Quick Answer
Client assets must stay segregated from the firm's own assets and properly identified in records at all times. Mixing them (commingling) is a violation even if nothing is stolen; taking them for personal use (conversion) is theft. No customer authorization cures unauthorized borrowing, and antifraud liability attaches regardless of any registration exemption.
This section covers a core obligation for securities professionals: keeping client assets separate and safe.
Prohibition on Commingling
Under the NASAA Statement of Policy on Dishonest or Unethical Business Practices, it is a prohibited practice for a broker-dealer or agent to commingle customer funds or securities with the firm's own assets.
- Commingling means mixing client assets with the firm's proprietary funds or securities in the same account
- Each client's assets must be segregated from the firm's own assets and identifiable in the firm's records; a client-only omnibus or pooled account (permitted by the custody rule) is not commingling, since it still excludes the firm's proprietary assets
- The prohibition applies to both broker-dealers and investment advisers
Safekeeping Obligations
Broker-dealers that hold customer securities have specific safekeeping duties:
- Customer securities held in street name must be kept separate from the firm's proprietary holdings in segregated accounts
- Securities held for customers must be properly identified and recorded as belonging to the customer
- Customer free credit balances (uninvested cash) must be properly accounted for and available for withdrawal on demand
- The firm has a duty of safekeeping; it is responsible for the security and proper handling of client assets
Misuse of Customer Funds
It is unlawful for any securities professional to misuse customer funds or securities in any way:
- Conversion (taking client assets for personal use) is the most severe form of misuse: it is essentially theft
- Using customer funds for the firm's own business purposes (even temporarily) constitutes misuse
- Borrowing a customer's money or securities is a violation, and the customer's authorization does not cure it. For an agent the ban is absolute: no family exception, no bank exception, no affiliate exception
- An investment adviser has narrow, defined exceptions instead of an absolute ban:
- The adviser may borrow from a client only if the client is a broker-dealer, an affiliate of the adviser, or a financial institution engaged in the business of loaning funds
- The adviser may lend to a client only if the adviser itself is a financial institution engaged in the business of loaning funds, or the client is an affiliate of the adviser
- The Uniform Securities Act (USA) antifraud provisions apply to misuse of customer funds, and no exemption shields this conduct
Exam Tip: Gotchas
- Commingling and conversion are different violations. Commingling is mixing client assets with firm assets in the same account (even if no assets are stolen). Conversion is taking client assets for personal use. Both are prohibited, but conversion is the more severe violation. The exam may test this distinction.
- The borrowing/lending exceptions belong to investment advisers, not agents. An agent may never borrow from or lend to a customer, regardless of the customer's relationship to the firm.
| Violation | Definition | Severity |
|---|---|---|
| Commingling | Mixing client and firm assets in the same account | Prohibited practice |
| Conversion | Taking client assets for personal use | Theft; criminal violation |
| Borrowing from a customer (agent) | Using client funds, even temporarily and even with the customer's permission | Prohibited practice, no exception |
| Borrowing/lending (investment adviser) | Permitted only with a broker-dealer, financial institution in the lending business, or an affiliate of the adviser | Prohibited outside those narrow exceptions |
What Should You Check on Exam Day?
- Commingling mixes client and firm assets in the same account; it is prohibited even if nothing is stolen. It applies to both broker-dealers and investment advisers.
- Conversion is taking client assets for personal use; it is theft and the more severe violation.
- Broker-dealers must keep customer securities segregated in street name, properly identified, with free credit balances available on demand.
- An agent may never borrow from or lend to a customer, with no exception. An investment adviser may borrow only from a broker-dealer, an affiliate, or a lending financial institution, and may lend only as a lending financial institution or to an affiliate.
- USA antifraud provisions cover misuse of customer funds with no exemption.