Regulators finally clarify EMD requirements

Under the new National Instrument 31-103, commonly referred to as registration reform, there is the ability for market participants to apply for exempt market dealer status (EMD). The Canadian Securities Administrators has announced the requirements to obtain EMD status, which greatly reduces the regulatory burden under the new national securities registration.

Coming into effect nationally in September, the new EMD status is somewhat similar and will replace the Limited Market Dealer (LMD) status that exists in Ontario and Newfoundland. Dealers will be required to register with the securities commission if they can prove they serve certain clientele, such as accredited investors, and that they have meet certain proficiency standards. If these two things are met they will be allowed to deal in “prospectus exempt” securities.

Prema Thiele, a partner at Borden, Ladner and Gervais in Toronto, says the EMD category is essentially a “beefed up” version of the LMD status previously available in Ontario.

“[NI 31-103] takes the LMD category and renames it EMD, exports that concept across the country and then beefs up the requirements substantially from where the limited market dealer fit and proper requirements are found today,” Thiele says. “It doesn’t change what an EMD versus an LMD does. It’s the same thing.”

According to Thiele, the most commonly used prospectus exemptions under 45-106 selling to a client who is an accredited investor and selling where each trade is an amount of $150,000 or greater—the minimum purchase exemption under 45-106. Selling to friends and family can also be granted a prospectus exemption.

Exempt market dealers can sell investment funds (whether or not they are prospectus-qualified) under these exemptions. In other words, as long as the transaction or client criteria meet the prospectus exemptions they can sell securities like mutual funds.

“There is no reason why an exempt market dealer couldn’t sell a retail market mutual fund. They can’t sell that prospectus retail mutual fund that you and I would buy, to anybody. They would have to take that and sell it to an accredited investor. Whereas an accredited mutual fund dealer or an IIROC does not need to look at all who they are selling to make sure they meet financial thresholds,” Thiele says.

The CSA says as of March 28, 2010, the registration exemptions in NI 45-106 will no longer be available. All registration exemptions will be set out in Part 8 of NI 31-103, or in local rules or blanket orders.

In addition to meeting the registration exemptions set out in Part 8, EMDs will also have to meet proficiency requirements.

To be an EMD dealing representative, an individual must pass the Canadian Securities course exam. They must also pass an Exempt Market Products exam, or satisfy the proficiency requirements of an advising representative of a portfolio manager.

The minimum capital is $50,000 for a registered EMD. It will be required to maintain bonding or insurance of $50,000 per employee, agent and dealing representative or $200,000, whichever is less. Bonding or insurance equal to 1% of the total client assets that the dealer holds or has access to, as calculated using the dealer’s most recent financial records, or $25,000,000, whichever is less.

An EMD must deliver its annual financial statements for the financial year no later than the 90th day after the end of its financial year, and complete a Form 31-103F1, Calculation of Excess Working Capital.

Another big proficiency requirement will be the elimination of margin or leverage on prospectus exempt business. Registrants will be restricted from lending to clients and must provide certain disclosure to clients when recommending the use of borrowed money.

Northwestern Exemption

Firms placed in the EMD category in Alberta, British Columbia, Manitoba, the Northwest Territories, Nunavut and the Yukon will issue local orders when NI 45-106 expires on March 27, 2010. This “Northwestern exemption” will contain a number of conditions that restrict the availability of the exemption.

Included under these rules, an EMD individual or firm must not be registered in any category of registration in any jurisdiction. It must not provide suitability advice about the trade to the purchaser. Except in British Columbia, it must not otherwise provide financial services to the purchaser.

In addition, an EMD must not hold or access the purchaser’s accounts and it must provide risk disclosure in the prescribed form to the purchaser.

Saskatchewan is considering whether it will adopt this exemption and will release a separate notice when it has made its decision. An EMD will be required to file an information report with the securities regulatory authority.

(08/10/09)