difference between rule 2111 and rule 2330

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difference between rule 2111 and rule 2330

See, e.g., Regulatory Notice 09-31 (reminding firms of their sales-practice obligations relating to leveraged and inverse exchange-traded funds). For example, the recommendation of a large-cap, value-oriented equity security generally would not require written documentation as to the recommendation. In general, the focus remains on whether the recommendation was suitable at the time when it was made. A broker-dealer "also must evaluate the proposed activity to determine whether the activity properly is characterized as an outside business activity or whether it should be treated as an outside securities activity subject to the requirement of NASD Rule 3040" (Private Securities Transactions of an Associated Person). 20070091803 (Oct. 20, 2010) (discussing reverse convertibles exposing investors to risks in addition to those risks associated with investment in bonds and bond funds, and having complex pay-out structures involving multiple variables); Jeffrey C. Young, Exchange Act Rel. [Notice 11-25 (FAQ 5)]. 29 FINRA also previously stated that a customer with multiple accounts at a single firm could have different investment profiles or investment-profile factors (e.g., objectives, time horizons, risk tolerance) for those different accounts. Should the investment experience of a guardian, custodian, trustee or similarly situated third party managing an account be taken into consideration when making account recommendations? 73 Robin B. McNabb, 54 S.E.C. See, e.g., FINRA Rule 2010 (Standards of Commercial Honor and Principles of Trade); FINRA Rule 3270 (Outside Business Activities of Registered Persons); Rule 2210 (Communications with the Public); see also Ialeggio v. SEC, No. Reasonable-basis suitability has two main components: a broker must (1) perform reasonable diligence to understand the potential risks and rewards associated with a recommended security or strategy and (2) determine whether the recommendation is suitable for at least some investors based on that understanding. Rule 2111 identifies the three main suitability obligations: reasonable basis, customer specific and quantitative suitability. The rule expands the definition of what is a recommendation to include investment strategies and also expands the amount of information to be collected for each recommendation. [Notice 12-55 (FAQ 10(b)]. Some customers with long time horizons may not desire to take on such risk and others, because of considerations outside their time horizons, are unable to do so. In that context, a firm may want to focus on hold recommendations involving securities that by their nature or due to particular circumstances could be viewed as having a shorter-term investment component, that have a periodic reset or similar mechanism that could alter the product's character over time, that are particularly susceptible to changes in certain market conditions, or that are otherwise potentially risky to hold at the time when the recommendations are made. Brokers cannot fulfill their suitability responsibilities to customers (including both their reasonable-basis and customer-specific obligations) when they fail to understand the securities and investment strategies they recommend. [Notice 12-25 (FAQ 24)]. 20 FINRA notes that there are SEC and other FINRA rules that explicitly require specific types of documentation. 1 See, e.g., Regulatory Notice 11-02, at 2-3 (discussing FINRA's guiding principles that firms and brokers should consider when determining whether a particular communication could be considered a "recommendation" for purposes of the suitability rule); Regulatory Notice 10-06, at 3-4 (providing guidance on recommendations made on blogs and social networking websites); Notice to Members 01-23 (announcing the guiding principles and providing examples of communications that likely do and do not constitute recommendations); Michael F. Siegel, Exchange Act Rel. 20006005977901, 2011 FINRA Discip. [Notice 12-25 (FAQ 12)], A9.1. [Notice 12-55 (FAQ 6(a))], A2.1. 1990). LEXIS 36, at *22 (NAC Oct. 3, 2011) (same); Dep't of Enforcement v. Cody, No. Q8.2. In addition, FINRA explained that, where a firm allows a customer to use different investment profiles or factors for different accounts rather than using a single customer profile for all of the customer's accounts, a firm could not borrow profile factors from the different accounts to justify a recommendation that would not be appropriate for the account for which the recommendation was made. For example, a firm should, among other things, clarify the customer's intent and, if necessary, reconcile and/or determine how it will handle the customer's differing investment objectives. 46 FINRA made similar points regarding recommended investment strategies on several occasions under the predecessor suitability rule. As FINRA has stated previously, "FINRA appreciates that no two [broker-dealers] are exactly alike. 30, 32 n.11 (1992) (stating that transactions a broker effects for a discretionary account are implicitly recommended). 30 See supra note [22] and cases cited therein. Registered representatives can fulfill Continuing Education requirements, view their industry CRD record and perform other compliance tasks. 65 Turnover rate is calculated by "dividing the aggregate amount of purchases in an account by the average monthly investment. 69 Raghavan Sathianathan, Exchange Act Rel. 19 See FINRA Rule 2111.04 (explaining that a firm that decides not to seek to obtain and analyze information about a customer-specific factor must document its reasonable basis for believing that the factor is not a relevant consideration). In limited circumstances, FINRA and the SEC have recognized that certain actions constitute implicit recommendations that can trigger suitability obligations. Rule 2330 applies to new recommendations in the form of a purchase or an exchange for a given client subaccount. 71 See Belden, 56 S.E.C. Firms seeking to rely on the provision should take a conservative approach to determining whether a particular communication is eligible for such treatment. Reg. 70 See Epstein, 2009 SEC LEXIS 217, at *42 (stating that the broker's "mutual fund switch recommendations served his own interest by generating substantial production credits, but did not serve the interests of his customers" and emphasizing that the broker violated the suitability rule "when he put his own self-interest ahead of the interests of his customers"). By way of background, the new suitability rule modifies the institutional-customer exemption that existed under the predecessor rule (NASD IM-2310-3). FINRA cautioned, however, that a firm should evidence a customer's intent to use different investment profiles or factors for the different accounts. 1996) (same); Robert L. Wallace, 53 S.E.C. The suitability rule also would not apply to a firm's allocation recommendation regarding broad-based market sectors (e.g., agriculture, construction, finance, manufacturing, mining, retail, services, transportation and public utilities, and wholesale trade).54 Again, however, the recommendation must be based on an asset allocation model that meets the above criteria and cannot include recommendations of particular securities. 282, 284, 1993 SEC LEXIS 41, at *5 (1993) ("[O]ptions transactions involve a high degree of financial risk. What is the difference between Rule 2111 and Rule 2330? "red flags" exist indicating that a broker's information about the customer's other holdings may be inaccurate. A broker can violate reasonable-basis suitability under either prong of the test. FINRA also emphasizes that broker-dealers are not required to use such certificates to comply with the new institutional-customer exemption. Furthermore, a broker-dealer "must keep a record of its compliance with these obligations with respect to each written notice received and must preserve this record for the period of time and accessibility specified in SEA Rule 17a-4(e)(1)." Rule 2330 requires a registered principal to review and determine whether to approve a customers application for a deferred variable annuity The issuers' identities and creditworthiness are important information in determining whether to purchase a debt security, but there may be other factors that affect the pricing and any decision to invest in specific debt securities. [Notice 12-25 (FAQ 2)], A1.1. [Notice 11-25 (FAQ 3)]. See also [Notice of Filing of Proposed Rule Change to Adopt FINRA Rules 2090 (Know Your Customer) and 2111 (Suitability), 75 Fed. 513, 516-17, 1993 SEC LEXIS 1521, at *9-10 (1993) (same). It also is important to note that, where an institutional customer has delegated decisionmaking authority to an agent, such as an investment adviser or a bank trust department, Rule 2111(b) makes clear that the factors relevant to determining whether the customer meets the criteria for the institutional-customer exemption will be applied to the agent. 76 Howard, 55 S.E.C. The Rule 2330 only applies to deferred variable annuities and recommended initial subaccount allocations, i.e., to purchases and exchanges of deferred variable . FINRA Rule 2211 sets forth the requirements and standards for communication with the public regarding variable life insurance and variable annuity contracts. 1990); Arceneaux v. Merrill Lynch, Pierce, Fenner & Smith, Inc., 767 F.2d 1498, 1502 (11th Cir. [Notice 11-25 (FAQ 10)]. No. A7.1. See Richard G. Cody, Exchange Act Rel. 496, 503, 2003 SEC LEXIS 1154, at *10-11 (2003) ("As we have frequently pointed out, a broker's recommendations must be consistent with his customer's best interests. 12, 2012) (finding that registered representative violated NASD Rules 2310 and 3040 when he recommended unsuitable private securities transactions to investors who were not his firm's customers, received compensation in relation to the transactions and failed to notify his firm of such activity); Maximo J. Guevara, 54 S.E.C. A broker must understand the securities and investment strategies involving a security or securities that he or she recommends to customers.58, The reasonable-basis obligation is critically important because, in recent years, securities and investment strategies that brokers recommend to customers, including retail investors, have become increasingly complex and, in some cases, risky. Q1.4. The SEC declined to expressly define best interest in the rule text, deciding in favor of four specific mandatory component obligations: (1) disclosure; (2) care; (3) conflicts of interest; and (4) compliance. Accordingly, the suitability rule would cover a firm's recommendation that a customer purchase securities using margin, whereas the rule generally would not cover a firm's brochure that simply explains the risks and benefits of margin without suggesting that the customer take action.51, Q4.7. [Notice 11-25 (FAQ 7)]. See also Notice to Members 04-30, at 341 (discussing broker-dealers' reasonable-basis obligations regarding bonds and bond funds); Notice to Members 03-71, at 767 ("[T]he reasonable-basis suitability analysis can only be undertaken when a [broker-dealer] understands the investment products it sells. It is important to note, however, that the suitability rule would not apply to a firm's explanation of a strategy falling outside the safe-harbor provision if a reasonable person would not view the communication as a recommendation. Regulatory Notice 11-02 and a recent SEC staff study on investment adviser and broker-dealer sales-practice obligations cite cases holding that brokers' recommendations must be consistent with their customers' "best interests. [1] Weirdly, Rule 2330 does NOT explicitly cover recommendations involving a strategy, as Rule 2111 does. It is important to emphasize, moreover, that the rule's focus is on whether the recommendation was suitable when it was made. See SEA Rule 17a-3(a)(17)(i). 72 Epstein, 2009 SEC LEXIS 217, at *72; see also Sathianathan, 2006 SEC LEXIS 2572, at *23. No. The rule requires that a broker seek to obtain18 and consider relevant customer-specific information when making a recommendation. While the rule lists some of the aspects of a typical investment profile, not every factor may be relevant to all situations. 64565, 2011 SEC LEXIS 1862 (May 27, 2011); Dep't of Enforcement v. Bendetsen, No. 45402, 2002 SEC LEXIS 284, at *20-21 & n.10 (Feb. 6, 2002) (holding that the defendant broker "controlled" the account because he essentially was a co-conspirator with the institutional customer's investment officer, who was authorized to place orders for the institutional customer's account). 52 Nonetheless, FINRA has stated that the safe-harbor provision would be strictly construed. 83 See Regulatory Notice 11-02, at 8 n.24. 20452 (Apr. "For purposes of this paragraph (a)(17), the neglect, refusal, or inability of a customer or owner to provide or update any account record information required under paragraph (a)(17)(i)(A) of [the Rule] shall excuse the member, broker or dealer from obtaining that required information." [Notice 12-25 (FAQ 15)], A3.2. Notice to Members 04-89, at 3. ), cert. The new rule explains that, "[i]n general, what constitutes reasonable diligence will vary depending on, among other things, the complexity of and risks associated with the security or investment strategy and the [broker-dealer's] familiarity with the security or investment strategy. 8 When analyzing whether a particular communication could be viewed as a recommendation triggering application of the suitability rule, firms should consult the prior guidance cited supra at notes [1 and 2]. No. 2008015651901 (Dec. 15, 2011) (stating that "[r]everse convertibles are complex structured products that combine a debt instrument and put option into one product," the repayment of principal is linked to the performance of an underlying asset, such as a stock, a basket of stocks or an index, which is generally unrelated to the issuer of the note, and at maturity, if the value of the underlying asset has fallen below a certain level, the investor may receive less than a full return of principal); Chase Invs. A customer, for example, may not want to divulge information about "other investments" held away from the broker-dealer in question. See SEA Rule 17a-3(a)(17)(i)(B)(1). 5311, et seq. at 339-40 n.14, 1999 SEC LEXIS 1754, at *17 n.14. A3.7. 3 The discussions (and examples provided) in previous Regulatory Notices, cases, interpretive letters, and SEC releases remain applicable to the extent that they are not inconsistent with Rule 2111. A3.10. at 295. 1990). [Notice 12-25 (FAQ 21)], A3.11. Thus, identifying a more limited universe of debt issuers may not constitute a recommendation if such issuers have many debt securities outstanding, of many maturities, and having distinct structures or features. Each firm has a general obligation to evidence compliance with applicable FINRA rules. ), cert. Yes. 98-70854, 1999 U.S. App. 551, 2002 SEC LEXIS 104 (2002); FINRA Interpretive Letter, Mar. FINRA previously has provided guiding principles that firms and registered representatives could consider when determining whether a particular communication could be viewed as a recommendation for purposes of the suitability rule. 54722, 2006 SEC LEXIS 2572, at *21 (Nov. 8, 2006) [, aff'd, 304 F. App'x 883 (D.C. Cir. Id. That includes requiring a reasonable belief that the customer has Q3.12. SEA Rule 17a-3 also states that the broker-dealer must furnish such customer or owner a copy of the required account record information or alternative document with all information required by SEA Rule 17a-3(a)(17)(i)(A), including an explanation of any terms regarding investment objectives, for verification within 30 days of account opening and at least once every 36 months thereafter. 333 (2010). Those types of accounts A broker-dealer need not automatically use a detailed approach when no such indication exists, although providing at least some level of specificity (even if not required) may help eliminate misunderstandings. 42 The rule would apply, for instance, to a registered representative's recommendation to a customer to purchase shares of high dividend companies even though the registered representative does not mention a particular high dividend company. 41 The "Dogs of the Dow" strategy is premised on investing "equal dollar amounts in the ten constituents of the Dow Jones industrial average with the highest dividend yields, hold[ing] them for twelve months and then switch[ing] to a new group of dogs." In general, however, when there is an indication that the institutional customer is not capable of analyzing, or does not intend to exercise independent judgment regarding, all of a broker-dealer's recommendations, the broker-dealer necessarily will have to be more specific in its approach to ensuring that it complies with the exemption. Reasonable Basis Obligation This means the Compliance with suitability obligations does not necessarily turn on documentation of the basis for the recommendation. 63 A broker-dealer would have actual control, for instance, if it has discretionary authority over the account. No. FINRA previously issued written guidance on a customer's capability of analyzing risks (a factor used in both the predecessor and new suitability rules).83 FINRA stated that a broker-dealer may conclude in some cases that a customer is not capable of making independent investment decisions in general. Burntwood Tavern Brecksville Closing, Articles D