Document ID: SEC-2020-0268-0001
Agency: sec
Document Type: Notice
Title: Self-Regulatory Organizations; Proposed Rule Changes: Financial Industry Regulatory Authority, Inc.
Posted Date: 2020-02-26T05:00Z

[Federal Register Volume 85, Number 38 (Wednesday, February 26, 2020)]
[Notices]
[Pages 11157-11162]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2020-03771]

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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-88254; File No. SR-FINRA-2019-027]

Self-Regulatory Organizations; Financial Industry Regulatory 
Authority, Inc.; Order Approving a Proposed Rule Change To Amend FINRA 
Rule 12000 Series To Expand Options Available to Customers if a Firm or 
Associated Person Is or Becomes Inactive

February 20, 2020.

I. Introduction

    On November 5, 2019, 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 Rules 12100, 
12202, 12214, 12309, 12400, 12601, 12702, 12801, and 12900 of the Code 
of Arbitration Procedure for Customer Disputes (``Customer Code'' or 
``Code'') to expand a customer's options to withdraw an arbitration 
claim if a member or an associated person becomes inactive before a 
claim is filed or during a pending arbitration. In addition, the 
proposed amendments would allow customers to amend pleadings, postpone 
hearings, request default proceedings, and receive a refund of filing 
fees in these situations.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
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    The proposed rule change was published for comment in the Federal 
Register on November 22, 2019.\3\ The public comment period closed on 
December 13, 2019. The Commission received five comment letters in 
response to the Notice.\4\ On February 11, 2020, FINRA responded to the 
comment letters received in response to the Notice.\5\ On December 18, 
2019, FINRA extended 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 February 20, 2020.\6\ This order approves 
the proposed rule change.
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    \3\ See Exchange Act Release No. 87577 (Nov. 18, 2019), 84 FR 
64581 (Nov. 22, 2019) (File No. SR-FINRA-2019-027) (``Notice'').
    \4\ See Letter from Steven B. Caruso, Maddox Hargett Caruso, 
P.C., dated November 19, 2019 (``Caruso Letter''); letter from 
Benjamin P. Edwards, Associate Professor of Law, University of 
Nevada, Las Vegas, December 11, 2019 (``Edwards Letter''); letter 
from Kevin M. Carroll, Managing Director and Associate General 
Counsel, SIFMA, December 12, 2019 (``SIFMA Letter''); letter from 
Samuel B. Edwards, President, Public Investors Arbitration Bar 
Association (``PIABA''), December 13, 2019 (``PIABA Letter''); and 
letter from Robin M. Traxler, Senior Vice President, Policy & Deputy 
General Counsel, Financial Services Institute (``FSI''), December 
13, 2019 (``FSI Letter''). Comment letters are available on the 
Commission's website at https://www.sec.gov.
    \5\ See Letter from Mignon McLemore, Assistant General Counsel, 
Office of General Counsel, FINRA, to Vanessa Countryman, Secretary, 
U.S. Securities and Exchange Commission, dated February 11, 2020 
(``FINRA Letter''). The FINRA Letter is available on FINRA's website 
at http://www.finra.org, at the principal office of FINRA, at the 
Commission's website at https://www.sec.gov/comments/sr-finra-2019-027/srfinra2019027-6796335-208356.pdf, and at the Commission's 
Public Reference Room.
    \6\ See Letter from Mignon McLemore, Assistant General Counsel, 
FINRA, to Lourdes Gonzalez, Assistant Chief Counsel, Division of 
Trading and Markets, U.S. Securities and Exchange Commission, dated 
December 18, 2019.
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II. Description of the Proposed Rule Change \7\
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    \7\ The subsequent description of the proposed rule change is 
substantially excerpted from FINRA's description in the Notice. See 
Notice, 83 FR at 64581-64583.
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Background

    Firms and individuals whose FINRA registration has been terminated, 
suspended, cancelled, or revoked, or who have been expelled from FINRA 
are generally referred to as ``inactive,'' and are no longer FINRA 
members or associated with a FINRA member, although they may continue 
to operate in another area of the financial services industry where 
FINRA registration is

[[Page 11158]]

not required. Firms and individuals can become inactive prior to an 
arbitration claim being filed, during an arbitration proceeding, or 
subsequent to an arbitration award, and this status can be caused by 
FINRA action, such as when a firm or individual is suspended for 
failing to pay an award, or by the firm's or individual's own voluntary 
action.\8\
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    \8\ See FINRA Rule 9554 (Failure to Comply with an Arbitration 
Award or Related Settlement or an Order of Restitution or Settlement 
Providing for Restitution).
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    Current FINRA arbitration rules provide options to a customer when 
dealing with those members or associated persons that are inactive 
either at the time the claim is filed or at the time of the award. For 
example, when a customer claimant first files an arbitration claim, 
FINRA alerts, by letter, the customer claimant if the respondent, 
whether a member or an associated person, is inactive. FINRA also 
informs the claimant that awards against such members or associated 
persons have a much higher incidence of non-payment and that FINRA has 
limited disciplinary leverage over inactive members or associated 
persons that fail to pay arbitration awards. Thus, the customer knows 
before pursuing the claim in arbitration that collection of an award 
may be more difficult. In addition, upon learning that the member or 
associated person is inactive, a customer may determine to amend his or 
her claim to add other respondents from whom the customer may be able 
to collect should the claim go to award.

Proposed Rule Change

    FINRA is proposing to amend the Customer Code to expand further the 
options available to customers in situations where a firm becomes 
inactive during a pending arbitration, or where an associated person 
becomes inactive either before a claim is filed or during a pending 
arbitration. In particular, FINRA is proposing to amend the Code to 
allow customers to amend pleadings, postpone hearings, request default 
proceedings and receive a refund of filing fees if the customer 
withdraws the claim under these situations.
A. Arbitrating Claims Against Inactive Members and Associated Persons
    Currently, under FINRA Rule 12202 (Claims Against Inactive 
Members), a customer's claim against a firm whose membership is 
terminated, suspended, cancelled or revoked, or that has been expelled 
from FINRA, or that is otherwise defunct, is ineligible for arbitration 
unless the customer agrees in writing to arbitrate after the claim 
arises.\9\ The Code does not address situations, however, where a 
member firm becomes inactive during a pending arbitration. In addition, 
the Code does not provide specific procedures for a customer to 
withdraw a claim against an associated person who becomes inactive 
before the customer files a claim or during a pending arbitration.
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    \9\ If the customer notifies FINRA in writing that he or she 
does not want to proceed against the inactive member in FINRA's 
forum, FINRA deems the customer's agreement to submit to arbitration 
rescinded and sends the customer a full refund of any filing fee 
remitted.
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    Accordingly, FINRA is proposing to amend FINRA Rule 12202 to expand 
a customer's option to withdraw a claim to situations where a member 
becomes inactive during a pending arbitration, or where an associated 
person becomes inactive either before a claim is filed or during a 
pending arbitration. Under the proposal, FINRA Rule 12202 would specify 
that a customer's claim against an associated person who is inactive at 
the time the claim is filed is ineligible for arbitration unless the 
customer agrees in writing to arbitrate after the claim arises. In 
addition, as amended Rule 12202 would specify that if a member or an 
associated person becomes inactive during a pending arbitration, FINRA 
would notify the customer of the status change, and provide the 
customer with 60 days to withdraw the claim(s) with or without 
prejudice.\10\
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    \10\ FINRA Rule 12702 (Withdrawal of Claims) provides that 
before a party answers a statement of claim, the claimant can 
withdraw the claim with or without prejudice. However, after a party 
submits an answer, the claimant can only withdraw the claim with 
prejudice unless the panel or the parties agree otherwise. FINRA is 
proposing to make a conforming change to FINRA Rule 12702 to provide 
that a customer can withdraw a claim without prejudice if the party 
that submitted an answer is an inactive member or inactive 
associated person. Withdrawal without prejudice would allow the 
customer to re-file the arbitration at a later date.
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    FINRA believes that similar to the current rules and procedures 
relating to claims filed against inactive members, the proposed 
amendments would allow the customer to evaluate the likelihood of 
collecting on an award and make an informed decision whether to proceed 
in arbitration, to file the claim in court or to take no action, 
regardless of whether the customer signed a predispute arbitration 
agreement.
    In addition, FINRA is proposing to amend FINRA Rule 12100 
(Definitions) to add definitions of ``inactive member'' and ``inactive 
associated person.'' Consistent with current Rule 12202, FINRA proposed 
to define an ``inactive member'' as a member whose membership is 
terminated, suspended, cancelled or revoked, that has been expelled or 
barred \11\ from FINRA, or that is otherwise defunct.\12\
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    \11\ FINRA is proposing to add ``or barred'' to the definition 
of an ``inactive member'' to capture that a member may be inactive 
due to a bar.
    \12\ The proposed rule change would amend the definition of 
``member'' under the Customer Code, the Code of Arbitration 
Procedure for Industry Disputes (``Industry Code''), and in Article 
I of the By-Laws of FINRA Regulation, Inc. to conform the definition 
to the proposed definition of an ``inactive member'' as discussed 
below. FINRA believes the proposed changes would make the definition 
of ``member'' consistent in the FINRA rules that apply to FINRA's 
arbitration forum.
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    Under the proposed rule change, an ``inactive associated person'' 
would be defined as a person associated with a member whose 
registration is revoked, cancelled, or suspended, who has been expelled 
or barred from FINRA, or whose registration has been terminated for a 
minimum of 365 days.\13\ Thus, if an associated person's registration 
is not revoked, cancelled, or suspended, the person has not been 
expelled or barred from FINRA, and the individual's registration has 
been terminated for less than one year, the individual would not be 
classified as terminated and, therefore, would not be deemed inactive.
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    \13\ See Proposed Rule 12100(r).
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    FINRA believes the 365-day minimum termination requirement for 
associated persons would help ensure that enough time has elapsed to 
assume reasonably that the associated person has permanently left the 
securities industry. FINRA further believes that the proposed 
requirement would allow enough time for those associated persons who 
may have temporarily left the industry to return before the arbitration 
closes.\14\
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    \14\ As stated in the Notice, termination, in some cases, may be 
a voluntary action that can be of short duration. For instance, in 
FINRA's analysis of 2,054 customer cases closed by hearing, on the 
papers, or by stipulated award from 2014 to 2018, FINRA identified 
78 cases where an associated person was not in the industry while 
the arbitration was pending but returned to the industry in fewer 
than 365 days. See Notice at note 25.
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B. Amending Pleadings

    Currently, FINRA Rule 12309 (Amending Pleadings) limits a party's 
ability to amend a statement of claim, among other pleadings, after 
FINRA has appointed a panel to the case. Specifically, once FINRA 
appoints a panel to a case, a party can amend a pleading only if the 
arbitrators grant a party's motion to do so. Current FINRA Rule 12309 
also provides that a party cannot add a new party to the case after 
arbitrator ranking lists are due to the Director of Arbitration until 
FINRA appoints the panel and the arbitrators grant a party's motion to 
add the new party.

[[Page 11159]]

    FINRA believes that a customer should be able to change his or her 
litigation strategy during a pending case once the customer learns that 
a firm or an associated person has become inactive. Accordingly, FINRA 
is proposing to amend FINRA Rule 12309 to provide that if FINRA 
notifies a customer that a firm or an associated person has become 
inactive during a pending arbitration, the customer may amend a 
pleading, including adding a new party, within 60 days of receiving 
such notice.\15\
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    \15\ Proposed FINRA Rule 12309(d) would permit any party to file 
a response to an amended pleading, provided the response is filed 
and served within 20 days of receipt of the amended pleading, unless 
the panel determines otherwise. Thus, the newly-added party could 
file a response to the amended pleading for the panel or arbitrator 
to consider.
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C. Postponing Hearings

    Currently, FINRA Rule 12601 (Postponement of Hearings) addresses 
when a scheduled hearing date can be postponed. Specifically, the 
parties can agree to postpone a hearing. In addition, a hearing can be 
postponed by FINRA in extraordinary circumstances, by the arbitrators 
at their discretion, or by the arbitrators upon a party's motion.
    FINRA is proposing to amend FINRA Rule 12601 to provide that if 
FINRA notifies a customer that a firm or an associated person has 
become inactive and the scheduled hearing date is within 60 days of the 
date the customer receives the notice from FINRA, the customer may 
postpone the hearing date. FINRA believes that since the proposed 
amendment would provide a customer with 60 days to determine how to 
proceed after FINRA notifies the customer of the status change to 
inactive, it would be appropriate to allow the customer to postpone a 
scheduled hearing that falls within that time period.
    In addition, FINRA currently assesses postponement fees against the 
parties for each postponement agreed to by the parties, or granted upon 
the request of one or more parties. FINRA also charges an additional 
fee of $600 per arbitrator if a postponement takes place within 10 days 
of a scheduled hearing date. The additional $600 per arbitrator fee is 
paid to the arbitrators to compensate them for the late 
adjournment.\16\
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    \16\ See FINRA Rule 12214 (Payment of Arbitrators).
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    FINRA is proposing to amend FINRA Rule 12601 to provide that if 
FINRA notifies a customer that a firm or an associated person has 
become inactive and the scheduled hearing date is within 60 days of the 
date the customer receives the notice from FINRA, FINRA would not 
charge the customer a postponement fee or an additional fee of $600 per 
arbitrator if a customer chooses to postpone a scheduled hearing. FINRA 
also is proposing to amend FINRA Rule 12214 to provide that it would 
continue to pay the $600 honoraria to the arbitrators to compensate 
them for their time if a customer chooses to postpone a scheduled 
hearing within 10 days before it is scheduled because the customer 
learns that the firm or associated person has become inactive.

D. Default Proceedings

    Currently, FINRA Rule 12801 (Default Proceedings) permits a 
claimant to request default proceedings against any respondent whose 
registration is terminated, revoked or suspended, and who failed to 
file an answer \17\ to a claim within the time provided in the Code. A 
single arbitrator will decide the case based on the claimant's 
pleadings and other documentation.\18\ The claimants must present a 
sufficient basis to support the making of an award.\19\ The arbitrator 
may not issue an award based solely on the nonappearance of a 
party.\20\
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    \17\ A respondent must serve each party with a signed and dated 
Submission Agreement and answer specifying the relevant facts and 
available defenses to the statement of claim within 45 days of 
receipt of the statement of claim. See FINRA Rule 12303(a).
    \18\ See FINRA Rule 12801(b)(2)(B). No hearings are held in 
default proceedings unless the customer requests one. See FINRA Rule 
12801(c).
    \19\ See FINRA Rule 12801(e)(1).
    \20\ Id. If the defaulting respondent files an answer before an 
award has been issued, the proceedings against this respondent will 
be terminated and the claim will proceed under the regular 
provisions of the Code. See FINRA Rule 12801(f).
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    As noted, the proposed amendments would define an inactive 
associated person as a person associated with a member whose 
registration is revoked, cancelled, or suspended, who has been expelled 
or barred from FINRA, or whose registration has been terminated for a 
minimum of 365 days. In the context of a default proceeding, FINRA 
believes that it would be appropriate to continue to allow a customer 
to request default proceedings against any terminated associated person 
who fails to answer a claim, regardless of how long the associated 
person has been terminated, consistent with the existing rule. 
Accordingly, FINRA is proposing to amend FINRA Rule 12801(a) to specify 
that a claimant may request a default proceeding against a terminated 
associated person who fails to file an answer within the time provided 
in the Code regardless of the number of days since termination.

E. Refunding Filing Fees

    Currently, FINRA Rule 12900 (Fees Due When a Claim is Filed) 
specifies that if a claim is settled or withdrawn more than 10 days 
before the date that the hearing is scheduled to begin, a party paying 
a filing fee will receive a partial refund of the filing fee. The rule 
also provides that FINRA will not refund any portion of the filing fee 
if a claim is settled or withdrawn within 10 days of the date that the 
hearing is scheduled to begin.
    FINRA is proposing to amend FINRA Rule 12900 to provide that FINRA 
would refund a customer's full filing fee if FINRA notifies a customer 
that a firm or an associated person has become inactive during a 
pending arbitration, and the customer withdraws the case against all 
parties within 60 days of the notification. FINRA would refund the 
filing fee even if the customer withdraws the case within 10 days of 
the date that the hearing is scheduled to begin.

F. Non-Substantive Changes

    FINRA is proposing to amend the Code to update cross-references and 
make other non-substantive, technical changes to the rules impacted by 
the proposal.

III. Comment Summary

    The Commission received five comment letters on the proposed rule 
change.\21\ One commenter fully supported the proposed rule change.\22\ 
Three of the commenters generally supported the proposed rule change, 
but suggested further changes to address unpaid arbitration awards and 
other matters.\23\ The fifth commenter did not support the proposal, 
stating that the proposal did not do enough to address the issue of 
unpaid arbitration awards.\24\
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    \21\ See supra note 4.
    \22\ See Caruso Letter.
    \23\ See FSI Letter, SIFMA Letter, and PIABA Letter.
    \24\ See Edwards Letter.
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Supporting the Proposal

    Four commenters supported the proposed rule change as expanding the 
options available to customers in arbitration proceedings.\25\ One 
commenter believes that the amendments in the proposed rule change 
``address a scenario that is not currently addressed in FINRA rules 
and, as such, brings important clarity to the arbitration process.'' 
\26\ Another commenter generally supported the proposed amendments ``to 
allow

[[Page 11160]]

customers to withdraw a claim, amend pleadings, postpone hearings, 
invoke expedited default proceedings, and receive a refund of filing 
fees'' as ``an appropriate expansion of claimant protections.'' \27\ 
Another commenter believes the amendments would ``expand options for 
customers in pursuing and attempting to collect money awarded to them 
against industry respondents in arbitration proceedings,'' although it 
described these amendment as addressing ``minor problems.'' \28\ 
Finally, one commenter believes that ``the proposed rule filing would 
enhance the ability of customers to evaluate the likelihood of 
collecting on an award and to make an informed decision whether to 
proceed in arbitration, to file the claim in court or to take no 
action.'' \29\
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    \25\ See Caruso Letter, FSI Letter, SIFMA Letter, and PIABA 
Letter.
    \26\ FSI Letter.
    \27\ SIFMA Letter.
    \28\ PIABA Letter.
    \29\ Caruso Letter.
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    In addition, two commenters supported the proposed rule change 
because they believe it will help address unpaid arbitration 
awards.\30\ One commenter noted that ``the proposed amendments 
recognize that most unpaid customer arbitration awards are rendered 
against firms or individuals whose FINRA registrations have either been 
terminated, suspended, cancelled or revoked, or who have been expelled 
from FINRA.'' \31\ The commenter believes that addressing this 
recognition ``clearly serves to protect investors and the public 
interest by expanding the options available to customers with claims 
against brokerage firms and individual brokers who are unlikely to pay 
arbitration awards that may be issued against them.'' \32\ Another 
commenter stated that its support of the proposed rule change was 
``predicated on FINRA's stated purpose of the Proposal--namely, to 
facilitate `dealing with those member firms or associated persons who 
are responsible for most unpaid awards--firms and associated persons 
who are no longer in business either at the time the claim is filed or 
at the time of the award.' '' \33\ That commenter also stated that it 
``agree[s] that the Proposal would probably help address the issue of 
unpaid arbitration awards.'' \34\
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    \30\ See Caruso Letter and SIFMA Letter.
    \31\ Caruso Letter.
    \32\ Id.
    \33\ SIFMA Letter.
    \34\ Id.
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Proposal Is Insufficient

    Three commenters stated that the proposal does not address the 
problem of unpaid arbitration awards in a meaningful way and urged 
FINRA to take further action.\35\ One of these commenters stated that 
the proposal ``fails to address the major problem faced by victims of 
thinly capitalized broker-dealer firms: That judgements against them 
are often rendered valueless'' \36\ and recommended FINRA establish a 
national recovery pool.\37\ Another commenter claimed that the proposal 
``nibble[s] around the edge of the issue'' and fails to ``require firms 
to acquire insurance to bear the costs of their operations or to 
maintain significant capital reserves.'' \38\ A third commenter 
believed that the proposal does not ``improve investors' ability to 
collect arbitration awards against inactive FINRA members or reduce 
instances of unpaid arbitration awards by inactive FINRA members.'' 
\39\
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    \35\ See FSI Letter, PIABA Letter, and Edwards Letter.
    \36\ PIABA Letter.
    \37\ See PIABA Letter.
    \38\ Edwards Letter (urging the Commission to require FINRA to 
propose ``meaningful reforms'' regarding unpaid arbitration). 
Although the Commission acknowledges that this commenter and others 
are concerned that the proposed rule change does not sufficiently 
address the issue of unpaid arbitration awards, we note that FINRA 
is continuing to consider this issue as well as possible responses 
to further enhance customer recovery. See FINRA Letter.
    \39\ FSI Letter.
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    In response, FINRA stated that the proposed rule change is 
``intended to expand the options available to a customer when dealing 
with those members or associated persons that are inactive at the time 
a claim is filed or become inactive during a pending arbitration.'' 
\40\ Accordingly, FINRA believes that a commenter's recommendation to 
create a national recovery pool is outside the scope of this 
proposal.\41\ However, FINRA also stated that the proposal represents 
just ``one of the ways it is proceeding to implement additional steps 
to strengthen its rules relating to the important but complex topic of 
customer recovery.'' \42\ FINRA noted that, in a separate proposed rule 
change, it is proposing amendments to its Membership Application 
Program (``MAP'') rules ``to create further incentives for the timely 
payment of awards.'' \43\ Specifically, the MAP proposal would, among 
other things, ``prevent a member firm with substantial arbitration 
claims from avoiding payment of the claims should they go to award or 
result in a settlement by shifting its assets, which are typically 
customer accounts, or its managers or owners, to another firm and 
closing down.'' \44\
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    \40\ FINRA Letter.
    \41\ See FINRA Letter.
    \42\ Id.
    \43\ FINRA Letter. See Exchange Act Release No. 87810 (Dec. 20, 
2019), 84 FR 72088 (Dec. 30, 2019) (Notice of Filing of File No. SR-
FINRA-2019-030).
    \44\ FINRA Letter at note 18.
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    In addition, FINRA stated it welcomes continued dialogue about 
``addressing the challenges of customer recovery across the financial 
services industry while directly informing the further enhancement of 
recovery in FINRA's forum[.]'' \45\ For example, FINRA cited to its 
2018 White Paper and ``additional data regarding the circumstances 
under which awards may be unpaid, along with a discussion of potential 
regulatory and legislative responses.'' \46\
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    \45\ FINRA Letter.
    \46\ FINRA Letter. See FINRA's White Paper entitled FINRA 
Perspectives on Customer Recovery (February 8, 2018), https://www.finra.org/sites/default/files/finra_perspectives_on_customer_recovery.pdf and https://www.finra.org/arbitration-mediation/statistics-unpaid-customer-awards-finra-arbitration. In addition, FINRA has published a list of 
firms and associated persons responsible for unpaid arbitration 
awards. See https://www.finra.org/arbitration-mediation/member-firms-and-associated-persons-unpaid-customer-arbitration-awards. 
This information also appears on a firm's or individual's 
BrokerCheck record.
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    For these reasons, FINRA declined to amend the proposal in response 
to these commenters.

Expand Proposal to Industry Code

    One commenter recommended FINRA expand the proposed rule change to 
apply not only to customer cases but also to intra-industry cases 
(i.e., disputes between or among members and associated persons).\47\ 
The commenter stated that unpaid arbitration awards result from both 
customer and intra-industry cases and, therefore, ``the same arguments 
that FINRA makes in favor of expanding the options available to a 
customer claimant when dealing with inactive firms and associated 
persons apply equally to industry claimants.'' \48\
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    \47\ See SIFMA Letter; see also FINRA Rule 13000 Series 
(Industry Code).
    \48\ SIFMA Letter.
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    In response, FINRA acknowledged the commenter's concern but stated 
that at this time it has decided to focus its attention on customer 
cases and believes that ``providing customers with more control over 
the arbitration process when faced with a respondent that likely will 
not be able to pay an award furthers FINRA's goal of investor 
protection.'' \49\ Accordingly, FINRA declined to amend the proposal in 
response to the commenter.
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    \49\ FINRA Letter. FINRA also noted, that it welcomes further 
discussions regarding the circumstances under which awards may be 
unpaid, along with potential solutions. See FINRA Letter; see also 
supra note 46 and accompanying text.

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[[Page 11161]]

Proposal Creates Imbalance Between Claimants and Respondents

    One commenter stated that the proposed rule change creates an 
imbalance between claimants and respondents. Specifically, the 
commenter expressed concern that because the proposal permits a 
claimant to amend its pleading to add a claim or party without the need 
for pre-approval by an arbitrator or panel, any newly added party would 
not be able to participate in the arbitrator panel selection 
process.\50\ Similarly, the commenter stated that ``requiring an 
arbitrator or panel to grant a motion to add a party serves the 
important purpose of providing the party to be added with an 
opportunity to object to being added.'' \51\ For these reasons, the 
commenter opposed the elimination of the existing motion requirement 
for adding a party or amending a pleading.\52\
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    \50\ See FSI Letter.
    \51\ FSI Letter.
    \52\ See FSI Letter.
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    In response, FINRA stated that the proposal would not change the 
panel selection process under the current rules.\53\ Specifically, 
``[i]f a panel grants a motion to amend a pleading to add a new party, 
the party to be added [currently] does not get to participate in the 
panel selection process.'' \54\ However, FINRA would provide arbitrator 
disclosure reports of the sitting panelists \55\ to any party added 
after a member or associated person becomes inactive; \56\ and, if the 
party discovers a conflict, the party may file a motion to recuse the 
arbitrator.\57\
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    \53\ See FINRA Letter.
    \54\ FINRA Letter. See generally Part IV of the Customer Code 
(Appointment, Disqualification, and Authority of Arbitrators); see 
also Arbitrator Selection, http://www.finra.org/arbitration-and-mediation/arbitrator-selection. See FINRA Letter at note 8.
    \55\ An arbitrator disclosure report is a summary of the 
arbitrator's background and is provided to the parties to help them 
make informed decisions during the arbitrator selection process. 
Whenever a party is added to a claim, the panelists must update 
their disclosures or review them to ensure that further updates are 
not warranted. See FINRA Letter at notes 9 and 10; see also FINRA 
Rule 12405 (Disclosures Required of Arbitrator).
    \56\ See FINRA Letter.
    \57\ See FINRA Letter; see also FINRA Rule 12406 (Arbitrator 
Recusal).
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    In addition, FINRA believes that ``it is appropriate to remove the 
requirement that a customer file a motion to amend a pleading after 
panel appointment if a respondent member firm or associated person has 
become inactive to help avoid additional costs and delay to the 
customer.'' \58\ FINRA stated that the proposal would not change a 
party's ability to respond to an amended pleading by filing an answer 
and raising any available defenses under the current rules.\59\ 
Accordingly, a party added under the proposal would still be able to 
respond to a pleading.
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    \58\ FINRA Letter.
    \59\ See FINRA Letter; see also FINRA Rule 12303 (Answering the 
Statement of Claim).
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    For these reasons, FINRA declined to amend the proposal in response 
to the commenter.

IV. Discussion and Commission Findings

    After careful review of the proposed rule change and the comment 
letters, the Commission finds that the proposal is consistent with the 
requirements of the Exchange Act and the rules and regulations 
thereunder that are applicable to a national securities 
association.\60\ Specifically, the Commission finds that the proposed 
rule change is consistent with Section 15A(b)(6) of the Exchange 
Act,\61\ 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.
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    \60\ 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).
    \61\ 15 U.S.C. 78o-3(b)(6).
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Public Interest

    The Commission agrees with FINRA and those commenters that support 
the proposed rule change that it will provide customers with expanded 
options and flexibility to change case strategy if FINRA notifies them 
that a member or associated person has become inactive during a pending 
arbitration. Specifically, the proposed rule change would make several 
modifications to FINRA's rules to address the situation where a member 
firm becomes inactive during a pending arbitration, allowing customers 
to amend pleadings, postpone hearings, request default proceedings, and 
receive a refund of filing fees in that situation. In addition, the 
proposed rule change would expand customers' options with respect to 
claims brought against associated persons. Specifically, the proposal 
would provide customers the same options during a case against inactive 
associated persons as they would have in a case against inactive 
members. It would also clarify the default rule to include an inactive 
associated person who does not answer a claim, regardless of the number 
of days since termination. As noted above, the Commission agrees that, 
similar to the current rules and procedures relating to claims filed 
against inactive members, these proposed changes would allow customers 
to evaluate the likelihood of collecting on an award and make an 
informed decision whether to proceed in arbitration, to file the claim 
in court or to take no action, regardless of whether the customer 
signed a predispute arbitration agreement.
    With respect to one commenter's concern that the proposed rule 
change does not apply to intra-industry cases,\62\ the Commission notes 
that FINRA welcomes continued dialogue about the challenges of 
addressing issues related to collecting unpaid arbitration awards in 
its forum.\63\
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    \62\ See SIFMA Letter.
    \63\ See FINRA Letter.
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    Similarly, the Commission acknowledges commenter's concern that the 
proposed rule change will create an imbalance in the arbitration 
process between claimants and respondents by: (1) Denying a newly added 
respondent the opportunity to participate in the arbitrator panel 
selection process, and (2) precluding a newly added respondent the 
opportunity to object to being added.\64\ The Commission notes FINRA's 
belief that the proposed rule change does not create such an imbalance 
because existing rules already provide procedures that offer sufficient 
protections for respondents added to an arbitration after the panel is 
appointed, including respondents who would be added as a result of the 
proposed rule change. In particular, FINRA notes that under existing 
FINRA rules a newly added respondent would receive reports summarizing 
the arbitrators' backgrounds and provide respondent with the 
opportunity to seek recusal of any arbitrator with a conflict of 
interest. In addition, FINRA notes that the proposed rule change does 
not change a party's ability to respond to an amended pleading by 
filing an answer and raising any available defenses.\65\
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    \64\ See FSI Letter (stating ``Providing arbitrator disclosure 
reports of the sitting panelists to an added party and permitting an 
added party to raise any conflicts they find with the panel is not 
equivalent to participating in the panel selection process. . . . 
Permitting a claimant to submit a response to an amended pleading is 
not equivalent to providing an opportunity to be heard in response 
to a motion prior to being added as a party.'').
    \65\ See FINRA Letter.
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    The Commission acknowledges the commenter's concern that these are 
insufficient alternatives to respondents participating in the 
arbitrator selection process or having the ability to respond to a 
motion prior to being added as a party.\66\ The Commission believes,

[[Page 11162]]

however, that despite any potential imbalance it is important that 
claimants be able to add respondents upon learning that the member or 
associated person against which she bought the claim is inactive to 
help ensure that the claimant is able to collect should the claim go to 
award.\67\ In addition, notwithstanding any potential imbalance, the 
Commission notes FINRA's position that the existing FINRA rules would 
provide respondents procedural protections in the limited circumstances 
in which such respondents would be added under to the proposal.
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    \66\ See FSI Letter.
    \67\ See PIABA Letter (Supporting the aspect of the proposed 
rule change that would permit an amendment of the statement of 
claim, without leave of the arbitration panel because it would 
permit a customer claimant to pursue claims against potentially 
collectible respondents.
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    Finally, the Commission acknowledges several commenters' concerns 
that the proposed rule change will not, in their view, effectively 
resolve the problems related to unpaid arbitration awards and their 
proposed enhancements to the proposal, such as requiring a national 
recovery pool \68\ or requiring firms to acquire insurance.\69\ As 
FINRA noted, this the proposal represents only one step in the ongoing 
process of addressing these issues and that FINRA continues to evaluate 
further action.
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    \68\ See PIABA Letter.
    \69\ See Edwards Letter.
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    Accordingly, because the proposed rule change will expand the 
options available to customers in pending arbitrations with claims 
against respondents who are unlikely to be able to pay, and promote 
consistency under FINRA's rules, the Commission believes that the 
proposed rule change is designed to protect investors and the public 
interest.

V. Conclusion

    It is therefore ordered pursuant to Section 19(b)(2) of the 
Exchange Act \70\ that the proposal (SR-FINRA-2019-027), be and hereby 
is approved.
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    \70\ 15 U.S.C. 78s(b)(2).

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\71\
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    \71\ 17 CFR 200.30-3(a)(12).
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Jill M. Peterson,
Assistant Secretary.
[FR Doc. 2020-03771 Filed 2-25-20; 8:45 am]
BILLING CODE 8011-01-P