Financial Institutions Law Alert

On July 20, 2021, SIFMA hosted a panel discussing key legal and regulatory issues for private client firms at SIFMA’s 2021 C&L Virtual Forum. Several key subjects were discussed by the panel, including: (1) FINRA’s 2021 priorities and areas of focus for private client firms; (2) FINRA’s continued regulatory focus on complex products and best practices for risk management; and (3) FINRA and private firms’ return to work.

FINRA 2021 Priorities & Areas of Focus for Private Client Firms

Bill St. Louis, FINRA’s Senior Vice President and Firm Group Leader,  discussed both FINRA’s 2021 exam priorities with respect to Reg BI and Form CRS, as well as FINRA’s broader exam findings and priorities going forward affecting private client firms.

Reg BI Reviews & Findings. FINRA is expanding the scope and providing more comprehensive testing and review of Reg BI and Form CRS. These reviews will focus on: care obligations, disclosure reviews and conflict reviews. Specifically, cause reviews will focus on Reg BI with a particular emphasis on duty of care obligations. FINRA will continue assessing whether firms have implemented policies and procedures.

Training has been an ongoing issue, particularly with respect to insufficient or late training and a lack of mandatory training for principals or advisory analysts. FINRA also recognized that insufficient policies and procedures continue to be an issue. Some procedures fail to speak to how compliance will be achieved and/or delineate who is responsible for achieving different aspects of compliance. Additionally, procedures fail to reference FINRA Rule 2111, which still applies when Reg BI does not apply. 

Form CRS Findings. FINRA has seen many issues with the disciplinary history question. Mr. St. Louis elaborated that while the form clearly calls for a yes or no answer to the disciplinary history question, firms have been unable to resist the temptation to add color to the answer and that additional information can make the response confusing and arguably misleading. Further, failure to file or late fillings have been an issue. FINRA continues to look for prominent postings on firm websites and enforce the plain English requirement.  Separately, on July 26, the SEC charged 27 firms with Form CRS delivery lapses.[1]

FINRA 2021 Exam & Priorities Report – Areas of Focus for Private Client Firms  

Special Purpose Acquisition Companies (SPACs). Major concerns in this area include: material  misrepresentations and omissions in offering documents; conflict disposal or mitigation; and conflicts between underwriters and SPAC sponsors or management. Mr. St. Louis said that firms should consider focusing on compensation disclosures; due diligence analyses on the control person of the sponsor or affiliate; implementing adequate controls at the firm to avoid insider trading issues; and compliance with Reg BI, specifically duty of care obligations.  

Retail Options. FINRA recently issued Reg Notice 21-15, which focused on FINRA Rule 2360 and reminded firms of the Rule’s requirements. FINRA continues to examine whether and how firms are collecting and verifying the customer information required to be collected under this rule. 

Private Placements. FINRA also is examining the adequacy of due diligence and the reasonableness of investigations in this area. There have been issues with firms relying too heavily on private experience with an issuer and therefore failing to conduct adequate due diligence on an offering or failing to follow up adequately on red flags identified in third party due diligence.

5100 Series Filing Requirement. This rule governs underwriting and related compensation received by FINRA members in securities offerings. There have been ongoing issues with firm policies and procedures that are silent on this requirement. There have been issues with timely filing as well, such as firms filing as late as 6-12 months after the closing date of the offering.

Email Surveillance. FINRA examiners sometimes learn of regulatory event failures by reviewing emails. Mr. St. Louis explained that the email lexicon searches contain no “magic sauce” but rather implement common sense search terms such as “customer complaint” and detect unreported complaints and other issues. He emphasized the importance of periodically reviewing FA financial conditions, credit reports, unreported liens, bankruptcy and the like through internet searches and publicly available databases.

FINRA Rule 3241. Mr. St. Louis said that while Rule 3241 was not in the 2021 priorities report, it is on FINRA’s radar and is very important. The rule went into effect this past February and deals with FAs serving or being appointed as beneficiaries, executors, trustees, or given power of attorney for their clients. The rule advises that sales force registered people should decline such appointments unless the client is an immediate family member or they have obtained approval from their firm. Examiners are interested in how firms are addressing compliance with this new rule. For example, have they revised their procedures and are they assessing risk? FINRA is interested in firms’ processes. Reg Notice 20-08 speaks to a number of factors firms should use when considering such requests. Additionally, Mr. St. Louis offered a few tips for identifying such arrangements when the FA may not have disclosed such issues to the firm including questionnaires, e-commerce reviews, and close review of account opening documents.

Regulatory Focus on Complex Products & Best Practices for Risk Management

Recently, the SEC brought six cases involving VXX (a volatility-linked ETP) alleging that the ETPs were held longer than intended and therefore were unsuitable. Both Mr. St. Louis and defense lawyers on the panel provided insight on lessons learned from these enforcement actions as well as enforcement actions regarding other complex products like VAs and rollovers of UITs.

Mr. St. Louis explained that typically FINRA begins by asking the brokers how the product works and if they do not get adequate responses, that’s a strong sign of a potential problem.

Best practices for approving and supervising complex products include:

  • Training: Comprehensive training that includes a requirement that FAs pass certain internal examinations before they can start engaging with specific products. Management and supervisors need to be trained as well.
  • Vetting process: Make sure product committees are doing what they are designed to do. Consider using litigators or enforcement lawyers as part of the vetting process.
  • Customer requirements: Consider using eligibility requirements or concentration limits. Garner essential information about the customer.
  • Due diligence: Follow up on red flags during the due diligence process.
  • Client communications: Analyze whether there is a balance between benefits and key risks.
  • Policies & procedures: If there is a new product consider enhancing written policies and procedures or surveillance systems and whether they are sufficient to encompass the new product. Implement and test new systems
  • Look-backs. Consider periodically reviewing the kinds of customers that are buying the products, how the products have performed and any customer complaints.

FINRA & Firms: Return to the Office

FINRA is working on returning to the workplace. For exams, they will continue a mix of remote and onsite reviews as warranted. Mr. St. Louis expects more onsite reviews, depending on state and local restrictions.  Likewise, some OTRs will continue to be conducted remotely, but each situation requires a facts and circumstances analysis.

Arbitrations will likely see a major uptick in in-person arbitrations because of the back log from the pandemic. In some situations Zoom may work, but for bigger or more complicated matters, in-person arbitrations will likely be the preferred method. 

The private client firms panel was moderated by Ann Tennant, Managing Director & General Counsel of Wealth Management Morgan Stanley; the panel included: Carrie Bechtold, Managing Counsel, Wells Fargo; Andrew Sidman, Principal, Bressler, Amery, & Ross, P.C.; William St. Louis, Senior Vice President and Firm Group Leader, FINRA; and Corin R. Swift, Partner, Sidley Austin LLP.

[1] Press Release, SEC Charges 27 Financial Firms for Form CRS Filing and Delivery Failures, 2021-139 (July 26, 2021),

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