SEC Approves FINRA Expungement Rule Proposal

We have covered extensively FINRA’s proposed new rule that would prohibit conditioning a settlement on a customer’s agreement not to oppose expungement (see, e.g., SAAs 2014-22, 21 and 19). It has now been approved for implementation by the SEC.

The next step in the process is publication by FINRA of a Regulatory Notice that will establish the new rule’s effective date.

Background: When we last checked, the SEC on June 5th had filed a notice extending to July 22nd its time to act on the proposal. As the clock was ticking down, FINRA responded to comments on July 18th and then the Commission on July 22nd approved the rule (see Approval Order of July 22, 2014 (Release No. 34-72649; File No. SR-FINRA-2014-020)). To review, a new Rule 2081 (ed: this would follow immediately Rule 2080, the current expungement rule) will “provide that no member or associated person shall condition or seek to condition settlement of a dispute with a customer on, or to otherwise compensate the customer for, the customer’s agreement to consent to, or not to oppose, the member’s or associated person’s request to expunge such customer dispute information from the CRD system.” The rule would apply to both written and oral agreements, as well as those separate from the main agreement.

Comments & FINRA’s Response: Fifteen comment letters were submitted by interested parties. By FINRA’s count, as expressed in the response letter from FINRA Associate General Counsel Victoria Crane, a majority of the comment letters supported the proposal. Many of those letters in support, however, contained critical comments, as we noted in our coverage (see, esp., SAA 2014-19). While it declined to make any changes to the text of the proposal, FINRA did undertake to update its Arbitrator Guidance “to help ensure that arbitrators are aware of the prohibition in the rule….” It also offered clarifications that should help practitioners navigate the settlement process without foundering on these shoals (see responses to SIFMA & Ryder comments). In addition, it promised further guidance in response to fact-based queries from members and others. And, finally, FINRA noted that it will update and upgrade its expungement training materials, once the rulemaking is approved.

Approval With Reservations: Although the SEC approved the rule, it clearly still has some concerns. Toward the end of the Approval Order it states, “Although the proposed rule change is a constructive step to help assure that the expungement of customer dispute information is an extraordinary remedy that is permitted only in the appropriate narrow circumstances contemplated by FINRA rules, the Commission notes the high number of cases where arbitrators grant brokers’ expungement requests. When information is expunged from the CRD, it is no longer available to regulators, broker-dealers, or the investing public. Both regulators and the investing public are disadvantaged when factual information is removed from the CRD. The Commission encourages FINRA to conduct a comprehensive review of its expungement rules and procedures to determine whether additional rulemaking is necessary or appropriate to assure that expungement in fact is treated as an extraordinary remedy that is permitted only where the information to be expunged has no meaningful investor protection or regulatory value.”

(ed: *Seems to us the review the SEC asks for supplies another agenda item for the newly-formed FINRA Arbitration Task Force. **The Commission’s reference to “no meaningful investor protection or regulatory value” echoes language used by FINRA in making the proposal. SIFMA objected to this language as adding a “significantly expanded requirement for expungement relief. FINRA responded that the requirement was not new and the SEC evidently ratifies that position.) (SAC Ref. No. 2014-27-02)