Tuesday, February 26, 2019

FINRA Continues To Investigate Expense Reports

          There are numerous examples of FINRA cracking down on expense report violations.  Following are a few of the reported cases.

In September, 2017, a former Morgan Stanley corporate stock manager accepted an industry bar over allegations that “event attendees on employee’s expense report incorrectly included one person who did not attend event.”  The employee     said she “couldn’t afford to fight her dismissal or to take the time to work with the regulator.”  “The direct cause of the bar was [her] refusal to appear for the hearing into the matter.”  (https://www.investmentnews.com/article/20170926/FREE/170929952/finra-bars-former-morgan-stanley-manager-over-expense-reports)

In late 2017, “a 21-year veteran Merrill Lynch broker managing director…accepted a one-year suspension from the securities industry and a $10,000 fine for ‘violating high standards of commercial honor by improperly using Merrill funds in connection with expense reports’”  (http://www.shufirm.com/brokerage-firms-and-finra-crack-down-on-broker-expense-account-violations)

In early 2018, a former Merrill Lynch broker was fined and suspended over a “$524 claim for mileage and dinner expenses that he said represented two meetings with prospective clients.  He subsequently admitted to the firm that he fabricated the events in order to use up, and be reimbursed for, the Business Development Account money that was deducted pretax from his compensation.”  https://advisorhub.com/finra-suspends-another-broker-over-expense-issue/

FINRA gets its authority to investigate expense report and other similar documents from Rule 8210, Provision of Information and Testimony and Inspection and Copying of Books.  “A failure to comply with an 8210 Request often results in an immediate enforcement proceeding and a permanent bar from the industry.”  (https://www.seclaw.com/finra-rule-8210-request-response/) Rule 8210 Investigations often spring from violations of Rule 2010, the catch-all, which states that “[a] member, in the conduct of its business, shall observe high standards of commercial honor and just and equitable principles of trade.” 

            Cosgrove Law Group, LLC has represented numerous individuals in their FINRA investigations.  If you are the subject of a FINRA investigation and need counsel, Cosgrove Law Group may be able to help.

Friday, February 8, 2019


           Last month a FINRA arbitration panel in Boston issued a reasoned award in an employment matter pitting a former employee against the bank.  Ironically, both the employee and the bank requested a reasoned award.  A reasoned award is pretty rare as the FINRA member almost never requests one and both sides must request the reasoned rather than typically scant and unjustified written award. 

            Beyond issuing an extremely incriminating award, the panel gave the Claimant every penny he requested - - over $1.3 million.  The Claimant was a former Senior Vice President in the bank’s regulated broker-dealer division.  The reasoned award set forth the facts that justified the award as follows:

            Claimant was responsible for the activities of approximately twenty-two sales representatives who, among other things, sold and recommended the sale of regulated securities products.  Within one month to six weeks after commencing his employment with Respondent Santander, Claimant became aware that one of the sales representatives reporting to him did not have the appropriate licensure to recommend and sell products in that the particular representative had repeatedly failed the Series 65/66 examination and had, in fact, ceased taking it.  That person is referred to as “employee”.  At the time Claimant discovered this, the employee had a book of business of approximately $50 million, approximately 35% of which was products requiring the Series 65/66 license. 

            Claimant reported this matter to the compensation staff at Santander inquiring as to why it was the employee was being paid commissions on the sale of products requiring the Series 65/55 license when he did not have one. 

            Claimant was told that the employee was one of the approximately nineteen individuals in Respondent Santander’s employment who were “grandfathered” under an unidentified loophole in Massachusetts law which allowed unlicensed individuals to sell managed products.  Respondent Santander’s compensation staff agreed the “loophole” was no longer applicable and that Respondent Santander had to do something about the issue. Respondent Santander never provided any documentation of the “loophole” or any indication as to what period of time that “loophole” would have provided authority for unlicensed individuals to sell managed products.  The employee was employed by Respondent Santander since 2012. 

            Respondent Santander had created and continued to maintain a series of internal “partnerships” where a licensed individual recorded transactions in products requiring the Series 65/66 license for the customers of unlicensed individuals in order to ensure that the transactions would occur and that any automated reporting system to prevent transactions in products requiring the Series 65/66 license by unlicensed individuals would not be triggered.  The employee’s “partner” was a regulated individual who is still employed by Respondent Santander. 

            The “partnerships” and the circumvention of automated exception monitoring in the regulated product trading software was augmented by Respondent Santander’s maintenance of a manual system of splitting commissions on regulated product sales where unlicensed individuals were involved in the transactions.  In the particular “partnership” between the employee his partner, commissions on managed product transactions were manually split 50/50 between the two of them by Respondent Santander. 

            Claimant followed up with Respondent Santander’s management and compliance staff and the employee was a subject of monthly conversations with the compliance department.  As a result, just before Christmas 2014 Respondent Santander ended the practice of manually splitting the commissions on managed product transactions the employee was involved in.

            Despite the termination of the payment of commissions to the employee on managed product transactions, his customers were never advised and he continued to counsel customers on transactions requiring the Series 65/66 license through the end of his association with Respondent Santander. 

            For several months beginning in November 2014 there was a series of meetings, telephone conference calls and electronic mail communications regarding the employee’s attitude and performance.  In spite of months of communications including learning that the employee had posted pictures on the Internet of him posing in aggressive stances with automated weapons, Respondent Santander did nothing but record copious notes of these issues to no avail.

            Finally, the Customer Complaint & Disciplinary Committee determined in an August 2015 meeting that for this and a series of other reasons, the employee’s employment be terminated. Meanwhile, Claimant continued to discuss the fact that the employee maintained a book of business including transactions in managed products and that his customers were unaware they were being counseled by an unlicensed person.

            On September 21, 2015, nearly 11 months after conversations about the employee’s performance issues commenced and after a meeting where the termination decision arrived at by the Customer Complaint & Disciplinary Committee in August was to be delivered to the employee, the meeting was cancelled by Respondent Santander.  The employee was instead sent a letter by Respondent Santander indicating that his failure to report to work since September 2, 2015 and his failure to log into his computer and any of the “securities systems” since July 9, 2015 was considered to be job abandonment and a voluntary resignation of employment.  This determination allowed Respondent Santander to report the employee’s separation from Respondent Santander on the U-5 as a resignation to FINRA and his customers thus avoiding any implication arising from his lack of licensure.[1]

            On September 23, 2015, Claimant was called in a meeting at which his employment was terminated without prior notice, warning or any explanation.  No letter stating the reasons for Claimant’s termination was provided.  And yet, Respondent Santander’s disciplinary policy contains five potential steps of warnings, notices and progressive discipline.  With regard to the employee all of these steps were followed, in many cases, repeatedly.  With regard to Claimant none of these steps were followed. 

            The Panel noted further that, at the time Claimant was hired by Respondent Santander, the sales group he was hired to manage had the third lowest performance level of Respondent Santander’s groups in the comparison.  At the time Claimant was terminated by Respondent Santander, the sales group he was hired to manage had the third highest performance level of the groups in comparison. 

            During Claimant’s employment, Respondent Santander faced a series of FINRA complaints and investigations for failure to supervise its sales staff in connection with Puerto Rico public debt.  Those matters ended with fines of several million dollars. 

            The fact that Respondent Santander’s records contain none of the documentation its disciplinary policy mandates be created and which its witnesses stated was normal business practice, creates an inference that Claimant’s employment was terminated for an illegal reason.  According to the Panel, this inference was bolstered by the lack of credibility of most of Respondent Santander’s witnesses and the amazing lack of candor of its witnesses. 

            The Panel determined that the termination of Claimant’s employment was principally motivated by retaliation for his reporting the violation of FINRA rules to Respondent Santander’s management and his pressing for their resolution in the face of Respondent Santander’s determination to avoid exposing the fact that it was managing a process of subverting its securities software package and allowing unlicensed individuals to effect transactions which required licensure. 

            Ouch!  And thus my dear Reader, you now know why FINRA members almost never ask for a reasoned Award, and why FINRA should change its rules to require one when requested by either party.  Food for thought.

[1] Several years ago I represented a financial advisor in a U-5 defamation case in Louisville that was in a situation similar to the employee’s, and he won millions for having been told about the same non-existent loophole.  He was terminated after the regulators challenged his lack of sufficient registration.  My client had taken but failed the 65 before he was terminated, but after the regulators made their challenge. 

Friday, January 25, 2019

2018 FINRA Exam Report: Does Your Investment Portfolio Need a Legal Audit?

The Financial Industry Regulatory Authority (“FINRA”) released its 2018 Examination Findings Report on December 7, 2018.  This examination report recounts specific areas in which FINRA members are not measuring up to industry standards.  So, if your investment advisers just sent to you statements for your investment portfolio and you think perhaps it’s not what you expected, then it may be because they engaged in some of the substandard practices as identified by FINRA in this report. And if you have those concerns, then it may be advisable to have a legal audit of your investment portfolio performed by experienced securities industry attorneys.

Two significant areas that require better accountability in the industry as highlighted by FINRA in its 2018 report are (1) product suitability and (2) abuse of authority.  Product suitability is just what it sounds like.  FINRA observed that investment representatives continue to make unsuitable recommendations to retail investors based on a number of factors, including the customer’s financial situation and needs, investment experience, risk tolerance, time horizon, investment objectives and perhaps most importantly liquidity needs.  And there are legal standards that apply to these factors. Time and time again, for example, investment advisers put their clients into long-term investments that makes them unavailable for their customer’s short-term needs.  If you think this applies to you, then you should have a legal audit conducted on your investment portfolio.

Abuse of authority is also just what it sounds like, namely customers give registered representatives authority to act on their behalf and these advisers exceed that authority.  This is usually seen in the form of unsuitable or excessive trading, which FINRA observed in its report   as a problem that continues in the industry.  For example, FINRA found “situations where some firms or registered representatives exposed investors to unnecessary risks and firms had not established controls – including those to comply with obligations under FINRA Rule 2510 (Discretionary Accounts) – to mitigate those risks.” Those risks included some registered representatives exercising discretion in their customer accounts without the customer’s prior written authorization, exercising discretion after the authority to do so had expired, and having customer’s sign blank suitability or new account forms.  And, even if you provide authorization for your representative to engage in discretionary trading, you should still have your accounts reviewed at frequent intervals.  Again, if you think this may apply to you, a legal audit conducted on your investment portfolio may uncover abuse of authority by your investment adviser.

If you need a legal audit conducted on your investment portfolio, then you may wish to consult with experienced counsel at Cosgrove Law Group.

Author: Brian St. James

Wednesday, January 9, 2019


Are you a financial adviser who has been terminated unfairly?  Well, if you are, you are not alone.  The attorneys at Cosgrove Law Group, LLC have represented advisers all over the country who have fallen prey to a system very unique to the financial services industry – the internet publication of involuntary termination justifications via the Form U-5.  And while the regulators thought this system would be a good thing for investors, it has proven to be a devastating system for many innocent advisers.  We refer to it as “the weaponization of the U-5.”

You will not obtain a new position with a Broker-Dealer or hybrid until your U-5 is filed.  And you probably will not get hired if it contains a negative narrative or one of the answers to question #7 (a) – (f) is marked in the affirmative.  Nor will your home state or FINRA register you until they are done investigating the purported reasons for termination.  If you are in this horrible situation, call us for help today.

Tuesday, January 8, 2019

Purchasers of 1st Global Capital Finance Securities in Missouri May Be Able to Recover from Their Brokers

On August 23, 2018, the U.S. Securities andExchange Commission (“SEC”) filed a complaint for injunctive and other relief against 1 Global Capital, LLC (“1st Global Capital”) in the U.S. District Court for the Southern District of Florida alleging, among other things, that 1st Global Capital “fraudulently raised more than $287 million from more than 3,400 investors.” And as 1st Global Capital filed for Chapter 11 bankruptcy protection, it’s unlikely the victims of this fraud will recover more than a fraction of their money from 1st Global Finance. But all may not be lost if you are such a victim of this fraud and if you purchased your investment in Missouri.  Another avenue of recovery may be against the sales agents that brokered these investments to you in Missouri on behalf of 1st Global Capital.

1st Global Capital sourced its capital through a “network of barred brokers, registered and unregistered investment advisers, and other sales agents – to whom they paid millions in commissions – to offer and sell unregistered securities to investors in no fewer than 25 states” according the complaint filed by the SEC. Missouri was one of those states. And, these brokers, investment advisers and sales agents who brokered these sales in Missouri may be liable to these investors in Missouri for the following reasons:

First, these investments in the forms of a “9-month Promissory Note,” “Memorandum of Indebtedness” or “Loan Agreement” from 1st Global Capital constitute “securities” within the meaning of Section 2(a)(1) of the Securities Act of 1933 [15 U.S.C. § 77b(a)(1)] (the “Securities Act”).  As such, they were required to be registered with the SEC pursuant to the Securities Act or exempted from registration therefrom. No such registration statement was filed and no exemption from registration existed for the 1st Global Capital securities. So, under federal and state law, including the Securities Act, you may be able to bring a private right of action against the sellers of these securities for the recovery of your investment.

Second, because the brokers, investment advisers and sales agents who brokered these securities in Missouri are governed by the rulings of the Eighth U.S. Circuit Court of Appeals, the definition of what constitutes a “seller” of securities under the Securities Act is not limited to the person who actually passes title of the securities to the purchaser. This definition has been broadened to include the intermediary who facilitated the sale of the security to the purchaser, if that intermediary was made aware of questionable circumstances surrounding the transaction and “was uniquely positioned to ask relevant questions, acquire additional information, or disclose his findings” to the purchaser. Wasson v. SEC, 558 F.2d 879, 886 (8th Cir. 1977). Moreover, a different panel of the Eighth U.S. Circuit Court of Appeals adopted the “substantial factor” test, in which a person “whose participation in the buy-sell transaction [was] a ‘substantial factor’ in causing the transaction to take place” was held to be a seller under the Securities Act. Stokes v. Lokken, 644 F. 2d 779, 785 (8th Cir. 1981).

If you purchased 1st Global Capital securities in Missouri, then there are laws that could provide you with the right to recover from the broker, investment adviser or sales agent who brokered that investment to you, including the Securities Act, the Missouri Uniform Securities Act, §§409.1.1, et seq., RSMo. (2016), and the Missouri common law. These laws could entitle you to recover the money paid for the securities, with interests and costs, and in some cases your reasonable attorneys’ fees and punitive damages.

There are many decisions you need to make such as what laws give you the best chance of recovering your investment, what relief should you should seek, and whether to file your lawsuit in federal or Missouri state court. If you need assistance, you may wish to consult with experienced counsel at CosgroveLaw Group, LLC.

Author: Brian St. James

Thursday, January 3, 2019

SEC Cracking Down on Share Class Selection: High Standards and High Stakes

Last February the Securities and Exchange Commission ("SEC") announced their Share Class Selection Disclosure Initiative. This initiative is to prevent Investment Advisers from having their clients purchase shares with higher 12b-1 fees when cheaper ones are available. 12b-1 fees are paid by shareholders for the marketing, advertising, mailing of fund literature and prospectuses to clients, and paying the brokers.

Recently, the SEC settled with American Portfolio Advisers to pay $895,353 in disgorgement and prejudgment interest and a civil penalty of $250,000 due to inadequate client disclaimers regarding conflict of interests with 12b-1 fees.

In their Initiative Announcement, the SEC defined Investment Advisers receiving 12b-1 fees to mean (1) directly receiving fees, (2) a supervised person receiving fees, or (3) an affiliated broker dealer receiving fees. The SEC went on to state a proper disclosure does two things: it describes the conflict of interest in (1) making investment decisions in light of receipt of 12b-1 fees, and (2) selecting more expensive 12b-1 fee paying shares when lower cost shares are available for the same fund.

The initiative notes that disclosing that investment advisers “may” receive a 12b-1 fee and that there “may” be a conflict of interest was not enough. If the adviser is in fact receiving a 12b-1 fee they must say so and if the client is eligible for a lower cost share the adviser must inform them.

This duty stems from Section 206(2) of the Investment Advisers Act of 1940 ("Advisers Act"). Interpreted in SEC v. Capital Gains ResearchBureau, Inc., 375 U.S. 180, 194 (1963) to impose a financial duty on Investment Advisers to disclose to its clients all conflicts of interest which might incline an investment adviser consciously or unconsciously to render advice that is not disinterested.

These are high-standards and high-stakes for Registered Investment Advisers and for the Investment Advisers themselves. If you questions related to these standards or other SEC initiatives or regulatory standards, please call us at Cosgrove Law Group, LLC.