Compliance Matters: Prior Disclosure = Future Exposure?

by Wilson Elser

Broker and broker-dealer information is generally a few keystrokes or mouse-clicks away for anyone with an Internet connection, and regulators are working to shorten those paths. The information available is just as expansive as it is accessible, and regulators want to expand it further.

Firms should always keep an eye out for changes proposed by FINRA and the SEC because they usually have corresponding compliance implications. Accessing and expanding brokers’ disclosures should be treated just that way, and firms should consider whether their compliance models are appropriately designed to meet these changes and avoid unnecessary or additional liability.

Recently, FINRA proposed a rule that would require brokers and broker-dealers to provide investors direct access to FINRA’s BrokerCheck system, an online tool that provides investors with relevant information about firms and their registered representatives, including customer disputes, employment history and firm financial matters. The new rule would require firms to place hyperlinks to FINRA’s BrokerCheck system on their websites and social media sites.

Firms should carefully consider the compliance impact of this proposal, and look at this as an opportunity to review their current hiring criteria. While firms need to know the background of a potential representative, providing investors easy access to BrokerCheck signals to investors that the firm is fully aware of the broker’s history. Firms should therefore look to strengthen their hiring practices and avoid future customer disputes that may, in part, rely on a representative’s negative disclosures available on BrokerCheck.

During the hiring process, firms should properly flag and address potentially negative disclosures. For example, a firm’s hiring practices in its written supervisory procedures (WSP) should correspond to its hiring committee’s criteria. Any changes in the hiring committee process should be reflected in the WSP and vice versa. Firms need to make sure that procedures are in place and that they are consistently followed and properly documented. Implementing and strictly following hiring procedures may reduce the likelihood that a firm will later be exposed to liability due to a broker’s problematic past, which seemed not to be problematic during the hiring process.

In addition to expanding access to FINRA’s BrokerCheck system, the SEC and FINRA are evaluating whether to require additional disclosures to these reports, although the regulators seem to take different points of view. For years, the SEC has allowed brokers and firms to accept settlement agreements without admitting wrongdoing; however, the SEC has recently considered requiring brokers and broker-dealers to admit to wrongdoing in these settlement actions. These admissions would be reflected on their respective disclosure reports. FINRA, however, has not shown interest in requesting admissions in settlement resolutions.

With these potential disclosure changes, firms should once again take an opportunity to review the hiring and supervisory procedures of their registered representatives. A future SEC settlement action may reveal a negative disclosure that admits wrongdoing. Therefore, in addition to aligning their WSP with their hiring committee’s criteria, firms should also thoroughly document their hiring and supervisory decisions. Stronger documentation may be useful if a firm later has to justify its decision to hire a broker.

While these are only two examples of potential changes that will affect compliance matters, there will likely be more to come. Regulators are under increasing public pressure to evaluate their rules and provide more robust consumer protection. Regulatory changes will inevitably have an impact on how firms operate and will require greater flexibility to change accordingly.


DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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