Continuing Commissions permitted where the safeguards required by the rule have been implemented.


 

January 21, 2000

 

Peter D. Koffler, Esq.
General Counsel
Twenty-First Securities Corporation
780 Third Avenue
New York, NY 10017

 

Re: Continuing Commissions Policy - NASD Rule IM-2420-2

 

Dear Mr. Koffler:

 

I am responding to your letter of September 28, 1999 to NASD Regulation, Inc., wherein you request interpretive advice regarding the application of NASD Rule IM-2420-2 ("Continuing Commissions Policy") to the payment by Twenty-First Securities Corporation ("TFSC") of certain commissions and fees to one of its former registered representatives ("RR").

 

Background

 

You have described the facts as follows. TFSC is a broker/dealer registered with the Securities and Exchange Commission ("SEC") and is a member of the National Association of Securities Dealers, Inc. ("NASD"). The RR is currently receiving a pay out from TFSC on three accounts. The first account is an investment advisory account managed by an unaffiliated investment adviser. Pursuant to a written agreement, the adviser and its affiliated broker/dealer remit to TFSC a portion of the management and performance fees and commissions generated by the account, in consideration of TFSC introducing the account to the adviser. TFSC in turn pays a portion of such fees and commissions to the RR. TFSC is not involved in the management of this account and is not the broker for this account. TFSC will continue to receive fees and commissions relating to this account so long as the account remains with the investment adviser. TFSC would like to pay to the RR (following voluntary termination) a portion of such fees and commissions so long as TFSC continues to be paid by the adviser. The RR would be paid only on assets invested in the account at the time of termination and would not be paid on any new investments made after termination.

 

The second account is limited to a short against the box position. TFSC, the introducing broker for the account, receives a portion of the short interest rebate generated by such account and, in turn, pays a portion thereof to the RR. TFSC will continue to receive a portion of the rebate so long as TFSC remains the introducing broker for the account. TFSC would like to pay the RR (following voluntary termination) a portion of the rebate so long as TFSC continues to receive a portion thereof. The RR would be paid only on the short against the box position in the account on the date of termination and would not be paid on any positions established or transferred into the account after termination.

 

The third account invests in a hedged investment program structured and executed by TFSC on a non-discretionary basis. TFSC, the introducing broker for the account, receives commissions on all brokerage transactions for the account and, in turn, pays a portion thereof to the RR. The client has committed a specific amount of funds to the program. Positions in the account change from time to time due to the establishment of a new long position, the sale of an existing long position, or the adjustment of a hedge. The RR has no involvement with any of these activities. TFSC would like to pay the RR (following voluntary termination) a portion of the commissions so long as TFSC continues to receive commissions from the account. The RR would be paid only in connection with the investment of funds committed to the program and deposited into the account at the time of the RR’s termination, and would not be paid on the investment of new assets committed to the program after termination.

 

You state that TSFC will enter into a written contract with the RR that will set forth the specifics of the RR's continuing pay out. The contract will prohibit the RR from having any contact with the accounts relating to TFSC business, from servicing the accounts in any manner, and from soliciting or opening new accounts for TFSC. The contract also will state that payments to the RR immediately will terminate if the RR becomes ineligible for membership in the NASD or ineligible to be associated with an NASD member because of any disqualification, as set forth in Article III of the NASD's By-Laws.

 

You are seeking confirmation from NASD Regulation that the payments to the RR described above, after voluntary termination of the RR, would not violate the Continuing Commissions Policy.

 

Response

 

The staff believes that the payments to the RR under the conditions described above would not violate the Continuing Commissions Policy. The staff’s opinion is based in particular on your representations that: (1) TSFC will enter into a written contract with the RR that will set forth the specifics of the RR's continuing pay out, (2) the contract will prohibit the RR from having any contact with the accounts relating to TFSC business, (3) the contract will prohibit the RR from servicing the accounts in any manner, (4) the contract will prohibit the RR from soliciting or opening new accounts for TFSC, and (5) the contract will state that payments to the RR immediately will terminate if the RR becomes ineligible for membership in the NASD or ineligible to be associated with an NASD member because of any disqualification, as set forth in Article III of the NASD's By-Laws.

 

In addition, you should be aware that the staff of the SEC has issued no-action letters that address the conditions under which former RRs may continue to receive commissions without being required to register as broker/dealers under Section 15 of the Securities Exchange Act of 1934 , and those conditions may differ from those required by the NASD. You may wish to direct an inquiry to the SEC’s Division of Market Regulation, Office of Chief Counsel, to seek assurance that your continuing commissions payment proposal comports with SEC requirements.

 

I hope this letter responds to your inquiry. 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. This letter responds only to the issues that you have raised based on the facts as described, and does not address any other rule or interpretation of the Association, or all the possible regulatory and legal issues involved.

 

Sincerely,

 

Robert J. Smith
Assistant General Counsel