Updated Tuesday, July 29, 2014 as of 2:47 AM ET
Industry - Career Moves
FINRA Punishes Good Advisors Along With the Bad Ones
Monday, May 5, 2014
Partner Insights

A recent Wall Street Journal article reported that more than 1,600 advisors who declared personal bankruptcy or faced criminal charges had failed to notify FINRA and the firms for which they worked. And, the article noted, those advisors had more client complaints and regulatory actions on their records than their solvent colleagues who had never been charged with a crime.

As someone who has followed the wealth management industry for many years (back to the days when it was called “retail brokerage”), it comes as no surprise that those whom the public trusts to manage its money are often terrible at managing their own.

In the 1990s, Merrill Lynch had a deferred stock award program called FCAAP. Advisors who met certain productivity criteria during the year were awarded Merrill Lynch stock. The award was still taxable income, so advisors who were given, for example, $100,000 in MER were required to have $35,000 withheld to pay taxes. Yet even though they knew the awards were coming, these advisors often had to sell other securities in order to come up with the cash to pay the taxman. Not exactly textbook financial planning.

Similarly, during the Sandy Weil era, Smith Barney advisors were encouraged to invest their own money in Citi stock. Employees were allowed to defer a portion of their income and use the money to buy Citi at a 25% discount. For years, this “CAP” plan was a remarkable retention and recruiting tool, and branch managers, who were incented by Citi to have their advisors participate in the plan, each year would require them to put 10% of their income into CAP.

Yet many Smith Barney advisors often begged to be released from the program. Even though buying a blue chip stock at a 25% discount with as much pre-tax earnings as possible was the ultimate financial “no-brainer,” the firm’s advisors often failed to take advantage of the program, because they were tapped out. Again, not exactly textbook financial planning.

Back then, advisors with Smith Barney and Merrill Lynch were regarded as the most well-trained, most professional, and working for firms with the strongest cultures. But even those advisors often lived above their means, suffered through financially draining divorces and, perhaps at times, engaged in legally questionable behavior.

I bring all this up by way of acknowledging that many advisors—like many doctors and lawyers—are less than perfect. Some of them are truly bad advisors, only interested in their own well-being at the expense of their clients.

But my experience during 30 years as a recruiter in this industry teaches me that the vast majority of advisors care passionately about their clients and take their responsibility for their clients’ financial well-being very seriously. So while the Journal headline screams about how crooked, broke advisors are allowed to continue working, I also think it’s fair to examine how FINRA, and the industry in general, tars those advisors who uphold the law and act responsibly with the same brush.

Under the current regulatory regime:

1. An advisor is guilty until proven innocent, and the accusations stay on his or her record forever.

Absurd accusations, though denied; any written complaint, no matter how unfounded or trivial, appear indefinitely on the advisor’s publicly available BrokerCheck record. It is possible for brokerage firms to have those complaints expunged, if they were willing to expend the time, money and effort to do so, but that almost never happens.

2. Brokerage firms will settle groundless complaints in order to avoid the expense of litigation, even though doing so becomes a permanent smear on an advisor’s record.

An unhappy client writes a complaint alleging unauthorized trading, unsuitable recommendations and churning (the unholy triad of non-compliance). The advisor provides his firm with notes of meetings and conversations with the client, including phone records proving that they spoke frequently about the investment in question and its impact on the client’s portfolio. He also shows his management the client’s financial plan, which supports his contentions.

The advisor wants to go to arbitration to show the world that he did nothing wrong. Yet even though the firm believes him, it insists on settling for $100,000 because it wants to avoid the cost of further litigation and the risk that arbitrators will view the matter differently. This customer complaint shows up on the advisor’s cover page on BrokerCheck as “Customer Complaint – 1.”  Details of the complaint and the “business” reasons for settling it are only seen if a curious party takes the time to open up the accompanying PDF.

3. Contingency torts attorneys aggressively market their services to investors as a way to recoup investment losses.

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