Alert
Financial Institutions Law Alert
05.14.2020

In a recent decision, California’s Fourth District Court of Appeal determined that an employer’s FINRA Form U5 disclosures providing the reason for an employee’s termination was not protected by privilege, because the employer did not limit its U5 responses to securities-related information. 

The decision could give rise to more Form U5 defamation claims based on the theory that the challenged statements concerned non-securities related activities, as those activities fall outside the scope of FINRA’s regulation.

Background:

Plaintiff Michael Tilkey was a FINRA-licensed insurance broker-dealer employed with Allstate Insurance Co.  As reported by the court, Tilkey got into an argument with his girlfriend while visiting her home in Arizona.  The police were called, and Tilkey was arrested for possession of drug paraphernalia and disorderly conduct.  A domestic violence label was attached to the disorderly conduct charge. 

Tilkey pleaded guilty to the disorderly conduct charge alone.  After Tilkey completed a domestic nonviolence diversion program, the disorderly conduct charge was dismissed.

Prior to the dismissal of the charge, Allstate terminated his employment based on his arrest for a domestic violence offense and participation in the diversion program.  Allstate informed Tilkey it was discharging him for threatening behavior and/or acts of physical harm or violence to another person.

Form U5 Disclosures:

Following the termination, Allstate filed a Form U5 with FINRA which reported Tilkey’s termination reason as follows: “Termination of employment by parent property and casualty insurance company after allegations of engaging in behaviors that are in violation of company policy, specifically, engaging in threatening behavior and/or acts of physical harm or violence to any person, regardless of whether he/she is employed by Allstate. Not securities related.”

Tilkey’s Claims Against Allstate:

Tilkey sued Allstate for wrongful termination in violation of California Labor Code Section 432.7 and compelled self-published defamation based on the Form U5 disclosures.

The case proceeded to a jury trial in the Superior Court of San Diego County, California.  The jury returned a verdict in Tilkey's favor on all causes of action and awarded him over $2.5 million in compensatory damages and over $15 million in punitive damages.

Appellate Decision:

Allstate appealed the verdict on several grounds to the California’s Fourth District Court of Appeal.  In its April 21, 2020 decision, the Court of Appeal reversed the wrongful termination verdict, finding that Allstate had not violated Labor Code Section 432.7 by terminating Tilkey’s employment. 

However, the court upheld the jury’s verdict on the defamation claim.  The court first determined that compelled self-published defamation was a viable theory, and that substantial evidence existed to support the verdict that the U5 statement was not substantially true.

The court dismissed Allstate’s argument that the defamation claim failed because the U5 disclosures were protected by an absolute privilege.  Allstate argued that because FINRA required the Firm to provide information regarding Tilkey’s termination on the Form U5, the statements made therein were protected as privileged. 

The court rejected this argument and found that the privilege did not apply because Allstate had not limited the U5 disclosures to fraud- and securities-related information.  The court noted that under Section 7 of the Form U5, employers are required to provide disclosures based on a limited list of circumstances regarding the reason for the employee’s termination, including the employee being convicted of or pleading guilty to a crime “related to investments, fraud, false statements, bribery, perjury, forgery, counterfeiting, extortion, or wrongful taking of property.”  The court noted that “These questions make clear that FINRA seeks termination information that allows it to assess whether the employee's conduct lacked compliance with regulatory requirements in the securities arena. FINRA does not ask for information about nonsecurities-related activities because that information falls outside its scope of regulation.” (emphasis added).

The court concluded that “the absolute privilege extends to communications required by FINRA, i.e., fraud- and securities-related information.  However, the communication of Tilkey's termination here did not regard improper securities-related conduct, and Allstate did not limit its responses to fraud- and securities-related information.” (emphasis added).  The Form U5 statement “did not contain allegations of improper securities conduct, theft, or allegations or charges of fraud or dishonesty. It was not offered in anticipation of or to initiate an investigation; nor was it offered in the course of any other official proceeding.   Thus, the absolute privilege does not apply.”

In a footnote, the court offered further guidance to explain why it believed the privilege did not apply to Allstate’s Form U5 statements: “Had Allstate instead eliminated the specifics in its statement, privilege may have attached because Allstate was required to report the termination. For example, it could have supplied the following statement: ‘Termination of employment by parent property and casualty insurance company after allegations of engaging in behaviors that are in violation of company policy. Not securities related.’”  

Takeaway:

Employers should consider taking additional steps to ensure that Form U5 disclosures focus on information specifically requested by FINRA regarding termination decisions, such as whether the employee violated investment-related laws or regulations, or was convicted or pleaded guilty to crimes related to investments or fraud.  The decision could give rise to more Form U5 defamation claims based on the theory that the challenged statements fall outside the scope of FINRA’s regulation.

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