You Should Understand The Difference Between Violating A Firm Policy And Violating A FINRA Rule . . . Even If FINRA Doesn’t

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I am writing this while flying home from my first business trip in over 15 months. I have to tell you, it is more than a bit of a strange feeling to be out and among people again. While my face is sore from wearing this N95 mask nearly non-stop for three days, my hands are dry and rough from all the washing, and I basically hid in my hotel room if I didn’t have to be somewhere, I think this still marked the start of something that I recognize as sort-of normal. Cheers to that!

FINRA, of course, has lots, and lots, of rules. Heck, it has rules about making rules. The things that RRs can and cannot do per those rules are strictly proscribed, mostly in great detail. Things that ordinary people can do without a second thought are frequently off-limits for RRs. Yet, notwithstanding the sizable breadth of the gamut of restrictions that FINRA has erected, sometimes, remarkably, BDs feel that FINRA hasn’t gone far enough, and so create their own rules that go above and beyond anything that FINRA ever contemplated. In other words, BDs are free to create policies that are more restrictive than FINRA rules. Like this common scenario: FINRA Rule 3240 prohibits RRs from borrowing money from or lending money to their brokerage customers, subject to certain exceptions, like if the deal involves a family member. Many BDs, however, prefer simply to disallow any loans, period, since that’s much easier to police.

The issues that this situation tees up are these: Does FINRA care if an RR violates a firm policy through conduct that does not violate any specific FINRA rule? And, if it does, should it?

The answer to the first question seems to be “it depends on the policy.” Take an obvious example, like, I don’t know, dress code. FINRA undoubtedly would not and does not care if an RR wore flip-flops to the office, contrary to firm policy. But, if the policy touches the relationship with customers, then FINRA does seem to care. I am just not sure why, or if it is appropriate.

I started thinking about this a few months ago, when I blogged about the SEC’s decision in Tysk. Among the rulings the SEC made there in its review of the FINRA decision was a finding that FINRA failed to carry its burden of proof that Mr. Tysk violated Rule 2010 strictly by virtue of the fact that he had violated his firm’s policy regarding note-taking. According to the SEC, “[a] violation of a firm policy does not necessarily mean that a registered representative has also violated” any FINRA rules. Rather, FINRA must independently establish that the underlying conduct somehow violated FINRA Rule 2010 because it was unethical. I characterized that ruling as “huge,” and I stick by that.

So, with that background in mind, I was really intrigued when I read this recent AWC regarding a guy named Gary Wells. According to the AWC and BrokerCheck, Mr. Wells entered the securities industry in 1983 – the same year I started practicing law! – and stayed for 37 years. The AWC says he had no relevant disciplinary history; indeed, it appears to me that the only disclosures he has are all related to the same events that led both to the AWC and his dismissal from his last job (which I will get to in a second). Not a single customer complaint in almost four decades. That’s pretty dang good (even though FINRA accords no “credit” for it, because FINRA says you don’t get credit simply for doing what you’re supposed to do).

So what happened? Well, Mr. Wells did not violate any specific FINRA rule.[1] Rather, like Mr. Tysk, he violated one of his firm’s policies. In his case, Mr. Wells had the temerity to provide such good service to one of his customers that the customer decided to leave something to Mr. Wells in her will. The AWC recites that this “long-term customer” – FINRA’s words, not mine – followed Mr. Wells to Wells Fargo Advisors in 2008 from a prior firm. At some point prior to 2012, the customer named Mr. Wells as a beneficiary and fiduciary in her will. In 2012, as is so often the case in situations like this, not the customer but, rather, someone from the customer’s family, her brother, specifically – perhaps someone who himself stood to inherit from the customer? – filed a complaint with WFA that his sister had named Wells in a fiduciary capacity and as a beneficiary.[2] The basis for the complaint was not indicated. Importantly, however, there is zero indication that Mr. Wells had exerted any undue influence over his elderly customer. Indeed, if he had done that, you could bet the farm that FINRA would’ve included that in the AWC (and that the customer’s brother would’ve mentioned it).

So, what we have is a “long-term” customer who decided, on her own, to leave a legacy to Mr. Wells, but, in so doing, managed to piss off her brother. Perhaps the story would have just ended there, but WFA had a policy – a policy that went beyond any FINRA rule – that “prohibited acceptance of a bequest or a fiduciary appointment from a nonfamily member in the customer’s will.” In light of that policy, FA instructed Mr. Wells to have himself removed from the fiduciary and beneficiary designations and, if his long-term customer refused, he should decline the appointments.

On December 4, 2014, following the death of the customer at age 92, Mr. Wells received a bequest in the form of a wire transfer from the customer’s estate to his WFA brokerage account. WFA reversed the transfer and told Mr. Wells the firm would not permit him to receive the funds because they represented a bequest from a non-family member. After WFA informed him that he could not accept such funds, Mr. Wells then proceeded to accept three separate bequests from the customer’s estate, in accordance with her will. Finally, after receiving the money, Mr. Wells “concealed the fact that he was the beneficiary and had received bequests from the customer’s estate by making false statements on [a] . . . compliance questionnaire.”

That’s the entire case. No violation of any specific FINRA rule, but, because Mr. Wells violated a firm policy that FINRA says in the AWC was “designed to protect customers,” FINRA deemed this to be a violation of Rule 2010, the catchall rule prohibiting unethical conduct.

I am not sure why FINRA bothered with this one. In Reg Notice 20-38, in which FINRA announced its new Rule 3241, it explicitly gave BDs the right to approve bequests from customers, particularly “long-term” customers and those customers whose bequests were not accompanied by “any red flags of improper conduct by the registered person,” such as when “the customer has a mental or physical impairment that renders the customer unable to protect his or her own interests,” or “any indicia of improper activity or conduct with respect to the customer or the customer’s account (e.g., excessive trading),” or “any indicia of customer vulnerability or undue influence of the registered person over the customer.” Exactly NONE of those issues existed here. To the contrary, there is no evidence of any red flags at all. So, even though Rule 3241 was nothing more than a fantasy that FINRA harbored at the time of Mr. Wells’ conduct, and even though under that rule the facts suggest that Mr. Wells would have been permitted to inherit from his long-term customer had he asked, for the simple fact that WFA had an absolute prohibition on inheriting from customers, FINRA brought this case.

I simply do not see why, in circumstances like this, FINRA takes it upon itself to enforce BD policies. You can make a decent argument that WFA’s policy does exist to protect customers; but that does not mean that FINRA should otherwise ignore the pertinent facts, which, as FINRA laid them out in the AWC, fail to tee up any customer protection/sales practice issues. As it has done hundreds of times before, all FINRA did in the Wells case was prove that he violated a firm policy, not that he acted unethically. The Tysk case states that this is not enough for FINRA to carry its burden of proof on a 2010 violation, and I agree. FINRA needs to do more, and if it can’t, then cases like this either should no longer be brought, or hearing panels should start dismissing them.

[1] While FINRA currently has a rule – Rule 3241 – that prohibits an RR from inheriting from a non-immediate-family customer absent approval by the BD, at the time of the conduct in question, that rule was still years away from being effective.

[2] As I mentioned earlier, there are NO customer complaints reflected in Mr. Wells’ BrokerCheck report, so I don’t really know what to make of this supposed complaint from the brother. Was it not reported because it’s not from a customer? Was it not reported because it does not relate to sales practices? I don’t know, but it is a bit puzzling that the AWC not only calls this a “complaint,” given that there is no record that WFA bothered to report it on Mr. Wells’ U-4, but that this “complaint” was enough to trigger an exam, and an eventual Enforcement case.

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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