The Canadian Investment Regulatory Organization (“CIRO”) has published for comment Phase 4 of its rule consolidation project (the “Rule Consolidation Project”). Phase 4 involves the adoption of rules relating to managing significant areas of risk, individual approval, business conduct and client accounts, and review procedures for approvals. Comments will be accepted until February 4, 2025.
Background
As we discussed in a previous post, the purpose of the Rule Consolidation Project is to bring together the rules currently applicable to investment dealers and mutual fund dealers into one set of rules applicable to both categories of CIRO dealer members. The Phase 1 proposals outlined a framework for the development of the consolidated rules. The Phase 2 proposals involved the adoption of rules relating to margin, debt markets and inter-dealer bond brokers and trading. The Phase 3 proposals involved the adoption of rules relating to membership and member business activity approval matters, clearing and settlement of trades and trade delivery standards and examination, investigation and enforcement.
The Proposals
The requirements affected by the Phase 4 proposals are mostly unique to the Investment Dealer and Partially Consolidated Rules (“IDPC Rules”) and Mutual Fund Dealer Rules (“MFD Rules”), respectively. Their consolidation may have material impacts on stakeholders, particularly mutual fund dealers, due to significant differences between the existing rules. The Phase 4 proposals in part include:
- Delegation and automation: Delegation would be permitted, subject to specific prohibited exceptions, and the general delegation provision would be revised to permit dealer members to automate tasks or activities where the existing rules require an individual to perform a specific function;
- Definition of “investment product”: The definition of “investment” from the MFD Rules, adopted in Phase 1 of the Rule Consolidation Project, would be replaced with a new definition under the term “investment product”. CIRO believes that the proposed definition would provide more clarity and flexibility (e.g., by clarifying which regulatory obligations relate to all or only certain investment products and by permitting the CIRO board to designate other products as “investment products”);
- “Approved Person” regime and proficiency requirements: In an effort to harmonize the Approved Person regime across dealer members with existing requirements in the IDPC Rules, the CIRO approval process and applicable proficiency requirements would be extended to the Approved Person categories of mutual fund dealers only where those categories are not subject to a registration requirement under securities law (i.e., the director, executive, chief financial officer (“CFO”) and supervisor (branch manager) categories). Mutual fund dealers would be required to appoint a CFO, who would be subject to IDPC Rules relating to CFOs as well as the Approved Person regime;
- National Registration Database (“NRD”): To facilitate the use of the NRD, the obligations currently applicable to investment dealers when using the NRD would be extended to mutual fund dealers;
- Conflict of interest policies and procedures: The existing requirement that an investment dealer have policies and procedures that specifically address material conflict of interest situations would be extended to mutual fund dealers;
- Personal financial dealings: CIRO proposes the adoption of various existing requirements relating to personal financial dealings, including: (i) their application to employees; (ii) accepting any consideration; (iii) settlement agreements without the dealer member’s approval; (iv) borrowing from clients; (v) lending to clients; and (vi) control or authority. Among other things, the prohibition on personal financial dealings with clients currently applicable to investment dealer employees would be extended to employees of all dealer members. A new restriction would also be added to prohibit Approved Persons and employees from accepting beneficiary status or bequests from a client’s estate except where the client is an immediate family member and, in certain cases, the proposed status or bequest is disclosed to and approved in writing by the dealer member;
- Referral arrangements: A modified version of MFD Rules relating to referral arrangements would be adopted;
- Know-your-client (“KYC”) obligations and client accounts: IDPC Rules relating to the collection of KYC information, which are less prescriptive than MFD Rules, would be adopted. CIRO also proposes the adoption of various existing requirements relating to client identification, information and accounts and relationship disclosure;
- Product due diligence and know-your-product (“KYP”) obligations: The product due diligence and KYP requirements would specify that these obligations apply to “investment products”, discussed above;
- Suitability determinations: IDPC Rules relating to suitability, which distinguish between retail and institutional clients, would be retained. CIRO also proposes to adopt modified versions of MFD Rules relating to unsuitable investments and the requirement to have policies and procedures to assess the suitability of leverage strategies;
- Sales practices: While most of the requirements relating to sales practices would not be applicable to mutual fund dealers, those that relate more specifically to fees, which may apply, are consistent with existing requirements applicable to mutual fund dealers;
- Communications with the public: CIRO proposes to adopt certain requirements relating to advertisements and sales and client communications from the IDPC Rules and MFD Rules, respectively;
- Supervision: CIRO proposes the adoption of various existing requirements relating to supervision, including: (i) the delegation of supervisory tasks; (ii) governance documents; (iii) the supervision of shared office premises; (iv) account supervision policies and procedures; (v) daily and monthly trade supervision; (vi) additional supervisory responsibilities; and (vii) the supervision of new registered representatives and investment representatives. Among other things, the following requirements currently applicable to investment dealers would be extended to mutual fund dealers: (i) the requirement to file with CIRO any material changes made to a dealer member’s governance document; (ii) IDPC Rules relating to account supervision policies and procedures, which are consistent with MFD Rules, but require the identification of high-risk clients and the adoption of policies and procedures that include controls for accessing and amending client records; and (iii) IDPC Rules relating to daily and monthly trade supervision, with a separate requirement, from the MFD Rules, that mutual fund dealers specifically designate for supervision purposes leveraged accounts, registered accounts and accounts where the registered representative has full or partial control or authority over the financial affairs of the client who is a related person; and
- Review procedures for approvals and membership: Among other things, CIRO proposes to streamline the regulatory decision review process for all dealer members.
What’s Next?
The Canadian Securities Administrators (“CSA”) are considering delegating certain registration functions and powers to CIRO, which performs such functions for some CSA members under delegated authority. This initiative is intended to create efficiencies and reduce regulatory burden by providing certain market participants with a single, centralized registration process. The CSA note that the proposed model may be restricted to routine applications of investment dealers and mutual fund dealers (firms and individuals) in some jurisdictions. Other market participants would continue to register with, and be overseen by, their local securities regulator. Subject to the necessary approvals, delegation orders or proposed rule amendments would be issued by CSA members locally in due course.
The Ontario Securities Commission (“OSC”) has also published OSC Staff Notice 11-7100 Delegation of Registration Function to CIRO. While CIRO is already responsible for the registration of individuals who act on behalf of investment dealers, OSC staff (“OSC Staff”) propose that, with appropriate oversight, the registration of investment dealers, mutual fund dealers and individuals who act on behalf of mutual fund dealers be delegated to CIRO as well. Subject to regulatory approval, OSC Staff will propose that this delegation become effective in spring 2025. The OSC indicates that this delegation will not result in a change to the key information that firms and individuals are required to submit with respect to applications for registration and updates to registration information. In a further phase, OSC Staff will consider the delegation of additional registration functions to CIRO.
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