On May 6, 2022, FINRA released a “Discussion Paper – Expungement of Customer Dispute Information” (the “Discussion Paper”) to address what FINRA clearly sees as problems with the current system for expunging customer complains. Let’s be clear from the outset, FINRA is openly hostile to the expungement of customer complaint information. FINRA is particularly hostile to what they describe as “straight-in” expungement arbitrations where the financial advisor seeks expungement by naming their firm as the respondent (typically after a customer arbitration has settled).

As many practitioners know, FINRA passed an amendment, effective September 14, 2020, establishing a minimum filing fee for expungement arbitrations. The Discussion Paper touts the success of this amendment in reducing the number of straight-in expungement actions by 37% between 2019 and 2020. Thus, FINRA makes it clear that its goal is reduction of expungement claims rather than making sure the claims have merit.

The tone of the Discussion Paper starts off somewhat defensive as FINRA makes sure to let the public know how few expungements are actually awarded every year. Between January 2016 and December 2021, approximately 8 percent of financial advisors registered with FINRA had a customer dispute disclosure on their record and only 1 in 10 had customer dispute information expunged during that time period. If expungement of customer dispute information is so rare, it is hard to understand why FINRA has as they put it, “engaged in longstanding efforts with NASAA and state securities regulators to explore a redesign of the current expungement process.” I recently blogged about the Alabama Securities Commission’s (“ASC”) intervention into an expungement award confirmation proceeding and the ASC’s very dim view of the “straight-in” expungement process. In light of the intervention and then the subsequent release of this Discussion Paper, it seems likely that more state regulators than just Alabama are unhappy with the current expungement system.

The Discussion Paper notes that FINRA filed a new rule proposal with the SEC in September 2020 known as the “Special Roster Proposal.” The Special Roster Proposal entailed a number of measures that would make expungement of customer dispute information more difficult. For example, the Special Roster Proposal would:

• as its name implies, create a roster of arbitrators with specialized training,

• require a three member panel, and permit no strikes or stipulations to remove an arbitrator,

• set time limits to prevent expungement after more than six years from the complaint or two years from the close of a customer arbitration,

• provide notice to state regulators upon the filing of an expungement request, and

• require financial advisors, when an arbitration has been filed, to seek expungement from the same panel that hears the arbitration.

On May 18, 2021, FINRA withdrew the Special Roster Proposal from the SEC’s consideration “in response to concerns raised by the SEC staff . . . .” The Discussion Paper provides no insight as to what those concerns are but states FINRA’s intention to continue pursuing the Special Roster Proposal, and to “continuing discussion with NASAA . . . regarding a more fundamental redesign of the current expungement process . . . .”

To that end, the Discussion Paper raises a number of possible changes to the existing expungement process, including measures such as raising the standards for awarding expungement set forth in FINRA Rule 2080. FINRA is also considering altering what firms’ and financial advisors’ have to disclose in the first instance, presumably expanding the current universe of required disclosures. FINRA makes clear, however, that it plans on moving forward on a dual track approach. In the near term, FINRA wants to implement the Special Roster Proposal, presumably after addressing whatever concerns the SEC had. In the long term, FINRA wants to completely redesign the expungement process by doing away with arbitration of expungement of customer dispute information entirely and to rely instead on FINRA and state securities regulators to determine what disclosures can be expunged. The Discussion Paper raises many questions about how this “Administrative Process” would work and what it would look like. FINRA also acknowledges that implementing such a process is going to require SEC approval and possibly Congressional action. Putting the details aside, however, the Discussion Paper makes it clear that administrative control over expungement is what FINRA wants for the future.

Herskovits PLLC has a nationwide practice representing registered representatives with Form U4 and Form U5 expungement claim. Feel free to contact us at 212-8907-5410.

At a FINRA arbitration in September 2021, Mr. Kent Kirby, a financial advisor at UBS Financial Services, Inc., sought the expungement from CRD of five customer complaints spanning a time frame from 2002 through 2011. Mr. Kirby was successful in obtaining an award expunging all five occurrences despite the fact that one customer opposed the expungement in a pre-hearing brief and at the hearing. In a detailed award, the arbitrator found that each of the claims against Mr. Kirby were “factually impossible or erroneous” as required by FINRA Rule 2080(b)(1)(A) and “false” as required by FINRA Rule 2080(b)(1)(c). Mr. Kirby then filed an action in the Circuit Court of Palm Beach County, Florida to confirm the award. Kent Kirby v. FINRA, Case No. 50-2021-CA-013816 (15^th Judicial Cir., Palm Beach County, FL).

Many are familiar with FINRA Rule 2080, which involves the expungement of customer complaint information from a registered representative’s Form U4 and from the Central Registration Depository (“CRD”). Rule 2080 requires any arbitration award granting expungement of customer complaint information to be confirmed by a court order. In addition, the rep must name FINRA as a part to the court proceeding or request FINRA to waive that requirement.

What many practitioners may not know is that when FINRA receives a request for a waiver, it takes that request, along with accompanying documents, and sends it to all of the state regulators in each state where the individual is registered. See https://www.finra.org/registration-exams-ce/classic-crd/faq/finra-rule-2080-frequently-asked-questions

This is where the Alabama Securities Commission (“ASC”) stepped into the picture. On February 22, 2021, the ASC filed a Petition to Intervene in Mr. Kirby’s confirmation action and stated its intention to oppose confirmation of Kirby’s arbitration award and seek to vacate it pursuant to 9 U.S.C.A. § 10 and Fla. Stat. § 682.13. The motion to intervene was granted on consent.

The ASC argued, among other things, as the basis for its right to intervene, that the information in CRD is maintained by FINRA pursuant to FINRA’s CRD Agreement with the North American Securities Administration Association (“NASAA”). The CRD agreement explicitly states that the disclosure data in CRD “is owned by the participating stated where a broker is registered.” Thus, Alabama had a property interest in Mr. Kirby’s expungement.

Here is where things get interesting. First, FINRA did not waive the requirement that Kirby name FINRA in his petition for confirmation but then submitted a response to the petition that merely stated that, “FINRA has reviewed the arbitration award and the petition to confirm that was filed in this case. FINRA does not take a position on whether the award should be confirmed.” It leads one to wonder, why did FINRA insists that it be named as a party only to take no position on confirmation?

ASC, however, had no qualms about taking a position in its motion to vacate the award and the Alabama regulator came down hard on the arbitrator (“Arbitrator Linder”). The grounds for vacating an arbitration award pursuant to Florida law are a high hurdlel. The statute provides only a handful of reasons to vacate an award including:

1. where the award was procured by corruption, fraud, or undue means;
2. evident partiality of the arbitrators;
3. misconduct by the arbitrator; or
4. the arbitrator exceeded his powers.

The ASC was not shy about accusing Arbitrator Linder of all of these things; corruption, fraud, partiality, misconduct in refusing to hear evidence, and exceeding his powers.

The ASC did not stop at its criticism of the arbitrator but also attacked the whole process of what it named “straight-in expungement cases” which it described as cases in which the broker names his firm as the respondent. The ASC described these cases as “illusory” because the firm does not oppose the relief and the customers are not named as parties and do not typically participate because their underlying issue has already been resolved. ASC cited to a 2019 study that showed, between 2015 and 2019, 98% of firms did not oppose expungement and 87% of customers failed to participate.

ASC also pointed to studies that show that expungement was granted in 90% of “straight-in expungement cases” and that the data from those studies:

strongly suggests that brokers and their firms are coordinating with each other in the arbitrator selection process to hand-pick arbitrators who will most likely grant expungement.

(original emphasis). The ASC pointed out that Arbitrator Linder had presided over 36 expungements since 2015 and granted expungement in all but one case. ASC relied on this fact to argue that Arbitrator Linder was not an impartial trier of fact.

ASC also went to extraordinary measures to conduct its own investigation of Mr. Kirby’s arbitration and complaint history. ASC obtained the audio recording of the arbitration and created a transcript of the proceeding. ASC also contacted the customer who attended the expungement hearing, obtained an affidavit from him, and conducted a thorough review of the customers’ underlying complaint. The ASC’s presentation of the expungement arbitration as well as the customer’s underlying complaint reads much more like a statement of claim from a plaintiff’s attorney rather than a regulator. For example, it accuses Kirby multiple times of making false statements at the hearing simply because the ASC chooses to believe the customer’s version of events.

Ultimately, the ASC’s opposition to confirmation of Kirby’s award, alleges not just a single flawed award but it calls into question FINRA’s entire expungement regime as being corrupt. The fact that FINRA appeared in this action but took no stance as to confirmation stands in stark contrast to Alabama’s scathing 44 page memorandum of law. It remains to be seen if Alabama intends to frequently intervene in expungement award confirmations or if they found Mr. Kirby’s award particularly offensive. In any event, Alabama has fired a shot across FINRA’s bow that could spark rule changes surrounding what ASC calls of “straight-in expungement cases.”

We believe the Court can and should deny Alabama’s motion to vacate the award. If the State of Alabama has issues with the expungement process, the State should direct those concerns to FINRA and request rule changes. It is unfair, however, for the State to challenge a valid Award that was issued in accordance with FINRA’s rules.

Herskovits PLLC has a nationwide practice representing securities industry participants. Feel free to call for a consultation at 212-897-5410.

The arbitration was conducted under FINRA’s simplified rules before a single public arbitrator and the Claimant represented herself without an attorney. Merrill Lynch was represented by the law firm Seyfarth Shaw LLP.

In her findings, the single arbitrator seemed particularly concerned that Merrill Lynch failed to even speak with the customer about the allegations in dispute. Merrill Lynch also failed to have the customer sign an affidavit supporting the allegations. The client in question was known to be suffering from memory problems so significant that Merrill Lynch terminated her as a brokerage client despite an account balance in excess of $500,000. The client had previously complained about unauthorized trading in her account by her primary advisor.

Reminiscent of the Wells Fargo account fraud scandal, several former Merrill Lynch employees testified that they were encouraged to open new accounts for customers even if the client had existing accounts. Those same former employees testified that the policy for opening up new accounts was “ambiguous and not uniformlty enforced.” Interestingly, the arbitrator noted that the Claimant “only earned $700” from opening up the account in question and concluded that, “[n]o reasonable person would have done so had he or she been aware of the severe consequences that would issue.”

Herskovits PLLC has a nationwide practice representing financial advisors with Form U5 and Form U4 expungement claims. Herskovits PLLC was recently featured in AdvisorHub for successfully obtaining expungement of an FAs Form U5 and even recouping attorneys’ fees. Feel free to contact us for a consultation at (212) 897-5410.

On November 19, 2020, FINRA published a noteworthy arbitration award for a Herskovits PLLC client in FINRA Arbitration No. 20-01054. This case has garnered significant attention in the press due to the fact that Wells Fargo was ordered to pay our client’s attorneys’ fees. Stories about the case have been reported in AdvisorHub, InvestmentNews and ThinkAdvisor.

On February 18, 2020, Wells Fargo terminated the FA and inserted the following allegation on the Form U5:

“WF Bank, N.A., registered banker was discharged by the bank after a bank investigation reviewed complaints received by AMIG from two bank customers alleging the customers were enrolled in renter’s insurance policies for which the banker received referral sales credit without the customers’ authorization. The registered banker denied the customers’ allegations. The activity was not related to the securities business of WFCS.”

The arbitrator deemed Wells Fargo’s disclosure to be defamatory in nature and ordered that (a) the reason for termination be changed from “discharged” to “other”; and (b) the termination explanation be changed to “Not for cause termination.” In addition, Wells Fargo was ordered to pay attorneys’ fees in the amount of $30,000.

Herskovits PLLC has a nationwide practice representing individuals and entities in FINRA investigations and FINRA arbitrations. Additionally, we routinely represent financial professionals in compensation and termination-related disputes, including Form U4/Form U5 expungement claims. We can contacted at 212-897-5410.

On September 22, 2020, FINRA submitted a proposed rule change to the SEC. The proposed rule furthers FINRAs assault on the expungement process by imposing stringent requirements on expungement requests filed during a customer arbitration by or on behalf of the associated person (“on-behalf-of request”) or filed by a registered representative separate from a customer arbitration (“straight-in request”). The proposed rule also (a) establishes a roster of arbitrators with enhanced training and experience, from which a panel of 3 arbitrators would decide straight-in requests; and (b) codifies and updates the Notice to Arbitrators and Parties on Expanded Expungement Guidance.

Here are some of the key takeaways from the proposed rule change:

Denial of FINRA Forum

FINRA proposes to change Rule 12203 (Customer Code) and Rule 13303 (Industry Code) to require the Director of Arbitration “to decline the use of the FINRA arbitration forum if the Director determines the expungement request is ineligible for arbitration under Rule 12805.”

Proposed Rule 12805 will provide substantial limitations on expungement requests as noted below:

Requesting Expungement When FA is Named as a Respondent in an Arbitration

• The associated person must seek expungement in the arbitration or shall be prohibited from seeking expungement at a later date. The associated person must include the expungement request in the answer or other pleading. The expungement request must include the applicable fee, CRD number of the party requesting expungement, CRD occurrence number that is the subject of the request, the case name and docket number that gave rise to the customer dispute information if applicable, and an explanation of whether expungement was previously sought and, if so, how it was decided.
• The associated person shall be prohibited from seeking expungement if (a) an arbitrator previously considered a request for expungement of the same customer dispute information; or (b) a court previously denied a request to expunge the same customer dispute information.
• If the arbitration settles, the panel cannot consider the expungement request and the associated must initiate a new arbitration against the member firm to obtain expungement.

Requesting Expungement on Behalf of an Unnamed Person

• A broker-dealer shall be prohibited from seeking expungement on behalf of an unnamed person if (a) an arbitrator previously considered a request for expungement of the same customer dispute information; or (b) a court previously denied a request to expunge the same customer dispute information
• The unnamed associated person must sign a form permitting the broker-dealer to seek expungement on her behalf.
• The unnamed is prohibited from intervening in the arbitration if the broker-dealer elects not to seek expungement on behalf of the unnamed person.
• If the arbitration settles, the panel cannot consider the expungement request and the associated must initiate a new arbitration against the member firm to obtain expungement.

Straight-in Expungement Requests

• An associated person is prohibited from filing an expungement claim if (a) an arbitrator or court previously denied a request to expunge the same customer dispute information; (b) the customer complaint or arbitration that gave rise to the customer dispute information is not closed; (c) more than 2 years have passed since the arbitration or litigation that gave rise to the customer dispute information has closed, or more than 6 years have passed since the customer complaint was reported to CRD.
• The customer must be notified of any expungement hearing.
• A panel of 3 public arbitrators with certain qualifications will hear the expungement request.

Expungement Hearing

• The panel must hold a recorded hearing.
• The associated person must appear at the hearing. A party requesting expungement on behalf of an unnamed person must also appear at the hearing.
• The customer has a right to appear at the hearing or otherwise state his position in writing. The customer has the right to testify at the hearing and offer opening and closing arguments.
• The panel must review any settlement agreement and consider the amount of payments and other terms of the settlement agreement. The panel must inquire whether a party conditioned a settlement on the customer’s non-opposition of the expungement request.

Herskovits PLLC has a nationwide practice prosecuting and defending FINRA arbitration claims, including expungement requests. Feel free to call us for a consultation. 212-897-5410.