How advisers can avoid Finra scrutiny over personal liens, judgments, or bankruptcies

While disclosures of negative personal financial events are not pleasant, the consequences of not making them can be severe

Apr 21, 2015 @ 2:08 pm

By Gregg J. Breitbart

You're a financial adviser with a clean record and a solid book of business. Unfortunately, along the way, you had some personal tax issues and, despite your best efforts to resolve them, the Internal Revenue Service filed a series of tax liens in an attempt to collect the debt. Or perhaps you "overbought" your last home and had to let it go in a non-recourse short sale.

Not pleasant, but certainly not career-threatening, right?

The short answer is, "it depends." Did you report the tax liens or the "compromise with creditors" to your firm's compliance department in a timely manner, and make sure that they updated your Form U-4 accordingly? If not, your professional life may be about to change, and not in a good way.

Questions 14K and 14M require a registered person to disclose the existence of any tax liens, unsatisfied judgments, bankruptcies and "compromises with creditors" on their Form U-4. Problems in this area seem to fall into two categories: (1) advisers who simply don't know about the requirement to report these kinds of events, or (2) advisers who are aware of the requirement, but are not aware of the consequences of failing to report and, therefore, make a conscious decision to "take their chances" and not report these events.

(Related read: How advisers bounce back from bankruptcy)

Both of these scenarios can result in very significant, even devastating, consequences. Finra has reiterated over the last several years that they view timely and accurate Form U-4 reporting to be of critical importance to their mission of investor information and protection.


To that end, Finra has engaged in its own search efforts to identify representatives who have liens, judgments and bankruptcies, and to then review the Central Registration Depositary (CRD) information for those representatives to determine whether those events were reported in a timely manner. When Finra identifies a representative with an unreported financial event, they then have a clear path to pursue an enforcement action. Likewise, if Finra identifies a firm that lacks sufficient procedures to identify these unreported financial events, they may bring an enforcement action against that firm.

Given the nature of these issues, most of these matters are not litigated, but rather are resolved by way of a Letter of Acceptance, Waiver and Consent (AWC). An AWC is essentially a settlement agreement with Finra in which the representative (1) consents to (but does not admit or deny) certain "findings" as to the facts that underlie the violation, and (2) accepts certain sanctions. Sanctions generally include a monetary fine and a suspension. While the amount of the fine may be relatively small (generally in the neighborhood of $5,000), the suspension can range from a few weeks to a few months. In my experience, many advisers simply don't recognize that what might seem like a relatively minor offense is likely to result in a suspension along with the resulting loss of income and regulatory mark.

In some cases, the situation can go from bad to worse. If Finra determines that an adviser's failure to update their U-4 to reflect these events is "willful," then the adviser will be deemed permanently "statutorily disqualified" (SD) under securities laws. Willfulness, in this context, requires only that the representative knew about the existence of the reportable financial event, and did not report it. It does not require that the representative knew about the reporting requirement and intentionally decided to "break the law" by not disclosing the event.

Put another way, Finra generally does not accept "ignorance of the law" as a defense to a charge of willfulness in this context. Once a representative is deemed to be SD, their firm will have to go through a costly and intrusive process of filing an application with Finra (called an "MC-400") requesting permission for the representative to remain associated with the firm. This process delves deeply into the individual's and the firm's disciplinary and complaint histories, and requires the firm to establish that it is willing and able to implement a comprehensive heightened supervision plan. As such, many firms simply decline to go down this path and will instead terminate the registration of the SD individual.

(More insight: Advisers see the benefits of beefed-up background checks)


And that brings us back to the beginning. One day, you're a successful adviser, sitting at your desk, feeling good about your business and your prospects for the future. But if you have failed to update your Form U-4 to disclose a lien, judgment, compromise or bankruptcy, you may find yourself looking for a new career (or at least for something to do during a three month suspension). It seems implausible that such consequences could flow from this type of offense, and the "fairness" of that result is certainly up for debate. But under current law, and based on Finra's stated focus on the issue of U-4 disclosures, it's a sobering reality.

In order to avoid these dire consequences, here are three tips to consider:

1. If you're aware of an event that requires disclosure under 14K or 14M of Form U-4, make sure it's timely done (i.e., within 30 days). Sticking one's "head in the sand" on these issues is a really bad idea.

2. If you're having tax or financial issues and are not sure whether there are liens or judgments against you, do some research — for example, pull a credit report — and see what's really out there.

3. If you're not sure about the "reportability" of a particular event, contact your compliance department or experienced counsel to review it with you. The costs of being wrong on this issue are just too high to go it alone.

While disclosures of these financial events are not pleasant, since they will be available for clients and prospective clients to see on Finra's BrokerCheck, the consequences of not making these disclosures are far worse. Don't let Finra have a lay-up at your expense.

Gregg J. Breitbart is chair of the financial services practice group at Kaufman Dolowich & Voluck and managing partner of its Florida office.


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