A Stockbroker, Her LLC, And Her Customers' Loans (Or Investment?)

August 17, 2017

Today's BrokeAndBroker.com Blog is akin to the Sunday crossword puzzle. There are some killer questions and arcane references and that word "Polish," which you thought had something to do with the Eastern European country, was actually a word that had to do with liquid that you put on your nails. As you sit down today to read our publisher Bill Singer, Esq.'s analysis and commentary of a recent FINRA regulatory settlement, be prepared to be challenged. What's a person? Does it include an LLC? Did a registered rep get a prohibited loan from her customers or was there a wrinkle in there given that an LLC was involved?

Case In Point

For the purpose of proposing a settlement of rule violations alleged by the Financial Industry Regulatory Authority ("FINRA"), without admitting or denying the findings, prior to a regulatory hearing, and without an adjudication of any issue, Tania Lashae Smith submitted a Letter of Acceptance, Waiver and Consent ("AWC"), which FINRA accepted. In the Matter of Tania Lashae Smith, Respondent (AWC 2015048105501, August 10, 2017).

The AWC asserts that Smith was first registered in 2006 with a predecessor firm of Wells Fargo Advisors, LLC. The AWC states that Smith "has no relevant securities-related disciplinary history."

SIDE BAR: Under the heading "Employment History" on FINRA's online BrokerCheck file for Smith as of August 17, 2017, it is stated that she was employed by Wachovia Securities, LLC from May 2006 to May 2009; and, thereafter, by Wells Fargo Advisors LLC from May 2009 to November 2015. The AWC does not name Wachovia but merely references the employer as "the predecessor firm of Wells Fargo Advisors, LLC . . ."

ON and QN and PH

During the relevant time from November 2014 to February 2015, Smith was the servicing registered representative assigned to two customer accounts, which are identified in the AWC only as "ON" and "QN." During the relevant time, Smith was the 100% owner of a limited liability partnership, which is identified in the AWC only as PH.

According to the "Overview" section of the AWC [Ed: highlight added]:

ln November 2014, while employed as a GSR with Wells Fargo, Smith violated FINRA Rules 3240 and 2010 when she borrowed $10,000 from her Firm customers ON and QN.

Similarly, according to the "Facts And Violative Conduct" section of the AWC [Ed: highlight added]:

In November 2014, Smith borrowed $10,000 from Firm customers ON & QN through PH, a limited liability partnership of which Smith is the 100% owner. Smith was the Firm's GSR assigned to ON's and QN's accounts. In a contract Smith executed November 1, 2014, Firm customers ON and QN agreed to loan PH $10,000 on November 3, 2014. Per the contract, PH, through Smith, was required to repay the loan on or before February 3, 2015 with 40% interest. Smith repaid the loan with interest on February 13, 2015.

Wells Fargo WSP

During the relevant time, the Wells Fargo's written supervisory procedures purportedly prohibited its registered representatives from borrowing money or securities from customers.


Online FINRA BrokerCheck records as of August 17, 2017, under the heading "Employment Separation After Allegations," disclose that Wells Fargo "discharged" Smith on November 18, 2015, based upon allegations that:

FA engaged in business activities outside the scope of an approved OBA and her LLC borrowed money from a firm client. The loan had been repaid by the time the firm discovered it.


FINRA deemed Smith acceptance of the $10,000 loan as a violation of FINRA Rules 3240 and 2010. In accordance with the terms of the AWC, FINRA imposed upon Smith a $5,000 fine and a 15-business-day suspension from associating with any FINRA member in any capacity.

Bill Singer's Comment

Let's review the pertinent part of FINRA Rule 3240: Borrowing From or Lending to Customers:

(a) Permissible Lending Arrangements; Conditions No person associated with a member in any registered capacity may borrow money from or lend money to any customer of such person unless: . . .

FINRA's Borrowing Rule does not prohibit borrowing from any "customer" but restricts such activity to "any customer of such person." Consequently, solely going by FINRA Rule 3240, an associated person could conceivably borrow or lend to a customer of the employing firm provided that said customer was not serviced by the registered person at issue.  In reality, many FINRA member firms impose a more expansive prohibition that covers any firm customer, whether or not serviced by the subject registered representative. More than mere semantics, this distinction is a critical element in determining whether or not certain conduct rose to the level of a violation of a FINRA rule notwithstanding that a violation of an in-house rule could also invoke FINRA's alleged jurisdiction.

Similarly, FINRA Rule 3240's prohibition against lending specifically states that "no person . . . may borrow . . ." The Smith AWC glosses over this critical jurisdictional element of FINRA's rule.  As noted in the highlighted text above from the AWC, FINRA variously characterized the loan at issue as one involving Smith ("she") personally borrowing from ON and QN, but the AWC also characterized the cited transaction as one in which "Firm customers ON and QN agreed to loan PH . . ." Which was it? Did the customers lend money to Smith or to the LLC. Notwithstanding that PH is 100% owned by Smith, it is still a legal entity in the form of an LLC.

Some of you familiar with tax law might want to chime in here. You might interject that the Internal Revenue Service treats a one-member-only LLC (and Smith is described in the AWC as PH LLC's 100% owner) as an entity disregarded as separate from its owner for income tax purposes. That's a worthwhile point to consider -- except, the IRS is not FINRA, and even if a one-member LLC is a "disregarded entity" for tax purposes, that entity is still of consequence for other considerations. 

Now, let me dazzle you with a bit of my legal research skills. In an arcane portion of FINRA's rules you would find:

0160. Definitions

(a) The terms used in the Rules, if defined in the FINRA By-Laws, shall have the meaning as defined in the FINRA By-Laws, unless a term is defined differently in a Rule, or unless the context of the term within a Rule requires a different meaning.
. . .

(12) "Person"

The term "person" shall include any natural person, partnership, corporation, association, or other legal entity.

Smugly, you might snicker at me and say, see, Bill, you just got hoisted with your own petard. FINRA's rules specifically define a "person" as including a "corporation," and since an LLC is a limited liability corporation, it is a  a "person" when that term is used in FINRA's rule. You would then conclude that FINRA Rule 3240 covers the misconduct of a "person" and, game, set, match, you would dismiss me as not such a smart lawyer. Gee, you're right. I am an idiot. Sorry for wasting your time.

But . . . hold on . . . just for a second . . . go back and re-read FINRA Rule 3240.

You see that part where it says "no person associated with a member in any registered capacity may borrow money from or lend money to any customer of such person . . ." You got that part? Great -- now tell me, is PH LLC associated with any FINRA member firm?

Oh, and by the way, if you don't mind this not-so-smart-lawyer asking you another question: Is PH LLC registered in any capacity with any FINRA member firm?

Yeah, you didn't see those issues, did you? So, assuming that PH LLC is a person but not one that is registered with a FINRA member firm, then it doesn't look like Rule 3240 applies, does it? What did you mumble? I couldn't hear you. Speak up . . . a bit louder if you don't mind.

Given that PH LLC is not a "person associated with a member in any registered capacity. . .," how does Rule 3240 apply to the loan at issue? If FINRA deems as operation of law or interpretation that a 100%-owned LLC is a "person" subject to the jurisdiction of Rule 3240, then the AWC should have presented that position and explained the regulator's rationale.

To further underscore why FINRA should have provided more explanation for its assertion of jurisdiction over the transaction per Rule 3240, consider Smith's BrokerCheck statement in response to Wells Fargo's "discharge" disclosure:

In 2014, I began an LLC renting and investing in real estate. I submitted an approval request for my outside business activity and it was approved. Therefore, Wells Fargo Advisors was aware of my OBA and approved it prior to me operating wiithin the LLC. It was my understanding that I had met my compliance obligations to Wells Fargo Advisors. Wells Fargo Advisors and my branch manager never advised me of any further reporting obligations to them. I discussed my OBA with longtime family friends, a husband and wife, who I have known since college, over 10 years ago. This was prior to my entrance into the securities industry. My friends also held Wells Fargo Advisors accounts. I did not solicit my friends to invest in my LLC in November 2014, they suggested they invest after I discussed a house I was considering purchasing within my LLC. In our verbal conversation, we discussed that the money was an investment, not a loan. They wanted to make a short-term investment. I agreed to pay back their investment in 3 months in February 2015. I paid them back. This was before Wells Fargo discovered the matter. They only held cash in money market accounts and never owned any stock, bond, fund, or other type of security with Wells Fargo Advisors. I did not believe I was in violation any rule of Wells Fargo Advisors, FINRA, NASD, NYSE, or MSRB. My OBA's business checking account was held with Wells Fargo Advisors, and I was transparent in my dealings. The firm clients were pleased with the transaction and did not lose any money or have any negative experience in this matter. Monies were repaid before Wells Fargo Advisors discovered it. The clients were never interviewed or questioned about the issue. They are willing to provide a statement if necessary.

Yeah, I know: You didn't see all that coming. Frankly, I was shocked when I started digging around after reading the AWC and came across that BrokerCheck statement. When you take into account Wells Fargo's BrokerCheck disclosure concerning its discharge of Smith, you sort of wonder just what the hell was going on here:
  • Was this a loan or an investment?  
  • Did the customers ever complain?
  • How the hell did Wells Fargo and/or FINRA even learn about his transaction?
  • If the customers submit an Affidavit affirming that they did not "lend" money to Smith but entered into an investment in PH, would that remove the prohibited borrowing regulatory violation?
  • If the customers did submit such an Affidavit, wouldn't that raise questions about a prohibited Private Securities Transaction and/or non-disclosed OBA activities?
  • Also, did you note the so-called "40% interest rate" on the alleged three-month loan? Doesn't that strike you as a usurious interest rate for such a short-term loan and likely in violation of most applicable state laws? Was that 40% indicative of a "return on investment" rather than a seemingly illegal or disproportionately high interest rate on a loan?
Now you understand why I'm paid the big bucks for taking on these arcane regulatory and compliance cases!

Given all the nuances note above, what do you think about the $5,000 fine and 15-business-day suspension? To much? Too little? Just right? Consider that FINRA recently announced revisions to its "Sanctions Guidelines," FINRA Regulatory Notice 17-13: Sanction Guidelines / FINRA's NAC Revises the Sanction Guidelines (April 2017) of which a key addition is the inclusion of specific parameters for borrowing infractions:

4. Borrowing From or Lending to Customers. There are large numbers of litigated and settled cases involving borrowing and lending arrangements between registered representatives and customers, but the current iteration of the Sanction Guidelines has no guideline related to these types of violations. The introduction of a guideline related to borrowing and lending arrangements between representatives and customers provides adjudicators with guidance on the assessment of sanctions in these cases.

As revised, the FINRA Sanction Guidelines provide on page 77:

Borrowing From or Lending to Customers - Failure to Comply With Rule Requirements / FINRA Rules 2010 and 3240

Principal Considerations in Determining Sanctions

See Principal Considerations in Introductory Section

  1. The purpose of the loan.
  2. The number of loans at issue.
  3. The number of customers involved in the respondent's borrowing or lending arrangements.
  4. Whether the loan was documented through a loan agreement or other written instrument.
  5. The dollar amount, duration, interest rate, repayment schedule, and other terms of the loan and whether they are reasonable.
  6. Whether the respondent made payments in conformance with the loan agreement and has repaid, or attempted to repay, the loan.
  7. The age, financial condition, and financial sophistication of the customer.
  8. Whether the respondent made any misrepresentations to the customer.
  9. Whether the respondent misled his or her employer member firm about the existence of the loan or otherwise concealed the activity from the firm.
Monetary Sanction
Fine of $2,500 to $73,000

Suspension, Bar or Other Sanctions
Consider suspending the respondent for a period of 10 business days to three months.

Where aggravating factors predominate, consider a longer suspension (of up to two years) or a bar

Finally, as readers of the BrokeAndBroker.com Blog know, I am a proponent of "content and context" in all regulatory documents. You've likely formed an opinion about Smith and the subject loan. You may agree or disagree that the transaction is a loan subject to FINRA's rule. You may agree or disagree that the AWC imposed too little, too much, or an appropriate sanction. Okay, so, now, factor in an additional tidbit that's not noted in the AWC. Online FINRA BrokerCheck records under the heading "Criminal -- Pending Charge" disclose that on August 4, 2017, Smith was charged in Oklahoma with Forgery in the First Degree, a felony to which she pleaded not guilty.

Omigod !!! Enough already. My head is spinning. I'm sure yours is too. Welcome to the exciting world of fun and games on Wall Street, brought to you by FINRA.