Transaction-Based Compensation to Personal Services Entities: Not Registered, Not a Problem Says SEC Staff

The SEC Division of Trading and Markets recently issued significant no-action relief permitting registered representative–owned personal services entities to receive transaction-based compensation under strict conditions without registering as broker-dealers.

The Financial Services Institute (FSI), representing independent financial services firms and advisers, submitted a request to the Securities and Exchange Commission’s Division of Trading and Markets seeking assurance that registered representative–owned personal services entities (PSEs) could receive transaction-based compensation (TBC) without triggering broker-dealer registration under Section 15(b) of the Securities Exchange Act of 1934 (the Exchange Act).

FSI noted that independent registered representatives, often classified as independent contractors rather than employees, establish PSEs for succession, tax planning, and other business endeavors, including those subject to oversight by regulators such as state insurance authorities. The request emphasized that mere receipt of TBC should not cause PSEs to meet the definition of “broker” or “dealer” under the Exchange Act, thus requiring registration.

REGULATORY SUPERVISION AND OVERSIGHT REQUIREMENTS

In its requested relief FSI highlighted that, despite their independent contractor status, registered representatives are considered employees for supervision purposes under the Exchange Act and Financial Industry Regulatory Authority (FINRA) rules. Citing SEC and FINRA guidance, the request confirmed that broker-dealers are obligated to supervise all aspects of their representatives’ securities business, including compensation arrangements and compliance with outside business activity rules, such as FINRA Rule 3270.

The request letter made clear that these obligations would carry over to the PSE arrangements, with broker-dealers retaining exclusive control over determining and directing compensation paid to each registered representative, and that regulatory authorities—including the SEC and relevant self-regulatory organizations (SROs)—would have full access to books, records, and information required for oversight.

ANALYSIS OF PRIOR INTERPRETIVE GUIDANCE AND LEGAL PRECEDENT

The request and subsequent SEC Staff response acknowledged the complexity and inconsistencies in prior SEC Staff guidance regarding whether mere receipt of TBC necessitates broker-dealer registration.

A number of SEC no-action letters have taken the position that receipt of TBC is dispositive for registration, and the SEC has largely frowned upon nonregistered entities owned by licensed broker-dealer personnel receiving TBC, even where such requests were made for administrative convenience purposes, such as for office expenses, human resources benefits, and to pay non–sales-related support staff. [1]

Other letters and judicial decisions, however, have focused on the statutory language in the Exchange Act and emphasized that broker-dealer status should be determined by whether the entity is “engaged in the business of effecting transactions in securities for the accounts of others.” [2] Notably, courts have called for a functional analysis rather than a bright-line test based solely on compensation receipt, referencing such cases as SEC v. Kramer and Maiden Lane Partners.

SEC STAFF POSITION AND ENFORCEMENT STANCE

In its response to FSI, the SEC Staff confirmed that it would not recommend enforcement action to the Commission against a PSE solely for receiving TBC under the terms and conditions described in FSI’s request, noting its understanding that permitted arrangements would be structured to include the following specific safeguards:

• Exclusive Broker-Dealer Supervision: The broker-dealer must retain full supervisory authority over its brokerage business and the registered representatives’ brokerage activities.
• Control of Compensation: The broker-dealer must determine the timing and amount of compensation paid to each representative.
• No Broker-Dealer Activities by PSE: The PSE itself may not solicit, execute, or negotiate securities transactions or hold itself out as a broker-dealer.
• Regulatory Access: The SEC and SROs must have full access to any books, records, and other information they may require to assert regulatory oversight of the broker-dealer, its registered representatives, and its business operations.

Notably, the incoming FSI request letter included additional conditions to those expressed in the Staff response, so it may be prudent for a firm relying on this relief to consider also meeting such conditions:

• Broker-Dealer Maintains Bank Account: The broker-dealer must maintain a bank account for paying TBC to its independent-contractor registered representatives who are also employees or contractors of the PSE.
• Broker-Dealer and Registered Persons Control Compensation: The broker-dealer instructs (or otherwise approves) the PSE regarding the size and timing of TBC paid to each registered representative. Registered principals who are also employees or independent contractors of the PSE may make recommendations to the broker-dealer regarding the size and timing of TBC to be paid to the registered representatives, but the broker-dealer must have final discretion regarding the size and timing of the payment to each of the registered representatives.
• PSE Promptly Distributes Compensation: The PSE promptly distributes TBC to the registered representatives, with the ability to retain a portion for overhead and administrative expenses.
• Broker-Dealer Maintains Books and Records: As required by Exchange Act Rules 17a-3 and 17a-4, the broker-dealer must maintain records regarding all compensation payments it makes to the PSE and be prepared to provide required details as to payments made to each registered representative.
• Registrations Are Held by Broker-Dealer: All registered representatives and principals of the PSE are registered with the same broker-dealer.
• PSE Owners Are Registered with Broker-Dealer: Each owner of the PSE will be a registered person of the broker-dealer.
• PSE Locations Are Offices of Broker-Dealer: The PSE’s location must be designated as a branch office or office of supervisory jurisdiction (OSJ) of the broker-dealer.

Further, there must be a written independent contractor servicing agreement that delineates each party’s obligations, responsibilities, and limitations, including the broker-dealer’s exclusive control over securities-related activities, compliance responsibilities, disciplinary authority, and regulatory access to books and records.

The servicing agreement should also include provisions requiring that the PSE must not engage in securities-related activities requiring broker-dealer registration, nor hold itself out as a broker-dealer, and that unregistered personnel employed by the PSE (1) are prohibited from engaging in securities-related activities, (2) must limit activities involving securities transactions to those that are clerical or ministerial, and (3) may not receive bonuses tied to TBC paid by the broker-dealer to the PSE.

IMPLICATIONS FOR BROKER-DEALERS AND INDEPENDENT FINANCIAL SERVICES FIRMS

The SEC Staff’s position provides significant clarity and relief for independent financial services firms and their registered representatives seeking to optimize tax, succession, and business planning through PSEs.

The relief aligns regulatory treatment of brokerage compensation with the longstanding position regarding advisory compensation under the Investment Advisers Act of 1940, requiring satisfaction of multiple elements for investment adviser status rather than focusing solely on receipt of compensation. Firms will want to ensure these arrangements adhere to the conditions set forth to mitigate enforcement risk and ensure continued regulatory oversight.

The SEC Staff cautioned that reliance on this no-action position does not exempt entities from compliance with anti-fraud and anti-manipulation provisions of the Exchange Act, including Sections 9(a) and 10(b), and Rule 10b-5.

The responsibility for compliance with all applicable federal securities laws rests with firms and individuals relying on the relief and the position may be modified or revoked at any time.

BROADER REGULATORY AND INDUSTRY IMPACT

By superseding prior inconsistent no-action letters and staff statements, this SEC Staff position offers welcome regulatory certainty for independent broker-dealer models and the use of PSEs in the financial services sector. The relief is expected to facilitate administrative efficiency and tax optimization for registered representatives while maintaining robust regulatory controls and oversight.

Firms should continue to monitor regulatory developments as the SEC Staff expressly retains the authority to modify or revoke this position and review compliance on an ongoing basis.

FORWARD-LOOKING CONSIDERATIONS

Looking ahead, broker-dealers and registered representatives should closely review and implement the specified conditions, ensuring that their PSE structures do not cross into prohibited activities or undermine regulatory supervision. The SEC’s approach may signal greater openness to functional analyses in determining registration requirements, but it also underscores the importance of detailed compliance and vigilance against regulatory risk.

As the industry adapts to these clarified standards, continued engagement with regulators and legal counsel will be essential to navigate evolving requirements and maintain operational integrity.