In its announcement, FINRA noted that the firms failed to implement adequate procedures to detect and monitor suspicious transactions.  Key to each finding was that the firms failed to identify red flags of money laundering activities and, in doing so, failed to investigate suspicious activity or file suspicious activity reports.  The fines were in the hundreds of thousands of dollars and individuals were suspended.

So what does this mean for you?  For one, you should take this warning to heart.  FINRA is taking a very strict look at firm AML policies and procedures.

Revisit your policies and procedures now.  Ask yourself this question; do my policies and procedures have those key components designed to identify red flags to detect and prevent money-laundering activity.   If the answer is no, you have work to do, and we can help.

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The talk, for the moment, has moved away from the uniform fiduciary duty and designating an SRO for investment advisers.  Instead, the focus is on increasing the budget for the SEC to fund, among other things, its examination process.

The shift in focus back to examinations is only logical.  The debate on the SRO and uniform fiduciary duty standard has taken much time and produced no results.  A reinvigorated examination process will shift the view of the SEC from being do-nothing to do-something.

So what should you expect?  It is likely that the SEC will receive increased funding.  In turn, investment advisers should expect more that 8% being examined in any given year.  

Where that number goes is anyone’s guess, but now is as good a time as any to revisit your compliance policies and procedures.  Make sure your house is in order now, or pay for it later now that the SEC will have the funding and will surely act with a purpose in the examination process.

*photo from freedigitalphotos.net

While nothing can eliminate scandals completely, an article on FoxBusiness.com argues that the SEC could fund itself, rather than seek yearly Congressional appropriations.  According to the article, the settlements, penalties and fines collected by the SEC has exceeded its budget in recent times.  For example, between 2005 and 2009, the SEC collected $7.4 billion in transaction and registration fees, while Congress appropriated just $4.5 billion to the agency during that period. 

Changing the nature of the SEC’s funding could certainly insulate it from political pressures of Congress and deep pocketed regulated entities.  It would also insulate the SEC from attempts by some in Congress to defund regulatory agencies, or from budget cuts, like sequestration.  While changing the way the SEC is funded may not prevent sex scandals, it is certainly worth considering for an agency that regulates many entities that are politically connected and active.

Does this signal the beginning of the end of arbitration clauses in customer agreements?  In my view, probably not, but the ability to force a customer into arbitration is likely to be curtailed.

The likely result will be that firms will have to offer a customer the option of arbitration or some other form of relief.  This does not mean that firms are not without methods to limit the costs associated with customer initiated litigation.

For example, if firms are required to let their customer proceed in a court, I would encourage the firm to require mediation as a pre-condition to a customer lawsuit.  This way, firms and the customers may be able to quickly resolve an issue without litigation.

I would also encourage firms to have venue and choice of law provisions.  In other words, force the customer to sue the firm in a particular court and pursuant to a particular state law. 

Similarly, I would recommend including a provision that requires the customer to waive a jury trial.  This may help you avoid a claimant shopping for a more favorable forum at your expense while, at the same time, expedite the ultimate resolution of the case.

Yes, it does appear as though firms may someday soon be limited in their ability to force arbitration, but you are not without tools to limit litigation.  Be creative, you can still structure your agreements to streamline litigation that may be initiated in the future.

In a recent opinion, the Court of Appeals for the Tenth Circuit dismissed the plaintiffs’ Section 10b-5 claims.  The plaintiffs alleged that the officers made false statements relating to the progress of an important network integration project, which would significantly impact the financial condition of the firm.  The Tenth Circuit acknowledged that the defendants made false statements of material fact relating to the network integration project, but held that competing plausible inferences indicated that the officers may have been merely careless and did not adequately track the progress of the project.

The Tenth Circuit’s ruling is consistent with the trend around the country.  Merely pleading a false statement of material fact is not enough, and courts generally rule in favor of the defendants when analyzing competing plausible inferences.  Plaintiffs’ attorneys can meet this high burden by specific and detailed allegations of intentional behavior – a burden that can be difficult to meet without discovery. 

Many firms complained about the proposal because it presented many administrative nightmares; such as coordinating with all of their social media.  Indeed, FINRA withdrew the proposal due to industry feedback. 

Brokers should not think for a moment that FINRA is going to give up on finding a way to promote enhanced access to BrokerCheck.  After all, Dodd-Frank directed the SEC to find ways to make brokers’ backgrounds more accessible to investors.  

I think that firms should expect a revised proposal that will give a middle ground.  For example, firms may expect FINRA requiring a link to BrokerCheck on the firm’s web page, but not on social media because social media is too difficult to adequately manage.  Either way, you should be prepared to have to promote BrokerCheck in some form.

The new rules require firms to set up red flag files to track their movement of money and to watch out for identity theft.  Advisory firms must specify the red flags that they use, and how they propose to respond when such red flags are found. 

If firms do not move client funds to third parties, they will still be required to periodically review whether this status has changed, which would require implementation of the red flags.  The SEC noted some basic things that advisors can look for when it comes to possible identity theft. 

Such red flag conduct includes, among others, instructions coming from a client with a new email address; a client saying he has changed an address; a client who wants to invests in a place where he has never invested before; or a client who has requested many credit reports. 

The easiest response by any firm is to call the client to confirm the instructions.  Do not hide behind an email because the email may be bogus.  If the situation is extreme, you may need to contact law enforcement. 

Putting aside the new SEC rules, it is a worthy venture for all firms to look into their policies and procedures when handling client funds to avoid the tragedy that could result from identity theft.  Develop protocols to look for and react to possible identity theft.  Your clients will expect you to do so.

* Photo from freedigitalphotos.net

Ketchum noted certain products that should be subject to heightened supervision.  Those products include: structured products, closed-end funds, private REITs, private placements and “exotic ETFs.  If you offer any of these products, now is the time to revisit your supervision over their sale.

You may ask why such heightened supervision is required.  According to FINRA, it does not believe that many in the investing public understand these products, and that there is a lack of available information about some of them.

Take Ketchum’s comments as a warning.  Revisit your supervision if you sell complex products, or face certain exceptions on your next examination.

In other words, a compliance program is not simply making sure that your representatives check the right boxes on applications.  It has to start with a culture of compliance and leadership from the top down, not the other way around.

It is imperative that upper management set the tone for a culture of compliance by fostering an ethical culture at the firm for others to follow.  Once you set the tone at the top, you can impress that tone throughout your organization, and, hopefully, avoid compliance issues going forward.

* photo from freedigitalphotos.net