SEC Issues Risk Alert and FAQ Regarding Customer Sales of Securities

The SEC published a Risk Alert and FAQs reminding broker-dealers of their obligations when engaging in unregistered transactions on behalf of their customers.

The Risk Alert identifies a number of deficiencies that the SEC staff observed regarding compliance to certain obligations related to sales of securities of microcap companies. These include:

• insufficient policies and procedures for monitoring customer-initiated sales to identify potential red flags;
• inadequate controls to evaluate how customers acquired securities and whether the securities could be lawfully resold without registration; and
• the failure to file suspicious activity reports, as required by the Bank Secrecy Act, when encountering unusual or suspicious activity in connection with customers' sales of microcap securities.

The FAQ, published by the Division of Trading and Markets, is intended to remind broker-dealers of their obligation to conduct a "reasonable" inquiry when selling securities in an unregistered transaction pursuant to Securities Act Section 4(a)(4) ("Exempted Transactions"). The FAQ includes the following questions:

• What exemptions from Section 5 ("Prohibitions Relating to Interstate Commerce and the Mails") of the Securities Act are potentially available to broker-dealers when selling securities on behalf of customers in unregistered transactions?
• What steps should a broker-dealer take if it intends to rely on the Section 4(a)(4) exemption?
• If a situation raises red flags, what additional steps should a broker-dealer take in response to them?
• If a security is accepted by Depository Trust Company ("DTC"), does this eliminate the need for a broker-dealer to conduct a reasonable inquiry when relying on the Section 4(a)(4) exemption for the offer and sale of such security?
• If a security is delivered into an account of a customer without a restrictive legend in electronic form, does this eliminate the need for a broker-dealer to conduct a reasonable inquiry when relying on the Section 4(a)(4) exemption for the offer and sale of the security?

See: Risk Alert: Broker-Dealer Controls Regarding Customer Sales of Microcap Securities; FAQ.
Related news: SEC Charges Current and Former E*TRADE Subsidiaries with Improperly Selling Penny Stocks through Unregistered Offerings (October 9, 2014).