Customer Protection | FINRA | FINRA Rules

FINRA Provides “Safe Harbor” for Firms for Dealing with Potential Exploitation of Vulnerable Clients

Effective February 5, 2018, new FINRA Rule 2165 will provide broker-dealers with a safe harbor by allowing them to place a temporary hold on disbursements of funds and/or securities from the account(s) of potentially vulnerable adults where they suspect foul play.    As discussed in Regulatory Notice 17-11,  the rule applies to “Specified Adults”, defined as (A) a natural person age 65 and older or (B) a natural person age 18 and older who the firm reasonably believes has a mental or physical impairment that renders the individual unable to protect his or her own interests.   As discussed in the notice, “[t]he amendments to Rule 4512 and new Rule 2165 provide members with a way under FINRA rules to respond to situations in which they have a reasonable basis to believe that financial exploitation has occurred, is occurring, has been attempted or will be attempted while the firm conducts an internal investigation into the facts and circumstances that led to a reasonable belief of financial exploitation of the client.”   Acting in compliance with Rule 2165 will provide firms and their associated persons with a safe harbor from FINRA Rules 2010, 2150, and 11870.

With that comes a little extra work. Under FINRA Rule 2165, upon placing a temporary hold, firms are required to immediately conduct an internal review of the facts and circumstances raising the red flag; and, within two business days of placing the hold, provide notification of the hold and the reason for the hold to all parties authorized to transact on the account and the Trusted Contact Person (unless any such person is suspected to be involved in the financial exploitation). FINRA amended Rule 4512, regarding customer account information, which will require broker-dealers to make reasonable efforts to obtain the name of and contact information for a trusted contact person upon the opening of a non-institutional customer’s account.  In addition, under Rule 4512, firms must provide customers with written disclosure that the firm is authorized to contact the Trusted Contact Person and discuss customer and account information for purposes outlined in Supplementary Material.06 of the Rule.

Key components to FINRA Rules 2165 and 4512:

  • Three-prong test, Rule 2165 only applies to: (1) disbursements of proceeds or securities from an account; (2) where the customer is a Specified Adult, as defined under the rule; and, (3) where the firm has reasonable belief of financial exploitation.
  • Rule 2165 does NOT apply to transactions.
  • The temporary holding period is no more than 15 business days after the date the initial hold was placed on the disbursement(s). The rule allows for extension of the holding period under specific circumstances [see Rule 2165(b)(2) and (3)].
  • Rule 2165 only applies to suspicious disbursements. The firm cannot place a hold on disbursements where there is not a reasonable belief of financial exploitation, such as a customer’s regular bill payments.  Each disbursement must be analyzed separately.
  • Reasonable efforts to obtain the name of and contact information for a Trusted Contact Person are required: (1) upon the opening of a non-institutional account; or, (2) when updating account information for a non-institutional account in existence prior to February 5, 2018.
  • The written disclosure requirements set forth in Supplementary Material .06 of Rule 4512 (Trusted Contact Person) are required at the time of account opening or when updating the information for the account, as applicable.
  • Firms will need to update their WSPs to incorporate new Rule 2165 and amendments to 4512. WSPs must identify the title of each person authorized to place, terminate or extend a temporary hold on behalf of the firm.  Designated persons must be an associated person of the firm who serves in a supervisory, compliance or legal capacity of the firm.
  • WSPs should also address identification (red flags), escalation, and reporting of instances of financial exploitation.
  • Firms will need to develop and document training programs designed to ensure associated persons comply with the Rules.

The key to identifying red flags associated with financial exploitation of Specified Adults is the development of a relationship with each of your clients in order to establish predictable patterns, become familiar with the client’s personality and thought process, and understand their rationale for selecting the Trusted Contact Person. All of this is required in addition to “Know Your Customer” policies and Investment Profiles. Documentation, as always, is critical to the protection of the client, the firm and the registered representative.