Public Investors Bar Association Report: Draft Reforms to FINRA Supervision Rules Leave Investors Vulnerable

In a report titled, FINRA’s Attempt to Gut Investor Protections: Proposed Reforms to FINRA Supervision Rules, Public Investors Arbitration Bar Association (PIABA) argues, “FINRA is currently contemplating the evisceration of crucial protections that have been in place for decades to safeguard investors against investment schemes by brokerage firms’ registered representatives, including ‘selling away’ schemes. If FINRA’s proposed changes are approved, there will likely be more investment scams perpetrated by registered representatives. If these proposals are adopted, brokerage firms will no longer be held primarily responsible for identifying and stopping rogue brokers.” 

FINRA is currently contemplating changes to FINRA Rules 3270 and 3280 as outlined in FINRA Regulatory Notice 18-08. Both rules impose broad supervisory responsibilities and obligations for registered representatives and member firms with respect to outside business activities and private securities transactions. FINRA Regulatory Notice 18-08 proposes to exempt member firms from supervising:

• Investment-related activities at third‐party investment advisor firms;
• Investment-related activities at member affiliates, including IAs, banks, and insurance companies;
• Non‐investment–related work and outside business activities; and
• Personal investments

According to PIABA, outside business activities manifest themselves in a variety of schemes and fraudulent activity every year, including but not limited to, fraudulent private placements, Ponzi schemes, and investment frauds perpetrated through third-party IAs established by the registered representative. According to PIABA, “A common modus operandi in these schemes is for a registered representative to establish a solo or small IA firm and perpetrate the fraud through outside business activities in an effort to avoid member supervision.” 

FINRA proposed Rule 3290 narrows and reduces member firms’ supervisory obligations and, according to PIABA, results in unacceptable adverse consequences, including:

• Dramatically weakening long-standing supervisory obligations;
• Creating glaring supervisory deficiencies;
• Encouraging de facto violations of federal securities laws;
• Generating inconsistencies with other FINRA rules and regulatory guidance;
• Producing perverse incentives for registered representatives and members; and
• Leaving investors with inadequate protection

According to Financial Advisor Magazine, the comment period for the FINRA proposal is closed. “Now all eyes are on FINRA to see what they’ll do and if they’ll put investor protection interests first and let this horrific rule die,” says Andrew Stoltman, current President and member of the Board of Directors for PIABA.