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Classification Rule Comment Period Ends. An Eclectic Array of Comments – Analysis, Part II
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The comment period for FINRA’s classification rule proposal expired on July 24th and, although there were several expressions of unequivocal support, a majority of those commenting on the proposal expressed concerns or suggested changes. Last week, we provided a high-level overview of the comments (see SAA 2014-28). This week we review suggestions for changes offered by some commenters.

We have reported previously on SR-FINRA-2014-28 (see SAAs 2014-28, 24 and 23). As described on the FINRA Website, “the amendments would, among other matters, provide that persons who worked in the financial industry for any duration during their careers would always be classified as non-public arbitrators, and persons who represent investors or the financial industry as a significant part of their business would also be classified as non-public, but could become public arbitrators after a cooling-off period. The amendments would reorganize the definitions to make it easier for arbitrator applicants and parties, among others, to determine the correct arbitrator classification."

Comments – An Overview

At a very high level, the 20 comment letters break down this way: six commenters urged approval without reservation, five opposed the proposal, and nine support some aspects of the proposal but oppose others. We analyze the proposed additional fixes below. Space limitations require us to focus on just a few key points for each commenter; full comments can be read here.

Institutional Comments

The institutional comments aligned in that they were generally supportive of the rule filings, albeit with reservations or conditions, as described below.

SIFMA generally supports the rule, but as we noted last week it makes clear that, if the core elements of the proposal unravel, it reserves the right to rescind its agreement. Says SIFMA, “our support is predicated on passage of both of the two major components of the Proposal – both the ‘worked-in-the-industry’ and the ‘claimant’s representative’ provisions…. We emphasize this point in particular only because we have begun to see in the publicly available comments on the Proposal, as we anticipated, attacks by claimants’ lawyers on the ‘claimant’s representative’ provision in the Proposal.”

PIABA supports approval, but states that it “believes that the definition of ‘non-public Arbitrator’ needs to be revised further to include other industry professionals who, under the current proposal, could improperly qualify as ‘public’ arbitrators, despite their ties to the industry.” Referring to its February 7, 2013 comment letter on an earlier classification rule filing, PIABA suggests language to amend proposed Rule 12100(p). It also opposes the part of the proposal “under which attorneys and other professionals who service investors in securities disputes would be prevented from serving as ‘public’ arbitrators. Such change would mark a radical departure from the historical logic of designating arbitrators as ‘non-public’ vs. ‘public’ [footnote omitted].”

NASAA supports the thrust of the proposed rule, but states that “it regrettably creates new challenges that stand to further prejudice the rights of investors already forced to litigate their claims in their adversary’s preferred forum.” While it likes some aspects of the proposed rule, such as “if you ever worked in the industry, you will always be a non-public arbitrator,” it finds several aspects to be “problematic,” chief among them “FINRA’s proposal to eliminate from the public arbitrator pool professionals who represent individual investors.”

American Association for Justice (formerly the American Trial Lawyers Association) supports the proposed rule, and calls for an end to mandatory or “forced” arbitration. As noted last week, the letter contained a major error, where it states, “…there is no requirement that forced arbitration decisions be made public…” See FINRA Rule 12904(h), which very plainly states, “All awards shall be made publicly available.”

Financial Services Institute supports reclassifying investor advocates, but proposes “the removal of the five-year cooling-off provision for persons who work in the financial industry [because it] will lead to unintended consequences, particularly due to the fact that other professionals categorized as non-public arbitrators are provided a cooling-off period.”

Pace/John Jay Clinic urges approval, but suggests changes: “(1) define a non-public arbitrator as an ‘industry-funded’ arbitrator; (2) define ‘professional work’ through annual revenue; and (3) implement a proportional cooling-off period for professionals who worked in the securities industry and for professionals who provided services to the industry before they can be placed on the public roster.”

Individual Commenters

For the most part, we covered individual commenters last week. We address here some of the noteworthy suggested changes. Richard A. Stephens, and independent financial adviser and public Arbitrator, submitted a 14-page letter offering specific amendments. A major theme was that “SEC and FINRA should reverse the attempt by the proposed rules 12100(p)(3), (u)(3), and (u)(7), without any legitimate stated rationale, to seismically shift large numbers of public non-industry arbitrators into the ‘non-public’ pool a/k/a the ‘industry’ pool to render them effectively useless arbs vs cust attys [sic].” Public Arbitrator Gary Hardiman also had concerns about “burying professionals who represent the investing public in the industry non-public side” and public and chair-qualified Arbitrator Daniel Bacine stated that “the proposed rule changes that would classify professionals who represent investors as non-public arbitrators would distort the purpose of the public/non-public distinction and should not be adopted or should be modified.”

As reported last week, Richard Ryder of this publication is concerned that there has not been a cost-benefit analysis – at least on the face of the rule filing – especially as to whether FINRA will have enough arbitrators. Ryder states, “I think it quite possible that the adoption of these new restrictions on who qualifies as a Public Arbitrator, combined with FINRA’s persistent move towards making the Non-Public Arbitrator a diminishing presence in its arbitrations, will render FINRA a forum that is less able to handle increased caseloads effectively, especially in customer disputes.”

We also reported last week that immediate past FINRA Director of Arbitration George Friedman opposed the rule as expressed in an article in this month’s Securities Arbitration Commentator. Specifically, he urges FINRA to go back to the drawing board and offers six specific suggestions: 1) keep it simple; 2) move to pure public arbitrators as the rule proposes but do not designate all newly-reclassified arbitrators as non-public; 3) do not keep arbitrators non-public forever; 4) go back to an “affiliated with the securities industry classification,” especially for the Industry Code; 5) do a cost-benefit analysis on the rule’s potential impact (or reveal the results if one has been done); and 6) have the newly-formed Arbitration Task Force review the rule filing.”

(ed: *We had suspected from SIFMA’s letter that this proposal was a compromise package. This was confirmed by FINRA staff at last week’s PLI securities arbitration program, which we cover elsewhere in this Alert. If FINRA makes substantial changes based on the comments, it will have to file amendments to the proposal. As we said last week, that in turn will endanger the compromise. As always, we will track this and report on developments. **As we went to press, we saw on the FINRA Website that the Authority had granted to SEC an extension to October 1 to act on the rule filing. This is not at all surprising, given the complexity of the rule filing and scope of the comments. ***At last week’s PLI securities arbitration program, FINRA staff said that SEC had received close to 300 essentially identical letters that SEC was treating as one letter. “It” can be found here. While supportive of the proposal, the letters – all from independent financial advisers – take issue with elimination of the five-year cooling off period for those serving the industry.) (SAC Ref. No. 2014-29-01)


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