CHAPTER 305. DENIAL, SUSPENSION, REVOCATION AND
CONDITIONING OF REGISTRATION

§ 305.011. Supervision of agents, investment adviser representatives and employees.

 (a)  Every broker-dealer and investment adviser registered under section 301 of the act (70 P. S. §  1-301) shall exercise diligent supervision over the securities activities and securities related activities of its agents, investment adviser representatives and employees.

   (1)  Each broker-dealer and investment adviser, in exercising diligent supervision, shall establish and maintain written procedures and a system for applying and enforcing those written procedures which are reasonably designed to achieve compliance with the act and this title and to detect and prevent any violations of statutes, rules, regulations or orders described in section 305(a)(v) and (ix) of the act (70 P. S. §  1-305(a)(v) and (ix)), the Conduct Rules of the National Association of Securities Dealers, Inc., or any applicable fair practice or ethical standard promulgated by the United States Securities and Exchange Commission or by a National Securities Exchange registered under the Securities Exchange Act of 1934 (15 U.S.C.A. § §  78a—78kk).

   (2)  Final responsibility for proper supervision shall rest with the broker-dealer and investment adviser.

 (b)  Every issuer who employs agents registered under section 301 of the act shall be subject to the supervision requirements of subsection (a) with respect to those agents.

 (c)  As evidence of compliance with the supervisory obligations imposed by this section, every broker-dealer and investment adviser shall implement written procedures, a copy of which shall be kept in each location at which the broker-dealer or investment adviser conducts business, and shall establish, maintain and enforce those written procedures designed to achieve compliance with the act and this title and to detect and prevent violations described in subsection (a). These written procedures, at a minimum, shall address:

   (1)  The supervision of every agent, investment adviser representative, employee and supervisor by a designated qualified supervisor.

   (2)  Methods to be used to determine that all supervisory personnel are qualified by virtue of character, experience and training to carry out their assigned responsibilities.

   (3)  Methods to be used to determine the good character, business repute, qualifications, and experience of any person prior to making application for registration of that person with the Commission and hiring that person.

   (4)  The review and written approval by the designated supervisor of the opening of each new customer account.

   (5)  The frequent examination of customer accounts to detect and prevent violations, irregularities or abuses.

   (6)  The prompt review and written approval of the handling of customer complaints.

   (7)  The prompt review and written approval by the designated supervisor of all securities transactions and all correspondence pertaining to the solicitation or execution of all securities transactions.

   (8)  The review and written approval by the designated supervisor of the delegation by a customer of discretionary authority with respect to the customer’s account and frequent examination of discretionary accounts to prevent violations, irregularities or abuses.

   (9)  The participation of each agent and investment adviser representative either individually or collectively, no less than annually, in an interview or meeting conducted by persons designated by the broker-dealer or investment adviser at which compliance matters relevant to the activities of the agents and investment adviser representatives are discussed. Written records shall be maintained reflecting the interview or meeting.

   (10)  The periodic inspection of each location in this Commonwealth from which business is conducted to ensure that the written procedures and systems are enforced. In establishing an inspection cycle, the broker-dealer and investment adviser shall give consideration to the nature and complexity of the securities activities for which the location is responsible, the volume of business done and the number of agents or investment adviser representatives assigned to the location. The obligation of diligent supervision required by this section may require that one or more locations of a broker-dealer or investment adviser in this Commonwealth receive more inspections or be on a periodic inspection cycle different than other locations of the broker-dealer or investment adviser in this Commonwealth and that inspections be unannounced. In acquitting their obligations under this section, registrants are to consult NASD Notice to Members 98-38 (May 1998) and SEC Release No. 34-38174 (January 15, 1997). In accordance with NASD Notice to Members 98-38, unannounced visits may be appropriate when there are indicators of misconduct such as receipt of significant customer complaints; personnel with disciplinary records; or excessive trade corrections, extensions, liquidations, or variable contract replacements.

     (i)   An office of supervisory jurisdiction of a broker-dealer shall be inspected at least annually. Branch offices and nonbranch locations of a broker-dealer shall be inspected in accordance with an inspection cycle established in the broker-dealer’s written supervisory procedures.

     (ii)   It is the responsibility of the broker-dealer or investment adviser to ensure through inspections of each location in this Commonwealth that the written procedures and systems are enforced and the supervisory obligations imposed by this section are being honored.

     (iii)   Written records shall be maintained reflecting each inspection conducted.

     (iv)   For purposes of this section, the terms ‘‘office of supervisory jurisdiction’’ and ‘‘branch office’’ shall have the same meaning as those terms are defined in NASD Conduct Rule 3010(g) or any successor thereto. The term ‘‘nonbranch location’’ means any location at which a broker-dealer is conducting a securities business that does not come within the definition of ‘‘office of supervisory jurisdiction’’ or ‘‘branch office.’’

 (d)  Records required to be maintained under this section shall be maintained for 5 years, the first 2 years being in an easily accessible place. The retention and preservation of records may be on microfilm, computer disks or tapes or other electronic medium if adequate facilities are maintained for examination of facsimiles.

 (e)  To the extent that this section imposes any recordkeeping requirement on an investment adviser registered under section 301 of the act (70 P. S. §  1-301), the recordkeeping requirement does not apply if the investment adviser meets the following conditions:

   (1)  Has its principal place of business in a state other than this Commonwealth.

   (2)  Is licensed as an investment adviser in the state where it has its principal place of business.

   (3)  Is in compliance with the recordkeeping requirements of the state in which it has its principal place of business.

   The provisions of this §  305.011 amended under sections 305(a) and (f) and 609(a) of the Pennsylvania Securities Act of 1972 (70 P. S. § §  1-305(a) and (f) and 1-609(a)).

   The provisions of this §  305.011 adopted March 29, 1974, effective March 30, 1974, 4 Pa.B. 583; amended September 1, 2000, effective September 2, 2000, 30 Pa.B. 4551; amended July 11, 2003, effective July 12, 2003, 33 Pa.B. 3365. Immediately preceding text appears at serial pages (268845) to (268847).

   Standard of Care

 The term ‘‘convicted,’’ as used in section 305(a)(ii) of the act (70 P. S. §  1-305(a)(ii)), includes a verdict, judgment or plea of guilty, or a finding of guilt on a plea of nolo contendere if the verdict, judgment, plea or finding has not been reversed, set aside or withdrawn, whether or not sentence has been imposed.

   The provisions of this §  305.012 amended under sections 305(a) and 609(a) of the Pennsylvania Securities Act of 1972 (70 P. S. § §  1-305(a) and 1-609(a)).

 (a)  Every person registered under section 301 of the act (70 P. S. §  1-301) is a fiduciary and has a duty to act primarily for the benefit of its customers. Further, these persons shall observe high standards of commercial honor and just and equitable principals of trade in the conduct of their business.

 (b)  Under section 305(a)(ix) of the act (70 P. S. §  1-305(a)(ix)), the Commission may deny, suspend, condition or revoke a broker-dealer, agent, investment adviser or investment adviser representative registration or censure a broker-dealer, agent, investment adviser or investment adviser representative registrant if the registrant or applicant, or in the case of any broker-dealer or investment adviser, any affiliate thereof, has engaged in dishonest or unethical practices in the securities business or has taken unfair advantage of a customer.

 (c)  The Commission, for purposes of section 305(a)(ix) of the act, will consider the actions in paragraphs (1)—(3) to constitute dishonest or unethical practices in the securities business or taking unfair advantage of a customer. The conduct described in paragraphs (1)—(3) is not exclusive. Engaging in other conduct inconsistent with the standards in subsection (a), such as forgery, embezzlement, nondisclosure, incomplete disclosure or misstatement of material facts, or manipulative or deceptive practices or taking unfair advantage of a customer or former customer in any aspect of a tender offer also constitute grounds for denial, suspension, conditioning or revocation of any registration or application for registration of a broker-dealer, agent, investment adviser or investment adviser representative.

   (1)  Broker-dealers. Includes the following actions:

     (i)   Engaging in a pattern of unreasonable and unjustifiable delays in the delivery of securities purchased by any of its customers or in the payment upon request of free credit balances reflecting completed transactions of any of its customers.

     (ii)   Inducing trading in a customer’s account which is excessive in size or frequency in view of the financial resources and character of the account.

     (iii)   Recommending to a customer the purchase, sale or exchange of a security without reasonable grounds to believe that the transaction or recommendation is suitable for the customer based upon reasonable inquiry concerning the customer’s investment objectives, financial situation and needs and other relevant information known by the broker-dealer.

     (iv)   Executing a transaction on behalf of a customer without authorization to do so.

     (v)   Exercising discretionary power in effecting a transaction for a customer’s account without first obtaining written discretionary authority from the customer, unless the discretionary power relates solely to the time or price, or both, for the execution of orders.

     (vi)   Executing a transaction in a margin account without securing from the customer a properly executed written margin agreement promptly after the initial transaction in the account.

     (vii)   Failing to segregate customers’ free securities or securities held in safekeeping.

     (viii)   Hypothecating a customer’s securities without having a lien thereon unless the broker-dealer secures from the customer a properly executed written consent promptly after the initial transaction, except as permitted by rules of the Securities and Exchange Commission.

     (ix)   Entering into a transaction with or for a customer at a price not reasonably related to the current market price of the security or receiving an unreasonable commission or profit.

     (x)   Failing to furnish to a customer purchasing securities in an offering, no later than the date of confirmation of the transaction, either a final prospectus or a preliminary prospectus and an additional document, which together include information set forth in the final prospectus.

     (xi)   Charging unreasonable and inequitable fees for services performed, including miscellaneous services such as collection of moneys due for principal, dividends or interest, exchange or transfer of securities, appraisals, safekeeping or custody of securities and other services related to its securities business.

     (xii)   Offering to buy from or sell to a person at a stated price unless the broker-dealer is prepared to purchase or sell at a price and under the conditions that are stated at the time of the offer to buy or sell.

     (xiii)   Representing that a security is being offered to a customer ‘‘at the market’’ or a price relevant to the market price unless the broker-dealer knows or has reasonable grounds to believe that a market for the security exists other than that made, created or controlled by the broker-dealer, or by a person for whom the broker-dealer is acting or with whom is associated in the distribution, or a person controlled by, controlling or under common control with the broker-dealer.

     (xiv)   Effecting a transaction in, or inducing the purchase or sale of, a security by means of a manipulative, deceptive or fraudulent device, practice, plan, program, design or contrivance, which may include:

       (A)   Effecting a transaction in a security which involves no change in the beneficial ownership thereof.

       (B)   Entering an order for the purchase or sale of a security with the knowledge that an order of substantially the same size, at substantially the same time and substantially the same price, for the sale of the security, has been or will be entered by or for the same or different parties for the purpose of creating a false or misleading appearance of active trading in the security or a false or misleading appearance with respect to the market for the security. Nothing in this subsection prohibits a broker-dealer from entering bona fide agency cross transactions for its customers.

       (C)   Effecting, along or with one or more other persons, a series of transactions in a security creating actual or apparent active trading in the security or raising or depressing the price of the security, for the purpose of inducing the purchase or sale of the security by others.

     (xv)   Guaranteeing a customer against loss in a securities account of the customer carried by the broker-dealer or in a securities transaction effected by the broker-dealer with or for the customer.

     (xvi)   Publishing or circulating, or causing to be published or circulated, a notice, circular, advertisement, newspaper article, investment service or communication of any kind which purports to report a transaction as a purchase or sale of a security unless the broker-dealer believes that the transaction was a bona fide purchase or sale of the security; or which purports to quote the bid price or asked price for a security, unless the broker-dealer believes that the quotation represents a bona fide bid for, or offer of, the security.

     (xvii)   Using advertising or sales presentation in such a fashion as to be deceptive or misleading. An example of this practice would be a distribution of nonfactual data, material or presentation based on conjecture, unfounded or unrealistic claims or assertions in a brochure, flyer or display by words, pictures, graphs or otherwise designed to supplement, detract from, supersede or defeat the purpose or effect of a prospectus or disclosure.

     (xviii)   Failing to disclose that the broker-dealer is controlled by, controlling, affiliated with or under common control with the issuer of a security before entering into a contract with or for a customer for the purchase or sale of the security, the existence of the control to the customer, and if the disclosure is not made in writing, it shall be supplemented by the giving or sending of written disclosure at or before the completion of the transaction.

     (xix)   Failing to make a bona fide public offering of all of the securities allotted to a broker-dealer for distribution, whether acquired as an underwriter, a selling group member or from a member participating in the distribution as an underwriter or selling group member.

     (xx)   Failure or refusal to furnish a customer, upon reasonable request, information to which he is entitled, or to respond to a formal written request or complaint.

     (xxi)   Failing to comply with an applicable provision of the Rules of Fair Practice of the National Association of Securities Dealers or an applicable fair practice or ethical standard promulgated by the Securities and Exchange Commission or by a self-regulatory organization approved by the Securities and Exchange Commission.

     (xxii)   Failing to comply with investor suitability standards imposed as a condition of the registration of securities under section 205 or 206 of the act (70 P. S. §  1-205 or §  1-206) in connection with the offer, sale or purchase of a security in this Commonwealth.

   (2)  Agents. Includes the following actions:

     (i)   Engaging in the practice of lending or borrowing money or securities from a customer, or acting as a custodian for money, securities or an executed stock power of a customer.

     (ii)   Effecting securities transactions not recorded on the regular books or records of the broker-dealer which the agent represents, unless the transactions are authorized in writing by the broker-dealer prior to execution of the transaction.

     (iii)   Establishing or maintaining an account containing fictitious information in order to execute transactions which would otherwise be prohibited.

     (iv)   Sharing directly or indirectly in profits or losses in the account of a customer without the written authorization of the customer and the broker-dealer which the agent represents.

     (v)   Dividing or otherwise splitting the agent’s commissions, profits or other compensation from the purchase or sale of securities with a person not also registered as an agent for the same broker-dealer, or for a broker-dealer under direct or indirect common control.

     (vi)   Engaging in conduct specified in paragraph (1)(ii)—(vi), (ix), (x), (xiv)—(xvii), (xxi) and (xxii).

   (3)  Investment advisers and investment adviser representatives. Includes the following actions:

     (i)   Recommending to a client to whom investment supervisory, management or consulting services are provided the purchase, sale or exchange of a security without reasonable grounds to believe that the recommendation is suitable for the client on the basis of information furnished by the client after reasonable inquiry concerning the client’s investment objectives, financial situation and needs, and any other information known by the investment adviser or investment adviser representative.

     (ii)   Exercising any discretionary power in placing an order for the purchase or sale of securities for a client without obtaining written discretionary authority from the client within 10 business days after the date of the first transaction placed under oral discretionary authority, unless the discretionary power relates solely to the price at which, or the time when, an order involving a definite amount of a specified security shall be executed, or both.

     (iii)   Inducing trading in a client’s account that is excessive in size or frequency in view of the financial resources, investment objectives and character of the account.

     (iv)   Placing an order to purchase or sell a security for the account of a client without authority to do so.

     (v)   Placing an order to purchase or sell a security for the account of a client upon instruction of a third party without first having obtained a written third-party trading authorization from the client.

     (vi)   Borrowing money or securities from a client unless the client is a broker-dealer, an affiliate of the investment adviser, or a financial institution engaged in the business of loaning funds.

     (vii)   Loaning money to a client unless the investment adviser is a financial institution engaged in the business of loaning funds or the client is an affiliate of the investment adviser.

     (viii)   Misrepresenting to an advisory client, or prospective advisory client, the qualifications of the investment adviser, investment adviser representative or an employee of the investment adviser or misrepresenting the nature of the advisory services being offered or fees to be charged for the service, or to omit to state a material fact necessary to make the statements made regarding qualifications, services or fees, in light of the circumstances under which they are made, not misleading.

     (ix)   Providing a report or recommendation to an advisory client prepared by someone other than the investment adviser or investment adviser representative without disclosing that fact. This prohibition does not apply to a situation where the investment adviser or investment adviser representative uses published research reports or statistical analyses to render advice or where an investment adviser or investment adviser representative orders the report in the normal course of providing advice.

     (x)   Charging a client an unreasonable advisory fee.

     (xi)   Failing to disclose to clients in writing before advice is rendered a material conflict of interest relating to the investment adviser, the investment adviser representative or an employee of the investment adviser which could reasonably be expected to impair the rendering of unbiased and objective advice including:

       (A)   Compensation arrangements connected with advisory services to clients which are in addition to compensation from the clients for the services.

       (B)   Charging a client an advisory fee for rendering advice when a commission for executing securities transactions pursuant to the advice will be received by the investment adviser, the investment adviser representative or an employee of the investment adviser.

     (xii)   Guaranteeing a client that a specific result will be achieved—gain or no loss—with advice which will be rendered.

     (xiii)   Publishing, circulating or distributing an advertisement which does not comply with Rule 206(4)-1 under the Investment Advisers Act of 1940 (15 U.S.C.A. § §  80b-1—80b-21).

     (xiv)   Disclosing the identity, affairs or investments of a client unless required by law to do so, or unless consented to by the client.

     (xv)   Taking an action, directly or indirectly, with respect to those securities or funds in which a client has a beneficial interest, where the investment adviser has custody or possession of the securities or funds when the adviser’s action is subject to, and does not comply with, the requirements of §  404.013 (relating to investment adviser custody or possession of funds or securities of clients).

     (xvi)   Entering into, extending or renewing an investment advisory contract unless the contract is in writing and discloses, in substance, the services to be provided, the term of the contract, the advisory fee, the formula for computing the fee, the amount of a prepaid fee to be returned in the event of contract termination or nonperformance, whether the contract grants discretionary power to the adviser and that no assignment of the contract shall be made by the investment adviser without the consent of the other party to the contract.

     (xvii)   Failing to establish, maintain and enforce written policies and procedures reasonably designed to prevent the misuse of material nonpublic information contrary to the provisions of section 204a of the Investment Advisers Act of 1940 (15 U.S.C.A. §  80b-4a) and the rules and regulations of the United States Securities and Exchange Commission promulgated thereunder.

     (xviii)   Entering into, extending, or renewing any advisory contract contrary to the provisions of section 205 of the Investment Advisers Act of 1940 (15 U.S.C.A. §  80b-5) and the rules and regulations of the United States Securities and Exchange Commission promulgated thereunder. This applies to all investment advisers and investment adviser representatives registered under section 301 of the act (70 P. S. §  1-301) notwithstanding whether the investment adviser is exempt from registration with the United States Securities and Exchange Commission under section 203(b) of the Investment Advisers Act of 1940 (15 U.S.C.A. §  80b-3).

     (xix)   To indicate, in an advisory contract, any condition, stipulation or provision binding any person to waive compliance with any provision of the act.

     (xx)   Engaging in any act, practice or course of business which is fraudulent, deceptive or manipulative or contrary to the provisions of section 206(4) of the Investment Advisers Act of 1940 (15 U.S.C.A. §  80b-6(4)) and the rules and regulations of the United States Securities and Exchange Commission promulgated thereunder. This applies to all investment advisers and investment adviser representatives registered under section 301 of the act notwithstanding whether the investment adviser is exempt from registration with the United States Securities and Exchange Commission under section 203(b) of the Investment Advisers Act of 1940.

     (xxi)   Engaging in conduct or committing any act, directly, indirectly or through or by another person, which would be unlawful for the person to do directly under the provisions of this act or any rule, regulation or order issued thereunder.

 (d)  This section does not apply to Federally-covered advisers unless the conduct otherwise is actionable under section 401(a) or (c) or 404 of the act (70 P. S. §  1-401(a) or (c) or 1-404).

   The provisions of this §  305.019 issued under sections 305(a) and (f) and 609(a) of the Pennsylvania Securities Act of 1972 (70 P. S. § §  1-305(a) and (f) and 1-609(a)).

   The provisions of this §  305.019 adopted March 9, 1990, effective March 10, 1990, 20 Pa.B. 1408; amended January 17, 1992, effective January 18, 1992, 22 Pa.B. 292; amended September 1, 2000, effective September 2, 2000, 30 Pa.B. 4551. Immediately preceding text appears at serial pages (209014) to (209018) and (239973).

   Construction with Federal Law

 (a)  The following applies to investment advisers that want to withdraw from registration as an investment adviser registered under section 301 of the act (70 P. S. §  1-301):

   (1)  For an investment adviser that seeks to withdraw from registration under section 301 of the act because the investment adviser has become a Federally-covered adviser subject to exclusive registration with the United States Securities and Exchange Commission, the investment adviser shall file an amendment to the uniform application for investment adviser registration (Form ADV) or successor form thereto with the Commission or with an investment adviser registration depository designated by order of the Commission.

   (2)  For an investment adviser that seeks to withdraw from registration under section 301 of the act because the investment adviser no longer transacts business in this Commonwealth as an investment adviser, the investment adviser shall file a notice of withdrawal from registration as an investment adviser form (Form ADV-W), or a successor form with the Commission or with an investment adviser registration depository designated by order of the Commission.

 (b)  An application to withdraw from registration as a broker-dealer shall contain the information requested in and shall be made on Uniform Request for Withdrawal from Registration as a Broker-Dealer Form (Form BDW) or a successor form.

 (c)  To withdraw from registration as investment adviser representative, the investment adviser or Federally covered adviser for whom the investment adviser representative was employed shall file the Uniform Termination Notice for Securities/Futures Industry Registration (Form U-5) or a successor form thereto with the Commission or with an investment adviser registration depository designated by order of the Commission within 30 days from the date of termination.

 (d)  To withdraw from registration as an agent of a broker-dealer or an issuer, the broker-dealer or issuer shall file Form U-5 or successor form thereto with the Commission within 30 days from the date of termination.

 (e)  To withdraw a notice filing, a Federally-covered adviser shall file a notice with the Commission or with an investment adviser registration depository designated by order of the Commission.

   The provisions of this §  305.061 issued under the Pennsylvania Securities Act of 1972 (70 P. S. § §  1-101—1-704); amended under sections 305(a) and (f) and 609(a) of the Pennsylvania Securities Act of 1972 (70 P. S. § §  1-305(a) and (f) and 1-609(a)).

   The provisions of this §  305.061 adopted July 26, 1974, effective July 27, 1974, 4 Pa.B. 1533; amended April 4, 1975, effective April 5, 1975, 5 Pa.B. 722; amended May 27, 1977, effective May 28, 1977, 7 Pa.B. 1438; amended through June 28, 1985, effective June 29, 1985, 15 Pa.B. 2394; amended January 17, 1992, effective January 18, 1992, 22 Pa.B. 293; amended September 1, 2000, effective September 2, 2000, 30 Pa.B. 4551. Immediately preceding text appears at serial pages (239973) to (239974).