FINRA Arbitration

South Florida Securities, Commodities and Precious Metals Lawyer Russell L. Forkey

Because of written pre-dispute arbitration agreements that are contained in securities brokerage agreements entered into by customers of brokerage firms or pursuant to Financial Industry Regulatory Authority, Inc. (FINRA) rules to which broker/dealers and associated persons are subject to, almost all securities broker/dealer and/or associated person disputes are resolved in FINRA arbitrations.  Therefore, it is necessary for all investors to understand the FINRA arbitration process.  For discussions relative to most commodity disputes or precious metal disputes following the appropriate link.

Below are questions that investors frequently ask concerning FINRA and the arbitration process.

What is the Financial Industry Regulatory Authority ("FINRA")?

In the United States, the Financial Industry Regulatory Authority, Inc., or FINRA, is a private corporation that acts as a self-regulatory organization (SRO). FINRA is the successor to the National Association of Securities Dealers, Inc. (NASD). FINRA is the largest independent regulator of securities firms doing business in the United States. FINRA's mission is to protect America's investors by making sure the securities industry operates fairly and honestly. All told, FINRA oversees nearly 4,650 brokerage firms, about 166,000 branch offices and approximately 636,500 registered securities representatives.

FINRA touches virtually every aspect of the securities business from registering and educating industry participants to examining securities firms; writing rules; enforcing those rules and the federal securities laws; informing and educating the investing public; providing trade reporting and other industry utilities; and administering the largest dispute resolution forum for investors and registered firms. It also performs market regulation under contract for the major U.S. stock markets, including the New York Stock Exchange, NYSE Arca, NYSE Amex, The NASDAQ Stock Market and the International Securities Exchange.

FINRA currently has approximately 3,000 employees and operates from Washington, DC, and New York, NY, with 20 regional offices around the country.

Additionally, FINRA operates Web CRD ® , the central licensing and registration system for the U.S. securities industry and its regulators. It contains the registration records of more than 6,800 registered broker-dealers and the qualification, employment, and disclosure histories of more than 660,000 active registered individuals.

Federal law also gives FINRA the authority to discipline securities firms and individuals in the securities industry who violate the rules.

Why must most customer - broker/dealer securities disputes be arbitrated?

In 1987, in Shearson/American Express v. McMahon, the United States Supreme Court ruled that account forms signed by customers requiring arbitration for disputes were enforceable contracts. Brokerage firms now require all customers to sign such documents, requiring binding arbitration.

Even if the customer agreement with the brokerage firm does not contain a pre-dispute arbitration, can the customer still demand arbitration?

In considering whether to initiate arbitration, it is important to keep in mind that, generally, a customer has a right to require a broker/dealer to submit for arbitration only disputes relating to or arising out of the business activities of the broker/dealer.

When deciding where to file your claim, you should determine which SRO has jurisdiction over the broker/dealer.

Under the Uniform Code a controversy is not eligible for submission to arbitration if six or more years have elapsed from the date of the event giving rise to the dispute. The arbitrators also may dismiss a claim barred by shorter applicable state or federal statutes of limitations. If there is a question about eligibility or the statute of limitations, you should consult an attorney.

Even after a customer has signed the agreement to arbitrate, the customer may request either the sponsoring organization or the arbitrators to permit that customer to proceed with his or her claim in court. The customer should be aware, however, that in most cases the sponsoring organization and the arbitrators will retain jurisdiction and proceed with the arbitration.

Are there any securities disputes that do not need to be arbitrated?

Whether an investor is required to arbitrate a dispute is a matter of contract law. As indicated above, most, if not all, brokerage firms have predispute arbitration agreements contained in the documents that clients are required to sign to establish a relationship with a broker/dealer. This is true whether the client is dealing with a major brokerage firm that "clears" its own transactions or with an introducing broker (usually a small broker/dealers) that has a relationship with a third party clearing firm.

In non-broker related securities disputes such as the investment in a Regulation D offering (private placement), the critical issue is whether or not the subscription agreement that each investor is required to execute contains and arbitration clause or incorporates by reference an arbitration clause contained in the prospectus or offering document. If an arbitration agreement is contained within these documents, the investor is required to arbitrate, usually through the American Arbitration Association. If there is no arbitration agreement, the investor is free to file in court.

Notwithstanding the foregoing, there is one caveat that must always be scrutinized and that is the exact language of the arbitration agreement. This is important in that a party to the arbitration agreement can not be required to submit an issue to arbitration that he has not contractually agreed to do. There are numerous legal decisions that have construed the breadth of differently worded arbitration agreements.

How does an investor commence a FINRA arbitration?

Arbitration starts with the investor's statement of claim, a description of what happened. If the investor attempts to represent himself or herself, the statement of claim should be written in the investors own words. The investor should tell the story clearly, concisely, accurately, honestly, completely, and in sufficient detail so that someone reading it will understand what happened, what monetary damages the investor is seeking and why he or she feel they are entitled to receive a favorable decision. Remember that the respondents--that is, the broker or firm with whom the investor has a dispute--will use the statement of claim to prepare their case against the investor.

The submission agreement is the document that shows you have presently selected arbitration as your means of resolving a dispute. The arbitration process cannot begin without it. The Submission Agreement is also the investors agreement to be bound by the decision of the arbitrators.

FINRA charges a filing fee for handling the arbitration. A portion of the filing fee is non-refundable. The investor should check with FINRA or the Code of Arbitration Procedure for current fees before the claim is submitted.

The claim is then served on the respondent, who is given time to provide an answer. After the respondent is served, both parties are then responsible for providing--or serving--copies of all other documents, pleadings, correspondence, etc., directly to the other parties and for providing additional copies of any documents to FINRA for its record and for the arbitrators. Keep in mind that the respondent may also file a claim against a third party, or may file a counter claim against the investor.

Does it make sense for an investor to represent himself or herself in a FINRA arbitration proceeding?

If the claim being filed by the investor is for less than $25,000, practically speaking, the answer is probably yes. It will be very difficult for an investor to find an attorney that would be willing to take a case involving $25,000 or less on a contingency basis. If the customer still wanted to file the case paying the attorney on an hourly basis, the cost of prosecuting the case would probably not be economically feasible for the customer. Yet, this is a personal decision unique to each investor.

With the above said, it is important to bear in mind that most, if not all, broker/dealer respondents in arbitration will be represented by their own counsel. If the account executive respondent is still employed by the broker/dealer respondent, the same law firm representing the broker/dealer will usually represent the account executive. If the account executive is not currently employed by the broker/dealer respondent, the account executive might not be represented directly by counsel. In such a circumstance, the account executive will usually just copy what the broker/dealer's counsel is doing and let the broker/dealer's counsel take the lead in the discovery process, at any pre-hearing conferences and at the final hearing.

In my experience, not being represented by experienced arbitration counsel has a material adverse effect on the investor's chance of success. This is occasioned by a number of factors, including:

  • the customer is emotionally involved in the case and, as a result, can lose objectivity
  • the customer does not have a working understanding of the FINRA arbitration rules
  • most customers do not fully understand what happened to them and, if they do, how to properly frame the issues in the statement of claim
  • the customer does not have an understanding of the appropriate rules and regulations that impact the dispute
  • the customer does not have an understanding of how the brokerage business works and what documents are available to request from the broker/dealer, during the discovery process, to support the customer's claim
  • the customer does not know how to present his case, how to cross-examine witnesses, how to lay the proper foundation to get documents into evidence and how to make an effective closing argument.

Who are the arbitrators in FINRA arbitrations?

Arbitrators are impartial persons who are knowledgeable in securities industry disputes. Each sponsoring organization maintains a roster of individuals whose professional qualifications and experience qualify them for service as arbitrators. The arbitrators are not employees of the sponsoring organization and they, not the sponsoring organization, will decide your dispute. The arbitrators do, however, receive an honorarium from the SROs.

Under the Uniform Code, cases will be decided by one or three arbitrators, depending on the amount in dispute. Unless a customer elects otherwise, the majority of the members of such panels are individuals referred to as "public arbitrators" who are neither associated with nor employed by a broker/dealer or securities industry organization. Remember to review the arbitrator selection methods contained in the arbitration rules of the sponsoring organizations.

The Director of Arbitration (Director) will inform the parties of the names and business affiliations of the selected arbitrators, their employment histories for the last 10 years, as well as any conflict information disclosed pursuant to the Uniform Code. Some parties are interested in previous awards issued by prospective arbitrators. Each sponsoring organization has developed procedures to make available information on customer awards issued since May 1989.

How does the arbitration proceed once the statement of claim is filed?

Parties must make every effort to prepare the case in advance of the hearing so that it may be resolved promptly and justly. Preparation includes arranging for witnesses and documentary evidence to be available for presentation to the arbitrators at the hearing.

Under the uniform code, the parties shall, at least 20 calendar days prior to the first scheduled hearing date, serve on each other copies of documents (including graphs, charts, and recordings) they intend to present at the hearing and identify witnesses they intend to present at the hearing. This time frame may be modified by agreement of the parties or at the discretion of the arbitrators. Failure to comply with this requirement may result in the arbitrators excluding any document not exchanged or witnesses not identified. Arbitrators will consider such action at the request of a party. If all parties agree, they may submit exhibits in addition to those in the Statement of Claim to the Director for forwarding to the arbitrators prior to the hearing.

Each party is to bring sufficient copies of any documents it intends to introduce as evidence at the hearings for each arbitrator and for the files of the SRO.

The parties should cooperate in the voluntary exchange of documents and information to expedite the arbitration. Any request for documents or other information should be specific, relate to the matter in controversy, and afford the party to whom the request is made a reasonable period of time to respond without interfering with the time set for the hearing. Document production and information exchange is to be accomplished within the time set forth in the Uniform Code.

Some forums may provide guidance to the parties and arbitrators on which types of documents are usually provided or should be provided in certain types of cases. The Arbitrator's Manual (published by SICA and available from the SROs) contains some examples of typical documents frequently produced or ordered produced by the arbitrators.

In October 1999, FINRA made available a Discovery Guide for use in customer cases. The Guide was the result of a consensus reached by a multi-partisan task force convened by FINRA. Although the Guide is not incorporated into the Code, it does provide expanded guidance to the parties and the arbitrators, and is aimed at expediting the arbitration process.

The discovery guide, which includes document production lists, provides to parties in FINRA arbitrations guidance on which documents they should exchange without arbitrator or staff intervention, and guidance to arbitrators in determining which documents customers and member firms or associated persons are presumptively required to produce in customer arbitrations. The discovery guide also discusses additional discovery requests, information requests, depositions, admissibility of evidence, and the use of sanctions.

At the written request of a party or an arbitrator, or at the discretion of the Director, a prehearing conference will be scheduled. The Director will set the time and place of a prehearing conference and appoint either a staff person or an arbitrator to preside. The prehearing conference may be held by telephone, by written submission, or in person. Under the rules, there are timetables for parties either to produce requested information or to object to the production requests. If a prehearing conference without an arbitrator does not resolve the outstanding issues, those information-request disputes or issues will be referred to a single arbitrator prior to the first hearing. Where possible, each party should submit to the SRO in advance of the prehearing conference a concise outline of the outstanding issues to be resolved by the single arbitrator.

The single arbitrator has the authority to issue subpoenas, direct appearances of witnesses and production of documents, set deadlines for compliance, and issue other rulings that would expedite the arbitration proceedings or enable a party to prepare its case. Parties should be aware that arbitrators may sanction a party that fails to comply with these hearing orders.

To the extent possible, testimony and documentary evidence should be exchanged voluntarily by the parties without the use of subpoenas. If a subpoena is necessary, the arbitrators and any counsel of record have such power of subpoena as may be provided by the law of the state where the hearing will be held or by the Federal Arbitration Act. All parties must be given a copy of the subpoena on its issuance. If a party has an attorney, the attorney should answer all questions concerning subpoenas. Parties without attorneys may request that the Director ask the arbitrators to issue a subpoena. If possible the request should be in writing, should set forth why the subpoena is necessary and what efforts the requesting party made to obtain the appearance of witnesses and the production of documents without the use of the subpoena, and should include a copy of the subpoena which the arbitrators are requested to issue. If the arbitrators issue a subpoena, the requesting party has the obligation of serving the subpoena on the opposing party and bearing the costs involved as provided by law of the state where the hearing will be held or by federal law. The requesting party may need to employ the services of a professional process server to serve the subpoena.

The procedures for the issuance and service of subpoenas vary. Parties may, therefore, wish to consult with an attorney to ensure that legal requirements in the applicable jurisdiction are satisfied.

In addition to the subpoena process, in some instances the arbitrators have the power to direct the appearance of persons employed in the securities industry and the production of records in the possession or control of such persons. If the parties request the arbitrators to use this power, they may be required to bear all reasonable expenses in connection with such appearance or production. All such requests should be made in advance of the hearing.

One final thought should be kept in mind when preparing for a hearing. The arbitrators are experienced and knowledgeable individuals. They appreciate a clear presentation of the case, free from repetition and irrelevancies.

Always consult with the sponsoring organizations. The SROs vary in their procedures for setting hearing dates and may schedule a prehearing conference with the full panel for this purpose.

Based upon this brief discussion of how the process generally works, it should be apparent to the reader that an experienced arbitration attorney is invaluable.

How are the hearings conducted?

Under the Uniform Code, the Director schedules the date of the first hearing. The parties will be notified in writing of the date and location of the initial hearing at least 15 business days in advance. A verbatim record is kept of the proceedings. A party that elects to have the record transcribed shall bear the cost of such transcript unless the arbitrators direct otherwise or the parties agree to split the costs. At the hearing, the parties must present their respective cases by testimony and documentary evidence to the arbitrators. Claimants should document carefully the issues involved and their proof of damages, and explain to the arbitrators how much in money damages is being claimed and how they arrived at that figure. All hearings will be conducted by the arbitrators in the manner they determine will most expeditiously permit full presentation of the evidence and arguments of the parties.

Generally, the following procedures will be observed:

  • The arbitrators and the witnesses will be sworn.
  • Each party will be given an opportunity to make a brief opening statement, that is, a brief outline of the issues involved and what facts that party intends to prove. A party may waive the opening statement.
  • The claimant will present facts to the arbitrators including relevant documents and testimony to establish and prove his or her claim.
  • The respondent will present his or her case in the same manner as the claimant. Witnesses and parties who testify will be sworn and are subject to cross-examination by the opposing side and questioning by the arbitrators. The opposing party may object to any evidence prior to its receipt by the arbitrators. Parties should bring sufficient copies of documents for each of the arbitrators, other parties, and the representative of the sponsoring organization. It is inappropriate to "testify" when questioning a witness, and a party may object if another party does that.
  • A party may offer an affidavit in lieu of the live testimony of a witness. This may or may not be allowed by the arbitrators. Parties should be prepared to explain why a witness cannot come to the hearing and to explain whether the other party had an opportunity to examine the witness. A party should be prepared to bring the witness if the affidavit is not allowed.
  • Any counterclaim or other matter may be presented in the same way.
  • Parties may present rebuttal evidence if appropriate.
  • Closing statements may be presented and consist generally of final arguments by the parties and brief summations of the testimony and other evidence introduced at the hearing. A party should refer only to evidence already in the record and not use the closing statement as an opportunity to present new evidence. A party may waive a closing statement.
  • The parties are to leave together at the end of the hearing.
  • The arbitrators may proceed with a case even if a party does not appear and/or answer.

How are the parties notified of the arbitrators decision?

When the arbitrators have reached their decision and have signed an award, copies will be sent to the parties by the SRO. The award shall be in writing and signed by a majority of the arbitrators. The award may be entered by the prevailing party as a judgment in any court of competent jurisdiction.

Arbitrators shall endeavor to render an award within 30 business days from the date the record is closed. The Director shall endeavor to serve a copy of the award: (i) by facsimile or other electronic means; or (ii) by registered or certified mail upon all parties, or their counsel; or (iii) by personally serving the award upon the parties; or (iv) by filing or delivering the award as authorized by law. Always consult the rules of the sponsoring organizations.

The award will contain the names of the parties, the names of counsel, if any, the dates the claim was filed and the award was rendered, the number and dates of the hearing sessions, the location of the hearings, a summary of the issues including the type(s) of any security or product in controversy, the damages and other relief requested, the damages and other relief awarded, a statement of any other issues resolved, the names of the arbitrators, and the signatures of the arbitrators concurring in the award.

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