[Federal Register Volume 67, Number 232 (Tuesday, December 3, 2002)]
[Proposed Rules]
[Pages 71909-71915]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 02-30664]


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SECURITIES AND EXCHANGE COMMISSION

17 CFR Part 240

[Release No. 34-46920; File No. S7-48-02]
RIN 3235-AI68


Broker-Dealer Exemption from Sending Certain Financial 
Information to Customers

AGENCY: Securities and Exchange Commission (``Commission'')

ACTION: Proposed rule.

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SUMMARY: We are proposing for comment amendments to a rule under the 
Securities Exchange Act of 1934 that would provide a conditional 
exemption from the rule's requirement that a broker-dealer that carries 
customer accounts send its full balance sheet and certain other 
financial information to each of its customers twice a year. Under the 
proposed amendments, the broker-dealer could send its customers only 
certain information regarding its net capital, as long as it also 
provided customers with a toll-free number to call for a free copy of 
its full balance sheet and made its full balance sheet available to 
customers over the Internet. The proposed amendments are intended to 
reduce the cost of doing business for a broker-dealer while providing 
customers of the broker-dealer with free and easy access to the 
information they need to evaluate the financial soundness of the 
broker-dealer.

DATES: You should send us your comments so that they arrive at the 
Commission by January 2, 2003.

ADDRESSES: To help us process and review your comments more 
efficiently, comments should be sent by one method only. Please send 
three copies of your comments to Jonathan G. Katz, Secretary, 
Securities and Exchange Commission, 450 Fifth Street, NW., Washington, 
DC 20549-0609. Alternatively, you may submit your comments 
electronically to the following electronic-mail address: [email protected]. All comment letters should refer to File No. S7-48-
02; please include this file number in the subject line if you use 
electronic mail. We will make all comment letters available for public 
inspection and copying in our public reference room at the above 
address. We will post electronically submitted comment letters on the 
Commission's Internet Web site (http://www.sec.gov).\1\
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    \1\ We do not edit personal identifying information, such as 
names or electronic-mail addresses, from electronic submissions. You 
should submit only information that you wish to make publicly 
available.

FOR FURTHER INFORMATION CONTACT: Michael A. Macchiaroli, Associate 
Director, at (202) 942-0132; Thomas K. McGowan, Assistant Director, at 
(202) 942-4886; or Rose Russo Wells, Attorney, at (202) 942-0143; 
Division of Market Regulation, Securities and Exchange Commission, 450 
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Fifth Street NW., Washington, DC 20549-1001.

SUPPLEMENTARY INFORMATION:

I. Background

    A broker-dealer that carries customer accounts must generally send 
its full balance sheet to each of its customers twice a year (once 
audited and once unaudited) under Section 17(e)(1)(B) of the Securities 
Exchange Act of 1934 and Exchange Act Rule 17a-5(c).\2\ The full 
balance sheet includes footnote disclosures required by generally 
accepted accounting principles (``GAAP'') and a footnote disclosing the 
amount of net capital the broker-dealer held as of the balance sheet 
date and the minimum amount of net capital we required the broker-
dealer to hold as of that date.\3\ According to the Commission's Office 
of Economic Analysis, there are currently 412 broker-dealers subject to 
the rule that carry a total of approximately 103 million public 
customer accounts.\4\
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    \2\ Section 240.17a-5(c).
    \3\ Exchange Act Rule 15c3-1 defines net capital and sets 
minimum net capital requirements for a broker-dealer. Rule 15c3-1 is 
designed to ensure that each broker-dealer maintains sufficient 
liquid assets (those assets that can be readily converted into cash) 
in excess of liabilities to promptly satisfy the firm's liabilities, 
including those to customers. A broker-dealer that fails to meet the 
minimum net capital requirements must cease conducting a securities 
business.
    \4\ These estimates are based on reports broker-dealers are 
required to file with the Commission on Form X-17a-5, ``Financial 
and Operational Combined Uniform Single Report'' (commonly referred 
to as FOCUS Reports).
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    When we adopted Rule 17a-5(c) on June 30, 1972,\5\ our goal was for 
broker-dealers to ``directly'' send a customer essential information so 
that a customer could ``judge whether his broker or dealer is 
financially sound.'') \6\ We adopted the Rule in response to the 
failures of many broker-dealers holding customer funds and securities 
in the period between 1968 and 1971. When first adopted, Rule 17a-5(c) 
required a broker-dealer to send its balance sheet

[[Page 71910]]

to its customers five times a year. We later reduced this to two times 
a year.\7\
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    \5\ We adopted Rule 17a-5(c) pursuant to Exchange Act Sections 
17(a), 10(b), 15(c)(1), (2) and (3), and 23(a). In 1975, Congress 
passed the Securities Acts Amendments, Pub. L. No. 94-29, 89 Stat. 
97, which gave the Commission explicit authority, pursuant to 
Exchange Act Section 17(e), over the accounting practices of broker-
dealers. Section 17(e) provides:
    (1)(A) Every registered broker or dealer shall annually file 
with the Commission a balance sheet and income statement certified 
by a registered public accounting firm, prepared on a calendar or 
fiscal year basis, and such other financial statements (which shall, 
as the Commission specifies, be certified) and information 
concerning its financial condition as the Commission, by rule may 
prescribe as necessary or appropriate in the public interest or for 
the protection of investors.
    (B) Every registered broker and dealer shall annually send to 
its customers its certified balance sheet and such other financial 
statements and information concerning its financial condition as the 
Commission, by rule, may prescribe pursuant to subsection (a) of 
this section.
    (C) The Commission, by rule or order, may conditionally or 
unconditionally exempt any registered broker or dealer, or class of 
such brokers or dealers, from any provision of this paragraph if the 
Commission determines that such exemption is consistent with the 
public interest and the protection of investors.
    (2) The Commission, by rule, as it deems necessary or 
appropriate in the public interest or for the protection of 
investors, may prescribe the form and content of financial 
statements filed pursuant to this title and the accounting 
principles and accounting standards used in their preparation.
    \6\ Exchange Act Release No. 9658 (June 30, 1972).
    \7\ Exchange Act Release No. 11187 (Jan. 17, 1975).
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    The staff of the Commission's Division of Market Regulation 
(``Division'') has taken steps to reduce the cost to broker-dealers of 
complying with Rule 17a-5(c). In a letter of February 26, 2001, the 
Division provided no-action relief to allow a broker-dealer to send its 
balance sheet with its quarterly mailing of customer account 
statements, provided that the broker-dealer also sent certain updated 
net capital information.\8\ Further, the Commission has provided that, 
with the consent of the customer, a broker-dealer may send its balance 
sheet electronically.\9\
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    \8\ Letter of February 26, 2001 from Michael Macchiaroli, 
Associate Director, to Cheryl M. Kallem, Chairperson, Securities 
Industry Association (2001 SEC No-Act. LEXIS 523).
    \9\ Exchange Act Release No. 37182 (May 15, 1996).
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    In July 1998, the Securities Industry Association (``SIA'') \10\ 
requested additional relief on behalf of broker-dealers due to the cost 
of sending a full balance sheet to each customer and the availability 
of the Internet as an alternative method of delivery.\11\ Full balance 
sheets for large broker-dealers may be six or more pages long, 
primarily due to the footnote disclosures required by GAAP.
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    \10\ The 600 member firms of the SIA include investment banks, 
broker-dealers, and mutual fund companies.
    \11\ Letter of July 17, 1998 from Mark Holloway, Chairman, SIA 
Capital Committee to Michael A. Macchiaroli, Associate Director. 
?
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    In response to the request for relief, we issued a conditional 
exemptive order establishing a pilot program that permitted a broker-
dealer that elected to take advantage of the relief to send only its 
net capital footnote to its customers when it otherwise would have had 
to send its full balance sheet.\12\ One condition of the order was that 
a customer of the broker-dealer wishing to obtain a copy of the firm's 
full balance sheet was able to do so, at no cost to the customer, by 
calling a toll-free number to promptly obtain a paper copy or, with the 
customer's consent, an electronic copy or by accessing the broker-
dealer's Internet website. The relief was designed to reduce the cost 
to broker-dealers of complying with Rule 17a-5(c) while making it as 
easy as possible for customers to get the information they need to 
evaluate the financial soundness of a broker-dealer that may be holding 
their cash and securities. Participation in the pilot program was 
voluntary, and broker-dealers that participated in the pilot program 
were the firms that were likely to benefit most from taking advantage 
of the exemption. No broker-dealer dropped out of the pilot program. On 
December 20, 2001, the Commission issued an order extending the pilot 
program for one year, until December 31, 2002.\13\ Today, the 
Commission issued an order extending the pilot program for six months, 
until June 30, 2003 (Exchange Act Release No. 46921), during which time 
the Commission, after receiving and considering comments on these 
proposed rule amendments, may adopt amendments to Rule 17a-5(c).
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    \12\ Exchange Act Release No. 42222 (Dec. 10, 1999).
    \13\ Exchange Act Release No. 45179 (Dec. 20, 2001), 66 FR 67341 
(Dec. 28, 2001).
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    During the pilot program, we required a broker-dealer taking 
advantage of the relief to submit to us a report on the number of times 
its balance sheet was viewed on its website and the number of requests 
it received for copies via its toll-free number, and, during the 
December 31, 2001 to December 31, 2002 extension of the pilot program, 
written customer complaints it received regarding the exemption. As of 
July 1, 2002, 29 firms, which hold a total of about 40 million customer 
accounts, had elected to take advantage of the relief. The reports 
filed since the program was established on December 10, 1999, through 
July 1, 2002, show that 1,384 customers have called the toll-free 
numbers to request copies of the balance sheets and that there were 
139,888 total viewings of the balance sheets on the websites of the 
firms participating in the pilot program. This indicates that customers 
are using the mechanisms provided by the pilot program to access 
broker-dealers' financial information. In addition, the reports show 
that the firms taking advantage of the exemption received no customer 
complaints regarding the exemption.

II. Description of the Proposed Amendments

    We now propose to amend Rule 17a-5(c) to codify the relief we 
granted in the pilot program. The proposed amendments closely track the 
text of the orders establishing and extending the pilot program with 
two substantive exceptions.\14\ First, as discussed below, the proposed 
amendments contain a modification from the pilot program regarding when 
a firm could take advantage of the relief if it had a net capital 
deficiency or other disqualifying factor. We also propose to eliminate 
the requirement contained in the pilot that broker-dealers taking 
advantage of the relief submit reports to us concerning the number of 
requests for copies of their balance sheets via their toll-free 
numbers, the number of viewings of their balance sheets on their 
websites, and the number of complaints they have received regarding the 
exemption. The reason for requesting this information in the pilot was 
to permit the Commission to be able to evaluate how the relief was 
working, so that the Commission could decide whether to propose 
permanent relief. At this time, we no longer believe such a reporting 
requirement would be necessary in the proposed rule amendments. We seek 
comment on whether the proposed rule amendments should contain a 
reporting requirement.
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    \14\ In addition to the two changes discussed here, we have made 
minor technical corrections and clarifications to the conditions 
previously set out in the pilot program.
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    The pilot program prevented a broker-dealer from taking advantage 
of the relief in the event of a net capital deficiency or other 
disqualifying factor. The proposed amendments would extend the 
circumstances in which the relief would not be available. The 
amendments would not allow a broker-dealer to take advantage of the 
relief if, during the year prior to the date of the broker-dealer's 
balance sheet, the broker-dealer was required to provide notice to the 
Commission of the occurrence of any disqualifying event specified in 
the rule.\15\ Disqualifying events would include net capital 
deficiencies, net capital early warning deficiencies, books and records 
failures, and internal control or financial disclosure inadequacies and 
are set out in Exchange Act Rule 17a-11 (b)(1), (c)(2), (c)(3), (d), 
and (e). In such a situation, a broker-dealer would be required to send 
all mandated financial information directly to each customer because 
customers would be more likely to want to review the broker-dealer's 
balance sheet under the circumstances. In the pilot program, the relief 
was available to a broker-dealer that had a capital deficiency within 
the past year that was not corrected within 24 hours as long as the 
deficiency was corrected by the next date that financial disclosures 
were required. We changed this provision in the proposed amendments 
because even if the deficiency was promptly cured, the deficiency might 
indicate that the broker-dealer's overall financial condition has 
changed significantly. In those circumstances, we believe that 
customers should receive the full balance sheet for at least one year 
after the deficiency is cured. We request comment on whether customers 
should receive the full balance sheet for a time

[[Page 71911]]

period that is more than one year or less than one year after the 
deficiency is cured. In addition, as specified in the proposed 
amendments, we have extended the disqualifying events to include a 
failure by the broker-dealer to make and keep current certain of its 
books and records. We request comment on whether the disqualifying 
events specified in the proposed amendments, certain of the 
``Notification Provisions for Brokers and Dealers'' enumerated in 
paragraphs (b)(1), (c)(1), (c)(2), (c)(3), (d), and (e) of Rule 17a-11, 
are appropriate. In particular, are there other circumstances in which 
it would not be appropriate for us to permit a broker-dealer to take 
advantage of the relief, should any of the specified circumstances not 
be included in the rule amendments, or should the disqualifying events 
in the proposed rule amendments be revised? For example, should the 
levels of net capital that constitute disqualifying events for purposes 
of the proposed amendments be different from those requiring 
notification under Rule 17a-11?
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    \15\ See proposed paragraph (c)(5)(vi) of Rule 17a-5.
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    The proposed amendments reflect our view that it is not necessary 
for a broker-dealer to send a full balance sheet two times a year to 
keep a customer informed of the financial condition of the broker-
dealer if the customer receives the broker-dealer's net capital 
information twice a year and if the full balance sheet is available 
through a call to a toll-free number or is posted on the website of the 
broker-dealer. Under the proposed amendments, a broker-dealer that 
elects to take advantage of the relief provided to broker-dealers 
through the proposed amendments would continue to send to its customers 
or have readily available for its customers the financial information 
about the broker-dealer that is necessary in order for the customer to 
assess the broker-dealer's financial condition. In turn, we anticipate 
that if we were to adopt the proposed amendments, the cost to broker-
dealers of complying with Rule 17a-5(c) would be substantially reduced. 
As a result, and as described below, we believe that the conditional 
exemption, as proposed today, would be consistent with the public 
interest and the protection of investors.
    The amendments would require a broker-dealer taking advantage of 
the relief to continue to send specified financial information to each 
customer twice a year. This financial information would consist of the 
amount of the broker-dealer's net capital as of the date of the balance 
sheet the broker-dealer would have sent absent the exemption, the 
amount of the broker-dealer's required net capital as of that date, and 
information on how to obtain the full balance sheet of the broker-
dealer via a toll-free number or on the broker-dealer's website. 
Sending this financial information twice a year would remind customers 
that the full balance sheet of the broker-dealer is available to them 
at no cost and would highlight and keep them informed of the firm's net 
capital position. We request comment on whether a broker-dealer taking 
advantage of the relief should send either more or less information to 
its customers and whether it should send the information more or less 
often than two times a year.
    The amendments would require that the financial information be 
``given prominence in the materials delivered to customers. . . .'' 
\16\ We request comment on whether the rule should include additional 
requirements. For example, should the rule mandate that the financial 
information be on a separate page, to help make customers aware that 
the financial information is included in the materials sent to them by 
their broker-dealer taking advantage of the exemption? Further, should 
the broker-dealer be required to use other methods to inform its 
customers how to obtain its full balance sheet?
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    \16\ See proposed paragraph (c)(5)(ii) to Rule 17a-5.
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    We believe that customers must have the opportunity to evaluate for 
themselves whether the broker-dealer is sufficiently financially sound 
to be entrusted to hold their securities and cash. The net capital 
requirements are designed to ensure that brokers and dealers have 
sufficient liquid assets (those assets that can be readily converted 
into cash) in excess of liabilities to promptly satisfy the firm's 
liabilities, including those to customers. Information about a broker-
dealer's net capital is therefore useful in gauging the financial 
soundness of the broker-dealer. The amendments would require that a 
broker-dealer send customers its net capital information directly and 
give customers directions on how to obtain the full balance sheet of 
the broker-dealer.
    Under the amendments, the full balance sheet of a broker-dealer 
taking advantage of the exemption would be available to a customer at 
no cost--by calling a toll-free number to obtain a copy and by 
accessing it on the firm's website. We request comment on whether there 
should be other ways in which customers could obtain the broker-
dealer's full balance sheet.
    The proposed amendments are intended to make it easy and convenient 
for a customer to obtain the firm's balance sheet. When posting its 
balance sheet to its website, the broker-dealer would be required to 
place a prominent link directly to the balance sheet on any web page 
that a customer would typically use to enter the website. The links 
would have to be placed on the broker-dealer's home page and on each 
page at which a customer can enter or log on to the broker-dealer's 
website. We request comment on how the full balance sheet and 
hyperlinks to the full balance sheet of a broker-dealer taking 
advantage of the relief should be placed on its website.
    Rule 17a-5(c) requires a broker-dealer that carries customer 
accounts to annually send each customer certain financial information, 
including an audited balance sheet, within 105 days of the date of the 
balance sheet and to semiannually send each customer certain financial 
information, including an unaudited balance sheet dated six months 
after the date of the audited balance sheet, within 65 days of the date 
of the unaudited balance sheet. The Commission's staff has provided no-
action relief to allow a broker-dealer to send the balance sheets after 
the 105 and 65-day time limits, provided that the broker-dealer sent 
the balance sheets with its next mailing of quarterly customer account 
statements \17\ and provided that the broker-dealer also sent certain 
net capital information as of a fiscal month end that is within 75 days 
of the date that statements are sent to customers.\18\
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    \17\ A broker-dealer that carries customer accounts must send 
account statements to customers at least quarterly under New York 
Stock Exchange Rule 409 and Section 45 of Article III of the NASD 
Rules of Fair Practice.
    \18\ Letter of February 26, 2001 from Michael Macchiaroli, 
Associate Director, to Cheryl M. Kallem, Chairperson, Securities 
Industry Association (2001 SEC No-Act. LEXIS 523).
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    We request comment on whether the time-frames for the sending of 
broker-dealer financial information to customers required by Rule 17a-
5(c) and the no-action relief are appropriate. Should the 105 days for 
the sending of audited balance sheets be shortened, for example, to 
somewhere between 105 and 75 days? Should the 65 days for the sending 
of unaudited balance sheets be shortened, for example, to somewhere 
between 65 and 45 days? We also request comment on whether these 
shortened time frames should apply if the firm has experienced the 
occurrence of financial or operational difficulties, such as a 
disqualifying event under paragraph (c)(5)(vi) of the proposed 
amendments. Further, should we codify the time frames in the no-action 
letter by which the broker-dealer must send

[[Page 71912]]

its balance sheets to each customer into Rule 17a-5(c)? Should such a 
rule provide a time period that is shorter than the time period 
permitted in the no-action letter? Should such a rule require that the 
updated net capital information that a broker-dealer sends with its 
mailing of quarterly customer account statements under the no-action 
relief be as of a fiscal month end that is within a time period that is 
shorter or longer than 75 days?
    Under amendments as currently proposed, a broker-dealer taking 
advantage of the exemption would be required, within 105 days of the 
date of the audited balance sheet, to send its financial disclosure 
statement to each customer (as described in paragraphs (5)(i)-(ii) of 
the proposed amendments), to place its audited balance sheet on its 
website, and to make its audited balance sheet available to customers 
who call its toll-free number to request it. The corresponding time 
frame is 65 days for the unaudited balance sheet. Should we codify the 
no-action relief to allow a broker-dealer taking advantage of the 
exemption to send its financial disclosure statement with its next 
mailing of quarterly customer account statements after the expiration 
of the prescribed time limits?
    We request comment on whether some or all of these time frames for 
broker-dealers taking advantage of the proposed exemption are 
appropriate. For example, should a broker-dealer taking advantage of 
the exemption be required to place its balance sheets on its website 
sooner than it is required to send the financial disclosure statement 
to customers? Should the time period for posting the balance sheet on 
the website be somewhere between 60 and 105 days of the date of the 
audited balance sheet? Should the time period be somewhere between 45 
and 60 days of the date of the unaudited balance sheet? We request 
comment on whether the time-frames for the sending the financial 
disclosure statement to each customer under the proposed exemption are 
appropriate. Should the 105 days for the sending of the financial 
disclosure statement relating to the audited balance sheet be 
shortened, for example, to somewhere between 105 and 75 days? Should 
the 65 days for the sending of the financial disclosure statement 
related to the unaudited balance sheet be shortened, for example, to 
somewhere between 65 and 45 days? We also request comment on whether 
these shortened time frames should apply if the firm has experienced 
the occurrence of financial or operational difficulties, such as a 
disqualifying event under paragraph (c)(5)(vi) of the proposed 
amendments.
    We encourage any interested person to submit comments on the 
proposed amendments from the point of view of broker-dealers, their 
customers, and investors and other users of information about the 
financial condition of broker-dealers. Comments are of greatest 
assistance to us if accompanied by supporting data and analysis of the 
issues addressed in those comments.

III. Paperwork Reduction Act

    The proposed amendments contain ``collection of information'' 
requirements within the meaning of the Paperwork Reduction Act of 1995 
(``PRA'').\19\ We are submitting the proposed amendments to the Office 
of Management and Budget (``OMB'') for review in accordance with the 
PRA.\20\ An agency may not conduct or sponsor, and a person is not 
required to respond to, a collection of information unless it displays 
a currently valid control number. The title for the collection of 
information affected by the proposed amendments is ``Rule 17a-5(c)'' 
(OMB Control No. 3235-0199).
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    \19\ 44 U.S.C. Section 3501 et seq.
    \20\ 44 U.S.C. Section 3507(d) and 5 CFR Sec.  1320.11.
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    If adopted, the proposed amendments would allow a broker-dealer 
that elects to take advantage of the exemption, instead of sending its 
full balance sheet, to send a financial disclosure statement, 
consisting of its net capital information and information on how to 
obtain its full balance sheet, to its customers twice a year, as long 
as the broker-dealer also posts its balance sheet on its website and 
promptly sends its balance sheet to its customers who request it via a 
toll-free number. We estimate that the proposed amendments would reduce 
the existing paperwork burden on broker-dealers taking advantage of the 
exemption.
    The current PRA burden for Rule 17a-5(c) is 542,222 hours and 
$19.52 million. The hour burden is based on an estimated average of 10 
seconds to send each balance sheet times 97.6 million public customer 
accounts times two balance sheets per year (195,200,000 responses * 10 
seconds /60 seconds/60 minutes = 542,222 hours per year). The cost 
burden is based on an estimated average of 10 cents per response for 
postage and printing costs (195,200,000 responses * $.10 = $19.52 
million).
    Since the time of the last calculation of the PRA burden, the 
number of public customer accounts has increased to 103 million. 
Further, industry sources represented that it now costs approximately 
11 cents to mail a full balance sheet to a customer, primarily due to 
the additional postage required to mail the approximately six pages of 
footnotes required by GAAP, and that few customers agreed to accept the 
balance sheets electronically. We are now using that estimate of 11 
cents instead of the 10 cents per balance sheet we had used previously. 
We request comment on the accuracy of that estimate.
    Since the inception of the pilot program on December 10, 1999, to 
July 1, 2002, 29 broker-dealers, carrying a total of approximately 40 
million customer accounts, have taken advantage of the relief. If the 
Commission adopts the proposed amendments, some additional firms may 
take advantage of the exemption. Because these firms have not yet taken 
advantage of the relief and because they may be smaller firms than some 
of the firms that have already taken advantage of the relief, these 
firms may realize fewer benefits from the exemption than those firms 
already taking advantage of the exemption.
    Broker-dealers currently taking advantage of the exemption send the 
financial disclosure statement, instead of their full balance sheet, 
twice a year. Some broker-dealers print the financial disclosure 
statement, which is typically about one paragraph in length, on a 
separate page, and some broker-dealers print it on the account 
statement.
    We estimate that the 29 broker-dealers currently taking advantage 
of the exemption would spend 222,000 hours per year sending the 
financial disclosure statements to their customers. This estimate is 
based on an estimated average of 10 seconds to send each statement 
times 40 million customers times 2 financial disclosure statements per 
year. We have estimated in previous Paperwork Reduction Act filings 
that it requires 10 seconds to send a full balance sheet to a customer. 
Sending the financial disclosure statement instead of the full balance 
sheet may require less time. We request comment on the accuracy of the 
estimate of the amount of time required to send each financial 
disclosure statement.
    We estimate that broker-dealers taking advantage of the exemption 
would save up to 11 cents each on postage and printing to send the 
financial disclosure statement instead of the full balance sheet to 
their customers. We estimate that the 29 firms currently taking 
advantage of the exemption have reduced their postage and printing 
costs by up to $8.8 million per year (40 million accounts * 2 mailings 
* up to 11 cents). If adopted, the proposed amendments would allow 
these firms to

[[Page 71913]]

continue to realize these savings. We request comment on the accuracy 
of this estimate.
    Broker-dealers that take advantage of the exemption must send 
balance sheets to customers who request them via a toll-free number. 
Based on requests received by broker-dealers participating in the pilot 
program, we estimate that the firms that take advantage of the 
exemption would send approximately 550 balance sheets per year to 
customers who request them via the firms' toll-free numbers (1384 
requests from December 31, 1999 to July 1, 2002/30 months * 12 months = 
554).\21\ We request comment on how much time would be required to send 
each balance sheet to a customer. Even if it takes 10 minutes to send 
each balance sheet, the total annual burden would be small (10 minutes 
* 550 balance sheets/ 60 =92 hours). In addition, we estimate that it 
would cost approximately 74 cents in postage to mail the balance sheet 
(two 37-cent stamps to mail six pages) for a total of $407 and that 
there may be small printing costs, which we are not able to quantify. 
We request comment on these estimates. We believe that the firms that 
would take advantage of the exemption already maintain a toll-free 
number for their customers and already have an Internet website. We 
request comment on those assumptions.
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    \21\ Customers, when requesting that the full balance sheet be 
sent to them, have not requested that the balance sheet be sent 
electronically.
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    We therefore estimate the total burden for broker-dealers who take 
advantage of the exemption to be 222,000 hours and less than $10,000.
    We estimate the burden for broker-dealers who do not take advantage 
of the exemption (383 broker-dealers carrying approximately 63 million 
customer accounts) to be about 350,000 hours per year and $13.9 million 
per year. The hour burden was calculated by multiplying the estimated 
number of balance sheets to be sent annually (63 million customers 
times two balance sheets sent per year) by the estimated average amount 
of time required to send each balance sheet (10 seconds). The cost 
burden was calculated by multiplying the number of balance sheets sent 
per year (126 million) by estimated postage and printing costs for each 
balance sheet (11 cents). We request comment on the accuracy of these 
estimates.
    If the amendments are adopted, therefore, we estimate that the 
total annual hour burden for Rule 17a-5(c) would be approximately 
572,000 hours (350,000 hours for firms not taking advantage of the 
exemption and 222,000 hours for firms taking advantage of the 
exemption), and the total annual cost burden would be approximately 
$13.9 million. The hour burden would increase by 29,778 hours from our 
previous estimate (572,000 hours--542,222 hours). All of this increase 
is due to an increase in the total number of public customer accounts 
since the time of the last submission. The estimated cost burden is 
$2.38 million higher due to an increase in the number of public 
customer accounts and an increase in estimated average postage and 
printing costs and is $8 million lower due to the proposed amendments. 
The cost burden is therefore lower by $5.62 million ($8 million - $2.38 
million=$5.62 million).
    We request comment on the proposed collection of information in 
order to: (a) Evaluate whether the proposed collection of information 
is necessary for the proper performance of the functions of the 
Commission, including whether the information has practical utility; 
(b) evaluate the accuracy of our estimates of the burden of the 
proposed collection of information; (c) determine whether there are 
ways to enhance the quality, utility, and clarity of the information to 
be collected; (d) evaluate whether there are ways to minimize the 
burden of the collection of information on those who respond, including 
through the use of automated collection techniques or other forms of 
information technology; and (e) evaluate whether the proposed 
amendments would have any effects on any other collection of 
information not previously identified in this section.
    Persons who desire to submit comments on the collection of 
information requirements should direct their comments to the OMB, 
Attention: Desk Officer for the Securities and Exchange Commission, 
Office of Information and Affairs, Washington, DC 20503, and send a 
copy of the comments to Jonathan G. Katz, Secretary, Securities and 
Exchange Commission, 450 Fifth Street, NW., Washington, DC 20549-0609, 
with reference to File No. 270-199. Requests for materials submitted to 
the OMB by us with regard to this collection of information should be 
in writing, refer to File No. 270-199, and be submitted to the 
Securities and Exchange Commission, Records Management, Office of 
Filings and Information Services, 450 Fifth Street, NW, Washington DC 
20549. Because the OMB is required to make a decision concerning the 
collection of information between 30 and 60 days after publication, 
your comments are best assured of having their full effect if the OMB 
receives them within 30 days of publication.

IV. Costs and Benefits of the Proposed Amendments

    The proposed amendments are intended to reduce the cost of doing 
business to a broker-dealer while providing customers of the broker-
dealer with free and easy access to the information they need to 
evaluate the financial soundness of the broker-dealer. No costs to 
customers are expected. The proposed amendments provide regulatory 
relief for those broker-dealers that take advantage of the exemption. 
The broker-dealers who take advantage of the exemption do so because 
they believe that the benefits of doing so outweigh the costs.
    There are currently 412 broker-dealers that carry customer 
accounts. These firms carry a total of approximately 103 million 
accounts. Since the inception of the pilot program on December 10, 
1999, to July 1, 2002, 29 broker-dealers, carrying a total of 
approximately 40 million customer accounts, have taken advantage of the 
relief. If the Commission adopts the proposed amendments, some 
additional firms may take advantage of the exemption. Because these 
firms have not yet taken advantage of the relief and because they may 
be smaller firms than some of the firms that have already taken 
advantage of the relief, these firms may realize fewer benefits from 
the exemption than those firms already taking advantage of the 
exemption.
    The proposed amendments reflect our view that subject to certain 
conditions it is not necessary for a broker-dealer to send its balance 
sheet two times a year to customers to keep them informed of the 
financial condition of the broker-dealer if customers receive the 
broker-dealer's net capital information twice a year and if the full 
balance sheet is available on the Web site of the broker-dealer or by a 
call to a toll-free number. In fact, customers with Internet access 
would be able to obtain the full balance sheet of their broker-dealer 
within minutes at any time. Customers without Internet access could 
call at any time to be promptly sent a free copy of the full balance 
sheet.
    We expect that the proposed amendments will provide benefits to 
broker-dealers and to investors. We expect that broker-dealers taking 
advantage of the exemption would reduce their cost of compliance with 
Rule 17a-5(c). As discussed above, we estimate that the 29 firms 
currently taking advantage of the exemption have reduced their postage 
and printing costs by up to $8.8 million per year. If

[[Page 71914]]

adopted, the proposed amendments would allow these firms to continue to 
realize these savings. Larger broker-dealers are likely to realize 
greater benefits than smaller firms as larger firms carry more customer 
accounts. As election of the exemption is voluntary, we would expect a 
broker-dealer to elect the exemption only if the firm would be able to 
conduct business at a lower cost than under current Commission rules. 
The proposed amendments could reduce overall costs to broker-dealers. 
In general, to the extent that costs to broker-dealers are reduced, 
such cost reductions may ultimately be passed on to consumers.
    We estimate that the proposed amendments will result in certain 
costs to broker-dealers. Firms taking advantage of the exemption must 
have and maintain a toll-free telephone line and must have and maintain 
Web sites containing their balance sheets. We expect, however, that 
firms taking advantage of the exemption will already have a toll-free 
number for their customers and will already have a Web site, as these 
tend to be the larger firms. Firms taking advantage of the exemption 
must also send their full balance sheet to customers who request it via 
the toll-free telephone number. However, as election of the relief is 
voluntary, any new associated costs only reduce the net benefit of the 
election and do not impose a new burden.
    Commenters are requested to provide their views and data relating 
to any costs and benefits associated with these proposals to aid us in 
our evaluation of the costs and benefits that may result from the 
amendments to Rule 17a-5(c) proposed in this release.

V. Regulatory Flexibility Act Certification

    Section 3(a) of the Regulatory Flexibility Act \22\ requires the 
Commission to undertake an initial regulatory flexibility analysis of 
the proposed rules on small entities unless the Commission certifies 
that the rule change, if adopted, would not have a significant economic 
impact on a substantial number of small entities.\23\
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    \22\ 5 U.S.C. Section 603(a).
    \23\ 5 U.S.C. Section 605(b).
---------------------------------------------------------------------------

    The Commission hereby certifies, pursuant to 5 U.S.C. Section 
605(b), that the proposed amendments to Rule 17a-5(c) contained in this 
release, if adopted, would not have a significant economic impact on a 
substantial number of small entities. These provisions would apply only 
to broker-dealers that carry customer funds, securities, or property. 
According to the Commission's Office of Economic Analysis, as of 
October 2001, there were approximately 412 such firms and, of these 
firms, approximately 14 were small businesses.\24\ Further, election of 
the relief provided by the proposed rule amendments is voluntary. The 
proposed amendments, therefore, should not have a significant impact on 
a substantial number of small entities.
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    \24\ Pursuant to 17 CFR 240.0-10, ``the term small business or 
small organization shall: [. . .] (c) [w]hen used with reference to 
a broker or dealer, mean a broker or dealer that: (1) [h]ad total 
capital (net worth plus subordinated liabilities) of less than 
$500,000 on the date in the prior fiscal year as of which its 
audited financial statements were prepared pursuant to Sec.  240.17-
5(d) or, if not required to file such statements, a broker or dealer 
that had total capital (net worth plus subordinated liabilities) of 
less than $500,000 on the last business day of the preceding fiscal 
year (or in the time that it has been in business, if shorter); and 
(2) [i]s not affiliated with any person (other than a natural 
person) that is not a small business or small organization as 
defined in this section . . .'' (17 CFR 240.0-10(c)). Further, 
pursuant to Sec.  240.0-10(i), ``[f]or purposes of paragraph (c) of 
this section, a broker or dealer is affiliated with another person 
if [. . .] [s]uch broker or dealer introduces transactions in 
securities, other than registered investment company securities or 
interests or participations in insurance company separate accounts, 
to such other person or introduces accounts of customers or other 
brokers or dealers, other than accounts that hold only registered 
investment company securities or interests or participations in 
insurance company separate accounts, to such other person that 
carries such accounts on a fully disclosed basis.'' (17 CFR 240.0-
10(i)).
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    We encourage written comments regarding this certification. We 
solicit comment as to whether the proposed amendments could have an 
effect that we have not considered. We request that commenters describe 
the nature of any impact on small entities and provide empirical data 
to support the extent of the impact.

VI. Consideration of Impact on the Economy

    For purposes of the Small Business Regulatory Enforcement Fairness 
Act of 1996 (``SBREFA''),\25\ a rule is ``major'' if it has resulted, 
or is likely to result, in:
---------------------------------------------------------------------------

    \25\ Pub. L. No. 104-121, Title II, 110 Stat. 857 (1996).
---------------------------------------------------------------------------

    [sbull] An annual effect on the economy of $100 million or more;
    [sbull] A major increase in costs or prices for consumers or 
individual industries; or
    [sbull] Significant adverse effects on competition, investment, or 
innovation.
    We request comment on the potential impact of the proposed 
amendments on the economy on an annual basis. We request that 
commenters provide empirical data and other factual support for their 
views.

VII. Burden on Competition, and Promotion of Efficiency, Competition, 
and Capital Formation

    Section 3(f) of the Exchange Act \26\ requires us, when engaging in 
rulemaking that requires us to consider or determine whether an action 
is necessary or appropriate in the public interest, to consider whether 
the action will promote efficiency, competition, and capital formation. 
Section 23(a)(2) of the Exchange Act \27\ requires us to consider the 
anticompetitive effects of any rules that we adopt under the Exchange 
Act. Section 23(a)(2) prohibits us from adopting any rule that would 
impose a burden on competition not necessary or appropriate in 
furtherance of the purposes of the Exchange Act.
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    \26\ 15 U.S.C. 78c(f).
    \27\ 15 U.S.C. 78w(a)(2).
---------------------------------------------------------------------------

    The Commission preliminarily believes the proposed amendments 
should improve efficiency, competition, and capital formation by 
decreasing the costs of doing business for a broker-dealer that carries 
customer accounts and elects to take advantage of the relief. 
Additional firms taking advantage of the relief, however, may be 
smaller firms that may realize fewer benefits from taking advantage of 
the exemption than larger firms currently taking advantage of the 
relief. In addition, the proposed amendments should have no 
anticompetitive effects not necessary or appropriate in furtherance of 
the purposes of the Act because any broker-dealer should be able to use 
the exemption, because the complexity and length of financial 
statements generally varies proportionately with the volume and 
complexity of the broker-dealer's business, and because the number of 
financial statements that a broker-dealer must send to its customers is 
proportional to the number of customers of the broker-dealer.
    We solicit comments on these matters with respect to the proposed 
rule amendments. Would the amendments have an adverse effect on 
competition that is neither necessary nor appropriate in furtherance of 
the purposes of the Exchange Act? Would the proposed amendments, if 
adopted, promote efficiency, competition, and capital formation? 
Commenters are requested to provide empirical data and other factual 
support for their views, if possible.

VIII. Statutory Basis

    The amendments contained in this release are being proposed under 
the Exchange Act, particularly Section 17 and Section 23(a).

[[Page 71915]]

List of Subjects in 17 CFR Part 240

    Brokers, Customers, Dealers, Reporting and recordkeeping.

Text of Proposed Rule

    For the reasons set out in the preamble, the Commission proposes to 
amend Title 17, Chapter II of the Code of Federal Regulation 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, 79q, 79t, 80a-20, 80a-23, 80a-29, 80a-37, 80b-
3, 80b-4 and 80b-11, unless otherwise noted.
* * * * *
    2. Section 240.17a-5 is amended by:
    a. Revising the phrase ``except if the activities'' to read 
``except as provided in paragraph (c)(5) of this section or if the 
activities'' in the introduction text of paragraph (c); and
    b. Adding paragraph (c)(5).
    The addition reads as follows:


Sec.  240.17a-5  Reports to be made by certain brokers and dealers.

* * * * *
    (c) * * *
    (5) Exemption from sending certain financial information to 
customers. A broker or dealer is not required to send to its customers 
the statements prescribed by paragraphs (c)(2) and (c)(3) of this 
section if the following conditions are met:
    (i) The broker or dealer semi-annually sends its customers, at the 
times it otherwise is required to send its customers the statements 
prescribed by paragraphs (c)(2) and (c)(3) of this section, a financial 
disclosure statement that includes:
    (A) The amount of the broker's or dealer's net capital and its 
required net capital in accordance with Sec.  240.15c3-1, as of the 
date of the statements prescribed by paragraphs (c)(2) and (c)(3) of 
this section;
    (B) To the extent required under paragraph (c)(2)(ii) of this 
section, a description of the effect on the broker's or dealer's net 
capital and required net capital of the consolidation of the assets and 
liabilities of subsidiaries or affiliates consolidated pursuant to 
Appendix C of Sec.  240.15c3-1; and
    (C) Any statements otherwise required by paragraph (c)(2)(iii) and 
(iv) of this section.
    (ii) The financial disclosure statement is given prominence in the 
materials delivered to customers of the broker or dealer and includes 
an appropriate caption stating that customers may obtain the statements 
prescribed by paragraphs (c)(2) and (c)(3) of this section, at no cost, 
by:
    (A) Accessing the broker's or dealer's Web site at the specified 
Internet Uniform Resource Locator (URL); or
    (B) Calling the broker's or dealer's specified toll-free telephone 
number.
    (iii) The broker or dealer publishes the statements in accordance 
with paragraphs (c)(2) and (c)(3) of this section on its Web site, 
accessible by hyperlinks, in either textual or button format, which are 
separate, prominent links, are clearly visible, and are placed in each 
of the following locations:
    (A) On the broker's or dealer's Web site home page; and
    (B) On each page at which a customer can enter or log on to the 
broker's or dealer's Web site; and
    (C) If the Web sites for two or more brokers or dealers can be 
accessed from the same home page, on the home page of the Web site of 
each broker or dealer.
    (iv) The broker or dealer maintains a toll-free telephone number 
that customers can call to request a copy of the statements prescribed 
by paragraphs (c)(2) and (c)(3) of this section.
    (v) If a customer requests a copy of the statements prescribed by 
paragraphs (c)(2) and (c)(3) of this section, the broker or dealer 
sends it promptly at no cost to the customer.
    (vi) During the year prior to the date as of which the statements 
prescribed by paragraphs (c)(2) and (c)(3) of this section were 
prepared, the broker or dealer was not required to provide notice to 
the Commission of the occurrence of any circumstance enumerated in 
paragraph (b)(1), (c)(1), (c)(2), (c)(3), (d), or (e) of Sec.  240.17a-
11.
* * * * *

    Dated: November 26, 2002.

    By the Commission.
Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 02-30664 Filed 12-2-02; 8:45 am]
BILLING CODE 8010-01-P