Here is the second part of Chris’s blog on FINRA’s effort to make expungement harder and more expensive to obtain. It is remarkable to me just how blatant FINRA has been here in admitting the reasons for the rule amendments. Anyone who thinks that FINRA is a membership organization that actually cares for its members is sadly mistaken. – Alan

The second dramatic change to the expungement process under the proposed rules relates to who will be deciding the expungement request. Thankfully, FINRA will still have arbitrators decide expungement requests, not the Director, but FINRA is now requiring a three-arbitrator panel to decide all expungement requests, instead of just a single arbitrator (unless it is a simplified case). In and of itself, this is not hugely detrimental to brokers, since the decision must be only by majority, instead of unanimous.

But, the bigger change, and, frankly, the most consequential change to the expungement process, probably ever, is that parties in expungement cases will no longer have any input into who their arbitrators will be. All expungement-only cases filed with FINRA (“straight-in requests”) will have three arbitrators appointed by FINRA from a special roster of highly qualified arbitrators who have received “enhanced expungement training.” In other words, you get who whomever FINRA picks. This differs dramatically from the current system where, as in all FINRA arbitrations, the parties receive a list (or lists) of at least ten potential arbitrators who they can strike or rank according to preference, with the highest ranked arbitrators from both parties’ lists selected to serve on the Panel. Under the current method, a broker can review the prior awards of potential arbitrators and strike anyone who might display a history of denying expungement requests, or rank highly anyone whose award history suggests they might respond more favorably to the expungement request. Expungement requests are often unopposed, so under the current system, the arbitrator whom the broker ranks number one is usually the one appointed, which can greatly increase the chances of the expungement request being granted.

Under the new proposed rules, FINRA will simply appoint three arbitrators from the special roster, without any input from the parties. If you are appointed one or more arbitrators with a history of denying expungement requests, you will be stuck with them. And don’t even think about just withdrawing your expungement claim and re-filing it, because the new rules will expressly forbid that practice. Don’t try to stipulate with the other parties for the removal of one of the arbitrators, either, because that will be expressly forbidden, too. Besides, all of these arbitrators will have had it instilled in them through FINRA’s “enhanced expungement training” that they should rarely grant expungement requests.

Under the new proposed rules, the only way for a broker to have any influence on the arbitrator selection process is to request expungement in the course of the customer’s arbitration that is the source of the disclosure that is sought to be removed. In other words, going forward under the proposed rules, if a customer files an arbitration against either a broker or a broker-dealer, the broker or broker-dealer may request that the arbitration panel in that customer arbitration not only deny the customer’s claim but also grant the broker expungement.[1] In that instance, since the expungement request is being made inside a customer arbitration, the normal ranking/striking process occurs for that panel selection, so the parties have some input into who is selected as an arbitrator.

But, none of that matters if that customer arbitration settles, as most of them tend to do. Currently, when a customer arbitration settles, a broker can ask the current panel to be retained to hear the broker’s expungement request. Under the new rules, that will not be allowed. Under the new rules, once a customer arbitration settles, that’s it. The Panel will be released and the case closed. The broker will then have two years to file a whole new arbitration seeking expungement (“straight-in request”), assuming he/she requested expungement in the customer arbitration – and that expungement case will be appointed three arbitrators from the special roster. “FINRA believes this is the right approach because the panel selected by the parties in the customer arbitration has not heard the full merits of the case and, therefore, may not being to bear any special insights in determining whether to recommend the expungement.” (p.31). That reasoning makes no sense. A brand new arbitration panel will certainly know less about the customer’s case than the customer arbitration panel, and the customer arbitration panel may actually know a lot about the customer’s case, depending on whether substantial motions were heard.

It is painfully clear that FINRA does not want the parties to have any input whatsoever into who will hear their expungement claims. FINRA admits this. They state that the purpose for this rule change is to “decrease[] the extent to which an associated person and member firm with which the associated person was associated at the time the customer dispute arose may together select arbitrators who are more likely to recommend expungement.” (p.89). FINRA fully intends for this rule change to “decrease the likelihood that associated persons are able to obtain an award recommending expungement.” (p.90).

FINRA also intends for this rule change to cause fewer customer arbitrations to settle. They have stated that the additional costs of forcing a broker to file a “straight-in” arbitration seeking expungement after the customer case settles “may reduce the likelihood that the parties settle a customer arbitration.” FINRA also probably hopes that by making it harder to obtain expungement after a case settles (because random arbitrators are appointed rather than ones selected by the parties), fewer customer cases will settle (if the customer case has a decent arbitration panel, the broker may just stick it out and try his luck taking the case to a hearing on liability and expungement). In fact, I would not be surprised if in another 20 years, FINRA completely disallows expungement of any claims that settle. Rest assured, this is not the last time when we will say “I remember the good old days” with regards to expungement rules.

[1] Under the new rules, if the broker is named as a respondent in the customer arbitration, the broker will be required to seek expungement in the course of that arbitration, or risk forfeiting the opportunity to request it. In a case where only the broker-dealer is named, the broker-dealer may seek expungement on behalf of the broker, if the broker agrees.