FINRA’s Office of Hearing Officers recently rendered a decision on an issue of first impression in Dep’t of Enforcement v. NYPPEX, LLC, et al., (Disc. Proc. No. 2019064813801). Enforcement charged FINRA member firm, NYPPEX, LLC, its former CEO, Laurence Allen, and its CCO, Michael Schunk, with numerous violations of FINRA rules. The charges stemmed from Respondents’ conduct in the wake of a temporary restraining order issued by a New York state court against Allen. Among other things, the order, obtained at the behest of the Office of the Attorney General for the State of New York (“NYAG”), enjoined Allen from engaging in securities fraud and violating New York’s securities laws. Enforcement took the position that the TRO rendered Allen statutorily disqualified from continued association with a FINRA member firm. Allen could have remained associated with the Firm if it applied for, and received, FINRA’s permission pursuant to FINRA Rule 9520. Allen’s supervisor, Schunk, however, purportedly let Allen continue as an associated person at NYPPEX for over a year without seeking a waiver from FINRA.

FINRA’s disciplinary proceeding was triggered by the ex parte TRO. After a two-year investigation, in December 2018, the NYAG commenced an action under Article 23-A of New York’s General Business Law, known as the Martin Act, against Allen and certain others. The NYAG applied on an ex parte basis for preliminary injunctive relief against Allen, NYPPEX Holdings, and others under Section 354 of New York’s General Business Law. The NYAG stated that a preliminary injunction was warranted because of the allegations of fraud and fraudulent practices by Allen and his refusal to produce documents or appear for testimony. In December 2018, the Supreme Court of the State of New York granted the NYAG the relief it sought and issued the TRO without hearing from Allen or NYPPEX. Allan was served with the Order in January 2019 and Schunk learned about it that month as well.

On December 4, 2019, the NYAG filed a complaint in the New York Supreme Court against NYPPEX, Allen and others (Index No. 452378/2019). In February 2020, the New York Supreme Court concluded a five-day hearing and issued a preliminary injunction prohibiting Allen and NYPPEX from, among other things, violating the Martin Act and from “facilitating, allowing or participating in the purchase, sale or transfer of any limited partnership interest in [the fund].” At this point in time, NYPPEX filed an MC-400 Application seeking permission for NYPPEX to remain associated with a disqualified person, Allen. FINRA Enforcement, however, argued that Allen became statutorily disqualified when the TRO was issued in 2018, more than a year before NYPPEX filed the MC-400 Application.

A person is deemed disqualified from continued association with a FINRA member firm if, among other things, such person “is enjoined from any action, conduct, or practice” specified in Section 15(b)(4)(C) of the Exchange Act. That section, in turn, includes a situation in which a person “is permanently or temporarily enjoined by order, judgment, or decree of any court of competent jurisdiction from . . . engaging in or continuing any conduct or practice in connection with any such activity, or in connection with the purchase or sale of any security.”

Once a member becomes aware that one of its associated persons is subject to a disqualification, the member is obligated to report the event to FINRA. The firm must amend the individual’s Form U4 within 10 days of learning of a statutory disqualifying event. The member firm then must either file a Form U5 terminating the individual’s association or file an MC-400 Application seeking to sponsor the association of the disqualified person. If the member firm neither terminates the individual nor submits an MC-400 Application, the member is ineligible to continue in FINRA membership.

In the case of NYPPEX and Allen, the respondents argued that the TRO did not cause Allen to be statutorily disqualified and they claimed that they relied on both in house and outside counsel in coming to that conclusion. Among other things, Respondents argued that the TRO did not subject Allen to statutory disqualification because it was issued ex parte and Allen had no “notice and opportunity to be heard.” The OHO noted that “[w]hether an ex parte temporary restraining order triggers a statutory disqualification appears to be an issue of first impression.” The OHO, however, had little difficulty in finding that the TRO was indeed an injunction that triggered statutory disqualification. The decision notes that nothing in the language of the Exchange Act requires notice and opportunity to be heard before an event is disqualifying. The OHO concluded, “[i]n sum, there is no basis to conclude that Congress meant to exclude an ex parte temporary restraining order from the operative provision.”

Finally, the OHO also rejected any advice-of-counsel defense because, “[r]eliance on advice of counsel is not relevant to liability if scienter is not an element of the violation.” The decision noted, however, that even when reliance on advice of counsel is not relevant to liability it may be considered as a possible mitigation of sanctions. In the present case, however, there seems to be little mitigation of the sanctions imposed. NYPPEX was expelled from FINRA membership, Allen was barred from the securities industry, and Schunk was fined $120,000, barred from acting in any principal or supervisory capacity and suspended from the industry three and a half years.

Similar to Enforcement, the NYAG likewise prevailed at trial. The New York Supreme Court found Allen and NYPPEX liable for assorted false and misleading statements and ordered disgorgement of nearly $7 million.

Herskovits PLLC has a nationwide practice defending investigations and litigation brought by FINRA and other regulators. Feel free to call us for a consultation at (212) 897-5410.

Practitioners are familiar with the fact that a failure to respond to a FINRA Rule 8210 request almost automatically results in an industry bar. Except when it doesn’t. The Office of Hearing Officers (the “OHO”) recently published a decision in which it discussed what the Hearing Officer referred to as a “partial but incomplete response” to FINRA’s requests for testimony.

In March, the OHO rendered a decision against Jason DiPaola who was accused by FINRA Enforcement of taking discretion in his mother’s E-trade account without written instructions and without disclosing the account to his employer Chardan Capital Markets, LLC (“Chardan”) in violation of NASD Rule 3050. Dep’t of Enforcement v. DiPaola, Discip. Proc. No. 2018057274302 (OHO Mar. 25, 2022). The OHO, however, claimed that the “most serious allegation” was DiPaola’s failure to appear and provide on-the-record (“OTR”) testimony.

DiPaola was not a trader at Chardan and had no retail customers. DiPaola worked in the firm’s equity capital markets group. DiPaola was first interviewed by FINRA Staff in January of 2018. The Staff obtained account statements for DiPaola’s E-trade accounts and his mother’s E-trade account. FINRA also obtained over a million e-mails from Chardan.

The Staff asked for a second OTR which took place in April 2019. During the second OTR, DiPaola’s counsel, who also represented Chardan, asked that the OTR be suspended because he discovered that he had a conflict upon hearing DiPaola’s testimony. A third OTR took place over two days on July 17, 2019 and July 18, 2019.

On March 11, 2021, a year and eight months since DiPaola’s two-day, 2019 OTR, the Staff asked for yet another OTR on March 26, 2021. DiPaola’s counsel informed the Staff that he was not available on March 26^th. On March 26, 2021 the Staff sent DiPaola’s counsel a Wells Notice and another Rule 8210 request for an OTR on April 5^th. Dipaola’s attorney responded in an e-mail, “[a]re you serious? You served a Wells Notice, you cannot take another OTR after serving a Wells Notice. Does your supervisor know what you are doing?” The FINRA Supervisor declined to withdraw the request and DiPaola failed to appear on April 5^th. Enforcement sent another 8210 requesting an OTR on April 15, 2021 which DiPaola also failed to attend.

DiPaola argued that FINRA lacked the authority to demand his testimony because FINRA’s investigation had concluded with the issuance of the Wells Notice. In making this argument, DiPaola relied on FINRA Regulatory Notice 09-17 (“RN 09-17”). RN 09-17 discusses the Wells process. Part of the process is that, after receiving a Wells Notice, the potential respondent is then given the opportunity to make a Wells Submission explaining why formal charges are unwarranted. RN 09-17 states that the Staff will review the Wells Submission “and may ask for additional information or obtain additional evidence in the matter.” DiPaola’’s attorney’s argued that no further investigation could take place until DiPaola had made a Wells Submission. The Hearing Officer disagreed.

Here is where the matter gets interesting. Enforcement sought to bar DiPaola from the industry for failing to attend the OTR. As many lawyers know, this is the standard sanction that FINRA seeks for failing to respond to an 8210 request and it is routinely granted by the OHO. For an individual who provides a partial but incomplete response to Rule 8210 requests, the Sanction Guidelines state that “a bar is standard unless (i) the person can demonstrate that the information provided substantially complied with all aspects of the request,” or (ii) mitigating factors are present. The OHO stated that it was also required to assess (i) the importance of the information sought from FINRA’s perspective, (ii) the number of requests made and, (iii) whether the respondent provided valid reasons for not responding.

Despite finding that DiPaola had no valid reason for not responding and that the information sought was important, the Hearing Panel declined to impose a bar and only imposed a 30 day suspension. The most significant factor seem to have been the issuance of the Wells Notice. The Hearing Panel determined that the act of issuing the Wells Notice meant that Enforcement had reached a preliminary determination to recommend formal discipline. The Hearing Panel decided, therefore, that DiPaola’s prior testimony and information responses before April 2021 were “significantly, if not substantially compliant with Enforcement’s Rule 8210 requests.” Notably the OHO imposed no suspension related to the other causes of action and drastically reduced Enforcement’s request of a bar with regard to the Rule 8210 violation. The OHO also reduced Enforcement’s requested fines of $32,500 to a mere $5,000.

Interestingly, it was probably the threat of a bar that caused DiPaola to take this matter to an administrative hearing in the first place. Unfortunately for DiPaola, Enforcement’s overreach likely cost him a great deal in legal fees and anxiety. Despite this win, he probably wishes he had gone to that OTR in the first place.

Herskovits PLLC has a nationwide practice defending FINRA investigations and disciplinary proceedings. Feel free to call us for a consultation at (212) 897-5410.

On July 7, 2022, FINRA’s Office of Hearing Officers issued its decision in Dep’t of Enforcement v. Burford, Discip. Proc. No. 2019064656601 (OHO July 7, 2022). Here, the Hearing Panel found that Burford caused no customer harm. There was no evidence that Burford gained monetarily from his actions. Burford was “polite, respectful, and cooperative” throughout the investigation and disciplinarily proceeding. Nonetheless, the Hearing Panel refused to deem these factors “mitigating” and whacked Burford with a 6-month suspension – double the suspension sought by Enforcement – and $10,000 fine. At its core, this is a case of registered representative alleged to have improperly taken instructions from a deceased customer’s widow. This case highlights the perils of efforts by a financial adviser to assist an individual when those efforts skirt the policies of a broker-dealer.

Background Facts

Burford was registered with Hilltop Securities Independent Network, Inc. In November 2019, Hilltop discharged Burford and filed a Form U5 alleging a “failure to follow firm policy regarding the death of a client.”

FINRA alleged that Burford failed to notify Hilltop that one of his customer’s (a first cousin of Burford’s wife) passed away in October 2016. The customer had a trading authorization agreement on file permitting Burford to accept trading instructions from the customer’s wife. After the customer’s death, Burford executed 9 trades at the instruction of the decedent’s widow and facilitated 8 ACH disbursements to the widow. The post-death trading activity and money movements came to light when the decedent’s daughter (the adult child from a prior marriage) challenged the customer’s will and petitioned the probate court to restrain the widow from any further disposition of the decedent’s property. Apparently, the widow did not file the will for probate until February 2019, more than 2 years after her husband’s passing. Under Texas law, the right to inherit under a will is not effective until the will is admitted to probate.

FINRA’s Enforcement Department filed a one-count Complaint in September 2021 alleging that Burford violated FINRA Rule 2010 (requiring registered representatives “to observe high standards of commercial honor and just and equitable principles of trade”) by engaging in unauthorized trading and withdrawals. Specifically, FINRA alleged that the trading authorization terminated upon the customer’s death and, in any event, the trading authorization never permitted money movements. According to FINRA, until the probate court admitted the will for probate and issued letters testamentary, no one had authority to direct transactions in the decedent’s brokerage account.

Burford defended the Complaint by alleging that (a) the widow was the named executor and primary beneficiary of the customer’s will; (b) the widow directed and authorized the transactions and money movements; and (c) the activity in question served the widow’s best interests.

The Hearing Panel’s Findings

The Hearing Panel found numerous “aggravating factors:”

• Burford effected the transactions over a lengthy period of time (3 years).
• The value of the transactions was “high” (more than $200,000).
• Burford “concealed” his actions from Hilltop by failing to timely submit the certificate of death and failing to inform Hilltop of the transactions effected after the customer’s death.

Importantly, the Hearing Panel rejected the “no harm, no foul” defense by finding that the harm was the “potential legal risk” to himself and Hilltop caused by the activity in question. Even though a “misguided attempt” to act in a customer’s best interest may be mitigating (Dep’t of Enforcement v. Noard, No. 2012034936101, 2017 FINRA Discip. LEXIS 15, at *29-30 (NAC May 12, 2017) (A respondent’s misguided attempt to act in a customer’s best interest may be mitigating)), the Hearing Panel found that the widow was not Burford’s customer and refused to treat any of Burford’s actions as mitigating. See Dep’t of Enforcement v. Correro, No. E102004083702, 2008 FINRA Discip. LEXIS 29, at *16 (NAC Aug. 12, 2008) (finding that a goal to benefit a customer is not a defense to a violation of NASD Rule 2110, the predecessor to FINRA Rule 2010); Dep’t of Enforcement v. Sears, No. C07050042, 2009 FINRA Discip. LEXIS 4, at *3-6, 11 (NAC July 23, 2009) (Rule 2010 violation found for unauthorized trading even though there was no evidence that respondent “acted in bad faith …. gained any commissions on the [ ] unauthorized trades, or was otherwise motivated by selfish interests.”).

This case serves as a stark reminder that efforts to appease a customer (or, here, a non-customer) may nonetheless be viewed by FINRA as a serious rule violation.

Herskovits PLLC has a nationwide practice representing individuals and broker-dealers in FINRA investigations and disciplinary proceedings. Feel free to call us for a consultation. (212) 897-5410.

When settling a FINRA investigation, the Staff drafts a letter of Acceptance, Waiver and Consent (AWC) setting forth the terms of the settlement. In the AWC, FINRA routinely demands the settling party consent to the following restraint on speech:

“Respondent may not take any action or permit to be made any public statement, including in regulatory filings or otherwise, denying directly or indirectly, any finding in this AWC or create the impression that the AWC is without factual basis.”

A matter before the U.S. Supreme Court may upend FINRA’s use of a gag order.

Case In Point

On March 21, 2022, Barry Romeril filed a petition for writ of certiorari (Romeril v. Securities and Exchange Commission). Romeril asks the Court to consider whether First Amendment and due process rights are violated when the SEC forces a settling party to agree to a lifelong prior restraint barring any statement, however truthful, that even suggests that any allegation of the SEC is insupportable.

In 2003, Romeril settled an action initiated by the SEC. As part of the settlement and judgment, the SEC demanded a non-negotiable “consent” clause stating:

“Defendant agrees not take any action or permit to be made any public statement denying directly or indirectly, any allegation in the complaint or create the impression that the complaint is without factual basis.”

It is noteworthy that the SEC and CFTC systematically demand broad restraints on speech as a condition of settlement. See generally James Valvo, The CFTC and SEC Are Demanding Unconstitutional Speech Bans in their Settlement Agreements, Yale J. on Reg.: Notice & Comment Blog (Dec. 4, 2017). In so doing, settling parties are without defense in the court of public opinion.

Would FINRA Abide by an Adverse Ruling in Romeril?

If the Supreme Court accepts Romeril’s petition, the Court would determine the legality of the SEC’s gag order. Although the SEC’s gag order is identical in substance to FINRA’s gag order, FINRA is not a party to Romeril and it is unclear whether FINRA would abide by a ruling striking down the gag order.

FINRA goes to great lengths to proclaim that it is a “private entity” and not a “governmental body” bound by the U.S. Constitution. See e.g., D.L. Cromwell Inv., Inc. v. NASD Regulation, Inc. 279 F.3d 155, 162 (2d Cir. 2002). For example, in reliance upon this distinction, FINRA chooses not to recognize an individual’s right to invoke the Fifth Amendment privilege against self-incrimination in connection with on-the-record interviews. Nonetheless, FINRA does recognize certain Constitution-based rights. For example, in disciplinary proceedings, FINRA’s staff must turn over “Brady material” to the respondent (documents containing exculpatory material). See Dep’t of Enforcement v. Southeast Inv., N.C., Inc., 2019 FINRA Discip. LEXIS 23 *14 (NAC May 23, 2019) (interpreting FINRA Rule 9253).

Given that the gag order contained in an AWC mirrors the language within the SEC’s standard gag order, it would seem appropriate for FINRA to follow any guidance from the Supreme Court in Romeril.

Herskovits PLLC has a nationwide practice defending individuals and entities in FINRA investigations and disciplinary proceedings. Contact us at 212-897-5410.

On March 11, 2020, FINRA charged an FA with structuring cash transactions in his personal bank account so as to evade reporting requirements. This case is worth a read because it highlights FINRAs commitment to pursue AML and AML-like cases.

Case in Point

In Department of Enforcement v. David R. Oakes, Disciplinary Proceeding No. 2018057755201, FINRA charged the FA with violating Rule 2010 (FINRAs catchall rule) for allegedly structuring three $9,000 deposits (total of $27,000) of currency to his personal bank account between December 27 and December 29, 2017; (2) structuring two $6,500 (total of $13,000) withdrawals of currency from his personal bank account on August 23, 2017; and (3) structuring four withdrawals (total of $21,500) of currency from his personal bank account between August 1 and August 4, 2016. According to FINRA, each of these series of transactions was for the purpose of avoiding the filing of a Currency Transaction Report.

What is Structuring?

A person “structures” money when they seek to avoid the CTR Report (Currency Transaction Report) oftentimes by reducing cash deposits below $10,000. Structuring (also known as “smurfing”) is often related to money laundering activities. But structuring isn’t limited to cash deposits; it captures cash withdrawals as well. The Department of the Treasury offer the following purposefully broad definition (31 CFR § 1010.100):

“a person structures a transaction if that person, acting alone, or in conjunction with, or on behalf of, other persons, conducts or attempts to conduct one or more transactions in currency, in any amount, at one or more financial institutions, on one or more days, in any manner, for the purpose of evading the reporting requirements…”

Backstory

Oakes was employed by Wells Fargo from 2015 to 2018. In February 2018, the firm terminated his registration and filed a Form U5 with the following allegation: “The firm reviewed multiple cash deposits made by Mr. Oakes into his personal Bank account in amounts under $10,000.” Undoubtedly, Wells Fargo’s Form U5 disclosure triggered FINRAs inquiry.

Takeaways

The takeaways for FAs are twofold: First, large broker-dealers have sophisticated surveillance systems specifically designed to capture and flag suspicious activities in affiliated bank accounts. Suffice it to say, firms are monitoring your bank accounts just as they monitor your brokerage accounts. Second, FINRA actively prosecutes cases for violations seemingly outside of FINRAs rulebook. Just because FINRA does not have a rule preventing structuring, that does not mean FINRA is without authority to pursue those cases. FINRA’s Rule 2010 is flexible and is used by FINRA to bring cases against individuals even when FINRA does not have a specific rule on point.

Herskovits PLLC has a nationwide practice defending individuals and institutions faced with regulatory investigations, including FINRA and SEC investigations. Feel free to call us for a confidential consultation at 212-897-5410.

FINRA announced it has just fined C.L. King & Associates $750,000. According to the Regulatory Authority´s decision, the broker-dealer has negligently made “material misrepresentations and omissions to issuers in connection with the firm’s redemptions of debt securities on behalf of a hedge fund customer.”

This was allegedly done in connection with the hedge fund customer´s scheme to profit from the death of terminally ill individuals.

A FINRA hearing panel also found that the Albany-based broker dealer and its Anti-Money Laundering Compliance Officer failed to “implement a reasonable AML program and failed to adequately respond to red flags related to the liquidation of billions of shares of penny stocks indicative of potentially suspicious activity by two customers.”

C.L. King´s alleged “death put” scheme involved a hedge fund manager´s opening of joint accounts at the firm with individuals who were terminally ill “as joint tenants with rights of survivorship.” The accounts were used to purchase corporate debt securities containing a death put. This meant that if a joint tenant passed away, the hedge fund manager was able to redeem the full principal amount of the investments from issuers.

To lure terminally ill individuals, referred by a hospice, to open the joint accounts. The hedge fund offered a $10,000 incentive. As per FINRA rules, the firm must disclose the terms of the joint account agreements to issuers, but no such disclosures were made. As a result, FINRA did not only fine C.L. King, it also censured the broker-dealer on account of its dealings with one hedge fund manager in particular, Donald Lathen, of Eden Arc Capital Management LLC.

The FINRA panel explained in its decision that C.L. King misrepresented Lathen as a joint owner of the accounts in question, “because, by surrendering their rights to the accounts they opened with Lathen in the participant agreements, participants were not beneficial owners of the accounts under New York law.”

Besides, the Securities Act mandates that issuers must receive copies of participant agreements, which C.L. King failed to provide.

“Enforcement contends that the existence of the participant agreements … would have had a material effect on issuers’ decisions whether or not to honor Eden Arc’s redemption requests,” the FINRA panel stated.

The SEC had only recently dismissed fraud accusations against Lathen over the same misconduct.

The Commission believed the hedge fund manager had incurred no violation, but rather, exploited a regulatory loophole. For the acting SEC Judge, Lathen had no intent to defraud issuers. Through the alleged scheme, Lathen made between $7.5 million and $9.5 million, according to the SEC Judge.

One of the most salient aspects of the case is the fact that SEC found no punishable conduct on the part of the hedge fund manager, who made the largest profits, while FINRA did condemn the broker-dealer´s actions.

It is safe to assume that sound legal advice might have shielded C.L. King from FINRA fines and censure.

If your firm is targeted by the SEC call us at the first moment as some proactive defense options are available that can, in an array of circumstances, settle your problem before formal proceedings are initiated. At Herskovits PLLC we focus only on securities law defense – nationwide. Call Us 212.897.5410 or Connect Online

FINRA’s enforcement program is big business.

In 2008, FINRA levied fines totaling $28 million. By 2016, that number jumped to $176 million. In 2008, FINRA ordered restitution payments to investors totaling $6 million. By 2015, that number jumped to $96 million.

Each year, FINRA initiates approximately 1,500 disciplinary actions against member firms and employees. FINRA’s Office of Hearing Officers resolves approximately 400 proceedings per year.

Although FINRA’s enforcement program is expansive, insufficient guidance is given to industry participants who choose to contest FINRA’s charges. This post sheds light on the nuts and bolts of FINRA’s disciplinary hearing process. Obviously, many enforcement matters involve complex issues of fact and law and require the assistance of a lawyer so be aware that this is basic information and no substitute for legal advice.

It is imperative that you consult an experienced FINRA-defense attorney to assess your exposure, if any and decide on the best strategy for your unique circumstance.

Overview

The lifecycle of a FINRA disciplinary proceeding follows a predictable path:

Pre-Complaint Investigation

This topic was covered in an earlier post.

Complaint – The Disciplinary Proceeding Officially Begins

A disciplinary proceeding officially begins when FINRA serves the Complaint. FINRA’s complaint is supposed to specify “in reasonable detail” the conduct which caused the rule violation. Once the Complaint is issued, the respondent has 25 days to file an Answer, which must admit, deny, or disclaim knowledge responsive to, each allegation in the Complaint (FINRA Rule 9215).

The Answer

Common issues with the answer relate to a Hearing Request, Insufficient Details in the Complaint and Default.

Hearing Request – FINRA Rule 9221

When filing the Answer, the responding party has the right to a demand a hearing (FINRA Rule 9221). Failing to request a hearing when filing your Answer may waive your right to demand a hearing.

Insufficient Details in the Complaint

You are permitted to file a “motion for a more definite statement.” A motion is simply a written request to obtain a ruling from the Hearing Officer. A motion of this type may be appropriate if the Complaint fails to provide enough detail for you to understand the charge against you and plan your defense.

Default

Failing to answer the complaint permits the Hearing Officer to issue a default decision.

Hearing Officer and Panel are Appointed

Soon after the Complaint is filed, FINRA’s Chief Hearing Officer appoints the Hearing Officer who will preside over your case. The Hearing Officer is employed by FINRA but strives to be impartial and conflict-free.

Hearing Officers play no role in the pre-complaint investigation and maintain independence from FINRA’s enforcement program. Biographies of FINRA’s Hearing Officers are available at finra.org. The function of the Hearing Officer is to resolve all motions and ensure that the proceeding is conducted fairly and efficiently.

Hearings are typically heard before a 3-person Hearing Panel. The panel is chaired by the Hearing Officer and includes 2 industry panelists who typically are drawn from FINRA’s District Committees.

Settlement Process (Prior to Complaint v After Complaint Issued)

The settlement process shifts once a Complaint has been issued. Prior to the issuance of a Complaint, settlement is documented with a Letter of Acceptance, Waiver and Consent.

After the Complaint has been issued, settlement occurs only through a written Offer of Settlement (FINRA Rule 9270).

An Offer of Settlement is presented to the Hearing Officer and must contain the following:

• A signature by the respondent
• Identification of the origin the disciplinary action
• Specification of the rules which were allegedly violated
• Specification of the facts or practices that the respondent engaged in to cause the rule violation
• A statement consenting to findings of fact and violations consistent with the terms of the Offer of Settlement
• A proposed sanction

The decision to submit an Offer of Settlement is a difficult one. If the Offer of Settlement is rejected, the Hearing Panel may assume that the person who submitted the Offer is guilty of the rule violation.

Offers of Settlement can be contested or uncontested. It is uncontested if Enforcement or Market Regulation agrees in advance to the terms of the Offer and is contested if they do not. Clearly, the odds of acceptance of the settlement offer increase greatly if the Offer is uncontested.

Settlement terms may also be reached by mediation through FINRA’s Office of Hearing Officers mediation program. If mediation is agreed to, the Chief Hearing Officer appoints a Hearing Officer (other than the Hearing Officer assigned to the case) to conduct the mediation.

Mediation is confidential, voluntary and non-binding, meaning that any party can choose to discontinue the mediation at any time. The mediation is typically conducted by telephone.

Initial Pre-Hearing Conference

At various points during the pre-hearing phase, the Hearing Officer may order the parties to attend a pre-hearing conference by telephone.

The initial pre-hearing conference is important because it sets a case management and scheduling order. Generally, the Hearing Officer will expect the parties to strictly adhere to each deadline in the scheduling order.

Deadlines typically set during the initial pre-hearing would include:

• Dates and location of the final hearing
• Deadline for parties to file motions for leave to permit expert testimony
• Deadline for parties to file motions for summary disposition pursuant to FINRA Rule 9264
• Deadline for the respondent to file a motion related to Enforcement’s production of documents under FINRA Rules 9251 and 9253
• Deadline for respondent to file a motion seeking to compel Enforcement to invoke FINRA Rule 8210 to obtain documents or hearing testimony from non-parties
• Deadline for parties to exchange proposed stipulations concerning relevant undisputed facts
• Deadline for parties to file pre-hearing submissions, including briefs, witness lists, exhibits lists, and proposed exhibits
• Deadline for parties to file objections to proposed witnesses or exhibits

Discovery

Discovery is the term used to describe the exchange of documents or information before trial. Litigants use discovery as a means to obtain documents or information needed to support their claims or defenses.

Discovery in the context of a FINRA disciplinary proceeding will likely feel decidedly one-sided.

Enforcement has vast powers to conduct an expansive investigation. In so doing, Enforcement obtains all the discovery it deems necessary before starting the disciplinary proceeding. They can obtain documents and testimony from any member firm or employee without your knowledge and without any practical limitation.

Once Enforcement or Market Regulation deems its investigation complete (meaning, once they obtain the documents and information they deem necessary to support its charges), the Complaint is filed.

Nevertheless, when defending a disciplinary action, you are not afforded anywhere near the same latitude to obtain documents or information which may support your defenses.

FINRA’s rules do require automatic disclosure by Enforcement or Market Regulation of the following categories of documents, provided the documents “relate to” the investigation which led to the disciplinary proceeding:

• Requests for documents or information issued pursuant to FINRA Rule 8210 and all responses
• Requests for documents or testimony not issued pursuant to FINRA Rule 8210 and all responses
• All transcripts and transcript exhibits
• Documents obtained from non-parties
• Documents containing “material exculpatory evidence,” meaning documents which may rebut FINRA’s charges of wrongdoing

Common Discovery Issues

The common issues in discovery, some quite different from traditional litigation, include those set out below.

Absence of Subpoena Power

In traditional litigation, you have the ability to subpoena documents or testimony from third-parties which may be critical to support your defense. However, in a FINRA disciplinary proceeding, you have no right to issue subpoenas for documents or testimony.

You can file a motion asking the Hearing Officer to order Enforcement to issue a Rule 8210 request to a member firm or its employees, but you should not assume the Hearing Officer will grant the request.

The motion must describe the documents, state why these documents are material, identify the efforts made to obtain the documents by other means, and state whether FINRA has jurisdiction over the custodian of the documents (FINRA Rule 9252).

Generally, the Hearing Officer will need to be convinced that, (1) the information sought is relevant, material, and noncumulative; (2) the requesting Party has previously attempted in good faith to obtain the desired documents and testimony through other means but has been unsuccessful in such efforts; and (3) each of the persons from whom the documents and testimony are sought is subject to FINRA’s jurisdiction.

Disputes Concerning Whether a Document “Relates to” Your Proceeding

Enforcement or Market Regulation is only required to produce documents obtained by FINRA “in connection with the investigation that led to the institution of proceedings.” This standard may invite abuse on the part of Enforcement because it is easy to claim that documents in FINRA’s possession were not obtained “in connection with” your investigation.

Generally, you will need something more than assumption to convince a Hearing Officer that documents withheld by Enforcement or Market Regulation were obtained “in connection with” your investigation.

Disputes Concerning Witness Interview Notes

A respondent is entitled to file a motion seeking “witness statements” (generally, a transcript of an “on-the-record” interview) for each witness that Enforcement or Market Regulation may call to testify.

A respondent may also file a motion seeking witness interview notes transcribed by a FINRA investigator.

For technical reasons, it is uncommon to obtain witness interview notes taken by a FINRA investigator.

Pre-Hearing Motions

Pre-hearing motions will generally concern:

• Motions for summary disposition (FINRA Rule 9264)
• Motions to obtain documents or testimony from members firm or employees (FINRA Rule 9252)
• Motions concerning the use of expert witnesses
• Motions concerning proposed witnesses, exhibits or areas of testimony

Pre-Hearing Submissions

Prior to the hearing parties must exchange Witness Lists, Exhibit Lists and file a Prehearing Brief. Below are some details on each.

Witness List

The parties are required to exchange witness lists. The list must disclose the name, address, telephone number, and current occupation of each prospective witness. The list must also briefly describe the substance and scope of the anticipated testimony.

Once the witness list is exchanged, either side can object to witnesses proposed by the opposing party.

Exhibit List

The parties are required to exchange proposed exhibits. The list must include a description of each exhibit and a brief statement indicating the purpose for which the document will be offered at the hearing.

The determination of which documents to use is labor intensive because Enforcement often produces thousands of pages of documents during discovery.

Once the exhibit list is exchanged, either side can object to exhibits proposed by the opposing party.

Pre-Hearing Briefs

Pre-hearing briefs are critically important. You are expected to provide a cogent narrative of the facts and apply the facts to the rules at issue.

This is often the first opportunity for the respondent to educate the Hearing Panel on your “view of the world.” Prior to this point, the Hearing Panel has only seen a one-sided presentation – the Complaint.

Drafting a persuasive pre-hearing brief requires skill and a great deal of effort. It is difficult to extract nuggets of information from thousands of pages of documents and weave that information into a persuasive fact pattern.

The Hearing

The hearing is conducted in a manner very similar to traditional litigation. The parties can make opening remarks. Then Enforcement or Market Regulation has its witnesses testify. Then the respondent has his witnesses testify.

The hearing will conclude with closing statements by the parties.

Trial strategy is well beyond the scope of this post. Suffice it to say, it requires a highly skilled lawyer to effectively question witnesses and elicit favorable testimony at a disciplinary hearing.

Post-Hearing Submissions

Hearing Officers may direct the parties to file proposed findings of fact and conclusions of law, or post-hearing briefs, or both. These, too, are labor intensive endeavors. A persuasive post-hearing brief provides a cogent narrative of the record (the record is comprised of witness testimony and documents received in evidence).

Conclusion

After the hearing concludes, the Hearing Panel typically issues the decision within 60-days. The parties do have certain rights to appeal an adverse decision, first to the National Adjudicatory Council, then to the SEC, and finally to a Federal Court of Appeals.

Disclaimer

This post is for general informational purposes only and is neither intended as, nor should it be considered, legal advice. Every fact situation is different and there is no substitute for qualified legal counsel which you should seek at the earliest possible moment as there are strict timelines in all areas of Securities Law.

Questions Concerning FINRA’s Disciplinary Process? Call Us. FINRA Defense and Securities Litigation is all We Do: 212.897.5410 or Email Us

In its quest for investor protection and market integrity, FINRA diligently seeks out firm representatives who are in violation of its strict rules. Recently, the regulatory authority decided to bar California-based Jim Jinkook Seol from the industry.

A former employee of Ameriprise Financial Inc.; Seol was found to have sold $100 million worth of EB-5, permanent residency-eligible, investments without disclosing the transactions to his employer.

The EB-5 visa program offers permanent residency to foreign nationals who invest between $500,000 and $1 million and create 10 jobs in a new business venture in the US. The program is especially attractive to wealthy individuals from emerging economies like China and India, and, as such, it holds an enormous profit potential for securities industry professionals.

Back in September 2011, while working for Ameriprise, Seol formed a company of his own, Western Regional Center (aka WRCI), to market EB-5 eligible investments to overseas investors.

He went on to travel to South Korea and China, where he was able to secure 200 investors. Each one of them contributed $500,000 to fund NextEra Energy Capital Holdings LLC’s Genesis Solar Energy Project, a solar power plant endeavor based in Riverside, California.

The total of WRCI-managed investments was $100 million. The deals earned Seol’s company $736,000 per year in management fees.

According to FINRA, “Seol intentionally concealed his WRCI activities from his employing firm in multiple instances by repeatedly lying to his supervisor and the compliance examiner that he had ‘no outside business activities, no outside employment, no outside board memberships, and no ownership interest in any legal entities.’ In addition, according to the decision, Seol claimed at the hearing that he did not believe the firm’s policy against outside securities transactions applied to his solicitations through WRCI because he did not understand the limited partnership interests sold to investors to be securities.”

FINRA’s hearing panel found Seol’s claims of ignorance to be “incredible” and described his conduct as “egregious.” In fact, FINRA has very clear rules about outside business activities for registered persons. Rule 3270 establishes that,

“No registered person may be an employee, independent contractor, sole proprietor, officer, director or partner of another person, or be compensated, or have the reasonable expectation of compensation, from any other person as a result of any business activity outside the scope of the relationship with his or her member firm, unless he or she has provided prior written notice to the member, in such form as specified by the member. Passive investments and activities subject to the requirements of Rule 3280 shall be exempted from this requirement.”

Jim Jinkook Seol has, nevertheless, appealed the hearing panel’s decision before FINRA’s National Adjudicatory Council (NAC). The appeal is currently awaiting a decision.

Seol no longer works for Ameriprise, as he was fired when the firm found out about his outside business activities and his failure to disclose them. According to Brokercheck, Seol is no longer a registered broker and he was “discharged for violation of company policy related to an undisclosed outside business activity.” The chances of his appeal being successful remain rather slim.