Quick Answer
Penny-stock status depends on the definition's exclusions, not price alone. Covered transactions require risk, quotation, and compensation disclosures, account statements, and sales-practice steps. Required documents and two-business-day waiting periods precede execution. Established-customer status exempts the sales-practice steps only; it does not independently waive Schedule 15G or the separate disclosure rules.
Penny stocks are reported through the ORF (covered earlier in this unit), but the supervisory regime around them is its own reporting-adjacent topic. The Series 24 tests penny stocks as a books-and-records and customer-disclosure topic, with the principal responsible for ensuring every non-exempt customer transaction satisfies the penny-stock disclosure regime.
Penny Stock Definition
A "penny stock" is generally an equity security that is NOT:
- Within a qualifying exchange/NMS exclusion under the penny-stock definition, OR
- Priced $5 or more under the rule's price calculation, excluding commissions and other remuneration, OR
- Issued by a registered investment company, OR
- Issued by an issuer with net tangible assets > $2 million (in continuous operation 3+ years) or > $5 million (in operation less than 3 years), OR
- Issued by an issuer with average revenue ≥ $6 million for the last 3 years
Most low-priced (under $5) OTC equities meet the definition.
| Test | Threshold for NOT Being a Penny Stock |
|---|---|
| Price | $5 or more under the rule's applicable calculation; the exclusion is not limited to NMS stocks |
| Listing | Meets the rule's qualifying exchange/NMS criteria |
| Issuer net tangible assets | > $2 million (3+ years in continuous operation) or > $5 million (less than 3 years) |
| Issuer average revenue | ≥ $6 million over the last 3 years |
A security that fails all of these tests is a penny stock and is subject to the penny-stock disclosure regime.
Penny stock is a regulatory category. A $7 OTC equity can satisfy the price exclusion even if its issuer is small. A sub-$5 security can qualify for another exclusion. Apply the actual listing, price, issuer, and instrument criteria rather than a single label.
Exam Tip: Gotchas
- Each exclusion operates independently. A qualifying exchange security can be outside the definition below $5; a qualifying $5-or-more OTC price can also exclude a security. Generic exchange listing is not a substitute for checking the rule's listing criteria.
- The issuer-size tests are alternatives to price/listing, not requirements on top of them. Meeting any one of the tests (listing, NMS price, registered IC, large issuer by assets, large issuer by revenue) takes the security out of the regime.
- Most low-priced OTC equities are penny stocks. The combination of "under $5" and "OTC" usually fails all the alternative tests.
Exempt Transactions
Distinguish a security excluded from the penny-stock definition from a transaction exempt under a particular rule. The disclosure exemptions cover specified transactions, including qualifying institutional-accredited and unrecommended transactions. Established-customer status is a separate sales-practice exemption, not a general disclosure exemption.
An "established customer" is one who satisfies either:
- An account through which the customer effected a securities transaction or deposited funds or securities more than one year earlier, OR
- Three different prior penny-stock buys on three different days from at least three different issuers
The first established-customer route does not require penny-stock activity. A qualifying mutual-fund purchase or account deposit more than one year earlier can suffice. Institutional-sale exemptions concern the transaction or purchaser; they do not redefine the security itself.
Exam Tip: Gotchas
- Account age alone is insufficient, but prior penny-stock activity is not always necessary. Check a qualifying transaction or deposit more than one year earlier, or three penny-stock purchases on different days involving different issuers.
- The established-customer exemption is per-CUSTOMER, not per-FIRM. A new account at the firm is not established even if the customer has decades of penny-stock experience elsewhere.
- An exemption removes only the requirements it actually covers. Established status exempts the sales-practice steps; it does not waive Schedule 15G, quotation or compensation disclosure, or required account statements.
Disclosure Document: Schedule 15G
Before a non-exempt penny stock transaction, the broker-dealer must deliver Schedule 15G: the standardized risk disclosure document describing penny-stock market risks. The customer must:
- Sign and return an acknowledgment of receipt
- Retain the signed and dated acknowledgment at least three years, first two easily accessible.
- Do not effect the covered transaction less than two business days after sending the disclosure document; obtain the acknowledgment before the transaction.
| Requirement | What It Requires |
|---|---|
| Pre-transaction delivery | Delivery of Schedule 15G before the first non-exempt penny stock transaction |
| Schedule 15G content | The standardized risk disclosure form |
Exam Tip: Gotchas
- Schedule 15G must be delivered BEFORE the transaction, not at confirmation or settlement. A firm that ships the document with the trade confirm has violated the disclosure rule even if the customer later signs and returns it.
- The signed acknowledgment is a record under SEC books-and-records rules. A firm that delivered Schedule 15G but did not retain the signed return has a separate recordkeeping problem.
Quotation, Compensation, and Statement Disclosures
A second set of disclosures applies to specific dimensions of the transaction:
| Disclosure | What Is Disclosed |
|---|---|
| Inside-quote disclosure | Required quotation information orally or in writing before the transaction, and in writing at or before confirmation |
| Firm-compensation disclosure | Required aggregate broker-dealer compensation orally or in writing before the transaction, and in writing at or before confirmation |
| Associated-person compensation disclosure | Compensation of the associated person (registered rep) for the transaction |
| Account statement | Required estimated market value or the statement "no estimated market value" under the prescribed methods; ordinarily monthly, subject to specific exceptions |
Exam Tip: Gotchas
- Each disclosure obligation matters. One document can convey multiple required disclosures; a separate customer signature for every quote or compensation disclosure is not a universal requirement.
- Statement timing has exceptions. Covered month-end positions ordinarily require a statement within ten days after month-end. After six consecutive months without penny-stock transactions, a specified quarterly-statement exception can apply while inactivity continues. Established status alone does not waive statements.
- The firm-compensation disclosure covers the FIRM'S compensation; the AP-compensation disclosure covers the AP'S compensation. The exam will sometimes try to merge them; they are separate disclosures.
Sales Practice Requirement
For non-exempt transactions, the broker-dealer must:
- Approve the account after collecting finances, investment experience, and objectives and making the required suitability and capability determinations.
- Deliver the firm's written suitability-basis statement with prescribed highlighted notices and obtain the customer's signed and dated copy.
- Obtain a signed and dated customer agreement specifying the identity and quantity of the penny stock to be purchased before executing the trade
| Step | What It Requires |
|---|---|
| Account approval | Required broker-dealer determination and approval; follow the firm's designated supervisory approval procedures |
| Suitability statement | Firm's written basis and prescribed notices, signed and dated by the customer |
| Signed agreement | Per-trade customer agreement specifying identity and quantity of the penny stock |
The signed agreement identifies the security and quantity for the covered transaction; a generic account authorization is insufficient. The sales-practice rule also requires two business days after sending the transaction agreement and suitability statement before the transaction. Apply each relevant waiting period along with the separate Schedule 15G requirement.
Think of it this way: The penny-stock sales-practice regime is a deliberate friction layer. Each step adds documentation and the chance for the customer (or the principal) to think twice. Penny stocks are dangerous enough that the SEC built the friction in by design.
Exam Tip: Gotchas
- The signed agreement is REQUIRED PER-TRADE, not as a blanket account authorization. A customer who buys five penny stocks signs five agreements. A "I authorize penny-stock trading generally" form does not satisfy the sales-practice rule.
- Account approval is the firm's responsibility. The sales-practice rule does not independently specify a registered-principal title for every approval; follow the firm's procedures assigning and documenting supervisory review.
- Penny stock rules apply at the BROKER-DEALER level, not just the registered rep. The principal's written supervisory procedures (WSPs) must require written account approval, signed agreement, and Schedule 15G delivery for every non-exempt customer before a buy is executed.
How the Penny-Stock Regime Stacks for a Single Trade
A new customer's first non-exempt penny-stock buy requires the firm to satisfy multiple requirements in sequence:
| Step | Action |
|---|---|
| 1. Account review | Firm account approval based on required information and determinations |
| 2. Customer suitability | Deliver the firm's suitability-basis statement; obtain the signed and dated copy |
| 3. Pre-trade disclosure | Deliver Schedule 15G; retain signed acknowledgment |
| 4. Pre-trade quote | Disclose inside bid/ask (or absence of quotes) |
| 5. Per-trade agreement | Customer signs agreement specifying identity and quantity |
| 6. Compensation disclosure | Disclose firm and AP compensation |
| 7. Trade execution | Verify all required documents, disclosures, and two-business-day waiting periods; execute and report through the proper facility |
| 8. Account statements | Apply required statement timing and the prescribed estimated-value methods |
A breakdown at any step is a separate violation. The principal must ensure the WSPs build all eight steps into the workflow and that supervisors can produce evidence of each step on FINRA request.
Exam Tip: Gotchas
- Each requirement in the penny-stock regime is a separate violation. The exam will sometimes describe a fact pattern with multiple breakdowns and ask which step was violated; usually more than one is.
- Each exemption has a defined scope. Established-customer status removes the sales-practice steps, not Schedule 15G or the separate quotation, compensation, and statement duties.
For statement valuation, use the highest inside bid on the last trading day of the month under the account-statement rule. If unavailable, assess the rule's alternative based on at least ten qualifying purchases in the last five trading days. If neither method is available, state no estimated market value rather than leaving a blank or using acquisition cost.
What Should You Check on Exam Day?
- Can you state the price threshold and issuer-size tests that determine whether a security is a penny stock?
- Do you know the two alternative tests for an established customer exemption from the penny-stock disclosure regime?
- Can you state when Schedule 15G must be delivered, and confirm it is before, not at, the transaction?
- Do you know why the signed customer agreement for a penny-stock purchase must be obtained per trade, not as a blanket authorization?