SEC Weighs in on FINRA’s Proposed Rule Amendments Pertaining to Expungement Procedures

In response to FINRA’s Regulatory Notice 17-42, the Securities and Exchange Commission published a letter detailing its thoughts regarding some rule amendments FINRA proposed relating to its expungement procedures.  According to FINRA, “expungement of customer dispute information is an extraordinary measure, but it may be appropriate in certain circumstances.”  Nevertheless, critics of expungement have voiced their concern that FINRA’s current procedures for expungement may not be adequate.  In response, FINRA proposed the amendments to improve procedures involving expungement requests.

The proposed amendments include changes to FINRA Rule 12805, which outlines the conditions that arbitrators must satisfy prior to granting an expungement request.  Rule 12805 does not currently elaborate on how or when expungement relief may be requested during an underlying dispute with a customer.  The amendments would require a FINRA associated person who is named as a party in the underlying customer case to seek expungement while the customer case is ongoing.  If the associated person files an expungement request, he or she would be obligated to file either a $1,425 filing fee or the applicable filing fee provided in FINRA Rule 12900(a)(1), whichever is greater.

If the underlying customer case ends with an award, the arbitration panel would need to reach a decision regarding the expungement request in the course of the underlying customer case.  The panel would also need to reach a unanimous decision to grant the expungement request.  If the underlying customer case does not end with an award, such as when the parties reach a settlement, the associated person would be allowed to file the expungement request as a separate claim against the firm he or she was associated with in the course of the customer dispute.  The associated person would be obligated to file the expungement request within one year after the underlying customer case has ended.

The proposed amendments would also establish official procedures for a party in a customer dispute to seek expungement on behalf of an unnamed person.  An “unnamed person” is defined as “an associated person or formerly associated person who is identified in Forms U4 or U5 as having been the subject of an investment-related customer-initiated arbitration that alleged that he or she was involved in one or more sales practice violations, but who was not named as a respondent in the arbitration.”  The unnamed person would need to serve on each party in the customer dispute, at least 60 days prior to the first scheduled hearing session, a Form Requesting Expungement Relief on Behalf of an Unnamed Person signed by the unnamed person and a statement requesting expungement relief.  If the underlying customer dispute does not end with an award, such as when the parties reach a settlement, FINRA would be obligated to inform the unnamed person in writing that the case has ended, which would start a one-year period during which the unnamed person can request expungement in a separate proceeding.  If a party in the underlying customer dispute does not seek expungement on behalf of the unnamed person, the unnamed person can file an expungement request within one year after the customer dispute ends.

The proposed amendments would also make changes as to how an arbitration panel considering an expungement request can conduct a recorded hearing session.  The amendments would require the associated person who is requesting expungement to attend the hearing either in person or by video conference.  The amendments would eliminate the option of attending the hearing by telephone.

The amendments would also establish qualifications for arbitrators who hear expungement requests not made in the course of an underlying customer dispute.  In order to hear such stand-alone requests, an arbitrator would need to have taken enhanced expungement training, be admitted as a licensed attorney in at least one jurisdiction, and have five years of experience in either litigation, federal or state securities regulation, administrative law, work as a securities regulator, or work as a judge.

The proposed amendments would also provide guidelines in regards to expungement requests in simplified arbitrations.  A simplified arbitration is an arbitration that pertains to a claim of $50,000 or less, and it is presided over by one arbitrator without a hearing.  Under the proposed amendments, an associated person would need to file an expungement request against the firm he or she was associated with in the course of the underlying claim in the simplified arbitration.  The request can also only be made after the simplified arbitration has concluded.

In its letter to FINRA, the SEC remarks that it generally supports FINRA’s proposed amendments to its expungement procedures.  However, the SEC also expressed some concerns in the letter.  For example, the SEC voiced concern that brokers seeking expungement could opt to bring their cases directly to court in response to the proposed rules’ heightened expungement requirements.  The SEC advised FINRA to “consider ways that its rules may discourage brokers from sidestepping its dispute resolution forum by filing requests for expungement directly with a court.”  The SEC also requested that FINRA provide more clarity as to the meaning of the terms “investor protection” and regulatory value” to ensure consistent results among arbitrators.

Parker MacIntyre provides legal and compliance services to investment advisers, broker-dealers, registered representatives, hedge funds, and issuers of securities, among others. Our regulatory practice group assists financial service providers with complex issues that arise in the course of their business, including compliance with federal and state laws and rules. Please visit our website for more information.

Contact Information