SEC rejects appeal of decision shielding FINRA oversight from public

The SEC is concealing any problems it may have uncovered and addressed at FINRA in recent years from the public, financial advisors, wealth managers and their clients.

The Wall Street regulator, which supervises registered investment advisors and U.S. capital markets, serves as the only overseer of FINRA, which regulates brokers. The Government Accountability Office, a watchdog agency that reports to Congress, found in an audit last year that the SEC's frequent examinations and inspections of FINRA showed a need for clearer metrics, accountability and communication among the two regulators. But the report left out "confidential supervisory information" on the details of any conclusions or actions taken by the SEC as part of 69 different exams it conducted of FINRA between 2018 and 2020. 

It's the first time that the SEC has restricted any part of the watchdog agency's triennial reports about its supervision of FINRA as "controlled unclassified information" that is too sensitive to be released publicly. After taking six months to reject Financial Planning's initial Freedom of Information Act request for the details, the SEC tossed out FP's appeal in less than one. The denial omits any clues about what, if anything, the SEC ordered FINRA to change about its operations in order to better protect investors and enable market integrity. While FINRA has reformed in meaningful ways, its critics say it could perform much better on its core missions.

Describing FINRA as a "financial institution" for the purposes of the SEC's exemptions from the Act, Assistant General Counsel for Litigation and Administrative Practice Melinda Hardy said in an Aug. 22 letter to FP that the law doesn't apply to any "examination, operating or condition reports" used by an agency that regulates financial institutions. 

A "broad interpretation" stemming from several court cases on exemptions from scrutiny helps "protect the security of financial institutions by withholding from the public materials containing frank evaluations of these entities, and to promote cooperation and communication between regulated entities and their examiners," Hardy wrote. The disclosure of the SEC's findings in its exams, she added "could compromise the Commission's oversight of regulated entities, including FINRA."

Hardy said she determined that partial sharing of the records also wouldn't be consistent with the purposes of exemption. FP can seek judicial review of the agency's decisions by filing a lawsuit against the agency in federal court.

Practice and client management

5 tips to strip stress out of your next SEC, FINRA or state regulatory audit

August 30, 2022 1:13 PM

Representatives for the SEC didn't respond to requests for further information about its oversight of FINRA or its reasons for not sharing the results of exams publicly. 

GAO officials also rejected FP's requests for the records, citing the SEC's determination that the information is too sensitive to be public. A half dozen members of Congress on committees that oversee the SEC didn't respond to inquiries asking to obtain the records.

The Financial Industry Regulatory Authority is not a government agency per se and is technically a self-regulatory organization that's overseen by the SEC, a status that does not appear to fit with Hardy's classification. It is not a financial institution, according to widely accepted definitions, or its own. On its website, FINRA calls itself "a government-authorized not-for-profit organization."

According to the Code of Federal Regulations, a list of general and permanent regulations published by the executive departments and agencies of the federal government, a financial institution means "any U.S. entity that is engaged in the business of accepting deposits, making, granting, transferring, holding, or brokering loans or credits, or purchasing or selling foreign exchange, securities, commodity futures or options, or procuring purchasers and sellers thereof, as principal or agent."

Regardless, the SEC has closed access to its FINRA exam findings. The GAO's audit of the SEC is one of 32 in the last fiscal year designated as "restricted" based on executive agency determinations that they had "classified information or controlled unclassified information." While the watchdog of the federal government completed its full report in July 2021, five months before it released a public version, the former is available only to Congress. Besides covering predictable classified topics such as military ships, aircraft and weapons, other restricted reports include ones on IRS operations, digital currencies and information technology.

Regulation and compliance

FINRA board member's firm settles cases without disclosure of conflicts

September 6, 2022 6:01 PM

In 2010, the Dodd-Frank Law sought to restore faith in the financial system during the Great Recession and after the revelations of the Bernie Madoff scam, in part through a provision ordering the GAO to probe the SEC's oversight of FINRA every three years. While it's unclear what findings or initiatives are missing from the public version of the GAO's report, the deletion should concern advisors and the public because it allows the regulators to avoid any potential accountability, said fraud and regulatory expert Douglas Schulz of Invest Securities Consulting.

"Every scam, every fraud perpetrated on the American investor has been done right under the nose of FINRA and the SEC," Schulz said. "It may be that it's not so much that we might see what the SEC found is wrong with FINRA. We might see that they hardly did anything."

In June, the GAO issued an incremental report noting that the SEC is working to implement the watchdog's three recommendations stemming from its earlier review of the SEC's FINRA oversight. The SEC "generally agreed" with the watchdog's proposals calling for more reliable performance measures of performance, better tracking of deficiencies and corrective actions and new procedures to explain the significance of its FINRA exam findings. In its report last year, the GAO took the SEC to task for what it called a lack of "outcome-oriented" data and "useful information for decision-making" from its reviews of FINRA.