FINRA Fines Broker-Dealer for Net Capital and Trade Reporting Failures
Commentary by Steven Lofchie
A broker-dealer settled FINRA charges for inaccurate net capital calculations, misreporting thousands of municipal securities transactions, and Regulation Best Interest ("Reg BI") supervisory compliance failures.
According to the AWC, the firm inaccurately calculated its net capital for over four years by applying an arbitrary 7% haircut on open contractual commitments associated with municipal underwriting. FINRA explained that the applicable rules require haircut deductions based on specific maturity and CUSIP characteristics. FINRA said that the firm filed at least 29 inaccurate FOCUS reports and understated its excess net capital.
Further, FINRA found that the firm failed to timely and accurately report approximately 5,000 municipal securities transactions to the MSRB's Real-Time Transaction Reporting System ("RTRS"). FINRA said that for these transactions, the firm (i) reported the trades several hours after execution due to bulk end-of-day uploads and (ii) misidentified its trading capacity as agent when it had executed the trades on a principal basis. These reporting errors affected about 37% of the firm's total municipal trade reports during the relevant period. FINRA determined that the firm lacked any supervisory process to review the accuracy or timeliness of its RTRS reporting and failed to assign any personnel to oversee reporting obligations. FINRA noted that the written supervisory procedures that were in palace required 15-minute reporting but were not supported by any system to enforce the requirement.
FINRA also found that the firm failed to adopt adequate written supervisory procedures or internal controls to comply with the Reg BI compliance obligations. FINRA said the firm's procedures did not include processes to prevent, detect, or correct violations. FINRA said the firm also lacked controls tailored to its municipal securities business and did not provide staff with guidance or tools for evaluating best interest recommendations.
FINRA determined that the firm violated Exchange Act Rule 15l-1 ("Regulation Best Interest") and Exchange Act Section 17(a) ("Records and Reports"); Exchange Act Rules 17a-3 ("Records to be made by certain exchange members, brokers and dealers"), 17a-5 ("Reports to be made by certain brokers and dealers")' and 15c3-1 ("Net capital requirements for brokers or dealers"). FINRA said that the firm also violated FINRA Rules 3110 ("Supervision"), 2010 ("Standards of Commercial Honor and Principles of Trade") and 4511 ("General Requirements"); and MSRB Rules G-8 ("Books and Records to be Made by Brokers, Dealers, and Municipal Securities Dealers and Municipal Advisors"), G-14 ("Reports of Sales or Purchases"), and G-27 ("Supervision").
To settle the charges, the firm agreed to (i) a censure, (ii) a $250,000 fine ($125,000 attributable to MSRB rule violations) and (iii) certify that it implemented a supervisory system reasonably designed to address the deficiencies cited in the AWC.
Commentary
One interesting aspect of the misreporting of net capital, in this case, is that the firm consistently understated its net capital by consistently overstating the haircuts required by its open contractual commitments.