United States: US FDIC And SEC Propose Rules To Govern The Orderly Liquidation Of Covered Broker-Dealers Under Title II Of The Dodd-Frank Act

On February 17, 2016, the Federal Deposit Insurance Corporation ("FDIC") and the Securities and Exchange Commission ("SEC") (collectively, the "agencies") jointly proposed a rule to supplement the statutory provisions of Title II of the Dodd-Frank Act (the "Orderly Liquidation Authority" or "OLA") that govern the orderly liquidation of a "covered broker or dealer"—i.e., an SEC-registered broker or dealer that is a member of the Securities Investor Protection Corporation ("SIPC") and for which a systemic risk determination to trigger the application of the OLA has been made.1 The proposed rule would clarify the relationship between the OLA and the Securities Investor Protection Act ("SIPA"), and between the FDIC and SIPC. The proposed rule recapitulates relevant provisions of the OLA (with some variations from the statutory text) and sets forth more detailed processes for:

  • Initiating the orderly liquidation;
  • Transferring customer and non-customer accounts and assets to a bridge broker-dealer; and
  • Determining the claims of customers and other creditors.

Other provisions of the proposed rule:

  • Address priorities for unsecured claims against a covered broker or dealer, including unsatisfied, allowed net equity claims of customers and administrative expenses of SIPC;
  • Define the term "administrative expenses of SIPC"; and
  • Reiterate Section 205(b)(4) of the OLA, which provides that the rights and obligations of any party to a qualified financial contract ("QFC") to which a covered broker or dealer is a party shall be governed exclusively by Section 210 of the OLA, which includes a temporary stay on the exercise of close-out rights against the covered broker or dealer.

In the agencies' view, the proposed rule would foster greater predictability and consistency in the liquidation of covered brokers or dealers than relying on the statutory provisions alone, while not affecting the set of options available or the range of possible outcomes. The agencies note, in particular, that changes from the definitions in the OLA and SIPA are intended to promote clarity and not to change meaning. We highlight below several key features of the proposed rule. Readers are referred to agencies' notice of proposed rulemaking for further information. Comments on the proposed rulemaking are due on or before May 2, 2016.

Initiation of the OLA Proceeding

Section 205(a) of the OLA directs the FDIC, upon its appointment as receiver, to appoint SIPC "to act as trustee for the liquidation under [SIPA] of the covered broker or dealer."2 SIPC must then promptly file an application for a protective decree, the terms of which are to have been jointly determined by SIPC and the FDIC in consultation with the SEC. The proposed rule specifies that the notice and application for protective decree with respect to the covered broker or dealer is to be filed in the federal district court for the district in which the principal place of business of the covered broker or dealer is located or, if a case or proceeding under SIPA is then pending, the federal district court in which such case or proceeding is pending. The filing date of such notice and application (which has significance under SIPA for, inter alia, the computation of net equity) is deemed to be the date of appointment of the FDIC as receiver.

Also set out in the proposed rule is a non-exclusive, non-mandatory list of notifications, which may be provided in the notice and application for protective decree, about OLA provisions pertaining to: (i) dismissal of any existing Bankruptcy Code or SIPA case or proceeding with respect to the covered broker or dealer; (ii) revesting of assets in the covered broker or dealer; (iii) requests of the FDIC, as receiver, for a stay in certain judicial actions or proceedings affecting the covered broker or dealer; (iv) consent of the FDIC as receiver, upon consultation with SIPC, being required for the exercise of certain termination, default and other rights against the covered broker or dealer (except as otherwise provided with respect to QFCs) during the 90-day period beginning from the appointment date; and (v) effects of the OLA on the rights and remedies of parties to QFCs with the covered broker or dealer.

Transfers to a Bridge Broker-Dealer

The proposed rule recapitulates the FDIC's statutory obligation, if it establishes a bridge broker-dealer, to transfer all customer accounts and all associated customer name securities and customer property to the bridge broker-dealer unless certain exceptions apply. A contiguous subsection of the proposed rule recapitulates the FDIC's power, pursuant to section 210(h) of the OLA, to transfer any other assets and liabilities (including any assets and liabilities associated with any trust or custody business), and clarifies that such other assets and liabilities include "non-customer accounts and any associated property." Separately, the proposed rule states that determinations of customer status are to be made by SIPC as trustee in accordance with SIPA. According to the proposing release, this treatment "stresses that customer status is determined by SIPC separately from the decision to transfer an asset to a bridge broker-dealer" and could help prevent confusion on the part of non-customer creditors who may "mistakenly interpret ... that such a transfer confers customer status (especially since in a SIPA proceeding only customer assets are transferred)."

Allocations of customer property and SIPC advances to customer accounts at the bridge broker-dealer may initially be based upon estimates, which may be based upon the books and records of the covered broker or dealer or any other information deemed relevant in the discretion of the FDIC, as receiver, in consultation with SIPC, as trustee. Such estimates may be adjusted from time to time as additional information becomes available.

Claims of Customers and Other Creditors

SIPC, as trustee, is to determine (generally in accordance with SIPA) customer status, claims for net equity, claims for customer name securities, and whether property of the covered broker or dealer qualifies as customer property. The FDIC, as receiver, will determine whether to allow or disallow a claim, in whole or in part, "utiliz[ing] the determination made by SIPC, as trustee, in a manner consistent with SIPC's customary practices in a liquidation under SIPA, with respect to any claim for net equity or customer name securities." SIPC will make advances to customers in accordance with SIPA. Where appropriate, SIPC will make such advances by delivering cash or securities to the customer accounts established at the bridge broker-dealer.

The proposed rule would codify, in language that differs in some respects from the statute,3 the requirement under Section 205(f) of the OLA that customer claims be satisfied in a manner and amount at least as beneficial to the customer as would have been the case had the actual proceeds realized in the OLA liquidation been distributed in a SIPA proceeding. Additionally, the proposed rule addresses procedures for filing a claim, the claims bar date, the receiver's decision period for claims allowance (including a provision that makes expedited 90-day review under Section 210(a)(5) of the OLA inapplicable to customer claims), and judicial review.

Qualified Financial Contracts

In language substantially mirroring Section 205(b)(4) of the OLA, the proposed regulation provides:

The rights and obligations of any party to a qualified financial contract to which a covered broker or dealer is a party shall be governed exclusively by [Section 210 of the OLA], including the limitations and restrictions contained in [Section 210(c)(10)(B)], and any regulations promulgated thereunder.

The limitation contained in Section 210(c)(10)(B) is a stay on the exercise of ipso facto rights to terminate, liquidate or net a QFC until 5:00 p.m. (eastern time) on the business day following the appointment of the FDIC as receiver, or after the person has received notice that the QFC has been transferred to a qualifying transferee (which could be the bridge broker-dealer) pursuant to Section 210(c)(9)(A). In the cost-benefit analysis, the proposing release states without further explanation that "[a]s proposed, the stay would remain in effect if the QFC contracts are transferred to a bridge broker-dealer," adding that "[w]hile these provisions may impose costs, they are a consequence of the statute and are already in effect."


1. Covered Broker-Dealer Provisions under Title II of the Dodd-Frank Wall Street Reform and Consumer Protection Act, 81 Fed. Reg. 10798 (March 2, 2016). Section 205(h) of the OLA requires joint rulemaking by the SEC and the FDIC, after consultation with SIPC, to implement Section 205, which sets out the principal OLA provisions relating to covered brokers or dealers.

2. The proposed rule omits the phrase "for the liquidation under [SIPA]" in order to clarify that "in reality there is no proceeding under SIPA and the covered broker-dealer is being liquidated under Title II." A SIPA proceeding would be conducted under bankruptcy court supervision, whereas an OLA proceeding is an administrative process.

3. Section 205(f) of the OLA refers to certain obligations of the FDIC in respect of the SIPA baseline for satisfying customer claims, whereas the corresponding provision in the proposed rule refers only to SIPC's allocation of customer property, advances, and delivery of customer name securities.

Originally published 10 March 2016

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