56514 Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 

FEDERAL RESERVE SYSTEM 

12 CFR Part 218 

[Regulation R; Docket No. R–1274] 

SECURITIES AND EXCHANGE 

COMMISSION 

17 CFR Parts 240 and 247 

[Release No. 34–56501; File No. S7–22–06] 

RIN 3235–AJ74 

Definitions of Terms and Exemptions 

Relating to the ‘‘Broker’’ Exceptions 

for Banks 

AGENCIES: Board of Governors of the 

Federal Reserve System (‘‘Board’’) and 

Securities and Exchange Commission 

(‘‘SEC’’ or ‘‘Commission’’) (collectively, 

the Agencies). 

ACTION: Final rule. 

SUMMARY: The Board and the 

Commission jointly are adopting a 

single set of final rules that implement 

certain of the exceptions for banks from 

the definition of the term ‘‘broker’’ 

under Section 3(a)(4) of the Securities 

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

as amended by the Gramm-Leach-Bliley 

Act (‘‘GLBA’’). The rules define terms 

used in these statutory exceptions and 

include certain related exemptions. In 

developing these rules, the Agencies 

have consulted with, and sought the 

concurrence of, the Office of the 

Comptroller of the Currency (‘‘OCC’’), 

the Federal Deposit Insurance 

Corporation (‘‘FDIC’’) and the Office of 

Thrift Supervision (‘‘OTS’’), and have 

taken into consideration all comments 

received on the proposed rules issued in 

December 2006. The rules are intended, 

among other things, to facilitate banks’ 

compliance with the Exchange Act and 

the GLBA. 

DATES: Effective dates: The addition of 

parts 12 CFR 218 and 17 CFR 247 is 

effective September 28, 2007. 

Regulations at 12 CFR 218.781 and 17 

CFR 247.781 (collectively ‘‘Rule 781’’) 

are effective on September 28, 2007. 

Regulations at 12 CFR 218.100 through 

218.780 and 17 CFR 247.100 through 

247.780 are effective December 3, 2007. 

Amendments affecting Part 240 of Title 

17 are effective December 3, 2007. 

Compliance date: Banks are exempt 

from complying with the rules and the 

‘‘broker’’ exceptions in Section 

3(a)(4)(B) of the Exchange Act until the 

first day of their first fiscal year that 

commences after September 30, 2008. 

FOR FURTHER INFORMATION CONTACT: 

BOARD: Kieran J. Fallon, Assistant 

General Counsel, (202) 452–5270, 

Andrea Tokheim, Counsel, (202) 452– 

2300, or Brian Knestout, Attorney, (202) 

452–2249, Legal Division, Board of 

Governors of the Federal Reserve 

System, 20th Street and Constitution 

Avenue, NW., Washington, DC 20551. 

Users of Telecommunication Device for 

Deaf (TDD) only, call (202) 263–4869. 

SEC: Catherine McGuire, Chief 

Counsel, Linda Stamp Sundberg, Senior 

Special Counsel, Joshua Kans, Senior 

Special Counsel, John J. Fahey, Branch 

Chief, or Elizabeth MacDonald, Special 

Counsel, at (202) 551–5550, Office of the 

Chief Counsel, Division of Market 

Regulation, Securities and Exchange 

Commission, 100 F Street, NE., 

Washington, DC 20549. 

SUPPLEMENTARY INFORMATION: 

Table of Contents 

I. Introduction 

A. Background 

B. Overview of Comments 

C. Final Rules and Related Matters 

II. Networking Arrangements 

A. Overview of Proposed Rules and 

Comments 

B. Rule 700: Definition of Terms Used in 

Networking Exception 

1. Definition of ‘‘Nominal One-Time Cash 

Fee of a Fixed Dollar Amount’’ 

2. Definition of ‘‘Referral’’ 

3. Definition of ‘‘Contingent on Whether 

the Referral Results in a Transaction’’ 

4. Definition of ‘‘Incentive Compensation’’ 

a. Exception for Discretionary, Multi-Factor 

Bonus Plans 

b. Safe Harbor for Plans Based on Overall 

Profitability or Revenue 

C. Rule 701: Exemption for Referrals 

Involving Institutional Customers and 

High Net Worth Customers 

1. Definitions of ‘‘Institutional Customer’’ 

and ‘‘High Net Worth Customer’’ 

2. Determining that a Customer Meets the 

Relevant Thresholds 

3. Conditions Relating to Disclosures 

4. Suitability or Sophistication Analysis by 

Broker-Dealer 

5. Conditions Relating to Bank Employees 

6. Good Faith Compliance and Corrections 

by Banks 

7. Referral Fees Permitted Under the 

Exemption 

8. Permissible Bonus Compensation Not 

Restricted 

III. Trust and Fiduciary Activities 

A. Trust and Fiduciary Exception and 

Proposed Rules 

B. Joint Final Rules 

1. ‘‘Chiefly Compensated’’ Test and BankWide Exemption Based on Two-Year 

Rolling Averages 

2. ‘‘Relationship Compensation’’ 

3. Excluded Compensation 

4. Trust or Fiduciary Accounts 

5. Exemptions for Special Accounts, 

Foreign Branches, Transferred Accounts, 

and a De Minimis Number of Accounts 

6. Advertising Restrictions 

IV. Sweep Accounts and Transactions in 

Money Market Funds 

A. Rule 740: Definition of Terms Used in 

Sweep Exception 

B. Exemption Regarding Money Market 

Fund Transactions 

V. Safekeeping and Custody 

A. Background 

B. Rule 760: Custody Exemption 

1. Order-Taking for Employee Benefit Plan 

Accounts and Individual Retirement or 

Similar Accounts 

a. Employee Compensation Restrictions 

b. Advertisements and Sales Literature 

c. Other Conditions 

2. Order-Taking as an Accommodation for 

Other Types of Accounts 

a. Accommodation Basis 

b. Employee Compensation Restrictions 

c. Limitations on Bank Fees 

d. Advertising and Sales Literature 

Restrictions 

e. Investment Advice or Recommendations 

3. Other Conditions Applicable to OrderTaking for All Custody Accounts 

a. Directed Trustees 

b. Broker Execution Requirement 

c. Carrying Broker Provisions 

4. Custodians, Subcustodians, and 

Administrators/Recordkeepers 

a. ‘‘Account for Which a Bank Acts as a 

Custodian’’ 

b. Administrators/Recordkeepers and 

Subcustodians 

5. Evasions 

VI. Other Exemptions 

A. Exemption for Regulation S 

Transactions With Non-U.S. Persons and 

Broker-Dealers 

B. Exemption for Non-Custodial Securities 

Lending Transactions 

C. Exemption for Banks Effecting Certain 

Excepted or Exempted Transactions in 

Investment Company Securities and 

Variable Insurance Products 

D. Exemption for Certain Transactions 

involving a Company’s Securities for Its 

Employee Benefit Plans and Participants 

E. Temporary and Permanent Exemption 

for Contracts Entered Into by Banks From 

Being Considered Void or Voidable 

F. Extension of Time and Transition Period 

VII. Finding That the Exemptions Are 

Appropriate and in the Public Interest 

and Consistent With the Protection of 

Investors 

VIII. Withdrawal of Proposed Regulation B 

and Removal of Exchange Act Rules 3a4– 

2–3a4–6, and 3b–17 

IX. Administrative Law Matters 

A. Paperwork Reduction Act Analysis 

B. Consideration of Benefits and Costs 

C. Consideration of Burden on 

Competition, and on Promotion of 

Efficiency, Competition, and Capital 

Formation 

D. Consideration of Impact on the 

Economy 

E. Regulatory Flexibility Analysis 

F. Plain Language 

X. Statutory Authority 

XI. Text of Rules and Rule Amendment 

I. Introduction 

A. Background 

The GLBA amended several federal 

statutes governing the activities and 

supervision of banks, bank holding 

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Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 56515 

1Pub. L. No. 106–102, 113 Stat. 1338 (1999). 

2Pub. L. No. 73–66, ch. 89, 48 Stat. 162 (1933) 

(as codified in various Sections of 12 U.S.C.). 

3 15 U.S.C. 78c(a)(4). 

4Exchange Act Section 3(a)(4)(B)(i). This 

exception permits banks to enter into third-party 

brokerage, or ‘‘networking’’ arrangements with 

brokers under specific conditions. 

5Exchange Act Section 3(a)(4)(B)(ii). This 

exception permits banks to effect transactions as 

trustees or fiduciaries for securities customers 

under specific conditions. 

6Exchange Act Section 3(a)(4)(B)(iii). This 

exception permits banks to buy and sell commercial 

paper, bankers’ acceptances, commercial bills, 

exempted securities, certain Canadian government 

obligations, and Brady bonds. 

7Exchange Act Section 3(a)(4)(B)(iv). This 

exception permits banks, as part of their transfer 

agency activities, to effect transactions for certain 

issuer plans. 

8Exchange Act Section 3(a)(4)(B)(v). This 

exception permits banks to sweep funds into noload money market funds. 

9Exchange Act Section 3(a)(4)(B)(vi). This 

exception permits banks to effect transactions for 

affiliates, other than broker-dealers. 

10Exchange Act Section 3(a)(4)(B)(vii). This 

exception permits certain banks to effect 

transactions in certain privately placed securities, 

under certain conditions. 

11Exchange Act Section 3(a)(4)(B)(viii). This 

exception permits banks to engage in certain 

enumerated safekeeping or custody activities, 

including stock lending as custodian. 

12Exchange Act Section 3(a)(4)(B)(ix). This 

exception permits banks to buy and sell certain 

‘‘identified banking products,’’ as defined in 

Section 206 of the GLBA. 

13Exchange Act Section 3(a)(4)(B)(x). This 

exception permits banks to effect transactions in 

municipal securities. 

14Exchange Act Section 3(a)(4)(B)(xi). This 

exception permits banks to effect up to 500 

transactions in securities in any calendar year in 

addition to transactions referred to in the other 

exceptions. 

15Public Law No. 109–351, 120 Stat. 1966 (2006). 

16See Exchange Act Section 3(a)(4)(F), as added 

by Section 101 of the Regulatory Relief Act. 

17See 71 FR 77522, December 26, 2006. 

18See, e.g., Citigroup Letter, Independent 

Community Bankers Ass’n (‘‘ICBA’’) Letter, 

American Bankers Ass’n (‘‘ABA’’) Letter, JPMorgan 

Chase & Co. (‘‘JP Morgan’’) Letter, Financial 

Services Roundtable (‘‘Roundtable’’) Letter. 

19See, e.g., Massachusetts Securities Division 

Letter, Pace Investors Rights Project (‘‘Pace Project’’) 

Letter, Boyd Financial Letter. 

20Exchange Act Release No. 44291 (May 11, 

2001), 66 FR 27760 (May 18, 2001). 

21Exchange Act Release No. 49879 (June 17, 

2004), 69 FR 39682 (June 30, 2004). See, e.g., North 

American Securities Administrators Association 

(‘‘NASAA’’) Letter. 

companies, and their affiliates.1 Among 

other things, it lowered barriers between 

the banking and securities industries 

erected by the Banking Act of 1933 

(‘‘Glass-Steagall Act’’).2 It also altered 

the way in which the supervisory 

responsibilities over the banking, 

securities, and insurance industries are 

allocated among financial regulators. 

Among other things, the GLBA repealed 

most of the separation of investment 

and commercial banking imposed by the 

Glass-Steagall Act. The GLBA also 

revised the provisions of the Exchange 

Act that had completely excluded banks 

from broker-dealer registration 

requirements. 

In enacting the GLBA, Congress 

adopted functional regulation for bank 

securities activities, with certain 

exceptions from Commission oversight 

for specified securities activities. With 

respect to the definition of ‘‘broker,’’ the 

GLBA amended the Exchange Act to 

provide eleven specific exceptions for 

banks.3 Each of these exceptions 

permits a bank to act as a broker or 

agent in securities transactions that 

meet specific statutory conditions. 

In particular, Section 3(a)(4)(B) of the 

Exchange Act as amended by the GLBA 

provides conditional exceptions from 

the definition of broker for banks that 

engage in certain securities activities in 

connection with third-party brokerage 

arrangements; 4 trust and fiduciary 

activities; 5 permissible securities 

transactions; 6 certain stock purchase 

plans; 7 sweep accounts; 8 affiliate 

transactions; 9 private securities 

offerings; 10 safekeeping and custody 

activities; 11 identified banking 

products; 12 municipal securities; 13 and 

a de minimis number of other securities 

transactions.14

In October 2006, the Financial 

Services Regulatory Relief Act of 2006 

(‘‘Regulatory Relief Act’’) became 

effective.15 Among other things, the 

Regulatory Relief Act requires that the 

SEC and the Board jointly adopt a single 

set of rules to implement the bank 

broker exceptions in Section 3(a)(4) of 

the Exchange Act.16 In addition, it 

required that the Agencies issue a single 

set of proposed rules to implement these 

exceptions not later than 180 days after 

enactment of the Regulatory Relief Act 

(April 11, 2007). 

In December 2006, the Agencies 

jointly issued, and requested public 

comment on, a single set of proposed 

rules to implement the broker 

exceptions for banks relating to thirdparty networking arrangements, trust 

and fiduciary activities, sweep 

activities, and safekeeping and custody 

activities.17 The proposed rules 

included certain exemptions related to 

these activities, as well as exemptions 

related to foreign securities transactions, 

securities lending transactions 

conducted in an agency capacity, the 

execution of transactions involving 

mutual fund shares, and the potential 

liability of banks under Section 29 of 

the Exchange Act. In developing the 

proposed rules, the Agencies 

considered, among other things, the 

language and legislative history of the 

‘‘broker’’ exceptions for banks adopted 

in the GLBA, the rules previously issued 

or proposed by the Commission relating 

to these exceptions, and the comments 

received in connection with those prior 

rulemakings. 

The Agencies requested comment on 

all aspects of the proposed rules. In 

addition, the Agencies requested 

comment on whether it would be useful 

or appropriate for the Agencies to adopt 

rules implementing the other bank 

‘‘broker’’ exceptions in Section 

3(a)(4)(B) of the Exchange Act that were 

not addressed in the proposal. 

B. Overview of Comments 

The Agencies received comments 

from 58 organizations and individuals 

on the proposed rules. Commenters 

included 22 trade associations, 20 

banking organizations, 7 other 

organizations in the financial services 

industry, 3 community and nonprofit 

groups, two credit unions, one state 

government, one self-regulatory 

organization, one association of state 

securities administrators, and one 

individual. Many commenters 

supported the proposed rules as a 

general matter. For example, 

commenters asserted that the proposed 

rules would provide banks considerable 

flexibility in providing securities 

services to their customers, would avoid 

disrupting bank activities and customer 

relationships, or were a significant 

improvement over earlier proposals.18

In addition, many commenters 

supported the general approaches 

(including related exemptions) taken by 

the proposed rules to implement the 

networking, trust and fiduciary, sweep, 

and safekeeping and custody 

exceptions. Several commenters, 

however, contended that the proposed 

rules did not adequately protect 

investors, and particularly retail 

investors.19 Some of these commenters 

argued that that the Agencies should 

withdraw the proposed rules and issue 

new rules based on those issued in 

200120 or 2004.21

Most commenters also recommended 

that the Agencies modify specific 

provisions of the proposed rules to, 

among other things, reduce 

administrative burden, better protect 

bank customers or investors, or clarify 

the scope or effect of the rules. The 

comments received on the proposed 

rules are discussed in greater detail in 

the following sections of this 

SUPPLEMENTARY INFORMATION. 

C. Final Rules and Related Matters 

After carefully considering the 

comments, the Agencies have adopted 

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56516 Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 

22Commenters generally did not request that the 

Agencies adopt rules to implement the other broker 

exceptions for banks at this time or stated that no 

additional guidance was needed at this time with 

respect to these exceptions. See ABA Letter. 

23See Rule 723(c). 

24See Rule 776. 

25An employee of a bank that operates in 

accordance with the exceptions in Section 3(a)(4)(B) 

of the Exchange Act and, where applicable, the 

rules is not required to register as a ‘‘broker’’ to the 

extent that the employee’s activities are covered by 

the relevant exception or rule. 

26Several commenters asked the Agencies, or the 

Commission independently, to adopt rules that 

would extend to federal or state-chartered credit 

unions some or all of the ‘‘broker’’ exceptions or 

exemptions provided banks under Section 3(a)(4)(B) 

of the Exchange Act or the final rules. See, e.g., 

Credit Union Nat’l Ass’n Letter, Nat’l Ass’n of 

Credit Union Service Organizations Letter, Nat’l 

Ass’n of Fed. Credit Unions Letter, Navy Fed. Credit 

Union Letter, and XCU Corp. Letter. While the 

GLBA’s ‘‘bank’’ exceptions do not by their terms 

apply to credit unions, these requests are under 

consideration by the Commission, which is the 

agency with authority to address these matters. The 

Commission notes the existence of SEC staff 

positions with regard to networking relationships 

between a credit union and a broker-dealer and is 

not addressing this issue at this time. See, e.g., 

Chubb Securities Corp., 1993 SEC No-Act. LEXIS 

1204 (Nov. 24, 1993). 

27The final rules adopted by the Board and the 

SEC within their respective titles of the Code of 

Federal Regulation (12 CFR part 218 for the Board 

and 17 CFR part 247 for the SEC) are identically 

numbered from § ___.100 to § ___.781. For ease of 

reference, the single set of final rules adopted by 

each Agency are referred to in this release as Rule 

___, excluding title and part designations. A similar 

format is used to refer to the single set of proposed 

rules issued by the Agencies. 

28Pub. L. No. 109–351, § 101(a)(3), 120 Stat. 1966, 

1968 (2006). 

29A few commenters requested that the 

Commission delegate authority to act on future 

exemptive requests from banks to the Director of its 

Division of Market Regulation. See America 

Community Bankers Ass’n (‘‘ACB’’) Letter, Roma 

Bank Letter. Because particular banks may have 

individual situations that may be appropriate for 

additional relief, the Commission delegated 

authority to the Director of the Division of Market 

Regulation to consider, on a case-by-case basis, 

individual requests for exemptive relief from banks. 

To facilitate the processing of these requests, the 

Commission delegated this exemptive authority 

within its Rules of Organization and Program 

Management in Rule 30–3(a)(70) (17 CFR 200.30–

3(a)(70)). The Commission continues to expect the 

staff to submit novel and complex requests for 

exemptions to the Commission. 

30See 12 U.S.C. 1828(t)(1). 

31See, e.g., ABA Letter, Clearing House Ass’n 

Letter, Citigroup Letter, The PNC Financial Services 

Group, Inc. (‘‘PNC’’) Letter. One commenter, 

however, expressed concern that coordination 

among the Agencies might result in slower 

responses to requests for guidance. See American 

Bar Ass’n Section of Business Law Letter (‘‘Business 

Law Section Letter’’). 

final rules to implement the broker 

exceptions for banks relating to thirdparty networking arrangements, trust 

and fiduciary activities, sweep 

activities, and custody and safekeeping 

activities.22 The Board and SEC have 

consulted extensively with, and sought 

the concurrence of, the OCC, FDIC and 

OTS in developing these final rules. 

Like the proposal, the final rules 

include certain exemptions related to 

these activities, as well as exemptions 

related to foreign securities transactions, 

securities lending transactions 

conducted in an agency capacity, the 

execution of transactions other than 

through a broker-dealer, the potential 

liability of banks under Section 29 of 

the Exchange Act, and the date on 

which the GLB Act’s ‘‘broker’’

exceptions for banks will go into effect. 

As discussed in the following 

sections, the Agencies have modified 

the rules in numerous respects in light 

of the comments received. These 

changes include, among other things, 

modifications to the examples of 

‘‘relationship compensation’’ in Rule 

721 to clarify the scope of the term for 

purposes of the rules relating to trust 

and fiduciary activities; the custody 

exemption in Rule 760 to permit banks 

acting as a directed trustee to accept 

orders under the exemption; and Rule 

781 to extend the compliance date for a 

bank until the first day of its first fiscal 

year commencing after September 30, 

2008. The Agencies also have adopted 

new exemptions relating to trust or 

fiduciary accounts held in a foreign 

branch of a bank,23 and to permit a bank 

to effect, under certain conditions and 

without using a broker-dealer, 

transactions in a fiduciary or custodial 

capacity for an employee benefit plan in 

the stock of the plan’s sponsor.24

The final rules are designed to 

accommodate the business practices of 

banks and protect investors. If more 

than one broker exception or exemption 

is available to a bank under the statute 

or rules for a securities transaction, the 

bank may choose the exception or 

exemption on which it relies to effect 

the transaction without registering as a 

broker-dealer. For example, if the bank 

effects a transaction in a security sold in 

an offshore transaction for a custody 

account that is permissible under either 

the Regulation S exemption in Rule 771 

or the custody exemption in Rule 760, 

the bank may choose which exemption 

to rely on and comply with in effecting 

the transaction. Similarly, if a bank 

effects no more than 500 securities 

transactions as agent for its customers in 

a calendar year, the bank may rely on 

the de minimis exception in Section 

3(a)(4)(B)(xi) of the Exchange Act in lieu 

of any other available exception or 

exemption for such transactions. The 

bank, of course, must comply with all of 

the requirements contained in the 

exception or exemption on which it 

relies.25

Section 401 of the Regulatory Relief 

Act amended the definition of ‘‘bank’’ in 

Section 3(a)(6) of the Exchange Act to 

include any Federal savings association 

or other savings association the deposits 

of which are insured by the FDIC. 

Accordingly, as used in the final rules, 

the term ‘‘bank’’ includes any savings 

association that qualifies as a ‘‘bank’’

under Section 3(a)(6) of the Exchange 

Act, as amended.26

Identical sets of the final rules are 

being adopted by the Board and SEC 

and will be published by the Board in 

Title 12 of the Code of Federal 

Regulations and by the SEC in Title 17 

of the Code of Federal Regulations.27

Pursuant to the Regulatory Relief Act, 

this single set of final rules supersedes 

any and all other proposed or final rules 

issued by the Commission on or after 

the date of enactment of the GLBA with 

regard to the definition of ‘‘broker’’

under Section 3(a)(4) of the Exchange 

Act.28

Any additions or changes to these 

rules that may be appropriate to 

implement Section 3(a)(4)(B) of the 

Exchange Act will be adopted jointly by 

the SEC and Board in accordance with 

the consultation provisions in Section 

101(b) of the Regulatory Relief Act. In 

addition, if any rules (including 

exemptions) are proposed or adopted in 

the future related to the other bank 

‘‘broker’’ exceptions in Section 

3(a)(4)(B) of the Exchange Act that are 

not addressed in the final rules now 

being adopted by the SEC and the 

Board, they would be proposed and 

adopted jointly by the SEC and Board.29

As required by the GLBA, the Board, 

OCC, FDIC, and OTS (collectively, the 

Banking Agencies) will develop, and 

request public comment on, 

recordkeeping rules for banks that 

operate under the ‘‘broker’’ exceptions 

in Section 3(a)(4) of the Exchange Act.30

These rules, which will be developed in 

consultation with the SEC, will 

establish recordkeeping requirements to 

enable banks to demonstrate compliance 

with the terms of the statutory 

exceptions and the final rules and will 

be designed to facilitate compliance 

with the statutory exceptions and the 

rules. 

Several commenters urged the 

Agencies also to cooperate in providing 

interpretations or guidance (such as staff 

no-action letters) concerning the final 

rules or the broker exceptions for banks 

in Section 3(a)(4)(B) of the Exchange Act 

or in taking enforcement action to 

enforce compliance with these rules or 

exceptions.31 In addition, a number of 

commenters urged the Agencies to work 

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Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 56517 

32On July 26, 2007, the Commission approved a 

proposed rule change filed by NASD to amend 

NASD’s Certificate of Incorporation to reflect its 

name change to Financial Industry Regulatory 

Authority Inc., or FINRA, in connection with the 

consolidation of member firm regulatory functions 

of NASD and NYSE Regulation, Inc. See Securities 

Exchange Act Release No. 56146 (July 26, 2007). 

FINRA’s Rules currently consist of the rules 

adopted by the NASD and effective on the date of 

the consolidation (which include NASD Rule 3040), 

as well as certain rules of the NYSE that FINRA has 

incorporated into its own rules. 

33See, e.g., ABA Letter, Clearing House Ass’n 

Letter, Harris Bank Letter, HSBC Bank, N.A. 

(‘‘HSBC Bank’’) Letter, HSBC Securities (USA) Inc. 

(‘‘HSBC Securities’’) Letter, Roundtable Letter. 

These commenters asserted that it was important 

for the requested modifications to FINRA’s Rule 

3040 to be made prior to the date on which banks 

would first have to comply with the new ‘‘broker’’

exceptions in the GLBA. 

34Rapaport v. U.S. Department of Treasury, 59 F. 

3d 212, 216–217 (D.C. Cir. 1995), cert. denied 116 

S.Ct. 775 (1996). 

35 15 U.S.C. 78c(a)(4)(B)(i). 

36An unregistered bank employee is an employee 

that is not registered or approved, or otherwise 

required to be registered or approved, in accordance 

with the qualification standards established by the 

rules of any self-regulatory organization. 

37 15 U.S.C. 78c(a)(4)(B)(i)(VI). 

38See, e.g. ABA Letter, Roundtable Letter, 

Citigroup Letter, Union Bank of California (‘‘Union 

Bank’’) Letter. 

39See, e.g., Pace Project Letter. 

40Proposed Rule 700(c). 

41See, e.g., Roundtable Letter, ACB Letter. 

42See, e.g., Bank Insurance & Securities Ass’n 

(‘‘BISA’’) Letter, Wisconsin Bankers Ass’n (‘‘WBA’’) 

Letter. 

43See, e.g., Clearing House Ass’n Letter and ICBA 

Letter. 

44See, e.g., Boyd Financial Letter, NASAA Letter, 

Pace Project Letter, and University of Cincinnati 

Corp. Law Ctr. Letter. 

with the Financial Industry Regulatory 

Authority (‘‘FINRA’’) 32 to modify 

promptly its Rule 3040 as it applies to 

persons that are employees of both a 

bank and a broker-dealer (so-called 

‘‘dual employees’’).33

In light of the joint nature of the final 

rules and the Agencies’ joint rulewriting authority for the bank broker 

exceptions in Section 3(a)(4)(B),34 the 

Agencies will jointly issue any 

interpretations and responses to 

requests for no-action letters or other 

interpretive guidance concerning the 

scope or terms of the exceptions and 

rules, and will consult and, to the extent 

appropriate, coordinate with each other 

and the appropriate federal banking 

agency for a bank concerning any formal 

enforcement actions proposed to be 

taken against a bank for violations of the 

exceptions or rules. 

The Agencies already consult with 

and coordinate with each other and the 

other federal banking agencies in a 

variety of areas, and the Agencies and 

the other federal banking agencies are in 

the process of supplementing their 

existing policies and procedures to 

facilitate coordination with respect to 

the broker exceptions and rules. Banks 

or others that seek an interpretation of, 

or a no-action letter or other staff 

guidance concerning, the rules or the 

exceptions should submit their request 

to both Agencies. The Agencies also 

expect to continue their dialogue with 

FINRA concerning potential 

modifications to that authority’s Rule 

3040. 

II. Networking Arrangements 

The third-party brokerage exception 

(‘‘networking exception’’) in Section 

3(a)(4)(B)(i) of the Exchange Act permits 

a bank to avoid being considered a 

broker if, under certain conditions, it 

enters into a contractual or other written 

arrangement with a registered brokerdealer under which the broker-dealer 

offers brokerage services to bank 

customers.35 The networking exception 

does not address the type or amount of 

compensation that a bank may receive 

from its broker-dealer partner under a 

networking arrangement. However, the 

networking exception provides that a 

bank may not pay its unregistered 

employees 36 incentive compensation 

for brokerage transactions. Nevertheless, 

the statutory exception does permit a 

bank employee to receive a ‘‘nominal 

one-time cash fee of a fixed dollar 

amount’’ for referring bank customers to 

the broker-dealer if payment of the 

referral fee is not ‘‘contingent on 

whether the referral results in a 

transaction.’’ 37 Congress included this 

general prohibition on, and limited 

exception to, incentive compensation to 

reduce concerns regarding the securities 

sales practice of unregistered bank 

employees. 

A. Overview of Proposed Rules and 

Comments 

Proposed Rule 700 defined certain 

key terms related to referral fees and 

incentive compensation used in the 

networking exception. For example, the 

proposed rule provided that a referral 

fee would be considered ‘‘nominal’’ if it 

met any of four standards included in 

the rule. The proposed rule also defined 

when a referral fee would be 

‘‘contingent on whether a referral results 

in a transaction,’’ what constitutes 

‘‘incentive compensation,’’ and what 

types of bank bonus plans would not be 

considered incentive compensation 

under the networking exception. 

Proposed Rule 701 included an 

exemption that permitted bank 

employees, subject to certain 

conditions, to receive higher-thannominal, contingent referral fees for 

referring institutional customers and 

high net worth customers to a brokerdealer. 

Many commenters supported the 

general approach of Proposed Rules 700 

and 701, including the range of 

alternatives provided for determining if 

a referral fee is nominal and the 

adoption of an exemption for referrals 

involving high net worth or institutional 

customers.38 Some commenters, 

however. suggested that the proposed 

rules would harm investors by giving 

bank employees undue incentives to 

direct unsophisticated customers into 

potentially unsuitable investment 

products.39

B. Rule 700: Definition of Terms Used in 

Networking Exception 

1. Definition of ‘‘Nominal One-Time 

Cash Fee of a Fixed Dollar Amount’’

Proposed Rule 700 defined the term 

‘‘nominal one-time cash fee of a fixed 

dollar amount’’ to mean a cash payment 

for a referral in an amount that meets 

any one of four alternative standards: 

the first based on twice the average 

hourly base wage established by the 

bank for the employee’s job family; the 

second based on 1/1000th of the average 

annual base salary established by the 

bank for the employee’s job family; the 

third based on twice the employee’s 

actual base hourly wage; and the fourth 

based on a specified dollar amount 

($25), indexed for inflation.40

Many commenters generally 

supported the flexibility that this range 

of alternatives would afford in 

determining whether a referral fee is 

‘‘nominal.’’ 41 Some commenters 

expressed concern that the proposed 

rule placed greater limits on permissible 

payments under networking 

arrangements than exist currently under 

applicable federal banking agency 

guidance or questioned the need for a 

definition of ‘‘nominal’’ to be 

established by rule at all.42 A few 

commenters contended that the specific 

dollar amount in the proposed rule 

($25) was too low.43 A number of 

commenters, however, believed that the 

alternatives would result in the payment 

of fees that are higher than nominal and 

would create incentives for bank 

employees to make securities referrals 

even when not appropriate for the 

customer. These commenters 

questioned, for example, whether twice 

an employee’s hourly wage was truly 

nominal and whether the Agencies had 

sufficient basis for selecting that 

measure of ‘‘nominal.’’ 44

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45See Exchange Act Section 3(a)(4)(B)(i)(V). 

46Rule 700(c)(3). 

47Each adjustment would be rounded to the 

nearest multiple of $1. Rule 700(f). 

48See ABA Securities Ass’n., 2003/2004 National 

Survey of Bank Retail Investment Services, Vol. I, 

at 60 (survey data demonstrate that 20 percent of 

banks pay retail referral fees of $20 or more); 

Banking Agencies’ Interagency Statement on Retail 

Sales of Nondeposit Investment Products (Feb. 15, 

1994). 

49Rule 700(c)(1) and (2). 

50Occupational Employment and Wages, May 

2005, (Tellers), U.S. Department of Labor, Bureau of 

Statistics. 

51Specifically, twice the hourly wage for an 

employee who earns an annual base salary of 

$25,000 (1,000 × $25) would be $24.04, based on 

a 40 hour per week (or 1080 hours per year) work 

schedule. 

52Rule 700(c)(2). 

53See Pace Project Letter. 

54Proposed Rule 700(d). 

55See 15 U.S.C. 78c(a)(4)(B)(i)(V). 

After carefully reviewing the 

comments, the Agencies have 

determined to adopt the ‘‘nominal’’

definition substantially as proposed. 

Including a definition of ‘‘nominal’’ in 

the rule will provide banks with 

certainty as to the Agencies’’

interpretation of that standard and 

should facilitate compliance. The 

Agencies believe that each of the 

alternatives for defining ‘‘nominal’’ is 

consistent with the statutory networking 

exception, which provides that a bank 

employee may receive compensation for 

each referral if the compensation for 

that referral is ‘‘nominal’’ and meets the 

other requirements of the statute. Under 

each of the alternatives established, the 

amount of compensation a bank 

employee may receive for each referral 

will be small in relation to the 

employee’s overall compensation and 

therefore unlikely to create undue 

incentives for the bank employee to 

engage in activities, such as ‘‘preselling’’ specific securities to the 

customer involved in violation of the 

networking exception,45 which would 

raise sales practice concerns. As 

discussed below, the multiple 

alternatives are designed to provide 

flexibility for banks of all sizes and 

locations to use different business 

models and to take into account 

economic differences around the 

country and among their employees in 

assessing how best to structure their 

program(s) for paying ‘‘nominal’’ cash 

referral fees under the networking 

exception. The alternatives also were 

designed to allow for roughly equivalent 

treatment of bank employees at different 

base or hourly compensation levels 

within a bank. 

Rule 700(c) provides that a referral fee 

paid to any bank employee will be 

considered ‘‘nominal’’ if it does not 

exceed $25.46 This dollar amount will 

be adjusted for inflation on April 1, 

2012, and every five years thereafter, to 

reflect any changes in the value of the 

Employment Cost Index For Wages and 

Salaries, Private Industry Workers (or 

any successor index thereto), as 

published by the Bureau of Labor 

Statistics, from December 31, 2006.47

The Agencies selected this index 

because it is a widely used and broad 

indicator of increases in the wages of 

private industry workers, which 

includes bank employees. Available 

data indicate that the $25 amount is 

consistent with the level of referral fees 

generally paid to tellers and other bank 

employees engaged in making referrals 

of retail customers under existing 

Banking Agency guidance, which also 

includes a ‘‘nominal’’ standard.48

As under the proposal, a referral fee 

also will be considered ‘‘nominal’’

under Rule 700(c) if the payment does 

not exceed (1) twice the employee’s 

actual base hourly wage; (2) twice the 

average of the minimum and maximum 

hourly wage established by the bank for 

the current or prior year for the job 

family that includes the employee; or (3) 

1/1000th of the average of the minimum 

and maximum annual base salary 

established by the bank for the current 

or prior year for the job family that 

includes the employee.49

In developing these alternatives to the 

fixed $25 fee, the Agencies considered 

data on the average hourly wages of 

bank tellers, which are the class of bank 

employees most typically engaged in 

making referrals of retail customers. 

These data indicate that the national 

mean hourly wage in 2005 for tellers 

was $10.59.50 Accordingly, the $25 

amount is slightly more than twice the 

national mean hourly wage for tellers in 

2005, and slightly more than 1/1000th 

of the annualized salary of an employee 

that makes $12.50 per hour (or $25 

every two hours) based on a 40 hour 

work week.51 Thus, the alternatives 

based on twice the employee’s hourly 

base wage or 1/1000th of the employee’s 

base annual salary, at current pay rates, 

are designed to allow bank employees to 

receive referral fees that are roughly 

equivalent to those that may be received 

by bank tellers under the flat dollar 

option. 

The options based on the employee’s 

job family use these same measurements 

but allow comparisons to the average of 

the minimum and maximum hourly 

base wage or base salary of the 

employee’s job family. These options 

are designed to reduce administrative 

burden while also ensuring that referral 

fees remain nominal in amount. To 

provide comparability between the 

alternative based on an employee’s 

actual compensation and those based on 

the compensation established for the 

employee’s job family, the Agencies 

have modified the final rule to provide 

that a referral fee also will be considered 

nominal if it does not exceed 1/1000th 

of the employee’s actual base annual 

salary.52 Under the final rules, a bank 

may use a different ‘‘nominal’’

methodology in its different business 

lines or operating units and may alter 

the methodology it uses within a given 

year. 

One commenter suggested that the 

term ‘‘job family’’ was ambiguous and 

could allow banks to include all 

employees in a single job family, which 

would result in payments to employees 

with salaries at the lower end of the job 

family that may be well in excess of 

twice their hourly wage.53 Rule 700 

defines a ‘‘job family’’ as a group of jobs 

or positions involving similar 

responsibilities, or requiring similar 

skills, education or training, that a bank, 

or a separate unit, branch or department 

of a bank, has established and uses in 

the ordinary course of its business to 

distinguish among its employees for 

purposes of hiring, promotion, and 

compensation.54 The requirements that 

a job family include jobs or positions 

with similar responsibilities, or that 

require similar skills, education and 

training, and be used by the bank in the 

ordinary course of its business for 

hiring, promotion and compensation 

purposes are designed to prevent a bank 

from establishing special job family 

classifications to evade the ‘‘nominal’’

standard. A bank may not deviate from 

its ordinary classification of jobs for 

purposes of determining whether a 

referral fee is nominal under this 

standard, and the Banking Agencies will 

monitor the job family classifications 

used by banks for ‘‘nominal’’

determination as part of the risk-focused 

examination process. Depending on a 

bank’s internal employee classification 

system, examples of a job family may 

include tellers, loan officers, or branch 

managers. The Agencies note, moreover, 

that other provisions of the networking 

exception also provide significant 

protection to customers. For example, 

the networking exception provides that 

unregistered bank employees may 

perform only clerical or ministerial 

functions in connection with brokerage 

transactions.55 Accordingly, bank 

employees referring a customer to a 

broker-dealer under the exception may 

not provide investment advice 

concerning securities or make specific 

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56A bank employee, however, may describe in 

general terms the types of investment vehicles 

available from the bank and the broker-dealer under 

the arrangement. See id. 

57See, e.g., ABA Letter, BISA Letter, Clearing 

House Ass’n Letter, Harris Bank Letter, Roundtable 

Letter, PNC Letter, U.S. Trust Company, N.A. (‘‘U.S. 

Trust’’) Letter, and WBA Letter. 

58See, e.g., Consumer Bankers Ass’n (‘‘CBA’’) 

Letter, BISA Letter. 

59See Section 3(a)(4)(B)(i)(VI) of the Exchange 

Act (permitting ‘‘the bank employee [to] receive 

compensation for the referral of any customer’’ in 

accordance with the exception). 

60See, e.g., ABA Letter, BISA Letter, Clearing 

House Ass’n Letter, and JP Morgan Letter. 

61See Exchange Act Section 3(a)(4)(B)(i)(VI). 

62The exception and the final rules also do not 

prohibit a bank from providing its employees noncash items, such as pizza or coffee mugs, in 

connection with programs to familiarize bank 

employees with new types of investment vehicles 

offered by the bank or the broker-dealer through the 

arrangement, provided that the programs or items 

given to employees do not reward or compensate 

an employee for making a referral to a brokerdealer. Thus, for example, a ‘‘pizza party’’ that is 

made available only to those employees that have 

made one or more referrals to a broker-dealer would 

not be permissible. 

63Rule 700(e). 

64A bank that acts as a government securities 

broker (as defined in Section 3(a)(43) of the 

Exchange Act) is not exempt from and must comply 

with the notification and other applicable 

requirements of section 15C of the Exchange Act. 

securities recommendations to the 

customer.56

A few commenters suggested that, by 

defining ‘‘nominal’’ by reference to 

hourly wages and annual base salary, 

the rule treats unfairly employees who 

receive a considerable portion of their 

compensation through bonuses tied to 

sales of non-securities products.57

Because the five alternatives included in 

the final rule are based on a set dollar 

amount or the hourly wage or annual 

base salary established by a bank for the 

employee or the employee’s job family, 

the alternatives help ensure that a 

referral fee will be nominal in relation 

to the employee’s compensation in the 

year it is paid. Bonuses, however, 

typically are discretionary, vary 

significantly from year-to-year and, as 

noted by commenters, may constitute a 

significant portion of the compensation 

of certain types of bank employees in 

particular years. Permitting referral fees 

to be based in part on the size of a bonus 

paid in a previous year (or projected to 

be paid in the current year) could allow 

bank employees to receive a referral fee 

that is not nominal in relation to the 

employee’s compensation, or the 

average compensation paid to 

employees within the relevant job 

family, in the year in which the fee is 

paid and, thus, could increase the 

potential for sales practice concerns. 

Commenters also asserted that more 

than one employee should be able to 

receive a fee for a single referral and 

also requested clarification as to 

whether officers and directors of a bank 

may receive referral fees under the 

exception.58 The Agencies believe that 

the networking exception permits a 

bank employee who personally 

participated in a referral to receive a 

referral fee for the referral.59

Accordingly, the Agencies have 

modified Rule 700(c) to clarify this 

position. Thus, for example, a 

supervisory employee may receive a 

separate, nominal one-time cash fee for 

a referral made by another individual 

supervised by the employee only if the 

supervisory employee personally 

participated in the referral. A 

supervisory employee may not, 

however, receive a referral fee merely 

for supervising the employee making 

the referral or administering the referral 

process. An officer or director of a bank 

who makes or personally participates in 

making a referral may receive a nominal 

fee for the referral as a bank employee. 

The proposed rule permitted a 

nominal referral fee to be paid only in 

cash. Many commenters requested that 

banks be given the flexibility to pay 

referral fees in non-cash forms.60 The 

terms of the networking exception, 

however, provide for a ‘‘nominal, onetime cash fee of a fixed dollar 

amount’’ 61 and, accordingly, the final 

rule continues to require that referral 

fees paid under the exception be paid in 

cash. A bank, therefore, may not pay 

referral fees in non-cash forms, such as 

vacation packages, stock grants, annual 

leave, or consumer goods. The final 

rules do not, however, prevent a bank 

from paying an employee on a quarterly 

or more frequent periodic basis the total 

amount of nominal, fixed cash fees the 

employee earned during the period. For 

example, if a bank employee is entitled 

to receive a $25 referral fee for each 

securities referral and the employee 

makes three qualifying referrals in a 

given quarter, the bank may pay the 

employee $75 at the end of the quarter 

instead of three individual payments of 

$25. A bank also may use a ‘‘points’’

system to keep track of the number of 

qualifying securities referrals made by 

the employee during a quarterly or more 

frequent period and the total amount of 

nominal, fixed cash fees that the 

employee is entitled to receive at the 

end of the period. In all cases, however, 

points must translate into cash 

payments on a uniform basis and the 

cash amount that an employee will 

receive for a qualifying securities 

referral (e.g., twice the employee’s 

actual base hourly wage) must be fixed 

before the referral is made and may not 

be contingent or vary based on whether 

an employee makes a specified number 

or type of securities referrals during a 

quarterly or more frequent period.62

2. Definition of ‘‘Referral’’

The statutory networking exception 

permits bank employees to receive a 

nominal one-time cash fee of a fixed 

dollar amount for the ‘‘referral’’ of a 

customer to a broker-dealer. Rule 700(e) 

defines a referral as an action taken by 

one or more bank employees to direct a 

customer of the bank to a broker-dealer 

for the purchase or sale of securities for 

the customer’s account.63 For purposes 

of the networking exception and Rules 

700 and 701, the term ‘‘customer’’

includes both existing and potential 

customers of the bank. 

As proposed, a bank employee may 

receive a referral fee under the 

networking exception and Rule 700 for 

each referral made to a broker-dealer, 

including separate referrals of the same 

individual or entity. In addition, 

nothing in the statutory networking 

exception or the final rules limits or 

restricts the ability of a bank employee 

to refer customers to other departments 

or divisions of the bank itself, including, 

for example, the bank’s trust, fiduciary 

or custodial department. Likewise, the 

networking exception and the rules do 

not apply to referrals of retail, 

institutional or high net worth 

customers to a broker-dealer or other 

third party solely for transactions not 

involving securities, such as loans, 

futures contracts (other than a security 

future), foreign currency, or over-thecounter commodities, or solely for 

transactions in securities (such as U.S. 

Government obligations) that would not 

require the other party to register under 

section 15 of the Exchange Act.64

3. Definition of ‘‘Contingent on Whether 

the Referral Results in a Transaction’’

Under the statutory networking 

exception, a nominal fee paid to an 

unregistered bank employee for 

referring a customer to a broker-dealer 

may not be contingent on whether the 

referral results in a transaction. This 

limitation is designed to allow banks to 

reward bank employees for introducing 

customers to a broker-dealer without 

giving unregistered bank employees a 

direct financial interest in any resulting 

securities transaction at the brokerdealer. 

The final rule, like the proposed rule, 

provides that a referral fee will be 

considered ‘‘contingent on whether the 

referral results in a transaction’’ if 

payment of the fee is dependent on 

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56520 Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 

65Rule 700(a). 

66Rule 700(a). 

67See, e.g., BISA Letter, Clearing House Ass’n 

Letter, and U.S. Trust Letter. 

68For similar reasons, a referral to a broker-dealer 

for such a transaction is a ‘‘referral’’ for purposes 

of the networking exception and Rule 700. 

69See NASAA Letter. 

70See, e.g., U.S. Trust Letter and Union Bank 

Letter. 

71See TD Banknorth, N.A. (‘‘TD Banknorth’’) 

Letter. 

whether the referral results in a 

purchase or sale of a security; whether 

an account is opened with a brokerdealer; whether the referral results in a 

transaction involving a particular type 

of security; or whether the referral 

results in multiple securities 

transactions.65 The final rule expressly 

provides that a referral fee may be 

contingent on whether a customer (1) 

contacts or keeps an appointment with 

a broker-dealer as a result of the referral; 

or (2) meets any objective, base-line 

qualification criteria established by the 

bank or broker-dealer for customer 

referrals, including such criteria as 

minimum assets, net worth, income, or 

marginal federal or state income tax 

rate, or any requirement for citizenship 

or residency that the broker-dealer, or 

the bank, may have established 

generally for referrals for securities 

brokerage accounts.66 A bank or brokerdealer may establish and use different 

objective, base-line qualification criteria 

(including citizenship or residency 

requirements) for different classes of 

customers or for different business lines, 

divisions or units of the bank or brokerdealer. 

Commenters generally supported 

these permissible contingencies. Some 

commenters contended that the rule 

also should allow payment of a nominal 

referral fee to be contingent on other 

events, such as the opening of an 

account at the broker-dealer or on the 

opening of an account that may be used 

to conduct only securities transactions 

that the bank itself could effect without 

registering as a broker under the 

exceptions for banks in Sections 

3(a)(4)(B) of the Exchange Act.67

Opening a securities account at the 

broker-dealer, however, is a necessary 

first step to executing securities 

transactions and one that a customer is 

unlikely to take unless the customer 

anticipates engaging in securities 

transactions with the broker-dealer. In 

light of this close link between opening 

an account and executing securities 

transactions, the Agencies have not 

modified the rule as requested and the 

final rule continues to provide that 

payment of a referral fee may not be 

contingent on whether the customer 

opens an account (other than the types 

of accounts described in Part B.2 supra.) 

at the broker-dealer. Other 

contingencies not specified in the rule 

may be permissible if they are not based 

on whether the referral results in a 

securities transaction at the brokerdealer. 

In addition, the ‘‘broker’’ exceptions 

in Sections 3(a)(4)(B) of the Exchange 

Act are available only to banks. 

Accordingly, a referral to a broker-dealer 

for a securities transaction within the 

scope of section 15 of the Exchange Act 

still involves a ‘‘broker’’ transaction at 

the broker-dealer even if a bank could 

conduct the transaction itself without 

registering as a broker, and a referral fee 

may not be contingent on the 

occurrence of such a transaction (or the 

opening of an account to engage in such 

transactions).68

4. Definition of ‘‘Incentive 

Compensation’’

The networking exception prohibits 

an unregistered employee of a bank that 

refers a customer to a broker-dealer 

under the exception from receiving 

‘‘incentive compensation’’ for the 

referral or any securities transaction 

conducted by the customer at the 

broker-dealer other than a nominal, noncontingent referral fee. To provide banks 

and their employees additional 

guidance in this area, Proposed Rule 

700(b) defined ‘‘incentive 

compensation’’ as compensation that is 

intended to encourage a bank employee 

to refer potential customers to a brokerdealer or give a bank employee an 

interest in the success of a securities 

transaction at a broker-dealer. 

The proposed rule also excluded 

certain types of bonus compensation 

from the definition of ‘‘incentive 

compensation.’’ Proposed Rule 700(b)(1) 

excluded compensation paid by a bank 

under a bonus or similar plan if such 

compensation is paid on a discretionary 

basis; based on multiple factors or 

variables; such factors or variables 

include significant factors or variables 

that are not related to securities 

transactions at the broker-dealer; and a 

referral made by the employee or any 

other person is not a factor or variable 

in determining the employee’s 

compensation under the plan. 

In addition, Proposed Rule 700(b)(2) 

provided that the definition of incentive 

compensation did not prevent a bank 

from compensating its employees on the 

basis of any measure of the overall 

profitability of (1) the bank, either on a 

stand-alone or consolidated basis; (2) 

any of the bank’s affiliates (other than a 

broker-dealer) or operating units; or (3) 

a broker-dealer if such profitability is 

only one of multiple factors or variables 

used to determine the compensation of 

the officer, director, or employee and 

those factors or variables include 

significant factors or variables that are 

not related to the profitability of the 

broker-dealer. The Agencies specifically 

requested comment on whether existing 

bank bonus programs would fit, or 

could easily be adjusted to fit, within 

these proposed exclusions. 

Many commenters indicated that the 

proposed bonus provisions worked well 

and would not interfere with bank 

bonus plans generally. One commenter, 

however, opposed the proposed bonus 

provisions arguing that permitting 

bonuses to be based even in part on 

revenues generated by activity 

conducted at a broker-dealer would 

encourage bank employees to make 

referrals regardless of the 

appropriateness of the referral in order 

to increase their compensation under 

the bonus plan.69 In addition, a number 

of commenters requested that the 

Agencies either confirm that bonus 

programs structured in particular ways 

identified by the commenter would not 

fall within the definition of ‘‘incentive 

compensation’’ or modify the terms of 

the exclusions to encompass plans with 

these features. For example, several 

commenters asked the Agencies to 

confirm that the rules would not 

prohibit a bank from basing an 

employee’s bonus on the assets, 

revenues or profits brought to the bank 

and its partner broker-dealer by that 

employee. Other commenters asked that 

the Agencies provide that all 

‘‘traditional’’ bank bonus programs are 

protected under the rule. 

A number of commenters also raised 

specific issues with one or more aspects 

of the exception in Rule 700(b)(1) for 

discretionary, multi-factor bonus plans 

or the safe harbor in Rule 700(b)(2) for 

plans based on overall profitability. For 

example, some commenters requested 

clarification of the ‘‘discretionary’’

requirement in paragraph (b)(1) and 

asserted that a bonus plan should be 

considered ‘‘discretionary’’ if employees 

do not have an enforceable right to 

compensation under the plan until it is 

paid.70 One commenter also argued that 

Proposed Rule 700(b)(1) should not 

prohibit the number of referrals made by 

an employee from playing a role in the 

employee’s compensation under a 

bonus plan.71

Several commenters also asserted that 

the safe harbor in paragraph (b)(2) 

should be clarified or expanded to cover 

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72See, e.g., ABA Letter, Clearing House Ass’n 

Letter. 

73See, e.g., Clearing House Ass’n Letter, Harris 

Bank Letter, U.S. Trust Letter. 

74See, e.g., ABA Letter, Clearing House Ass’n 

Letter, HSBC Bank Letter, PNC Letter, and Union 

Bank Letter. 

75Rule 700(b)(1). The requirement that an 

employee’s compensation not be based on a 

‘‘referral’’ made by the employee or another person 

means that the employee’s compensation under the 

bonus or similar plan may not vary based on the 

fact that the employee or other person made a 

referral to a broker-dealer or the number of 

securities referrals made by the employee or other 

person to a broker-dealer. 76A similar change has been made to the 

corresponding language in Rule 700(b)(2). 

bonus programs based on any measure 

of the financial performance, and not 

just the ‘‘overall profitability,’’ of a 

bank, affiliate, operating unit or brokerdealer.72 Commenters indicated that 

bank bonus programs may be based on 

a wide variety of measures or metrics 

related to the operations or performance 

of the bank, an affiliate or operating 

unit.73 Some commenters also requested 

that the safe harbor be revised to clarify 

that a bonus program may be based on 

the overall profitability of an operating 

unit of an affiliate of a bank (other than 

a broker-dealer), or be expanded to 

allow bonus programs to be based on 

the financial performance of a branch, 

division, or geographical or operational 

unit of a broker-dealer.74

The purpose of the exception and 

exclusion in paragraph (b) is to 

recognize that certain types of bonus 

plans are not likely to give unregistered 

bank employees a promotional interest 

in the brokerage services offered by the 

broker-dealers with which the bank 

networks and to avoid affecting bonus 

plans of banks generally. As described 

below, the Agencies have made several 

revisions to the exception and exclusion 

to help clarify the types of bonus plans 

that fall outside of the scope of 

‘‘incentive compensation’’ and to ensure 

that excepted or excluded plans are not 

likely to give bank employees an 

impermissible promotional interest in 

the broker-dealer’s activities. These 

exceptions and exclusions are crafted to 

accommodate existing types of bank 

bonus programs in general. 

Nevertheless, a plan’s longevity or the 

number of banks that utilize similar 

plans are not factors in determining 

whether a plan constitutes ‘‘incentive 

compensation’’ under this definition. 

Accordingly, banks that have 

networking arrangements with a brokerdealer should review their existing 

bonus programs in light of the standards 

set forth in the rule to evaluate whether 

they may constitute impermissible 

incentive compensation. 

a. Exception for Discretionary, MultiFactor Bonus Plans 

Under Rule 700(b)(1) of the final 

rules, compensation paid by a bank 

under a bonus or similar plan is 

specifically excepted from ‘‘incentive 

compensation’’ if it is paid on a 

discretionary basis and based on 

multiple factors or variables, provided 

that (1) those factors or variables 

include multiple, significant factors or 

variables that are not related to 

securities transactions at the brokerdealer; (2) a referral made by the 

employee is not a factor or variable in 

determining the employee’s 

compensation under the plan; and (3) 

the employee’s compensation under the 

plan is not determined by reference to 

referrals made by any other person.75

The Agencies have modified the rule to 

make clear that, to be excluded under 

Rule 700(b)(1), a multi-factor plan must 

include multiple, significant factors or 

variables that are not related to 

securities transactions at the brokerdealer.76 The proposed rule already 

required that there be ‘‘significant 

factors or variables’’ and the addition of 

‘‘multiple’’ highlights the plural nature 

of these terms. 

Each factor or variable unrelated to 

securities transactions at the brokerdealer will be considered ‘‘significant’’

for purpose of Rule 700(b) if it plays a 

material role in determining an 

employee’s compensation under the 

bonus or similar plan, i.e., the amount 

of the employee’s bonus could be 

reduced or increased by a material 

amount based on the non-securities 

factor or variable. This clarification will 

give banks greater certainty and will 

allow them to more readily identify the 

types of factors or variables not related 

to securities transactions that must be 

included within a discretionary, multifactor bonus plan under paragraph (b)(1) 

of the Rule. Thus, under paragraph 

(b)(1), a bank’s bonus program may take 

account of the full range of banking, 

securities or other business of one or 

more customers brought to the bank and 

its partner broker-dealer by an employee 

so long as the bonus is paid on a 

discretionary basis, the banking and 

other factors or variables not related to 

securities transactions at the brokerdealer are significant factors or variables 

under the bonus program, and a referral 

or number of referrals made by the 

employee or others is not a factor or 

variable under the program. In this way, 

the rule is designed to accommodate 

discretionary bank bonus programs that 

are based on general measures of the 

business or performance of a bank or a 

particular customer, branch or other 

unit of the bank, that are not based on 

referrals made by one or more bank 

employees and that include some inputs 

based on securities transactions at a 

broker-dealer as well as multiple 

significant factors or variables that are 

unrelated to securities transactions at 

the broker-dealer. 

A bank may not establish or maintain 

one or more ‘‘sham’’ non-securities 

factors or variables in its bonus or 

similar plan for the purpose of evading 

the restrictions in Rule 700(b) and the 

Banking Agencies will continue to 

review the bonus and similar plans of 

banks participating in networking 

arrangements as part of the risk-focused 

supervisory process. In considering if a 

bonus program at a bank contains 

sufficient banking or other factors 

unrelated to securities transactions at a 

broker-dealer, the agencies will 

consider, among other things, whether 

such factors or variables relate to 

banking or other non-broker-dealer 

business(es) actually being conducted 

by the bank or its employees, the 

resources devoted by the bank to such 

business(es), and whether such 

business(es) materially contributes to 

the payments made under the plan over 

time. It is not expected that the actual 

payments made under a bank’s bonus or 

similar plan would, over time, be based 

predominantly on securities 

transactions conducted at a brokerdealer. If such a situation were to occur, 

the bank would be expected to make 

appropriate modifications to its bonus 

or similar plan going forward. 

A bonus or similar plan will be 

considered ‘‘discretionary’’ under the 

final rule if the amount an employee 

may receive under the plan is not fixed 

in advance and the employee does not 

have an enforceable right to payments 

under the plan until the amount of any 

payments are established and declared 

by the bank. A plan may, however, 

include targets or metrics that must be 

met in order for any bonus to be paid, 

provided the plan is otherwise a 

‘‘discretionary’’ plan. 

The Agencies have not modified the 

rule to allow a bonus plan to be based 

on the fact of a referral or the number 

of referrals made by one or more bank 

employees. The Agencies believe that 

doing so would allow a direct linkage 

between a referral and an employee’s 

bonus compensation and be contrary to 

the purposes of the exception. 

b. Safe Harbor for Plans Based on 

Overall Profitability or Revenue 

The safe harbor provisions of Rule 

700(b)(2) are designed to allow banks to 

avoid having to analyze whether a 

particular bonus program meets the 

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77As with a multi-factor bonus plan under 

paragraph (b)(1) of the Rule, a non-securities factor 

or variable will be considered ‘‘significant’’ under 

paragraph (b)(2)(iii) if it plays a material role in 

determining an employee’s compensation under the 

bonus or similar plan. 

78Proposed Rule 701. 

79See Proposed Rule 701(a)(1) and (d)(4). 

80See id. at 701(a)(2)(i). 

81See id. at 701(a)(3)(ii). 

requirements of the exception in 

paragraph (b)(1) in circumstances where 

the general structure of the program 

clearly reduces the potential for sales 

practice concerns in connection with a 

referral to a broker-dealer. The Agencies 

have made several changes to the safe 

harbor to address the issues raised by 

commenters and to ensure that the safe 

harbor achieves its purpose. In 

particular, the Agencies have modified 

paragraph (b)(2) of the rule to cover any 

bonus or similar plan that is based on 

the overall profitability or revenue of: 

(i) The bank, either on a stand-alone 

or consolidated basis; 

(ii) Any affiliate of the bank (other 

than a broker-dealer), or any operating 

unit of the bank or an affiliate (other 

than a broker-dealer), if the affiliate or 

operating unit does not over time 

predominately engage in the business of 

making referrals to a broker-dealer; or 

(iii) A broker-dealer if: 

(A) Such measure of overall 

profitability or revenue is only one of 

multiple factors or variables used to 

determine the compensation of the 

officer, director or employee; 

(B) The factors or variables used to 

determine the compensation of the 

officer, director or employee include 

multiple significant factors or variables 

that are not related to the profitability or 

revenue of the broker-dealer; 

(C) A referral made by the employee 

is not a factor or variable in determining 

the employee’s compensation under the 

plan; and 

(D) The employee’s compensation 

under the plan is not determined by 

reference to referrals made by any other 

person. 

When a bonus program is based on 

the overall profitability of a bank, an 

affiliate of a bank (other than a brokerdealer), or an operating unit of the bank 

or an affiliate (other than a brokerdealer), any relationship between a 

referral made by an employee and the 

amount of payments that the employee 

may receive under the plan are likely to 

be attenuated. In these circumstances, 

for example, any potential connection 

between the revenue received by a bank 

from its partner broker-dealer as a result 

of a referral and the payments made to 

the referring bank employee under the 

plan likely would be tenuous and 

largely speculative given the number of 

other employees, business and actions 

that contribute to the overall 

profitability of the bank, affiliate or most 

operating units. The Agencies believe 

this attenuation effectively addresses 

any potential that payments under the 

plan would give an employee an undue 

promotional interest in any securities 

transactions that may occur at the 

broker-dealer as a result of a referral. A 

bonus plan based on the overall revenue 

of a bank or qualifying affiliate or 

operating unit would be similarly 

attenuated and, for this reason, the 

Agencies have modified the safe harbor 

to cover plans based on either the 

‘‘overall profitability or revenue’’ of a 

bank or a qualifying affiliate or 

operating unit. This would include 

plans based on an entity’s earnings per 

share or stock price, both of which are 

directly related to the entity’s overall 

profitability or revenue. Because other, 

more granular measures of the financial 

performance of a bank, affiliate or 

operating unit could create an unduly 

close connection between the 

employee’s expected payment under the 

bonus plan and referrals made to the 

broker-dealer or the securities 

transactions that result from those 

referrals, the rules provide for plans 

structured in more granular ways to be 

analyzed under the multi-factor, 

discretionary criteria in Rule 700(b)(1). 

The potential connection between a 

referral made by a bank employee and 

the payments made to the employee 

under a bonus plan may be particularly 

strong if payments under the plan are 

based on the profitability or revenue of 

(i) the partner broker-dealer itself or a 

specific branch or operating unit of the 

broker-dealer (such as the branch or 

operating unit responsible for handling 

customers referred by the bank), or (ii) 

an operating unit of the bank or a nonbroker-dealer affiliate that is 

predominantly engaged over time in 

referring customers to the broker-dealer. 

To address the potential for improper 

incentives in these situations, the 

Agencies have modified Rule 

700(b)(2)(iii) to allow a bonus program 

to be based on the overall profitability 

or revenue of a broker-dealer only if the 

program meets the conditions specified 

in (A)–(D) above. These conditions are 

similar to those that would apply to a 

discretionary bonus or similar plan 

under paragraph (b)(1) and are designed 

to ensure that the profitability or 

revenue of the broker-dealer is only one 

of multiple significant factors or 

variables in determining the employee’s 

compensation and that a referral or 

number of referrals made by the 

employee is not a factor or variable 

under the program.77 Like the proposal, 

the safe harbor in paragraph (b)(2) is not 

available to bonus plans based on the 

profitability or revenue of a particular 

branch, division or operating unit of the 

partner broker-dealer. 

In addition, the Agencies have 

modified paragraph (b)(2)(ii) of the rule 

to exclude bonus plans based on the 

profitability or revenue of an operating 

unit of a bank or non-broker-dealer 

affiliate that over time predominantly 

engages in the business of making 

referrals to a broker-dealer. This 

exclusion is intended to prevent a bank 

from basing a bonus plan on the overall 

profitability or revenue of a bank unit 

that is focused solely or predominately 

on making referrals to a broker-dealer. 

This restriction, however, is not 

intended to prevent a bonus plan from 

being based on the overall profitability 

or revenue of a bank unit, such as a call 

center, that in fact markets, sells or 

supports a range of bank products in 

addition to making referrals to a brokerdealer and which is not, over time, 

predominantly engaged in the business 

of making referrals to a broker-dealer. 

C. Rule 701: Exemption for Referrals 

Involving Institutional Customers and 

High Net Worth Customers 

The proposed rules included an 

exemption that would permit a bank, 

subject to certain conditions, to pay an 

employee a contingent referral fee of 

more than a nominal amount for 

referring an ‘‘institutional customer’’ or 

‘‘high net worth customer’’ to a brokerdealer with which the bank has a 

contractual or other written networking 

arrangement.78 Among the conditions 

included in the proposed rule were 

conditions that—

• Established the financial thresholds 

at which a customer would be 

considered an ‘‘institutional customer’’

or ‘‘high net worth customer’’; 

• Limited the types of bank 

employees that may receive a higherthan-nominal referral fee under the 

exemption and the manner in which 

these fees may be structured; 79

• Required the bank to provide 

certain disclosures to the customer 

regarding the referral arrangement; 80

and 

• Required that the agreement 

between the bank and the broker-dealer 

include certain provisions, including a 

provision obligating the broker-dealer to 

perform a suitability analysis of certain 

securities transactions that may result 

from the referral or a sophistication 

analysis of the customer referred.81

Many commenters supported 

providing an exemption for referrals 

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82See, e.g., BISA Letter, CBA Letter, Citigroup 

Letter, ICBA Letter, Roundtable Letter, Securities 

Industry and Futures Markets Ass’n (‘‘SIFMA’’) 

Letter, State Street Corp. Letter, U.S. Trust Letter, 

Union Bank Letter. 

83See CBA Letter. 

84See, e.g., Massachusetts Securities Division 

Letter, NASAA Letter. 

85See Exchange Act Section 3(a)(4)(B)(i)(V) and 

(IX). 

86See, e.g., HSBC Bank Letter, U.S. Trust Letter, 

SIFMA Letter, Roundtable Letter. 

87See 17 CFR 230.501(a)(3), (5) and (6); Securities 

Act Rel. No. 33–8766, 72 FR 400, Jan. 4, 2007. 

involving sophisticated individuals and 

entities.82 These commenters, for 

example, asserted that the exemption 

was appropriate in light of the required 

sophistication of the customer 

involved.83 Other commenters, 

however, argued that providing an 

exemption to the ‘‘nominal’’

requirement would not be in the interest 

of investors or the public. These 

commenters asserted that the exemption 

as proposed would allow bank 

employees to have a significant 

salesman’s stake in securities 

transactions and encourage bank 

employees to act as finders or 

salespeople for a broker-dealer.84

Many commenters, including a 

number that supported the exemption, 

also asked that the Agencies modify the 

exemption to, among other things, lower 

or alter the thresholds at which a person 

would be considered an ‘‘institutional 

customer’’ or ‘‘high net worth customer’’

under the rule; eliminate the provisions 

of the rule requiring the broker-dealer to 

perform a suitability or sophistication 

analysis in connection with a referral; or 

eliminate the limitations on the manner 

in which a higher-than-nominal referral 

fee may be structured. In addition, many 

commenters requested that the Agencies 

modify the rule in several respects to 

reduce administrative burden and 

complexity. For example, several 

commenters asked that the Agencies 

provide a bank and its partner brokerdealer greater flexibility to assign 

between themselves the responsibility 

for fulfilling the disclosure and other 

obligations included in the rule. 

After carefully considering the 

comments, the Agencies have decided 

to retain the exemption. The Agencies 

continue to believe that it is appropriate 

to provide an exemption from the 

nominal and contingency limitations in 

the networking exception for referrals 

that both involve institutions and 

individuals that meet certain financial 

criteria and that occur under other 

conditions designed for investor 

protection. When provided appropriate 

information, such institutions and 

individuals are more likely to be able to 

understand and evaluate the 

relationship between a bank and its 

employees and the bank’s broker-dealer 

partner and the impact of that 

relationship on any resulting securities 

transaction with the broker-dealer. The 

conditions in the final exemption are 

designed to help ensure that, among 

other things, institutional and high net 

worth customers, as defined in the rule, 

receive appropriate investor protections 

and information that enables the 

customer to understand the financial 

interest of the bank employee so the 

customer can make informed choices. 

Moreover, as the exemption itself 

provides, a bank operating under the 

exemption also must comply with the 

terms and conditions in the statutory 

networking exception (other than the 

compensation restrictions in Section 

3(a)(4)(B)(i)(VI) of the Exchange Act’s 

networking exception), including the 

terms and conditions that require the 

disclosure of the uninsured nature of 

securities and that limit the role that a 

bank employee may have in a brokerage 

transaction.85 These conditions provide 

additional protections to institutional 

and high net worth customers that may 

be referred to a broker-dealer under Rule 

701. 

The Agencies have modified the final 

rule in several respects to, among other 

things, provide banks and brokerdealers greater flexibility in complying 

with the rule’s disclosure requirements 

and to make the exemption more 

workable in practice. In light of the 

protections retained in the rule, the 

Agencies also have modified the 

thresholds at which a non-natural 

person will be considered an 

‘‘institutional customer’’ for purposes of 

the rule. These modifications are 

discussed further below. 

Banks that pay their employees only 

nominal, non-contingent fees in 

accordance with Rule 700 for referring 

customers—including institutional or 

high net worth customers—to a brokerdealer do not need to rely on, or comply 

with, the exemption provided in Rule 

701. As under the proposal, the final 

rule requires that the written agreement 

between a bank operating under the 

exemption and its partner broker-dealer 

include terms that obligate the brokerdealer to take certain actions. Banks and 

broker-dealers are expected to comply 

with the terms of their written 

networking arrangements. If a bank or 

broker-dealer does not comply with the 

terms of the agreement, however, the 

bank would not become a ‘‘broker’’

under Section 3(a)(4) of the Exchange 

Act or lose its ability to operate under 

the proposed exemption. 

1. Definitions of ‘‘Institutional 

Customer’’ and ‘‘High Net Worth 

Customer’’

Proposed Rule 701(d)(2) defined an 

‘‘institutional customer’’ to mean any 

corporation, partnership, limited 

liability company, trust, or other nonnatural person that has at least $10 

million in investments or $40 million in 

assets. Under the proposal, a nonnatural person also would qualify as an 

‘‘institutional customer’’ with respect to 

a referral if the customer has $25 

million in assets and the bank employee 

refers the customer to the broker-dealer 

for investment banking services. 

Proposed Rule 701(d)(1) defined a ‘‘high 

net worth customer’’ to mean any 

natural person who, either individually 

or jointly with his or her spouse, has at 

least $5 million in net worth excluding 

the primary residence and associated 

liabilities of the person and, if 

applicable, his or her spouse. Proposed 

Rule 701 also included provisions 

governing the allocation of assets held 

by a natural person jointly with his or 

her spouse and provided for the dollar 

thresholds in the rule to be adjusted for 

inflation every five years. 

A number of commenters argued that 

the proposed dollar thresholds for both 

types of customers were too high in 

light of the nature of the transactions 

involved and the other requirements of 

the exemption.86 Commenters asserted 

that customers with lower levels of net 

worth, assets or investments are 

sophisticated enough to understand and 

evaluate the implications of a higherthan-nominal or contingent referral fee. 

Commenters suggested a wide variety of 

alternative thresholds, with many 

recommending that the Agencies use an 

existing standard established under the 

federal securities laws for assessing a 

customer’s investment sophistication. 

For example, commenters 

recommended that the Agencies use the 

‘‘accredited investor’’ definition in the 

Commission’s Regulation D, or the 

definition of that term proposed for use 

in connection with investments in 

certain private investment vehicles, for 

purposes of defining an institutional or 

high net worth customer; 87 treat all 

corporate and non-natural persons as an 

institutional customer; consider all 

persons advised by a bank or a 

registered investment adviser to be 

sophisticated; or lower the asset 

threshold for municipalities or 

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56524 Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 

88See, e.g., ABA Letter, Clearing House Ass’n 

Letter, State Street Corp. Letter. 

89Rule 701(d)(2). 

90To develop comparable asset and revenue 

thresholds for an institutional customer, the 

Agencies used a dataset composed of all publicly 

traded, U.S.-incorporated, non-financial companies 

with a market capitalization of greater than $0 and 

for which asset and sales data were available in the 

2005 CompuStat Universe of North American 

companies published by Standard & Poor’s 

Corporation. For more information on the 

CompuStat Universe, see http:// 

www2.standardandpoors.com/spf/pdf/products/ 

Compustat2006.pdf. A company with $40 million 

in assets and a company with $25 million in assets 

would rank at approximately the 27.5th percentile 

and the 21.9th percentile, respectively, of all 

companies within this dataset when ranked 

according to assets. When the companies within 

this dataset are ranked according to sales, the 

companies at approximately the 27.5th percentile 

and the 21.9th percentile have approximately $27.7 

million and $15.7 million in sales. 

91See Rule 701(d)(3). 

92When used in this rule, the term ‘‘include, 

without limitation’’ means a non-exhaustive list. 

This usage is not intended to suggest that the term 

‘‘including’’ as used in the Exchange Act and the 

rules under that Act means an exhaustive list. The 

use of the term ‘‘including, but not limited to’’ in 

Exchange Act Rules 10b–10 and 15b7–1 is also not 

intended to create a negative implication regarding 

the use of ‘‘including’’ without the term ‘‘but not 

limited to’’ in other Exchange Act rules. See 

Exchange Act Release No. 49879, 69 FR 39682 (June 

30, 2004), at footnote 76. 

93See ABA Letter, PNC Letter, Roundtable Letter. 

94Rule 701(d)(1)(i)(B). 

95See, e.g., 15 U.S.C. 80a–2(a)(51), 78c(a)(54); 17 

CFR 230.501(a). 

96One commenter asserted that the Agencies 

should allow a person to include assets that the 

person holds jointly with someone other than a 

spouse, such as a relative or domestic partner, for 

purposes of calculating whether the person meets 

the net worth threshold. See Roundtable Letter. The 

Agencies have not modified the rule in this manner 

to keep the scope of individuals whose assets may 

be considered in determining whether a natural 

person has the appropriate level of financial 

sophistication consistent with the standards used in 

determining whether a natural person is an 

accredited investor under the Commission’s 

Regulation D. See 17 CFR 230.501(a). 

charitable organizations.88 Several 

commenters also asked that the 

Agencies allow banks to use a business 

customer’s revenues for purposes of 

determining if the customer is an 

institutional customer. 

After carefully reviewing the 

comments, the Agencies have modified 

the definition of an ‘‘institutional 

customer’’ in the final rule to mean any 

corporation, partnership, limited 

liability company, trust, or other nonnatural person that has, or is controlled 

by a non-natural person that has, at 

least: (i) $10 million in investments; or 

(ii) $20 million in revenues; or (iii) $15 

million in revenues if the bank 

employee refers the customer to the 

broker-dealer for investment banking 

services.89 When converted to an 

equivalent asset number, the $20 

million and $15 million revenue 

thresholds in the final rule are 

somewhat lower than $40 million and 

$25 million asset thresholds in the 

proposed rule.90 The Agencies believe 

that these lower thresholds are 

appropriate for corporate and other nonnatural customers in light of the other 

protections retained in the final rule, 

including the provisions requiring a 

suitability or sophistication 

determination, and the greater internal 

and external resources that business 

entities typically have as compared to 

individuals. The Agencies have 

modified the thresholds to be based on 

revenues (rather than assets) to 

eliminate the potential for borrowings to 

influence the status of a corporate 

customer and to promote the equivalent 

treatment of non-financial companies 

and financial companies. In addition, 

the Agencies have amended the rule to 

provide that a company controlled by an 

institutional customer will itself be 

considered an institutional customer. A 

company controlled by another 

company should generally have access 

to the resources and sophistication of 

the controlling company. 

The lower revenue threshold for 

referrals involving investment banking 

services is designed to facilitate access 

to the capital markets by smaller 

companies. Like the proposal, the final 

rule defines ‘‘investment banking 

services’’ to include, without limitation, 

acting as an underwriter in an offering 

for an issuer, acting as a financial 

adviser in a merger, acquisition, tenderoffer or similar transaction, providing 

venture capital, equity lines of credit, 

private investment-private equity 

transactions or similar investments, 

serving as placement agent for an issuer, 

and engaging in similar activities.91 The 

phrase ‘‘other similar services’’ would 

include, for example, acting as an 

underwriter in a secondary offering of 

securities and acting as a financial 

adviser in a divestiture. These examples 

are not exhaustive and are provided 

solely for illustrative purposes.92

The final rule continues to define a 

‘‘high net worth customer’’ as a natural 

person who, either individually or with 

his or her spouse, has at least $5 million 

in net worth excluding the primary 

residence and associated liabilities of 

the person and, if applicable, his or her 

spouse. In response to comments,93 the 

Agencies have modified this definition 

to include any revocable, inter vivos or 

living trust the settlor of which is a 

natural person who, either individually 

or jointly with his or her spouse, meets 

the $5 million in net worth test.94 This 

change is designed to reflect the fact 

that otherwise sophisticated individuals 

may hold assets through such trusts for 

estate planning or other purposes. 

The Agencies believe that customers 

that meet the net worth, investment and 

revenue thresholds included in the final 

rule should have the ability to 

understand and evaluate the financial 

interest of the bank employee making a 

referral to a broker-dealer under the 

exemption. In developing these 

thresholds, the Agencies took into 

account the limited nature of activities 

covered by the exemption (i.e., a referral 

by a bank employee to a broker-dealer). 

The Agencies have not modified the 

rule, as requested by some commenters, 

to treat any person advised by a bank or 

a registered investment adviser as an 

institutional or high net worth 

customer. The existence of such an 

advisory relationship generally is not, 

by itself, sufficient to establish the 

financial sophistication of an individual 

or corporate entity for purposes of the 

other similar standards in or developed 

under the federal securities laws.95

For purposes of determining whether 

a natural person meets the $5 million 

net worth test, the assets of a person 

include: (1) Any assets held 

individually; (2) if the person is acting 

jointly with his or her spouse, any assets 

of the person’s spouse (whether or not 

such assets are held jointly); and (3) if 

the person is not acting jointly with his 

or her spouse, fifty percent of any assets 

held jointly with such person’s spouse 

and any assets in which such person 

shares with such person’s spouse a 

community property or similar shared 

ownership interest. These rules are 

designed to ensure that the full amount 

of jointly owned assets are not 

considered in cases where one spouse 

acts independently of the other in 

contacting a broker-dealer.96 The 

Agencies have re-formatted these 

allocation provisions in the final rule to 

make them easier to understand and 

promote compliance. 

As in the proposal, the dollar 

threshold for both institutional 

customers and high net worth customers 

will be adjusted for inflation on April 1, 

2012, and every five years thereafter, to 

reflect changes in the value of the 

Personal Consumption Expenditures 

Chain-Type Price Index, as published by 

the Department of Commerce, from 

December 21, 2006. The Agencies 

selected this index because it is a 

widely used and broad indicator of 

inflation in the U.S. economy. 

2. Determining That a Customer Meets 

the Relevant Thresholds 

The proposal required the bank to 

determine that the customer being 

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97Proposed Rule 701(a)(2)(ii). 98Proposed Rule 701(a)(2)(ii)(B)(2). 99Proposed Rule 701(a)(3)(i). 100Proposed Rule 701(a)(3)(iii)(A). 101See, e.g., BISA Letter, Clearing House Ass’n 

Letter, Citigroup Letter, and SIFMA Letter. Some 

commenters, for example, suggested that requiring 

bank employees to make these determinations 

might require the employee to go beyond the 

limited role a bank employee is permitted to play 

in a brokerage transaction under the statute. See, 

e.g., BISA Letter, ABA Letter. 

102See, e.g., ABA Letter, BISA Letter, Clearing 

House Ass’n Letter, HSBC Bank Letter, and PNC 

Letter. 103See, e.g., Citigroup Letter, SIFMA Letter. 104See Rule 701(a)(2)(ii) and (3)(ii)(B). The final 

rule also continues to provide for the written 

agreement between the bank and the broker-dealer 

to require the broker-dealer to inform the bank if 

the broker-dealer determines that a referred 

customer does not meet the relevant eligibility 

thresholds. See Rule 701(a)(3)(v)(A). 

105Rule 701(a)(2)(ii). 

106Proposed Rule 701(a)(2)(i). 

107See, e.g., ABA Letter, JP Morgan Letter, 

Roundtable Letter, BISA Letter. 

108See, e.g., Bank of America Corp. (‘‘BofA’’) 

Letter and WBA Letter. 

109For example, some commenters noted that 

some referrals may occur only by telephone or 

asserted that it may be unclear to an employee 

when a referral actually occurs. 

110See, e.g., ABA Letter, BISA Letter, Clearing 

House Ass’n Letter, HSBC Bank Letter, and WBA 

Letter. In addition, some commenters contended 

that banks should be required to provide similar 

conflict-of-interest disclosures to customers referred 

to a broker-dealer under the statutory networking 

exception. See, e.g., Boyd Financial Letter, Pace 

Project Letter, University of Cincinnati Corp. Law 

Center Letter. The statutory networking exception 

itself sets certain disclosures that the bank or 

broker-dealer must provide a customer in situations 

where the bank employee making the referral may 

receive only a ‘‘nominal’’ referral fee. 15 U.S.C. 

78c(a)(4)(i)(IX). 

111Rule 701(b). 

referred met the standards to be a high 

net worth or institutional customer 

either (i) before the referral fee was paid 

to the bank employee, in the case of a 

non-natural person, or (ii) prior to or at 

the time of the referral, in the case of a 

natural person.97 In making these 

determinations for a natural person, the 

proposed rule allowed the bank to rely 

on a signed acknowledgment from the 

person that he or she met the standards 

to be a high net worth customer.98 The 

proposed rule also required that the 

written agreement between the bank and 

the broker-dealer provide for the brokerdealer to (i) determine that the customer 

being referred met the standards to be a 

high net worth customer or institutional 

customer before the referral fee was 

paid,99 and (ii) promptly inform the 

bank if the broker-dealer determined 

that a customer referred under the 

exemption did not meet the applicable 

standard.100

Commenters argued that either the 

bank or the broker-dealer, but not both, 

should be required to make these 

customer eligibility determinations and 

that the bank and the broker-dealer 

should be permitted to allocate 

responsibility for these determinations 

between themselves.101 In addition, 

several commenters contended that a 

bank should be allowed to make the 

eligibility determinations for both high 

net worth customers and institutional 

customers before the referral fee is paid 

or before a securities transaction is 

effected at the broker-dealer.102 A few 

commenters also asserted that banks 

and broker-dealers should be permitted 

to rely on a signed acknowledgement 

from either an institutional or high net 

worth customer.103

The status of the referred customer as 

a high net worth or institutional 

customer is a fundamental aspect of the 

exemption and the final rule continues 

to provide for both the bank and the 

broker-dealer to determine that the 

customer meets the necessary 

qualification criteria to provide added 

assurance that these criteria are met.104

In addition, less information typically is 

in the public domain concerning the 

financial resources of an individual than 

of a corporation or other business entity 

and, accordingly, there is a greater 

likelihood that a bank employee—

without further investigation—will be 

able to preliminarily identify corporate 

or other business customers that are 

likely to satisfy the rule’s eligibility 

criteria than in the case of individuals. 

For these reasons, the final rule 

continues to provide for the bank to 

determine that a natural person is a high 

net worth customer before a referral is 

made and before the employee 

potentially develops an expectation of a 

higher-than-nominal fee. 

The Agencies, however, have 

modified the final rule to make it more 

flexible while retaining its underlying 

purpose by providing that a bank or a 

broker-dealer satisfies its customer 

eligibility requirements if the bank or 

broker-dealer ‘‘has a reasonable basis to 

believe that the customer’’ is an 

institutional customer or high net worth 

customer before the time specified in 

the rule.105 A bank or broker-dealer 

would have a ‘‘reasonable basis to 

believe’’ that a customer is a high net 

worth customer or institutional 

customer if, for example, the bank or 

broker-dealer obtains a signed 

acknowledgment from the customer (or, 

in the case of an institutional customer, 

from an appropriate representative of 

the customer) that the customer meets 

the applicable standards to be 

considered a high net worth customer or 

an institutional customer, respectively, 

and the bank employee making the 

referral or the broker-dealer employee 

dealing with the referred customer does 

not have information that would cause 

the employee to believe that the 

information provided by the customer 

(or representative) is false. 

3. Conditions Relating to Disclosures 

The proposed exemption required 

that the bank provide a high net worth 

customer or institutional customer being 

referred to the bank’s broker-dealer 

partner certain written disclosures about 

the bank employee’s potential interest 

in the referral prior to or at the time of 

the referral.106 Commenters generally 

believed that providing these types of 

disclosures to a high net worth or 

institutional customer would help 

ensure that the customer received 

appropriate information concerning the 

relationship between the bank and the 

broker-dealer,107 although a few 

questioned whether sophisticated 

customers required any disclosures at 

all or suggested that more simplified 

disclosures be permitted.108 A number 

of commenters also asserted that the 

requirement that the bank provide these 

disclosures ‘‘prior to or at the time of 

the referral’’ was impractical or 

burdensome.109 Commenters instead 

asserted that the rule should allow the 

disclosures to be provided before the 

referral fee is paid or before a securities 

transaction is effected at the brokerdealer, or allow the bank and the brokerdealer to determine which entity would 

make the disclosures.110

The final rule continues to require 

that a high net worth or institutional 

customer referred to a broker-dealer 

under the exception receive disclosures 

that clearly and conspicuously disclose 

(i) the name of the broker-dealer; and (ii) 

that the bank employee participates in 

an incentive compensation program 

under which the bank employee may 

receive a fee of more than a nominal 

amount for referring the customer to the 

broker-dealer and that payment of this 

fee may be contingent on whether the 

referral results in a transaction with the 

broker-dealer.111 This requirement 

ensures that high net worth or 

institutional customers receive notice of 

the financial interest the referring 

employee may have in the transaction 

so they can make informed choices. 

In light of the comments, the Agencies 

have modified the provisions of the rule 

governing how and when these 

disclosures must be provided to make 

the rule more workable and less 

burdensome while also requiring that 

customers receive the information in 

time to make informed choices. 

Specifically, the final rule provides two 

options for providing the required 

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56526 Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 

112Rule 700(a)(2)(i). 

113Rule 701(a)(2)(i) and (a)(3)(i). 

114Rule 701(a)(3)(i). As a general matter, a 

customer begins the account-opening process when 

the customer fills out the appropriate forms 

provided by the broker-dealer to establish an 

account. 

115Proposed Rule 701(a)(3)(ii). 

116Proposed Rule 701(a)(3)(iii)(C). 

117See, e.g., ABA Letter, Clearing House Ass’n 

Letter, Citigroup Letter, and PNC Letter. See also 

FINRA Rule 2310 and FINRA IM–2310–3 

(discussing suitability obligations of member 

broker-dealers). One commenter also asserted that 

any expansion of a broker-dealer’s suitability 

obligations should be processed and approved 

through the normal market regulation and SRO 

process. See SIFMA Letter. 

118See, e.g., Clearing House Ass’n Letter, SIFMA 

Letter. Commenters also asserted that a brokerdealer may not be able to perform the proposed 

‘‘sophistication’’ analysis if the customer does not 

open an account or refuses to provide the brokerdealer the information necessary to perform the 

analysis. 

119One commenter expressed concern that the 

suitability/sophistication requirements of the rule 

may discourage low-cost, execution-only brokers 

from establishing relationships with banks under 

the exemption. See Business Law Section Letter. 

The Agencies are mindful of the need to keep 

appropriate investment options, including low-cost 

options, available to investors. However, given the 

cost structure of low-cost brokers, the Agencies 

expect that few such brokers would participate in 

referral arrangements under the exemption that 

provides for higher-than-nominal referral fees. 

Broker-dealers that do not wish to become obligated 

to perform the suitability/sophistication analyses 

required by the rule also may continue to establish 

and maintain networking arrangements pursuant to 

the statutory networking exception. 

120Rule 701(a)(3)(ii)(A). Because the exemption 

provides for a broker-dealer to conduct its 

suitability analysis in accordance with the rules of 

its applicable SRO, the broker-dealer may follow 

and take advantage of any applicable SRO rules or 

interpretations that allow the broker-dealer to make 

an alternative suitability evaluation. See, e.g., 

FINRA IM–2310–3 (discussing a member’s 

suitability obligations with respect to certain 

institutional investors). 

121Rule 701(a)(3)(iii)(B). 

122Rule 701(a)(3)(ii)(B)(1). 

disclosures. Under the first option, as 

under the proposal, the bank must 

provide the high net worth or 

institutional customer the disclosures in 

writing prior to or at the time of the 

referral.112 The second option allows 

the bank to provide the disclosure to the 

customer orally prior to or at the time 

of the referral. However, if the bank 

provides the customer the required 

disclosures only orally, then either (i) 

the bank must provide the disclosure to 

the customer in writing within 3 

business days of the date of the referral; 

or (ii) the broker-dealer must be 

obligated, under the terms of its written 

agreement with the bank, to provide the 

disclosures in writing to the 

customer.113 If the broker-dealer is 

responsible for providing the written 

disclosures, then it must provide the 

disclosures to the customer prior to or 

at the time the customer begins the 

process of opening an account at the 

broker-dealer (if the customer does not 

already have an account with the 

broker-dealer) or prior to the time the 

customer places an order for a securities 

transaction with the broker-dealer as a 

result of the referral (if the customer 

already has an account at the brokerdealer).114 In this way, the rule provides 

a mechanism for customers to receive 

the disclosures in writing when they 

initially are provided only orally. 

Whether provided orally or in writing, 

the required disclosures will be 

considered to have been made in a clear 

and conspicuous manner if they are 

provided in a manner designed to call 

attention to the nature and significance 

of the information. 

4. Suitability or Sophistication Analysis 

by Broker-Dealer 

The proposed exemption required 

that the written agreement between the 

bank and the broker-dealer provide for 

the broker-dealer to perform a suitability 

or sophistication analysis of a securities 

transaction or the customer being 

referred, respectively. The type and 

timing of the analysis needed to be 

conducted by the broker-dealer 

depended on whether the referral fee 

was contingent on the completion of a 

securities transaction at the brokerdealer.115 The proposed rule also 

required that the written agreement 

between the bank and its partner brokerdealer obligate the broker-dealer to 

inform the bank if it determined that a 

customer referred under the exemption, 

or a transaction to be conducted by the 

customer, did not meet the relevant 

suitability or sophistication standard.116

Several commenters objected to this 

suitability/sophistication requirement 

arguing that the broker-dealer should be 

required to conduct a suitability/ 

sophistication analysis only when such 

an analysis would otherwise be required 

under the rules of the broker-dealer’s 

self-regulatory organization (‘‘SRO’’) 

(i.e., in those cases where the brokerdealer makes a recommendation to the 

customer concerning securities).117

Commenters also argued that the 

suitability/sophistication requirement 

was unworkable or unnecessary given 

that the transaction may involve only a 

referral (without a securities transaction 

occurring) of a sophisticated 

customer.118 In addition, some 

commenters expressed concern that the 

proposed standards would increase the 

potential liability of broker-dealers or 

delay the ability of a broker-dealer to 

respond to a customer’s instructions. 

After carefully considering the 

comments, the Agencies have retained 

the requirement that the parties’ written 

agreement provide for the broker-dealer 

to perform a suitability analysis when a 

referral fee is contingent on a 

transaction and a suitability or 

sophistication analysis for other 

referrals. These requirements provide 

additional investor protections in those 

circumstances where the bank employee 

making the referral may receive a 

higher-than-nominal referral fee. The 

suitability and sophistication standards 

included in the final rule are based on 

the standards that broker-dealers 

currently must apply and use under 

applicable SRO rules and, thus, should 

be familiar to those broker-dealers that 

partner with banks operating under the 

exemption.119 In addition, the 

exemption gives a broker-dealer the 

flexibility to perform a suitability 

analysis, if one is otherwise required by 

the rule, in connection with all referrals 

made under the exemption if the brokerdealer determines that such an approach 

is appropriate for business, compliance 

or other reasons. 

Specifically, for contingent referral 

fees payable under the exemption, the 

written agreement between the bank and 

the broker-dealer must provide for the 

broker-dealer to conduct a suitability 

analysis of each securities transaction 

that triggers any portion of the 

contingency fee in accordance with the 

rules of the broker-dealer’s applicable 

SRO as if the broker-dealer had 

recommended the securities 

transaction.120 This analysis must be 

performed by the broker-dealer before 

each securities transaction on which the 

referral fee is contingent is conducted. 

For non-contingent referral fees 

payable under the exemption, the 

written agreement must provide for the 

broker-dealer to conduct, before the 

referral fee is paid, either (1) a 

sophistication analysis of the customer 

being referred; or (2) a suitability 

analysis with respect to all securities 

transactions requested by the customer 

contemporaneously with the referral in 

accordance with the rules of the brokerdealer’s applicable SRO as if the brokerdealer had recommended the securities 

transaction.121 Under the sophistication 

analysis option, the broker-dealer must 

determine that the customer has the 

capability to evaluate investment risk 

and make independent decisions, and 

determine that the customer is 

exercising independent judgment based 

on the customer’s own independent 

assessment of the opportunities and 

risks presented by a potential 

investment, market factors, and other 

investment considerations.122 This 

sophistication analysis is based on 

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Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 56527 

123Rule 701(a)(3)(iv). 

124See Proposed Rule 701(a)(1). 

125Proposed Rule 701(a)(3)(i)(A). 

126Proposed Rule 701(a)(2)(iii). 

127Proposed Rule 701(a)(3)(iii)(B). 

128See Rule 701(a)(1), (a)(2)(iii), (a)(3)(ii)(A), and 

(a)(3)(v)(B). 

129See Business Law Section Letter. 

130See, e.g., ABA Letter, BISA Letter, Clearing 

House Ass’n Letter, Comerica Bank Letter, and U.S. 

Trust Letter. For example, some asserted that bank 

employees may be expected to identify and develop 

client relationships at social or other events and 

expressed concern that the language might prevent 

a bank employee from receiving a referral fee for 

institutional or high net worth customers 

encountered in these ways. 

131See, e.g., ABA Letter, BISA Letter, Clearing 

House Ass’n Letter, Citigroup Letter, PNC Letter, 

and SIFMA Letter. 

132Rule 701(a)(3)(ii)(A). 133Rule 700(a)(2)(iii). 

elements of FINRA IM–2310–3 

(Suitability Obligations to Institutional 

Customers). 

The Agencies have modified the final 

rule to provide for the broker-dealer to 

notify the customer, rather than the 

bank, if the broker-dealer determines 

that a high net worth or institutional 

customer, or a securities transaction to 

be conducted by such a customer, does 

not meet the applicable sophistication 

or suitability standard.123 Providing 

such notification to the customer should 

assist the customer in deciding whether 

or not to conduct the transaction. 

5. Conditions Relating to Bank 

Employees 

Paragraph (b)(1) of the Proposed Rule 

included certain limitations on the 

types of bank employees that may 

receive a higher-than-nominal referral 

fee under the rule. In particular, the 

Proposed Rule provided that the bank 

employee: be predominantly engaged in 

banking activities, other than making 

referrals to a broker-dealer; encounter 

the high net worth or institutional 

customer in the ordinary course of the 

employee’s assigned business for the 

bank; not be qualified or required to be 

qualified under the rules of a SRO; and 

not be subject to statutory 

disqualification under Section 3(a)(39) 

of the Exchange Act (other than 

subparagraph (E) of that Section) 

(‘‘statutory disqualification’’).124

The proposed exemption also 

included other provisions related to the 

SRO and statutory disqualification 

conditions. First, it required that the 

written agreement between the bank and 

the broker-dealer must provide for the 

bank and the broker-dealer to 

affirmatively determine, before a referral 

fee is paid to a bank employee under the 

exemption, that the employee is not 

subject to statutory disqualification.125

Second, it required that the bank 

provide the broker-dealer the name of 

the employee and such other identifying 

information that may be necessary for 

the broker-dealer to determine whether 

the bank employee is subject to 

statutory disqualification or associated 

with a broker-dealer.126 And third, it 

required that the parties’ written 

agreement obligate the broker-dealer to 

promptly inform the bank if it 

determined the bank employee was 

subject to statutory disqualification.127

The final rule retains these provisions 

with the following modifications.128 In 

response to comments,129 the Agencies 

have modified the SRO condition in 

paragraph (a)(1)(A) of the Rule to 

provide that the employee receiving the 

referral fee must not be ‘‘registered or 

approved, or otherwise required to be 

registered or approved, in accordance 

with the qualification standards 

established by the rules of any selfregulatory organization.’’ The Agencies 

have modified the related language in 

paragraph (a)(2)(iii) of the rule in a 

similar manner. 

Several commenters argued that the 

requirement that a bank employee 

encounter the high net worth or 

institutional customer ‘‘in the ordinary 

course of the bank employee’s assigned 

duties’’ was unnecessary and 

ambiguous.130 The Agencies have 

retained the requirement to help ensure 

that a bank employee making a referral 

under the rule does so as part of the 

employee’s duties as a bank employee 

and not as a sales representative of the 

broker-dealer. However, the Agencies 

recognize that in the ordinary course of 

his or her assigned duties for the bank, 

a bank employee may encounter 

customers or potential customers 

outside the employee’s regular business 

hours or at locations outside of the 

bank, such as at social or civic functions 

or gatherings. 

A number of commenters contended 

that the bank and the broker-dealer 

should not both be required to verify 

that the bank employee is not subject to 

statutory disqualification and suggested 

that the bank and broker-dealer be 

permitted to allocate this responsibility 

between themselves.131 The Agencies 

have modified the rule to provide for 

these determinations to be made by the 

broker-dealer under the terms of the 

parties’ written agreement.132 The 

Agencies believe that broker-dealers are 

better suited to make this determination 

given their familiarity with the 

Exchange Act’s statutory 

disqualification standards, provided 

that they receive the necessary 

information concerning the employee 

from the bank. A broker-dealer fulfills 

its responsibilities under paragraph 

(a)(3)(ii)(A) of Rule 701 if the brokerdealer determines that a bank employee 

is not subject to statutory 

disqualification before the employee 

first receives a referral fee under Rule 

701 and at least once each year 

thereafter as long as the employee 

remains eligible to receive referral fees 

under the rule. 

As a means designed to ensure that 

the broker-dealer has the appropriate 

information to make these 

determinations, the rule continues to 

require that, before a higher-thannominal referral fee is paid to a bank 

employee under the exemption, the 

bank provide the broker-dealer the name 

of the employee and such other 

identifying information that the brokerdealer may need to determine whether 

the employee is subject to statutory 

disqualification.133 Once the 

information for a particular employee is 

conveyed to the broker-dealer, the bank 

should provide at least annually its 

broker-dealer partner any changes to the 

identifying information initially 

provided under paragraph (a)(2)(iii) of 

Rule 701 for an employee who 

continues to make referrals and receive 

referral fees under the exemption so that 

the broker-dealer may perform its 

periodic review of the employee’s 

qualifications under paragraph 

(a)(3)(ii)(A). 

6. Good Faith Compliance and 

Corrections by Banks 

As in the proposal, the final 

exemption provides that a bank that acts 

in good faith and that has reasonable 

policies and procedures in place to 

comply with the requirements of the 

exemption will not be considered a 

‘‘broker’’ under Section 3(a)(4) of the 

Exchange Act solely because the bank 

fails, in a particular instance, to 

determine that a customer is an 

institutional or high net worth 

customer, provide the customer the 

required disclosures, or provide the 

broker-dealer the required information 

concerning the bank employee receiving 

the referral fee within the time periods 

prescribed. If the bank is seeking to 

comply and takes reasonable and 

prompt steps to remedy the error, such 

as by promptly making the required 

determination or promptly providing 

the broker-dealer the required 

information, the bank will not lose the 

exemption from registration in these 

circumstances. Similarly, to promote 

compliance with the terms of the 

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56528 Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 

134Rule 701(a)(2)(iv). 

135One commenter requested that the rule 

provide a similar safe harbor for broker-dealers. See 

SIFMA Letter. Any obligations of a broker-dealer 

that arise by reason of Rule 701 run only to its bank 

partner under the terms of their agreement and the 

Agencies believe the issue of contractual liability 

between the parties is best addressed by the parties 

themselves. As stated in the proposal, the 

Commission anticipates that it may be necessary for 

either FINRA or the Commission to propose a rule 

that would require broker-dealers to comply with 

the written agreements entered into pursuant to 

Rule 701. 

136Proposed Rule 701(d)(4). 

137See, e.g., Clearing House Ass’n Letter and 

JPMorgan Letter. 

138See NASAA Letter. 

139Rule 701(d)(4)(ii). 

140Rule 701(d)(4)(i). A referral fee paid under the 

exemption may be contingent on whether the 

customer opens an account with the broker-dealer 

or executes one or more transactions in the account 

during the initial phases of the account. 

141Rule 701(c). 

142 15 U.S.C. 78c(a)(4)(B)(ii). 

143 Id. 

144 15 U.S.C. 78c(a)(4)(B)(ii)(I). 

145 15 U.S.C. 78c(a)(4)(B)(ii)(II). 

146 15 U.S.C. 78c(a)(4)(C). 

147 15 U.S.C. 78c(a)(4)(C)(i)–(iii). As discussed 

infra at Part VI.C, the Agencies have adopted Rule 

775 that permits banks, subject to certain 

conditions, to effect trades in securities issued by 

an open-end company and certain variable 

insurance contracts without sending the trade to a 

registered broker-dealer. Trades effected by a bank 

in accordance with Rule 775 are conducted in 

accordance with Section 3(a)(4)(C) of the Exchange 

Act. 

exemption, the bank must make 

reasonable efforts to reclaim the portion 

of the referral fee paid to the bank 

employee for a referral that does not, 

following any required remedial actions, 

meet the requirements of the exemption 

and that exceeds the amount the bank 

otherwise would be permitted to pay 

under the statutory networking 

exception and Rule 700.134

A few commenters suggested that the 

Agencies strike the requirement that the 

bank seek to reclaim the higher-thannominal portion of a referral fee. The 

Agencies have retained this requirement 

as it helps provide employees an 

incentive to comply with the rule.135

7. Referral Fees Permitted Under the 

Exemption 

Proposed Rule 701 placed certain 

limits on how a higher-than-nominal 

referral fee paid under the exemption 

may be structured.136 Some commenters 

argued that these restrictions are 

unnecessary in light of the other 

protections included in the exemption, 

or that the rule should allow a higherthan-nominal referral fee to be based on 

a percentage of any type of securities 

transaction conducted at a broker-dealer 

(rather than just investment banking 

transactions).137 On the other hand, one 

commenter asserted that, by allowing a 

referral fee to be based on the total 

amount of assets maintained in an 

account with the broker-dealer, the rule 

would provide an incentive for bank 

employees to provide ongoing 

investment advice to customers.138

The final rule continues to place 

limits on the types of referral fees a bank 

employee may receive under the 

exemption. These limitations are 

designed to reduce the potential 

‘‘salesman’s stake’’ of the bank 

employee in securities transactions 

conducted at the broker-dealer. 

Specifically, the exemption provides 

that a referral fee paid under the 

exemption may be a dollar amount 

based on a fixed percentage of the 

revenues received by the broker-dealer 

for investment banking services 

provided to the customer.139

Alternatively, the referral fee may be a 

predetermined dollar amount, or a 

dollar amount determined in 

accordance with a predetermined 

formula, so long as the amount does not 

vary based on (1) the revenue generated 

by, or the profitability of, securities 

transactions conducted by the customer 

with the broker-dealer; (2) the quantity, 

price, or identity of securities purchased 

or sold over time by the customer with 

the broker-dealer; or (3) the number of 

customer referrals made.140 For these 

purposes, ‘‘predetermined’’ means 

established or fixed before the referral is 

made. The requirement that the amount 

of the referral fee not vary based on the 

number of customer referrals made does 

not prohibit an employee from receiving 

a referral fee for each referral made by 

the employee under the exemption. 

As the exemption provides, these 

restrictions do not prevent a referral fee 

from being paid in multiple installments 

or from being based on a fixed 

percentage of the total dollar amount of 

assets placed in an account with the 

broker-dealer. Additionally, these 

restrictions do not prevent a referral fee 

from being based on a fixed percentage 

of the total dollar amount of assets 

(including securities and non-securities 

assets) maintained by the customer with 

the broker-dealer. Fees structured in this 

manner and consistent with the 

limitations in paragraph (d)(4)(i) of the 

Rule do not provide a bank employee an 

incentive to recommend the purchase or 

sale of particular securities. In fact, the 

bank employee would have no special 

incentive to recommend the purchase of 

any security, as the addition of cash or 

other non-security instruments to the 

account would count equally towards 

the employee’s compensation as any 

addition of securities to the account. 

8. Permissible Bonus Compensation Not 

Restricted 

The exemption for high net worth and 

institutional customers expressly 

provides that nothing in the exemption 

prevents or prohibits a bank from 

paying, or a bank employee from 

receiving, any type of compensation 

under a bonus or similar plan that 

would not be considered incentive 

compensation under paragraph (b)(1), or 

that is described in paragraph (b)(2), of 

Rule 700 (implementing the networking 

exception).141 As explained above, these 

types of bonus arrangements do not tend 

to create the kind of financial incentives 

for bank employees that the statute was 

designed to address. 

III. Trust and Fiduciary Activities 

A. Trust and Fiduciary Exception and 

Proposed Rules 

Section 3(a)(4)(B)(ii) of the Exchange 

Act (the ‘‘trust and fiduciary 

exception’’) permits a bank, under 

certain conditions, to effect securities 

transactions in a trustee or fiduciary 

capacity without being registered as a 

broker.142 A bank must effect such 

transactions in its trust department, or 

other department that is regularly 

examined by bank examiners for 

compliance with fiduciary principles 

and standards.143 In addition the bank 

must be ‘‘chiefly compensated’’ for such 

transactions, consistent with fiduciary 

principles and standards, on the basis 

of: (1) An administration or annual fee; 

(2) a percentage of assets under 

management; (3) a flat or capped per 

order processing fee that does not 

exceed the cost the bank incurs in 

executing such securities transactions; 

or (4) any combination of such fees.144

Banks relying on this exception may 

not publicly solicit brokerage business, 

other than by advertising that they effect 

transactions in securities in conjunction 

with advertising their other trust 

activities.145 In addition, a bank that 

effects a transaction in the United States 

of a publicly traded security under the 

exception must execute the transaction 

in accordance with Exchange Act 

Section 3(a)(4)(C).146 This Section 

requires that the bank direct the trade to 

a registered broker-dealer for execution, 

effect the trade through a cross trade or 

substantially similar trade either within 

the bank or between the bank and an 

affiliated fiduciary in a manner that is 

not in contravention of fiduciary 

principles established under applicable 

federal or state law, or effect the trade 

in some other manner that the 

Commission permits.147 The trust and 

fiduciary exception recognizes the 

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Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 56529 

148Proposed Rule 721. 

149See, e.g., ABA Letter, Roundtable Letter, U.S. 

Trust Letter, WBA Letter. 

150See, e.g., Clearing House Ass’n Letter. 

151See NASAA Letter. 

152See ACB Letter, CBA Letter. 

153Rule 721(a)(1). 

154The rule provides for this process to be 

accomplished by calculating the ‘‘yearly 

compensation percentage’’ and the ‘‘relationshiptotal compensation percentage’’ for the account. See 

Rule 721(a)(2) and (3). 

155Rule 722(a)(2). 

156The rule provides for this process to be 

accomplished by calculating the ‘‘yearly bank-wide 

compensation percentage’’ and the ‘‘aggregate 

relationship-total compensation percentage’’ for the 

bank’s trust and fiduciary business as a whole. See 

Rule 722(b) and (c). 

157The Agencies have modified the bank-wide 

exemption to clarify that these conditions include 

the advertising restrictions contained in the trust 

and fiduciary exception as implemented by Rule 

721(b). See Rule 722(a)(1). 

158Rule 722(a)(1). 

traditional securities role banks have 

performed for trust and fiduciary 

customers and includes conditions to 

help ensure that a bank does not operate 

a securities broker in the trust 

department. 

The proposed rules provided that a 

bank would meet the ‘‘chiefly 

compensated’’ condition in the trust and 

fiduciary exception if the bank’s 

relationship compensation attributable 

to each trust or fiduciary account 

exceeded 50 percent of the total 

compensation attributable to the 

relevant account.148 The proposed rules 

also included an exemption that would 

permit a bank to use a bank-wide 

approach to the ‘‘chiefly compensated’’

condition as an alternative to the 

account-by-account approach. A bank 

using this proposed alternative would 

be able to use the aggregate relationship 

and total compensation that the bank 

received from its trust and fiduciary 

business as a whole to monitor its 

compliance with the chiefly 

compensated test. The proposed rule 

allowed a bank to use this bank-wide 

alternative if, among other things, the 

bank’s aggregate relationship 

compensation attributable to its trust or 

fiduciary business as a whole equaled or 

exceeded 70 percent of the total 

compensation attributable to its trust or 

fiduciary business. This bank-wide 

alternative was designed to simplify 

compliance, alleviate concerns about 

inadvertent noncompliance, and reduce 

the costs and disruptions banks likely 

would incur under the account-byaccount approach. 

The proposal defined the term 

‘‘relationship compensation’’ to mean 

the types of trust and fiduciary 

compensation specifically identified in 

the trust and fiduciary exception. The 

proposed rules also provided examples 

of fees that would be considered an 

administration fee or a fee based on a 

percentage of assets under management 

for these purposes. For example, the 

proposed rules provided that fees paid 

by an investment company pursuant to 

a plan under 17 CFR 270.12b–1 (‘‘12b–

1 fees’’) or for personal service or the 

maintenance of shareholder accounts 

(‘‘service fees’’) would be considered 

relationship compensation under the 

rules. The proposed rules also 

implemented the statute’s advertising 

restriction and provided certain other 

conditional exemptions. 

B. Joint Final Rules 

1. ‘‘Chiefly Compensated’’ Test and 

Bank-Wide Exemption Based on TwoYear Rolling Averages 

A majority of commenters supported 

the general approach taken in the 

proposed rules implementing the trust 

and fiduciary exception, including the 

proposed bank-wide alternative for the 

chiefly compensated test. For example, 

a number of commenters stated that the 

proposed bank-wide approach would 

provide banks an improved, workable 

and flexible method of complying with 

the statutory exception.149 Some 

commenters, however, opposed either 

the account-by-account or bank-wide 

alternative to the ‘‘chiefly compensated’’

requirement. For example, some 

commenters argued that the account-byaccount approach was inconsistent with 

the terms and purposes of the trust and 

fiduciary exception.150 Another 

commenter argued that an account-byaccount approach to the chiefly 

compensated test is the only way to 

help ensure that a bank does not operate 

a brokerage business out of its trust or 

fiduciary departments and, for this 

reason, recommended that the Agencies 

eliminate the bank-wide alternative.151

Some commenters also requested that 

the Agencies lower the 70 percent 

relationship compensation/total 

compensation percentage required by 

the bank-wide exemption to 60 percent 

or 50 percent to make it more consistent 

with the percentage required by the 

account-by-account approach.152

After carefully considering the 

comments, the Agencies have retained 

the two alternative approaches in 

substantially the same form as 

proposed. Specifically, Rule 721 

provides that a bank meets the ‘‘chiefly 

compensated’’ condition in the trust and 

fiduciary exception if the ‘‘relationshiptotal compensation percentage’’ for each 

trust or fiduciary account of the bank is 

greater than 50 percent.153 The 

‘‘relationship-total compensation 

percentage’’ for a trust or fiduciary 

account is calculated by (1) Dividing the 

relationship compensation attributable 

to the account during each of the 

immediately preceding two years by the 

total compensation attributable to the 

account during the relevant year; (2) 

translating the quotient obtained for 

each of the two years into a percentage; 

and (3) then averaging the percentages 

obtained for each of the two 

immediately preceding years.154

The final rules (Rule 722) also allow 

a bank to use a bank-wide approach to 

the ‘‘chiefly compensated’’ condition as 

an alternative to the account-by-account 

approach. To use this bank-wide 

methodology, the bank must meet two 

conditions. First, the ‘‘aggregate 

relationship-total compensation 

percentage’’ for the bank’s trust and 

fiduciary business as a whole must be 

at least 70 percent.155 The ‘‘aggregate 

relationship-total compensation 

percentage’’ of a bank operating under 

the bank-wide approach is calculated in 

a similar manner as the ‘‘relationshiptotal compensation percentage’’ of an 

account under the account-by-account, 

except that the calculations would be 

based on the aggregate relationship 

compensation and total compensation 

received by the bank from its trust and 

fiduciary business as a whole during 

each of the two immediately preceding 

years. In other words, the percentage 

would be determined by (1) Dividing 

the relationship compensation 

attributable to the bank’s trust and 

fiduciary business as a whole during 

each of the immediately preceding two 

years by the total compensation 

attributable to the bank’s trust and 

fiduciary business as a whole during the 

relevant year; (2) translating the 

quotient obtained for each of the two 

years into a percentage; and (3) then 

averaging the percentages obtained for 

each of the two immediately preceding 

years.156 Second, the bank must comply 

with the conditions in the trust and 

fiduciary exception (other than the 

compensation test in Section 

3(a)(4)(B)(ii)(I)) 157 and comply with 

Section 3(a)(4)(C) (relating to trade 

execution) of the Exchange Act.158

The Agencies believe that providing 

banks these two alternatives is 

consistent with the purposes of the trust 

and fiduciary exception. In this regard, 

the availability of these two alternatives 

is designed to avoid disrupting the trust 

and fiduciary operations of banks. The 

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159See Clearing House Ass’n Letter. 

160See Citigroup Letter, Clearing House Ass’n 

Letter, Mellon Bank, N.A. (‘‘Mellon’’) Letter, PNC 

Letter, ABA Letter. 

161See, e.g., ABA Letter, Joint ABA/ABASA/ 

Clearing House Ass’n Letter of July 16, 2007, BISA 

Letter, Clearing House Ass’n Letter, Comerica Bank 

Letter. 

162The Agencies note, for example, that a bank 

that operates under the bank-wide approach may 

use different systems across its trust or fiduciary 

business lines, units or regions to monitor its 

compensation within those business lines, units or 

regions, provided that such information is then 

aggregated on a bank-wide basis as provided in Rule 

722. 

163Proposed Rule 721(a)(6). 

164This same schedule also would apply to a 

bank that operates on an October 1st to September 

30th fiscal year, but that elects to use the calendar 

year for purposes of monitoring its compliance with 

the chiefly compensated test. The Agencies believe 

the delay and phased-in nature of the compensation 

tests should provide banks as a general matter 

sufficient notice and time to address potential 

compensation issues across the full range of their 

trust and fiduciary accounts, including personal 

and charitable accounts and estates. See Business 

Law Section Letter. 

165See Rule 721(a)(3)(ii) and Rule 722(c)(2). 

compensation tests in both the accountby-account and bank-wide approaches 

are designed to ensure that a bank’s 

trust department is not unduly 

dependent on the types of securitiesrelated compensation not permitted by 

the statute. The 70 percent 

compensation threshold in the bankwide exemption is higher than that 

required under the account-by-account 

approach in order to compensate for the 

loss of particularity when the chiefly 

compensated test is implemented and 

monitored on a bank-wide basis, rather 

than on an account-by-account basis. 

The Agencies note that several 

commenters also asserted that the 

proposed aggregate relationship 

compensation-total compensation 

percentage required by the bank-wide 

alternative (70 percent) would not 

disrupt the trust and fiduciary 

operations or customer relationships of 

banks in light of the proposal’s 

definition of ‘‘relationship 

compensation.’’

Some commenters asked that the 

Agencies modify how the bank-wide 

exemption could be applied in several 

ways. For example, some asserted that 

a bank should be allowed to apply the 

70 percent compensation threshold 

separately to each individual fiduciary 

business line, operating unit or 

geographic region of the bank, rather 

than only on an aggregate bank-wide 

basis. Others asked that the Agencies 

allow a bank to use an aggregate 

compensation approach only for some 

trust or fiduciary business lines and use 

the account-by-account approach for the 

bank’s trust or fiduciary accounts in its 

remaining business lines.159 In addition, 

some asked that a bank be permitted to 

monitor compliance with the 70 percent 

compensation test on a combined basis 

with its affiliated entities engaged in 

trust or fiduciary activities (such as an 

affiliated bank or a subsidiary or affiliate 

registered as an investment adviser).160

Some commenters also asked the 

Agencies to modify the bank-wide 

approach to provide for a bank’s 

relationship compensation-total 

compensation percentage to be 

calculated based on the compensation 

attributable to all of the bank’s trust and 

fiduciary accounts rather than the 

compensation from the bank’s ‘‘trust 

and fiduciary business.’’ 161

The Agencies believe that the bankwide alternative as structured provides 

banks appropriate and adequate 

flexibility in conducting their trust and 

fiduciary operations while meeting the 

statute’s goals. The bank-wide approach 

is designed to reflect both the 

relationship compensation and total 

compensation received by a bank 

through the conduct of its full range of 

trust or fiduciary services, and, thus, 

allow banks to avoid tracking their trust 

or fiduciary revenue back to one or more 

specific accounts. At the same time, the 

use of two uniform methodologies 

(account-by-account or bank-wide) 

should facilitate the review of bank 

compliance during the bank supervisory 

process and aid the development of 

software and related systems by banks 

and their service providers for 

compliance purposes. Furthermore, 

because the broker exceptions for a bank 

in Section 3(a)(4)(B), including the trust 

and fiduciary exception, apply to each 

bank individually and are not available 

to a nonbank entity, including a 

nonbank subsidiary or affiliate of a 

bank, the Agencies have not modified 

the rules to allow a bank to monitor its 

compliance with the compensation limit 

in Rule 721 on a combined basis with 

one or more affiliated banks, 

subsidiaries or affiliates. The Agencies 

also do not believe that requiring banks 

to monitor their compliance with the 70 

percent compensation test on a bankwide basis, rather than on an individual 

business line or operating unit basis, 

will impose significant additional 

burdens on banks.162

A bank has the flexibility to elect to 

use a calendar year or the bank’s fiscal 

year for purposes of complying with the 

compensation provisions of either the 

account-by-account or bank-wide 

approach.163 In addition, whether a 

bank decides to use the account-byaccount approach or the bank-wide 

approach, the bank’s compliance with 

the relevant compensation restriction is 

based on a two-year rolling average of 

the compensation attributable to the 

trust or fiduciary account or the bank’s 

trust or fiduciary business, respectively. 

This two-year averaging is designed to 

allow for short-term fluctuations that 

otherwise could lead a bank to fall out 

of compliance with the exception or 

exemption from year-to-year. 

Some commenters asked that the 

Agencies clarify when a bank must 

commence monitoring its compliance 

with the two-year rolling compensation 

test. As discussed infra in Part VI.F, a 

bank must comply with the exceptions 

in Section 3(a)(4)(B) of the Exchange Act 

and the final rules starting the first day 

of the bank’s first fiscal year 

commencing after September 30, 2008. 

Thus, a bank that operates on a 

calendar-year basis must start 

monitoring its compliance with the 

compensation requirements on either an 

account-by-account or bank-wide basis 

beginning January 1, 2009, and would 

first have to meet the applicable 

compensation restriction after the 

conclusion of 2010 (based on the 

average of the bank’s year-end 

compensation ratios for 2009 and 

2010).164 To allow banks sufficient time 

to obtain and verify the relevant 

compensation data, the Agencies have 

modified both the account-by-account 

approach and the bank-wide approach 

to provide banks up to 60 days after the 

end of a year to calculate their 

compliance with the relevant 

compensation restriction.165 While the 

rules provide for a bank’s compliance 

with the compensation tests to be 

determined based solely on calculations 

as of year-end, banks are encouraged to 

monitor their trust and fiduciary 

compensation on a regular basis as 

appropriate to identify and address 

potential compliance issues before the 

end of the relevant two-year period. 

2. ‘‘Relationship Compensation’’

Both the account-by-account and 

bank-wide approaches are based on the 

ratio of the relationship compensation 

attributable to a trust or fiduciary 

account or a bank’s trust and fiduciary 

business to the total compensation 

attributable to the account or business. 

The proposal defined the term 

‘‘relationship compensation’’ to mean 

the types of trust and fiduciary 

compensation identified in the statute: 

an administration fee; an annual fee 

(payable on a monthly, quarterly or 

other basis); a fee based on a percentage 

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Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 56531 

166Proposed Rule 721(a)(4). 167Proposed Rule 721(a)(4)(iii)(A). 168Proposed Rule 721(a)(4)(iii)(B). 169See Proposed Rule 721(a)(4)(i) and (iii)(C). 

Specifically, these fees, which are hereinafter 

referred to as ‘‘sub-transfer agent and related fees’’

are paid for (1) providing transfer agent or subtransfer agent services for the beneficial owners of 

investment company shares; (2) aggregating and 

processing purchase and redemption orders for 

investment company shares; (3) providing the 

beneficial owners with account statements showing 

their purchases, sales, and positions in the 

investment company; (4) processing dividend 

payments to the account for the investment 

company; (5) providing sub-accounting services to 

the investment company for shares held 

beneficially in the account; (6) forwarding 

communications from the investment company to 

the beneficial owners, including proxies, 

shareholder reports, dividend and tax notices, and 

updated prospectuses; or (7) receiving, tabulating, 

and transmitting proxies executed by the beneficial 

owners of investment company shares in the 

account. 

170See Joint ABA/ABASA/Clearing House Ass’n 

Letter of June 7, 2007. 

171See NASD Letter, NASAA Letter. 

172Rule 721(a)(4). For banks operating under the 

bank-wide alternative, fees of these types are 

relationship compensation if they are attributable to 

the bank’s trust or fiduciary business as a whole. 

See Rule 722(c)(1). 

173A front-end sales charge is a charge that is 

used to finance sales or sales promotion expenses 

and that is included in the public offering price of 

the shares of an investment company. A deferred 

sales charge is an amount properly chargeable to 

sales or promotional expenses that is paid by a 

shareholder of an investment company after 

purchase of the company’s shares but before or 

upon redemption. See FINRA Rule 2830(b)(8)(B) 

and (c); 17 CFR 270.6c–10. 

174Section 802(f) of the Uniform Trust Code, for 

example, provides that a trustee may receive 

compensation from an investment company in 

which the trustee has invested trust funds and 

receipt of such compensation will not be presumed 

to represent a conflict of interest if the investment 

otherwise complies with the jurisdiction’s prudent 

investor rule. See Uniform Trust Code, § 902(f) and 

related comment (2005). In addition, a bank’s 

receipt of 12b–1 fees from an employee benefit plan 

for which the bank acts as a fiduciary is governed 

by the Employee Retirement Income Security Act 

(‘‘ERISA’’) and the regulations and guidance issued 

by the Department of Labor thereunder. See 29 

U.S.C. 1001 et seq.; DOL Advisory Opinion 2003–

09A (June 25, 2003) (discussing conditions under 

which a directed trustee may receive 12b–1 fees 

under ERISA). 

of assets under management; a flat or 

capped per order processing fee that is 

equal to not more than the cost incurred 

by the bank in connection with 

executing securities transactions for 

trust or fiduciary accounts; or any 

combination of these fees.166 The 

proposed rules also provided examples 

of fees that would be considered an 

administration fee or a fee based on a 

percentage of assets under management 

for these purposes. For example, the 

proposed rules provided that 12b–1 

fees,167 service fees,168 and fees for 

certain sub-transfer agent, subaccounting or related services 169 paid 

by an investment company on the basis 

of assets under management would be 

considered relationship compensation 

under the rules. 

The Agencies received numerous 

comments on the definition of 

relationship compensation. A number of 

commenters supported the definition 

including, in particular, the examples 

recognizing 12b–1 and service fees as 

relationship compensation. For 

example, some commenters stated that 

treating these fees as relationship 

compensation is consistent with the 

terms and purposes of the trust and 

fiduciary exception and ‘‘critical’’ to 

ensuring that the rules do not disrupt 

the trust and fiduciary operations and 

customer relationships of banks.170

Other commenters, however, argued 

that all 12b–1 fees, or the portion of 

such fees paid for distribution expenses, 

should be excluded from relationship 

compensation.171 These commenters 

asserted that treating 12b–1 fees as 

relationship compensation would allow 

banks to have a ‘‘salesman’s stake’’ in 

their customers’’ securities transactions 

in contravention of the purposes of the 

statute, result in the disparate treatment 

of banks and registered investment 

advisers, and create confusion as to how 

12b–1 fees should be treated under 

other aspects of the federal securities 

laws and rules of the NASD (now 

FINRA). 

In addition, many commenters asked 

that the Agencies clarify whether 

additional types of fees not mentioned 

in the proposed rules would qualify as 

relationship compensation. For 

example, commenters asked the 

Agencies to confirm that fees separately 

charged a trust or fiduciary customer for 

custodial services and fees charged or 

earned in connection with securities 

lending and borrowing transactions 

conducted for a trust or fiduciary 

customer are relationship 

compensation. 

After carefully considering the 

comments, the Agencies have retained, 

consistent with the statute, the 

definition of relationship compensation 

as any compensation that a bank 

receives that is attributable to a trust or 

fiduciary account and that consists of 

(1) an administration fee, (2) an annual 

fee (payable on a monthly, quarterly or 

other basis), (3) a fee based on a 

percentage of assets under management 

(an ‘‘AUM fee’’), (4) a flat or capped per 

order processing fee, paid by or on 

behalf of a customer or beneficiary, that 

is equal to not more than the cost 

incurred by the bank in connection with 

executing securities transactions for 

trust or fiduciary accounts; or (5) any 

combination of these fees.172

The final rules also continue to list all 

12b–1 fees that are paid on the basis of 

assets under management and 

attributable to a trust or fiduciary 

account (under the account-by-account 

test) or the bank’s trust and fiduciary 

business as a whole (under the bankwide test) as examples of AUM fees that 

are relationship compensation. The 

Agencies believe that treating 12b–1 fees 

in this manner is consistent with both 

the language and purposes of the trust 

and fiduciary exception. When paid on 

the basis of a percentage of assets under 

management these fees fall within the 

types of fees expressly permitted by the 

trust and fiduciary exception. 12b–1 

fees that are paid on the basis of assets 

under management also are 

distinguishable from the types of nonrelationship compensation, such as 

front-end or back-end sales loads 173 or 

per-order transaction fees that exceed a 

bank’s costs, that are limited by the 

statute’s chiefly compensated test. 

Treating 12b–1 fees in this manner 

also will avoid significant disruptions to 

the trust and fiduciary operations of 

banks and, when viewed in light of 

other provisions and protections, is 

consistent with investor protection. 

Many bank trust and fiduciary 

departments, particularly those that act 

as a corporate trustee or as a trustee or 

fiduciary for employee benefit plans, 

receive a significant portion of their 

trust and fiduciary compensation 

through payments made under a 12b–1 

plan. 

Importantly, as provided in the trust 

and fiduciary exception, all 12b–1 fees 

received by a bank must be consistent 

with the fiduciary principles and 

standards governing the bank-customer 

relationship,174 and the bank’s 

compliance with these principles and 

standards will continue to be regularly 

examined by bank examiners during the 

bank supervisory and examination 

process. In addition, the treatment of 

12b–1 fees that are paid on the basis of 

assets under management and service 

fees as ‘‘relationship compensation’’ for 

purposes of the trust and fiduciary 

exception and related rules does not 

affect the treatment of such fees under 

other provisions of the federal securities 

laws, the federal banking laws, 

applicable trust or fiduciary principles 

and standards, or the rules of an SRO. 

Thus, for example, the treatment of 12b–

1 fees that are paid on the basis of assets 

under management and service fees as 

relationship compensation for purposes 

of these rules does not alter or affect the 

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56532 Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 

175The rules also do not alter or affect the ability 

of a nonbank registered investment adviser to 

receive 12b–1 fees under the federal securities laws 

or the rules of an SRO. The ‘‘broker’’ exceptions for 

banks in Section 3(a)(4)(B) of the Exchange Act, 

including the trust and fiduciary exception, are not 

available to nonbank entities such as nonbank 

investment advisers. 

176Rule 721(a)(4)(i)(B), (C) and (D). Because 

securities lending/borrowing fees and custody fees 

may be charged on an assets under management 

basis, the rule also provides that these fees are 

relationship compensation when charged in this 

manner. Rule 721(a)(4)(iii)(E). As with other types 

of relationship compensation, the fees that a bank 

receives for effecting securities lending/borrowing 

transactions for a trust or fiduciary account must be 

consistent with applicable fiduciary principles and 

standards. 

177See Investment Company Institute (‘‘ICI’’) 

Letter, Federated Investors, Inc. (‘‘Federated 

Investors’’) Letter. 

178See, e.g., Wells Fargo & Company (‘‘Wells 

Fargo’’) Letter, State Street Corp. Letter, Mellon 

Letter. 

179See, e.g., Institute of Int’l Bankers (‘‘IIB’’) 

Letter, Clearing House Ass’n Letter. 

180Rule 721(b) and Rule 722(d). 

181Some commenters asserted that a bank should 

be allowed to include in its relationship 

compensation all of the revenue from securities 

transactions conducted for a trust or fiduciary 

account under another exception or exemption, 

regardless of whether that revenue otherwise 

qualifies as relationship compensation. The 

Agencies have not amended the rule in this manner 

as it is inconsistent with the terms of the trust and 

fiduciary exception which sets forth the types of 

fees that are included in relationship compensation. 

treatment of, or limitations imposed on, 

these fees under FINRA Rule 2830.175

In light of the comments received, the 

Agencies have modified Rule 721 to 

provide additional examples of the 

types of fees that qualify as relationship 

compensation under the statute and the 

rules. For example, the Agencies have 

modified the rule to include, as 

additional examples of an 

administration fee, compensation 

received by a bank (1) for disbursing 

funds from, or for recording payments 

to, a trust or fiduciary account; (2) in 

connection with securities lending and 

borrowing transactions conducted for a 

trust or fiduciary account; and (3) for 

custody services provided to a trust or 

fiduciary account (whether or not 

separately charged).176 In addition, the 

Agencies have included (1) as an 

example of an annual fee, an annual fee 

paid for assessing the investment 

performance of a trust or fiduciary 

account or for reviewing such an 

account’s compliance with applicable 

investment guidelines or restrictions, 

and (2) as an example of an assets under 

management fee, a fee based on the 

financial performance, such as capital 

gains or capital appreciation, of trust or 

fiduciary assets under management. The 

Agencies believe the characterization of 

these fees comports with the manner in 

which banks generally receive 

compensation for these services. Several 

commenters noted that banks currently 

may receive 12b–1 fees, service fees or 

sub-transfer agent and related fees either 

directly from a mutual fund or from the 

fund’s distributor, transfer agent, 

administrator or adviser.177 In light of 

these comments, the Agencies have 

eliminated the language in the proposed 

rules that required that these types of 

fees be ‘‘paid by an investment 

company.’’

The examples of an administration 

fee, annual fee and an asset under 

management fee included in Rule 721(b) 

are provided only for illustrative 

purposes. Other types of fees or fees for 

other types of services could be an 

administration fee, annual fee or an 

AUM fee. In addition, an administration 

fee, annual fee or assets under 

management fee attributable to a trust or 

fiduciary account or a bank’s trust or 

fiduciary business is considered 

relationship compensation regardless of 

what entity or person pays the fee, and 

regardless of whether the fee is related 

to only securities assets, to a 

combination of securities and nonsecurities assets, or to only nonsecurities assets. These fees are part of 

the compensation for acting as a trustee 

or fiduciary. 

Some commenters asserted that a 

bank should be permitted to include 

within its relationship compensation 

any per-transaction securities 

processing fee it charges as a directed 

trustee or in another fiduciary capacity 

even if the fee exceeds the bank’s costs 

in processing the transaction.178 The 

statute, however, expressly provides 

that a per-order securities processing fee 

may be counted towards the statute’s 

chiefly compensated requirement only if 

the fee is ‘‘equal to not more than the 

cost incurred by the bank in connection 

with executing securities transactions’’

for its trust or fiduciary customers. For 

this reason, the Agencies have not 

modified the rule in the manner 

requested. 

However, as discussed further in Part 

V, the Agencies have modified the 

custody exemption (Rule 760) to permit 

banks that accept securities orders as a 

directed trustee to do so under that 

exemption in lieu of the trust and 

fiduciary exception and related rules. In 

addition, as the Agencies explained in 

the proposal, a per order processing fee 

included in relationship compensation 

may include the fee charged by the 

executing broker-dealer as well as any 

additional fixed or variable costs 

incurred by the bank in processing the 

transaction. If a bank includes any such 

additional fixed or variable costs in the 

per order processing fees it includes in 

its relationship compensation, the bank 

should maintain appropriate policies 

and procedures governing the allocation 

of these costs to the orders processed for 

trust or fiduciary customers. This 

should help ensure that profits derived 

from per trade charges are not masked 

as costs of processing the trades and 

thereby included in relationship 

compensation. 

3. Excluded Compensation 

A number of commenters asserted 

that the revenues derived from 

securities transactions conducted by a 

bank for a trust or fiduciary customer 

under a different exception or 

exemption (such as the exemption 

provided in Rule 771 for transactions in 

Regulation S securities) should be 

excluded from the account-by-account 

or bank-wide compensation test 

completely.179 Others asked that certain 

other types of fees, such as internal 

credits from other areas of the bank, 

credits received from broker-dealers for 

brokerage or research services in 

accordance with Section 28(e) of the 

Exchange Act, or revenues earned from 

providing trust or fiduciary services to 

mutual funds, be excluded from the 

chiefly compensated calculation as well. 

As discussed in Part I.C supra, if more 

than one ‘‘broker’’ exception or 

exemption is available for a securities 

transaction effected by a bank for a 

customer, the bank may choose the 

exception or exemption on which it 

relies in effecting the transaction. In 

light of the comments received, the 

Agencies have modified Rules 721 and 

722 to explicitly provide that, if a bank 

effects a securities transaction for a trust 

or fiduciary customer in accordance 

with the terms of an exception or 

exemption other than Rule 721 or Rule 

722, the bank may, at its election, 

exclude the revenues associated with 

those transactions from the applicable 

relationship-total compensation 

calculation in Rule 721 or Rule 722.180

As the rules provide, if a bank elects to 

exclude the revenues associated with 

transactions conducted under another 

exception or exemption, the bank must 

exclude such revenue from both the 

bank’s relationship compensation (if the 

compensation would otherwise qualify 

as relationship compensation) and total 

compensation. Of course, the bank also 

must comply with the conditions 

applicable to the other available 

exception or exemption on which the 

bank chooses to rely.181

In addition, compensation that is not 

derived from the provision of trust or 

fiduciary services should not be 

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Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 56533 

182On the other hand, the revenue derived from 

providing fiduciary services to investment 

companies or companies affiliated with the bank 

should be included in the relevant chiefly 

compensated calculation. 

183Rule 721(a)(5). 

184Section 3(a)(4)(D) of the Exchange Act 

provides that a bank acts in a ‘‘fiduciary capacity’’

if, among other situations, the bank has investment 

discretion on behalf of another. Thus, for example, 

if a bank has investment discretion over an escrow 

account on behalf of another, the bank would be 

acting in a ‘‘fiduciary capacity’’ with respect to the 

account. 

185The text of and additional information on 

these Uniform Codes and Acts, which are 

developed under the auspices of the National 

Conference of Commissioners of Uniform State 

Laws (‘‘NCCUSL’’), may be found on NCCUSL’s 

Web site at http://www.nccusl.org. 

186See, e.g., ACB Letter, Roundtable Letter. 

Federal savings associations, for example, are not 

required to obtain approval from their appropriate 

federal banking agency to act as a trustee for an 

individual retirement account under section 408(a) 

of the Internal Revenue Code. See 12 CFR 550.580. 

187 15 U.S.C. 78c(a)(4)(B)(ii); Rule 722(a)(1). A 

bank effecting transactions for trust or fiduciary 

customers through a department examined for 

compliance with trust or fiduciary principles may 

use other divisions or departments of the bank, or 

other affiliated or unaffiliated third parties, to 

handle aspects of these transactions. The bank must 

continue to act in a trustee or fiduciary capacity 

with respect to the account and, accordingly, 

should exercise appropriate diligence in selecting 

persons to provide services to the bank’s trust or 

fiduciary customers and in overseeing the services 

provided in accordance with the bank’s fiduciary 

obligations. No party, other than the bank 

(including, without limitation, a transfer agent or 

investment adviser), working in conjunction with 

the bank may rely on the bank’s exception or 

exemption from ‘‘broker’’ status. To the extent that 

any such third party performs activities that would 

make that entity a broker under Section 3(a)(4) of 

the Exchange Act that entity would be required to 

register as a broker (in the absence of an applicable 

exemption or regulatory relief) notwithstanding any 

written or unwritten agreement the third party may 

have with the bank. 

188The OTS, for example, is in the process of 

revising its examination procedures to provide for 

the regular examination of individual retirement 

accounts held by a federal savings association as 

trustee for compliance with fiduciary principles 

and standards. 

189NASAA Letter. 

included in a bank’s relationship or 

total compensation under either the 

account-by-account or bank-wide 

alternative. Such compensation 

includes, for example, (1) revenue 

earned by a trust or fiduciary 

department from providing back-office 

services to an affiliated or unaffiliated 

party,182 (2) revenue from the sale of an 

office or assets of the trust department, 

or from the provision on a stand-alone 

basis of other services (such as custody 

services or the sale of portfolio 

management software to a third party 

that independently operates and uses 

the software in connection with its own 

business) that do not involve trust or 

fiduciary services as defined in section 

3(a)(4)(D) of the Act; and (3) internal 

payments or credits allocated to a bank’s 

trust or fiduciary department or unit 

from another department or unit of the 

bank for deposits and other similar 

services not involving a security. Credits 

received by a bank from a broker-dealer 

for brokerage and research services 

provided by a broker-dealer in 

accordance with section 28(e) of the Act 

(15 U.S.C. 78bb(e)) and the regulations 

issued thereunder also should be 

excluded from the compensation tests. 

The Agencies do not believe these 

credits constitute compensation to the 

bank for purposes of the exception and 

rules because these credits must be 

reasonable in relation to the value of the 

brokerage and research provided by the 

broker-dealer in connection with the 

bank’s exercise of investment discretion 

for its fiduciary accounts. 

4. Trust or Fiduciary Accounts 

The final rules, like the proposal, 

define a trust or fiduciary account as an 

account for which the bank acts in a 

trustee or ‘‘fiduciary capacity’’ as that 

term is defined in Section 3(a)(4)(D) of 

the Exchange Act.183 This definition is 

based on the definition of ‘‘fiduciary 

capacity’’ in part 9 of the OCC’s 

regulations, which relates to the trust 

and fiduciary activities of national 

banks, in effect at the time of enactment 

of the GLB Act. 

Section 3(a)(4)(D) identifies a number 

of particular situations where a bank 

serves in a fiduciary capacity.184 The 

definition also provides that a bank acts 

in a ‘‘fiduciary capacity’’ if it acts ‘‘in 

any other similar capacity’’ to those 

specifically identified. Accordingly, the 

scope of the term ‘‘fiduciary capacity’’ is 

not fixed in time. 

The Agencies recognize, moreover, 

that different nomenclature may be used 

to identify a fiduciary capacity in the 

relevant governing documents or state 

laws. For example, the Uniform Probate 

Code uses the term ‘‘Personal 

representative’’ and similar successor 

titles in place of the terms ‘‘executor’’ or 

‘‘administrator’’ to identify the 

representative of a decedent; the 

Uniform Custodial Trust Act uses the 

terms ‘‘Conservator’’ and ‘‘Custodial 

trustee’’ to refer to persons that act as a 

fiduciary for another person who has 

become incapacitated; and the Uniform 

Transfers to Minors Act uses both the 

terms ‘‘Conservator’’ and ‘‘Custodian’’ to 

refer to fiduciaries that act on behalf of 

a minor.185

Some commenters asked whether a 

bank that engages in trust or fiduciary 

activities may conduct securities 

transactions under the trust and 

fiduciary exception and related rules 

even if the bank does not maintain a 

separate trust department or has not had 

to obtain formal trust powers from its 

appropriate federal banking agency.186

The trust and fiduciary exception and 

related rules do not require that a bank 

effecting securities transactions for a 

customer in a trust or fiduciary capacity 

do so through a separate trust 

department or have obtained formal 

trust powers from its appropriate federal 

banking agency. However, securities 

transactions conducted for a trust or 

fiduciary customer under the exception 

and related rules must be effected in a 

department of the bank ‘‘that is 

regularly examined for compliance with 

fiduciary principles and standards’’ by 

the bank’s appropriate federal or state 

banking supervisor.187 As stated in the 

proposal, the Agencies will rely on the 

appropriate federal banking agency for a 

bank to determine whether the bank’s 

activities are conducted in the bank’s 

trust department or other department 

regularly examined by the agency’s 

examiners for compliance with 

fiduciary principles and standards.188

5. Exemptions for Special Accounts, 

Foreign Branches, Transferred 

Accounts, and a De Minimis Number of 

Accounts 

The Agencies also proposed a rule 

(Proposed Rule 723) that would permit 

a bank to exclude certain types of 

accounts for purposes of determining its 

compliance with the account-byaccount or bank-wide compensation 

tests. As proposed, Rule 723 allowed a 

bank, in calculating its compensation 

under either approach, to exclude 

compensation received from any trust or 

fiduciary account open only for a short 

period of time (less than 3 months) or 

acquired within the past 12 months as 

part of a merger or similar transaction. 

In addition, the Proposed Rule allowed 

a bank using the account-by-account 

approach, subject to certain conditions, 

to (1) exclude the lesser of 1 percent or 

500 of its trust or fiduciary accounts in 

a year from the chiefly compensated 

test, and (2) transfer any trust or 

fiduciary account ultimately determined 

to be non-conforming to a registered 

broker-dealer or an unaffiliated entity 

exempt from registration within 3 

months of the end of the relevant year. 

Commenters generally favored these 

exemptions. One commenter, however, 

argued that these exemptions should be 

eliminated because they would allow 

banks to manipulate the chiefly 

compensated test.189 Several 

commenters also requested that the 

Agencies adopt an additional exemption 

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190See ABA Letter, Clearing House Ass’n Letter, 

Joint ABA/ABASA/Clearing House Ass’n Letter of 

July 16, 2007. 

191Rule 723(a). 

192Rule 723(b). 

193The Agencies expect that few, if any banks, 

that use the account-by-account approach to the 

chiefly compensated test will have foreign branches 

engaged in trust or fiduciary services and, 

accordingly, have limited the exemption to banks 

that use the bank-wide approach. 

194This definition is designed to exclude 

branches that are established in certain offshore 

jurisdictions primarily to provide services to U.S. 

customers and, for this reason, are managed on a 

day-to-day basis from the United States. 

195Rule 723(d). Under the rule, if a bank has less 

than 100 trust or fiduciary accounts in the 

aggregate, the bank may exclude 1 account under 

the exemption in any given year. 

196Rule 723(d)(3). 

197Rule 723(d)(1). 

198For example, after a trust or fiduciary account 

is acquired or established, the bank may need to 

conduct a number of securities transactions to 

invest or rebalance the account’s holdings in 

accordance with the terms of the agreement 

establishing the account or, in cases where the bank 

has investment discretion, to implement the bank’s 

investment strategy for the account. 

199See, e.g., ACB Letter; Clearing House Ass’n 

Letter. 

200Rule 723(c). 

permitting banks to exclude trust and 

fiduciary accounts held at a foreign 

branch of a bank from the chiefly 

compensated tests.190 These 

commenters contended that few, if any, 

of the trust and fiduciary accounts of a 

foreign branch (other than an offshore 

‘‘shell’’ branch servicing U.S. branches 

of the bank) likely are to be held by or 

on behalf of a U.S. person and, 

accordingly, the costs of applying the 

chiefly compensated test to the foreign 

branches of a U.S. bank would 

significantly outweigh any potential 

benefits to U.S. persons. After carefully 

considering these comments, the 

Agencies have adopted, without change, 

the exemptions included in Proposed 

Rule 723. In addition, the Agencies have 

adopted a new conditional exemption 

(Rule 723(c)) for trust and fiduciary 

accounts held at a foreign branch of a 

bank. 

Rule 723(a) permits a bank that uses 

either the account-by-account or bankwide compensation test to exclude any 

trust or fiduciary account that was open 

for a period of less than 3 months 

during the relevant year.191 Rule 723(b) 

permits a bank to exclude, for purposes 

of determining its compliance with 

either compensation test, any trust or 

fiduciary account that the bank acquired 

from another person as part of a merger, 

consolidation, acquisition, purchase of 

assets or similar transaction by the bank 

for 12 months after the date the bank 

acquired the account from the other 

person.192 A bank that elects to use Rule 

723(a) or (b) for one or more accounts 

must exclude both the relationship 

compensation and total compensation 

attributable to such accounts for 

purposes of the applicable 

compensation test. 

Rule 723(c) provides a new exemption 

under which a bank using the bankwide approach may exclude for 

purposes of the chiefly compensated 

test the trust or fiduciary accounts held 

at a ‘‘non-shell’’ foreign branch of the 

bank, provided that the bank has 

reasonable cause to believe that the trust 

or fiduciary accounts of the foreign 

branch held by or for the benefit of a 

U.S. person constitute less than 10 

percent of the total trust or fiduciary 

accounts of the foreign branch.193 The 

rule provides that a bank will be 

deemed to have reasonable cause to 

believe that less than 10 percent of the 

total number of trust or fiduciary 

accounts of the foreign branch are held 

by or for the benefit of a U.S. person if 

the principal mailing address for the 

accountholder(s) and beneficiary(ies) of 

the account is not in the United States, 

or the records of the foreign branch 

indicate that the accountholder(s) and 

beneficiary(ies) of the account is not a 

U.S. person as defined in 17 CFR 

230.902(k). 

The rule defines a ‘‘non-shell foreign 

branch’’ of a bank to mean a branch of 

the bank that is located outside the 

United States and provides banking 

services to residents of the foreign 

jurisdiction in which the branch is 

located, and for which the decisions 

relating to day-to-day operations and 

business of the branch are not made by 

an office of the bank located in the 

United States.194 The Agencies believe 

this exemption provides appropriate 

relief to banks with respect to foreign 

branches where the records of the bank 

indicate that it is not significantly 

engaged in providing trust or fiduciary 

services to U.S. customers. 

Rule 723(e) permits a bank using the 

account-by-account approach to 

exclude, for purposes of the chiefly 

compensated test, the lesser of (1) 1 

percent of the total number of trust or 

fiduciary accounts held by the bank; or 

(2) 500 accounts.195 To rely on this 

exemption with respect to an account, 

the bank must not have relied on this 

exemption for such account during the 

immediately preceding year.196 In 

addition, the bank must maintain 

records demonstrating that the 

securities transactions conducted by or 

on behalf of the excluded account were 

undertaken by the bank in the exercise 

of its trust or fiduciary responsibilities 

with respect to the account.197

The Agencies believe these exclusions 

reduce administrative burdens and 

facilitate compliance. A bank, consistent 

with its fiduciary duties, may need to 

conduct a higher level of securities 

transactions for a trust or fiduciary 

account at certain times, such as shortly 

after the account is established or 

acquired from another person or shortly 

before the account is closed.198 The 

exclusions in Rule 723(a), (b) and (d) are 

designed to help prevent such shortterm fluctuations in the amount of 

securities transactions conducted for a 

trust or fiduciary account from 

distorting, or causing a bank to fail, the 

relevant compensation test. At the same 

time, these exclusions promote 

compliance by requiring that the bank 

bring the relevant accounts into 

compliance within a short and 

prescribed period of time. For this 

reason, the Agencies do not believe it 

would be appropriate to expand the 

Rule 723(d) to allow a bank to exclude 

an account from the chiefly 

compensated test in consecutive years 

as requested by some commenters. 

Some commenters also asked the 

Agencies to raise the 500 account 

maximum in Rule 723(d) to avoid 

discriminating against large banks.199

The Agencies expect that most banks 

that have more than 50,000 trust and 

fiduciary accounts, and thus would be 

subject to the 500 account cap in Rule 

723(d), will operate under the bankwide test and for this reason have not 

made the requested change. 

Rule 723(c) also provides that a bank 

that uses the account-by-account 

approach will not be considered a 

broker for purposes of Section 3(a)(4) of 

the Exchange Act solely because a 

particular trust or fiduciary account 

does not meet the ‘‘chiefly 

compensated’’ test if, within 3 months 

of the end of the year in which the 

account fails to meet such standard, the 

bank transfers the account or the 

securities held by or on behalf of the 

account to a registered broker-dealer or 

another unaffiliated entity (such as an 

unaffiliated bank) that is not required to 

be registered as a broker-dealer.200

6. Advertising Restrictions 

Proposed Rule 721(b) implemented 

the advertising restrictions in Section 

3(a)(4)(B)(ii)(II) of the Act applicable to 

banks conducting securities transactions 

under the trust and fiduciary exception. 

No commenters opposed the advertising 

restrictions of the rule and the Agencies 

have adopted these restrictions as 

proposed. The final rules provide that a 

bank complies with the advertising 

restriction applicable under either Rule 

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201Rule 721(b). 

202Rule 721(b)(2) (referencing Rule 760(g)(2)). 

203See Exchange Act Section 3(a)(4)(B)(v) (15 

U.S.C. 78c(a)(4)(B)(v)). 

204Proposed Rule 740(b) and (c). 

205Proposed Rule 741. 

206See, e.g., Federated Investors Letter, ICBA 

Letter, Clearing House Ass’n Letter, ABA Letter. 

207See, e.g., NASAA Letter. 

208Rule 740(b). One commenter requested that 

Rule 740(b) be modified to allow banks to sweep 

deposits into an unregistered investment company 

that operates pursuant to Rule 12d1–1 under the 

Investment Company Act (17 CFR 270.12d1–1). See 

State Street Corp. Letter. The statutory sweep 

exception, however, provides only for deposit funds 

to be swept into an investment company ‘‘registered 

under the Investment Company Act of 1940.’’

Exchange Act Section 3(a)(4)(B)(v). 

209See Rule 740(c); FINRA Rule 2830. Consistent 

with FINRA Rule 2830, charges for the following 

are not be considered charges against net assets of 

a class or series of an investment company’s 

securities for sales or sales promotion expenses, 

personal service, or the maintenance of shareholder 

accounts: (1) Providing transfer agent or subtransfer agent services for beneficial owners of 

investment company shares; (2) Aggregating and 

processing purchase and redemption orders for 

Investment company shares; (3) Providing 

beneficial owners with account statements showing 

their purchases, sales, and positions in the 

investment company; (4) Processing dividend 

payments for the investment company; (5) 

Providing sub-accounting services to the investment 

company for shares held beneficially; (6) 

Forwarding communications from the investment 

company to the beneficial owners, including 

proxies, shareholder reports, dividend and tax 

notices, and updated prospectuses; or (7) Receiving, 

tabulating, and transmitting proxies executed by 

beneficial owners of investment company shares. 

210Rule 741. 

211Rule 741(a)(1)(A). 

212Rule 741(a)(1)(B). 

213Rule 741(a)(2)(ii). If a bank relies on the 

exemption to sweep the deposits of another bank 

into a money market fund that is not ‘‘no-load,’’

then neither the deposit-holding bank nor the 

sweeping bank may characterize the fund as a ‘‘noload’’ fund, and either the deposit-taking bank or 

the sweeping bank must provide the customer with 

a prospectus for the fund within the time prescribed 

by the rule. See Rule 741(a)(2)(ii)(A) and (B). 

721 or 722 if advertisements by or on 

behalf of the bank do not advertise that 

the bank provides securities brokerage 

services for trust or fiduciary accounts 

except as part of advertising the bank’s 

broader trust or fiduciary services, and 

do not advertise the securities brokerage 

services provided by the bank to trust or 

fiduciary accounts more prominently 

than the other aspects of the trust or 

fiduciary services provided to such 

accounts.201

An ‘‘advertisement’’ for these 

purposes means any material that is 

published or used in any electronic or 

other public media, including any Web 

site, newspaper, magazine or other 

periodical, radio, television, telephone 

or tape recording, videotape display, 

signs or billboards, motion pictures, 

blast e-mail, or telephone directories 

(other than routine listings).202 Other 

types of material or information that is 

not distributed through public media, 

such as mailings or e-mails to a bank’s 

own customers, are not considered an 

advertisement. In addition, in 

considering whether an advertisement 

advertises the securities brokerage 

services provided to trust or fiduciary 

customers more prominently than the 

bank’s other trust or fiduciary services, 

the nature, context and prominence of 

the information presented—and not 

simply the length of text or information 

devoted to a particular subject—should 

be considered. 

IV. Sweep Accounts and Transactions 

in Money Market Funds 

Exchange Act Section 3(a)(4)(B)(v) 

(‘‘sweep exception’’) excepts a bank 

from the definition of ‘‘broker’’ to the 

extent it ‘‘effects transactions as part of 

a program for the investment or reinvestment of deposit funds into any noload, open-end management investment 

company registered under the 

Investment Company Act that holds 

itself out as a money market fund.’’ 203

To provide banks with guidance on the 

sweep exception, Proposed Rule 740 

defined several terms used in the 

exception, including the terms ‘‘money 

market fund’’ and ‘‘no-load.’’ 204 The 

Agencies also requested comment on a 

separate exemption (Proposed Rule 741) 

that would permit banks, without 

registering as a broker, to effect 

transactions in securities issued by a 

money market fund on behalf of a 

customer in a broader set of 

circumstances, subject to certain 

conditions.205

Most commenters that addressed 

Proposed Rules 740 and 741 supported 

the rules and Rule 741 in particular.206

One commenter objected to the 

exemption in Rule 741 on the basis that 

it would permit banks to effect 

transactions in money market funds that 

did not meet the ‘‘no-load’’

requirements of the sweep exception.207

Another commenter asked that the 

Agencies clarify whether a bank may 

effect transactions under the rules for 

deposits held by another bank. 

A. Rule 740: Definition of Terms Used 

in Sweep Exception 

As under the proposal, the final rule 

defines a ‘‘money market fund’’ for 

purposes of the sweep exception to 

mean an open-end investment company 

registered under the Investment 

Company Act of 1940 (15 U.S.C. 80a–1 

et seq.) that is regulated as a money 

market fund pursuant to 17 CFR 270.2a–

7.208 In addition, consistent with FINRA 

rules, the final rule provides that a class 

or series of securities of an investment 

company will be considered ‘‘no-load’’

if (1) the class or series is not subject to 

a sales charge or a deferred sales charge; 

and (2) total charges against net assets 

of the class or series of securities for 

sales or sales promotion expenses, 

personal service, or the maintenance of 

shareholder accounts do not exceed 

0.0025 of average net assets annually.209

A bank may effect transactions under 

the sweep exception and Rule 740 as 

part of a program to sweep deposit 

funds of, or collected by, another bank 

into a no-load money market fund in 

accordance with the exception and the 

Rule. 

B. Exemption Regarding Money Market 

Fund Transactions 

After carefully considering the 

comments, the Agencies have adopted 

Rule 741, which permits banks, without 

registering as a broker, to effect 

transactions on behalf of a customer in 

securities issued by a money market 

fund under certain conditions.210 To 

qualify for this exemption, the bank 

must provide the customer, directly or 

indirectly, some other product or 

service, the provision of which would 

not, in and of itself, require the bank to 

register as a broker-dealer under Section 

15(a) of the Exchange Act.211 Examples 

of other products or services that may be 

a qualifying ‘‘other’’ product or service 

include an escrow, trust, fiduciary or 

custody account, a deposit account or a 

loan or other extension of credit. The 

Agencies have modified the rule to also 

permit a bank to effect transactions 

under the exemption on behalf of 

another bank as part of a program for the 

investment or reinvestment of the 

deposit funds of, or collected by, the 

other bank.212 This change is designed 

to allow banks to provide sweep 

services to other banks under the 

exemption, as they may do under the 

sweep exception itself. 

The final exemption continues to 

allow banks to effect transactions only 

in securities of a registered money 

market fund. In addition, the rule 

continues to provide that, if the class or 

series of money market fund securities 

is not no-load (as defined in Rule 740), 

the bank may not characterize or refer 

to the class or series of securities as noload and the bank must provide the 

customer, not later than at the time the 

customer authorizes the bank to effect 

the transactions, a prospectus for the 

securities.213 The Agencies believe these 

conditions and limitations provide bank 

customers adequate protections in light 

of the limited nature of the transactions 

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214Some commenters requested that the 

prospectus-delivery requirement be eliminated or 

modified so that delivery is required before a 

transaction is effected rather than before the 

customer authorizes the transaction. See, e.g., ABA 

Letter, Clearing House Ass’n Letter, and HSBC Bank 

Letter. The final rule retains this requirement to 

ensure that a customer receives notice that its funds 

are to be invested in a fund that is not ‘‘no-load’’

before the customer authorizes the transaction(s). If 

a customer’s funds are invested in a no-load fund 

and the bank is authorized, under the terms of its 

agreement with the customer to alter the specific 

fund into which the customer’s balances are 

invested, the bank should provide the customer a 

prospectus for any money market fund that is not 

a ‘‘no-load’’ fund prior to the date on which the 

bank first invests the customer’s balances in the 

fund. 215 15 U.S.C. 78c(a)(4)(B)(viii). 

216Proposed Rule 760(a). 217Proposed Rule 760(b). 218See, e.g., Union Bank Letter, Harris Bank 

Letter, Clearing House Ass’n Letter, ABA Letter. 219See, e.g., The Charles Schwab Corp. 

(‘‘Schwab’’) Letter, ICBA Letter. 220See NASAA Letter. 

221The Agencies asked for comment on whether 

the Agencies should adopt rules to implement the 

statutory custody and safekeeping exception. No 

commenters requested that the Agencies do so at 

this time. 

222One commenter asserted that a bank would 

not ‘‘accept’’ a securities order if it received the 

order from a custodial customer and at the 

customer’s request transmitted the order to a 

broker-dealer selected by the customer. See Union 

Bank Letter. Such activities, however, constitute 

‘‘accepting’’ a securities order for purposes of Rule 

760 and a bank engaged in such activities for a 

custodial customer must comply with Rule 760 

unless some other exception or exemption is 

available for the transaction (e.g., Section 

3(a)(4)(B)(x) of the Act if the transaction involves 

municipal securities). 

223See Rule 760(a). 

224Rule 760(h)(4). The rule provides that the term 

‘‘employee benefit plan account’’ includes, without 

limitation, an employer-sponsored plan qualified 

under Section 401(a) of the Internal Revenue Code 

(26 U.S.C. 401(a)), a governmental or other plan 

described in Section 457 of the Internal Revenue 

Code (26 U.S.C. 457), a tax-deferred plan described 

in Section 403(b) of the Internal Revenue Code (26 

U.S.C. 403(b)), a church plan, governmental, multiemployer or other plan described in Section 414(d), 

(e) or (f) of the Internal Revenue Code (26 U.S.C. 

414(d), (e) or (f)), an incentive stock option plan 

described in Section 422 of the Internal Revenue 

Code (26 U.S.C. 422); a Voluntary Employee 

Beneficiary Association Plan described in Section 

501(c)(9) of the Internal Revenue Code (26 U.S.C. 

501(c)(9)), a non-qualified deferred compensation 

plan (including a rabbi or secular trust), a 

supplemental or mirror plan, and a supplemental 

unemployment benefit plan. 

permitted under the exemption.214 In 

addition, the exemption recognizes that 

banks have long offered sweeps and 

other services that invest customer 

funds in money market funds that do 

not qualify as ‘‘no-load’’ funds under 

Commission and FINRA rules. 

V. Safekeeping and Custody 

A. Background 

Section 3(a)(4)(B)(viii) of the 

Exchange Act provides banks with an 

exception from the ‘‘broker’’ definition 

for certain bank custody and 

safekeeping activities (‘‘custody and 

safekeeping exception’’). In particular, 

this exception allows a bank to perform 

the following activities as part of its 

customary banking activities without 

registering as a ‘‘broker’: 

• Providing safekeeping or custody 

services with respect to securities, 

including the exercise of warrants and 

other rights on behalf of customers; 

• Facilitating the transfer of funds or 

securities, as a custodian or a clearing 

agency, in connection with the 

clearance and settlement of its 

customers’ transactions in securities; 

• Effecting securities lending or 

borrowing transactions with or on 

behalf of customers as part of the above 

described custodial services or investing 

cash collateral pledged in connection 

with such transactions; 

• Holding securities pledged by a 

customer to another person or securities 

subject to purchase or resale agreements 

involving a customer, or facilitating the 

pledging or transfer of such securities by 

book entry or as otherwise provided 

under applicable law, if the bank 

maintains records separately identifying 

the securities and the customer; and 

• Serving as a custodian or provider 

of other related administrative services 

to any individual retirement account, 

pension, retirement, profit sharing, 

bonus, thrift savings, incentive, or other 

similar benefit plan.215

The proposed rules included an 

exemption to allow banks, subject to 

certain conditions, to accept orders for 

securities transactions from employee 

benefit plan accounts and individual 

retirement and similar accounts for 

which the bank acts as custodian.216 In 

addition, the proposed exemption 

allowed banks, subject to certain 

conditions, to accept orders for 

securities transactions on an 

accommodation basis from other types 

of custody accounts.217

Some commenters contended that an 

exemption for custodial order-taking 

activity is unnecessary because, they 

argued, order-taking activity is 

permitted directly under the statutory 

exception.218 Other commenters stated 

that the exemption was important 

because it would allow banks to 

continue to provide order-taking 

services to employee benefit plans and 

individual retirement accounts and 

similar accounts, or that the restrictions 

in the exemption were reasonable.219

Another commenter, however, objected 

to the proposed exemption arguing that 

permitting custodial banks to take 

orders for securities is inconsistent with 

functional regulation.220

B. Rule 760: Custody Exemption 

After carefully considering the 

comments, the Agencies have adopted 

Rule 760. The Agencies have crafted the 

exemption to allow banks to continue to 

accept securities orders in a custodial 

capacity and to permit bank customers 

to take advantage of those order-taking 

services subject to important conditions 

designed to limit the scope of the 

activity and provide appropriate 

investor protections. In this way, the 

Agencies believe the exemption is 

consistent with functional regulation 

and the purposes of the GLBA. 

Rule 760 and the other final rules do 

not implement the statutory custody 

and safekeeping exception.221 A bank 

does not need to rely on the custody 

exemption in Rule 760 to the extent the 

bank conducts other custodial activities 

permitted by Section 

3(a)(4)(B)(viii)(I)(aa)–(ee) (e.g., 

exercising warrants or other rights with 

respect to securities or effecting 

securities lending or borrowing 

transactions on behalf of custodial 

customers) or another of the final rules 

(e.g., Rule 772, which permits banks to 

effect securities lending or borrowing 

transactions on behalf of certain noncustodial customers).222 In addition, a 

bank would not have to rely on Rule 760 

to the extent the bank holds securities 

in custody for a customer and provides 

clearance and settlement services to the 

account in connection with such 

securities, but the bank does not accept 

orders for securities transactions for the 

account or engage in other activities 

with respect to the account that would 

require the bank to be registered as a 

broker. 

The following discusses the scope and 

terms of the custody exemption. 

1. Order-Taking for Employee Benefit 

Plan Accounts and Individual 

Retirement or Similar Accounts 

We are adopting, largely as proposed, 

the sections of Rule 760 providing that 

a bank will not be considered a broker 

to the extent that, as part of its 

customary banking activities, the bank 

accepts orders to effect transactions in 

securities in an ‘‘employee benefit plan 

account’’ or an ‘‘individual retirement 

account or similar account’’ for which 

the bank acts as a custodian.223 The rule 

defines an ‘‘employee benefit plan 

account’’ as a pension plan, retirement 

plan, profit sharing plan, bonus plan, 

thrift savings plan, incentive plan, or 

other similar plan, and provides a 

number of non-exclusive examples of 

plans that meet this definition.224 The 

rule defines an ‘‘individual retirement 

account or similar account’’ to mean an 

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225Rule 760(h)(5). 

226See, e.g., ABA Letter, Clearing House Assn. 

Letter, WBA Letter. 

227See Section 3(a)(4)(B)(viii)(I)(ee) of the 

Exchange Act. 

228See, e.g., Wells Fargo Letter. 

229Because the employee compensation 

restrictions relate to securities transactions 

conducted in the relevant custody account, they 

would not prevent a bank employee from receiving 

a referral fee for referring the customer to a brokerdealer to engage in securities transactions at the 

broker-dealer that are unrelated to the custody 

account in accordance with the networking 

exception or the institutional customer and high net 

worth customer exemption (Rule 701) for 

networking arrangements. 

individual retirement account as 

defined in Section 408 of the Internal 

Revenue Code (26 U.S.C. 408), a Roth 

IRA as defined in Section 408A of the 

Internal Revenue Code (26 U.S.C. 408A), 

a health savings account as defined in 

Section 223(d) of the Internal Revenue 

Code (26 U.S.C. 223(d)), an Archer 

medical savings account as defined in 

Section 220(d) of the Internal Revenue 

Code (26 U.S.C. 220(d)), a Coverdell 

education savings account as defined in 

Section 530 of the Internal Revenue 

Code (26 U.S.C. 530), or other similar 

account.225

A number of commenters supported 

these definitions of ‘‘employee benefit 

plan account’’ and ‘‘individual 

retirement account or similar 

account.’’ 226 The Agencies note that 

both definitions, by their terms, 

encompass ‘‘other similar’’ plans or 

accounts. So, for example, similar plans 

or accounts, such as ‘‘lifetime savings 

accounts,’’ that are established under 

the Internal Revenue Code in the future 

would be employee benefit plan 

accounts or individual retirement 

accounts or similar accounts for 

purposes of the rule. In addition, the 

term ‘‘employee benefit plan account’’

includes a non-U.S. plan that meets the 

definition of an employee benefit plan 

account. 

Under the final rules, a bank relying 

on the employee benefit plan and 

individual retirement and similar 

account provisions must comply with 

the advertising and sales literature 

limitations in paragraphs (a)(2) and (3), 

the employee compensation limitations 

in paragraph (c), and the other 

conditions in the paragraph (d) of the 

rule. These conditions are discussed 

below. 

Some commenters asked that the 

Agencies permit a bank to accept 

securities orders for other types of 

accounts that may involve custody of 

securities, such as accounts for which 

the bank acts as escrow agent, issuing 

and paying agent, tender agent, or 

disbursement agent, subject to the 

conditions applicable to employee 

benefit plan accounts and individual 

retirement and similar accounts, rather 

than the expanded set of conditions 

applicable to accommodation orders 

accepted for other types of custody 

accounts. The provisions in Rule 760(a) 

for employee benefit plan accounts and 

individual retirement and similar 

accounts are designed to reflect the 

extent and manner in which banks 

provide order-taking services for these 

types of accounts. In addition, these 

provisions take account of the special 

mention of these accounts in the 

custody and safekeeping exception 227

and the additional protections to which 

these accounts typically are subject 

under the ERISA, the Internal Revenue 

Code, and other applicable law. For 

these reasons, the Agencies have not 

expanded Rule 760(a) to cover accounts 

other than employee benefit plan 

accounts and individual retirement and 

other similar accounts. Banks may 

continue to accept orders from other 

types of accounts for which the bank 

acts as a custodian under the 

accommodation provisions of the rule. 

a. Employee Compensation Restrictions 

We are adopting the employee 

compensation restrictions in Rule 760(c) 

as proposed. These restrictions apply 

when a bank, acting in a custodial 

capacity, accepts a securities order for 

an employee benefit plan account or an 

individual retirement account or similar 

account under paragraph (a) of the rule, 

and when a bank accepts a securities 

order for another type of custodial 

account under paragraph (b) of the rule. 

Under these restrictions, if a bank 

accepts securities orders pursuant to 

Rule 760, then no employee of the bank 

may receive compensation (including a 

fee paid pursuant to a 12b–1 plan) from 

the bank, the executing broker-dealer, or 

any other person that is based on: (1) 

Whether a securities transaction is 

executed for the account; or (2) the 

quantity, price, or identity of the 

securities purchased or sold by the 

account. These restrictions are designed 

to be consistent with banking practices 

and reduce the financial incentives a 

bank employee might have to encourage 

a customer to submit securities orders to 

the bank and use a custody account as 

the functional equivalent of a securities 

brokerage account. 

Only a few commenters addressed the 

employee compensation restrictions of 

the rule. For example, one commenter 

asserted that the rule should permit a 

bank to compensate its employees based 

on the potential revenues associated 

with a custodial account, including 

revenues received from processing 

securities transactions or from a mutual 

fund in which the account is 

invested.228 In addition, a commenter 

expressed concern that the restrictions 

would prohibit employees from 

receiving bonuses based on the total 

revenues derived from the custodial 

accounts for which the employee is 

responsible. 

As the Agencies noted in the 

proposal, the employee compensation 

restrictions in Rule 760(c) do not 

prohibit a bank employee from receiving 

compensation that is based on whether 

a customer establishes a custodial 

account with the bank, or that is based 

on the total amount of assets in a 

custodial account at account opening or 

at any other time. Moreover the rule 

expressly provides that the employee 

compensation restrictions do not 

prevent a bank employee from receiving 

payments under a bonus or similar plan 

that are permissible under the exception 

in Rule 700(b)(1) as if a referral had 

been made by the bank employee, or 

from receiving any compensation 

described in Rule 700(b)(2) of the 

networking rules.229

Thus, for example, the rule does 

prohibit a bank from directly passing on 

to an employee a portion or percentage 

of the 12b–1 fees received by the bank 

from a custody account’s investment in 

a mutual fund, or a portion of a fee that 

is charged only when, or that varies 

based on whether, a securities 

transaction is executed for the account. 

A bank employee may receive payments 

under a bonus or similar plan rule that 

includes within its allocation pool the 

revenues generated by one or more 

custodial accounts if the plan meets the 

criteria for a discretionary, multi-factor 

bonus program in Rule 700(b)(1), or the 

bonus program is based on the overall 

profitability or revenues of the bank, an 

affiliate, or operating unit and the 

program complies with the 

requirements of the safe harbor in Rule 

700(b)(2). If a bank’s compensation 

practices are inconsistent with these 

limitations, the bank may not rely on 

the exemption to take securities orders 

in a custodial capacity. 

b. Advertisements and Sales Literature 

As under the proposed rule, final Rule 

760(a)(2) provides that a bank relying on 

the exemption may not advertise that it 

accepts orders for securities transactions 

for employee benefit plan accounts or 

individual retirement accounts or 

similar accounts for which the bank acts 

as custodian, except as part of 

advertising the other custodial or 

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56538 Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 

230Rule 760(h)(2) defines an ‘‘advertisement’’ to 

mean material that is published or used in any 

electronic or other public media, including any 

Web site, newspaper, magazine or other periodical, 

radio, television, telephone or tape recording, 

videotape display, signs or billboards, motion 

pictures, or telephone directories (other than 

routine listings). 

231Rule 760(a)(2)(i) and (ii). 

232Rule 760(a)(3). Rule 760(h)(6) defines ‘‘sales 

literature’’ to mean any written or electronic 

communication, other than an advertisement, that 

is generally distributed or made generally available 

to customers of the bank or the public, including 

circulars, form letters, brochures, telemarketing 

scripts, seminar texts, published articles, and press 

releases concerning the bank’s products or services. 

233See ICBA Letter. 

234See UMB Bank, N.A. Letter. 

235Rule 760(a)(1). 

236The Agencies have made a technical change 

from the proposal to make clear that a bank 

operating under Rule 760(a) must comply with the 

conditions set forth in paragraph (d) as well as with 

the employee compensation limitations of 

paragraph (c). See Rule 760(a)(1). This should better 

clarify banks’ responsibilities under these 

provisions, and the Agencies have made a 

conforming change to the text of Rule 760(b) 

relating to accommodation trades. 

237Rule 760(b). 

238Rule 760(b)(1). 

239See Fiserv Trust Company Letter; Ass’n of 

Colorado Trust Companies Letter. 

240See 71 FR at 77532–33. 

241See Rule 760(f). 

242Rule 760(b)(2). 

243Rule 760(b)(3). 

safekeeping services the bank provides 

to these accounts.230 The bank also may 

not advertise that such accounts are 

securities brokerage accounts or that the 

bank’s safekeeping and custody services 

substitute for a securities brokerage 

account.231 Moreover, advertisements 

and sales literature for individual 

retirement or similar accounts that are 

issued by or on behalf of the bank may 

not describe the securities order-taking 

services provided by the bank to these 

accounts more prominently than the 

other aspects of the custody or 

safekeeping services the bank 

provides.232

One commenter indicated that these 

advertising restrictions were 

reasonable.233 Another commenter 

suggested that these advertising 

limitations should not apply to certain 

advertisements for which a brokerdealer takes compliance 

responsibility.234 The advertising and 

sales literature restrictions are designed 

to help prevent a bank from operating a 

brokerage business out of its custody 

department and, for this reason, apply 

to all advertisements and sales literature 

issued by or on behalf of a bank, 

whether or not a broker-dealer has some 

compliance responsibility with respect 

to the advertisement or sales literature. 

These limitations would not, however, 

apply to the advertisements or sales 

literature that a registered broker-dealer 

may make to inform the public or others 

about the availability of brokerage 

services from the broker-dealer. 

c. Other Conditions 

A bank that accepts orders for a 

securities transaction for an employee 

benefit plan account or individual 

retirement account or similar account 

also must comply with the conditions 

set forth in paragraph (d) of the Rule.235

These conditions are discussed below in 

Part V.B.3.236

2. Order-Taking as an Accommodation 

for Other Types of Accounts 

The proposed rule also permitted 

banks to continue to accept securities 

orders for custodial accounts other than 

employee benefit plan and individual 

retirement and similar accounts as an 

accommodation to the customer, subject 

to certain conditions designed to help 

ensure that these services continue to be 

provided only as an accommodation to 

customers and that a bank does not 

operate as a securities broker out of its 

custody department. While commenters 

generally supported permitting banks to 

accept securities orders for other 

custodial accounts on an 

accommodation basis, several 

commenters asked the Agencies to 

modify or clarify the scope or terms of 

the exemption, including the meaning 

of ‘‘accommodation’’ and the 

prohibition on providing investment 

advice, research, and recommendations. 

The Agencies are adopting, largely as 

proposed, the provisions of the rule 

permitting banks to accept orders as an 

accommodation for these other 

custodial accounts.237 A bank relying on 

this part of the exemption must comply 

with the conditions discussed below. 

a. Accommodation Basis 

For the reasons stated in the 

proposing release, the final rule, like the 

proposal, permits a bank to accept 

securities orders for other types of 

custodial accounts only as an 

accommodation to the customer.238

Some commenters suggested that the 

Agencies define the term 

‘‘accommodation’’ in the rule to mean 

any trade that is effected solely on the 

request of the customer or on an 

unsolicited basis.239 As noted in the 

proposal, the Banking Agencies will 

develop guidance to assist Banking 

Agency examiners in reviewing, as part 

of the agencies’ ongoing risk-focused 

supervisory and examination process, 

the order-taking services provided to 

these custodial accounts. The guidance 

will describe the types of policies, 

procedures and systems that a bank 

should have in place to help ensure that 

the bank accepts securities orders for 

these custodial accounts only as an 

accommodation to the customer and in 

a manner consistent with the custody 

exemption.240 As part of these reviews, 

Banking Agency examiners also will, 

consistent with the rule, consider the 

form and substance of the relevant 

accounts, transactions, and activities to 

prevent evasions of the requirements of 

the rule.241 The Agencies believe this 

approach, rather than adopting by rule 

a definition of ‘‘accommodation,’’ is 

appropriate given the disparity in the 

types, characteristics and uses of other 

custody accounts, the size and 

operations of banks that provide these 

services and the manner in which they 

do so. 

b. Employee Compensation Restrictions 

For the reasons stated in the 

proposing release, final Rule 760(b)(2) 

continues to provide that a bank that 

accepts orders for other custody 

accounts must comply with the 

employee compensation limitations in 

paragraph (c) of the rule. These 

limitations were previously discussed in 

Part V.B.I.a., supra. 242

c. Limitations on Bank Fees 

The rule prohibits a bank that accepts 

accommodation orders for a custody 

account from charging or receiving any 

fee that varies based on (1) whether the 

bank accepted the order for the 

transaction or (2) the quantity or price 

of the securities to be bought or sold.243

These restrictions do not prevent a bank 

from charging or receiving a fee that is 

based on the type of security purchased 

or sold by the account (e.g., a foreign 

security), provided the fee complies 

with the conditions set forth in Rule 

760(b)(3). Commenters did not raise 

concerns with these restrictions. 

d. Advertising and Sales Literature 

Restrictions 

Under the final rule, the bank’s 

advertisements may not state that the 

bank accepts orders for securities 

transactions for a custodial account 

(other than an employee benefit plan or 

individual retirement account or similar 

account). In addition, the bank’s sales 

literature: (1) May state that the bank 

accepts securities orders for such an 

account only as part of describing the 

other custodial or safekeeping services 

the bank provides to the account, and 

(2) may not describe the securities 

order-taking services provided to such 

an account more prominently than the 

other aspects of the custody or 

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Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 56539 

244Rule 760(b)(5). One commenter urged the 

Agencies to abandon the prohibitions on 

advertising order-taking as an accommodation to 

other custodial accounts, arguing that the 

prohibition violates a bank’s constitutional free 

speech rights. See CBA Letter. The Agencies believe 

these restrictions are appropriate to effectuate the 

purposes of the exemption and have tailored the 

restrictions to comply with the customary practices 

of banks and minimize potential disruptions. The 

Agencies specifically requested comments on the 

conditions of the rule, and no commenter indicated 

that the advertising restrictions on accommodation 

trade would materially disrupt their business or 

operations. 

245Rule 760(b)(6). 

246See, e.g., Harris Bank Letter; U.S. Trust Letter. 

247See, e.g., PNC Letter; National City Corp. 

Letter. 

248This would include providing personalized 

advice, research or recommendations concerning 

securities to the account in an effort to convert the 

account to another type of account, for goodwill or 

to obtain referrals. 

249See Harris Bank Letter; PNC Letter. 

250See ABA Letter; Harris Bank Letter. 

251Rule 760(e). 

252Rule 760(b)(6)(i). 

safekeeping services provided by the 

bank to the account.244

e. Investment Advice or 

Recommendations 

The proposed rule imposed certain 

restrictions on the ability of a bank to 

provide investment advice or research 

concerning securities to an account for 

which it accepts accommodations 

orders, make recommendations 

concerning securities to the account, or 

otherwise solicit securities transactions 

from the account.245

Several commenters, expressed 

concerns with the proposed limitations 

on investment advice, research and 

recommendations. For example, 

commenters expressed concern that the 

restrictions would negatively affect a 

bank’s ability to cross-market its trust, 

fiduciary or other services to custody 

customers.246 Some expressed concern 

that the limitations would interfere with 

a bank’s ability to share research with 

custody customers or make the bank’s 

views concerning securities or markets 

available to the public through Web 

sites, mailings, interviews or other 

means.247

After carefully considering the 

comments received, the Agencies 

believe that no change is necessary to 

accommodate the cross-marketing of 

other bank services. Accordingly, we are 

adopting the provisions related to 

investment advice, research and 

recommendations without change. The 

Agencies note that the prohibitions do 

not prevent a bank from cross-marketing 

its trust, fiduciary or other services to its 

custody customers. A bank’s marketing 

to custody account customers may—

without violating the rule’s general 

prohibition against providing advice, 

research or recommendations—include 

non-account specific information 

provided in media such as newsletters 

and websites. In addition, the advice, 

research, recommendation and 

solicitation prohibition does not 

prohibit a bank from providing samples 

of research, including stock-specific 

research, to custody customers that the 

bank provides to other persons for 

marketing purposes. Thus, the Agencies 

believe that banks will continue to be 

able to cross-market their products and 

services to their custody customers. A 

custody account, however, is not a 

fiduciary account, and a bank operating 

under Rule 760(b) with respect to a 

custodial account may not provide such 

samples in such a way or with such a 

frequency as to provide the custody 

account securities services that only are 

permissible for a trust or fiduciary 

customer. The bank, moreover, may not 

provide personalized investment advice, 

research or recommendations regarding 

particular securities to the custodial 

account for any reason.248

Some commenters questioned 

whether providing custody customers 

with a choice of investments from 

which to select would constitute 

providing investment advice.249 Banks 

may use menus or other lists to make 

custodial customers aware of the 

securities available to them through the 

custodial account. For example, the 

restrictions in paragraph (b)(6) of the 

rule do not prevent a bank from 

providing its customers with an online 

menu of the mutual funds that the 

customer is able to purchase through the 

custody account. 

The limitations and restrictions in 

Rule 760(b), including those relating to 

investment advice and 

recommendations, relate only to those 

custodial accounts for which the bank 

accepts securities orders on an 

accommodation basis. Thus, for 

example, these limitations would not 

apply to (1) an employee benefit plan 

account or an individual retirement 

account or similar account; or (2) a trust 

or fiduciary account maintained by a 

customer with a bank even if that 

customer also maintains a custodial 

account with the bank. 

Commenters asked how the 

limitations on investment advice and 

research would apply when a customer 

has both a custody account and a 

separate trust or fiduciary account with 

a bank, and asked the Agencies to 

clarify that a bank would not violate the 

restrictions if the bank provides a trust 

or fiduciary customer with research or 

advice that the customer then uses to 

make orders through its custody 

accounts.250 Rule 760(b)(6) prohibits 

banks from providing investment 

advice, research or recommendations 

concerning securities to, or soliciting 

securities transactions from, a custody 

account for which the bank accepts 

orders under the accommodation trade 

authority. The rule does not limit the 

types of research or other services a 

bank may provide to a customer’s trust 

or fiduciary account, and the Agencies 

recognize that a bank may have no 

control over which account the 

customer uses to place any orders that 

result from such research or other 

services. 

The final rule, like the proposal, 

continues to provide that, in order to 

prevent evasions of the custody 

exemption, the Agencies will consider 

both the form and substance of the 

relevant account(s), transaction(s) and 

activities (including advertising 

activities) in considering whether a 

bank meets the terms of the 

exemption.251 For example, the 

Agencies will consider the content, 

format and frequency of any investment 

research provided to an accommodation 

custodial account in considering if such 

research in purpose or effect evades the 

restrictions in the rule or provides a 

custody account securities services that 

only are permissible for a trust or 

fiduciary customer. Similarly, a bank 

may not evade the rule’s restrictions by 

providing an accommodation customer 

that has both a custody account and a 

trust or fiduciary account with 

investment advice, recommendations or 

research that is targeted to the securities 

held in the customer’s custody account. 

For example, if a customer’s custody 

account has a large position in a 

particular security and that security is 

not held in the customer’s trust or 

fiduciary account, a bank may not 

routinely provide the customer with 

research focused on that security. Banks 

should have and maintain policies and 

procedures to abide by these limitations 

and bank examiners will review bank 

compliance with these limits in 

accordance with the risk-based 

supervisory and examination process, 

considering both the form and substance 

of the cross-marketing activities in 

applying the anti-evasion provisions of 

the rule. 

The restrictions in Rule 760(b)(6) do 

not prohibit the bank from advertising 

its custodial services and disseminating 

sales literature that meets the conditions 

in the exemption.252 These restrictions 

also will not prevent a bank employee 

from responding to customer inquiries 

regarding the bank’s safekeeping and 

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56540 Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 

253Rule 760(b)(6)(ii). ‘‘Principal underwriter’’ has 

the same meaning as in section 2(a)(29) of the 

Investment Company Act of 1940 (15 U.S.C. 80a–

2(a)(29)). Rule 760(h)(7). 

254Rule 760(b)(6)(iii). 

255See Teachers Insurance and Annuity 

Association of America and College Retirement 

Equities Fund (‘‘TIAA–CREF’’) Letter; ACB Letter; 

Roma Bank Letter. Commenters asserted, for 

example, that a bank acting as a directed trustee 

provides services that are functionally similar to 

those provided as a custodian and in either case 

does not have investment discretion with respect to 

the account. 

256See Rule 760(d)(1). Alternatively, the bank 

may continue to effect transactions for the account 

under the rules relating to trust or fiduciary 

accounts. 

257Rule 760(h)(3). 

258See Rule 760(h)(1). 

259 15 U.S.C. 78c(a)(4)(C). 

260See Rule 760(d)(2). 

261 15 U.S.C. 78c(a)(4)(B)(viii)(II). This provision 

prohibits a custodian bank from acting as a carrying 

broker (as such term, and different formulations 

thereof, are used in Exchange Act Section 15(c)(3) 

and the rules and regulations under that Section) 

for any broker-dealer, unless such carrying broker 

activities are engaged in with respect to government 

securities. 

262Rule 760(d)(3). 

263See ABA Letter; State Street Corp. Letter; PNC 

Letter. 

264See Clearing House Ass’n Letter. 

265See U.S. Trust Letter. 

266See HSBC Bank Letter. In addition, a few 

commenters asserted that the description of 

potential carrying broker activity in prior 

rulemakings under the GLB Act would, if adopted, 

be highly problematic and disruptive for banks and 

broker-dealers. See Clearing House Ass’n Letter; 

ABA Letter. 

267Exchange Act Section 15(c)(3)(A), 15 U.S.C. 

78o(c)(3)(A). 

custody services by providing 

advertisements or sales literature 

describing the safekeeping, custody and 

related services the bank offers 

(provided those advertisements and 

sales literature comply with the 

restrictions in the proposed exemption), 

a prospectus prepared by a registered 

investment company, sales literature 

prepared by a registered investment 

company or by the broker-dealer that is 

the principal underwriter of the 

registered investment company 

pertaining to the registered investment 

company’s products, or information 

based on any of those materials.253 The 

exemption allows a bank’s employees to 

respond to customer inquiries 

concerning the bank’s safekeeping, 

custodial or other services, such as 

inquiries concerning the customer’s 

account or the availability of sweep or 

other services, so long as the bank does 

not provide investment advice or 

research concerning securities to the 

account or make a recommendation to 

the account concerning securities.254

3. Other Conditions Applicable to 

Order-Taking for All Custody Accounts 

The proposed exemption provided 

that a bank may accept orders for a 

securities transaction for a custody 

account under the exemption only if the 

bank (1) does not act in a trustee or 

fiduciary capacity (as defined in section 

3(a)(4)(D) of the Exchange Act) with 

respect to the account; (2) complies with 

section 3(a)(4)(C) of the Act in handling 

any order for a securities transaction for 

the account; and (3) complies with 

section 3(a)(4)(B)(viii)(II) of the Act 

regarding carrying broker activities. 

a. Directed Trustees 

Some commenters requested that the 

Agencies modify the exemption to allow 

a bank that acts as a directed trustee for 

an account to accept orders and effect 

transactions for the account under the 

custody exemption in Rule 760 in lieu 

of relying on the trust and fiduciary 

rules (Rule 721 to 723) for the 

transaction.255 In light of the comments 

and the protections included in Rule 

760, the Agencies have modified the 

final rule to provide that a bank that acts 

as a directed trustee for an account may 

rely on the custody exception to accept 

orders for, and effect transactions in, 

securities for the account.256 If a bank 

acting as directed trustee relies on the 

rule to effect transactions for an 

employee benefit plan account or an 

individual retirement account or similar 

account, the bank must comply with the 

conditions in Rule 760(a). If a bank 

acting as directed trustee relies on the 

rule to effect transactions for another 

type of account, the bank must comply 

with the conditions governing 

accommodation accounts in Rule 

760(b). 

The rule defines a directed trustee as 

‘‘a trustee that does not exercise 

investment discretion with respect to 

the account.’’ 257 The Agencies also have 

modified the definition of ‘‘an account 

for which the bank acts as a custodian’’

to include an account for which a bank 

acts as a directed trustee.258 Although a 

bank acting as directed trustee for an 

account may effect transactions under 

the custody exemption, the bank’s 

trustee relationship with the account 

remains a trust and fiduciary 

relationship and, as such, the bank must 

continue to comply with applicable 

fiduciary principles and standards in its 

relationships with the account. 

b. Broker Execution Requirement 

Consistent with the requirements of 

the custody and safekeeping exception, 

Rule 760(d)(2) requires a bank that 

accepts orders for a custody account 

under the rule to comply with Section 

3(a)(4)(C) of the Exchange Act 259 in 

handling any order for a securities 

transaction for the account.260 Under 

this provision, (i) the bank must direct 

the trade to a registered broker-dealer 

for execution, or (ii) the trade must be 

a cross trade or other substantially 

similar trade of a security that is made 

by the bank or between the bank and an 

affiliated fiduciary and is not in 

contravention of fiduciary principles 

established under applicable Federal or 

State law, or (iii) the trade must be 

conducted in some other manner 

permitted under rules, regulations, or 

orders as the Commission may prescribe 

or issue. 

c. Carrying Broker Provisions 

A number of commenters addressed 

the proposed provision limiting the 

availability of the custody exemption to 

banks that comply with Section 

3(a)(4)(B)(viii)(II) of the Exchange 

Act 261 relating to carrying broker 

activities.262 Some stated that the 

Agencies should define the term 

‘‘carrying broker’’ by rule rather than by 

interpretation.263 One commenter 

requested that we interpret the term 

based on the view that the essence of a 

carrying broker relationship is 

‘‘complete dependence’’ of a brokerdealer on another entity for back office 

functions and execution.264 Another 

commenter took the position that a 

custodian bank should not be deemed a 

carrying broker so long as ‘‘it is not 

enabling’’ broker-dealers to avoid the 

net capital requirements applicable to 

carrying brokers.265 One commenter 

generally suggested that we either 

eliminate the carrying broker limitation 

from the proposed rules, or amend it to 

avoid affecting the ability of banks to 

undertake traditional banking 

activities.266

Section 3(a)(4)(B)(viii)(II) of the 

Exchange Act provides that a bank 

relying on the custody exception may 

not act as a ‘‘carrying broker,’’ as that 

term and different formulations of the 

term are used in Section 15(c)(3) of the 

Act and the underlying rules and 

regulations, for a broker-dealer other 

than with respect to government 

securities. Section 15(c)(3) of the Act in 

relevant part requires broker-dealers to 

comply with the Commission’s 

regulations with respect to financial 

responsibility and related customer 

protection practices of broker-dealers.267

The Commission’s financial 

responsibility and customer protection 

rules expand on what it means to carry 

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Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 56541 

268The Commission’s net capital rule specifies 

that a broker-dealer shall be deemed to carry 

customer or broker-dealer accounts ‘‘if, in 

connection with its activities as a broker or dealer, 

it receives checks, drafts, or other evidences of 

indebtedness made payable to itself or persons 

other than the requisite registered broker or dealer 

carrying the account of a customer, escrow agent, 

issuer, underwriter, sponsor, or other distributor of 

securities’’ or ‘‘if it does not promptly forward or 

promptly deliver all of the securities of customers 

or of other brokers or dealers received by the firm 

in connection with its activities as a broker or 

dealer.’’ Exchange Act Rule 15c3–1(a)(2)(i) 

The Commission’s customer protection rule 

governing reserves and custody of securities defines 

the term ‘‘securities carried for the account of a 

customer’’ to mean ‘‘securities received by or on 

behalf of a broker or dealer for the account of any 

customer and securities carried long by a broker or 

dealer for the account of any customer,’’ as well as 

securities sold to, or bought for, a customer by a 

broker-dealer. Exchange Act Rule 15c3–3(a)(2). 

269Within common securities industry usage, the 

terms ‘‘carrying broker’’ and ‘‘clearing broker’’ are 

virtually identical and often are used 

interchangeably. In certain instances, the terms 

mean a broker that, as part of an arrangement with 

a second broker (an ‘‘introducing’’ or 

‘‘corresponding’’ broker), allows the second broker 

to be subject to lesser regulatory requirements (e.g., 

under the net capital provisions of Exchange Act 

Rule 15c3–1 and the customer protection provisions 

of Exchange Act Rule 15c3–3). Technically, 

however, a ‘‘carrying broker’’ is a broker that holds 

funds and securities on behalf of customers, 

whether its own customers or customers introduced 

by another broker-dealer, and a ‘‘clearing broker’’ is 

a member of a registered clearing agency. 

270Other examples of current permissible 

coordination arrangements between banks and 

broker-dealers include legal and compliance 

functions, accounting and finance functions (such 

as payroll and expense account reporting), 

information technology, operations functions (such 

as disaster recovery services), and administration 

functions (such as human resources and internal 

audits). See NASD Notice to Members 05–48 (July 

2005) at 2. 

271NASD Notice to Members 05–48 (July 2005), 

‘‘Outsourcing,’’ provides guidance to member firms 

regarding the outsourcing activities and functions 

that, if performed directly by members, would be 

required to be the subject of a supervisory system 

and written supervisory procedures pursuant to 

NASD Rule 3010. 

272See e.g., Rules 15c3–1 and 15c3–3 [17 CFR 

240.15c3–1, 15c3–3]. This is true even if the brokerdealer is not ‘‘completely dependent’’ on the bank 

for all back office functions and execution. 

273See Rule 15c3–3(c)(5). 

274Proposed Rule 760(g)(1). 

275See Union Bank Letter, Wells Fargo Letter. 

276Proposed Rule 760(e). 

customer securities.268 In general, 

broker-dealers establish carrying 

arrangements in which other brokerdealers carry their accounts to permit 

the non-carrying broker-dealer to be 

subject to lesser financial responsibility 

requirements under the Exchange Act. A 

broker-dealer entering into such an 

agreement with a carrying entity that is 

not a registered broker-dealer, however, 

may not take advantage of those lesser 

requirements.269

After carefully considering the 

comments, the Agencies have retained 

this limitation as a condition of the 

custody exemption without change as it 

is a term of the statutory custody 

exception. Banks may look to certain 

key factors to help distinguish 

permissible custodial activity from 

impermissible carrying broker activity. 

In particular, key factors in considering 

whether the existence of shared 

customers between a broker-dealer and 

a bank may entail impermissible 

carrying broker activity by the bank are 

the broker-dealer’s own regulatory 

obligations and whether the brokerdealer either makes formal or informal 

arrangements with the bank or 

structures its operations or offerings to 

cause the broker-dealer’s customers 

generally (or one or more broad 

segments of the broker-dealer’s 

customers) to use the bank’s custody 

accounts instead of maintaining funds 

and securities in accounts at the brokerdealer (thereby avoiding the brokerdealer’s financial and related 

responsibilities). The existence of a 

substantial number of common 

customers between a broker-dealer and 

a bank’s custody department in the 

absence of such an arrangement or 

structure would not cause the bank to 

act as a carrying broker for the brokerdealer. 

Similarly, a bank may perform or 

share systems that perform limited backoffice functions on behalf of a brokerdealer without becoming a carrying 

broker for the broker-dealer. A brokerdealer, for example, may contract with 

an unregistered party such as a bank to 

send out transaction confirmations on 

behalf of the broker-dealer or have an 

arrangement with an affiliated bank to 

provide customers with combined 

statements, with the broker-dealer 

remaining responsible for the accuracy 

and completeness of those 

confirmations and the broker-dealer 

aspects of the statements. A bank and an 

affiliated broker-dealer also may share 

or coordinate risk management systems 

such as, for example, those relating to 

Bank Secrecy Act and anti-money 

laundering compliance.270 A brokerdealer, however, may not delegate core 

functions to a bank or other unregistered 

entity or functions that would require 

an individual to pass a qualification 

examination or register with an SRO.271

A broker-dealer also must maintain 

possession or control over the brokerdealer’s proprietary cash or securities 

and its customers’ cash or securities in 

accordance with the Commission’s 

financial responsibility rules.272 Of 

course, a bank may serve as custodian 

for proprietary or customer cash or 

securities of the broker-dealer and may 

accept and use in the ordinary course of 

its banking business cash deposited 

with the bank by the broker-dealer or its 

customers.273

4. Custodians, Subcustodians and 

Administrators/Recordkeepers 

a. ‘‘Account for which a bank acts as a 

custodian’’

As a general matter, the exemption in 

Rule 760 is available only for an 

‘‘account for which the bank acts as a 

custodian.’’ The proposed rule defined 

this term to mean an account that is: (i) 

An employee benefit plan account for 

which the bank acts as a custodian; (ii) 

an individual retirement account or 

similar account for which the bank acts 

as a custodian; or (iii) an account 

established by a written agreement 

between the bank and the customer that 

sets forth the terms that will govern the 

fees payable to, and rights and 

obligations of, the bank regarding the 

safekeeping or custody of securities.274

As discussed in Part V.B.3.a supra, the 

Agencies have amended this definition 

in the final rule also to include an 

account for which a bank acts as a 

directed trustee. 

A few commenters asked whether a 

bank performing custodial functions in 

a non-trustee and non-fiduciary capacity 

(such as escrow agent, fiscal agent or 

paying agent) may use the custody 

exemption even if it is not formally 

designated as ‘‘custodian’’ by the bankcustomer agreement.275 Whether a bank 

serves as custodian for the securities or 

other assets of an account depends on 

the services the bank provides to the 

account with respect to such securities 

or assets, not the label used to identify 

the account or the bank’s services in the 

agreement between the bank and the 

customer. Thus, for example, a bank 

that acts as an escrow agent, fiscal agent 

or paying agent with respect to an 

account, and that provides safekeeping 

or custody services for the securities or 

other assets in the account, is 

considered to be a custodian for the 

account for purpose of the rule 

regardless of whether the account 

agreement uses the term ‘‘custodian’’ or 

any other particular language. 

b. Administrators/Recordkeepers and 

Subcustodians 

The proposed exemption permitted a 

bank acting as a non-fiduciary and noncustodial administrator or recordkeeper 

for an employee benefit plan to accept 

securities orders for the plan on behalf 

of a custodian bank.276 Under the 

proposed exemption, both the 

administrator/recordkeeper bank and 

the custodial bank had to comply with 

the requirements relating to employee 

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277Proposed Rule 760(e)(1). 

278Proposed Rule 760(e)(2). 

279See ABA Letter; Clearing House Ass’n Letter; 

CBA Letter. The commenters asserted that the crosstrading and netting restrictions were too restrictive 

and noted that section 3(a)(4)(C) of the Exchange 

Act permits bank custodians to engage in a broader 

range of cross-trade and netting activities. 

280See CBA Letter. 

281See, e.g., ABA Letter, CBA Letter, PNC Letter, 

Schwab Letter. 

282See TIAA–CREF Letter. 

283The Agencies understand that the type of 

administrator/recordkeeper arrangements described 

in Rule 760(e) are not typically used with respect 

to accounts other than employee benefit plan 

accounts and, for this reason, have not expanded 

the paragraph to cover other types of accounts. 

284See Rule 760(e)(1) and (f)(1) and (2). The 

Agencies made a technical change to Rule 760(e) to 

clarify that the administrator/recordkeeper bank 

and the custodial bank for employee benefit 

accounts need to comply only with the 

requirements in the rule applicable to employee 

benefit plan accounts and do not need to comply 

with the conditions applicable to accommodation 

trades. 

285Rule 760(e)(2) and (f)(3). 

286See Rule 760(e)(2)(i) and (f)(3)(i). 

287See Rule 760(e)(2)(ii) and (f)(3)(ii). 

288Rule 760(g). 

289The Commission’s Regulation S (17 CFR 

230.901 et seq.) provides that offers and sales of 

securities conducted in accordance with the terms 

of the regulation will not be deemed to constitute 

an offer, offer to sell, sale or offer to buy within the 

United States for purposes of the securities 

registration requirements of Section 5 of the 

Securities Act. See 17 CFR 230.901. Specifically, 

Rule 903 of Regulation S provides that an offer or 

sale of securities by the issuer, a distributor, or an 

affiliate or a person acting on their behalf shall be 

deemed to occur outside the U.S. within the 

meaning of Rule 901 if the offer or sale is made in 

an offshore transaction (as defined in Rule 901), and 

no directed selling efforts are made in the U.S. by 

the issuer, a distributor, affiliate, or person acting 

benefit plan accounts.277 In addition, 

the proposed rule prohibited an 

administrator/recordkeeper bank from 

executing a cross-trade with or for the 

employee benefit plan or from netting 

orders for securities for the plan, other 

than orders for shares of open-end 

investment companies not traded on an 

exchange.278

A few commenters supported these 

provisions, but opposed the restrictions 

on cross-trading and netting.279 One 

commenter maintained that the 

administrator/recordkeeper provisions 

should also be available to banks 

providing administrative services to 

individual retirement accounts.280

Some commenters also questioned 

whether or how the proposed 

exemption would apply to a bank that 

acts as a subcustodian for the trust or 

fiduciary or custody accounts of another 

bank. For example, some commenters 

asserted that a bank acting as a 

subcustodian for another bank’s trust or 

fiduciary accounts should be permitted 

to accept orders for those accounts 

under the less restrictive conditions in 

Rule 760(a) regardless of the type of 

accounts actually involved.281 Other 

commenters suggested that a 

subcustodian bank be permitted to effect 

trades for the accounts of the other bank 

with a direct custodial relationship with 

the customer under the same rules (e.g., 

trust and fiduciary or custody), and 

subject to the same conditions, that 

would apply to the other bank if it 

conducted the transactions directly.282

Commenters also noted that banks, and 

particularly smaller banks, at times use 

subcustodian arrangements with other 

banks to provide their customers 

custodial services more efficiently and 

at lower cost than they may be able to 

do on their own. 

After carefully considering the 

comments, the Agencies have adopted 

Rule 760(e), which permits a bank that 

acts as a non-fiduciary and noncustodial administrator or recordkeeper 

for an employee benefit plan for which 

another bank acts as a custodian to 

accept orders for the account under Rule 

760.283 In addition, the Agencies have 

adopted a new paragraph (f) of the rule 

that permits a bank that acts as a 

subcustodian for any type of account for 

which another bank acts as custodian to 

accept orders for the account under Rule 

760. This change was made in response 

to comments that greater flexibility and 

clarity was needed for banks that use, 

and banks that provide, subcustodial 

services. Under these provisions of the 

final rule, the administrator/ 

recordkeeper bank or subcustodian 

bank, as well as the initial custodian 

bank for the account, must comply with 

the provisions of Rule 760 applicable to 

the type of account involved (i.e. 

employee benefit plan account, 

individual retirement account or similar 

account, or other types of accounts).284

The final rule generally prohibits a 

recordkeeper/administrator bank or 

subcustodian bank relying on the 

exemption from executing a cross-trade 

or netting orders with or for the relevant 

account.285 However, the Agencies have 

expanded the exceptions to this general 

prohibition in light of the comments 

received. In particular, the final rule 

permits the administrator/recordkeeper 

bank or subcustodian bank to cross or 

net orders for shares of open-end 

investment companies not traded on an 

exchange.286 In addition, the final rule 

permits the administrator/recordkeeper 

bank or subcustodian bank to cross 

orders between or net orders for 

accounts of the custodian bank that 

contracted with the administrator/ 

recordkeeper bank or subcustodian bank 

for services.287 Permitting this 

additional type of cross-trade and 

netting activity is consistent with the 

exceptions to broker execution 

requirement in section 3(a)(4)(C) of the 

Exchange Act and should allow costsavings for the customer by eliminating 

the need for a broker intermediary. At 

the same time, by prohibiting an 

administrator/recordkeeper bank or 

subcustodian bank operating under the 

rule from executing cross-trades or 

netting orders among the accounts of 

different custodian banks to which it 

provides services will help prevent 

banks from establishing a market for 

securities under the exemption. 

The Agencies note that these 

provisions do not apply to a bank that 

provides custody and order-taking 

services to the trust or fiduciary 

accounts of another bank. In these 

circumstances, the bank providing 

custodial services is treated as a 

custodian, and not a subcustodian, for 

purposes of the rule and may provide 

order-taking services to the account in 

accordance with the provisions of Rule 

760(a) or (b) applicable to the type of 

account involved. 

5. Evasions 

The Agencies are adopting, as 

proposed, the provision that states the 

Agencies will consider both the form 

and substance of the relevant accounts, 

transactions and activities (including 

advertising activities) in considering 

whether a bank meets the terms of the 

exemption, to prevent evasions of the 

exemption.288 We received no 

comments on this anti-evasion 

provision. As part of the regular riskfocused examination process, the 

Banking Agencies will monitor the 

securities transactions in custodial 

accounts. If the appropriate Banking 

Agency were to find that a bank is 

evading the terms of the custody 

exemption to run a brokerage business 

out of its custody department, the 

agency would take appropriate action to 

address the problem. 

VI. Other Exemptions 

The Agencies also are adopting 

certain other exemptions relating to the 

securities ‘‘broker’’ activities of banks. 

These are discussed below. 

A. Exemption for Regulation S 

Transactions With Non-U.S. Persons 

and Broker-Dealers 

We are adopting Rule 771 of 

Regulation R to exempt banks from the 

definition of ‘‘broker’’ under the 

Exchange Act for certain agency 

transactions involving Regulation S 

securities.289 As with Rule 3a5–2 under 

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on their behalf. Other conditions may also apply 

depending on the place of incorporation and 

reporting status of the issuer, and the amount of 

U.S. market interest in the securities. 

Rule 904 of Regulation S provides that an offer 

or sale of securities by any person other than the 

issuer, a distributor, an affiliate (except an officer 

or director who is an affiliate solely by virtue of that 

position) or person acting on their behalf will be 

deemed to occur outside the U.S. within the 

meaning of Rule 901 if the offer or sale is made in 

an offshore transaction (as defined in Rule 901), and 

no directed selling efforts are made in the U.S. by 

the seller, an affiliate or person acting on their 

behalf. Additional conditions apply in the case of 

resales of certain types of securities by dealers and 

persons receiving selling concessions, and in the 

case of resales by certain affiliates of the issuer or 

a distributor. 

290See IIB Letter; ABA Letter; Clearing House 

Ass’n Letter. 

291See IIB Letter; Clearing House Ass’n Letter. 

Rules 903(b)(2) and (b)(3) of Regulation S subject 

Category 2 securities and Category 3 debt securities 

to a 40-day distribution compliance period, and 

subject Category 3 equity securities to a one-year 

distribution compliance period, during which 

certain restrictions apply to offers or sales of the 

securities in order to preserve the foreign nature of 

the transactions. Under Rule 903 of Regulation S, 

Category 1 encompasses certain securities: (i) Issued 

by a foreign issuer, for which there is no substantial 

U.S. market interest, (ii) that are offered and sold 

in an overseas directed offering, (iii) that are backed 

by the full faith and credit of a foreign government, 

or (iv) that are offered and sold to employees of the 

issuer or its affiliates pursuant to certain foreign 

employee benefit plans. Category 2 encompasses 

securities, not eligible for Category 1, that are equity 

securities of a reporting foreign issuer, or debt 

securities of a reporting issuer or of a non-reporting 

foreign issuer. Category 3 applies to all offerings of 

securities that do not fall within Category 1 or 2. 

292See IIB Letter. 

293Rule 771(a)(1). 

294Rule 771(b)(3). Rule 902(k) of Regulation S 

defines the term ‘‘U.S. person’’ to mean: (i) Any 

natural person resident in the U.S.; (ii) any 

partnership or corporation organized or 

incorporated under the laws of the U.S.; (iii) any 

estate of which any executor or administrator is a 

U.S. person; (iv) any trust of which any trustee is 

a U.S. person; (v) any agency or branch of a foreign 

entity located in the U.S.; (vi) any non-discretionary 

account or similar account (other than an estate or 

trust) held by a dealer or other fiduciary for the 

benefit or account of a U.S. person; and (vii) any 

discretionary account or similar account (other than 

an estate or trust) held by a dealer or other fiduciary 

organized, incorporated, or (if an individual) 

resident in the U.S., and (viii) any partnership or 

corporation if (A) organized or incorporated under 

the laws of any foreign jurisdiction, and (B) formed 

by a U.S. person principally for the purpose of 

investing in securities not registered under the Act, 

unless it is organized or incorporated, and owned, 

by accredited investors (as defined in Rule 501(a) 

under the Securities Act) who are not natural 

persons, estates or trusts. 

295Rule 771(a)(2). 

296Rule 771(a)(2). 

297Rule 771(a)(3). 

298See IIB Letter and Clearing House Ass’n Letter. 

the Exchange Act, which the 

Commission separately is adopting to 

permit banks to engage in certain 

Regulation S transactions on a riskless 

principal basis without being ‘‘dealers,’’

Rule 771 recognizes that non-U.S. 

persons located outside the United 

States generally will not rely on the 

protections of the U.S. securities laws 

when purchasing Regulation S 

securities from U.S. banks, and that 

those persons may purchase the same 

securities from foreign banks located 

outside the U.S. without subjecting the 

foreign bank to U.S. broker-dealer 

registration. 

Commenters generally supported the 

proposal while suggesting certain 

modifications and clarifications.290 For 

example, commenters requested that the 

Agencies clarify that the exemption is 

available to banks both during and after 

any applicable distribution compliance 

period for the securities required by 

Regulation S, and allow banks to 

conduct resales of eligible securities for 

either non-U.S. persons or registered 

broker-dealers if the bank has a 

reasonable belief that the securities were 

initially sold in compliance with 

Regulation S.291 In addition, some 

commenters argued that the exemption 

should not require a bank to comply 

with the resale restrictions in Rule 904 

of Regulation S if the bank effects a 

resale of an eligible security in 

accordance with Rule 903 of Regulation 

S prior to the end of any applicable 

distribution compliance period for the 

security.292 Commenters also urged the 

Agencies to make the proposed ‘‘broker’’

exemption in Regulation R and the 

‘‘dealer’’ exemption proposed by the 

Commission as consistent as possible 

and to make both exemptions as 

consistent as possible with Regulation 

S. 

The Agencies have modified the rule 

in several respects in light of the 

comments, to enhance its clarity and to 

better conform it to Regulation S. The 

final rule, like the proposed rule, 

continues to have three parts. The first 

part permits a bank to effect a sale of an 

eligible security in compliance with the 

requirements of Rule 903 of Regulation 

S to a purchaser who is not in the 

United States.293 The term ‘‘purchaser’’

is defined to mean a person who 

purchases an eligible security and who 

is not a U.S. person under Rule 902(k) 

of Regulation S.294

The second part permits a bank to 

effect, by or on behalf of a person who 

is not a U.S. person under Rule 902(k) 

of Regulation S, a resale of an eligible 

security after its initial sale to a 

purchaser who is not in the United 

States or to a registered broker-dealer.295

To take advantage of this second 

exemption, the bank (1) must have a 

reasonable belief that the eligible 

security was initially sold outside of the 

United States within the meaning of and 

in compliance with Rule 903 of 

Regulation S, and (2) if the resale is 

made prior to any applicable 

distribution compliance period 

specified in Rules 903(b)(2) or (b)(3) of 

Regulation S, the resale must be made 

in compliance with the requirements of 

Rule 904 of Regulation S.296

The third part of the exemption 

permits a bank to effect, by or on behalf 

of a registered broker-dealer, a resale of 

an eligible security after its initial sale 

to a purchaser who is not in the United 

States.297 As under the second part, the 

bank must have a reasonable belief that 

the eligible security was initially sold 

outside of the United States within the 

meaning of and in compliance with 

Rule 903 of Regulation S and, if the 

resale is made prior to the expiration of 

any applicable distribution compliance 

period in Rules 903(b)(2) or (b)(3) of 

Regulation S, the bank must effect the 

resale in compliance with the 

requirements of Rule 904 of Regulation 

S. The proposed rule would have 

allowed a bank to rely on a reasonable 

belief that the security was sold in 

compliance with Regulation S only 

when it purchases a security from a 

non-U.S. person but not when it 

purchases a security from a brokerdealer. In light of comments received, 

the reasonable belief standard is also 

available under the final rule for a 

bank’s transactions with a broker-dealer 

because the process of determining 

whether a security initially was issued 

in compliance with Regulation S should 

be similar whether the purchase is from 

a broker-dealer or a non-U.S. person.298

As the rule makes clear, a bank effecting 

a resale of an eligible security under the 

exemption must effect the transaction in 

accordance with the conditions of Rule 

904 if the transaction occurs during, but 

not after, any applicable distribution 

compliance period for the security 

under Rule 903(b)(2) or (b)(3) of 

Regulation S. 

The final rule continues to require, 

however, that any sale effected under 

paragraph (b)(1) of the Rule, or resale 

effected under paragraphs (b)(2) or (b)(3) 

of the Rule (other than one to a 

registered broker-dealer), be to a 

‘‘purchaser who is not in the United 

States.’’ This is true even if the 

applicable distribution compliance 

period for the overseas offering of the 

security under Regulation S has expired. 

Consistent with Regulation S, which 

permits the offshore resale of securities, 

the purpose of the exemption in Rule 

771 is to permit U.S. banks to sell 

Regulation S securities to customers 

outside the United States. It does not 

permit banks to sell those securities 

domestically (other than to a registered 

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299The Agencies recognize that the ‘‘offshore 

transaction’’ condition in Rules 903 and 904 of 

Regulation S also require that the offer not be made 

to a person in the United States. See 17 CFR 

230.902(h), 230.903(a)(1) and 230.904(a)(1). For this 

reason, one commenter stated that the rule simply 

should refer to sales to a ‘‘purchaser,’’ rather than 

to a purchaser who is outside the United States. See 

IIB Letter. The Agencies have retained the 

‘‘purchaser who is not in the United States’’

language in the final rule, even for those 

transactions that must be conducted in accordance 

with Rule 903 or 904 of Regulation S, to highlight 

and reaffirm that these transactions must be with 

persons outside the United States. 

300Rule 771(b)(1). For purposes of the rule, the 

term ‘‘distributor’’ has the same meaning as in Rule 

902(k) of Regulation S (17 CFR 230.902(k)). 

301See IIB Letter, ABA Letter. 

302See Exchange Act Release No. 47364 (Feb. 13, 

2003), 68 FR 8686 (Feb. 24, 2003) (adopting 

Exchange Act Rule 15a–11 to provide an exemption 

from the definitions of both ‘‘broker’’ and ‘‘dealer’’

for banks engaging in securities lending 

transactions). The broker provisions of the Rule 

15a–11 exemption, which never became operable 

due to the temporary exemption applicable to all 

bank broker activities, will become void under the 

Regulatory Relief Act with the Agencies’ adoption 

of a single set of final ‘‘broker’’ rules. See Pub. L. 

No. 109–351, § 101(a)(3), 120 Stat. 1968 (1999). In 

light of this, the Commission separately has 

amended Rule 15a–11 to remove the ‘‘broker’’

aspects of that rule. As discussed in the 

accompanying release, the Commission is readopting, without modification, the ‘‘dealer’’

portions of Rule 15a–11, as Exchange Act Rule 3a5–

3. See Exchange Act Release No. 56502 (Sept. 24, 

2007). 

303See, e.g., State Street Corp. Letter, PNC Letter, 

Mellon Letter, and ABA Letter. 

304See NASAA Letter. 

305Rule 772(b) defines the term ‘‘securities 

lending transaction’’ to mean a transaction in which 

the owner of a security lends the security 

temporarily to another party pursuant to a written 

securities lending agreement under which the 

lender retains the economic interests of an owner 

of such securities, and has the right to terminate the 

transaction and to recall the loaned securities on 

terms agreed by the parties. 

306Rule 772(c) defines the term ‘‘securities 

lending services’’ to mean: (1) Selecting and 

negotiating with a borrower and executing, or 

directing the execution of the loan with the 

borrower; (2) receiving, delivering, or directing the 

receipt or delivery of loaned securities; (3) 

receiving, delivering, or directing the receipt or 

delivery of collateral; (4) providing mark-to-market, 

corporate action, recordkeeping or other services 

incidental to the administration of the securities 

lending transaction; (5) investing, or directing the 

investment of, cash collateral; or (6) indemnifying 

the lender of securities with respect to various 

matters. 

307Rule 772(a). 

308 15 U.S.C. 78c(a)(54)(A). In part, this definition 

encompasses corporations and partnerships with at 

least $25 million in investments. 

309See Union Bank Letter. 

310See, e.g. Letter from Edward J. Rosen, Cleary, 

Gottlieb, Stein & Hamilton, to Annette Nazareth, 

Director, Division of Market Regulation, 

Commission, dated Oct. 9, 2002 (requesting that the 

exemption encompass banks’ securities lending 

activity involving any entity that owns and invests 

on a discretionary basis at least $25 million in 

investments). 

311See Clearing House Ass’n Letter. Banks are 

permitted by statutory exception to engage in 

repurchase and reverse repurchase activities with 

respect to exempt securities such as government 

securities. Exchange Act Section 3(a)(5)(C)(i)(II). 

312See Exchange Act Release No. [llll] 

(Sept. ll, 2007). 

broker-dealer).299 For purposes of the 

exemption, an ‘‘eligible security’’ means 

any security other than a security that 

is being sold from the inventory of the 

bank or an affiliate of the bank or that 

is being underwritten by the bank or an 

affiliate of the bank on a firmcommitment basis unless the bank 

acquired the security from an 

unaffiliated distributor that did not 

purchase the security from the bank or 

an affiliate of the bank.300 Commenters 

requested that the Agencies clarify that 

the definition of ‘‘eligible security’’

would not prohibit a bank from effecting 

transactions under the exemption in 

securities that have been issued by the 

bank or an affiliate.301 A security that is 

issued by a bank or an affiliate of a 

bank, such as a structured note or share 

in a pooled investment vehicle, may be 

an eligible security if it otherwise meets 

the terms of paragraph (b)(2) of Rule 

771. 

B. Exemption for Non-Custodial 

Securities Lending Transactions 

The Agencies are adopting, as 

proposed, Rule 772 of Regulation R to 

provide banks engaged in certain 

securities lending transactions with a 

conditional exemption from the 

definition of ‘‘broker.’’ The exemption 

allows a bank to engage in securities 

lending transactions as agent in 

circumstances where the bank does not 

have custody of the securities or has 

custody of such securities for less than 

the entire period of the transaction. This 

exemption reinstates, without 

modification, an exemption that the 

Commission adopted previously.302

Most commenters that addressed the 

exemption supported its adoption.303

One commenter opposed the exemption, 

arguing that securities lending and 

borrowing transactions should be 

conducted only by broker-dealers or, 

alternatively, banks providing such 

services should be subject to additional 

disclosure and customer approval 

requirements.304 The Agencies continue 

to believe that the exemption is 

appropriate and necessary. The 

exemption enables sizable and 

sophisticated customers to divide 

custody and securities lending 

management between two expert 

entities when the customer decides such 

actions are in the customer’s interest, 

and permits banks to continue to 

provide the types of non-custodial 

securities lending services that they 

currently provide without disruption. 

The Agencies note, moreover, that the 

statutory custody and safekeeping 

exception permits banks to effect 

securities lending transactions (and 

provide related securities lending 

services) when the bank has custody of 

the securities. A bank need not rely on 

the exemption in Rule 772 to engage in 

securities lending transactions when 

acting in this capacity. 

Rule 772 provides that a bank is 

exempt from the broker definition to the 

extent that, as agent, it engages in or 

effects certain ‘‘securities lending 

transactions’’ 305 and ‘‘securities lending 

services’’ 306 in connection with such 

transactions.307 The exemption applies 

only to securities lending activities with 

or on behalf of a person that the bank 

reasonably believes to be: (1) A qualified 

investor as defined in Section 

3(a)(54)(A) of the Exchange Act;308 or (2) 

any employee benefit plan that owns 

and invests, on a discretionary basis, not 

less than $25 million in investments. 

One commenter requested that the 

Agencies modify the rule to allow banks 

to engage in securities lending 

transactions under the exemption as 

agent for institutional customers that 

have less than $25 million in 

investments.309 We have not amended 

the investment requirements, however, 

as we believe they are consistent with 

the nature of customers that utilize 

banks for non-custodial securities 

lending transactions.310

Another commenter suggested that 

the Agencies exempt banks involved, as 

agent, in securities repurchase and 

reverse repurchase transactions in nonexempt securities from the ‘‘broker’’

definition, stating that repurchase and 

reverse repurchase activities are 

functionally equivalent to securities 

lending.311 As discussed in the 

accompanying release, moreover, a 

number of commenters also requested 

that banks be exempted from the 

‘‘dealer’’ definition for repurchase and 

reverse repurchase agreement activities 

involving non-exempt securities they 

undertake in a principal capacity.312

The Agencies have not acted on these 

requests at this time because we believe 

additional information from banks and 

other interested parties would be 

helpful in understanding the issues 

raised by these requests. For this reason, 

we invite comment on the following 

matters, as well as any other matters 

that interested parties believe may be 

relevant to the Agencies’ consideration 

of the issues posed by the requests: (1) 

The nature, structure (including term 

and type of security involved), and 

purpose of repurchase and reverse 

repurchase agreements currently 

conducted with respect to non-exempt 

securities; (2) the types of customers 

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313As discussed above, Section 3(a)(4)(C) 

generally provides that a bank effecting a 

transaction in any ‘‘publicly traded security’’ in the 

United States under the trust and fiduciary, stock 

purchase plan, or custody and safekeeping 

exception must direct the resulting trade to a 

broker-dealer for execution unless the trade is a 

cross trade or similar trade or the trade otherwise 

is permitted by Commission rule, regulation or 

order. 15 U.S.C. 78c(a)(4)(C). Rule 760, the 

exemption for order-taking by banks acting as 

custodians, also requires banks to comply with 

Section 3(a)(4)(C). See Rule 760(d)(2). 

314See ABA Letter; TIAA–CREF Letter; American 

Council of Life Insurers Letters of March 26 (‘‘ACLI 

March 26 Letter’’) and August 2, 2007, Roundtable 

Letter, Business Law Section Letter, The Depository 

Trust & Clearing Corp. (‘‘DTCC’’) Letter. 

315See ACLI March 26 Letter, DTCC Letter. 

316Rule 775(b)(1). We note that banks may effect 

transactions in securities that meet the conditions 

to be an ‘‘exempted security’’ under Exchange Act 

Section 3(a)(12)(A)(iv) without complying with the 

exemption provided by Rule 775. Exchange Act 

Section 3(a)(4)(B)(iii)(II) permits banks to effect 

transactions involving ‘‘exempted securities’’

without registering as a broker and without 

effecting the transaction through a registered 

broker-dealer. 

317Rule 775(b)(2). 

318Rule 775(a)(1). 

319Rule 775(a)(2). FINRA currently is the only 

registered securities association. FINRA Rule 2830 

limits the sales charges associated with open-end 

mutual funds. Currently, there are no FINRA rules 

limiting the sales charges associated with the 

insurance securities subject to Rule 775. Therefore 

currently, in all cases, these insurance securities 

would satisfy the condition under Rule 775(a)(2) 

that the sales charge be no more than the amount 

permissible under applicable registered securities 

association rules. 

320Rule 775(a)(3). 321See note 313 supra for a listing of the relevant 

exceptions and exemptions. 

322See The Northern Trust Company Letter. The 

commenter further stated that ERISA effectively 

prohibits a commission from being charged in 

connection with in-kind contributions by a 

company of its stock to the company’s benefit plans 

and direct purchases and sales by the company of 

its stock with the company’s plans. 

323Rule 776(a)(1). 

324Rule 776(a)(2). For these purposes, an 

‘‘employee benefit plan’’ is defined to mean any 

pension plan, retirement plan, profit sharing plan, 

bonus plan, thrift savings plan, incentive plan, or 

other similar plan. Rule 776(b). 

325Rule 776(a)(3). 

326Rule 776(d). 

and financial institutions currently 

involved in repurchase and reverse 

repurchase agreements with respect to 

non-exempt securities; (3) the extent to 

and manner in which banks currently 

engage, as agent or principal, in 

repurchase and reverse repurchase 

agreements with respect to non-exempt 

securities; (4) recent developments or 

trends in the market for repurchase and 

reverse repurchase agreements with 

respect to non-exempt securities; (5) any 

material similarities or differences in 

the use, structure, customer base, or 

legal, regulatory, tax or accounting 

treatment of repurchase and reverse 

repurchase agreements with respect to 

non-exempt securities, on the one hand, 

and repurchase or reverse repurchase 

agreements with respect to exempt 

securities or securities lending 

transactions involving exempt or nonexempt securities. The information we 

receive through this process should help 

inform any future actions the Agencies 

may take in this area. 

C. Exemption for Banks Effecting 

Certain Excepted or Exempted 

Transactions in Investment Company 

Securities and Variable Insurance 

Products 

The Agencies are adopting Rule 775 

of Regulation R to allow banks to take 

advantage of certain exceptions and 

exemptions to the broker definition for 

transactions involving mutual funds, 

variable annuity contracts and variable 

life insurance policies without having to 

comply with the broker-execution 

requirement of Exchange Act Section 

3(a)(4)(C)(i).313 The rule as proposed 

permitted banks to effect transactions in 

open-end mutual funds through the 

National Securities Clearing Corporation 

(‘‘NSCC’’) or the fund’s transfer agent, 

rather than through a broker-dealer. 

A number of commenters stated, 

however, that the exemption should be 

broadened to also encompass variable 

annuities and variable life insurance, 

with some commenters noting that only 

variable annuities and mutual funds are 

permissible investments for 403(b) 

plans.314 Commenters noted that 

transactions in variable annuity and 

variable life products typically are 

effected directly with the relevant 

insurance company.315

In light of these comments, the 

Agencies have expanded the rule to 

cover transactions involving variable 

annuities and variable life insurance 

policies, as well as transactions 

involving mutual funds. Applying the 

exemption to transactions in variable 

insurance products, as well as to 

transactions involving mutual funds, 

will avoid needless disruptions and 

costs with respect to banks’ transactions 

with customers in which interposing an 

executing broker-dealer would be 

inefficient, inconsistent with market 

practice and unnecessary for investor 

protection. 

Specifically, Rule 775 as modified is 

available for transactions involving 

securities issued by an open-end 

company, as defined by Section 5(a)(1) 

of the Investment Company Act,316 that 

is registered under that Act,317 as well 

as variable insurance contracts funded 

by any separate account, as defined by 

Section 2(a)(37) of the Investment 

Company Act, that is registered under 

that Act. To take advantage of the 

exemption, the security must not be 

traded on a national securities exchange 

or traded through the facilities of a 

national securities association or an 

interdealer quotation system.318 In 

addition, the securities must be 

distributed by a registered broker-dealer, 

or the sales charge must be no more 

than the amount permissible for a 

security sold by a registered brokerdealer pursuant to any applicable rules 

of a registered securities association.319

Finally, the transaction must be effected 

through the NSCC, or directly with a 

transfer agent or with an insurance 

company or a separate account that is 

excluded from the definition of transfer 

agent in Section 3(a)(25) of the 

Exchange Act.320

D. Exemption for Certain Transactions 

involving a Company’s Securities for its 

Employee Benefit Plans and 

Participants 

In response to issues raised by a 

commenter, the Agencies are adopting 

an additional exemption (Rule 776) to 

permit banks that rely on certain 

exceptions and exemptions to effect 

certain transactions involving the 

securities of a company for the 

company’s employee benefit plans and 

participants without complying with the 

broker-execution requirements of 

Exchange Act Section 3(a)(4)(C)(i).321

The commenter stated that banks that 

act as trustee or custodian for the 

defined benefit or defined contribution 

plans of a company at times effect inkind contributions, purchases and sales, 

and distribution transactions for the 

plan involving the securities of the 

company without the involvement of a 

broker-dealer. The commenter indicated 

that these transactions are effected 

through the company’s transfer agent 

and that no commission is charged in 

connection with the transaction.322

In light of these comments, Rule 776 

permits a bank utilizing particular 

exceptions and exemptions to effect a 

transaction in the securities of a 

company to do so directly with a 

transfer agent acting for the company, 

subject to four conditions. First, no 

commission may be charged with 

respect to the transaction.323 Second, 

the transaction must be conducted 

solely for the benefit of an employee 

benefit plan.324 Third, the security must 

be obtained directly from the company 

or an employee benefit plan of the 

company.325 And fourth, the security 

must be transferred only to the company 

or an employee benefit plan of the 

company.326 Securities obtained from, 

or transferred to, a participant in an 

employee benefit plan on behalf of the 

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327The commenter also stated that banks acting 

as trustees and custodians at times directly effect 

transactions with and for different employee benefit 

plans involved in a corporate spin-off transaction 

with respect to company stock of both companies 

involved in the spin-off transaction. See Northern 

Trust letter. We understand that the same bank 

typically is the trustee or custodian for the different 

plans in such transactions and conducts such 

transactions through cross-trades within the bank. 

Accordingly, no additional exemption is required 

for these transactions. 

328 15 U.S.C. 78cc(b). Exchange Act Section 29(b) 

provides, in pertinent part, that every contract made 

in violation of the Exchange Act or of any rule or 

regulation adopted under the Exchange Act (with 

certain exceptions) shall be void. 

329Rule 780(a). 

330 ICBA Letter. 

331See, e.g., HSBC Securities Letter. 

332The APA provides that publication of a 

substantive rule must be made not less than 30 days 

prior to its effective date, except ‘‘(1) a substantive 

rule which grants or recognizes an exemption or 

relieves a restriction; (2) interpretive rules and 

statements of policy; or (3) otherwise provided by 

the agency for good cause found and published 

with the rule.’’ 5 U.S.C. 553(d). 

333This finding also satisfies the requirements of 

5 U.S.C. Section 808(2), which allows a rule to 

become effective immediately notwithstanding the 

requirements of 5 U.S.C. Section 801 if an agency 

‘‘for good cause finds that notice and public 

procedure thereon are impracticable, unnecessary, 

or contrary to the public interest.’’

334 15 U.S.C. 78mm(a)(1). 

335President Clinton signed the GLBA into law 

on November 12, 1999. 

plan are considered to be obtained from, 

or transferred to, the plan. 

We are adopting this rule because we 

believe that requiring banks to send 

these types of transactions to a brokerdealer for execution—as would be 

required to comply with Section 

3(a)(4)(C)(i) of the Exchange Act—at 

times would preclude plans from 

engaging in these transactions, would 

disrupt existing practices and otherwise 

would introduce cost and complexity to 

those transactions without materially 

promoting functional regulation and 

investor protection.327

E. Temporary and Permanent 

Exemption for Contracts Entered Into by 

Banks From Being Considered Void or 

Voidable 

The Agencies are adopting as 

proposed Rule 780, which grants one 

temporary and one permanent 

exemption from section 29(b) of the 

Exchange Act, which addresses 

inadvertent failures by banks that could 

trigger rescission of contracts between a 

bank and a customer.328 Under the 

temporary exemption, no contract 

entered into before 18 months after the 

effective date of the exemption would 

be void or considered voidable by 

reason of Section 29 of the Exchange 

Act because any bank that is a party to 

the contract violated the registration 

requirements of Section 15(a) of the 

Exchange Act, any other applicable 

provision of that Act, or the rules and 

regulations adopted under the Exchange 

Act based solely on the bank’s status as 

a broker when the contract was 

created.329

Under the permanent exemption, no 

contract entered into is void or 

considered voidable by reason of 

Section 29(b) of the Exchange Act 

because any bank that is a party to the 

contract violated the registration 

requirements of Section 15(a) of the 

Exchange Act or the rules and 

regulations adopted thereunder based 

solely on the bank’s status as a broker 

when the contract was created if two 

conditions are met. First, at the time the 

contract was created, the bank must 

have acted in good faith and had 

reasonable policies and procedures in 

place to comply with Section 3(a)(4)(B) 

of the Exchange Act, and the rules and 

regulations, thereunder. Second, any 

violation of the registration 

requirements by the bank must not have 

resulted in any significant harm, 

financial loss or cost to the person 

seeking to void the contract. This 

exemption is provided because a bank 

that is acting in good faith and has 

reasonable policies and procedures in 

effect at the time a securities contract is 

created should not be subject to 

rescission claims as a result of an 

inadvertent failure to comply with the 

requirements under Section 3(c)(4) of 

the Exchange Act if customers are not 

significantly harmed. One commenter 

supported the exemptions,330 and no 

commenters objected to their adoption. 

F. Extension of Time and Transition 

Period 

The Agencies are further extending 

the time that banks have to come into 

compliance with the Exchange Act 

provisions relating to the definition of 

‘‘broker.’’ Under the final rule, a bank is 

exempt from the definition of ‘‘broker’’

under Section 3(a)(4) of the Exchange 

Act until the first day of its first fiscal 

year commencing after September 30, 

2008. This is an additional calendar 

quarter beyond the date (June 30, 2008) 

provided in the proposed rule. A bank 

that has a fiscal year based on the 

calendar year, for example, must 

comply with the new exceptions for 

banks and these rules beginning on 

January 1, 2009. Some commenters 

noted that banks and broker-dealers 

would need sufficient time to make the 

changes necessary to come into 

compliance with the statute and these 

rules.331 The Agencies believe that the 

extension granted by the rule, which is 

a minimum of one year, should provide 

banks a reasonable period of time to 

come into compliance with these 

provisions. 

The Administrative Procedure Act 

(‘‘APA’’) permits an agency to issue a 

rule without delaying its effective date 

for 30 days from the date of publication 

if, among other reasons, the rule is a 

substantive rule which grants or 

recognizes an exemption or relieves a 

restriction, or if the agency finds good 

cause and publishes its finding with the 

rule.332 The Agencies find that this Rule 

781 grants or recognizes an exemption 

or relieves a restriction and also that 

there is good cause for adopting Rule 

781 without a delayed effective date 

because it is in the public interest that 

banks not unnecessarily incur costs to 

comply with the statutory exceptions 

and related rules before such exceptions 

and rules would become effective in 

accordance with Rule 781.333

VII. Finding That the Exemptions are 

Appropriate in the Public Interest and 

Consistent With the Protection of 

Investors 

Section 36(a)(1) of the Exchange Act 

generally provides that the Commission 

may conditionally or unconditionally 

exempt any person or class of persons 

from any provision of the Exchange Act 

to the extent that an exemption is 

necessary or appropriate in the public 

interest and consistent with the 

protection of investors.334 Taken as a 

whole, the exemptions will implement 

the bank broker provisions of the GLBA 

while providing banks with flexibility to 

structure their business models under 

conditions designed to preserve key 

investor protections, and therefore, as 

discussed above more fully, are 

appropriate in the public interest and 

consistent with the protection of 

investors. 

VIII. Withdrawal of Proposed 

Regulation B and Removal of Exchange 

Act Rules 3a4–2 Through 3a4–6, and 

3b–17 

Under the Regulatory Relief Act, a 

final single set of rules or regulations 

jointly adopted by the Board and 

Commission in accordance with that 

Act shall supersede any other proposed 

or final rule issued by the Commission 

on or after the date of enactment of 

Section 201 of the GLBA with regard to 

the definition of ‘‘broker’’ under 

Exchange Act Section 3(a)(4).335

Moreover, the law states that ‘‘[n]o such 

other rule, whether or not issued in final 

form, shall have any force or effect on 

or after that date of enactment.’’

In 2001, the Commission adopted 

Interim Rules discussing the way in 

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336Exchange Act Release No. 44291 (May 11, 

2001), 66 FR 27760 (May 18, 2001). 337 17 CFR 240.3a4–2 through 3a4–6 and 17 CFR 

240.3b–17. 338 17 CFR 242.710 through 781. See Exchange 

Act Release No. 49879 (June 17, 2004), 69 FR 39682 

(June 30, 2004). 339 44 U.S.C. 3501, et seq. 340 5 CFR 1320.16; Appendix A.1. 

341 44 U.S.C. 3512. 

342See Rules 701(a)(2)(i), (a)(3)(i) and (b). 

343See Rule 701(a) and (a)(3). 

344See Rule 701(a)(3)(v). The latter requirement 

does not apply to subparagraph (E) of Section 

3(a)(39) of the Exchange Act ((15 U.S.C. 78c(a)(39)). 

345See Rule 701(a)(3)(iv). 

346See Rule 701(a)(2)(iii). 

which the Commission would interpret 

the GLBA.336 The rules that address the 

definition of ‘‘broker’’ under Section 

3(a)(4) of the Exchange Act (and 

applicable exemptions) are Exchange 

Act Rules 3a4–2 through 3a4–6 and 

Rule 3b–17.337 In 2004, the Commission 

proposed to revise and restructure the 

‘‘broker’’ provisions of the Interim Rules 

and codify them in a new regulation, 

proposed Regulation B, which would 

consist of proposed new Exchange Act 

Rules 710 through 781.338 By operation 

of the Regulatory Relief Act, the joint 

adoption of these final rules by the 

Board and the Commission supersedes 

Exchange Act Rules 3a4–2 through 3a4–

6, 3b–17, and proposed Rules 710 

through 781. Any discussion or 

interpretation of these prior rules in 

their accompanying releases does not 

apply to this single set of rules adopted 

by the Agencies. 

IX. Administrative Law Matters 

A. Paperwork Reduction Act Analysis 

Certain provisions of Rules 701, 723, 

and 741, contain ‘‘collection of 

information’’ requirements within the 

meaning of the Paperwork Reduction 

Act of 1995.339 The Commission has 

submitted these information collections 

to the Office of Management and Budget 

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

44 U.S.C. 3507(d) and 5 CFR 1320.11. 

The Board has reviewed the rules under 

authority delegated by OMB.340

The collections of information under 

Rules 701, 723, and 741 are new. The 

Commission’s title for the new 

collection of information under Rule 

701 is ‘‘Rule 701: Exemption from the 

definition of ‘broker’ for certain 

institutional referrals.’’ The 

Commission’s title for the new 

collection of information under Rule 

723 is ‘‘Rule 723: Exemptions for special 

accounts, foreign branches, transferred 

accounts, and a de minimis number of 

accounts.’’ The Commission’s title for 

the new collection of information under 

Rule 741 is ‘‘Rule 741: Exemption for 

banks effecting transactions in money 

market funds.’’ The Commission’s OMB 

control number for the three rules is 

3235–0624. The Board’s title for the new 

collection of information under Rules 

701, 723, and 741 is ‘‘Recordkeeping 

and Disclosure Requirements 

Associated with Regulation R’’ (FR 

4025). The Board’s OMB control number 

will be 7100–0316. 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.341 We 

received no comments on the 

paperwork reduction analysis in the 

proposal. 

1. Rule 701 

Rule 701 provides a conditional 

exemption from the requirements under 

the networking exception under the 

Exchange Act. This exemption permits 

bank employees to receive payment of 

more than a nominal amount for 

referring institutional customers and 

high net worth customers to a brokerdealer and permits such payments to be 

contingent on whether the customer 

effects a securities transaction with the 

broker-dealer. 

a. Collection of Information 

Rules 701(a)(2)(i), (a)(3)(i) and (b) 

require banks or their broker-dealer 

partners that utilize the exemption 

provided in this rule to make certain 

disclosures to high net worth or 

institutional customers. Specifically, 

these disclosures must clearly and 

conspicuously disclose (1) the name of 

the broker-dealer; and (2) that the bank 

employee participates in an incentive 

compensation program under which the 

bank employee may receive a fee of 

more than a nominal amount for 

referring the customer to the brokerdealer and payment of this fee may be 

contingent on whether the referral 

results in a transaction with the brokerdealer.342 These requirements were 

modified from the proposal to permit 

timely oral disclosure of this 

information, followed by written 

disclosure, to better accommodate the 

variety of circumstances in which 

referrals may occur. 

In addition, one of the conditions of 

the exemption is that the broker-dealer 

and the bank need to have a contractual 

or other written arrangement containing 

certain elements, including notification 

and information requirements.343 Rule 

701(a)(3)(v) requires the written 

agreement to obligate a broker-dealer to 

notify its bank partner if the brokerdealer determines that (1) the customer 

referred under the exemption is not a 

high net worth or institutional 

customer, as applicable; or (2) the bank 

employee making the referral is subject 

to statutory disqualification (as defined 

in Section 3(a)(39) of the Exchange 

Act).344 In addition, Rule 701(a)(3)(iv) 

requires the written agreement to 

obligate the broker-dealer to notify the 

customer if the securities transaction(s) 

to be conducted by the customer or the 

customer do not meet the applicable 

suitability or sophistication 

determination standards set forth in the 

rule.345 Similarly, the bank is required 

to provide its broker-dealer partner with 

the name of the bank employee 

receiving the referral fee and certain 

other identifying information.346

b. Use of Information 

The purpose of the collection of 

information in Rules 701(a)(2)(i), 

(a)(3)(i) and (b) is to provide a customer 

of a bank relying on the exemption with 

information to assist the customer in 

identifying and assessing any conflict of 

interest on the part of the bank 

employee making a referral to a brokerdealer and for which the bank employee 

may receive a higher-than-nominal and/ 

or contingent referral fee. The collection 

of information in Rule 701(a)(2)(iii) and 

(a)(3)(v) is designed to help a bank 

determine whether it is acting in 

compliance with the exemption. The 

collection of information in Rule 

701(a)(3)(iv) is designed to provide the 

customer with information that may be 

helpful to the customer in deciding 

whether to engage in a securities 

transaction with the broker-dealer. 

c. Respondents 

The collections of information in Rule 

701 will apply to banks that wish to 

utilize the exemption provided in this 

rule and broker-dealers with which 

those banks enter into networking 

arrangements. 

d. Disclosure Burden 

The Agencies estimate that 

approximately 1,000 banks annually 

will use the exemption in Rule 701 and 

that each bank, individually or working 

with its partner broker-dealer, will on 

average make the required referral fee 

disclosures to 200 customers annually. 

In addition, we estimate that each bank 

will provide one notice annually to its 

broker-dealer partner regarding names 

and other identifying information about 

bank employees. The Agencies also 

estimate that broker-dealers will, on 

average, notify each of the 1,000 banks 

approximately twice a year about a 

determination regarding a customer’s 

high net worth or institutional status as 

well as a bank employee’s statutory 

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347Because banks and broker-dealers will share 

the disclosure obligation under the final rule, these 

estimates attribute 50 percent of that disclosure 

burden to banks and 50 percent to broker-dealers. 

348These requirements are discussed in more 

detail in section 1.d (Rule 701, Disclosure Burden), 

supra. 

349See Rule 723(e)(2), which requires that the 

total number of accounts excluded by the bank, 

under the exclusion from the chiefly compensated 

test in Rule 721(a)(1), do not exceed the lesser of 

1 percent of the total number of trust or fiduciary 

accounts held by the bank (if the number so 

obtained is less than 1, the amount will be rounded 

up to 1) or 500. 

350See Rule 723(e)(1). 

disqualification status. The Agencies 

further estimate that each broker-dealer 

will notify three customers of each 

partner bank per year concerning 

transaction suitability or the customer’s 

financial sophistication. 

Based on these estimates, the 

Agencies anticipate that Rule 701 will 

result in approximately 200,000 

disclosures to customers, 1,000 notices 

to broker-dealers about bank employees, 

2,000 notices to banks about customer 

status, and 3,000 notices to customers 

per year about suitability or 

sophistication. The Agencies further 

estimate (based on the level of difficulty 

and complexity of the applicable 

activities) that a bank or broker-dealer 

will spend approximately 5 minutes per 

customer to comply with the disclosure 

requirement, and that a bank will spend 

approximately 15 minutes per notice to 

a broker-dealer. The Agencies also 

estimate that a broker-dealer will spend 

approximately 15 minutes per notice to 

a bank or customer. Thus, the estimated 

total annual disclosure burden for these 

requirements in Rule 701 is 

approximately 8,583 hours for banks 

and approximately 9,583 hours for 

broker-dealers.347

e. Collection of Information Is 

Mandatory 

This collection of information is 

mandatory for banks relying on Rule 

701 and their broker-dealer partners. 

f. Confidentiality 

A bank relying on the exemption 

provided in Rule 701 or its partner 

broker-dealer is required to provide 

certain referral fee disclosures to the 

customers referred by the bank under 

this rule. Banks relying on the 

exemption provided in Rule 701 are 

required also to enter into agreements 

with a broker-dealer obligating the 

broker-dealer to notify the bank upon 

becoming aware of certain information 

with respect to the customer or the bank 

employee, and to notify the customer 

upon becoming aware of certain 

information concerning the customer or 

the nature of a securities transaction.348

Similarly, a bank is required to notify a 

broker-dealer about the name of the 

bank employee receiving a referral fee 

and certain other identifying 

information. 

g. Record Retention Period 

Rule 701 does not include a specific 

record retention requirement. Banks, 

however, are required to retain the 

records in compliance with any existing 

or future recordkeeping or disclosure 

requirements established by the Banking 

Agencies. Broker-dealers are also 

required to retain records in compliance 

with existing or future recordkeeping or 

disclosure requirements established by 

the Commission or any self-regulatory 

organization. 

2. Rule 723 

a. Collection of Information 

Rule 723(e)(1) requires a bank that 

desires to exclude a trust or fiduciary 

account in determining its compliance 

with the chiefly compensated test, 

pursuant to a de minimis exclusion,349

to maintain records demonstrating that 

the securities transactions conducted by 

or on behalf of the account were 

undertaken by the bank in the exercise 

of its trust or fiduciary responsibilities 

with respect to the account.350

b. Use of Information 

The collection of information in Rule 

723 is designed to help ensure that a 

bank relying on the de minimis 

exclusion is able to demonstrate that it 

was acting in a trust or fiduciary 

capacity with respect to an account 

excluded from the chiefly compensated 

test in Rule 721(a)(1). 

c. Respondents 

The collection of information in Rule 

723 will apply to banks relying on the 

de minimis exclusion from the chiefly 

compensated test. 

d. Recordkeeping Burden 

Because the Agencies expect a small 

number of banks may use the accountby-account approach in monitoring their 

compliance with the chiefly 

compensated test, the Agencies estimate 

that approximately 50 banks annually 

will use the de minimis exclusion in 

Rule 723 and each such bank will, on 

average, need to maintain records with 

respect to 10 trust or fiduciary accounts 

annually conducted in the exercise of 

the banks’ trust or fiduciary 

responsibilities. Therefore, the Agencies 

estimate that Rule 723 will result in 

approximately 500 accounts annually 

for which records are required to be 

maintained. The Agencies anticipate 

that these records will consist of records 

that are generally created as part of the 

securities transaction and the account 

relationship and minimal additional 

time will be required in maintaining 

these records. Based on this analysis, 

the Agencies estimate that a bank will 

spend approximately 15 minutes per 

account to comply with the record 

maintenance requirement of Rule 723. 

Thus, the estimated total annual 

recordkeeping burden for Rule 723 is 

125 hours. 

e. Collection of Information Is 

Mandatory 

This collection of information is 

mandatory for banks desiring to rely on 

de minimis exclusion contained in Rule 

723. 

f. Confidentiality 

Rule 723 does not address or restrict 

the confidentiality of the documentation 

prepared by banks under the rule. 

Accordingly, banks will have to make 

the information available to regulatory 

authorities or other persons to the extent 

otherwise provided by law. 

g. Record Retention Period 

Rule 723 will include a requirement 

to maintain records related to certain 

securities transactions. Banks will be 

required to retain these records in 

compliance with any existing or future 

recordkeeping requirements established 

by the Banking Agencies. 

3. Rule 741 

a. Collection of Information 

Rule 741(a)(2)(ii)(A) requires a bank 

relying on this exemption (i.e., the 

exemption from the definition of the 

term ‘‘broker’’ under Section 3(a)(4) of 

the Exchange Act for effecting 

transactions on behalf of a customer in 

securities issued by a money market 

fund) to provide customers with a 

prospectus of the money market fund 

securities, not later than the time the 

customer authorizes the bank to effect 

the transaction in such securities, if they 

are not no-load. In situations where a 

bank effects transactions under the 

exemption as part of a program for the 

investment or reinvestment of deposits 

funds of, or collected by, another bank, 

the rule permits either the effecting 

bank or deposit-taking bank to provide 

the customer a prospectus for the money 

market fund securities. 

b. Use of Information 

The purpose of the collection of 

information in Rule 741 is to help 

ensure that a customer of a bank whose 

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351See Exchange Act Section 3(a)(4)(B)(i)–(xi). 

352See Citigroup Letter, ACB Letter, ICBA Letter. 

353See Fiserv Letter, Colorado Trust Letter. 

354Exchange Act Section 3(a)(4)(B)(i)(VI) limits 

such referral fees to a ‘‘nominal one-time cash fee 

of a fixed dollar amount’’ and requires that the 

payment of the fees not be contingent on whether 

the referral results in a transaction. 

355See ABA Letter, Roundtable Letter, ACB 

Letter. 

funds or deposits are invested into a 

money market fund that is not a no-load 

fund under the exemption will have 

sufficient information upon which to 

make an informed investment decision, 

in particular, regarding the fees the 

customer will pay with respect to the 

securities. 

c. Respondents 

The collection of information in Rule 

741 applies to banks that directly or 

indirectly rely on the exemption 

provided in the rule in the manner 

described above. 

d. Disclosure Burden 

The Agencies believe that banks 

generally sweep or invest their customer 

funds into no-load money market funds. 

Accordingly, the Agencies estimate that 

approximately 500 banks annually will 

use the exemption in Rule 741 and each 

bank (or its partner bank), on average, 

will deliver the prospectus required by 

the rule to approximately 1,000 

customers annually. Therefore, the 

Agencies estimate that Rule 741 will 

result in approximately 500,000 

disclosures per year. The Agencies 

estimate further that a bank will spend 

approximately 5 minutes per response 

to comply with the delivery requirement 

of Rule 741. Thus, the estimated total 

annual disclosure burden for Rule 741 

is 41,667 hours. 

e. Collection of Information Is 

Mandatory 

This collection of information is 

mandatory for banks relying on the 

exemption. 

f. Confidentiality 

The collection of information 

delivered pursuant to Rule 741 must be 

provided by banks relying on the 

exemption in this rule (or in the case of 

programs involving deposits of another 

bank, the other bank) to customers that 

are engaging in transactions in securities 

issued by a money market fund that is 

not a no-load fund. 

g. Record Retention Period 

Rule 741 does not include a record 

retention requirement. 

B. Consideration of Benefits and Costs 

1. Introduction 

Prior to enactment of the GLBA, banks 

were exempted from the definition of 

‘‘broker’’ in Section 3(a)(4) of the 

Exchange Act. Therefore, 

notwithstanding the fact that banks may 

have conducted activities that will have 

brought them within the scope of the 

broker definition, they were not 

required by the Exchange Act to register 

as such. The GLBA replaced banks’

historic exemption from the definition 

of ‘‘broker’’ with eleven exceptions.351

While banks’ efforts to comply with 

the GLBA and the exemptions will 

result in certain costs, the Agencies 

have sought to minimize these burdens 

to the extent possible consistent with 

the language and purposes of the GLBA. 

For example, the Agencies are adopting 

exemptions and interpretations that are 

expected to provide banks with 

increased options and flexibility and 

help to reduce overall costs. Some 

commenters noted that the rules as 

proposed will give banks flexibility in 

structuring their operations, and one 

bank trade association stated that small 

banks will be able to comply with the 

proposed rules without significantly 

altering their activities.352 Two 

commenters stated that the Agencies 

had underestimated the costs associated 

with coming into compliance with 

Regulation R and also provided 

estimates of ongoing compliance 

costs.353

2. Discussion of Rule Interpretations 

and Exemptions 

The benefits and costs of the principal 

exemptions and interpretations in the 

rules are discussed below. 

a. Networking Exception 

Exchange Act Section 3(a)(4)(B)(i) 

excepts banks from the definition of 

‘‘broker’’ if they enter into a contractual 

or other written arrangement with a 

registered broker-dealer under which 

the broker-dealer offers brokerage 

services to bank customers. This 

networking exception is subject to 

several conditions. The Section also 

prohibits banks from paying 

unregistered bank employees—such as 

tellers, loan officers, and private 

bankers—‘‘incentive compensation’’ for 

any brokerage transaction, except that 

bank employees may receive a 

‘‘nominal’’ referral fee for referring bank 

customers to their broker-dealer 

networking partners.354

Under the rule, a ‘‘nominal’’ referral 

fee is defined as a fee that does not 

exceed any of the following standards: 

(1) Twice the average of the minimum 

and maximum hourly wage established 

by the bank for the current or prior year 

for the job family that includes the 

employee or 1/1000th of the average of 

the minimum and maximum annual 

base salary established by the bank for 

the current or prior year for the job 

family that includes the employee; (2) 

twice the employee’s actual base hourly 

wage or 1/1000th of the employee’s 

actual annual base salary; or (3) twentyfive dollars ($25), as adjusted for 

inflation pursuant to Rule 700(f). 

The Agencies believe these 

alternatives likely will provide banks 

appropriate flexibility while being 

consistent with the statute. For example, 

some banks, and particularly small 

banks, may find it most useful to 

establish a flat fee or inflation-adjusted 

fee for securities referrals as this method 

is easy to understand and requires no 

complicated calculations. In addition, 

permitting banks to pay referral fees 

based on either an employee’s base 

hourly or annual rate of pay or the 

average hourly or annual rate of pay for 

a job family gives banks objective and 

easily calculable approaches to paying 

their employees referrals while 

remaining consistent with the 

requirements of the GLBA that such fees 

be ‘‘nominal’’ in relation to the overall 

compensation of the referring 

employees. While some start-up costs 

may be incurred by banks in the process 

of developing a fee structure in line 

with the requirements of the GLBA, the 

ability to choose among alternative 

methods (as reflected in the rules) is 

expected to enable banks to minimize 

their overall costs based on their 

individual referral programs and cost 

structures. Several commenters 

supported these alternatives, or stated 

that the rules implementing the 

networking exception as a whole struck 

an appropriate balance.355

In light of the statutory provision 

allowing banks to pay a ‘‘nominal onetime cash fee,’’ the rule requires that all 

referral fees paid under the exception be 

paid in cash. At the same time, the 

Agencies have clarified that banks have 

the flexibility to use cash-equivalent 

points, paid no less often than quarterly, 

in paying nominal referral fees under 

the exception. 

Rule 700(b) also contains a definition 

of ‘‘incentive compensation’’ and 

excludes from this definition 

compensation paid by a bank under a 

bonus or similar plan that meets certain 

criteria. The bonus or similar program 

must be paid on a discretionary basis 

and based on multiple factors or 

variables. These factors or variables 

must include multiple, significant 

factors or variables that are not related 

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356See State Street Letter, SIMFA Letter, U.S. 

Trust Letter, BISA Letter. 

357Rule 701(a)(2)(i), (a)(3)(iii)–(v), and 701(b). 

358The trust and fiduciary exception is addressed 

in Rules 721–723. 

359See Rule 722. 

360See, e.g., ABA Letter, WBA Letter, U.S. Trust 

Letter, PNC Letter. 

361See Rule 723. 

362See FINRA Rule 2830. 

363See Rule 741. 

dealer. Moreover, a referral made by the 

employee may not be a factor or variable 

in determining the employee’s 

compensation under the plan and the 

employee’s compensation under the 

plan may not be determined by 

reference to referrals made by any other 

person. Rule 700(b) also provides a 

conditional safe harbor from the 

definition of ‘‘incentive compensation’’

for certain bonus or similar plans that 

are based on any measure of the overall 

profitability of a bank; an affiliate of a 

bank (other than a broker-dealer); an 

operating unit of a bank or of an affiliate 

of a bank (other than a broker-dealer); or 

a broker-dealer (if the bonus plan meets 

certain criteria designed to ensure, 

among other things, that the plan 

includes other factors or variables). The 

final definition has been revised from 

the proposal to give banks more 

flexibility in using their existing bonus 

plans within the framework required by 

the GLBA. 

The rules also include a conditional 

exemption to permit a bank to pay an 

employee a contingent referral fee of 

more than a nominal amount for 

referring an institutional customer or 

high net worth customer to a brokerdealer with which the bank has a 

contractual or other written networking 

arrangement. This exemption provides a 

benefit to banks by expanding the types 

of referral fees that banks may utilize 

with respect to institutional customers 

and high net worth customers. A 

number of commenters supported 

granting an exemption for such 

referrals.356 There likely will be costs 

associated with complying with the 

conditions in the exemption (such as 

the requirement for banks to make 

certain disclosures to high net worth or 

institutional customers and the 

requirement for broker-dealers to make 

certain determinations and provide 

certain notifications to banks or a 

customer) 357 as well as the other terms 

and conditions in the statutory 

networking exception. These costs, 

however, will be either a result of the 

statutory requirements or costs 

voluntarily incurred by banks because 

they want to take advantage of the 

exemption. 

b. Trust and Fiduciary Activities 

Exception 

Exchange Act Section 3(a)(4)(B)(ii) 

permits a bank, under certain 

conditions, to effect transactions in a 

trustee or fiduciary capacity in its trust 

department or other department that is 

regularly examined by bank examiners 

for compliance with fiduciary principles 

and standards without registering as a 

broker. To qualify for the trust and 

fiduciary activities exception, Exchange 

Act Section 3(a)(4)(B)(ii) requires that 

the bank be ‘‘chiefly compensated’’ for 

such transactions on the basis of the 

types of fees specified in the GLBA and 

comply with certain advertising 

restrictions set forth in the statute. 

The Agencies believe that the rules 

dealing with the trust and fiduciary 

activities exception will provide a 

number of benefits to banks and their 

customers without imposing significant 

costs on either group.358 The provisions 

regarding the ‘‘chiefly compensated’’

condition and related exemptions, while 

imposing some costs related to systems 

necessary to perform the calculations 

and track compensation, are expected to 

reduce banks’ compliance costs and 

make the trust and fiduciary activities 

exception more useful. For example, the 

rules permit a bank to follow an 

alternate test to the account-by-account 

approach to the ‘‘chiefly compensated’’

condition. Under this exemption, a bank 

may calculate the compensation it 

receives from its trust and fiduciary 

business as a whole on a bank-wide 

basis, subject to certain conditions.359

This alternative is designed to provide 

banks with a potentially less costly 

approach for determining compliance 

with the trust and fiduciary activities 

exception. Some commenters noted that 

this alternative approach was 

workable.360 Similarly, the Agencies’

exemptions from the ‘‘chiefly 

compensated’’ condition for certain 

short-term accounts, accounts acquired 

as part of a business combination or 

asset acquisition, accounts held at a 

non-shell foreign branch, accounts 

transferred to a broker-dealer or other 

unaffiliated entity, and a de minimis 

number of accounts are expected also to 

reduce banks’ compliance costs by 

facilitating banks’ ability to comply with 

the ‘‘chiefly compensated’’ condition.361

While compliance with the conditions 

in these exemptions likely will result in 

some costs, such as the recordkeeping 

requirement associated with the de 

minimis exclusion, these costs are likely 

more than justified by the benefits 

associated with the exemptions given 

that banks could individually determine 

whether they wish to utilize the 

exemptions. 

As previously noted, banks are likely 

to incur some costs to comply with the 

GLBA. The rules, however, include a 

number of exemptions which are 

intended to help to reduce overall costs. 

As a result, the Agencies do not believe 

that banks will incur significant 

additional costs to comply with the 

liberalized exemptions of Rules 722 

through 723 or the definitional guidance 

of Rule 721. 

c. Sweep Accounts and Transactions in 

Money Market Funds 

Section 3(a)(4)(B)(v) of the Exchange 

Act provides a bank with an exception 

from the definition of ‘‘broker’’ to the 

extent it effects transactions as part of a 

program for the investment or reinvestment of deposit funds for a 

customer or on behalf of another bank 

into any no-load, open-end management 

investment company registered under 

the Investment Company Act that holds 

itself out as a money market fund. The 

rules provide guidance, consistent with 

FINRA rules,362 regarding the definition 

of ‘‘no-load’’ as used in the exception. 

This guidance likely will benefit banks 

by clarifying the types of charges that 

are permissible and by providing greater 

legal certainty. 

The rules also contain an exemption 

that permits banks to effect transactions 

on behalf of a customer, or for the 

deposit funds of another bank, in 

securities issued by a money market 

fund, subject to certain conditions.363

While compliance with the conditions 

associated with this exemption, such as 

the prospectus delivery requirement in 

certain circumstances, may require 

banks to incur some costs, these costs 

are likely to be more than justified by 

the investor protection benefits enjoyed 

by the banks’ customers and the 

enhanced flexibility granted banks by 

the exemption. Furthermore, because 

banks are free to determine whether to 

incur these costs, the exemption is 

expected to provide a net benefit for 

banks that wish to utilize the 

exemption. 

d. Safekeeping and Custody Exception 

Section 3(a)(4)(B)(viii) of the 

Exchange Act provides banks with an 

exception from the definition of 

‘‘broker’’ for certain bank custody and 

safekeeping activities. The rules contain 

an exemption that permits a bank, 

subject to certain conditions, to accept 

orders to effect transactions in securities 

for accounts for which the bank acts as 

a custodian (including an account for 

which a bank acts as directed trustee), 

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364See Rule 771. 

365See Rule 775. 

366See Rule 772. 

367See Rule 780. 

368 Id. 

369See Rule 781. 

370See infra at VIII.A.1.d., VIII.A.2.d., and 

VIII.A.3.d. 

371 $68/hour figure for a clerk (e.g. compliance 

clerk) is from the Securities Industry Association 

(now SIFMA) Report on Office Salaries in the 

Securities Industry 2005, modified to account for an 

1800-hour work-year and multiplied by 2.93 to 

account for bonuses, firm size, employee benefits 

and overhead. 

372For example, banks may incur start-up costs 

in the process of reviewing or developing their 

networking arrangements in line with the 

requirements of the rules. See supra at VIII.B.2.a. 

In addition, there likely will be costs for developing 

systems for making determinations regarding 

compliance with advertising and compensation 

restrictions pursuant to the rules regarding 

safekeeping and custody. See supra at VIII.B.2.d. 

or, in some cases, for which the bank 

acts as a subcustodian or a nonfiduciary administrator or recordkeeper. 

Specifically, this custody exemption 

(Rule 760) allows banks, subject to 

certain conditions, to accept orders for 

securities transactions from employee 

benefit plan accounts and individual 

retirement and similar accounts for 

which the bank acts as a custodian. In 

addition, the exemption allows banks, 

subject to certain conditions, to accept 

orders for securities transactions on an 

accommodation basis from other types 

of custodial accounts. This exemption 

allows banks to accept orders from 

custody accounts while imposing 

conditions designed to prevent a bank 

from operating a brokerage business out 

of its custody department. 

The exemption is designed to benefit 

banks by permitting certain order-taking 

activities for securities transactions. 

While banks may incur some costs in 

complying with the conditions 

contained in the exemption, such as 

developing systems for making 

determinations regarding compliance 

with advertising and compensation 

restrictions, the Agencies believe the 

conditions contained in the rules are 

consistent with the practices of banks 

and any costs will only be imposed on 

banks that choose to utilize the 

exemption. 

e. Other Rules 

The Agencies are also adopting 

certain special purpose exemptions. 

Specifically, we are adopting an 

exemption that permits banks to effect 

transactions in Regulation S securities 

with non-U.S. persons or registered 

broker-dealers.364 Another exemption 

also allows, under certain conditions, a 

bank to effect transactions in investment 

company securities and variable life 

insurance and variable annuities 

through the National Securities Clearing 

Corporation or directly with a transfer 

agent or insurance company or separate 

account that is excluded from the 

definition of transfer agent, instead of 

through a broker-dealer.365 In addition, 

an exemption permits banks that rely on 

certain exceptions and exemptions to 

effect certain transactions involving the 

securities of a company for the 

company’s employee benefit plans and 

participants through the National 

Securities Clearing Corporation or 

directly with a transfer agent or 

insurance company or separate account 

that is excluded from the definition of 

transfer agent, instead of through a 

broker-dealer. An additional exemption 

permits a bank, as agent, to effect 

securities lending transactions (and 

engage in related securities lending 

services) for securities that they do not 

hold in custody with or on behalf of a 

person the bank reasonably believes is 

a qualified investor (as defined in 

Section 3(a)(54)(A) of the Exchange Act) 

or any employee benefit plan that owns 

and invests on a discretionary basis at 

least $25 million in investments.366 We 

also are extending the exemption from 

rescission liability under Exchange Act 

Section 29 to contracts entered into by 

banks acting in a broker capacity until 

a date that is 18 months after the 

effective date of the final rule.367 This 

exemption also provides, under certain 

circumstances, protections from 

rescission liability under Exchange Act 

Section 29 resulting solely from a bank’s 

status as a broker, if the bank has acted 

in good faith, adopted reasonable 

policies and procedures, and any 

violation of broker registration 

requirements did not result in 

significant harm or financial loss to the 

person seeking to void the contract.368

Finally, we are issuing a temporary 

general exemption from the definition of 

‘‘broker’’ under Section 3(a)(4) of the 

Exchange Act until the first day of a 

bank’s first fiscal year commencing after 

September 30, 2008.369

The Agencies believe these provisions 

offer a number of benefits to banks and 

their customers. In particular, the 

Regulation S exemption helps ensure 

that U.S. banks that effect transactions 

in Regulation S securities with non-U.S. 

customers will be more competitive 

with foreign banks or other entities that 

offer those services without being 

registered as broker-dealers. The 

exemption from rescission liability 

under Exchange Act Section 29 also 

provides banks some legal certainty, 

both temporarily and on a permanent 

basis, as they conduct their securities 

activities. The exemption related to 

securities lending services enables 

banks to engage in the types of services 

in which they currently engage thereby 

minimizing compliance costs, while 

providing the banks’ customers with 

continuity of service. The temporary 

general exemption from the definition of 

‘‘broker’’ also benefits banks by 

providing them with an adequate period 

of time to transition to the requirements 

under the statute and the rules. 

The Agencies estimate that the costs 

of these exemptions will be minimal 

and are justified by the benefits the 

exemptions offer. For example, the 

Regulation S exemption may impose 

certain costs on banks that are designed 

to ensure that they remain in 

compliance with the conditions under 

the exemption. In particular, the 

exemption permits banks to rely on the 

exemption only for transactions in 

‘‘eligible securities’’ and with either 

broker-dealers or purchasers who are 

not U.S. persons within the meaning of 

Section 903 of Regulation S. Banks may 

incur certain administrative costs to 

ensure that a transaction meets these 

requirements. Nevertheless, the 

exemption is an accommodation to 

banks that wish to effect transactions in 

Regulation S securities and, as a result, 

the compliance costs will be imposed 

only on those banks that believe that it 

is in their best business interests to take 

advantage of the exemption. 

Given that Exchange Act Section 29 is 

rarely used as a remedy, we do not 

anticipate that this exemption will 

impose significant costs on the industry 

or on investors. 

3. General Costs and Benefits 

Based on the burden hours discussed 

in the Paperwork Reduction Act 

Analysis section, supra, the Agencies 

expect the ongoing requirements of the 

rules to result in a total of 50,375 annual 

burden hours for banks and 9583 annual 

burden hours for broker-dealers, for a 

grand total of 59,958 annual burden 

hours.370 The Agencies estimate that the 

hourly costs for these burden hours will 

be approximately $68 per hour.371

Therefore, the annual total costs will be 

approximately $4,077,144. 

In addition to the costs associated 

with burden hours discussed in the 

Paperwork Reduction Act Analysis 

section, supra, the Agencies expect that 

many banks also could incur start-up 

costs for legal and other professional 

services.372 Many banks will utilize 

their in-house counsel, accountants, 

compliance officers, and programmers 

in an effort to achieve compliance with 

the rules. Industry sources indicate the 

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373The hourly figures for an attorney, 

intermediate account, and compliance manager is 

from the SIA Report on Management & Professional 

Earnings in the Securities Industry 2005, modified 

to account for an 1800-hour work-year and 

multiplied by 5.35 to account for bonuses, firm size, 

employee benefits and overhead. 374Some banks may choose to utilize outside 

counsel, either exclusively or as a supplement to inhouse resources. The Agencies estimate these costs 

as being similar to the in-house costs (Industry 

sources indicate the following hourly costs for 

hiring external workers: Attorneys—$400, 

accountant—$250, auditor—$250, and 

programmer—$160.). 

375See Fiserv Letter, Colorado Trust Letter. 

376 15 U.S.C. 78c(f). 

377 15 U.S.C. 78w(a)(2). 

378 5 U.S.C. 604. 

379 15 U.S.C. 78c(a)(4). 

following hourly labor costs: 

Attorneys—$324 per hour, intermediate 

accountants—$162 per hour, 

compliance manager—$205 per hour, 

and senior programmer—$268.373

Taking an average of these professional 

costs, the Agencies estimate a general 

hourly in-house labor cost of $240 per 

hour for professional services. 

Based on our expectation that most 

start-up costs will involve bringing 

systems into compliance and that many 

banks will be able to do so either using 

existing systems or by slightly 

modifying existing systems, the 

Agencies estimate that the rules will 

require banks to utilize an average of 30 

hours of professional services. The 

Agencies expect that most banks 

affected by the rules will either use inhouse counsel or employees resulting in 

an average total cost of $7,200 per 

affected bank.374 The Agencies estimate 

that the rules will apply to 

approximately 9,475 banks and 

approximately 25 percent of these banks 

will incur more than a de minimis cost. 

Using these values, the Agencies 

estimate total start-up costs of 

$17,055,000 (9,475 × .25 × $7,200). As 

previously discussed, the Agencies have 

sought to minimize these costs to the 

extent possible consistent with the 

language and purposes of the GLBA. 

Two commenters stated that the 

Agencies’ estimates of hourly rates in 

the proposal were fair, but that the 

estimates of the time requirements were 

too low. These commenters estimated 

startup costs of between $43,000 and 

$55,000.375 In addition, these 

commenters estimated ongoing costs to 

be between $60,000 and $95,000 per 

year. Based on these commenters’

estimates, startup costs would range 

from $101.9 million (9475 banks × 0.25 

affected × $43,000) to $130.3 million 

(9475 × 0.25 × $55,000), and a range of 

annual ongoing costs of $142.1 million 

(9475 × 0.25 × $60,000) to $225 million 

(9475 × 0.25 × $95,000). The Agencies, 

however, believe that these cost 

estimates are not representative of the 

costs for the majority of banks affected 

by Regulation R. The Agencies received 

approximately 60 comments, primarily 

from banks and banking industry 

groups, and the comments generally 

were favorable. Only these two 

commenters stated that the Agencies 

had underestimated start-up and 

continuing compliance costs. The 

Agencies therefore believe that the 

estimates in the proposal reflect the 

costs that the majority of the banks 

affected by the rules are likely, on 

average, to incur, and are appropriately 

used to estimate the overall compliance 

costs of Regulation R. 

The Agencies believe that the rules 

will provide greater legal certainty for 

banks in connection with their 

determination of whether they meet the 

terms and conditions for an exception to 

the definition of broker under the 

Exchange Act as well as provide 

additional relief through the 

exemptions. Without the rules, banks 

may have difficulty planning their 

businesses and determining whether 

their operations are in compliance with 

the GLBA. This, in turn, could hamper 

their business. The Agencies anticipate 

these benefits will be useful to banks in 

a number of ways. 

The Agencies expect that one 

component of the benefits to banks will 

be savings in legal fees, given that 

difficulties in interpreting the GLBA 

absent any regulatory guidance could 

result in the need for greater input from 

outside counsel. Based on the number of 

interpretive issues raised by the GLBA, 

the Agencies estimate that, absent any 

regulatory guidance, banks on average 

will use the services of outside counsel 

for approximately 25 more hours for the 

initial year and 5 more hours per year 

thereafter, than with the existence of the 

rules. Industry sources indicate that the 

hourly costs for hiring outside counsel 

are approximately $400 per hour. The 

rules will therefore result in an average 

total cost savings of approximately 

$10,000 per affected bank per year 

during the initial year and $2,000 per 

affected bank per year thereafter. The 

Agencies estimate that the rules will 

apply to approximately 9,475 banks and 

approximately 25 percent of these banks 

will enjoy more than a de minimis cost 

savings benefit. Using these values, the 

Agencies estimate a cost savings related 

to reduced legal fees of $23,687,500 

(9,475 × 0.25 × $10,000) for the initial 

year and $4,737,500 (9,475 × 0.25 × 

$2,000) per year thereafter. 

The Agencies believe that the benefits 

of Regulation R justify the costs. 

C. Consideration of Burden on 

Competition, and on Promotion of 

Efficiency, Competition, and Capital 

Formation 

Exchange Act Section 3(f) requires the 

Commission, whenever it engages in 

rulemaking and is required to consider 

or determine if an action is necessary or 

appropriate in the public interest, to 

consider whether the action will 

promote efficiency, competition, and 

capital formation.376 Exchange Act 

Section 23(a)(2) requires the 

Commission, in adopting rules under 

that Act, to consider the impact that any 

such rule will have on competition. 

This Section also prohibits the 

Commission from adopting any rule that 

will impose a burden on competition 

not necessary or appropriate in 

furtherance of the purposes of the 

Exchange Act.377

The Agencies have designed the 

interpretations, definitions, and 

exemptions to minimize any burden on 

competition. Indeed, the Agencies 

believe that by providing legal certainty 

to banks that conduct securities 

activities, by clarifying the GLBA 

requirements, and by exempting a 

number of activities from those 

requirements, the rules allow banks to 

continue to conduct securities activities 

consistent with the GLBA. 

The rules define terms in the statutory 

exceptions to the definition of broker 

added to the Exchange Act by Congress 

in the GLBA, and provide guidance to 

banks as to the appropriate scope of 

those exceptions. In addition, the rules 

contain a number of exemptions that 

provide banks flexibility in conducting 

their securities activities, which will 

promote competition and reduce costs. 

D. Final Regulatory Flexibility Analysis 

The Agencies have prepared a Final 

Regulatory Flexibility Analysis 

(‘‘FRFA’’), in accordance with the 

provisions of the Regulatory Flexibility 

Act (‘‘RFA’’),378 regarding the rules. 

1. Reasons for the Action 

Section 201 of the GLBA amended the 

definition of ‘‘broker’’ in Section 3(a)(4) 

of the Exchange Act to replace a blanket 

exemption from that term for ‘‘banks,’’

as defined in Section 3(a)(6) of the 

Exchange Act. Congress replaced this 

blanket exemption with eleven specific 

exceptions for securities activities 

conducted by banks.379 On October 13, 

2006, President Bush signed into law 

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380Pub. L. No. 109–351, 120 Stat. 1966 (2006). 

381See Exchange Act Section 3(a)(4)(F), as added 

by Section 101 of the Regulatory Relief Act. The 

Regulatory Relief Act also requires that the Board 

and SEC consult with, and seek the concurrence of, 

the OCC, FDIC and OTS prior to jointly adopting 

final rules. As noted above, the Board and the SEC 

also have consulted extensively with the OCC, FDIC 

and OTS in developing these joint rules. 

382See 15 U.S.C. 78c(a)(6); Pub. L. No. 109–351, 

120 Stat. 1966 (2006). 

383Small Business Administration regulations 

define ‘‘small entities’’ to include banks and savings 

associations with total assets of $165 million or 

less. 13 CFR 121.201. 

384See ICBA Letter. 

385The Agencies’ estimates related to 

recordkeeping and disclosure are detailed in the 

‘‘Paperwork Reduction Act Analysis’’ Section of 

this Release. 

386 5 U.S.C. 604(a). 

the Regulatory Relief Act.380 Section 

101 of that Act, among other things, 

requires the Agencies jointly to issue a 

single set of rules implementing the 

bank broker exceptions in Section 

3(a)(4) of the Exchange Act.381 These 

rules are being adopted by the Agencies 

to fulfill this requirement. The rules are 

designed generally to provide guidance 

on the GLBA’s bank exceptions from the 

definition of broker in Exchange Act 

Section 3(a)(4) and to provide 

conditional exemptions from the broker 

definition consistent with the purposes 

of the Exchange Act and the GLBA. 

2. Objectives 

The rules provide guidance to the 

industry with respect to the GLBA 

requirements. The rules also provide 

certain conditional exemptions from the 

broker definition to allow banks to 

perform certain securities activities. The 

Supplementary Information section, 

supra, contains more detailed 

information on the objectives of the 

rules. 

3. Legal Basis 

Pursuant to Section 101 of the 

Regulatory Relief Act, the Agencies are 

issuing the rules. 

4. Small Entities Subject to the Rule 

The rules apply to ‘‘banks,’’ which is 

defined in Section 3(a)(6) of the 

Exchange Act to include banking 

institutions organized in the United 

States, including members of the 

Federal Reserve System, Federal savings 

associations, as defined in Section 2(5) 

of the Home Owners’ Loan Act, and 

other commercial banks, savings 

associations, and nondepository trust 

companies that are organized under the 

laws of a state or the United States and 

subject to supervision and examination 

by state or federal authorities having 

supervision over banks and savings 

associations.382 Congress did not 

exempt small entity banks from the 

application of the GLBA. Moreover, 

because the rules are intended to 

provide guidance to, and exemptions 

for, all banks that are subject to the 

GBLA, the Agencies determined that it 

would not be appropriate or necessary 

to exempt small entity banks from the 

operation of the rules. The rules 

generally apply to all banks, including 

banks that would be considered small 

entities (i.e., banks with total assets of 

$165 million or less) for purposes of the 

RFA.383 The Agencies, however, have 

adopted several interpretations or 

exceptions that likely will be 

particularly useful for small banks such 

as, for example, the fixed inflationadjusted dollar alternative to the 

‘‘nominal’’ requirement in the 

networking exception and the exception 

in Rule 723 from the chiefly 

compensated test for a de minimis 

number of trust or fiduciary accounts. 

The Agencies estimate that the rules 

will apply to approximately 9,475 

banks, approximately 5,816 of which 

could be considered small banks with 

assets of $165 million or less. Moreover, 

we do not anticipate any significant 

costs to small entity banks as a result of 

the rules. We note that a trade 

association whose membership consists 

primarily of small banking organizations 

indicated that small banks would be 

able to comply with the rules as 

proposed without significantly altering 

their activities.384

5. Reporting, Recordkeeping and Other 

Compliance Requirements 

The rules will not impose any 

significant reporting, recordkeeping, or 

other compliance requirements on 

banks that are small entities.385

6. Duplicative, Overlapping, or 

Conflicting Federal Rules 

The Agencies believe that no other 

rules duplicate, overlap, or conflict with 

the final rules. 

7. Significant Alternatives 

Pursuant to Section 3(a) of the 

RFA,386 the Agencies must consider the 

following types of alternatives: (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 rules, or any part 

thereof, for small entities. 

As discussed above, the GLBA does 

not exempt small entity banks from the 

Exchange Act broker registration 

requirements and because the rules are 

intended to provide guidance to, and 

exemptions for, all banks that are 

subject to the GLBA and are designed to 

accommodate the business practices of 

all banks (including small entity banks), 

the Agencies determined that it would 

not be appropriate or necessary to 

exempt small entity banks from the 

operation of the rules. Moreover, 

providing one or more special 

exemptions for small banks could place 

broker-dealers, including small brokerdealers, or larger banks at a competitive 

disadvantage versus small banks. 

The rules are intended to clarify and 

simplify compliance with the GLBA by 

providing guidance with respect to 

exceptions and by providing additional 

exemptions. As such, the rules are 

expected to facilitate compliance by 

banks of all sizes, including small entity 

banks. 

The Agencies do not believe that it is 

necessary to consider whether small 

entity banks should be permitted to use 

performance rather than design 

standards to comply with the rules 

because the rules already use 

performance standards. Moreover, the 

rules 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 rules. 

E. Plain Language 

Section 722 of the GLBA (12 U.S.C. 

4809) requires the Board to use plain 

language in all proposed and final rules 

published by the Board after January 1, 

2000. The Board believes the rules, to 

the maximum extent possible, are 

presented in a simple and 

straightforward manner. 

X. Statutory Authority 

Pursuant to authority set forth in the 

Exchange Act and particularly Sections 

3(a)(4), 3(b), 15, 17, 23(a), and 36 thereof 

(15 U.S.C. 78c(a)(4), 78c(b), 78o, 78q, 

78w(a), and 78mm, respectively) the 

Commission is repealing by operation of 

statute current Rules 3a4–2, 3a4–3, 3a4–

4, 3a4–5, 3a4–6, and 3b–17 (§§ 240.3a4–

2, 240.3a4–3, 240.3a4–4, 240.3a4–5, 

240.3a4–6, and 240.3b–17, respectively). 

The Commission is repealing Exchange 

Act Rules 15a–7 and 15a–8 (§ 240.15a–

7 and § 240.15a–8, respectively). The 

Commission, jointly with the Board of 

Governors of the Federal Reserve 

System, is also adopting new Rules 700, 

701, 721, 722, 723, 740, 741, 760, 771, 

772, 775, 776, 780, and 781 under the 

Exchange Act (§§ 247.700, 247.701, 

247.721, 247.722, 247.723, 247.740, 

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56554 Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 

247.741, 247.760, 247.771, 247.772, 

247.775, 247.776, 247.780, and 247.881, 

respectively). 

XI. Text of Rules and Rule Amendment 

List of Subjects 

12 CFR Part 218 

Banks, Brokers, Securities. 

17 CFR Part 240 

Broker-dealers, Reporting and 

recordkeeping requirements, Securities. 

17 CFR Part 247 

Banks, Brokers, Securities. 

Federal Reserve System 

Authority and Issuance 

■ For the reasons set forth in the 

preamble, the Board amends Title 12, 

Chapter II of the Code of Federal 

Regulations by adding a new Part 218 as 

set forth under Common Rules at the 

end of this document: 

PART 218—EXCEPTIONS FOR BANKS 

FROM THE DEFINITION OF BROKER 

IN THE SECURITIES EXCHANGE ACT 

OF 1934 (REGULATION R) 

Sec. 

218.100 Definition. 

218.700 Defined terms relating to the 

networking exception from the definition 

of ‘‘broker.’’

218.701 Exemption from the definition of 

‘‘broker’’ for certain institutional 

referrals. 

218.721 Defined terms relating to the trust 

and fiduciary activities exception from 

the definition of ‘‘broker.’’

218.722 Exemption allowing banks to 

calculate trust and fiduciary 

compensation on a bank-wide basis. 

218.723 Exemptions for special accounts, 

transferred accounts, and a de minimis 

number of accounts. 

218.740 Defined terms relating to the sweep 

accounts exception from the definition of 

‘‘broker.’’

218.741 Exemption for banks effecting 

transactions in money market funds. 

218.760 Exemption from definition of 

‘‘broker’’ for banks accepting orders to 

effect transactions in securities from or 

on behalf of custody accounts. 

218.771 Exemption from the definition of 

‘‘broker’’ for banks effecting transactions 

in securities issued pursuant to 

Regulation S. 

218.772 Exemption from the definition of 

‘‘broker’’ for banks engaging in securities 

lending transactions. 

218.775 Exemption from the definition of 

‘‘broker’’ for banks effecting certain 

excepted or exempted transactions in 

investment company securities. 

218.776 Exemption from the definition of 

‘‘broker’’ for banks effecting certain 

excepted or exempted transactions in a 

company’s securities for its employee 

benefit plans. 

218.780 Exemption for banks from liability 

under section 29 of the Securities 

Exchange Act of 1934. 

218.781 Exemption from the definition of 

‘‘broker’’ for banks for a limited period 

of time. 

Authority: 15 U.S.C. 78c(a)(4)(F). 

Securities and Exchange Commission 

Authority and Issuance 

■ For the reasons set forth in the 

preamble, the Commission amends Title 

17, Chapter II of the Code of Federal 

Regulations as follows: 

PART 240—GENERAL RULES AND 

REGULATIONS, SECURITIES 

EXCHANGE ACT OF 1934 

■ 1. The authority citation for part 240 

continues to read, in part, as follows: 

Authority: 15 U.S.C. 77c, 77d, 77g, 77j, 

77s, 77z–2, 77z–3, 77eee, 77ggg, 77nnn, 

77sss, 77ttt, 78c, 78d, 78e, 78f, 78g, 78i, 78j, 

78j–1, 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, 

80b–11, and 7201 et seq.; and 18 U.S.C. 1350, 

unless otherwise noted. 

§§ 240.3a4–2 through 240.3a4–6, 240.3b–17, 

240.15a–7, and 240.15a–8 [Removed and 

Reserved] 

■ 2. Sections 240.3a4–2 through 

240.3a4–6, 240.3b–17, 240.15a–7, and 

240.15a–8 are removed and reserved. 

■ 3. Part 247 is added as set forth under 

Common Rules at the end of this 

document: 

PART 247—REGULATION R—

EXEMPTIONS AND DEFINITIONS 

RELATED TO THE EXCEPTIONS FOR 

BANKS FROM THE DEFINITION OF 

BROKER 

Sec. 

247.100 Definition. 

247.700 Defined terms relating to the 

networking exception from the definition 

of ‘‘broker.’’

247.701 Exemption from the definition of 

‘‘broker’’ for certain institutional 

referrals. 

247.721 Defined terms relating to the trust 

and fiduciary activities exception from 

the definition of ‘‘broker.’’

247.722 Exemption allowing banks to 

calculate trust and fiduciary 

compensation on a bank-wide basis. 

247.723 Exemptions for special accounts, 

transferred accounts, and a de minimis 

number of accounts. 

247.740 Defined terms relating to the sweep 

accounts exception from the definition of 

‘‘broker.’’

247.741 Exemption for banks effecting 

transactions in money market funds. 

247.760 Exemption from definition of 

‘‘broker’’ for banks accepting orders to 

effect transactions in securities from or 

on behalf of custody accounts. 

247.771 Exemption from the definition of 

‘‘broker’’ for banks effecting transactions 

in securities issued pursuant to 

Regulation S. 

247.772 Exemption from the definition of 

‘‘broker’’ for banks engaging in securities 

lending transactions. 

247.775 Exemption from the definition of 

‘‘broker’’ for banks effecting certain 

excepted or exempted transactions in 

investment company securities. 

247.776 Exemption from the definition of 

‘‘broker’’ for banks effecting certain 

excepted or exempted transactions in a 

company’s securities for its employee 

benefit plans. 

247.780 Exemption for banks from liability 

under section 29 of the Securities 

Exchange Act of 1934. 

247.781 Exemption from the definition of 

‘‘broker’’ for banks for a limited period 

of time. 

Authority: 15 U.S.C. 78c, 78o, 78q, 78w, 

and 78mm. 

Common Rules 

The common rules that are adopted 

by the Commission as Part 247 of Title 

17, Chapter II of the Code of Federal 

Regulations and by the Board as Part 

218 of Title 12, Chapter II of the Code 

of Federal Regulations follow: 

§ll.100 Definition. 

For purposes of this part the following 

definition shall apply: Act means the 

Securities Exchange Act of 1934 (15 

U.S.C. 78a et seq.). 

§ll.700 Defined terms relating to the 

networking exception from the definition of 

‘‘broker.’’

When used with respect to the Third 

Party Brokerage Arrangements 

(‘‘Networking’’) Exception from the 

definition of the term ‘‘broker’’ in 

section 3(a)(4)(B)(i) of the Act (15 U.S.C. 

78c(a)(4)(B)(i)) in the context of 

transactions with a customer, the 

following terms shall have the meaning 

provided: 

(a) Contingent on whether the referral 

results in a transaction means 

dependent on whether the referral 

results in a purchase or sale of a 

security; whether an account is opened 

with a broker or dealer; whether the 

referral results in a transaction 

involving a particular type of security; 

or whether it results in multiple 

securities transactions; provided, 

however, that a referral fee may be 

contingent on whether a customer: 

(1) Contacts or keeps an appointment 

with a broker or dealer as a result of the 

referral; or 

(2) Meets any objective, base-line 

qualification criteria established by the 

bank or broker or dealer for customer 

referrals, including such criteria as 

minimum assets, net worth, income, or 

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Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 56555 

marginal federal or state income tax 

rate, or any requirement for citizenship 

or residency that the broker or dealer, or 

the bank, may have established 

generally for referrals for securities 

brokerage accounts. 

(b)(1) Incentive compensation means 

compensation that is intended to 

encourage a bank employee to refer 

customers to a broker or dealer or give 

a bank employee an interest in the 

success of a securities transaction at a 

broker or dealer. The term does not 

include compensation paid by a bank 

under a bonus or similar plan that is: 

(i) Paid on a discretionary basis; and 

(ii) Based on multiple factors or 

variables and: 

(A) Those factors or variables include 

multiple significant factors or variables 

that are not related to securities 

transactions at the broker or dealer; 

(B) A referral made by the employee 

is not a factor or variable in determining 

the employee’s compensation under the 

plan; and 

(C) The employee’s compensation 

under the plan is not determined by 

reference to referrals made by any other 

person. 

(2) Nothing in this paragraph (b) shall 

be construed to prevent a bank from 

compensating an officer, director or 

employee under a bonus or similar plan 

on the basis of any measure of the 

overall profitability or revenue of: 

(i) The bank, either on a stand-alone 

or consolidated basis; 

(ii) Any affiliate of the bank (other 

than a broker or dealer), or any 

operating unit of the bank or an affiliate 

(other than a broker or dealer), if the 

affiliate or operating unit does not over 

time predominately engage in the 

business of making referrals to a broker 

or dealer; or 

(iii) A broker or dealer if: 

(A) Such measure of overall 

profitability or revenue is only one of 

multiple factors or variables used to 

determine the compensation of the 

officer, director or employee; 

(B) The factors or variables used to 

determine the compensation of the 

officer, director or employee include 

multiple significant factors or variables 

that are not related to the profitability or 

revenue of the broker or dealer; 

(C) A referral made by the employee 

is not a factor or variable in determining 

the employee’s compensation under the 

plan; and 

(D) The employee’s compensation 

under the plan is not determined by 

reference to referrals made by any other 

person. 

(c) Nominal one-time cash fee of a 

fixed dollar amount means a cash 

payment for a referral, to a bank 

employee who was personally involved 

in referring the customer to the broker 

or dealer, in an amount that meets any 

of the following standards: 

(1) The payment does not exceed: 

(i) Twice the average of the minimum 

and maximum hourly wage established 

by the bank for the current or prior year 

for the job family that includes the 

employee; or 

(ii) 1/1000th of the average of the 

minimum and maximum annual base 

salary established by the bank for the 

current or prior year for the job family 

that includes the employee; or 

(2) The payment does not exceed 

twice the employee’s actual base hourly 

wage or 1/1000th of the employee’s 

actual annual base salary; or 

(3) The payment does not exceed 

twenty-five dollars ($25), as adjusted in 

accordance with paragraph (f) of this 

section. 

(d) Job family means a group of jobs 

or positions involving similar 

responsibilities, or requiring similar 

skills, education or training, that a bank, 

or a separate unit, branch or department 

of a bank, has established and uses in 

the ordinary course of its business to 

distinguish among its employees for 

purposes of hiring, promotion, and 

compensation. 

(e) Referral means the action taken by 

one or more bank employees to direct a 

customer of the bank to a broker or 

dealer for the purchase or sale of 

securities for the customer’s account. 

(f) Inflation adjustment—(1) In 

general. On April 1, 2012, and on the 1st 

day of each subsequent 5-year period, 

the dollar amount referred to in 

paragraph (c)(3) of this section shall be 

adjusted by: 

(i) Dividing the annual value of the 

Employment Cost Index For Wages and 

Salaries, Private Industry Workers (or 

any successor index thereto), as 

published by the Bureau of Labor 

Statistics, for the calendar year 

preceding the calendar year in which 

the adjustment is being made by the 

annual value of such index (or 

successor) for the calendar year ending 

December 31, 2006; and 

(ii) Multiplying the dollar amount by 

the quotient obtained in paragraph 

(f)(1)(i) of this section. 

(2) Rounding. If the adjusted dollar 

amount determined under paragraph 

(f)(1) of this section for any period is not 

a multiple of $1, the amount so 

determined shall be rounded to the 

nearest multiple of $1. 

§ll.701 Exemption from the definition 

of ‘‘broker’’ for certain institutional 

referrals. 

(a) General. A bank that meets the 

requirements for the exception from the 

definition of ‘‘broker’’ under section 

3(a)(4)(B)(i) of the Act (15 U.S.C. 

78c(a)(4)(B)(i)), other than section 

3(a)(4)(B)(i)(VI) of the Act (15 U.S.C. 

78c(a)(4)(B)(i)(VI)), is exempt from the 

conditions of section 3(a)(4)(B)(i)(VI) of 

the Act solely to the extent that a bank 

employee receives a referral fee for 

referring a high net worth customer or 

institutional customer to a broker or 

dealer with which the bank has a 

contractual or other written arrangement 

of the type specified in section 

3(a)(4)(B)(i) of the Act, if: 

(1) Bank employee. (i) The bank 

employee is: 

(A) Not registered or approved, or 

otherwise required to be registered or 

approved, in accordance with the 

qualification standards established by 

the rules of any self-regulatory 

organization; 

(B) Predominantly engaged in banking 

activities other than making referrals to 

a broker or dealer; and 

(C) Not subject to statutory 

disqualification, as that term is defined 

in section 3(a)(39) of the Act (15 U.S.C. 

78c(a)(39)), except subparagraph (E) of 

that section; and 

(ii) The high net worth customer or 

institutional customer is encountered by 

the bank employee in the ordinary 

course of the employee’s assigned duties 

for the bank. 

(2) Bank determinations and 

obligations—(i) Disclosures. The bank 

provides the high net worth customer or 

institutional customer the information 

set forth in paragraph (b) of this section 

(A) In writing prior to or at the time 

of the referral; or 

(B) Orally prior to or at the time of the 

referral and 

(1) The bank provides such 

information to the customer in writing 

within 3 business days of the date on 

which the bank employee refers the 

customer to the broker or dealer; or 

(2) The written agreement between 

the bank and the broker or dealer 

provides for the broker or dealer to 

provide such information to the 

customer in writing in accordance with 

paragraph (a)(3)(i) of this section. 

(ii) Customer qualification. (A) In the 

case of a customer that is a not a natural 

person, the bank has a reasonable basis 

to believe that the customer is an 

institutional customer before the referral 

fee is paid to the bank employee. 

(B) In the case of a customer that is 

a natural person, the bank has a 

reasonable basis to believe that the 

customer is a high net worth customer 

prior to or at the time of the referral. 

(iii) Employee qualification 

information. Before a referral fee is paid 

to a bank employee under this section, 

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56556 Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 

the bank provides the broker or dealer 

the name of the employee and such 

other identifying information that may 

be necessary for the broker or dealer to 

determine whether the bank employee 

is registered or approved, or otherwise 

required to be registered or approved, in 

accordance with the qualification 

standards established by the rules of any 

self-regulatory organization or is subject 

to statutory disqualification, as that term 

is defined in section 3(a)(39) of the Act 

(15 U.S.C. 78c(a)(39)), except 

subparagraph (E) of that section. 

(iv) Good faith compliance and 

corrections. A bank that acts in good 

faith and that has reasonable policies 

and procedures in place to comply with 

the requirements of this section shall 

not be considered a ‘‘broker’’ under 

section 3(a)(4) of the Act (15 U.S.C. 

78c(a)(4)) solely because the bank fails 

to comply with the provisions of this 

paragraph (a)(2) with respect to a 

particular customer if the bank: 

(A) Takes reasonable and prompt 

steps to remedy the error (such as, for 

example, by promptly making the 

required determination or promptly 

providing the broker or dealer the 

required information); and 

(B) Makes reasonable efforts to 

reclaim the portion of the referral fee 

paid to the bank employee for the 

referral that does not, following any 

required remedial action, meet the 

requirements of this section and that 

exceeds the amount otherwise permitted 

under section 3(a)(4)(B)(i)(VI) of the Act 

(15 U.S.C. 78c(a)(4)(B)(i)(VI)) and 

§ ll.700. 

(3) Provisions of written agreement. 

The written agreement between the 

bank and the broker or dealer shall 

require that: 

(i) Broker-dealer written disclosures. 

If, pursuant to paragraph (a)(2)(i)(B)(2) 

of this section, the broker or dealer is to 

provide the customer in writing the 

disclosures set forth in paragraph (b) of 

this section, the broker or dealer 

provides such information to the 

customer in writing: 

(A) Prior to or at the time the 

customer begins the process of opening 

an account at the broker or dealer, if the 

customer does not have an account with 

the broker or dealer; or 

(B) Prior to the time the customer 

places an order for a securities 

transaction with the broker or dealer as 

a result of the referral, if the customer 

already has an account at the broker or 

dealer. 

(ii) Customer and employee 

qualifications. Before the referral fee is 

paid to the bank employee: 

(A) The broker or dealer determine 

that the bank employee is not subject to 

statutory disqualification, as that term is 

defined in section 3(a)(39) of the Act (15 

U.S.C. 78c(a)(39)), except subparagraph 

(E) of that section; and 

(B) The broker or dealer has a 

reasonable basis to believe that the 

customer is a high net worth customer 

or an institutional customer. 

(iii) Suitability or sophistication 

determination by broker or dealer—(A) 

Contingent referral fees. In any case in 

which payment of the referral fee is 

contingent on completion of a securities 

transaction at the broker or dealer, the 

broker or dealer, before such securities 

transaction is conducted, perform a 

suitability analysis of the securities 

transaction in accordance with the rules 

of the broker or dealer’s applicable selfregulatory organization as if the broker 

or dealer had recommended the 

securities transaction. 

(B) Non-contingent referral fees. In 

any case in which payment of the 

referral fee is not contingent on the 

completion of a securities transaction at 

the broker or dealer, the broker or 

dealer, before the referral fee is paid, 

either: 

(1) Determine that the customer: 

(i) Has the capability to evaluate 

investment risk and make independent 

decisions; and 

(ii) Is exercising independent 

judgment based on the customer’s own 

independent assessment of the 

opportunities and risks presented by a 

potential investment, market factors and 

other investment considerations; or 

(2) Perform a suitability analysis of all 

securities transactions requested by the 

customer contemporaneously with the 

referral in accordance with the rules of 

the broker or dealer’s applicable selfregulatory organization as if the broker 

or dealer had recommended the 

securities transaction. 

(iv) Notice to the customer. The 

broker or dealer inform the customer if 

the broker or dealer determines that the 

customer or the securities transaction(s) 

to be conducted by the customer does 

not meet the applicable standard set 

forth in paragraph (a)(3)(iii) of this 

section. 

(v) Notice to the bank. The broker or 

dealer promptly inform the bank if the 

broker or dealer determines that: 

(A) The customer is not a high net 

worth customer or institutional 

customer, as applicable; or 

(B) The bank employee is subject to 

statutory disqualification, as that term is 

defined in section 3(a)(39) of the Act (15 

U.S.C. 78c(a)(39)), except subparagraph 

(E) of that section. 

(b) Required disclosures. The 

disclosures provided to the high net 

worth customer or institutional 

customer pursuant to paragraphs 

(a)(2)(i) or (a)(3)(i) of this section shall 

clearly and conspicuously disclose 

(1) The name of the broker or dealer; 

and 

(2) That the bank employee 

participates in an incentive 

compensation program under which the 

bank employee may receive a fee of 

more than a nominal amount for 

referring the customer to the broker or 

dealer and payment of this fee may be 

contingent on whether the referral 

results in a transaction with the broker 

or dealer. 

(c) Receipt of other compensation. 

Nothing in this section prevents or 

prohibits a bank from paying or a bank 

employee from receiving any type of 

compensation that would not be 

considered incentive compensation 

under § ll.700(b)(1) or that is 

described in § ll.700(b)(2). 

(d) Definitions. When used in this 

section: 

(1) High net worth customer—(i) 

General. High net worth customer 

means: 

(A) Any natural person who, either 

individually or jointly with his or her 

spouse, has at least $5 million in net 

worth excluding the primary residence 

and associated liabilities of the person 

and, if applicable, his or her spouse; and 

(B) Any revocable, inter vivos or 

living trust the settlor of which is a 

natural person who, either individually 

or jointly with his or her spouse, meets 

the net worth standard set forth in 

paragraph (d)(1)(i)(A) of this section. 

(ii) Individual and spousal assets. In 

determining whether any person is a 

high net worth customer, there may be 

included in the assets of such person 

(A) Any assets held individually; 

(B) If the person is acting jointly with 

his or her spouse, any assets of the 

person’s spouse (whether or not such 

assets are held jointly); and 

(C) If the person is not acting jointly 

with his or her spouse, fifty percent of 

any assets held jointly with such 

person’s spouse and any assets in which 

such person shares with such person’s 

spouse a community property or similar 

shared ownership interest. 

(2) Institutional customer means any 

corporation, partnership, limited 

liability company, trust or other nonnatural person that has, or is controlled 

by a non-natural person that has, at 

least: 

(i) $10 million in investments; or 

(ii) $20 million in revenues; or 

(iii) $15 million in revenues if the 

bank employee refers the customer to 

the broker or dealer for investment 

banking services. 

(3) Investment banking services 

includes, without limitation, acting as 

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an underwriter in an offering for an 

issuer; acting as a financial adviser in a 

merger, acquisition, tender offer or 

similar transaction; providing venture 

capital, equity lines of credit, private 

investment-private equity transactions 

or similar investments; serving as 

placement agent for an issuer; and 

engaging in similar activities. 

(4) Referral fee means a fee (paid in 

one or more installments) for the referral 

of a customer to a broker or dealer that 

is: 

(i) A predetermined dollar amount, or 

a dollar amount determined in 

accordance with a predetermined 

formula (such as a fixed percentage of 

the dollar amount of total assets placed 

in an account with the broker or dealer), 

that does not vary based on: 

(A) The revenue generated by or the 

profitability of securities transactions 

conducted by the customer with the 

broker or dealer; or 

(B) The quantity, price, or identity of 

securities transactions conducted over 

time by the customer with the broker or 

dealer; or 

(C) The number of customer referrals 

made; or 

(ii) A dollar amount based on a fixed 

percentage of the revenues received by 

the broker or dealer for investment 

banking services provided to the 

customer. 

(e) Inflation adjustments—(1) In 

general. On April 1, 2012, and on the 1st 

day of each subsequent 5-year period, 

each dollar amount in paragraphs (d)(1) 

and (d)(2) of this section shall be 

adjusted by: 

(i) Dividing the annual value of the 

Personal Consumption Expenditures 

Chain-Type Price Index (or any 

successor index thereto), as published 

by the Department of Commerce, for the 

calendar year preceding the calendar 

year in which the adjustment is being 

made by the annual value of such index 

(or successor) for the calendar year 

ending December 31, 2006; and 

(ii) Multiplying the dollar amount by 

the quotient obtained in paragraph 

(e)(1)(i) of this section. 

(2) Rounding. If the adjusted dollar 

amount determined under paragraph 

(e)(1) of this section for any period is 

not a multiple of $100,000, the amount 

so determined shall be rounded to the 

nearest multiple of $100,000. 

§ll.721 Defined terms relating to the 

trust and fiduciary activities exception from 

the definition of ‘‘broker.’’

(a) Defined terms for chiefly 

compensated test. For purposes of this 

part and section 3(a)(4)(B)(ii) of the Act 

(15 U.S.C. 78c(a)(4)(B)(ii)), the following 

terms shall have the meaning provided: 

(1) Chiefly compensated—account-byaccount test. Chiefly compensated shall 

mean the relationship-total 

compensation percentage for each trust 

or fiduciary account of the bank is 

greater than 50 percent. 

(2) The relationship-total 

compensation percentage for a trust or 

fiduciary account shall be the mean of 

the yearly compensation percentage for 

the account for the immediately 

preceding year and the yearly 

compensation percentage for the 

account for the year immediately 

preceding that year. 

(3) The yearly compensation 

percentage for a trust or fiduciary 

account shall be 

(i) Equal to the relationship 

compensation attributable to the trust or 

fiduciary account during the year 

divided by the total compensation 

attributable to the trust or fiduciary 

account during that year, with the 

quotient expressed as a percentage; and 

(ii) Calculated within 60 days of the 

end of the year. 

(4) Relationship compensation means 

any compensation a bank receives 

attributable to a trust or fiduciary 

account that consists of: 

(i) An administration fee, including, 

without limitation, a fee paid—

(A) For personal services, tax 

preparation, or real estate settlement 

services; 

(B) For disbursing funds from, or for 

recording receipt of payments to, a trust 

or fiduciary account; 

(C) In connection with securities 

lending or borrowing transactions; 

(D) For custody services; or 

(E) In connection with an investment 

in shares of an investment company for 

personal service, the maintenance of 

shareholder accounts or any service 

described in paragraph (a)(4)(iii)(C) of 

this section; 

(ii) An annual fee (payable on a 

monthly, quarterly or other basis), 

including, without limitation, a fee paid 

for assessing investment performance or 

for reviewing compliance with 

applicable investment guidelines or 

restrictions; 

(iii) A fee based on a percentage of 

assets under management, including, 

without limitation, a fee paid 

(A) Pursuant to a plan under 

§ 270.12b–1; 

(B) In connection with an investment 

in shares of an investment company for 

personal service or the maintenance of 

shareholder accounts; 

(C) Based on a percentage of assets 

under management for any of the 

following services—

(I) Providing transfer agent or subtransfer agent services for beneficial 

owners of investment company shares; 

(II) Aggregating and processing 

purchase and redemption orders for 

investment company shares; 

(III) Providing beneficial owners with 

account statements showing their 

purchases, sales, and positions in the 

investment company; 

(IV) Processing dividend payments for 

the investment company; 

(V) Providing sub-accounting services 

to the investment company for shares 

held beneficially; 

(VI) Forwarding communications 

from the investment company to the 

beneficial owners, including proxies, 

shareholder reports, dividend and tax 

notices, and updated prospectuses; or 

(VII) Receiving, tabulating, and 

transmitting proxies executed by 

beneficial owners of investment 

company shares; 

(D) Based on the financial 

performance of the assets in an account; 

or 

(E) For the types of services described 

in paragraph (a)(4)(i)(C) or (D) of this 

section if paid based on a percentage of 

assets under management; 

(iv) A flat or capped per order 

processing fee, paid by or on behalf of 

a customer or beneficiary, that is equal 

to not more than the cost incurred by 

the bank in connection with executing 

securities transactions for trust or 

fiduciary accounts; or 

(v) Any combination of such fees. 

(6) Trust or fiduciary account means 

an account for which the bank acts in 

a trustee or fiduciary capacity as defined 

in section 3(a)(4)(D) of the Act (15 

U.S.C. 78c(a)(4)(D)). 

(7) Year means a calendar year, or 

fiscal year consistently used by the bank 

for recordkeeping and reporting 

purposes. 

(b) Revenues derived from 

transactions conducted under other 

exceptions or exemptions. For purposes 

of calculating the yearly compensation 

percentage for a trust or fiduciary 

account, a bank may at its election 

exclude the compensation associated 

with any securities transaction 

conducted in accordance with the 

exceptions in section 3(a)(4)(B)(i) or 

sections 3(a)(4)(B)(iii)–(xi) of the Act (15 

U.S.C. 78c(a)(4)(B)(i) or 78c(a)(4)(B)(iii)–

(xi)) and the rules issued thereunder, 

including any exemption related to such 

exceptions jointly adopted by the 

Commission and the Board, provided 

that if the bank elects to exclude such 

compensation, the bank must exclude 

the compensation from both the 

relationship compensation (if 

applicable) and total compensation for 

the account. 

(c) Advertising restrictions—

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56558 Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 

(1) In general. A bank complies with 

the advertising restriction in section 

3(a)(4)(B)(ii)(II) of the Act (15 U.S.C. 

78c(a)(4)(B)(ii)(II)) if advertisements by 

or on behalf of the bank do not 

advertise—

(i) That the bank provides securities 

brokerage services for trust or fiduciary 

accounts except as part of advertising 

the bank’s broader trust or fiduciary 

services; and 

(ii) The securities brokerage services 

provided by the bank to trust or 

fiduciary accounts more prominently 

than the other aspects of the trust or 

fiduciary services provided to such 

accounts. 

(2) Advertisement. For purposes of 

this section, the term advertisement has 

the same meaning as in § ll.760(g)(2). 

§ll.722 Exemption allowing banks to 

calculate trust and fiduciary compensation 

on a bank-wide basis. 

(a) General. A bank is exempt from 

meeting the ‘‘chiefly compensated’’

condition in section 3(a)(4)(B)(ii)(I) of 

the Act (15 U.S.C. 78c(a)(4)(B)(ii)(I)) to 

the extent that it effects transactions in 

securities for any account in a trustee or 

fiduciary capacity within the scope of 

section 3(a)(4)(D) of the Act (15 U.S.C. 

78c(a)(4)(D)) if: 

(1) The bank meets the other 

conditions for the exception from the 

definition of the term ‘‘broker’’ under 

sections 3(a)(4)(B)(ii) and 3(a)(4)(C) of 

the Act (15 U.S.C. 78c(a)(4)(B)(ii) and 15 

U.S.C. 78c(a)(4)(C)), including the 

advertising restrictions in section 

3(a)(4)(B)(ii)(II) of the Act (15 U.S.C. 

78c(a)(4)(B)(ii)(II) as implemented by 

§ l.721(c); and 

(2) The aggregate relationship-total 

compensation percentage for the bank’s 

trust and fiduciary business is at least 

70 percent. 

(b) Aggregate relationship-total 

compensation percentage. For purposes 

of this section, the aggregate 

relationship-total compensation 

percentage for a bank’s trust and 

fiduciary business shall be the mean of 

the bank’s yearly bank-wide 

compensation percentage for the 

immediately preceding year and the 

bank’s yearly bank-wide compensation 

percentage for the year immediately 

preceding that year. 

(c) Yearly bank-wide compensation 

percentage. For purposes of this section, 

a bank’s yearly bank-wide compensation 

percentage for a year shall be 

(1) Equal to the relationship 

compensation attributable to the bank’s 

trust and fiduciary business as a whole 

during the year divided by the total 

compensation attributable to the bank’s 

trust and fiduciary business as a whole 

during that year, with the quotient 

expressed as a percentage; and 

(2) Calculated within 60 days of the 

end of the year. 

(d) Revenues derived from 

transactions conducted under other 

exceptions or exemptions. For purposes 

of calculating the yearly compensation 

percentage for a trust or fiduciary 

account, a bank may at its election 

exclude the compensation associated 

with any securities transaction 

conducted in accordance with the 

exceptions in section 3(a)(4)(B)(i) or 

sections 3(a)(4)(B)(iii)–(xi) of the Act (15 

U.S.C. 78c(a)(4)(B)(i) or 78c(a)(4)(B)(iii)–

(xi)) and the rules issued thereunder, 

including any exemption related to such 

sections jointly adopted by the 

Commission and the Board, provided 

that if the bank elects to exclude such 

compensation, the bank must exclude 

the compensation from both the 

relationship compensation (if 

applicable) and total compensation of 

the bank. 

§ll.723 Exemptions for special 

accounts, transferred accounts, foreign 

branches and a de minimis number of 

accounts. 

(a) Short-term accounts. A bank may, 

in determining its compliance with the 

chiefly compensated test in 

§ ll.721(a)(1) or § ll.722(a)(2), 

exclude any trust or fiduciary account 

that had been open for a period of less 

than 3 months during the relevant year. 

(b) Accounts acquired as part of a 

business combination or asset 

acquisition. For purposes of 

determining compliance with the 

chiefly compensated test in 

§ ll.721(a)(1) or § ll.722(a)(2), any 

trust or fiduciary account that a bank 

acquired from another person as part of 

a merger, consolidation, acquisition, 

purchase of assets or similar transaction 

may be excluded by the bank for 12 

months after the date the bank acquired 

the account from the other person. 

(c) Non-shell foreign branches—(1) 

Exemption. For purposes of determining 

compliance with the chiefly 

compensated test in § ll.722(a)(2), a 

bank may exclude the trust or fiduciary 

accounts held at a non-shell foreign 

branch of the bank if the bank has 

reasonable cause to believe that trust or 

fiduciary accounts of the foreign branch 

held by or for the benefit of a U.S. 

person as defined in 17 CFR 230.902(k) 

constitute less than 10 percent of the 

total number of trust or fiduciary 

accounts of the foreign branch. 

(2) Rules of construction. Solely for 

purposes of this paragraph (c), a bank 

will be deemed to have reasonable cause 

to believe that a trust or fiduciary 

account of a foreign branch of the bank 

is not held by or for the benefit of a U.S. 

person if 

(i) The principal mailing address 

maintained and used by the foreign 

branch for the accountholder(s) and 

beneficiary(ies) of the account is not in 

the United States; or 

(ii) The records of the foreign branch 

indicate that the accountholder(s) and 

beneficiary(ies) of the account is not a 

U.S. person as defined in 17 CFR 

230.902(k). 

(3) Non-shell foreign branch. Solely 

for purposes of this paragraph (c), a nonshell foreign branch of a bank means a 

branch of the bank 

(i) That is located outside the United 

States and provides banking services to 

residents of the foreign jurisdiction in 

which the branch is located; and 

(ii) For which the decisions relating to 

day-to-day operations and business of 

the branch are made at that branch and 

are not made by an office of the bank 

located in the United States. 

(d) Accounts transferred to a broker or 

dealer or other unaffiliated entity. 

Notwithstanding section 3(a)(4)(B)(ii)(I) 

of the Act (15 U.S.C. 78c(a)(4)(B)(ii)(I)) 

and § ll.721(a)(1) of this part, a bank 

operating under § ll.721(a)(1) shall 

not be considered a broker for purposes 

of section 3(a)(4) of the Act (15 U.S.C. 

78c(a)(4)) solely because a trust or 

fiduciary account does not meet the 

chiefly compensated standard in 

§ ll.721(a)(1) if, within 3 months of 

the end of the year in which the account 

fails to meet such standard, the bank 

transfers the account or the securities 

held by or on behalf of the account to 

a broker or dealer registered under 

section 15 of the Act (15 U.S.C. 78o) or 

another entity that is not an affiliate of 

the bank and is not required to be 

registered as a broker or dealer. 

(e) De minimis exclusion. A bank 

may, in determining its compliance 

with the chiefly compensated test in 

§ ll.721(a)(1), exclude a trust or 

fiduciary account if: 

(1) The bank maintains records 

demonstrating that the securities 

transactions conducted by or on behalf 

of the account were undertaken by the 

bank in the exercise of its trust or 

fiduciary responsibilities with respect to 

the account; 

(2) The total number of accounts 

excluded by the bank under this 

paragraph (d) does not exceed the lesser 

of—

(i) 1 percent of the total number of 

trust or fiduciary accounts held by the 

bank, provided that if the number so 

obtained is less than 1 the amount shall 

be rounded up to 1; or 

(ii) 500; and 

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Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 56559 

(3) The bank did not rely on this 

paragraph (d) with respect to such 

account during the immediately 

preceding year. 

§ll.740 Defined terms relating to the 

sweep accounts exception from the 

definition of ‘‘broker.’’

For purposes of section 3(a)(4)(B)(v) of 

the Act (15 U.S.C. 78c(a)(4)(B)(v)), the 

following terms shall have the meaning 

provided: 

(a) Deferred sales load has the same 

meaning as in 17 CFR 270.6c–10. 

(b) Money market fund means an 

open-end company registered under the 

Investment Company Act of 1940 (15 

U.S.C. 80a–1 et seq.) that is regulated as 

a money market fund pursuant to 17 

CFR 270.2a–7. 

(c)(1) No-load, in the context of an 

investment company or the securities 

issued by an investment company, 

means, for securities of the class or 

series in which a bank effects 

transactions, that: 

(i) That class or series is not subject 

to a sales load or a deferred sales load; 

and 

(ii) Total charges against net assets of 

that class or series of the investment 

company’s securities for sales or sales 

promotion expenses, for personal 

service, or for the maintenance of 

shareholder accounts do not exceed 0.25 

of 1% of average net assets annually. 

(2) For purposes of this definition, 

charges for the following will not be 

considered charges against net assets of 

a class or series of an investment 

company’s securities for sales or sales 

promotion expenses, for personal 

service, or for the maintenance of 

shareholder accounts: 

(i) Providing transfer agent or subtransfer agent services for beneficial 

owners of investment company shares; 

(ii) Aggregating and processing 

purchase and redemption orders for 

investment company shares; 

(iii) Providing beneficial owners with 

account statements showing their 

purchases, sales, and positions in the 

investment company; 

(iv) Processing dividend payments for 

the investment company; 

(v) Providing sub-accounting services 

to the investment company for shares 

held beneficially; 

(vi) Forwarding communications from 

the investment company to the 

beneficial owners, including proxies, 

shareholder reports, dividend and tax 

notices, and updated prospectuses; or 

(vii) Receiving, tabulating, and 

transmitting proxies executed by 

beneficial owners of investment 

company shares. 

(d) Open-end company has the same 

meaning as in section 5(a)(1) of the 

Investment Company Act of 1940 (15 

U.S.C. 80a–5(a)(1)). 

(e) Sales load has the same meaning 

as in section 2(a)(35) of the Investment 

Company Act of 1940 (15 U.S.C. 80a–

2(a)(35)). 

§ll.741 Exemption for banks effecting 

transactions in money market funds. 

(a) A bank is exempt from the 

definition of the term ‘‘broker’’ under 

section 3(a)(4) of the Act (15 U.S.C. 

78c(a)(4)) to the extent that it effects 

transactions on behalf of a customer in 

securities issued by a money market 

fund, provided that: 

(1) The bank either 

(A) Provides the customer, directly or 

indirectly, any other product or service, 

the provision of which would not, in 

and of itself, require the bank to register 

as a broker or dealer under section 15(a) 

of the Act (15 U.S.C. 78o(a)); or 

(B) Effects the transactions on behalf 

of another bank as part of a program for 

the investment or reinvestment of 

deposit funds of, or collected by, the 

other bank; and 

(2)(i) The class or series of securities 

is no-load; or 

(ii) If the class or series of securities 

is not no-load 

(A) The bank or, if applicable, the 

other bank described in paragraph 

(a)(1)(B) of this section provides the 

customer, not later than at the time the 

customer authorizes the securities 

transactions, a prospectus for the 

securities; and 

(B) The bank and, if applicable, the 

other bank described in paragraph 

(a)(1)(B) of this section do not 

characterize or refer to the class or series 

of securities as no-load. 

(b) Definitions. For purposes of this 

section: 

(1) Money market fund has the same 

meaning as in § ll.740(b). 

(2) No-load has the same meaning as 

in § ll.740(c). 

§ll.760 Exemption from definition of 

‘‘broker’’ for banks accepting orders to 

effect transactions in securities from or on 

behalf of custody accounts. 

(a) Employee benefit plan accounts 

and individual retirement accounts or 

similar accounts. A bank is exempt from 

the definition of the term ‘‘broker’’

under section 3(a)(4) of the Act (15 

U.S.C. 78c(a)(4)) to the extent that, as 

part of its customary banking activities, 

the bank accepts orders to effect 

transactions in securities for an 

employee benefit plan account or an 

individual retirement account or similar 

account for which the bank acts as a 

custodian if: 

(1) Employee compensation 

restriction and additional conditions. 

The bank complies with the employee 

compensation restrictions in paragraph 

(c) of this section and the other 

conditions in paragraph (d) of this 

section; 

(2) Advertisements. Advertisements 

by or on behalf of the bank do not: 

(i) Advertise that the bank accepts 

orders for securities transactions for 

employee benefit plan accounts or 

individual retirement accounts or 

similar accounts, except as part of 

advertising the other custodial or 

safekeeping services the bank provides 

to these accounts; or 

(ii) Advertise that such accounts are 

securities brokerage accounts or that the 

bank’s safekeeping and custody services 

substitute for a securities brokerage 

account; and 

(3) Advertisements and sales 

literature for individual retirement or 

similar accounts. Advertisements and 

sales literature issued by or on behalf of 

the bank do not describe the securities 

order-taking services provided by the 

bank to individual retirement accounts 

or similar accounts more prominently 

than the other aspects of the custody or 

safekeeping services provided by the 

bank to these accounts. 

(b) Accommodation trades for other 

custodial accounts. A bank is exempt 

from the definition of the term ‘‘broker’’

under section 3(a)(4) of the Act (15 

U.S.C. 78c(a)(4)) to the extent that, as 

part of its customary banking activities, 

the bank accepts orders to effect 

transactions in securities for an account 

for which the bank acts as custodian 

other than an employee benefit plan 

account or an individual retirement 

account or similar account if: 

(1) Accommodation. The bank accepts 

orders to effect transactions in securities 

for the account only as an 

accommodation to the customer; 

(2) Employee compensation 

restriction and additional conditions. 

The bank complies with the employee 

compensation restrictions in paragraph 

(c) of this section and the other 

conditions in paragraph (d) of this 

section; 

(3) Bank fees. Any fee charged or 

received by the bank for effecting a 

securities transaction for the account 

does not vary based on: 

(i) Whether the bank accepted the 

order for the transaction; or 

(ii) The quantity or price of the 

securities to be bought or sold; 

(4) Advertisements. Advertisements 

by or on behalf of the bank do not state 

that the bank accepts orders for 

securities transactions for the account; 

(5) Sales literature. Sales literature 

issued by or on behalf of the bank: 

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56560 Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 

(i) Does not state that the bank accepts 

orders for securities transactions for the 

account except as part of describing the 

other custodial or safekeeping services 

the bank provides to the account; and 

(ii) Does not describe the securities 

order-taking services provided to the 

account more prominently than the 

other aspects of the custody or 

safekeeping services provided by the 

bank to the account; and 

(6) Investment advice and 

recommendations. The bank does not 

provide investment advice or research 

concerning securities to the account, 

make recommendations to the account 

concerning securities or otherwise 

solicit securities transactions from the 

account; provided, however, that 

nothing in this paragraph (b)(6) shall 

prevent a bank from: 

(i) Publishing, using or disseminating 

advertisements and sales literature in 

accordance with paragraphs (b)(4) and 

(b)(5) of this section; and 

(ii) Responding to customer inquiries 

regarding the bank’s safekeeping and 

custody services by providing: 

(A) Advertisements or sales literature 

consistent with the provisions of 

paragraphs (b)(4) and (b)(5) of this 

section describing the safekeeping, 

custody and related services that the 

bank offers; 

(B) A prospectus prepared by a 

registered investment company, or sales 

literature prepared by a registered 

investment company or by the broker or 

dealer that is the principal underwriter 

of the registered investment company 

pertaining to the registered investment 

company’s products; 

(C) Information based on the materials 

described in paragraphs (b)(6)(ii)(A) and 

(B) of this section; or 

(iii) Responding to inquiries regarding 

the bank’s safekeeping, custody or other 

services, such as inquiries concerning 

the customer’s account or the 

availability of sweep or other services, 

so long as the bank does not provide 

investment advice or research 

concerning securities to the account or 

make a recommendation to the account 

concerning securities. 

(c) Employee compensation 

restriction. A bank may accept orders 

pursuant to this section for a securities 

transaction for an account described in 

paragraph (a) or (b) of this section only 

if no bank employee receives 

compensation, including a fee paid 

pursuant to a plan under 17 CFR 

270.12b–1, from the bank, the executing 

broker or dealer, or any other person 

that is based on whether a securities 

transaction is executed for the account 

or that is based on the quantity, price, 

or identity of securities purchased or 

sold by such account, provided that 

nothing in this paragraph shall prohibit 

a bank employee from receiving 

compensation that would not be 

considered incentive compensation 

under § ll.700(b)(1) as if a referral had 

been made by the bank employee, or 

any compensation described in 

§ ll.700(b)(2). 

(d) Other conditions. A bank may 

accept orders for a securities transaction 

for an account for which the bank acts 

as a custodian under this section only 

if the bank: 

(1) Does not act in a trustee or 

fiduciary capacity (as defined in section 

3(a)(4)(D) of the Act (15 U.S.C. 

78c(a)(4)(D)) with respect to the 

account, other than as a directed trustee; 

(2) Complies with section 3(a)(4)(C) of 

the Act (15 U.S.C. 78c(a)(4)(C)) in 

handling any order for a securities 

transaction for the account; and 

(3) Complies with section 

3(a)(4)(B)(viii)(II) of the Act (15 U.S.C. 

78c(a)(4)(B)(viii)(II)) regarding carrying 

broker activities. 

(e) Non-fiduciary administrators and 

recordkeepers. A bank that acts as a 

non-fiduciary and non-custodial 

administrator or recordkeeper for an 

employee benefit plan account for 

which another bank acts as custodian 

may rely on the exemption provided in 

this section if: 

(1) Both the custodian bank and the 

administrator or recordkeeper bank 

comply with paragraphs (a), (c) and (d) 

of this section; and 

(2) The administrator or recordkeeper 

bank does not execute a cross-trade with 

or for the employee benefit plan account 

or net orders for securities for the 

employee benefit plan account, other 

than: 

(i) Crossing or netting orders for 

shares of open-end investment 

companies not traded on an exchange, 

or 

(ii) Crossing orders between or netting 

orders for accounts of the custodian 

bank that contracted with the 

administrator or recordkeeper bank for 

services. 

(f) Subcustodians. A bank that acts as 

a subcustodian for an account for which 

another bank acts as custodian may rely 

on the exemptions provided in this 

section if: 

(1) For employee benefit plan 

accounts and individual retirement 

accounts or similar accounts, both the 

custodian bank and the subcustodian 

bank meet the requirements of 

paragraphs (a), (c) and (d) of this 

section; 

(2) For other custodial accounts, both 

the custodian bank and the 

subcustodian bank meet the 

requirements of paragraphs (b), (c) and 

(d) of this section; and 

(3) The subcustodian bank does not 

execute a cross-trade with or for the 

account or net orders for securities for 

the account, other than: 

(i) Crossing or netting orders for 

shares of open-end investment 

companies not traded on an exchange, 

or 

(ii) Crossing orders between or netting 

orders for accounts of the custodian 

bank. 

(g) Evasions. In considering whether a 

bank meets the terms of this section, 

both the form and substance of the 

relevant account(s), transaction(s) and 

activities (including advertising 

activities) of the bank will be considered 

in order to prevent evasions of the 

requirements of this section. 

(h) Definitions. When used in this 

section: 

(1) Account for which the bank acts 

as a custodian means an account that is: 

(i) An employee benefit plan account 

for which the bank acts as a custodian; 

(ii) An individual retirement account 

or similar account for which the bank 

acts as a custodian; 

(iii) An account established by a 

written agreement between the bank and 

the customer that sets forth the terms 

that will govern the fees payable to, and 

rights and obligations of, the bank 

regarding the safekeeping or custody of 

securities; or 

(iv) An account for which the bank 

acts as a directed trustee. 

(2) Advertisement means any material 

that is published or used in any 

electronic or other public media, 

including any Web site, newspaper, 

magazine or other periodical, radio, 

television, telephone or tape recording, 

videotape display, signs or billboards, 

motion pictures, or telephone 

directories (other than routine listings). 

(3) Directed trustee means a trustee 

that does not exercise investment 

discretion with respect to the account. 

(4) Employee benefit plan account 

means a pension plan, retirement plan, 

profit sharing plan, bonus plan, thrift 

savings plan, incentive plan, or other 

similar plan, including, without 

limitation, an employer-sponsored plan 

qualified under section 401(a) of the 

Internal Revenue Code (26 U.S.C. 

401(a)), a governmental or other plan 

described in section 457 of the Internal 

Revenue Code (26 U.S.C. 457), a taxdeferred plan described in section 

403(b) of the Internal Revenue Code (26 

U.S.C. 403(b)), a church plan, 

governmental, multiemployer or other 

plan described in section 414(d), (e) or 

(f) of the Internal Revenue Code (26 

U.S.C. 414(d), (e) or (f)), an incentive 

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Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 56561 

stock option plan described in section 

422 of the Internal Revenue Code (26 

U.S.C. 422); a Voluntary Employee 

Beneficiary Association Plan described 

in section 501(c)(9) of the Internal 

Revenue Code (26 U.S.C. 501(c)(9)), a 

non-qualified deferred compensation 

plan (including a rabbi or secular trust), 

a supplemental or mirror plan, and a 

supplemental unemployment benefit 

plan. 

(5) Individual retirement account or 

similar account means an individual 

retirement account as defined in section 

408 of the Internal Revenue Code (26 

U.S.C. 408), Roth IRA as defined in 

section 408A of the Internal Revenue 

Code (26 U.S.C. 408A), health savings 

account as defined in section 223(d) of 

the Internal Revenue Code (26 U.S.C. 

223(d)), Archer medical savings account 

as defined in section 220(d) of the 

Internal Revenue Code (26 U.S.C. 

220(d)), Coverdell education savings 

account as defined in section 530 of the 

Internal Revenue Code (26 U.S.C. 530), 

or other similar account. 

(6) Sales literature means any written 

or electronic communication, other than 

an advertisement, that is generally 

distributed or made generally available 

to customers of the bank or the public, 

including circulars, form letters, 

brochures, telemarketing scripts, 

seminar texts, published articles, and 

press releases concerning the bank’s 

products or services. 

(7) Principal underwriter has the same 

meaning as in section 2(a)(29) of the 

Investment Company Act of 1940 (15 

U.S.C. 80a–2(a)(29)). 

§l.771 Exemption from the definition of 

‘‘broker’’ for banks effecting transactions in 

securities issued pursuant to Regulation S. 

(a) A bank is exempt from the 

definition of the term ‘‘broker’’ under 

section 3(a)(4) of the Act (15 U.S.C. 

78c(a)(4)), to the extent that, as agent, 

the bank: 

(1) Effects a sale in compliance with 

the requirements of 17 CFR 230.903 of 

an eligible security to a purchaser who 

is not in the United States; 

(2) Effects, by or on behalf of a person 

who is not a U.S. person under 17 CFR 

230.902(k), a resale of an eligible 

security after its initial sale with a 

reasonable belief that the eligible 

security was initially sold outside of the 

United States within the meaning of and 

in compliance with the requirements of 

17 CFR 230.903 to a purchaser who is 

not in the United States or a registered 

broker or dealer, provided that if the 

resale is made prior to the expiration of 

any applicable distribution compliance 

period specified in 17 CFR 230.903(b)(2) 

or (b)(3), the resale is made in 

compliance with the requirements of 17 

CFR 230.904; or 

(3) Effects, by or on behalf of a 

registered broker or dealer, a resale of an 

eligible security after its initial sale with 

a reasonable belief that the eligible 

security was initially sold outside of the 

United States within the meaning of and 

in compliance with the requirements of 

17 CFR 230.903 to a purchaser who is 

not in the United States, provided that 

if the resale is made prior to the 

expiration of any applicable distribution 

compliance period specified in 17 CFR 

230.903(b)(2) or (b)(3), the resale is 

made in compliance with the 

requirements of 17 CFR 230.904. 

(b) Definitions. For purposes of this 

section: 

(1) Distributor has the same meaning 

as in 17 CFR 230.902(d). 

(2) Eligible security means a security 

that: 

(i) Is not being sold from the 

inventory of the bank or an affiliate of 

the bank; and 

(ii) Is not being underwritten by the 

bank or an affiliate of the bank on a 

firm-commitment basis, unless the bank 

acquired the security from an 

unaffiliated distributor that did not 

purchase the security from the bank or 

an affiliate of the bank. 

(3) Purchaser means a person who 

purchases an eligible security and who 

is not a U.S. person under 17 CFR 

230.902(k). 

§ll.772 Exemption from the definition 

of ‘‘broker’’ for banks engaging in 

securities lending transactions. 

(a) A bank is exempt from the 

definition of the term ‘‘broker’’ under 

section 3(a)(4) of the Act (15 U.S.C. 

78c(a)(4)), to the extent that, as an agent, 

it engages in or effects securities lending 

transactions, and any securities lending 

services in connection with such 

transactions, with or on behalf of a 

person the bank reasonably believes to 

be: 

(1) A qualified investor as defined in 

section 3(a)(54)(A) of the Act (15 U.S.C. 

78c(a)(54)(A)); or 

(2) Any employee benefit plan that 

owns and invests on a discretionary 

basis, not less than $ 25,000,000 in 

investments. 

(b) Securities lending transaction 

means a transaction in which the owner 

of a security lends the security 

temporarily to another party pursuant to 

a written securities lending agreement 

under which the lender retains the 

economic interests of an owner of such 

securities, and has the right to terminate 

the transaction and to recall the loaned 

securities on terms agreed by the 

parties. 

(c) Securities lending services means: 

(1) Selecting and negotiating with a 

borrower and executing, or directing the 

execution of the loan with the borrower; 

(2) Receiving, delivering, or directing 

the receipt or delivery of loaned 

securities; 

(3) Receiving, delivering, or directing 

the receipt or delivery of collateral; 

(4) Providing mark-to-market, 

corporate action, recordkeeping or other 

services incidental to the administration 

of the securities lending transaction; 

(5) Investing, or directing the 

investment of, cash collateral; or 

(6) Indemnifying the lender of 

securities with respect to various 

matters. 

§ll.775 Exemption from the definition 

of ‘‘broker’’ for banks effecting certain 

excepted or exempted transactions in 

investment company securities. 

(a) A bank that meets the conditions 

for an exception or exemption from the 

definition of the term ‘‘broker’’ except 

for the condition in section 3(a)(4)(C)(i) 

of the Act (15 U.S.C. 78c(a)(4)(C)(i)), is 

exempt from such condition to the 

extent that it effects a transaction in a 

covered security, if: 

(1) Any such security is neither traded 

on a national securities exchange nor 

through the facilities of a national 

securities association or an interdealer 

quotation system; 

(2) The security is distributed by a 

registered broker or dealer, or the sales 

charge is no more than the amount 

permissible for a security sold by a 

registered broker or dealer pursuant to 

any applicable rules adopted pursuant 

to section 22(b)(1) of the Investment 

Company Act of 1940 (15 U.S.C. 80a–

22(b)(1)) by a securities association 

registered under section 15A of the Act 

(15 U.S.C. 78o–3); and 

(3) Any such transaction is effected: 

(i) Through the National Securities 

Clearing Corporation; or 

(ii) Directly with a transfer agent or 

with an insurance company or separate 

account that is excluded from the 

definition of transfer agent in Section 

3(a)(25) of the Act. 

(b) Definitions. For purposes of this 

section: 

(1) Covered security means: 

(i) Any security issued by an openend company, as defined by section 

5(a)(1) of the Investment Company Act 

(15 U.S.C. 80a5(a)(1)), that is registered 

under that Act; and 

(ii) Any variable insurance contract 

funded by a separate account, as defined 

by section 2(a)(37) of the Investment 

Company Act (15 U.S.C. 80a–2(a)(37)), 

that is registered under that Act. 

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56562 Federal Register / Vol. 72, No. 191 / Wednesday, October 3, 2007 / Rules and Regulations 

1Exchange Act Release No. 56501 (Sept. 24, 

2007). 

(2) Interdealer quotation system has 

the same meaning as in 17 CFR 

240.15c2–11. 

(3) Insurance company has the same 

meaning as in 15 U.S.C. 77b(a)(13). 

§ll.776 Exemption from the definition 

of ‘‘broker’’ for banks effecting certain 

excepted or exempted transactions in a 

company’s securities for its employee 

benefit plans. 

(a) A bank that meets the conditions 

for an exception or exemption from the 

definition of the term ‘‘broker’’ except 

for the condition in section 3(a)(4)(C)(i) 

of the Act (15 U.S.C. 78c(a)(4)(C)(i)), is 

exempt from such condition to the 

extent that it effects a transaction in the 

securities of a company directly with a 

transfer agent acting for the company 

that issued the security, if: 

(1) No commission is charged with 

respect to the transaction; 

(2) The transaction is conducted by 

the bank solely for the benefit of an 

employee benefit plan account; 

(3) Any such security is obtained 

directly from: 

(i) The company; or 

(ii) An employee benefit plan of the 

company; and 

(4) Any such security is transferred 

only to: 

(i) The company; or 

(ii) An employee benefit plan of the 

company. 

(b) For purposes of this section, the 

term employee benefit plan account has 

the same meaning as in § ll.760(h)(4). 

§ll.780 Exemption for banks from 

liability under section 29 of the Securities 

Exchange Act of 1934. 

(a) No contract entered into before 

March 31, 2009, shall be void or 

considered voidable by reason of section 

29(b) of the Act (15 U.S.C. 78cc(b)) 

because any bank that is a party to the 

contract violated the registration 

requirements of section 15(a) of the Act 

(15 U.S.C. 78o(a)), any other applicable 

provision of the Act, or the rules and 

regulations thereunder based solely on 

the bank’s status as a broker when the 

contract was created. 

(b) No contract shall be void or 

considered voidable by reason of section 

29(b) of the Act (15 U.S.C. 78cc(b)) 

because any bank that is a party to the 

contract violated the registration 

requirements of section 15(a) of the Act 

(15 U.S.C. 78o(a)) or the rules and 

regulations thereunder based solely on 

the bank’s status as a broker when the 

contract was created, if: 

(1) At the time the contract was 

created, the bank acted in good faith and 

had reasonable policies and procedures 

in place to comply with section 

3(a)(4)(B) of the Act (15 U.S.C. 

78c(a)(4)(B)) and the rules and 

regulations thereunder; and 

(2) At the time the contract was 

created, any violation of the registration 

requirements of section 15(a) of the Act 

by the bank did not result in any 

significant harm or financial loss or cost 

to the person seeking to void the 

contract. 

§ll.781 Exemption from the definition 

of ‘‘broker’’ for banks for a limited period 

of time. 

A bank is exempt from the definition 

of the term ‘‘broker’’ under section 

3(a)(4) of the Act (15 U.S.C. 78c(a)(4)) 

until the first day of its first fiscal year 

commencing after September 30, 2008. 

By order of the Board of Governors of the 

Federal Reserve System, September 24, 2007. 

Jennifer J. Johnson, 

Secretary of the Board. 

Dated: September 24, 2007. 

By the Securities and Exchange 

Commission. 

Nancy M. Morris, 

Secretary. 

[FR Doc. 07–4769 Filed 9–28–07; 8:45 am] 

BILLING CODE 8011–01–P; 6210–01–P 

SECURITIES AND EXCHANGE 

COMMISSION 

17 CFR Part 240 

[Release No. 34–56502; File No. S7–23–06] 

RIN 3235–AJ77 

Exemptions for Banks Under Section 

3(a)(5) of the Securities Exchange Act 

of 1934 and Related Rules 

AGENCY: Securities and Exchange 

Commission. 

ACTION: Final rule. 

SUMMARY: The Securities and Exchange 

Commission (‘‘Commission’’) is 

adopting rules and rule amendments 

regarding exemptions from the 

definitions of ‘‘broker’’ and ‘‘dealer’’

under the Securities Exchange Act of 

1934 (‘‘Exchange Act’’) for banks’

securities activities. In particular, the 

Commission is adopting a conditional 

exemption that will allow banks to 

effect riskless principal transactions 

with non-U.S. persons pursuant to 

Regulation S under the Securities Act of 

1933 (‘‘Securities Act’’). The 

Commission also is amending and 

redesignating an existing exemption 

from the definition of ‘‘dealer’’ for 

banks’ securities lending activities as a 

conduit lender. In addition, the 

Commission is conforming a rule that 

grants a limited exemption from U.S. 

broker-dealer registration for foreign 

broker-dealers to the amended 

definitions of ‘‘broker’’ and ‘‘dealer’’

under the Exchange Act. Finally, the 

Commission is withdrawing three rules 

under the Exchange Act: A rule defining 

the term ‘‘bank’’ for purposes of the 

Exchange Act’s definitions of ‘‘broker’’

and ‘‘dealer,’’ due to judicial 

invalidation; a time-limited exemption 

for banks’ securities activities, due to 

the passage of time; and an exemption 

from the definitions of ‘‘broker’’ and 

‘‘dealer’’ for savings associations and 

savings banks, as the exemption no 

longer necessary in light of subsequent 

legislation. 

DATES: Effective Date: The final rules are 

effective on November 2, 2007. 

FOR FURTHER INFORMATION CONTACT: 

Catherine McGuire, Chief Counsel, 

Linda Stamp Sundberg, Senior Special 

Counsel, Joshua Kans, Senior Special 

Counsel, John Fahey, Branch Chief, or 

Elizabeth K. MacDonald, Special 

Counsel, at (202) 551–5550, Office of 

Chief Counsel, Division of Market 

Regulation, Securities and Exchange 

Commission, 100 F Street, NE., 

Washington, DC 20549. 

SUPPLEMENTARY INFORMATION: The 

Commission is adopting new Rules 3a5–

2 [17 CFR 240.3a5–2] and 3a5–3 [17 

CFR 3a5–3], amending Rule 15a–6 [17 

CFR 240.15a–6], and withdrawing Rules 

3b–9 [17 CFR 240.3b–9], 15a–8 [17 CFR 

240.15a–8], 15a–9 [17 CFR 240.15a–9] 

and 15a–11 [17 CFR 15a–11] under the 

Exchange Act. 

Table of Contents 

I. Introduction and Background 

II. Adopted Rules and Rule Amendments 

A. Regulation S Transactions with NonU.S. Persons 

B. Amendment to Exchange Act Rule 15a–

6 

C. Securities Lending by Bank Dealers 

D. Withdrawal of Exchange Act Rule 3b–

9, Rule 15a–8, and Rule 15a–9 

III. Administrative Law Matters 

A. Paperwork Reduction Act Analysis 

B. Consideration of Benefits and Costs 

C. Consideration of Burden on 

Competition, and on Promotion of 

Efficiency, Competition, and Capital 

Formation 

D. Regulatory Flexibility Certification 

IV. Statutory Authority 

V. Text of Final Rules and Rule Amendments 

I. Introduction and Background 

The rules and rule amendments 

discussed below complement 

Regulation R, which we are adopting 

jointly with the Board of Governors of 

the Federal Reserve System (‘‘Board’’).1

These rules and rule amendments in 

large part reflect changes that the 

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