On June 16, 2011, the SEC approved new FINRA Rule 1230(b)(6), that will require, for the first time, that persons with supervisory, management or decision-making authority over specified “back-office” operations register with FINRA as Operations Professionals. Such persons will also be required to pass a qualifying examination and be subject to continuing education requirements. An exception from the examination requirement is available to persons already registered under other FINRA registration categories.
The rule applies to three categories of back-office supervisors, referred to as Covered Persons: (i) senior management with direct responsibility over Covered Functions (discussed below); (ii) any person designated by senior management as a supervisor, manager or other person responsible for approving or authorizing work, including work of other persons, in direct furtherance of a Covered Function; and (iii) persons with authority to materially commit the member’s capital, or commit the member to a material contract, in furtherance of a Covered Function. Registration is not required for a person who merely performs a Covered Function (without supervisory responsibility), who has an ancillary or support function (e.g., Legal or Compliance), or who performs purely clerical or ministerial activities.
Notwithstanding significant concerns submitted by commenters at the proposing stage, the rule also applies to persons employed by an affiliate or third-party if they supervise Covered Functions on behalf of the member.
FINRA changed several key provisions to reflect comments made at the proposing stage:
- The rule clarifies that for a member of senior management to be considered a Covered Person, the person must have direct responsibility over a Covered Function. This change will prevent members of senior management with indirect responsibility over a Covered Function from becoming subject to the rule.
- The rule includes as a Covered Person any person designated by senior management as a supervisor, manager or other person responsible for approving or authorizing work, including work of other persons, in direct furtherance of Covered Functions.
- The rule applies a materiality threshold to being a Covered Person based on having the authority or discretion to (i) commit a member’s capital in furtherance of a Covered Function, or (ii) commit a member to any contract or agreement in furtherance of a Covered Function. The proposed rule could have been interpreted to require registration of persons with any level of relevant authority or discretion. The determination of whether a commitment is “material” will be based on a member’s pre-established spending guidelines and risk management policies. Generally, persons who do not have the authority or discretion to commit a member’s capital, or to commit a member to a contract or agreement, above the firm’s pre-established spending guidelines and risk management policies would not be a Covered Person.
The rule defines Covered Functions as sixteen specific back-office activities:
- Client on-boarding (customer account data and document maintenance);
- Collection, maintenance, re-investment (i.e., sweeps) and disbursement of funds;
- Receipt and delivery of securities and funds, account transfers;
- Bank, custody, depository and firm account management and reconciliation;
- Settlement, fail control, buy ins, segregation, possession and control;
- Trade confirmation and account statements;
- Stock loan/securities lending;
- Prime brokerage (services to other broker-dealers and financial institutions);
- Approval of pricing models used for valuations;
- Financial control, including general ledger and treasury;
- Contributing to the process of preparing and filing financial regulatory reports;
- Defining and approving business requirements for sales and trading systems and any other systems related to the Covered Functions, and validation that these systems meet such business requirements;
- Defining and approving business security requirements and policies for information technology, including, but not limited to, systems and data, in connection with the Covered Functions;
- Defining and approving information entitlement policies in connection with the Covered Functions; and
- Posting entries to a member’s books and records in connection with the Covered Functions to ensure integrity and compliance with the federal securities laws and regulations and FINRA rules.
Exceptions from Qualifying Examination Requirement
The rule excepts from the qualifying examination requirement Operations Professionals that are registered with FINRA as:
- Investment Company Products/Variable Contracts Representative;
- General Securities Representative;
- United Kingdom Securities Representative or Canada Securities Representative;
- Registered Options Principal;
- General Securities Sales Supervisor;
- Compliance Officer;
- Supervisory Analyst;
- General Securities Principal;
- Investment Company Products/Variable Products Principal;
- Financial and Operations Principal;
- Introducing Broker-Dealer Financial and Operations Principal; and
- Municipal Fund Securities Limited Principal or Municipal Securities Principal.
It also excludes persons who have been registered in one of these capacities within the two years immediately prior to registration as an Operations Professional.
FINRA will announce the effective date of the rule in a Regulatory Notice. Within 60 days from the effective date, Members must identify individuals who will need to be registered as Operations Professionals and designate those persons as Operations Professionals on Form U4. Any Operations Professional who is not exempt from the examination requirement will have 12 months from the effective date of the rule to pass the Operations Professional or another qualifying examination, during which time such person may continue to function as an Operations Professional.
Persons who are hired or who transition into a position that requires registration as an Operations Professional will be required to register immediately, but will have 120 days from the date they register to pass the Operations Professional or another qualifying examination. The person may function as an Operations Professional during the 120-day time period.
 Exchange Act Release No. 64687 (June 16, 2011). FINRA originally proposed the rule for comment in May 2010 in Regulatory Notice 10-25, and filed the proposed rule with the SEC in March 2011. An earlier Davis Polk’s Client Memorandum describing the original FINRA rule proposal is available here.