Capital, Margin, and Segregation Requirements for Security-Based Swap Dealers and Major Security-Based Swap Participants and Capital and Segregation Requirements for Broker-Dealers

1See Public Law 111–203, 701 through 774. The Dodd-Frank Act assigns primary responsibility for the oversight of the U.S. OTC derivatives markets to the Commission and the Commodity Futures Trading Commission (‘‘CFTC’’). The Commission has oversight authority with respect to a ‘‘security￾based swap’’ as defined in Section 3(a)(68) of the Exchange Act (15 U.S.C. 78c(a)(68)), including to implement a registration and oversight program for a ‘‘security-based swap dealer’’ as defined in
Section 3(a)(71) of the Exchange Act (15 U.S.C.
78c(a)(71)) and a ‘‘major security-based swap participant’’ as defined in Section 3(a)(67) of the Exchange Act (15 U.S.C. 78c(a)(67)). The CFTC has oversight authority with respect to a ‘‘swap’’ as defined in Section 1(a)(47) of the Commodity Exchange Act (‘‘CEA’’) (7 U.S.C. 1(a)(47)), including to implement a registration and oversight program for a ‘‘swap dealer’’ as defined in Section 1(a)(49) of the CEA (7 U.S.C. 1(a)(49)) and a ‘‘major swap participant’’ as defined in Section 1(a)(33) of the CEA (7 U.S.C. 1(a)(33)). The Commission and the CFTC jointly have adopted rules to further define those terms. See Further Definition of ‘‘Swap,’’ ‘‘Security-Based Swap,’’ and ‘‘Security-Based Swap Agreement’’; Mixed Swaps; Security-Based Swap Agreement Recordkeeping, Exchange Act Release No. 67453 (July 18, 2012), 77 FR 48208 (Aug. 13,
2012) (‘‘Product Definitions Adopting Release’’);
Further Definition of ‘‘Swap Dealer,’’ ‘‘Security￾Based Swap Dealer,’’ ‘‘Major Swap Participant,’’ ‘‘Major Security-Based Swap Participant’’ and ‘‘Eligible Contract Participant’’, Exchange Act Release No. 66868 (Apr. 27, 2012), 77 FR 30596 (May 23, 2012) (‘‘Entity Definitions Adopting Release’’). 2 15 U.S.C. 78o-10 (‘‘Section 15F of the Exchange Act’’ or ‘‘Section 15F’’). SECURITIES AND EXCHANGE COMMISSION 17 CFR Parts 200 and 240 [Release No. 34–86175; File No. S7–08–12] RIN 3235–AL12 Capital, Margin, and Segregation Requirements for Security-Based Swap Dealers and Major Security￾Based Swap Participants and Capital and Segregation Requirements for Broker-Dealers AGENCY: Securities and Exchange Commission. ACTION: Final rule. SUMMARY: In accordance with the Dodd￾Frank Wall Street Reform and Consumer Protection Act (‘‘Dodd-Frank Act’’), the Securities and Exchange Commission (‘‘Commission’’), pursuant to the Securities Exchange Act of 1934 (‘‘Exchange Act’’), is adopting capital and margin requirements for security￾based swap dealers (‘‘SBSDs’’) and major security-based swap participants (‘‘MSBSPs’’), segregation requirements for SBSDs, and notification requirements with respect to segregation for SBSDs and MSBSPs. The Commission also is increasing the minimum net capital requirements for broker-dealers authorized to use internal models to compute net capital (‘‘ANC broker-dealers’’), and prescribing certain capital and segregation requirements for broker-dealers that are not SBSDs to the extent they engage in security-based swap and swap activity. The Commission also is making substituted compliance available with respect to capital and margin requirements under
Section 15F of the Exchange Act and the
rules thereunder and adopting a rule that specifies when a foreign SBSD or foreign MSBSP need not comply with the segregation requirements of Section 3E of the Exchange Act and the rules thereunder. DATES:
Effective date: October 21, 2019.
Compliance date: The compliance date is discussed in section III.B of this release. FOR FURTHER INFORMATION CONTACT:
Michael A. Macchiaroli, Associate Director, at (202) 551–5525; Thomas K. McGowan, Associate Director, at (202) 551–5521; Randall W. Roy, Deputy Associate Director, at (202) 551–5522; Raymond Lombardo, Assistant Director, at 202–551–5755; Sheila Dombal Swartz, Senior Special Counsel, at (202) 551–5545; Timothy C. Fox, Branch Chief, at (202) 551–5687; Valentina Minak Deng, Special Counsel, at (202) 551–5778; Rose Russo Wells, Senior Counsel, at (202) 551–5527; or Nina Kostyukovsky, Special Counsel, at (202) 551–8833, Division of Trading and Markets, Securities and Exchange Commission, 100 F Street NE, Washington, DC 20549–7010. SUPPLEMENTARY INFORMATION:
Table of Contents
I. Introduction
A. Background
B. Overview of the New Requirements

1. Capital Requirements
2. Margin Requirements for Non-Cleared
   Security-Based Swaps
3. Segregation Requirements
4. Alternative Compliance Mechanism
5. Cross-Border Application
   II. Final Rules and Rule Amendments
   A. Capital
6. Introduction
7. Capital Rules for Nonbank SBSDs
8. Capital Rules for Nonbank MSBSPs
9. OTC Derivatives Dealers
   B. Margin
10. Introduction
11. Margin Requirements for Nonbank
    SBSDs and Nonbank MSBSPs
    C. Segregation
12. Background
13. Exemption
14. Segregation Requirements for Security￾Based Swaps
    D. Alternative Compliance Mechanism E. Cross–Border Application of Capital, Margin, and Segregation Requirements
15. Capital and Margin Requirements
16. Segregation Requirements
    F. Delegation of Authority
    III. Explanation of Dates
    A. Effective Date
    B. Compliance Dates
    C. Effect on Existing Commission
    Exemptive Relief
    D. Application to Substituted Compliance
    IV. Paperwork Reduction Act
    A. Summary of Collections of Information Under the Rules and Rule Amendments
17. Rule 18a–1 and Amendments to Rule
    15c3–1
18. Rule 18a–2
19. Rule 18a–3
20. Rule 18a–4 and Amendments to Rule
    15c3–3
21. Rule 18a–10
22. Amendments to Rule 3a71–6
    B. Use of Information
    C. Respondents
    D. Total Initial and Annual Recordkeeping and Reporting Burden
23. Rule 18a–1 and Amendments to Rule
    15c3–1
24. Rule 18a–2
25. Rule 18a–3
26. Rule 18a–4 and Amendments to Rule
    15c3–3
27. Rule 18a–10
28. Rule 3a71–6
    E. Collection of Information Is Mandatory F. Confidentiality G. Retention Period for Recordkeeping Requirements
    V. Other Matters
    VI. Economic Analysis
    A. Baseline
29. Market Participants
30. Counterparty Credit Risk Mitigation
31. Global Regulatory Efforts
32. Capital Regulation
33. Margin Regulation
34. Segregation
35. Historical Pricing Data
    B. Analysis of the Final Rules and Alternatives
36. The Capital Rules for Nonbank SBSDs—
    Rules 15c3–1 and 18a–1
37. The Capital Rule for Nonbank MSBSPs—
    Rule 18a–2
38. The Margin Rule—Rule 18a–3
39. The Segregation Rules—Rules 15c3–3
    and 18a–4
40. Cross-Border Application
41. Rule 18a–10
    C. Implementation Costs
    D. Effects on Efficiency, Competition, and Capital Formation
42. Efficiency and Capital Formation
43. Competition
    VII. Regulatory Flexibility Act Certification
    VIII. Statutory Basis
    I. Introduction
    A. Background
    Title VII of the Dodd-Frank Act (‘‘Title VII’’) established a new regulatory framework for the U.S. over￾the-counter (‘‘OTC’’) derivatives markets.1 Section 764 of the Dodd-Frank Act added Section 15F to the Exchange Act.2 Section 15F(e)(1)(B) of the Exchange Act provides that the Commission shall prescribe capital and margin requirements for SBSDs and

3Specifically, Section 15F(e)(1)(B) of the Exchange Act provides that each registered SBSD and MSBSP for which there is not a prudential regulator shall meet such minimum capital requirements and minimum initial and variation margin requirements as the Commission shall by rule or regulation prescribe. The term ‘‘prudential regulator’’ is defined in Section 1(a)(39) of the CEA (7 U.S.C. 1(a)(39)) and that definition is incorporated by reference in Section 3(a)(74) of the Exchange Act. Pursuant to the definition, the Board of Governors of the Federal Reserve System (‘‘Federal Reserve’’), the Office of the Comptroller of the Currency (‘‘OCC’’), the Federal Deposit Insurance Corporation (‘‘FDIC’’), the Farm Credit Administration, or the Federal Housing Finance Agency (collectively, the ‘‘prudential regulators’’) is the ‘‘prudential regulator’’ of an SBSD, MSBSP, swap participant, or major swap participant if the entity is directly supervised by that agency. 4 15 U.S.C. 78c–5 (‘‘Section 3E of the Exchange Act’’ or ‘‘Section 3E’’). 5Section 3E of the Exchange Act does not distinguish between bank and nonbank SBSDs and MSBSPs, and, consequently, provides the Commission with the authority to establish segregation requirements for SBSDs and MSBSPs (whether or not they have a prudential regulator). 6Section 771 of the Dodd-Frank Act states that unless otherwise provided by its terms, its provisions relating to the regulation of the security￾based swap market do not divest any appropriate Federal banking agency, the Commission, the CFTC, or any other Federal or State agency, of any authority derived from any other provision of applicable law. In addition, Section 15F(e)(3)(B) of the Exchange Act provides that nothing in Section 15F ‘‘shall limit, or be construed to limit, the authority’’ of the Commission ‘‘to set financial responsibility rules for a broker or dealer . . . in accordance with Section 15(c)(3).’’ 7See 7 U.S.C. 6s(e)(1)(B). 8See 7 U.S.C. 6s(e)(1)(A). 9See Margin and Capital Requirements for Covered Swap Entities, 80 FR 74840 (Nov. 30, 2015) (‘‘Prudential Regulator Margin and Capital Adopting Release’’). The prudential regulators, as
part of their margin requirements for non-cleared
security-based swaps, adopted a segregation requirement for collateral received as margin. 10See Margin Requirements for Uncleared Swaps for Swap Dealers and Major Swap Participants, 81 FR 636 (Jan. 6, 2016) (‘‘CFTC Margin Adopting Release’’); Capital Requirements of Swap Dealers and Major Swap Participants, 81 FR 91252 (Dec. 16,
2016) (‘‘CFTC Capital Proposing Release’’).
11See Protection of Cleared Swaps Customer Contracts and Collateral; Conforming Amendments to the Commodity Broker Bankruptcy Provisions, 77 FR 6336 (Feb. 7, 2012); Protection of Collateral of Counterparties to Uncleared Swaps; Treatment of Securities in a Portfolio Margining Account in a Commodity Broker Bankruptcy, 78 FR 66621 (Nov. 6, 2013); Segregation of Assets Held as Collateral in Uncleared Swap Transactions, 84 FR 12894 (Apr. 3, 2019). 12See Capital, Margin, and Segregation Requirements for Security-Based Swap Dealers and Major Security-Based Swap Participants and Capital Requirements for Broker-Dealers, Exchange Act Release No. 68071, (Oct. 18, 2012), 77 FR 70214 (Nov. 23, 2012) (‘‘Capital, Margin, and Segregation Proposing Release’’). 13The comment letters are available at https:// www.sec.gov/comments/s7-08-12/s70812.shtml. 14See Cross-Border Security-Based Swap Activities; Re-Proposal of Regulation SBSR and Certain Rules and Forms Relating to the Registration of Security-Based Swap Dealers and Major Security-Based Swap Participants, Exchange Act Release No. 69490 (May 1, 2013), 78 FR 30968 (May 23, 2013) (‘‘Cross-Border Proposing Release’’). 15The comment letters are available at https:// www.sec.gov/comments/s7-02-13/s70213.shtml. 16See Recordkeeping and Reporting Requirements for Security-Based Swap Dealers, Major Security-Based Swap Participants, and Broker-Dealers; Capital Rule for Certain Security￾Based Swap Dealers, Exchange Act Release No. 71958 (Apr. 17, 2014), 79 FR 25194, 25254 (May 2, 2014). The Commission received one comment addressing this proposal. See Letter from Suzanne H. Shatto (July 9, 2014) (‘‘Shatto Letter’’), available at https://www.sec.gov/comments/s7-05-14/ s70514.shtml. 17See Capital, Margin, and Segregation Requirements for Security-Based Swap Dealers and Major Security-Based Swap Participants and Capital Requirements for Broker-Dealers, Exchange Act Release No. 84409 (Oct. 11, 2018), 83 FR 53007 (Oct. 19, 2018) (‘‘Capital, Margin, and Segregation Comment Reopening’’). 18See Letter from Stephen John Berger, Managing Director, Government & Regulatory Policy, Citadel Securities (Nov. 19, 2018) (‘‘Citadel 11/19/2018 Letter’’); Letter from Bridget Polichene, Chief Executive Officer, Institute of International Bankers (Nov. 19, 2018) (‘‘IIB 11/19/2018 Letter’’). 19See Letter from Sebastian Crapanzano and Soo￾Mi Lee, Managing Directors, Morgan Stanley (Nov. 19, 2018) (‘‘Morgan Stanley 11/19/2018 Letter’’). 20See, e.g., Letter from Carl B. Wilkerson, Vice President and Chief Counsel, Securities, American Council of Life Insurers (Nov. 19, 2018) (‘‘American Council of Life Insurers 11/19/18 Letter’’); Letter from Dennis M. Kelleher, President and Chief Executive Officer, Better Markets, Inc. (Nov. 19,
2018) (‘‘Better Markets 11/19/2018 Letter’’); Letter
from Susan M. Olson, General Counsel, Investment Company Institute (Nov. 19, 2018) (‘‘ICI 11/19/2018 Letter’’). MSBSPs that do not have a prudential regulator (respectively, ‘‘nonbank SBSDs’’ and ‘‘nonbank MSBSPs’’).3
Section 763 of the Dodd-Frank Act
added Section 3E to the Exchange Act.4
Section 3E provides the Commission
with the authority to establish segregation requirements for SBSDs and MSBSPs.5 The Commission also has separate and independent authority under Section 15 of the Exchange Act to prescribe capital and segregation requirements for broker-dealers.6
Section 4s(e)(1)(B) of the CEA
provides that the CFTC shall prescribe capital and margin requirements for swap dealers and major swap participants for which there is not a prudential regulator (‘‘nonbank swap dealers’’ and ‘‘nonbank swap participants’’).7 Section 15F(e)(1)(A) of the Exchange Act provides that the prudential regulators shall prescribe capital and margin requirements for SBSDs and MSBSPs that have a prudential regulator (respectively, ‘‘bank SBSDs’’ and ‘‘bank MSBSPs’’).
Section 4s(e)(1)(A) of the CEA provides
that the prudential regulators shall prescribe capital and margin requirements for swap dealers and major swap participants for which there is a prudential regulator (respectively, ‘‘bank swap dealers’’ and ‘‘bank swap participants’’).8 The prudential regulators have adopted capital and margin requirements for bank SBSDs and MSBSPs and for bank swap dealers and major swap participants.9 The CFTC has adopted margin requirements and proposed capital requirements for nonbank swap dealers and major swap participants.10 The CFTC also has adopted segregation requirements for cleared and non-cleared swaps.11 In October 2012, the Commission proposed: (1) Capital and margin requirements for nonbank SBSDs and MSBSPs, segregation requirements for SBSDs, and notification requirements relating to segregation for SBSDs and MSBSPs; and (2) raising the minimum net capital requirements and establishing liquidity requirements for ANC broker-dealers.12 The Commission received a number of comment letters in response to the 2012 proposals.13 In May 2013, the Commission proposed provisions regarding the cross-border treatment of security-based swap capital, margin, and segregation requirements.14 The Commission received comments on these proposals as well.15 In 2014, the Commission proposed an additional capital requirement for nonbank SBSDs that was inadvertently omitted from the 2012 proposals.16 Finally, in 2018, the Commission reopened the comment period and requested additional comment on the proposed rules and amendments (including potential modifications to proposed rule language).17 Some commenters supported the reopening of the comment period as a means to help ensure that the final rules reflect current market conditions.18 One commenter stated that the publication of the potential modifications to the proposed rule language provided important transparency in the development of this rulemaking.19 Other commenters stated that the Commission did not provide them with an adequate basis upon which to comment, and argued that it was not possible to fully assess the potential modifications to the proposed rules without a full re-proposal.20 The Commission disagrees. The potential modifications to the proposed rule language published in the release described how the rule text proposed in 2012 could be changed, including specific potential rule language. This approach provided the public with a meaningful opportunity to comment on potential modifications to the proposed rule text. Today, the Commission is amending existing rules and adopting new rules. In particular, the Commission is amending existing rules 17 CFR 240.15c3–1 (‘‘Rule 15c3–1’’), 17 CFR

21The term ‘‘broker-dealer’’ when used in this release generally does not refer to an OTC derivatives dealer See 17 CFR 240.3b–12 (‘‘Rule 3b– 12’’) (defining the term ‘‘OTC derivatives dealer’’). Instead, this class of dealer is referred to as an ‘‘OTC derivatives dealer’’ and, except when discussing the alternative compliance mechanism of Rule 18a–10, the term ‘‘stand-alone SBSD’’ includes a nonbank SBSD that is also registered as an OTC derivatives dealer. The alternative compliance mechanism is discussed below in sections I.B.4., II.D., IV.A.6., IV.D.6., and VI.B.1. of this release, among other sections. As discussed below, the alternative compliance mechanism is not available to nonbank SBSDs that are registered as either a broker-dealer or an OTC derivatives dealer. Consequently, the term ‘‘stand-alone SBSD,’’ in the context of discussing the alternative compliance mechanism, refers to a stand-alone SBSD that is not also registered as an OTC derivatives dealer. 22 17 CFR 240.3a71–6 (‘‘Rule 3a71–6’’). 23See Capital, Margin, and Segregation Proposing Release, 77 FR at 70252–54. 24The compliance date for the amendments and rules being adopted today is discussed below in
section III.B. of this release.
240.15c3–1a (‘‘Rule 15c3–1a’’), 17 CFR 240.15c3–1b (‘‘Rule 15c3–1b’’), 17 CFR 240.15c3–1d (‘‘Rule 15c3–1d’’), 17 CFR 240.15c3–1e (‘‘Rule 15c3–1e’’), 17 CFR 240.15c3–3 (‘‘Rule 15c3–3’’) and adopting new Rules 15c3–3b, 18a–1, 18a–1a, 18a1b, 18a1c, 18a–1d, 18a–2, 18a–3, 18a–4, 18a–4a, and 18a–10. The amendments and new rules establish capital and margin requirements for nonbank SBSDs, including for: (1) Broker-dealers that are registered as SBSDs (‘‘broker-dealer SBSDs’’); 21 (2) broker-dealers that are registered as MSBSPs (‘‘broker-dealer MSBSPs’’); (3) nonbank SBSDs that are not registered as broker-dealers (‘‘stand-alone SBSDs’’); and (4) nonbank MSBSPs that are not registered as broker-dealers (‘‘stand-alone MSBSPs’’). They also establish segregation requirements for SBSDs and notification requirements with respect to segregation for SBSDs and MSBSPs. Further, the amendments provide that a nonbank SBSD that is also registered as an OTC derivatives dealer is subject to Rules 18a–1, 18a–1a, 18a–1b, 18a–1c, and 18a–1d rather than Rule 15c3–1 and its appendices. The rule amendments also increase the minimum tentative net capital and net capital requirements for ANC broker-dealers. In addition to the new requirements for ANC broker-dealers, some of the amendments to Rules 15c3– 1 and 15c3–3 apply to broker-dealers that are not registered as an SBSD or MSBSP (‘‘stand-alone broker-dealers’’) to the extent they engage in security￾based swap activities. Additionally, the Commission is amending its existing cross-border rule to provide a mechanism to seek substituted compliance with respect to the capital and margin requirements for foreign nonbank SBSDs and MSBSPs and providing guidance on how it will evaluate requests for substituted compliance.22 The Commission is adopting rule-based requirements that address the application of the segregation requirements to cross-border security-based swap transactions. The Commission also is amending its rules governing the delegation of authority to provide the staff with delegated authority to take certain actions with respect to some of the requirements. The Commission is not adopting the proposed liquidity stress test requirements at this time.23 Instead, the Commission continues to consider the comments received on those proposals. The Commission staff consulted with the CFTC and the prudential regulators in drafting the final rules and amendments. Finally, the Commission recognizes that the firms subject to the requirements being adopted today are operating in a market that continues to experience significant changes in response to market and regulatory developments. Given the global nature of the security-based swap and swap markets, the regulatory landscape will continue to shift as U.S. and foreign regulators continue to implement and/or modify relevant regulatory frameworks that apply to participants in these markets and to their transactions. For example, the CFTC has proposed but not yet finalized its
own capital requirements that will apply to swap dealers, some of which will also likely be registered with the Commission as SBSDs. The Commission intends to monitor these developments during the period before the compliance date for these rules and may consider modifications to the requirements that it is adopting today as circumstances dictate, such as the need to further harmonize with other regulators to minimize the risk of unnecessary market fragmentation, or to address other market developments.24 In addition, the Commission intends to monitor the impact of the capital, margin, and segregation requirements being adopted today using data about the security-based swap and swap activities of stand-alone broker-dealers and SBSDs once they are subject to these requirements. The data will include the capital they maintain, the liquidity they maintain, the leverage they employ, the scale of their security￾based swap and swap activities, the types and amounts of collateral they hold to address credit exposures, and the risk management controls they establish. The Commission may consider modifications to the requirements in light of these data. B. Overview of the New Requirements

1. Capital Requirements
   a. SBSDs
   Broker-dealer SBSDs will be subject to the pre-existing requirements of Rule 15c3–1, as amended, to account for security-based swap and swap activities. Stand-alone SBSDs (including firms also registered as OTC derivatives dealers) will be subject to Rule 18a–1. Rule 18a– 1 is structured similarly to Rule 15c3– 1 and contains many provisions that correspond to those in Rule 15c3–1, as amended. These rules prescribe minimum net capital requirements for nonbank SBSDs that are the greater of a fixed-dollar amount and an amount derived by applying a financial ratio. A broker￾dealer SBSD must be an ANC broker￾dealer (‘‘ANC broker-dealer SBSD’’) in order to use models to calculate market and credit risk charges in lieu of applying standardized deductions (also known as haircuts) for certain approved positions. An ANC broker-dealer, including an ANC broker-dealer SBSD, will be subject to a minimum fixed￾dollar tentative net capital requirement of $5 billion and a minimum fixed￾dollar net capital requirement of $1 billion. Stand-alone SBSDs that use models will be subject to a minimum fixed-dollar tentative net capital requirement of $100 million and a minimum fixed-dollar net capital requirement of $20 million. Broker￾dealer and stand-alone SBSDs not authorized to use models will be subject to a fixed-dollar minimum net capital requirement of $20 million but will not be subject to a fixed-dollar tentative net capital requirement. The financial ratio-derived minimum net capital requirement applicable to an ANC broker-dealer, including an ANC broker-dealer SBSD, and a broker-dealer SBSD not authorized to use models will be the amount computed using one of the two pre-existing (i.e., were part of the rule before today’s amendments) financial ratios in Rule 15c3–1 plus an amount computed using a new financial ratio tailored specifically to the firm’s security-based swap activities. This new financial ratio requirement is 2% of an amount determined by calculating the firm’s exposures to its security-based swap customers (‘‘2% margin factor’’). A stand-alone SBSD will be subject to the 2% margin factor but will not be subject to either of the pre-existing financial ratios in Rule 15c3–1. The 2% margin factor multiplier will remain at 2% for 3 years after the compliance date of the

rule. After 3 years, the multiplier could increase to not more than 4% by Commission order, and after 5 years the multiplier could increase to not more than 8% by Commission order if the Commission had previously issued an order raising the multiplier to 4% or less. The final rules further provide that the Commission will consider the capital and leverage levels of the firms subject to these requirements as well as the risks of their security-based swap positions and will provide notice before issuing an order raising the multiplier. This approach will enable the Commission to analyze the impact of the new requirement. The following table summarizes the minimum net capital requirements applicable to nonbank SBSDs as of the compliance date of the rule. Type of registrant Rule Tentative net capital Net capital Fixed-dollar Financial ratio Stand-alone SBSD (not using internal mod￾els). 18a–1 ......................... N/A ............................. $20 million .................. 2% margin factor. Stand-alone SBSD (using internal models)1 18a–1 ......................... $100 million ................ 20 million .................... 2% margin factor.
Broker-dealer SBSD .......................................
(not using internal models) ............................
15c3–1 ....................... N/A ............................. 20 million .................... 2% margin factor + Rule 15c3–1 ratio. Broker-dealer SBSD (using internal models) 15c3–1 ....................... $5 billion ..................... 1 billion ....................... 2% margin factor + Rule 15c3–1 ratio. 1 Includes a stand-alone SBSD that also is an OTC derivatives dealer. Nonbank SBSDs will compute net capital by first determining their net worth under U.S. generally accepted accounting principles (‘‘GAAP’’). Next, the firms will need to deduct illiquid assets and take other deductions from net worth, and may add qualified subordinated loans. The deductions will be the same as required under the pre￾existing requirements of Rule 15c3–1. In addition, the Commission is prescribing new deductions tailored specifically to security-based swaps and swaps. For example, stand-alone broker￾dealers and nonbank SBSDs will be required to take a deduction for under￾margined accounts because of a failure to collect margin required under Commission, CFTC, clearing agency, derivatives clearing organization (‘‘DCO’’), or designated examining authority (‘‘DEA’’) rules (i.e., a failure to collect margin when there is no exception from collecting margin). Nonbank SBSDs also will be required to take deductions when they elect not to collect margin pursuant to exceptions in the margin rules of the Commission and the CFTC for non-cleared security-based swaps and swaps, respectively. These deductions for electing not to collect margin must equal 100% of the amount of margin that would have been required to be collected from the security-based swap or swap counterparty in the absence of an exception (i.e., the size of the deduction will be computed using the standardized or model-based approach prescribed in the margin rules of the Commission or the CFTC, as applicable). These deductions can be reduced by the value of collateral held in the account after applying applicable haircuts to the value of the collateral. In addition, as discussed below, nonbank SBSDs authorized to use models may take credit risk charges instead of these deductions for electing not to collect margin under exceptions in the margin rules of the Commission and the CFTC for non-cleared security-based swaps and swaps. After taking these deductions and making other adjustments to net worth, the amount remaining is defined as ‘‘tentative net capital.’’ The final steps a stand-alone broker-dealer or nonbank SBSD will need to take in computing net capital are: (1) To deduct haircuts (standardized or model-based) on their proprietary securities and commodity positions; and (2) for firms authorized to use models, to deduct credit risk charges computed using credit risk models. The haircuts for proprietary securities and commodity positions will be determined using standardized or model-based haircuts. The standardized haircuts for positions—other than security-based swaps and swaps— generally are
the pre-existing standardized haircuts required by Rule 15c3–1. With respect to security-based swaps and swaps, the Commission is prescribing standardized haircuts tailored to those instruments. In the case of a cleared security-based swap or swap, the standardized haircut is the applicable clearing agency or DCO margin requirement. For a non-cleared credit default swap (‘‘CDS’’), the standardized haircut is set forth in two grids (one for security-based swaps and one for swaps) in which the amount of the deduction is based on two variables:
the length of time to maturity of the CDS contract and the amount of the current offered basis point spread on the CDS. For other types of non-cleared security￾based swaps and swaps, the standardized haircut generally is the percentage deduction of the standardized haircut that applies to the underlying or referenced position multiplied by the notional amount of the security-based swap or swap. Instead of applying these standardized haircuts, stand-alone broker-dealers and nonbank SBSDs may apply to the Commission to use a model to calculate market and credit risk charges (model-based haircuts) for their positions, including derivatives instruments such as security-based swaps and swaps. The application and approval process will be similar to the process used for stand-alone broker￾dealers applying to the Commission for authorization to use models under the pre-existing provisions of Rules 15c3–1 and 15c3–1e (i.e., stand-alone broker￾dealers applying to become ANC broker￾dealers). If approved, the firm may compute market risk charges for certain of its proprietary positions using a model. In addition, an ANC broker-dealer (including an ANC broker-dealer SBSD) and a stand-alone SBSD approved to use models for capital purposes can apply a credit risk charge with respect to uncollateralized exposures arising from derivatives instruments, including exposures arising from not collecting variation and/or initial margin pursuant to exceptions in the non-cleared security-based swap and swap margin rules of the Commission and CFTC, respectively. Consequently, these credit risk charges may be taken instead of the deductions described above when a nonbank SBSD does not collect variation and/or initial margin pursuant to exceptions in these margin rules. In applying the credit risk charges, an ANC broker-dealer (including an ANC broker-dealer SBSD) is subject to a portfolio concentration charge that has a threshold equal to 10% of the firm’s tentative net capital. Under the portfolio

25Stand-alone SBSDs (including firms that also are registered as OTC derivatives dealers) are subject to Rule 18a–1, which includes a counterparty concentration charge that parallels the existing charge in Rule 15c3–1e. 26A broker-dealer MSBSP will be subject to Rule 15c3–1. concentration charge, the application of the credit risk charges to uncollateralized current exposure across all counterparties arising from derivatives transactions is limited to an amount of the current exposure equal to no more than 10% of the firm’s tentative net capital. The firm must take a charge equal to 100% of the amount of the firm’s aggregate current exposure in excess of 10% of its tentative net capital. Uncollateralized potential future exposures arising from electing not to collect initial margin pursuant to exceptions in the margin rules of the Commission and the CFTC are not subject to this portfolio concentration charge. In addition, a stand-alone SBSD, including an SBSD operating as an OTC derivatives dealer, is not subject to a portfolio concentration charge with respect to uncollateralized current exposure. However, all these entities (i.e., ANC broker-dealers, ANC broker￾dealer SBSDs, stand-alone SBSDs, and stand-alone SBSDs that also are registered as OTC derivatives dealers) are subject to a concentration charge for large exposures to single a counterparty that is calculated using the existing methodology in Rule 15c3–1e.25 The following table summarizes the entities that are subject to the portfolio concentration charge and/or the counterparty concentration charge. Entity type (must be approved to use models) 10% TNC portfolio concentration charge Counterparty concentration charge ANC broker-dealer .................................................................................................................................. Yes ......................... Yes. ANC broker-dealer SBSD ....................................................................................................................... Yes ......................... Yes. Stand-alone SBSD .................................................................................................................................. No .......................... Yes. Stand-alone SBSD/OTC derivatives dealer ............................................................................................ No .......................... Yes. Nonbank SBSDs also must comply with Rule 15c3–4. This rule will require them to establish, document, and maintain a system of internal risk management controls to assist in managing the risks associated with their business activities, including market, credit, leverage, liquidity, legal, and operational risks. b. MSBSPs Rule 18a–2 prescribes the capital requirements for stand-alone MSBSPs.26 Under this rule, stand-alone MSBSPs must at all times have and maintain positive tangible net worth. The term ‘‘tangible net worth’’ is defined to mean the stand-alone MSBSP’s net worth
as determined in accordance with GAAP, excluding goodwill and other intangible assets. All MSBSPs must comply with Rule 15c3–4 with respect to their security-based swap and swap activities.
2. Margin Requirements for Non-Cleared
Security-Based Swaps a. SBSDs Rule 18a–3 prescribes margin requirements for nonbank SBSDs with respect to non-cleared security-based swaps. The rule requires a nonbank SBSD to perform two calculations with respect to each account of a counterparty as of the close of business each day: (1) The amount of current exposure in the account of the counterparty (also known as variation margin); and (2) the initial margin amount for the account of the counterparty (also known as potential future exposure or initial margin). Variation margin is calculated by marking the position to market. Initial margin must be calculated by applying the standardized haircuts prescribed in Rule 15c3–1 or 18a–1 (as applicable). However, a nonbank SBSD may apply to the Commission for authorization to use a model (including an industry standard model) to calculate initial margin. Broker-dealer SBSDs must use the standardized haircuts (which include the option to use the more risk sensitive methodology in Rule 15c3–1a) to compute initial margin for non-cleared equity security-based swaps (even if the firm is approved to use a model to calculate initial margin). Stand-alone SBSDs (including firms registered as OTC derivatives dealers) may use a model to calculate initial margin for non-cleared equity security-based swaps (and potentially equity swaps if portfolio margining is implemented by the Commission and the CFTC), provided the account of the counterparty does not hold equity security positions other than equity security-based swaps (and potentially equity swaps). Rule 18a–3 requires a nonbank SBSD to collect collateral from a counterparty to cover a variation and/or initial margin requirement. The rule also requires the nonbank SBSD to deliver collateral to the counterparty to cover a variation margin requirement. The collateral must be collected or delivered by the close of business on the next business day following the day of the calculation, except that the collateral can be collected or delivered by the close of business on the second business day following the day of the calculation if the counterparty is located in another country and more than 4 time zones away. Further, collateral to meet a margin requirement must consist of cash, securities, money market instruments, a major foreign currency, the settlement currency of the non￾cleared security-based swap, or gold. The fair market value of collateral used to meet a margin requirement must be reduced by the standardized haircuts in Rule 15c3–1 or 18a–1 (as applicable), or the nonbank SBSD can elect to apply the standardized haircuts prescribed in the CFTC’s margin rules. The value of the collateral must meet or exceed the margin requirement after applying the standardized haircuts. In addition, collateral being used to meet a margin requirement must meet conditions specified in the rule, including, for example, that it must have a ready market, be readily transferable, and not consist of securities issued by the
nonbank SBSD or the counterparty. There are exceptions in Rule 18a–3 to the requirements to collect initial and/ or variation margin and to deliver variation margin. A nonbank SBSD need not collect variation or initial margin from (or deliver variation margin to) a counterparty that is a commercial end user, the Bank for International Settlements (‘‘BIS’’), the European Stability Mechanism, or a multilateral development bank identified in the rule. Similarly, a nonbank SBSD need not collect variation or initial margin (or deliver variation margin) with respect to a legacy account (i.e., an account holding security-based swaps entered into prior to the compliance date of the rule). Further, a nonbank SBSD need not collect initial margin from a

counterparty that is a financial market intermediary (i.e., an SBSD, a swap dealer, a broker-dealer, a futures commission merchant (‘‘FCM’’), a bank, a foreign broker-dealer, or a foreign bank) or an affiliate. A nonbank SBSD also need not hold initial margin directly if the counterparty delivers the initial margin to an independent third￾party custodian. Further, a nonbank SBSD need not collect initial margin from a counterparty that is a sovereign entity if the nonbank SBSD has determined that the counterparty has only a minimal amount of credit risk. The rule also has a threshold exception to the initial margin requirement. Under this exception, a nonbank SBSD need not collect initial margin to the extent that the initial margin amount when aggregated with other security-based swap and swap exposures of the nonbank SBSD and its affiliates to the counterparty and its affiliates does not exceed $50 million. The rule also would permit a nonbank SBSD to defer collecting initial margin from a counterparty for two months after the month in which the counterparty does not qualify for the $50 million threshold exception for the first time. Finally, the rule has a minimum transfer amount exception of $500,000. Under this exception, if the combined amount of margin required to be collected from or delivered to a counterparty is equal to or less than $500,000, the nonbank SBSD need not collect or deliver the margin. If the initial and variation margin requirements collectively or individually exceed $500,000, collateral equal to the full amount of the margin requirement must be collected or delivered. The following table summarizes the exceptions in Rule 18a–3 from collecting initial and/or variation margin and from delivering variation margin. Exception Status of exception to collecting margin Status of exception to delivering VM VM IM Commercial End User ..................................................... Need Not Collect ............... Need Not Collect ............... Need Not Deliver. BIS or European Stability Mechanism ............................ Need Not Collect ............... Need Not Collect ............... Need Not Deliver. Multilateral Development Bank ........................................ Need Not Collect ............... Need Not Collect ............... Need Not Deliver. Financial Market Intermediary ......................................... Must Collect ....................... Need Not Collect ............... Must Deliver. Affiliate ............................................................................. Must Collect ....................... Need Not Collect ............... Must Deliver. Sovereign with Minimal Credit Risk ................................ Must Collect ....................... Need Not Collect ............... Must Deliver. Legacy Account ............................................................... Need Not Collect ............... Need Not Collect ............... Need Not Deliver. IM Below $50 Million Threshold
...................................... Must Collect ....................... Need Not Collect ............... Must Deliver. Minimum Transfer Amount .............................................. Need Not Collect ............... Need Not Collect ............... Need Not Deliver. Finally, nonbank SBSDs must monitor the risk of each account, and establish, maintain, and document procedures and guidelines for monitoring the risk. MSBSPs Rule 18a–3 also prescribes margin requirements for nonbank MSBSPs with respect to non-cleared security-based swaps. The rule requires a nonbank MSBSP to calculate variation margin for the account of each counterparty as of the close of each business day. The rule requires the nonbank MSBSP to collect collateral from (or deliver collateral to) a counterparty to cover a variation margin requirement. The collateral must be collected or delivered by the close of business on the next business day following the day of the calculation, except that the collateral can be collected or delivered by the close of business on the second business day following the day of the calculation if the counterparty is located in another country and more than 4 time zones away. Further, the variation margin must consist of cash, securities, money market instruments, a major foreign currency, the security of settlement of the non-cleared security-based swap, or gold. The rule has an exception pursuant to which the nonbank MSBSP need not collect variation margin if the counterparty is a commercial end user, the BIS, the European Stability Mechanism, or one of the multilateral development banks identified in the rule (there is no exception from delivering variation margin to these types of counterparties). The rule also has an exception pursuant to which the nonbank MSBSP need not collect or deliver variation margin with respect to a legacy account. Finally, there is a $500,000 minimum transfer amount exception to the collection and delivery requirements for nonbank MSBSPs.
3. Segregation Requirements
Section 3E(b) of the Exchange Act
provides that, for cleared security-based swaps, the money, securities, and property of a security-based swap customer shall be separately accounted for and shall not be commingled with the funds of the broker, dealer, or SBSD or used to margin, secure, or guarantee any trades or contracts of any security￾based swap customer or person other than the person for whom the money, securities, or property are held. However, Section 3E(c)(1) of the Exchange Act also provides, that for cleared security-based swaps, customers’ money, securities, and property may, for convenience, be commingled and deposited in the same one or more accounts with any bank, trust company, or clearing agency.
Section 3E(c)(2) further provides that,
notwithstanding Section 3E(b), in accordance with such terms and conditions as the Commission may prescribe by rule, regulation, or order, any money, securities, or property of the security-based swaps customer of a broker, dealer, or security-based swap dealer described in Section 3E(b) may be commingled and deposited as provided in Section 3E with any other money, securities, or property received by the broker, dealer, or security-based swap dealer and required by the Commission to be separately accounted for and treated and dealt with as belonging to the security-based swaps customer of the broker, dealer, or security-based swap dealer.
Section 3E(f) of the Exchange Act
establishes a program by which a counterparty to non-cleared security￾based swaps with an SBSD or MSBSP can elect to have initial margin held at an independent third-party custodian (‘‘individual segregation’’). Section 3E(f)(4) provides that if the counterparty does not choose to require segregation of funds or other property (i.e., waives segregation), the SBSD or MSBSP shall send a report to the counterparty on a quarterly basis stating that the firm’s back office procedures relating to margin and collateral requirements are in compliance with the agreement of the counterparties. The statutory provisions of Sections 3E(b) and (f) are self￾executing. The Commission is adopting segregation rules pursuant to which money, securities, and property of a

security-based swap customer relating to cleared and non-cleared security￾based swaps must be segregated but can be commingled with money, securities, or property of other customers (‘‘omnibus segregation’’). The omnibus segregation requirements for stand-alone broker-dealers and broker-dealer SBSDs are codified in amendments to Rule 15c3–3. The omnibus segregation requirements for stand-alone SBSDs (including firms registered as OTC derivatives dealers) and bank SBSDs are codified in Rule 18a–4. The omnibus segregation requirements are mandatory with respect to money, securities, or other property relating to cleared security￾based swaps that is held by a stand￾alone broker-dealer or SBSD (i.e., customers cannot waive segregation). With respect to non-cleared security￾based swap transactions, the omnibus segregation requirements are an alternative to the statutory provisions discussed above pursuant to which a counterparty can elect to have initial margin individually segregated or to waive segregation. However, under the final omnibus segregation rules for stand-alone broker-dealers and broker￾dealer SBSDs codified in Rule 15c3–3, counterparties that are not an affiliate of the firm cannot waive segregation. Affiliated counterparties of a stand￾alone broker-dealer or broker-dealer SBSD can waive segregation. Under
Section 3E(f) of the Exchange Act and
Rule 18a–4, all counterparties (affiliated and non-affiliated) to a non-cleared security-based swap transaction with a stand-alone or bank SBSD can waive segregation. The omnibus segregation requirements are the ‘‘default’’ requirement if the counterparty does not elect individual segregation or to waive segregation (in the cases where a counterparty is permitted to waive segregation). Rule 18a–4 also has exceptions pursuant to which a foreign stand-alone or bank SBSD or MSBSP need not comply with the segregation requirements (including the omnibus segregation requirements) for certain transactions. Under the omnibus segregation requirements, an SBSD or stand-alone broker-dealer must maintain possession or control over excess securities collateral carried for the accounts of security-based swap customers. Generally, excess securities collateral means securities and money market instruments that are not being used to meet a variation margin requirement of the counterparty. In the context of security-based swap transactions, excess securities collateral means collateral delivered to the SBSD or stand-alone broker-dealer to meet an initial margin requirement of the counterparty as well as collateral held by the SBSD or stand￾alone broker-dealer in excess of any applicable initial margin requirement (and that is not being used to meet a variation margin requirement). There are two exceptions under which excess securities collateral can be held in a manner that is not in the possession or control of the SBSD or stand-alone broker-dealer: (1) It is being used to meet a margin requirement of a clearing agency resulting from a cleared security￾based swap transaction of the security￾based swap customer; or (2) it is being used to meet a margin requirement of an SBSD resulting from the first SBSD or stand-alone broker-dealer entering into a non-cleared security-based swap transaction with the SBSD to offset the risk of a non-cleared security-based swap transaction between the first SBSD or broker-dealer and the security-based swap customer. Under the omnibus segregation requirements, an SBSD or stand-alone broker-dealer must maintain a security￾based swap customer reserve account to segregate cash and/or qualified securities in an amount equal to the net cash owed to security-based swap customers. The SBSD or stand-alone broker-dealer must at all times maintain, through deposits into the account, cash and/or qualified securities in amounts computed weekly in accordance with the formula set forth in Rules 15c3–3b or 18a–4a. In the case of a broker-dealer SBSD or stand-alone broker-dealer, this account must be separate from the reserve accounts the firm maintains for ‘‘traditional’’ securities customers and other broker-dealers under pre-existing requirements of Rule 15c3–3. The formula in Rules 15c3–3b and 18a–4a is modeled on the pre-existing reserve formula in Exhibit A to Rule 15c3–3 (‘‘Rule 15c3–3a’’). The security￾based swap customer reserve formula
requires the SBSD or stand-alone broker-dealer to add up various credit items (amounts owed to security-based swap customers) and debit items (amounts owed by security-based swap customers). If, under the formula, credit items exceed debit items, the SBSD or stand-alone broker-dealer must maintain cash and/or qualified securities in that net amount in the security-based swap customer reserve account. For purposes of the security-based swap reserve account requirement, qualified securities are: (1) Obligations of the United States; (2) obligations fully guaranteed as to principal and interest by the United States; and (3) subject to certain conditions and limitations, general obligations of any state or a political subdivision of a state that are not traded flat and are not in default, are
part of an initial offering of $500 million
or greater, and are issued by an issuer that has published audited financial statements within 120 days of its most recent fiscal year end. With respect to non-cleared security￾based swaps, Section 3E(f)(1)(A) of the Exchange Act provides that an SBSD and an MSBSP shall be required to notify a counterparty of the SBSD or MSBSP at the beginning of a non￾cleared security-based swap transaction that the counterparty has the right to require the segregation of the funds or other property supplied to margin, guarantee, or secure the obligations of the counterparty. SBSDs and MSBSPs must provide this notice in writing to a duly authorized individual prior to the execution of the first non-cleared security-based swap transaction with the counterparty occurring after the compliance date of the rule. SBSDs also must obtain subordination agreements from a counterparty that affirmatively elects to have initial margin held at a third-party custodian or that waives segregation. Finally, a stand-alone or bank SBSD will be exempt from the requirements of Rule 18a–4 if the firm meets certain conditions, including that the firm: (1) Does not clear security￾based swap transactions for other persons; (2) provides notice to the counterparty regarding the right to segregate initial margin at an independent third-party custodian; (3) discloses to the counterparty in writing that any collateral received by the SBSD will not be subject to a segregation requirement; and (4) discloses to the counterparty how a claim of the counterparty for the collateral would be treated in a bankruptcy or other formal liquidation proceeding of the SBSD.
4. Alternative Compliance Mechanism
The Commission is adopting an alternative compliance mechanism in Rule 18a–10 pursuant to which a stand￾alone SBSD that is registered as a swap dealer and predominantly engages in a swaps business may elect to comply with the capital, margin, and segregation requirements of the CEA and the CFTC’s rules in lieu of complying with Rules 18a–1, 18a–3, and 18a–4. In order to qualify to operate pursuant to Rule 18a–10, the stand￾alone SBSD cannot be registered as a broker-dealer or an OTC derivatives dealer. Moreover, in addition to other conditions, the aggregate gross notional amount of the firm’s security-based swap positions must not exceed the lesser of a maximum fixed-dollar amount or 10% of the combined

27Rule 18a–1a, Rule18a–1b, Rule 18a–1c, and Rule 18a–1d correspond to the following appendices to Rule 15c3–1: Rule 15c3–1a (Options); Rule 15c3–1b (Adjustments to net worth and aggregate indebtedness for certain commodities transactions); 17 CFR 240.15c3–1c (‘‘Rule 15c3–1c’’) (Consolidated computations of net capital and aggregate indebtedness for certain subsidiaries and affiliates); and Rule 15c3–1d (Satisfactory subordination agreements). 28See Capital, Margin, and Segregation Proposing Release, 77 FR at 70217–20. 29See Net Capital Rule, Exchange Act Release No. 38248 (Feb. 6, 1997), 62 FR 6474, 6475 (Feb. 12,
1997) (‘‘Rule 15c3–1 requires registered broker￾dealers to maintain sufficient liquid assets to enable
those firms that fall below the minimum net capital requirements to liquidate in an orderly fashion without the need for a formal proceeding.’’). 30See Net Capital Rule, Exchange Act Release No. 27249 (Sept. 15, 1989), 54 FR 40395, 40396 (Oct. 2, 1989). 31See Securities Investor Protection Corporation (‘‘SIPC’’), Annual Report (2018), available at https://www.sipc.org/media/annual-reports/2018- annual-report.pdf. SIPC’s 2018 annual report states that the annual average of new broker-dealer liquidations under the Securities Investor Protection Act of 1970 (‘‘SIPA’’) for the last 10-year period was 0.8 firms per year. It also states that there have been 330 broker-dealers liquidated in a SIPA proceeding since SIPC’s inception in 1970, which amounts to less than 1% of approximately 40,000 broker-dealers that have been SIPC members during that time period. Moreover, it states that over that time period the value of cash and securities of SIPA liquidated broker-dealers returned to customers totaled approximately $139.8 billion and, of that amount, approximately $138.9 billion came from the estates of the failed broker￾dealers, and approximately $1 billion came from the SIPC fund. It further states that, of the approximately 770,400 claims satisfied in completed or substantially completed cases as of December 31, 2018, a total of 356 were for cash and securities whose value was greater than limits of protection afforded by SIPA. 32See Letter from Dennis M. Kelleher, President and Chief Executive Officer, Better Markets, Inc. (Feb. 22, 2013) (‘‘Better Markets 2/22/2013 Letter’’); Letter from Dennis M. Kelleher, President and Chief Executive Officer, Better Markets, Inc. (July 22,
2013) (‘‘Better Markets 7/22/2013 Letter’’).
33See Letter from Kurt N. Schacht, Managing Director, and Beth Kaiser, Director, CFA Institute (Feb. 22, 2013) (‘‘CFA Institute Letter’’). 34See Letter from Thomas G. McCabe, Chief Operating Officer, OneChicago, LLC (Feb. 19, 2013) (‘‘OneChicago 2/19/2013 Letter’’). aggregate gross notional amount of the firm’s security-based swap and swap positions. The maximum fixed-dollar amount is set at a transitional level of $250 billion for the first 3 years after the compliance date of the rule and then drops to $50 billion thereafter unless the Commission issues an order: (1) Maintaining the $250 billion maximum fixed-dollar amount for an additional period of time or indefinitely; or (2) lowering the maximum fixed-dollar amount to an amount between $250 billion and $50 billion. The final rule further provides that the Commission will consider the levels of security￾based swap activity of the stand-alone SBSDs operating under the alternative compliance mechanism and provide notice before issuing such an order.
5. Cross-Border Application
As adopted, the Commission is treating capital and margin requirements under Section 15F(e) of the Exchange Act and Rules 18a–1, 18a– 2, and 18a–3 thereunder as entity-level requirements that are applicable to the entirety of the business of an SBSD or MSBSP. Foreign SBSDs and MSBSPs have the potential to avail themselves of substituted compliance to satisfy the capital and margin requirements under
Section 15F of the Exchange Act and
Rules 18a–1 and 18a–2, and 18a–3 thereunder. The segregation requirements are deemed transaction￾level requirements and substituted compliance is not available for them. However, Rule 18a–4 has exceptions pursuant to which a foreign stand-alone or bank SBSD or MSBSP need not comply with the segregation requirements for certain transactions. There are no exceptions from the segregation requirements for cross￾border transactions of a stand-alone broker-dealer or a broker-dealer SBSD or MSBSP.
II. Final Rules and Rule Amendments
A. Capital

1. Introduction
   The Commission is adopting capital requirements for nonbank SBSDs and MSBSPs pursuant to Sections 15 and 15F of the Exchange Act. More specifically, the Commission is adopting amendments to Rule 15c3–1 and certain of its appendices to address broker￾dealer SBSDs and the security-based swap activities of stand-alone broker￾dealers. In addition, the Commission is adopting Rule 18a–1, Rules 18a–1a, 18a–1b, 18a–1c and 18a–1d to establish capital requirements for stand-alone SBSDs, including for stand-alone SBSDs that are also registered as OTC derivatives dealers. Rule 18a–1 and its related rules are structured similarly to Rule 15c3–1 and its appendices and contain many provisions that correspond to those in Rule 15c3–1 and its appendices.27 As discussed in the proposing release, Rule 15c3–1 imposes a net liquid assets test that is designed to promote liquidity within broker-dealers.28 For example, paragraph (c)(2)(iv) of Rule 15c3–1 does not permit most unsecured receivables to count as allowable net capital. This aspect of the rule severely limits the ability of broker-dealers to engage in activities that generate unsecured receivables (e.g., as unsecured lending). The rule also does not permit fixed assets or other illiquid assets to count as allowable net capital, which creates disincentives for broker-dealers to own real estate and other fixed assets that cannot be readily converted into cash. For these reasons, Rule 15c3–1 incentivizes broker-dealers to confine their business activities and devote capital to activities such as underwriting, market making, and advising on and facilitating customer securities transactions. Rule 15c3–1 permits a broker-dealer to engage in activities that are part of conducting a securities business (e.g., taking securities positions) but in a manner that leaves the firm holding at all times more than one dollar of highly liquid assets for each dollar of unsubordinated liabilities (e.g., money owed to customers, counterparties, and creditors). The objective of Rule 15c3– 1 is to require a broker-dealer to maintain sufficient liquid assets to meet all liabilities, including obligations to customers, counterparties, and other creditors and to have adequate additional resources to wind-down its business in an orderly manner without the need for a formal proceeding if the firm fails financially.29 The business of trading securities is one in which success, both for the firms and the investing public, is strongly dependent upon confidence, continuity, and commitment.30 Generally, almost all trading-related liabilities are payable upon demand and represent a major portion of the firm’s liabilities. Emphasis on liquidity helps to ensure that the liquidation of a firm will not result in excessive delay in repayment of the firm’s obligations to customers, broker-dealers, and other creditors and therefore assures the continued liquidity of the securities markets. Rule 15c3–1 has been the capital standard for broker￾dealers
   since 1975. Generally, the rule has promoted the maintenance of prudent levels of capital.31 Some commenters supported the Commission’s proposal to model the nonbank SBSD capital requirements on the broker-dealer capital requirements. A commenter stated that separate standards for stand-alone broker-dealers and nonbank SBSDs would complicate the regulatory framework.32 A second commenter argued that there should be no difference in the manner in which capital standards are applied to nonbank SBSDs, regardless of whether they are registered as broker-dealers or are affiliated with a bank holding company.33 A third commenter expressed general support for the approach.34 Other commenters expressed concerns with regard to the proposed

35See Letter from Tom Quaadman, Executive Vice President, Center for Capital Markets Competitiveness, U.S. Chamber of Commerce (Nov. 19, 2018) (‘‘Center for Capital Markets Competitiveness, Chamber of Commerce 11/19/ 2018 Letter’’); Citadel 11/19/2018 Letter; Letter from Walt L. Lukken, President and Chief Executive Officer, Futures Industry Association (Nov. 19,
2018) (‘‘FIA 11/19/2018 Letter’’); ICI 11/19/2018
Letter; Letter from Laura Harper Powell, Associate General Counsel, Managed Funds Association, and Adam Jacobs-Dean, Managing Director, Global Head of Markets Regulation, Alternative Investment Management Association (Nov. 19, 2018) (‘‘MFA/ AIMA 11/19/2018 Letter’’); Adam Hopkins, Managing Director, Legal Department, Mizuho Capital Markets LLC, Marcy S. Cohen, General Counsel and Managing Director, ING Capital Markets LLC, and Michael Baudo, President and CEO, ING Capital Markets LLC (Nov. 16, 2018) (‘‘Mizuho/ING Letter’’); Letter from Sebastian Crapanzano and Soo-Mi Lee, Managing Directors, Morgan Stanley (Feb. 22, 2013) (‘‘Morgan Stanley 2/ 22/2013 Letter’’). 36See Letter from Richard M. Whiting, Executive Director and General Counsel, The Financial Services Roundtable (Feb. 22, 2013) (‘‘Financial Services Roundtable Letter’’). 37See Citadel 11/19/18 Letter; Financial Services Roundtable Letter; FIA 11/19/2018 Letter; Morgan Stanley 11/19/2018 Letter. 38See FIA 11/19/2018 Letter. 39See Morgan Stanley 2/22/2013 Letter. 40See Letter from Robert Pickel, Chief Executive Officer, International Swaps and Derivatives Association (‘‘ISDA’’) (Feb. 5, 2014) (‘‘ISDA 2/5/ 2014 Letter’’); Morgan Stanley 2/22/2013 Letter. 41See Letter from Robert Rutkowski (Nov. 20,
2018) (‘‘Rutkowski 11/20/2018 Letter’’).
42See Letter from Kenneth E. Bentsen, Jr., President and CEO, Securities Industry and Financial Markets Association (Nov. 19, 2018) (‘‘SIFMA 11/19/2018 Letter’’); Morgan Stanley 11/ 19/2018 Letter. 43See Letter from David T. McIndoe, Alexander S. Holtan, and Cheryl I. Aaron, Counsels, Sutherland Asbill & Brennan LLP on behalf of The Commercial Energy Working Group (Feb. 14, 2013) (‘‘Sutherland Letter’’). 44See paragraph (e)(2) of Rule 18a–1, as adopted. See also Capital, Margin, and Segregation Proposing Release, 77 FR at 70244 (proposing a portfolio concentration charge in Rule 18a–1 for stand-alone SBSDs). 45See paragraph (e)(2) of Rule 18a–1, as adopted. 46See OTC Derivatives Dealers, Exchange Act Release No. 40594 (Oct. 23, 1998), 63 FR 59362, 59384–87 (Nov. 3, 1998) (‘‘[T]he Board of Governors of the Federal Reserve System, the Office of the Comptroller of the Currency, and the Federal Deposit Insurance Corporation (collectively, the ‘‘U.S. Banking Agencies’’) have adopted rules implementing the Capital Accord for U.S. banks and bank holding companies. Appendix F is generally consistent with the U.S. Banking Agencies’ rules, and incorporates the qualitative and quantitative conditions imposed on-banking institutions.’’). The use of models to compute market risk charges in lieu of the standardized haircuts (as nonbank SBSDs will be permitted to do under Rules 15c3–1 and 18a–1) also is generally consistent with the capital rules for banking institutions. Id. See also section VI.A.4.b. of this release (discussing bank capital regulations). 47See Rule 18a–10, as adopted. 48See CFTC Capital Proposing Release, 81 FR 91252. approach or encouraged the Commission to harmonize its final rules with those of international standard setters and domestic regulators that have finalized capital and margin requirements.35 A commenter stated that the Commission’s proposed approach would result in very different capital requirements for nonbank SBSDs as compared to nonbank swap dealers subject to CFTC oversight, and that this could potentially prevent entities from dually registering as nonbank SBSDs and swap dealers.36 The commenter also stated that requiring a multi-registered entity—such as an entity registered as a broker-dealer, FCM, SBSD, and swap dealer—to calculate regulatory capital under the rules of both the Commission and the CFTC and adhere to the greater minimum requirement would provide a strong disincentive to seeking the operational and risk management efficiencies of a consolidated business entity, and would be anticompetitive. Several commenters encouraged the Commission and CFTC to harmonize their proposed capital rules.37 A commenter suggested that the Commission coordinate with the CFTC and, as appropriate, the prudential regulators to assure that each agency’s respective capital rules are harmonized and do not have the unintended effect of impairing the ability of broker-dealers that are dually registered as FCMs to provide clearing
services for security￾based swaps and swaps.38 Another commenter was concerned that the proposed capital requirements for nonbank SBSDs were not comparable to those proposed by other U.S. regulators and that modeling the proposed rules on the broker-dealer capital standard was not appropriate.39 This commenter argued that the bank capital standard is risk-based, whereas the broker-dealer capital standard is transaction volume￾based, and that SBSDs and swap dealers operate in the same markets with the same counterparties and should be subject to comparable capital requirements. Commenters also referenced Section 15F(e)(3)(D)(ii) of the Exchange Act, which provides that the Commission, the prudential regulators, and the CFTC ‘‘shall, to the maximum extent practicable, establish and maintain comparable minimum capital requirements. . . .’’ 40 One commenter argued that divergence of bank and nonbank regulation is leading to some migration of risk to nonbank broker￾dealers.41 A commenter suggested that to avoid undermining the de minimis exception for SBSDs or inhibiting hedging activities by broker-dealers not registered as SBSDs, the Commission should limit the application of the proposed amendments to Rule 15c3–1 to broker-dealers that register as SBSDs.42 Another commenter stated that a positive tangible net worth test would be more appropriate for nonbank SBSDs.43 The Commission has made two significant modifications to the final capital rules for nonbank SBSDs that should mitigate some of these concerns raised by commenters. First, as discussed below in section II.A.2.b.v. of this release, the Commission has modified Rule 18a–1 so that it no longer contains a portfolio concentration charge that is triggered when the aggregate current exposure of the stand￾alone SBSD to its derivatives counterparties exceeds 50% of the firm’s tentative net capital.44 This means that stand-alone SBSDs that have been authorized to use models will not be subject to this limit on applying the credit risk charges to uncollateralized current exposures related to derivatives transactions. This includes uncollateralized current exposures arising from electing not to collect variation margin for non-cleared security-based swap and swap transactions under exceptions in the margin rules of the Commission and the CFTC. The credit risk charges are based on the creditworthiness of the counterparty and can result in charges that are substantially lower than deducting 100% of the amount of the uncollateralized current exposure.45 This approach to addressing credit risk arising from uncollateralized current exposures related to derivatives transactions is generally consistent with the treatment of such exposures under the capital rules for banking institutions.46 The second significant modification is an alternative compliance mechanism. As discussed below in section II.D. of this release, the alternative compliance mechanism will permit a stand-alone SBSD that is registered as a
swap dealer and that predominantly engages in a swaps business to comply with the capital, margin, and segregation requirements of the CEA and the CFTC’s rules in lieu of complying with the Commission’s capital, margin, and segregation requirements.47 The CFTC’s proposed capital rules for swap dealers that are FCMs would retain the existing capital framework for FCMs, which imposes a net liquid assets test similar to the existing capital requirements for stand-alone broker-dealers.48 However, under the CFTC’s proposed capital rules, swap dealers that are not FCMs would have the option of complying with: (1) A capital standard based on the capital rules for banks; (2) a capital standard based on the Commission’s capital requirements in Rule 18a–1; or

49See paragraph (c)(3) of Rule 15c3–1e, as adopted. 50See Alternative Net Capital Requirements for Broker-Dealers That Are Part of Consolidated Supervised Entities, Exchange Act Release No. 49830 (June 8, 2004), 69 FR 34428 (June 21, 2004); OTC Derivatives Dealers, 63 FR 59362. (3) if the swap dealer is predominantly engaged in non-financial activities, a capital standard based on a tangible net worth requirement. The Commission acknowledges that under these two modifications a stand￾alone SBSD will be subject to: (1) A capital standard that is less rigid than Rule 15c3–1 in terms of imposing a net liquid assets test (in the case of firms that will comply with Rule 18a–1); or (2) a capital standard that potentially does not impose a net liquid assets test (in the case of firms that will operate under the alternative compliance mechanism and, therefore, comply with the CFTC’s capital rules). This will decrease the liquidity of these firms and therefore decrease their self-sufficiency. As a result, the risk that a stand-alone SBSD may not be able to self-liquidate in an orderly manner will be increased. However, stand-alone SBSDs will engage in a more limited business than stand-alone broker-dealers and broker￾dealer SBSDs. Thus, they will be less significant participants in the overall securities markets. For example, they will not be dealers in the cash securities markets or the markets for listed options and they will not maintain custody of cash or securities for retail investors in those markets. Given their limited role, the Commission believes that it is appropriate to more closely align the requirements for stand-alone SBSDs with the requirements of the CFTC and the prudential regulators. These modifications to more closely harmonize the rules are designed to address the concerns of commenters noted above about the potential consequences of imposing different capital standards. They also take into account Section 15F(e)(3)(D)(ii) of the Exchange Act, which provides that the Commission, the prudential regulators, and the CFTC ‘‘shall, to the maximum extent practicable, establish and maintain comparable minimum capital requirements . . .’’ Notwithstanding the modification to Rule 18a–1 described above, the rule continues to be modeled in large part on the broker-dealer capital rule. For example, as is the case with Rule 15c3– 1, most unsecured receivables (aside from uncollateralized current exposures relating to derivatives transactions) will not count as allowable capital. Moreover, fixed assets and other illiquid assets will not count as allowable capital. Consequently, stand-alone SBSDs subject to Rule 18a–1 (i.e., firms that do not operate under the alternative compliance mechanism) will remain subject to certain requirements modeled on requirements of Rule 15c3–1 that are designed to promote their liquidity. Additionally, broker-dealer SBSDs will be subject to Rule 15c3–1 and the stricter (as compared to Rule 18a–1) net liquid assets
test it imposes. For example, as discussed below in section II.A.2.b.v. of this release, Rule 15c3–1e, as amended, modifies the existing portfolio concentration charge so that it equals 10% of an ANC broker-dealer’s tentative net capital (a reduction from 50% of the firm’s tentative net capital).49 Thus, the ability of these firms to apply the credit risk charges to uncollateralized current exposures arising from derivatives transactions will be more restricted. In addition, as discussed below, broker-dealer and stand-alone SBSDs will be subject to a 100% capital charge for initial margin they post to counterparties because, for example, the counterparty is subject to the margin rules of the CFTC or the prudential regulators. Consequently, while the two modifications discussed above with respect to stand-alone SBSDs should mitigate commenters’ concerns, there likely will be significant differences between the capital requirements for nonbank SBSDs and the capital requirements for bank SBSDs and bank and nonbank swap dealers. In this regard, the Commission has balanced the concerns raised by commenters about inconsistent requirements with the objective of promoting the liquidity of nonbank SBSDs. The Commission believes that the broker-dealer capital standard is the most appropriate alternative for nonbank SBSDs, given the nature of their business activities and the Commission’s experience administering the standard with respect to broker-dealers. The objective of the broker-dealer capital standard is to protect customers and counterparties and to mitigate the consequences of a firm’s failure by promoting the ability of these entities to absorb financial shocks and, if necessary, to self-liquidate in an orderly manner. Moreover, certain operational, policy, and legal differences support the distinction between nonbank SBSDs and bank SBSDs. First, based on the Commission staff’s understanding of the activities of nonbank dealers in the OTC derivatives markets, nonbank SBSDs are expected to engage in a securities business with respect to security-based swaps that is more similar to the dealer activities of broker-dealers than to the activities of banks, which—unlike broker-dealers—are in the business of making loans and taking deposits. Similar to stand-alone broker-dealers, nonbank SBSDs will not be lending or deposit-taking institutions and will focus their activities on dealing in securities (i.e., security-based swaps). Second, existing capital standards for banks and broker-dealers reflect, in part, differences in their funding models and access to certain types of financial support. Those same differences also will exist between bank SBSDs and nonbank SBSDs. For example, in general, banks obtain much of their funding through customer deposits (a relatively inexpensive source of funding) and can obtain liquidity through the Federal Reserve’s discount window. Broker-dealers do not—and nonbank SBSDs will not—have access to these sources of
funding and liquidity. Consequently, in the Commission’s judgment, the broker￾dealer capital standard is the appropriate standard for nonbank SBSDs because it is designed to promote a firm’s liquidity and self-sufficiency (in other words, to account for the lack of inexpensive funding sources that are available to banks, such as deposits and central bank support). The rules governing ANC broker￾dealers and OTC derivatives dealers currently contain provisions designed to address dealing in OTC derivatives by broker-dealers and, therefore, to some extent are tailored to address security￾based swap activities of broker-dealers. However, as discussed below, the amendments to Rule 15c3–1 are designed to more specifically address the risks of security-based swaps and swaps and the potential for the increased involvement of broker-dealers in these markets.50 Moreover, most stand-alone broker-dealers are not subject to Rules 15c3–1e and 15c3–1f and thus will need to take standardized haircuts in calculating their net capital. Therefore, in response to comments, the Commission believes it is appropriate for the amendments to Rule 15c3–1 to apply to broker-dealers irrespective of whether they are registered as SBSDs. This approach will establish requirements (such as standardized haircuts for security-based swaps) that are specifically tailored to security￾based swap activities across all broker￾dealers (i.e., broker-dealer SBSDs and stand-alone broker-dealers that engage in a de minimis level of security-based swap activities). The Commission disagrees with the comment that the broker-dealer capital

51As noted above, the prudential regulators similarly adopted capital standards for bank SBSDs based on the capital standards for banks. See Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74889. As discussed above, the CFTC has proposed different capital standards for nonbank swap dealers depending on whether the registrant is an FCM and whether the registrant is predominantly engaged in non-financial activities. See CFTC Capital Proposing Release, 81 FR 91252. 52As discussed above and in section II.D. of this release, stand-alone SBSDs (excluding firms registered as OTC derivatives dealers) will be able to operate pursuant to the alternative compliance mechanism of Rule 18a–10 if they meet the conditions in the rule. Stand-alone SBSDs operating pursuant to this mechanism will be permitted to comply with the capital, margin, and segregation requirements of the CEA and the CFTC’s rules instead of the capital, margin, and segregation requirements of Rules 18a–1, 18a–3, and 18a–4. As noted above, the CFTC’s proposed capital rule for swap dealers included an option for certain firms to adhere to a bank-like capital standard. As discussed below in section II.D. of this release, the Commission believes stand-alone SBSDs that meet the conditions of Rule 18a–10 should be permitted to adhere to capital, margin, and segregation requirements of the CEA and the CFTC’s rules (which, potentially, could include a bank-like capital standard) because, among other reasons, they will be predominantly engaging in a swaps business and, therefore, the CFTC will have a heightened regulatory interest in these firms as compared to the Commission’s regulatory interest. 53See CFTC Capital Proposing Release, 81 FR at 91264–65. 54See BIS, OTC derivatives statistics at end December 2018 (May 2019). The BIS statistical releases cited in this release are available at https:// www.bis.org/list/statistics/index.htm. 55As discussed above and in section II.D. of this release, stand-alone SBSDs (excluding firms registered as OTC derivatives dealers) will be able to adhere to the capital, margin, and segregation requirements of the CEA and the CFTC’s rules instead of Rules 18a–1, 18a–3, and 18a–4 if they meet the conditions in Rule 18a–10. As noted above, the CFTC’s proposed capital rule for swap dealers included an option for certain firms to adhere to a tangible net worth capital standard. As also noted above, the Commission does not expect that entities predominantly engaged in non￾financial activities are likely to register as SBSDs. Accordingly, it is unlikely that stand-alone SBSDs adhering to CFTC requirements in accordance with Rule 18a–10 will be subject to the CFTC’s tangible net worth capital standard. To the extent that they are, however, the Commission believes stand-alone SBSDs that meet the conditions of Rule 18a–10 should be permitted to adhere to capital, margin, and segregation requirements of the CEA and the CFTC’s rules (which, potentially,
could include a tangible net worth capital standard) because, among other reasons, they will be predominantly engaging in a swaps business and, therefore, the CFTC will have a heightened regulatory interest in these firms as compared to the Commission’s regulatory interest. based minimum net capital requirement being adopted today is tied directly to the risk of the firm’s customer exposures. Further, the standardized and model-based haircuts that will be used by nonbank SBSDs are tied directly to the market and credit risk of the firm’s positions. For these reasons, Rules 15c3–1, as amended, and 18a–1, as adopted, establish capital requirements for nonbank SBSDs that differ from the capital requirements adopted by the prudential regulators and certain of the capital requirements the CFTC proposed for nonbank swap dealers.51 The Commission considered these alternative approaches in light of
Section 15F(e)(3)(D)(ii) of the Exchange
Act, which provides—as discussed above—that the Commission, prudential regulators, and the CFTC to the maximum extent practicable, establish and maintain comparable minimum capital requirements. However, as discussed above, the Commission believes that the capital requirements for nonbank SBSDs should take into account key differences between banks (which are lending institutions) and nonbank SBSDs (which will focus primarily on securities activities). Therefore, the Commission does not believe it would be appropriate to model the Commission’s capital requirements for nonbank SBSDs on the bank capital standard.52 Further, the Commission does not believe it is necessary to apply a tangible net worth test to nonbank SBSDs, as suggested by a commenter. The CFTC proposed a tangible net worth requirement for swap dealers that are predominately engaged in non-financial activities (e.g., agriculture or energy) because of the potential that some of these entities may need to register as swap dealers due to their use of swaps as part of their non-financial activities.53 The application of a broker-dealer-based or a bank-based capital approach to entities engaged in non-financial activities could result in inappropriate capital requirements that would not be proportionate to the risk associated with these types of firms. The Commission does not believe that entities predominantly engaged in non-financial activities are likely to deal in security￾based swaps to an extent that would trigger registration with the Commission because, for example, the swap market is significantly larger than the security￾based swap market and has many more active participants that are non-financial entities.54 Moreover, a tangible net worth standard would not promote liquidity, as it treats all tangible assets equally, and therefore could incentivize a firm to hold illiquid but higher yielding assets. Based on staff experience, it is expected that financial institutions will comprise a large segment of the security-based swap market as is currently the case and that these entities are more likely to have affiliates dedicated to OTC derivatives trading and affiliates that are broker-dealers registered with the Commission. Consequently, these affiliates—because their capital structures are geared towards securities trading or because they already are broker-dealers—will not face the types of practical issues that non-financial entities would face if they had to adhere to a capital standard modeled on the broker-dealer capital standard. In addition, many broker￾dealers currently are affiliates of bank holding companies. Consequently, these broker-dealers are subject to Rule 15c3– 1, while their parent and bank affiliates are subject to bank capital standards. For these reasons, the Commission does not believe it is necessary to adopt a different capital standard to accommodate entities that are predominantly engaged in non-financial activities as was proposed by the CFTC.55 The
Commission acknowledges that not adopting the CFTC’s proposed alternative-capital-standards approach could require nonbank SBSDs that are also registered with the CFTC as swap dealers to, in some cases, perform two different capital calculations. This could cause some firms to separate their nonbank SBSDs and their nonbank swap dealers into separate entities. For nonbank SBSDs that are predominantly swap dealers, the alternative compliance mechanism will avoid this outcome. In addition, the modification to Rule 18a–1 more closely aligns the treatment of uncollateralized current exposures arising from derivatives transactions with the treatment of such exposures under the bank capital rules. The Commission, however, does not believe it would be appropriate to further address this potential consequence by modifying its proposed capital requirements for nonbank SBSDs to permit firms to apply a bank capital standard or tangible net worth test for the reasons discussed above. In response to commenters’ requests that the Commission and CFTC work together and harmonize their respective capital rules, as appropriate, Commission staff has consulted with the CFTC, among others, in drafting the proposals and the amendments and rules being adopted today, and as discussed further below, has sought to make the Commission’s capital rule more consistent with the CFTC’s proposed capital rules, as appropriate. For these reasons, the Commission is modeling the capital requirements for nonbank SBSDs on the broker-dealer capital standard in Rule 15c3–1, as

56See Capital, Margin, and Segregation Proposing Release, 77 FR at 70221–24. 57See Capital, Margin, and Segregation Comment Reopening, 83 FR at 53009. The release also sought comment and supporting data on the potential minimum net capital amounts that would be required of nonbank SBSDs. Id. 58Capital, Margin, and Segregation Proposing Release, 77 FR at 70226–27, 70237–40. 59 77 FR at 70221–24. 60 77 FR at 70225–26. 61 77 FR at 70227–29. 62See Capital, Margin, and Segregation Proposing Release, 77 FR at 70228. 63The ANC broker-dealers continue to maintain tentative net capital in excess of the proposed $6 billion early warning level. See also section VI of this release (discussing costs and benefits of the Continued proposed, but with the two significant modifications discussed above with respect to the capital requirements for stand-alone SBSDs. The Commission is adopting a positive tangible net worth capital standard for stand-alone MSBSPs pursuant to Section 15F of the Exchange Act. As discussed in more detail below, the Commission did not receive comments that specifically objected to this standard for these entities.
2. Capital Rules for Nonbank SBSDs
a. Computing Required Minimum Net Capital Rule 15c3–1 requires a broker-dealer to maintain a minimum level of net capital (meaning highly liquid capital) at all times. Paragraph (a) of the rule requires the broker-dealer to perform two calculations: (1) A computation of the minimum amount of net capital the broker-dealer must maintain; and (2) a computation of the amount of net capital the broker-dealer is maintaining. The minimum net capital requirement is the greater of a fixed-dollar amount specified in the rule and an amount determined by applying one of two financial ratios: The 15-to-1 aggregate indebtedness to net capital ratio (‘‘15-to￾1 ratio’’) or the 2% of aggregate debit items ratio (‘‘2% debit item ratio’’). The Commission proposed that nonbank SBSDs be subject to similarly structured minimum net capital requirements that varied depending on the type of entity. More specifically, proposed Rule 18a–1 required a stand-alone SBSD not authorized to use internal models when computing net capital to maintain minimum net capital of not less than the greater of $20 million or 8% of the firm’s ‘‘risk margin amount’’ as that term was defined in the rule.56 The risk margin amount was calculated as the sum of:

• The greater of: (1) The total margin
  required to be delivered by the stand￾alone SBSD with respect to security￾based swap transactions cleared for security-based swap customers at a clearing agency: Or (2) the amount of the deductions that would apply to the cleared security-based swap positions of the security-based swap customers pursuant to proposed Rule 18a–1; and
• The total initial margin calculated
  by the stand-alone SBSD with respect to non-cleared security-based swaps pursuant to proposed Rule 18a–3. The total of these two amounts—i.e., the risk margin amount—would be multiplied by 8% to determine the ratio￾based minimum net capital requirement (‘‘8% margin factor’’). In the 2018 comment reopening, the Commission asked whether the input to the risk margin amount for cleared security￾based swaps should be determined solely by the total initial margin required to be delivered by the nonbank SBSD with respect to transactions cleared for security-based swap customers at a clearing agency.57 Proposed Rule 18a–1 permitted a stand-alone SBSD to apply to the Commission to use model-based haircuts.58 The rule required a stand￾alone SBSD authorized to use models to maintain: (1) Minimum tentative net capital of not less than $100 million; and (2) minimum net capital of not less than the greater of $20 million or the 8% margin factor.59 The proposed rule defined ‘‘tentative net capital’’ to mean, in pertinent part, the amount of net capital maintained by the nonbank SBSD before deducting haircuts (standardized or model-based) with respect to the firm’s proprietary positions and, for firms authorized to use models, before deducting the credit risk charges discussed below in section II.A.2.b.v. of this release. The minimum tentative net capital requirement was designed to account for the fact that model-based haircuts, while more risk sensitive than standardized haircuts, tend to substantially reduce the amount of the deductions to tentative net capital in comparison to the standardized haircuts. It also was designed to account for the fact that models may miscalculate risks or not capture all risks (e.g., extraordinary losses or decreases in liquidity during times of stress that are not incorporated into the models). The proposed amendments to Rule 15c3–1 established minimum net capital requirements for a broker-dealer SBSD not authorized to use model-based haircuts.60 The proposed amendments required these entities to maintain minimum net capital equal of the greater of $20 million or the sum of: (1) The 8% margin factor; and (2) the amount of the financial ratio requirement that applied to the broker￾dealer under pre-existing requirements in Rule 15c3–1 (i.e., either the 15-to-1 ratio or 2% debit item ratio). Under Rule 15c3–1e, a broker-dealer must apply to the Commission for authorization to use the alternative net capital (ANC) computation that permits models to be used to compute haircuts and credit risk charges. Broker-dealers with that authorization—ANC broker￾dealers—are subject to minimum net capital requirements specific to these entities. In particular, before today’s amendments, paragraph (a)(7)(i) of Rule 15c3–1 required an ANC broker-dealer to maintain minimum tentative net capital of at least $1 billion and minimum net capital of at least $500 million. In addition, paragraph (a)(7)(ii) of Rule 15c3–1 required an ANC broker￾dealer to
  provide the Commission with an ‘‘early warning’’ notice when its tentative net capital fell below $5 billion. As proposed, a broker-dealer SBSD authorized to use models was subject to the minimum net capital requirements for an ANC broker-dealer, which the Commission proposed increasing.61 Consequently, under the proposed amendments to Rule 15c3–1, an ANC broker-dealer, including an ANC broker￾dealer SBSD, was required to maintain:
  (1) Tentative net capital of not less than $5 billion; and (2) net capital of not less than the greater of $1 billion, or the amount of the 15-to-1 ratio or 2% debit item ratio (as applicable) plus the 8% margin factor. The Commission also proposed increasing the early warning notification requirement for ANC broker-dealers from $5 billion to $6 billion. The Commission explained in the proposing release that while raising the tentative net capital requirement under Rule 15c3–1 from $1 billion to $5 billion would be a significant increase, the existing early warning notice requirement for ANC broker-dealers was $5 billion.62 This $5 billion ‘‘early warning’’ threshold acted as a de facto minimum tentative net capital requirement since ANC broker-dealers seek to maintain sufficient levels of tentative net capital to avoid the necessity of providing this regulatory notice. Accordingly, the objective in raising the minimum capital requirements for ANC broker-dealers was not to require the existing ANC broker-dealers to increase their current capital levels (as they already maintained tentative net capital in excess of $5 billion).63 Rather, the goal

increases in the capital requirements for ANC broker-dealers). 64See Letter from Kenneth E. Bentsen, Jr., Executive Vice President, Securities Industry and Financial Markets Association (Feb. 22, 2013) (‘‘SIFMA 2/22/2013 Letter’’). 65See Letter from Stuart J. Kaswell, Executive Vice President, Managing Director, and General Counsel, Managed Funds Association (Feb. 22,
2013) (‘‘MFA 2/22/2013 Letter’’).
66See Letter from Stephen John Berger, Managing Director, Government & Regulatory Policy, Citadel Securities (May 15, 2017) (‘‘Citadel 5/15/2017 Letter’’). 67See paragraphs (a)(7)(i) and (a)(10)(i) of Rule 15c3–1, as amended; paragraphs (a)(1) and (2) of Rule 18a–1, as adopted. In the final rule, the Commission made non-substantive amendments to the term of ‘‘tentative net capital’’ in Rule 18a–1, as adopted, to align the language more closely to the definition in Rule 15c3–1. See paragraph (c)(5) of Rule 18a–1, as adopted. 68See paragraph (a)(1) of Rule 18a–1, as adopted. 69See paragraph (a)(2) of Rule 18a–1, as adopted. 70See paragraph (a)(10)(i) of Rule 15c3–1, as amended. 71See paragraph (a)(7)(i) and (ii) of Rule 15c3–1, as amended. 72See Capital, Margin, and Segregation Proposing Release, 77 FR at 70225–26. 73See SIFMA 11/19/18 Letter. This commenter suggested that the Commission not apply the proposed 8% margin factor to full-purpose broker￾dealers, and modify the customer reserve requirements to include security-based swap credits and debits, thereby covering security-based swaps in the existing 2% debit item ratio, under existing Rule 15c3–1. For stand-alone SBSDs, the commenter recommended replacing the proposed 8% margin factor with a 2% minimum capital requirement, based on a calculation consistent with the proposed risk margin amount. 74See SIFMA 2/22/2013 Letter. 75The commenter suggested two approaches: one for nonbank SBSDs authorized to use models and one for nonbank SBSDs not authorized to use models. Under the first approach, the risk margin amount would be a percent of the firm’s aggregate model-based haircuts. The second approach was a credit quality adjusted version of the proposed 8% margin factor. 76See SIFMA 11/19/18 Letter. 77See Morgan Stanley 11/19/2018 Letter. This commenter also argued that a stand-alone broker￾dealer should not be subject to the proposed 8% margin factor minimum ratio requirement. Stand￾alone broker-dealers—other than ANC broker￾dealers—do not have to incorporate the 2% margin factor into their net capital calculation under Rule 15c3–1, as amended. 78See MFA 2/22/2013 Letter. See also Letter from Thomas G. McCabe, Chief Regulatory Officer, OneChicago (Nov. 19, 2018) (‘‘OneChicago 11/19/ 2018 Letter’’). 79See ICI 11/19/18 Letter; MFA/AIMA 11/19/ 2019 Letter; SIFMA 11/19/2018 Letter. was to establish new higher minimum requirements designed to ensure that the ANC broker-dealers continue to maintain high capital levels and that any new ANC broker-dealer entrants maintain capital levels commensurate with their peers. Comments and Final Fixed-Dollar Minimum Net Capital Requirements Some commenters expressed support for the proposed fixed-dollar minimum tentative net capital and net capital requirements. A commenter stated that the requirements were consistent with pre-existing requirements and practices for OTC derivatives dealers and ANC broker-dealers that have not proven to produce significant
disparities with other capital regimes.64 A second commenter stated that the proposal to require an ANC broker-dealer to provide notification to the Commission if the firm’s tentative net capital fell below $6 billion would improve the Commission’s monitoring of these key market participants.65 One commenter asked the Commission to reconsider the proposed $100 million minimum fixed-dollar tentative net capital requirement for stand-alone SBSDs authorized to use models, particularly for a nonbank SBSD that trades only in cleared security-based swaps.66 The commenter stated that dealing in cleared security￾based swaps should not implicate the same concerns about the use of models that led to the establishment of a higher threshold for other Commission registrants. The Commission believes that the same risks exist with respect to the use of models whether an SBSD is trading cleared or non-cleared security￾based swaps. In particular, the minimum tentative net capital requirement is designed to address the possibility that the model might miscalculate risk irrespective of the relative level of risk of the positions (e.g., cleared versus non-cleared security-based swaps) being input into the model. For these reasons, the Commission is adopting the proposed minimum fixed￾dollar tentative net capital and net capital requirements as proposed as well as the $6 billion early warning notification requirement as proposed.67 Consequently, under the final rules: (1) A stand-alone SBSD not approved to use internal models has a $20 million fixed￾dollar minimum net capital requirement; 68 (2) a stand-alone SBSD authorized to use internal models (including a firm registered as an OTC derivatives dealer) has a $100 million fixed-dollar minimum tentative net capital requirement and a $20 million fixed-dollar minimum net capital requirement; 69 (3) a broker-dealer SBSD not authorized to use internal models has a $20 million fixed-dollar minimum net capital requirement; 70 and (4) an ANC broker-dealer, including an ANC broker-dealer SBSD, has a $6 billion fixed-dollar early warning notification requirement, a $5 billion fixed-dollar minimum tentative net capital requirement, and a $1 billion fixed￾dollar minimum net capital requirement.71 Comments and Final Ratio-Based Minimum Net Capital Requirements As noted above, the Commission proposed a ratio-based minimum net capital requirement that for a broker￾dealer SBSD was the 15-to-1 ratio or 2% debit item ratio (as applicable) plus the proposed 8% margin factor, and for a stand-alone SBSD was only the proposed 8% margin factor.72 Commenters raised concerns about the proposed 8% margin factor. One commenter suggested that the Commission require broker-dealer SBSDs to comply with a ratio that is modeled on the 2% debit item ratio in Rule 15c3–1.73 Another commenter stated that a minimum capital requirement that is scalable to the volume, size, and risk of a nonbank SBSD’s activities would be consistent with the safety and
soundness standards mandated by the Dodd-Frank Act and the Basel Accords and would be comparable to the requirements established by the CFTC and the prudential regulators.74 The commenter, however, expressed concerns that the proposed 8% margin factor was not appropriately risk-based.75 A commenter suggested that, if the proposed 8% margin factor is adopted, the Commission should exclude security-based swaps that are portfolio margined with swaps or futures in a CFTC-supervised account.76 Another commenter believed that a broker-dealer dually registered as an FCM should be subject to a single risk margin amount calculated pursuant to the CFTC’s rules, since the CFTC’s proposed calculation incorporates both security-based swaps and swaps.77 A commenter suggested modifying the proposed definition of ‘‘risk margin amount’’ to reflect the lower risk associated with central clearing by ensuring that capital requirements for cleared security-based swaps are lower than the requirements for equivalent non-cleared security￾based swaps.78 Commenters also addressed the modifications to the proposed rule text in the 2018 comment reopening pursuant to which the input for cleared security-based swaps in the risk margin amount would be determined solely by reference to the amount of initial margin required by clearing agencies (i.e., not be the greater of those amounts or the amount of the haircuts that would apply to the cleared security-based swap positions). Some commenters supported the potential rule language modifications.79 Other commenters

80See Letter from Americans for Financial Reform (Nov. 19, 2018) (‘‘Americans for Financial Reform Education Fund Letter’’); Better Markets 11/ 19/2018 Letter; Rutkowski 11/20/2018 Letter. 81See Better Markets 11/19/2018 Letter. 82See Americans for Financial Reform Education Fund Letter. See also Rutkowski 11/20/2018 Letter. 83An ANC broker-dealer will not be subject to the final margin rule for non-cleared security-based swaps if it is not also registered as an SBSD. Therefore, its calculation of the 2% margin factor will only account for cleared security-based swaps. 84As discussed below in section II.D. of this release, Rule 18a–10 contains a process through which the maximum fixed-dollar amount is set at a transitional level of $250 billion for the first 3 years after the compliance date of the rule and then drops to $50 billion thereafter unless the Commission issues an order: (1) Maintaining the $250 billion maximum fixed-dollar amount for an additional period of time or indefinitely; or (2) lowering the maximum fixed-dollar amount to an amount between $250 billion and $50 billion. 85See section VI of this release (providing analysis of initial margin estimated for inter-dealer CDS positions, and using this to provide a range of estimates for the potential costs of complying with the 2% margin factor requirement, under certain assumptions). opposed them.80 One commenter opposing the modifications stated that the ‘‘greater of’’ provision creates a backstop to protect against the possibility that varying margin requirements across clearing agencies and over time could be insufficient to reflect the true risk to a nonbank SBSD arising from its customers’ positions.81 Another commenter stated that eliminating the haircut requirement may incentivize clearing agencies to compete on the basis of margin requirements.82 The Commission continues to believe a margin factor ratio is the right approach to setting a scalable minimum net capital requirement. The calculation is based on the initial margin required to be posted by an ANC broker-dealer or nonbank SBSD to a clearing agency for cleared security-based swaps and on the initial margin calculated by a nonbank SBSD for a counterparty for non-cleared security-based swaps.83 Margin requirements generally are scaled to the risk of the positions, with riskier positions requiring higher levels of margin. Therefore, the amount of the ratio-based minimum net capital requirement will be linked to the volume, size, and risk of the firm’s cleared and non-cleared security-based swap transactions. However, in response to comments raising concerns about the potential impact of the proposed 8% margin factor, the Commission believes it would be appropriate to adopt, at least initially, a lower margin factor and create a process through which the percent multiplier can potentially (but not necessarily) be increased over time (i.e., starting at 2% and potentially transitioning from 2% to 8% or less over the course
of at least 5 years). Initially using a 2% multiplier could provide ANC broker-dealers and nonbank SBSDs with time to adjust to the requirement if it incrementally increases. The final rule sets strict limits in terms of how quickly the multiplier can be raised and the amount by which it can be raised through the process in the rule because market participants should know when a potential increase in the multiplier using the process could first occur and how much the multiplier could be increased at that time or thereafter. The Commission’s objective is to establish an efficient and flexible process, while providing market participants with notice about the potential timing and magnitude of an increase so that they can make informed decisions about how to structure their businesses. Consequently, under the process set forth in the final rules, the percent multiplier will be 2% for at least 3 years after the compliance date of the rule.84 After 3 years, the multiplier could increase to not more than 4% by Commission order, and after 5 years the multiplier could increase to not more than 8% by Commission order if the Commission had previously issued an order raising the multiplier to 4% or less. The process sets an upper limit for the multiplier of 8% (the day-1 multiplier under the proposed rules) and requires the issuance of two successive orders to raise the multiplier to as much as 8% (or an amount between 4% and 8%). The first order can be issued no earlier than 3 years after the compliance date of the rules, and the second order can be issued no earlier than 5 years after the compliance date. The process in the final rules provides that, before issuing an order to raise the multiplier, the Commission will consider the capital and leverage levels of the firms subject to the ratio-based minimum net capital requirement as well as the risks of their security-based swap positions. After the rule is adopted, the Commission will gather data on how the ratio-based minimum net capital requirement using the 2% multiplier (‘‘2% margin factor’’) compares to the levels of excess net capital these firms maintain, the risks of their security-based swap positions, and the leverage they employ.85 This information will assist the Commission in analyzing whether the ratio-based minimum net capital requirement is operating in practice as the Commission intends (i.e., a requirement that sets a prudent level of minimum net capital given the volume, size, and risk of the firm’s security-based swap positions). In determining whether to issue an order raising the multiplier, the Commission may also consider, for example, whether further data is necessary to analyze the appropriate level of the ratio-based minimum net capital requirement. Finally, the process in the final rules provides that the Commission will publish notice of the potential change to the multiplier and subsequently issue an order regarding the change. The Commission intends to provide such notice
sufficiently in advance of the order for the public to be aware of the potential change. As discussed above, a commenter suggested that broker-dealer SBSDs should be subject to a ratio that is modeled on the 2% debit item ratio in Rule 15c3–1. The Commission does not believe there is a compelling reason to adopt a different standard for broker￾dealer SBSDs. The standard being adopted today is based on initial margin calculations for cleared and non-cleared security-based swaps. Modeling a requirement on the 2% debit item ratio would require a calculation based on the segregation requirements for security-based swaps. This could result in firms with similar risk profiles in terms of their customers’ security-based swap positions having different minimum net capital requirements because for stand-alone SBSDs the requirement would be based on margin calculations and for ANC broker-dealers and broker-dealer SBSDs the requirement would be based on segregation requirements. The Commission believes the more prudent approach is to require all firms subject to this requirement to comply with the same standard in order to avoid the potential competitive impacts of imposing different standards, particularly when the rationale for applying the different standard advocated by the commenter is not grounded in promoting the safety and soundness of the firms. Similarly, the Commission is not establishing two alternative methods for calculating the 2% margin factor—one for firms that use models and the other for firms that do not use models—as suggested by the commenter. To a certain extent, the 2% margin factor calculation by a nonbank SBSD authorized to use models to calculate initial margin requirements for non￾cleared security-based swap transactions will be more risk sensitive than the calculation by nonbank SBSDs that will use the standardized approach to calculate initial margin (i.e., the standardized haircuts). Models generally are more risk sensitive and therefore will result in lower initial

86See SIFMA 2/22/2013 Letter (raising concerns that the proposed 8% margin factor and the capital charges in lieu of margin could result in duplicative charges). 87See, e.g., Order Granting Conditional Exemption Under the Securities Exchange Act of 1934 in Connection with Portfolio Margining of Swaps and Security-Based Swaps, Exchange Act Release No. 68433 (Dec. 14, 2012), 77 FR 75211 (Dec. 19, 2012). 88See 17 CFR 1.17(a)(1)(i)(B) and (b)(8). 89See CFTC Capital Proposing Release, 81 FR at 91266. 90See paragraph (c)(17) of Rule 15c3–1, as amended; paragraph (c)(6) of Rule 18a–1, as adopted. 91See paragraphs (a)(7)(i) and (a)(10)(i) of Rule 15c3–1, as amended; paragraphs (a)(1) and (2) of Rule 18a–1, as adopted. margin requirements than approaches using standardized haircuts. Thus, the firms that use models to calculate initial margin for non-cleared security-based swaps generally will employ a more risk-sensitive approach when calculating the 2% margin factor than firms that do not use models. Further, the Commission believes that most nonbank SBSDs will use models to calculate initial margin to the extent permitted under the final margin rules. Moreover, a standard based on a firm’s aggregate model-based haircuts— the commenter’s first suggested alternative—could result in a substantially lower minimum net capital requirement. The Commission’s approach requires the firm to calculate the risk margin amount using the initial margin amount calculated for each counterparty’s cleared and non-cleared security-based swap positions. The commenter’s alternative of using the model-based haircut calculations would net proprietary positions resulting in a lower minimum net capital requirement. The Commission believes the more prudent approach is to base the minimum net capital requirement on the margin calculations for each counterparty’s security-based swap positions. For similar reasons, the Commission believes nonbank SBSDs not authorized to use models should base the calculation of the risk margin amount on the standardized margin calculations for their counterparties (rather than the standardized haircut calculation that can be taken for proprietary positions, which permits certain netting of long and short positions). This will be simpler and more consistent with the requirements of Rule 18a–3, as adopted, than the commenter’s suggested credit quality approach for nonbank SBSDs that do not use models. Moreover, as discussed below in
section II.A.2.b.v. of this release, the
final capital rules for ANC broker￾dealers and nonbank SBSDs broaden the application of the credit risk charges as compared to the proposed rules. This should significantly reduce the amount of net capital an ANC broker-dealer or nonbank SBSD will need to maintain with respect to its security-based swap positions (as compared to the treatment of these positions under the proposed rules).86 Therefore, the Commission believes that largely retaining the proposed approaches to calculating the risk margin amount (and, therefore, the 2% margin factor) is an appropriate trade-off to reducing the application of the capital deductions in lieu of margin. In response to comments that the Commission exclude security-based swaps that are being portfolio margined under a CFTC-supervised account, the Commission will need to coordinate with the CFTC to implement portfolio margining.87 A part of any such coordination would be to resolve the question of how to incorporate accounts that are portfolio margined into the minimum net capital requirements under the capital rules of the Commission and the CFTC. In response to comments, the Commission does not believe it would be appropriate to treat cleared security￾based swaps more favorably than non￾cleared security-based swaps for purposes of calculating the 2% margin factor. The 2% margin factor is consistent with an existing requirement in the CFTC’s net capital rule for FCMs.88 Currently, FCMs must maintain adjusted net capital in excess of 8% of the risk margin on futures, foreign futures, and cleared swaps positions carried in customer and noncustomer accounts. Moreover, the CFTC has proposed a similar requirement for swap dealers and major swap participants registered as FCMs.89 The CFTC’s proposed minimum capital requirement is 8% of the initial margin for non￾cleared swap and security-based swap positions, and the total initial margin the firm is required to post to a clearing agency or broker-dealer for cleared swap and security-based swap positions. Thus, the CFTC’s proposed rule does not treat cleared positions more favorably than non-cleared positions (both are based on initial margin calculations). However, in response to comments, the Commission has modified the final rule so that for cleared security-based swaps the calculation of the risk margin amount is based on the initial margin required to be posted to a clearing agency rather than the greater of that amount or the haircuts that would apply to the positions (as was proposed).90 Thus, for purposes of the 2% margin factor, the risk of cleared security-based swaps is measured by the amount of initial margin the clearing agency’s margin rule requires. This more closely aligns the Commission’s rule with the CFTC’s proposed rule (as requested by commenters). In response to commenters who opposed this modification, the Commission recognizes that it will eliminate a component of the proposed rule that was designed to address the potential that clearing
agencies might set margin requirements that were lower than the applicable haircuts that would apply to the positions. However, retaining the requirement could have created a disincentive to clear security￾based swap transactions. Moreover, eliminating it will simplify the calculation and more closely align the requirement with the CFTC’s proposed capital rule. The Commission has weighed these competing considerations and believes that the modification is appropriate. The Commission does not believe further modifications to distinguish the risk of cleared security-based swaps from non-cleared security-based swaps are necessary. Cleared security-based swaps generally will be less complex than non-cleared security-based swaps. Further, cleared security-based swaps will be more liquid than non-cleared security-based swaps in terms of how long it will take to close them out. These attributes may factor into the margin calculations of the clearing agencies and, consequently, into the risk margin amount. Therefore, the potentially lower risk characteristics of cleared security￾based swaps as compared to non-cleared security-based swaps could be incorporated into the 2% margin factor by virtue of relying solely on the clearing agency margin requirements. For these reasons, the Commission is adopting the 2% margin factor with modifications to the term ‘‘risk margin amount’’ and the potential phase-in of the percent multiplier, as discussed above.91 Stand-alone SBSDs will need to calculate the 2% margin factor to determine their ratio-based minimum net capital requirement. ANC broker￾dealers and broker-dealer SBSDs will need to calculate the 2% margin factor and the 15-to-1 ratio or 2% debit item ratio (as applicable) to determine their ratio-based minimum net capital requirement. b. Computing Net Capital The Commission proposed the net liquid assets test embodied in Rule 15c3–1 as the regulatory capital

92See, e.g., Net Capital Requirements for Brokers and Dealers, 54 FR at 315 (‘‘The [net capital] rule’s design is that broker-dealers maintain liquid assets in sufficient amounts to enable them to satisfy promptly their liabilities. The rule accomplishes this by requiring broker-dealers to maintain liquid assets in excess of their liabilities to protect against potential market and credit risks.’’) (footnote omitted). 93See paragraphs (c)(2)(i) through (xiv) of Rule 15c3–1. 94See Capital, Margin, and Segregation Proposing Release, 77 FR at 70230–56. 95 17 CFR 15c3–1(c)(2)(iv). 96See section VI of this release (discussing costs and benefits of the rules and amendments). 97See Capital, Margin, and Segregation Comment Reopening, 83 FR at 53012. 98See SIFMA 11/19/2018 Letter. See also BCBS and IOSCO, Margin Requirements for Non-centrally Cleared Derivatives (Mar. 2015), available at http:// www.bis.org/bcbs/publ/d317.pdf. 99See Morgan Stanley 11/19/2018 Letter. 100See Morgan Stanley 11/19/2018 Letter. In the case of a dually-registered SBSD/swap dealer, the commenter encouraged the Commission to defer to the CFTC’s proposed treatment for swap initial margin. 101See Better Markets 11/19/2018 Letter. 102Although not binding, the staff of the Division of Trading and Markets issued a no-action letter (in the context of margin collateral posted by a stand￾alone broker-dealer to a swap dealer or other counterparty for a non-cleared swap) that stated that the staff would not recommend enforcement action to the Commission if the stand-alone broker￾dealer did not deduct from net worth when computing net capital initial margin provided to a counterparty, if certain conditions were met. See Letter from Michael A. Macchiaroli, Associate Director, Division of Trading and Markets, Commission, to Kris Dailey, Vice President, Risk Oversight and Regulation, FINRA (Aug. 19, 2016) (‘‘Staff Letter’’). See also Capital, Margin, and Segregation Comment Reopening, 83 FR at 53012, n.38 (discussing the conditions in the Staff Letter). 103This guidance is not relevant to margin collateral posted to a clearing agency for a cleared security-based swap or a DCO for a cleared swap. Under the final capital rules, stand-alone broker￾dealers and nonbank SBSDs may treat margin collateral posted to a clearing agency for cleared security-based swaps or to a DCO for cleared swaps as a ‘‘clearing deposit’’ and, therefore, not deduct the value of the collateral from net worth when computing net capital. See paragraph (c)(2)(iv)(E)(3) of Rule 15c3–1, as amended; paragraph (c)(1)(iii) of Rule 18a–1, as adopted. standard for all nonbank SBSDs. The standard (maintaining net liquid assets) is imposed through the computation requirements set forth in paragraph (c)(2) of Rule 15c3–1, which defines the term ‘‘net capital.’’ The first step in a net capital calculation is to compute the broker-dealer’s net worth under GAAP. Next, the broker-dealer must make certain adjustments to its net worth.
These adjustments are designed to leave the firm in a position in which each dollar of unsubordinated liabilities is matched by more than a dollar of highly liquid assets.92 There are fourteen categories of net worth adjustments, including adjustments resulting from the application of standardized or model-based haircuts.93 The Commission proposed that a broker￾dealer SBSD compute net capital pursuant to the pre-existing provisions in paragraph (c)(2) of Rule 15c3–1, as proposed to be amended, to account for security-based swap and swap activities, and that stand-alone SBSDs compute net capital in a similar manner pursuant to proposed Rule 18a–1.94
i. Deduction for Posting Initial Margin
If a stand-alone broker-dealer or nonbank SBSD delivers initial margin to a counterparty, it must take a deduction from net worth in the amount of the posted collateral.95 The Commission recognizes that the imposition of this deduction could increase transaction costs for stand-alone broker-dealers and nonbank SBSDs.96 Consequently, the Commission sought comment on whether it should provide a means for a firm to post initial margin to counterparties without incurring the deduction with respect to Rules 15c3– 1 and 18a–1, under specified conditions. The potential conditions included that the initial margin requirement is funded by a fully executed written loan agreement with an affiliate of the firm and that the lender waives re-payment of the loan until the initial margin is returned to the firm.97 Several commenters expressed support for this general approach but suggested modifications. A commenter supported requiring no deduction if the posted initial margin is: (1) Subject to an agreement that satisfies the specified conditions, or (2) maintained at a third￾party custodian in accordance with the recommendations the Basel Committee on Banking Supervision (‘‘BCBS’’) and the Board of the International Organization of Securities Commissions (‘‘IOSCO’’) made with respect to margin requirements for non-cleared derivatives (‘‘BCBS/IOSCO Paper’’).98 Another commenter supported the policy behind the Commission’s approach recognizing the role of an SBSD as a subsidiary of a larger banking organization, but recommended that the Commission evaluate whether inter-company liquidity and funding arrangements and loss absorbing capacity mandated by resolution planning guidance should be recognized as a second alternative to deductions for initial margin posted away.99 This commenter also encouraged the Commission to reconcile its guidance with the CFTC’s proposed capital rules, which do not require initial margin posted to a third-party custodian to be deducted from net worth in computing capital.100 Finally, a commenter raised concerns regarding the potential guidance suggesting that the effect of the conditions would be to reduce the amount of capital SBSDs are required to hold, increasing risk.101 The Commission is providing the following interpretive guidance as to how a stand-alone broker-dealer or nonbank SBSD can avoid taking a deduction from net worth when it posts initial margin to a third party. Under the guidance, initial margin provided by a stand-alone broker-dealer or nonbank SBSD to a counterparty need not be deducted from net worth when computing net capital if:

• The initial margin requirement is
  funded by a fully executed written loan agreement with an affiliate of the stand￾alone broker-dealer or nonbank SBSD;
• The loan agreement provides that
  the lender waives re-payment of the loan until the initial margin is returned to the stand-alone broker-dealer or nonbank SBSD; and
• The liability of the stand-alone
  broker-dealer or the nonbank SBSD to the lender can be fully satisfied by delivering the collateral serving as initial margin to the lender.102 Stand-alone broker-dealers and nonbank SBSDs may apply this guidance to security-based swap and swap transactions.103 In response to comments, the Commission does not believe this interpretive guidance will increase risk to a stand-alone broker￾dealer or nonbank SBSD because the conditions require that an affiliate fund the initial margin requirement, resulting in no decrease to the capital of the broker-dealer or nonbank SBSD. In contrast, these conditions may decrease risks to a stand-alone broker-dealer or nonbank SBSD by making additional capital available to the firm for liquidity or other purposes, given that it will not need to use its own capital to fund the initial margin requirement of the counterparty. Further, the Commission does not believe that initial margin posted by a stand-alone broker-dealer or nonbank SBSD with respect to a swap transaction should be exempt from the firm’s net capital requirements, since collateral posted away from the firm would not be available for other purposes, and, therefore, the firm’s liquidity would be reduced. Finally, in response to comments, the Commission does not believe it would be appropriate at this time to permit a stand-alone broker-dealer or nonbank SBSD to look to collateral held by an affiliate as part of resolution planning as a means for the firm to avoid taking a deduction for initial margin posted to a counterparty. The collateral held by the affiliate may not be available to the stand-alone

104See Capital, Margin, and Segregation Proposing Release, 77 FR at 70245, 70331. 105See 77 FR at 70247. 106See 77 FR at 7045–47. 107See Capital, Margin, and Segregation Comment Reopening, 83 FR at 53009. More specifically, the Commission requested comment on whether the rule should provide that the deduction need not be taken if the difference between the clearing agency margin amount and the haircut is less than 1% (or some other amount) of the SBSD’s tentative net capital, and less than 10% (or some other amount) of the counterparty’s net worth, and the aggregate difference across all counterparties is less than 25% (or some other amount) of the counterparty’s tentative net capital. 108See Capital, Margin, and Segregation Proposing Release, 77 FR at 70247–48. 109See Capital, Margin, and Segregation Comment Reopening, 83 FR at 53012. 110See Capital, Margin, and Segregation Comment Reopening, 83 FR at 53011–12. broker-dealer or nonbank SBSD, particularly in a time of market stress when it is most needed.
ii. Deductions for not Collecting Margin
The pre-existing provisions of paragraph (c)(2)(xii) of Rule 15c3–1 require a broker-dealer to take a deduction from net worth for under￾margined accounts. The Commission proposed to amend Rule 15c3–1 to require a stand-alone broker-dealer or broker-dealer SBSD to take a deduction from net worth for the amount of cash required in the account of each security￾based swap customer to meet a margin requirement of a clearing agency, DEA (such as FINRA), or the Commission to which the firm was subject, after application of calls for margin, marks to the market, or other required deposits which are outstanding one business day or less.104 Proposed Rule 18a–1 had an analogous provision, although it did not refer to margin requirements of DEAs because stand-alone SBSDs will not be members of self-regulatory organizations (‘‘SROs’’) and therefore will not have a DEA. These proposed under-margined account provisions required a stand￾alone broker-dealer or nonbank SBSD to take a deduction from net worth when a customer or security-based swap customer did not meet a margin requirement of a clearing agency, DEA, or the Commission pursuant to a rule that applied to the stand-alone broker￾dealer or nonbank SBSD after one business day from the date the margin requirement arises. The proposed deductions were designed to address the risk to stand-alone broker-dealers and nonbank SBSDs that arises from not collecting collateral to cover their exposures to counterparties. The Commission asked whether the deductions should also be extended to failing to collect margin required under margin rules for swap transactions that apply to a stand-alone broker-dealer or nonbank SBSD.105 The Commission also proposed deductions from net worth to address situations in which an account of a security-based swap customer is meeting all applicable margin requirements, but the margin requirements result in the collection of an amount of collateral that is insufficient to address the risk of the positions in the account.106 The proposals separately addressed cleared and non-cleared security-based swaps. For cleared security-based swaps, the Commission proposed a deduction that applied if a nonbank SBSD collects margin from a counterparty in an amount that is less than the deduction that would apply to the security-based swap if it was a proprietary position of the nonbank SBSD (i.e., the collected margin was less than the amount of the standardized or model-based haircuts, as applicable). This proposed requirement was designed to account for the risk of the counterparty defaulting by requiring the nonbank SBSD to maintain capital in the place of collateral in an amount that is no less than required for a proprietary position. It also was designed to ensure that there is a standard minimum coverage for exposure to cleared security-based swap counterparties apart from the individual clearing agency margin requirements, which could vary among clearing agencies and over time. In the 2018
comment reopening, the Commission asked whether this proposed rule should be modified to include a risk￾based threshold under which the deduction need not be taken, and provided modified rule text to apply the deduction to cleared swap transactions.107 For non-cleared security-based swaps, the Commission proposed requirements that imposed deductions to address 3 exceptions in the nonbank SBSD margin requirements of proposed Rule 18a–3. Under these 3 exceptions, a nonbank SBSD would not be required to collect (or, in one case, hold) variation and/or initial margin from certain types of counterparties. Consequently, the Commission proposed deductions to serve as an alternative to collecting margin. The first proposed deduction applied when a nonbank SBSD does not collect sufficient margin under an exception in proposed Rule 18a–3 for counterparties that are commercial end users. The second proposed deduction applied when the nonbank SBSD does not hold initial margin under an exception in proposed Rule 18a–3 for counterparties requiring that the collateral be segregated pursuant to Section 3E(f) of the Exchange Act. Section 3E(f) of the Exchange Act, among other things, provides that the collateral must be carried by an independent third-party custodian. Collateral held in this manner would not be in the physical possession or control of the nonbank SBSD, nor would it be capable of being liquidated promptly by the nonbank SBSD without the intervention of another party. Consequently, it would not meet the collateral requirements in proposed Rule 18a–3. The third proposed deduction applied when a nonbank SBSD does not collect sufficient margin under an exception in proposed Rule 18a–3 for legacy accounts (i.e., accounts holding security-based swap transactions entered into prior to the effective date of the rule). The Commission also sought comment on whether there should be deductions in lieu of margin for non-cleared swaps with commercial end users and counterparties that elect to have initial margin held at a third￾party custodian as well as for non￾cleared swaps in legacy accounts.108 In the 2018 comment reopening, the Commission provided potential rule language that would establish deductions in lieu of margin for non￾cleared security-based swaps and swaps.109 The amount of the deduction for non-cleared security-based swaps would be the initial margin calculated pursuant to proposed Rule 18a–3 (i.e., using the standardized haircuts in the nonbank SBSD capital rules or a margin model). The amount of the deduction for non-cleared swaps would be the standardized haircuts in the nonbank SBSD capital rules or the amount calculated using a margin model approved for purposes of proposed Rule 18a–3. The Commission also asked in the 2018 comment reopening whether there should be an exception to taking the deduction for initial margin collateral held by an independent third-party custodian pursuant to Section 3E(f) of the Exchange Act or Section 4s(l) of
the CEA under conditions that promote the SBSD’s ability to promptly access the collateral if needed.110 Specifically, the Commission sought comment on whether there should be such an exception under the following conditions: (1) The custodian is a bank; (2) the nonbank SBSD enters into an agreement with the custodian and the counterparty that provides the nonbank

111The Commission asked commenters to address whether the agreement between the nonbank SBSD, counterparty, and third party should: (1) Provide that the collateral will be released promptly and directed in accordance with the instructions of the nonbank SBSD upon the receipt of an effective notice from the nonbank SBSD; (2) provide that when the counterparty provides an effective notice to access the collateral the nonbank SBSD will have sufficient time to challenge the notice in good faith and that the collateral will not be released until a prior agreed-upon condition among the three parties has occurred; and (3) give priority to an effective notice from the nonbank SBSD over an effective notice from the counterparty, as well as priority to the nonbank SBSD’s instruction about how to transfer collateral in the event the custodian terminates the account control agreement. 112See Capital, Margin, and Segregation Proposing Release, 77 FR at 70245. 113See SIFMA 2/22/2013 Letter. 114See paragraphs (c)(1)(iii) and (c)(2)(ii) of Rule 18a–3, as adopted. These and other provisions related to the margin rule are discussed in more detail in section II.B.2. below. In addition, a conforming change was made in paragraph (c)(1)(iii)(B) of Rule 18a–1, as adopted, to replace the phrase ‘‘one business day’’ with ‘‘the required time frame to collect the margin, marks to the market, or other required deposit.’’ See paragraph (c)(1)(iii)(B) of Rule 18a–1, as adopted. 115See paragraph (c)(1)(iii) of Rule 18a–3, as adopted. 116See paragraph (c)(1)(iii)(B) of Rule 18a–3, as adopted. 117See paragraph (c)(1)(iii)(G) of Rule 18a–3, as adopted. 118See paragraph (c)(1)(iii)(H) of Rule 18a–3, as adopted. 119A stand-alone broker-dealer will not be subject to the Commission’s final margin rule for non￾cleared security-based swaps (Rule 18a–3). Therefore, the firm will not be required to take a capital deduction for failing to collect margin under this rule. 120See paragraph (c)(2)(xii)(B) of Rule 15c3–1, as amended; paragraph (c)(1)(viii) of Rule 18a–1, as adopted. 121See CFTC Margin Adopting Release, 81 FR at 649–650; Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74864–65 (discussing collection of margin timing requirements, including when counterparties are located in different time zones). 122See paragraph (c)(2)(xii)(B) of Rule 15c3–1, as amended; paragraph (c)(1)(viii) of Rule 18a–1, as adopted. 123See Capital, Margin, and Segregation Proposing Release, 77 FR at 70245–46. 124See Capital, Margin, and Segregation Comment Reopening, 83 FR at 53009. SBSD with the same control over the collateral as would be the case if the nonbank SBSD controlled the collateral directly; and (3) an opinion of counsel deems the agreement enforceable. In addition, the Commission stated it was considering providing guidance on ways a nonbank SBSD could structure the account control agreement to meet a requirement that the nonbank SBSD have the same control over the
collateral as would be the case if the nonbank SBSD controlled the collateral directly.111 Comments and Final Requirements for Deductions for Under-Margined Accounts As noted above, the Commission proposed a deduction from net worth for failing to collect margin required by a rule of a clearing agency, DEA, or the Commission that applied to the stand￾alone broker-dealer or nonbank SBSD.112 A commenter urged the Commission to permit firms a one-day grace period before the deduction would apply in the case of an under-margined account of an affiliate if the affiliate is subject to U.S. or comparable non-U.S. prudential regulation.113 The commenter stated that applying an immediate deduction with respect to a security-based swap transaction with a regulated affiliate before there is operationally a means for transferring collateral to the SBSD would only serve to undermine beneficial risk management activities within a corporate group. In response to the comment, the final margin rule being adopted today provides a nonbank SBSD or MSBSP an additional day (i.e., two business days) to collect required margin from a counterparty (including variation margin due from an affiliate) if the counterparty is located in a different country and more than 4 time zones away.114 In addition, the exceptions for when nonbank SBSDs need not collect initial margin from a counterparty have been expanded.115 For example, the financial market intermediary exception has been expanded so that it not only applies to counterparties that are SBSDs but also to other types of financial market intermediaries, including foreign and domestic banks and broker￾dealers.116 There also is an exception from collecting initial margin from affiliates.117 In addition, the final margin rule includes an initial margin exception when the aggregate credit exposure of the nonbank SBSD and its affiliates to the counterparty and its affiliates is $50 million or less.118 These modifications to the final margin rule should substantially mitigate the commenter’s concerns, given that in many instances there will be no requirement to collect initial margin, and the timeframe for collecting margin has been lengthened for counterparties located in other countries when they are more than 4 time zones away. Nonetheless, when margin is required by a rule that applies to an entity, it should be collected promptly.119 Margin is designed to protect the stand-alone broker-dealer or nonbank SBSD from the consequences of the counterparty defaulting on its obligations. This deduction for failing to collect required margin will serve as an incentive for stand-alone broker-dealers and nonbank SBSDs to have a well-functioning margin collection system, and the capital needed to take the deduction will protect them from the consequences of the counterparty’s default. For the foregoing reasons, the Commission is adopting the deduction for under-margined accounts with the modification to include a deduction for failing
to collect required margin with respect to swap transactions.120 In addition, as discussed above, the Commission has modified Rule 18a–3 to permit an extra business day to collect margin from a counterparty that is located in another country and more than 4 time zones away. Further, it is possible that other margin requirements for security-based swaps and swaps may provide more than one business day to collect required margin.121 Therefore, the final rules have been modified to provide that the deduction for uncollected margin can be reduced by calls for margin, marks to the market, or other required deposits which are outstanding within the required time frame to collect the margin, mark to the market, or other required deposits.122 As proposed, the rules provided that the deduction could be reduced by calls for margin, marks to the market, or other required deposits which are outstanding one business day or less. Consequently, under the final rules, if the firm has sent the counterparty a margin call within the required time frame for collecting the margin, a stand-alone broker-dealer or nonbank SBSD can reduce the deduction for required margin that has not been collected from a counterparty by the amount of that call. If the counterparty does not post the margin within that time frame, the deduction must be taken. Comments and Final Requirements for Deductions In Lieu of Margin for Cleared Transactions As noted above, the Commission proposed a deduction from net worth that applied if a nonbank SBSD collects margin from a counterparty for a cleared security-based swap in an amount that is less than the deduction that would apply to the security-based swap if it was a proprietary position of the nonbank SBSD.123 In the 2018 comment reopening, the Commission asked whether this proposal should be modified to include a risk-based threshold under which the proposed deduction need not be taken.124 A commenter stated that the requirement to take a deduction in lieu

125See SIFMA 2/22/2013 Letter.
126See Morgan Stanley 11/19/2018 Letter; OneChicago 11/19/2018 Letter; SIFMA 2/22/2013 Letter; SIFMA 11/19/2018 Letter. 127See SIFMA 11/19/2018 Letter. 128See OneChicago 11/19/2018 Letter. 129See SIFMA 11/19/2018 Letter. This commenter argued that the 25% aggregate tentative net capital threshold is unnecessary. 130See Better Markets 11/19/2018 Letter. 131See Morgan Stanley 11/19/2018 Letter; SIFMA 11/19/2018 Letter. 132See Morgan Stanley 11/19/2018 Letter. 133See Standards for Covered Clearing Agencies, Exchange Act Release No. 78961 (Sept. 28, 2016), 81 FR 70786 (Oct. 13, 2016). 134 17 CFR 240.17Ad–22(e)(6). 135See Enhanced Risk Management Standards for Systemically Important Derivatives Clearing Organizations, 78 FR 49663 (Aug. 15, 2013); Derivatives Clearing Organizations and International Standards, 78 FR 72476 (Dec. 2, 2013). 136See Capital, Margin, and Segregation Proposing Release, 77 FR at 70246–47. 137See Capital, Margin, and Segregation Comment Reopening, 83 FR at 53012. of margin with respect to cleared security-based swaps would ‘‘harm customers because it would provide an incentive for the collection of margin by SBSDs beyond the amount determined by the clearing agency.’’ 125 The commenter recommended that the Commission eliminate this proposed deduction. Several commenters stated that the Commission should address any concerns regarding clearing agency minimum margin requirements directly through its regulation of clearing agencies.126 One commenter stated that the deduction could drive business to firms willing to incur the deduction instead of collecting sufficient margin.127 The commenter believed that this would provide an advantage to the largest clearing firms possessing the greatest amount of excess net capital, thereby exacerbating concentration in the market for clearing services. Another commenter stated that a low margin level for cleared swaps should not be viewed as a deficiency of clearing models but as an advantage of central clearing.128 This commenter stated that a threshold such as the one described in the 2018 comment reopening would not address the commenter’s concerns and that the proposed deduction should be eliminated. Another commenter recommended that the Commission impose the cleared security-based swap deduction only to the extent it exceeds 1% of the SBSD’s tentative net capital, consistent with the Commission’s CDS portfolio margin exemption.129 One commenter opposed the inclusion of a potential threshold in the final rule, believing it would reduce capital requirements and increase risk.130 Some commenters opposed applying the proposed deduction to cleared swaps, arguing it would interfere with the CFTC’s comprehensive regulation of cleared swaps margin requirements.131 A commenter noted that client clearing markets in the United States are, in their current composition, dominated by CFTC-regulated swaps and believed that integration of Commission net capital rules with CFTC net capital rules is
particularly important in the case of client clearing.132 The Commission is persuaded by commenters that the proposed deduction could provide an unintended advantage to the largest clearing firms and that potential issues regarding clearing agency and DCO minimum margin requirements may be addressed through direct regulation of clearing agencies and DCOs. Therefore, the Commission is eliminating the proposed deduction from the final rules. The CFTC did not propose a similar deduction related to clearing agency margin requirements. Therefore, eliminating this deduction from the final rules may result in the two agencies having more closely aligned capital requirements. In response to comments that elimination of the proposed deduction will decrease capital requirements and increase risk, the Commission believes that existing requirements for clearing agencies and DCOs as well as the risk management requirements for nonbank SBSDs being adopted today will address the potential risk of a counterparty defaulting on a requirement to post margin for a cleared security-based swap or swap transaction. For example, since the issuance of the proposing release in 2012, the Commission has enhanced its clearing agency standards. More specifically, in 2016, the Commission adopted final rules to establish enhanced standards for the operation and governance of registered clearing agencies that meet the definition of ‘‘covered clearing agency.’’ 133 Under these rules, a covered clearing agency that provides central clearing services must establish, implement, maintain, and enforce written policies and procedures reasonably designed to, as applicable, cover its credit exposures to its participants by establishing a risk-based margin system that meets certain minimum standards prescribed in the rule.134 The CFTC also has adopted enhanced requirements for systemically important DCOs.135 In addition, nonbank SBSDs must establish and maintain a risk management control system that complies with Rule 15c3–4. This rule requires that the system address various risks, including credit risk. Consequently, nonbank SBSDs will need to have risk management systems designed to mitigate the risk of a counterparty defaulting on a requirement to post margin for a cleared security-based swap or swap transaction. For the foregoing reasons, the Commission believes it is appropriate to eliminate from the final rules the deductions related to the margin requirements for cleared security-based swap and swap transactions. Comments and Final Requirements for Deductions In Lieu of Margin for Non￾Cleared Transactions As noted above, the Commission proposed deductions from net worth in lieu of margin for non-cleared security￾based swaps, and sought comment on whether these proposed deductions should be expanded to include non￾cleared swaps.136 In the 2018 comment reopening, the Commission provided potential rule language that would establish deductions in lieu of margin for non-cleared
security-based swaps and swaps.137 The amount of the deduction for non-cleared security￾based swaps would be the initial margin calculated pursuant to proposed Rule 18a–3 (i.e., using the standardized haircuts in the nonbank SBSD capital rules or a margin model approved for the purposes of Rule 18a–3). The amount of the deduction for non-cleared swaps would be the standardized haircuts in the nonbank SBSD capital rules or the amount calculated using a margin model approved for the purposes of proposed Rule 18a–3. Comments on these matters generally fell into one of 3 categories: (1) Comments requesting or supporting the ability to apply credit risk charges instead of these deductions for a broader range of counterparties than only commercial end users; (2) comments objecting to the deduction when counterparties elect to have initial margin held at a third-party custodian and suggesting modifications to the potential exception to avoid the deduction; and (3) comments objecting to the deduction for legacy accounts and requesting the ability to use credit risk charges for these accounts. As discussed in more detail below, the Commission is adopting the proposed deductions in lieu of margin for non-cleared security-based swap and swap transactions, but with two significant modifications that are designed to address the concerns raised by commenters. First, as discussed

138See paragraph (a)(7) of Rule 15c3–1, as amended; paragraph (a)(2) of Rule 18a–1, as adopted. See Capital, Margin, and Segregation Comment Reopening, 83 FR at 53010–11 (soliciting comment on potential rule language that would modify the proposal in this manner). 139ANC broker-dealers that are not registered as SBSDs and other types of stand-alone broker￾dealers will not be subject to the capital deductions in lieu of margin for non-cleared security-based swaps resulting from electing not to collect margin under Rule 18a–3 because they are not subject to the rule (i.e., the rule only applies to nonbank SBSDs). As discussed above, they will be subject to the capital deductions for under-margined accounts with respect to margin requirements for security￾based swaps and swaps that apply to them (e.g., margin requirements of DEAs, clearing agencies, or DCOs). While ANC broker-dealers (i.e., firms not registered as SBSDs) are not subject to Rule 18a– 3 and the associated capital deductions in lieu of collecting margin under that rule, they may engage in OTC derivatives transactions that result in uncollateralized credit exposures to the counterparties. If so, they can apply credit risk charges to the exposures rather than take a 100% deduction for the exposure as discussed below in
section II.A.2.b.v. of this release. However, as
discussed in that section of this release, they are subject to the portfolio concentration charge. 140As discussed below in section II.A.2.b.v. of this release, proposed Rule 18a–1 would have established a portfolio concentration charge for stand-alone SBSDs equal to 50% of their tentative net capital. The final rule does not include that provision. 141See paragraph (c)(2)(xv)(C) of Rule 15c3–1, as amended; paragraph (c)(1)(ix)(C) of Rule 18a–1, as adopted. See also Capital, Margin, and Segregation Comment Reopening, 83 FR at 53011–12 (soliciting comment on potential rule language that would establish a means to avoid taking the deduction for failing to hold the collateral directly). 142See paragraph (c)(2)(xv)(B) of Rule 15c3–1, as amended; paragraph (c)(1)(ix)(B) of Rule 18a–1, as adopted. 143See SIFMA 11/19/18 Letter. 144See Section 15F(e)(3) of the Exchange Act (providing in pertinent part that the capital requirements shall ‘‘help ensure the safety and soundness of’’ nonbank SBSDs). 145See paragraph (c)(2)(iv) of Rule 15c3–1; paragraph (c)(1)(iii) of Rule 18a–1, as adopted. 146See paragraph (c)(2)(xv)(A) of Rule 15c3–1, as amended; paragraph (c)(1)(ix)(A) of Rule 18a–1, as adopted. below in section II.A.2.b.v. of this release, the Commission has expanded the circumstances under which a nonbank SBSD authorized to use models may apply credit risk charges instead of taking the deduction in lieu of margin.138 Under the final rules, the credit risk charges may be applied when the nonbank SBSD does not collect variation or initial margin subject to any exception in Rule 18a–3 or the margin rules of the CFTC with respect to non￾cleared security-based swap and swap transactions, respectively. However, an ANC broker-dealer SBSD is subject to a portfolio concentration charge with respect to uncollateralized current exposure (including current exposure resulting from not collecting variation margin) equal to 10% of the firm’s tentative net capital.139 A stand-alone SBSD is not subject to a portfolio concentration charge.140 Second, the Commission has added a provision in the final rule that allows a nonbank SBSD to treat initial margin with respect to a non-cleared security￾based swap or swap held at a third-party custodian as if the collateral were delivered to the nonbank SBSD and, thereby, avoid taking the deduction for failing to hold the collateral directly.141 This modification should help mitigate concerns raised by commenters about the impact the deduction would have on nonbank SBSDs and their counterparties. Further, it responds to commenters who suggested that third￾party custodial arrangements could be structured to provide the nonbank SBSD with sufficient control over the collateral to address the Commission’s concern that the nonbank SBSD would not be able to promptly liquidate collateral in the event of the counterparty’s default. As discussed in more detail below, the final rule is designed so that existing custodial agreements
established pursuant to the margin rules of the CFTC and the prudential regulators should meet the conditions of the exception. The Commission—as indicated above—has also modified the final requirements so that the deductions will apply to uncollected margin with respect to non-cleared swap transactions (in addition to non-cleared security￾based swap transactions).142 A commenter objected to applying the deductions in lieu of margin to non￾cleared swaps transactions because, in the commenter’s view, it would interfere with policy choices of the CFTC such as that agency’s requirement that initial margin be held at a third￾party custodian.143 The commenter also objected to calculating the amount of the deduction using the standardized haircuts in the nonbank SBSD capital rules or a model approved for purposes of Rule 18a–3. The commenter recommended that the deduction be calculated using the methods for calculating initial margin prescribed in the CFTC’s rules. In response to the commenter’s concerns about applying the deductions with respect to non-cleared swaps, the failure to collect sufficient margin from a counterparty with respect to a swap transaction exposes the nonbank SBSD to the same credit risk that arises from failing to collect sufficient margin with respect to a security-based swap transaction. The deduction in lieu of margin is designed to address this risk by requiring the nonbank SBSD to hold capital (instead of collateral) to protect itself from the consequences of the default of the counterparty. Applying the deduction in lieu of margin to non￾cleared swap transactions is designed to promote the safety and soundness of the nonbank SBSD.144 Moreover, as discussed below, the Commission has modified the exception from taking the deduction when a counterparty’s initial margin is held at a third-party custodian (including initial margin for non-cleared swap transactions) in a manner that is designed to accommodate custodial arrangements entered into pursuant to the CFTC’s margin rules. In addition, as discussed below in section II.A.2.b.v. of this release, the ability to use credit risk charges has been expanded to swap transactions. The Commission is persuaded by the commenter’s second point that the amount of the deduction should be calculated using the methods for calculating initial margin prescribed in the CFTC’s margin rules. Consequently, unlike the potential rule language in the 2018 comment reopening, the amount of the deduction is calculated using the methodology required by the margin rules for non-cleared swaps adopted by the CFTC. For example, if the CFTC has approved the firm’s use of a margin model, the firm can use the model to calculate the amount of the deduction in lieu of margin. Under the final rules, a nonbank SBSD must deduct from net worth when computing net capital unsecured receivables, including receivables arising from not collecting variation margin under an exception in the margin rule for non-cleared
security￾based swaps.145 The final rules also require a nonbank SBSD to deduct the initial margin amount for non-cleared security-based swaps calculated under Rule 18a–3 with respect to a counterparty or account, less the margin value of collateral held in the account.146 Consequently, if the nonbank SBSD does not collect and hold variation and/or initial margin for an account pursuant to an exception in Rule 18a–3, the nonbank SBSD will be required to take a 100% deduction for the uncollateralized amount of the exposure. For uncollected variation margin, the amount of the exposure is the mark-to-market value of the security-based swap; for initial margin, the amount of the exposure is the initial margin amount calculated pursuant to Rule 18a–3. However, as discussed below in section II.A.2.b.v. of this release, an ANC broker-dealer SBSD and stand-alone SBSD authorized to use models can apply a credit risk model to

147See paragraph (c)(2)(iv) of Rule 15c3–1; paragraph (c)(1)(iii) of Rule 18a–1, as adopted. In order to further harmonize the Commission’s capital rules with the CFTC’s proposed capital rules, stand-alone broker-dealers and nonbank SBSDs need not deduct unsecured receivables from registered FCMs resulting from cleared swap transactions in computing net capital. See paragraph (a)(3)(iii)(C) of Rule 15c3–1b, as amended; paragraph (a)(2)(iii)(C) of Rule 18a–1b, as adopted. 148See paragraph (c)(2)(xv)(B) of Rule 15c3–1, as amended; paragraph (c)(1)(ix)(B) of Rule 18a–1, as adopted. 149See, e.g., Letter from American Benefits Council, Committee on Investment of Employee Benefit Assets, European Federation for Retirement Provision, the European Association of Paritarian Institutions, the National Coordinating Committee for Multiemployer Plans, and the Pension Investment Association of Canada (May 19, 2014) (‘‘American Benefits Council, et al. 5/19/2014 Letter’’); Letter from Karrie McMillan, General Counsel, Investment Company Institute (Feb. 4,
2013) (‘‘ICI 2/4/2013 Letter’’); Letter from David W.
Blass, General Counsel, Investment Company Institute (Nov. 24, 2014) (‘‘ICI 11/24/2014 Letter’’); ICI 11/19/2018 Letter; Letter from Tim Buckley, Managing Director and Chief Investment Officer, and John Hollyer, Principal and Head of Risk Management and Strategy Analysis, Vanguard (May 27, 2014) (‘‘Vanguard Letter’’). 150See Letter from Stuart J. Kaswell, Executive Vice President & Managing Director, General Counsel, Managed Funds Association (May 18,
2017) (‘‘MFA 5/18/2017 Letter’’).
151See Letter from Adam Jacobs, Director, Head of Markets Regulation, Alternative Investment Management Association (Mar. 17, 2014) (‘‘AIMA 3/ 17/2014 Letter’’); Letter from Karrie McMillan, General Counsel, Investment Company Institute (Dec. 5, 2013) (‘‘ICI 12/5/2013 Letter’’); ICI 11/19/ 2018 Letter; Letter from Institute of International Bankers and Securities Industry and Financial Markets Association (June 21, 2018) (‘‘IIB/SIFMA Letter’’); Letter from Stuart J. Kaswell, Executive Vice President, Managing Director, and General Counsel, Managed Funds Association (Feb. 24,
2013) (‘‘MFA 2/24/2014 Letter’’).
152See ICI 12/5/2013 Letter; MFA 2/22/2013 Letter; MFA 2/24/2014 Letter. 153See American Benefits Council, et al. 5/19/ 2014 Letter; ICI 12/5/2013 Letter; ICI 11/19/2018 Letter; MFA 2/22/2013 Letter. 154See ICI 12/5/2013 Letter; MFA 2/22/2013 Letter; MFA 2/24/2014 Letter. 155See ICI 12/5/2013 Letter (citing Scher Law Firm v. DB Partners I LLC, 27 Misc.3d 1230(A), 911 N.Y.S.2d 696 (Kings County 2010) and SIPC v. Lehman Brothers, Inc., 433 B.R. 127 (Bankr. S.D.N.Y. 2010)). 156See MFA/AIMA 11/19/2018 Letter. 157See Capital, Margin, and Segregation Comment Reopening, 83 FR at 53011. 158See Morgan Stanley 11/19/2018 Letter; SIFMA 11/19/2018 Letter. 159SIFMA 11/19/2018 Letter. these exposures instead of taking these deductions. With respect to swaps, the final rules provide that a nonbank SBSD must deduct from net worth when computing net capital unsecured receivables, including receivables arising from not collecting variation margin under an exception in the non-cleared swaps margin rules of the CFTC.147 The final rules also require a nonbank SBSD to deduct initial margin amounts calculated pursuant to the margin rules of the CFTC, less the margin value of collateral held in the account of a swap counterparty at the SBSD.148 Consequently, if the nonbank SBSD does not collect and hold variation and/ or initial margin for an account pursuant to an exception in the CFTC’s margin rules, the nonbank SBSD will be required to take a 100% deduction for the uncollateralized amount of the exposure. For uncollected variation margin, the amount of the exposure is the mark-to-market value of the swap; for uncollected initial margin, the amount of the exposure is the initial margin amount calculated pursuant to the CFTC’s margin rules. However, as discussed below in section II.A.2.b.v. of this release, an ANC broker-dealer and nonbank SBSD authorized to use models can apply a credit risk model to these exposures instead of taking these deductions. Deductions related to margin held at third-party custodians. In terms of the deductions related to counterparties that elect to have initial margin held at a third-party custodian, commenters stated that it would discourage the use of third-party custodians, which security-based swap customers have a right to elect under Section 3E(f) of the Exchange Act.149 They also claimed that the deduction would result in substantial costs to the affected nonbank SBSD, which would be passed on to the security-based swap customer. A commenter noted that other regulators have finalized or proposed swap capital rules that do not include a special deduction for initial margin held at a third-party custodian.150 Various commenters stated that a nonbank SBSD will have legal ‘‘control’’ over collateral pledged to it and held at a third-party custodian when the parties properly structure a custodial agreement.151 Some of these commenters also stated that properly structured tri-party account control agreements could address the Commission’s
concern about the nonbank SBSD’s lack of control over initial margin held at a third-party custodian.152 Some commenters argued that even though physical control is lacking under tri-party custodial arrangements, legal control of the securities collateral, under properly structured tri-party custodial arrangements, exists pursuant to Article 8 of the Uniform Commercial Code.153 Commenters noted that pledgors, secured parties, and securities intermediaries typically memorialize the pledge of securities and grant ‘‘control’’ of the securities to the secured party through a tri-party account control agreement.154 A commenter noted that courts have recognized the legitimacy of account control agreements and enforced them in accordance with their terms.155 Finally, another commenter suggested that the account control agreement should provide the nonbank SBSD with legal control over, and access to, the counterparty’s initial margin in the event of enforcement of the firm’s rights against such initial margin.156 As noted above, the Commission asked in the 2018 comment reopening whether there should be an exception to the deduction when collateral is held by an independent third-party custodian as initial margin pursuant to Section 3E(f) of the Exchange Act or Section 4s(l) of the CEA.157 The Commission asked whether the capital charge should be avoided in these circumstances if: (1) The independent third-party custodian is a bank as defined in Section 3(a)(6) of the Exchange Act that is not affiliated with the counterparty; (2) the firm, the independent third-party custodian, and the counterparty that delivered the collateral to the custodian have executed an account control agreement governing the terms under which the custodian holds and releases collateral pledged by the counterparty as initial margin that provides the firm with the same control over the collateral as would be the case if the firm controlled the collateral directly; and (3) the firm obtains a written opinion from outside counsel that the account control agreement is legally valid, binding, and enforceable in all material respects, including in the event of bankruptcy, insolvency, or a similar proceeding. As a preliminary matter, two commenters addressed the potential rule language in the preface to the exception that stated that it could apply with respect to collateral held by an independent third-party custodian as initial margin pursuant to Section 3E(f) of the Exchange Act or Section 4s(l) of the CEA.158 One of these commenters noted that the CFTC and the prudential regulators adopted their margin rules pursuant to Section 4s(e) of the CEA and
Section 15F(e) of the Exchange Act,
respectively.159 The commenter further noted that the margin rules of the CFTC and the prudential regulators require that initial margin be segregated at a third-party custodian. Consequently, the commenter was concerned that initial margin held at a third-party custodian pursuant to those margin rules would not qualify for the exception. The commenter also noted that foreign regulators’ rules could require that

160See CFTC Margin Adopting Release, 81 FR at 670–73, 702–3 (adopting 17 CFR 23.157 and 17 CFR 23.158); Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74873–75, 74886–87, 74905, 74908–09. 161See paragraph (c)(2)(xv)(C) of Rule 15c3–1, as amended; paragraph (c)(1)(ix)(C) of Rule 18a–1, as adopted. The phrase ‘‘pursuant to section 3E(f) of the Act or section 4s(l) of the Commodity Exchange Act’’ in the preface to each paragraph included in the 2018 comment reopening is not included in the final rules. 162See MFA/AIMA 11/19/2018 Letter. 163See IIB 11/19/2018 Letter; SIFMA 11/19/2018 Letter. 164See MFA 2/22/2013 Letter; SIFMA 2/22/2013 Letter. 165See ICI 11/24/2014 Letter. 166See paragraph (c)(2)(xv)(C)(1) of Rule 15c3–1, as amended; paragraph (c)(1)(ix)(C)(1) of Rule 18a– 1, as adopted. 167See, e.g., Letter from Carl B. Wilkerson, Vice President and Chief Counsel, American Council of Life Insurers (Feb. 22, 2013) (‘‘American Council of Life Insurers 2/22/2013 Letter’’); Letter from Adam Jacobs, Director of Markets Regulation, Alternative Investment Management Association (Feb. 22, 2013) (‘‘AIMA 2/22/2013 Letter’’); ICI 12/5/2013 Letter; Letter from Robert Pickel, Chief Executive Officer, International Swaps and Derivatives Association (Jan. 23, 2013) (‘‘ISDA 1/23/13 Letter’’); MFA 2/24/ 2014 Letter; SIFMA 2/22/2013 Letter. 168See ICI 11/19/2018 Letter. 169See Better Markets 11/19/2018 Letter. In response to the ICI 11/19/2018 Letter and the Better Markets 11/19/2018 Letter, the potential rule language in the 2018 comment reopening with respect to a custodial arrangement that provided the nonbank SBSD with the ‘‘same control’’ over the collateral was not intended to interfere with the fundamental purpose of having collateral held at a third-party custodian: To keep it segregated and bankruptcy remote from the secured party. Instead, it was designed to promote the ability of the nonbank SBSD to access the collateral if the counterparty defaulted. Consequently, it was not intended to permit the nonbank SBSD to re￾hypothecate the collateral or undermine the counterparty’s statutory right to elect to have initial margin held at a third-party custodian. In any event, as discussed below, the Commission is not adopting the ‘‘same control’’ standard and, therefore, these commenters’ concerns about that standard have been addressed. initial margin collateral be held at a third-party custodian. The margin rules of the CFTC and the prudential regulators require initial margin to be held at a third-party custodian and prescribe specific requirements for the custodial arrangements as well as requirements to document agreements with counterparties governing the exchange of margin.160 The margin rules of other jurisdictions could have similar requirements. In the specific context of this exception from taking a deduction, the reason why the collateral is held at a third-party custodian is less important than taking the necessary steps to enter
into a custodial arrangement that meets the conditions discussed below for qualifying for the exception. The conditions are designed to provide the nonbank SBSD, as the secured party, with prompt access to the collateral held at the third-party custodian when the collateral is needed to protect the nonbank SBSD against the consequences of the counterparty’s default. The fact that the collateral is held at the third-party custodian at the election of the counterparty or because a domestic or foreign law requires it to be held at the custodian should not be dispositive as to whether a given custodial arrangement can qualify for this exception. Moreover, the second and third conditions discussed below are designed to ensure that the custodial agreement legally provides the nonbank SBSD with the right to promptly access the collateral if necessary. These conditions therefore will address any concerns regarding potential interference with that right. For these reasons, the Commission agrees with the commenters that the preface to the exception need not limit the legal bases for why the collateral is being held at a third-party custodian. Consequently, the final rules do not reference Section 3E(f) of the Exchange Act or Section 4s(l) of the CEA in the preface to the exception. 161 Commenters addressed the first potential condition set forth in the 2018 comment reopening that the independent third-party custodian be a bank as defined in Section 3(a)(6) of the Exchange Act that is not affiliated with the counterparty. One commenter stated that the condition that the custodian be an unaffiliated bank is reasonable and practical.162 Other commenters suggested that the Commission expand the range of permissible custodians to include U.S. securities depositories and clearing agencies, foreign banks, and foreign securities depositories.163 The Commission also received comments prior to the 2018 comment reopening that are relevant to this potential condition. Two commenters supported allowing the collateral to be held at an affiliate of the nonbank SBSD.164 One commenter suggested that the third￾party custodian must be a legal entity that is separate from both the nonbank SBSD and the counterparty (but not necessarily unaffiliated with the nonbank SBSD or counterparty).165 This commenter stated that this position would appropriately recognize well established, ordinary course custody and trading practices of market participants, including registered funds. The Commission agrees with commenters that it would be appropriate to recognize third-party custodians that are not a bank. In the U.S., clearing organizations and depositories registered with the Commission or the CFTC could serve as custodians. As these entities are subject to oversight and regulation, the Commission does not believe the rule should exclude them from serving as custodians. In addition, if foreign securities or currencies are used as collateral to meet an initial margin requirement, it may
be impractical to have them held at a U.S. custodian. Accordingly, the Commission believes it would be appropriate to recognize a foreign bank, clearing organization, or depository that is supervised (i.e., subject to oversight by a government authority) if the collateral consists of foreign securities or currencies and the custodian customarily maintains custody of such foreign securities or currencies. For these reasons, the final rules recognize domestic and foreign banks, custodians, and depositories, subject to the conditions discussed above. The Commission also agrees with commenters that the final rules should permit the third-party custodian to be an affiliate of the nonbank SBSD (but not the counterparty). In particular, an affiliate may be less likely to interfere with the legal right of the nonbank SBSD to exercise control over the collateral in the event of a default of the counterparty. Consequently, the final rules permit the custodian to be an affiliate of the nonbank SBSD but not the counterparty.166 Commenters addressed the second potential condition set forth in the 2018 comment reopening that the firm, the independent third-party custodian, and the counterparty that delivered the collateral to the custodian must have executed an account control agreement that provides the firm with the same control over the collateral as would be the case if the firm controlled the collateral directly. Commenters generally supported the view that a nonbank SBSD, as the secured party, should have prompt access to the collateral held at the third-party custodian.167 However, a commenter objected to the ‘‘same control’’ language and argued it could be read to mean that nonbank SBSDs would be allowed to re￾hypothecate and use collateral posted to a third-party custodian.168 Another commenter argued that collateral covered by an agreement meeting the conditions of the exception would no longer be segregated in any meaningful sense, and may violate the plain language of the Dodd-Frank Act that initial margin be segregated for the benefit of the counterparty.169 A commenter argued that this type of

170See SIFMA 11/19/2018 Letter.
171See paragraph (c)(2)(xv)(C)(2) of Rule 15c3–1, as amended; paragraph (c)(1)(ix)(C)(2) of Rule 18a– 1, as adopted. See also CFTC Margin Adopting Release, 81 FR at 670–71, 702–3 (adopting 17 CFR 23.157, which provides that the custodial agreement must be a legal, valid, binding, and enforceable agreement under the laws of all relevant jurisdictions including in the event of bankruptcy, insolvency, or a similar proceeding); Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74873–75, 74905 (adopting rules requiring that a custodial agreement must be a legal, valid, binding, and enforceable agreement under the laws of all relevant jurisdictions, including in the event of bankruptcy, insolvency, or a similar proceeding). 172See paragraph (c)(2)(xv)(C)(2) of Rule 15c3–1, as amended; paragraph (c)(1)(ix)(C)(2) of Rule 18a– 1, as adopted. 173See ICI 11/19/2018 Letter; MFA/AIMA 11/19/ 2018 Letter; Letter from Jason Silverstein, Esq., Managing Director, Asset Management Group & Associate General Counsel, Securities Industry and Financial Markets Association, and Andrew Ruggiero Senior Associate, Asset Management Group, Securities Industry and Financial Markets Association (Nov. 19, 2018) (‘‘SIFMA AMG 11/19/ 2018 Letter’’). 174See ICI 11/19/2018 Letter. 175See SIFMA 11/19/2018 Letter. This commenter also requested that the Commission clarify that industry opinions regarding classes of agreements would satisfy a potential requirement for an opinion. 176See CFTC Margin Adopting Release, 81 FR at 670–71; Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74873–75. 177See paragraph (c)(2)(xv)(C)(3) of Rule 15c3–1, as amended; paragraph (c)(1)(ix)(C)(3) of Rule 18a￾1, as adopted. provision would be costly, operationally burdensome, and inconsistent with current market practices for third-party custodial arrangements.170 The Commission agrees with commenters that the ‘‘same control’’ standard could create practical obstacles that would make it difficult to execute an account control agreement that would be sufficient to avoid the deduction when initial margin is held by a third-party custodian. Moreover, meeting the standard could have required the re-drafting of existing agreements that are in place in accordance with the third-party custodian and documentation requirements of the CFTC and the prudential regulators. Doing so would be a costly and burdensome process. At the same time, the Commission also agrees with commenters that the account control agreement should provide the nonbank SBSD, as the secured party, with the right to promptly access the collateral held at the third-party custodian if necessary. The Commission has balanced these considerations in crafting final rules. In this regard, the Commission believes it would be appropriate to adopt final rules that align more closely with the third-party custodian requirements of the CFTC and the prudential regulators. Consequently, the final rules provide that the account
control agreement must be a legal, valid, binding, and enforceable agreement under the laws of all relevant jurisdictions, including in the event of bankruptcy, insolvency, or a similar proceeding of any of the parties to the agreement.171 The rules further provide that the agreement must provide the nonbank SBSD with the right to access the collateral to satisfy the counterparty’s obligations to the nonbank arising from transactions in the account of the counterparty.172 This is the fundamental purpose of the agreements and should not raise the same practical issues as the ‘‘same control’’ standard. At the same time, it is designed to require an agreement that achieves this fundamental purpose and by doing so will provide the nonbank SBSD, as the secured party, with prompt access to the collateral held at the third￾party custodian when the collateral is needed to protect the nonbank SBSD against the consequences of the counterparty’s default. While the provision requires an agreement, the Commission has crafted it with the objective that existing agreements with counterparties entered into for the purposes of the third-party custodian and documentation rules of the CFTC and the prudential regulators will suffice. Commenters addressed the third potential condition set forth in the 2018 comment reopening that the firm obtain a written opinion from outside counsel that the account control agreement is legally valid, binding, and enforceable in all material respects, including in the event of bankruptcy, insolvency, or a similar proceeding. Some commenters opposed the requirement for an opinion of outside legal counsel on the basis of cost and impracticability, arguing it is inconsistent with market practice and operationally burdensome to implement.173 One commenter stated that the requirement was unnecessary because existing account control agreements and laws provide substantial protections.174 Another commenter suggested that the Commission consider alternatives to the requirement, such as permitting a nonbank SBSD to recognize initial margin so long as it has a well￾founded basis to conclude that the collateral arrangement is enforceable.175 The Commission acknowledges that requiring a formal written legal opinion by outside counsel could be a costly burden and, on further consideration, may not be necessary. At the same time, the Commission believes the nonbank SBSD should take steps to analyze whether the custodial agreement will provide the firm, as the secured party, with the right to access the collateral to satisfy the counterparty’s obligations to the firm arising from transactions in the account of the counterparty. In other words, the firm should analyze whether a tri-party custodial agreement intended to provide this right is a legal, valid, binding, and enforceable agreement under the laws of all relevant jurisdictions, including in the event of bankruptcy, insolvency, or a similar proceeding of any of the parties to the agreement.
The Commission’s view that this analysis should be performed is consistent with the views of the CFTC and the prudential regulators. In particular, those agencies, in explaining the requirements of their rules governing tri-party custodial agreements, stated that the secured party would need to conduct a sufficient legal review to conclude with a well￾founded basis that, in the event of a legal challenge, including one resulting from the default or from the receivership, conservatorship, insolvency, liquidation, or similar proceedings of the custodian or counterparty, the relevant court or administrative authorities would find the custodial agreement to be legal, valid, binding, and enforceable under the law.176 The Commission has balanced the cost and potential practical difficulties in obtaining a written opinion of outside legal counsel with the need for the nonbank SBSD to enter into a tri-party custodial agreement that will operate as intended under the relevant laws. The Commission has concluded that a written legal opinion of outside counsel is not the only way to provide assurance that the tri-party custodial agreement will operate as intended. For example, the nonbank SBSD could perform its own legal analysis rather than pay outside counsel to provide the legal opinion or be a member of a competent industry association that makes legal analysis available to its members. Therefore, the final rules do not require the nonbank SBSD to obtain a legal opinion of outside counsel. Instead, the rules require the firm to maintain written documentation of its analysis that in the event of a legal challenge the relevant court or administrative authorities would find the account control agreement to be legal, valid, binding, and enforceable under the applicable law, including in the event of the receivership, conservatorship, insolvency, liquidation, or a similar proceeding of any of the parties to the agreement.177 Among other things, the documentation could be a written

178See Letter from Douglas M. Hodge, Managing Director and Chief Operating Officer, Pacific Investment Management Company LLC (Feb. 21,
2013) (‘‘PIMCO Letter’’).
179See Letter from Sebastian Crapanzano and Soo-Mi Lee, Managing Directors, Morgan Stanley (Oct. 29, 2014) (‘‘Morgan Stanley 10/29/2014 Letter’’). 180See Morgan Stanley 2/22/13 Letter; SIFMA 2/ 22/2013 Letter. 181See Financial Services Roundtable Letter. 182See PIMCO Letter; SIFMA 2/22/2013 Letter. 183See Morgan Stanley 2/22/13 Letter. 184See Financial Services Roundtable Letter; Morgan Stanley 2/22/13 Letter. 185See PIMCO Letter. 186See section II.B.2.b.i. of this release (discussing the legacy account exception). 187See Morgan Stanley 10/29/14 Letter; Morgan Stanley 11/19/2018 Letter. 188See Better Markets 11/19/2018 Letter. See also
section VI of this release (discussing costs and
benefits of final rules).
189See, e.g., Uniform Net Capital Rule, Exchange Act Release No. 13635 (June 16, 1977), 42 FR 31778 (June 23, 1977) (‘‘[Haircuts] are intended to enable net capital computations to reflect the market risk inherent in the positioning of the particular types of securities enumerated in [the rule]’’); Net Capital Rule, 50 FR 42961 (‘‘These percentage deductions, or ‘haircuts’, take into account elements of market and credit risk that the broker-dealer is exposed to when holding a particular position.’’); Net Capital Rule, 62 FR 67996 (‘‘Reducing the value of securities owned by broker-dealers for net capital purposes provides a capital cushion against adverse market movements and other risks faced by the firms, including liquidity and operational risks.’’) (footnote omitted). 190See Capital, Margin, and Segregation Proposing Release, 77 FR at 70231, n.146. 191See 17 CFR 1.17 (prescribing standardized haircuts for commodities positions of FCMs) (‘‘Rule 1.17’’). 192See Capital, Margin, and Segregation Proposing Release, 77 FR at 70231–37, 70248–50. 193Because there were no specific standardized haircuts for security-based swaps, a stand-alone broker-dealer was required to apply a deduction based on the existing provisions (e.g., the catchall provisions in the rule). For certain types of OTC derivatives, the deduction has been the notional amount of the derivative multiplied by the deduction that would apply to the underlying instrument referenced by the derivative. See Net Capital Rule, Exchange Act Release No. 32256 (May 6, 1993), 58 FR 27486, 27490 (May 10, 1993). opinion of outside legal counsel, reflect the firm’s own ‘‘in-house’’ legal research, or be the research of a competent industry association. The documentation will reflect how the firm analyzed the legality of the account control agreement. Legacy accounts. In terms of the deductions related to legacy accounts, one commenter stated that ‘‘the costs of this requirement will ultimately flow back to the counterparties, penalizing all counterparties who trade with any affected [nonbank SBSD]’’ and that ‘‘the retroactive effect of such a requirement—which effectively requires [nonbank SBSDs] to revise the price terms of pre-effective [security-based swaps]—is contrary to the prospective nature of the rest of Dodd-Frank’s Title VII.’’ 178 A second commenter argued that the deduction is inconsistent with how dealers currently do business, as they do not typically collect margin from certain credit-worthy counterparties.179 Commenters stated that the legacy account deduction is inconsistent with the proposed capital regimes of the CFTC and the prudential regulators.180 A commenter argued that this inconsistency could result in regulatory arbitrage.181 Commenters indicated that the proposed legacy account deduction would unfairly penalize nonbank SBSDs and their customers.182 A commenter stated that the deduction would negatively affect the pricing and liquidity of transactions with
counterparties.183 Commenters also argued that the proposed deduction could lead some market participants that cannot afford the costs to exit the market or cease engaging in new security-based swaps activity.184 In response to the comment that the deduction in lieu of margin related to legacy accounts is contrary to the prospective nature of Title VII of the Dodd-Frank Act and will require re￾pricing of existing security-based swaps,185 the legacy account exception is designed to address the impracticality of renegotiating contracts governing security-based swap transactions that predate the compliance date of Rule 18a–3.186 Further, as discussed below in
section II.A.2.b.v. of this release, the
ability to apply the credit risk charges has been expanded to exposures arising from electing not to collect variation or initial margin with respect to legacy accounts. This should help to mitigate the concern of this commenter and others that the 100% deduction could cause nonbank SBSDs to pass the costs of the capital requirement to counterparties. This also should help to mitigate concerns of commenters who argued that the 100% deduction was inconsistent with the capital requirements of other regulators. As one commenter stated, applying a credit risk charge for a nonbank SBSD’s legacy account positions would more closely align the Commission’s capital standards with the approaches of the CFTC and the prudential regulators.187 The Commission acknowledges that, even with the modification expanding the application of the credit risk charge, the final rule will result in costs to nonbank SBSDs as well as to their security-based swap and swap counterparties. However, the Commission has sought to strike an appropriate balance between addressing the concerns of commenters and promulgating a final rule that promotes the safety and soundness of nonbank SBSDs.188 The Commission believes it has achieved this objective by taking a measured approach to modifying the rule to reduce the impact of the deductions for uncollected variation and initial margin.
iii. Standardized Haircuts
The final step in the process of computing net capital under Rule 15c3– 1 is to apply the standardized or model￾based haircuts to the firm’s proprietary positions, thereby reducing the firm’s tentative net capital amount to an amount that constitutes the firm’s net capital.189 Most stand-alone broker￾dealers use the standardized haircuts, which are prescribed in Rules 15c3–1, 15c3–1a, and 15c3–1b. ANC broker￾dealers may apply model-based haircuts to positions for which they have been authorized to use models pursuant to Rule 15c3–1e. For all other types of positions, they must use the standardized haircuts. The pre-existing provisions of paragraph (c)(2)(vi) of Rule 15c3–1 prescribe standardized haircuts for marketable securities and money market instruments. The amounts of the standardized haircuts are based on the type of security or money market instrument and, in the case of certain debt instruments, the time-to-maturity of the bond. Broker-dealer SBSDs will be subject to these pre-existing standardized haircut provisions in paragraph (c)(2)(vi) of Rule 15c3–1. Proposed Rule 18a–1 required stand￾alone SBSDs to apply the pre-existing standardized haircuts in paragraph (c)(2)(vi) of Rule 15c3–1 by cross￾referencing that paragraph.190 The pre￾existing provisions of Rules 15c3–1a and 15c3–1b prescribe standardized haircuts for equity option positions and commodities positions, respectively. The provisions in Rule 15c3–1b incorporate deductions in the CFTC’s capital rule for FCMs.191 Broker-dealer SBSDs will be subject to the pre-existing standardized haircut provisions in Rules 15c3–1a and 15c3–1b. The Commission proposed Rules 18a–1a and 18a–1b to prescribe standardized haircuts for stand-alone SBSDs modeled on the pre￾existing requirements in Rules 15c3–1a and 15c3–1b, respectively.192 However, the pre-existing provisions of Rule 15c3–1 and Rule 15c3–1b did not prescribe standardized haircuts tailored specifically for security-based swaps and swaps.193 Consequently, the Commission proposed amending paragraph (c)(2)(vi) of Rule 15c3–1 and Rule 15c3–1b to establish standardized

194See Capital, Margin, and Segregation Proposing Release, 77 FR at 70231–37, 70248–50. 195See 77 FR at 70232–34, 70248–49. 196See Capital, Margin, and Segregation Proposing Release, 77 FR at 70234–36. 197See 77 FR at 70249–50. 198See Capital, Margin, and Segregation Proposing Release, 77 FR at 70249. 199See 77 FR at 70235–36, 70249. 200Specifically, the Commission proposed amending paragraph (a)(4) of Rule 15c3–1a to include equity security-based swaps within the definition of underlying instrument. This would allow these positions to be included in portfolios of equity positions involving the same equity security. In addition, the Commission proposed including security futures within the definition of the term underlying instrument to permit these positions to be included in portfolios of positions involving the same underlying security. 201See SIFMA 2/22/2013 Letter. 202See SIFMA 11/19/2018 Letter. haircuts for security-based swaps and swaps that would apply to stand-alone broker-dealers and broker-dealer SBSDs.194 The Commission proposed parallel standardized deductions tailored for security-based swaps and swaps in proposed Rules 18a–1 and 18a–1b, respectively, that would apply to stand-alone SBSDs. The proposed standardized haircut for a CDS was determined using one of two maturity grids: One for a CDS that is a security-based swap and the other for a CDS that is a swap.195 The proposed grids prescribed standardized haircuts based on two variables: The length of time to maturity of the CDS and the amount of the current offered basis point spread on the CDS. The standardized haircut for an unhedged short position in a CDS (i.e., selling protection) was the applicable percentage specified in the grid. The deduction for an unhedged long position in a CDS (i.e., buying protection) was 50% of the applicable deduction specified in the grid. The amount of the deductions in the maturity grid for a CDS that was a swap were one-third less than the comparable deductions in the maturity grid for a CDS that was a security-based swap. The proposed rules provided for reduced grid-derived deductions based on netting positions. For a security-based swap that is not a CDS, the proposed standardized haircuts required multiplying the notional amount of the security-based swap by the amount of the standardized haircut percent that applied to the underlying position pursuant to the pre￾existing provisions of Rule 15c3–1.196 For example, paragraph (c)(2)(vi)(J) of Rule 15c3–1 prescribes a standardized haircut for an exchange traded equity security equal to 15% of the mark-to￾market value of the security. Consequently, the standardized haircut for a security-based swap referencing an exchange traded equity security was a deduction equal to the notional amount of the security-based swap multiplied by 15%. The same approach applied to a security-based swap (other than a CDS) referencing a debt instrument. For example, paragraph (c)(2)(vi)(F)(1)(v) of Rule 15c3–1
prescribes a 7% standardized haircut for a corporate bond that has a maturity of five years, is not traded flat or in default as to principal or interest, and has a minimal amount of credit risk. Therefore, the proposed standardized haircut for a security-based swap referencing such a bond was a deduction equal to the notional amount of the security-based swap multiplied by 7%. For a swap that is not a CDS or interest rate swap, the Commission proposed a similar approach that required multiplying the notional amount of the swap by a certain percent.197 To determine the applicable percent, the Commission proposed a hierarchy approach. Under this approach, if the pre-existing provisions of Rule 15c3–1 prescribed a standardized haircut for the type of asset, obligation, or event underlying the swap, the percent deduction of the Rule 15c3–1 standardized haircut applied. For example, if the swap referenced an equity security index, the pre-existing standardized haircut in Rule 15c3–1 applicable to baskets of securities and equity index exchange traded funds applied. If the pre-existing provisions of Rule 15c3–1 did not prescribe a standardized haircut for the type of asset, obligation, or event underlying the swap but the pre-existing provisions in Rule 15c3–1b did, the percent deduction in the Rule 15c3–1b standardized haircut applied. This would be the case if the swap referenced a type of commodity for which CFTC Rule 1.17 prescribes a standardized haircut, and the Rule 1.17 haircut is incorporated into Rule 15c3–1b. Finally, if neither Rules 15c3–1 nor 15c3–1b prescribed a standardized haircut for the type of asset, obligation, or event underlying the swap but Rule 1.17 did, the percent deduction in the Rule 1.17 standardized deduction applied. This could be the case, for example, if the swap was a type of swap for which the CFTC had prescribed a specific standardized haircut. For interest rate swaps, the Commission proposed a similar standardized haircut approach that required multiplying the notional amount of the swap by a certain percent.198 The percent was determined by referencing the standardized haircuts in Rule 15c3–1 for U.S. government securities with comparable maturities to the swap’s maturity. However, the proposed haircut for interest rate swaps had a floor of 1% (whereas U.S. government securities with a maturity of less than 9 months are subject to haircuts of 3⁄4 of 1%, 1⁄2 of 1%, or 0% depending on the time to maturity). This 1% floor was designed to account for potential differences between the movement of interest rates on U.S. government securities and interest rates upon which swap payments are based. Under the proposed standardized haircuts for a security-based swap that is not a CDS, stand-alone broker-dealers and nonbank SBSDs were permitted to recognize portfolio offsets.199 In particular, these entities were permitted to include an equity security-based swap in a portfolio of related equity positions (e.g., long and
short cash and options positions involving the same security) under the pre-existing provisions of Rule 15c3–1a, which produces a single haircut for a portfolio of equity options and related positions.200 Similarly, they were permitted to treat a debt security-based swap and an interest rate swap in the same manner as debt instruments are treated in pre-existing debt-maturity grids in Rule 15c3–1 in terms of allowing offsets between long and short positions where the instruments are in the same maturity categories, subcategories, and in some cases, adjacent categories. Comments and Final Requirements for Standardized Haircuts A commenter stated that, based on its estimates, the standardized haircuts in the proposed CDS maturity grids would be significantly greater than the capital charges that would apply to the same positions using an internal model.201 The commenter stated that the Commission should conduct further review of empirical data regarding the historical market volatility and losses given default associated with CDS positions and modify the proposed standardized haircuts. This commenter argued that excessive standardized haircuts may disproportionately affect smaller and mid-size firms.202 The commenter further stated that these types of firms may be limiting their security-based swaps business so they will not be required to register as a nonbank SBSD or may try to develop internal models to avoid having to use the standardized haircuts. In response to these comments, the economic analysis performed for these

203See section VI of this release.
204See OTC Derivatives Dealers, 63 FR at 5938; Alternative Net Capital Requirements for Broker￾Dealers That Are Part of Consolidated Supervised Entities, 69 FR at 34431. 205See Alternative Net Capital Requirements for Broker-Dealers That Are Part of Consolidated Supervised Entities, 69 FR at 34431 (‘‘The current haircut structure [use of the standardized haircuts] seeks to ensure that broker-dealers maintain a sufficient capital base to account for operational, leverage, and liquidity risk, in addition to market and credit risk.’’). 206See Citadel 5/15/2017 Letter; Citadel 11/19/ 2018 Letter; SIFMA 2/22/2013 Letter. 207See SIFMA 2/22/2013 Letter. 208See paragraph (c)(2)(vi)(O) of Rule 15c3–1, as amended; paragraph (b)(1) of Rule 15c3–1b, as amended; paragraph (c)(1)(vi)(A) of Rule 18a–1, as adopted; paragraph (b)(1) of Rule 18a–1b, as adopted. In the final rule, paragraph (c)(2)(vi)(O) of Rule 15c3–1, as proposed, is being re-designated paragraph (c)(2)(vi)(P) of Rule 15c3–1, as adopted. In addition, references to ‘‘(c)(2)(vi)(O)’’ have been replaced with references to ‘‘(c)(2)(vi)(P)’’ in paragraph (c)(2)(vi)(P) of Rule 15c3–1, as amended; the word ‘‘non-cleared’’ has been inserted before the term ‘‘security-based swap’’; and the title has been modified to read ‘‘Non-cleared security-based swaps.’’ Conforming changes have been made to
Appendix B to Rule 15c3–1, as amended, Rule 18a–
1, as adopted, and Rule 18a–1b, as adopted. Paragraph (c)(2)(vi)(O) of Rule 15c3–1, as amended, will state: ‘‘Cleared security-based swaps. In the case of a cleared security-based swap held in a proprietary account of the broker or dealer, deducting the amount of the applicable margin requirement of the clearing agency or, if the security-based swap references an equity security, the broker or dealer may take a deduction using the method specified in § 240.15c3–1a.’’ Conforming rule text modifications were made to Appendix B to Rule 15c3–1, as amended, Rule 18a–1, as adopted, and Rule 18a–1b, as adopted. 209See SIFMA 2/22/2013 Letter. 210See paragraphs (a)(3) and (4) of Rule 15c3–1a, as amended; paragraphs (a)(3) and (4) of Rule 18a– 1a, as adopted. 211See paragraph (c)(2)(vi)(O) of Rule 15c3–1, as amended; paragraph (b)(1) of Rule 15c3–1b, as amended; paragraph (c)(1)(vi)(A) of Rule 18a–1, as adopted; paragraph (b)(1) of Rule 18a–1b, as adopted. 212See SIFMA 2/22/2013 Letter. 213See SIFMA 11/19/2018 Letter. final rules determined that the standardized haircuts being adopted today generally were not set at the most conservative level. As stated in the analysis, the Commission believes that, in general, haircuts are intended to strike a balance between being sufficiently conservative to cover losses in most cases, including stressed market conditions, and being sufficiently nimble to allow nonbank SBSDs to operate efficiently in all market conditions. Based on the results of the analysis, the Commission believes the standardized haircuts in the final rules take into account this tradeoff.203 Nonetheless, the Commission recognizes that the standardized haircuts for non-cleared security-based swaps are less risk-sensitive than the model-based haircuts and, therefore, in many cases will be greater than the model-based haircuts. This difference in the deductions that result from applying standardized haircuts as opposed to model-based haircuts is part of the pre￾existing provisions of Rule 15c3–1. The rule has permitted ANC broker-dealers and OTC derivatives dealers to apply model-based haircuts, whereas all other broker-dealers must apply the standardized haircuts. These differences are why broker-dealers applying the model-based haircuts are subject to higher capital standards, including minimum tentative net capital requirements.204 These additional and higher capital requirements account for the generally lower deductions that result from applying model-based haircuts as opposed to standardized haircuts. Because nonbank SBSDs that do not use model-based haircuts will not be subject to these additional or higher capital requirements, the Commission believes that it is an appropriate trade-off that they will employ the less risk-sensitive standardized haircuts. Further, the Commission believes that most nonbank SBSDs will seek approval to use model￾based haircuts. The standardized haircuts are designed to account for more than just market and credit
risk—they also are intended to address other risks such as operational, leverage, and liquidity risks.205 The standardized haircuts are intended to account for more risks because the firms that will use them, as discussed above, are subject to lower minimum net capital requirements. Commenters also recommended that for cleared security-based swaps, the Commission apply a standardized haircut based on the initial margin requirement of the clearing agency, similar to the treatment of futures in Rule 15c3–1b.206 A commenter stated that the clearing agencies use risk-based models to calculate initial margin and, therefore, relying on their margin calculations would allow firms that do not use models to indirectly get the benefit of a more risk-sensitive approach.207 The Commission is persuaded that it would be appropriate to establish standardized haircuts for cleared security-based swaps and swaps that are determined using the margin requirements of the clearing agency or DCO where the position is cleared. Consequently, the Commission is modifying the proposed standardized haircut requirements for cleared security-based swaps and swaps to require that the amount of the deduction will be the amount of margin required by the clearing agency or DCO where the position is cleared.208 This will align the treatment of these cleared products with the treatment of futures products. It also will establish standardized haircuts that potentially are more risk sensitive, as suggested by the commenter. This will benefit stand￾alone broker-dealers and nonbank SBSDs that have not been authorized to use models to determine market risk charges for their security-based swap and swap positions. A commenter supported the Commission’s proposal to allow standardized haircuts for portfolios of equity security-based swaps and related equity positions using the methodology in Rule 15c3–1a.209 The commenter believed this would allow stand-alone broker-dealers and nonbank SBSDs to employ a more risk-sensitive approach to computing net capital than if a position were treated in isolation. The Commission agrees with the commenter’s reasoning and continues to believe that cleared equity security￾based swaps should be permitted to be included in the portfolios of equity positions for purposes of Rules 15c3–1a and 18a–1a and that this treatment should be extended to cleared equity￾based swaps. Therefore, the Commission is modifying the requirement to permit equity-based swaps (in addition to equity security￾based swaps) to be included as related or underlying instruments for purposes of Rules 15c3–1a and 18a-1a.210 Further, as discussed above, the standardized haircut for cleared security-based swaps and swaps being adopted today is determined using the margin requirements of the clearing agency or DCO where the position is cleared. However, as an alternative to that standardized haircut, a stand-alone broker-dealer and nonbank SBSD can use the methodology prescribed in Rules
15c3–1a and 18a–1a to derive a portfolio-based standardized haircut for cleared security-based swaps that reference an equity security or narrow￾based equity index and swaps that reference a broad-based equity index.211 A commenter opposed the 1% minimum standardized haircut for interest rate swaps as being too severe.212 Based on its analysis of sample positions, this commenter believed that the proposed standardized haircut calculations that include the 1% minimum haircut would result in market risk charges that are nearly 35 times higher than charges without the 1% minimum.213 The Commission is persuaded that the proposed 1% minimum haircut was too conservative,

214See paragraph (b)(2)(ii)(A)(3) of Rule 15c3–1b, as amended; paragraph (b)(2)(ii)(A)(3) of Rule 18a– 1b, as adopted. 215See paragraph (c)(2)(vi)(P)(2) of Rule 15c3–1, as amended; paragraph (b)(2)(ii)(B) of Rule 15c3–1b, as amended; paragraph (c)(1)(vi)(B)(2) of Rule 18a– 1, as adopted; paragraph (b)(2)(ii)(B) of Rule 18a– 1b, as adopted. 216See paragraph (b)(2)(ii)(A)(3) of Rule 15c3–1b, as amended; paragraph (b)(2)(ii)(A)(3) of Rule 18a– 1b, as adopted. 217See Citadel 5/15/2017 Letter. 218See paragraphs (c)(2)(vi)(O) and (P) of Rule 15c3–1, as amended; Rule 15c3–1a, as amended; Rule 15c3–1b as amended; paragraph (c)(1)(vi) of Rule 18a–1, as adopted; Rule 18a–1a, as adopted; Rule 18a–1b, as adopted. In addition to the changes discussed above, the Commission has made some non-substantive modifications to the final rule text for the standardized haircuts for non-cleared CDS that are security-based swaps or swaps in order to conform the final rule text in Rule 18a–1, as adopted, and Rule 18a–1b, as adopted, with the final rule text in Rule 15c3–1, as amended, and Rule 15c3–1b, as amended. The standardized haircuts for these positions were designed to be consistent in both rules. See Capital, Margin, and Segregation Proposing Release, 77 FR at 70233–34. In the proposing release, however, there were some inadvertent differences in the proposed rule texts which have been corrected in the final rules. 219See Capital, Margin, and Segregation Proposing Release, 77 FR at 70237–40. 220See 77 FR at 70237–39. particularly when applied to tightly hedged positions such as those in the commenter’s examples. As discussed above, the standardized haircut for cleared swaps, including interest rate swaps, being adopted today is determined by the margin required by the DCO where the position is cleared. Therefore, the 1% minimum standardized haircut for cleared security-based swaps is being eliminated. However, the Commission continues to believe that a minimum haircut should be applied to non-cleared interest rate swaps. Under the final rules being adopted today, the standardized haircuts for non-cleared interest rate swaps are determined using the maturity grid for U.S. government securities in paragraph (c)(2)(vi)(A) of Rule 15c3–1.214 Moreover, the standardized haircuts for non-cleared security-based swaps and swaps (other than CDS) being adopted today permit a stand-alone broker-dealer and nonbank SBSD to reduce the deduction by an amount equal to any reduction recognized for a comparable long or short position in the reference security under the standardized haircuts in Rule 15c3–1.215 The standardized haircuts in paragraph (c)(2)(vi)(A) of Rule 15c3–1 permit a stand-alone broker-dealer to take a capital charge on the net long or short position in U.S. government securities that are in the same maturity categories in the rule. This treatment will apply to interest rate swaps. Therefore, if a stand-alone broker-dealer or nonbank SBSD has long and short
positions in interest rate swaps, the amount of the standardized haircut applied to these positions could be greatly reduced and could potentially be 0% for positions that are tightly hedged. This could permit the firm to substantially leverage its interest rate swaps and hold little or no capital against them. Further, potential differences between the movement of interest rates on U.S. government securities and interest rates upon which swap payments are based could impose a level of additional risk even to tightly hedged interest rate positions. For these reasons, the Commission believes that a minimum standardized haircut for non-cleared interest rate swaps is appropriate. However, the Commission is persuaded by the commenter that the proposed 1% minimum haircut was too conservative. Therefore, the Commission is modifying the standardized haircut for non-cleared interest rate swaps so that it can be no less than 1⁄8 of 1% of a long position that is netted against a short position in the case of a non-cleared swap with a maturity of 3 months or more.216 The standardized haircuts in paragraph (c)(2)(vi)(A) of Rule 15c3–1 require a 0% haircut for the unhedged amount of U.S. government securities that have a maturity of less than 3 months. Therefore, the standardized haircuts for interest rate swaps will treat hedged and unhedged positions with maturities of less than 3 months identically in that there will be no haircut required to be applied to the positions. The next lowest standardized haircut in paragraph (c)(2)(vi)(A) of Rule 15c3– 1 applies to unhedged positions with a maturity of 3 months but less than 6 months. For these positions, the haircut is 1⁄2 of 1%. Therefore, the minimum standardized haircut for hedged interest rate swaps with a maturity of 3 months or more (i.e., 1⁄8 of 1%) will be one￾quarter of the standardized haircut for unhedged positions with a maturity 3 months but less than 6 months. The Commission believes this modified minimum haircut for interest rate swaps strikes an appropriate balance in terms of addressing commenters’ concerns that the 1% minimum was too conservative and the prudential concern with permitting a stand-alone broker￾dealer or nonbank SBSD to substantially leverage its non-cleared interest rate swaps positions. Another commenter stated that the Commission appears to have proposed different and substantially higher haircuts for cleared swaps regulated by the CFTC, such as cleared interest rate swaps and cleared index CDS, than those proposed under the CFTC’s rules.217 This commenter stated that dual registrants should not be subject to conflicting requirements for the same instrument and urged the Commission to work with the CFTC to harmonize applicable requirements for cleared swaps that are regulated by the CFTC. The commenter also noted that increasing harmonization will promote the portfolio margining of cleared security-based swaps and swaps. The CFTC has not finalized its capital rules under
Title VII of the Dodd-Frank Act; however, as discussed above, the Commission has modified the standardized haircuts for cleared CDS and interest rate swaps so that the deduction equals the margin requirement of the clearing agency or DCO where the positions are cleared. This should alleviate the commenter’s concerns about the magnitude of the standardized haircuts for cleared swaps. In terms of harmonizing the Commission’s standardized haircuts with the CFTC’s standardized haircuts, the Commission intends to continue coordinating with the CFTC as that agency finalizes its capital requirements under Title VII of the Dodd-Frank Act. For the foregoing reasons, the Commission is adopting the standardized haircuts for security-based swaps and swaps with the modifications discussed above and with certain non￾substantive modifications to conform the final rule text in Rule 15c3–1, as amended, and Rule 18a–1, as adopted.218
iv. Model-Based Haircuts
The Commission proposed to allow nonbank SBSDs to apply model-based haircuts.219 Broker-dealer SBSDs that were not already ANC broker-dealers needed Commission authorization to use model-based haircuts and were subject to the requirements governing the use of models by ANC broker￾dealers (i.e., they would need to operate as an ANC broker-dealer SBSD). Stand￾alone SBSDs similarly needed Commission authorization to apply model-based haircuts and were subject to requirements governing the use of them modeled on the requirements for ANC broker-dealers. Under the proposals, nonbank SBSDs seeking authorization to use model￾based haircuts needed to submit an application to the Commission (‘‘ANC application’’).220 The pre-existing provisions of paragraphs (a)(1) through (a)(3) of Rule 15c3–1e set forth in detail the information that must be submitted

221See Capital, Margin, and Segregation Proposing Release, 77 FR at 70239. 222 Id. 223A back-testing exception occurs when the ANC broker-dealer’s actual one-day loss exceeds the amount estimated by its model. 224This means the potential loss measure produced by the model is a loss that the portfolio could experience if it were held for 10 trading days and that this potential loss amount would be exceeded only once every 100 trading days. 225See Capital, Margin, and Segregation Proposing Release, 77 FR at 70239. 226This charge is designed to address the risk that the value of a portfolio of trading book assets will decline as a result of a broad move in market prices or interest rates. 227This charge is designed to address the risk that the value of an individual position would decline for reasons unrelated to a broad movement of market prices or interest rates. 228See Capital, Margin, and Segregation Proposing Release, 77 FR at 70239–40. by a stand-alone broker-dealer in an ANC application. The pre-existing provisions of paragraph (a)(4) provide that the Commission may request that the applicant supplement the ANC application with other information. The pre-existing provisions of paragraph (a)(5) prescribe when an ANC application is deemed filed with the Commission and provides that the application and all submissions in connection with it are accorded confidential treatment to the extent permitted by law. The pre-existing provisions of paragraph (a)(6) provide that if any information in an ANC application is found to be or becomes inaccurate before the Commission approves the application, the stand￾alone broker-dealer must notify the Commission promptly and provide the Commission with a description of the circumstances in which the information was inaccurate along with updated, accurate information. The pre-existing provisions of paragraph (a)(7) provide that the Commission may approve, in whole or in part, an ANC application or an amendment to the application, subject to any conditions or limitations the Commission may require, if the Commission finds the approval to be necessary or appropriate in the public interest or for the protection of investors. A broker-dealer SBSD seeking authorization to use internal models would be subject to these pre-existing application requirements in paragraph (a) of Rule 15c3–1e. A stand-alone SBSD seeking authorization to use internal models would be subject to similar application requirements in proposed Rule 18a–1. As part of the ANC application approval process, the Commission staff reviews the operation of the stand-alone broker-dealer’s model, including a review of associated risk management controls and the use of stress tests, scenario analyses, and back-testing. As
part of this process, the applicant
provides information designed to demonstrate to the Commission staff that the model reliably accounts for the risks that are specific to the types of positions the firm intends to include in the model computations. During the review, the Commission staff assesses the quality, rigor, and adequacy of the technical components of the model and of related governance processes around the use of the model as well as the firm’s risk management policies, procedures, and controls. Under the proposals, nonbank SBSDs seeking authorization to use internal models would be subject to similar reviews during the application process.221 The pre-existing provisions of paragraph (a)(8) of Rule 15c3–1e require an ANC broker-dealer to amend its ANC application and submit it to the Commission for approval before materially changing its model or its internal risk management control system. Further, the pre-existing provisions of paragraph (a)(10) require an ANC broker-dealer to notify the Commission 45 days before the firm ceases to use internal models to compute net capital. Finally, the pre￾existing provisions of paragraph (a)(11) provide that the Commission, by order, can revoke an ANC broker-dealer’s exemption that allows it to use internal models if the Commission finds that the ANC broker-dealer’s use of models is no longer necessary or appropriate in the public interest or for the protection of investors. In this case, the firm would need to revert to applying the standardized haircuts for all positions. Under the proposal, an ANC broker￾dealer SBSD would be subject to these pre-existing application requirements in paragraph (a) of Rule 15c3–1e. A stand￾alone SBSD authorized to use internal models would have been subject to similar application requirements in proposed Rule 18a–1.222 The pre-existing provisions of paragraph (d)(1) of Rule 15c3–1e require an ANC broker-dealer to comply with qualitative requirements that specify among other things that: (1) The model must be integrated into the ANC broker￾dealer’s daily internal risk management system; (2) the model must be reviewed periodically by the firm’s internal audit staff, and annually by an independent public accounting firm; and (3) the measure computed by the model must be multiplied by a factor of at least 3 but potentially a greater amount based on the number of exceptions to the measure resulting from quarterly back-testing exercises.223 The pre-existing provisions of paragraph (d)(2) prescribe quantitative requirements that specify that the model must, among other things: (1) Use a 99%, one-tailed confidence level with price changes equivalent to a 10-business-day movement in rates and prices; 224 (2) use an effective historical observation period of at least one year; (3) use historical data sets that are updated at least monthly and are reassessed whenever market prices or volatilities change significantly; and (4) take into account and incorporate all significant, identifiable market risk factors
applicable to positions of the ANC broker-dealer, including risks arising from non-linear price characteristics, empirical correlations within and across risk factors, spread risk, and specific risk for individual positions. An ANC broker-dealer SBSD would be subject to these pre-existing qualitative and quantitative requirements in paragraph (d) of Rule 15c3–1e. A stand-alone SBSD authorized to use internal models would have been subject to similar qualitative and quantitative requirements in proposed Rule 18a– 1.225 The pre-existing provisions of paragraph (b) of Rule 15c3–1e prescribe the model-based haircuts an ANC broker-dealer must deduct from tentative net capital in lieu of the standardized haircuts. This deduction is an amount equal to the sum of four charges: (1) A portfolio market risk charge for all positions that are included in the ANC broker-dealer’s models (i.e., the amount measured by the model multiplied by a factor of at least 3); 226 (2) a ‘‘specific risk’’ charge for positions where specific risk was not captured in the model; 227 (3) a charge for positions not included in the model where the ANC broker-dealer is approved to use scenario analysis; and (4) a charge for all other positions that is determined using the standardized haircuts. An ANC broker-dealer SBSD would be subject to these pre-existing model-based haircut requirements in paragraph (b) of Rule 15c3–1e. A stand-alone SBSD authorized to use internal models would have been subject to similar requirements in proposed Rule 18a– 1.228 Finally, ANC broker-dealers are subject to ongoing supervision with respect to their internal risk management, including their use of models. In this regard, the Commission staff meets regularly with senior risk managers at each ANC broker-dealer to

229 In addition to regularly scheduled meetings, communications with ANC broker-dealers may increase in frequency, dependent on existing market conditions, and, at times, may involve daily, weekly, or other ad hoc calls or meetings. 230See SIFMA 2/22/2013 Letter. 231See Letter from Americans for Financial Reform (Feb. 22, 2013) (‘‘Americans for Financial Reform Letter’’). 232See Americans for Financial Reform Letter; Better Markets 7/22/2013 Letter; CFA Institute Letter; Letter from Sheila C. Bair, Systemic Risk Council (Jan. 24, 2013) (‘‘Systemic Risk Council Letter’’). See also Letter from Lisa A. Rutherford (Jan. 22, 2013) (‘‘Rutherford Letter’’). 233See Better Markets 7/22/2013 Letter. 234See CFA Institute Letter; Systemic Risk Council Letter. 235See Better Markets 7/22/2013 Letter. 236See Letter from Matthew Shaw (Feb. 22, 2013) (‘‘Shaw Letter’’). 237See Americans for Financial Reform Education Fund Letter. 238See CFA Institute Letter; Systemic Risk Council Letter. 239See CFA Institute Letter. review the risk analytics prepared for the firm’s senior management. These reviews focus on the performance of the risk measurement infrastructure, including statistical models, risk governance issues such as modifications to and breaches of risk limits, and the management of outsized risk exposures. In addition, Commission staff and personnel from an ANC broker-dealer hold regular meetings (scheduled and ad hoc) focused on financial results, the management of the firm’s balance sheet, and, in particular, the liquidity of the firm’s balance sheet.229 The Commission staff also monitors the performance of the ANC broker-dealer’s internal models through regular submissions of reported model changes by the firms and quarterly discussions with the firm’s quantitative modeling personnel. Material changes to the internal models used to determine regulatory capital require advance notification, Commission staff review, and pre-approval before implementation. Stand-alone SBSDs authorized to use model-based haircuts would be subject to similar monitoring and reviews. Comments and Final Requirements for Model-Based Haircuts A commenter expressed support for the Commission’s proposal that nonbank SBSDs be authorized to use model-based haircuts for proprietary securities positions, including security￾based swap positions, in lieu of standardized haircuts, subject to application to, and approval by, the Commission and satisfaction of the qualitative and quantitative requirements set forth in Rule 15c3– 1e.230 However, other commenters raised concerns about permitting nonbank SBSDs to use model-based haircuts. A commenter stated that model-based haircuts should be ‘‘floored’’ at a level set by a standardized approach.231 This commenter also stated that the Commission’s continued reliance on model-based haircuts would represent a step away from the evolving practice of prudential regulators. This commenter and others also generally argued that the failure by
significant market participants to accurately measure risk using models in the run-up to and during the 2008 financial crisis demonstrated that such models do not successfully measure risk and do not enable firms to make optimal judgments about risk.232 One of these commenters argued that the firms using models are the most systemically risky and have a financial incentive to keep the measures low.233 Other commenters argued that models can be manipulated and create perverse incentives for risk management staff to minimize capital charges.234 A commenter indicated that it will be difficult for Commission staff to examine, duplicate, and back-test model estimates.235 A second commenter believed models tend to fail during volatile market conditions particularly during a crisis.236 Another commenter, in light of various reforms by banking regulators, urged the Commission to place more limitations on ANC broker￾dealers because they use internal models to determine capital charges.237 Commenters also argued that allowing the use of models for capital purposes can create competitive advantages for larger firms that are able to reduce their capital requirements through internal modeling relative to smaller firms that are engaged in similar activities but are subject to different capital requirements.238 A commenter stated that allowing the use of models will incentivize firms to organize themselves in ways that reduce their capital requirements and increase their leverage in order to enhance return on capital.239 This commenter also stated that capital requirements should be the same regardless of firms’ activities and that the only reason for different treatment should be the aggregate exposures taken by individual firms. The Commission continues to believe that the capital rules for ANC broker￾dealers and nonbank SBSDs should permit these entities to use model-based haircuts. Models are used by financial institutions to manage risk and, therefore, permitting their use will allow firms to integrate their risk management processes with their capital computations. The Commission, however, acknowledges the concerns raised by commenters about the efficacy of models, particularly in times of market stress. In response to these concerns and the comment that ANC broker-dealers should be subject to more limitations, ANC broker-dealers and nonbank SBSDs using models will be subject to higher minimum capital requirements as well as the Commission’s ongoing monitoring of their use of models. In particular, the minimum tentative net capital requirements that apply to ANC broker-dealers (which are being substantially increased by today’s amendments) and stand-alone SBSDs authorized to use model-based haircuts are designed to address the concerns raised by commenters that the models may fail to accurately measure risk, firms may calibrate the models to keep values low, firms might manipulate models, and models may fail during volatile market conditions. More
specifically, tentative net capital is the amount of a firm’s net capital before applying the haircuts. Today’s amendments and new rules will require ANC broker-dealers (including ANC broker-dealer SBSDs) to maintain at least $5 billion in tentative net capital and subject them to a minimum fixed-dollar net capital requirement of $1 billion. Stand-alone SBSDs authorized to use models will be required to maintain at least $100 million in tentative net capital and will be subject to a minimum fixed-dollar net capital requirement of $20 million. Consequently, for each type of nonbank SBSD, the fixed-dollar minimum tentative net capital requirement is five times the fixed-dollar minimum net capital requirement. Thus, nonbank SBSDs that use models will need to maintain minimum tentative net capital in an amount that far exceeds their minimum fixed-dollar net capital requirement. The larger tentative net capital requirement is designed to address the risk associated with using model-based haircuts. To the extent a nonbank SBSD’s model fails to accurately calculate the risk of its positions, the tentative net capital requirement will serve as a buffer to account for the difference between the calculated haircut amount and the actual risk of the positions. Further, the Commission’s ongoing supervision of the firms’ use of models as well as the qualitative and quantitative requirements governing the use of models (e.g., backtesting) provide additional checks on the use of models that are designed to address the risks

240See paragraph (a)(7) of Rule 15c3–1, as amended; paragraph (a) of Rule 15c3–1e, as amended; paragraphs (a)(2), (d), and (e)(1) of Rule 18a–1, as adopted. The Commission also is modifying the credit risk charges in the final rule in paragraph (a)(7) of Rule 15c3–1, as amended and paragraph (a)(2) of Rule 18a–1, as adopted. These changes are discussed in the next section. The Commission also is making some non-substantive changes in paragraph (d)(9)(iii) of Rule 18a–1, as adopted. 241See SIFMA 2/22/2013 Letter; SIFMA 11/19/ 2018 Letter. 242See ING/Mizuho Letter; IIB 11/19/2018 Letter. 243See Citadel 5/15/2017 Letter. 244See paragraph (a)(7)(ii) of Rule 15c3–1e, as amended; paragraph (d)(5)(ii) of Rule 18a–1, as adopted. As a result of this modification, paragraph (a)(7) of Rule 15c3–1e has been re-designated paragraph (a)(7)(i) of Rule 15c3–1e, as amended, and paragraph (d)(5) of Rule 18a–1, as proposed, has been re-designated paragraph (d)(5)(i) of Rule 18a–1, as adopted. 245See paragraph (a)(7)(ii)(A) of Rule 15c3–1e, as amended; paragraph (d)(5)(ii)(A) of Rule 18a–1, as adopted. 246See paragraph (a)(7)(ii)(B) of Rule 15c3–1e, as amended; paragraph (d)(5)(ii)(B) of Rule 18a–1, as adopted. 247See paragraph (c)(15) of Rule 15c3–1 (defining the term ‘‘tentative net capital’’). 248See paragraphs (a)(5) and (c)(15) of Rule 15c3– 1; 17 CFR 240.15c3–1f (‘‘Rule 15c3–1f’’). identified by the commenters. Finally, ANC broker-dealers and nonbank SBSDs are subject to Rule 15c3–4, which requires them to establish, document, and maintain a system of internal risk management controls to assist in managing the risks associated with their business activities, including market, credit, leverage, liquidity, legal, and operational risks. Although one commenter stated that the Commission’s continued reliance on internal models would represent a step away from the evolving practice of prudential regulators, this has not been the case. Financial supervisors and regulators, in the United States and elsewhere, have continued to permit the use of internal models as a component of establishing and measuring capital requirements for financial market participants, including with respect to bank SBSDs and bank swap dealers. Similarly, the CFTC has proposed to allow nonbank swap dealers to use models. The Commission’s final rules and amendments will promote consistency with these other rules. For these reasons, the Commission is adopting the provisions relating to the use of model-based haircuts substantially as proposed.240 Finally, a commenter recommended that the Commission adopt an expedited review and approval process for models that have been approved and are subject to periodic assessment by the Federal Reserve or a qualifying foreign regulator.241 This commenter suggested that if the Commission has previously approved a model for use by one registrant, the Commission should automatically approve the use of that model by an affiliate subject to the same risk
management program as the affiliate whose model was previously approved. Other commenters recommended that the Commission permit a nonbank SBSD to use internal credit risk models approved by other regulators, and that the Commission generally defer to the other regulator’s ongoing oversight of the model (including model governance).242 Another commenter supported a provisional approval process for internal capital models.243 In response to these comments, the Commission encourages prospective registrants to reach out to the Commission staff as early as possible in advance of the registration compliance date to begin the model approval process. The staff will work diligently to review the models before the firm must register as an SBSD. However, the Commission acknowledges the possibility that it may not be able to make a determination regarding a firm’s model before it is required to register as an SBSD. Consequently, the Commission is modifying Rule 15c3–1e and Rule 18a–1 to provide that the Commission may approve, subject to any condition or limitations that the Commission may require, the temporary use of a provisional model by an ANC broker-dealer, including an ANC broker￾dealer SBSD, or a stand-alone SBSD for the purposes of computing net capital if the model had been approved by certain other supervisors.244 Further, as discussed below in section II.B.2.a.i. of this release, the Commission also may approve, subject to any condition or limitations that the Commission may require, the temporary use of a provisional model by a nonbank SBSD for the purposes of calculating initial margin pursuant to the requirements of Rule 18a–3, as adopted. To qualify, the firm must have a complete application pending for approval to use a model.245 The requirement that a complete application be pending is designed to limit the amount of time that the firm uses the provisional model and incentivize firms to promptly file applications for model approval. In addition, to be approved by the Commission, the use of the provisional model must have been approved by a prudential regulator, the CFTC, a CFTC￾registered futures association, a foreign financial regulatory authority that administers capital and/or margin requirements that the Commission has found are eligible for substituted compliance, or any other foreign supervisory authority that the Commission finds has approved and monitored the use of the provisional model through a process comparable to the process set forth in the final rules.246 This condition is designed to ensure that the provisional model has been approved by a financial regulator that is administering a program for approving and monitoring the use of models that is consistent with the Commission’s program, including with respect to the qualitative and quantitative requirements for models in the final rules being adopted today.
v. Credit Risk Models
The pre-existing provisions of paragraph (a)(7) of Rule 15c3–1 and paragraph (c) of Rule 15c3–1e permit an ANC broker-dealer to treat uncollateralized current exposure to a counterparty arising from derivatives transactions as part of its tentative net capital instead of deducting 100% of the value of the unsecured receivable (as is required with respect to most unsecured receivables under Rule 15c3–1).247 These provisions further require the ANC broker-dealer to take a credit risk charge to tentative net capital (along with the market risk charges—the model-based haircuts—discussed above in section II.A.2.b.iv. of this release) to compute its net capital. The credit risk charge typically will be significantly less than the 100% deduction to net worth that would have otherwise applied to the unsecured receivable since the credit risk charge is a percentage of the amount of the receivable. The pre-existing provisions of paragraph (c) of Rule 15c3–1e prescribe the method for calculating credit risk charges (‘‘ANC credit risk model’’). In particular, the credit risk charge is the sum of 3 calculated amounts: (1) A counterparty exposure charge; (2) a concentration charge if the current exposure to a single counterparty exceeds certain thresholds; and (3) a portfolio concentration charge if the aggregate current exposure to all counterparties exceeds 50% of the firm’s tentative net capital. The capital rules governing OTC derivatives dealers similarly permit them to include uncollateralized current exposures to a counterparty arising from derivatives transactions in their tentative net capital, and require them to take a credit risk charge to tentative net capital with respect to these exposures to compute net capital.248

249See paragraph (d) of Rule 15c3–1f. 250See paragraph (a) of Rule 15c3–1f. 251See Capital, Margin, and Segregation Proposing Release, 77 FR at 70240–44. 252See 77 FR at 70240–44. 253See Capital, Margin, and Segregation Comment Reopening, 83 FR at 53010–11. 254See SIFMA 2/22/2013 Letter. 255See Memorandum from Richard Gabbert, Counsel to Commissioner Hester M. Peirce, regarding an April 24, 2018 meeting with representatives of Citigroup (April 26, 2018) (‘‘Citigroup 4/24/2018 Meeting’’). 256See Letter from Anne-Marie Leroy, Senior Vice President and Group General Counsel, and David Harris, Acting Vice President and General Counsel, The World Bank (Feb. 21, 2013) (‘‘World Bank Letter’’). 257See Financial Services Roundtable Letter. 258See Sutherland Letter. 259See SIFMA 2/22/2013 Letter. 260See Morgan Stanley 11/19/2018 Letter. Paragraph (d) of Rule 15c3–1f prescribes the method for computing the credit risk charges for OTC derivatives dealers (‘‘OTCDD credit risk model’’). The OTCDD credit risk model is similar to the ANC credit risk model except that the former does not include a portfolio concentration charge.249 Commission staff reviews an ANC broker-dealer’s use of the ANC credit risk model as part of the overall review of the firm’s ANC application and monitors the firm’s use of the model thereafter. Moreover, the process is subject to the pre-existing provisions of paragraphs (a)(8), (a)(10), and (a)(11) of Rule 15c3–1e, which provide, respectively, that: (1) An ANC broker￾dealer must amend and submit to the Commission for approval its ANC application before materially changing its ANC credit risk model; (2) an ANC broker-dealer must notify the Commission 45 days before it ceases using its ANC credit risk model; and (3) the Commission, by order, can revoke an ANC broker-dealer’s ability to use the ANC credit risk model. Commission staff also reviews and monitors an OTC derivatives dealer’s use of its OTCDD credit risk model.250 Under the pre-existing provisions of Rule 15c3–1e, an ANC broker-dealer approved to use an ANC credit risk model can apply the model to unsecured receivables arising from OTC derivatives instruments from all types of counterparties. The Commission proposed to narrow this treatment so that ANC broker-dealers could apply the ANC credit risk model to unsecured receivables arising exclusively from security-based swap transactions with commercial end users (i.e., unsecured receivables arising from other types of derivative transactions were subject to the 100% deduction from net worth).251 The Commission proposed that stand￾alone SBSDs authorized to use models also could apply a credit risk model to unsecured receivables arising from security-based swap transactions with commercial end users.252 The proposed credit risk model for stand-alone SBSDs was modeled on the ANC credit risk model (as opposed to the OTCDD credit risk model). Consequently, the credit risk model for stand-alone SBSDs included a portfolio
concentration charge if aggregate current exposures to all counterparties exceeded 50% of the firm’s tentative net capital. In the 2018 comment reopening, the Commission asked whether the final rules should cap the ability of ANC broker-dealers and stand-alone SBSDs authorized to use models to apply the credit risk models to uncollateralized current exposures arising from security￾based swap and swap transactions with commercial end users. The Commission asked whether this cap should equal 10% of the firm’s tentative net capital.253 In addition, the Commission asked whether the use of the credit risk models by ANC broker-dealers and stand-alone SBSDs should be expanded to apply to uncollateralized potential exposures to counterparties arising from electing not to collect initial margin for non-cleared security-based swap and swap transactions pursuant to exceptions in the margin rules of the Commission and the CFTC. This treatment would be an alternative to taking the 100% deduction to net worth in lieu of collecting initial margin. Comments and Final Requirements for Using Credit Risk Models A commenter urged the Commission not to limit the circumstances in which the credit risk models could be used.254 The commenter stated that uncollateralized receivables arising from a counterparty failing to post margin typically result from operational issues that are temporary in nature (i.e., that are addressed in a matter of days) and are liquidated if they last for longer periods of time. The commenter stated that a credit risk charge adequately addresses the risks of under￾collateralized positions during the interim period before margin is posted and that ‘‘a punitive 100% deduction is unnecessary.’’ The commenter also stated that requiring a nonbank SBSD to hold additional capital for each dollar of margin it did not collect from a non￾financial entity for a swap would effectively undermine an exception proposed by the CFTC, which the commenter indicated would deter the dual registration of nonbank SBSDs as swap dealers. The commenter also requested that the Commission permit ANC broker-dealers and stand-alone SBSDs authorized to use models to apply a counterparty credit risk charge in lieu of a 100% deduction for security￾based swaps and swaps with sovereigns, central banks, supranational institutions, and affiliates to the extent that an exception to applicable margin requirements applies. Similarly, another commenter recommended that the Commission calibrate the capital charges so that they do not make compliance with other regulators’ margin rules punitive.255 A commenter stated that ANC broker￾dealers and stand-alone SBSDs should be permitted to apply the credit risk models to uncollateralized exposures to multilateral development banks in which the U.S. is a member.256 This commenter stated that the Commission’s proposal to limit use of the models to commercial end users is unwarranted, on either risk-based or policy grounds. A commenter stated
that requiring a 100% deduction for unsecured receivables from commercial end users with respect to swap transactions (as compared to security-based swap transactions for which the credit risk models would apply) will make it difficult, if not impossible, to maintain a dually-registered nonbank SBSD and swap dealer.257 Another commenter urged the Commission to modify its proposal to avoid the pass-through of costs to commercial end users that the commenter argued would result if SBSDs are required to hold capital to cover unsecured credit exposures to them.258 This commenter also recommended that the Commission allow nonbank SBSDs and nonbank MSBSPs that are not approved to use internal models to take the credit risk charge (i.e., not limit its use to ANC broker-dealers and stand-alone SBSDs authorized to use models). One commenter suggested that the Commission substitute a credit risk charge or a credit concentration charge in place of the 100% charge for legacy accounts, with an exception permitting SBSDs to exclude any currently non￾cleared positions for which a clearing agency has made an application to the Commission to accept for clearing.259 In response to the 2018 comment reopening, a commenter expressed support for expanding the use of credit risk models to uncollected initial margin from legacy accounts.260 This commenter argued that this would be comparable to capital rules for bank SBSDs. Similarly, a commenter supported expanding the use of credit

261See SIFMA 11/19/2018 Letter.
262See Better Markets 11/19/2018 Letter. 263See Morgan Stanley 11/19/2018 Letter. 264See paragraph (a)(7) of Rule 15c3–1, as amended; paragraph (a)(2) of Rule 18a–1, as adopted. 265See Capital, Margin, and Segregation Comment Reopening, 83 FR at 53010. 266See Morgan Stanley 11/19/2018 Letter. 267See SIFMA 11/19/2018 Letter. 268See paragraph (c)(3) of Rule 15c3–1e, as amended. 269See Capital, Margin, and Segregation Proposing Release, 77 FR at 70244 (proposing a portfolio concentration charge in Rule 18a–1 for stand-alone SBSDs). 270See paragraph (c) of Rule 15c3–1f. risk models, noting that it would be consistent with the Basel capital standards as well as the manner in which the current net capital rule applies to ANC broker-dealers.261 Conversely, a commenter opposed expanding the use of credit risk models.262 Finally, a commenter raised concerns about the potential rule language in the 2018 comment reopening because it narrowed the ability to use credit risk models for transactions in security￾based swaps and swaps.263 The commenter noted that the current capital rules permit ANC broker-dealers to use the ANC credit risk models with respect to derivatives instruments, which encompass—among other things—OTC options that are not security-based swaps or swaps. In response to these comments, the Commission is persuaded that the ability to apply the credit risk models should not be narrowed as proposed in 2012 (i.e., to exposures arising from uncollected variation and initial margin from commercial end users). The Commission believes the better approach is to maintain the existing provision in Rule 15c3–1 that permits an ANC broker-dealer to apply the ANC credit risk model to credit exposures arising from all derivatives transactions. The Commission further believes that Rule 18a–1 should permit stand-alone SBSDs authorized to use models to similarly apply the credit risk model. Consequently, under the final rules, the credit risk models can be applied to uncollateralized current exposures to counterparties arising from all derivatives instruments, including such exposures arising from not collecting variation margin from counterparties pursuant to exceptions in the margin rules of the Commission and the CFTC.264 The final rules also permit use of the credit risk models instead of taking the 100% deductions to net worth for electing not to collect initial margin for non-cleared security-based swaps and swaps pursuant to exceptions in the margin rules of the Commission and the CFTC, respectively. This broader application of the credit risk models with respect to security-based swap and swap transactions—which will reduce the amount of the capital charges— should mitigate concerns raised by commenters about the impact that the 100% deductions to net worth would have on nonbank SBSDs and their counterparties. It also responds to commenters who requested that the ability to use the credit risk models be expanded to a broader range of transactions. In
addition, the broader application of credit risk models should mitigate the concerns raised by commenters that applying the 100% deduction to net worth with respect to swap transactions would make it difficult, if not impossible, to maintain an entity dually-registered as a nonbank SBSD and swap dealer. As noted above, the 2018 comment reopening described a potential cap equal to 10% of the firm’s tentative net capital that would limit the firm’s ability to apply the credit risk models to uncollateralized current exposures arising from electing not to collect variation margin.265 Under this potential threshold, a firm would need to take a capital charge equal to the aggregate amount of uncollateralized current exposures that exceeded 10% of the firm’s tentative net capital. Commenters addressed this potential cap. One commenter recommended that rather than an aggregate cap, the Commission adopt a counterparty-by￾counterparty threshold equal to 1% of the firm’s tentative net capital.266 In the alternative, this commenter suggested using a 20% cap, if the Commission deemed it necessary to impose an aggregate limit. Another commenter suggested that the Commission not adopt the 10% cap and instead rely on the existing portfolio concentration charge in Rule 15c3–1e that is part of the credit risk model used to calculate the credit risk charges.267 In response to the comments, the 10% cap was designed to limit the amount of a firm’s capital base that is comprised of unsecured receivables. These assets generally are illiquid and cannot be readily converted to cash, particularly in a time of market stress. Permitting additional unsecured receivables to be allowable assets for capital purposes (in the form of either a higher aggregate cap or alternative thresholds) could substantially impair the firm’s liquidity and ability to withstand a financial shock. Moreover, as discussed above, the Commission is broadening the application of the credit risk models to all types of counterparties and transactions that are subject to exceptions in the margin rules for non￾cleared security-based swaps and swaps. For these reasons, the Commission believes it is an appropriate and prudent measure to adopt the 10% cap for ANC broker-dealers, including ANC broker￾dealer SBSDs. These firms engage in a wide range of securities activities beyond dealing in security-based swaps, including maintaining custody of securities and cash for retail customers. They are significant participants in the securities markets and, accordingly, the Commission believes it is appropriate to adopt rules that promote their safety and soundness by limiting the amount of unsecured receivables that can be
part of their regulatory capital. Thus, the
Commission does not believe increasing the 10% cap to a 20% cap would be appropriate. Consequently, under the final rule, these firms are subject to a portfolio concentration charge equal to 100% of the amount of the firm’s aggregate current exposure to all counterparties in excess of 10% of the firm’s tentative net capital.268 Thus, unsecured receivables arising from electing not to collect variation margin are included in the portfolio concentration charge. The charge does not include potential future exposure arising from electing not to collect initial margin. In response to comments, the Commission has reconsidered the proposed portfolio concentration charge for stand-alone SBSDs (including stand￾alone SBSDs registered as OTC derivatives dealers).269 These firms will engage in a much more limited securities business as compared to ANC broker-dealers, including ANC broker￾dealer SBSDs. Consequently, they will be a less significant participant in the broader securities market. Moreover, under existing requirements, OTC derivatives dealers are not subject to a portfolio concentration charge.270 Therefore, not including a portfolio concentration charge for stand-alone SBSDs will more closely align the credit risk model for these firms with the OTCDD credit risk model. The Commission believes this is appropriate as both types of entities are limited in the activities they can engage in as compared to ANC broker-dealers. Further, as discussed above in section II.A.4. of this release, a stand-alone SBSD that also is registered as an OTC derivatives dealer will be subject to

271See paragraph (e)(2) of Rule 18a–1, as adopted. 272See paragraph (c)(4)(v) of Rule 15c3–1e, as amended; paragraph (e)(2)(iii)(E) of Rule 18a–1, as adopted. 273See Capital, Margin, and Segregation Proposing Release, 77 FR at 70243. 274See paragraph (c)(2)(xv)(C)(1) of Rule 15c3–1, as amended; paragraph (c)(1)(ix)(C)(1) of Rule 18a– 1, as adopted. 275See paragraph (c)(4)(v)(B)(2) of Rule 15c3–1e, as amended; paragraph (e)(2)(iii)(E)(2) of Rule 18a– 1, as adopted. As part of this modification, paragraph (c)(4)(v)(B) was re-designated paragraph (c)(4)(v)(B)(1) and the phrase ‘‘and may be liquidated promptly by the firm without intervention by any other party’’ was added before the semicolon. This rule text was moved from paragraph (c)(4)(v)(D) of Rule 15c3–1e, because this provision is not applicable to the third-party custodial provisions in paragraph (c)(4)(v)(B)(2). As a result, paragraph (c)(4)(v)(D) of Rule 15c3–1e was deleted and the remaining subparagraphs re￾numbered. Conforming changes also were made to paragraph (e)(2)(iii) of Rule 18a–1, as amended. 276See Sutherland Letter. 277See SIFMA 11/19/2018 Letter. 278See paragraph (c)(4)(i) and Rule 15c3–1e, as amended; paragraph (e)(2)(iii)(A) of Rule 18a–1, as adopted. 279See OneChicago 2/19/2013 Letter. 280See SIFMA 2/22/2013 Letter. Rules 18a–1, 18a–1a, 18a–1b, 18a–1c and 18a–1d rather than Rule 15c3–1 and its appendices (and, in particular, Rule 15c3–1f). Consequently, not including a portfolio concentration charge in Rule 18a–1 will avoid having two different standards: one for OTC derivatives dealers that also are SBSDs and the other for OTC derivatives dealers that are not SBSDs. For these reasons, the credit risk model for stand-alone SBSDs in Rule 18a–1 has been modified from the proposal to eliminate the portfolio concentration charge.271 In addition to the foregoing modifications to the credit risk models for ANC broker-dealers and stand-alone SBSDs, the Commission is making an additional modification to the term ‘‘collateral’’ as defined in the rules for purposes of the models.272 In particular, the existing definition in Rule 15c3–1e and the proposed definition in Rule 18a–1 provided that in applying the credit risk model the fair market value of collateral pledged by the counterparty could be taken into account if, among other conditions, the firm maintains possession or control of the collateral.273 Consequently, under the existing and proposed rules, collateral held at a third-party custodian could not be taken into account because it was not in the possession or control of the firm. As discussed above in section II.A.2.b.ii. of this release, the Commission believes it would be appropriate to recognize a broader range of custodians for purposes of the exception to taking the deduction to net worth when initial margin is held at a third-party custodian. Consequently, the Commission modified that provision so that, for purposes of the exception, a stand-alone broker-dealer or
nonbank SBSD could recognize collateral held at a bank as defined in Section 3(a)(6) of the Exchange Act or a registered U.S. clearing organization or depository that is not affiliated with the counterparty or, if the collateral consists of foreign securities or currencies, a supervised foreign bank, clearing organization, or depository that is not affiliated with the counterparty and that customarily maintains custody of such foreign securities or currencies.274 The Commission believes the same types of custodians should be recognized for purposes of the credit risk models and accordingly is modifying the definitions of ‘‘collateral’’ in Rules 15c3–1e, as amended, and 18a–1, as adopted, to permit an ANC broker-dealer or nonbank SBSD to take into account collateral held at a third-party custodian that is one of these entities, subject to the same conditions with respect to foreign securities and currencies.275 A commenter urged the Commission to modify the proposed application of the credit risk models to avoid the pass￾through of costs to commercial end users that the commenter argued would result if nonbank SBSDs are required to hold capital to cover unsecured credit exposures to these counterparties.276 The commenter recommended that the Commission allow nonbank SBSDs not authorized to compute model-based haircuts to use the credit risk models (i.e., not limit the use of credit risk models to ANC broker-dealers and stand-alone SBSDs authorized to use models). Another commenter suggested that nonbank SBSDs that have not been approved to use models for capital purposes also be allowed to compute credit risk charges for uncollected initial margin by multiplying the exposure by 8% and a credit-risk-weight factor.277 In response, the Commission does not believe it would be appropriate to permit stand-alone SBSDs that are not authorized to use models to apply model-derived credit risk charges. First, the credit risk models used by ANC broker-dealers and nonbank SBSDs require a calculation of maximum potential exposure to the counterparty multiplied by a back-testing-determined factor.278 The maximum potential exposure amount is a charge to address potential future exposure and is calculated using the firm’s market risk model (i.e., the model to calculate model-based haircuts) as applied to the counterparty’s positions after giving effect to a netting agreement with the counterparty, taking into account collateral received from the counterparty, and taking into account the current replacement value of the counterparty’s positions. Second, ANC broker-dealers and stand-alone SBSDs authorized to use models are subject to higher minimum tentative net capital and net capital requirements. These enhanced minimum capital requirements are designed to account for the lower deductions that result from using models. Nonbank SBSDs that have not been authorized to use models will not be subject to these additional requirements. Moreover, as a practical matter,
the Commission expects that most nonbank SBSDs will apply to use models. A commenter argued that adopting an exception from collecting initial margin from another SBSD for a non-cleared security-based swap transaction without imposing a deduction from net worth would be inappropriate.279 The commenter argued that these counterparties could default, which, in turn, could increase systemic risk. In response, as discussed above in section II.A.2.b.ii. of this release, the final rules require a nonbank SBSD to take a deduction in lieu of margin when it does not collect initial margin from a counterparty, including an SBSD. The capital charge is designed to achieve the same objective as collecting margin (i.e., protect the nonbank SBSD from the consequences of the counterparty’s default). Moreover, a nonbank SBSD will be required to collect variation margin from other financial market intermediaries such as SBSDs. A commenter stated that uncollateralized receivables arising from a counterparty failing to post margin typically result from operational issues that are temporary in nature (i.e., that are addressed in a matter of days) and are liquidated if they last for longer periods of time.280 Consequently, the commenter requested that the Commission expand the use of credit risk models to instances when the nonbank SBSD does not collect required margin (i.e., as distinct from when the SBSD elects not collect margin pursuant to an exception in the margin rules). As discussed above in section II.A.2.b.ii. of this release with respect to under￾margined accounts, when margin is required it should be collected promptly, as it is designed to protect the nonbank SBSD from the consequences of the counterparty defaulting on its obligations. The 100% deduction from net worth for failing to collect required margin will serve as an incentive for

281See paragraphs (c)(1)(iii) and (c)(2)(ii) of Rule 18a–3, as adopted. These and other provisions related to the margin rule are discussed in more detail in section II.B.2. of this release. 282See SIFMA 11/19/2018 Letter. 283 12 CFR 217.36. 284See also section II.A.1. of this release (discussing why the Commission does not believe it would be appropriate to apply a bank capital standard to a nonbank SBSD). 285See paragraph (a)(7) of Rule 15c3–1, as amended; paragraph (a)(2) of Rule 18a–1, as adopted. 286See paragraph (c) of Rule 15c3–1e, as amended; paragraph (e)(2) to Rule 18a–1, as adopted. The following non-substantive changes are being made. First, ‘‘%’’ is replaced with ‘‘percent’’ in paragraph (e)(2) of Rule 18a–1, as adopted, to improve internal consistency in the rule. Second, ‘‘paragraphs (c)(1)(iv), (vi), and (vii) of this section’’ are replaced with ‘‘paragraphs (c)(1)(iv), (vi), and (vii) of this section, and § 240.18a–1b,’’ in paragraph (d)(1) of Rule 18a–1, as adopted. Third, ‘‘ten business day’’ is replaced with ‘‘ten-business day’’ in paragraph (d)(9)(i)(C)(5)(i) of Rule 18a–1, as adopted. Fourth, ‘‘paragraphs (c)(1)(iii), (iv), (vii), or (viii)’’ is replaced with ‘‘paragraphs (c)(1)(iii), (iv), (vi), (vii),’’ in paragraph (d)(9)(iii) of Rule 18a–1, as adopted. 287See 17 CFR 240.15c3–4 (‘‘Rule 15c3–4’’); paragraph (a)(7)(iii) of Rule 15c3–1. 288See Capital, Margin, and Segregation Proposing Release, 77 FR at 70250–70251. 289See Letter from Chris Barnard (Dec. 4, 2012) (‘‘Barnard Letter’’); Financial Services Roundtable Letter. 290See Barnard Letter. 291See Financial Services Roundtable Letter. 292See paragraph (a)(10)(ii) of Rule 15c3–1, as amended (which applies Rule 15c3–4 to broker￾dealer SBSDs not authorized to use model-based haircuts); paragraph (f) of Rule 18a–1, as adopted (which applies Rule 15c3–4 to stand-alone SBSDs). In the final rule, paragraph (g) of Rule 18a–1, as proposed to be adopted, was re-designated paragraph (f). See paragraph (f) of Rule 18a–1, as adopted. See also paragraph (a)(7)(iii) of Rule 15c3– 1 (which applies Rule 15c3–4 to ANC broker￾dealers, including ANC broker-dealer SBSDs). 293See Capital, Margin, and Segregation Proposing Release, 77 FR at 70254–55. 294See paragraph (g) of Rule 18a–1, as adopted. The debt-equity ratio requirements were set forth in re-designated paragraph (g) of Rule 18a–1, as adopted, and conforming changes were made to applicable cross-references in the rule. 295See Capital, Margin, and Segregation Proposing Release, 77 FR at 70254–55. 296See paragraph (h) of Rule 18a–1, as adopted. The capital withdrawal requirements were set forth in re-designated paragraph (h) of Rule 18a–1, as adopted, and conforming changes were made to applicable cross-references in the rule. 297See Rule 15c3–1c. functioning margin collection system and the capital needed to take the deduction will protect the nonbank SBSD from the consequences of the counterparty’s default. However, the final margin
rule being adopted today provides a nonbank SBSD or MSBSP an additional day to collect required margin from a counterparty (including variation margin due from an affiliate) if the counterparty is located in a different country and is more than 4 time zones away.281 This should mitigate the commenter’s concern about having to take a deduction when required margin is not collected in a timely manner. Finally, a commenter requested that the Commission permit a nonbank SBSD to substitute the credit risk charge that would apply to a transaction with a counterparty with the credit risk charge that would apply to a transaction with a different counterparty that hedges the transaction with the first counterparty, as permitted under bank capital rules under certain conditions.282 The commenter cited a bank regulation that permits this shifting of credit risk charges.283 The bank regulation cited in support of this comment is integrated into the broader set of bank capital regulations. The commenter did not describe why such a provision would be appropriate for a nonbank or which bank regulations would need to be codified into the ANC broker-dealer and nonbank SBSD capital rules to prudently and effectively implement it. Consequently, the Commission is not incorporating such a provision into the ANC broker-dealer and nonbank SBSD capital rules.284 For the foregoing reasons, the Commission is adopting final rules that permit ANC broker-dealers and stand￾alone SBSDs authorized to use credit risk models to apply the credit risk charges with the modifications discussed above.285 The Commission also is adopting final rules regarding the operation of the credit risk models with the modifications discussed above.286
c. Risk Management
ANC broker-dealers and OTC derivatives dealers are subject to a risk management rule.287 Rule 15c3–4 requires these firms to, among other things, establish, document, and maintain a system of internal risk management controls to assist in managing the risks associated with their business activities, including market, credit, leverage, liquidity, legal, and operational risks. The Commission proposed that nonbank SBSDs be required to comply with Rule 15c3–4 to promote the establishment of effective risk management control systems by these firms.288 Commenters expressed support for the Commission’s proposal.289 A commenter stated that requiring nonbank SBSDs to comply with Rule 15c3–4 ‘‘will better enable nonbank SBSDs to identify and mitigate and manage the risks they are facing.’’ 290 A second commenter stated that Rule 15c3–4 should already contemplate the unique needs of a dealer in derivatives.291 The Commission is adopting, as proposed, the requirement that nonbank SBSDs comply with Rule 15c3–4.292 d. Other Rule 15c3–1 Provisions Incorporated Into Rule 18a–1
i. Debt-Equity Ratio Requirements
Paragraph (d) of Rule 15c3–1 sets limits on the amount of a stand-alone broker-dealer’s outstanding subordinated loans. The debt-to-equity limits are designed to ensure that a stand-alone broker-dealer has a base of permanent capital in addition to any subordinated loans, which—as discussed above—are permitted to be added back to net worth when computing net capital. Paragraph (h) of proposed Rule 18a–1 contained parallel debt-to-equity limits.293 The Commission did not receive comments concerning the debt-to-equity limits in proposed Rule 18a–1 and for the reasons discussed in the proposing release is adopting them as proposed.294
ii. Capital Withdrawal Requirements
Paragraph (e)(1) of Rule 15c3–1 requires that a stand-alone broker-dealer provide notice when it seeks to withdraw capital in an amount that exceeds certain thresholds. Paragraph (e)(2) of Rule 15c3–1 permits the Commission to issue an order temporarily restricting a stand-alone broker-dealer from withdrawing capital or making loans or advances to stockholders, insiders, and affiliates under certain circumstances. The Commission proposed parallel requirements for stand-alone SBSDs.295 The Commission did not receive comments concerning the proposed capital withdrawal requirements for stand-alone SBSDs and for the reasons discussed in the proposing release is adopting them as proposed.296
iii. Appendix C
Appendix C to Rule 15c3–1 requires
a stand-alone broker-dealer in computing its net capital and aggregate indebtedness to consolidate, in a single computation, assets and liabilities of any subsidiary or affiliate for which it guarantees, endorses, or assumes, directly or indirectly, obligations or liabilities.297 The assets and liabilities of a subsidiary or affiliate whose liabilities and obligations have not been guaranteed, endorsed, or assumed directly or indirectly by the stand-alone broker-dealer may also be consolidated. Subject to certain conditions in
Appendix C to Rule 15c3–1, a stand￾alone broker-dealer may receive flow￾through net capital benefits because the
consolidation may serve to increase the firm’s net capital and thereby assist it in

298See Capital, Margin, and Segregation Proposing Release, 77 FR at 70255. 299See Rule 18a–1c, as adopted. 300See 17 CFR 240.15c3–1d (‘‘Rule 15c3–1d’’). 301See paragraph (a)(2)(ii) of Rule 15c3–1d. 302See paragraph (a)(2)(v)(A) of Rule 15c3–1d. 303See Capital, Margin, and Segregation Proposing Release, 77 FR at 70256, n. 460. 304See 77 FR at 70255–70256. 305See Rule 15c3–1d, as amended; paragraph (c)(1)(ii) of Rule 18a–1, as adopted; Rule 18a–1d, as adopted. The final rules are modified in the following non-substantive ways. The proposed rule text in Rule 15c3–1d is modified to refer generically to minimum capital requirements, rather than specific numbers and percentages, to account for the additional financial ratios that broker-dealer SBSDs are subject to under Rule 15c3–1. The term ‘‘%’’ is replaced with ‘‘percent’’ to improve internal consistency in paragraphs (b)(7), (b)(8)(i), (b)(10)(ii)(B), and (c)(5)(B) of Rule 15c3–1d, as amended, and in paragraphs (b)(6), (b)(7), (b)(9)(ii)(A), (c)(2), and (c)(4) of Rule 18a–1, as adopted. The headers ‘‘(i)’’ and ‘‘(ii)’’ are removed in paragraph (b)(1) of Rule 18a–1d, as adopted. The semicolon at the end of paragraph is replaced with a period in paragraph (c)(2) of Rule 15c3–1d, as amended, and paragraph (b)(5) of Rule 18a–1d, as adopted. The phrase ‘‘§ 240.18a–1 and § 240.18a– 1d’’ is replaced with ‘‘§§ 18a–1 and 18a–1d’’ in paragraphs (b)(8)(i) and (c)(1) of Rule 18a–1d, as adopted. Semicolons are added at the end of paragraphs (b)(9)(D) and (D)(1) of Rule 18a–1d, as adopted. The phrase ‘‘[C]lause (i) of paragraph (b)(8)’’ is replaced with ‘‘paragraph (b)(8)(i) of this
section’’ in paragraph (b)(9)(ii)(D) of Rule 18a–1d,
as adopted.
306See Recordkeeping and Reporting Requirements for Security-Based Swap Dealers, Major Security-Based Swap Participants, and Broker-Dealers; Capital Rule for Certain Security￾Based Swap Dealers, 79 FR at 25254. 307See Shatto Letter. 308See paragraph (c)(1)(x)(A) through (C) of Rule 18a–1, as adopted. In the final rule, the Commission replaced the phrase ‘‘broker or dealer’’ with ‘‘security-based swap dealer’’ in paragraph (c)(1)(x)(B) and the term ‘‘designated examining authority for a broker or dealer’’ with ‘‘Commission’’ in paragraph (c)(1)(x)(C). 309See Capital, Margin, and Segregation Proposing Release, 77 FR at 70256–57. 310See Barnard Letter; Sutherland Letter. 311See Sutherland Letter. meeting the minimum requirements of Rule 15c3–1. However, based on Commission staff experience and information from an SRO, very few stand-alone broker-dealers consolidate subsidiaries or affiliates to obtain the flow-through capital benefits permitted under Appendix C to Rule 15c3–1. Consequently, the Commission proposed a parallel requirement for a stand-alone SBSD to include in its net capital computation all liabilities or obligations of a subsidiary or affiliate of the stand-alone SBSD that the SBSD guarantees, endorses, or assumes either directly or indirectly, but the Commission did not propose parallel provisions permitting flow-through capital benefits.298 The Commission did not receive comments on this proposed consolidation requirement and for the reasons discussed in the proposing release is adopting it as proposed.299
iv. Appendix D
Paragraph (c)(2)(ii) of Rule 15c3–1 permits a stand-alone broker-dealer when computing net capital to exclude liabilities that are subordinated to the claims of creditors pursuant to a satisfactory subordination agreement. Excluding these liabilities has the effect of increasing the firm’s net capital.
Appendix D to Rule 15c3–1 (Rule 15c3–
1d) sets forth minimum and non￾exclusive requirements for satisfactory subordination agreements.300 There are two types of subordination agreements under Rule 15c3–1d: (1) A subordinated loan agreement, which is used when a third party lends cash to a stand-alone broker-dealer;301 and (2) a secured demand note agreement, which is a promissory note in which a third party agrees to give cash to a stand-alone broker-dealer on demand during the term of the note and provides cash or securities to the broker-dealer as collateral.302 Based on Commission staff experience, stand-alone broker-dealers infrequently utilize secured demand notes as a source of capital, and the amounts of these notes are relatively small in size. Certain of the provisions in Rule 15c3–1d are tied to the minimum net capital requirements of stand-alone broker-dealers. Consequently, the Commission proposed amendments to the rule to reflect the proposed minimum net capital requirements of broker-dealer SBSDs so that they could realize the net capital benefits of qualified subordination agreements.303 The Commission also included parallel provisions in proposed Rules 18a–1 and 18a–1d so that stand-alone SBSDs could realize the net capital benefits of qualified subordination agreements.304 However, because stand-alone broker￾dealers rarely use secured demand notes, the proposed provisions for stand-alone SBSDs did not include this option for entering into a qualified subordinated agreement. The Commission did not receive comments on the proposed amendments to Rule 15c3–1d or the proposed parallel provisions for stand-alone SBSDs and for the reasons discussed in the proposing release is adopting them with certain non-substantive modifications.305
v. Capital Charge for Unresolved
Securities Differences
Paragraph (c)(2)(v) of Rule 15c3–1 requires a stand-alone broker-dealer to take a capital charge for short securities differences that are unresolved for seven days or longer and for long securities differences where the securities have been sold before they are adequately resolved. These capital charges were inadvertently omitted from the text of Rule 18a–1 when it was proposed and, consequently, the Commission proposed to include them in the rule when proposing the recordkeeping and reporting rules for SBSDs and MSBSPs.306 The Commission received one comment, which addressed concerns regarding short sale buy-in requirements that are beyond the scope of this rulemaking.307 For the reasons discussed in the proposing release, the Commission is adopting the capital charges as proposed with minor non￾substantive changes.308
3. Capital Rules for Nonbank MSBSPs
The Commission proposed Rule 18a– 2 to establish capital requirements for nonbank MSBSPs.309 Under the proposal, nonbank MSBSPs were required at all times to have and maintain positive tangible net worth. The Commission proposed a tangible net worth standard, rather than the net liquid assets test in Rule 15c3–1, because the entities that may need to register as nonbank MSBSPs may engage in a diverse range of business activities different from, and broader than, the securities activities conducted by stand￾alone broker-dealers or SBSDs. As proposed, the term ‘‘tangible net worth’’ was defined to mean the nonbank MSBSP’s net worth as determined in accordance with GAAP, excluding goodwill and other intangible assets. Consequently, the definition of ‘‘tangible net worth’’ allowed nonbank MSBSPs to include as regulatory capital assets that would be deducted from net worth under Rule 15c3–1, such as property, plant, equipment, and unsecured receivables. At the same time, it would require the deduction of goodwill and other intangible assets. The Commission also proposed that nonbank MSBSPs must comply with Rule 15c3–4 with respect to their security-based swap and swap activities. Requiring nonbank MSBSPs to be subject to Rule 15c3–4 was intended to promote sound risk management practices with respect to the risks associated with OTC derivatives. Commenters expressed support for the Commission’s proposed requirements for nonbank MSBSPs.310 A commenter stated that the positive tangible net worth test is more appropriate than the net liquid assets test particularly for entities that have never been prudentially regulated before.311 Another commenter supported ‘‘the proposed requirement

312See Letter from Bruce E. Stern, Chairman, Association of Financial Guaranty Insurers (Feb. 15,
2013) (‘‘AFGI 2/15/2013 Letter’’). See also Letter
from Bruce E. Stern, Chairman, Association of Financial Guaranty Insurers (July 22, 2013) (‘‘AFGI 7/22/2013 Letter’’). 313See AFGI 2/15/2013 Letter. 314See Rule 18a–2, as adopted. The Commission modified paragraph (a) of the rule to provide that the tangible net worth requirement does not apply to a broker-dealer MSBSP. However, a broker-dealer MSBSP will be required to comply with Rule 15c3–
4. See paragraph (c) of Rule 18a–2, as adopted.
315See AFGI 2/15/2013 Letter (‘‘We support the proposed requirement that MSBSPs maintain a positive tangible net worth.’’). 316See paragraph (c) of Rule 18a–2, as adopted. 317See paragraph (a)(5) of Rule 15c3–1, as amended. 318See SIFMA 2/22/2013 Letter. that MSBSPs maintain a positive tangible net worth.’’ 312 However, the commenter also stated that the proposed rule ‘‘should recognize and respect state insurance regulators’ role in ensuring the capital adequacy of financial guaranty insurers, and should accordingly recognize that, in the case of a financial guaranty insurer, any positive tangible net worth requirement should be satisfied if an insurer maintains the minimum statutory capital and complies with the investment requirements under applicable insurance law.’’ 313 This commenter also stated that, to the extent that financial guaranty insurers use affiliates to write CDS that they in turn insure, and insofar as such affiliates are designated as MSBSPs, the positive tangible net worth test should refer back to the financial guaranty insurer itself, as that is the entity that the CDS counterparties look to for paying the affiliates’ obligations under the insured CDS. With respect to the Commission’s proposal that nonbank MSBSPs comply with Rule 15c3–4, the commenter stated that it recognized the need for nonbank MSBSPs to maintain strong internal risk controls, but cautioned the Commission against imposing unnecessarily burdensome, duplicative, and costly risk management controls on financial guaranty insurers. This commenter also stated that financial guaranty insurers that are determined to be MSBSPs should be able to establish compliance with Rule 15c3–4 by virtue of compliance with the New York Department of Financial Services Circular Letter No. 14, which calls for the establishment of comprehensive internal risk management controls. The Commission has considered the comments on its proposed requirements for nonbank MSBSPs and is adopting the requirements substantially as proposed.314 The requirement that nonbank MSBSPs at all times have and maintain positive tangible net worth is intended to be a less rigorous requirement than the net liquid assets test applicable to stand-alone broker￾dealers and nonbank SBSDs. It will provide a workable standard for entities that engage in a diverse range of business activities that differ from, and are broader than, the securities activities conducted by stand-alone broker-dealers or SBSDs. In response to the comment that the rule should recognize and respect existing state insurance law capital adequacy standards, the commenter supported the proposed tangible net worth requirement for nonbank MSBSPs.315 The final rule imposes a relatively simple capital standard—the requirement to maintain positive tangible net worth (i.e., positive net worth after deducting intangible assets). This should not impose a significant burden on nonbank MSBSPs, including firms that also are subject to capital
requirements under state insurance laws. If it is possible that a nonbank MSBSP’s capital position could drop below a positive tangible net worth but at the same time still comply with a state insurance law capital requirement, the Commission believes the rule’s positive tangible net worth standard should be the binding constraint with respect to the nonbank MSBSP’s activities as an MSBSP. The Commission does not believe it would be appropriate to permit a nonbank MSBSP to continue to operate as an MSBSP if it cannot meet the capital requirement of the positive tangible net worth test. In such a case, the firm’s precarious capital position would pose a significant risk to its security-based swap counterparties. In response to the comment about nonbank MSBSPs with CDS insured by an affiliate, the commenter did not identify an alternative capital standard that should apply to such nonbank MSBSPs. If the commenter was suggesting that these nonbank MSBSPs should be subject to a lesser requirement than the positive tangible net worth standard, the Commission disagrees. As discussed above, the Commission believes this standard will not impose a substantial burden on nonbank MSBSPs. Further, to the extent the affiliate insuring the CDS fails, the nonbank MSBSP will need to rely on its own financial resources. The Commission also is adopting, as proposed, the requirement that MSBSPs comply with Rule 15c3–4.316 Although a commenter cautioned the Commission against imposing unnecessarily burdensome, duplicative, and costly risk management controls on financial guaranty insurers, the Commission believes that establishing and maintaining a strong risk management control system that complies with Rule 15c3–4 is necessary for entities engaged in a security-based swaps business. Participants in the securities markets are exposed to various risks, including market, credit, leverage, liquidity, legal, and operational risk. Risk management controls promote the stability of the firm and, consequently, the stability of the marketplace. A firm that adopts and follows appropriate risk management controls reduces its risk of significant loss, which also reduces the risk of spreading the losses to other market participants or throughout the financial markets as a whole. Moreover, to the extent an entity, such as a financial guaranty insurer, complies with existing risk management requirements applicable to its business, the entity will likely have in place some, if not many, of the required risk management controls. Thus, the incremental burdens and costs associated with complying with Rule 15c3–4 should not be great.
4. OTC Derivatives Dealers
OTC derivatives dealers are limited purpose broker-dealers that are authorized to trade in OTC derivatives (including a broader range of derivatives than security-based swaps) and to use models to calculate net capital. They are required to maintain minimum tentative net capital of $100 million and minimum net capital of $20 million.317 OTC derivatives dealers also are subject to Rule 15c3–4. A commenter stated that OTC derivatives dealers will register as nonbank SBSDs in order to conduct an integrated equity derivatives business (i.e., trade in equity security-based swaps and equity OTC options).318 The commenter requested that the Commission modify its framework for OTC derivatives dealers to allow them to register as nonbank SBSDs. The commenter further stated that the Commission should permit an OTC derivatives dealer that is dually registered as a nonbank SBSD to deal in OTC options and qualifying forward contracts, subject to the rules applicable to the nonbank SBSD. The Commission agrees with the commenter that entities may seek to deal in a broader range of OTC derivatives that are securities other than dealing in just security-based swaps. In order to engage in this broader securities activity, the entity would need to register as a broker-dealer. The capital

319See paragraph (a)(5)(ii) of Rule 15c3–1, as amended; undesignated introductory paragraph to Rule 18a–1, as adopted (stating that the rule applies to stand-alone SBSDs registered as OTC derivatives dealers). 320See Capital, Margin, and Segregation Proposing Release, 77 FR at 70259. 321See OneChicago 2/19/2013 Letter. 322The CFTC and the prudential regulators incorporated the recommendations in the BCBS/ IOSCO Paper into their final margin rules for non￾cleared security-based swaps and/or swaps. See CFTC Margin Adopting Release, 81 FR 636; Prudential Regulator Margin and Capital Adopting Release, 80 FR 74840. 323See Letter from Paul Schott Stevens, President and CEO, Investment Company Institute (May 11,
2015) (‘‘ICI 5/11/2015 Letter’’).
324See MFA 2/22/2013 Letter.
325See SIFMA AMG 11/19/2018 Letter.
326See Financial Services Roundtable Letter. 327See, e.g., Letter from William J. Harrington (Nov. 19, 2018) (‘‘Harrington 11/19/2018 Letter’’); ICI 1/23/2013 Letter; ICI 11/19/2018 Letter; ISDA 1/ 23/13 Letter; Morgan Stanley 10/29/2014 Letter; PIMCO Letter; SIFMA AMG 11/19/2018 Letter. The CFTC and the prudential regulators re-proposed their margin rules after publication of the BCBS/ IOSCO Paper. See Margin Requirements for Uncleared Swaps for Swap Dealers and Major Swap Participants, 79 FR 59898 (Oct. 3, 2014); Margin and Capital Requirements for Covered Swap Entities, 79 FR 57348 (Sept. 24, 2014). As noted above, these agencies incorporated the recommendations of the BCBS/IOSCO Paper into their final margin rules. The Commission reopened the comment period for the proposed capital, margin, and segregation requirements in October 2018—well after the final recommendations of the BCBS/IOSCO Paper. In reopening the comment period, the Commission asked specific questions about potential rule language that would modify rule text in the proposed margin rule. See Capital, Margin, and Segregation Comment Reopening. 328See ISDA 2/5/2014 Letter. 329See American Council of Life Insurers 2/22/ 2013 Letter; American Council of Life Insurers 11/ 19/2018 Letter; Letter from Dan Waters, Managing Director, ICI Global (Nov. 24, 2014) (‘‘ICI Global 11/ 24/2014 Letter’’); MFA 2/22/2013 Letter; Letter from Christopher A. Klem, Leigh R. Fraser, and Molly Moore, Ropes & Gray LLP (Jan. 22, 2013) (‘‘Ropes & Gray Letter’’); SIFMA 11/19/2018 Letter. 330See SIFMA 11/19/2018 Letter. rules the Commission is adopting today address entities that will register as broker-dealer SBSDs. In response to the comments, the Commission believes it would be appropriate to also adopt final rules to address OTC derivatives dealers that will register as nonbank SBSDs. Accordingly, the final rules provide that an OTC derivatives dealer that is registered as a nonbank SBSD must comply with Rule 18a–1, as adopted, and Rules 18a–1a, 18a–1b, 18a–1c and 18a–1d instead of Rule 15c3–1 and its appendices.319 This will simplify the capital rules for such an entity by requiring the firm to comply with a single set of requirements. Moreover, the provisions of Rule 18a– 1 and related rules are similar to the provisions of Rule 15c3–1 and its appendices. For example, the minimum fixed-dollar capital requirements in both sets of rules are $100 million in tentative net capital and $20 million in net capital. Both sets of rules permit the firms to compute net capital using models. In addition, as discussed above in section II.A.2.b.v. of this release, the methodology for computing the credit risk charges in Rule 18a–1 does not include the proposed portfolio concentration charge. As a result of this modification, both sets of rules are consistent in that they do not require this charge. Stand-alone SBSDs and OTC derivatives dealers also are both subject to Rule 15c3–4. For these reasons, the Commission
believes a stand-alone SBSD should be able to efficiently incorporate its activities as an OTC derivatives dealer into its capital and risk management requirements under Rule 18a–1, as adopted. B. Margin

1. Introduction
   The Commission is adopting Rule 18a–3 pursuant to Section 15F of the Exchange Act to establish margin requirements for nonbank SBSDs and MSBSPs with respect to non-cleared security-based swaps. The Commission modeled Rule 18a–3 on the margin rules applicable to stand-alone broker-dealers (the ‘‘broker-dealer margin rules’’).320 A commenter supported the Commission’s decision to base its proposal on the existing margin rules for stand-alone broker-dealers, noting that it is critically important that the Commission maintain a level playing field for similar financial instruments.321 A number of commenters raised concerns about the Commission’s decision to model proposed Rule 18a– 3 on the broker-dealer margin rules to the extent that doing so resulted in inconsistencies with the margin rules of the CFTC and the prudential regulators as well as with the recommendations in the BCBS/IOSCO Paper.322 A commenter argued that the broker￾dealer margin rules are not consistent with the restrictions on re￾hypothecation recommended by the BCBS/IOSCO Paper.323 This commenter stated that the Commission needed to tailor its margin requirements to the realities of the security-based swap and swap markets. Another commenter appreciated that the Commission largely modeled its proposed margin rules on the broker￾dealer margin rules in an effort to promote consistency with existing rules, but suggested that the Commission more closely conform its final rules to the recommendations in the final BCBS/ IOSCO Paper to promote the comparability of margin requirements among jurisdictions.324 A second commenter noted that material differences and inconsistencies between the proposal and domestic and international standards could cause a need for separate documentation and tri-party arrangements for security-based swaps and swaps, which could lead to separate margin calls and different netting sets.325 A commenter suggested that the Commission coordinate its margin rules with the CFTC and the prudential regulators and raised a concern that the cumulative effects of multiple regulations potentially could tie up significant amounts of financial resources.326 Other commenters recommended re-proposing the margin rule after publication of the final recommendations of the BCBS/IOSCO Paper, as well as coordinating and harmonizing with the margin rules of the CFTC and other foreign and domestic regulators.327 A commenter argued that inconsistent rules potentially could be incompatible in practice and that international adoption of the recommended standards in the BCBS/IOSCO Paper will prevent regulatory arbitrage and lead to a more level playing field between competitors in different jurisdictions.328 Other commenters argued that the Commission should more closely align its margin requirements to the recommended standards in the BCBS/ IOSCO Paper to promote more comparable margin requirements across jurisdictions.329 One commenter argued that several components of the proposed
   margin rules differ from the recommended framework in the BCBS/ IOSCO Paper and would generally make nonbank SBSDs uncompetitive with bank SBSDs and foreign SBSDs.330 The commenter argued that the Commission could best address these differences by permitting OTC derivatives dealers and stand-alone SBSDs to collect and maintain margin in a manner consistent with the recommendations in the BCBS/ IOSCO Paper.
   Section 15F(e)(3)(D) of the Exchange
   Act requires that, to the maximum extent practicable, the Commission, the CFTC, and the prudential regulators shall establish and maintain comparable minimum initial and variation margin requirements for SBSDs and MSBSPs. In response to the comments above, the Commission has modified the proposal to more closely align the final rule with the margin rules of the CFTC and the prudential regulators and, in doing so,

331 Information about ISDA’s SIMMTM model is available at https://www.isda.org/category/margin/ isda-simm/. 332See Section VI of this release (discussing benefits and costs of the final margin requirements). 333Furthermore, although Rule 18a–3 does not mandate that SBSDs deliver initial margin to their counterparties (or to deliver or collect initial margin from financial market intermediaries) as the CFTC’s margin rules do, nothing in Rule 18a–3 prohibits nonbank SBSDs from delivering initial margin to these counterparties or collecting initial margin from or posting initial margin to financial market intermediaries. In addition, as above in section II.A.2.b.i. of this release, the Commission is providing guidance that would permit nonbank SBSDs to post initial margin to counterparties without taking a capital charge pursuant to certain conditions. 334See paragraph (c)(4) of Rule 18a–3, as adopted (providing that a nonbank SBSD or MSBSP may take into account the fair market value of collateral delivered by a counterparty, provided the collateral is subject to an agreement between the SBSD or the MSBSP and the counterparty that is legally enforceable by the SBSD or MSBSP against the counterparty and any other parties to the agreement); paragraph (c)(5) of Rule 18a–3, as adopted (prescribing requirements for qualified netting agreements). 335See 17 CFR 23.159 (CFTC rule requiring that margin documentation: (1) Specify the methods, procedures, rules, inputs, and data sources to be used for determining the value of non-cleared swaps for purposes of calculating variation margin; (2) describe the methods, procedures, rules, inputs, and data sources to be used to calculate initial margin for non-cleared swaps entered into between the covered swap entity and the counterparty; and (3) specify the procedures by which any disputes concerning the valuation of non-cleared swaps, or the valuation of assets collected or posted as initial margin or variation margin may be resolved); see also CFTC Margin Adopting Release, 81 FR at 672– 73, 702–3; Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74886–87, 74908–909. 336See Capital, Margin, and Segregation Proposing Release, 77 FR at 70260–62. the recommendations in the IOSCO/ BCBS Paper. As discussed in more detail below, these modifications to harmonize the final rule include:

• An extra day to collect margin in
  the event a counterparty is located in a different country and more than 4 time zones away;
• A requirement that SBSDs post
  variation margin to most counterparties;
• An exception pursuant to which a
  nonbank SBSD need not collect initial margin to the extent that the initial margin amount when aggregated with other security-based swap and swap exposures of the nonbank SBSD and its affiliates to the counterparty and its affiliates does not exceed a fixed-dollar $50 million threshold;
• An exception pursuant to which a
  nonbank SBSD need not collect initial margin from a counterparty that is an affiliate of the nonbank SBSD;
• An exception pursuant to which a
  nonbank SBSD need not collect variation or initial margin from a counterparty that is the BIS, the European Stability Mechanism, or certain multilateral development banks;
• An exception pursuant to which a
  nonbank SBSD need not collect initial margin from a counterparty that is a sovereign entity with minimal credit risk;
• An option for nonbank SBSDs to
  use models to calculate initial margin that are different from the models they use to calculate capital charges;
• An option for nonbank SBSDs to
  use models developed by third parties (which will permit the use of an industry standard model such as ISDA’s SIMMTM model); 331
• An option for stand-alone SBSDs to
  use a model to calculate initial margin for equity security-based swaps subject to certain conditions;
• An option for nonbank SBSDs to
  collect and deliver collateral that is eligible under the CFTC’s margin rules; and
• An option for nonbank SBSDs to
  use the standardized haircuts prescribed in the CFTC’s margin rule to determine deductions for collateral received or delivered as margin. While differences remain, the Commission believes the final nonbank SBSD margin rule for non-cleared security-based swaps is largely comparable to the margin rules of the CFTC and the prudential regulators. The main differences are that the Commission’s rule:
• Does not require (but permits)
  nonbank SBSDs to collect initial margin from counterparties that are financial market intermediaries such as SBSDs, swap dealers, FCMs, and domestic and foreign broker-dealers and banks;
• Does not require (but permits)
  nonbank SBSDs to post initial margin to a counterparty;
• Does not contain the exceptions
  from the requirement to collect margin for counterparties such as financial end users that do not have material exposures to security-based swaps and swaps; and
• Does not require (but permits)
  initial margin to be held at a third-party custodian. These differences between the Commission’s final rule and the margin rules of the CFTC and the prudential regulators reflect the Commission’s judgment of how ‘‘to help ensure the safety and soundness’’ of nonbank SBSDs and MSBSPs as required by
  Section 15F(e)(3)(i) of the Exchange Act.
  The Commission has sought to strike an appropriate balance between addressing the concerns of commenters and promulgating a final margin rule that promotes the safety and soundness of nonbank SBSDs.332 For these reasons, the Commission is adopting a final rule—Rule 18a–3—that is modeled on the broker-dealer margin rule but with the significant modifications noted above. These modifications further harmonize the rule with the final margin rules of the CFTC and the prudential regulators. In particular, and as discussed in more detail below, these changes are intended, in part, to permit firms that are registered as SBSDs and swap dealers to collect initial margin and collect and deliver variation margin in a manner consistent with current practices under the CFTC’s margin rules, which should in turn reduce operational burdens that would arise due to differences in these requirements.333 Moreover, while paragraphs (c)(4) and (5) of Rule 18a–3, as adopted, respectively require netting and collateral agreements to be in place,334 the rule does not impose a specific margin documentation requirement as do the margin rules of the CFTC and the prudential regulators.335 Consequently, an existing netting or collateral agreement with a counterparty that was entered into by the nonbank SBSD in order to comply with the margin documentation requirements of the CFTC or the prudential regulators will suffice for the purposes of Rule 18a–3, as adopted, if the agreement meets the requirements of paragraph (c)(4) or (5), as applicable.

2. Margin Requirements for Nonbank
   SBSDs and Nonbank MSBSPs a. Daily Calculations
   i. Nonbank SBSDs
   Proposed Rule 18a–3 required a nonbank SBSD to perform two calculations for the account of each counterparty: (1) The amount of equity in the account (variation margin); and (2) the initial margin amount for the account.336 The term ‘‘equity’’ was defined to mean the total current fair market value of securities positions in an account of a counterparty (excluding the time value of an over-the-counter option), plus any credit balance and less any debit balance in the account after applying a qualifying netting agreement with respect to gross derivatives payables and receivables meeting the requirements of the rule. As indicated by the definition, the Commission proposed that the nonbank SBSD could offset payables and receivables relating to derivatives in the account by applying a qualifying netting agreement with the counterparty. Proposed Rule 18a–3 set forth the requirements for a netting agreement to qualify for this treatment. The equity in the account was the amount that resulted after

337See 77 FR at 70261.
338 In the 2018 comment reopening, the Commission also sought comment on whether the margin rule should permit nonbank SBSDs to apply to use models other than proprietary capital models to compute initial margin, including applying to use an industry standard model. Capital, Margin, and Segregation Comment Reopening, 83 FR at 53013. 339See Capital, Margin, and Segregation Proposing Release, 77 FR at 70260. 340See SIFMA 2/22/13 Letter. 341See Letter from Kevin Gould, President, Markit (Feb. 22, 2013) (‘‘Markit Letter’’). 342See paragraph (c)(1)(i)(A) of Rule 18a–3, as adopted. 343See paragraph (c)(1)(i)(A) of Rule 18a–3, as adopted. The Commission also proposed to define the term ‘‘positive equity’’ to mean equity of greater than $0 and ‘‘negative equity’’ to mean equity of less than $0. The Commission received no comments on these proposed definitions. However, the Commission is deleting them in the final rule because the term equity is no longer being defined. In addition, paragraph (b)(1) of proposed Rule 18a– 3 defined the term ‘‘account’’ for purposes of the daily calculations of variation and initial margin to mean an account carried by a nonbank SBSD or MSBSP for a counterparty that holds non-cleared security-based swaps. The Commission did not receive any comments on this definition. However, the Commission is modifying the definition to move the clause ‘‘for a counterparty’’ to the end of the definition to clarify that the nonbank SBSD holds non-cleared security-based swaps for a counterparty, and to add the term ‘‘one or more’’ before the phrase ‘‘non-cleared security-based swaps.’’ Furthermore, paragraph (b)(3) of proposed Rule 18a–3 defined the term ‘‘counterparty’’ to mean a person with whom the nonbank SBSD or MSBSP has entered into a non-cleared security￾based swap transaction. The Commission received no comments on this definition and is adopting it as proposed. 344See ISDA 1/23/2013 Letter; Markit Letter. 345See ISDA 1/23/2013 Letter. marking-to-market the securities positions and adding the credit balance or subtracting the debit balance (including giving effect to qualifying netting agreements). An account with negative equity was subject to a variation margin requirement unless an exception from collecting collateral to cover the negative equity (i.e., the nonbank SBSD’s current exposure) applied. The proposed rule set forth a standardized and a model-based approach for calculating initial margin.337 The rule divided security￾based swaps into two classes for purposes of the standardized approach:
(1) CDS; and (2) all other security-based swaps. In both cases, the initial margin amount was to be calculated using the standardized haircuts in the proposed capital rules for nonbank SBSDs. Proposed Rule 18a–3 provided that, if the nonbank SBSD was authorized to use model-based haircuts, the firm could use them to calculate initial margin for security-based swaps for which the firm had been approved to apply such haircuts.338 However, model-based haircuts could not be used to calculate initial margin for equity security-based swaps. Initial margin for equity security-based swaps needed to be calculated using standardized haircuts in order to be consistent with SRO margin rules for cash equity positions. Consequently, a nonbank SBSD authorized to use model-based haircuts for certain types of debt security-based swaps could use these haircuts to calculate initial margin for the same types of positions. For all other positions, a nonbank SBSD needed to use the standardized haircuts. Nonbank SBSDs not authorized to use model￾based haircuts needed to use the standardized haircuts to calculate initial margin for all types of positions. Finally, proposed Rule 18a–3 required a nonbank SBSD to increase the frequency of the variation and initial margin calculations (i.e., perform intra￾day calculations) during periods of extreme volatility and for accounts with concentrated positions.339 Comments and Final Requirements To Calculate Variation Margin A commenter sought clarification as to whether the mark-to-market value of security-based swap positions would only be counted in the definition of ‘‘equity’’ as part of the credit balance or the debit balance, as appropriate.340 This commenter believed the absence of credit and debit balance definitions created a potential issue that the mark￾to-market value of non-cleared security￾based swap positions would be double counted in the calculation of the equity in a counterparty’s account. In response, a nonbank SBSD should only include the mark-to-market value of a security￾based swap once when calculating equity in determining the variation margin requirement. Another commenter stated that counterparties should be permitted to reference third parties for dispute resolution, valuations, and inputs in relation to their account equity variation margin calculations.341 In response, the Commission agrees that price and valuation information from third parties can be useful in validating the nonbank SBSD’s variation margin calculations and in the dispute resolution process. The Commission is adopting the requirement to calculate variation margin for the account of a counterparty on a daily basis, with certain non￾substantive modifications to the rule, in response to comments and to use terms that are more commonly used in the security-based swap market.342 In the final rule, the Commission has deleted the term ‘‘equity’’ and the definitions of ‘‘positive equity’’ and ‘‘negative equity’’ and has included the phrase
‘‘current exposure’’ without defining it.343 The phrase ‘‘current exposure’’ is used more commonly in the non-cleared security￾based swap market when describing uncollateralized mark-to-market gains or losses. Comments and Final Requirements To Calculate Initial Margin Using the Standardized Approach Commenters argued that the standardized approach to calculating initial margin was too conservative and not sufficiently risk sensitive.344 A commenter stated that the standardized approach would result in excessive margin requirements because the standardized haircuts in the capital rules were applied to gross notional amounts and only permitted limited netting.345 This commenter also argued that it was unclear how the proposed grids applied to more complex products. In response to these concerns, nonbank SBSDs may seek authorization to calculate initial margin using the model-based approach. Based on staff experience and the ongoing implementation of margin rules for non￾cleared security-based swaps and swaps by other regulators and market participants, the Commission believes that most nonbank SBSDs will seek authorization to use a model. The availability of an initial margin model and the widespread use of initial margin models by industry participants should alleviate commenters’ concerns that using standardized haircuts to calculate initial margin will lead to excessive initial margin requirements. While the Commission agrees that standardized haircuts likely will lead to more conservative requirements in contrast to the model-based initial margin calculations, the Commission does not believe these requirements will be excessive. The standardized haircuts have been used by stand-alone broker￾dealers for many years. Moreover, as discussed below, the Commission is modifying the proposal to add a threshold under which initial margin need not be collected. This should mitigate the concern raised by the commenter with regard to using the standardized haircuts to calculate initial margin. Finally, the ability to use the simpler standardized haircuts for initial margin calculations may be preferable for nonbank SBSDs that occasionally trade in non-cleared security-based swaps but not in a substantial enough

346See ISDA 1/23/2013 Letter; SIFMA 2/22/2013 Letter; SIFMA 11/19/2018 Letter. 347See ISDA 1/23/2013 Letter. 348See SIFMA 2/22/2013 Letter. 349See Center for Capital Markets Competitiveness, Chamber of Commerce 11/19/ 2018 Letter; Letter from Scott O’Malia, Chief Executive Officer, International Swaps and Derivatives Association (Nov. 19, 2018) (‘‘ISDA 11/ 19/2018’’); OneChicago 11/19/2018 Letter; SIFMA AMG 2/22/2013 Letter; SIFMA 11/19/2018 Letter. One commenter suggested that the Commission permit stand-alone SBSDs and SBSDs dually￾registered as OTC derivatives dealers to calculate initial margin for equity security-based swaps using an industry standard model such as SIMMTM. See SIFMA 11/19/2018 Letter. 350See FINRA Rule 4210(g). 351See paragraph (d)(1) of Rule 18a–3, as adopted. In the final rule, the Commission replaced the term ‘‘margin’’ with the term ‘‘initial margin amount’’ and replaced the phrase ‘‘of positive equity in an account of a counterparty’’ with the phrase ‘‘calculated pursuant to paragraph (d) of this
section.’’ See paragraph (b)(4) of Rule 18a–3, as
adopted. These are non-substantive changes to conform the rule text to changes made to other paragraphs of the final rule. In addition, in the final rule the Commission deleted the phrase ‘‘calculated pursuant to paragraph (d)(2) of this section’’ from paragraph (c)(1)(i)(B) of the rule, because the phrase, as modified, was moved to paragraph (b)(4) of the rule to define the term ‘‘initial margin amount.’’ 352See paragraph (d)(2)(ii) of Rule 18a–3, as adopted. See also Capital, Margin, and Segregation Comment Reopening, 83 FR at 53015–16. In the reopening, the potential modifications to the rule contained the phrase ‘‘provided, however, the account of the counterparty subject to the requirements of this paragraph may not hold equity securities or listed options.’’ 83 FR at 53016. The final rule contains the phrase ‘‘provided, however, the account of the counterparty subject to the requirements of this paragraph may not hold equity security positions other than equity security-based swaps and equity swaps.’’ The final rule clarifies that the account of a counterparty utilizing this paragraph may not hold equity security positions other than equity security-based swaps and equity swaps. 353See, e.g., Order Granting Conditional Exemption Under the Securities Exchange Act of 1934 in Connection with Portfolio Margining of Swaps and Security-Based Swaps, 77 FR 75211. 354See Americans for Financial Reform Letter. 355See Better Markets 1/22/2013 Letter; Better Markets 7/22/2013 Letter. volume to justify the initial and ongoing systems and personnel costs that may be associated with the implementation and operation of an initial margin model. Commenters argued that nonbank SBSDs should be permitted to use approaches other than the standardized approach to calculate initial margin for equity security-based swaps.346 One commenter stated that the standardized haircuts in the capital rules that would be used to calculate initial margin for equity security-based swaps—including the more risk sensitive standardized haircut approach in Rule 15c3–1a and proposed Rule 18a–1a (‘‘Appendix A methodology’’)—are inadequate and inefficient for a proper initial margin calculation and do not sufficiently recognize portfolio margining. This commenter argued that the Appendix A methodology does not incorporate critical factors such as volatility, and, as a result, initial margin on equity security-based swaps would likely be insufficient in times of market stress (in contrast to a model-based approach). Finally, this commenter stated that requiring the Appendix A methodology for non-cleared equity security-based swaps would place U.S.-based nonbank SBSDs at a competitive disadvantage in the market because no other jurisdiction (or other U.S. regulator) has proposed to prohibit the use of models for specific asset classes.347 Another commenter similarly raised concerns that applying the Appendix A methodology (as compared to a model) would result in initial margin
requirements that are substantially less sensitive to the economic risks of a security-based swap portfolio, and suggested that the Commission permit a nonbank SBSD to use a model to calculate initial margin for equity security-based swaps.348 Several other commenters endorsed the use of models to compute initial margin for equity security-based swaps.349 The Commission continues to believe it is important to maintain parity between the margin requirements in the cash equity markets and the margin requirements for equity security-based swaps. The only method currently available to portfolio margin positions in the cash equity markets is the
Appendix A methodology.350
Consequently, the Commission is adopting the requirement to use the standardized approach to calculate initial margin for non-cleared equity security-based swaps, but with a modification to address commenters’ concerns.351 In particular, the Commission is modifying the margin rule to permit a stand-alone SBSD to use a model to calculate initial margin for non-cleared equity security-based swaps, provided the account does not hold equity security positions other than equity security-based swaps and equity swaps (e.g., the account cannot hold long and short positions, options, or single stock futures).352 The Commission believes permitting the model-based approach under these limited circumstances strikes an appropriate balance in terms of addressing commenters’ concerns and maintaining regulatory parity between the cash equity market and the equity security-based swap market. Moreover, a nonbank stand-alone SBSD could seek authorization to use a model to portfolio margin equity security-based swaps with equity swaps. Similarly, as discussed above in relation to the standardized haircuts, the Commission modified the Appendix A methodology from the proposal to permit equity swaps to be included in a portfolio of equity products. The ability to use the model-based approach for equity security-based swaps (and potentially equity swaps) and the modification to the Appendix A methodology will facilitate portfolio margining of equity security-based swaps and equity swaps, though the Commission and the CFTC will need to coordinate further to implement this type of portfolio margining.353 Comments and Final Requirements To Calculate Initial Margin Using the Model-Based Approach Comments addressing the model￾based approach to calculating initial margin generally fell into one of two broad categories: (1) Comments raising concerns about the risks of using models; and (2) comments supporting the use of models but suggesting modifications to the proposal or seeking clarifications as to how the proposal would work in practice. In terms of concerns about the risks of models, one commenter argued that using models for capital and margin calculations likely will make capital and margin more pro-cyclical because market data used in the models will show less risk during strong periods of the economic cycle and more risk during downturns.354 This commenter recommended, among other things, that if internal models continue to be used, they should be ‘‘floored’’ at the level set by standardized approaches (e.g., those used in bank capital regimes), and that the Commission should continue with a review of the implications of the use of internal models. Another commenter stated that netting derivatives exposures (a component of model-based initial margin calculations) when calculating potential losses is an unsound risk management practice.355 According to the commenter, even if two positions appear to offset one another, liquidity conditions, replacement costs, and
counterparty credit risk may vary considerably. The Commission acknowledges the concerns expressed by commenters about the efficacy of models, particularly in times of market stress. The Commission nonetheless believes it is appropriate to permit firms to employ a model to calculate initial margin. The Commission’s supervision of the firms’ use of models as well as the conditions that will be imposed governing their use will provide checks that are designed to address the risks identified by the

356See Center for Capital Markets Competitiveness, Chamber of Commerce 11/19/ 2018 Letter; ISDA 11/19/2018 Letter; MFA/AIMA 11/19/2018 Letter; SIFMA 11/19/2018 Letter. 357See Markit Letter. 358See SIFMA 3/12/2014 Letter; SIFMA 11/19/ 2018 Letter. 359See Center for Capital Markets Competitiveness, Chamber of Commerce 11/19/ 2018 Letter; MFA/AIMA 11/19/2018 Letter; SIFMA 11/19/2018 Letter. 360See Sutherland Letter. 361See MFA 2/22/2013 Letter; MFA/AIMA 11/19/ 2018 Letter; Letter from Timothy W. Cameron, Managing Director, and Matthew J. Nevins, Managing Director and Associate General Counsel, Securities Industry and Financial Markets Association Asset Management Group (Feb. 22,
2013) (‘‘SIFMA AMG 2/22/2013 Letter’’).
362See CFA Institute Letter.
363See Americans for Financial Reform Letter. 364See Letter from Mary P. Johannes, Senior Director and Head of ISDA WGMR Initiative, International Swaps and Derivatives Association (May 15, 2015) (‘‘ISDA 5/15/2015 Letter’’). 365See, e.g., AIMA 2/22/2013 Letter; Letter from American Benefits Council, Committee on Investment of Employee Benefit Assets, European Federation for Retirement Provision, the European Association of Paritarian Institutions, the National Coordinating Committee for Multiemployer Plans, and the Pension Investment Association of Canada (Jan. 29, 2013) (‘‘American Benefits Council, et al. 1/29/2013 Letter’’); ISDA 2/5/2014 Letter; MFA 2/ 22/2013 Letter; Ropes & Gray Letter; SIFMA 2/22/ 2013 Letter. 366See Letter from Kenneth E. Bentsen, Jr., President and Chief Executive Officer, Securities Industry and Financial Markets Association (Mar. 12, 2014) (‘‘SIFMA 3/12/2014 Letter’’). 367See ISDA 2/5/2014 Letter. 368See SIFMA 3/12/14 Letter. 369See FIA 11/19/2018 Letter; MFA/AIMA 11/19/ 20178 Letter; OneChicago 11/19/2018 Letter; SIFMA 11/19/2018 Letter. 370See Capital, Margin, and Segregation Comment Reopening, 83 FR at 53014–16. See also Center for Capital Markets Competitiveness, Chamber of Commerce 11/19/2018 Letter; ICI 11/ 19/2018 Letter; ISDA 11/19/2018 Letter; SIFMA 11/ 19/2018 Letter. 371See Financial Services Roundtable Letter. 372See Citigroup 4/24/2018 Meeting; IIB/SIFMA Letter. 373See IIB/SIFMA Letter; see also CFTC Letter 16–71 (Aug. 23, 2016). commenters, such as the potential for firms to manipulate their collateral needs. In addition, the CFTC, the prudential regulators, and foreign financial regulators permit the use of internal models to calculate initial margin. Permitting nonbank SBSDs to use models for this purpose will further harmonize the Commission’s margin rule with the rules of domestic and foreign regulators and, therefore, minimize potential competitive impacts of imposing different requirements. Commenters supporting the use of models commented on the proposed requirement that the initial margin model needed to be the same model used by the nonbank SBSD to calculate haircuts for purposes of the proposed capital rules. These commenters supported the Commission’s potential modification to permit nonbank SBSDs to use models other than proprietary capital models to compute initial margin, including an industry standard model.356 A commenter stated that the rule should provide a nonbank SBSD with the option to choose between internal and third-party models to avoid an uneven playing field among counterparties, noting that not all entities have sufficient resources to develop internal models.357 This commenter argued that permitting a nonbank SBSD to use a third-party model would reduce the time and resources needed for the Commission to authorize the use of the model. A second commenter requested that nonbank SBSDs be permitted to use an industry standard model to compute initial margin and argued that such a
model would result in efficiency, transparency, and consistency in the marketplace.358 Other commenters generally supported the use of an industry standard model to compute initial margin.359 Making a similar point about the benefits of model transparency, a commenter suggested that internal models should be available to counterparties upon request.360 Similarly, commenters suggested that the ability of a counterparty to replicate a firm’s initial margin model should be a condition of the Commission’s approval of the model, or that the calculation of initial margin should be independently verifiable.361 A commenter argued that external models, in some cases, are preferable to internal models because there is less potential for firms to manipulate their collateral needs.362 The commenter also supported the use of pre-approved clearing agency and DCO models as one input in the calculation of initial margin for non-cleared positions, but cautioned that additional inputs should be required. The commenter opposed the use of vendor-supplied models for the calculation of margin due to concerns that vendors may develop models that would help firms minimize required margin. Commenters also addressed the potential offsets that could be permitted with respect to the model-based initial margin calculations. A commenter argued that netting should be limited to exactly offsetting positions and that positions that are potentially correlated due to, for example, long and short positions in the same broad industry should not be permitted to be offset.363 On the other hand, another commenter requested that counterparties be permitted to use a broader product set to calculate initial margin than the set required by each counterparty’s applicable regulation.364 The commenter stated that this broader product set potentially could include a wide set of bilaterally traded products, even if such products are not swaps or derivatives. Other commenters asked the Commission to clarify whether cleared and non-cleared security-based swaps could be offset.365 A commenter stated that if U.S. registrants must structure their activities so as to margin non-centrally cleared security-based swaps and swaps separately from other non-centrally cleared derivatives, they would be at a significant competitive disadvantage to foreign competitors.366 Another commenter encouraged the Commission to consider allowing participants to calculate the risk of positions within broad asset classes and then sum the risk calculations for each asset class.367 A commenter also stated that it is essential that national supervisors provide consistent and more comprehensive guidance regarding model inputs (including baseline stress scenarios) and the adjustment of model inputs.368 Commenters supported the cross-margining of security-based swaps with other products under a single cross-product netting agreement, as well as the portfolio margining of cleared security-based swaps and swaps.369 Commenters
also requested that the Commission facilitate portfolio margining.370 A commenter supported the Commission’s proposal to allow portfolio margining between cash market securities and security-based swaps, and encouraged the Commission to work with other regulators to make such an approach as expansive as possible.371 Other commenters encouraged the Commission to permit a nonbank SBSD (including a broker￾dealer SBSD) to portfolio margin non￾cleared security-based swaps with non￾cleared swaps in accordance with the CFTC’s margin and segregation rules, subject to appropriate conditions (including appropriately calibrated capital charges and waiver of customer protection rules).372 Another commenter argued that the CFTC, in turn, should expand its existing relief allowing a swap dealer to collect and post margin on a portfolio basis for swaps and security-based swaps under the CFTC’s margin rules by reciprocally allowing a dually registered swap dealer and nonbank SBSD to portfolio margin security-based swaps and swaps under the Commission’s margin rules.373 One commenter suggested that the Commission clarify that the portfolio margining of cleared and non-cleared

374See MFA/AIMA 11/19/2018 Letter.
375See IIB11/19/2018 Letter; ISDA 1/23/2013 Letter; SIFMA 3/12/2014 Letter. 376See ISDA 1/23/2013 Letter. 377See Americans for Financial Reform Education Fund Letter; Better Markets 11/19/2018 Letter; Rutkowski 11/20/2018 Letter. Another commenter opposed the portfolio margining of swaps with flip clauses, walkaway clauses, or similar provisions. See Harrington 11/19/2018 Letter. 378See paragraph (d)(2) of Rule 18a–3, as adopted. See Capital, Margin, and Segregation Comment Reopening, 83 FR at 53012–13 (soliciting comment on potential rule language that would modify the proposal in this manner). 379See Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74876; CFTC Margin Adopting Release, 81 FR at 654. 380See, e.g., Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74849–74851; CFTC Margin Adopting Release, 81 FR at 674–677. Variation margin requirements have been implemented pursuant to these rules, while initial margin requirements are being phased in through September 1, 2020. 381See, e.g., ISDA, ISDA SIMMTM Deployed Today; New Industry Standard for Calculating Initial Margin Widely Adopted by Market Participants (Sept. 1, 2016), available at https:// www.isda.org/2016/09/01/isda-simm-deployed￾today-new-industry-standard-for-calculating-initial￾margin-widely-adopted-by-market-participants/. 382See paragraph (d)(2) of Rule 18a–3, as adopted. This approach is consistent with the final margin rules of the CFTC and the prudential regulators. See Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74906; CFTC Margin Adopting Release, 81 FR at 699. 383See American Benefits Council, et al. 1/29/ 2013 Letter; MFA 2/22/2013 Letter; PIMCO Letter; SIFMA AMG 2/22/2013 Letter. 384See American Benefits Council, et al. 1/29/ 2013 Letter. 385See MFA 2/22/2013 Letter; MFA/AIMA 11/19/ 2018 Letter. 386See paragraph (d)(2) of Rule 18a–3, as adopted. security-based swaps and swaps should be permitted and encouraged the Commission to coordinate with the CFTC to determine appropriate conditions for enhanced portfolio margining.374 To expedite the approval process, some commenters suggested that the Commission permit the use of initial margin models approved by other domestic and foreign regulators, or a model already approved for a firm’s parent company.375 One commenter suggested that the Commission provisionally approve proprietary models used by nonbank SBSDs when the margin rules first become effective subject to further Commission review.376 The commenter argued that such a process would prevent those firms whose models were reviewed earlier from having an unfair market advantage over those firms that are positioned later in the Commission’s review schedule. Other commenters argued that the Commission should restrict the use of portfolio margining to ensure greater security for market participants, or stated that the Commission did not provide an explanation as to how the Commission would oversee portfolio margin
models.377 In response to comments, the Commission made the following modifications to the proposed model￾based approach to calculating initial margin: (1) Nonbank SBSDs may use a model other than their capital model; (2) the final rule provides more clarity as to the offsets permitted of an initial margin model; (3) the final rule permits stand￾alone SBSDs to use a model to portfolio margin equity security-based swaps and will permit these entities to include equity swaps in the portfolio, subject to further coordination with the CFTC; and (4) as discussed above in section II.A.2.b.iv. of this release, the final capital rule provides that the Commission may approve the temporary use of a provisional model by a nonbank SBSD for the purposes of calculating initial margin if the model had been approved by certain other supervisors. As indicated, the final rule does not limit a nonbank SBSD to using its capital model to calculate initial margin.378 For example, after the Commission proposed Rule 18a–3, the CFTC and the prudential regulators adopted final margin rules permitting the use of a model to calculate initial margin subject to the approval of the CFTC or a firm’s prudential regulator.379 The first compliance date for these rules for both variation and initial margin was September 1, 2016 for the largest firms.380 The Commission understands that the firms subject to these final rules have widely adopted the use of an industry standard model to compute initial margin.381 Based on these developments, the Commission believes that most nonbank SBSDs likely will apply to the Commission to use the industry standard model to compute initial margin. The final rule permits the use of such a model, subject to approval by the Commission. The Commission believes that the ability to use an initial margin model (other than the firm’s capital model)— including the industry standard model that has been widely adopted by market participants—will mitigate many of the concerns raised by commenters. Counterparties will be better able to replicate the initial margin calculations of the nonbank SBSDs with whom they transact. Giving counterparties the ability to meaningfully estimate potential future initial margin calls will allow them to prepare for contingencies and minimize the risk of their failure to meet a margin call. This increased transparency will benefit the nonbank SBSD and the counterparty. Consequently, widespread use of an industry standard model to calculate initial margin may increase transparency and decrease margin disputes. This should mitigate commenters’ concerns regarding the transparency of a nonbank SBSD’s proprietary model used to calculate initial margin, as the Commission believes that most nonbank SBSDs likely will apply to the Commission to use the industry standard model to compute initial margin. The Commission acknowledges that some nonbank SBSDs may choose to use models other than the industry standard model. However, the
anticipated widespread use of the industry standard model will provide counterparties with the option of taking their business to nonbank SBSDs that use this model to the extent they are concerned about a lack of transparency with respect to other models used by nonbank SBSDs. Moreover, this could incentivize firms that use other models to make them more transparent to market participants. The final rule also provides that the initial margin model must use a 99%, one-tailed confidence level with price changes equivalent to a 10 business-day movement in rates and prices, and must use risk factors sufficient to cover all the material price risks inherent in the positions for which the initial margin amount is being calculated, including foreign exchange or interest rate risk, credit risk, equity risk, and commodity risk, as appropriate.382 Several commenters opposed a 10 business-day movement in rates and prices as part of the quantitative requirements for using a model and recommended that the Commission reduce the close-out period to 3 or 5 days.383 One of these commenters argued that a 10-day period substantially overstates the risk of many non-cleared security-based swaps and will create unnecessarily high initial margin requirements.384 Other commenters recommended that the Commission establish a more flexible, risk-specific approach to determine and adjust the appropriate liquidation time horizon by product type or asset class.385 The Commission believes the prudent approach is to retain the proposed 10 business-day period in the final requirements governing the use of models to calculate initial margin.386 The 10-day standard has been part of the quantitative requirements for broker￾dealers in calculating model-based haircuts under the net capital rule since

387See Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74875; CFTC Margin Adopting Release, 81 FR at 653. See also BCBS/ IOSCO Paper at 12. 388See paragraph (d)(2) of Rule 18a–3, as adopted. Although the final rule uses the term ‘‘risk factors,’’ the approach of assigning each non-cleared security-based swap to a specific risk factor category is sometimes referred to by market participants as the ‘‘asset class approach.’’ 389However, the clearing agency’s margin requirement for the cleared security-based swaps in a portfolio likely will permit offsets only for positions it clears. 390See Section 15F(e)(3)(A) of the Exchange Act. 391See Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74876 (‘‘Each derivative contract must be assigned to a single asset class in accordance with the classifications in the final rule (i.e., foreign exchange or interest rate, commodity, credit, and equity)’’); CFTC Margin Adopting Release, 81 FR at 657–58 (‘‘The final rule does not permit an initial margin model to reflect offsetting exposures, diversification, or other hedging benefits across broad risk categories. Hence, the margin calculations for derivatives in distinct product￾based asset classes, such as equity and credit, must be performed separately without regard to derivatives contracts in other asset classes. Each derivatives contract must be assigned to a single asset class. . .’’). See also BCBS/IOSCO Paper at 12–13. 392See paragraph (d)(2) of Rule 18a–3, as adopted. 393See MFA 2/22/2013 Letter. 394See AIMA 2/22/2013 Letter; MFA 2/22/2013 Letter. 395See MFA 2/22/2013 Letter. 396See Sutherland Letter. 397See ICI 11/19/2018 Letter. 398Specifically, the Commission has modified paragraph (c)(5) in the final rule to delete the ‘‘(A)’’ from the reference to paragraph (c)(1)(i)(A) (as a result, paragraph (c)(5), governing the use of netting agreements, now refers to the variation and initiation margin calculations as opposed to just the variation margin calculation). the rule permitted the use of models. The Commission does not believe it would be appropriate to have a less conservative standard for calculating initial margin (which is designed to account for the risk of the counterparty’s positions) than for calculating model￾based haircuts under Rule 15c3–1e, as amended, and Rule 18a–1, as adopted (which is designed to account for the risk of the nonbank SBSD’s own positions). Further, the Commission does not believe that a period of less than 10 business days—such as the 3 to 5 business-day period typically used by clearing agencies and DCOs—would be appropriate given that non-cleared security-based swaps may be, in some cases, less liquid than cleared security￾based swaps in terms of how long it would take to close them out. Moreover, the initial margin model requirements of the CFTC and the prudential regulators mandate a 10-day standard and, therefore, the Commission’s rule is harmonized with their rules.387 The final
rule provides more clarity as to the offsets permitted in calculating initial margin using a model. In particular, it provides that an initial margin model must use risk factors sufficient to cover all the material price risks inherent in the positions for which the initial margin is being calculated, including foreign exchange or interest rate risk, credit risk, equity risk, and commodity risk, as appropriate.388 The final rule also provides that empirical correlations may be recognized by the model within each broad risk category, but not across broad risk categories. This means that each non-cleared security-based swap and related position must be assigned to a single risk category for purposes of calculating initial margin. Thus, the initial margin calculation can offset cleared and non￾cleared security-based swaps (in answer to the question raised by some commenters) to the extent they are within the same asset class.389 The presence of any common risks or risk factors across asset classes (e.g., credit, commodity, and interest rate risks) cannot be recognized for initial margin purposes. This approach is designed to help ensure a conservative and robust margin regime that potentially reduces counterparty exposures to offset the greater risk to the nonbank SBSD and the financial system arising from the use of non-cleared security-based swaps.390 Margin calculations that limit correlations to asset classes generally will result in more conservative initial margin amounts than calculations that permit offsets across different asset classes. Finally, this approach is consistent with the final margin rules adopted by the CFTC and the prudential regulators, and with the industry standard model being used today to comply with the margin rules of the CFTC and the prudential regulators.391 The final rule permits stand-alone SBSDs to use a model to calculate initial margin for equity security-based swaps and will permit these entities to include equity swaps in the portfolio, subject to further coordination with the CFTC.392 Under the final rule, these entities are not required to use the standardized approach to calculate initial margin for equity security-based swaps. However, the account of a counterparty for which the stand-alone SBSD provides model￾based portfolio margining may not hold equity security positions other than equity security-based swaps and equity swaps. Therefore, cash market positions such as long and short equity positions, listed options positions, and single stock futures positions cannot be held in the accounts or otherwise included in the portfolio margin calculations. This is designed to ensure that a stand-alone SBSD cannot provide more favorable treatment for these types of equity positions than a stand-alone or ANC broker-dealer that is subject to the margin requirements of the Federal Reserve’s Regulation T and the margin rules of the SROs. A commenter requested that qualified netting agreements be permitted in
calculating initial margin.393 Other commenters argued that effective netting agreements lower systemic risk by reducing both the aggregate requirement to deliver margin and trading costs for market participants.394 A commenter stated that netting, among other things, is an important tool for the reduction of counterparty credit risk.395 Another commenter supported the Commission’s proposal to permit certain netting under a qualified netting agreement to determine margin requirements, stating that netting obligations under derivatives and other trading positions reduces counterparty credit risk and allows market participants to make the most efficient use of their capital.396 Finally, a commenter stated that differences in the security-based swap and swap margin rules may fragment the market by causing firms to engage only in a security-based swaps business through a Commission-regulated nonbank SBSD.397 The commenter stated that, upon the insolvency of a nonbank SBSD and an affiliated swap dealer, a counterparty would likely be unable to close out and net security-based swaps entered into with the nonbank SBSD with swaps entered into with the swap dealer because the entities are not the same. This commenter also believed that the Commission’s proposals may undermine the mutuality of obligations for close-out netting, stating that the Commission appeared to treat a nonbank SBSD as an agent of the counterparty rather than a direct counterparty, which may cause a bankruptcy court to reject attempts by a counterparty to close out derivatives positions with the debtor. In response, the Commission has modified the rule to clarify that qualified netting agreements may be used in the calculation of initial margin (in addition to variation margin).398 Generally, industry practice is to use netting in variation and initial margin calculations. Further, the Commission believes that in most cases a counterparty entering into a non-cleared security-based swap transaction with a nonbank SBSD will be a direct counterparty of the nonbank SBSD. In response to the comment regarding potential fragmentation of the market

399See section II.B.1. of this release (summarizing similarities and differences between the Commission’s final margin rules for non-cleared security-based swaps and the final margin rules of the CFTC and the prudential regulators). 400See also Order Granting Conditional Exemption Under the Securities Exchange Act of 1934 in Connection with Portfolio Margining of Swaps and Security-Based Swaps, 77 FR 75211. 401See also section II.A.2.b.iii. of this release (discussing adding swaps to the Appendix A methodology for purposes of the standardized haircuts). 402See Better Markets 11/19/2018 Letter. 403 If a nonbank SBSD’s model is approved for use to compute initial margin under paragraph (d) of Rule 18a–3, the performance of the model would be subject to ongoing regulatory supervision, and the nonbank SBSD will need to submit an amendment to the Commission for approval before materially changing its model. See, e.g., Rule 15c3–1e, as amended; paragraph (d) of Rule 18a–1, as adopted. 404See IIB11/19/2018 Letter; ISDA 1/23/2013 Letter; SIFMA 3/12/2014 Letter. 405See ISDA 2/5/2014 Letter; Markit Letter. 406See paragraph (d)(2)(i) of Rule 18a–3, as adopted. In the final rule, the Commission inserted the phrase ‘‘and be responsible for’’ after the phrase ‘‘authorization to use.’’ and the proposed rule’s effects on close￾out netting, as discussed above, the Commission believes the final margin rule for non-cleared security-based swaps is largely comparable to the final margin rules of the CFTC and the prudential regulators.399 In addition, as discussed above, the Commission has modified the final rules to facilitate the portfolio margining of security-based swaps and swaps, subject to further coordination with the CFTC.400 For example, the Commission modified Rules 15c3–1a and 18a–1a to permit swaps to be included in the Appendix A methodology, which can be used by broker-dealer SBSDs to calculate initial margin.401 Moreover, the Commission modified paragraph (d)(2) of Rule 18a– 3 to permit stand-alone SBSDs to use a model to portfolio margin equity security-based swaps with equity swaps, subject to certain conditions. The Commission believes that these modifications will provide a means for market participants to conduct security￾based swap and swap activity in the same legal entity without incurring significant additional operational or compliance costs. A commenter stated that the Commission’s potential modification of the proposed rules to permit the use of an industry standard model provides too little information concerning the parameters that would be required for such models and the process for nonbank SBSDs to approve, establish, maintain, review, and validate margin models.402 In response, the final rule provides that a nonbank SBSD seeking approval to use a model (including an industry standard model) to calculate initial margin will be subject to the application process in Rule 15c3–1e, as amended, or paragraph (d) of Rule 18a– 1, as adopted,
as applicable, governing the use of model-based haircuts.403 As
part of the application process, the
Commission staff will review whether the model meets the qualitative and quantitative requirements of Rule 18a–
3. Therefore, a nonbank SBSD will need
to submit sufficient information to allow the Commission to make a determination regarding the performance of the nonbank SBSD’s initial margin model. The use of internal models, industry standard models, or other models to calculate initial margin by nonbank SBSDs will be subject to the same application and approval process under the final rule. The application process and any condition imposed in connection with Commission approval of the use of the model should mitigate the risk that nonbank SBSDs will compete by implementing lower initial margin levels and should also help ensure that initial margin levels are set at sufficiently prudent levels to reduce risk to the firm and, more generally, systemic risk. If an industry standard model is widely used by nonbank SBSDs, concerns about competing through lower margin requirements should be further mitigated. However, the Commission reiterates that each nonbank SBSD individually must receive approval from the Commission to use an initial margin model, including an industry standard model, because, among other things, each firm must submit a comprehensive description of its internal risk management control system and how that system satisfies the requirements set forth in Rule 15c3–4. Thus, any approval by the Commission for a particular nonbank SBSD to use a specific model to calculate initial margin will not be deemed approval for another nonbank SBSD to use the same model. As noted above, some commenters made suggestions about how to expedite the model approval process.404 In response to these comments, the Commission recognizes that the timing of such approvals could raise competitive issues if one nonbank SBSD is authorized to use a model before one or more other firms. Timing issues may also arise with respect to the review and approval process if multiple firms simultaneously apply to the Commission for approval to use a model. The Commission is sensitive to these issues and, similar to the capital model approval process, encourages all firms that intend to register as nonbank SBSDs and seek model approval to begin working with the staff as far in advance of their targeted registration date as is feasible. However, as discussed above with respect to capital models, the Commission acknowledges the possibility that it may not be able to make a determination regarding a firm’s margin model before it is required to register as an SBSD. Consequently, the Commission is modifying Rule 15c3–1e and Rule 18a–1 to provide that the Commission may approve the temporary use of a provisional model by a nonbank SBSD for the purposes of calculating initial margin if the model had been approved by certain other supervisors. Two commenters suggested the Commission allow market participants to delegate the duty to run a model to a counterparty or third party noting that it is an accepted market practice for a counterparty to agree that a dealer will make determinations for a security￾based swap in the dealer’s
capacity as calculation agent.405 In response to this comment, a nonbank SBSD could enter into a commercial arrangement to serve as a third-party calculation agent for entities that are not required to calculate initial margin pursuant to Rule 18a–3, as adopted. In addition, a nonbank SBSD’s model can use third-party inputs (e.g., price calculations). However, a nonbank SBSD retains responsibility for the model-based initial margin calculations required by Rule 18a–3, as adopted. As discussed above, paragraph (c)(1)(i) of Rule 18a–3, as adopted, requires a nonbank SBSD to calculate an initial margin amount for each counterparty as of the close of each business day. Under paragraph (d) of Rule 18a–3, the nonbank SBSD must use the standardized or model-based approach, as applicable, to calculate the initial margin amount. The fact that a nonbank SBSD uses a model to perform the calculation and that the model uses third-party inputs does not eliminate or diminish the firm’s underlying obligation under the rule to calculate an initial margin amount for each counterparty as of the close of each business day. In light of the comment and the Commission’s response that third-party inputs may be used, the Commission believes it would be appropriate to make explicit in the rule that the nonbank SBSD retains responsibility for model-based initial margin calculations. Accordingly, the Commission is modifying the proposed rule text to make this clear.406 In summary, the Commission is adopting the model-based approach to calculating initial margin, with the

407See paragraph (c)(1)(i) to Rule 18a–3, as adopted. 408See paragraph (d)(2) of Rule 18a–3, as adopted. 409See Better Markets 7/22/2013 Letter; Markit Letter. 410See SIFMA AMG 2/22/2013 Letter. 411See paragraph (c)(6) to Rule 18a–3, as adopted. Paragraph (c)(7) of Rule 18a–3, as proposed to be adopted, was re-designated paragraph (c)(6) in the final rule due to non-substantive amendments made to the minimum transfer amount language. 412See Capital, Margin, and Segregation Proposing Release, 77 FR at 70262–63. 413See CFA Institute Letter. 414See ICI 5/11/2015 Letter. 415See Financial Services Roundtable Letter. 416See American Council of Life Insurers 2/22/ 2013 Letter. 417See also BCBS/IOSCO Paper at 5 (‘‘All financial firms and systemically important non￾financial entities (‘‘covered entities’’) that engage in non-centrally cleared derivatives must exchange initial and variation margin as appropriate to the counterparty risks posed by such transactions.’’). 418See paragraph (c)(2)(i) of Rule 18a–3, as adopted. In the final rule, the Commission made several non-substantive modifications. The word ‘‘equity’’ was replaced with the phrase ‘‘the current exposure.’’ The phrase ‘‘with respect to each account of a counterparty’’ was inserted before the word ‘‘calculate’’ and the word ‘‘the’’ replaced the modifications discussed above. The final rule will require a nonbank SBSD to calculate with respect to each account of a counterparty as of the close of each business day: (1) The amount of the current exposure in the account; and (2) the initial margin amount for the account.407 As discussed above, in response to comments, the Commission modified paragraph (d) of Rule 18a–3 to establish a margin model authorization process that is distinct from the net capital rule model authorization process. This modification will provide flexibility to allow nonbank SBSDs that do not use a model for purposes of the net capital rule to seek authorization to use a model for purposes of the margin rule.408 It also will permit firms to use an industry standard model such as the model currently being used to comply with the margin rules of the CFTC and the prudential regulators. Comments and Final Requirements To Increase the Frequency of the Calculations Two commenters supported the proposed requirement to perform more frequent calculations under specified conditions.409 Another commenter requested that the Commission clarify that the requirement for a nonbank SBSD to perform calculations more frequently in specified circumstances does not give rise to a regulatory requirement for the nonbank SBSD to collect intra-day margin from its counterparties.410 The commenter argued that requiring a nonbank SBSD to collect margin more frequently than daily would be operationally difficult and contrary to current market practice. The Commission is adopting the requirement to increase the frequency of the required calculations during periods of extreme volatility and for accounts
with concentrated positions, as proposed, with some non-substantive modifications.411 In response to the comment about collecting margin intra￾day, the Commission clarifies that the rule does not require a nonbank SBSD to collect intra-day margin, although it may choose to do so (such as through a house margin requirement). In addition, more frequent calculations are only required during periods of extreme volatility and for accounts with concentrated positions. However, nonbank SBSDs are subject to Rule 15c3–4, which requires, among other things, that they have a system of internal controls to assist in managing the risks associated with their business activities, including credit risk. In designing a system of internal controls pursuant to Rule 15c3–4, a nonbank SBSD generally should consider whether there are circumstances where the collection of intra-day margin in times of volatility and for accounts with concentrated positions would be necessary to effectively manage credit risk. In addition, a nonbank SBSD generally should consider these factors in its risk monitoring procedures required under paragraph (e)(7) of Rule 18a–3, as adopted, which is discussed below.
ii. Nonbank MSBSPs
As proposed, Rule 18a–3 required nonbank MSBSPs to collect collateral from counterparties to which the nonbank MSBSP has current exposure and provide collateral to counterparties that have current exposure to the nonbank MSBSP.412 Consequently, a nonbank MSBSP needed to calculate as of the close of business each day the amount of equity in each account of a counterparty. Consistent with the proposal for nonbank SBSDs, a nonbank MSBSP was required to increase the frequency of its calculations during periods of extreme volatility and for accounts with concentrated positions. A commenter stated that it believed that nonbank MSBSPs should be required to calculate initial margin for each counterparty and collect or post initial margin because doing so would allow nonbank MSBSPs to better measure and understand their aggregate counterparty risk.413 The commenter believed that nonbank MSBSPs should have the personnel necessary to operate daily initial margin programs. Another commenter, who supported bilateral margining for both variation and initial margin, stated that not requiring the bilateral exchange of initial margin is inconsistent with the BCBS/IOSCO Paper and the re-proposals of the CFTC and the prudential regulators.414 A commenter supported the proposal that nonbank MSBSPs should not have to collect initial margin.415 Another commenter stated that MSBSPs should be provided flexibility as to whether and to what extent they should be required to pledge initial margin to financial firms.416 In response to comments that nonbank MSBSPs should calculate and collect and post initial margin, the margin requirements for nonbank MSBSPs are designed to ‘‘neutralize’’ the credit risk between a nonbank MSBSP and its counterparty. This requirement is intended to account for the fact that nonbank MSBSPs will be subject to less stringent capital requirements than nonbank SBSDs. Consequently, in the case of a nonbank MSBSP, the Commission believes it is more prudent to not require the firm to collect initial margin from counterparties, as doing so would increase the counterparties’ exposures to the nonbank MSBSP. Therefore, the Commission is not adopting requirements for nonbank MSBSPs to calculate and post or deliver initial margin. The Commission acknowledges that the final rule, in this case, is not consistent with the final margin rules of the CFTC and the prudential regulators, which generally require nonbank major swap participants, bank MSBSPs, and bank major swap participants to collect and post initial margin from and to specified counterparties.417 However, the Commission believes that minimizing a counterparty exposure to a nonbank MSBSP by not requiring it to deliver initial margin is prudent, as these firms will not be subject to as robust a capital framework as SBSDs or bank MSBSPs. Similarly, the Commission believes it is prudent to limit the exposure of the nonbank MSBSP to the counterparty by not requiring it to post initial margin, as the
counterparty may not be subject to any capital requirement. While the final rule does not impose a requirement to post or deliver initial margin, nonbank MSBSPs and their counterparties are permitted to agree to the exchange of initial margin. For these reasons, the Commission is adopting paragraph (c)(2)(i) of Rule 18a–3 substantially as proposed.418

word ‘‘each’’ to conform the language in the paragraph more closely with the language in paragraph (c)(1)(i) of the final rule. 419See Capital, Margin, and Segregation Proposing Release, 77 FR at 70263–69. 420See Capital, Margin, and Segregation Proposing Release, 77 FR at 70264. 421See AIMA 2/22/2013 Letter; ICI 2/4/2013 Letter. 422See American Council of Life Insurers 11/19/ 2018 Letter; ICI 2/4/2013 Letter; ICI 5/11/2015 Letter; ICI 11/19/2018 Letter; SIFMA AMG 11/19/ 2018 Letter. 423See PIMCO Letter. 424See ICI 11/19/2018 Letter. 425See ICI 11/19/2018 Letter. 426See PIMCO Letter; SIFMA AMG 2/22/2013 Letter. 427See American Council of Life Insurers 2/22/ 2013 Letter; American Council of Life Insurers 11/ 19/2018 Letter. 428See Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74903; CFTC Margin Adopting Release, 80 FR at 698. 429See paragraphs (c)(1)(ii)(A)(2) and (c)(1)(iii) of Rule 18a–3, as adopted. The Commission also made some non-substantive changes to paragraph (c)(1)(ii) Continued b. Account Equity Requirements
i. Nonbank SBSDs
As discussed above, a nonbank SBSD must calculate variation and initial margin amounts with respect to the account of a counterparty as of the close of each business day. Proposed Rule 18a–3: (1) Required a nonbank SBSD to collect margin from the counterparty unless an exception applied; (2) set forth the time frame for when that collateral needed to be collected; (3) prescribed the types of assets that could serve as eligible collateral; (4) prescribed additional requirements for the collateral; (5) prescribed when collateral must be liquidated; and (6) set forth certain exceptions to collecting the collateral.419 More specifically, proposed Rule 18a– 3 required that a nonbank SBSD collect from the counterparty by noon of the following business day cash, securities, and/or money market instruments in an amount at least equal to the ‘‘negative equity’’ (current exposure) in the account plus the initial margin amount unless an exception applied. Assets other than cash, securities, and/or money market instruments were not eligible collateral. The proposed rule further provided that the fair market value of securities and money market instruments (‘‘securities collateral’’) held in the account of a counterparty needed to be reduced by the amount of the standardized haircuts the nonbank SBSD would apply to the positions pursuant to the proposed capital rules for the purpose of determining whether the level of equity in the account met the minimum margin requirements. Securities collateral with no ‘‘ready market’’ or that could not be publicly offered or sold because of statutory, regulatory, or contractual arrangements or other restrictions effectively could not serve as collateral because it would be subject to a 100% deduction pursuant to the standardized haircuts in the proposed capital rules, which were to be used to take the collateral deductions for the purposes of proposed Rule 18a–3. In addition, proposed Rule 18a–3 contained certain additional requirements for cash and securities to be eligible as collateral. These requirements were designed to ensure that the collateral was of stable and predictable value, not linked to the value of the transaction in any way, and capable of being sold quickly and easily if the need arose. The requirements included that the collateral was: (1) Subject to the physical possession or control of the nonbank SBSD; (2) liquid and transferable; (3) capable of being liquidated promptly without the intervention of a third party; (4) subject to a legally enforceable collateral agreement, (5) not securities issued by the counterparty or a party related to the counterparty or the nonbank SBSD; and (6) a type of financial instrument for which the nonbank SBSD could apply model-based haircuts if the nonbank SBSD was authorized to use such haircuts. Proposed Rule 18a–3 also required a nonbank SBSD to take prompt steps to liquidate collateral consisting of securities collateral to the extent necessary to eliminate the
account equity deficiency. The Commission proposed five exceptions to the account equity requirements. The first applied to counterparties that were commercial end users. The second applied to counterparties that were nonbank SBSDs. The third applied to counterparties that were not commercial end users and that required their collateral to be segregated pursuant to
Section 3E(f) of the Exchange Act. The
fourth proposed exception applied to accounts of counterparties that were not commercial end users and that held legacy non-cleared security-based swaps. The fifth provided for a $100,000 minimum transfer amount with respect to a particular counterparty. Comments and Final Requirements Regarding the Collection and Posting of Margin As noted above, proposed Rule 18a– 3 required a nonbank SBSD to collect margin from the counterparty by noon of the next business day unless an exception applied.420 Generally, the comments on this aspect of the proposal fell into two categories: (1) Comments requesting that nonbank SBSDs be required to deliver margin (in addition to collecting it); and (2) comments requesting that the required time frame for collecting margin be lengthened. In terms of requiring nonbank SBSDs to deliver margin, commenters stated that doing so would promote consistency with the recommendations in the BCBS/IOSCO Paper.421 Commenters also argued that bilateral margining would help to reduce systemic risk.422 A commenter argued that not requiring a nonbank SBSD to post margin could create an incentive to avoid clearing security-based swaps counter to the Dodd-Frank Act’s objective of promoting central clearing.423 One commenter stated that the Commission did not adequately consider the potential for one-way margining to harm investors and the security-based swap market.424 This commenter argued that making two-way margining mandatory would provide important risk mitigation benefits to the markets, and protect counterparties of all sizes, not just those large enough to negotiate for two-way margining.425 Some commenters suggested that the rule should permit the counterparty to require the nonbank SBSD to deliver margin at the counterparty’s discretion.426 Another commenter stated that nonbank SBSDs and financial end users should have the flexibility to determine whether nonbank SBSDs should be required to post initial margin to financial end users.427 In response to these comments, the Commission is persuaded that requiring nonbank SBSDs to deliver variation margin to counterparties would provide an important protection to the counterparties by reducing their uncollateralized current exposure to SBSDs. The Commission also believes it would be appropriate to require nonbank SBSDs to deliver variation margin to counterparties in order to further harmonize Rule 18a–3 with the margin rules of the CFTC and the prudential regulators.428 For these reasons, the Commission has modified the final rule to require a nonbank SBSD to deliver variation margin to a counterparty unless an exception applies. However, as discussed below, the nonbank SBSD is not required to collect or deliver variation or collect initial margin from a commercial end user, a security-based swap legacy account, or a counterparty that is the BIS, the European Stability Mechanism, or one of the multilateral development banks identified in the rule.429

to accommodate the new requirement. In the final rule, paragraph (c)(1)(ii)(A) of Rule 18a–3, as proposed to be adopted, was re-designated paragraph (c)(1)(ii)(A)(1). 430See ISDA 1/23/2013 Letter; ISDA 2/5/2014 Letter. 431See Markit Letter. 432See SIFMA 3/12/2014 Letter. 433See SIFMA 11/19/2018 Letter. 434See American Benefits Council, et al. 1/29/ 2013 Letter; Letter from Angus D.W. Martowardojo, Governor of Bank Indonesia and Chairman of the Executives Meeting of East Asia-Pacific Central Banks (Aug. 31, 2016) (‘‘EMEAP Letter’’); Letter from Mary P. Johannes, Senior Director and Head of ISDA WGMR Initiative, International Swaps and Derivatives Association (Aug. 7, 2015) (‘‘ISDA 8/7/ 2015 Letter’’); Letter from Mary P. Johannes, Senior Director and Head of ISDA WGMR Initiative, International Swaps and Derivatives Association (Sept. 24, 2015) (‘‘ISDA 9/24/2015 Letter’’); SIFMA AMG 2/22/2013 Letter. 435See EMEAP Letter. 436See ISDA 8/7/2015 Letter. 437See SIFMA AMG 2/22/2013 Letter. 438See paragraphs (c)(1)(ii) and (c)(2)(ii) of Rule 18a–3, as adopted. 439See paragraphs (c)(1)(ii) and (c)(1)(iii) of Rule 18a–3, as adopted. References to cash, securities and/or money market instruments were deleted throughout the rule text and replaced with the term ‘‘collateral’’ as a result of other modifications to the rule to expand the types of collateral permitted under the rule. The defined term ‘‘non-cleared security-based swap’’ in paragraph (b)(5) of Rule 18a–3, as adopted, is modified to add the phrase ‘‘submitted to and’’ before the word ‘‘cleared,’’ and to add the phrase ‘‘or by a clearing agency that the Commission has exempted from registration by rule or order pursuant to section 17A of the Act (15 U.S.C. 78q–1)’’ before the ‘‘.’’. The language regarding exemption from registration was added to the final rule to align the definition more closely with the definitions used in the margin rules of the CFTC and prudential regulators. 440See Capital, Margin, and Segregation Proposing Release, 77 FR at 70264. The Commission does not believe it would be appropriate to require nonbank SBSDs to deliver initial margin and, therefore, the final rule does not require it. Requiring nonbank SBSDs to deliver initial margin could impact the liquidity of these firms. Delivering initial margin would prevent this capital of the nonbank SBSD from being immediately available to the firm to meet liquidity needs. If the delivering SBSD is undergoing financial stress or the markets more generally are in a period of financial turmoil, a nonbank SBSD may need to liquidate assets to raise funds and reduce its leverage. Assets in the control of a counterparty would not be available for this purpose. For these reasons, under the net capital rule, most unsecured receivables must be deducted from net worth when the nonbank SBSD computes net capital. The final rule, however, does not prohibit a nonbank SBSD from delivering initial margin. For example, a nonbank SBSD and its
counterparty can agree to commercial terms pursuant to which the nonbank SBSD will post initial margin to the counterparty. In terms of lengthening the time frame for collecting margin, a commenter requested flexibility for nonbank SBSDs to collect initial margin on a different
schedule and frequency than variation
margin.430 A second commenter sought clarification concerning how often initial margin needed to be collected and noted that the overall initial margin amount for a portfolio could change even if no new transactions occur because existing transactions may mature or significant market moves may impact values.431 A third commenter suggested that the Commission require nonbank SBSDs to begin collecting initial margin on a weekly basis and phase in more frequent collections.432 Another commenter recommended that consistent with the CFTC’s and prudential regulators’ margin rules, the Commission should require an SBSD to collect margin by the end of the business day following the day of execution and at the end of each business day thereafter, with appropriate adjustments to address operational difficulties associated with parties located in different time zones.433 Other commenters recommended a longer time period than one business day to collect margin, citing cross￾border transactions as possibly requiring more time.434 One commenter stated that the time zone differences between the Unites States and certain jurisdictions will cause major operational challenges, and could lead to delayed payments, disputes, and broadly greater operational risk.435 Another commenter noted that the settlement and delivery periods for securities to be posted as collateral are longer than the time period for collection under the proposed rule, particularly in a cross-border context.436 A commenter stated that the proposed one business-day requirement did not reflect the operational realities of security-based swap trading, payment, and collateral transfer processes.437 The commenter argued that the need for additional time was especially critical with respect to transactions with counterparties in countries such as Japan and Australia. The Commission recognizes that it will take time for nonbank SBSDs to implement processes to collect variation and initial margin on a daily basis if the entity is not currently collecting margin at this frequency. The Commission, therefore, is establishing compliance and effective dates discussed below in
section III.B. of this release designed to
give nonbank SBSDs and their counterparties a reasonable period of time to implement the operational, legal, and other changes necessary to come into compliance with requirements to collect and deliver margin on a daily basis. In terms of lengthening the period to collect or deliver margin beyond one business day, promptly obtaining collateral to cover credit risk exposures is vitally important to promoting the financial responsibility of nonbank SBSDs and protecting their counterparties. Collateral protects the nonbank SBSD from consequences of the counterparty’s default and the counterparty from the consequences of the nonbank SBSD’s default. However, the Commission is modifying the next￾day collection requirement in two ways that should mitigate the concerns of commenters. First, the Commission is lengthening time for nonbank SBSDs and MSBSPs to collect or post required margin from noon to the close of business on the next business day.438 Second, the Commission is lengthening from one to two business days the time frame in which the nonbank SBSD or MSBSP must collect or deliver required margin if the counterparty is located in another country and more than 4 time zones away. These changes should mitigate the concerns of commenters about cross-border transactions. For the foregoing reasons, the Commission is adopting the proposed requirements to collect variation and initial margin with the modifications discussed above and with certain other non-substantive modifications.439 Comments and Final Requirements for Collateral and Taking Deductions on Collateral As noted above, proposed Rule 18a– 3 permitted cash, securities, and money market instruments to serve as collateral to meet variation and initial margin requirements and, if securities or money market instruments were used, required the nonbank SBSD to apply the standardized haircuts in the capital rules to the collateral when computing the equity in the account.440 Generally, comments addressing these requirements fell into two categories: (1) Comments requesting that the scope of assets qualifying as collateral be broadened, or modified to conform with requirements of the prudential regulators, the CFTC, or the recommendations in the BCBS/IOSCO Paper; and (2) comments requesting that the deductions to securities or money market instruments serving as collateral be calculated using methods other than

441See American Council of Life Insurers 2/22/ 2013 Letter; American Council of Life Insurers 11/ 19/2018 Letter; CFA Institute Letter; MFA 2/22/ 2013 Letter; SIFMA AMG 11/19/2018; SIFMA 3/12/ 2014 Letter; SIFMA 11/19/2019 Letter. 442See MFA 2/22/2013 Letter. 443See American Council of Life Insurers 2/22/ 2013 Letter; American Council of Life Insurers 11/ 19/2018 Letter. 444See SIFMA 3/12/2014 Letter. 445See BCBS/IOSCO Paper at 16. 446 Id. at 17–18. 447See Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74870; CFTC Margin Adopting Release, 81 FR at 701–2. 448See paragraph (c)(4)(i)(C) of Rule 18a–3, as adopted. The additional collateral requirements in the final rule are discussed below. 449See Financial Services Roundtable Letter; MFA 2/22/2013 Letter; Sutherland Letter. 450See ICI 11/19/2018 Letter. 451See Letter from Lee A. Pickard, Esq., Pickard, Djinis and Pisarri, on behalf of Federated Investors, Inc. (Nov. 15, 2018) (‘‘Federated 11/15/2018 Letter’’). 452See paragraph (c)(4) of Rule 18a–3, as adopted. 453See PIMCO Letter. 454See American Council of Life Insurers 11/19/ 2018 Letter; SIFMA 11/19/2018 Letter. 455See, e.g., paragraph (c)(2)(vi)(J) of Rule 15c3– 1, as amended (prescribing a haircut of 15% for equity securities), and BCBS/IOSCO Paper,
Appendix B, at 27 (prescribing a haircut of 15% for
equities included in major stock indices). See also paragraph (c)(2)(vi)(A)(1) of Rule 15c3–1, as amended (prescribing a haircut of 0.5% for securities issued or guaranteed by the United States or any agency thereof with 3 months but less than 6 months to maturity), and BCBS/IOSCO Paper,
Appendix B, at 27 (prescribing a haircut of 0.5% for
high quality government and central bank securities: Residual maturity less than one year). 456See, e.g., paragraph (c)(2)(vi)(A)(1) of Rule 15c3–1, as amended (prescribing a range of four haircuts of 0% to 1% for securities issued or guaranteed by the United States or any agency thereof with less than 12 months to maturity), and Continued the standardized haircuts in the capital rules. In terms of the scope of eligible collateral, commenters supported the broad categories of securities and money market instruments that qualified under the proposal, but asked that the final rule be more consistent with the recommendations in the BCBS/IOSCO Paper or the rules of the CFTC and the prudential regulators.441 A commenter stated that the Commission should define the term ‘‘eligible collateral,’’ preferably by adopting the CFTC’s ‘‘forms of margin’’ approach.442 A second commenter recommended that the Commission carefully parallel the collateral approach recommended in the BCBS/IOSCO Paper.443 This commenter noted that the examples of collateral listed in the BCBS/IOSCO Paper were not exhaustive. Another commenter suggested that regulators and market participants develop a set of consistent definitions for the categories of eligible collateral.444 In response to these comments, the BCBS/IOSCO Paper recommends that national supervisors develop their own list of collateral assets, taking into account the conditions of their own markets, and based on the key principle that assets should be highly liquid and should, after accounting for an appropriate haircut, be able to hold their value in a time of financial stress.445 The examples of collateral in the BCBS/ IOSCO Paper are: (1) Cash; (2) high￾quality government and central bank securities; (3) high-quality corporate bonds; (4) high-quality covered bonds; (5) equities included in major stock indices; and (6) gold.446 Eligible securities collateral under the margin rules of the CFTC and the prudential regulators includes: (1) U.S. Treasury securities; (2) certain securities guaranteed by the U.S.; (3) certain securities issued or guaranteed by the European Central Bank, a sovereign entity, or the BIS; (4) certain corporate debt securities; (5) certain equity securities contained in major indices; and (6) certain redeemable government bond funds.447 Under the Commission’s proposed margin rule, these types of securities would be permitted as collateral if they had a ready market. The margin rules of the CFTC and the prudential regulators also permit major foreign currencies, the currency of settlement for the security-based swap, and gold to serve as collateral. The Commission’s proposed rule permitted ‘‘cash’’ but did not permit foreign currencies to serve as collateral, and the proposed rule did not permit gold to serve as collateral. The Commission is modifying proposed Rule 18a–3 in response to commenters’ concerns about the rule excluding collateral types that are permitted by the CFTC and the prudential
regulators. Consequently, the final rule permits cash, securities, money market instruments, a major foreign currency, the settlement currency of the non-cleared security￾based swap, or gold to serve as eligible collateral.448 This will avoid the operational burdens of having different sets of collateral that may be used with respect to a counterparty depending on whether the nonbank SBSD is entering into a security-based swap (subject to the Commission’s rule) or a swap (subject to the CFTC’s rule) with the counterparty. It also will avoid potential unintended competitive effects of having different sets of collateral for non-cleared security-based swaps under the margin rules for nonbank SBSDs and bank SBSDs. Finally, by giving the option of aligning with the requirements of the CFTC and the prudential regulators, the final rule should avoid the necessity of amending existing collateral agreements that may specifically reference the forms of margin permitted by those requirements. Commenters requested that certain types of assets be permitted to serve as collateral when dealing with commercial end users and special purpose vehicles.449 One commenter requested that the Commission expand the collateral permitted under the rule to include shares of affiliated registered funds or clarify that a fund of funds could post shares of an affiliated registered fund to meet a margin requirement under the rule.450 Another commenter requested that the Commission adopt a definition of collateral that includes U.S. government money market funds.451 In response to these comments, the final rule does not specifically exclude any type of security provided it has a ready market, is readily transferable, and does not consist of securities and/or money market instruments issued by the counterparty or a party related to the nonbank SBSD or MSBSP, or the counterparty.452 Generally, U.S. government money market funds should be able to serve as collateral under these conditions. In terms of applying the standardized haircuts in the nonbank SBSD capital rules to securities and money market instruments serving as collateral, a commenter advocated aligning with the prudential regulators’ proposed rules for ease of application and consistency of treatment across instruments, as well as to minimize the opportunity for regulatory arbitrage.453 Comments received after the CFTC and the prudential regulators adopted their final margin rules supported aligning the haircuts in the Commission’s margin rule with the standardized haircuts adopted by the CFTC and the prudential regulators.454 The haircuts in proposed Rule 18a–3 (i.e., the standardized haircuts in the proposed nonbank SBSD capital rules) and the haircuts in the margin rules of the CFTC and the prudential regulators (which are based on the recommended standardized haircuts in the BCBS/ IOSCO Paper) are largely comparable.455 However, the Commission also recognizes that there are differences. For example, the
Commission’s standardized haircuts in some cases are more risk sensitive than those required by final margin rules of the CFTC and the prudential regulators.456

BCBS/IOSCO Paper, Appendix B, at 27 (prescribing a haircut of 0.5% for high-quality and central bank securities: Residual maturity less than one year); see also paragraph (c)(2)(vi)(F)(1) of Rule 15c3–1, as amended (prescribing a range of three haircuts of 3% to 6% for nonconvertible debt securities that mature in more than one year but less than five years), and BCBS/IOSCO Paper, Appendix B, at 27 (prescribing a haircut of 4% for high-quality corporate/covered bonds: Residual maturity greater than one year and less than five years). The prudential regulators’ and CFTC’s final margin rules each prescribe a collateral haircut schedule that is generally consistent with the BCBS/IOSCO Paper. See Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74910; CFTC Margin Adopting Release, 81 FR at 702. 457See paragraph (c)(3) of Rule 18a–3, as adopted. 458See paragraph (c)(3)(ii) of Rule 18a–3, as adopted. In the final rule, paragraph (c)(3) of Rule 18a–3, as proposed, is re-designated paragraph (c)(3)(i) of Rule 18a–3, as adopted, and a new subparagraph (c)(3)(ii) is added to read: ‘‘(ii) Notwithstanding paragraph (c)(3)(i) of this section, the fair market value of assets delivered as collateral by a counterparty or the security-based swap dealer may be reduced by the amount of the standardized deductions prescribed in 17 CFR 23.156 if the security-based swap dealer applies these standardized deductions consistently with respect to the particular counterparty.’’ 459As discussed above in section II.B.1. of this release, while paragraphs (c)(4) and (5) of Rule 18a– 3, as adopted, respectively require netting and collateral agreements to be in place, the rule does not impose a specific margin documentation requirement as do the margin rules of the CFTC and the prudential regulators. 460See PIMCO Letter. The commenter stated that OAS generally measures a debt instrument’s risk premium over benchmark rates covering a variety of risks and net of any embedded options in the instrument. See id. (citing Frank J. Fabozzi, The Handbook of Fixed Income Securities, at 908–909 (7th ed. 2005)). 461See ISDA 1/23/2013 Letter; ISDA 2/5/2014 Letter. See also BCBS/IOSCO Paper at 17–19,
Appendix B.
462See Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74872; CFTC Margin Adopting Release, 81 FR at 702. 463See Letter from William J. Harrington (Nov. 19, 2018) (‘‘Harrington 11/19/2018 Letter’’). 464See paragraph (c)(4)(i)(A) of Rule 18a–3, as adopted. 465See paragraph (c)(3) of Rule 18a–3, as adopted. In addition to the changes to the final rule described above to permit the use of the CFTC collateral haircut schedule, in the final rule, the Commission inserted the word ‘‘standardized’’ before the word ‘‘deductions’’ and deleted the phrase ‘‘determining whether the level of equity in the account meets the requirements of’’ to clarify that only the use of standardized haircuts is permitted and to make a conforming change as a result of changes made to the definitions in paragraph (b) of the final rule. In the final rule, the Commission also deleted the phrase ‘‘securities and money market instruments held in the account of’’ and replaced it with ‘‘collateral delivered by’’ to clarify that the collateral in the account was delivered by a counterparty to the nonbank SBSD. Further, in the final rule, the title of the paragraphs reads: ‘‘Deductions for collateral’’ as a conforming change. In addition, the phrase ‘‘securities and money market instruments’’ has been replaced with the term ‘‘collateral’’ to conform to changes made to other parts of the rule. Finally, the phrase ‘‘or security-based swap dealer’’ is being added after the phrase ‘‘collateral delivered by a counterparty.’’ These changes conform the modification to the final rule requiring nonbank SBSDs to apply the standardized haircuts to collateral they deliver to counterparties to meet a variation margin requirement. 466See Capital, Margin, and Segregation Proposing Release, 77 FR at 7064–65. 467See SIFMA 2/22/2013 Letter. At the same time, the Commission believes it would be appropriate to provide nonbank SBSDs the option either to use the standardized haircuts in the nonbank SBSD capital rules as proposed or to use the collateral haircuts in the CFTC’s margin rules. Consequently, the final margin rule provides nonbank SBSDs with the option of choosing to use the standardized haircuts in the capital rules or the standardized haircuts in the CFTC’s margin rules.457 The final rule further provides that if the nonbank SBSD uses the CFTC’s standardized haircuts it must apply them consistently with respect to the counterparty.458 This requirement is designed to prevent a nonbank SBSD from ‘‘cherry picking’’ either the nonbank SBSD capital haircuts or the CFTC haircuts at different points in time depending on which set provides the more advantageous haircut. Similar to aligning the sets of eligible collateral, giving the option of aligning the collateral haircuts with the CFTC’s collateral haircuts will allow a firm to avoid the operational burdens of having different haircut requirements with respect to a counterparty depending on whether the nonbank SBSD is entering
into a security-based swap (subject to the Commission’s rule) or a swap (subject to the CFTC’s rule) with the counterparty. This option also will avoid potential unintended competitive effects of having different sets of collateral for non-cleared security-based swaps under the margin rules for nonbank SBSDs and bank SBSDs. Finally, by aligning with the requirements of the CFTC and the prudential regulators, the final rule should reduce the likelihood that SBSDs will seek to amend existing collateral agreements that may specifically reference the haircuts in the margin rules of the CFTC or prudential regulators.459 With respect to the proposed collateral haircuts, a commenter suggested that the deductions applicable to high-grade corporate debt or liquid structured credit instruments be calculated using the option-adjusted spread (‘‘OAS’’).460 A second commenter noted that the BCBS/IOSCO Paper provides that the haircuts can be determined by a model that is approved by a regulator, in addition to a standardized schedule set forth in the BCBS/IOSCO Paper.461 In response to these comments, the Commission believes that the simpler and more transparent approach of using the standardized haircuts will establish appropriately conservative discounts on eligible collateral. Moreover, using models to determine haircuts on collateral would not be consistent with the final rules of the CFTC and the prudential regulators.462 Finally, a commenter recommended that the Commission apply a 100% haircut to a structured product, asset￾backed security, re-packaged note, combination security, and any other complex instrument.463 In response, the final margin rule requires margin collateral to have a ready market.464 This is designed to exclude collateral that cannot be promptly liquidated. A nonbank SBSD must apply the collateral haircuts to collateral used to meet a variation margin requirement and an initial margin requirement as was proposed.465 However, the Commission is making a conforming modification to require a nonbank SBSD to apply the deductions prescribed in paragraph (c)(3)(i) or (ii) of Rule 18a–3 to variation margin that the firm delivers to a counterparty to meet a variation margin requirement. As discussed above, the final rule now requires nonbank SBSDs to deliver variation margin to counterparties, and applying the haircuts to collateral used for this purpose will serve the same purpose of determining whether the level of equity in the account met the minimum margin requirements, as applying them to collateral collected by the nonbank SBSD. In addition, applying a haircut to collateral delivered by the nonbank SBSD to a counterparty is consistent with the requirements of the CFTC and the prudential regulators. Comments and Final Requirements Regarding Additional Collateral and Liquidation Requirements As noted above, proposed Rule 18a– 3 prescribed additional requirements for collateral (e.g., it must be liquid and transferable) and required the
prompt liquidation of the collateral to eliminate a margin deficiency.466 A commenter requested that only ‘‘excess securities collateral’’ as defined in proposed Rule 18a–4 for purposes of the segregation requirements be subject to the possession or control requirement in proposed Rule 18a–3.467 The commenter noted that the proposed segregation requirements only required excess securities collateral to be in the SBSD’s possession or control. Thus, the commenter argued that imposing a

468See SIFMA 11/19/2018 Letter.
469See paragraph (c)(2)(xv)(C)(1) of Rule 15c3–1, as amended; paragraph (c)(1)(ix)(C)(1) of Rule 18a– 1, as adopted. 470See paragraph (c)(4)(v)(B) of Rule 15c3–1e, as amended; paragraph (e)(2)(iii)(E)(2) of Rule 18a–1, as adopted. 471See paragraph (c)(4)(ii)(A) and (B) of Rule 18a– 3, as adopted. 472See paragraph (c)(4)(i)(C) of Rule 18a–3, as adopted. 473See paragraph (c)(4)(i)(A) of Rule 18a–3, as adopted. The modification replaces paragraph (4)(i) of proposed Rule 18a–3 (which provided that ‘‘The collateral is liquid and transferable’’) with paragraph (4)(i)(A) of Rule 18a–3, as adopted (which provides that the collateral ‘‘Has a ready market’’) and paragraph (4)(i)(B) of Rule 18a–3, as adopted (which provides that the collateral ‘‘Is readily transferable’’). 474See CFTC Margin Adopting Release, 81 FR at 665. 475See paragraph (c)(4) of Rule 18a–3, as adopted. As a consequence of the modifications discussed above, paragraph (c)(4)(i) is re-designated paragraph (c)(4)(i)(A) through (E), paragraph (c)(4)(ii) is re￾designated paragraph (c)(4)(ii)(A) and (B), and paragraphs (c)(4)(iii), (iv), and (v) are deleted. The Commission made the following additional non￾substantive modifications to paragraph (c)(4) of Rule 18a–3, as adopted: (1) The phrase ‘‘A security￾based swap dealer and’’ in the preface of the paragraph (c)(4) is changed to ‘‘A security-based swap dealer or’’; (2) the phrases ‘‘cash and,’’ ‘‘securities and money market instruments,’’ and ‘‘delivered as collateral’’ in the preface to paragraph (c)(4) are deleted and replaced with the phrase ‘‘collateral delivered’’; (3) the phrase ‘‘The collateral is subject to the physical possession or control of the security-based swap dealer or the major security-based swap participant’’ is deleted from paragraph (c)(4)(i) and replaced with the phrase ‘‘The collateral:,’’ and the phrase ‘‘Subject to the physical possession or control of the security-based swap dealer or the major security-based swap participant’’ is added to re-designated paragraph (c)(4)(ii)(A); (4) the phrase ‘‘The collateral does not consist of securities and/or money market instruments issued by the counterparty or a party related to the security-based swap dealer, the major security-based swap participant, or to the counterparty.’’ is deleted along in paragraph (c)(4)(v) and the phrase ‘‘Does not consist of securities and/or money market instruments issued by the counterparty or a party related to the security-based swap dealer, the major security￾based swap participant, or the counterparty; and’’ is added to new paragraph (c)(4)(i)(D); (5) the phrase ‘‘The collateral agreement between the security-based swap dealer or the major security￾based swap participant and the counterparty is legally enforceable by the security-based swap dealer or the major security-based swap participant Continued possession or control requirement on a broader range of collateral could impose ‘‘serious’’ funding costs on SBSDs by requiring them to fund
initial and variation margin payments for offsetting transactions through their own resources rather than through the collateral posted by security-based swap customers in accordance with proposed Rule 18a–3. Another commenter requested that the Commission amend paragraph (c)(4)(i) of proposed Rule 18a–3 to recognize initial margin collateral that is held at an independent third-party custodian as being in the control of the nonbank SBSD.468 The Commission did not intend the possession or control requirement in proposed Rule 18a–3 to conflict with the proposed possession or control requirement in Rule 18a–4. More specifically, under Rule 18a–4, as proposed, a nonbank SBSD could re￾hypothecate collateral received as initial margin pursuant to Rule 18a–3 in limited circumstances and subject to certain conditions. The Commission clarifies that under Rule 18a–3, as adopted, initial margin that is held at a clearing agency to meet a margin requirement of the customer is in the control of the nonbank SBSD for purposes of the rule. Additionally, as discussed above in sections II.A.2.b.ii. and II.A.2.b.v. of this release, the Commission has adopted final capital rules for stand-alone broker-dealers and nonbank SBSDs that permit them to recognize collateral held at a third-party custodian for purposes of: (1) The exception from taking the capital charge when initial margin is held at a third￾party custodian; 469 and (2) computing credit risk charges.470 In each case, the collateral can be recognized if the custodian is a bank as defined in
Section 3(a)(6) of the Exchange Act or a
registered U.S. clearing organization or depository that is not affiliated with the counterparty or, if the collateral consists of foreign securities or currencies, a supervised foreign bank, clearing organization, or depository that is not affiliated with the counterparty and that customarily maintains custody of such foreign securities or currencies. The Commission believes collateral held at a third-party custodian also should be recognized for the purposes of determining the account equity requirements in Rule 18a–3. Consequently, the Commission is modifying paragraph (c)(4) in the final rule to provide that the collateral must be either: (1) Subject to the physical possession or control of the nonbank SBSD or MSBSP and may be liquidated promptly by the firm without intervention by any other party (as was proposed); or (2) carried by an independent third-party custodian that is a bank as defined in Section 3(a)(6) of the Exchange Act or a registered U.S. clearing organization or depository that is not affiliated with the counterparty or, if the collateral consists of foreign securities or currencies, a supervised foreign bank, clearing organization, or depository that is not affiliated with the counterparty and that customarily maintains custody of such foreign securities or currencies.471 This will address the second commenter’s concern about recognizing collateral that is held at a third-party custodian. As discussed above, the Commission has modified proposed Rule 18a–3 to provide a nonbank SBSD with the option to use the collateral haircuts required by the CFTC’s rules.472 In light of this modification, the Commission is modifying the final margin rule to explicitly require that the collateral have a ready market.473 The requirement that the collateral have a ready market was incorporated into the proposed rule because, as discussed above, the nonbank SBSD was required to use the standardized haircuts in the proposed capital rules for purposes of the collateral deductions. The proposed nonbank SBSD capital rules required the firm to take a 100% deduction for a security or money market instrument that does not have a ready market (as do the final capital rules). Consequently, by incorporating those standardized haircuts into proposed Rule 18a–3, a nonbank SBSD would need to deduct 100% of the value of a security or money market instrument it received as margin if the security or money market instrument did not have a ready market. In other words, the security or money market instrument would have no collateral value for purposes of meeting the account equity requirements in proposed Rule 18a–3. The Commission’s modification will retain the proposed requirement that collateral without a ready market has no collateral value and, in particular, will apply that requirement when the standardized haircuts of the CFTC are used, as they do not explicitly impose a ready market test. However, the CFTC, in describing its requirements for collateral,
stated that margin assets should share the following fundamental characteristics:
They ‘‘should be liquid and, with haircuts, hold their value in times of financial stress.’’ 474 The CFTC further stated in describing collateral permitted under its rule that it consists of ‘‘assets for which there are deep and liquid markets and, therefore, assets that can be readily valued and easily liquidated.’’ The Commission believes that modifying the final rule to make explicit that the ready market test applies when the CFTC’s standardized haircuts are used is consistent with these statements by the CFTC about collateral permitted under its margin rule. For the foregoing reasons, the Commission is adopting the proposed collateral requirements with the modifications discussed above and certain additional non-substantive modifications.475

against the counterparty and any other parties to the agreement; and’’ is deleted in paragraph (c)(4)(iv) and the phrase ‘‘Is subject to an agreement between the security-based swap dealer or the major security-based swap participant and the counterparty that is legally enforceable by the security-based swap dealer or the major security￾based swap participant against the counterparty and any other parties to the agreement; and’’ is added to re-designated paragraph (c)(4)(i)(E); (6) the phrase ‘‘The collateral is liquid and transferable’’ is deleted from paragraph (c)(4)(ii) and replaced with the phrase ‘‘The collateral is either’’; and (7) the phrase ‘‘The collateral may be liquidated promptly by the security-based swap dealer or the major security￾based swap participant without intervention by any other party’’; is deleted from paragraph (c)(4)(iii) and the phrase ‘‘and may be liquidated promptly by the security-based swap dealer or the major security-based swap participant without intervention by any other party; or’’ is added to re￾designated paragraph (c)(4)(ii)(A) after the phrase ‘‘Subject to the physical possession or control of the security-based swap dealer or the major security￾based swap participant.’’ 476See paragraph (c)(7) of Rule 18a–3, as adopted. This paragraph was re-numbered in the final rule as a result of changes made to other paragraphs in the rule. In the final rule, the word ‘‘and’’ was replaced with ‘‘or’’ between the phrase ‘‘A security￾based swap dealer’’ and the phrase ‘‘major security￾based swap participant’’; the phrase ‘‘securities and money market instruments’’ was replaced with the word ‘‘positions’’; and the phrase ‘‘account equity’’ was replaced with the word ‘‘margin’’ in two places. These changes to the rule were non￾substantive amendments to conform the final rule text with changes made to other parts of the rule. 477See Capital, Margin, and Segregation Proposing Release, 77 FR at 70265–66. 478See CFA Institute Letter. 479See OneChicago 2/19/2013 Letter. 480See Public Law 114–1, 129 Stat. 3 (2015). 481Section 3C(g) of the Exchange Act provides that the Commission shall consider whether to exempt small banks, savings associations, Farm Credit System institutions, and credit unions with total assets of $10 billion or less. 15 U.S.C. 78c– 3(g)(3)(B). If the Commission implements an exclusion for such entities from clearing, those entities would be encompassed within the definition of commercial end user under the rule. See End-User Exception to Mandatory Clearing of Security-Based Swaps; Proposed Rule, Exchange Act Release No. 63556 (Dec. 15, 2010), 75 FR 79992 (Dec. 21, 2010). 482See paragraphs (b)(2) and (c)(1)(iii)(A) of Rule 18a–3, as adopted. 483See paragraph (b)(2) of Rule 18a–3, as adopted. This language is consistent with the final rule adopted by the prudential regulators to implement Title III of TRIPRA and the CFTC’s final margin rule. See Margin and Capital Requirements for Covered Swap Entities, 81
FR 50605 (Aug. 2, 2016); CFTC Margin Adopting Release, 81 FR at 677–79. 484See Capital, Margin, and Segregation Proposing Release, 77 FR at 70245. 485See paragraph (e)(2) of Rule 18a–3, as adopted. 486See Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74848–49 (‘‘Finally, the Agencies note that the exception or exemption of a transaction from the margin requirements in no way prohibits a covered swap entity from requiring initial and/or variation margin on such transactions but does not impose initial or variation margin requirements as a regulatory matter.’’); see also CFTC Margin Adopting Release, 81 FR at 648 (‘‘The Commission has other requirements [17 CFR 23.600 (Risk Management Program for swap dealers and major swap participants)] that should address the monitoring of risk exposures for those entities’’). 487See Capital, Margin, and Segregation Proposing Release, 77 FR at 70267–68. Finally, the Commission did not receive any comments addressing the prompt liquidation requirement and is adopting it with several non-substantive modifications.476 Comments and Final Requirements Regarding Exceptions to Collecting Margin Commercial End Users. As noted above, the Commission proposed five exceptions to the account equity requirements, and the first exception applied to counterparties that are commercial end users.477 This exception provided that a nonbank SBSD need not collect variation or initial margin from a counterparty that was a commercial end user. A commenter opposed any exceptions in the rule, stating that failing to collect and deliver margin contributed significantly to the 2008 financial crisis.478 Another commenter argued that commercial end users carry market risk and can default on their obligations to the nonbank SBSD, which may then be faced with liquidity challenges.479 This commenter stated that the lack of margin from these market participants can be a source of systemic risk that can ‘‘ripple through the financial market ecosystem.’’ After Rule 18a–3 was proposed, the Terrorism Risk Insurance Program Reauthorization Act of 2015 (‘‘TRIPRA’’) was enacted.480 Title III of TRIPRA amended Section 15F(e) of the Exchange Act to provide that the requirements of
Section 15F(e)(2)(B)(ii) (which requires
the Commission to adopt margin requirements for nonbank SBSDs with respect to non-cleared security-based swaps) shall not apply to a security￾based swap in which a counterparty qualifies for an exception under Section 3C(g)(1) of the Exchange Act or that satisfies the criteria in Section 3C(g)(4) of the Exchange Act (the exceptions from mandatory clearing for commercial end users). Consequently, Congress mandated an exception for commercial end users from the Commission’s margin rules for non-cleared security￾based swaps.481 While the statutory provision establishes a commercial end user exception, defining the term ‘‘commercial end user’’ will serve an important purpose. In particular, the definition will implement the statutory provision and serve as a cross-reference for the term ‘‘commercial end user,’’ which is referenced in other parts of the Commission’s rules. Consequently, the Commission is adopting the exception and related definition with modifications to conform the definition to the statutory text.482 In the final rule, the term ‘‘commercial end user’’ is defined to mean a counterparty that qualifies for an exception from clearing under section 3C(g)(1) of the Exchange Act and implementing regulations or satisfies the criteria in Section 3C(g)(4) of the Exchange Act and implementing regulations.483 In response to the concerns raised by the commenters regarding the exception, a nonbank SBSD will be required to take a capital deduction in lieu of margin or credit risk charge if it does not collect margin from a commercial end user counterparty. The capital deduction or charge is intended to require a nonbank SBSD to set aside net capital to address the risks that would be mitigated through the collection of initial margin.484 The set￾aside net capital will serve as an alternative to obtaining collateral for this purpose. Consequently, the final capital rules and amendments work in tandem with the margin rules to require capital deductions or credit risk charges that will require nonbank SBSDs to allocate capital against the market and credit exposures resulting from transactions with commercial end users, which may not be fully collateralized. In addition, as discussed below, a nonbank SBSD will be required to establish, maintain, and document procedures and guidelines for monitoring the risk of accounts holding non-cleared security-based swaps. Among other things, a nonbank SBSD will be required to have procedures and guidelines for determining, approving, and periodically reviewing credit limits for each counterparty to a non-cleared security-based swap.485 Consequently, nonbank SBSDs that do not collect variation and/or initial margin from a commercial end user will need to establish a credit limit for the end user and periodically review the credit limit in accordance with their risk monitoring guidelines.486 The final rule also does not prohibit a nonbank SBSD from requiring a commercial end user to post variation and initial
margin under its own house margin requirements. Financial Market Intermediaries. The second exception to collecting margin applied when the counterparty was another SBSD.487 More specifically, the Commission proposed two alternatives with respect to SBSD counterparties. Under the first alternative, a nonbank SBSD would need to collect variation margin but not initial margin from the other SBSD (‘‘Alternative A’’). Under the second alternative, a nonbank SBSD would be required to collect variation and initial margin from the other SBSD

488Alternative B would not be an exception to the account equity requirements in Rule 18a–3 because it would require the nonbank SBSD to collect variation and initial margin from another SBSD. However, the proposed exception related to how the collateral must be held—at an independent third-party custodian on behalf of the counterparty—and, therefore, not in the possession or control of the nonbank SBSD. 489See ISDA 1/23/2013 Letter. 490See SIFMA 2/22/2013 Letter. 491See SIFMA Letter 11/19/2018. See also ISDA 11/19/2018 Letter. 492See Financial Services Roundtable Letter. See also Letter from Robert Rozell (Nov. 8, 2018) (‘‘Rozell Letter’’). 493See Capital, Margin, and Segregation Comment Reopening, 83 FR 53013–14; SIFMA 11/ 19/2018 Letter. 494See Americans for Financial Reform Education Fund Letter; Barnard Letter; Citadel 11/19/2018 Letter; Letter from Jeffrey P. Mahoney, General Counsel, Council of Institutional Investors (Nov. 8,
2018) (‘‘Council of Institutional Investors Letter’’).
495See Americans for Financial Reform Letter. 496See OneChicago 2/19/2013 Letter. 497See Americans for Financial Reform Education Fund Letter; Citadel 11/19/2018 Letter; Rutkowski Letter. 498See Citadel 11/19/2018 Letter. 499See Better Markets 11/19/2018 Letter. 500See Capital, Margin, and Segregation Comment Reopening, 83 FR at 53013–14 (soliciting comment on whether the dealer to dealer initial margin exception should be expanded to other types of financial market intermediaries). 501See paragraph (e) of Rule 18a–3, as adopted. and the initial margin needed to be held at a third-party custodian (‘‘Alternative B’’).488 Some commenters supported Alternative A. One of these commenters argued that the requirement to collect initial margin from other SBSDs under Alternative B would severely curtail the use of non-cleared security-based swaps for hedging.489 The commenter argued that this result would disrupt key financial services, such as those that facilitate the availability of home loans and corporate finance. The commenter argued that the requirement to collect initial margin from another SBSD would have detrimental pro-cyclical effects because it would increase collateral demands in times of market stress. A second commenter believed that Alternative B could limit credit availability, be destabilizing, and have undesirable pro-cyclical effects.490 While generally supporting harmonization of the Commission’s margin rules with the recommendations of the BCBS/IOSCO Paper, this commenter supported Alternative A. The commenter stated that harmonization in this case is not appropriate because it would put stress on the funding models of U.S. nonbank SBSDs if they were required to post initial margin to other SBSDs.491 A third commenter argued that the proposal to require the exchange of large amounts of liquid initial margin come at a time when other regulators and regulations are also focusing on and imposing new requirements with respect to liquidity in the financial sector.492 This commenter urged the Commission to evaluate initial margin requirements in light of the changing financial regulatory environment and to establish regulations that will support capital growth and customer protection while minimizing systemic risk. Some commenters also supported expanding the Alternative A approach so that nonbank SBSDs would not be required to collect initial margin from swap dealers, stand-alone broker-dealers, banks, foreign banks, and foreign broker-dealers.493 Other commenters supported Alternative B, arguing that it was more consistent with the intent of the Dodd￾Frank Act and that Alternative A would permit an inappropriate build-up of systemic risk within the financial system.494 One commenter argued that the Commission should not be swayed by claims that Alternative B would make it difficult for nonbank SBSDs to hedge transactions, or that it would shrink the size of the global security￾based swap market.495 Another commenter argued that it
would be inappropriate to allow a nonbank SBSD to have non-cleared security-based swap exposure to another SBSD without any requirement to collect initial margin or to take a capital charge to address the risk of the non-cleared security-based swap.496 Some commenters noted that the CFTC and the prudential regulators require the exchange of initial margin between SBSDs and swap dealers, and the Commission should do so as well in order to harmonize its rules with the rules of the CFTC and the prudential regulators.497 One commenter argued that a lack of harmonization would reduce the likelihood of achieving substituted compliance determinations.498 Finally, a commenter responding to the 2018 comment reopening argued that the proposed rule text modifications were made despite the fact that insufficient margin and capital were two of the triggers of the financial crisis.499 In the Commission’s judgment, Alternative A is the prudent approach because it will promote the liquidity of nonbank SBSDs by not requiring them to deliver initial margin to other SBSDs. As discussed above, delivering initial margin would prevent this capital of the nonbank SBSD from being immediately available to be used by the firm. If the delivering SBSD is undergoing financial stress or the markets more generally are in a period of financial turmoil, a nonbank SBSD may need to liquidate assets to raise funds and reduce its leverage. However, if assets are in the control of another SBSD, they would not be available for this purpose. For these reasons, the nonbank SBSD capital rule treats most unsecured receivables as assets that must be deducted from net worth when the firm computes net capital. In addition, the Commission believes that nonbank SBSDs serve an important function in the non-cleared security￾based swap market by providing liquidity to market participants and by performing important market making functions. Thus, the Commission believes its margin rule for non-cleared security-based swaps should promote the liquidity of these entities, which, in turn, will help ensure their safety and soundness. Further, the Commission believes these considerations support expanding the exception beyond SBSD counterparties to include other financial market intermediary counterparties such as swap dealers, FCMs, stand￾alone broker-dealers, banks, foreign banks, and foreign broker-dealers.500 The Commission believes it is appropriate to expand the list given their importance to the securities markets, the liquidity impact on these entities if they are required to post initial margin, and the fact that these entities will be subject to a regulatory capital standard that would incentivize them to collateralize exposures to their security-based swap counterparties. A nonbank SBSD will be required to take a capital deduction in lieu of margin or credit risk charge if it does not collect initial margin from a counterparty that is a financial market intermediary. As discussed above, the
capital deduction or credit risk charge is intended to require a nonbank SBSD to set aside net capital to address the risks that are mitigated through the collection of initial margin. Furthermore, the nonbank SBSD will be required to establish, maintain, and document procedures and guidelines for monitoring the risk of accounts holding non-cleared security-based swaps.501 These include procedures for determining, approving, and periodically reviewing credit limits for each counterparty. Consequently, a nonbank SBSD will need to establish credit limits for each counterparty to a non-cleared security-based swap, including counterparties that are financial market intermediaries. While Alternative A is not consistent with the final rules of the CFTC and the

502See Business Conduct Standards for Security￾Based Swap Dealers and Major Security-Based Swap Participants, 81 FR at 30078–30079. 503See paragraph (c)(1)(iii)(B) of Rule 18a–3, as adopted. The text of the final rule is modified to add swap dealers, broker-dealers, FCMs, banks, foreign banks, and foreign broker-dealers to the list of counterparties covered by the exception. 504See Capital, Margin, and Segregation Proposing Release, 77 FR at 70268–69. 505 In the final rule, this exception is contained in paragraph (c)(1)(iii)(C) of Rule 18a–3, as adopted. This paragraph states ‘‘The requirements of paragraph (c)(1)(ii)(B) of this section do not apply to an account of a counterparty that delivers the collateral to meet the initial margin amount to an independent third-party custodian.’’ 506See Capital, Margin, and Segregation Proposing Release, 77 FR at 70269. 507See PIMCO Letter. 508See SIFMA 3/12/2014 Letter. 509See Letter from the Alternative Reference Rates Committee (Jul. 12, 2018) (‘‘ARRC Letter’’); AFGI 2/15/2013 Letter; SIFMA 2/22/2013 Letter. 510See Financial Services Roundtable Letter; ISDA 1/23/2013 Letter. 511See CFA Institute Letter. 512See paragraph (c)(1)(iii)(D) of Rule 18a–3, as adopted. In the final rule, the Commission modified the defined term ‘‘security-based swap legacy account’’ by replacing the word ‘‘effective’’ in two places with the word ‘‘compliance.’’ See paragraph (b)(6) of Rule 18a–3, as adopted. The Commission made these modifications to link the legacy account exception to the compliance date of Rule 18a–3 (i.e., the date when nonbank SBSDs must begin complying with the rules) as opposed to the effective date, which will occur before these entities are required to register as SBSDs and comply with the rule. The term security-based swap legacy account was re-designated subparagraph (b)(6) of the rule due to non-substantive changes made to other parts of the rule. Finally, the phrase ‘‘one or more’’ was inserted after the phrase ‘‘is used to hold.’’ 513See paragraph (c)(1)(iii)(D) of Rule 18a–3, as adopted. See also See Capital, Margin, and Segregation Proposing Release, 77 FR 70269. The Commission’s intent was to propose an exception that applied to both variation and initial margin. See Capital, Margin, and Segregation Proposing Release, 77 FR at 70269 (‘‘Under the fourth exception to the account equity requirements in proposed Rule 18a–3, a nonbank SBSD would not be required to collect cash, securities, and/or money market instruments to cover the negative equity (current exposure) or margin amount (potential future exposure) in a security-based swap legacy account.’’). The proposed rule text, however, inadvertently limited the exception to the collection of initial margin. In the final rule, the Commission also deleted the phrase ‘‘of a counterparty that is not a commercial end user’’ from this subsection because it is redundant, as commercial end users are subject to an exception from the rule under paragraph
(c)(1)(iii)(A) of Rule 18a–3. Finally, the word ‘‘legacy’’ was moved to before the word ‘‘account’’ to conform the language with the definition of security-based swap legacy account in paragraph (b)(6) of the rule. See paragraph (c)(1)(iii)(D) of Rule 18a–3, as adopted. 514See Capital, Margin, and Segregation Proposing Release, 77 FR at 70272. prudential regulators, the rule does not prohibit nonbank SBSDs from collecting initial margin from another financial intermediary as a house margin requirement or by agreement. In addition, the adoption of Alternative A as one requirement in the margin rule should not negatively affect potential substituted compliance determinations because the Commission expects regulators will focus on regulatory outcomes as a whole rather than on requirement-by-requirement similarity.502 Finally, the adoption of Alternative A with modifications discussed above should alleviate commenters’ concerns that imposing initial margin requirements would severely curtail the use of non-cleared security-based swaps for hedging. For these reasons, the Commission is adopting Alternative A with the modifications discussed above.503 Counterparties that Use Third-Party Custodians. The third proposed exception applied to counterparties that are not commercial end users and that elect to have their initial margin segregated pursuant to Section 3E(f) of the Exchange Act.504 Among other things, Section 3E(f) provides that a counterparty may elect to have its initial margin segregated in an account carried by an independent third-party custodian. Under the proposed exception, the nonbank SBSD did not need to directly hold the initial margin required from the counterparty. This accommodated the counterparty’s right under Section 3E(f) to elect to have the third-party custodian hold the initial margin. The Commission did not receive any comments specifically addressing this provision but is modifying it to remove the reference to
Section 3E(f) to address the potential
that the initial margin might be held at a third-party custodian pursuant to other provisions. For the foregoing reasons, the Commission is adopting this exception with the modification described above and certain non￾substantive modifications.505 Legacy Accounts. The fourth proposed exception applied to accounts of counterparties that are not commercial end users and that hold legacy non-cleared security-based swaps.506 Under this proposed exception, the nonbank SBSD did not need to collect variation or initial margin from the counterparty. Some commenters expressed support for this exception. One of these commenters suggested that the Commission except legacy transactions, unless both counterparties agree that margin should be exchanged.507 A second commenter suggested that legacy trades be excepted unless the nonbank SBSD includes them in a netting set with new transactions.508 Some commenters also provided suggestions as to what should be deemed a legacy transaction, citing novated contracts and existing legacy security-based swaps that have been modified for loss mitigation purposes, or contracts that have been amended to replace references to the London Inter-bank Offered Rate (‘‘LIBOR’’).509 Commenters also requested clarification as to whether the legacy account exception for nonbank SBSDs applies to both variation and initial margin or to initial margin only.510 A commenter argued that initial margin requirements should not apply to legacy security-based swaps, but that the exception should only apply until the legacy contracts expire or are revised.511 This commenter further argued that the exception should not apply to variation margin because, without this type of protection, counterparties are exposed to potential losses as a consequence of the default of trading partners. The Commission is adopting the proposed exception for accounts holding legacy security-based swaps 512 with a modification to make explicit that the exception applies to variation and initial margin in response to comments seeking clarification on that point.513 Under the final rule, nonbank SBSDs can collect variation or initial margin with respect to legacy transactions pursuant to house requirements or agreement. With regard to the comment that counterparties should be required to post variation margin since they may be exposed to potential losses, a nonbank SBSD will be required to take a capital deduction in lieu of margin or credit risk charge if it does not collect variation and/or initial margin with respect to a legacy account. Furthermore, the nonbank SBSD will be required to establish, maintain, and document procedures and guidelines for monitoring the risk of legacy accounts. With respect to the comment about the effect of the replacement of references to LIBOR in security-based swap contracts, the Commission intends to consult and coordinate with other regulators on this question. Minimum Transfer Amount. The fifth exception established a minimum
transfer amount.514 Under this provision, a nonbank SBSD was not required to collect margin if the total amount of the requirement was equal to or less than $100,000. If this amount was exceeded, the nonbank SBSD needed to collect margin to cover the entire amount of the requirement, not just the amount that exceeded $100,000. Several commenters supported this exception, or supported increasing it to amounts that ranged from $250,000 to

515See American Council of Life Insurers 2/22/ 2013 Letter; American Council of Life Insurers, et al. 1/29/2013 Letter; ICI 11/19/2018 Letter; ISDA 11/19/2018 Letter; Markit Letter; SIFMA AMG 2/22/ 2013 Letter; SIFMA AMG 11/19/2018 Letter; SIFMA 3/12/14 Letter; SIFMA 11/19/2018 Letter. 516See ISDA 2/5/2014 Letter; SIFMA 3/12/14 Letter. 517See American Council of Life Insurers 2/22/ 2013 Letter. 518See Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74903; CFTC Margin Adopting Release, 81 FR at 697. See also BCBS/ IOSCO Paper at 10 (recommending a minimum transfer amount of Ö500,000). 519See Harrington 11/19/2018 Letter. 520See paragraph (c)(1)(iii)(I) and (c)(2)(iii)(D) of Rule 18a–3, as adopted. In the final rule the minimum transfer amount paragraph was moved to the exceptions section of the rule as a non￾substantive change to facilitate cross-references to the capital rules related to capital charges in lieu of margin and credit risk charges. This modification also will improve the overall consistency and structure of the margin rule. Therefore, the exception appears twice in the final rule text, rather than once, as proposed, with references to both nonbank SBSDs and MSBSPs. See paragraph (c)(1)(iii)(I) and (c)(2)(iii)(D) of Rule 18a–3, as adopted. Finally, the phrase ‘‘cash, securities, and money market instruments’’ has been replaced with the term ‘‘collateral’’ as a result of changes made to other paragraphs of the rule. 521See CFTC Margin Adopting Release, 81 FR at 652; Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74863; see also BCBS/ IOSCO Paper, principle 2.1 (providing that covered entities must exchange initial margin with a threshold not to exceed Ö50 million). 522See CFTC Margin Adopting Release, 81 FR at
697. 523Prudential Regulator Margin and Capital
Adopting Release, 80 FR at 74901. 524See, e.g., ICI 5/11/2015 Letter; Ropes & Gray Letter; SIFMA 3/12/2014 Letter. 525See SIFMA 2/22/2013 Letter. 526See American Benefits Council Letter, et al., 1/29/2013 Letter. 527See PIMCO Letter. 528See Letter from Scott O’Malia, Chief Executive Officer, International Swaps and Derivatives Association, Kenneth E. Bentsen, Jr., President & CEO, Securities Industry and Financial Markets Association, Ananda Radhakrishnan, Vice President, Center for Bank Derivatives Policy, American Bankers Association, James Kemp, Managing Director, Global Foreign Exchange Division, GFMA, and Briget Polichene, Chief Executive Officer, Institute of International Bankers (Sept. 12, 2018) (‘‘ISDA, SIFMA, ABA, et al. 9/12/ 18 Letter’’). 529See Capital, Margin, and Segregation Comment Reopening, 83 FR at 53013. 530See Center for Capital Markets Competitiveness, Chamber of Commerce 11/19/ 2018 Letter; ICI 11/19/2018 Letter; ISDA 11/19/2018 Letter. 531See SIFMA 11/19/2018 Letter. This commenter recommended that the Commission adopt a $50 million initial margin threshold, but recommended that the drawbacks of the fixed￾dollar threshold could be addressed through additional capital charges, such as credit concentration capital charges. 532See SIFMA 11/19/2018 Letter. $500,000.515 Commenters also asked the Commission to clarify whether the proposed minimum transfer amount applies to both initial and variation margin, and recommended that different jurisdictions use the same currency to designate thresholds.516 A commenter also supported consistent minimum transfer amounts across domestic regulators.517 The CFTC and the prudential regulators adopted a minimum transfer amount of $500,000.518 One commenter opposed a minimum transfer amount for variation margin.519 The Commission agrees with commenters that the minimum transfer amount should be increased to $500,000. This will reduce operational burdens for nonbank SBSDs and their counterparties by not requiring them to transfer small amounts of collateral on a daily basis. It also will align the rule with the minimum transfer amount adopted by the CFTC and the prudential regulators and, thereby, reduce potential operational burdens and competitive impacts that could result from inconsistent requirements. In response to the commenter concerned about applying the minimum transfer amount to variation margin, a nonbank SBSD will be required to take a capital deduction in lieu of margin or credit risk charge if it does not collect variation and/or initial margin pursuant to the minimum transfer amount exception. For these reasons, the Commission is adopting the minimum transfer amount exception with an increase to $500,000, and with minor modifications.520 The Commission also clarifies that the minimum transfer amount applies to both initial and variation margin. Thus, required initial and variation margin need not be collected if the combined requirements are below $500,000. However, if the
$500,000 level is exceeded, the entire amount must be collected (i.e., not the just amount that exceeds $500,000). Finally, in response to a comment, nonbank SBSDs may negotiate a lower ‘‘house’’ minimum transfer amount with their counterparties. Initial Margin Threshold. The CFTC and the prudential regulators have adopted a fixed-dollar $50 million threshold under which initial margin need not be collected.521 The CFTC defines its initial margin threshold amount to mean an aggregate credit exposure of $50 million resulting from all non-cleared swaps of a swap dealer and its affiliates with a counterparty and its affiliates.522 The prudential regulators adopted a similar threshold, except that it covers aggregate credit exposure resulting from all non-cleared security-based swaps and swaps.523 Some commenters requested that the Commission adopt a threshold consistent with the thresholds adopted by the CFTC and the prudential regulators, and with the recommendations in the BCBS/IOSCO Paper.524 A commenter stated that initial margin thresholds can be a useful means for reducing the aggregate liquidity impact of mandatory initial margin requirements while still protecting an SBSD from large uncollateralized potential future exposures to counterparties.525 Another commenter suggested that if pension plans are subject to initial margin requirements, then dealers should be able to set initial margin thresholds for them on a case-by-case basis.526 A third commenter suggested that low-risk financial end users should be allowed an uncollateralized threshold of $100 million.527 Other commenters raised concerns about the consequences of breaching the threshold and noted that doing so would trigger the need to execute agreements to address the posting of initial margin.528 In the 2018 comment reopening, the Commission asked whether it would be appropriate to establish a risk-based threshold where, for example, a nonbank SBSD would not be required to collect initial margin to the extent the amount does not exceed the lesser of: (1) 1% of the SBSD’s tentative net capital; or (2) 10% of the net worth of the counterparty.529 The Commission stated that the purpose would be to establish a threshold that is scalable and has a more direct relation to the risk to the nonbank SBSD arising from its security￾based swap activities. The Commission also stated that a fixed-dollar threshold, depending on the size and activities of the nonbank SBSD, could either be too large and, therefore, not adequately address the risk, or too small and, therefore, overcompensate for the risk. In response to the potential risk-based threshold discussed in the comment period reopening, most commenters argued that the Commission should adopt a fixed-dollar $50 million threshold consistent with the final margin rules of the CFTC and the prudential regulators.530 A commenter suggested that this would result in benefits such as predictability and transparency.531 This commenter also argued
that a threshold harmonized with that of other regulators would prevent opportunities for counterparties to engage in regulatory arbitrage, and recommended that any drawbacks (such as the threshold being too large in relation to a nonbank SBSD’s net capital) be addressed through additional capital charges.532 A commenter raised concerns that a different threshold

533See ICI 11/19/2018 Letter. 534See ISDA 11/29/2018 Letter. 535See Better Markets 11/19/2018 Letter; OneChicago 11/19/2018 Letter. 536See Better Markets 11/19/2018 Letter. 537See paragraph (c)(1)(iii)(H)(1) of Rule 18a–3, as adopted. 538See ISDA, SIFMA, American Bankers Association, et al 9/12/2018 Letter. 539As discussed above in section II.B.1. of this release, while paragraphs (c)(4) and (5) of Rule 18a– 3, as adopted, respectively require netting and collateral agreements to be in place, the rule does not impose a specific margin documentation requirement as do the margin rules of the CFTC and the prudential regulators. 540See paragraph (c)(1)(iii)(H)(2) of Rule 18a–4, as adopted. Paragraph (c)(1)(iii)(H)(2) of the final rule states ‘‘Notwithstanding paragraph (c)(1)(iii)(H)(1) of this section, a security-based swap dealer may defer collecting the amount required under paragraph (c)(1)(ii)(B) of this section for up to two months following the month in which a counterparty no longer qualifies for this threshold exception for the first time.’’ 541See CFTC Margin Adopting Release, 81 FR at 673–674; Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74887–90. 542See Letter from Representative Ted Budd, Representative Patrick McHenry et. al. (May 14, 2019); Letter from John Court, Managing Director and Senior Associate General Counsel, The Clearing House, Cecelia A. Calaby, Executive Director and General Counsel, American Bankers Association Securities Association, and Jason Shafer, Vice President, American Bankers Association (Nov. 24,
2014) (‘‘Clearing House 11/24/14 Letter’’); Letter
from John Court, Managing Director/Deputy General Counsel, The Clearing House, Cecelia A. Calaby, Senior Vice President, Office of Regulatory Policy, American Bankers Association and Executive Director and General Counsel, American Bankers Association Securities Association, and Kyle would result in significant compliance challenges if trading desks that trade both security-based swaps and swaps were required to apply different standards to the same counterparty.533 Another commenter believed that a scalable threshold would cause significant operational challenges and inefficiencies by subjecting individual SBSDs to different thresholds for the collection of initial margin.534 Several commenters argued against including an initial margin threshold in the final rule. Two stated that there is no threshold in the margin rules for cleared security-based swaps, and establishing one for non-cleared security-based swaps would increase systemic risk.535 One commenter argued that the Commission did not explain its views on why a counterparty specific threshold (e.g., $50 million) should be rejected in favor of a measure that would be tied to a percentage of the nonbank SBSD’s tentative net capital.536 In response to comments, the Commission believes that it would be appropriate to establish a threshold that is more consistent with the thresholds adopted by the CFTC and the prudential regulators. This will eliminate potential competitive disparities and address operational concerns raised by commenters. For these reasons, the Commission is adopting a fixed-dollar $50 million initial margin threshold below which initial margin need not be collected.537 As discussed below, the threshold in the Commission’s final margin rule is consistent with the threshold in the prudential regulators’ margin rules. Pursuant to the threshold, an SBSD need not collect the calculated amount of initial margin to the extent that the sum of that amount plus all other credit exposures resulting from non-cleared security-based swaps and swaps of the nonbank SBSD and its affiliates with the counterparty and its affiliates does not exceed $50 million. The threshold will be calculated across all non-cleared security-based swaps and swaps of the nonbank SBSD and its affiliates with the counterparty and its affiliates, with the exception that non-cleared security￾based swap transactions with commercial end users and non-cleared swap transactions that are exempted under Section 4s(e)(4) of the CEA need not be included in the calculation. The margin rules of the CFTC and the prudential regulators similarly exclude transactions with commercial end users from their respective fixed-dollar $50 million thresholds. Moreover, as discussed above, the TRIPRA statute precludes the Commission from adopting margin requirements for commercial end users. The Commission’s fixed-dollar $50 million threshold is consistent with the threshold established by the prudential regulators in that the calculation
includes both non-cleared security￾based swaps and swaps (in contrast to the CFTC’s threshold, which includes only swaps in the calculation). Including both non-cleared security￾based swaps and swaps in the calculation will result in a more prudent requirement that takes into account a broader range of exposures. Further, because bank SBSDs can deal in security-based swaps, aligning the nonbank SBSD threshold with the bank threshold will eliminate a potential competitive disparity between the two types of U.S. entities that deal in security-based swaps. Also, if the calculation of the Commission’s threshold were limited to security-based swaps, SBSDs and counterparties potentially would need to make 3 threshold calculations: One for the Commission’s rule (security-based swaps only), one for the CFTC’s rule (swaps only), and one for the prudential regulators’ rule (security-based swaps and swaps). By conforming to the prudential regulator’s rule, SBSDs and counterparties need only make two calculations (the Commission/ prudential regulator threshold and the CFTC threshold). Further, a counterparty that breaches the Commission’s fixed-dollar $50 million threshold will not necessarily breach the CFTC’s fixed-dollar $50 million threshold exception given that the former calculation includes security￾based swap and swap exposures and the latter includes only swap exposures. The Commission recognizes that a fixed-dollar threshold (as opposed to a scalable threshold) does not necessarily bear a relation to the financial condition of the nonbank SBSD and its counterparty. To address this issue, as discussed above, and as suggested by a commenter, a nonbank SBSD will be required to take a capital deduction in lieu of margin or a credit risk charge if it does not collect initial margin pursuant to the fixed-dollar $50 million threshold exception. Furthermore, the nonbank SBSD will be required to establish, maintain, and document procedures and guidelines for monitoring counterparty risk. Consequently, the Commission does not believe the fixed-dollar $50 million threshold exception will unduly increase systemic risk as suggested by a commenter. For these reasons, the Commission believes it is appropriate to adopt the exception to promote greater consistency with the margin requirements of the prudential regulators. Finally, commenters raised concerns about the consequences of breaching a fixed-dollar $50 million threshold and noted that doing so would trigger the need to execute agreements to address the posting of initial margin.538 The Commission recognizes that after a breach counterparties may need time to execute agreements, establish processes for exchanging initial margin, and take other steps to comply with the initial margin requirement.539 Therefore, the Commission is modifying the final rule to permit a nonbank SBSD to defer collecting the initial margin amount for up to two months following the month in which a counterparty no longer qualifies
for the fixed-dollar $50 million threshold exception for the first time.540 This is designed to provide the counterparty with sufficient time to take the steps necessary to begin posting initial margin pursuant to the final rule. Affiliates. The margin rules of the CFTC and the prudential regulators have exceptions for counterparties that are affiliates.541 Some commenters requested that the Commission also adopt exceptions for affiliates.542 One

Brandon, Managing Director, Director of Research, SIFMA (June 1, 2015) (‘‘Clearing House 6/1/15 Letter’’); Letter from Coalition for Derivatives End￾Users (Feb. 22, 2013) (‘‘Coalition for Derivatives End-Users 2/22/2013 Letter’’); Financial Services Roundtable Letter; ISDA 1/23/2013 Letter; ISDA 2/ 5/2014 Letter; ISDA 11/19/2018 Letter; SIFMA 2/ 22/2013 Letter; SIFMA 3/12/2014 Letter; SIFMA 11/ 19/2019 Letter. The Clearing House proposed two alternatives for initial margin: A requirement that a nonbank SBSD collect initial margin from less regulated affiliates and segregate it, and not collect (or post) initial margin from highly regulated affiliates. Variation margin would still be collected under this proposal. In lieu of these proposals, The Clearing House also proposed a pooled segregated collateral account held at the parent company level. See Clearing House 6/1/15 Letter. One commenter recommended that variation margin requirements apply to an inter-affiliate transaction only when an SBSD is transacting with an unregulated/non￾prudentially supervised affiliate. See SIFMA 2/22/ 2013 Letter. This commenter also recommended that the Commission should not require nonbank SBSDs to collect initial margin from affiliates that are subject to the same centralized risk management program as the nonbank SBSD. See SIFMA 11/19/ 2018 Letter. 543See ISDA 11/19/2018 Letter. 544See SIFMA 11/19/2018 Letter. 545See CFA Institute Letter; Letter from Elijah E. Cummings, Ranking Member, Committee on Oversight and Government Reform and Elizabeth Warren, Ranking Member, Subcommittee on Economic Policy (Nov. 10, 2015) (‘‘Cummings and Warren Letter’’). 546See Cummings and Warren Letter. 547See paragraph (c)(1)(iii)(G) of Rule 18a–3, as adopted. This paragraph in the final rule will read:
[t]he requirements of paragraph (c)(1)(ii)(B) of this
section do not apply to an account of a counterparty
that is an affiliate of the security-based swap dealer. 548See CFTC Margin Adopting Release, 81 FR at 642; Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74855. 549See CFTC Margin Adopting Release, 81 FR at 642; Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74855. See also BCBS/ IOSCO Paper, paragraph 2(c) (recommending that margin standards should not be applied in such a way that would require sovereigns, central banks, multilateral development banks, or the BIS to either collect or post margin). 550See Financial Services Roundtable Letter; SIFMA 2/22/2013 Letter; SIFMA 3/12/2014 Letter; SIFMA 11/19/2018 Letter. 551See SIFMA 3/12/2014 Letter. 552See Financial Services Roundtable Letter. 553See SIFMA 11/19/2018 Letter. 554See paragraph (c)(1)(iii)(E) of Rule 18a–3, as adopted. 555See CFTC Margin Adopting Release, 81 FR at 642; Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74855. See also BCBS/ IOSCO Paper at 10. The CFTC’s approach generally treats the European Stability Mechanism consistent with the treatment of a multilateral development bank for purposes of the CFTC margin rule. See CFTC Letter No. 17–34 (Jul. 24, 2017). 556See CFTC Margin Adopting Release, 81 FR at 642; Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74855. commenter stated that inter-affiliate transactions do not increase the overall risk profile or leverage of the SBSD.543 Another commenter noted that some affiliates enter into security-based swap transactions with their nonbank SBSD affiliates, either for individual hedging purposes or as part of the consolidated group’s broader risk strategy.544 Other commenters opposed an exception for affiliates.545 One of these commenters urged the Commission to impose strong margin requirements for security-based swaps between bank affiliates and other entities under the Commission’s authority.546 The Commission is persuaded that there should an exception for affiliates in order to reduce potential competitive disparities, and to promote consistency with the margin requirements of the CFTC. Therefore, the Commission is modifying the final rule to establish an initial margin exception when the counterparty is an affiliate of the SBSD.547 Although they will not be required to collect initial margin from affiliates, a nonbank SBSD must collect variation margin from them. In addition, as discussed above, a nonbank SBSD will be required to take a capital deduction in lieu of margin or credit risk charge if it does not collect initial margin from an affiliate. The nonbank SBSD also will be required to establish, maintain, and document procedures and guidelines for monitoring the risk of affiliates. Moreover, the final rule does not prohibit a nonbank SBSD from requiring an affiliate to post initial margin under its own house margin requirements. The BIS, European Stability Mechanism, Multilateral Development Banks, and Sovereigns. The margin rules of the CFTC
and the prudential regulators have exceptions for counterparties that are not a financial end user as that term is defined in their rules.548 Their definitions of financial end user exclude the BIS, multilateral development banks, and sovereign entities.549 Some commenters requested that the Commission adopt exceptions for these types of entities to be consistent with the margin rules of the CFTC and the prudential regulators, and with the recommendations in the BCBS/IOSCO Paper.550 One of these commenters argued that international consistency among covered entities subject to margin requirements, including the definition of public sector entities, is critical to competitive parity and comity.551 Another commenter argued that the approach to margin for foreign sovereign governments, central banks, and multilateral lending or development organizations should be determined through international consensus.552 A commenter recommended that the Commission adopt a definition of ‘‘financial end user’’ consistent with the margin rules of the CFTC and the prudential regulators, which—as noted above—results in exceptions for sovereign entities, multilateral development banks, and the BIS.553 The commenter argued that different treatment of these entities will create unnecessary competitive disparities. The Commission is persuaded that there should be some exceptions for these types of entities in order to reduce potential competitive disparities. However, the Commission also believes that the exception for sovereign entities should be more limited, given the wide range of potential counterparties that would be within this category and their differing levels of creditworthiness. Limiting the exception for sovereign entities will help ensure the safety and soundness of nonbank SBSDs. For these reasons, the Commission is adopting an exception from collecting variation and initial margin if the counterparty is the BIS, the European Stability Mechanism, or one of a number of multilateral development banks identified in the rule.554 These multilateral development banks are the International Bank for Reconstruction and Development, the Multilateral Investment Guarantee Agency, the International Finance Corporation, the Inter-American Development Bank, the Asian Development Bank, the African Development Bank, the European Bank for Reconstruction and Development, the European Investment Bank, the European Investment Fund, the Nordic Investment Bank, the Caribbean Development Bank, the Islamic Development Bank, the Council of Europe Development Bank, and any other multilateral development bank that provides financing for national or regional development in which the U.S. government is a shareholder or contributing member. These specific counterparties also are not required to collect and/or post variation margin under the final margin rules of the CFTC and/or the prudential regulators.555 The Commission believes these counterparties pose minimal credit risk and,
therefore, it is an appropriate trade￾off to except them from the margin requirements (which are designed to protect the nonbank SBSD from counterparty risk) in order to eliminate the potential competitive disparities and operational burdens of treating them differently than under the rules of the CFTC and the prudential regulators.556 The exception for sovereign entities is more limited. Specifically, the final rule excepts a nonbank SBSD from collecting initial margin from a counterparty that is a sovereign entity if the nonbank SBSD has determined that the

557See paragraph (c)(1)(iii)(F) of Rule 18a–3, as adopted. The exception applies to a counterparty that is a central government (including the U.S. government) or an agency, department, ministry, or central bank of a central government if the security￾based swap dealer has determined that the counterparty has only a minimal amount of credit risk pursuant to policies and procedures established pursuant to Rule 15c3–1 or 18a–1 (as applicable). 558See Removal of Certain References to Credit Ratings Under the Securities Exchange Act of 1934, Exchange Act Release No. 71194 (Dec. 27, 2013), 79 FR 1522 (Jan. 8, 2014) (discussing the ‘‘minimal amount of credit risk’’ standard). See also paragraph (c)(2)(vi)(I) of Rule 15c3–1. 559See CFTC Margin Adopting Release, 81 FR at 642; Prudential Regulator Margin and Capital Adopting Release, 80 FR at 74855. 560See American Benefits Council, et al. 1/29/ 2013 Letter. 561See Financial Services Roundtable Letter; ISDA 1/23/2013 Letter; ISDA 2/5/2014 Letter; SIFMA 2/22/2013 Letter; SIFMA 3/12/2014 Letter. 562See Financial Services Roundtable Letter; ISDA 1/23/2013 Letter. 563See SIFMA AMG 2/22/2013 Letter. 564See Coalition for Derivatives End-Users 2/22/ 2013 Letter. 565See SIFMA 3/12/2014 Letter. 566See ICI 11/19/2018 Letter; ISDA 11/19/2018 Letter; ISDA, SIFMA, American Bankers Association, et al. 9/12/18 Letter; SIFMA 11/19/ 2018 Letter; SIFMA AMG 11/19/2018 Letter. These commenters generally supported that the Commission only require counterparties with ‘‘material swaps exposure’’ to post initial margin. 567See Financial Services Roundtable Letter; ISDA 2/5/2014 Letter; Letter from Lutz-Christian Funke, Senior Vice President, and Frank Czichowski, Senior Vice President and Treasurer, KfW Bankengruppe (Dec. 19, 2012) (‘‘KfW Bankengruppe Letter’’); SIFMA 2/22/2013 Letter; SIFMA 3/12/2014 Letter; World Bank Letter. 568See CFA Institute Letter. This commenter specifically opposed exceptions for small banks, savings associations, farm credit system institutions, credit unions and foreign governments. 569See Letter from William J. Harrington (May 12,
2015) (‘‘Harrington 5/12/2015 Letter’’).
570As discussed above, while paragraphs (c)(4) and (5) of Rule 18a–3, as adopted, respectively require netting and collateral agreements to be in place, the rule does not impose a specific margin documentation requirement as do the margin rules of the CFTC and the prudential regulators. Consequently, an existing netting or collateral agreement with a counterparty that was entered into by the nonbank SBSD in order to comply with the margin documentation requirements of the CFTC or the prudential regulators will suffice for the purposes of Rule 18a 3, as adopted, if the agreement meets the requirements of paragraph (c)(4) or (5), as applicable. 571See Capital, Margin, and Segregation Proposing Release, 77 FR at 70270–71. 572The nonbank MSBSP would need to deliver cash, securities, and/or money market instruments and, consequently, under the proposal, other types of assets would not be eligible as collateral. counterparty has only a minimal amount of credit risk pursuant to policies and procedures or credit risk models established under applicable net capital rules for nonbank SBSDs.557 The final capital rules for nonbank SBSDs require these entities to have policies and procedures for assessing the creditworthiness of certain types of securities or money market instruments for purposes of applying standardized haircuts.558 The rules also require firms authorized to use models to compute haircuts to have a model for determining credit risk charges. The firms will need to use these policies and procedures or models (as applicable) to determine whether a sovereign entity has a minimal amount of credit risk in order to apply this exception. A sovereign entity that the nonbank SBSD has determined has a minimal amount of credit risk for purposes of the nonbank capital rules would qualify for the initial margin exception in Rule 18a–3. Nonbank SBSDs must collect variation margin from and deliver variation margin to counterparties that are sovereign entities under the final rule. In contrast, the final margin rules of the CFTC and the prudential regulators do not require an SBSD or swap dealer to exchange variation margin with a counterparty that is a sovereign entity.559 Collecting variation margin from sovereign entity counterparties is an important means of managing credit exposure to these entities and limiting the amount of unsecured receivables that comprise the firm’s capital. As discussed above, in contrast to the multilateral development banks identified in the rule, the Commission believes that the exception for sovereign entities should be more limited given the wide range of potential counterparties in this category and their differing levels of creditworthiness. Limiting the exception for sovereign entities and requiring that these counterparties post variation margin will help ensure the safety and soundness of nonbank SBSDs. Therefore, the Commission does not believe it is appropriate to except such counterparties from the variation margin
requirements of the final rule. Requests for Other Exceptions Commenters suggested that the Commission except other counterparties from the margin requirements in Rule 18a–3. The proposed exceptions included: Pension plans; 560 securitization and similar special purpose vehicles; 561 state and municipal government entities; 562 low risk financial end users; 563 financial end users such as captive financial affiliates and mutual life insurance companies; 564 emerging market counterparties that constitute only a certain percentage of a nonbank SBSD’s volume; 565 and counterparties trading non-cleared derivatives below a certain notional amount (e.g., financial end users without material swaps exposure).566 Other commenters suggested that the Commission adopt exceptions to the margin requirements recommended in the BCBS/IOSCO Paper, including for entities that have less than a specified gross notional amount of outstanding non-centrally cleared swaps.567 A commenter opposed any exceptions, arguing that exceptions for certain market participants were a significant contributor to the systemic risk disruptions during the 2008 financial crisis.568 A commenter specifically opposed exceptions for asset-backed security issuers.569 The Commission does not believe it is necessary or prudent to establish special exceptions for these specific types of counterparties. The Commission acknowledges that not establishing special exceptions for some of these types of counterparties may lead to different margin requirements across both foreign and domestic regulators. On balance, however, the Commission believes that, given the funding profiles of nonbank SBSDs and the role of margin in promoting liquidity and self￾sufficiency and managing credit exposure, the expansion of the exceptions in the manner suggested by commenters would not be prudent. The addition of the fixed-dollar $50 million threshold exception should provide relief to many of these counterparties from the requirement to deliver initial margin. Moreover, as discussed above, the Commission is providing SBSDs with a deferral period that should provide sufficient time for them and their counterparties to implement any documentation, custodial, or operational arrangements that they deem necessary to comply with Rule 18a–3.570
ii. Nonbank MSBSPs
As discussed earlier, proposed Rule 18a–3 required a nonbank MSBSP to calculate as of the close of each business day the amount of equity in the account of each counterparty to a non-cleared security-based swap.571 By noon of the next business day, the nonbank MSBSP was required to either collect or deliver cash, securities, and/or money market instruments to the counterparty depending on whether there was negative or positive equity in the account of the counterparty.572 In other words, the nonbank MSBSP was required to either collect or deliver variation margin but not required to collect or deliver initial margin. The proposed rule did not require the nonbank MSBSP to apply the

573See CFA Institute Letter.
574See paragraph (c)(2)(iii)(A) of Rule 18a–3, as adopted. In the final rule, the phrase ‘‘an account of’’ was inserted before the phrase ‘‘a counterparty’’ to more closely align the text with paragraph (c)(1)(iii)(A) of the final rul. 575See AFGI 2/15/2013 Letter; AFGI 7/22/2013 Letter. 576See AFGI 2/15/2013 Letter; AFGI 7/22/2013 Letter. 577See paragraph (c)(2)(iii)(B) of Rule 18a–3, as adopted. In the final rule, the Commission deleted the phrase ‘‘of a counterparty that is not a commercial end user’’ from this paragraph because the phrase is redundant, as an exception for commercial end users is contained in paragraph (c)(2)(iii)(A) of Rule 18a–3, as adopted. The exception for legacy accounts has been re￾designated paragraph (c)(2)(iii)(B) of Rule 18a–3, as adopted, since the exception for SBSDs was deleted from the final rule. Finally, the word ‘‘legacy’’ was moved to before the word ‘‘account’’ to align the phrase with the definition in paragraph (b)(6) of Rule 18a–3, as adopted. 578See paragraph (c)(2)(ii) of Rule 18a–3, as adopted. 579See paragraph (c)(4) of Rule 18a–3, as adopted (applying its provisions to nonbank SBSDs and MSBSPs). 580See paragraph (c)(2)(iii)(C) of Rule 18a–3, as adopted. 581See paragraph (c)(2)(iii)(D) of Rule 18a–3, as adopted. 582See CFA Institute Letter. standardized haircuts to securities or money market instruments when calculating the variation margin requirement for an account because the proposed capital rule for these entities did not use standardized haircuts (or model-based haircuts). Under the proposal, a nonbank MSBSP was subject to certain of the account equity requirements that applied to nonbank SBSDs and were discussed above. First, the types of assets that could be used to meet the nonbank MSBSP’s obligation to either collect or deliver variation margin were limited to cash, securities, or money market instruments. Second, the nonbank MSBSP was subject to the additional collateral requirements designed to ensure that the collateral was of stable and predictable value, not linked to the value of the transaction in any way, and capable of being sold quickly and easily if the need arises. Third, the nonbank MSBSP was subject to the requirement to take prompt steps to liquidate collateral consisting of securities or money market instruments to the extent necessary to eliminate an account equity deficiency (though the measure of a deficiency related solely to required variation margin, as these entities were not required to collect initial margin). Proposed Rule 18a–3 also provided exceptions under which a nonbank MSBSP was not required to collect and, in some cases, deliver variation margin. The first exception applied to counterparties that were commercial end users. Under this exception, the nonbank MSBSP was not required to collect variation margin from the commercial end user. The second exception applied to counterparties that were SBSDs. Under this exception, the nonbank MSBSP was not required to
collect variation margin from the SBSD. However, under proposed Rule 18a–3, a nonbank SBSD was required to collect variation and initial margin from an MSBSP. The third exception applied to legacy accounts. Under this exception, the nonbank MSBSP was not required to collect or deliver variation margin with respect to positions in a legacy account. The fourth exception was the $100,000 minimum transfer amount provision. Under this exception, the nonbank MSBSP was not required to collect or deliver variation margin if the margin requirement was less than $100,000. Comments and Final Account Equity Requirements for Nonbank MSBSPs A commenter stated that nonbank MSBSPs should be required to apply haircuts to the value of securities and money market instruments when determining whether the level of equity in the account meets the minimum requirement.573 Under the final rules being adopted today, nonbank MSBSPs are not subject to a capital standard that uses standardized or model based haircuts. Consequently, the Commission believes it would not be appropriate to require these firms to apply the standardized haircuts to the variation margin they receive from counterparties. The Commission did not receive any specific comments on the commercial end user exception and is adopting it as proposed, with a non-substantive modification.574 As discussed above, however, the Commission modified the definition of ‘‘commercial end user’’ as a result of amendments to Section 15F(e) of the Exchange Act. The Commission did not receive any specific comments on the exception for SBSD counterparties. The Commission, however, is removing this exception from the final rule because it is unnecessary. The final rule requires nonbank SBSDs to collect and post variation margin with respect to most counterparties including nonbank MSBSPs, and, consequently, a specific exception from collecting variation margin from nonbank SBSDs would be inconsistent with the requirement that they deliver variation margin to counterparties, including nonbank MSBSPs. Several commenters supported the Commission’s proposed legacy account exception for nonbank MSBSPs.575 Commenters stated that applying the new rules to legacy accounts would be highly disruptive as the underlying agreements were negotiated based on the law in effect at the time of execution, and that, specifically, financial guarantee insurers are subject to extensive regulation by state insurance companies, and their security-based swap guarantees reflect the restrictions and obligations imposed by those regimes.576 The Commission is adopting the legacy account exception for nonbank MSBSPs substantially as proposed.577 The Commission is making several conforming modifications to the account equity requirements for nonbank MSBSPs in light of modifications made to the account equity requirements for nonbank SBSDs discussed above in
section II.B.2.i. of this release. First, the
final rule provides that the nonbank MSBSP must collect or deliver variation margin by the close of business on the next business day following the day of the calculation, except that the collateral can be collected or delivered by the close of business on the second business day following the day of the calculation if the counterparty is located in another country and more than four time zones away.578 Second, the modifications to the collateral requirements in paragraph (c)(4) of Rule 18a–3, as adopted, apply to nonbank MSBSPs, including that the collateral to meet a margin requirement must consist of cash, securities, money market instruments, a major foreign currency, the security of settlement of the non￾cleared security-based swap, or gold.579 Third, the final rule includes an exception from collecting variation margin if the counterparty is the BIS, the European Stability Mechanism, or one of the multilateral development banks identified in the rule (there is no exception from delivering variation margin to these types of counterparties).580 Fourth, the Commission is making the minimum transfer amount a specific exception to the account equity requirements for nonbank MSBSPs and raising the amount from $100,000 to $500,000.581 Finally, a commenter stated that commercial end users do not normally operate under the fiduciary obligations applicable to financial firms for the safekeeping of client funds and, therefore, are unequipped to handle collateral while a contract is open.582 Therefore, the commenter suggested that margin that a nonbank MSBSP is required to deliver to a commercial end user be held at a third-party custodian. In response, the final rules do not

583See paragraphs (c)(2)(ii) and (iii) of Rule 18a– 3, as adopted. 584See Capital, Margin, and Segregation Proposing Release, 77 FR at 70272–70273. 585See paragraph (e) of Rule 18a–3, as adopted. 586Section 771 of the Dodd-Frank Act states that unless otherwise provided by its terms, its provisions relating to the regulation of the security￾based swap market do not divest any appropriate Federal banking agency, the Commission, the CFTC, or any other Federal or State agency, of any authority derived from any other provision of applicable law. 587See Broker-Dealers; Maintenance of Certain Basic Reserves, Exchange Act Release No, 9856 (Nov. 29, 1972), 37 FR 25224, 25226 (Nov. 29, 1972). 588See Rule 18a–4, as adopted; Rule 18a–4a, as adopted. See also undesignated introductory paragraph to Rule 18a–4, as adopted (stating that the rule applies to stand-alone SBSDs registered as OTC derivatives dealers). 589See paragraph (p) of Rule 15c3–3, as amended; Rule 15c3–3b, as adopted. prevent a nonbank MSBSP from entering into an agreement with a commercial end user under which variation margin required to be delivered to the commercial end user is held at a third-party custodian. For the foregoing reasons, the Commission is adopting the proposed account equity requirements for nonbank MSBSPs with the modifications discussed above.583
c. Risk Monitoring and Procedures
Under proposed Rule 18a–3, a nonbank SBSD was required to monitor the risk of the positions in the account of each counterparty to a non-cleared security-based swap and establish, maintain, and document procedures and guidelines for monitoring those risks.584 The nonbank SBSD also was also required to review, in accordance with written procedures, and at reasonable periodic intervals, its non-cleared security-based swap activities for consistency with the risk monitoring procedures and guidelines. The Commission did not receive any comments on these proposed requirements and for the reasons discussed in the proposing release is adopting them as proposed.585
C. Segregation

1. Background
   The Commission is adopting security￾based swap segregation requirements for SBSDs and stand-alone broker-dealers pursuant to Sections 3E and 15(c)(3) of the Exchange Act.586 Section 3E(b) of the Exchange Act provides that, for cleared security-based swaps, the money, securities, and property of a security-based swap customer shall be separately accounted for and shall not be commingled with the funds of the broker, dealer, or SBSD or used to margin, secure, or guarantee any trades or contracts of any security-based swap customer or person other than the person for whom the money, securities, or property are held. However, Section 3E(c)(1) of the Exchange Act also provides that, for cleared security-based swaps, customers’ money, securities, and property may, for convenience, be commingled and deposited in the same one or more accounts with any bank, trust company, or clearing agency.
   Section 3E(c)(2) further provides that,
   notwithstanding Section 3E(b), in accordance with such terms and conditions as the Commission may prescribe by rule, regulation, or order, any money, securities, or property of the security-based swaps customer of a broker, dealer, or SBSD described in
   Section 3E(b) may be commingled and
   deposited as provided in Section 3E with any other money, securities, or property received by the broker, dealer, or SBSD and required by the Commission to be separately accounted for and treated and dealt with as belonging to the security-based swaps customer of the broker, dealer, or SBSD.
   Section 3E(f) of the Exchange Act
   establishes a program by which a counterparty to non-cleared security￾based swaps with an SBSD or MSBSP can elect to have initial margin held at an independent third-party custodian (individual segregation). Section 3E(f)(4) provides that if the counterparty does not choose to require segregation of funds or other property (i.e., waives segregation), the SBSD or MSBSP shall send a report to the counterparty on a quarterly basis stating that the firm’s back office procedures relating to margin and collateral requirements are in compliance with the agreement of the counterparties. The statutory provisions of Sections 3E(b) and (f) are self￾executing. Finally, Section 15(c)(3)(A) of the Exchange Act provides, in pertinent
   part, that no broker-dealer shall make
   use of the mails or any means or instrumentality of interstate commerce to effect any transaction in, or to induce or attempt to induce the purchase or sale of, any security (other than an exempted security (except a government security) or commercial paper, bankers’ acceptances, or commercial bills) in contravention of such rules and regulations as the Commission shall prescribe as necessary or appropriate in the public interest or for the protection of investors to provide safeguards with respect to the financial responsibility and related practices of brokers-dealers including, but not limited to, the acceptance of custody and use of customers’ securities and the carrying and use of customers’ deposits or credit balances. The statute further provides, in pertinent part, that the rules and regulations shall require the maintenance of reserves with respect to customers’ deposits or credit balances. The Commission adopted Rule 15c3–3 pursuant to this authority in Section 15(c)(3)(A) of the Exchange Act.587 The Commission is adopting omnibus segregation requirements pursuant to which money, securities, and property of a security-based swap customer relating to cleared and non-cleared security-based swaps must be segregated but can be commingled with money, securities, or property of other customers. The omnibus segregation requirements for stand-alone SBSDs (including firms registered as OTC derivatives dealers) and bank SBSDs are codified in Rules 18a–4 and 18a–4a.588 The omnibus segregation requirements for stand-alone broker-dealers and broker-dealer SBSDs are codified in amendments to Rules 15c3–3 and 15c3– 3b.589 The omnibus segregation requirements are mandatory with respect to money, securities, or other property relating to cleared security￾based swaps that is held by a stand￾alone broker-dealer or SBSD (i.e., customers cannot waive segregation). With respect to non-cleared security￾based swap transactions, the omnibus segregation requirements are an alternative to the statutory provisions discussed above pursuant to which a counterparty can elect to have initial margin individually segregated or to waive segregation. However, under the final omnibus segregation rules for stand-alone broker-dealers and broker￾dealer SBSDs in Rule 15c3–3, counterparties that are not an affiliate of the firm cannot waive segregation. Affiliated counterparties of a stand￾alone broker-dealer or broker-dealer SBSD can waive segregation. Under
   Section 3E(f) of the Exchange Act and
   Rule 18a–4, all counterparties (affiliated and non-affiliated) to a non-cleared security-based swap transaction with a stand-alone or bank SBSD can waive segregation. The omnibus segregation requirements are the ‘‘default’’ requirement if the counterparty does not elect individual segregation or to waive segregation (in the cases where a counterparty is permitted to waive segregation). As discussed below in
   section II.E.2. of this release, Rule 18a–
   4 also has exceptions pursuant to which a foreign stand-alone or bank SBSD or MSBSP need not comply with the

590A broker-dealer dually registered as an MSBSP will be subject to the omnibus segregation requirements in Rule 15c3–3 by virtue of being a broker-dealer. 591See 15 U.S.C. 78c–5(f). 592See Letter from Kathleen M. Cronin, Senior Managing Director, General Counsel, CME Group Inc. (Feb. 22, 2013) (‘‘CME Letter’’). 593See Capital, Margin, and Segregation Comment Reopening, 83 FR at 53016. 594See SIFMA 11/19/2018 Letter. 595See FIA 11/19/2018 Letter. 596See Better Markets 11/19/2018 Letter; ISDA 11/19/2018 Letter. 597SIFMA 11/19/2018 Letter. 598Combining security-based swap transactions, particularly non-cleared security-based swap transactions, with other securities positions for purposes of the reserve account calculation would mean that credit items owed to retail customers could be used to fund debits relating to non-cleared security-based swap transactions. The Commission Continued segregation requirements (including the omnibus segregation requirements) for certain transactions. The omnibus segregation requirements do not apply to MSBSPs.590 However, if an MSBSP requires initial margin from a counterparty with respect to non￾cleared security-based swaps, the counterparty can request that the collateral be held at a third-party custodian pursuant to Section 3E(f) of the Exchange Act.591 As proposed, the segregation requirements for all types of SBSDs would have been codified in Rules 18a– 4 and 18a–4a. However, a commenter requested that Rule 15c3–3 be amended so that initial margin delivered to a stand-alone broker-dealer by a counterparty to a cleared security-based swap and which the stand-alone broker￾dealer in turn delivers to a clearing agency could be treated under the proposed omnibus segregation requirements.592 In the 2018 comment reopening, the Commission asked whether omnibus segregation requirements parallel to those in proposed Rule 18a–4 should be codified in Rule 15c3–3, in which case they would apply to stand-alone broker￾dealers and broker-dealer SBSDs.593 One commenter argued that the Commission should apply the omnibus segregation requirements of Rule 15c3– 3 to a broker-dealer SBSD, but recommended a single possession or control requirement for all positions, including those that are portfolio margined.594 Another commenter supported the integration of security￾based swap segregation requirements for stand-alone broker-dealers into Rule 15c3–3, including the express recognition in Rule 15c3–3 of margin posted by a stand-alone broker-dealer to a clearing agency.595 Other commenters stated that the Commission should consider raising segregation requirements to achieve regulatory consistency, or harmonize rules with other regulators to avoid operational issues that could fragment the security￾based swap market.596 The Commission believes it is appropriate to codify the omnibus segregation requirements for stand-alone broker-dealers and broker-dealer SBSDs in Rules 15c3–3 and 15c3–3b. Absent this modification, a stand-alone
broker￾dealer that engages in security-based swap activity would continue to be subject to the segregation requirements of Rules 15c3–3 and 15c3–3a as they existed prior to today’s amendments. However, as discussed in more detail below, these pre-existing requirements are not tailored to security-based swaps in the way that the omnibus segregation requirements are tailored. Consequently, by codifying the omnibus segregation requirements in Rules 15c3–3 and 15c3– 3b, stand-alone broker-dealers also will be subject to the tailored requirements and will meet their pre-existing segregation obligations through them. Furthermore, Section 3E(b) of the Exchange Act imposes self-executing segregation requirements on stand-alone broker-dealers (as well as SBSDs) that would place strict restrictions on, and not permit the commingling of, collateral for a cleared security-based swap unless the Commission, pursuant to Section 3E(c), permits it by rule, regulation, or order. The omnibus segregation requirements being adopted in Rules 15c3–3 and 15c3–3b will permit stand-alone broker-dealers to commingle this collateral and take other actions with respect to it that otherwise would have been prohibited. Thus, the Commission believes that stand-alone broker-dealers will benefit by being subject to more tailored and flexible segregation requirements. As discussed above, non-affiliated customers of a stand-alone broker-dealer or broker-dealer SBSD will not be permitted to waive segregation. Section 15(c)(3) of the Exchange Act does not have a provision that is analogous to
Section 3E(f)(4), which provides that if
the counterparty does not choose to require segregation of funds or other property with respect to non-cleared swaps, the SBSD or MSBSP shall send a report to the counterparty on a quarterly basis stating that the firm’s back office procedures relating to margin and collateral requirements are in compliance with the agreement of the counterparties. Under Section 15(c)(3) of the Exchange Act and Rule 15c3–3 thereunder, persons—other than affiliates—are not permitted to waive segregation. This reflects the important protection that segregation provides to customers. It also serves to promote the safety and soundness of stand-alone broker-dealers. Segregating securities and cash of customers makes these assets readily available to be returned to the customers and therefore makes it more likely that a stand-alone broker￾dealer (and a broker-dealer SBSD) can meet its obligations to the customers. Thus, segregation protects customers and supports the liquidity of stand￾alone broker-dealers (and will have the same effect on broker-dealer SBSDs). Moreover, segregation reduces the risk that customers will ‘‘run’’ on a stand￾alone broker-dealer when it is experiencing financial difficulty or the securities markets are in turmoil (and will have the same effect on broker￾dealer SBSDs). Customers whose assets are being segregated know that the assets are being protected. Conversely, persons whose assets are not being segregated may act precipitously to withdraw them from a firm if they perceive that the firm is experiencing financial difficulty or the markets are in turmoil. This could put severe liquidity pressure on the firm, particularly since the assets these persons are seeking to withdraw may not be readily available to the firm (e.g., they may be re￾hypothecated or serving as collateral for loans to the broker-dealer). Affiliates are less likely to create this ‘‘run’’ risk as they will have more information about the financial condition of the firm and their shared parent holding company. In addition, as discussed below, a number of commenters have raised questions about how claims would be handled in the liquidation of a broker￾dealer SBSD. In addition, one commenter argued that stand-alone broker-dealers and broker-dealer SBSDs should be subject to a single set of omnibus segregation requirements for security-based swaps and related cash and all other types of securities and related cash.597 This commenter argued that separating security-based swap positions from all other security positions for purposes of the possession or control and reserve account requirements of the omnibus segregation rule could foster legal uncertainty in a SIPA liquidation. As discussed below in sections II.C.3.a. and II.C.3.b. of this release, the Commission does not believe at this time that security-based swaps should be combined with other types of securities positions for the purposes of the possession or control and reserve account calculations.598

does not believe that retail customers should be subject to this risk. 599See paragraph (p)(1)(vi) of Rule 15c3–3, as amended. 600See paragraph (p)(4)(ii)(B) of Rule 15c3–3, as amended. 601See, e.g., Letter from Angie Karna, Managing Director, Legal, Nomura Global Financial Products, Inc. (Sept. 10, 2014) (‘‘Nomura Letter’’); SIFMA AMG 2/22/2013 Letter. 602See SIFMA AMG 2/22/2013 Letter. 603See Protection of Cleared Swaps Customer Contracts and Collateral; Commodity Broker Bankruptcy Provisions, 77 FR 6336 (Feb. 7, 2012). 604See 15 U.S.C. 78lll(2). 605See paragraph (f) of Rule 18a–4, as adopted. However, the Commission does share the commenter’s concern about taking steps to avoid legal uncertainty. In this regard, customers could be harmed in cases where a stand-alone broker-dealer or broker-dealer SBSD that holds cash and securities for persons who waived segregation with respect to their non￾cleared security-based transactions, but did not (because they could not) waive segregation with respect to cash and securities that are not related to non￾cleared security-based swap transactions. More specifically, there could be questions about the status of a particular person’s claim in a liquidation proceeding and potentially result in the amount of cash and securities that were segregated by the stand-alone broker-dealer or broker￾dealer SBSD being insufficient to satisfy the claims of all persons who a court ultimately determines are customers under SIPA and are entitled to a pro rata share of customer property. For these reasons, the omnibus segregation requirements are being codified in Rule 15c3–3 to apply to stand-alone broker-dealers and broker￾dealer SBSDs with a limitation that non￾affiliates cannot waive segregation with respect to non-cleared security-based swap transactions (in addition to not being able to waive segregation with respect to all other securities transactions). In order to implement this limitation, the Commission is modifying the subordination provisions in the final rule to provide that only an affiliate of the stand-alone broker-dealer or broker￾dealer SBSD can waive segregation with respect to non-cleared security-based swap transactions. In particular, the Commission is modifying the definition of ‘‘security-based swap customer’’ to provide that, with respect to persons who subordinate their claims, the term excludes an affiliate of the stand-alone broker-dealer or broker-dealer SBSD.599 Thus, a person who is not an affiliate will be a ‘‘security-based swap customer’’ (regardless of whether the person attempts to subordinate) and therefore cash and securities of the customer related to non-cleared security-based swaps will be subject to the omnibus segregation requirements. The Commission is making a conforming amendment to the requirement that the stand-alone broker￾dealer or broker-dealer SBSD obtain a subordination agreement from a person who waives segregation with respect to non-cleared security-based swaps to
provide that the provision applies to affiliates that waive segregation because persons who are not affiliates cannot waive segregation.600 Commenters sought clarification on how customer collateral held by an SBSD as initial margin to secure a security-based swap would be treated in the event of the SBSD’s insolvency.601 A commenter requested clarification on how counterparties to an entity that is both an SBSD and CFTC-regulated swap dealer would be treated in the event of the insolvency of the firm.602 The same commenter stated that it is unclear how claims of a security-based swap customer of a broker-dealer SBSD would be treated relative to the claims of other types of customers of the firm, including whether security-based swaps would be subject to SIPA protections. In response to commenters’ requests for clarification, Section 3E(g) of the Exchange Act applies the customer protection elements of the stockbroker liquidation provisions to cleared security-based swaps and related collateral, and to collateral delivered as margin for non-cleared security-based swaps if collateral is subject to a customer protection requirement under
Section 15(c)(3) of the Exchange Act or
a segregation requirement. The Dodd￾Frank Act also amended the U.S. Bankruptcy Code, and the CFTC has promulgated rules to implement that amendment, to provide the protections of Subchapter IV of Chapter 7 of the Bankruptcy Code and CFTC Regulation
Part 190 to collateral associated with
cleared swaps.603 Finally, SIPA protects customers of SIPC-member broker￾dealers. SIPA defines a ‘‘customer’’ as any person (including any person with whom the broker-dealer deals as principal or agent) who has a claim on account of securities received, acquired, or held by the broker-dealer in the ordinary course of its business as a broker-dealer from or for the securities accounts of such person for safekeeping, with a view to sale, to cover consummated sales, pursuant to purchases, as collateral, security, or for purposes of effecting transfer.604 The omnibus segregation requirements will apply to stand-alone broker-dealers and broker-dealer SBSDs pursuant to new paragraph (p) of Rule 15c3–3, as discussed above. They also will apply to stand-alone and bank SBSDs if they elect to clear security￾based swap transactions for other persons or otherwise do not meet the conditions of the exemption discussed below in section II.C.2. of this release. In this regard, Section 3E of the Exchange Act authorizes the Commission to promulgate segregation rules for all types of SBSDs. In contrast,
Section 15F of the Exchange Act
authorizes the prudential regulators to promulgate capital and margin rules for bank SBSDs. Further, the requirements of the prudential regulators with respect to segregating initial margin apply to non-cleared security-based swaps (i.e., they do not address cleared security￾based swaps). As discussed above, with respect to cleared security-based swaps,
Section 3E(b) of the Exchange Act
imposes self-executing segregation requirements on stand-alone broker￾dealers and SBSDs that place strict restrictions on, and do not permit the commingling of, collateral for a cleared security-based swap unless the Commission, pursuant to Section 3E(c), permits it by rule, regulation, or order. Therefore, the Commission believes the statute itself imposes strict segregation requirements on bank SBSDs with respect to cleared security-based swaps in the absence of Commission rulemaking. The Commission’s omnibus segregation requirements implement
Section 3E(c) in a manner that is
designed to protect security-based swap customers, but in a tailored way that will permit stand-alone broker-dealers and SBSDs to commingle collateral with respect to cleared security-based swaps and take other actions with respect to the collateral that otherwise would have been prohibited. Consequently, bank SBSDs (along with nonbank SBSDs and stand-alone broker-dealers) will benefit from the flexibility offered by the omnibus segregation requirements to the extent they elect to clear security-based swap transactions for other persons. However, as noted above and discussed below in section II.C.2. of this release, stand-alone and bank SBSDs will be exempt from the omnibus segregation requirements of Rule 18a–4 under certain conditions, including that they do not clear security-based swaps for other persons.605 The Commission expects that bank SBSDs will operate under this exemption, because in order to clear swaps for other persons they would need to be registered as an FCM, which would subject them to CFTC capital requirements in addition to the

606See MFA 2/22/2013 Letter (citing Regulation (EU) No. 648/2012 of the European Parliament of the Council on OTC derivative transactions, central counterparties and trade repositories (July 4, 2012)). 607See ICI 2/4/2013 Letter. 608See CFA Institute Letter. 609See AIMA 2/22/2013 Letter; MFA 2/22/2013 Letter; SIFMA AMG 2/22/2013 Letter; Vanguard Letter. 610See Protection of Cleared Swaps Customer Contracts and Collateral; Commodity Broker Bankruptcy Provisions, 77 FR 6336. 611See SIFMA 2/22/2013 Letter. 612See SIFMA 11/19/2018 Letter. 613See paragraphs (a) and (o) of Rule 15c3–3; Rule 15c3–3a. 614See CFA Institute Letter. 615See CFA Institute Letter. 616See Section 3(a)(71) of the Exchange Act (defining the term ‘‘security-based swap dealer’’); Entity Definitions Adopting Release, 77 FR 30596; Registration Process for Security-Based Swap Dealers and Major Security-Based Swap Participants, 80 FR 48964. 617See Capital, Margin, and Segregation Comment Reopening, 83 FR at 53016. capital requirements imposed by their prudential regulator. Commenters recommended that the Commission adopt individual segregation requirements for cleared security-based swaps. A commenter stated that the European Commission has finalized regulations mandating that central counterparties allow customers to choose between omnibus segregation and individual segregation for their cleared derivatives assets and positions.606 A second commenter stated that if the stand-alone broker￾dealer or SBSD defaults, any cleared security-based swap customer collateral that is individually segregated would likely be outside the estate of the stand￾alone broker-dealer or SBSD for bankruptcy purposes, thereby facilitating customers’ retrieval of their collateral.607 This commenter also indicated that cleared security-based swap customers registered with the Commission under the Investment Company Act of 1940 may be precluded from having their collateral held at an SBSD that is not a bank. A third commenter argued that collateral posted as margin should be segregated by client, rather than on an omnibus basis.608 A number of these commenters advocated that the Commission modify its proposal for cleared security-based swaps to allow for the approach adopted by the CFTC, known as legal separation with operational comingling (‘‘LSOC’’).609 Under the CFTC’s LSOC rules, the collateral of multiple cleared swap customers can be commingled in one account.610 Implementing an individual segregation regime for cleared security￾based swaps, including an LSOC-like approach, would require implementing new rules governing the treatment of collateral held by clearing agencies. For example, under the CFTC’s rules, the DCO and the FCM that is a member of the DCO must take certain steps to ensure that the collateral attributable to non-defaulting swap customers is not used to pay for obligations arising from other defaulting swap customers. Implementing such rules would be outside the scope of this rulemaking,
which involves segregation requirements for SBSDs (not clearing agencies). A commenter requested clarification as to how property remaining in a portfolio margin account of a security￾based swap customer should be treated when all the security-based swap positions in the account are temporarily closed out or expire before the customer enters into a new security-based swap transaction.611 As noted above, this commenter also argued that the Commission should apply the omnibus segregation requirements of Rule 15c3– 3 to a broker-dealer SBSD, but recommended a single possession or control requirement for all positions, including those that are portfolio margined.612 As stated above, implementing portfolio margining will require further coordination with the CFTC. If the entity is a broker-dealer, the security-based swap customer could request that cash and securities in the security-based swap account be transferred to a traditional securities account, in which case it would be subject to the segregation requirements of Rules 15c3–3 and 15c3–3a that existed prior to today’s amendments.613 A commenter argued that swaps should be permitted to be held in a security￾based swap account to facilitate portfolio margining for related or offsetting positions in the account.614 As discussed above with respect to Rule 18a–3, the Commission has modified the rule to accommodate portfolio margining of security-based swaps and swaps. A commenter stated that if MSBSPs are not required to comply with the proposed omnibus segregation requirements, many firms will apply to register as MSBSPs as a way to circumvent them.615 The Commission does not agree. First, Section 3E(a) of the Exchange Act makes it unlawful for a person to accept any money, securities, or property (or to extend credit in lieu thereof) from, for, or on behalf of a security-based swap customer to margin, guarantee, or secure a cleared security-based swap unless the person is registered as a broker-dealer or an SBSD. This prohibition severely limits the activities a stand-alone MSBSP can engage in with respect to effecting transactions for cleared security-based swap customers (as compared to the activities permitted of broker-dealers and SBSDs). Second, the omnibus segregation requirements as applied to non-cleared security-based swaps are designed to provide a third segregation option to security-based swap customers in addition to the statutory options of individual segregation or waiving segregation altogether. The Commission believes that SBSDs will favor having the ability to utilize this third option. Third, a firm with security-based swap activity exceeding the de minimis threshold must register as an SBSD.616 A firm that does not want to comply with the omnibus segregation requirements by virtue of being an SBSD will need to restrict its activities to stay below the de minimis threshold. For these reasons, the Commission does not believe firms will seek to register as MSBSPs to avoid the
omnibus segregation requirements. Moreover, MSBSPs will be subject to the self-executing segregation provisions in Section 3E(f) of the Exchange Act for collateral relating to non-cleared security-based swap transactions, and, consequently, their customers can request individual segregation. Therefore, an MSBSP will be subject to a rigorous statutory segregation requirement. Finally, the omnibus segregation requirements may not be practical for stand-alone MSBSPs, given the potentially wide range of business models under which they may operate, and the uncertain impact that requirements designed for broker￾dealers could have on these commercial entities. For the reasons discussed above, the Commission is adopting the omnibus segregation requirements for SBSDs modeled on the segregation requirements for broker-dealers but, as discussed below, with an exemption for stand-alone and bank SBSDs if they meet the conditions in the final rule, including that they do not clear security-based swaps transactions for other persons.
2. Exemption
In the 2018 comment reopening, the Commission asked whether there are aspects of the proposed omnibus segregation requirements where greater clarity regarding the operation of the rule would be helpful.617 One commenter supported the use of third￾party custodians to avoid the omnibus

618See American Council of Life Insurers 11/19/ 2018 Letter. 619See Morgan Stanley 11/19/2018 Letter; SIFMA 11/19/2018 Letter. 620See Morgan Stanley 11/19/2018 Letter. 621This commenter also recommended that if the Commission wants to ensure that non-cleared security-based swap counterparties can have their collateral protected at a Commission registrant, a more appropriate way to do so would be to permit a stand-alone SBSD to provide non-cleared security￾based swap clients with the option of placing initial margin at a full-purpose broker-dealer affiliate. See Morgan Stanley 11/19/2018 Letter. 622See SIFMA 11/19/2018 Letter. 623See IIB 11/19/2018 Letter. 624See Financial Services Roundtable Letter; SIFMA AMG 2/22/2013 Letter. 625See SIFMA 2/22/2013 Letter. 626See paragraph (f) of Rule 18a–4, as adopted. 627See paragraph (f)(1) of Rule 18a–4, as adopted. 628See paragraph (f)(2) of Rule 18a–4, as adopted. 629See 15 U.S.C. 78c–5(f)(1)(A). 630Compare paragraph (d)(1) of Rule 18a–4, as adopted. segregation requirements.618 Several commenters recommended that the Commission modify its final segregation requirements based on entity type and whether or not the entity offered counterparty clearing.619 More specifically, one commenter recommended that no customer protection and segregation requirements should apply to a stand-alone broker￾dealer if it does not clear security-based swap transactions.620 Instead, the firm should be required to provide certain notices to customers: (1) Regarding their right to request that initial margin related to non-cleared security-based swaps be held at a third-party custodian; and (2) disclosing that the customer has no customer claim in the event of the SBSD’s insolvency.621 Another commenter recommended that the Commission not impose the omnibus segregation requirements on bank SBSDs, foreign SBSDs, and stand￾alone SBSDs.622 This commenter argued that the proposed omnibus segregation requirements could conflict with bank liquidation or resolution schemes, could cause jurisdictional disputes, and would not be consistent with the Exchange Act. In addition, this commenter argued that the omnibus segregation requirements would impair hedging and funding activities for stand-alone SBSDs. Another commenter was concerned about the application of omnibus segregation requirements to foreign SBSDs that are not registered broker-dealers.623 With respect to non￾cleared security-based swaps, this commenter suggested that the proposed omnibus segregation requirements not apply at all. These comments echoed comments the Commission previously received opposing the application of the omnibus segregation requirements to a bank. Commenters argued that imposing the omnibus segregation requirements on banks was unnecessary because rules of the prudential regulators require initial margin for non-cleared security-based swaps to be segregated at a third-party custodian.624 One of these commenters recommended that the Commission adopt an
approach similar to that of the Department of Treasury, which exempts government securities dealers from customer protection requirements if the entity is a bank that meets certain conditions.625 The Commission is persuaded that it would be appropriate to exempt from the omnibus segregation requirements stand-alone and bank SBSDs that do not clear security-based swaps for other persons. As discussed above, the omnibus segregation requirements implement the provisions of Section 3E of the Exchange Act that require Commission rulemaking to permit SBSDs to commingle their customers’ cleared security-based swaps. If the stand-alone or bank SBSD does not clear security-based swaps for other persons then there is no need for the omnibus segregation requirements with respect to those positions. Moreover, as discussed above, with respect to non-cleared security-based swaps, the omnibus segregation requirements provide an alternative to the statutory options available to counterparties to request individual segregation or to waive segregation. Thus, counterparties will have the option of protecting their initial margin for non-cleared security￾based swaps by exercising their statutory right to individual segregation. This modification from the proposed rule is designed to mitigate commenters’ concerns that the proposed omnibus segregation requirements may conflict with bank liquidation or resolution schemes. In addition, as discussed above, Section 3E(g) of the Exchange Act applies the customer protection elements of the stockbroker liquidation provisions to cleared security-based swaps and related collateral, and to collateral delivered as initial margin for non-cleared security-based swaps if the collateral is subject to a customer protection requirement under Section 15(c)(3) of the Exchange Act or a segregation requirement. Consequently, a stand-alone SBSD that does not have cleared security-based swap customers and is not subject to a segregation requirement with respect to collateral for non-cleared security-based swaps will not implicate the stockbroker liquidation provisions. For the foregoing reasons, the final rule exempts stand-alone and bank SBSDs from the requirements of Rule 18a–4 if the SBSD meets certain conditions, including that the SBSD does not clear security-based swap transactions for other persons, provides notice to the counterparty regarding the right to segregate initial margin at an independent third-party custodian, and discloses in writing that any collateral received by the SBSD for non-cleared security-based swaps will not be subject to a segregation requirement and regarding how a claim of the counterparty for the collateral would be treated in a bankruptcy or other formal liquidation proceeding of the SBSD.626 Under the first condition, the stand￾alone or bank SBSD must not: (1) Effect transactions in cleared security-based swaps for or on behalf of another person; (2) have any open transactions in cleared security-based
swaps executed for or on behalf of another person; and (3) hold or control any money, securities, or other property to margin, guarantee, or secure a cleared security-based swap transaction executed for or on behalf of another person (including money, securities, or other property accruing to another person as a result of a cleared security￾based swap transaction).627 For the reasons discussed above, this condition will ensure that the exemption is only available to stand-alone SBSDs or bank SBSDs that do not clear security-swaps for other persons. Under the second condition, the stand-alone or bank SBSD must provide the notice required pursuant to Section 3E(f)(1)(A) of the Exchange Act in writing to a duly authorized individual prior to the execution of the first non￾cleared security-based swap transaction with the counterparty occurring after the compliance date of the rule.628
Section 3E(f)(1)(A) of the Exchange Act
provides that an SBSD and an MSBSP shall be required to notify the counterparty at the ‘‘beginning’’ of a non-cleared security-based swap transaction about the right to require segregation of the funds or other property supplied to margin, guarantee, or secure the obligations of the counterparty.629 This condition will require a stand-alone or bank SBSD to provide the notice in writing to a counterparty prior to the execution of the first non-cleared security-based swap transaction with the counterparty occurring after the compliance date.630 Consequently, the stand-alone or bank SBSD must give the notice in writing before the counterparty is required to

631See paragraph (f)(3) of Rule 18a–4, as adopted. 632See Capital, Margin, and Segregation Proposing Release, 77 FR at 70278–82. 633As discussed below, under the proposed omnibus segregation requirements, the values of these security-based swap customer securities and money market instruments held by the clearing agency needed to be included in the reserve formula calculations. deliver margin to the SBSD. This will give the counterparty an opportunity to determine whether to elect individual segregation or to waive segregation. Under the third condition, the stand￾alone or bank SBSD must disclose in writing to a counterparty before engaging in the first non-cleared security-based swap transaction with the counterparty that any margin collateral received and held by the SBSD will not be subject to a segregation requirement and how a claim of the counterparty for the collateral would be treated in a bankruptcy or other formal liquidation proceeding of the SBSD.631 This condition is designed to provide the counterparty with additional information to determine whether to elect individual segregation or to waive segregation by describing the potential consequences of waiving segregation.
3. Segregation Requirements for
Security-Based Swaps a. Possession or Control of Excess Securities Collateral
i. Requirement To Obtain Possession or
Control
Paragraph (b)(1) of Rule 15c3–3, as it existed before today’s amendments, requires a stand-alone broker-dealer that carries customer securities and cash (‘‘carrying broker-dealer’’) to promptly obtain and thereafter maintain physical possession or control of all customer fully paid and excess margin securities. Fully paid and excess margin securities, as defined in paragraphs (a)(3) and (a)(5) of the rule, respectively, generally are securities the carrying broker-dealer is carrying for customers that are not being used as collateral arising from margin loans to the customer or to facilitate a customer’s short sale of a security. Physical possession or control as used in paragraph (b)(1) of Rule 15c3–3 under these pre-existing requirements means the carrying broker-dealer cannot lend or hypothecate securities and must hold them itself or, as is more common, at a satisfactory control location. As part of the omnibus segregation requirements, the Commission proposed that SBSDs be required to promptly obtain and thereafter maintain physical possession or control of all excess securities collateral carried for the accounts of security-based swap customers.632 The Commission modeled these proposed requirements for SBSDs on the pre-existing requirements in paragraph (b)(1) of Rule 15c3–3 and intended that physical possession or control have the same meaning in terms of prohibiting the SBSD from lending or hypothecating the excess securities collateral and requiring the SBSD to hold the collateral itself or in a satisfactory control location. The term ‘‘security-based swap customer’’ was defined to mean any person from whom or on whose behalf the SBSD has received or acquired or holds funds or other property for the account of the person with respect to a cleared or non-cleared security-based swap transaction. The proposed definition excluded a person to the extent that person has a claim for funds or other property which by contract, agreement or understanding, or by operation of law, is part of the capital of the SBSD or is subordinated to all claims of security-based swap customers of the SBSD. The term ‘‘excess securities collateral’’ was defined to mean securities and money market instruments (‘‘securities collateral’’) carried for the account of a security￾based swap customer that have a market value in excess of the current exposure of the SBSD to the customer. Thus, securities collateral held by the SBSD that was not being used to meet a variation margin requirement of the customer needed to be protected by maintaining physical possession or control of it. This would be the case with respect to securities collateral held by the SBSD to meet the customer’s initial margin requirement or that had a value in excess of the initial margin requirement. The definition of excess securities collateral had two exclusions that permitted an SBSD to use, under certain narrowly prescribed circumstances, securities collateral of a security-based swap customer
not being held to meet a variation margin requirement of the customer. Under the first exclusion, the SBSD could use the securities collateral to meet a margin requirement of a clearing agency resulting from a security-based swap transaction of the customer. This exclusion was designed to accommodate the margin requirements of clearing agencies, which will require SBSDs to deliver collateral to cover exposures arising from cleared security-based swaps of the SBSD’s security-based swap customers. The exclusion required that the securities collateral be held in a qualified clearing agency account. The term ‘‘qualified clearing agency account’’ was defined to mean an account of the SBSD at a clearing agency that met certain conditions designed to ensure that the securities collateral was isolated from the proprietary assets of the SBSD and identified as property of the firm’s security-based swap customers. Excluding the securities collateral from the definition of excess securities collateral meant it was not subject to the physical possession or control requirement. This allowed the clearing agency to hold the securities collateral against obligations of the SBSD’s customers without the SBSD violating the physical possession or control requirement.633 Under the second exclusion from the definition of ‘‘excess securities collateral,’’ the SBSD could use securities collateral to meet a margin requirement of a second SBSD resulting from the first SBSD entering into a non￾cleared security-based swap transaction with the second SBSD. However, the transaction with the second SBSD needed to be for the purpose of offsetting the risk of the non-cleared security-based swap transaction between the first SBSD and the security￾based swap customer. This exclusion was designed to accommodate the practice of dealers in OTC derivatives transactions maintaining ‘‘matched books’’ of transactions in which an OTC derivatives transaction with a counterparty is hedged with an offsetting transaction with another dealer. The exclusion required that the securities collateral be held in a qualified registered security-based swap dealer account. The term ‘‘qualified registered security-based swap dealer account’’ was defined to mean an account at a second unaffiliated SBSD that met certain conditions designed to ensure that the securities collateral provided to the second SBSD was isolated from the proprietary assets of the first SBSD and identified as property of the firm’s security-based swap customers. Further, the account and the assets in the account could not be subject to any type of subordination agreement. This condition was designed to ensure that if the second SBSD fails, the first SBSD would be treated as a security-based swap customer in a liquidation proceeding and, therefore, accorded applicable protections under the bankruptcy laws. Thus, because the account was at a second SBSD, the second SBSD needed to treat the first SBSD as a customer and the first SBSD’s
account was subject to the proposed omnibus segregation requirements. Excluding the securities collateral from

634See SIFMA 2/22/2013 Letter.
635See paragraph (p)(1)(ii)(B) of Rule 15c3–3, as amended; paragraph (a)(2)(ii) of Rule 18a–4, as adopted. 636See Capital, Margin, and Segregation Comment Reopening, 83 FR at 53016–17. 637Capital, Margin, and Segregation Comment Reopening, 83 FR at 53016–17. 638See IIB 11/19/2018 Letter; SIFMA 11/19/2018 Letter. The provisions in the final capital rules that permit broker-dealers and nonbank SBSDs to avoid taking a capital charge when initial margin is held at a third-party custodian are discussed above in
section II.A.2. of this release.
639See SIFMA 11/19/2018 Letter.
640See IIB 11/19/2018 Letter.
641See paragraph (p)(1)(ii)(B) of Rule 15c3–3, as amended; paragraph (a)(2)(ii) of Rule 18a–4, as adopted. 642See paragraph (p)(1)(viii) of Rule 15c3–3, as amended; paragraph (a)(10) of Rule 18a–4, as adopted. the definition of ‘‘excess securities collateral’’ meant that the first SBSD did not have to hold them in accordance with the physical possession or control requirement. This allowed the first SBSD to finance customer transactions in non-cleared security-based swaps by using the customer’s securities collateral to secure an offsetting transaction with a second SBSD. Comments and Final Physical Possession or Control Requirements A commenter stated that the proposed use of market value rather than haircut value for the securities collateral posted in connection with non-cleared security-based swaps would require that an SBSD use its own resources to fund margin requirements.634 The Commission did not intend this result and is modifying the definition of ‘‘excess securities collateral’’ so that stand-alone broker-dealers or SBSDs may use securities collateral for non￾cleared security-based swaps in an amount that equals the regulatory margin requirement of the SBSD with whom they are entering into a hedging transaction taking into account haircuts required by that regulatory requirement.635 For purposes of this modification, the Commission clarifies that ‘‘regulatory margin requirement’’ means the amount of initial margin the SBSD-hedging counterparty is required to collect from the stand-alone broker￾dealer or SBSD and not any greater ‘‘house’’ margin amount the SBSD￾hedging counterparty may require as a supplement to the regulatory requirement. If the SBSD-hedging counterparty imposes a supplemental ‘‘house’’ margin requirement, the stand￾alone broker-dealer or SBSD cannot use the customer’s securities collateral to meet the additional requirement. Securities collateral used in this manner will not be excluded from the definition of ‘‘excess securities collateral’’ and therefore must be in the physical possession or control of the stand-alone broker-dealer or SBSD. Thus, the stand￾alone broker-dealer or SBSD would need to fund the supplemental ‘‘house’’ margin requirement of the SBSD￾hedging counterparty using proprietary cash or securities. In the 2018 comment reopening, the Commission asked whether it should modify the definition of ‘‘excess securities collateral’’ to account for the fact that the prudential regulators require initial margin to be held at a third-party custodian.636 As discussed above, the proposed second exclusion from the definition of ‘‘excess securities collateral’’ required that the securities collateral be held in a qualified registered security-based swap dealer account (i.e., an account at a second SBSD). Thus, the proposed definition of ‘‘qualified registered security-based swap dealer account’’ did not contemplate holding the securities collateral at a third-party custodian. Absent modification, the proposed rule
would have created the unintended consequence of preventing an SBSD from posting a customer’s securities collateral to a third-party custodian in accordance with the requirements of the prudential regulators. Thus, the SBSD would have been required to use proprietary securities or cash to enter into a hedging transaction with a bank SBSD. Consequently, in the 2018 comment reopening, the Commission asked whether the definition of ‘‘excess securities collateral’’ should exclude securities collateral held in a third-party custodial account, subject to the same limitations and conditions as apply to securities collateral re-hypothecated directly to a second SBSD. The Commission asked whether the term ‘‘third-party custodial account’’ should be defined to mean an account carried by an independent third-party custodian that meets the following conditions:

• It is established for the purposes of
  meeting regulatory margin requirements of another SBSD;
• The account is carried by a bank
  under Section 3(a)(6) of the Exchange Act;
• The account is designated for and
  on behalf of the SBSD for the benefit of its security-based swap customers and the account is subject to a written acknowledgement by the bank provided to and retained by the SBSD that the funds and other property held in the account are being held by the bank for the exclusive benefit of the security￾based swap customers of the SBSD and are being kept separate from any other accounts maintained by the SBSD with the bank; and
• The account is subject to a written
  contract between the SBSD and the bank which provides that the funds and other property in the account shall at no time be used directly or indirectly as security for a loan or other extension of credit to the SBSD by the bank and shall be subject to no right, charge, security interest, lien, or claim of any kind in favor of the bank or any person claiming through the bank. The conditions in the definition of ‘‘third-party custodial account’’ in the 2018 comment reopening were designed to ensure that securities collateral posted to the custodian is isolated from the proprietary assets of the SBSD and identified as property of its security￾based swap customers.637 The objective was to facilitate the prompt return of the securities collateral to the customers if the SBSD fails. As discussed above, commenters suggested that the Commission recognize a broader range of custodians for purposes of the provisions in the final capital rules that permit stand￾alone broker-dealers and nonbank SBSDs to avoid taking a capital charge when initial margin is held at a third￾party custodian.638 These same commenters similarly suggested that the definition of ‘‘third-party custodial account’’ for purposes of the segregation rules include a broader range of custodians. One of these commenters suggested that the definition of ‘‘third￾party custodial account’’ for purposes of the segregation rules be modified to include domestic clearing agencies and depositories.639 The second commenter suggested that the definition include foreign banks.640 For the reasons discussed above, the final segregation rules being adopted today modify the proposed definition of ‘‘excess securities collateral’’ to exclude securities collateral held in a ‘‘third￾party custodial account’’ as that term is defined in the rules.641 The final segregation rules also incorporate the definition of ‘‘third-party custodial account’’ that was included in the 2018 comment reopening but with the modifications suggested by the commenters to broaden the definition to include domestic clearing organizations and depositories and foreign supervised banks, clearing organizations, and depositories.642 As a result of these modifications, the definition of ‘‘third￾party custodial account’’ in the final segregation rules means, among other

643See paragraph (c)(2)(xv)(C)(1) of Rule 15c3–1, as amended; paragraph (c)(1)(ix)(C)(1) of Rule 18a– 1, as adopted. The exception is discussed above in
section II.A.2.b.ii. of this release.
644See paragraph (c)(4)(v)(B) of Rule 15c3–1e, as amended; paragraph (e)(2)(iii)(E)(2) of Rule 18a–1, as adopted. The computation is discussed in section II.A.2.b.v. of this release. 645See paragraph (c)(4)(ii)(A) and (B) of Rule 18a– 3, as adopted. This provision is discussed in section II.B.2.b.i. of this release. 646See paragraph (p)(1)(iv) of Rule 15c3–3, as amended; paragraph (a)(6) of Rule 18a–4, as adopted. 647See paragraph (p)(2)(i) of Rule 15c3–3, as amended; paragraph (b)(1) of Rule 18a–4, as adopted. Conforming changes are made to reflect the phrase ‘‘special account for the exclusive benefit of security-based swap dealer customers’’ in the definition of qualified registered security-based swap dealer account is changed to ‘‘special reserve account for the exclusive benefit of security-based swap customers.’’ See paragraphs (c)(2)(iv)(E)(1), (p)(1)(iv), (p)(1)(vii), (p)(1)(vii)(A), (p)(3), (p)(3)(i), (p)(3)(i)(B), (p)(3)(i)(C), (p)(3)(iii), and (p)(3)(iv) of Rule 15c3–3, as amended, paragraph (c)(1)(iii)(D) of Rule 18a–1, as adopted, and paragraphs (c), (c)(1), (c)(1)(ii), (c)(1)(iii), (c)(3), (c)(4), and (e)(1)(i) of Rule 18a–4, as adopted. In addition, the definition of qualified clearing agency account in the two rules is modified to align them more closely with the language used in Section 3E(b) of the Exchange Act, which addresses the segregation of cleared security￾based swaps. The revised language replaces the phrase ‘‘established to hold funds and other property in order to purchase, margin, guarantee, secure, adjust, or settle clear security based swaps’’ with the phrase ‘‘that holds funds and other property in order to margin, guarantee, or secure cleared security-based swap transactions.’’ 648See SIFMA 3/12/2014 Letter. 649See SIFMA 2/22/2013 Letter. 650See ISDA 1/23/13 Letter; SIFMA 2/22/2013 Letter. 651See SIFMA 2/22/2013 Letter. 652See SIFMA AMG 11/19/2018 Letter. 653See Capital, Margin, and Segregation Proposing Release, 77 FR at 70279. conditions, an account carried by a bank as defined in Section 3(a)(6) of the Exchange Act or a registered U.S. clearing organization or depository or, if the collateral to be held in the account consists of foreign securities or currencies, a supervised foreign bank, clearing organization, or depository that customarily maintains custody of such foreign securities or currencies. Thus, the definition includes the same types of custodians as are permitted by the final capital rules for purposes of the exception from taking the capital charge when initial margin is held at a third￾party custodian 643 and computing credit risk charges.644 These same types of custodians also are permitted by Rule 18a–3 for the purposes of calculating the account equity requirements.645 In addition to these modifications, the Commission believes it is appropriate to modify the proposed definition of ‘‘qualified registered security-based swap dealer account’’ to remove the limitation that the account be held at
an unaffiliated SBSD. This limitation would have had the unintended consequence of impeding a financial institution from centralizing its risk management of security-based swaps in a central booking entity through affiliate transactions or of transferring risk from one affiliate to another to manage the risk of the position in the jurisdiction where the underlying security is traded, for example. Therefore, the Commission is not adopting the affiliate limitation in the final rule.646 For the foregoing reasons, the Commission is adopting the proposed physical possession or control requirements with the modifications discussed above and certain other non￾substantive modifications.647 A commenter urged the Commission to conform its proposal to the recommendations in the BCBS/IOSCO Paper with respect to re-hypothecation of collateral for non-cleared security￾based swaps, by limiting re￾hypothecation of securities collateral to circumstances that facilitate hedging of derivatives transactions entered into with customers.648 The Commission agrees that securities collateral with respect to non-cleared security-based swaps should be re-hypothecated only in order to hedge a transaction with a security-based swap customer. Consequently, as discussed above, the final rules permit re-hypothecation only for this purpose. A commenter questioned whether it was necessary for the Commission to promulgate a possession or control requirement for security-based swap customers that is separate from and in addition to the requirement for traditional securities customers under Rules 15c3–3 given the common insolvency treatment of securities and security-based swap customers.649 The commenter argued that requiring separate calculations could increase operational risk. In response, the possession or control requirement is tailored to security-based swaps activity. For example, the definition of excess securities collateral, which is tied to the security-based swap possession or control requirement, is different than the definitions of ‘‘fully paid’’ and excess margin securities, which are tied to the existing possession or control requirement in Rule 15c3–3. The Commission believes it is appropriate to have separate requirements to help ensure that stand￾alone and broker-dealer SBSDs appropriately account for excess securities collateral in the context of security-based swap activities and fully paid and excess margin securities in the context of traditional securities activities. Commenters asked the Commission to permit re-hypothecation of securities collateral for non-cleared security-based swap transactions to entities other than other SBSDs.650 One of these commenters noted that SBSDs may use products such as cleared and non￾cleared swaps, cleared security-based swaps, and futures to hedge security￾based swap transactions.651 Conversely, another commenter opposed the re￾hypothecation of initial margin.652 In response, the exemption from Rule 18a–4 being adopted
today will permit SBSDs that operate under the exemption to re-hypothecate initial margin collateral received from counterparties for non-cleared security-based swaps unless the counterparty elects to have the initial margin held at a third-party custodian. The Commission anticipates that most stand-alone and bank SBSDs will operate under this exemption because, for example, to clear swaps for others the firms would need to register with the CFTC as an FCM and be subject to the specific rules governing FCMs. If a stand-alone or bank SBSD does not operate under the exemption because it clears security-based swaps for others, the Commission believes the strict limits on re-hypothecation should apply. This type of firm will receive and hold initial margin for both cleared and non-cleared security-based swaps. Securities and cash collateral held directly by the firm would be fungible and, therefore, the Commission believes it should be subject to the strict limitations of the omnibus segregation requirements in order to facilitate the prompt return of the collateral to cleared and non-cleared security-based swap customers of the SBSD. The Commission designed the hedging exception for non-cleared security-based swap collateral to accommodate a limited scenario: The industry practice of dealers in OTC derivatives maintaining ‘‘matched books’’ of transactions.653 The Commission does not believe it would be appropriate at this time to either broaden the exception to permit the securities collateral to be used in connection with other types of products, or to prohibit the re-hypothecation of initial margin. The second SBSD must treat the securities collateral it receives in the hedging transaction in accordance with the omnibus segregation requirements being adopted today for security-based swaps. This is designed to ensure that the securities collateral posted by the first SBSD to the second

654See 77 FR at 70280–82.
655See paragraph (p)(2)(ii) of Rule 15c3–3, as amended; paragraph (b)(2) of Rule 18a–4, as adopted. For clarity, the phrase ‘‘security-based swap’’ is inserted before the phrase ‘‘customer securities’’ in paragraph (b)(2)(v) of Rule 18a–4. The text of the parallel paragraph in Rule 15c3–3, as amended, reflects this modification. In the final rule, the phrase ‘‘security-based swap’’ was inserted before the word ‘‘accounts’’ in paragraph (b)(1) of the rule to clarify that the possession or control requirements apply only to security-based swap accounts. See also paragraph (p)(2)(i) of Rule 15c3– 3, as amended. 656See Capital, Margin, and Segregation Proposing Release, 77 FR at 70281–82. 657For clarity, the phrase ‘‘security-based swap’’ is being inserted before ‘‘customer securities’’ in paragraph (b)(2)(v) of Rule 18a–4, as adopted. The text of paragraph (b)(3)(vii) of Rule 18a–4, as adopted, is modified to align it with existing broker￾dealer possession or control requirements with respect to the allocation of a customers’ fully paid and excess margin securities to short positions. See paragraph (d)(5) of Rule 15c3–3, as amended; Financial Responsibility Rules for Broker-Dealers, Exchange Act Release No. 70072 (July 30, 2013), 78 FR 51823, 51835–51836 (Aug. 21, 2013) (explaining non-substantive amendments to the final rule with respect to the allocation of customers’ fully paid and excess margin securities to short positions). In addition to the modifications discussed above, the Commission is adopting the following non￾substantive changes to paragraph (b)(3)(vii) of Rule 18a–4: (1) The phrase ‘‘security-based swap dealer’s’’ is added before ‘‘books or records’’; (2) the phrase ‘‘that allocate to a short position’’ is added before ‘‘of the security-based swap dealer’’; (3) the phrase ‘‘as a proprietary short position or as’’ is replaced with ‘‘or’’; (4) the phrase ‘‘more than 10 days business (or’’ is replaced with ‘‘for’’; and (5) the phrase ‘‘days if the security based swap dealer is a market maker in the securities’’ is removed. The text of the parallel paragraphs of Rule 15c3–3, as amended, reflects these modifications to the proposed text in Rule 18a–4. 658See Capital, Margin, and Segregation Proposing Release, 77 FR at 70282–86. SBSD remains within the omnibus segregation program.
ii. Good Control Locations
As discussed above, paragraph (b) of Rule 15c3–3, as it existed before today’s amendments, requires a carrying broker￾dealer to promptly obtain and thereafter maintain physical possession or control of a customer’s fully paid and excess margin securities. The pre-existing provisions of paragraph (c) of the rule identify locations that are deemed to be under the control of the carrying broker￾dealer. As part of the omnibus segregation requirements, the Commission proposed five locations where an SBSD could hold excess securities collateral and be deemed in control of it.654 The Commission modeled these proposed requirements for SBSDs on the pre-existing requirements in paragraph (c) of Rule 15c3–3. The identification of these satisfactory control locations was designed to limit where the SBSD could hold excess securities collateral. The identified locations were places from which securities collateral can promptly be retrieved and returned to security￾based swap customers. The Commission did not receive any comments addressing these specific provisions and for the reasons discussed in the proposing release is adopting them as substantially as proposed.655
iii. Steps To Obtain Possession or
Control
Paragraph (d) of Rule 15c3–3, as it existed before today’s amendments, requires a carrying broker-dealer to determine each business day the quantity of fully paid and excess margin securities it has in its physical possession or control based on its books and records and the quantity of such securities it does not have in its possession or control. If a quantity of fully paid and excess margin securities is not in the carrying broker-dealer’s physical possession or control, the firm must initiate steps to bring them within its physical possession or control. As a component of the omnibus segregation requirements, the Commission proposed to require that each business day an SBSD must determine from its books and records the quantity of excess securities collateral that the firm had in its physical possession or control as of the close of the previous business day and the quantity of excess securities collateral the firm did not have in its physical possession or control on that day.656 The SBSD also needed to take steps to retrieve excess securities collateral from certain specifically identified non-control locations if securities collateral of the same issue and class are at the locations. The Commission modeled these proposed requirements for SBSDs on the pre￾existing requirements in paragraph (d) of Rule 15c3–3. The Commission did not receive any comments addressing these specific provisions and for the reasons discussed in the proposing release is adopting them with the certain amendments.657 b. Security-Based Swap Customer Reserve Account Paragraph (e) of Rule 15c3–3, as it existed before today’s amendments, requires a carrying broker-dealer to maintain a reserve of cash or qualified securities in an account at a bank that is at least equal in value to the net cash owed to customers, including cash obtained from the use of customer securities. The account must be titled ‘‘Special Reserve Bank Account for the Exclusive Benefit of Customers.’’ The amount of net cash owed to customers is computed pursuant to a formula set forth in Rule 15c3–3a. Under this formula, the carrying broker-dealer adds up customer credit items (e.g., cash in customer securities accounts and cash obtained through the use of customer margin securities) and then subtracts from that amount customer debit items (e.g., margin loans). If credit items exceed debit items, the net amount must be on deposit in the customer reserve account in the form of cash and/or qualified securities. The carrying broker-dealer cannot make a withdrawal from the customer reserve account until the next computation and even then only if the computation shows that the reserve requirement has decreased. The carrying broker-dealer must make a deposit into the customer reserve account if the computation shows an increase in the reserve requirement. As a component of the omnibus segregation requirements, the Commission proposed reserve account requirements for SBSDs that were modeled on the
pre-existing requirements of paragraph (e) of Rule 15c3–3 and Rule 15c3–3a.658 More specifically, proposed Rule 18a–4 required an SBSD to maintain a special account for the exclusive benefit of security-based swap customers separate from any other bank account of the SBSD. The term ‘‘special account for the exclusive benefit of security-based swap customers’’ (‘‘SBS Customer Reserve Account’’) was defined to mean an account at a bank that is not the SBSD or an affiliate of the SBSD and that met certain conditions designed to ensure that cash and qualified securities deposited into the account were isolated from the proprietary assets of the SBSD and identified as property of the security-based swap customers. The proposed rule provided that the SBSD must at all times maintain in an SBS Customer Reserve Account, through deposits into the account, cash and/or qualified securities in amounts computed daily in accordance with the formula set forth in proposed Rule 18a– 4a. This formula required the SBSD to add up credit items and debit items. If, under the formula, the credit items exceeded the debit items, the SBSD would be required to maintain cash and/or qualified securities in that net amount in an SBS Customer Reserve Account. The credit and debit items identified in the proposed formula included the same credit and debit items in the Rule 15c3–3a formula. Further, the proposed formula identified two additional debit items: (1) Margin related to cleared security-based swap transactions in accounts carried for

659See Amendments to Financial Responsibility Rules for Broker-Dealers, Exchange Act Release No. 55431 (Mar. 9, 2007), 72 FR 12862 (Mar. 19, 2007). See also Financial Responsibility Rules for Broker￾Dealers, 78 FR at 51832–35. 660See SIFMA 2/22/2013 Letter. 661See SIFMA 2/22/2013 Letter. 662See paragraph (f) to Rule 18a–4, as adopted. security-based swap customers required and on deposit in a qualified clearing agency account at a clearing agency; and (2) margin related to non-cleared security-based swap transactions in accounts carried for security-based swap customers held in a qualified registered SBSD account at another SBSD. These items were designed to accommodate the two exclusions from the definition of ‘‘excess securities collateral’’ discussed above pursuant to which an SBSD could deliver a customer’s collateral to a clearing agency to meet a margin requirement of the clearing agency or to a second SBSD to meet a regulatory margin requirement of the second SBSD. They also accommodated customer cash collateral delivered for this purpose. In either case, the debit items would offset related credit items in the formula. As proposed, if the total credits exceeded the total debits, the SBSD needed to maintain that net amount on deposit in a SBS Customer Reserve Account in the form of funds and/or qualified securities. The term ‘‘qualified security’’ as defined in proposed Rule 18a–4 meant: (1) Obligations of the United States; (2) obligations fully guaranteed as to principal and interest by the United States; and (3) general obligations of any State or a subdivision of a State that are not traded flat or are not in default, were part of an initial offering of $500 million or greater, and were issued by an issuer that has published audited financial statements within 120 days of its most recent fiscal year end. The proposed conditions for obligations of a State or subdivision of a State (‘‘municipal securities’’) were designed to help ensure that only securities that are likely to have significant issuer information available and that can be valued and liquidated quickly at current market values were used for this purpose. As discussed above, an SBSD was required to add up credit and debit items pursuant to the formula in proposed Rule 18a–4a. If, under the formula, the credit items exceeded the debit items, the SBSD was required to maintain cash and/or qualified securities in that net amount in the SBS Customer Reserve Account. Under the proposal, an SBSD was required to take certain deductions for purposes of this requirement. The amount of cash and/ or qualified securities in the SBS Customer Reserve Account needed to equal or exceed the amount required pursuant to the formula in proposed Rule 18a–4a after applying the deductions. First, under the proposal, if municipal securities were held in the account, the SBSD was required to apply the standardized haircut specified in Rule 15c3–1 to the value of the municipal securities. Second, if
municipal securities were held in the account, the SBSD needed to deduct the aggregate value of the municipal securities of a single issuer to the extent that value exceeded 2% of the amount required to be maintained in the SBS Customer Reserve Account. Third, if municipal securities were held in the account, the SBSD needed to deduct the aggregate value of all municipal securities to the extent that amount exceeded 10% of the amount required to be maintained in the SBS Customer Reserve Account. Fourth, the proposal required that the SBSD deduct the amount of funds held in an SBS Customer Reserve Account at a single bank to the extent that amount exceeded 10% of the equity capital of the bank as reported on its most recent Consolidated Report of Condition and Income (‘‘Call Report’’). This proposal was consistent with the proposed 2007 amendments to Rule 15c3–3 that were pending at the time.659 The proposed rule also provided that it would be unlawful for an SBSD to accept or use credits identified in the items of the formula in proposed Rule 18a–4a except to establish debits for the specified purposes in the items of the formula. This provision would prohibit the SBSD from using customer cash and cash realized from the use of customer securities for purposes other than those identified in the debit items in the proposed formula. Thus, the SBSD would be prohibited from using customer cash to, for example, pay expenses. The proposed rule also provided that the computations necessary to determine the amount required to be maintained in the SBS Customer Reserve Account must be made daily as of the close of the previous business day and any deposit required to be made into the account must be made on the next business day following the computation no later than one hour after the opening of the bank that maintains the account. Further, the SBSD could make a withdrawal from the SBS Customer Reserve Account only if the amount remaining in the account after the withdrawal equaled or exceeded the amount required to be maintained in the account. Finally, the proposed rule required an SBSD to promptly deposit funds or qualified securities into an SBS Customer Reserve Account if the amount of funds and/or qualified securities held in one or more SBS Customer Reserve Accounts falls below the amount required to be maintained by the rule. Comments and Final Reserve Account Requirements A commenter argued that a separate calculation for the SBS Customer Reserve Account is not necessary given the common insolvency treatment of securities customers and security-based swap customers.660 However, similar to the daily possession or control requirement calculation, the Commission believes it is appropriate as an initial matter to require separate reserve computations. First, broker￾dealers historically have not engaged in significant amounts of security-based swap activities. Given the customer protection objectives of the reserve account requirements, the Commission
believes the prudent approach is to require two reserve account calculations and accounts. Second, the SBS Customer Reserve Account requirements are tailored to security￾based swap activities. For example, the SBS Customer Reserve Account formula has debit items relating to margin delivered to security-based swap clearing agencies and other SBSDs. The Commission believes it is appropriate to have separate requirements to help ensure that stand-alone and broker￾dealer SBSDs appropriately account for debits and credits in the context of their security-based swap activities and in their traditional securities activities. Third, the definition of qualified securities for purposes of the SBS Customer Reserve Account requirement includes certain municipal securities; whereas the definition of qualified securities for purposes of the traditional securities reserve account requirement is limited to government securities. A commenter objected to the application of the SBS Customer Reserve Account requirements to bank SBSDs due to the existing customer protection requirements applicable to banks.661 The commenter argued that the SBS Customer Reserve Account calculation would be operationally intensive. In response, bank SBSDs are exempt from the final omnibus segregation requirements if they meet the conditions of the exemption, including not clearing security-based swap transactions for others.662 If a bank

663See SIFMA 2/22/2013 Letter.
664See paragraphs (p)(3)(A) and (B) of Rule 15c3– 3, as amended; paragraphs (c)(3)(i) and (ii) of Rule 18a–4, as adopted. 665See paragraph (p)(3)(B) of Rule 15c3–3, as amended; paragraph (c)(3)(ii) of Rule 18a–4, as adopted. 666See ICI 2/4/2013 Letter. 667See Federated 11/15/2018 Letter; Letter from Lee A. Pickard, Esq., Pickard, Djinis and Pisarri, on behalf of Federated Investors, Inc. (Dec. 7. 2018) (‘‘Federated 12/7/2018 Letter’’). 668See Federated 11/15/2018 Letter. 669See paragraph (f) of Rule 18a–4, as adopted. 670See SIFMA 2/22/2013 Letter. 671See Financial Responsibility Rules for Broker￾Dealers, 78 FR at 51833. 672See id. 673See Federal Reserve, Division of Banking Supervision and Regulation, Commercial Bank Examination Manual, Section 3000.1, Deposit Accounts (stating that deposits are the primary funding source for most banks and that banks use deposits in a variety of ways, primarily to fund loans and investments), available at http:// www.federalreserve.gov/boarddocs/supmanual/ cbem/3000.pdf. See also OCC Banking Circular (BC–196), Securities Lending (May 7, 1985) (stating securities should be lent only pursuant to a written agreement between the lender institution and the owner of the securities specifically authorizing the institution to offer the securities for loan), available at http://www.occ.gov/static/news-issuances/ bulletins/pre-1994/banking-circulars/bc-1985- 196.pdf. 674See paragraph (p)(3)(i)(E) of Rule 15c3–3, as amended; paragraph (c)(1)(i)(E) of Rule 18a–4, adopted. SBSD is appropriately operating pursuant to the exemption, it will not be required to perform the SBS Customer Reserve Account calculation. To the extent a bank SBSD does not take advantage of the exemption, the Commission believes that the computation a bank SBSD will be required to perform will be less operationally complex because generally it should only involve cleared security-based swaps. The prudential regulators’ margin rules for non-cleared security-based swaps applicable to banks require that initial margin be held at a third-party custodian. Therefore, initial margin arising from non-cleared security-based swaps generally should not be a factor in the SBS Customer Reserve Account formula for these entities. A commenter requested that the Commission require a weekly SBS Customer Reserve Account computation rather than a daily computation.663 The commenter stated that calculating the reserve account formula is an onerous process that is operationally intensive and requires a significant commitment of resources. The commenter further stated that the Commission can achieve its objective of decreasing liquidity pressures on SBSDs while limiting operational burdens by requiring weekly computations and permitting daily computations. The Commission acknowledges that a daily reserve calculation will increase operational burdens as compared to a weekly computation. Therefore, in response to comments, the Commission is modifying the final rules to
require a weekly SBS Customer Reserve Account computation.664 The final rules further provide that stand-alone broker-dealers or SBSDs may perform daily computations if they choose to do so.665 These modifications to the final rules align with the existing reserve account computation requirements in paragraph (e) of Rule 15c3–3. Another commenter asked the Commission to prohibit an SBSD from using funds in the SBS Customer Reserve Account held for one customer to extend credit to another customer.666 The SBS Customer Reserve Account deposit will equal or exceed the net monies owed to security-based swap customers as calculated using the formula in Rules 15c3–3b and 18a–4a, as adopted. The logic behind the formula is that credits (monies owed to customers) are offset by debits (monies owed by customers) and, if there is a net amount of credits in excess of debits, that amount is reserved in the form of cash or qualified securities. Consequently, implementing the commenter’s suggestion would not be consistent with the omnibus segregation requirements, which are designed to permit the commingling of customer assets in a safe manner. A commenter requested that the Commission modify the definition of ‘‘qualified security’’ in Rule 18a–4 to include U.S. government money market funds.667 In the proposal, the Commission sought to align the definition of qualified security in Rule 18a–4 with the existing definition of qualified security in Rule 15c3–3 with one exception: Namely, the Commission proposed that the Rule 18a–4 definition include certain municipal securities because Section 3E(d) of the Exchange Act provides that municipal securities are a ‘‘permitted investment’’ for purposes of the segregation requirements for cleared security-based swaps. There is no corresponding statutory requirement to permit municipal securities to be a ‘‘permitted investment’’ for purposes of the segregation requirements and implementing regulations under Section 15(c)(3) of the Exchange Act applicable to stand-alone broker-dealers. While
Section 3E(d) of the Exchange Act
authorizes the Commission to expand the list of permitted investments for purposes of the omnibus segregation requirements for security-based swaps, the Commission believes the definitions in the two rules should be consistent and the types of securities permitted to be deposited into the customer reserve accounts required by each rule limited to the safest and most liquid securities. In addition, the commenter stated that limiting instruments to be utilized by SBSDs under financial responsibility requirements will create pressure on regulated entities in search of those limited instruments to buy and sell on a continuous basis in their reserve accounts.668 The Commission disagrees. As discussed above, the final rule contains an exemption for stand-alone SBSDs from the omnibus segregation requirements of Rule 18a–4, as adopted, if certain conditions are met.669 This modification to the final rule will reduce the number of SBSDs subject to the omnibus segregation requirements in the final rules and reduce the amounts that will need to be deposited into these accounts. This modification as well as the availability of municipal securities as qualified securities under Rule 18a–4, as adopted, should mitigate the commenter’s concerns regarding the availability of qualified securities. For these reasons, the Commission is not modifying the proposal to permit U.S. government money market funds to serve as qualified securities as suggested by the commenter. A commenter urged the Commission to reconsider the provision in the proposed rule requiring the SBS Customer Reserve Accounts to be maintained at a bank that is not affiliated with the SBSD.670 The primary concern with permitting an affiliated bank to carry the SBS Customer Reserve Account is that the SBSD or stand-alone broker-dealer may not exercise due diligence with the same degree of impartiality and care when assessing the financial soundness of an affiliated bank as it would with an unaffiliated bank.671 The decision of the SBSD or stand-alone broker-dealer to hold cash in a reserve account at an affiliated bank may be driven in part by profit or for reasons based on the affiliation, regardless of any due diligence it may conduct or the overall safety and soundness of the bank.672 However, this concern largely pertains to cash deposits because they become part of the assets of the bank and can be used by the bank for any of its business activities.673 As discussed below, the concern about cash deposits is being addressed through a 100% deduction of cash held in an SBS Customer Reserve Account at an affiliated bank.674 Unlike cash, qualified securities deposited with a bank are held in a custodial capacity and, absent

675To make this modification, the Commission revised the definition of ‘‘special reserve account for the exclusive benefit of security-based swap customers’’ to remove the provision requiring that the bank be unaffiliated. See paragraph (p)(1)(vii) of Rule 15c3–3, as amended; paragraph (a)(9) of Rule 18a–4, as adopted. 676See paragraph (p)(3)(i)(D) of Rule 15c3–3, as amended; paragraph (c)(1)(D) of Rule 18a–4, as adopted. See also Capital, Margin, and Segregation Comment Reopening, 83 FR at 53017–18 (soliciting comment on potential rule language that would modify the proposal in this manner). 677See 17 CFR 240.15c3–3(e)(5). See also Financial Responsibility Rules for Broker-Dealers, 78 FR at 51832–51833 (explaining the rationale for permitting securities but not cash to be held at an affiliated bank). 678See paragraph (c)(1)(ii) of Rule 18a–4, as adopted. The final rule text of paragraph (c)(1)(ii) of Rule 18a–4, as adopted, states ‘‘Exception. A security-based swap dealer for which there is a prudential regulator need not take the deduction specified in paragraph (c)(1)(i)(D) of this section if it maintains the special reserve account for the exclusive benefit of security-based swap customers itself rather than at an affiliated or non-affiliated bank.’’ To add this exception, in the final rule, a ‘‘(i)’’ was inserted before the phrase ‘‘In determining the amount maintained’’ in paragraph (c)(1) of Rule 18a–1, as adopted, and paragraphs (c)(1)(i) through (iv) of Rule 18a–4, as proposed, were re-designated paragraphs (c)(1)(i)(A) through (D) in Rule 18a–4, as adopted. A new subparagraph (c)(1)(i)(E) provides ‘‘The total amount of cash deposited with an affiliated bank.’’ The final phrasing of new subparagraph (c)(1)(i)(E) does not contain the phrase ‘‘for a security-based swap dealer for which there is not a prudential regulator’’ that was contained in the re-opening as a potential modification because it is redundant to the exception language in paragraph (c)(1)(ii) of Rule 18a–4, as adopted. See also Capital, Margin, and Segregation Comment Reopening, 83 FR at 53017– 18 (soliciting comment on potential rule language that would modify the proposal in this manner). 679See Better Markets 11/19/2018 Letter. See also Capital, Margin, and Segregation Comment Reopening, 83 FR at 53017–18. 680See paragraph (f) of Rule 18a–4. 681See paragraph (p)(1)(ii)(B) of Rule 15c3–3, as amended; paragraph (a)(2)(ii) of Rule 18a–4, as adopted. See also 12 CFR 45.7; 12 CFR 237.7; 12 CFR 624.7; 12 CFR 1221.7; 17 CFR 23.157. 682See Rule 15c3–3b, as adopted, Item 16; Rule 18a–4a, as adopted, Item 14. In addition, the Commission is deleting Items 3 and 10 from Rule 18a–4a, as adopted, because that rule will be used by non-broker-dealer SBSDs. As discussed above, the security-based swap segregation requirements, including the SBS Reserve Account requirements, that apply to broker-dealers, including broker￾dealer SBSDs, are being codified in Rule 15c3–3, as amended, and
Exhibit B to Rule 15c3–3 (Rule 15c3– 3b), as adopted. Items 3 and 10 relate to the broker￾dealer margin account business with respect to securities other than security-based swaps. Consequently, these Line Items are not necessary for the security-based swap customer reserve formula that non-broker-dealer SBSDs will use to determine their SBS Reserve Account requirement and, therefore, are not included in the final rule. See Exhibit A to Rule 18a–4 (Rule 18a–4a), as adopted. 683See paragraph (c)(2) of Rule 18a–4, as proposed to be adopted. 684Compare 17 CFR 240.15c3–3(e)(2), with paragraph (c)(2) of Rule 18a–4, as proposed to be adopted. an agreement between the bank and the depositor, cannot be used by the bank. Consequently, in response to the comment, the Commission is modifying the final rule from the proposal so that it no longer requires the SBS Customer Reserve Account to be maintained at an unaffiliated bank.675 The Commission also is modifying the final rules to require an SBSD to deduct 100% of the amount of cash held at an affiliated bank and to increase the deduction threshold for cash held at a non-affiliated bank from 10% to 15% of the bank’s equity capital.676 These modifications more closely align the SBS Customer Reserve Account requirements with the pre-existing customer reserve account requirements for traditional securities.677 However, the Commission is adding an exception to the 15% deduction to accommodate bank SBSDs that choose to maintain the SBS Customer Reserve Account themselves rather than at an affiliated or non-affiliated bank.678 Under the exception, they would not need to take the 15% deduction. One commenter argued that these changes would lead to undue risk for SBSDs and their customers.679 The Commission does not agree. Increasing the deduction threshold from 10% to 15% aligns the threshold with the threshold in the pre-existing requirements for traditional securities under existing Rule 15c3–3. Further, the exemption from the requirements of Rule 18a–4 likely will appreciably reduce the amounts that will need to be deposited into the SBS Customer Reserve Accounts.680 For example, the Commission expects that the omnibus segregation requirements largely will apply to cleared security-based swaps transactions where a substantial portion of the initial margin received by the stand-alone broker-dealer or SBSD will be passed on to the clearing agency. Consequently, it will not need to be locked up in SBS Customer Reserve Accounts. Moreover, the Commission does not believe that increasing the threshold from 10% to 15% will unduly undermine the objective of addressing the risk that arises when a bank’s deposit base is overly reliant on a single depositor. Finally, permitting a bank SBSD to maintain its own SBS Customer Reserve Account is designed to strike an appropriate balance in terms of achieving the objectives of the segregation rule, while providing the firm with sufficient flexibility in terms of locating its
reserve account deposits. This scenario also does not raise the same concerns that arise when an SBSD uses a separate bank to maintain its SBS Customer Reserve Account. Moreover, the Commission expects that most bank SBSDs will operate under the exemption from the omnibus segregation requirements of Rule 18a–4. Therefore, the Commission does not believe these modifications to the final rule will lead to undue risks for SBSDs and their customers. In addition, the Commission is making a conforming modification to the text of the debit item with respect to margin relating to non-cleared security-based swaps. As discussed above, the definition of ‘‘excess securities collateral’’ has been modified to account for the fact that the prudential regulators require initial margin collected by a bank SBSD to be held at a third-party custodian (rather than being held directly by the bank SBSD).681 The rule, as proposed, did not account for the possibility that a nonbank SBSD might pledge a customer’s initial margin to a third￾party custodian pursuant to the margin rules of the prudential regulators. The modification to the definition of ‘‘excess securities collateral’’ discussed above addresses this issue with respect to the possession or control requirement. The modification to the debit item with respect to margin relating to non-cleared security-based swap transactions will address this issue with respect to the SBS Customer Reserve Account requirement. Specifically, the Commission is modifying the debit item to include margin related to non-cleared security-based swap transactions in accounts carried for security-based swap customers required and held at a ‘‘third￾party custodial account’’ as that term is defined in the rules.682 This will allow the SBSD to offset the corresponding credit item that results from using customer collateral to meet the margin requirement of another SBSD when the customer collateral is posted to a third￾party custodian (rather than provided directly to the other SBSD). The Commission originally proposed that it would be unlawful for an SBSD to accept or use credits identified in the items of the formula set forth in Exhibit A to the proposed rule ‘‘except to establish debits for the specified purposes in the items of the formula.’’ 683 This phrase in proposed Rule 18a–4 varied from the phrase in the parallel pre-existing requirement in Rule 15c3–3.684 The Commission did not intend to establish a different standard for SBSDs and is modifying the phrase as used in Rules 15c3–3, as amended, and 18a–4, as adopted, to align it with the pre-existing text. For these reasons, the Commission is adopting these provisions relating to the

685See paragraph (p)(3) of Rule 15c3–3, as amended; paragraph (c) of Rule 18a–4, adopted. The following non-substantive modifications are being made. The phrase ‘‘a political’’ is added before the phrase ‘‘subdivision of a state’’ in the definition of qualified security in paragraphs (p)(1)(v)(C) and (p)(3)(i) of Rule 15c3–3, as amended, and paragraphs (a)(7)(iii) and (c)(1) of Rule 18a–4, as adopted because, under Section 3E(d) of the Exchange Act, ‘‘obligations . . . of any political subdivision of a State’’ are ‘‘Permitted Investments.’’ The phrase ‘‘Consolidated Report of Condition and Income’’ is replaced with the phrase ‘‘Call Report or any successor form the bank is required to file by its appropriate federal banking agency (as defined by section 3 of the Federal Deposit Insurance Act)’’ in paragraph (p)(3)(i)(D) of Rule 15c3–3, as amended, and paragraph (c)(1)(i)(D) of Rule 18a–4, as adopted. This modification uses the commonly known name of the report and accounts for the potential that bank regulators could change the form of the report in the future. The Commission replaced the phrase ‘‘It is unlawful for a security-based swap dealer’’ in paragraph (c)(2) of Rule 18a–4, as proposed, with the phrase ‘‘a security-based swap dealer must not.’’ See paragraph (p)(3)(ii) of Rule 15c3–3, as amended (using the phrase ‘‘a broker or dealer must not’’). See also Amendments to Financial Responsibility Rules for Broker-Dealers, 72 FR 12862; Financial Responsibility Rules for Broker-Dealers, 78 FR at 51838 (similarly modifying the proposed amendments to Rule 15c3–3 to replace the phrase ‘‘It shall be unlawful’’ ‘‘because any violation of the rules and regulations promulgated under the Exchange Act is unlawful and therefore it is unnecessary to use this phrase in the final rule’’). The Commission replaced the term ‘‘funds’’ in paragraph (c)(4) of Rule 18a–4, as proposed, with the term ‘‘cash.’’ See paragraph (p)(3)(iv) of Rule 15c3–3, as amended. 686See 15 U.S.C. 78c–5(f)(1)(A). 687See Capital, Margin, and Segregation Proposing Release, 77 FR at 70287. 688See SIFMA 2/22/2013 Letter. 689See paragraph (p)(4)(i) of Rule 15c3–3, as amended; paragraph (d)(1) of Rule 18a–4, as adopted. A non-substantive modification is being made to replace the term ‘‘effective date’’ with the term ‘‘compliance date’’ because, as discussed below in section III of this release, the effective of the final notification rules will fall before the compliance date. The Commission intended the notification requirement to apply to transactions that occur on or after the date SBSDs and MSBSPs begin complying with the rule. Finally, the word ‘‘swap’’ is inserted before the word ‘‘dealer.’’ 690See Capital, Margin, and Segregation Proposing Release, 77 FR at 70287–88. The proposed subordination requirements did not apply to MSBSPs because they would not have security￾based swap customers. 691See paragraph (a)(6) of proposed Rule 18a–4. 692See Ropes & Gray Letter. SBS Customer Reserve
Account with the modifications described above.685
c. Special Provisions for Non-Cleared
Security-Based Swap Counterparties
i. Notice Requirement
Section 3E(f)(1)(A) of the Exchange
Act provides that an SBSD and an MSBSP shall be required to notify the counterparty at the ‘‘beginning’’ of a non-cleared security-based swap transaction about the right to require segregation of the funds or other property supplied to margin, guarantee, or secure the obligations of the counterparty.686 To provide greater clarity as to the meaning of ‘‘beginning’’ as used in the statute, proposed Rule 18a–4 required an SBSD or MSBSP to provide the notice in writing to a counterparty prior to the execution of the first non-cleared security-based swap transaction with the counterparty occurring after the effective date of the rule.687 Consequently, the notice needed to be given in writing before the counterparty was required to deliver margin to the SBSD or MSBSP. This gave the counterparty an opportunity to determine whether to elect individual segregation, waive segregation, or affirmatively or by default elect omnibus segregation. A commenter recommended that the Commission clarify that the notice must be sent to the customer (or investment manager authorized to act on behalf of a customer) in accordance with mutually agreed terms by the parties, or absent such terms, to a person reasonably believed to be authorized to accept notices on behalf of a customer.688 The Commission agrees that the rule should provide more clarity and has modified the requirement to provide that the notice must be sent to a duly authorized individual. This person could be an individual that is mutually agreed to by the parties. For these reasons, the Commission is adopting the proposed notice requirement with the modification described above.689 The notification provision in Rule 15c3–3 applies only to a broker-dealer SBSD or MSBSP because the notification requirements in Section 3E(f)(1)(A) of the Exchange Act apply only to SBSDs and MSBSPs (and not to stand-alone broker-dealers).
ii. Subordination Agreements
Proposed Rule 18a–4 required an SBSD to obtain agreements from counterparties that elect either individual segregation or waive segregation with respect to non-cleared security-based swaps under Section 3E(f) of the Exchange Act. In the agreements, the counterparties needed to subordinate all of their claims against the SBSD to the claims of security-based swap customers.690 By entering into subordination agreements, these counterparties would be excluded from the definition of security-based swap customer in proposed Rule 18a–4.691 They also would not be entitled to share ratably with security-based swap customers in the fund of customer property held by the SBSD if it was subject to a bankruptcy proceeding. Under the proposal, an SBSD needed to obtain a conditional subordination agreement from a counterparty that elects individual segregation. The agreement was conditional because the subordination agreement would not be effective in a case where the counterparty’s assets were included in the bankruptcy estate of the SBSD, notwithstanding that they had been held by a third-party custodian (rather than the SBSD). Specifically, the proposed rule provided that the counterparty must subordinate claims but only to the extent that funds or other property provided by the counterparty to the independent third-party custodian are not treated as customer property in a formal liquidation proceeding. An SBSD needed to obtain an unconditional subordination agreement from a counterparty that waives segregation altogether. By waiving individual and omnibus segregation, the counterparty agrees that cash, securities, and money market instruments delivered to the SBSD as initial margin can be used by the SBSD for any business purpose and need not be isolated from the proprietary assets of the SBSD. Therefore, these counterparties are foregoing the protections of segregation. As a consequence, they should not be entitled to a ratable share of the customer property of the SBSD in the event the SBSD is liquidated in a formal proceeding. If they were deemed security-based swap customers, they could have a pro rata priority claim on customer property. This could disadvantage the security-based swap customers that did not waive segregation by diminishing the amount of customer property available to be distributed to them. A commenter stated that the subordination agreement required of customers that elect individual segregation was not necessary because the initial margin provided by the customer was held at a third-party custodian and therefore would not become ‘‘customer property’’ held by the failed SBSD.692 The commenter argued that a ‘‘legally unnecessary subordination agreement is prone to creating ambiguity, unforeseen consequences and complication . . . and runs contrary to the goal of investor protection . . . .’’ The Commission disagrees. The subordination agreement is designed to reduce ambiguity, unforeseen consequences, and complications that may arise
during an SBSD’s liquidation by clarifying that the subordinating customers are not entitled

693See paragraph (p)(4)(ii)(A) of Rule 15c3–3, as amended; paragraph (d)(2)(i) of Rule 18a–4, as adopted. 694See Financial Services Roundtable Letter. 695See paragraph (p)(4)(ii)(A) of Rule 15c3–3, as amended; paragraph (d)(2)(i) of Rule 18a–4, as adopted. The provision in paragraph (p) of Rule 15c3–3 provides that the counterparty’s subordination also does not apply to the extent that the funds or other property provided by the counterparty are treated as customer property as defined in 15 U.S.C. 78lll(4) in a liquidation of the broker-dealer. See paragraph (p)(4)(ii)(A) of Rule 15c3–3, as amended. This clause is being added to account for the fact that broker-dealers are liquidated in SIPA proceedings. 696 ‘‘PAB’’ is an acronym for proprietary accounts of broker-dealers. See paragraph (a)(16) of Rule 15c3–3 (defining the term PAB account). 697 Financial Responsibility Rules for Broker￾Dealers, 78 FR at 51827–51832 (discussing PAB accounts); paragraph (e) of Rule 15c3–3; Rule 15c3– 3a. Consequently, this modification more closely aligns the segregation requirements with the pre￾existing requirements for traditional securities under existing Rule 15c3–3, and would clarify that a security-based swap customer’s subordination includes a subordination to the claims of PAB customers. 698See paragraph (p)(4)(ii)(B) of Rule 15c3–3, as amended. 699See paragraph (p)(4)(ii) of Rule 15c3–3, as amended; paragraph (d)(2) of Rule 18a–4, as adopted. The Commission also made a non￾substantive amendment to replace the phrase ‘‘does not choose’’ with ‘‘affirmatively chooses not’’ to clarify that the requirements related to the subordination agreements where a counterparty elects to have no segregation only apply when a counterparty affirmatively chooses to waive segregation. See paragraph (p)(4)(ii)(B) of Rule 15c3–3, as amended; paragraph (d)(2)(ii) of Rule 18a–4, as adopted. 700See, e.g., Citadel 11/19/18 Letter; Financial Services Roundtable Letter; FIA 11/19/2018 Letter; Morgan Stanley 11/19/2018 Letter. 701See, e.g., American Council of Life Insurers 11/19/2018 Letter; Citadel 11/19/2018 Letter; Financial Services Roundtable Letter; MFA 2/22/ 2013 Letter; SIFMA 11/19/2018 Letter. 702See, e.g., AIMA 2/22/2013 Letter; ISDA 11/19/ 2018 Letter; MFA 2/22/2013 Letter; SIFMA AMG 2/ 22/2013 Letter; Vanguard Letter. 703See SIFMA 11/19/2018 Letter. 704See Mizuho/ING Letter. See also Center for Capital Markets Competitiveness, US Chamber of Commerce 11/19/2019 Letter. This commenter supported a safe harbor that would allow firms to rely on their compliance with the rules of the Commission or the CFTC to satisfy comparable requirements set by the other agency. to a pro rata share of customer property from the liquidation. By entering into the subordination agreements, customers who elect individual segregation are affirmatively waiving their rights to make customer claims with respect to initial margin held by the third-party custodian. Their recourse is to the
third-party custodian that is holding the collateral. Therefore, a properly designed and executed subordination agreement affirms the rights of customers that elect individual segregation as compared to the rights of customers whose assets are treated under the omnibus segregation requirements. The Commission, however, is modifying the final subordination requirements for collateral held at a third-party custodian so that it is no longer are limited to funds or other property that is segregated pursuant to
Section 3E(f) of the Exchange Act. As
discussed above in section II.A.2.b.ii. of this release, a counterparty’s collateral to meet a margin requirement of the nonbank SBSD may be held at a third￾party custodian pursuant to other laws. Consequently, the Commission is modifying the rule text to provide that the subordination agreement is required ‘‘from a counterparty whose funds or other property to meet a margin requirement of the [nonbank SBSD] are held at a third-party custodian.’’ 693 Another commenter stated that customers electing individual segregation should not be required to subordinate claims other than those with respect to such initial margin held by the third-party custodian.694 The commenter objected to the provision in the proposed rule requiring the customer to subordinate all of its claims against the SBSD to the claims of other security-based swap customers. The Commission agrees that the proposed text of the rule was ambiguous and could be read to mean the customer must subordinate claims to property that is held by the SBSD (as opposed to the third-party custodian). Therefore, the Commission is modifying the final rule from the proposal to clarify that the counterparty electing individual segregation must subordinate its claims against the SBSD only for the funds or other property held at the third-party custodian.695 Because a counterparty will not subordinate all of its claims against a stand-alone broker-dealer or broker￾dealer SBSD, the Commission is making conforming modifications to the final rule to specifically identify the two classes of carrying broker-dealer customers that must be accounted for in the subordination agreements. In particular, the Commission is adding the phrase ‘‘(including PAB customers)’’ following the term ‘‘to the claims of customers’’ in paragraph (p)(1)(vi) and paragraphs (p)(4)(ii)(A) and (B) of Rule 15c3–3, as amended. PAB customers are other broker-dealers for whom the carrying broker-dealer is holding cash and/or securities.696 Under amendments to Rule 15c3–3 adopted after the rules in this release were proposed, a carrying broker-dealer must include (and thereby protect) the cash and securities it carries for other customers by including them in a PAB reserve account computation.697 Broker-dealer customers also have priority claims to cash and securities held at the carrying broker-dealer in a SIPA proceeding. Consequently, their status as a protected class of creditors must be accounted for in the provisions of the rule relating to subordination agreements. Finally, as discussed above, the Commission is making a conforming amendment to the requirement that the stand-alone broker-dealer or broker￾dealer SBSD obtain a subordination agreement from a person who waives segregation with respect to non-cleared security-based swaps to provide that the provision applies to affiliates that waive segregation because persons who are not affiliates cannot waive segregation.698 For these reasons, the Commission is adopting the
subordination requirements with the modifications discussed above.699 D. Alternative Compliance Mechanism As discussed throughout this release, commenters urged the Commission to harmonize the requirements being adopted today with requirements of the CFTC. Commenters sought harmonization with respect to the Commission’s capital requirements,700 margin requirements,701 and segregation requirements.702 One commenter stated that ‘‘[i]f the Commission and CFTC do not harmonize their capital rules, they should defer to the capital rules of one another in the case of’’ an entity that is registered as an SBSD and a swap dealer and ‘‘whose swaps or [security-based swaps] represent a de minimis portion of the [entity’s] combined swap and [security-based swap] business.’’ 703 This commenter further stated that ‘‘[i]n cases where the firm is predominantly engaged in swap activity, imposing different capital requirements would be inefficient.’’ Another commenter stated that ‘‘[i]f harmonization is not achievable, the rules should be coordinated so that [the Commission] defers to the capital and margin rules of the CFTC for an SBSD that is not a broker-dealer and whose [security-based swaps] constitute a very small proportion of its business (e.g., less than 10% of the notional amount of its outstanding combined swap and SBS positions).’’ 704 In response to these comments seeking harmonization, the final capital, margin, and segregation rules being adopted today have been modified from the proposed rules to achieve greater consistency with the requirements of the CFTC. However, as discussed throughout this release, there are differences between the approaches taken by the Commission and the CFTC.

705See 17 CFR 240.3a71–2 (‘‘Rule 3a71–2’’). 706 In situations under Rule 18a–10 where a stand-alone SBSD elects to meet its regulatory requirements by complying with the CEA and the CFTC’s rules, because of the differences in the Commission’s and the CFTC’s rules, the Commission anticipates that its staff will work closely with the staffs of the CFTC and the National Futures Association. 707The term ‘‘stand-alone SBSD’’ when used in this section II.D. of the release does not include a firm that is also registered as an OTC derivatives dealer. As discussed below, the alternative compliance mechanism is not available to a nonbank SBSD that is also registered as a broker￾dealer, including a broker-dealer that is an OTC derivatives dealer. In theory, a bank SBSD could use the alternative compliance mechanism if it met the required conditions. However, these entities will be subject to the Commission’s final segregation rule for stand-alone and bank SBSDs (Rule 18a–4), but not the Commission’s final capital and margin rules. Moreover, as discussed above in
section II.C.2. of this release, Rule 18a–4, as
adopted, contains an exemption provision. The Commission expects bank SBSDs will take advantage of the exemption provision in the segregation rule rather than use the alternative compliance mechanism. The reason for this belief is that the exemption in Rule 18a–4 does not place a limit on the size of the firm’s security-based swap business as a condition to qualify for the exemption, and it does not require firms to comply with requirements of the CEA and the CFTC’s rules. 708The gross notional amount is based on the notional amounts of the firm’s security-based swaps and swaps that are outstanding as of the quarter end. It is not based on transaction volume during the quarter. 709See also section VI. of the release (providing an economic analysis of Rule 18a–10, as adopted, including the costs and benefits of the rule). Moreover, the Commission believes that some registered swap dealers (or entities that will register as swap dealers in the future) will need to also register as security-based swap dealers because their security-based swaps business— while not a significant part of their overall business mix—exceeds the de minimis exception to the ‘‘security￾based swap dealer’’ definition.705 In light of the differences between the rules of the Commission and the CFTC, the Commission believes it is appropriate to permit such firms to comply with the capital, margin, and segregation requirements of the CEA and the CFTC’s rules, provided the firm’s security-based swaps business is not a significant part of the security￾based swap market and predominantly involves dealing in swaps as compared to security-based swaps. In this circumstance, the CFTC’s regulatory interest in the firm will greatly exceed the Commission’s regulatory interest given the relative size of its swaps business as compared to its security￾based swaps business.706 For these reasons, the Commission is adopting an alternative compliance mechanism in Rule 18a–10 pursuant to which a stand-alone SBSD that is registered as a swap dealer and predominantly engages in a swaps business may elect to comply with the capital, margin and segregation requirements of the CEA and the CFTC’s rules in lieu of complying with the capital, margin, and segregation requirements in Rules 18a–1, 18a–3, and 18a–4.707 This will address the concern raised by the commenters that it would be inefficient to impose differing requirements on a firm that is predominantly a swap dealer. A firm may elect to operate pursuant to Rule 18a–10 if it meets certain conditions. First, under paragraphs (a)(1) through (3) of Rule 18a–10, the firm must be registered with the Commission as a stand-alone SBSD (i.e., not also registered as a broker-dealer or an OTC derivatives dealer) and registered with the CFTC as a swap dealer. The Commission believes it is appropriate to permit stand-alone SBSDs—which will not be integrated into the traditional securities markets to the same degree as stand-alone broker￾dealers and
broker-dealer SBSDs—to comply with Rule 18a–10 because their securities activities will be limited to dealing in security-based swaps. The requirement to be registered with the CFTC is designed to ensure that the firm is subject to CFTC oversight given that it will be adhering to the CFTC’s rules. Second, under paragraph (a)(4) of Rule 18a–10, the stand-alone SBSD must be exempt from the segregation requirements of Rule 18a–4. As discussed above in section II.C.2. of this release, the Commission has added a provision to Rule 18a–4 that will exempt a stand-alone or bank SBSD from the rule’s omnibus segregation requirements if it meets certain conditions, including that it does not clear security-based swaps for other persons. Section 3E(g) of the Exchange Act applies the customer protection elements of the stockbroker liquidation provisions to cleared security-based swaps and related collateral, and to collateral delivered as initial margin for non-cleared security-based swaps if the collateral is subject to a customer protection requirement under Section 15(c)(3) of the Exchange Act or a segregation requirement. Consequently, a stand-alone SBSD that does not have cleared security-based swap customers and is not subject to a segregation requirement with respect to collateral for non-cleared security-based swaps will not implicate the stockbroker liquidation provisions. Given this result, the Commission believes it would be appropriate to permit the firm to comply with CEA and CFTC segregation requirements to the extent applicable in lieu of Rule 18a–4. Third, under paragraph (a)(5) of Rule 18a–10, the aggregate gross notional amount of the firm’s outstanding security-based swap positions must not exceed the lesser of two thresholds as of the most recently ended quarter of the firm’s fiscal year.708 The thresholds are:
(1) The maximum fixed-dollar gross notional amount of open security-based swaps specified in paragraph (f) of the rule (‘‘maximum fixed-dollar threshold’’); and (2) 10% of the combined aggregate gross notional amount of the firm’s open security￾based swap and swap positions (‘‘10% threshold’’). These thresholds are designed to limit the availability of the alternative compliance mechanism to firms whose security-based swaps business is not a significant part of the security-based swap market and that are predominately engaged in a swaps business as compared to a security-based swaps business. In this regard, the capital, margin, and segregation requirements being adopted today are designed to promote the safety and soundness of an SBSD and the ability of the Commission to oversee the firm and, thereby, protect the firm, its counterparties, and the integrity of the security-based swap market. Moreover, the security-based swap market and the broader securities markets (such as the cash markets for equity and fixed-income securities) are interrelated, given that economically similar instruments can be traded in both markets (e.g., an equity security in the cash market and a total return swap referencing that security in the security￾based swap market). For these reasons, the Commission has a heightened regulatory interest in stand-alone SBSDs that will be significant participants in the security-based swap market. Therefore, in crafting the alternative compliance mechanism, the Commission sought to calibrate the maximum-fixed-dollar and 10% thresholds to exclude stand-alone SBSDs that will be significant participants in this market.709 The amount of the maximum fixed￾dollar threshold is $250 billion for a transitional period of 3 years and then will drop to $50 billion (unless the Commission issues an order as discussed below). Based on current information about the security-based swap market and the participants and potential participants in that market, the Commission believes that a stand-alone SBSD with a gross notional amount of outstanding security-based swaps of no more than $50 billion will not be a

710See paragraphs (f)(1)(i) and (ii) of Rule 18a– 10, as adopted. significant participant in the security￾based swap market. However, as stated above in section I.A. of this release, the Commission recognizes that the firms subject to the capital, margin, and segregation requirements being adopted today are operating in a market that continues to experience significant changes in response to market and regulatory developments. For these reasons, the Commission believes it is appropriate to set a maximum fixed￾dollar threshold that is well in excess of $50 billion for a transitional period of 3 years. Therefore, the maximum fixed￾dollar threshold will be $250 billion for 3 years, starting on the compliance date for the capital, margin and segregation rules being adopted today. This transitional $250 billion threshold will provide a stand-alone SBSD operating under the alternative compliance mechanism (i.e., firms that are predominantly engaged in a swaps business) with a substantial amount of leeway to develop their security-based swaps business without managing the level of that business to the lower $50 billion threshold. If the security-based swaps business of these firms develops to a degree that the $50 billion threshold would require them to refrain from taking on additional business, the Commission can assess whether the amount of the additional business that causes them to exceed the threshold makes them a significant participant in the security-based swap market. The transitional period therefore will provide the Commission with the opportunity to evaluate the impact that the $50 billion threshold would have on firms operating pursuant to the alternative compliance mechanism before the threshold drops from $250 billion to $50 billion. Moreover, the final rule establishes a process through which the Commission, by order, can:
(1) Maintain the maximum fixed-dollar amount at $250 billion for an additional period of time or indefinitely after the 3-year transition period ends; or (2) lower it to an amount that is less than $250 billion but greater than $50 billion.710 This process could provide firms operating under the alternative compliance mechanism with additional time to transition from the $250 billion threshold to the $50 billion threshold or another threshold. The final rules provide that the Commission will issue an order after considering the levels of security-based swap activity of stand-alone SBSDs operating under the alternative compliance mechanism. The Commission intends to analyze how significant these entities are to the security-based swap market and broader securities markets based on their levels of their security-based swap activity. The analysis will consider the firm’s individual and collective impact on the security-based swap market. Based on this analysis, the Commission could decide to take no action and let the $250 billion maximum fixed-dollar threshold transition to $50 billion on the 3-year anniversary of the compliance date for the capital, margin, and segregation rules being adopted today. Alternatively, the Commission could decide to reset the maximum fixed￾dollar threshold to a level greater than $50 billion (but no more than $250 billion) or provide additional time for firms to transition from a $250 billion threshold to the $50 billion threshold. The process in the final rule provides that the Commission will publish notice of the potential change to the maximum fixed-dollar threshold (i.e., extending the $250 billion threshold for an additional period of time or indefinitely, or lowering it to a level between $250 billion and $50 billion) and subsequently issue an order regarding the change. The Commission intends to provide such notice in sufficient time for the public to be aware of the potential change. In summary, the maximum fixed￾dollar threshold sets an absolute limit on the availability of the alternative compliance mechanism irrespective of the size of the firm’s swaps business as compared to its security-based swaps business. Thus, a firm potentially may not exceed the 10% threshold given the large size of its swaps business but could exceed the maximum fixed-dollar threshold because its security-based swaps business is sufficiently large. This absolute limit is designed to exclude stand-alone SBSDs that are significant participants in the security￾based swap market from qualifying for the alternative compliance mechanism. The 10% threshold establishes a limit on the ratio of the firm’s security-based swaps business to its combined security-based swaps and swaps businesses. In crafting this threshold, the Commission sought to limit the availability of the alternative compliance mechanism to firms that are predominantly engaged in a swaps business as compared to a security￾based swaps business. Consequently, if the firm’s
security-based swap business does not exceed the maximum fixed￾dollar threshold, it nonetheless may not qualify for the alternative compliance mechanism if its security-based swaps business exceeds the ratio set by the 10% threshold. This is designed to limit the alternative compliance mechanism to firms for which the CFTC (as opposed to the Commission) has a heightened regulatory interest. Under paragraph (a)(5) of Rule 18a– 10, the firm must not exceed the lesser of these thresholds as of the most recently ended quarter of its fiscal year. This point-in-time requirement is designed to simplify the process for determining whether the firm meets the condition by aligning it with when the firm closes its books for financial recordkeeping and reporting purposes. A quarterly test (as opposed to an annual test) also is designed to ensure that a firm using the alternative compliance mechanism consistently limits its security-based swaps business in a manner that aligns with the Commission’s objective: To provide this option only to firms that are not a significant part of the security-based swap market and predominantly deal in swaps as compared to security-based swaps. Moreover, a quarterly test (as opposed to a requirement to meet the threshold test at all times) is designed to limit the possibility that a firm operating pursuant to the alternative compliance mechanism inadvertently exceeds one of the thresholds for a brief period of time (particularly by an immaterial amount) and, as a consequence, can no longer use it. Paragraph (b) of Rule 18a–10 sets forth requirements for a firm that is operating pursuant to the rule. Paragraph (b)(1) provides that the firm must comply with the capital, margin, and segregation requirements of the CEA and the CFTC’s rules applicable to swap dealers and treat security-based swaps and related collateral pursuant to those requirements to the extent the requirements do not specifically address security-based swaps and related collateral. Consequently, a firm that is subject to Rule 18a–10 must comply with applicable capital, margin, and segregation requirements of the CEA and the CFTC’s rules and a failure to comply with one or more of those rules will constitute a failure to comply with Rule 18a–10. Moreover, the firm must treat security-based swaps and related collateral pursuant to the requirements of the CEA and the CFTC’s rules even if the CEA and the CFTC’s rules do not specifically address security-based swaps and related collateral. This provision is designed to ensure that security-based swaps and related collateral do not fall into a ‘‘regulatory gap’’ with respect to a nonbank SBSD operating under the alternative compliance mechanism. Thus, if a capital, margin, or segregation

711See, e.g., Letter from Eileen T. Flaherty, Director, Division of Swap Dealer and Intermediary Oversight, and Jeffrey M. Bandman, Acting Director, Division of Clearing and Risk, CFTC, to Mary P. Johannes, Senior Director, ISDA (Aug. 23, 2016) (providing no-action relief to swap dealers and major swap participants with respect to the CFTC’s margin rules for non-cleared swaps pursuant to which these entities can portfolio margin non￾cleared swaps with non-cleared security-based swaps, provided, among other conditions, the security-based swaps shall be treated as if they were swaps for all applicable provisions of the CFTC’s margin rules). 712See Rule 3a71–2. 713See 17 CFR 240.17a–11 (requiring a similar process to provide notice to the Commission and the CFTC). See also Staff Guidance for Filing Broker-Dealer Notices, Statements, and Reports, available at https://www.sec.gov/divisions/ marketreg/bdnotices.htm (providing a fax number that broker-dealers may use to send these notices). requirement applicable to a swap or collateral related to a swap is silent as to a security-based swap or collateral related to a security-based swap, the nonbank SBSD must treat the security￾based swap or collateral related to a security-based swap pursuant to the requirement applicable to the swap or collateral related to the swap.711 Paragraph (b)(2) of Rule 18a–10 requires the firm to provide a written disclosure to its counterparties after it begins operating pursuant to the rule. The disclosure must be provided before the first transaction with the counterparty after the firm begins operating pursuant to the rule. The disclosure must notify the counterparty that the firm is complying with the applicable capital, margin, and segregation requirements of the CEA and the CFTC’s rules in lieu of complying with Rules 18a–1, 18a–3, and 18a–4. The disclosure requirement is designed to alert the counterparty that the firm is not complying with these Commission rules notwithstanding the fact that the firm is registered with the Commission as an SBSD. This will provide the counterparty with the opportunity to assess the implications of transacting with the SBSD under these circumstances. Paragraph (b)(3) of Rule 18a–10 requires the firm to immediately notify the Commission and the CFTC in writing if it fails to meet a condition in paragraph (a) of the rule. This notice— by immediately alerting the Commission and the CFTC of the firm’s status—will provide the agencies with the opportunity to promptly evaluate the situation and coordinate any regulatory responses such as increased monitoring of the firm. Paragraph (c) of Rule 18a–10 addresses when a firm fails to comply with a condition in paragraph (a) of the rule and, therefore, no longer qualifies to operate pursuant to the rule. The paragraph provides that a firm in that circumstance must begin complying with Rules 18a–1, 18a–3, and 18a–4 no later than either: (1) Two months after the end of the month in which the firm
failed to meet the condition in paragraph (a); or (2) for a longer period of time as granted by the Commission by order subject to any conditions imposed by the Commission. This period of time to come into compliance with the Commission’s rules (‘‘compliance period’’) is modeled on the de minimis exception to the ‘‘security-based swap dealer’’ definition.712 Under paragraph (b) of Rule 3a71–2, an entity that no longer meets the requirements of the de minimis exception will be deemed to not be an SBSD until the earlier of the date on which it submits a complete application to register as an SBSD or two months after the end of the month in which the entity becomes no longer able to take advantage of the exception. The compliance period in Rule 18a–10 is designed to provide an SBSD with time to implement systems, controls, policies, and procedures and take other necessary steps to comply with Rules 18a–1, 18a–3, and 18a–4. The Commission, by order, can grant the SBSD additional time if necessary. The conditions in paragraphs (a)(1) through (4) of Rule 18a–10 must be met at all times an SBSD is operating pursuant to the rule. Consequently, the compliance period will begin to run on the day of a month that the SBSD fails to meet a condition in paragraphs (a)(1) through (4). As discussed above, whether a firm meets the condition in paragraph (a)(5) of Rule 18a–10 will be determined as of the most recently ended quarter of the firm’s fiscal year. Therefore, a firm could fail to meet this condition only on a day that is the end of one of its fiscal year quarters. If the firm fails to meet the condition on one of those days, the compliance period will begin to run on that day. Paragraph (d) of Rule 18a–10 addresses how a firm would elect to operate pursuant to the rule. Under paragraph (d)(1), a firm can make the election as part of the process of applying to register as an SBSD. In this case, the firm must provide written notice to the Commission and the CFTC during the registration process of its intent to operate pursuant to the rule. Upon being registered as an SBSD, the firm can begin complying with Rule 18a–10, provided it meets the conditions in paragraph (a) of the rule. Under paragraph (d)(2) of Rule 18a– 10, an SBSD can make the election after the firm has been registered as an SBSD. In this case, the firm must provide written notice to the Commission and the CFTC of its intent to operate pursuant to the rule and continue to comply with Rules 18a–1, 18a–3, and 18a–4 for two months after the end of the month in which the firm provides the notice or for a shorter period of time as granted by the Commission by order subject to any conditions imposed by the Commission. The requirement that the firm continue complying with the Commission’s rules for a period of time after making the election is designed to provide the Commission and the CFTC with an opportunity to examine the firm before it begins operating pursuant to the alternative compliance
mechanism and to prepare for the firm no longer complying with the Commission’s rules. As discussed above, paragraph (b)(3) requires a firm operating pursuant to the rule to immediately notify the Commission and the CFTC in writing if the SBSD fails to meet a condition in paragraph (a). Further, paragraphs (d)(1) and (2) require a firm to provide written notice to the Commission and the CFTC of its intent to operate pursuant to the rule. Paragraph (e) of Rule 18a–10 provides that the notices required by the rule must be sent by facsimile transmission to the principal office of the Commission and the regional office of the Commission for the region in which the security-based swap dealer has its principal place of business or an email address to be specified separately, and to the principal office of the CFTC in a manner consistent with the notification requirements of the CFTC.713 The paragraph also requires that notices include a brief summary of the reason for the notice and the contact information of an individual who can provide further information about the matter that is the subject of the notice. This will facilitate the ability of the Commission and the CFTC to follow-up with the firm and gather further information about the matter that triggered the notice requirement. E. Cross-Border Application of Capital, Margin, and Segregation Requirements

1. Capital and Margin Requirements
   In 2013, the Commission preliminarily interpreted the Title VII requirements associated with registration to apply generally to the activities of registered entities. In reaching that preliminary conclusion, the Commission did not concur with the views of certain commenters that the Title VII requirements should not apply to the foreign security-based swap activities of registered entities, stating that such a view could be difficult to