FINRA Proposal Addresses Risks to Seniors (FINRA Reg. Notice 15-37)
FINRA proposed rules intended to address the financial exploitation of seniors and other vulnerable adults. The proposal would (i) require firms to obtain the name of a "trusted contact person" for a "non-institutional customer's account" and (ii) provide a "safe harbor" (of a very limited sort) for a broker-dealer that determines to withhold a customer's assets where the broker-dealer believes that there is a cause for concern as to financial exploitation.
Specifically, FINRA proposed:
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amendments to FINRA Rule 4512 ("Customer Account Information") to require firms to make reasonable efforts to obtain the name of and contact information for a trusted contact person for a customer's account; and
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the adoption of new FINRA Rule 2165 ("Financial Exploitation of Specified Adults") to permit qualified persons of firms to place temporary holds on disbursements of funds or securities from the accounts of a "specified adult" where there is a reasonable belief of "financial exploitation" of these customers.
For the purposes of the proposed rules, the following definitions would apply:
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The term "non-institutional customer's account" would not be limited to the account of natural persons. Generally, any account with less than $50 million that is not managed by an SEC-registered or state-registered investment adviser, or that does not belong to certain regulated institutions, would be subject to the rule. (See the definition in paragraph (c) of FINRA Rule 4512 ("Customer Account Information").)
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The term "specified adult" would be a natural person who is either (i) at least 65 or (ii) someone the firm reasonably believes has a mental or physical impairment that renders the individual unable to protect his or her own interests.
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The term "Qualified Person" would mean an associated person of a member who serves in a supervisory, compliance or legal capacity that is reasonably related to the account of the relevant specified adult.
Comments must be submitted by November 30, 2015.
Lofchie Comment: The nation faces a problem as to how to protect members of an aging population, as well as other vulnerable individuals, from becoming victims of abuse or financial crimes. The proposed rule is well-intended. Nevertheless, the proposal is wholly inappropriate for the issue that it hopes to address. As FINRA itself concedes, there is no legal basis for a firm to withhold disbursements to a customer with respect to the customer's own property. That is to say, FINRA purports to provide a "safe harbor" for a firm to engage in activity that is fundamentally illegal; i.e., to withhold assets that belong to a customer who has directed that the assets be sent elsewhere.
The Notice contains the following language: "In addition, there may be significant impacts with respect to legal risks and attendant costs to firms that choose to rely on the proposed rule in placing temporary holds on disbursements, although the direction of the impact is ambiguous. The proposed rules may provide some legal protection to firms if they are sued for withholding disbursements where there is a reasonable belief of financial exploitation. At the same time, while proposed Rule 2165 creates no obligation to withhold disbursement where financial exploitation may be occurring or to refrain from opening or maintaining an account where no trusted contact is identified, this proposed rule might serve as a rationale for a private action against firms that do not withhold disbursements when there is a reasonable belief of financial exploitation. To reduce the latter risk, proposed Rule 2165 would explicitly state that it provides firms with a safe harbor when they exercise discretion in placing temporary holds on disbursements of funds or securities, but would not require firms to place such holds." (Emphasis added.)
As FINRA admitted, this "safe harbor" would put firms at very significant risk of liability. What happens when a firm withholds payment of money owed to a customer that causes a customer to fail to make payment on a mortgage closing or to make payment on a contract with the result that the customer defaults? Further, it is not clear whether the behavior FINRA supports would be in violation of the Securities Exchange Act or even, possibly, criminal. See, e.g., the definition of "free credit balance" in Securities Exchange Act Rule 15c3-3 ("Customer Protection - Reserves and Custody of Protection"), as "liabilities of a broker or dealer to customers which are subject to immediate cash payment to customers on demand . . ."
If FINRA believes that broker-dealers should truly be given the responsibility provided in proposed Rule 2165, then FINRA should take the proposal to Congress, which would have the authority to provide firms with a genuine legal safe harbor for withholding assets belonging to others. Short of that, FINRA should not put itself in the improper business of "making law" or empowering member firms to ignore actual law governing the ownership of property.
See: FINRA Regulatory Notice 15-37: Financial Exploitation of Seniors and Other Vulnerable Adults; FINRA Press Release.
Related news: FINRA Focuses on Seniors, AML and Municipal Advisors in Fourth Podcast on Priorities (with Lofchie Comment) (July 27, 2015).