Independent Broker Dealer Consortium

FINRA Regulatory Notice 18-13

On April 20, 2018, the Financial Industry Regulatory Authority (“FINRA”) issued Regulatory Notice 18-13, which seeks comments on proposed amendments to the Quantitative Suitability Obligation under Supplementary Material .05(c) of FINRA Rule 2111, commonly referred to as the Suitability Rule. The proposed amendments would remove the control element of FINRA Rule 2111.

In order to codify a line of cases that addressed excessive trading, the Quantitative Suitability Obligation under Rule 2111 currently requires a broker who has control over a customer’s account to have a reasonable basis to believe that the recommended series of transactions are not excessive and unsuitable, even if the individual transactions are suitable when viewed in isolation. In short, to prove a violation of the Quantitative Suitability Obligation FINRA must show that the broker had control over the account.

Under Rule 2111, a broker can have actual or de facto control of a customer’s account. Actual control is when the broker has formal discretionary authority. De facto control can occur when a customer routinely accepts the broker’s recommendation because the customer cannot independently evaluate the recommendation and exercise independent judgment.

Since 2012 when the Suitability Rule became effective there has been concern that the control element is an impediment to investor protection and provides an undeserved defense to brokers because customers may not want to admit that they are unable to exercise independent judgment in their financial matters. In light of this concern, this proposed revision seeks to remove the control element of the Quantitative Suitability Obligation with its proposed amendments.

The proposed amendments remove “who has actual or de facto control over a customer account” from the Quantitative Suitability Obligation under Supplementary Material .05(c) of Rule 2111. In addition to proving that the subject transactions are excessive and unsuitable, the proposed amendments would require FINRA to show that a broker recommended the subject transactions. Regardless of the proposed amendments, determining whether excessive trading occurred in a customer’s account will remain a fact-intensive examination requiring an analysis of a specific customer’s investment profile.

The FINRA comment period ends on June 19, 2018. Winget, Spadafora & Schwartzberg, LLP is closely monitoring this development. If you would like to discuss the implications of the proposed rule change or would like compliance guidance, please do not hesitate to contact any of the firm’s securities practice group leaders set forth below.

Luigi (Lou) Spadafora
(212) 221-6900

Michael Schwartzberg
(212) 221-6900

Benjamin Biard
(305) 830-0600

Denis Dice
(215) 433-1502

Derek Anderson
(303) 482-1046

Brian Palmeri
(203) 328-1200


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