Wall Street's industry-funded watchdog has scrapped a controversial plan that would have required brokerages to supervise business lines that are not related to the securities industry, according to a recent regulatory filing.

The Financial Industry Regulatory Authority, in a long-awaited proposal that would streamline rules for how brokerages should supervise themselves, dropped the idea it had initially proposed to the U.S. Securities and Exchange Commission in 2011.

Finra, as part of a sweeping supervision proposal it submitted to the SEC on June 21, said it was the "best course" to eliminate the plan. However, other Finra rules would still apply to business activities by firms and their brokers that are unrelated to the brokerage industry, the group said.

Editor's Note: I Wish I Were Wrong — Economist Laments Being Right. See Interview.

The regulator oversees 4,250 brokerages and about 630,000 brokers.

Brokerages, in numerous letters, had balked at the original plan.

It would have forced them to become deeply involved in monitoring other types of investment businesses that their brokers may have engaged in outside of their firms.

For example, many brokers who are licensed through independent broker dealers, such as LPL Financial Holdings Inc., also run registered investment advisory firms, which are not part of the brokerage. Those businesses are regulated by the SEC instead of Finra.

The plan could have also tied brokerages to moonlighting activities by brokers, such as selling insurance or being landlord, critics said.

Existing Finra rules, nonetheless, still mean that brokerages have to keep an eye out for business activities that brokers engage in outside of the securities industry, said Gerald Baker, a compliance consultant in Kewadin, Michigan.

Finra already requires brokers to get advance permission from their brokerages before engaging in business outside of the firm. Many brokerages, however, simply ban the practice.

Finra's 317 pages of proposed supervision rules aim to consolidate two sets of rules from its predecessor organization, the National Association of Securities Dealers, and the regulatory arm of the New York Stock Exchange. The two entities formed Finra in a 2007 merger. In 2011, the regulator withdrew a previous version of the plan that it had submitted to the SEC.

Other parts of Finra's revised proposal, submitted to the SEC on June 21, address supervising brokers of independent firms who work far away from their home offices, reporting findings of internal investigations and keeping track of customer complaints, among other things.

Editor's Note: I Wish I Were Wrong — Economist Laments Being Right. See Interview.