Regulation T FAQ
Federal Reserve Regulation T, commonly called Reg T, governs how trades are paid for. Reg T violations can have serious consequences, so it's important to understand the rules before you trade.
What does Reg T mandate for cash accounts?
Reg T states that funds from investments that you liquidate, or sell, won't be available to put toward another purchase until the first transaction settles. Think of it like receiving a check for $50 from a friend or family member. Until you take the check to the bank and the bank teller hands you the $50 cash, you can't go to the store and spend it.
Investments work the same way. When you make a purchase or sale, it may take a few days for the transaction to settle. To find out how long it will take for a transaction to settle, visit Clearance & Settlement. Unsettled funds may not be used to purchase securities unless you hold the new purchase until the previous sale has cleared.
Example – Free Riding using unsettled funds
Violating Reg T is sometimes called “free riding” because you're trading with money that isn't yours. Let's look at an equity example:
- You open a new account and deposit $5,000 in cash. All of the funds in your account are settled and you do not have any securities, so your total account money balance is $5,000.
- Day 1, Monday – After depositing the $5,000 mentioned above, you buy shares of Company A at a total cost of $5,000. Your total account money balance is now $0.
- Day 2, Tuesday – You sell your shares of Company A for a total of $5,250. Stock transactions have a settlement date of T+3, meaning the trade date plus three market days. This transaction will settle on Day 5 (Day 2 + 3), or Friday. Your account now has $0 in settled funds, $5,250 in unsettled funds, and a total account money balance of $5,250.
- Day 3, Wednesday – You buy shares of Company B for a total of $5,150. Your account has $0 in settled funds, $100 in unsettled funds and a total account money balance of $100. Even though you bought Company B with unsettled funds, this is not yet a Reg T violation because you have not sold Company B prior to the settlement of your sale of Company A.
- Day 4, Thursday – You sell your shares of Company B for a total of $4,900. This is free riding, a violation of Reg T. The proceeds from the sale of Company A on Tuesday will not settle until Friday. Any purchases made with those funds must be held until the funding transaction, your sale of Company A, has settled.
Are the same rules true for all types of investments?
No. The sale proceeds of bonds, unit investment trusts (UITs), mutual funds and CDs cannot be used to make purchases until the sells are settled. Additionally, unsettled funds from the sale of stock cannot be used to purchase options, fixed income products or mutual funds. Unsettled option proceeds can only be used to buy new options.
What happens if I violate Reg T?
Each time you violate Reg T, a 90-day restriction will be placed on your account. If a trading restriction is placed on your account, you will only be able to place buy transactions using settled funds. In addition, your local Scottrade® team will reach out to you to make sure you understand exactly what happened and how to prevent it in the future.
If I have a Reg T violation on my record, will it be there permanently?
Yes. The record of your violation will stay on your account, but you could potentially receive a warning at Scottrade's discretion.
What if I already own shares of the stock and I buy and sell additional shares?
If you already own settled shares of a particular stock and you buy additional shares with unsettled funds, you can sell up to the amount of settled shares without incurring a free riding violation. You may still see a warning in your account, however, because new and old shares are indistinguishable.
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