FINRA’s Focus on Customer Protection Rule and Liquidity Risk

By Fred Wagstaff

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In its 2022 Report on FINRA’s Examination and Risk Monitoring Program, FINRA has once again included the Customer Protection Rule (SEC Rule 15c3-3) and Liquidity Risk as exam priorities.

The Customer Protection rule requires firms to maintain custody of customer securities and safeguard customer cash by segregating these assets from the firm’s proprietary business activities and promptly deliver them to customers at their request.  Firms can satisfy the requirement by keeping customer securities and cash in their physical possession or in a good control location such as a clearing corporation.

What should broker-dealers be doing?

  • If you are an introducing firm, ensure that you have a consistent process in place to forward checks on a timely basis (next day by noon after receipt of check) to your clearing firm in order to comply and maintain an exemption from the Customer Protection Rule.
  • If you are an introducing firm, ensure you have developed and followed procedures to maintain blotters of customer checks, checks written to the firm and checks written to third parties with sufficient information to demonstrate that checks were properly and timely remitted and to also be able to substantiate the status of each check received.
  • If you are a clearing firm and are required to perform a weekly reserve calculation, ensure that your firm continually assesses and confirms the accuracy of its reserve formula calculation and maintains the proper amounts in its segregated special reserve bank account(s).  Some common findings by FINRA include inaccurate reserve formula calculations due to errors in coding because of limited training and staff turnover, challenges with spreadsheet controls, and limited or poor coordination between the various internal departments that are involved in the reserve calculation process.
  • If you are a clearing firm, ensure you have established a solid process around good control locations for customer assets.  For example, ensure that control agreements are executed before the accounts are coded as good control accounts on the books and records of the firm and to address any potential conflicts of interest for staff who have system access to establish a good control location.  In addition, perform periodic reviews of existing control locations to ensure that they are functioning as intended.

FINRA also routinely reviews firm’s liquidity risk management practices and has included it in their list of 2022 priorities.  If firm’s meet certain criteria under SEC Rule 17a-3(a)(23), they are required to have effective liquidity controls in place in their overall risk management framework.

What should broker-dealers be doing?

  • Ensure that you have an effective documented liquidity plan that addresses major items such as:
  • Who at the firm is responsible for liquidity management?
  • Detailed steps the firm would take in the case of a market driven or idiosyncratic event that could cause liquidity issues.
  • How and where to access liquidity during stress conditions.
  • Ensure the firm has developed and conducted stress tests in a manner and frequency that consider the overall complexity and risk of the firm’s business model.

Oyster’ consultants are industry experts who can provide support and assist in keeping your firm compliant with industry regulations. Our finance and accounting consultants are leading experts in SEC Customer Protection Rule regulatory requirements, and will assist in keeping your firm compliant with industry regulations. We can also provide your firm with FINOP support or an outsourced FINOP who understands the industry and your firm but who also has the experience and resources to navigate regulatory nuances and interpretations.

About The Author
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Fred Wagstaff

Fred is an accomplished financial CFO and FINOP with extensive experience in the full-service broker-dealer, clearing, and registered investment advisory industry. Fred’s experience includes merger and acquisition financial responsibilities, financial and operational responsibilities including financial statement preparation, net capital computations, regulatory filings, incentive compensation development, commission payout systems and financial/accounting optimization and strategy.