The new rules address four major regulatory areas:

• the use of transactions that have been “arranged, negotiated, or executed” by personnel located in the United States as a trigger for regulating security-based swaps and market participants 

• the requirement that non-US resident SBS Entities certify and provide an opinion of counsel that the SEC can access their books and records and conduct onsite inspections and examinations

• the cross-border application of statutory disqualification provisions 

• the employment applications that SBS Entities must maintain with regard to their foreign associated persons 

The new rules apply to certain security-based swaps under the Securities Exchange Act of 1934 that were added by Title VII of the Dodd-Frank Wall Street Reform and Consumer Protection Act. In line with this, the SEC specifically has:

• proposed supplemental guidance to address how certain requirements under the Dodd-Frank Act that are related to security-based swaps (which have been “arranged” or “negotiated” by personnel inside the US) apply to transactions involving limited activities by those US personnel;

• requested comment on two alternative proposals that would amend Rule 3a71-3 of the Exchange Act that would modify the SEC’s approach to considering certain transactions as “arranged, negotiated, or executed” by personnel located in a US-based branch or office;

• proposed corresponding technical revisions to Exchange Act Rule 0-13 and requested comment on whether to provide other conditional exceptions for certain other requirements that apply to such “arranged, negotiated, or executed” transactions, including requirements concerning security-based swap dealer business conduct and public dissemination of financial information;

• proposed guidance regarding the certification and opinion of counsel requirements in Exchange Act Rule 15fb2-4, which would permit additional time for an SBS Entity to submit the certification and opinion of counsel required under Rule 15Fb2-4(c)(1);

• proposed amending SEC Rule of Practice 194 to exclude an SBS Entity, subject to certain limitations, from the prohibition in Exchange Act Section 15F(b)(6);

• proposed modifications to proposed Exchange Act Rule 18a-5 to address the questionnaire or application for employment that an SBS Entity is required to make and keep current with respect to certain foreign associated persons.

Proposed Changes

Under the four key areas, the following are specific highlights:

Application of Title VII of the Dodd-Frank Act to certain transactions “arranged, negotiated, or executed” by US personnel

The SEC has proposed new interpretive guidance regarding the definition of “arranged” or “negotiated” in connection with determining which transactions non-US persons must consider when counting against de minimis thresholds to decide whether they must register as security-based swap dealers, adhere to certain security-based swap dealer business conduct requirements, and be compliant with reporting and public dissemination requirements as part of Regulation SBSR.

• Title VII requirements would not be triggered under the new guidance as US personnel provide “market color” – in the form of certain background information regarding pricing and market conditions and trends – if those US personnel do not receive transaction-based compensation or exercise client responsibility in connection with those transactions.

In addition, the SEC has proposed two alternative exceptions from the requirement in Exchange Act Rule 3a71-(b)(1)(iii)(C) that non-US persons count security-based swap transactions with non-US counterparties against the de minimis thresholds associated with security-based swap dealer registration. This is applicable when US personnel arrange, negotiate, or execute those transactions. Either exception would be subject to conditions that are intended to protect the interests associated with security-based swap dealer regulation under Title VII while reducing potentially negative consequences. The conditions are as follows:

• the use of a registered security-based swap dealer or a registered broker (depending in part on the alternative the SEC adopts) in connection with the arranging, negotiating, and executing activity in the US

• the registered entity’s compliance with certain security-based swap dealer requirements “as if” the entity itself were a counterparty to the transaction

• SEC access to certain books, records, and testimony

• disclosures to counterparties regarding the limited applicability of Title VII to the transaction

• the non-US person that is relying on the exception being subject to the margin and capital requirements of a jurisdiction that the SEC has designated a “listed jurisdiction”

Certification and opinion of counsel requirements

Exchange Act Rule 15Fb2-4(c)(1) addresses the registration of non-US resident SBS Entities. It requires these entities to certify and provide an opinion of counsel that the SEC can access their books and records and also conduct onsite inspections. Firms have raised questions about the interactions concerning this certification, opinion of counsel requirements, and various foreign blocking, privacy, and secrecy laws, as well as other legal requirements. To address this, the SEC has proposed further guidance such that the certification:

• need only address the laws of the jurisdiction or jurisdictions in which the nonresident SBS Entity maintains the relevant books and records

• need only address the records pertaining to the US business of the nonresident SBS Entity. For a nonresident SBS Entity subject to the Exchange Act capital and margin requirements, this means the financial records necessary for the SEC to assess the nonresident SBS Entity’s compliance with the Exchange Act requirements

• may be predicated on the nonresident SBS Entity obtaining the prior consent of the persons who information is included in the records

• need not address contracts created prior to the date on which the SBS Entity submits an application for registration pursuant to Section 15F(b)

• may account in certain circumstances for whether the relevant regulatory authority in the foreign jurisdiction has issued an approval, authorization, waiver, or consent, or if said authority has reached an agreement with the SEC to allow access to the entity’s books and records located in that jurisdiction

The new guidance would not disrupt the independent requirement that nonresident SBS Entities must provide the SEC with direct access to their books and records.

Additionally, the SEC has proposed rule amendments to Exchange Act Rule 15Fb2-1 that would allow for additional time for nonresident SBS Entities to submit certifications and opinions of counsel. Up to 24 months following the applicable compliance date will now be allotted.

Cross-border application of statutory disqualification provisions

It is unlawful for an SBS Entity to permit an associated person who is subject to a statutory disqualification to effect or be involved in effecting security-based swaps on behalf of the SBS Entity if the Entity knew, or should have known in the exercise of reasonable diligence, of the disqualification (Exchange Act Section 15F(b)(6)). SEC Rule of Practice 194 provides, among other things, a process by which an SBS Entity could apply to the SEC to have the disqualification prohibition lifted. As part of the proposed amendments, the SEC would amend Rule of Practice 194 to more closely match similar CFTC rules concerning the statutory disqualification of non-domestic associated persons of CFTC registered swap entities.

• Proposed new paragraph (c)(2) of Rule of Practice 194 provides an exclusion from the statutory prohibition for SBS Entities with respect to an associated person who is a natural person who (i) is not a US person and (ii) does not effect and is not involved in effecting security-based swap transactions with or for counterparties that are US persons, other than a security-based swap transaction conducted through a foreign branch of a counterparty that is a US person.

• An SBS Entity would not be able to use the exclusion provided in the proposed new paragraph in Rule of Practice 194 if the associated person is currently subject to an order that prohibits such associated person from participating in the US financial market, including the US securities or swap market, or foreign financial markets.

Questionnaires and employment applications

The SEC previously proposed Exchange Act Rule 18a-5 to establish recordkeeping standards for stand-alone and bank SBS Entities. That rule stipulated that each SBS Entity should make and keep a current questionnaire or application for employment for each associated person who is a natural person. Commenter concern has prompted the following exceptions:

• An SBS Entity need not make or keep current such information if the entity is excluded via the statutory disqualification prohibition in Exchange Act 15F(b)(6) with respect to the associated person.

• A questionnaire or application for employment executed by an associated person that is not a US person need not include certain information if its receipt or the creation of records necessary to maintain this information would violate applicable law in the jurisdiction in which the person is employed or located.

Submitting Comments

All of these proposed changes will be open for public comment for 60 days after publication in the Federal Register. The proposed rule changes can be read here. You can submit comments using the form available on the SEC’s website or by e-mailing rule-comments@sec.gov with the reference number (S7-07-19) in the subject line. You can also use the Federal Rulemaking Portal to submit comments or send your comments by mail to Secretary, Securities and Exchange Commission, 100 F Street, NE, Washington, DC 20549-1090. Again, please remember to include reference number S7-07-19.

Sources:

SEC Proposes Actions to Improve Cross-Border Application of Security-Based Swap Requirements (www.sec.gov)
SEC Release No. 34-85823: Proposed Rule Amendments and Guidance Addressing Cross-Border Application of Certain Security-Based Swap Requirements (www.sec.gov)