October 17, 2016
I have long criticized the Financial Industry Regulatory Authority ("FINRA") as being illegitimate because it disenfranchises hundreds of thousands of registered representatives from voting on its rule proposals or for its elective offices (said voting franchise having been arrogated solely to the organization's member firms). A classic example of the corrosive impact of this disenfranchisement is FINRA's indifference to arbitration decisions in which member firms are found to have improperly used the Uniform Termination Notice for Securities Industry Registration ("Form U5") as a mechanism for retaliation against a former employee or as a device to wrongly undermine a former employee's credibility.
Consumer advocates rightly protest an overly accommodating expungement process because of fears that valuable customer complaint histories are wiped out. Such advocates also point a knowing finger at customer settlements that include an expungement quid-pro-quo. Although such bargained-for-expungements are now a regulatory violation, the desired outcome can still be reached through a variety of winks and nods. Unequivocally, consumer advocates raise legitimate expungement concerns that must be addressed within any regimen that proposes to delete such records. On the other hand, and without minimizing the fears of consumer advocates, industry member firms have long misused regulatory filings as a way to retaliate against former employees; to preemptively discredit an individual who may plan on suing the firm or engage in whistelblowing; and, finally, as a cynical tool to impede a stockbroker's ability to timely re-register and to retain his or her customers.
In the absence of FINRA investigating member-firm misconduct involving the Form U5, registered representatives are forced to incur the costs of hiring lawyers to pursue these U5 cases in expensive and time-consuming FINRA arbitration; and, if the individuals prevail, they must then incur further costs and delays when such matter require confirmation by a court. In today's BrokeAndBroker.com Blog, we examine a recent iteration of this issue.
Case In Point
In a Financial Industry Regulatory Authority ("FINRA") Arbitration Statement of Claim filed in October 28, 2015, former associated person Claimant Kost asserted wrongful termination, defamation, libel and/or slander in connection with Respondent PNC's allegedly improper termination of him and that firm's alleged reporting of false information on Claimant's Uniform Termination Notice for Securities Industry Registration ("Form U5"). At the close of the hearing, Claimant sought $250,000 in compensatory damages plus interest, attorneys' fees, and costs. Also, Claimant sought a declaratory judgment and expungement of the purportedly defamatory language. In the Matter of the FINRA Arbitration Between Shawn Kost, Claimant, vs. PNC Investments, Respondent (FINRA Arbitration 15-02888, October 4, 2016).
Respondent PNC generally denied the allegations and asserted various affirmative defenses.
The FINRA Arbitration Panel found PNC liable and ordered it to pay to Claimant Kost $75,000 in compensatory damages and $375 reimbursement for his FINRA filing fee.
The Panel found that the cited language placed by PNC on Kost's Form U5 was defamatory. The Panel retained the Form U5 "Reason for Termination" but recommended the deletion of the "Termination Explanation" in Section 3 of Claimant Shawn Kost's Form U5 filed by PNC on December 17, 2014. The Panel recommended that the explanation be revised to:
Sean Kost was terminated by PNC Investments as an at will employee without cause, but due to management decisions made.
In conforming the Form U5 to its recommendation, the Panel also recommended replacement of the "Yes" answer with a "No" to Question 7F(1), and the deletion of the accompanying Termination Disclosure Reporting Page
3. FULL TERMINATION
Is this a FULL TERMINATION?
Note: A "Yes" response will terminate ALL registrations with all SROs and all jurisdictions.
Reason For Termination:
Discharged Other Permitted to Resign Deceased Voluntary
If the Reason for Termination entered above is Permitted to Resign, Discharged or Other, provide an explanation below:
If amending the Reason for Termination and/or termination explanation, provide an explanation below:
. . .
7F. Did the individual voluntarily resign from your firm, or was the individual discharged or permitted to resign from your firm, after allegations were made that accused the individual of:
1. violating investment-related statutes, regulations, rules or industry standards of conduct?
2. fraud or the wrongful taking of property?
3. failure to supervise in connection with investment-related statutes, regulations, rules or industry standards of conduct?
Bill Singer's Comment
Kost's BrokerCheck Record
I reviewed Claimant Kost's online FINRA BrokerCheck records as of October 17, 2016, and they presently assert that he was "terminated for violation of firm policy" and, in more detail, describe the purported circumstances attendant to his November 22, 2014, discharge by Respondent PNC. I am not going to set forth the online narrative because after taking testimony and reviewing evidence that PNC's narrative of the events leading up to Kost's termination was defamatory, a FINRA Arbitration Panel concurred. Pointedly, the arbitrators recommended that the reference to Kost's alleged "violation of firm policy" be deleted and replaced with a statement that he was terminated "without cause."
Recent PNC Expungement Cases
In opting to not disclose PNC's discredited narrative, I am also mindful that PNC has a somewhat troubling recent history involving similar allegations by former employees, and in two FINRA Arbitration Decisions reported by the BrokeAndBroker.com Blog, the firm was found to have filed inaccurate commentary about the underlying events. READ:
[T]he Panel recommends that the language be expunged in its entirety and replaced with the following language: "A FINRA arbitration panel determined that the termination of John Gross by PNC Investments was arbitrary and unreasonable."
Claimant asserted PNC Investments failed to investigate the customer's allegation with due diligence, that the allegation and claim are false, and finally that he was not involved with the alleged misconduct. He presented proof supporting this position during his testimony at the hearings.
Only a Recommendation
The trouble with these FINRA expungement cases it that they do not end with a self-executing "Order" from the FINRA Arbitration Panel but, to the contrary, tend to be issued merely as "recommendations." Depending upon whether there is a "customer dispute" component involved, the arbitrators recommendation may be implemented by FINRA or may require an order of confirmation from a court. Which raises the question as to why FINRA member firms are not required by rule to bear all reasonable costs, fees, and expenses attendant to obtaining and confirming a recommended expungement when a FINRA Arbitration Panel finds the existence of defamation or bad faith. For the intricacies of the expungement process, read FINRA's "Notice to Arbitrators and Parties on Expanded Expungement Guidance." Also, see:
FINRA Rule 2080. Obtaining an Order of Expungement of Customer Dispute Information from the Central Registration Depository (CRD) System
(a) Members or associated persons seeking to expunge information from the CRD system arising from disputes with customers must obtain an order from a court of competent jurisdiction directing such expungement or confirming an arbitration award containing expungement relief.
(b) Members or associated persons petitioning a court for expungement relief or seeking judicial confirmation of an arbitration award containing expungement relief must name FINRA as an additional party and serve FINRA with all appropriate documents unless this requirement is waived pursuant to subparagraph (1) or (2) below.
(1) Upon request, FINRA may waive the obligation to name FINRA as a party if FINRA determines that the expungement relief is based on affirmative judicial or arbitral findings that:
(A) the claim, allegation or information is factually impossible or clearly erroneous;
(B) the registered person was not involved in the alleged investment-related sales practice violation, forgery, theft, misappropriation or conversion of funds; or
(C) the claim, allegation or information is false.
(2) If the expungement relief is based on judicial or arbitral findings other than those described above, FINRA, in its sole discretion and under extraordinary circumstances, also may waive the obligation to name FINRA as a party if it determines that:
(A) the expungement relief and accompanying findings on which it is based are meritorious; and
(B) the expungement would have no material adverse effect on investor protection, the integrity of the CRD system or regulatory requirements.
(c) For purposes of this Rule, the terms "sales practice violation," "investment-related," and "involved" shall have the meanings set forth in the Uniform Application for Securities Industry Registration or Transfer ("Form U4") in effect at the time of issuance of the subject expungement order.
Absence of Regulatory Referrals
When it comes to investigating the men and women working for its member firms, FINRA has proven remarkably agile and adept at fining, suspending, and barring those folks for their non-disclosures on their Forms U5. When it comes to tossing folks out of the biz for filing misleading or false responses on their firm's in-house annual compliance questionnaires, FINRA is quick to take action. In cases where the transgression is deemed intentional, FINRA drags out a finding of "willful" misconduct, which frequently results in an individual's statutory disqualification from the industry, even if the fine or suspension imposed is relatively modest.
Would FINRA expel a member firm if there was a finding that a misstatement or defamatory comment was willfully placed on a Form U5? To answer my own question: I doubt it. And let's not muddy the issue by pointing out how FINRA expelled some pennystock firm or boiler-room long after that member firm came under criminal investigation and collapsed amid civil lawsuits and inadequate capital. I'm looking at the history of so-called "reputable" FINRA member firms who typically fall under the organization's category of "Large" or "Mid-sized" member firms. I'm looking at the so-called household names. I'm looking at the big boys with the fancy television ads. These are the recidivists that just don't seem to fall within FINRA's field of vision when it comes to troubling Form U5 practices.
I Shot An Arrow In the Air
Finally, I would like to point out that when it comes to redressing the wrongs of its member firms filing misleading and/or defamatory Forms U5, FINRA has at its disposal two arrows in its regulatory quiver:
FINRA Rule 1122. Filing of Misleading Information as to Membership or Registration
No member or person associated with a member shall file with FINRA information with respect to membership or registration which is incomplete or inaccurate so as to be misleading, or which could in any way tend to mislead, or fail to correct such filing after notice thereof.
FINRA Rule 2010. Standards of Commercial Honor and Principles of Trade
A member, in the conduct of its business, shall observe high standards of commercial honor and just and equitable principles of trade.