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Day: April 23, 2018

FINRA Proposal Eliminates Control/Discretion Defense to Churning

FINRA has proposed changing the suitability standard so that brokers could have liability for excessive trading even if the broker did not exert control or discretion over the client’s account.  Current FINRA rules require a showing of control before FINRA could charge a broker with churning.  FINRA questions whether this control element puts a “heavy and unnecessary burden on customers by, in effect, asking them to admit that they lack sophistication or the ability to evaluate a broker’s recommendation.”  FINRA says that this control element may not be appropriate in light of the recently proposed SEC’s Regulation Best Interest.  FINRA would evaluate churning based on the total facts and circumstances including turnover rate (e.g. greater than 6), cost-to-equity ratio (e.g. greater than 20%), or the use of in-and-out trading.

OUR TAKE: Brokers, and their compliance officers, have long relied on the regulatory distinction between accounts over which they exercised discretion versus directed accounts.  This proposal eliminates that ostensible compliance bright line which really has very little meaning in the real world where retail clients rely on broker recommendations.  Acting in a client’s best interest should not depend on how much control a broker exercises.

http://www.finra.org/sites/default/files/notice_doc_file_ref/Regulatory-Notice-18-13.pdf