Brokerage customers must submit specific pieces of information in order to open new accounts. The requirement to attain this information comes from the Patriot Act, which was signed into law after the 9/11 attacks in 2001 to prevent terrorism and money laundering. This law requires financial firms to verify the identities of their customers, which prevents the creation of accounts under fake personas.
To accomplish this, financial firms must collect four pieces of critical information from the customer as a part of their Customer Identification Program (CIP):
*While a customer may request mail to be sent to a P.O. box, a physical mailing address must be on file.
**If a customer is a non-resident alien, they must provide their foreign passport and U.S. tax identification number (TIN).
After collecting these, financial firms follow one of two procedures to verify their customers’ identities. Traditionally, government-issued IDs (e.g. a driver’s license, passport, and/or military ID) were used to compare against the information provided. IDs must be currently valid and include a picture, which is why birth certificates cannot be used.
The modern way of verifying a customer’s identity utilizes credit bureaus. You’ve probably heard of TransUnion, Experian, and Equifax, which are the three largest credit bureaus. When a customer submits their four pieces of critical information, the brokerage firm checks one of the credit bureaus to confirm that the information matches with an actual person. If one or more pieces do not match, the firm cannot do business with the customer until it’s resolved. For example, if the customer mistakenly provided the wrong address, they must fix the issue before their account is approved.
The four critical pieces of information are required by the Patriot Act, but there are other items the firm must obtain from the customer. Occupation is one of those items, although it may seem like overkill on an account application. However, it’s the firm’s responsibility to confirm whether or not its customer is an affiliate of a publicly traded company or works in the industry.
If the customer is an affiliate (insider) of a publicly traded company, the brokerage firm must enforce Rule 144. As a reminder, Rule 144 prevents affiliates from selling significant amounts of their “control” stock quickly. Insiders are limited to selling the greater of the last four week’s trading average or 1% of the outstanding shares, four times a year.
If the customer works in the finance industry, they’re prevented from purchasing common stock initial public offerings (IPOs). As we learned in the primary market chapter, this rule prevents the finance industry from buying up IPOs and leaving nothing for the public. By asking about the customer’s occupation, the firm will know if they need to impose this restriction.
In addition to the IPO rule, brokerage firms must supervise their employees’ accounts to prevent misconduct. One of the most important things a firm monitors is insider trading. Insider trading occurs when a trade is made because of material, non-public information.
Brokerage firms know it’s possible their employees will come in contact with inside information. To ensure that insider trading does not occur, firms must supervise the accounts of their registered representatives. Additionally, if a registered representative wants to open an account at another brokerage firm, they must obtain written approval from their employer, notify them when the account is opened, and provide them with duplicate statements and trade confirmations if requested*. By asking about the customer’s occupation, firms can effectively follow these rules.
*Duplicate statements and confirmations are only required if requested, but approval and notification from the employing firm are mandatory.
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