Finra seeks to tighten investor dispute rules

New proposal would prevent people with industry experience from becoming “public arbitrator"

Jun 18, 2014 @ 9:19 pm

By Mark Schoeff Jr.

arbitration, finra, dispute, securities and exchange commission, broker
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In redefining its categories for arbitrators, Finra is not only making it impossible for financial-industry veterans to become public arbitrators, it also is keeping attorneys who represent investors out of the category, a move that has caught the attention of plaintiff’s lawyers.

“They’re breaking new ground there,” said Robert S. Banks Jr., owner of an eponymous law firm and a member of the Public Investors Arbitration Bar Association. “There will be a lot of resistance, mostly from the public side. I’m sure there was a big push on the industry side to get that [provision] in. It will be interesting to see when it goes out for comment.”

On Wednesday, the Financial Industry Regulatory Authority Inc. filed a rule proposal with the Securities and Exchange Commission to narrow the definition of a public arbitrator. The SEC must approve Finra proposals and can put them out for public comment.

The move is another step by the Financial Industry Regulatory Authority Inc., the broker-dealer self-regulator, to tighten rules surrounding its mechanism for resolving investor disputes with financial firms. The process has come under criticism for favoring Wall Street.

Last week, Finra asked the SEC to approve a round of fee increases related to its arbitration process.

Nearly every brokerage customer contract contains a mandatory arbitration clause. The parties choose a three-person arbitration panel from a list of arbitrators provided by Finra. There are a total of 6,392 Finra arbitrators: 3,555 public and 2,837 non-public.

Under Finra's new rule, anyone who has worked in the financial industry for any length of time cannot be classified as a public arbitrator. He or she can only be a non-public arbitrator. Current rules allow industry veterans to join the public list five years after ending their industry affiliation.

“Once Finra classifies an arbitrator as non-public, Finra would never reclassify the arbitrator as public,” the rule filing states. “Under the proposed rule change, there would be no exceptions to this provision.”

Finra also is making it harder for attorneys, accountants and others who devote 20% or more of their professional work representing financial firms or their employees from becoming public arbitrators. Under current rules, they can join the public list two years after they cut industry ties, as long as they have worked less than 20 years total. A tenure longer than 20 years would permanently disqualify them from being public arbitrator.

The new rule would extend the look-back period to five years, broadens the definition to include work for anyone associated with financial firms and permanently disqualifies professionals who have worked longer than 15 total years on behalf of industry clients.

The regulator also is tweaking the rule pertaining to attorneys, accountants and other professionals who devote more than 20% of their professional time to representing investors in securities claims.

They had been allowed to serve as public arbitrators. Under the new rule, they would be classified as non-public.

They could switch to public five years “after their business mix changes,” as long as they haven't worked a total of more than 15 years, according to the rule proposal. After 15 years, they would stay on the non-public list permanently.

Ben Edwards, a professor of law at Michigan State University, credited Finra for being evenhanded in the exclusions it is trying to apply to the public arbitrator label.

“Finra is doing everything it can to police its pool and make the public arbitrator pool as fair as possible,” said Mr. Edwards, director of the Investor Advocacy Clinic at the MSU School of Law. “Its efforts to ensure unbiased arbitrators deserve to be commended.”

Parties involved in an arbitration dispute choose three arbitrators from lists generated randomly by Finra. Last year, the SEC approved a Finra rule making an all-public panel the norm.

Limiting industry participation on arbitration panels concerns Bryan Ward, a partner at Sutherland Asbill & Brennan. He said that the Finra arbitration pool is stretched too thin and that the process benefits from having people involved who understand the securities business.

“Finra seems to be following skewed logic in which knowledge somehow taints a person,” Mr. Ward said. “It’s not the experience that taints a person, it’s their interest in one outcome over another. Finra needs to focus on competence – and [the arbitrator redefinition] is a move that will have a negative impact.”

Mr. Ward did praise Finra, however, for keeping investor lawyers out of the public arbitration pool, if they’re also going to ban people who’ve worked in the industry.

Under the new rule, Finra also would allow professionals affiliated with a mutual fund, hedge fund or investment adviser to serve as non-public arbitrators after a two-year cooling off period. Currently, they can serve as public arbitrators two years after they leave their firms.


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