Member Firms Subject to ESRs May Seek Waiver

As we have discussed previously, an NFA Member firm may be required to adopt enhanced supervisory requirements (“ESR”) based on:

• the employment history of its APs and Principals,
• the affiliations of its Principals,
• if the firm charges 50% or more of its active customers round-turn commissions, fees and other charges that total $100 or more per futures, forex or option contract, or
• it becomes subject to NFA or CFTC enforcement or disciplinary proceedings.

If a Member firm meets any of the criteria requiring it to adopt ESRs, it may request a waiver from these requirements. This post discusses how a firm may request such a waiver and what the NFA will consider in granting or denying the waiver.

Requesting a Waiver

To request a waiver from enhanced supervisory requirements, a Member firm may file a petition with the NFA’s three-person Telemarketing Procedures Waiver Committee (the “TPWC”) for a partial or full waiver from the requirement to adopt ESRs.  The firm must file the petition with the TPWC within 30 days of receiving notice from the NFA that the firm is required to adopt ESRs.  This deadline is important because failure to timely file the request will prohibit the firm from filing the waiver again until at least 2 years after the firm adopts the ESRs.  If the TPWC denies the waiver, the firm is also prohibited from filing the waiver again until at least 2 years after the firm adopts the ESRs.

Factors the NFA Will Consider

The TPWC may consider the following factors when evaluating a waiver request:

• total number and the backgrounds of APs sponsored by the Member;
• number of branch offices and guaranteed introducing brokers (“GIBs”) operated by the Member;
• experience and background of the Member’s supervisory personnel;
• number of the Member’s APs who had received training from firms which have been closed for fraud, the length of time those APs worked for those firms and the amount of time which has elapsed since those APs worked for the disciplined firms;
• results of any previous NFA examinations;
• cost effectiveness of the taping requirement in light of the firm’s net worth, operating income and related telemarketing expenses;
• whether the Member assesses commissions, fees and other charges that are based on all of the relevant circumstances, including the expense of executing orders and the value of services the Member renders based on its experience and knowledge; and
• whether the Member adequately discloses the amount of commissions, fees and other charges before transactions occur in light of a retail customer’s trading experience and the impact that the commissions, fees and other charges may have on the likelihood of profit.

Conditions on Waiver

Even if the TPWC grants a full or partial waiver, it will still impose certain requirements on the firm. The firm must:

• notify the NFA of any actions charging it with violation of CFTC, SEC, or other self-regulatory organization’s (“SRO”) regulations or rules;
• notify the NFA of any customer complaints involving sales practices or promotional material;
• not change ownership;
• not have any material deficiencies noted during any SRO examination;
• not hire additional APs from Disciplined Firms;
• execute a written acknowledgement that the firm understands the conditions of the waiver;
• and may include any other conditions deemed by the TPWC to be appropriate in consideration of a total or partial waiver from the enhanced supervisory requirements.

If the firm violates these conditions, the TPWC may revoke or amend the wavier that was previously granted.

Conclusion

The ESRs impose more strict requirements on Member firms.  It is important for a firm to evaluate the employment history of its APs and Principals to determine whether the firm meets the criteria set forth in NFA Interpretive Notice 9021 and must therefore adopt the ESRs or seek a waiver from such requirements. If a firm receives a notice from the NFA that it must adopt ESRs and it wishes to request a waiver, it should act quickly. Failure to file a petition within 30 days will bar the firm from filing a request for at least 2 years after it adopts the ESRs.

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Cole-Frieman & Mallon LLP provides comprehensive legal services to CFTC registered managers.  The firm also provides NFA registration and compliance support.  Bart Mallon can be reached directly at 415-868-5345.