Broker-Dealer Fined for Improper Capital Treatment on Loan Guarantees
Commentary by Steven Lofchie
A broker-dealer settled charges with FINRA for failing to take net capital charges on loans for which the broker-dealer acted as the guarantor.
In a Letter of Acceptance, Waiver and Consent, FINRA stated that a broker-dealer did not give FINRA notice before agreeing to serve as a guarantor for its parent company on loans ranging from $50 million to $175 million related to an employee stock ownership transaction. FINRA found that the broker-dealer failed to take the required capital charges on these loans, causing it to be in a net capital deficiency for 14 months. During this period, FINRA said that the broker-dealer also made improper capital withdrawals which were used to pay back acquisition-related loans. FINRA found that the broker-dealer failed to preserve accurate books and records and filed 16 inaccurate FOCUS reports.
FINRA concluded that the broker-dealer violated (i) Exchange Act Section 15(c) ("Registration and regulation of brokers and dealers") and Rule 15c3-1 ("Net capital requirements for brokers or dealers"); (ii) Exchange Act Section 17(a) ("Records and Reports") and Rules 17a-3 ("Records to be made by certain exchange members, brokers and dealers") and 17a-5 ("Reports to be made by certain brokers and dealers"); and (iii) FINRA Rules 2010 ("Standards of Commercial Honor and Principles of Trade"), 4511 ("General Requirements") and 4150(a) ("Guarantees by, or Flow Through Benefits for, Members").
To settle the charges, the broker-dealer agreed to (i) a censure and (ii) pay a $200,000 fine.
Commentary
Broker-dealers should be aware that contingent liabilities, such as guarantees, are treated as liabilities for net capital purposes. Accordingly, broker-dealers should generally not provide any guarantees except those that are adequately collateralized by margin securities.