FINRA Expungement and Litigation

Posted on November 30, 2021

Author: Alexander K. Cox

Originally published in October 2021

Copyright © 2021 Knox McLaughlin Gornall & Sennett, P.C.

What is FINRA?

FINRA is the Financial Industry Regulatory Authority. It is a private not-for-profit corporation, authorized by Congress, and overseen by the Securities and Exchange Commission (SEC). It is governed by a Board of Governors and its rules, procedures, and regulations are approved by the SEC.

FINRA’s mission: “Protecting investors and safeguarding market integrity that facilitates vibrant capital markets.”

What does FINRA do?

  • Regulates Exchange Markets and the New York Stock Exchange.
  • Regulates, tests, registers, and certifies firms and individuals that sell, market, or broker securities.
  • Monitors and regulates advertising of securities products and disclosures for securities products.
  • Maintains and operates the Central Registration Depository and “BrokerCheck”—public database that shows customers and potential customers individual and firm qualifications, experience, and customer disputes. BrokerCheck access is required to be included on members’ websites.
  • Serves as efficient arbitration or mediation forum for claims involving FINRA members.

FINRA Arbitration

Eligibility for arbitration: Any type of dispute, claim, or controversy arising out of business dealings with any FINRA brokerage firm or registered individuals.

There are two ways of securing jurisdiction for disputes:

  1. Voluntary consent of both parties to the dispute.
  2. Mandatory arbitration provision in contractual agreement—e.g., customer agreement or employment agreement.

There are two general categories of arbitration cases:

  1. Customer disputes: A customer files a complaint or claim against a FINRA member arising out of transaction. Examples: fraud, theft, misleading advertising, breach of fiduciary duty, violation of permitted sales practices, etc. Available remedies are compensatory damages for harm to customer.
  2. Employment disputes: Disputes between current or former employers and employees. There can be claims by Employees (wrongful termination, discrimination, harassment, etc.) and claims by Employers (fraud, conversion, breach of contract - most significantly, breach of non-solicitation, non-compete, or non-disclosure in employment agreement).

Arbitration Process

  • Arbitrators are typically attorneys or retired or active securities professionals. Typically there is a panel of three for each proceeding. Parties can rank and strike certain arbitrators, especially if any potential conflict of interest.
  • Pleadings: Statement of Claim and Answer
  • Motion Practice Disfavored: Typical litigation motions—motion to dismiss, motion for summary judgment, etc.—are disfavored and rarely granted.
  • Limited Discovery: Exchange of documents. Depositions are strongly discouraged and require permission from arbitration panel (and are rarely granted).
  • Hearing: Witnesses, exhibits, panel of arbitrators.
  • Decision: Must be confirmed by a Court with competent jurisdiction.
  • Advantages: Faster, less expensive, less formal, and more confidential than standard litigation.
  • Fees: Depends on amount in controversy. Filing fee, plus hearing session fees. Less expensive than AAA, since arbitrators are not paid hourly.

FINRA Expungement Proceedings

Central Registration Depository and BrokerCheck

  • Central Registration Depository (“CRD”): Database of all information for FINRA member or registered individuals. Among other things, includes information on all customer complaints or disputes submitted to FINRA.
  • BrokerCheck: Public website that allows customers and customers to search the CRD for information about firms or individuals. Includes information on all customer complaints or disputes submitted to FINRA.
  • Customer complaints remain on the CRD/BrokerCheck indefinitely unless expunged.
  • Customer complaints can arise out of a formal claim filed with FINRA or an informal complaint that never gives rise to a claim.

FINRA Position on Expungement

Available, but viewed as an “extraordinary” remedy that should be rarely granted. The SEC, as a result of pressure from Congress and advocacy groups, is working on proposed rules to significantly reign in expungement requests—to the point that nearly impossible to secure.

Two Types of Expungements

  • As part of a formal claim proceeding before FINRA involving the customer.
  • Subsequent to customer claim or complaint.

Standard for Expungement

The arbitration panel must determine that one of the following is met (FINRA Rule 2080):

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

Process for Expungement Requests

  • Filed like any other arbitration proceeding.
  • Opposing party is the member firm at the time of the underlying customer complaint.
  • Customer is notified of request for expungement and permitted to participate in proceedings.
  • Follows expedited and streamlined version of typical arbitration procedure: Pleadings, limited motion practice, limited discovery, and hearing.
  • Request is typically heard by single arbitrator unless party requests panel of three.
  • If arbitrator grants request, must issue a written decision with explanation of how substantive requirements of Rule 2080 are satisfied.
  • Must be confirmed by Court with competent jurisdiction. Remains on CRD/BrokerCheck until court order confirming the arbitration decision is secured and provided to FINRA.

Timing of Expungement Requests

  • FINRA general six-year statute of limitations applies—so six years after submission of customer complaint.
  • Arbitrators have discretion to ignore or otherwise not apply statute of limitations. However, customer or member firm may raise the issue and arbitrator can raise it sua sponte. If beyond statute of limitations, likely to be dismissed if either customer or member firm opposes the expungement request.
  • There are proposed SEC rules that would reduce the deadline to two years and to make it mandatory for arbitrators.

Additional Rules Regarding Expungement Requests

  • Settlement of customer claims cannot be conditioned on customer supporting or refraining from opposing expungement requests.
  • If a Court has previously rejected expungement request—e.g., as part of a lawsuit—FINRA will automatically dismiss it.

Costs for Expungement Proceedings

  • FINRA fees: $5,650, plus hearing session fees (an additional $2,000 to $4,000). The $5,650 fee is a new fee imposed in 2020.
  • Attorney fees: Depends on complexity of the case, but range from $7,500 to $15,000.

Author: Alexander K. Cox

Originally published in October 2021

Copyright © 2021 Knox McLaughlin Gornall & Sennett, P.C.