Continuing the series on dealing with a FINRA disciplinary action, this post provides an overview of the types of disciplinary action (formal vs. informal) taken by the regulator.
After the examiners have completed their exam, a supervisor of examiners reviews the exam report and makes a recommendation to do one of three things: to file the exam without action, to pursue informal action, or to pursue formal disciplinary action.
The first option is the most favorable to a firm or a broker: the exam is filed without action, meaning that the FINRA staff either does not believe that there was a rule violation that warrants disciplinary action, or, alternatively, that they don't have and can't obtain sufficient evidence to justify taking action. The exam is then closed. Many times, but not always, the examiner staff will send a letter to the firm or the broker advising that the exam has been closed, that they are not taking any action, but that, should new information come to light, they may re-open their file and review the matter again.
Informal Actions. If the supervisor, and a district or department manager believe that the evidence gathered during the exam shows that there was a violation for which an action is appropriate, they may choose, for more minor issues, to handle it informally. An informal action is one that is not reported on a firm's Form BD or an individual's Form U4. Rather, it is a private admonishment that the FINRA staff believes that there was a violation essentially coupled with their directive to not let such misconduct occur again. The informal action is typically handled either through a letter of caution (a written letter from the FINRA staff) or a compliance conference, where the firm and/or broker meets with the FINRA staff in person to be told not to do it again. Then, in both instances, FINRA requires the firm and/or broker to submit a written statement acknowledging that they've been advised about the alleged violation and that the firm and/or broker will endeavor to not let such conduct happen again. These informal disciplinary actions, while not disclosable and not reported to the public, will certainly be considered by the FINRA staff in the event that the same or similar misconduct occurs in the future.
Formal Action. If the examiner supervisor and manager believe that something beyond informal action is warranted for a perceived violation, they will recommend that formal disciplinary action be taken. [Sanctions in formal cases may include a censure, a fine, a suspension from the industry, a suspension from doing certain types of business (typically imposed only against firms), a bar from the industry, and an order to pay restitution to customers. On occasion, firms may be required to hire an independent consultation to review certain of its operations and to follow any guidance given by the consultant to strengthen the firm's compliance programs.] The formal action referral is then presented to the Enforcement department, or to the legal section of the Market Regulation department (depending on what type of examination was conducted and by what team of examiners). If these folks believe, based upon a review of the file and of the evidence, that formal action is appropriate and would be justified based on the evidence obtained, then they will seek to either settle the matter or to file a formal disciplinary complaint.
Often, an attorney with the Enforcement department will send a "Wells" letter to the potential respondent, informing the firm or broker that FINRA intends to initiate a disciplinary case for a violation of rules disclosed in the letter. This wells letter provides the firm or broker the opportunity to provide a written response explaining why an action should not be initiated. The so-called "Wells" response is essentially the potential respondent's last-ditch effort to provide FINRA with any new information or evidence that would demonstrate that an action is not appropriate. At the same time, these letters also typically inform the broker or firm that if they desire, they can contact Enforcement to discuss settling the matter. Any "wells" submission given FINRA by the potential respondent may be used against that firm or broker. Because of this, the decision on whether to file a "Wells" submission is one that should be made by the firm or broker in consultation with experienced counsel.
Most cases are settled through an AWC, a letter of acceptance, waiver, and consent. By signing an AWC, the firm or broker gives up its right to go to a hearing on the charges, as well as certain other rights, and agrees - without admitting or denying anything - to the regulator making findings of certain facts and of violations of rules, as well as to the imposition of sanctions against the respondent. It is important to understand that AWCs are typically negotiated settlements and that the language and the sanctions imposed are negotiated by FINRA and the respondent. If the two sides can't reach an agreement on these things, then Enforcement will likely move on and file a formal complaint. Sometimes, it may not be advisable to settle through an AWC because of collateral issues that might be involved (think investor arbitrations, other civil or criminal exposure, or statutory disqualification issues (i.e. findings of willful misconduct relating to U4 violations). Because of the seriousness of the disciplinary action, as well as of the complications that might exist, it is always advisable for a firm or broker to have engage experienced counsel when seeking to resolve a FINRA examination or disciplinary case.
The formal complaint process involves Enforcement (or Market Regulation) filing a complaint with FINRA's Office of Hearing Officers. The complaint sets forth the facts and circumstances that constituting the alleged violation of rules, and specifically identifies the rules allegedly violated by the respondent. The respondent has the opportunity to file an answer to the complaint, to admit or deny the charges and the factual allegations, and to request a hearing on the matter before a hearing panel. The hearing process is less formal than a court case, but is still certainly litigation, with high stakes in many cases.
In future posts in this series, I'll discuss this formal complaint litigation process, as well as the issue of sanctions in FINRA cases, so stay tuned.
