Important Factors Considered in Eligibility Proceedings for Statutory Disqualification from a Felony Conviction

Article III, Section 3 of FINRA’s By-Laws provides that no person shall be associated with a member, continue to be associated with a member, or transfer association to another member if such person is or becomes subject to disqualification. Section 15A(g)(2) of the Securities Exchange Act of 1934 (“Exchange Act”) sets forth FINRA’s authority to deny the registration and/or membership of disqualified persons.  Section 3(a)(39) of the Exchange Act defines various ways an associated person or member can become disqualified. 

This article focuses of disqualification of an associated person due to the conviction of a felony.  Disqualification of this sort remains in force for ten years.  Thus, a Member who wishes to employ or contract a disqualified person must file a Membership Continuance Application (“MC-400”) with FINRA Registration and Disclosure (“RAD”).  FINRA Rules 9520-27 set forth procedures for a member to sponsor the proposed association of a person subject to disqualification.  These actions are referred to as “Eligibility Proceedings.”

When the conviction of a felony renders a registered person statutorily disqualified, the standard in determining whether the NAC should approve a MC-400 is “whether the particular felony at issue, examined in light of the circumstances related to the felony, and other relevant facts and circumstances, creates an unreasonable risk of harm to the market or investors.”  See Frank Kufrovich, 55 S.E.C. 616, 625-26 (2002)(emphasis added).  The sponsoring firm has the burden of demonstrating that the proposed association of the statutorily disqualified individual is in the public interest and does not create an unreasonable risk of harm to the market or investors.  In the Matter of the Application of Gershon Tannenbaum, 50 S.E.C. 1138, 1140 (1992).  

A review of numerous prior Statutory Disqualification decisions indicates that the following factors are typically considered:

-          the nature and gravity of the disqualifying event;
-          the length of time that has elapsed since the disqualifying event;
-          whether any intervening misconduct has occurred;
-          any other mitigating or aggravating circumstances that may exist;
-          the precise nature of the securities-related activities proposed in the application; and
-          the disciplinary history and industry experience of both the member firm and the person proposed by the firm to serve as the responsible supervisor of the disqualified person.

These proceedings should not be taken lightly.  It is especially important that the MC-400 application detail the terms and conditions of the proposed employment and contain a strong plan of supervision.  In many of the cases in which the MC-400 application was denied, the NAC cited one of the reasons for denial as being its concern for either the proposed plan of supervision, or the disciplinary history of the sponsoring firm and/or proposed supervisor.  See Continued Ass’n of X, SD09003 (2009)(denied application where plan of supervision lacked sufficient detail); Continued Ass’n of X, SD08007 (2008)(denied application where proposed supervisor directly profited from X’s production and where another employee was responsible for overseeing X’s daily trades); Continued Ass’n of X, SD06012 (2006)(denied application where proposed supervisor was subject to several customer complaints); Continued Ass’n of X, SD04012 (2004)(denied application where sponsoring firm had significant disciplinary and regulatory history and history of customer arbitrations and where plan was not specifically tailored to the type of business X planned to conduct); Continued Ass’n of X, SD02002 (2002)(denied application where proposed supervisor was in another state and hundreds of miles away from X where X operated out of his home with no employees on site).  Thus, the sponsoring firm’s ability to supervise the disqualified person is an extremely important factor in Eligibility Proceedings.    

The attorneys at Cosgrove Law Group, LLC have substantial experience in representing Members and associated persons in Eligibility Proceedings.  We have also thoroughly analyzed other Statutory Disqualification opinions where the associated person has been convicted of a felony.  Thus, we are familiar with the factors that the NAC weighs in making a determination as well as the necessary elements that should be contained in a plan of supervision.