On Aug. 11, 2009, the Securities and Exchange Commission ("SEC") provided notice of FINRA's proposal to adopt NASD Rule 2350 (Broker/Dealer Conduct on the Premises of Financial Institutions), also known as the "Bank Broker-Dealer Rule," as FINRA Rule 3160 (Networking Arrangements Between Members and Financial Institutions) in the Consolidated FINRA Rulebook. Comments must be submitted by Sept. 8, 2009.
Overview of Current Rule 2350
NASD Rule 2350 governs the activities of broker-dealers that conduct business on the premises of a bank where retail deposits are taken, and requires the broker-dealer to: (1) enter into a written agreement with the bank specifying each party's responsibilities and the terms of compensation (networking agreement); (2) segregate the securities activities conducted on the premises of the bank from the retail deposit-taking area; (3) allow access for inspection and examination by the SEC and FINRA; (4) ensure that communications with customers clearly identify that the broker-dealer services are provided by the broker-dealer and not the bank; (5) disclose to customers that the securities products offered by the broker-dealer are not insured like other banking products; and (6) make reasonable efforts during account opening to obtain a customer's written acknowledgement of the receipt of such disclosure. NASD Rule 2350 applies only when broker-dealer services are conducted either in person, over the telephone, or through any other electronic medium, on the premises of a bank where retail deposits are taken, by a broker-dealer that has a physical presence on those premises. NASD Rule 2350 was adopted to reduce potential customer confusion in dealing with broker-dealers that conduct business on the premises of banks, and to clarify the relationship between a broker-dealer and a bank entering into a networking agreement.
Overview of Proposed FINRA Rule 3160
FINRA proposes to adopt NASD Rule 2350 into the Consolidated FINRA Rulebook as Proposed FINRA Rule 3160, subject to certain changes (as discussed below) that are intended to streamline the rule and to reflect certain provisions in the Gramm-Leach Bliley Act of 1999 ("GLB'') and Regulation R.*
- Brokerage Services Provided On or Off Premises of a Bank. Proposed FINRA Rule 3160 would amend the scope of NASD Rule 2350 to conform to the "networking exception" in GLB and Regulation R. Currently, NASD Rule 2350 only applies to broker-dealers offering brokerage services on a bank's premises. The "networking exception" under GLB applies to networking arrangements in which the broker-dealer offers brokerage services on or off a bank's premises. Accordingly, Proposed FINRA Rule 3160 would apply to networking arrangements between a bank and a broker-dealer, regardless of whether the broker-dealer is conducting services on or off the premises of the bank.
- Setting – Broker's Presence on Bank Premises. Proposed FINRA Rule 3160 makes certain minor changes to NASD Rule 2350(c)(1), which sets forth the requirements regarding a broker-dealer's "setting" or presence on the premises of a bank. In an effort to align Proposed FINRA Rule 3160 with the language in the "networking exception" under GLB and Regulation R, the proposed rule provides that a broker-dealer conducting broker services on the premises of a bank:
- Be clearly identified as the person performing broker-dealer services and distinguish its broker-dealer services from the services of the bank;
- Conduct its broker-dealer services in an area that displays clearly the broker-dealer's name; and
- To the extent practicable, maintain its broker-dealer services in a location physically separate from the routine retail deposit-taking activities of the bank.
- Networking Arrangements. Proposed FINRA Rule 3160 amends the provisions in NASD Rule 2350(c)(2) regarding networking agreements to require that broker-dealers, in addition to other contractual obligations that may be in a networking agreement, agree to comply with all broker-dealer obligations set forth in Rule 701 of Regulation R. Rule 701 allows a bank employee to receive a contingent referral fee not subject to the "nominal amount" restriction, so long as the client referred to the broker-dealer by the bank employee is an "institutional" or "high net worth" client and certain requirements in Rule 701 are satisfied. Thus, under Proposed FINRA Rule 3160, a networking agreement between the broker-dealer and the bank must incorporate the requirements applicable to contingent referral fees set forth in Rule 701.
- Customer Disclosure and Acknowledgements. NASD Rule 2350(c)(3) requires broker-dealers to make certain disclosures to customers, at or prior to account opening, regarding securities products, and to make reasonable efforts to obtain a customer's written acknowledgement of the receipt of such disclosures at account opening. Such disclosures include that the securities products are: (1) not insured by the Federal Deposit Insurance Corporation; (2) not deposits or other obligations of the bank and not guaranteed by the bank; and (3) subject to investment risk, including possible loss of the principal invested. Proposed FINRA Rule 3160 does not incorporate the written acknowledgement requirement, as FINRA believes oral and written disclosure to customers regarding securities products is sufficient, and that requiring a written acknowledgement of receipt from customers is unnecessary.
- Communications with the Public. Proposed FINRA Rule 3160 amends NASD Rule 2350(c)(4) (Communications with the Public) consistent with the extension of Proposed FINRA Rule 3160 to cover broker activities conducted both on and off the premises of a bank. NASD Rule 2350(c)(4) requires advertisements and sales literature that announce the location of the bank where the broker provides services, or that are distributed by a broker on the premises of a bank, to include certain disclosures regarding securities products. Proposed FINRA Rule 3160 would extend the existing disclosure requirement to include all of the broker's advertisements and sales literature that promote the name or services of the bank, or that are distributed by the broker at any other location where the bank is present or represented, without regard to whether the broker is located on the premises of the bank.