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FINRA's Newest One-Two Punch

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By Sean T. Needham, Esq.

April 25, 2017

On February 3, 2017, the SEC approved: (1) new FINRA Rule 2165 (Financial Exploitation of Specified Adults[1]) permitting members to place temporary holds on certain customer accounts where there is a reasonable belief of financial exploitation; and (2) amendment of FINRA Rule 4512 (Customer Account Information) requiring members to make  reasonable efforts in obtaining the name of, and contact information for, a “trusted contact person” related to accounts held by senior and/or vulnerable investors. According to FINRA, the new “safe-harbor” was designed to “provide members with a way under FINRA rules to respond to situations in which they have a reasonable basis to believe that financial exploitation has occurred, is occurring, has been attempted, or will be attempted.”

 In practice, the rules will require members to:

  • Ensure records reflect inquiry into the name and contact information of a trusted contact person at the time the account opened, or during periodic review;
  • Develop written disclosures on communications with the trusted contact person;
  • Update written supervisory procedures to identify the title of each person authorized to place, terminate, or extend an account hold on behalf of a member firm;
  • Determine procedures for identifying, escalating, documenting, and reporting financial exploitations; and
  • Monitor changes to the trusted contact person which FINRA deems a red flag of financial exploitation.

Not surprisingly, FINRA provides little guidance on what constitutes a “reasonable belief of financial exploitation” under Rule 2165 or what “reasonable efforts” are under FINRA Rule 4512 beyond asking the customer. Thus, not only will the new rules increase administrative costs and exposure to member firms, but now FINRA has new avenues to institute disciplinary actions and impose monetary fines.

Earlier this month, FINRA’s National Adjudicatory Counsel announced the framework for just such an action through revision of the Sanction Guidelines. In the revisions, FINRA established a new “principal consideration” requiring “the exercise of undue influence over customers be considered in all violations addressed by the Sanction Guidelines.” Thus, if a member is not in compliance with new Rule 2165, or amended Rule 4512, and an associated person is found to have exercised undue influence over a senior customer, it stands to reason the member will be the next in line for disciplinary review.

Furthermore, adjudicators must now consider whether the undue influence was an isolated event, or “related to systemic supervisory failures and firm-wide supervisory problems.” With recommended monetary sanctions of $292,000, and the potential for higher fines in the face of aggravating factors such as intentional or reckless conduct, member firms must be hyper-vigilant of not only training and educating their associated persons on the new rules, but documenting compliance in every senior account.

The news is not all bad, however. The revised Sanction Guidelines also recommend consideration of mitigating factors such as firm-imposed sanctions and final actions by other regulators.  But, in true FINRA fashion, a member can only get credit for these actions when the conduct at issue is “essentially identical and any fine has already been fully paid, any suspension has been fully served, and any other sanction has been satisfactorily completed.” 

In the end, FINRA’s one-two punch of heightened regulatory responsibility and increased exposure to sanctions means compliance departments should review their supervisory procedures to ensure precautions are being taken to protect seniors and other vulnerable customers. If you have any questions regarding these new FINRA Rules, or any other regulatory issue, please contact a member of our Financial Services Liability Practice Group.

This has been prepared for informational purposes only. It does not contain legal advice or legal opinion and should not be relied upon for individual situations. Nothing herein creates an attorney-client relationship between the Reader and Reminger. The information in this document is subject to change and the Reader should not rely on the statements in this document without first consulting legal counsel.

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[1] FINRA defines ‘specified adults” as those 65 and older. The North American Securities Administrators Association (NASAA) and six states, including Indiana, have recent passed model rules or regulations offering similar protections of seniors. See Wash Rev. Code 74.34.215, 220 (2015); Del Code Ann. Tit 31, §3910 (2015); Mo. Rev. Stat. §§ 409.600-.630 (2015); Part X-A, Ch. 2, 51 Louisiana Revised Stat. §725 et seq. (2016); Alabama Act No. 2016-141 (2016); Indiana Code Ann. §23-19-4.1 (2016); http://serveourseniors.org/wp-content/uploads/2015/11/NASAA-Model-Seniors-Act-adopted-Jan-22-2106.pdf