Broker-Dealer Examination Program
The Securities Division (the "Division") conducts examinations of state-registered broker-dealers and of their offices both within Connecticut and outside of the state. The purpose of the examination program is to help protect investors and ensure compliance with regulatory and legal duties relative to state securities law. We hope that this summary will provide broker-dealers with an insight into our examination process and spotlight some of the issues the Division will review during an inspection.
How Are Examinations Selected?
The Division's examination schedule is based on a variety of factors. Factors considered when scheduling an examination include: the nature of the registrant's business, as well as the type of products offered; the disciplinary history of the registrant; the existence of customer complaints; past and present regulatory problems of employees; whether the broker-dealer holds customer funds and/or securities; the length of time the firm has been registered; past examination history; the type of advertisements utilized by the firm; and referrals from other regulators.
Are Broker-Dealers Notified In Advance of Examinations?
If you or your firm are to be examined, Division staff will arrive at your place of business unannounced. The staff does not, as a normal course of business, schedule appointments. Examinations may last a day or longer and, if the location also serves as a state-registered investment adviser, the staff will examine the records of that entity as well.
What Should I Expect During an Examination?
During the exam, Division staff will typically conduct interviews of staff and management, review records and generally analyze the firm's operations. Examiners will often ask for access to any and all records including computer data maintained by the registrant that relates to its business as a broker-dealer. An examiner will also want to review the records where they are being maintained in order to review them in their "natural state."
During examinations, the staff will, in part, focus on sales practice issues (such as suitability, unauthorized transactions, etc.) in an attempt to prevent the possible mishandling of customer accounts. The examiners will be looking for irregularities or "red flags" that could indicate the firm might be engaging in conduct that violates state securities laws.
What Will Be The Focus of The Examination?
During our examinations, we review a number of different areas, including the firm's supervisory systems and internal controls.
Supervisory systems:
- The amount of supervision provided by branch managers, especially if the manager is involved in production.
- Types of monitoring of customer accounts to ensure the suitability of products recommended to clients, whether churning is an issue, and whether all trading is authorized
- Market manipulation as well as market-making sales practices
- Potential theft of clients funds when processing checks received from and disbursed to clients,
- Analyst conflicts of interest
- Proper registration of all personnel
- Proper filings with the state
- Handling of customer complaints and/or litigation
- Concentration of complaints
- Type of product
- Type of sales practice
- Certain individual(s)
Review all records pertaining to a broker-dealer's business:
- Compliance/Supervisory Procedures Manual
- Commission Reports
- Activity/Exception Report
- Advertising file including web sites, pamphlets and brochures
- All incoming and outgoing correspondence including e-mails
- Complaint file
- Litigation file
- Copy of correspondence relating to any Internal Audits
- Previous NASD and/or SEC exams
- List of Discretionary Accounts w/ Trading Authorizations
- List of names and positions of every employee assigned to the office along with their business cards
- List of employees that have left the firm within the past 12 months along with the reason for termination
- Client trade confirmations
- Client brokerage statements
- Securities Holding Records by client
- Security cross-reference
- Order Tickets
- Personal securities transactions (employee/related accounts)
- New Account Forms, Margin Agreements, and Option Agreements
- Outside Business Activity Forms
- Employee Files
- Client Files
- Error files
- Cash receipts, daily deposits
Types of Deficiencies Often Found
Deficiencies identified during examinations range from basic record-keeping problems to sloppy compliance practices to more serious violations such as misrepresentations, conflicts of interest, market manipulation and other more egregious sales practice abuses. The following is a general list of such deficiencies:
- Branch offices failing to comply with the firm's supervisory procedures
- Denying access to firm records
- Failing to properly register individuals
- Executing transactions in customers' accounts for which the representative has not taken the appropriate qualifying test
- Selling of unregistered non-exempt securities
- Failing to register the branch location
- Failing to file Form DBA
- Maintaining inaccurate firm records such as incorrect orders tickets and confirmations
- Inadequate supervisory procedures regarding Internet, e-mail and Web site use by representatives
- Sharing commissions with unregistered individuals
- Making unsuitable recommendations in retail customer accounts
- Selling investment products away from the employing broker-dealer
Concluding an Examination
After completion of the examination, Division staff will usually sit down with the broker-dealer's designee and discuss any problems and issues that may have been uncovered. This is also an opportunity for the firm to ask any questions of staff. After the examiner leaves, if deficiencies or potential problems were discovered, a follow-up letter will be sent. This letter will require a response, in writing, to the department stating how the deficiencies will be corrected. If no deficiencies or issues are noted during an examination, the Division will not issue a letter and the examination file will be closed.
What Happens if A Problem Is Discovered?
The resolution of problems discovered during an examination will be contingent on their severity. In some instances, an issue(s) may be corrected at the time of the examination and, in other cases, the Division may conduct a follow-up examination. As stated previously, a broker-dealer will generally receive a letter from the Division in the event deficiencies or issues are noted during an examination. In a small number of cases where more severe violations have occurred, a broker-dealer can be subject to administrative orders, fines and civil/criminal penalties.
Disclaimer
This discussion of the Division's examination process has been provided as a courtesy to industry. It should not be considered a complete guide to the Division's regulatory program, nor should the information provided be considered a substitute for the official statutes and regulations that pertain to broker-dealers. Do not rely solely upon this page for guidance! If you have specific questions, please call the Division at (860) 240-8230 or toll free at 1-800-831-7225. Thank you!