Interpretive Letter to Name Not Public
December 22, 1988
This will confirm our telephone conversation concerning the proposal described in the "no-action" response of the SEC Division of Market Regulation dated November 21, 1988 to your earlier written inquiry to the Division concerning cash rebates to pension fund customers of the member. The SEC response deals with the proposal under the net capital requirements of SEC Rule 15c3-1. I understand that the proposal is to refund to pension plan customers of the member $1.50 out of every $2.00 of the total brokerage commissions generated from any trades in equity securities. As you know, my telephone call to you was prompted by the fact that a copy of your inquiry to the SEC was sent by you to us and we also received a copy of the SEC Division's response.
As I advised you, the rules of the NASD do not prohibit cash rebates in connection with members' secondary market transactions in outstanding securities.1 However, in connection with members' participations in fixed price public offerings members are prohibited from granting cash rebates to purchasing customers by the provisions of Article III, Section 24 of the NASD Rules of Fair Practice. (NASD Manual, 2174).2 In addition, I pointed out that Section 22(d) of the Investment company Act of 1940, which is applicable to members' sales of mutual funds and unit investment trusts, prohibits the sale of these types of securities by members at prices which reflect cash rebates from the stated public offering prices in the prospectuses.3
You indicated that the coverage of Section 24 of the NASD Rules of Fair Practice is likely to be moot given the nature of the member's securities transactions with its customers, but I nevertheless called your attention to the fact that the Section does contain an express exemption for bona fide research if such research is determined to be "provided by" the member and if the full public offering price is paid by the customer. You also indicated that sales of mutual funds and unit investment trusts to the pension customers may occur from time to time and, in this connection, I referred you to several 1985 "no-action" responses of the SEC Division of Investment Management covering the circumstances under which discounts earned from the sales of mutual fund shares may be offset against advisory fees charged to the purchasing customers by registered investment advisers controlled by the broker/dealer sellers without being considered inconsistent with Section 22(d) of the Investment Company Act. Copies of two (2) such "no-action" letters are enclosed.
Very truly yours,
John F. Mylod, Jr.
Assistant General Counsel
1 This statement is based upon my assumption that any cash rebates in secondary market transactions will inure only to the benefit of the pension plans in accordance with the fiduciary standards of conduct established for the managers of the pension funds under applicable common law fiduciary principles and the stricter fiduciary standards established by the Employee Retirement Income Security Act ("ERISA").
2 As we discussed, the definition of "fixed price offering" as used in Section 24 appears at NASD Manual 2101 and excludes from the Section 24 prohibitions mutual fund and unit investment trust transactions and public offerings of municipal securities and U.S. Government securities. However, it does cover publicly offered securities which are subject to the definition whether initial public offerings or secondary public offerings made at a fixed price.
3 The statutory provision is reproduced in part at NASD Manual, 5269.