Alert January 26, 2018

Brokerage Industry Enhances Measures to Fight Elder Financial Exploitation

Summary

On February 5, 2018, new FINRA Rule 2165 (Financial Exploitation of Specified Adults) becomes effective, as does an amendment to existing FINRA Rule 4512 (Customer Account Information). Together, these rules will implement FINRA’s new “Trusted Contact Person” framework and will permit broker-dealers to place a temporary hold on disbursement requests upon reasonable belief of financial exploitation of seniors and other “Specified Adults.” While this new framework will impose certain requirements on broker-dealers, it will also enable them to intervene, when necessary, to combat financial exploitation of elderly clients and others who may be suffering from diminished cognitive capacity.

Fraud in the financial services sector can be incredibly destructive. For elderly investors, the perils of financial exploitation are magnified due to the short timeline to recover from the damage and the level of assets at risk (often an entire life’s savings or retirement funds).  Personnel at broker-dealers, banks and other financial institutions often are the first and last barriers standing between clients and those who seek to exploit them. While combatting elder financial exploitation is an uphill battle, FINRA members will soon have additional weapons in their arsenal. In particular, on February 5, 2018, FINRA’s new “Trusted Contact Person” framework goes into effect along with the ability to place temporary holds on disbursement requests. Here are the basics:

  • Trusted Contact Person Identification. Amended FINRA Rule 4512 (Customer Account Information) will require each FINRA member to make a reasonable effort to gather, for each non-institutional account, the name of and contact information for a Trusted Contact Person who may be contacted about the customer’s account. A firm may disclose information about the customer’s account to address possible financial exploitation or to confirm the specifics of the customer’s current contact information, health status, or the identity of any legal guardian, executor, trustee or holder of a power of attorney.
  • Temporary Hold Authority. New FINRA Rule 2165 (Financial Exploitation of Specified Adults) permits a member to place a temporary hold on a disbursement of funds or securities from the account of a “Specified Adult” upon reasonable belief that financial exploitation of the Specified Adult has occurred or may occur or be attempted. For purposes of the rule, a Specified Adult is a natural person age 65 and older or a natural person age 18 and older who the member reasonably believes has a mental or physical impairment that renders the individual unable to protect his or her own interests. One of the requisite conditions for placing the temporary hold is that the firm notify the Trusted Contact Person for the account, unless the Trusted Contact Person is unavailable or the firm reasonably believes that the Trusted Contact Person is the one who has been or will be engaging in the financial exploitation of the Specified Adult.

Firms can garner insight from FINRA Regulatory Notice 17-11, which was published in February 2017 shortly after the SEC approved the new Trusted Contact Person framework and the ability to temporarily freeze disbursements represents. Additionally, on January 3, 2018, FINRA published FAQs to provide additional guidance to its members. Here are some helpful takeaways:

  • FINRA Rule 2165 provides that the temporary hold periods may be extended by a state regulator or agency or court of competent jurisdiction. The FAQs note that a formal order from a state agency (e.g., adult protective services) is not required. In other words, verbal directions or an email from the agency should suffice, as long as the firm documents and retains a record memorializing the conversation.
  • For a non-natural person, non-institutional account (e.g., a corporation, partnership or trust that is not an “institutional account” under Rule 4512(c)), a member may treat any authorized agent on the account (e.g., an officer, partner or trustee) as a trusted contact. The member must provide the customer with the disclosure required by Rule 4512.06(a). 
  • If a firm maintains multiple accounts for a customer, the firm is permitted to seek information for the Trusted Contact Person for all accounts collectively. The firm must clearly identify the affected accounts. If the customer chooses, the firm must permit a customer to identify different Trusted Contacts Persons for the different accounts.
  • A firm is not required to obtain or update information related to a customer’s Trusted Contact Person every time the firm communicates with the customer, even if the firm is attempting to update certain other account information.

This new framework is not perfect and will not prevent all attempts of elder financial exploitation at or through broker-dealers. For example, the concept of a Trusted Contact Person loses its usefulness as a shield when the Trusted Contact Person is the one perpetrating the fraud. Unfortunately, this is all too often the case (e.g., a family member, guardian or individual with power of attorney). Additionally, placing a temporary hold on disbursements is voluntary – firms are not required to take this action. Also, firms are not permitted to place a temporary hold on a securities transaction (i.e., an order to sell shares in the customer’s account), although FINRA has indicated that it may consider extending the rule to securities transactions in the future.  Nevertheless, this new framework will give firms additional flexibility in the battle and should decrease instances where elder clients’ funds are lost due to third-party elder fraud.

Firms can be confident that the new framework will provide a safe harbor against potential liability resulting from properly sharing information with the Trusted Contact Person and for placing the temporary freeze on disbursements. In particular, absent the new framework, firms would be liable for violations of certain FINRA rules (including Rule 11870 in relation to customer account transfers) if they place a temporary hold on disbursement requests. Additionally, FINRA’s new framework provides a level of assurance that disclosing information to a Trusted Contact Person will not violate applicable privacy regulations. FINRA considers disclosures to a Trusted Contact Person pursuant to Rules 2165 and 4512 to be consistent with Regulation S-P, because the disclosures would be made with customers’ consent, to protect against fraud or unauthorized transactions, or to comply with federal, state, or local laws, rules and other applicable legal requirements. FINRA cited to 2013 Interagency Guidance on Privacy Laws and Reporting Financial Abuse of Older Adults, issued by the SEC and several other federal regulators, which “clarifies that reporting suspected financial abuse of older adults to appropriate local, state, or federal agencies does not, in general, violate the privacy provisions of the [Gramm-Leach-Bliley Act] or its implementing regulations,” including Regulation S-P.  SEC staff confirmed the accuracy of this interpretation during discussions with FINRA. Nevertheless, FINRA has urged its members to use discretion in disclosing information to a Trusted Contact Person, including consideration of privacy requirements outside of the U.S. that may apply.

A long road lies ahead before the epidemic of elder financial exploitation is eradicated.  However, FINRA’s implementation of the new Trusted Contact Person framework and the ability to temporarily freeze disbursements represents a step in the right direction. Awareness and communication within firms are key factors in preventing elder financial exploitation, as is rigorous training of personnel and robust policies, processes and procedures. FINRA members should finalize their plans for complying with the rules in advance of the February 5, 2018, effective date, both to ensure prompt implementation and to withstand potential scrutiny by FINRA during examinations. In this regard, FINRA will continue to surveil for potential elder exploitation from external sources, as well as within a firm, including gaps in supervisory or compliance programs. As it has done in the past, FINRA recently highlighted senior investor protection concerns in its 2018 Regulatory and Examination Priorities Letter, including flagging high pressure sales tactics, sales of speculative or complex products, powers of attorney or trustee power held by brokers, brokers as named beneficiaries and rollovers from qualified plans to nonqualified accounts.