On July 29, 2022, FINRA sent a new set of proposed rule changes designed to overhaul the expungement process to the SEC for approval. These proposed rules come as a follow-up to FINRA’s original proposal submitted to the SEC in September 2020. FINRA withdrew the previous proposal in May 2021 “in response to concerns raised by SEC staff and commenters,” leading many to believe that FINRA intended to modify the proposal to impose even more stringent requirements for expungement. That belief is now being proven true, with the proposal calling for shorter deadlines and authorizing state securities regulators to participate in straight-in requests (expungement-only actions), among other changes.
The SEC can request public comment and make modifications to the proposal before making a final decision. If the Commission approves the proposed rule change, FINRA would then announce the effective date of the proposed rule change in a Regulatory Notice. If approved, the rules would likely become effective in early 2023.
Most notably, the new rules would:
- require that all straight-in requests be decided by a three-person panel that is randomly selected from a special roster of arbitrators.[1] No rankings, strikes, or stipulations related to the appointment of arbitrators (other than removal for cause) will be permitted in these cases;
- impose the following “strict time limits” on the filing of straight-in requests:
- Must file within two (2) years after the close of the customer-initiated arbitration or civil litigation associated with the customer dispute information;
- Must file within three (3) years after the date the customer complaint was initially reported in the CRD system if the customer complaint does not evolve into a customer-initiated arbitration or civil litigation[2]; or
- For customer dispute information reported to the CRD system before the effective date of the rule change, Associated Persons (“APs”) would have two (2) years from the effective date of the new rule to seek expungement of existing litigation disclosures and three (3) years from the effective date of the new rule to seek expungement of complaint disclosures.
- notify state securities regulators of all expungement requests and allow regulators to participate in straight-in requests[3];
- require a unanimous decision for all expungement relief;
- require APs named in a customer arbitration to request expungement during that customer arbitration or forfeit the opportunity;
- require that requests for expungement during a customer arbitration be made in the Answer or another pleading at least sixty (60) days prior to the first scheduled hearing,[4] absent an extension granted by the panel;[5]
- Allow expungement requests in customer arbitrations (whether by a named party or not) to be decided only if the case proceeds to a hearing on the merits. If the case settles or is otherwise dismissed prior to the hearing, the AP would be required to file a straight-in request; and
- prohibit any expungement request from being withdrawn;
- codify and update the best practices previously published by FINRA in the Notice to Arbitrators and Parties on Expanded Expungement Guidance.
Other notable aspects of the recent proposal include:
On-Behalf-of Requests:
- On-behalf-of requests (by a party on behalf of a non-party AP) are permissive, not mandatory;
- Firms making an on-behalf-of request must submit a “Form Requesting Expungement on Behalf of an Unnamed Person” signed by the unnamed person to ensure that he/she is aware of the request;
- If the AP is neither a party to the arbitration nor the subject of an on-behalf-of request, the AP will not be allowed to intervene in a customer arbitration to request expungement;
- A party requesting expungement on-behalf-of an unnamed person must also appear in person or by video at the hearing;
Straight-in Requests:
- Straight-in requests must be filed under the Industry Code against the firm at which the AP was associated at the time of the events giving rise to the customer dispute[6];
- The Director would include language in the customer notice to encourage the customer to attend and participate in the expungement hearing. The AP would be required to provide a current address for the customer, or the expungement request would be considered deficient and would not be served;
- The Director would also provide the notified customers with access to all documents relevant to the expungement request.
- State securities regulators must notify the Director no later than thirty (30) days after the last Answer is due if they wish to attend and participate in the expungement hearing;
- APs must appear at the expungement hearing either in-person or by video conference (applicable for all expungement requests);
- Customers are allowed to attend and participate in any prehearing conferences;
All Requests:
- Panels are authorized to request any documentary, testimonial or other evidence deemed relevant from the firm or AP seeking expungement.
- If the customer files an arbitration claim after expungement is obtained, the prior expungement award shall not be admissible in the customer arbitration;
FINRA states that the proposed rules attempt to balance competing interests, including the interests of securities regulators in having accurate and relevant information, the interests of investors in having access to accurate and meaningful information, the interests of broker-dealer firms in having accurate information for use in making informed employment decisions, and the interests of the brokerage community in having a fair process to address inaccurate customer dispute information. While the proposed rules provide more structure and guidance for the expungement process, if enacted, they would also make the process more costly and burdensome for all parties involved.
[1] The special roster will be comprised of chair-eligible public arbitrators who have completed enhanced expungement training provided by FINRA and who have served as an arbitrator through award on at least four customer arbitrations administered by FINRA or by another SRO in which a hearing was held.
[2] FINRA’s 2020 proposal would have allowed six years in this circumstance. Under the proposed rules, the Director would have express authority to decline the use of the arbitration forum if an AP files an expungement request that the Director determines is ineligible for arbitration.
[3] FINRA’s 2020 proposal did not provide for participation by regulators.
[4] This deadline was thirty (30) days in FINRA’s 2020 proposal.
[5] This request must include: (i) the applicable filing fee; (ii) the CRD number of the person requesting expungement; (iii) the Occurrence Number of the complaint at issue; and (iv) confirmation that there has been no prior request for expungement of the same complaint. Failure to include all of this information will render the request deficient, and it will not be served until the deficiencies are corrected.
[6] APs are prohibited from filing a straight-in request against a customer.