Monthly Archives: July 2015

FINRA Application Process – Buy or Apply?

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finra application processBuying a FINRA Broker-Dealer

Buying any business can prove to be complex. Buying a FINRA broker-dealer can be complex and then some. Over the years, Mitch Atkins, while an executive at FINRA and now as a consultant, has analyzed literally hundreds of purchase and sale transactions involving broker-dealers and their assets. For those who have little experience in this space, please take note of this article, as these words of wisdom may save you untold grief.

A FINRA broker-dealer is unlike almost any other business. It is subject to the regulations of FINRA, SEC, MSRB, SIPC, 50 state securities regulators, and the Bank Secrecy Act – just to name a few. What may be considered a logical, reasonable approach in any other business may not directly apply to running a broker-dealer. Broker-dealers (and associated persons of broker-dealers) are subject to FINRA arbitration requirements – and to the jurisdiction of the FINRA arbitration panels. When you buy a broker-dealer, you buy all of its prior problems and history – known and unknown. For better or worse, once the Form BD and U4 are signed, one enters the world of broker-dealer regulation. And the tough regulation comes for a good reason. The members of the public may now entrust their life savings to you. The industry can be very financially rewarding if approached with a good understanding of what it takes to survive long-term in the business.

Start New or Buy Existing?

One of the most important steps in entering the brokerage industry as an owner is determining whether to buy an existing broker-dealer or to start a new one. The FINRA application process can be complex whether forming a new broker-dealer or acquiring one. Either direction can be appropriate. The key in an acquisition is whether one fully understands the history of the target. For example, a broker-dealer that has already been in operation may have obligations that remain hidden to the purchaser until months or even years after the purchase is closed. It is not unusual for a broker-dealer to receive notice of an arbitration filed against it for conduct that occurred years before. When the new owners receive this notice, the initial owners are often long gone. So to be sure that this doesn’t come up, some simply file a FINRA new member application with FINRA, creating a clean broker-dealer. Going through the FINRA application process with a new firm is a clean start for the entity. After FINRA approves this entity, it may grow by purchasing the assets of other FINRA broker-dealers. The assets to be acquired generally consist of the rights to some or all of the customer accounts of that firm. There are potential pitfalls to this approach as well. The FINRA application process in this scenario can be even more complex than a new member application.

But, in the humble opinion of this author, the best and cleanest approach is to form an entirely new broker-dealer. Some might say that this is not the case – especially since an existing broker-dealer has already cleared many of the startup hurtles. And logically this makes sense. For one thing, an existing broker-dealer already has customers, brokers, systems and the most important thing – a FINRA membership. But the reality has been (at least in this author’s experience) that this seemingly logical approach can be like walking a mine field. This is because unforeseen problems often arise after the sale closes. A careful analysis of the history of an acquisition target is critically important to making a determination of whether a purchase makes sense. Nothing less than full, expert due diligence is required. However, a more protective approach is to create a new broker-dealer that then purchase the assets of existing broker-dealers. Either way, one must follow the FINRA application process. We’ll call this FINRA broker-dealer merger and acquisition 101.

Is the FINRA Application Process Different for an Asset Purchase?

An asset purchase, under most circumstances, requires an application under FINRA Rule 1017(a)(3). FINRA must review and approve the sale. And for this reason, both the acquiring firm and the target firm may have to go through the FINRA application process. FINRA requires that a Continuation of Membership Application, or CMA, be filed when, “direct or indirect acquisitions or transfers of 25% or more in the aggregate of the member’s assets or any asset, business or line of operations that generates revenues comprising 25% or more in the aggregate of the member’s earnings measured on a rolling 36-month basis, unless both the seller and acquirer are members of the New York Stock Exchange, Inc.”

In this scenario, before approving the transaction, FINRA will consider the business of the seller, and whether it has made adequate provisions for its outstanding liabilities. Under its rules, FINRA will not approve such a transaction if the owners of the selling broker-dealer receive compensation for an asset sale but fail to make sufficient provisions for its outstanding liabilities. This is particularly the case if the selling broker-dealer has outstanding customer claims – such as arbitration claims or unpaid awards. In some cases, as part of the FINRA application process, applicants are required to place a reasonable sum in an escrow account for the satisfaction of current and future customer claims. This can get somewhat tricky. Reasonable minds can disagree as to how one adequately provides for future claims. See my article about FINRA CMA Arbitration Plans for more information on that.

These questions and the FINRA application process are best addressed by a FINRA CMA expert. FINRA broker-dealer acquisitions can be rewarding if handled properly. If you are considering starting a new FINRA broker-dealer or if you are thinking of purchasing an existing FINRA broker-dealer, contact Mitch Atkins, FINRA’s former Senior Vice President and Regional Director. Mitch Atkins has extensive experience with the FINRA CMA process and particularly with broker-dealer acquisitions. Contact Mitch Atkins, Principal, FirstMark Regulatory Solutions at 561-948-6511.

FINRA Membership Application Rule Retrospective

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finra membership application rule retrospective

FINRA Membership Application Rule retrospective – Interested in a summary of the comments received by FINRA? See Mitch Atkins’ LinkedIn article about it.

FINRA sometimes seeks comments on rule proposals and other matters.  This time, comments were solicited on the FINRA Membership Application Rules as part of its rule retrospective program.  Last year, FINRA announced that it would engage in retrospective reviews of its rules in certain areas.  This presented an unusual opportunity to provide formal comments on the existing FINRA Membership Application Rules and to provide suggestions about the process. Over the years, the FINRA Membership Application Rules have been the subject of a good deal of discussion.  So a retrospective rule review in this area seemed like it made a lot of sense when FINRA announced it in Regulatory Notice 15-10.  It is reasonable to expect that FINRA may make changes to its rules or processes in this area to address industry comments that it receives.  Mitch Atkins, Principal and Founder of FirstMark Regulatory Solutions, a broker-dealer consulting firm that specializes in FINRA membership applications (NMA and CMA filings) reviewed and summarized the comments.  The results were a bit surprising.  Check Mitch Atkins’ LinkedIn article for more details on exactly what was suggested, and what he expects that FINRA might do going forward.

Update:  FINRA completed its retrospective rule review in the MAP space and commenters supported the core MAP function while suggesting changes to streamline the administrative process. Suggested changes included restructuring and streamlining the MAP rules, reducing the overall time period for application review from 180 days to 150 days, and clarifying certain areas including, events that will require a CMA, ability of the MAP Group to lapse and reject applications, and elimination of the ability to impose interim restrictions. While these changes have not been implemented as of yet, FINRA has published changes designed to incentivize payment of arbitration awards. See Regulatory Notice 20-15 for additional information.

FirstMark assists clients with all types of FINRA membership applications.  If you need help with an issue involving a FINRA CMA, Membership Agreement Change or Materiality Consultation, or to form a new FINRA broker-dealer, contact Mitch Atkins at FirstMark by calling 561-948-6511.

FINRA CMA Material Change in Business Operations (Rules 1011 and 1017)

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FINRA’s continuation of membership rules require that broker-dealers file a FINRA CMA material change in business application (also called a CMA, or continuation of membership application). As a FINRA CMA expert, FirstMark often receives inquiries about exactly when and how to file a FINRA CMA material change application.

finra cma for material changeThe answer to this question can be a little unclear. FirstMark recently heard from a client that FINRA advised them that adding mutual funds as a business line may not be considered material.   However, the opposite has been true in other cases.  It isn’t always black and white.

So going to the basics, FINRA states in Rule 1017 that a material change in business requires the filing of a FINRA CMA material change application. It is important to note that this is just one of the five categories of events requiring an application pursuant to Rule 1017. FINRA defines a material change in business operations in FINRA Rule 1011(k). That Rule states that the term “material change in business operations” includes, but is not limited to: 1) removing or modifying a membership agreement restriction, 2) market making, underwriting, or acting as a dealer for the first time, and 3) adding business activities that require a higher minimum net capital under SEC Rule 15c3-1.

Although the definition above seems quite limited, there are numerous instances in which activities other than those listed have been considered to be material under FINRA’s rules. This is why many instances of changes in business operations are considered on a facts and circumstances basis.

So Should I File a FINRA CMA Material Change in Business Application?

Because the consequences of not filing an application when one is required can be severe, FINRA has developed a process called a “Materiality Consultation.” A FINRA Materiality Consultation is a channel for broker-dealers to describe the proposed change in business operations in writing to FINRA. Typically, FINRA takes about 30 days to process these requests. Upon completion of its review, FINRA will issue a written response to the broker-dealer indicating whether it views the proposed change as material under Rule 1011(k).

There are plusses and minuses to following this process. Once you propose the change and FINRA opines on it, you are on notice that the change is viewed as material, so taking the “asking for forgiveness rather than permission” approach is not an option. If however, you receive a written opinion from FINRA that the change is not material, you have documentation should there ever be a question in the future.

FINRA’s membership application process should be navigated carefully, by FINRA CMA specialist who is familiar with the process. Mitch Atkins, FINRA’s former Senior Vice President and Regional Director has extensive experience preparing applications like a FINRA materiality consultation, a FINRA membership application, and a FINRA CMA material change in business application. Contact Mitch Atkins, Principal of FirstMark Regulatory Solutions at 561-948-6511 with questions about the FINRA membership application process.