Reg BI Recent Cases: SEC and FINRA Perspectives

InvestorCOM spoke with David Porteous, Partner at Faegre Drinker and Mitchell Atkins, Principal at FirstMark Regulatory Solutions to discuss the SEC’s and FINRA’s perspectives on the recent Reg BI cases.


Parham Nasseri [PN]: With all the rhetoric we’ve seen in recent cases, specifically on the Reg BI front, what do you see as the main concern from the SEC’s or FINRA’s perspective?

David Porteous: I’ll go back to something that was asked of chairman Gensler at the SEC as to what extent he contemplated making some revisions or changes to Regulation BI. I believe at the timeframe, he had said something to the effect of we’re going to enforce it as written, it’s got some teeth to it, particularly in terms of the variety of requirements expected of firms to be able to demonstrate that they’re acting in their client’s best interests, and so we’ll see how we go.

I think what we’re now seeing is the culmination of that principle. There are books and records of requirements tethered to Regulation BI, hence you see the Form CRS cases where firms allegedly couldn’t get their Form CRS out the door on a timely basis or had inadequacies in its disclosures. Like your graph [below] demonstrated, in terms of reasonably available alternatives, how did you document it? What was the basis of the recommendation?

Regulation BI states you don’t have to have documentation for every single recommendation. It’s a risk-based approach, but the enhanced complexity of a recommendation, let alone a specific financial instrument, carries with it additional burdens and responsibilities in making those recommendations in the first instance. How do you document the principles underlying the recommendation if you don’t have the paperwork? We’re seeing that coming into action whether it’s in exams or the alert that the SEC put out on conflicts of interest and the expectations of broker-dealers and investment advisors.

At its fundamental core, it’s taking the rule as written and saying, we meant it when we said it. We expect you to have good policies, procedures, practices, and a thoughtful approach to the conflicts of interest inherent in your client relationships. Whether it’s on the broker-dealer side for Reg BI purposes or under the advisors act as a fiduciary would otherwise have as part of their duty of care to make sure that you’re acting in clients’ best interests – and how do you do that if you don’t document it?

They meant it when they said it. The alert that came out is a good example. These are all touch points for purposes of an examination, for purposes of self-reflection, for purposes of internal audit and analysis, and for purposes of supervisor review and compliance. Make sure [to ask], “Have we thought through these issues in the way that they’re articulating?”

PN: Mitch, as an ex-leader in the FINRA division I’m wondering if you’ve caught the recent arbitration cases around Reg BI. Any thoughts to share from a FINRA perspective?

Mitch Atkins: At first, I was a little surprised that the number of claims related to Reg BI was that low on the list. I would expect to see them much higher on the list as we go forward. But it does take time. Whether in the FINRA enforcement space or in the arbitration space, it takes time to detect a problem, go through and prepare a case for filing, and all of that. So, I suspect that that’s part of the newness of the regulation, but I fully expect that this will become one of the top three or four items on the top 15 list of arbitration claims.

I agree with what David said, I think in addition to the regulatory space that he was talking about, in the arbitration space, this is a very powerful tool for plaintiff’s attorneys. A suitability case was always somewhat difficult. There were challenges, FINRA or a plaintiff’s attorney can bring a suitability case, but it wasn’t always a slam dunk. I think with Reg BI, in terms of bringing a case for a failure in that area, there are things in Reg BI that make it a much more powerful tool. I think if the plaintiff’s attorneys find that there is a violation of one of those requirements, or they just want to allege it, I suspect that they want to include that as much as possible because it strengthens their case.

If you enjoyed this article, you can watch the on-demand webinar, Reg BI Enforcement, PTE 2020-02 Day 2 and What’s Next.