As we reported in SAA 2023-15 (Apr. 20), the SEC on April 12, 2023 approved the final version of SR-FINRA-2022-024, which makes substantial reforms to the process for expunging customer information from brokers’ CRD records and profoundly limits the ability of brokers to seek such relief in the first place. Now, on August 11, 2023, after a long delay, FINRA has followed up by issuing Regulatory Notice 23-12. Below, we explain which cases the new rules will affect and how those rules will affect those future expungement requests (subject to some questions of interpretation).
An Effective Date of October 16, but What Does that Mean?
The rule changes include three sets of rules applying to expungements in different scenarios: 1) Rule 12800(d)-(f) applies to expungement of a Small Claims case (as currently defined in FINRA Customer Code of Arbitration Procedure Rule 12800(a)) in the Small Claims proceeding itself; 2) Rule 12805 applies to expungement of a non-Small Claims customer-initiated arbitration in that proceeding; and 3) Rules 13805 and 13806 apply to “straight-in” expungement proceedings, which are arbitrations initiated by a broker for the purpose of expunging customer complaints. The Regulatory Notice states:
Although the second sentence is clear enough that straight-in requests filed by no later than October 15 will not be subject to the new rule changes, the first sentence is somewhat ambiguous as to whether the customer claim or the request for expungement must be filed by that date to be similarly grandfathered. Our interpretation is that the rules only apply to customer cases filed on or after the effective date and not to requests for arbitration in customer claims filed by October 15.
A Bevy of Restrictions on Straight-In Expungement Requests
What happens once the new rules take effect? Rule 13805 imposes the strictest limits on the conditions for making expungement requests, prohibiting straight-in requests if:
Any broker intending to file a straight-in request that would be prohibited under any of these criteria must file it before the effective date of the rule changes.
New Limits on the Right to Expungement Requests in Customer Cases as Well
Brokers will be barred from requesting expungement of customer cases if:
Brokers named as respondents may request arbitration for themselves, and any party may request expungement on behalf of a broker not named as a respondent (known as an on-behalf-of request), if that broker consents to the expungement request. In fact, a broker respondent in a non-Small Claims customer-initiated arbitration who fails to request expungement during that arbitration: “shall be prohibited from seeking to expunge the customer dispute information associated with the customer’s statement of claim in any subsequent proceeding.” Presumably, this prohibition only applies to customer cases subject to Rule 12805, since the waiver only appears in that rule and is not one of the restrictions on expungement listed in Rule 13805 (although a broker might not want to take a chance that the waiver applies to earlier customer disputes). On the other hand, there is no similar waiver if a broker respondent fails to request expungement during a Small Claims case, nor does the failure to file an on-behalf-of request prevent the non-party broker from requesting expungement as a straight-in request.
Other Procedural Hurdles and Pitfalls
Rule 13806 requires the panel in a straight-in proceeding to be chair-eligible, trained in and accepting of FINRA’s Expanded Expungement Guidance (as must any arbitrator deciding an expungement request in a Small Claims case) and appointed at random without party input. The panel must deny expungement relief to a broker found liable in the proceeding, and withdrawing an expungement request in any proceeding also results in automatic denial. The rules also impose critical procedural time limitations. An expungement request in a Small Claims case must be filed within 30 days after the requesting party is notified of the appointment of an arbitrator, and in a non-Small Claims case no later than 60 days before the first scheduled hearing, unless in the latter case the panel grants a motion for extension of time to do so. The broker claimant in a straight-in request must serve the affected customers with the pleadings within 10 days after their filing: “unless the panel determines that extraordinary circumstances make such filing impracticable….” Rule 13805 also imposes strict pleading standards and protects the rights of customers to participate fully throughout the proceeding, and all three sets of rules give state securities regulators the opportunity to do so as well. Finally, all arbitrators must agree to the grant of an expungement request, or the request is denied.
Another Unanswered Question About a Potential Pitfall
As we previously stated, the same customer dispute information may only be expunged once, but the rules don’t define what customer dispute information is or when it is the same. This poses a problem: Consider a broker who obtains expungement of a complaint one of his or her customers made to the broker’s employer that was false or alleged misconduct with which he or she wasn’t involved. If the customer subsequently files an arbitration based on the same complaint, is it a separate customer dispute because it gets a new occurrence number or is it the same dispute because it involves the same accounts, securities and conduct? We believe the likely answer is the former, because the rules do distinguish between “customer dispute information” and “the same conduct” in the context of regulatory actions. Furthermore, if the answer is the latter, that would be unfair to the broker because he or she would no longer be able to expunge the information, despite having a meritorious case for expungement.
(ed: *The Notice directs anyone with questions about it to contact: “Victoria Crane, Vice President and Associate General Counsel, Office of General Counsel, at (202) 728-8104 or email; Mignon McLemore, Associate General Counsel, Office of General Counsel, at (202) 728-8151 or email; or Bria Adams, Principal Counsel, Office of General Counsel, at (202) 728-8829 or email.” **The form to make an on-behalf-of request under the new rules is attached to the Notice. ***The Reg Notice is also available in PDF format. ****This Squib was prepared by Harry A. Jacobowitz, President of HAJ Research and Writing LLC. Mr. Jacobowitz, a member of the Pennsylvania bar, and his firm perform legal research and writing for attorneys and handle substantive searches of SAC’s Award database. He can be contacted at harryjacobowitz@optimum.net.)
