Self-Regulatory Organizations; Financial Industry Regulatory Authority, Inc.; Notice of Filing of a Proposed Rule Change To Amend FINRA Rule 3240 (Borrowing From or Lending to Customers), 3968-3979 [2024-01068]
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Federal Register / Vol. 89, No. 14 / Monday, January 22, 2024 / Notices
purposes of this clause (A), ‘‘consolidated
Options Information’’ means consolidated
Last Sale Reports combined with either
consolidated Quotation Information or the
BBO furnished by OPRA, and access to
consolidated Options Information and access
to Proprietary Information are deemed
‘‘equivalent’’ if Proprietary Information and
consolidated Options Information, whether
disseminated on a streaming- or per usagebasis, [both kinds of information] are equally
accessible on the same terminal or work
station; [and]
(B) a Member may not disseminate its
Proprietary Information on any more timely
basis than the same information is furnished
to the OPRA System for inclusion in OPRA’s
consolidated dissemination of Options
Information;[.] and
(C) dissemination of consolidated Options
Information for the same classes or series of
options that are included in the Proprietary
Information must be displayed in a context
in which a trading or order-routing decision
can be implemented (i.e., the point of order
entry or modification). Consolidated Options
Information must also be provided if a
registered representative of a broker-dealer
provides a quotation to a customer that can
be used to assess the current market or the
quality of trade execution.
*
*
*
*
*
III. Solicitation of Comments
The Commission seeks comment on
the Amendment. Interested persons are
invited to submit written data, views
and arguments concerning the
foregoing, including whether the
proposed amendment is necessary or
appropriate in the public interest, for
the protection of investors and the
maintenance of fair and orderly markets,
to remove impediments to, and perfect
the mechanisms of, a national market
system, or otherwise in furtherance of
the purposes of the Act. Comments may
be submitted by any of the following
methods:
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Electronic Comments
• Use the Commission’s internet
comment form (https://www.sec.gov/
rules/sro.shtml); or
• Send an email to rule-comments@
sec.gov. Please include file number 4–
820 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 4–820. 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
website (https://www.sec.gov/rules/
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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 website 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
a.m. and 3 p.m. Copies of the filing also
will be available for inspection and
copying at the principal offices of the
Sponsors. Do not include personal
identifiable information in submissions;
you should submit only information
that you wish to make available
publicly. We may redact in part or
withhold entirely from publication
submitted material that is obscene or
subject to copyright protection. All
submissions should refer to file number
4–820 and should be submitted on or
before February 12, 2024.
For the Commission, by the Division of
Trading and Markets, pursuant to delegated
authority.26
Sherry R. Haywood,
Assistant Secretary.
[FR Doc. 2024–01071 Filed 1–19–24; 8:45 am]
BILLING CODE 8011–01–P
SECURITIES AND EXCHANGE
COMMISSION
[Release No. 34–99351; File No. SR–FINRA–
2024–001]
Self-Regulatory Organizations;
Financial Industry Regulatory
Authority, Inc.; Notice of Filing of a
Proposed Rule Change To Amend
FINRA Rule 3240 (Borrowing From or
Lending to Customers)
January 16, 2024.
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 January 2,
2024, the 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
26 17
CFR 200.30–3(a)(85).
U.S.C. 78s(b)(1).
2 17 CFR 240.19b–4.
1 15
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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
FINRA is proposing to amend Rule
3240 (Borrowing From or Lending to
Customers) to strengthen the general
prohibition against borrowing and
lending arrangements, narrow some of
the existing exceptions to that general
prohibition, modernize the immediate
family exception, and enhance the
requirements for giving notice to
members and obtaining members’
approval of such arrangements.
The text of the proposed rule change
is available on FINRA’s website at
https://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
Statutory Basis for, the Proposed Rule
Change
1. Purpose
Background
Rule 3240 generally prohibits, with
exceptions, registered persons from
borrowing money from or lending
money to their customers. The rule has
five tailored exceptions, available only
when the registered person’s member
firm has written procedures allowing
the borrowing and lending of money
between such registered persons and
customers of the member, the borrowing
or lending arrangements meet the
conditions in one of the exceptions 3
and, when required, the registered
person notifies the member of a
borrowing or lending arrangement, prior
to entering into such arrangement, and
3 See Rule 3240(a)(2)(A) (the ‘‘immediate family
exception’’); Rule 3240(a)(2)(B) (the ‘‘financial
institution exception’’); Rule 3240(a)(2)(C) (the
‘‘registered persons exception’’); Rule 3240(a)(2)(D)
(the ‘‘personal relationship exception’’); Rule
3240(a)(2)(E) (the ‘‘business relationship
exception’’).
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obtains the member’s pre-approval in
writing. The exceptions are for limited
situations where the likelihood that the
registered person and customer entered
into the borrowing or lending
arrangement by virtue of the brokercustomer relationship is reduced, and
the potential risks are outweighed by
the potential benefits of allowing
registered persons to enter into
arrangements with such customers.
Rule 3240 was last amended in 2010,
when it became part of the consolidated
FINRA rulebook.4 In August 2019,
FINRA launched a retrospective review
of Rule 3240, as part of a larger
retrospective review of FINRA’s rules
and administrative processes that help
protect senior investors from financial
exploitation.5 In December 2021, FINRA
published Regulatory Notice 21–43
(‘‘Notice 21–43’’), which (1)
summarized the predominant themes
that emerged during the retrospective
review of Rule 3240; (2) issued guidance
concerning approvals of permissible
borrowing or lending arrangements; and
(3) based on feedback received during
the retrospective rule review, sought
comment on proposed amendments to
Rule 3240.6
Proposed Rule Change
FINRA is proposing to amend Rule
3240 to strengthen the general
prohibition against borrowing and
lending arrangements, narrow some of
the existing exceptions to that general
prohibition, modernize the immediate
family exception, and enhance the
requirements for giving notice to
members and obtaining members’
approval of such arrangements.7
The General Prohibition on Borrowing
From or Lending to Customers
Rule 3240 generally prohibits
registered persons from borrowing from
or lending to their customers. To make
4 See
Regulatory Notice 10–21 (April 2010).
Regulatory Notice 19–27 (August 2019). In
October 2020, FINRA published a report that
summarized other aspects of that retrospective rule
review. See Regulatory Notice 20–34 (October
2020).
6 In Notice 21–43, FINRA also discussed some
similarities and differences between Rule 3240 and
the federal and state regulatory approaches for
investment advisers and their supervised persons,
and encouraged a broader dialogue about whether
a more uniform regulatory approach would enhance
investor protection.
7 Where appropriate in context, FINRA refers
herein to ‘‘borrowing and lending’’ rather than
‘‘borrowing or lending.’’ No references to
‘‘borrowing and lending,’’ however, should be
interpreted to mean that Rule 3240 only applies to
arrangements that have both a borrowing
component and a separate lending component. Rule
3240 generally prohibits registered persons from
borrowing money from or lending money to a
customer.
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this regulatory purpose more prominent,
the proposed rule change would amend
the rule’s title from ‘‘Borrowing From or
Lending to Customers’’ to ‘‘Prohibition
on Borrowing From or Lending to
Customers,’’ and change the title of Rule
3240(a) from ‘‘Permissible Lending
Arrangements; Conditions’’ to ‘‘General
Prohibition; Permissible Borrowing or
Lending Arrangements; Conditions.’’
These changes would emphasize that
the rule is, first and foremost, a general
prohibition.
In addition, the proposed rule change
would strengthen this general
prohibition in three ways. First, Rule
3240(a) would be amended to clarify
that the rule’s general requirements
concerning borrowing and lending
arrangements—including the general
prohibition—apply to arrangements that
pre-exist a new broker-customer
relationship. Currently, Rule 3240(a)
begins, ‘‘[n]o person associated with a
member in any registered capacity may
borrow money from or lend money to
any customer of such person . . . .’’
FINRA is proposing to amend this
introductory clause in Rule 3240(a) to
also prohibit registered persons from
initiating a broker-customer relationship
with a person with whom the registered
person has an existing borrowing or
lending arrangement.
Second, FINRA is proposing to add
Rule 3240.02 (Customer). Proposed Rule
3240.02 would define ‘‘customer’’ to
include, for purposes of Rule 3240, any
customer that has, or in the previous six
months had, a securities account
assigned to the registered person at any
member. This would extend the rule’s
limitations to borrowing or lending
arrangements entered into within six
months after a broker-customer
relationship terminates. This proposed
definition would align with the
definition of ‘‘customer’’ in FINRA Rule
3241 (Registered Person Being Named a
Customer’s Beneficiary or Holding a
Position of Trust for a Customer), a rule
that addresses similar types of
conflicts.8
Third, FINRA is proposing to add
Rule 3240.05 (Arrangements with
Persons Related to Either the Registered
Person or the Customer). Proposed Rule
3240.05 would extend the rule’s
requirements to borrowing or lending
arrangements that involve similar
conflicts as ones presented by
arrangements directly between
registered persons and their customers.
Specifically, proposed Rule 3240.05
would provide that ‘‘[a] registered
person instructing or asking a customer
to enter into a borrowing or lending
8 See
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arrangement with a person related to the
registered person (e.g., the registered
person’s immediate family member or
outside business) or to have a person
related to the customer (e.g., the
customer’s immediate family member or
business) enter into a borrowing or
lending arrangement with the registered
person would present similar conflict of
interest concerns as borrowing or
lending arrangements between the
registered person and the customer and
would not be consistent with this Rule
[3240] unless the conditions set forth in
[Rule 3240(a)(1), (2), and (3)] are
satisfied.’’ 9 This would address the
potential for customer abuse that arises
when a registered person induces a
customer to enter into a borrowing or
lending arrangement with a person or
entity related to the registered person or,
likewise, induces a customer to have a
person or entity related to the customer
enter into an arrangement with the
registered person.10
In addition, FINRA is proposing to
add Rule 3240.03 (Owner-Financing
Arrangements) to expressly state that,
for purposes of Rule 3240, borrowing or
lending arrangements include ownerfinancing arrangements. For example,
Rule 3240 would apply to situations
where a registered person purchases real
estate from his customer, the customer
agrees to finance the purchase, and the
registered person provides a promissory
note for the entire purchase price or
arranges to pay in installments.11
The ‘‘Immediate Family’’ Definition
One of the few exceptions to Rule
3240’s general prohibition is for
borrowing or lending arrangements with
a customer who is a member of the
registered person’s immediate family.12
Currently, Rule 3240(c) defines
‘‘immediate family’’ to mean ‘‘parents,
grandparents, mother-in-law or fatherin-law, husband or wife, brother or
sister, brother-in-law or sister-in-law,
son-in-law or daughter-in-law, children,
grandchildren, cousin, aunt or uncle, or
niece or nephew, and any other person
9 The conditions in Rule 3240(a)(1), (2) and (3) are
that the member has written procedures allowing
the borrowing or lending of money between
registered persons and customers; the borrowing or
lending arrangement meets one of the conditions;
and the notification and approval requirements are
satisfied.
10 Proposed Rule 3240.05 is based, in part, on
feedback received during the retrospective review
that some registered persons attempt to circumvent
Rule 3240 by structuring arrangements with persons
related to the registered person or the customer.
11 See, e.g., James K. Breeze, Letter of
Acknowledgment, Waiver and Consent, Case ID
2008012846501 (June 30, 2009); Vincenzo G.
Covino, Letter of Acknowledgment, Waiver and
Consent, Case ID 2009020793901 (Feb. 9, 2012).
12 See Rule 3240(a)(2)(A).
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whom the registered person supports,
directly or indirectly, to a material
extent.’’
During the retrospective review of
Rule 3240, FINRA received feedback
that the definition of ‘‘immediate
family’’ should be modernized. The
proposed rule change would modernize
the ‘‘immediate family’’ definition to
match the definition of the same term in
Rule 3241, which also has exceptions
for situations in which the customer is
a member of the registered person’s
immediate family.13 Specifically, the
proposed rule change to Rule 3240(c)
would replace ‘‘husband or wife’’ with
‘‘spouse or domestic partner’’ and
amend the definition so that it
‘‘includes step and adoptive
relationships.’’ In addition, the ‘‘any
other person’’ clause would be revised
to be limited to ‘‘any other person who
resides in the same household as the
registered person and the registered
person financially supports, directly or
indirectly, to a material extent.’’
The Personal Relationship and Business
Relationship Exceptions
Currently, two exceptions to the rule’s
general prohibition are for arrangements
based on (1) a ‘‘personal relationship
with the customer, such that the loan
would not have been solicited, offered,
or given had the customer and the
registered person not maintained a
relationship outside of the brokercustomer relationship’’; and (2) a
‘‘business relationship outside of the
broker-customer relationship.’’ 14 Due to
concerns expressed during the
retrospective review of Rule 3240 that
the personal relationship exception may
be exploited—and to make more clear
what kinds of personal relationships
would be within the exception—FINRA
proposes to narrow the personal
relationship exception to arrangements
that are based on a ‘‘bona fide, close
personal relationship between the
registered person and the customer
maintained outside of, and formed prior
to, the broker-customer relationship.’’ 15
This language would replace the
requirement that ‘‘the loan would not
13 See
Rule 3241(a)(1)(A) and (a)(2)(A) and (c).
Rule 3240(a)(2)(D) and (E). Although Rule
3240(a)(2)(D) and (E) refer to ‘‘the lending
arrangement,’’ and do not explicitly mention a
‘‘borrowing arrangement,’’ these exceptions are not
intended to exclude borrowing arrangements.
FINRA therefore proposes a technical amendment
to make clear that those exceptions apply to
‘‘borrowing or lending’’ arrangements based on a
personal relationship or a business relationship.
15 Where appropriate in context, FINRA refers
herein to proposed Rule 3240(a)(2)(D) as the ‘‘close
personal relationship exception.’’ See also supra
note 3 (defining current Rule 3240(a)(2)(D) as the
‘‘personal relationship exception’’).
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have been solicited, offered, or given
had the customer and the registered
person not maintained a relationship
outside of the broker-customer
relationship’’ to narrow the scope of the
exception and clarify the types of
relationships that would be within the
exception. For similar reasons, FINRA
proposes to amend the business
relationship exception to be limited to
arrangements that are based on a ‘‘bona
fide business relationship outside of the
broker-customer relationship.’’ 16
In addition to narrowing the personal
relationship and business relationship
exceptions, FINRA is proposing to add
Rule 3240.04 (Close Personal
Relationships; Business Relationships),
which would provide factors for
evaluating whether a borrowing or
lending arrangement is based on a close
personal relationship or a business
relationship. The proposed factors
would include, but would not be
limited to, when the relationship began,
its duration and nature, and any facts
suggesting that the relationship is not
bona fide or was formed with the
purpose of circumventing the purpose
of Rule 3240. Proposed Rule 3240.04 is
intended to help establish the scope of
the close personal relationship and
business relationship exceptions, focus
on the most relevant factors when
evaluating whether a close personal
relationship or business relationship
exists, and ensure that members
consider meaningfully the potential
issues involved in the proposed
arrangement.
To provide even more guidance about
the scope of the close personal
relationship and business relationship
exceptions, proposed Rule 3240.04
would also provide illustrative
examples of these relationships.
Specifically, it would provide that
examples of relationships that are close
personal relationships include, but are
not limited to, a childhood or long-term
friend, a godparent, and other similarly
close relationships. Additionally,
proposed Rule 3240.04 would provide
that an example of a business
relationship includes, but is not limited
to, a loan from a registered person to a
small outside business that the
registered person co-owned for years for
the sole purpose of providing the
16 The term ‘‘bona fide’’ in the close personal
relationship and business relationship exceptions
was not included in the proposal in Notice 21–43.
FINRA proposes to add the term ‘‘bona fide’’ to
emphasize that for either of these exceptions to
apply, the close personal relationship or business
relationship must be legitimate. Adding the term
‘‘bona fide’’ would also align with language in
proposed Rule 3240.04, discussed below.
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business with additional operating
capital.17
Notification and Approval
Requirements
The proposed rule change would also
amend Rule 3240’s notification and
approval requirements. Currently, Rule
3240(b) contains notification and
approval requirements for borrowing or
lending arrangements within the five
exceptions, which vary depending on
which exception applies. With respect
to the personal relationship, business
relationship, and registered persons
exceptions, Rule 3240(b)(1) provides
that a registered person shall notify the
member of borrowing or lending
arrangements prior to entering into such
arrangements, and that the member
shall pre-approve in writing such
arrangements.18 With respect to the
immediate family member exception,
Rule 3240(b)(2) provides, in pertinent
part, that a member’s written procedures
may indicate that registered persons are
not required to notify the member or
receive member approval. With respect
to the financial institution exception,
Rule 3240(b)(3) provides, in pertinent
part, that a member’s written procedures
may indicate that registered persons are
not required to notify the member or
receive member approval, provided that
‘‘the loan has been made on commercial
terms that the customer generally makes
available to members of the general
public similarly situated as to need,
purpose and creditworthiness.’’
FINRA is proposing several
amendments to all these notification
and approval requirements. First,
FINRA is proposing to amend Rule
3240(b)(1) to clarify that, although
registered persons are required to obtain
the member’s prior approval of
arrangements within the close personal
relationship, business relationship, or
registered persons exceptions, the
member is not required to approve such
arrangements. As explained above, Rule
3240(b)(1) currently provides that the
member ‘‘shall pre-approve’’ such
arrangements, which could imply
incorrectly that the member must
approve the arrangement or
modification and may not disapprove it.
To preclude this incorrect
interpretation, the proposed rule change
would delete the ‘‘shall pre-approve’’
language and instead require the
17 The proposal in Notice 21–43 did not include
an illustrative example of a business relationship in
proposed Rule 3240.04. It has been added in
response to comments to Notice 21–43 requesting
examples of relationships within that exception.
18 Rule 3240(b)(1) contains similar notification
and approval requirements for modifications to
borrowing or lending arrangements.
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registered person to provide the member
with notice of the arrangements or
modifications ‘‘prior to entering into
such arrangements’’ or ‘‘prior to the
modification of such arrangements’’ and
‘‘obtain the member’s approval.’’ 19
The proposed rule change would also
amend the notification and approval
requirements that apply to borrowing or
lending arrangements within the
registered persons, personal relationship
and business relationship exceptions, to
correspond with the proposed
amendments that would clarify that the
general prohibition applies to preexisting arrangements. Specifically,
proposed Rule 3240(b)(1)(B) would
require registered persons, prior to the
initiation of a broker-customer
relationship at the member with a
person with whom the registered person
has an existing borrowing or lending
arrangement, to notify the member in
writing of existing arrangements within
the registered persons, personal
relationship and business relationship
exceptions and obtain the member’s
approval in writing of the brokercustomer relationship.20
Further, the proposed rule change
would require that all notices required
under Rule 3240 be in writing and
retained by the member. Currently, Rule
3240 does not specify that notice must
be given in writing, and the recordretention provision in Rule 3240.01
requires members only to preserve
written approvals. The proposed rule
change would require registered persons
to give written notice and require
members to preserve records of such
written notice for at least three years.21
The proposed rule change would also
amend the provisions that address
notice and approval of arrangements
within the immediate family and
financial institution exceptions, to
correspond with the proposed
amendments that would clarify that the
19 See
proposed Rule 3240(b)(1)(A).
such situations, if the member does not
approve the formation of a broker-customer
relationship with the registered person who
provided such notice, the customer would still be
permitted to seek to initiate a broker-customer
relationship with another registered person at the
same member.
21 See proposed amendments to Rule
3240(b)(1)(A) and (b)(1)(B) and Rule 3240.01. Rule
3240.01 would also be amended to provide that the
record-retention requirements are for purposes of
Rule 3240(b), not just Rule 3240(b)(1). As explained
above, Rule 3240(b)(1) requires notice and approval
of arrangements that are within the personal
relationship, business relationship, and registered
persons exceptions. While Rule 3240(b)(2) and (3)
do not expressly require notice and approval of
arrangements within the immediate family member
and financial institution exceptions, those
subparagraphs imply that members may choose to
require such notice and approval of those
arrangements.
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general prohibition applies to
arrangements that pre-exist the brokercustomer relationship. Currently, under
Rule 3240(b)(2) and (3), the member’s
written procedures may indicate that
registered persons are not required to
notify the member or receive member
approval of arrangements within the
immediate family exception or
arrangements within the financial
institution exception that meet the
additional conditions set forth in Rule
3240(b)(3). To extend these provisions
to pre-existing arrangements, the
proposed rule change would amend
Rule 3240(b)(2) and (3) to provide that
the member’s procedures may also
indicate that registered persons are not
required to notify the member or receive
member approval of such arrangements
either prior to or subsequent to
initiating a broker-customer
relationship.
Finally, in response to comments
received in response to Notice 21–43,
the proposed rule change would
establish new obligations on a member
when receiving notice of a borrowing or
lending arrangement. Specifically,
FINRA is proposing to add Rule 3240.06
(Obligations of Member Receiving
Notice). Proposed Rule 3240.06 would
provide that upon receiving written
notice under Rule 3240, the member
shall perform a reasonable assessment of
the risks created by the borrowing or
lending arrangement with a customer,
modification to the borrowing or
lending arrangement with a customer, or
existing borrowing or lending
arrangement with a person who seeks to
be a customer of the registered person.
It would further provide that the
member shall also make a reasonable
determination of whether to approve the
borrowing or lending arrangement,
modification to the borrowing or
lending arrangement, or, where there is
an existing borrowing or lending
arrangement with a person who seeks to
be a customer of the registered person,
the broker-customer relationship.
Proposed Rule 3240.06 would be similar
to Rule 3241(b)(1), which requires
members to perform a ‘‘reasonable
assessment’’ and ‘‘reasonable
determination’’ when receiving notice of
a registered person being named a
customer’s beneficiary or holding a
position of trust for a customer, and to
supplementary material to FINRA Rule
3270 (Outside Business Activities of
Registered Persons) that provides factors
members must consider upon receiving
written notice of an outside business
activity.22
22 See Rule 3270.01 (Obligations of Member
Receiving Notice).
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3971
FINRA intends that a member’s
‘‘reasonable assessment’’ and
‘‘reasonable determination’’ for
purposes of proposed Rule 3240.06
would be informed by guidance that
FINRA has already provided to
members in Notice 21–43.23
Specifically, FINRA expects that a
member’s ‘‘reasonable assessment’’
would take into consideration several
factors, such as:
(1) any potential conflicts of interest
in the registered person being in a
borrowing or lending arrangement with
a customer;
(2) the length and type of relationship
between the customer and registered
person;
(3) the material terms of the
borrowing or lending arrangement;
(4) the customer’s or the registered
person’s ability to repay the loan;
(5) the customer’s age;
(6) whether the registered person has
been a party to other borrowing or
lending arrangements with customers;
(7) whether, based on the facts and
circumstances observed in the member’s
business relationship with the customer,
the customer has a mental or physical
impairment that renders the customer
unable to protect his or her own
interests;
(8) any disciplinary history or indicia
of improper activity or conduct with
respect to the customer or the
customer’s account (e.g., excessive
trading); and
(9) any indicia of customer
vulnerability or undue influence of the
registered person over the customer.
This list is not intended to be
exhaustive. Moreover, while a listed
factor may not be applicable to a
particular situation, the factors that a
member considers should allow for a
reasonable assessment of the associated
risks so that the member can make a
reasonable determination of whether to
approve the borrowing or lending
arrangement, modification to the
borrowing or lending arrangement, or,
where there is an existing borrowing or
lending arrangement with a person who
seeks to be a customer of the registered
person, the broker-customer
relationship. FINRA does not expect a
registered person’s assertion that the
registered person or the customer has no
viable alternative person from whom to
23 FINRA has explained that this guidance was
similar to general guidance that FINRA had
published concerning the ‘‘reasonable assessment’’
and ‘‘reasonable determination’’ requirements in
Rule 3241. See Notice 21–43, at n.21 (citing Rule
3241(b)(1), Regulatory Notice 20–38 (October 2020),
and Securities Exchange Act Release No. 89218
(July 2, 2020), 85 FR 41249, 41251 (July 9, 2020)
(Notice of Filing of File No. SR–FINRA–2020–020)).
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borrow money to be dispositive in the
member’s assessment. If possible, as
part of the member’s reasonable
assessment of the risks, FINRA would
expect a member to try to discuss the
arrangement with the customer.24
If the Commission approves the
proposed rule change, FINRA will
announce the effective date of the
proposed rule change in a Regulatory
Notice.
2. Statutory Basis
FINRA believes the proposed rule
change is consistent with the provisions
of section 15A(b)(6) of the Act,25 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, by strengthening
and modernizing Rule 3240, the
proposed rule change would enhance
investor protection. The proposed rule
change would reduce risks to investors
through incremental adjustments that
strengthen the general prohibition
against borrowing and lending
arrangements and narrow the few
exceptions to the rule. In addition, the
proposed rule change would facilitate
compliance by clarifying the scope of
the general prohibition and the personal
relationship and business relationship
exceptions.
B. Self-Regulatory Organization’s
Statement on Burden on Competition
FINRA does not believe that the
proposed rule change would result in
any burden on competition that is not
necessary or appropriate in furtherance
of the purposes of the Act.
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Economic Impact Assessment
FINRA has undertaken an economic
impact assessment, as set forth below, to
further analyze the regulatory need for
the proposed rule change, its potential
economic impacts, including
anticipated costs, benefits, and
distributional and competitive effects
relative to the current baseline, and the
alternatives FINRA considered in
assessing how best to meet its regulatory
objective.
(a) Regulatory Need
Rule 3240 generally prohibits
registered persons from borrowing from
24 FINRA notes that the proposed rule change
would impact members that have elected to be
treated as capital acquisition brokers (‘‘CABs’’),
given that the CAB Rules incorporate the impacted
FINRA rule by reference.
25 15 U.S.C. 78o–3(b)(6).
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or lending to their customers except
when certain conditions are met, as
specified in Rule 3240 and described
above. Anecdotal evidence from
member firms, law clinics, and previous
enforcement cases—as well as FINRA’s
experience in examining and enforcing
for compliance with Rule 3240—
suggests that there is some ambiguity
about the scope of Rule 3240 and certain
risks to investors due to conflicts of
interest and the superior information
that registered persons have about
potential risks and returns. As discussed
further below, the proposed rule change
would reduce ambiguity and aim to
mitigate these risks.
(b) Economic Baseline
The economic baseline for the
proposed rule change is Rule 3240,
members’ existing internal procedures
regarding borrowing from or lending to
a customer, and the extent of investor
protection and market efficiency that
result. As of the end of 2022, there were
620,882 registered persons and 3,378
registered member firms that would be
covered by the proposed rule change, in
addition to the registered persons’
customers.26
Absent Rule 3240, borrowing or
lending arrangements between
registered persons and their customers
would likely be more widespread and
riskier due to conflicts of interest and
the superior information that registered
persons have about potential risks and
returns. Rule 3240 generally prohibits
these arrangements, and it establishes
processes that may help mitigate the
potential conflicts of interest in those
arrangements that are within the
exceptions. In this regard, registered
persons may not enter into borrowing or
lending arrangements that are within
the rule’s exceptions unless the
registered person’s member firm has
written procedures allowing the
borrowing or lending of money between
such registered persons and their
customers, and unless the registered
person complies with any applicable
notification and approval requirements.
Members may adopt procedures that are
stricter than Rule 3240. However, for
purposes of conducting an economic
analysis, FINRA does not have
comprehensive information readily
available about members’ borrowing or
lending policies or practices.
To understand the potential harm
from impermissible borrowing or
lending arrangements, FINRA reviewed
26 See 2023 FINRA Industry Snapshot, https://
www.finra.org/sites/default/files/2023-04/2023industry-snapshot.pdf. There is no data of the
number of customers of the registered member
firms.
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final FINRA enforcement cases that
involved findings of Rule 3240
violations. Between January 2018 and
December 2021, there were an average
of 15 such enforcement cases per year,
totaling 58 cases over the four-year
period.27 The number of cases year over
year did not display a noticeable trend.
The customer was the borrower in only
one of the cases, and the registered
person was the borrower in the other 57
cases. The amounts of borrowed or lent
money ranged from $1,800 to
$1,350,000, with a mean of $163,509
and a median of $70,000.
Customer harm occurs if a loan from
the customer is not repaid according to
its terms,28 or if the terms of the loan
are substantially worse when compared
to prevailing market terms for loans to
comparable borrowers. In the
enforcement cases in the review period,
the customers were often repaid, though
it is uncertain whether they were repaid
according to the terms of the loan or
how those terms would have compared
to prevailing market terms. FINRA notes
the number of enforcement cases does
not represent all violations of Rule 3240
that may have occurred, and thus, does
not provide a complete picture of the
economic baseline of customer harm.
FINRA also reviewed disclosures on
Forms U4 and U5 of consumer-initiated,
investment-related arbitrations, civil
litigation or customer complaints
(written or oral) that included
allegations related to a registered person
(or former registered person) borrowing
money from or lending money to a
customer. This information
complements the information from the
enforcement cases regarding the
potential harm caused by impermissible
borrowing or lending arrangements,
although the disclosures do not
necessarily indicate whether or how
Rule 3240 was violated. From 2018 to
2021, there was a total of 100 such
disclosures over the four-year period,
which averaged to 23 disclosures per
year. The number of such disclosures
declined from 38 in 2018 to 19 in 2021.
In 28 of the total 100 identified
disclosures, the amount of the
compensatory damages claim was not
27 The number of enforcement cases includes the
FINRA disciplinary actions that resulted in a Letter
of Acceptance, Waiver, and Consent (AWC), an
Order Accepting Settlement (OAS), or a decision
issued by FINRA’s Office of Hearing Officers, and
that resulted in findings that the respondent
violated Rule 3240. The number does not include
matters resulting in Cautionary Action.
28 ‘‘Not repaid according to its terms’’ could
include, but is not limited to, situations in which
a customer is not repaid in full or not repaid at the
interest rate or by the date agreed upon.
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known.29 In the remaining 70
disclosures excluding two outliers,30 the
alleged compensatory damages claims
ranged from $1,800 to $3.7 million, with
a mean of $224,760 and a median of
$94,600. Fifty-three of the 100
disclosures resulted in settlements,
which ranged from $1,800 to $1.3
million. Five of the disclosures resulted
in an arbitration award between $2,000
and $150,000. One disclosure resulted
in a civil judgment of $85,000.
The extent to which data concerning
these consumer-initiated events may
inform an economic baseline has some
limitations. First, some disclosures
allege harm caused by conduct in
addition to borrowing from or lending to
a customer, such as recommending
unsuitable investments, so FINRA is
unable to determine how much of the
alleged harm derives from allegations
related to borrowing or lending. Second,
the alleged compensatory damages
could be a poor proxy for measuring
customer harm because the disclosures
did not specifically mention the
borrowed amounts or have details about
whether the loan was repaid, and
because nearly all alleged compensatory
damages claims were not adjudicated.
Nevertheless, to the extent some of the
disclosures are of settlements, awards or
judgments, those provide a better gauge
of the potential customer harm than
mere allegations of compensatory
damages. Thus, the disclosure data
provides a perspective, in addition to
the enforcement data, on the prevalence
and the scope of borrowing or lending
arrangements between registered
persons and customers.
To supplement the quantitative
analysis above, FINRA also considered
its own experience with examining and
enforcing for compliance with Rule
3240. Specifically, FINRA is concerned
that some registered persons attempt to
circumvent the current rule, using
tactics such as timing a borrowing or
lending arrangement to be entered into
after terminating a broker-customer
relationship, using other nominal
borrowers such as a spouse or business
entity of the registered person, or
claiming a personal relationship that is
not bona fide. For example, FINRA has
detected instances in which the
registered person re-assigned the
29 For example, in one disclosure, a family
member filed the complaint on behalf of a deceased
customer without knowing the exact amount
borrowed.
30 In two disclosures, the alleged compensatory
damages were $20 million and $43 million, both of
which are more than three standard deviations from
the mean. FINRA removed these data points in
calculating the mean and median to avoid biases
caused by outliers.
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customer to another registered person
and then immediately entered into a
borrowing arrangement with the former
customer. These kinds of arrangements
present the same kinds of conflicts of
interest that Rule 3240 is intended to
address, and, as such, also inform the
economic baseline.
(c) Economic Impact
By extending the coverage of the
rule’s general prohibition, narrowing
some exceptions, and clarifying certain
aspects of the rule, the proposed rule
change would result in fewer attempts
by registered persons to enter into
impermissible arrangements. For
example, the expected cost of
attempting to enter into a borrowing or
lending arrangement that is not within
the exceptions would be higher, as the
likelihood of getting caught would
increase when members, registered
persons and customers have better
information about permitted
arrangements. Further, by reducing
ambiguity regarding permissible
borrowing or lending arrangements, a
registered person who currently avoids
a permissible and mutually beneficial
borrowing or lending arrangement may
be more comfortable entering into such
an arrangement because of the proposed
rule change.
The proposed rule change would
prohibit some arrangements that are
allowed under the current rule. For
example, the general prohibition does
not currently extend to arrangements
entered into within six months after a
broker-customer relationship ends;
under the proposed rule change, it
would. Additionally, the proposed rule
change would narrow the personal
relationship exception, prohibiting
some of the arrangements that are
permissible under the current rule.
FINRA recognizes, however, that the
proposed rule change may preclude
arrangements that could be mutually
beneficial to customers and registered
persons and superior to alternative
opportunities for borrowing or lending.
Furthermore, requiring members to
make a reasonable assessment of the
risks and a reasonable determination of
whether to approve the arrangement or
new broker-customer relationship, as
the case may be, may lead some
members to disallow these arrangements
altogether to avoid the cost of making
the required assessments and
determinations.
The long-term net impact of the
proposed rule change on members’
compliance costs is less clear. The
proposed rule change would likely
reduce registered persons’ attempts to
borrow based on the close personal
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3973
relationship exception. Further, with
the proposed modernized definition of
‘‘immediate family,’’ some arrangements
that are currently within the personal
relationship exception would instead be
within the immediate family exception,
of which members could choose not to
require notification or approval. On the
other hand, by clarifying that the rule
covers arrangements that pre-exist the
initiation of a broker-customer
relationship and extending the rule six
months after a broker-customer
relationship is terminated, members
would start receiving notice of the kinds
of arrangements of which they are not
currently receiving notice and would be
required to evaluate whether to approve
the arrangement or a new brokercustomer relationship, as applicable.
Additionally, members may incur
additional costs of supervising and
monitoring due to the extended time
period that the proposed rule change
covers. The extent of net savings or
costs to members for compliance would
depend on the relative prevalence of
such cases and the additional
monitoring costs.
The proposed rule change requiring
members that receive notice of an
arrangement to perform a reasonable
assessment of the risks created by the
arrangement could also raise members’
compliance costs in the long term to the
extent that members are not currently
conducting these assessments. While
the current rule requires members, upon
receiving notice of an arrangement, to
approve the arrangement in writing, the
current rule does not require members
to conduct a reasonable assessment of
the risks of the arrangement prior to
giving approval. Some members may
already have a robust assessment
process while some may have to adjust
their process to comply with the
proposed rule change. As a result, the
compliance cost of the approval process
for members that would have to make
the adjustments could increase.
Members may also incur increased
compliance costs in the short term.
Specifically, members may need to
update their written procedures in light
of the proposed rule change given that
Rule 3240 prohibits all arrangements
unless the member has procedures
permitting them. Members may also
have to re-train their staff to become
aware of the extended prohibitions, the
modernized definition of ‘‘immediate
family,’’ the proposed factors to
consider for arrangements based on
close personal relationships and
business relationships, and the
‘‘reasonable assessment’’ and
‘‘reasonable determination’’
requirements. While the proposed rule
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change would not apply retroactively, as
discussed below, members may elect to
re-evaluate previously approved
arrangements under the proposed rule
change. Additionally, members may
choose to respond to the proposed rule
change by reviewing their current
registered persons’ borrowing or lending
arrangements with their current and
previous customers, to the extent they
have not already done so.
For members that are not already
maintaining written notices and
approvals of borrowing or lending
arrangements that the proposed rule
change would require, there would be
additional operational costs. However,
FINRA expects the incremental costs to
be minimal, as the costs of making and
keeping written records are trivial with
digital technology.
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(d) Alternatives Considered
FINRA considered generally
prohibiting all borrowing or lending
arrangements between registered
persons and customers and eliminating
the existing exceptions. FINRA does not
propose a complete prohibition for
several reasons. As an initial matter,
Rule 3240 already contains a general
prohibition, and the proposed rule
change would strengthen it, by
clarifying that it applies to pre-existing
arrangements, extending the time period
over which the rule would apply,
adopting supplementary material that
addresses conduct by registered persons
regarding arrangements with persons
related to the registered person or to the
customer, and narrowing some
exceptions.
Moreover, as discussed below, FINRA
determined that the enumerated
exceptions in Rule 3240, with the
proposed rule change described above,
are for limited situations where the
likelihood that the registered person and
customer entered into the borrowing or
lending arrangement by virtue of the
broker-customer relationship is reduced,
and the potential risks are outweighed
by the potential benefits of allowing
registered persons to enter into
arrangements with such customers. See
discussion infra section C.
C. Self-Regulatory Organization’s
Statement on Comments on the
Proposed Rule Change Received From
Members, Participants, or Others
The proposed rule change was
published for comment in Notice 21–43.
Six comments were received in
response to Notice 21–43. A copy of
Notice 21–43 appears in Exhibit 2a.
Copies of the comment letters received
in response to Notice 21–43 appear in
Exhibit 2b. Of the six comment letters
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received, three were in favor of the
proposed rule change,31 two were
opposed,32 and one raised issues that
were beyond the scope of Rule 3240.33
The comments and FINRA’s
responses are set forth in detail below.
General Support for the Proposal
Three commenters expressed support
for the proposal in Notice 21–43.34
SIFMA noted that the proposal would
provide greater clarity and guidance to
members in assessing which
arrangements may be permissible under
the exceptions to the prohibition.
PIABA specifically expressed support
for applying Rule 3240 to arrangements
that pre-exist the broker-customer
relationship, extending the definition of
customer to those who had accounts
with a registered person in the previous
six months, and making clear that the
same or very similar conflicts of interest
are present if a registered
representative’s close family member
obtains a loan from a registered
representative’s customer. University of
Pittsburgh expressed support for nearly
every change proposed in Notice 21–
43.35 PIABA, SIFMA and University of
Pittsburgh all supported the proposed
modernization of the ‘‘immediate
family’’ definition.36
General Opposition to the Proposal
NASAA and Malecki did not support
the proposal in Notice 21–43 because
they both would favor an outright
31 See Letter from Michael Edmiston, President,
Public Investors Advocate Bar Association, to
Jennifer Piorko Mitchell, Office of the Corporate
Secretary, FINRA, dated February 14, 2022
(‘‘PIABA’’); letter from Bernard V. Canepa,
Managing Director and Associate General Counsel,
Securities Industry and Financial Markets
Association, to Jennifer Piorko Mitchell, Office of
the Corporate Secretary, FINRA, dated February 14,
2022 (‘‘SIFMA’’); letter from Alice L. Stewart et al.,
Esquire, Director, University of Pittsburgh
Securities Arbitration Clinic and Professor of Law,
to Jennifer Piorko Mitchell, Office of the Corporate
Secretary, FINRA, dated February 14, 2022
(‘‘University of Pittsburgh’’).
32 See Letter from Jenice L. Malecki, Malecki Law,
to Marcia E. Asquith, Executive Vice President,
Board and External Relations, FINRA, dated
February 14, 2022 (‘‘Malecki’’); letter from Melanie
Senter Lubin, President, North American Securities
Administrators Association, Inc., to Jennifer Piorko
Mitchell, Office of the Corporate Secretary, FINRA,
dated February 14, 2022 (‘‘NASAA’’).
33 See Comment submission from Caleb Benore,
dated December 29, 2021 (‘‘Benore’’).
34 See PIABA, SIFMA and University of
Pittsburgh.
35 While generally supporting the proposal,
University of Pittsburgh had comments regarding
the business relationship exception, and PIABA had
comments regarding the definition of ‘‘customer.’’
Those comments are discussed below.
36 NASAA, which generally opposed the
proposal, also expressed support for the
modernization of the definition of ‘‘immediate
family.’’
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prohibition on borrowing from or
lending to customers.37 NASAA stated
that the proposed changes would
continue to subject registered persons to
disparate regulatory requirements. In
particular, NASAA noted that its model
rule concerning Dishonest or Unethical
Business Practices of Broker-Dealers and
Agents, which lists acts and practices
that are considered contrary to high
standards of commercial honor and just
and equitable principles of trade,
prohibits agents from ‘‘[e]ngaging in the
practice of lending or borrowing money
or securities from a customer, or acting
as a custodian for money, securities or
an executed stock power of a
customer.’’ 38
During the retrospective review of
Rule 3240, while some stakeholders also
suggested that all borrowing and
lending arrangements should be
prohibited, others commented that the
rule has appropriate exceptions or that
the rule should have stronger controls
short of a complete prohibition.39 In
evaluating this wide range of views,
FINRA considered, as stated in Notice
21–43, whether the rule should
generally prohibit all borrowing and
lending arrangements between
registered persons and customers with
no exceptions. FINRA decided against
this approach, however, for several
reasons.
First, Rule 3240 already contains a
general prohibition that the proposed
rule change would strengthen by
extending the period over which the
rule would apply, clarifying that the
prohibition applies to pre-existing
arrangements, and narrowing some of
the exceptions. Second, FINRA believes
37 In the alternative, NASAA and Malecki
recommended various changes to Rule 3240, should
it continue to permit any kinds of borrowing or
lending arrangements. Those comments are
discussed below.
38 See Dishonest or Unethical Business Practices
of Broker-Dealers and Agents (adopted May 23,
1983), https://www.nasaa.org/wp-content/uploads/
2011/07/29-Dishonest_Practices_of_BD_or_
Agent.83.pdf. NASAA also commented that its
model rule concerning unethical business practices
of investment advisers includes a similar
prohibition. See NASAA Unethical Business
Practices Of Investment Advisers, Investment
Adviser Representatives, And Federal Covered
Advisers Model Rule 102(a)(4)–1 (2019), available
at https://www.nasaa.org/wp-content/uploads/
2019/05/NASAA-IA-Unethical-Business-PracticesModel-Rule.pdf (providing that an investment
adviser, an investment adviser representative or a
federal covered adviser shall not engage in
unethical business practices, including, among
other things, ‘‘[b]orrowing money or securities from
a client unless the client is a broker-dealer, an
affiliate of the investment adviser, or a financial
institution engaged in the business of loaning
funds’’ or ‘‘[l]oaning money to a client unless the
investment adviser is a financial institution engaged
in the business of loaning funds or the client is an
affiliate of the investment adviser’’).
39 See Notice 21–43.
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that all the exceptions are tailored to
permit arrangements for which the
potential benefits outweigh related
potential risks. The exceptions allow for
narrow situations where the likelihood
that the registered person and customer
entered into the borrowing or lending
arrangement by virtue of the brokercustomer relationship is reduced. Third,
Rule 3240 also contains several
protections that restrict a registered
person’s ability to enter into an
arrangement within the five exceptions
(i.e., that no arrangements within the
exceptions are permitted absent a
member’s procedures allowing the
borrowing or lending of money between
registered persons and customers and
absent the registered person’s
compliance with applicable notice and
approval requirements). These
protections would be further
strengthened through the proposed rule
change to require members, when
receiving written notice of a borrowing
or lending arrangement, to make a
reasonable assessment of the risks
created by a borrowing or lending
arrangement and a reasonable
determination of whether to approve it.
FINRA does not believe that NASAA’s
model rule concerning the unethical
business practices of broker-dealers and
agents warrants changing the general
approach of Rule 3240 as a general
prohibition with narrow exceptions and
associated protections. As explained
above, one of the paragraphs in the
NASAA model rule prohibits brokerdealer agents from engaging in the
practice of borrowing or lending money
or securities from a customer. Although
some states have adopted that paragraph
of the NASAA model rule verbatim,40
some states have laws or regulations
concerning borrowing or lending that
are, in many respects, more similar to
Rule 3240,41 or even incorporate Rule
3240 by reference.42 Moreover, FINRA
has not identified any broker-dealer
laws or regulations concerning
borrowing or lending arrangements in
several states that have high
concentrations of FINRA-registered
40 See, e.g., Georgia (Ga. Comp. R. & Regs. 590–
4–5–.16(2)(b)(1) (2011)); Massachusetts (950 Mass.
Code Regs. 12.204(1)(b)(1) (2020)); Pennsylvania (10
Pa. Code § 305.019(c)(2)(i) (2018)).
41 See, e.g., Connecticut (Conn. Agencies Regs.
§ 36b–31–15b(a)(1) (1995)); Michigan (Mich.
Admin. Code r.451.4.27(3)(a) (2019)); New Jersey
(N.J. Admin. Code § 13:47A–6.3(a)(43) and (44)
(2017)); North Carolina (18 N.C. Admin. Code
6A.1414(c)(1) (1988)).
42 See, e.g., Colorado (Colo. Code Regs. 704–1
§ 51–4.7(H)(2) (2019)); Florida (Fla. Admin. Code
Ann. r.69W–600.013(2)(a) (2021)); Nevada (Nev.
Admin. Code § 90.327(1)(d)(1) and Nev. Admin.
Code § 90.321(1) (2008)).
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broker-dealer firms and branches.43
Considering that Rule 3240 has a
general prohibition on both borrowing
arrangements and lending arrangements,
limited tailored exceptions, and
associated protections, including
written-procedures requirements and
notice-and-approval requirements,
FINRA’s rule—in its current form and as
proposed—is as strong, if not stronger,
than many states’ laws.
In addition, NASAA commented that
all borrowing and lending arrangements
should be prohibited because the
conflicts of interest that such
arrangements create cannot be mitigated
by member firm policies and
procedures. NASAA contended that its
position is consistent with the
Commission’s approach regarding
certain other broker-dealer conflicts of
interest. In this regard, NASAA wrote
that the Commission recognized in the
context of Regulation Best Interest (‘‘Reg
BI’’) that some conflicts are so pervasive
that they cannot reasonably be mitigated
and must be eliminated in their entirety.
NASAA contended that the direct
personal incentives inherent in
borrowing and lending arrangements,
and the desire to collect or the duty to
pay a customer, are of equal if not
greater concern.
FINRA believes that the regulatory
approach used in Rule 3240 is generally
consistent with the approach the
Commission took with Reg BI. Reg BI
establishes a standard of conduct for
broker-dealers and associated persons
when they make a recommendation to a
retail customer of any ‘‘securities
transaction or investment strategy
involving securities.’’ 44 FINRA notes
that Reg BI requires broker-dealers to
address conflicts of interest associated
with recommendations, including
through mitigation, and in certain
circumstances where the Commission
determined that such conflicts cannot
be reasonably mitigated, through
elimination. Rule 3240 is generally
consistent with the spirit of this
regulatory approach. In this regard, Rule
3240 generally prohibits most borrowing
and lending arrangements and, thus,
eliminates the potential conflicts these
arrangements would present. Moreover,
the proposed rule change would
strengthen the general prohibition, by
clarifying that it applies to arrangements
that pre-exist a broker-customer
43 Specifically, FINRA has not identified state
broker-dealer laws or regulations prohibiting
borrowing or lending with customers in New York,
California, Illinois or Texas. See generally 2023
FINRA Industry Snapshot at 22–23, available at
https://www.finra.org/sites/default/files/2023-04/
2023-industry-snapshot.pdf.
44 See 17 CFR 240.15l–1(a)(1).
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3975
relationship, extending it to
arrangements that arise within six
months after a broker-customer
relationship ends, and adding
supplementary material concerning
conduct by registered persons regarding
arrangements with persons related to
the registered person or to the customer.
Furthermore, as discussed, the rule’s
tailored exceptions, which would be
narrowed under the proposed rule
change, are for situations where the
potential benefits of the borrowing or
lending arrangement—including the
benefits of being able to enter into some
arrangements without a notice and
approval process—outweigh related
potential risks. In addition, the rule has
additional protections (i.e., the writtenprocedures requirement and the notice
and approval requirements) that would
be further enhanced by requiring firms
to make a reasonable assessment of the
risks and a reasonable determination of
whether to approve the arrangement.45
In addition, NASAA suggested that
FINRA should clarify that members may
impose more stringent controls up to
and including a total prohibition of
borrowing and lending arrangements.
When FINRA proposed to adopt Rule
3240 as part of the consolidated FINRA
rulebook, it indicated that members can
choose to permit registered persons to
borrow money from or lend money to
their customers consistent with the
requirements of the rule or may be more
restrictive, including prohibiting
borrowing or lending arrangements in
whole or in part.46 In light of NASAA’s
suggestion, if the proposed rule change
is approved, FINRA would reiterate this
guidance in the Regulatory Notice
announcing the approval of the
proposed rule change.
The Immediate Family Exception
NASAA recommended eliminating
the immediate family exception because
elder financial exploitation is often
perpetrated by family members. NASAA
also contended that, if the current rule
framework is maintained, notification
and approval should be required for
arrangements with immediate family
members, particularly where the
customer is a senior or may otherwise
be a vulnerable adult under applicable
45 Moreover, the member’s reasonable assessment
and determination would be informed by guidance
in Notice 21–43 that the member’s reasonable
assessment of the risks may include consideration
of, among other factors, ‘‘any potential conflicts of
interest in the registered person being in a
borrowing or lending arrangement with a
customer.’’
46 See Securities Exchange Act Release No. 61302
(January 6, 2010), 75 FR 1672, 1673 (January 12,
2010) (Notice of Filing of File No. SR–FINRA–
2009–095).
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state law. Malecki also raised concerns
regarding elder financial exploitation
and noted that debt situations can easily
cause serious friction within family and
friends. Malecki commented that the
immediate family exception is too
broad, and that only a narrow exception
for educational debt for children should
be permitted when brokers manage their
own children’s accounts.
Except for proposing to modify the
definition of ‘‘immediate family,’’
FINRA does not propose to amend the
existing immediate family exception or
require notice and approval of
arrangements with immediate family
members. As explained above, the
narrow exceptions to the rule—
including for arrangements with
immediate family members—are for
situations where FINRA believes the
likelihood that the registered person has
borrowed from or lent money to a
customer by virtue of the brokercustomer relationship is reduced, and
the rule contains additional protections
that restrict a registered person’s ability
to enter into an arrangement within the
exceptions.
FINRA believes that Malecki’s
suggestion to limit the immediate family
exception to educational debt for
children would narrow the exception
too much. There are numerous other
examples of beneficial borrowing or
lending arrangements between
immediate family members, including
senior family members.47 Such loans
may cover, for example, medical
expenses, child care or elder care
expenses, emergency home repair costs,
or expenses in the wake of a job loss, or
they may support a family member’s
small business at an interest rate lower
than commercially available.
Furthermore, FINRA continues to
believe, as it did when it previously
eliminated from the predecessor to Rule
3240 notice and approval requirements
for arrangements with immediate family
members, that such requirements may
invade the legitimate privacy interests
of customers and registered persons.48
Thus, FINRA believes the potential risks
are outweighed by the potential benefits
of permitting immediate family
members to privately borrow from and
lend to each other.
FINRA also reiterates that a registered
person is prohibited from entering into
47 FINRA notes that the statements in this section
that apply to senior family members also apply to
other family members who may be vulnerable
adults.
48 See Securities Exchange Act Release No. 49081
(January 14, 2004), 69 FR 3410 (January 23, 2004)
(Notice of Filing of File No. SR–NASD–2004–05)
(explaining, among other things, that such
requirements may invade the legitimate privacy
interests of customers and registered persons).
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a borrowing or lending arrangement
with a customer who is an immediate
family member, including one who is a
senior investor, unless the member
adopts written procedures permitting
such arrangements. As explained above,
members may choose to prohibit all
borrowing and lending arrangements,
allow only some of the exceptions
enumerated in Rule 3240(a)(2), or
impose limitations on the exceptions.
FINRA believes that, by strengthening
the general prohibition and narrowing
its exceptions, the proposed rule change
would further protect all investors,
including senior investors.49
The Personal Relationship and Business
Relationship Exceptions
Several commenters addressed the
personal relationship and business
relationship exceptions. Malecki
commented that these two exceptions
are too broad. Likewise, University of
Pittsburgh requested that Rule 3240
limit the business relationship
exception to the financial industry and
noted that a registered person getting
regular haircuts from a hairstylist
should not fit within the business
relationship exception. University of
Pittsburgh also requested that FINRA
provide examples of qualifying business
relationships and more information
about whether a business relationship
qualifies for the exception. On this last
point, University of Pittsburgh
suggested that useful factors may
include (1) the financial risks for the
parties; (2) the industry involved; and
(3) any other factor that may help
determine the trust established between
the parties and the comparative risks of
their past business practices and their
potential borrower-lender agreements.
FINRA shares some of these concerns
and accordingly has proposed to narrow
the personal relationship exception and
to provide factors that are relevant to
assessing whether a relationship falls
within the scope of either exception.
Beyond what FINRA proposed in Notice
49 FINRA has maintained a longstanding
commitment to protecting senior investors and
continues to work to address risks facing this
investor population as part of its regulatory
mission, including by adopting rules that are
intended to address risks related to possible
financial exploitation of senior investors. See, e.g.,
FINRA, Protecting Senior Investors 2015–2020
(April 30, 2020); Regulatory Notice 20–34; Rule
2165 (Financial Exploitation of Specified Adults);
Rule 4512.06 (Trusted Contact Person). FINRA
further notes that Rule 2010 (Standards of
Commercial Honor and Principles of Trade)—which
provides that a member, in the conduct of its
business, shall observe high standards of
commercial honor and just and equitable principles
of trade—protects investors from unethical behavior
and is broad enough to cover a wide range of
unethical conduct.
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21–43—and in response to the
comments—FINRA proposes additional
amendments to expressly provide that
the personal and business relationships
must be ‘‘bona fide’’ 50 and provide that
an illustrative example of a ‘‘business
relationship’’ is a loan from a registered
person to a small outside business that
the registered person co-owned for years
for the sole purpose of providing the
business with additional operating
capital.51
FINRA does not believe, however,
that additional changes to the personal
and business relationship exceptions are
warranted. The personal relationship
exception, as proposed to be amended,
would not permit ‘‘virtually anyone’’ to
enter into a borrowing or lending
arrangement.52 Rather, the proposed
rule change would narrow the personal
relationship exception significantly, to
apply only to personal relationships that
are ‘‘bona fide’’ and ‘‘close,’’ and
maintained outside of, and formed prior
to, the broker-customer relationship.
This narrower definition would reduce
the risk that a registered person would
concoct a personal relationship with a
customer for the purpose of entering
into a borrowing or lending arrangement
with that customer, and it would
address concerns expressed during the
retrospective rule review that the
exception can be exploited.
Likewise, FINRA believes that the
business relationship exception, as
proposed to be amended, is
appropriately tailored. Rule 3240
currently requires that the qualifying
business relationships be ‘‘outside of the
broker-customer relationship.’’ This
language serves to separate the business
relationship from the broker-customer
relationship, and thus mitigate the
potential conflict of interest. The
proposed rule change would further
narrow this exception by requiring that
the business relationship be ‘‘bona
fide.’’ FINRA does not believe that the
‘‘business relationship’’ exception
should be further limited to only the
financial industry. There is no
indication that the risks related to
arrangements based on a bona fide
business relationship turn on the
industry or sector involved.
With respect to University of
Pittsburgh’s suggested factors, FINRA
notes that the proposed rule change
would require members, when receiving
written notice under Rule 3240, to
50 See
proposed Rule 3240(a)(2)(D) and (E).
proposed Rule 3240.04. FINRA agrees that
a loan from a customer from whom the registered
person purchases non-commercial consumer goods
or services, such as hair styling services, would not
fit within the business relationship exception.
52 See Malecki.
51 See
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perform a reasonable assessment of the
risks created and make a reasonable
determination of whether to approve the
arrangement or broker-customer
arrangement, as the case may be. As
explained above, a member’s reasonable
assessment and determination would be
informed by the guidance already
provided in Notice 21–43, which
includes a non-exhaustive list of factors
to consider when evaluating whether to
approve a borrowing or lending
arrangement. For example, these factors
include, among others, any potential
conflicts of interest, the length and type
of relationship, the material terms of the
arrangement, and the customer’s or
registered person’s ability to repay the
loan. These factors are broad enough to
cover many of the kinds of specific
considerations suggested by University
of Pittsburgh, including its suggestion
that members consider the industry that
the loan involves.
Definition of ‘‘Customer’’
Under the proposed rule change, the
rule’s prohibition would extend to
arrangements with any customer who,
within the previous six months, had a
securities account assigned to the
registered person at any member firm.53
NASAA suggests that the period of time
used in proposed Rule 3240.02 should
be one year, instead of six months,
because Rule 4111 (Restricted Firm
Obligations) uses a one-year lookback
period.54
The Rule 4111 lookback periods
(including, among others, the one-year
lookback period that pertains to
‘‘Registered Persons In-Scope’’ 55)
impact how Rule 4111 identifies firms
with a significant history of misconduct.
FINRA, however, has proposed a sixmonth period of time to align proposed
Rule 3240.02 with the six-month period
in the definition of ‘‘customer’’ in Rule
3241, because Rule 3241 addresses
similar potential conflicts of interest as
Rule 3240.56 Moreover, FINRA believes
53 See
proposed Rule 3240.02.
also suggests that the period of time
used in proposed Rule 3240.02 should be one year
or more, instead of six months, and cites the time
it could take to ‘‘unwind some position a registered
representative might recommend.’’ It is unclear,
however, what kinds of positions this comment
pertains to or what would need to be unwound.
55 See Rule 4111(i)(13).
56 Like Rule 3240, Rule 3241 addresses situations
that may create potential conflicts of interest
between registered persons and their customers.
Specifically, Rule 3241 addresses the potential
conflicts that registered persons may face when
they are named a customer’s beneficiary, executor
or trustee, or hold a power of attorney or similar
position for or on behalf of a customer. It limits any
registered person from being named a beneficiary,
executor or trustee, or to have a power of attorney
or similar position of trust for or on behalf of a
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the six-month lookback period in
proposed Rule 3240.02 strikes an
appropriate balance between achieving
the regulatory objective of addressing
circumvention of the proposed rule
change and imposing requirements that
are reasonable and appropriate,
including reasonable requirements on
members in tracking transfers of
customers’ accounts.57
Supervision and Customer-Disclosure
Requirements
NASAA suggested that members
should be required to incorporate
specific supervisory procedures for
assessing, and after approving, a
borrowing or lending arrangement.
Specifically, NASAA commented that
the member should be required to
document (1) the steps it undertook to
assess the risk prior to approving the
arrangement; (2) the steps it will take to
minimize the conflict of interest; (3)
how it communicated to the customer
the risk created by the lending
arrangement or repayment terms so that
the customer appreciates the risk; and
(4) an outline of the supervisory
measures that it will take. Regarding the
member’s assessment of a borrowing or
lending arrangement, NASAA
contended that the rule should require
members to evaluate borrowing and
lending arrangements, and that the
member’s assessment should include an
customer, and protects investors by requiring
members to affirmatively address registered persons
being named beneficiaries or holding positions of
trusts for customers. See Regulatory Notice 20–38
(Oct. 29, 2020).
57 Prior to the adoption of Rule 3241, many
members ‘‘prohibit[ed] or impos[ed] limitations on
being named as a beneficiary or to a position of
trust when there is not a familial relationship,’’ but
FINRA ‘‘observed situations where registered
representatives tried to circumvent firm policies,
such as resigning as a customer’s registered
representative [and] transferring the customer to
another registered representative.’’ See Regulatory
Notice 20–38. ‘‘To address attempted
circumvention of the restrictions (e.g., by closing or
transferring a customer’s account),’’ FINRA defined
‘‘customer’’ in Rule 3241 to include ‘‘any customer
that has, or in the previous six months had, a
securities account assigned to the registered person
at any member firm.’’ Id.; Rule 3241.01. When
proposing Rule 3241, FINRA explained that the
inclusion of the six-month look-back period ‘‘is
important in addressing potential conflicts of
interest and circumvention of the proposed rule
change.’’ See Securities Exchange Act Release No.
89218 (July 2, 2020), 85 FR 41249, 41256 (July 9,
2020) (Notice of Filing of File No. SR–FINRA–
2020–20). FINRA further explained, in response to
a comment suggesting that the proposed definition
of ‘‘customer’’ include a 12-month lookback
provision, that it ‘‘believes the six-month period
strikes an appropriate balance between achieving
the regulatory objective of addressing
circumvention of the proposed rule change by
transferring the customer account to another
representative and imposing reasonable
requirements on member firms in tracking account
transfers.’’ Id.
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3977
interview (preferably by a compliance
officer) with the customer outside of the
presence of the registered person or,
where that is not possible, other
verification that the customer benefits
from and entered into the arrangement
on his or her own volition and without
pressure. Regarding supervision after
approving an arrangement, NASAA
commented that members should
closely monitor the account of a
customer who is a party to a borrowing
or lending arrangement and impose
formal conditions, apply heightened
scrutiny to these accounts on an
ongoing, annual review basis, place the
registered person on heightened
supervision, and conduct additional
reviews on trades and transactions to
ensure that recommendations are
suitable. Similarly, Malecki commented
that all loans except for educational
debt for children should be supervised,
and that ‘‘supervision of loans’’ should
be aligned with FINRA rules regarding
outside business activities and private
securities transactions.58
The fundamental approach of
FINRA’s supervision rule is to require
members to establish and maintain a
system to supervise the activities of
each associated person that is
‘‘reasonably designed’’ to achieve
compliance with applicable securities
laws and regulations, and with
applicable FINRA rules.59 Likewise, the
written supervisory procedures required
by FINRA’s supervision rule must be
‘‘reasonably designed’’ to achieve
compliance with applicable securities
laws and regulations, and with
applicable FINRA rules.60 In guidance,
FINRA has previously explained that
written supervisory procedures should
include a description of the controls and
procedures used by members to deter
and detect misconduct and improper
activity.61 Additionally, at a minimum,
written supervisory procedures should
include and describe (1) the specific
identification of the individual(s)
responsible for supervision; (2) the
supervisory steps and reviews to be
taken by the appropriate supervisor; (3)
the frequency of such reviews; and (4)
how such reviews shall be
documented.62 FINRA does not believe
58 See Rules 3270 (Outside Business Activities of
Registered Persons) and 3280 (Private Securities
Transactions of an Associated Person).
59 See Rule 3110(a); see also NASD Notice to
Members 99–45 (June 1999).
60 See Rule 3110(a)(1) and (b)(1).
61 See NASD Notice to Members 98–96 (December
1998); see also NASD Notice to Members 99–45,
supra note 59.
62 See NASD Notice to Members 98–96, supra
note 61; see also NASD Notice to Members 99–45,
supra note 59.
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it is necessary or appropriate to further
prescribe specific supervisory
procedures that members should use
when supervising for compliance with
Rule 3240.
In response to the comments,
however, FINRA is proposing stronger
controls for when a member considers
whether to approve a borrowing or
lending arrangement or, where there is
a pre-existing borrowing or lending
arrangement, a new broker-customer
relationship—specifically, the proposed
requirement that a member, upon
receiving written notice under Rule
3240, perform a ‘‘reasonable
assessment’’ of the risks and a
‘‘reasonable determination’’ of whether
to approve the arrangement or new
broker-customer relationship, as the
case may be.63 As explained above,
FINRA intends that a member’s
reasonable assessment and reasonable
determination would be informed by the
guidance that FINRA provided in Notice
21–43 concerning the factors members
may consider when assessing whether
to approve a borrowing or lending
arrangement. FINRA believes this
guidance would help members, when
performing the reasonable assessments
and determinations required under the
proposed rule change, evaluate the key
risks and conflicts and afford
appropriate flexibility in evaluating
which factors may apply to a particular
situation.64
In a related comment, NASAA
suggested that FINRA should require
registered persons, at a minimum, to
disclose to customers the factors listed
in the guidance provided in Notice 21–
43. Although NASAA refers to those
factors as ‘‘the Proposal’s recommended
disclosures,’’ the factors in Notice 21–43
are intended to help guide a member’s
assessment of whether to approve a
loan; they were not designed or
intended to be the basis of customer
disclosures about a loan. Nevertheless,
FINRA notes that that guidance states
that FINRA expects a member, if
possible and as part of the member’s
63 See
proposed Rule 3240.06.
respect to Malecki’s comment that
‘‘supervision of loans’’ should be aligned with
FINRA rules regarding outside business activities
and private securities transactions, FINRA notes
that Rule 3270 does not require members to
‘‘supervise’’ outside business activities. However, if
a loan constitutes a private securities transaction,
then Rule 3280—and any applicable supervisory
obligations—would apply. See Rule 3280(c)(2)
(discussing supervisory requirements involving
private securities transactions for compensation);
3280(d) (discussing private securities transactions
not for compensation, where a member may ‘‘at its
discretion’’ require the person to adhere to specified
conditions); 3280(e)(1) (defining ‘‘private securities
transaction’’ and several exclusions to that
definition).
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evaluation of whether to approve a
borrowing or lending arrangement, to
try to discuss the arrangement with the
customer.
Retroactivity
NASAA commented that applying the
proposed rule change retroactively
could provide benefits to investors and
recommended retroactive disclosure of
pre-existing borrowing and lending
arrangements.65 FINRA seeks, however,
to avoid creating situations that would
require registered persons and
customers to terminate borrowing or
lending arrangements or brokercustomer relationships that, when
entered into, were permissible under the
current version of Rule 3240. In general,
the proposed rule change would not
apply retroactively to borrowing or
lending arrangements that were entered
into prior to the effective date of the
proposed rule change and were
permissible under the current version of
Rule 3240.66 Rather, the proposed rule
change would apply only to (1) new
arrangements and new broker-customer
relationships that occur after the
effective date of the proposed rule
change; and (2) modifications that occur
after the effective date of the proposed
rule change of borrowing or lending
arrangements that were entered into
before the effective date.67 Although
FINRA is not proposing to require
members to re-evaluate previously
approved arrangements, members
would have the discretion to do so.68
65 FINRA
assumes that NASAA’s comment about
‘‘pre-existing’’ arrangements concerns arrangements
that were entered into before the effective date of
the proposed rule change.
66 For example, the proposed rule change to
narrow the personal relationship exception would
not apply retroactively to a borrowing or lending
arrangement that was entered into prior to the
effective date of the proposed rule change and that
was permissible under the current personal
relationship exception.
67 FINRA reiterates, however, that the current
rule’s general prohibition against borrowing and
lending arrangements between registered persons
and customers already applies to arrangements that
pre-existed the formation of the broker-customer
relationship, and that the proposed rule change
would clarify that scope.
68 FINRA also notes that FINRA’s supervision rule
would require a member to follow-up on ‘‘red flags’’
indicating problematic activity related to borrowing
or lending arrangements between registered persons
and their customers, including arrangements that
were entered into prior to the effective date of the
proposed amendments. See Securities Exchange Act
Release No. 89218 (July 2, 2020), 85 FR 41249,
41251 (July 9, 2020) (Notice of Filing of File No.
SR–FINRA–2020–20) (explaining that Rule 3110
(Supervision) includes the ‘‘longstanding obligation
to follow-up on ‘red flags’ indicating problematic
activity’’).
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Harmonization of Regulatory
Approaches to Financial Professionals’
Borrowing and Lending Arrangements
In Notice 21–43, FINRA described
some similarities and differences
between Rule 3240 and the federal and
state regulatory approaches for
investment advisers and their
supervised persons. FINRA sought to
encourage and inform a broader
dialogue about whether the similar risks
presented when any financial
professional borrows from or lends
money to customers warrants a more
uniform approach to regulating this
activity. SIFMA commented that it
welcomes a discussion on harmonizing
the regulatory approaches, where
appropriate.
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 (https://www.sec.gov/
rules/sro.shtml); or
• Send an email to rule-comments@
sec.gov. Please include file number SR–
FINRA–2024–001 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–2024–001. 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
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post all comments on the Commission’s
internet website (https://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 website 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
a.m. and 3 p.m. Copies of such filing
also will be available for inspection and
copying at the principal office of
FINRA. Do not include personal
identifiable information in submissions;
you should submit only information
that you wish to make available
publicly. We may redact in part or
withhold entirely from publication
submitted material that is obscene or
subject to copyright protection.
All submissions should refer to file
number SR–FINRA–2024–001 and
should be submitted on or before
February 12, 2024.
For the Commission, by the Division of
Trading and Markets, pursuant to delegated
authority.69
Sherry R. Haywood,
Assistant Secretary.
[FR Doc. 2024–01068 Filed 1–19–24; 8:45 am]
BILLING CODE 8011–01–P
SECURITIES AND EXCHANGE
COMMISSION
[SEC File No. 270–182, OMB Control No.
3235–0237]
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Submission for OMB Review;
Comment Request; Extension: Form
N–54A
Upon Written Request, Copies Available
From: Securities and Exchange
Commission, Office of FOIA Services,
100 F Street NE, Washington, DC
20549–2736
Notice is hereby given that, pursuant
to the Paperwork Reduction Act of 1995
(44 U.S.C. 3501 et seq.), the Securities
and Exchange Commission
(‘‘Commission’’) has submitted to the
Office of Management and Budget a
request for extension of the previously
approved collection of information
discussed below.
69 17
CFR 200.30–3(a)(12).
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Under the Investment Company Act
of 1940 (15 U.S.C. 80a–1 et seq.) (the
‘‘Investment Company Act’’), certain
investment companies can elect to be
regulated as business development
companies, as defined in Section
2(a)(48) of the Investment Company Act
(15 U.S.C. 80a–2(a)(48)). Under Section
54(a) of the Investment Company Act
(15 U.S.C. 80a–53(a)), any company
defined in Section 2(a)(48)(A) and (B)
may elect to be subject to the provisions
of Sections 55 through 65 of the
Investment Company Act (15 U.S.C.
80a–54 to 80a–64) by filing with the
Commission a notification of election, if
such company has: (1) a class of equity
securities registered under Section 12 of
the Securities Exchange Act of 1934 (15
U.S.C. 78a et seq.) (‘‘Exchange Act’’); or
(2) filed a registration statement
pursuant to Section 12 of the Exchange
Act for a class of its equity securities.
The Commission adopted Form N–54A
(17 CFR 274.53) as the form for
notification of election to be regulated
as a business development company.
The purpose of Form N–54A is to
notify the Commission that the
investment company making the
notification elects to be subject to
Sections 55 through 65 of the
Investment Company Act, enabling the
Commission to administer those
provisions of the Investment Company
Act to such companies.
The Commission estimates that on
average approximately 21 business
development companies file these
notifications each year. Each of those
business development companies need
only make a single filing of Form N–
54A. The Commission further estimates
that this information collection imposes
a burden of 0.5 hours, resulting in a
total annual PRA burden of 10.5 hours.
Based on the estimated wage rate, the
total cost to the business development
company industry of the hour burden
for complying with Form N–54A would
be approximately $4,462.50.
The collection of information under
Form N–54A is mandatory. The
information provided by the form is not
kept confidential. An agency may not
conduct or sponsor, and a person is not
required to respond to, a collection of
information unless it displays a
currently valid control number.
The public may view background
documentation for this information
collection at the following website:
www.reginfo.gov. Find this particular
information collection by selecting
‘‘Currently under 30-day Review—Open
for Public Comments’’ or by using the
search function. Written comments and
recommendations for the proposed
information collection should be sent
PO 00000
Frm 00075
Fmt 4703
Sfmt 4703
3979
within 30 days of publication of this
notice by February 21, 2024 to (i)
MBX.OMB.OIRA.SEC_desk_officer@
omb.eop.gov and (ii) David Bottom,
Director/Chief Information Officer,
Securities and Exchange Commission,
c/o John Pezzullo, 100 F Street NE,
Washington, DC 20549, or by sending an
email to: PRA_Mailbox@sec.gov.
Dated: January 17, 2024.
Sherry R. Haywood,
Assistant Secretary.
[FR Doc. 2024–01099 Filed 1–19–24; 8:45 am]
BILLING CODE 8011–01–P
SMALL BUSINESS ADMINISTRATION
Data Collection Available for Public
Comments
60-Day notice and request for
comments.
ACTION:
The Small Business
Administration (SBA) intends to request
approval, from the Office of
Management and Budget (OMB) for the
collection of information described
below. The Paperwork Reduction Act
(PRA) requires Federal agencies to
publish a notice in the Federal Register
concerning each proposed collection of
information before submission to OMB,
and to allow 60 days for public
comment in response to the notice. This
notice complies with that requirement.
DATES: Submit comments on or before
March 22, 2024.
ADDRESSES: Send all comments by email
to Tamara Jennings, Sr. Loan Specialist,
Office of Financial Assistance, Small
Business Administration at
tamara.jennings@sba.gov.
FOR FURTHER INFORMATION CONTACT:
Tamara Jennings, Sr. Loan Specialist,
(202) 205–6674, tamara.jennings@
sba.gov or Curtis B. Rich, Agency
Clearance Officer, (202) 205–7030,
curtis.rich@sba.gov.
SUPPLEMENTARY INFORMATION: For SBA
financial assistance programs, SBA
Form 413 Personal Financial Statement
(PFS) collects information regarding the
assets and liabilities of certain owners,
officers and guarantors of the small
business applicant benefiting from such
assistance and is used when analyzing
the applicant’s repayment abilities or
creditworthiness. SBA’s Surety Bond
Guaranty Program uses the Form 413
PFS information during the claim
recovery process. The information is
also collected from applicants and
participants in SBA’s 8(a) Business
Development (BD) and Women-Owned
Small Business (WOSB) Program
certification process to determine
SUMMARY:
E:\FR\FM\22JAN1.SGM
22JAN1
]]>Agencies
[Federal Register Volume 89, Number 14 (Monday, January 22, 2024)]
[Notices]
[Pages 3968-3979]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2024-01068]
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SECURITIES AND EXCHANGE COMMISSION
[Release No. 34-99351; File No. SR-FINRA-2024-001]
Self-Regulatory Organizations; Financial Industry Regulatory
Authority, Inc.; Notice of Filing of a Proposed Rule Change To Amend
FINRA Rule 3240 (Borrowing From or Lending to Customers)
January 16, 2024.
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 January 2, 2024, the 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.
---------------------------------------------------------------------------
\1\ 15 U.S.C. 78s(b)(1).
\2\ 17 CFR 240.19b-4.
---------------------------------------------------------------------------
I. Self-Regulatory Organization's Statement of the Terms of Substance
of the Proposed Rule Change
FINRA is proposing to amend Rule 3240 (Borrowing From or Lending to
Customers) to strengthen the general prohibition against borrowing and
lending arrangements, narrow some of the existing exceptions to that
general prohibition, modernize the immediate family exception, and
enhance the requirements for giving notice to members and obtaining
members' approval of such arrangements.
The text of the proposed rule change is available on FINRA's
website at https://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
Statutory Basis for, the Proposed Rule Change
1. Purpose
Background
Rule 3240 generally prohibits, with exceptions, registered persons
from borrowing money from or lending money to their customers. The rule
has five tailored exceptions, available only when the registered
person's member firm has written procedures allowing the borrowing and
lending of money between such registered persons and customers of the
member, the borrowing or lending arrangements meet the conditions in
one of the exceptions \3\ and, when required, the registered person
notifies the member of a borrowing or lending arrangement, prior to
entering into such arrangement, and
[[Page 3969]]
obtains the member's pre-approval in writing. The exceptions are for
limited situations where the likelihood that the registered person and
customer entered into the borrowing or lending arrangement by virtue of
the broker-customer relationship is reduced, and the potential risks
are outweighed by the potential benefits of allowing registered persons
to enter into arrangements with such customers.
---------------------------------------------------------------------------
\3\ See Rule 3240(a)(2)(A) (the ``immediate family exception'');
Rule 3240(a)(2)(B) (the ``financial institution exception''); Rule
3240(a)(2)(C) (the ``registered persons exception''); Rule
3240(a)(2)(D) (the ``personal relationship exception''); Rule
3240(a)(2)(E) (the ``business relationship exception'').
---------------------------------------------------------------------------
Rule 3240 was last amended in 2010, when it became part of the
consolidated FINRA rulebook.\4\ In August 2019, FINRA launched a
retrospective review of Rule 3240, as part of a larger retrospective
review of FINRA's rules and administrative processes that help protect
senior investors from financial exploitation.\5\ In December 2021,
FINRA published Regulatory Notice 21-43 (``Notice 21-43''), which (1)
summarized the predominant themes that emerged during the retrospective
review of Rule 3240; (2) issued guidance concerning approvals of
permissible borrowing or lending arrangements; and (3) based on
feedback received during the retrospective rule review, sought comment
on proposed amendments to Rule 3240.\6\
---------------------------------------------------------------------------
\4\ See Regulatory Notice 10-21 (April 2010).
\5\ See Regulatory Notice 19-27 (August 2019). In October 2020,
FINRA published a report that summarized other aspects of that
retrospective rule review. See Regulatory Notice 20-34 (October
2020).
\6\ In Notice 21-43, FINRA also discussed some similarities and
differences between Rule 3240 and the federal and state regulatory
approaches for investment advisers and their supervised persons, and
encouraged a broader dialogue about whether a more uniform
regulatory approach would enhance investor protection.
---------------------------------------------------------------------------
Proposed Rule Change
FINRA is proposing to amend Rule 3240 to strengthen the general
prohibition against borrowing and lending arrangements, narrow some of
the existing exceptions to that general prohibition, modernize the
immediate family exception, and enhance the requirements for giving
notice to members and obtaining members' approval of such
arrangements.\7\
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\7\ Where appropriate in context, FINRA refers herein to
``borrowing and lending'' rather than ``borrowing or lending.'' No
references to ``borrowing and lending,'' however, should be
interpreted to mean that Rule 3240 only applies to arrangements that
have both a borrowing component and a separate lending component.
Rule 3240 generally prohibits registered persons from borrowing
money from or lending money to a customer.
---------------------------------------------------------------------------
The General Prohibition on Borrowing From or Lending to Customers
Rule 3240 generally prohibits registered persons from borrowing
from or lending to their customers. To make this regulatory purpose
more prominent, the proposed rule change would amend the rule's title
from ``Borrowing From or Lending to Customers'' to ``Prohibition on
Borrowing From or Lending to Customers,'' and change the title of Rule
3240(a) from ``Permissible Lending Arrangements; Conditions'' to
``General Prohibition; Permissible Borrowing or Lending Arrangements;
Conditions.'' These changes would emphasize that the rule is, first and
foremost, a general prohibition.
In addition, the proposed rule change would strengthen this general
prohibition in three ways. First, Rule 3240(a) would be amended to
clarify that the rule's general requirements concerning borrowing and
lending arrangements--including the general prohibition--apply to
arrangements that pre-exist a new broker-customer relationship.
Currently, Rule 3240(a) begins, ``[n]o person associated with a member
in any registered capacity may borrow money from or lend money to any
customer of such person . . . .'' FINRA is proposing to amend this
introductory clause in Rule 3240(a) to also prohibit registered persons
from initiating a broker-customer relationship with a person with whom
the registered person has an existing borrowing or lending arrangement.
Second, FINRA is proposing to add Rule 3240.02 (Customer). Proposed
Rule 3240.02 would define ``customer'' to include, for purposes of Rule
3240, any customer that has, or in the previous six months had, a
securities account assigned to the registered person at any member.
This would extend the rule's limitations to borrowing or lending
arrangements entered into within six months after a broker-customer
relationship terminates. This proposed definition would align with the
definition of ``customer'' in FINRA Rule 3241 (Registered Person Being
Named a Customer's Beneficiary or Holding a Position of Trust for a
Customer), a rule that addresses similar types of conflicts.\8\
---------------------------------------------------------------------------
\8\ See Rule 3241.01 (Customer).
---------------------------------------------------------------------------
Third, FINRA is proposing to add Rule 3240.05 (Arrangements with
Persons Related to Either the Registered Person or the Customer).
Proposed Rule 3240.05 would extend the rule's requirements to borrowing
or lending arrangements that involve similar conflicts as ones
presented by arrangements directly between registered persons and their
customers. Specifically, proposed Rule 3240.05 would provide that ``[a]
registered person instructing or asking a customer to enter into a
borrowing or lending arrangement with a person related to the
registered person (e.g., the registered person's immediate family
member or outside business) or to have a person related to the customer
(e.g., the customer's immediate family member or business) enter into a
borrowing or lending arrangement with the registered person would
present similar conflict of interest concerns as borrowing or lending
arrangements between the registered person and the customer and would
not be consistent with this Rule [3240] unless the conditions set forth
in [Rule 3240(a)(1), (2), and (3)] are satisfied.'' \9\ This would
address the potential for customer abuse that arises when a registered
person induces a customer to enter into a borrowing or lending
arrangement with a person or entity related to the registered person
or, likewise, induces a customer to have a person or entity related to
the customer enter into an arrangement with the registered person.\10\
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\9\ The conditions in Rule 3240(a)(1), (2) and (3) are that the
member has written procedures allowing the borrowing or lending of
money between registered persons and customers; the borrowing or
lending arrangement meets one of the conditions; and the
notification and approval requirements are satisfied.
\10\ Proposed Rule 3240.05 is based, in part, on feedback
received during the retrospective review that some registered
persons attempt to circumvent Rule 3240 by structuring arrangements
with persons related to the registered person or the customer.
---------------------------------------------------------------------------
In addition, FINRA is proposing to add Rule 3240.03 (Owner-
Financing Arrangements) to expressly state that, for purposes of Rule
3240, borrowing or lending arrangements include owner-financing
arrangements. For example, Rule 3240 would apply to situations where a
registered person purchases real estate from his customer, the customer
agrees to finance the purchase, and the registered person provides a
promissory note for the entire purchase price or arranges to pay in
installments.\11\
---------------------------------------------------------------------------
\11\ See, e.g., James K. Breeze, Letter of Acknowledgment,
Waiver and Consent, Case ID 2008012846501 (June 30, 2009); Vincenzo
G. Covino, Letter of Acknowledgment, Waiver and Consent, Case ID
2009020793901 (Feb. 9, 2012).
---------------------------------------------------------------------------
The ``Immediate Family'' Definition
One of the few exceptions to Rule 3240's general prohibition is for
borrowing or lending arrangements with a customer who is a member of
the registered person's immediate family.\12\ Currently, Rule 3240(c)
defines ``immediate family'' to mean ``parents, grandparents, mother-
in-law or father-in-law, husband or wife, brother or sister, brother-
in-law or sister-in-law, son-in-law or daughter-in-law, children,
grandchildren, cousin, aunt or uncle, or niece or nephew, and any other
person
[[Page 3970]]
whom the registered person supports, directly or indirectly, to a
material extent.''
---------------------------------------------------------------------------
\12\ See Rule 3240(a)(2)(A).
---------------------------------------------------------------------------
During the retrospective review of Rule 3240, FINRA received
feedback that the definition of ``immediate family'' should be
modernized. The proposed rule change would modernize the ``immediate
family'' definition to match the definition of the same term in Rule
3241, which also has exceptions for situations in which the customer is
a member of the registered person's immediate family.\13\ Specifically,
the proposed rule change to Rule 3240(c) would replace ``husband or
wife'' with ``spouse or domestic partner'' and amend the definition so
that it ``includes step and adoptive relationships.'' In addition, the
``any other person'' clause would be revised to be limited to ``any
other person who resides in the same household as the registered person
and the registered person financially supports, directly or indirectly,
to a material extent.''
---------------------------------------------------------------------------
\13\ See Rule 3241(a)(1)(A) and (a)(2)(A) and (c).
---------------------------------------------------------------------------
The Personal Relationship and Business Relationship Exceptions
Currently, two exceptions to the rule's general prohibition are for
arrangements based on (1) a ``personal relationship with the customer,
such that the loan would not have been solicited, offered, or given had
the customer and the registered person not maintained a relationship
outside of the broker-customer relationship''; and (2) a ``business
relationship outside of the broker-customer relationship.'' \14\ Due to
concerns expressed during the retrospective review of Rule 3240 that
the personal relationship exception may be exploited--and to make more
clear what kinds of personal relationships would be within the
exception--FINRA proposes to narrow the personal relationship exception
to arrangements that are based on a ``bona fide, close personal
relationship between the registered person and the customer maintained
outside of, and formed prior to, the broker-customer relationship.''
\15\ This language would replace the requirement that ``the loan would
not have been solicited, offered, or given had the customer and the
registered person not maintained a relationship outside of the broker-
customer relationship'' to narrow the scope of the exception and
clarify the types of relationships that would be within the exception.
For similar reasons, FINRA proposes to amend the business relationship
exception to be limited to arrangements that are based on a ``bona fide
business relationship outside of the broker-customer relationship.''
\16\
---------------------------------------------------------------------------
\14\ See Rule 3240(a)(2)(D) and (E). Although Rule 3240(a)(2)(D)
and (E) refer to ``the lending arrangement,'' and do not explicitly
mention a ``borrowing arrangement,'' these exceptions are not
intended to exclude borrowing arrangements. FINRA therefore proposes
a technical amendment to make clear that those exceptions apply to
``borrowing or lending'' arrangements based on a personal
relationship or a business relationship.
\15\ Where appropriate in context, FINRA refers herein to
proposed Rule 3240(a)(2)(D) as the ``close personal relationship
exception.'' See also supra note 3 (defining current Rule
3240(a)(2)(D) as the ``personal relationship exception'').
\16\ The term ``bona fide'' in the close personal relationship
and business relationship exceptions was not included in the
proposal in Notice 21-43. FINRA proposes to add the term ``bona
fide'' to emphasize that for either of these exceptions to apply,
the close personal relationship or business relationship must be
legitimate. Adding the term ``bona fide'' would also align with
language in proposed Rule 3240.04, discussed below.
---------------------------------------------------------------------------
In addition to narrowing the personal relationship and business
relationship exceptions, FINRA is proposing to add Rule 3240.04 (Close
Personal Relationships; Business Relationships), which would provide
factors for evaluating whether a borrowing or lending arrangement is
based on a close personal relationship or a business relationship. The
proposed factors would include, but would not be limited to, when the
relationship began, its duration and nature, and any facts suggesting
that the relationship is not bona fide or was formed with the purpose
of circumventing the purpose of Rule 3240. Proposed Rule 3240.04 is
intended to help establish the scope of the close personal relationship
and business relationship exceptions, focus on the most relevant
factors when evaluating whether a close personal relationship or
business relationship exists, and ensure that members consider
meaningfully the potential issues involved in the proposed arrangement.
To provide even more guidance about the scope of the close personal
relationship and business relationship exceptions, proposed Rule
3240.04 would also provide illustrative examples of these
relationships. Specifically, it would provide that examples of
relationships that are close personal relationships include, but are
not limited to, a childhood or long-term friend, a godparent, and other
similarly close relationships. Additionally, proposed Rule 3240.04
would provide that an example of a business relationship includes, but
is not limited to, a loan from a registered person to a small outside
business that the registered person co-owned for years for the sole
purpose of providing the business with additional operating
capital.\17\
---------------------------------------------------------------------------
\17\ The proposal in Notice 21-43 did not include an
illustrative example of a business relationship in proposed Rule
3240.04. It has been added in response to comments to Notice 21-43
requesting examples of relationships within that exception.
---------------------------------------------------------------------------
Notification and Approval Requirements
The proposed rule change would also amend Rule 3240's notification
and approval requirements. Currently, Rule 3240(b) contains
notification and approval requirements for borrowing or lending
arrangements within the five exceptions, which vary depending on which
exception applies. With respect to the personal relationship, business
relationship, and registered persons exceptions, Rule 3240(b)(1)
provides that a registered person shall notify the member of borrowing
or lending arrangements prior to entering into such arrangements, and
that the member shall pre-approve in writing such arrangements.\18\
With respect to the immediate family member exception, Rule 3240(b)(2)
provides, in pertinent part, that a member's written procedures may
indicate that registered persons are not required to notify the member
or receive member approval. With respect to the financial institution
exception, Rule 3240(b)(3) provides, in pertinent part, that a member's
written procedures may indicate that registered persons are not
required to notify the member or receive member approval, provided that
``the loan has been made on commercial terms that the customer
generally makes available to members of the general public similarly
situated as to need, purpose and creditworthiness.''
---------------------------------------------------------------------------
\18\ Rule 3240(b)(1) contains similar notification and approval
requirements for modifications to borrowing or lending arrangements.
---------------------------------------------------------------------------
FINRA is proposing several amendments to all these notification and
approval requirements. First, FINRA is proposing to amend Rule
3240(b)(1) to clarify that, although registered persons are required to
obtain the member's prior approval of arrangements within the close
personal relationship, business relationship, or registered persons
exceptions, the member is not required to approve such arrangements. As
explained above, Rule 3240(b)(1) currently provides that the member
``shall pre-approve'' such arrangements, which could imply incorrectly
that the member must approve the arrangement or modification and may
not disapprove it. To preclude this incorrect interpretation, the
proposed rule change would delete the ``shall pre-approve'' language
and instead require the
[[Page 3971]]
registered person to provide the member with notice of the arrangements
or modifications ``prior to entering into such arrangements'' or
``prior to the modification of such arrangements'' and ``obtain the
member's approval.'' \19\
---------------------------------------------------------------------------
\19\ See proposed Rule 3240(b)(1)(A).
---------------------------------------------------------------------------
The proposed rule change would also amend the notification and
approval requirements that apply to borrowing or lending arrangements
within the registered persons, personal relationship and business
relationship exceptions, to correspond with the proposed amendments
that would clarify that the general prohibition applies to pre-existing
arrangements. Specifically, proposed Rule 3240(b)(1)(B) would require
registered persons, prior to the initiation of a broker-customer
relationship at the member with a person with whom the registered
person has an existing borrowing or lending arrangement, to notify the
member in writing of existing arrangements within the registered
persons, personal relationship and business relationship exceptions and
obtain the member's approval in writing of the broker-customer
relationship.\20\
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\20\ In such situations, if the member does not approve the
formation of a broker-customer relationship with the registered
person who provided such notice, the customer would still be
permitted to seek to initiate a broker-customer relationship with
another registered person at the same member.
---------------------------------------------------------------------------
Further, the proposed rule change would require that all notices
required under Rule 3240 be in writing and retained by the member.
Currently, Rule 3240 does not specify that notice must be given in
writing, and the record-retention provision in Rule 3240.01 requires
members only to preserve written approvals. The proposed rule change
would require registered persons to give written notice and require
members to preserve records of such written notice for at least three
years.\21\
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\21\ See proposed amendments to Rule 3240(b)(1)(A) and (b)(1)(B)
and Rule 3240.01. Rule 3240.01 would also be amended to provide that
the record-retention requirements are for purposes of Rule 3240(b),
not just Rule 3240(b)(1). As explained above, Rule 3240(b)(1)
requires notice and approval of arrangements that are within the
personal relationship, business relationship, and registered persons
exceptions. While Rule 3240(b)(2) and (3) do not expressly require
notice and approval of arrangements within the immediate family
member and financial institution exceptions, those subparagraphs
imply that members may choose to require such notice and approval of
those arrangements.
---------------------------------------------------------------------------
The proposed rule change would also amend the provisions that
address notice and approval of arrangements within the immediate family
and financial institution exceptions, to correspond with the proposed
amendments that would clarify that the general prohibition applies to
arrangements that pre-exist the broker-customer relationship.
Currently, under Rule 3240(b)(2) and (3), the member's written
procedures may indicate that registered persons are not required to
notify the member or receive member approval of arrangements within the
immediate family exception or arrangements within the financial
institution exception that meet the additional conditions set forth in
Rule 3240(b)(3). To extend these provisions to pre-existing
arrangements, the proposed rule change would amend Rule 3240(b)(2) and
(3) to provide that the member's procedures may also indicate that
registered persons are not required to notify the member or receive
member approval of such arrangements either prior to or subsequent to
initiating a broker-customer relationship.
Finally, in response to comments received in response to Notice 21-
43, the proposed rule change would establish new obligations on a
member when receiving notice of a borrowing or lending arrangement.
Specifically, FINRA is proposing to add Rule 3240.06 (Obligations of
Member Receiving Notice). Proposed Rule 3240.06 would provide that upon
receiving written notice under Rule 3240, the member shall perform a
reasonable assessment of the risks created by the borrowing or lending
arrangement with a customer, modification to the borrowing or lending
arrangement with a customer, or existing borrowing or lending
arrangement with a person who seeks to be a customer of the registered
person. It would further provide that the member shall also make a
reasonable determination of whether to approve the borrowing or lending
arrangement, modification to the borrowing or lending arrangement, or,
where there is an existing borrowing or lending arrangement with a
person who seeks to be a customer of the registered person, the broker-
customer relationship. Proposed Rule 3240.06 would be similar to Rule
3241(b)(1), which requires members to perform a ``reasonable
assessment'' and ``reasonable determination'' when receiving notice of
a registered person being named a customer's beneficiary or holding a
position of trust for a customer, and to supplementary material to
FINRA Rule 3270 (Outside Business Activities of Registered Persons)
that provides factors members must consider upon receiving written
notice of an outside business activity.\22\
---------------------------------------------------------------------------
\22\ See Rule 3270.01 (Obligations of Member Receiving Notice).
---------------------------------------------------------------------------
FINRA intends that a member's ``reasonable assessment'' and
``reasonable determination'' for purposes of proposed Rule 3240.06
would be informed by guidance that FINRA has already provided to
members in Notice 21-43.\23\ Specifically, FINRA expects that a
member's ``reasonable assessment'' would take into consideration
several factors, such as:
---------------------------------------------------------------------------
\23\ FINRA has explained that this guidance was similar to
general guidance that FINRA had published concerning the
``reasonable assessment'' and ``reasonable determination''
requirements in Rule 3241. See Notice 21-43, at n.21 (citing Rule
3241(b)(1), Regulatory Notice 20-38 (October 2020), and Securities
Exchange Act Release No. 89218 (July 2, 2020), 85 FR 41249, 41251
(July 9, 2020) (Notice of Filing of File No. SR-FINRA-2020-020)).
---------------------------------------------------------------------------
(1) any potential conflicts of interest in the registered person
being in a borrowing or lending arrangement with a customer;
(2) the length and type of relationship between the customer and
registered person;
(3) the material terms of the borrowing or lending arrangement;
(4) the customer's or the registered person's ability to repay the
loan;
(5) the customer's age;
(6) whether the registered person has been a party to other
borrowing or lending arrangements with customers;
(7) whether, based on the facts and circumstances observed in the
member's business relationship with the customer, the customer has a
mental or physical impairment that renders the customer unable to
protect his or her own interests;
(8) any disciplinary history or indicia of improper activity or
conduct with respect to the customer or the customer's account (e.g.,
excessive trading); and
(9) any indicia of customer vulnerability or undue influence of the
registered person over the customer.
This list is not intended to be exhaustive. Moreover, while a
listed factor may not be applicable to a particular situation, the
factors that a member considers should allow for a reasonable
assessment of the associated risks so that the member can make a
reasonable determination of whether to approve the borrowing or lending
arrangement, modification to the borrowing or lending arrangement, or,
where there is an existing borrowing or lending arrangement with a
person who seeks to be a customer of the registered person, the broker-
customer relationship. FINRA does not expect a registered person's
assertion that the registered person or the customer has no viable
alternative person from whom to
[[Page 3972]]
borrow money to be dispositive in the member's assessment. If possible,
as part of the member's reasonable assessment of the risks, FINRA would
expect a member to try to discuss the arrangement with the
customer.\24\
---------------------------------------------------------------------------
\24\ FINRA notes that the proposed rule change would impact
members that have elected to be treated as capital acquisition
brokers (``CABs''), given that the CAB Rules incorporate the
impacted FINRA rule by reference.
---------------------------------------------------------------------------
If the Commission approves the proposed rule change, FINRA will
announce the effective date of the proposed rule change in a Regulatory
Notice.
2. Statutory Basis
FINRA believes the proposed rule change is consistent with the
provisions of section 15A(b)(6) of the Act,\25\ 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.
---------------------------------------------------------------------------
\25\ 15 U.S.C. 78o-3(b)(6).
---------------------------------------------------------------------------
FINRA believes that, by strengthening and modernizing Rule 3240,
the proposed rule change would enhance investor protection. The
proposed rule change would reduce risks to investors through
incremental adjustments that strengthen the general prohibition against
borrowing and lending arrangements and narrow the few exceptions to the
rule. In addition, the proposed rule change would facilitate compliance
by clarifying the scope of the general prohibition and the personal
relationship and business relationship exceptions.
B. Self-Regulatory Organization's Statement on Burden on Competition
FINRA does not believe that the proposed rule change would result
in any burden on competition that is not necessary or appropriate in
furtherance of the purposes of the Act.
Economic Impact Assessment
FINRA has undertaken an economic impact assessment, as set forth
below, to further analyze the regulatory need for the proposed rule
change, its potential economic impacts, including anticipated costs,
benefits, and distributional and competitive effects relative to the
current baseline, and the alternatives FINRA considered in assessing
how best to meet its regulatory objective.
(a) Regulatory Need
Rule 3240 generally prohibits registered persons from borrowing
from or lending to their customers except when certain conditions are
met, as specified in Rule 3240 and described above. Anecdotal evidence
from member firms, law clinics, and previous enforcement cases--as well
as FINRA's experience in examining and enforcing for compliance with
Rule 3240--suggests that there is some ambiguity about the scope of
Rule 3240 and certain risks to investors due to conflicts of interest
and the superior information that registered persons have about
potential risks and returns. As discussed further below, the proposed
rule change would reduce ambiguity and aim to mitigate these risks.
(b) Economic Baseline
The economic baseline for the proposed rule change is Rule 3240,
members' existing internal procedures regarding borrowing from or
lending to a customer, and the extent of investor protection and market
efficiency that result. As of the end of 2022, there were 620,882
registered persons and 3,378 registered member firms that would be
covered by the proposed rule change, in addition to the registered
persons' customers.\26\
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\26\ See 2023 FINRA Industry Snapshot, https://www.finra.org/sites/default/files/2023-04/2023-industry-snapshot.pdf. There is no
data of the number of customers of the registered member firms.
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Absent Rule 3240, borrowing or lending arrangements between
registered persons and their customers would likely be more widespread
and riskier due to conflicts of interest and the superior information
that registered persons have about potential risks and returns. Rule
3240 generally prohibits these arrangements, and it establishes
processes that may help mitigate the potential conflicts of interest in
those arrangements that are within the exceptions. In this regard,
registered persons may not enter into borrowing or lending arrangements
that are within the rule's exceptions unless the registered person's
member firm has written procedures allowing the borrowing or lending of
money between such registered persons and their customers, and unless
the registered person complies with any applicable notification and
approval requirements. Members may adopt procedures that are stricter
than Rule 3240. However, for purposes of conducting an economic
analysis, FINRA does not have comprehensive information readily
available about members' borrowing or lending policies or practices.
To understand the potential harm from impermissible borrowing or
lending arrangements, FINRA reviewed final FINRA enforcement cases that
involved findings of Rule 3240 violations. Between January 2018 and
December 2021, there were an average of 15 such enforcement cases per
year, totaling 58 cases over the four-year period.\27\ The number of
cases year over year did not display a noticeable trend. The customer
was the borrower in only one of the cases, and the registered person
was the borrower in the other 57 cases. The amounts of borrowed or lent
money ranged from $1,800 to $1,350,000, with a mean of $163,509 and a
median of $70,000.
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\27\ The number of enforcement cases includes the FINRA
disciplinary actions that resulted in a Letter of Acceptance,
Waiver, and Consent (AWC), an Order Accepting Settlement (OAS), or a
decision issued by FINRA's Office of Hearing Officers, and that
resulted in findings that the respondent violated Rule 3240. The
number does not include matters resulting in Cautionary Action.
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Customer harm occurs if a loan from the customer is not repaid
according to its terms,\28\ or if the terms of the loan are
substantially worse when compared to prevailing market terms for loans
to comparable borrowers. In the enforcement cases in the review period,
the customers were often repaid, though it is uncertain whether they
were repaid according to the terms of the loan or how those terms would
have compared to prevailing market terms. FINRA notes the number of
enforcement cases does not represent all violations of Rule 3240 that
may have occurred, and thus, does not provide a complete picture of the
economic baseline of customer harm.
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\28\ ``Not repaid according to its terms'' could include, but is
not limited to, situations in which a customer is not repaid in full
or not repaid at the interest rate or by the date agreed upon.
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FINRA also reviewed disclosures on Forms U4 and U5 of consumer-
initiated, investment-related arbitrations, civil litigation or
customer complaints (written or oral) that included allegations related
to a registered person (or former registered person) borrowing money
from or lending money to a customer. This information complements the
information from the enforcement cases regarding the potential harm
caused by impermissible borrowing or lending arrangements, although the
disclosures do not necessarily indicate whether or how Rule 3240 was
violated. From 2018 to 2021, there was a total of 100 such disclosures
over the four-year period, which averaged to 23 disclosures per year.
The number of such disclosures declined from 38 in 2018 to 19 in 2021.
In 28 of the total 100 identified disclosures, the amount of the
compensatory damages claim was not
[[Page 3973]]
known.\29\ In the remaining 70 disclosures excluding two outliers,\30\
the alleged compensatory damages claims ranged from $1,800 to $3.7
million, with a mean of $224,760 and a median of $94,600. Fifty-three
of the 100 disclosures resulted in settlements, which ranged from
$1,800 to $1.3 million. Five of the disclosures resulted in an
arbitration award between $2,000 and $150,000. One disclosure resulted
in a civil judgment of $85,000.
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\29\ For example, in one disclosure, a family member filed the
complaint on behalf of a deceased customer without knowing the exact
amount borrowed.
\30\ In two disclosures, the alleged compensatory damages were
$20 million and $43 million, both of which are more than three
standard deviations from the mean. FINRA removed these data points
in calculating the mean and median to avoid biases caused by
outliers.
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The extent to which data concerning these consumer-initiated events
may inform an economic baseline has some limitations. First, some
disclosures allege harm caused by conduct in addition to borrowing from
or lending to a customer, such as recommending unsuitable investments,
so FINRA is unable to determine how much of the alleged harm derives
from allegations related to borrowing or lending. Second, the alleged
compensatory damages could be a poor proxy for measuring customer harm
because the disclosures did not specifically mention the borrowed
amounts or have details about whether the loan was repaid, and because
nearly all alleged compensatory damages claims were not adjudicated.
Nevertheless, to the extent some of the disclosures are of settlements,
awards or judgments, those provide a better gauge of the potential
customer harm than mere allegations of compensatory damages. Thus, the
disclosure data provides a perspective, in addition to the enforcement
data, on the prevalence and the scope of borrowing or lending
arrangements between registered persons and customers.
To supplement the quantitative analysis above, FINRA also
considered its own experience with examining and enforcing for
compliance with Rule 3240. Specifically, FINRA is concerned that some
registered persons attempt to circumvent the current rule, using
tactics such as timing a borrowing or lending arrangement to be entered
into after terminating a broker-customer relationship, using other
nominal borrowers such as a spouse or business entity of the registered
person, or claiming a personal relationship that is not bona fide. For
example, FINRA has detected instances in which the registered person
re-assigned the customer to another registered person and then
immediately entered into a borrowing arrangement with the former
customer. These kinds of arrangements present the same kinds of
conflicts of interest that Rule 3240 is intended to address, and, as
such, also inform the economic baseline.
(c) Economic Impact
By extending the coverage of the rule's general prohibition,
narrowing some exceptions, and clarifying certain aspects of the rule,
the proposed rule change would result in fewer attempts by registered
persons to enter into impermissible arrangements. For example, the
expected cost of attempting to enter into a borrowing or lending
arrangement that is not within the exceptions would be higher, as the
likelihood of getting caught would increase when members, registered
persons and customers have better information about permitted
arrangements. Further, by reducing ambiguity regarding permissible
borrowing or lending arrangements, a registered person who currently
avoids a permissible and mutually beneficial borrowing or lending
arrangement may be more comfortable entering into such an arrangement
because of the proposed rule change.
The proposed rule change would prohibit some arrangements that are
allowed under the current rule. For example, the general prohibition
does not currently extend to arrangements entered into within six
months after a broker-customer relationship ends; under the proposed
rule change, it would. Additionally, the proposed rule change would
narrow the personal relationship exception, prohibiting some of the
arrangements that are permissible under the current rule. FINRA
recognizes, however, that the proposed rule change may preclude
arrangements that could be mutually beneficial to customers and
registered persons and superior to alternative opportunities for
borrowing or lending. Furthermore, requiring members to make a
reasonable assessment of the risks and a reasonable determination of
whether to approve the arrangement or new broker-customer relationship,
as the case may be, may lead some members to disallow these
arrangements altogether to avoid the cost of making the required
assessments and determinations.
The long-term net impact of the proposed rule change on members'
compliance costs is less clear. The proposed rule change would likely
reduce registered persons' attempts to borrow based on the close
personal relationship exception. Further, with the proposed modernized
definition of ``immediate family,'' some arrangements that are
currently within the personal relationship exception would instead be
within the immediate family exception, of which members could choose
not to require notification or approval. On the other hand, by
clarifying that the rule covers arrangements that pre-exist the
initiation of a broker-customer relationship and extending the rule six
months after a broker-customer relationship is terminated, members
would start receiving notice of the kinds of arrangements of which they
are not currently receiving notice and would be required to evaluate
whether to approve the arrangement or a new broker-customer
relationship, as applicable. Additionally, members may incur additional
costs of supervising and monitoring due to the extended time period
that the proposed rule change covers. The extent of net savings or
costs to members for compliance would depend on the relative prevalence
of such cases and the additional monitoring costs.
The proposed rule change requiring members that receive notice of
an arrangement to perform a reasonable assessment of the risks created
by the arrangement could also raise members' compliance costs in the
long term to the extent that members are not currently conducting these
assessments. While the current rule requires members, upon receiving
notice of an arrangement, to approve the arrangement in writing, the
current rule does not require members to conduct a reasonable
assessment of the risks of the arrangement prior to giving approval.
Some members may already have a robust assessment process while some
may have to adjust their process to comply with the proposed rule
change. As a result, the compliance cost of the approval process for
members that would have to make the adjustments could increase.
Members may also incur increased compliance costs in the short
term. Specifically, members may need to update their written procedures
in light of the proposed rule change given that Rule 3240 prohibits all
arrangements unless the member has procedures permitting them. Members
may also have to re-train their staff to become aware of the extended
prohibitions, the modernized definition of ``immediate family,'' the
proposed factors to consider for arrangements based on close personal
relationships and business relationships, and the ``reasonable
assessment'' and ``reasonable determination'' requirements. While the
proposed rule
[[Page 3974]]
change would not apply retroactively, as discussed below, members may
elect to re-evaluate previously approved arrangements under the
proposed rule change. Additionally, members may choose to respond to
the proposed rule change by reviewing their current registered persons'
borrowing or lending arrangements with their current and previous
customers, to the extent they have not already done so.
For members that are not already maintaining written notices and
approvals of borrowing or lending arrangements that the proposed rule
change would require, there would be additional operational costs.
However, FINRA expects the incremental costs to be minimal, as the
costs of making and keeping written records are trivial with digital
technology.
(d) Alternatives Considered
FINRA considered generally prohibiting all borrowing or lending
arrangements between registered persons and customers and eliminating
the existing exceptions. FINRA does not propose a complete prohibition
for several reasons. As an initial matter, Rule 3240 already contains a
general prohibition, and the proposed rule change would strengthen it,
by clarifying that it applies to pre-existing arrangements, extending
the time period over which the rule would apply, adopting supplementary
material that addresses conduct by registered persons regarding
arrangements with persons related to the registered person or to the
customer, and narrowing some exceptions.
Moreover, as discussed below, FINRA determined that the enumerated
exceptions in Rule 3240, with the proposed rule change described above,
are for limited situations where the likelihood that the registered
person and customer entered into the borrowing or lending arrangement
by virtue of the broker-customer relationship is reduced, and the
potential risks are outweighed by the potential benefits of allowing
registered persons to enter into arrangements with such customers. See
discussion infra section C.
C. Self-Regulatory Organization's Statement on Comments on the Proposed
Rule Change Received From Members, Participants, or Others
The proposed rule change was published for comment in Notice 21-43.
Six comments were received in response to Notice 21-43. A copy of
Notice 21-43 appears in Exhibit 2a. Copies of the comment letters
received in response to Notice 21-43 appear in Exhibit 2b. Of the six
comment letters received, three were in favor of the proposed rule
change,\31\ two were opposed,\32\ and one raised issues that were
beyond the scope of Rule 3240.\33\
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\31\ See Letter from Michael Edmiston, President, Public
Investors Advocate Bar Association, to Jennifer Piorko Mitchell,
Office of the Corporate Secretary, FINRA, dated February 14, 2022
(``PIABA''); letter from Bernard V. Canepa, Managing Director and
Associate General Counsel, Securities Industry and Financial Markets
Association, to Jennifer Piorko Mitchell, Office of the Corporate
Secretary, FINRA, dated February 14, 2022 (``SIFMA''); letter from
Alice L. Stewart et al., Esquire, Director, University of Pittsburgh
Securities Arbitration Clinic and Professor of Law, to Jennifer
Piorko Mitchell, Office of the Corporate Secretary, FINRA, dated
February 14, 2022 (``University of Pittsburgh'').
\32\ See Letter from Jenice L. Malecki, Malecki Law, to Marcia
E. Asquith, Executive Vice President, Board and External Relations,
FINRA, dated February 14, 2022 (``Malecki''); letter from Melanie
Senter Lubin, President, North American Securities Administrators
Association, Inc., to Jennifer Piorko Mitchell, Office of the
Corporate Secretary, FINRA, dated February 14, 2022 (``NASAA'').
\33\ See Comment submission from Caleb Benore, dated December
29, 2021 (``Benore'').
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The comments and FINRA's responses are set forth in detail below.
General Support for the Proposal
Three commenters expressed support for the proposal in Notice 21-
43.\34\ SIFMA noted that the proposal would provide greater clarity and
guidance to members in assessing which arrangements may be permissible
under the exceptions to the prohibition. PIABA specifically expressed
support for applying Rule 3240 to arrangements that pre-exist the
broker-customer relationship, extending the definition of customer to
those who had accounts with a registered person in the previous six
months, and making clear that the same or very similar conflicts of
interest are present if a registered representative's close family
member obtains a loan from a registered representative's customer.
University of Pittsburgh expressed support for nearly every change
proposed in Notice 21-43.\35\ PIABA, SIFMA and University of Pittsburgh
all supported the proposed modernization of the ``immediate family''
definition.\36\
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\34\ See PIABA, SIFMA and University of Pittsburgh.
\35\ While generally supporting the proposal, University of
Pittsburgh had comments regarding the business relationship
exception, and PIABA had comments regarding the definition of
``customer.'' Those comments are discussed below.
\36\ NASAA, which generally opposed the proposal, also expressed
support for the modernization of the definition of ``immediate
family.''
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General Opposition to the Proposal
NASAA and Malecki did not support the proposal in Notice 21-43
because they both would favor an outright prohibition on borrowing from
or lending to customers.\37\ NASAA stated that the proposed changes
would continue to subject registered persons to disparate regulatory
requirements. In particular, NASAA noted that its model rule concerning
Dishonest or Unethical Business Practices of Broker-Dealers and Agents,
which lists acts and practices that are considered contrary to high
standards of commercial honor and just and equitable principles of
trade, prohibits agents from ``[e]ngaging in the practice of lending or
borrowing money or securities from a customer, or acting as a custodian
for money, securities or an executed stock power of a customer.'' \38\
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\37\ In the alternative, NASAA and Malecki recommended various
changes to Rule 3240, should it continue to permit any kinds of
borrowing or lending arrangements. Those comments are discussed
below.
\38\ See Dishonest or Unethical Business Practices of Broker-
Dealers and Agents (adopted May 23, 1983), https://www.nasaa.org/wp-content/uploads/2011/07/29-Dishonest_Practices_of_BD_or_Agent.83.pdf. NASAA also commented that
its model rule concerning unethical business practices of investment
advisers includes a similar prohibition. See NASAA Unethical
Business Practices Of Investment Advisers, Investment Adviser
Representatives, And Federal Covered Advisers Model Rule 102(a)(4)-1
(2019), available at https://www.nasaa.org/wp-content/uploads/2019/05/NASAA-IA-Unethical-Business-Practices-Model-Rule.pdf (providing
that an investment adviser, an investment adviser representative or
a federal covered adviser shall not engage in unethical business
practices, including, among other things, ``[b]orrowing money or
securities from a client unless the client is a broker-dealer, an
affiliate of the investment adviser, or a financial institution
engaged in the business of loaning funds'' or ``[l]oaning money to a
client unless the investment adviser is a financial institution
engaged in the business of loaning funds or the client is an
affiliate of the investment adviser'').
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During the retrospective review of Rule 3240, while some
stakeholders also suggested that all borrowing and lending arrangements
should be prohibited, others commented that the rule has appropriate
exceptions or that the rule should have stronger controls short of a
complete prohibition.\39\ In evaluating this wide range of views, FINRA
considered, as stated in Notice 21-43, whether the rule should
generally prohibit all borrowing and lending arrangements between
registered persons and customers with no exceptions. FINRA decided
against this approach, however, for several reasons.
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\39\ See Notice 21-43.
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First, Rule 3240 already contains a general prohibition that the
proposed rule change would strengthen by extending the period over
which the rule would apply, clarifying that the prohibition applies to
pre-existing arrangements, and narrowing some of the exceptions.
Second, FINRA believes
[[Page 3975]]
that all the exceptions are tailored to permit arrangements for which
the potential benefits outweigh related potential risks. The exceptions
allow for narrow situations where the likelihood that the registered
person and customer entered into the borrowing or lending arrangement
by virtue of the broker-customer relationship is reduced. Third, Rule
3240 also contains several protections that restrict a registered
person's ability to enter into an arrangement within the five
exceptions (i.e., that no arrangements within the exceptions are
permitted absent a member's procedures allowing the borrowing or
lending of money between registered persons and customers and absent
the registered person's compliance with applicable notice and approval
requirements). These protections would be further strengthened through
the proposed rule change to require members, when receiving written
notice of a borrowing or lending arrangement, to make a reasonable
assessment of the risks created by a borrowing or lending arrangement
and a reasonable determination of whether to approve it.
FINRA does not believe that NASAA's model rule concerning the
unethical business practices of broker-dealers and agents warrants
changing the general approach of Rule 3240 as a general prohibition
with narrow exceptions and associated protections. As explained above,
one of the paragraphs in the NASAA model rule prohibits broker-dealer
agents from engaging in the practice of borrowing or lending money or
securities from a customer. Although some states have adopted that
paragraph of the NASAA model rule verbatim,\40\ some states have laws
or regulations concerning borrowing or lending that are, in many
respects, more similar to Rule 3240,\41\ or even incorporate Rule 3240
by reference.\42\ Moreover, FINRA has not identified any broker-dealer
laws or regulations concerning borrowing or lending arrangements in
several states that have high concentrations of FINRA-registered
broker-dealer firms and branches.\43\ Considering that Rule 3240 has a
general prohibition on both borrowing arrangements and lending
arrangements, limited tailored exceptions, and associated protections,
including written-procedures requirements and notice-and-approval
requirements, FINRA's rule--in its current form and as proposed--is as
strong, if not stronger, than many states' laws.
---------------------------------------------------------------------------
\40\ See, e.g., Georgia (Ga. Comp. R. & Regs. 590-4-
5-.16(2)(b)(1) (2011)); Massachusetts (950 Mass. Code Regs.
12.204(1)(b)(1) (2020)); Pennsylvania (10 Pa. Code Sec.
305.019(c)(2)(i) (2018)).
\41\ See, e.g., Connecticut (Conn. Agencies Regs. Sec. 36b-31-
15b(a)(1) (1995)); Michigan (Mich. Admin. Code r.451.4.27(3)(a)
(2019)); New Jersey (N.J. Admin. Code Sec. 13:47A-6.3(a)(43) and
(44) (2017)); North Carolina (18 N.C. Admin. Code 6A.1414(c)(1)
(1988)).
\42\ See, e.g., Colorado (Colo. Code Regs. 704-1 Sec. 51-
4.7(H)(2) (2019)); Florida (Fla. Admin. Code Ann. r.69W-
600.013(2)(a) (2021)); Nevada (Nev. Admin. Code Sec.
90.327(1)(d)(1) and Nev. Admin. Code Sec. 90.321(1) (2008)).
\43\ Specifically, FINRA has not identified state broker-dealer
laws or regulations prohibiting borrowing or lending with customers
in New York, California, Illinois or Texas. See generally 2023 FINRA
Industry Snapshot at 22-23, available at https://www.finra.org/sites/default/files/2023-04/2023-industry-snapshot.pdf.
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In addition, NASAA commented that all borrowing and lending
arrangements should be prohibited because the conflicts of interest
that such arrangements create cannot be mitigated by member firm
policies and procedures. NASAA contended that its position is
consistent with the Commission's approach regarding certain other
broker-dealer conflicts of interest. In this regard, NASAA wrote that
the Commission recognized in the context of Regulation Best Interest
(``Reg BI'') that some conflicts are so pervasive that they cannot
reasonably be mitigated and must be eliminated in their entirety. NASAA
contended that the direct personal incentives inherent in borrowing and
lending arrangements, and the desire to collect or the duty to pay a
customer, are of equal if not greater concern.
FINRA believes that the regulatory approach used in Rule 3240 is
generally consistent with the approach the Commission took with Reg BI.
Reg BI establishes a standard of conduct for broker-dealers and
associated persons when they make a recommendation to a retail customer
of any ``securities transaction or investment strategy involving
securities.'' \44\ FINRA notes that Reg BI requires broker-dealers to
address conflicts of interest associated with recommendations,
including through mitigation, and in certain circumstances where the
Commission determined that such conflicts cannot be reasonably
mitigated, through elimination. Rule 3240 is generally consistent with
the spirit of this regulatory approach. In this regard, Rule 3240
generally prohibits most borrowing and lending arrangements and, thus,
eliminates the potential conflicts these arrangements would present.
Moreover, the proposed rule change would strengthen the general
prohibition, by clarifying that it applies to arrangements that pre-
exist a broker-customer relationship, extending it to arrangements that
arise within six months after a broker-customer relationship ends, and
adding supplementary material concerning conduct by registered persons
regarding arrangements with persons related to the registered person or
to the customer. Furthermore, as discussed, the rule's tailored
exceptions, which would be narrowed under the proposed rule change, are
for situations where the potential benefits of the borrowing or lending
arrangement--including the benefits of being able to enter into some
arrangements without a notice and approval process--outweigh related
potential risks. In addition, the rule has additional protections
(i.e., the written-procedures requirement and the notice and approval
requirements) that would be further enhanced by requiring firms to make
a reasonable assessment of the risks and a reasonable determination of
whether to approve the arrangement.\45\
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\44\ See 17 CFR 240.15l-1(a)(1).
\45\ Moreover, the member's reasonable assessment and
determination would be informed by guidance in Notice 21-43 that the
member's reasonable assessment of the risks may include
consideration of, among other factors, ``any potential conflicts of
interest in the registered person being in a borrowing or lending
arrangement with a customer.''
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In addition, NASAA suggested that FINRA should clarify that members
may impose more stringent controls up to and including a total
prohibition of borrowing and lending arrangements. When FINRA proposed
to adopt Rule 3240 as part of the consolidated FINRA rulebook, it
indicated that members can choose to permit registered persons to
borrow money from or lend money to their customers consistent with the
requirements of the rule or may be more restrictive, including
prohibiting borrowing or lending arrangements in whole or in part.\46\
In light of NASAA's suggestion, if the proposed rule change is
approved, FINRA would reiterate this guidance in the Regulatory Notice
announcing the approval of the proposed rule change.
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\46\ See Securities Exchange Act Release No. 61302 (January 6,
2010), 75 FR 1672, 1673 (January 12, 2010) (Notice of Filing of File
No. SR-FINRA-2009-095).
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The Immediate Family Exception
NASAA recommended eliminating the immediate family exception
because elder financial exploitation is often perpetrated by family
members. NASAA also contended that, if the current rule framework is
maintained, notification and approval should be required for
arrangements with immediate family members, particularly where the
customer is a senior or may otherwise be a vulnerable adult under
applicable
[[Page 3976]]
state law. Malecki also raised concerns regarding elder financial
exploitation and noted that debt situations can easily cause serious
friction within family and friends. Malecki commented that the
immediate family exception is too broad, and that only a narrow
exception for educational debt for children should be permitted when
brokers manage their own children's accounts.
Except for proposing to modify the definition of ``immediate
family,'' FINRA does not propose to amend the existing immediate family
exception or require notice and approval of arrangements with immediate
family members. As explained above, the narrow exceptions to the rule--
including for arrangements with immediate family members--are for
situations where FINRA believes the likelihood that the registered
person has borrowed from or lent money to a customer by virtue of the
broker-customer relationship is reduced, and the rule contains
additional protections that restrict a registered person's ability to
enter into an arrangement within the exceptions.
FINRA believes that Malecki's suggestion to limit the immediate
family exception to educational debt for children would narrow the
exception too much. There are numerous other examples of beneficial
borrowing or lending arrangements between immediate family members,
including senior family members.\47\ Such loans may cover, for example,
medical expenses, child care or elder care expenses, emergency home
repair costs, or expenses in the wake of a job loss, or they may
support a family member's small business at an interest rate lower than
commercially available. Furthermore, FINRA continues to believe, as it
did when it previously eliminated from the predecessor to Rule 3240
notice and approval requirements for arrangements with immediate family
members, that such requirements may invade the legitimate privacy
interests of customers and registered persons.\48\ Thus, FINRA believes
the potential risks are outweighed by the potential benefits of
permitting immediate family members to privately borrow from and lend
to each other.
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\47\ FINRA notes that the statements in this section that apply
to senior family members also apply to other family members who may
be vulnerable adults.
\48\ See Securities Exchange Act Release No. 49081 (January 14,
2004), 69 FR 3410 (January 23, 2004) (Notice of Filing of File No.
SR-NASD-2004-05) (explaining, among other things, that such
requirements may invade the legitimate privacy interests of
customers and registered persons).
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FINRA also reiterates that a registered person is prohibited from
entering into a borrowing or lending arrangement with a customer who is
an immediate family member, including one who is a senior investor,
unless the member adopts written procedures permitting such
arrangements. As explained above, members may choose to prohibit all
borrowing and lending arrangements, allow only some of the exceptions
enumerated in Rule 3240(a)(2), or impose limitations on the exceptions.
FINRA believes that, by strengthening the general prohibition and
narrowing its exceptions, the proposed rule change would further
protect all investors, including senior investors.\49\
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\49\ FINRA has maintained a longstanding commitment to
protecting senior investors and continues to work to address risks
facing this investor population as part of its regulatory mission,
including by adopting rules that are intended to address risks
related to possible financial exploitation of senior investors. See,
e.g., FINRA, Protecting Senior Investors 2015-2020 (April 30, 2020);
Regulatory Notice 20-34; Rule 2165 (Financial Exploitation of
Specified Adults); Rule 4512.06 (Trusted Contact Person). FINRA
further notes that Rule 2010 (Standards of Commercial Honor and
Principles of Trade)--which provides that a member, in the conduct
of its business, shall observe high standards of commercial honor
and just and equitable principles of trade--protects investors from
unethical behavior and is broad enough to cover a wide range of
unethical conduct.
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The Personal Relationship and Business Relationship Exceptions
Several commenters addressed the personal relationship and business
relationship exceptions. Malecki commented that these two exceptions
are too broad. Likewise, University of Pittsburgh requested that Rule
3240 limit the business relationship exception to the financial
industry and noted that a registered person getting regular haircuts
from a hairstylist should not fit within the business relationship
exception. University of Pittsburgh also requested that FINRA provide
examples of qualifying business relationships and more information
about whether a business relationship qualifies for the exception. On
this last point, University of Pittsburgh suggested that useful factors
may include (1) the financial risks for the parties; (2) the industry
involved; and (3) any other factor that may help determine the trust
established between the parties and the comparative risks of their past
business practices and their potential borrower-lender agreements.
FINRA shares some of these concerns and accordingly has proposed to
narrow the personal relationship exception and to provide factors that
are relevant to assessing whether a relationship falls within the scope
of either exception. Beyond what FINRA proposed in Notice 21-43--and in
response to the comments--FINRA proposes additional amendments to
expressly provide that the personal and business relationships must be
``bona fide'' \50\ and provide that an illustrative example of a
``business relationship'' is a loan from a registered person to a small
outside business that the registered person co-owned for years for the
sole purpose of providing the business with additional operating
capital.\51\
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\50\ See proposed Rule 3240(a)(2)(D) and (E).
\51\ See proposed Rule 3240.04. FINRA agrees that a loan from a
customer from whom the registered person purchases non-commercial
consumer goods or services, such as hair styling services, would not
fit within the business relationship exception.
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FINRA does not believe, however, that additional changes to the
personal and business relationship exceptions are warranted. The
personal relationship exception, as proposed to be amended, would not
permit ``virtually anyone'' to enter into a borrowing or lending
arrangement.\52\ Rather, the proposed rule change would narrow the
personal relationship exception significantly, to apply only to
personal relationships that are ``bona fide'' and ``close,'' and
maintained outside of, and formed prior to, the broker-customer
relationship. This narrower definition would reduce the risk that a
registered person would concoct a personal relationship with a customer
for the purpose of entering into a borrowing or lending arrangement
with that customer, and it would address concerns expressed during the
retrospective rule review that the exception can be exploited.
---------------------------------------------------------------------------
\52\ See Malecki.
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Likewise, FINRA believes that the business relationship exception,
as proposed to be amended, is appropriately tailored. Rule 3240
currently requires that the qualifying business relationships be
``outside of the broker-customer relationship.'' This language serves
to separate the business relationship from the broker-customer
relationship, and thus mitigate the potential conflict of interest. The
proposed rule change would further narrow this exception by requiring
that the business relationship be ``bona fide.'' FINRA does not believe
that the ``business relationship'' exception should be further limited
to only the financial industry. There is no indication that the risks
related to arrangements based on a bona fide business relationship turn
on the industry or sector involved.
With respect to University of Pittsburgh's suggested factors, FINRA
notes that the proposed rule change would require members, when
receiving written notice under Rule 3240, to
[[Page 3977]]
perform a reasonable assessment of the risks created and make a
reasonable determination of whether to approve the arrangement or
broker-customer arrangement, as the case may be. As explained above, a
member's reasonable assessment and determination would be informed by
the guidance already provided in Notice 21-43, which includes a non-
exhaustive list of factors to consider when evaluating whether to
approve a borrowing or lending arrangement. For example, these factors
include, among others, any potential conflicts of interest, the length
and type of relationship, the material terms of the arrangement, and
the customer's or registered person's ability to repay the loan. These
factors are broad enough to cover many of the kinds of specific
considerations suggested by University of Pittsburgh, including its
suggestion that members consider the industry that the loan involves.
Definition of ``Customer''
Under the proposed rule change, the rule's prohibition would extend
to arrangements with any customer who, within the previous six months,
had a securities account assigned to the registered person at any
member firm.\53\ NASAA suggests that the period of time used in
proposed Rule 3240.02 should be one year, instead of six months,
because Rule 4111 (Restricted Firm Obligations) uses a one-year
lookback period.\54\
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\53\ See proposed Rule 3240.02.
\54\ PIABA also suggests that the period of time used in
proposed Rule 3240.02 should be one year or more, instead of six
months, and cites the time it could take to ``unwind some position a
registered representative might recommend.'' It is unclear, however,
what kinds of positions this comment pertains to or what would need
to be unwound.
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The Rule 4111 lookback periods (including, among others, the one-
year lookback period that pertains to ``Registered Persons In-Scope''
\55\) impact how Rule 4111 identifies firms with a significant history
of misconduct. FINRA, however, has proposed a six-month period of time
to align proposed Rule 3240.02 with the six-month period in the
definition of ``customer'' in Rule 3241, because Rule 3241 addresses
similar potential conflicts of interest as Rule 3240.\56\ Moreover,
FINRA believes the six-month lookback period in proposed Rule 3240.02
strikes an appropriate balance between achieving the regulatory
objective of addressing circumvention of the proposed rule change and
imposing requirements that are reasonable and appropriate, including
reasonable requirements on members in tracking transfers of customers'
accounts.\57\
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\55\ See Rule 4111(i)(13).
\56\ Like Rule 3240, Rule 3241 addresses situations that may
create potential conflicts of interest between registered persons
and their customers. Specifically, Rule 3241 addresses the potential
conflicts that registered persons may face when they are named a
customer's beneficiary, executor or trustee, or hold a power of
attorney or similar position for or on behalf of a customer. It
limits any registered person from being named a beneficiary,
executor or trustee, or to have a power of attorney or similar
position of trust for or on behalf of a customer, and protects
investors by requiring members to affirmatively address registered
persons being named beneficiaries or holding positions of trusts for
customers. See Regulatory Notice 20-38 (Oct. 29, 2020).
\57\ Prior to the adoption of Rule 3241, many members
``prohibit[ed] or impos[ed] limitations on being named as a
beneficiary or to a position of trust when there is not a familial
relationship,'' but FINRA ``observed situations where registered
representatives tried to circumvent firm policies, such as resigning
as a customer's registered representative [and] transferring the
customer to another registered representative.'' See Regulatory
Notice 20-38. ``To address attempted circumvention of the
restrictions (e.g., by closing or transferring a customer's
account),'' FINRA defined ``customer'' in Rule 3241 to include ``any
customer that has, or in the previous six months had, a securities
account assigned to the registered person at any member firm.'' Id.;
Rule 3241.01. When proposing Rule 3241, FINRA explained that the
inclusion of the six-month look-back period ``is important in
addressing potential conflicts of interest and circumvention of the
proposed rule change.'' See Securities Exchange Act Release No.
89218 (July 2, 2020), 85 FR 41249, 41256 (July 9, 2020) (Notice of
Filing of File No. SR-FINRA-2020-20). FINRA further explained, in
response to a comment suggesting that the proposed definition of
``customer'' include a 12-month lookback provision, that it
``believes the six-month period strikes an appropriate balance
between achieving the regulatory objective of addressing
circumvention of the proposed rule change by transferring the
customer account to another representative and imposing reasonable
requirements on member firms in tracking account transfers.'' Id.
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Supervision and Customer-Disclosure Requirements
NASAA suggested that members should be required to incorporate
specific supervisory procedures for assessing, and after approving, a
borrowing or lending arrangement. Specifically, NASAA commented that
the member should be required to document (1) the steps it undertook to
assess the risk prior to approving the arrangement; (2) the steps it
will take to minimize the conflict of interest; (3) how it communicated
to the customer the risk created by the lending arrangement or
repayment terms so that the customer appreciates the risk; and (4) an
outline of the supervisory measures that it will take. Regarding the
member's assessment of a borrowing or lending arrangement, NASAA
contended that the rule should require members to evaluate borrowing
and lending arrangements, and that the member's assessment should
include an interview (preferably by a compliance officer) with the
customer outside of the presence of the registered person or, where
that is not possible, other verification that the customer benefits
from and entered into the arrangement on his or her own volition and
without pressure. Regarding supervision after approving an arrangement,
NASAA commented that members should closely monitor the account of a
customer who is a party to a borrowing or lending arrangement and
impose formal conditions, apply heightened scrutiny to these accounts
on an ongoing, annual review basis, place the registered person on
heightened supervision, and conduct additional reviews on trades and
transactions to ensure that recommendations are suitable. Similarly,
Malecki commented that all loans except for educational debt for
children should be supervised, and that ``supervision of loans'' should
be aligned with FINRA rules regarding outside business activities and
private securities transactions.\58\
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\58\ See Rules 3270 (Outside Business Activities of Registered
Persons) and 3280 (Private Securities Transactions of an Associated
Person).
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The fundamental approach of FINRA's supervision rule is to require
members to establish and maintain a system to supervise the activities
of each associated person that is ``reasonably designed'' to achieve
compliance with applicable securities laws and regulations, and with
applicable FINRA rules.\59\ Likewise, the written supervisory
procedures required by FINRA's supervision rule must be ``reasonably
designed'' to achieve compliance with applicable securities laws and
regulations, and with applicable FINRA rules.\60\ In guidance, FINRA
has previously explained that written supervisory procedures should
include a description of the controls and procedures used by members to
deter and detect misconduct and improper activity.\61\ Additionally, at
a minimum, written supervisory procedures should include and describe
(1) the specific identification of the individual(s) responsible for
supervision; (2) the supervisory steps and reviews to be taken by the
appropriate supervisor; (3) the frequency of such reviews; and (4) how
such reviews shall be documented.\62\ FINRA does not believe
[[Page 3978]]
it is necessary or appropriate to further prescribe specific
supervisory procedures that members should use when supervising for
compliance with Rule 3240.
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\59\ See Rule 3110(a); see also NASD Notice to Members 99-45
(June 1999).
\60\ See Rule 3110(a)(1) and (b)(1).
\61\ See NASD Notice to Members 98-96 (December 1998); see also
NASD Notice to Members 99-45, supra note 59.
\62\ See NASD Notice to Members 98-96, supra note 61; see also
NASD Notice to Members 99-45, supra note 59.
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In response to the comments, however, FINRA is proposing stronger
controls for when a member considers whether to approve a borrowing or
lending arrangement or, where there is a pre-existing borrowing or
lending arrangement, a new broker-customer relationship--specifically,
the proposed requirement that a member, upon receiving written notice
under Rule 3240, perform a ``reasonable assessment'' of the risks and a
``reasonable determination'' of whether to approve the arrangement or
new broker-customer relationship, as the case may be.\63\ As explained
above, FINRA intends that a member's reasonable assessment and
reasonable determination would be informed by the guidance that FINRA
provided in Notice 21-43 concerning the factors members may consider
when assessing whether to approve a borrowing or lending arrangement.
FINRA believes this guidance would help members, when performing the
reasonable assessments and determinations required under the proposed
rule change, evaluate the key risks and conflicts and afford
appropriate flexibility in evaluating which factors may apply to a
particular situation.\64\
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\63\ See proposed Rule 3240.06.
\64\ With respect to Malecki's comment that ``supervision of
loans'' should be aligned with FINRA rules regarding outside
business activities and private securities transactions, FINRA notes
that Rule 3270 does not require members to ``supervise'' outside
business activities. However, if a loan constitutes a private
securities transaction, then Rule 3280--and any applicable
supervisory obligations--would apply. See Rule 3280(c)(2)
(discussing supervisory requirements involving private securities
transactions for compensation); 3280(d) (discussing private
securities transactions not for compensation, where a member may
``at its discretion'' require the person to adhere to specified
conditions); 3280(e)(1) (defining ``private securities transaction''
and several exclusions to that definition).
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In a related comment, NASAA suggested that FINRA should require
registered persons, at a minimum, to disclose to customers the factors
listed in the guidance provided in Notice 21-43. Although NASAA refers
to those factors as ``the Proposal's recommended disclosures,'' the
factors in Notice 21-43 are intended to help guide a member's
assessment of whether to approve a loan; they were not designed or
intended to be the basis of customer disclosures about a loan.
Nevertheless, FINRA notes that that guidance states that FINRA expects
a member, if possible and as part of the member's evaluation of whether
to approve a borrowing or lending arrangement, to try to discuss the
arrangement with the customer.
Retroactivity
NASAA commented that applying the proposed rule change
retroactively could provide benefits to investors and recommended
retroactive disclosure of pre-existing borrowing and lending
arrangements.\65\ FINRA seeks, however, to avoid creating situations
that would require registered persons and customers to terminate
borrowing or lending arrangements or broker-customer relationships
that, when entered into, were permissible under the current version of
Rule 3240. In general, the proposed rule change would not apply
retroactively to borrowing or lending arrangements that were entered
into prior to the effective date of the proposed rule change and were
permissible under the current version of Rule 3240.\66\ Rather, the
proposed rule change would apply only to (1) new arrangements and new
broker-customer relationships that occur after the effective date of
the proposed rule change; and (2) modifications that occur after the
effective date of the proposed rule change of borrowing or lending
arrangements that were entered into before the effective date.\67\
Although FINRA is not proposing to require members to re-evaluate
previously approved arrangements, members would have the discretion to
do so.\68\
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\65\ FINRA assumes that NASAA's comment about ``pre-existing''
arrangements concerns arrangements that were entered into before the
effective date of the proposed rule change.
\66\ For example, the proposed rule change to narrow the
personal relationship exception would not apply retroactively to a
borrowing or lending arrangement that was entered into prior to the
effective date of the proposed rule change and that was permissible
under the current personal relationship exception.
\67\ FINRA reiterates, however, that the current rule's general
prohibition against borrowing and lending arrangements between
registered persons and customers already applies to arrangements
that pre-existed the formation of the broker-customer relationship,
and that the proposed rule change would clarify that scope.
\68\ FINRA also notes that FINRA's supervision rule would
require a member to follow-up on ``red flags'' indicating
problematic activity related to borrowing or lending arrangements
between registered persons and their customers, including
arrangements that were entered into prior to the effective date of
the proposed amendments. See Securities Exchange Act Release No.
89218 (July 2, 2020), 85 FR 41249, 41251 (July 9, 2020) (Notice of
Filing of File No. SR-FINRA-2020-20) (explaining that Rule 3110
(Supervision) includes the ``longstanding obligation to follow-up on
`red flags' indicating problematic activity'').
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Harmonization of Regulatory Approaches to Financial Professionals'
Borrowing and Lending Arrangements
In Notice 21-43, FINRA described some similarities and differences
between Rule 3240 and the federal and state regulatory approaches for
investment advisers and their supervised persons. FINRA sought to
encourage and inform a broader dialogue about whether the similar risks
presented when any financial professional borrows from or lends money
to customers warrants a more uniform approach to regulating this
activity. SIFMA commented that it welcomes a discussion on harmonizing
the regulatory approaches, where appropriate.
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 (https://www.sec.gov/rules/sro.shtml); or
Send an email to [email protected]. Please include
file number SR-FINRA-2024-001 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-2024-001. 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
[[Page 3979]]
post all comments on the Commission's internet website (https://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 website 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 a.m. and 3 p.m. Copies of such
filing also will be available for inspection and copying at the
principal office of FINRA. Do not include personal identifiable
information in submissions; you should submit only information that you
wish to make available publicly. We may redact in part or withhold
entirely from publication submitted material that is obscene or subject
to copyright protection.
All submissions should refer to file number SR-FINRA-2024-001 and
should be submitted on or before February 12, 2024.
For the Commission, by the Division of Trading and Markets,
pursuant to delegated authority.\69\
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\69\ 17 CFR 200.30-3(a)(12).
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Sherry R. Haywood,
Assistant Secretary.
[FR Doc. 2024-01068 Filed 1-19-24; 8:45 am]
BILLING CODE 8011-01-P
