# Proposed Rule Amendments and Guidance Addressing Cross-Border Application of Certain Security-Based Swap Requirements

> Briefs, arguments, decisions, and more.

URL: https://www.frixlaw.com/law-library/documents/fr%3A2019-10016

## Record

- **Collection:** Federal Register
- **Document type:** Proposed Rule
- **Published:** May 24, 2019
- **Citation:** 84 FR 24206

## Text

SECURITIES AND EXCHANGE COMMISSION
17 CFR Parts 201 and 240
[Release No. 34-85823; File No. S7-07-19]
RIN 3235-AM13
Proposed Rule Amendments and Guidance Addressing Cross-Border Application of Certain Security-Based Swap Requirements

AGENCY:

Securities and Exchange Commission.

ACTION:

Proposed rules; proposed interpretations.

SUMMARY:

The Securities and Exchange Commission (“SEC” or “Commission”) is proposing a number of actions to address the cross-border application of certain security-based swap requirements under the Securities Exchange Act of 1934 (“Exchange Act”) that were added by Title VII of the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”).

DATES:

Submit comments on or before July 23, 2019.

ADDRESSES:

Comments may be submitted by any of the following methods:

Electronic Comments

• Use the Commission's internet comment form (
http://www.sec.gov/rules/proposed.shtml
); or

• Send an email to
rule-comments@sec.gov.
Please include File Number S7-07-19 on the subject line.

Paper Comments

• Send paper comments to [ ], Secretary, Securities and Exchange Commission, 100 F Street NE, Washington, DC 20549-1090.

All submissions should refer to File Number S7-07-19. This file number should be included on the subject line if email is used. To help the Commission process and review your comments more efficiently, please use only one method. The Commission will post all comments on the Commission's internet website (
http://www.sec.gov/rules/proposed.shtml
). Comments are also available for website viewing and printing in the Commission's Public Reference Room, 100 F Street NE, Washington, DC 20549, on official business days between the hours of 10:00 a.m. and 3:00 p.m. All comments received will be posted without change. Persons submitting comments are cautioned that the Commission does not redact or edit personal identifying information from comment submissions. You should submit only information that you wish to make publicly available.

Studies, memoranda, or other substantive items may be added by the Commission or staff to the comment file during this rulemaking. A notification of the inclusion in the comment file of any such materials will be made available on the Commission's website. To ensure direct electronic receipt of such notifications, sign up through the “Stay Connected” option at
www.sec.gov
to receive notifications by email.

FOR FURTHER INFORMATION CONTACT:

Carol M. McGee, Assistant Director, at 202-551-5870, regarding the proposed interpretive guidance related to security-based swap transactions that have been “arranged” or “negotiated” by personnel located in the United States and the proposed amendment to Exchange Act Rule 3a71-3; Devin Ryan, Senior Special Counsel and Edward Schellhorn, Special Counsel regarding the proposed amendment to Commission Rule of Practice 194; Joanne Rutkowski, Assistant Chief Counsel and Bonnie Gauch, Senior Special Counsel, regarding the proposed amendments to Exchange Act Rule 15Fb2-1 and proposed interpretive guidance related to Exchange Act Rule 15Fb2-4; and Joseph Levinson, Senior Special Counsel, regarding the proposed modifications to proposed Exchange Act Rule 18a-5; at 202-551-5777, Division of Trading and Markets, Securities and Exchange Commission, 100 F Street NE, Washington, DC 20549-7010.

SUPPLEMENTARY INFORMATION:

The Commission is proposing for public comment guidance regarding the application of certain uses of the terms “arranged” and “negotiated” in connection with the cross-border application of security-based swap regulation under the Exchange Act, guidance regarding the certification and opinion of counsel requirements in Exchange Act Rule 15Fb2-4 and Rule 3a71-6, amendments to Exchange Act Rules 0-13, 3a71-3, 15Fb2-1, and Commission Rule of Practice 194, and modifications to proposed Rule 18a-5.

First, the Commission is proposing supplemental guidance to address how certain requirements under Title VII—related to security-based swap transactions that have been “arranged” or “negotiated” by personnel located in the United States—apply to transactions involving limited activities by those U.S. personnel. Separately, the Commission is requesting comment on two alternative proposals to amend Rule 3a71-3 under the Exchange Act to modify a provision addressing the cross-border application of the “security-based swap dealer”
de minimis
exception. Both of the alternative proposals for the amendment would add an exception to the rule's existing requirement that, for purposes of determining whether an entity must register as a security-based swap dealer, non-U.S. persons must count, as part of their
de minimis
calculations, security-based swap dealing transactions that have been “arranged, negotiated, or executed” by personnel located in a U.S. branch or office. The Commission also is proposing corresponding technical revisions to Exchange Act Rule 0-13 in conjunction with the proposed amendment. The Commission further is requesting comment on whether to provide other conditional exceptions for certain other requirements that apply to such “arranged, negotiated, or executed” transactions, including regulatory reporting and public dissemination requirements and security-based swap dealer business conduct requirements. Separately, the Commission is proposing to provide guidance regarding the certification and opinion of counsel requirements in Exchange Act Rule 15Fb2-4. The Commission is proposing to amend Exchange Act Rule 15Fb2-1 to provide additional time for a security-based swap dealer or major security-based swap participant (collectively defined as “SBS Entity”) to submit the certification and opinion of counsel required under Rule 15Fb2-4(c)(1). In addition, the Commission is proposing to amend Rule of Practice 194 to exclude an SBS Entity, subject to certain limitations, from the prohibition in Exchange Act Section 15F(b)(6) with respect to an associated person who is a natural person who (i) is not a U.S. person and (ii) does not effect and is not involved in effecting security-based swap transactions with or for counterparties that are U.S. persons, other than a security-based swap transaction conducted through a foreign branch of a counterparty that is a U.S. person. Finally, the Commission is proposing certain 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.

I. Background

The Commission has proposed and finalized a number of rules to implement requirements under Title VII

of the Dodd-Frank Act
1

providing for the regulation of security-based swap activity. Several of those rules include provisions to address unique concerns raised by cross-border activity in security-based swaps, including:

1
Public Law 111-203, 124 Stat. 1376 (2010). Unless otherwise indicated, references to Title VII in this release are to Subtitle B of Title VII.

• Exchange Act Rule 3a71-3, which, among other things, requires (1) non-U.S. persons to include security-based swap dealing transactions that have been “arranged, negotiated, or executed” using U.S. personnel
2

in their calculations under the
de minimis
exception to the “security-based swap dealer” definition,
3

and (2) registered security-based swap dealers to comply with business conduct requirements in connection with certain transactions that have been arranged, negotiated or executed by U.S. personnel.

2
For purposes of this release, the term “U.S. personnel” means personnel located in a branch or office in the United States of an entity that is engaged in security-based swap activity, or by personnel of an agent of that entity.

3
The term “security-based swap dealer” is defined in Exchange Act Section 3(a)(71), and further defined by Exchange Act Rules 3a71-1 through 3a71-5. Section 3(a)(71)(D) provides that the Commission shall promulgate regulations to establish factors with respect to the making of any determination to exempt a security-based swap dealer that engages in a
de minimis
quantity of security-based swap dealing.

• Regulation SBSR Rules 908(a)(1)(v) and 908(b)(5), which require regulatory reporting and public dissemination of security-based swap transactions “arranged, negotiated, or executed” using personnel located within the United States.

• Exchange Act Rule 15Fb2-4, which requires, among other things, that each nonresident security-based swap dealer and nonresident major security-based swap participant (each as defined in Exchange Act Rule 15Fb2-4, collectively “nonresident SBS Entity”) registering with the Commission provide a certification and opinion of counsel regarding its willingness and ability to provide the Commission with prompt access to its books and records and submit to onsite inspection and examination by the Commission, on Schedule F to Forms SBSE, SBSE-A and SBSE-BD, as appropriate, which applicants use to provide the certification.

• Exchange Act Rule 15Fb6-2, and proposed Rule 18a-5, which together would require each registered SBS Entity, whether a U.S. or non-U.S. person, (1) to certify that it neither knows, nor in the exercise of reasonable care should have known, that any person associated with it who effects or is involved in effecting security-based swaps on its behalf is subject to a statutory disqualification and (2) to make and retain a background questionnaire to support this certification.

As discussed in more detail below, market participants and other commenters have raised concerns regarding possible disruptive effects of the above requirements, suggesting that the requirements would create significant operational burdens and impose unwarranted costs. Such costs and operational burdens may be exacerbated by differences between the Commission's rules in these areas and corresponding rules of the Commodity Futures Trading Commission (“CFTC”) in connection with the regulation of the swaps market. For these reasons, the Commission has determined that it is appropriate to reconsider its approach to these issues and consider whether those rules could be tailored in a manner that would continue to advance the objectives of Title VII while reducing associated costs and burdens and, where appropriate, minimizing differences from the approach taken by the CFTC.

In developing these proposals, the Commission has consulted and coordinated with staff of the CFTC and the prudential regulators,
4

in accordance with the consultation mandate of the Dodd-Frank Act.
5

The Commission also has consulted and coordinated with foreign regulatory authorities through Commission staff participation in numerous bilateral and multilateral discussions with foreign regulatory authorities addressing the regulation of OTC (over-the-counter) derivatives.
6

Through these multilateral and bilateral discussions and the Commission staff's participation in various international task forces and working groups, the Commission has gathered information about foreign regulatory reform efforts and their effect on and relationship with the U.S. regulatory regime. The Commission has taken and will continue to take these discussions into consideration in developing rules, forms, and interpretations for implementing Title VII of the Dodd-Frank Act.

4
The term “prudential regulator” is defined in Section 1a(39) of the Commodity Exchange Act (“CEA”), 7 U.S.C. 1a(39), and that definition is incorporated by reference in Section 3(a)(74) of the Exchange Act, 15 U.S.C. 78c(a)(74). Pursuant to the definition, the Board of Governors of the Federal Reserve System (“Federal Reserve Board”), the Office of the Comptroller of the Currency, the Federal Deposit Insurance Corporation, the Farm Credit Administration, or the Federal Housing Finance Agency (collectively, the “prudential regulators”) is the “prudential regulator” of a security-based swap dealer or major security-based swap participant if the entity is directly supervised by that regulator.

5
Section 712(a)(2) of the Dodd-Frank Act provides in part that the Commission shall “consult and coordinate to the extent possible with the Commodity Futures Trading Commission and the prudential regulators for the purposes of assuring regulatory consistency and comparability, to the extent possible.”

In addition, Section 752(a) of the Dodd-Frank Act provides in part that “[i]n order to promote effective and consistent global regulation of swaps and security-based swaps, the Commodity Futures Trading Commission, the Securities and Exchange Commission, and the prudential regulators . . . as appropriate, shall consult and coordinate with foreign regulatory authorities on the establishment of consistent international standards with respect to the regulation (including fees) of swaps.”

6
Staff participates in a number of international standard-setting bodies and workstreams working on OTC derivatives reforms. For example, Commission staff participates in the Financial Stability Board's Working Group on OTC Derivatives Regulation. Commission staff also participates in the International Organization of Securities Commissions (“IOSCO”)'s Committee on Derivatives, the joint Basel Committee on Banking Supervision (“BCBS”) and IOSCO Working Group on Margin Requirements' Monitoring Group and participates in international working groups that impact OTC derivatives financial market infrastructures, such as CPMI-IOSCO joint working groups assessing legal and regulatory frameworks for central counterparties and trade repositories and examining central counterparty resilience and recovery.

A. Application of Title VII to Transactions “Arranged, Negotiated, or Executed” Using Personnel Located Within the United States

1. Proposed Guidance, Exception, and Solicitation of Comment

The Commission is taking a number of steps to address continuing concerns that have been raised regarding the various uses of an “arranged, negotiated, or executed” test in the cross-border application of Title VII.

First, the Commission is proposing supplemental guidance regarding the types of activities by U.S. personnel that would—and would not—constitute “arranging” or “negotiating” security-based swap transactions for purposes of tests that are used to implement a number of Title VII requirements in the cross-border context.
7

Separately, the Commission is proposing two alternatives for a conditional exception from the “arranged, negotiated, or execute” test that forms part of the
de minimis
counting provisions of Exchange Act Rule 3a71-3. Both alternatives would provide an exception from the requirement that non-U.S.

persons count, against the thresholds associated with the
de minimis
exception, their security-based swap dealing transactions with non-U.S. counterparties that were arranged, negotiated, or executed by U.S. personnel.
8

Finally, the Commission is soliciting comment as to whether to provide additional conditional exceptions from certain other requirements under Title VII that otherwise would apply to transactions “arranged, negotiated, or executed” by U.S. personnel.
9

7
The proposed guidance would address the application of “arranged” and “negotiated” criteria as used in connection with: Two provisions addressing the cross-border application of the
de minimis
exception to the “security-based swap dealer” definition, security-based swap dealer business conduct requirements, the regulatory reporting and public dissemination requirements of Regulation SBSR, and certain major security-based swap participant requirements.
See
part II,
infra.

8

See
Exchange Act Rule 3a71-3(b)(1)(iii)(C).

9
Those requests particularly address the use of “arranged, negotiated, or executed” or equivalent criteria in connection with: The application of the
de minimis
counting standard of Exchange Act Rule 3a71-3(b)(1)(iii)(A) to certain dealing transactions involving counterparties that are foreign branches of registered security-based swap dealers, regulatory reporting and public dissemination requirements in Rules 908(a)(1)(v) and 908(b)(5) of Regulation SBSR, security-based swap dealer business conduct standards that are not exempted by Exchange Act Rule 3a71-3(c), and major security-based swap requirements in Exchange Act Rule 3a67-10.

These actions—the proposed guidance, the proposed alternatives for a conditional exception from the “arranged, negotiated, or executed”
de minimis
counting provision, and the solicitation of comment regarding other possible exceptions from “arranged, negotiated, or executed” test used to implement Title VII—are intended to help appropriately tailor the application of Title VII to the U.S. market concerns raised by the transactions that do not involve U.S. counterparties but that nonetheless result from activity within the United States.

In proposing this guidance and exception, the Commission is mindful that the various uses of “arranged, negotiated, or executed” criteria are intended to serve important interests related to avoiding competitive disparities and market fragmentation, and to public transparency.
10

The use of the “arranged, negotiated, or executed” test in the context of the security-based swap dealer
de minimis
counting provision particularly plays an important role in helping to prevent entities from using booking practices to avoid registering as security-based swap dealers, despite being engaged in security-based swap dealing activity in the United States.
11

The Commission's proposals to mitigate the negative consequences potentially associated with the various uses of this type of test accordingly are designed to promote the important Title VII interests that the Commission advanced when it incorporated the test into the various cross-border rules.

10

See
notes 19 and 20,
infra.

11

See
note 18,
infra.

2. Current Uses of “Arranged, Negotiated, or Executed” Criteria

Exchange Act Rule 3a71-3 provides in part that, when determining whether non-U.S. persons will be deemed to be security-based swap dealers—and hence subject to the Title VII requirements applicable to security-based swap dealers—non-U.S. persons must count, against the applicable
de minimis
threshold, their security-based swap dealing transactions with non-U.S. counterparties that were “arranged, negotiated, or executed” by personnel within the United States.
12

The rule separately requires that non-U.S. persons count dealing transactions with U.S. counterparties, and dealing transactions in which their performance under the security-based swap is guaranteed by a U.S. affiliate.
13

12

See
Exchange Act Rule 3a71-3(b)(1)(iii)(C). Rule 3a71-3(b) specifically addresses which cross-border security-based swap transactions must be counted against thresholds associated with the
de minimis
exception to the security-based swap dealer definition. Persons whose dealing activities exceed the
de minimis
thresholds will be required to register as security-based swap dealers once a compliance date is set.
See
Exchange Act Section 3(a)(71)(D); Exchange Act Rule 3a71-2.

The requirement that non-U.S. persons count transactions that have been arranged, negotiated or executed in the United States does not apply to non-U.S. persons that are international organizations such as the International Monetary Fund, the International Bank for Reconstruction and Development and the United Nations.
See
Exchange Act Rule 3a71-3(a)(4)(iii) and Rule 3a71-3(b)(1)(iii)(C).

13
Overall, Rule 3a71-3 provides that non-U.S. persons (other than conduit affiliates as defined in paragraph (a)(1) of the rule) must count against the
de minimis
thresholds the following types of security-based swap dealing transactions: (i) Transactions entered into with U.S. persons (other than certain transactions involving foreign branches of the U.S. person); (ii) guaranteed transactions in which the counterparty has rights of recourse against a U.S. person affiliated with the non-U.S. person; and (iii) transactions that are arranged, negotiated or executed by personnel of the non-U.S. person located in a U.S. branch or office, or by personnel of an agent of the non-U.S. person located in a U.S. branch or office.
See
Exchange Act Rule 3a71-3(b)(1)(iii).

A non-U.S. person's transactions with foreign branches of registered security-based swap dealers need not be counted so long as the transaction was not arranged, negotiated or executed by U.S. personnel on behalf of the foreign branch.
See
Exchange Act Rules 3a71-3(b)(1)(iii)(A) (counting standard) and 3a71-3(a)(3) (definition of “transaction conducted through a foreign branch”);
see also
note 81,
infra.

The
de minimis
counting rule further provides that a person engaged in transactions that are required to be counted also must count certain transactions of its affiliates, other than affiliates that are registered as security-based swap dealers (and certain others).
See
Exchange Act Rules 3a71-3(b)(2), 3a71-4.

In addition, Rule 3a71-5, which provides an exception from the
de minimis
counting requirement for certain cleared anonymous transactions, is not available to transactions arranged, negotiated or executed by U.S. personnel. As discussed below, the proposed Rule 3a71-5 exception would not be relevant to the transactions subject to that proposed exception.
See
note 100,
infra.
The proposed guidance regarding what activity would trigger the “arranged, negotiated, or executed” test would be relevant to the application of the Rule 3a71-5 exception, however.
See
note 90,
infra.

Subsequent to incorporating the “arranged, negotiated, or executed” test into the
de minimis
counting standard, the Commission also incorporated the test into other rules addressing the cross-border application of Title VII. Regulation SBSR in part subjects transactions “arranged, negotiated, or executed” in the United States to regulatory reporting and public dissemination requirements.
14

Registered security-based swap dealers also are subject to certain business conduct standards with respect to transactions arranged, negotiated or executed by personnel within the United States.
15

14
In particular, Regulation SBSR Rule 908(a)(1)(v) requires regulatory reporting and public dissemination of transactions, connected with a non-U.S. person's security-based swap dealing activity, that are arranged, negotiated or executed by the U.S. personnel of the non-U.S. person, or by U.S. personnel of the non-U.S. person's agent. Rule 908(b)(5) further specifies that non-U.S. persons may be subject to regulatory reporting and public dissemination requirements in conjunction with security-based swap transactions arranged, negotiated or executed by U.S. personnel.
See also
note 80,
infra.

15
Exchange Act Rule 3a71-3(c) provides that security-based swap dealers are not subject to certain business conduct standards with regard to their “foreign business,” a term that incorporates additional definitions of “U.S. business” and “transaction conducted through a foreign branch” (
see
Exchange Act Rules 3a71-3(a)(3), (8) and (9)). The rule in effect applies business conduct requirements to certain security-based swap transactions of foreign security-based swap dealers, and certain transactions conducted through foreign branches of U.S. security-based swap dealers, only when the transactions were arranged, negotiated or executed by U.S. personnel.
See also
note 79,
infra.

Equivalent criteria also have been incorporated into rules regarding the cross-border application of Title VII requirements applicable to major security-based swap participants.
See
note 82,
infra.

The use of “arranged, negotiated, or executed” criteria as part of the
de minimis
counting test reflects the Commission's view that a non-U.S. person that, as part of its dealing, “engages in market-facing activity using personnel located in the United States” would perform activities that fall within the security-based swap dealer definition “at least in part in the United States.”
16

When adopting that test and

addressing alternative views suggested by commenters, the Commission stated that it was appropriate to impose Title VII requirements on such activity given, among other things, the focus of the “security-based swap dealer” definition on a person's dealing activity,
17

the risk that non-U.S. persons engaged in security-based swap dealing activity in the United States could avoid regulation under Title VII,
18

concerns about competitive disparities and possible market fragmentation absent such a test,
19

and the role of public transparency.
20

16
“Security-Based Swap Transactions Connected with a Non-U.S. Person's Dealing Activity That Are Arranged, Negotiated, or Executed By Personnel Located in a U.S. Branch or Office or in a U.S. Branch or Office of an Agent; Security-Based Swap Dealer De Minimis Exception,” Exchange Act Release No. 77104 (Feb. 10, 2016), 81 FR 8598, 8621 (Feb. 19, 2016) (“ANE Adopting Release”);
see also

id.
at 8622 (“a non-U.S. person's market-facing activity in the United States suggests the type of involvement in the U.S. security-based swap market that may raise financial contagion, customer protection, market integrity, and market transparency concerns”).

17
The statutory definition of “security-based swap dealer” encompasses the following activities: (1) Holding oneself out as a dealer in security-based swaps, (2) making a market in security-based swaps; (3) regularly entering into security-based swaps with counterparties as an ordinary course of business for one's own account; or (4) engaging in any activity causing oneself to be commonly known in the trade as a dealer in security-based swaps.
See
Exchange Act Section 3(a)(71)(A);
see also
ANE Adopting Release, 81 FR at 8614-15 & n.158 (further concluding that the appropriate analysis also considers whether a non-U.S. person is engaged in the United States in an amount above the
de minimis
thresholds in any of the activities set forth in the statutory security-based swap dealer definition or in the Commission's further definition of that term, and that the final rule's treatment of activity performed by an agent on behalf of a non-U.S. person in connection with its dealing activity was consistent with Exchange Act Section 30(c), which prohibits the application of Title VII requirements to a person that transacts a security-based swap business “without the jurisdiction of the United States”).

18

See id.
at 8615. “As long as a non-U.S. person limited its dealing activity with U.S. persons to levels below the dealer
de minimis
thresholds, it could enter into an unlimited number of transactions connected with its dealing activity in the United States without being required to register as a security-based swap dealer.”
Id.

19

See id.
at 8616. The Commission stated that if financial groups using non-U.S. persons to carry out dealing business in the United States can “exit the Title VII regulatory regime without exiting the U.S. market with respect to their security-based swap dealing business with non-U.S.-person counterparties (including non-U.S.-person dealers),” those non-U.S.-person dealers likely would incur fewer costs related to their U.S. dealing activity than U.S.-person dealers transacting with the same counterparties, and that non-U.S. person counterparties likely would incur lower costs and obtain better pricing by entering into security-based swaps with non-U.S. dealers that are not required to register as security-based swap dealers. The Commission added that U.S.-person dealers would be at a disadvantage as financial groups use their non-registered dealers to cross-subsidize the dealing activity of affiliated registered security-based swap dealers that engage in dealing activity with U.S.-person counterparties.
See id.

20

See id.
at 8615 (stating that aside from mitigating counterparty and operational risks, Title VII security-based swap dealer requirements also “advance other important policy objectives of security-based swap dealer regulation under Title VII, including enhancing counterparty protections and market integrity, increasing transparency, and mitigating risk to participants in the financial markets and the U.S. financial system more broadly”).

3. Commission Consideration of Alternatives Relying on Registered Broker-Dealers and Banks

Before the Commission incorporated an “arranged, negotiated, or executed” test into the Rule 3a71-3(b)(1)(iii)(C)
de minimis
counting standard applicable to transactions involving two non-U.S. persons, certain commenters had expressed the view that other Exchange Act protections would obviate the need to use Title VII security-based swap dealer regulation to address regulatory concerns arising from non-U.S. persons' dealing activity using U.S. personnel. Some commenters particularly depicted the concerns raised by such U.S. market-facing activity as relating primarily to counterparty protection, and argued that it would be duplicative to apply Title VII security-based swap dealer requirements to that activity—on the grounds that agents acting on behalf of non-U.S. persons engaged in security-based swap dealing activity generally would be required to register as brokers and could be required to comply with relevant Exchange Act and Financial Industry Regulatory Authority (“FINRA”) requirements with respect to the security-based swap transactions that they intermediate.
21

21

See id.
at 8617-18.

Exchange Act Section 15(a) requires persons who engage in brokerage activities involving securities to register with the Commission unless they can avail themselves of an exception from the registration requirement. The definition of “broker” in Exchange Act Section 3(a)(10), generally encompasses persons engaged in the business of effecting transactions in securities for the account of others, but does not encompass banks that are engaged in certain activities, which may include a significant proportion of banks' security-based swap dealing activity.
See
ANE Adopting Release, 81 FR at 8619.

The definition of “security” in the Exchange Act (
see
Exchange Act Section 3(a)(10)) encompasses security-based swaps. The Commission has provided time-limited exemptive relief, expiring February 5, 2020, from the application of certain Exchange Act requirements related to securities activities involving security-based swaps.
See
Exchange Act Release No. 84991 (Jan. 25, 2019), 84 FR 863 (Jan. 31, 2019).

Commenters further sought to draw parallels between those circumstances and Exchange Act Rule 15a-6(a)(3), which provides an exemption from the broker-dealer registration requirement for a foreign broker-dealer that uses a registered broker-dealer to intermediate certain transactions.
22

Certain commenters particularly suggested that non-U.S. persons should not be required to count the transactions at issue against the security-based swap dealer
de minimis
thresholds subject to conditions such as: That the U.S. activity be conducted by a registered broker-dealer; or by a bank that complies with certain business conduct and books and records requirements; or that the non-U.S. person be registered in a jurisdiction that the Commission recognizes as comparable; or that the non-U.S. person be subject to Basel capital standards or be located in a G-20 jurisdiction.
23

22

See
ANE Adopting Release, 81 FR at 8618.

23

See id.
at 8619.

In rejecting those alternatives, the Commission stated its belief that “the approach suggested by commenters is inconsistent with the comprehensive, uniform statutory framework established by Congress for the regulation of security-based swap dealers in Title VII.”
24

Significantly, in the Commission's view, broker-dealer regulation does not apply to banks engaged in certain activities.
25

The Commission also emphasized that there are distinctions between the regulatory requirements applicable to broker-dealers and those applicable to security-based swap dealers.
26

The Commission further explained that the absence of a U.S. activity trigger for
de minimis
threshold calculations would create a strong incentive to move booking for transactions with non-U.S. persons to booking entities that are non-U.S. persons.
27

24

Id.

25

Id.

26

Id.

27

Id.
at 8620.

The Commission also addressed one comment that suggested that allowing U.S. personnel to rely on broker-dealer requirements would increase efficiency by permitting such personnel to “be subject to a single set of regulatory compliance obligations with respect to both their underlying securities transactions and derivatives transactions.” In response, the Commission noted that such efficiencies would be unavailable to banks that are excepted from the “broker” definition for certain activities, that any such intra-firm efficiencies would be accompanied by competitive disparities, and that Exchange Act and FINRA rules applicable to broker-dealers may incorporate “similar requirements” once relevant exemptions terminate.
See id.
at 8620.

The Commission further noted that concerns expressed by commenters could be mitigated in part by the availability of substituted compliance, which would permit non-U.S. person-dealers to comply with comparable foreign requirements as an alternative to complying with certain Title VII requirements. The Commission recognized, however, that substituted compliance may not be available for some requirements, and that the availability of substituted compliance would be contingent on the relevant foreign requirements being comparable to Title VII requirements.
See id.
at 8620.

4. Reconsideration of the Use of “Arranged, Negotiated, or Executed” Criteria

Although the “arranged, negotiated, or executed” test for
de minimis
counting has yet to be implemented, as the prerequisites for the registration of security-based swap dealers have not yet been finalized, the Commission believes that it is appropriate to reconsider the approach it adopted in 2016 in light of ongoing concern among market participants and other commenters, potential reconsideration by the CFTC of the cross-border application provisions under Title VII governing swap market participants and swaps activities, and regulatory developments in other jurisdictions.

First, market participants have continued to raise several concerns about the use of “arranged, negotiated, or executed” criteria. They argue that requiring a non-U.S. dealer to identify transactions that it arranges, negotiates or executes using personnel located in the United States for purposes of compliance with the rule poses significant operational challenges.
28

In addition, they express concern that foreign non-dealer counterparties will avoid interacting with personnel located in the United States if doing so would subject them to U.S. regulatory requirements, given the potential for duplication or conflict with foreign regulatory requirements and the concomitant burden.
29

To address these concerns, they state that they will be required to “implement compliance systems that eliminate U.S.-located personnel from arranging, negotiating and executing the clients' non-U.S. transactions,” which in turn will lead to market fragmentation, lower levels of security-based swap activity by foreign dealers in the U.S. market, and potentially lower levels of liquidity, globally and in the U.S. market.
30

These market participants argue that the risk that such transactions present to the U.S. financial market (and thus the benefit of subjecting such activity to the Commission's regulatory framework) is negligible and cannot justify the imposition of these requirements with their concomitant direct and indirect costs.
31

28

See
Institute of International Bankers (“IIB”), “U.S. Supervision and Regulation of International Banks: Recommendations for the Report of the Treasury Secretary” (Apr. 28, 2017) at 64-65 (“IIB Treasury Letter”) (“These systems will create barriers within entities and corporate groups based solely on the geographic location of personnel, to the detriment of globalized risk management and at increased cost to clients. Personnel-based tests are also cumbersome to administer, requiring entities to make seemingly arbitrary distinctions about permitted activities of personnel based on their geographic location at any time.”);
see also,

e.g.,
Memorandum from Richard Gabbert, Counsel to Commissioner Hester M. Peirce, dated Nov. 30, 2018 (regarding a November 16, 2018 meeting with representatives of SIFMA),
available at

https://www.sec.gov/comments/s7-05-14/s70514-4714190-176653.pdf;
Memorandum from Richard Gabbert, Counsel to Commissioner Hester M. Peirce, dated Nov. 30, 2018 (regarding a November 16, 2018 meeting with representatives of the International Swaps and Derivatives Association (ISDA)),
available at

https://www.sec.gov/comments/s7-05-14/s70514-4714187-176649.pdf.

29
In particular, IIB noted concerns raised by the need under this test for foreign clients interacting with personnel located in the United States to “amend[ ] their trading documentation,” change their trading practices to account for public reporting requirements, and change their interactions with trading platforms and clearing houses in order to comply with the Commission's rules.
See id.
at 64.

30

See id.
at 65 (“The increased costs of compliance and changes to market behavior will impede the ability of non-U.S. dealers to invest and participate in U.S. markets and could lead to the elimination of a significant number of jobs for U.S.-located personnel.”);
see also
Securities Industry and Financial Markets Association (“SIFMA”), “Capital Markets Report—Modernizing and Rationalizing Regulation of U.S. Capital Markets” (Aug. 10, 2017) at 115 (“SIFMA Treasury Letter”) (arguing that the test should be modified “[t]o encourage firms to hire U.S. front office personnel and promote global market liquidity”).

31

See
IIB Treasury Letter at 65 (“The costs of these rules far exceed any risk-mitigating benefit. For non-U.S. transactions, the presence of U.S.-located personnel in arranging, negotiating or executing does not result in risk flowing to the United States.”); SIFMA Treasury Letter at 120 (“The participation of U.S. personnel does not create risks justifying the imposition of Title VII requirements to these otherwise non-U.S. swaps.”).

The Treasury Department issued a report in October 2017 expressing the view that the Commission and the CFTC should “reconsider the implications” of applying Title VII rules—including the Commission's
de minimis
counting rules as well as other Commission and CFTC requirements—to certain transactions “merely on the basis that U.S.-located personnel arrange, negotiate, or execute the swap, especially for entities in comparably regulated jurisdictions.”
32

Since the publication of this report, market participants have reiterated their concerns. For example, two commenters jointly restated their concern that the test “would discourage non-U.S. clients from interacting with U.S. personnel and impede risk management by expert trading personnel located in the U.S.” and impose significant operational burdens, even though “the benefits of applying additional requirements to [transactions captured by the test] are limited.”
33

32

See
Treasury Department, “A Financial System That Creates Economic Opportunities: Capital Markets” (Oct. 2017) at 133-36,
available at

https://www.treasury.gov/press-center/press-releases/Documents/A-Financial-System-Capital-Markets-FINAL-FINAL.pdf.

33
IIB and SIFMA, “SEC-CFTC Harmonization: Key Issues under Title VII of the Dodd-Frank Act” (June 21, 2018) at 5-6 (“IIB/SIFMA 6/21/18 Letter”),
available at

https://www.sec.gov/comments/s7-05-14/s70514-3938974-167037.pdf.

The Commission further is aware of concerns that application of the counting rule could require a financial group to register multiple non-U.S. entities as security-based swap dealers solely because each of those entities makes use of affiliated persons based in the United States to arrange, negotiate or execute security-based swap transactions with non-U.S. counterparties at levels exceeding the
de minimis
threshold. This may incentivize such groups to relocate U.S. personnel (or the activities performed by U.S. personnel) abroad to avoid triggering security-based swap dealer registration—a result that may raise issues similar to those raised by the commenters described above, including increased fragmentation to the detriment of U.S. market participants, which could harm U.S. markets and the U.S. economy. These concerns may be particularly acute for non-U.S. financial groups with dealers located in jurisdictions for which the Commission has not made a substituted compliance determination.
34

34
Exchange Act Rule 3a71-6 permits registered non-U.S. security-based swap dealers to satisfy certain security-based swap dealer requirements—related to business conduct, supervision, chief compliance officers and trade acknowledgment and verification—by complying with foreign requirements that the Commission by order has determined are comparable to the analogous Title VII requirements.

Additionally, commenters have continued to urge the Commission to harmonize its rules under Title VII with those of the CFTC, as the CFTC has largely implemented its regulatory framework for swaps and many, if not most, market participants that transact security-based swaps also transact swaps pursuant to the CFTC's rules.
35

Market participants have noted potential inefficiencies that may arise from differences between the Commission's and the CFTC's rules and guidance, including the operational challenges that face a dealer's trading desk that transacts in both swaps and security-based swaps, as different or overlapping requirements may apply

depending on the specific product or products being traded in connection with a particular transaction.
36

Commenters specifically have urged the Commission to amend its rules to be consistent with the CFTC's approach, which would not require transactions arranged, negotiated, or executed in the United States to be counted toward the
de minimis
thresholds.
37

In the alternative, these commenters have suggested that the Commission consider an exception for such activity to the extent that it is carried out by U.S. personnel employed by an affiliate that is either a registered security-based swap dealer or a registered broker-dealer and the affiliated foreign dealer is “subject to BCBS-IOSCO compliant capital and margin requirements.”
38

35

See
IIB/SIFMA 6/21/18 Letter at 1;
see also
Futures Industry Association, “Harmonization of SEC and CFTC Regulatory Frameworks,” (Nov. 29, 2018) at 9,
available at

https://www.sec.gov/comments/s7-08-12/s70812-4722398-176717.pdf
(encouraging the Commission and the CFTC to “jointly propose and adopt rules reflecting a harmonized and unified approach to the cross-border application of the swaps and security-based swaps provisions of Title VII”).

36

See
IIB/SIFMA 6/21/18 Letter at 1.

37

See id.
at 5.

38

Id.

In October 2018, CFTC Chairman Giancarlo issued a document setting forth his views regarding possible modifications to the CFTC's cross-border application of its swap regulations.
39

Among other things, the Giancarlo White Paper suggests an approach to the regulation of transactions arranged, negotiated, or executed by personnel located in the United States on behalf of a foreign dealer.
40

The Giancarlo White Paper suggests that these transactions generally should be subject to U.S. requirements but also suggests that it may be appropriate to defer to the foreign jurisdiction's requirements if the foreign dealer is subject to regulation in a “Comparable Jurisdiction.”
41

39

See
Chris Giancarlo, CFTC Chairman, “Cross-Border Swaps Regulation Version 2.0: A Risk-Based Approach with Deference to Comparable Non-U.S. Regulation” (Oct. 1, 2018) (“Giancarlo White Paper”),
available at

https://www.cftc.gov/sites/default/files/2018-10/Whitepaper_CBSR100118.pdf.

40

See
Giancarlo White Paper at 76.

41

See id.
at 79, 80-81.

Finally, in recent years, foreign jurisdictions have continued to implement their own regulatory reforms of the OTC derivatives markets, making it important to explore possible ways to try to reduce conflicts, gaps, inconsistencies and overlaps between Title VII requirements and corresponding foreign requirements. For example, according to the Financial Stability Board (“FSB”) OTC Derivatives Working Group's 12th and 13th Progress Reports, only three FSB member jurisdictions had margin requirements for non-centrally cleared derivatives in force at the end of August 2016, while 16 FSB member jurisdictions had such margin requirements in force at the end of September 2018.
42

42

See
FSB, “OTC Derivatives Market Reforms: Twelfth Progress Report on Implementation” (Jun. 29, 2017) at 2,
available at

http://www.fsb.org/2017/06/otc-derivatives-market-reforms-twelfth-progress-report-on-implementation;
and FSB, “OTC Derivatives Market Reforms: Thirteenth Progress Report on Implementation” (Nov. 19, 2018) at 1,
available at

http://www.fsb.org/wp-content/uploads/P191118-5.pdf.

In light of the foregoing, the Commission believes that it is appropriate to reconsider its approach to these transactions before foreign dealers and other foreign market participants are required to comply with requirements based on “arranged, negotiated, or executed” criteria, as used in Exchange Act Rule 3a71-3 and elsewhere to implement Title VII in the cross-border context, to enable the Commission to avoid or mitigate any negative effects that the test may create if firms were required to comply with it as adopted. First, the Commission preliminarily believes that it is appropriate to provide guidance to market participants regarding the types of market-facing activity that the “arranged” or “negotiated” criteria would not encompass. Second, the Commission preliminarily believes that it is possible that an alternative approach may better balance any risks posed by such transactions to the U.S. market against the market-fragmentation and operational risks of subjecting foreign dealers engaged in such transactions to the full range of Title VII regulatory requirements. Moreover, reconsideration of the Commission's approach would be consistent both with its statutory obligation to consult and coordinate with the CFTC and with both agencies' recent efforts to harmonize more closely, to the extent possible, their respective requirements under Title VII.
43

Finally, reconsideration would permit the Commission to evaluate whether the implementation of regulatory reforms in foreign jurisdictions may address some of the concerns that led the Commission to adopt the various uses of the “arranged, negotiated, or executed” test in connection with the cross-border application of Title VII.

43

See
“Chief Compliance Officer Duties and Annual Report Requirements for Futures Commission Merchants, Swap Dealers, and Major Swap Participants,” 83 FR 43510 (Aug. 27, 2018); “Capital, Margin, and Segregation Requirements for Security-Based Swap Dealers and Major Security-Based Swap Participants and Capital Requirements for Broker-Dealers,” Exchange Act Release No. 84409 (Oct. 11, 2018), 83 FR 53007 (Oct. 19, 2018).

For all of these reasons, the Commission preliminarily believes that it is appropriate to provide guidance about the scope of the “arranged” or “negotiated” criteria. The proposed guidance is designed to provide market participants with additional information regarding the types of conduct that would trigger the Title VII requirements that use those criteria, and hence provide improved clarity regarding the types of market-facing conduct that would not be subject to the relevant Title VII requirements.

Separately, the Commission is proposing an exception from the application of the “arranged, negotiated, or executed” test in connection with the
de minimis
counting requirement in Exchange Act Rule 3a71-3(b)(1)(iii)(C), and is soliciting comment regarding possible additional exceptions to the use of those criteria in Exchange Act Rules 3a71-3(b)(1)(iii)(A) (with regard to certain dealing transactions involving certain foreign branches of a registered security-based swap dealer), 3a71-3(c) (with regard to the cross-border application of security-based swap dealer business conduct requirements), 3a67-10 (with regard to the cross-border application of security-based swap dealer business conduct requirements), and Regulation SBSR Rules 908(a)(1)(v) and 908(b)(5) (relating to cross-border application of regulatory reporting and public dissemination requirements). The Commission preliminarily believes that the proposed exception to Rule 3a71-3(b)(1)(iii)(C) would reduce the market fragmentation and operational risks associated with the “arranged, negotiated, or executed” test, provide a possible framework for reducing divergence from the CFTC in connection with the treatment of these transactions, and appropriately recognize the role that foreign regulation may play in addressing certain risks that may arise from these transactions, while protecting the important interests that underpin that use of the “arranged, negotiated, or executed” test.

B. Proposed Guidance and Amendments Related to the Certification and Opinion of Counsel Requirements

In 2015, the Commission adopted rules regarding the registration of SBS Entities.
44

These rules include certain requirements specific to nonresident SBS Entities. In particular, Exchange Act Rule 15Fb2-4 requires, among other things, that each nonresident SBS Entity registering with the Commission certify that it can, as a matter of law, and will provide the Commission with prompt access to its books and records and

submit to on-site inspection and examination by the Commission.
45

It also requires that the nonresident SBS Entity obtain and provide to the Commission an opinion of counsel to support this certification.
46

As the Commission stated when adopting these requirements, significant elements of an effective regulatory regime are the Commission's abilities to access registered SBS Entities' books and records and to inspect and examine the operations of registered SBS Entities.
47

44

See
Registration Process for Security-Based Swap Dealers and Major Security-Based Swap Participants, Exchange Act Release No. 75611 (Aug. 5, 2015), 80 FR 48964 (Aug. 14, 2015) (“Registration Adopting Release”).

45

See
17 CFR 240.15Fb2-4(c)(1)(i).

46

See
17 CFR 240.15Fb2-4(c)(1)(ii). As discussed below, the Commission has incorporated these certification and opinion of counsel requirements into Exchange Act Rule 3a71-6, which governs applications for substituted compliance.

47

See
Registration Adopting Release, 80 FR at 48981.

The certification and opinion of counsel requirements adopted by the Commission are designed to provide assurances that the Commission is able to access directly the books and records of a nonresident SBS Entity as provided under Sections 15F and 17 of the Exchange Act and the Commission's rules thereunder, and conduct on-site inspections and examinations of those records.
48

In support of these endeavors, the Commission has proposed recordkeeping rules that would require an SBS Entity to furnish promptly to a representative of the Commission legible, true, complete, and current copies of those records of the SBS Entity that are required to be preserved by the rules, or any other records of the SBS Entity subject to examination or required to be made or maintained pursuant to the Exchange Act that are requested by a representative of the Commission.
49

48

See id.

49

See
paragraph (j) of Exchange Act Rule 17a-4, and paragraph (g) of proposed Exchange Act Rule 18a-6 (Recordkeeping and Reporting Requirements for Security-Based Swap Dealers, Major Security-Based Swap Participants, and Broker-Dealers; Capital Rule for Certain Security-Based Swap Dealers, Exchange Act Release No. 71958 (Apr. 17, 2014), 79 FR 25194 (May 2, 2014) (“Recordkeeping and Reporting Proposing Release”)).

The Commission is proposing guidance to Exchange Act Rule 15Fb2-4 regarding: (i) The foreign laws that must be covered by the certification and opinion of counsel; (ii) the scope of the books and records that are the subject of the certification and opinion of counsel, namely that the certification and opinion of counsel need only address: (1) Records that relate to the “U.S. business” (as defined in Exchange Act Rule 3a71-3(a)(8)) of the nonresident SBS Entity; and (2) financial records necessary for the Commission to assess the compliance of the nonresident SBS Entity with capital and margin requirements under the Exchange Act and rules promulgated by the Commission thereunder, if these capital and margin requirements apply to the nonresident SBS Entity; (iii) predication of a firm's certification and opinion of counsel, as necessary, on the nonresident SBS Entity obtaining prior consent of the persons whose information is or will be included in the books and records to allow the firm to promptly provide the Commission with direct access to its books and records and to submit to on-site inspection and examination; (iv) applicability of the certification and opinion of counsel to contracts entered into prior to the date on which the SBS Entity submits an application for registration pursuant to Section 15F(b); and (v) whether the certification and opinion of counsel submitted by a nonresident SBS Entity can take into account approvals, authorizations, waivers or consents provided by local regulators.

The Commission is also proposing to amend Exchange Act Rule 15Fb2-1 to provide additional time for a nonresident SBS Entity to submit the certification and opinion of counsel required under Exchange Act Rule 15Fb2-4(c)(1). The Commission is proposing to add new paragraphs (d)(2) and (e)(2) to Exchange Act Rule 15Fb2-1. Proposed paragraph (d)(2) would provide that a nonresident applicant that is unable to provide the certification and opinion of counsel required under Rule 15Fb2-4(c)(1) shall be conditionally registered, for up to 24 months after the compliance date for Rule 15Fb2-1, if the applicant submits a Form SBSE-C and a Form SBSE, SBSE-A, or SBSE-BD, as appropriate, that is complete in all respects but for the failure to provide the certification and the opinion of counsel required by Rule 15Fb2-4(c)(1). Proposed paragraph (e)(2) would provide that if a nonresident SBS Entity became conditionally registered in reliance on paragraph (d)(2), the firm would remain conditionally registered until the Commission acts to grant or deny ongoing registration, and that if the nonresident SBS Entity fails to provide the certification and opinion of counsel within 24 months of the compliance date for Rule 15Fb2-1, the Commission may institute proceedings to determine whether ongoing registration should be denied. As indicated in the Registration Adopting Release, once an SBS Entity is conditionally registered, all of the Commission's rules applicable to registered SBS Entities apply to the entity and it must comply with them.

The guidance regarding the certification and opinion of counsel requirements would also be relevant to Exchange Act Rule 3a71-6, which allows SBS Entities to comply with certain requirements under Section 15F of the Exchange Act through substituted compliance.
50

Paragraph (c)(2)(ii) of Rule 3a71-6 provides that substituted compliance applications by parties or groups of parties—other than foreign financial regulatory authorities—must include the certification and opinion of counsel associated with the SBS Entity registration requirements as if the party were subject to that requirement at the time of the request. Recognizing the expected time necessary for the Commission to consider substituted compliance applications it receives, the Commission welcomes submissions of such applications with respect to any of its final rules for which substituted compliance is potentially available. Consistent with this position, the Commission wishes to clarify that, during the pendency of this proposal, the Commission will consider all substituted compliance applications submitted by parties or groups of parties who are not foreign regulatory authorities even when not accompanied by a certification or opinion of counsel.
51

This clarification, however, does not mean that the Commission would grant any application for substituted compliance submitted by such parties or groups of parties before the required certification and opinion of counsel are filed.

50
Exchange Act Rule 3a71-6.

51
The Commission's rules do not require that applications submitted by foreign regulatory authorities be accompanied by a certification or opinion of counsel. Exchange Act Rule 3a71-6(c).

C. Proposed Amendment to Commission Rule of Practice 194

Exchange Act Section 15F(b)(6) makes it unlawful for an SBS Entity to permit an associated person
52

who is subject to a statutory disqualification
53

to effect or

be involved in effecting security-based swaps on behalf of the SBS Entity if the SBS Entity knew, or in the exercise of reasonable care should have known, of the statutory disqualification, “[e]xcept to the extent otherwise specifically provided by rule, regulation, or order of the Commission.”
54

In this regard, Exchange Act Section 15F(b)(6) gives the Commission the discretion to determine, by rule, regulation or order, that a statutorily disqualified associated person may effect or be involved in effecting security-based swaps on behalf of an SBS Entity, and/or to establish rules concerning the statutory prohibition in Exchange Act Section 15F(b)(6).
55

As outlined below, the Commission has taken several actions with respect to the prohibition in Section 15F(b)(6) of the Exchange Act in its implementation of Title VII of the Dodd-Frank Act.
56

52
Exchange Act Section 3(a)(70) generally defines the term “person associated with” an SBS Entity to include (i) any partner, officer, director, or branch manager of an SBS Entity (or any person occupying a similar status or performing similar functions); (ii) any person directly or indirectly controlling, controlled by, or under common control with an SBS Entity; or (iii) any employee of an SBS Entity.
See
15 U.S.C. 78c(a)(70). The definition generally excludes persons whose functions are solely clerical or ministerial.
Id.
The definition of “person” under Exchange Act Section 3(a)(9) is not limited to natural persons, but extends to both entities and natural persons. 15 U.S.C. 78c(a)(9) (“The term `person' means a natural person, company, government, or political subdivision, agent, or instrumentality of a government.”).

53
The term statutory disqualification as used in Exchange Act Section 15F(b)(6) parallels the definition of statutory disqualification in Exchange Act Section 3(a)(39)(A)-(F), 15 U.S.C. 78c(a)(39)(A)-(F).
See
“Applications by Security-Based Swap Dealers or Major Security-Based Swap

Participants for Statutorily Disqualified Associated Persons To Effect or Be Involved in Effecting Security-Based Swaps,” Exchange Act Release No. 84858 (Dec. 19, 2018), 84 FR 4906 (Feb. 19, 2019) (“Rule of Practice 194 Adopting Release”).

54
15 U.S.C. 78o-10(b)(6). The statutory prohibition in Exchange Act Section 15F(b)(6) is substantially the same as the statutory provision for a swap dealer or major swap participant (collectively “Swap Entities”) in Section 4s(b)(6) of the CEA, 7 U.S.C. 6s(b)(6).

55

See id.

56
On June 15, 2011, the Commission issued an order that, among other things, granted temporary relief from compliance with Exchange Act Section 15F(b)(6) for persons subject to a statutory disqualification who were, as of July 16, 2011, associated with an SBS Entity and who effected or were involved in effecting security-based swaps on behalf of such SBS Entity and allowed such persons to continue to be associated with an SBS Entity until the date upon which rules adopted by the Commission to register SBS Entities became effective.
See
“Temporary Exemptions and Other Temporary Relief, Together With Information on Compliance Dates for New Provisions of the Securities Exchange Act of 1934 Applicable to Security-Based Swaps,” Exchange Act Release No. 64678 (June 15, 2011), 76 FR 36287, 36301, 36305-07 (Jun. 22, 2011) (“June 2011 Temporary Exemptions Order”);
see also
“Order Extending Certain Temporary Exemptions and a Temporary and Limited Exception Related to Security-Based Swaps,” Exchange Act Release No. 75919 (Sept. 15, 2015), 80 FR 56519 (Sep. 18, 2015) (extending the June 2011 Temporary Exemptions Order).

1. Registration Requirements for SBS Entities

On August 5, 2015, the Commission adopted registration requirements for SBS Entities.
57

Several aspects of the adopted rules relate to the statutory prohibition in Exchange Act Section 15F(b)(6). In particular, the Commission adopted Rule 15Fb6-2(a), which requires that an SBS Entity certify electronically on its Form SBSE-C that it neither knows, nor in the exercise of reasonable care should have known, that any person associated with that SBS Entity who effects or is involved in effecting security-based swaps on its behalf is subject to a statutory disqualification, unless otherwise specifically provided by rule, regulation or order of the Commission.
58

In addition, Rule 15Fb6-2(b) requires that, to support the certification required by Rule 15Fb6-2(a), the Chief Compliance Officer of an SBS Entity, or his or her designee, must review and sign a questionnaire or application for employment—that the SBS Entity is required to obtain pursuant to the relevant recordkeeping rule—which has been executed by each associated person who is a natural person and who effects or is involved in effecting security-based swaps on behalf of the SBS Entity. The questionnaire or application for employment, in turn, would serve to verify that the associated natural person is not subject to statutory disqualification.
59

57

See
Registration Adopting Release.

58

See
17 CFR 240.15Fb6-2(a) and Form SBSE-C (17 CFR 249.1600c).

59

See
17 CFR 240.15Fb6-2(b).

The Commission also included within the Registration Adopting Release guidance on the scope of the phrase “involved in effecting security-based swaps,” as that phrase is used in Exchange Act Section 15F(b)(6).
60

Specifically, the Commission stated that the term “involved in effecting security-based swaps” generally means engaged in functions necessary to facilitate the SBS Entity's security-based swap business, including, but not limited to the following activities: (1) Drafting and negotiating master agreements and confirmations; (2) recommending security-based swap transactions to counterparties; (3) being involved in executing security-based swap transactions on a trading desk; (4) pricing security-based swap positions; (5) managing collateral for the SBS Entity; and (6) directly supervising persons engaged in the above-described activities.
61

60

See
Registration Adopting Release, 80 FR at 48974, 48976.

61

See id.
at 48976.

2. Commission Rule of Practice 194

On December 19, 2018, the Commission adopted Rule of Practice 194, which provides, among other things, a process by which an SBS Entity could apply to the Commission to permit an associated person who is a natural person and who is subject to a statutory disqualification to effect or be involved in effecting security-based swaps on behalf of the SBS Entity.
62

Rule of Practice 194 establishes a process by which the Commission can assess on a case-by-case basis whether to grant relief from the statutory prohibition in Exchange Act Section 15F(b)(6).

62

See
Rule of Practice 194 Adopting Release, 84 FR at 4906-47;
see also
17 CFR 240.194(a)-(i).

Rule of Practice 194 excludes associated persons that are not natural persons (defined herein as “associated person entities”) from the statutory disqualification prohibition in Exchange Act Section 15F(b)(6).
63

As the Commission explained when adopting Rule of Practice 194, granting an automatic exclusion for associated person entities could reduce potential disruptions to the business of SBS Entities that could lead to possible market disruption.
64

The exclusion for associated person entities also results in consistency with the CFTC's approach with respect to the statutory prohibition for Swap Entities as set forth in CEA Section 4s(b)(6).
65

63

See
17 CFR 240.194(c);
see also
Rule of Practice 194 Adopting Release, 84 FR at 4906.

64

See
Rule of Practice 194 Adopting Release, 84 FR at 4911.

65

See
7 U.S.C. 6s(b)(6). The CFTC, with respect to statutorily disqualified associated persons of swap entities, limits the definition of associated persons of swap entities to natural persons.
See
17 CFR 1.3. As a result, the prohibition in CEA Section 4s(b)(6) applies to natural persons (not entities) associated with a swap entity.

3. Proposed Rule of Practice 194(c)(2)

As the Commission noted in adopting Rule of Practice 194, there may be instances where it is consistent with the public interest 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 an SBS Entity.
66

As discussed in greater detail below, the Commission is now proposing to amend Rule of Practice 194, by including proposed paragraph (c)(2), to exclude an SBS Entity, subject to certain limitations, from the prohibition in Exchange Act Section 15F(b)(6) with respect to an associated person who is a natural person who (i) is not a U.S. person and (ii) does not effect and is not involved in effecting security-based swap transactions with or for counterparties that are U.S. persons, other than a security-based swap transaction conducted through a foreign branch of a counterparty that is a U.S. person.

66

See
Rule of Practice 194 Adopting Release, 84 FR at 4908.

D. Proposed Exchange Act Rule 18a-5

In April 2014, the Commission proposed recordkeeping, reporting, and notification requirements applicable to SBS Entities, securities count requirements applicable to certain security-based swap dealers, and

additional recordkeeping requirements applicable to broker-dealers to account for their security-based swap and swap activities.
67

The proposed requirements were modeled on existing broker-dealer requirements.
68

The Commission received a number of comments in response to these proposals.
69

Separately, the Commission proposed rules governing the cross-border treatment of recordkeeping and reporting requirements with respect to SBS Entities.
70

The Commission received comments in response to these cross-border proposals as well.
71

67

See
Recordkeeping and Reporting Proposing Release.

68

See id.,
79 FR at 25196-97 (providing the rationale for modeling the proposed requirements on the relevant broker-dealer requirements).

69
The comment letters are available at
https://www.sec.gov/comments/s7-05-14/s70514.shtml.

70

See
“Cross-Border Security-Based Swap Activities; Re-Proposal of Regulation SBSR and Certain Rules and Forms Relating to the Registration of Security-Based Swap Dealers and Major Security-Based Swap Participants,” Exchange Act Release No. 69490 (May 1, 2013), 78 FR 30968 (May 23, 2013) (“Cross-Border Proposing Release”).

71
The comment letters are available at
https://www.sec.gov/comments/s7-02-13/s70213.shtml.

In the Recordkeeping and Reporting Proposing Release, the Commission, among other things, proposed new Exchange Act Rule 18a-5 (patterned after Exchange Act Rule 17a-3—the recordkeeping rule for registered broker-dealers) to establish recordkeeping standards for firms without a prudential regulator that are registered with the Commission only as an SBS Entity (and not as a broker-dealer as well) and SBS Entities for which there is a prudential regulator (collectively, “stand-alone and bank SBS Entities”).
72

72

See
Recordkeeping and Reporting Proposing Release, 79 FR at 25205.

As part of that rulemaking, the Commission proposed to require that an SBS Entity make and keep current a questionnaire or application for employment for each associated person who is a natural person, that includes the associated person's identifying information, business affiliations for the past ten years, relevant disciplinary history, relevant criminal record, and place of business, among other things (hereinafter the “questionnaire requirement”).
73

The Commission also proposed a definition of the term “associated person” that would include persons associated with an SBS Entity as defined under Section 3(a)(70) of the Exchange Act.
74

One commenter requested that the Commission modify the rule for foreign SBS Entities so that the questionnaire requirement would not apply to associated persons who effect or are involved in effecting security-based swap transactions with non-U.S. persons or foreign branches.
75

In a subsequent letter, this commenter also requested that the rule be modified to exclude from the questionnaire requirement an associated person employed or located in a non-U.S. branch, office, or affiliate of the firm in circumstances where: (1) Applicable non-U.S. law prohibits the firm from conducting background checks on the associated person and consent does not cure the prohibition or may not be a condition of employment; (2) the associated person is not subject to a statutory disqualification that the firm actually knows about; (3) the associated person does not effect and is not involved in effecting security-based swaps with U.S. counterparties on behalf of the firm; and (4) the associated person complies with applicable registration and licensing requirements in the jurisdiction(s) where he or she effects or is involved in effecting security-based swaps on behalf of the firm.
76

73
Paragraphs (a)(10)(i) and (b)(8)(i) of proposed Rule 18a-5.

74

Id.

75

See
SIFMA letter to Kevin M. O'Neill, dated Sep. 5, 2014 (“SIFMA 9/5/14 Letter”) at 9,
available at

https://www.sec.gov/comments/s7-05-14/s70514-10.pdf.

76

See
Letter from IIB and SIFMA, dated Aug. 26, 2016 (“IIB/SIFMA 8/26/16 Letter”),
available at

https://www.sec.gov/comments/s7-05-14/s70514-18.pdf.

As indicated in Exchange Act Rule 15Fb6-2, the questionnaire requirement is intended to serve as a basis for a background check of the associated person who is a natural person and who effects or is involved in effecting security-based swap transactions on the SBS Entity's behalf to verify that the person is not subject to statutory disqualification.
77

The Commission preliminarily believes that it is appropriate to provide flexibility with respect to the questionnaire requirement as applied to associated persons of stand-alone and bank SBS Entities. As discussed above in Section I.C.3., the Commission is proposing to add paragraph (c)(2) to Rule of Practice 194 in order to provide an exclusion from the prohibition in Section 15F(b)(6) of the Exchange Act with respect to an associated person who is not a U.S. person and does not effect and is not involved in effecting security-based swap transactions with or for counterparties that are U.S. persons, other than a security-based swap transaction conducted through a foreign branch of a counterparty that is a U.S. person, subject to certain conditions. Consistent with this proposal, the Commission is also proposing modifications to proposed Rule 18a-5 to provide that a stand-alone or bank SBS Entity is not required to make and keep current a questionnaire or application for employment executed by an associated person if the SBS Entity is excluded from the prohibition in Section 15F(b)(6) of the Exchange Act with respect to such associated person.

77

See
17 CFR 240.15Fb6-2(b).

The Commission also is proposing modifications to proposed Rule 18a-5 to address situations where the laws of a non-U.S. jurisdiction in which an associated person is employed or located may prohibit a stand-alone or bank SBS Entity from receiving, creating or maintaining a record of any of the information mandated by the questionnaire requirement.
78

The modifications would apply with respect to an associated person who is not a U.S. person and would provide that the stand-alone or bank SBS Entity need not record certain information mandated by the questionnaire requirement with respect to that person if the receipt of that information, or the creation or maintenance of records reflecting such information, would result in a violation of applicable law in the jurisdiction in which the associated person is employed or located. The Commission emphasizes, however, that every SBS Entity must still comply with Section 15F(b)(6) of the Exchange Act and Rule 15Fb6-2 with respect to every associated person who effects or is involved in effecting security-based swaps on behalf of the SBS Entity absent an exclusion from the statutory disqualification prohibition in Section 15F(b)(6) of the Exchange Act.

78

See
paragraphs (a)(10)(iii) and (b)(8)(iii) of Rule 18a-5, as proposed.

II. Proposed Guidance Regarding the Meaning of “Arranged” and “Negotiated” in Connection With the Cross-Border Application of Title VII

A. Provision of “Market Color”

1. Earlier Guidance

In adopting the Exchange Act Rule 3a71-3(b)(1)(iii)(C) “arranged, negotiated, or executed”
de minimis
counting standard applicable to transactions between two non-U.S. counterparties, the Commission addressed the types of activity that would—and would not—trigger that portion of the
de minimis
test. The Commission subsequently relied on the analysis underpinning that use of the “arranged, negotiated, or executed” test within the
de minimis
counting standard when the Commission adopted final rules incorporating those criteria

into the cross-border application of security-based swap dealer business conduct provisions,
79

and into the cross-border application of Regulation SBSR's regulatory reporting and public dissemination provisions.
80

The Commission previously incorporated those criteria into the portion of the security-based swap dealer
de minimis
exception related to transactions involving counterparties that are foreign branches of registered security-based swap dealers,
81

and also has incorporated those criteria into Title VII rules regarding major security-based swap participants.
82

79
Exchange Act Rule 3a71-3(c) excuses a registered security-based swap dealer from compliance with certain security-based swap dealer business conduct standards with respect to its foreign business. That rule incorporates a standard, via underlying definitions of “foreign business,” “U.S. business” and “transaction conducted through a foreign branch” (
see
Exchange Act Rules 3a71-3(a)(3), (8) and (9)), that uses “arranged, negotiated, and executed” terminology that functionally is equivalent to the “arranged, negotiated, or executed” standard incorporated by Rule 3a71-3(b)(1)(iii)(C).

In adopting Rule 3a71-3(c), the Commission particularly stated that the business conduct rules should apply to transactions that a foreign security-based swap dealer “arranges, negotiates, or executes using personnel located in a U.S. branch or office,” both to “preserve customer protections for U.S. counterparties that would expect to benefit from the protection afforded to them by Title VII” and to “help maintain market integrity by subjecting the large number of transactions that involve relevant dealing activity in the United States to these requirements, even if both counterparties are non-U.S. persons.”
See
Business Conduct Standards for Security-Based Swap Dealers and Major Security-Based Swap Participants, Exchange Act Release No. 77617 (Apr. 14, 2016), 81 FR 29960, 30065 (May 13, 2016) (“Business Conduct Adopting Release”). The Commission further stated that the business conduct rules need not be applied to a U.S. dealer's transactions that have been arranged, negotiated or executed through a foreign branch with a non-U.S. counterparty (or with another foreign branch counterparty), reasoning that “Title VII is concerned with the protection of U.S. markets and participants in those markets, and it remains our view that imposing these requirements on a U.S.-person dealer when it arranges, negotiates, or executes through its foreign branch with another foreign branch or a non-U.S. person would produce little or no benefit to U.S. market participants.”
Id.,
81 FR at 30066.

80
In incorporating an “arranged, negotiated, or executed” standard into Regulation SBSR Rules 908(a)(1)(v) and 908(b)(5), regarding the cross-border application of regulatory reporting and public dissemination requirements, the Commission stated that “[c]onsistent with its territorial application of Title VII requirements, the Commission believes that, when a foreign dealing entity uses U.S. personnel to arrange, negotiate, or execute a transaction in a dealing capacity, that transaction occurs at least in part within the United States and is relevant to the U.S. security-based swap market,” and that “[a]s the Commission has stated previously, declining to apply Title VII requirements to security-based swaps of foreign dealing entities that use U.S. personnel to engage in ANE activity would have the effect of allowing such entities `to exit the Title VII regulatory regime without exiting the U.S. market.' ”
See
Regulation SBSR—Reporting and Dissemination of Security-Based Swap Information, Exchange Act Release No. 78321 (Jul. 14, 2016), 81 FR 53546, 53590-91 (footnote omitted).

81
Exchange Act Rule 3a71-3(b)(1)(iii)(A) generally requires non-U.S. persons to count transactions with U.S. counterparties for purposes of the
de minimis
thresholds, but carves out transactions that constitute “transactions conducted through a foreign branch of the counterparty.” The definition of “transaction conducted through a foreign branch” in part requires that the transaction be “arranged, negotiated, and executed on behalf of the foreign branch solely by persons located outside the United States.”
See
Exchange Act Rule 3a71-3(a)(3)(i)(B).

When the Commission adopted that foreign branch-related
de minimis
counting requirement, the Commission concluded that the definition of “transaction conducted through a foreign branch” identifies the functions associated with foreign branch activity “in a manner that appropriately focuses the exclusion for non-U.S. person's transactions toward situations in which the branch performs the core dealing functions outside the United States.”
See
“Application of `Security-Based Swap Dealer' and `Major Security-Based Swap Participant' Definitions to Cross-Border Security-Based Swap Activities; Republication” Exchange Act Release No. 72472 (Jun. 25, 2014), 81 FR 47278, 47322 (Aug. 12, 2014) (“Cross-Border Adopting Release”). That is consistent with the analysis underlying the use of “arranged, negotiated, or executed” test in connection with the
de minimis
counting provisions of Rule 3a71-3(b)(1)(iii)(C), related to transactions between two non-U.S. persons, which was intended to prevent the conduct of an unregistered security-based swap dealing business in the United States.
See
notes 18 and 19,
supra.

Unless specified otherwise, references to the application of the “arranged, negotiated, or executed” test in the context of
de minimis
counting refer both to the Rule 3a71-3(b)(1)(iii)(C) test regarding dealing transactions involving two non-U.S. persons, and the Rule 3a71-3(b)(1)(iii)(A) test regarding dealing transactions involving a counterparty that is the foreign branch of a registered security-based swap dealer.

82
The rule implementing the “major security-based swap participant” definition generally requires consideration of a non-U.S. person's security-based swap positions with U.S. counterparties, but excludes positions that arise from transactions conducted through a foreign branch of a counterparty that is a registered security-based swap dealer.
See
Exchange Act Rule 3a67-10(b)(3)(i). This rule incorporates the Rule 3a71-3 definition of “transaction conducted through a foreign branch,” which makes use of “arranged, negotiated, and executed” criteria. In adopting that provision, the Commission noted its consistency with the security-based swap dealer
de minimis
counting provision related to transactions with counterparties that are foreign branches of registered security-based swap dealers.
See
Cross-Border Adopting Release, 79 FR at 47343.

U.S. and non-U.S. major security-based swap participants similarly are excluded from having to comply with certain business conduct requirements in connection with transactions conducted through a foreign branch, based on that same definition.
See
Exchange Act Rule 3a67-10(d). In adopting that provision, the Commission noted its consistency with the cross-border application of security-based swap dealer business conduct rules.
See
Business Conduct Adopting Release, 81 FR at 30069.

In discussing the “arranged, negotiated, or executed” test in the context of the
de minimis
counting standard applicable to transactions involving two non-U.S. counterparties, the Commission explained that the terms “arrange” and “negotiate” were intended to “indicate market-facing activity of sales or trading personnel in connection with a particular transaction, including interactions with counterparties or their agents.”
83

The Commission added that the term “execute” in the rule “refers to the market-facing act that, in connection with a particular transaction, causes the person to become irrevocably bound under the security-based swap under applicable law.”
84

83

See
ANE Adopting Release, 81 FR at 8622.

84

See id.
The Commission added that the test also applies when U.S. persons direct other persons to arrange, negotiate or execute particular security-based swaps. “In other words, sales and trading personnel of a non-U.S. person who are located in the United States cannot avoid application of this rule by simply directing other personnel to carry out dealing activity[.]” The Commission further noted that the test includes transactions in which personnel located in a U.S. branch or office “specify the trading strategy or techniques carried out through algorithmic trading or automated electronic execution of security-based swaps, even if the related server is located outside the United States.”
Id.
at 8623.

The Commission further distinguished market-facing activity by sales and trading personnel from activity by personnel who perform back-office functions that generally do not involve direct contact with counterparties. In doing so, the Commission identified types of activities that would not require counting of transactions against the
de minimis
thresholds, including: Processing trades and other back-office activities; designing security-based swaps without engaging in market-facing activity in connection with specific transactions; preparing underlying documentation including negotiating master agreements (“as opposed to negotiating with the counterparty the specific economic terms of a particular security-based swap transaction”); and clerical and ministerial tasks such as entering executed transactions on a non-U.S. person's books.
85

85

See id.
at 8622.

In addition, the Commission stated that it generally viewed the test as requiring the counting of transactions arranged, negotiated or executed by, for example, “personnel assigned to, on an ongoing or temporary basis, or regularly working in a U.S. branch or office.”

86

On the other hand, the counting standard does not extend to transactions arranged, negotiated or executed “by personnel assigned to a foreign office if such personnel are only incidentally in the United States,” such as while attending an educational or industry conference.
87

86

Id.
at 8623. The Commission separately explained that the rule applies to security-based swap transactions that the non-U.S. person, in connection with its dealing activity, arranges, negotiates or executes, using personnel located in a U.S. branch or office, even when such transactions are in response to inquiries from a non-U.S. person counterparty outside business hours in the counterparty's jurisdiction and occur pursuant to product, credit and market risk parameters set by

management personnel outside the United States.
See id.
at 8623-24.

87

See id.
at 8623. The Commission stated that this should mitigate the burdens of determining whether a particular transaction needs to be counted.
See id.

More generally, the Commission emphasized that the rule would avoid the need for the non-U.S. person to monitor the location of its counterparty's personnel or receive associated representations.
See id.
at 8621-22;
see also

id.
at 8612-13 (discussing prior Commission proposal to address the cross-border application of the security-based swap dealer definition via a test that would have required counting of transactions that were solicited, negotiated, executed or booked in the United States by or on behalf of either counterparty).

2. Proposed Supplemental Guidance

The Commission is proposing to provide supplemental guidance regarding the types of market-facing activity that would—and would not—constitute “arranging” or “negotiating” a security-based swap for purposes of the relevant Title VII requirements.
88

For the reasons discussed below, this proposed guidance would take the position that a person may provide “market color” in specific circumstances without that activity constituting “arranging” or “negotiating” security-based swap transactions for purposes of the “arranged, negotiated, or executed” test
89

that is used in connection with
de minimis
counting,
90

the cross-border application of business conduct rules,
91

regulatory reporting and public dissemination requirements,
92

and major security-based swap participant rules.
93

For purposes of this guidance, the term “market color” means background information regarding pricing or market conditions associated with particular instruments or with markets more generally, including information regarding current or historic pricing, volatility or market depth, and trends or predictions regarding pricing, volatility or market depth, as well as other types of information reflecting market conditions and trends.

88
The Commission does not believe there is a reason to revisit its prior guidance regarding the scope of the term “execute”; the Commission therefore is not providing any additional guidance regarding the interpretation of that term.

89
Certain provisions applying Title VII security-based swap requirements in the cross-border context, such as the
de minimis
counting test in Rule 3a71-3(b)(2)(iii), incorporate “arranged, negotiated, or executed” terminology. Other cross-border provisions make use of the definition of “transaction conducted through a foreign branch” in Rule 3a71-3(a)(3), which incorporates the functionally equivalent “arranged, negotiated, and executed” terminology. This proposed guidance would apply to both uses of that terminology, as found in the rules discussed in notes 90 through 93,
infra,
and accompanying text.

90
In connection with
de minimis
counting, this proposed guidance would apply to: (1) Exchange Act Rule 3a71-3(b)(1)(iii)(C), which requires the counting of security-based swap dealing transactions between non-U.S. counterparties that have been “arranged, negotiated, or executed” in the United States; (2) Exchange Act Rule 3a71-3(b)(2), which addresses the counting of affiliate transactions described by paragraph (b)(1) (which includes the (b)(1)(iii)(C) requirement); (3) Exchange Act Rule 3a71-5, which excepts certain cleared anonymous transactions from the individual counting requirement of paragraph (b)(1) of Rule 3a71-3 and from the affiliate counting requirement of paragraph (b)(2), but is unavailable to transactions “arranged, negotiated, or executed” by U.S. personnel; and (4) the
de minimis
counting requirement of Exchange Act Rule 3a71-3(b)(1)(iii)(A), requiring the counting of dealing transactions between dealing transactions involving a foreign branch of a registered security-based swap dealer and a non-U.S. counterparty (or another foreign branch). The regulatory interests underlying the Rule 3a71-3(b)(1)(iii)(C) and Rule 3a71-3(b)(1)(iii)(A) uses of arranged, negotiated and/or executed criteria to implement the
de minimis
counting requirement are similar (as are, derivatively, the Rule 3a71-3(b)(2) and Rule 3a71-5 uses).
See
note 81,
supra.

91

See
note 79,
supra
(addressing Exchange Act Rule 3a71-3(c) business conduct exclusion).

92

See
note 80,
supra
(addressing Regulation SBSR Rules 908(a)(1)(v) and 908(b)(5), regarding the cross-border application of regulatory reporting and public dissemination requirements).

93

See
note 82,
supra
(addressing cross-border major security-based swap participant provisions of Exchange Act Rules 3a67-10(b)(3)(i) and 3a67-10(d)).

The Commission believes that the earlier guidance, which focused on the presence of market-facing activities by U.S. personnel, provides a useful starting point for identifying the types of U.S. activity that should trigger the various uses of the “arranged, negotiated, or executed” test. The Commission nonetheless has come to recognize that there are significant variations among the types of market-facing activity that may occur in connection with security-based swap transactions, and that U.S. personnel in some circumstances may engage in activity that, although market-facing, reasonably may not be characterized as “arranging” or “negotiating” a security-based swap transaction—as those terms are understood generally and in the context of the relevant regulatory interests.

On one hand, U.S. personnel may actively market security-based swaps to counterparties on behalf of a firm. Those types of market-facing activity by U.S. personnel appropriately would trigger the various uses of the “arranged, negotiated, or executed” test, because otherwise those activities could cause a firm to engage in a dealing business in the United States without being subject to applicable Title VII requirements.

At the other end of the spectrum, U.S. personnel may engage in limited market-facing activity such as providing market-related information to counterparties in response to inquiries, or providing market data or other information that helps to set the price associated with a security-based swap transaction that otherwise is negotiated by non-U.S. personnel. When the remaining market-facing activity connected with a transaction occurs outside the United States, such limited market-facing activity by U.S. personnel standing alone does not trigger the concerns and regulatory interests that underpin the various uses of the “arranged, negotiated, or executed” test in connection with the transaction.
94

94
Such limited U.S. market-facing activity of that type seems unlikely to implicate the regulatory interests underlying the various uses of the “arranged, negotiated, or executed” test for purposes of the security-based swap dealer
de minimis
counting requirement, or for purposes of the regulatory reporting and public dissemination requirements of Regulation SBSR, because the activity of the U.S. personnel standing alone would not appear comprehensive enough to pose a significant risk of allowing an entity to exit the Title VII regulatory regime without exiting the U.S. market.

That type of limited U.S. market-facing activity further seems unlikely to implicate the regulatory interests underlying the use of the “arranged, negotiated, or executed” test for purposes of the security-based swap dealer business conduct requirements for the same reason, and also because non-U.S. counterparties reasonably may not expect Title VII business conduct requirements to apply merely as the result of receiving technical information from U.S. personnel.

Accordingly, the earlier reliance on the presence of market-facing activity may not sufficiently recognize circumstances in which the market-facing activity of U.S. personnel is so limited that it would not implicate the regulatory interests underlying the relevant Title VII requirements.
95

95
When the Commission adopted the “arranged, negotiated, or executed” counting rule applicable to transactions between two non-U.S. counterparties, the Commission stated that “to the extent that personnel located in a U.S. branch or office engage in market-facing activity normally associated with sales and trading, the location of those personnel would be relevant, even if the personnel are not formally designated as sales persons or traders.”
See
ANE Adopting Release, 81 FR at 8622 n.224. Just as the “arranged, negotiated, or executed” test reasonably may be triggered by U.S. personnel that are not formally designated as sales persons or traders when they engage in arranging or negotiating activity, the Commission does not believe that the test invariably must be triggered by the presence of U.S. personnel who are designated as sales persons or traders when their activity is too limited to implicate the principles underlying the uses of the test.

For those reasons, the Commission is proposing guidance that U.S. personnel who provide market color in connection with security-based swap transactions—

in the form of information or data as described above, including market-related information regarding the pricing of particular instruments or background information regarding general market conditions—do not trigger the Title VII requirements that use an “arranged, negotiated, or executed” test, when the following circumstances exist:

•
No client responsibility
—The U.S. personnel have not been assigned, and do not otherwise exercise client responsibility in connection with the transaction.

•
No transaction-linked compensation
—The U.S. personnel do not receive compensation based on or otherwise linked to the completion of transactions on which the “U.S. personnel” provide market color.
96

96
The Commission understands that it is commonplace for firms to account for the overall profit or loss of the firm, or of a particular division or office, in calculating bonuses. The language regarding “compensation based on or otherwise linked to the completion of transactions” is not intended to extend to such profit-sharing arrangements or other compensation practices that account for aggregated profits, as such arrangements would not be expected to incentivize U.S. personnel in a similar manner or to a similar degree as compensation that is directly linked to the success of individual transactions.

In those circumstances, U.S. personnel may provide information to counterparties, pursuant to the proposed guidance, regarding pricing or market conditions associated with particular instruments or with markets more generally, including information regarding current or historic market pricing, volatility or market depth, as well as general trends or predictions regarding those matters and information related to risk management. This should help promote the efficient use of such U.S. personnel without raising concerns that such activity constitutes “arranging” or “negotiating” a security-based swap transaction for purposes of the requirements under Title VII that incorporate the “arranged, negotiated, or executed” test—
i.e.,
requirements related to
de minimis
counting, the cross-border application of business conduct and regulatory reporting and public dissemination requirements, and the cross-border major security-based swap participant rules.
97

97
Nothing in this guidance would restrict the ability of firms to risk manage their security-based swap positions on a global basis.

Separately, in circumstances where the proposed guidance allows for market-facing activity by U.S. personnel without triggering the “arranged, negotiated, or executed” standard, the federal securities laws, including applicable antifraud provisions, still may apply to that activity depending on the particular facts and circumstances.

Under the guidance, U.S. persons could provide market-based information in connection with security-based swap transactions—including but not limited to information regarding pricing, depth of market, and anticipated demand—in support of non-U.S. persons who actually arrange, negotiate and execute those transactions on behalf of their clients.

B. Solicitation of Comments

The Commission is soliciting comment regarding all aspects of this proposed guidance, including whether other approaches would be appropriate—as a supplement to or in lieu of the proposed guidance—to address particular types of market-facing activity that may not raise the concerns that underpinned the “arranged, negotiated, or executed” test. Commenters particularly are invited to address the following:

1. To what extent do non-U.S. persons that engage in security-based swap dealing activity with non-U.S. counterparties make use of U.S. personnel in a market-facing capacity in connection with that dealing activity? What specific types of market-facing activities do such U.S. personnel conduct?

2. Would the proposed guidance provide a workable approach for distinguishing between market-facing activity that falls within the scope of “arranging” and “negotiating” security-based swap transactions and that which does not? Would a different type of Commission action (
e.g.,
exemptive relief or some other approach) be more appropriate?

3. Would the proposed guidance appropriately apply to the use of the “arranged, negotiated, or executed” test in the context of
de minimis
counting, the cross-border application of regulatory reporting and public dissemination, and the cross-border application of business conduct requirements? If not, in which circumstances would the proposed guidance be more or less appropriate when applied to particular requirements?

4. Would the use of U.S. personnel solely to provide “market color” to the counterparties of non-U.S. dealers—such as by providing information regarding pricing or market conditions, including information regarding current or historic pricing, volatility or market depth, and trends or predictions regarding those matters—raise concerns regarding the uniform application of the Title VII security-based swap dealer regime and/or the ability of firms to conduct an unregistered security-based swap dealing business in the United States? Commenters particularly are invited to address any gaps in regulation that may result from guidance that excludes from the test transactions involving such market-facing activity in the United States from the ambit of the various requirements that make use of the “arranged, negotiated, or executed” test, including,
inter alia,
issues associated with the failure to apply security-based swap dealer requirements to those U.S. market-facing activities as a result of excluding certain transactions from the
de minimis
counting requirement.

5. Would the proposed guidance effectively distinguish the types of market-facing activity that appropriately should fall within the “arranged, negotiated, or executed” test from other types of market-facing activity? Alternatively, are different or additional standards appropriate to distinguish between those two types of activity? For example, should the “arranged, negotiated, or executed” test encompass activity by U.S. personnel that involves arranging or finalizing non-pricing aspects of the transaction, such as underlier, notional amounts or tenor, or otherwise play more than a peripheral role with regard to the completion of the transaction? In regard to these issues, commenters are invited to discuss current practices regarding the use of U.S. personnel to provide limited information such as “market color,” including the nature of the information provided, the time of day such information is provided, and the underliers typically associated with that type of activity.

6. Is the proposed distinction between market-facing activity that involves transaction-based compensation of U.S. personnel and market-facing activity that does not involve transaction-based compensation workable in light of existing compensation practices associated with such activity by U.S. personnel? Are there typical compensation practices that would raise interpretive issues regarding the application of the “arranged, negotiated, or executed” test under the guidance? Commenters particularly are requested to discuss firm-specific or other typical arrangements for compensating U.S. personnel of foreign dealing entities in circumstances where the U.S. personnel have some involvement with the firm's transactions with non-U.S. counterparties. Commenters further are requested to address whether firms may restructure their compensation arrangements to rely on this type of guidance, and whether the resulting alternative compensation practices

would incentivize U.S. personnel in a similar manner or to a similar degree as compensation that is linked directly to the success of individual transactions.

7. What other market practices, if any, should the Commission address in any guidance it provides regarding the scope of “arranging” and “negotiating” for purposes of the test?

8. If the Commission separately were to adopt rules providing for an exception from the application of the “arranged, negotiated, or executed” test to the security-based swap dealer
de minimis
counting requirement, pursuant to one of the alternatives being proposed (
see
part III,
infra
), in what circumstances would non-U.S. persons have an incentive to rely on the proposed guidance? For example—and depending on the contours of this guidance—is it possible that such guidance primarily would be used by a non-U.S. person that is not located in a “listed jurisdiction”?
98

Is it possible that such guidance primarily would be used by a non-U.S. person that does not have a U.S. broker-dealer affiliate, or that would prefer to use non-affiliated personnel to engage in such market-facing activities?

98

See
part III.B.5,
infra
(addressing “listed jurisdiction” condition to availability of proposed conditional exception from use of “arranged, negotiated, or executed” test in connection with security-based swap dealer
de minimis
counting provisions).

9. Would the proposed guidance obviate the need for the more general exception to the “arranged, negotiated, or executed” test that the Commission is proposing (related to
de minimis
counting of transactions involving two non-U.S. counterparties)?

10. Are the limits to the proposed guidance sufficient to prevent non-U.S. counterparties that interact with such U.S. personnel from incorrectly presuming that the entire Title VII regulatory framework would apply to the transaction? If not, what additional limits could be appropriate to control that possibility?

11. Could the availability of the proposed market color guidance potentially affect the security-based swap booking practices of U.S. or non-U.S. dealing entities? For example, if this type of guidance were available, would a non-U.S. person that currently uses U.S. personnel to engage in dealing transactions with U.S. and non-U.S. counterparties have the incentive to prospectively book transactions with U.S. counterparties into a registered affiliate, so the non-U.S. person may avoid registering as a security-based swap dealer while still being able to use U.S. personnel to facilitate its dealing transactions with non-U.S. counterparties? If so, would bifurcating dealing books in this way limit the liquidity available to U.S. market participants?

III. Proposed Exception to Rule 3a71-3

A. Purpose

The Commission continues to believe that the use of the “arranged, negotiated, or executed” test appropriately applies the security-based swap dealer
de minimis
counting requirement in connection with transactions involving two non-U.S. counterparties. At the same time, based on the concerns that have been expressed regarding that use of the test, the Commission recognizes that in some circumstances this use of the test, among other possible outcomes, may cause financial groups to relocate U.S. personnel or relocate the activities performed by U.S. personnel, to avoid security-based swap dealer registration, and that such results have the potential to increase fragmentation and harm U.S. market participants and the U.S. economy.
99

99

See
part I.A.4,
supra.
The potential ramifications of this use of the “arranged, negotiated, or executed” test are linked in part to whether market participants in practice would relocate personnel or functions due to this use of the test, as well as to the actual effects of such relocations. Alternative practices by market participants—such as compliance with the counting requirement with no relocation of personnel or functions—may mitigate those ramifications and/or produce other ramifications. Similarly, it is possible that relocation of personnel or functions may not lead to the fragmentation and other consequences that have been described. The Commission is soliciting comment regarding the uses of U.S. personnel in connection with the transactions at issue, and the potential ramifications of not providing this type of exception.
See
parts III.D.1, III.D.2,
infra.

To address that concern, the Commission is soliciting public comment on two alternative proposals for a conditional exception from the use of the “arranged, negotiated, or executed” test in connection with that part of the
de minimis
counting requirement, set forth in Exchange Act Rule 3a71-3(b)(1)(iii)(C).
100

These alternative proposals are intended to protect the policy goals associated with security-based swap dealer regulation by focusing relevant requirements on the arranging, negotiating and executing activity occurring in the United States, while avoiding potentially problematic consequences—such as relocation of personnel outside the United States that may lead to fragmentation that reduces market access available to persons within the United States—that otherwise may be associated with that aspect of the counting requirement.
101

100
The proposed conditional exception to Rule 3a71-3(b)(1)(iii)(C) would have ramifications to the affiliate counting provisions of paragraph (b)(2) of Rule 3a71-3. Paragraph (b)(2) requires persons engaged in security-based swap transactions described in paragraph (b)(1) of the rule—which includes the transactions at issue—also to count certain dealing transactions of affiliates under common control, including transactions described in paragraph (b)(1)(iii) (unless, pursuant to Rule 3a71-4, the affiliate itself is a registered security-based swap dealer or a person in the process of registering as a security-based swap dealer). As a result, transactions subject to the proposed Rule 3a71-3(b)(1)(iii)(C) exception further would not be subject to the paragraph (b)(2) affiliate transaction counting requirement.

Also, Exchange Act Rule 3a71-5 excepts certain cleared anonymous transactions from the individual counting requirement of paragraph (b)(1) of Rule 3a71-3 (which includes the (b)(1)(iii)(C) requirement) and from the affiliate counting requirement of paragraph (b)(2), but the Rule 3a71-5 exception is unavailable to transactions arranged, negotiated, or executed by U.S. personnel. Because the proposed exception to (b)(1)(iii)(C) would prevent the transactions at issue from triggering either the (b)(1) or (b)(2) counting requirements, the Rule 3a71-5 exception would not be relevant to those transactions.

101
In practice, the proposed exception would affect the set of dealing transactions that a non-U.S. person must include within the 12-month lookback for determining whether it can avail itself of the
de minimis
exception from the “security-based swap dealer” definition. Exchange Act Rule 3a71-2(a)(1) determines the availability of the
de minimis
exception based on whether a person's security-based swap dealing activity over the prior 12 months is below the applicable notional threshold, and the cross-border counting provisions of Exchange Act Rule 3a71-2(b) (including the “arranged, negotiated, or executed” provision of Rule 3a71-3(b)(1)(iii)(C)) partially determine which positions must be counted pursuant to Rule 3a71-2(a)(1).

The structure of the
de minimis
counting provisions also would make this proposed exception available to non-U.S. persons that are registered as security-based swap dealers. In particular, Exchange Act Rule 3a71-2(c) (in conjunction with paragraph (a) of that rule) provides that a security-based swap dealer may apply to withdraw its registration if it has been registered for at least 12 months and its dealing activity over the preceding 12 months is below the applicable
de minimis
thresholds. Because the proposed exception from the “arranged, negotiated, or executed” counting requirement of Rule 3a71-3(b)(1)(iii)(C) would cause the transactions at issues not to be counted against the applicable thresholds, a registered security-based swap dealer could rely on the exception to make use of the withdrawal provision. The Commission is soliciting comment regarding whether the proposed exception should be modified to make it unavailable to registered security-based swap dealers.
See
part III.D.10,
infra.

The first alternative proposal (Alternative 1) conditionally would permit a non-U.S. person not to count the security-based swap dealing transactions at issue against the
de minimis
thresholds so long as all arranging, negotiating or executing activity within the United States is performed by personnel associated with an affiliated entity that is registered with the Commission as a security-based swap dealer. The second alternative proposal (Alternative 2) would be broader than the first alternative by also allowing for activity

in the United States to be performed by personnel associated with an affiliate that is registered with the Commission as a broker (or, as with the first alternative, that is registered as a security-based swap dealer). As discussed in further detail below, under either alternative the non-U.S. person and the affiliated registered entity would have to comply with certain conditions related to business conduct, trade acknowledgments, portfolio reconciliation, disclosure, records, and financial responsibility.

The proposed exception may be particularly relevant, for example, for financial groups that use one or more non-U.S. dealing entities to transact (
i.e.,
book transactions directly) with Canadian or Latin American counterparties, but that manage the trading or sales relationships with those counterparties out of an affiliated entity in the United States—whether for customer convenience, for more direct access to the market in which the underliers are traded, or for operational or other reasons. Under the proposed exception, transactions that are booked by the foreign dealing entity but arranged, negotiated or executed by personnel associated with an affiliated registered entity in the U.S. generally would not be counted toward the foreign entity's
de minimis
threshold, and the entity accordingly would not be required to register as a security-based swap dealer by virtue of those transactions.
102

Antifraud provisions of the federal securities laws and certain relevant Title VII requirements would continue to apply to the transaction—
e.g.,
transaction reporting and the prohibitions in Section 5(e) of the Securities Act of 1933 and Section 6(l) of the Exchange Act with respect to transactions with counterparties that are not eligible contract participants (“ECPs”). The Commission preliminarily believes that this approach would appropriately balance the application of Title VII requirements to any risks presented by the activity while reducing the likelihood of market fragmentation that otherwise might arise if the foreign dealing entity were subject to requirements that are not tailored to the associated risks.

102
Other dealing activity of that foreign entity, such entering into security-based swap transactions with U.S. person counterparties, may cause the entity to exceed the
de minimis
threshold and thus have to register as a security-based swap dealer. The foreign entity also would be subject to provisions requiring it to count certain dealing transactions of its affiliates.
See
notes 13 and 100,
supra
(addressing other prongs of the cross-border
de minimis
counting test).

As discussed below, although the proposed exception would subject arranging, negotiating and executing activity in the United States to certain Title VII requirements, the exception would not fully apply certain other requirements, such as financial responsibility requirements, in connection with security-based swaps resulting from that U.S. activity. On balance, the Commission preliminarily believes that the conditions that have been proposed for the exception would mitigate any potential negative consequences that otherwise might arise from tailoring the security-based swap dealer requirements that apply to those activities.

In making this proposal, the Commission is mindful that U.S.-based dealing entities may use this type of exception to structure their booking practices to manage the application of Title VII to their security-based swap dealing business—
e.g.,
by booking dealing transactions with non-U.S. counterparties into their non-U.S. affiliates, to reduce the application of Title VII security-based swap dealer requirements to those transactions. The Commission is soliciting comment regarding the potential effect of the proposed exception on booking practices, and further address those potential consequences as part of the economic analysis.
103

103

See
parts III.D.9 (solicitation of comment), VII.A.7 (estimate of persons that may rely on proposed exception) and VII.B.1 (addressing costs and benefits of the proposed amendment),
infra.

B. Alternative 1—First Alternative Proposed Conditional Exception

The Commission is proposing to amend Exchange Act Rule 3a71-3 to incorporate a conditional exception from the “arranged, negotiated, or executed” counting standard under conditions that would apply a focused alternative method of regulation to the transactions at issue. The proposal recognizes that certain arranging, negotiating or executing activity involving U.S. personnel warrants Title VII oversight, but also recognizes that U.S. activity in connection with transactions between two non-U.S. persons may not implicate the same types of risks to U.S. persons and to U.S. markets as other types of dealing activity in the United States. The proposed exception hence is intended to more closely align the application of Title VII oversight to the U.S. market concerns associated with such transactions between non-U.S. persons.

Proposed new paragraph (d) of Exchange Act Rule 3a71-3 would incorporate this conditional exception.
104

Under Alternative 1, this paragraph (d) would except a non-U.S. person from having to count transactions arranged, negotiated or executed in the United States for purposes of the security-based swap dealer definition, subject to the following conditions:

104
Apart from adding a conditional exception as new paragraph (d) of Rule 3a71-3, proposed Alternative 1 (as well as proposed Alternative 2) would amend the introductory language of paragraph (b)(1)(iii)(C) of Rule 3a71-3, to specify that the “arranged, negotiated, or executed” counting requirement is subject to the conditional exception.

• All such arranging, negotiating and executing activity in the United States would be conducted by personnel located in a U.S. branch or office in their capacity as associated persons of a majority-owned affiliate that is registered with the Commission as a security-based swap dealer;

• That registered security-based swap dealer would comply with specific requirements applicable to security-based swap dealers as if the entity were a counterparty to the non-U.S. person's counterparties;

• The Commission could access relevant books, records and testimony of the non-U.S. person, and the registered security-based swap dealer would be required to maintain records related to the transaction;

• The non-U.S. person would consent to service of process for any civil action brought by or proceeding before the Commission;

• The registered security-based swap dealer would provide certain disclosures to the counterparties of the non-U.S. person; and

• The non-U.S. person would be subject to the margin and capital requirements of a “listed jurisdiction.”

For the reasons set forth below, the Commission preliminarily believes that an exception that incorporates those elements would apply security-based swap dealer requirements to arranging, negotiating or executing activity in the United States, allow for Commission access to related books and records, and eliminate incentives to alter transaction booking practices to avoid security-based swap dealer registration, in a manner that appropriately addresses the scope of the regulatory concerns raised by this type of U.S. activity.
105

105
The conditional exception would address only the Rule 3a71-3(b)(1)(iii)(C) requirement that non-U.S. persons count transactions that involve dealing activity in the United States. Rule 3a71-3 would continue to require non-U.S. persons to count all of their security-based swap dealing transactions with U.S. counterparties, and all of their security-based swap dealing transactions that are guaranteed by their U.S. affiliates.

The Commission preliminarily believes that this type of arranging, negotiating or executing conduct associated with security-based swap transactions also would generally constitute “broker” activity under the Exchange Act. Entities engaged in such conduct accordingly would be required to register with the Commission as brokers unless they can avail themselves of an exception from broker status, such as the exception for bank brokerage activity, or an exemption from broker registration.
106

106

See generally
note 21,
supra
(addressing application of “broker” and “security” definitions in the security-based swap context).

1. U.S. Activity Conducted by a Majority-Owned Registered Security-Based Swap Dealer Affiliate

Under Alternative 1, the arranging, negotiating and executing activity by U.S. personnel that otherwise would need to be counted but for the exception must be conducted by such personnel in their capacity as persons associated with an entity that is: (a) Registered as a security-based swap dealer, and (b) a majority-owned affiliate
107

of the non-U.S. person relying on the exception.
108

107
Proposed paragraph (a)(10) would define the term “majority-owned affiliate” to encompass a relationship whereby one entity directly or indirectly owns a majority interest in another, or where a third party directly or indirectly owns a majority interest in both, where “majority interest” reflects voting power, the right to sell, or the right to receive capital upon dissolution or the contribution of capital.

108

See
Alternative 1—proposed paragraph (d)(1)(i) of Rule 3a71-3. Exchange Act Section 3(a)(70) defines the term “person associated with a security-based swap dealer or major security-based swap participant” to encompass,
inter alia,
partners, officers, directors, employees and persons controlling, control

[Text truncated at 120,000 characters. The full text is on the page linked above.]

---

Source: Frix Law Library, https://www.frixlaw.com/law-library/documents/fr%3A2019-10016. Public record. Not legal advice.