Changes to Registration of Municipal Securities Professionals and Reminder of Supervisory Obligations of Principals

New Category of Registered Person – Municipal Securities Sales Limited Representative

MSRB Rule G-3 requires associated persons of brokers, dealers and municipal securities dealers (“dealers”) who perform certain functions, other than those whose functions are solely clerical or ministerial, to qualify to perform such activity by, among other requirements, taking a qualification examination.  In MSRB Notice 2011-54 (September 13, 2011), the MSRB announced the creation of a new designation of registered person, a Municipal Securities Sales Limited Representative, which is a sub-category of Municipal Securities Representative applicable to individuals whose activities with respect to municipal securities are limited exclusively to sales to and purchases from customers of municipal securities.  The creation of the Municipal Securities Sales Limited Representative designation resulted, in part, from changes in the structure of the Series 7 examination to focus on a broader range of securities products that are now available to registered representatives.  The effect of these changes is a de-emphasis on non-sales aspects of the activities of securities professionals.  The newly structured Series 7 examination has also reduced the number of questions that test for specific knowledge of municipal securities and the rules of the MSRB.

On or after November 7, 2011 individuals may seek qualification as a Municipal Securities Sales Limited Representative by taking and passing the General Securities Representative Examination (Series 7).[1]  Individuals performing any other municipal securities representative activities must qualify as a Municipal Securities Representative by, among other requirements, taking and passing the Municipal Securities Representative Qualification Examination (Series 52), provided that individuals who perform municipal securities functions other than sales and are duly qualified as a Municipal Securities Representative by virtue of having taken and passed the Series 7 examination prior to November 7, 2011, will continue to qualify as a Municipal Securities Representative, unless they are otherwise disqualified under MSRB rules.  If an individual who was duly qualified as a Municipal Securities Representative by virtue of having taken and passed the Series 7 examination prior to November 7, 2011 allows such registration to lapse, such individual may not qualify as a Municipal Securities Representative unless such individual takes and passes the Municipal Securities Representative Qualification Examination (Series 52) thereafter.

Qualification examinations are an important first step in developing expertise in the municipal securities market but only demonstrate the attainment of the initial base of knowledge that licensed personnel should have in beginning to undertake their professional activities.  Dealers must ensure that registered persons engaging in municipal securities activities have the requisite knowledge and skill to engage in such activities and receive continuing training and education as further described herein.  While the MSRB views the Series 7 examination as an acceptable qualification exam for professionals whose activities are limited to purchases and sales to customers of a range of securities products, including municipal securities, dealers should consider whether passage of the Series 52 examination might be more appropriate for persons engaged predominantly or exclusively in municipal securities activities (including municipal securities sales activities), or who engage in sales of more complex municipal securities, given the Series 52 examination’s more comprehensive coverage of municipal securities as compared to the Series 7 examination.

As a result of the amendments to Rule G-3, there will now be three designations of municipal registered representative (Municipal Securities Representative, Municipal Securities Sales Limited Representative, and, for representatives whose activities are limited solely to municipal fund securities, Municipal Securities Representatives qualified by virtue of being a Limited Representative – Investment Company and Variable Contracts Products).  There will continue to be five categories of principal designations in MSRB rules (Municipal Securities Principal, Municipal Securities Sales Principal, Municipal Fund Securities Limited Principal, General Securities Principal, and Financial and Operations Principal).  It is critical that dealers understand the differences among these designations and categories and supervise all associated persons appropriately.

Supervisory Obligations of Registered Principals

In previous guidance on the implementation of new supervisory requirements under Rule G-27, the MSRB noted that each dealer must establish and maintain a supervisory system, including written supervisory procedures, to supervise the municipal securities activities of each registered representative, registered principal and associated person that is reasonably designed to achieve compliance with applicable MSRB rules, as well as other securities laws and regulations applicable to the dealer’s municipal securities activities.[2]  The written supervisory procedures must, pursuant to Rule G-27(c)(i)(A), establish procedures for monitoring compliance with all applicable rules and for supervising the municipal securities activities of associated persons.

The Supervisory Notice also noted that, pursuant to Rule G-27(b)(ii), dealers must designate, and maintain a written record of, the appropriate principals to be responsible for the supervision of the municipal securities activities of the dealer and its associated persons.  Rule G-27(b)(ii)(C) establishes the permitted supervisory activities of each category of registered principal.  While dealers must designate a Municipal Securities Principal (Series 53) as responsible for their overall municipal securities activities, including their supervisory system, written supervisory procedures, internal inspections, correspondence review, and supervisory controls, certain other categories of principal may perform a limited number of specific supervisory duties as otherwise required or permitted by Rule G-27 to be undertaken by a different category of registered principal.  For example, a Municipal Fund Securities Limited Principal (Series 51) may, in lieu of a Municipal Securities Principal, be responsible for a dealer’s supervisory functions as they relate to municipal fund securities, such as 529 College Savings Plans, but not as they relate to any other types of municipal securities.

The MSRB has been alerted to potential confusion in the industry regarding the permitted activities of different categories of principal.  An important distinction should be drawn between the permitted supervisory activities of a Municipal Securities Sales Principal (Series 9 and 10) and a General Securities Principal (Series 24).  A Municipal Securities Sales Principal may supervise activities pertaining to sales to and purchases from customers of municipal securities, as delineated in Rule G-27(c)(i)(B), (C) and (G) and subsection (e)(i), but not with respect to other municipal securities activities.  These permissible activities include supervision of the handling of customer complaints, periodic review of customer accounts to detect and prevent irregularities and abuses, review and approval of the opening of customer accounts, daily review and approval of customer transactions, and review of written and electronic correspondence.

By contrast, a General Securities Principal (Series 24) may, in regard to the dealer’s municipal securities activities, only supervise a dealer’s books and records (G-27(c)(i)(E)), review and approve the opening of customer accounts (G-27(c)(i)(G)(1)), oversee the gathering of information on associated persons (G-7(b)), and approve advertising (G-21(f)).  A General Securities Principal may not take responsibility for supervising and reviewing customer transactions, handling of customer complaints, or correspondence.  Hence, a General Securities Principal is not qualified to supervise many of the daily municipal securities activities that take place in retail branch offices.  Those daily municipal securities activities may only be conducted by a Municipal Securities Principal, a Municipal Securities Sales Principal, or, in the case of municipal fund securities, a Municipal Fund Securities Limited Principal.  Further, a General Securities Principal may not supervise the processing of municipal securities transactions, including transaction reporting to the MSRB.  Such activity may only be supervised by a Municipal Securities Principal or a Financial and Operations Principal.  In order to assist dealers in understanding the supervisory activities permitted by each principal designation, the MSRB has attached a chart to this Notice that references the pertinent MSRB rules.

Supervision of the Activities of Municipal Securities Sales Limited Representatives

The activities of Municipal Securities Sales Limited Representatives are limited exclusively to sales to and purchases from customers of municipal securities.  They may not perform other functions related to activities such as underwriting, trading, research or investment advice.  Their transaction activities may be supervised by a Municipal Securities Principal, Municipal Securities Sales Principal, or, as long as the supervision pertains only to transactions in municipal fund securities, a Municipal Fund Securities Limited Principal.  A General Securities Principal may not take responsibility for conducting supervisory activities such as the daily review and approval of Municipal Securities Sales Limited Representatives’ customer transactions.

Continuing Education and Training

Rule G-3 on professional qualifications establishes requirements for the implementation of continuing education programs by dealers.[3]  The continuing education requirements consist of two components – a Regulatory Element and a Firm Element.  Under Rule G-3, all registered persons must complete a prescribed computer-based training session on the occurrence of their second registration anniversary date and every three years thereafter or as otherwise prescribed by the MSRB, in order to satisfy the Regulatory Element of continuing education.

In order to satisfy the Firm Element of continuing education training under Rule G-3 (the “Firm Element”), all registered persons who have direct contact with customers in the conduct of the dealer’s sales, trading and investment banking activities, and their immediate supervisors (“covered persons”), must participate in training developed by the dealer based on a training needs analysis and written training plan developed annually by the dealer.  The Firm Element is a critical part of the training and development of covered persons, and the MSRB encourages dealers to include all registered persons and other appropriate associated persons in such training.

Rule G-3 requires that dealers utilize the Firm Element to enhance the securities knowledge, skill and professionalism of covered persons.  In doing so, dealers should consider the experience of covered persons in developing their written training plans and tailor the plans based on the knowledge and skill level of their covered persons, as well as the nature of their municipal securities activities.  Dealers may consider offering different instruction to covered persons who only recently qualified as registered representatives and have less experience and skill in sales, trading or investment banking activities.

As noted above, the MSRB views qualification examinations as only the first step in developing expertise in the municipal securities market and expects dealers to evaluate the knowledge and skill of covered persons annually, as part of the training needs analysis, in order to ensure that the written training plan is tailored to the dealer’s covered persons and activities.  The written training plan should be based on the results of the training needs analysis and should take into consideration the nature of the municipal securities activities conducted by the dealer.  The MSRB would expect that as a dealer’s business becomes more focused on municipal securities, the written training plan would call for greater training regarding municipal securities and related regulatory developments.  Similarly, as a dealer’s municipal securities activities becomes more complex, the MSRB would expect that the written training plan would call for greater emphasis on those areas of complexity.

In accordance with the requirements of Rule G-27(b)(ii)(C)(1), dealers must designate a Municipal Securities Principal as responsible for supervising the various municipal securities activities of the dealer, including the Firm Element of the continuing education program as it applies to the dealer’s municipal securities activities.  To the extent a dealer engages in securities activities, other than municipal securities activities, which are covered by the continuing education rules of a registered securities association, it is the expectation of the MSRB that a Municipal Securities Principal would coordinate with any other personnel assigned to oversee the firm’s overall continuing education program and would review the written training plan in order to confirm that the plan provides adequate coverage of municipal securities in light of the dealer’s activities in that market.

Annual Compliance Meeting

Under Rule G-27(b)(vii), a dealer’s supervisory system must also provide for the participation of each registered representative and registered principal in an annual compliance meeting at which compliance matters relevant to the municipal securities activities of the representatives and principals are discussed.  The rule provides flexibility as to the location of the meeting and manner in which it is conducted.  The annual compliance meeting provides an important opportunity for dealers to highlight best practices and educate registered persons about recent regulatory developments and compliance issues.  In order to ensure that compliance matters are covered appropriately, dealers should review, prior to the meeting(s), the following: (1) new MSRB notices, rules, and market information transparency programs, and other new rules related to the municipal securities activities of dealers; (2) any disciplinary actions taken against the dealer or any of its registered persons relating to its municipal securities activities; (3) any customer complaints related to the dealer’s municipal securities activities; and (4) the nature of the dealer’s municipal securities  activities and any recent changes thereto.

To view the Principals’ Supervisory Responsibilities Chart, click here.

Questions about this Notice should be directed to Lawrence P. Sandor, Senior Associate General Counsel, or Loretta Jones, Director, Professional Qualifications, at (703) 797-6600.

November 7, 2011