Want to borrow some money from a client? Yeah, sounds a little shady on the face of it, but maybe you have good reasons. Well, proceed with caution. NASD Conduct Rule 2370: Borrowing From or Lending to Customers is a fairly simple proposition: Registered persons may only borrow money from, or lend money to, a customer pursuant to their member firm's written procedures. But as a veteran industry lawyer, I've learned that it is precisely such seemingly uncomplicated rules that can turn into career-killing quicksand.
If you want to engage in customer borrowing/lending, then you must confirm that your member firm has written procedures allowing such transactions. If your firm doesn't have written customer borrowing/lending procedures, fuggeddaboutit.
The FINRA Rule divides proposed borrowing/lending arrangements into five categories. Once you figure out where your transaction falls, make sure to comply with all the requirements.
Category #1: The customer is a member of such person's immediate family.
The Rule defines “immediate family” to include parents, grandparents, mother-in-law or father-in-law, husband or wife, brother or sister, brother-in-law or sister-in-law, son-in law or daughter-in-law, children, grandchildren, cousin, aunt or uncle, niece or nephew.
However, the Rule also includes under “immediate family” any other person whom the registered person supports, directly or indirectly, in a material capacity.
Your member firm's written procedures may provide that registered persons are not required to notify the firm or receive member approval either prior, or subsequent to, entering into such lending or borrowing arrangements.
QUICKSAND: Your boyfriend or girlfriend could easily fall within the definition of “immediate family,” particularly if you are cohabitating, and you're paying the bulk of their expenses. However, keep in mind that the Rule is only directed at “customers.” You are not prohibited from taking a loan from Mom or your boyfriend if they are not customers of yours.
Category #2: The customer is a financial institution regularly engaged in the business of providing credit, financing, or loans, or another entity or person that regularly arranges or extends credit in the ordinary course of business.
Check your firm's written procedures, which may indicate that registered persons are not required to notify the member, or receive member approval (either before or after the transaction), provided that the loan has been made on the same commercial terms that are offered to members of the general public similarly situated as to need, purpose and creditworthiness.
Category #3: The customer and the registered person are both registered persons of the same member firm, #4: The lending arrangement is based on a personal relationship with the customer, or #5: The lending arrangement is based on a business relationship outside of the broker-customer relationship.
The rule requires written pre-approval for lending/borrowing under the three scenarios listed above.
This year has been an especially rough one in terms of FINRA/NASD's sanctions involving borrowing/lending violations — we have some two-dozen reported cases.
In February, Francis Preston Mark Brighton was barred after he had borrowed $14,800 from public customers without his member firm's approval, failed to repay the loan by the agreed upon date, and failed to fully repay the customer. Brighton failed to disclose to the customers that he had obtained loans from other customers in the past and had not yet repaid those customers in full.
In August, William Edward Thomas was fined $5,000 and suspended for 10 business days after he had accepted $2,600 in loans from a public customer (not an immediate family member) in violation of his member firm's written procedures.
QUICKSAND: Be aware that many states deem it an unethical/deceptive practice for a registered person to engage in the “practice of lending or borrowing money or securities from a customer … ” (or some such similar language). Notwithstanding your firm's written policies and FINRA's rules, any state with jurisdiction over the proposed transaction could view your arrangement as a violation. The consequence is that you could be named as a respondent in a state action to revoke your registration and impose further sanctions.
Writer's BIO: Bill Singer practices law at Stark & Stark, and is the publisher of RRBDLAW.com