Regulation of Broker-Dealers: Financial Duties & Responsibilities of Broker-Dealers

The financial industry is full of opportunities and risks. The constant flow and changes in market behavior, consumer psychology, and business developments facilitates economic growth for some, and regression for others. While some of the risks associated with business ventures and investments cannot be controlled by regulation, other risks can be greatly mitigated through regulations. One area of industry that reduces the risk in the marketplace are the regulations concerning the duties and responsibilities of brokers and dealers. Broker-dealers play the important role in the investment world by orchestrating the transaction of securities between buyers and sellers, which allows eager investors to participate in the financial development of an expanding company. This role requires the person performing these duties to be honest and trustworthy, to maintain investor confidence and protect the integrity of the market. To help ensure broker-dealers achieve these goals, the Securities and Exchange Commission (the “SEC”) has provided rules that require broker-dealers meet certain financial responsibility requirements. These requirements include, (1) maintaining a minimum amount of liquid assets or net capital; (2) mandating certain procedures to safeguard customer funds and securities; and (3) drafting and keeping accurate records. 

Maintaining Accounts of Liquid Assets 

Broker-dealers are required by Rule 15c3-1 (Net capital requirements for brokers or dealers) to have on hand at all times enough liquid assets to satisfy the claims of customers, should the broker-dealer go out of business. The amount of on hand liquid assets required by the rule is determined by the securities actions involved, as well as financial ratios. 

Safeguarding Customer Assets

Rule 15c3-3 (Customer protection – reserves and custody of securities) protects customer assets held by broker-dealers. This rule requires broker-dealers to possess or control all securities fully paid or excess margin securities for the account of the customer. Additionally, this rule requires broker-dealers to make regular determinations concerning how much money it is holding in the form of customer money or through the use of customer securities, as this rule prevents broker-dealers from using customer funds to finance the broker-dealers’ business. When the amounts held by the broker-dealers for the customers exceeds the amount that is owed by customers, the broker-dealer shall deposit the excess amount into a special account for the exclusive benefit of the customers. 

Maintaining Records

There are a few rules that regulate how broker-dealers maintain books, records, and report information concerning securities transactions, money balances, and securities positions. (see generally Rule 17a-3(Records to be made by certain exchange members, brokers and dealers), Rule 17a-4(Records to be preserved by certain exchange members, brokers and dealers), Rule 17a-5(Reports to be made by certain brokers and dealers), and Rule 17a-11(Notification provisions for brokers and dealers)). Further, broker-dealers shall make periodic filings with the SEC, which includes quarterly and annual financial statements, some of which must be certified by an independent public accountant. Additionally, broker-dealers are required to provide notice to the SEC and the appropriate self-regulatory organization (an “SRO”) regarding net capital, bookkeeping, and operational problems, and in some scenarios are required to file reports of these problems within specified time periods.  

Broker-dealers play an important role in the investment community. While there are many regulations concerning broker-dealers, these regulations help ensure quality participants in the community, which helps maintain investor confidence and protect the integrity of the market.

The information contained in this post is for general information and educational purposes only. The application and impact of laws can vary widely based on the specific facts involved. Given the changing nature of laws, rules and regulations, and the inherent hazards of electronic communication, there may be delays, omissions or inaccuracies in information contained in this publication. Accordingly, the information on this post is provided with the understanding that the author and publishers are not herein engaged in rendering legal, accounting, tax, or other professional advice and services. As such, it should not be used as a substitute for consultation with professional accounting, tax, legal or other competent advisers. Before making any decision or taking any action, you should consult a professional.

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