The Final Rules become effective on October 13, 2015. However, the SEC established a compliance date for the Final Rules (Registration Compliance Date) that is the latest of: (1) six months after the date of publication in the Federal Register of a final rule release adopting rules establishing capital, margin and segregation requirements for SBS Entities; (2) the compliance date of final rules establishing recordkeeping and reporting requirements for SBS Entities; (3) the compliance date of final rules establishing SBS Entity business conduct requirements under Sections 15F(h) and (k) of the Exchange Act; and (4) the compliance date for final rules establishing a process for a registered SBS Entity to make an application to the SEC to permit an associated person who is subject to a statutory disqualification to effect or be involved in effecting security-based swaps on its behalf. The Registration Compliance Date is currently indeterminate because none of the dates on which it depends has been set by the SEC, and it is unknown when they will be set.
The SEC also established an “SBS Entity Counting Date”2 that will be two months prior to the Registration Compliance Date. Firms that have regularly engaged in security-based swap business must determine whether they are required to register with the SEC on the Registration Compliance Date as SBS Entities.3 Such determinations are required to be made based on security-based swap dealing activity and positions from and after the SBS Entity Counting Date.4
Under the Final Rules, SBS Entities must file an application for registration through the SEC’s EDGAR filing system using one of three forms.5 A firm that is not registered or registering with the SEC as a broker-dealer and is not registered or registering with the CFTC as a swap dealer or major swap participant must file its application using Form SBSE. A firm that is an SEC-registered broker-dealer, or is registering as such, must apply for SBS Entity registration using Form SBSE-BD. A CFTC-registered swap dealer or major swap participant, or a firm that is registering as such, must use Form SBSE-A, unless it is also an SEC-registered broker-dealer. Form SBSE-BD should also be used by any firm that is already registered, or is registering, with both the SEC and CFTC in the above-referenced capacities.
Once a firm’s application is filed with the SEC, together with certain senior officer certifications that are required to be made on Form SBSE-C, the firm will automatically become conditionally registered as an SBS Entity. The SEC may subsequently grant or deny the firm’s ongoing registration or institute proceedings to determine whether conditional registration should be denied. An SBS Entity is also required to promptly amend its Form SBSE, SBSE-BD or SBSE-A if the information contained therein becomes inaccurate. The Final Rules also provide processes for the cancellation, revocation and withdrawal of registration of an SBS Entity.
Substituted compliance with the SBS Entity registration requirements is not available for non-U.S. market participants. Nonresident SBS Entities6 are required to obtain an agent in the U.S. for service of process and provide the SEC with information regarding that agent. Each nonresident SBS Entity applying for registration must also provide an opinion of counsel that the applicant can, as a matter of law, provide the SEC with access to its books and records and submit to onsite SEC inspections and examinations.7 The SEC acknowledged that some nonresident SBS Entities may be prevented from registering because they are unable to comply with this requirement. However, the SEC stated that those firms could restructure their security-based swap business to resolve any such issue and that the SEC believes it must be able to directly access registered SBS Entity books and records to inspect and examine them. Providing access through a third party, for example through a foreign regulator, is not sufficient.
Required Certifications (Including as to Disqualifications)
As part of an SBS Entity’s registration process, a senior officer of the SBS Entity must provide two certifications, each supported by specific due diligence.
First, a senior officer must certify that he or she has reasonably determined that the SBS Entity has developed and implemented written policies and procedures reasonably designed to prevent violations of the federal securities laws and that a documented process was used to reach that determination.8
Second, the SBS Entity must also certify, on a form signed by the firm’s Chief Compliance Officer (CCO), or his or her designee, that, unless otherwise specifically provided by an SEC rule, regulation or order, it neither knows nor reasonably should know that any “associated person”9 who effects, or is involved in effecting, security-based swaps on its behalf is subject to any statutory disqualification as described in Sections 3(a)(39)(A)–(F) of the Exchange Act.10 To support the certification, the SBS Entity’s CCO, or his or her designee, must review and sign employment questionnaires or applications of associated persons who are natural persons and who will effect or be involved in effecting security-based swap transactions for the firm. SEC Rule 15Fb6-1 provides a limited exception to allow an associated person who is subject to a statutory disqualification to effect or be involved in effecting security-based swap transactions. The exception applies only if the associated person is not a natural person, the disqualification preceded the Registration Compliance Date, and the non-natural person is appropriately identified to the SEC on Schedule C of Form SBS in connection with the firm’s application for SBS Entity registration.11
1 Exchange Act Release No. 75611 (August 5, 2015), 80 FR 48964 (August 14, 2015) available here. A “security-based swap” is generally a category of “swap” (as defined in section 1a(47) of the Commodity Exchange Act) having an underlying interest that is either a narrow-based security index, a single security or loan or an event relating to a single issuer of a security or the issuers of securities in a narrow-based security index, provided that the event affects the finances of the issuer. A “security-based swap dealer” is any person that holds itself out as a dealer in security-based swaps, makes markets in security-based swaps and regularly enters into security-based swaps with counterparties in the regular course of its business for its own account. A “major security-based swap participant” is a person that holds a substantial position in security-based swaps but is not a security-based swap dealer.
2 See 80 FR 48964 at 48988.
3 These determinations will depend, in part, on whether certain aggregate amounts or other values derived from the volume and type of security-based swap business the firm, together with its affiliates, transacts or maintains exceed the thresholds specified in earlier joint rulemaking by the SEC together with the U.S. Commodity Futures Trading Commission (CFTC). See Exchange Act Release No. 66868 (April 27, 2012), 77 FR 30596 (May 23, 2012) available here. See also Sidley Update, CFTC and SEC Finalize Key Dodd-Frank “Entity Definitions” (May 11, 2012).
4 The SEC’s SBS Entity Counting Date approach is different from the look-back approach adopted by the CFTC with respect to swap dealers and major swap participants. When the CFTC adopted its final swap dealer and major swap participant registration rules, it required parties to start counting their activity as of the effective date of the final regulations adopting the definition of “swap,” which was October 12, 2012. This resulted in the initial swap dealers filing for provisional registration as swap dealers during December 2012. See 17 C.F.R. § 1.3(ggg).
5 The SEC approach to use EDGAR and process SBS Entity applications for registration is in contrast to the CFTC’s application and registration process for swap dealers and major swap participants, which requires applicants to become a members of the National Futures Association (NFA) and delegates the registration approval and oversight process to the NFA. See 17 C.F.R. § 3.2.
6 Under the Final Rules, “nonresident SBS Entities” include: (1) for individuals, those who reside or have their principal places of business outside the U.S.; (2) for corporations, those who are incorporated or have their principal places of business outside the U.S.; and (3) for partnerships or other unincorporated organizations, those having their principal places of business outside the U.S.
7 The CFTC does not impose either a process agent or opinion requirement with respect to nonresident swap dealers or major swap participants. Rather, nonresident swap dealers and major swap participants are only required to make their records available for inspection “subject to applicable blocking, privacy or secrecy laws” by the CFTC, NFA or U.S. Department of Justice (DOJ) within 72 hours of request at either the NFA’s offices in New York or Chicago or at another address specified by the swap dealer or major swap participant in its application for registration. See 17 C.F.R. § 1.31; see also NFA Form 7-R. NFA Form 7-R contains a representation from the nonresident swap dealer or major swap participant applicant that except as the applicant has otherwise informed the CFTC in writing, it is not subject to any blocking, privacy or secrecy laws which would interfere with or create an obstacle to full inspection of the applicants books and records by the CFTC, NFA and DOJ. See NFA Form 7-R. However, no legal opinion is required.
8 Neither the CFTC regulations nor the NFA application process requires similar certifications, although certain certifications are required to be included in the annual report described in footnote 10 below.
9 An “associated person” of an SBS Entity includes the following natural persons and entities: (a) partners, officers or directors of an SBS Entity, (b) any person controlling, controlled by or under common control with an SBS Entity, and (c) any employee of an SBS Entity other than employees whose functions are solely clerical or ministerial.
10 “Statutory disqualification” as so described is the same with respect to persons engaged in security-based swap transactions as it is with respect to persons engaged in other parts of the securities business. The grounds for such disqualification are broad, and are not limited to conduct relating to security-based swaps or to the securities laws. Such grounds principally include (i) being subject to an order involving, among other things, certain expulsions, suspensions, or bars by regulatory bodies or self regulatory organizations; (ii) certain criminal actions or being subject to certain criminal injunctions; (iii) conduct implicating certain state or federal banking laws or foreign financial regulatory laws; (v) certain material misstatements; (vi) willful violations of the federal securities laws, including the Commodity Exchange Act and the rules of the Municipal Securities Rulemaking Board (MSRB); and (vii) failure to supervise a violation the federal securities laws, including the Commodity Exchange Act and the rules of the MSRB. The NFA application process for swap dealers and major swap participants to register does not require a similar certification from the swap dealer or major swap participant’s chief compliance officer. Instead, it requires the applicant to certify in the application (Form 7-R) that within 90 days of filing the application with the NFA the applicant will be in compliance with the requirement that it shall not permit any associated person who is subject to statutory disqualification to effect or be involved in effecting swaps on its behalf if the applicant knows, or in the exercise of reasonable care should know, of the statutory disqualification. See NFA Form 7-R. The CFTC regulations do, however, require the chief compliance officer of a swap dealer or major swap participant to file an annual report with the CFTC which describes, among other things, applicable written policies and procedures, the chief compliance officer’s review of such policies and procedures, and an assessment of the effectiveness of the policies and procedures and any areas for improvement. See 17 C.F.R. § 3.3.
11 The SEC also proposed a rule of practice that would enable an SBS Entity to apply for permission to continue effecting transactions through an associated person that becomes subject to a statutory disqualification after the Registration Compliance Date. See Exchange Act Release No. 75612 (August 5, 2015), 80 FR 51684 (August 25, 2015) available here.
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|Nathan A. Howell
|Ellen P. Pesch
|Michael S. Sackheim
|Andrew P. Blake