Licensed financial professionals, registered with FINRA, can face a variety of legal actions that can affect their ability to change jobs or even continue in their profession. This post provides a quick summary of types of claims often made in the broker-dealer/financial advisor context and how the outcome of the resulting hearing can affect a representative’s status. If you are a FINRA-registered financial professional with an issue similar to those described below, please contact The White Law Group at 312/238-8950 for a free consultation.
PROMISSORY NOTE CLAIMS
Many brokers receive an upfront payment when they start employment at a broker-dealer. The arrangement may be called a signing bonus, retention incentive, or transitional compensation, but is, in fact, a forgivable loan enforced by the promissory note contract signed by the broker at commencement of employment with the firm. The amount of upfront compensation is generally determined by the broker’s trailing 12-month financial performance numbers and is forgiven incrementally over a set number of years. The catch is that if the broker leaves the firm or their employment is terminated for any reason at any time during the forgiveness period, the full balance of the note is immediately due. Any unpaid balance of the note will also accrue interest.
The promissory note is a valid contract between the FINRA member broker-dealer and the FINRA member broker and the broker dealer may enforce the agreement in FINRA arbitration, under an expedited panel. Arbitration panels almost always favor enforcement of these notes unless there is some other flaw in the terms of the loan contract that make the contract unconscionable or against public policy. Often the only other defense against repayment is some form of discriminatory or otherwise improper termination by the firm.
A broker’s best option upon receiving a demand to pay the balance due on a promissory note obligation is to negotiate the remaining amount owed on the loan and the terms for paying off the debt. Negotiating with the firm may secure the broker a more favorable balance, interest rate, or payment schedule in order to pay down the obligation.
Solicitation claims deal with a broker’s ability to solicit their clients serviced at the old firm once they have moved to a new employer. The basis of law for these types of claims is centered on contractual non-solicitation agreements and the status of client information as confidential trade-secret information of the first broker-dealer employer.
In 2004, several major firms, including Citigroup, Merrill Lynch, and UBS Financial, entered into an agreement concerning broker solicitation of former clients after a change of employment. The “Protocol for Broker Recruiting” allowed a broker to take only client names, addresses, contact information, and account titles with them to another firm. Any other information about the client belonged to the previous firm and could not be taken by a departing broker. Since 2004, many other firms of all sizes have signed on to the protocol, but not all. The protocol overrides any other agreements between the broker and the firm, but only if both the previous firm and the new firm are signatures of the protocol.
Non-protocol firms, and even some firms that have signed the protocol but are having reservations about the arrangement, have instituted policies to pull back some of the freedom to carry client lists from firm to firm. One way in which financial firms enforce these limitations is through contractual non-compete or non-solicitation agreements. These agreements may place time restrictions forcing a broker to wait for a certain period after leaving the firm – e.g., one year – before soliciting clients serviced at the former firm or even prohibiting a broker from working in the geographic area of the former employer for a period of time. In some states, particularly California, these contractual obstacles to employment have been held legally non-enforceable.
The second approach firms have taken are claims against brokers under state trade secret statutes. In many cases, a simple list of client names will not be considered confidential trade information; especially if the departing broker has a personal relationship with the clients. The state of Ohio, however, has held that a list of customer names does fall under the state trade secret statute. Most recently, Bank of America U.S. Trust has fought against former brokers soliciting clients by instituting U.K.-style “Garden Leave” policies in employment contracts. Such policies set a period in which the departing employee must give notice, in the present case at least 60 days, during which the broker may not solicit clients or accept new employment. The policy is enforceable because the departing broker is still employed and is being compensated by the firm the broker wishes to depart and may not begin the process of moving to the new firm during the duration of the “leave” period.
If you are a FINRA registered financial representative facing a complaint from a former firm, legal representation may help you exercise your ability to change employment without encumbrance. FINRA mediation and arbitration are available to help settle these sorts of disputes between registered representatives and their FINRA-member firms.
Multiple financial representatives leaving a firm together for another competing firm, or to strike out on their own, face further complications than just potential solicitation claims. So-called “raiding” of a division of a brokerage firm is not protected under the Protocol for Broker Recruiting and firms can pursue actions under a number of legal theories; including breach of contractual obligation such as non-solicitation and/or promissory notes, the taking of confidential trade secrets, tortious interference with contracts, and breach of duty of loyalty. The departing brokers may even find themselves under temporary restraining orders until the conflict can be resolved.
If a group of brokers are contemplating leaving their firm together, they should consider a few key factors that may play into their firm’s decision to pursue legal action. First, if one of the departing members is a supervisor or senior advisor of a definable section of the firm’s practice, he or she may by under a heightened duty of loyalty or fiduciary duty to the firm to protect client data or refrain from interfering in the employment arrangement of those under their supervision. Secondly, if the departing group is a key part of a definable group within the business and/or account for the majority of production for a specific section of the firm’s business, the firm will have a better case for showing a pre-planned “raid” on their business.
The key for those brokers wishing to break away from their current firm is to assure that they comply with the relevant trade secrets laws and that all promissory note or other contractual obligations are quickly satisfied. A review of their current employment agreements and the firm’s past actions in similar instances can go a long way in crafting a mutual agreement between the brokers and the firm and avoid a protracted legal dispute.
While brokerage firms and financial institutions will go through great lengths to limit their registered representatives from freely moving from employer to employer while retaining their clients, they are quick to remind their brokers that all employment is “at will” and a financial representative can be terminated at any time and for any reason.
Even at will employees do enjoy some statutory protections, however. Most jurisdictions recognize that termination of employment will be wrongful if undertaken for the following reasons: discrimination, retaliation, refusal to take a lie detector test, and if the reason is in violation of public policy. The scope of what is legally “wrongful” however, depends on the statute of the state in which the broker is employed.
Rarely will an employer admit that the reason for termination is something likely to fall into one of these categories. The claim must often be shown by the actions undertaken by the firm and supervisors leading up to the termination of employment. Examples of each of these wrongful grounds for termination are discussed below while retaliatory terminations are discussed at length in the next section.
A firing will be considered discriminatory if it is undertaken because the employee possesses characteristics of a protected class. Federal law protects against adverse actions because of race, gender, religion, nationality, age, and disability or medical condition. State laws may be even more inclusive of the classes and conditions that will be protected. While not considered under the anti-discrimination laws, employers may not terminate a person because they are of legal immigrant (alien) status rather than a U.S. citizen.
Additionally, an employer may not use the threat of termination to intimidate an employee out of exercising a valid legal right (e.g., demanding due compensation) or into participating in an illegal act or an act in contravention of valid industry regulations. Such a termination would be in contravention of public policy.
Retaliatory firings are another type of wrongful termination actionable even by at-will employees. Retaliation occurs when a firm takes any negative employment action a registered representative for asserting a legal right that would deter a reasonable employee from making a complaint in a similar situation. For example, a demotion or transfer in lieu of termination would still be actionable. Additionally, a retaliation claim can be brought even if the employee is unsuccessful in asserting any other wrongful termination cause of action if the employee can show that the termination or other adverse employment action was the brokerage firm’s response to the employee filing the complaint. In this way, a firing may still be retaliatory if a broker was fired because he or she filed a complaint of age discrimination even if the discrimination claim is rejected. Retaliation can also encompass adverse action in response to other workplace complaints such as harassment or work conditions.
A specific subset of retaliatory employment action in the financial arena are whistleblower claims. Protections for employees who report fraud within publicly traded companies are provided with a federal cause of action under the 2002 Sarbanes-Oxley (SOX) Act. This protection extends to brokers/representatives working for publicly traded companies only and does not provide protection for those working at a privately held firm. Privately held firm employees must still rely on state retaliation or whistleblower laws.
FINRA and the SEC have amended the FINRA Code of Arbitration to bring the Code in line with SOX and similar state whistleblower laws that preclude registered firms from contractually requiring financial representatives to arbitrate whistleblower claims before FINRA. This amendment does not preclude a broker seeking to arbitrate such a claim from filing a FINRA arbitration in order to resolve the claim if the broker chooses to do so.
A broker’s Form U-5 tracks the occasions and reasons he or she has been let go by a financial firm. As such, it is a key part of the registered representative’s Central Registration Depository (“CRD”) File and a key piece of information any possible future broker-dealer employer will examine when making future hiring decisions. A misleading or otherwise harmful mark on a broker’s U-5 can have serious and detrimental effects in gaining future employment in the industry. U-5 marks a broker may seek to remove most often fall into one of two categories: a customer complaint lodged against the broker and/or broker dealer, or a mark by the broker-dealer as to the reason for termination.
A broker who’s U-5 shows a customer complaint may be eligible for expungement of the complaint from his or her U-5 if the certain circumstances are met. The broker’s U-5 will note any customer complaint lodged against the broker directly, any claims filed against the broker directly, and even claims filed against the broker-dealer without the broker as a named party but in which the broker is the “subject of” the dispute. Once the complaint is on the U-5, expungement is only granted with an award from a court or arbitration panel. FINRA must be a party to such an action unless the complaint is otherwise ruled by the fact finder to be within one of three specific exceptions outlined in FINRA Rule 2080: 1) the complaint is factually impossible or clearly erroneous, 2) the broker was not involved in the alleged impropriety, or 3) the complaint is false. There is a fallback provision that provides FINRA discretion in granting expungement in other circumstances without being named in a suit.
More commonly, a broker is forced to defend his U-5 after termination of employment by a broker-dealer firm. The U-5 may be amended by the broker-dealer as to the date and/or reason for the firing. Traditionally, brokers have challenged the descriptions provided as the reason for termination by broker-dealers as being false and defamatory. Unfortunately, recent decisions in state courts and by FINRA arbitration boards have complicated this matter. First, in 2007, a decision by the New York State Court of Appeals held that the statements made by broker-dealers in an employee’s U-5 enjoyed an absolute privilege and could not be challenged as defamatory. Since then, however, FINRA arbitration panels have continued to find in favor of brokers with respect to descriptions of the reasons for termination are found to be defamatory or misleading.
Despite the FINRA’s apparent rejection of absolute privilege in U-5 matters, claims seeking an amendment of U-5 – on any legal basis – are still quite lengthy, and even risky affairs. In some cases, the process of arbitrating the dispute and the actual amendment of the Form is a process that can take many years. Even if the panel “awards” amendment of the U-5, the panel’s recommended change in language may not be the victory a Claimant is expecting because of the vague and overly broad nature of the description. Requests for U-5 amendments may often be most effective when a broker and former employer are able to sit down and discuss some sort of agreement as to the amended language.
REGULATORY INQUIRY AND WELLS NOTICE RESPONSE
When FINRA initiates any sort of investigation they will contact the registered persons affiliated with the action or member firm at the heart of the inquiry. The preliminary portion of the investigation is informal, typically with FINRA or the SEC notifying the registered representative of the duty to supply information in any FINRA inquiry under Rule 8210. The registered person’s response to this notice is critical in determining how the investigation will unfold, whether or not a formal complaint will be filed, and possibly even what sort of sanction could be meted out if the registered representative is found in violation of applicable rules and regulations.
First, the broker must assure a timely and sufficient response is made to the initial inquiry. The broker must provide the information requested and failure to do so, or failure to respond, can lead to second notices. Failure to respond to second notices leads to a warning of sanctions and further failure can lead to a suspension of license. Any sanction imposed for failure to respond to a FINRA notice is barred from SEC appeal for failure to take advantage of the FINRA process. Having an experienced attorney, knowledgeable of the FINRA process, can help assure a sufficient response and possibly avoid a formal investigation.
Should the inquiry continue through the process to a formal investigation, and the regulatory staff heading the investigation finds sufficient evidence to recommend charges of violations, the notice of such a decision comes in the form of a Wells Notice. Once the Wells Notice is received, the potential subject and his or her counsel may meet with the SEC/FINRA personnel and discuss the potential charge and then have a set period in which to file a response arguing against the pursuit of formal charges. The meeting with investigators following the Wells Notice can result in an end to the investigation but must still be handled skillfully for the risk of harming the case going forward.
Be aware, any Wells Notice is discoverable in actions against the broker. The receipt of a Wells Notice will also be noted in a registered representative’s U-4 and CRD file.
The foregoing information is but a brief overview of some of the types of litigation involving registered representatives and broker-dealers. If you are a financial advisor involved in litigation with your former employer, please call The White Law Group at 312/238-9650 for a free consultation.
The White Law Group is a national securities arbitration, securities employment and securities regulatory law firm with offices in Chicago, Illinois and Boca Raton, Florida.
For more information on the firm, visit http://www.whitesecuritieslaw.com.