FINRA Takes Steps to Alter CRD Expungement Rules: Are More Stringent Rules Aimed Toward Disclosure on the Horizon?

By Joel Wertman, Esq. and Allison Livezey, Esq.*

During the week of February 13, 2014, the Financial Industry Regulatory Authority (FINRA) Board of Governors met to discuss a number of issues, including potential rulemaking initiatives. One issue FINRA addressed was the process by which a registered representative may have his/her public record expunged; i.e., the process whereby public customer complaints are sought to be removed from the representative’s publicly available record. Specifically, FINRA proposed Rule 2081, which, if adopted by the Securities and Exchange Commission (SEC), would affect the amount of information available to the public through BrokerCheck. While the specific changes to Rule 2081 are yet to be known, the ongoing evolution of FINRA rules related to disclosure requirements and expungement of public records points to more stringent rules aimed toward greater disclosure and less opportunity for expungement.

As a matter of background, among the various tools on FINRA’s website is BrokerCheck, which is “a free tool to help investors research the professional backgrounds of current and former FINRA-registered brokerage firms and brokers, as well as investment adviser firms and representatives.” This tool is described as part of FINRA’s ongoing efforts to help investors make informed choices about the FINRA-registered brokers and brokerage firms with which they may wish to do business. It also provides the public with access to information about formerly registered brokers who, although no longer in the securities industry in a registered capacity, may work in other investment-related industries or may seek to attain other positions of trust with potential investors.

While many registered representatives are intimately familiar with BrokerCheck, for others a short synopsis is valuable to understand the potential importance of FINRA’s proposed changes to the expungement rule. Some of the information available to the public through BrokerCheck includes a registered representative’s employment background, criminal information, disciplinary information and customer complaints. With regard to customer complaints, BrokerCheck permits the public to access many details that registered representatives may not be aware of, including the allegations of a specific customer complaint, the product type and the settlement amount. Registered representatives have relied on a series of expungement protocols to “expunge” these customer complaints from their BrokerCheck reports.

It is these expungement protocols that are currently under review. Based on the history of rule changes related to registered representatives’ public records, it is expected that any new rules adopted by FINRA will be in an effort to promote more information being included on one’s public record and less ability to have that information removed. For instance, in their infancy, the rules governing expungement were far less strict than today’s incarnation. Prior to 1999, expungement could be directed by an arbitration panel. However, a moratorium was placed on that practice in 1999, which was never lifted. From that point forward, expungements could only be granted by a “court of competent jurisdiction.”

From FINRA’s perspective, the then-prevailing standard was not without its shortfalls. One of the loopholes that emerged was that arbitrations could be settled predicated on an agreement that claimants would not oppose a registered representative’s subsequent efforts to seek expungement from a court of competent jurisdiction. The end result was that registered representatives would initiate unopposed petitions for expungement in state courts that were often rubberstamped by the judge considering the unopposed petition. The judge’s order would then be submitted to FINRA, which would expunge the representative’s record.

In direct response to this practice, FINRA adopted Rule 2130 in 2004. One of the most significant changes present in Rule 2130 was the need to name FINRA as an additional party and serve FINRA with all appropriate documents. (This requirement is still in effect.) This requirement had somewhat of a chilling effect on prospective expungements as the presence of FINRA as a party challenging an expungement petition in state court was often seen as a death knell to the request.

The current version of the expungement rule is Rule 2080. Under Rule 2080, brokers who wish to have customer dispute information removed from their public CRD record must petition a court for an order independently granting expungement or confirming a FINRA arbitration award containing expungement relief. As noted, the petitioner must also name FINRA as a party to the petition and serve FINRA with any relevant documents, unless FINRA waives those requirements. Having FINRA agree to waive its right to participate as a party is often seen as the crucial step toward a successful expungement.

FINRA will only waive those requirements under limited circumstances. FINRA has stated that the above-mentioned procedures are intended to ensure that expungement occurs only when there has been an affirmative finding by a judge or arbitration panel that:

• the claim, allegation or information is factually impossible or clearly erroneous;
• the registered person was not involved in the alleged investment-related sales practice violation, forgery, theft, misappropriation or conversion of funds; or
• the claim, allegation or information is false.

Practically speaking, FINRA will normally waive the requirement to be named as a party to the expungement proceeding when an arbitration panel, after a hearing on the merits, makes such an affirmative finding.

The proposal of Rule 2081 intimates that there are still concerns that it is too easy for registered representatives to have information removed from their records. One area of concern that has been raised is that registered representatives are requiring public customers to agree not to oppose expungement as a condition of settlement. In other words, the claimant would agree not to oppose and/or participate in the expungement hearing before the arbitration panel in which the registered representative seeks one of the three aforementioned findings.

If Rule 2081 is adopted, the expungement of a broker’s record will not be a part of future settlement agreements between complaining customers and their brokers. In particular, according to FINRA’s chairman and CEO, Richard Ketchum, “The proposal would prohibit firms and brokers from conditioning the settlement of a dispute with a customer on the customer’s agreement not to oppose expungement of allegations in the complaint.” Mr. Ketchum further explained that while there is a commitment to providing brokers with a means for expungement of false allegations, “FINRA feels that the expungement of disputed information should not be bargained for through settlement negotiations or otherwise.”

At this point, the proposed rule will be filed with the SEC, which will provide a forum for public comment and will ultimately decide whether to adopt the new rule. It is unclear what the final decision of the SEC will be. Based on the past amendments, however, it is expected that the process to obtain an expungement will only continue to become more complex, with the ultimate goal of providing greater disclosure through BrokerCheck and less opportunity for expungement. As such, it is imperative that registered representatives take the time to be proactive, ensure satisfactory customer service and avoid customer complaints.          

* Joel is a shareholder in our Philadelphia, Pennsylvania office who can be reached at 215.575.2586 or JMWertman@mdwcg.com. Allison Livezey is an associate in our Philadelphia, Pennsylvania office who can be reached at 267.519.6594 or AJLivezey@mdwcg.com.

Defense Digest, Vol. 20, No. 2, June 2014

Defense Digest is prepared by Marshall Dennehey Warner Coleman & Goggin to provide information on recent legal developments of interest to our readers. This publication is not intended to provide legal advice for a specific situation or to create an attorney-client relationship. Copyright © 2014 Marshall Dennehey Warner Coleman & Goggin, all rights reserved. This article may not be reprinted without the express written permission of our firm.