Nearly one out of three customers who won Finra arbitration cases in 2020 did not receive their award payment, according to a study released Wednesday.
The Public Investors Advocate Bar Association reviewed all publicly available 2020 arbitration awards available on the Financial Industry Regulatory Authority Inc. website and found that 19 customer awards totaling $5 million went unpaid out of a total of 64 awards and $20.9 million won.
The 29.7% of unpaid customer awards and the 24.2% shortfall of awarded dollars last year was higher than the percentage of unpaid awards (26.9%) and the dollar shortfall (19.8%) in 2019.
This PIABA report is the third it has issued on unpaid arbitration since 2016. The problem has been on an upward trajectory, the organization said, over that time. Finra statistics from 2015 through 2019 show a range of 12% of dollars unpaid in 2015 to 34% in 2018 and the percentage of all awards unpaid hitting 22% in 2015 and 34% in 2017.
“In short, the problem is not improving since PIABA’s initial report in 2016,” the report states.
The coronavirus pandemic forced Finra to suspend in-person arbitration hearings from March 2020 through last June, which decreased the number of arbitration decisions and awards. But the number of incidents of unpaid arbitration held steady, said Hugh Berkson, a principal at McCarthy, Lebit, Crystal & LIffman Co.
“Covid had no effect on this,” Berkson, a former PIABA president and co-author of the report, told reporters on a conference call. “While there were fewer cases and fewer awards in 2020, as you’d expect, the percentages of unpaid cases remained in the same ballpark as the pre-pandemic experience. The problem is not getting any better despite the fact that 2020 saw stable or record-high profits for the brokerage industry.”
PIABA OFFERS REMEDIES
As it has in previous reports, PIABA offered remedies for unpaid arbitration. Its favored approach is for Finra to establish a fund that would pay arbitration awards when brokerages and registered representatives don’t do so. The organization said the pool could be financed with the fines Finra collects — which totaled $57 million in 2020 — or through an assessment of the broker-dealer self-regulator’s member firms.
“Finra can solve the problem head-on by instituting a pool, but it has steadfastly refused to do so and taken the position it will not do so unless ordered by the [Securities and Exchange Commission] or Congress,” the PIABA report states. “If Finra remains resolute in its refusal to institute a pool absent an instruction from Congress or the SEC, then PIABA asks the SEC and Congress to intervene to address the problem and order Finra to do its job and protect investors.”
A Finra spokesperson was not immediately available for comment.
Finra recently adopted a rule that would force brokerages with a history of misconduct — or a propensity to hire reps with many disciplinary violations — to make a payment into a restricted account controlled by Finra that could be used to fund arbitration awards.
But Berkson said the amount of money raised from the rule’s capital requirement would be insufficient to maintain a reserve fund big enough to cover unpaid arbitration awards.
“It’s a step in the right direction, but it’s not a fix,” Berkson said.
Another avenue for addressing unpaid arbitration would be through legislation. In the past, Sen. Elizabeth Warren, D-Mass., has sponsored a bill that would establish a pool along the lines of what PIABA wants to see.
Although Democrats control the House and Senate, they do so my paper-thin margins that leave plenty of room for Senate Republicans to filibuster legislation. The odds of congressional action are “extremely poor,” said David Meyer, PIABA president and managing principal of Meyer Wilson.
The SEC offers another route. The Dodd-Frank financial reform law gave the agency the authority to end or impose conditions on mandatory arbitration agreements, which are included in almost all brokerage contracts. The PIABA report suggests the SEC could require brokerages to participate in an investor-recovery pool.
“The practical way to resolve this problem is through the SEC at this point,” Meyer said.
The unpaid award situation is not limited to brokers who use the Finra arbitration system for dispute resolution. Many investment advisers also have mandatory arbitration clauses in their client contracts. But advisers rarely use Finra arbitration and instead use private arbitration forums.
“[T]here is no central repository of arbitrtation award data and, therefore, no way to quantify unpaid IA awards in a statistically meaningful way,” the PIABA report states.
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