[Federal Register Volume 85, Number 242 (Wednesday, December 16, 2020)]
[Notices]
[Pages 81540-81548]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2020-27626]


-----------------------------------------------------------------------

SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-90635; File No. SR-FINRA-2020-011]


Self-Regulatory Organizations; Financial Industry Regulatory 
Authority, Inc.; Order Approving a Proposed Rule Change, as Modified by 
Amendment No. 1, To Address Brokers With a Significant History of 
Misconduct

December 10, 2020.

I. Introduction

    On April 3, 2020, Financial Industry Regulatory Authority, Inc. 
(``FINRA'') filed with the Securities and Exchange Commission 
(``Commission''), pursuant to Section 19(b)(1) of the Securities 
Exchange Act of 1934 (``Exchange Act'') \1\ and Rule 19b-4 
thereunder,\2\ a proposed rule change to amend FINRA's rules to help 
further address the issue of associated persons with a significant 
history of misconduct and the broker-dealers that employ them.
---------------------------------------------------------------------------

    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
---------------------------------------------------------------------------

    The proposed rule change was published for comment in the Federal

[[Page 81541]]

Register on April 14, 2020.\3\ On May 27, 2020, FINRA consented to an 
extension of the time period in which the Commission must approve the 
proposed rule change, disapprove the proposed rule change, or institute 
proceedings to determine whether to approve or disapprove the proposed 
rule change to July 13, 2020.\4\ On July 2, 2020, FINRA responded to 
the comment letters received in response to the Notice and filed an 
amendment to the proposed rule change (``Amendment No. 1'').\5\ On July 
13, 2020, the Commission filed an Order Instituting Proceedings to 
determine whether to approve or disapprove the proposed rule change, as 
modified by Amendment No. 1.\6\ On October 5, 2020, FINRA consented to 
an extension of the time period in which the Commission must approve 
the proposed rule change, disapprove the proposed rule change, or 
institute proceedings to determine whether to approve or disapprove the 
proposed rule change to December 10, 2020.\7\ On October 7, FINRA 
responded to the comment letter received in response to the Order 
Instituting Proceedings.\8\ This order approves the proposed rule 
change, as modified by Amendment No. 1.
---------------------------------------------------------------------------

    \3\ See Exchange Act Release No. 88600 (Apr. 8, 2020), 85 FR 
20745 (Apr. 14, 2020) (File No. SR-FINRA-2020-011) (``Notice'').
    \4\ See letter from Michael Garawski, Associate General Counsel, 
Office of General Counsel, FINRA, to Daniel Fisher, Branch Chief, 
Division of Trading and Markets, Commission, dated May 27, 2020.
    \5\ See letter from Michael Garawski, Associate General Counsel, 
Office of General Counsel, FINRA, to Vanessa Countryman, Secretary, 
Commission, dated July 2, 2020 (``FINRA July 2 Letter''). The FINRA 
July 2 Letter is available at the Commission's website at https://www.sec.gov/comments/sr-finra-2020-011/srfinra2020011-7399761-219028.pdf. Amendment No. 1 is available at https://www.finra.org/sites/default/files/2020-07/sr-finra-2020-011-amendment-no-1.pdf.
    \6\ See Exchange Act Release No. 89305 (July 13, 2020), 85 FR 
43627 (July 17, 2020) (File No. SR-FINRA-2020-011) (``Order 
Instituting Proceedings'').
    \7\ See letter from Michael Garawski, Associate General Counsel, 
Office of General Counsel, FINRA, to Daniel Fisher, Branch Chief, 
Division of Trading and Markets, Commission, dated October 5, 2020.
    \8\ See letter from Michael Garawski, Associate General Counsel, 
Office of General Counsel, FINRA, to Vanessa Countryman, Secretary, 
Commission, dated October 7, 2020 (``FINRA October 7 Letter''). The 
FINRA October 7 Letter is available at the Commission's website at 
https://www.sec.gov/comments/sr-finra-2020-011/srfinra2020011-7884211-224193.pdf.
---------------------------------------------------------------------------

II. Description of the Proposed Rule Change

Background

    FINRA's proposed rule change would: (1) Amend the FINRA Rule 9200 
Series (Disciplinary Proceedings) and the 9300 Series (Review of 
Disciplinary Proceedings by National Adjudicatory Council and FINRA 
Board; Application for SEC Review) to allow a hearing officer to impose 
conditions or restrictions on the activities of a respondent member 
broker-dealer or respondent associated person (each a ``Respondent'' or 
collectively ``Respondents''), and require the member broker-dealer 
employing a respondent associated person to adopt heightened 
supervisory procedures for such associated persons, when a disciplinary 
matter is appealed to the National Adjudicatory Council (``NAC'') or 
called for NAC review; (2) amend the FINRA Rule 9520 Series 
(Eligibility Proceedings) to require member broker-dealers to adopt 
heightened supervisory procedures for statutorily disqualified 
associated persons during the period a statutory disqualification 
eligibility request is under review by FINRA; (3) amend FINRA Rule 8312 
(FINRA BrokerCheck Disclosure) to require disclosure through FINRA 
BrokerCheck of the status of a member broker-dealer as a ``taping 
firm'' under FINRA Rule 3170 (Tape Recording of Registered Persons by 
Certain Firms); and (4) amend the FINRA Rule 1000 Series (Member 
Application and Associated Person Registration) to require a member 
broker-dealer to submit a written request to FINRA's Department of 
Member Regulation (``Member Regulation''), through the Membership 
Application Group (``MAP Group''), seeking a materiality consultation 
\9\ and approval of a continuing membership application, if required, 
when a natural person seeking to become an owner, control person, 
principal, or registered person of the member broker-dealer has, in the 
prior five years, one or more ``final criminal matters'' or two or more 
``specified risk events.'' \10\
---------------------------------------------------------------------------

    \9\ In general, a member broker-dealer initiates a materiality 
consultation with Member Regulation by submitting a letter, 
requesting its determination on whether a proposed change is 
material such that it requires the submission of a Continuing 
Membership Application (``CMA''). If Member Regulation determines 
that a proposed change is material, it will instruct the broker-
dealer to file a CMA if it intends to proceed with the proposed 
change. See Regulatory Notice 18-23 (Proposal Regarding the Rules 
Governing the New and Continuing Membership Application Process) 
(July 2018).
    \10\ See Notice at 20745.
---------------------------------------------------------------------------

Proposed Rule Change to the FINRA Rule 9200 Series (Disciplinary 
Proceedings) and 9300 Series (Review of Disciplinary Proceeding by 
National Adjudicatory Council and FINRA Board; Application for SEC 
Review)

    FINRA proposed amendments to the Rule 9200 Series and Rule 9300 
Series to address investor protection concerns during the pendency of 
an appeal from, or a NAC review of, a hearing panel or hearing officer 
disciplinary decision, by authorizing hearing officers to impose 
conditions or restrictions on disciplined Respondents and requiring 
broker-dealers to adopt heightened supervision plans concerning their 
associated persons who are disciplined respondents.\11\ The proposed 
rule change would also establish a process for an expedited review by 
the Review Subcommittee of the NAC of any conditions or restrictions 
imposed.\12\ Currently, when a hearing panel or hearing officer 
decision is on appeal or review before the NAC, any sanctions imposed 
by the decision, including bars and expulsions, are automatically 
stayed and not enforced against the Respondent during the pendency of 
the appeal or review proceeding.\13\ Thereafter, the filing of an 
application for Commission review stays the effectiveness of any 
sanction, other than a bar or an expulsion, imposed in a decision 
constituting a final FINRA disciplinary action.\14\
---------------------------------------------------------------------------

    \11\ See Notice at 20746.
    \12\ Id.
    \13\ See FINRA Rules 9311(b) and 9312(b).
    \14\ See FINRA Rule 9370(a).
---------------------------------------------------------------------------

    Proposed Rule 9285(a) would provide that the hearing officer who 
participated in an underlying disciplinary proceeding may impose 
conditions or restrictions on the activities of the Respondent during 
the appeal of any adverse finding. Specifically, if the hearing officer 
found that a Respondent violated a statute or rule provision, which is 
subsequently appealed to the NAC or called for NAC review, the hearing 
officer may impose conditions or restrictions reasonably necessary for 
the purpose of preventing customer harm.\15\ The scope of these 
conditions or

[[Page 81542]]

restrictions would depend on what the hearing officer determines to be 
reasonably necessary for the purpose of preventing customer harm. 
Further, the conditions and restrictions would target the misconduct 
demonstrated in the disciplinary proceeding and be tailored to the 
specific risks posed by the Respondents during the appeal period.\16\ 
Accordingly, the conditions and restrictions are not intended to be as 
restrictive as the underlying sanctions and would likely not be 
economically equivalent to imposing the sanctions during the 
appeal.\17\ In addition, Respondents would be able to seek expedited 
reviews of orders imposing conditions or restrictions.\18\
---------------------------------------------------------------------------

    \15\ See Notice at 20747. Under the proposed rule, the hearing 
officer could not impose these conditions or restrictions sua sponte 
but rather may only act on a motion by FINRA's Department of 
Enforcement (``Enforcement''). Proposed Rule 9285(a)(1) would allow 
Enforcement, within ten days after service of a notice of appeal 
from, or the notice of a call for NAC review of, a disciplinary 
decision of a hearing officer or hearing panel, to file a motion for 
the imposition of conditions or restrictions on the activities of a 
Respondent that are reasonably necessary for the purpose of 
preventing customer harm. The motion must specify the conditions and 
restrictions that are sought to be imposed and explain why they are 
necessary. A Respondent would have the right to file an opposition 
or other response to the motion within ten days after service of the 
motion, unless otherwise ordered by the hearing officer, and must 
explain why no conditions or restrictions should be imposed or 
specify alternative conditions and restrictions that would prevent 
customer harm. The hearing officer would then decide Enforcement's 
motion for conditions or restrictions based on the moving and 
opposition papers. See Proposed Rule 9285(a)(2)-(5) and (c); see 
also Notice at 20747.
    \16\ See Notice at 20747.
    \17\ See Notice at 20756.
    \18\ Id.
---------------------------------------------------------------------------

    Currently, any sanctions imposed by the hearing panel or hearing 
officer decision, including bars and expulsions, are automatically 
stayed and not enforced against the Respondent during the pendency of 
the NAC appeal or review proceeding.\19\ Under the proposed rule 
change, the conditions or restrictions imposed by a hearing officer 
would remain in place until FINRA's final decision takes effect and all 
appeals are exhausted.\20\ In addition, proposed FINRA Rule 9285(e) 
would require a member broker-dealer to adopt a written plan of 
heightened supervision for an associated person who is found to have 
violated a statute or rule provision. The plan of heightened 
supervision would be required to comply with FINRA Rule 3110, be 
reasonably designed and tailored to include specific supervisory 
policies and procedures that address the violations found by the 
hearing panel or hearing officer, and be reasonably designed to prevent 
or detect a reoccurrence of these violations.\21\
---------------------------------------------------------------------------

    \19\ See FINRA Rules 9311(b) and 9312(b); see also Notice at 
20747. See also FINRA Rule 9370(a), which states that the filing of 
an application for review by the SEC of the NAC's decision shall 
stay the effectiveness of any sanction, other than a bar or 
expulsion imposed in a final disciplinary action by FINRA.
    \20\ See Notice at 20748. The proposed rule change would also 
amend Rule 9556 to grant FINRA the authority to bring an expedited 
proceeding against a Respondent that fails to comply with conditions 
and restrictions imposed pursuant to proposed Rule 9285 that could 
result in a suspension or cancellation of membership or suspension 
or bar from associating with any FINRA member. See Notice at 20749.
    \21\ See Notice at 20748.
---------------------------------------------------------------------------

Proposed Rule Change to the FINRA Rule 9520 Series (Eligibility 
Proceedings)

    A broker-dealer is not currently required to place a statutorily 
disqualified individual on heightened supervision while FINRA reviews 
the member broker-dealer's application to continue associating with the 
individual (although FINRA generally will not approve an application 
without an acceptable plan of supervision).\22\ Under the proposed rule 
change, FINRA would amend FINRA Rule 9522 to require a member broker-
dealer that files an application to continue associating with a 
statutorily disqualified associated person under FINRA Rule 9522(a)(3) 
or 9522(b)(1)(B) to include an interim plan of heightened supervision 
that would be in effect throughout the entirety of the application 
review process.\23\ The proposed rule changes would delineate the 
circumstances under which a statutorily disqualified individual may 
remain associated with a FINRA member while FINRA is reviewing the 
application.\24\
---------------------------------------------------------------------------

    \22\ See Notice at 20750.
    \23\ See Notice at 20749.
    \24\ Id.
---------------------------------------------------------------------------

Proposed Rule Change to FINRA Rule 8312 (FINRA BrokerCheck Disclosure)

    FINRA proposed an amendment to FINRA Rule 8312 governing the 
information FINRA releases to the public through its BrokerCheck 
system. Currently, FINRA Rule 8312(b) requires that FINRA release 
information about, among other things, whether a particular member 
broker-dealer is subject to the provisions of FINRA Rule 3170 (``Taping 
Rule''), but only in response to telephonic inquiries via the 
BrokerCheck toll-free telephone listing.\25\ The Taping Rule is 
designed to ensure that a member broker-dealer with a significant 
number of registered persons that previously were employed by 
``disciplined firms'' \26\ has specified supervisory procedures in 
place to prevent fraudulent and improper sales practices or customer 
harm, including, among other things, procedures for recording all 
telephone conversations between the taping firm's registered persons 
and both existing and potential customers.\27\ Proposed Rule 8312(b) 
would not eliminate the toll-free telephone listing but rather would 
also require FINRA to release through BrokerCheck information as to 
whether a particular member broker-dealer is subject to the Taping 
Rule.\28\ The proposed rule change would remove the requirement in 
FINRA Rule 8312(b) that FINRA inform the public that a member broker-
dealer is subject to the Taping Rule only in response to telephonic 
inquiry via the BrokerCheck toll-free telephone listing.\29\ FINRA 
believes that broadening the disclosure through BrokerCheck of the 
status of a member broker-dealer as a taping firm would help inform 
more investors of the heightened procedures required of the firm, which 
may incentivize investors to research more carefully the background of 
a registered representative associated with the taping firm.\30\
---------------------------------------------------------------------------

    \25\ See FINRA Rule 8312(b). Under the Taping Rule, a broker-
dealer with a specified percentage of registered persons who have 
been associated with disciplined firms in a registered capacity in 
the last three years is designated as a ``taping firm.'' See FINRA 
Rule 3170.
    \26\ See FINRA Rule 3170(a)(2) (defining the term ``disciplined 
firm'').
    \27\ See Notice at 20751.
    \28\ FINRA Rule 8312 (FINRA BrokerCheck Disclosure) governs the 
information FINRA releases to the public through its BrokerCheck 
system (the BrokerCheck website address is brokercheck.finra.org). 
BrokerCheck helps investors make informed choices about the brokers 
and member firms with which they conduct business by providing 
registration and disciplinary history to investors. FINRA requires 
member firms to inform their customers of the availability of 
BrokerCheck. Specifically, FINRA Rule 2210(d)(8) requires that each 
of a member's websites include a readily apparent reference and 
hyperlink to BrokerCheck on the initial web page that the member 
intends to be viewed by retail investors and any other web page that 
includes a professional profile of one or more registered persons 
who conduct business with retail investors; and FINRA Rule 2267 
requires members to provide to customers the FINRA BrokerCheck 
Hotline Number and a statement as to the availability to the 
customer of an investor brochure that includes information 
describing BrokerCheck. See Notice at 20751.
    \29\ Id.
    \30\ Id.
---------------------------------------------------------------------------

Proposed Rule Change to FINRA Rule 1000 Series (Member Application and 
Associated Person Registration)

    The FINRA Rule 1000 Series governs, among other things, FINRA's 
membership proceedings. Currently, a member broker-dealer is permitted 
(subject to exceptions) to expand its business under the safe harbor 
set forth in FINRA interpretive material IM-1011-1 without the filing 
and prior approval of a CMA.\31\ For example, under the existing 
parameters of this safe harbor, a broker-dealer could hire an 
associated person even if he or she has a significant history of 
misconduct.\32\ The proposed rule change would limit the application of 
the safe harbor by imposing additional obligations on a member broker-
dealer when a natural person who has, in the prior five years, either 
one or more ``final criminal matters'' or two or more ``specified risk 
events'' seeks to become

[[Page 81543]]

an owner, control person, principal, or registered person of the 
broker-dealer.\33\ Specifically, when a natural person seeking to 
become an owner, control person, principal, or registered person of a 
member broker-dealer has, in the prior five years, one or more ``final 
criminal matters'' or two or more ``specified risk events,'' proposed 
Rule 1017(a)(7) would require a member broker-dealer to either: (1) 
File a CMA; or (2) submit a written request seeking a materiality 
consultation for the contemplated activity with FINRA's MAP Group.\34\ 
If the broker-dealer seeks a materiality consultation, the MAP Group 
would consider, among other things, whether the ``final criminal 
matters'' or ``specified risk events'' are customer-related; whether 
they represent discrete actions or are based on the same underlying 
conduct; the anticipated activities of the person; the disciplinary 
history, experience and background of the proposed supervisors, if 
applicable; and the disciplinary history, supervisory practices, 
standards, systems and internal controls of the member broker-dealer 
and whether they are reasonably designed to achieve compliance with 
applicable securities laws and regulations and FINRA rules.\35\ Where 
FINRA determines that a contemplated organizational change is material, 
FINRA would instruct the broker-dealer to file a CMA if it intends to 
proceed with such change.
---------------------------------------------------------------------------

    \31\ See Notice at 20752.
    \32\ Id.
    \33\ Id. The proposed rule change would also adopt definitions 
of ``final criminal matter'' and ``specified risk event'' to help 
identify when a member broker-dealer must submit a materiality 
consultation or continuing membership application when a natural 
person seeks to become an owner, control person, principal, or 
registered person of the firm and the person's history of misconduct 
meets one or more of these definitions. Amendment No. 1 amended 
proposed FINRA Rule 1011(h) to include in the definition of ``final 
criminal matter'' a relevant criminal event that ``is or was'' 
required to be disclosed on a Uniform Registration Form, and to make 
some grammar- and syntax-related modifications. The amendment 
clarified that both ``final criminal matter'' and ``specified risk 
event'' include disclosures that are required if the member broker-
dealer and natural person proceed with the contemplated change, 
including disclosures that are required on Uniform Registration 
Forms that have not yet been executed. For example, Sections 14A and 
14B of Form U4 (defined below) require representatives of broker-
dealers to disclose, among other things, if they have ever been 
convicted of or pled guilty or nolo contendere (``no contest'') in a 
domestic, foreign or military court to (1) any felony, or (2) a 
misdemeanor involving: investments or an investment-related business 
or any fraud, false statements or omissions, wrongful taking of 
property, bribery, perjury, forgery, counterfeiting, extortion, or a 
conspiracy to commit any of these offenses. Proposed Rule 1011(r) 
would define ``Uniform Registration Forms'' to mean the Uniform 
Application for Broker-Dealer Registration (Form BD), the Uniform 
Application for Securities Industry Registration or Transfer (Form 
U4), the Uniform Termination Notice for Securities Industry 
Registration (Form U5) and the Uniform Disciplinary Action Reporting 
Form (Form U6), as such may be amended or any successor(s) thereto.
    \34\ See Notice at 20752 and 20753. This requirement would not 
apply when the member is required to file a statutory 
disqualification application or written request for relief pursuant 
to Rule 9522 for approval of the same contemplated association. Id. 
at 20753 and note 51.
    \35\ See Notice at 20753.
---------------------------------------------------------------------------

    Additionally, the proposed rule change would adopt a corresponding 
change to IM-1011-1 (Business Expansions and Persons with Specified 
Risk Events) to specify that the safe-harbor for business expansions in 
IM-1011-1 would not be available to any broker-dealer seeking to add a 
natural person who: (i) Has, in the prior five years, one or more 
``final criminal matters'' or two or more ``specified risk events'' and 
(ii) seeks to become an owner, control person, principal, or registered 
person of the member.\36\ In those circumstances, proposed IM-1011-3 
would provide that if the broker-dealer is not otherwise required to 
file a CMA, it must comply with the requirements of proposed FINRA Rule 
1017(a)(7).\37\ Proposed Rule 1017(a)(7) would establish that the safe-
harbor for business expansions in IM-1011-1 would not be available to a 
member broker-dealer when a materiality consultation is required.\38\
---------------------------------------------------------------------------

    \36\ Id.
    \37\ See Notice at 20753. Proposed Rule 1017(a)(7) would require 
the broker-dealer to submit a written request seeking a materiality 
consultation for the contemplated activity so that FINRA's MAP Group 
can determine whether a CMA is required. In a teleconference between 
Michael Garawski, Associate General Counsel, Office of General 
Counsel, FINRA, Kosha Dalal, Vice President and Associate General 
Counsel, Legal Policy, Office of General Counsel, FINRA, Lourdes 
Gonzalez, Assistant Chief Counsel, Division of Trading and Markets, 
Commission, Daniel Fisher, Branch Chief, Division of Trading and 
Markets, Commission, Edward Schellhorn, Special Counsel, Division of 
Trading and Markets, Commission, and Meredith MacVicar, Special 
Counsel, Division of Trading and Markets, Commission, on December 3, 
2020, FINRA staff stated that of the 388 materiality consultations 
received in 2019, the average processing time was approximately 15 
calendar days. FINRA completed the review of 336 CMAs that were 
received in 2019 and the average processing time was approximately 
97 calendar days.
    \38\ See Notice at 20753.
---------------------------------------------------------------------------

    The proposed rule change would also make non-substantive changes to 
the MAP rules by renumbering paragraphs and updating cross-references 
to reflect the other proposed rule changes.

III. Discussion and Commission Findings

    After careful review of the proposed rule change, as modified by 
Amendment No. 1, the comment letters, and FINRA's responses to the 
comments, the Commission finds that the proposed rule change, as 
modified by Amendment No. 1, is consistent with the requirements of the 
Exchange Act and the rules and regulations thereunder that are 
applicable to a national securities association.\39\ Specifically, the 
Commission finds that the proposed rule change, as modified by 
Amendment No. 1, is consistent with Section 15A(b)(6) of the Exchange 
Act,\40\ which requires, among other things, that FINRA rules be 
designed to prevent fraudulent and manipulative acts and practices, to 
promote just and equitable principles of trade, and, in general, to 
protect investors and the public interest.
---------------------------------------------------------------------------

    \39\ In approving this rule change, the Commission has 
considered the rule's impact on efficiency, competition, and capital 
formation. See 15 U.S.C. 78c(f).
    \40\ 15 U.S.C. 78o-3(b)(6).
---------------------------------------------------------------------------

Rule 9200 Series (Disciplinary Proceedings) and 9300 Series (Review of 
Disciplinary Proceeding by National Adjudicatory Council and FINRA 
Board; Application for SEC Review)

    The proposed rule change to authorize hearing officers to impose 
conditions or restrictions on disciplined Respondents reasonably 
necessary for the purpose of preventing customer harm, and to require 
broker-dealers to adopt heightened supervision plans concerning 
individual respondents, will help protect investors from associated 
persons found to have violated a statute or rule provision, by 
potentially preventing them from engaging in additional misconduct 
during the appeal process. These proposed rule changes are designed to 
help prevent fraudulent and manipulative acts and practices and address 
concerns related to misconduct that may occur during the pendency of an 
appeal from, or a NAC review of, a hearing panel or hearing officer 
disciplinary decision.\41\ The Commission believes the ability to 
impose conditions or restrictions along with the proposed requirement 
to adopt a plan of heightened supervision will lead to greater 
oversight of disciplined Respondents' activities during the appeal 
period, thereby reducing the

[[Page 81544]]

potential risk of customer harm that may occur during this period.
---------------------------------------------------------------------------

    \41\ In a teleconference between Michael Garawski, Associate 
General Counsel, Office of General Counsel, FINRA, Kosha Dalal, Vice 
President and Associate General Counsel, Legal Policy, Office of 
General Counsel, FINRA, Lourdes Gonzalez, Assistant Chief Counsel, 
Division of Trading and Markets, Commission, Daniel Fisher, Branch 
Chief, Division of Trading and Markets, Commission, Edward 
Schellhorn, Special Counsel, Division of Trading and Markets, 
Commission, and Meredith MacVicar, Special Counsel, Division of 
Trading and Markets, Commission, on December 1, 2020 (``December 1, 
2020 Teleconference''), FINRA stated that during 2013-2019 the NAC 
issued decisions in 131 disciplinary matters. The NAC affirmed the 
hearing panel or hearing officer findings 121 times (92%), modified 
the findings 6 times (5%), and reversed or dismissed the findings 4 
times (3%).
---------------------------------------------------------------------------

    Two commenters supported the proposed rule change.\42\ Two other 
commenters, however, expressed concern that these proposed rule changes 
to the Rule 9200 Series and 9300 Series do not adequately ensure due 
process and one specifically recommended FINRA take additional steps to 
``ensure due process, both in appearance and actual.'' \43\ In 
response, FINRA detailed the procedural protections proposed Rule 9285 
would establish. Specifically, prior to imposing any conditions or 
restrictions the proposed rule change would: (i) Require Enforcement to 
file a motion with a hearing officer, seeking the imposition of 
conditions or restrictions that are reasonably necessary for the 
purpose of preventing customer harm, specifying the conditions and 
restrictions that are sought to be imposed, and explaining why they are 
necessary; (ii) provide the Respondent an opportunity to file a written 
opposition or other response to the motion; (iii) require the hearing 
officer to issue a written order ruling upon the motion no later than 
20 days after any opposition or response is filed; and (iv) afford a 
Respondent the right to seek expedited review \44\ before the NAC's 
Review Subcommittee of an order that imposes conditions or 
restrictions, and an automatic stay when a Respondent requests such an 
expedited review.\45\
---------------------------------------------------------------------------

    \42\ See letter from William A. Jacobson, Esq., Clinical 
Professor of Law, Cornell Law School, and Director, Securities Law 
Clinic, and Ayomikun Loye, Student, Cornell Law School, to Vanessa 
Countryman, Secretary, Commission, dated May 5, 2020; letter from 
Samuel B. Edwards, President, Public Investors Advocate Bar 
Association, to Brent J. Fields, Secretary, Commission, dated May 5, 
2020.
    \43\ See letter from Professor Lisa Miller, Esq., dated April 
30, 2020; see also letter from Aaron D. Lebenta, Parsons Behle & 
Latimore, to Vanessa Countryman, Secretary, Commission, dated August 
3, 2020 (``Lebenta Letter'') (concerned that the proposed rule 
change does not establish an effective appeal process to help ensure 
FINRA's disciplinary decision is correct, and that the sanctions are 
warranted, before they are imposed).
    \44\ Under proposed Rule 9285, an expedited review should take 
no longer than 45 days from the date the hearing officer serves the 
written order imposing conditions or restrictions on the Respondent. 
Specifically, proposed Rule 9285(b)(1) states that the Respondent 
may file a motion to modify or remove any or all of the conditions 
or restrictions within ten (10) days after service of the order, 
proposed Rule 9285(b)(3) would provide Enforcement up to five (5) 
days from service of Respondent's motion to file an opposition or 
other response to the motion, and proposed Rule 9285(b)(5) would 
provide the Review Subcommittee up to thirty (30) days after any 
opposition filed pursuant to Rule 9285(b)(3) to serve a written 
order ruling upon a motion to modify or remove conditions or 
restrictions in an expeditious manner.
    \45\ See FINRA July 2 Letter and FINRA October 7 Letter; see 
also Notice at 20746.
---------------------------------------------------------------------------

    As stated above, currently any sanctions imposed by the hearing 
panel or hearing officer decision, including bars and expulsions, are 
automatically stayed and not enforced against the respondent during the 
pendency of the NAC appeal or review proceeding.\46\ One of the 
commenters urging FINRA to ensure due process stated that the proposed 
rule change should not ``be stripped away'' by changing the existing 
stay and giving a hearing officer authority to impose conditions and 
restrictions on the Respondent during the process of appealing a 
hearing officer's decision. Accordingly, the commenter expressed 
concern that the imposition of such conditions or restrictions could 
ruin a broker-dealer's business before the expedited review process has 
concluded, especially a smaller broker-dealer with fewer alternatives 
to withstand extended impediments to one of its business lines.\47\ 
Another commenter,\48\ however, expressed support for the proposed rule 
change and advocated for FINRA to go further by eliminating the 
existing stay of decisions by the hearing officer or hearing panel in 
disciplinary matters pursuant to Rule 9268 \49\ or Rule 9269,\50\ in 
which the adjudicator finds that a Respondent violated a statute or 
rule provision, during an appeal to the NAC by repealing FINRA Rule 
9311.\51\
---------------------------------------------------------------------------

    \46\ See FINRA Rules 9311(b) and 9312(b).
    \47\ See Lebenta Letter (stating that a hearing officer 
restricting a broker-dealer from engaging in the same activity which 
is the subject of the initial sanction during its appeal of that 
sanction would essentially impose the original sanction while the 
matter is on appeal).
    \48\ See letter from Lev Bagramian, Senior Securities Policy 
Advisor, Better Markets, Inc. to Vanessa A. Countryman, Secretary, 
Commission, dated June 19, 2020 (``Better Markets Letter'').
    \49\ FINRA Rule 9268(f) states that unless otherwise provided in 
the majority decision constituting a final disciplinary action of 
FINRA issued under Rule 9268(a), a sanction (other than a bar or an 
expulsion) specified in the decision shall become effective on a 
date to be determined by FINRA, and a bar or an expulsion specified 
in a decision shall become effective immediately upon the decision 
becoming the final disciplinary action of FINRA.
    \50\ FINRA Rule 9269(d) states that unless otherwise provided in 
the default decision constituting a final disciplinary action of 
FINRA, the sanctions shall become effective on a date to be 
determined by FINRA staff, except that a bar or expulsion shall 
become effective immediately upon the default decision.
    \51\ FINRA Rule 9311(b) states that an appeal to the NAC from a 
decision issued pursuant to Rule 9268 or Rule 9269 shall operate as 
a stay of that decision until the NAC issues a decision pursuant to 
Rule 9349 (National Adjudicatory Council Formal Consideration; 
Decision) or, in cases called for discretionary review by the FINRA 
Board, until a decision is issued pursuant to Rule 9351 
(Discretionary Review by FINRA Board). Any such appeal, however, 
will not stay a decision, or that part of a decision, that imposes a 
permanent cease and desist order.
---------------------------------------------------------------------------

    FINRA considered both suggestions and decided not to amend the 
proposed rule change. Specifically, FINRA believes that enforcing the 
hearing panel's disciplinary sanctions against the Respondents during 
the pendency of the appeal or review proceedings could be too 
restrictive in disciplinary matters with significant sanctions and 
where the risk of harm may be specific to particular activities.\52\ On 
the other hand, FINRA stated that the proposed rule change would 
authorize a hearing officer to impose conditions and restrictions that 
are tailored specifically to the risk posed by the Respondent during 
the pendency of the appeals, and reasonably necessary for the purpose 
of preventing customer harm that may occur during the pendency of the 
appeal. Accordingly, FINRA determined that the proposed rule change 
would strike a reasonable balance between protecting investors and 
preventing undue burden on individuals and firms while their appeals 
are pending.\53\
---------------------------------------------------------------------------

    \52\ See Notice at 20760.
    \53\ See Notice at 20760.
---------------------------------------------------------------------------

    A system designed to protect investors and the public interest will 
generally produce both costs and benefits. In this instance, FINRA's 
proposed rule change should reduce the probability of investor losses 
resulting from the violation of statutes or rules. At the same time, a 
decision to impose conditions or restrictions may disrupt the business 
opportunities of certain broker-dealers and individuals. In order to 
assess the potential risk posed by brokers during the appeal period, 
FINRA examined cases that were appealed to the NAC during the period of 
2013-2016 and determined whether the brokers associated with an appeal 
to the NAC had a new disclosure event--for this analysis, a ``final 
criminal matter'' or a ``specified risk event,'' as defined above--at 
any time from the filing of the appeal through the year-end after the 
year in which the appeal reached a decision. Based on this analysis, 
FINRA estimated that 21 of the 75 brokers who appealed to the NAC 
during the 2013-2016 period were associated with a total of 28 
disclosure events that occurred during the interstitial period after 
the filing of their appeal to the NAC.\54\
---------------------------------------------------------------------------

    \54\ See Notice at 20756. FINRA notes that these estimates 
likely underrepresent the overall risk of customer harm posed by 
these brokers, because they are based on a specific set of events 
and outcomes used for classifying brokers for the proposed 
amendments to the MAP Rules. In addition, these brokers had other 
disclosure events after their appeal was filed, and some of these 
other events may also be associated with risk of customer harm. See 
Notice at note 75.

---------------------------------------------------------------------------

[[Page 81545]]

    After considering these benefits and costs, the Commission believes 
that the proposed procedural protections provide a reasonable process 
to Respondents who may disagree with the particular set of conditions 
or restrictions imposed by a hearing officer to challenge those 
conditions or restrictions before they go into effect by, among other 
things, establishing an expedited process for the review of a hearing 
officer's order by the Review Subcommittee of the NAC. During a hearing 
officer's review, he or she may consider the specific facts and 
circumstances when weighing the additional risk(s) posed by the 
Respondent while the matter is on appeal against the costs of possible 
restrictions and sanctions. The Commission believes this potential 
disruption of the business opportunities of certain broker-dealers and 
individuals has been appropriately balanced against the investor 
protections the proposed rule change would establish, as well as the 
need to prevent potential customer harm from Respondents who have been 
found in violation of FINRA rules by a hearing officer or hearing 
panel.\55\
---------------------------------------------------------------------------

    \55\ The Commission notes that the proposed rule change is 
consistent with the adopted rules of other SROs, including: BOX Rule 
12110 (``Pending effectiveness of a decision imposing a sanction on 
the Respondent, the person, committee or panel issuing the decision 
(the `adjudicator') may impose such conditions and restrictions on 
the activities of the Respondent as it considers reasonably 
necessary for the protection of investors and the Exchange''); CBOE 
Rule 13.11(b) (``Pending effectiveness of a decision imposing a 
sanction on the Respondent, the Hearing Panel or the Chief 
Regulatory Officer (``CRO''), as applicable, may impose such 
conditions and restrictions on the activities of the Respondent as 
the Hearing Panel or the CRO, as applicable, considers reasonably 
necessary for the protection of investors and the Exchange''); and 
CBOE BZX Rule 8.11 (``Pending effectiveness of a decision imposing a 
penalty on the Respondent, the CRO, Hearing Panel or committee of 
the Board, as applicable, may impose such conditions and 
restrictions on the activities of the Respondent as he, she or it 
considers reasonably necessary for the protection of investors, 
creditors and the Exchange.''). See Notice at note 112.
---------------------------------------------------------------------------

Rule 9520 (Eligibility Proceedings)

    The proposed rule change to require broker-dealers to include a 
plan of heightened supervision with an application to continue 
associating with a statutorily disqualified individual that would be in 
effect throughout the entirety of the application review process also 
would address an investor protection concern by lowering the risk of 
customer harm during the pendency of an application. One commenter 
opposed this proposed rule change, arguing that establishing plans of 
heightened supervision are costly and burdensome and would discourage 
broker-dealers from hiring associated persons who have been 
disciplined.\56\ However, FINRA is not creating an additional burden 
with respect to the requirement to create a plan of heightened 
supervision; it is only requiring a member broker-dealer implement such 
plan at an earlier point in time than under the existing rules. 
Currently, as part of the application process, a member broker-dealer 
will propose a written plan of heightened supervision to become 
effective upon approval of the application, and generally, the 
continued association of a statutorily disqualified person approved 
through a FINRA eligibility proceeding is conditioned on the individual 
being subject to a heightened supervision plan.\57\ This proposed rule 
change would help limit the potential for customer harm at an earlier 
point in time and thereby help protect customers. In order to assess 
the potential risk posed by a statutorily disqualified person during 
the pendency of his or her application, FINRA examined whether 
individuals who filed an application between 2013-2016 had a disclosure 
event at any time from the filing of the application through two years 
after filing. Based on this analysis, FINRA estimated that 26 (or 51 
percent) of the 51 individuals associated with an applications during 
the 2013-2016 period had a total of 41 disclosure events during the 
interstitial period after the filing of their application.\58\
---------------------------------------------------------------------------

    \56\ See Lebenta Letter. This commenter also recommended FINRA 
streamline the statutory disqualification review process to produce 
faster results, noting that imposing heightened supervisory 
procedures would be unduly costly and burdensome if the statutorily 
disqualified associated person's proposed association with a member 
broker-dealer is denied. See Lebenta Letter. The Commission must 
consider the proposed rule change that was filed and FINRA's process 
for reviewing applications for statutorily disqualified associated 
persons to associate with a member broker-dealer is beyond the scope 
of this filing.
    \57\ See FINRA Regulatory Notice 18-23 and Notice at 20750.
    \58\ See Notice at 20757. FINRA notes that these results likely 
underrepresent the overall risk of customer harm, because the 
disclosure events in this analysis included only final criminal 
matters and specified risk events. See Notice at note 84.
---------------------------------------------------------------------------

    As stated above, although the Commission recognizes the potential 
burden imposed by requiring the supervision plan to become effective at 
an earlier stage of this process, it believes that the benefits of 
added oversight of disqualified individuals subject to the pending 
application process justifies the earlier timeframe. Accordingly, while 
the proposed rule change may negatively impact the ability of certain 
individuals to retain or find employment, it is a reasonable approach 
for seeking to achieve greater oversight by sponsoring broker-dealers 
of the activities of statutorily disqualified individuals during the 
pendency of an application. The Commission believes that applying 
heightened supervision specifically tailored in response to the 
misconduct giving rise to the statutory disqualification at an earlier 
stage in the process will facilitate a broker-dealer's supervision of 
statutorily disqualified individuals and better protect its customers 
from future harm.

Rule 8312 (FINRA BrokerCheck Disclosure)

    The proposed rule change adding disclosure in BrokerCheck of member 
broker-dealers that are subject to the Taping Rule would help inform 
more investors when certain broker-dealers are subject to certain 
heightened procedures.\59\ One commenter stressed that this disclosure 
may not be sufficient to ensure investors understand what it means to 
be designated a ``taping firm'' and suggested that FINRA amend the 
proposed rule change to require the BrokerCheck profiles of individual 
registered representatives to denote when they are associated with 
taping firms. FINRA did not accept this comment because it would be a 
substantive amendment to what is otherwise a proposed technical 
change.\60\ FINRA also expressed concern that the commenter's 
suggestion to include a disclosure on the BrokerCheck profile of 
individuals would capture registered representatives of a taping firm 
with clean disciplinary histories.\61\ The commenter also recommended 
that any disclosure of a firm as a taping firm on BrokerCheck should 
include ``clear and complete information, comprehensible to investors, 
explaining what it means to be such a firm.'' \62\ FINRA agreed with 
the view expressed that the BrokerCheck disclosure should include a 
clear explanation of what it means to be subject to the Taping Rule to 
help investors understand why the taping firm is subject to heightened 
procedures.\63\ FINRA did not make a corresponding amendment to the 
rule but the Commission understands that FINRA has committed to 
including a

[[Page 81546]]

clear explanation on BrokerCheck about what being subject to the Taping 
Rule means.\64\
---------------------------------------------------------------------------

    \59\ Currently, investors can only learn about a broker-dealer's 
status as a Taping Firm in response to telephonic inquiries via the 
BrokerCheck toll-free telephone listing. See FINRA Rule 8312(b).
    \60\ December 1, 2020 Teleconference.
    \61\ Id.
    \62\ See Better Markets Letter.
    \63\ See Notice at 20765.
    \64\ In a teleconference between Michael Garawski, Associate 
General Counsel, Office of General Counsel, FINRA, and Daniel 
Fisher, Branch Chief, Division of Trading and Markets, Commission, 
on October 5, 2020, FINRA confirmed with the Division of Trading and 
Markets that between now and the effective date of the proposed rule 
change it has committed to including a clear explanation on 
BrokerCheck about what being subject to the Taping Rule means.
---------------------------------------------------------------------------

    The Commission believes that this proposed rule change would 
improve the ease of obtaining this information for investors through a 
preexisting database with which the public is already familiar. 
Furthermore, the Commission believes that the proposed rule change 
would incentivize investors to research more carefully the background 
of a registered representative associated with a broker-dealer that is 
designated as a taping firm, including those registered representatives 
associated with the firm who are not subject to heightened supervision.

Rule 1000 Series (Member Application and Associated Person 
Registration)

    The proposed rule change, requiring a member broker-dealer to seek 
a materiality consultation when a natural person seeking to become an 
owner, control person, principal, or registered person has a 
significant history of misconduct, would give FINRA an opportunity to 
assess whether the proposed association is material and warrants closer 
regulatory scrutiny. Similarly, in situations where a proposed 
association of a natural person with a significant history of 
misconduct would require the broker-dealer to submit a CMA, FINRA would 
be able to: (i) Assess whether the broker-dealer would continue to meet 
all of the membership standards in FINRA Rule 1014 if the proposed 
association were approved, and (ii) prevent the proposed association if 
the broker-dealer does not demonstrate that it can continue to meet 
those standards. This proposed rule change will further promote 
investor protection by applying additional safeguards and disclosure 
obligations for a broker-dealer's continuing membership with FINRA and 
for changes to a current member broker-dealer's ownership, control, or 
business operations. The heightened scrutiny by FINRA of registered 
representatives, registered principals, owners, and control persons who 
meet the proposed definitions and criteria would be beneficial in 
promoting investor protection by disincentivizing broker-dealers from 
engaging in higher-risk activity that could lead to additional 
regulatory restrictions.\65\ For example, one commenter stated that 
this proposed rule would create obstacles for broker-dealers seeking to 
hire and onboard associated persons with a significant history of 
misconduct,\66\ which may incentivize broker-dealers to reexamine their 
hiring practices and certain associated persons to change their 
behavior to avoid future misconduct.\67\
---------------------------------------------------------------------------

    \65\ According to FINRA, the cost of this proposed rule change 
would fall on the broker-dealers that seek to add owners, control 
persons, principals, or registered persons who meet the proposed 
criteria. These broker-dealers would be directly impacted through 
the requirements to seek a materiality consultation with FINRA and, 
potentially, to file a CMA. While there is no FINRA fee for seeking 
a materiality consultation, broker-dealers may incur internal costs 
or costs associated with engaging external experts in conjunction 
with filing a CMA. In addition, the proposed rule change could 
result in delays to a broker-dealer's ability to add owners, control 
persons, principals or registered persons who meet the proposed 
criteria, during the time the mandatory materiality consultation and 
any required CMA is being processed. These anticipated costs may 
deter some broker-dealers from hiring individuals meeting the 
proposed criteria, who as a result may find it difficult to remain 
in the industry. See Notice at 20758.
    \66\ See Better Markets Letter (stating that requiring 
materiality consultations before hiring is an important regulatory 
innovation); see also Notice at 20766.
    \67\ The proposed rule change would not prevent a firm from 
hiring an associated person with a history of ``final criminal 
matters'' or ``specified risk events.'' Instead, the proposed rule 
change would establish a system of investor protections tailored to 
the facts and circumstances for firms that do seek to hire such 
associated persons.
---------------------------------------------------------------------------

    Two commenters raised several concerns about, and suggested 
revisions to, the proposed rule changes to the Rule 1000 Series (Member 
Application and Associated Person Registration).\68\ One of these 
commenters questioned whether adding one person should constitute a 
material change in business operations. Specifically, the commenter 
disagreed that adding a new owner or control person is sufficient to 
make a material impact in business operations unless that person is 
involved in sales. Accordingly, the commenter recommended revising 
proposed IM-1011-3 to exclude from the IM-1011-1 safe harbor only 
broker-dealers increasing their business operations by adding 
associated persons involved in sales.\69\ FINRA declined to amend the 
proposed rule change as suggested because adding a natural person as an 
owner, control person, principal, or registered person who has, in the 
prior five years, one or more final criminal matters or two or more 
specified risk events could constitute a material change in business 
operations given the greater risk of harm to customers than the risk 
stemming from other associated persons. FINRA reiterated that IM-1011-3 
is designed to prevent broker-dealers from relying on the IM-1011-1 
safe harbor to avoid a materiality consultation--and any CMA that is 
subsequently required--when it seeks to add such persons.\70\
---------------------------------------------------------------------------

    \68\ See letter from Andrew R. Harvin, Partner, Doyle, Restrepo, 
Harvin & Robbins, LLP, to Jill M. Peterson, Assistant Secretary, 
Commission, dated April 28, 2020 (``Harvin Letter''); see also 
Lebenta Letter.
    \69\ See Harvin Letter.
    \70\ See FINRA July 2 Letter.
---------------------------------------------------------------------------

    The Commission agrees with FINRA's assessment of what could 
constitute a material change in business operations. Specifically, the 
Commission believes that natural persons with a certain history of 
misconduct holding authority to control a firm's business operations 
may increase the risk of investor harm. Accordingly, limiting the 
interpretation of materiality to persons involved in sales as suggested 
by the commenter could weaken the effectiveness of the proposed rule 
change to protect investors and incentivize improved behavior. The 
Commission also notes that the materiality consultation process 
required by proposed Rule 1017(a)(7) would be similar to FINRA's 
existing materiality consultation process and would provide the member 
broker-dealer an opportunity to be heard on whether the contemplated 
change is material. Specifically, under proposed Rule 1017(a)(7), a 
member broker-dealer would submit a written request seeking a 
materiality consultation and addressing the issues that are central to 
the materiality consultation; as part of the materiality consultation, 
Member Regulation must consider the written request and other 
information or documents provided by the member, including whether the 
proposed association would materially impact the broker-dealer's 
business operations. If Member Regulation determines that a CMA is 
required, the CMA would be governed by the existing process set forth 
in FINRA Rule 1017 and the Rule 1010 Series, including its appeal 
rights. The Commission agrees with FINRA's assessment that these 
procedures would be similar to FINRA's existing materiality 
consultation process and would provide the member broker-dealer an 
opportunity to be heard on whether the contemplated change is 
material.\71\
---------------------------------------------------------------------------

    \71\ Id.
---------------------------------------------------------------------------

    The other commenter, critical of the proposed changes to the Rule 
1000 Series, believes that the proposed rule changes are overbroad and 
that inclusion of settled matters as a

[[Page 81547]]

criterion is ``indefensible.'' \72\ FINRA considered this comment but 
did not exclude settled matters from the list of determining factors. 
Instead, FINRA chose not to include certain settled matters in the 
proposed rule changes to the Rule 1000 Series in order to exclude 
individuals who are less likely to subsequently pose risk of harm to 
customers.\73\ Specifically, in order to focus its analysis on outcomes 
that are more likely associated with material customer harm, FINRA 
studied complaints that led to an award against a broker or settled 
above a de minimis threshold ($15,000), which is the current CRD 
settlement threshold for reporting customer complaints on Uniform 
Registration Forms. FINRA found that a proposal based on events 
disclosed on the Uniform Registration Forms, which are generally 
available to firms and FINRA, was important to avoid confusion and 
provide transparency about the events that will trigger the need for a 
materiality consultation.\74\
---------------------------------------------------------------------------

    \72\ See Lebenta Letter (stating that the inclusion of 
settlements is indefensible by FINRA because respondents may choose 
to settle for any number of reasons that do not reflect the 
respondent's own liability). When Member Regulation evaluates 
compliance with the Rule 1000 Series, it takes into consideration, 
among other things, whether persons associated with an applicant are 
the subject of disciplinary actions taken against them by industry 
authorities, criminal actions, civil actions, arbitrations, customer 
complaints, remedial actions, or other industry-related matters that 
could pose a threat to public investors. Some of these matters are 
considered whether they are adjudicated, settled or pending. See 
Notice at 20752.
    \73\ See FINRA October 7 Letter.
    \74\ See FINRA Study at 9; see also Notice at 20761 and 20767.
---------------------------------------------------------------------------

    The Commission agrees that the proposed rule changes to the Rule 
1000 Series are tailored sufficiently to achieving the goal of 
protecting investors from the risks associated with associated persons 
who have a significant history of misconduct. Specifically, the 
Commission agrees that excluding some settled matters from these 
thresholds is appropriate. For instance, recently settled matters are 
likely more indicative of an associated person's future misconduct than 
matters occurring over five years ago (absent any intervening 
disciplinary or other regulatory events); and individuals with a 
history of misconduct who have little or no control over a broker-
dealer's activities may pose less threat to the broker-dealer's 
customers than individuals who can exercise some discretion when 
performing their jobs. Accordingly, settlements beyond the five-year 
lookback period and settlements by persons other than those seeking to 
be an owner, control person, principal, or registered person may have 
less relevance in achieving the goal of protecting investors from the 
risks associated with associated persons who have a significant history 
of misconduct.\75\
---------------------------------------------------------------------------

    \75\ Id.
---------------------------------------------------------------------------

    This commenter also argued that FINRA's proposed definition of a 
``specified risk event''--a key triggering factor for the proposed 
enhanced membership application proceedings--is overbroad and would 
lead to unnecessary costs, burdens and disruptions for broker-dealer 
members.\76\ As proposed, the definition would include any ``final 
investment-related, consumer initiated arbitration'' that results in an 
award or a settlement ``at or above $15,000.'' The commenter believes 
the use of arbitration awards and settlements with customers at such a 
``low'' dollar threshold is over-inclusive and would not appropriately 
describe a ``risk event'' that should require a CMA or the proposed 
mandatory materiality consultation.\77\
---------------------------------------------------------------------------

    \76\ See Lebenta Letter.
    \77\ Id. This commenter also argued that FINRA's inclusion of 
customer-initiated arbitration settlements for $15,000 or more in 
the statistics it used to measure the recent rate of disciplinary 
events was overly broad and thus does not support the premise of the 
proposed rule change that there is a pattern of increased risk to 
customers. Similarly, the commenter believes that relying on past 
violative conduct to predict future wrongdoing undermines the 
principle of due process and is not supported by FINRA's data. But 
see Better Markets Letter (opining that the proposed rule change 
would reflect an improvement over the status quo but is still 
insufficient, and that FINRA should do more to reduce the number of 
brokers with a significant history of misconduct and the prevalence 
of recidivism (e.g., banning registered representatives with two 
criminal convictions or three ``specified risk events'' at a $5,000 
level (instead of the proposed $15,000 level) and immediately and 
permanently expelling a broker-dealer where more than 20% of its 
registered representatives have three or more ``specified risk 
events'').
---------------------------------------------------------------------------

    FINRA disagrees with the commenter's assessment that the proposed 
definition of ``specified risk event'' attempts to replace the analysis 
conducted in a CMA with a bright-line rule that any customer 
arbitration at or above the $15,000 threshold is defined as creating a 
risk to investors.\78\ Under proposed Rule 1017(a)(7), only arbitration 
awards or settlements meeting the specific parameters detailed in Rule 
1017(a)(7) and IM-1011-3 would be considered for determining when a 
materiality consultation would be required.\79\ Moreover, a single 
award or settlement would not necessarily require a materiality 
consultation. In fact, even if a person meets the Rule 1017(a)(7) 
standard, it would not necessarily mean a CMA is required or, if it is, 
that the broker-dealer could not satisfy FINRA's membership 
standards.\80\ FINRA also stated that the dollar thresholds as proposed 
are appropriate given that settlements at that level are more likely to 
be associated with material customer harm \81\ and they are the same 
thresholds as those used for determining appropriate disclosure events 
in FINRA's Uniform Registration Forms.\82\ FINRA has noted that using 
different thresholds may result in less transparency to the public, 
registered persons, and broker-dealers.\83\
---------------------------------------------------------------------------

    \78\ See FINRA October 7 Letter (citing the Lebenta Letter).
    \79\ See FINRA October 7 Letter (outlining the proposed 
parameters including the lookback period, the number of disclosure 
events required, and the types of roles sought).
    \80\ Id.
    \81\ Id.
    \82\ See supra note 33.
    \83\ See FINRA October 7 Letter.
---------------------------------------------------------------------------

    The Commission believes FINRA made a reasonable argument for 
including settlements of at least $15,000 in its study \84\ and that 
its proposed definition of ``specified risk event'' furthers the goal 
of protecting investors from high risk associated persons. In addition, 
the Commission believes that the proposed criteria and definitions of 
``final criminal matter'' and ``specified risk event'' would provide 
transparency regarding how the proposed rules would be applied, as the 
underlying events are based on disclosure events required to be 
reported on the Uniform Registration Forms. Accordingly, broker-dealers 
would be able to identify the specific set of disclosure events that 
would count towards the proposed criteria and, using available data, 
determine independently whether a proposed association with an 
individual would require a materiality consultation.
---------------------------------------------------------------------------

    \84\ See Hammad Qureshi & Jonathan Sokobin, Do Investors Have 
Valuable Information About Brokers? (FINRA Office of the Chief 
Economist Working Paper, Aug. 2015) (``FINRA Study''). The 
Commission believes the FINRA Study dealt with a common issue in 
empirical work, the tradeoff between an increase in statistical 
power that results from a larger sample size and the inclusion of 
data points that may not be of the most interest, and made a 
reasonable empirical design decision. Accordingly, contrary to the 
commenter's concern, the Commission believes that FINRA had a sound 
basis upon which to base the proposed rule change.
---------------------------------------------------------------------------

    One commenter also challenged FINRA's statistical justification for 
the proposed rule change.\85\ In particular, the commenter questioned 
whether the studies upon which FINRA relied adequately demonstrate that 
past disciplinary and other regulatory events associated with a member 
broker-dealer or individual can be predictive of similar future events, 
such as repeated disciplinary actions, arbitrations, and

[[Page 81548]]

complaints.\86\ The commenter suggested, among other things, that 
FINRA's reports used data (i.e., violative events) to measure the 
likelihood of recidivist behavior that would not be the subject of a 
disciplinary action under the proposed rule change. Accordingly, the 
commenter did not believe FINRA's statistical evidence justified the 
proposed rule change, including the additional costs and loss of rights 
that would result from approving the proposed rule change.\87\
---------------------------------------------------------------------------

    \85\ See Lebenta Letter.
    \86\ Id. (stating that in the FINRA Study, the rate of new 
disclosure events by associated persons during the pendency of their 
appeals is less than 30%).
    \87\ Id. (arguing that the FINRA Study continued its analysis 
through the year-end after the year in which the appeal reached a 
decision thus skewing its results).
---------------------------------------------------------------------------

    In response, FINRA reiterated its concern about the potential risks 
posed by broker-dealers that persistently employ associated persons who 
engage in misconduct, as well as its findings that past disciplinary 
and other regulatory events, such as repeated disciplinary actions, 
arbitrations and complaints associated with a member broker-dealer or 
individual can be predictive of similar future events.\88\ Moreover, 
FINRA believes the estimated number of disclosure events associated 
with persons who appeal disciplinary decisions reflects a specific 
potential risk to investors.\89\ FINRA asserted that the proposed rule 
change would adopt processes directly tailored to target this specific 
misconduct and minimize further investor harm.\90\
---------------------------------------------------------------------------

    \88\ See FINRA October 7 Letter; see also Notice at 20745-46, 
20755 and note 5.
    \89\ See FINRA October 7 Letter; see also Notice at 20748.
    \90\ See FINRA October 7 Letter; see also Notice at 20750, 
20754.
---------------------------------------------------------------------------

    The Commission believes that the commenter's challenge to FINRA's 
statistical justification for the proposed rule change obfuscates the 
point of the FINRA Study. In its study, FINRA uses a model that 
predicts investor harm based on information publicly released in 
BrokerCheck and non-public Central Registration Depository data and 
found that 20% of the 181,133 brokers in their sample with the highest 
ex ante predicted probability of investor harm are associated with more 
than 55% of the investor harm events and more than 55% of total dollar 
harm. Accordingly, FINRA concluded that the risk of future harm is 
predictable.\91\ The Commission believes that the methodology used in 
the FINRA Study had a sound statistical basis. The Commission 
understands the commenter's point that the FINRA Study measured the 
likelihood of recidivist behavior using data (i.e., violative acts) 
that would not be captured under the proposed rule change; however, the 
Commission believes FINRA shows its result is not sensitive to a 
particular threshold value. In addition, while the Commission 
understands the commenter's point that FINRA continues the analysis 
through the year-end after the year in which the appeal reached a 
decision, the FINRA Study states that the complaint system tracks the 
date the complaint was filed but not the date of the actual occurrence 
of investor harm. The study makes a conservative assumption that the 
harm occurred the year before the filing so that when running a 
regression to predict an occurrence of harm, FINRA would not be 
predicting an event with data that was only available concurrently with 
or subsequent to the event.\92\ Accordingly, the Commission believes 
that the methodology FINRA used to conduct its study had a sound 
statistical basis and that FINRA had a sound basis upon which to base 
the proposed rule change.
---------------------------------------------------------------------------

    \91\ See FINRA Study at 17. Additional academic research 
suggests that a higher rate of new disciplinary and other disclosure 
events is highly correlated with past disciplinary and other 
disclosure events, as far back as nine years prior. See Notice at 
note 5.
    \92\ See FINRA Study at 9-10.
---------------------------------------------------------------------------

    In sum, for the above reasons, the Commission believes that the 
proposed rule change would strengthen the tools available to FINRA in 
responding to associated persons who have a significant history of 
misconduct. In addition, the Commission believes that the proposed rule 
change has sufficiently tailored the proposed processes to target the 
specific misconduct it seeks to address, which would minimize the 
potential costs to broker-dealers. Moreover, the proposed rules would 
establish processes by which an associated person or broker-dealer 
would have adequate opportunities to challenge the imposed conditions 
and restrictions and seek further review.
    Accordingly, the Commission finds the proposed rule change would 
result in greater investor protections by helping address the concerns 
raised by associated persons with a significant history of misconduct 
and the broker-dealers that employ them while narrowly tailoring the 
review process to mitigate the potential burdens on those individuals 
and broker-dealers.

IV. Conclusion

    It Is Therefore Ordered pursuant to Section 19(b)(2) of the 
Exchange Act \93\ that the proposed rule change (SR-FINRA-2020-011), as 
modified by Amendment No. 1, be, and hereby is, approved.
---------------------------------------------------------------------------

    \93\ 15 U.S.C. 78s(b)(2).

Jill M. Peterson,
Assistant Secretary.
[FR Doc. 2020-27626 Filed 12-15-20; 8:45 am]
BILLING CODE 8011-01-P