Definition of a Broker-Dealer

Understanding who qualifies as a broker-dealer is the foundation for everything else in this unit: registration requirements, supervision obligations, and regulatory jurisdiction all flow from these definitions.

What Is the Difference Between a Broker and a Dealer?

The securities industry uses two distinct terms that describe different capacities:

• Broker: Any person engaged in the business of effecting transactions in securities for the account of others (acting in an agent capacity).
• Dealer: Any person engaged as a regular business in buying and selling securities for their own account (acting in a principal capacity). An ordinary investor or trader who buys and sells for their own account outside of a securities business is not a dealer.

Most firms operate in both capacities and are therefore called broker-dealers. When a firm executes a customer's buy order on an exchange, it acts as a broker (agent). When the same firm sells securities from its own inventory to a customer, it acts as a dealer (principal).

• Broker (agent): Acts as an intermediary, matching buyers and sellers for the customer's benefit. Earns a commission.
• Dealer (principal): Trades from the firm's own inventory. Earns a markup (on sales) or markdown (on purchases).

Exam Tip: Gotchas

• The terms "broker" and "dealer" describe capacities, not permanent labels. The same firm can act as a broker on one transaction and a dealer on the next. What matters is whose account the trade is for: the customer's (broker) or the firm's (dealer).

Who Is Excluded From the Broker-Dealer Definition?

Not everyone who touches a securities transaction is a broker-dealer. The following are generally excluded from the definition:

• Agents (individuals): An agent is a natural person (individual) who represents a broker-dealer or issuer in effecting transactions. Agents are registered separately; they are not broker-dealers themselves.
• Issuers: A company is excluded from the broker-dealer definition when selling its own securities as an issuer, with no frequency condition. (A mutual fund itself remains an issuer; its separate principal underwriter or distributor, a different legal entity, may itself be a broker-dealer.)
• Banks, savings institutions, and trust companies: Excluded from the broker-dealer definition under the USA. Federal law does not give banks a blanket exclusion; instead it carves out activity-specific exceptions (such as selling government securities or providing trust services) without requiring broker-dealer registration for those particular activities.

Exam Tip: Gotchas

• A broker-dealer is the firm; an agent is the individual. These are often confused. A broker-dealer is the entity; an agent is the natural person who acts on behalf of the broker-dealer. Both must register, but they register separately and have different regulatory obligations.
• Banks are excluded from the broker-dealer definition, but not from all securities regulation. They can sell government securities and provide trust services without broker-dealer (BD) registration, but other securities activities may still be regulated.
• The issuer exclusion is unconditional, not just for one-time offerings. An issuer selling its own securities is excluded regardless of how often it does so. A mutual fund itself is still an issuer; the exam trap is confusing the fund with its separate distributor entity, which can be a broker-dealer.

Think of it this way: The USA definitions boil down to one question: whose account is the trade for? If it is for the customer, the firm is acting as a broker. If it is for the firm's own account, it is acting as a dealer. From there, check whether any exclusion (bank, issuer, agent) applies. If none does, registration is required.

What Should You Check on Exam Day?

• Can you state the difference between a broker (agent, commission) and a dealer (principal, markup or markdown)?
• Do you know that "broker" and "dealer" describe a capacity on a given trade, not a permanent label for a firm?
• Can you name the three main exclusions from the broker-dealer definition: agents, issuers, and banks?
• Do you know the issuer exclusion is unconditional, with no frequency test, and that a mutual fund itself remains an issuer even though its separate distributor entity can be a broker-dealer?
• Can you explain that an agent is the individual, while a broker-dealer is the firm, and that each registers separately?