No CIP for clearing firms...but not vice versa

I remember the moment in Miss Anita's 5th grade class when she taught us the definition of vice versa...she used the example, "Jimmy has a crush on Sharon and vice versa." The color I turned!...a lovely shade of bright red. Well here's an announcement that will tickle clearing firms pink.

Fresh off the press: FinCEN has released a no-action position relating to CIP requirements of clearing firms. In summary, if the clearing firm has a written agreement with its introducing firm, and that agreement exclusively allocates to the introducing firm the functions of opening and approving customer accounts and directly receiving and accepting orders from introduced customers, then ONLY the introducing firm must comply with the CIP requirements for BD's. FinCEN has stated in this release that it will not take action against clearing firms in this situation. Of course, the written agreement must be clear in its allocation of duties.

Small introducing firms oftentimes express frustration with CIP rules and state their belief that, since the clearing firm has to ultimately accept the account and since it is the clearing firm that maintains the customer's securities accounts, why does it have to meet CIP rules--why not the clearing firm instead? I think it's interesting that this FinCEN release does not include a vice versa clause...that is, it doesn't offer no-action to introducing firms if the clearing agreement allocates exclusive final account approval to the clearing firm, instead. This clearly codifies the practical understanding of CIP rules: it's the front line that matters. The process of opening accounts and taking orders for transactions is an important first step to AML awareness and compliance. While the clearing firm has credit risk and handles the funds, it's the Rep-Customer relationship that counts when detecting and deterring illegal activities. I'm not saying clearing firms don't have AML obligations in this instance--they do, any many of them, as reiterated in FinCEN's release--but CIP, the cornerstone of a broker-dealer's AML compliance practices, is squarely in the hands of the introducing firms.

I have to be thorough by noting one point: an introducing firm may, indeed, be relieved of some or all of its CIP duties, but only if this arrangement is reasonable, in writing and renewed annually, and the CIP duties are performed by a federally-regulated entity subject to AML regulations. So the clearing firm can, in the end, perform CIP for its introducing firms, but that arrangement must be subject to an iron-clad agreement and is not something that can be inferred based on loose allocation language in a clearing agreement. Most clearing firms do not include CIP agreements in their clearing agreements. Other note: if your firm wants to rely on an SEC-registered IA firm to do CIP for you, it can under a 2004 SEC no-action letter that has been extended to be effective through January 12, 2010. But again, reliance is subject to strict conditions. See: SEC's no-action relief January 2008 .

Here's the link to FinCEN's no-action release: FinCEN's CIP no-action position .

And for the record, Miss Anita was right.