Expungement of Forms U-4 and U-5; Potentially a Reality

April 12, 2012Articles Westlaw News & Insight Securities Blog
One of the biggest injustices that registered representatives face is having their U-4 or U-5 license registration forms amended to reflect a customer complaint, even though not named as a respondent, only to then have little avenue to have that complaint expunged from their records. It appears as though FINRA has recognized this injustice in Notice to Member 12-18 in which FINRA has sought comment on proposed new rules that will allow an unnamed person who is the "subject of" allegations to seek expungement by initiating separate proceedings at the conclusion of a customer-initiated arbitration.

With the ultimate adoption of these new rules, unnamed persons who are the subject of a complaint, can seek redress regarding allegations that may have an adverse impact on their livelihood, but, at the same time, ensure the integrity of CRD records upon which the investing public relies through such resources as Broker Check.

Starting in 2009, the SEC approved amendments to Forms U-4 and U-5 to require the reporting of allegations of sales practice violations when the registered representative was not named as a respondent, but the subject of the allegations. Under the current rules, such a person had three options to seek expungement: (1) request their current or former employer to seek expungement as part of the customer arbitration; (2) seek to intervene in the customer arbitration and request expungement; or (3) initiate a new arbitration in which the unnamed person seeks expungement and names the customer and/or firm as a respondent.

To its credit, FINRA has determined that these options are not really options at all. First, the current system requires reliance on the current or former employer to pursue expungement. Second, intervention could cause unnecessary delay in the customer case. Third, it is not practical to intervene in the customer case because that would expose the unnamed person to direct liability. Fourth, there is an inequity in having the member firm or customer incur the expense associated with a new arbitration.

The proposed rules do away with these difficulties altogether because, for starters, the unnamed person would be the only party to the expungement arbitration and cannot name the customer or member firm. In such an expungement proceeding, the unnamed person could only seek expungement relief, although the proposed rules still allow the firm to seek expungement for the unnamed person in the underlying case.

As a condition to pursuing an expungement arbitration, the unnamed person must notify FINRA of the intent to pursue expungement through that proceeding within 180 days of being notified of the amendment to the U-4 or U-5. Once the underlying case concludes, the unnamed person would then have 60 days to commence an expungement arbitration by filing a statement of claim. A single public arbitrator would then hear the expungement case. If there was an underlying arbitration, the appointed arbitrator in the expungement proceeding would be the public arbitrator from that proceeding. The parties to the underlying arbitration would also have the ability to appear and testify at the expungement hearing. Importantly, this procedural recourse will not exist for registered representatives who are named in the underlying sale practice violation arbitration; such relief would have to be sought in the underlying case.

The proposed rules are an important first step for FINRA in recognizing that unnamed persons may have their careers forever adversely impacted by having their Forms U-4 or U-5 blemished without any established procedure to seek the removal of the blemish. All in all, this proposed procedural recourse appears to provide a relatively cost-effective and expeditious mechanism for unnamed persons to expunge their records. Presumably, if the member firm prevails in the underlying arbitration, expungement should be a foregone conclusion. If the firm does not prevail in that case, the unnamed person would still have the ability to seek recourse and make her case for expungement.

In our climate of the customer is always right, it at least looks as though FINRA is willing to acknowledge those circumstances where the customer might not have been right and the registered representative should not be made to unfairly suffer. Time will tell if these proposed procedures fulfill their purpose.