed amendments to Rule 17a–
11(c)(4) should promote efficiency
because they would require a brokerdealer/FCM to notify the Commission
that it has fallen below a specified
percentage of its adjusted net capital
requirement under CFTC rules, a
notification that it already must provide
to the CFTC. This notification should
help the Commission address potential
financial difficulties at a broker-dealer/
FCM before a liquidation becomes
necessary and, therefore, should help
protect customers. Each of these
provisions also should help foster
competition because they would allow
firms to function jointly as brokerdealer/FCMs without imposing
regulatory requirements beyond those
already applicable to broker-dealers and
FCMs individually.
We preliminarily believe that the
proposed amendments to Rules 15c3–1,
15c3–1d and 17a–11would promote
capital formation. By eliminating
potentially duplicative or conflicting
regulation, the proposed amendments to
between New York City salaries and Non-New York
City salaries. This is the latest report on financial
industry salaries that is available from the SIA.
26 15 U.S.C. 78c(f).
27 15 U.S.C. 78w(a)(2).
E:\FR\FM\13OCP2.SGM
13OCP2
60642
Federal Register / Vol. 71, No. 198 / Friday, October 13, 2006 / Proposed Rules
ycherry on PROD1PC64 with PROPOSALS2
Rules 15c3–1 and 15c3–1d should help
to ensure that a broker-dealer/FCM does
not unnecessarily use its assets to meet
regulatory capital requirements, freeing
those assets for business uses. Similarly,
the proposed amendments to Rule 17a–
11 should help the Commission to
identify a broker-dealer/FCM that faces
potential financial difficulties and allow
the Commission to take corrective
action to help that broker-dealer/FCM
preserve its capital which, in turn,
should help protect the broker-dealer/
FCM’s customers.
Finally, we preliminarily believe that
the proposed amendments do not
impose any competitive burden that is
not necessary and appropriate in
furtherance of the purposes of the
Exchange Act. As discussed, the
Commission is proposing amendments
to Rules 15c3–1 and 15c3–1d to
conform those rules to the CFTC’s
amended net capital rule. The proposed
rules are intended to eliminate
inconsistent and duplicative regulation
on broker-dealer/FCMs. Furthermore,
we preliminarily believe that the
proposed amendments to Rule 17a–11
are necessary to provide the
Commission with an early warning of
potential capital insufficiencies at
broker-dealer/FCMs. This early warning
should help the Commission to protect
customers and the integrity of the
markets. The amendments to Rule 17a–
11(c)(4), moreover, would require only
that a broker-dealer/FCM forward to the
Commission a notice that it already
must provide to the CFTC.
provide empirical data to support the
extent of the impact.
VIII. Consideration of Impact on The
Economy
For purposes of the Small Business
Regulatory Enforcement Fairness Act of
1996, or ‘‘SBREFA,’’ 30 we must advise
OMB as to whether the proposed
regulation constitutes a ‘‘major’’ rule.
Under SBREFA, a rule is considered
‘‘major’’ if, upon adoption, it results or
is likely to result in:
• An annual effect on the economy of
$100 million or more (either in the form
of an increase or a decrease);
• A major increase in costs or prices
for consumers or individual industries;
or
• Significant adverse effect on
competition, investment or innovation.
If a rule is ‘‘major,’’ its effectiveness
will generally be delayed for 60 days
pending Congressional review. We
request comment on the potential
impact of the proposed regulation on
the economy on an annual basis.
Commenters are requested to provide
empirical data and other factual support
for their view to the extent possible.
IX. Statutory Authority
The Commission is proposing
amendments to Rule 15c3–1, Rule 15c3–
1d, and Rule 17a–11 under the
Exchange Act pursuant to the authority
conferred by the Exchange Act,
including Sections 15, 17 and 23(a).31
Text of Proposed Rule Amendments
VII. Regulatory Flexibility Act
Certification
The Commission hereby certifies,
pursuant to 5 U.S.C. 605(b), that the
proposed amendments to Rule 15c3–1,
Rule 15c3–1d, and Rule 17a–11, if
adopted, would not have a significant
economic impact on a substantial
number of small entities. The proposed
amendments would apply only to
broker-dealers also registered as FCMs.
As of July 31, 2006, there were
approximately 67 broker-dealer/FCMs.28
Only one of those broker-dealers would
qualify as a small entity.29 Accordingly,
we do not believe that the proposed
amendments would have a significant
economic impact on a substantial
number of small entities.
We encourage written comments
regarding this certification. We request
that commenters describe the nature of
any impact on small entities and
List of Subjects in 17 CFR Part 240
28 Selected FCM Financial Data as of July 31,
2006, CFTC Division of Clearing and Intermediary
Oversight.
29 See 17 CFR 240.0–10.
30 Pub. L. No. 104–121, Title II, 110 Stat. 857
(1996) (codified in various sections of 5 U.S.C., 15
U.S.C. and as a note to 5 U.S.C. 601).
31 15 U.S.C. 78o, 78q and 78w(a).
VerDate Aug<31>2005
15:27 Oct 12, 2006
Jkt 211001
Brokers, Reporting and recordkeeping
requirements, Securities.
In accordance with the foregoing, the
Commission hereby proposes that Title
17, Chapter II of the Code of Federal
Regulation be amended as follows.
PART 240—GENERAL RULES AND
REGULATIONS, SECURITIES
EXCHANGE ACT OF 1934
1. The authority citation for part 240
continues to read, in part, as follows:
Authority: 15 U.S.C. 77c, 77d, 77g, 77j,
77s, 77z–2, 77z–3, 77eee, 77ggg, 77nnn,
77sss, 77ttt, 78c, 78d, 78e, 78f, 78g, 78i, 78j,
78j–l, 78k, 78k–1, 78l, 78m, 78n, 78o, 78p,
78q, 78s, 78u–5, 78w, 78x, 78ll, 78mm, 79q,
79t, 80a–20, 80a–23, 80a–29, 80a–37, 80b–3,
80b–4, 80b–11, and 7201 et seq.; and 18
U.S.C. 1350, unless otherwise noted.
*
PO 00000
*
*
Frm 00008
*
Fmt 4701
*
Sfmt 4702
2. Section 240.15c3–1 is amended by
revising paragraphs (a)(1)(iii) and
(e)(2)(ii) to read as follows:
§ 240.15c3–1 Net capital requirements for
brokers or dealers.
(a) * * *
(1) * * *
(iii) No broker or dealer registered as
a futures commission merchant shall
permit its net capital to be less than the
greater of its requirement under
paragraph (a)(1)(i) or (ii) of this section,
or eight percent of the total risk margin
requirement for positions carried by the
futures commission merchant in
customer accounts plus four percent of
the total risk margin requirement for
positions carried by the futures
commission merchant in noncustomer
accounts, as defined in the Commodity
Exchange Act (7 U.S.C. 1 et seq.) and the
rules thereunder.
*
*
*
*
*
(e) * * *
(2) * * *
(ii) The broker-dealer is registered as
a futures commission merchant, its net
capital would be less than 120 percent
of the aggregate amount of its total risk
margin requirements for positions
carried in customer and noncustomer
accounts under paragraph (a)(1)(iii) of
this section;
*
*
*
*
*
3. Section 240.15c3–1d is amended by
removing the authority citation at the
end of the section and revising
paragraphs (b)(6)(iii), (b)(7), (b)(8)(i)(A),
(b)(10)(ii)(B), (c)(2), (c)(5)(i)(B),
(c)(5)(ii)(A), and (c)(7) to read as
follows:
§ 240.15c3–1d Satisfactory Subordination
Agreements (Appendix D to 17 CFR
240.15c3–1).
*
*
*
*
*
(b) * * *
(6) * * *
(iii) The secured demand note
agreement also may provide that, in lieu
of the procedures specified in the
provisions required by paragraph
(b)(6)(ii) of this section, the lender, with
the prior written consent of the broker
or dealer and the Examining Authority
for the broker or dealer, may reduce the
unpaid principal amount of the secured
demand note. After giving effect to such
reduction, the aggregate indebtedness of
the broker or dealer may not exceed
1000 percent of its net capital or, in the
case of a broker or dealer operating
pursuant to paragraph (a)(1)(ii) of
§ 240.15c3–1, net capital may not be less
than 5 percent of aggregate debit items
computed in accordance with
§ 240.15c3–3a, or, if registered as a
futures commission merchant, 120
E:\FR\FM\13OCP2.SGM
13OCP2
Federal Register / Vol. 71, No. 198 / Friday, October 13, 2006 / Proposed Rules
ycherry on PROD1PC64 with PROPOSALS2
percent of the aggregate amount of its
total risk margin requirements for
positions carried in customer and
noncustomer accounts under paragraph
(a)(1)(iii) of § 240.15c3–1, if greater. No
single secured demand note shall be
permitted to be reduced by more than
15 percent of its original principal
amount and after such reduction no
excess collateral may be withdrawn. No
Examining Authority shall consent to a
reduction of the principal amount of a
secured demand note if, after giving
effect to such reduction, net capital
would be less than 120 percent of the
minimum dollar amount required by
§ 240.15c3–1.
Permissive Prepayments
(7) A broker or dealer at its option, but
not at the option of the lender may, if
the subordination agreement so
provides, make a Payment of all or any
portion of the Payment Obligation
thereunder prior to the scheduled
maturity date of such Payment
Obligation (hereinafter referred to as a
‘‘Prepayment’’), but in no event may any
Prepayment be made before the
expiration of one year from the date
such subordination agreement became
effective. This restriction shall not apply
to temporary subordination agreements
that comply with the provisions of
paragraph (c)(5) of this Appendix D. No
Prepayment shall be made, if, after
giving effect thereto (and to all
Payments of Payment Obligations under
any other subordinated agreements then
outstanding the maturity or accelerated
maturities of which are scheduled to fall
due within six months after the date
such Prepayment is to occur pursuant to
this provision or on or prior to the date
on which the Payment Obligation in
respect of such Prepayment is
scheduled to mature disregarding this
provision, whichever date is earlier)
without reference to any projected profit
or loss of the broker or dealer, either
aggregate indebtedness of the broker or
dealer would exceed 1000 percent of its
net capital or its net capital would be
less than 120 percent of the minimum
dollar amount required by § 240.15c3–1
or, in the case of a broker or dealer
operating pursuant to paragraph
(a)(1)(ii) of § 240.15c3–1, its net capital
would be less than 5 percent of its
aggregate debit items computed in
accordance with § 240.15c3–3a, or if
registered as a futures commission
merchant, 120 percent of the aggregate
amount of its total risk margin
requirements for positions carried in
customer and noncustomer accounts
under paragraph (a)(1)(iii) of
§ 240.15c3–1, if greater, or its net capital
would be less than 120 percent of the
VerDate Aug<31>2005
15:27 Oct 12, 2006
Jkt 211001
minimum dollar amount required by
paragraph (a)(1)(ii) of § 240.15c3–1.
Notwithstanding the provisions of this
paragraph, no Prepayment shall occur
without the prior written approval of
the Examining Authority for such broker
or dealer.
Suspended Repayment
(8)(i) * * *
(A) The aggregate indebtedness of the
broker or dealer would exceed 1200
percent of its net capital, or in the case
of a broker or dealer operating pursuant
to paragraph (a)(1)(ii) of § 240.15c3–1,
its net capital would be less than 5
percent of aggregate debit items
computed in accordance with
§ 240.15c3–3a or, if registered as a
futures commission merchant, 120
percent of the aggregate amount of its
total risk margin requirements for
positions carried in customer and
noncustomer accounts under paragraph
(a)(1)(iii) of § 240.15c3–1, if greater, or
*
*
*
*
*
(10) * * *
(ii) * * *
(B) The aggregate indebtedness of the
broker or dealer exceeding 1500 percent
of its net capital or, in the case of a
broker or dealer that has elected to
operate under paragraph (a)(1)(ii) of
§ 240.15c3–1, its net capital is less than
2 percent of its aggregate debit items
computed in accordance with
§ 240.15c3–3a or, if registered as a
futures commission merchant, the
aggregate amount of its total risk margin
requirements for positions carried in
customer and noncustomer accounts
under paragraph (a)(1)(iii) of
§ 240.15c3–1, if greater, throughout a
period of 15 consecutive business days,
commencing on the day the broker or
dealer first determines and notifies the
Examining Authority for the broker or
dealer, or the Examining Authority or
the Commission first determines and
notifies the broker or dealer of such fact;
*
*
*
*
*
(c) * * *
(2) Every broker or dealer shall
immediately notify the Examining
Authority for such broker or dealer if,
after giving effect to all Payments of
Payment Obligations under
subordination agreements then
outstanding that are then due or mature
within the following six months without
reference to any projected profit or loss
of the broker or dealer either the
aggregate indebtedness of the broker or
dealer would exceed 1200 percent of its
net capital or its net capital would be
less than 120 percent of the minimum
dollar amount required by § 240.15c3–1,
or, in the case of a broker or dealer
PO 00000
Frm 00009
Fmt 4701
Sfmt 4702
60643
operating pursuant to paragraph
(a)(1)(ii) of § 240.15c3–1, its net capital
would be less than 5 percent of
aggregate debit items computed in
accordance with § 240.15c3–3a, or, if
registered as a futures commission
merchant, 120 percent of the aggregate
amount of its total risk margin
requirements for positions carried in
customer and noncustomer accounts
under paragraph (a)(1)(iii) of
§ 240.15c3–1, if greater, or less than 120
percent of the minimum dollar amount
required by paragraph (a)(1)(ii) of
§ 240.15c3–1.
*
*
*
*
*
(5) * * *
(i) * * *
(B) In the case of a broker or dealer
operating pursuant to paragraph
(a)(1)(ii) of § 240.15c3–1, its net capital
is less than 5 percent of aggregate debits
computed in accordance with
§ 240.15c3–3a, or, if registered as a
futures commission merchant, less than
120 percent of the aggregate amount of
its total risk margin requirements for
positions carried in customer and
noncustomer accounts under paragraph
(a)(1)(iii) of § 240.15c3–1, if greater, or
less than 120 percent of the minimum
dollar amount required by paragraph
(a)(1)(ii) of this section, or
*
*
*
*
*
(ii) * * *
(A) After giving effect thereto (and to
all Payments of Payment Obligations
under any other subordinated
agreements then outstanding, the
maturity or accelerated maturities of
which are scheduled to fall due within
six months after the date such
prepayment is to occur pursuant to this
provision or on or prior to the date on
which the Payment Obligation in
respect of such prepayment is
scheduled to mature disregarding this
provision, whichever date is earlier)
without reference to any projected profit
or loss of the broker or dealer, either
aggregate indebtedness of the broker or
dealer would exceed 900 percent of its
net capital or its net capital would be
less than 200 percent of the minimum
dollar amount required by § 240.15c3–1
or, in the case of a broker or dealer
operating pursuant to paragraph
(a)(1)(ii) of § 240.15c3–1, its net capital
would be less than 6 percent of
aggregate debit items computed in
accordance with § 240.15c3–3a, or, if
registered as a futures commission
merchant, 125 percent of the aggregate
amount of its total risk margin
requirements for positions carried in
customer and noncustomer accounts
under paragraph (a)(1)(iii) of
§ 240.15c3–1, if greater, or its net capital
E:\FR\FM\13OCP2.SGM
13OCP2
60644
Federal Register / Vol. 71, No. 198 / Friday, October 13, 2006 / Proposed Rules
ycherry on PROD1PC64 with PROPOSALS2
would be less than 200 percent of the
minimum dollar amount required by
paragraph (a)(1)(ii) of this section or
*
*
*
*
*
(7) Subordination agreements in effect
before adoption. Any subordination
agreement that incorporates the net
capital requirements in paragraphs
(b)(6)(iii), (b)(7), (b)(8)(i), (b)(10)(ii)(B),
(c)(2), (c)(5)(i)(B), and (c)(5)(ii)(A) of this
section, as in effect before adoption of
the amendments incorporating the risk
margin-based capital requirement in
those paragraphs, and that has been
deemed to be satisfactorily subordinated
pursuant to § 240.15c3–1 as in effect
before adoption of those amendments,
shall continue to be deemed a
satisfactory subordination agreement
until the maturity of the agreement.
Provided, That if the agreement is
amended or renewed for any reason,
then the agreement shall not be deemed
a satisfactory subordination agreement
unless the amended or renewed
VerDate Aug<31>2005
15:27 Oct 12, 2006
Jkt 211001
agreement meets the requirements of
this Appendix D. Provided, further, That
all subordination agreements must meet
the requirements of this Appendix D
within 5 years of the adoption of the
amendments incorporating the risk
margin-based capital requirements.
4. Section 240.17a–11 is amended by:
a. Revising the introductory text of
paragraph (c);
b. In paragraph (c)(3) remove the
period at the end of the paragraph and
in its place add ‘‘; or’’;
c. Redesignating paragraph (c)(4) as
paragraph (c)(5); and
d. Adding new paragraph (c)(4) to
read as follows:
(c)(3), (c)(4) or (c)(5) of this section in
accordance with paragraph (g) of this
section:
*
*
*
*
*
(4) For a broker or dealer registered as
a futures commission merchant, if the
Commodity Exchange Act (7 U.S.C. 1 et
seq.) and the rules promulgated under
the Commodity Exchange Act would
require a futures commission merchant
to provide notification to the
Commodity Futures Trading
Commission or a designated selfregulatory organization that its adjusted
net capital has fallen below a specified
threshold; or
*
*
*
*
*
§ 240.17a–11 Notification provisions for
brokers and dealers.
Dated: October 5, 2006.
By the Commission.
J. Lynn Taylor,
Assistant Secretary.
[FR Doc. E6–16956 Filed 10–12–06; 8:45 am]
*
*
*
*
*
(c) Every broker or dealer shall send
notice promptly (but within 24 hours)
after the occurrence of the events
specified in paragraph (c)(1), (c)(2),
PO 00000
Frm 00010
Fmt 4701
Sfmt 4702
BILLING CODE 8011–01–P
E:\FR\FM\13OCP2.SGM
13OCP2
Agencies
[Federal Register Volume 71, Number 198 (Friday, October 13, 2006)]
[Proposed Rules]
[Pages 60636-60644]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: E6-16956]
[[Page 60635]]
-----------------------------------------------------------------------
Part III
Securities and Exchange Commission
-----------------------------------------------------------------------
17 CFR Part 240
Amendments to Rule 15c3-1 and Rule 17a-11 Applicable to Broker-Dealers
Also Registered as Futures Commission Merchants; Proposed Rule
Federal Register / Vol. 71, No. 198 / Friday, October 13, 2006 /
Proposed Rules
[[Page 60636]]
-----------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
17 CFR Part 240
[Release No. 34-54575; File No. S7-16-06]
RIN 3235-AJ72
Amendments to Rule 15c3-1 and Rule 17a-11 Applicable to Broker-
Dealers Also Registered as Futures Commission Merchants
AGENCY: Securities and Exchange Commission.
ACTION: Proposed rule.
-----------------------------------------------------------------------
SUMMARY: The Securities and Exchange Commission is proposing for
comment amendments to conform provisions of its net capital rule to
changes to the net capital rule of the Commodity Futures Trading
Commission. The proposed amendments would apply to broker-dealers also
registered as futures commission merchants with the Commodity Futures
Trading Commission. The Securities and Exchange Commission also is
proposing to amend certain rules related to subordinated debt
agreements to conform those rules to the Commodity Futures Trading
Commission's amended net capital rules. Finally, the Securities and
Exchange Commission is proposing to amend its early warning provisions
to require that it be notified if a broker-dealer also registered as a
futures commission merchant must warn the Commodity Futures Trading
Commission or a designated self-regulatory organization that its
adjusted net capital has fallen below specified levels.
DATES: Comments should be received on or before November 13, 2006.
ADDRESSES: Comments may be submitted by any of the following methods:
Electronic Comments
Use the Commission's Internet comment form (https://
www.sec.gov/rules/proposed.shtml); or
Send an e-mail to rule-comments@sec.gov. Please include
File Number S7-16-06 on the subject line; or
Use the Federal eRulemaking Portal (https://
www.regulations.gov). Follow the instructions for submitting comments.
Paper Comments
Send paper comments in triplicate to Nancy M. Morris,
Secretary, Securities and Exchange Commission, 100 F Street, NE.,
Washington, DC 20549-1090.
All submissions should refer to File Number S7-16-06. This file number
should be included on the subject line if e-mail is used. To help us
process and review your comments more efficiently, please use only one
method. The Commission will post all comments on the Commission's
Internet Web site (https://www.sec.gov/rules/proposed.shtml). Comments
also are available for public inspection and copying in the
Commission's Public Reference Room, 100 F Street, NE., Washington, DC
20549. All comments received will be posted without change; we do not
edit personal identifying information from submissions. You should
submit only information that you wish to make available publicly.
FOR FURTHER INFORMATION CONTACT: Michael A. Macchiaroli, Associate
Director, at (202) 551-5525; Thomas K. McGowan, Assistant Director, at
(202) 551-5521; or Bonnie L. Gauch, Special Counsel, at (202) 551-5524,
Division of Market Regulation, Securities and Exchange Commission, 100
F Street, NE., Washington, DC 20549-6628.
I. Introduction
The Securities and Exchange Commission (``Commission'') is
proposing to amend its financial responsibility rules for broker-
dealers registered with the Commodity Futures Trading Commission
(``CFTC'') under the Commodity Exchange Act (``CEA'') as futures
commission merchants (``FCMs''). The Commission's net capital rule,
Rule 15c3-1,\1\ imposes minimum financial (net capital) requirements on
broker-dealers. The CFTC's adjusted net capital rule, Rule 1.17,\2\
similarly imposes minimum financial requirements on FCMs. Under Rule
15c3-1(a)(1)(iii), a broker-dealer/FCM must maintain net capital of no
less than the greater of its requirements under the applicable
provisions of Rule 15c3-1 or four percent of the funds that must be
segregated under the CEA and its rules. The requirement to maintain at
least four percent of segregated funds was intended to conform Rule
15c3-1 to the CFTC's Rule 1.17.\3\
---------------------------------------------------------------------------
\1\ 17 CFR 240.15c3-1. Section 15(c)(3) of the Securities
Exchange Act of 1934 (the ``Exchange Act'') authorizes the
Commission to impose, by regulation, minimum financial requirements
on broker-dealers (15 U.S.C. 78o(c)(3)).
\2\ 17 CFR 1.17.
\3\ See Exchange Act Release No. 15898 (Jun. 5, 1979), 44 FR
24884 (Jun. 15, 1979).
---------------------------------------------------------------------------
In 2004, the CFTC amended Rule 1.17 and adopted certain new net
capital requirements applicable to FCMs.\4\ Before adoption of the
amended capital requirements, Rule 1.17(a)(1)(i)(A)-(D) required an FCM
to maintain minimum adjusted net capital equal to, or in excess of, the
greatest of the following: (1) $250,000; (2) four percent of an amount
that equals the total of funds required to be segregated for customer
trading on U.S. commodity markets under section 4d(a)(2) of the CEA and
the funds required to be secured for customer trading on foreign
commodity markets under Rule 30.7 to the CEA, less the market value of
options purchased by customers for which the full premiums have been
paid (``segregated funds''); (3) the amount of adjusted net capital
required by a registered futures association; or (4) for broker-dealer/
FCMs, the amount of net capital required under Rule 15c3-1(a).
---------------------------------------------------------------------------
\4\ The new rules became effective on September 30, 2004. See 69
FR 49784 (Aug. 12, 2004).
---------------------------------------------------------------------------
CFTC Rule 1.17(a)(1)(i)(B), as amended, eliminates the four percent
of segregated funds provision. Instead, the amended rule requires an
FCM to maintain adjusted net capital equal to a specified percentage of
the margin required to be collected under exchange or clearing
organization rules. Under amended CFTC Rule 1.17(a)(1)(i)(B), an FCM
must maintain adjusted net capital equal to the following: (1) Eight
percent of the total risk margin requirement \5\ for positions carried
by the FCM in customer accounts; \6\ plus (2) four percent of the total
risk margin requirement for positions carried by the FCM in noncustomer
accounts.\7\
---------------------------------------------------------------------------
\5\ CFTC Rule 1.17(b)(8) defines ``risk margin'' (17 CFR
1.17(b)(8)).
\6\ CFTC Rule 1.17(b)(7) defines ``customer account'' (17 CFR
1.17(b)(7)).
\7\ CFTC Rule 1.17(b)(4) defines ``noncustomer account'' (17 CFR
1.17(b)(4)).
---------------------------------------------------------------------------
The CFTC intended changes to Rule 1.17 to address material
limitations on the segregated funds method of computing net capital.\8\
For example, the segregated funds method did not reflect fully the
extent to which an FCM was exposed to commodity positions carried for
both customers and noncustomers. The segregated funds method did not
include ``funds held by an FCM on behalf of foreign-domiciled customers
trading on foreign commodity markets, nor [did] it include funds held
by an FCM on behalf of noncustomers trading on either U.S. or foreign
futures and options markets.'' \9\ This method also did not include
``letters of credit deposited as margin or reflect the additional risks
posed by open positions in customer accounts that liquidate to a
deficit.'' \10\ Finally, the segregated funds method of calculating net
capital ``subjects an FCM to a higher
[[Page 60637]]
requirement in situations where the FCM requires additional margin from
customers or carries free credit balances for its customers, despite
the risk reducing effect of holding higher levels of customer funds.''
\11\ The CFTC amended Rule 1.17 to address these concerns and conform
its net capital requirement to the net capital requirements implemented
by the National Futures Association (``NFA''), two exchanges, and a
clearing organization.
---------------------------------------------------------------------------
\8\ See 68 FR 40835, 40837 (July 9, 2003).
\9\ Id.
\10\ Id.
\11\ Id.
---------------------------------------------------------------------------
The Commission is proposing to amend Rule 15c3-1 to reflect the
amendments to CFTC Rule 1.17, and is also proposing to amend paragraph
(c) of Rule 17a-11,\12\ which generally requires a broker-dealer to
notify the Commission and its designated examining authority (``DEA'')
if it fails to maintain certain levels of net capital.
---------------------------------------------------------------------------
\12\ 17 CFR 240.17a-11(c).
---------------------------------------------------------------------------
II. Proposed Amendments
A. Amendments to Rule 15c3-1
1. Amendments to Rule 15c3-1(a)(1)(iii)
The Commission is proposing to amend Rule 15c3-1(a)(1)(iii) to
conform to amended CFTC Rule 1.17. The proposed amendments to Rule
15c3-1(a)(1)(iii) would require a broker-dealer/FCM to maintain net
capital of not less than the greater of the following: (1) Its
requirement under paragraph (a)(1)(i) or (ii) of Rule 15c3-1; or (2)
eight percent of the total risk margin requirement for positions
carried by the FCM in customer accounts plus four percent of the total
risk margin requirement for positions carried by the FCM in noncustomer
accounts (``risk margin-based capital requirement'').
2. Amendments to Rule 15c3-1(e)(2)(ii)
The Commission also is proposing to amend Rule 15c3-1(e)(2)(ii) to
conform it to CFTC Rule 1.17(e)(1)(ii). Rule 15c3-1(e)(2)(ii) prohibits
a broker-dealer/FCM from withdrawing equity capital if the withdrawal
would cause the broker-dealer/FCM's net capital to fall below, among
other standards, a specified percentage of its minimum net capital
dollar amount or a specified level of aggregate indebtedness, or its
``net capital would be less than 7 percent of the funds required to be
segregated pursuant to the Commodity Exchange Act and the regulations
thereunder'' after the withdrawal. The Commission is proposing to
replace the seven percent of segregated funds requirement with the
amended CFTC Rule 1.17(e)(1)(ii) requirement of 120 percent of the risk
margin-based capital requirement.
B. Amendments to Appendix D to Rule 15c3-1
The Commission also is proposing to amend certain provisions of
Appendix D to Rule 15c3-1 (``Rule 15c3-1d''),\13\ which contains
minimum and non-exclusive requirements for satisfactory broker-dealer
subordination agreements. Specifically, the Commission is proposing to
amend paragraphs (b)(6)(iii), (b)(7), (b)(8)(i)(A), (b)(10)(ii)(B),
(c)(2), (c)(5)(i)(B), (c)(5)(ii)(A), and (c)(7) of Rule 15c3-1d, which
relate to repayment and prepayment of subordinated debt. Both Rule
15c3-1 and CFTC Rule 1.17 prohibit a broker-dealer or an FCM,
respectively, from repaying or prepaying subordinated debt if the
payments would cause the broker-dealer's or FCM's net capital to fall
below certain thresholds.
---------------------------------------------------------------------------
\13\ 17CFR 240.15c3-1d.
---------------------------------------------------------------------------
1. Amendments to Rule 15c3-1d(b)(6)(iii)
The Commission is proposing to replace the segregated funds
requirement of Rule 15c3-1d(b)(6)(iii) with a risk margin-based capital
requirement to conform it to the CFTC's amended Rule
1.17(h)(2)(vi)(C)(2). Rule 15c3-1d(b)(6)(iii) permits a subordinated
lender to reduce the unpaid principal amount of a secured demand note
pledged to a broker-dealer with the consent of the broker-dealer and
its DEA. The reduction, however, may not cause the broker-dealer's
aggregate indebtedness to exceed a specified level of net capital or
its net capital to fall below a specified level of aggregate debit
items or, if the broker-dealer also is registered as an FCM, its net
capital to fall below seven percent of the funds that must be
segregated under the CEA and its rules, if that segregated amount is
greater. The proposed amendment to Rule 15c3-1d(b)(6)(iii) would
conform to amended CFTC Rule 1.17(h)(2)(vi)(C)(2) and replace the seven
percent of segregated funds requirement with 120 percent of the risk
margin-based capital requirement.
2. Amendments to Rule 15c3-1d(b)(7)
The Commission is proposing to replace the segregated funds
requirement of Rule 15c3-1d(b)(7) with a risk margin-based capital
requirement to conform it to the CFTC's amended Rule
1.17(h)(2)(vii)(A)(2). Rule 15c3-1d(b)(7) permits a broker-dealer to
prepay subordinated debt if the prepayment occurs at least one year
after the effective date of the subordination agreement and the broker-
dealer meets certain other requirements. A broker-dealer/FCM may not
prepay subordinated debt, however, if the prepayment would cause its
aggregated indebtedness to exceed a specified level of net capital or
its net capital to fall below a specified percentage of the minimum net
capital dollar amount, fall below a specified level of aggregate debit
items or, if the broker-dealer also is registered as an FCM, its net
capital to fall below seven percent of the funds that must be
segregated under the CEA and its rules, if that amount is greater. The
proposed amendment to Rule 15c3-1d(b)(7) would conform to amended CFTC
Rule 1.17(h)(2)(vii)(A)(2) and replace the seven percent of segregated
funds requirement with 120 percent of the risk margin-based capital
requirement.
3. Amendments to Rule 15c3-1d(b)(8)(i)(A)
The Commission is proposing to replace the segregated funds
requirement of Rule 15c3-1d(b)(8)(i)(A) with a risk margin-based
capital requirement to conform it to the CFTC's amended Rule
1.17(h)(2)(viii)(A)(2). Rule 15c3-1d(b)(8)(i)(A) requires a broker-
dealer/FCM to suspend repayment of subordinated debt if the repayment
would cause its aggregated indebtedness to exceed a specified level of
net capital or its net capital to fall below a specified level of
aggregate debit items or, if the broker-dealer also is registered as an
FCM, its net capital to fall below six percent of the funds required to
be segregated under the CEA and its rules, if that amount is greater.
The proposed amendment to Rule 15c3-1d(b)(8)(i)(A) would conform to
amended CFTC Rule 1.17(h)(2)(viii)(A)(2) and replace the six percent of
segregated funds requirement with 120 percent of the risk margin-based
capital requirement.
4. Amendments to Rule 15c3-1d(b)(10)(ii)(B)
The Commission also is proposing to replace the segregated funds
requirement of Rule 15c3-1d(b)(10)(ii)(B) to reflect the CFTC's risk
margin-based capital requirements. Rule 15c3-1d(b)(10)(ii)(B) limits
the events of default that may accelerate a broker-dealer/FCM's
obligation to repay subordinated debt. Those events of default occur if
a broker-dealer/FCM's aggregate indebtedness exceeds 1500 percent of
its net capital, its net capital computed under Rule 15c3-1(a)(1)(ii)
is less than two percent of aggregate debit
[[Page 60638]]
items as computed under Rule 15c3-3a, or its net capital is less than
four percent of the funds required to be segregated under the CEA and
its rules, if that amount is greater. The proposed amendment to Rule
15c3-1(b)(10)(ii)(B) would replace the four percent of segregated funds
requirement with the risk margin-based capital requirements of proposed
Rule 15c3-1(a)(1)(iii).
5. Amendments to Rule 15c3-1d(c)(2)
Furthermore, the Commission is proposing to replace the segregated
funds requirement of Rule 15c3-1d(c)(2) with a risk margin-based
capital requirement to conform it to the CFTC's amended Rule
1.17(h)(3)(ii)(B). Rule 15c3-1d(c)(2) requires a broker-dealer/FCM to
notify its DEA if repayment of its subordinated debt would cause its
aggregate indebtedness to exceed 1200 percent of its net capital; its
net capital to be less than 120 percent of the minimum dollar amount
required by Rule 15c3-1; less than five percent of aggregate debit
items computed in accordance with Rule 15c3-3a; or its net capital to
be less than six percent of the funds required to be segregated under
the CEA and its rules, if that amount is greater. The proposed
amendment to Rule 15c3-1d(c)(2) would conform to amended CFTC Rule
1.17(h)(3)(ii)(B) and replace the six percent of segregated funds
requirement with 120 percent of the risk margin-based capital
requirement.
6. Amendments to Rule 15c3-1d(c)(5)(i)(B)
The Commission also is proposing to replace the segregated funds
requirement of Rule 15c3-1d(c)(5)(i)(B) with a risk margin-based
capital requirement to conform it to the CFTC's amended Rule
1.17(h)(3)(v)(B). Rule 15c3-1d(5)(i)(B) permits a broker-dealer to
enter into temporary subordination agreements (terms of no more than 45
days), subject to specified conditions, so that the broker-dealer may
engage in securities underwriting and other extraordinary activities. A
broker-dealer/FCM operating under Rule 15c3-1(a)(1)(ii) may not enter
into a temporary subordination agreement, however, if its net capital
is less than five percent of its aggregate debit items computed under
Rule 15c3-3a or seven percent of the funds required to be segregated
under the CEA or its rules, if that amount is greater. The proposed
amendment to Rule 15c3-1d(c)(5)(i)(B) would conform to amended CFTC
Rule 1.17(h)(3)(v)(B) and replace the seven percent of segregated funds
requirement with 120 percent of the risk margin-based capital
requirement.
7. Amendments to Rule 15c3-1d(c)(5)(ii)(A)
Finally, the Commission is proposing to replace the segregated
funds requirement of Rule 15c3-1d(c)(5)(ii)(A) with a risk margin-based
capital requirement to conform it to the CFTC's amended Rule
1.17(h)(2)(vii)(B)(2). Rule 15c3-1d(c)(5)(ii)(A) permits a broker-
dealer to enter into a revolving subordinated loan agreement that
provides for prepayment within less than one year. A broker-dealer/FCM
may not prepay subordinated debt, however, if, as a result of the
prepayment, its aggregate indebtedness would exceed 900 percent of its
net capital; its net capital would be less than 200 percent of the
minimum dollar amount required under Rule 15c3-1; its net capital would
be less than six percent of aggregate debit items computed under Rule
15c3-3a (for broker-dealer operating under Rule 15c3-1(a)(1)(ii)); or
its net capital would be less than ten percent of the funds required to
be segregated under the CEA or its rules, if that amount is greater.
The proposed amendment to Rule 15c3-1d(c)(5)(ii)(A) would conform to
amended CFTC Rule 1.17(h)(2)(vii)(B)(2) and replace the ten percent of
segregated funds requirement with 125 percent of the risk margin-based
capital requirement.
8. Applicability of Amendments to Rule 15c3-1d to Existing
Subordination Agreements
Under the proposed amendments to Rule 15c3-1d(c)(7), satisfactory
subordination agreements that comply with Rule 15c3-1d, as in effect
before adoption of these proposed amendments to that rule, would
continue to be deemed satisfactory until their maturity date, if the
agreements are not amended or renewed. However, all subordination
agreements would be required to meet the requirements of amended Rule
15c3-1d within five years of adoption of these proposed amendments to
that rule. Amendments to, or renewals of, subordination agreements
would be required to comply with the proposed amendments to Rule 15c3-
1d, as would any new subordination agreements. This proposed
``grandfathering'' provision is intended to allow broker-dealer/FCMs
sufficient time to comply with the proposed amendments to subordinated
debt rules in a manner that is not unduly burdensome on either the
broker-dealer/FCMs or their DEAs, which must approve subordinated debt
agreements under Appendix D.
C. Rationale for the Amendments to Rules 15c3-1 and 15c3-1d
The Commission believes that the proposed amendments to Rules 15c3-
1 and 15c3-1d are necessary and appropriate. First, compliance with
both the current Commission and the amended CFTC rules could impose
duplicative or conflicting obligations on a broker-dealer/FCM because
the rules may apply different standards. Under current Rule 15c3-
1(a)(1)(iii) and amended CFTC Rule 1.17, a broker-dealer/FCM must
maintain net capital equal to at least the greatest of its requirements
under Rule 15c3-1(a)(1)(i) or (ii), four percent of the funds required
to be segregated under the CEA and its applicable rules, or the risk
margin-based capital requirement under amended CFTC Rule 1.17. That is,
a broker-dealer/FCM must maintain net capital equal to at least the
Commission minimum applicable to broker-dealers, the now-eliminated
CFTC segregated funds minimum, or the new CFTC minimum applicable to
FCMs. Section 15 of the Exchange Act requires the Commission to issue
those rules, in consultation with the CFTC, that are necessary to avoid
imposing duplicative or conflicting financial responsibility
regulations on broker-dealer/FCMs.\14\ The proposed amendments to Rules
15c3-1 and 15c3-1d are intended to avoid imposing potentially
duplicative or conflicting regulations on broker-dealer/FCMs by
eliminating the four percent of segregated funds requirement and
replacing it with a risk margin-based capital requirement identical to
that contained in amended CFTC Rule 1.17.
---------------------------------------------------------------------------
\14\ Section 15 of the Exchange Act requires the Commission, in
consultation with the CFTC, to: issue such rules, regulations, or
orders as are necessary to avoid duplicative or conflicting
regulations applicable to any broker or dealer registered with the
Commission pursuant to section 15(b) (except paragraph (11)
thereof), that is also registered with the Commodity Futures Trading
Commission pursuant to section 4f(a) of the Commodity Exchange Act *
* * with respect to application of * * * financial responsibility
rules. 15 U.S.C. 78o(c)(3)(B).
---------------------------------------------------------------------------
Second, the risk margin-based capital requirement applicable to
FCMs should be an adequate substitute for the previous segregated funds
standard. The risk margin-based requirement has been in place at
futures exchanges for a number of years without significant problems.
Third, the proposed amendments to Rule 15c3-1 also are necessary to
avoid potentially placing a broker-dealer/FCM at a competitive
disadvantage with respect to entities registered solely as broker-
dealers or FCMs. Sole registrants might be subject to lower regulatory
[[Page 60639]]
costs than a combined broker-dealer/FCM, which could be required to
maintain higher capital than either the broker-dealer or FCM net
capital rules would require a sole registrant to maintain.
Fourth, the proposed amendments should provide the Commission with
enhanced ability to monitor the financial position of broker-dealer/
FCMs. The proposed amendments to Rule 15c3-1 would permit the
Commission to oversee a broker-dealer/FCM for capital problems arising
from the firm's futures business. A broker-dealer/FCM might be in a
financial position in which its net capital otherwise is sufficient for
the securities aspect of Rule 15c3-1, but is insufficient for purposes
of the risk margin-based capital requirement for its futures business.
Under the proposed amendments to Rule 15c3-1, a broker-dealer's failure
to maintain sufficient risk margin-based capital, which is a violation
of CFTC Rule 1.17, also would be a violation of the Commission's net
capital rule. The Commission, therefore, could force the broker-dealer/
FCM to take corrective action (or require it to cease conducting
business), an ability the Commission would not have without the
proposed amendments.
D. Amendments to Rule 17a-11, Notification Provisions for Brokers and
Dealers
We are proposing to amend paragraph (c) of Rule 17a-11,\15\ which
generally requires a broker-dealer to notify the Commission and its DEA
if it fails to maintain certain levels of net capital. Specifically,
the Commission is proposing to amend paragraph (c) of Rule 17a-11 to
redesignate existing paragraph (c)(4) as paragraph (c)(5); and add a
new paragraph (c)(4).
---------------------------------------------------------------------------
\15\ 17 CFR 240.17a-11(c).
---------------------------------------------------------------------------
Proposed new paragraph (c)(4) would require a broker-dealer/FCM to
notify the Commission and its DEA under circumstances in which the
CFTC's rules would require an FCM to provide notification to the CFTC
that its adjusted net capital had fallen below a particular threshold.
We are proposing these amendments to help protect customers from
broker-dealer failures. Current Rule 17a-11 does not require a broker-
dealer/FCM to notify the Commission if its adjusted net capital under
the CFTC's net capital rule falls below specified requirements. The
proposed notification requirement should provide an early warning to
the Commission that a broker-dealer/FCM may be experiencing financial
difficulties whatever the source and allow the Commission to take
corrective action with respect to the firm, if necessary. The proposed
amendments to Rule 17a-11 also are consistent with amended CFTC Rule
1.12(b)(2),\16\ which requires an FCM to notify the CFTC and its
designated self-regulatory organization if its adjusted net capital
falls below 110% of its risk margin-based requirements under
1.17(a)(1)(i)(B).
---------------------------------------------------------------------------
\16\ 17 CFR 1.12(b)(2).
---------------------------------------------------------------------------
III. Request for Comments
We invite interested persons to submit written comments on all
aspects of the proposed amendments. Further, we invite comment on other
matters that might have an effect on the proposals contained in the
release.
IV. Paperwork Reduction Act
Certain provisions of the proposed amendments to Rule 17a-11 \17\
contain ``collection of information requirements'' within the meaning
of the Paperwork Reduction Act of 1995.\18\ The Commission has
submitted the proposed amendments to the Office of Management and
Budget (``OMB'') for review in accordance with 44 U.S.C. 3507(d) and 5
CFR 1320.11. The Commission is revising the collection of information
entitled, ``Rule 17a-11 (17 CFR 240.17a-11) Notification Provision for
Brokers and Dealers,'' OMB Control Number 3235-0085. An agency may not
conduct or sponsor, and a person is not required to respond to, a
collection of information unless it displays a currently valid control
number.
---------------------------------------------------------------------------
\17\ There is no new collection of information imposed on
broker-dealer/FCMs under the amendments to Rules 15c3-1 and 15c3-1d.
The Commission's and CFTC's rules, both in previous form and as
amended, require broker-dealer/FCMs to comply with the net capital
rules of both agencies. Accordingly, the proposed amendments to
Rules 15c3-1 and 15c3-1d do not impose any new requirements on
broker-dealer/FCMs.
\18\ 44 U.S.C. 3501 et seq.
---------------------------------------------------------------------------
A. Collection of Information under these Amendments
As discussed, the Commission is proposing to amend Rule 17a-11 to
provide the Commission with an early warning of a broker-dealer/FCM's
low capital level, which should help protect customers from broker-
dealer failures. The proposed amendments to paragraph 17a-11(c)(4)
would require a broker-dealer/FCM to notify the Commission and its DEA
under circumstances in which the CFTC's rules would require an FCM to
provide notification that its adjusted net capital had fallen below a
particular threshold.
B. Proposed Use of Information
The Commission would use the information collected under the
proposed amendments to Rule 17a-11 to determine if a broker-dealer is
in compliance with financial responsibility rules. Specifically, the
Commission would use the information to monitor whether broker-dealer/
FCMs are complying with the net capital rule and relevant notification
requirements.
C. Respondents
The proposed amendments to Rule 17a-11 would apply only to broker-
dealer/FCMs. As of July 31, 2006, there were approximately 67 broker-
dealer/FCMs.\19\ A broker-dealer/FCM would be required to notify the
Commission and its DEA under circumstances in which the CFTC's rules
would require an FCM to provide notification that its adjusted net
capital had fallen below a particular threshold.
---------------------------------------------------------------------------
\19\ Selected FCM Financial Data as of July 31, 2006, CFTC
Division of Clearing and Intermediary Oversight.
---------------------------------------------------------------------------
D. Total Annual Reporting and Recordkeeping Burden
Under the proposed amendment to Rule 17a-11(c)(4), a broker-dealer/
FCM would be required to notify the Commission and its DEA under
circumstances in which the CFTC's rules would require an FCM to provide
notification that its adjusted net capital had fallen below a
particular threshold. The Commission staff estimates that 5 out of 67
broker-dealer/FCMs will file Rule 17a-11 notifications annually.\20\
The staff further estimates that these broker-dealer/FCMs would spend
annually approximately 1.25 hours (or .25 hours each x 5 broker-dealer/
FCMs) to send the notifications.\21\
---------------------------------------------------------------------------
\20\ There were approximately 5,980 registered broker-dealers as
of December 31, 2005. Approximately 450, or 7.5% (450/5,980), of
those firms filed early warning notices under Rule 17a-11. The
Commission, therefore, expects that 5 broker-dealer/FCMs
(approximately 7.5% of 67 broker-dealer/FCMs) would file early
warning notices annually under Rule 17a-11.
\21\ A broker-dealer/FCM is already required to draft and send
these notifications to the CFTC or DSROs pursuant to CFTC Rules.
Consequently, the only additional cost relates to the additional
time it would take the broker-dealer/FCM's staff to send the
notification to the Commission and its DEA. The Staff estimates,
based on its experience, that it would take an individual 15 minutes
to send these additional notifications.
---------------------------------------------------------------------------
E. Collection of Information Is Mandatory
The collection of information under the proposed amendments to Rule
17a-11 is mandatory if a broker-dealer/FCM's net capital falls below
the Commission's or the CFTC's early warning thresholds.
[[Page 60640]]
F. Confidentiality
The collection of information under the proposed amendments to Rule
17a-11(c)(4) would be provided to the Commission and to a broker-
dealer/FCM's DEA, but would not be subject to public availability.
G. Record Retention Period
Rule 17a-4(b)(4) requires a broker-dealer to preserve copies of all
communications sent relating to its business as such for no less than
three years, the first two years in an accessible place.
H. Request for Comment
Under 44 U.S.C. 3506(c)(2)(B), the Commission solicits comments to:
(i) Evaluate whether the proposed collection of information is
necessary for the proper performance of the functions of the
Commission, including whether the information would have practical
utility;
(ii) Evaluate the accuracy of the Commission's estimate of the
burden of the proposed collection of information;
(iii) Enhance the quality, utility, and clarity of the information
to be collected; and
(iv) Minimize the burden of the collection of information on those
required to respond, including through the use of automated collection
techniques or other forms of information technology.
Persons who desire to submit comments on the collection of
information requirements should direct them to OMB, Attention: Desk
Officer for the Securities and Exchange Commission, Office of
Information and Regulatory Affairs, Washington, DC 20503, and should
also send a copy of their comments to Nancy M. Morris, Secretary,
Securities and Exchange Commission, 100 F Street, NE., Washington, DC
20549-1090, and refer to File No. S7-16-06. OMB is required to make a
decision concerning the collections of information between 30 and 60
days after publication of this document in the Federal Register;
therefore, comments to OMB are best assured of having full effect if
OMB receives them within 30 days of this publication. The Commission
has submitted the proposed collections of information to OMB for
approval. Requests for the materials submitted to OMB by the Commission
with regard to these collections of information should be in writing,
refer to File No. S7-16-06, and be submitted to the Securities and
Exchange Commission, Records Management, Office of Filings and
Information Services, 100 F Street, NE., Washington, DC 20549.
V. Costs and Benefits of the Proposed Amendments
A. Introduction
As discussed, the Commission is proposing to amend Exchange Act
Rules 15c3-1(a)(1)(iii) and (e)(2)(ii); 15c3-1d(b)(6)(iii), (b)(7),
(b)(8)(i)(A), (b)(10)(ii)(B), (c)(2), (c)(5)(i)(B), (c)(5)(ii)(A), and
(c)(7); and 17a-11(c)(3), (c)(4), and (c)(5). The CFTC amended Rules
1.17 and 1.12 to adopt certain new net capital requirements applicable
to FCMs.\22\ Broker-dealer/FCMs must comply with both the CFTC's and
the Commission's net capital rules under Rule 15c3-1(a)(1)(iii).
Accordingly, the Commission is amending Rules 15c3-1 and 15c3-1d to
conform those rules to the CFTC's amendments. Finally, the Commission
is amending Rule 17a-11 to provide itself with an early warning that a
broker-dealer/FCM may be experiencing financial difficulties.
---------------------------------------------------------------------------
\22\ See supra, note 4.
---------------------------------------------------------------------------
The Commission has identified below certain costs and benefits
associated with its proposed amendments. We encourage commenters to
discuss, analyze, and supply relevant data regarding any additional
costs or benefits.
B. Benefits
We believe that the proposed amendments to Rules 15c3-1 and 15c3-1d
will benefit both broker-dealer/FCMs and investors. As discussed, the
Commission is proposing to amend Rule 15c3-1(a)(1)(iii) by eliminating
the rule's segregated funds requirement and replacing it with the risk
margin-based capital requirement. Rule 15c3-1(a)(1)(iii) requires a
broker-dealer/FCM to maintain net capital of not less than the greater
of its requirement under Rule 15c3-1 or four percent of the funds
required to be segregated under the CEA and its rules. The four percent
of segregated funds requirement was intended to conform Rule 15c3-
1(a)(1)(iii) to Rule 1.17, the CFTC's adjusted net capital rule, and
ensure that a broker-dealer/FCM complied with the net capital rules of
both the CFTC and the Commission. Rule 1.17, as amended, eliminates the
four percent of segregated funds requirement and replaces it with a new
risk margin-based capital requirement. Proposed Rule 15c3-1(a)(1)(iii)
would require a broker-dealer/FCM to maintain net capital of not less
than the greater of its requirement under Rule 15c3-1 or a risk margin-
based capital requirement identical to the one contained in CFTC Rule
1.17, as amended.
We also are proposing to amend Rule 15c3-1(e)(2)(ii) to conform it
to the CFTC's new risk margin-based capital requirement. Rule 15c3-
1(e)(2)(ii) prohibits a broker-dealer/FCM from withdrawing equity
capital if the withdrawal would cause the broker-dealer/FCM's net
capital to fall below, among other standards, a specified percentage of
its minimum net capital dollar amount, a specified level of aggregate
indebtedness, or a specified percentage of the funds required to be
segregated under the CEA. CFTC Rule 1.17(e)(1)(ii), as amended,
prohibits an FCM from withdrawing equity capital if the withdrawal
would cause the FCM's adjusted net capital to fall below a specified
percentage of risk margin-based capital, rather than a specified
percentage of segregated funds. The proposed amendments would
substitute the segregated funds requirement in Rule 15c3-1(e)(2)(ii)
with a risk margin-based requirement calculated under Rule 15c3-
1(a)(1)(iii).
Furthermore, the Commission is proposing amendments to various
provisions of Rule 15c3-1d, which contains minimum and non-exclusive
requirements for satisfactory subordination agreement involving broker-
dealers. Repayment and prepayment of subordinated debt under Rule 15c3-
1d generally is permissible only if the broker-dealer/FCM maintains net
capital equal to at least a specified percentage of net capital
calculated under Rule 15c3-1 and a specified percentage of segregated
funds. Rather than permitting repayment or prepayment of subordinated
debt if an FCM maintains a specified percentage of segregated funds,
the CFTC's Rule 1.17, as amended, permits repayment or prepayment if
the FCM maintains net capital equal to at least a specified percentage
of its risk margin-based capital requirement. Accordingly, the
Commission is proposing to amend Rule 15c3-1d by substituting the risk
margin-based capital requirement for the segregated funds requirement
to avoid subjecting broker-dealer/FCMs to conflicting or duplicative
regulation.
The Commission believes that the risk margin-based capital
requirement is appropriate. Each of the amendments to Rules 15c3-1 and
15c3-1d substitutes the risk margin-based capital requirement for the
segregated funds standard. The risk margin-based capital requirement
should be an adequate substitute for the segregated funds standard
based on its implementation and use by the futures exchanges and FCMs'
comfort level with the requirement.
[[Page 60641]]
As noted, the Commission also believes that the amendments to Rules
15c3-1 and 15c3-1d would benefit both broker-dealer/FCMs and investors.
First, the proposed amendments would prevent the imposition of
potentially conflicting or duplicative regulation on a broker-dealer/
FCM. Current Rule 15c3-1(a)(1)(iii) requires a broker-dealer/FCM to
maintain net capital equal to the greater of its net capital
requirement under Rule 15c3-1 or four percent of the funds required to
be segregated under the CEA and its rules. The four percent of
segregated funds requirement reflects the previous version of CFTC Rule
1.17 and has been substituted in current CFTC Rule 1.17 with the risk
margin-based capital requirement. The proposed amendments would
substitute the risk margin-based capital requirement for the segregated
funds requirement in Rules 15c3-1 and 15c3-1d and, therefore, free a
broker-dealer/FCM from complying with a capital requirement no longer
applicable to FCMs that are sole registrants.
Second, the proposed amendments would help to avoid potentially
placing a broker-dealer/FCM at a competitive disadvantage with respect
to an entity registered solely as a broker-dealer or FCM. Neither a
broker-dealer nor an FCM is subject to the four percent of segregated
funds requirement; a broker-dealer/FCM is subject to such a requirement
unless the proposed amendments are adopted. Accordingly, the proposed
amendments could free a broker-dealer/FCM from making three separate
capital computations (one based on Rule 15c3-1(a)(1)(i) or (ii), one
based on CFTC Rule 1.17, and one based on the four percent of
segregated requirement under current Rule 15c3-1(a)(1)(iii)) and
holding unnecessarily more net capital than its sole registrant
competitors.
Third, the proposed amendments would enhance the Commission's
ability to monitor the financial condition of a broker-dealer/FCM.
Under the proposed amendments to Rule 15c3-1, a broker-dealer's failure
to maintain sufficient risk margin-based capital, which is a violation
of CFTC Rule 1.17, also would be a violation of the Commission's net
capital rule. The Commission, therefore, could force the broker-dealer/
FCM to take corrective action (or require it to cease conducting
business), an ability the Commission would not have without the
proposed amendments.
Finally, the proposed amendments to Rule 17a-11 would help protect
customers from broker-dealer failures. Current Rule 17a-11 does not
require a broker-dealer/FCM to notify the Commission if its adjusted
net capital falls below specified requirements. The proposed amendments
to Rule 17a-11 would require a broker-dealer/FCM to notify the
Commission if its net capital falls below certain thresholds determined
in accordance with Rule 15c3-1 or if the CFTC's rules would require it
to notify the CFTC or a DSRO that its adjusted net capital had breached
certain thresholds. This notification requirement should provide an
early warning to the Commission that a broker-dealer/FCM may be
experiencing financial difficulties.
C. Costs
There would be no costs associated with the proposed amendments to
Rules 15c3-1 and 15c3-1d. A broker-dealer/FCM already must comply with
the net capital rules of both the Commission and the CFTC. Likewise, a
broker-dealer/FCM already must comply with Rule 15c3-1d and comparable
CFTC subordinated debt rules.
The proposed amendments would help ensure that broker-dealer/FCMs
are not subject to inconsistent or duplicative regulation under Rules
15c3-1 and 15c3-1d by eliminating the four percent of segregated funds
standard in those rules and replacing it with the risk margin-based
capital requirement. With respect to 15c3-1d, the applicable thresholds
no longer will be calculated based upon a segregated funds, but upon
risk margin-based, capital, which the broker-dealer/FCM already
calculates under CFTC Rule 1.17.
As discussed, proposed Rule 17a-11(c)(4) would require a broker-
dealer/FCM to notify the Commission and its DEA under circumstances in
which the CFTC's rules would require an FCM to notify the CFTC or a
DRSO that its adjusted net capital had fallen below a particular
threshold. The cost of notification in these circumstances should be
minimal because the broker-dealer/FCM already must notify the CFTC.\23\
We estimate the annual cost of notification under Rule 17a-11(c)(4)
would be $331 (.25 hours x $265 per hour for a financial reporting
manager \24\ x 5 broker-dealer/FCMs).\25\
---------------------------------------------------------------------------
\23\ See supra, note 21.
\24\ A financial reporting manager is a person at a broker-
dealer with responsibility for helping to ensure that the broker-
dealer complies with its financial reporting requirements with
respect to the Commission, other federal or state agencies and SROs.
\25\ Security Industry Association's (``SIA'') Report on
Management & Professional Earnings in the Securities Industry 2005,
modified to account for an 1800-hour work-year and multiplied by
5.35 to account for bonuses, firm size, employee benefits and
overhead. The amount also reflects the average between New York City
salaries and Non-New York City salaries. This is the latest report
on financial industry salaries that is available from the SIA.
---------------------------------------------------------------------------
VI. Consideration of Burden on Competition, and Promotion of
Efficiency, Competition, and Capital Formation
Section 3(f) of the Exchange Act \26\ requires the Commission,
whenever it engages in rulemaking and must consider or determine if an
action is necessary or appropriate in the public interest, to consider
if the action will promote efficiency, competition, and capital
formation. Under section 23(a)(2) of the Exchange Act,\27\ the
Commission must consider the impact of its rulemaking on competition.
It also prohibits the Commission from adopting any rule that would
impose a burden on competition not necessary or appropriate in
furtherance of the purposes of the Exchange Act.
---------------------------------------------------------------------------
\26\ 15 U.S.C. 78c(f).
\27\ 15 U.S.C. 78w(a)(2).
---------------------------------------------------------------------------
We preliminarily believe that the amendments to Rules 15c3-1, 15c3-
1d, and 17a-11 would promote efficiency, competition, and capital
formation. The amendments to Rules 15c3-1 and 15c3-1d should promote
efficiency because they would help to ensure that broker-dealer/FCMs
are not subject to net capital requirements beyond those that the
Commission already imposes on broker-dealers and those that the CFTC
already imposes on FCMs. That is, the amendments would not subject
broker-dealer/FCMs to any new requirements and, consequently, would not
impose any new costs. Furthermore, the proposed amendments to Rule 17a-
11(c)(4) should promote efficiency because they would require a broker-
dealer/FCM to notify the Commission that it has fallen below a
specified percentage of its adjusted net capital requirement under CFTC
rules, a notification that it already must provide to the CFTC. This
notification should help the Commission address potential financial
difficulties at a broker-dealer/FCM before a liquidation becomes
necessary and, therefore, should help protect customers. Each of these
provisions also should help foster competition because they would allow
firms to function jointly as broker-dealer/FCMs without imposing
regulatory requirements beyond those already applicable to broker-
dealers and FCMs individually.
We preliminarily believe that the proposed amendments to Rules
15c3-1, 15c3-1d and 17a-11would promote capital formation. By
eliminating potentially duplicative or conflicting regulation, the
proposed amendments to
[[Page 60642]]
Rules 15c3-1 and 15c3-1d should help to ensure that a broker-dealer/FCM
does not unnecessarily use its assets to meet regulatory capital
requirements, freeing those assets for business uses. Similarly, the
proposed amendments to Rule 17a-11 should help the Commission to
identify a broker-dealer/FCM that faces potential financial
difficulties and allow the Commission to take corrective action to help
that broker-dealer/FCM preserve its capital which, in turn, should help
protect the broker-dealer/FCM's customers.
Finally, we preliminarily believe that the proposed amendments do
not impose any competitive burden that is not necessary and appropriate
in furtherance of the purposes of the Exchange Act. As discussed, the
Commission is proposing amendments to Rules 15c3-1 and 15c3-1d to
conform those rules to the CFTC's amended net capital rule. The
proposed rules are intended to eliminate inconsistent and duplicative
regulation on broker-dealer/FCMs. Furthermore, we preliminarily believe
that the proposed amendments to Rule 17a-11 are necessary to provide
the Commission with an early warning of potential capital
insufficiencies at broker-dealer/FCMs. This early warning should help
the Commission to protect customers and the integrity of the markets.
The amendments to Rule 17a-11(c)(4), moreover, would require only that
a broker-dealer/FCM forward to the Commission a notice that it already
must provide to the CFTC.
VII. Regulatory Flexibility Act Certification
The Commission hereby certifies, pursuant to 5 U.S.C. 605(b), that
the proposed amendments to Rule 15c3-1, Rule 15c3-1d, and Rule 17a-11,
if adopted, would not have a significant economic impact on a
substantial number of small entities. The proposed amendments would
apply only to broker-dealers also registered as FCMs. As of July 31,
2006, there were approximately 67 broker-dealer/FCMs.\28\ Only one of
those broker-dealers would qualify as a small entity.\29\ Accordingly,
we do not believe that the proposed amendments would have a significant
economic impact on a substantial number of small entities.
---------------------------------------------------------------------------
\28\ Selected FCM Financial Data as of July 31, 2006, CFTC
Division of Clearing and Intermediary Oversight.
\29\ See 17 CFR 240.0-10.
---------------------------------------------------------------------------
We encourage written comments regarding this certification. We
request that commenters describe the nature of any impact on small
entities and provide empirical data to support the extent of the
impact.
VIII. Consideration of Impact on The Economy
For purposes of the Small Business Regulatory Enforcement Fairness
Act of 1996, or ``SBREFA,'' \30\ we must advise OMB as to whether the
proposed regulation constitutes a ``major'' rule. Under SBREFA, a rule
is considered ``major'' if, upon adoption, it results or is likely to
result in:
---------------------------------------------------------------------------
\30\ Pub. L. No. 104-121, Title II, 110 Stat. 857 (1996)
(codified in various sections of 5 U.S.C., 15 U.S.C. and as a note
to 5 U.S.C. 601).
---------------------------------------------------------------------------
An annual effect on the economy of $100 million or more
(either in the form of an increase or a decrease);
A major increase in costs or prices for consumers or
individual industries; or
Significant adverse effect on competition, investment or
innovation.
If a rule is ``major,'' its effectiveness will generally be delayed
for 60 days pending Congressional review. We request comment on the
potential impact of the proposed regulation on the economy on an annual
basis. Commenters are requested to provide empirical data and other
factual support for their view to the extent possible.
IX. Statutory Authority
The Commission is proposing amendments to Rule 15c3-1, Rule 15c3-
1d, and Rule 17a-11 under the Exchange Act pursuant to the authority
conferred by the Exchange Act, including Sections 15, 17 and 23(a).\31\
---------------------------------------------------------------------------
\31\ 15 U.S.C. 78o, 78q and 78w(a).
---------------------------------------------------------------------------
Text of Proposed Rule Amendments
List of Subjects in 17 CFR Part 240
Brokers, Reporting and recordkeeping requirements, Securities.
In accordance with the foregoing, the Commission hereby proposes
that Title 17, Chapter II of the Code of Federal Regulation be amended
as follows.
PART 240--GENERAL RULES AND REGULATIONS, SECURITIES EXCHANGE ACT OF
1934
1. The authority citation for part 240 continues to read, in part,
as follows:
Authority: 15 U.S.C. 77c, 77d, 77g, 77j, 77s, 77z-2, 77z-3,
77eee, 77ggg, 77nnn, 77sss, 77ttt, 78c, 78d, 78e, 78f, 78g, 78i,
78j, 78j-l, 78k, 78k-1, 78l, 78m, 78n, 78o, 78p, 78q, 78s, 78u-5,
78w, 78x, 78ll, 78mm, 79q, 79t, 80a-20, 80a-23, 80a-29, 80a-37, 80b-
3, 80b-4, 80b-11, and 7201 et seq.; and 18 U.S.C. 1350, unless
otherwise noted.
* * * * *
2. Section 240.15c3-1 is amended by revising paragraphs (a)(1)(iii)
and (e)(2)(ii) to read as follows:
Sec. 240.15c3-1 Net capital requirements for brokers or dealers.
(a) * * *
(1) * * *
(iii) No broker or dealer registered as a futures commission
merchant shall permit its net capital to be less than the greater of
its requirement under paragraph (a)(1)(i) or (ii) of this section, or
eight percent of the total risk margin requirement for positions
carried by the futures commission merchant in customer accounts plus
four percent of the total risk margin requirement for positions carried
by the futures commission merchant in noncustomer accounts, as defined
in the Commodity Exchange Act (7 U.S.C. 1 et seq.) and the rules
thereunder.
* * * * *
(e) * * *
(2) * * *
(ii) The broker-dealer is registered as a futures commission
merchant, its net capital would be less than 120 percent of the
aggregate amount of its total risk margin requirements for positions
carried in customer and noncustomer accounts under paragraph
(a)(1)(iii) of this section;
* * * * *
3. Section 240.15c3-1d is amended by removing the authority
citation at the end of the section and revising paragraphs (b)(6)(iii),
(b)(7), (b)(8)(i)(A), (b)(10)(ii)(B), (c)(2), (c)(5)(i)(B),
(c)(5)(ii)(A), and (c)(7) to read as follows:
Sec. 240.15c3-1d Satisfactory Subordination Agreements (Appendix D to
17 CFR 240.15c3-1).
* * * * *
(b) * * *
(6) * * *
(iii) The secured demand note agreement also may provide that, in
lieu of the procedures specified in the provisions required by
paragraph (b)(6)(ii) of this section, the lender, with the prior
written consent of the broker or dealer and the Examining Authority for
the broker or dealer, may reduce the unpaid principal amount of the
secured demand note. After giving effect to such reduction, the
aggregate indebtedness of the broker or dealer may not exceed 1000
percent of its net capital or, in the case of a broker or dealer
operating pursuant to paragraph (a)(1)(ii) of Sec. 240.15c3-1, net
capital may not be less than 5 percent of aggregate debit items
computed in accordance with Sec. 240.15c3-3a, or, if registered as a
futures commission merchant, 120
[[Page 60643]]
percent of the aggregate amount of its total risk margin requirements
for positions carried in customer and noncustomer accounts under
paragraph (a)(1)(iii) of Sec. 240.15c3-1, if greater. No single
secured demand note shall be permitted to be reduced by more than 15
percent of its original principal amount and after such reduction no
excess collateral may be withdrawn. No Examining Authority shall
consent to a reduction of the principal amount of a secured demand note
if, after giving effect to such reduction, net capital would be less
than 120 percent of the minimum dollar amount required by Sec.
240.15c3-1.
Permissive Prepayments
(7) A broker or dealer at its option, but not at the option of the
lender may, if the subordination agreement so provides, make a Payment
of all or any portion of the Payment Obligation thereunder prior to the
scheduled maturity date of such Payment Obligation (hereinafter
referred to as a ``Prepayment''), but in no event may any Prepayment be
made before the expiration of one year from the date such subordination
agreement became effective. This restriction shall not apply to
temporary subordination agreements that comply with the provisions of
paragraph (c)(5) of this Appendix D. No Prepayment shall be made, if,
after giving effect thereto (and to all Payments of Payment Obligations
under any other subordinated agreements then outstanding the maturity
or accelerated maturities of which are scheduled to fall due within six
months after the date such Prepayment is to occur pursuant to this
provision or on or prior to the date on which the Payment Obligation in
respect of such Prepayment is scheduled to mature disregarding this
provision, whichever date is earlier) without reference to any
projected profit or loss of the broker or dealer, either aggregate
indebtedness of the broker or dealer would exceed 1000 percent of its
net capital or its net capital would be less than 120 percent of the
minimum dollar amount required by Sec. 240.15c3-1 or, in the case of a
broker or dealer operating pursuant to paragraph (a)(1)(ii) of Sec.
240.15c3-1, its net capital would be less than 5 percent of its
aggregate debit items computed in accordance with Sec. 240.15c3-3a, or
if registered as a futures commission merchant, 120 percent of the
aggregate amount of its total risk margin requirements for positions
carried in customer and noncustomer accounts under paragraph
(a)(1)(iii) of Sec. 240.15c3-1, if greater, or its net capital would
be less than 120 percent of the minimum dollar amount required by
paragraph (a)(1)(ii) of Sec. 240.15c3-1. Notwithstanding the
provisions of this paragraph, no Prepayment shall occur without the
prior written approval of the Examining Authority for such broker or
dealer.
Suspended Repayment
(8)(i) * * *
(A) The aggregate indebtedness of the broker or dealer would exceed
1200 percent of its net capital, or in the case of a broker or dealer
operating pursuant to paragraph (a)(1)(ii) of Sec. 240.15c3-1, its net
capital would be less than 5 percent of aggregate debit items computed
in accordance with Sec. 240.15c3-3a or, if registered as a futures
commission merchant, 120 percent of the aggregate amount of its total
risk margin requirements for positions carried in customer and
noncustomer accounts under paragraph (a)(1)(iii) of Sec. 240.15c3-1,
if greater, or
* * * * *
(10) * * *
(ii) * * *
(B) The aggregate indebtedness of the broker or dealer exceeding
1500 percent of its net capital or, in the case of a broker or dealer
that has elected to operate under paragraph (a)(1)(ii) of Sec.
240.15c3-1, its net capital is less than 2 percent of its aggregate
debit items computed in accordance with Sec. 240.15c3-3a or, if
registered as a futures commission merchant, the aggregate amount of
its total risk margin requirements for positions carried in customer
and noncustomer accounts under paragraph (a)(1)(iii) of Sec. 240.15c3-
1, if greater, throughout a period of 15 consecutive business days,
commencing on the day the broker or dealer first determines and
notifies the Examining Authority for the broker or dealer, or the
Examining Authority or the Commission first determines and notifies the
broker or dealer of such fact;
* * * * *
(c) * * *
(2) Every broker or dealer shall immediately notify the Examining
Authority for such broker or dealer if, after giving effect to all
Payments of Payment Obligations under subordination agreements then
outstanding that are then due or mature within the following six months
without reference to any projected profit or loss of the broker or
dealer either the aggregate indebtedness of the broker or dealer would
exceed 1200 percent of its net capital or its net capital would be less
than 120 percent of the minimum dollar amount required by Sec.
240.15c3-1, or, in the case of a broker or dealer operating pursuant to
paragraph (a)(1)(ii) of Sec. 240.15c3-1, its net capital would be less
than 5 percent of aggregate debit items computed in accordance with
Sec. 240.15c3-3a, or, if registered as a futures commission merchant,
120 percent of the aggregate amount of its total risk margin
requirements for positions carried in customer and noncustomer accounts
under paragraph (a)(1)(iii) of Sec. 240.15c3-1, if greater, or less
than 120 percent of the minimum dollar amount required by paragraph
(a)(1)(ii) of Sec. 240.15c3-1.
* * * * *
(5) * * *
(i) * * *
(B) In the case of a broker or dealer operating pursuant to
paragraph (a)(1)(ii) of Sec. 240.15c3-1, its net capital is less than
5 percent of aggregate debits computed in accordance with Sec.
240.15c3-3a, or, if registered as a futures commission merchant, less
than 120 percent of the aggregate amount of its total risk margin
requirements for positions carried in customer and noncustomer accounts
under paragraph (a)(1)(iii) of Sec. 240.15c3-1, if greater, or less
than 120 percent of the minimum dollar amount required by paragraph
(a)(1)(ii) of this section, or
* * * * *
(ii) * * *
(A) After giving effect thereto (and to all Payments of Payment
Obligations under any other subordinated agreements then outstanding,
the maturity or accelerated maturities of which are scheduled to fall
due within six months after the date such prepayment is to occur
pursuant to this provision or on or prior to the date on which the
Payment Obligation in respect of such prepayment is scheduled to mature
disregarding this provision, whichever date is earlier) without
reference to any projected profit or loss of the broker or dealer,
either aggregate indebtedness of the broker or dealer would exceed 900
percent of its net capital or its net capital would be less than 200
percent of the minimum dollar amount required by Sec. 240.15c3-1 or,
in the case of a broker or dealer operating pursuant to paragraph
(a)(1)(ii) of Sec. 240.15c3-1, its net capital would be less than 6
percent of aggregate debit items computed in accordance with Sec.
240.15c3-3a, or, if registered as a futures commission merchant, 125
percent of the aggregate amount of its total risk margin requirements
for positions carried in customer and noncustomer accounts under
paragraph (a)(1)(iii) of Sec. 240.15c3-1, if greater, or its net
capital
[[Page 60644]]
would be less than 200 percent of the minimum dollar amount required by
paragraph (a)(1)(ii) of this section or
* * * * *
(7) Subordination agreements in effect before adoption. Any
subordination agreement that incorporates the net capital requirements
in paragraphs (b)(6)(iii), (b)(7), (b)(8)(i), (b)(10)(ii)(B), (c)(2),
(c)(5)(i)(B), and (c)(5)(ii)(A) of this section, as in effect before
adoption of the amendments incorporating the risk margin-based capital
requirement in those paragraphs, and that has been deemed to be
satisfactorily subordinated pursuant to Sec. 240.15c3-1 as in effect
before adoption of those amendments, shall continue to be deemed a
satisfactory subordination agreement until the maturity of the
agreement. Provided, That if the agreement is amended or renewed for
any reason, then the agreement shall not be deemed a satisfactory
subordination agreement unless the amended or renewed agreement meets
the requirements of this Appendix D. Provided, further, That all
subordination agreements must meet the requirements of this Appendix D
within 5 years of the adoption of the amendments incorporating the risk
margin-based capital requirements.
4. Section 240.17a-11 is amended by:
a. Revising the introductory text of paragraph (c);
b. In paragraph (c)(3) remove the period at the end of the
paragraph and in its place add ``; or'';
c. Redesignating paragraph (c)(4) as paragraph (c)(5); and
d. Adding new paragraph (c)(4) to read as follows:
Sec. 240.17a-11 Notification provisions for brokers and dealers.
* * * * *
(c) Every broker or dealer shall send notice promptly (but within
24 hours) after the occurrence of the events specified in paragraph
(c)(1), (c)(2), (c)(3), (c)(4) or (c)(5) of this section in accordance
with paragraph (g) of this section:
* * * * *
(4) For a broker or dealer registered as a futures commission
merchant, if the Commodity Exchange Act (7 U.S.C. 1 et seq.) and the
rules promulgated under the Commodity Exchange Act would require a
futures commission merchant to provide notification to the Commodity
Futures Trading Commission or a designated self-regulatory organization
that its adjusted net capital has fallen below a specified threshold;
or
* * * * *
Dated: October 5, 2006.
By the Commission.
J. Lynn Taylor,
Assistant Secretary.
[FR Doc. E6-16956 Filed 10-12-06; 8:45 am]
BILLING CODE 8011-01-P