Interpretive Letter to Harold L. Gladney
November 7, 2003
Harold L. Gladney
Director of Compliance
Vining-Sparks IBG, L.P.
775 Ridge Lake Boulevard
Memphis, Tennessee 38120
Re: Rule 2370
Dear Mr. Gladney:
In your letter of October 27, 2003, you ask about the need for your registered representatives who call on depository institutions (mostly community banks) to get pre-approval in writing for loans with customer banks assigned to them. You further question the applicability of the notice and approval requirements of Rule 2370 for any credit arrangement between your registered representatives and any bank that is a firm customer, even if a particular representative does not service the bank from which he or she is obtaining a loan.
In adopting Rule 2370, NASD considered the potential for misconduct when registered persons and customers enter into lending arrangements. NASD has brought disciplinary action against registered persons who have violated just and equitable principles of trade by taking unfair advantage of their customers by inducing them to lend money in disregard of the customers' best interests, or by borrowing funds from, but not repaying, customers. The potential for misconduct also exists when a registered person lends money to a customer.
The purpose of Rule 2370 was to establish a regulatory framework that would give members greater control over, and more specific supervisory responsibilities for, lending arrangements between registered persons and firm customers. Under the rule, members can choose to permit their registered persons to borrow from or lend to customers consistent with the requirements of the rule or prohibit the practice in whole or in part. Members who choose to permit their registered persons to engage in lending arrangements with customers must have written procedures in place to monitor such lending arrangements. The purpose of the rule's notice and approval requirements was to enhance members' ability to supervise the activities of registered personnel by giving them the opportunity to evaluate, before granting approval, whether the lending arrangement falls within one of the five types of permissible arrangements. The rule covers lending arrangements between registered persons and any customer of the member, regardless of whether or not a particular registered person services that customer.
NASD staff believes, however, that the potential for misconduct is greatly reduced, or eliminated, when registered persons borrow from banks or other financial institutions in the business of lending money, provided the terms of the lending arrangement are those that would also be available to the general public doing business with those institutions. Such transactions would include, but not be limited to, mortgages, personal loans, home equity lines of credit, and credit card accounts. Accordingly, NASD staff believes that the requirements of Rule 2370 can be satisfied with respect to lending arrangements between registered persons and banks or other financial institutions in the business of lending money, if the member has written procedures in place indicating that: (1) the member approves in advance all lending arrangements between registered persons and banks or other financial institutions in the business of lending money, provided the terms of the lending arrangement are those that would also be available to the general public doing business with those institutions; and (2) the registered person gives prompt written notice to the member of such lending arrangement after he or she has entered into the lending arrangement. All other lending arrangements with banks or other financial institutions that are at terms that are not available to the general public would require notice to the member and approval prior to the lending transaction.
Please note that the opinions expressed herein are staff opinions and have not been reviewed or endorsed by the Board of NASD. This letter responds only to the issues you have raised based on the facts you have described and does not address any other rule or interpretation of NASD, or all the possible regulatory or legal issues involved.