Safe Harbor Expansion

 

NASD Rule 1017 is FINRA’s rule related to events which trigger a broker-dealer’s requirement to file a continuance in membership application (“CMA”).  As background, events that require a broker-dealer registered with FINRA to file a CMA are as follows:

  • a merger with another member firm;
  • a direct or indirect acquisition of another member;
  • direct or indirect acquisitions or transfers of 25 percent or more in the aggregate of the firm’s assets, or any asset, business or line of operation that generates revenues comprising 25 percent or more in the aggregate of the firm’s earnings measured on a rolling 36-month basis;
  • a change in the equity ownership or partnership capital of the firm that results in one person or entity directly or indirectly owning or controlling 25 percent or more of the equity or partnership capital; or
  • a material change in business operations as defined in Rule 1011(k).

This particular blog focuses on applications related to “material changes” in the operations of a firm as defined in Rule 1011(k).  These changes are all subject to review and approval by FINRA. However, FINRA has developed amendments that create a “safe harbor” for certain changes that would be presumed not to be material as explained in NASD IM 1011-1.

Specifically, certain types of expansions that fall under the “safe harbor” expansion provisions outlined in NASD IM 1011-1 are presumed not to be material and, thus, do not require an application for FINRA approval.  The three types of expansions permitted are certain increases in the number of associated persons involved in sales; the number of offices (registered or unregistered); and the number of markets made, as detailed below.

Safe Harbor Increase Permitted in 12-Month Period

 I.  Associated Persons Involved In Sales

A Firm with 1 – 10 persons is permitted to add 10 persons within a 12-month period.

A Firm with 11 or more persons is permitted to add the greater of 10 persons or 30% within a 12-month period.

II.  Number of Offices

A Firm with 1 – 5 offices is permitted to add 3 offices within a 12-month period.

A Firm with 6 or more offices is permitted to add the greater of 3 offices or 30% within a 12-month period.

III.  Number of Markets Made

A Firm which makes markets in 1 – 10 securities is permitted to add 10 securities within a 12-month period.

A Firm which makes markets in 11 or more securities is permitted to add the greater of 10 markets or 30% within a 12-month period.

Expansions in each area are measured on a rolling, 12-month basis.  Broker-dealers are required to keep records of increases in personnel, offices, and number of markets made to document compliance with the safe harbor.

An important factor for broker-dealers to consider is that “safe harbor” expansion is not available to any broker-dealer that has certain disciplinary history.  For the purposes of this Rule, the term “disciplinary history” is defined as a finding of a violation by the member or a principal of the member in the past five years by the SEC, a self-regulatory organization, or a foreign financial regulatory authority of the provisions listed in NASD IM 1011-1.

If the broker-dealer or a principal of the broker-dealer has been found in violation of one or more of the rules or regulations at the link above in the past five years, the “safe harbor” provision would not be available and a CMA should be filed by a Firm in order to gain prior approval of the anticipated expansion.

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