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Coordinated Examinations Identify Top Broker-Dealer Compliance Violations

Monday, October 1, 2012

Based upon coordinated examinations of broker-dealers throughout the United States, the North American Securities Administrators Association (NASAA) has identified the top compliance violations and offered a series of recommended best practices for broker-dealers to consider in improving their compliance practices and procedures.

The examination results were released at NASAA’s annual conference which was held in San Diego along with best practices to help firms manage their compliance functions efficiently.

These best practices were developed after a series of examinations of broker-dealers, conducted by state securities examiners, revealed a significant number of problem areas. The 2012 examinations were conducted under the guidance of NASAA’s Broker-Dealer Operations Project Group.

A total of 236 examinations conducted between January 1 and June 30, 2012, found 453 types of violations in five compliance areas. The highest percentage of violations were in the books and records area with supervision, sales practices, registration & licensing, and operations rounding out the list.

The top five types of violations found involved: failure to follow written supervisory policies and procedures, suitability, correspondence/e-mail, maintenance of customer account information, and internal audits.

Best Practices
Based upon the examination results, NASAA recommended 10 best practices to help broker-dealers develop compliance practices and procedures in the following areas:

  • Suitability. Broker-Dealers must develop effective standards and criteria for determining suitability. State regulations and FINRA Rules 2090 and 2111 require registered persons to “know your customer” and receive training sufficient to demonstrate knowledge of the products before a sale occurs.
  • Develop, Update, and Enforce Written Supervisory Procedures. BDs also should ensure that staffing and expertise are commensurate with the size of the BD, type(s) of businesses engaged in by the firm, and the individual responsible for specific procedures.
  • Exception Reports. Introducing dealers should obtain the necessary exception reports from the clearing dealer to ensure proper compliance. Upon the generation of exception reports, all BDs must document and resolve “red flags” in a timely manner. BDs that rely solely upon conversations with salespersons to address exception reports without contacting investors may subject themselves and supervisory staff to regulatory and/or legal action.
  • Branch Office Audits. Develop a branch audit program that includes a meaningful audit document/plan, unannounced visits, a means to convey audit results, and a follow-up plan requiring that the branch take corrective action.
  • Selling Away. BDs must ensure that adequate procedures are in place to address private securities transactions (selling away). If this activity is permitted, the firm’s written supervisory procedures should be adequate to monitor this activity on an ongoing basis. The BD’s procedures must have a mechanism to conduct a meaningful review of the request and in the instance where the request is denied, a process to determine the salesperson is/has not engaged in the activity./li>
  • Outside Business Activity. Written outside business activity requests from salespersons must be received, reviewed and approved by the firm prior to the activity. The BD and salesperson are required to report the outside business activity on the salesperson’s Form U4. The firm should have a supervisory procedure in place to address its approval/denial process and a requirement that the salesperson promptly report any changes to the approved outside activity.
  • Advertisements. Advertisements and sales literature MUST be fair and balanced and must be reviewed and approved by the BD and/or FINRA. Seminar notices/advertisements, programs, seminar materials utilized, and guest speakers must be approved by the BD. In instances where the salespersons routinely conduct seminars, a supervisory representative of the firm should randomly attend the seminar for compliance purposes.
  • Correspondence. Correspondence, both electronic and hard copy, must be effectively monitored by the BD. This includes a system of capturing and maintaining electronic, business-related correspondence sent by salespersons from websites and social network service providers outside the firm. For additional guidance, refer to FINRA NTM 11-39.
  • Customer Complaints. Upon receipt of a complaint, firms must acknowledge the receipt, conduct and document a thorough review of the customer’s allegations, and, if necessary, update the salesperson’s Form U4. In situations where the firm discovers wrongdoing, the firm should remediate customer harm. Timely reporting and remediating customer harm are some of the factors under NASAA guidelines to determine if the firm is entitled to credit for cooperation.
  • Working with Seniors. Baby Boomers are moving into retirement, and as individuals age, cognitive abilities begin to diminish. BDs and financial professionals should develop procedures/best practices for handling accounts of “senior” investors. A number of recommendations relating to these best practices are contained in joint reports issued in 2008 and 2010 by NASAA, SEC, and FINRA.

For a copy of the complete NAASA report please click here.

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