New-Issue Credit Restriction and Related Exemptions

The new-issue credit restriction is the 30-day cooling-off rule for distribution participants:

• The rule's design is to break the loop where a firm could prop up the price of a security it just helped distribute by extending margin credit to buyers of the same security
• The exemptions carve out specific situations where the conflict is sufficiently mitigated
• The companion SEC disclosure and anti-fraud rules add overlays to the credit-extension process generally

The 30-Day Prohibition

A broker-dealer that participated in distributing a security may NOT extend or maintain credit on that security for 30 days following the distribution.

What Counts as Distribution Participation

A firm participates in a distribution if it acted in any of the following capacities:

• Underwriter in the offering syndicate
• Selling group member
• Dealer holding new issue for resale at the offering price
• Otherwise involved in placing the security with the public

A firm that simply executes a customer's secondary-market purchase of the same security, without having been involved in the distribution, is not subject to the 30-day prohibition.

What "Extend or Maintain Credit" Means

The prohibition covers:

• Lending the customer money to buy the security
• Holding the security in a margin account where the customer has any debit balance
• Maintaining an existing margin loan secured by the security after the 30-day clock starts

A firm with a customer that already held the security on margin (purchased through a different firm or in a different transaction) before the firm participated in any distribution is generally fine; the prohibition focuses on credit extended in connection with the distributed security.

Why This Matters

Without the 30-day rule, a firm that helped distribute a hot IPO could simultaneously extend margin credit to retail customers buying the same IPO. Customers would be using the firm's own credit to bid up the firm's own distribution. The rule severs that loop.

Think of it this way: The new-issue credit restriction treats the firm as having just "owned" the security through the distribution. The firm doesn't get to play both seller and lender to its customer at the same time. The 30 days is the cooling-off period during which the firm must keep its distribution role and its margin role separate.

Exam Tip: Gotchas

• The new-issue credit restriction is the 30-DAY cooling-off rule for distribution participants. They can sell the security but cannot finance customer purchases of the same security on margin during the 30-day window. The exam frames this as a conflict-of-interest containment rule.
• The 30-day clock starts at the END of the distribution, not at the start. Distribution can take days or weeks. The 30-day prohibition runs from when the distribution is complete.

DPP Exemption

A separate SEC exemption excludes certain Direct Participation Program (DPP) securities from the arranging-credit and new-issue-credit restrictions.

What DPPs Are

A direct participation program is a non-corporate, pass-through investment vehicle, most commonly a limited partnership, that allows investors to participate directly in the cash flows and tax benefits of an underlying business. Common DPP forms:

• Real estate limited partnerships
• Oil and gas limited partnerships
• Equipment leasing programs

DPP securities are typically illiquid (no secondary market) and structured for long-term holding. Because they are not actively traded, applying the margin-credit prohibition would be procedurally awkward (the firm cannot easily extend margin against an illiquid LP interest anyway).

Why the Exemption Exists

The DPP exemption acknowledges that the conflict-of-interest scenario underlying the credit restriction, where a firm props up the price of a security it just distributed by financing customer purchases, does not apply to DPPs because there is no public-market price to prop up. The exemption avoids imposing a meaningless restriction.

Exam Tip: Gotchas

• The DPP exemption excludes DPPs from the margin-credit restrictions. The exemption recognizes that DPPs are illiquid and not subject to the same conflict-of-interest dynamics as publicly-traded equity offerings.

Residual Exemptions

A residual exemption framework excludes certain other securities from the new-issue credit restriction, generally those subject to specific SEC no-action positions or where the conflict-of-interest concern is otherwise mitigated. The framework covers situations the SEC has determined do not present the underlying mischief the credit restriction is designed to prevent.

Investment Company Shares as Margin Collateral

A specific exemption covers investment company securities held by broker-dealers as collateral in margin accounts, excluding them from the new-issue credit restriction.

Why This Exemption Exists

A BD that is part of a mutual fund's distribution syndicate could otherwise be prohibited from holding the same fund's shares as margin collateral for customer accounts during the 30-day window. The exemption recognizes a structural distinction:

• Investment company shares functioning as margin collateral (rather than as the security being purchased on margin) do not raise the same conflict-of-interest concern
• The customer is not buying the fund shares using firm credit; the customer is using them as collateral for unrelated margin purchases

Exam Tip: Gotchas

• The exemption covers investment company shares held as MARGIN COLLATERAL (not as the security being purchased on margin). The distinction matters: a customer buying fund shares on margin within 30 days of the firm's distribution role would still be caught by the credit restriction, but a customer using fund shares as collateral for a margin purchase of OTHER securities is exempt.

Disclosure When Extending Credit

When a BD extends or arranges credit in connection with a securities transaction, the SEC's credit-arrangement disclosure rule requires the firm to:

The credit-arrangement disclosure rule is a layered overlay: it applies whenever a BD extends or arranges credit, regardless of whether the new-issue credit restriction, Reg T, or the FINRA margin requirements also apply. The substantive credit rules (Reg T, FINRA margin) say how much credit; this disclosure rule says how the credit is disclosed and confirms suitability.

What "Extends or Arranges" Means

A firm "extends" credit when it lends customer money directly. A firm "arranges" credit when it facilitates a third-party loan (for example, refers the customer to a bank that will lend, with the BD as intermediary). Both situations trigger the credit-arrangement disclosure obligation.

Exam Tip: Gotchas

• The credit-arrangement disclosure rule requires a written statement of credit terms AND a not-unsuitable determination based on the customer's financial information. Both are required; one alone does not satisfy the rule. The exam may probe scenarios where the firm provided written terms but did not check suitability; both are required.

Pro Forma Balance Sheets

The SEC's pro-forma balance-sheet anti-fraud rule treats use of pro forma balance sheets in connection with offers or sales of securities as fraudulent unless the pro forma adjustments are clearly identified and supported.

What Pro Forma Means

A "pro forma" balance sheet projects what an issuer's financial statements would look like after a hypothetical event (a planned merger, acquisition, IPO, or capital raise). Pro forma figures are useful for investors evaluating a transaction, but they are also susceptible to manipulation: an issuer might assume favorable synergies, ignore dilution, or otherwise dress up the post-transaction picture.

What the Rule Requires

The rule does not ban pro forma presentations. It requires that:

• The pro forma adjustments must be clearly identified (the reader must be able to see what was added, removed, or changed)
• The adjustments must be supported (with reasonable bases, not arbitrary improvements)

If both conditions are met, the pro forma is permissible. If either is missing, the firm using the pro forma in connection with an offer or sale has committed a violation, treated as fraudulent.

Exam Tip: Gotchas

• The pro-forma rule does NOT ban pro forma balance sheets; it bans UNDISCLOSED or UNSUPPORTED pro forma adjustments. A clearly-identified, properly-supported pro forma is fine. A pro forma that hides the underlying GAAP numbers or invents synergies is a violation, treated as fraud.