The MSRB published an interpretive notice (“Notice”) clarifying the requirements of Rule G-27, as amended (the “Rule”).1 The Notice clarifies that the Rule applies only to those registered persons and offices engaged in municipal securities activities and summarizes new supervisory requirements that are modeled after NASD Conduct Rules 3010 and 3012. The Notice provides broker-dealers increased flexibility in how they structure their supervisory systems by replacing all references in the Rule to “offices of supervisory jurisdiction” (“OSJs”) with “offices of municipal supervisory jurisdiction” (“Muni OSJs”) and clarifies the supervisory roles that can be carried out by different categories of principals. The Notice also makes certain technical amendments to the Rule. The new supervisory requirements become effective on February 29, 2008.
On May 22, 2007, the Securities and Exchange Commission (the “SEC”) approved amendments to MSRB Rule G-27 that required broker-dealers selling municipal securities to enhance their supervisory structures.2 Subsequently, the MSRB published an interpretive notice indicating, among other things, that broker-dealers must designate one or more appropriately registered principals in each OSJ.3 The interpretive notice raised a number of questions as to how the Rule would operate. The current Notice is designed to address these questions by providing guidance on the Rule’s applicability and on how broker-dealers may structure their supervisory systems.
Summary of the Notice
Rule G-27 Applicable Solely to Municipal Securities Activities. The Notice states, as a general principle, that the requirements of the Rule apply only with respect to persons and offices engaged in municipal securities activities (regardless of the level or amount of such municipal securities activities).
Supervisory System. The new supervisory requirements, as amended by technical amendments discussed in the Notice, require each broker-dealer to establish and maintain a system to supervise the municipal securities activities of each associated person that is reasonably designed to achieve compliance with applicable MSRB rules, as well as with other securities laws and regulations applicable to the broker-dealer’s municipal securities activities.
Written Supervisory Procedures. A broker-dealer’s written supervisory procedures must, at a minimum, establish procedures for: monitoring compliance with applicable rules and supervising municipal securities representative activities; handling customer complaints regarding the broker-dealer’s municipal securities activities; reviewing and approving customer accounts in which transactions in municipal securities are effected; reviewing periodically each office engaging in municipal securities activities; maintaining and preserving the books and records related to municipal securities activities; supervising the processing, clearance and safekeeping of municipal securities; promptly reviewing and approving in writing the opening of each customer account in which transactions in municipal securities may be effected and each transaction in municipal securities on a daily basis; reviewing incoming and outgoing written and electronic correspondence with the public relating to the broker-dealer municipal securities activities; and testing and verifying the broker-dealer’s supervisory procedures through supervisory control policies and procedures.
Appropriate Principal. Under the Rule, each broker-dealer must designate (and maintain a written record of) appropriate principals responsible for supervising the municipal securities activities of the firm and its associated persons. The Rule sets forth the permitted supervisory responsibilities for each of the following categories of registered principals:
- Municipal Securities Principal (Series 53) – may be responsible for all of the broker-dealer’s supervisory functions as they relate to municipal securities, except as otherwise required or permitted to be undertaken by a different category of registered principal as described below;
- Municipal Fund Securities Limited Principal (Series 51) – may be responsible for all of the broker-dealer’s supervisory functions, but only as they relate exclusively to municipal fund securities and except as otherwise required or permitted to be undertaken by a different category of registered principal as described below;
- Financial and Operations Principal (Series 28) – in the case of a non-bank broker-dealer, shall be responsible for supervisory functions relating to books and records and functions relating to financial reports;4
- General Securities Sales Supervisor/Municipal Securities Sales Principal (Series 9 and 10) – may be responsible for customer complaints, periodic review of customer accounts, approval of customer account opening, review of transactions, and correspondence; and
- General Securities Principal (Series 24) – may be responsible for books and records, approval of customer account opening, Form U4 and information on associated persons and approval of advertising.
Office of Municipal Supervisory Jurisdiction. Under the Notice, broker-dealers are required to designate Muni OSJs, which are defined as offices at which any of the following functions take place with respect to municipal securities: order execution and/or market making with respect to municipal securities, structuring of public offerings or private placements of municipal securities, maintaining custody of customers’ funds and/or municipal securities, final acceptance (approval) of new accounts holding municipal securities, review and endorsement of customer orders of municipal securities, final approval of advertising of municipal securities, and responsibility for supervising the municipal securities activities of persons at one or more other municipal branch offices (“Muni Branch Offices”).5
According to the Notice, a broker-dealer’s Muni OSJs may, but are not required to, correspond with the offices that the firm has designated as OSJs for purposes of NASD Conduct Rule 3010 (“General OSJs”), depending on the structure and extent of a firm’s municipalsecurities activities. Broker-dealers should review the municipal securities activities being undertaken in each of their offices to determine whether an office must be designated as a Muni OSJ. A General OSJ that does not undertake any of the municipal securities activities enumerated above is not required to be designated as a Muni OSJ. In addition, depending on the supervisory procedures established by a particular broker-dealer and subject to the factors that should be considered in designating its Muni OSJs (see footnote 6), a muni branch office’s municipal securities activities may be supervised from a Muni OSJ that is different from the General OSJ that supervises the non-municipal securities activities of such office.6
Designation of Appropriate Principals. Broker-dealers are required to designate one or more appropriately registered principals in each Muni OSJ and one or more appropriately registered representatives or principals in each Muni Branch Office with authority to carry out the supervisory responsibilities assigned to that office by the broker-dealer. The Notice indicates that as a general matter, one or more municipal securities principals must be designated for each Muni OSJ. However, the Notice clarifies that the type of municipal principal required to be designated at each office depends on the municipal securities activities conducted at the office. For example, in the case of a broker-dealer’s Muni OSJ where municipal securities activities relate solely to municipal fund securities, the broker-dealer may designate a municipal fund securities limited principal with respect to such Muni OSJ. Likewise, where a Muni OSJ’s only municipal securities activities are those that can be supervised by a general securities principal, such as with respect to books and records, approval of customer account opening, Form U4 and information on associated persons and/or approval of advertising, the broker-dealer may designate a general securities principal with respect to such Muni OSJ.
Miscellaneous. The Rule incorporates provisions contained in NASD Conduct Rules 3010 and 3012 relating to, among other things, assignment of registered persons, qualification of supervisory personnel, tape recording of conversations, mandatory inspection cycles and independent office inspections, heightened inspection requirements, supervisory control procedures, and supervision of producing managers’ customer account activity. The Notice makes technical corrections to some of these provisions in order to clarify the scope and operation of the Rule.7