[Federal Register Volume 68, Number 127 (Wednesday, July 2, 2003)]
[Notices]
[Pages 39608-39610]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 03-16714]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-48093; File No. SR-NASD-2003-92]


Self-Regulatory Organizations; Notice of Filing of Proposed Rule 
Change by the National Association of Securities Dealers, Inc. To Adopt 
NASD Rule 2370 To Govern Certain Lending Arrangements Between 
Registered Persons and Customers

June 26, 2003.
    Pursuant to section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act''),\1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that 
on June 11, 2003, the National Association of Securities Dealers, Inc. 
(``NASD'' or ``Association''), filed with the Securities and Exchange 
Commission (``Commission'') the proposed rule change as described in 
Items I, II, and III below, which Items have been prepared by the NASD. 
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

    NASD proposes to adopt NASD Rule 2370 to govern lending 
arrangements between registered persons and customers. The text of the 
proposed rule change appears below. New text is in italics.
* * * * *

2370. Borrowing From or Lending to Customers

    (a) No person associated with a member in any registered capacity 
may borrow money from or lend money to any customer of the member 
unless: (1) The member has written procedures allowing the borrowing 
and lending of money between such registered persons and customers of 
the member; (2) the lending or borrowing arrangement meets one of the 
following conditions: (A) the customer is a member of such person's 
immediate family; (B) the customer is a financial institution regularly 
engaged in the business of providing credit, financing, or loans, or 
other entity or person that regularly arranges or extends credit in the 
ordinary course of business; (C) the customer and the registered person 
are both registered persons of the same member firm; (D) the lending 
arrangement is based on a personal relationship with the customer, such 
that the loan would not have been solicited, offered, or given had the 
customer and the associated person not maintained a relationship 
outside of the broker/customer relationship; or (E) the lending 
arrangement is based on a business relationship outside of the broker-
customer relationship; and (3) the member has pre-approved in writing 
the lending or borrowing arrangement.
    (b) The term immediate family shall include parents, grandparents, 
mother-in-law or father-in-law, husband or wife, brother or sister, 
brother-in-law or sister-in-law, son-in law or daughter-in-law, 
children, grandchildren, cousin, aunt or uncle, or niece or nephew, and 
shall also include any other person whom the registered person 
supports, directly or indirectly, to a material extent.
* * * * *

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

    In its filing with the Commission, NASD 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. NASD 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
    The purpose of the proposed rule change is to prohibit registered 
persons from borrowing money from or lending money to a customer unless 
the member has written procedures allowing such lending arrangements 
consistent with the rule, the loan falls within one of five permissible 
types of lending arrangements, and the member pre-approves the loan in 
writing. The five types of permissible lending arrangements are: The 
customer is a member of the registered person's immediate family (as 
defined in the proposed rule); the customer is in the business of 
lending money; the

[[Page 39609]]

customer and the registered person are both registered persons of the 
same firm; the lending arrangement is based on a personal relationship 
outside of the broker-customer relationship; or the lending arrangement 
is based on a business relationship outside of the broker-customer 
relationship.
    NASD believes that the solicitation of loans from customers by 
registered persons is an area of legitimate NASD interest because of 
the potential for misconduct. NASD has brought disciplinary action 
against registered persons who have violated just and equitable 
principles of trade by taking unfair advantage of their customers by 
inducing them to lend money in disregard of the customers' best 
interests, or by borrowing funds from, but not repaying, customers. The 
potential for misconduct also exists when a registered person lends 
money to a customer.
    The proposed rule change establishes a regulatory framework that 
would give members greater control over, and more specific supervisory 
responsibilities for, lending arrangements between registered persons 
and their customers. Members could choose to permit their registered 
persons to borrow from or lend to customers consistent with the 
requirements of the rule or prohibit the practice in whole or in part. 
If members choose to permit their registered persons to engage in 
lending arrangements with customers, the proposed rule change would 
require members to have written procedures in place to monitor such 
lending arrangements. The notice and approval requirements of the 
proposed change would enhance members' ability to supervise the 
activities of registered personnel. Members would be able to evaluate, 
before granting approval, whether the lending arrangement falls within 
one of the five types of permissible arrangements. Members would be 
permitted to approve loans only if the loan falls within one of the 
five types of permissible lending arrangements. In addition, the notice 
requirement would place an affirmative obligation on registered persons 
that could be separately charged in a disciplinary action if not 
followed.
    The proposed rule change also would enhance NASD's ability to 
monitor loans between registered persons and their customers. 
Currently, under controlling Commission decisions, to bring a 
disciplinary action against a registered person who has entered into an 
unethical lending arrangement with a customer, NASD generally must 
prove that the arrangement is inconsistent with just and equitable 
principles of trade under NASD Rule 2110 because the registered person 
has acted in bad faith or unethically. This can be difficult to prove 
in cases in which the customer is unable or unavailable to testify, or 
refuses to testify because he or she is relying on the registered 
person for financial advice. The proposed rule change would better 
enable NASD to monitor such loans, since members would be required to 
maintain written records of the loans as evidence of compliance. NASD 
also believes that the proposed rule change would be an effective 
deterrent to potential misconduct because members would require their 
registered persons to give prior notice of the loan and get approval 
from the member before engaging in the transaction, and the lending 
arrangement must fall within one of the five types of permissible 
arrangements. Members that do not wish to engage in this review and 
approval process could prohibit the practice altogether.
    It is important to note that this proposal does not change the 
application of Regulation T \3\ to lending activities by associated 
persons. Specifically, the definition of ``creditor'' under Regulation 
T extends to associated persons of broker/dealers and therefore, 
certain loans to customers by associated persons may require compliance 
with the provisions of Regulation T.\4\
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    \3\ 12 CFR 220.
    \4\ 12 CFR 220.2.
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(2) Statutory Basis
    NASD believes that the proposed rule change is consistent with the 
provisions of section 15A(b)(6) of the Act,\5\ which requires, among 
other things, that NASD's 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. NASD believes that the proposed rule change is 
designed to accomplish these ends by establishing a regulatory 
framework that will give members greater control over lending 
arrangements by permitting members to prohibit such arrangements 
altogether or, in the alternative, permit such arrangements only if 
they fall within one of five types of permissible arrangements. Members 
that permit such arrangements would be required to keep written 
procedures. Providing the member permits such loans, registered persons 
would be required to give their firms prior notice of the loan, and the 
member will be required to pre-approve the loan in writing. These 
procedures would enable both members and NASD to proscribe customer-
broker loans and monitor those that have been approved.
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    \5\ 15 U.S.C. 78o-3(b)(6).
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B. Self-Regulatory Organization's Statement on Burden on Competition

    NASD 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

    Written comments were neither solicited nor received for this rule 
proposal. Previously, in NASD Notice to Members 94-93 (December 1994), 
NASD requested comment on a more limited proposal regarding the 
adoption of a rule that would require registered persons to provide 
prior notification to, and obtain prior approval from, their employing 
member firm when personally borrowing funds or securities from 
customers. NASD has not included a discussion of the comments received 
on that proposal because the current rule proposal differs 
significantly in that it specifies the permissible types of lending 
arrangements and requires members to have written procedures that 
permit only those lending arrangements consistent with the rule.

III. Date of Effectiveness of the Proposed Rule Change and Timing for 
Commission Action

    Within 35 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 NASD consents, the Commission will:
    (A) By order approve 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. Persons making written submissions 
should file six copies thereof with the Secretary, Securities and 
Exchange Commission, 450 Fifth Street, NW., Washington, DC 20549-0609. 
Copies of the submission, all subsequent amendments, all written 
statements with respect to the proposed rule

[[Page 39610]]

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 inspection and copying in the Commission's Public 
Reference Room. Copies of such filings will also be available for 
inspection and copying at the principal office of the Association. All 
submissions should refer to File No. SR-NASD-2003-92 and should be 
submitted by July 23, 2003.

    For the Commission, by the Division of Market Regulation, 
pursuant to delegated authority.\6\
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    \6\ 17 CFR 200.30-3(a)(12).
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Margaret H. McFarland,
Deputy Secretary.
[FR Doc. 03-16714 Filed 7-1-03; 8:45 am]
BILLING CODE 8010-01-P