Sales

Reg BI

Regulation Best Interest: The Broker-Dealer Standard of Conduct

This Notice reminds members of the SEC’s adoption of a best interest standard of conduct for broker-dealers and a relationship summary (Form CRS) delivery obligation and provides an SEC email address where members may submit questions about the new requirements. As more fully described in the Notice, the SEC encourages firms to actively engage with SEC staff as early as possible as questions arise when planning for implementation. Firms may send their questions by email to IABDQuestions@sec.gov. FINRA also will assist members in their implementation of the best interest standard in various ways.

• FINRA Regulatory Notice 19-26 (August 7, 2019): SEC Adopts Best Interest Standard of Conduct

Reg BI establishes a standard of conduct for broker-dealers and natural persons who are associated persons of a broker-dealer when they make a recommendation to a retail customer of any securities transaction or investment strategy involving securities (“Regulation Best Interest”). Regulation Best Interest enhances the broker-dealer standard of conduct beyond existing suitability obligations, and aligns the standard of conduct with retail customers’ reasonable expectations by requiring broker-dealers, among other things, to: (1) act in the best interest of the retail customer at the time the recommendation is made, without placing the financial or other interest of the broker-dealer ahead of the interests of the retail customer; and (2) address conflicts of interest by establishing, maintaining, and enforcing policies and procedures reasonably designed to identify and fully and fairly disclose material facts about conflicts of interest, and in instances where the SEC has determined that disclosure is insufficient to reasonably address the conflict, to mitigate or, in certain instances, eliminate the conflict. The standard of conduct established by Regulation Best Interest cannot be satisfied through disclosure alone. The standard of conduct draws from key principles underlying fiduciary obligations, including those that apply to investment advisers under the Investment Advisers Act of 1940.

Importantly, regardless of whether a retail investor chooses a broker-dealer or an
investment adviser (or both), the retail investor will be entitled to a recommendation (from a broker-dealer) or advice (from an investment adviser) that is in the best interest of the retail investor and that does not place the interests of the firm or the financial professional ahead of the interests of the retail investor.

The compliance date for this rule was June 30, 2020.

• Securities Exchange Act Release No. 86031 (June 5, 2019)84 FR 33318 (July 12, 2019): Regulation Best Interest: The Broker-Dealer Standard of Conduct (Final Rule)

 

FINRA Topic Page: SEC Regulation Best Interest (Reg BI)

 

Reg BI-Related Changes to FINRA Rules

FINRA has amended its suitability rule, Capital Acquisition Broker (CAB) suitability rule and rules governing non-cash compensation to provide clarity on which standard applies and to address potential inconsistencies with the SEC’s
Regulation Best Interest (Reg BI). These changes have been approved by the SEC and became effective on June 30, 2020, the compliance date of Reg BI.

• FINRA Regulatory Notice 20-18 (June 19, 2020): FINRA Amends its Suitability, Non-Cash Compensation and Capital Acquisition Broker (CAB) Rules in Response to Regulation Best Interest

Arbitration

Predispute Arbitration Agreements in Customer Agreements

FINRA reminds member firms about requirements when using predispute arbitration agreements for customer accounts. Where member firms use mandatory arbitration clauses in their customer agreements, FINRA rules establish minimum disclosure requirements regarding the use of such clauses and prohibit predispute arbitration agreements from including conditions that, among other things, limit or contradict FINRA rules. In addition, FINRA rules do not allow class action claims in FINRA arbitration. Accordingly, FINRA rules prohibit member firms from incorporating provisions that would prevent customers from bringing or participating in judicial class actions by adding waiver language into customer agreements (class action waivers) and prohibit member firms from enforcing arbitration agreements against members of a certified or putative class action. FINRA urges member firms to take prompt steps to ensure their customer agreements fully comply with FINRA rules. Member firms that fail to comply with FINRA rules related to customer agreements may be subject to disciplinary action.

• FINRA Regulatory Notice 21-16 (April 21, 2021): FINRA Reminds Members About Requirements When Using Predispute Arbitrations Agreements for Customer Accounts

Sales Practice

FINRA Adopts Rule to Limit a Registered Person Being Named a Customer’s Beneficiary or Holding a Position of Trust for a Customer

FINRA adopted a new rule to limit any associated person of a member firm who is registered with FINRA 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. FINRA Rule 3241 (Registered Person Being Named a Customer’s Beneficiary or Holding a Position of Trust for a Customer) protects investors by requiring all member firms to affirmatively address registered persons being named beneficiaries or holding positions of trusts for customers. The rule requires the member firm with which the registered person is associated, upon receiving required written notice from the registered person, to review and approve or disapprove the registered person assuming such status or acting in such capacity. The rule does not apply where the customer is a member of the registered person’s “immediate family.” Rule 3241 became effective on February 15, 2021.

• FINRA Regulatory Notice 20-38 (October 29, 2020): Registered Person Being Named a Customer’s Beneficiary or Holding a Position of Trust for a Customer

 

FINRA Topic Page: Conflicts of Interest

 

(New) Alternative Mutual Funds

Recently, FINRA took enforcement action against several firms for failing to establish or maintain a reasonably designed supervisory system for recommendations of alternative mutual funds, also sometimes referred to as “alt funds” or “liquid alts” (“Alt Funds”). FINRA is continuing to note such deficiencies in its examinations and communications reviews of such products.

• FINRA Regulatory Notice 22-11 (April 19, 2022): FINRA Reminds Firms of Their Sales Practice Obligations for Alternative Mutual Funds

 

Rules to Address Brokers with a History of Misconduct

FINRA has adopted new rules to address brokers with a significant history of misconduct and the broker-dealers that employ them.

• FINRA Regulatory Notice 21-09 (March 10, 2021): FINRA Adopts Rules to Address Brokers with a Significant History of Misconduct

Private Placements

FINRA Amends Rules 5122 and 5123 Filing Requirements

FINRA has adopted changes to FINRA Rules 5122 (Private Placements of Securities Issued by Members) and 5123 (Private Placements of Securities) to require members to file retail communications that promote or recommend private placement offerings that are subject to those rules’ filing requirements. The new filing requirements became effective on October 1, 2021.

• FINRA Regulatory Notice 21-26 (July 15, 2021): Private Placement Retail Communications

 

FINRA Updates Private Placement Filer Form

FINRA has updated the form that members must use to file offering documents and information pursuant to FINRA Rules 5122 (Private Placements of Securities Issued by Members) and 5123 (Private Placements of Securities) (Filer Form). The updated Filer Form will be accessible in the FINRA Gateway beginning May 22, 2021, and includes new and updated questions that will facilitate review of
the filed material. Beginning on May 22, 2021, members are required to complete the updated Filer Form for all new filings, as well as for new amendments to filings.

• FINRA Regulatory Notice 21-10 (March 11, 2021): Private Placement Filer Form

Products

(New) Complex Products and Options

The availability of complex products and options can potentially expand the investment opportunities for retail investors and, if properly understood, offer favorable investment outcomes (e.g., enhancing returns, limiting losses or improving diversification). However, important regulatory concerns arise when investors trade complex products without understanding their unique characteristics and risks. Like complex products, trading in options may pose risks if investors do not have the financial experience to understand options and options trading strategies. Therefore, we have taken steps to address complex products and options over the years, including publishing guidance regarding sales practice concerns raised by complex products and options; issuing investor-focused alerts to highlight the risks of these products; adopting rules with specific requirements for particular complex products and for options; and examining members for compliance with SEC and FINRA rules. The number of accounts trading in complex products and options has increased significantly in recent years. As a result, we are again reminding members of their current regulatory obligations, including, as discussed below, the application of Regulation Best Interest (Reg BI) when broker-dealers and their associated persons make securities recommendations, and recommendations of investment strategies involving securities, to retail customers. In addition, we are soliciting comment on: (1) effective practices that members have developed for complex products and options, particularly when retail investors are involved; and (2) whether the current regulatory framework, which was adopted at a time when the majority of individuals accessed financial products through financial professionals, rather than through self-directed platforms, is appropriately tailored to address current concerns raised by complex products and options.

• FINRA Regulatory Notice 22-08 (March 8, 2022): Complex Products and Options

Investment Company Products

Investment Company Products

Many investment companies provide sales charge discounts and waivers on their products for customers in certain circumstances described in their product offering documents (e.g., prospectuses or statements of additional information). These include volume-based discounts, such as breakpoints and waivers, on mutual fund exchanges. Failure to apply these discounts or waivers correctly may adversely affect customers’ rates of return on their investment and contravenes firms’ obligations under FINRA rules.

FINRA is issuing this Notice to:
• remind firms of their obligation to understand and, as appropriate, apply sales charge discounts and waivers for eligible customers;
• provide an overview of common sales charge discounts and waivers;
• share frequently observed findings in examinations and enforcement matters; and
• note considerations firms should review to improve their compliance programs.

• FINRA Regulatory Notice 21-07 (March 4, 2021): FINRA Provides Guidance on Common Sales Charge Discounts and Waivers for Investment Company Products

Options

(New) Options Customer Account Approval and Supervision

Cboe reminds Trading Permit Holders and Members (collectively “Members”) of the approval requirements for customers seeking to trade options in their account. Members are prohibited from accepting orders from a customer to purchase or write an option contract unless the customer’s account has been approved for options transactions in accordance with the provisions set forth in the Exchanges’ rules governing the opening of accounts.

• CBOE Regulatory Circular 22-007 (March 15, 2022): Option Customer Account Approval and Supervision

 

Cboe Receives Regulatory Approval to Launch Periodic Auctions for U.S. Equities Trading

On March 29, 2021, Cboe announced it received SEC approval to introduce periodic auctions on Cboe BYX Equities Exchange. Cboe expects to launch U.S. periodic auctions in the third quarter of 2021.Cboe's U.S. periodic auctions are designed to allow market participants to access frequent, price-forming auctions throughout the course of the trading day, thereby helping them find liquidity in a short timeframe with low market impact, while prioritizing price and size. Periodic auctions of one-hundred milliseconds will be initiated when there are matching auctionable buy and sell orders available to trade in the auction. The message identifying when an auction is available will be randomized, helping to mitigate any potential adverse selection. Periodic auctions will not interrupt trading in the continuous market and will execute at a price level that maximizes volume executed in the auction, including any orders posted on the BYX order book.

• Cboe Global Markets News and Events (March 29, 2021)

Municipal Securities

SEC Approves Amendments to Rules G-10 and G-48 Clarifying Notification Requirements for Dealers

On October 5, 2021, the MSRB received approval from SEC for a rule change consisting of amendments to Rule G-10, on investor and municipal advisory client education and protection, clarifying and aligning the requirements for brokers, dealers and municipal securities dealers to provide required notifications under the rule directly to those customers for whom a purchase or sale of a municipal security was effected in the past year and to each customer who holds a municipal securities position. The SEC also approved an accompanying amendment to Rule G-48, on transactions with sophisticated municipal market professionals (SMMPs), allowing dealers to conditionally excluded SMMPs from the requirements under Rule G-10(a). The rules became effective on October 12, 2021.

• MSRB Regulatory Notice 2021-13 (October 6, 2021): SEC Approves Amendments to Rules G-10 and G-48 Clarifying Notification Requirements for Dealers