FINRA’s 2021 Examination and Risk Monitoring Report Highlights Important Issues
In February, the Financial Industry Regulatory Authority (FINRA) published its 2021 Risk Monitoring and Examination Activities Report (the Report), which effectively combined two previous annual reports published by FINRA, including its Report on Examination Findings and Observations, as well as its Risk Monitoring and Examination Program Priorities Letter. The Report is focused on addressing important compliance-related topics across numerous key categories, including brokerage firm operations, as well as communications and sales practice considerations and guidance for FINRA member firms. Notably, the Report addressed certain key areas that “impact compliance programs across a large population of member [brokerage] firms” including Regulation Best Interest (Reg BI), private placement investments, and variable annuity sales practice issues.
With respect to Reg BI—a recently introduced 2020 regulation establishing a “best interest” standard of conduct for broker-dealers and associated persons when making an investment recommendation (or recommending an investment strategy)—the Report sets forth numerous compliance-related considerations for brokerage firms in seeking to adhere to Reg BI. Among other things, the Report indicates that member firms are “required to provide a brief relationship summary” via Form CRS to retail investors. Form CRS is designed to provide retail investors with important information about the types of services offered by the firm, the firm’s fees and costs, conflicts of interest, whether the firm and its investment professionals have a reportable legal or disciplinary history, and how to obtain more information about the firm.
Regarding private placement investments, the Report references earlier guidance (including FINRA Regulatory Notice 10-22) regarding the obligations of brokerage firms to conduct reasonable investigations into private securities offerings under SEC Regulation D (Reg D). Specifically, brokerage firms are reminded of their obligation to conduct a reasonable due diligence investigation into a private placement issuer by evaluating the “issuer and its management; the business prospects of the issuer; the assets held by or to be acquired by the issuer; the claims being made” in any offering documents, as well as “the intended use of the proceeds of the offering.” Further, the Report cautions that as of June 30, 2020, Reg BI’s “best interest” standard would apply to any recommendations of private placement securities to retail customers.
As it concerns the seemingly “evergreen issue” of variable annuity sales practices and related obligations, the Report reiterates that FINRA Rule 2330 “establishes sales practice standards regarding recommended purchases and exchanges of deferred variable annuities, including requiring a reasonable belief that the customer has been informed” of various features characteristic of annuities, including various fees and costs, surrender charges, potential tax implications and penalties, as well as market risk. As with previous guidance concerning variable annuities, the Report highlights FINRA’s ongoing sensitivity to variable annuity exchanges, noting the importance of using automated surveillance tools and exception reports to review proposed variable annuity exchanges, as well to create historical reports with standardized thresholds to detect trends across various registered representatives and specific investment products. Among other guidance with respect to variable annuity exchanges, the Report recommends that financial advisors “provide detailed written rationales for variable annuity exchanges for each customer … and requiring supervisory principals to verify the information provided by registered representatives.”
The attorneys at Giarrusso Law Group LLC have considerable experience in representing both investors and financial advisors with regard to all manner of issues unique to the financial services industry. On behalf of investors, the firm routinely pursues claims related to the sale of defective investment products, or the negligence of a financial advisor and/or brokerage firm in managing a customer’s investments. On behalf of financial advisors and other securities industry professionals, the firm offers broad-based counsel on a range of matters, including compensation-related disputes, U5 expungements and responding to FINRA Enforcement inquiries and handling related on-the-record (OTR) interviews. If you wish to discuss a specific matter you may contact us by telephone at (201) 771-1115 or by email at info@gialawgroup.com for a no-cost and no-obligation consultation.