What is a Broker-Dealer? - Davis Polk & Wardwell

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§ 1A:7.4 BROKER-DEALER REGULATION (iv) certain transactions involving a company’s securities for its employee benefit plans and participants; and (v) contracts entered into by banks from being considered void or voidable. 426 While Regulation R does not include all the exceptions provided in Exchange Act § 3(a)(4)(B) as listed above, these exceptions remain in force and available to banks. 427 [C] Bank Dealer Activities [C][1] Section 3(a)(5)(C) The GLBA also amended Exchange Act § 3(a)(5) and provided exemptions from the definition of “dealer” for certain bank activities. As discussed above, section 3(a)(5)(A) defines a “dealer” as “any person engaged in the business of buying and selling securities for such person’s own account through a broker or otherwise.” 428 Section 3(a)(5)(C) exempts a bank from the definition of a “dealer” subject to conditions when it engages in certain activities, including: (i) transactions in commercial paper, bankers acceptances, commercial bills, exempted securities, qualified Canadian government or North American Development Bank obligations, or standardized, credit-enhanced debt security issued by a foreign government; (ii) securities transactions for investment purposes for the bank, or for accounts for which the bank acts as a trustee or fiduciary; (iii) certain asset-backed transactions; and (iv) transactions in identified banking products. 429 426. Rules 771, 772, 775, 776 and 780. 427. See Regulation R: Exceptions for Banks from the Definition of Broker in the Securities Exchange Act of 1934—A Small Entity Compliance Guide, available at www.sec.gov/divisions/marketreg/tmcompliance/ regulation_r_secg.htm. 428. Exchange Act § 3(a)(5)(A). Section 3(a)(5)(B) excludes from the term “dealer” “a person that buys or sells securities for such person’s own account, either individually or in a fiduciary capacity, but not as a part of a regular business.” Such a person is usually called a “trader.” For dealer/ trader distinction, see supra section 1A:3.2. 429. Exchange Act § 3(a)(5)(C). Three of the four exceptions are also exceptions from the “broker” definition, except for the exception for engaging in certain asset-backed transactions. See Exchange Act §§ 3(a)(4)(B)(ii), (iii), and (ix). 1A–98
What Is a Broker-Dealer? § 1A:7.4 [C][2] Bank Riskless Principal Activities—Rule 3a5-1 Exchange Act Rule 3a5-1 exempts from the definition of “dealer” a bank engaging in or effecting riskless principal transactions. 430 However, the number of such riskless principle transactions during a calendar year combined with transactions in which the bank is acting as an agent for a customer pursuant to section 3(a)(4)(B)(xi) of the Exchange Act during that same year cannot exceed 500. 431 [C][3] Bank Regulation S Transactions—Rule 3a5-2 Ordinarily, persons in the United Sates may not act as a brokerdealer in securities without registration unless an exception applies, even if the selling activity occurs outside of the United States. Regulation R provides an exemption for banks that, as agents, effect transactions with non-U.S. persons in securities issued pursuant to Regulation S. 432 Rule 3a5-2 provides a similar exemption for banks that effect riskless principal transactions 433 with non-U.S. persons involving Regulation S Securities. 434 430. Rule 3a5-1. For purposes of this section, the term “riskless principal transaction” means a transaction in which, after having received an order to buy from a customer, the bank purchased the security from another person to offset a contemporaneous sale to such customer or, after having received an order to sell from a customer, the bank sold the security to another person to offset a contemporaneous purchase from such customer. See Rule 3a5-1(b). Under the securities laws, riskless principal transactions are dealer activity. See SEC Release No. 34-44291 (2001). Exchange Act § 3(a)(4)(B)(xi) excepts a bank from the definition of broker if it effects no more than 500 securities transactions per calendar year, other than transactions that qualify for one of the other statutory exceptions. A transaction in which a bank is acting as an agent for a customer would count as one transaction toward the 500-transaction limit. The GLBA provisions did not extend this de minimis exception to dealer transactions. In the Interim Final Rules adopted by the SEC in 2001, the SEC adopted Rule 3a5-1 to exempt banks from the definition of “dealer” provided that the number of “riskless” principal transactions and agency transactions engaged in by a bank does not exceed 500 transactions per year. See Rule 3a5-1; SEC Release No. 34-44291 (2001). 431. Rule 3a5-1. Under Rule 3a5-1, a riskless principal transaction, even if it involves two separate counterparties, would count as only one transaction against the annual 500-transaction limit. However, if a bank acts as an intermediary between one counterparty and multiple counterparties by arranging multiple transactions, the bank must count each of the transactions on the side of the intermediation that involves the largest number of transactions as a separate transaction against the annual 500-transaction-limit. See SEC Release No. 34-47364 (2003). 432. The Regulation R Adopting Release, supra note 87. 433. “Riskless principal transaction” is defined in Rule 3a5-2(b)(4) and has the same meaning as that in Rule 3a5-1(b). 434. See Exemptions for Banks Under Section 3(a)(5) of the Securities Exchange Act of 1934 and Related Rules, SEC Release No. 34-56502 (Sept. 24, 2007). (Broker-Dealer Reg., Rel. #9, 9/10) 1A–99
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