Authority to prescribe how much credit may be extended on securities sits with the Federal Reserve Board rather than with the SEC or FINRA. Which view of margin credit does that allocation of authority reflect?

That a securities regulator's authority runs to disclosure and conduct, so any requirement expressed as a percentage of a purchase falls outside it.

That margin lending is in substance a banking activity, so the agency that supervises the banks whose credit ultimately funds it should set the terms on which broker-dealers lend.

That the amount of margin credit in the market is a question of systemic financial stability and monetary policy rather than one of protecting retail investors.

That margin requirements are a consumer credit matter, belonging to whichever agency sets the terms on which credit is offered to individuals generally.

The initial margin percentage for marginable equity securities has stood unchanged for more than five decades. What does that stability establish about the Federal Reserve's position on the figure?

Nothing beyond the Board's own continuing choice, because the Board retains authority to adjust the percentage at any time.

That the figure has hardened into a statutory minimum, so that an Act of Congress is now needed to move it in either direction.

That the Board's authority over the percentage lapsed once FINRA began setting an ongoing equity requirement of its own.

That Section 7 authorised the Board to prescribe the initial percentage once rather than to revisit it, so the Board's own power over the figure is now spent.

Regulation T's payment period is not written as a fixed number of days: it is the standard securities settlement cycle in the United States plus two business days. If the standard settlement cycle were shortened so that settlement occurred on the trade date itself, what would the payment period for a cash account purchase become?

Three business days, which is the period fixed for payment in a cash account whatever the settlement cycle happens to be.

Two business days, the cycle contributing nothing and the definition adding its two business days to it.

One business day, since the period the definition adds can never exceed the settlement cycle it is added to.

Two calendar days, a same-day settlement cycle moving the measurement from business days onto calendar days.

A retail customer opens a brokerage account and neither asks for margin privileges nor qualifies for them. Which account type does the customer have, and what does that mean for their purchases?

A cash account until a purchase first exceeds the funds on deposit, at which point margin privileges attach to the account automatically.

A margin account carrying no borrowing, since margin privileges attach to every brokerage account when it is opened and simply lie dormant until the customer first draws on them.

A cash account, in which every purchase is paid for in full from the customer's own funds with no credit extended by the firm.

Whichever account type the firm prefers, since the firm decides which of its account types a retail customer's purchases are settled through.

A customer whose cash account activity has been identified as free riding objects that the firm was paid the full purchase price on the day it fell due and lost nothing. Why does Regulation T's cash account provision prohibit the practice notwithstanding that objection?

Because the money reached the firm later than the trade date, and payment for a cash account purchase is required on the trade date on which the obligation arose.

Because the firm's entitlement to interest on the unpaid balance was defeated, the customer having been carried for several days without any charge for the accommodation.

Because the customer signed no written undertaking to pay before buying, a document the cash account provision requires for any purchase made without funds in the account.

Because the cash account requires payment out of the customer's own resources, and this customer took the security's price movement without committing any of their own.

A United States person arranges a loan from a lender established outside the United States and uses the money to buy shares registered on a national securities exchange, pledging the shares to that lender. What is the position under the federal margin requirements?

They apply to the borrowing, the Federal Reserve's Regulation X at 12 CFR Part 224 reaching United States persons who obtain credit abroad to purchase or carry such securities.

They do not apply, because the Federal Reserve's margin regulations bind only lenders that are established in the United States, and a lender outside the country is beyond the reach of all of them.

They apply if the shares are also admitted to trading on an exchange in the lender's own country, which is what brings a loan of this kind within the domestic framework.

They apply from the moment the loan is refinanced by a lender that is itself subject to supervision by a United States financial regulator, and not at any time before that.

The Supplement sets the required margin for a margin equity security as the greater of two amounts: fifty percent of its current market value, and the percentage fixed by the regulatory authority where the trade takes place. A customer buys such a security on an exchange whose own rules fix a percentage above fifty percent for a purchase of it. How much margin is required, and on what footing?

Fifty percent, the federal figure displacing a trading venue's percentage for any security the fifty percent paragraph covers.

The venue's higher percentage, which becomes the federal requirement for the purchase rather than a requirement the firm has chosen to impose.

The venue's higher percentage, but only as a rule of that exchange enforceable against the firm, the federal requirement remaining fifty percent.

Fifty percent, the balance being required only where the firm elects to apply the venue's percentage as a house requirement of its own.

A customer takes a long position in a call option issued by a registered clearing corporation and traded on a registered national securities exchange. The Supplement's fifty percent paragraph expressly does not reach a long position in an option. On what basis is the required margin for the position fixed?

By the rules of the clearing corporation that issued the option, the body that stands behind performance of the contract also fixing the margin on it.

By the rules of the exchange or association on which it is listed or traded, whatever amount those rules specify, with no further condition attached to the deferral.

By the rules of the exchange or association on which it is listed or traded, and only so far as the SEC has approved or amended those rules.

By the margin the creditor requires in good faith alone, a long option position falling outside every percentage the Supplement prescribes for a security.

An account's equity exactly equals its required margin, with nothing in excess. On one day the customer buys a margin equity security for twenty thousand dollars and sells, for the same twenty thousand dollars, a different margin equity security already held long in the account. What is required of the customer for that day?

A deposit of ten thousand dollars, a sale releasing required margin against a purchase only where the security sold is the security bought.

A deposit of ten thousand dollars, each purchase being tested on its own and a sale made the same day not offsetting what the purchase requires.

A deposit of twenty thousand dollars, a purchase requiring the whole of its price where the account holds nothing in excess of its required margin.

Nothing, because the day's transactions are combined and together they neither create nor increase a margin deficiency.

A customer sells a position in a margin account on Tuesday and the transaction settles on Wednesday. For the purpose of computing equity in the account, on which day is the position treated as eliminated and the proceeds treated as credited?

On Tuesday: the position is eliminated and the credit created on the trade date, before any security or any money has actually moved.

On Wednesday: the account's equity moves when the securities and the money move, which is what settlement accomplishes.

On Tuesday for the elimination of the position and on Wednesday for the credit, each side of the transaction following its own date.

On whichever day the creditor's usual bookkeeping practice assigns to the transaction, the computation following the firm's own cycle.

A customer makes a single deposit into a margin account, and it is used to satisfy one requirement arising under Part 220. What does Part 220 provide about applying that same deposit to another requirement arising in the same account?

It may be applied to any other requirement arising on the same day, the requirements of a single day being satisfied out of one pool of deposits.

It is unavailable for that purpose, a transaction, position or deposit used to satisfy one requirement being unavailable to satisfy any other.

It may be applied to another requirement once the first requirement has been eliminated by a subsequent rise in the market value of the account.

It may be applied to another requirement to the extent that the deposit exceeded the requirement it was first used to satisfy.

Margin excess — the amount by which the equity in a margin account exceeds the required margin — is to be moved into the special memorandum account rather than withdrawn. How is that transfer made, and what actually moves?

By an entry in the special memorandum account alone, the balances of the margin account being left exactly as they stand.

By a withdrawal of cash from the margin account followed by a deposit of the same amount into the special memorandum account.

By a credit to the margin account matched by a debit to the special memorandum account, recording the amount as still available to the margin account.

A purchase creates a margin deficiency of four thousand dollars, and the resulting call is not met in full within the required time. By the day the liquidation is required the account's securities have risen, so that the margin deficiency then existing is one thousand five hundred dollars. What must the creditor liquidate?

Securities sufficient to meet the four thousand dollar call, the amount demanded by the call fixing the obligation once the call has gone unmet.

Securities sufficient to eliminate the deficiency as it stood on the day of the call, a recovery after that day not reducing what has to be sold.

Securities sufficient to eliminate the one thousand five hundred dollar deficiency and, beyond that, to leave the account holding equity above its required margin.

A customer has not made full cash payment for a purchase in a cash account within the required time. What does the cash account provision require the creditor to do about the transaction?

Issue a call for a deposit against the position, and liquidate the position only if that deposit is not made in time.

Cancel it promptly, or otherwise liquidate it, to the extent of the part for which payment has not been made.

Move the transaction into a margin account for the customer and apply the initial margin requirement to the position from that point.

Hold the position and apply the proceeds of the customer's next sale in the account against the unpaid balance.

On Monday a customer's transaction leaves cash required to be deposited into their margin account, and the deposit has not been made. On Tuesday the customer asks to withdraw cash, in an amount that would still leave the account's equity above its required margin. May the withdrawal be made?

Yes, provided the deposit owed for Monday's transaction is made at any time before the end of the period allowed for paying for that transaction.

Yes, because the equity that would remain in the account after the withdrawal would still stand comfortably above the margin required on all of the positions the account holds.

No, because a withdrawal is not permitted while cash or securities are required to be deposited for a transaction of the same or a previous day.

Yes, to the extent the customer withdraws securities rather than cash, the restriction reaching withdrawals of cash alone.

A cash distribution is payable on a security held in a customer's margin account, and the creditor does not receive it on the day it is payable. A withdrawal from that account on that day would not have been permitted. How does the margin account provision treat what has happened?

As a requirement to deposit, arising on the day the distribution is eventually collected rather than on the day it fell due.

As a receivable of the account, the distribution being carried as an asset of the account until the creditor collects it.

As outside the provision altogether, since no cash and no securities have in fact left the account.

A customer sells a security short while holding the same security long in the same account — a short sale against the box. How is that sale treated for the purpose of computing the equity and the required margin in the account?

As a short sale whose required margin is reduced by the market value of the shares the customer holds long in the account.

As a long sale, so the account is margined as if the shares already held had been sold rather than borrowed ones delivered.

As two positions that offset one another, so that the sale leaves both the equity and the required margin exactly as they were.

As a short sale until the borrowed shares have been returned, at which point it is treated as a long sale from the outset.

The Supplement ordinarily requires one hundred and fifty percent of current market value on a short sale of a nonexempted security that is not a non-equity security. The account also holds a security exchangeable or convertible into the security sold short within ninety calendar days, without restriction other than the payment of money. What does the Supplement require on the short position?

Fifty percent of the current market value of the security sold short, the position being margined as a purchase of the security into which the holding converts.

One hundred and fifty percent of the current market value still, the convertible security counting towards the collateral held rather than cutting the requirement.

One hundred percent of the current market value of the security sold short, fifty percentage points less than the ordinary requirement.

No margin at all on the short position, the convertible security held in the account standing in place of the whole of the requirement.

A customer has written a call in a margin account, and a security held in the account serves in lieu of the required margin for that short call. The security's market price then rises well above the call's exercise price. What margin credit does the account receive for the rise?

Credit for half the rise, the federal percentage being applied to the appreciation as it would be to a new purchase of the security.

Credit for the whole of the rise, the security being valued at its current market value as any other position in the account would be.

Credit for the rise less the premium the customer received for writing the call, which is already held to the account's credit.

A holding company controls a registered broker-dealer. The holding company holds no registration of its own and deals with no customers. Is the holding company a creditor for the purposes of Regulation T, and why?

No, because the definition of creditor excludes business entities controlling or under common control with the creditor.

Yes, because control of a registered broker-dealer brings the controlling entity within the definition alongside the firm it controls.

Yes, because every entity in the group through which the firm's lending is financed is a creditor for the purposes of the part.

No while it extends no credit itself, but it becomes a creditor on the first extension of credit it makes on securities.

The definition of customer excludes an exempted borrower. A creditor extends credit on securities to a borrower that comes within the exempted borrower definition. What follows for that credit, measured against the requirements the part imposes on credit extended to customers?

It remains subject to those requirements, the exclusion going only to the records and the reports the creditor must make about credit of this kind.

It sits outside the requirements the part imposes on credit extended to customers, the borrower not being a customer for its purposes at all.

It is subject to those requirements at whatever margin the creditor determines in good faith, rather than at any prescribed percentage.

It is subject to those requirements only where the securities are registered on a national securities exchange rather than traded elsewhere.

A registered broker-dealer claims exempted borrower status on the footing that a substantial portion of its business consists of transactions with persons other than brokers or dealers. It maintains more than one thousand active accounts a year for such persons, but earns well under ten million dollars and well under ten percent of its gross revenues from transactions with them. Does it come within the definition?

No, because the thousand-account test, the ten million dollar revenue test and the ten percent revenue test are cumulative conditions.

No, because the definition is satisfied only where the thousand-account test is met together with at least one of the two tests expressed as a share of gross revenues.

Yes, because the thousand-account test, the ten million dollar revenue test and the ten percent revenue test are alternatives and meeting one of them is enough.

Yes, but only for so long as it also earns more from those accounts than it earns from its transactions with brokers and dealers.

A customer with no funds in a cash account instructs the creditor to buy a security. In what circumstances does the cash account provision permit the creditor to buy it?

Where the creditor confines the purchase to a security that it would itself accept as collateral for credit in a margin account.

Where the creditor is satisfied that the customer's assets held elsewhere comfortably exceed the purchase price of the security, whether or not any part of them ever reaches the account.

Where the customer's funds are already in transit to the account and the creditor holds evidence of the transfer from the sending institution.

Where the creditor accepts in good faith the customer's agreement to make prompt full cash payment before selling the security, and does not expect a sale before payment.

A customer instructs a creditor to sell a security in a cash account. The security is not in the account: the customer states that it is owned by a principal for whom the customer acts and that it will be deposited promptly. May the creditor sell?

Yes, on a statement the creditor accepts in good faith, the provision reaching a security owned by the customer's principal as well as one owned by the customer.

No, because a statement of ownership supports a sale for a cash account customer where the customer personally owns the security, and a principal's ownership will not do.

No, because where the security is not already held in the account the creditor may sell once the security has been delivered to it and not before.

Yes, but the creditor must first obtain a written statement from the principal itself, confirming its ownership of the security that is to be sold.

A nonexempted security in a cash account is sold without having been paid for in full beforehand by the customer. Under Regulation T's cash account freeze provision, what exactly is withdrawn from the customer, and over what period?

The privilege of delaying payment beyond the trade date, for ninety business days following the purchase that was left unpaid.

The privilege of delaying payment beyond the trade date, for ninety calendar days following the date of the sale of the security.

The use of the account for any purchase at all, for ninety calendar days following the purchase that was left unpaid.

The use of the account for any purchase at all, for ninety business days following the date of the sale of the security.

A customer cancels a cash account transaction in a nonexempted security that had not been paid for in full, and the cancellation is not made to correct an error. How does Regulation T's cash account freeze provision treat that cancellation?

As a sale only where the security had risen in value between the unpaid purchase and the cancellation.

As a correction to the records of the account, a step the provision places outside its reach altogether however the customer had planned it.

As a sale for the purposes of the provision, so that the same consequence follows as if the security had been sold.

As outside the provision, the cancellation leaving the customer with no position that was required to be paid for.

A customer sells a nonexempted security in a cash account before paying for it in full. Within the period allowed for payment the customer's check for the full purchase price clears, and the proceeds of the sale are left in the account untouched throughout. Is the ninety day freeze engaged?

No, because the proceeds of the sale were left in the account, whether or not the purchase price was paid within the period allowed.

Yes, because the freeze follows from the sale of a security that had not been paid for, and payment afterwards shortens it rather than displacing it.

Yes, unless the creditor obtains a written statement from the customer, accepted in good faith, that the funds paid were the customer's own.

No, because full payment was made or cleared within the period allowed and the sale proceeds were not withdrawn before that happened.

Regulation T: Initial Margin, Cash Accounts and Free Riding

What Is Regulation T?

Regulation T — formally titled Credit by Brokers and Dealers and codified at 12 CFR Part 220 — is the Federal Reserve Board regulation that governs the extension of credit by broker-dealers to their customers for the purchase of securities, establishing the initial margin requirement that determines how much of any securities purchase the investor must fund from their own resources and how much the broker-dealer may lend.

Issued by the Board of Governors of the Federal Reserve System pursuant to the authority granted by Section 7 of the Securities Exchange Act of 1934 — which authorises the Federal Reserve to prescribe rules and regulations with respect to the amount of credit that may be initially extended and subsequently maintained on any security — Regulation T has maintained its fifty percent initial margin requirement for marginable equity securities since 1974, making it one of the most stable and consistently applied provisions in the federal securities regulatory framework.

The Statutory Authority

Section 7(a) of the Securities Exchange Act of 1934 grants the Federal Reserve Board authority to prescribe rules and regulations with respect to the amount of credit that may be initially extended and subsequently maintained on any security registered on a national securities exchange. Section 7(c) prohibits any broker or dealer from extending credit to or for any customer on any security — other than an exempted security — except in accordance with the Federal Reserve’s regulations. Section 7(d) extends these restrictions to members of national securities exchanges.

This statutory framework places the authority to set margin requirements squarely with the Federal Reserve rather than with the SEC or FINRA — a structural design choice reflecting Congress’s view that margin credit levels are primarily a macroprudential and monetary policy concern affecting systemic financial stability, rather than a retail investor protection matter appropriate for securities regulators. The initial margin percentage has been set at fifty percent since 1974 — unchanged for over five decades — though the Federal Reserve retains authority to adjust it at any time.

The Initial Margin Requirement — The Fifty Percent Rule

The core operational requirement of Regulation T is the initial margin requirement applicable to margin accounts — the minimum percentage of the purchase price of a marginable security that the investor must deposit from their own resources at the time of purchase, with the broker-dealer permitted to lend the remainder.

Under Regulation T Section 220.4 — the margin account provision — the initial margin requirement for the purchase of marginable equity securities is fifty percent of the current market value of the security. An investor who wants to purchase ten thousand dollars of marginable stock must deposit at least five thousand dollars of their own cash or marginable securities — the broker may lend no more than the remaining five thousand dollars.

The amount lent by the broker-dealer creates a debit balance in the account — the outstanding loan secured by the securities held in the margin account.

The fifty percent initial margin requirement has two simultaneous effects. It limits the leverage available to margin investors to two-to-one — investors can control two dollars of securities for every dollar of their own capital. And it provides the broker-dealer with a fifty percent equity cushion in the account above the loan amount at the time of the initial purchase — protecting the broker against the risk of loss if the securities value declines before a margin call can be satisfied.

The fifty percent initial margin requirement applies specifically to the purchase of new positions. It does not govern the ongoing equity requirement in existing margin accounts — that is the maintenance margin requirement set by FINRA Rule 4210 at a minimum of twenty-five percent, which may be higher under individual broker-dealer house rules.

Marginable and Non-Marginable Securities

Regulation T distinguishes between securities that are eligible for margin lending — marginable securities — and those that are not. Only marginable securities may serve as collateral for broker-dealer credit extensions under Regulation T.

Marginable securities include equity securities listed on national securities exchanges — NYSE, NASDAQ, NYSE American — and, since 1 January 1999, any equity security listed on the Nasdaq Stock Market without regard to any Board list. On that date the Board removed Regulation T’s OTC margin stock definition and the eligibility criteria of Section 220.11(a) and (b), and ceased publishing its list of marginable OTC stocks, so the margin eligibility of an over-the-counter equity no longer turns on appearing on such a list.

Government securities — Treasury bills, notes, bonds, and agency securities — are exempt securities under Section 3(a)(12) of the Exchange Act and are subject to special margin treatment under Regulation T rather than the standard fifty percent initial margin rule.

Investment grade corporate bonds and municipal bonds qualify as margin securities with loan values set by the broker-dealer in good faith subject to Regulation T guidelines.

Non-marginable securities must be purchased in cash accounts or paid for in full in margin accounts — the broker-dealer may not lend any portion of the purchase price. The most examination-critical non-marginable categories are initial public offerings — IPO shares may not be purchased on margin during the offering period — and mutual fund shares, which newly purchased shares may not serve as margin collateral until the investor has held them for thirty days. An over-the-counter equity security that is neither exchange-listed nor listed on the Nasdaq Stock Market is not a margin security and must be paid for in full. Broker-dealers may also designate individual securities as non-marginable based on their own risk assessment — particularly penny stocks and other highly volatile issues — even if the securities would otherwise qualify under Federal Reserve criteria.

The Cash Account — The Alternative to Margin

Regulation T Section 220.8 governs the cash account — the account type in which all transactions must be fully paid for from the investor’s own funds without any credit extension from the broker-dealer. In a cash account, the investor must make full payment for every securities purchase by the payment date — currently three business days after the trade date, because the Regulation T payment period runs two business days beyond the standard settlement cycle, which SEC Rule 15c6-1 moved to T plus one effective May 28, 2024.

The cash account is the default account type for investors who do not specifically request and qualify for margin account privileges. Most retail investors conducting basic buy-and-hold investing use cash accounts exclusively and have no need for margin credit.

Free Riding — The Critical Cash Account Prohibition

Free riding is a prohibited practice in cash accounts that is directly tested on securities licensing examinations and that Regulation T specifically addresses. Free riding occurs when an investor purchases securities in a cash account without having the funds available to pay for them at the time of purchase, and then sells the securities before payment is due and uses the sales proceeds to pay for the original purchase.

The prohibited scenario unfolds as follows. An investor buys one thousand dollars of stock in a cash account on Monday with no cash available. The stock rises to twelve hundred dollars by Wednesday. The investor sells on Wednesday, generating twelve hundred dollars in proceeds. On Thursday — the last day of the Regulation T payment period for the Monday purchase — the investor uses the Wednesday sale proceeds to pay the one thousand dollar Monday purchase price, pocketing two hundred dollars without ever having put up their own capital.

Free riding is prohibited under Regulation T Section 220.8 because it allows investors to speculate without risk using the broker’s implicit credit — effectively circumventing the cash account’s purpose of requiring full payment from the investor’s own resources. When free riding is detected, Regulation T requires the broker-dealer to freeze the account for ninety days — during the freeze period, the investor must have sufficient funds on deposit before any purchase can be made, eliminating the ability to buy and immediately sell without paying.

The Regulation T Call — Payment Period

When a new purchase in a margin account exceeds the available margin — the investor has insufficient equity to cover the initial margin requirement — a Regulation T call is generated. This differs from the FINRA Rule 4210 maintenance margin call, which is triggered when existing positions decline below the maintenance threshold.

The payment period for meeting a Regulation T call is three business days from the trade date — the investor must deposit the required additional cash or marginable securities within this period to bring the account back into compliance with the initial margin requirement.

Failure to meet the Regulation T call within three business days requires the broker-dealer to take action — typically liquidating sufficient securities in the account to eliminate the margin deficiency. Under Regulation T, the broker-dealer may grant a one-time three-business-day extension of the payment period in certain circumstances, but subsequent extensions require FINRA approval.

The Relationship Between Regulation T, Regulation U, and Regulation X

Regulation T governs credit extensions by broker-dealers. Regulation U — codified at 12 CFR Part 221 — applies the same margin standards to banks extending credit for the purpose of purchasing or carrying securities — purpose credit. Regulation X — codified at 12 CFR Part 224 — extends the margin requirements to United States persons who obtain credit outside the United States to purchase or carry securities registered on a domestic exchange, preventing circumvention of Regulation T through offshore borrowing arrangements.

Together, these three Federal Reserve regulations form a comprehensive framework ensuring that margin requirements apply uniformly to securities credit regardless of whether the lender is a broker-dealer, a bank, or a foreign entity.

FINRA’s Complementary Margin Rules

Regulation T establishes the initial margin requirement — the minimum at the time of purchase. FINRA Rule 4210 establishes the maintenance margin requirement — the minimum equity percentage that must be maintained in a margin account on an ongoing basis as securities values fluctuate. The twenty-five percent maintenance minimum under FINRA Rule 4210 is a separate and independent requirement from the fifty percent initial requirement under Regulation T — both must be satisfied, at different points in time and for different purposes.

Broker-dealers may impose house rules that are stricter than both Regulation T and FINRA Rule 4210 — requiring higher initial or maintenance margins for specific securities, sectors, or account types. House rules may never be more permissive than Regulation T or FINRA Rule 4210. The regulatory minimums set a floor below which no broker-dealer may go, while competitive and risk management considerations drive individual firms to set higher requirements for concentrated positions, volatile securities, or other elevated-risk situations.

The Supplement — Where the Required Margin Is Actually Set

The fifty percent figure does not appear in the margin account provision itself. Section 220.4(b)(1) provides that the required margin for each long or short position in securities is set forth in Section 220.12 — the Supplement — subject to the exceptions and special provisions that follow it. The Supplement then does something the headline percentage obscures. For a margin equity security it requires fifty percent of the current market value of the security, or the percentage set by the regulatory authority where the trade occurs, whichever of the two is greater. The federal figure is therefore a floor written into the regulation itself rather than a single national number: where the exchange or securities association on which the trade occurs has set a higher percentage for that position, that higher percentage is the margin Regulation T requires, and no house rule and no exercise of firm discretion is needed to produce the result.

The fifty percent paragraph also carries its own list of exclusions, and the positions it excludes are margined by other means. An exempted security, a money market mutual fund, an exempted securities mutual fund, a warrant on a securities index or on a foreign currency, and a long position in an option all fall outside it. For an exempted security, a non-equity security, a money market mutual fund or an exempted securities mutual fund, the required margin is the margin the creditor requires in good faith, or the percentage set by the regulatory authority where the trade occurs, whichever is greater — so even a good faith determination is displaced upward where the trading venue has set a number. For a put or a call issued by a registered clearing corporation and listed or traded on a registered national securities exchange or a registered securities association, the required margin is the amount, or other position, specified by the rules of that exchange or association, provided those rules have been approved or amended by the SEC.

Combining a Day’s Transactions — How a Deficiency Is Computed

Whether additional margin is required is not decided transaction by transaction. Section 220.4(c)(1) requires all transactions on the same day to be combined to determine whether additional margin is required, and provides that additional margin is required on any day when the day’s transactions create or increase a margin deficiency in the account, for the amount of the deficiency so created or increased. Take an account whose equity exactly equals its required margin, holding nothing in excess, and suppose that on one day the customer buys twenty thousand dollars of a margin equity security and sells twenty thousand dollars of a different margin equity security already held long. The purchase adds ten thousand dollars of required margin, being fifty percent of its current market value. The sale eliminates a position whose required margin was also ten thousand dollars, and because the securities leave the account at the same value as the proceeds credited to it, the equity is unchanged. Combined, the day’s transactions neither create nor increase a margin deficiency, and nothing is called for. Had the purchase stood alone, the same day would have created a ten thousand dollar deficiency and a call for that amount.

Two further rules govern the same computation. For the purpose of computing equity in an account, security positions are established or eliminated, and a credit or a debit created, on the trade date of a security transaction rather than on its settlement date, so the account’s equity moves on the day the customer trades and not on the day the money and the securities actually move. And any transaction, position or deposit that is used to satisfy one requirement under Part 220 is unavailable to satisfy any other, so a single deposit cannot be counted twice across two requirements arising in the same account.

The Special Memorandum Account

Regulation T recognises a second account alongside the margin account, the special memorandum account, and the margin account provision refers to it at two points. Where additional margin is required, Section 220.4(c)(2) permits the requirement to be satisfied by a transfer from the special memorandum account, by a deposit of cash, of margin securities or of exempted securities, or by any combination of those — so a customer with a balance in the special memorandum account can meet a requirement without depositing anything new. In the other direction, Section 220.4(e)(2) provides that margin excess may be withdrawn, or may be transferred to the special memorandum account by making a single entry to that account which represents a debit to the margin account and a credit to the special memorandum account. That transfer is one bookkeeping entry with two sides rather than a movement of cash out of the firm.

Those transfers reach back into the two balances on which the whole computation rests. Section 220.2 defines the debit balance as the cash amount owed to the creditor in a margin account after debiting amounts transferred to the special memorandum account, and the credit balance as the cash amount due the customer in a margin account after the same debiting. A balance in the special memorandum account is therefore not a sum sitting idle beside the margin account: the margin account’s own debit and credit balances are stated net of what has been transferred there, and the equity figure built from those balances reflects that netting.

Liquidation in Lieu of Deposit — The Lesser of Two Amounts

Where a margin call is not met, what the creditor must sell is capped twice over. Section 220.4(d) provides that if any margin call is not met in full within the required time, the creditor shall liquidate securities sufficient to meet the margin call, or to eliminate any margin deficiency existing on the day such liquidation is required, whichever is less. The second figure is measured on the day of the liquidation, not on the day of the call, so a recovery in the account between the two dates reduces what must be sold. Suppose a Monday purchase creates a margin deficiency of four thousand dollars and the call goes unmet. By the day the liquidation is required, the securities in the account have risen in value, and the margin deficiency then existing is one thousand five hundred dollars. The creditor liquidates securities sufficient to eliminate the one thousand five hundred dollar deficiency, the lesser of the two amounts, rather than securities sufficient to meet the four thousand dollars the original call demanded.

The same paragraph sets a threshold below which the creditor need do nothing at all: where the margin deficiency created or increased is one thousand dollars or less, no action need be taken. The cash account provision states its companion duty the other way round. Section 220.8(b)(4) requires a creditor to cancel promptly, or otherwise liquidate, a transaction or any part of a transaction for which the customer has not made full cash payment within the required time — so in the cash account what follows a failure to pay is the unwinding of the transaction itself, and not a call for a deposit against the position.

Withdrawals and Charges in the Margin Account

Section 220.4(e)(1) permits cash or securities to be withdrawn from an account except in two cases: where additional cash or securities are required to be deposited into the account for a transaction on the same or a previous day, and where the withdrawal, together with other transactions, deposits and withdrawals on the same day, would create or increase a margin deficiency. The same combining of a day’s activity that decides whether a requirement has arisen therefore also decides whether a withdrawal may be made. Section 220.4(e)(3) then adds a case in which nothing actually leaves the account at all: where the creditor does not receive a distribution of cash or securities payable with respect to a security in a margin account on the day it is payable, and a withdrawal would not have been permitted, a withdrawal transaction is deemed to have occurred on the day the distribution is payable. A failure to collect what was due to the account is treated as though the customer had taken it out.

Charges the creditor makes to a margin account stand on a different footing from withdrawals. Section 220.4(f)(1) permits the creditor, in its usual practice, to debit to a margin account the interest charged on credit maintained in it, the premiums on securities borrowed in connection with short sales or to effect delivery, the dividends, interest or other distributions due on borrowed securities, the communication and shipping charges on the account’s transactions, and any other service charges it may impose. Those debits are permitted without regard to the other provisions of that section, but on an express condition: that the items are considered in calculating the balance of the account. A permitted debit is therefore one that appears in the balance from which equity and required margin are computed.

Short Positions and the Securities That Cover Them

Two provisions change what a short position requires. Under Section 220.4(b)(2) a short sale against the box — a short sale made while the same security is held long in the account — is treated as a long sale for the purpose of computing both the equity and the required margin, so the transaction is margined as though the customer had sold the shares already held rather than borrowed shares to deliver. Under the Supplement, a short sale of a nonexempted security other than a non-equity security ordinarily requires one hundred and fifty percent of the current market value of the security sold short. That requirement falls to one hundred percent of current market value where a security that is exchangeable or convertible, within ninety calendar days and without restriction other than the payment of money, into the security sold short is held in the account. The reduction turns on what the account holds, not on how the short position has performed.

Where a position in the account stands in place of required margin on an option the customer has written, the Supplement’s percentages give way to a valuation rule. Section 220.4(b)(4) provides that where a security held in the account serves in lieu of the required margin for a short call, the security shall be valued at no greater than the exercise price of the short call. An appreciation in that security above the exercise price therefore gives the account no further margin credit, because the call it covers would be exercised at the exercise price however far the security has risen beyond it.

Whom Regulation T Reaches — Creditor, Customer and Exempted Borrower

The obligations Regulation T imposes attach to a creditor, and Section 220.2 defines that term to reach any broker or dealer as Sections 3(a)(4) and 3(a)(5) of the Exchange Act define those terms, any member of a national securities exchange, and any person associated with a broker or dealer — but to exclude business entities controlling or under common control with the creditor. A parent company or a sister company of a broker-dealer is therefore not itself a creditor under this part by reason of that control relationship, while the broker-dealer and the individuals associated with it are.

The requirements then run to credit a creditor extends to a customer, and the same section states that customer excludes an exempted borrower. The consequence is that credit extended to an exempted borrower sits outside the requirements this part imposes on customer credit. An exempted borrower is a member of a national securities exchange, or a registered broker or dealer, a substantial portion of whose business consists of transactions with persons other than brokers or dealers; and the definition includes a borrower that maintains at least one thousand active accounts on an annual basis for persons other than brokers, dealers and persons associated with a broker or dealer, or that earns at least ten million dollars in gross revenues on an annual basis from transactions with such persons, or that earns at least ten percent of its gross revenues on an annual basis from them. Any one of those alternatives is enough; they are not cumulative conditions.

What a Cash Account May Do — The Payment Undertaking

Section 220.8(a)(1) sets out when a creditor may buy a security for a customer in a cash account, and it gives two routes. The first is that there are sufficient funds in the account. The second is that the creditor accepts in good faith the customer’s agreement that the customer will promptly make full cash payment for the security before selling it, and does not contemplate selling it prior to making that payment. Both halves of the second route carry weight. The customer’s undertaking must be one the creditor accepts in good faith, so an agreement the creditor has reason to doubt will not support the purchase. And the creditor’s own expectation forms part of the condition, so a purchase the creditor understands is to be funded out of the proceeds of selling the very security being bought falls outside the permission from the moment the order is entered.

The provision for sales is built the same way. Section 220.8(a)(2) permits a creditor to buy from, or sell for, a customer in a cash account where the security is held in the account, or where the creditor accepts in good faith the customer’s statement that the security is owned by the customer or the customer’s principal and that it will be promptly deposited in the account. A customer whose certificates or positions have not yet reached the account may therefore still have them sold, on the strength of a statement the creditor accepts in good faith and an undertaking to deposit them promptly.

The Ninety Day Freeze — What It Withdraws and When It Does Not Apply

What Section 220.8(c)(1) withdraws, where a nonexempted security in a cash account is sold or delivered to another broker or dealer without having been previously paid for in full by the customer, is one specific privilege: the privilege of delaying payment beyond the trade date. It is withdrawn for ninety calendar days following the date of sale of the security. Both halves of that measurement matter — the period runs in calendar days rather than business days, and it runs from the sale rather than from the purchase that was left unpaid. The same paragraph provides that a cancellation of the transaction, other than to correct an error, constitutes a sale for this purpose, so a customer who cancels rather than sells arrives at the same consequence.

Section 220.8(c)(2) then states two cases in which the ninety day freeze does not apply at all. The first is where, within the period allowed for payment, full payment is received or any check or draft in payment has cleared, and the proceeds from the sale are not withdrawn before that payment or that clearance — so a customer who sells but then pays in time, leaving the sale proceeds in place, is not frozen. The second is where the purchased security was delivered to another broker or dealer for deposit in a cash account which holds sufficient funds to pay for the security; and for that purpose the creditor may rely on a written statement, accepted in good faith, from the other broker or dealer that sufficient funds are held in the other cash account.

Examination Relevance and Key Takeaways

Regulation T is tested on the SIE and Series 7 examinations in the context of margin accounts, the initial margin requirement, the cash account, free riding, and the Regulation T payment period.

The key points to retain are these.

Regulation T — 12 CFR Part 220 — is issued by the Federal Reserve Board pursuant to Section 7 of the Securities Exchange Act of 1934 and governs credit extensions by broker-dealers to customers for the purchase of securities.

The initial margin requirement under Regulation T is fifty percent of the purchase price of marginable equity securities — unchanged since 1974. The investor must deposit at least fifty percent from their own resources and the broker may lend no more than fifty percent.

Non-marginable securities require one hundred percent cash payment and include IPO shares during the offering period, newly purchased mutual fund shares within thirty days of purchase, and securities designated non-marginable by the broker or the Federal Reserve.

The cash account under Regulation T Section 220.8 requires full payment from the investor’s own funds within one payment period — currently three business days after the trade date, being the T plus one settlement cycle of SEC Rule 15c6-1 plus two business days. Free riding — purchasing securities in a cash account without available funds and then selling before settlement to generate proceeds to pay for the purchase — is prohibited under Regulation T and results in a ninety-day account freeze requiring full payment before any new purchase.

The Regulation T payment period for margin calls is three business days from the trade date — failure to meet the call within this period requires the broker to liquidate positions.

Regulation U at 12 CFR Part 221 applies equivalent margin standards to bank purpose credit. Regulation X at 12 CFR Part 224 extends margin requirements to United States persons obtaining credit offshore. Regulation T sets the initial margin floor — FINRA Rule 4210 separately sets the ongoing maintenance margin minimum of twenty-five percent — broker-dealer house rules may be stricter than either but may never be more permissive.