Self-Regulatory Organizations; Financial Industry Regulatory Authority, Inc.; Notice of Filing of Proposed Rule Change To Adopt FINRA Rule 2243 (Disclosure and Reporting Obligations Related to Recruitment Practices), 17592-17610 [2014-06895]

Download as PDF 17592 Federal Register / Vol. 79, No. 60 / Friday, March 28, 2014 / Notices Portfolio, and quotation and last sale information for the Shares. The proposed rule change would benefit investors by providing them with additional choice of transparent and tradable products. B. Self-Regulatory Organization’s Statement on Burden on Competition The Exchange does not believe that the proposed rule change will impose any burden on competition that is not necessary or appropriate in furtherance of the purpose of the Act. The Exchange notes that the proposed rule change will facilitate the listing and trading of other actively-managed exchange-traded products that hold equity securities and will enhance competition among market participants, to the benefit of investors and the marketplace. C. Self-Regulatory Organization’s Statement on Comments on the Proposed Rule Change Received From Members, Participants, or Others No written comments were solicited or received with respect to the proposed rule change. III. Date of Effectiveness of the Proposed Rule Change and Timing for Commission Action Within 45 days of the date of publication of this notice in the Federal Register or within such longer period (i) as the Commission may designate up to 90 days of such date if it finds such longer period to be appropriate and publishes its reasons for so finding or (ii) as to which the self-regulatory organization consents, the Commission will: (A) By order approve or disapprove the proposed rule change, or (B) institute proceedings to determine whether the proposed rule change should be disapproved. Interested persons are invited to submit written data, views, and arguments concerning the foregoing, including whether the proposed rule change is consistent with the Act. Comments may be submitted by any of the following methods: mstockstill on DSK4VPTVN1PROD with NOTICES Electronic comments: • Use the Commission’s Internet comment form (http://www.sec.gov/ rules/sro.shtml); or • Send an email to rule-comments@ sec.gov. Please include File Number SR– NYSEArca-2014–23 on the subject line. Paper Comments: • Send paper comments in triplicate to Secretary, Securities and Exchange 18:57 Mar 27, 2014 Jkt 232001 (‘‘Act’’) 1 and Rule 19b–4 thereunder,2 notice is hereby given that on March 10, 2014, Financial Industry Regulatory Authority, Inc. (‘‘FINRA’’) filed with the Securities and Exchange Commission (‘‘SEC’’ or ‘‘Commission’’) the proposed rule change as described in Items I, II, and III below, which Items have been prepared by FINRA. The Commission is publishing this notice to solicit comments on the proposed rule change from interested persons. For the Commission, by the Division of Trading and Markets, pursuant to delegated authority.24 Kevin M. O’Neill, Deputy Secretary. A. Self-Regulatory Organization’s Statement of the Purpose of, and the Statutory Basis for, the Proposed Rule Change [FR Doc. 2014–06966 Filed 3–27–14; 8:45 am] BILLING CODE 8011–01–P IV. Solicitation of Comments VerDate Mar<15>2010 Commission, 100 F Street NE., Washington, DC 20549–1090. All submissions should refer to File Number SR–NYSEArca-2014–23. This file number should be included on the subject line if email is used. To help the Commission 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 (http://www.sec.gov/ rules/sro.shtml). Copies of the submission, all subsequent amendments, all written statements with respect to the proposed rule change that are filed with the Commission, and all written communications relating to the proposed rule change between the Commission and any person, other than those that may be withheld from the public in accordance with the provisions of 5 U.S.C. 552, will be available for Web site viewing and printing in the Commission’s Public Reference Room, 100 F Street NE., Washington, DC 20549 on official business days between the hours of 10:00 a.m. and 3:00 p.m. Copies of such filing also will be available for inspection and copying at the principal office of the Exchange. All comments received will be posted without change; the Commission does not edit personal identifying information from submissions. You should submit only information that you wish to make available publicly. All submissions should refer to File Number SR– NYSEArca-2014–23, and should be submitted on or before April 18, 2014. SECURITIES AND EXCHANGE COMMISSION [Release No. 34–71786; File No. SR–FINRA– 2014–010] Self-Regulatory Organizations; Financial Industry Regulatory Authority, Inc.; Notice of Filing of Proposed Rule Change To Adopt FINRA Rule 2243 (Disclosure and Reporting Obligations Related to Recruitment Practices) March 24, 2014. Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 I. Self-Regulatory Organization’s Statement of the Terms of Substance of the Proposed Rule Change FINRA is proposing to adopt FINRA Rule 2243, which would establish disclosure and reporting obligations related to member recruitment practices. The text of the proposed rule change is available on FINRA’s Web site at http://www.finra.org, at the principal office of FINRA and at the Commission’s Public Reference Room. II. Self-Regulatory Organization’s Statement of the Purpose of, and Statutory Basis for, the Proposed Rule Change In its filing with the Commission, FINRA included statements concerning the purpose of and basis for the proposed rule change and discussed any comments it received on the proposed rule change. The text of these statements may be examined at the places specified in Item IV below. FINRA has prepared summaries, set forth in sections A, B, and C below, of the most significant aspects of such statements. 1. Purpose Background FINRA members dedicate substantial resources each year to recruit registered persons (‘‘representatives’’) to their firms. Implicit in these recruitment efforts is an expectation that many of the representative’s former customers will transfer assets to the member recruiting the representative (‘‘recruiting firm’’) based on the relationship that the representative has developed with those customers. To induce representatives to leave their current firm, recruiting firms often offer inducements to the representatives in the form of recruitment compensation packages. Recruitment compensation packages provide a significant layer of 1 15 24 17 PO 00000 CFR 200.30–3(a)(12). Frm 00099 Fmt 4703 Sfmt 4703 2 17 E:\FR\FM\28MRN1.SGM U.S.C. 78s(b)(1). CFR 240.19b–4. 28MRN1 mstockstill on DSK4VPTVN1PROD with NOTICES Federal Register / Vol. 79, No. 60 / Friday, March 28, 2014 / Notices compensation in addition to the commission payout grid or other compensation that a representative receives based on production at a new firm. Recruitment compensation typically takes the form of some combination of upfront payments, such as cash bonuses or forgivable loans, and potential future payments, such as performance-based bonuses or special commission schedules that are not provided to similarly situated representatives. FINRA understands that representatives who contact former customers to join them at their new firm often emphasize the benefits the former customers would experience by transferring their assets to the firm, such as superior products, platforms and service. However, while the recruiting firm and the representative understand the financial incentives at stake in a transfer, the representative’s former customers who are contacted or notified about moving assets to the recruiting firm generally are not informed that their representative is receiving a recruitment compensation package to transfer firms, or the potential magnitude of such packages. Furthermore, the former customers often may not be aware of the potential financial impacts to their assets that may result if they decide to transfer assets to a new firm, including, among other things, costs incurred to close an account with their current firm, transfer assets or open an account at the recruiting firm, and tax consequences if some assets are not portable and must be liquidated before transfer. The proposed rule change aims to provide former customers of a representative with a more complete picture of the factors involved in a decision to transfer assets to a recruiting firm. FINRA believes that former customers would benefit from information regarding recruitment compensation packages and such other considerations as costs, fees and portability issues that may impact their assets before they make a decision to transfer assets to a recruiting firm. A representative’s most recent 12-month gross production and revenue, often referred to as his or her ‘‘trailing 12,’’ is typically the prominent factor in how firms calculate recruitment compensation packages. Other factors may include the firm from which the representative is transferring, the representative’s book of business, the percentage of a representative’s book of business that he or she expects will transfer to the new firm, the representative’s years of service, debts to his or her previous firm, and the VerDate Mar<15>2010 18:57 Mar 27, 2014 Jkt 232001 business model of the firm offering the package. FINRA understands that for representatives transferring to a large wirehouse firm, a standard recruitment compensation package may include an upfront payment, usually in the form of a forgivable loan, with a 7 to 10 year term that equals from 150 to 200 percent of the representative’s trailing 12. These packages also typically include potential future payments that the representative earns if specified production targets are met at the recruiting firm. FINRA understands that smaller firms generally do not offer significant recruitment compensation packages to representatives. For representatives that move to a firm with an independent broker-dealer model, recruitment compensation also may not include significant upfront payments. Firms that operate under an independent model typically offer compensation packages that include transition assistance and higher commission payout grid compensation in lieu of upfront payments. Transition assistance packages are intended to offset costs incurred by a representative to transfer firms, such as moving expenses, leasing space, buying office supplies and furniture, and hiring staff. These arrangements also are often based on the representative’s trailing 12 and can result in significant recruitment compensation packages depending on the recruited representative’s production and client base. FINRA recognizes the business rationales for offering financial incentives and transition assistance to recruit experienced representatives and seeks neither to encourage nor discourage the practice with the proposed rule change. However, FINRA believes that former customers currently are not receiving important information from recruiting firms and representatives when they are induced to move assets to the recruiting firm. There are a number of factors a former customer should consider when making a decision to transfer assets to a new firm. These factors include, among other things, a representative’s motives to move firms, whether those motives align with the interests and objectives of the former customer, and any costs, fees, or product portability issues that will arise as a result of an asset transfer to the recruiting firm. The proposed rule change is intended to provide former customers information pertinent to these considerations, so they have a more complete picture of the factors relevant to a decision to transfer assets to a new firm and can engage in further conversations with the recruiting firm or PO 00000 Frm 00100 Fmt 4703 Sfmt 4703 17593 their representative in areas of personal concern. FINRA believes that former customers would benefit from knowing, among other things, the magnitude of the financial incentives that may have led their representative to change firms, how the former customer’s assets, or trading activity, factored into the calculation of such incentives, and whether moving their assets to the recruiting firm will impact their holdings or impose new costs. The proposed rule change is intended to focus a former customer’s attention on the decision to transfer assets to a new firm, and the direct and indirect impacts of such a transfer on those assets, so they are in a position to make an informed decision whether to follow their representative. In addition, the proposed rule change would require members to report to FINRA information related to significant increases in total compensation over the representative’s prior year compensation that would be paid to the representative during the first year at the recruiting firm so that FINRA can assess the impact of these arrangements on a member’s and representative’s obligations to customers and detect potential sales practices abuses. FINRA believes that incorporating such data into its risk-based examination program will help to identify and mitigate potential harm to customers associated with member recruitment practices. Disclosure and Reporting Obligations Related to Recruitment Practices The proposed rule change would provide targeted and meaningful information to customers at what FINRA believes to be a relatively low cost to firms and without implying any bad faith on the part of representatives who receive recruitment compensation to move firms. The proposed rule change includes a disclosure obligation to ‘‘former customers’’3 who the recruiting firm attempts to induce to follow a transferring representative and a reporting obligation to FINRA. First, it would require disclosure to former customers of a representative of the financial incentives the representative will receive in conjunction with the transfer to the recruiting firm and the basis for those incentives. Second, the proposed rule change would require disclosure to former customers of any costs, fees or product portability issues, including taxes if some assets must be liquidated prior to transfer, that will result if the former customer decides to transfer assets to the recruiting firm. The 3 See definition of ‘‘former customer’’ discussed infra at page 81. E:\FR\FM\28MRN1.SGM 28MRN1 17594 Federal Register / Vol. 79, No. 60 / Friday, March 28, 2014 / Notices mstockstill on DSK4VPTVN1PROD with NOTICES proposed disclosures are intended to encourage customers to make further inquiry to reach an informed decision by providing a framework with some specific information to consider the impact to their accounts. Finally, the proposed rule change would require a recruiting firm to report to FINRA, at the beginning of a representative’s employment or association with the firm, significant increases in total compensation over the representative’s prior year compensation that would be paid to the representative during the first year at the recruiting firm. The details of proposed FINRA Rule 2243 (Disclosure and Reporting Obligations Related to Recruitment Practices) are set forth in detail below. Disclosure Requirement The proposed rule change would require a member that hires or associates with a representative and directly or through that representative attempts to induce a former customer of that representative to transfer assets to an account assigned, or to be assigned, to the representative at the member to disclose to the former customer if the representative has received or will receive $100,000 or more of either (1) aggregate ‘‘upfront payments’’ or (2) aggregate ‘‘potential future payments’’ in connection with transferring to the member.4 The proposed rule change would require members to disclose recruitment compensation by separately indicating aggregate upfront payments and aggregate potential future payments in the following ranges: $100,000 to $500,000; $500,001 to $1,000,000; $100,000,001 to $2,000,000; $2,000,001 to $5,000,000; and above $5,000,000.5 Thus, the proposed rule change effectively establishes two separate de minimis exceptions for payments of less than $100,000: One applied to aggregate upfront payments and one applied to aggregate potential future payments. Members also would be required to disclose the basis for determining any upfront payments and potential future payments (e.g., asset-based or production-based) the representative has received or will receive in connection with transferring to the member.6 The proposed rule change would define a ‘‘former customer’’ as any customer that had a securities account 4 See proposed FINRA Rule 2243(a)(1). See also FINRA Rule 0140(a), which states that persons associated with a member shall have the same duties and obligations as a member under FINRA rules. 5 See proposed FINRA Rule 2243.01 (Disclosure of Ranges of Compensation). 6 See proposed FINRA Rule 2243(a)(2). VerDate Mar<15>2010 18:57 Mar 27, 2014 Jkt 232001 assigned to a representative at the representative’s previous firm. The term ‘‘former customer’’ would not include a customer account that meets the definition of an ‘‘institutional account’’ pursuant to FINRA Rule 4512(c); provided, however, accounts held by a natural person would not qualify for the ‘‘institutional account’’ exception.7 For the purpose of the proposed rule, ‘‘upfront payments’’ would mean payments that are either received by the representative upon commencement of employment or association or specified amounts guaranteed to be paid to the representative at a future date, including, e.g., payments in the form of cash, deferred cash bonuses, forgivable loans, loan-bonus arrangements, transition assistance, or in the form of equity awards (e.g., restricted stock, restricted stock units, stock options, etc.) or other ownership interest.8 The term ‘‘potential future payments’’ would include, e.g., payments (including the forms of payments described in the definition of the term ‘‘upfront payments’’) offered as a financial incentive to recruit the representative to a member that are contingent upon satisfying performance-based criteria, or a special commission schedule for representatives paid on a commissioned basis beyond what is ordinarily provided to similarly situated representatives, or are an allowance for additional travel and expense reimbursement beyond what is ordinarily provided to similarly situated representatives.9 FINRA understands that members sometimes partner with another financial services entity, such as an investment adviser or insurance company, to recruit a representative. In those circumstances, both upfront payments and potential future payments would include payments by the third 7 See proposed FINRA Rule 2243.05(a). FINRA Rule 4512(c) defines ‘‘institutional account’’ to mean the account of (1) a bank, savings and loan association, insurance company, or registered investment company; (2) an investment adviser registered either with the SEC under Section 203 of the Investment Advisers Act of 1940 or with a state securities commission (or any agency or office performing like functions); or (3) any other entity (whether a natural person, corporation, partnership, trust, or otherwise) with total assets of at least $50 million. 8 See proposed FINRA Rule 2243.05(b). 9 See proposed FINRA Rule 2243.05(c). FINRA notes that neither category of recruitment compensation would include higher commission schedule payouts received by a transferring representative, such as may occur where a representative transfers to an independent brokerdealer, unless such payouts are beyond what is provided to similarly situated representatives, and that amount, alone or in combination with other payments, meets the $100,000 threshold for one of the categories of recruitment compensation. PO 00000 Frm 00101 Fmt 4703 Sfmt 4703 party as part of the recruitment arrangement. In addition to the recruitment compensation disclosure, the proposed rule change would require the member to disclose to a former customer of the representative if transferring the former customer’s assets to the member: (1) Will result in costs to the former customer, such as account termination or account transfer fees from the former customer’s current firm or account opening or maintenance fees at the member, that will not be reimbursed to the former customer by the member; 10 and (2) if any of the former customer’s assets are not transferable to the member and that the former customer may incur costs, including taxes, to liquidate and transfer those assets in their current form to the member or inactivity fees to leave those assets with the former customer’s current firm.11 The proposed rule change would allow a member to rely on the reasonable representations of the representative, supplemented by the actual knowledge of the member, in determining whether the proposed disclosures must be made to a former customer.12 In the event that a member, after considering the representations of the newly hired representative, cannot make a determination whether any of the former customer’s assets are not transferable to the member, the member must advise former customers in the disclosure: (1) To ask their current firms whether any of their assets will not transfer to the member and what costs, if any, the customers will incur to liquidate and transfer such assets or keep them in an account with their current firm and (2) that nontransferable securities account assets will be identified to the former customer in writing prior to, or at the time of, validation of the account transfer instruction pursuant to FINRA Rule 11870 (Customer Account Transfer Contracts).13 FINRA believes that the proposed rule change would provide key information to investors that they seldom receive today—that compensation may have been a motivating factor for a representative’s transfer of firms, that the basis of any recruitment compensation may have or could impact the representative’s treatment of the customer or the recommendation to move assets to the recruiting firm, that there may be costs associated with 10 See proposed FINRA Rule 2243(a)(3). proposed FINRA Rule 2243(a)(4). 12 See proposed FINRA Rule 2243.03 (Representations of a Registered Person). 13 See supra note 12. 11 See E:\FR\FM\28MRN1.SGM 28MRN1 mstockstill on DSK4VPTVN1PROD with NOTICES Federal Register / Vol. 79, No. 60 / Friday, March 28, 2014 / Notices transferring assets, and that there may be direct and indirect costs associated with liquidating or leaving behind nontransferable assets—relevant to a decision to follow the representative to the recruiting firm. FINRA believes starting the disclosure of ranges of compensation at $100,000 for each category of recruitment compensation creates a reasonable de minimis exception from the proposed disclosure requirement at a level where the recruitment compensation or transition assistance are lesser motivating factors for a representative to move. FINRA will consider with interest comments on the appropriateness of the proposed de minimis exception amount of $100,000 for aggregate upfront payments and aggregate potential future payments; whether the disclosure of ranges of recruitment compensation should begin at a different amount; and whether the threshold should apply separately to upfront payments and potential future payments. More generally, FINRA believes disclosure of ranges of compensation received strikes a balance that will provide former customers detailed information about the nature and magnitude of the financial incentives involved in their representative’s move to factor into their decision whether to transfer assets to the new firm, while reducing privacy concerns about specific disclosure of a representative’s compensation. FINRA believes the specified level of detail regarding the representative’s recruitment compensation and the treatment of former customer’s assets is necessary to make the disclosures valuable to former customers. The disclosures are intended to prompt a dialogue between the former customer and the representative or recruiting firm by providing a framework to consider the impact of a decision to transfer assets to a new firm. FINRA believes that the proposed disclosures would encourage customers to make further inquiries to the representative and the recruiting firm to reach an informed decision about whether to transfer assets. In addition, FINRA believes that requiring the basis for recruitment compensation to be disclosed would allow a former customer to review his or her account activity during the relevant time to see if any unusual activity occurred to boost the representative’s revenue base in anticipation of a move and to more closely monitor activity at the new firm, should the customer decide to move assets there. VerDate Mar<15>2010 18:57 Mar 27, 2014 Jkt 232001 Delivery of Disclosures The proposed rule change would require a member to deliver the proposed disclosures at the time of first individualized contact with a former customer by the representative or the member that attempts to induce the former customer to transfer assets to the member.14 If such contact is in writing, the written disclosures must accompany the written communication; if such contact is oral, the member must give the disclosures orally at the time of contact followed by written disclosures sent within 10 business days from such oral contact or with the account transfer approval documentation, whichever is earlier. If the representative or the member attempts to induce a former customer to transfer assets to an account assigned, or to be assigned, to the representative at the member, but no individualized contact with the former customer by the representative or member occurs before the former customer seeks to transfer assets, the disclosures must be delivered to the former customer with the account transfer approval documentation.15 The disclosure requirement would apply for a period of one year following the date the representative begins employment or associates with the member.16 FINRA believes that any action taken by a recruiting firm directly or through a representative that attempts to induce former customers of the representative to transfer assets to the recruiting firm should trigger the disclosures. As such, under the proposed rule change, actions by the recruiting firm or the representative that do not involve individualized contact, such as a tombstone advertisement, a general announcement, or a billboard, would be considered attempts to induce former customers to move their assets. In these circumstances, if a former customer subsequently decides to transfer assets to the recruiting firm without individualized contact, the proposed rule change would require the recruiting firm to provide the proposed disclosures to former customers with the account transfer approval documentation. Format of Disclosures The proposed rule change would require a member to deliver the proposed disclosures in paper or electronic form in a format prescribed by FINRA, or an alternative format with substantially similar content.17 The 14 See proposed FINRA Rule 2243(b)(1). proposed FINRA Rule 2243(b)(2). 16 See proposed FINRA Rule 2243(b)(3). 17 See proposed FINRA Rule 2243.02 (Format of Disclosures). 17595 proposed rule change would require that written disclosures must be clear and prominent.18 To facilitate uniform disclosure under the proposed rule change and to assist members in making the proposed disclosures to former customers of a representative, FINRA has developed a disclosure template form that members may use to make the required disclosures.19 Members may, however, create their own disclosure form, as long as it contains substantially similar content to the FINRA-developed template. On the disclosure form, a member would be required to indicate the applicable range of compensation in each category of recruitment compensation (i.e., aggregate upfront payments and aggregate potential future payments), for compensation in amounts of $100,000 or more that the representative has received or will receive in connection with transferring to the member. Thus, a representative who receives $75,000 in aggregate upfront payments and $75,000 in potential future payments would not trigger the compensation disclosure under the proposed rule because the $100,000 threshold applies separately to each category of recruitment compensation. Members also would be required to indicate the basis for those payments, e.g., assets brought in or future production. In addition, members would be required to indicate if transferring assets to the representative’s new firm will result in costs to the former customer that will not be reimbursed by the member, if any of the former customer’s assets are not transferable to the member and that the former customer may incur costs, including taxes, to liquidate and transfer those assets in their current form to the member or inactivity fees to leave those assets with the former customer’s current firm. The FINRA-developed disclosure template would include a free text section in which the member or representative may include additional, contextual information regarding the disclosures, as long as such information is not false or misleading. A member could provide the same context in a disclosure form of its own design, as long as it does not obscure or overwhelm the required disclosures and is not false or misleading. FINRA believes that allowing members and representatives an opportunity to provide context regarding the disclosures will alleviate concerns that 15 See PO 00000 Frm 00102 Fmt 4703 Sfmt 4703 18 See supra note 17. Exhibit 3, attached to FINRA’s filing with the Commission. 19 See E:\FR\FM\28MRN1.SGM 28MRN1 17596 Federal Register / Vol. 79, No. 60 / Friday, March 28, 2014 / Notices mstockstill on DSK4VPTVN1PROD with NOTICES the disclosures will be confusing or imply bad faith on the part of the representative. FINRA believes that providing a uniform disclosure form will allow members to make the required disclosures at a relatively low cost and without significant administrative burdens. Reporting Requirement The proposed rule change would require a member to report to FINRA at the beginning of the employment or association of a representative that has former customers (as defined by proposed Rule 2243.05) if the member reasonably expects the total compensation paid to the representative by the member during the representative’s first year of employment or association with the member to result in an increase over the representative’s prior year compensation by the greater of 25% or $100,000.20 In determining total compensation, the member must include any aggregate upfront payments, aggregate potential future payments, increased payout percentages or other compensation the member reasonably expects to pay the representative during the first year of employment or association with the member. A member’s report to FINRA must include the amount and form of such total compensation and other related information, in the time and manner that FINRA may prescribe. The compensation information reported to FINRA pursuant to the proposed rule would not be made available to the public. FINRA intends to use the reported compensation information as a data point in its riskbased examination program. As such, FINRA believes it is important to capture the compensation information in a structured way. FINRA believes this data will help FINRA examiners better assess the adequacy of firm systems to monitor conflicts of interest and systems to detect and prevent underlying business conduct abuses potentially attributable to recruitment compensation incentives, and target exams where concerns appear. This data also will help FINRA to identify whether the conflicts of interest attendant to particular levels or structures of increased compensation when a representative transfers firms result in customer harm that is not adequately addressed by current FINRA rules.21 Further, FINRA believes such 20 See proposed FINRA Rule 2243(c) (Reporting Requirement). 21 Recruitment compensation packages offered to representatives have been the subject of regulatory VerDate Mar<15>2010 18:57 Mar 27, 2014 Jkt 232001 data would inform any future rulemaking to require firms to manage conflicts arising from specific compensation arrangements. In addition, FINRA believes the proposed reporting requirement itself could mitigate potential sales practice violations, as it might encourage firms to give greater supervisory attention to the more lucrative compensation packages that will be reported to FINRA. Calculating Compensation The proposed rule change would provide that in calculating compensation for the purpose of the proposed disclosure requirement and the proposed reporting requirement to FINRA, a member: (1) Must assume that all performance-based conditions on the representative’s compensation are met; (2) may make reasonable assumptions about the anticipated gross revenue to which an increased payout percentage will be applied; and (3) may net out any increased costs incurred directly by the representative in connection with transferring to the member.22 Members must include as part of such calculations all compensation the representative has received or will receive that is based on gross commissions and assets under care from brokerage business and, if applicable, fee income and assets under management from investment advisory services. For example, a dual-hatted representative that receives from the recruiting firm an upfront payment of $1.5 million based on gross commissions from brokerage business and an upfront payment of $1 million based on fees and assets under management from investment adviser business would be required to indicate on the customer disclosure form that he or she has received recruitment compensation in the range of $2,000,001 to $5,000,000 in aggregated upfront payments, and include $2.5 million in upfront payments as part of calculating total compensation for the purposes of the reporting requirement to FINRA. FINRA will announce the effective date of the proposed rule change in a Regulatory Notice to be published no later than 60 days following Commission approval. The effective date will be no later than 180 days following publication of the Regulatory Notice announcing Commission approval. 2. Statutory Basis FINRA believes that the proposed rule change is consistent with the provisions of Section 15A(b)(6) of the Act,23 which requires, among other things, that FINRA rules must be designed to prevent fraudulent and manipulative acts and practices, to promote just and equitable principles of trade, and, in general, to protect investors and the public interest. FINRA believes that the proposed rule change will promote investor protection by providing information on the costs and conflicts associated with a former customer’s important decision whether to transfer assets to a representative’s new firm. FINRA further believes that the proposed rule change would allow a former customer to make a more informed decision, taking into account the financial incentives that may motivate a representative to move firms and induce a customer to follow, as well as the costs to be borne by the customer in connection with transferring assets and the possibility that some assets cannot transfer. In addition, the proposed requirement to report to FINRA significant increases in total compensation in a representative’s first year at a recruiting firm will enhance investor protection by allowing FINRA to monitor such practices and use the data collected to detect potential sales practice abuses. concern for many years. Former SEC Chairman Schapiro identified potential conflicts raised by recruitment practices in 2009 in an open letter to broker-dealer CEOs. The letter noted that: ‘‘[s]ome types of enhanced compensation practices may lead registered representatives to believe that they must sell securities at a sufficiently high level to justify special arrangements that they have been given. Those pressures may in turn create incentives to engage in conduct that may violate obligations to investors. For example, if a registered representative is aware that he or she will receive enhanced compensation for hitting increased commission targets, the registered representative could be motivated to churn customer accounts, recommend unsuitable investment products or otherwise engage in activity that generates commission revenue but is not in investors’ interest.’’ See Open Letter to Broker-Dealer CEOs from SEC Chairman Mary L. Schapiro, dated August 31, 2009. 22 See proposed FINRA Rule 2243.04 (Calculating Compensation). PO 00000 Frm 00103 Fmt 4703 Sfmt 4703 B. Self-Regulatory Organization’s Statement on Burden on Competition FINRA does not believe that the proposed rule change will result in any burden on competition that is not necessary or appropriate in furtherance of the purposes of the Act. By relying on disclosure and reporting, the proposed rule seeks to focus a former customer’s attention on the decision to transfer assets to a new firm, and the direct and indirect impacts of such a transfer on those assets, so they are in a position to make an informed decision whether to follow their representative. The proposed rule would require a recruiting firm to determine the dollar 23 15 E:\FR\FM\28MRN1.SGM U.S.C. 78o–3(b)(6). 28MRN1 mstockstill on DSK4VPTVN1PROD with NOTICES Federal Register / Vol. 79, No. 60 / Friday, March 28, 2014 / Notices value of a representative’s recruitment compensation, and if meeting a threshold, provide disclosure to former customers the recruiting firm or representative attempt to induce to transfer assets during the representative’s first year of employment or association. In addition, the proposed rule would require the recruiting firm to report information about a representative’s total compensation to FINRA if it meets the proposed threshold. Firms also would be responsible for developing compliance policies, training and tracking for the proposed rule. Some commenters have noted that the proposed rule also may have an impact on the market for representatives. FINRA does not believe that the proposed rule change will impose undue operational costs on members to comply with the disclosure and reporting obligations because the information needed to make the calculations resides with either the recruiting firm or the representative. The recruiting firm knows how much upfront compensation they will be paying the representative, as well as the additional potential future income the representative may earn if he or she satisfies conditions. Furthermore, the proposed rule change permits the recruiting firm to make reasonable assumptions about the gross revenue to which any increased payout percentage may apply. In addition, FINRA understands that the recruiting firm or the representative typically has ongoing contact with former customers, thereby facilitating the opportunity for the disclosures to be made. With respect to the disclosure of costs, FINRA believes that the representative will know of costs a former customer will incur at the current firm to transfer assets or leave them inactive and that the recruiting firm knows the costs it imposes to transfer assets and open and maintain an account there. Also, the proposed rule change allows the recruiting firm to rely on the reasonable representations of the representative for much of the information, and with respect to portability, give more generalized disclosure where the information cannot be ascertained from the representative or other actual knowledge. In developing the proposed rule change, FINRA considered several alternatives to the proposed rule change, which are set forth below, to ensure that it is narrowly tailored to achieve its purposes described previously without imposing unnecessary costs and burdens on members or resulting in any burden on competition that is not necessary or appropriate in furtherance VerDate Mar<15>2010 18:57 Mar 27, 2014 Jkt 232001 of the purposes of the Act. The proposed rule change addresses many of the concerns noted by commenters in response to an earlier version of the proposal.24 First, the earlier version of the proposed rule change would have required a member that provides, or has agreed to provide, to a representative enhanced compensation in connection with the transfer of securities employment of the representative from another financial services firm to disclose the details, including specific amounts, of such enhanced compensation 25 to any former customer of the representative at the previous firm that is contacted regarding the transfer of the securities employment (or association) of the representative to the recruiting firm, or who seeks to transfer assets, to a broker-dealer account assigned to the representative with the recruiting firm. The earlier proposal did not include any disclosure of costs or portability ramifications associated with transferring assets to the new firm. As discussed in detail in Item C., a majority of the comments received on the earlier version of the proposal opposed specific disclosure of enhanced compensation, stating that it was burdensome, an invasion of privacy and failed to address a particular harm to customers. Some commenters instead favored general disclosure that a representative is receiving unspecified compensation as part of a transfer. FINRA considered, as an alternative to the proposed rule change, a proposal that would have included a general recruitment compensation disclosure (i.e., no specific dollar amounts) and general disclosure that the former customer may incur costs or encounter portability issues in connection with any asset transfer. However, FINRA believes that the proposed rule change is preferable to alternatives with general disclosure requirements because the general disclosure approach does not give former customers any sense of the scope or magnitude of a representative’s recruitment compensation package or whether the cost and portability 24 See Item C., which contains a detailed discussion of the earlier version of the proposal that was published in Regulatory Notice 13–02 (January 2013). 25 In the initial proposal, the term ‘‘enhanced compensation’’ was defined as compensation paid in connection with the transfer of securities employment (or association) to the recruiting firm other than the compensation normally paid by the recruiting firm to its established registered persons. Enhanced compensation included but was not limited to signing bonuses, upfront or back-end bonuses, loans, accelerated payouts, transition assistance, and similar arrangements, paid in connection with the transfer of securities employment (or association) to the recruiting firm. PO 00000 Frm 00104 Fmt 4703 Sfmt 4703 17597 disclosures will actually impact their personal holdings. FINRA developed the revised approach in the proposed rule change to strike a balance between specific disclosure and general disclosure by requiring disclosure of ranges of compensation of $100,000 or more as applied separately to aggregate upfront payments and aggregate potential future payments and affirmative cost and portability statements. The proposed disclosure of ranges of recruitment compensation provides customers with meaningful information, i.e., that compensation may have been a motivating factor in their representative’s decision to change firms, to consider in conjunction with a representative’s other stated reasons for changing firms, without requiring members to disclose specific information about the payments that may compromise the privacy of the representative. As noted in Item A., representatives often emphasize the superior products, platforms and services of the recruiting firm without disclosing the lucrative financial incentives they have received or will receive in connection with the transfer. In addition, to assist members with compliance with the proposed rule change and to mitigate costs and administrative burdens, FINRA developed a disclosure form that members may use to make the required disclosures. The proposed rule change adds flexibility by allowing recruiting firms to deliver the disclosures in an alternative format with substantially similar content so firms can leverage existing compliance efforts or procedures. Second, as noted above, the proposed rule change exempts compensation that does not meet a $100,000 threshold as applied separately to aggregate upfront payments and aggregate potential future payments for purposes of disclosure to former customers and compensation that does not meet a threshold of the greater of 25% or $100,000 over the representative’s prior year’s compensation for purposes of reporting total compensation to FINRA, and allows members to net out direct costs paid by the representative in a transfer to a new firm when making such calculations. The initial proposal included a $50,000 exception, which many commenters opposed because, among other things, they felt it was arbitrary, too low to cover expenses incurred by representatives to transfer firms and did not allow firms to net out direct costs incurred by the representative in calculating recruitment compensation. Based on the E:\FR\FM\28MRN1.SGM 28MRN1 mstockstill on DSK4VPTVN1PROD with NOTICES 17598 Federal Register / Vol. 79, No. 60 / Friday, March 28, 2014 / Notices comments and discussions with firms, FINRA believes that raising the proposed de minimis exception for recruitment compensation to $100,000 for each of aggregate upfront payments and aggregate potential future payments will substantially mitigate costs for firms without compromising investor protection. Based on input from firms that offer recruitment compensation, FINRA believes the proposed de minimis exception will except from the disclosure obligation those firms whose payments are only intended as transition assistance to help cover relocation and overhead costs, such as new business cards and letterhead, and that amounts below this threshold significantly diminish the motivating impact for the representative to move firms and therefore would not be as meaningful to customers. FINRA also understands that recruitment compensation that exceeds the $100,000 threshold for aggregate upfront payments and aggregate potential future payments is typically offered only by the largest firms and therefore the disclosure obligation should not impact most small firms or independent brokerdealers, where the relative costs of compliance would be more burdensome. FINRA understands the proposed de minimis exception for disclosure of compensation under $100,000 in each category of recruitment compensation may impose some burden on small member firms to establish administrative processes to track compensation and to ensure that records are available to evidence compliance. FINRA does not believe that the administrative costs to track recruitment compensation outweighs the investor protection benefits of increased transparency to inform former customers about recruitment compensation that may have motivated their representative to move firms before they decide to transfer account assets to their representative’s new firm. In addition, FINRA notes that the proposed rule change incorporates a provision that permits members to net out costs directly incurred by a representative in connection with a transfer to the recruiting firm. Members would measure compensation amounts for purposes of determining the $100,000 threshold in each category of recruitment compensation after direct costs to the representative in connection with the transfer have been netted out. Therefore, FINRA believes it is more likely that the de minimis exception will apply when a representative moves from a wirehouse firm to a firm with an VerDate Mar<15>2010 18:57 Mar 27, 2014 Jkt 232001 independent broker-dealer model or when a representative otherwise incurs direct costs associated with a transition. Third, the proposed rule change limits the proposed disclosures to situations where a member, directly or through a representative, attempts to induce that representative’s former customers to transfer assets to the member. Recruiting firms would not have to make the disclosures to former customers if the recruiting firm or representative does not undertake any efforts to induce former customers to transfer assets to the member, either through individualized contact, such as an email or phone call, or nonindividualized contact, such as a tombstone advertisement, a billboard or a notification on the firm’s Web site. Fourth, FINRA notes that the proposed rule change includes a oneyear disclosure period so that members do not have to track for or provide disclosures to customers after the representative has been with the firm for a year. FINRA considered an alternative that would have required disclosure for as long as the representative continued to receive recruitment compensation, which in some cases, could be 10 years. FINRA understands that most former customers who transfer assets to the representative’s new firm do so soon after the representative changes firms so the one-year period should provide a reasonable end date for the proposed disclosure requirement. Fifth, FINRA considered whether the proposed rule should apply to any new customers of the representative at the new firm, or whether disclosure to just former customers would accomplish the goals of the proposed rule change. FINRA determined that it would limit the proposed rule to former customers of the representative because the recruitment compensation the representative has received or will receive in a transfer is likely based on activity in the accounts of such former customers and the expectation that they will transfer assets to follow the representative to the recruiting firm. In addition, representatives should have a sense of how moving assets to the recruiting firm will impact former customers’ accounts because they are aware of the costs associated with account termination, transfer and opening and product limitations at their previous firm and at the recruiting firm. Representatives are less likely to have similar information for new customers opening an account with the recruiting firm. A customer opening a new account also does not have an established relationship with the representative and, in many cases, has already PO 00000 Frm 00105 Fmt 4703 Sfmt 4703 determined to place assets with a new firm without any inducement from the representative. Sixth, FINRA considered whether the proposed rule should require disclosure to current customers when their representative receives a retention bonus. As explained in more detail in Item C., the proposed rule change does not include that requirement because the proposal is more narrowly focused on providing a former customer important information when deciding whether to follow his or her representative to a new firm, and incentives offered to a representative while at a firm do not implicate the same considerations for customers, such as transfer costs and portability issues. FINRA notes that to the extent a retention bonus is part of a recruitment compensation package, disclosure would be required as a potential future payment if the magnitude of the bonus exceeds the $100,000 threshold. FINRA further notes that the reporting requirement in the proposed rule change is intended, in part, to provide insight as to whether compensation packages are resulting in increased risk to customers of inappropriate sales practice activities. That information will help inform whether additional regulation around retention bonuses or other compensation incentives is necessary. Finally, in considering the proposed requirement that members report to FINRA significant increases in a recruited representative’s total compensation over the prior year, FINRA notes that it consulted with its advisory committees to determine the proposed threshold of the greater of $100,000 or 25%, which is intended to exclude compensation arrangements that do not pose the same level of potential conflicts of interest. FINRA believes compensation increases of amounts below the threshold are less valuable for its examination program, particularly when compared to the burden of compliance on smaller firms that are more likely to offer recruitment packages in those ranges. FINRA will consider with interest comment on whether the proposed threshold is appropriate and, if commenters favor an alternative, the reasons why such alternative is preferable. C. Self-Regulatory Organization’s Statement on Comments on the Proposed Rule Change Received From Members, Participants, or Others FINRA published an earlier version of the proposal for comment in Regulatory Notice 13–02 (January 2013) (the ‘‘Notice Proposal’’). A copy of the E:\FR\FM\28MRN1.SGM 28MRN1 mstockstill on DSK4VPTVN1PROD with NOTICES Federal Register / Vol. 79, No. 60 / Friday, March 28, 2014 / Notices Notice Proposal is attached as Exhibit 2a. The comment period expired on March 5, 2013. FINRA received 567 comment letters in response to the proposal, of which 65 were unique letters. A list of the comment letters received in response to the Notice Proposal is attached as Exhibit 2b.26 Copies of the comment letters received in response to that proposal are attached as Exhibit 2c.27 Of the 65 unique comment letters received, 21 were generally in favor of the proposed rule change, 43 were generally opposed, and one letter did not address the merits of the proposal. The Notice Proposal required a member that provides, or has agreed to provide, to a representative ‘‘enhanced compensation’’ in connection with the transfer of securities employment of the representative from another financial services firm to disclose the details of such enhanced compensation to any former customer of the representative at the previous firm who: (1) Is individually contacted by the member or representative, either orally or in writing, regarding the transfer of employment (or association) of the representative to the member; or (2) seeks to transfer an account from the previous firm to an account assigned to the representative with the member. The proposal defined enhanced compensation to include signing bonuses, upfront or back-end bonuses, loans, accelerated payouts, transition assistance, and similar arrangements. The proposal would have required disclosure for one year following the date the representative associates with the recruiting firm. The proposal included an exception for enhanced compensation of less than $50,000 and customers that meet the definition of an institutional account pursuant to FINRA Rule 4512(c), except any natural person or a natural person advised by a registered investment adviser. Comments in support of the proposal were split between those that favored specific disclosure and those that advocated general disclosure of recruitment compensation. In general, comments opposed to the proposal asserted that it did not address an identifiable harm to customers, was pejorative toward representatives, invaded their privacy, and failed to include other cost impacts to customers when transferring their accounts. The comments and FINRA’s responses are set forth in detail below. 26 All references to the commenters under this Item are to the commenters as listed in Exhibit 2b. 27 Exhibits 2a, 2b, and 2c are attached to FINRA’s filing with the Commission. VerDate Mar<15>2010 18:57 Mar 27, 2014 Jkt 232001 Support for the Notice Proposal In general, commenters that supported the proposal stated that disclosing specific recruitment compensation to customers would provide investors with information relevant to investment decisions, promote greater transparency, increase investor confidence and trust, and increase customer awareness of potential conflicts of interest relating to recruitment compensation packages.28 One commenter noted that the proposal put the interest of customers first, supported a high standard of business ethics, and provided disclosure appropriate for customers to make informed decisions without prohibiting legitimate business practices.29 Another commenter noted that informing customers of potential conflicts of interest regarding recruitment compensation is especially important if the representative’s compensation is determined by the assets a customer moves to the representative’s new firm.30 One commenter also noted that most representatives do not tell customers that they are receiving recruitment compensation for moving customer assets to the new firm and inflate production to benefit trailing 12 calculations.31 Another commenter stated that registered investment advisers are required to disclose all conflicts of interest, including those that may arise when the adviser changes firms.32 Two commenters noted that transparency is a key component of a customer’s ability to make an informed decision about transferring his or her assets.33 Specific vs. General Enhanced Compensation Disclosure Several commenters wrote in support of uniform, industry-wide disclosure of recruitment compensation to customers, including the form of the recruitment compensation arrangement and specific dollar amounts.34 One commenter suggested that FINRA should work with the industry to create a model approach that clearly articulates appropriate disclosure for enhanced compensation arrangements and supported concise, direct and plain English disclosures of 28 APA, Arrigo, Capstone-FA, Cornell, Edward Jones, HDVest, JGHeller, Merrill, Miami, Morgan Wilshire, MSWM, NASAA, Oppenheimer, PIABA, Ruchin, Scott Smith, Summit-E, UBS, Wedbush, WFA. 29 UBS. 30 Capstone-FA. 31 APA. 32 Cornell. 33 Morgan Wilshire, Wedbush. 34 Edward Jones, Merrill, MSWM, NASAA, Summit-E, UBS, WFA. PO 00000 Frm 00106 Fmt 4703 Sfmt 4703 17599 information that is sufficient to inform an investor of the potential material conflicts of interest that may arise in connection with recruiting related bonus payments.35 Another commenter noted that specific disclosure would make it significantly easier for former customers to assess the merits of the change to reach an informed decision about whether to transfer an account to the new firm.36 The Notice Proposal requested comment on an alternative approach that would require a general upfront disclosure by the recruiting firm or representative that the representative is receiving, or will receive, material enhanced compensation in connection with the transfer of securities employment (or association) to the recruiting firm and that additional specific information regarding the details of such compensation would be available at a specified location on the firm’s Web site or upon request. A few commenters asserted that a general disclosure would dilute the goal of proactive, timely disclosure because customers would carry the burden to seek out the more detailed disclosures from the member or representative.37 One commenter opposed the alternative approach because the more detailed web-based disclosure would be accessible not only by customers, but also the public.38 Numerous commenters suggested that the proposal should require general disclosure of recruitment compensation, instead of specific disclosure, with an opportunity for customers to request more information from the representative or member regarding the details of such compensation.39 Some commenters also stated that a general disclosure would prompt a dialogue between the representative and retail customers that would be more valuable than raw numbers without context.40 Several commenters stated that a brief, plain English, generic disclosure with the delivery of Automated Customer Account Transfer Service (‘‘ACATS’’) forms or at account opening would be more meaningful to customers than specific disclosure of compensation, and also would avoid 35 SIFMA. 36 Oppenheimer. 37 Edward Jones, Summit-E, UBS. 38 Summit-E. 39 Advisor Group, Ameriprise, BDA, Bischoff, Cetera, Janney, LaBastille, Lax, Lincoln, Miami, NAIFA, Plexus, Stifel, Summit-B, Sutherland, Wedbush. 40 Ameriprise, Cetera, Wedbush. E:\FR\FM\28MRN1.SGM 28MRN1 17600 Federal Register / Vol. 79, No. 60 / Friday, March 28, 2014 / Notices of interest, is unnecessary and redundant, and does not provide additional protections to retail investors beyond existing rules (e.g., FINRA’s suitability rule already addresses churning and unsuitable recommendations and FINRA’s supervision rules address firms’ supervisory systems).47 Three commenters noted that the benefits of the proposal are unclear because, among other things, a representative’s compensation has no direct impact on a customer’s account and recruitment compensation does not present a conflict of interest that is distinguishable from other compensation arrangements not covered by the proposal.48 Five commenters stated that the proposal is not helpful to customers and will not assist them in making a decision to transfer assets to a new firm.49 Three commenters stated that the proposal is not well designed to mitigate conflicts or help customers because it does not prohibit any action; it merely provides an incomplete disclosure of one of many potential conflicts.50 A few commenters stated that if the true intent of the proposal is to reduce conflicts of interest by curtailing recruitment compensation packages, then it would be more efficient for FINRA to address such arrangements, rather than requiring disclosure to customers with the hope that the second order impact will be for firms to change their practices.51 Numerous commenters questioned the purpose of the proposal given the lack of evidence that recruitment compensation harms clients in any way.52 Several commenters noted that FINRA cited no enforcement actions, cases, customer complaints or other empirical evidence that enhanced compensation creates a conflict of interest between customers and representatives and requested that FINRA consider modifying the proposal to more accurately address any perceived harm.53 One commenter Opposition to the Notice Proposal In general, commenters opposed to the proposal stated that it does not address an identifiable harm or conflict mstockstill on DSK4VPTVN1PROD with NOTICES privacy and anti-competitive issues.41 Several other commenters noted that specific disclosure might mislead or confuse customers and would, therefore, not be helpful or serve the purposes of investor protection.42 One commenter stated that customers might view recruitment compensation as a bribe or excessive.43 One commenter suggested that firms should provide customers with a single page, plain English form to inform the client that their representative is receiving recruitment compensation exceeding $50,000 and, although the representative is under no suspicions of acting unethically, FINRA has identified enhanced compensation as an area prone to conflicts, and any concerns regarding the management of investment accounts and objectives should be raised with the representative.44 Two commenters noted that disclosure of specific recruitment compensation may be viewed as a measure of the new firm’s endorsement of the representative.45 As discussed in Item B., FINRA does not agree that general disclosure of recruitment compensation would provide sufficient information for a former customer to weigh in a decision whether to transfer assets to his or her representative’s new firm. FINRA continues to believe that some level of specificity regarding the magnitude of recruitment compensation paid by a member to a representative is necessary for the disclosure to be meaningful to former customers. FINRA believes that customers need some quantifiable measure to evaluate the impact recruitment compensation may have had on the representative’s decision to move firms and his or her attempt to induce former customers to transfer assets to that new firm. FINRA further believes that the disclosure of ranges of compensation will provide a former customer enough sense of the magnitude of the payments to foster further inquiry with the representative if the customer finds the compensation relevant to his or her decision to transfer assets to the new firm.46 47 Abel, Advisor Group, Ameriprise, APA, BDA, Bischoff, Burns, Capstone-AG, Cetera, Commonwealth, Cutter, Edde, Elzweig, FORM, FSI, Gompert, Janney, LaBastille, Lincoln, LPL, NPB, SIPA, Smith Moore, Spartan, Stifel, Sutherland, Summit-B, Summit-E, Taylor, Taylor English, Whitehall, Wilson, Wood. 48 Smith Moore, Sutherland, Taylor English. 49 Advisor Group, Bischoff, Commonwealth, Spartan, Wedbush. 50 Burns, Taylor English, Showalter. 51 Cutter, Taylor English, Whitehall. 52 Advisor Group, Burns, Cutter, Edde, Herskovits, Smith Moore, Summit-B, Sutherland, Taylor English, Wedbush and Whitehall. 53 Burns, Commonwealth, Janney, Stifel, Sutherland. 41 Ameriprise, Cetera, Janney, Lax, Stifel, Sutherland, Wedbush. 42 Advisor Group, BDA, Bischoff, Burns, Miami, NAIFA, Plexus, Sutherland. 43 Smith Moore. 44 Cornell. 45 Burns, Elzweig. 46 See also FINRA’s responses to comments regarding privacy and anti-competitive concerns on pages 110 through 116. VerDate Mar<15>2010 18:57 Mar 27, 2014 Jkt 232001 PO 00000 Frm 00107 Fmt 4703 Sfmt 4703 stated that more rigorous analysis is needed to determine if an actual conflict exists.54 Several commenters were concerned that the proposal assumes that representatives act in bad faith and implies that customers should not trust representatives if they have received recruitment compensation, even if it merely helps offset the cost of moving firms.55 One commenter noted that the backlash from customers will outweigh any benefits of the proposal.56 Another commenter noted that the proposal does not explain how the significant consequences to the representative of specific compensation disclosure are outweighed by the benefit to retail customers and suggested focus group testing to determine whether a general disclosure would be as effective as specific disclosure.57 One commenter stated that the proposal will cause jealousy and bad will among clients, create a more litigious environment, and will force representatives to take on larger and fewer clients.58 Another commenter stated that the disclosure will put pressure on representatives to perform above prevailing market conditions to justify payouts.59 One commenter stated that the proposal will further sensationalize the transition of a representative to another firm.60 Another commenter stated that it, instead, could harm a representative’s interests with no practical purpose.61 However, one commenter stated that specific disclosure of recruitment compensation that is moderate and reasonable will not negatively affect representatives because he or she can explain the benefits of the move and the costs and lost revenues involved in the transition.62 Some commenters raised concerns that the proposed disclosure will be confusing to customers because they cannot understand the complexity of compensation packages and, therefore, the proposal will not be valuable to them or serve the purposes of investor protection.63 One commenter noted that customers are not in a position to judge the merits of recruitment compensation to understand their value to the future 54 Janney. 55 Abel, Ameriprise, Burns, Capstone-AG, Commonwealth, Cutter, FORM, FSI, Lincoln, LPL, Whitehall. 56 Bischoff. 57 FSI. 58 Wilson. 59 Taylor. 60 Smith Moore. 61 Lax. 62 Korth. 63 Advisor Group, BDA, Miami, Plexus, Sutherland. E:\FR\FM\28MRN1.SGM 28MRN1 mstockstill on DSK4VPTVN1PROD with NOTICES Federal Register / Vol. 79, No. 60 / Friday, March 28, 2014 / Notices of a firm or branch, and are more likely to view them all negatively.64 Other commenters requested clarification of what is meant by disclosure of ‘‘details’’ of enhanced compensation and ‘‘similar arrangements.’’65 A number of commenters also noted that recruitment compensation may actually benefit investors because it may cover ACATS transfer fees, moving expenses, or new advertising materials, and allow the representative to move to a new firm with better service.66 One commenter noted that the proposal does not consider that representatives who receive significant recruitment compensation packages are those that are in high demand and the firms that recruit them will have quality platforms and services that will benefit clients.67 FINRA believes the proposed rule change addresses many of the commenters’ concerns by better focusing the proposal on the impact to customers when they are considering transferring assets to a representative’s new firm, rather than specific amounts of recruitment compensation paid to a representative. As stated in Item A., FINRA recognizes the business rationales for offering financial incentives and transition assistance to recruit experienced representatives and seeks neither to encourage nor discourage the practice with the proposed rule change. The proposed rule change also does not intend to cast representatives in a negative light for receiving recruitment compensation when they accept a new position. The proposed rule change would require disclosure of ranges of compensation, instead of specific amounts of compensation, and expands the disclosures to include information about the costs, fees, and portability issues that will directly impact a customer’s assets. The proposed rule change is intended to provide former customers with this information, so they have a more complete picture of the factors relevant to a decision to transfer assets to a new firm and can engage in further conversations with the recruiting firm or their representative in areas of personal concern. Moreover, the proposed rule change will focus a former customer’s attention on the decision to transfer assets to a new firm, and the direct and indirect impacts of such a transfer on those assets, so they are in a position to make an informed decision whether to follow their representative. 64 Bischoff. 65 Sutherland, Lax, NAIFA, Cutter, Summit-E. 66 FORM, Lincoln, LPL, Capstone-AG. 67 Elzweig. VerDate Mar<15>2010 18:57 Mar 27, 2014 Jkt 232001 FINRA does not believe that former customers will be confused by a clear, plain English disclosure regarding a representative’s recruitment compensation. However, FINRA notes that the proposed rule change amends the Notice Proposal to require disclosure of ranges of compensation, the basis for such compensation, and other important considerations that a former customer should consider when they are deciding whether to transfer assets to a new firm. The proposed rule change would require members to use the FINRA-developed disclosure template, or their own form with substantially similar content, and would include a free text section to include contextual information regarding the disclosures. In addition, members would be required to include descriptions regarding ‘‘upfront payments’’ and ‘‘potential future payments’’ to assist customers in understanding the types of payments that their representative has received or will receive from the recruiting firm. As noted in Item A., FINRA believes the proposed rule change provides targeted and meaningful information to customers at a relatively limited cost to firms and without implying any bad faith on the part of the registered representative. The disclosures are intended to encourage customers to make further inquiry to reach an informed decision by providing a framework with some specific information to consider the impact to their accounts. In addition, FINRA believes that former customers should be given enough information to understand how their assets factor into the calculation of their representative’s recruitment compensation package, and how much money is at stake in these transfers. Privacy Concerns Numerous commenters opposed specific disclosure of recruitment compensation because it would interfere with a representative’s right to privacy.68 Some commenters stated that the proposal threatens the financial privacy of representatives in a manner that is unfair, needlessly intrusive, and may jeopardize client relationships.69 Others noted that it will expose personal and confidential information without any tangible benefit to the customer and should not be required absent a compelling public policy 68 Ameriprise, Burns, Cetera, Gompert, Janney, Lax, Stifel, Sutherland, Wedbush, Whitehall, Wilson. 69 FSI, Herskovits, LaBastille, Lax, Stifel. PO 00000 Frm 00108 Fmt 4703 Sfmt 4703 17601 reason to do so.70 One commenter minimized the operational and privacy concerns stating that they do not outweigh clients’ best interests, and disclosures may enhance client relationships based on transparency and trust.71 A number of commenters stated that the proposal exposes representatives to safety risks, including, e.g., identity theft, data security incidents,72 financial fraud, kidnapping, black mail and extortion.73 One commenter expressed concerns that disclosure of recruitment compensation will make a representative’s compensation a factor when customers are considering the settlement of outstanding complaints and negotiating settlement offers.74 Two commenters further stated that firms will be unable to protect widespread dissemination of a representative’s compensation information once it is disclosed.75 One commenter suggested including with the proposed disclosure a customer confidentiality provision with an exception for the customer to share the information with an attorney or financial professional for consulting purposes.76 One commenter noted that the information gained by the disclosure will eventually be obtained and aggressively used by the previous firm to try to persuade clients not to follow their representatives to the new firm.77 Two commenters warned that the proposed disclosure would expose trade secrets and destroy proprietary business formulas that have been developed by firms.78 Another commenter stated that it threatens the confidential nature and success of firms’ recruiting programs and impacts a core and currently proprietary tool that broker-dealers use to manage their business (i.e., compensation of personnel) without a measurable increase in customer protection or evidence that the disclosure will impact the perceived conflicts.79 Three commenters stated that the proposal could violate applicable state and federal privacy regulations, including the GrammLeach-Bliley Act and Regulation S–P, which are designed to protect the dissemination of non-public customer personal information.80 One commenter 70 Ameriprise, BDA, Stifel. 71 MSWM. 72 Cetera, Janney. Janney, SIPA. 74 SIPA. 75 Ameriprise, Janney. 76 Miami. 77 Burns. 78 Janney, Miami. 79 Sutherland. 80 FSI, Janney, Taylor English. 73 FSI, E:\FR\FM\28MRN1.SGM 28MRN1 mstockstill on DSK4VPTVN1PROD with NOTICES 17602 Federal Register / Vol. 79, No. 60 / Friday, March 28, 2014 / Notices encouraged FINRA to consider the operational challenges presented by the proposal, such as non-compete agreements and the prohibitions in Regulation S–P.81 FINRA believes that many of the privacy concerns noted by commenters are reduced by the proposed rule change that would provide for simplified and less specific disclosure of recruitment compensation in ranges. FINRA believes that the proposed disclosure of ranges of compensation and affirmative cost and portability disclosures, collectively, strike an appropriate balance to alleviate privacy and anti-competitive concerns, while providing customers with important information upon which to base a decision to transfer assets to a new firm. FINRA does not agree with the commenters that stated that there is no benefit or significant policy reason to provide recruitment compensation disclosure to former customers of a transferring representative. FINRA believes that receiving lucrative financial incentives that are often based on the amount of assets that will transfer with a representative to a new firm or the representative’s trailing 12 creates a conflict of interest when a member, directly or through that representative, attempts to induce the owners of such assets to transfer them to the new firm. The representative’s interest in receiving recruitment compensation may not align with the customer’s best interest as to where to maintain his or her assets. FINRA believes that the investor protection benefits of providing this important information to former customers to inform their decision whether to transfer assets to their representative’s new firm outweigh any remaining privacy issues that may arise under the proposed rule change. In addition, FINRA does not agree that the proposal to require disclosure of ranges of recruitment compensation to former customers would encourage violations of federal or state privacy regulations because it does not require the disclosure of any information related to non-public customer personal information. With respect to commenters’ concerns regarding noncompete agreements and the prohibitions in Regulation S–P, FINRA notes that the proposed rule change should not impact any contractual agreement between a representative and his or her former firm or new firm and does not require members to disclose information in a manner inconsistent with Regulation S–P.82 The proposed 81 Sutherland. 82 See 17 CFR 248.15(a)(7)(i). VerDate Mar<15>2010 18:57 Mar 27, 2014 Jkt 232001 rule change assumes that recruiting firms and representatives will act in accordance with the contractual obligations established in employment contracts, state law, and, if applicable, the Protocol for Broker Recruiting.83 Anti-Competitive Consequences of the Notice Proposal The Notice Proposal solicited comment on whether the proposal will affect business practices and competition among firms with respect to recruiting and compensation practices. Many commenters stated that a general disclosure is preferable to specific disclosure of recruitment compensation because specific disclosure may have anti-competitive consequences.84 Two of these commenters noted that the proposal is an indirect restraint on trade and suppresses fair competition inconsistent with the requirements of a registered securities association under the Exchange Act.85 Numerous commenters stated that the proposal may constructively operate as a restrictive covenant not to compete if representatives are essentially restrained from transitioning to a new firm because of disclosures that are applicable only to their industry, which may result in a representative remaining with a less competitive or unethical firm.86 Two commenters noted that the proposal will dampen innovation and harm customers.87 One commenter cautioned that the proposal could cripple the opportunities for representatives to merge and consolidate their practices and to be compensated for their expenses.88 Another commenter disagreed and stated that competition for talented representatives will not be affected by the proposal.89 Three commenters noted that the proposal deepens the regulatory gap between broker-dealers and registered investment advisers and posited that it could have the result of driving 83 The Protocol for Broker Recruiting (the ‘‘Protocol’’) was created in 2004 and permits departing representatives to take certain limited customer information with them to a new firm, and solicit those customers at the new firm, without the fear of legal action by their former employer. The Protocol provides that representatives of firms that have signed the Protocol can take client names, addresses, phone numbers, email addresses and account title information when they change firms, provided they leave a copy of this information, including account numbers, with their branch manager when they resign. 84 Ameriprise, Cetera, Janney, Lax, Stifel, Sutherland, Wedbush. 85 Cetera, Janney. 86 Burns, Burke, Elzweig, Janney, Smith Moore, Steiner, Stifel, Taylor, Wilson. 87 Burns, Elzweig. 88 Capstone-AG. 89 UBS. PO 00000 Frm 00109 Fmt 4703 Sfmt 4703 representatives into the registered investment adviser business.90 One commenter suggested that FINRA work with the Commission and the states to adopt similar disclosure requirements for registered investment advisers so that representatives who switch to an adviser firm will also be subject to the proposed disclosure requirements.91 FINRA believes that representatives should have the freedom to transfer firms for any business reason. The proposed rule change is not designed to obstruct representatives from moving to a situation that better suits their needs and the needs of their customers. FINRA does not believe that the proposed rule change will prevent representatives from transferring firms by simply requiring the disclosure of key information that a former customer should consider before making a decision to move his or her assets to a new firm. Further, the proposed disclosure of recruitment compensation ranges is less intrusive than the more specific requirements of the Notice Proposal and should cure many of the concerns that the proposed rule change would be anti-competitive. Based on consultation with FINRA’s advisory committees and discussions with member firms, FINRA does not anticipate that industry-wide uniform disclosure of recruitment compensation of $100,000 or more for each category of recruitment compensation will have the effect of stalling representatives’ movement between firms. With respect to commenters’ concerns regarding the disparate treatment of registered investment advisers under the proposed rule, FINRA notes that registered investment advisers are subject to the oversight of the SEC pursuant to the Investment Advisers Act of 1940 and a disclosure regime established by the Form ADV (Uniform Application for Investment Adviser Registration).92 Disclosure Is Misleading to Customers Without Context Two commenters questioned the value of the proposed disclosure without any context to explain the justification and basis for the 90 Ameriprise, FSI, Janney. 91 WFA. 92 See Form ADV, Section 2B, Item 5 (Additional Compensation): ‘‘If someone who is not a client provides an economic benefit to the supervised person for providing advisory services, generally describe the arrangement. For purposes of this Item, economic benefits include sales awards and other prizes, but do not include the supervised person’s regular salary. Any bonus that is based, at least in part, on the number or amount of sales, client referrals, or new accounts should be considered an economic benefit, but other regular bonuses should not.’’ E:\FR\FM\28MRN1.SGM 28MRN1 Federal Register / Vol. 79, No. 60 / Friday, March 28, 2014 / Notices mstockstill on DSK4VPTVN1PROD with NOTICES recruitment compensation arrangement.93 Two other commenters stated that customers may think that the amount is a measure of the new firm’s endorsement of the representative.94 Commenters also noted that customers will not be able to fully understand a recruitment package without having a full picture of all the factors involved, including, among other things, the risks and costs of a transition,95 personal reasons for a move,96 lost revenues suffered during the transition and first months at a new firm, and without relative frames of reference regarding the representative’s compensation, such as the size of the representative’s book of business or average annual revenues.97 Other commenters stated that customers are not experienced enough to know the right questions to ask or the proper due diligence to perform without context, including, among other things, that the arrangement may involve minimum customer asset transfer amounts or minimum revenue amounts attached to asset transfers for payments to fully vest.98 One commenter asked whether the disclosure may be accompanied by a statement explaining the other factors considered when making the move to the new firm, such as the availability of research and market analysis.99 Three commenters noted that there are many reasons why a representative will move firms so the financial incentives received should not call into question the motivation behind such a move or serve as an indication that the move was for any other reason than in the best interest of clients.100 FINRA believes it appropriate to allow a member to provide context to inform a former customer’s decisionmaking process and enhance his or her understanding of recruitment compensation arrangements, and other considerations such as costs, fees and portability issues that may impact the customer. Therefore, FINRA plans to include on the FINRA-developed disclosure template a free text section in which a member or representative may choose to include contextual information to explain the reasoning and basis for the recruitment compensation package and information regarding costs, fees and portability issues that may impact the former customer. FINRA believes that any information that may clarify the disclosures is appropriate so long as it is not misleading. Notice Proposal Is Too Broad Four commenters suggested that the proposal should exclude transition assistance designed solely to help offset the costs incurred by representatives to switch firms.101 One commenter requested that transition assistance associated with loss of insurance renewals due to vesting restrictions be excluded from the proposed disclosure requirement.102 Two commenters questioned the need for a disclosure requirement for asset-based recruitment compensation.103 One commenter recommended that FINRA incorporate an exception in the proposed rule for firms that do not include commission targets as part of enhanced compensation arrangements.104 Some commenters also noted that the proposal should be narrowed to include only compensation that presents a material conflict of interest 105 or FINRA should prohibit practices deemed to have greater conflicts of interest, e.g., bonuses tied to commission or revenue goals and enhanced payout arrangements.106 One commenter stated that enhanced compensation means something different to a wirehouse representative than transition assistance for a representative in an independent broker-dealer model who employs a staff, has mortgage payments on leased commercial space, and may take three or more months to get the business up and running.107 FINRA believes the proposed rule change to require disclosure of recruitment compensation ranges beginning at $100,000 as applied separately to aggregate upfront payments and aggregate potential future payments would establish a threshold that would exclude many payments intended only to cover transition assistance, such as relocation and various overhead costs (e.g., office equipment, new business cards and letterhead). FINRA believes amounts above that threshold, particularly those based on a representative’s trailing 12, are properly included in the disclosure requirement, as they are significant enough to bear on the representative’s 101 Commonwealth, 93 MarketCounsel, 94 Burns, 95 Cutter, Taylor English. Elzweig. Smith Moore. 102 Summit-E. 103 Burns, 96 Noble. Sutherland. motivation to move firms and may prompt questions by former customers based on a review of their account activity. FINRA also notes that the proposed rule change would permit members to net out any increased costs incurred directly by the registered person in connection with transferring to the member in calculating whether a threshold is met. With respect to commenters’ suggestion that asset-based recruitment compensation be excluded from the proposed rule change, FINRA does not agree. FINRA believes that asset-based recruitment packages present the same level of conflicts of interest when a member or a representative attempts to induce a former customer to transfer assets to the member because the representative’s interest in asset gathering at the new firm may not align with the customer’s best interest as to where to maintain those assets. As noted in Item A., most recruitment compensation packages are based, in part, on a representative’s asset levels at his or her previous firm and members take these numbers into consideration when calculating recruitment compensation packages with an understanding that many of the representative’s former customers will follow their representative to a new firm. De Minimis Exception The Notice Proposal included an exception to the disclosure requirement for recruitment compensation of less than $50,000. The proposal requested comment on whether FINRA should establish an amount different from the proposed $50,000 for a de minimis exception. One commenter supported the $50,000 de minimis proposal, asserting that it was reasonable, would significantly reduce the burden for firms that pay only true transition assistance, and would allow firms to cover a representative’s out of pocket expenses in many cases without triggering disclosure.108 Several commenters stated that $50,000 is an arbitrary and nominal threshold.109 Some commenters stated that the proposed de minimis was too low a threshold amount to cover the substantial costs incurred by representatives who transition firms.110 Two of these commenters suggested that the de minimis exception should be raised to 104 Summit-E. 97 Bischoff, Burns, Wedbush. Plexus. 99 LaBastille. 100 Janney, NAIFA, Summit-B. 105 Commonwealth, FORM, Herskovits, Lincoln, LPL, Sutherland. 106 Wedbush. 107 Ameriprise. 98 Capstone-FA, VerDate Mar<15>2010 NAIFA, Summit-B, Summit- E. 17603 18:57 Mar 27, 2014 Jkt 232001 PO 00000 Frm 00110 Fmt 4703 Sfmt 4703 108 HDVest. 109 Commonwealth, Cutter, FSI, Lax, Smith Moore, Summit-B, Summit-E. 110 Commonwealth, Lax, NAIFA, Wedbush. E:\FR\FM\28MRN1.SGM 28MRN1 mstockstill on DSK4VPTVN1PROD with NOTICES 17604 Federal Register / Vol. 79, No. 60 / Friday, March 28, 2014 / Notices $100,000 or higher.111 Other commenters thought the $50,000 disclosure was too high and suggested a $25,000 de minimis exception.112 Others suggested an alternative to the $50,000 de minimis amount that would require disclosure of any recruitment compensation that exceeds a certain percentage of the previous 12-month calendar year commissions.113 One commenter asked if FINRA considered account transfer and registration costs when establishing the de minimis exception.114 A few commenters warned that firms may restructure arrangements and use the de minimis exception as a means to avoid disclosure.115 Two commenters ask how the de minimis exception would be calculated in cases of unspecified dollar amounts at the time of transfer, such as covering transfer costs and deferred incentives.116 In response to the comments, FINRA revised the proposal to include an effective de minimis exception for any recruitment compensation in an amount less than $100,000, as applied separately to aggregate upfront payments and aggregate potential future payments. In addition, the proposed rule change permits members to net out from the calculation of recruitment compensation (and total compensation for purposes of reporting to FINRA) any increased costs incurred directly by the representative in connection with transferring to the member. FINRA believes that the combination of raising the de minimis amount and allowing firms to net out costs directly incurred by a representative in a transfer addresses many of the commenters’ concerns. With respect to the comments regarding how the de minimis exception would be calculated in cases of unspecified dollar amounts at the time of transfer, such as covering transfer costs and deferred incentives, FINRA notes that the proposed rule change includes supplementary material that clarifies that the member must assume that all performance-based conditions on the compensation are met and may make reasonable assumptions about the anticipated gross revenue to which an increased payout percentage will be applied. 111 NAIFA, Wedbush. UBS. 113 Commonwealth, Korth, Summit-B, Summit-E. 114 Taylor English. 115 Lax, Miami, Showalter. 116 NAIFA, Taylor English. 112 PIABA, VerDate Mar<15>2010 18:57 Mar 27, 2014 Jkt 232001 Notice Proposal Should Be Expanded Numerous commenters questioned why FINRA singled out recruitment compensation when it is just one piece of a total compensation package offered by a recruiting firm.117 Such commenters noted that isolating recruitment compensation for inspection by customers is misleading because it does not present a conflict of interest significantly greater than other incentives offered in the ordinary course of business or in the form of retention bonuses and other compensation. One commenter recommended that firms report to FINRA their recruitment compensation, retention compensation and other incentives, and FINRA can determine whether a compensation package is justified.118 One commenter noted that the proposal seemed unnecessarily limited by excluding such benefits as new territories, new titles, and new high net worth customers.119 Another commenter suggested that FINRA require disclosure of additional gross compensation paid to the representative when it is more than 15 percentage points higher than a representative received at his or her previous firm.120 One commenter suggested that FINRA consider the fair dealing obligations of the representative’s former firm when communicating with a representative’s clients about staying with the firm because they may offer financial incentives to retain the accounts.121 One commenter noted that many current employee contracts are full of deterrent and non-compete provisions that can also be seen as conflicts of interest.122 In addition, one commenter noted that branch managers may be paid a bonus six to nine months after a representatives departs a firm based on the amount of assets that did not follow the representative to his or her new firm.123 Another commenter stated that firms should be required to disclose when they terminate representative payouts thus incentivizing the representative to look for new opportunities.124 FINRA understands the commenters’ concerns that the proposal does not require disclosure of retention bonuses and other incentive compensation to 117 BDA, Bischoff, Burke, Burns, Capstone-AG, FORM, FSI, MarketCounsel, Miami, Lincoln, NAIFA, NASAA, Smith Moore, Steiner, Taylor English, WFA. 118 Smith Moore. 119 Plexus. 120 Korth. 121 WFA. 122 Spartan. 123 Burns. 124 Showalter. PO 00000 Frm 00111 Fmt 4703 Sfmt 4703 customers. With the proposed rule change, FINRA is primarily concerned with providing customers impactful information to consider when deciding whether to transfer assets to a representative’s new firm. Therefore, in response to these comments, FINRA has focused more narrowly on the costs and conflicts associated with that decision by a customer. FINRA notes that incentives offered while the representative is situated at a firm do not implicate the same considerations, such as transfer costs and portability issues. However, FINRA is interested in how compensation packages may be influencing representatives and their sales practice activities, so it is proposing a requirement that members report to FINRA at the beginning of the employment or association of a representative that has former customers if the member reasonably expects the total compensation paid to the representative by the member during the representative’s first year of employment or association with the member to result in an increase over the representative’s prior year compensation by the greater of 25% or $100,000. In determining total compensation, the member must include any aggregate upfront payments, aggregate potential future payments, increased payout percentages or other compensation the member reasonably expects to pay the representative during the first year of employment or association with the member. FINRA will review the proposed rule within an appropriate period after its approval and implementation to determine whether it is achieving its intended purpose and whether it is having unintended effects. As part of that review, FINRA will determine whether to eliminate the reporting requirement if the information is not useful, or expand it to other material increases in compensation, such as retention bonuses, that may result in increased risk to customers. One commenter stated that the proposal should more clearly spell out for customers the practical and personal impacts of the potential conflicts to permit an informed decision about whether to transfer assets to the representative’s new firm.125 Another commenter suggested that investors should have answers to questions such as whether: (1) Products and services can be transferred to the new firm; (2) the investor will have to pay fees to the old or new firm to make a transition; or (3) the recruitment compensation package involves sales targets or other 125 SIFMA. E:\FR\FM\28MRN1.SGM 28MRN1 Federal Register / Vol. 79, No. 60 / Friday, March 28, 2014 / Notices mstockstill on DSK4VPTVN1PROD with NOTICES incentives that may impact their accounts.126 The proposed rule change addresses these comments by requiring disclosure to former customers if transferring the former customer’s assets to the member will result in costs to the former customer, such as account termination or account transfer fees from the former customer’s current firm or account opening or maintenance fees at the member, that will not be reimbursed by the member, and if any of the former customer’s assets are not transferable to the member and that the former customer may incur costs, including taxes, to liquidate and transfer those assets to the member or inactivity fees to leave those assets with the former customer’s current firm. In addition, the proposed rule would require disclosure of the basis of any aggregate upfront payments and aggregate potential future payments received, or to be received, of at least $100,000 by the representative. FINRA believes such disclosure will prompt a dialogue between former customers and their representatives about the impacts the structure and magnitude of a recruitment package may have had on their accounts at the previous firm, and may have on an account at the recruiting firm if the customer decides to transfer assets. Disclosure at First Contact With a Former Customer The Notice Proposal required disclosure of the details of the enhanced compensation to be made orally or in writing at the time of first individualized contact by the member or representative with the former customer after the representative has terminated his or her association with the previous firm. If the disclosure was made orally, the recruiting firm also would have been required to provide the disclosure in writing to the former customer with the account transfer approval documentation. When individualized contact with that former customer had not occurred and the customer sought to transfer an account from the previous firm to a brokerdealer account assigned to the representative with the recruiting firm, the recruiting firm also would have been required to provide the disclosure in writing to the former customer with the account transfer approval documentation. The Notice Proposal asked for comment on whether the proposed rule should require written disclosure at first individualized contact in all instances, rather than allowing oral disclosure. 126 Edward Jones. VerDate Mar<15>2010 18:57 Mar 27, 2014 Jkt 232001 Many commenters opposed the proposal to require oral disclosure of recruitment compensation at the time of first individualized contact by the member or the representative, contending that such a requirement is unworkable and would present significant tracking and supervisory challenges for recruiting firms.127 One commenter supported oral disclosure at first contact in lieu of written disclosure, stating that written disclosure at first contact is not practical from a business standpoint, jeopardizes the representative’s move to the new firm, delays the transfer, and is a segmented approach.128 Two commenters requested clarification that the requirement is limited to the initial contact that relates to the former client’s transfer of an account and not an announcement of the representative’s new employment.129 The proposed rule change retains the requirement to provide oral disclosures to a former customer when a member or representative makes individualized oral contact to attempt to induce the former customer to transfer assets to the member. FINRA believes that the administrative and tracking challenges of oral disclosure asserted by commenters do not outweigh the value in providing disclosures at the time of first individualized contact because it is the point at which a customer begins the decision-making process on whether to follow a representative to a new firm. FINRA does not believe that setting up policies and procedures to supervise a registered person’s communications with former customers presents an unreasonable burden to members. Members already are obligated to supervise representatives’ communications with customers and have flexibility to design their supervisory systems. FINRA notes that the commenters did not provide specific data to support their contention that oral disclosure at first individualized contact would be unworkable for recruiting firms. Under the proposed rule, FINRA would consider a phone call to a former customer announcing a representative’s new position with the member to qualify as first individualized contact and an attempt to induce the former customer to transfer assets to the member even when the conversation is limited to an announcement. Therefore, the proposed disclosures must be 127 Advisor Group, Cetera, Cutter, Merrill, Miami, PIABA, Showalter, Summit-B, Taylor English, WFA. 128 Summit-E. 129 Ameriprise, Gehring. PO 00000 Frm 00112 Fmt 4703 Sfmt 4703 17605 provided orally during the phone call and must be followed by written disclosures sent within 10 business days from such oral contact or with the account transfer approval documentation, whichever is earlier. One commenter supported written disclosure at first individualized contact, noting that disclosure may be overlooked by a customer if written disclosure is not required until the account transfer documentation.130 Several commenters objected to the proposal to require written disclosure at first individualized contact, stating that it is impractical and interferes with the representative’s ability to timely contact customers.131 These commenters suggested instead that written disclosure be required at or prior to account opening because it gives customers an opportunity to comprehensively review the disclosure. The proposed rule change retains the requirement to provide written disclosures at the time of first individualized contact with a former customer if such contact is in writing. FINRA believes disclosure at first individualized contact is more effective than disclosure at or prior to account opening because customers typically have already made the decision to transfer assets by that point in the process. FINRA does not believe that it is particularly burdensome to require members to include as part of a written communication to former customers a disclosure form that includes key information for the customer to consider in making a decision to transfer assets to a new firm. In addition, FINRA believes that the information required by the proposed disclosures should be accessible to the recruiting firm and the representative at the time first contact is made by the recruiting form or the representative. The proposed rule change provides that a recruiting firm may rely on the reasonable representations of the representative, supplemented by the actual knowledge of the recruiting firm, in determining whether a disclosure must be made to a former customer. If after considering the representations of the newly hired representative, the firm cannot make a determination regarding the portability of a former customer’s products, the firm must advise former customers in the disclosure to ask their current firm whether any of their securities account assets will not transfer and what costs, if any, the customers will incur to liquidate and transfer such assets or 130 PIABA. 131 Commonwealth, Lax, Merrill, Summit-B, Summit-E, Taylor English, UBS, WFA. E:\FR\FM\28MRN1.SGM 28MRN1 17606 Federal Register / Vol. 79, No. 60 / Friday, March 28, 2014 / Notices keep them in an account with their current firm. The firm must further disclose that nontransferable securities account assets will be identified to the former customer in writing prior to, or at the time of, validation of the account transfer instructions. The Notice Proposal also solicited comment on whether the proposal should require a representative to disclose specific amounts of recruitment compensation to any customer individually contacted by the representative regarding such transfer while the representative is still at the previous firm. Numerous commenters objected to such a requirement while the representative is still at the previous firm,132 suggesting that it would be unworkable from an operational and supervisory standpoint,133 unnecessary to fulfill the goals of the proposal,134 would interfere with the representative’s ability to give notice to the firm, and may violate existing statutory or contractual obligations to the firm.135 Based on the comments, FINRA did not incorporate such a requirement in the proposed rule change. However, if FINRA finds that representatives are contacting former customers before association or employment with the new firm as a way to avoid making the disclosures required by the proposed rule, FINRA will consider future rulemaking in this area. mstockstill on DSK4VPTVN1PROD with NOTICES One-Year Disclosure Period The Notice Proposal would have required the proposed disclosure to former customers for one year following the date the representative associates with the recruiting firm. The Notice Proposal requested comment on whether the proposal should apply a different time period. Commenters had mixed views on the issue. Three commenters supported the proposed disclosure period of one year following the date the representative associates with the recruiting firm.136 Four commenters recommended that the disclosures should apply for the period that the representative is receiving enhanced compensation.137 Two commenters recommended a disclosure period of 90 days from the date the representative associates with the new firm 138 and one commenter recommended 90 to 180 days from such 132 Advisor Group, Ameriprise, Cetera, Lax, Taylor English, SIFMA, UBS, Wedbush, WFA. 133 Ameriprise, SIFMA. 134 Taylor English, WFA. 135 Lax. 136 Summit-B, UBS, WFA. 137 Cornell, Miami, PIABA, Ruchin. 138 Commonwealth, Sutherland. VerDate Mar<15>2010 18:57 Mar 27, 2014 Jkt 232001 date.139 One commenter suggested a disclosure period of six months to one year from the date of hire because most representatives contact their clients within the first six months of employment.140 Another commenter stated that the one-year time period is arbitrary and seems extensive based on typical transfer time.141 The proposed rule change retains the proposed requirement for disclosure to former customers for a period of one year following the date the representative begins employment or associates with a member. As noted in Item B., FINRA understands that most customers who transfer assets to the recruiting firm do so soon after the representative changes firms so the oneyear period should be sufficient to ensure that virtually all former customers that the recruiting firm or representative attempt to induce to transfer assets to the recruiting firm receive the disclosure. FINRA is not proposing a shorter time period for the proposed disclosures because it also understands it may take some former customers longer to make a determination to transfer assets to the representative’s new firm, particularly if such customer is initially hesitant about transferring assets to the new firm. FINRA believes the disclosure information is equally relevant for customers that wait some time to consider transferring assets to the new firm and that one year is a reasonable cutoff. FINRA believes the burden of compliance should diminish over the year period, consistent with early efforts to induce former customers to transfer their assets. Who Should Receive Disclosure The Notice Proposal would have required disclosure to any former customer with an account assigned to the representative at the previous firm who is individually contacted by the recruiting firm or representative, either orally or in writing, regarding the transfer of the securities employment (or association) of the representative to the recruiting firm; or seeks to transfer an account from the previous firm to a broker-dealer account assigned to the representative with the recruiting firm. The Notice Proposal requested comment on whether the proposal should apply to all customers recruited by the transferring representative during the year after transfer. FINRA also asked for comment on whether it should apply to any new broker-dealer account assigned 142 Commonwealth, Cutter, NAIFA, Summit-B, Summit-E, Sutherland, UBS. 143 Cornell, Miami, PIABA, Ruchin. 144 Miami. 139 Summit-E. 140 Wedbush. 141 Cutter. PO 00000 Frm 00113 to the representative with the recruiting firm opened by a former customer of the representative in addition to accounts transferring from the previous firm. Commenters were split on who should receive the proposed disclosure of specific compensation. One set of commenters suggested that the proposal should focus on the conflict that exists when a representative asks a former customer to move to the recruiting firm, so only former customers should receive the disclosure.142 Another set of commenters stated that all clients, including new clients at the recruiting firm, should receive the proposed disclosure.143 One commenter stated that the proposal should be expanded beyond retail customers to include institutional customers, because their asset levels make them particularly susceptible to misconduct aimed at increasing a representative’s production.144 The proposed rule change would apply to customers that meet the definition of a ‘‘former customer’’ under the proposed rule. This would include any customer that had a securities account assigned to a representative at the representative’s previous firm and would not include a customer account that meets the definition of an institutional account pursuant to FINRA Rule 4512(c); provided, however, accounts held by any natural person would not qualify for the ‘‘institutional account’’ exception. FINRA agrees with the commenters that suggested that the proposed rule change should address the conflict that exists when a representative attempts to induce a former customer to move assets to the recruiting firm. FINRA believes that former customers that a member or representative attempts to induce to transfer assets to a new firm are most vulnerable in recruitment situations because they have already developed a trusting relationship with the representative and because their assets may be both the basis for the representative’s recruitment compensation (if the representative’s upfront payments and potential future payments are asset-based or productionbased) and subject to potential costs and changes if the customer decides to move those assets to the recruiting firm. FINRA did not extend the application of the proposed rule to non-natural person institutional accounts because it believes that such accounts are more sophisticated in their dealings with Fmt 4703 Sfmt 4703 E:\FR\FM\28MRN1.SGM 28MRN1 Federal Register / Vol. 79, No. 60 / Friday, March 28, 2014 / Notices representatives and that the proposed disclosure would not have as significant an impact on their decision whether to transfer assets to a new firm. mstockstill on DSK4VPTVN1PROD with NOTICES Customer Affirmation The Notice Proposal also requested comment on whether the proposed rule should include a requirement that a customer affirm receipt of the disclosure regarding recruitment compensation at or before account opening at the new firm. FINRA was interested, in particular, in the potential for such a requirement to delay the account opening process in a manner that could disadvantage customers. A majority of the commenters that responded to this request opposed a customer affirmation requirement because it would cause delays in the account opening and transfer process, create an additional layer of tracking, review and approval to members’ operations, may disadvantage clients, and would impose costs and an undue burden on members.145 Two commenters supported a requirement for written customer affirmation and suggested using a standard form in the new account paperwork that would not be overly burdensome to members.146 The proposed rule change does not incorporate a written customer affirmation requirement. FINRA believes that the requirements to provide disclosure at the time of first individualized contact with a former customer, to follow up in writing if such contact is oral, and to deliver the disclosures with the account transfer approval documentation when no individual contact is made, will ensure that former customers receive and have an opportunity to review the proposed disclosure before they decide to transfer assets to a new firm. At this time, FINRA does not believe that a customer affirmation is necessary to accomplish the goals of the proposed rule change, especially in light of commenters’ concerns that such a requirement may delay the account opening and transfer process. FINRA will assess the effectiveness of the disclosure requirement without a customer affirmation requirement following implementation of the proposed rule. If FINRA finds that the proposed disclosures alone are not attracting the attention of customers to influence their decision-making process, then it will reconsider a customer affirmation requirement. Economic Impacts of the Notice Proposal The Notice Proposal requested comments on the economic impact and expected beneficial results of the proposed rule. Specifically, FINRA asked for comment on what direct costs for the recruiting firm will result from the rule, and what indirect costs will arise for the recruiting firm or its transferring persons. Three commenters stated that the proposal will generate significant administrative challenges and implementation costs for firms and representatives, including additional paperwork and forms, tracking mechanisms, training, and new policies and procedures.147 Two commenters stated that there will be initial implementation costs, but they are warranted to elevate industry standards and provide better information to clients before they transfer their accounts to a new firm.148 One commenter stated that the disclosure can be included with new account documentation so it will not delay the account transfer process or impose significant costs on firms.149 One commenter suggested that FINRA should conduct a cost-benefit analysis of the proposal that assesses the impact not only on customers, but also the attendant impact on representatives, firms, and restraints on trade.150 Two commenters asked whether the proposal would include an obligation to disclose modifications to recruitment compensation packages with an updated disclosure to former customers who have already transferred assets to the recruiting firm.151 Despite a request for quantitative comments, the commenters that stated that the proposal will generate significant administrative challenges and implementation costs did not provide specific costs or empirical data upon which to base their assertions. FINRA has given careful consideration to the economic impacts of the proposed rule change. It has considered the comments to the Notice Proposal, as well as feedback from its advisory committees, other industry members and the public. Based on the input received, FINRA does not believe that the proposed rule change will result in unsupportable administrative and implementation challenges for members. As with most rule changes, the proposed rule change would likely require updates to members’ systems and procedures; however, FINRA 147 Advisor 148 Edward 145 Cetera, Janney, NAIFA, Taylor English, Wedbush. 146 Cornell, Summit-E. VerDate Mar<15>2010 18:57 Mar 27, 2014 Jkt 232001 Group, Summit-E, Sutherland. Jones, UBS. 149 Cornell. 150 Janney. 151 Cetera, PO 00000 Taylor English. Frm 00114 Fmt 4703 Sfmt 4703 17607 believes the burden of such updates are outweighed by the significant benefit to retail investors in receiving key information relevant to a decision to transfer their assets to a new firm and the benefit to FINRA’s risk-based examination process by receiving information related to significant increases in a representative’s compensation in the first year at a recruiting firm. As discussed in Item B., FINRA has made several changes to the Notice Proposal that will assist members and reduce the burdens of compliance: Among other things, the proposed rule change includes a $100,000 de minimis exception that applies separately to aggregate upfront payments and aggregate potential future payments, allows members to net out costs paid to a representative as reimbursement for direct costs incurred by a representative in a move, includes a FINRA-developed disclosure template, and allows disclosure of recruitment compensation ranges instead of specific amounts to protect the privacy of transferring representatives. In addition, members may rely on the reasonable representations of a representative regarding the cost and portability disclosures and, although such disclosures must be affirmative as they relate to each former customer’s assets, the disclosures do not have to be specific as to the amount of costs or products that will not transfer. With respect to the commenters’ question regarding disclosure of modifications to a representative’s recruitment compensation package, FINRA is not aware that recruitment packages typically are modified after a recruited representative has associated with the recruiting firm. To the extent that practice occurs and is not designed to circumvent the requirements of the proposed rule, the proposed rule change would not require any such modifications to be disclosed to customers that have already transferred their accounts. FINRA notes that the proposed rule is focused on a former customer’s decision to transfer assets to the recruiting firm. A modification to the recruitment package cannot affect the decisions of customers that have already transferred assets (unless they have additional assets that could still be transferred). However, FINRA cautions that any aspects of the recruitment package that were agreed upon prior to the representative associating with the recruiting firm—including any modifications that would take effect at a later date—would be considered either upfront or potential future payments for E:\FR\FM\28MRN1.SGM 28MRN1 17608 Federal Register / Vol. 79, No. 60 / Friday, March 28, 2014 / Notices the purposes of the disclosure obligation. mstockstill on DSK4VPTVN1PROD with NOTICES Small Firms Concerns The Notice Proposal solicited comment on whether the impacts of the proposal with respect to changes in business practices and recruiting efforts differentially will affect small or specialized broker-dealers. Six commenters stated that compliance with the proposal will be more difficult for small firms with limited operational resources and supervisory personnel and will make recruiting efforts more challenging.152 In crafting the proposed rule change, FINRA considered its potential impacts on small firms and specialized brokerdealers. The proposed rule change provides for disclosure of recruitment compensation in ranges only for amounts of $100,000 or more, as applied to two separate categories of recruitment compensation. Based on input from members, including independent broker-dealers and small firms, FINRA believes that the $100,000 thresholds as applied separately to aggregate upfront payments and aggregate potential future payments for purposes of disclosure to former customers and the greater of 25% or $100,000 over the representative’s prior year’s compensation for purposes of reporting total compensation to FINRA will exclude most small firms and specialized broker-dealers from the proposed rule because such firms are not likely to offer recruitment compensation or total compensation packages that meet the proposed thresholds, particularly when, as permitted under the proposed rule, direct costs incurred by the representative in connection with the transfer are netted out from the calculation.153 FINRA believes that, to the extent that a small firm or specialized broker-dealer does pay the significant levels of recruitment compensation captured by the proposed rule change, their customers should similarly be provided the disclosure that will facilitate an informed decision as to whether to transfer assets to the representative’s new firm. FINRA also is proposing disclosure to former customers via a FINRA-developed template that would save all members, small and large, from the resources, administration and costs related to developing a disclosure form that would meet the requirements of the proposed rule. Alternatives Suggested One commenter recommended that FINRA adopt a rule that would prohibit recruitment compensation over $100,000 to level the recruiting playing field among all members and eliminate potential or perceived conflicts of interest.154 Another commenter suggested that the disclosure should be given by the firm the representative is leaving and should be provided to all clients of the departing representative at the time of his or her resignation.155 A few commenters believed that placing the burden on firms to enhance their supervisory structure and develop comprehensive policies and procedures related to conflicts identification and disclosure would better serve the industry and investors.156 One commenter suggested that FINRA allow members to make their own business decisions and determine what is competitive and profitable for them regarding recruitment practices.157 Another commenter suggested amending the proposal to require the member to disclose compensation paid by its non-member affiliates to a transferring representative to avoid a loophole for dual-hatted representatives.158 One commenter asked FINRA to evaluate whether the proposed rule should apply to all clientfacing professionals (investment bankers, institutional sales representatives, financial planners, sales traders) who receive recruitment compensation.159 Two commenters stated that recruiting firms should be required to send clients a FINRA-drafted pamphlet that flags issues related to transitions, so clients can make their own determination as to what information they consider important in evaluating whether they should follow their representative to a new firm.160 As detailed in Item B., FINRA has considered numerous alternatives suggested by the commenters to the Notice Proposal but believes that the proposed rule change strikes an appropriate balance to increase transparency with respect to recruitment practices without creating unnecessary costs or burdens on members and their representatives. As to these commenters’ suggestions, FINRA does not believe it appropriate to regulate the amount of recruitment compensation paid to representatives; 154 Wedbush. 155 Oppenheimer. 156 FSI, VerDate Mar<15>2010 18:57 Mar 27, 2014 Jkt 232001 158 Gehring. 159 Janney. 160 Burns, PO 00000 Miami. Frm 00115 Fmt 4703 Implementation and Requests To Delay Rulemaking Some commenters expressed concerns regarding the implementation of the proposal. Five commenters noted that due to the nature of some enhanced compensation arrangements (e.g., deferred incentives or modifications to a package) it will be difficult to calculate dollar amounts at the time of transfer.162 Two commenters requested guidance on how recruitment 161 Report on Conflicts of Interest, FINRA, October 2013, available at, http://www.finra.org/ web/groups/industry/@ip/@reg/@guide/documents/ industry/p359971.pdf. 162 Ameriprise, NAIFA, Summit-B, Sutherland, Taylor English. Janney, NASAA. 157 Midwestern. 152 Cetera, Gompert, Janney, Plexus, Summit-E, Whitehall. 153 See proposed FINRA Rule 2243.04. rather, the proposed rule change seeks to provide disclosure related to compensation incentives to the extent it may impact a retail investor’s decision whether to follow his or her representative to a new firm. FINRA believes the recruiting firm that is paying representatives recruitment compensation in amounts that meet the proposed thresholds is in the best position to provide the required disclosures. FINRA encouraged members in its Report on Conflicts of Interest to enhance their supervision of representative’s activity around the time of compensation thresholds; 161 however, the primary focus of the proposed rule change is to provide retail investors with important cost information and transparency of conflicts related to the decision whether to transfer assets to a representative’s new firm. FINRA also notes that the proposed rule change would require disclosure of recruitment compensation paid by non-member affiliates to the extent those amounts, when combined with any recruitment compensation paid by the recruiting member, exceed the $100,000 thresholds for each category of recruitment compensation. The proposed rule change would apply to recruitment compensation paid to any registered person; however, FINRA notes that investment bankers and other types of registered persons not involved in retail sales are unlikely to have retail customers whose assets might be induced to transfer. Finally, FINRA believes the more specific disclosure that would be required under the proposed rule change will appreciably benefit retail customers more than a general pamphlet that sets out considerations without providing the actual information related to those considerations. FINRA will continue to evaluate alternatives based on the comments received on the revised proposal. Sfmt 4703 E:\FR\FM\28MRN1.SGM 28MRN1 Federal Register / Vol. 79, No. 60 / Friday, March 28, 2014 / Notices compensation should be calculated and disclosed, by group or individual, where bonuses are given to a group of brokers and assistants who move to a new firm together.163 One commenter requested that FINRA allow adequate time for implementation.164 Another commenter suggested limiting the application of the rule to those hired after the rule goes into effect.165 One commenter suggested that it would be prudent for FINRA to assemble a working group to collect qualitative information related to the use of recruitment compensation in the industry to make a well-informed decision about how best to proceed in order to achieve its intended goals.166 One commenter noted that the proposal should consider FINRA’s proposal in Regulatory Notice 10–54 (Disclosure of Services, Conflicts and Duties) and Section 919 of the Dodd-Frank Act,167 which grants permissive authority to the SEC to engage in rulemaking with respect to compensation practices, because a comprehensive review of the required disclosure regime for brokerdealers would result in a more thoughtful, consistent and effective set of disclosures that would be most likely to benefit investors.168 Another commenter suggested that FINRA integrate the proposal with the preengagement disclosures contemplated in Regulatory Notice 10–54.169 Two commenters recommended that FINRA delay further regulatory action until the conflicts initiative is completed.170 Finally, one commenter noted that FINRA should do a global conflicts assessment not limited to this isolated and singular conflict.171 FINRA believes that members are in a position to calculate recruitment compensation for purposes of the proposed disclosure requirement at the time a representative or the member attempts to induce a former customer of the representative to transfer assets to the representatives’ new firm. FINRA notes that the representative will already be associated with or employed by the member, so all compensation arrangements between the representative and the member should be clear and agreed to by all parties. The proposed rule change also provides 163 Cetera, LaBastille. Group. 165 Gehring. 166 FSI. 167 Dodd-Frank Wall Street Reform and Consumer Protection Act, Pub. L. No. 111–203, 124 Stat. 1376 (2010). 168 Sutherland. 169 FSI. 170 Advisor Group, FSI. 171 Janney. mstockstill on DSK4VPTVN1PROD with NOTICES 164 Advisor VerDate Mar<15>2010 18:57 Mar 27, 2014 Jkt 232001 guidance with respect to calculating recruitment compensation and total compensation for the purpose of the proposed disclosure and reporting requirements, respectively: members must assume that all performance-based conditions on the representative’s compensation are met, may make reasonable assumptions about the anticipated gross revenue to which an increased payout percentage will be applied and may net out any increased costs incurred directly by the registered person in connection with transferring to the member. With respect to a transfer of a group, or team, of representatives and staff, FINRA believes that members can make a reasonable determination regarding the application of recruitment compensation to each individual that transferred to the firm to make the required disclosures. FINRA will consider further guidance regarding application of the proposed rule change as issues arise. FINRA understands the commenters’ suggestions to delay rulemaking and incorporate the proposed rule change into other ongoing efforts related to conflicts of interest. However, FINRA believes that the proposed rule change should move forward at this time, as it is narrowly focused on a retail investor’s important decision whether to transfer assets to a new firm, rather than conflicts associated with compensation practices more broadly. FINRA believes that former customers should begin receiving the proposed disclosures as soon as practicable so that they are fully informed before making a decision to transfer assets to a representative’s new firm. FINRA will consider how the proposed rule change fits within the larger scheme of conflicts of interest regulations as the timetables on such other proposals progress. In addition, FINRA will establish a reasonable implementation period for the proposed rule change to provide members with sufficient time to update their internal systems and policies. III. Date of Effectiveness of the Proposed Rule Change and Timing for Commission Action Within 45 days of the date of publication of this notice in the Federal Register or within such longer period (i) as the Commission may designate up to 90 days of such date if it finds such longer period to be appropriate and publishes its reasons for so finding or (ii) as to which the self-regulatory organization consents, the Commission will: (A) By order approve or disapprove such proposed rule change, or PO 00000 Frm 00116 Fmt 4703 Sfmt 4703 17609 (B) institute proceedings to determine whether the proposed rule change should be disapproved. IV. Solicitation of Comments Interested persons are invited to submit written data, views and arguments concerning the foregoing, including whether the proposed rule change is consistent with the Act. Comments may be submitted by any of the following methods: Electronic Comments • Use the Commission’s Internet comment form (http://www.sec.gov/ rules/sro.shtml ); or • Send an email to rule-comments@ sec.gov. Please include File Number SR– FINRA–2014–010 on the subject line. Paper Comments • Send paper comments in triplicate to Secretary, Securities and Exchange Commission, 100 F Street NE., Washington, DC 20549–1090. All submissions should refer to File Number SR–FINRA–2014–010. This file number should be included on the subject line if email is used. To help the Commission 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 (http://www.sec.gov/ rules/sro.shtml ). Copies of the submission, all subsequent amendments, all written statements with respect to the proposed rule change that are filed with the Commission, and all written communications relating to the proposed rule change between the Commission and any person, other than those that may be withheld from the public in accordance with the provisions of 5 U.S.C. 552, will be available for Web site viewing and printing in the Commission’s Public Reference Room, 100 F Street NE., Washington, DC 20549, on official business days between the hours of 10:00 a.m. and 3:00 p.m. Copies of such filing also will be available for inspection and copying at the principal office of FINRA. All comments received will be posted without change; the Commission does not edit personal identifying information from submissions. You should submit only information that you wish to make available publicly. All submissions should refer to File Number SR–FINRA– 2014–010 and should be submitted on or before April 18, 2014. E:\FR\FM\28MRN1.SGM 28MRN1 17610 Federal Register / Vol. 79, No. 60 / Friday, March 28, 2014 / Notices For the Commission, by the Division of Trading and Markets, pursuant to delegated authority.172 Kevin M. O’Neill, Deputy Secretary. [FR Doc. 2014–06895 Filed 3–27–14; 8:45 am] BILLING CODE 8011–01–P SECURITIES AND EXCHANGE COMMISSION [Release No. 34–71784; File No. SR–BX– 2014–014] Self-Regulatory Organizations; NASDAQ OMX BX, Inc.; Notice of Filing and Immediate Effectiveness of Proposed Rule Change to the Clearly Erroneous Rule March 24, 2014. Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 (‘‘Act’’),1 and Rule 19b–4 thereunder,2 notice is hereby given that, on March 18, 2014, NASDAQ OMX BX, Inc. (‘‘BX’’ or ‘‘Exchange’’), filed with the Securities and Exchange Commission (‘‘Commission’’) the proposed rule change as described in Items I and II below, which Items have been prepared by the Exchange. The Commission is publishing this notice to solicit comments on the proposed rule change from interested persons. I. Self-Regulatory Organization’s Statement of the Terms of Substance of the Proposed Rule Change The Exchange proposes to extend the pilot period of recent amendments to Rule 11890, concerning clearly erroneous transactions. The text of the proposed rule change is available from BX’s Web site at http://nasdaqomxbx.cchwallstreet.com, at BX’s principal office, and at the Commission’s Public Reference Room. mstockstill on DSK4VPTVN1PROD with NOTICES II. Self-Regulatory Organization’s Statement of the Purpose of, and Statutory Basis for, the Proposed Rule Change In its filing with the Commission, the Exchange included statements concerning the purpose of and basis for the proposed rule change and discussed any comments it received on the proposed rule change. The text of these statements may be examined at the places specified in Item IV below. The Exchange has prepared summaries, set forth in Sections A, B, and C below, of the most significant aspects of such statements. 172 17 CFR 200.30–3(a)(12). U.S.C. 78s(b)(1). 2 17 CFR 240.19b–4. 1 15 VerDate Mar<15>2010 18:57 Mar 27, 2014 Jkt 232001 A. Self-Regulatory Organization’s Statement of the Purpose of, and Statutory Basis for, the Proposed Rule Change 1. Purpose The purpose of this filing is to extend the effectiveness of the Exchange’s current rule applicable to Clearly Erroneous Executions. Portions of Rule 11890, explained in further detail below, are currently operating as a pilot program set to expire on April 8, 2014.3 The Exchange proposes to extend the pilot program to coincide with the pilot period for the Plan to Address Extraordinary Market Volatility Pursuant to Rule 608 of Regulation NMS under the Act (the ‘‘Limit Up-Limit Down Plan’’ or the ‘‘Plan’’), including any extensions to the pilot period for the Plan.4 On September 10, 2010, the Commission approved, for a pilot period, a proposed rule change to Rule 11890 to provide for uniform treatment: (1) Of clearly erroneous execution reviews in multi-stock events involving twenty or more securities; and (2) in the event transactions occur that result in the issuance of an individual stock trading pause by the primary listing market and subsequent transactions that occur before the trading pause is in effect on the Exchange.5 The Exchange also adopted additional changes to Rule 11890 that reduced the ability of the Exchange to deviate from the objective standards set forth in Rule 11890,6 and in 2013, adopted a provision designed to address the operation of the Plan.7 The Exchange believes the benefits to market participants from the more objective clearly erroneous executions rule should continue on a pilot basis to coincide with the operation of the Limit Up-Limit Down Plan. The Exchange believes that continuing the pilot will protect against any unanticipated consequences. Thus, the Exchange believes that the protections of the Clearly Erroneous Rule should continue while the industry gains further experience operating the Plan. 2. Statutory Basis The statutory basis for the proposed rule change is Section 6(b)(5) of the 3 Securities Exchange Act Release No. 70542 (Sept. 27, 2013), 78 FR 61427 (Oct. 3, 2013) (SR– BX–2013–053). 4 Securities Exchange Act Release No. 67091 (May 31, 2012), 77 FR 33498 (June 6, 2012) (the ‘‘Limit Up-Limit Down Release’’). 5 Securities Exchange Act Release No. 62886 (Sept. 10, 2010), 75 FR 56613 (September 16, 2010). 6 Id. 7 Securities Exchange Act Release No. 68818 (Feb. 1, 2013), 78 FR 9100 (Feb. 7, 2013) (SR–BX–2013– 010); see also Rule 11890(g). PO 00000 Frm 00117 Fmt 4703 Sfmt 4703 Securities Exchange Act of 1934 (the ‘‘Act’’),8 which requires the rules of an exchange to promote just and equitable principles of trade, to remove impediments to and perfect the mechanism of a free and open market and a national market system and, in general, to protect investors and the public interest. Although the Limit UpLimit Down Plan is operational, the Exchange believes that maintaining the pilot will help to protect against unanticipated consequences. Thus, the Exchange believes that the protections of the Rule 11890 should continue while the industry gains further experience operating the Plan. The Exchange also believes that the pilot program promotes just and equitable principles of trade in that it promotes transparency and uniformity across markets concerning review of transactions as clearly erroneous. Thus, the Exchange believes that the extension of the pilot would help assure that the determination of whether a clearly erroneous trade has occurred will be based on clear and objective criteria, and that the resolution of the incident will occur promptly through a transparent process. The proposed rule change would also help assure consistent results in handling erroneous trades across the U.S. markets, thus furthering fair and orderly markets, the protection of investors and the public interest. Based on the foregoing, the Exchange believes the benefits to market participants from the more objective clearly erroneous executions rule should continue on a pilot basis to coincide with the operation of the Limit Up-Limit Down Plan. B. Self-Regulatory Organization’s Statement on Burden on Competition The Exchange does not believe that the proposed rule change implicates any competitive issues. To the contrary, the Exchange believes that the Financial Industry Regulatory Authority and other national securities exchanges are also filing similar proposals, and thus, that the proposal will help to ensure consistency across market centers. C. Self-Regulatory Organization’s Statement on Comments on the Proposed Rule Change Received From Members, Participants, or Others Written comments were neither solicited nor received. 8 15 E:\FR\FM\28MRN1.SGM U.S.C. 78f(b)(5). 28MRN1

Agencies

[Federal Register Volume 79, Number 60 (Friday, March 28, 2014)]
[Notices]
[Pages 17592-17610]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: 2014-06895]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-71786; File No. SR-FINRA-2014-010]


Self-Regulatory Organizations; Financial Industry Regulatory 
Authority, Inc.; Notice of Filing of Proposed Rule Change To Adopt 
FINRA Rule 2243 (Disclosure and Reporting Obligations Related to 
Recruitment Practices)

March 24, 2014.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act'') \1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that 
on March 10, 2014, Financial Industry Regulatory Authority, Inc. 
(``FINRA'') filed with the Securities and Exchange Commission (``SEC'' 
or ``Commission'') the proposed rule change as described in Items I, 
II, and III below, which Items have been prepared by FINRA. The 
Commission is publishing this notice to solicit comments on the 
proposed rule change from interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    FINRA is proposing to adopt FINRA Rule 2243, which would establish 
disclosure and reporting obligations related to member recruitment 
practices.
    The text of the proposed rule change is available on FINRA's Web 
site at http://www.finra.org, at the principal office of FINRA and at 
the Commission's Public Reference Room.

II. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

    In its filing with the Commission, FINRA included statements 
concerning the purpose of and basis for the proposed rule change and 
discussed any comments it received on the proposed rule change. The 
text of these statements may be examined at the places specified in 
Item IV below. FINRA has prepared summaries, set forth in sections A, 
B, and C below, of the most significant aspects of such statements.

A. Self-Regulatory Organization's Statement of the Purpose of, and the 
Statutory Basis for, the Proposed Rule Change

1. Purpose
Background
    FINRA members dedicate substantial resources each year to recruit 
registered persons (``representatives'') to their firms. Implicit in 
these recruitment efforts is an expectation that many of the 
representative's former customers will transfer assets to the member 
recruiting the representative (``recruiting firm'') based on the 
relationship that the representative has developed with those 
customers. To induce representatives to leave their current firm, 
recruiting firms often offer inducements to the representatives in the 
form of recruitment compensation packages. Recruitment compensation 
packages provide a significant layer of

[[Page 17593]]

compensation in addition to the commission payout grid or other 
compensation that a representative receives based on production at a 
new firm. Recruitment compensation typically takes the form of some 
combination of upfront payments, such as cash bonuses or forgivable 
loans, and potential future payments, such as performance-based bonuses 
or special commission schedules that are not provided to similarly 
situated representatives.
    FINRA understands that representatives who contact former customers 
to join them at their new firm often emphasize the benefits the former 
customers would experience by transferring their assets to the firm, 
such as superior products, platforms and service. However, while the 
recruiting firm and the representative understand the financial 
incentives at stake in a transfer, the representative's former 
customers who are contacted or notified about moving assets to the 
recruiting firm generally are not informed that their representative is 
receiving a recruitment compensation package to transfer firms, or the 
potential magnitude of such packages. Furthermore, the former customers 
often may not be aware of the potential financial impacts to their 
assets that may result if they decide to transfer assets to a new firm, 
including, among other things, costs incurred to close an account with 
their current firm, transfer assets or open an account at the 
recruiting firm, and tax consequences if some assets are not portable 
and must be liquidated before transfer.
    The proposed rule change aims to provide former customers of a 
representative with a more complete picture of the factors involved in 
a decision to transfer assets to a recruiting firm. FINRA believes that 
former customers would benefit from information regarding recruitment 
compensation packages and such other considerations as costs, fees and 
portability issues that may impact their assets before they make a 
decision to transfer assets to a recruiting firm. A representative's 
most recent 12-month gross production and revenue, often referred to as 
his or her ``trailing 12,'' is typically the prominent factor in how 
firms calculate recruitment compensation packages. Other factors may 
include the firm from which the representative is transferring, the 
representative's book of business, the percentage of a representative's 
book of business that he or she expects will transfer to the new firm, 
the representative's years of service, debts to his or her previous 
firm, and the business model of the firm offering the package. FINRA 
understands that for representatives transferring to a large wirehouse 
firm, a standard recruitment compensation package may include an 
upfront payment, usually in the form of a forgivable loan, with a 7 to 
10 year term that equals from 150 to 200 percent of the 
representative's trailing 12. These packages also typically include 
potential future payments that the representative earns if specified 
production targets are met at the recruiting firm.
    FINRA understands that smaller firms generally do not offer 
significant recruitment compensation packages to representatives. For 
representatives that move to a firm with an independent broker-dealer 
model, recruitment compensation also may not include significant 
upfront payments. Firms that operate under an independent model 
typically offer compensation packages that include transition 
assistance and higher commission payout grid compensation in lieu of 
upfront payments. Transition assistance packages are intended to offset 
costs incurred by a representative to transfer firms, such as moving 
expenses, leasing space, buying office supplies and furniture, and 
hiring staff. These arrangements also are often based on the 
representative's trailing 12 and can result in significant recruitment 
compensation packages depending on the recruited representative's 
production and client base.
    FINRA recognizes the business rationales for offering financial 
incentives and transition assistance to recruit experienced 
representatives and seeks neither to encourage nor discourage the 
practice with the proposed rule change. However, FINRA believes that 
former customers currently are not receiving important information from 
recruiting firms and representatives when they are induced to move 
assets to the recruiting firm. There are a number of factors a former 
customer should consider when making a decision to transfer assets to a 
new firm. These factors include, among other things, a representative's 
motives to move firms, whether those motives align with the interests 
and objectives of the former customer, and any costs, fees, or product 
portability issues that will arise as a result of an asset transfer to 
the recruiting firm. The proposed rule change is intended to provide 
former customers information pertinent to these considerations, so they 
have a more complete picture of the factors relevant to a decision to 
transfer assets to a new firm and can engage in further conversations 
with the recruiting firm or their representative in areas of personal 
concern. FINRA believes that former customers would benefit from 
knowing, among other things, the magnitude of the financial incentives 
that may have led their representative to change firms, how the former 
customer's assets, or trading activity, factored into the calculation 
of such incentives, and whether moving their assets to the recruiting 
firm will impact their holdings or impose new costs. The proposed rule 
change is intended to focus a former customer's attention on the 
decision to transfer assets to a new firm, and the direct and indirect 
impacts of such a transfer on those assets, so they are in a position 
to make an informed decision whether to follow their representative.
    In addition, the proposed rule change would require members to 
report to FINRA information related to significant increases in total 
compensation over the representative's prior year compensation that 
would be paid to the representative during the first year at the 
recruiting firm so that FINRA can assess the impact of these 
arrangements on a member's and representative's obligations to 
customers and detect potential sales practices abuses. FINRA believes 
that incorporating such data into its risk-based examination program 
will help to identify and mitigate potential harm to customers 
associated with member recruitment practices.
Disclosure and Reporting Obligations Related to Recruitment Practices
    The proposed rule change would provide targeted and meaningful 
information to customers at what FINRA believes to be a relatively low 
cost to firms and without implying any bad faith on the part of 
representatives who receive recruitment compensation to move firms. The 
proposed rule change includes a disclosure obligation to ``former 
customers''\3\ who the recruiting firm attempts to induce to follow a 
transferring representative and a reporting obligation to FINRA. First, 
it would require disclosure to former customers of a representative of 
the financial incentives the representative will receive in conjunction 
with the transfer to the recruiting firm and the basis for those 
incentives. Second, the proposed rule change would require disclosure 
to former customers of any costs, fees or product portability issues, 
including taxes if some assets must be liquidated prior to transfer, 
that will result if the former customer decides to transfer assets to 
the recruiting firm. The

[[Page 17594]]

proposed disclosures are intended to encourage customers to make 
further inquiry to reach an informed decision by providing a framework 
with some specific information to consider the impact to their 
accounts. Finally, the proposed rule change would require a recruiting 
firm to report to FINRA, at the beginning of a representative's 
employment or association with the firm, significant increases in total 
compensation over the representative's prior year compensation that 
would be paid to the representative during the first year at the 
recruiting firm. The details of proposed FINRA Rule 2243 (Disclosure 
and Reporting Obligations Related to Recruitment Practices) are set 
forth in detail below.
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    \3\ See definition of ``former customer'' discussed infra at 
page 81.
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Disclosure Requirement
    The proposed rule change would require a member that hires or 
associates with a representative and directly or through that 
representative attempts to induce a former customer of that 
representative to transfer assets to an account assigned, or to be 
assigned, to the representative at the member to disclose to the former 
customer if the representative has received or will receive $100,000 or 
more of either (1) aggregate ``upfront payments'' or (2) aggregate 
``potential future payments'' in connection with transferring to the 
member.\4\ The proposed rule change would require members to disclose 
recruitment compensation by separately indicating aggregate upfront 
payments and aggregate potential future payments in the following 
ranges: $100,000 to $500,000; $500,001 to $1,000,000; $100,000,001 to 
$2,000,000; $2,000,001 to $5,000,000; and above $5,000,000.\5\ Thus, 
the proposed rule change effectively establishes two separate de 
minimis exceptions for payments of less than $100,000: One applied to 
aggregate upfront payments and one applied to aggregate potential 
future payments. Members also would be required to disclose the basis 
for determining any upfront payments and potential future payments 
(e.g., asset-based or production-based) the representative has received 
or will receive in connection with transferring to the member.\6\
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    \4\ See proposed FINRA Rule 2243(a)(1). See also FINRA Rule 
0140(a), which states that persons associated with a member shall 
have the same duties and obligations as a member under FINRA rules.
    \5\ See proposed FINRA Rule 2243.01 (Disclosure of Ranges of 
Compensation).
    \6\ See proposed FINRA Rule 2243(a)(2).
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    The proposed rule change would define a ``former customer'' as any 
customer that had a securities account assigned to a representative at 
the representative's previous firm. The term ``former customer'' would 
not include a customer account that meets the definition of an 
``institutional account'' pursuant to FINRA Rule 4512(c); provided, 
however, accounts held by a natural person would not qualify for the 
``institutional account'' exception.\7\ For the purpose of the proposed 
rule, ``upfront payments'' would mean payments that are either received 
by the representative upon commencement of employment or association or 
specified amounts guaranteed to be paid to the representative at a 
future date, including, e.g., payments in the form of cash, deferred 
cash bonuses, forgivable loans, loan-bonus arrangements, transition 
assistance, or in the form of equity awards (e.g., restricted stock, 
restricted stock units, stock options, etc.) or other ownership 
interest.\8\ The term ``potential future payments'' would include, 
e.g., payments (including the forms of payments described in the 
definition of the term ``upfront payments'') offered as a financial 
incentive to recruit the representative to a member that are contingent 
upon satisfying performance-based criteria, or a special commission 
schedule for representatives paid on a commissioned basis beyond what 
is ordinarily provided to similarly situated representatives, or are an 
allowance for additional travel and expense reimbursement beyond what 
is ordinarily provided to similarly situated representatives.\9\ FINRA 
understands that members sometimes partner with another financial 
services entity, such as an investment adviser or insurance company, to 
recruit a representative. In those circumstances, both upfront payments 
and potential future payments would include payments by the third party 
as part of the recruitment arrangement.
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    \7\ See proposed FINRA Rule 2243.05(a). FINRA Rule 4512(c) 
defines ``institutional account'' to mean the account of (1) a bank, 
savings and loan association, insurance company, or registered 
investment company; (2) an investment adviser registered either with 
the SEC under Section 203 of the Investment Advisers Act of 1940 or 
with a state securities commission (or any agency or office 
performing like functions); or (3) any other entity (whether a 
natural person, corporation, partnership, trust, or otherwise) with 
total assets of at least $50 million.
    \8\ See proposed FINRA Rule 2243.05(b).
    \9\ See proposed FINRA Rule 2243.05(c). FINRA notes that neither 
category of recruitment compensation would include higher commission 
schedule payouts received by a transferring representative, such as 
may occur where a representative transfers to an independent broker-
dealer, unless such payouts are beyond what is provided to similarly 
situated representatives, and that amount, alone or in combination 
with other payments, meets the $100,000 threshold for one of the 
categories of recruitment compensation.
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    In addition to the recruitment compensation disclosure, the 
proposed rule change would require the member to disclose to a former 
customer of the representative if transferring the former customer's 
assets to the member: (1) Will result in costs to the former customer, 
such as account termination or account transfer fees from the former 
customer's current firm or account opening or maintenance fees at the 
member, that will not be reimbursed to the former customer by the 
member; \10\ and (2) if any of the former customer's assets are not 
transferable to the member and that the former customer may incur 
costs, including taxes, to liquidate and transfer those assets in their 
current form to the member or inactivity fees to leave those assets 
with the former customer's current firm.\11\
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    \10\ See proposed FINRA Rule 2243(a)(3).
    \11\ See proposed FINRA Rule 2243(a)(4).
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    The proposed rule change would allow a member to rely on the 
reasonable representations of the representative, supplemented by the 
actual knowledge of the member, in determining whether the proposed 
disclosures must be made to a former customer.\12\ In the event that a 
member, after considering the representations of the newly hired 
representative, cannot make a determination whether any of the former 
customer's assets are not transferable to the member, the member must 
advise former customers in the disclosure: (1) To ask their current 
firms whether any of their assets will not transfer to the member and 
what costs, if any, the customers will incur to liquidate and transfer 
such assets or keep them in an account with their current firm and (2) 
that nontransferable securities account assets will be identified to 
the former customer in writing prior to, or at the time of, validation 
of the account transfer instruction pursuant to FINRA Rule 11870 
(Customer Account Transfer Contracts).\13\
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    \12\ See proposed FINRA Rule 2243.03 (Representations of a 
Registered Person).
    \13\ See supra note 12.
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    FINRA believes that the proposed rule change would provide key 
information to investors that they seldom receive today--that 
compensation may have been a motivating factor for a representative's 
transfer of firms, that the basis of any recruitment compensation may 
have or could impact the representative's treatment of the customer or 
the recommendation to move assets to the recruiting firm, that there 
may be costs associated with

[[Page 17595]]

transferring assets, and that there may be direct and indirect costs 
associated with liquidating or leaving behind nontransferable assets--
relevant to a decision to follow the representative to the recruiting 
firm.
    FINRA believes starting the disclosure of ranges of compensation at 
$100,000 for each category of recruitment compensation creates a 
reasonable de minimis exception from the proposed disclosure 
requirement at a level where the recruitment compensation or transition 
assistance are lesser motivating factors for a representative to move. 
FINRA will consider with interest comments on the appropriateness of 
the proposed de minimis exception amount of $100,000 for aggregate 
upfront payments and aggregate potential future payments; whether the 
disclosure of ranges of recruitment compensation should begin at a 
different amount; and whether the threshold should apply separately to 
upfront payments and potential future payments.
    More generally, FINRA believes disclosure of ranges of compensation 
received strikes a balance that will provide former customers detailed 
information about the nature and magnitude of the financial incentives 
involved in their representative's move to factor into their decision 
whether to transfer assets to the new firm, while reducing privacy 
concerns about specific disclosure of a representative's compensation. 
FINRA believes the specified level of detail regarding the 
representative's recruitment compensation and the treatment of former 
customer's assets is necessary to make the disclosures valuable to 
former customers. The disclosures are intended to prompt a dialogue 
between the former customer and the representative or recruiting firm 
by providing a framework to consider the impact of a decision to 
transfer assets to a new firm. FINRA believes that the proposed 
disclosures would encourage customers to make further inquiries to the 
representative and the recruiting firm to reach an informed decision 
about whether to transfer assets. In addition, FINRA believes that 
requiring the basis for recruitment compensation to be disclosed would 
allow a former customer to review his or her account activity during 
the relevant time to see if any unusual activity occurred to boost the 
representative's revenue base in anticipation of a move and to more 
closely monitor activity at the new firm, should the customer decide to 
move assets there.
Delivery of Disclosures
    The proposed rule change would require a member to deliver the 
proposed disclosures at the time of first individualized contact with a 
former customer by the representative or the member that attempts to 
induce the former customer to transfer assets to the member.\14\ If 
such contact is in writing, the written disclosures must accompany the 
written communication; if such contact is oral, the member must give 
the disclosures orally at the time of contact followed by written 
disclosures sent within 10 business days from such oral contact or with 
the account transfer approval documentation, whichever is earlier. If 
the representative or the member attempts to induce a former customer 
to transfer assets to an account assigned, or to be assigned, to the 
representative at the member, but no individualized contact with the 
former customer by the representative or member occurs before the 
former customer seeks to transfer assets, the disclosures must be 
delivered to the former customer with the account transfer approval 
documentation.\15\ The disclosure requirement would apply for a period 
of one year following the date the representative begins employment or 
associates with the member.\16\
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    \14\ See proposed FINRA Rule 2243(b)(1).
    \15\ See proposed FINRA Rule 2243(b)(2).
    \16\ See proposed FINRA Rule 2243(b)(3).
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    FINRA believes that any action taken by a recruiting firm directly 
or through a representative that attempts to induce former customers of 
the representative to transfer assets to the recruiting firm should 
trigger the disclosures. As such, under the proposed rule change, 
actions by the recruiting firm or the representative that do not 
involve individualized contact, such as a tombstone advertisement, a 
general announcement, or a billboard, would be considered attempts to 
induce former customers to move their assets. In these circumstances, 
if a former customer subsequently decides to transfer assets to the 
recruiting firm without individualized contact, the proposed rule 
change would require the recruiting firm to provide the proposed 
disclosures to former customers with the account transfer approval 
documentation.
Format of Disclosures
    The proposed rule change would require a member to deliver the 
proposed disclosures in paper or electronic form in a format prescribed 
by FINRA, or an alternative format with substantially similar 
content.\17\ The proposed rule change would require that written 
disclosures must be clear and prominent.\18\ To facilitate uniform 
disclosure under the proposed rule change and to assist members in 
making the proposed disclosures to former customers of a 
representative, FINRA has developed a disclosure template form that 
members may use to make the required disclosures.\19\ Members may, 
however, create their own disclosure form, as long as it contains 
substantially similar content to the FINRA-developed template.
---------------------------------------------------------------------------

    \17\ See proposed FINRA Rule 2243.02 (Format of Disclosures).
    \18\ See supra note 17.
    \19\ See Exhibit 3, attached to FINRA's filing with the 
Commission.
---------------------------------------------------------------------------

    On the disclosure form, a member would be required to indicate the 
applicable range of compensation in each category of recruitment 
compensation (i.e., aggregate upfront payments and aggregate potential 
future payments), for compensation in amounts of $100,000 or more that 
the representative has received or will receive in connection with 
transferring to the member. Thus, a representative who receives $75,000 
in aggregate upfront payments and $75,000 in potential future payments 
would not trigger the compensation disclosure under the proposed rule 
because the $100,000 threshold applies separately to each category of 
recruitment compensation. Members also would be required to indicate 
the basis for those payments, e.g., assets brought in or future 
production. In addition, members would be required to indicate if 
transferring assets to the representative's new firm will result in 
costs to the former customer that will not be reimbursed by the member, 
if any of the former customer's assets are not transferable to the 
member and that the former customer may incur costs, including taxes, 
to liquidate and transfer those assets in their current form to the 
member or inactivity fees to leave those assets with the former 
customer's current firm.
    The FINRA-developed disclosure template would include a free text 
section in which the member or representative may include additional, 
contextual information regarding the disclosures, as long as such 
information is not false or misleading. A member could provide the same 
context in a disclosure form of its own design, as long as it does not 
obscure or overwhelm the required disclosures and is not false or 
misleading. FINRA believes that allowing members and representatives an 
opportunity to provide context regarding the disclosures will alleviate 
concerns that

[[Page 17596]]

the disclosures will be confusing or imply bad faith on the part of the 
representative. FINRA believes that providing a uniform disclosure form 
will allow members to make the required disclosures at a relatively low 
cost and without significant administrative burdens.
Reporting Requirement
    The proposed rule change would require a member to report to FINRA 
at the beginning of the employment or association of a representative 
that has former customers (as defined by proposed Rule 2243.05) if the 
member reasonably expects the total compensation paid to the 
representative by the member during the representative's first year of 
employment or association with the member to result in an increase over 
the representative's prior year compensation by the greater of 25% or 
$100,000.\20\ In determining total compensation, the member must 
include any aggregate upfront payments, aggregate potential future 
payments, increased payout percentages or other compensation the member 
reasonably expects to pay the representative during the first year of 
employment or association with the member. A member's report to FINRA 
must include the amount and form of such total compensation and other 
related information, in the time and manner that FINRA may prescribe.
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    \20\ See proposed FINRA Rule 2243(c) (Reporting Requirement).
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    The compensation information reported to FINRA pursuant to the 
proposed rule would not be made available to the public. FINRA intends 
to use the reported compensation information as a data point in its 
risk-based examination program. As such, FINRA believes it is important 
to capture the compensation information in a structured way. FINRA 
believes this data will help FINRA examiners better assess the adequacy 
of firm systems to monitor conflicts of interest and systems to detect 
and prevent underlying business conduct abuses potentially attributable 
to recruitment compensation incentives, and target exams where concerns 
appear. This data also will help FINRA to identify whether the 
conflicts of interest attendant to particular levels or structures of 
increased compensation when a representative transfers firms result in 
customer harm that is not adequately addressed by current FINRA 
rules.\21\ Further, FINRA believes such data would inform any future 
rulemaking to require firms to manage conflicts arising from specific 
compensation arrangements. In addition, FINRA believes the proposed 
reporting requirement itself could mitigate potential sales practice 
violations, as it might encourage firms to give greater supervisory 
attention to the more lucrative compensation packages that will be 
reported to FINRA.
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    \21\ Recruitment compensation packages offered to 
representatives have been the subject of regulatory concern for many 
years. Former SEC Chairman Schapiro identified potential conflicts 
raised by recruitment practices in 2009 in an open letter to broker-
dealer CEOs. The letter noted that: ``[s]ome types of enhanced 
compensation practices may lead registered representatives to 
believe that they must sell securities at a sufficiently high level 
to justify special arrangements that they have been given. Those 
pressures may in turn create incentives to engage in conduct that 
may violate obligations to investors. For example, if a registered 
representative is aware that he or she will receive enhanced 
compensation for hitting increased commission targets, the 
registered representative could be motivated to churn customer 
accounts, recommend unsuitable investment products or otherwise 
engage in activity that generates commission revenue but is not in 
investors' interest.'' See Open Letter to Broker-Dealer CEOs from 
SEC Chairman Mary L. Schapiro, dated August 31, 2009.
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Calculating Compensation
    The proposed rule change would provide that in calculating 
compensation for the purpose of the proposed disclosure requirement and 
the proposed reporting requirement to FINRA, a member: (1) Must assume 
that all performance-based conditions on the representative's 
compensation are met; (2) may make reasonable assumptions about the 
anticipated gross revenue to which an increased payout percentage will 
be applied; and (3) may net out any increased costs incurred directly 
by the representative in connection with transferring to the 
member.\22\ Members must include as part of such calculations all 
compensation the representative has received or will receive that is 
based on gross commissions and assets under care from brokerage 
business and, if applicable, fee income and assets under management 
from investment advisory services. For example, a dual-hatted 
representative that receives from the recruiting firm an upfront 
payment of $1.5 million based on gross commissions from brokerage 
business and an upfront payment of $1 million based on fees and assets 
under management from investment adviser business would be required to 
indicate on the customer disclosure form that he or she has received 
recruitment compensation in the range of $2,000,001 to $5,000,000 in 
aggregated upfront payments, and include $2.5 million in upfront 
payments as part of calculating total compensation for the purposes of 
the reporting requirement to FINRA.
---------------------------------------------------------------------------

    \22\ See proposed FINRA Rule 2243.04 (Calculating Compensation).
---------------------------------------------------------------------------

    FINRA will announce the effective date of the proposed rule change 
in a Regulatory Notice to be published no later than 60 days following 
Commission approval. The effective date will be no later than 180 days 
following publication of the Regulatory Notice announcing Commission 
approval.
2. Statutory Basis
    FINRA believes that the proposed rule change is consistent with the 
provisions of Section 15A(b)(6) of the Act,\23\ which requires, among 
other things, that FINRA rules must be designed to prevent fraudulent 
and manipulative acts and practices, to promote just and equitable 
principles of trade, and, in general, to protect investors and the 
public interest. FINRA believes that the proposed rule change will 
promote investor protection by providing information on the costs and 
conflicts associated with a former customer's important decision 
whether to transfer assets to a representative's new firm. FINRA 
further believes that the proposed rule change would allow a former 
customer to make a more informed decision, taking into account the 
financial incentives that may motivate a representative to move firms 
and induce a customer to follow, as well as the costs to be borne by 
the customer in connection with transferring assets and the possibility 
that some assets cannot transfer. In addition, the proposed requirement 
to report to FINRA significant increases in total compensation in a 
representative's first year at a recruiting firm will enhance investor 
protection by allowing FINRA to monitor such practices and use the data 
collected to detect potential sales practice abuses.
---------------------------------------------------------------------------

    \23\ 15 U.S.C. 78o-3(b)(6).
---------------------------------------------------------------------------

B. Self-Regulatory Organization's Statement on Burden on Competition

    FINRA does not believe that the proposed rule change will result in 
any burden on competition that is not necessary or appropriate in 
furtherance of the purposes of the Act. By relying on disclosure and 
reporting, the proposed rule seeks to focus a former customer's 
attention on the decision to transfer assets to a new firm, and the 
direct and indirect impacts of such a transfer on those assets, so they 
are in a position to make an informed decision whether to follow their 
representative.
    The proposed rule would require a recruiting firm to determine the 
dollar

[[Page 17597]]

value of a representative's recruitment compensation, and if meeting a 
threshold, provide disclosure to former customers the recruiting firm 
or representative attempt to induce to transfer assets during the 
representative's first year of employment or association. In addition, 
the proposed rule would require the recruiting firm to report 
information about a representative's total compensation to FINRA if it 
meets the proposed threshold. Firms also would be responsible for 
developing compliance policies, training and tracking for the proposed 
rule. Some commenters have noted that the proposed rule also may have 
an impact on the market for representatives.
    FINRA does not believe that the proposed rule change will impose 
undue operational costs on members to comply with the disclosure and 
reporting obligations because the information needed to make the 
calculations resides with either the recruiting firm or the 
representative. The recruiting firm knows how much upfront compensation 
they will be paying the representative, as well as the additional 
potential future income the representative may earn if he or she 
satisfies conditions. Furthermore, the proposed rule change permits the 
recruiting firm to make reasonable assumptions about the gross revenue 
to which any increased payout percentage may apply. In addition, FINRA 
understands that the recruiting firm or the representative typically 
has ongoing contact with former customers, thereby facilitating the 
opportunity for the disclosures to be made. With respect to the 
disclosure of costs, FINRA believes that the representative will know 
of costs a former customer will incur at the current firm to transfer 
assets or leave them inactive and that the recruiting firm knows the 
costs it imposes to transfer assets and open and maintain an account 
there. Also, the proposed rule change allows the recruiting firm to 
rely on the reasonable representations of the representative for much 
of the information, and with respect to portability, give more 
generalized disclosure where the information cannot be ascertained from 
the representative or other actual knowledge.
    In developing the proposed rule change, FINRA considered several 
alternatives to the proposed rule change, which are set forth below, to 
ensure that it is narrowly tailored to achieve its purposes described 
previously without imposing unnecessary costs and burdens on members or 
resulting in any burden on competition that is not necessary or 
appropriate in furtherance of the purposes of the Act. The proposed 
rule change addresses many of the concerns noted by commenters in 
response to an earlier version of the proposal.\24\
---------------------------------------------------------------------------

    \24\ See Item C., which contains a detailed discussion of the 
earlier version of the proposal that was published in Regulatory 
Notice 13-02 (January 2013).
---------------------------------------------------------------------------

    First, the earlier version of the proposed rule change would have 
required a member that provides, or has agreed to provide, to a 
representative enhanced compensation in connection with the transfer of 
securities employment of the representative from another financial 
services firm to disclose the details, including specific amounts, of 
such enhanced compensation \25\ to any former customer of the 
representative at the previous firm that is contacted regarding the 
transfer of the securities employment (or association) of the 
representative to the recruiting firm, or who seeks to transfer assets, 
to a broker-dealer account assigned to the representative with the 
recruiting firm. The earlier proposal did not include any disclosure of 
costs or portability ramifications associated with transferring assets 
to the new firm. As discussed in detail in Item C., a majority of the 
comments received on the earlier version of the proposal opposed 
specific disclosure of enhanced compensation, stating that it was 
burdensome, an invasion of privacy and failed to address a particular 
harm to customers. Some commenters instead favored general disclosure 
that a representative is receiving unspecified compensation as part of 
a transfer.
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    \25\ In the initial proposal, the term ``enhanced compensation'' 
was defined as compensation paid in connection with the transfer of 
securities employment (or association) to the recruiting firm other 
than the compensation normally paid by the recruiting firm to its 
established registered persons. Enhanced compensation included but 
was not limited to signing bonuses, upfront or back-end bonuses, 
loans, accelerated payouts, transition assistance, and similar 
arrangements, paid in connection with the transfer of securities 
employment (or association) to the recruiting firm.
---------------------------------------------------------------------------

    FINRA considered, as an alternative to the proposed rule change, a 
proposal that would have included a general recruitment compensation 
disclosure (i.e., no specific dollar amounts) and general disclosure 
that the former customer may incur costs or encounter portability 
issues in connection with any asset transfer. However, FINRA believes 
that the proposed rule change is preferable to alternatives with 
general disclosure requirements because the general disclosure approach 
does not give former customers any sense of the scope or magnitude of a 
representative's recruitment compensation package or whether the cost 
and portability disclosures will actually impact their personal 
holdings. FINRA developed the revised approach in the proposed rule 
change to strike a balance between specific disclosure and general 
disclosure by requiring disclosure of ranges of compensation of 
$100,000 or more as applied separately to aggregate upfront payments 
and aggregate potential future payments and affirmative cost and 
portability statements.
    The proposed disclosure of ranges of recruitment compensation 
provides customers with meaningful information, i.e., that compensation 
may have been a motivating factor in their representative's decision to 
change firms, to consider in conjunction with a representative's other 
stated reasons for changing firms, without requiring members to 
disclose specific information about the payments that may compromise 
the privacy of the representative. As noted in Item A., representatives 
often emphasize the superior products, platforms and services of the 
recruiting firm without disclosing the lucrative financial incentives 
they have received or will receive in connection with the transfer. In 
addition, to assist members with compliance with the proposed rule 
change and to mitigate costs and administrative burdens, FINRA 
developed a disclosure form that members may use to make the required 
disclosures. The proposed rule change adds flexibility by allowing 
recruiting firms to deliver the disclosures in an alternative format 
with substantially similar content so firms can leverage existing 
compliance efforts or procedures.
    Second, as noted above, the proposed rule change exempts 
compensation that does not meet a $100,000 threshold as applied 
separately to aggregate upfront payments and aggregate potential future 
payments for purposes of disclosure to former customers and 
compensation that does not meet a threshold of the greater of 25% or 
$100,000 over the representative's prior year's compensation for 
purposes of reporting total compensation to FINRA, and allows members 
to net out direct costs paid by the representative in a transfer to a 
new firm when making such calculations. The initial proposal included a 
$50,000 exception, which many commenters opposed because, among other 
things, they felt it was arbitrary, too low to cover expenses incurred 
by representatives to transfer firms and did not allow firms to net out 
direct costs incurred by the representative in calculating recruitment 
compensation. Based on the

[[Page 17598]]

comments and discussions with firms, FINRA believes that raising the 
proposed de minimis exception for recruitment compensation to $100,000 
for each of aggregate upfront payments and aggregate potential future 
payments will substantially mitigate costs for firms without 
compromising investor protection. Based on input from firms that offer 
recruitment compensation, FINRA believes the proposed de minimis 
exception will except from the disclosure obligation those firms whose 
payments are only intended as transition assistance to help cover 
relocation and overhead costs, such as new business cards and 
letterhead, and that amounts below this threshold significantly 
diminish the motivating impact for the representative to move firms and 
therefore would not be as meaningful to customers. FINRA also 
understands that recruitment compensation that exceeds the $100,000 
threshold for aggregate upfront payments and aggregate potential future 
payments is typically offered only by the largest firms and therefore 
the disclosure obligation should not impact most small firms or 
independent broker-dealers, where the relative costs of compliance 
would be more burdensome.
    FINRA understands the proposed de minimis exception for disclosure 
of compensation under $100,000 in each category of recruitment 
compensation may impose some burden on small member firms to establish 
administrative processes to track compensation and to ensure that 
records are available to evidence compliance. FINRA does not believe 
that the administrative costs to track recruitment compensation 
outweighs the investor protection benefits of increased transparency to 
inform former customers about recruitment compensation that may have 
motivated their representative to move firms before they decide to 
transfer account assets to their representative's new firm. In 
addition, FINRA notes that the proposed rule change incorporates a 
provision that permits members to net out costs directly incurred by a 
representative in connection with a transfer to the recruiting firm. 
Members would measure compensation amounts for purposes of determining 
the $100,000 threshold in each category of recruitment compensation 
after direct costs to the representative in connection with the 
transfer have been netted out. Therefore, FINRA believes it is more 
likely that the de minimis exception will apply when a representative 
moves from a wirehouse firm to a firm with an independent broker-dealer 
model or when a representative otherwise incurs direct costs associated 
with a transition.
    Third, the proposed rule change limits the proposed disclosures to 
situations where a member, directly or through a representative, 
attempts to induce that representative's former customers to transfer 
assets to the member. Recruiting firms would not have to make the 
disclosures to former customers if the recruiting firm or 
representative does not undertake any efforts to induce former 
customers to transfer assets to the member, either through 
individualized contact, such as an email or phone call, or non-
individualized contact, such as a tombstone advertisement, a billboard 
or a notification on the firm's Web site.
    Fourth, FINRA notes that the proposed rule change includes a one-
year disclosure period so that members do not have to track for or 
provide disclosures to customers after the representative has been with 
the firm for a year. FINRA considered an alternative that would have 
required disclosure for as long as the representative continued to 
receive recruitment compensation, which in some cases, could be 10 
years. FINRA understands that most former customers who transfer assets 
to the representative's new firm do so soon after the representative 
changes firms so the one-year period should provide a reasonable end 
date for the proposed disclosure requirement.
    Fifth, FINRA considered whether the proposed rule should apply to 
any new customers of the representative at the new firm, or whether 
disclosure to just former customers would accomplish the goals of the 
proposed rule change. FINRA determined that it would limit the proposed 
rule to former customers of the representative because the recruitment 
compensation the representative has received or will receive in a 
transfer is likely based on activity in the accounts of such former 
customers and the expectation that they will transfer assets to follow 
the representative to the recruiting firm. In addition, representatives 
should have a sense of how moving assets to the recruiting firm will 
impact former customers' accounts because they are aware of the costs 
associated with account termination, transfer and opening and product 
limitations at their previous firm and at the recruiting firm. 
Representatives are less likely to have similar information for new 
customers opening an account with the recruiting firm. A customer 
opening a new account also does not have an established relationship 
with the representative and, in many cases, has already determined to 
place assets with a new firm without any inducement from the 
representative.
    Sixth, FINRA considered whether the proposed rule should require 
disclosure to current customers when their representative receives a 
retention bonus. As explained in more detail in Item C., the proposed 
rule change does not include that requirement because the proposal is 
more narrowly focused on providing a former customer important 
information when deciding whether to follow his or her representative 
to a new firm, and incentives offered to a representative while at a 
firm do not implicate the same considerations for customers, such as 
transfer costs and portability issues. FINRA notes that to the extent a 
retention bonus is part of a recruitment compensation package, 
disclosure would be required as a potential future payment if the 
magnitude of the bonus exceeds the $100,000 threshold. FINRA further 
notes that the reporting requirement in the proposed rule change is 
intended, in part, to provide insight as to whether compensation 
packages are resulting in increased risk to customers of inappropriate 
sales practice activities. That information will help inform whether 
additional regulation around retention bonuses or other compensation 
incentives is necessary.
    Finally, in considering the proposed requirement that members 
report to FINRA significant increases in a recruited representative's 
total compensation over the prior year, FINRA notes that it consulted 
with its advisory committees to determine the proposed threshold of the 
greater of $100,000 or 25%, which is intended to exclude compensation 
arrangements that do not pose the same level of potential conflicts of 
interest. FINRA believes compensation increases of amounts below the 
threshold are less valuable for its examination program, particularly 
when compared to the burden of compliance on smaller firms that are 
more likely to offer recruitment packages in those ranges. FINRA will 
consider with interest comment on whether the proposed threshold is 
appropriate and, if commenters favor an alternative, the reasons why 
such alternative is preferable.

C. Self-Regulatory Organization's Statement on Comments on the Proposed 
Rule Change Received From Members, Participants, or Others

    FINRA published an earlier version of the proposal for comment in 
Regulatory Notice 13-02 (January 2013) (the ``Notice Proposal''). A 
copy of the

[[Page 17599]]

Notice Proposal is attached as Exhibit 2a. The comment period expired 
on March 5, 2013. FINRA received 567 comment letters in response to the 
proposal, of which 65 were unique letters. A list of the comment 
letters received in response to the Notice Proposal is attached as 
Exhibit 2b.\26\ Copies of the comment letters received in response to 
that proposal are attached as Exhibit 2c.\27\ Of the 65 unique comment 
letters received, 21 were generally in favor of the proposed rule 
change, 43 were generally opposed, and one letter did not address the 
merits of the proposal.
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    \26\ All references to the commenters under this Item are to the 
commenters as listed in Exhibit 2b.
    \27\ Exhibits 2a, 2b, and 2c are attached to FINRA's filing with 
the Commission.
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    The Notice Proposal required a member that provides, or has agreed 
to provide, to a representative ``enhanced compensation'' in connection 
with the transfer of securities employment of the representative from 
another financial services firm to disclose the details of such 
enhanced compensation to any former customer of the representative at 
the previous firm who: (1) Is individually contacted by the member or 
representative, either orally or in writing, regarding the transfer of 
employment (or association) of the representative to the member; or (2) 
seeks to transfer an account from the previous firm to an account 
assigned to the representative with the member. The proposal defined 
enhanced compensation to include signing bonuses, upfront or back-end 
bonuses, loans, accelerated payouts, transition assistance, and similar 
arrangements. The proposal would have required disclosure for one year 
following the date the representative associates with the recruiting 
firm. The proposal included an exception for enhanced compensation of 
less than $50,000 and customers that meet the definition of an 
institutional account pursuant to FINRA Rule 4512(c), except any 
natural person or a natural person advised by a registered investment 
adviser.
    Comments in support of the proposal were split between those that 
favored specific disclosure and those that advocated general disclosure 
of recruitment compensation. In general, comments opposed to the 
proposal asserted that it did not address an identifiable harm to 
customers, was pejorative toward representatives, invaded their 
privacy, and failed to include other cost impacts to customers when 
transferring their accounts. The comments and FINRA's responses are set 
forth in detail below.
Support for the Notice Proposal
    In general, commenters that supported the proposal stated that 
disclosing specific recruitment compensation to customers would provide 
investors with information relevant to investment decisions, promote 
greater transparency, increase investor confidence and trust, and 
increase customer awareness of potential conflicts of interest relating 
to recruitment compensation packages.\28\ One commenter noted that the 
proposal put the interest of customers first, supported a high standard 
of business ethics, and provided disclosure appropriate for customers 
to make informed decisions without prohibiting legitimate business 
practices.\29\ Another commenter noted that informing customers of 
potential conflicts of interest regarding recruitment compensation is 
especially important if the representative's compensation is determined 
by the assets a customer moves to the representative's new firm.\30\ 
One commenter also noted that most representatives do not tell 
customers that they are receiving recruitment compensation for moving 
customer assets to the new firm and inflate production to benefit 
trailing 12 calculations.\31\ Another commenter stated that registered 
investment advisers are required to disclose all conflicts of interest, 
including those that may arise when the adviser changes firms.\32\ Two 
commenters noted that transparency is a key component of a customer's 
ability to make an informed decision about transferring his or her 
assets.\33\
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    \28\ APA, Arrigo, Capstone-FA, Cornell, Edward Jones, HDVest, 
JGHeller, Merrill, Miami, Morgan Wilshire, MSWM, NASAA, Oppenheimer, 
PIABA, Ruchin, Scott Smith, Summit-E, UBS, Wedbush, WFA.
    \29\ UBS.
    \30\ Capstone-FA.
    \31\ APA.
    \32\ Cornell.
    \33\ Morgan Wilshire, Wedbush.
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Specific vs. General Enhanced Compensation Disclosure
    Several commenters wrote in support of uniform, industry-wide 
disclosure of recruitment compensation to customers, including the form 
of the recruitment compensation arrangement and specific dollar 
amounts.\34\ One commenter suggested that FINRA should work with the 
industry to create a model approach that clearly articulates 
appropriate disclosure for enhanced compensation arrangements and 
supported concise, direct and plain English disclosures of information 
that is sufficient to inform an investor of the potential material 
conflicts of interest that may arise in connection with recruiting 
related bonus payments.\35\ Another commenter noted that specific 
disclosure would make it significantly easier for former customers to 
assess the merits of the change to reach an informed decision about 
whether to transfer an account to the new firm.\36\
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    \34\ Edward Jones, Merrill, MSWM, NASAA, Summit-E, UBS, WFA.
    \35\ SIFMA.
    \36\ Oppenheimer.
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    The Notice Proposal requested comment on an alternative approach 
that would require a general upfront disclosure by the recruiting firm 
or representative that the representative is receiving, or will 
receive, material enhanced compensation in connection with the transfer 
of securities employment (or association) to the recruiting firm and 
that additional specific information regarding the details of such 
compensation would be available at a specified location on the firm's 
Web site or upon request.
    A few commenters asserted that a general disclosure would dilute 
the goal of proactive, timely disclosure because customers would carry 
the burden to seek out the more detailed disclosures from the member or 
representative.\37\ One commenter opposed the alternative approach 
because the more detailed web-based disclosure would be accessible not 
only by customers, but also the public.\38\ Numerous commenters 
suggested that the proposal should require general disclosure of 
recruitment compensation, instead of specific disclosure, with an 
opportunity for customers to request more information from the 
representative or member regarding the details of such 
compensation.\39\ Some commenters also stated that a general disclosure 
would prompt a dialogue between the representative and retail customers 
that would be more valuable than raw numbers without context.\40\
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    \37\ Edward Jones, Summit-E, UBS.
    \38\ Summit-E.
    \39\ Advisor Group, Ameriprise, BDA, Bischoff, Cetera, Janney, 
LaBastille, Lax, Lincoln, Miami, NAIFA, Plexus, Stifel, Summit-B, 
Sutherland, Wedbush.
    \40\ Ameriprise, Cetera, Wedbush.
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    Several commenters stated that a brief, plain English, generic 
disclosure with the delivery of Automated Customer Account Transfer 
Service (``ACATS'') forms or at account opening would be more 
meaningful to customers than specific disclosure of compensation, and 
also would avoid

[[Page 17600]]

privacy and anti-competitive issues.\41\ Several other commenters noted 
that specific disclosure might mislead or confuse customers and would, 
therefore, not be helpful or serve the purposes of investor 
protection.\42\ One commenter stated that customers might view 
recruitment compensation as a bribe or excessive.\43\ One commenter 
suggested that firms should provide customers with a single page, plain 
English form to inform the client that their representative is 
receiving recruitment compensation exceeding $50,000 and, although the 
representative is under no suspicions of acting unethically, FINRA has 
identified enhanced compensation as an area prone to conflicts, and any 
concerns regarding the management of investment accounts and objectives 
should be raised with the representative.\44\ Two commenters noted that 
disclosure of specific recruitment compensation may be viewed as a 
measure of the new firm's endorsement of the representative.\45\
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    \41\ Ameriprise, Cetera, Janney, Lax, Stifel, Sutherland, 
Wedbush.
    \42\ Advisor Group, BDA, Bischoff, Burns, Miami, NAIFA, Plexus, 
Sutherland.
    \43\ Smith Moore.
    \44\ Cornell.
    \45\ Burns, Elzweig.
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    As discussed in Item B., FINRA does not agree that general 
disclosure of recruitment compensation would provide sufficient 
information for a former customer to weigh in a decision whether to 
transfer assets to his or her representative's new firm. FINRA 
continues to believe that some level of specificity regarding the 
magnitude of recruitment compensation paid by a member to a 
representative is necessary for the disclosure to be meaningful to 
former customers. FINRA believes that customers need some quantifiable 
measure to evaluate the impact recruitment compensation may have had on 
the representative's decision to move firms and his or her attempt to 
induce former customers to transfer assets to that new firm. FINRA 
further believes that the disclosure of ranges of compensation will 
provide a former customer enough sense of the magnitude of the payments 
to foster further inquiry with the representative if the customer finds 
the compensation relevant to his or her decision to transfer assets to 
the new firm.\46\
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    \46\ See also FINRA's responses to comments regarding privacy 
and anti-competitive concerns on pages 110 through 116.
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Opposition to the Notice Proposal
    In general, commenters opposed to the proposal stated that it does 
not address an identifiable harm or conflict of interest, is 
unnecessary and redundant, and does not provide additional protections 
to retail investors beyond existing rules (e.g., FINRA's suitability 
rule already addresses churning and unsuitable recommendations and 
FINRA's supervision rules address firms' supervisory systems).\47\ 
Three commenters noted that the benefits of the proposal are unclear 
because, among other things, a representative's compensation has no 
direct impact on a customer's account and recruitment compensation does 
not present a conflict of interest that is distinguishable from other 
compensation arrangements not covered by the proposal.\48\
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    \47\ Abel, Advisor Group, Ameriprise, APA, BDA, Bischoff, Burns, 
Capstone-AG, Cetera, Commonwealth, Cutter, Edde, Elzweig, FORM, FSI, 
Gompert, Janney, LaBastille, Lincoln, LPL, NPB, SIPA, Smith Moore, 
Spartan, Stifel, Sutherland, Summit-B, Summit-E, Taylor, Taylor 
English, Whitehall, Wilson, Wood.
    \48\ Smith Moore, Sutherland, Taylor English.
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    Five commenters stated that the proposal is not helpful to 
customers and will not assist them in making a decision to transfer 
assets to a new firm.\49\ Three commenters stated that the proposal is 
not well designed to mitigate conflicts or help customers because it 
does not prohibit any action; it merely provides an incomplete 
disclosure of one of many potential conflicts.\50\ A few commenters 
stated that if the true intent of the proposal is to reduce conflicts 
of interest by curtailing recruitment compensation packages, then it 
would be more efficient for FINRA to address such arrangements, rather 
than requiring disclosure to customers with the hope that the second 
order impact will be for firms to change their practices.\51\
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    \49\ Advisor Group, Bischoff, Commonwealth, Spartan, Wedbush.
    \50\ Burns, Taylor English, Showalter.
    \51\ Cutter, Taylor English, Whitehall.
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    Numerous commenters questioned the purpose of the proposal given 
the lack of evidence that recruitment compensation harms clients in any 
way.\52\ Several commenters noted that FINRA cited no enforcement 
actions, cases, customer complaints or other empirical evidence that 
enhanced compensation creates a conflict of interest between customers 
and representatives and requested that FINRA consider modifying the 
proposal to more accurately address any perceived harm.\53\ One 
commenter stated that more rigorous analysis is needed to determine if 
an actual conflict exists.\54\
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    \52\ Advisor Group, Burns, Cutter, Edde, Herskovits, Smith 
Moore, Summit-B, Sutherland, Taylor English, Wedbush and Whitehall.
    \53\ Burns, Commonwealth, Janney, Stifel, Sutherland.
    \54\ Janney.
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    Several commenters were concerned that the proposal assumes that 
representatives act in bad faith and implies that customers should not 
trust representatives if they have received recruitment compensation, 
even if it merely helps offset the cost of moving firms.\55\ One 
commenter noted that the backlash from customers will outweigh any 
benefits of the proposal.\56\ Another commenter noted that the proposal 
does not explain how the significant consequences to the representative 
of specific compensation disclosure are outweighed by the benefit to 
retail customers and suggested focus group testing to determine whether 
a general disclosure would be as effective as specific disclosure.\57\ 
One commenter stated that the proposal will cause jealousy and bad will 
among clients, create a more litigious environment, and will force 
representatives to take on larger and fewer clients.\58\ Another 
commenter stated that the disclosure will put pressure on 
representatives to perform above prevailing market conditions to 
justify payouts.\59\ One commenter stated that the proposal will 
further sensationalize the transition of a representative to another 
firm.\60\ Another commenter stated that it, instead, could harm a 
representative's interests with no practical purpose.\61\ However, one 
commenter stated that specific disclosure of recruitment compensation 
that is moderate and reasonable will not negatively affect 
representatives because he or she can explain the benefits of the move 
and the costs and lost revenues involved in the transition.\62\
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    \55\ Abel, Ameriprise, Burns, Capstone-AG, Commonwealth, Cutter, 
FORM, FSI, Lincoln, LPL, Whitehall.
    \56\ Bischoff.
    \57\ FSI.
    \58\ Wilson.
    \59\ Taylor.
    \60\ Smith Moore.
    \61\ Lax.
    \62\ Korth.
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    Some commenters raised concerns that the proposed disclosure will 
be confusing to customers because they cannot understand the complexity 
of compensation packages and, therefore, the proposal will not be 
valuable to them or serve the purposes of investor protection.\63\ One 
commenter noted that customers are not in a position to judge the 
merits of recruitment compensation to understand their value to the 
future

[[Page 17601]]

of a firm or branch, and are more likely to view them all 
negatively.\64\ Other commenters requested clarification of what is 
meant by disclosure of ``details'' of enhanced compensation and 
``similar arrangements.''\65\
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    \63\ Advisor Group, BDA, Miami, Plexus, Sutherland.
    \64\ Bischoff.
    \65\ Sutherland, Lax, NAIFA, Cutter, Summit-E.
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    A number of commenters also noted that recruitment compensation may 
actually benefit investors because it may cover ACATS transfer fees, 
moving expenses, or new advertising materials, and allow the 
representative to move to a new firm with better service.\66\ One 
commenter noted that the proposal does not consider that 
representatives who receive significant recruitment compensation 
packages are those that are in high demand and the firms that recruit 
them will have quality platforms and services that will benefit 
clients.\67\
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    \66\ FORM, Lincoln, LPL, Capstone-AG.
    \67\ Elzweig.
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    FINRA believes the proposed rule change addresses many of the 
commenters' concerns by better focusing the proposal on the impact to 
customers when they are considering transferring assets to a 
representative's new firm, rather than specific amounts of recruitment 
compensation paid to a representative. As stated in Item A., FINRA 
recognizes the business rationales for offering financial incentives 
and transition assistance to recruit experienced representatives and 
seeks neither to encourage nor discourage the practice with the 
proposed rule change. The proposed rule change also does not intend to 
cast representatives in a negative light for receiving recruitment 
compensation when they accept a new position.
    The proposed rule change would require disclosure of ranges of 
compensation, instead of specific amounts of compensation, and expands 
the disclosures to include information about the costs, fees, and 
portability issues that will directly impact a customer's assets. The 
proposed rule change is intended to provide former customers with this 
information, so they have a more complete picture of the factors 
relevant to a decision to transfer assets to a new firm and can engage 
in further conversations with the recruiting firm or their 
representative in areas of personal concern. Moreover, the proposed 
rule change will focus a former customer's attention on the decision to 
transfer assets to a new firm, and the direct and indirect impacts of 
such a transfer on those assets, so they are in a position to make an 
informed decision whether to follow their representative.
    FINRA does not believe that former customers will be confused by a 
clear, plain English disclosure regarding a representative's 
recruitment compensation. However, FINRA notes that the proposed rule 
change amends the Notice Proposal to require disclosure of ranges of 
compensation, the basis for such compensation, and other important 
considerations that a former customer should consider when they are 
deciding whether to transfer assets to a new firm. The proposed rule 
change would require members to use the FINRA-developed disclosure 
template, or their own form with substantially similar content, and 
would include a free text section to include contextual information 
regarding the disclosures. In addition, members would be required to 
include descriptions regarding ``upfront payments'' and ``potential 
future payments'' to assist customers in understanding the types of 
payments that their representative has received or will receive from 
the recruiting firm.
    As noted in Item A., FINRA believes the proposed rule change 
provides targeted and meaningful information to customers at a 
relatively limited cost to firms and without implying any bad faith on 
the part of the registered representative. The disclosures are intended 
to encourage customers to make further inquiry to reach an informed 
decision by providing a framework with some specific information to 
consider the impact to their accounts. In addition, FINRA believes that 
former customers should be given enough information to understand how 
their assets factor into the calculation of their representative's 
recruitment compensation package, and how much money is at stake in 
these transfers.
Privacy Concerns
    Numerous commenters opposed specific disclosure of recruitment 
compensation because it would interfere with a representative's right 
to privacy.\68\ Some commenters stated that the proposal threatens the 
financial privacy of representatives in a manner that is unfair, 
needlessly intrusive, and may jeopardize client relationships.\69\ 
Others noted that it will expose personal and confidential information 
without any tangible benefit to the customer and should not be required 
absent a compelling public policy reason to do so.\70\ One commenter 
minimized the operational and privacy concerns stating that they do not 
outweigh clients' best interests, and disclosures may enhance client 
relationships based on transparency and trust.\71\
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    \68\ Ameriprise, Burns, Cetera, Gompert, Janney, Lax, Stifel, 
Sutherland, Wedbush, Whitehall, Wilson.
    \69\ FSI, Herskovits, LaBastille, Lax, Stifel.
    \70\ Ameriprise, BDA, Stifel.
    \71\ MSWM.
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    A number of commenters stated that the proposal exposes 
representatives to safety risks, including, e.g., identity theft, data 
security incidents,\72\ financial fraud, kidnapping, black mail and 
extortion.\73\ One commenter expressed concerns that disclosure of 
recruitment compensation will make a representative's compensation a 
factor when customers are considering the settlement of outstanding 
complaints and negotiating settlement offers.\74\ Two commenters 
further stated that firms will be unable to protect widespread 
dissemination of a representative's compensation information once it is 
disclosed.\75\ One commenter suggested including with the proposed 
disclosure a customer confidentiality provision with an exception for 
the customer to share the information with an attorney or financial 
professional for consulting purposes.\76\ One commenter noted that the 
information gained by the disclosure will eventually be obtained and 
aggressively used by the previous firm to try to persuade clients not 
to follow their representatives to the new firm.\77\ Two commenters 
warned that the proposed disclosure would expose trade secrets and 
destroy proprietary business formulas that have been developed by 
firms.\78\ Another commenter stated that it threatens the confidential 
nature and success of firms' recruiting programs and impacts a core and 
currently proprietary tool that broker-dealers use to manage their 
business (i.e., compensation of personnel) without a measurable 
increase in customer protection or evidence that the disclosure will 
impact the perceived conflicts.\79\ Three commenters stated that the 
proposal could violate applicable state and federal privacy 
regulations, including the Gramm-Leach-Bliley Act and Regulation S-P, 
which are designed to protect the dissemination of non-public customer 
personal information.\80\ One commenter

[[Page 17602]]

encouraged FINRA to consider the operational challenges presented by 
the proposal, such as non-compete agreements and the prohibitions in 
Regulation S-P.\81\
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    \72\ Cetera, Janney.
    \73\ FSI, Janney, SIPA.
    \74\ SIPA.
    \75\ Ameriprise, Janney.
    \76\ Miami.
    \77\ Burns.
    \78\ Janney, Miami.
    \79\ Sutherland.
    \80\ FSI, Janney, Taylor English.
    \81\ Sutherland.
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    FINRA believes that many of the privacy concerns noted by 
commenters are reduced by the proposed rule change that would provide 
for simplified and less specific disclosure of recruitment compensation 
in ranges. FINRA believes that the proposed disclosure of ranges of 
compensation and affirmative cost and portability disclosures, 
collectively, strike an appropriate balance to alleviate privacy and 
anti-competitive concerns, while providing customers with important 
information upon which to base a decision to transfer assets to a new 
firm. FINRA does not agree with the commenters that stated that there 
is no benefit or significant policy reason to provide recruitment 
compensation disclosure to former customers of a transferring 
representative. FINRA believes that receiving lucrative financial 
incentives that are often based on the amount of assets that will 
transfer with a representative to a new firm or the representative's 
trailing 12 creates a conflict of interest when a member, directly or 
through that representative, attempts to induce the owners of such 
assets to transfer them to the new firm. The representative's interest 
in receiving recruitment compensation may not align with the customer's 
best interest as to where to maintain his or her assets. FINRA believes 
that the investor protection benefits of providing this important 
information to former customers to inform their decision whether to 
transfer assets to their representative's new firm outweigh any 
remaining privacy issues that may arise under the proposed rule change.
    In addition, FINRA does not agree that the proposal to require 
disclosure of ranges of recruitment compensation to former customers 
would encourage violations of federal or state privacy regulations 
because it does not require the disclosure of any information related 
to non-public customer personal information. With respect to 
commenters' concerns regarding non-compete agreements and the 
prohibitions in Regulation S-P, FINRA notes that the proposed rule 
change should not impact any contractual agreement between a 
representative and his or her former firm or new firm and does not 
require members to disclose information in a manner inconsistent with 
Regulation S-P.\82\ The proposed rule change assumes that recruiting 
firms and representatives will act in accordance with the contractual 
obligations established in employment contracts, state law, and, if 
applicable, the Protocol for Broker Recruiting.\83\
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    \82\ See 17 CFR 248.15(a)(7)(i).
    \83\ The Protocol for Broker Recruiting (the ``Protocol'') was 
created in 2004 and permits departing representatives to take 
certain limited customer information with them to a new firm, and 
solicit those customers at the new firm, without the fear of legal 
action by their former employer. The Protocol provides that 
representatives of firms that have signed the Protocol can take 
client names, addresses, phone numbers, email addresses and account 
title information when they change firms, provided they leave a copy 
of this information, including account numbers, with their branch 
manager when they resign.
---------------------------------------------------------------------------

Anti-Competitive Consequences of the Notice Proposal
    The Notice Proposal solicited comment on whether the proposal will 
affect business practices and competition among firms with respect to 
recruiting and compensation practices. Many commenters stated that a 
general disclosure is preferable to specific disclosure of recruitment 
compensation because specific disclosure may have anti-competitive 
consequences.\84\ Two of these commenters noted that the proposal is an 
indirect restraint on trade and suppresses fair competition 
inconsistent with the requirements of a registered securities 
association under the Exchange Act.\85\ Numerous commenters stated that 
the proposal may constructively operate as a restrictive covenant not 
to compete if representatives are essentially restrained from 
transitioning to a new firm because of disclosures that are applicable 
only to their industry, which may result in a representative remaining 
with a less competitive or unethical firm.\86\ Two commenters noted 
that the proposal will dampen innovation and harm customers.\87\ One 
commenter cautioned that the proposal could cripple the opportunities 
for representatives to merge and consolidate their practices and to be 
compensated for their expenses.\88\ Another commenter disagreed and 
stated that competition for talented representatives will not be 
affected by the proposal.\89\
---------------------------------------------------------------------------

    \84\ Ameriprise, Cetera, Janney, Lax, Stifel, Sutherland, 
Wedbush.
    \85\ Cetera, Janney.
    \86\ Burns, Burke, Elzweig, Janney, Smith Moore, Steiner, 
Stifel, Taylor, Wilson.
    \87\ Burns, Elzweig.
    \88\ Capstone-AG.
    \89\ UBS.
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    Three commenters noted that the proposal deepens the regulatory gap 
between broker-dealers and registered investment advisers and posited 
that it could have the result of driving representatives into the 
registered investment adviser business.\90\ One commenter suggested 
that FINRA work with the Commission and the states to adopt similar 
disclosure requirements for registered investment advisers so that 
representatives who switch to an adviser firm will also be subject to 
the proposed disclosure requirements.\91\
---------------------------------------------------------------------------

    \90\ Ameriprise, FSI, Janney.
    \91\ WFA.
---------------------------------------------------------------------------

    FINRA believes that representatives should have the freedom to 
transfer firms for any business reason. The proposed rule change is not 
designed to obstruct representatives from moving to a situation that 
better suits their needs and the needs of their customers. FINRA does 
not believe that the proposed rule change will prevent representatives 
from transferring firms by simply requiring the disclosure of key 
information that a former customer should consider before making a 
decision to move his or her assets to a new firm. Further, the proposed 
disclosure of recruitment compensation ranges is less intrusive than 
the more specific requirements of the Notice Proposal and should cure 
many of the concerns that the proposed rule change would be anti-
competitive. Based on consultation with FINRA's advisory committees and 
discussions with member firms, FINRA does not anticipate that industry-
wide uniform disclosure of recruitment compensation of $100,000 or more 
for each category of recruitment compensation will have the effect of 
stalling representatives' movement between firms. With respect to 
commenters' concerns regarding the disparate treatment of registered 
investment advisers under the proposed rule, FINRA notes that 
registered investment advisers are subject to the oversight of the SEC 
pursuant to the Investment Advisers Act of 1940 and a disclosure regime 
established by the Form ADV (Uniform Application for Investment Adviser 
Registration).\92\
---------------------------------------------------------------------------

    \92\ See Form ADV, Section 2B, Item 5 (Additional Compensation): 
``If someone who is not a client provides an economic benefit to the 
supervised person for providing advisory services, generally 
describe the arrangement. For purposes of this Item, economic 
benefits include sales awards and other prizes, but do not include 
the supervised person's regular salary. Any bonus that is based, at 
least in part, on the number or amount of sales, client referrals, 
or new accounts should be considered an economic benefit, but other 
regular bonuses should not.''
---------------------------------------------------------------------------

Disclosure Is Misleading to Customers Without Context
    Two commenters questioned the value of the proposed disclosure 
without any context to explain the justification and basis for the

[[Page 17603]]

recruitment compensation arrangement.\93\ Two other commenters stated 
that customers may think that the amount is a measure of the new firm's 
endorsement of the representative.\94\ Commenters also noted that 
customers will not be able to fully understand a recruitment package 
without having a full picture of all the factors involved, including, 
among other things, the risks and costs of a transition,\95\ personal 
reasons for a move,\96\ lost revenues suffered during the transition 
and first months at a new firm, and without relative frames of 
reference regarding the representative's compensation, such as the size 
of the representative's book of business or average annual 
revenues.\97\ Other commenters stated that customers are not 
experienced enough to know the right questions to ask or the proper due 
diligence to perform without context, including, among other things, 
that the arrangement may involve minimum customer asset transfer 
amounts or minimum revenue amounts attached to asset transfers for 
payments to fully vest.\98\ One commenter asked whether the disclosure 
may be accompanied by a statement explaining the other factors 
considered when making the move to the new firm, such as the 
availability of research and market analysis.\99\ Three commenters 
noted that there are many reasons why a representative will move firms 
so the financial incentives received should not call into question the 
motivation behind such a move or serve as an indication that the move 
was for any other reason than in the best interest of clients.\100\
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    \93\ MarketCounsel, Taylor English.
    \94\ Burns, Elzweig.
    \95\ Cutter, Smith Moore.
    \96\ Noble.
    \97\ Bischoff, Burns, Wedbush.
    \98\ Capstone-FA, Plexus.
    \99\ LaBastille.
    \100\ Janney, NAIFA, Summit-B.
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    FINRA believes it appropriate to allow a member to provide context 
to inform a former customer's decision-making process and enhance his 
or her understanding of recruitment compensation arrangements, and 
other considerations such as costs, fees and portability issues that 
may impact the customer. Therefore, FINRA plans to include on the 
FINRA-developed disclosure template a free text section in which a 
member or representative may choose to include contextual information 
to explain the reasoning and basis for the recruitment compensation 
package and information regarding costs, fees and portability issues 
that may impact the former customer. FINRA believes that any 
information that may clarify the disclosures is appropriate so long as 
it is not misleading.
Notice Proposal Is Too Broad
    Four commenters suggested that the proposal should exclude 
transition assistance designed solely to help offset the costs incurred 
by representatives to switch firms.\101\ One commenter requested that 
transition assistance associated with loss of insurance renewals due to 
vesting restrictions be excluded from the proposed disclosure 
requirement.\102\ Two commenters questioned the need for a disclosure 
requirement for asset-based recruitment compensation.\103\ One 
commenter recommended that FINRA incorporate an exception in the 
proposed rule for firms that do not include commission targets as part 
of enhanced compensation arrangements.\104\ Some commenters also noted 
that the proposal should be narrowed to include only compensation that 
presents a material conflict of interest \105\ or FINRA should prohibit 
practices deemed to have greater conflicts of interest, e.g., bonuses 
tied to commission or revenue goals and enhanced payout 
arrangements.\106\ One commenter stated that enhanced compensation 
means something different to a wirehouse representative than transition 
assistance for a representative in an independent broker-dealer model 
who employs a staff, has mortgage payments on leased commercial space, 
and may take three or more months to get the business up and 
running.\107\
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    \101\ Commonwealth, NAIFA, Summit-B, Summit-E.
    \102\ Summit-E.
    \103\ Burns, Sutherland.
    \104\ Summit-E.
    \105\ Commonwealth, FORM, Herskovits, Lincoln, LPL, Sutherland.
    \106\ Wedbush.
    \107\ Ameriprise.
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    FINRA believes the proposed rule change to require disclosure of 
recruitment compensation ranges beginning at $100,000 as applied 
separately to aggregate upfront payments and aggregate potential future 
payments would establish a threshold that would exclude many payments 
intended only to cover transition assistance, such as relocation and 
various overhead costs (e.g., office equipment, new business cards and 
letterhead). FINRA believes amounts above that threshold, particularly 
those based on a representative's trailing 12, are properly included in 
the disclosure requirement, as they are significant enough to bear on 
the representative's motivation to move firms and may prompt questions 
by former customers based on a review of their account activity. FINRA 
also notes that the proposed rule change would permit members to net 
out any increased costs incurred directly by the registered person in 
connection with transferring to the member in calculating whether a 
threshold is met.
    With respect to commenters' suggestion that asset-based recruitment 
compensation be excluded from the proposed rule change, FINRA does not 
agree. FINRA believes that asset-based recruitment packages present the 
same level of conflicts of interest when a member or a representative 
attempts to induce a former customer to transfer assets to the member 
because the representative's interest in asset gathering at the new 
firm may not align with the customer's best interest as to where to 
maintain those assets. As noted in Item A., most recruitment 
compensation packages are based, in part, on a representative's asset 
levels at his or her previous firm and members take these numbers into 
consideration when calculating recruitment compensation packages with 
an understanding that many of the representative's former customers 
will follow their representative to a new firm.
De Minimis Exception
    The Notice Proposal included an exception to the disclosure 
requirement for recruitment compensation of less than $50,000. The 
proposal requested comment on whether FINRA should establish an amount 
different from the proposed $50,000 for a de minimis exception. One 
commenter supported the $50,000 de minimis proposal, asserting that it 
was reasonable, would significantly reduce the burden for firms that 
pay only true transition assistance, and would allow firms to cover a 
representative's out of pocket expenses in many cases without 
triggering disclosure.\108\ Several commenters stated that $50,000 is 
an arbitrary and nominal threshold.\109\ Some commenters stated that 
the proposed de minimis was too low a threshold amount to cover the 
substantial costs incurred by representatives who transition 
firms.\110\ Two of these commenters suggested that the de minimis 
exception should be raised to

[[Page 17604]]

$100,000 or higher.\111\ Other commenters thought the $50,000 
disclosure was too high and suggested a $25,000 de minimis 
exception.\112\ Others suggested an alternative to the $50,000 de 
minimis amount that would require disclosure of any recruitment 
compensation that exceeds a certain percentage of the previous 12-month 
calendar year commissions.\113\ One commenter asked if FINRA considered 
account transfer and registration costs when establishing the de 
minimis exception.\114\ A few commenters warned that firms may 
restructure arrangements and use the de minimis exception as a means to 
avoid disclosure.\115\ Two commenters ask how the de minimis exception 
would be calculated in cases of unspecified dollar amounts at the time 
of transfer, such as covering transfer costs and deferred 
incentives.\116\
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    \108\ HDVest.
    \109\ Commonwealth, Cutter, FSI, Lax, Smith Moore, Summit-B, 
Summit-E.
    \110\ Commonwealth, Lax, NAIFA, Wedbush.
    \111\ NAIFA, Wedbush.
    \112\ PIABA, UBS.
    \113\ Commonwealth, Korth, Summit-B, Summit-E.
    \114\ Taylor English.
    \115\ Lax, Miami, Showalter.
    \116\ NAIFA, Taylor English.
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    In response to the comments, FINRA revised the proposal to include 
an effective de minimis exception for any recruitment compensation in 
an amount less than $100,000, as applied separately to aggregate 
upfront payments and aggregate potential future payments. In addition, 
the proposed rule change permits members to net out from the 
calculation of recruitment compensation (and total compensation for 
purposes of reporting to FINRA) any increased costs incurred directly 
by the representative in connection with transferring to the member. 
FINRA believes that the combination of raising the de minimis amount 
and allowing firms to net out costs directly incurred by a 
representative in a transfer addresses many of the commenters' 
concerns.
    With respect to the comments regarding how the de minimis exception 
would be calculated in cases of unspecified dollar amounts at the time 
of transfer, such as covering transfer costs and deferred incentives, 
FINRA notes that the proposed rule change includes supplementary 
material that clarifies that the member must assume that all 
performance-based conditions on the compensation are met and may make 
reasonable assumptions about the anticipated gross revenue to which an 
increased payout percentage will be applied.
Notice Proposal Should Be Expanded
    Numerous commenters questioned why FINRA singled out recruitment 
compensation when it is just one piece of a total compensation package 
offered by a recruiting firm.\117\ Such commenters noted that isolating 
recruitment compensation for inspection by customers is misleading 
because it does not present a conflict of interest significantly 
greater than other incentives offered in the ordinary course of 
business or in the form of retention bonuses and other compensation. 
One commenter recommended that firms report to FINRA their recruitment 
compensation, retention compensation and other incentives, and FINRA 
can determine whether a compensation package is justified.\118\ One 
commenter noted that the proposal seemed unnecessarily limited by 
excluding such benefits as new territories, new titles, and new high 
net worth customers.\119\ Another commenter suggested that FINRA 
require disclosure of additional gross compensation paid to the 
representative when it is more than 15 percentage points higher than a 
representative received at his or her previous firm.\120\
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    \117\ BDA, Bischoff, Burke, Burns, Capstone-AG, FORM, FSI, 
MarketCounsel, Miami, Lincoln, NAIFA, NASAA, Smith Moore, Steiner, 
Taylor English, WFA.
    \118\ Smith Moore.
    \119\ Plexus.
    \120\ Korth.
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    One commenter suggested that FINRA consider the fair dealing 
obligations of the representative's former firm when communicating with 
a representative's clients about staying with the firm because they may 
offer financial incentives to retain the accounts.\121\ One commenter 
noted that many current employee contracts are full of deterrent and 
non-compete provisions that can also be seen as conflicts of 
interest.\122\ In addition, one commenter noted that branch managers 
may be paid a bonus six to nine months after a representatives departs 
a firm based on the amount of assets that did not follow the 
representative to his or her new firm.\123\ Another commenter stated 
that firms should be required to disclose when they terminate 
representative payouts thus incentivizing the representative to look 
for new opportunities.\124\
---------------------------------------------------------------------------

    \121\ WFA.
    \122\ Spartan.
    \123\ Burns.
    \124\ Showalter.
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    FINRA understands the commenters' concerns that the proposal does 
not require disclosure of retention bonuses and other incentive 
compensation to customers. With the proposed rule change, FINRA is 
primarily concerned with providing customers impactful information to 
consider when deciding whether to transfer assets to a representative's 
new firm. Therefore, in response to these comments, FINRA has focused 
more narrowly on the costs and conflicts associated with that decision 
by a customer. FINRA notes that incentives offered while the 
representative is situated at a firm do not implicate the same 
considerations, such as transfer costs and portability issues.
    However, FINRA is interested in how compensation packages may be 
influencing representatives and their sales practice activities, so it 
is proposing a requirement that members report to FINRA at the 
beginning of the employment or association of a representative that has 
former customers if the member reasonably expects the total 
compensation paid to the representative by the member during the 
representative's first year of employment or association with the 
member to result in an increase over the representative's prior year 
compensation by the greater of 25% or $100,000. In determining total 
compensation, the member must include any aggregate upfront payments, 
aggregate potential future payments, increased payout percentages or 
other compensation the member reasonably expects to pay the 
representative during the first year of employment or association with 
the member. FINRA will review the proposed rule within an appropriate 
period after its approval and implementation to determine whether it is 
achieving its intended purpose and whether it is having unintended 
effects. As part of that review, FINRA will determine whether to 
eliminate the reporting requirement if the information is not useful, 
or expand it to other material increases in compensation, such as 
retention bonuses, that may result in increased risk to customers.
    One commenter stated that the proposal should more clearly spell 
out for customers the practical and personal impacts of the potential 
conflicts to permit an informed decision about whether to transfer 
assets to the representative's new firm.\125\ Another commenter 
suggested that investors should have answers to questions such as 
whether: (1) Products and services can be transferred to the new firm; 
(2) the investor will have to pay fees to the old or new firm to make a 
transition; or (3) the recruitment compensation package involves sales 
targets or other

[[Page 17605]]

incentives that may impact their accounts.\126\ The proposed rule 
change addresses these comments by requiring disclosure to former 
customers if transferring the former customer's assets to the member 
will result in costs to the former customer, such as account 
termination or account transfer fees from the former customer's current 
firm or account opening or maintenance fees at the member, that will 
not be reimbursed by the member, and if any of the former customer's 
assets are not transferable to the member and that the former customer 
may incur costs, including taxes, to liquidate and transfer those 
assets to the member or inactivity fees to leave those assets with the 
former customer's current firm. In addition, the proposed rule would 
require disclosure of the basis of any aggregate upfront payments and 
aggregate potential future payments received, or to be received, of at 
least $100,000 by the representative. FINRA believes such disclosure 
will prompt a dialogue between former customers and their 
representatives about the impacts the structure and magnitude of a 
recruitment package may have had on their accounts at the previous 
firm, and may have on an account at the recruiting firm if the customer 
decides to transfer assets.
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    \125\ SIFMA.
    \126\ Edward Jones.
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Disclosure at First Contact With a Former Customer
    The Notice Proposal required disclosure of the details of the 
enhanced compensation to be made orally or in writing at the time of 
first individualized contact by the member or representative with the 
former customer after the representative has terminated his or her 
association with the previous firm. If the disclosure was made orally, 
the recruiting firm also would have been required to provide the 
disclosure in writing to the former customer with the account transfer 
approval documentation. When individualized contact with that former 
customer had not occurred and the customer sought to transfer an 
account from the previous firm to a broker-dealer account assigned to 
the representative with the recruiting firm, the recruiting firm also 
would have been required to provide the disclosure in writing to the 
former customer with the account transfer approval documentation. The 
Notice Proposal asked for comment on whether the proposed rule should 
require written disclosure at first individualized contact in all 
instances, rather than allowing oral disclosure.
    Many commenters opposed the proposal to require oral disclosure of 
recruitment compensation at the time of first individualized contact by 
the member or the representative, contending that such a requirement is 
unworkable and would present significant tracking and supervisory 
challenges for recruiting firms.\127\ One commenter supported oral 
disclosure at first contact in lieu of written disclosure, stating that 
written disclosure at first contact is not practical from a business 
standpoint, jeopardizes the representative's move to the new firm, 
delays the transfer, and is a segmented approach.\128\ Two commenters 
requested clarification that the requirement is limited to the initial 
contact that relates to the former client's transfer of an account and 
not an announcement of the representative's new employment.\129\
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    \127\ Advisor Group, Cetera, Cutter, Merrill, Miami, PIABA, 
Showalter, Summit-B, Taylor English, WFA.
    \128\ Summit-E.
    \129\ Ameriprise, Gehring.
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    The proposed rule change retains the requirement to provide oral 
disclosures to a former customer when a member or representative makes 
individualized oral contact to attempt to induce the former customer to 
transfer assets to the member. FINRA believes that the administrative 
and tracking challenges of oral disclosure asserted by commenters do 
not outweigh the value in providing disclosures at the time of first 
individualized contact because it is the point at which a customer 
begins the decision-making process on whether to follow a 
representative to a new firm. FINRA does not believe that setting up 
policies and procedures to supervise a registered person's 
communications with former customers presents an unreasonable burden to 
members. Members already are obligated to supervise representatives' 
communications with customers and have flexibility to design their 
supervisory systems. FINRA notes that the commenters did not provide 
specific data to support their contention that oral disclosure at first 
individualized contact would be unworkable for recruiting firms.
    Under the proposed rule, FINRA would consider a phone call to a 
former customer announcing a representative's new position with the 
member to qualify as first individualized contact and an attempt to 
induce the former customer to transfer assets to the member even when 
the conversation is limited to an announcement. Therefore, the proposed 
disclosures must be provided orally during the phone call and must be 
followed by written disclosures sent within 10 business days from such 
oral contact or with the account transfer approval documentation, 
whichever is earlier.
    One commenter supported written disclosure at first individualized 
contact, noting that disclosure may be overlooked by a customer if 
written disclosure is not required until the account transfer 
documentation.\130\ Several commenters objected to the proposal to 
require written disclosure at first individualized contact, stating 
that it is impractical and interferes with the representative's ability 
to timely contact customers.\131\ These commenters suggested instead 
that written disclosure be required at or prior to account opening 
because it gives customers an opportunity to comprehensively review the 
disclosure.
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    \130\ PIABA.
    \131\ Commonwealth, Lax, Merrill, Summit-B, Summit-E, Taylor 
English, UBS, WFA.
---------------------------------------------------------------------------

    The proposed rule change retains the requirement to provide written 
disclosures at the time of first individualized contact with a former 
customer if such contact is in writing. FINRA believes disclosure at 
first individualized contact is more effective than disclosure at or 
prior to account opening because customers typically have already made 
the decision to transfer assets by that point in the process. FINRA 
does not believe that it is particularly burdensome to require members 
to include as part of a written communication to former customers a 
disclosure form that includes key information for the customer to 
consider in making a decision to transfer assets to a new firm. In 
addition, FINRA believes that the information required by the proposed 
disclosures should be accessible to the recruiting firm and the 
representative at the time first contact is made by the recruiting form 
or the representative. The proposed rule change provides that a 
recruiting firm may rely on the reasonable representations of the 
representative, supplemented by the actual knowledge of the recruiting 
firm, in determining whether a disclosure must be made to a former 
customer. If after considering the representations of the newly hired 
representative, the firm cannot make a determination regarding the 
portability of a former customer's products, the firm must advise 
former customers in the disclosure to ask their current firm whether 
any of their securities account assets will not transfer and what 
costs, if any, the customers will incur to liquidate and transfer such 
assets or

[[Page 17606]]

keep them in an account with their current firm. The firm must further 
disclose that nontransferable securities account assets will be 
identified to the former customer in writing prior to, or at the time 
of, validation of the account transfer instructions.
    The Notice Proposal also solicited comment on whether the proposal 
should require a representative to disclose specific amounts of 
recruitment compensation to any customer individually contacted by the 
representative regarding such transfer while the representative is 
still at the previous firm. Numerous commenters objected to such a 
requirement while the representative is still at the previous 
firm,\132\ suggesting that it would be unworkable from an operational 
and supervisory standpoint,\133\ unnecessary to fulfill the goals of 
the proposal,\134\ would interfere with the representative's ability to 
give notice to the firm, and may violate existing statutory or 
contractual obligations to the firm.\135\ Based on the comments, FINRA 
did not incorporate such a requirement in the proposed rule change. 
However, if FINRA finds that representatives are contacting former 
customers before association or employment with the new firm as a way 
to avoid making the disclosures required by the proposed rule, FINRA 
will consider future rulemaking in this area.
---------------------------------------------------------------------------

    \132\ Advisor Group, Ameriprise, Cetera, Lax, Taylor English, 
SIFMA, UBS, Wedbush, WFA.
    \133\ Ameriprise, SIFMA.
    \134\ Taylor English, WFA.
    \135\ Lax.
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One-Year Disclosure Period
    The Notice Proposal would have required the proposed disclosure to 
former customers for one year following the date the representative 
associates with the recruiting firm. The Notice Proposal requested 
comment on whether the proposal should apply a different time period. 
Commenters had mixed views on the issue. Three commenters supported the 
proposed disclosure period of one year following the date the 
representative associates with the recruiting firm.\136\ Four 
commenters recommended that the disclosures should apply for the period 
that the representative is receiving enhanced compensation.\137\ Two 
commenters recommended a disclosure period of 90 days from the date the 
representative associates with the new firm \138\ and one commenter 
recommended 90 to 180 days from such date.\139\ One commenter suggested 
a disclosure period of six months to one year from the date of hire 
because most representatives contact their clients within the first six 
months of employment.\140\ Another commenter stated that the one-year 
time period is arbitrary and seems extensive based on typical transfer 
time.\141\
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    \136\ Summit-B, UBS, WFA.
    \137\ Cornell, Miami, PIABA, Ruchin.
    \138\ Commonwealth, Sutherland.
    \139\ Summit-E.
    \140\ Wedbush.
    \141\ Cutter.
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    The proposed rule change retains the proposed requirement for 
disclosure to former customers for a period of one year following the 
date the representative begins employment or associates with a member. 
As noted in Item B., FINRA understands that most customers who transfer 
assets to the recruiting firm do so soon after the representative 
changes firms so the one-year period should be sufficient to ensure 
that virtually all former customers that the recruiting firm or 
representative attempt to induce to transfer assets to the recruiting 
firm receive the disclosure. FINRA is not proposing a shorter time 
period for the proposed disclosures because it also understands it may 
take some former customers longer to make a determination to transfer 
assets to the representative's new firm, particularly if such customer 
is initially hesitant about transferring assets to the new firm. FINRA 
believes the disclosure information is equally relevant for customers 
that wait some time to consider transferring assets to the new firm and 
that one year is a reasonable cutoff. FINRA believes the burden of 
compliance should diminish over the year period, consistent with early 
efforts to induce former customers to transfer their assets.
Who Should Receive Disclosure
    The Notice Proposal would have required disclosure to any former 
customer with an account assigned to the representative at the previous 
firm who is individually contacted by the recruiting firm or 
representative, either orally or in writing, regarding the transfer of 
the securities employment (or association) of the representative to the 
recruiting firm; or seeks to transfer an account from the previous firm 
to a broker-dealer account assigned to the representative with the 
recruiting firm. The Notice Proposal requested comment on whether the 
proposal should apply to all customers recruited by the transferring 
representative during the year after transfer. FINRA also asked for 
comment on whether it should apply to any new broker-dealer account 
assigned to the representative with the recruiting firm opened by a 
former customer of the representative in addition to accounts 
transferring from the previous firm.
    Commenters were split on who should receive the proposed disclosure 
of specific compensation. One set of commenters suggested that the 
proposal should focus on the conflict that exists when a representative 
asks a former customer to move to the recruiting firm, so only former 
customers should receive the disclosure.\142\ Another set of commenters 
stated that all clients, including new clients at the recruiting firm, 
should receive the proposed disclosure.\143\ One commenter stated that 
the proposal should be expanded beyond retail customers to include 
institutional customers, because their asset levels make them 
particularly susceptible to misconduct aimed at increasing a 
representative's production.\144\
---------------------------------------------------------------------------

    \142\ Commonwealth, Cutter, NAIFA, Summit-B, Summit-E, 
Sutherland, UBS.
    \143\ Cornell, Miami, PIABA, Ruchin.
    \144\ Miami.
---------------------------------------------------------------------------

    The proposed rule change would apply to customers that meet the 
definition of a ``former customer'' under the proposed rule. This would 
include any customer that had a securities account assigned to a 
representative at the representative's previous firm and would not 
include a customer account that meets the definition of an 
institutional account pursuant to FINRA Rule 4512(c); provided, 
however, accounts held by any natural person would not qualify for the 
``institutional account'' exception. FINRA agrees with the commenters 
that suggested that the proposed rule change should address the 
conflict that exists when a representative attempts to induce a former 
customer to move assets to the recruiting firm. FINRA believes that 
former customers that a member or representative attempts to induce to 
transfer assets to a new firm are most vulnerable in recruitment 
situations because they have already developed a trusting relationship 
with the representative and because their assets may be both the basis 
for the representative's recruitment compensation (if the 
representative's upfront payments and potential future payments are 
asset-based or production-based) and subject to potential costs and 
changes if the customer decides to move those assets to the recruiting 
firm. FINRA did not extend the application of the proposed rule to non-
natural person institutional accounts because it believes that such 
accounts are more sophisticated in their dealings with

[[Page 17607]]

representatives and that the proposed disclosure would not have as 
significant an impact on their decision whether to transfer assets to a 
new firm.
Customer Affirmation
    The Notice Proposal also requested comment on whether the proposed 
rule should include a requirement that a customer affirm receipt of the 
disclosure regarding recruitment compensation at or before account 
opening at the new firm. FINRA was interested, in particular, in the 
potential for such a requirement to delay the account opening process 
in a manner that could disadvantage customers. A majority of the 
commenters that responded to this request opposed a customer 
affirmation requirement because it would cause delays in the account 
opening and transfer process, create an additional layer of tracking, 
review and approval to members' operations, may disadvantage clients, 
and would impose costs and an undue burden on members.\145\ Two 
commenters supported a requirement for written customer affirmation and 
suggested using a standard form in the new account paperwork that would 
not be overly burdensome to members.\146\
---------------------------------------------------------------------------

    \145\ Cetera, Janney, NAIFA, Taylor English, Wedbush.
    \146\ Cornell, Summit-E.
---------------------------------------------------------------------------

    The proposed rule change does not incorporate a written customer 
affirmation requirement. FINRA believes that the requirements to 
provide disclosure at the time of first individualized contact with a 
former customer, to follow up in writing if such contact is oral, and 
to deliver the disclosures with the account transfer approval 
documentation when no individual contact is made, will ensure that 
former customers receive and have an opportunity to review the proposed 
disclosure before they decide to transfer assets to a new firm. At this 
time, FINRA does not believe that a customer affirmation is necessary 
to accomplish the goals of the proposed rule change, especially in 
light of commenters' concerns that such a requirement may delay the 
account opening and transfer process. FINRA will assess the 
effectiveness of the disclosure requirement without a customer 
affirmation requirement following implementation of the proposed rule. 
If FINRA finds that the proposed disclosures alone are not attracting 
the attention of customers to influence their decision-making process, 
then it will reconsider a customer affirmation requirement.
Economic Impacts of the Notice Proposal
    The Notice Proposal requested comments on the economic impact and 
expected beneficial results of the proposed rule. Specifically, FINRA 
asked for comment on what direct costs for the recruiting firm will 
result from the rule, and what indirect costs will arise for the 
recruiting firm or its transferring persons. Three commenters stated 
that the proposal will generate significant administrative challenges 
and implementation costs for firms and representatives, including 
additional paperwork and forms, tracking mechanisms, training, and new 
policies and procedures.\147\ Two commenters stated that there will be 
initial implementation costs, but they are warranted to elevate 
industry standards and provide better information to clients before 
they transfer their accounts to a new firm.\148\ One commenter stated 
that the disclosure can be included with new account documentation so 
it will not delay the account transfer process or impose significant 
costs on firms.\149\ One commenter suggested that FINRA should conduct 
a cost-benefit analysis of the proposal that assesses the impact not 
only on customers, but also the attendant impact on representatives, 
firms, and restraints on trade.\150\ Two commenters asked whether the 
proposal would include an obligation to disclose modifications to 
recruitment compensation packages with an updated disclosure to former 
customers who have already transferred assets to the recruiting 
firm.\151\
---------------------------------------------------------------------------

    \147\ Advisor Group, Summit-E, Sutherland.
    \148\ Edward Jones, UBS.
    \149\ Cornell.
    \150\ Janney.
    \151\ Cetera, Taylor English.
---------------------------------------------------------------------------

    Despite a request for quantitative comments, the commenters that 
stated that the proposal will generate significant administrative 
challenges and implementation costs did not provide specific costs or 
empirical data upon which to base their assertions. FINRA has given 
careful consideration to the economic impacts of the proposed rule 
change. It has considered the comments to the Notice Proposal, as well 
as feedback from its advisory committees, other industry members and 
the public. Based on the input received, FINRA does not believe that 
the proposed rule change will result in unsupportable administrative 
and implementation challenges for members. As with most rule changes, 
the proposed rule change would likely require updates to members' 
systems and procedures; however, FINRA believes the burden of such 
updates are outweighed by the significant benefit to retail investors 
in receiving key information relevant to a decision to transfer their 
assets to a new firm and the benefit to FINRA's risk-based examination 
process by receiving information related to significant increases in a 
representative's compensation in the first year at a recruiting firm.
    As discussed in Item B., FINRA has made several changes to the 
Notice Proposal that will assist members and reduce the burdens of 
compliance: Among other things, the proposed rule change includes a 
$100,000 de minimis exception that applies separately to aggregate 
upfront payments and aggregate potential future payments, allows 
members to net out costs paid to a representative as reimbursement for 
direct costs incurred by a representative in a move, includes a FINRA-
developed disclosure template, and allows disclosure of recruitment 
compensation ranges instead of specific amounts to protect the privacy 
of transferring representatives. In addition, members may rely on the 
reasonable representations of a representative regarding the cost and 
portability disclosures and, although such disclosures must be 
affirmative as they relate to each former customer's assets, the 
disclosures do not have to be specific as to the amount of costs or 
products that will not transfer.
    With respect to the commenters' question regarding disclosure of 
modifications to a representative's recruitment compensation package, 
FINRA is not aware that recruitment packages typically are modified 
after a recruited representative has associated with the recruiting 
firm. To the extent that practice occurs and is not designed to 
circumvent the requirements of the proposed rule, the proposed rule 
change would not require any such modifications to be disclosed to 
customers that have already transferred their accounts. FINRA notes 
that the proposed rule is focused on a former customer's decision to 
transfer assets to the recruiting firm. A modification to the 
recruitment package cannot affect the decisions of customers that have 
already transferred assets (unless they have additional assets that 
could still be transferred). However, FINRA cautions that any aspects 
of the recruitment package that were agreed upon prior to the 
representative associating with the recruiting firm--including any 
modifications that would take effect at a later date--would be 
considered either upfront or potential future payments for

[[Page 17608]]

the purposes of the disclosure obligation.
Small Firms Concerns
    The Notice Proposal solicited comment on whether the impacts of the 
proposal with respect to changes in business practices and recruiting 
efforts differentially will affect small or specialized broker-dealers. 
Six commenters stated that compliance with the proposal will be more 
difficult for small firms with limited operational resources and 
supervisory personnel and will make recruiting efforts more 
challenging.\152\
---------------------------------------------------------------------------

    \152\ Cetera, Gompert, Janney, Plexus, Summit-E, Whitehall.
---------------------------------------------------------------------------

    In crafting the proposed rule change, FINRA considered its 
potential impacts on small firms and specialized broker-dealers. The 
proposed rule change provides for disclosure of recruitment 
compensation in ranges only for amounts of $100,000 or more, as applied 
to two separate categories of recruitment compensation. Based on input 
from members, including independent broker-dealers and small firms, 
FINRA believes that the $100,000 thresholds as applied separately to 
aggregate upfront payments and aggregate potential future payments for 
purposes of disclosure to former customers and the greater of 25% or 
$100,000 over the representative's prior year's compensation for 
purposes of reporting total compensation to FINRA will exclude most 
small firms and specialized broker-dealers from the proposed rule 
because such firms are not likely to offer recruitment compensation or 
total compensation packages that meet the proposed thresholds, 
particularly when, as permitted under the proposed rule, direct costs 
incurred by the representative in connection with the transfer are 
netted out from the calculation.\153\ FINRA believes that, to the 
extent that a small firm or specialized broker-dealer does pay the 
significant levels of recruitment compensation captured by the proposed 
rule change, their customers should similarly be provided the 
disclosure that will facilitate an informed decision as to whether to 
transfer assets to the representative's new firm. FINRA also is 
proposing disclosure to former customers via a FINRA-developed template 
that would save all members, small and large, from the resources, 
administration and costs related to developing a disclosure form that 
would meet the requirements of the proposed rule.
---------------------------------------------------------------------------

    \153\ See proposed FINRA Rule 2243.04.
---------------------------------------------------------------------------

Alternatives Suggested
    One commenter recommended that FINRA adopt a rule that would 
prohibit recruitment compensation over $100,000 to level the recruiting 
playing field among all members and eliminate potential or perceived 
conflicts of interest.\154\ Another commenter suggested that the 
disclosure should be given by the firm the representative is leaving 
and should be provided to all clients of the departing representative 
at the time of his or her resignation.\155\ A few commenters believed 
that placing the burden on firms to enhance their supervisory structure 
and develop comprehensive policies and procedures related to conflicts 
identification and disclosure would better serve the industry and 
investors.\156\ One commenter suggested that FINRA allow members to 
make their own business decisions and determine what is competitive and 
profitable for them regarding recruitment practices.\157\ Another 
commenter suggested amending the proposal to require the member to 
disclose compensation paid by its non-member affiliates to a 
transferring representative to avoid a loophole for dual-hatted 
representatives.\158\ One commenter asked FINRA to evaluate whether the 
proposed rule should apply to all client-facing professionals 
(investment bankers, institutional sales representatives, financial 
planners, sales traders) who receive recruitment compensation.\159\ Two 
commenters stated that recruiting firms should be required to send 
clients a FINRA-drafted pamphlet that flags issues related to 
transitions, so clients can make their own determination as to what 
information they consider important in evaluating whether they should 
follow their representative to a new firm.\160\
---------------------------------------------------------------------------

    \154\ Wedbush.
    \155\ Oppenheimer.
    \156\ FSI, Janney, NASAA.
    \157\ Midwestern.
    \158\ Gehring.
    \159\ Janney.
    \160\ Burns, Miami.
---------------------------------------------------------------------------

    As detailed in Item B., FINRA has considered numerous alternatives 
suggested by the commenters to the Notice Proposal but believes that 
the proposed rule change strikes an appropriate balance to increase 
transparency with respect to recruitment practices without creating 
unnecessary costs or burdens on members and their representatives. As 
to these commenters' suggestions, FINRA does not believe it appropriate 
to regulate the amount of recruitment compensation paid to 
representatives; rather, the proposed rule change seeks to provide 
disclosure related to compensation incentives to the extent it may 
impact a retail investor's decision whether to follow his or her 
representative to a new firm. FINRA believes the recruiting firm that 
is paying representatives recruitment compensation in amounts that meet 
the proposed thresholds is in the best position to provide the required 
disclosures. FINRA encouraged members in its Report on Conflicts of 
Interest to enhance their supervision of representative's activity 
around the time of compensation thresholds; \161\ however, the primary 
focus of the proposed rule change is to provide retail investors with 
important cost information and transparency of conflicts related to the 
decision whether to transfer assets to a representative's new firm. 
FINRA also notes that the proposed rule change would require disclosure 
of recruitment compensation paid by non-member affiliates to the extent 
those amounts, when combined with any recruitment compensation paid by 
the recruiting member, exceed the $100,000 thresholds for each category 
of recruitment compensation. The proposed rule change would apply to 
recruitment compensation paid to any registered person; however, FINRA 
notes that investment bankers and other types of registered persons not 
involved in retail sales are unlikely to have retail customers whose 
assets might be induced to transfer.
---------------------------------------------------------------------------

    \161\ Report on Conflicts of Interest, FINRA, October 2013, 
available at, http://www.finra.org/web/groups/industry/@ip/@reg/@guide/documents/industry/p359971.pdf.
---------------------------------------------------------------------------

    Finally, FINRA believes the more specific disclosure that would be 
required under the proposed rule change will appreciably benefit retail 
customers more than a general pamphlet that sets out considerations 
without providing the actual information related to those 
considerations. FINRA will continue to evaluate alternatives based on 
the comments received on the revised proposal.
Implementation and Requests To Delay Rulemaking
    Some commenters expressed concerns regarding the implementation of 
the proposal. Five commenters noted that due to the nature of some 
enhanced compensation arrangements (e.g., deferred incentives or 
modifications to a package) it will be difficult to calculate dollar 
amounts at the time of transfer.\162\ Two commenters requested guidance 
on how recruitment

[[Page 17609]]

compensation should be calculated and disclosed, by group or 
individual, where bonuses are given to a group of brokers and 
assistants who move to a new firm together.\163\ One commenter 
requested that FINRA allow adequate time for implementation.\164\ 
Another commenter suggested limiting the application of the rule to 
those hired after the rule goes into effect.\165\
---------------------------------------------------------------------------

    \162\ Ameriprise, NAIFA, Summit-B, Sutherland, Taylor English.
    \163\ Cetera, LaBastille.
    \164\ Advisor Group.
    \165\ Gehring.
---------------------------------------------------------------------------

    One commenter suggested that it would be prudent for FINRA to 
assemble a working group to collect qualitative information related to 
the use of recruitment compensation in the industry to make a well-
informed decision about how best to proceed in order to achieve its 
intended goals.\166\ One commenter noted that the proposal should 
consider FINRA's proposal in Regulatory Notice 10-54 (Disclosure of 
Services, Conflicts and Duties) and Section 919 of the Dodd-Frank 
Act,\167\ which grants permissive authority to the SEC to engage in 
rulemaking with respect to compensation practices, because a 
comprehensive review of the required disclosure regime for broker-
dealers would result in a more thoughtful, consistent and effective set 
of disclosures that would be most likely to benefit investors.\168\ 
Another commenter suggested that FINRA integrate the proposal with the 
pre-engagement disclosures contemplated in Regulatory Notice 10-
54.\169\ Two commenters recommended that FINRA delay further regulatory 
action until the conflicts initiative is completed.\170\ Finally, one 
commenter noted that FINRA should do a global conflicts assessment not 
limited to this isolated and singular conflict.\171\
---------------------------------------------------------------------------

    \166\ FSI.
    \167\ Dodd-Frank Wall Street Reform and Consumer Protection Act, 
Pub. L. No. 111-203, 124 Stat. 1376 (2010).
    \168\ Sutherland.
    \169\ FSI.
    \170\ Advisor Group, FSI.
    \171\ Janney.
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    FINRA believes that members are in a position to calculate 
recruitment compensation for purposes of the proposed disclosure 
requirement at the time a representative or the member attempts to 
induce a former customer of the representative to transfer assets to 
the representatives' new firm. FINRA notes that the representative will 
already be associated with or employed by the member, so all 
compensation arrangements between the representative and the member 
should be clear and agreed to by all parties. The proposed rule change 
also provides guidance with respect to calculating recruitment 
compensation and total compensation for the purpose of the proposed 
disclosure and reporting requirements, respectively: members must 
assume that all performance-based conditions on the representative's 
compensation are met, may make reasonable assumptions about the 
anticipated gross revenue to which an increased payout percentage will 
be applied and may net out any increased costs incurred directly by the 
registered person in connection with transferring to the member. With 
respect to a transfer of a group, or team, of representatives and 
staff, FINRA believes that members can make a reasonable determination 
regarding the application of recruitment compensation to each 
individual that transferred to the firm to make the required 
disclosures. FINRA will consider further guidance regarding application 
of the proposed rule change as issues arise.
    FINRA understands the commenters' suggestions to delay rulemaking 
and incorporate the proposed rule change into other ongoing efforts 
related to conflicts of interest. However, FINRA believes that the 
proposed rule change should move forward at this time, as it is 
narrowly focused on a retail investor's important decision whether to 
transfer assets to a new firm, rather than conflicts associated with 
compensation practices more broadly. FINRA believes that former 
customers should begin receiving the proposed disclosures as soon as 
practicable so that they are fully informed before making a decision to 
transfer assets to a representative's new firm. FINRA will consider how 
the proposed rule change fits within the larger scheme of conflicts of 
interest regulations as the timetables on such other proposals 
progress. In addition, FINRA will establish a reasonable implementation 
period for the proposed rule change to provide members with sufficient 
time to update their internal systems and policies.

III. Date of Effectiveness of the Proposed Rule Change and Timing for 
Commission Action

    Within 45 days of the date of publication of this notice in the 
Federal Register or within such longer period (i) as the Commission may 
designate up to 90 days of such date if it finds such longer period to 
be appropriate and publishes its reasons for so finding or (ii) as to 
which the self-regulatory organization consents, the Commission will:
    (A) By order approve or disapprove such proposed rule change, or
    (B) institute proceedings to determine whether the proposed rule 
change should be disapproved.

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views and 
arguments concerning the foregoing, including whether the proposed rule 
change is consistent with the Act. Comments may be submitted by any of 
the following methods:

Electronic Comments

     Use the Commission's Internet comment form (http://www.sec.gov/rules/sro.shtml ); or
     Send an email to rule-comments@sec.gov. Please include 
File Number SR-FINRA-2014-010 on the subject line.

Paper Comments

     Send paper comments in triplicate to Secretary, Securities 
and Exchange Commission, 100 F Street NE., Washington, DC 20549-1090.

All submissions should refer to File Number SR-FINRA-2014-010. This 
file number should be included on the subject line if email is used. To 
help the Commission 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 (http://www.sec.gov/rules/sro.shtml 
). Copies of the submission, all subsequent amendments, all written 
statements with respect to the proposed rule change that are filed with 
the Commission, and all written communications relating to the proposed 
rule change between the Commission and any person, other than those 
that may be withheld from the public in accordance with the provisions 
of 5 U.S.C. 552, will be available for Web site viewing and printing in 
the Commission's Public Reference Room, 100 F Street NE., Washington, 
DC 20549, on official business days between the hours of 10:00 a.m. and 
3:00 p.m. Copies of such filing also will be available for inspection 
and copying at the principal office of FINRA. All comments received 
will be posted without change; the Commission does not edit personal 
identifying information from submissions. You should submit only 
information that you wish to make available publicly. All submissions 
should refer to File Number SR-FINRA-2014-010 and should be submitted 
on or before April 18, 2014.


[[Page 17610]]


    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\172\
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    \172\ 17 CFR 200.30-3(a)(12).
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Kevin M. O'Neill,
Deputy Secretary.
[FR Doc. 2014-06895 Filed 3-27-14; 8:45 am]
BILLING CODE 8011-01-P