SEC Proposes to Increase Frequency of Broker-Dealer Reserve Requirements Computations

By Harley Aronoff, Partner; Evelyn Bedoya, Supervisor; Rachel DiDio, Partner; Vic Peña, Partner

Carrying broker-dealers are subject to customer reserve requirements pursuant to the Securities Exchange Act of 1934 (SEA) Rule 15c3-3 (Customer Protection Rule or “the Rule”). The net cash owed by certain broker-dealers to customers and to other broker-dealers (known as PAB account holders) is held in a special reserve bank account(s). Securities and Exchange Commission (SEC) Commissioner Jaime Lizarraga pointed out, “Recent failures in the banking sector brought into a sharper focus the need to review vulnerabilities in the existing customer assets protection framework for broker-dealers.”

In response to concerns regarding the protection of customer assets, the SEC has proposed to amend the Customer Protection Rule to increase the frequency of customer and PAB reserve computations (collectively “Reserve Computations”). Carrying broker-dealers with average total credits in their reserve computation of greater than $250 million over the preceding 12 months would be required to perform their reserve computations and make any required deposits into their special reserve bank account(s) daily rather than weekly as currently required.

Backdrop

The Customer Protection Rule is designed to provide protection to customer and PAB funds and securities, in effect forbidding carrying broker-dealers from using customer and PAB assets to finance any part of their business unrelated to servicing securities for its customers. The Rule requires a carrying broker-dealer to safeguard customers’ assets by:

• Maintaining physical possession or control over customers’ fully paid and excess margin securities; and
• Compute and maintain a reserve of funds or qualified securities in a special reserve bank account(s) for the exclusive benefit of customers or PAB that is at least equal in value to the net credits^[1] owed.

Currently, the Rule requires carrying broker-dealers to compute the total net credits owed to customers on a weekly basis and make the necessary deposit into the special reserve bank account(s) if the required amount is greater than the amount on deposit at the time of the computation.

The SEC is concerned over the risk to customers and PAB that a failed carrying broker-dealer may not be able to return all of the customers’ and PAB assets upon liquidation, as a result of insufficient deposits held in special reserve accounts for the exclusive benefit of customers and PAB.

If Proposed Amendments Pass

The proposal should help strengthen a vital customer safeguard and as SEC Chair Gary Gensler commented, “Given the speed, scale and volume of today’s market activity, customers would benefit if broker-dealers carrying large credit balances made daily reserve account calculations and deposits.”

In summary, the proposed amendments to the Rule will reduce the risk that funds maintained on deposit in special reserve bank accounts are not sufficient to cover the net credits owed to customers and PAB by reducing the time between required computations for carrying broker-dealers with average total credits over the preceding 12 months of greater than $250 million to:

• Make the relevant computations daily, as of the close of the previous business day; and
• Make deposits no later than one hour after the opening of banking business on the following business day.

The proposed amendments would allow carrying broker-dealers that meet the $250 million threshold six months to comply with the proposed amendments to the Rule.

If Broker-Dealer Threshold Falls Below $250 Million

In the event that a carrying broker-dealer subsequently falls below the $250 million threshold, it will be required to notify its designated examining authority, in writing, of the broker-dealer’s intent to perform weekly Reserve Computations, at least 60 days before reverting back to performing weekly computations.

Action Steps

With the SEC keenly focused on enhancing customer protection, broker-dealers should monitor the amendments and consider working with their operations team and third-party specialists, as needed, to assess the impact the amendments would have on them.

Contact Us

If you would like to discuss how we can assist you with regulatory compliance or with an audit, contact the partner in charge of your account or:

Harley Aronoff, Partner
PCAOB Quality Assurance Leader
212.986.4650 I haronoff@pkfod.com

Evelyn Bedoya, Supervisor
Broker-Dealer Specialist
646.699.2872 I ebedoya@pkfod.com

Rachel DiDio, Partner
Broker-Dealer Specialist
646.965.7780 I rdidio@pkfod.com

Victor Peña, Partner
Broker-Dealer Practice Leader
646.449.6380 I vpena@pkfod.com

[1] Net of total customer debits minus 3%