SIE chapter 4

Question 1

National adjudicatory council

Answer 1

establishes rules, regulations, and member- ship eligibility standards. At present, the following membership standards and registration requirements are in place.

Question 2

broker dealer registration

Answer 2

Any BD registered with the SEC is eligible and may apply for membership to FINRA. Any person who affects transactions in securities as a broker, a dealer, or an investment banker also may register with FINRA, as may municipal bond rms. Application for FINRA membership carries the applying rm’s speci c agreement to:
■ comply with the association’s rules and regulations;
■ comply with federal securities laws; and
■ pay dues, assessments, and other charges in the manner and amounts xed by the associa- tion

Question 3

associated persons

Answer 3

Any person associated with a member rm who intends to engage in the investment bank- ing or securities business must be registered with FINRA as an associated person. Anyone applying for registration with FINRA as an associated person must be sponsored by a member rm.
Before submitting an application to enroll any person with FINRA as a registered rep- resentative (RR), a member rm must ascertain the person’s business reputation, character, education, quali cations, and experience. As part of the application process, the member rm must certify that it has made an investigation (background check) and that the candidate’s credentials are in order.

Question 4

a member firm’s failure to register an employee who performs any of the functions of an rr may lead

Answer 4

to disciplinary action by finer

Question 5

fingerprint records

Answer 5

Registered BDs must have ngerprint records made for most of their employees, and all directors, of cers, and partners must submit those ngerprint cards to the U.S. attorney gen- eral for identi cation and processing. Persons who must be ngerprinted are those involved in sales and those who handle cash or customer securities. Clerical persons (sometimes called ministerial persons) need not be ngerprinted. However, any associated person put in a posi- tion that would have them handle cash or securities would be required to be ngerprinted.

Question 6

exempt from fingerprinting

Answer 6

those selling only mutual funds, variable annuities, or direct participation programs

others exempt if

not involved in securities sales

do not handle or have access to cash or securities or to the books and records of original entry relating to money and securities

do not supervise other employees engaged in these activities

Question 7

registered representative

Answer 7

All associated persons engaged in the investment banking and securities business

assistant of cer who does not function as a principal;
■ individual who supervises, solicits, or conducts business in securities; and
■ individual who trains people to supervise, solicit, or conduct business in securities.

Question 8

state registration of sales personnel

Answer 8

In addition to their FINRA registration requirements, representatives may also need to be registered under state securities laws. Generally, a representative must be registered in every state in which he has a resident customer. These requirements are codi ed under the Uniform Securities Act (USA), and are often referred to as blue-sky laws. Many rms are registered in all 50 states since they often have a national presence, but individual representatives tend to only be registered in states in which they have clients. There is no requirement for a represen- tative to register in a state if an existing client is simply visiting that locale. For example, it would not be a violation to do a trade with a client who is visiting Florida on vacation even if the representative lacks a Florida blue-sky registration.

Question 9

registered principal

Answer 9

Anyone who manages or supervises any part of a member’s investment banking or securi- ties business must be registered as a principal with FINRA (including people involved solely in training associated persons). Unless the member rm is a sole proprietorship, it must employ at least two registered principals.

Question 10

statutory disqualification

Answer 10

Disciplinary sanctions by the SEC, another SRO, a foreign nancial regulator, or a foreign equivalent of an SRO may be cause for statutory disquali ca- tion of FINRA membership.

Question 11

The Central Registration Depository

Answer 11

maintains information on the disciplin- ary history of all persons currently registered. A customer can access this information toll free through the CRD’s BrokerCheck. A hyperlink to BrokerCheck is required on all FINRA member firm websites.

Question 12

while a bankruptcy or unsatisfied lien does not disqualify one from registering…

Answer 12

failure to disclose the facts would

Question 13

registered persons are required to participate in

Answer 13

ontinuing education (CE) programs. The CE requirement has two components: a rm element and a regulatory element.

Question 14

firm element

Answer 14

The rm element requires member rms to prepare an annual training plan taking into account such factors as recent regulatory developments, the scope of the member’s business activities, the performance of its personnel in the regulatory element, and its supervisory needs. This annual in-house training must be given to all registered persons who have direct contact with the public.

Question 15

regulatory element

Answer 15

The regulatory element requires that all registered persons complete a computer-based training session within 120 days of the person’s second registration anniversary and every three years thereafter (i.e., within 120 days of the person’s 5th, 8th, 11th registration anniversary, and so on). The content of the regulatory element is determined by FINRA, and is appropriate to either the RR or principal status of the person.

Question 16

home officers

Answer 16

It is not unusual for a BD to allow RRs to operate out of a home or residence, commonly referred to as working from a home of ce. In these instances, approval of the member rm’s SRO is required as it would be for any of ce associated with the BD. All normal business activities, including taking customer orders for the purchase and sale of securities, would be permitted. Given all normal business activities are permitted at a home of ce, it would be sub- ject to a premise visit and review by principals of the rm and FINRA examiners, as any BD of ce would be. Additionally, the home of ce address and telephone number may be adver- tised in any normal manner, such as on business cards or through various public media venues like newspapers and websites.

Question 17

conduct rules

Answer 17

The Conduct Rules set out fair and ethical trade practices that member rms and their representatives must follow when dealing with the public. Included are events that must be reported.

Question 18

uniform practice code

Answer 18

The UPC established the uniform trade practices, including settlement, good delivery, ex-dates, con rmations, don’t know (DK) procedures, and other guidelines for BDs to follow when they do business with other member rms.

Question 19

code of procedure

Answer 19

he COP describes how member violations of the Conduct Rules will be heard and handled.

Question 20

code of arbitration

Answer 20

The COA Procedure governs the resolution of disagreements and claims between members, RRs, and the public; it addresses monetary claims.

Question 21

employee conduct

Answer 21

In the following sections, you will learn about some of the rules governing employee con- duct within the securities industry.

Question 22

form u4 and form u5

Answer 22

Representatives and principals must be registered with FINRA. Part of the registration process requires that sponsoring member rms le Form U4 when hiring an individual and le Form U5 when an individual terminates.

Question 23

form u5

Answer 23

Should a person registered with a member resign or be terminated, the member must le Form U5 with the CRD within 30 days of termination date. Members must also provide a copy of the form to their former employee within the same time frame. Failure to do so within 30 days will result in a late ling fee being assessed against the member. The form requires the member to indicate the reason for termination and provide an explanation where appropriate. Failure to provide accurate information could lead to severe disciplinary action.
If the member checks the Discharged box or Permitted to Resign box, all of the details surrounding the termination must be disclosed.
In the event that the member, after ling the form, learns of facts or circumstances that would cause the information led to be inaccurate or incomplete, the member must le an amended Form U5 within 30 days of learning of facts giving rise to the amendment. A copy of the amended ling must be sent to the former employee. There is no time limit on how long after termination an amended Form U5 is required.
If a registered person leaves one member to join another, the new employer, in addition to ling Form U4, must get a copy of Form U5 led by the former employer within 60 days of the U4 ling. A copy is obtained either from the new employee or the CRD.

Question 24

license and jurisdiction retention

Answer 24

rs, that person’s license remains valid. If reaf liation occurs after two years, that person must requalify by passing the appropriate exam.
Similarly, when a registered person leaves the business, FINRA retains jurisdiction over that person for two years. If that person becomes subject to a customer complaint or charges are brought against that person by FINRA, that person is still subject to FINRA rules for the two-year period following termination.
To avoid having a securities registration lapse, it may be tempting for former RRs to park their registrations with a member rm as the end of the two-year period nears. However, park- ing a securities license will subject the RR and the member rm to FINRA sanctions.

Question 25

recruitment advertising

Answer 25

A BD advertises for new RRs and includes this statement: “RRs with our rm make more than RRs with any other rm in the securities industry in both com- missions and advisory fees.” (Potential commission or fee claims may never be exaggerated.)

Question 26

brochures

Answer 26

A chart within a brochure shows that long call option contracts have unlim- ited maximum gain potential, but neglects to re ect in any way that maximum loss can be the entire premium paid. (Graphs, charts, and other tools may never show opportunity for gain without also showing loss potential.)

Question 27

professional or educational designations

Answer 27

An RR implies in a recommendation to cli- ents that his bachelor of science degree makes him uniquely quali ed to recommend a certain tech stock. (Use of degrees or designations may never be used in a misleading fashion, nor can reference to nonexistent designations be made.)

Question 28

customer complaints

Answer 28

Whenever a customer complaint is received or a potential red ag for a customer or account is identi ed, it is essential that the proper personnel are noti ed. Persons who should be noti ed may include the account’s representative, the account’s principal, the branch man- ager, or a member of the compliance department. Generally, a principal will need to address these concerns.
A complaint is de ned as a written statement by a customer (or a person acting on behalf of a customer) alleging a grievance arising out of, or in connection with, a securities transaction. If a complaint is resolved to the satisfaction of both the member rm and the customer, no
further action is needed.
Regarding arbitration, if a dispute cannot be resolved, it may be referred to FINRA’s
director of arbitration. The COA covers monetary disputes between FINRA members and/ or customers. If the dispute is between a member and an associated person, both parties are compelled to arbitrate. If the dispute is between a client and a member, the dispute would go to arbitration only if an arbitration agreement (predispute clause) has been signed by the customer.
Under FINRA’s COA Procedure, if the dispute involves a public customer, most of the arbitration panel members must be public arbitrators, which means that most arbitrators are not af liated with the securities business. If the dispute is between members, the panel may comprise whatever mix of arbitrators both parties agree to.

Question 29

record keeping for customer complaints

Answer 29

Copies of all customer complaints must be maintained in a le at the of ce of supervisory jurisdiction (OSJ). Each complaint in the le must be accompanied by a statement of its reso- lution and be endorsed by a principal. Member rms must electronically le information on all customer complaints with FINRA. These lings must be made within 15 days of the end of each calendar quarter.

Question 30

copies of customer complaints as well as the quarterly filings must be retained for

Answer 30

4 years

Question 31

reportable events

Answer 31

The Conduct Rules also outline certain events as being reportable. The following sections discuss those that are most commonly run afoul of.

Question 32

outside business activities

Answer 32

An associated person cannot work for any business other than his member rm (inde- pendent activity) without his employing BD’s knowledge. If a registered person wants to be employed by or accept compensation from an entity other than the member rm, that person must provide prior written notice to the member. Note that the employing member’s permis- sion is not required. The rm, however, does have the right to reject or restrict any outside af liation if it feels a con ict of interest exists. These af liations would also include serving as an of cer or director of a company or owning any interest in another nancial services company.

Question 33

a passive investment

Answer 33

such as the purchase of a limited partnership unit, is not considered an outside business activity. An associated person may make a passive investment for his own account without providing written notice to the employing BD.

Question 34

private securities transactions

Answer 34

as any sale of securities outside an associated person’s regular business and her employing member. Private securities transac- tions are also known as selling away.

Question 35

with compensation

Answer 35

If the transaction involves compensation, the employing member may approve or disapprove the associated person’s participation. If the member approves the participation, it must treat the transaction as if it is being done on its own behalf by entering the transaction on its own books and supervising the associated person during the transaction. If the member disapproves the transaction, the associated person may not participate in it.

Question 36

political contributions

Answer 36

Political contributions should never be used to procure business. All business should be awarded on the basis of merit only and not political favor acquired via contributions to politi- cal parties, elected individuals candidates, or third parties with connections to those with political af liations. Industry rules regarding political contributions are intended to preserve investor con dence and market integrity.

Question 37

registered investment advisors

Answer 37

Rules within the Investment Advisers Act of 1940 are designed to deter what is commonly referred to as the practice of pay to play or play for pay—in other words, gaining political favor via contributions made to political parties, elected of cials, or candidates.
If a political contribution to certain elected of cials or candidates is made, advisers may not provide advisory services to any government they represent for a fee for two years. Advisers
194
Unit 4
Overview of the Regulatory Framework
are also prohibited from arranging payments via any other person (third party) to solicit advi- sory business, unless that third party satis es the pay-to-play rules. When an advisor is seeking to provide or already providing government business, it may not solicit or coordinate contribu- tions political parties, elected individuals, or candidates for of ce.

Question 38

municipal securities dealers

Answer 38

ecalling that the Municipal Securities Rulemaking Board (MSRB) was established as an SRO to enact and interpret rules relating to the underwriting and trading of municipal securi- ties as well as advising municipal issuers, it should be noted it also has rules to prevent pay to play—MSRB Rule G-37. Because the MSRB has no enforcement capability, these rules would be enforced by FINRA.
The MSRB play-for-pay rule deals with the in uence of political contributions on the selection of underwriters. The rule focuses on:
■ negotiated underwritings in which a municipal issuer selects an underwriter and negoti- ates a deal (not underwritings in which underwriters bid on a proposed new issue); and
■ nancial advisory work in which a municipal issuer selects a municipal rm to help it structure a new issue.
Rule G-37 prohibits municipal rms from engaging in the municipal securities business
noted here (negotiated underwritings/ nancial advisory work) with an issuer for two years after a contribution is made to an of cial of that issuer by:
■ the municipal rm;
■ a municipal nance professional (MFP) associated with the rm; or
■ any political action committee (PAC) controlled by the rm.

Question 39

associated persons whose activities are limited solely to sales or have only clerical or ministerial functions are

Answer 39

not maps

Question 40

gifs and gratuities

Answer 40

BDs may not distribute business-related compensation (cash or noncash gifts or gratuities) to the employees of other member rms. However, a BD may give other rms’ employees gra- tuities without violating the rules, provided:
■ the compensation is not conditional on sales or promises of sales;
■ it has the employing member’s prior approval; and
■ the compensation’s total value does not exceed the annual limit set by the regulatory bod- ies (currently $100 per year).

Question 41

non cash compensation

Answer 41

FINRA is concerned about the potential con icts of interest created when program spon- sors, such as investment companies, provide incentives or rewards to representatives for selling the sponsor’s products. Payment or reimbursement by sponsors in connection with meetings held to train or educate representatives is acceptable as long as:
■ the representative obtains the member rm’s prior permission to attend;
■ the location of the meeting is appropriate to the purpose of the meeting (e.g., an of ce of the sponsor or the member would be appropriate, but a meeting held at a posh hotel in the Bahamas would not);
■ there is no payment or reimbursement for a guest (e.g., a spouse) of the representative attending the meeting;
■ payment or reimbursement is not conditioned on the achievement of a sales target;
■ there is no payment or reimbursement for certain expenses incurred in connection with
meetings, such as golf outings, cruises, tours, and similar types of entertainment; and
■ the member rm creates a record of all noncash compensation received by its representa- tives as well as the details of the meeting.