Supervisory Obligations for Members That Employ or Intend to Employ Statutorily Disqualified Persons

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EXECUTIVE SUMMARY

The NASD reminds members that have employed a statutorily disqualified person of the seriousness with which the NASD views these members' obligation to adequately discharge their supervisory responsibilities with respect to such disqualified persons. In addition, the NASD reminds members that intend to employ a statutorily disqualified person that such person may not conduct any activities on behalf of the member until the member has received the proper regulatory approvals. Furthermore, a member's failure to abide completely by any supervisory undertakings with respect to statutorily disqualified persons may result in disciplinary action against the member and its supervisory personnel.

BACKGROUND

The NASD Board of Governors has become concerned about a number of recent disciplinary actions against members and supervisory personnel who have failed to discharge their supervisory obligations for statutorily disqualified¹ persons employed by the member and against members that allowed disqualified persons to act as associated persons of the member prior to the member receiving the proper regulatory approvals. Several of these actions have resulted in bars, suspensions, and substantial monetary sanctions being assessed against the members and individuals involved.

Members that seek to employ statutorily disqualified persons are required to file Form MC-400, which outlines the proposed supervisory program for such person, at the time the member requests such person's registration. One section of Form MC-400 is titled "Applicant's Certification" and, in this section, the member must certify that it will diligently supervise the activities of the disqualified person. Prior to the individual becoming registered with the member, the MC-400, other documents, and, in many cases, representations made at a hearing will be reviewed by the NASD Board of Governors. The specific representations regarding supervision will become conditions on which the association will be approved by the NASD and, in many cases, the Securities and Exchange Commission. The member is, thereafter, required to supervise the individual precisely in accordance with its representations unless it reapplies to the NASD to modify the manner of supervision.

The NASD district office examination staff routinely examines members that employ disqualified persons to determine if the member is discharging its supervisory obligation with respect to such disqualified person in the manner described in its application. Two of the most common problems that the NASD has encountered regarding these supervisory programs is that members either change supervisors for or the work location of the disqualified person without obtaining NASD approval in advance of such change. Another problem observed is that some members apparently believe that, over time, special supervisory undertakings may be relaxed or ignored without NASD approval.

The Board wishes to reiterate that its policy with respect to changes in the supervisory program for disqualified persons is that any change in supervision, the method of supervision, or position or duties of the disqualified person at any time after the association is approved must receive prior approval of the NASD before such change is implemented. Failure to obtain NASD approval, in advance, may result in formal disciplinary action being taken against the member and the principals designated as those responsible for monitoring the supervisory program for the disqualified person.

The Board also reminds members that intend to make application to employ a statutorily disqualified person that, during the period of NASD and, in many cases, SEC consideration of such application, the disqualified person may not conduct any activities on behalf of the member. If the member allows any disqualified person or persons to conduct such activities, the NASD has the authority under Articles VI and VIII of the Code of Procedure to suspend or cancel the broker-dealer's membership in the NASD.

Questions regarding this notice may be directed to Craig L. Landauer, Senior Attorney, Office of General Counsel, at (202) 728-8291.

¹"Statutory disqualifications" are defined in Sections 3(a)(39) and 15(b)(4) of the Securities Exchange Act of 1934 and Article II, Sections 3 and 4 of the NASD By-Laws.