Financial Advisor (February 1, 2022) – The Financial Services Institute (FSI), the trade group representing independent financial services firms and advisors, said it opposes proposals to create an industry-funded pool of money to compensate investors whose arbitration awards go unpaid.

FSI executives said at a media briefing today that they view the proposals by investor advocates to set up such a fund as unfair to companies that run honest businesses.

“The proposals have proposed that the honest actors pay into the pool that would then fund the unpaid arbitration awards that went unpaid by dishonest actors. We firmly believe that honest actors in the industry should not be paying for the dishonest actors,” said Robin Traxler, FSI’s senior vice president for policy and deputy general counsel.

FSI officials also said they are urging the Financial Industry Regulatory Authority (Finra) for a more expansive process for allowing brokers and firms to expunge their BrokerCheck records of arbitrations they are found to have no part in.

“We believe that people who are not involved and not responsible for harm in a dispute should be able to expunge their record if they were named in the matter and we also believe that arbitration award pools that have been proposed by some lawmakers work counterintuitive to protecting investors,” Traxler said. “So, we would work against any effort to create an arbitration award pool but instead encourage regulators to get bad actors out of all areas of the financial industry as a more effective way to protect investors.”

In November, the Public Investor Advocate Bar Association (PIABA) called on Congress, the Securities and Exchange Commission or both to step in and require Finra to create what they call a “National Investor Recovery Pool.” As envisioned by PIABA, the pool would provide funds for investors who pursue a claim all the way through a final award if they have exhausted reasonable efforts to collect the award from the respondent.

Funding for the pool could come from Finra fine money, assessments on Finra member firms or fees levied on the investing public, PIABA President Michael Edmiston told Financial Advisor magazine.

“While PIABA supports Finra’s efforts to eliminate bad actors on the front-end, none of its efforts resolve the fundamental problem: when a bad actor doesn’t pay the award,” Edmiston said.

Currently, more than 30% of all customers arbitration awards go unpaid, according to PIABA. Put another way, nearly 25% of money awarded to investors in 2020 went unpaid, even as many brokerage firms’ profits grew to record levels.

Finra said in a 2018 report that it “is committed to reducing the number of arbitration awards that go unpaid to customers, which typically result from respondents declaring bankruptcy or going out of business.”

Since our 2018 report, “we have continued to take measures designed to reduce the risks to investors from brokers and firms who may be less likely to pay awards. FINRA appreciates that customer recovery can be a challenge across the financial services industry and dispute resolution forums, and we remain committed to working with all stakeholders on this important issue,” Finra spokeswoman Michelle Ong said.

Sen. Elizabeth Warren (D-Mass.) introduced legislation in 2018 that would have required Finra to set up a pool funded by penalties from broker-dealers to pay unpaid final arbitration awards.

Traxler said that instead of forcing compliant firms to pay into the pool, regulators should focus on enforcement.

“Instead, those dishonest actors should be barred from engaging in the financial industry, whether that is through Finra registration, investment advisor registration or as an insurance agent. So we would instead encourage the regulators to coordinate,” she added.

On the expungement front, FSI executives said they are in discussions with Finra to streamline the process whereby brokers, reps and firms can seek to have arbitrations they are named in expunged from their public records.

“This is an example where I keep beating my constructive engagement drum. It’s unfair to advisors and not helpful to investors in a sweeping complaint filed by a plaintiff’s attorney that an advisor in a practice gets named in a complaint he had nothing to do with it,” FSI President and CEO Dale Brown said.

In May, the PIABA released a study that found that arbitrators grant expungement to industry players 90% of the time. The lawyers group says regulators and the customers who had complaints should be able to present evidence in expungement requests.

“The data show that the reason is that Finra’s arbitration process allows brokers and brokerage firms to make expungement requests to arbitrators that are unopposed the vast majority of the time,” the PIABA said in its study.

“The solution is simple,” the study continued. “To effectively prevent expungements of valid customer complaints, Finra must provide a meaningful opportunity for those with an interest in the outcome of the expungement request, e.g., securities regulators and the customers who submitted the complaints, to present evidence opposing expungement, when appropriate.”

“FINRA plans to issue an Expungement Discussion Paper in the coming months and will then hold meetings with various stakeholders,” Spokeswoman Ong said.

After consulting with SEC staff, the organization temporarily withdrew from SEC consideration its filing to establish specialized arbitration panels for expungement request in order to further consider whether modification to the filing are appropriate.