United States

SEC amendments change reporting, audit and notification requirements for broker-dealers


On July 31, 2013, the Securities and Exchange Commission (SEC) announced amendments to Rules 17a-5 and 17a-11 under the Securities and Exchange Act of 1934. The SEC originally proposed rule amendments in June 2011, and has since modified them after consideration of, among other things, comment letters received. For more information, you can read the SEC’s release regarding these amendments.

The following summarizes a few of the significant rule changes. Unless specifically noted below, these amendments are effective June 1, 2014.


Broker-dealers will be required to file either a compliance report or an exemption report with their audited financial statements, as well a new report issued by the auditor. Broker-dealers that did not claim exemption from Rule 15c3-3 throughout the most recent fiscal year must file a compliance report. Broker-dealers that claimed exemption from Rule 15c3-3 must file an exemption report. The current auditor’s report on internal control will be replaced by either an auditor’s examination report on the compliance report or an auditor’s review report on the exemption report.

The compliance report

The compliance report requires specific statements regarding, among other things, internal controls over compliance as defined in the amendments. The broker-dealer must assess whether its internal controls throughout the year provide reasonable assurance that non compliance with the financial responsibility rules will be prevented or detected on a timely basis. The financial responsibility rules are generally defined as Rules 15c3-1, 15c3-3 and 17a-13 under the Exchange Act, and applicable rules that require periodic account statements be sent to customers. The auditor is required to independently examine and assess related internal controls during the attestation engagement.

Generally, the broker-dealer’s compliance report will include five specific statements, and two descriptions, if applicable. Rule 17a-5 will require the compliance report to contain statements regarding internal control over compliance. The amended rule defines internal control over compliance as internal controls that have the objective of providing the broker-dealer with reasonable assurance that non compliance with the financial responsibility rules will be prevented or detected on a timely basis. The required reports must state whether:

  • The broker-dealer has established and maintained internal control over compliance
  • Internal control over compliance was effective during the most recent fiscal year
  • Internal control over compliance was effective as of the end of the most recent fiscal year
  • The broker-dealer was in compliance with Rule 15c3-1 and paragraph (e) of Rule 15c3-3 as of the end of the most recent fiscal year
  • The information the broker-dealer used to state whether it was in compliance with Rule 15c3-1 and paragraph (e) of Rule 15c3-3 was derived from the books and records of the broker-dealer.

If applicable, the compliance report must contain a description of:

  • Each identified material weakness in the internal control over compliance during the most recent fiscal year, including those that were identified as of the end of the fiscal year
  • Any instance of non-compliance with Rule 15c3-1 or paragraph (e) of Rule 15c3-3 as of the end of the most recent fiscal year.

The amended rule provides that a broker-dealer is not permitted to conclude that its internal control over compliance was effective if there were one or more material weaknesses in its internal control over compliance.

The exemption report

The exemption report must contain the following statements made to the best knowledge and belief of the broker-dealer:

  • A statement that identifies the provisions in paragraph (k) of Rule 15c3-3, under which the broker-dealer claimed an exemption from Rule 15c3-3
  • A statement that the broker-dealer met the identified exemption provisions in paragraph (k) of Rule 15c3-3 throughout the most recent fiscal year without exception, or that it met the identified exemption provisions in paragraph (k) of Rule 15c3-3 throughout the most recent fiscal year except
  • If applicable, a statement that identifies each exception during the most recent fiscal year in meeting the identified provisions in paragraph (k) of Rule 15c3-3, and that briefly describes the nature of each exception and the approximate date(s) on which the exception existed

Securities Investor Protection Corporation

Beginning with fiscal years ending on or after Dec. 31, 2013, broker-dealers must also file their annual reports with the Securities Investor Protection Corporation (SIPC). The inclusion of the annual reports is intended to assist SIPC in monitoring the financial strength of broker-dealers and assessing the adequacy of the SIPC fund.

Form Custody

Beginning with the period ending December 31, 2013, all broker-dealers are required to file a new Form Custody with its Financial and Operational Combined Uniform Single Reports (FOCUS Reports). Form Custody will include information about, among other things, customer and non customer assets and how such assets are maintained. Form Custody must be filed with the broker-dealer’s designated examining authority DEA within 17 business days after the end of each calendar quarter, and the year-end filings must be filed within 17 business days of the end of the broker-dealer’s fiscal year. Consideration was made to exempt certain broker-dealers from filing the Form Custody (for example, broker-dealers that file the annual exemption report). However, due to concerns about circumstances where a broker-dealer may falsely represent that it does not handle funds or securities or issue trade confirmations or account statements, the SEC will require all broker-dealers to file Form Custody. The independent public accountant is not required to provide any level of assurance on Form Custody.

There are nine items on the Form Custody to elicit information about a broker-dealer’s custodial activities:

  • Accounts introduced on a fully disclosed basis
  • Accounts introduced on an omnibus basis
  • Carrying broker-dealers
  • Carrying for other broker-dealers
  • Trade confirmations
  • Account statements
  • Electronic access to account information
  • Broker-dealers registered as investment advisers
  • Broker-dealers affiliated with investment advisers

RSM's take

To perform and document this assessment, broker-dealers filing the compliance report will need to, among other steps:

  • Ensure documentation of related policies, procedures and internal controls
  • Identify and test key controls
  • Assess any control deficiencies identified

Replacing the report on internal control with the examination or review report clarifies and aligns the broker-dealer’s reporting responsibilities with those of its independent public accountant. Of note, for broker-dealers that file the exemption report, the independent public accountant will no longer be required to consider the broker-dealer’s practices and procedures for the computation of net capital pursuant to Rule 15c3-1.

Certain broker-dealers, such as those that solely engage in proprietary trading activities or investment banking transactions, do not meet any of the specific exemption provisions of Rule 15c3-3. Many of these firms that are members of the Financial Industry Regulatory Authority (FINRA) apply an interpretation to claim exemption under 15c3-3(k)(2)(i) without establishing and maintaining a “Special Account,” as they effect no financial transactions with customers as defined in Rule 15c3-3(a)(1). The announcement provides that broker-dealers that have not held customer securities or funds during the fiscal year, and do not fit into one of exemption provisions, should file an exemption report and related accountant’s review report. However, it is not clear how such broker-dealers will complete the exemption report under this scenario.

Broker-dealers should request confidential treatment when submitting a copy of the annual report to SIPC.

Broker-dealers that handle customer funds and securities need to implement procedures and controls for the periodic assembly of information to be included in the new Form Custody. Form Custody is a lengthily document requiring certain details not previously requested. For some, this will require significant effort and modifications to existing reporting systems to ensure compliance and accuracy.


The amendments change certain requirements concerning a broker-dealer’s engagement of an independent public accountant.

Audits of the financial statements of broker-dealers and the attestation engagements over the compliance and exemption reports will be required to be performed in accordance with standards of the Public Company Accounting Oversight Board (PCAOB).

Broker-dealers that clear transactions or carry customer accounts must agree to allow their auditor to discuss findings with and allow review of their audit documentation with staff of the SEC or the broker-dealer’s DEA in connection with a regular examination. The SEC has limited this requirement to clearing broker-dealers, which generally have more complex business operations than non carrying firms.

The amendments do not change the independence requirements. However, the SEC’s announcement contains a reminder that broker-dealers and their independent public accountants must comply with the independence requirements of Rule 2-01 of Regulation S-X.383. As a result of the Sarbanes-Oxley Act of 2002, Rule 2-01 of Regulation S-X was strengthened, including increased restrictions on the provision of certain non-audit services to an audit client. Under the SEC’s rules, an accountant will not be recognized as independent of an audit client if the accountant is not, or a reasonable investor with knowledge of all relevant facts and circumstances would conclude that the accountant is not, capable of exercising objective and impartial judgment on all issues encompassed within the accountant’s engagement. In determining whether an accountant is independent, the SEC will consider all relevant circumstances, including all relationships between the accountant and the audit client, and not just those relating to reports filed with the SEC.

The standard is predicated largely on whether a relationship or the provision of a service:

  • Creates a mutual or conflicting interest between the accountant and the audit client
  • The accountant in the position of auditing his or her own work
  • Results in the accountant acting as management or an employee of the audit client
  • Places the accountant in a position of being an advocate for the audit client.

Further, Rule 2-01 of Regulation S-X sets forth a non exclusive specification of circumstances that are inconsistent with the general standard. For example, the accountant is prohibited from providing the following non-audit services, among others, to an audit client:

  • Bookkeeping or other services related to the accounting records or financial statements of the audit client
  • Financial information systems design and implementation
  • Management functions or human resources

With respect to bookkeeping or other services related to the accounting records or financial statements of the audit client, Rule 2-01(c)(4)(i) of Regulation S-X specifies that these services include:

  • Maintaining or preparing the audit client's accounting records
  • Preparing financial statements that are filed with the SEC, or the information that forms the basis of financial statements filed with the SEC
  • Preparing or originating source data underlying the audit client's financial statements

Not all of the independence requirements in Rule 2-01 of Regulation S-X that are applicable to audits of issuers are applicable to engagements under Rule 17a-5. Specifically, auditors of broker-dealers are not subject to the partner rotation requirements or the compensation requirements of the SEC’s independence rules because the statute mandating those requirements is limited to issuers. Additionally, auditors of broker-dealers are not subject to the audit committee pre approval or cooling-off period requirements for employment because those requirements only reference issuers.

RSM’s take

With the above amendments finalized, we currently expect the PCAOB to issue final standards for broker-dealer audit and attestation engagements by the end of 2013, with effective dates in sync with the above rule amendments. These may include application of PCAOB independence standards, including the prohibition from providing any tax services to a person in a financial reporting oversight role of the broker-dealer. The PCAOB will also likely finalize a permanent inspection program for auditors of broker-dealers. It is not currently anticipated that any type of broker-dealer audit will be exempt from the PCAOB’s permanent program.


Prior to the amendments, Rule 17a-5 defined and broker-dealers were required to provide timely notification of any material inadequacies. The amendments replace this definition

ith the newly defined term “material weakness,” which is aligned more closely with the definitions in internal control assessment frameworks and auditing standards. The amendments define a material weakness as a deficiency, or a combination of deficiencies, in internal control over compliance such that there is a reasonable possibility that non-compliance with Rule 15c3-1 or Rule 15c3-3 will not be prevented or detected on a timely basis.

The responsibility of reporting any material weakness or instances of non compliance remains with the broker-dealer. The amendments require that, if the independent public accountant determines that the broker-dealer is not in compliance with any of the financial responsibility rules during the course of the engagement, the independent public accountant must immediately notify the broker-dealer’s chief financial officer of the nature of the non-compliance. Broker-dealers must notify the SEC and their designated examining authority of any material weaknesses or instances of non compliance within 24 hours and transmit a report within 48 hours of the notice stating what the broker-dealer has done or is doing to correct the situation.

Paragraph (h) of Rule 17a-5 requires the broker-dealer to provide the accountant with a copy of the notice it sends to the SEC within one business day. If the accountant does not receive the notice or does not agree with the statements in the notice, the accountant must provide a report to the SEC and the broker-dealer’s DEA within one business day. The report from the accountant must, if the broker-dealer failed to file a notification, describe any material weakness. If the broker-dealer filed a notification and the accountant does not agree with the statements in the notification, the report from the accountant must detail the the statements with which the accountant disagrees.

RSM’s take

Replacing the definition of material inadequacies with the newly defined term material weaknesses is an improvement that will likely clarify the occurrence of such instances. Nonetheless, classification as such, in many instances, will continue to require judgment by the broker-dealer and the independent public accountant. The notification requirements otherwise remain substantially the same.

Next steps

Management of broker-dealers should discuss the impact of the amendments with their compliance professionals and independent public accountants to properly plan their implementation. These changes impact every broker-dealer and every audit and attest engagement performed by the independent public accountant, so it is important to plan accordingly to ensure compliance.


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Paul Nockels
Brokerage and Trading Practice Leader