Compliance Solutions for Investment Advisers

FINRA Identifies 2014 Examination Priorities

In a letter to all FINRA member firms (the “FINRA Priorities Letter”), FINRA set forth its regulatory and examination priorities for 2014, highlighting significant risks and issues that could adversely affect investors and market integrity in the coming year.

FINRA’s 2014 examination priorities are as follows:

CybersecurityFINRA stated that its primary focus will be the integrity of firms’ policies, procedures and controls to protect sensitive customer data, and that its evaluation of cybersecurity matters will take the form of examinations and targeted investigations.

Conflicts of InterestFINRA stated that its examiners will explore topics addressed in its October 2013 report on conflicts of interest including firms’ approaches to identifying and managing conflicts as well as the participation of senior management in this process.  FINRA will evaluate firms’ conflicts management practices to help further inform its view on industry practices by focusing primarily on actions taken by firms and the impact on their clients, rather than focusing strictly on regulatory requirements.

Suitability.  FINRA remains concerned about the suitability of recommendations to retail investors for complex products whose risk-return profiles, including their sensitivity to interest rate changes, underlying product or index volatility, fee structures or complexity may be challenging for investors to understand.

Recidivist Brokers.  FINRA noted that a small number of brokers have a pattern of complaints or disclosures for sales practice abuses that could harm investors as well as the reputation of the securities industry and financial markets.  FINRA will be expanding the High Risk Broker initiative, which was commenced in 2013 to identify such individuals and expedite investigations, and will create an enforcement team to prosecute such cases.

Qualified Plan Rollovers.  FINRA noted that it shares concerns, articulated by the U.S. Government Accountability Office (“GAO”) in its 2013 Report, that the financial industry generally encourages employees to roll over their assets into IRAs without fully explaining the options that are available to these investors or making a valid determination that a rollover into an IRA is in the investor’s best interest.  Reviewing firm rollover practices will be an examination priority, and staff will examine firms’ marketing materials and supervision in this area.  FINRA will also evaluate securities recommendations made in rollover scenarios to determine whether they comply with suitability standards in FINRA Rule 2111.

Initial Public Offering Market.  FINRA noted the increase in the initial public offering (“IPO”) market during recent periods, and stated that for firms engaged in the public underwriting business, FINRA will review the firm’s due diligence activities, monitor the completeness and accuracy of firms’ filings regarding public underwritings with FINRA’s Corporate Finance Department, and review compliance with rules concerning the sales and allocations of IPO securities, including whether firms are incenting associated persons to sell cold offerings with client allocations of hot offerings.

Private Placement of Securities.  The FINRA Priorities Letter identifies private placements of securities as a priority.

Anti-Money Laundering.  FINRA stated that in 2014 it will focus on anti-money laundering issues associated with the institutional business, noting emerging trends related to the utilization of executing broker-dealers by certain DVP/RVP (Delivery versus Payment/Receipt versus Payment) customers to liquidate large volumes of low-priced securities.  FINRA also noted the misconception among some executing brokers that Customer Identification Program Requirements do not apply to DVP/RVP customers.  In this regard, FINRA stated that it is important that all firms, regardless of business model, develop a risk-based AML program designed to address the risk of money laundering specific to their firm.

Municipal Advisors.  FINRA noted recent rules regarding municipal advisors promulgated by the SEC and that FINRA has been designated as the examining authority for municipal advisors that are FINRA members.

Crowdfunding Portals.  FINRA noted that under the Jumpstart our Business Startups Act (the “JOBS Act”) retail investors are permitted to purchase unregistered securities offered through crowdfunding websites, and that FINRA has proposed rules with the objective of ensuring that the capital-raising objectives of the JOBS Act are advanced in a manner consistent with investor protection.  FINRA stated that as funding portals become FINRA members, FINRA will implement a regulatory program designed to protect investors while recognizing the distinctions between funding portals and broker-dealers.

Senior Investors.  FINRA stated that in 2014 its examiners will continue to focus on how firms engage with investors who are approaching retirement and who control a substantial portion of investable assets.

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