12862 Federal Register / Vol. 72, No. 52 / Monday, March 19, 2007 / Proposed Rules 

1 17 CFR 240.15c3–1. 

2 17 CFR 240.15c3–3. 

3 17 CFR 240.17a–3 and 17 CFR 240.17a–4. 

4 17 CFR 240.17a–11. 

5See Exchange Act Release No. 9856 (November 

10, 1972), 1972 SEC LEXIS 189. 6Subparagraph (a)(3) of Rule 15c3–3 defines 

‘‘fully paid securities’’ as securities carried in any 

type of account for which the customer has made 

a full payment. Subparagraph (a)(5) defines ‘‘excess 

margin securities’’ as securities having a market 

value in excess of 140% of the amount the customer 

owes the broker-dealer and which the broker-dealer 

has designated as not constituting margin securities. 

7 15 U.S.C. 78aaa et seq. 

8 17 CFR 240.15c3–3a. 

9 17 CFR 240.15c3–3(e)(3). 

10 17 CFR 240.15c3–3(b)(1). 

11 17 CFR 240.15c3–3(c). 

12 17 CFR 240.15c3–3(d). 

13 Id. 

SECURITIES AND EXCHANGE 

COMMISSION 

17 CFR Part 240 

[Release No. 34–55431; File No. S7–08–07] 

RIN 3235–AJ85 

Amendments to Financial 

Responsibility Rules for BrokerDealers 

AGENCY: Securities and Exchange 

Commission (the ‘‘Commission’’). 

ACTION: Proposed rule. 

SUMMARY: The Commission is proposing 

for comment amendments to its net 

capital, customer protection, books and 

records, and notification rules for 

broker-dealers under the Securities 

Exchange Act of 1934 (‘‘Exchange Act’’). 

The proposed amendments would 

address several emerging areas of 

concern regarding the financial 

requirements for broker-dealers. They 

also would update the financial 

responsibility rules and make certain 

technical amendments. 

DATES: Comments should be received on 

or before May 18, 2007. 

ADDRESSES: Comments may be 

submitted by any of the following 

methods: 

Electronic Comments 

• Use the Commission’s Internet 

comment form (http://www.sec.gov/ 

rules/proposed); or 

• Send an e-mail to rulecomments@sec.gov. Please include File 

Number S7–08–07 on the subject line; 

or 

• Use the Federal eRulemaking Portal 

(http://www.regulations.gov). Follow the 

instructions for submitting comments. 

Paper Comments 

• Send paper comments in triplicate 

to Nancy M. Morris, Secretary, 

Securities and Exchange Commission, 

100 F Street, NE., Washington, DC 

20549–1090. 

All submissions should refer to File 

Number S7–08–07. This file number 

should be included on the subject line 

if e-mail is used. To help us process and 

review your comments more efficiently, 

please use only one method. The 

Commission will post all comments on 

the Commission’s Internet Web site 

(http://www.sec.gov/rules/proposed). 

Comments will also be available for 

public inspection and copying in the 

Commission’s Public Reference Room, 

100 F Street, NE., Washington, DC 

20549. All comments received will be 

posted without change; we do not edit 

personal identifying information from 

submissions. You should submit only 

information that you wish to make 

available publicly. 

FOR FURTHER INFORMATION CONTACT: 

Michael A. Macchiaroli, Associate 

Director, at (202) 551–5525; Thomas K. 

McGowan, Assistant Director, at (202) 

551–5521; Randall Roy, Branch Chief, at 

(202) 551–5522; or Bonnie Gauch, 

Attorney, (202) 551–5524; Division of 

Market Regulation, Securities and 

Exchange Commission, 100 F Street, 

NE., Washington, DC 20549–6628. 

SUPPLEMENTARY INFORMATION: 

I. Background 

We are proposing for comment 

amendments to the broker-dealer net 

capital rule (Rule 15c3–1),1 customer 

protection rule (Rule 15c3–3),2 books 

and records rules (Rules 17a–3 and 17a– 

4),3 and notification rule (Rule 17a–11).4

II. Proposed Amendments 

A. Amendments to the Customer 

Protection Rule 

The Commission adopted the 

customer protection rule (Rule 15c3–3) 

in 1972 in response to a congressional 

directive to strengthen the financial 

responsibility requirements for brokerdealers that carry customer assets.5 The 

rule requires a broker-dealer to take 

certain steps to protect the credit 

balances and securities it holds for 

customers. Under the rule, a brokerdealer must, in essence, segregate 

customer funds and fully paid and 

excess margin securities held by the 

firm for the accounts of customers.6 The 

intent of the rule is to require a brokerdealer to hold customer assets in a 

manner that enables their prompt return 

in the event of an insolvency, which, in 

turn, increases the ability of the firm to 

wind down in an orderly selfliquidation and, thereby avoid the need 

for a proceeding under the Securities 

Investor Protection Act of 1970 

(‘‘SIPA’’).7

The required amount of customer 

funds to be segregated is calculated 

pursuant to a formula set forth in 

Exhibit A to Rule 15c3–3.8 Under the 

formula, the broker-dealer adds up 

various credit and debit line items. The 

credit items include cash balances in 

customer accounts and funds obtained 

through the use of customer securities. 

The debit items include money owed by 

customers (e.g., from margin lending), 

securities borrowed by the broker-dealer 

to effectuate customer short sales, and 

required margin posted to certain 

clearing agencies as a consequence of 

customer securities transactions. If, 

under the formula, customer credit 

items exceed customer debit items, the 

broker-dealer must maintain cash or 

qualified securities in that net amount 

in a ‘‘Special Reserve Bank Account for 

the Exclusive Benefit of Customers.’’ 

This account must be segregated from 

any other bank account of the brokerdealer. Generally, a broker-dealer with a 

deposit requirement of $1 million or 

more computes its reserve requirement 

on a weekly basis as of the close of the 

last business day of the week (usually 

Friday).9 The weekly calculation 

determines the required minimum 

balance the broker-dealer must maintain 

in the reserve account. 

As noted, Rule 15c3–3 also requires a 

broker-dealer to maintain physical 

possession or control of all fully paid 

and excess margin securities carried for 

customers.10 This means the brokerdealer cannot lend or hypothecate these 

securities and must hold them itself or, 

as is more common, in a satisfactory 

control location. Under the rule, 

satisfactory control locations include 

regulated securities clearing agencies, 

U.S. banks, and, with the approval of 

the Commission, certain foreign 

financial institutions.11 In order to meet 

the possession or control requirement, a 

broker-dealer must determine on a daily 

basis the amount of customer fully paid 

and excess margin securities (by issuer 

and class) it holds for customers.12 It 

then compares that amount with the 

amount of securities it holds free of lien 

in its own possession or at one of the 

satisfactory control locations. If a 

shortfall exists, the firm must take 

certain actions under the rule.13 The 

actions include: removing liens on 

securities collateralizing a bank loan; 

recalling securities loaned to a bank or 

clearing corporation; buying-in 

securities that have been failed to 

receive over thirty days; or buying-in 

securities receivable as a result of 

dividends, stock splits or similar 


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Federal Register / Vol. 72, No. 52 / Monday, March 19, 2007 / Proposed Rules 12863 

14 Id. 

15See 17 CFR 240.15c3–3(a)(1). This paragraph 

defines ‘‘customer’’ for the purposes of Rule 15c3–

3. Broker-dealers, both domestic and foreign, are 

excluded from the definition and, consequently, are 

not treated as ‘‘customers’’ for the purposes of the 

rule’s reserve and possession and control 

requirements. Some foreign broker-dealers also 

operate as banks. These firms are not deemed 

‘‘customers’’ to the extent that their accounts at the 

U.S. broker-dealer involve proprietary broker-dealer 

activities. 

16 In particular, under SIPA, the pool of 

‘‘customer property’’ is established using assets 

recovered from the failed broker-dealer. The statute 

determines the assets that become a part of the pool 

of customer property. 15 U.S.C. 78lll(4). Customer 

property includes ‘‘cash and securities * * * at any 

time received, acquired, or held by or for the 

account of the debtor from or for the securities 

accounts of a customer, and the proceeds of any 

such property transferred by the debtor, including 

property unlawfully converted.’’ Therefore, 

‘‘customer property’’ includes those securities 

positions that are held for customers and the cash 

that is owed to customers. After being established, 

customer property is distributed to customers pro 

rata based on the amounts of their claims (i.e., their 

net equity). While broker-dealers are not entitled to 

advances from the SIPC fund to make up for 

shortfalls in the fund of customer property (see 15 

U.S.C 78fff–3(a)(5)), they may be ‘‘customers’’ as 

that term is defined in SIPA and, therefore, entitled 

to a pro rata distribution from the fund of customer 

property. 

17The amendment would exclude from the 

broker-dealer reserve computation accounts 

established by a broker-dealer that fully guarantees 

the obligations of, or whose accounts are fully 

guaranteed by, the clearing broker. In these 

circumstances, the guarantor must take deductions 

under Rule 15c3–1 for guaranteed obligations of the 

other firm. In addition, the amendment would 

exclude delivery-versus-payment and receiptversus-payment accounts. These types of accounts 

pose little risk of reducing the estate of customer 

property in a SIPA liquidation since they only hold 

assets for short periods of time. 

18See Letter from Michael A. Macchiaroli, 

Associate Director, Division of Market Regulation, 

Commission, to Raymond J. Hennessy, Vice 

President, NYSE, and Thomas Cassella, Vice 

President, NASD Regulation, Inc. (Nov. 10, 1998). 

19Under Rule 15c3–1, broker-dealers generally 

are required to deduct unsecured receivables from 

their net worth when computing their net capital. 

Paragraph (c) of the rule contains certain exceptions 

to this requirement. Among the enumerated 

exceptions are commissions receivable from 

another broker-dealer outstanding 30 days or less. 

This exception is limited to receivables from a 

clearing broker-dealer related to transactions in 

accounts introduced by the broker-dealer. 

Frequently, introducing broker-dealers as well as 

other broker-dealers will have receivables from 

another broker-dealer arising from proprietary 

transactions in an account at the other brokerdealer. There is no exception in Rule 15c3–1 

permitting these receivables to be included in a 

broker-dealer’s net capital amount. However, under 

the terms of the PAIB Letter, a broker-dealer could 

include them. 

20Under paragraph (e), broker-dealers are 

required to perform the customer reserve 

computation as of the close of business on the last 

business day of the week or, in some cases, the 

month. Broker-dealers from time to time may 

perform a mid-week computation if it would permit 

them to make a withdrawal. Under the proposed 

amendments, a broker-dealer would need to 

compute both the customer and PAB reserve 

requirements simultaneously before making a 

withdrawal from either account based on a midweek computation. Moreover, a withdrawal could 

not be made from one account if the mid-week 

computation demonstrated an increased 

requirement in the other account. 

distributions that are outstanding over 

forty-five days.14

1. Proprietary Accounts of BrokerDealers 

We are proposing an amendment to 

Rule 15c3–3 that would require brokerdealers to treat accounts they carry for 

domestic and foreign broker-dealers in 

the same manner generally as 

‘‘customer’’ accounts for the purposes of 

the reserve formula of Rule 15c3–3.15

The amendment is intended to address 

an inconsistency between the way these 

proprietary accounts of broker-dealers 

are protected under Rule 15c3–3 and the 

SIPA. 

Specifically, because broker-dealers 

are not ‘‘customers’’ for purposes of 

Rule 15c3–3, a broker-dealer that carries 

the proprietary accounts of other brokerdealers is not required to include credit 

and debit items associated with those 

accounts in the customer reserve 

formula. Conversely, under SIPA, 

broker-dealers are considered 

‘‘customers’’ and, consequently, entitled 

to certain protections. When a brokerdealer is liquidated under SIPA, an 

estate of customer property is created.16

Customers of the failed broker-dealer, 

including customers that are brokerdealers, are entitled to a pro rata share 

of the estate of customer property. Thus, 

while broker-dealers need not reserve 

for accounts carried for other brokerdealers under Rule 15c3–3, in a SIPA 

liquidation, broker-dealer 

accountholders may share in the fund of 

customer property. This disparity 

increases the risk that, in the event a 

clearing broker is liquidated under 

SIPA, customer claims will exceed the 

amount of customer property. 

In order to correct the gap between 

Rule 15c3–3 and SIPA, we are 

proposing amendments to Rules 15c3–1, 

15c3–3 and 15c3–3a that would require 

carrying broker-dealers to perform a 

separate reserve computation for 

proprietary accounts of other domestic 

and foreign broker-dealers in addition to 

the reserve computation currently 

required for ‘‘customer’’ accounts, and 

establish and fund a separate reserve 

account for the benefit of these domestic 

and foreign broker-dealers.17 This added 

protection also would mitigate potential 

contagion that might arise in the event 

of a failure of a broker-dealer with a 

large number of broker-dealer 

customers. 

The proposed amendments, in many 

respects, would codify a no-action letter 

regarding proprietary accounts of 

introducing brokers (‘‘PAIB Letter’’) 

previously issued by Commission 

staff.18 One significant difference is that 

the amendments would have a broader 

scope by including proprietary accounts 

of foreign brokers-dealers and banks 

acting as broker-dealers. In the PAIB 

Letter, the staff stated it would not 

recommend any action to the 

Commission if an introducing brokerdealer did not take a net capital 

deduction under Rule 15c3–1 for cash 

held in a securities account at another 

broker-dealer, provided the other 

broker-dealer agreed to (1) perform a 

reserve computation for broker-dealer 

accounts, (2) establish a separate special 

reserve bank account, and (3) maintain 

cash or qualified securities in the 

reserve account equal to the computed 

reserve requirement (‘‘PAIB 

agreement’’).19 The PAIB Letter, 

however, did not completely address 

the disparity between Rule 15c3–3 and 

SIPA, because the procedures set forth 

in the letter are voluntary and foreign 

broker-dealers are not subject to Rule 

15c3–1 and, consequently, have no 

incentive to enter into PAIB agreements. 

Therefore, carrying firms do not include 

the accounts of foreign broker-dealers in 

either the Rule 15c3–3 or PAIB 

computations. However, these entities 

may be customers for the purposes of 

SIPA. 

The proposed amendments—like the 

PAIB Letter—would establish reserve 

requirements for a carrying broker with 

respect to proprietary accounts it carries 

for other broker-dealers. Paragraph (e) of 

Rule 15c3–3 would be amended to 

require the carrying broker to perform a 

reserve computation for a proprietary 

account of another broker-dealer 

(referred to as a ‘‘PAB account’’) and to 

establish and maintain a reserve account 

at a bank for these PAB accounts.20 A 

new paragraph (a)(16) would be added 

to define ‘‘PAB account,’’ paragraph (f) 

would be amended to require the 

carrying broker-dealer to notify the bank 

about the status of the PAB reserve 

account and obtain an agreement and 

notification from the bank that the PAB 

reserve account will be maintained for 

the benefit of the PAB accountholders. 

In addition, paragraph (g) would be 

amended to specify when the carrying 

broker-dealer could make withdrawals 

from a PAB reserve account. The 

carrying broker would have to maintain 

cash or qualified securities in the PAB 

reserve account in an amount equal to 

the PAB reserve requirement. Consistent 

with the no-action relief provided in the 

PAIB Letter, if the PAB reserve 

computation results in a deposit 


ycherry on PROD1PC64 with PROPOSALS2
12864 Federal Register / Vol. 72, No. 52 / Monday, March 19, 2007 / Proposed Rules 

21The term ‘‘qualified securities’’ is defined in 

paragraph (a)(6) of Rule 15c3–3 to mean a securities 

issued by the United States or guaranteed by the 

United States with respect to principal and interest. 

17 CFR 240.15c3–3(a)(6). The term ‘‘bank’’ is 

defined in paragraph (a)(7) of Rule 15c3–3. 

22See 17 CFR 240.15c3–3(f). 

23These amendments are not intended to affect 

the practice whereby customer free credit balances 

are swept into a bank deposit account and the 

customer receives Federal Deposit Insurance 

Protection. 

24Under Rule 17a–5 (17 CFR 240.17a–5) brokerdealers must file periodic reports on Form X–17a–

5 (Financial and Operational Combined Uniform 

Single Reports (‘‘FOCUS Reports’’)). The FOCUS 

Report form requires, among other financial 

information, a balance sheet, income statement, and 

net capital and customer reserve computations. 

25Commercial banks insured by the Federal 

Deposit Insurance Corporation (‘‘FDIC’’), savings 

banks supervised by the FDIC, and non-insurance 

trust companies supervised by the Office of the 

Comptroller of the Currency file quarterly Call 

Reports. Savings Associations and non-insured trust 

companies supervised by the Office of Thrift 

Supervision file Thrift Financial Reports (TFRs). 

These reports include a line item for equity capital. 

A report for a specific institution can be obtained 

by accessing the following Web site: http:// 

www2.fdic.gov/call_tfr_rpts/search.asp. 

requirement, the proposed amendment 

would allow the requirement to be offset 

to the extent there are excess debits in 

the customer reserve computation of the 

same date. However, in order to provide 

greater protection to customers that are 

not broker-dealers, a deposit 

requirement resulting from the customer 

reserve computation would not be able 

to be offset by excess debits in the PAB 

reserve computation. This means the 

carrying broker-dealer could use PAB 

credits to finance ‘‘customer’’ debits, but 

not the other way around. Thus, 

‘‘customers’’ (which include retail 

investors but exclude broker-dealers) 

would receive greater protection. 

Paragraph (b) of Rule 15c3–3 would 

be amended to provide that a brokerdealer carrying PAB accounts would not 

be required to maintain physical 

possession or control of fully paid and 

excess margin securities carried for PAB 

accounts, provided it obtains the written 

permission of the PAB accountholder to 

use such securities in the ordinary 

course of its securities business. This 

provision would be consistent with Rule 

15c3–3, which is intended to provide 

greater protection to customers that are 

not broker-dealers customers. It also 

would accommodate industry practice 

of carrying broker-dealers using the 

securities of their broker-dealer 

accountholders, which contributes to 

the liquidity of the securities markets. 

Finally, paragraph (c)(2)(iv)(E) of Rule 

15c3–1 would be amended to require a 

broker-dealer to deduct from net worth 

when calculating net capital the amount 

of its cash in a proprietary account at 

another broker-dealer where the other 

broker-dealer is not treating the cash in 

compliance with the proposed 

requirements described above. This 

would prevent broker-dealers from 

including assets in their net capital 

amounts that may not be readily 

available. We would not expect brokerdealers to audit or examine their 

carrying broker-dealers to determine 

whether the carrying broker-dealer is in 

compliance with the proposed rules. 

We request comment on all aspects of 

these proposed amendments, including 

whether the accounts of other noncustomers under Rule 15c3–3 (e.g., 

principal officers of the broker-dealer) 

should be included in the PAB 

computation. 

2. Banks Where Special Reserve 

Deposits May Be Held 

Broker-dealers must deposit cash or 

‘‘qualified securities’’ into the customer 

reserve account maintained at a ‘‘bank’’

under Rule 15c3–3(e).21 Rule 15c3–3(f) 

further requires the broker-dealer to 

obtain a written contract from the bank 

in which the bank agrees not to re-lend 

or hypothecate securities deposited into 

the reserve account.22 Consequently, the 

securities should be readily available to 

the broker-dealer. Cash deposits, 

however, are fungible with other 

deposits carried by the bank and may be 

freely used in the course of the bank’s 

commercial lending activities. 

Therefore, to the extent a broker-dealer 

deposits cash in a reserve bank account, 

there is a risk the cash could be lost or 

inaccessible for a period if the bank 

experiences financial difficulties. This 

could adversely impact the brokerdealer and its customers if the balance 

of the reserve deposit is concentrated at 

one bank in the form of cash. 

This risk may be heightened when the 

deposit is held at an affiliated bank in 

that the broker-dealer may not exercise 

due diligence with the same degree of 

impartiality when assessing the 

financial soundness of an affiliate bank 

as it would with a non-affiliate bank. 

Moreover, the broker-dealer’s customers 

may not derive any significant 

protection from the reserve requirement 

in the event of the parent’s insolvency. 

To address these risks, we are 

proposing an amendment to Rule 15c3–

3 that would exclude cash deposits at 

affiliate banks for the purposes of 

meeting customer or PAB reserve 

requirements and place limitations on 

the amount of cash a broker-dealer 

could maintain in a customer or PAB 

special reserve bank account at one 

unaffiliated bank. The exclusion and 

limitations would not apply to deposits 

of securities since these assets do not 

become a part of a bank’s working 

capital. As discussed below, the 

limitations would prevent a brokerdealer from maintaining a reserve 

deposit in the form of cash at a single 

unaffiliated bank that exceeds a 

percentage of the broker-dealer’s or the 

bank’s capital. This is designed to 

mitigate the risk that an impairment of 

the reserve deposit at an unaffiliated 

single bank will have a material 

negative impact on the broker-dealer’s 

ability to meet its obligations to 

customers and PAB accountholders.23

Under the proposal, a paragraph (e)(5) 

would be added to Rule 15c3–3. This 

new paragraph would provide that—in 

determining whether the broker-dealer 

maintains the minimum reserve 

deposits required (customer and PAB)—

the broker-dealer would be required to 

exclude a cash deposit at an affiliated 

bank. With respect to unaffiliated banks, 

the broker-dealer would be required to 

exclude the deposit to the extent that it 

exceeded (1) 50% of the broker-dealer’s 

excess net capital (based on the most 

recently filed FOCUS Report),24 or (2) 

10% of the bank’s equity capital (based 

on the bank’s most recently filed Call 

Report or Thrift Financial Report).25

The goal is to limit cash reserve account 

deposits to reasonably safe amounts as 

measured against the capitalization of 

the broker-dealer and the bank. Excess 

net capital is the amount that a brokerdealer’s net capital exceeds its 

minimum requirement and, therefore, 

constitutes a cushion to absorb 

unexpected losses. We believe limiting 

a cash deposit in one bank to 50% of 

excess net capital means the brokerdealer has a reserve to absorb the loss 

or impairment of the deposit plus an 

additional amount to absorb other 

losses. The amount of a bank’s equity 

capital is a measure of its financial 

solvency. We believe limiting the cash 

deposit to 10% of the bank’s equity 

capital means the broker-dealer would 

not commit customer cash to an 

institution in an amount that is out of 

proportion to the bank’s capital base. 

We request comment on all aspects of 

these proposed amendments, including 

whether the proposed reserve deposit 

limitations of 50% of excess net capital 

or 10% of the bank’s equity capital 

adequately address the risks of 

concentrating cash deposits at any one 

bank or whether other thresholds 

should apply. 


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26 17 CFR 240.15c3–3(a)(6). 

27 17 CFR 240.15c3–3(e)(2). 

28 Id. 

29See Public Petition for Rulemaking No. 4–478 

(April 3, 2003), as amended (April 4, 2005), 

available at http://www.sec.gov/rules/petitions/ 

petn4–478.htm. 

3. Expansion of the Definition of 

Qualified Securities To Include Certain 

Money Market Funds 

As noted above, a broker-dealer is 

limited to depositing cash or ‘‘qualified 

securities’’ into the bank account it 

maintains to meet the customer reserve 

deposit requirements under Rule 15c3–

3. Paragraph (a)(6) of Rule 15c3–3 

defines ‘‘qualified securities’’ as 

securities issued by the United States or 

guaranteed by the United States with 

respect to principal and interest (‘‘US 

Treasury securities’’).26 These strict 

limitations on the types of assets that 

can be used to fund a broker-dealer’s 

customer reserve account are designed 

to further the purpose of Rule 15c3–3; 

namely, that customer assets be 

segregated and held in a manner that 

makes them readily available to be 

returned to the customer. For example, 

paragraph (e)(2) of Rule 15c3–3 makes it 

unlawful for a broker-dealer to use 

customer credits (generally, cash 

balances in securities accounts) for any 

purpose other than financing customer 

debits (fully secured margin loans).27

Under the rule, the amount of excess 

credits (i.e., credits net of debits) must 

be held in the customer reserve account 

and, as noted, the account must be 

funded with either cash or U.S. 

Treasury securities.28

Federated Investors, Inc. 

(‘‘Federated’’) has filed a petition with 

the Commission requesting that Rule 

15c3–3 be amended to include certain 

types of money market funds in the 

definition of qualified securities.29 We 

believe expanding the definition to 

include money market funds that only 

invest in securities meeting the 

definition of ‘‘qualified security’’ in 

Rule 15c3–3 would be appropriate. The 

assets held by such a money market 

fund would be same as those a brokerdealer can hold directly in its customer 

reserve account. Consequently, a brokerdealer might choose to deposit 

qualifying money market fund shares 

into the customer reserve account based 

on operational considerations such as 

avoiding the need to actively manage a 

portfolio of U.S. Treasury securities. 

This operational benefit also could 

decrease burdens on those brokerdealers that would be impacted by our 

proposed amendments discussed above 

with respect to customer reserve 

account cash deposits into affiliate and 

non-affiliate banks. A broker-dealer that 

deposits cash into the customer reserve 

account to avoid the operational aspects 

of holding and managing U.S. Treasury 

securities would have the option of 

depositing a qualifying money market 

fund to replace the cash deposit. 

We believe, however, that there 

should be safeguards in place designed 

to ensure that qualifying money market 

fund shares could be redeemed quickly. 

A broker-dealer in financial difficulty 

must be able to liquidate quickly the 

assets in its customer reserve account so 

that customer credit balances can be 

returned without delay. Consequently, 

in addition to the limitations on 

holdings discussed above, our proposal 

to expand the definition of ‘‘qualified 

securities’’ to include money market 

funds includes the following safeguards. 

First, the money market fund could not 

be a company affiliated with the brokerdealer. The broker-dealer may 

experience financial difficulty caused 

by liquidity problems at the holding 

company level that are adversely 

impacting an affiliated money market 

fund as well in terms of the fund’s 

ability to promptly redeem shares. 

Second, our proposal would require the 

broker-dealer to use a fund that agrees 

to redeem fund shares in cash on the 

next business day. There should be no 

ability of the fund to delay redemption 

beyond one day or to require a multiday redemption notification period. 

Finally, our proposal would require 

that the money market fund have an 

amount of net assets (assets net of 

liabilities) that is at least 10 times the 

value of the fund’s shares held by the 

broker-dealer in its customer reserve 

account. This is designed to prevent a 

broker-dealer from holding too 

concentrated a position in a single fund. 

It also limits a potential redemption 

request by the broker-dealer to 10% or 

less of the fund’s assets. While a 

redemption request that equaled 10% of 

a fund’s net assets would be very 

substantial, we believe it is a reasonable 

threshold between a request that could 

be handled promptly and one that could 

have the potential to cause the fund 

some degree of difficulty in meeting the 

request within one business day. We 

seek comment on this threshold, 

particularly with respect to whether it 

should be smaller (e.g., 5% or 2%) or 

higher (e.g., 15% or 25%). 

For the foregoing reasons, we propose 

amending the definition of ‘‘qualified 

security’’ in paragraph (a)(6) of Rule 

15c3–3 to include an unaffiliated money 

market fund that: (1) Is described in 

Rule 2a–7 of the Investment Company 

Act of 1940; (2) invests solely in 

securities issued by the United States or 

guaranteed by the United States as to 

interest and principal; (3) agrees to 

redeem fund shares in cash no later than 

the business day following a redemption 

request by a shareholder; and (4) has an 

amount of net assets equal to at least 10 

times the value of the shares deposited 

by the broker-dealer in its customer 

reserve account. 

We solicit comment on all aspects of 

this proposal, including whether these 

types of money market funds are 

appropriate for the customer reserve 

account in terms of liquidity and safety 

and whether the 10% net asset 

limitation would be an adequate 

safeguard in terms of ensuring a brokerdealer could quickly redeem its shares. 

4. Allocation of Customers’ Fully Paid 

and Excess Margin Securities to Short 

Positions 

Paragraph (d) of Rule 15c3–3 sets 

forth steps a broker-dealer must take to 

retrieve securities from non-control 

locations if there is a shortfall in the 

fully paid or excess margin securities it 

is required to hold. The rule does not 

require the broker-dealer to act when a 

short position on the broker-dealer’s 

stock record allocates to a customer long 

position; for example, if the brokerdealer sells short a security to its 

customer. In such a circumstance, the 

broker-dealer would not be required to 

have possession or control of the 

security its customer has paid for in full. 

Instead, the broker-dealer would put the 

mark-to-market value of the security as 

a credit item in the reserve formula. The 

cash paid by the customer to purchase 

the security could be used by the 

broker-dealer to make any increased 

deposit requirement caused by the 

credit item. If the increase is less than 

the cash paid, the broker-dealer could 

use the excess funds in its own business 

operations. Moreover, if the value of the 

security decreases, the broker-dealer 

could withdraw funds out of the reserve 

account and use them as well. In effect, 

this permits the broker-dealer to 

monetize the customer’s security. This 

is contrary to the customer protection 

goals of Rule 15c3–3, which seeks to 

ensure that broker-dealers do not use 

customer assets for proprietary 

purposes. 

Accordingly, we are proposing to add 

a new paragraph (d)(4) to Rule 15c3–3, 

which would add an additional action 

with respect to retrieving securities from 

non-control positions when the brokerdealer needs to obtain possession or 

control over a specific issue and class of 


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30Current paragraph (d)(4) of Rule 15c3–3 would 

be re-designated as paragraph (d)(5). 

31The proposed amendment would not apply to 

securities that are sold for a customer but not 

obtained from the customer within 10 days after the 

settlement date. This circumstance is addressed by 

paragraph (m) of Rule 15c3–3, which requires the 

broker-dealer to close the transaction by purchasing 

securities of like kind and quantity. 17 CFR 

240.15c3–3(m). 

32See 17 CFR 240.15c3–3(a)(8). 

33 In 2005, The New York Stock Exchange LLC 

(‘‘NYSE’’) addressed the issue of disclosure. 

Specifically, the NYSE issued an information memo 

to its members discussing, among other things, the 

disclosure responsibilities of a broker-dealer 

offering a bank sweep program to its customers. See 

Information Memo 05–11 (February 15, 2005). The 

Memo stated that broker-dealers should disclose 

material differences in interest rates between the 

different products and, with respect to the bank 

sweep program, the terms and conditions, risks and 

features, conflicts of interest, current interest rates, 

the manner by which future interest rates will be 

determined, and the nature and extent of FDIC and 

SIPC protection. See id. 

34See NYSE Information Memo 05–11 (February 

15, 2005). 

securities.30 Specifically, under the 

proposal, the broker-dealer would be 

required to take prompt steps to obtain 

physical possession or control over 

securities of the same issue and class as 

those included on the broker-dealer’s 

books as a proprietary short position or 

as a short position for another person. 

By requiring the broker-dealer to obtain 

physical possession or control over the 

security, it would no longer be able to 

monetize the value of the security and 

use the cash for proprietary activities. 

Under the proposal, the action would 

not be required until the short position 

had aged more than 10 business days (or 

more than 30 calendar days if the broker 

or dealer is a market maker in the 

securities).31 Allowing broker-dealers 10 

business days before they must take 

action is consistent with paragraph (m) 

of Rule 15c3–3, which similarly allows 

a broker-dealer up to 10 business days 

after settlement date to purchase 

securities that a customer has sold 

through the broker-dealer but failed to 

deliver. As with the requirement in 

paragraph (m), the proposal’s objective 

is to require a broker-dealer to close an 

open transaction but within a timeframe 

that permits a degree of flexibility. The 

longer 30 calendar day period for 

securities in which the broker-dealer 

makes a market is intended to 

accommodate the short-selling that is 

integral to market-making activities. 

We request comment on all aspects of 

this proposed amendment, including 

whether the proposed time periods 

should be longer or shorter. 

5. Treatment of Free Credit Balances 

and Importation of Rule 15c3–2 

Requirements Into Rule 15c3–3 

i. Treatment of Free Credit Balances 

Free credit balances are funds payable 

by a broker-dealer to its customers on 

demand.32 They may result from cash 

deposited by the customer to purchase 

securities, proceeds from the sale of 

securities or other assets held in the 

customer’s account, or earnings from 

dividends and interest on securities and 

other assets held in the customer’s 

account. Broker-dealers may, among 

other things, pay interest to customers 

on their free credit balances, or offer to 

transfer (sweep) them into a specific 

money market fund or interest bearing 

bank account. The customer earns 

dividends on the money market fund or 

interest on the bank account until such 

time as the customer chooses to 

liquidate the position in order to use the 

cash, for example, to purchase 

securities. 

In recent years, broker-dealers have 

on occasion changed the product to 

which a customer’s free credit balances 

are swept—most frequently from a 

money market fund product to an 

interest bearing bank account. There are 

differences in these two types of 

products, including the type of 

protection afforded the customer in the 

event of an insolvency. The money 

market shares—as securities—would 

receive up to $500,000 in SIPA 

protection in the event the broker-dealer 

failed. The bank deposits—as cash—

would receive $100,000 in protection 

from the Federal Deposit Insurance 

Corporation (‘‘FDIC’’) in the event the 

bank failed. On the other hand, the 

money market fund as a security 

theoretically could lose its principal; 

whereas the bank deposit would be 

guaranteed up to the FDIC’s $100,000 

limit. There also may be differences in 

the amount of interest earned from the 

two products. In short, while not 

judging the appropriateness of either 

option, we note there may be 

consequences to changing options and 

believe that customers should have a 

sufficient opportunity to make an 

informed decision.33

For these reasons, we are proposing to 

amend Rule 15c3–3 by adding a new 

paragraph (j) that would make it 

unlawful for a broker-dealer to convert, 

invest or otherwise transfer free credit 

balances except under three 

circumstances. The first circumstance, 

set forth in proposed paragraph (j)(2)(i) 

of Rule 15c3–3, would permit a brokerdealer to convert, invest, or otherwise 

transfer the free credit balances to any 

type of investment or other product, or 

to a different account within the brokerdealer or at another institution, or 

otherwise dispose of the free credit 

balances, but only upon a specific order, 

authorization, or draft from the 

customer, and only under the terms and 

conditions specified by the customer in 

the order, authorization or draft. This 

proposal is not addressing free credit 

balance sweeps to money market funds 

and bank deposit accounts, but rather 

the use of customer free credit balances 

for other purposes (e.g., to purchase 

securities other than money market 

funds, or to transfer to a different 

account or financial institution). In 

these circumstances, the proposed 

paragraph would prohibit any 

investment, conversion, or other transfer 

of the free credit balances except on the 

customer’s specific order, authorization, 

or draft. 

The second and third circumstances, 

set forth in proposed paragraphs (j)(2)(ii) 

and (iii) of Rule 15c3–3, address the 

sweeping of free credit balances to 

either a money market fund or a bank 

deposit account. The former applies to 

new customers and the latter to existing 

customers as of the date the proposed 

amendments would become effective. 

Proposed paragraph (j)(2)(ii) of Rule 

15c3–3 would permit a broker-dealer to 

have the ability to change the sweep 

option of a new customer from a money 

market fund to a bank deposit account 

(and vice versa), provided certain 

specific conditions are met. First, the 

customer would need to agree prior to 

the change (e.g., in the account opening 

agreement) that the broker-dealer could 

switch the sweep option between those 

two types of products. Second, the 

broker-dealer would need to provide the 

customer with all notices and 

disclosures regarding the investment 

and deposit of free credit balances 

required by the self-regulatory 

organizations for which the brokerdealer is a member.34 Third, the brokerdealer would need to provide the 

customer with notice in the customer’s 

quarterly statement that the money 

market fund or bank deposit account 

can be liquidated on the customer’s 

demand and converted back into free 

credit balances held in the customer’s 

securities account. Fourth, the brokerdealer would need to provide the 

customer with notice at least 30 

calendar days before changing the 

product (e.g., from one money market 

fund to another), the product type (e.g., 

from a money market fund to a bank 

account), or the terms and conditions 

under which the free credit balances are 

swept. The notice would need to 

describe the change and explain how 

the customer could opt out of it. 

The third circumstance, set forth in 

proposed paragraph (j)(2)(iii) of Rule 


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35See Exchange Act Release No. 7266 (March 12, 

1964). 

36Rule 15c3–2 contains an exemption for brokerdealers that also are banking institutions supervised 

by a Federal authority. This exemption would not 

be imported into Rule 15c3–3 because there are no 

broker-dealers left that fit within the exemption. 

Further, under the proposed amendment, the 

definition of ‘‘customer’’ for purposes of the 

imported 15c3–2 requirements would be the 

definition of ‘‘customer’’ in Rule 15c3–3, which is 

somewhat narrower than the definition in Rule 

15c3–2. 

37Under the ‘‘basic method,’’ a broker-dealer 

cannot permit its aggregate indebtedness (generally 

total money liabilities) to exceed 1500% of its net 

capital. 17 CFR 15c3–1(a)(1)(i). 

38Under the ‘‘alternative standard,’’ a brokerdealer’s minimum net capital requirement is equal 

to 2% of the firm’s aggregate debit items. 17 CFR 

240.15c3–1(a)(1)(ii). 

39 17 CFR 240.15c3–1(a)(1)(ii)(A). 

40See Exchange Act Release No. 11497 (June 26, 

1975). Prior to 1975, the rule only applied to brokerdealers that were not a member of a securities 

exchange, since exchange members were subject to 

capital rules promulgated by the exchanges. Id. 

41See id. 

42 Id. 

43 Id. 

44 Id. 

45 Id. 

46 Id. 

47Exchange Act Release 18417 (January 13, 1982), 

47 FR 3512 (January 25, 1982). 

15c3–3, would apply to existing 

customers as of the effective date of the 

proposed rule. It would permit a brokerdealer to have the option to change an 

existing customer’s sweep option from a 

money market fund to a bank deposit 

account (and vice versa), provided the 

second, third, and fourth conditions set 

forth in proposed paragraph (j)(2)(ii) 

discussed above were met. To minimize 

the burden on the broker-dealer, 

proposed paragraph (j)(2)(iii) would not 

require the broker-dealer to obtain the 

customer’s previous agreement to 

permit the broker-dealer to switch the 

sweep option between money market 

fund products and bank deposit account 

products. This would avoid the 

necessity of having to amend each 

existing customer account agreement. 

Because all the other conditions in 

proposed paragraph (j)(2)(ii) would 

apply, the broker-dealer would be 

required to provide existing customers 

with the various notices and disclosures 

that must be made to new customers, 

including giving notice at least 30 

calendar days before the sweep option 

was changed and in that notice explain 

the change and how the customer could 

opt out of it. 

We request comment on all aspects of 

this proposed amendment, including: 

(1) Whether it would provide adequate 

protection to customers with respect to 

changes in the treatment of their free 

credit balances, (2) on the cost burdens 

(quantified to the extent possible) that 

would result if the condition in 

proposed paragraph (j)(2)(ii)(A) of Rule 

15c3–3 to obtain a new customer’s prior 

agreement were to be applied to existing 

customers, (3) whether there are other 

sweep products in addition to money 

market mutual funds and bank deposit 

accounts that could be contemplated in 

proposed paragraphs (j)(2)(ii) and (iii) of 

Rule 15c3–3, and (4) whether the 

treatment of free credit balances has 

already been adequately addressed by 

the self-regulatory organizations. 

ii. Importation of Rule 15c3–2 

Rule 15c3–2 requires a broker-dealer 

holding free credit balances to provide 

its customers (defined as any person 

other than a broker-dealer) at least once 

every three months with a statement of 

the amount due the customer and a 

notice that (1) the funds are not being 

segregated, but rather are being used in 

the broker-dealer’s business, and (2) that 

the funds are payable on demand. The 

rule was adopted in 1964 before the 

adoption of Rule 15c3–3.35 Since the 

adoption of Rule 15c3–3, a brokerdealer, as noted above, has been limited 

in how it may use customer free credit 

balances. While the reserve account 

required under Rule 15c3–3 is in the 

name of the broker-dealer and the assets 

therein remain a part of its capital, the 

assets in the account are held for the 

exclusive benefit of the broker-dealer’s 

customers. In a liquidation of the 

broker-dealer, the assets in the account 

will be available to satisfy customer 

claims ahead of all other creditors. 

We believe the adoption of Rule 

15c3–3 has eliminated the need to have 

a separate Rule 15c3–2. At the same 

time, we believe certain of the 

requirements in Rule 15c3–2 should be 

imported into Rule 15c3–3; namely, the 

requirements that broker-dealers inform 

customers of the amounts due to them 

and that such amounts are payable on 

demand.36 Accordingly, we are 

proposing to eliminate Rule 15c3–2 and 

amend Rule 15c3–3 to include these 

latter requirements. 

We request comment on all aspects of 

this proposed amendment. Commenters 

are encouraged to provide data to 

support their views. 

6. Aggregate Debit Items Charge 

Note E(3) to the customer reserve 

formula (Rule 15c3–3a) requires a 

broker-dealer using the ‘‘basic method’’

of computing net capital under Rule 

15c3–1 to reduce by 1% the total debits 

in Item 10 of the formula (i.e., debit 

balances in customer’s cash and margin 

accounts).37 This 1% reduction in Item 

10 debits lowers the amount of total 

debit items in the formula. Because the 

debits offset aggregate credits in 

determining customer reserve 

requirements, the reduction has the 

potential to increase the amount a 

broker-dealer must maintain in the 

reserve account. Under paragraph 

(a)(1)(ii)(A) of Rule 15c3–1 however, 

broker-dealers using the ‘‘alternative 

standard’’ 38 to compute their minimum 

net capital requirement must reduce 

aggregate debit items by 3% in lieu of 

the 1% reduction required by Note 

E(3).39 Thus, the deduction applicable 

to alternative standard firms can result 

in an even larger reserve deposit 

requirement. 

The Commission adopted the 

alternative standard as part of the 1975 

amendments to Rule 15c3–1, which 

expanded the rule’s scope to apply to all 

broker-dealers.40 The alternative 

standard constituted a new way of 

providing for the capital adequacy of a 

broker-dealer in that it diverged from 

the traditional notion of limiting a firm’s 

leverage.41 The alternative standard 

instead imposes a capital requirement 

based on the size of the broker-dealer’s 

commitments to its customers through 

margin lending and other transactions. 

Thus, it requires a broker-dealer to hold 

net capital equal to a percentage of its 

customer commitments. The alternative 

standard was designed to integrate a 

broker-dealer’s capital requirement 

under Rule 15c3–1 with the customer 

protection requirements in Rule 15c3–3; 

hence it uses the aggregate debit 

computation required by Rule 15c3–3 to 

determine a broker-dealer’s net capital 

requirement under Rule 15c3–1.42

As part of the amendments adopting 

the alternative standard, the 

Commission lowered the haircut on 

equity securities from 30% to 15% for 

a broker-dealer using the standard.43 At 

the same time, it amended Rule 15c3–

1 to require alternative standard firms to 

employ the greater 3% reduction of 

debit items.44 The Commission 

explained the greater requirement as 

providing, ‘‘in the event of a liquidation 

[of the broker-dealer], an additional 

cushion of secured debit items which 

will be available to satisfy customers 

with whom the broker or dealer effects 

transactions.’’ 45

Originally, the alternative standard 

required a broker-dealer to hold net 

capital equal to 4% of its customer 

debits.46 The Commission lowered this 

requirement to 2% in 1982.47 It 

explained its decision as being based on 

broker-dealers’ improved back-office 

systems and increased use of clearing 


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48 Id. 

49 Id. 

50 Id. 

51Exchange Act Release No. 31511 (November 24, 

1992), 57 FR 56973 (December 2, 1992). 

52 17 CFR 240.15c3–3(a)(8). 

53Rule 1.20 (17 CFR 1.20) requires a futures 

commission merchant to segregate ‘‘customer’’

funds. Rule 1.3(k) (17 CFR 1.3(k)) defines the term 

‘‘customer’’ for this purpose. The definition of 

‘‘customer’’ excludes persons who own or hold a 

‘‘proprietary account’’ as that term is defined in 

Rule 1.3(y) (17 CFR 1.3(y)). Generally, the definition 

of ‘‘proprietary account’’ refers to persons who have 

an ownership interest in the futures commission 

merchant. See 17 CFR 1.3(y). 

54To receive protection under SIPA, a claimant 

must first qualify as a ‘‘customer’’ as that term is 

defined in the statute. Generally, a ‘‘customer’’ is 

any person who has (1) ‘‘a claim on account of 

securities received, acquired, or held by the [brokerdealer],’’ (2) ‘‘a claim against the [broker-dealer] 

arising out of sales or conversions of such 

securities’’ or (3) ‘‘deposited cash with the debtor 

for the purposes of purchasing securities.’’ 15 

U.S.C. 78lll(2). The definition of ‘‘security’’ in SIPA 

specifically excludes commodities and nonsecurities futures contracts (see 15 U.S.C. 78lll(14)) 

and, thus, a person with a claim for such assets 

would not meet the definition of ‘‘customer.’’

55Exchange Act Release No. 54918 (December 12, 

2006), 72 FR 1044 (January 9, 2007) (SR–NYSE–

2006–13); Exchange Act Release No. 54919 

(December 12, 2006), (SR–CBOE 2006–14); 

Exchange Act Release No. 52031 (July 14, 2005), 70 

FR 42130 (July 21, 2005) (SR–NYSE–2002–19); 

Exchange Act Release No. 52032 (July 14, 2005), 70 

FR 42118 (July 21, 2005) (SR–CBOE–2002–03). 

56The definition of ‘‘security’’ in SIPA includes 

a futures contract that also is a security; namely, a 

‘‘security future’’ as defined in section 3(a)(55)(A) 

of the Exchange Act. See 15 U.S.C. 78lll(14). 

agencies.48 These developments made it 

possible for the firms to handle large 

volumes of trading without 

experiencing operational and 

bookkeeping problems.49 The 

Commission also noted that the SROs 

had upgraded their surveillance 

programs and that the early warning 

rules of both the Commission and the 

SROs remained significantly higher than 

the 2% minimum requirement.50

In recent years, the amount of debit 

items carried by broker-dealers has 

increased substantially. Consequently, 

the 3% reduction in debit items has 

required many broker-dealers using the 

alternative standard to increase their 

reserve deposits by additional amounts 

that are far in excess of the additional 

cushion envisioned when the 

amendment was adopted in 1975. 

Furthermore, the level of risk assumed 

by broker-dealers does not increase 

proportionately as the aggregate amount 

of debits increases; due, in part, to an 

increase in diversity among the debits. 

The proportional 3% reduction of debit 

items does not recognize this 

diversification benefit. 

Moreover, in 1992, the Commission 

amended Rule 15c3–1 to lower the 

haircut for broker-dealers using the 

basic method to 15%, which brought 

their requirement in line with the 

alternative standard firms.51 The 15% 

haircut for equity securities has proven 

sufficient to cover most market moves 

and, therefore, we believe the increased 

level of protection derived from the 

greater 3% debit item reduction likely 

would not provide a benefit justified by 

the costs. 

For these reasons, we believe it is now 

appropriate to treat broker-dealers using 

the alternative standard on a par with 

firms using the basic method and, 

therefore, propose lowering the debit 

reduction applicable to alternative 

standard firms. We would apply a 1% 

reduction, rather than a 3% reduction, 

for alternative standard firms. The 1% 

reduction should provide an adequate 

cushion, given these firms’ current 

levels of debit items, which—as noted—

are far greater than existed when the 

rule was adopted in 1975 or amended in 

1982. Our proposal would amend 

paragraph (a)(1)(ii)(A) of Rule 15c3–1 by 

removing the provision requiring the 

3% reduction. This would make 

alternative standard firms subject to the 

1% reduction in debit items as required 

in Note E(3) of Rule 15c3–3a. 

We request comment on all aspects of 

this proposed amendment, including 

whether the benefits of the 3% 

reduction outweigh any costs that might 

arise from the proposal. Commenters are 

requested to identify potential costs and 

provide data to support their views. 

7. ‘‘Proprietary Accounts’’ Under the 

Commodity Exchange Act 

Certain broker-dealers also are 

registered as futures commission 

merchants under the Commodity 

Exchange Act (‘‘CEA’’). These firms 

carry both securities and commodities 

accounts for customers. The definition 

of ‘‘free credit balances’’ in paragraph 

(a)(8) of Rule 15c3–3 excludes funds 

that are carried in commodities 

accounts that are segregated in 

accordance with the requirements of the 

CEA.52 However, regulations 

promulgated under the CEA exclude 

certain types of accounts (‘‘proprietary 

accounts’’) from the segregation 

requirement.53 The question has arisen 

as to whether a broker-dealer holding 

these types of accounts must include 

funds in them as ‘‘free credit balances’’

when performing a customer reserve 

computation. 

These funds likely would not be 

protected in a SIPA proceeding because 

they are related to commodities 

transactions.54 The purpose behind the 

cash reserve requirements in Rule 15c3–

3 is to require broker-dealers to hold 

sufficient funds with which to satisfy 

customer claims arising from securities 

(not commodities) transactions and, 

thereby, to minimize the need for a 

SIPA liquidation. This purpose would 

not be served by treating funds held in 

commodities accounts (that are not 

segregated under CEA regulations) as 

‘‘free credit balances.’’ Accordingly, we 

are proposing an amendment to 

paragraph (a)(8) of Rule 15c3–3, which 

would clarify that funds held in a 

commodity account meeting the 

definition of a ‘‘proprietary account’’

under CEA regulations are not to be 

included as ‘‘free credit balances’’ in the 

customer reserve formula. 

We request comment on all aspects of 

this proposed amendment. Commenters 

are encouraged to provide data to 

support their views. 

B. Holding Futures Positions in a 

Securities Portfolio Margin Account 

The Chicago Board of Options 

Exchange, Incorporated (‘‘CBOE’’) and 

the NYSE have amended their margin 

rules to permit broker-dealer members 

to compute customer margin 

requirements using a portfolio margin 

methodology (‘‘Portfolio Margin 

Rules’’).55 A portfolio margining 

methodology computes margin 

requirements based on the net market 

risk of all positions in an account 

assuming certain potential market 

movements. Under the Portfolio Margin 

Rules, a broker-dealer can combine 

securities and futures positions into the 

portfolio margin account. SIPA, 

however, only protects customer claims 

for securities and cash and specifically 

excludes from protection futures 

contracts that are not also securities.56

This raises a question as to how futures 

positions in a portfolio margin account 

would be treated in a SIPA liquidation. 

Consequently, we are proposing 

amendments to Rules 15c3–3 and 15c3–

3a that are designed to provide the 

protections of Rule 15c3–3 and SIPA to 

futures positions in a securities account 

under the Portfolio Margin Rules. 

First, we propose amending the 

definition of ‘‘free credit balances’’ in 

paragraph (a)(8) of Rule 15c3–3 to 

include funds resulting from margin 

deposits and daily marks to market 

related to, and proceeds from the 

liquidation of, futures on stock indices 

and options thereon carried in a 

securities account pursuant to a 

portfolio margining rule of an SRO. 

Under this amendment, a broker-dealer 

holding such funds would have to treat 

them as ‘‘credit items’’ for purposes of 

the customer reserve computation. 

Consequently, the futures-related funds 


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57 If a person qualifies as a ‘‘customer’’ under 

SIPA, the next inquiry is to value the amount of the 

customer’s claim. This step is accomplished by 

reference to the definition of ‘‘net equity’’ in SIPA. 

15 U.S.C 78lll(11). Generally, ‘‘net equity’’ is the 

‘‘dollar amount of the [customer’s] account’’ as 

determined by calculating the sum that would have 

been owed the customer had the securities in the 

customer’s account been liquidated on the date the 

SIPA proceeding was commenced minus any 

amounts owed by the customer to the broker-dealer. 

58The term ‘‘filing date’’ is defined in SIPA as, 

generally, being the date a SIPA proceeding is 

commenced. See 15 U.S.C. 78lll(7). 

59 Generally, futures and futures options in a 

portfolio margin account would be transferred to a 

solvent broker-dealer or liquidated before the 

initiation of a SIPA proceeding. Consequently, these 

proposals are highly cautionary as it is unlikely that 

a broker-dealer would be placed in a SIPA 

liquidation while still holding these types of 

positions in customer accounts. 

60 15 U.S.C. 78lll(4)(B). 

61Margin posted at a futures clearing organization 

for securities futures products currently is treated 

in this manner. See 17 CFR 240.15c3–3a. 

62 In computing net capital under Rule 15c3-1, a 

broker-dealer generally must make a deduction in 

the amount that the market value of securities 

loaned exceeds the value of collateral received. 17 

CFR 240.15c3-1(c)(2)(iv)(B). Likewise, a brokerdealer must make a deduction in the amount the 

value of collateral posted exceeds the value of 

securities borrowed to the extent the excess is 

greater than certain percentages. This permits the 

broker-dealer to provide excess collateral in 

conformance with industry standards without 

taking the deduction. In either case, the brokerdealer is not required to take the deduction, 

provided it issues a mark-to-market call and collects 

payment the same day. 

in a portfolio margin account would 

need to be included with all other credit 

items when a broker-dealer computed 

its customer reserve requirement under 

Rule 15c3–3. Further, because free 

credit balances constitute ‘‘cash’’ in a 

customer’s account, they are ‘‘cash’’ for 

purposes of determining a customer’s 

‘‘net equity’’ in a SIPA liquidation.57

Our proposed amendment to the 

definition of ‘‘free credit balances’’ also 

would bring within the definition’s 

scope the market value of futures 

options in a portfolio margin account as 

of the SIPA ‘‘filing date.’’ 58 Unlike 

futures contracts, futures options do not 

take the form of cash balances in the 

account (i.e., they have market value at 

the end of a trading day). Since the 

broker-dealer is not holding cash for the 

customer there is not the need to treat 

the futures options as a ‘‘free credit 

balance’’ and require a credit in the 

reserve formula. However, if the brokerdealer is liquidated under SIPA, the 

unrealized gains or losses of the futures 

options should be included in 

calculating the customer’s net equity in 

the account (along with the cash 

balances related to the futures contracts 

and the securities positions and related 

cash balances). The proposed 

amendment is designed to provide for 

this outcome by defining the market 

value of the futures options as a free 

credit balance in the event the brokerdealer becomes subject to a SIPA 

proceeding. As ‘‘free credit balances,’’

funds resulting from margin deposits 

and daily marks to market related to 

futures and the market value of futures 

options as of the SIPA filing date would 

constitute claims for cash in a SIPA 

proceeding and, therefore, become a 

part of a customer’s ‘‘net equity’’ claim 

and be entitled to up to $100,000 in 

advances to make up for shortfalls.59

On the debit side of the customer 

reserve formula, we are proposing an 

amendment to Rule 15c3–3a Item 14 

that would permit the broker-dealer to 

include as a debit item the amount of 

customer margin required and on 

deposit at a futures clearing 

organization related to futures positions 

carried in a securities account pursuant 

to an SRO portfolio margin rule. Under 

SIPA, the term ‘‘customer property’’

includes ‘‘resources provided through 

the use or realization of customers’’

debit cash balances and other customerrelated debit items as the Commission 

defines by rule.’’ 60 Under this provision 

of SIPA, this proposed amendment to 

Rule 15c3–3a would make the margin 

required and on deposit at a futures 

clearing organization part of the 

‘‘customer property’’ in the event the 

broker-dealer is placed in a SIPA 

liquidation.61 Thus, it would be 

available to the liquidation trustee for 

distribution to the failed firm’s 

customers. 

We believe our proposed amendments 

designed to provide the protections of 

Rule 15c3–3 and SIPA to all positions 

in a securities account established 

under an SRO portfolio margin rule are 

warranted given that the futures 

positions in the account serve as hedges 

for the securities positions and, 

therefore, reduce the risk of the 

securities positions. The intermingled 

nature of the positions, margin or 

deposit, and the fact that the futures 

positions reduce the amount of margin 

necessary to carry the securities 

positions makes it highly practical to 

treat all the positions in accordance 

with the requirements of Rule 15c3–3 

and, as part of the customer’s ‘‘net 

equity’’ in a SIPA liquidation. 

We solicit comment on whether this 

approach represents a workable solution 

to providing SIPA protection to 

portfolio margin accountholders. In 

particular, we request comment as to 

whether there are other approaches the 

Commission may pursue that are 

designed to provide SIPA protection to 

futures related cash and futures options 

in portfolio margin accounts. 

C. Amendments With Respect to 

Securities Lending and Borrowing and 

Repurchase/Reverse Repurchase 

Transactions 

Securities lending and repurchase 

transactions by institutions are an 

important element of the financial 

markets. In a typical securities lending 

transaction, the parties agree that the 

owner of the securities (e.g., a pension 

fund, institutional investor, bank, or 

broker-dealer) will lend securities to a 

borrower, and the borrower will be 

required to return securities of like kind 

and quantity to the lender. To protect 

the lender’s interest, the borrower 

typically will provide cash or other 

securities as collateral in excess of the 

market value of the securities loaned.62

In the typical securities repurchase/ 

reverse repurchase transaction (‘‘repo 

transactions’’), a buyer agrees to 

purchase securities from a seller and the 

seller agrees to repurchase them at some 

time in the future at the sale price plus 

some additional consideration. Thus, if 

the securities increase in value, the 

seller is at risk that the buyer will 

default on its obligation to resell them 

at the original contract price. 

Conversely, if the securities decrease in 

value, the buyer is at risk that the seller 

will default on its obligation to 

repurchase them at the original contract 

price. To address these risks, the 

securities underlying the agreement are 

marked to market daily and, if their 

value rises above the contract price, the 

buyer provides margin to the seller to 

secure the buyer’s obligation to resell 

the securities at a price lower than 

market value. Alternatively, if the value 

of the securities falls below the contract 

price, the seller provides margin to the 

buyer to secure the seller’s obligation to 

repurchase the securities at a price 

above the market value. 

In addition to participating in 

securities lending transactions, brokerdealers provide a variety of services to 

other borrowers and lenders, including 

counterparty credit evaluation, 

collateral management, and 

administration of distributions and 

corporate actions. Moreover, a brokerdealer may negotiate the loan as agent 

for both parties (divulging their 

identities just prior to the transaction) or 

by interposing itself as principal 

between two undisclosed counterparties 

as a conduit lender. 

The failure of MJK Clearing, Inc. 

(‘‘MJK’’)—the largest SIPA liquidation to 

date—raised several concerns regarding 

securities lending transactions. The 


ycherry on PROD1PC64 with PROPOSALS2
12870 Federal Register / Vol. 72, No. 52 / Monday, March 19, 2007 / Proposed Rules 

63See SEC Litigation Release No. 18641, 2004 

LEXIS 706 (March 26, 2004); SEC Complaint, SEC 

v. Thomas G. Brooks, Civil Action No. CV 03–3319 

ADM/AJB, United States District Court (D. Minn. 

June 2, 2003); SEC v. Thomas G. Brooks, SEC 

Litigation Release No. 18168, 2003 SEC LEXIS 1321 

(June 3, 2003); SEC Complaint, SEC v. Kenneth P. 

D’Angelo et al., Case No. LACV 03–6499 CAS 

(VBKx), United States District Court (C.D.Cal. 

September 11, 2003); SEC Litigation Release No. 

18344, 2003 SEC LEXIS 2173 (September 11, 2003). 64 Id.; See also, In re MJK Clearing, Inc., 2003 U.S. 

Dist. LEXIS 5954 (D.Minn. 2003). 65See, e.g., Nomura v. E*Trade, 280 F.Supp. 2d 

184 (S.D.N.Y. 2003). 66See id. 67Under paragraph (c)(2)(iv)(B) of Rule 15c3–1, 

broker-dealers are required to deduct from net 

worth most unsecured receivables, including the 

amount that the market value of a securities loan 

exceeds the value of collateral obtained for the loan. 

Similarly, with respect to repo transactions, a 

broker-dealer obligated to resell securities must, in 

computing net capital, deduct the amount that the 

market value of the securities is less than the resale 

price. 17 CFR 240.15c3–1(c)(2)(iv)(F). A brokerdealer obligated to repurchase securities must, in 

computing net capital, deduct the amount that the 

market value of the securities is greater than the 

repurchase price to the extent the excess is greater 

than certain percentages. 17 CFR 240.15c3–

1(c)(2)(iv)(F). 

68Standard master securities loan agreements 

(including the annexes thereto) commonly used by 

the parties to a securities lending transaction 

contain similar provisions for establishing agent (as 

opposed to principal) status in a securities lending 

and borrowing transaction. See, e.g., 2000 Master 

Securities Loan Agreement, Annex I, published by 

The Bond Market Association. 

69 15 U.S.C. 78c(a)(42). ‘‘Government securities’’

generally present less market risk than other types 

of securities used in securities lending and repo 

transactions. Consequently, they are excluded from 

the scope of this proposed rule. 

70Market risk involves the risk that prices or rates 

will adversely change due to economic forces. Such 

risks include adverse effects of movements in 

equity and interest rate markets, currency exchange 

rates, and commodity prices. Market risk can also 

include the risks associated with the cost of 

borrowing securities, dividend risk, and correlation 

risk. 

71Credit risk comprises risk of loss resulting from 

counterparty default on loans, swaps, options, and 

during settlement. 

72Liquidity risk includes the risk that a firm will 

not be able to unwind or hedge a position or meet 

cash demands as they become due. 

73Operational risk encompasses the risk of loss 

due to the breakdown of controls within the firm 

including, but not limited to, unidentified limit 

excesses, unauthorized trading, fraud in trading or 

in back office functions, inexperienced personnel, 

and unstable and easily accessed computer systems. 

Commission, in two civil complaints,63

alleged that MJK engaged in conduit 

securities lending transactions involving 

shares of a company called 

GenesisIntermedia, Inc. According to 

the complaints, MJK borrowed shares of 

GenesisIntermedia from one brokerdealer, providing cash collateral equal 

to the market value of the borrowed 

shares. MJK then re-lent the 

GenesisIntermedia shares to other 

broker-dealers that provided cash 

collateral in return. As indicated in the 

complaints, after the transactions, the 

market value of the GenesisIntermedia 

shares declined dramatically. The 

complaints also describe how MJK 

returned cash collateral to the 

borrowing broker-dealers as the shares 

declined in value but did not collect 

excess cash collateral provided to the 

broker-dealer that lent the shares to 

MJK. Eventually, MJK went out of 

business. At the time of its failure, MJK 

still owed cash collateral to several of 

the borrowing broker-dealers.64

MJK’s failure caused losses to the 

borrowing broker-dealers and to other 

firms to whom those broker-dealers relent the borrowed securities.65 In 

subsequent litigation, disputes have 

arisen as to whether certain of these 

broker-dealers were acting as principals 

or agents.66 Uncertainty as to whether 

broker-dealers are acting as principal or 

agent in a securities loan transaction 

raises concerns as to whether firms are 

taking required net capital charges 

related to their securities lending 

activities.67 A broker-dealer might not 

take the required charges on the theory 

that it was arranging the loans as agent, 

rather than principal, notwithstanding 

the fact that there was no express 

disclaimer of principal liability. 

We are proposing two amendments 

designed to improve regulatory 

oversight of securities lending and repo 

transactions. The first proposal would 

amend subparagraph (c)(2)(iv)(B) to 

Rule 15c3–1 to clarify that brokerdealers providing securities lending and 

borrowing settlement services are 

assumed, for purposes of the rule, to be 

acting as principals and are subject to 

applicable capital deductions. Under 

the proposed amendment, these 

deductions could be avoided if a brokerdealer takes certain steps to disclaim 

principal liability. Namely, the brokerdealer would be required to disclose the 

identities of the borrower and lender to 

each other and obtain written 

agreements from the borrower and 

lender stating that the broker-dealer is 

acting exclusively as agent and assumes 

no principal liability in connection with 

the transaction.68

The second proposal would add a 

paragraph (c)(5) to Rule 17a–11, which 

would require broker-dealers to notify 

the Commission whenever the total 

amount of money payable against all 

securities loaned or subject to a 

repurchase agreement, or the total 

contract value of all securities borrowed 

or subject to a reverse repurchase 

agreement exceeds 2,500 percent of 

tentative net capital; provided that, for 

purposes of this leverage threshold, 

transactions involving ‘‘government 

securities’’ as defined in Section 3(a)(42) 

of the Exchange Act, are excluded from 

the calculation.69 Based on FOCUS 

report data, we estimate that a leverage 

threshold of 25 times tentative net 

capital would be triggered by 21 brokerdealers on a regular basis. We believe 

that this indicates the proposed 

threshold is high enough to only capture 

on a regular basis those few firms highly 

active in securities lending and repos. 

Accordingly, it is an appropriate notice 

trigger for a firm that historically has not 

been as active in these transactions but 

rapidly leverages up its positions. 

We believe that receiving notice when 

this threshold is exceeded would help 

identify broker-dealers with highly 

leveraged non-government securities 

lending and borrowing and repo 

operations and make it easier for 

regulators to respond more quickly and 

protect customers in the event a firm is 

approaching insolvency. To avoid 

frequent filing by firms that engage 

predominantly in securities lending and 

repo transactions, the proposal would 

give a broker-dealer the option of 

submitting monthly reports regarding its 

securities lending and repo activities to 

its designated examining authority. 

We request comment on all aspects of 

these proposed amendments, including 

whether there are other steps the 

Commission should take to reduce the 

risk that a broker-dealer will fail as a 

consequence of a breakdown in its 

securities lending or repurchase 

activities. We also seek comment on the 

appropriateness of the 2,500% of 

tentative net capital early warning 

trigger and whether a smaller or larger 

leverage test should be employed. 

D. Documentation of Risk Management 

Procedures 

The failure of MJK highlights the 

importance of broker-dealers 

documenting their implemented 

controls for managing the material risk 

exposures that arise from their business 

activities. For example, a broker-dealer 

active in securities lending is exposed to 

a variety of risks, including market 

risk,70 credit risk,71 liquidity risk 72 and 

operational risk.73 Other broker-dealer 

activities give rise to these risks as well, 

including managing a repo book, 

dealing in OTC derivatives, trading 

proprietary positions and lending on 

margin. A well-documented system of 

internal controls designed to manage 

material risk exposures enables a 

broker-dealer’s management to identify, 

analyze, and manage the risks inherent 

in the firm’s business activities with a 

view to preventing significant losses. 

The need for such controls is 

particularly urgent with respect to the 


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74Pub. L. 107–204, 116 Stat. 745 (2002). 

75See Securities Act Release No. 8238, Exchange 

Act Release No. 47986; Investment Company Act 

Release No. 26068 (June 5, 2003), 68 FR 36635 (June 

18, 2003). 76See 17 CFR 240.15c3–1(c)(2). 

77See Study of Unsafe and Unsound Practices of 

Broker-Dealers, Report and Recommendations of 

the Securities and Exchange Commission, H.R. Doc. 

NO. 92–231 (1971). 

78Letter from Michael A. Macchiaroli, Associate 

Director, Division of Market Regulation, 

Continued 

largest broker-dealers, which generally 

engage in a wide range of highly 

complex businesses across many 

different markets and geographical 

locations. 

We believe that, for the most part, 

these firms as a matter of business 

practice already have well-documented 

procedures and controls for managing 

risks. Moreover, many are part of a 

public company subject to the 

requirements of section 404 of the 

Sarbanes-Oxley Act of 2002,74 and the 

Commission’s rules thereunder,75 which 

require the company to include in its 

annual report a report of management 

on the company’s internal control over 

financial reporting. Notwithstanding the 

fact that many broker-dealers already 

have documented their implemented 

internal controls as a matter of business 

practice or because they are part of 

public companies subject to the 

requirements under Sarbanes-Oxley, we 

believe it is important to reinforce the 

practice, particularly for broker-dealers 

that are not part of public companies, 

and make it easier for regulators to 

access a broker-dealer’s procedures and 

controls. Consequently, we are 

proposing amendments to the books and 

records rules that would require certain 

broker-dealers to make and keep current 

records documenting their implemented 

systems of internal risk management 

control. 

The proposal would add a paragraph 

(a)(23) to Rule 17a–3, which would 

require certain large broker-dealers to 

document any implemented internal 

risk management control designed to 

assist in analyzing and managing the 

risks (e.g., market, credit, liquidity, 

operational) arising from the business 

activities it engages in, including, for 

example, securities lending and repo 

transactions, OTC derivative 

transactions, proprietary trading and 

margin lending. The requirement only 

would apply to broker-dealers that have 

more than (1) $1,000,000 in aggregate 

credit items as computed under the 

customer reserve formula of Rule 15c3–

3, or (2) $20,000,000 in total capital 

including debt subordinated in 

accordance with Appendix D to Rule 

15c3–1. This would limit the proposed 

rule’s application to the broker-dealers 

that, because of their complexity and 

size, are subject to the greatest risks and 

whose failure to adequately manage the 

risks could have the largest systemic 

impact. We estimate there are 

approximately 500 such firms. 

The proposal also would add a 

paragraph (e)(9) to Rule 17a–4, which 

would require a broker-dealer to 

maintain these records for three years 

after the date the broker-dealer ceases to 

use the system of controls. We believe 

that the additional three years creates an 

audit trail between former and current 

procedures and provides regulators with 

sufficient opportunity to review the 

records during the broker-dealer’s 

normal exam cycle. 

We are not proposing any minimum 

elements that would be required to be 

included in a firm’s internal controls or 

specifying issues that should be 

addressed. Rather, the amendment is 

designed to ensure that broker-dealers 

clearly identify the procedures, if any, 

they use to manage the risks in their 

business. We believe the proposed 

documentation requirement would help 

firms and their designated examining 

authorities identify gaps in their 

internal procedures. Moreover, brokerdealers that have already documented 

their internal controls would not be 

required to take any further steps other 

than to retain the written procedures for 

three years after new controls were put 

in place and maintain the procedures in 

a manner that makes them readily 

available to the Commission and other 

securities regulators (to the extent they 

were not already readily available). 

We request comment on all aspects of 

these amendments, including whether 

either of the criteria as to which brokerdealers would be subject to the 

proposed requirement should be lower 

or higher, or whether we should 

consider some other criteria for 

application of the proposed 

requirement. 

E. Amendments to the Net Capital Rule 

1. Requirement To Subtract From Net 

Worth Certain Liabilities or Expenses 

Assumed by Third Parties and NonPermanent Capital Contributions 

Under Rule 15c3–1, broker-dealers are 

required to maintain, at all times, a 

minimum amount of net capital. The 

rule generally defines ‘‘net capital’’ as a 

broker-dealer’s net worth (assets minus 

liabilities), plus certain subordinated 

liabilities, less certain assets that are not 

readily convertible into cash (e.g., fixed 

assets), and less a percentage (haircut) of 

certain other liquid assets (e.g., 

securities).76 Broker-dealers are required 

to calculate net worth using generally 

accepted accounting principles. 

Based on our experience, we are 

concerned that some broker-dealers may 

be excluding from their calculations of 

net worth certain liabilities that relate 

directly to expenses or debts incurred 

by the broker-dealer. The accounting 

justification for the exclusion is that a 

third-party (usually a parent or affiliate) 

has assumed responsibility for these 

expenses and debts through an expense 

sharing agreement. In some cases, 

however, the third-party does not have 

the resources—independent of the 

broker-dealer’s revenues and assets—to 

assume these liabilities. Thus, the thirdparty is dependent on the resources of 

the broker-dealer to pay the expenses 

and debts. Excluding liabilities from the 

broker-dealer’s net worth calculation in 

these situations may misrepresent the 

firm’s actual financial condition, 

deceive the firm’s customers, and 

hamper the ability of regulators to 

monitor the firm’s financial condition. 

For these reasons, we are proposing 

an amendment to Rule 15c3–1 that 

would add a new paragraph (c)(2)(i)(F) 

requiring a broker-dealer to adjust its 

net worth when calculating net capital 

by including any liabilities that are 

assumed by a third-party if the brokerdealer cannot demonstrate that the 

third-party has the resources 

independent of the broker-dealer’s 

income and assets to pay the liabilities. 

To evidence a third-party’s financial 

capacity, the broker-dealer could 

maintain as a record the third party’s 

most recent and current (i.e., as of a date 

within the previous twelve months) 

audited financial statements, tax return 

or regulatory filing containing financial 

reports. 

Based on our experience, we also are 

concerned that broker-dealers may be 

receiving capital contributions from 

individual investors that are 

subsequently withdrawn after a short 

period of time (often less than a year). 

In some cases, the capital may be 

contributed under an agreement giving 

the investor the option to withdraw the 

capital at the investor’s discretion. In 

the past, the Commission has 

emphasized that capital contributions to 

broker-dealers should not be 

temporary 77 and the Commission staff 

has explained that a capital contribution 

should be treated as a liability if it is 

made with the understanding that the 

contribution can be withdrawn at the 

option of the investor.78 We are 


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12872 Federal Register / Vol. 72, No. 52 / Monday, March 19, 2007 / Proposed Rules 

Commission, to Raymond J. Hennessy, Vice 

President, NYSE, and Susan DeMando, Vice 

President, NASD Regulation, Inc. (February 23, 

2000). 

79These requirements would not apply to 

withdrawals covered by paragraph (e) (4)(iii) of 

Rule 15c3–1, namely, withdrawals used to make tax 

payments or to pay reasonable compensation to 

partners. These types of payments are ordinary 

business expenditures and do not raise the types of 

concerns the proposed rule is designed to address. 

80See, e.g., NYSE Rule 319, NASD Rule 3020, 

CBOE Rule 9.22, and Amex Rule 330. SRO fidelity 

bonding requirements typically contain agreements 

covering the following areas: A ‘‘Fidelity’’ insuring 

clause to indemnify against loss of property through 

dishonest or fraudulent acts of employees; an ‘‘On 

Premises’’ agreement insuring against losses 

resulting from crimes such as burglary and theft and 

from misplacement of property of the insured; an 

‘‘In Transit’’ clause indemnifying against losses 

occurring while property is in transit; a ‘‘Forgery 

and Alteration’’ agreement insuring against loss due 

to forgery or alteration of various kinds of 

negotiable instruments; and a ‘‘Securities Loss’’

clause protecting against losses incurred through 

forgery and alteration of securities. Id. 

81See, e.g., NYSE Rule 319(b), which permits 

NYSE members and member organizations to selfinsure to the extent of $10,000 or 10% of the 

minimum insurance requirement as prescribed by 

the NYSE. 

82See, e.g., NYSE Rule 319(b); NASD Rule 

3020(b)(2). 

83See 17 CFR 240.17a–5. 

84See, e.g., NYSE Rule 319, which specifies the 

type of coverage the bond must provide. 

85For example, the proposed definition 

incorporates concepts of insolvency in the U.S. 

Bankruptcy Code and SIPA. See 11 U.S.C. 101; 15 

U.S.C. 78eee(b)(1). 

proposing to codify these views by 

amending Rule 15c3–1 to add a 

paragraph (c)(2)(i)(G), which would 

require a broker-dealer to treat as a 

liability any capital that is contributed 

under an agreement giving the investor 

the option to withdraw it. The provision 

also would require a broker-dealer to 

treat as a liability any capital 

contribution that is intended to be 

withdrawn within a year unless the 

broker-dealer receives permission in 

writing from its designated examining 

authority.79 Under paragraph 

(c)(2)(i)(G)(2) of the proposed rule, a 

withdrawal made within one year of the 

contribution is presumed to have been 

intended to be withdrawn within a year 

and, therefore, presumed to be subject to 

the deduction. 

We request comment on all aspects of 

these proposed amendments, including 

suggestions for records (in addition to 

audited financial statements, tax returns 

and regulatory filings) by which a 

broker-dealer could demonstrate a thirdparty’s current financial capacity. We 

also request comment on potential 

metrics for measuring whether the thirdparty has sufficient financial resources 

to assume the broker-dealer’s expenses 

for the purposes of calculating net 

capital under Rule 15c3–1. For example, 

would it be sufficient if the third-party’s 

most recent financial statement, tax 

return or filing showed an amount of 

annual net revenue, excluding income 

derived from the broker-dealer (e.g., 

from management fees or dividends) 

that equaled or exceeded the brokerdealer’s annual expenses assumed by 

the third-party? Would it be sufficient if 

a financial statement or filing showed 

the third-party had an amount of equity 

capital that, at a minimum, equaled 

100%, 150%, 200%, 1000% or some 

other percentage of the broker-dealer’s 

annual expenses assumed by the thirdparty? 

With respect to the proposal on 

capital contributions and withdrawals, 

we request comment on whether the 

time period within which withdrawn 

and intended to be withdrawn 

contributions must be treated as 

liabilities should be longer than one 

year. 

2. Requirement To Deduct the Amount 

a Fidelity Bond Deductible Exceeds 

SRO Limits 

Under SRO rules, certain brokerdealers that do business with the public 

or are required to become members of 

the Securities Investor Protection 

Corporation (‘‘SIPC’’) must comply with 

mandatory fidelity bonding 

requirements.80 While the form and 

amounts of the bonding requirements 

vary based on the nature of a brokerdealer’s business, the SRO rules 

typically permit a broker-dealer to have 

a deductible provision included in the 

bond. However, the rules provide that 

the deductible may not exceed certain 

amounts.81 With regard to firms that 

maintain deductible amounts over the 

maximum amount permitted, a number 

of SRO rules provide that the brokerdealer must deduct this excess amount 

from net worth when calculating net 

capital under Rule 15c3–1.82

Rule 15c3–1, however, does not 

specifically reference the SRO 

deductible requirements as a charge to 

capital. Accordingly, while the SROs 

require that the excess fidelity bond be 

deducted from net capital, the 

Commission’s rule does not specify 

such a deduction. This means that a 

broker-dealer would not be required for 

the purposes of Commission rules to 

show the impact of the deduction in the 

net capital computation on the FOCUS 

report it is required to periodically 

file.83 To address this gap, we are 

proposing to amend Rule 15c3–1 by 

adding a paragraph (c)(2)(xiv) that 

would require a broker-dealer to deduct, 

with regard to fidelity bonding 

requirements prescribed by a brokerdealer’s examining authority, the excess 

of any deductible amount over the 

maximum deductible amount permitted. 

We believe the fidelity bonding 

requirement is an important prudential 

safeguard because it serves as a measure 

to protect the broker-dealer’s capital 

from unforeseen losses arising from, 

among other events, improper activity 

by an employee.84

We request comment on all aspects of 

this proposed amendment. 

3. Broker-Dealer Solvency Requirement 

We are proposing an amendment to 

Rule 15c3–1 that would require a 

broker-dealer to cease its securities 

business activities if certain insolvency 

events occur. The proposed amendment 

would prevent a broker-dealer from 

continuing to conduct a securities 

business while it is seeking protection 

in a bankruptcy proceeding. A brokerdealer that has made an admission of 

insolvency, or is otherwise deemed 

insolvent or entitled to protection from 

creditors, does not possess the financial 

resources necessary to operate a 

securities business. Continuing to 

operate in such circumstances poses a 

significant credit risk to counterparties 

and to the clearance and settlement 

system, and, in the event the firm ends 

up in a liquidation proceeding under 

SIPA, may impair the ability of the SIPA 

trustee to make customers of the brokerdealer whole and satisfy claims of other 

creditors out of the assets of the general 

estate. 

We are proposing to amend paragraph 

(a) of Rule 15c3–1 to provide that a 

broker-dealer shall not be in compliance 

with the rule if the firm is ‘‘insolvent’’

as that term is defined in the rule. 

‘‘Insolvent’’ would be defined in a new 

paragraph (c)(16) as, among other 

things, a broker-dealer’s placement in a 

voluntary or involuntary bankruptcy or 

similar proceeding; the appointment of 

a trustee, receiver or similar official; a 

general assignment by the broker-dealer 

for the benefit of its creditors; an 

admission of insolvency; or the inability 

to make computations necessary to 

establish compliance with Rule 15c3–1. 

The proposed definition of ‘‘insolvent’’

is intended to be broad enough to 

encompass any type of insolvency 

proceeding or condition of insolvency.85

By making solvency a requirement of 

Rule 15c3–1, a broker-dealer that is 

insolvent would have to cease 

conducting business because section 

15(c)(3) of the Exchange Act generally 

prohibits a broker-dealer from effecting 

any transaction in, or inducing or 

attempting to induce the purchase or 

sale of, any security in contravention of 


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86 15 U.S.C. 78o. 

87See 17 CFR 240.15c3–1(e). 

88 17 CFR 240.15c3–1(e)(1). 

89 17 CFR 240.15c3–1(e)(2). 

90 17 CFR 240.15c3–1(e)(3). 

91 Id. 

92 Id. 

93 Id. 

94See Exchange Act Release No. 28927 (February 

28, 1991), 56 FR 9124 (March 5, 1991). 

95 Id. 

96 Id. 

97 Id. 

98 Id. 

99See Exchange Act Release No. 52606 (October 

13, 2005). 

100See id. 

101 Id. 

102 17 CFR 240.15c3–1a. 

103 17 CFR 240.15c3–1(c)(2)(x). 

104See Exchange Act Release No. 38248 (February 

6, 1997), 62 FR 6474 (February 12, 1997). Under 

Appendix A to Rule 15c3–1, a broker-dealer 

calculating net capital charges for its options 

portfolios shocks the products in each portfolio 

(grouped by underlying instrument) at ten 

equidistant points along a potential market move 

range. The market move ranges for major market 

foreign currencies, high-capitalization diversified 

indexes, and non-high-capitalization diversified 

indexes are, respectively: +(¥) 6%, +(¥) 10% and 

+(¥) 15%. The temporary rule lowered these 

market move ranges to respectively: +(¥) 41⁄2%, + 

6% (¥) 8% and +(¥) 10% in terms of calculating 

haircuts for positions of non-clearing options 

specialists and market makers. See id. 

105 17 CFR 240.15c3–1a(b)(1)(iv)(B). 

the Commission’s financial 

responsibility rules (which include Rule 

15c3–1).86

We also are proposing an amendment 

to the first sentence of paragraph (b)(1) 

of Rule 17a–11 that would require a 

broker-dealer meeting the definition of 

‘‘insolvent’’ to provide immediate notice 

to the Commission, the firm’s 

designated examining authority and, if 

applicable, the CFTC. This notice would 

assist regulators in taking steps to 

protect the insolvent firm’s customers, 

including, if appropriate, notifying SIPC 

of the need to commence an SIPA 

liquidation. 

We request comment on all aspects of 

these proposed amendments, including 

whether there are other insolvency 

events that should be captured in the 

definition. 

4. Amendment To Rule Governing 

Orders Restricting Withdrawal of 

Capital From a Broker-Dealer 

Paragraph (e) of Rule 15c3–1 places 

certain conditions on a broker-dealer 

when withdrawing capital.87 For 

example, a broker-dealer must give the 

Commission two days notice before a 

withdrawal that would exceed 30% of 

the firm’s excess net capital and two 

days notice after a withdrawal that 

exceeded 20% of that measure.88

Paragraph (e) also restricts capital 

withdrawals that would have certain 

financial impacts on a broker-dealer 

such as lowering net capital below 

certain levels.89 Finally, under the rule, 

the Commission may issue an order 

temporarily restricting a broker-dealer 

from withdrawing capital or making 

loans or advances to stockholders, 

insiders, and affiliates under certain 

circumstances.90 The rule, however, 

limits such orders to withdrawals, 

advances, or loans that, when 

aggregated with all other withdrawals, 

advances, or loans on a net basis during 

a thirty calendar day period, exceed 

thirty percent of the firm’s excess net 

capital.91 The rule also requires that the 

Commission conclude, based on the 

facts and information available that a 

withdrawal, advance, or loan in excess 

of thirty percent of the broker-dealer’s 

excess net capital may be detrimental to 

the financial integrity of the firm, or 

may unduly jeopardize the firm’s ability 

to repay its customer claims or other 

liabilities which may cause a significant 

impact on the markets or expose the 

customers or creditors of the firm to loss 

without taking into account the 

application of the SIPA.92 The order 

may restrict such withdrawals, 

advances, or loans for a period of up to 

twenty business days.93

Paragraph (e) of Rule 15c3–1 was 

adopted in the aftermath of the failure 

of the investment bank holding 

company Drexel Burnham Lambert, Inc. 

(‘‘Drexel’’).94 At the time of its adoption, 

the Commission pointed out that Drexel, 

prior to its failure, withdrew substantial 

capital from its regulated broker-dealer 

subsidiary over a period of three weeks 

in the form of short term loans.95 The 

withdrawals were made without 

notifying the Commission or the brokerdealer’s designated examining 

authority.96 Moreover, part of the 

broker-dealer’s capital consisted of hard 

to price high yield bonds.97 This made 

it difficult to determine the firm’s actual 

net capital amount and, consequently, 

whether it was in capital compliance.98

Since the adoption of Rule 15c3–1(e) 

in 1991, the Commission only once has 

issued an order restricting a brokerdealer from withdrawing capital.99

Specifically, on October 13, 2005, the 

Commission ordered the two brokerdealer subsidiaries of REFCO, Inc.— 

REFCO Securities, LLC and REFCO 

Clearing, LLC—to restrict capital 

withdrawals, advances, and loans.100

The Commission issued the order after 

REFCO, Inc. announced that its 

financial statements for 2002 through 

2005 should not be relied on and that 

a material unregulated subsidiary 

(REFCO Capital Markets, Ltd.) had 

ceased all activities for a 15-day 

period.101

As required under Rule 15c3–1(e), the 

Commission’s order with respect to 

REFCO’s broker-dealer subsidiaries only 

restricted capital withdrawals, loans 

and advances to the extent they would 

exceed 30% of the broker-dealer’s 

excess net capital when aggregated with 

other such transactions over a 30-day 

period. The Commission and other 

securities regulators often discover that 

the books and records of a troubled 

broker-dealer are incomplete or 

inaccurate. This can make it difficult to 

determine the firm’s actual net capital 

and excess net capital amounts. In such 

a case, an order that limits withdrawals 

to a percentage of excess net capital 

would be difficult to enforce as it would 

not be clear when that threshold had 

been reached. Given the circumstances, 

we believe the better approach is to 

remove the 30% of excess net capital 

limitation. This would simplify the 

orders by allowing the Commission to 

restrict all withdrawals, advances, and 

loans. All the other conditions in the 

rule would be preserved. 

We request comment on all aspects of 

this proposed amendment. 

5. Adjusted Net Capital Requirements 

i. Amendment to Appendix A of Rule 

15c3–1 

We are proposing an amendment to 

Appendix A of Rule 15c3–1, which 

permits broker-dealers to employ 

theoretical option pricing models to 

calculate haircuts for listed options and 

related positions that hedge those 

options.102 Non-clearing option 

specialists and market makers need not 

apply haircuts to their proprietary listed 

options positions, provided the brokerdealer carrying their account takes a 

charge to its own net capital based on 

the charge computed using the 

theoretical pricing model.103 In 1997, 

the Commission adopted a temporary 

amendment to Appendix A that, by 

virtue of decreasing the range of pricing 

inputs to the model, effectively reduced 

the haircuts applied by the carrying firm 

with respect to non-clearing option 

specialist and market maker 

accounts.104 The temporary 

amendment, which only applied to 

these types of accounts, was limited to 

major market foreign currencies and 

diversified indexes. The Commission 

made this relief—which is contained in 

paragraph (b)(1)(iv) of Appendix A 105— 

temporary so the Commission could 

evaluate the effects of the reduced 

capital charges, particularly under 


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12874 Federal Register / Vol. 72, No. 52 / Monday, March 19, 2007 / Proposed Rules 

106Letter from Michael Macchiaroli, Associate 

Director, Division of Market Regulation, 

Commission, to Richard Lewandowski, Vice 

President, Regulatory Division, The Chicago Board 

Options Exchange, Inc. (Jan. 13, 2000). 

107Exchange Act Release No. 18737 (May 13, 

1982), 47 FR 21759 (May 20, 1982). See 17 CFR 

240.15c3–1(c)(2)(vi)(D)(1). 

108 Investment Company Act Release No. 18005 

(February 20, 1991), 56 FR 8113 (February 27, 

1991). 

109 17 CFR 270.2a–7. 

110See id. 

111 Id. 

112See Public Petition for Rulemaking No. 4–478 

(April 3, 2003), as amended (April 4, 2005), 

available at http://www.sec.gov/rules/petitions/ 

petn4–478.htm. 

113 17 CFR 240.15c3–3(a)(3), (4), and (7) 

respectively. 

conditions involving high levels of 

market volatility. 

The relief expired two years from its 

effective date. The Commission staff 

subsequently issued a no-action letter 

on January 13, 2000 continuing the 

relief.106 Since the no-action letter was 

issued, there have been periods of 

significant volatility in the securities 

markets, including the markets for major 

market foreign currencies and highcapitalization and non-highcapitalization diversified indexes. These 

periods of volatility include the Russian 

debt crisis in 1998, the internet bubble 

and the September 11, 2001 terrorist 

attacks. Despite periods of substantial 

volatility, there have been no significant 

increases in the number of deficits in 

non-clearing option specialist and 

market-maker accounts, nor did the 

lower capital charges under paragraph 

(b)(1)(iv) result in excessive leverage. 

Consequently, we are proposing to 

amend paragraph (b)(1)(iv) of Appendix 

A to Rule 15c3–1 to make permanent 

the previously granted relief. We believe 

permitting the lower requirement with 

respect to these types of positions 

carried in non-clearing option specialist 

and market-maker accounts better aligns 

the capital requirements in Rule 15c3–

1 with the risks associated with these 

positions and accounts. 

We request comment on all aspects of 

this proposed amendment, including 

whether the lower market move ranges 

for positions held by non-clearing 

options specialists and market makers 

are appropriate and whether data or 

other information suggests that these 

lower ranges did result in an increase in 

the number of deficits in non-clearing 

option specialist and market-maker 

accounts or in excessive leverage on the 

part of these firms. Commenters are 

encouraged to provide data to support 

their views. 

ii. Money Market Funds 

We are proposing an amendment that 

would reduce the ‘‘haircut’’ brokerdealers apply under Rule 15c3–1 for 

money market funds from 2% to 1% 

when computing net capital. In 1982, 

the Commission adopted a 2% haircut 

requirement for redeemable securities of 

an investment company registered 

under the Investment Company Act of 

1940 that holds assets consisting 

exclusively of cash or money market 

instruments and which is known as a 

‘‘money market fund.’’ 107 The 2% 

haircut was adopted before the 

Commission adopted certain 

amendments to Rule 2a–7 under the 

Investment Company Act of 1940 (17 

CFR 270.2a–7) that strengthened the risk 

limiting investment restrictions for 

money market funds.108 Rule 2a–7 

defines a money market fund generally 

as an investment company limited to 

investing in U.S. dollar denominated 

securities that present minimal credit 

risks and that are, at the time of 

acquisition, ‘‘eligible securities.’’ 109 In 

particular, the rule requires that the 

securities purchased by a money market 

fund be short-term instruments of 

issuers that are deemed a low credit 

risk.110 The rule also requires the fund 

to diversify its portfolio of securities.111

Based on the enhancements to Rule 2a–

7, as well as the historical stability of 

money market funds as investments, we 

are proposing to amend paragraph 

(c)(2)(vi)(D)(1) of Rule 15c3–1 to reduce 

the haircut on such funds from 2% to 

1%. This amendment is designed to 

better align the net capital charge with 

the risk associated with holding a 

money market fund. A further 

amendment would clarify that a money 

market fund, for the purposes of 

paragraph (c)(2)(vi)(D)(1), is a fund 

described in Rule 2a–7. 

We request comment on all aspects of 

this amendment, including on whether 

it is appropriate to reduce the haircut to 

1% and, alternatively, whether the 

haircut for certain types of money 

market funds should be reduced to 0% 

as suggested by Federated in its petition 

to the Commission.112 Commenters are 

encouraged to provide data to support 

their views. 

F. Technical Amendments 

Finally, we are proposing a number of 

technical amendments to these rules in 

order to, for example, update or correct 

citations to other regulations. These 

technical amendments include 

proposed amendments to the definitions 

of ‘‘fully paid securities,’’ ‘‘margin 

securities,’’ and ‘‘bank’’ in Rule 15c3–

3.113 Our proposed amendments are not 

intended to substantively change the 

meanings of these defined terms but, 

rather, to remove text that is superfluous 

or redundant. Consequently, we 

specifically seek comment on whether 

our proposed amendments to these 

definitions would substantively alter the 

meaning of ‘‘fully paid securities,’’

‘‘margin securities,’’ and ‘‘bank’’ as 

those terms are defined in Rule 15c3–3. 

Commenters should describe how the 

amendment would result in a 

substantive change. 

III. Further Requests for Comment 

A. In General 

We invite interested persons to 

submit written comments on any aspect 

of the proposed amendments, in 

addition to the specific requests for 

comments. Further, we invite comment 

on other matters that might have an 

effect on the proposals contained in the 

release, including any competitive 

impact. 

B. Requests for Comment on Certain 

Specific Matters 

1. Early Warning Levels 

The Capital Committee of the 

Securities Industry Association (‘‘SIA’’) 

has proposed lowering the Rule 17a–11 

early warning level for broker-dealers 

that carry over $10 billion in debits. 

Currently, under Rule 17a–11, a brokerdealer that computes its net capital 

requirement using the alternative 

standard must provide regulators with 

notice if their net capital level falls 

below 5% of aggregate debit items. The 

SIA contends that a broker-dealer with 

aggregate debit items exceeding $10 

billion would not be approaching 

financial difficulty simply because its 

net capital falls to the 5% early warning 

threshold. The broker-dealer, because of 

the large amount of debits and 

corresponding capital requirement, 

would continue to hold sufficient net 

capital in the SIA’s estimation. The SIA 

has suggested using a tiered approach in 

which the early warning level would be 

calculated by adding: (5% of the first 

$10 billion in debits) + (4% of the next 

$5 billion) + (3% of the next $5 billion) 

+ (2.5% of all remaining debits). 

We request comment on this proposal 

and note that the SROs would need to 

alter their early warning levels as well 

to make any such proposed amendment 

effective. 

2. Harmonize Securities Lending and 

Repo Capital Charges 

We also are considering whether to 

harmonize the net capital deductions 

required under paragraph (c)(2)(iv)(B) of 

Rule 15c3–1 for securities lending and 


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114Specifically, with respect to repurchase 

agreement and securities borrowed transactions, the 

required deductions are triggered only when the 

deficits exceed certain percentages. See 17 CFR 

240.15c3–1(c)(2)(iv)(B) and (F). Conversely, with 

reverse repurchase agreement and securities loaned 

transactions, the deductions are triggered without 

regard to the size of the deficit. 

115 17 CFR 240.15c3–3a, Item 2. A broker-dealer 

may finance margin loans to its customers by 

obtaining a bank loan that is secured by the 

customers’ securities, which—because they are not 

‘‘excess margin securities’’—do not have to be in 

the control of the broker-dealer under Rule 15c3–

3(b). 116 44 U.S.C. 3507(d); 5 CFR 1320.11 

117Proposed amendment revising paragraph 

(c)(2)(iv)(B) of Rule 15c3–1. 

118Proposed amendment adding paragraph (b)(5) 

to Rule 15c3–3. 

119Proposed amendment revising paragraph (e)(1) 

of Rule 15c3–3. 

120Proposed amendment revising paragraph (f) of 

Rule 15c3–3. 

121 Id. 

122Proposed amendment adding paragraph (j) to 

Rule 15c3–3. 

123Proposed amendments adding paragraph 

(a)(24) to Rule 17a–3 and revising paragraph (e)(9) 

of Rule 17a–4. 

124Proposed amendment revising paragraph (b)(1) 

of Rule 17a–11. 

125Proposed amendment adding paragraph (c)(5) 

to Rule 17a–11. 

borrowing transactions with the 

deductions required under paragraph 

(c)(2)(iv)(F) for securities repo 

transactions. Securities lending and 

borrowing transactions are economically 

similar to repo transactions. However, 

the need to take a deduction (or the size 

of the deduction) under Rule 15c3–1 

may depend on whether the brokerdealer executes the transaction as a 

securities loan/borrow or repo 

transaction.114 We are concerned that 

this has created an opportunity for 

regulatory arbitrage. 

In order to eliminate this mismatch, 

we could make identical the securities 

loaned and repurchase agreement 

deductions and, similarly, the securities 

borrowed and reverse repurchase 

agreement deductions. We seek 

comment on the feasibility of such a 

proposal and on how it should be 

implemented. 

3. Accounting for Third-Party Liens on 

Customer Securities Held at a BrokerDealer 

Under Rule 15c3–3, a broker-dealer is 

required to include as a ‘‘credit’’ item in 

the customer reserve formula the 

amount of any loan it receives that is 

collateralized by securities carried for 

the accounts of customers.115 The credit 

item is intended to ensure that funds 

obtained through the use of customer 

securities are deployed to support 

customer transactions (e.g., to make 

margin loans) and not used in the 

broker-dealer’s proprietary business. 

In some cases, the customer’s 

securities may be subject to a lien 

arising from a third-party loan that is 

not made to the broker-dealer (e.g., the 

loan is made directly to the customer). 

If the customer’s securities are not 

moved to a pledge account in the name 

of the third-party lender, then the 

broker-dealer will continue to hold 

them in the name of the customer. As 

between the broker-dealer and the 

customer, the securities may be fully 

paid for and, consequently, subject to 

the physical possession or control 

requirement of Rule 15c3–3. Moreover, 

if the broker-dealer became insolvent 

and was liquidated in a SIPA 

proceeding, the trustee could be placed 

in the situation of owing the securities 

both to the customer and to the thirdparty holding the lien. This could 

increase the costs of a SIPA liquidation, 

which is underwritten by the fund 

administered by SIPC. 

The situation becomes even more 

complicated when the securities are 

subject to liens held by multiple 

creditors. The amount of the obligation 

to each creditor may change daily 

depending on market movements or 

other factors. In a SIPA proceeding, this 

could increase the number of parties 

with potentially competing claims for 

the securities, and thereby increase the 

complexity and costs of the liquidation. 

For these reasons, we request 

comment on how third-party liens 

against customer fully paid securities 

carried by a broker-dealer should be 

treated under the financial 

responsibility rules, including Rule 

15c3–3, Rule 17a–3 and Rule 17a–4. For 

example, should the broker-dealer be 

required to: (1) Include the amount of 

the customer’s obligation to the thirdparty as a credit item in the reserve 

formula; (2) move the securities subject 

to the lien into a separate pledge 

account in the name of the pledgee or 

pledges; or (3) record on its books and 

records and disclose to the customer the 

existence of the lien, identity of the 

pledgee(s), obligation of the customer, 

and amount of securities subject to the 

lien? 

IV. Paperwork Reduction Act 

Certain provisions of the proposed 

amendments contain ‘‘collection of 

information’’ requirements within the 

meaning of the Paperwork Reduction 

Act of 1995 (‘‘PRA’’). We have 

submitted the proposed amendments to 

the Office of Management and Budget 

(‘‘OMB’’) for review in accordance with 

the PRA.116 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. The 

rules being amended—Rule 15c3–1, 

Rule 15c3–3, Rule 17a–3, Rule 17a–4 

and Rule 17a–11—contain currently 

approved collections of information 

under, respectively, OMB control 

numbers 3235–0200, 3235–0078, 3235–

0033, 3235–0279 and 3235–0085. 

A. Collections of Information Under the 

Proposed Amendments 

The proposed rule amendments 

contain recordkeeping and disclosure 

requirements that are subject to the 

PRA. In summary, the amendments 

would require a broker-dealer, under 

certain circumstances, to (1) disclose the 

principals and obtain certain 

agreements from the principals in a 

securities lending transaction where it 

performs settlement services if it wants 

to be considered an agent (as opposed 

to a principal) for the purposes of the 

net capital rule,117 (2) obtain written 

permission from broker-dealer (‘‘PAB’’) 

account holders to use their fully paid 

and excess margin securities,118 (3) 

perform a PAB reserve computation,119

(4) obtain written notification from a 

bank holding its PAB Special Reserve 

Account that the bank has received 

notice that the assets in the account are 

being held for the benefit of PAB 

account holders,120 (5) enter into a 

written contract with a bank holding its 

PAB Special Reserve Accounts in which 

the bank agrees the assets in the account 

would not be used as security for a loan 

to the broker-dealer and would not be 

subject to a right, charge, security 

interest, lien, or claim of any kind in 

favor of the bank,121 (6) obtain the 

affirmative consent of a customer before 

changing the terms under which the 

customer’s free credit balances are 

invested,122 (7) make and maintain 

records documenting internal controls 

to assist the broker-dealer in analyzing 

and managing market, risks arising from 

business activities,123 (8) provide notice 

to the Commission and other regulatory 

authorities if the broker-dealer becomes 

insolvent,124 and (9) provide notice to 

the Commission and other regulatory 

authorities if the broker-dealer’s 

securities borrowed and loan or 

securities repurchase/reverse 

repurchase activity reaches a certain 

threshold or, alternatively, provide 

regulatory authorities with a monthly 

report of the broker-dealer’s securities 

borrowed and loan or securities 

repurchase/reverse repurchase 

activity.125


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126This estimate is derived from FOCUS Reports 

filed by broker-dealers pursuant to Section 17 of the 

Exchange Act and Rule 17a–5 (17 CFR 240.17a–5). 

127 Id. 

128 Id. 

129 Id. 

130This estimate is based on the Annual Report 

of the Securities Investor Protection Corporation 

(‘‘SIPC’’), which indicates that in recent years an 

average of six customer protection proceedings per 

year have been initiated with respect to SIPC 

members. A copy of the 2005 Annual Report can 

be obtained at: http://www.sipc.org/pdf/ 

2005AnnualReport.pdf. 

131These estimates are derived from information 

filed by broker-dealers in FOCUS Report filings. 

132 9,350 hours + 364,333 hours + 255 hours = 

373,938 hours. 

133 180 hours + 26,830 hours + 2,250 hours + 

10,000 hours + 2,500 hours + 62,040 hours + 2,100 

hours = 105,900 hours. 

134 9 broker-dealers × 20 hours per firm = 180 

hours. 

B. Proposed Use of Information 

The Commission and other regulatory 

authorities would use the information 

collected under the proposed 

amendment to Rule 15c3–1 and Rule 

15c3–3 to determine whether the 

broker-dealer is in compliance with 

each rule. In particular, the record with 

respect to acting as agent in a securities 

loan transaction would assist examiners 

in verifying that the broker-dealer is 

properly accounting for securities loan 

deficits under Rule 15c3–1. The records 

with respect to the PAB accounts would 

assist examiners in verifying that the 

PAB accountholders had agreed to 

permit the broker-dealer to use their 

securities, the broker-dealer had 

performed the PAB reserve computation 

and the bank holding the PAB Special 

Reserve Account had agreed to do so 

free of lien. 

The Commission and other regulatory 

authorities would use the information 

collected under the proposed 

amendments to Rules 17a–3 and 17a–4 

to determine whether the broker-dealer 

is operating in a manner that mitigates 

the risk it will fail as a result of failing 

to document internal controls. 

The Commission and other regulatory 

authorities would use the information 

collected under the proposed 

amendments to Rule 17a–11 to identify 

a broker-dealer experiencing financial 

difficulty. This information would assist 

the Commission and other regulators in 

promptly taking appropriate steps to 

protect customers, creditors, and 

counterparties. In particular, a notice of 

insolvency would assist regulators in 

responding more quickly to a failing 

institution. The notices and reports with 

respect to securities lending and repos 

would assist regulators in identifying 

broker-dealers that are active in these 

transactions or suddenly take on large 

positions. This would assist in 

monitoring the systemic risk in the 

markets. 

C. Respondents 

The amendment to Rule 15c3–1 

requiring a broker-dealer to make 

disclosures to, and obtain certain 

agreements from, securities lending 

principals only would apply to those 

firms that participate in the settlement 

of securities lending transactions as 

agents. We estimate that approximately 

170 broker-dealers would be affected by 

this requirement.126

The amendments to Rule 15c3–3 

requiring a broker-dealer to perform a 

PAB reserve computation and to obtain 

certain agreements and notices related 

to its PAB accounts only would affect 

those firms that carry such accounts. We 

estimate that approximately 75 brokerdealers would carry such accounts.127

The amendment to Rule 15c3–3 

requiring a broker-dealer to obtain the 

affirmative consent of a customer before 

changing the terms under which the 

customer’s free credit balances are 

maintained only would apply to firms 

that carry free credit balances for 

customers. We estimate that 

approximately 256 broker-dealers carry 

customer accounts.128

The amendments to Rules 17a–3 and 

17a–4 requiring a broker-dealer to make 

and maintain records documenting 

internal controls for analyzing and 

managing risks only would apply to 

firms that have more than $1,000,000 in 

aggregate credit items, or $20,000,000 in 

capital. Thus, its impact would be 

limited to the largest broker-dealers. 

Generally, the broker-dealers that would 

be required to document internal 

controls are exposed to all the risks 

identified in the proposed amendment. 

Accordingly, the number of respondents 

would equal the number of brokerdealers meeting the thresholds set forth 

in the amendment. We estimate that 

approximately 517 broker-dealers would 

meet at least one of these thresholds.129

The amendment to Rule 17a–11 

would require a broker-dealer to provide 

the Commission with notice if it 

becomes subject to certain insolvency 

events only would affect a limited 

number of firms per year. We estimate 

that approximately six broker-dealers 

would become subject to one of these 

events in a given year.130

The amendment to Rule 17a–11 

would require a broker-dealer to provide 

notice to the Commission if its 

securities borrowed or loan or securities 

repurchase or reverse repurchase 

activity reaches a certain threshold or, 

alternatively, provide monthly reports 

to securities regulators about such 

activities only would affect a limited 

number of firms per year. We estimate 

that approximately 11 broker-dealers 

would provide the notice and that 21 

broker-dealers would opt to send the 

monthly reports in a given year.131

D. Total Annual Reporting and 

Recordkeeping Burden 

As discussed in further detail below, 

we estimate the total recordkeeping 

burden resulting from these 

amendments would be approximately 

373,938 annual hours,132 105,900 onetime hours,133 and a one-time cost of 

$1,000,000 arising from the retention of 

outside counsel. 

1. Securities Lending Agreements and 

Disclosures 

The proposed amendment to Rule 

15c3–1 would require a broker-dealer to 

make disclosures to, and obtain certain 

agreements from, securities lending 

principals in situations where the firm 

participates in the settlement of a 

securities lending transaction but wants 

to be deemed an agent for purposes of 

Rule 15c3–1. We understand that most 

existing standard securities lending 

master agreements in use today already 

contain language requiring agent lenders 

to disclose principals and principals to 

agree not to hold the agents liable for a 

counterparty default and, consequently, 

the proposed amendment would be 

codifying industry practice. Thus, the 

standard agreement used by the vast 

majority of broker-dealers should 

contain the representations and 

disclosures required by the proposed 

amendment. However, a small 

percentage of broker-dealers may need 

to modify their standard agreements. 

We estimate that 5% of the 

approximately 170 firms engaged in this 

business, or 9 firms, would not have 

used the standard agreements. We 

further estimate each of these firms 

would spend approximately 20 hours of 

employee resources updating their 

standard agreement template. Therefore, 

we estimate that the total one-time 

burden to the industry as a result of this 

proposed requirement would be 

approximately 180 hours.134 We do not 

believe firms would incur costs arising 

from updating systems, purchasing 

software, or engaging outside counsel in 

meeting this proposed requirement but 

seek comment on that estimate. 

2. PAB Customer Reserve Account 

Recordkeeping Requirements 

This proposed amendment to Rule 

15c3–3 would require a broker-dealer to 

perform a PAB reserve computation and 

obtain certain agreements and notices 

related to PAB accounts and, therefore, 


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135 (2,533 PAB customers × 10 hours per 

customer) + (75 firms × 20 hours per firm) = 26,830 

hours. 

136 75 broker-dealers × 30 hours per firm = 2,250 

hours. 

137 ([71 weekly filers] × [52 weeks] × [2.5 hours 

per computation]) + ([4 monthly filers] × [12 

months] × [2.5 hours per computation]) = 9,350 

total hours. 

138 50 broker-dealers × 200 hours per firm = 2,250. 

139 50 broker-dealers × 50 hours per firm = 2,500 

hours. 

140 $400 per hour × 50 hours = $20,000. 

141 50 broker-dealers × $20,000 = $1,000,000. 

would impose recordkeeping burdens 

on a broker-dealer to the extent it: (1) 

Has to perform a PAB computation; (2) 

chooses to use PAB securities and, 

therefore, needs to obtain agreements 

from PAB accountholders; and (3) opens 

a PAB reserve account at a new bank. 

The customer agreement requirement 

would be a one-time burden. It is 

standard for a broker-dealer to enter into 

a written agreement with an 

accountholder concerning the terms and 

conditions under which the account 

would be maintained. Therefore, 

requiring a written agreement would not 

result in additional burden. Rather, 

additional burdens would arise from the 

need to amend existing agreements and 

the standard agreement template that 

would be used for future customers. 

Based on FOCUS Report filings, we 

estimate that there are approximately 

2,533 existing PAB customers and, 

therefore, broker-dealers would have to 

amend approximately 2,533 existing 

PAB agreements. We further estimate 

that, on average, a firm would spend 

approximately 10 hours of employee 

resources amending each agreement. We 

also estimate, based on FOCUS Reports, 

that approximately 75 broker-dealers 

carry PAB accounts and, therefore, these 

75 firms would have to amend their 

standard PAB agreement template. We 

estimate a firm would spend, on 

average, approximately 20 hours of 

employee resources on this task. 

Therefore, we estimate the total onetime burden to the industry from these 

requirements would be approximately 

26,830 total hours.135 We do not believe 

firms would incur costs arising from 

updating systems, purchasing software, 

or engaging outside counsel in meeting 

these proposed requirements but seek 

comment on that estimate. 

The proposed requirements to 

perform a PAB computation and obtain 

agreements and notices from banks 

holding PAB accounts would result in 

annual burdens based on the number of 

broker-dealers that hold PAB accounts 

and the number of times per year these 

broker-dealers open new PAB bank 

accounts. Currently, to obtain the relief 

provided in the PAIB Letter, brokerdealers are required to obtain the 

agreements and notices from the banks. 

We understand that broker-dealers 

generally already obtain these 

agreements and notices. Therefore, we 

estimate there would be no additional 

burden imposed by this requirement but 

seek comment on this estimate. 

The proposed amendment requiring a 

PAB computation would produce a onetime burden. Based on FOCUS Report 

filings, we estimate that approximately 

75 broker-dealers would perform a PAB 

computation. These firms already 

perform a reserve computation for 

domestic broker-dealer customers under 

the PAIB letter. Nonetheless, we 

estimate these firms would spend, on 

average, approximately 30 hours of 

employee resources per firm updating 

their systems to implement changes that 

would be necessitated by our proposed 

amendment. Therefore, we estimate that 

the total one-time burden to the 

industry arising from this proposed 

requirement would be approximately 

2,250 hours.136

The proposed amendment requiring a 

PAB computation also would produce 

an annual burden. Based on FOCUS 

Report filings, we estimate that 

approximately 71 broker-dealers would 

perform the PAB computation on a 

weekly basis and four broker-dealers 

would perform it on a monthly basis. 

We further estimate that a broker-dealer 

would spend, on average, approximately 

2.5 additional hours to complete the 

Rule 15c3–3 reserve computation as a 

result of our proposed amendment. 

Therefore, we estimate that the total 

annual burden to the industry from this 

proposed requirement would be 

approximately 9,350 hours.137 We do 

not believe firms would incur costs 

arising from purchasing software or 

engaging outside counsel in meeting 

these proposed requirements but seek 

comment on that estimate. 

3. Affirmative Consent 

This proposed amendment to Rule 

15c3–3 would require a broker-dealer to 

obtain the affirmative consent of a new 

customer before changing the terms 

under which the customer’s free credit 

balances are treated and provide notice 

to existing customers prior to changing 

how their free credit balances are 

treated. The broker-dealer also would be 

required to make certain disclosures. 

This proposed requirement would 

result in one-time and annual burdens 

to the broker-dealer industry. We note, 

however, that the requirement only 

would apply to a firm that carries 

customer free credit balances and opts 

to have the ability to change how its 

customers’ free credit balances are 

treated. 

Based on staff experience, we estimate 

that 50 broker-dealers would choose to 

provide existing and new customers 

with the disclosures and notices 

required under the proposed 

amendment in order to have the ability 

to change how their customers’ free 

credit balances are treated. We further 

estimate these firms would spend, on 

average, approximately 200 hours of 

employee resources per firm updating 

their systems (including processes for 

generating customer account statements) 

to incorporate changes that would be 

necessitated by our proposed 

amendment. Therefore, we estimate that 

the total one-time burden to the 

industry arising from this proposed 

requirement would be approximately 

10,000 hours.138

We also estimate that these firms 

would consult with outside counsel in 

making these systems changes, 

particularly with respect to the language 

in the disclosures and notices. The 

Commission estimates that, on average, 

an outside counsel would spend, on 

average, approximately 50 hours 

assisting a broker-dealer in updating its 

systems for a one-time aggregate burden 

to the industry of 2,500 hours.139 The 

Commission further estimates that this 

work would be split between a partner 

and associate, with an associate 

performing a majority of the work. 

Therefore, the Commission estimates 

that the average hourly cost for an 

outside counsel would be 

approximately $400 per hour. For these 

reasons, the Commission estimates that 

the average one-time cost to a brokerdealer would be approximately 

$20,000 140 and the one-time cost to the 

industry would be approximately 

$1,000,000.141

As for annual burden, we estimate 

these proposed requirements would 

impact 5% of the total broker-dealer 

customer accounts per year. Based on 

FOCUS Report filings, we estimate there 

are approximately 109,300,000 customer 

accounts and, consequently, 5% of the 

accounts (5,465,000 accounts per year) 

would be impacted. We further estimate 

that a broker-dealer would spend, on 

average, four minutes of employee 

resources to process an affirmative 

consent for new customers and a 

disclosure for existing customers. 

Therefore, we estimate that the annual 

burden to the industry arising from the 


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142 5,465,000 accounts × 4 minutes/account = 

364,333 hours. 

143 517 broker-dealers × 120 hours = 62,040 hours. 

144 6 notices × 10 minutes per notice = 1 hour. 

145 12 notices × 10 minutes per notice = 2 hours. 

146 21 broker-dealers × 100 hours per firm = 2,100 

hours. 

147 21 broker-dealers × 12 hours per year or 252 

hours. 

148 17 CFR 240.17a–4(b)(7). 

149 17 CFR 240.17a–4(c). 

requirement would be approximately 

364,333 hours.142

4. Internal Control Recordkeeping 

Requirements 

These proposed amendments to Rules 

17a–3 and 17a–4 would require certain 

large broker-dealers to make and 

maintain records documenting internal 

controls that assist in analyzing and 

managing risks. The requirement would 

apply to broker-dealers that have more 

than $1,000,000 in customer credits or 

$20,000,000 in capital. This requirement 

would result in a one-time burden to the 

industry. 

Based on FOCUS Report filings, we 

estimate there are approximately 517 

broker-dealers that meet the 

applicability threshold of this 

amendment ($1,000,000 in credits or 

$20,000,000 in capital). Based on staff 

experience, we estimate that these larger 

broker-dealers generally already have 

documented the procedures and 

controls they have established to 

manage the risks arising from their 

business activities. Moreover, among 

these firms, the time per firm likely 

would vary depending on the size and 

complexity of the firm. For some firms, 

the burden may be close to 0 hours and 

for others it may be hundreds of hours. 

Taking this into account, we estimate 

that a broker-dealer would spend, on 

average, approximately 120 hours of 

employee resources augmenting its 

documented procedures to come into 

compliance with this proposed 

amendment. Therefore, we estimate the 

total one-time burden to the industry 

would be approximately 62,040 

hours.143

We do not believe broker-dealers 

would incur costs arising from updating 

systems, purchasing software, or 

engaging outside counsel in meeting 

this proposed requirement but seek 

comment on that estimate. 

5. Notice Requirements 

The proposed amendments to Rule 

17a–11 would require a broker-dealer to 

provide notice to the Commission and 

other regulatory authorities if the 

broker-dealer becomes subject to certain 

insolvency events, and notice to the 

Commission and other regulatory 

authorities if the broker-dealer’s 

securities borrowed and loan or 

securities repurchase/reverse 

repurchase activity reaches a certain 

threshold or, alternatively, provide 

regulatory authorities with a monthly 

report of the broker-dealer’s securities 

borrowed and loan or securities 

repurchase/reverse repurchase activity. 

The notice requirements would result 

in irregular filings from a small number 

of broker-dealers. As noted above, 

SIPC’s 2005 annual report indicates that 

in recent years an average of six brokerdealers per year have become subject to 

a liquidation proceeding under the 

Securities Investor Protection Act of 

1970 (15 U.S.C. 78aaa et seq.) (‘‘SIPA’’). 

Accordingly, we estimate that 

approximately six insolvency notices 

would be sent per year and that a 

broker-dealer would spend, on average, 

approximately ten minutes of employee 

resources to prepare and send the 

notice. Therefore, we estimate that the 

total annual burden to the industry 

arising from this proposal would be 

approximately one hour.144 Based on 

FOCUS Report filings, we estimate that 

approximately twelve stock loan/borrow 

notices would be sent per year. We 

further estimate that a broker-dealer 

would spend, on average, approximately 

ten minutes of employee resources to 

prepare and send the notice. Therefore, 

we estimate that the total annual burden 

to the industry arising from this 

proposal would be approximately two 

hours.145

Based on FOCUS Report filings, we 

estimate that 21 broker-dealers per year 

would submit the monthly stock loan/ 

borrow report. We estimate each firm 

would spend, on average, approximately 

100 hours of employee resources 

updating its systems to generate the 

report. Therefore, we estimate that the 

total one-time burden to the industry 

arising from this proposed requirement 

would be approximately 2,100 hours.146

As for annual burden, we estimate each 

firm would spend, on average, 

approximately one hour per month (or 

twelve hours per year) of employee 

resources to prepare and send the 

report. Therefore, we estimate the total 

annual burden arising from this 

proposal would be approximately 255 

hours.147

We do not believe firms would incur 

costs arising from purchasing software 

or engaging outside counsel in meeting 

these proposed requirements but seek 

comment on this estimate. 

E. Collection of Information Is 

Mandatory 

These recordkeeping and notice 

requirements are mandatory with the 

exception of the option for a brokerdealer to provide a monthly notice of its 

securities lending activities to its 

designated examining authority in lieu 

of filing the notice required under the 

proposed amendment to Rule 17a–11. 

F. Confidentiality 

The information collected under the 

amendments to Rules 15c3–1, 15c3–3, 

17a–3 and 17a–4 would be stored by the 

broker-dealers and made available to the 

various regulatory authorities as 

required in connection with 

examinations, investigations, and 

enforcement proceedings. 

The information collected under the 

amendments to Rule 17a–11 would be 

generated from the internal records of 

the broker-dealers. It would be provided 

to the Commission and other regulatory 

agencies but not on a regular basis 

(except for the optional monthly 

reports). The information provided to 

the Commission would be kept 

confidential to the extent permitted by 

law. 

G. Record Retention Period 

The proposed amendment to Rule 

15c3–1 would require broker-dealers to 

make disclosures to principals and 

obtain agreements from principals with 

respect to securities lending 

transactions where the broker-dealer 

acts as agent. These records would have 

to be maintained for at least three years 

under paragraph (b)(7) of Rule 17a–4.148

The retention period for the agreements 

also would depend on the length of time 

the relationship between the brokerdealer and the principal lasts. 

The proposed amendments to Rule 

15c3–3 would require broker-dealers to 

obtain written permission from a PAB 

customer if they want to use the 

customer’s fully paid and excess margin 

securities and to obtain the affirmative 

consent of customers with respect to 

changing the terms under which free 

credit balances are maintained. These 

agreements would relate to the terms 

and conditions of the maintenance of 

the customer’s account and, 

accordingly, fall within the record 

retention requirements of paragraph (c) 

of Rule 17a–4.149 Under this paragraph, 

the records must be retained until six 

years after the closing of the customer’s 

account. The amendments to Rule 15c3–

3 also would require broker-dealers to 

obtain notices and contracts from the 

banks holding their PAB customer 

reserve accounts. In order to comply 

with Rule 15c3–3, broker-dealers would 

need to have these notices and contracts 

in place and documented. Accordingly, 


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150 17 CFR 240.17a–4(b)(4). 

151For the purposes of this cost/benefit analysis, 

we are using salaries for New York-based 

employees, which tend to be higher than the 

salaries for comparable positions located outside of 

New York. This conservative approach is intended 

to capture unforeseen costs and to account for the 

fact that a substantial portion of the work will be 

undertaken in New York. The salary information is 

derived from the SIA Report on Management and 

Professional Earnings in the Securities Industry 

2005 (‘‘SIA Management Report 2005’’). The hourly 

costs derived from the SIA Management Report 

2005, and referenced in this cost benefit section, are 

modified to account for an 1800-hour work week 

and multiplied by 5.35 to account for bonuses, firm 

size, employee benefits, and overhead. 152 15 U.S.C. 78aaa et seq. 

the retention period for these records is, 

at a minimum, equal to the life of the 

PAB customer reserve account for 

which they are obtained. 

The proposed amendments to Rules 

17a–3 and 17a–4 would require brokerdealers to document various internal 

control systems, policies and guidelines. 

The amendments to Rule 17a–4 include 

the establishment of a retention period 

for these records, which would be until 

three years after the termination of the 

use of such system, policy or guideline. 

The proposed amendments to Rule 

17a–11 would require broker-dealers to 

provide notice or monthly reports to the 

Commission and other regulatory 

authorities under certain circumstances. 

These notices and reports would 

constitute communications relating to a 

broker-dealer’s ‘‘business as such’’ and, 

therefore, would need to be retained for 

three years.150

H. Request for Comment 

We request comment on the proposed 

collections of information in order to (1) 

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, (2) evaluate the 

accuracy of the Commission’s estimate 

of the burden of the proposed collection 

of information, (3) determine whether 

there are ways to enhance the quality, 

utility, and clarity of the information to 

be collected, and (4) evaluate whether 

there are ways to minimize the burden 

of the collection of information on those 

who respond, including through the use 

of automated collection techniques or 

other forms of information technology. 

Persons who desire to submit 

comments on the collection of 

information requirements should direct 

their comments to the OMB, 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 Nancy 

M. Morris, Secretary, Securities and 

Exchange Commission, 100 F Street, 

NE., Washington, DC 20549–1090, and 

refer to File No. S7–08–07. OMB is 

required to make a decision concerning 

the collections of information between 

30 and 60 days after publication of this 

document 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. The Commission has 

submitted the proposed collections of 

information to OMB for approval. 

Requests for the materials submitted to 

OMB by the Commission with regard to 

these collections of information should 

be in writing, refer to File No. S7–08–

07, and be submitted to the Securities 

and Exchange Commission, Records 

Management, Office of Filings and 

Information Services, 100 F Street, NE., 

Washington, DC 20549. 

V. Costs and Benefits of the Proposed 

Amendments 

We are sensitive to the costs and 

benefits that result from Commission 

rules. We have identified certain costs 

and benefits of the proposed 

amendments and request comment on 

all aspects of this cost-benefit analysis, 

including identification and assessment 

of any costs and benefits not discussed 

in the analysis.151 We seek comment 

and data on the value of the benefits 

identified. We also welcome comments 

on the accuracy of the cost estimates in 

each section of this cost-benefit 

analysis, and request those commenters 

to provide data so we can improve these 

cost estimates. 

We also seek estimates and views 

regarding these costs and benefits for 

particular types of market participants, 

as well as any other costs or benefits 

that may result from the adoption of 

these proposed rules. 

A. Amendments to the Customer 

Protection Rule 

1. Proprietary Accounts of BrokerDealers 

The proposed amendment to Rule 

15c3–3 would require broker-dealers to 

perform a reserve calculation for the 

proprietary accounts (‘‘PAB’’) of 

domestic and foreign broker-dealers and 

foreign banks acting as broker-dealers. It 

also would require them to obtain 

agreements from these broker-dealer 

customers with respect to the use of 

their fully paid and excess margin 

securities. Finally, it would require 

broker-dealers to obtain agreements and 

notices from the banks holding the PAB 

reserve deposits. 

As discussed above, there is a 

disparity between the customer reserve 

requirements in Rule 15c3–3 and the 

treatment of customers in a liquidation 

proceeding under the Securities Investor 

Protection Act of 1970 (‘‘SIPA’’).152 Rule 

15c3–3 requires broker-dealers to 

reserve the net amount of money they 

owe their customers. If the broker-dealer 

fails, this net amount is available to be 

returned to customers ahead of all other 

creditors. Moreover, if the failed brokerdealer is subject to a SIPA proceeding, 

this net amount becomes part of the 

estate of customer property, which is 

distributed pro rata to customers. 

Foreign and domestic broker-dealers 

are not ‘‘customers’’ under Rule 15c3–

3. Therefore, broker-dealers are not 

required to reserve the net amount of 

money owed to these entities. However, 

they are ‘‘customers’’ for the purposes of 

SIPA and, consequently, are entitled to 

a pro rata share of the estate of customer 

property. Thus, even if a failed brokerdealer properly reserved the net amount 

it owed its Rule 15c3–3 ‘‘customers,’’

the estate of customer property 

nonetheless may be insufficient to 

return the money owed to these 

‘‘customers’’ because broader definition 

of ‘‘customer’’ in SIPA entitles foreign 

and domestic broker-dealers to a pro 

rata share of the funds. 

i. Benefits 

Our proposed amendment would 

address this discrepancy by requiring 

broker-dealers to reserve for the net 

amount of money they owe other 

broker-dealers. This would benefit the 

other customers as well as the brokerdealer account holders by eliminating 

the inconsistency between Rule 15c3–3 

and SIPA, which could decrease the 

estate of customer property in a SIPA 

liquidation. It also would minimize the 

risk that advances from the fund 

administered by the Securities Investor 

Protection Corporation (‘‘SIPC’’) would 

be necessary to protect customer cash 

claims. We request comment on 

available metrics to quantify these 

benefits and any other benefits the 

commenter may identify. Commenters 

are requested to identify sources of 

empirical data that could be used for the 

metrics they propose. 

ii. Costs 

The proposed requirements to 

perform a PAB computation and obtain 

agreements and notices from banks 

holding PAB accounts would result in 

one-time and annual costs to brokerdealers that hold PAB accounts. Under 

the no-action relief set forth in the PAIB 

Letter, these broker-dealers already are 

performing a reserve computation for 


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153 (2,533 PAB customers × 10 hours per 

customer) + (75 broker-dealers × 20 hours per firm) 

= 26,830 hours. 

154 $327 per hour × 26,830 hours = $8,773,410. 

155 75 broker-dealers × 30 hours per firm = 2,250 

hours. 

156 $268 per hour × 2,250 hours = $603,000. 

157 ([71 weekly filers] × [52 weeks] × [2.5 hours 

per computation]) + ([4 monthly filers] × [12 

months] × [2.5 hours per computation]) = 9,350 

total hours. 

158 $278 per hour × 9,350 hours = $2,599,300. 

domestic broker-dealer accounts and 

have obtained the necessary agreements 

and notices from the banks holding their 

PAIB reserve deposits. Therefore, the 

proposed amendments would result in 

incremental costs. 

The proposed requirement to obtain 

written agreements from PAB customers 

in order to use their fully paid and 

excess margin securities would result in 

a one-time cost to the industry. As 

discussed above with respect to the 

Paper Work Reduction Act of 1995 

(‘‘PRA’’), it is standard for brokerdealers to enter into written agreements 

with their broker-dealer customers 

concerning the terms and conditions 

under which the customers’ accounts 

will be maintained. Therefore, requiring 

a written agreement should not result in 

additional costs. Rather, the one-time 

costs would arise from the need to 

amend existing agreements and the 

standard agreement template that would 

be used for future customers. 

As discussed with respect to the PRA, 

based on FOCUS Report filings, we 

estimate that there are approximately 

2,533 existing PAB customers and, 

therefore, broker-dealers would have to 

amend approximately 2,533 existing 

PAB agreements. We further estimate 

that, on average, a firm would spend 

approximately 10 hours of employee 

resources amending each agreement. We 

also estimate, based on FOCUS Reports, 

that approximately 75 broker-dealers 

carry PAB accounts and, therefore, these 

75 firms would have to amend their 

standard PAB agreement template. We 

estimate a firm would spend, on 

average, approximately 20 hours of 

employee resources on this task. 

Therefore, as noted with respect to the 

PRA, we estimate the total one-time 

hourly burden to the industry from 

these requirements would be 

approximately 26,830 hours.153 For the 

purposes of this cost analysis, we 

estimate this work would be undertaken 

by a broker-dealer’s in-house attorneys. 

The SIA Management Report 2005 

indicates that the average hourly cost of 

an attorney is $327. Therefore, we 

estimate that there would be a one-time 

cost to the industry from these proposed 

requirements of approximately 

$8,773,410.154

As discussed with respect to the PRA, 

the requirement to perform a PAB 

computation also would produce a onetime burden to the extent the system for 

performing the calculation would need 

to be updated. Based on FOCUS Report 

filings, we estimate that approximately 

75 broker-dealers would perform a PAB 

computation. These firms already 

perform a reserve computation for 

domestic broker-dealer customers under 

the PAIB letter. Nonetheless, we 

estimate these firms would spend, on 

average, approximately 30 hours of 

employee resources per firm updating 

their systems to implement changes that 

would be necessitated by our proposed 

amendment. With respect to the PRA, 

we estimate that the total one-time 

hourly burden to the industry arising 

from this proposed requirement would 

be approximately 2,250 hours.155 For 

the purposes of the cost analysis, we 

estimate that this work would be 

undertaken by a Senior Programmer. 

The SIA Management Report 2005 

indicates the average hourly cost of this 

position is approximately $268. 

Therefore, we estimate that there would 

be a one-time cost to the industry from 

the proposed requirement of 

approximately $603,000.156

As noted with respect to the PRA, the 

proposed requirement to perform a PAB 

computation would result in an annual 

hourly burden to the extent the new 

requirement would lengthen the time 

needed to complete the computation. 

Based on FOCUS Report filings, we 

estimate that approximately 71 brokerdealers would perform the PAB 

computation on a weekly basis and four 

broker-dealers would perform it on a 

monthly basis. We further estimate that 

a broker-dealer would spend, on 

average, approximately 2.5 additional 

hours to complete the Rule 15c3–3 

reserve computation as a result of our 

proposed amendment. Therefore, as 

noted with respect to the PRA, we 

estimate that the total annual hourly 

burden to the industry from this 

proposed requirement would be 

approximately 9,350 hours.157 For 

purposes of this cost analysis, we 

estimate that the responsibility for 

performing the PAB computation would 

be undertaken by a financial reporting 

manager. As noted above, the SIA 

Management Report 2005 indicates that 

the average hourly cost for a financial 

reporting manager is $278. Therefore, 

we estimate that the total annual cost to 

the industry resulting from these 

requirements would be approximately 

$2,599,300.158

As noted above, we request comment 

on these proposed cost estimates. In 

particular, we request comment on 

whether there would be additional costs 

to broker-dealers as a consequence of 

these proposals. For example, with 

respect to the PRA, we estimate that 

these requirements would not result in 

costs arising from purchasing software 

or engaging outside counsel. Therefore, 

we request comment on whether these 

requirements would result in such costs 

and, if so, how to quantify the costs. We 

also request comment on whether these 

proposals would impose costs on other 

market participants, including brokerdealer customers. Commenters should 

identify the metrics and sources of any 

empirical data that support their costs 

estimates. 

2. Banks Where Special Reserve 

Deposits May Be Held 

The proposed amendment to Rule 

15c3–3 would limit the amount of cash 

a broker-dealer could deposit at any one 

bank for the purposes of maintaining a 

required customer or PAB reserve 

requirement and exclude customer and 

PAB reserve cash deposits at affiliated 

banks from counting towards the brokerdealer’s reserve requirement. 

i. Benefits 

The intent of this proposed 

amendment is to prevent broker-dealers 

from concentrating customer related 

deposits that are large relative to the 

broker-dealer or the bank in order to 

limit the risk arising from a financial 

collapse and to prevent such deposits 

from being lost in a group-wide 

financial collapse. Concentration poses 

a risk that some or all of the deposit may 

be lost. Depending on the size of the 

deposit and the broker-dealer, a lost 

deposit could cause the broker-dealer to 

fail. If the broker-dealer fails and the 

deposit is not recovered, the SIPC fund 

likely would not recover advances from 

the fund made for the purpose of 

returning customer assets. Moreover, to 

the extent that customer losses exceeded 

the SIPA advance limits, customers 

would suffer permanent losses. The 

benefits that would be derived from this 

proposed amendment are an increased 

safeguarding of SIPC funds and 

customer assets. 

We request comment on available 

metrics to quantify these benefits and 

any other benefits the commenter may 

identify. Commenters are requested to 

identify sources of empirical data that 

could be used for the metrics they 

propose. 


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159This estimate is based on FOCUS Report 

filings. 

160 $263 per hour × 10 hours = $2,630. 

161 11 broker-dealers × $2,630 = $28,930. 

162 $268 per hour × 40 hours = $10,720. 163 350 broker-dealers × $10,720 = $3,752,000. 

ii. Costs 

We estimate that the costs resulting 

from this proposed amendment would 

be incremental. Specifically, we 

estimate that approximately 216 brokerdealers would have reserve deposit 

requirements.159 A majority of these 

firms meet a substantial portion of their 

deposit requirement using qualified 

government securities as opposed to 

cash and, therefore, would not be 

impacted by this proposal. Moreover, to 

the extent that a broker-dealer’s cash 

deposits exceed the limits, it could open 

up one or more accounts at different 

banks or, alternatively, use qualified 

securities to meet part of its deposit 

requirement. 

In terms of quantifying costs, we 

estimate that, of the 216 firms with 

reserve deposit requirements, only 5%, 

namely 11, would need to open new 

bank accounts or substitute qualified 

securities for cash in an existing reserve 

account. We estimate that the 

responsibility for opening a new reserve 

bank account or substituting qualified 

securities for cash in an existing account 

would be undertaken by a Senior 

Treasury/Cash Management Manager. 

The SIA Management Report 2005 

indicates that the average hourly cost of 

this position is $263. We estimate that 

the senior treasury/cash management 

manager would spend approximately 10 

hours performing these changes. 

Therefore, we estimate that the average 

cost per firm to make these changes 

would be approximately $2,630.160 For 

these reasons, we estimate that the total 

one-time cost to the industry would be 

approximately $28,930.161

As noted above, we request comment 

on these proposed cost estimates. In 

particular, we request comment on 

whether there would be additional costs 

to broker-dealers as a consequence of 

these proposals, such as costs arising 

from implementing systems changes, 

maintaining additional bank or 

securities accounts, and managing pools 

of qualified securities as opposed to a 

deposit of cash. We also request 

comment on whether these proposals 

would impose costs on other market 

participants, including broker-dealer 

customers. Commenters should identify 

the metrics and sources of any empirical 

data that support their cost estimates. 

3. Expansion of the Definition of 

Qualified Securities To Include Certain 

Money Market Funds 

The proposed amendment to Rule 

15c3–3 would permit broker-dealers to 

deposit certain money market funds in 

the customer reserve account. This 

would benefit broker-dealers subject to 

the customer reserve requirements in 

Rule 15c3–3 by creating a deposit 

alternative to cash and United States 

Treasury securities. It would not result 

in any additional costs to brokerdealers. 

We request comment on available 

metrics to quantify these benefits and 

any other benefits the commenter may 

identify. Commenters are requested to 

identify sources of empirical data that 

could be used for the metrics they 

propose. 

In addition, while we do not believe 

the proposal would result in costs to 

broker-dealers, we request comment on 

whether it would result in costs to other 

market participants, including brokerdealer customers, and banks. 

Commenters should identify the metrics 

and sources of any empirical data that 

support their costs estimates. 

4. Allocation of Customers’ Fully Paid 

and Excess Margin Securities to Short 

Positions 

The proposed amendment to Rule 

15c3–3 would require broker-dealers to 

obtain possession or control over fully 

paid or excess margin securities that 

allocate to a proprietary or customer 

short position. 

i. Benefits 

This proposed amendment would 

protect broker-dealer customers by 

requiring broker-dealers to reduce long 

customer positions to possession and 

control even if the positions may 

allocate to a customer or proprietary 

short position. The possession or 

control requirement seeks to ensure that 

customer securities are available to be 

returned in the event the broker-dealer 

fails. Therefore, in addition to brokerdealer customers, the proposal would 

benefit the SIPC fund to the extent it 

mitigates outlays from the fund to make 

advances to customers of a failed 

broker-dealer that cannot return all 

customer securities. 

We request comment on available 

metrics to quantify these benefits and 

any other benefits the commenter may 

identify. Commenters are requested to 

identify sources of empirical data that 

could be used for the metrics they 

propose. 

ii. Costs 

We estimate this proposed 

requirement would result in a one-time 

cost to firms that carry customer 

securities to update systems for 

complying with the possession and 

control requirements in Rule 15c3–3. 

Based on FOCUS Report filings, we 

estimate that approximately 350 brokerdealers carry customer securities. We 

further estimate these firms would 

spend, on average, approximately 40 

hours of employee resources per firm 

updating their systems to implement 

changes that would be necessitated by 

our proposed amendment. For the 

purposes of this cost analysis, we 

estimate that this work would be 

undertaken by a Senior Programmer. 

The SIA Management Report 2005 

indicates the average hourly cost of this 

position is approximately $268. 

Therefore, we estimate that the average 

cost per firm to make these changes 

would be approximately $10,720.162 For 

these reasons, we estimate that the total 

one-time cost to the industry would be 

approximately $3,752,000.163

We believe the annual costs resulting 

from this amendment would be de 

minimis. The proposal could result in 

some broker-dealers borrowing 

securities to cover proprietary short 

positions rather than using customer 

securities. However, currently when 

broker-dealers use customer securities 

they are required to put a credit in the 

Rule 15c3–3 reserve formula equal to 

the value of the securities. This credit 

item can result in higher reserve deposit 

requirements, which must be made 

using the broker-dealer’s own capital. 

Thus, increased costs associated with 

having to borrow securities to cover a 

short position likely would be offset by 

decreased costs associated with 

devoting capital to customer reserve 

requirements. 

As noted above, we request comment 

on these cost estimates. In particular, we 

request comment on whether there 

would be additional costs to brokerdealers as a consequence of these 

proposals. We also request comment on 

whether these proposals would impose 

costs on other market participants, 

including broker-dealer customers. 

Commenters should identify the metrics 

and sources of any empirical data that 

support their costs estimates. 

5. Requirement To Obtain Customers’

Affirmative Consent 

This proposed amendment to Rule 

15c3–3 would require a broker-dealer to 

obtain the affirmative consent of a new 


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164 $268 per hour × 200 hours = $53,600. 

165 50 broker-dealers × $53,600 = $2,680,000. 

166 50 broker-dealers × 50 hours per firm = 2,500 

hours. 

167 $400 per hour × 50 hours = $20,000. 

168 50 broker-dealers × $20,000 = $1,000,000. 

169 4 minutes × $68 per hour = $4.50. 

170 5,465,000 consents/notices × $4.50 per 

consent/notice = $24,592,500. 

171 $380 billion × 0.03% = $11.4 billion. 

172 $550 billion¥$380 billion = $170 billion. 

173 $550 billion¥$368.6 billion = $181.4 billion. 

174 $380 billion × 0.01% = $3.8 billion. 

175 $550 billion¥$380 billion = $170 billion. 

176 $550 billion¥$376.2 billion = $173.8 billion 

customer in order to be able to change 

the terms under which the customer’s 

free credit balances are treated and 

provide notice to existing customers 

prior to changing how their free credit 

balances are treated. The broker-dealer 

also would be required to make certain 

disclosures. 

i. Benefits 

Free credit balances constitute money 

that a broker-dealer owes its customers. 

Customers may maintain these balances 

at the broker-dealer in anticipation of 

future stock purchases. Generally, 

customer account agreements set forth 

how the broker-dealer will invest these 

balances. For example, the broker-dealer 

may sweep them into a money market 

fund or, alternatively, pay an amount of 

interest on the funds. This proposed 

amendment is designed to ensure that 

customers are provided meaningful 

notice if a broker-dealer seeks to change 

the terms under which their free credit 

balances are invested. This would 

provide the customers with an 

opportunity to opt out of the proposed 

change or re-direct their free credit 

balances. 

We request comment on available 

metrics to quantify these benefits and 

any other benefits the commenter may 

identify. Commenters are requested to 

identify sources of empirical data that 

could be used for the metrics they 

propose. 

ii. Costs 

As discussed above with respect to 

the PRA, based on staff experience, we 

estimate that 50 broker-dealers would 

choose to provide existing and new 

customers with the disclosures and 

notices required under the proposed 

amendment in order to have the 

flexibility to change how their 

customers’ free credit balances are 

treated. We further estimate these firms 

would spend, on average, approximately 

200 hours of employee resources per 

firm updating their systems (including 

processes for generating customer 

account statements) to incorporate 

changes that would be necessitated by 

our proposed amendment. For the 

purposes of this cost analysis, we 

estimate that this work would be 

undertaken by a Senior Programmer. 

The SIA Management Report 2005 

indicates the average hourly cost of this 

position is approximately $268. 

Therefore, we estimate that the average 

cost per firm to make these changes 

would be approximately $53,600.164 For 

these reasons, we estimate that the total 

one-time cost to the industry would be 

approximately $2,680,000.165

Also, as discussed above with respect 

to the PRA, we estimate that these firms 

would consult with outside counsel in 

making these systems changes, 

particularly with respect to the language 

in the disclosures and notices. The 

Commission estimates that, on average, 

an outside counsel would spend 

approximately 50 hours assisting a 

broker-dealer in updating its systems for 

a one-time aggregate burden to the 

industry of 2,500 hours.166 The 

Commission further estimates that this 

work would be split between a partner 

and associate, with an associate 

performing a majority of the work. 

Therefore, the Commission estimates 

that the average hourly cost for an 

outside counsel would be 

approximately $400 per hour. For these 

reasons, the Commission estimates that 

the average one-time cost to a brokerdealer for engaging outside counsel 

would be approximately $20,000 167 and 

the one-time cost to the industry would 

be approximately $1,000,000.168

As for annual burden, as discussed 

above with respect to the PRA, we 

estimate that this requirement would 

impact approximately 5,465,000 

customer accounts in a given year. We 

further estimate that a broker-dealer 

would spend, on average, four minutes 

of employee resources to process an 

affirmative consent for new customers 

and a disclosure for existing customers. 

For the purposes of this cost analysis, 

we estimate that the responsibility for 

processing the affirmative consents 

would be undertaken by a compliance 

clerk. The SIA Report on Office Salaries 

in the Securities Industry 2005 (‘‘SIA 

Report on Office Salaries’’) indicates 

that the average hourly cost of this 

position is $68. Additionally, we 

estimate the compliance clerk would 

spend approximately four minutes per 

consent and notice. Therefore, we 

estimate that the cost per account to 

process the affirmative consents and 

notices would be approximately 

$4.50.169 Therefore, the total annual cost 

to the industry would be approximately 

$24.5 million.170

As noted above, we request comment 

on these proposed cost estimates. In 

particular, we request comment on 

whether there would be additional costs 

to broker-dealers as a consequence of 

these proposals. We also request 

comment on whether these proposals 

would impose costs on other market 

participants, including broker-dealer 

customers. Commenters should identify 

the metrics and sources of any empirical 

data that support their costs estimates. 

6. Eliminating the 3% Reduction for 

Aggregate Debit Items 

The proposed amendment to 

paragraph (a)(1)(ii)(A) of Rule 15c3–1 

would eliminate the requirement that 

broker-dealers using the alternative 

standard reduce their Exhibit A—Item 

10 debits by 3% in lieu of the 1% 

reduction applicable to basic method 

firms. This would benefit broker-dealers 

subject to the 3% reduction by 

potentially reducing the amount of their 

reserve deposit requirements and, 

thereby, freeing up capital. Based on 

FOCUS data, we estimate that brokerdealers in the aggregate currently carry 

approximately $550 billion in total 

credits and $380 billion in total debits. 

Moreover, we further estimate that the 

amount of credits and debits held by 

firms that are subject to the 1% 

reduction is insignificant and, 

consequently, for purposes of this cost 

analysis, assume that the $550 billion in 

credits and $380 billion in debits are 

held by firms subject to the 3% 

reduction. 

Under the current requirement to 

reduce total debits by 3%, brokerdealers, in the aggregate, reduce the 

approximately $380 billion in total 

debits by $11.4 billion.171 This 

decreases the amount of debits that can 

offset total credits from $380 billion to 

$368.6 billion. Based on our estimates, 

this potentially increases the industrywide reserve requirement from 

approximately $170 billion 172 to $181.4 

billion.173 Under the proposed 1% 

reduction, broker-dealers, in the 

aggregate, would reduce the 

approximately $380 billion in total 

debits by $3.8 billion.174 This would 

decrease the amount of debits that can 

offset credits from $380 billion to $376.2 

billion. Based on our estimates, this 

would potentially increase the industrywide reserve requirement from $170 

billion 175 to $173.8 billion (as opposed 

to $181.4 billion).176 Accordingly, our 

proposed amendment would result in a 

decrease in the industry-wide reserve 

requirement of approximately $7.6 


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177 $11.4 billion¥$3.8 billion = $7.6 billion. 

178This estimate is based on data from FOCUS 

Report filings. 

179 130 hours × $268 = $34,840. 

180 33 broker-dealers × $34,840 = $1,149,720. 

billion, which broker-dealers could redirect to other business activities.177

We do not anticipate any net costs to 

broker-dealers that would result from 

the proposed amendment, given that the 

benefits from the freed-up capital of 

potentially $7.6 billion would 

significantly offset any costs arising 

from making necessary systems changes 

to implement this proposed change to 

the customer reserve computation. 

However, it could result in costs to 

other market participants. Therefore, we 

request comment on whether it would 

result in such costs, including costs to 

broker-dealer customers and banks. 

Commenters should identify the metrics 

and sources of any empirical data that 

support their costs estimates. 

7. Clarification Regarding Funds in 

Certain Commodity Accounts 

The proposed amendment to 

paragraph (a)(8) of Rule 15c3–3 would 

clarify that broker-dealers need not treat 

funds in certain commodities accounts 

as ‘‘free credit balances’’ for purposes of 

the customer reserve formula. This 

would benefit broker-dealers that are 

registered as futures commission 

merchants by eliminating any ambiguity 

with respect to such accounts and 

avoiding situations where they 

unnecessarily increase reserve amounts. 

We do not anticipate the proposed 

amendment would result in any costs to 

broker-dealers and, as these funds are 

not protected under SIPA, would not 

expose the SIPC fund to increased 

liabilities. 

We request comment on available 

metrics to quantify these benefits and 

any other benefits the commenter may 

identify. Commenters are requested to 

identify sources of empirical data that 

could be used for the metrics they 

propose. 

In addition, while we do not believe 

the proposal would result in costs to 

broker-dealers, we request comment on 

whether it would result in costs to other 

market participants, including brokerdealer customers, and banks. 

Commenters should identify the metrics 

and sources of any empirical data that 

support their costs estimates. 

B. Portfolio Margining 

There are two proposed amendments 

to accommodate SRO rules that permit 

broker-dealers to determine customer 

margin requirements using a portfoliomargining methodology. The first 

amendment would revise the definition 

of ‘‘free credit balances’’ in paragraph 

(a)(8) of Rule 15c3–3. The revision 

would expand the definition to include 

funds in a portfolio margin account 

relating to certain futures and futures 

options positions and the market value 

of futures options as of the filing date in 

a SIPA proceeding. The second 

amendment would add a debit line item 

to the customer reserve formula in Rule 

15c3–3a consisting of margin posted by 

a broker-dealer to a futures clearing 

agency. 

1. Benefits 

The proposed amendments are 

designed to provide greater protection to 

customers with portfolio margin 

accounts. They would require brokerdealers to treat all cash balances in the 

accounts under the reserve computation 

provisions of Rule 15c3–3, which are 

designed to ensure that customer cash is 

available to be returned to customers in 

the event the broker-dealer fails. The 

proposed amendments also are designed 

to provide the protections of SIPA to 

these cash balances and to futures 

options in the accounts. 

We request comment on available 

metrics to quantify these benefits and 

any other benefits the commenter may 

identify, including the identification of 

sources of empirical data that could be 

used for such metrics. 

2. Costs 

The requirements imposed by the 

proposed amendments would be 

elective. They only would apply to 

broker-dealers choosing to offer their 

customers portfolio margin accounts 

with a cross-margin feature (i.e., the 

ability to hold futures and futures 

options in the account). We estimate 

that approximately thirty-three brokerdealers would elect to offer their 

customers portfolio margin accounts 

that would include futures and futures 

options.178

The proposed amendment to the 

definition of ‘‘free credit balances’’ in 

Rule 15c3–3 would require brokerdealers to include in the customer 

reserve formula credit balances related 

to futures positions in a portfolio margin 

account. The proposed amendment to 

add a line item to the debits in the 

customer reserve formula of Rule 15c3–

3a would require broker-dealers to 

include the amount of customer margin 

required and on deposit at a futures 

clearing organization as a ‘‘debit’’ in the 

reserve formula. Accordingly, these 

proposed amendments would require 

changes to the systems broker-dealers 

use to compute and account for their 

customer reserve requirements. We 

assume that the responsibility for 

updating these systems will be 

undertaken by a Senior Programmer. 

The SIA Management Report 2005 

indicates the average hourly cost of this 

position is approximately $268. We 

estimate the senior programmer would 

spend approximately 130 hours to 

modify software to conform it to the 

requirements of the proposed 

amendments. Therefore, we estimate 

that the program and systems changes 

would result, on average, in a one-time 

cost of approximately $34,840 on per 

broker-dealer.179 For these reasons, we 

estimate the total one-time cost to the 

industry would be approximately 

$1,149,720.180

As noted above, we request comment 

on these proposed cost estimates. In 

particular, we request comment on 

additional costs to broker-dealers that 

would arise from these proposals, such 

as system costs in addition to those 

discussed above (e.g., costs associated 

with purchasing new software and 

updates to existing software). We also 

request comment on whether these 

proposals would impose costs on other 

market participants, including brokerdealer customers. Commenters should 

identify the metrics and sources of any 

empirical data that support their costs 

estimates. 

C. Amendments With Respect to 

Securities Borrowed and Loaned and 

Repo Activities 

We are proposing amendments to 

strengthen the financial responsibility of 

broker-dealers engaging in a securities 

lending business. The proposed 

amendments would require brokerdealers to (1) disclose the principals and 

obtain certain agreements from the 

principals in a transaction where they 

provide settlement services in order to 

be considered an agent (as opposed to 

a principal) for the purposes of the net 

capital rule, and (2) provide notice to 

the Commission and other regulatory 

authorities if the broker-dealer’s 

securities borrowed and loan or 

securities repurchase/reverse 

repurchase activity reaches a certain 

threshold or, alternatively, provide 

regulatory authorities with a monthly 

report of the broker-dealer’s securities 

borrowed and loan or securities 

repurchase/reverse repurchase activity. 

1. Benefits 

The proposed amendments are 

intended to strengthen the financial 

responsibility of broker-dealers engaged 

in a securities lending or repo business 

and to assist securities regulators in 


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181 ([16 hours] × [$327 per hour]) + ([4 hours] × 

[$431 per hour]) = $6,956. 

182 9 broker-dealers × $6,956 = $62,604. 

183 100 hours × $268 = $26,800. 

184 21 broker-dealers × $26,800 = $562,800. 

185 ([1 hour] × [$208 per hour]) × 12 months = 

$2,496. 

186 21 broker-dealers × $2,496 = $52,416. 

monitoring such activities. This would 

assist securities regulators in responding 

to situations where a broker-dealer was 

in financial difficulty due to a large 

securities lending or repo position. This 

would help prevent significant losses to 

the firm’s customers and other brokerdealers, and reduce financial system 

risk. 

We request comment on available 

metrics to quantify these benefits and 

any other benefits the commenter may 

identify. Commenters are requested to 

identify sources of empirical data that 

could be used for the metrics they 

propose. 

2. Costs 

i. Requirements To Avoid Principal 

Liability 

As discussed with respect to the PRA, 

we understand that most existing 

standard securities lending master 

agreements in use today already contain 

language requiring agent lenders to 

disclose principals and for principals to 

agree not to hold the agents liable for a 

counterparty default. Thus, the standard 

agreement used by the vast majority of 

broker-dealers should contain the 

representations and disclosures required 

by the proposed amendment. However, 

a small percentage of broker-dealers 

may need to modify their standard 

agreements. As discussed with respect 

to the PRA, we estimate that 

approximately nine broker-dealers 

would need to amend their securities 

lending agreements to include the 

required provision and that they would 

each spend, on average, approximately 

20 hours in making the changes. We 

estimate that the responsibility for 

changing the language in the securities 

lending master agreement template 

would be undertaken collectively by an 

associate general counsel and attorney. 

The SIA Management Report 2005 

indicates that the average hourly cost of 

these positions respectively is $431 for 

the associate general counsel and $327 

for the attorney. We estimate that, on 

average, the attorney would spend 16 

hours changing the template and the 

associate general counsel would spend 

four hours overseeing the project. 

Therefore, we estimate that the one-time 

cost to make these changes would be, on 

average, $6,956 per firm.181 For these 

reasons, we estimate the total one-time 

cost to the industry would be 

approximately $62,604.182

As noted above, we request comment 

on these proposed cost estimates. In 

particular, we request comment on 

additional costs to broker-dealers that 

would arise from these proposals, such 

as costs arising from making systems 

changes. We also request comment on 

whether these proposals would impose 

costs on other market participants, 

including broker-dealer customers. 

Commenters should identify the metrics 

and sources of any empirical data that 

support their costs estimates. 

ii. Notices or Monthly Reports 

The proposed amendment to Rule 

17a–11 would require broker-dealers 

engaged in securities lending or 

repurchase activities to either: (1) File a 

notice with the Commission and their 

designated examining authority 

whenever the total money payable 

against all securities loaned, subject to 

a reverse repurchase agreement or the 

contract value of all securities borrowed 

or subject to a repurchase agreement 

exceeds 2500% of tentative net capital; 

or, alternatively, (2) file a monthly 

report on their securities lending and 

repurchase activities with their 

designated examining authority. 

As discussed with respect to the PRA, 

based on FOCUS Report filings, we 

estimate that approximately twelve 

notices per year would be sent pursuant 

to this proposed amendment. We further 

estimate that a broker-dealer would 

spend, on average, approximately ten 

minutes of employee resources to 

prepare and send the notice. Therefore, 

we estimate that the costs to the 

industry associated with this 

requirement would be de minimis. 

As for the monthly reports, we 

estimated with respect to the PRA that 

approximately 21 broker-dealers would 

choose the option under the proposed 

rule of filing the reports. We also 

estimated with respect to the PRA that 

each firm would spend, on average, 

approximately 100 hours of employee 

resources updating its systems to 

generate the report. For the purposes of 

this cost analysis, we assume that the 

responsibility for updating these 

systems would be undertaken by a 

Senior Programmer. The SIA 

Management Report 2005 indicates the 

average hourly cost of this position is 

approximately $268. Therefore, we 

estimate that the systems changes would 

result, on average, in a one-time cost of 

approximately $26,800 per brokerdealer.183 For these reasons, we estimate 

the total one-time cost to the industry 

would be approximately $562,800.184

As for the annual costs of generating 

and filing the monthly report, we 

estimated with respect to the PRA that 

a broker-dealer would spend, on 

average, approximately one hour per 

month (or twelve hours per year) of 

employee resources to generate and 

send the report. We assume the 

responsibility for generating and filing 

the monthly report would be 

undertaken by a junior stock loan 

manager. The SIA Management Report 

2005 indicates the average hourly cost 

for this position is $208. We further 

estimate that a junior stock loan 

manager would spend, on average, 

approximately one hour per month 

compiling and filing this report for an 

average monthly cost of $208. Therefore, 

we estimate the cost to file the reports 

would be approximately $2,496 per 

firm.185 For these reasons, we estimate 

the total annual cost to the industry 

would be approximately $52,416.186

As noted above, we request comment 

on these proposed cost estimates. In 

particular, we request comment on 

additional costs to broker-dealers that 

would arise from these proposals. We 

also request comment on whether these 

proposals would impose costs on other 

market participants, including persons 

active in the securities lending and repo 

markets. Commenters should identify 

the metrics and sources of any empirical 

data that support their costs estimates. 

D. Documentation of Risk Management 

Procedures 

We are proposing amendments to the 

broker-dealer books and records rules 

that would require certain large brokerdealers to document in writing the 

procedures and guidelines they use for 

managing risk. The proposed 

amendments do not require brokerdealers to implement procedures. 

Rather, they require the documentation 

of procedures that have been established 

by the broker-dealer. 

1. Benefits 

These proposed amendments would 

require large broker-dealers to document 

the controls they have implemented to 

address the risks they face as a result of 

their business activities. This would 

benefit the firms by mitigating the risk 

of financial loss or collapse and their 

customers by mitigating the risk of 

losses associated with a firm’s failure or 

an employee’s improper activities. 

Moreover, by strengthening the internal 

processes of the broker-dealers, these 

proposed amendments would benefit 

market participants and reduce systemic 

financial risk. In addition, by making 

the documented controls a required 


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187 ([40 hours] × [$327 per hour]) + ([70 hours] × 

[$144 per hour]) + ([10 hours] × [$431 per hour]) 

= $27,470. 

188 517 broker-dealers × $27,470 = $14,201,990. 

189 702 broker-dealers × $280,354 = $196,808,508. 190We estimate this generally would be the cost 

to a broker-dealer to obtain a subordinated loan that 

meets requirements of Rules 15c3–1 and 15c3–1d 

(17 CFR 240.15c3–1d). 191 $196,809,000 × 5% = $9,840,300. 

record, securities regulators would have 

better access to them. This would assist 

regulators in monitoring the risks faced 

by broker-dealers and understanding the 

controls they implement to address the 

risks. 

We request comment on available 

metrics to quantify these benefits and 

any other benefits the commenter may 

identify. Commenters are requested to 

identify sources of empirical data that 

could be used for the metrics they 

propose. 

2. Costs 

These proposed amendments would 

apply to a limited number of brokerdealers, namely, those firms with more 

than $1 million in customer credits or 

$20 million in capital. This proposed 

requirement would result in a one-time 

cost to some of these firms to the extent 

they had established procedures that 

had not been documented. We believe, 

generally, that most of these firms have 

documented their established risk 

management controls and procedures. 

For these reasons, we estimated with 

respect to the PRA that the one-time 

hourly burden to meet the requirements 

of these proposed rules would range 

from 0 hours for some firms and to 

hundreds of hours for other firms. 

Taking this into account, we estimated 

with respect to the PRA that a brokerdealer would spend, on average, 

approximately 120 hours of employee 

resources augmenting its documented 

procedures to come into compliance 

with this proposed amendment. 

For the purposes of this cost analysis, 

we estimate that the responsibility for 

documenting the risk management 

procedures and controls a broker-dealer 

has established would be coordinated 

by an attorney working with operations 

specialists from the various risk 

management departments in the firm. 

We further estimate that the project 

would be overseen by an associate 

general counsel. The SIA Management 

Report 2005 indicates the average 

hourly costs of these positions 

respectively are approximately $431 for 

an associate general counsel, $327 for an 

attorney and $144 for an operations 

specialist. We estimate that the attorney 

would spend 40 hours compiling and 

documenting the procedures, the 

operations specialists collectively 

would spend 70 hours working with the 

attorney, and the associate general 

counsel would spend ten hours 

overseeing the project. Therefore, we 

estimate that the average one-time cost 

per firm to comply with these proposed 

amendments would be $27,470.187 We 

estimated with respect to the PRA that 

these amendments would apply to 

approximately 517 broker-dealers. For 

these reasons, we estimate that the total 

one-time cost to the industry would be 

approximately $14,201,990.188

As noted above, we request comment 

on these proposed cost estimates. In 

particular, we request comment on 

additional costs to broker-dealers that 

would arise from these proposals, such 

as costs arising from making changes to 

systems and costs associated with 

maintaining these records. We also 

request comment on whether these 

proposals would impose costs on other 

market participants, including brokerdealer customers. Commenters should 

identify the metrics and sources of any 

empirical data that support their costs 

estimates. 

E. Amendments to the Net Capital Rule 

1. Requirement to Add Back Certain 

Liabilities to Net Worth and Treat 

Certain Capital Contributions as 

Liabilities 

These proposed amendments to Rule 

15c3–1 would require a broker-dealer to 

add back to net worth, when calculating 

net capital, liabilities assumed by a 

third-party if the third-party did not 

have the financial wherewithal to pay 

the liabilities. The proposed 

amendments also would require a 

broker-dealer to treat as liabilities 

capital contributions where the investor 

has the option to withdraw the capital 

at any time. 

i. Benefits 

These proposed amendments to Rule 

15c3–1 would assist investors and 

regulators by requiring broker-dealers to 

provide a more accurate picture of their 

financial condition. This would permit 

regulators to react more quickly if a firm 

experiences financial difficulty. This 

would benefit customers of a troubled 

broker-dealer as well as its 

counterparties and, accordingly, reduce 

systemic risk in the securities markets. 

We request comment on available 

metrics to quantify these benefits and 

any other benefits the commenter may 

identify. Commenters are requested to 

identify sources of empirical data that 

could be used for the metrics they 

propose. 

ii. Costs 

These proposed amendments would 

apply to all broker-dealers. However, 

the requirements only would impact a 

few broker-dealers, namely those that 

have sought to shift their liabilities to a 

third-party that lacks the resources—

independent of the broker-dealer—to 

assume the liabilities or those that 

provide investors with options to 

withdraw capital. We believe the vast 

majority of broker-dealers either do not 

seek to transfer responsibility for their 

liabilities to a third-party or, if they do 

so, rely on a third-party that has the 

financial resources—independent of the 

assets and revenue of the brokerdealer—to pay the obligations as they 

become due. We also believe that most 

broker-dealers do not accept capital 

contributions under agreements 

permitting the investor to withdraw the 

capital at any time. 

FOCUS Report filings indicate that 

approximately 702 broker-dealers report 

having no liabilities. For the purposes of 

this analysis, we conservatively estimate 

that the proposed amendment would 

impact all of these firms. Requiring 

these broker-dealers to book liabilities 

would decrease the amount of equity 

capital held by the firms and in some 

cases may require them to obtain 

additional capital. The majority of 

broker-dealers reporting no liabilities 

are introducing broker-dealers that have 

a $5,000 minimum net capital 

requirement. The reported average for 

total aggregate liabilities of introducing 

broker-dealers is $280,354 per firm. 

Therefore, conservatively estimating 

that the 702 broker-dealers would have 

to each raise $280,354 in additional 

capital as result of the proposed 

requirement, the total aggregate amount 

of additional capital that would need to 

be raised would be $196,808,508.189 We 

further estimate that the cost of capital 

is approximately 5%.190 Therefore, we 

estimate that the total annual cost to the 

industry would be approximately $10 

million.191

We estimate that amendments 

requiring broker-dealers to treat certain 

capital contributions as liabilities 

should not result in significant 

additional costs. Generally, brokerdealers do not enter into agreements 

permitting an owner to withdraw capital 

at any time. To the extent some firms 

may have engaged in this practice, they 

could have to pay more for capital. 

Conservatively, we estimate that no 

more than $100 million in capital at 

broker-dealers is subject to such 

agreements. Assuming an incremental 


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192 $100,000,000 × 2.5% = $2,500,000. 

193 17 CFR 240.15c3–1. 

194See Exchange Act Release No. 28927 (February 

28, 1991), 56 FR 9124 (March 5, 1991). 

cost of capital of 2.5%, we estimate that 

the proposed amendment would result 

in an annual cost of approximately $2.5 

million.192

As noted above, we request comment 

on these proposed cost estimates. In 

particular, we request comment on 

additional costs to broker-dealers that 

would arise from these proposals. We 

also request comment on whether these 

proposals would impose costs on other 

market participants, including brokerdealer customers. Commenters should 

identify the metrics and sources of any 

empirical data that support their costs 

estimates. 

2. Account for Excess Fidelity Bond 

Deductibles 

This proposed amendment would 

require broker-dealers to deduct from 

net capital, with regard to fidelity 

bonding requirements prescribed by a 

broker-dealer’s examining authority, the 

excess of any deductible amount over 

the maximum amount permitted by selfregulatory organization rules. 

i. Benefits 

Self-regulatory organization rules 

relating to fidelity bonding requirements 

provide safeguards with respect to the 

financial responsibility and related 

practices of broker-dealers. This 

proposed amendment would clarify that 

broker-dealers subject to capital charges 

under self-regulatory organization rules 

for excess fidelity bond deductibles also 

should include such deductions when 

determining net capital for purposes of 

Rule 15c3–1.193 This would help in 

ensuring that broker-dealers do not 

exceed regulatory limitations for fidelity 

bond deductibles. 

ii. Costs 

This proposed amendment would 

codify in a Commission rule capital 

charges that broker-dealers are currently 

required to take pursuant to the rules of 

various self-regulatory organizations. 

The proposed amendment would not 

impose additional costs on brokerdealers with respect to the purchasing 

or carrying of fidelity bond coverage. 

Nor would the proposed amendment 

cause broker-dealers to incur additional 

costs in determining or reporting excess 

deductible amounts over the maximum 

amount permitted. Broker-dealers 

already make such determinations 

under self-regulatory organization rules, 

and the manner in which such excesses 

are typically reported (i.e., through 

periodic FOCUS and other reports) 

would remain the same. For these 

reasons, we believe any costs arising 

from this proposed amendment would 

be de minimis. 

As noted above, we request comment 

on this cost estimate. In particular, we 

request comment on whether there 

would be any costs to broker-dealers as 

a consequence of this proposal. We also 

request comment on whether this 

proposal would impose costs on other 

market participants, including brokerdealer customers. Commenters should 

identify the metrics and sources of any 

empirical data that support their costs 

estimates. 

3. Broker-Dealer Solvency Requirement 

This proposed amendment to Rule 

15c3–1 would require broker-dealers to 

cease doing a securities business if they 

become subject to certain insolvency 

events. The companion amendment to 

Rule 17a–11 would require such brokerdealers to provide notice of their 

insolvency to regulatory authorities. 

i. Benefits 

The proposed amendment to Rule 

15c3–1 would benefit the securities 

markets by removing risks associated 

with having a financially unstable firm 

continue to operate. For example, the 

broker-dealer would not be able to take 

on new customers and place their assets 

at risk of being lost in its financial 

collapse or frozen in a liquidation 

proceeding. Furthermore, the brokerdealer would not be able to enter into 

proprietary transactions with other 

broker-dealers and place them or 

clearing agencies at risk of counterparty 

default. The broker-dealer’s existing 

customers also would benefit in that 

ceasing a securities business would 

assist in preserving any remaining 

capital of the firm, which could be used 

to facilitate on orderly liquidation. 

The proposed amendment to Rule 

17a–11 also would benefit the securities 

markets in that it would provide 

regulators with the opportunity to take 

steps to protect customers and 

counterparties at the onset of the 

insolvency. These steps could include 

facilitating the transfer of customer 

accounts to a solvent broker-dealer and 

monitoring the liquidation of 

proprietary positions. 

ii. Costs 

For the most part, the proposed 

amendments would have no impact on 

existing broker-dealers. Should a brokerdealer become subject to an insolvency 

proceeding, it would incur the cost of 

sending notice of that fact to the 

Commission and its designated 

examining authority. We believe this 

would be a rare occurrence and, 

accordingly, with respect to the PRA 

estimated it would happen 

approximately six times a year. For 

these reasons, we estimate that any costs 

arising from this proposed amendment 

would be de minimis. 

As noted above, we request comment 

on this cost estimate. In particular, we 

request comment on whether there 

would be costs to broker-dealers as a 

consequence of this proposal. We also 

request comment on whether this 

proposal would impose costs on other 

market participants, including brokerdealer customers. Commenters should 

identify the metrics and sources of any 

empirical data that support their costs 

estimates. 

4. Order Restricting Withdrawal of 

Capital From a Broker or Dealer 

Amendment 

This proposed amendment to Rule 

15c3–1(e) would eliminate the 

qualification on Commission orders 

restricting withdrawals, advances and 

unsecured loans made by broker-dealers 

that limits the order to instances when 

recent withdrawals, advances or loans, 

in the aggregate, exceed thirty percent of 

the broker-dealer’s excess net capital. 

i. Benefits 

The proposed amendment to Rule 

15c3–1 would benefit the securities 

markets by protecting customers and 

counterparties of a financially stressed 

broker-dealer. For example, the brokerdealer would not be able to make an 

unsecured loan to a stockholder or 

withdraw equity capital while the order 

was outstanding, thereby preserving the 

assets and liquidity of the broker-dealer 

and enabling the Commission and its 

staff to examine the broker-dealer’s 

financial condition, net capital position 

and the risk exposure to the customers 

and creditors of the broker-dealer to 

ensure the financial integrity of the firm. 

ii. Costs 

The current rule permitting the 

Commission to restrict withdrawals of 

capital from a financially distressed 

broker-dealer was adopted in 1991.194

Based on this experience with the rule, 

we estimate that the proposed 

amendment would result in no or de 

minimis costs to broker-dealers. 

As noted above, we request comment 

on this cost estimate. In particular, we 

request comment on whether there 

would be costs to broker-dealers as a 

consequence of this proposal. We also 

request comment on whether this 

proposal would impose costs on other 


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195 $8,773,410 + $603,000 + $28,930 + $3,752,000 

+ $2,680,000 + $1,000,000 + $1,149,720 + $62,604 

+ $562,800 + $14,201,990 = $32,814,454. 

196 $2,599,300 + $24,500,000 + $52,416 + 

$10,000,000 + $2,500,000 = $39,651,716. 

197 15 U.S.C. 78c(f). 

198 15 U.S.C. 78w(a)(2). 

199See section II.A.1 of this release. 

200See section II.A.2 of this release. 

201See section II.A.4 of this release. 

202See section II.A.5.i of this release. 

203See sections II.A.6 and II.A.7 of this release. 

204See section II.A.3 of this release. 

205See section II.B of this release. 

206See section II.C of this release. 

market participants. Commenters 

should identify the metrics and sources 

of any empirical data that support their 

costs estimates. 

5. Adjusted Net Capital Requirements 

These proposed amendments would 

adjust required charges for brokerdealers under Rule 15c3–1. The 

adjustments would better align the net 

capital requirements of affected firms 

with the risks Rule 15c3–1 seeks to 

mitigate. The amendments are relaxing 

existing requirements and, therefore, 

would not result in costs to brokerdealers. Moreover, because they seek to 

better match capital requirements with 

actual risk, they should not have an 

adverse impact on the financial strength 

of broker-dealers. 

i. Calculating Theoretical Pricing 

Charges 

The proposed amendment to 

paragraph (b)(1)(vi) of Rule 15c3–1a 

would make permanent the reduced net 

capital requirements that apply to listed 

option positions in major market foreign 

currencies and high-capitalization and 

non-high-capitalization diversified 

indexes in non-clearing option 

specialist and market maker accounts. 

This would benefit the broker-dealers 

that have been calculating charges 

under the temporary relief granted by 

the Commission staff. Because brokerdealers are already operating under the 

temporary relief, we believe the 

amendment would not result in any 

costs. 

We request comment on available 

metrics to quantify the benefits 

identified above and any other benefits 

the commenter may identify. 

Commenters are requested to identify 

sources of empirical data that could be 

used for the metrics they propose. 

In addition, we request comment on 

whether the proposal would result in 

costs. Commenters should identify the 

metrics and sources of any empirical 

data that support their costs estimates. 

ii. Reduced Haircut on Money Market 

Funds 

Reducing the money market funds 

haircut from 2% to 1% would benefit all 

broker-dealers in that it will make it less 

costly, in terms of capital allocation, to 

hold these investments. We do not 

believe the proposed amendment would 

result in any costs. 

We request comment on available 

metrics to quantify the benefits 

identified above and any other benefits 

the commenter may identify. 

Commenters are requested to identify 

sources of empirical data that could be 

used for the metrics they propose. 

In addition, we request comment on 

whether the proposal would result in 

costs. Commenters should identify the 

metrics and sources of any empirical 

data that support their costs estimates. 

F. Total Estimates Costs 

Given the estimates set forth above, 

the total one-time estimated cost to the 

industry resulting from these rule 

proposals would be approximately 

$32,814,454 195 and the total estimated 

annual cost to the industry resulting 

from these rule proposals would be 

approximately $39,651,716.196

VI. Consideration of Burden on 

Competition, and Promotion of 

Efficiency, Competition, And Capital 

Formation 

Section 3(f) of the Exchange Act 

requires the Commission, whenever it 

engages in rulemaking and must 

consider or determine if an action is 

necessary or appropriate in the public 

interest, to consider if the action will 

promote efficiency, competition, and 

capital formation.197 In addition, 

Section 23(a)(2) of the Exchange Act 

requires the Commission, when 

adopting rules under the Exchange Act, 

to consider the impact that any such 

rule would have on competition.198

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. The 

proposed amendments are intended to 

promote efficiency, competition, and 

capital formation. They should not have 

any anti-competitive effects. 

The Commission requests comment 

on whether the proposed amendments 

are likely to promote efficiency, 

competition, and capital formation. 

A. Amendments to the Customer 

Protection Rule 

The proposed amendments to the 

customer protection rule respecting PAB 

accounts,199 cash deposits at special 

reserve bank accounts,200 allocation of 

short positions,201 and the treatment of 

free credit balances 202 are designed to 

protect and preserve customer property 

held at broker-dealers. These 

protections would reduce the risks to 

individual investors and, thereby, 

promote participation in the securities 

markets. Also, by strengthening 

requirements designed to protect 

customer property, they would mitigate 

potential exposure of the fund 

administered by the Securities Investor 

Protection Corporation (‘‘SIPC’’) that is 

used to make advances to customers 

whose securities or cash are unable to 

be returned by a failed broker-dealer. 

The amendments reducing the debit 

reduction for alternative standard firms 

from 3% to 1% and clarifying that funds 

in certain commodities accounts need 

not be treated as ‘‘free credit balances’’

would free up capital and, in the latter 

case, clarify an ambiguity in Rule 15c3–

3.203 These results would promote 

capital formation and increase 

efficiency. The amendment expanding 

the definition of qualified securities 

would reduce operational burdens 

associated with holding securities in the 

customer reserve account and, thereby, 

promote efficiency.204

B. Portfolio Margining Amendments 

The proposed amendments to 

accommodate portfolio margining 205

would promote greater efficiency, 

competition and capital formation. They 

are designed to provide portfolio margin 

customers with greater protection 

through the reserve requirements of 

Rule 15c3–3 and SIPA. This, in turn, 

would make portfolio margining more 

attractive to investors. Portfolio 

margining can significantly reduce 

customer margin requirements for 

offsetting positions involving securities 

and futures products, which in turn 

reduces the costs of trading such 

products. Moreover, portfolio margining 

promotes competition and better price 

discovery across securities and futures 

products by allowing customers to offset 

a position assumed in one market with 

a product traded on another market. 

C. Securities Lending and Borrowing 

Amendments 

The proposed amendment requiring 

broker-dealers to disclaim principal 

liability in securities lending 

transactions to avoid certain capital 

charges under Rule 15c3–1 206 is 

consistent with the goal of promoting 

efficiency and competition in the 

marketplace. This proposed amendment 

would help eliminate the legal 

uncertainty among counterparties as to 

the role played by market participants 


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12888 Federal Register / Vol. 72, No. 52 / Monday, March 19, 2007 / Proposed Rules 

207 Id. 

208See section II.D of this release. 

209See section II.E.1 of this release. 

210See section II.E.2 of this release. 

211See section II.E.3 of this release. 

212See section II.E.4 of this release. 

213See section II.E.5.i of this release. 

214See section II.E.5.ii of this release. 

215Pub. L. No. 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). 216 5 U.S.C. 603. 

in such transactions and clarify the 

nature of the services that securities 

lending intermediaries provide their 

counterparties. The proposed 

amendment to Rule 17a–11 207 to 

require a broker-dealer to provide notice 

if its securities lending or repo 

transactions reach a certain threshold, 

or alternatively provide its DEA with a 

monthly report, is designed to enhance 

the monitoring of these activities by 

securities regulators and, thereby, 

protect broker-dealer customers and 

counterparties from the impact of a 

financial collapse. This would 

strengthen the securities markets and 

make them more attractive to investors. 

D. Documentation of Risk Management 

Procedures 

The proposed amendments to Rules 

17a–3 and 17a–4 208 requiring firms to 

document their risk management 

controls and procedures are designed to 

reduce the risks inherent to the business 

of operating as a broker-dealer and, 

thereby, enhance a broker-dealer’s 

financial soundness. This would 

strengthen the securities markets 

making them more attractive to 

investors. 

E. Amendments to the Net Capital Rule 

The proposed amendments to Rule 

15c3–1 (1) requiring a broker-dealer to 

account for certain liabilities or treat 

certain capital contributions as 

liabilities,209 (2) requiring a brokerdealer to account for certain excess 

fidelity bond deductibles,210 (3) 

requiring an insolvent broker-dealer to 

cease conducting a securities business 

and provide notice under the proposed 

amendment to Rule 17a–11,211 (4) 

eliminating the qualification on 

Commission orders restricting 

withdrawals, advances, and unsecured 

loans to instances where recent 

withdrawals, advances or loans, in the 

aggregate, exceed thirty percent of the 

broker-dealer’s excess net capital,212 (5) 

making permanent the reduced net 

capital requirements under Appendix A 

for market makers,213 and (6) lowering 

the haircut for money market funds,214

are consistent with promoting efficiency 

and competition in the market place. 

A broker-dealer that fails to account 

for liabilities that depend on the brokerdealer’s assets and revenues and accepts 

temporary capital is obscuring its true 

financial condition. This interferes with 

the process by which regulators monitor 

the financial condition of broker-dealers 

and, thereby, impedes their ability to 

take proactive steps to minimize the 

harm to customers, counterparties and 

clearing agencies resulting from a 

broker-dealer failure. 

Requiring broker-dealers to take net 

capital charges for excess fidelity bond 

deductibles imposed under selfregulatory organization rules would 

promote efficiency by providing 

certainty as to the applicability of such 

rules for purposes of Rule 15c3–1. 

Because fidelity bond requirements 

provide a safeguard with regard to 

broker-dealer financial responsibility, 

the proposed amendment would 

enhance competition through the 

operation of more financially sound 

firms. 

The continued operation of an 

insolvent broker-dealer or the 

withdrawal of capital from a brokerdealer that may jeopardize such brokerdealer’s financial integrity poses 

financial risk to its customers, 

counterparties and the securities 

industry clearance organizations. These 

risks increase costs. 

The elimination of the limitation on 

Commission orders restricting capital 

withdrawals from a financially troubled 

broker-dealer would provide greater 

protection to customers and 

counterparties of the firm and securities 

industry clearance organizations. While 

such orders would be infrequent, when 

issued they would lower costs to these 

entities associated with having an 

outstanding obligation from the troubled 

broker-dealer. 

The proposed amendments to the net 

capital rule that would reduce the 

amount of net capital certain brokerdealers must maintain would improve 

efficiency and competition and promote 

capital formation by allowing firms to 

employ such capital in other areas of 

their business activities. They also 

would lower the costs of capital for 

broker-dealers. 

VII. Consideration of Impact on the 

Economy 

For purposes of the Small Business 

Regulatory Enforcement Fairness Act of 

1996, or ‘‘SBREFA,’’ 215 we must advise 

the OMB as to whether the proposed 

regulation constitutes a ‘‘major’’ rule. 

Under SBREFA, a rule is considered 

‘‘major’’ where, if adopted, it results or 

is likely to result in (1) an annual effect 

on the economy of $100 million or more 

(either in the form of an increase or a 

decrease), (2) a major increase in costs 

or prices for consumers or individual 

industries, or (3) 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 each of the proposed 

amendments 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. 

VIII. Initial Regulatory Flexibility 

Analysis 

The Commission has prepared the 

following Initial Regulatory Flexibility 

Analysis (IRFA), in accordance with the 

provisions of the Regulatory Flexibility 

Act,216 regarding the proposed 

amendments to Rules 15c3–1, 15c3–1a, 

15c3–2, 15c3–3, 15c3–3a, 17a–3, 17a–4, 

and 17a–11 under the Exchange Act. 

We encourage comments with respect 

to any aspect of this IRFA, including 

comments with respect to the number of 

small entities that may be affected by 

the proposed amendments. Comments 

should specify the costs of compliance 

with the proposed amendments, and 

suggest alternatives that would 

accomplish the goals of the 

amendments. Comments will be 

considered in determining whether a 

Final Regulatory Flexibility Analysis is 

required, and will be placed in the same 

public file as comments on the proposed 

amendments. Comments should be 

submitted to the Commission at the 

addresses previously indicated. 

A. Amendments to the Customer 

Protection Rule 

1. Reasons 

The proposed amendment that would 

require broker-dealers to perform a 

reserve computation for domestic and 

foreign broker-dealer accounts is 

responding to a disparity between Rule 

15c3–3 and the SIPA. The proposed 

amendment that would require brokerdealers to limit the amount of cash 

deposited in a reserve account at any 

individual bank and exclude cash 

deposited with a parent or subsidiary 

bank is responding to the fact that some 

firms are concentrating such deposits or 

placing them at risk of group-wide 

financial collapses. The proposed 

amendment that would expand the 

definition of qualified securities is 

intended to provide broker-dealers with 


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217 17 CFR 240.0–10(c)(1). 

218 17 CFR 240.17a–5(d). 

219This estimate is based on FOCUS Report 

filings. 

220 5 U.S.C. 603(c). 

221 15 U.S.C. 78o. 

222 17 CFR 240.0–10(c)(1). 

223 17 CFR 240.17a–5(d). 

another option with respect to assets 

that can be deposited into the customer 

reserve account. The proposed 

amendment that would require brokerdealers to obtain possession and control 

of customers’ fully paid and excess 

margin securities allocated to a short 

position is responding to the fact that 

some firms are permitting these 

positions to accumulate, which puts 

customers at risk. The proposed 

amendment that would require brokerdealers to provide certain notices and 

disclosures before changing the terms 

and conditions under which the brokerdealer treats customer free credit 

balances is intended to help assure that 

the use of customer free credit balances 

accords with customer preferences. The 

proposed amendment lowering the 

aggregate debit item reduction from 3% 

to 1% is responding to the dramatic 

increase in debit items accumulating at 

broker-dealers. The proposed 

amendment clarifying that funds in 

certain commodities accounts are not to 

be treated as ‘‘free credit balances’’ is 

intended to remove uncertainty with 

respect to their treatment. 

2. Objectives 

Most of the proposed amendments to 

Rule 15c3–3 are intended to strengthen 

the protections afforded to customer 

assets held at a broker-dealer. The 

intended result of the proposed 

amendments is to minimize the risk that 

customer assets will be lost, tied-up in 

a liquidation proceeding, or held in a 

manner that is inconsistent with a 

customer’s expectations. The proposed 

amendment expanding the definition of 

qualified security is intended to lower 

operational burdens of broker-dealers. 

The proposed amendment eliminating 

the 3% reduction is intended to better 

align the requirement to reduce debits 

with the credit risk being addressed by 

the requirement. The proposed 

amendment clarifying the treatment of 

funds in certain commodities accounts 

is intended to remove an ambiguity in 

the rule. 

3. Legal Basis 

Pursuant to the Exchange Act and, 

particularly, Section 15, 15 U.S.C. 78o. 

4. Small Entities Subject to the Rule 

Paragraph (c)(1) of Rule 0–10 217 states 

that the term ‘‘small business’’ or ‘‘small 

organization,’’ when referring to a 

broker-dealer, means a broker or dealer 

that 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 financial 

statements were prepared pursuant to 

Rule 17a–5(d); 218 and is not affiliated 

with any person (other than a natural 

person) that is not a small business or 

small organization. 

The Commission estimates there are 

approximately eight broker-dealers that 

performed a customer reserve 

computation pursuant to Rule 15c3–3 

and were ‘‘small’’ for the purposes of 

Rule 0–10.219

5. Reporting, Recordkeeping, and Other 

Compliance Requirements 

The proposed amendments would (1) 

require broker-dealers to perform a 

reserve computation for domestic and 

foreign broker-dealer accounts, (2) limit 

the amount that a broker-dealer may 

deposit in a reserve account at any 

individual bank in the form of cash, (3) 

require broker-dealers to obtain 

possession and control of customers’

fully paid and excess margin securities 

allocated to a short position by 

borrowing equivalent securities within a 

specified period of time, (4) require 

broker-dealers to obtain an affirmative 

consent from a customer before 

changing the terms and conditions 

under which the broker-dealer holds 

credit balances related to the customer, 

and (5) lower the aggregate debit 

reduction. 

6. Duplicative, Overlapping or 

Conflicting Federal Rules 

We believe that there are no Federal 

rules that duplicate, overlap or conflict 

with the proposed amendments. 

7. Significant Alternatives 

Pursuant to section 3(a) of the RFA,220

the Commission must consider certain 

types of alternatives, including (1) the 

establishment of differing compliance or 

reporting requirements or timetables 

that take into account the resources 

available to small entities, (2) the 

clarification, consolidation, or 

simplification of compliance and 

reporting requirements under the rule 

for small entities, (3) the use of 

performance rather than design 

standards, and (4) an exemption from 

coverage of the rule, or any part thereof, 

for small entities. 

Given the negligible impact these 

amendments would have on small 

entities, we do not believe it is 

necessary or appropriate to establish 

different compliance or reporting 

requirements or timetables; clarify, 

consolidate, or simplify compliance and 

reporting requirements under the rule 

for small entities; or exempt small 

entities from coverage of the rule, or any 

part thereof. The Commission also does 

not believe that it is necessary to 

consider whether small entities should 

be permitted to use performance rather 

than design standards to comply with 

the proposed amendments as the 

amendments already propose 

performance standards and do not 

dictate for entities of any size any 

particular design standards (e.g., 

technology) that must be employed to 

achieve the objectives of the proposed 

amendments. 

8. Request for Comments 

We encourage the submission of 

comments to any aspect of this portion 

of the IRFA. Comments should specify 

costs of compliance with the proposed 

amendment and suggest alternatives 

that would accomplish the objective of 

the proposed amendments. 

B. Portfolio Margining Amendments 

1. Reasons 

The CBOE and the NYSE rules permit 

broker-dealers to determine customer 

margin requirements using a portfolio 

margin methodology and permit crossmargining; namely, the inclusion in the 

portfolio margin account of futures and 

futures options on broad-based 

securities indices. These proposed 

amendments are designed to provide 

portfolio margin customers with 

protection for futures positions carried 

in their securities accounts. 

2. Objectives 

These proposed amendments are 

designed to provide customers with 

futures and futures options in a 

portfolio margin account with SIPA 

protections. 

3. Legal Basis 

Pursuant to the Exchange Act and, 

particularly, section 15.221

4. Small Entities Subject to the Rule 

Paragraph (c)(1) of Rule 0–10 222 states 

that the term ‘‘small business’’ or ‘‘small 

organization,’’ when referring to a 

broker-dealer, means a broker or dealer 

that 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 financial 

statements were prepared pursuant to 

Rule 17a–5(d); 223 and is not affiliated 

with any person (other than a natural 


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12890 Federal Register / Vol. 72, No. 52 / Monday, March 19, 2007 / Proposed Rules 

224This estimate is based on FOCUS Report 

filings. 

225 5 U.S.C. 603(c). 

226 17 CFR 240.0–10(c)(1). 

227 17 CFR 240.17a–5(d). 

228This estimate is based on FOCUS Report 

filings. 

229 5 U.S.C. 603(c). 

person) that is not a small business or 

small organization. 

The Commission estimates there are 

approximately eight broker-dealers that 

performed a customer reserve 

computation pursuant to Rule 15c3–3 

and were ‘‘small’’ for the purposes of 

Rule 0–10.224

5. Reporting, Recordkeeping, and Other 

Compliance Requirements 

These proposed amendments would 

(1) revise the definition of ‘‘free credit 

balances’’ in Rule 15c3–3 to include 

funds in a portfolio margin account 

relating to certain futures and futures 

options positions and the market value 

of futures options as of the filing date in 

a SIPA proceeding, and (2) add a debit 

line item to the customer reserve 

formula in Rule 15c3–3a consisting of 

margin posted by a broker-dealer to a 

futures clearing agency. 

6. Duplicative, Overlapping or 

Conflicting Federal Rules 

We believe that there are no Federal 

rules that duplicate, overlap or conflict 

with the proposed amendments. 

7. Significant Alternatives 

Pursuant to Section 3(a) of the 

RFA,225 the Commission must consider 

certain types of alternatives, including 

(1) the establishment of differing 

compliance or reporting requirements or 

timetables that take into account the 

resources available to small entities, (2) 

the clarification, consolidation, or 

simplification of compliance and 

reporting requirements under the rule 

for small entities, (3) the use of 

performance rather than design 

standards, and (4) an exemption from 

coverage of the rule, or any part thereof, 

for small entities. 

Given the negligible impact this 

amendment would have on small 

entities, we do not believe it is 

necessary or appropriate to establish 

different compliance or reporting 

requirements or timetables; clarify, 

consolidate, or simplify compliance and 

reporting requirements under the rule 

for small entities; or exempt small 

entities from coverage of the rule, or any 

part thereof. 

The Commission also does not believe 

that it is necessary to consider whether 

small entities should be permitted to 

use performance rather than design 

standards to comply with the proposed 

amendments as the amendments already 

propose performance standards and do 

not dictate for entities of any size any 

particular design standards (e.g., 

technology) that must be employed to 

achieve the objectives of the proposed 

amendments. 

8. Request for Comments 

We encourage the submission of 

comments to any aspect of this portion 

of the IRFA. Comments should specify 

costs of compliance with the proposed 

amendment and suggest alternatives 

that would accomplish the objective of 

the proposed amendments. 

C. Securities Lending, Borrowing, and 

Repurchase/Reverse Repurchase 

Amendments 

1. Reasons 

In 2001, MJK Clearing, a broker-dealer 

with a substantial number of customer 

accounts, failed when it could not meet 

its securities lending obligations. This 

failure has highlighted the risks 

associated with securities lending and 

the economically similar repurchase 

and reverse repurchase agreements and 

the need to manage those risks. 

2. Objectives 

These proposed amendments are 

intended to strengthen the 

documentation controls broker-dealers 

employ to manage their securities 

lending and borrowing and securities 

repurchase and reverse repurchase 

activities and to enhance regulatory 

monitoring. The intended result of the 

amendments is to minimize the risk that 

a firm would fail as a result of 

inadequate controls over its securities 

lending and borrowing securities 

repurchase and reverse repurchase 

activities. 

3. Legal Basis 

Pursuant to the Exchange Act and, 

particularly, Sections 15 and 17 thereof, 

15 U.S.C. 78o and 78q. 

4. Small Entities Subject to the Rule 

Paragraph (c)(1) of Rule 0–10 226 states 

that the term ‘‘small business’’ or ‘‘small 

organization,’’ when referring to a 

broker-dealer, means a broker or dealer 

that 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 financial 

statements were prepared pursuant to 

Rule 17a–5(d);227 and is not affiliated 

with any person (other than a natural 

person) that is not a small business or 

small organization. 

The Commission estimates that none 

of the broker-dealers that engage in 

securities lending and borrowing or 

securities repurchase and reverse 

repurchase activity are ‘‘small’’ for the 

purposes Rule 0–10.228 Therefore, the 

proposed amendments should not 

impact on ‘‘small’’ broker-dealers. 

5. Reporting, Recordkeeping, and Other 

Compliance Requirements 

These proposed amendments would 

require broker-dealers to (1) disclose the 

principals and obtain certain 

agreements from the principals in a 

transaction where they provide 

settlement services in order to be 

considered an agent (as opposed to a 

principal) for the purposes of the net 

capital rule, and (2) provide notice to 

the Commission and other regulatory 

authorities if the broker-dealer’s 

securities lending or repo activity 

reaches a certain threshold or, 

alternatively, provide regulatory 

authorities with a monthly report of the 

broker-dealer’s securities lending and 

repo activity. 

6. Duplicative, Overlapping or 

Conflicting Federal Rules 

We believe that there are no Federal 

rules that duplicate, overlap or conflict 

with the proposed amendments. 

7. Significant Alternatives 

Pursuant to Section 3(a) of the 

RFA,229 the Commission must consider 

certain types of alternatives, including 

(1) the establishment of differing 

compliance or reporting requirements or 

timetables that take into account the 

resources available to small entities, (2) 

the clarification, consolidation, or 

simplification of compliance and 

reporting requirements under the rule 

for small entities, (3) the use of 

performance rather than design 

standards, and (4) an exemption from 

coverage of the rule, or any part thereof, 

for small entities. 

As noted above, we estimate that this 

proposed amendment would have no 

impact on small entities. Thus, we do 

not believe it is necessary or appropriate 

to establish different compliance or 

reporting requirements or timetables; 

clarify, consolidate, or simplify 

compliance and reporting requirements 

under the rule for small entities; use 

performance rather than design 

standards, or any part thereof. 

The Commission also does not believe 

that it is necessary to consider whether 

small entities should be permitted to 

use performance rather than design 

standards to comply with the proposed 

amendments as the amendments already 


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Federal Register / Vol. 72, No. 52 / Monday, March 19, 2007 / Proposed Rules 12891 

230 17 CFR 240.0–10(c)(1). 

231 17 CFR 240.17a–5(d). 

232This estimate is based on FOCUS Report 

filings. 233 5 U.S.C. 603(c). 234 17 CFR 240.0–10(c)(1). 

propose performance standards and do 

not dictate for entities of any size any 

particular design standards (e.g., 

technology) that must be employed to 

achieve the objectives of the proposed 

amendments. 

8. Request for Comments 

We encourage the submission of 

comments to any aspect of this portion 

of the IRFA. Comments should specify 

costs of compliance with the proposed 

amendment and suggest alternatives 

that would accomplish the objective of 

the proposed amendments. 

D. Documentation of Risk Management 

Procedures 

1. Reasons 

Requiring certain large broker-dealers 

to document their risk management 

procedures would assist firms in 

ensuring adherence to their established 

risk controls and regulators in reviewing 

the controls. 

2. Objectives 

These proposed amendments are 

intended to strengthen the controls 

certain large broker-dealers employ to 

manage risk. The intended result of 

these proposed amendments is to lower 

systemic risk in the securities industry 

by enhancing risk management. 

3. Legal Basis 

Pursuant to the Exchange Act and, 

particularly, Sections 15 and 17 thereof, 

15 U.S.C. 78o and 78q. 

4. Small Entities Subject to the Rule 

Paragraph (c)(1) of Rule 0–10 230 states 

that the term ‘‘small business’’ or ‘‘small 

organization,’’ when referring to a 

broker-dealer, means a broker or dealer 

that 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 financial 

statements were prepared pursuant to 

Rule 17a–5(d); 231 and is not affiliated 

with any person (other than a natural 

person) that is not a small business or 

small organization. 

The Commission estimates that none 

of the broker-dealers that would be 

subject to this proposed amendment 

would be ‘‘small’’ for the purposes Rule 

0–10.232 Therefore, these amendments 

should not have any impact on ‘‘small’’

broker-dealers. 

5. Reporting, Recordkeeping, and Other 

Compliance Requirements 

These proposed amendments would 

require broker-dealers to document any 

controls, procedures and guidelines 

they use for managing risk. The 

proposed amendments do not require 

broker-dealers to implement procedures. 

Rather, they require the documentation 

of any procedures that are being used. 

6. Duplicative, Overlapping or 

Conflicting Federal Rules 

We believe that there are no federal 

rules that duplicate, overlap or conflict 

with the proposed amendments. 

7. Significant Alternatives 

Pursuant to section 3(a) of the RFA,233

the Commission must consider certain 

types of alternatives, including (1) the 

establishment of differing compliance or 

reporting requirements or timetables 

that take into account the resources 

available to small entities, (2) the 

clarification, consolidation, or 

simplification of compliance and 

reporting requirements under the rule 

for small entities, (3) the use of 

performance rather than design 

standards, and (4) an exemption from 

coverage of the rule, or any part thereof, 

for small entities. 

As noted above, these proposed 

amendments would have no impact on 

‘‘small’’ broker-dealers. Thus, we do not 

believe it is necessary or appropriate to 

establish different compliance or 

reporting requirements or timetables; 

clarify, consolidate, or simplify 

compliance and reporting requirements 

under the rule for small entities; or 

exempt small entities from coverage of 

the rule, or any part thereof. 

The Commission also does not believe 

that it is necessary to consider whether 

small entities should be permitted to 

use performance rather than design 

standards to comply with the proposed 

amendments as the amendments already 

propose performance standards and do 

not dictate for entities of any size any 

particular design standards (e.g., 

technology) that must be employed to 

achieve the objectives of the proposed 

amendments. 

8. Request for Comments 

We encourage the submission of 

comments to any aspect of this portion 

of the IRFA. Comments should specify 

costs of compliance with the proposed 

amendment and suggest alternatives 

that would accomplish the objective of 

the proposed amendments. 

E. Amendments to the Net Capital Rule 

1. Limitations on Withdrawal of Capital, 

Solvency, Expense Sharing, Temporary 

Capital and Fidelity Bond Deductions 

i. Reasons 

Some broker-dealers have excluded 

from their regulatory financial reports 

certain liabilities that have been shifted 

to third-parties that lack the resources—

independent of the assets and revenue 

of the broker-dealer—to pay the 

liabilities or have utilized infusions of 

temporary capital. These practices 

obscure the true financial condition of 

the broker-dealer and, thereby, impede 

the ability of regulators to take proactive 

steps to reduce the harm to customers, 

counterparties and clearing agencies 

that may result from the broker-dealer’s 

failure. 

Currently, broker-dealers are required 

to take net capital charges pursuant to 

self-regulatory organization rules 

relating to fidelity bond deductions, but 

Rule 15c3–1 does not explicitly 

incorporate such charges for purposes of 

computing net capital. 

In the past several years, a number of 

broker-dealers have sought to obtain 

protection under the bankruptcy laws 

while still engaging in a securities 

business. Permitting an insolvent 

broker-dealer to continue to transact a 

securities business endangers its 

customers and counterparties and 

places clearance organizations at risk. 

An important goal of the Commission 

is to protect the financial integrity of the 

broker-dealer so that if the firm must 

liquidate it may do so in an orderly 

fashion. Allowing a withdrawal of 

capital that may jeopardize the financial 

integrity of a broker-dealer exposes 

customers and creditors of the brokerdealer to unnecessary risk. 

ii. Objectives 

The objective of these proposed 

amendments is to reduce systemic risk 

to the securities industry associated 

with the failure of the broker-dealer. 

iii. Legal Basis 

Pursuant to the Exchange Act and, 

particularly, Sections 15 and 17 thereof, 

15 U.S.C. 78o and 78q. 

iv. Small Entities Subject to the Rule 

Paragraph (c)(1) of Rule 0–10 234 states 

that the term ‘‘small business’’ or ‘‘small 

organization,’’ when referring to a 

broker-dealer, means a broker or dealer 

that 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 financial 


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235 17 CFR 240.17a–5(d). 

236This estimate is based on FOCUS Report 

filings. 

237 5 U.S.C. 603(c). 

238 17 CFR 240.0–10(c)(1). 

239 17 CFR 240.17a–5(d). 

240This estimate is based on FOCUS Report 

filings. 

241 5 U.S.C. 603(c). 

statements were prepared pursuant to 

Rule 17a–5(d);235 and is not affiliated 

with any person (other than a natural 

person) that is not a small business or 

small organization. 

The Commission estimates that there 

are approximately 915 broker-dealers 

that are ‘‘small’’ for the purposes Rule 

0–10.236 These proposed amendments 

would apply to all ‘‘small’’ brokerdealers in that they would be subject to 

the requirements in the proposed 

amendments. 

v. Reporting, Recordkeeping, and Other 

Compliance Requirements 

The proposed amendments would 

require an insolvent broker-dealer to 

cease conducting a securities business 

and provide the securities regulators 

with notice of its insolvency. They also 

would require broker-dealers to add 

back certain liabilities and treat certain 

capital as a liability, as well as require 

broker-dealers to deduct from net 

capital, with regard to fidelity bonding 

requirements, the excess of any 

deductible amount over the maximum 

amount permitted by self-regulatory 

organization rules. Finally, under the 

proposed amendment to the rule on 

Commission orders restricting 

withdrawals of capital, a broker-dealer 

subject to an order would not be 

permitted to withdraw any capital. 

vi. Duplicative, Overlapping or 

Conflicting Federal Rules 

We believe that there are no Federal 

rules that duplicate, overlap or conflict 

with the proposed amendments. 

vii. Significant Alternatives 

Pursuant to section 3(a) of the RFA,237

the Commission must consider certain 

types of alternatives, including (1) the 

establishment of differing compliance or 

reporting requirements or timetables 

that take into account the resources 

available to small entities, (2) the 

clarification, consolidation, or 

simplification of compliance and 

reporting requirements under the rule 

for small entities, (3) the use of 

performance rather than design 

standards, and (4) an exemption from 

coverage of the rule, or any part thereof, 

for small entities. 

Given the minimal impact these 

amendments will have on small entities, 

we do not believe it is necessary or 

appropriate to establish different 

compliance or reporting requirements or 

timetables; clarify, consolidate, or 

simplify compliance and reporting 

requirements under the rule for small 

entities; or exempt small entities from 

coverage of the rule, or any part thereof. 

The Commission also does not believe 

that it is necessary to consider whether 

small entities should be permitted to 

use performance rather than design 

standards to comply with the proposed 

amendments as the amendments already 

propose performance standards and do 

not dictate for entities of any size any 

particular design standards (e.g., 

technology) that must be employed to 

achieve the objectives of the proposed 

amendments. 

viii. Request for Comments 

We encourage the submission of 

comments to any aspect of this portion 

of the IRFA. Comments should specify 

costs of compliance with the proposed 

amendment and suggest alternatives 

that would accomplish the objective of 

the proposed amendments. 

2. Adjusted Net Capital Requirements 

i. Reasons 

The Commission’s experience over 

the past several years in overseeing the 

capital requirements of broker-dealers 

indicates that certain capital charges 

may be adjusted downward without 

impairing the goal of the net capital 

rule. These proposed amendments are a 

result of this experience. 

ii. Objective 

The proposed amendments are 

intended to better align the capital 

requirements with the risks these 

requirements are designed to address. 

iii. Legal Basis 

Pursuant to the Exchange Act and, 

particularly, Sections 15 and 17 thereof, 

15 U.S.C. 78o and 78q. 

iv. Small Entities Subject to the Rule 

Paragraph (c)(1) of Rule 0–10 238 states 

that the term ‘‘small business’’ or ‘‘small 

organization,’’ when referring to a 

broker-dealer, means a broker or dealer 

that 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 financial 

statements were prepared pursuant to 

Rule 17a–5(d); 239 and is not affiliated 

with any person (other than a natural 

person) that is not a small business or 

small organization. 

The Commission estimates that there 

are approximately 915 broker-dealers 

that were ‘‘small’’ for the purposes Rule 

0–10.240 The amendment to Appendix A 

of Rule 15c3–1 likely should have no, or 

little, impact on ‘‘small’’ broker-dealers, 

since most, if not all, of these firms do 

not carry non-clearing option specialist 

or market maker accounts. The 

reduction of the haircut for money 

market funds from 2% to 1% could 

impact all ‘‘small’’ firms, since they may 

hold these securities as part of their net 

capital. 

v. Reporting, Recordkeeping, and Other 

Compliance Requirements 

The proposed amendments would (1) 

make permanent a temporary rule that 

reduced the haircut for non-clearing 

options specialist and market maker 

accounts under Appendix A, and (2) 

lower the haircut for money market 

funds from 2% to 1%. As noted, we 

estimate that generally only the second 

proposed amendment would affect 

‘‘small’’ broker-dealers. 

vi. Duplicative, Overlapping or 

Conflicting Federal Rules 

We believe that there are no federal 

rules that duplicate, overlap or conflict 

with the proposed amendments. 

vii. Significant Alternatives 

Pursuant to section 3(a) of the RFA,241

the Commission must consider certain 

types of alternatives, including (1) the 

establishment of differing compliance or 

reporting requirements or timetables 

that take into account the resources 

available to small entities, (2) the 

clarification, consolidation, or 

simplification of compliance and 

reporting requirements under the rule 

for small entities, (3) the use of 

performance rather than design 

standards, and (4) an exemption from 

coverage of the rule, or any part thereof, 

for small entities. 

Given the deregulatory impact of 

these amendments, we do not believe it 

is necessary or appropriate to establish 

different compliance or reporting 

requirements or timetables; clarify, 

consolidate, or simplify compliance and 

reporting requirements under the rule 

for small entities; or exempt small 

entities from coverage of the rule, or any 

part thereof. 

The Commission also does not believe 

that it is necessary to consider whether 

small entities should be permitted to 

use performance rather than design 

standards to comply with the proposed 

amendments as the amendments already 

propose performance standards and do 

not dictate for entities of any size any 


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242 15 U.S.C. 78o, 78q. 78w and 78mm. 

particular design standards (e.g., 

technology) that must be employed to 

achieve the objectives of the proposed 

amendments. 

viii. Request for Comments 

We encourage the submission of 

comments to any aspect of this portion 

of the IRFA. Comments should specify 

costs of compliance with the proposed 

amendment and suggest alternatives 

that would accomplish the objective of 

the proposed amendments. 

IX. Statutory Authority 

The Commission is proposing 

amendments to Rules 15c3–1, 15c3–3, 

17a–3, 17a–4 and 17a–11 under the 

Exchange Act pursuant to the authority 

conferred by the Exchange Act, 

including Sections 15, 17, 23(a) and 

36.242

Text of Proposed Rule 

List of Subjects in 17 CFR Part 240 

Brokers, Reporting and recordkeeping 

requirements, Securities. 

In accordance with the foregoing, the 

Commission hereby proposes that Title 

17, Chapter II of the Code of Federal 

Regulation be amended as follows. 

PART 240—GENERAL RULES AND 

REGULATIONS, SECURITIES 

EXCHANGE ACT OF 1934 

1. The general authority for part 240 

is revised to read 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, 

78j–l, 78k, 78k–1, 78l, 78m, 78n, 78o, 78p, 

78q, 78s, 78u–5, 78w, 78x, 78ll, 78mm, 80a–

20, 80a–23, 80a–29, 80a–37, 80b–3, 80b–4 

and 80b–11, and 7201 et seq.; and 18 U.S.C. 

1350, unless otherwise noted. 

* * * * * 

2. Section 240.15c3–1 is amended by: 

a. Revising the first sentence of the 

introductory text of paragraph (a); 

b. Revising paragraph (a)(1)(ii)(A); 

c. Removing from paragraph 

(a)(6)(iii)(A) the text ‘‘paragraph 

(c)(2)(x)(A)(1) through (9) of this 

section’’ and in its place adding the text 

‘‘Appendix A (§ 240.15c3–1a)’’; 

d. Revising the introductory text of 

paragraph (c)(2)(i); 

e. Adding paragraphs (c)(2)(i)(F) and 

(G); 

f. Revising paragraphs (c)(2)(iv)(B), 

(c)(2)(iv)(E), and (c)(2)(vi)(D)(1); 

g. Adding paragraph (c)(2)(xiv) before 

the undesignated heading; 

h. Adding paragraph (c)(16) and an 

undesignated heading; 

i. Revising paragraph (e)(3)(i); and 

j. Removing from the second sentence 

in paragraph (e)(3)(ii) the text ‘‘The 

hearing’’ and in its place adding the text 

‘‘A hearing on an order temporarily 

prohibiting the withdrawal of capital’’. 

The revisions and additions read as 

follows: 

§ 240.15c3–1 Net capital requirements for 

brokers or dealers. 

(a) Every broker or dealer shall at all 

times have and maintain net capital no 

less than the greater of the highest 

minimum requirement applicable to its 

ratio requirement under paragraph (a)(1) 

of this section, or to any of its activities 

under paragraph (a)(2) of this section, 

and shall otherwise not be ‘‘insolvent’’

as that term is defined in paragraph 

(c)(16) of this section. * * * 

* * * * * 

(1)(i) * * * 

(ii) * * * 

(A) Make the computation required by 

§ 240.15c3–3(e) and set forth in Exhibit 

A, § 240.15c3–3a, on a weekly basis; 

* * * * * 

(c) * * * 

(2) * * * 

(i) Adjustments to net worth related to 

unrealized profit or loss, deferred tax 

provisions, and certain liabilities.* * * 

* * * * * 

(F) Adding to net worth any liability 

or expense relating to the business of 

the broker-dealer for which a third party 

has assumed the responsibility, unless 

the broker or dealer can demonstrate 

that the third-party has adequate 

resources independent of the brokerdealer to pay the liability or expense. 

(G) Subtracting from net worth any 

contribution of capital to the broker or 

dealer: 

(1) Under an agreement that provides 

the investor with the option to 

withdraw the capital; or 

(2) That is intended to be withdrawn 

within a period of one year unless the 

withdrawal has been approved in 

writing by the Examining Authority for 

the broker or dealer. Any withdrawal of 

capital made within one year of its 

contribution to the broker or dealer is 

presumed to be subject to this 

deduction. 

* * * * * 

(iv) * * * 

(B) All unsecured advances and loans; 

deficits in customers’ and noncustomers’ unsecured and partly 

secured notes; deficits in omnibus credit 

accounts maintained in compliance 

with the requirements of 12 CFR 

220.7(f) of Regulation T under the Act, 

or similar accounts carried on behalf of 

another broker or dealer, after 

application of calls for margin, marks to 

the market or other required deposits 

that are outstanding 5 business days or 

less; deficits in customers’ and noncustomers’ unsecured and partly 

secured accounts after application of 

calls for margin, marks to market or 

other required deposits that are 

outstanding 5 business days or less, 

except deficits in cash accounts as 

defined in 12 CFR 220.8 of Regulation 

T under the Act for which not more 

than one extension respecting a 

specified securities transaction has been 

requested and granted, and deducting 

for securities carried in any of such 

accounts the percentages specified in 

paragraph (c)(2)(vi) of this section or 

Appendix A, § 240.15c3–1a; the market 

value of stock loaned in excess of the 

value of any collateral received 

therefore; receivables arising out of free 

shipments of securities (other than 

mutual fund redemptions) in excess of 

$5,000 per shipment and all free 

shipments (other than mutual fund 

redemptions) outstanding more than 7 

business days, and mutual fund 

redemptions outstanding more than 16 

business days; and any collateral 

deficiencies in secured demand notes as 

defined in Appendix D, § 240.15c3–1d; 

a broker or dealer that participates in a 

loan of securities by one party to 

another party shall be deemed a 

principal for the purpose of the 

deductions required under this section, 

unless the broker or dealer has fully 

disclosed the identity of each party to 

the other and each party has expressly 

agreed in writing that the obligations of 

the broker or dealer shall not include a 

guarantee of performance by the other 

party and that such party’s remedies in 

the event of a default by the other party 

shall not include a right of setoff against 

obligations, if any, of the broker or 

dealer. 

* * * * * 

(E) Other deductions. All other 

unsecured receivables; all assets 

doubtful of collection less any reserves 

established therefore; the amount by 

which the market value of securities 

failed to receive outstanding longer than 

thirty (30) calendar days exceeds the 

contract value of such fails to receive; 

the funds on deposit in a ‘‘segregated 

trust account’’ in accordance with 17 

CFR 270.27d–1 under the Investment 

Company Act of 1940, but only to the 

extent that the amount on deposit in 

such segregated trust account exceeds 

the amount of liability reserves 

established and maintained for refunds 

of charges required by sections 27(d) 

and 27(f) of the Investment Company 

Act of 1940; and cash and securities 

held in a securities account at another 


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broker-dealer if the other broker-dealer 

does not treat the account, and the 

assets therein, in compliance with 

paragraphs (b)(5) and (e) of § 240.15c3–

3; Provided, That any amounts 

deposited in special reserve bank 

accounts established for the exclusive 

benefit of customers or PAB accounts 

pursuant to § 240.15c3–3(e) and clearing 

deposits shall not be deducted. 

* * * * * 

(vi) * * * 

(D)(1) In the case of redeemable 

securities of an investment company 

registered under the Investment 

Company Act of 1940, which assets 

consist of cash or money market 

instruments and which is described in 

§ 270.2a–7 of this Chapter, the 

deduction shall be 1% of the market 

value of the greater of the long or short 

position. 

* * * * * 

(xiv) Deduction from net worth for 

excess deductible amounts related to 

fidelity bond coverage. Deducting, with 

respect to fidelity bond coverage, the 

excess of any deductible amount over 

the maximum deductible amount 

permitted by the Examining Authority 

for the broker or dealer. 

* * * * * 

Insolvent 

(16) A broker or dealer is insolvent for 

the purposes of this section if the 

broker-dealer: 

(i) Is the subject of any bankruptcy, 

equity receivership proceeding or any 

other proceeding to reorganize, 

conserve, or liquidate such broker or 

dealer or its property whether 

commenced voluntarily or involuntarily 

or is applying for the appointment or 

election of a receiver, trustee, or 

liquidator or similar official for such 

broker or dealer or its property; 

(ii) Has made a general assignment for 

the benefit of creditors; 

(iii) Is insolvent within the meaning 

of section 101 of title 11 of the United 

States Code, or is unable to meet its 

obligations as they mature, and has 

made an admission to such effect in 

writing or in any court or before any 

agency of the United States or any State; 

or 

(iv) Is unable to make such 

computations as may be necessary to 

establish compliance with this section. 

* * * * * 

(e) * * * 

(3)(i) Temporary restrictions on 

withdrawal of net capital. The 

Commission may by order restrict, for a 

period of up to twenty business days, 

any withdrawal by the broker-dealer of 

equity capital or unsecured loan or 

advance to a stockholder, partner, sole 

proprietor, member, employee or 

affiliate if the Commission, based on the 

information available, concludes that 

such withdrawal, advance or loan may 

be detrimental to the financial integrity 

of the broker or dealer, or may unduly 

jeopardize the broker or dealer’s ability 

to repay its customer claims or other 

liabilities which may cause a significant 

impact on the markets or expose the 

customers or creditors of the broker or 

dealer to loss without taking into 

account the application of the Securities 

Investor Protection Act of 1970. 

* * * * * 

3. Section 240.15c3–1a is amended 

by: 

a. Removing paragraph (b)(1)(iv)(B); 

and 

b. Redesignating paragraphs 

(b)(1)(iv)(A), (b)(1)(iv)(A)(1), 

(b)(1)(iv)(A)(2), and (b)(1)(iv)(A)(3) as 

paragraphs (b)(1)(iv), (b)(1)(iv)(A), 

(b)(1)(iv)(B), and (b)(1)(iv)(C) 

respectively. 

4. Section 240.15c3–2 is removed and 

reserved. 

5. Section 240.15c3–3 is amended by: 

a. Removing from paragraph (a)(1), 

third sentence, the citation ‘‘220.19’’

and in its place adding the citation 

‘‘220.12’’; 

b. In paragraph (a)(1)(iii), revising the 

phrase ‘‘(15 U.S.C. 78aaa et seq.)’’ to 

read ‘‘(15 U.S.C. 78aaa et seq.) (SIPA)’’; 

c. Revising paragraphs (a)(3), (a)(4), 

(a)(6), (a)(7) and (a)(8); 

d. Adding paragraph (a)(16); 

e. Removing from paragraph (b)(3)(iv) 

the text ‘‘the Securities Investor 

Protection Act of 1970’’ and in its place 

adding the text ‘‘SIPA’’; 

f. Removing from paragraph 

(b)(4)(i)(C) the text ‘‘the Securities 

Investor Protection Act of 1970’’ and in 

its place adding the text ‘‘SIPA’’; 

g. Adding paragraph (b)(5); 

h. Removing from paragraph (c)(2) the 

text ‘‘special omnibus’’ and in its place 

adding the text ‘‘omnibus credit’’ and 

removing the text ‘‘section 4(b) of 

Regulation T under the Act (12 CFR 

220.4(b))’’ and in its place adding the 

text ‘‘section 7(f) of Regulation T (12 

CFR 220.7(f))’’; 

i. Removing the period at the end of 

paragraph (d)(3) and in its place adding 

‘‘; or’’; 

j. Redesignating paragraph (d)(4) as 

paragraph (d)(5); 

k. Adding a new paragraph (d)(4); 

l. Revising paragraphs (e) and (f); 

m. Revising the first sentence in 

paragraph (g); 

n. Removing from the first sentence of 

paragraph (i) the text ‘‘reserve bank 

account’’ and in its place adding the text 

‘‘Reserve Bank Accounts’’; 

o. Adding paragraph (j); 

p. Revising paragraph (l)(2); 

q. Removing from the last sentence in 

paragraph (m) the text ‘‘special 

omnibus’’ and in its place adding the 

text ‘‘omnibus credit’’ and removing the 

text ‘‘section 4(b) of Regulation T [12 

CFR 220.4(b)]’’ and in its place adding 

‘‘section 7(f) of Regulation T (12 CFR 

220.7(f))’’; and 

r. Removing from the first sentence in 

paragraph (n) the cite ‘‘paragraphs (d)(2) 

and (3)’’ and its place adding the cite 

‘‘paragraphs (d)(2), (3) and (4)’’. 

The revisions and additions read as 

follows: 

§ 240.15c3–3 Customer protection—

reserves and custody of securities. 

(a) * * * 

(3) The term fully paid securities shall 

include all securities carried for the 

account of a customer unless such 

securities are purchased in a transaction 

for which the customer has not made 

full payment. 

(4) The term margin securities shall 

mean those securities carried for the 

account of a customer in a margin 

account as defined in section 4 of 

Regulation T (12 CFR 220.4), as well as 

securities carried in any other account 

(such accounts hereinafter referred to as 

‘‘margin accounts’’) other than the 

securities referred to in paragraph (a)(3) 

of this section. 

* * * * * 

(6) The term qualified security shall 

mean: 

(i) A security issued by the United 

States or guaranteed by the United 

States with respect to principal or 

interest; and 

(ii) A redeemable security of an 

unaffiliated investment company 

registered under the Investment 

Company Act of 1940 and described in 

§ 270.2a–7 of this chapter that: 

(A) Has assets consisting solely of 

cash and securities issued by the United 

States or guaranteed by the United 

States with respect to principal and 

interest; 

(B) Agrees to redeem fund shares in 

cash no later than the business day 

following a redemption request by a 

shareholder; and 

(C) Has net assets (assets net of 

liabilities) equal to at least 10 times the 

value of the fund shares held by the 

broker-dealer in the customer reserve 

account required under paragraph (e) of 

this section. 

(7) The term bank shall mean a bank 

as defined in section 3(a)(6) of the Act 

and shall also mean any building and 

loan, savings and loan or similar 

banking institution subject to 

supervision by a Federal banking 


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authority. With respect to a broker or 

dealer who maintains his principal 

place of business in Canada, the term 

bank shall also mean a Canadian bank 

subject to supervision by a Canadian 

authority. 

(8) The term free credit balances shall 

mean liabilities of a broker or dealer to 

customers which are subject to 

immediate cash payment to customers 

on demand, whether resulting from 

sales of securities, dividends, interest, 

deposits or otherwise, excluding, 

however, funds in commodity accounts 

which are segregated in accordance with 

the Commodity Exchange Act or in a 

similar manner, or which are funds 

carried in a proprietary account as that 

term is defined in regulations under the 

Commodity Exchange Act. The term free 

credit balances also shall include such 

liabilities carried in a securities account 

pursuant to a self-regulatory 

organization portfolio margining rule 

approved by the Commission under 

section 19(b) of the Act (‘‘SRO portfolio 

margining rule’’), including daily marks 

to market, and proceeds resulting from 

closing out futures contracts and 

options thereon, and, in the event the 

broker-dealer is the subject of a 

proceeding under SIPA, the market 

value as of the ‘‘filing date’’ as that term 

is defined in SIPA (15 U.S.C. 78lll(7)) of 

any long options on futures contracts. 

* * * * * 

(16) The term PAB account means a 

proprietary securities account of a 

broker or dealer (which includes a 

foreign broker or dealer, or a foreign 

bank acting as a broker or dealer), but 

shall not include an account where the 

account owner is a guaranteed 

subsidiary of the carrying broker or 

dealer, the account owner guarantees all 

liabilities and obligations of the carrying 

broker or dealer, or the account is a 

delivery-versus-payment account or a 

receipt-versus-payment account. 

(b) * * * 

(5) A broker or dealer shall not be 

required to obtain and thereafter to 

maintain the physical possession or 

control of securities carried for a PAB 

account, provided that the broker or 

dealer has obtained the written 

permission of the account owner to use 

the securities in the ordinary course of 

its securities business. 

* * * * * 

(d) * * * 

(4) Securities included on his books 

or records as a proprietary short 

position or as a short position for 

another person, excluding positions 

covered by paragraph (m) of this 

section, for more than 10 business days 

(or more than 30 calendar days if the 

broker or dealer is a market maker in the 

securities), then the broker or dealer 

shall, not later than the business day 

following the day on which the 

determination is made, take prompt 

steps to obtain physical possession or 

control of such securities. 

* * * * * 

(e) Special reserve bank accounts for 

the exclusive benefit of customers and 

PAB accounts. 

(1) Every broker or dealer shall 

maintain with a bank or banks at all 

times when deposits are required or 

hereinafter specified ‘‘Special Reserve 

Bank Account for the Exclusive Benefit 

of Customers’’ (hereinafter referred to as 

the Reserve Bank Account) and a 

‘‘Special Reserve Bank Account for 

Brokers and Dealers (hereinafter referred 

to as the PAB Reserve Bank Account, 

and together with the Reserve Bank 

Account, the Reserve Bank Accounts), 

each of which shall be separate from the 

other and from any other bank account 

of the broker or dealer. Such broker or 

dealer shall at all times maintain in the 

Reserve Bank Accounts, through 

deposits made therein, cash and/or 

qualified securities in amounts 

computed in accordance with the 

formula attached as Exhibit A, as 

applied to customer and PAB accounts 

respectively. 

(2) With respect to each computation 

required pursuant to paragraph (e)(1) of 

this section, it shall be unlawful for any 

broker or dealer to accept or use any of 

the amounts under items comprising 

Total Credits under the formula referred 

to in paragraph (e)(1) of this section 

except for the specified purposes 

indicated under items comprising Total 

Debits under the formula, and, to the 

extent Total Credits exceed Total Debits, 

at least the net amount thereof shall be 

maintained in the Reserve Bank 

Accounts pursuant to paragraph (e)(1) of 

this section. 

(3)(i) Computations necessary to 

determine the amount required to be 

deposited in Reserve Bank Accounts as 

specified in paragraph (e)(1) of this 

section shall be made weekly, as of the 

close of the last business day of the 

week, and the deposit so computed 

shall be made no later than one hour 

after the opening of banking business on 

the second following business day; 

provided, however, a broker or dealer 

which has aggregate indebtedness not 

exceeding 800 per centum of net capital 

(as defined in § 240.15c3–1 or in the 

capital rules of a national securities 

exchange of which it is a member and 

exempt from § 240.15c3–1 by paragraph 

(b)(2) of that section) and which carries 

aggregate customer funds (as defined in 

paragraph (a)(10) of this section), as 

computed at the last required 

computation pursuant to this section, 

not exceeding $1,000,000, may in the 

alternative make the computation 

monthly, as of the close of the last 

business day of the month, and, in such 

event, shall deposit not less than 105 

per centum of the amount so computed 

no later than one hour after the opening 

of banking business on the second 

following business day. 

(ii) If a broker or dealer, computing on 

a monthly basis, has, at the time of any 

required computation, aggregate 

indebtedness in excess of 800 per 

centum of net capital, such broker or 

dealer shall thereafter compute weekly 

as aforesaid until four successive 

weekly computations are made, none of 

which were made at a time when his 

aggregate indebtedness exceeded 800 

per centum of his net capital. 

(iii) Any broker or dealer that does not 

carry the accounts of a ‘‘customer’’ as 

defined by this section or conduct a 

proprietary trading business may make 

the computation to be performed with 

respect to PAB accounts under 

paragraph (e)(1) of this section monthly 

rather than weekly. If a broker or dealer 

performing the computation with 

respect to PAB accounts under 

paragraph (e)(1) of this section on a 

monthly basis is, at the time of any 

required computation, required to 

deposit additional cash or qualified 

securities in the PAB Special Reserve 

Account, the broker or dealer shall 

thereafter perform the computation 

required with respect to PAB accounts 

under paragraph (e)(1) of this section 

weekly until four successive weekly 

computations are made, none of which 

is made at a time when the broker or 

dealer was required to deposit 

additional cash or qualified securities in 

the PAB Special Reserve Account. 

(iv) Computations in addition to the 

computations required in this section, 

may be made as of the close of any 

business day, and the deposits so 

computed shall be made no later than 

one hour after the opening of banking 

business on the second following 

business day. 

(v) The broker or dealer shall make 

and maintain a record of each such 

computation made pursuant to this 

section or otherwise and preserve each 

such record in accordance with 

§ 240.17a–4. 

(4) If the computation performed 

under paragraph (e)(3) of this section 

with respect to PAB accounts results in 

a deposit requirement, the requirement 

may be satisfied to the extent of any 

excess debit in the computation 

performed under paragraph (e)(3) of this 


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section with respect to customer 

accounts of the same date. However, a 

deposit requirement resulting from the 

computation performed under 

paragraph (e)(3) of this section with 

respect to customer accounts cannot be 

satisfied with excess debits from the 

computation performed under 

paragraph (e)(3) of this section with 

respect to PAB accounts. 

(5) In determining whether a broker or 

dealer maintains the minimum deposits 

required under this section, the broker 

or dealer shall exclude the total amount 

of any cash deposited with a parent or 

affiliate bank. The broker or dealer also 

shall exclude cash deposited with a 

non-parent and non-affiliated bank to 

the extent that: 

(i) The amount of the deposit exceeds 

50% of the broker-dealer’s excess net 

capital, based on the broker-dealer’s 

most recently filed FOCUS report; or 

(ii) The amount of the deposit exceeds 

10% of the bank’s equity capital as 

reported by the bank in its most recent 

Call Report or Thrift Financial Report. 

(f) Notification of banks. A broker or 

dealer required to maintain the Reserve 

Bank Accounts prescribed by this 

section or who maintains a Special 

Account referred to in paragraph (k) of 

this section shall obtain and preserve in 

accordance with § 240.17a–4 a written 

notification from each bank in which he 

has his Reserve Bank Accounts or 

Special Account that the bank was 

informed that all cash and/or qualified 

securities deposited therein are being 

held by the bank for the exclusive 

benefit of customers of the broker or 

dealer (or, in the case of the PAB 

Special Reserve Account, for the benefit 

of brokers or dealers) in accordance 

with the regulations of the Commission, 

and are being kept separate from any 

other accounts maintained by the broker 

or dealer with the bank, and the broker 

or dealer shall have a written contract 

with the bank which provides that the 

cash and/or qualified securities shall at 

no time be used directly or indirectly as 

security for a loan to the broker or 

dealer by the bank and, shall be subject 

to no right, charge, security interest, 

lien, or claim of any kind in favor of the 

bank or any person claiming through the 

bank. 

(g) Withdrawals from the reserve bank 

accounts. A broker or dealer may make 

withdrawals from his Reserve Bank 

Accounts if and to the extent that at the 

time of the withdrawal the amount 

remaining in each Reserve Bank 

Account is not less than the amount 

then required by paragraph (e) of this 

section. * * * 

* * * * * 

(j) Treatment of free credit balances. 

(1) It shall be unlawful for a broker or 

dealer to accept or use any free credit 

balance carried for the account of any 

customer of the broker or dealer unless 

such broker or dealer has established 

adequate procedures pursuant to which 

each customer for whom a free credit 

balance is carried will be given or sent, 

together with or as part of the 

customer’s statement of account, 

whenever sent but not less frequently 

than once every three months, a written 

statement informing the customer of the 

amount due to the customer by the 

broker or dealer on the date of the 

statement, and that the funds are 

payable on demand of the customer. 

(2) It shall be unlawful for a broker or 

dealer to convert, invest, or otherwise 

transfer to another account or 

institution, free credit balances held in 

a customer’s account except as provided 

in paragraphs (j)(2)(i), (ii) and (iii). 

(i) A broker or dealer is permitted to 

convert, invest, or otherwise transfer to 

another account or institution, free 

credit balances in a customer’s account 

only upon a specific order, 

authorization, or draft from the 

customer, and only in the manner, and 

under the terms and conditions, 

specified in the order, authorization, or 

draft. 

(ii) A broker or dealer is permitted to 

transfer free credit balances held in the 

account of a customer opened on or 

after the effective date of this paragraph 

to either a money market mutual fund 

product as described in § 270.2a–7 of 

this chapter or an interest bearing 

account at a bank without a specific 

order, authorization or draft for each 

such transfer, provided: 

(A) The customer has previously 

affirmatively consented to such 

treatment of the free credit balances 

after being notified of the different 

general types of money market mutual 

fund and bank account products in 

which the broker or dealer may transfer 

the free credit balances and the 

applicable terms and conditions that 

will apply if the broker or dealer 

changes the product or type of product 

in which free credit balances are 

transferred; 

(B) The broker or dealer provides the 

customer on an ongoing basis with all 

disclosures and notices regarding the 

investment and deposit of free credit 

balances as required by the selfregulatory organizations for which the 

broker or dealer is a member; 

(C) The broker or dealer provides 

notice to the customer as part of the 

customer’s quarterly statement of 

account that the money market mutual 

funds or bank deposits to which the free 

credit balances have been transferred 

can be liquidated on the customer’s 

demand and held as free credit 

balances; and 

(D) The broker or dealer provides the 

customer with at least 30 calendar days 

notice before the free credit balances 

will begin being transferred to a 

different product, different product 

type, or into the same product but under 

materially different terms and 

conditions. The notice must describe 

the new money market fund, bank 

deposit type, or terms and conditions, 

and how the customer can notify the 

broker or dealer if the customer chooses 

not to have the free credit balances 

transferred to the new product or 

product type, or under the new terms 

and conditions. 

(iii) A broker or dealer is permitted to 

transfer free credit balances that are 

held or will accumulate in the account 

of a customer opened before the 

effective date of this paragraph to either 

a money market mutual fund product as 

described in § 270.2a–7 of this chapter 

or an interest bearing account product at 

a bank without a specific order, 

authorization or draft for each such 

transfer, provided: 

(A) The broker or dealer provides the 

customer on an ongoing basis with all 

disclosures and notices regarding the 

investment and deposit of free credit 

balances as required by the selfregulatory organizations for which the 

broker or dealer is a member; 

(B) The broker or dealer provides 

notice to the customer as part of the 

customer’s quarterly statement of 

account that the money market mutual 

funds or bank deposits to which the free 

credit balances have been transferred 

can be liquidated on the customer’s 

demand and held as free credit 

balances; and 

(C) The broker or dealer provides the 

customer with at least 30 calendar days 

notice before the free credit balances 

will begin being transferred to a 

different product, different product 

type, or into the same product but under 

materially different terms and 

conditions. The notice must describe 

the new money market fund, bank 

deposit type, or terms and conditions, 

and how the customer can notify the 

broker or dealer if the customer chooses 

not to have the free credit balances 

transferred to the new product or 

product type, or under the new terms 

and conditions. 

* * * * * 

(l) * * * 

(2) Margin securities upon full 

payment by such customer to the broker 

or dealer of his indebtedness to the 


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broker or dealer; and, subject to the right 

of the broker or dealer under Regulation 

T (12 CFR part 220) to retain collateral 

for his own protection beyond the 

requirements of Regulation T, excess 

margin securities not reasonably 

required to collateralize such customer’s 

indebtedness to the broker or dealer. 

* * * * * 

6. Section 240.15c3–3a is revised to 

read as follows: 

§ 240.15c3–3a Exhibit A—Formula for 

determination of customer and PAB 

account reserve requirements of brokers 

and dealers under § 240.15c3–3. 

Credits Debits 

1. Free credit balances and other credit balances in customers’ security accounts. (See Note A) .............................. $XXX ....................

2. Monies borrowed collateralized by securities carried for the account of customers (See Note B) ........................... XXX ....................

3. Monies payable against customers’ securities loaned (See Note C) ......................................................................... XXX ....................

4. Customers’ securities failed to receive (See Note D) ................................................................................................. XXX ....................

5. Credit balances in firm accounts which are attributable to principal sales to customers ........................................... XXX ....................

6. Market value of stock dividends, stock splits and similar distributions receivable outstanding over 30 calendar 

days .............................................................................................................................................................................. XXX ....................

7. Market value of short security count difference over 30 calendar days old ............................................................... XXX ....................

8. Market value of short securities and credits (not to be offset by longs or by debits) in all suspense accounts over 

30 calendar days. ......................................................................................................................................................... XXX ....................

9. Market value of securities which are in transfer in excess of 40 calendar days and have not been confirmed to 

be in transfer by the transfer agent or the issuer during the 40 days ........................................................................ XXX ....................

10. Debit balances in customers’ cash and margin accounts excluding unsecured accounts and accounts doubtful 

of collection. (See Note E) ........................................................................................................................................... .................... $XXX 

11. Securities borrowed to effectuate short sales by customers and securities borrowed to make delivery on customers’ securities failed to deliver ............................................................................................................................... .................... XXX 

12. Failed to deliver of customers’ securities not older than 30 calendar days ............................................................. .................... XXX 

13. Margin required and on deposit with the Options Clearing Corporation for all option contracts written or purchased in customer and PAB accounts. (See Note F) ............................................................................................... .................... XXX 

14. Margin required and on deposit with a clearing agency registered with the Commission under section 17A of 

the Act (15 U.S.C. 78q–1) or a derivatives clearing organization registered with the Commodity Futures Trading 

Commission under section 5b of the Commodity Exchange Act (7 U.S.C. 7a–1) related to the following types of 

positions written, purchased or sold in customer accounts: (1) Security futures products and (2) futures contracts 

(and options thereon) carried in a securities account pursuant to an SRO portfolio margining rule (See Note G) ... .................... XXX 

Total credits .............................................................................................................................................................. .................... ....................

Total debits ............................................................................................................................................................... .................... ....................

15. Excess of total credits (sum of items 1–9) over total debits (sum of items 10–14) required to be on deposit in 

the ‘‘Reserve Bank Account’’ (§ 240.15c3–3(c)). If the computation is made monthly as permitted by this section, 

the deposit shall be not less than 105% of the excess of total credits over total debits ............................................ .................... XXX 

Notes Regarding the Customer Reserve 

Computation 

Note A. Item 1 shall include all 

outstanding drafts payable to customers 

which have been applied against free credit 

balances or other credit balances and shall 

also include checks drawn in excess of bank 

balances per the records of the broker or 

dealer. 

Note B. Item 2 shall include the amount of 

options-related or security futures productrelated Letters of Credit obtained by a 

member of a registered clearing agency or a 

derivatives clearing organization which are 

collateralized by customers’ securities, to the 

extent of the member’s margin requirement at 

the registered clearing agency or derivatives 

clearing organization. Item 2 shall also 

include the amount of such Letters of Credit 

related to other futures contracts (and options 

thereon) carried in a securities account 

pursuant to an SRO portfolio margining rule. 

Note C. Item 3 shall include in addition to 

monies payable against customers’ securities 

loaned the amount by which the market 

value of securities loaned exceeds the 

collateral value received from the lending of 

such securities. 

Note D. Item 4 shall include in addition to 

customers’ securities failed to receive the 

amount by which the market value of 

securities failed to receive and outstanding 

more than thirty (30) calendar days exceeds 

their contract value. 

Note E. (1) Debit balances in margin 

accounts shall be reduced by the amount by 

which a specific security (other than an 

exempted security) which is collateral for 

margin accounts exceeds in aggregate value 

15 percent of all securities which 

collateralize all margin accounts receivable; 

provided, however, the required reduction 

shall not be in excess of the amounts of the 

debit balance required to be excluded 

because of this concentration rule. A 

specified security is deemed to be collateral 

for a margin account only to the extent it 

represents in value not more than 140 

percent of the customer debit balance in a 

margin account. 

(2) Debit balances in special omnibus 

accounts, maintained in compliance with the 

requirements of Section 7(f) of Regulation T 

(12 CFR 220.7(f)) or similar accounts carried 

on behalf of another broker or dealer, shall 

be reduced by any deficits in such accounts 

(or if a credit, such credit shall be increased) 

less any calls for margin, mark to the market, 

or other required deposits which are 

outstanding 5 business days or less. 

(3) Debit balances in customers’ cash and 

margin accounts included in the formula 

under Item 10 shall be reduced by an amount 

equal to 1 percent of their aggregate value. 

(4) Debit balances in cash and margin 

accounts of household members and other 

persons related to principals of a broker or 

dealer and debit balances in cash and margin 

accounts of affiliated persons of a broker or 

dealer shall be excluded from the Reserve 

Formula, unless the broker or dealer can 

demonstrate that such debit balances are 

directly related to credit items in the formula. 

(5) Debit balances in margin accounts 

(other than omnibus accounts) shall be 

reduced by the amount by which any single 

customer’s debit balance exceeds 25% (to the 

extent such amount is greater than $50,000) 

of the broker-dealer’s tentative net capital 

(i.e., net capital prior to securities haircuts) 

unless the broker or dealer can demonstrate 

that the debit balance is directly related to 

credit items in the Reserve Formula. Related 

accounts (e.g., the separate accounts of an 

individual, accounts under common control 

or subject to cross guarantees) shall be 

deemed to be a single customer’s accounts for 

purposes of this provision. 

If the registered national securities 

exchange or the registered national securities 

association having responsibility for 

examining the broker or dealer (‘‘designated 

examining authority’’) is satisfied, after 


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taking into account the circumstances of the 

concentrated account including the quality, 

diversity, and marketability of the collateral 

securing the debit balances of margin 

accounts subject to this provision, that the 

concentration of debit balances is 

appropriate, then such designated examining 

authority may grant a partial or plenary 

exception from this provision. The debit 

balance may be included in the reserve 

formula computation for five business days 

from the day the request is made. 

(6) Debit balances of joint accounts, 

custodian accounts, participation in hedge 

funds or limited partnerships or similar type 

accounts or arrangements of a person who 

would be excluded from the definition of 

customer (‘‘noncustomer’’) with persons 

included in the definition of customer shall 

be included in the Reserve Formula in the 

following manner: if the percentage 

ownership of the non-customer is less than 

5 percent then the entire debit balance shall 

be included in the formula; if such 

percentage ownership is between 5 percent 

and 50 percent then the portion of the debit 

balance attributable to the non-customer 

shall be excluded from the formula unless 

the broker or dealer can demonstrate that the 

debit balance is directly related to credit 

items in the formula; or if such percentage 

ownership is greater that 50 percent, then the 

entire debit balance shall be excluded from 

the formula unless the broker or dealer can 

demonstrate that the debit balance is directly 

related to credit items in the formula. 

Note F. Item 13 shall include the amount 

of margin deposited with the Options 

Clearing Corporation to the extent such 

margin is represented by cash, proprietary 

qualified securities and letters of credit 

collateralized by customers’ securities. 

Note G. (a) Item 14 shall include the 

amount of margin required and on deposit 

with a clearing agency registered with the 

Commission under section 17A of the Act (15 

U.S.C. 78q–1) or a derivatives clearing 

organization registered with the Commodity 

Futures Trading Commission under section 

5b of the Commodity Exchange Act (7 U.S.C. 

7a–1) for customer accounts to the extent that 

the margin is represented by cash, 

proprietary qualified securities, and letters of 

credit collateralized by customers’ securities. 

(b) Item 14 shall apply only if the 

broker or dealer has the margin related 

to security futures products or futures 

(and options thereon) carried in a 

securities account pursuant to an 

approved SRO portfolio margining 

program on deposit with: 

(1) A registered clearing agency or 

derivatives clearing organization that: 

(i) Maintains the highest investmentgrade rating from a nationally 

recognized statistical rating 

organization; or 

(ii) Maintains security deposits from 

clearing members in connection with 

regulated options or futures transactions 

and assessment power over member 

firms that equal a combined total of at 

least $2 billion, at least $500 million of 

which must be in the form of security 

deposits. For the purposes of this Note 

G, the term ‘‘security deposits’’ refers to 

a general fund, other than margin 

deposits or their equivalent, that 

consists of cash or securities held by a 

registered clearing agency or derivative 

clearing organization; or 

(iii) Maintains at least $3 billion in 

margin deposits; or 

(iv) Does not meet the requirements of 

paragraphs (b)(1)(i) through (b)(1)(iii) of 

this Note G, if the Commission has 

determined, upon a written request for 

exemption by or for the benefit of the 

broker or dealer, that the broker or 

dealer may utilize such a registered 

clearing agency or derivatives clearing 

organization. The Commission may, in 

its sole discretion, grant such an 

exemption subject to such conditions as 

are appropriate under the 

circumstances, if the Commission 

determines that such conditional or 

unconditional exemption is necessary or 

appropriate in the public interest, and is 

consistent with the protection of 

investors; and 

(2) A registered clearing agency or 

derivatives clearing organization that, if 

it holds funds or securities deposited as 

margin for security futures products or 

portfolio margin account futures in a 

bank, as defined in section 3(a)(6) of the 

Act (15 U.S.C. 78c(a)(6)), obtains and 

preserves written notification from the 

bank at which it holds such funds and 

securities or at which such funds and 

securities are held on its behalf. The 

written notification shall state that all 

funds and/or securities deposited with 

the bank as margin (including customer 

security futures products and portfolio 

margin account futures margin), or held 

by the bank and pledged to such 

registered clearing agency or derivatives 

clearing agency as margin, are being 

held by the bank for the exclusive 

benefit of clearing members of the 

registered clearing agency or derivatives 

clearing organization (subject to the 

interest of such registered clearing 

agency or derivatives clearing 

organization therein), and are being kept 

separate from any other accounts 

maintained by the registered clearing 

agency or derivatives clearing 

organization with the bank. The written 

notification also shall provide that such 

funds and/or securities shall at no time 

be used directly or indirectly as security 

for a loan to the registered clearing 

agency or derivatives clearing 

organization by the bank, and shall be 

subject to no right, charge, security 

interest, lien, or claim of any kind in 

favor of the bank or any person claiming 

through the bank. This provision, 

however, shall not prohibit a registered 

clearing agency or derivatives clearing 

organization from pledging customer 

funds or securities as collateral to a 

bank for any purpose that the rules of 

the Commission or the registered 

clearing agency or derivatives clearing 

organization otherwise permit; and 

(3) A registered clearing agency or 

derivatives clearing organization 

establishes, documents, and maintains: 

(i) Safeguards in the handling, 

transfer, and delivery of cash and 

securities; 

(ii) Fidelity bond coverage for its 

employees and agents who handle 

customer funds or securities. In the case 

of agents of a registered clearing agency 

or derivatives clearing organization, the 

agent may provide the fidelity bond 

coverage; and 

(iii) Provisions for periodic 

examination by independent public 

accountants; and 

(iv) A derivatives clearing 

organization that, if it is not otherwise 

registered with the Commission, has 

provided the Commission with a written 

undertaking, in a form acceptable to the 

Commission, executed by a duly 

authorized person at the derivatives 

clearing organization, to the effect that, 

with respect to the clearance and 

settlement of the customer securities 

futures products and portfolio margin 

account futures of the broker or dealer, 

the derivatives clearing organization 

will permit the Commission to examine 

the books and records of the derivatives 

clearing organization for compliance 

with the requirements set forth in 

§ 240.15c3–3a, Note G (b)(1) through (3). 

(c) Item 14 shall apply only if a broker 

or dealer determines, at least annually, 

that the registered clearing agency or 

derivatives clearing organization with 

which the broker or dealer has on 

deposit margin related to securities 

future products or portfolio margin 

account futures meets the conditions of 

this Note G. 

Notes Regarding the PAB Reserve 

Computation 

Note 1. Broker-dealers should use the 

formula in Exhibit A for the purposes of 

computing the PAB reserve requirement 

substituting the term ‘‘brokers or dealers’’ for 

the term ‘‘customers.’’

Note 2. Any credit (including a credit 

applied to reduce a debit) that is included in 

the computation required by § 240.15c3–3 

with respect to customer accounts (the 

‘‘customer reserve computation’’) may not be 

included as a credit in the computation 

required by § 240.15c3–3 with respect to PAB 

accounts (the ‘‘PAB reserve computation’’). 


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Federal Register / Vol. 72, No. 52 / Monday, March 19, 2007 / Proposed Rules 12899 

Note 3. Note E(1) to § 240.15c3–3a shall not 

apply to the PAB reserve computation. 

Note 4. Note E(3) to § 240.15c3–3a which 

reduces debit balances by 1% shall not apply 

to the PAB reserve computation. 

Note 5. Commissions receivable and other 

receivables of another broker or dealer from 

the broker or dealer (excluding clearing 

deposits) that are otherwise allowable assets 

under § 240.15c3–1 shall not be included in 

the PAB reserve computation, provided the 

amounts have been clearly identified as 

receivables on the books and records of the 

other broker or dealer and as payables on the 

books of the broker or dealer. Commissions 

receivable and other receivables of another 

broker or dealer from the broker or dealer 

that are otherwise non-allowable assets under 

§ 240.15c3–1 and clearing deposits of another 

broker or dealer may be included as ‘‘credit 

balances’’ for purposes of the PAB reserve 

computation, provided the commissions 

receivable and other receivables are subject 

to immediate cash payment to the other 

broker or dealer and the clearing deposit is 

subject to payment within 30 days. 

Note 6. Credits included in the PAB 

reserve computation that result from the use 

of securities held for a PAB account (‘‘PAB 

securities’’) that are pledged to meet intraday margin calls in a cross-margin account 

established between The Options Clearing 

Corporation and any regulated commodity 

exchange may be reduced to the extent that 

the excess margin held by the other clearing 

corporation in the cross-margin relationship 

is used the following business day to replace 

the PAB securities that were previously 

pledged. In addition, balances resulting from 

a portfolio margin account that are segregated 

pursuant to Commodity Futures Trading 

Commission regulations need not be 

included in the PAB reserve computation. 

Note 7. Deposits received prior to a 

transaction pending settlement which are $5 

million or greater for any single transaction 

or $10 million in aggregate may be excluded 

as credits from the PAB reserve computation 

if such balances are placed and maintained 

in a separate PAB Reserve Account by 12 

noon Eastern Time on the following business 

day. Thereafter, the money representing any 

such deposits may be withdrawn to complete 

the related transactions without performing a 

new PAB reserve computation. 

Note 8. A credit balance resulting from a 

PAB reserve computation may be reduced by 

the amount that items representing such 

credits are swept into money market funds or 

mutual funds of an investment company 

registered under the Investment Company 

Act of 1940 on or prior to 10 a.m. Eastern 

Time on the deposit date provided that the 

credits swept into any such fund are not 

subject to any right, charge, security interest, 

lien, or claim of any kind in favor of the 

investment company or the broker or dealer. 

Any credits that have been swept into money 

market funds or mutual funds must be 

maintained in the name of a particular broker 

or for the benefit of another broker. 

Note 9. Clearing deposits required to be 

maintained at registered clearing agencies 

may be included as debits in the PAB reserve 

computation to the extent the percentage of 

the deposit, which is based upon the clearing 

agency’s aggregate deposit requirements (e.g., 

dollar trading volume), that relates to the 

proprietary business of other brokers and 

dealers can be identified. 

Note 10. A broker or dealer that clears PAB 

accounts through an affiliate or third party 

clearing broker must include these PAB 

account balances and the omnibus PAB 

account balance in its PAB reserve 

computation. 

7. Section 240.17a–3 is amended by 

adding paragraph (a)(23) and to read as 

follows: 

§ 240.17a–3 Records to be made by certain 

exchange members, brokers and dealers. 

(a) * * * 

(23) A record documenting the 

internal risk management controls 

established and maintained by the 

member, broker or dealer to assist it in 

analyzing and managing the risks 

associated with its business activities, 

Provided, That the records required by 

this paragraph (a)(23) need only be 

made if the member, broker or dealer 

has more than: 

(i) $1,000,000 in aggregate credit 

items as computed under § 240.15c3–3a; 

or 

(ii) $20,000,000 in capital, which 

includes debt subordinated in 

accordance with § 240.15c3–1d. 

* * * * * 

8. Section 240.17a–4 is amended by: 

a. Removing from paragraph (b)(1) the 

citation ‘‘§ 240.17a–3(f)’’ and its place 

adding the citation ‘‘§ 240.17a–3(g)’’; 

b. Removing from paragraph (b)(9) the 

citation ‘‘§ 240.15c3–3(d)(4)’’ and in its 

place adding the citation ‘‘§ 240.15c3–

3(d)(5)’’; and 

c. Adding paragraph (e)(9). 

The addition reads as follows: 

§ 240.17a–4 Records to be preserved by 

certain exchange members, brokers and 

dealers. 

* * * * * 

(e) * * * 

(9) All records required pursuant to 

paragraph (a)(23) of § 240.17a–3 until 

three years after the termination of the 

use of the system of controls or 

procedures documented therein. 

* * * * * 

9. Section 240.17a–11 is amended by: 

a. Revising the first sentence of 

paragraph (b)(1); 

b. Removing from the introductory 

text of paragraph (c) the text ‘‘or (c)(4)’’

and in its place adding the text ‘‘(c)(4) 

or (c)(5)’’; and 

c. Adding paragraph (c)(5). 

The revision and addition read as 

follows: 

§ 240.17a–11 Notification provisions for 

brokers and dealers. 

* * * * * 

(b)(1) Every broker or dealer whose 

net capital declines below the minimum 

amount required pursuant to 

§ 240.15c3–1, or is insolvent as that 

term is defined in paragraph (c)(16) of 

§ 240.15c3–1, shall give notice of such 

deficiency that same day in accordance 

with paragraph (g) of this section. * * * 

* * * * * 

(c) * * * 

(5) If a computation made by a broker 

or dealer pursuant to § 240.15c3–1 

shows that the total amount of money 

payable against all securities loaned or 

subject to a repurchase agreement or the 

total contract value of all securities 

borrowed or subject to a reverse 

repurchase agreement is in excess of 

2500 percent of its tentative net capital; 

provided, however, that for purposes of 

this leverage test transactions involving 

government securities, as defined in 

section 3(a)(42) of the Act (15 U.S.C. 

78c(a)(42), shall be excluded from the 

calculation; provided further, however, 

that a broker or dealer shall not be 

required to send the notice required by 

this paragraph if it submits a monthly 

report of its securities lending and 

borrowing and repurchase and reverse 

repurchase activity (including the total 

amount of money payable against 

securities loaned or subject to a 

repurchase agreement and the total 

contract value of securities borrowed or 

subject to a reverse repurchase 

agreement) to its designated examining 

authority. 

* * * * * 

By the Commission. 

Dated: March 9, 2007. 

Nancy M. Morris, 

Secretary. 

[FR Doc. E7–4693 Filed 3–16–07; 8:45 am] 

BILLING CODE 8010–01–P 


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