The SEC recently published for comment proposed guidance to National Association of Securities Dealers (“NASD”) Rule 3060 and new NYSE Rule 350A (together, the “Proposals”) affecting business entertainment practices of NASD and NYSE member fi rms. Generally, the Proposals, which expand the SEC’s principles-based approach to business entertainment, would require that member fi rms adopt clear, written policies and procedures with respect to entertainment of customers and representatives of customers or prospective customers. Importantly, the Proposals would not apply to entertainment in connection with the sale and distribution of investment company securities or variable contracts – this type of entertainment continues to be regulated by NASD Rules 2820(g) and 2830(l) covering non-cash compensation. Rather, the focus of the Proposals is, for example, entertainment by a member fi rm of a mutual fund portfolio trader for the purpose of generating business related to the mutual fund’s securities transactions.
The Proposals are substantially similar. Generally, they require that member fi rms adopt written policies and procedures that defi ne forms of business entertainment that are appropriate and inappropriate using quantitative and/or qualitative standards that address, among other things, the nature and frequency of business entertainment. In addition, the policies and procedures must impose either specifi c dollar limits on business entertainment or require advance written supervisory approval beyond specifi ed dollar thresholds. Further, the methodology used to calculate the value of business entertainment must be set forth in the policies and procedures; business entertainment expenses should be valued at the higher of face value or cost to the member fi rm.
The policies and procedures must be designed to detect and prevent entertainment that has the intended effect (or could reasonably be perceived to be intended to have the effect) of providing an “improper quid pro quo or that could otherwise give rise to a potential confl ict of interest or undermine the performance of a customer representative’s duty to a customer or any person to whom the customer owes a fi duciary duty.” The member fi rm’s policies and procedures must also establish standards to ensure that supervisors are suffi ciently qualifi ed and that all personnel are properly trained with regard to the policies and procedures.
Under the Proposals, member fi rms may continue to provide business entertainment in connection with events that are deemed to be primarily educational, charitable or philanthropic – however, the member fi rm must have specifi cally tailored and explicit policies and procedures for this type of entertainment, which must otherwise comply with the Proposals. This is an important exception affecting investment advisers, many of whom sponsor educational events to which member fi rms are often invited.
The Proposals also require that detailed records of entertainment expenses be kept, with certain de minimis exceptions, and that the member fi rm’s recordkeeping requirements be structured so as to prevent circumvention of the de minimis requirements. There are also de minimis exceptions for certain of the Proposals if a member fi rm’s total business entertainment expenses are below $7,500 in a fi scal year.
The NASD and NYSE expect that the effective date of the Proposals will be six months following SEC approval