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Brokerage Firms Face Litigation Risks With Senior, Vulnerable Clients

Feb. 24, 2021, 9:00 AM

Litigation involving the elderly and other vulnerable investors is set to increase in the coming years due in part to an aging investor population (indeed, all baby boomers are set to reach at least age 65 in 2029!).

As investors age, brokerage firms and investment advisers will increasingly face dilemmas involving diminished capacity and financial exploitation of their senior and vulnerable customers. Spotting potential issues in this space is not always easy and firms can face costly litigation as a result.

Consider the following hypothetical:
A 75-year old customer calls his financial adviser seeking to change the beneficiary on his account to his new caregiver and instructs the adviser to liquidate a large and long-held position with Company X. Feeling that the customer’s requests are suspicious, especially given the customer’s age and a recent hospitalization, the financial adviser raises the issue with his manager, and the manager directs that a hold be placed on the transaction.

The firm conducts a thorough internal review and, determining there to be no evidence of financial exploitation, the transaction hold is lifted. In the interim, however, Company X’s share price drops. The customer loses out on a significant amount of profit per share and seeks recovery against the financial institution through litigation.

FINRA Rules and State Laws

A firm’s temporary hold on a customer’s transaction must be authorized by rule, statute, or account agreement. FINRA Rule 2165 permits firms to place temporary holds only on disbursements of securities from accounts of senior and vulnerable adults. Under current FINRA rules, therefore, the firm in the scenario above would not have the ability to place a temporary hold on the customer’s transaction. This situation, however, is evolving. FINRA has proposed an amendment to Rule 2165, which would allow firms to place transaction holds in suspected instances of financial exploitation.

But, the firm is not out of luck. Twenty-nine states have adopted, in whole or in part, a statute modeled after the North American Securities Administrators Association (NASAA) Model Act that is designed to protect vulnerable investors from financial exploitation. Most states permit firms to place a temporary transaction hold. This represents a growing trend—with New Jersey, Florida, West Virginia, and Oklahoma all adopting financial exploitation statutes with transaction holds in 2020.

Best Practices

Firms are under tremendous pressure to make correct decisions, as displayed in the case study above. If the broker or firm turns out to be wrong, it may find itself the subject of an arbitration action. So, how do firms make sure to get these calls right?

Firms should take proactive steps to protect senior and vulnerable customers before any financial exploitation is suspected. In addition to protecting the vulnerable customer, these steps, some of which are outlined below, will benefit the firm in future litigation.

Training and Policies and Procedures. Florida and New Mexico have statutes that require firms to develop training, policies, and procedures “reasonably designed” to train agents on issues relating to financial exploitation of vulnerable adults. Firms should design their training programs to educate their employees about different signs of financial exploitation.

The training, policies, and procedures should be robust: a customer’s counsel will attempt to attack the firm’s training to undermine state statutory immunity.

Centralized Reporting Groups. Firms that employ a centralized reporting group (or individual) are more likely to be equipped to identify and act on suspected financial exploitation. Individuals within a centralized group operate at an “expert” level on FINRA rules and state laws that is not always achievable for a registered representative.

Protecting the Customer (and the Firm) After Suspected Exploitation

Even the best training programs, policies, and procedures cannot prevent financial exploitation. The question then becomes: What steps should the firm take after suspecting financial exploitation to both protect its customer from harm and shield itself in a potential litigation? Thankfully, the steps taken to achieve these goals are typically aligned.

Contact Third Parties. FINRA Rule 4512 requires brokerage firms to make reasonable efforts to obtain the name and contact information for a trusted contact person. The trusted contact person is a great place to start when the firm suspects financial exploitation. However, clients often choose not to designate such a person, or the trusted contact may be the one suspected of engaging in the exploitation. In that case, firms should turn to state law.

Many states allow firms to go beyond FINRA’s trusted contact person to contact individuals “reasonably associated with the vulnerable adult.” Understanding state law requirements is a great first step.

Contact Government Agencies. Firms should look to the state where the customer is located and report to all applicable government agencies—no matter whether the state requires reporting. In states with NASAA-based financial exploitation statutes, firms should also be aware of their reporting obligations under long-standing adult protective services laws.

Documentation. Firms should document each step they take after suspecting financial exploitation, including the rationale for contacting third parties and government agencies, and the results of their internal review. For example, defending against the senior investor’s claim in the scenario above will require documentation as to why the registered rep developed a reasonable belief of financial exploitation, what steps the firm took to investigate, and which individuals/government agencies were contacted.

Firms are accustomed to lawsuits brought by disgruntled customers. By taking the steps above, firms can act proactively to protect their customers while developing important tools and evidence to be used in potential litigation.

This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.

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Author Information

Andrew Mount is a member of Bressler, Amery & Ross’ Financial Institutions practice group and helps financial services clients navigate the increasingly complex securities law landscape.

Amrit Singh is an associate in the firm’s Financial Institutions practice group.

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