FINRA Rule 3240 addresses the limited circumstances under which a registered person of a FINRA member may borrow money from (or lend money to) a customer. Generally speaking, this practice is a no-no. However, the rule permits borrowing or lending under the following circumstances:
- The broker-dealer must have written procedures that permit the borrowing and lending of money – as well as procedures on how it supervises that activity.
- The customer must be a member of the registered person’s immediate family;
- The customer is a financial institution engaged in the business of lending and is acting in that capacity;
- The customer and the registered person are both registered with the same broker-dealer (co-workers);
- The lending is based on a personal relationship with the customer – and that the personal relationship is what caused the loan, not the broker-dealer relationship; or,
- The lending arrangement is based on a business relationship outside the broker-customer relationship.
In addition to the information above, in order to enter into a lending or borrowing arrangement, the registered person must notify the employing broker-dealer (for circumstances outlined in items 4, 5, and 6 above) and the broker-dealer must pre-approve the arrangement in writing. For item 2 above, the employing firm’s procedures must indicate that the registered person does not have to notify the firm or receive its permission. For item 3 above, the same applies (procedures must indicate that the registered person does not have to notify the firm, etc.) as long as the loan has been made on commercial terms that the customer generally makes available to members of the public in similar circumstances (in other words, no special deals).
Lastly, in the rule, FINRA defines “immediate family” as parents, grandparents, mother or father-in-law, husband, wife, brother, sister, brother or sister-in-law, son or daugther-in-law, children, grandchildren, cousin, aunt, uncle, niece or nephew, and any person whom the registered person supports, directly or indirectly, to a material extent.
Broker-dealers must have procedures relating to this activity. While many prohibit borrowing and lending from customers altogether, they are required to institute reasonable policies and procedures to ensure compliance with the rule. Most employ an annual (or even quarterly) questionnaire or certification which is completed by the registered person. And there have been numerous instances of FINRA enforcement actions in which a registered person has falsely certified on these tools, thereby exacerbating a violation of this rule.
If you have questions about how FINRA rules may impact your broker-dealer’s operations, Mitch Atkins, FINRA’s former South Region Director is now Principal at FirstMark Regulatory Solutions and can be reached by calling 561-948-6511.