Client Alert

SEC Provides No-Action Relief for Broker-Dealer Sweep Programs

06 Apr 2020

On March 30, 2020, the Securities and Exchange Commission (SEC) issued a no-action letter stating that the staff of the SEC’s Division of Trading and Markets would not recommend enforcement actions against broker-dealers that treat unsecured receivables related to bank sweep accounts as an allowable asset that is not deducted from net worth under Rule 15c3-1 (the “Net Capital Rule”). This change should make it easier for broker-dealers to offer cash sweep programs to their customers while continuing to adhere to the requirements of the Net Capital Rule.

Background

The Net Capital Rule is designed to ensure that broker-dealers maintain adequate liquidity to meet their obligations. To determine its net capital, a broker-dealer must make a number of adjustments to its net worth as calculated in accordance with generally accepted accounting principles (GAAP). Among the adjustments is the deduction of most unsecured receivables. Broker-dealers must ensure that they have sufficient net capital to comply with the Net Capital Rule at all times.

Many broker-dealers offer their customers the option to automatically transfer free credit balances from their brokerage accounts to money market funds or to bank accounts insured by the Federal Deposit Insurance Corporation (“FDIC”). The SEC regulates these types of arrangements, often referred to as “sweep programs,” under Rule 15c3-3 (the “Customer Protection Rule”). Customers do not have direct access to the funds held at a bank or in a money market fund because sweep accounts are generally held in the name of the broker-dealer acting for the benefit of its customers.

If customers participating in sweep programs seek to withdraw funds from their brokerage accounts that are held at a bank, the broker-dealer must withdraw the funds from the bank in order to meet the withdrawal request. Operationally, such sweep transactions may take a day or two to complete, thereby limiting the ability of a broker-dealer’s customers to immediately withdraw their funds. To allow their customers to withdraw these funds on demand, however, some broker-dealers credit their customers’ accounts before the funds are received from the bank. This creates an “unsecured receivable” under the Net Capital Rule that, as noted above, must be deducted from a broker-dealer’s net worth to calculate the broker-dealer’s net capital.

The SEC’s recent no-action position facilitates immediate withdrawals by customers by delineating conditions under which a broker-dealer need not deduct the unsecured receivables resulting from a withdrawal request in a bank sweep program. In the no-action letter, the SEC said it would not recommend enforcement if a broker-dealer treats a bank account receivable created as part of a sweep program as an allowable asset that is not deducted from the broker-dealer’s net worth for one business day from the date the receivable is created, provided that:

  • A net receivable is created through prefunding a customer’s brokerage account as part of an FDIC-insured bank sweep program transaction;
  • The net receivable arises from an FDIC-insured bank receivable for which a sweep program deposit account has been established;
  • The broker-dealer has a legally enforceable right to demand and receive payment of the receivable from that bank; and
  • There is no ability for the customer to access the FDIC-insured bank sweep account directly and/or without going through the broker-dealer.

Conclusion

The SEC’s no-action letter allows broker-dealers to in effect provide their customers with immediate access to their funds that are held at FDIC-insured banks pursuant to a sweep program. Customers benefit in that they may withdraw funds immediately and broker-dealers will not be penalized for advancing the funds one day before they are received from the bank. The no-action position will also streamline compliance by not requiring broker-dealers to calculate on a daily basis the value of unsecured receivables representing withdrawal requests from banks participating in a sweep program.

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