The SEC released an advance notice regarding a concept release and proposed rulemaking for transfer agents on December 22, 2015. The Advance Notice of Proposed Rulemaking (ANPR) outlines the proposed rules and releases these new regulations for public comment. Following the comment process from ANPR, the SEC plans to propose formal regulations for transfer agents. Through the use of the ANPR, the SEC seeks comments regarding a vast sphere of issues that currently affect both transfer agents and the entire securities market.
Since transfer agent regulations were put in place in 1977, they have remained virtually unchanged. However, transfer agents are now operating in a market that is much different than the previous market of 1977, which therefore requires an updated set of regulations to be compatible with our 2016 market structure. The securities market is vastly different from the structure of the 1970s; it has evolved from manual securities processing to a highly electronic processing system. These changes represent significant technological developments as well as substantial developments in the securities industry and how transfer agents operate. Transfer agents have evolved to provide a more diverse set of services that are no longer adequately regulated by the SEC’s previous regulations.
The practice of selling certified securities has been in place since the 1700s, and these certificates remained a negotiable means that could be transferred. Being able to transfer these securities helped drive and produce the securities market and introduce the use of transfer agents. Transferring certified securities was a time consuming process, and required a lot of paperwork. However, as transferring securities became a more popular practice, the amount of paperwork grew and eventually led to the Paperwork Crisis in the 1960-70s. The amount of work and paperwork required for each transfer of securities became too much to handle and the stock market could not compensate for this increase. They attempted to shut down offices early each day; however, even this could not counter the increasing amount of paperwork. Securities were constantly late and occasionally lost. This led to the critical reshaping of the market structure and the creation of the Central Certificate Service, which eventually would be renamed as the Depository Trust Company (DTC).
However, transfer agent regulations have not been updated since the creation of the DTC, and therefore the regulations do not adequately address all the needs of transfer agents.
The Role of a Transfer Agent
Transfer agents play a crucial role in the National Clearance and Securities System (C&S). They have direct contact with the registered securities holder, and keep the records proving the ownership of that respective security. They also provide services such as transferring securities, cancelling transactions, issuing, distributing, communicating directly with the issuer, and answering any security related inquiries.
Federal Transfer Agent Rules
Before 1975, most transfer agents were either banks or trusts, and were subject to the American Stock Exchange requirements. However, in 1975 the power to regulate transfer agents was passed over by the SEC. The commission implemented a set of rules in 1977, still in place today that attempt to regulate the processing and transfer of securities services that transfer agents provide. These rules were primarily focused on three areas:
- Annual registration and reporting requirements
- Timing and reporting requirements (“Turnaround rules”)
- Recordkeeping and safeguarding regarding securities and funds
The SEC currently requires all transfer agents to register with the SEC through Form TA-1, which includes information on general identification, on any major stock holders, and whether any employees have been incriminated. Transfer agents are also required to submit an annual report using Form TA-2 including any information on the number of accounts, any funds distributed, and any lost securities. They are also required to report any updated information about business activities and data showing the transfer agent’s accordance with the turnaround rules. These forms can then be viewed by the public via EDGAR. Each form is released on December 31st, and then must be submitted by March 31 of the year following the reporting period.
- A transfer agent is exempt from certain sections of Form TA-2: if a transfer agent had less than 1,000 transferred items in the previous reporting period, and did not have more than 1,000 individual security holder accounts, they are only required to complete Questions 1-5, 11, and the signature section.
- A transfer agent that outsources their work entirely to service companies is only required to complete Questions 1-3 and the signature section of Form TA-2.
- A transfer agent is also able to withdraw their registration by filing form TA-W, which requires them to report any legal claims against the agent, reasons for withdrawing, and if any other transfer agent will be taking over their services.
Transfer agents are required to follow state corporate law, and are also subject to state commercial law. UCC Article 8 has been adopted by the legislature in all 50 states and all other US territories including the District of Columbia. This is primarily used to govern the transfer of investment securities in states.
Article 8 of the Uniform Commercial Code was adopted to help govern the transfer of investment securities and to further clarify the definitions and regulations for these respective securities.
- Security Entitlement: The entitlement holder is guaranteed priority with the financial assets associated in that securities account, over the intermediary or creditors involved. The entitlement holder can thereby issue directions for that respective account.
- Free transferability of interests: if certificates are issued regarding a security, then it automatically is an eligible security under Article 8 as long as the shares are traded in a recognizable market.
- Article 8 also defines shares of stock, shares in investment companies and mutual fund shares as securities.
While UCC Article 8 generalizes several requirements for securities, transfer agents are still required to abide by their respective state’s rules.
The ANPR proposed these fundamental changes:
- Increase the amount of information required on Form TA-1 and Form TA-2, and have this information submitted in an electronic, structured way. Transfer agents would now be required to disclose financial reports, any conflicts of interests, issuers the transfer agent is servicing, and specific services that were provided.
- Require that any contract between an issuer and transfer agent to be put in writing, which must determine the fee schedule, termination details, services provided, responsibilities of each party, and indemnification.
- Increase the requirements for any safeguarding of securities application of anti-fraud regulations. This includes but is not limited to: maintaining secure vaults, installing theft and fire alarms, and developing a written procedure for who has access to security holder accounts.
- Transfer agents would also be required to segregate client funds, to ensure that these bank accounts are designed for client protection, and to avoid client funds being miscounted as transfer agent funds.
- Increase recordkeeping requirements, and redefine several terms regarding transfer agents, specifically consolidating all definitions in Rule 17Ad-1 and 17Ad-9.
- Require transfer agents to create disaster recovery plans, as well as plans for business continuity.
- Any sale of securities must be registered under the Securities Act or have a relevant exemption.
- Transfer agents would be prohibited from making any false statement or engaging in any transfers that would result in an illegal distribution of securities.
- Transfer agents are required to adopt new internal controls by appointing a chief compliance officer.
Cybersecurity has become a major focus for the SEC, especially through the constantly growing dependence on technology. The Commission intends to propose new rules requiring that transfer agents implement basic procedures:
- Relating to any major business disruptions, such as data back-up.
- For the transfer agent’s use of technology, as well as methods of safeguarding.
- Applying to a transfer agent’s operation capacity, such as information security.
The concept release requests additional comments from the public on issues in and outside of the ANPR. The ANPR attempts to update the previous rules for transfer agents, and highlights key issues about current problems regarding transfer agents. The concept release also requests comments regarding Regulation Crowdfunding.