Net Capital, FOCUS & Surety Bonds

🔑 Numbers & deadlines

Net capital requirements

• Broker-dealers must meet certain financial requirements to be registered. These requirements are often summarized as net capital.
• 📌 You don’t need the detailed calculation here — think of net capital as a measure of the firm’s financial strength.
• Regulators don’t want firms that are effectively “broke” handling customer securities transactions. If something goes wrong in a customer’s account and the broker-dealer is liable, the firm needs enough financial resources to cover its obligations.
• Broker-dealers also need capital available to process customer trades. We saw an example of this during the Gamestop short squeeze in early 2021, when some firms needed additional funding to keep submitting trades. If a broker-dealer runs out of funds, it may not be able to operate properly.

Dual regulation

• Broker-dealers are registered with and regulated by both the SEC and the state administrators. Sometimes those requirements differ.
• ⚠️ Broker-dealers that operate in one state only are not subject to SEC registration or regulation. In order to be subject to federal laws, interstate commerce (doing business in more than one state) is required.

Conflict between federal and state requirements

• So what happens if a broker-dealer faces two different financial requirements? For example, what if the SEC requires a minimum net capital level of $35,000, while a state administrator requires $50,000?
• 🔑 The National Securities Market Improvement Act (NSMIA) of 1996 was enacted to address this kind of conflict. NSMIA establishes that federal securities laws (and the SEC rules enforcing them) take priority over state law in this area.
• ⚠️ As a result, even if a state’s net capital requirement is higher than the SEC’s, state administrators can’t require broker-dealers to maintain net capital above the federal minimum.
• This makes the SEC and the Securities Exchange Act of 1934 the controlling authority for broker-dealer net capital requirements.
• 📌 Because this is a state-based exam, the specific dollar amounts (for example, the exact minimum net capital) typically aren’t tested on this material.

Sidenote: FOCUS reports

Surety bonds

• In addition to net capital requirements, broker-dealers may be required by state administrators to post surety bonds.

Definitions

• A surety bond works like insurance if the firm fails to meet an obligation to a customer.
• Generally, surety bonds cover losses tied to:
  • theft
  • misuse of customer funds
  • unfulfilled commitments
• Examples given: if an agent embezzles funds from a customer account, mistakenly sells a security when the customer requested a purchase, or promises features on an investment product that don’t exist, a surety bond helps ensure customers can be reimbursed when required.

When a surety bond may be required

• ⚠️ Broker-dealers that exercise discretion or maintain custody of customer funds may be required to post a surety bond (depending on the state).
• Note on custody: Some broker-dealers only execute transaction requests, while customer funds and securities are held at another institution (such as a bank). 📌 We’ll discuss custody in more depth later in this material.

Cost and alternatives to posting a bond

• Like insurance, broker-dealers must pay ongoing premiums and fees to maintain surety bonds. These payments go to the organizations providing the surety bond (usually insurance companies and banks).
• A broker-dealer can avoid these requirements by posting the required amount in cash or securities instead.
• Example: Washington’s state administrator requires broker-dealers to post a $100,000 surety bond. Instead of paying ongoing premiums, the broker-dealer could post $100,000 of cash or securities as collateral with the state administrator. That way, coverage is still available if an issue arises.
• 🔑 The state administrator cannot force any specific method to meet surety bond requirements. All of the following are eligible means to complying:
  • Posting a surety bond
  • Posting equivalent surety bond coverage in:
    • Cash, and/or
    • Securities

Key points

Broker-dealer financial requirements

• Must maintain a minimum net capital
• Net capital requirements are generally determined by the SEC

National Securities Market Improvement Act

• Establishes that federal securities laws are prioritized over state laws

Surety bonds

• Insurance for broker-dealer liabilities
• Also known as fidelity bonds
• States may require broker-dealers to post them if:
  • Taking custody
  • Exercising discretion
• Broker-dealers may post cash or securities instead of surety bond

Sources

Primary/official references for the material in this chapter. Every link was fetched and returned HTTP 200 on 2026-08-15.