`[Federal Register Volume 69, Number 27 (Tuesday, February 10, 2004)]
[Proposed Rules]
[Pages 6438-6498]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 04-2327]



[[Page 6437]]

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Part III





Securities and Exchange Commission





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17 CFR Parts 239, 240, and 274



Confirmation Requirements and Point of Sale Disclosure Requirements for 
Transactions in Certain Mutual Funds and Other Securities, and Other 
Confirmation Requirement Amendments, and Amendments to the Registration 
Form for Mutual Funds; Proposed Rule

  Federal Register / Vol. 69, No. 27 / Tuesday, February 10, 2004 / 
Proposed Rules  

[[Page 6438]]


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SECURITIES AND EXCHANGE COMMISSION

17 CFR Parts 239, 240 and 274

[Release Nos. 33-8358; 34-49148; IC-26341; File No. S7-06-04]
RIN 3235-AJ11; 3235-AJ12; 3235-AJ13; 3235-AJ14


Confirmation Requirements and Point of Sale Disclosure 
Requirements for Transactions in Certain Mutual Funds and Other 
Securities, and Other Confirmation Requirement Amendments, and 
Amendments to the Registration Form for Mutual Funds

AGENCY: Securities and Exchange Commission.

ACTION: Proposed rule.

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SUMMARY: The Securities and Exchange Commission is proposing two new 
rules and rule amendments under the Securities Exchange Act of 1934 
that are designed to enhance the information broker-dealers provide to 
their customers in connection with transactions in certain types of 
securities. The two new rules would require broker-dealers to provide 
their customers with targeted information, at the point of sale and in 
transaction confirmations, regarding the costs and conflicts of 
interest that arise from the distribution of mutual fund shares, unit 
investment trust interests (including insurance securities), and 
municipal fund securities used for education savings. The Commission is 
also proposing conforming amendments to its general confirmation rule, 
as well as amendments to that rule to provide investors with additional 
information about call features of debt securities and preferred stock. 
Finally, the Commission is proposing amendments to Form N-1A, the 
registration form for mutual funds, to improve disclosure of sales 
loads and revenue sharing.

DATES: Comments must be submitted on or before April 12, 2004.

ADDRESSES: Comments should be submitted in triplicate to Jonathan G. 
Katz, Secretary, Securities and Exchange Commission, 450 Fifth Street 
NW., Washington, DC 20549-0609. Comments also may be submitted 
electronically at the following E-mail address: [email protected]. 
All comment letters should refer to File No. S7-06-04; this file number 
should be included on the subject line if E-mail is used. Comment 
letters will be available for inspection and copying in the 
Commission's Public Reference Room at the same address. Electronically 
submitted comment letters will be posted on the Commission's Internet 
Web site (http://www.sec.gov).\1\
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    \1\ We do not edit personal identifying information, such as 
names or electronic mail addresses, from electronic submissions. You 
should submit only information that you wish to make available 
publicly.

FOR FURTHER INFORMATION CONTACT: With respect to Securities Exchange 
Act rules 10b-10, 15c2-2, and 15c2-3, contact Catherine McGuire, Chief 
Counsel, Paula R. Jenson, Deputy Chief Counsel, Joshua S. Kans, Special 
Counsel, or David W. Blass, Attorney, at 202/942-0073, Office of Chief 
Counsel, Division of Market Regulation, Securities and Exchange 
Commission, 450 Fifth Street NW., Washington, DC 20549-1001.
    With respect to Form N-1A, contact Tara L. Royal, Senior Counsel, 
Office of Disclosure Regulation, at 202/942-0721, Division of 
Investment Management, Securities and Exchange Commission, 450 Fifth 
Street NW., Washington, DC 20549-0506.

SUPPLEMENTARY INFORMATION: The Securities and Exchange Commission 
(``SEC'' or ``Commission'') is publishing for comment proposed rules 
15c2-2 and 15c2-3, as well as amendments to rule 10b-10 under the 
Securities Exchange Act of 1934 (``Exchange Act'') and proposed 
amendments to Form N-1A under the Securities Act of 1933 (``Securities 
Act'') and the Investment Company Act of 1940 (``Investment Company 
Act'').

Table of Contents

I. Executive Summary
II. Introduction
III. Special Request for Comments from Investors
IV. Improved Confirmation Disclosure for Transactions in Mutual Fund 
Shares, Unit Investment Trust Interests and 529 Plan Interests
V. Point of Sale Disclosure for Transactions in Mutual Fund Shares, 
Unit Investment Trust Interests and 529 Plan Interests
VI. Prospectus Disclosure
VII. Disclosure Related to Transactions in Callable Preferred Stock 
and Callable Debt Securities, and Other Amendments to Rule 10b-10
VIII. Paperwork Reduction Act Analysis
IX. Costs and Benefits of the Proposed Rule and Rule Amendments
X. Consideration of Burden on Promotion of Efficiency, Competition, 
and Capital Formation
XI. Consideration of Impact on the Economy
XII. Initial Regulatory Flexibility Analysis
XIII. Statutory Authority
Text of Proposed Rules

I. Executive Summary

    The Commission is publishing for comment two proposed new rules and 
rule amendments under the Exchange Act. The proposed new rules seek to 
improve investor access to material information about investments in 
open-end management investment company securities, unit investment 
trust interests, and municipal fund securities used for education 
savings. The proposals would accomplish that by requiring brokers, 
dealers and municipal securities dealers \2\ to make additional 
disclosures, beyond those currently required, in transaction 
confirmations that they provide to customers at the time of a 
transaction, and also by requiring point of sale disclosure of material 
information prior to the transaction.
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    \2\ These proposed rules would apply to banks that act as 
municipal securities dealers in transactions involving municipal 
fund securities.
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    The proposed new confirmation rules would require brokers, dealers 
and municipal securities dealers to provide customers with information 
about distribution-related costs that investors incur when they 
purchase those types of securities. The confirmation rule proposals 
would also require disclosure of distribution-related arrangements 
involving those types of securities that pose conflicts of interest for 
brokers, dealers and municipal securities dealers, as well as their 
associated persons. These disclosures would promote more informed 
decision-making by investors in securities issued by open-end 
management investment companies (also referred to here as ``mutual 
funds'' or ``funds''), interests issued by unit investment trusts or 
``UITs'' (including insurance company separate accounts that offer 
variable annuity contracts and variable life insurance policies) and 
securities issued by education savings ``529'' plans.
    The proposed new point of sale disclosure rule would require 
brokers, dealers and municipal securities dealers to provide point of 
sale disclosure to customers about costs and conflicts of interest. In 
contrast to confirmation disclosure, which a customer will not receive 
in writing until after a transaction has been effected, point of sale 
disclosure would specifically require that investors be provided with 
information that they can use as they determine whether to enter into a 
transaction to purchase one of those types of securities.
    The proposed new point of sale disclosure and confirmation rules 
and rule amendments also would clarify that the rules do not provide 
safe harbors for activity that would violate the antifraud provisions 
of the federal securities laws or other legal requirements.

[[Page 6439]]

    We are also proposing amendments to the Commission's general 
confirmation rule to require broker-dealers to provide customers with 
additional information in connection with transactions in callable 
preferred stock and debt securities, and to make additional conforming 
and technical changes to the rule.
    Finally, we are proposing to amend Form N-1A, the registration form 
used by mutual funds to register under the Investment Company Act and 
to offer their securities under the Securities Act, to require improved 
disclosure regarding sales loads and revenue sharing arrangements.
    In proposing this rule, we have requested comments on a variety of 
issues. We wish to emphasize that we particularly hope to receive 
comments from investors. As part of this proposed rulemaking, we have 
also proposed new forms for confirmation disclosure and point of sale 
disclosure. We want to know whether the forms clearly communicate the 
information that investors need to make investment decisions, and 
whether the forms will provide investors with the information they 
need, at the time they need it.

II. Introduction

    The Commission is proposing new rule 15c2-2 under the Exchange Act, 
which would govern the obligations of brokers (including municipal 
securities brokers),\3\ dealers and municipal securities dealers to 
disclose transaction-related information in confirmations or other 
documents when customers buy or sell certain investment company 
securities and municipal fund securities.\4\ The Commission also is 
proposing new rule 15c2-3 under the Exchange Act, which would govern 
the obligation of brokers, dealers and municipal securities dealers to 
disclose information to investors prior to effecting transactions in 
those securities.
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    \3\ The term ``broker'' as used in this release also includes 
municipal securities brokers.
    \4\ The existing confirmation rule, Exchange Act rule 10b-10, 
would continue to govern broker-dealers' confirmation obligations 
for transactions in other securities.
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    The proposed new rules respond to concerns that investors in mutual 
fund shares, UIT interests (including certain insurance company 
separate accounts that issue variable insurance products) and municipal 
fund securities used for education savings lack adequate information 
about certain distribution-related costs, as well as certain 
distribution arrangements, that create conflicts of interest for 
brokers, dealers, municipal securities dealers, and their associated 
persons. Those costs and other distribution arrangements have evolved 
substantially since 1977, when the Commission adopted its general 
confirmation rule, rule 10b-10.\5\ We believe that disclosure of 
information about those costs and conflicts can help investors make 
better informed investment decisions.
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    \5\ Rule 10b-10 was adopted in 1977, and it became effective the 
next year following amendments. See rule 10b-10 Adopting Release, 
Exchange Act Release No. 13508 (May 5, 1977), 42 FR 25318 (May 17, 
1977); Exchange Act Release No. 15219 (October 6, 1978), 43 FR 47495 
(October 16, 1978) (amendment related to odd-lot differentials, 
mark-ups and mark-downs in certain riskless principal transactions, 
market maker status and procedures for periodic disclosure). Rule 
10b-10 replaced the Commission's previous confirmation rule, rule 
15c1-4, which had been limited to transactions conducted over-the-
counter. Prior to the adoption of rule 10b-10, transactions on 
national securities exchanges were confirmed pursuant to self-
regulatory organization rules. See New York Stock Exchange 
(``NYSE'') rule 409(c) (rescinded on October 6, 1978 upon 
effectiveness of rule 10b-10).
    Rule 10b-10 subsequently has been amended several times. See 
Exchange Act Release No. 19687 (April 18, 1983), 48 FR 17583 (April 
25, 1983) (related to yield, call and redemption information for 
debt securities, and monthly statements for transaction in money 
market fund shares); Exchange Act Release No. 22397 (September 11, 
1985), 50 FR 37648 (September 17, 1985) (related to price and mark-
up information for principal transactions in reported securities); 
Exchange Act Release No. 34902 (October 27, 1994), 59 FR 55006 
(November 2, 1994) (related to disclosure of receipt of payment for 
order flow); Exchange Act Release No. 34962 (November 10, 1994), 59 
FR 59612 (November 17, 1994) (related to unrated securities, price 
and mark-up information for principal transactions in Nasdaq small-
cap and regional stock exchange-listed securities, non-SIPC broker-
dealers, and factors that affect yield for asset-backed securities); 
Exchange Act Release No. 46471 (September 6, 2002), 67 FR 58302 
(September 13, 2002) (related to securities futures products in 
futures accounts).
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    Proposed rule 15c2-2 would require specific confirmation disclosure 
of information about front-end and deferred sales fees (``loads'') and 
other distribution-related costs that directly impact the returns 
earned by investors in mutual fund shares, UIT interests and 529 plan 
securities. It also would require brokers, dealers and municipal 
securities dealers to disclose their compensation for selling those 
securities, and to disclose information about revenue sharing 
arrangements and portfolio brokerage arrangements that create conflicts 
of interest for them. Moreover, the proposed rule would require 
brokers, dealers and municipal securities dealers to inform customers 
about whether their salespersons or other associated persons receive 
extra compensation for selling certain fund shares or fund share 
classes.
    As part of this rulemaking process, the Commission intends to 
withdraw a no-action letter that the Commission's Division of Market 
Regulation granted to the Investment Company Institute (``ICI'') in 
1979, related to confirmation disclosure of mutual fund sales loads and 
related fees.\6\ The relief granted by that letter is inconsistent with 
proposed rule 15c2-2, which would mandate specific disclosure of load 
information on customer confirmations.
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    \6\ See Letter regarding Investment Company Institute (March 19, 
1979, available April 18, 1979).
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    To avoid redundancy with proposed new rule 15c2-2, we are also 
proposing to modify rule 10b-10 to exclude certain transactions in 
mutual fund shares and UIT interests from the rule's scope, and to make 
other changes consistent with proposed rule 15c2-2.\7\ In addition, we 
are proposing to modify rule 10b-10 to clarify, consistent with 
proposed rule 15c2-2, that the rule does not provide a safe harbor for 
activity that would violate the antifraud provisions of the federal 
securities laws or other legal requirements.
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    \7\ Rule 10b-10 does not apply to transactions in municipal 
securities.
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    Because confirmation disclosure does not provide information to 
investors prior to transactions in securities--i.e., at the time they 
make investment decisions--we also are proposing new rule 15c2-3 to 
require brokers, dealers and municipal securities dealers to provide 
point of sale disclosure to customers prior to effecting transactions 
in mutual fund shares, UIT interests and 529 plan securities. The 
proposed rule would enable investors to see transaction-specific 
information about distribution-related costs, and about remuneration 
arrangements that lead to conflicts of interest for their brokers, 
dealers or municipal securities dealers. That information would enable 
investors to better understand the costs and conflicts associated with 
investments in those securities prior to entering into transactions, 
which should promote better informed investment decision-making. The 
Commission also proposes to amend Form N-1A \8\ to require improved 
disclosure by mutual funds regarding sales loads and revenue sharing 
arrangements.
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    \8\ 17 CFR 239.15A and 274.11A.
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    In addition, the Commission also proposes to amend rule 10b-10 to 
require broker-dealers to disclose whenever preferred stock can be 
called by the issuer. Rule 10b-10 requires similar disclosure for 
transactions in debt securities that are callable by the issuer. The 
Commission further proposes to amend rule 10b-10 to require disclosure 
of the date of first call for certain transactions in callable debt 
securities.

[[Page 6440]]

III. Special Request for Comments From Investors

    Brokers may have conflicts of interest when they sell mutual funds 
and other investments. For instance, your broker may get paid more if 
you purchase one fund over another, or the broker may receive other 
fees or payments from a fund for selling its shares.
    We have proposed two new forms that would require brokers to tell 
you how much you must pay when you buy a particular fund and how much 
your broker and the firm will receive for selling that fund. These two 
forms are designed to provide you with information at two points in 
time--either orally or in writing immediately before your broker places 
the order (which is also called the ``point-of-sale'') and in a written 
confirmation statement after the transaction occurs. The purpose of the 
forms is to give you enough information so that you can understand what 
conflicts your broker and the firm have. That way, when a broker 
recommends a particular fund, you can assess with full knowledge 
whether the investment is better for you or for your broker.
    We want to know whether the forms clearly communicate the 
information you need to make your investment decisions. If not, why 
not? We further want to know whether the forms will provide you with 
the information you need at the time you need to receive it. If not, 
when would you want to receive the information? Finally, we would like 
to know what improvements, if any, you would make to the forms.

IV. Improved Confirmation Disclosure for Transactions in Mutual Fund 
Shares, Unit Investment Trust Interests and 529 Plan Interests

A. Investors Need Better Disclosure About Distribution-Related Costs 
and Conflicts

1. Types of Distribution-Related Costs and Conflicts
    This proposal is intended to improve investors' ability to obtain 
information about costs and conflicts arising from transactions in 
mutual fund shares, UIT interests, and municipal fund securities used 
for education savings.\9\ Open-end management investment company shares 
and UIT interests are securities issued by investment companies that 
are registered with the Commission under the Investment Company 
Act.\10\ Municipal fund securities--which are popularly known as 
``529'' plans after the section of the Internal Revenue Code that 
governs the federal tax treatment of those securities--are issued by 
tuition programs that are sponsored by state governments to provide 
investment vehicles that parents and others can use to save for 
educational expenses.\11\ While 529 plan securities differ from mutual 
fund shares because the states that issue those securities are not 
registered under the Investment Company Act, municipal fund securities 
can provide investors with investment alternatives that are similar to 
those provided by mutual fund shares. Moreover, the assets that 
underlie municipal fund securities may be invested in shares of 
registered investment companies.\12\
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    \9\ These proposed rules are written to exclude transactions in 
exchange-traded funds (``ETFs''), even though ETFs technically are 
open-end investment companies or unit investment trusts. ETF 
transactions would remain subject to the confirmation requirements 
of rule 10b-10.
    \10\ Open-end management investment companies are defined in 
Section 5(a)(1) of the Investment Company Act, and unit investment 
trusts are defined in Section 4(2) of that Act.
    \11\ The definition of ``municipal fund security'' under the 
rules of the Municipal Securities Rulemaking Board (``MSRB'') also 
encompasses interests in local government investment pools. This 
proposal, however, would not apply to broker-dealer transactions 
involving interests in those investment pools. See Proposed 
paragraph (f)(12) of rule 15c2-2.
    \12\ Commission rules and rules of National Association of 
Securities Dealers, Inc. (``NASD'') address broker-dealer practices 
for distributing mutual funds. Commission rules and rules of the 
MSRB address broker-dealer (including municipal securities dealer) 
practices for distributing municipal fund securities.
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    a. Distribution-related costs. Mutual fund investors may, directly 
or indirectly, incur distribution-related costs that can reduce their 
investment returns. The type and amount of those costs often vary among 
funds and among share classes issued by the same fund.\13\ Some mutual 
funds issue share classes that impose sales fees, or loads, on 
investors when they purchase the fund shares (``front-end'' sales 
loads). Mutual funds may also sell share classes with sales loads that 
investors must pay when they redeem fund shares (``deferred'' or 
``back-end'' sales loads).\14\ The amount of the deferred sales load, 
generally calculated as the lesser of a percentage of the value of the 
initial investment or the account's value upon redemption, typically 
declines each year that the investor holds the shares, and eventually 
disappears entirely. Some mutual funds also use their assets to pay 
distribution-related expenses, including compensation of broker-dealers 
in connection with distributing fund shares, under plans adopted 
pursuant to rule 12b-1 under the Investment Company Act (``12b-1 
fees'').\15\ Sales loads and asset-based sales charges and service fees 
reduce the returns that investors earn on their mutual fund 
investments. Not all mutual funds are sold subject to front-end or 
deferred sales loads or impose asset-based sales charges and service 
fees.
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    \13\ See Investment Company Act Section 18(f) and rule 18f-3 
thereunder (relating to multiple share classes of open-end 
investment companies).
    \14\ Based upon information filed publicly with the Commission 
on Form N-SAR, the Commission staff estimates that for the one year 
period between September 2002 and August 2003, investors in open-end 
investment companies paid more than $6.7 billion in aggregate sales 
loads, consisting of approximately $4.9 billion in front-end sales 
loads and $1.8 billion in deferred sales loads. In addition, funds 
and their affiliates paid about $13 billion in marketing and 
distribution payments pursuant to 12b-1 plans.
    \15\ Rule 12b-1 permits a fund's board of directors to adopt a 
plan to use fund assets to finance activities that primarily are 
intended to result in the sale of the fund's shares. NASD rule 2830 
bars member broker-dealers from offering or selling securities of 
investment companies other than variable contracts if annual asset-
based sales charges exceed 0.75% of net asset value, or if annual 
service fees for ``personal service and/or maintenance of 
shareholder accounts'' exceed 0.25% of net asset value. See NASD 
rule 2830(b)(8), (b)(9), (d)(2)(E), and (d)(5). That rule also 
restricts NASD members from distributing shares of funds that have 
excessive front-end or deferred sales loads. See NASD rule 2830(d).
    Mutual fund principal underwriters use deferred sales loads in 
conjunction with rule 12b-1 fees. Usually, the deferred sales load 
is intended to recover amounts that the principal underwriter 
advances to a selling broker-dealer to compensate it for mutual fund 
share transactions if the customer redeems its shares before the 
underwriter can recover such amounts through the rule 12b-1 fee.
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    b. Conflicts-of-interest. As discussed in detail below, broker-
dealers that sell mutual fund shares to customers may participate in 
distribution arrangements that create conflicts of interest for the 
broker-dealers as well as their personnel. Those arrangements can give 
broker-dealers a heightened financial incentive to sell particular 
funds or share classes, and therefore may lead a broker-dealer to 
provide some groups of funds with heightened visibility and access to 
the broker-dealer's sales force, or otherwise influence the way that 
broker-dealers and their associated persons market those funds or share 
classes to customers. Those arrangements therefore pose special 
confirmation disclosure issues. Moreover, some of those arrangements 
may violate NASD rules, and the failure to disclose relevant 
information about those arrangements--regardless of whether disclosure 
specifically is required by the confirmation rules--also may violate 
the antifraud provisions of the federal securities laws.
    As part of those distribution arrangements, broker-dealers that 
sell mutual fund shares generally earn sales fees from the fund's 
principal

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underwriter at the time of sale. Alternatively, the principal 
underwriter may pay the selling broker-dealer sales fees attributable 
to a particular sales transaction over time, for as long as the 
customer holds the shares purchased.\16\ The amount of those sales fees 
is not uniform, however, and a broker-dealer may receive a higher fee 
for selling a particular dollar amount of shares issued by one fund 
rather than shares issued by another fund, or for selling one share 
class rather than other share classes issued by the same fund and 
available to the customer.
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    \16\ Spreading the payment of sales fees over time is the 
customary method for compensating selling broker-dealers for sales 
of class C mutual fund shares.
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    Broker-dealers also may be paid in other ways for distributing fund 
shares, such as through revenue sharing payments from a fund's 
investment adviser.\17\ In some cases, a broker-dealer may receive 
payments from a fund or a fund's affiliates that are characterized as 
service fees, recordkeeping and transfer fees, seminar sponsorships or 
other types of payments that ostensibly compensate the broker-dealer 
for costs that it incurs as part of its mutual fund distribution 
activities.\18\ Broker-dealers may also be compensated for distribution 
through receiving commissions for portfolio transactions executed on 
behalf of the fund or affiliated funds, even though the broker-dealer 
may not necessarily execute those transactions.\19\
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    \17\ Revenue sharing arrangements may encompass multiple revenue 
streams. For example, an adviser within a fund complex may give a 
broker-dealer one set of payments that is linked to the broker-
dealer's recent sales of shares issued by that fund complex (which 
would give the broker-dealer an incentive to sell more shares of 
that fund complex), together with another set of payments that is 
linked to the asset-based fees that the adviser earns in connection 
with shares of a fund complex held by customers of a broker-dealer 
(which would give the broker-dealer an incentive to keep its 
customers invested in that fund complex).
    We understand that fund investment advisers typically make 
revenue-sharing payments to selling broker-dealers at the rate of 
between 0.20% and 0.25% of the annual gross sales of shares of a 
fund complex made by a broker-dealer, and between 0.01% and 0.05% of 
the net asset value of shares of a fund complex held by customers of 
a broker-dealer.
    \18\ The payments may be made either to the broker-dealer or to 
its affiliates. At times those payments may compensate the broker-
dealer for work that it performs on behalf of the fund, and that the 
broker-dealer otherwise would not be required to perform, such as 
mailing certain documents (other than the prospectus) to customers. 
At other times, those payments may offset the broker-dealer's 
expenses in connection with activities that it would be required to 
perform in any event, such as educating personnel and maintaining 
records.
    \19\ The amount of commissions that a broker-dealer earns 
through portfolio brokerage arrangements often is based on its total 
sales of all funds issued by that mutual fund complex. Payments of 
portfolio brokerage commissions, however, are not invariably linked 
to distribution. Some mutual funds may direct portfolio transactions 
to a particular broker-dealer for execution without reference to the 
broker-dealer's success in distributing fund shares.
    Broker-dealers, at times, may also execute portfolio securities 
transactions on a principal basis. In those cases, the firms would 
be compensated through mark-ups rather than through commissions.
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    These types of distribution-related arrangements may give broker-
dealers heightened incentives to market the shares of particular mutual 
funds, or particular classes of fund shares. Those incentives may be 
reflected in a broker-dealer's use of ``preferred lists'' that 
explicitly favor the distribution of certain funds, or they may be 
reflected in other ways, including incentives or instructions that the 
broker-dealer provides to its managers or its salespersons.\20\ Such 
incentives create conflicts between broker-dealers' financial interests 
and their agency duties to customers.\21\
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    \20\ We recently took action against Morgan Stanley DW Inc. in 
connection with several of those practices, for violations of rule 
10b-10 and the antifraud provisions of Section 17(a)(2) of the 
Securities Act. Morgan Stanley entered into special marketing 
arrangements with several funds, and was compensated in part through 
revenue sharing payments and portfolio brokerage commissions. In 
return, Morgan Stanley placed participating funds on preferred lists 
and otherwise specially promoted them through its sales system. 
Morgan Stanley also specially promoted proprietary, or affiliated, 
funds. Moreover, in calculating manager compensation, which it based 
in part on branch profitability, Morgan Stanley allocated lower 
overhead costs in connection with the sale of proprietary or other 
favored funds than it allocated in connection with the sale of less 
favored funds. As discussed below, Morgan Stanley also paid special 
incentives to registered representatives in connection with the sale 
of proprietary and other favored funds. Morgan Stanley's failure to 
disclose those practices to customers violated rule 10b-10 and 
Section 17(a)(2). See In the Matter of Morgan Stanley DW Inc., 
Securities Act Release No. 8339 (November 17, 2003).
    At the same time, the Commission sanctioned Morgan Stanley under 
Section 17(a)(2) in connection with its sale of class B mutual fund 
shares. Morgan Stanley failed to adequately disclose certain 
features that could make class A shares more attractive to customers 
than the class B shares it sold. Also, Morgan Stanley failed to 
adequately follow its compliance procedures governing large 
purchases of class B shares. See id.
    The NASD also has sanctioned Morgan Stanley for regulatory 
violations arising from its marketing arrangements on behalf of 
participating funds. The NASD determined that Morgan Stanley 
violated NASD rule 2830(k), which prohibits a member firm from 
favoring the distribution of particular mutual fund shares on the 
basis of brokerage commissions to be paid by the fund companies and 
which also prohibits a member firm from allowing sales personnel 
from sharing in directed brokerage commissions. See NASD, 
``Disciplinary and Other NASD Actions,'' December 2003, at D18 
(available on the Internet at http://www.nasdr.com/pdf-text/0312dis.pdf ).
    \21\ Revenue sharing arrangements not only pose potential 
conflicts of interest, but also may have the indirect effect of 
reducing investors' returns by increasing the distribution-related 
costs incurred by funds. Even though revenue sharing is paid to 
broker-dealers directly by fund investment advisers, rather than out 
of fund assets, it is possible that some advisers may seek to 
increase the advisory fees that they charge the fund to finance 
those distribution activities. It is not clear whether that has 
occurred. See U.S. General Accounting Office, Mutual Funds: Greater 
Transparency Needed in Disclosures to Investors (June 2003) at 39 
(discussing uncertainty about how revenue sharing has affected fund 
fees). Moreover, revenue sharing arrangements may prevent some 
advisers from reducing their current advisory fees.
    We have noted that fund assets would be indirectly used for 
distribution ``if any allowance were made in the investment 
adviser's fee to provide money to finance distribution.'' See 
Investment Company Act Release No. 16431 (June 13, 1988) at text 
accompanying note 124.
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    In addition to conflicts of interest at the firm level, associated 
persons of broker-dealers face conflicts arising from financial 
incentives that promote the sale of some shares or share classes--or 
differential compensation.'' Associated persons may receive higher 
commissions when they sell shares of a particular fund than they would 
if they sold the same dollar amount of the shares of another fund.\22\ 
They may also receive higher commissions when they sell a particular 
class of shares within a fund than they would if they sold the same 
dollar amount of another share class within that same fund.\23\ Other 
forms of differential compensation may include a broker-dealer waiving 
certain fees or reimbursement of certain expenses ordinarily borne by 
an associated person, when the associated person sells the shares of 
particular mutual funds. Broker-dealers may also sponsor sales contests 
that provide cash compensation to representatives and managers for 
meeting certain sales goals.\24\ Associated persons, moreover,

[[Page 6442]]

may receive additional fees in the years after a sale, such as fees 
that some funds pay to broker-dealers for providing shareholder 
services.\25\ Each of those types of arrangements may motivate broker-
dealer personnel to promote the sale of some funds over others. The 
funds that are favored by those arrangements may include proprietary 
funds that are affiliated with the broker-dealer, or funds whose 
advisers pay revenue sharing to the broker-dealer. Differential 
compensation may give the associated person an incentive to improperly 
limit the range of mutual fund choices presented to customers, or may 
affect the associated person's recommendations.
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    \22\ If the associated person is paid a fixed percentage of the 
broker-dealer's fee, then he or she may earn more to sell one fund 
instead of another when the broker-dealer receives a higher fee for 
selling the first fund. Also, in some circumstances, an associated 
person may receive a higher percentage of the broker-dealer's 
compensation when he or she sells a fund that is favored by the 
broker-dealer (such as a fund that is affiliated with the broker-
dealer or that pays revenue sharing to the broker-dealer). The 
latter arrangement was a factor in the Commission's recent action 
against Morgan Stanley, as associated persons whose annual 
production exceeded $1 million received a 42% payout to sell favored 
products but only a 40% payout to sell other products. See In the 
Matter of Morgan Stanley DW Inc., supra note 20. Associated persons 
with lower annual production also received higher payouts to sell 
favored products.
    \23\ Associated persons may earn more when they sell class B 
shares than when they sell the same dollar amount of class A shares 
of the same fund. Because class B shares are not associated with 
breakpoint discounts that can reduce the distribution costs that 
investors pay, broker-dealers often receive higher sales fees for 
distributing class B shares.
    \24\ NASD rules prohibit non-cash compensation through sales 
contests for mutual funds and variable products, except under 
certain conditions. Those rules, however, do not regulate contests 
that result in cash awards. See NASD Notice to Members 99-81 
(September 1999). The NASD sanctioned Morgan Stanley for violating 
the non-cash compensation rules to promote the sale of proprietary 
mutual funds and selected variable annuities. Prohibited sales 
contests within the firm offered a variety of rewards, including 
tickets to Britney Spears and Rolling Stones concerts. See NASD, 
``Disciplinary and Other NASD Actions,'' October 2003, at D18-D19 
(available on the Internet at http://www.nasdr.com/pdf-text/0310dis.pdf ).
    \25\ A fund may pay a service fee of up to 0.25% to a broker-
dealer out of fund assets pursuant to rule 12b-1 plans. See supra 
note 15. Associated persons may receive some of those fees. The 
Commission's recent action against Morgan Stanley also noted that 
associated persons received a portion of the ongoing revenue sharing 
payments that fund complexes provided to Morgan Stanley. See In the 
Matter of Morgan Stanley DW Inc., supra note 20.
---------------------------------------------------------------------------

    UITs, which include certain insurance company separate accounts 
that issue variable insurance products (i.e., variable annuity 
contracts and variable life insurance policies),\26\ are subject to 
similar distribution-related costs and conflicts.
---------------------------------------------------------------------------

    \26\ Although most variable insurance products are issued by 
insurance company separate accounts that are structured as UITs, 
some are issued by insurance company separate accounts that are 
structured as open-end management investment companies. Because 
proposed rules 15c2-2 and 15c2-3 would apply to transactions 
involving interests in UITs and open-end companies, they would 
encompass transactions in both types of variable insurance products.
---------------------------------------------------------------------------

    c. Costs and conflicts related to 529 plans. Compensation practices 
for municipal fund securities used for education savings, or ``529'' 
plans, raise many of the same issues. Those securities may be sold 
subject to loads that can reduce the returns they produce. At times, 
brokers, dealers and municipal securities dealers that distribute 
municipal fund securities also may participate in distribution-related 
arrangements that create conflicts of interest for them, including 
revenue sharing payments and the use of portfolio commissions to reward 
distribution. In some cases, a broker, dealer or municipal securities 
dealer chooses to distribute only the municipal fund securities issued 
by a particular state, and does not provide its customers with the 
opportunity to invest in 529 plans issued by other states, even though 
those other plans may have lower loads or lower expense ratios, or may 
provide state income tax benefits that are absent from the plans being 
offered.
    The associated persons of brokers, dealers and municipal securities 
dealers selling 529 plans may also receive incentives, such as 
differential compensation, that create conflicts of interest for them. 
Moreover, in contrast to NASD rules applicable to the distribution of 
mutual fund shares, associated persons of brokers, dealers and 
municipal securities dealers are not generally precluded from receiving 
non-cash compensation for selling municipal fund securities.\27\
---------------------------------------------------------------------------

    \27\ In contrast to NASD rules, MSRB rules do not generally bar 
associated persons from receiving non-cash compensation. The MSRB 
has noted, however, that its fair dealing rule and other customer 
protection rules do apply to the marketing of 529 plans. See 
Municipal Securities Rulemaking Board, Application of fair practice 
and advertising rules to municipal fund securities (May 14, 2002).
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2. Current Confirmation Disclosure Requirements for Mutual Funds and 
Municipal Fund Securities
    Rule 10b-10 under the Exchange Act requires broker-dealers to 
disclose specific information to their customers about securities 
transactions.\28\ While the rule generally directs broker-dealers to 
disclose the required information at or before the completion of each 
securities transaction,\29\ broker-dealers may also disclose the 
information monthly or quarterly in limited situations, such as when a 
customer has entered into a periodic plan for purchasing mutual fund 
shares.\30\ The rule requires disclosure of, among other information, 
the identity of the security, the number of shares purchased or sold, 
and the price at which the transaction was effected. When a broker-
dealer acts as the customer's agent, it must also disclose the amount 
of the remuneration it receives from the customer. For agency 
transactions in which the broker-dealer also participates in the 
distribution of the securities, it must disclose the source and amount 
of remuneration that it receives from third parties.\31\
---------------------------------------------------------------------------

    \28\ Rule 10b-10 applies to broker-dealer transactions in all 
securities, excluding U.S. Savings Bonds and municipal securities. 
The MSRB has a separate confirmation rule that governs member 
transactions in municipal securities, including municipal fund 
securities. See MSRB rule G-15.
    \29\ Rule 10b-10 defines ``completion of the transaction'' by 
reference to rule 15c1-1 under the Exchange Act. See infra note 125.
    \30\ See Rule 10b-10(a) (general disclosure requirement) and 
rule 10b-10(b) (periodic reporting alternative).
    \31\ See Rule 10b-10(a)(2)(i)(B) (customer remuneration) and 
Rule 10b-10(a)(2)(i)(D) (third party remuneration). In the mutual 
fund context, third party remuneration generally is paid by the fund 
and its affiliates. Rule 10b-10 also requires disclosure of the 
mark-ups and mark-downs that a broker-dealer earns on transactions 
involving a contemporaneous sale and purchase when it acts as a 
principal for its own account in a transaction, other than as a 
market maker. See Rule 10b-10(a)(2)(ii)(A).
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    The Commission and its staff have taken the position, with respect 
to mutual fund transactions, that a broker-dealer may satisfy its rule 
10b-10 obligations without providing customers with a transaction-
specific document that discloses information about loads or third-party 
remuneration, so long as the customer receives a fund prospectus that 
adequately discloses that information. This position had its genesis in 
a statement by the Commission when it adopted rule 10b-10. In response 
to comments related to the rule's disclosure requirement about third-
party remuneration, the Commission suggested that prospectus disclosure 
would be an adequate substitute for confirmation disclosure, 
explaining:

    [I]n the case of offerings registered under the Securities Act 
of 1933, the final prospectus delivered to the customer should 
generally set forth the information required by the proviso with 
respect to source and amount of remuneration. * * *
    In such situations the information specified in the proviso need 
not be separately set forth in the confirmation.\32\
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    \32\ See Rule 10b-10 Adopting Release, supra note 5, at n.41.

In other words, the Commission was of the view that broker-dealer 
disclosure of third-party remuneration would be redundant if the 
customer received a prospectus disclosing that information.\33\
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    \33\ Of course, this applies only to information disclosed in a 
prospectus that is delivered to customers at or before completion of 
the transaction. The requirements of rule 10b-10 cannot be satisfied 
via disclosure in a document that is not delivered at or before 
completion of the transaction, such as a statement of additional 
information (``SAI''). The SAI is part of a fund's registration 
statement and contains information about a fund in addition to that 
contained in the prospectus. The SAI is required to be delivered to 
investors upon request and is available on the Commission's 
Electronic Data Gathering, Analysis, and Retrieval System.
---------------------------------------------------------------------------

    The Commission's staff reflected that position in a 1979 letter to 
the Investment Company Institute, in which the Division of Market 
Regulation stated that it would not recommend enforcement action 
against broker-dealers that did not provide transaction-specific 
disclosure about mutual fund

[[Page 6443]]

loads and related charges, so long as the customer received a 
prospectus that ``disclosed the precise amount of the sales load or 
other charges or a formula that would enable the customer to calculate 
the precise amount of those fees.'' \34\
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    \34\ See Letter regarding Investment Company Institute, supra 
note 6. That 1979 letter referred both to the agency disclosure and 
the principal disclosure requirements of rule 10b-10.
    Although in 1994 the staff indicated that it intended to 
withdraw the 1979 letter, the letter currently remains in effect. 
The staff was concerned that confirmations that do not disclose any 
transaction charges could mislead customers who might not look to 
the prospectus for a full description of the remuneration. See 
Letter regarding Investment Company Institute (March 16, 1994). The 
mutual fund industry commenced discussions with the staff noting 
that some mutual funds impose transaction charges over the duration 
of or at the end of the investment, and asserted that disclosing the 
transaction charges through prospectus fee tables was more accurate 
than trying to estimate them on the confirmation at the beginning of 
the investment. As a result of that dialogue, the staff decided not 
to withdraw the letter.
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    The Commission later discussed how Rule 10b-10 disclosure 
obligations apply to mutual fund transactions in an amicus brief filed 
with the Second Circuit in 2000.\35\ That brief focused on the adequacy 
of prospectus disclosure by broker-dealers that received third-party 
remuneration--in the form of rule 12b-1 payments from funds and revenue 
sharing payments from fund investment advisers--in connection with 
sweeping customer funds into money market accounts. We concluded that 
the prospectus disclosure at issue substituted for confirmation 
disclosure, when the prospectuses included the information required to 
be disclosed by Form N-1A, including the maximum rule 12b-1 fees 
payable by the funds as a percentage of net assets, and noted the 
presence of ``significant amounts'' of non-rule 12b-1 payments by the 
funds' investment advisers. In arriving at that conclusion, we 
interpreted the rule 10b-10 Adopting Release as establishing the 
general principle that ``delivery of a prospectus containing sufficient 
disclosure can satisfy a broker-dealer's obligations under Rule 10b-
10.'' Recognizing that ``there is no precise standard as to how much 
disclosure the Rule currently requires,'' we went on to note that the 
staff's 1979 letter, with its ``precise amount'' standard for 
prospectus disclosure of loads and related fees, did not apply to 
third-party remuneration because precision was not necessary to inform 
customers about conflicts of interest.
---------------------------------------------------------------------------

    \35\ See Commission brief, Cohen v. Donaldson, Lufkin & Jenrette 
Securities Corp., reported as Press v. Quick & Reilly, Inc., 218 
F.3d 121 (2d Cir. 2000) (No. 97-9159) (``amicus brief''). The 
Commission filed the brief in two separate dockets that were 
consolidated before the Second Circuit.
---------------------------------------------------------------------------

    While the Commission has never directly addressed the disclosure of 
payments to a broker-dealer in the form of portfolio brokerage 
commissions, the same principles apply. Currently, if a prospectus is 
not delivered at or before completion of the transaction, or if the 
prospectus fails to disclose the fact that the fund pays portfolio 
brokerage commissions to broker-dealers that participate in 
distribution, or fails to disclose information about the degree of the 
resulting conflict, then the transaction confirmation must provide 
information about the source and amount of those payments.\36\
---------------------------------------------------------------------------

    \36\ Id. at 10-12, 21, 24-28.
---------------------------------------------------------------------------

    In one case before the Second Circuit, we viewed the disclosures at 
issue as meeting the requirements of rule 10b-10, but we went on to 
state: ``We are not saying that this is necessarily all the disclosure 
about these types of fees that should be required as a matter of 
policy.'' \37\ We also noted that we had directed the staff to make 
recommendations to us about whether to require new disclosures or to 
refine the existing disclosures.\38\ The Second Circuit also questioned 
whether the prospectus disclosure at issue adequately placed investors 
on notice about the receipt of those payments and any resulting 
conflicts of interest.\39\ The rules we propose today address those 
concerns.
---------------------------------------------------------------------------

    \37\ Id. at 24.
    \38\ See id.
    \39\ See Press v. Quick & Reilly, Inc., 218 F.3d 121, 129 (2d 
Cir. 2000).
---------------------------------------------------------------------------

3. Concerns About the Adequacy of Current Disclosure Practices
    The disclosure rules we are proposing are designed to respond to 
the ways in which the mutual fund industry and its distribution 
practices have evolved in the years since the 1977 adoption of rule 
10b-10 and the staff's 1979 letter to the ICI.
    During the past quarter century, the number of mutual fund 
customers, the value of mutual fund investments, and the number of 
mutual funds all have increased exponentially.\40\ The public 
increasingly has placed retirement savings into mutual funds through 
individual retirement accounts and other retirement plans. In addition, 
distribution costs and broker-dealer conflicts have grown more complex. 
Since 1980, many funds have offered multiple share classes, including 
class B shares with deferred sales loads that can have the effect of 
obscuring the distribution costs borne by investors. Many mature funds 
continue to rely on rule 12b-1 fees to pay for distribution, even 
though those fees were intended by the Commission to be short-term 
tools for helping funds gather assets. The increase in the number of 
mutual funds has made broker-dealer ``shelf space'' more critical to 
investment companies, leading to revenue sharing and other distribution 
arrangements that quietly compensate broker-dealers for distribution. 
The growth of funds affiliated with broker-dealers has also generated 
special broker-dealer marketing incentives to promote the distribution 
of those affiliated ``proprietary'' funds. In addition, the development 
of fund ``supermarkets'' sponsored by broker-dealers has led to related 
arrangements in which a fund or its affiliates compensates broker-
dealers in ways that are not generally disclosed to investors. 
Moreover, the introduction of highly promoted 529 plans has brought 
many new investors into products that themselves invest in mutual funds 
and that are associated with similar distribution-related costs and 
conflicts.
---------------------------------------------------------------------------

    \40\ Industry data indicates that between 1977 and 2002, the 
number of mutual funds increased from 477 to 8,256, total fund 
assets increased from $49 billion to $6.4 trillion, and the number 
of shareholder accounts increased from 8.7 million to 251 million. 
The magnitude of the changes, however, is likely greater than what 
those figures depict. The earlier figures include data for funds 
that invested in other mutual funds, while the latter figures 
exclude that data. See Investment Company Institute, Mutual Fund 
Fact Book (43rd ed., 2003) at 63.
---------------------------------------------------------------------------

    Those changes raise significant concerns about the adequacy of 
current disclosure practices. For example, we are concerned that some 
investors may misunderstand the costs associated with purchasing mutual 
fund shares and 529 plan securities because they lack transaction-
specific confirmation and point of sale information about loads and 
fees.
    In late 2002, in response to learning that some mutual fund 
investors did not receive appropriate volume discounts on the front-end 
sales loads they paid--commonly known as ``breakpoint discounts''--
NASD, the ICI, and the Securities Industry Association (``SIA'') 
convened a task force to recommend industry-wide changes relating to 
breakpoints.\41\ The task force issued a report in July 2003 
recommending, among other changes, that mutual fund confirmations 
include front-end sales

[[Page 6444]]

load disclosure.\42\ The task force also recommended that the 
Commission staff revisit its 1979 letter to the ICI.\43\ While the task 
force was studying the issue, the Commission also received a rulemaking 
petition on behalf of a mutual fund customer asking the Commission to 
require broker-dealer confirmations to specifically disclose the front-
end sales loads that customers incur with mutual fund transactions.\44\
---------------------------------------------------------------------------

    \41\ Mutual funds typically offer discounts on front-end sales 
loads assessed on class A shares if the amount of an investor's 
investment in the fund reaches certain pre-determined ``breakpoint'' 
levels. Examinations by the Commission staff and self-regulatory 
organizations determined that many investors did not receive the 
breakpoint discounts to which they were entitled.
    \42\ ``Confirmations should reflect the entire percentage sales 
load charged to each front-end load mutual fund purchase 
transaction. This information would enable investors to verify that 
the proper charge was applied.'' Report of the Joint NASD/Industry 
Task Force on Breakpoints (July 2003) at 10 (footnote omitted) 
(``Task Force Report'') (available at http://www.nasdr.com/breakpoints_report.asp).
    \43\ See id.
    \44\ See Letter to Jonathan Katz, Secretary, Commission, from 
Donna Matheney, Vice President, Joe Becks & Associates, Inc., 
January 22, 2003. The petition was written on behalf of a company 
profit sharing plan that was invested in mutual funds.
---------------------------------------------------------------------------

    Our concerns, however, go beyond the adequacy of front-end load 
disclosure. More complete disclosure also may help customers understand 
the costs associated with purchasing fund share classes that carry 
deferred sales loads, as well as the potential conflicts of interest 
that broker-dealers and their associated persons have in connection 
with the sale of those share classes. For example, when the amount 
invested reaches certain breakpoint discount levels, associated persons 
of broker-dealers generally are paid more for selling class B shares 
than for selling shares of other classes. Because class A shares 
typically carry front-end sales loads while class B shares do not, some 
investors may be inclined to purchase class B shares believing that 
they are cheaper, even though class B shares generally carry contingent 
deferred sales loads and higher 12b-1 fees. NASD has issued an alert 
informing investors that, before purchasing class B shares, ``you 
should determine whether this investment is in your interest, and not 
just in the interest of your broker or adviser who may receive higher 
commissions from the sale of Class B shares than other classes of fund 
shares.''\45\ In fact, questions have been raised about whether class B 
shares ever would be appropriate for most investors.\46\ Recent 
enforcement actions have underscored how those types of compensation 
arrangements produce conflicts of interest that lead associated persons 
of broker-dealers to act against the interests of their customers.\47\
---------------------------------------------------------------------------

    \45\ See NASD Investor Alert, ``Class B Mutual Fund Shares: Do 
They Make the Grade?'' (June 2003).
    \46\ See ``Why B Shares Deserve to Get an `F': These Broker-Sold 
Funds are a Bad Deal,'' Wall Street Journal, July 2, 2003 at D1.
    \47\ In one matter, the Commission affirmed a NASD disciplinary 
action against an associated person of a broker-dealer who placed a 
customer into class B shares of a mutual fund instead of the more 
appropriate class A shares. The associated person testified that he 
generally recommended that his clients purchase class B shares 
because he received higher commissions for selling that class. The 
Commission affirmed the NASD's conclusion that the associated person 
violated NASD suitability requirements and standards of conduct 
requirements. See In the Matter of Wendell D. Belden, Securities 
Exchange Act Release No. 47859 (May 14, 2003).
    In another matter, the Commission sanctioned a broker-dealer for 
failing to adequately supervise an associated person who 
inappropriately placed investors into class B shares to generate 
higher commissions. See In the Matter of Prudential Securities, 
Inc., Securities Exchange Act Release No. 48149 (July 10, 2003).
    As discussed above, we found that Morgan Stanley violated the 
antifraud provisions of Section 17(a)(2) of the Securities Act by 
placing customers into class B shares without adequately disclosing 
information about the relative costs of class A and class B shares. 
See In the Matter of Morgan Stanley DW Inc., supra note 20.
---------------------------------------------------------------------------

    Investors also lack information about whether their broker-dealers 
receive revenue sharing or other third-party remuneration to distribute 
particular mutual funds. Prospectus disclosure does not identify which 
individual broker-dealers receive revenue sharing, let alone quantify 
those arrangements. Yet the magnitude of revenue sharing payments--
estimated in 2001 to be $2 billion annually \48\--suggests that those 
arrangements influence the mutual fund choices that broker-dealers and 
their representatives present to investors. Prospectus disclosure, 
moreover, is not designed to inform investors about whether their 
particular broker-dealers are compensated in other ways for 
distributing fund shares, such as by receiving commissions for fund 
portfolio brokerage transactions.
---------------------------------------------------------------------------

    \48\ See ``How high can costs go?,'' Institutional Investor, May 
2001 at 56.
---------------------------------------------------------------------------

    Broker-dealer compensation practices related to proprietary funds 
raise additional disclosure issues. In 1994, a committee was formed at 
the request of the Commission's Chairman to examine securities industry 
compensation practices, identify actual and perceived conflicts of 
interest, and identify ``best practices'' for controlling those 
conflicts. The committee raised a number of concerns in its 1995 
report, including concerns about the practice of offering higher 
payouts for selling proprietary mutual funds. It recommended that 
broker-dealers pay identical commissions to registered representatives 
for selling proprietary and non-proprietary products within a product 
category.\49\ While some broker-dealers followed that recommendation, 
its adoption has not been uniform.\50\
---------------------------------------------------------------------------

    \49\ ``Of particular concern is the practice of firms offering 
higher payouts when [registered representatives] sell proprietary 
mutual funds instead of funds of a similar class managed by outside 
investment companies. (Proprietary funds are those created and/or 
managed by the firm.) This differentiation raised the question: Is 
the [registered representative] rendering objective advice or simply 
maximizing commission income?''
    Report of the Committee on Compensation Practices (April 10, 
1995) at 7-8 (available at http://www.sec.gov/news/studies/bkrcomp.txt). The committee was chaired by Daniel Tully of Merrill 
Lynch & Co., and its report commonly is known as the ``Tully 
report.''
    \50\ As discussed above, Morgan Stanley had a practice of paying 
associated persons a higher percentage payout for selling 
proprietary funds or other funds that were favored by the firm. See 
In the Matter of Morgan Stanley DW Inc., supra note 20. This was not 
a unique situation, as other broker-dealers also provide associated 
persons with higher percentage payouts for selling proprietary 
funds.
---------------------------------------------------------------------------

    In September 2003, NASD requested comment on proposed rules to 
require member firms to disclose certain information about revenue 
sharing and differential compensation to customers at account opening 
or, if no account is established, at the time the customer first 
purchases shares of an investment company.\51\ Stating that those 
compensation arrangements could create conflicts of interest for 
broker-dealers and their associated persons, NASD added, ``Disclosure 
of revenue sharing and differential cash compensation arrangements 
would enable investors to evaluate whether a registered 
representative's particular product recommendation was inappropriately 
influenced by these arrangements.'' The Commission will consider the 
proposal in the event that NASD submits it as a proposed rule change. 
We note, however, that NASD's proposal is geared to giving customers 
generalized access to information about revenue sharing and 
differential compensation at the time the customer is evaluating 
potential mutual fund investments. That particular focus would 
complement the disclosures we propose today--which would improve 
disclosure of transaction-specific information about distribution-
related costs and arrangements that lead to conflicts of interest. 
Investors who have access to relevant transaction-specific information 
about those costs and conflicts of interest should be better prepared 
to scrutinize the adequacy of the investment choices presented by their 
broker-dealers as well as the recommendations their broker-dealers 
make.\52\
---------------------------------------------------------------------------

    \51\ See NASD Notice to Members 03-54 (September 2003).
    \52\ The SIA recently submitted suggestions to the staff for 
amending rule 10b-10 to provide additional disclosure about revenue 
sharing and differential compensation related to purchases of mutual 
fund shares. See Letter from Stuart Strachan, Chair, Investment 
Company Committee, SIA, to Paul Roye, Director, Division of 
Investment Management, Commission, October 31, 2003. This letter 
will be available in the public comment file.
    The SIA recommends that, when applicable, confirmations should 
include a statement indicating that associated persons may have 
received additional compensation in connection with the purchase. 
The SIA further suggests that when a broker-dealer has received a 
cash payment ``as a condition for inclusion of the investment 
company on a preferred or select sales list, or similar grouping, in 
connection with any other sales program, or as a reimbursement of 
advancement of expenses,'' then the confirmation should contain a 
statement indicating that it ``may have received a cash payment 
relating to the distribution.'' In either case, the SIA suggests 
that the disclosure should also indicate that the customer can 
obtain ``further information'' by calling a toll-free or collect 
telephone number or by visiting a website. As discussed below, we 
are taking a different approach.

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[[Page 6445]]

B. New Rule and Proposed Amendments Regarding Cost and Conflict 
Disclosure

1. Proposed Rule 15c2-2
    To provide investors with adequate access to information regarding 
the costs of their investments, as well as the conflicts of interest 
their broker-dealers face, the Commission is proposing a new rule to 
require brokers, dealers and municipal securities dealers to provide 
their customers with certain information in connection with certain 
transactions in mutual fund shares, UIT interests and 529 plan shares. 
Because those securities have special distribution and compensation 
practices, the Commission is proposing to address those disclosure 
requirements in a new rule, rather than in rule 10b-10. A broker, 
dealer or municipal securities dealer that misstates information in a 
confirmation delivered pursuant to proposed rule 15c2-2 with an intent 
to mislead may be subject to liability under the antifraud provisions 
of section 10(b) and rule 10b-5.
    Proposed rule 15c2-2 would retain much of the disclosure framework 
of rule 10b-10, while also providing customers of brokers, dealers and 
municipal securities dealers with targeted cost and conflict 
information that is relevant to purchases and sales of those 
securities.\53\ Accordingly, the preliminary note to proposed rule 
15c2-2 would explain that the rule requires brokers, dealers and 
municipal securities dealers to provide specified information in 
writing to customers at or before completion of a transaction in 
certain investment company securities or municipal fund securities. The 
preliminary note also would state that rule 10b-10 would continue to 
set forth the confirmation requirements that apply to broker-dealer 
transactions in other securities. More generally, as is the case under 
current law, disclosure provided pursuant to the proposed rules would 
not derogate from a broker-dealer's other legal obligations to 
customers, such as in the context of making recommendations or 
suitability determinations.
---------------------------------------------------------------------------

    \53\ While Exchange Act rule 10b-10 does not apply to 
transactions in municipal securities, transactions in 529 plan 
interests nonetheless pose cost and conflict concerns similar to 
those associated with transactions in mutual fund shares and UIT 
interests. Including municipal fund securities within the ambit of 
rule 15c2-2 therefore would promote a consistent disclosure 
framework.
---------------------------------------------------------------------------

    a. No safe harbor from antifraud provisions or other legal 
requirements. Proposed rule 15c2-2, like rule 10b-10, would not 
function as a safe harbor for non-disclosure that constitutes deception 
or that otherwise violates a securities firm's legal obligations. 
Rather, it would provide a minimal benchmark for disclosing certain 
costs and conflicts related to the distribution of these securities, in 
a manner that would be accessible to investors and that could fit on a 
single piece of paper. In setting forth the minimum level of 
disclosure, the proposed rule also would not preclude additional 
disclosures, as appropriate. While we believe the information required 
to be disclosed under the proposed rule is material to investors, there 
may be other information that is material for purposes of alerting 
investors about the costs of these transactions and the conflicts 
raised by them.\54\ That is true even in instances where the 
confirmation rules specifically address the categories of information 
at issue, but do not require disclosure of the information in question.
---------------------------------------------------------------------------

    \54\ While the confirmation rules require delivery of 
information at or before a securities transaction, the antifraud 
provisions of the securities laws at times require a broker, dealer 
or municipal securities dealer to disclose particular information 
before a securities transaction. See Ettinger v. Merrill Lynch 
Pierce Fenner & Smith, Inc., 835 F.2d 1031, 1036 (3d Cir. 1987); 
Krome v. Merrill Lynch & Co., 637 F. Supp. 910, 916 (S.D.N.Y. 1986).
    Moreover, the Commission recently sanctioned Morgan Stanley for 
violating certain antifraud provisions of the Securities Act with 
respect to its sale of class B mutual fund shares, based in part on 
a failure to disclose material information about differences between 
class B and class A shares. The Commission did not sanction Morgan 
Stanley for those omissions under rule 10b-10. See In the Matter of 
Morgan Stanley DW Inc., supra note 20.
---------------------------------------------------------------------------

    Accordingly, we propose to make that point explicit in the 
preliminary note to proposed rule 15c2-2. Currently, the preliminary 
note to rule 10b-10 explains that the confirmation disclosure 
requirements do not exhaust a firm's obligation under the general 
antifraud provisions of the federal securities laws to disclose 
additional information to a customer at the time of the customer's 
investment decision. We are aware, however, that a court has 
interpreted rule 10b-10 to limit disclosure obligations in a way that 
is inconsistent with our intent.\55\ To clarify our intent, the 
preliminary note to proposed rule 15c2-2 would state that the 
confirmation disclosure requirements are not determinative of, and do 
not exhaust, a broker's, dealer's or municipal securities dealer's 
disclosure obligations under the antifraud provisions of the federal 
securities laws or under any other legal requirements.\56\
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    \55\ The Second Circuit, in Press v. Quick & Reilly, Inc., 218 
F.3d 121 (2d Cir. 2000), expressed the view that the confirmation 
requirements of rule 10b-10 also could determine which information 
is material under the antifraud standards of rule 10b-5 under the 
Exchange Act. The court reasoned that the Commission ``has decided 
precisely'' what disclosure was needed with regard to conflicts of 
interest arising from third-party payments to broker-dealers, and 
concluded that ``we will not undermine the SEC's interpretation of 
its regulation by requiring even greater disclosure about that 
conflict of interest under the general antifraud provisions of Rule 
10b-5.'' Id. at 131-32. We recognize the importance of the principle 
that guided the court. That principle, however, is not what we 
intended when we adopted rule 10b-10. Even if a confirmation rule 
specifically addresses a particular practice, a broker, dealer or 
municipal securities dealer could provide enough disclosure to 
satisfy that rule, but nonetheless violate the antifraud provisions 
of the securities laws through its omission of material information 
to its customer in a particular transaction or under particular 
arrangements. When we adopt confirmation rules, we cannot consider 
all information that will be material in a particular transaction, 
and we do not determine that additional information is not material 
under the antifraud provisions. The confirmation rules cannot 
account for the variety of conflicts that are encompassed by the 
antifraud provisions. See SEC v. Capital Gains Research Bureau, 
Inc., 375 U.S. 180, 195 (1963) (noting that Congress intended 
``securities regulation `enacted for the purpose of avoiding frauds' 
'' to be construed ``not technically and restrictively, but flexibly 
to effectuate its remedial purposes''). Similarly, with regard to 
other courts that have looked to rule 10b-10 in a more general 
context, we emphasize that rule 10b-10 was not intended to limit a 
broker-dealer's obligation to disclose information, or otherwise to 
limit a broker-dealer's responsibilities to its customers. See, 
e.g., Orman v. Charles Schwab & Co., 179 Ill. 29 282, 688 N.E.2d 620 
(Ill. 1998), cert. denied, 523 U.S. 1075 (1998).
    \56\ As discussed below, we also propose to amend the 
preliminary note to rule 10b-10 to be consistent with this language.
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    b. Securities transactions covered. The disclosure requirements of 
proposed rule 15c2-2 would apply to transactions by brokers, dealers 
and municipal securities dealers \57\ on behalf of customers in 
``covered securities.'' Proposed paragraph (f)(6) of rule 15c2-2 would 
define the term ``covered security'' as: (i) Any security issued by an 
``open-end company,'' as defined by section 5(a)(1) of the Investment 
Company Act, that is not traded on a

[[Page 6446]]

national securities exchange; \58\ (ii) any security issued by a ``unit 
investment trust,'' as that term is defined by Section 4(2) of the 
Investment Company Act, other than an ETF that is traded on a national 
securities exchange or facility of a national securities association, 
or a unit investment trust that is the subject of a secondary market 
transaction; \59\ and (iii) any ``municipal fund security.'' Proposed 
paragraph (f)(12) of rule 15c2-2 would define a ``municipal fund 
security'' as any municipal security that is issued pursuant to a 
qualified state tuition program as defined by Section 529 of the 
Internal Revenue Code [26 U.S.C. 529], and that is issued by an issuer 
that, but for the application of Section 2(b) of the Investment Company 
Act, would constitute an investment company within the meaning of 
Section 3 of the Investment Company Act.\60\
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    \57\ As the preliminary note to the rule would make clear, 
municipal securities brokers would be subject to the proposed rule 
because they are a type of ``broker.'' See Exchange Act Section 
3(a)(31) (definition of ``municipal securities broker'').
    \58\ That definition excludes securities issued by exchange 
traded funds (``ETFs''). Although ETFs are open-end management 
investment companies or unit investment trusts, they do not present 
the same disclosure concerns as other open-end investment companies 
or UITs. Rather then being sold and redeemed through retail 
transactions, large blocks of ETF shares are created and redeemed 
through the exchange of large blocks of the underlying securities. 
Retail investors then can buy or sell ETF shares on the secondary 
market. Broker-dealers that effect retail transactions in ETFs 
generally charge commissions that are disclosed on the 
confirmations. Moreover, we do not believe that ETFs pose the same 
type of potential conflicts of interest that are associated with 
traditional open-end fund shares. We therefore do not believe it is 
necessary to include ETFs within the scope of the rule.
    \59\ Broker-dealers may buy and sell UITs on the secondary 
market, following their initial distribution. Because proposed rule 
15c2-2 focuses on disclosure of costs and conflicts when covered 
securities are distributed, we would except secondary market 
transactions in UITs from the rule's scope.
    \60\ Section 2(b) of the Investment Company Act excludes the 
United States, states and certain other government-related 
instrumentalities and corporations from the scope of that Act.
    Because our proposed definition of ``municipal fund security'' 
does not encompass interests in local government investment pools, 
it would differ from the way the term is defined in MSRB rule D-12.
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     The Commission requests comment on the proposed 
definition of ``covered security,'' including whether the definition 
appropriately encompasses all the types of securities having 
distribution practices that warrant targeted confirmation disclosure of 
information about distribution-related costs and conflicts.
     The Commission seeks comment on whether proposed 
rule 15c2-2 should encompass transactions in all UIT interests, given 
the differences in distribution practices between UIT interests and 
other securities within the scope of the proposed rule. While some UIT 
interests are associated with revenue sharing (e.g., revenue sharing 
with respect to the underlying funds of variable annuity contracts and 
variable life insurance policies), commenters are invited to address 
the extent to which revenue sharing and other arrangements that raise 
conflict of interest issues are not associated with the distribution of 
UIT interests.
     The Commission also seeks comment about whether 
proposed rule 15c2-2 should also apply to other types of investment 
company securities, such as ETF shares. Commenters moreover are invited 
to address whether the rule also should apply to closed-end investment 
companies generally, or to particular closed-end companies such as 
``interval funds'' that make regular repurchase offers.\61\ Do 
transactions in closed-end company shares at those times raise the 
types of costs or conflicts that warrant proposed rule 15c2-2's 
disclosure requirements?
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    \61\ In general, shares of closed-end investment companies are 
distributed through one-time underwritings, rather than on an 
ongoing basis. The broker-dealers that distribute the shares are 
compensated through the receipt of underwriting fees, and practices 
such as revenue sharing may not be present. As a result, 
transactions in those securities generally may not raise the same 
disclosure issues as transactions in open-end investment companies. 
Some closed-end investment companies, however, may offer to 
repurchase their shares on a periodic basis. See, e.g., Investment 
Company Act section 23(c) and rule 23c-3 thereunder.
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     We also request comment about whether persons 
other than brokers, dealers or municipal securities dealers also should 
be required to deliver confirmations to investors pursuant to proposed 
rule 15c2-2. Commenters are invited to discuss whether other persons 
that participate in the distribution of covered securities--such as 
banks--are subject to the same or similar conflicts of interest as 
brokers, dealers and municipal securities dealers. Commenters also are 
invited to discuss whether the Commission should propose rules to 
require those other persons to disclose confirmation information on or 
before the completion of such transactions.
     In addition, the Commission requests comment on 
whether a transitional period is necessary to make adjustments 
necessary to deliver confirmations that comply with proposed rule 15c2-
2.
    c. Schedule 15C and the form of disclosure. Proposed rule 15c2-2 
would require brokers, dealers and municipal securities dealers to 
disclose a range of cost and conflict information arising from 
transactions in covered securities. To be effective, this information 
would have to be disclosed in a manner that is clear and that provides 
useful context to investors.\62\ Thus, paragraph (a) of proposed rule 
15c2-2 would require a broker, dealer or municipal securities dealer to 
make the required disclosures (other than disclosures subject to the 
periodic disclosure alternative, discussed below) in a manner that is 
``consistent with Schedule 15C'' under the Exchange Act. Proposed 
Schedule 15C, which is set forth at Figure 1, would establish the 
format for disclosing the required information to investors. While much 
of the form would be standardized, we have included flexibility to 
accommodate implementation costs as well as the fact that confirmations 
are business forms traditionally utilized by brokers, dealers and 
municipal securities dealers for their own business purposes. Proposed 
Schedule 15C has six main parts: A, general information; B, 
distribution-cost information; C, broker-dealer compensation 
information; D, differential compensation information; E, breakpoint 
discount information, and F, explanations and definitions. Proposed 
paragraph (f)(4) of rule 15c2-2 would provide that the term 
``consistent with Schedule 15C'' means using Schedule 15C, or using a 
similar layout of disclosure so long as: (i) All information specified 
in Schedule 15C is set forth in the confirmation; (ii) information 
specified in Sections B through F of Schedule 15C (if applicable) is 
included with no change, including the use of bold print for data items 
printed in bold in Schedule 15C, and in the order set forth in Schedule 
15C; and (iii) information specified in Section A of Schedule 15C is 
displayed prominently.
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    \62\ As discussed below, certain arrangements that raise cost 
and conflict concerns raise special disclosure challenges, 
particularly with regard to disclosure of deferred sales loads, 
revenue sharing and portfolio brokerage commissions.
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    Proposed Schedule 15C would not only provide the format for 
disclosing quantitative information about a transaction, but also would 
provide definitions and explanatory information intended to help make 
the quantitative information more useful to investors. By supplementing 
the required disclosures with explanations of the meaning of terms such 
as net asset value,\63\ revenue sharing and portfolio brokerage 
commissions, and by explaining why investors may wish to scrutinize 
information about revenue sharing and differential compensation, 
proposed Schedule 15C is intended to help give investors the tools they 
need to ask the

[[Page 6447]]

right questions and to make informed decisions. Attachments 1, 2 and 3 
to this proposal set forth examples of confirmations that are 
consistent with Schedule 15C.
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    \63\ When we use the term ``net asset value'' in this release, 
it includes ``accumulation unit value'' in the case of variable 
insurance products.
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     We are not at this time proposing a form for 
disclosures made pursuant to proposed rule 15c2-2's periodic disclosure 
alternative. Because of the variance in the types of transactions that 
could be disclosed pursuant to this alternative, we do not believe that 
a standardized disclosure form would be appropriate. We request 
comment, however, on whether standardized disclosure should be required 
with respect to periodic disclosures. If so, should the format follow 
Schedule 15C? In the event a customer invests in multiple securities, 
including mutual fund shares, UIT interests and 529 plan securities, 
should the information pertaining to each be in a separate section? 
Alternatively, should there be separate forms for each category of 
investment? Commenters are invited to send prototype forms reflecting 
their view.
     The Commission also requests comment on whether 
proposed Schedule 15C is an appropriate template for disclosing 
information to customers. The Commission also requests comment on 
whether disclosure should be required to be in the exact form of 
proposed Schedule 15C, rather than merely consistent with it.
     The Commission further requests comment on 
whether it is appropriate for the proposed form of Schedule 15C to 
combine quantitative information with explanatory and definitional 
information. Commenters are invited to address the issue of whether the 
inclusion of both types of materials may conflict with the business 
purposes that confirmations fundamentally address. Commenters also are 
invited to discuss whether there are preferable alternatives for 
providing explanatory and definitional information that would permit 
investors to fully use the information set forth in the confirmation.
    d. General and purchase-specific disclosure requirements. As 
outlined above, the disclosure requirements of proposed rule 15c2-2 in 
large part are based on existing rule 10b-10, with modifications to 
alert customers to targeted information about the special cost and 
conflicts raised by transactions in mutual fund shares and municipal 
fund securities.
    Paragraph (a) of proposed rule 15c2-2 would provide that it is 
unlawful for any broker, dealer or municipal securities dealer to 
effect any customer transaction in, or to induce any customer purchase 
or sale of, any covered security unless the broker, dealer or municipal 
securities dealer complies with the requirements set forth in 
paragraphs (b), (c), (d) and (e) of the rule. Paragraph (b) would set 
forth general disclosure requirements under the rule. Paragraph (c) 
would set forth additional disclosures that customers shall receive 
when they purchase mutual fund shares, UIT interests and municipal fund 
securities, because purchase transactions implicate the costs and 
conflicts associated with the distribution of these securities. 
Paragraph (d) would set forth alternative requirements for periodic 
reporting. Paragraph (e) would set forth the requirement to disclose 
median information and comparison ranges for the types of information 
required under paragraphs (b), (c) and (d).
    i. General disclosure requirements. Proposed paragraphs (b)(1) and 
(b)(2) of rule 15c2-2 would require disclosure of the date of the 
transaction, and the issuer and class of the covered security. Those 
requirements are similar to the requirements of rule 10b-10(a)(1). 
While rule 10b-10(a)(1) does not specifically mention share class, 
disclosure of class, when applicable, is necessary to identify the 
security.
    Proposed paragraph (b)(3) of rule 15c2-2 would require disclosure 
of both the net asset value of the shares or units and, if different, 
their public offering price.\64\ Rule 10b-10(a)(1) only requires 
disclosure of price. Fund share classes that charge front-end sales 
loads are sold to investors at a public offering price that exceeds the 
net asset value by the size of the load. Providing customers with 
information about both price and net asset value would help them verify 
whether they are obtaining the benefit of any applicable breakpoints, 
and would make the costs associated with front-end sales loads more 
transparent in general.
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    \64\ This discussion's references to ``share'' and ``per-share'' 
information also apply to ``unit'' and ``per-unit'' information 
connected to transactions involving UITs.
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    Proposed paragraph (b)(4) of rule 15c2-2 would require disclosure 
of the number of shares of a covered security purchased or sold by the 
customer. It also would require the total dollar amount paid or 
received in the transaction and the net amount of the investment bought 
or sold in the transaction, which would be equal to the number of 
shares or units bought or sold multiplied by the net asset value of 
those shares or units. Rule 10b-10(a)(1) requires disclosure of the 
number of shares. Specific disclosure of the dollar value of the 
transaction--equal to the number of shares bought or sold multiplied by 
the transaction price--would help safeguard against misunderstandings 
about the value of the transaction. Confirmations already typically 
contain information about the dollar value of the transaction, together 
with the price of the shares and the number of shares bought or sold.
    Proposed paragraph (b)(5) of rule 15c2-2 would require disclosure 
of any commission, markup or other remuneration the broker, dealer or 
municipal securities dealer will receive from the customer in 
connection with the transaction. Rule 10b-10(a)(2)(i)(B) already 
requires disclosure of remuneration from customers. This remuneration 
is distinct from dealer concessions and other types of sales fees that 
a broker, dealer or municipal securities dealer may receive from the 
fund or its primary distributor. Remuneration from customers also is 
distinct from any sales load that the customer may pay in connection 
with a transaction. Both of those would be disclosed separately.\65\ 
Under proposed paragraph (b)(5), a broker, dealer or municipal 
securities dealer often would not be required to disclose any 
information because the firm would receive all of its compensation from 
the issuer or distributor of the covered security, or other third 
parties, rather than directly from the customer. Proposed paragraph 
(b)(5) would require separate disclosure or commissions or other 
compensation from the customer, however, when a broker, dealer or 
municipal securities dealer, such as a fund ``supermarket,'' charges 
its customer a commission or service fee for purchasing a fund.\66\
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    \65\ Proposed paragraph (c)(4) of rule 15c2-2, discussed below, 
would require disclosure of dealer concessions and other types of 
sales fees received from the issuer, its agent or primary 
distributor, or others. Brokers, dealers or municipal securities 
dealers would not receive those fees directly from customers, 
although the fees may be funded by sales loads paid by customers.
    Proposed paragraphs (c)(1) and (c)(2) of rule 15c2-2, also 
discussed below, would require disclosure of front-end and deferred 
sales loads that the customer would incur in connection with the 
transaction.
    \66\ In some cases, a broker, dealer or municipal securities 
dealer itself may impose a special fee on a customer that sells a 
mutual fund share shortly after purchase, to discourage short-term 
trading. Paragraph (b)(5) would not require disclosure of that type 
of fee at the time of purchase, unless the amount and timing of the 
fee is reasonably foreseeable to the firm at the time of purchase 
(such as because the broker, dealer or municipal securities dealer 
is aware of the customer's intent to sell). This paragraph, however, 
would require disclosure of that type of fee when it is incurred at 
the time of the subsequent sale.
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    Proposed paragraph (b)(6) of rule 15c2-2 would require disclosure, 
for any transaction in which a customer

[[Page 6448]]

sells a covered security, of the amount of any deferred sales loads 
incurred by the customer. Rule 10b-10 does not explicitly require that 
disclosure, although rule 10b-10 does require disclosure of price, and 
the deferred sales load charged to a customer at the time of sale does 
affect the effective price that the customer receives. Disclosure of 
the deferred sales loads that customers incur when they sell their 
shares would make those distribution costs more transparent.\67\
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    \67\ Proposed paragraph (c)(2) of rule 15c2-2, discussed below, 
would separately require prospective disclosure, in the 
confirmation, of the potential amounts of the deferred sales load 
that the customer may incur when he or she later sells the shares. 
Proposed paragraph (b)(6), in contrast, would require disclosure of 
deferred sales loads actually incurred at the time of sale.
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    Proposed paragraph (b)(7) of rule 15c2-2, when applicable, would 
require disclosure of the fact that a broker, dealer or municipal 
securities dealer is not a member of the Securities Investor Protection 
Corporation (``SIPC''), or that the broker, dealer or municipal 
securities dealer clearing or carrying the customer account is not a 
member of SIPC.\68\ That disclosure would not be required, however, if 
the customer sends funds or securities directly to, or receives funds 
or securities directly from, the issuer or its transfer agent, 
custodian, or other designated agent that is not an associated person 
of the broker, dealer or municipal securities dealer, and if that other 
person would provide disclosure on behalf of the broker, dealer or 
municipal securities dealer. This would be consistent with the 
disclosure requirement of rule 10b-10(a)(9).\69\
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    \68\ SIPC is a private-sector, nonprofit membership corporation 
that Congress created under the Securities Investor Protection Act 
of 1970 to help protect customers of failed broker-dealers. 
Generally, all broker-dealers registered with the Commission must be 
members of SIPC. If a broker-dealer fails and is unable to meet its 
obligations to customers, SIPC steps in as quickly as possible and, 
within certain limits, returns cash and securities to customers. 
Broker-dealers who sell only shares of mutual funds are exempt from 
the requirement to be a member of SIPC.
    If disclosure of SIPC membership is adopted, it may be placed in 
the part A (general information) of Schedule 15C.
    \69\ We are proposing conforming changes to rule 10b-10.
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     The Commission requests comment on whether these 
proposed general disclosure requirements would provide customers with 
adequate information about transactions in covered securities. 
Commenters particularly are invited to discuss whether all of these 
proposed general disclosure requirements are appropriate to 
transactions in securities that have a substantial insurance component, 
such as variable life insurance policies.\70\
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    \70\ We note that customers who purchase a variable life 
insurance policy will buy an insurance component as well as make an 
investment, and that the investment component initially may be 
relatively small. That would be reflected in disclosure of net 
amount invested.
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     Commenters may also wish to discuss whether all 
of these proposed general disclosure requirements are appropriate to 
transactions in variable annuities. Commenters are invited to discuss 
any issues they believe are relevant to the application of proposed 
rule 15c2-2 to variable insurance products, as well as any 
modifications they believe could improve the proposed rule's 
effectiveness as applied to variable insurance products. Specifically, 
commenters may wish to address whether alternative or additional 
disclosure requirements would provide investors with more useful 
information for transactions in variable insurance products. In 
addition, we invite comment on whether to use a single confirmation for 
transactions in both the contract or policy and the underlying funds. 
Commenters should address whether such a single confirmation is 
appropriate under the federal securities laws.
    ii. Additional Disclosures For Purchases. Proposed rule 15c2-2(c) 
would require additional disclosures when customers purchase covered 
securities.
    (a) Cost disclosure. Proposed paragraph (c)(1) of rule 15c2-2 would 
require disclosure of the amount of any sales load that the customer 
has incurred or will incur at the time of purchase, expressed in 
dollars and as a percentage of the net amount invested,\71\ together 
with information about the potential relevance of breakpoint discounts. 
Specifically, proposed paragraph (c)(1)(i) would apply if the customer 
will incur a sales load at the time of sale, and would require 
disclosure of information about the availability of breakpoints as 
reflected in Schedule 15C with regard to the covered security, 
including a statement about what is the applicable sales load that is 
set forth in the prospectus, in light of any breakpoint discount and 
the value of the securities position. In determining the value of the 
position that may be subject to a breakpoint discount, the broker-
dealer should consider net asset value, public offering price, historic 
cost or any other measurement that reflects the covered security's 
particular method of providing breakpoint discounts. This proposed 
paragraph therefore requires disclosure not only of the sales load 
actually incurred at the time of purchase, but also the sales load that 
should have been charged based on the availability of breakpoint 
discounts.\72\
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    \71\ The fee table set forth in the front of a fund prospectus 
expresses front-end sales loads as a percentage of the offering 
price, pursuant to Item 3 of Form N-1A, which governs prospectus 
content. A separate table in the prospectus expresses the front-end 
sales loads as a percentage of both the offering price and the net 
asset value, pursuant to Item 8(a)(1) of Form N-1A. The differences 
between those two amounts is significant. For example, a front-end 
sales charge that equals 5.75% of the public offering price would 
equal approximately 6.10% of net asset value. We are proposing to 
amend the prospectus fee table to require disclosure of loads as a 
percentage of net asset value. See infra section VI.
    We also note that industry practice is to round the public 
offering price to two decimal places when calculating the number of 
shares purchased, and to round the number of shares purchased to 
three decimal places. That rounding practice can lead to an actual 
front-end sales load as a percentage of gross amount invested or net 
amount invested that is higher or lower than the sales load 
disclosed in the prospectus as a percentage of offering price or net 
asset value. See infra note 154 and accompanying text. Accordingly, 
as discussed below, the Commission is proposing prospectus 
disclosure requirements to address these differences. Proposed rule 
15c2-2 would require disclosure of the load as a percentage of the 
net amount invested in the transaction, regardless of that rounding 
practice. Attachment 1 illustrates the practical impact of the 
rounding practice. The front-end sales load in that example is 4.0% 
of the public offering price. Rounding, however, causes the sales 
load charged on that $8,000 purchase to equal $321.18, rather than 
$320. The impact of the rounding practice can be more significant 
when net asset value is relatively low.
    \72\ Broker-dealers who sell fund shares to retail customers 
must disclose breakpoint discount information to their customers and 
must have procedures reasonably designed to ascertain information 
necessary to determine the availability and appropriate level of 
breakpoints. A failure to do so can result not only in the customer 
being deprived of a benefit to which he or she is entitled, but also 
in the broker-dealer and representative receiving increased 
commissions at the customer's expense. See In the Matter of 
Application of Harold R. Fenocchio for Review of Disciplinary Action 
Taken by NASD, 46 SEC 279 (1976) (registered representatives had a 
responsibility to make certain that a letter of intent was filed 
with the mutual fund or, at the very least, to inform the clients of 
their rights of accumulation). Because of the large number of mutual 
funds offering different discounts and employing different criteria 
for determining breakpoint eligibility, many broker-dealers have 
experienced operational challenges and other difficulties in 
assuring that customers consistently receive the applicable 
discounts. Nevertheless, each broker-dealer is responsible for 
exercising due care, based on information reasonably ascertainable 
by the broker-dealer, to provide the appropriate breakpoint 
discounts.
    Part E of Attachment 1, which illustrates a confirmation for a 
transaction in class A shares with a front-end sales load, states 
the front-end sales load set forth in the prospectus. Note that the 
$8,000 purchase in that example is entitled to a breakpoint 
discount. This could be because the current purchase should be 
considered in conjunction with other purchases by the investor or 
the investor's family under rights of accumulation, or because it is 
subject to a letter of intent.

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[[Page 6449]]

    Alternatively, proposed paragraph (c)(1)(ii) would apply if the 
customer will not incur a sales load at the time of sale, and would 
require disclosure of information about the availability of breakpoints 
as reflected in Schedule 15C with regard to a different class of the 
covered security, including a statement of the sales load that the 
customer would have incurred at the time of sale if the transaction had 
been in that different class of the covered security. In other words, 
for transactions in share classes without a front-end sales load, the 
proposed paragraph would require disclosure of information about the 
sales load that would have been charged had a share class with a front-
end load been purchased.\73\
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    \73\ Part E of Attachments 2 and 3, which illustrate 
confirmations for transactions in class B shares with a deferred 
sales load, state what would have been the front-end sales loads 
associated with the purchase of class A shares of that dollar 
amount. The $8,000 purchases in those examples would have been 
entitled to breakpoint discounts on front-end sales loads. As noted, 
brokers, dealers and municipal securities dealers must have 
procedures in place to determine the availability and level of 
breakpoint discounts. See supra note 72. Disclosure of information 
about front-end sales loads as part of confirmations for the 
purchase of share classes that carry deferred sales loads in no way 
immunizes a broker, dealer or municipal securities dealer from its 
suitability obligations or any other requirements.
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    Proposed paragraph (f)(17) of rule 15c2-2 would define ``sales 
load'' to have the meaning set forth in Section 2(a)(35) of the 
Investment Company Act.\74\ Proposed paragraph (f)(13) would define 
``net amount invested'' to mean the price paid to purchase the covered 
securities less any applicable sales loads. Proposed paragraph (f)(18) 
of rule 15c2-2 would define ``securities position'' to mean the value 
of the purchase of covered securities; the value of securities that are 
subject to rights of accumulation under the terms of the prospectus 
with respect to the covered security or a related class of the covered 
security, to the extent known by the broker, dealer or municipal 
securities dealer, including the value of such securities purchased in 
other accounts or by other persons; and the value of any such 
securities that are the subject of letters of intent that may be 
considered in computing a breakpoint with respect to the covered 
security or a related class of the covered security.
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    \74\ Section 2(a)(35) of the Investment Company Act generally 
defines ``sales load'' as the difference between the price of a 
security to the public and that portion of the proceeds from its 
sale that is received and invested or held for investment by the 
issuer, less any portion of such difference deducted for expenses or 
fees.
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    As discussed above, any sales load that an investor may pay to a 
fund's principal underwriter is distinct from the commission that the 
investor may pay to a broker, dealer or municipal securities 
dealer.\75\ Providing customers with information about the amount of 
the sales load they pay when they purchase covered securities would 
enable them to more effectively monitor potential breakpoint discounts 
and would make the impact of distribution costs generally more 
transparent. Moreover, brokers, dealers and municipal securities 
dealers are well positioned to provide load information to customers on 
a transaction-by-transaction basis. Confirmation disclosure should make 
this information more readily accessible to customers, rather than 
expecting them to turn to a prospectus to calculate the amount of the 
load paid.\76\
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    \75\ An investor who pays a sales load often will not have to 
separately pay a commission. In some circumstances, however, such as 
certain transactions through a broker-dealer's mutual fund 
``supermarket,'' an investor may have to pay both.
    \76\ If this proposed provision is adopted, it would supercede 
the 1979 letter to the ICI. See supra note 6.
---------------------------------------------------------------------------

    Proposed paragraph (c)(2) to rule 15c2-2 would require disclosure 
of the potential amount of deferred sales loads \77\ (other than a 
deferred sales load of no more than one percent that expires no later 
than one year after purchase, when no other sales load would be 
incurred).\78\ We recognize that broker-dealers would rarely, if ever, 
know in advance when an investor may redeem those shares, and therefore 
would generally not be able to disclose the specific amount of a 
deferred sales load. Investors nonetheless have an interest in seeing 
transaction-specific information about the potential cost of deferred 
sales loads. Deferred sales loads cannot exceed a specified percentage 
of the net asset value or the offering price at the time of 
purchase.\79\ In practice, a deferred sales load may equal the lesser 
of a specified percentage of the net asset value at the time of 
purchase `` which can be calculated as a dollar amount by multiplying 
that percentage by the net asset value and the number of shares 
purchased `` or a specified percentage of the net asset value at the 
time of sale. Accordingly, proposed paragraph (c)(2) would require the 
broker, dealer or municipal securities dealer to disclose, on a year-
by-year basis for as long as the deferred load may be in effect, 
information about the maximum amount of the load expressed in dollars. 
Proposed paragraph (c)(2) also would require disclosure of the maximum 
deferred sales load as a percentage of net asset value at the time of 
purchase or sale, as applicable.\80\ This not only would improve the 
transparency of distribution costs, but also would promote balanced 
comparisons between the distribution costs associated with front-end 
load share classes and those associated with deferred sales load share 
classes.
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    \77\ Deferred sales loads include surrender charges on variable 
contracts.
    \78\ At times, purchases of class A shares of more than $1 
million will not carry any front-end sales load due to the 
availability of breakpoint discounts, but a deferred sales load of 
up to one percent is imposed for up to one year to discourage short-
term holdings. That type of deferred sales load does not raise the 
disclosure issues that this proposed rule seeks to address.
    \79\ See Investment Company Act rule 6c-10.
    \80\ Attachment 2 depicts confirmation disclosure of a 
transaction in a fund share that carries a deferred sales load that 
equals a specified percentage multiplied by the minimum of the net 
asset value at the time of purchase or time of redemption. 
Attachment 3 depicts confirmation disclosure of a transaction in a 
fund share that carries a deferred sales load that equals a 
specified percentage multiplied by the net asset value at the time 
of purchase.
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    Proposed paragraph (c)(3) of rule 15c2-2 would require disclosure 
of any asset-based sales charges and service fees paid in connection 
with the customer's purchase of covered securities. Proposed paragraph 
(f)(1) of rule 15c2-2 would define ``asset-based sales charges'' as all 
asset-based charges incurred in connection with the distribution of a 
covered security, paid by the issuer or paid out of assets of covered 
securities owned by the issuer. roposed paragraph (f)(2) of rule 15c2-2 
would define ``asset-based service fee'' as all asset-based amounts 
paid for personal service and/or the maintenance of shareholder 
accounts by the issuer, or paid out of assets of covered securities 
owned by the issuer. Those terms would encompass rule 12b-1 fees and 
any similar types of distribution or service fees incurred by issuers. 
Those terms, moreover, would be broad enough to require disclosure when 
the issuer of the covered security itself does not directly pay these 
fees, but instead invests in other covered securities that incur those 
fees.\81\ We recognize that because the amount of rule 12b-1 or similar 
fees would be linked to net asset value, a broker, dealer or municipal 
securities dealer would rarely, if ever, know in advance what amount of 
those fees would be attributable to the shares purchased in a 
particular transaction. This amount could be particularly uncertain 
because a fund's board of directors may later determine not to renew 
the fund's rule 12b-1 plan. The

[[Page 6450]]

proposed rule therefore would require brokers, dealers and municipal 
securities dealers to disclose asset-based sales charges and asset-
based service fees as a percentage of net asset value, and also to 
disclose an estimate of the total annual dollar amount of asset-based 
sales charges and asset-based service fees that would be associated 
with the shares purchased if net asset value were to remain unchanged 
(and assuming that the level of fees paid out of assets under a rule 
12b-1 plan or similar distribution arrangement remains unchanged).
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    \81\ For example, while the issuer of a 529 plan may not pay 
rule 12b-1 fees, the plan assets may be invested in mutual funds 
that incur those fees. Similarly, mutual funds underlying variable 
insurance contracts may also pay 12b-1 fees. In those cases, the 
confirmation would have to disclose information about those fees, 
even though they are not directly paid by the issuer.
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     The Commission requests comment on whether these 
requirements would provide customers with an appropriate amount of 
information about the amount of distribution-related costs they or the 
issuer would incur in connection with their purchases. If not, please 
describe additional disclosure that would be helpful. Commenters are 
specifically invited to comment on whether the proposed requirements 
related to deferred sales loads would provide disclosure that is 
sufficiently clear to customers.
     The Commission also requests comment on whether 
these requirements would appropriately be applied to all types of 
covered securities, or whether in certain circumstances the disclosure 
requirements should be modified or eliminated. Commenters in particular 
may wish to address how disclosure of front-end loads as a percentage 
of the net amount invested would apply to securities which include a 
life insurance component, such as variable life insurance policies, and 
whether alternative disclosure requirements would be preferable for 
those products.\82\ Commenters also may address whether all of these 
requirements are appropriately applied to variable annuities. 
Commenters should address whether and how up-front bonus payments on 
variable insurance products and the recapture of such bonus payments 
should be disclosed.
---------------------------------------------------------------------------

    \82\ Because variable life insurance initially may have a 
relatively small investment component, disclosure of the front-end 
sales load as a percentage of net asset value may result in a 
relatively high disclosed percentage.
---------------------------------------------------------------------------

     The Commission further requests comment about 
how proposed Schedule 15C could best disclose sales loads and asset-
based fees in percentage terms, based on the customer's investment. 
This disclosure needs to reflect the fact that while front-end sales 
loads will equal a percentage of the present value of the securities 
being purchased, deferred sales loads and asset-based fees can be a 
function of the future value of those securities. How can Schedule 15C 
best state those percentages in a way that is accurate and readily 
understood? \83\
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    \83\ Proposed Schedule 15C states those amounts (as well as 
dealer concession, revenue sharing and portfolio brokerage 
commissions, see infra) as a percentage of ``your investment.'' The 
note on the reverse of proposed Schedule 15C explains that the term 
``your investment'' generally is based on current values, but in the 
case of deferred sales loads and asset-based fees may be based on 
future values. The use of the single term ``your investment'' is 
intended to be simple to understand, while flexible enough to 
accommodate the fact that present values and future values both can 
be relevant.
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    (b) Sales fee disclosure. Proposed paragraph (c)(4) of rule 15c2-2 
would require disclosure of any dealer concession that the broker, 
dealer or municipal securities dealer earns in connection with the 
transaction, expressed in dollars and as a percentage of the net amount 
invested. Proposed paragraph (f)(8) of rule 15c2-2 would define 
``dealer concession'' as fees that the broker, dealer or municipal 
securities dealer will earn at the time of the sale, in connection with 
the transaction, from the issuer of the covered security, an agent of 
the issuer, the primary distributor, or any other broker, dealer or 
municipal securities dealer. That amount would be distinct from the 
commission that the broker, dealer or municipal securities dealer may 
receive directly from the customer, as well as any load that the 
investor may pay to the fund's principal underwriter.\84\ Because a 
dealer concession constitutes part of the broker's, dealer's or 
municipal securities dealer's financial stake in selling the security 
to the customer, the amount of that stake is relevant to customers so 
they can better scrutinize the adequacy of the investment options with 
which they were presented, as well as any recommendations they 
received.
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    \84\ As noted above, commissions would be disclosed pursuant to 
proposed paragraph (b)(4) of rule 15c2-2. Front-end and deferred 
loads would be disclosed pursuant to proposed paragraphs (c)(1) and 
(c)(2) of that rule.
    For transactions in share classes that impose a front-end sales 
load, the dealer concession is likely to be smaller than the amount 
of the load, because the fund's primary distributor generally will 
retain some of the load to pay its own expenses. For transactions in 
share classes that impose a deferred sales load, the amount of the 
dealer concession may be linked to the expected amount of asset-
based sales charges (e.g., 12b-1 fees) and of deferred sales loads 
associated with the shares.
---------------------------------------------------------------------------

     The Commission requests comment about whether 
this requirement is adequate to inform customers about the incentives 
associated with sales fees and, if not, suggestions as to how it could 
be modified to do so.
    (c) Revenue sharing and portfolio brokerage disclosure. Proposed 
rule 15c2-2 also seeks to put customers on notice about the existence 
of arrangements that lead to conflicts of interest, and provide 
information about the degree of those conflicts. That goal cannot be 
satisfied by superficial changes, such as boilerplate confirmation 
language that may attract the attention only of those investors who 
already are attuned to the potential impacts of revenue sharing. For 
this reason, the proposed rule would place quantified information about 
the arrangements directly in front of investors, so they may 
immediately evaluate its importance and determine whether to seek 
additional information.
    Proposed paragraph (c)(5) of rule 15c2-2 would require disclosure 
of information related to revenue sharing payments and portfolio 
securities transaction commissions received by the broker, dealer or 
municipal securities dealer. The proposed rule specifically would 
require disclosure of information about two types of arrangements: (i) 
Revenue sharing payments from persons within the fund complex; and (ii) 
commissions, including riskless principal compensation, associated with 
portfolio securities transactions on behalf of the issuer of the 
covered security, or other covered securities within the fund 
complex.\85\ Because revenue sharing and portfolio brokerage 
arrangements may be linked in part or in whole to a firm's success in 
distributing securities on behalf of an entire fund complex, the 
information would be disclosed on the basis of the firm's sales on 
behalf of the fund complex, rather than on a fund-by-fund basis.\86\
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    \85\ Although these disclosures would be consistent with the 
requirements of rule 10b-10(a)(i)(D) regarding third-party 
remuneration, the rule 10b-10 disclosure requirements have been 
interpreted in the context of the prospectus disclosure principles 
that the Commission articulated in the 1977 release adopting that 
rule. See supra text accompanying note 5. Because we conclude that 
prospectus disclosure is inadequate in this context, those 
interpretations--which permit prospectus disclosure to satisfy the 
requirements of rule 10b-10--would not apply to disclosure 
requirements under new rule 15c2-2.
    \86\ A confirmation should inform an investor of the potential 
conflicts of interest that confront a broker, dealer or municipal 
securities dealer. Because the relationships that can lead to those 
potential conflicts typically are established on a fund complex 
basis, rather than on a fund-by-fund basis, it is appropriate to 
disclose those relationships on a fund complex basis. Given that a 
prospectus is a fund-specific document, a prospectus is particularly 
inappropriate for disclosing information about those arrangements.
---------------------------------------------------------------------------

    Proposed paragraph (f)(16) of rule 15c2-2 would define ``revenue 
sharing'' as any arrangement or understanding by

[[Page 6451]]

which a person within a fund complex, other than the issuer of the 
covered security, pays a broker, dealer or municipal securities dealer, 
or any associated person of the broker, dealer or municipal securities 
dealer, apart from dealer concessions or other sales fees that would be 
disclosed pursuant to paragraph (b)(4). This definition of revenue 
sharing would encompass payments that have a variety of labels--
including payments that may be characterized as having purposes other 
than paying a broker, dealer or municipal securities dealer for ``shelf 
space.'' For example, in responding to NASD's recent proposal regarding 
disclosure of revenue sharing and differential compensation, the SIA 
stated that revenue sharing arrangements are used to reimburse broker-
dealers for a variety of expenses, such as reviewing fund 
prospectuses.\87\ While recognizing that brokers, dealers or municipal 
securities dealers incur expenses in connection with selling and 
distributing mutual fund shares and maintaining customers accounts, 
just as they incur expenses in connection with selling other types of 
securities and maintaining those customer accounts, payments that 
arguably reimburse firms for these expenses may still influence the 
firms to promote the sale of particular funds. Moreover, payments that 
have the effect of reimbursing broker-dealers for expenses that they 
would incur in their normal course of business, or that exceed the 
expenses the broker-dealers actually incur, act as subsidies that 
create conflicts of interest. The proposed definition of revenue 
sharing excludes payments made by the issuer of the covered security, 
because those other payments, such as payments for transfer agent 
services, do not raise the same conflict of interest concerns that are 
the subject of this proposed rulemaking.\88\
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    \87\ See Letter from Stuart Strachan, Chairman, Investment 
Company Committee, SIA, to Barbara Sweeny, NASD, October 17, 2003 
(available at http://www.sia.com/2003_comment_letters/pdf/NASD10-17-03.pdf). The letter identified the following categories of 
reimbursement of broker-dealer expenses: ``Customer Sub-accounting'; 
mailing disclosure documents; maintaining websites; reviewing 
prospectuses, statements of additional information and other 
``marketing materials'; implementing changes initiated by funds, 
such as systems and procedures changes, and communicating changes to 
registered representatives and customers; and ``overseeing and 
coordinating fund wholesaler activities.''
    \88\ In contrast, we believe that investors should be informed 
about portfolio brokerage commissions even though they are subject 
to regulation under Section 12 of the Investment Company Act and 
oversight by the fund's board of directors. We believe that 
prospectus disclosure requirements for such payments are not 
specific enough to place the brokerage customer on notice of the 
conflicts of interest that they present to particular brokers, 
dealers and municipal securities dealers.
---------------------------------------------------------------------------

    Proposed paragraph (f)(14) of rule 15c2-2 would define ``portfolio 
securities transaction'' as any transaction involving securities owned 
by the issuer of a covered security, or owned by any other issuer 
within the same fund complex. The required disclosure of commissions 
associated with portfolio transactions would include disclosure of 
commissions received by a broker, dealer or municipal securities dealer 
as part of a ``soft dollar'' arrangement. Proposed paragraph (f)(10) of 
rule 15c2-2 would define ``fund complex'' to include the issuer of the 
covered security (including the sponsor, depositor or trustee of a unit 
investment trust, and any insurance company issuing a variable annuity 
contract or variable life insurance policy), the issuer of any other 
covered security that holds itself out to investors as a related 
company for purposes of investment or investor services, any agent or 
investment adviser for such issuer, and any affiliated person of any 
such issuer or any such investment adviser.\89\
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    \89\ The term ``affiliated person'' of another person is defined 
by Section 2(a)(3) of the Investment Company Act to include, among 
others, officers, directors, partners or employees of the other 
person, and persons directly or indirectly controlling, controlled 
by or under common control with the other person, and investment 
advisers to investment companies.
    The definition of ``fund complex,'' by including any agent of 
the issuer, may at times encompass the selling broker, dealer or 
municipal securities dealer that is required to make disclosure 
under this rule. The amounts of revenue sharing to be disclosed 
under this provision would apply only to payments made to the 
broker, dealer or municipal securities dealer by other persons 
within the fund complex.
---------------------------------------------------------------------------

    For both revenue sharing and portfolio brokerage commissions, a 
broker, dealer or municipal securities dealer would be required to 
disclose information about amounts directly or indirectly earned from 
the fund complex by: (A) The broker, dealer or municipal securities 
dealer; (B) any associated person (as defined in Sections 3(a)(18) and 
3(a)(32) of the Exchange Act) that is a broker, dealer or municipal 
securities dealer, and (C) if the covered security is not a proprietary 
covered security, any other associated person. Proposed paragraph 
(f)(15) of rule 15c2-2 would define the term ``proprietary covered 
security'' as any covered security as to which the broker, dealer or 
municipal securities dealer is an affiliated person, as defined by 
Section 2(a)(3) of the Investment Company Act, of the issuer, or is an 
associated person of the issuer's investment adviser or principal 
underwriter, or, in the case of a covered security that is an interest 
in a UIT, is an associated person of a sponsor, depositor or trustee of 
the covered security.
    Those amounts should be disclosed as a percentage of the total net 
asset value represented by such broker's, dealer's or municipal 
securities dealer's (including brokers, dealers and municipal 
securities dealers that fall in category (B) above) total sales of 
covered securities (as measured by cumulative net asset value) on 
behalf of the fund complex over the four most recent calendar quarters, 
updated each calendar quarter. The required disclosure also would set 
forth the total dollar amount of revenue sharing or portfolio brokerage 
commissions that the broker, dealer or municipal securities dealer may 
expect to receive in connection with the transaction, calculated by 
multiplying that percentage by the net amount invested in the 
transaction. Firms would have 30 days to update the information 
following the end of the calendar quarter.\90\
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    \90\ The twelve month disclosure period is intended to 
accommodate the fact that certain payment streams associated with 
revenue sharing may be annual in nature, such as sponsorship of 
seminars and other events held by brokers, dealers and municipal 
securities dealers. At the same time, requiring the information to 
be updated quarterly is intended to permit the disclosure to reflect 
any changes in a distribution relationship.
---------------------------------------------------------------------------

    By requiring disclosure of information about amounts paid to 
affiliates, as well as information about amounts paid directly to the 
broker, dealer or municipal securities dealer, the proposed rule would 
inform investors about the firm's conflicts of interest even when the 
firm does not directly receive payment. Amounts received by affiliates 
that are not brokers, dealers or municipal securities dealers would not 
be included with respect to transactions involving proprietary covered 
securities, to avoid requiring disclosure of management fees and other 
payments between funds and investment advisers and any other service 
providers that are associated with the broker, dealer and municipal 
securities dealer.\91\
---------------------------------------------------------------------------

    \91\ In any event, when a broker, dealer or municipal securities 
dealer is affiliated with a fund family, revenue sharing may be less 
significant as a distribution incentive.
---------------------------------------------------------------------------

    Moreover, to the extent that the broker, dealer or municipal 
securities dealer has entered into a revenue sharing arrangement or 
understanding that would result in a specific amount of remuneration in 
connection with purchases of the covered security, the broker, dealer 
or municipal securities dealer would have to disclose that expected 
remuneration as a percentage

[[Page 6452]]

of the net amount invested in the covered securities, and would have to 
disclose the total dollar amount of remuneration it may expect to 
receive in connection with the transaction.\92\
---------------------------------------------------------------------------

    \92\ Section C of Schedule 15C would provide space for 
disclosure of additional remuneration.
---------------------------------------------------------------------------

    Disclosing information about revenue sharing and portfolio 
brokerage commissions in the context of the firm's total sales on 
behalf of a fund complex, instead of simply disclosing the absolute 
dollar values the firm has received from the fund complex, would enable 
customers to see information about a firm's selling stake in a 
standardized manner, regardless of whether a customer's particular 
broker, dealer or municipal securities dealer is large or small, and 
regardless of whether the covered security is issued by a large or 
small fund complex.\93\ Disclosure of this information would alert 
customers to the existence and magnitude of revenue sharing and 
portfolio commission arrangements that cause conflicts of interest for 
brokers, dealers and municipal securities dealers and their associated 
persons. At the same time, disclosure of the particular arrangements 
applicable to the transaction will provide information to investors 
about the most direct incentives for such transactions.
---------------------------------------------------------------------------

    \93\ For example, a one hundred thousand dollar annual revenue 
sharing payment from a mutual fund family may pose more of a 
potential conflict of interest to a firm that annually sells ten 
million dollars worth of shares for that fund complex than it would 
pose to a firm that annually sells fifty million dollars worth of 
shares for that fund family.
---------------------------------------------------------------------------

    Proposed rule 15c2-2 is not intended to preempt or otherwise negate 
other provisions of law that may apply. We note that NASD rule 
2830(k)(1) bars broker-dealers from favoring the distribution of funds 
that pay portfolio brokerage commissions.\94\ We wish to stress that 
the proposal to require broker-dealers to disclose information about 
receipt of portfolio brokerage commissions in no way should be read to 
condone favoring distribution of funds that pay portfolio brokerage 
commissions, and would not prevent a broker-dealer from being held 
liable for violating that NASD rule. Moreover, a mutual fund that uses 
brokerage commissions to promote the distribution of another mutual 
fund may also be in violation of the Investment Company Act. Nor would 
proposed rule 15c2-2 protect a firm from other forms of liability, such 
as liability under agency law principles.
---------------------------------------------------------------------------

    \94\ NASD rule 2830(k)(1) bars member firms from favoring funds 
on the basis of brokerage commissions received or expected from any 
source. That restriction has not been uniformly followed. See supra 
note 20 (discussing NASD action against Morgan Stanley). Moreover, 
NASD rule 2830(k)(4) restricts member firms from disseminating 
information about its receipt of commissions from fund complexes 
other than to certain management personnel. In proposing required 
disclosure of portfolio brokerage commission arrangements, we do not 
intend to provide any comfort for relationships or activities that 
are barred by existing rules.
---------------------------------------------------------------------------

     The Commission requests comment on whether the 
proposed definition of revenue sharing appropriately encompasses all 
distribution arrangements that pose conflicts of interest to brokers, 
dealers and municipal securities dealers. Commenters particularly are 
invited to discuss whether the definition should include additional 
distribution-related arrangements that lead to conflicts of interest, 
such as distribution-related payments to other affiliates of brokers, 
dealers and municipal securities dealers. Commenters also are invited 
to discuss whether the definition should exclude certain arrangements 
that compensate brokers, dealers or municipal securities dealers for 
actual expenses they incur (such as mailing expenses) as part of 
activities that they would not generally be expected to perform as part 
of a securities business.
     In addition, commenters are invited to provide 
information about which specific payment streams would be encompassed 
by the proposed definition of revenue sharing, the dollar value of 
those payment streams, and the uses of those payments.
     Commenters also are invited to discuss whether 
the rule should use a term other than ``revenue sharing,'' given that 
the proposed disclosure requirement would encompass more than the 
traditional use of the term ``revenue sharing'' in the mutual fund 
industry, which is limited to payments from an investment adviser to 
the broker, dealer or municipal securities dealer. Commenters 
suggesting alternative terms should explain why those are preferable. 
Moreover, commenters are invited to discuss whether the definition of 
revenue sharing appropriately excludes payments made by the issuer of 
the covered security, and whether the proposed rule should require 
disclosure of payments made out of the issuer's assets, such as 
transfer agent payments, that lead to conflicts, regardless of whether 
those payments already would be accounted for in fund financial 
statements and are subject to oversight by the fund's board of 
directors.
     More generally, the Commission requests comment 
on whether the proposal for disclosure of revenue sharing and portfolio 
brokerage arrangements would provide sufficient information to 
investors. Commenters particularly are invited to discuss whether firms 
should be required to disclose absolute dollar amounts of revenue 
sharing and portfolio commissions, in addition to or in lieu of 
disclosing those payments in percentage terms and in terms of the 
amount of the transaction. Commenters also are invited to discuss 
whether these arrangements more appropriately should be disclosed on a 
different basis than for 12 month periods, updated quarterly. We 
request comment on whether the proposed approach takes sufficient 
account of the fact that revenue sharing arrangements at times may 
consist of separate revenue streams arising from a firm's new sales of 
fund shares and its prior sales of fund shares. Given that it is 
conceivable that a fund complex may pay different levels of revenue 
sharing depending on the fund, or may pay revenue sharing only in 
connection with selected funds, commenters are invited to discuss 
whether the proposed approach can be improved to account for 
differences in revenue sharing practices between different funds in the 
same complex.
     Commenters also are invited to discuss whether, 
when calculating revenue sharing and portfolio brokerage commissions as 
a percentage of a broker's, dealer's, or municipal securities dealer's 
sales on behalf of a fund complex, that percentage should be based on 
all sales, or whether certain transactions such as transactions 
involving money market funds should be excluded from the denominator 
used to calculate those percentages. We also request comment on whether 
there are alternative ways to effectively inform investors of material 
information about arrangements that lead to conflicts of interest, 
while posing lower disclosure costs. In that regard, commenters may 
wish to discuss whether investors can be adequately informed about 
revenue sharing and portfolio commission arrangements through 
disclosures of approximate percentage ranges or dollar ranges, possibly 
in conjunction with checkboxes. Finally, commenters are invited to 
discuss whether disclosure of portfolio brokerage commissions is 
appropriate given existing restrictions on those relationships 
influencing fund distribution.\95\
---------------------------------------------------------------------------

    \95\ See discussion of NASD rule 2830(k)(1), supra note 94.
---------------------------------------------------------------------------

    (d) Differential compensation disclosure. Proposed paragraph (c)(6) 
of rule 15c2-2 would require disclosure of whether a broker, dealer or 
municipal securities dealer pays differential compensation to 
associated persons related to purchases of two specific

[[Page 6453]]

types of securities: (i) Covered securities that carry a deferred sales 
load (other than a deferred load of no more than one percent that 
expires no later than one year after purchase, when no other sales load 
would be incurred),\96\ and (ii) shares of ``proprietary covered 
securities'' that are issued by an affiliate of the broker, dealer or 
municipal securities dealer. If a customer purchased a proprietary 
covered security that carries a deferred sales load, both disclosures 
would be required. The proposed rule would provide for affirmative, 
negative or ``not applicable'' disclosure about differential 
compensation to alert customers to the presence of compensation 
practices that provide incentives leading to conflicts for associated 
persons.
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    \96\ As noted, some large purchases of class A shares will carry 
a deferred sales load of up to one percent is imposed for up to one 
year to discourage short-term holdings. Those sales do not raise the 
conflict concerns that differential compensation disclosure is 
intended to capture.
---------------------------------------------------------------------------

    Disclosure of differential compensation would be limited to 
transactions in those two types of securities because of the special 
concerns they raise. Securities that carry a deferred sales load--such 
as class B shares--may appear more appealing to investors than shares 
with a front-end sales load, but their long-term costs may be greater 
and the personnel of a broker, dealer or municipal securities dealer 
may be more highly compensated for selling them, particularly when the 
same investment in a share class with a front-end sales load would have 
been entitled to a breakpoint discount. Moreover, a broker, dealer or 
municipal securities dealer may pay its personnel extra compensation 
for selling securities of issuers affiliated with the broker, dealer or 
municipal securities dealer. While a broker, dealer or municipal 
securities dealer also may pay extra compensation for selling 
securities that generate revenue sharing, revenue sharing would be 
disclosed elsewhere on the confirmation.
    The proposed rule would define the term ``differential 
compensation'' differently depending on the securities transaction at 
issue. With respect to customer purchases of a class of covered 
security associated with a deferred sales load (other than a deferred 
load of no more than one percent that expires no later than one year 
after purchase, when no other sales load would be incurred), proposed 
paragraph (f)(9)(i) of rule 15c2-2 would define ``differential 
compensation'' as any form of higher compensation (including total 
commissions, reimbursement or avoidance of charges or expenses, or 
other cash or non-cash compensation) that a broker, dealer or municipal 
securities dealer can be expected to pay to any associated person in 
connection with the sale of a stated dollar amount of that class of 
covered security over the next year, based on its current practices and 
assuming no change in the shares' net asset value if applicable, 
compared with the compensation that the associated person would have 
been paid over the next year in connection with the sale of the same 
dollar amount of another class of the same security that is associated 
with a front-end sales load.\97\ The broker, dealer or municipal 
securities dealer would have to disclose the existence of differential 
compensation related to securities with a deferred end sales loads 
whenever any associated person--salesperson or supervisor--is paid more 
to sell a security that has a deferred sales load--i.e., differential 
compensation.\98\ Disclosure of those incentives should be useful to 
investors, especially given the recent instances in which associated 
persons were found to have inappropriately placed customers into class 
B shares to increase their own compensation.\99\ Investors have an 
interest in knowing whether salespersons or other associated persons 
have those higher incentives.\100\ The proposed rule only relates to 
remuneration expected to be paid in the next year when identifying the 
presence or absence of differential compensation, because short-term 
compensation reflects the associated person's most immediate financial 
incentive and because of the difficulty of estimating the near-term 
value of later revenues. We note, however, that an associated person 
may receive significant compensation after the first year for selling 
some share classes.\101\
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    \97\ Typically, class B shares are subject to a decreasing 
deferred sales load for several years following purchase. The amount 
of the deferred sales load, usually calculated as the lesser of a 
percentage of the value of the initial investment or the account's 
value, declines each year that the customer holds the shares and 
eventually disappears entirely. Some class C shares are subject to a 
deferred sales load for the first year after purchase. Generally, 
this disclosure requirement would apply to investor purchases of 
class B shares. Purchases of class A shares of $1 million or more 
typically are subject to a one percent deferred sales load for one 
year, but those purchases generally would not be within the scope of 
this requirement.
    When a customer purchases a class B share, the question of 
whether an associated person receives differential compensation 
should take into account the remuneration he or she would have 
earned from the sale of class A shares.
    Class B shares often carry relatively high 12b-1 fees, but may 
automatically convert into class A shares (which generally carry 
lower 12b-1 fees) several years after purchase. Class C shares also 
generally carry relatively high 12b-1 fees, and usually do not 
automatically convert to a class of shares with lower 12b-1 fees. 
The Commission's Internet site contains an online calculator that 
illustrates the impact of loads and other costs on the relative 
total returns earned on mutual fund investments in different share 
classes for different holding periods. The calculator is located at 
http://www.sec.gov/investor/tools/mfcc/mfcc-int.htm.
    \98\ For example, suppose that an associated person is paid a 
fixed 50% payout of the dealer concession received by a selling 
broker-dealer in connection with the sale of fund shares, and that 
the dealer concession received by the firm for selling $200,000 of a 
particular mutual fund's shares is 4% for class B shares and 2.5% 
for class A shares. In that case, the associated person would 
receive a commission of $4,000 for selling the class B shares, but 
only $2,500 for selling the class A shares. That would amount to 
$1,500 (or 60%) higher compensation for selling the customer class B 
shares.
    \99\ See supra note 20.
    \100\ See supra note 49.
    \101\ Broker-dealers that sell class C shares may receive a 
relatively modest upfront dealer concession, followed by a portion 
of the long-term 12b-1 fees that are paid on those shares. Because 
class C shares generally do not automatically convert to a share 
class associated with lower 12b-1 fees, unlike class B shares, the 
broker-dealer's and its associated person's post-first year 
compensation for selling class C shares may be particularly 
significant.
---------------------------------------------------------------------------

    In the case of customer purchases of proprietary covered 
securities, proposed paragraph (f)(9)(ii) of rule 15c2-2 would define 
``differential compensation'' as: (A) Any practice by which a broker, 
dealer or municipal securities dealer pays an associated person a 
higher percentage of the firm's gross dealer concession in connection 
with selling a proprietary covered security than the percentage of the 
gross dealer concession that the firm would pay in connection with 
selling the same dollar amount of any non-proprietary covered security 
offered by the firm; and (B) other practices of a broker, dealer or 
municipal securities dealer that cause an associated person to earn a 
higher rate of compensation in connection with selling a proprietary 
covered security, such as additional cash compensation or the 
imposition, allocation, or waiver of expenses, overhead costs, or 
ticket charges. That aspect of the proposed rule takes percentage 
payment rates into account, rather than absolute dollar amounts, 
because that would lead to more effective disclosure.\102\ Proposed 
paragraph (f)(11) of rule 15c2-2 would define the term ``gross dealer 
concession'' as the total amount of any discounts, concessions, fees, 
service fees, commissions, or asset-based sales charges received by the 
broker, dealer or municipal securities dealer from the issuer in 
connection with the sale and distribution of a covered security, other 
than portfolio brokerage commissions for transactions effected on 
behalf of the

[[Page 6454]]

issuer.\103\ As discussed above in the context of revenue sharing, 
proposed paragraph (f)(15) of rule 15c2-2 would define the term 
``proprietary covered security'' as any covered security as to which 
the broker, dealer or municipal securities dealer is an affiliated 
person, as defined by Section 2(a)(3) of the Investment Company Act, of 
the issuer, or is an associated person of the issuer's investment 
adviser or principal underwriter, or, in the case of a covered security 
that is an interest in a UIT, is an associated person of a sponsor, 
depositor or trustee of the covered security. The broker, dealer or 
municipal securities dealer would be required to disclose the existence 
of differential compensation related to the sale of proprietary funds 
because investors would benefit from knowing whether salespersons or 
other associated persons may receive higher incentives, which create 
conflicts of interest for them.\104\
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    \102\ Because some non-proprietary securities can have a 
relatively modest payout, a focus on dollar amounts would invariably 
lead to ``yes'' disclosures.
    \103\ Revenue sharing is not encompassed by the term ``gross 
dealer concession'' because it is not paid by the issuer. These 
proposed rules contain separate definitions for the terms ``gross 
dealer concession'' and ``dealer concession.'' The term ``gross 
dealer concession'' would determine the baseline for identifying 
whether associated persons are paid differential compensation 
(through a higher percentage payout) in connection with the sale of 
proprietary securities. That term focuses on amounts that the 
broker, dealer or municipal securities dealer receives from the 
issuer. The term ``dealer concession'' would govern the obligation 
of a broker, dealer or municipal securities dealer, under proposed 
paragraph (c)(4) of rule 15c2-2, to disclose the sales fee that it 
earns from the issuer or issuer's agent, or from the primary 
distributor or another broker, dealer or municipal securities 
dealer.
    \104\ For example, a firm would have to disclose the existence 
of differential compensation when an associated person receives a 
50% payout of the firm's gross dealer concession in connection with 
selling $200,000 of a proprietary fund, if the associated person's 
percentage payout associated with the sale of $200,000 of any other 
fund would be less than 50%. The firm also would have to disclose 
differential compensation if an associated person benefits from any 
practice that compensates him or her in connection with selling the 
proprietary fund, or reimburses his or her expenses in connection 
with selling the proprietary fund, if the same programs or practices 
are not uniformly available in connection with the sale of all other 
funds.
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    The proposed rule would not require brokers, dealers or municipal 
securities dealers to identify all instances in which an associated 
person has a higher financial stake to sell the shares of one fund than 
another. Rather, the proposed rule is targeted toward transactions in 
securities without front-end sales loads and proprietary securities 
because other aspects of the proposed rule 15c2-2 should provide 
customers with information about other conflicts of interest facing the 
broker, dealer or municipal securities dealer. This point of sale 
proposal is intended to alert customers to additional information about 
the existence conflicts that otherwise would be hidden.\105\
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    \105\ For example, while firms may provide higher percentage 
payouts to associated persons in connection with selling mutual 
funds associated with revenue sharing, other requirements of 
proposed rule 15c2-2 should place investors on notice about the 
firms' potential conflicts associated with that practice. Also, 
while an associated person could have a heightened financial 
interest in selling non-proprietary funds associated with relatively 
high dealer concessions (for example, if the associated person is 
compensated by receiving a particular percentage of the dealer 
concessions), the proposed requirement that the broker, dealer or 
municipal securities dealer disclose the sales fee it receives would 
provide the customer with information about the relative size of the 
firm's financial stake in the sale.
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     We seek comment on whether this proposal would 
adequately place customers on notice about the conflicts associated 
with differential compensation. We specifically request comment on 
whether brokers, dealers and municipal securities dealers should be 
required to disclose payment of differential compensation in contexts 
other than transactions involving shares with deferred sales loads and 
proprietary covered securities (such as in the context of fund 
complexes that pay revenue sharing to the broker, dealer or municipal 
securities dealer).
     We also specifically request comment about 
whether the proposed approach for defining differential compensation in 
transactions involving securities with a deferred sales load--which 
focuses on compensation per dollar of covered security sold, rather 
than on compensation as a percentage of the dealer concession--should 
apply to other transactions in light of the fact that dealer 
concessions can vary widely among funds.\106\
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    \106\ As proposed, the rule would not require disclosure of all 
differences in financial incentives. If an associated person is paid 
a specified percentage payout of the gross dealer concession 
received by the broker, dealer or municipal securities dealer, then 
differences in the dealer concession paid on behalf of specific 
funds can lead to significant differences in compensation. For 
example, if a proprietary fund offers a dealer concession of 4.0% 
for selling $100,000 of class A fund shares, while another 
nonproprietary fund offers a dealer concession of 2.5% for selling 
the same amount of class A fund shares, then the broker, dealer or 
municipal securities dealer would earn $4,000 for selling the 
proprietary fund and $2,500 for the selling the nonproprietary fund. 
If an associated person is paid 50% of the firm's gross dealer 
concession, then his or her compensation would be $2,000 for selling 
the proprietary fund and $1,250 for selling the nonproprietary fund. 
That $750 difference in compensation represents a potential conflict 
of interest, but would not be identified if differential 
compensation related to that transaction is identified solely by 
reference to percentage payouts.
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     We also request comment on whether the 
definition of ``proprietary covered security'' is sufficiently broad. 
We further request comment on whether firms should be required to 
disclose information about their receipt of ongoing asset-based 
payments from funds (sometimes known as ``trailing commissions''), or 
information about their payment of those fees to associated 
persons.\107\ We moreover request comment on whether firms should be 
required to account for remuneration received after the first year when 
determining whether associated persons receive differential 
compensation in connection with selling share classes without a front-
end load.
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    \107\ As noted above, funds may pay ongoing service fees of 
0.25% of assets under their 12b-1 plans. Brokers, dealers and 
municipal securities dealers may pay some or all of those amounts to 
salespersons as ``trailing commissions.'' Although the fees may be 
depicted as service fees, they may be viewed by registered 
representatives as deferred compensation for sales.
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     Finally, we request comment on whether, in 
addition to disclosure about the fact that associated persons receive 
differential compensation, customers should receive information about 
the amount of any differential compensation received by associated 
persons. If so, how should the differential compensation be quantified? 
What time period or periods would be most relevant and useful to 
investors?
    iii. Provisions not included in general and purchase-specific 
requirements. Proposed rule 15c2-2 would not incorporate several 
provisions of rule 10b-10 that do not appear material to customer 
transactions in mutual fund shares, UIT interests and municipal fund 
securities. In particular, proposed rule 15c2-2 would not require 
disclosure of whether the broker, dealer or municipal securities dealer 
is acting in the capacity of agent or principal \108\ because those 
firms would act in an agency capacity for the transactions at issue. 
For the same reason, the rule 10b-10 disclosure standards for principal 
transactions \109\ would not be incorporated into proposed rule 15c2-2. 
Proposed rule 15c2-2 also would not incorporate requirements for 
disclosing information about the person from whom the security was 
purchased,\110\ payment for order flow,\111\ odd-lot differentials 
\112\ and several requirements specific to transactions in debt 
securities.\113\
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    \108\ See rule 10b-10(a)(2).
    \109\ See rule 10b-10(a)(2)(ii).
    \110\ See rule 10b-10(a)(2)(i)(A).
    \111\ See rule 10b-10(a)(2)(i)(C).
    \112\ See rule 10b-10(a)(3).
    \113\ See rule 10b-10(a)(4).
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     The Commission requests comment on whether it 
would be appropriate to include any of those requirements in proposed 
rule 15c2-2. Commenters who

[[Page 6455]]

believe that proposed rule 15c2-2 should be expanded to encompass 
transactions in additional types of securities also should address what 
additional disclosure provisions such inclusion would require.
    e. Periodic disclosure alternative. Proposed paragraph (d) of rule 
15c2-2 would permit brokers, dealers and municipal securities dealers 
to disclose the required information periodically, rather than 
transaction-by-transaction, in certain limited circumstances involving 
transactions in a ``covered securities plan'' or in no-load open-end 
money market funds. This provision is based on the periodic disclosure 
requirements of rule 10b-10(b), but modified to be consistent with the 
targeted disclosure standards of proposed rule 15c2-2. Proposed 
paragraph (f)(5) of rule 15c2-2 would define ``covered securities 
plan'' as any plan for direct purchase or sale of a covered security 
pursuant to certain retirement or pension plans or other agreements or 
arrangements.\114\ While this definition in large part would be 
analogous to the rule 10b-10 definition of ``investment company plan,'' 
it also would encompass arrangements for automatic reinvestment of 
dividends or other distributions paid by the issuer of a covered 
security. The periodic disclosure alternative of proposed rule 15c2-2 
would require a broker, dealer or municipal securities dealer to 
provide quarterly disclosure for transactions involving covered 
securities plans, and monthly disclosure for money market fund 
transactions subject to the periodic disclosure alternative.\115\
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    \114\ This alternative would apply to three general types of 
arrangements: (i) individual retirement or individual pension plans; 
(ii) agreements for purchasing covered securities at the public 
offering price, or redeeming covered securities at the applicable 
redemption price, at specified time intervals and setting forth the 
commissions or charges to be paid by the customer; or (iii) other 
arrangements by which a group of two or more customers engage in 
periodic purchases of covered securities through a person designated 
by the group, subject to specific notice requirements.
    As discussed below, we are proposing conforming amendments to 
the periodic disclosure provisions of rule 10b-10.
    \115\ Because the definition of ``covered securities plan'' 
encompasses reinvestment of dividends and other distributions paid 
by issuers of covered securities, proposed rule 15c2-2 would permit 
quarterly disclosure related to those reinvestment transactions. 
This would encompass covered security dividend reinvestment activity 
that has been the subject of exemptive relief under rule 10b-10. 
See, e.g., Letter regarding Newbridge Securities (February 20, 1997) 
(providing for monthly disclosure in connection with dividend 
reinvestment transactions involving mutual funds and other 
securities); Letter regarding Edward D. Jones & Co. (August 1, 2003) 
(providing for quarterly disclosure in connection with dividend 
reinvestment transactions involving money market funds).
    We do not propose at this time to amend rule 10b-10 in a 
corresponding way to provide for quarterly disclosure in connection 
with dividend reinvestment programs involving other securities.
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    This disclosure would encompass summary information designed to 
inform investors about costs and conflicts, consistent with the general 
and purchase-specific disclosure requirements in other provisions of 
proposed rule 15c2-2. In general, it would require disclosure of the 
same types of information that are required by paragraphs (b) and (c), 
but some information would be disclosed in summary form that reflects 
all transactions within a period, rather than each individual 
transaction. Proposed paragraph (d)(2) of rule 15c2-2 would require 
disclosure of each transaction, and of the total number of shares in 
the customer's account at the end of the period. It would further 
require, for each transaction, disclosure of the general information 
related to date, issuer and class of the security, price and net asset 
value, number of shares, the total amount paid or received and the net 
amount of the investment bought or sold, commissions from the customer, 
deferred sales load charges, and SIPC membership.\116\ Also, to the 
extent applicable, it would require disclosure of information about 
front-end sales loads charged to the customer,\117\ and about dealer 
concessions received by the firm.\118\ As of the date of the final 
purchase or reinvestment during the period, the provision would require 
disclosure of information about revenue sharing and portfolio brokerage 
commission arrangements \119\ and about differential compensation.\120\ 
Based on the total value of the purchases and reinvestments during the 
period, and the net asset value at the end of the period, the rule 
would also require disclosure of information related to deferred sales 
loads \121\ and to asset-based sales charges and service fees such as 
rule 12b-1 fees.\122\
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    \116\ Those are set forth in paragraph (b) to proposed rule 
15c2-2.
    \117\ Those are set forth in paragraph (c)(1) to proposed rule 
15c2-2.
    \118\ Those are set forth in paragraph (c)(4) to proposed rule 
15c2-2.
    \119\ Those are set forth in paragraph (c)(5) to proposed rule 
15c2-2.
    \120\ Those are set forth in paragraph (c)(6) to proposed rule 
15c2-2.
    \121\ Those are set forth in paragraph (c)(2) to proposed rule 
15c2-2.
    \122\ Those are set forth in paragraph (c)(3) to proposed rule 
15c2-2.
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    Proposed paragraph (d)(3) of rule 15c2-2 would require a broker, 
dealer or municipal securities dealer to provide the customer with 
written notification before it could take advantage of the periodic 
disclosure alternative. Moreover, the broker, dealer or municipal 
securities dealer would be required to provide the customer with at 
least one written disclosure document consistent with the general and 
purchase-specific disclosure standards at the time of each purchase of 
a particular security within a covered securities plan, prior to 
relying on the periodic disclosure alternative.\123\ This latter 
requirement is intended to help customers to receive timely notice 
about the costs and conflicts raised by purchases involving each 
security that is the subject of the covered securities plan.
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    \123\ In other words, if a covered securities plan encompasses 
purchases of three separate mutual funds, the broker, dealer or 
municipal securities dealer would have to provide a purchase-
specific disclosure upon the first purchase of each of those funds. 
Subsequent purchases of each particular fund would not require the 
purchase-specific disclosure, because the customer already has been 
alerted to the costs and conflicts at issue.
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     The Commission requests comment on whether any 
periodic disclosure alternative is appropriate, in light of the 
distribution-related concerns associated with covered securities.
     The Commission also requests comment on whether 
this proposal strikes the right balance between alerting investors to 
the distribution-related issues associated with these securities and 
minimizing firms' cost of disclosure. Should we require periodic 
disclosures to be made more frequently? If so, commenters are requested 
to suggest alternative time frames and their reasons for believing they 
would provide more meaningful information to investors.
     We also request comment about whether permitting 
some categories of information to be disclosed in summary fashion is 
appropriate, or if broker-dealers should be required to provide all the 
transaction-by-transaction information otherwise required by the rule 
in the periodic statements.
    f. Other provisions and definitions. Proposed paragraph (g) of rule 
15c2-2 would permit the Commission to exempt any broker, dealer or 
municipal securities dealer from the provisions of the rule with regard 
to any transactions or any class of transactions, when the Commission 
finds that firm will provide alternative procedures to effect the 
purposes of the rule. Rule 10b-10 has a similar exemptive 
provision.\124\
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    \124\ The Commission, acting by authority delegated to its 
staff, has granted a significant number of exemptions under rule 
10b-10. Persons who have received those exemptions would not be 
automatically exempt from the provisions of proposed rule 15c2-2. As 
discussed above, however, the periodic disclosure alternative 
provisions of proposed rule 15c2-2 encompass dividend reinvestment 
activities that have been the subject of several of those exemptions 
under rule 10b-10. See supra note 115.

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[[Page 6456]]

    Proposed paragraph (f)(3) of rule 15c2-2 would also use the same 
definition of the term ``completion of the transaction'' as is found in 
rule 10b-10.\125\ In addition, proposed paragraph (f)(7) of rule 15c2-
2, consistent with rule 10b-10, would provide that the term 
``customer'' does not include any broker, dealer or municipal 
securities dealer.\126\ Because the two confirmation rules have 
parallel goals, it is appropriate for those definitions to be the same.
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    \125\ Rule 10b-10(d)(2) defines ``completion of the 
transaction'' by reference to rule 15c1-1 under the Exchange Act. 
Rule 15c1-1 defines that term by reference to the time of payment, 
delivery, transfer or bookkeeping entry, depending on the specific 
circumstances.
    \126\ Rule 10b-10(d)(1) provides that the term ``customer'' does 
not include a broker or dealer.
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    g. Comparison range disclosure. Proposed paragraph (e) of rule 
15c2-2 would provide a mechanism to give investors additional context 
for evaluating the significance of certain required disclosures by 
requiring brokers, dealers and municipal securities dealers to provide 
comparison information. In many cases, including disclosures about 
sales loads, asset-based sales charges and service fees, revenue 
sharing and portfolio brokerage commissions, investors could benefit 
from knowing how the position of the broker, dealer or municipal 
securities dealer compares to industry practices. Investors may obtain 
that context if they are provided information about where costs and 
payments fall in comparison to the median and ranges in the 
marketplace. In the case of disclosures of loads, asset-based sales 
charges and service fees, and dealer concessions, these comparisons 
would be based on the median of, and the ranges associated with, 95 
percent of the transactions involving the same type of covered security 
(i.e., mutual fund, unit investment trust or 529 plan). In the case of 
disclosures of revenue sharing and portfolio brokerage, these would be 
the medians and the ranges associated with 95 percent of the brokers, 
dealers or municipal securities dealers that distribute the same type 
of covered security. Median and 95th percentile range information are 
accepted statistical methods that, applied here, would provide a 
snapshot about whether a cost or conflict is typical or is an outlier. 
The Commission would publish the medians and comparison ranges from 
time to time in the Federal Register.\127\ The Commission would publish 
those medians and ranges in percentage form. Firms would have to update 
median and percentage range information on their confirmations within 
90 days of their publication. If adopted, this requirement would not 
take effect until 90 days after the Commission publishes the initial 
schedule of comparison ranges.
---------------------------------------------------------------------------

    \127\ Our goal is to do this annually.
---------------------------------------------------------------------------

     We request comment about the utility and 
implementation of this proposal to disclose median and comparison range 
information. For example, in calculating comparison ranges related to 
loads and dealer concessions, to what extent is it appropriate to take 
into account the type of security (such as equity fund, debt fund, 
money market fund, or blend) that is the subject of the transaction. 
Are there specific categories of covered securities that would lead to 
the fairest ``apples to apples'' comparisons? Should all UITs be in a 
single category, or would it be necessary, for example, to separate 
variable annuities, variable life insurance, and other UITs? Should 
issuers of covered securities, or brokers, dealers or municipal 
securities dealers, be able to select the comparison category 
applicable to particular securities, or should the Commission assign 
covered securities to specific categories? Should median and percentile 
range information related to covered securities be weighted to account 
for the relative sales of covered securities? In other words, should 
covered securities that are more highly sold have a higher weight in 
calculating the medians and 95th percentile ranges? Similarly, should 
median and range information related to brokers, dealers and municipal 
securities dealers be weighted to account for relative sales by those 
firms? In other words, should brokers, dealers and municipal securities 
dealers that sell more covered securities have a higher weight in 
calculating the medians and 95th percentile ranges? Should transactions 
be compared to other transactions of a similar dollar amount? Moreover, 
should confirmations disclose comparison information that is more 
specific than medians and 95th percentile ranges, such as by stating 
the percentile rank of the loads, other costs or compensation 
associated with a transaction? Should the Commission be responsible for 
analyzing the information used to calculate medians and comparison 
ranges, or should the Commission permit or require the disclosure of 
median and comparison range information published by a vendor or other 
third-party source? Should the Commission establish standards for 
vendors or other third parties to derive and publish that information?
    We recognize that implementing these reporting requirements for 
medians and comparison ranges will require additional rulemaking to 
implement reporting requirements to permit the Commission or its 
vendors to gather information to calculate appropriate medians and 
comparison ranges.
     What entities should be required to disclose 
information that is necessary to calculate median and comparative range 
information? In particular, should investment companies or brokers, 
dealers and municipal securities dealers be required to provide us with 
information to expedite the calculation of comparison ranges?
    There will be additional opportunity to comment about those 
requirements at the time of a reporting requirement proposal. If we 
conclude that publication of median and comparison range information is 
not feasible due to implementation issues, then brokers, dealers and 
municipal securities dealers would not be required to disclose median 
and comparative range information.
    If we conclude that comparative information would be useful to 
investors in this context, we may consider implementing comparative 
information disclosure requirements in other contexts, as well.
    h. Disclosures about transactions effected by multiple firms. The 
requirements of proposed rule 15c2-2 would apply to every broker, 
dealer or municipal securities dealer that effects a transaction in a 
covered security, including transactions effected by more than one 
broker, dealer or municipal securities dealer. As is the case today, 
customers whose transactions have been effected in the context of an 
introducing-clearing arrangement nonetheless may receive a single 
confirmation if the two brokers, dealers or municipal securities 
dealers enter into a written agreement--disclosed to the customer--that 
determines the responsibilities of each, including the responsibility 
to provide confirmations to customers.\128\
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    \128\ In an introducing-clearing relationship, both the 
introducing firm and the clearing firm effect the transaction and 
are subject to confirmation requirements. The agreement between the 
two firms would be provided to customers upon the establishment of 
the account or the establishment of the introducing-clearing 
arrangement, and the customers thereafter have a reasonable 
expectation of the responsibilities of both the introducing broker-
dealer and the clearing broker-dealer in transactions effected for 
their accounts. See NYSE rule 382 and NASD rule 3230.

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[[Page 6457]]

    Although a customer may receive a single confirmation for a 
transaction effected as part of an introducing-clearing arrangement, 
proposed rule 15c2-2 would require specific disclosure of sales fees, 
revenue sharing and portfolio brokerage commissions received by any 
broker, dealer or municipal securities dealer that effects a 
transaction. It is important that an investor see information about 
those types of remuneration specifically attributed to each broker, 
dealer or municipal securities dealer, so the investor may evaluate 
conflicts of interest. Thus, a single confirmation still shall 
separately disclose the sales fees, revenue sharing and portfolio 
brokerage commissions earned by each firm.\129\ That may require a 
broker, dealer or municipal securities dealer that receives sales fees, 
revenue sharing or portfolio brokerage to convey responsive information 
to the firm that sends out the confirmation, which may require 
enhancement of existing flows of information. There are other instances 
in which a broker, dealer or municipal securities dealer may effect 
transactions in covered securities in conjunction with another broker, 
dealer or municipal securities dealer. For example, a broker, dealer or 
municipal securities dealer may solicit persons at their workplaces, as 
part of an employer-sponsored marketing arrangement, to invest in 
covered securities. Although the broker, dealer or municipal securities 
dealer that solicits transactions may be paid on a transaction-basis, 
the customer accounts may be opened at a different firm. Proposed rule 
15c2-2 would require disclosure of payments to the broker, dealer or 
municipal securities dealer soliciting the transaction, even if it does 
not maintain the account.\130\
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    \129\ Attachments 1-3 hereto provide models for confirmations 
sent by clearing firms on behalf of themselves and introducing firms 
that receive sales fees, revenue sharing and portfolio brokerage 
commissions. Generally, so long as the fees that a clearing firm 
receives in connection with a transaction do not constitute sales 
fees, revenue sharing and portfolio brokerage commissions, the 
clearing firm would not have to separately state that it does not 
receive that type of remmeration.
    \130\ Absent an agreement disclosed to the customer, it is 
unlikely that the selling broker, dealer or municipal securities 
dealer would be able to send a single confirmation jointly with 
another firm effecting the transaction. See Office of Compliance 
Inspections and Examinations, Commission, ``Inspection Report on the 
Soft Dollar Practices of Broker-Dealers, Investment Advisers and 
Mutual Funds'' (September 22, 1998) at n.78. The Commission, 
however, will consider requests for exemptive relief permitting 
joint confirmations in circumstances where the customer may 
reasonably consent to such use.
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     We request comment on whether proposed rule 
15c2-2 would result in adequate disclosure of information about 
distribution-related costs and conflicts connected with transactions 
effected by more than one broker, dealer or municipal securities 
dealer. Commenters are invited to discuss any potential implementation 
issues associated with the proposed rule, including any operational 
challenges or difficulties that the requirement may pose to introducing 
and clearing firms or other firms that together effect securities 
transactions. Commenters may also wish to discuss the application of 
the proposed rule to the principal underwriter or distributor of a 
covered security.
2. Amendments to Rule 10b-10
    Because proposed rule 15c2-2, if adopted, would govern confirmation 
disclosure of purchases and sales in investment company securities, we 
also propose to amend rule 10b-10 to exclude those securities.\131\ In 
particular, we propose to amend paragraph (a) of rule 10b-10 to provide 
that the rule does not apply to securities excluded by paragraph (g) of 
the rule. Proposed paragraph (g) would provide that rule 10b-10 does 
not extend to transactions in: (i) U.S. Savings Bonds, (ii) municipal 
securities, and (iii) any other security that is defined as a ``covered 
security'' by rule 15c2-2. Transactions in savings bonds and municipal 
securities already are excluded from the application of rule 10b-10. 
The Commission also proposes amending the preliminary note to rule 10b-
10 to clarify the application of the rule.\132\
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    \131\ As noted, rule 10b-10 already exempts transactions in 
municipal securities.
    \132\ Specifically, the preliminary note to rule 10b-10 would be 
amended to note that rule 15c2-2, not rule 10b-10, governs 
disclosure requirements related to transactions in open-end 
management investment company shares, interests in unit investment 
trusts, and municipal fund securities used for education savings.
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    Two other changes to rule 10b-10 are necessary to accommodate the 
addition of proposed rule 15c2-2. First, we propose to modify paragraph 
(a)(9) of rule 10b-10, which, when applicable, requires disclosure when 
a broker-dealer that effects a transaction is not a member of SIPC. As 
currently written, that paragraph contains an exception for certain 
transactions in open-end investment companies and UITs. Because 
proposed rule 15c2-2 would encompass transactions in those securities, 
we propose eliminating that exception from rule 10b-10.\133\
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    \133\ Proposed rule 15c2-2 would not apply to secondary market 
transactions in interests in UITs. That does not preclude this 
proposed amendment to rule 10b-10, however, because secondary market 
transactions in UITs would not fall within the scope of the 
``investment company plan'' exception of rule 10b-10.
---------------------------------------------------------------------------

    Second, we propose to modify the periodic reporting alternative 
permitted by paragraph (b) of rule 10b-10. That alternative applies to 
transactions effected pursuant to a ``periodic plan'' or ``investment 
company plan,'' or to transactions in no-load money market funds. 
Because the latter two categories would be encompassed within the 
periodic alternative of rule 15c2-2, we propose deleting them from the 
scope of the periodic alternative of rule 10b-10. Because the term will 
no longer be used in the rule, we also propose removing the definition 
of ``investment company plan'' from rule 10b-10.
    Finally, we propose to modify the preliminary note of rule 10b-10 
to be consistent with the preliminary note of proposed rule 15c2-2. As 
explained above, this would reflect the fact that the confirmation 
disclosure requirements are not determinative of, and do not exhaust, a 
broker-dealer's disclosure obligations under the antifraud provisions 
of the federal securities laws or under any other legal requirements.

V. Point of Sale Disclosure for Transactions in Mutual Fund Shares, 
Unit Investment Trust Interests and 529 Plan Interests

    In addition to the tailored confirmation requirements of rule 15c2-
2, the Commission is also proposing rule 15c2-3, which would require 
brokers, dealers and municipal securities dealers to provide customers 
with specified information at the point of sale--prior to the time they 
purchase mutual fund shares, UIT interests and 529 plan securities. 
Investors, therefore, would have this information before they finalize 
their investment decision to purchase a covered security, regardless of 
whether the transaction is solicited or unsolicited. The proposed rule 
would not apply to transactions in which an investor sells a covered 
security, because those transactions do not raise the same special cost 
and conflict concerns.
    The new rule is designed to be consistent with the existing 
obligations of brokers, dealers and municipal securities dealers under 
the antifraud provisions of the securities laws, which at times require 
a broker, dealer or municipal securities dealer to disclose information 
about particular costs and conflicts prior to effecting a transaction 
in a covered security.\134\ It is also

[[Page 6458]]

intended to supplement the prudent business ethic of firms that assure 
their customers will be apprised of key facts prior to sales, to avoid 
surprises and broken trades. Point of sale disclosure should also 
complement confirmation disclosure, which provides a retrospective 
record of the complete terms of a transaction for customers to assess 
in determining whether the transaction occurred as described and 
whether they received any applicable breakpoint discounts.\135\ A 
broker, dealer or municipal securities dealer that misstates 
information in a point of sale disclosure with an intent to mislead may 
be subject to liability under the antifraud provisions of section 10(b) 
and rule 10b-5.
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    \134\ For example, the antifraud provisions at times require 
disclosure prior to transactions about revenue sharing and portfolio 
brokerage arrangements, and about the cost differences between 
various mutual fund share classes. See generally In the Matter of 
Morgan Stanley DW Inc., supra note 20.
    \135\ As noted above, the confirmation also serves as a record 
of previous transactions that customers can assess in determining 
whether to make further investments with the same broker-dealer in 
the same mutual fund or similar type of security. Confirmation 
disclosure can be particularly valuable with respect to transactions 
in mutual fund shares and municipal fund securities, given that 
customers often invest in those securities through a regular course 
of purchases. Moreover, brokers, dealers and municipal securities 
dealers may supplement the disclosures required by proposed rule 
15c2-2 by providing their customers with additional information 
about costs and conflicts, using media such as the Internet.
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    The preliminary note to proposed rule 15c2-3, consistent with the 
preliminary note to proposed rule 15c2-2 and the proposed amendment to 
the preliminary note of rule 10b-10, would state that the point of sale 
disclosure requirements are not determinative of, and do not exhaust, a 
broker's, dealer's or municipal securities dealer's disclosure 
obligations under the antifraud provisions of the federal securities 
laws or under any other legal requirements.
    Paragraph (a) of proposed rule 15c2-3 would provide that it is 
unlawful for any broker, dealer or municipal securities dealer to 
effect a purchase of any covered security for a customer unless the 
broker, dealer or municipal securities dealer delivers to the customer, 
at the point of sale, quantified information regarding distribution-
related costs and the dealer concession that would be connected with 
the purchase, along with qualitative information about revenue sharing, 
portfolio brokerage commissions and differential compensation.

A. Securities Transactions and Persons Covered

    The point of sale disclosure requirements of proposed rule 15c2-3 
would govern purchase transactions in the same securities that are 
subject to the confirmation requirements of proposed rule 15c2-2, 
because those are the securities that raise the cost and conflict 
issues that warrant this type of disclosure requirement. Accordingly, 
the disclosure requirements of proposed rule 15c2-3 would apply to 
transactions in ``covered securities.'' Paragraph (f)(2) of proposed 
rule 15c2-3 provides that the term ``covered security'' has the meaning 
set forth in rule 15c2-2.
     We request comment on whether this proposed rule 
appropriately encompasses the types of securities that raise 
distribution-related concerns that warrant point of sale disclosure. 
Commenters specifically are invited to address whether this type of 
disclosure requirement could have the effect of directing investors 
away from mutual funds and related securities.\136\
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    \136\ Other than in connection with transactions in ``penny 
stocks,'' the rules we have promulgated under the Exchange Act 
generally do not specifically require a broker, dealer or municipal 
securities dealer to disclose particular information prior to 
transactions. See Exchange Act rules 15g-2 to 15g-5. As discussed 
above, however, the antifraud provisions of the federal securities 
laws may mandate certain disclosures prior to transactions.
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     We also request comment about whether persons 
other than brokers, dealers or municipal securities dealers also should 
be required disclose information to investors prior to transactions in 
covered securities. Commenters are invited to discuss whether other 
persons that participate in the distribution of covered securities--
such as banks--are subject to the same or similar conflicts of interest 
as brokers, dealers and municipal securities dealers. Commenters also 
are invited to discuss whether the Commission should propose rules to 
require those other persons to disclose specific information to 
investors prior to transactions, or to disclose confirmation 
information on or before the completion of such transactions.
     Commenters may also wish to discuss whether the 
point of sale disclosure requirements of proposed rule 15c2-3 would be 
appropriate to transactions in variable annuities. Commenters are 
invited to discuss any issues they believe would be relevant to the 
application of proposed rule 15c2-3 to variable insurance products, as 
well as any modifications they believe could improve the proposed 
rule's effectiveness as applied to variable insurance products. 
Specifically, commenters may wish to address whether point of sale 
disclosure would provide investors with more useful information for 
transactions in variable insurance products. In addition, we invite 
comment on whether point of sale disclosure is appropriate at or prior 
to the time the contract or policy is entered into or at the time the 
underlying funds are allocated. Commenters should address whether such 
point of sale disclosure is appropriate under the federal securities 
laws.

B. Timing of Disclosure

    Proposed rule 15c2-3 would require the broker, dealer or municipal 
securities dealer to deliver information at the point of sale. Proposed 
paragraph (f)(1) of the rule would define ``point of sale'' differently 
depending on the relationship between the broker, dealer or municipal 
securities dealer and the customers that it solicits. Generally, the 
time of the point of sale would be immediately prior to the time that 
the broker, dealer or municipal securities dealer accepts the order 
from the customer. In the case of transactions in which the customer 
has not opened an account with the broker, dealer or municipal 
securities dealer, or in which the broker, dealer or municipal 
securities dealer does not accept the order from the customer--such as 
may be the case with workplace marketing of 529 plans--the point of 
sale would be the time that the broker, dealer or municipal securities 
dealer first communicates with the customer about the covered security, 
specifically or in conjunction with other potential investments.
    This definition of point of sale is geared to be as simple as 
possible while avoiding disclosure gaps. For most transactions, the 
time of disclosure is based on the time that the broker, dealer or 
municipal securities dealer receives the order from the customer--a 
standard that should allow customers to consider material information 
when they make their investment decisions. That standard would not 
work, however, in the case of brokers, dealers or municipal securities 
dealers that solicit transactions in covered securities--and receive 
compensation in connection with those transactions--without opening 
accounts for or handling orders from the investors who make those 
purchases.\137\ Because the investors solicited by those firms instead 
would contact another broker, dealer or municipal securities dealer or 
the issuer to complete those transactions, it would not be feasible to 
trigger the disclosure obligations of those soliciting brokers,

[[Page 6459]]

dealers or municipal securities dealers on the time that an order is 
accepted.\138\ Those soliciting firms therefore would disclose the 
required information at the time they recommend the security or 
otherwise discuss the investment.
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    \137\ Those may include brokers, dealers or municipal securities 
dealers that market covered security investments in the workplace of 
potential investors.
    \138\ In fact, the broker, dealer or municipal securities dealer 
may not even know the identities of the persons whom it solicits 
until after the investment is made and it is paid for helping make 
the sale.
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     We request comment on the point of sale 
definition, and more generally on the question of when, prior to 
transactions, should disclosure be provided to customers. Commenters 
specifically are invited to address whether alternative times of 
disclosure would be more effective. In their responses, commenters may 
wish to discuss alternatives such as at the time of account opening or 
shortly thereafter, at the time a broker, dealer or municipal 
securities dealer solicits a transaction, on a periodic or annual 
basis, or at certain other times. Commenters also may wish to address 
whether early disclosure that is not specific to a particular 
contemplated transaction would be an adequate substitute for disclosure 
later in time (but prior to the transaction) that does contain 
information that is specific to the transaction being contemplated.
     In addition, commenters are invited to discuss 
how to harmonize point of sale disclosure requirements with NASD's 
proposal to require member firms to disclose information about revenue 
sharing and differential compensation.\139\ Commenters further are 
invited to discuss whether the proposed point of sale disclosure 
requirement would impact the need for the transaction confirmation 
requirements we propose in rule 15c2-2. For example, would the 
transaction confirmation disclosures we propose be less necessary if 
the point of sale disclosure requirements of proposed rule 15c2-3 were 
combined with additional periodic disclosures that inform customers 
about distribution-related costs and conflicts of interest, such as 
quarterly account statements from the broker, dealer or municipal 
securities dealer? Commenters are invited to provide empirical 
information to support their views.
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    \139\ See supra text accompanying note 51.
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     In addition, the Commission requests comment on 
whether a transitional period is necessary to make adjustments 
necessary to deliver confirmations that comply with proposed rule 15c2-
3.

C. Information Requirements

    Proposed paragraph (a) would require a broker, dealer or municipal 
securities dealer to deliver quantitative information about 
distribution-related costs that the investor may bear and the dealer 
concession that the broker, dealer or municipal securities dealer may 
expect to receive in connection with the transaction, combined with 
qualitative information about practices that lead to conflicts of 
interest in connection with the transaction. This proposed scope of 
information is intended to give investors useful context for evaluating 
whether to proceed with a possible investment, while accommodating 
practicalities of disclosure.
    Proposed paragraph (a)(1) specifically would require the broker, 
dealer or municipal securities dealer to inform its customer about the 
distribution-related costs that the customer would be expected to incur 
in connection with the transaction, with separate disclosure about: the 
amount of sales loads that would be incurred at the time of purchase; 
estimated asset-based sales charges and asset-based service fees paid 
out of fund assets in the year following the purchase if net asset 
value remained unchanged; and the maximum amount of any deferred sales 
load that would be associated with the purchase if those shares are 
sold within one year (other than deferred sales loads of no more than 
one percent that expire no later than one year after purchase, when no 
other sales load would be incurred on that transaction), along with a 
statement about how many years a deferred sales load may be in effect. 
Proposed paragraph (a)(1) also would require the broker, dealer or 
municipal securities dealer to disclose the dealer concession or other 
sales fees it would expect to receive in connection with the 
transaction. Those amounts would be disclosed by reference to the value 
of the purchase, or, if that value is not reasonably estimable at the 
time of the disclosure, by reference to a model investment of $10,000.
    Proposed paragraphs (a)(2)(i) and (a)(2)(ii) would require the 
broker, dealer or municipal securities dealer to state whether it 
receives revenue sharing or portfolio brokerage commissions from the 
fund complex. Proposed paragraph (a)(2)(iii) would require the broker, 
dealer or municipal securities dealer to state whether it pays 
differential compensation in connection with transactions in the 
covered security, if the covered security charges a deferred sales load 
or is a proprietary covered security.
    The definitions of the terms ``asset-based sales charge,'' ``asset-
based service fee,'' ``dealer concession,'' ``differential 
compensation,'' ``portfolio securities transaction,'' ``revenue 
sharing'' and ``sales load'' would be the same as the definitions used 
in proposed rule 15c2-2. Proposed paragraph (f)(2) of rule 15c2-3 would 
cross-reference those definitions.
    Like the confirmation provisions of proposed rule 15c2-2, the point 
of sale provisions of proposed rule 15c2-3 are not intended to preempt 
or negate any other provisions of law that may apply.\140\
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    \140\ As noted above, NASD rule 2830(k)(1) bars member firms 
from favoring funds on the basis of brokerage commissions received 
or expected, and NASD rule 2830(k)(4) restricts member firms from 
disseminating information about its receipt of commissions from fund 
complexes other than to certain management personnel. See supra note 
94. In proposing required disclosure of portfolio brokerage 
commission arrangements, we do not intend to provide any comfort for 
relationships or activities that are precluded by existing rules.
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     The Commission requests comment about the form 
and specificity of the information that should be disclosed at the 
point of sale. Commenters specifically are invited to discuss whether 
information about costs and information about conflicts both are 
appropriate elements of point of sale disclosure. Commenters may also 
wish to discuss whether the proposed combination of qualitative and 
quantitative disclosure is appropriate, and whether the choice of 
quantitative or qualitative disclosure is appropriate in each instance. 
In that regard, should all of the disclosures be qualitative? 
Alternatively, should all of the disclosures be quantitative?
     Commenters also are invited to address whether 
this proposed rule should encompass additional categories of 
information, and whether the cost of providing certain types of 
information is justified by the benefits to investors. Commenters 
further are invited to address whether, if applicable, the broker, 
dealer or municipal securities dealer should be required to identify 
the type of differential compensation (e.g., related to sales of 
proprietary securities, or related to sales of securities without a 
front-end load) it pays in connection with transactions in the covered 
security. Commenters further are invited to address whether a broker, 
dealer or municipal securities dealer should be required, at the point 
of sale, to deliver the same information that is required be disclosed 
in a transaction confirmation under proposed rule 15c2-2.
     In addition, commenters are invited to address 
whether disclosure related to breakpoint discounts would be

[[Page 6460]]

warranted as part of point of sale disclosure. In that regard, we note 
that broker-dealers already are required to provide information about 
breakpoint discounts to customers.\141\
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    \141\ When we recently proposed rules to require open-end 
management investment companies to disclose enhanced information 
about breakpoint discounts, we pointed out that a ``broker-dealer 
who sells fund shares to retail customers must disclose breakpoint 
information to its customers and must have procedures reasonably 
designed to ascertain information necessary to determine the 
availability and appropriate level of breakpoints.'' See Securities 
Act Release No. 8349 (December 17, 2003), 68 FR 74732 (December 24, 
2003).
    Moreover, the joint NASD/industry task force on breakpoints 
recommended that broker-dealers provide disclosure statements to 
investors at the time of or prior to the confirmation of the initial 
purchase of front-end load fund shares, and thereafter on a periodic 
basis or at the time of or prior to the confirmation of subsequent 
purchases. See Task Force Report, supra note 42 at 14-15.
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     Commenters moreover are invited to discuss 
whether additional point of sale disclosures are appropriate when a 
broker, dealer or municipal securities dealer recommends that an 
investor sell a covered security that the investor currently owns, and 
invest in or ``switch to'' a different covered security. At times, a 
broker, dealer or municipal securities dealer may recommend switching 
of securities even if the investor would incur extra fees to make the 
switch, or even if the investor has already incurred a front-end sales 
load on the covered security he or she currently owns. While this is a 
complex issue that is addressed by other rules including the antifraud 
provisions of the federal securities laws and self-regulatory 
organization sales practice rules and related guidance,\142\ we seek 
comment on the extent to which additional specific confirmation or 
point of sale disclosure should be required, and possible disclosure 
alternatives.
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    \142\ For instance, broker-dealer recommendations related to 
investment switching would be subject to NASD rule 2310, regarding 
suitability.
    NASD Notice to Members 99-35 (May 1999), which discussed the 
responsibility of members related to sales of variable annuities, 
noted that member firms may develop an analysis document or use a 
state-authorized form in connection with the replacement of variable 
annuities. If the firm uses that type of document, then it ``should 
include an explanation of the benefits of replacing one contract for 
another variable contract,'' and the document should be signed by 
the customer, the registered representative and the registered 
principal. We note, of course, that any practice that provides 
information about the ``benefits'' of switching, without discussing 
the costs of switching, may be inconsistent with the antifraud 
provisions of the federal securities laws.
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D. Customers' Right To Terminate Orders Made Prior to Disclosure

    Proposed paragraph (b) of rule 15c2-3 would provide that an order 
made prior to the disclosure required by paragraph (a) must be treated 
as an indication of interest until after the point of sale information 
is disclosed, and customers have received an opportunity to terminate 
any order following disclosure of the information. It further would 
provide that the broker, dealer or municipal securities dealer shall 
disclose this right to the customer at the time it discloses the 
information required under the paragraph to the customer. This 
provision is intended to enable customers to consider material 
information prior to a transaction being finalized. Based on the 
information, customers may conclude that it would be prudent to explore 
alternative investments, such as investments that carry lower 
distribution-related costs. In that case, the customer may determine 
not to make the order effective.
    Because disclosure of information is necessary for orders to be 
effective, we expect that brokers, dealers and municipal securities 
dealers would engage in careful procedures to ensure that only 
effective orders are conveyed to the issuer, and would be required to 
keep appropriate records demonstrating compliance with the rule, as 
discussed below.\143\
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    \143\ For example, brokers, dealers and municipal securities 
dealers may limit their exposure to losses resulting from violations 
of the rule by maintaining records demonstrating that the customer 
received the disclosure information.
---------------------------------------------------------------------------

     We request comment on this proposed provision. 
Commenters specifically are invited to address how customers may 
terminate orders made prior to receiving point of sale disclosure, and 
whether the rule should specify how customers may terminate orders.

E. Manner of Disclosure

    Proposed paragraph (c) generally would require the broker, dealer 
or municipal securities dealer to give or send the information to the 
customer in writing using Schedule 15D, supplemented by oral disclosure 
if the point of sale occurs at an in-person meeting. If the point of 
sale occurs through means of an oral communication other than at an in-
person meeting, however, then the information shall be disclosed to the 
customer orally at the point of sale.
    Attachments 4 and 5 to this proposal set forth examples of point of 
sale disclosure that are consistent with Schedule 15D. Like Schedule 
15C for confirmation disclosure, Schedule 15D provides the format for 
the required disclosure accompanied by materials that will help permit 
the customer to evaluate the significance of the disclosure 
information.
    Those requirements are geared to promote effective disclosure while 
accommodating practicality. For example, if the broker, dealer or 
municipal securities dealer took the customer's order over the 
telephone, then oral disclosure over the telephone would be required. 
If the broker, dealer or municipal securities dealer took the 
customer's order over the Internet, then the Internet could be used to 
provide the required disclosure.\144\ If the broker, dealer or 
municipal securities dealer solicited the transaction in a seminar or 
meeting, then the firm would have to provide the disclosure orally and 
in writing. A written disclosure document that provides information 
consistent with the confirmation disclosure requirement of rule 15c2-2 
generally also would satisfy this requirement.
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    \144\ The use of electronic media to deliver the required 
disclosure is subject to applicable legal requirements.
---------------------------------------------------------------------------

     We request comment on these proposed 
requirements about the manner of disclosure. Commenters particularly 
are invited to discuss whether customers should have the right to 
receive this information in writing as a supplement to oral disclosure, 
when the rule otherwise would only require oral disclosure.\145\
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    \145\ If the customer were to conclude the purchase, then this 
supplementary disclosure may arrive at roughly the same time as the 
confirmation.
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     Commenters also are invited to discuss whether 
Schedule 15D is an appropriate form for written disclosures, and 
whether the explanatory information accompanying Schedule 15D is 
appropriate.
     Commenters further may wish to discuss whether 
the rule should require the broker, dealer or municipal securities 
dealer to obtain from the customer a signed acknowledgement of having 
received point of sale disclosure, and, if so, what would be the 
appropriate exceptions to that requirement. Commenters also should 
discuss appropriate practices or safeguards that may be necessary to 
prevent brokers, dealers, or municipal securities dealers from 
delivering point of sale disclosure in a manner that undermines its 
purpose.

F. Recordkeeping

    Proposed paragraph (d) of rule 15c2-3 would require brokers, 
dealers or municipal securities dealers, at the time they disclose 
information required by this rule, to make records of communications 
and their disclosure sufficient to demonstrate compliance with the 
delivery requirements of paragraphs (a) and (b). The brokers, dealers 
or municipal securities dealers

[[Page 6461]]

would have to preserve those records and for the period specified in 
Exchange Act rule 17a-4(b), or, in the case of records of oral 
communications and their disclosures, in accordance with Rule 17a-4(f) 
and for the period specified in Exchange Act rule 17a-4(b) with regard 
to similar written communications and records.
    Often maintaining a copy of the disclosure document that was 
provided to the customer can satisfy this requirement. In the case of 
disclosure solely by means of oral communications, this provision would 
require the broker, dealer or municipal securities dealer to have 
compliance procedures in place that are adequate to demonstrate that it 
provided the required disclosure.\146\
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    \146\ Broker-dealers are required to maintain copies of outgoing 
communications relating to their business for a period of not less 
than three years, the first two years in an easily accessible place. 
See rule 17a-4(b)(4).
---------------------------------------------------------------------------

     We request comment on this recordkeeping 
requirement. Commenters are invited to discuss whether, in the case of 
information that only is delivered orally, the rule should require 
electronic copies. Commenters also are invited to address, in the case 
of oral disclosures, what records or procedures would be necessary to 
demonstrate compliance with the rule. Also, should the recordkeeping 
provisions of proposed rule 15c2-3(d) instead be included in rules 17a-
3 and 17a-4, the Commission's books and records rules?

G. Exceptions

    Proposed paragraph (e) of rule 15c2-3 would except several types of 
transactions from the rule's scope. First, proposed paragraph (e)(1) 
would conditionally except transactions resulting from orders that a 
customer placed via U.S. mail, messenger delivery or a similar third-
party delivery service. Proposed paragraph (e)(1)(i) would provide that 
the exception is available only to brokers, dealers or municipal 
securities dealers that meet the requirements of proposed paragraph 
(e)(1)(ii), discussed below, and that the broker, dealer or municipal 
securities dealer must have, within the prior six months, provided the 
customer with information about the maximum potential size of sales 
loads and asset-based sales charges and service fees associated with 
covered securities sold by that broker, dealer or municipal securities 
dealer, as well as statements about whether the broker, dealer or 
municipal securities dealer receives revenue sharing or portfolio 
brokerage commissions or pays differential compensation. Proposed 
paragraph (e)(1)(ii) of the rule would further specify that the 
exception in paragraph (e)(1) is available only to brokers, dealers or 
municipal securities dealers that are not compensated for effecting 
transactions for customers that do not have accounts with that broker, 
dealer or municipal securities dealer.\147\ This proposed exception is 
intended to promote disclosure while avoiding the need to delay the 
execution of orders received via mail or similar services, given that 
it may not be possible to quickly locate those customers, let alone 
provide disclosure.
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    \147\ As discussed above with respect to the definition of point 
of sale, brokers, dealers or municipal securities dealers that may 
be paid for effecting transactions without having to open accounts 
with those customers would have to provide disclosure at the time 
they recommend or discuss the investment, regardless of how the 
investor ultimately transmits the order.
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     We request comment on this proposed exception, 
and particularly if the scope of the exception is appropriate.
    Proposed paragraph (e)(2) of rule 15c2-3 would except a clearing 
broker, dealer or municipal securities dealer, or a fund's primary 
distributor, from having to disclose information under the rule if the 
clearing firm or the primary distributor did not communicate with the 
customer about the transaction other than to accept the customer's 
order, and if that clearing or distributing firm reasonably believed 
that another broker, dealer or municipal securities dealer (such as an 
introducing firm or a selling firm) has delivered the information to 
the customer required by rule 15c2-3. The clearing or distributing firm 
could demonstrate this ``reasonable belief'' if it has entered into an 
agreement providing for the other broker, dealer or municipal 
securities dealer to make the required point of sale disclosures, 
supplemented with appropriate auditing practices.\148\ This proposed 
exception in paragraph (a)(2) is intended to preclude imposing 
unnecessary burdens on clearing firms and on primary distributors that 
do not solicit transactions, when the investor can be expected to 
receive the required disclosure from another broker, dealer or 
municipal securities dealer.
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    \148\ The rules of the NASD and the NYSE require clearing and 
carrying agreements to specify the responsibilities of each party 
with respect to a number of matters, including confirmations and 
statements, as well as maintenance of books and records. See NASD 
rule 3230, NYSE rule 382. Agreements that specify the 
responsibilities of parties with respect to point of sale 
disclosure, and associated recordkeeping, may form the basis for a 
reasonable belief.
    A fund's primary distributor may enter into arrangements with 
other brokers, dealers or municipal securities dealers to sell 
interests in the fund. That primary distributor may demonstrate the 
requisite reasonable belief if its selling agreement with those 
other firms provides that the selling brokers, dealers or municipal 
securities dealers will deliver point of sale information, and if 
the primary distributor audits the compliance of those other firms.
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     We request comment on whether this proposed 
exception avoids unnecessary duplication of disclosure and whether it 
is tailored appropriately. Commenters specifically are invited to 
discuss, based on their experiences, what types of agreements, 
certification or verification would be appropriate for establishing a 
``reasonable belief.''
    Proposed paragraphs (e)(3) through (e)(5) of rule 15c2-3 would 
provide additional targeted exceptions. Proposed paragraph (e)(3) would 
provide an exception for transactions effected as part of a covered 
securities plan, as defined under proposed rule 15c2-2, so long as the 
broker, dealer or municipal securities dealer provides disclosure 
consistent with proposed rule 15c2-3 prior to the first purchase of any 
covered security as part of the plan. Proposed paragraph (e)(4) would 
provide an exception for reinvestments of dividends earned. Proposed 
paragraph (e)(5) would provide an exception for transactions in which 
the broker, dealer or municipal securities dealer exercises investment 
discretion. Paragraph (f)(2) of proposed rule 15c2-3 provides that the 
term ``covered securities plan'' has the meaning set forth in proposed 
rule 15c2-2. We believe that transactions that would be excluded by 
these three proposed exceptions do not link the customer's investment 
decision to the customer's communications with the broker, dealer or 
municipal securities dealer in a way that establishes a compelling need 
for point of sale disclosure.
     We request comment on those proposed exceptions. 
Commenters are also invited to discuss whether additional exceptions 
may be appropriate. Commenters particularly are invited to discuss 
whether the proposed rule should have an exception for institutional 
orders and, if so, what the appropriate scope of such an exception 
would be.

H. Definitions

    As noted above, proposed paragraph (f)(1) of rule 15c2-3 would 
define the term ``point of sale.'' Proposed paragraph (f)(2) would 
define the terms ``asset-based sales charges,'' ``asset-based service 
fee,'' ``covered securities plan,'' ``covered security,'' ``dealer 
concession,'' ``differential compensation,'' ``fund complex,'' 
``portfolio securities transaction,'' ``revenue sharing'' and ``sales 
load'' by

[[Page 6462]]

referring to the definition of those terms in proposed rule 15c2-2. 
Paragraph (f)(2) also would define the term ``customer'' by reference 
to the definition in proposed rule 15c2-2.

VI. Prospectus Disclosure

    The Commission is proposing to amend Form N-1A in order to enhance 
disclosure of sales loads. Currently, a fund is required to disclose 
the maximum sales loads as a percentage of offering price in the fee 
table that is located in the front of the prospectus.\149\ In addition, 
elsewhere in the prospectus, a fund is required to include a table of 
front-end sales loads at each breakpoint, shown as a percentage of both 
the offering price and the net amount invested.\150\
    The Commission is proposing to amend the fee table to require the 
maximum front-end sales load to be shown as a percentage of net asset 
value rather than as a percentage of offering price.\151\ The proposed 
amendment would make disclosure of front-end sales loads in the 
prospectus fee table consistent with that in the confirmation that 
would be required by proposed rule 15c2-2. For consistency, the 
proposed amendments would also remove the current requirement that a 
deferred sales load based on net asset value at the time of purchase be 
shown in the fee table as a percentage of offering price at the time of 
purchase. Instead, the proposed amendments would require that a 
deferred sales load based on offering price at the time of purchase be 
shown in the fee table as a percentage of net asset value at the time 
of purchase.\152\ Similarly, we are proposing to revise the 
instructions to the fee table to clarify that if a fund imposes more 
than one type of sales load (e.g., a deferred sales load and a front-
end sales load), the aggregate load should be shown in the fee table as 
a percentage of net asset value.\153\
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    \149\ Item 3 of Form N-1A.
    \150\ Item 8(a)(1) of Form N-1A.
    \151\ Proposed Item 3 of Form N-1A (fee table caption).
    \152\ Proposed Instruction 2(a)(i) to Item 3 of Form N-1A.
    \153\ Proposed Instruction 2(a)(ii) to Item 3 of Form N-1A.
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    We believe that disclosure of sales loads as a percentage of net 
asset value rather than offering price would better help investors to 
understand the true costs of investing in a load fund. This method 
would present sales loads as a percentage of the net amount invested in 
the fund, rather than a percentage of the sum of the net amount 
invested in the fund plus the load. For example, if an investor started 
with $10,000 and paid a 5% front-end load on the gross amount, the load 
would be $500. The net amount invested would be $9,500 ($10,000-$500), 
and the load as a percentage of the net amount invested would be 5.26% 
($500/$9,500 x 100%). The fee table currently requires the load to be 
disclosed as 5%. Our proposed amendment would require the load to be 
disclosed as 5.26%.\154\
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    \154\ As described below, there are differences attributable to 
rounding between sales loads as a percentage of net and gross amount 
invested, on the one hand, and sales loads as a percentage of net 
asset value and offering price, on the other. Because prospectus 
disclosure does not relate to a particular amount invested, it must 
be based on net asset value or offering price rather than net amount 
invested or gross amount invested.
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    The Commission is also proposing to amend Form N-1A to require 
disclosure in the fund prospectus that would alert investors to the 
fact that sales loads shown in the prospectus as a percentage of the 
net asset value or offering price may be higher or lower than the 
actual sales load that an investor would pay as a percentage of the net 
or gross amount invested. This difference is a result of rounding.\155\
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    \155\ For example, if the net asset value per share is $1.98 and 
the applicable sales load is 4.25% of the offering price, the 
offering price would be calculated as follows: $1.98/(1.00 - 
0.0425), which equals $2.07 when rounded to two decimal places. The 
number of shares purchased is determined by dividing the gross 
amount invested by this offering price. Thus, if the gross amount 
invested is $30,000, the number of shares purchased is 14,492.754 
(rounded to three decimal places) ($30,000/$2.07). The net amount 
invested would be the number of shares purchased, multiplied by the 
net asset value per share, or $28,695.65 (14,492.754 x $1.98), and 
the remaining $1,304.35 would be deducted as a sales load. This 
$1,304.35 is equivalent to 4.35% of the gross amount invested of 
$30,000, rather than the 4.25% sales load shown as a percentage of 
offering price.
    As a second example, if the net asset value per share is $7.78 
and the applicable sales load is 5.75% of the offering price, the 
offering price would be calculated as follows: $7.78/(1.00 - 
0.0575), which equals $8.25 when rounded to two decimal places. If 
the gross amount invested is $30,000, the number of shares purchased 
is 3,636.364 (rounded to three decimal places) ($30,000/$8.25). The 
net amount invested would be the number of shares purchased, 
multiplied by the net asset value per share, or $28,290.91 
(3,636.364 x $7.78), and the remaining $1,709.09 would be deducted 
as a sales load. This $1,709.09 is equivalent to 5.70% of the gross 
amount invested of $30,000, rather than the 5.75% sales load shown 
as a percentage of offering price.
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    Specifically, we are proposing to require a fund to disclose in a 
footnote to the fee table, if applicable, that the actual maximum sales 
load that may be paid by an investor as a percentage of the net amount 
invested may be higher than the maximum sales load shown as a 
percentage of net asset value in the fee table. The footnote would be 
required to explain briefly the reason for this variation and disclose 
the maximum sales load as a percentage of the net amount invested.\156\ 
The footnote requirement would apply to front-end and back-end sales 
loads, as well as cumulative sales loads where more than one type of 
sales load is imposed.
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    \156\ Proposed Instruction 2(a)(iv) to Item 3 of Form N-1A. For 
example, if the maximum front-end sales load shown as a percentage 
of net asset value is 6.10%, but the maximum front-end sales load 
that may be paid by an investor may range between 6.00% and 6.20% of 
the net amount invested, the fund would be required to disclose the 
maximum 6.20% figure in the footnote.
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    We are also proposing to require similar footnote disclosure with 
respect to the table of front-end sales loads that is required 
elsewhere in the prospectus.\157\ Our proposal would require a fund to 
disclose in a footnote to the table of front-end sales loads, if 
applicable, that the actual front-end sales load that may be paid by an 
investor as a percentage of the gross or net amount invested at any 
breakpoint may be higher or lower than the applicable load in the table 
of front-end sales loads. The footnote also would be required to 
explain briefly the reason for this variation and to disclose the range 
of the actual front-end sales loads at each sales load breakpoint as a 
percentage of the gross and net amount invested.\158\
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    \157\ Proposed Instruction 4 to Item 8(a)(1) of Form N-1A.
    \158\ For example, if the front-end sales load is 6.10% of net 
asset value and 5.80% of offering price, but the front-end sales 
load that may be paid by an investor may range between 6.00% and 
6.20% of the net amount invested and 5 .70% and 5.90% of the gross 
amount invested, the fund would be required to disclose these sales 
load ranges of 6.00%-6.20% of net amount invested and 5.70%-5.90% of 
gross amount invested.
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     The Commission requests comment on the proposed 
amendments to the fee table and front-end sales load table of Form N-
1A. In particular, the Commission requests comment on the proposed 
requirement that the fee table of the prospectus disclose the sales 
loads as a percentage of net asset value rather than offering price. 
Commenters are specifically invited to comment on whether continuing to 
require disclosure of sales loads in the fee table as a percentage of 
offering price may confuse investors if the confirmation that would be 
required by proposed rule 15c2-2 requires sales loads to be shown as a 
percentage of net amount invested. Which presentation better reflects 
costs to investors? Which presentation is easier for investors to use 
and understand?
     Commenters are also invited to comment on 
whether the proposed disclosure alerting investors to the fact that, as 
a result of rounding, sales loads shown in the prospectus as a 
percentage of the offering price or net asset value

[[Page 6463]]

may be higher or lower than the actual sales load that an investor 
would pay as a percentage of the gross or net amount invested is 
appropriate. Is this disclosure necessary for both sales loads 
disclosed as a percentage of net asset value and sales loads disclosed 
as a percentage of offering price? Should this disclosure be required 
with respect to both front-end sales loads and deferred sales loads? 
Should this disclosure be required in both the prospectus fee table and 
the table of front-end sales loads?
     The Commission also requests comment on whether 
it is possible to quantify the variation between sales loads disclosed 
as a percentage of net asset value or offering price and the amounts 
that investors will pay as a percentage of net or gross amount 
invested, as would be required by the proposals. If it is possible to 
quantify this variation, should the fee table and the table of front-
end sales loads, rather than a footnote, contain the sales loads that 
an investor would pay as a percentage of net or gross amount invested 
after rounding is taken into consideration?
    The Commission is also proposing to amend Form N-1A to require that 
a mutual fund include brief disclosure in its prospectus regarding 
revenue sharing payments, in order to direct investors to the 
disclosure regarding revenue sharing that we are proposing to require 
in the confirmation and point of sale disclosure. If any person within 
a fund complex makes revenue sharing payments, the proposed amendment 
would require a fund to disclose that fact in its prospectus.\159\ For 
this purpose, ``fund complex'' and ``revenue sharing'' would have the 
meanings set forth in proposed rule 15c2-2(f)(10) and (15). If any such 
revenue sharing payments are made, the fund would also be required to 
disclose that specific information about revenue sharing payments to an 
investor's financial intermediary is included in the confirmation or 
periodic statement required under proposed rule 15c2-2 and in the 
disclosure provided at the point of sale required under proposed rule 
15c2-3.
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    \159\ Proposed Item 8(c) of Form N-1A.
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     The Commission requests comment on whether this 
proposed requirement for prospectus disclosure regarding revenue 
sharing payments, including the reference to the confirmation and 
periodic statement required under proposed rule 15c2-2, and the point 
of sale disclosure required under proposed rule 15c2-3, would provide 
useful information to investors.
     We also request comment on whether additional 
prospectus disclosure requirements regarding revenue sharing payments 
would be appropriate. Should we adopt similar prospectus disclosure 
requirements regarding portfolio securities transaction commissions?
     The Commission further requests comment on 
whether amendments parallel to those being proposed for Form N-1A 
should be made to Forms N-3,\160\ N-4,\161\ and N-6,\162\ the 
registration forms for separate accounts that offer variable annuity 
contracts and variable life insurance policies. In particular, the 
Commission invites comment on whether the prospectus fee tables of 
these registration forms should disclose sales loads as a percentage of 
accumulation unit value or net amount invested. Would such a 
requirement be appropriate for separate accounts that offer variable 
life insurance policies, given that significant deductions may be made 
from premium payments for these policies for the cost of insurance, in 
addition to deductions for sales loads?
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    \160\ 17 CFR 239.17a and 274.11b. Form N-3 is used by all 
insurance company separate accounts offering variable annuity 
contracts that are registered under the Investment Company Act as 
management investment companies.
    \161\ 17 CFR 239.17b and 274.11c. Form N-4 is used by all 
insurance company separate accounts offering variable annuity 
contracts that are registered under the Investment Company Act as 
unit investment trusts.
    \162\ 17 CFR 239.17c and 274.11d. Form N-6 is used by all 
insurance company separate accounts offering variable life insurance 
policies that are registered under the Investment Company Act as 
unit investment trusts.
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     Commenters are also invited to comment on 
whether the actual sales loads paid by investors in variable insurance 
products may be higher or lower than the sales loads disclosed in the 
prospectuses for these products as a result of rounding. If so, would 
disclosure regarding the effects of rounding parallel to that proposed 
for mutual funds be appropriate?
     The Commission further requests comment on 
whether the proposed prospectus disclosure regarding revenue sharing 
payments, including the reference to the confirmation and periodic 
statements required under proposed rule 15c2-2 and the point of sale 
disclosure required under proposed rule 15c2-3, would be appropriate 
for the registration forms for variable insurance products. Are revenue 
sharing payments to financial intermediaries made in connection with 
these products, other than those made in connection with underlying 
funds?

VII. Disclosure Related to Transactions in Callable Preferred Stock and 
Callable Debt Securities, and Other Amendments to Rule 10b-10

    In addition to the amendments to rule 10b-10 noted above, we are 
also proposing to amend rule 10b-10 in connection with transactions 
involving callable preferred stock and callable debt securities. 
Finally, we propose to amend the rule to delete an expired transition 
period related to the confirmation of transactions involving securities 
futures products.

A. Proposed Amendment Related to Transactions in Callable Preferred 
Stock

    We are proposing to amend rule 10b-10 to require broker-dealers 
that effect transactions in shares of preferred stock to inform 
customers about whether the issuer of the stock has reserved the right 
to repurchase--or call--the shares. Currently, paragraph (a)(4) of Rule 
10b-10 requires broker-dealers that effect transactions in callable 
debt securities to disclose the fact that the debt security may be 
subject to redemption in advance of maturity, and that the redemption 
may affect the yield of the debt security. Rule 10b-10, however, does 
not require similar disclosure for transactions in preferred stock that 
is callable.
    Information about whether shares of preferred stock are callable is 
material to investors. Investors often purchase shares of preferred 
stock for their dividend yield. If the preferred stock is callable and 
is repurchased by the issuer, then the investor may not be able to 
reinvest his or her proceeds in an instrument with an equivalent yield. 
This is particularly significant given that issuers are most likely to 
call preferred stock when interest rates are declining. Confirmation 
disclosure of this material information could alert an investor to any 
misunderstandings about the rights associated with the preferred stock, 
promote the timely resolution of problems, and better enable the 
investor to evaluate potential future transactions involving that 
security.
    Accordingly, we propose amending rule 10b-10 to redesignate current 
paragraph (a)(4) as ``(a)(4)(A),'' and add a new paragraph (a)(4)(B) 
that would require a broker-dealer that effects a transaction in 
callable preferred stock to disclose to the customer that the preferred 
stock may be repurchased at the election of the issuer and that 
additional information is available upon request.
     The Commission requests comment about whether 
this proposal would

[[Page 6464]]

provide adequate notice to investors. Commenters are specifically 
invited to address whether transaction confirmations also should state 
that the callability of preferred stock may affect the yield earned on 
that stock. The Commission is particularly interested in learning more 
about current industry practice regarding the disclosure of the 
callable nature preferred stock and whether broker-dealers already 
disclose such information as a matter of prudent business practice on 
confirmations or in some other way highlight such information to their 
customers.
     Moreover, commenters are invited to address 
whether transaction confirmations should provide additional disclosures 
about preferred stock, such as disclosures about annual yield, yield-
to-redemption and, if callable, the fixed price at which the preferred 
stock may be repurchased and the date or dates upon which the issuer 
may repurchase the preferred stock.\163\
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    \163\ Paragraphs (a)(5) and (a)(6) of rule 10b-10 require yield 
disclosure for transactions in debt securities. Paragraph (a)(5) 
requires disclosure of yield to maturity for transactions in debt 
that are effected on the basis of dollar price. Paragraph (a)(6) 
requires disclosure of yield to maturity, current yield or yield to 
call for transactions in debt that are effected on the basis of 
yield.
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     Commenters also may wish to address whether 
confirmation disclosure of such information would serve as a useful 
means of informing customers as to the investment features of preferred 
stock.

B. Proposed Amendment Related to Transactions in Callable Debt 
Securities

    We also are proposing to amend rule 10b-10 to require disclosure of 
the first date on which a debt security may be called. Currently, 
paragraph (a)(6) of rule 10b-10 requires a broker-dealer that has 
effected a transaction in a debt security on the basis of yield-to-call 
to disclose, among other information, the type of call, the call date 
and the call price. In practice, a bond may be subject to call on a 
series of dates. As a result, although a confirmation may state what 
the bond's yield-to-call would be if the bond is called on one of those 
dates, the confirmation may not inform a customer about the first 
possible date on which a bond is subject to call. We believe this may 
confuse investors who are not otherwise aware that a bond may be called 
on a date earlier than the one specified on the confirmation. The 
possibility of earlier call can subject the investor to additional 
reinvestment risk, because the investor likely would be left with worse 
alternatives for reinvesting the proceeds if the issuer calls the 
security when prevailing interest rates decline.
    We considered the adequacy of yield-to-call disclosure in the early 
1980s, when we proposed and adopted amendments to rule 10b-10. In 
proposing the amendments, we noted that investors could be surprised by 
the early redemption of investments in long-term debt securities. We 
concluded, however, in light of the variety and number of call 
provisions, that ``a legend advising the customer that he may request 
information from his broker-dealer is a sensible approach to this 
problem.''\164\ Nonetheless, a confirmation does not provide optimal 
disclosure if it specifically identifies one call date, but requires an 
investor to contact the broker-dealer to find out the first call 
date.\165\
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    \164\ Exchange Act Release No. 19687 (April 18, 1983), 48 FR 
17583 (April 25, 1983).
    \165\ Consistent with the discussion above, we note that a 
broker-dealer has an obligation to disclose material information to 
investors that goes beyond the information that is strictly required 
to be disclosed in the confirmation.
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    In our view, disclosure of the first date upon which a debt 
security may be called would provide customers with meaningful 
information that would help avoid confusion. We therefore propose 
amending rule 10b-10 to provide for that additional disclosure. 
Specifically, we propose to amend paragraph (a)(6)(i) to require a 
broker-dealer that effects a transaction in a debt security on the 
basis of yield-to-call to disclose the date upon which the debt 
security may first be called.
     We request comment on whether this proposal 
would provide adequate notice to investors, and whether additional 
information should be disclosed on the confirmation related to the 
impact of callability on yield. Commenters are requested to address to 
what extent broker-dealers currently disclose call information in 
connection with transactions involving debt securities and whether 
broker-dealers already disclose the first possible call date as a 
matter of prudent business practice on confirmations or in some other 
way highlight such information to their customers.

C. Outdated Transitional Provisions Related to Security Futures Product 
Transactions

    Paragraph (e) of rule 10b-10 contains a conditional exception from 
the general requirements of the rule for certain transactions in 
securities futures products. Transitional provisions permitted broker-
dealers to take advantage of that exception up to June 1, 2003 without 
having to comply with specific conditions. Because those transitional 
provisions no longer are in effect, we are proposing to delete 
subparagraph (2) of paragraph (e) of rule 10b-10, and make 
corresponding technical changes.

VIII. Paperwork Reduction Act Analysis

    Certain provisions of proposed Exchange Act rules 15c2-2 and 15c2-
3, the amendments to Exchange Act rule 10b-10, and the amendments to 
Form N-1A contain ``collection of information'' requirements within the 
meaning of the Paperwork Reduction Act of 1995.\166\ The Commission has 
submitted them to the Office of Management and Budget (``OMB'') for 
review in accordance with 44 U.S.C. 3507(d) and 5 CFR 1320.11. The 
collections of information under proposed rules 15c2-2 and 15c2-3 are 
new. The title for the new collection of information under proposed 
rule 15c2-2 is ``Rule 15c2-2 Confirmation of transactions in open-end 
management investment company shares, unit investment trust interests, 
and municipal fund securities used for education savings''. The title 
for the new collection of information under proposed rule 15c2-3 is 
``Rule 15c2-3 Point-of-sale disclosure for purchase transactions in 
open-end management investment company shares, unit investment trust 
interests, and municipal fund securities used for education savings''. 
The OMB has not yet assigned a control number to the new collections of 
information under proposed rules 15c2-2 and 15c2-3. In addition, the 
Commission is revising the collection of information entitled ``Rule 
10b-10 Confirmation of Transactions,'' OMB Control Number 3235-0444 and 
the collection of information entitled ``Form N-1A under the Investment 
Company Act of 1940 and Securities Act of 1933, Registration Statement 
of Open-End Management Investment Companies,'' OMB Control No. 3235-
0307. An agency may not conduct or sponsor, and a person is not 
required to respond to, a collection of information unless it displays 
a currently valid control number.
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    \166\ 44 U.S.C. 3501, et seq.

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[[Page 6465]]

A. Rule 15c2-2

1. Collection of Information in Connection With Certain Transactions 
Involving Open-End Management Investment Company Securities, Unit 
Investment Trust Interests, and Municipal Fund Securities Used for 
Education Savings
    As discussed previously in this release, proposed rule 15c2-2 would 
apply to transactions in mutual fund shares, UIT interests and 529 plan 
securities. The proposed rule would require brokers, dealers and 
municipal securities dealers to make certain of the disclosures that 
rule 10b-10 currently requires them to make. Thus, brokers, dealers and 
municipal securities dealers would no longer be required to comply with 
the requirements of rule 10b-10 when effecting transactions in the 
securities covered by proposed rule 15c2-2. Proposed rule 15c2-2 would 
require brokers, dealers and municipal securities dealers to disclose 
targeted information about the costs and conflicts of interest 
connected with those transactions. In particular, they would be 
required to disclose (a) information about loads and other 
distribution-related costs that directly impact the returns earned by 
investors in those securities; (b) information about compensation of 
brokers, dealers and municipal securities dealers for selling those 
securities and information about revenue sharing arrangements and 
portfolio brokerage arrangements that create conflicts of interest for 
them; and (c) information about whether their associated persons 
receive extra compensation for selling proprietary fund shares or 
certain fund share classes. Brokers, dealers and municipal securities 
dealers would provide this information to customers in the form of 
written confirmations.
2. Proposed Use of Information
    The purpose of proposed rule 15c2-2 is to provide investors in 
mutual fund shares, UIT interests and 529 plan securities with the 
relevant information currently required by rule 10b-10, as well as 
information about certain distribution-related costs and certain 
distribution arrangements that create conflicts of interest for 
brokers, dealers, municipal securities dealers, and their associated 
persons. In addition to certain basic transaction information currently 
required by rule 10b-10, proposed rule 15c2-2 specifically would 
require confirmation disclosure of information about loads and other 
distribution-related costs that directly impact the returns earned by 
investors in those securities. It also would require brokers, dealers 
and municipal securities dealers to disclose their compensation for 
selling those securities, and to disclose information about revenue 
sharing arrangements and portfolio brokerage arrangements that create 
conflicts of interest for them. Moreover, the proposed rule would 
require brokers, dealers and municipal securities dealers to inform 
customers about whether their salespersons or other associated persons 
receive extra compensation for selling certain covered securities.
    The new rule's more targeted informational requirements would 
provide investors in mutual fund shares, UIT interests and 529 plan 
securities with important information about their brokers', dealers' or 
municipal securities dealers' conflicts of interest and about 
distribution costs that can reduce their investment returns. In 
addition, the Commission, the self-regulatory organizations, and other 
securities regulatory authorities would be able to use records of 
confirmations delivered pursuant to proposed rule 15c2-2 in the course 
of examinations, and investigations, as well as enforcement proceedings 
against brokers, dealers and municipal securities dealers. However, no 
governmental agency would regularly receive any of the information 
described above.
3. Respondents
    By its terms, proposed rule 15c2-2 potentially would apply to all 
of the approximately 5,338 brokers, dealers and municipal securities 
dealers that are registered with the Commission and that are members of 
NASD. It would also potentially apply to approximately 62 additional 
municipal securities dealers.\167\ It is important to note, however, 
that only those brokers, dealers and municipal securities dealers that 
effect transactions in mutual fund shares, UIT interests and 529 plan 
securities would have to comply with the provisions of proposed rule 
15c2-2. Although the staff believes some brokers, dealers and municipal 
securities dealers do not effect transactions in mutual fund shares, 
UIT interests or 529 plan securities, the staff is unable to estimate 
the number of such brokers, dealers and municipal securities dealers 
and has, therefore, assumed that all brokers, dealers and municipal 
securities dealers effect such transactions. This assumption may result 
in the paperwork burdens and costs of proposed rule 15c2-2 being 
overstated.
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    \167\ Source: MSRB Registrants List (available on the Internet 
at http://www.msrb.org/msrb1/PQweb/Registrants.xls).
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4. Reporting and Recordkeeping Burden
    The Commission staff estimates that there are 1 billion 
confirmations delivered annually to customers in connection with 
securities transactions involving mutual fund shares, UIT interests and 
529 plan securities.\168\ Rule 10b-10 currently requires broker-dealers 
to deliver confirmations to customers in connection with transactions 
in mutual fund shares and UIT interests. In addition, brokers, dealers 
and municipal securities dealers are required under the rules of the 
MSRB to deliver confirmations to customers in connection with 
transactions involving municipal fund securities.\169\ The Commission 
staff does not anticipate that a significant number of new 
confirmations would be required to be generated if proposed rule 15c2-2 
is adopted. The proposed rule would, however, require additional 
information in confirmations that would otherwise be required to be 
delivered under Exchange Act rule 10b-10 and MSRB rule G-15.
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    \168\ This estimate is based on discussions with industry 
participants.
    \169\ MSRB rule G-15.
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    The Commission staff estimates that brokers, dealers and municipal 
securities dealers would have a one-time burden associated with 
reprogramming software and otherwise updating systems in order to 
enable confirmation delivery systems to generate the information 
required under proposed rule 15c2-2.\170\ We understand that some 
brokers, dealers and municipal securities dealers have developed their 
own proprietary confirmation delivery systems, which would need to be 
reprogrammed and updated to comply with proposed rule 15c2-2. As a 
general matter, medium-sized and smaller firms, but also some larger 
firms, use third-party service providers, or vendors, to generate the 
data necessary to send confirmations.\171\ They may also use vendors to 
actually send confirmations to investors. Therefore, the firms' vendors 
would be required to reprogram their software and update their systems 
to generate the data that would allow their clients to comply with 
proposed rule 15c2-2. Some, if not all, of the cost for this

[[Page 6466]]

reprogramming and systems upgrading would be allocated to the vendors' 
clients--the brokers, dealers and municipal securities dealers. The 
staff understands from discussions with vendors that the allocation of 
costs would coincide roughly with the volume of the client's 
transactions, so that a broker, dealer or municipal securities dealer 
that executes fewer transactions involving covered securities would be 
allocated less of its vendor's costs than a broker, dealer or municipal 
securities dealer that executes more transactions.
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    \170\ The Commission staff understands that, because 
confirmation delivery systems already exist, new systems are not 
needed to generate the confirmations that would be required under 
proposed rule 15c2-2.
    \171\ Based on discussions with industry representatives, the 
Commission staff estimates that over 5,000 brokers, dealers and 
municipal securities dealers use vendors' confirmation data 
services.
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    The Commission staff estimates from information provided by 
industry participants that the one-time burden to brokers, dealers and 
municipal securities dealers, and their vendors, for reprogramming 
software and otherwise updating systems to permit the confirmation 
delivery systems required under proposed rule 15c2-2 would be 15 
million hours.\172\
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    \172\ This estimate is based on the staff's understanding that 
5,000 brokers, dealers and municipal securities dealers, including 
virtually all small entities, directly or indirectly through 
clearing brokers, use the services of 10 vendors. The staff 
estimates that the total one-time burden to the 10 vendors would be 
1,580,000 hours, or 158,000 hours per vendor. Although the staff 
understands from discussions with vendors that this burden would be 
allocated to all of the vendors' clients in a manner that reflects 
the volume of transactions the broker, dealer or municipal 
securities dealer effects, the staff assumes for purposes of 
estimating the total burden that the burden would be allocated to 
each client on a pro rata basis (316 hours per broker, dealer or 
municipal security dealer that uses vendors' services). In addition, 
the staff estimates, based on discussions with industry 
representatives, that 400 brokers, dealers and municipal securities 
dealers use proprietary confirmation delivery systems that each of 
them, on average, would have a one-time burden of 33,550 hours. 
Thus, the total one-time burden is estimated to be 15 million hours 
((5,000 x 316) + (400 x 33,550) = 15,000,000).
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     The Commission requests comment on the staff's 
estimates of the one-time reprogramming software and otherwise updating 
systems to permit the confirmation delivery systems required under 
proposed rule 15c2-2.
    In addition to the one-time burden associated with reprogramming 
software and upgrading confirmation delivery systems, the Commission 
anticipates on-going burdens for complying with the requirements of 
proposed rule 15c2-2, including calculating revenue sharing and 
portfolio brokerage amounts required under rule 15c2-2. Based upon 
discussions with industry representatives, the Commission staff 
understands that, once completed, this reprogramming and systems 
updating would permit brokers, dealers, and municipal securities 
dealers to have automated access to the information that would be 
required to be disclosed in confirmations delivered pursuant to 
proposed rule 15c2-2. As a result, the burden associated with obtaining 
data to be included in confirmations would be de minimis. The 
Commission staff estimates from information provided by industry 
participants that the annual burden to brokers, dealers and municipal 
securities dealers, and their vendors, to comply with the requirements 
under proposed rule 15c2-2 to calculate revenue sharing and portfolio 
brokerage amounts and to maintain and further update the confirmation 
delivery systems, would be 2 million hours.\173\
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    \173\ The staff estimates that the burden to the 10 vendors to 
maintain their systems would be 500,000 million hours annually, or 
50,000 hours per vendor. The staff estimates that the burden 
allocated to each client on a pro rata basis would be 100 hours 
annually per broker, dealer or municipal security dealer that uses 
vendors' services (500,000 hours/5,000 = 100 hours). The staff 
estimates, based on discussions with industry representatives, that 
the 400 brokers, dealers and municipal securities dealers that use 
proprietary confirmation delivery systems, on average, would have a 
burden of 3,750 hours annually for maintaining systems. Thus, the 
annual burden for maintaining systems is estimated to be 2 million 
hours ((5,000 x 100) + (400 x 3,750) = 2,000,000 hours).
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     The Commission requests comment on the staff's 
estimates of the burdens associated with complying with the 
requirements of proposed rule 15c2-2, including calculating revenue 
sharing and portfolio brokerage amounts, as well as maintaining and 
updating confirmation delivery systems. The Commission specifically 
requests comment on the estimate that, after reprogramming, the burden 
associated with obtaining the data necessary to comply with the 
confirmation delivery requirements of proposed rule 15c2-2 would be de 
minimis. In particular, commenters are requested to address whether 
reprogramming software and updating systems would, in fact, permit the 
data to be automatically transmitted to brokers', dealers' and 
municipal securities dealers' systems or whether data would need to be 
manually entered into such systems. Commenters are further requested to 
provide quantitative data on the burdens associated with manually 
entering data into systems, if necessary.
    Brokers, dealers and municipal securities dealers also would have a 
burden for generating and sending confirmations to investors. The 
Commission staff estimates from information provided by industry 
participants that it takes about one minute to generate and send a 
confirmation. Based on the estimate that there are 1 billion 
transactions annually in the covered securities, the Commission staff 
estimates that the annual burden to brokers, dealers and municipal 
securities dealers to generate and send confirmations to customers 
pursuant to proposed rule 15c2-2 would be 16.7 million hours.\174\ It 
is important to note, however, that confirmations for transactions in 
covered securities are currently required to be delivered pursuant to 
rule 10b-10 or MSRB rule G-15, as applicable. As a result, the burden 
for generating and sending confirmations would not be entirely new, but 
would reflect a shift of burdens from rule 10b-10 to proposed rule 
15c2-2. In addition, brokers, dealers and municipal securities dealers 
routinely send customers account statements pursuant to self-regulatory 
organizations' requirements and for reasons of prudent business 
practice. Nonetheless, the Commission staff estimates that the total 
annual burden for complying with the requirements of proposed rule 
15c2-2 would be 18.7 million hours.\175\ The number of confirmations 
sent and the cost of the confirmations vary from firm to firm. Smaller 
firms typically send fewer confirmations than larger firms because they 
effect fewer transactions.
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    \174\ (1 billion confirmations at one minute per confirmation = 
1 billion minutes; 1 billion minutes/60 minutes per hour = 16.7 
million hours.)
    \175\ (16.7 million hours to generate and send confirmations to 
customers + 2 million hours to calculate revenue sharing and 
portfolio brokerage amounts and to maintain and further update the 
confirmation delivery systems = 18.7 million hours.)
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    Based upon discussions with industry participants, the Commission 
staff anticipates that there would be one-time external costs for 
upgrading and reprogramming printing systems for brokers, dealers 
municipal securities dealers who use out-sourced printing and other 
out-sourced services. The staff anticipates that these costs would be 
passed on to brokers, dealers and municipal securities dealers in the 
form of higher fees. While the staff is currently unable to determine 
the number of brokers, dealers and municipal securities dealers that 
utilize such outsourced services, based on discussions with industry 
representatives the staff estimates that the cost per broker, dealer or 
municipal securities would be approximately $18,500. Assuming that all 
of the approximately 5,400 brokers, dealers and municipal securities 
dealers subject to proposed rule 15c2-2 use such out-sourced services, 
the total one-time external cost would be about $100 million. We note 
that this assumption may result in a significant overstatement of these 
external costs.

[[Page 6467]]

    As stated earlier, the Commission staff estimates that there are 1 
billion securities transactions annually involving mutual fund shares, 
UIT interests and 529 plan securities. According to information 
provided by industry participants, the Commission staff estimates that 
the average cost, including postage and printing, for a two-page 
confirmation is about $1.05. As a result, the Commission staff 
estimates that the annual costs of complying with the requirements of 
proposed rule 15c2-2, including the printing and postal costs for 
generating and sending confirmations, would be $1.05 billion,\176\ 
reflecting an increase of $160 million over the cost of the 
confirmations had they been delivered pursuant to rule 10b-10.\177\
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    \176\ (1 billion confirmations at $1.05 per confirmation = $1.05 
billion.) As noted above, confirmations for transactions in covered 
securities are currently required to be delivered pursuant to rule 
10b-10 or MSRB rule G-15, as applicable. As a result, this estimated 
cost is not entirely a new cost, but reflects a shift of costs from 
rule 10b-10 to proposed rule 15c2-2. This estimated cost also 
reflects an incremental increase in the cost of generating 
confirmations from 89 cents under rule 10b-10 to $1.05 under 
proposed rule 15c2-2. This incremental cost is associated with 
generating the two-page confirmation that would be required under 
proposed rule 15c2-2, as compared to a half-page or one-page 
confirmation that is currently permitted under rule 10b-10.
    \177\ (1 billion confirmations delivered pursuant to rule 10b-10 
at $0.89 per confirmation = $890 million; $1.05 billion - $890 
million = $160 million.)
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    In summary, the Commission staff estimates that there would be a 
one-time burden of 15 million hours associated with reprogramming 
software and upgrading systems to permit brokers, dealer and municipal 
securities dealers, and their vendors, to comply with the requirements 
of proposed rule 15c2-2. The staff further estimates that there would 
be an additional one-time cost of $100 million for fees of service 
providers. The staff estimates that the annual burden for complying 
with the requirements of proposed rule 15c2-2 would be 18.7 million and 
that the annual costs of complying with the requirements of proposed 
rule 15c2-2, including the printing and postal costs for generating and 
sending confirmations, would be $1.05 billion. We note that, as stated 
above, many of these costs and burdens, including the majority of the 
annual costs and burdens, would be shifted from rule 10b-10 to proposed 
rule 15c2-2. We also note that some of the assumptions the staff has 
made may result in the costs and burdens being overstated.
5. Collection of Information Is Mandatory
    This collection of information would be mandatory.
6. Confidentiality
    The collection of information delivered pursuant to the proposed 
rule 15c2-2 would be provided by brokers, dealers and municipal 
securities dealers to customers, and also would be maintained by 
brokers, dealers and municipal securities dealers.
7. Record Retention Period
    Exchange Act Rule 17a-4(b)(1) \178\ requires broker-dealers to 
preserve confirmations for three years, the first two years in an 
accessible place. Similarly MSRB rule G-9 requires brokers, dealers and 
municipal securities dealers to preserve confirmations of transactions 
involving municipal securities for three years, the first two years in 
an accessible place.
---------------------------------------------------------------------------

    \178\ 17 CFR 240.17a-4(b)(1).
---------------------------------------------------------------------------

B. Rule 15c2-3

1. Collection of Information at the Point of Sale in Connection With 
Certain Transactions Involving Open-End Management Investment Company 
Securities, Unit Investment Trust Interests, and Municipal Fund 
Securities Used for Education Savings
    Proposed rule 15c2-3 under the Exchange Act would require brokers, 
dealers and municipal securities dealers to provide point of sale 
disclosure to investors prior to effecting transactions in mutual fund 
shares, UIT interests and 529 plan securities. The disclosure would 
provide investors with targeted material information about 
distribution-related costs and remuneration that lead to conflicts of 
interest for their brokers, dealers or municipal securities dealers. 
The collection of information under proposed rule 15c2-3 would require 
some of the disclosure that is also required under rule 15c2-2. 
However, in contrast to the confirmation disclosure required under 
proposed rule 15c2-2, which a customer will not receive in writing 
until after a transaction has been effected, the point of sale 
disclosure that would be required under rule 15c2-3 would specifically 
require that investors be provided with information that they can use 
at the time they determine whether to enter into a transaction to 
purchase one of the covered securities.
2. Proposed Use of Information
    The purpose of proposed rule 15c2-3 is to provide information to 
investors at the time they make their investment decisions with respect 
to transactions in mutual fund shares, UIT interests and 529 plan 
securities. The rule specifically is intended to give investors timely 
access to information about sales loads and other distribution-related 
costs associated with transactions in those securities, as well as 
distribution arrangements that pose conflicts of interest for the 
brokers, dealers or municipal securities dealers, or their associated 
persons, that effect those transactions. In the absence of the new 
rule's requirements, investors in such transactions would lack, at the 
time they make their investment decision, important information about 
distribution costs that can reduce investment returns, and about 
conflicts of interest.
    Records of the disclosure described above may be used by the 
Commission, the self-regulatory organizations, and other securities 
regulatory authorities in the course of examinations, investigations, 
and enforcement proceedings. No governmental agency regularly would 
receive any of the information described above.
3. Respondents
    By its terms, proposed rule 15c2-3 potentially would apply to all 
of the approximately 5,338 brokers, dealers and municipal securities 
dealers that are registered with the Commission and that are members of 
NASD. It would also potentially apply to approximately 62 additional 
municipal securities dealers. It is important to note, however, that 
only those broker, dealers and municipal securities dealers that effect 
transactions in mutual fund shares, UIT interests and 529 plan 
securities would be affected by the provisions of proposed rule 15c2-3. 
Although as stated above, the staff believes some brokers, dealers and 
municipal securities dealers do not effect transactions in mutual fund 
shares, UIT interests and 529 plan securities, the staff is unable to 
estimate the number of such brokers, dealers and municipal securities 
dealers and has, therefore, assumed that all brokers, dealers and 
municipal securities dealers effect such transactions. This assumption 
may result in the paperwork burdens and costs of proposed rule 15c2-3 
being overstated.
4. Reporting and Recordkeeping Burden
    As noted above, the Commission staff estimates that there are 1 
billion confirmations delivered annually in connection with securities 
transactions involving mutual fund shares, UIT interests and 529 plan 
securities.

[[Page 6468]]

Proposed rule 15c2-3 would require brokers, dealers and municipal 
securities dealers to provide disclosure to customers about costs and 
conflicts at the point of sale for each of these transactions. The 
information that would be required to be delivered pursuant to proposed 
rule 15c2-3 would be derived from information that brokers, dealers and 
municipal securities dealers would otherwise prepare in order to 
fulfill their confirmation disclosure requirements under proposed rule 
15c2-2. The Commission staff anticipates that one of the primary 
burdens to the industry of proposed rule 15c2-3 would be a one-time 
burden associated with reprogramming software and other such activities 
that will enable confirmation delivery systems to generate the 
information at the point of sale. Based on discussions with industry 
representatives, the Commission staff does not expect that brokers, 
dealers or municipal securities dealers would require new systems to be 
developed. Rather, the reprogramming and updating of current systems 
will enable brokers, dealers and municipal securities dealers to have 
access to such information at the point of sale, and to provide such 
information to investors at that time. Based on discussions with 
industry participants, the Commission staff estimates that the one-time 
burden to brokers, dealers and municipal securities dealers to 
reprogram software and conduct such other activities that will enable 
confirmation delivery systems to generate information required by 
proposed rule 15c2-3 to be delivered at the point of sale would be 
approximately 7 million hours.\179\ We note that some, but not all of 
the burdens for complying with proposed rule 15c2-3 would be shared 
with burdens for complying with proposed rule 15c2-2. The estimates of 
burdens and costs in this section reflect this shared burden. However, 
if proposed rule 15c2-3 is adopted and proposed rule 15c2-2 is not, the 
burdens for complying with proposed rule 15c2-3 may increase.
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    \179\ The staff estimates that the total one-time burden to the 
10 vendors would be 1,040,000 hours, or 104,000 hours per vendor. 
Although the staff understands from discussions with vendors that 
this burden would be allocated to all of the vendors' clients in a 
manner that reflects the volume of transactions the broker, dealer 
or municipal securities dealer effects, for purposes of this 
calculation, the staff assumes that the burden would be allocated to 
each client on a pro rata basis (208 hours per broker, dealer or 
municipal security dealer that uses vendors' services). In addition, 
the staff estimates, based on discussions with industry 
representatives, that 400 brokers dealers and municipal securities 
dealers use proprietary confirmation delivery systems that each of 
them, on average, would have a one-time burden of 22,400 hours. 
Thus, the total one-time burden is estimated to be 7 million hours 
((5,000 x 208) + (400 x 14,900) = 7,000,000 hours).
---------------------------------------------------------------------------

    Proposed rule 15c2-3(d) would require brokers, dealers and 
municipal securities dealers to make records of their disclosure 
sufficient to demonstrate compliance with the delivery requirements of 
paragraphs (a) and (b) of proposed rule 15c2-3. The brokers, dealers or 
municipal securities dealers would have to preserve those records for 
the period specified in Exchange Act rule 17a-4(b), or, in the case of 
records of oral communications or the disclosures, for the period 
specified in Exchange Act rule 17a-4(b) with regard to similar written 
communications and records. While this requirement often can be 
satisfied by maintaining a copy of the disclosure document that was 
provided to the customer, in the case of disclosure solely by means of 
oral communications, this provision would require the broker, dealer or 
municipal securities dealer to have compliance procedures in place that 
are adequate to demonstrate that it provided the required disclosure. 
Based on discussions with industry participants, the Commission staff 
estimates that the annual burden to brokers, dealers and municipal 
securities dealers to develop and implement such compliance procedures 
would be approximately 2 million hours.\180\
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    \180\ The staff estimates that the burden to the 10 vendors to 
maintain their systems would be 500,000 million hours annually, or 
50,000 hours per vendor. The staff estimates that the burden 
allocated to each client on a pro rata basis would be 100 hours 
annually per broker, dealer or municipal security dealer that uses 
vendors' services (500,000 hours/5,000 = 100 hours). The staff 
estimates, based on discussions with industry representatives, that 
the 400 brokers dealers and municipal securities dealers that use 
proprietary confirmation delivery systems, on average, would have a 
burden of 3,750 hours annually for maintaining systems. Thus, the 
annual burden for maintaining systems is estimated to be 2 million 
hours ((5,000 x 100) + (400 x 3,750) = 2,000,000).
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    The Commission staff further estimates from information provided by 
industry participants that it will take, on average, about one minute 
to deliver to customers the point of sale disclosure required under 
proposed rule 15c2-3. The Commission staff also estimates from 
information provided by industry participants that the annual burden to 
brokers, dealers and municipal securities dealers to deliver at the 
point of sale the disclosure that would be required under proposed rule 
15c2-3, and to maintaining systems that would permit such disclosure, 
would be 16.7 million hours.\181\ As a result, the Commission staff 
estimates that the total annual burden to brokers, dealers and 
municipal securities dealers to comply with the requirements of 
proposed rule 15c2-3, would be 18.7 million hours.\182\
---------------------------------------------------------------------------

    \181\ (1 billion transactions at one minute per point of sale 
disclosure = 1 billion minutes; 1 billion minutes/60 minutes per 
hour = 16.7 million hours.)
    \182\ (16.7 million hours per point of sale disclosure + 2 
million hours to develop and implement compliance procedures = 18.7 
million hours.)
---------------------------------------------------------------------------

    It is important to note that, under specified conditions, paragraph 
(e)(1) of proposed rule 15c2-3 would conditionally except transactions 
resulting from orders that a customer places via U.S. mail, messenger 
delivery or a similar third-party delivery service. The exception would 
be available to brokers, dealers or municipal securities dealers that, 
within the prior six months, have provided the customer with 
information about the maximum potential size of sales loads and asset-
based sales charges and service fees associated with covered securities 
sold by that broker, dealer or municipal securities dealer, as well as 
statements about whether the broker, dealer or municipal securities 
dealer receives revenue sharing or portfolio brokerage commissions or 
pays differential compensation.\183\ This exception would have the 
result of in a decrease in the burden to the industry of proposed rule 
15c2-3.
---------------------------------------------------------------------------

    \183\ See supra section V.G. for a detailed discussion of this 
exception.
---------------------------------------------------------------------------

    Based upon discussions with industry participants, the Commission 
staff anticipates that there would be one-time external costs for out-
sourced services, including call center services for brokers, dealers 
and municipal securities dealers that may use such services for 
delivery of point of sale information for transactions placed by 
telephone. The staff anticipates that these costs would be passed on to 
brokers, dealers and municipal securities dealers in the form of higher 
fees. While the staff is currently unable to determine the number of 
brokers, dealers and municipal securities dealers that utilize such 
outsourced services, based on discussions with industry representatives 
the staff estimates that the cost per broker, dealer or municipal 
securities dealer would be approximately $18,500. Assuming that all of 
the approximately 5,400 brokers, dealers and municipal securities 
dealers subject to proposed rule 15c2-3 use such out-sourced services, 
the total one-time external cost would be about $100 million. We note 
that this assumption may result in a significant overstatement of these 
external costs.

[[Page 6469]]

    Based on discussions with industry participants, the Commission 
staff estimates that the annual cost to brokers, dealers and municipal 
securities dealers for call center services and other service providers 
which would assist with development and implementation of procedures 
sufficient to demonstrate compliance with the delivery requirements of 
paragraphs (a) and (b) of proposed rule 15c2-3 would be approximately 
$40 million.\184\
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    \184\ Based on discussions with industry representatives, the 
staff estimates that the annual cost would be $7,400 per broker, 
dealer or municipal securities dealer. (5,400 brokers, dealers and 
municipal securities dealers x $7,400 = $39,996,000.)
---------------------------------------------------------------------------

    In summary, the Commission staff estimates that there would be a 
one-time burden of 7 million hours associated with reprogramming 
software and upgrading systems to permit brokers, dealers and municipal 
securities dealers, and their vendors, to comply with the requirements 
of proposed rule 15c2-3. The staff further estimates that there would 
be an additional one-time cost of $100 million for fees of service 
providers. The staff estimates that the annual burden for complying 
with the requirements of proposed rule 15c2-3 would be 18.7 million 
hours and that the annual costs of complying with the requirements of 
proposed rule 15c2-3, including call center services, and recordkeeping 
and compliance costs, would be $40 million.
5. Collection of Information Is Mandatory
    This collection of information would be mandatory.
6. Confidentiality
    The collection of information delivered pursuant to the proposed 
rule 15c2-3 would be provided by brokers, dealers and municipal 
securities dealers to customers, and also would be maintained by 
brokers, dealers and municipal securities dealers.
7. Record Retention Period
    Proposed rule 15c2-3 would require brokers, dealers and municipal 
securities dealers to preserve records for the period specified in 
Exchange Act rule 17a-4(b), or, in the case of records of oral 
communications and their disclosures, for the period specified in 
Exchange Act rule 17a-4(b) with regard to similar written 
communications and records. Exchange Act Rule 17a-4(b)(1)\185\ requires 
the preservation of confirmations for three years, the first two years 
in an accessible place.
---------------------------------------------------------------------------

    \185\ 17 CFR 240.17a-4(b)(1).
---------------------------------------------------------------------------

C. Proposed Amendments to Rule 10b-10

1. Collection of Information
    For the reasons discussed above and consistent with proposed Rule 
15c2-2, rule 10b-10 would be modified to exclude transactions in mutual 
fund shares and UIT interests (other than UIT interests that are traded 
in a secondary market). The purpose of the exclusion is to enhance 
disclosure efficiency and to avoid duplicative regulatory burdens. This 
exclusion from a regulatory burden would not impose recordkeeping or 
information collection requirements, or other collections of 
information under rule 10b-10 that require approval of the Office of 
Management and Budget under 44 U.S.C. 3501, et seq. However, the 
proposed amendments to rule 10b-10 would also require brokers and 
dealers to disclose additional information in confirmations that would 
otherwise be delivered in connection with transactions involving 
callable preferred stock and callable debt. Specifically, the proposed 
amendments would require disclosure of the callable nature of preferred 
stock, if such is the case, and, in the case of callable debt that is 
effected on the basis of price to call, the date upon which the debt 
security may first be called. This information would be provided to 
customers in the form of written confirmations.
2. Proposed Use of Information
    The purpose of the proposed amendments to rule 10b-10 is to provide 
to investors the information necessary to evaluate their transactions 
in callable preferred stock and redeemable debt. In the absence of the 
proposed amendments, investors in such transactions may not be fully 
informed of important information, such as whether the preferred stock 
is callable and the first date upon which callable debt securities may 
be called. In addition, the Commission, the self-regulatory 
organizations, and other securities regulatory authorities may use the 
confirmations described above in the course of examinations, 
investigations, and enforcement proceedings. No governmental agency 
would regularly receive any of the information described above.
3. Respondents
    Rule 10b-10 applies to all of the 5,338 brokers and dealers that 
are registered with the Commission and that effect transactions for 
customers.
4. Reporting and Recordkeeping Burden
    Based on information provided by registered broker-dealers to the 
Commission in FOCUS Reports\186\, the Commission staff estimates that 
registered broker-dealers process approximately 295 million order 
tickets per month for transactions on behalf of customers. Each order 
ticket representing a transaction effected on behalf of a customer 
results in one confirmation. Therefore, the Commission staff estimates 
that approximately 3.54 billion confirmations\187\ are sent to 
customers annually. As noted above, the staff estimates that 
approximately 1 billion confirmations are generated in connection with 
transactions in mutual funds, UIT interests and 529 plan securities and 
will be delivered pursuant to proposed rule 15c2-2, if adopted, and 
will accordingly decrease the number of confirmations delivered 
pursuant to rule 10b-10 by a like amount. As a result, the Commission 
staff estimates that approximately 2.54 billion confirmations will be 
sent to customers annually pursuant to rule 10b-10 if proposed rule 
15c2-2 and the proposed amendments to rule 10b-10 are adopted.
---------------------------------------------------------------------------

    \186\ FOCUS Reports are annual reports that broker-dealers are 
required to file with the Commission. They are contained in the 
broker-dealers' Form X-17A-5 (17 CFR 249.617).
    \187\ (295 million confirmations/month x 12 months/year = 3.54 
billion confirmations.)
---------------------------------------------------------------------------

    The Commission staff estimates from information provided by 
industry participants that it takes about one minute to generate and 
send a confirmation. As a result, the Commission staff estimates that 
the annual burden to brokers, dealers and municipal securities dealers 
to comply with the confirmation delivery requirements of the proposed 
amendments to rule 10b-10 would be 42.3 million hours.\188\ The number 
of confirmations sent and the cost of the confirmations vary from firm 
to firm as smaller firms send fewer confirmations than larger firms 
because they effect fewer transactions.
---------------------------------------------------------------------------

    \188\ (2.54 billion confirmations at one minute per confirmation 
= 2.54 billion minutes; 2.54 billion minutes/60 minutes per hour = 
42.3 million hours.) We note that the estimates of this annual 
burden reflects a shift of confirmation delivery requirements with 
respect to open-end investment company securities and unit 
investment trust interests from rule 10b-10 to proposed rule 15c2-2.
---------------------------------------------------------------------------

    The Commission staff estimates that the one-time burden associated 
with reprogramming of software and other such activities to enable 
confirmation delivery systems to include the call information required 
under the proposed amendments to rule 10b-10 would be minimal. The 
Commission staff further estimates that the on-going

[[Page 6470]]

burden for complying with the additional disclosure requirements of 
rule 10b-10 with respect to callable securities would be minimal. In 
addition, there would be no additional cost in connection with the 
deletion of the expired transition period related to the confirmation 
of transactions involving securities futures products.
    According to information previously provided by industry 
participants, the Commission staff estimates that the average cost, 
including postage, for a one-page confirmation is 89 cents. Based upon 
discussions with industry participants, the Commission staff estimates 
that the total annual cost associated with generating and delivering to 
investors the information required under rule 10b-10, including the 
proposed amendments, would be $2.26 billion.\189\ It is important to 
note, however, that the confirmation is a customary document used by 
the industry for business purposes.
---------------------------------------------------------------------------

    \189\ (2.54 billion confirmations at $0.89 per confirmation = 
$2.26 billion.)
---------------------------------------------------------------------------

5. Collection of Information Is Mandatory
    This collection of information would be mandatory.
6. Confidentiality
    The collection of information delivered pursuant to rule 10b-10 
would be provided by broker-dealers to customers, and also would be 
maintained by broker-dealers.
7. Record Retention Period
    Exchange Act Rule 17a-4(b)(1)\190\ requires broker-dealers to 
preserve confirmations for three years, the first two years in an 
accessible place.
---------------------------------------------------------------------------

    \190\ 17 CFR 240.17a-4(b)(1).
---------------------------------------------------------------------------

D. Proposed Amendments to Form N-1A

1. Collection of Information in Connection With Prospectus Disclosure
    The Commission is proposing to amend the fee table of the mutual 
fund prospectus to require the maximum sales loads to be shown as a 
percentage of net asset value rather than as a percentage of offering 
price. The proposed amendments also would require a fund to provide 
disclosure in the fund prospectus to alert investors to the fact that 
sales loads shown in the prospectus as a percentage of net asset value 
or offering price may be higher or lower than the actual sales load 
that an investor would pay as a percentage of the net or gross amount 
invested, due to rounding. Finally, the proposed amendments would 
require that a mutual fund include brief disclosure in its prospectus 
regarding revenue sharing payments, in order to direct investors to the 
disclosure regarding revenue sharing that the Commission is proposing 
to require in the confirmation and point of sale disclosure.
2. Proposed Use of Information
    The purpose of the proposed amendments is to provide investors in 
mutual funds with enhanced disclosure regarding sales loads, and to 
direct investors to disclosure regarding revenue sharing arrangements 
that a fund may have with an investor's financial intermediary.
3. Respondents
    The likely respondents to this information collection are mutual 
funds registering or already registered with the Commission. We 
estimate that there are approximately 7,025 mutual fund portfolios that 
fit this description.
4. Reporting and Recordkeeping Burden
    The current hour burden for preparing an initial Form N-1A filing 
is 812.5 hours per portfolio, and the current annual hour burden for 
preparing a post-effective amendment on Form N-1A is 104.5 hours per 
portfolio. The Commission staff estimates that, on an annual basis, 
registrants file initial registration statements on Form N-1A covering 
483 portfolios, and file post-effective amendments on Form N-1A 
covering 6,542 portfolios. An additional burden of 33,250 hours is 
expected to result from the Commission's recent proposed rule relating 
to frequent purchases and redemptions of fund shares and selective 
disclosure of portfolio holdings, and the recent proposed rule relating 
to disclosure of sales load breakpoints.\191\ Thus, the Commission 
staff estimates that the total annual hour burden for the preparation 
and filing of Form N-1A would be 1,109,330 hours.\192\
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    \191\ See Investment Company Act Release No. 26287 (Dec. 11, 
2003) [68 FR 70402 (Dec. 17, 2003)]; Investment Company Act Release 
No. 26298 (Dec. 17, 2003) [68 FR 74732 (Dec. 24, 2003)].
    \192\ This estimate is based on the following calculation: 
(812.5 hours x 483 portfolios) + (104.5 hours x 6,542 portfolios) = 
1,076,080 hours. An additional annual hour burden of 30,998 hours 
resulting from the proposed rule relating to frequent purchases and 
redemptions and selective disclosure, and an additional annual hour 
burden of 2,252 hours resulting from the proposed amendments 
relating to breakpoints disclosure, yield a total annual hour burden 
of 1,109,330 hours.
---------------------------------------------------------------------------

    The Commission staff estimates that the proposed amendments 
regarding sales loads would increase the hour burden per portfolio per 
filing of an initial registration statement or a post-effective 
amendment on Form N-1A by 0.5 hours, and that 36% of mutual fund 
portfolios have sales loads and hence would be affected by the proposed 
amendments regarding sales load disclosure.\193\ Thus, the additional 
incremental hour burden resulting from the proposed amendments relating 
to sales load disclosure would be 1265 hours ((0.5 hours for initial 
registration statements x 483 portfolios x 36%) + (0.5 hours for post-
effective amendments x 6,542 portfolios x 36%)). The Commission staff 
estimates that the proposed amendments regarding revenue sharing 
arrangements would increase the hour burden per portfolio per filing of 
an initial registration statement or post-effective amendment on Form 
N-1A by 0.1 hours.\194\ Thus, the staff estimates that the additional 
incremental hour burden resulting from the proposed amendments relating 
to disclosure of revenue sharing would be 703 hours ((0.1 hours for 
initial registration statements x 483 portfolios) + (0.1 hours for 
post-effective amendments x 6,542 portfolios)). If the proposed 
amendments to Form N-1A are adopted, the total annual hour burden for 
all funds for preparation and filing of initial registration statements 
and post-effective amendments to Form N-1A would be 1,111,298 hours 
(1265 hours + 703 hours + 1,109,330 hours).
---------------------------------------------------------------------------

    \193\ This estimate is based on information regarding the number 
of mutual fund portfolios with front-end or deferred sales loads, 
derived by the staff from Commission filings and third-party 
information sources.
    \194\ The Commission estimates, for purposes of the Paperwork 
Reduction Act, that a significant majority of mutual fund portfolios 
either have revenue sharing arrangements or are part of a fund 
complex that has such an arrangement and thus would be affected by 
the proposed amendments regarding revenue sharing disclosure.
---------------------------------------------------------------------------

5. Collection of Information Is Mandatory
    This collection of information would be mandatory.
6. Confidentiality
    Responses to the disclosure requirements are not confidential.
7. Record Retention Period
    There is no mandatory record retention period associated with these 
amendments.

E. Request for Comment

    Pursuant to 44 U.S.C. 3506(c)(2)(B), the Commission solicits 
comments to:
    (i) Evaluate whether the proposed collection of information is 
necessary for the proper performance of the functions of the 
Commission, including whether the information would have practical 
utility;

[[Page 6471]]

    (ii) Evaluate the accuracy of the Commission staff's estimate of 
the burden of the proposed collection of information;
    (iii) Enhance the quality, utility, and clarity of the information 
to be collected; and
    (iv) Minimize the burden of the collection of information on those 
required to respond, including through the use of automated collection 
techniques or other forms of information technology.
    Persons desiring to submit comments on the collection of 
information requirements should direct them to the Office of Management 
and Budget, Attention: Desk Officer for the Securities and Exchange 
Commission, Office of Information and Regulatory Affairs, Washington, 
DC 20503, and should also send a copy of their comments to Jonathan G. 
Katz, Secretary, Securities and Exchange Commission, 450 Fifth Street, 
NW, Washington, DC 20549-0609, and refer to File No. S7-06-04. OMB is 
required to make a decision concerning the collection of information 
between 30 and 60 days after publication of this release in the Federal 
Register. Therefore, comments to OMB are best assured of having full 
effect if OMB receives them within 30 days of this publication. 
Requests for materials submitted to OMB by the Commission with regard 
to this collection of information should be in writing, refer File No. 
S7-06-04, and be submitted to the Securities and Exchange Commission, 
Records Management, Office of Filings and Information Services, 450 
Fifth Street, NW, Washington, DC 20549.

IX. Costs and Benefits of the Proposed Rule and Rule Amendments

A. Introduction

    Proposed rules 15c2-2 and 15c2-3 are intended to improve investor 
access to information about investments in mutual fund shares, UIT 
interests and 529 plan securities. The Commission is sensitive to the 
costs and benefits that result from its rules. In proposing new rules 
15c2-2 and 15c2-3 and the amendments to rule 10b-10 and Form N-1A, the 
Commission has strived to minimize compliance costs while promoting 
investor protection.
    In considering the potential costs and benefits of proposed rules 
15c2-2 and 15c2-3, the Commission has considered the transaction 
confirmation practices of brokers, dealers and municipal securities 
dealers that effect transactions in mutual fund shares, UIT interests 
and 529 plan securities. The Commission has also considered the 
practices of mutual funds in disclosing sales loads. Similarly, in 
considering the potential costs and benefits of the proposed amendments 
to rule 10b-10, the Commission has considered the transaction 
confirmation practices of broker-dealers, including those that effect 
transactions in callable preferred securities and callable debt 
securities. The amendments to rule 10b-10 are intended to provide 
investors with information that is helpful in making an informed 
decision when investing in callable preferred stock and redeemable debt 
securities. The amendments to Form N-1A are intended to provide 
investors with a better understanding of the costs of investing in a 
fund with a sales load, and of revenue sharing received by financial 
intermediaries.

B. Rule 15c2-2

    Proposed rule 15c2-2 responds to concerns that investors in mutual 
fund shares, UIT interests and 529 plan securities lack adequate 
information about certain distribution-related costs, as well as 
certain distribution arrangements, that create conflicts of interest 
for brokers, dealers, municipal securities dealers, and their 
associated persons. As noted above, those costs and other distribution 
arrangements have evolved substantially since 1977, when the Commission 
adopted its general confirmation rule, rule 10b-10.\195\
---------------------------------------------------------------------------

    \195\ See supra, note 5.
---------------------------------------------------------------------------

1. Benefits
    The Commission believes that permitting investors to more readily 
obtain information about distribution-related costs that have the 
potential to reduce their investment returns and to give investors a 
better understanding of some of the distribution-related arrangements 
that create conflicts of interest for brokers, dealers, municipal 
securities dealers, and their associated persons.\196\ The disclosure 
of information about these costs and arrangements can help investors 
make better informed investment decisions. Investors will also be in a 
better position to compare the costs of these investments, which we 
preliminarily believe will lead to a general increase in the 
transparency and efficiency of the market for mutual fund shares, UIT 
interests and 529 plan securities. Furthermore, as a result of the 
standardized disclosure that would be required under proposed rule 
15c2-2, the Commission believes that the aggregate amount of the 
distribution-related costs associated with mutual fund shares, UIT 
interests and 529 plan securities may well decline over time. These 
benefits, while qualitatively important, are necessarily difficult to 
quantify. Therefore, the Commission is unable to provide a quantitative 
estimate of the benefits of proposed rule 15c2-2.
---------------------------------------------------------------------------

    \196\ The Commission staff estimates that for the one-year 
period between September 2002 and August 2003, investors in open-end 
management investment company securities paid more than $6.7 billion 
in aggregate sales loads, consisting of approximately $4.9 billion 
in front-end loads and $1.8 billion in back-end loads.
---------------------------------------------------------------------------

2. Costs
    Proposed rule 15c2-2 would require brokers, dealers and municipal 
securities dealers to include additional information in confirmations 
that are currently sent to investors pursuant to rule 10b-10. The costs 
of adding this new information into confirmation disclosures may 
include both internal costs (for information technology specialists to 
re-program and update confirmation delivery systems, and for compliance 
officers and other staff to oversee and maintain confirmation delivery 
systems) and external costs (for printing and typesetting of the 
confirmation disclosure), all of which are included in the estimates of 
the Paperwork Reduction Act burden. For purposes of the Paperwork 
Reduction Act, the Commission staff has estimated that the one-time 
burden to brokers, dealers and municipal securities dealers, and their 
vendors, associated with reprogramming software and otherwise updating 
systems to permit the confirmation delivery systems required under 
proposed rule 15c2-2 would be 15 million hours. We estimate that this 
one-time burden would equal total internal costs of $750 million.\197\ 
The staff further estimates that there would be an additional one-time 
cost of $100 million for fees of service providers \198\, for a total 
cost of $850

[[Page 6472]]

million, or approximately $157,407 per broker, dealer or municipal 
securities dealer. These figures will vary depending on whether a firm 
must update its own proprietary confirmation delivery system or whether 
it uses vendor services, in which case the cost will likely vary 
depending on the number of transactions the firm executes on an annual 
basis.\199\
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    \197\ These figures are based on an estimated hourly wage rate 
of $50. The estimated wage figure is based on published compensation 
for compliance attorneys outside New York City ($39) and computer 
programmers ($34), and the estimate that attorneys and programmers 
would divide time equally on compliance with the proposed disclosure 
requirements, yielding a weighted wage rate of $36.50 ((39 x .50) + 
(34 x .50)) = $36.50). See Securities Industry Association, Report 
on Management & Professional Earnings in the Securities Industry 
2002 (Sept. 2002). This weighted wage rate was then adjusted upward 
by 35% for overhead, reflecting the costs of supervision, space, and 
administrative support, to obtain the total per hour internal cost 
of about $50 ((36.50 x 1.35) = $49.28).
    \198\ As noted above, while the staff is currently unable to 
determine the number of brokers, dealers and municipal securities 
dealers that utilize outsourced services, based on discussions with 
industry representatives the staff estimates that the cost per 
broker, dealer or municipal securities dealer would be approximately 
$18,500. Assuming that all of the approximately 5,400 brokers, 
dealers and municipal securities dealers subject to proposed rule 
15c2-2 use such out-sourced services, the total one-time external 
cost would be about $100 million. We note that this assumption may 
result in a significant overstatement of these external costs.
    \199\ As noted above, based on discussions with vendors, the 
Commission staff anticipates that vendors will allocate costs to 
brokers, dealers and municipal securities dealers roughly on the 
basis of the volume of transactions in the covered securities.
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    In addition, for purposes of the Paperwork Reduction Act, the 
Commission staff has estimated that the annual burden to brokers, 
dealers and municipal securities dealers for complying with the 
requirements of proposed rule 15c2-2, including generating and sending 
confirmations to investors, calculating revenue sharing and portfolio 
brokerage amounts and maintaining and further updating the confirmation 
delivery systems, would be 18.7 million hours annually. As noted above, 
confirmations for transactions in covered securities are currently 
required to be delivered pursuant to rule 10b-10 or MSRB rule G-15, as 
applicable. As a result, the burden for generating and sending 
confirmations would not be entirely new, but would reflect a shift of 
an annual burden of 16.7 million hours from rule 10b-10 to proposed 
rule 15c2-2. Nonetheless, the Commission staff estimates that the 
annual burden for complying with the requirements of proposed rule 
15c2-2 would equal total internal costs of $935 million annually, based 
on an estimated hourly wage of $50. The Commission staff further has 
estimated for purposes of the Paperwork Reduction Act that the external 
costs of complying with the requirements of proposed rule 15c2-2, 
including the printing and postal costs for generating and sending 
confirmations, would be $1.05 billion. The staff has estimated for 
purposes of the Paperwork Reduction Act that these external costs would 
reflect an increase of $160 million over the external cost of 
delivering the confirmations were they to be delivered pursuant to rule 
10b-10. The Commission estimates that the annual costs for complying 
with proposed rule 15c2-2 would be $1.99 billion, or approximately 
$367,593 per broker, dealer or municipal securities dealer. It is 
important to note, however, no new confirmations will be required to be 
sent to investors under proposed rule 15c2-2; rather new information 
would be required to be included in confirmations that would otherwise 
be sent.
    In addition to the foregoing costs, the Commission notes that other 
possible costs resulting from proposed rule 15c2-2 include the 
possibility that investors' ready access to information about the costs 
and conflicts associated with mutual fund shares, UIT interests and 529 
plan securities may lead to a net reduction in the amount invested in 
those types of securities. Investors may pursue other types of 
investments that do not have, or do not appear to have, such costs and 
conflicts. In addition, the disclosure of distribution-related costs 
may result in a restructuring of the way funds compensate sellers of 
their securities.
3. Request for Comments
    The Commission requests comment on the costs and benefits of 
proposed rule 15c2-2. Commenters are strongly encouraged to identify 
and supply any relevant data, analysis, and estimates concerning the 
costs and/or benefits of proposed rule 15c2-2, including any costs and 
benefits not described above. Commenters should address in particular 
the cost associated with adjusting operational systems to provide the 
disclosure required under proposed rule 15c2 and whether the proposed 
rule will generate the benefits described above. In addition, the 
Commission requests comment on whether a transitional period is 
necessary to make these adjustments. As always, commenters are 
specifically invited to share additional quantifiable costs and 
benefits that they believe may be imposed or generated by new rule 
15c2-2.

C. Proposed Rule 15c2-3

    Proposed rule 15c2-3 is intended to provide information to 
investors in mutual fund shares, UIT interests and 529 plan securities 
at the time they make their investment decisions.
1. Benefits
    Proposed rule 15c2-3 would require brokers, dealers and municipal 
securities dealers to provide point of sale disclosure to customers 
prior to effecting transactions in those securities i.e., at the time 
they make investment decisions. The Commission staff estimates that for 
the one-year period between September 2002 and August 2003, investors 
in open-end management investment company securities paid more than 
$6.7 billion in aggregate sales loads, consisting of approximately $4.9 
billion in front-end loads and $1.8 billion in back-end loads. In 
addition, funds and their affiliates paid about $13 billion in 
marketing and distribution payments pursuant to 12b-1 plans. Absent 
proposed rule 15c2-3, investors in mutual fund shares, UIT interests, 
and municipal fund securities used for education savings would, at the 
time they make their investment decision, lack ready transaction-
specific access to this information.
    The proposed rule specifically would enable investors to see 
targeted, transaction-specific, information about these distribution-
related costs, and about remuneration that lead to conflicts of 
interest for their brokers, dealers or municipal securities dealers. 
That would enable investors to better understand the costs and 
conflicts associated with each investment in those securities prior to 
entering into the transactions, which should promote better informed 
investment decision-making. In addition, as a result of the 
standardized disclosure that would be required under proposed rule 
15c2-3, the Commission believes that the aggregate amount of the 
distribution-related costs associated with mutual fund shares, UIT 
interests and 529 plan securities may well decline over time. 
Furthermore, the record-retention requirements of proposed rule 15c2-3 
would enable regulators to review the compliance of brokers, dealers 
and municipal securities dealers with the proposed rule as well as 
other legal obligations. These benefits, while qualitatively important, 
are necessarily difficult to quantify. Therefore, the Commission is 
unable to provide a quantitative estimate of the benefits of proposed 
rule 15c2-3.
2. Costs
    Proposed rule 15c2-3 would require brokers, dealers and municipal 
securities dealers to provide point of sale disclosure to customers 
prior to effecting transactions in mutual fund shares, UIT interests 
and 529 plan securities. The costs of delivering this information to 
investors at the point of sale may include both internal costs (for 
information technology specialists to re-program and update 
confirmation delivery systems to allow point of sale disclosure, and 
for compliance officers and other staff to oversee and maintain point 
of sale disclosure systems) and external costs (for services related to 
point of sale disclosure, such as call center services and out-sourced 
services

[[Page 6473]]

to assist firms with developing and implementing compliance 
procedures), all of which are included in the estimates of the 
Paperwork Reduction Act burden. For purposes of the Paperwork Reduction 
Act, the Commission staff has estimated that the one-time burden to 
brokers, dealers and municipal securities dealers, and their vendors, 
associated with reprogramming software and otherwise updating systems 
to permit the confirmation delivery systems to deliver point of sale 
disclosure required under proposed rule 15c2-3 would be 7 million hours 
and that the one-time external cost would be $100 million.\200\ We 
estimate that these one-time burdens and costs would equal total 
internal costs of $450 million \201\, or approximately $83,333 per 
broker, dealer or municipal securities dealer. These figures will vary 
depending on whether a firm must update its own proprietary 
confirmation delivery system or whether it uses vendor services, in 
which case the cost will likely vary depending on the number of 
transactions the firm executes on an annual basis.\202\
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    \200\ As noted above, while the staff is currently unable to 
determine the number of brokers, dealers and municipal securities 
dealers that utilize outsourced services, based on discussions with 
industry representatives the staff estimates that the cost per 
broker, dealer or municipal securities dealers would be 
approximately $18,500. Assuming that all of the approximately 5,400 
brokers, dealers and municipal securities dealers subject to 
proposed rule 15c2-3 use such out-sourced services, the total one-
time external cost would be about $100 million. We note that this 
assumption may result in a significant overstatement of these 
external costs.
    \201\ (7 million hours x $50 per hour = $350 million; $350 
million + $100 million for other external costs = $450 million.)
    \202\ As noted above, based on discussions with vendors, the 
Commission staff anticipates that vendors will allocate costs to 
brokers, dealers and municipal securities dealers based roughly on 
the volume of transactions that require confirmations to be 
generated and sent.
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    In addition, for purposes of the Paperwork Reduction Act, the 
Commission staff has estimated that the annual burden to brokers, 
dealers and municipal securities dealers for complying with the point 
of sale disclosure requirements of proposed rule 15c2-3, including 
delivering point of sale disclosure to investors and maintaining and 
further updating point of sale disclosure systems, would be 18.7 
million hours. The Commission staff estimates that this burden would 
equal total internal costs of $935 million annually, based on an 
estimated hourly wage of $50. The Commission staff further estimated 
for purposes of the Paperwork Reduction Act that the additional 
external costs of complying with the requirements of proposed rule 
15c2-3 would be $40 million per year.\203\ Therefore, the Commission 
estimates that the costs annual costs for complying with proposed rule 
15c2-3 would be $975 million, or approximately $180,556 per broker, 
dealer or municipal securities dealer.
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    \203\ Based on discussions with industry participants, the 
Commission staff estimates that the annual cost to brokers, dealers 
and municipal securities dealers for call center services and other 
service providers which would assist with development and 
implementation of procedures sufficient to demonstrate compliance 
with the delivery requirements of paragraphs (a) and (b) of proposed 
rule 15c2-3 would be approximately $7,400 per broker, dealer or 
municipal securities dealer, for a total of $40 million. (5,400 
brokers, dealers and municipal securities dealers x $7,400 = 
$39,996,000.)
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    In addition to the foregoing costs, as would be the case with 
proposed rule 15c2-2, the Commission notes that other possible costs 
resulting from proposed rule 15c2-3 include the possibility that 
investors' ready access to information about the costs and conflicts 
associated with mutual fund shares, UIT interests and 529 plan 
securities may lead to a net reduction in the amount invested in those 
types of securities. Investors may pursue other types of investments 
that do not have, or do not appear to have, such costs and conflicts. 
In addition, the disclosure of distribution-related costs may result in 
a restructuring of the way funds compensate sellers of their 
securities.
3. Request for Comments
    The Commission requests comment on the costs associated with 
requiring brokers, dealers and municipal securities dealers to disclose 
part or all of the information proposed to be required under rule 15c2-
3 prior to each customer purchase or sale of mutual fund shares, UIT 
interests and 529 plan securities. The Commission requests estimates of 
the costs and benefits described above, as well as any costs and 
benefits, not already defined, that may result from the adoption of 
these proposed amendments. The Commission specifically requests 
estimates of the one-time costs associated with reprogramming software 
to permit firms' systems to generate the information required under 
proposed rule 15c2-3 and estimates of the costs for complying with the 
record-keeping requirements of paragraph (d) of the proposed rule. In 
addition, the Commission requests comment on the benefits and costs of 
requiring brokers, dealers and municipal securities dealers to disclose 
all or parts of the information proposed to be required under new rule 
15c2-2 prior to each customer purchase or sale of mutual fund shares 
and municipal fund securities.

D. Amendments to Rule 10b-10

    The proposed amendments to rule 10b-10 would require a broker-
dealer effecting transactions in shares of preferred stock to inform 
customers in writing, at or before the completion of the transaction, 
if the issuer of the stock has reserved the right to repurchase--or 
call--the shares. The proposed amendments would also require a broker-
dealer effecting a transaction in a debt security on the basis of 
yield-to-call to disclose the first possible date on which the debt 
security may be called. Finally, the amendments would exclude 
transactions subject to rule 15c2-2 from the confirmation delivery 
requirements of rule 10b-10.
1. Benefits
    The proposed amendments to rule 10b-10 are intended to avoid 
customer confusion by alerting customers to any misunderstandings about 
the rights associated with preferred stock and callable debt, and to 
promote the timely resolution of problems. This leads to better 
informed decision-making by investors.
2. Costs
    For purposes of the Paperwork Reduction Act, the Commission staff 
has estimated that the annual burden to brokers, dealers and municipal 
securities dealers for complying with the confirmation delivery 
requirements of rule 10b-10, as modified by the proposed amendments, 
would be 42.3 million hours. The Commission staff estimates that this 
burden would equal total internal costs of $2.12 billion annually, 
based on an estimated hourly wage of $50. The Commission staff further 
estimated for purposes of the Paperwork Reduction Act that the 
additional external costs of complying with the requirements of 
proposed rule 10b-10, as amended, including postage costs to send 
confirmations, would be $2.26 billion.\204\ Therefore, the Commission 
estimates that the annual costs for complying with proposed rule 10b-
10, as amended, would be $4.38 billion, or approximately $811,111 per 
broker, dealer or municipal securities dealer. We note that this is a 
net reduction in the annual costs for complying with rule 10b-10, as 
transactions that would otherwise be required to be delivered pursuant 
to rule

[[Page 6474]]

to 10b-10 would be delivered pursuant to rule 15c2-2.
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    \204\ (2.54 billion confirmations at $0.89 per confirmation = 
$2.26 billion.)
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3. Request for Comments
    The Commission requests comment on the costs and benefits of the 
proposed amendments to rule 10b-10, including the costs and benefits 
described above. As always, commenters are specifically invited to 
share additional quantifiable costs and benefits that they believe may 
be imposed or generated by the proposed amendments to rule 10b-10. The 
Commission is particularly interested in learning more about current 
industry practice regarding the disclosure of call and redemption 
information in connection with transactions involving preferred stock 
and debt securities and whether broker-dealers already disclose such 
information as a matter of prudent business practice on confirmations 
or in some other way highlight such information to their customers. The 
Commission also solicits comment on what additional costs the required 
disclosure of such information would impose on those broker-dealers not 
currently providing such information to customers. The Commission 
requests that commenters provide supporting empirical data for any 
positions advanced.

E. Amendments to Form N-1A

    The proposed amendments to Form N-1A would require mutual funds to 
provide enhanced prospectus disclosure regarding sales loads and 
revenue sharing payments.
1. Benefits
    The proposed amendments to Form N-1A are expected to benefit mutual 
fund investors by providing them with a better understanding of sales 
loads and revenue sharing arrangements. Specifically, we believe that 
the proposed amendments relating to disclosure of sales loads as a 
percentage of net asset value rather than as a percentage of offering 
price may benefit investors by requiring that information regarding 
sales loads be provided in a manner that would better help investors to 
understand the true costs of investing in a load fund. Further, 
investors would benefit because disclosure of sales loads as a 
percentage of net asset value would be consistent with the disclosure 
in the confirmation that would be required by proposed rule 15c2-2. In 
addition, the proposed requirement that mutual funds disclose in the 
fund prospectus the fact that sales loads shown in the prospectus as a 
percentage of the net asset value or offering price may be higher or 
lower than the actual sales load that an investor would pay as a 
percentage of the net or gross amount invested may also assist 
investors in better understanding the sales load that they may pay. 
Finally, the proposed amendments relating to disclosure of revenue 
sharing payments may benefit investors by directing them to the 
disclosure regarding these arrangements that would be required in the 
confirmation and point of sale disclosure, and therefore may enhance 
investors' understanding of arrangements that may lead to conflicts of 
interest.
2. Costs
    The proposals would impose new requirements on mutual funds to 
provide certain new prospectus disclosures regarding sales loads and 
revenue sharing arrangements. We estimate that complying with the 
proposed new disclosures would entail a relatively limited burden. The 
proposals to require fee table disclosure of sales loads on the basis 
of net asset value rather than offering price would impose a minimal 
burden, because mutual funds are already required to determine and 
disclose sales loads on this basis elsewhere in the prospectus. The 
additional disclosure that would be required regarding the effects of 
rounding in calculating sales loads would be limited, and the 
additional calculations regarding the range of variation resulting from 
rounding that would be required should be straightforward for funds to 
compute. Similarly, the additional disclosure that would be required 
regarding revenue sharing arrangements would be brief, and would only 
be required if any person within the fund complex that includes the 
fund makes revenue sharing payments.
    The costs of adding these new prospectus disclosures may include 
both internal costs (for attorneys and other non-legal staff of a fund, 
such as computer programmers, to prepare and review the required 
disclosure) and external costs (for printing and typesetting of the 
disclosure). For purposes of the Paperwork Reduction Act, we have 
estimated that the proposed new disclosure requirements would add 1,968 
hours to the total annual burden of completing Form N-1A.\205\ We 
estimate that this additional burden would equal total internal costs 
of $98,400 annually, or approximately $14.01 per fund portfolio.\206\ 
We expect the external costs of providing the new prospectus disclosure 
regarding sales loads and revenue sharing arrangements will be limited, 
because we do not expect that the proposed disclosure would add 
significant length to the prospectus.
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    \205\ This estimate is based on the following calculation: (0.5 
hours per initial registration statement for sales load disclosure x 
483 portfolios x 36% of portfolios) + (0.5 hours per post-effective 
amendment for sales load disclosure x 6,542 portfolios x 36% of 
portfolios) + (0.1 hours per initial registration statement for 
revenue sharing disclosure x 483 portfolios) + (0.1 hours per post-
effective amendment for revenue sharing disclosure x 6,542 
portfolios) = 1,968 hours.
    \206\ These figures are based on a Commission estimate that 
initial registration statements for 483 portfolios and post-
effective amendments for 6,542 portfolios are filed annually that 
would be subject to the proposed disclosure requirements, and an 
estimated hourly wage rate of $50. The estimate of the number of 
filings is based on data derived from the Commission's EDGAR filing 
system. For a discussion of the estimated hourly wage rate, see 
supra note 197.
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3. Request for Comments
    The Commission requests comment on the costs and benefits of the 
proposed amendments to Form N-1A. Commenters are strongly encouraged to 
identify and supply any relevant data, analysis, and estimates 
concerning the costs and/or benefits of the proposed amendments to Form 
N-1A, including any costs and benefits not described above.

X. Consideration of Burden on Promotion of Efficiency, Competition, and 
Capital Formation

    Section 3(f) of the Exchange Act,\207\ Section 2(b) of the 
Securities Act of 1933,\208\ and Section 2(c) of the Investment Company 
Act \209\ require the Commission, whenever it is engaged in rulemaking 
and is required to consider or determine whether an action is necessary 
or appropriate in the public interest, to consider whether the action 
will promote efficiency, competition, and capital formation. In 
addition, section 23(a)(2) of the Exchange Act \210\ requires the 
Commission, in making rules under the Exchange Act, to consider the 
impact that any such rule would have on competition. Exchange Act 
Section 23(a)(2) prohibits the Commission from adopting any rule that 
would impose a burden on competition not necessary or appropriate in 
furtherance of the purposes of the Exchange Act.
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    \207\ 15 U.S.C. 78c(f).
    \208\ 15 U.S.C. 77b(b).
    \209\ 15 U.S.C. 80a-2(c).
    \210\ 15 U.S.C. 78w(a)(2).
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    Proposed rules 15c2-2 and 15c2-3 are intended to improve investor 
access to material information about investments and contemplated 
investments in mutual fund shares, UIT interests and 529 plan 
securities. Similarly, the

[[Page 6475]]

proposed amendments to rule 10b-10 are intended to eliminate 
duplicative requirements and to improve investor access to material 
information about investments in callable preferred stock and callable 
debt securities. The proposed amendments to Form N-1A are intended to 
provide investors in mutual funds with enhanced disclosure regarding 
sales loads, and to direct investors to disclosure regarding revenue 
sharing payments to an investor's financial intermediary.
    The Commission preliminarily believes that mandating certain 
disclosure for transactions in mutual fund shares, UIT interests and 
529 plan securities should serve as an efficient and cost-effective 
means for those entities to deliver information to consumers. The 
proposals should not hinder efficiency because firms should be able to 
use present confirmation delivery systems, after making appropriate 
adjustments, rather than having to build new information delivery 
systems. In addition, the Commission preliminarily believes that the 
new rules and the proposed amendments would improve investor confidence 
and, therefore, would promote capital formation. With respect to the 
proposed requirements for enhanced disclosure by mutual funds, although 
we believe that the proposed amendments would benefit investors, the 
magnitude of the effect of the proposed amendments on efficiency, 
competition, and capital formation, and the extent to which they would 
be offset by the costs of the proposals, are difficult to quantify.
    The Commission also preliminarily believes that the proposals would 
enhance competition because investors would have access to information 
that would allow them to better understand and differentiate among 
various investments. Because investors would be in a better position to 
better compare the costs of these investments, market participants 
would be encouraged to compete on price, thereby increasing market 
efficiency.
     The Commission requests comment on whether the 
proposed amendments are expected to promote efficiency, competition, 
and capital formation.

XI. Consideration of Impact on the Economy

    For purposes of the Small Business Regulatory Enforcement Fairness 
Act of 1996, or ``SBREFA,'' \211\ we must advise the Office of 
Management and Budget as to whether the proposed regulation and 
disclosure requirements constitute ``major'' rules. Under SBREFA, a 
rule is considered ``major'' where, if adopted, it results or is likely 
to result in:
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    \211\ Pub. L. 104-121, Title II, 110 Stat. 857 (1996) (codified 
in various sections of 5 U.S.C., 15 U.S.C. and as a note to 5 U.S.C. 
601).
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     An annual effect on the economy of $100 million 
or more (either in the form of an increase or a decrease);
     A major increase in costs or prices for 
consumers or individual industries; or
     Significant adverse effect on competition, 
investment or innovation.
    If a rule is ``major,'' its effectiveness will generally be delayed 
for 60 days pending Congressional review. We request comment on the 
potential impact of the proposed regulation and disclosure requirements 
on the economy on an annual basis. Commenters are requested to provide 
empirical data and other factual support for their view to the extent 
possible.

XII. Initial Regulatory Flexibility Act Analysis

    Congress enacted the Regulatory Flexibility Act, 5 U.S.C. 601 et 
seq, to address concerns related to the effects of agency rules on 
small entities. The Commission is sensitive to the impact its rules may 
impose on small entities. This Initial Regulatory Flexibility Analysis 
has been prepared in accordance with 5 U.S.C. 603, and relates to the 
Commission's proposed rule 15c2-2, 15c2-3 and amendments to rule 10b-10 
and Form N-1A.

A. Reasons for, and Objectives of, Proposed Rules 15c2-2 and 15c2-3 and 
Proposed Amendments to Rule 10b-10 and Form N-1A

    The Commission is proposing rules 15c2-2 and 15c3-3 to address the 
concerns that investors in mutual fund shares, UIT interests and 529 
plan securities be provided with adequate access to information 
regarding the costs of their investments, as well as the conflicts of 
interest their broker-dealers face. As noted above, those costs, and 
related distribution arrangements, have evolved substantially since 
1977, when the Commission adopted its general confirmation rule--rule 
10b-10.\212\ We believe that disclosure of information about those 
costs and the arrangements that lead to conflicts of interest can help 
investors make better informed investment decisions.
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    \212\ See supra note 5.
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    Similarly, the Commission is proposing amendments to rule 10b-10 to 
eliminate duplicative requirements and to address concerns that certain 
material information has not been included in confirmations of 
transactions of callable preferred stock and redeemable debt. As 
described in detail above, the Commission proposes to amend rule 10b-10 
to require broker-dealers to disclose whenever preferred stock could be 
called by the issuer. Rule 10b-10 requires similar disclosure for 
transactions in callable debt securities. The Commission further 
proposes to amend rule 10b-10 to require disclosure of the date of 
first call for transactions in callable debt securities. Finally, the 
Commission is proposing amendments to Form N-1A in order to provide 
investors with a better understanding of the costs of investing in a 
fund with a sales load, and of revenue sharing payments to an 
investor's financial intermediary.

B. Legal Basis

    The Commission is proposing new rule 15c2-2, new rule 15c2-3 and 
amendments to rule 10b-10 under the Exchange Act pursuant to the 
authority conferred by the Exchange Act, including Sections 10, 11, 15, 
17, 23(a), and 36 [15 U.S.C. 78j, 78k, 78o, 78q, 78w(a), and 78mm] and 
Sections 12(b) and 38 of the Investment Company Act [15 U.S.C. 80a-
12(b) and 80a-37]. The Commission is proposing amendments to Form N-1A 
pursuant to authority set forth in Sections 5, 6, 7, 10, and 19(a) of 
the Securities Act [15 U.S.C. 77e, 77f, 77g, 77j, and 77s(a)], and 
Sections 8, 12(b), 24(a), 30, and 38 of the Investment Company Act [15 
U.S.C. 80a-8, 80a-12(b), 80a-24(a), 80a-29, and 80a-37].

C. Small Entities Subject to Proposed Rules 15c2-2 and 15c2-3 and 
Proposed Amendments to Rule 10b-10 and Form N-1A

    Proposed rules 15c2-2 and 15c2-3 would apply to all brokers, 
dealers and municipal securities dealers, regardless of size, that 
effect transactions in mutual fund shares, UIT interests and 529 plan 
securities. The proposed amendments to rule 10b-10 would exclude from 
the general disclosure requirements of rule 10b-10 transactions in 
those securities. The proposed amendments to rule 10b-10 would also 
require all broker-dealers, regardless of size, to provide confirmation 
disclosure about the callable nature of preferred stock and, in the 
case of debt securities that are effected on the basis of yield-to-
call, the date upon which the debt securities may first be called.
    For purposes of the Regulatory Flexibility Act, a broker-dealer is 
a small business if it had total capital (net worth plus subordinated 
liabilities) of less than $500,000 on the date in the prior fiscal year 
as of which its audited

[[Page 6476]]

financial statements were prepared pursuant to rule 17a-5(d) of the 
Exchange Act or, if not required to file such statements, a broker or 
dealer that had total capital (net worth plus subordinated liabilities) 
of less than $500,000 on the last business day of the preceding fiscal 
year (or in the time that it has been in business, if shorter) and if 
it is not an affiliate of an entity that is not a small business.\213\ 
The Commission staff estimates that approximately 885 brokers, dealers 
and municipal securities dealers meet this definition.\214\
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    \213\ 17 CFR 240.0-10.
    \214\ This estimate is based on information provided by 
registered broker-dealers to the Commission in FOCUS Reports.
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    The proposed amendments to Form N-1A would apply to all mutual 
funds. For purposes of the Regulatory Flexibility Act, an investment 
company is a small entity if it, together with other investment 
companies in the same group of related investment companies, has net 
assets of $50 million or less as of the end of its most recent fiscal 
year.\215\ Approximately 145 investment companies registered on Form N-
1A meet this definition.\216\
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    \215\ 17 CFR 270.0-10.
    \216\ This estimate is based on analysis by the Division of 
Investment Management staff of information from databases compiled 
by third-party information providers, including Morningstar, Inc., 
and Lipper.
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D. Reporting, Recordkeeping and Other Compliance Requirements

    As described above, proposed rule 15c2-2 and the amendments to rule 
10b-10 would require additional information to be provided to investors 
in transaction confirmations. Proposed rule 15c2-3 would require 
information to be delivered to customers at the time they make 
investment decisions in connection with transactions involving mutual 
fund shares, UIT interests and 529 plan securities.
    For purposes of the Paperwork Reduction Act, the Commission staff 
has estimated that the proposed disclosure requirements under proposed 
rule 15c2-2 would result in a one-time burden of 15 million hours and 
an annual burden of 18.7 million hours \217\ to brokers, dealers and 
municipal securities dealers, and their vendors, in connection with 
delivering confirmations in for transactions in mutual fund shares and 
UIT interests. The Commission staff estimates that the one-time burden 
would result in total internal costs of $850 million, or approximately 
$157,407, on average, per broker, dealer and municipal securities 
dealer, and that the annual burden would result in total internal costs 
of $1.99 billion,\218\ or approximately $367,593, on average, per 
broker, dealer and municipal securities dealer. As discussed above, as 
a general matter medium-sized and smaller firms, and also some larger 
firms, use third-party service providers, or vendors, to generate the 
data necessary to send confirmations. They may also use vendors to 
actually send confirmations to investors. Therefore, the firms' vendors 
would be required to reprogram their software and update their systems 
to generate the data that would allow their clients to comply with 
proposed rule 15c2-2. The staff understands from discussions with 
vendors that the allocation of costs would coincide roughly with the 
volume of the client's transactions, so that a broker, dealer or 
municipal securities dealer that executes fewer transactions involving 
covered securities would be allocated less of its vendor's costs than a 
broker, dealer or municipal securities dealer that executes more 
transactions.
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    \217\ It is important to note, however, that confirmations for 
transactions in covered securities are currently required to be 
delivered pursuant to rule 10b-10 or MSRB rule G-15, as applicable. 
As a result, the burden for generating and sending confirmations 
would not be entirely new, but would reflect a shift of a burden of 
16.7 million hours from rule 10b-10 to proposed rule 15c2-2.
    \218\ The staff has estimated for purposes of the Paperwork 
Reduction Act that these external costs would reflect an increase of 
$160 million over the external cost of delivering the confirmations 
were they to be delivered pursuant to rule 10b-10.
---------------------------------------------------------------------------

    The Commission staff has further estimated that the disclosure 
requirements of rule 15c2-3 would result in a one-time burden of 7 
million hours and an annual burden of 18.7 million hours to brokers, 
dealers and municipal securities dealers, and their vendors, in 
connection with delivering point of sale disclosure for transactions in 
mutual fund shares and UIT interests. The Commission staff estimates 
that the one-time burden would result in total internal costs of $450 
million, or approximately $83,333, on average, per broker, dealer and 
municipal securities dealer, and that the annual burden would result in 
total internal costs of $935 million, or approximately $173,148, on 
average, per broker, dealer and municipal securities dealer.
    In addition, the Commission staff has further estimated that the 
disclosure requirements of rule 10b-10, including the proposed 
amendments, would result in an annual burden of 42.3 million hours to 
brokers, dealers and municipal securities dealers, and their vendors, 
in connection with delivering confirmations in connection with 
securities transactions. The Commission staff estimates that this 
burden would result in total internal costs of $1.91 billion annually, 
or approximately $773,000, on average, per affected entity. We note 
that this is a net reduction in the annual costs for complying with 
rule 10b-10, as transactions that would otherwise be required to be 
delivered pursuant to rule to 10b-10 would be delivered pursuant to 
rule 15c2-2.
    Finally, the Commission staff has further estimated that the 
disclosure requirements of the proposed amendments to Form N-1A would 
increase the hour burden of prospectus disclosure by 1,968 hours. The 
Commission staff has estimated that this additional burden would 
increase total internal costs of filing an initial registration 
statement or post-effective amendment by $98,400 annually, or $14.01 
per affected mutual fund portfolio.
     The Commission requests comment on the effect 
proposed new rules 15c2-2 and 15c2-3 and the proposed amendments to 
rule 10b-10 and Form N-1A would have on small entities. The Commission 
specifically requests data and analysis of the costs to implement and 
comply with the proposals, including expenditures of time and money 
for: any employee training; attorney, computer programmer or other 
professional time; preparing and processing relevant materials; and 
recordkeeping.

E. Duplicative, Overlapping or Conflicting Federal Rules

    There are currently no rules that conflict with proposed new rules 
15c2-2 and 15c2-3 or the amendments to rule 10b-10. The Commission 
notes, however, that MSRB rule G-15 is a separate confirmation rule 
that governs member transactions in municipal securities, including 
municipal fund securities. Furthermore, NASD Rule 2230 requires broker-
dealers that are members of NASD to deliver a written notification 
containing certain information, including whether the member is acting 
as a broker for the customer or is working as a dealer for its own 
account. Brokers and dealers typically deliver this information in 
confirmations that fulfill the requirements of rule 10b-10. The 
Commission staff believes that, where required, brokers and dealers 
would incorporate such information into confirmations delivered 
pursuant to rule 15c2-2.
    In addition, the Commission notes that information required for the 
point of sale disclosures pursuant to proposed rule 15c2-3 would also 
be required in confirmations delivered pursuant to

[[Page 6477]]

proposed rule 15c2-2. The Commission believes that this overlap is 
appropriate because the information to be provided to investors at 
point of sale is helpful for the customer when making his or her 
investment decision. Confirmation disclosure of this information would 
serve to alert the customer to any misunderstandings about the rights 
associated with his or her investment in a security, promote the timely 
resolution of problems, and better enable the investor to evaluate 
potential future transactions involving that security.
    Finally, there are no rules that duplicate, overlap, or conflict 
with the proposed amendments to Form N-1A.

F. Significant Alternatives

    The Regulatory Flexibility Act directs us to consider significant 
alternatives that would accomplish our stated objective, while 
minimizing any significant adverse impact on small issuers. In 
connection with the proposed amendments, the Commission considered the 
following alternatives: (i) The establishment of differing compliance 
or reporting requirements or timetables that take into account the 
resources available to small entities; (ii) the clarification, 
consolidation, or simplification of compliance and reporting 
requirements under the proposed amendments for small entities; (iii) 
the use of performance rather than design standards; and (iv) an 
exemption from coverage of the proposed amendments, or any part 
thereof, for small entities.
    The Commission believes at the present time that special compliance 
or reporting requirements for small entities, or an exemption from 
coverage for small entities, would not be appropriate or consistent 
with investor protection. Different disclosure requirements for 
brokers, dealers, or municipal securities dealers that are small 
entities may create the risk that the investors who effect securities 
transactions through such small entities would not be as able as 
investors who effect transactions through larger such entities to 
assess information, including the distribution-related costs or 
conflicts of interest. Moreover, different disclosure requirements 
could create investor confusion if it creates the impression that small 
brokers, dealers or municipal securities dealers do not engage in the 
arrangements that are addressed by the proposals, while large such 
entities do. We believe, therefore, that it is important for the 
disclosure that would be required by the proposed amendments to be 
provided to shareholders by all brokers, dealers and municipal 
securities dealers, not just those that are not considered small 
entities.
    We have endeavored through proposed new rules 15c2-2 and 15c2-3 and 
the amendments to rule 10b-10 and Form N-1A to minimize the regulatory 
burden on all brokers, dealers and municipal securities dealers, 
including small entities, while meeting our regulatory objectives. 
Small entities should benefit from the Commission's reasoned approach 
to the proposed new rules and proposed amendments to the same degree as 
other brokers, dealers and municipal securities dealers. Further 
consolidation or simplification of the proposals for brokers, dealers 
and municipal securities dealers that are small entities would be 
inconsistent with the Commission's goals for fostering investor 
protection. Finally, we do not consider using performance rather than 
design standards to be consistent with our statutory mandate of 
investor protection in the present context.

G. Solicitation of Comments

    The Commission encourages the submission of written comments with 
respect to any aspect of this analysis. Comment is specifically 
requested on the number of small entities that would be affected by 
proposed new rules 15c2-2 and 15c2-3 and the proposed amendments to 
rule 10b-10 and Form N-1A and the likely impact of the proposals on 
small entities. Commenters are asked to describe the nature of any 
impact and provide empirical data supporting the extent of the impact. 
These comments will be considered in the preparation of the Final 
Regulatory Flexibility Analysis, if the proposals are adopted, and will 
be placed in the same public file as comments on the proposals 
themselves. Commenters should provide empirical data to support their 
views. Comments should be submitted in triplicate to Jonathan G. Katz, 
Secretary, Securities and Exchange Commission, 450 Fifth Street, NW., 
Washington, DC 20549-0609. Comments also may be submitted 
electronically at the following e-mail address: [email protected]. 
All comment letters should refer to File No. S7-06-04; this file number 
should be included on the subject line if E-mail is used. Comment 
letters will be available for inspection and copying in the 
Commission's Public Reference Room at the same address. Electronically 
submitted comment letters will be posted on the Commission's Internet 
Web site (http://www.sec.gov).\219\
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    \219\ We do not edit personal identifying information, such as 
names or electronic mail addresses, from electronic submissions. You 
should submit only information that you wish to make available 
publicly.
---------------------------------------------------------------------------

XIII. Statutory Authority

    The Commission is proposing new rule 15c2-2, new rule 15c2-3 and 
amendments to rule 10b-10 under the Exchange Act pursuant to the 
authority conferred by the Exchange Act, including Sections 10, 11, 15, 
17, 23(a), and 36 [15 U.S.C. 78j, 78k, 78o, 78q, 78w(a), and 78mm] and 
Sections 12(b) and 38 of the Investment Company Act [15 U.S.C. 80a-
12(b) and 80a-37]. The Commission is proposing amendments to Form N-1A 
pursuant to authority set forth in Sections 5, 6, 7, 10, and 19(a) of 
the Securities Act [15 U.S.C. 77e, 77f, 77g, 77j, and 77s(a)], and 
Sections 8, 12(b), 24(a), 30, and 38 of the Investment Company Act [15 
U.S.C. 80a-8, 80a-12(b), 80a-24(a), 80a-29, and 80a-37].

Text of Proposed Rules

List of Subjects

17 CFR Part 239

    Reporting and recordkeeping requirements, Securities.

17 CFR Part 240

    Broker-dealers, Reporting and recordkeeping requirements, 
Securities.

17 CFR Part 274

    Investment companies, Reporting and recordkeeping requirements, 
Securities.

    For the reasons set forth in the preamble, Title 17, Chapter II of 
the Code of Federal Regulations is proposed to be amended as follows:

PART 239--FORMS PRESCRIBED UNDER THE SECURITIES ACT OF 1933

    1. The authority citation for part 239 continues to read in part as 
follows:

    Authority: 15 U.S.C. 77f, 77g, 77h, 77j, 77s, 77z-2, 77sss, 78c, 
78l, 78m, 78n, 78o(d), 78u-5, 78w(a), 78ll(d), 79e, 79f, 79g, 79j, 
79l, 79m, 79n, 79q, 79t, 80a-8, 80a-24, 80a-26, 80a-29, 80a-30, and 
80a-37, unless otherwise noted.

* * * * *

PART 240--GENERAL RULES AND REGULATIONS, SECURITIES EXCHANGE ACT OF 
1934

    2. The authority citation for Part 240 continues to read, in part, 
as follows:

    Authority: 15 U.S.C. 77c, 77d, 77g, 77j, 77s, 77z-2, 77z-3, 
77eee, 77ggg, 77nnn, 77sss, 77ttt, 78c, 78d, 78e, 78f, 78g, 78i, 
78j,

[[Page 6478]]

78j-l, 78k, 78k-1, 78l, 78m, 78n, 78o, 78p, 78q, 78s, 78u-5, 78w, 
78x, 78ll, 78mm, 79q, 79t, 80a-20, 80a-23, 80a-29, 80a-37, 80b-3, 
80b-4, 80b-11, and 7201 et seq.; and 18 U.S.C. 1350, unless 
otherwise noted.
* * * * *
    3. Section 240.10b-10 is amended by:
    a. Revising the Preliminary Note;
    b. Revising the introductory text of paragraph (a) and paragraphs 
(a)(4), (a)(6), (a)(9) and (b);
    c. Removing paragraph (d)(6);
    d. Redesignating paragraphs (d)(7), (d)(8), (d)(9) and (d)(10) as 
paragraphs (d)(6), (d)(7), (d)(8) and (d)(9);
    e. Revising paragraph (e); and
    f. Adding paragraph (g).
    The additions and revisions read as follows:


Sec. 240.10b-10  Confirmation of transactions.

    Preliminary Note. This section requires broker-dealers to 
disclose specified information in writing to customers at or before 
completion of a transaction. Section 240.15c2-2 sets forth the 
confirmation requirements that apply to broker-dealer transactions 
in certain investment company securities or municipal fund 
securities. The requirements under this section that particular 
information be disclosed at or before completion of a transaction 
are not determinative of, and do not exhaust, a broker's, dealer's 
or municipal securities dealer's obligations under the general 
antifraud provisions of the federal securities laws, or under any 
other legal requirements, to disclose additional information to a 
customer at the time of the customer's investment decision.

    (a) Disclosure requirement. It shall be unlawful for any broker or 
dealer to effect for or with an account of a customer any transaction 
in, or to induce the purchase or sale by such customer of, any security 
(other than securities exempted by paragraph (g) of this section) 
unless such broker or dealer, at or before completion of such 
transaction, gives or sends to such customer written notification 
disclosing:
* * * * *
    (4) (i) In the case of any transaction in a debt security subject 
to redemption before maturity, a statement to the effect that such debt 
security may be redeemed in whole or in part before maturity, that such 
a redemption could affect the yield represented and the fact that 
additional information is available upon request;
    (ii) In the case of any transaction in preferred stock that is 
subject to repurchase by the issuer at a specified price, a statement 
to the effect that such preferred stock may be repurchased at the 
election of the issuer at any time; and
* * * * *
    (6) In the case of a transaction in a debt security effected on the 
basis of yield:
    (i) The yield at which the transaction was effected, including the 
percentage amount and its characterization (e.g., current yield, yield 
to maturity, or yield to call) and if effected at yield to call, the 
type of call, the call date and, if different, the first date upon 
which the security may be called, and call price; and
    (ii) The dollar price calculated from the yield at which the 
transaction was effected; and
    (iii) If effected on a basis other than yield to maturity and the 
yield to maturity is lower than the represented yield, the yield to 
maturity as well as the represented yield; provided, however, that this 
paragraph (a)(6)(iii) shall not apply to a transaction in a debt 
security that either:
    (A) Has a maturity date that may be extended by the issuer thereof, 
with a variable interest rate payable thereon; or
    (B) Is an asset-backed security, that represents an interest in or 
is secured by a pool of receivables or other financial assets that are 
subject continuously to prepayment; and
* * * * *
    (9) That the broker or dealer is not a member of the Securities 
Investor Protection Corporation (SIPC), or that the broker or dealer 
clearing or carrying the customer account is not a member of SIPC, if 
such is the case.
    (b) Alternative periodic reporting. A broker or dealer may effect 
transactions for or with the account of a customer without giving or 
sending to such customer the written notification described in 
paragraph (a) of this section if:
    (1) Such transactions are effected pursuant to a periodic plan; and
    (2) Such broker or dealer gives or sends to such customer within 
five business days after the end of each quarterly period, a written 
statement disclosing each purchase or redemption, effected for or with, 
and each dividend or distribution credited to or reinvested for, the 
account of such customer during the month; the date of such 
transaction; the identity, number, and price of any securities 
purchased or redeemed by such customer in each such transaction; the 
total number of shares of such securities in such customer's account; 
any remuneration received or to be received by the broker or dealer in 
connection therewith; and that any other information required by 
paragraph (a) of this section will be furnished upon written request; 
provided, however, that the written statement may be delivered to some 
other person designated by the customer for distribution to the 
customer; and
    (3) Such customer is provided with prior notification in writing 
disclosing the intention to send the written information referred to in 
paragraph (b)(1) of this section in lieu of an immediate confirmation.
* * * * *
    (e) Security futures products. The provisions of paragraphs (a) and 
(b) of this section shall not apply to a broker or dealer registered 
pursuant to section 15(b)(11)(A) of the Act (15 U.S.C. 78o(b)(11)(A)) 
to the extent that it effects transactions for customers in security 
futures products in a futures account (as that term is defined in Sec. 
240.15c3-3(a)(15)) and a broker or dealer registered pursuant to 
section 15(b)(1) of the Act (15 U.S.C. 78o(b)(1)) that is also a 
futures commission merchant registered pursuant to section 4f(a)(1) of 
the Commodity Exchange Act (7 U.S.C. 6f(a)(1)), to the extent that it 
effects transactions for customers in security futures products in a 
futures account (as that term is defined in Sec. 240.15c3-3(a)(15)); 
provided that the broker or dealer that effects any transaction for a 
customer in security futures products in a futures account gives or 
sends to the customer no later than the next business day after 
execution of any futures securities product transaction, written 
notification disclosing:
    (1) The date the transaction was executed, the identity of the 
single security or narrow-based security index underlying the contract 
for the security futures product, the number of contracts of such 
security futures product purchased or sold, the price, and the delivery 
month;
    (2) The source and amount of any remuneration received or to be 
received by the broker or dealer in connection with the transaction, 
including, but not limited to, markups, commissions, costs, fees, and 
other charges incurred in connection with the transaction; provided 
that if no remuneration is to be paid for an initiating transaction 
until the occurrence of the corresponding liquidating transaction, that 
the broker or dealer shall disclose the amount of remuneration only on 
the confirmation for the liquidating transaction;
    (3) The fact that information about the time of the execution of 
the transaction, the identity of the other party to the contract, and 
whether the broker or dealer is acting as agent for such customer, as 
agent for some other person, as agent for both such customer and some 
other person, or as principal for its own account, and if the broker or

[[Page 6479]]

dealer is acting as principal, whether it is engaging in a block 
transaction or an exchange of security futures products for physical 
securities, will be available upon written request of the customer; and
    (4) Whether payment for order flow is received by the broker or 
dealer for such transactions, the amount of this payment and the fact 
that the source and nature of the compensation received in connection 
with the particular transaction will be furnished upon written request 
of the customer; provided that brokers or dealers that do not receive 
payment for order flow have no disclosure obligation under this 
paragraph.
* * * * *
    (g) This section does not apply to transactions in any of the 
following securities:
    (1) U.S. Savings Bonds;
    (2) Municipal securities; and
    (3) Any other security that is a ``covered security'' as provided 
in Sec. 240.15c2-2.
    4. Section 240.15c2-2 is added to read as follows:


Sec. 240.15c2-2  Confirmation of transactions in open-end management 
investment company shares, unit investment trust interests, and 
municipal fund securities used for education savings.

    Preliminary Note. This section requires brokers (including 
municipal securities brokers), dealers and municipal securities 
dealers to disclose specified information in writing to customers at 
or before completion of a transaction in certain investment company 
securities or municipal fund securities, while Sec. 240.10b-10 sets 
forth the confirmation requirements that apply to other 
transactions. The requirements under this section that particular 
information be disclosed at or before completion of a transaction 
are not determinative of, and do not exhaust, a broker's, dealer's 
or municipal securities dealer's obligations under the general 
antifraud provisions of the federal securities laws, or under any 
other legal requirements, to disclose additional information to a 
customer at the time of the customer's investment decision.

    (a) Disclosure requirement. It shall be unlawful for any broker, 
dealer or municipal securities dealer to effect for or with an account 
of a customer any transaction in, or to induce the purchase or sale by 
such customer of, any covered security unless the broker, dealer or 
municipal securities dealer complies with the requirements set forth in 
paragraphs (b), (c), (d) and (e) of this section. All disclosures made 
pursuant to paragraphs (b) and (c) of this section shall be made in a 
manner consistent with Schedule 15C (Sec. 240.15c-100).
    (b) General disclosure requirement. At or before the completion of 
a transaction in any covered security, the broker, dealer or municipal 
securities dealer shall give or send to such customer written 
notification disclosing:
    (1) The date of the transaction;
    (2) The issuer and class of the covered security;
    (3) The net asset value of the shares or units and, if different, 
the public offering price of the shares or units;
    (4) The number of shares or units of the security purchased or sold 
by the customer, the total dollar amount paid or received in the 
transaction and the net amount of the investment bought or sold in the 
transaction (equal to the number of shares or units bought or sold 
multiplied by the net asset value of those shares or units);
    (5) Any commission, markup or other remuneration received or to be 
received by the broker, dealer or municipal securities dealer from the 
customer in connection with the transaction;
    (6) In the case of transactions in which a customer sells shares or 
units of a covered security, the amount of any deferred sales load that 
the customer has incurred or will incur in connection with the 
transaction; and
    (7) That the broker, dealer or municipal securities dealer (other 
than a municipal securities dealer that is a bank) is not a member of 
the Securities Investor Protection Corporation (SIPC), or that the 
broker, dealer or municipal securities dealer clearing or carrying the 
customer account is not a member of SIPC, if such is the case; 
provided, however, that this paragraph (b)(7) shall not apply in the 
case of a transaction in shares or units of a covered security if:
    (i) The customer sends funds or securities directly to, or receives 
funds or securities directly from, the issuer of the covered security, 
its transfer agent, its custodian, or other designated agent, and such 
person is not an associated person of the broker or dealer required by 
paragraph (a) of this section to send written notification to the 
customer; and
    (ii) The written notification required by paragraph (a) of this 
section is sent on behalf of the broker or dealer to the customer by a 
person described in paragraph (b)(7)(i) of this section.
    (c) Additional disclosure requirement for purchases. At or before 
the completion of any transaction in which a customer purchases a 
covered security, the broker, dealer or municipal securities dealer 
also shall give or send to such customer written notification that 
discloses the following information:
    (1) The amount of any sales load that the customer has incurred or 
will incur at the time of purchase, expressed in dollars and as a 
percentage of the net amount invested, together with:
    (i) If the customer will incur a sales load at the time of sale, 
information about the availability of breakpoints as reflected in 
Schedule 15C (Sec. 240.15c-100). with regard to the covered security, 
including a statement of the applicable sales load as set forth in the 
prospectus, reflecting any breakpoint discount and the value of the 
securities position (based on net asset value, public offering price, 
or other applicable value) to which the sales load is applied; or
    (ii) If the customer will not incur a sales load at the time of 
sale, information about the availability of breakpoints as reflected in 
Schedule 15C (Sec. 240.15c-100) with regard to a different class of the 
covered security, including a statement of the sales load that the 
customer would have incurred at the time of sale if the transaction had 
been in that different class of the covered security.
    (2) An explanation of the potential amount of any deferred sales 
load that the customer may incur in connection with any subsequent sale 
of the shares or units purchased in the transaction (other than 
deferred sales loads of no more than one percent that expire no later 
than one year after purchase, when no other sales load would be 
incurred on that transaction), including, for each year that the 
deferred sales load may be in effect:
    (i) The maximum amount of the deferred sales load that would be 
associated with the sale of those shares or units, expressed in 
dollars; and
    (ii) The maximum amount of the deferred sales load that would be 
associated with the sale of those shares or units, expressed as a 
percentage of the net asset value at the time of purchase or at the 
time of sale, as applicable.
    (3) An explanation of any asset-based sales charges and asset-based 
service fees incurred, or to be incurred, by the issuer of the covered 
security in connection with the customer's purchase of the shares or 
units. Based on the issuer's policies at the time of the purchase, this 
explanation shall state:
    (i) The annual amount of asset-based sales charges and asset-based 
service fees incurred in connection with the shares or units purchased, 
as a percentage of net asset value; and
    (ii) The total annual dollar amount of asset-based sales charges 
and asset-based service fees incurred in connection with the shares or 
units purchased in the transaction, if the net asset value does not 
change.
    (4) The amount of any dealer concession that the broker, dealer or 
municipal securities dealer will earn in

[[Page 6480]]

connection with the transaction, expressed in dollars and as a 
percentage of the net amount invested.
    (5)(i) The amount directly or indirectly earned from the fund 
complex by:
    (A) The broker, dealer or municipal securities dealer; and
    (B) Any associated person that is a broker, dealer or municipal 
securities dealer; and
    (C) If the covered security is not a proprietary covered security, 
any other associated person of the broker, dealer or municipal 
securities dealer.
    (ii) The broker, dealer or municipal securities dealer may disclose 
the information required to be disclosed pursuant to paragraphs 
(c)(5)(i)(A), (B) and (C) of this section as a percentage of the total 
cumulative net asset value of the covered securities issued by the fund 
complex that are sold by such broker, dealer or municipal securities 
dealer over the four most recent calendar quarters (or over the four 
calendar quarters preceding the most recent calendar quarter if the 
date of the transaction is less than 30 days after the end of the most 
recent calendar quarter), in connection with the following types of 
arrangements:
    (A) Revenue sharing payments from persons within the fund complex; 
or
    (B) Commissions associated with portfolio securities transactions, 
including markups or other remuneration associated with transactions 
effected on a riskless principal basis, on behalf of the issuer of the 
covered security, or issuers of other covered securities within the 
fund complex.
    (iii) For each of the types of arrangements described in paragraph 
(c)(5)(ii) of this section, the broker, dealer or municipal securities 
dealer shall disclose the percentage required pursuant to that 
paragraph and the total dollar amount of remuneration it may expect to 
receive in connection with the transaction, calculated by multiplying 
that percentage by the net amount invested in the transaction. In 
addition, to the extent that the broker, dealer or municipal securities 
dealer has entered into a revenue sharing arrangement or understanding 
that would result in a specific amount of remuneration in connection 
with purchases of the covered security, the broker, dealer or municipal 
securities dealer shall also disclose that remuneration as a percentage 
of the net amount invested and the total dollar amount of remuneration 
it may expect to receive in connection with the transaction.
    (6) If applicable, that the broker, dealer or municipal securities 
dealer engages in the following types of differential compensation 
practices related to the covered security purchased:
    (i) Payment of differential compensation to any associated persons 
in connection with the sale of a class of covered securities that 
charges a deferred sales load (other than deferred sales loads of no 
more than one percent that expire no later than one year after 
purchase, when no other sales load would be incurred on that 
transaction), if the customer purchased a covered security that charges 
that type of sales load; and
    (ii) Payment of differential compensation to any associated persons 
in connection with the sale of a proprietary covered security, if the 
customer purchased a proprietary covered security; and
    (iii) For each of the types of differential compensation described 
in paragraphs (c)(6)(i) and (ii) of this section, the broker, dealer or 
municipal securities dealer shall disclose whether it provides 
differential compensation by means of a series of three checkboxes, 
associated with a yes, no or ``not applicable'' response.
    (d) Alternative periodic reporting. A broker, dealer or municipal 
securities dealer may effect transactions for or with the account of a 
customer without giving or sending to such customer the written 
notification described in paragraphs (b) and (c) of this section if:
    (1) The broker, dealer or municipal securities dealer:
    (i) Effects such transactions pursuant to a covered securities 
plan, or
    (ii) Effects such transactions in shares of any open-end management 
investment company registered under the Investment Company Act of 1940 
(15 U.S.C. 80a) (the ``Investment Company Act'') that holds itself out 
as a money market fund and attempts to maintain a stable net asset 
value per share if no sales load is deducted upon the purchase or 
redemption of shares in the money market fund; and
    (2) The broker, dealer or municipal securities dealer gives or 
sends to the customer within five business days after the end of each 
quarterly period, for transactions involving covered securities plans, 
and after the end of each monthly period for other transactions 
described in paragraph (d)(1) of this section, a written statement 
disclosing:
    (i) Each purchase or redemption, effected for or with, and each 
dividend or distribution credited to or reinvested for, the account of 
such customer during the period;
    (ii) The total number of shares or units of the covered security in 
the customer's account;
    (iii) The information required by paragraph (b) of this section 
and, to the extent applicable, paragraphs (c)(1) and (c)(4) of this 
section, related to each purchase, redemption, credit or reinvestment;
    (iv) The information required by paragraphs (c)(5) and (c)(6) of 
this section, as of the date of the final purchase or reinvestment 
during the period;
    (v) The information required by paragraph (c)(2) of this section, 
based on the total value of the purchases or reinvestments during the 
period; and
    (vi) The information required by paragraph (c)(3) of this section, 
based on the total purchases or reinvestments during the period and on 
the net asset value of the covered security at the end of the period; 
and
    (3) The broker, dealer or municipal securities dealer provides 
prior notification to the customer, in writing, disclosing the 
intention to send the written information referred to in paragraph 
(d)(1) of this section in lieu of an immediate confirmation, and 
provides to the customer at least one written disclosure document 
consistent with paragraphs (b) and (c) of this section prior to relying 
on this paragraph (d) for any transaction in which the customer 
purchases a covered security.
    (e) Comparison ranges. (1) For the following disclosures required 
by paragraphs (b), (c) and (d) of this section, the broker, dealer or 
municipal securities dealer also shall disclose the median information 
and comparison ranges for the following:
    (i) Front-end sales loads (paragraph (c)(1) of this section)--the 
median and 95th percentile range of front-end sales loads involving the 
same category of covered security (i.e., mutual fund, unit investment 
trust or municipal fund security);
    (ii) Deferred sales loads (paragraph (c)(2) of this section)--the 
median and 95th percentile range of deferred sales loads involving the 
same category of covered security, for each year in which the sales 
load may be in effect;
    (iii) Annual asset-based sales charges and service fees (paragraph 
(c)(3)(iv) of this section)--the median and 95th percentile range of 
asset-based distribution and service fees involving the same category 
of covered security;
    (iv) Dealer concession or other sales fees (paragraph (c)(4) of 
this section)--the median and 95th percentile range of dealer 
concessions or other sales fees

[[Page 6481]]

involving the same category of covered security;
    (v) Revenue sharing (paragraph (c)(5)(i) of this section)--the 
median and 95th percentile range of revenue sharing involving 
transactions by all brokers, dealers or municipal securities dealers 
that distribute that category of covered security; and
    (vi) Portfolio brokerage commissions (paragraph (c)(5)(ii) of this 
section)--the median and 95th percentile range of portfolio brokerage 
commissions involving transactions by all brokers, dealers or municipal 
securities dealers that distribute that category of covered security.
    (2) The median information and comparison ranges will be published 
from time to time by the Commission as percentages; provided, however, 
that this paragraph (e) will not be effective until 90 days after the 
Commission publishes the initial schedule of comparison ranges in the 
Federal Register. The Commission will publish revised ranges in the 
Federal Register. When a range is revised, all disclosures pursuant to 
this section that are provided to customers more than 90 days following 
the publication of the revised ranges shall conform to the revised 
ranges.
    (f) Definitions. For purposes of this section:
    (1) Asset-based sales charges means all asset-based charges 
incurred in connection with the distribution of a covered security, 
paid by the issuer or paid out of the assets of covered securities 
owned by the issuer.
    (2) Asset-based service fee means all asset-based amounts for 
personal service and/or the maintenance of shareholder accounts, paid 
by the issuer or paid out of the assets of covered securities owned by 
the issuer.
    (3) Completion of the transaction has the meaning provided in Sec. 
240.15c1-1.
    (4) Consistent with Schedule 15C means using Schedule 15C (Sec. 
240.15c-100), or using a similar layout of disclosure so long as:
    (i) All information specified in Schedule 15C is set forth in the 
confirmation;
    (ii) Information specified in Sections B through F of Schedule 15C 
are included with no change, including the use of bold print for data 
items printed in bold in Schedule 15C, and in the order set forth in 
Schedule 15C; and
    (iii) Information specified in Section A of Schedule 15C is 
displayed prominently.
    (5) Covered securities plan means any plan under which covered 
securities are purchased by a customer (the payments being made 
directly to, or made payable to, the issuer of the securities, or the 
principal underwriter, custodian, trustee, or other designated agent of 
the registered investment company), or sold by a customer pursuant to:
    (i) An individual retirement or individual pension plan qualified 
under the Internal Revenue Code (26 U.S.C. et seq. (1986));
    (ii) A contractual or systematic agreement under which the customer 
purchases at the applicable public offering price, or redeems at the 
applicable redemption price, such securities in specified amounts 
(calculated in security units or dollars or by reference to dividends 
or other distributions paid by the issuer) at specified time intervals, 
or at the time dividends or other distributions are paid by the issuer, 
and setting forth the commissions or charges to be paid by such 
customer in connection therewith (or the manner of calculating them); 
or
    (iii) Any other arrangement involving a group of two or more 
customers and contemplating periodic purchases of such securities by 
each customer through a person designated by the group; provided that 
such arrangement requires the issuer of the covered security or its 
agent:
    (A) To give or send to the designated person, at or before the 
completion of the transaction for the purchase of such securities, a 
written notification of the receipt of the total amount paid by the 
group;
    (B) To send to anyone in the group who was a customer in the prior 
quarter and on whose behalf payment has not been received in the 
current quarter a quarterly written statement reflecting that a payment 
was not received on his behalf; and
    (C) To advise each customer in the group if a payment is not 
received from the designated person on behalf of the group within 10 
days of a date certain specified in the arrangement for delivery of 
that payment by the designated person and thereafter to send to each 
such customer the written notification described in paragraph (a) of 
this section for the next three succeeding payments.
    (6) Covered security means:
    (i) Any security issued by an open-end company, as defined by 
section 5(a)(1) of the Investment Company Act (15 U.S.C. 80a-5(a)(1)), 
that is not traded on a national securities exchange or a facility of a 
national securities association;
    (ii) Any security issued by a unit investment trust as that term is 
defined by section 4(2) of the Investment Company Act (15 U.S.C. 80a-
4(2)), but is not an exchange-traded fund that is traded on a national 
securities exchange; provided, however, that an interest in a unit 
investment trust that is the subject of a secondary market transaction 
is not a covered security for purposes of this section; and
    (iii) Any municipal fund security.
    (7) Customer shall not include a broker, dealer or municipal 
securities dealer.
    (8) Dealer concession means any fees that the broker, dealer or 
municipal securities dealer will earn at the time of the sale, in 
connection with the transaction, from the issuer of the covered 
security, an agent of the issuer, the primary distributor, or any other 
broker, dealer or municipal securities dealer.
    (9) Differential compensation means:
    (i) In the case of transactions involving the purchase of a class 
of covered security that is associated with a deferred sales load 
(other than classes associated with a deferred sales load of no more 
than one percent that expires no later than one year after purchase for 
certain transactions, when no other sales load would be incurred on 
that transaction), any form of higher compensation (including total 
commissions, reimbursement of charges or expenses, avoidance of charges 
or expenses, other cash compensation, or non-cash compensation) that a 
broker, dealer or municipal securities dealer can be expected to pay to 
any of its associated persons over the next year (assuming no change in 
net asset value if applicable) in connection with the sale of a stated 
dollar amount of that class of covered security, compared with the 
compensation that would have been paid to the associated person over 
the next year in connection with the sale of the same dollar amount of 
another class of the same covered security that is associated with a 
sales load at the time of purchase; and
    (ii) In the case of transactions involving the purchase of a 
proprietary covered security:
    (A) Any practice by which a broker, dealer or municipal securities 
dealer pays an associated person a higher percentage of the firm's 
gross dealer concession in connection with the sale of a proprietary 
covered security than the percentage of the gross dealer concession 
that firm would pay in connection with the sale of the same dollar 
amount of any non-proprietary covered security offered by the firm; and
    (B) Other practices of a broker, dealer or municipal securities 
dealer that cause an associated person to earn a higher rate of 
compensation in connection with the sale of a proprietary covered 
security, including but not limited to

[[Page 6482]]

additional cash compensation or the imposition, allocation or waiver of 
expenses, overhead costs or ticket charges.
    (10) Fund complex shall include the issuer of the covered security 
(including the sponsor, depositor or trustee of a unit investment 
trust, and any insurance company issuing a variable annuity contract or 
variable life insurance policy), the issuer of any other covered 
security that holds itself out to investors as a related company for 
purposes of investment or investor services, any agent of any such 
issuer, any investment adviser for any such issuer, and any affiliated 
person (as defined by section 2(a)(3) of the Investment Company Act (15 
U.S.C. 80a-2(a)(3))) of any such issuer or any such investment adviser.
    (11) Gross dealer concession means the total amount of any 
discounts, concessions, fees, service fees, commissions or asset-based 
sales charges provided by the issuer of a covered security to the 
broker, dealer or municipal securities dealer in connection with the 
sale and distribution of the covered security; but does not include any 
commissions associated with portfolio securities transactions on behalf 
of the issuer.
    (12) Municipal fund security means any municipal security that is 
issued pursuant to a qualified State tuition program as defined by 
section 529 of the Internal Revenue Code (26 U.S.C. 529), and that is 
issued by an issuer that, but for the application of section 2(b) of 
the Investment Company Act (15 U.S.C. 80a-2(b)), would constitute an 
investment company within the meaning of section 3 of the Investment 
Company Act (15 U.S.C. 80a-3).
    (13) Net amount invested means the price paid to purchase the 
covered securities less any applicable sales load.
    (14) Portfolio securities transaction means any transaction 
involving securities owned by the issuer of a covered security, or 
owned by any other issuer within the same fund complex.
    (15) Proprietary covered security means any covered security as to 
which the broker, dealer or municipal securities dealer is an 
affiliated person (as defined by section 2(a)(3) of the Investment 
Company Act (15 U.S.C. 80a-2(a)(3))) of the issuer, or is an associated 
person of the issuer's investment adviser or principal underwriter, or, 
in the case of a covered security that is an interest in a unit 
investment trust, is an associated person of a sponsor, depositor or 
trustee of the covered security.
    (16) Revenue sharing means any arrangement or understanding by 
which a person within a fund complex, other than the issuer of the 
covered security, makes payments to a broker, dealer or municipal 
securities dealer, or any associated person of the broker, dealer or 
municipal securities dealer, excluding amounts earned at the time of 
the sale that constitute a dealer concession or other sales fee and 
that are disclosed pursuant to paragraph (b)(4) of this section.
    (17) Sales load has the meaning set forth in section 2(a)(35) of 
the Investment Company Act (15 U.S.C. 80a-2(a)(35)).
    (18) Securities position means the value of the purchase of covered 
securities; the value of securities that are subject to rights of 
accumulation under the terms of the prospectus with respect to the 
covered security or a related class of the covered security, to the 
extent known by the broker, dealer or municipal securities dealer, 
including the value of such securities purchased in other accounts or 
by other persons; and the value of any such securities that are the 
subject of letters of intent that may be considered in computing a 
breakpoint with respect to the covered security or a related class of 
the covered security.
    (g) Exemptions. The Commission may exempt any broker, dealer or 
municipal securities dealer from the requirements of paragraphs (b), 
(c) (d) and (e) of this section with regard to specific transactions or 
specific classes of transactions for which the broker, dealer or 
municipal securities dealer will provide alternative procedures to 
effect the purposes of this section; any such exemption may be granted 
subject to compliance with such alternative procedures and upon such 
other stated terms and conditions as the Commission may impose.
    5. Section 240.15c2-3 is added to read as follows:


Sec. 240.15c2-3  Point-of-sale disclosure for purchase transactions in 
open-end management investment company shares, unit investment trust 
interests, and municipal fund securities used for education savings.

    Preliminary Note. This section requires brokers (including 
municipal securities brokers), dealers and municipal securities 
dealers to disclose specified information in writing to customers 
prior to transactions in certain investment company securities or 
municipal fund securities. The requirements under this section that 
particular information be disclosed at the point of sale are not 
determinative of, and do not exhaust, a broker's, dealer's or 
municipal securities dealer's obligations under the general 
antifraud provisions of the federal securities laws, or under any 
other legal requirements, to disclose additional information to a 
customer at the time of the customer's investment decision.

    (a) Requirement. Except as provided in paragraph (e) of this 
section, it shall be unlawful for any broker, dealer or municipal 
securities dealer to effect a purchase of a covered security for a 
customer without disclosing information consistent with this paragraph 
at the point of sale.
    (1) The broker, dealer or municipal securities dealer shall 
separately disclose each of the following categories of information by 
reference to the value of the purchase, or, if that value is not 
reasonably estimable at the time of disclosure, by reference to a model 
investment of $10,000:
    (i) The amount of any sales load that the customer would incur at 
the time of purchase;
    (ii) An estimate of the amount of any asset-based sales charge and 
asset-based service fees that, in the year following the purchase, 
would be incurred by the issuer of the covered security in connection 
with the shares or units purchased over the next year if net asset 
value does not change;
    (iii) An estimate of the maximum amount of any deferred sales load 
that would be associated with the shares or units purchased if those 
shares or units are sold within one year (other than deferred sales 
loads of no more than one percent that expire no later than one year 
after purchase, when no other sales load would be incurred on that 
transaction), along with a statement informing the customer about how 
many years a deferred sales load may be in effect; and
    (iv) The amount of any dealer concession that the broker, dealer or 
municipal securities dealer would earn at the time of sale in 
connection with the transaction; and
    (2) The broker, dealer or municipal securities dealer also shall 
disclose:
    (i) Whether the broker, dealer or municipal securities dealer, or 
any affiliate, receives revenue sharing from the fund complex;
    (ii) Whether the broker, dealer or municipal securities dealer, or 
any affiliate, receives portfolio brokerage commissions from the fund 
complex; and
    (iii) If applicable, whether the broker, dealer or municipal 
securities dealer engages in the following types of differential 
compensation practices related to the covered security purchased:
    (A) Payment of differential compensation to any associated persons 
in connection with the sale of a class of covered securities that 
charges a

[[Page 6483]]

deferred sales load (other than deferred sales loads of no more than 
one percent that expire no later than one year after purchase, when no 
other sales load would be incurred on that transaction), if the 
customer purchased a covered security that charges that type of sales 
load; and
    (B) Payment of differential compensation to any associated persons 
in connection with the sale of a proprietary covered security, if the 
customer purchased a proprietary covered security.
    (b) Customers' right to terminate orders made prior to disclosure. 
An order received by the broker, dealer or municipal securities dealer 
prior to the disclosure required by this section shall be treated as an 
indication of interest until after the information required by 
paragraph (a) of this section is disclosed to the customer, and, 
following disclosure, the customer has had an opportunity to determine 
whether to place an order. The broker, dealer or municipal securities 
dealer shall disclose this right to the customer at the time it 
discloses the information required by this paragraph (b).
    (c) Manner of disclosure--(1) Generally. The information required 
to be disclosed pursuant to paragraph (a) or (b) of this section shall 
be given or sent to the customer in writing using Schedule 15D (Sec. 
240.15c-101); provided, however, that if the point of sale occurs at an 
in-person meeting, the information shall also be disclosed orally to 
the customer at the in-person meeting.
    (2) Exception for oral communication. Notwithstanding paragraph 
(c)(1) of this section, if the point of sale occurs through means of 
oral communication other than at an in-person meeting, the information 
shall be disclosed orally to the customer at the point of sale.
    (d) Recordkeeping. A broker, dealer or municipal securities dealer, 
at the time of disclosing information pursuant to this section, shall 
make records of communications and records of such disclosure 
sufficient to demonstrate compliance with the requirements of 
paragraphs (a) and (b) of this section. The broker, dealer or municipal 
securities dealer shall preserve such records for the period specified 
in Sec. 240.17a-4(b). Records of oral communications and records of 
disclosure of oral communications shall be kept in accordance with Sec. 
240.17a-4(f) and for the period specified in Sec. 240.17a-4(b) with 
regard to similar written communications and records.
    (e) Exceptions. This section shall not apply to the following 
transactions in a covered security, or participants in a transaction:
    (1) Transactions resulting from orders received from the customer 
via U.S. mail, messenger delivery or similar third-party delivery 
service if:
    (i) The broker, dealer or municipal securities dealer meets the 
requirements of paragraph (e)(1)(ii) of this section and, within the 
previous six months, has provided the following information to the 
customer:
    (A) A statement of the maximum front-end and deferred sales loads 
that may be associated with investments in covered securities offered 
by the broker, dealer or municipal securities dealer, expressed as a 
percentage of net asset value, along with an explanation of how sales 
loads can reduce investment returns;
    (B) A statement of the maximum asset-based sales charge or asset-
based service fees that may directly or indirectly be paid out of the 
assets of issuers of covered securities offered by the broker, dealer 
or municipal securities dealer, expressed as a percentage of net asset 
value, along with an explanation of how asset-based charges can reduce 
investment returns;
    (C) A statement about whether the broker, dealer or municipal 
securities dealer receives revenue sharing or portfolio brokerage 
commissions from any fund complex, along with an explanation of how 
those arrangements pose conflicts of interest; and
    (D) A statement about whether the broker, dealer or municipal 
securities dealer pays differential compensation in connection with 
transactions in covered securities, along with an explanation of how 
differential compensation pose conflicts of interest; and
    (ii) The broker, dealer or municipal securities dealer is not 
compensated for effecting transactions for customers that do not have 
accounts with that broker, dealer or municipal securities dealer;
    (2) A broker, dealer or municipal securities dealer that clears 
transactions on behalf of another broker, dealer or municipal 
securities dealer, or that serves as the primary distributor of a 
covered security, with respect to transactions in which:
    (i) The broker, dealer or municipal securities dealer did not 
communicate with the customer about the transaction other than to 
accept the customer's order; and
    (ii) The broker, dealer or municipal securities dealer reasonably 
believes that another broker, dealer or municipal securities dealer has 
delivered the information to the customer as required by this section;
    (3) Transactions as part of a covered securities plan; provided, 
however, that the broker, dealer or municipal securities dealer 
provides disclosure consistent with this section prior to the first 
transaction in any covered security that is purchased as part of a 
covered securities plan;
    (4) Reinvestments of dividends earned; or
    (5) Transactions in which the broker, dealer or municipal 
securities dealer is exercising investment discretion.
    (f) Definitions.
    (1) Point of sale shall mean:
    (i) Except as provided by paragraph (f)(1)(ii) of this section, 
immediately prior to the time that the broker, dealer or municipal 
securities dealer accepts the order from the customer.
    (ii) As to transactions for customers who have not opened an 
account with the broker, dealer or municipal securities dealer, and 
transactions in which the broker, dealer or municipal securities dealer 
does not accept the order from the customer, the time that the broker, 
dealer or municipal securities dealer first communicates with the 
customer about the covered security, specifically or in conjunction 
with other potential investments.
    (2) The terms asset-based sales charges, asset-based service fee, 
covered securities plan, covered security, customer, dealer concession, 
differential compensation, fund complex, portfolio securities 
transaction, revenue sharing and sales load shall have the meanings 
provided in Sec. 240.15c2-2.
    6. Section 240.15c-100 is added to read as follows:


Sec. 240.15c-100  Schedule 15C.

    Securities and Exchange Commission, Washington, DC 20549.
Schedule 15C

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    7. Section 240.15c-101 is added to read as follows:


Sec. 240.15c-101  Schedule 15D.

    Securities and Exchange Commission, Washington, DC 20549.
Schedule 15D
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PART 274--FORMS PRESCRIBED UNDER THE INVESTMENT COMPANY ACT OF 1940

    8. The authority citation for part 274 continues to read, in part, 
as follows:

    Authority: 15 U.S.C. 77f, 77g, 77h, 77j, 77s, 78c(b), 78l, 78m, 
78n, 78o(d), 80a-8, 80a-24, 80a-26, and 80a-29, unless otherwise 
noted.

* * * * *
    9. Form N-1A (referenced in Sec.Sec. 239.15A and 274.11A) is 
amended by:
    a. In the table entitled ``Fees and expenses of the Fund'' in Item 
3, revising the caption ``Maximum Sales Charge (Load) Imposed on 
Purchases (as a percentage of offering price)'' to read ``Maximum Sales 
Charge (Load)

[[Page 6488]]

Imposed on Purchases (as a percentage of net asset value)'';
    b. In Item 3, revising the first sentence of Instruction 2(a)(i);
    c. In Item 3, revising Instruction 2(a)(ii);
    d. In Item 3, adding a new Instruction 2(a)(iv);
    e. In Item 8, adding new Instruction 4 to paragraph (a)(1);
    f. In Item 8, redesignating paragraph (c) as paragraph (d); and
    g. In Item 8, adding new paragraph (c).
    These additions and revisions read as follows:

    Note: The text of Form N-1A does not, and these amendments will 
not, appear in the Code of Federal Regulations.

Form N-1A
* * * * *
Item 3. Risk/Return Summary: Fee Table
* * * * *
    Instructions.
* * * * *
    2. Shareholder Fees.
    (a)(i) ``Maximum Deferred Sales Charge (Load)'' includes the 
maximum total deferred sales charge (load) payable upon redemption, in 
installments, or both, expressed as a percentage of the amount or 
amounts stated in response to Item 8(a), except that, for a sales 
charge (load) based on offering price at the time of purchase, show the 
sales charge (load) as a percentage of the net asset value at the time 
of purchase. * * *
    (ii) If more than one type of sales charge (load) is imposed (e.g., 
a deferred sales charge (load) and a front-end sales charge (load)), 
the first caption in the table should read ``Maximum Sales Charge 
(Load) (as a percentage of net asset value)'' and show the maximum 
cumulative percentage of net asset value. Show the percentage amounts 
and the terms of each sales charge (load) comprising that figure on 
separate lines below.
* * * * *
    (iv) If applicable, disclose in a footnote that the maximum sales 
charge (load) that may be paid by an investor as a percentage of the 
net amount invested may be higher than the maximum sales charge (load) 
shown as a percentage of net asset value in the fee table, and briefly 
explain the reason for this variation. The footnote, if applicable, 
should disclose the maximum sales charge (load) that may be paid by an 
investor as a percentage of the net amount invested. This footnote 
requirement applies to all types of sales charges (loads) (e.g., front-
end and deferred), as well as cumulative sales charges (loads) 
disclosed pursuant to Instruction 2(a)(ii).
* * * * *
Item 8. Distribution Arrangements
    (a)(1) * * *
    Instructions.
* * * * *
    4. If applicable, disclose in a footnote that the actual front-end 
sales load that may be paid by an investor as a percentage of the gross 
or net amount invested at any breakpoint may be higher or lower than 
the applicable sales load in the table of front-end sales loads, and 
briefly explain the reason for this variation. The footnote, if 
applicable, should disclose the range of the actual front-end sales 
loads that may be paid by an investor at each sales load breakpoint, as 
a percentage of the gross and net amount invested.
* * * * *
    (c) Revenue Sharing Arrangements. If any person within the fund 
complex that includes the Fund makes revenue sharing payments, disclose 
that fact and disclose that specific information about revenue sharing 
payments to an investor's financial intermediary, if any, is included 
in the written notification or periodic statement required under rule 
15c2-2 under the Securities Exchange Act and in the disclosure provided 
at the point of sale required under rule 15c2-3 under the Securities 
Exchange Act. For purposes of this Item 8(c), ``fund complex'' and 
``revenue sharing'' have the meanings set forth in rule 15c2-2(f)(10) 
and (15) under the Securities Exchange Act.
* * * * *

    Dated: January 29, 2004.

    By the Commission.
J. Lynn Taylor,
Assistant Secretary.

    Note: Attachments 1-5 to the preamble will not appear in the 
Code of Federal Regulations.


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[FR Doc. 04-2327 Filed 2-9-04; 8:45 am]
BILLING CODE 8010-01-C`