Securities lawyers call on Finra to halt expungement process

PIABA report charges systematic abuse of the procedure for clearing brokers' disciplinary records

Oct 15, 2019 @ 5:00 pm

By Mark Schoeff Jr.

Securities lawyers representing investors released a report Tuesday showing that the arbitration process by which brokers can clear their records of customer disputes is rife with abuse and called on Finra to halt such proceedings.

The study by the Public Investors Arbitration Bar Association Foundation said the so-called expungement process "is being systematically gamed, exploited and abused with one-sided hearings, manipulation of arbitrator selection, deletion of significant customer complaints, and abusive (and possibly fraudulent) conduct to such an extent that it must be frozen until it can be repaired."

The number of expungement-only cases filed rose from 59 in 2015 to 545 in 2018 and involved 2,194 customer complaints, according to the report. Expungement was granted 81% of the time in 2018, down from 93% in 2015. An expungement-only case is one in which brokers initiate an action against their own firms without naming a customer.

The number of customer disputes that are being removed from the records of registered representatives is undermining the integrity of BrokerCheck, an online database maintained by the Financial Industry Regulatory Authority Inc., according to the study.

"Based on the results of the study, BrokerCheck can no longer be considered a reliable tool for investors to use when researching the background of brokers," Jason Doss, president of the PIABA Foundation, said in a conference call with reporters. "There's simply too many holes in the process and too many complaints that are being wiped clear unnecessarily."

The report recommends that Finra immediately halt all expungement proceedings, place a moratorium on expungement-only cases and commence an outside investigation of the expungement process. It also says Finra should place a warning on BrokerCheck indicating that the system may be missing key information. Finally, the Securities and Exchange Commission, which oversees Finra, or Finra itself should appoint an investor protection advocate who would be a party in every proceeding.

"This is a situation that requires major surgery, not Band-aids," said Celiza Braganca, a PIABA Foundation board member and a former SEC branch chief.

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The Finra board recently voted to file with the SEC a proposal to require that expungement cases be overseen by arbitrators with special training or expertise. The SEC must approve all Finra rule proposals.

In a recent interview with InvestmentNews, Finra chief executive Robert W. Cook touted the rule, which was first proposed in 2017, as a way to improve the expungement process.

"We believe it is important to ensure that there is an appropriate process for investors to access information that is relevant to them about their financial advisers' prior experience, while also providing financial professionals the opportunity to address incorrect or inaccurate information," Finra spokeswoman Michelle Ong said in a statement.

PIABA countered that the proposal falls short.

"Finra's fixes and some proposed fixes do not begin to address the heart of the problem," Ms. Braganca said.

Mr. Doss said the Finra proposal would exacerbate the problem.

"You're going to be institutionalizing the problem by creating a special roster of arbitrators who are the most experienced because the most experienced are much more likely to grant expungement," he said.

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A former state regulator agreed with the thrust of the PIABA report.

"It is my opinion, and largely the opinion of state regulators, that the expungement process is overused and abused," said Laura Posner, a partner at Cohen Milstein Sellers & Toll and the former New Jersey securities administrator. "I don't see any reason for expungement to exist outside a case of the misnaming of a party or [another] mistake."

The report asserts that expungement being granted is likely in expungement-only cases because they are not opposed by brokerages or customers. It also says brokerages and reps coordinate to choose arbitrators for the cases who are likely to approve expungement. Adding to the insularity is that only two law firms represented at least one party in 73% of all expungement-only cases.

Brokers seeking to clear their records are increasingly doing so in cases where they request $1 in damages, which ensures that only one arbitrator will oversee the proceeding instead of the usual three. The number of cases involving nominal damages rose from six in 2015 to 456 in 2018.

"This is being done to limit the number of eyes who are looking at these expungement requests," Mr. Doss said.

The $1 damage claims also rob Finra of approximately $8,050 per case in filing revenue, according to the report.


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