A broker/dealer cannot pay continuing commissions to a former registered representative who is no longer in the securities industry, unless such payments are made in reliance on an SEC no-action position addressing the permissibility of those payments under Section 15(a) of the Securities Exchange Act of 1934; under the facts presented, NASD IM-2420-2 did not apply.
May 25, 2001
Re: Payment of Variable Annuity Renewals and Continuing Commissions
This is in response to your letter and subsequent phone conversations in which you seek interpretive guidance on whether your client, a registered broker/dealer under the Securities Exchange Act of 1934 (the "Exchange Act") and an NASD member, can pay accrued annuity renewals and continuing commissions to a former registered representative ("RR") of your client.
According to your letter and subsequent phone conversations, I understand the facts to be as follows. RR was a registered representative with another member broker/dealer, where, among other things, he was engaged in the sales of variable annuities. Upon being terminated by that broker/dealer, he became an associated person of your client's firm and sought to become a registered representative. Your client became the broker/dealer of record on a number of RR's customers' variable annuity accounts that were transferred over from his former employer. While RR's registration application was pending approval by NASD Regulation, Inc. ("NASD Regulation"), your client was receiving renewals and continuing commissions on those accounts, which were generated from RR's sales activities while he was employed by the former broker/dealer. Subsequently, RR became subject to an order of censure, suspension, and denial of securities agent license issued by the Division of Securities in his state of residence. Your client thereafter terminated RR's employment and submitted a Uniform Termination Notice for Securities Industry Registration (Form U-5) to NASD Regulation.
NASD Rule 2420 generally prohibits members from paying fees and commissions to non-member broker/dealers. Rule 2420 has been interpreted by NASD Regulation to prohibit such payments to persons that operate (or based on the proposed activities would operate) as unregistered broker/dealers. The determination of whether a person should be registered as a broker/dealer rests with the Securities and Exchange Commission (the "SEC").1 In this regard, you may wish to direct your inquiry to the SEC's Division of Market Regulation for guidance. To the extent that your client receives no-action relief from the SEC to make such payments, your client's payment of renewals and continuing commissions to RR would not violate NASD Rule 2420.
IM-2420-2 ("Continuing Commissions Policy") provides that member firms are permitted to pay continuing commissions to registered representatives after they cease to be employed by a member, if, among other things, a bona fide contract between the member and the registered representative calling for such payments was entered into in good faith while the person was a registered representative of the employing member. However, under the facts provided, your client does not satisfy the requirements of IM-2420-2 for the following reasons. Although RR at one time was an associated person of your client's firm, he was never a registered representative of the firm. Further, you have indicated that you are not aware of the existence of a bona fide contract between RR and his former employer regarding the payment of continuing commissions on the variable annuity accounts at issue. Accordingly, under the circumstances, RR would not be eligible to receive continuing commissions currently held by your client in connection with his employment with his former employer under IM-2420-2.
I hope that this letter is responsive to your request. Please note that the opinions expressed herein are staff opinions only and have not been reviewed or endorsed by the Board of Directors of NASD Regulation, Inc. This letter responds only to the issues you have raised based on the facts as you have described them, and does not address any other rule or interpretation of the NASD, or all the possible regulatory and legal issues involved.
1 You should be aware that the staff of the SEC's Division of Market Regulation has issued "no-action" letters that address the conditions under which a former retired registered representative, who is no longer employed by a broker/dealer, may continue to receive commissions without being required to register as a broker/dealer under Section 15 of the Exchange Act.