Document ID: SEC-2010-1819-0001
Agency: sec
Document Type: Notice
Title: Self-Regulatory Organizations; Proposed Rule Changes: Financial Industry Regulatory Authority, Inc.
Posted Date: 2010-12-01T05:00Z

[Federal Register: December 1, 2010 (Volume 75, Number 230)]
[Notices]               
[Page 74759-74766]
From the Federal Register Online via GPO Access [wais.access.gpo.gov]
[DOCID:fr01de10-97]                         

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-63375; File No. SR-FINRA-2010-061]

 
Self-Regulatory Organizations; Financial Industry Regulatory 
Authority, Inc.; Notice of Filing of Proposed Rule Change To Adopt 
Rules Governing Guarantees, Carrying Agreements, Security Counts and 
Supervision of General Ledger Accounts in the Consolidated FINRA 
Rulebook

November 24, 2010.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act'' or ``SEA'') \1\ and Rule 19b-4 thereunder,\2\ notice is hereby 
given that on November 12, 2010, Financial Industry Regulatory 
Authority, Inc. (``FINRA'') (f/k/a National Association of Securities 
Dealers, Inc. (``NASD'')) filed with the Securities and Exchange 
Commission (``SEC'' or ``Commission'') the proposed rule change as 
described in Items I and II below, which Items have been prepared by 
FINRA. The Commission is publishing this notice to solicit comments on 
the proposed rule change from interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    FINRA is proposing to adopt FINRA Rules 4150 (Guarantees by, or 
Flow Through Benefits for, Members), 4311 (Carrying Agreements), 4522 
(Periodic Security Counts, Verifications and Comparisons) and 4523 
(Assignment of Responsibility for General Ledger Accounts and 
Identification of Suspense Accounts) in the consolidated FINRA rulebook 
and to delete NASD Rule 3230, Incorporated NYSE Rules 322, 382, 440.10 
and 440.20 and Incorporated NYSE Rule Interpretations 382/01 through 
382/05, 409(a)/01 and 440.20/01.
    The text of the proposed rule change is available on FINRA's Web 
site at http://www.finra.org, at the principal office of FINRA and at 
the Commission's Public Reference Room.

II. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

    In its filing with the Commission, FINRA included statements 
concerning the purpose of and basis for the proposed rule change and 
discussed any comments it received on the proposed rule change. The 
text of these statements may be examined at the places specified in 
Item IV below. FINRA has prepared summaries, set forth in sections A, 
B, and C below, of the most significant aspects of such statements.

A. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

1. Purpose
    As part of the process of developing a new consolidated rulebook 
(``Consolidated FINRA Rulebook''),\3\ FINRA is proposing to adopt new, 
consolidated rules governing guarantees, carrying agreements, security 
counts and supervision of general ledger accounts for purposes of the 
Consolidated FINRA Rulebook. FINRA proposes to adopt FINRA Rules 4150 
(Guarantees by, or Flow Through Benefits for, Members), 4311 (Carrying 
Agreements), 4522 (Periodic Security Counts, Verifications and 
Comparisons) and 4523 (Assignment of Responsibility for General Ledger 
Accounts and Identification of Suspense Accounts) in the Consolidated 
FINRA Rulebook and to delete NASD Rule 3230, NYSE Rules

[[Page 74760]]

322, 382, 440.10 and 440.20 and NYSE Rule Interpretations 382/01 
through 382/05, 409(a)/01 and 440.20/01.\4\
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    \3\ The current FINRA rulebook consists of: (1) FINRA Rules; (2) 
NASD Rules; and (3) rules incorporated from NYSE (``Incorporated 
NYSE Rules'') (together, the NASD Rules and Incorporated NYSE Rules 
are referred to as the ``Transitional Rulebook''). While the NASD 
Rules generally apply to all FINRA members, the Incorporated NYSE 
Rules apply only to those members of FINRA that are also members of 
the NYSE (``Dual Members''). The FINRA Rules apply to all FINRA 
members, unless such rules have a more limited application by their 
terms. For more information about the rulebook consolidation 
process, see Information Notice, March 12, 2008 (Rulebook 
Consolidation Process).
    \4\ For convenience, the Incorporated NYSE Rules are referred to 
as the ``NYSE Rules.''
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    The proposed rules would, in combination with the new consolidated 
financial responsibility rules that the SEC has approved,\5\ enhance 
FINRA's authority to execute effectively its financial and operational 
surveillance and examination programs. Consistent with the approach 
that FINRA discussed in SR-FINRA-2008-067 and Regulatory Notice 09-71, 
many of the requirements set forth in the proposed rules are 
substantially the same as requirements found in current rules and, 
where appropriate, are tiered to apply only to carrying or clearing 
firms, or to firms that engage in certain specified activities.\6\ 
Certain of the proposed rule provisions are new for FINRA members that 
are not Dual Members (``non-NYSE members''). Certain other provisions 
are new for both Dual Members and non-NYSE members alike.
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    \5\ See Securities Exchange Act Release No. 60933 (November 4, 
2009), 74 FR 58334 (November 12, 2009) (Order Granting Accelerated 
Approval to Proposed Rule Change; File No. SR-FINRA-2008-067). See 
also Regulatory Notice 09-71 (December 2009) (SEC Approves 
Consolidated FINRA Rules Governing Financial Responsibility); 
Regulatory Notice 09-03 (January 2009) (Financial Responsibility and 
Related Operational Rules).
    \6\ For purposes of the new consolidated financial 
responsibility rules and the proposed rules, FINRA has specified in 
the rule text where appropriate that all requirements that apply to 
a member that clears or carries customer accounts also apply to any 
member that, operating pursuant to the exemptive provisions of SEA 
Rule 15c3-3(k)(2)(i), either clears customer transactions pursuant 
to such exemptive provisions or holds customer funds in a bank 
account established thereunder. For further discussion, see 74 FR 
58334. See also proposed FINRA Rule 4523.02 in this rule filing.
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(A) Proposed FINRA Rule 4150 (Guarantees by, or Flow Through Benefits 
for, Members)
    Proposed FINRA Rule 4150(a), based in large part on NYSE Rule 322, 
requires that prior written notice be given to FINRA whenever a member 
guarantees, endorses or assumes, directly or indirectly, the 
obligations \7\ or liabilities of another person (including an 
entity).\8\ Paragraph (b) of the rule requires that prior written 
approval must be obtained from FINRA whenever any member receives flow-
through capital benefits in accordance with Appendix C of SEA Rule 
15c3-1.\9\ Details of the rule's notice and prior approval requirements 
are included in proposed FINRA Rule 4150.01. Proposed FINRA Rule 
4150.02 provides that a member may at any time (i.e., not just within 
the context of the prior written notice that the member provides or the 
prior written approval that the member seeks to obtain pursuant to the 
proposed rule) be required to provide FINRA with information with 
respect to the arrangement, relationship and dealings with a person 
referred to in the proposed rule.
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    \7\ In response to comments, FINRA notes that the term 
``obligations'' includes financial obligations, as well as other 
obligations that may have a financial impact on a member, such as 
performance obligations. See Section (A) under Item II.C.
    \8\ NASD Rule 0120(n) defines ``person'' to include any natural 
person, partnership, corporation, association, or other legal 
entity. Similarly, NYSE Rule 2(d) states that ``person'' means a 
natural person, corporation, limited liability company, partnership, 
association, joint stock company, trust, fund or any organized group 
of persons whether incorporated or not. All references to 
``persons'' in this filing include entities.
    \9\ In the interest of clarity, FINRA has revised the proposed 
rule so as to better align it with the requirements of Appendix C.
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    Proposed FINRA Rule 4150.03 prohibits any member from entering into 
an arrangement described in the proposed rule unless the member has the 
authority to make available promptly the books and records of the other 
person for inspection by FINRA in the United States. The proposed rule 
provides that the books and records of the other person must be kept 
separately from those of the member.
    With respect to persons referred to in the proposed rule that are 
registered broker-dealers, proposed FINRA Rule 4150.04 requires that 
the member must furnish to FINRA copies of the person's FOCUS Reports 
simultaneous with their being filed with the person's designated 
examining authority (``DEA''). FINRA expects that members shall furnish 
the person's FOCUS Reports to FINRA on an ongoing basis (the member 
need not furnish the person's FOCUS Reports to FINRA if FINRA is the 
person's DEA). With respect to persons that are not registered broker-
dealers, the proposed rule requires, in lieu of FOCUS Reports, 
submission of financial and operational statements, in such format and 
at such time periods as FINRA may require, sufficient to gauge the 
capital and operational effects of the arrangement or relationship on 
the member.
    Proposed FINRA Rule 4150.05 provides that guarantees executed 
routinely in the normal course of business, such as trade guarantees, 
signature guarantees, endorsement of securities and the writing of 
options, are not subject to the requirements of the proposed rule 
provided that, in regard to the guarantee of the writing of options, 
the transaction is appropriately recorded on the member's books and 
records in accordance with SEA Rule 17a-3(a)(10) and is reflected in 
its net capital computation pursuant to SEA Rule 15c3-1.\10\
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    \10\ See note 33.
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    In response to commenter suggestions, proposed FINRA Rule 4150.06 
provides that, within 30 days of the implementation date of the rule, 
each member must advise FINRA, in writing, of any guarantees, 
endorsements, assumptions of obligations/liabilities, or flow through 
capital benefits, in effect as of the implementation date of the rule, 
not having otherwise been reported, in writing, to the appropriate 
Regulatory Coordinator.\11\
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    \11\ See Section (A) under Item II.C.
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    NASD Rules do not have a provision that corresponds to NYSE Rule 
322. Accordingly, the requirements of proposed FINRA Rule 4150 would be 
new to non-NYSE members.
(B) Proposed FINRA Rule 4311 (Carrying Agreements)
    Proposed FINRA Rule 4311 is based on NASD Rule 3230 and NYSE Rule 
382 (including NYSE Rule Interpretations 382/01 through/05 and 409(a)/
01). The proposed rule governs the requirements applicable to members 
when entering into agreements for the carrying of any customer accounts 
in which securities transactions can be effected. Historically, the 
purpose of the NASD and NYSE rules upon which the proposed rule is 
based has been to ensure that certain functions and responsibilities 
are clearly allocated to either the introducing or carrying firm, 
consistent with the requirements of the SRO's and SEC's financial 
responsibility and other rules and regulations, as applicable.\12\ The 
proposed rule continues to serve that same purpose and, accordingly, 
contains many requirements that are substantially unchanged from NASD 
Rule 3230 and NYSE Rule 382. Proposed FINRA Rule 4311 also codifies 
certain provisions that are new for non-NYSE members, or are new for 
both Dual Members and non-NYSE members alike. Following is a summary of 
the more significant provisions of the proposed rule.
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    \12\ See, e.g., Notice to Members 94-7 (February 1994) (SEC 
Approves New NASD Rule Relating to the Obligations and 
Responsibilities of Introducing and Clearing Firms) and NYSE 
Information Memo 82-18 (March 1982) (Carrying Agreements--Amendments 
to Rules 382 and 405).
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    Proposed FINRA Rule 4311(a)(1) prohibits a member, unless otherwise 
permitted by FINRA, from entering into an agreement for the carrying, 
on an omnibus or fully disclosed basis, of any customer account in 
which securities transactions can be effected (for purposes of Rule 
4311, ``customer

[[Page 74761]]

account'' or ``account''), unless the agreement is with a carrying firm 
that is a FINRA member.\13\ This is a new requirement for all members; 
however, the vast majority of carrying firms in the United States are 
FINRA members. Proposed FINRA Rule 4311(a)(1) also includes a provision 
that requires that when an introducing firm acts as an intermediary for 
another introducing firm or firms (so-called ``piggyback'' or 
``intermediary clearing arrangements'') for the purpose of obtaining 
clearing services from the carrying firm, the introducing firm must 
notify the carrying firm of the existence of the arrangement(s) with 
the other introducing firm(s) and disclose the identity of the firm(s). 
Based in large part on NYSE Rule Interpretation 382/05, the proposed 
rule further requires that each carrying agreement must identify and 
bind every direct and indirect recipient of clearing services as a 
party thereto.
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    \13\ Because carrying firms generally are FINRA members, FINRA 
expects requests to enter into carrying agreements with firms that 
are not FINRA members to be infrequent. Further, as proposed in 
Regulatory Notice 09-03, the proposed rule's scope would reach any 
customer account. FINRA has revised proposed Rule 4311 to clarify 
that the rule applies, unless otherwise permitted by FINRA, to the 
carrying of any customer account in which securities transactions 
can be effected. FINRA has made other minor changes to the proposed 
rule in the interest of clarity.
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    Proposed FINRA Rule 4311(b)(1), consistent with the requirements of 
NASD Rule 3230(e) and NYSE Rule 382(a), requires that the carrying firm 
must submit to FINRA for prior approval any agreement for the carrying 
of accounts, whether on an omnibus or fully disclosed basis, before 
such agreement may become effective. The proposed rule also provides 
that the carrying firm must also submit to FINRA for prior approval any 
material changes to an approved carrying agreement before the changes 
may become effective.\14\ The proposed rule codifies the practice under 
NASD Rule 3230 of permitting use of pre-approved standardized forms of 
agreement, with the exception of agreements with parties that are not 
U.S.-registered broker-dealers. The proposed rule requires a carrying 
firm to submit to FINRA for approval each carrying agreement with a 
non-U.S.-registered broker-dealer.\15\ This is a new requirement for 
non-NYSE members.
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    \14\ In response to commenter suggestion, the proposed rule 
includes revised guidance as to what constitutes a material change 
for purposes of Rule 4311(b)(1). See Section (B)(3) under Item II.C. 
Specifically, as set forth in proposed FINRA Rule 4311.01, material 
changes include, but are not limited to, changes to: The allocation 
of responsibilities required by the proposed rule; termination 
clauses applicable to the introducing firm; any terms or provisions 
affecting the liability of the parties; and the parties to the 
agreement, including, for example, the addition of a new party to 
the agreement, such as a ``piggyback'' arrangement, a new carrying 
firm or a new introducing firm, but not including a termination of 
the agreement. (However, as explained in Regulatory Notice 08-76, 
under NYSE Rule 416A carrying firms that are Dual Members are 
required to update their Firm Clearing Arrangement Form information 
on an ongoing basis no later than 30 days after the information has 
changed. FINRA expects to extend this requirement to all carrying 
firms later as part of the rulebook consolidation process. See 
Regulatory Notice 08-76 (December 2008) (Reporting Clearing 
Arrangements).) Lastly, FINRA has made other minor changes to 
proposed FINRA Rule 4311(b)(1) in the interest of clarity.
    \15\ Note that proposed FINRA Rule 4311(a)(2) would expressly 
permit a carrying firm to enter into a carrying agreement for the 
carrying of the customer accounts of a person other than a U.S. 
registered broker or dealer, subject to the conditions set forth in 
the proposed rule.
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    Proposed FINRA Rule 4311(b)(3) codifies the current practice under 
NYSE Rule 382 of requiring that as early as possible, but not later 
than 10 business days, prior to the carrying of any accounts of a new 
introducing firm (including the accounts of any piggyback or 
intermediary introducing firm(s)), the carrying firm must submit to 
FINRA a notice identifying each such introducing firm by name and CRD 
number and include such additional information as FINRA may 
require.\16\ This is a new requirement for non-NYSE carrying members, 
and permits FINRA to obtain additional information that enables it to 
evaluate the impact of the new carrying arrangement on the financial 
and operational condition of the member.
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    \16\ Proposed FINRA Rule 4311.02 provides that, for purposes of 
the notice requirement, the carrying firm must submit a 
questionnaire in such form as to be specified by FINRA in a 
Regulatory Notice, which questionnaire may be updated from time to 
time as FINRA deems necessary.
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    Proposed FINRA Rule 4311(b)(4) expressly requires each carrying 
firm to conduct appropriate due diligence with respect to any new 
introducing firm relationship. In response to commenter suggestion, the 
proposed rule provides that such due diligence must assess the 
financial, operational, credit and reputational risk that such 
arrangement will have upon the carrying firm.\17\ The rule provides 
that FINRA, in its review of any arrangement, may in its discretion 
require specific items to be addressed by the carrying firm as part of 
the firm's due diligence requirement under the rule. The rule further 
provides that the carrying firm must maintain a record, in accord with 
the time frames prescribed by SEA Rule 17a-4(b), of the due diligence 
conducted for each new introducing firm.
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    \17\ Supplementary Material to the proposed rule provides that, 
for purposes of proposed FINRA Rule 4311(b)(4), the due diligence 
may include, without limitation, inquiry by the carrying firm into 
the introducing firm's business model and product mix, proprietary 
and customer positions, FOCUS and similar reports, audited financial 
statements and complaint and disciplinary history. See proposed 
FINRA Rule 4311.03. See also Section (B)(2) under Item II.C.
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    Proposed FINRA Rule 4311(c), based in part on NASD Rule 3230(a) and 
NYSE Rule 382(b), requires that each carrying agreement in which 
accounts are to be carried on a fully disclosed basis must specify the 
responsibilities of each party to the agreement. The rule sets forth 
the minimum responsibilities that the agreement must allocate. Because 
FINRA believes that it is important to ensure the accuracy and 
integrity of customer account statements, the proposed rule requires 
that each carrying agreement in which accounts are to be carried on a 
fully disclosed basis must expressly allocate to the carrying firm the 
responsibility for preparing and transmitting statements of account to 
customers.\18\
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    \18\ However, the proposed rule provides that the carrying firm 
may authorize the introducing firm to prepare and/or transmit such 
statements on the carrying firm's behalf with the prior written 
approval of FINRA. See proposed FINRA Rule 4311(c)(2). In the 
interest of customer protection, FINRA has revised proposed FINRA 
Rule 4311(c)(2) (and made corresponding revisions to Rule 
4311(c)(1)) to provide that the safeguarding of funds and securities 
for the purposes of SEA Rule 15c3-3 must also be expressly allocated 
to the carrying firm.
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    Based in part on NASD Rule 3230(g), NYSE Rule 382(c) and NYSE Rule 
Interpretation 382/03, proposed FINRA Rule 4311(d) requires that each 
customer whose account is introduced on a fully disclosed basis must be 
notified in writing upon the opening of the account of the existence of 
the carrying agreement and the responsibilities allocated to each 
respective party. The carrying firm would be responsible for the 
content of the notification to the customer. Further, the proposed rule 
provides that the customer must be notified promptly and in writing in 
the event of any change to any of the parties to the agreement or any 
material change to the allocation of responsibilities thereunder. In 
response to commenter suggestion,\19\ Supplementary Material to the 
proposed rule provides that, for purposes of proposed FINRA Rule 
4311(d), notification to customers of a change to any of the parties to 
the carrying agreement is not required in instances where, consistent 
with applicable FINRA rules and the federal securities laws, such 
customers' accounts are being transferred pursuant to: (a) ACATS using 
an authorized Transfer

[[Page 74762]]

Instruction Form (TIF); or (b) a process outside of ACATS where 
notification to customers is provided by means of an alternative 
mechanism such as affirmative or negative response letters.\20\
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    \19\ See Section (B)(3) under Item II.C.
    \20\ See proposed FINRA Rule 4311.04.
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    Consistent with NYSE Rule Interpretation 382/03, proposed FINRA 
Rule 4311(e) requires that each carrying agreement must expressly state 
that to the extent that a particular responsibility is allocated to one 
party, the other party or parties will supply to the responsible 
organization all appropriate data in their possession pertinent to the 
proper performance and supervision of that responsibility. This is a 
new requirement for non-NYSE members.
    Based in large part on NASD Rule 3230(d) and NYSE Rule 382(f), 
proposed FINRA Rule 4311(f) provides that a carrying agreement may 
authorize an introducing firm to issue negotiable instruments directly 
to its customers on the carrying firm's behalf, using instruments for 
which the carrying firm is the maker or drawer, provided that the 
parties comply with SEA Rule 15c3-3 and further that the introducing 
firm represents to the carrying firm in writing that the introducing 
firm maintains, and will enforce, supervisory policies and procedures 
with respect to such negotiable instruments that are satisfactory to 
the carrying firm.\21\
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    \21\ FINRA has made minor changes to the proposed rule in the 
interest of clarity.
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    The provisions of proposed FINRA Rule 4311(g)(1) and (h) generally 
address the obligations of the parties to provide the referenced 
information, such as any written customer complaints and exception 
reports, to each other and/or to FINRA and are based upon existing NASD 
and NYSE rule provisions. (FINRA notes that the July 1 deadline set 
forth in paragraph (h)(2) of the proposed rule differs from the current 
requirement (no later than July 31) specified by the corresponding NASD 
and NYSE rule provisions.) Proposed FINRA Rule 4311(g)(2) provides 
that, upon a showing of good cause, FINRA, at its discretion, may 
exclude certain carrying firms from the requirements of proposed FINRA 
Rule 4311(g)(1) in instances where the introducing firm is an 
affiliated entity of the carrying firm. This provision is based upon 
NASD Rule 3230(b)(3) but is not contained in NYSE Rule 382.
    Proposed FINRA Rule 4311(i) is based largely on NASD Rule 3230(h) 
and does not have a corresponding provision to NYSE Rule 382. The 
proposed rule provides that all carrying agreements must require each 
introducing firm to maintain its proprietary and customer accounts, and 
the proprietary and customer accounts of any introducing firm for which 
it is acting as an intermediary in obtaining clearing services from the 
carrying firm, in such a manner as to enable the carrying firm and 
FINRA to specifically identify the proprietary and customer accounts 
belonging to each introducing firm. Consistent with NASD Rule 3230(h), 
the proposed rule's requirements apply only to intermediary clearing 
arrangements that are established on or after February 20, 2006.
(C) Proposed FINRA Rule 4522 (Periodic Security Counts, Verifications 
and Comparisons)
    Proposed FINRA Rule 4522(a), based in large part on NYSE Rule 
440.10, requires each member firm that is subject to the requirements 
of SEA Rule 17a-13 to make the counts, examinations, verifications, 
comparisons and entries set forth in SEA Rule 17a-13. Proposed FINRA 
Rule 4522(b), again based in large part on NYSE Rule 440.10, requires 
each carrying or clearing member subject to SEA Rule 17a-13 to make 
more frequent counts, examinations, verifications, comparisons and 
entries where prudent business practice would so require. Each such 
carrying or clearing member would be required to receive position 
statements no less than once per month with respect to securities held 
by clearing corporations, other organizations or custodians and, at 
least once per month, reconcile all such securities and money balances 
by comparison of the clearing corporations' or custodians' position 
statements to the member's books and records. The carrying or clearing 
member must promptly report any differences to the contra organization, 
and both the contra organization and the member firm must promptly 
resolve the differences. Where there is a higher volume of activity, 
the proposed rule provides that good business practice may require a 
more frequent exchange of statements and performance of 
reconciliations. The proposed rule further requires that no later than 
seven business days after each security count, the carrying or clearing 
member must enter any unresolved differences in a ``Difference'' 
account for that security count.
    NASD Rules do not have a provision that corresponds to NYSE Rule 
440.10. Accordingly, the requirements of proposed FINRA Rule 4522(b) 
are new to non-NYSE carrying or clearing members that are subject to 
the requirements of SEA Rule 17a-13.\22\
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    \22\ In response to commenter request for clarification, FINRA 
notes that the proposed rule, by its terms, does not apply to 
members that are exempt from SEA Rule 17a-13. See Section (C) under 
Item II.C.
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(D) Proposed FINRA Rule 4523 (Assignment of Responsibility for General 
Ledger Accounts and Identification of Suspense Accounts)
    Proposed FINRA Rule 4523, based in large part on NYSE Rule 440.20, 
is intended to help assure the accuracy of each member's books and 
records and includes supervisory measures for their implementation. 
Paragraph (a) of the proposed rule requires that each member must 
designate an associated person to be responsible for each general 
ledger bookkeeping account and account of like function used by the 
member, and that the associated person must control and oversee entries 
into each such account and determine that the account is current and 
accurate as necessary to comply with all applicable FINRA rules and 
Federal securities laws governing books and records and financial 
responsibility requirements. The proposed rule requires that a 
supervisor must, as frequently as is necessary considering the function 
of the account but, in any event, at least monthly, review each account 
to determine that it is accurate and that any items that are aged or 
uncertain as to resolution are promptly identified for research and 
possible transfer to a suspense account(s).
    Proposed FINRA Rule 4523(b) requires that each carrying or clearing 
member must maintain a record of the name of each individual assigned 
primary and supervisory responsibility for each account as required by 
paragraph (a) of the rule. In the interest of clarity, FINRA has 
revised the proposed rule to require that all records made pursuant to 
Rule 4523(b) must be preserved for a period of not less than six years 
(the period set forth in SEA Rule 17a-4(a)).
    Proposed FINRA Rule 4523(c) provides that each member must record, 
in an account that must be clearly identified as a suspense account, 
money charges or credits and receipts or deliveries of securities whose 
ultimate disposition is pending determination. The proposed rule 
requires that a record must be maintained of all information known with 
respect to each item so recorded. Again, in the interest of clarity, 
FINRA has revised proposed Rule 4523(c) to require that all records 
made pursuant to that paragraph must be preserved for a period of not 
less

[[Page 74763]]

than six years (the period set forth in SEA Rule 17a-4(a)).
    In response to commenter suggestion,\23\ Supplementary Material to 
the proposed rule provides that, for the purposes of paragraphs (a) and 
(b) of the rule, members with only one associated person may assign 
primary and supervisory responsibility for each account to that 
associated person, subject to applicable registration requirements.\24\ 
Further, the Supplementary Material provides that members of limited 
size and resources that have more than one associated person may seek 
FINRA's prior written approval to assign primary and supervisory 
responsibility for each account to the same associated person. Further, 
for purposes of clarification, proposed FINRA Rule 4523.02 provides 
that, for purposes of Rule 4523, all requirements that apply to a 
member that clears or carries customer accounts shall also apply to any 
member that, operating pursuant to the exemptive provisions of SEA Rule 
15c3-3(k)(2)(i), either clears customer transactions pursuant to such 
exemptive provisions or holds customer funds in a bank account 
established thereunder.\25\
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    \23\ See Section (D) under Item II.C.
    \24\ See proposed FINRA Rule 4523.01.
    \25\ See note 6.
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    NASD Rules do not have a provision that corresponds to NYSE Rule 
440.20. Accordingly, the requirements of proposed FINRA Rule 4523 are 
new to non-NYSE members.
    FINRA will announce the implementation date of the proposed rule 
change in a Regulatory Notice to be published no later than 90 days 
following Commission approval. The implementation date will be no later 
than 120 days following publication of the Regulatory Notice announcing 
Commission approval.
2. Statutory Basis
    FINRA believes that the proposed rule change is consistent with the 
provisions of Section 15A(b)(6) of the Act,\26\ which requires, among 
other things, that FINRA rules must be designed to prevent fraudulent 
and manipulative acts and practices, to promote just and equitable 
principles of trade, and, in general, to protect investors and the 
public interest. FINRA believes that the proposed rule change will 
further the purposes of the Act because, as part of the FINRA rulebook 
consolidation process, the proposed rule change will streamline and 
reorganize existing rules that govern guarantees, carrying agreements, 
security counts and supervision of general ledger accounts. Further, 
the proposed rule change will provide greater regulatory clarity with 
respect to these issues.
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    \26\ 15 U.S.C. 78o-3(b)(6).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    FINRA does not believe that the proposed rule change will result in 
any burden on competition that is not necessary or appropriate in 
furtherance of the purposes of the Act.

C. Self-Regulatory Organization's Statement on Comments on the Proposed 
Rule Change Received From Members, Participants or Others

    The proposed rule change was published for comment in Regulatory 
Notice 09-03 (January 2009) (Financial Responsibility and Related 
Operational Rules) (the ``Notice''). Four comments were received in 
response to the Notice.\27\ A copy of the Notice is attached to the 
filing as Exhibit 2a.\28\ A list of the comment letters received in 
response to the Notice is attached to the filing as Exhibit 2b.\29\
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    \27\ Letter from Claire Santaniello, Managing Director and Chief 
Compliance Officer, Pershing LLC (``Pershing''), dated April 27, 
2009; Letter from Holly H. Smith and Eric A. Arnold, Sutherland 
Asbill & Brennan LLP, on behalf of the Committee of Annuity Insurers 
(``CAI''), dated February 20, 2009; Letter from Sarah McCafferty, 
Vice President, Chief Compliance Officer, T. Rowe Price Investment 
Services, Inc. (``TRP''), dated February 19, 2009; and E-mail from 
Terry Nickels, Chief Financial Officer, Vice President, Wedge 
Securities, LLC (``Wedge''), dated February 19, 2009.
    \28\ The Commission notes that while provided in Exhibit 2a to 
FINRA's filing with the Commission, the Notice is not attached 
hereto. The Notice can be accessed online at http://www.finra.org/
web/groups/industry/@ip/@reg/@notice/documents/notices/p117679.pdf.
    \29\ The Commission notes that while provided in Exhibit 2b to 
the filing, the list of the commenters and comment letters received 
by FINRA are not attached hereto. Those comment letters can be 
accessed online at http://www.finra.org/Industry/Regulation/Notices/
2009/P117680. As stated previously, all references to ``commenters'' 
are to the commenters to the Notice, which are listed in Exhibit 2b.
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(A) Proposed FINRA Rule 4150 (Guarantees by, or Flow Through Benefits 
for, Members)
    One commenter sought clarification as to whether the scope of the 
term ``obligations'' as used in proposed FINRA Rule 4150 is limited to 
financial obligations as opposed to other types of contractual 
obligations.\30\ In response, FINRA has clarified that the term 
``obligations'' includes financial obligations, as well as other 
obligations that may have a financial impact on a member, such as 
performance obligations.\31\ The same commenter sought clarification 
regarding the proposed rule's impact on expense sharing agreements. The 
commenter inquired whether, if a firm files or has already filed such 
an agreement with FINRA, the rule imposes a separate obligation to 
provide written notice to FINRA. The commenter further suggested that 
the rule should exempt guarantees that are already subject to review by 
another regulator (for instance, federal bank regulators). In response, 
FINRA believes that, in view of the importance of this regulatory area, 
FINRA should be notified in accordance with the proposed rule's 
provisions of any agreement or arrangement that, falling within the 
subject matter covered by the rule, is already in existence when the 
rule goes into effect, in addition to any such new agreement or 
arrangement going forward. Accordingly, FINRA has revised the proposed 
rule to provide that, within 30 days of the implementation date of the 
rule, each member must advise FINRA, in writing, of any guarantees, 
endorsements, assumptions of obligations/liabilities, or flow through 
capital benefits, in effect as of the implementation date of the rule, 
not having otherwise been reported, in writing, to the appropriate 
Regulatory Coordinator.\32\ With respect to the commenter's last point, 
FINRA does not believe that guarantees subject to review by other 
regulatory authorities should be exempt from the proposed FINRA 
requirement. It is FINRA's responsibility to exercise supervision over 
its members in accordance with FINRA's standards. In this regard, FINRA 
notes that proposed FINRA Rule 4150.05 excludes from the rule's 
coverage guarantees executed routinely in the normal course of 
business, which should serve to reduce associated burdens on 
members.\33\
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    \30\ CAI.
    \31\ See note 7.
    \32\ See proposed FINRA Rule 4150.06.
    \33\ FINRA also has made minor clarifying revisions to proposed 
FINRA Rule 4150.05.
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(B) Proposed FINRA Rule 4311 (Carrying Agreements)
(1) Introducing Firms
    As proposed in the Notice, proposed FINRA Rules 4311(a)(1) and (i) 
set forth certain requirements with respect to the identification of 
introducing firms and their accounts (``clear thru'' or piggyback 
requirements). Proposed FINRA Rule 4311(a)(2) permits carrying firms to 
enter into carrying agreements for the carrying of the customer 
accounts of a person other than a U.S.-registered broker or dealer, 
subject to the rule's

[[Page 74764]]

requirements.\34\ One commenter sought clarification as to whether 
under the proposed rule the so-called ``clear thru'' requirements would 
be applied to foreign introducing firms in the same way as they would 
to members, and, if so, what reporting information would be 
appropriate.\35\ The commenter further inquired whether the term 
``introducing firm,'' as used in the proposed rules generally, includes 
a bank or broker-dealer, or foreign equivalent. In response, FINRA 
notes that the term ``introducing firm'' includes a bank or broker-
dealer, or the foreign equivalent. With respect to reporting 
information, FINRA notes that FINRA would expect requirements as to 
foreign introducing firms to be applied in the same fashion as they do 
with respect to members.
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    \34\ FINRA also has made minor clarifying revisions to proposed 
FINRA Rules 4311(a)(1) and (2). See note 13.
    \35\ Pershing.
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(2) Due Diligence
    One commenter suggested that the proposed rule should not set forth 
specific review requirements with respect to due diligence obligations 
and that firms should be allowed to craft their own due diligence 
review based on a prudential approach according to the business model 
of the introducing firm.\36\ The commenter suggested that due diligence 
should be limited to confirming that a prospective introducing firm 
relationship is appropriate from a commercial perspective and does not 
pose undue credit risk or liability to the carrying firm, and that the 
rule should not imply a responsibility on the part of the carrying firm 
to take further steps to proactively determine the appropriateness of 
the introducing firm's activities or compliance profile, which, the 
commenter suggested, is the responsibility of regulatory authorities. 
The commenter further suggested that, in place of the proposed rule's 
due diligence requirement, the new rule should instead incorporate 
language from current NYSE Rule Interpretation 384/04, to the effect 
that members ``should carefully weigh the capital and other regulatory 
and practical consequences'' of assuming the responsibilities required 
under the rule.
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    \36\ Pershing.
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    In response, FINRA notes that the purpose of the proposed rule is 
to set a standard as to the due diligence that carrying firms must 
exercise. The staff believes such a standard is important as a matter 
of investor protection. However, in response to the commenter's 
suggestion, FINRA has revised proposed FINRA Rule 4311(b)(4) to provide 
that the carrying firm must conduct appropriate due diligence with 
respect to any new introducing firm relationship to assess the 
financial, operational, credit and reputational risk that such 
arrangement will have upon the carrying firm. Supplementary Material to 
the revised rule (proposed FINRA Rule 4311.03) provides that, for 
purposes of FINRA Rule 4311(b)(4), the due diligence may include, 
without limitation, inquiry by the carrying firm into the introducing 
firm's business model and product mix, proprietary and customer 
positions, FOCUS and similar reports, audited financial statements and 
complaint and disciplinary history. Further, the revised rule provides 
that FINRA, in its review of any arrangement, may in its discretion 
require specific items to be addressed by the carrying firm as part of 
the due diligence requirement under the rule.
    One commenter suggested that FINRA should make clear that the 
carrying firm's due diligence obligation extends only to pertinent 
information regarding the introducing firm that receives clearing 
services, and not the introducing firm's affiliates.\37\ The commenter 
also suggested that FINRA should make clear that any information 
provided by the introducing firm as part of the due diligence review 
must be kept confidential by the carrying firm. In response, FINRA 
notes that the due diligence obligation is with respect to the 
introducing firm relationship; information about affiliates is not 
expressly required but should be considered if necessary to make an 
informed decision about entering into a carrying agreement with the 
introducing firm. FINRA believes that the confidentiality of due 
diligence information generally is a matter between the carrying firm 
and the introducing firm, subject to applicable laws and rules.\38\
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    \37\ CAI.
    \38\ For clarification, FINRA notes that the carrying firm and 
the introducing firm are not permitted to agree to keep due 
diligence information confidential from FINRA.
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(3) Notification of Termination of Carrying Agreements
    One commenter sought clarification as to whether, for purposes of 
proposed FINRA Rule 4311(b)(1), it is a ``material change'' to an 
agreement if a party chooses to exercise its right to terminate the 
agreement, in which case FINRA's prior approval would be required.\39\ 
The commenter suggested that construing the proposed rules in such 
fashion would burden the parties to the agreement. The commenter 
further suggested that the rules should delete any proposed requirement 
to notify customers of such termination because there are existing 
mechanisms designed to provide customers of such changes, such as 
communications pursuant to Notice to Members 02-57 (addressing the use 
of negative response letters for the bulk transfer of customer 
accounts) as well as customers' affirmative consent to open and 
transfer their accounts to another firm. The commenter cited concern 
that a further notification requirement could confuse customers and 
suggested that the proposed rule should require the introducing firm, 
not the carrying firm, to be responsible for any such notifications. 
The commenter further suggested the carrying firm should only be 
required to communicate directly with customers in circumstances when 
it provides services to the customer through contract.
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    \39\ Pershing.
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    In response, FINRA has revised proposed FINRA Rule 4311.01 to 
clarify that certain changes to the parties to the agreement--including 
the addition of a new party to the agreement, such as a ``piggyback'' 
arrangement, a new carrying firm or a new introducing firm--are 
material and thus require FINRA's prior approval, but that a 
termination of the agreement is not material for purposes of the 
provision. (FINRA has noted, however, that--as explained in Regulatory 
Notice 08-76--under NYSE Rule 416A, carrying firms that are Dual 
Members are required to update their Firm Clearing Arrangement Form 
information on an ongoing basis no later than 30 days after the 
information has changed; FINRA expects to extend this requirement to 
all carrying firms later as part of the rulebook consolidation 
process.\40\) With respect to notification to customers, FINRA has 
added proposed FINRA Rule 4311.04 to clarify that notification to 
customers of a change in the parties to the agreement is not required 
under FINRA Rule 4311(d) in instances where, consistent with applicable 
FINRA rules and the federal securities laws, such customers' accounts 
are being transferred pursuant to: (a) ACATS using an authorized 
Transfer Instruction Form (TIF); or (b) a process outside of ACATS 
where notification to customers is provided by means of an alternative 
mechanism such as affirmative or negative response letters. As a 
result, customers would need to be notified of changes in parties under 
proposed FINRA Rule 4311 when, for example, any party to the agreement 
undergoes a

[[Page 74765]]

reorganization that results in a name change or a carrying firm 
requires an introducing firm to clear via a piggybacking arrangement 
rather than directly with the carrying firm.
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    \40\ See note 14.
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(4) Furnishing of Customer Complaints and Reports
    As proposed in the Notice, proposed FINRA Rule 4311(g)(1)(A) 
provides that each carrying agreement must authorize and direct the 
carrying firm to furnish promptly to the introducing firm and 
introducing firm's DEA, or, if none, its appropriate regulatory body, 
any written customer complaint regarding the introducing firm and its 
associated persons. Proposed FINRA Rule 4311(h)(2) provides that no 
later than July 1 of each year the carrying firm must notify certain 
officers of the introducing firm of a list of reports supplied to the 
introducing firm, and that a copy of such notification must be provided 
to the same authorities as specified under Rule 4311(g)(1)(A). One 
commenter suggested that, if the proposed requirements apply to non-
U.S. introducing firms, they could present difficulties for members 
because some non-U.S. regulatory authorities are not accustomed to or 
prepared for the receipt of such information.\41\ The commenter 
suggested that FINRA should engage in additional international 
coordination efforts and industry discussions.
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    \41\ Pershing.
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    In response, FINRA notes that the proposed rule does extend to non-
U.S. introducing firms and, accordingly, the requirement to provide 
information to foreign regulators may apply. FINRA believes that the 
proposed requirement is consistent with the goal of strengthening 
international regulatory coordination and is conducive to investor 
protection, and further notes that the requirement exists under current 
rules. Though FINRA has not revised the proposed rule with respect to 
this issue, FINRA notes that it plans to engage in coordination and 
education efforts with such bodies as IOSCO, and will consider whether 
any future changes are necessary based on such discussions.
(C) Proposed FINRA Rule 4522 (Periodic Security Counts, Verifications 
and Comparisons)
    As proposed in the Notice, proposed FINRA Rule 4522 imposes certain 
requirements on members that are subject to SEA Rule 17a-13. One 
commenter requested clarification as to whether members that are exempt 
from Rule 17a-13 would also be exempt from the proposed rule, 
notwithstanding that such members may be carrying or clearing 
firms.\42\ In response, FINRA has clarified that the proposed rule, by 
its terms, does not apply to members that are exempt from SEA Rule 17a-
13.\43\
---------------------------------------------------------------------------

    \42\ CAI.
    \43\ See note 22.
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(D) Proposed FINRA Rule 4523 (Assignment of Responsibility for General 
Ledger Accounts and Identification of Suspense Accounts)
    One commenter sought clarification as to whether the proposed rule 
is intended only to cover general ledger accounts used by the member 
and not the general ledger accounts of the corporate complex to which 
the member belongs.\44\ Two commenters suggested that the proposed rule 
should be revised so as to permit flexibility with respect to members' 
supervisory obligations.\45\ One of the two suggested the proposed rule 
should incorporate a concept of reasonable supervision and policies and 
procedures reasonably designed to achieve compliance; the commenter 
further suggested that FINRA should strike from the proposed rule the 
requirement that the person responsible for the account must determine 
``at all times'' that the account is current and accurate.\46\ The 
second of the two commenters suggested that there should be an 
exemption for small firms so that the person assigned responsibility 
for general ledger bookkeeping would also be the person exercising the 
supervisory functions that the proposed rule sets forth.\47\ The same 
commenter also sought clarification as to what evidentiary proof of 
review of the account would be required under the rule.
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    \44\ TRP.
    \45\ CAI and Wedge.
    \46\ CAI.
    \47\ Wedge.
---------------------------------------------------------------------------

    In response, FINRA appreciates the concerns that small firms may 
have with respect to supervision of general ledger accounts. As a 
general matter FINRA does not believe it is appropriate, from the 
standpoint of investor protection, that the same person assigned 
responsibility for the accounts also be the person exercising the 
supervisory functions set forth in the rule. However, in view of the 
circumstances of small firms, FINRA has revised the proposed rule to 
allow each member with only one associated person to assign primary and 
supervisory responsibility for each account to that associated person; 
members of limited size and resources would be able to seek FINRA's 
prior written approval to assign primary and supervisory responsibility 
for each account to the same associated person.\48\
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    \48\ FINRA has also amended proposed Rule 4523 to require 
members to designate an ``associated person'' to perform the 
specified functions, rather than an ``individual.''
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    With respect to the requirement, as set forth in the rule as 
proposed in the Notice, to ensure such accounts are current and 
accurate ``at all times,'' FINRA notes the particular importance of 
this subject matter. FINRA believes that requiring the accounts be 
accurate ``at all times'' is consistent with SEA Rule 15c3-1(a), which 
governs net capital requirements, and requires a broker-dealer to 
maintain its required net capital continuously and demonstrate moment-
to-moment compliance.\49\ However, in response to commenter suggestion, 
FINRA has revised proposed FINRA Rule 4523(a) to clarify that the 
obligation imposed by the rule is to ensure that the general ledger 
account is current and accurate as necessary to comply with all 
applicable FINRA rules and federal securities laws governing books and 
records and financial responsibility requirements. Further, FINRA notes 
that the rule's requirements only apply to the general ledger account 
of the member, as opposed to the corporate complex to which the member 
belongs. Lastly, with respect to maintaining records that give evidence 
of the supervisory review, FINRA notes that FINRA expects members to 
keep such records as would reasonably demonstrate that the supervision 
required by the proposed rule is being carried out. (In the interest of 
clarity with respect to record-retention requirements, FINRA notes that 
it has revised proposed FINRA Rules 4523(b) and (c) to require that all 
records made pursuant to each of those rules must be preserved for a 
period of not less than six years, the period set forth in SEA Rule 
17a-4(a)).
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    \49\ See Notice to Members 07-16 (Frequently Asked Financial and 
Operational Questions) (April 2007), Question A-1.
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(E) Miscellaneous Comments
    In FINRA's separate rule filing regarding the proposed consolidated 
financial responsibility rules, FINRA has proposed certain regulatory 
treatment of firms that operate pursuant to the exemptive provisions of 
SEA Rule 15c3-3(k)(2)(i).\50\ Regarding such treatment, one commenter 
on the Notice raised concerns that the commenter expressed in virtually 
identical language in a letter submitted to the SEC on SR-

[[Page 74766]]

FINRA-2008-067.\51\ Because FINRA has already responded to the 
commenter's concerns in a separate letter that is available on the SEC 
Web site,\52\ FINRA will not re-address them in connection with this 
filing.
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    \50\ See note 6.
    \51\ CAI.
    \52\ See letter to Elizabeth M. Murphy, Secretary, U.S. 
Securities and Exchange Commission, from Adam H. Arkel, Assistant 
General Counsel, FINRA, dated April 14, 2009. See also Partial 
Amendment No. 2 to SR-FINRA-2008-067 (June 30, 2009).
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III. Date of Effectiveness of the Proposed Rule Change and Timing for 
Commission Action

    Within 45 days of the date of publication of this notice in the 
Federal Register or within such longer period (i) as the Commission may 
designate up to 90 days of such date if it finds such longer period to 
be appropriate and publishes its reasons for so finding or (ii) as to 
which the self-regulatory organization consents, the Commission will:
    (A) By order approve or disapprove such proposed rule change, or
    (B) Institute proceedings to determine whether the proposed rule 
change should be disapproved.

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views, and 
arguments concerning the foregoing, including whether the proposed rule 
change is consistent with the Act. Comments may be submitted by any of 
the following methods:

Electronic Comments

     Use the Commission's Internet comment form (http://
www.sec.gov/rules/sro.shtml); or
     Send an e-mail to rule-comments@sec.gov. Please include 
File Number SR-FINRA-2010-061 on the subject line.

Paper Comments

     Send paper comments in triplicate to Elizabeth M. Murphy, 
Secretary, Securities and Exchange Commission, 100 F Street, NE., 
Washington, DC 20549-1090.

All submissions should refer to File Number SR-FINRA-2010-061. This 
file number should be included on the subject line if e-mail is used. 
To help the Commission process and review your comments more 
efficiently, please use only one method. The Commission will post all 
comments on the Commission's Web site (http://www.sec.gov/rules/
sro.shtml). Copies of the submission, all subsequent amendments, all 
written statements with respect to the proposed rule change that are 
filed with the Commission, and all written communications relating to 
the proposed rule change between the Commission and any person, other 
than those that may be withheld from the public in accordance with the 
provisions of 5 U.S.C. 552, will be available for website viewing and 
printing in the Commission's Public Reference Room, 100 F Street, NE., 
Washington, DC 20549, on official business days between the hours of 10 
a.m. and 3 p.m. Copies of such filing also will be available for 
inspection and copying at the principal office of FINRA. All comments 
received will be posted without change; the Commission does not edit 
personal identifying information from submissions.
    You should submit only information that you wish to make available 
publicly. All submissions should refer to File Number SR-FINRA-2010-061 
and should be submitted on or before December 22, 2010.

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\53\
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    \53\ 17 CFR 200.30-3(a)(12).
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Elizabeth M. Murphy,
Secretary.
[FR Doc. 2010-30229 Filed 11-30-10; 8:45 am]
BILLING CODE 8011-01-P