Supporting Statement - Proposed Sales Practices Rule- Exchange Act 12_11_19

SUPPORTING STATEMENT
For the Paperwork Reduction Act Information Collection Submission for Proposed
Rule 15l-2
A.

JUSTIFICATION
1.

Necessity for the Information Collection

Proposed new rule 15l-2 under the Securities Exchange Act of 1934 (17 CFR
240.15l-2 (the “Exchange Act”) would impose burdens on broker-dealers registered with
the Commission (“broker-dealers”) relating to investments in “leveraged/inverse
investment vehicles” by their retail customers. 1 Under the proposed rule, the term
“leveraged/inverse investment vehicle” means a registered investment company, or
exchange-listed commodity- or currency-based trust or fund, that seeks, directly or
indirectly, to provide investment returns that correspond to the performance of a market
index by a specified multiple, or to provide investment returns that have an inverse
relationship to the performance of a market index, over a predetermined period of time.
The proposed rule is designed to address investor protection concerns related to
leveraged/inverse investment vehicles by helping to ensure that retail investors in those
products are capable of evaluating their characteristics and the unique risks they present.
Under the proposed rule, before accepting an order from a customer that is a
natural person (or the legal representative of a natural person) to buy or sell shares of a
leveraged/inverse investment vehicle, the broker-dealer must approve the customer’s
account to engage in those transactions in accordance with the proposed rule. To make

1

See Use of Derivatives by Registered Investment Companies and Business Development
Companies; Required Due Diligence by Broker-Dealers and Registered Investment
Advisers Regarding Retail Customers’ Transactions in Certain Leveraged/Inverse
Investment Vehicles, Investment Company Act Release No. 33704 (Nov. 25, 2019).

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this approval determination, the proposed rule would require a broker-dealer (or any
associated person of the broker-dealer) to exercise due diligence to ascertain certain
essential facts about the customer. Specifically, the broker-dealer would have to seek to
obtain certain information about the retail investor as described in the proposed rule. A
broker-dealer could approve the retail investor’s account to buy or sell shares of
leveraged/inverse investment vehicles only if, based on the information obtained, the b
broker-dealer had a reasonable basis to believe that the investor is capable of evaluating
the risks associated with leveraged/inverse investment vehicles. Proposed rule 15l-2 also
would require broker-dealers to adopt and implement policies and procedures reasonably
designed to achieve compliance with the proposed rule’s provisions. Finally, proposed
rule 15l-2 includes related recordkeeping provisions.
The proposed rule contains “collections of information” within the meaning of the
Paperwork Reduction Act of 1995 (“PRA”). 2 The information collections are integral to
the framework of proposed rule 15l-2 and therefore necessary to help further the
proposed rule’s aforementioned goals. The information collections also would assist the
Commission’s examination staff in assessing investment advisers’ compliance with the
requirements of proposed rule 15l-2.
2.

Purpose and Use of the Information Collection

The collection of information under proposed rule 15l-2 is integral to the
framework of the proposed rule and therefore necessary to further the proposed rule’s
goal of helping to ensure that retail investors who invest in leveraged/inverse investment
vehicles are capable of evaluating the unique risks of those products. The information

2

See 44 U.S.C. 3501 through 3521.

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collection also would assist the Commission’s examination staff in assessing brokerdealers’ compliance with the requirements of the proposed rule. The respondents to
proposed rule 15l-2 would be broker-dealers registered with the Commission that place
orders for retail customers to invest in leveraged/inverse investment vehicles.
3.

Consideration Given to Information Technology

Proposed rule 15l-2 would not require the reporting of any information or the
filing of any documents with the Commission. The Electronic Signatures in Global and
National Commerce Act 3 and rule 17a-4(f) under the Securities Exchange Act of 1934
permit broker-dealers to maintain records electronically.
4.

Duplication

The Commission periodically evaluates rule-based reporting and recordkeeping
requirements for duplication and reevaluates them whenever it proposes a rule or a
change in a rule. Broker-dealers are subject to other disclosure and recordkeeping
requirements under the federal securities laws and agency rules, which may require
broker-dealers to seek to obtain similar information about retail investors and to retain
related records. Proposed rule 15l-2, however, has the distinct purpose of helping to
ensure that retail investors that invest in leveraged/inverse investment vehicles are
capable of understanding the risks of those products.
5.

Effect on Small Entities

We recognize that the collections of information required by proposed rule 15l-2
may require different amounts of time or external assistance for different broker-dealers.
The Commission believes, however, that imposing different requirements on smaller

3

P.L. 106-229, 114 Stat. 464 (June 30, 2000).

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broker-dealers would not be consistent with the investor protection purposes of proposed
rule 15l-2. The Commission reviews all rules periodically, as required by the Regulatory
Flexibility Act, to identify methods to minimize recordkeeping or reporting requirements
affecting small businesses.
6.

Consequences of Not Conducting Collection

The collection of information under proposed rule 15l-2 is integral to the
framework of proposed rule 15l-2 and therefore necessary to help further the proposed
rule’s goal of helping to ensure that retail investors in leveraged/inverse investment
vehicles are capable of evaluating the characteristics and unique risks those products
present. Thus, not requiring this collection of information would be incompatible with
the goals of proposed rule 15l-2.
7.

Inconsistencies with Guidelines in 5 CFR 1320.5(d)(2)

Proposed rule 15l-2 would require a broker-dealer to maintain a written record of
the information that it obtained under the rule 15l-2 due diligence requirement and its
written approval of the customer’s account for buying or selling shares of
leveraged/inverse investment vehicles, as well as the broker-dealer’s policies and
procedures under the proposed rule, for a period of not less than six years (the first two
years in an easily accessible place) after the date of the closing of the customer’s account.
Although this six-year period exceeds the three-year guideline for most kinds of records
under 5 CFR 1320.5(d)(2), the Commission believes that this is warranted because the
rule contributes to the effectiveness of the Commission’s examination and inspection
program. Because the period between examinations may be as long as six years, it is

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important that the Commission have access to records that cover the entire period
between examinations.
8.

Consultation Outside the Agency

Before adopting proposed rule 15l-2, the Commission will receive and evaluate
public comments on the proposal and its collection of information requirements.
Moreover, the Commission and the staff of the Division of Investment Management and
the Division of Trading and Markets participate in an ongoing dialogue with
representatives of the investment company and broker-dealer industries through public
conferences, meetings, and information exchanges. These various forums provide the
Commission and staff with a means of ascertaining and acting upon the paperwork
burdens confronting the industry.
9.

Payment or Gift

No payment or gift to respondents was provided.
10.

Confidentiality

Responses provided to the Commission in connection with staff examinations or
investigations would be kept confidential subject to the provisions of applicable law. If
information collected pursuant to proposed rule 15l-2 is reviewed by the Commission’s
examination staff, it will be accorded the same level of confidentiality accorded to other
responses provided to the Commission in the context of its examination and oversight
program.
11.

Sensitive Questions

No information of a sensitive nature, including social security numbers, or
personally identifiable information (PII) would be required under this collection of

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information. The agency has determined that a system of records notice (SORN) and
privacy impact assessment (PIA) are not required in connection with the collection of
information.
12.

Estimate of Hour Burden

The following estimates of average burden hours and costs are made solely for
purposes of the Paperwork Reduction Act and are not derived from a comprehensive or
even representative survey or study of the cost of Commission rules and forms. 4
The respondents to the proposed rule would be broker-dealers registered under the
Exchange Act with retail customers that transact in leveraged/inverse investment
vehicles. Compliance with proposed rule 15l-2 would be mandatory for all such brokerdealers. To the extent that records required to be created and maintained by brokerdealers under the proposed rule are provided to the Commission in connection with
examinations or investigations, such information would be kept confidential subject to
the provisions of applicable law.
We estimate that, as of December 31, 2018, there were approximately 2,766
broker-dealers registered with the Commission that reported some sales to retail customer
investors. 5 We further estimate that 700 of those broker dealers with retail customer

4

The Commission’s estimates of the relevant wage rates in the tables below are based on
salary information for the securities industry compiled by the Securities Industry and
Financial Markets Association’s Office Salaries in the Securities Industry 2013. The
estimated wage figures are modified by Commission staff to account for an 1,800-hour
work-year and multiplied by 2.93 to account for bonuses, firm size, employee benefits,
overhead, and adjusted to account for the effects of inflation. See Securities Industry and
Financial Markets Association, Report on Management & Professional Earnings in the
Securities Industry 2013 (“SIFMA Report”).

5

Our estimates relating to retail sales by broker-dealers are based on data obtained from
Form BD and Form BR.

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accounts (approximately 25%) have retail customer accounts that invest in
leveraged/inverse investment vehicles.
A.

Due Diligence and Account Approval

Under proposed rule 15l-2, before accepting an order from a customer that is a
natural person (or the legal representative of a natural person) to buy or sell shares of a
leveraged/inverse investment vehicle, the broker-dealer must approve the customer’s
account to engage in those transactions in accordance with the proposed rule. To make
this determination, the broker-dealer must exercise due diligence to ascertain certain facts
about the customer, his or her financial situation, and investment objectives. To comply
with this due diligence requirement, the broker-dealer must seek to obtain certain
information described in the proposed rule. This proposed rule is modeled, in large part,
after the FINRA rule requiring due diligence and account approval for retail investors to
trade in options. 6 Based on our understanding of how broker-dealers comply with the
FINRA options account requirements, we believe that a common way for broker-dealers
to comply with this due diligence obligation would be to utilize in-house legal and
compliance counsel, as well as in-house computer and website specialists, to create an
online form for customers to provide the required information for approval of their
accounts to trade in leveraged/inverse investment vehicles. We also believe that a portion
of the due diligence would be performed by individuals associated with a broker-dealer
or by telephone or in-person meetings with investors.
Currently, there are 105 leveraged/inverse mutual funds, 164 leveraged/inverse
ETFs, and 17 exchange-listed commodity- or currency-based trusts or funds that meet the
6

See, e.g., FINRA rule 2360(b)(16), (17) (requiring firm approval, diligence, and
recordkeeping for options accounts).

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definition of “leveraged/inverse investment vehicle” under the proposed rule.
Accordingly, there are 286 leveraged/inverse investment vehicles in total for which a
broker-dealer would be required to approve a retail customer’s account before the
customer could transact in the shares of those vehicles. Based on our experience with
broker-dealers and leveraged/inverse investment vehicles, we estimate that each of these
leveraged/inverse investment vehicles is held by approximately 2,500 separate retail
investor accounts held by registered broker-dealers, for a total of 715,000 existing
accounts requiring approval to trade in leveraged/inverse investment vehicles. We further
estimate that approximately 10,000 new retail accounts will be opened each year
requiring approval to trade in leveraged/inverse investment vehicles.
Table 1 below summarizes our initial and ongoing PRA burden estimates
associated with the due diligence and account approval requirements in proposed rule
15l-2. Based on our understanding of current broker-dealer practices, we do not estimate
that there will be any initial or ongoing external costs associated with the proposed due
diligence and account approval requirements.

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Table 1: Proposed Rule 15l-2 Due Diligence and Account Approval PRA Estimates
Internal initial
burden hours

Internal annual
burden hours1

Wage rate2

Internal time
costs

Initial external cost
burden

Annual external cost
burden

$0

$0

× 248,333.33

× 248,333.33

$0

$0

PROPOSED ESTIMATES

Development and implementation of
customer due diligence

6 hours

2 hours

×

$365 (compliance
attorney)

$730

9 hours

3 hours

×

$284 (senior systems
analyst)

$852

12 hours

4 hours

×

$331 (senior
programmer)

$1324

Annual burden per broker-dealer

9 hours

$2906

Estimated number of affected
broker- dealers

700

700

Total burden (I)

6300 hours

$2,034,200

3 hours

1 hour

×

$365 (compliance
attorney)

$365

3 hours

1 hour

×

$70 (compliance
clerk)

$70

Evaluation of customer information for
account approval/disapproval

1 hour

.33 hours

×

$309 (compliance
manager)

$101.97

Total annual burden per customer account

7 hours

2.33 hours

$536.97

Estimated number of affected customer
accounts

× 248,333.333

× 248,333.33

Total burden (II)

578,616.66 hours

$133,347,548

Total annual burden (I+II)

584,916.66 hours

$135,381,748

Customer due diligence

Notes:
1. Includes initial burden estimates annualized over a three-year period.
2. See supra footnote 3.
3. We estimate that 715,000 existing customer accounts with broker-dealers would require the proposed rule 15l-2 account approval for trading in leveraged/inverse investment
vehicles, and that 10,000 new customer accounts opened each year would require such approval. Accordingly, we believe that over a three-year period, a total of 745,000 accounts will
require approval, which when annualized over a three-year period, equals 248,333.33 accounts per year.

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B.

Policies and Procedures

Proposed rule 15l-2 would require broker-dealers to adopt and implement policies
and procedures reasonably designed to achieve compliance with the proposed rule’s
provisions. We believe that broker-dealers likely would establish these policies and
procedures by adjusting their current systems for implementing and enforcing compliance
policies and procedures. While broker-dealers already have policies and procedures in
place to address compliance with other Commission rules (among other obligations), they
would need to update their existing policies and procedures to account for rule 15l-2. To
comply with this obligation, we believe that broker-dealers would use in-house legal and
compliance counsel to update their existing policies and procedures to account for the
requirements of rule 15l-2. For purposes of these PRA estimates, we assume that brokerdealers would review the policies and procedures that they would adopt under proposed
rule 15l-2 annually (for example, to assess whether the policies and procedures continue
to be “reasonably designed” to achieve compliance with the proposed rule). We therefore
have estimated initial and ongoing burdens associated with the proposed policies and
procedures requirement. As discussed above, we estimate that approximately 700 broker
dealers have retail customer accounts that invest in leveraged/inverse investment
vehicles. We do not estimate that there will be any initial or ongoing external costs
associated with the proposed policies and procedures requirement.
Table 2 below summarizes our initial and ongoing annual PRA burden estimates
associated with the policies and procedures requirement in proposed rule 15l-2.

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Table 2: Proposed Rule 15l-2 Policies and Procedures PRA Estimates
Internal initial
burden hours

Internal annual
burden hours1

Wage rate2

Internal time
costs

PROPOSED ESTIMATES
Establishing and implementing
rule 15l-2 policies and
procedures

3 hours

1 hour

×

$309 (compliance manager)

$309.00

1 hours

0.33 hours

×

$365 (compliance attorney)

$120.45

1 hour

0.33 hours

×

$530 (chief compliance
officer)

$174.90

1 hour

×

$309 (compliance manager)

$309.00

1 hour

×

$365 (compliance attorney)

$365.00

×

$530 (chief compliance
officer)

$530.00

Reviewing and updating rule
15l-2 policies and procedures

1 hour
Total annual burden per
broker-dealer

4.66 hours

Number of affected brokerdealers

× 700

× 700

Total annual burden

3,262 hours

$1,265,845

$1,808.35

Notes:
1. Includes initial burden estimates annualized over a three-year period.
2. See supra footnote 3.

C.

Recordkeeping

Under proposed rule 15l-2, a broker-dealer would have to maintain a written
record of the information that it obtained under the rule 15l-2 due diligence requirement
and its written approval of the customer’s account, as well as the firm’s policies and
procedures, for a period of not less than six years (the first two years in an easily
accessible place) after the date of the closing of the customer’s account. To comply with
this obligation, we believe that broker-dealers would use in-house personnel to compile
and maintain the relevant records. We do not estimate that there will be any initial or
ongoing external costs associated with this requirement.
Table 3 below summarizes our PRA initial and ongoing annual burden estimates
associated with the recordkeeping requirement in proposed rule 15l-2.

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Table 3: Proposed Rule 211(h)-1 Recordkeeping PRA Estimates
Internal initial
burden hours

Internal annual
burden hours

Wage rate1

Internal time
costs

×

$62 (general clerk)

$62

×

$95 (senior computer
operator)

$95

PROPOSED ESTIMATES
Recordkeeping

0 hours

1 hour

0 hours

1 hour

Total annual burden per
broker-dealer

0 hours

2 hours

$157

Number of affected brokerdealers

× 700

× 700

× 700

Total annual burden

0 hours

1,400 hours

$109,900

Notes:
1. See supra footnote 3.

D.

Proposed Rule 15l-2 Total Estimated Burdens

As summarized in Table 4 below, we estimate that the total hour burdens and time
costs associated with proposed rule 15l-2, including the burden associated with the due
diligence and account approval requirement, the policies and procedures requirement, and
the recordkeeping requirement, would result in an average aggregate annual burden of
589,578.66 hours and an average aggregate time cost of $136,757,493. Therefore, each
broker-dealer would incur an annual burden of approximately 842.26 hours, at an average
time cost of approximately $195,367.85, to comply with proposed rule 15l-2.

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Table 4: Proposed Rule 15l-2 Total Estimated PRA Burden
Internal initial burden
hours

Internal burden time
cost

External
cost burden

Due diligence and account approval

584,916.66 hours

$135,381,748

$0

Policies and procedures

3,262 hours

$1,265,845

$0

Recordkeeping

1,400 hours

$109,900

$0

Total annual burden

589,578.66 hours

$136,757,493

$0

Number of affected broker-dealers

÷ 700

÷ 700

÷ 700

Average annual burden per affected brokerdealer

842.26 hours

$195,367.85

$0

13.

Cost to Respondents

As discussed in Item 12, we estimate that proposed rule 15l-2’s costs related to
the customer due diligence and account approval, recordkeeping, and policies and
procedures requirements are fully captured as internal hour burdens in Item 12.
14.

Costs to Federal Government

Proposed rule 15l-2 does not impose a cost to the federal government.
Commission staff may, however, review records produced pursuant to the rule in order to
assist the Commission in carrying out its examination and oversight program.
15.

Changes in Burden

This is the first request for approval of the collection of information for this rule.
16.

Information Collection Planned for Statistical Purposes

Not applicable.
17.

Approval to Omit OMB Expiration Date

The Commission is not seeking approval to not display the expiration date for
OMB approval.
18.

Exceptions to Certification for Paperwork Reduction Act Submissions

The Commission is not seeking an exception to the certification statement.
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B.

COLLECTIONS OF INFORMATION EMPLOYING STATISTICAL
METHODS
The collection of information will not employ statistical methods.

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