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Broker-Dealer Firms Could Suffer Finra's Wrath for Unpaid Arbitration Awards

By Rita Raagas De Ramos February 26, 2018

The industry’s self-regulator is planning to make it easier for investors to recover arbitration awards from broker-dealer firms or advisors by proposing to impact the membership status of firms that have pending unpaid awards or firms that employ registered individuals with unpaid awards.

Finra is requesting comments -- until April 9 -- on proposed amendments to its Membership Application Program rules. The watchdog wants to create more incentives for the timely payment of arbitration awards by stopping individuals from switching firms or preventing firms from using asset transfers to avoid paying arbitration awards.

The watchdog is specifically trying to address situations in which firms hire individuals with pending arbitration claims. The changes to the rules would give Finra the authority to deny a new membership application from a firm if the applicant or its associated persons are subject to pending arbitration claims. It wouldn’t let Finra deny a continuing membership application from a firm that is already a member, but it could subject that firm to certain restrictions, such as not hiring more associated persons with pending unpaid arbitration awards.

The amendments would also address situations in which a member firm with substantial arbitration claims seeks to avoid paying claims by shifting its assets -- typically customer accounts, or its managers and owners -- to another firm and closing down. The changes to the rules would not permit any direct or indirect acquisitions or transfers of a member firm’s assets or any asset, business or line of operation if the firm or at least one of its associated persons has a pending unpaid arbitration award.

Finra says its membership application rules are intended to promote investor protection by applying strong standards to its member firms.

The move is in line with the self-regulator’s intention of taking a "stronger approach to addressing the issue of pending arbitration claims," it says in background notes to the proposed amendments.

Meanwhile, Finra has released -- for the first time -- five years’ worth of data on unpaid awards in its arbitration forum, in a move it describes as a bid to further industry discussion and solve this persistent problem.

The data shows that out of 2,378 cases closed with awards issued to customer claimants from 2012 to 2016, 268 cases -- or 11% -- were left unpaid. In monetary terms, that’s $678 million in awards issued to customer claimants in that five-year period, with $199 million -- or 29% -- left unpaid.

In 2016 alone, out of the 389 cases that closed with awards issued to the customer claimants, 44 cases -- or 2% -- were left unpaid. That’s $119 million in awards issued to customer claimants, with $14 million -- or 12% -- left unpaid. The lowest unpaid award in 2016 was $10,485 and the highest was $3.2 million.

"When a customer is unable to recover on a judgment or award, the customer may be left without any redress for the harm suffered, and public confidence in the financial services industry and the regulatory framework under which it operates may be diminished," Finra says in a 24-page discussion paper on customer recovery in the Finra arbitration forum.

Finra’s arbitration and mediation forum is the largest securities dispute resolution venue in the U.S. Finra’s arbitration and mediation forum handles more than 99% of the securities-related cases in the U.S. It has a roster of more than 7,000 arbitrators and hearing locations in all 50 states, as well as Puerto Rico and London.

Finra says it has taken steps to mandate the payment of customer arbitration awards by its members to restrict those who do not pay awards through suspension from the industry, and to expand options available to customers with claims against respondents who are unlikely to be able to pay.


Finra says it has also identified other approaches that would require rulemaking and legislation to help customers recover monetary damages against Finra member broker-dealers and associated persons. These include requiring firms to raise or maintain additional capital to cover unpaid awards and to have insurance coverage for this purpose; including the unpaid awards in the responsibilities of the Securities Investor Protection Corporation (SIPC) coverage and to have a brokerage industry fund that’s separate from the SIPC for this purpose; amending the disclosure requirement regarding unpaid awards by firms; including unpaid awards among the reasons for disqualifying firms or individuals from the industry; and preventing the use of bankruptcy as a reason for an unpaid award.

Finra says most broker-dealer firms require customers opening accounts to agree in writing to arbitrate disputes concerning the account.

The regulator stresses, however, that it doesn’t require customers to arbitrate disputes with broker-dealers, nor does it preclude customers from pursuing relief in state or federal courts.

However, Finra rules require arbitration if requested by the customer.

Bill Singer, a New York-based lawyer who is of counsel at Gusrae Kaplan Nusbaum, says even if Finra doesn’t force its member firms to use its arbitration and mediation forum, the self-regulator has still created a monopoly because most member firms opt to use the forum when they go into arbitration.

Richard Berry, Finra’s New York-based director of dispute resolution, told FA-IQ previously that he believes its arbitration and mediation forum offers advantages over taking disputes to the courts. For customer claimants, Finra's arbitration and mediation "is faster and less expensive than going to court," he said, adding most arbitration fees are paid by the firms, not customer claimants.