Broker Dealer | Compliance Programs | Examinations and Audits | FINRA Rules

Broker-Dealer 2019 Regulatory Year in Review

In 2019, broker-dealers did not have to contend with many significant new rules or amendments, but there was still plenty of regulatory activity.  Here is a high-level summary of notable broker-dealer regulatory developments for 2019.

Approved Rules, Regulations and Amendments

Effective in 2019

FINRA Rule 4512 – Customer Account Information (Effective May 6, 2019) – Rule 4512(a)(3) was amended to permit the use of electronic signatures for discretionary accounts.

FINRA Rules 2210 – Communications with the Public, and FINRA Rule 2241 – Research Analysts and Research Reports (Effective August 16, 2019) – The amended rule creates a filing exclusion under Rule 2210 for investment fund research reports that are covered by SEC rules under the FAIR Act, and eliminates the “quiet period” restrictions in Rule 2241 for publishing a report or making a public appearance concerning such funds.

FINRA Rule 4570 – Custodian of Books and Records (Effective August 19, 2019) – Rule 4570 (Custodian of Books and Records) was amended to (1) provide a member firm that is filing a Form BDW the option of designating another FINRA member firm as the custodian of its books and records; (2) clarify the obligations of the designated custodian; and (3) require the designated custodian to consent to act in such a capacity.

Effective in 2020

FINRA Rule 5130 – Restrictions on the Purchase and Sale of Initial Equity Public Offerings, and FINRA Rule 5131 – New Issue Allocations and Distributions (Effective January 1, 2020) – The rules were amended to enhance regulatory consistency and address unintended operational impediments, including enhancements to the definitions of “Restricted Persons” and “Exempted Entities”.  FINRA believes the amendments will promote capital formation, aid member compliance efforts, and maintain the integrity of the public offering process.

FINRA Rule 4210 – Margin Requirements (Effective March 25, 2020) – The amendment establishes margin requirements for Covered Agency Transactions (Note: The initial effective date was March 25, 2019, but has been delayed until March 25, 2020).

SEC Regulation Best Interest and Form CRS (Effective June 30, 2020) – Regulation Best Interest will change the broker-dealer standard of conduct from the existing suitability obligations to a “best interest” standard of conduct when making recommendations to retail customers.  Form CRS will require registered investment advisers and broker-dealers to deliver a brief relationship summary to retail clients.

      Additional Reg BI & Form CRS Information:

Key Regulatory Statistics

FINRA membership and reported disciplinary actions in 2019 were in line with the numbers we saw in 2018.  Year over year, there was an increase in suspensions ordered by FINRA, but the increase was not substantial enough to identify any specific trends.  The chart below provides a comparison of some key statistics for 2017, 2018 and 2019.

 

  20171 20181 20192
Registered Representatives 630,132 629,847 624,996
Member Firms 3,726 3,607 3,517
Fines $64.9 million $61 million $62.4 million
Restitution $66.8 million $25.5 million $28.1 million
Individuals Barred 492 386 380
Individuals Suspended 733 472 537
Firms Expelled 20 16 8
Firms Suspended 29 23 43

1All data for 2017 & 2018 was obtained from the FINRA Statistics page.

2The data for 2019 (except for Registered Reps & Member Firms data obtained from FINRA) was obtained from FINRA’s Monthly Disciplinary Actions reports.

Observations

  • A key driver for registered representative suspensions was the failure to appropriately disclose required information (financial, criminal, other employment, etc.) on Form U4.
  • The average fine a registered representative was required to pay for most suspensions was $5,000, but for more serious cases or those involving more than one issue, the average was typically $10,000 or more.
  • FINRA was especially harsh in cases involving representatives that took advantage of senior or elderly customers. These cases resulted in the industry bars and substantial monetary settlements.
  • There were a surprising number of cases (22) involved a registered representative being cited for taking loans from customers where the customer was not a family member.
  • There were no notable trends in the disciplinary actions for member firms, but in the vast majority of cases, FINRA cited firms for failures related to their supervisory systems, internal controls, and written supervisory procedures.

Notable Enforcement Actions

Cantor Fitzgerald Fined $2 Million for Regulation SHO Violations and Supervisory Failures Firm Required to Retain an Independent Consultant (03/05)FINRA fined Cantor Fitzgerald & Co. (Cantor) $2 million for Regulation SHO (Reg SHO) violations and supervisory failures spanning a period of at least five years. As part of the settlement, Cantor also agreed to retain an independent consultant to conduct a comprehensive review of the firm’s policies, systems, procedures, and training related to Reg SHO.

AXA Advisors, LLC Sanctioned Approximately $772,000 for Misrepresentations to 401(k) Plan Sponsors and Participants (05/02) FINRA fined AXA Advisors, LLC (AXA) $600,000 and ordered the firm to pay approximately $172,000 in restitution to affected 401(k) retirement plan participants for distributing materials that negligently misrepresented that certain bond funds offered for 401(k) plans were “investment-grade” when, in fact, a substantial portion of the funds’ portfolios consisted of high-yield or junk bonds.

Summit Brokerage Services, Inc. Ordered to Pay More Than $550,000 in Restitution to Customers Whose Accounts Were Excessively Traded (07/02) FINRA sanctioned Summit Brokerage Services, Inc. (Summit) a total amount exceeding $880,000 for supervisory failures, including approximately $558,000 in restitution to customers whose accounts were excessively traded by a former registered representative of the firm who was previously barred by FINRA.

Citigroup Global Markets Inc. Fined $1.25 Million for Failing to Appropriately Fingerprint or Screen Employees (07/29) FINRA fined Citigroup Global Markets Inc. (CGMI) $1.25 million for failing to conduct timely or adequate background checks on approximately 10,400 non-registered associated persons spanning seven years.

J.P. Morgan Securities LLC Fined $1.1 Million for Failing to Timely Disclose Allegations of Misconduct  (09/16) FINRA censured and fined J.P. Morgan Securities LLC (JPMS) $1.1 million for failing to timely disclose 89 internal reviews or allegations of misconduct by its registered representatives and associated persons over six years.  FINRA also required that the firm certify days that it had taken appropriate corrective measures.

Stifel, Nicolaus & Co., Inc. Agreed to Pay $2.7 Million and BMO Capital Markets Corp. Agreed to Pay $1.95 Million to Settle Charges for Providing Incomplete and Inaccurate Blue Sheet Data (9/16) – The SEC’s order found, over a period of several years, Stifel and BMO each made numerous deficient blue sheet submissions containing missing or inaccurate data, primarily due to undetected coding errors.  The SEC found that Stifel failed to report data for approximately 9.8 million transactions and provided incorrect information for about 1.4 million transactions.  Separately, the SEC found that BMO submitted missing or inaccurate data for approximately 5.4 million transactions.

UBS Financial Services, Inc. Fined $2 Million for Continued Failures Relating to Short Positions in Municipal Securities (10/02) FINRA censured and fined UBS Financial Services Inc. (UBS) $2 million for repeated failures to address municipal short positions timely and for inaccurately representing the tax status of thousands of interest payments to customers.  FINRA also required UBS to pay restitution to customers who may have incurred any increased state tax liabilities, to pay the IRS to relieve customers of any additional federal income tax owed, and to certify within 90 days that the firm has taken appropriate corrective measures.

Ami Forte and Charles Lawrence Barred for Their Roles in Exploiting an Elderly Client to Generate More Than $9 Million in Commissions in Less Than One Year (10/21) – FINRA barred Ami Forte and Charles Lawrence of Florida for their respective roles in churning accounts belonging to a 79-year-old customer who suffered from severe cognitive impairment.

BNP Paribas Securities Corp. and BNP Paribas Prime Brokerage, Inc. Fined $15 Million for AML Program and Supervisory Failures (10/24) FINRA fined BNP Paribas Securities Corp. and BNP Paribas Prime Brokerage, Inc. (collectively, BNP) $15 million for anti-money laundering (AML) program and supervisory failures involving penny stock deposits and resales and wire transfers over four years.  As part of the settlement, FINRA also required BNP to certify that its procedures are reasonably designed to achieve compliance in these areas.

Merrill Lynch, Raymond James & Associates, and Raymond James Financial Services Ordered to Pay Over $12 Million in Restitution to Customers for Supervisory Failures Involving 529 Plan Share Classes (11/06) The firms agreed to pay a total of approximately $12 million in restitution to customers who incurred excess fees on their investments in 529 savings plans based on the firms’ failures to reasonably supervise 529 plan share-class recommendations.  FINRA identified these matters before launching its 529 initiative in January of 2019.

Robinhood Financial, LLC Fined $1.25 Million for Best Execution Violations (12/19) FINRA fined Robinhood Financial, LLC $1.25 million for best execution violations related to its customers’ equity orders and related supervisory failures.  As part of the settlement, Robinhood also agreed to retain an independent consultant to review the firm’s systems and procedures related to best execution.

Credit Suisse Securities Fined $6.5 Million for Supervision and Market Access Rule Violations (12/23) – FINRA, CBOE Global Markets, The Nasdaq Stock Market LLC, the New York Stock Exchange, and their affiliated Exchanges (collectively, the Exchanges) censured Credit Suisse Securities (USA) LLC and fined the firm a total of $6.5 million for supervisory violations and violations of various provisions of Rule 15c3-5 of the Securities Exchange Act of 1934 (known as the Market Access Rule).

Oppenheimer & Co. Inc. Ordered to Pay $3.8 Million in Restitution to Customers for Supervisory Failures Involving Unit Investment Trusts – (12/30) FINRA ordered Oppenheimer & Co. Inc. to pay more than $3.8 million in restitution to customers who incurred potentially excessive sales charges caused by early rollovers of Unit Investment Trusts (UITs).  FINRA also fined the firm $800,000 for failing to reasonably supervise early UIT rollovers.

Ongoing Investigation by the SEC into Abusive ADR Pre-Release Practices

The SEC has been investigating abusive ADR practices resulting in 14 enforcement actions totaling more than $431 million in monetary settlements since 2017.  The SEC found that depositories were issuing Pre-Released ADRs to a Pre-Release Broker, who in turn lent the ADRs to other brokers, who lent them to end-user customers or other brokers in the market, but that the requisite corresponding foreign shares were not on deposit with a custodian or held by anyone in the chain of transactions.  The Commission entered into several significant monetary settlements in 2019.

Regulatory Announcements

FINRA Launched New Initiative for Member Firms to Self-Report 529 Savings Plan Violations (01/28) – FINRA published Regulatory Notice 19-04 to announce a self-reporting initiative to promptly compensate harmed investors and promote firms’ compliance with the rules governing the recommendation of 529 savings plans.  Under the 529 Plan Share Class Initiative (529 Initiative), broker-dealers were encouraged to review their supervisory systems and procedures governing 529 plan share-class recommendations, self-report supervisory violations, and provide FINRA with a plan to remediate harmed customers.

SEC, NASAA, and FINRA Issued a Senior Safe Act Fact Sheet to Help promote Greater Reporting of Suspected Senior Financial Exploitation (05/23) – SEC, NASAA, and FINRA jointly issued a fact sheet to help raise awareness among broker-dealers, investment advisers, and transfer agents of the Act and how the Act’s immunity provisions work.  The Senior Safe Act Fact Sheet provides information on the immunity and training provisions of the Act, as well as additional resources from the SEC, NASAA, and FINRA.

Note: The Senior Safe Act Fact Sheet is available on the SEC’s website, NASAA’s Serve Our Seniors website, and FINRA’s website.

SEC Issues Interpretation Regarding the Solely Incidental Prong of the Broker-Dealer Exclusion from the Definition of Investment Adviser (7/12) – In light of the passage of Regulation BI, the SEC weighed in on the meaning of the “solely incidental” exclusion from the definition of an investment adviser. The SEC found that broker-dealers cross the line where they exercise investment discretion and when they provide ongoing monitoring of client accounts.  A broker-dealer that has unlimited discretion to effect securities transactions in a customer’s account has crossed the “solely incidental” line.  The exercise of limited discretion is acceptable in situations when the activity is based on specific parameters established by the customer.  Similarly, broker-dealers that promise continuous account monitoring cross the line, while reviewing a client’s account to provide buy, sell or hold recommendations would not.

Final Results of FINRA’s Mutual Fund Waiver Initiative – Totaling $89 Million in Restitution (07/16) – FINRA reached settlements with 56 member firms and obtained a total of $89 million in restitution for nearly 110,000 charitable and retirement accounts as a result of its mutual fund fee waiver initiative.  In each of the cases, the firms failed to waive mutual fund sales charges for the eligible accounts and did not reasonably supervise mutual fund sales that were eligible for sales charge waivers.

FINRA Published the 2019 Industry Snapshot (10/02) – FINRA published the 2019 FINRA Industry Snapshot, a statistical report on the brokerage firms, registered representatives, and market activity that FINRA regulates.  The report included data ranging from the size and geographic distribution of the firms regulated by FINRA to the number of individuals in the industry, and from trading activity to how firms market their products and services.

FINRA Published 2019 Report on Examination Findings and Observations (10/16) – The report provides key findings and observations identified in recent examinations and contains effective practices that could help firms improve their compliance and risk management programs.  The report summarizes findings and observations across a range of topics, including supervision, cybersecurity, best execution, segregation of client assets, and UTMA/UGMA accounts.  Unlike previous reports provided by FINRA, this report distinguishes between findings and observations.

FINRA Announced Senior Leadership Team Under New Examination and Risk Monitoring Program Structure (12/12) – This marked the official consolidation of FINRA’s three exam functions into a single, unified program—a process that began in October 2018[i].  FINRA members will now be grouped into one of five of the following primary business models:

  • Retail;
  • Capital Markets;
  • Carrying and Clearing;
  • Trading and Execution; and
  • Diversified.

Each of these groupings has several sub-groups to more precisely categorize firms with similar business models and activities.  Each firm will be assigned a single point of accountability, the leader who has ultimate responsibility for the ongoing risk monitoring, risk assessment, planning and scoping of examinations tailored to the risks of a firm’s business activities.  In the coming weeks of 2020, FINRA will be notifying each member firm of its single point of accountability and its new risk monitoring teams.  The 2020 FINRA exam program will also operate under this new consolidated structure.

Cryptocurrency Update

In 2019, the furor over cryptocurrency or initial coin offerings (ICOs) may have eased just a little bit, but the regulatory attention to this subject remains as strong as ever.  Regulators continue to make resources available for investors and related enforcement actions have increased dramatically during the last year.

Regulatory Resources

Enforcement Actions

  • The SEC maintains a website for Digital Assets and Initial Coin Offerings Enforcements.
  • FINRA barred registered representative Timothy T. Ayre (CRD #2091556) for multiple violations related to the unlawful offer and sale of an unregistered security that was a cryptocurrency.
  • FINRA fined and suspended Kyung Soo Kim (CRD #5110456) for failing to provide prior written notice to his member firm of an outside business activity, for which he was the sole shareholder and director, to engage in cryptocurrency mining activities.

FINRA Regulatory Notice – 19-24

  • Digital Assets: FINRA Encourages Firms to Notify FINRA if They Engage in Activities Related to Digital Assets – FINRA is requesting, similar to the request made in Regulatory Notice 18-20, that firms continue to keep FINRA abreast of their activities related to digital assets until July 31, 2020.

Final Thoughts

There are no indications that regulatory requirements for broker-dealers and their registered representatives will get any easier in 2020.  In fact, as we get further into 2020 the burden becomes even heavier as firms will be dealing with getting their compliance programs into alignment with Regulation Best Interest and Form CRS (effective date of June 30, 2020).  Regulators may initially show a fair amount of flexibility and latitude as firms implement their new processes, but a failure to establish a reasonably designed program will likely have significant consequences.  The beginning of a new year is a perfect time to assess your compliance program and to establish a plan for implementing any changes or updates that need to be made based on the notable events of the last year.

 

Endnotes

[i] FINRA Announces Plan to Consolidate Examination and Risk Monitoring Programs – On October 1, 2018, FINRA announced plans to consolidate its Examination and Risk Monitoring Programs, integrating three separate programs into a single, unified program to drive more effective oversight and greater consistency, eliminate duplication and create a single point of accountability for the examination of firms.

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