Misuse of Customer Assets

Quick Answer

The FINRA misuse-of-customer-assets prohibition governs how registered persons may handle customer securities and funds. The improper-use branch prohibits unauthorized borrowing, commingling, and personal use. The guarantee branch prohibits guarantees against loss. The sharing branch prohibits sharing in customer profits or losses unless the registered person obtains prior written authorization from both the firm and the customer AND contributes proportionately to the account.

The misuse-of-customer-assets prohibition is the most direct trust-violation rule in the FINRA conduct rules. A registered person who borrows from a customer's account, promises to cover losses, or splits profits without authorization violates the rule even if the customer was not financially harmed and even if the customer agreed.

The Improper-Use Prohibition

No member or associated person may make improper use of a customer's securities or funds. The rule applies to any control over customer assets, including discretionary authority, beneficial-interest authority, and operational handling.

"Improper use" includes:

Unauthorized borrowing of customer securities or funds for any purpose, including short-term loans the registered person intends to repay
Pledging or rehypothecating customer assets beyond authorized margin obligations under the SEC customer-protection rule
Commingling customer assets with the firm's or associated person's accounts contrary to the SEC customer-protection rule
Using customer assets for personal purposes, including paying personal expenses or trading for the registered person's own account

Exam Tip: Gotchas

The improper-use prohibition reaches even short-term unauthorized borrowing. A registered person who "borrows" $5,000 from a customer's account on Monday and repays it on Friday violates the rule. Intent to repay is irrelevant.

The improper-use prohibition is layered onto the SEC customer-protection rule. Commingling that violates the customer-protection rule also violates the FINRA rule. FINRA can bring its own charges without waiting for the SEC to act.

The Prohibition Against Guarantees

No member or associated person may guarantee a customer against loss in connection with any securities transaction or any securities account.

The prohibition covers express guarantees ("I will cover any loss") and implicit promises (verbal or written assurances that loss is impossible)
A guarantee is a violation regardless of whether a loss ever occurs. A rep who tells a customer "you cannot lose money on this trade" violates the guarantee prohibition even if the trade is profitable
A guarantee is a violation regardless of whether the firm's policies allow it. Individual reps cannot guarantee loss prevention even if the firm has not specifically prohibited it

Limited Safe Harbors

A member firm (not the associated person personally) may, on an after-the-fact basis:

Reimburse a customer for transaction losses (subject to applicable reporting, e.g., reporting as a settlement on the customer's account history)
Correct a bona fide error (an operational mistake by the firm or its agents)

The safe harbors apply only to the firm acting as a corporate entity. A registered person's personal promise to cover losses is never within the safe harbor.

Think of it this way: The firm can pay the customer back after a trade goes wrong. The rep cannot promise upfront that the firm or the rep will pay if a trade goes wrong. The first is a settlement; the second is a guarantee.

Exam Tip: Gotchas

A rep cannot orally promise to "cover any losses" on a recommended trade, even if the rep intends to keep the promise. The guarantee prohibition makes a guarantee a violation regardless of whether a loss ever occurs.

An after-the-fact firm reimbursement is allowed; a pre-trade promise is not. The exam tests this distinction. The firm can settle a complaint by writing a check; the rep cannot promise the check before the trade.

The general prohibition: No member or associated person may share, directly or indirectly, in the profits or losses of a customer's account.

The Two-Part Exception

A registered person may share if both authorizations are obtained in advance:

Prior written authorization of the member firm
Prior written authorization of the customer

Plus the Proportionality Requirement

Even with both written authorizations, the registered person's share of profits and losses must be proportionate to the registered person's financial contribution to the account. A rep who funds 10% of an account but agrees to a 50/50 profit split violates the sharing prohibition even with full written consents.

The Immediate-Family Exception to Proportionality

The proportionate-contribution requirement does NOT apply to accounts of the registered person's immediate family.

"Immediate family" for sharing-in-account purposes is defined broadly to include parents, spouse or domestic partner, children, siblings, in-laws, and others. Use the same broad definition tested under the borrowing/lending requirement
The family member must still grant the authorization, and the firm must still approve in writing

Sharing Scenario	Firm Written OK?	Customer Written OK?	Proportionate?	Permitted?
Outside customer, 50/50 split, rep funds 10%	Yes	Yes	No	NO (fails proportionality)
Outside customer, 50/50 split, rep funds 50%	Yes	Yes	Yes	Yes
Outside customer, 50/50 split, rep funds 50%	No	Yes	Yes	NO (fails firm approval)
Spouse account, 50/50 split, rep funds 10%	Yes	Yes	No	Yes (immediate-family exception)
Spouse account, 50/50 split, rep funds 10%	No	Yes	No	NO (still needs firm approval)

Exam Tip: Gotchas

Sharing requires BOTH written approvals AND proportional contribution (for non-family customers). A rep who funds 10% of an account but agrees to a 50/50 profit split violates the sharing prohibition even with both consents in writing.

The immediate-family exception waives proportionality, not firm approval. The rep still must obtain prior written firm consent to share in a parent's or spouse's account, even though contribution proportionality no longer applies.