OPINION: Swallow Hard and Disclose Even Shameful Secrets

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After two years of warnings, the Financial Industry Regulatory Authority has become ferocious about pursuing and sanctioning brokers who fail to report tax liens, bankruptcies and other “disclosable” events quickly and accurately on their Form U4s.

A well-armed cadre of Finra enforcers are making sure that the industry gets the message,  publicizing high-profile fines and suspensions that include a well-known Oppenheimer manager in New York City who was suspended in May and tech banking legend Bill Hambrecht.

Less well-known advisors aren’t safe either, and the fines seem to be growing more severe. A review of FINRA’s disciplinary reports in May alone turned up these sanctions for U4 issues:

  • Advisor agreed to three-month industry suspension for willfully failing to timely disclose tax liens on Form U4; advisor was excused from payment of monetary fine only due to his poor financial status;
  • Advisor fined $5,000 and suspended from industry for six months for willfully failing to report a default judgment and unsatisfied tax lien, and for failing to revise his annual firm compliance certification;
  • Advisor fined $5,000 and suspended from industry for one month for failing to timely amend his Form U4 to reflect unsatisfied state and federal tax liens;
  • Advisor fined $10,000 and suspended from industry for six months for willfully failing to timely disclose federal tax liens and unsatisfied civil judgment on the U4.

Finding the Faults

If you have not disclosed something required by the rules, you’re sitting on a time bomb. Working in a state of denial, hoping that a shameful secret won’t be discovered, is not a reasonable strategy.

It is now routine for Finra to pull the credit report of any advisor named in a written customer complaint or arbitration—or who has been terminated for cause—and compare it to Form U4 disclosures in search of discrepancies.  

What’s more, Finra’s Rule 3110(e), which was adopted last year, requires member firms to run background checks on new hires. If you move, unreported events will have to be addressed.

There are many factors Finra considers in determining a sanction, including prior disciplinary history. But in my experience, the worst sin an advisor can commit  is “willful” omission, that is, intentionally hiding something that should have been disclosed.

A finding of willful non-disclosure triggers the dreaded Statutory Disqualification. That means that a broker must then find a firm willing to file a MC-400 application on their behalf and agree to place them under heightened surveillance as a precondition of returning to the industry.  

This is no trivial matter. I once represented an advisor with a squeaky clean record except for one omission. Following a ruinous divorce, he filed for personal bankruptcy but was ashamed to document it on a U4.

Suffice it to say, Finra is not particularly sympathetic to embarrassment as an excuse. It suspended him for 90 days and, more onerously, tacked on statutory disqualification because it considered his failure to report as “willful.” The readmission application process that followed took the better part of three years. (By the way, the common complaint from brokers that they were ignorant about the disclosure update requirement also is a weak excuse.)

Plan of Attack

On discovering an unreported event, it is tempting, and seemingly smart, to confess your sin to a manager or compliance officer. That, unfortunately, is a dangerous strategy. Firms all too frequently repay such acts of contrition with summary terminations.

It helps firms to show regulators that they are tough cops but, needless to say, having them err on the side of zealousness is dangerous for you.

It is usually preferable to have your lawyer reach out to Finra to lay out the events without naming his or her client, clarify a willingness to ameliorate the reporting error(s) and assess the regulator’s response. Such initiative often redounds to the broker’s benefit.

This approach also gives your lawyer the opportunity to frame your disclosure failure in the most favorable light from the start. When your firm’s compliance department initiates the contact, it is a crapshoot as how much effort will be made to present you personally as a cooperative party.

Most importantly, your attorney can suss out how reasonably FINRA responds to the specific fact patterns of your case. An early assessment can play a big part in continuing negotiations and, ultimately, in the wording of the final letter of Acceptance, Waiver and Consent, or plea bargain that is likely to end the proceeding.  

Even with a professional working on your anonymous behalf, there are, of course, no guarantees that you can avoid a statutory disqualification.

If it seems clear that the first-level FINRA investigator(s) leans towards a tough sanction, you and your lawyer will have to decide whether to immediately throw your cards on the table by identifying yourself and telling enforcers to back off.  Alternatively, you may decide to remain anonymous while your lawyer appeals to a higher authority at FINRA who many be more open to compromise.  

Scott Matasar, Esq. is a cofounder of the law firm Matasar Jacobs LLC in Cleveland, Ohio, specializing in securities, real estate and financial services firm litigation.

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