Registered representatives terminated from broker-dealers may face several issues after the firm reports the reason for the reps’ termination on his or her Form U-5. Depending on that reason, it may be difficult for that broker to become associated with another broker-dealer or find future employment in the financial industry. As a result, terminated reps may experience financial difficulties while looking for employment. If a rep believes the reason for termination that was reported on his or her U-5 was false, that rep may consider seeking expungement, or even damages associated with the U-5 filing. This process takes time and costs money, especially if the rep engages legal counsel to assist with the arbitration. If this results in financial difficulties for the rep, the rep should consider the case of In re Jimmy W. Clark before resorting to a remedy such as bankruptcy during the pendency of the arbitration.
Clark, a broker, was terminated by Charles Schwab after it received and investigated a customer complaint that he placed unauthorized trades in their accounts. Schwab reported that reason for termination on his Form U-5. Clark instituted a FINRA arbitration proceeding against Schwab and sought both monetary damages for alleged wrongful termination and defamation and CRD expungement of the statements Schwab made on his Form U5. During the pendency of his FINRA arbitration (two years after his termination), Clark filed for bankruptcy.
Before the bankruptcy case was closed, Clark failed to disclose his bankruptcy to FINRA or Schwab and failed to include the pending claim as an asset in his bankruptcy or notify the bankruptcy trustee (“Trustee”). After Schwab discovered Clark’s bankruptcy, Clark moved to re-open his bankruptcy and allowed the Trustee to pursue the arbitration claims on behalf of the bankruptcy estate. Schwab and the Trustee settled Clark’s claims for a fraction of the alleged damages and broadly released Schwab from all claims. The $120,000 settlement was essentially enough to pay the fees of the trustee and his counsel and enable a distribution to the creditors.
Clark objected to the bankruptcy court arguing that (1) his “claim” for expungement was personal and not property of his bankruptcy estate, (2) only FINRA had authority to adjudicate and approve settlement of expungment claims, and (3) the settlement was unfair.
Expungement as Personal Property
The court rejected Clark’s argument that his claim for expungement was his personal property, finding that it was merely a remedy rather than an independent claim. In doing so, the court relied on FINRA Rule 2080 which specifically refers to expungement as “relief” and Notice to Members 04-16, which introduced Rule 2080 and advises respondents seeking expungement to request it in “his or her prayer for relief.” Clark argued that expungement is vital to the preservation of his broker’s license, which is personal, non-transferable, and not part of the property of the Estate. The Court conceded that point, but found that the settlement did not concern Clark’s license. The Court noted that neither Schwab nor the Trustee were trying to take away Clark’s license. They were simply settling a cause of action which might have an impact on the debtor’s ability to procure future employment.
FINRA’s Authority over the Settlement of Expungement Claims
The court also rejected Clark’s claim that FINRA has exclusive jurisdiction over the settlement of expungement claims because the bankruptcy court was not ordering expungement. The court found that nothing in the FINRA rules precludes parties from settling a dispute and the settlement between Schwab and the Trustee was consistent with the FINRA Rules. FINRA’s approval is required only if settlement of a FINRA action includes the affirmative expungement of the Form U-5.
Fairness of the Settlement
The court noted that when a bankruptcy court considers approval of a settlement, it evaluates: (a) the probability of success in the litigation; (b) the difficulties, if any, to be encountered in collection; (c) the complexity of the litigation involved, and the expense, inconvenience and delay necessarily attending it; and (d) the paramount interest of the creditors and deference to their reasonable views on the settlement. In considering these factors, the court found that while the settlement might not always be in the best interest of a debtor, it’s the interest of the creditors that takes precedent.
Thus, a rep experiencing financial difficulties during the pendency of an arbitration that includes a request for expungement should consider the consequences of filing for bankruptcy.