Required Product Disclosures
When securities change hands, regulators want buyers to have the information they need to make informed decisions. This section covers the specific disclosure obligations that apply to different types of transactions.
Prospectus Delivery Requirements
Under the Securities Act of 1933, Section 5, it is unlawful to sell a security unless a prospectus meeting the Act's requirements has been delivered to the buyer. The length of the post-effective delivery period depends on the type of offering and where the security trades.
Prospectus Delivery Periods
| Situation | Delivery Period |
|---|---|
| Initial public offering (IPO) - listed on exchange or quoted on Nasdaq | 25 days after effective date |
| IPO - trades on OTC Bulletin Board (OTCBB) or OTC Pink (non-reporting issuer) | 90 days after effective date |
| Follow-on offering - OTCBB or OTC Pink | 40 days after effective date |
| Reporting issuer already listed on exchange or Nasdaq | No prospectus delivery required (Rule 174 exempts entirely) |
- During the prospectus delivery period, the dealer must deliver a final prospectus no later than the time of the trade confirmation
- A preliminary prospectus (red herring) must be delivered at least 48 hours before the anticipated mailing of the confirmation of sale (Securities Exchange Act (SEA) Rule 15c2-8(b))
Exam Tip: Gotchas
The 25-day period applies only to exchange-listed or Nasdaq IPOs. For unlisted IPOs on OTC Pink or OTCBB, the period jumps to 90 days. Follow-on offerings for unlisted securities get 40 days. These specific timeframes are frequently tested.
Trade Confirmation Requirements
Under Securities Exchange Act (SEA) Rule 10b-10, broker-dealers must send a written trade confirmation to customers at or before the completion of each transaction (settlement date at the latest).
Required Confirmation Disclosures
- Date and time of the transaction
- Identity, price, and number of shares/units of the security
- Whether the firm acted as agent (disclose the commission) or principal (disclose the markup/markdown)
- The market where the transaction was executed
- Settlement date
- Name of the broker-dealer and the contra-party (if applicable)
Additional Debt Security Disclosures
For debt securities (Financial Industry Regulatory Authority (FINRA) Rule 2232), the confirmation must also disclose:
- Yield to maturity
- Yield to call (if applicable)
- Any markup or markdown
Account Statements
Broker-dealers must send periodic account statements showing positions, balances, and transaction activity.
| Account Type | Minimum Statement Frequency |
|---|---|
| Accounts with activity | Quarterly |
| Accounts with positions but no activity | Annually |
| Active margin accounts | Monthly |
Disclosures at Financial Institutions
When broker-dealers conduct securities transactions at a financial institution (bank, credit union, savings association), the North American Securities Administrators Association (NASAA) Rules for Sales of Securities at Financial Institutions (1998) require specific disclosures to prevent customer confusion between insured deposits and uninsured securities.
The Four Required Disclosures
- Securities products are NOT insured by the Federal Deposit Insurance Corporation (FDIC) (or the National Credit Union Administration (NCUA), as applicable)
- Securities products are NOT deposits or obligations of the financial institution
- Securities products are NOT guaranteed by the financial institution
- Securities products are subject to investment risks, including possible loss of principal
How and When Disclosures Must Be Made
| Method | Timing |
|---|---|
| Oral disclosure | Before or at the time of the securities transaction |
| Written disclosure | On or before completion of the transaction |
| On account statements and confirmations | Ongoing for the account |
Exam Tip: Gotchas
The "not FDIC insured, not a bank deposit, may lose value" disclosure is required whenever securities are sold at a bank or similar financial institution. The disclosure must be both oral AND written; doing only one is not sufficient.
Penny Stock Disclosures
Before a broker-dealer may effect a transaction in a penny stock (generally, equity securities under $5/share not listed on a national exchange), additional disclosures are required under Securities Exchange Act (SEA) Rules 15g-2 through 15g-6.
Required Penny Stock Disclosures
- A risk disclosure document approved by the SEC, provided to the customer with a signed and dated acknowledgment of receipt
- Disclosure of the bid and ask quotations and the compensation to be received by the broker-dealer
- A suitability determination based on the customer's financial information
- A written agreement from the customer authorizing the specific transaction
- Monthly account statements showing the estimated market value of each penny stock held
Exam Tip: Gotchas
Penny stock transactions require extra steps beyond normal securities sales: a risk disclosure document, a suitability determination, AND a written agreement from the customer. The broker-dealer must wait at least 2 business days after sending the risk disclosure before executing the trade.