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How expungement-only cases are ‘gamed, exploited and abused’ by brokers

A standard client tool for vetting advisors isn’t as reliable as it used to be.

FINRA BrokerCheck has been stripped of more than 1,000 cases of broker misconduct over the last four years thanks to a broken expungement process that is pockmarked with loopholes. How can clients do their due diligence without all the facts? Here's how things went off the rails.

In the expungement process, brokers are supposed to be able to challenge and, in extraordinary cases, erase irrelevant or misleading background details from their public records.

That expungement process once attracted a trickle of cases. But today, the floodgates are wide open and the number of expungement cases filed by brokers against their brokerage firms has risen nearly 1,000% in the last four years.

This Get Out Of Jail Free process for broker records is of particular concern because it happens in industry-run securities arbitration — the same arbitration forum in which investors must bring most of their claims. While FINRA arbitration is designed to hear and decide disputed claims, it is wholly unsuited to make regulatory determinations as to whether a customer complaint against a broker should be erased from the public record.

Expungement is a process where it seems almost impossible for an industry-run arbitration forum to put the public’s interests first. In fact, a PIABA Foundation expungement study released this month concludes that the broker expungement process is “broken” as a result of being “systematically gamed, exploited and abused” by brokers and brokerage firms.

How bad is the situation? In 2015 there were 59 filings of expungement-only cases; in 2018, there were 545 — an increase of 924%, according to the PIABA study. (An Expungement-Only case is an arbitration initiated by a broker against their own brokerage firm solely for the purpose of seeking to erase a customer complaint listed on the broker’s regulatory record, without naming the customer as a party.)

Here are just some of the problems uncovered in the PIABA Foundation study:

$1 expungement cases” involving the request by brokers for $1 in damages and then withdrawing the request at the expungement hearing in a bid to slash costs, reduce the number of arbitrators reviewing each case from three arbitrators to one, and to game FINRA’s process to select friendly arbitrators. One clear sign of trouble: Roughly three out of four of these cases (73%) are being handled by just two law firms that have made it their specialty

To add insult to injury, FINRA is paying the freight for expungement cases with the sham $1 damage claims. FINRA lost at least $8,050 per case in revenue according to PIABA, which amounts to more than $6 million in lost revenue over the last four years

Arbitrators hear only one side of the story. Since brokers and their brokerage firms both have an interest in erasing customer complaints from the brokers’ records, they are rarely in opposition to each other. Of the 1,078 cases surveyed in the PIABA study’s review period the respondent brokerage firm did not object or otherwise oppose the individual broker’s expungement request in 1,055 cases — over 98% of the time

Although customers are supposed to receive meaningful notice so as to be able to appear and object at an expungement proceeding, it appears that does not always happen. Of the 1,078 cases, customers whose complaints were the subject of expungement requests participated and objected to brokers’ expungement requests only 141 times – just 13% of the time.

FINRA headquarters

These are some of the abundant signs that the expungement process at FINRA is broken. The data show that when a brokerage firm or a customer opposes a request for expungement, arbitrators are significantly more likely to deny the request. Even though respondent brokerage firms opposed expungement less than 2% of the time, doing so resulted in arbitrators denying the expungement requests about half (48%) of the time. When brokerage firms did not object, arbitrators denied the expungement requests only 11% of the time.

In a recent case, a broker used the $1 ploy to get a single arbitrator in Houston and requested that five customer complaints that had settled for well over a million dollars be expunged from his public record. That request was granted. Those complaints are now permanently erased from the public record.

In another case, a broker requested that 24 customer complaints be erased, and the brokerage firm respondent did not participate. That request was granted in one evidentiary hearing by one FINRA arbitrator.

Fixing the problem

All of the information in those cases was put in the public record for a good reason: so that investors have all relevant facts about the background of the people handling their money. FINRA has tinkered with the expungement process, but Band-Aids won’t do when major surgery is needed. As a result of the PIABA Foundation’s study, it has become clear that investors need to know they can no longer rely on the BrokerCheck background disclosure system to investigate the background of brokers.

FINRA needs to freeze all pending expungements until a complete independent investigation is conducted and adequate procedural safeguards are put into place to correct the problems identified in the PIABA Foundation study.

The study also recommends that the Securities and Exchange Commission) or FINRA appoint an independent investor advocate to participate in all future expungement proceedings to protect the integrity of the regulatory record … and FINRA should pay for it!

Major action needs to be taken to make sure the public’s interest is placed ahead of the brokerage industry’s agenda in order to fix the broken expungement process once and for all.

This opinion piece was written by Jason Doss and Celiza (Lisa) Bragança. Doss co-authored the PIABA Foundation 2019 expungement study, which can be found at www.piabafoundation.org. He is the president of the PIABA Foundation and an Atlanta area attorney. Bragança, a former SEC branch chief, is a co-author of the study, a Board member of the PIABA Foundation, and a Chicago area attorney.

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