On September 19, 2018, in an opinion listed as not for publication, the United States Court of Appeals for the Eleventh Circuit upheld a SEC opinion affirming a FINRA action against a registered person. FINRA had found that the individual acted willfully in failing to disclose outstanding tax liens on his Form U4. As a result of the willfulness finding, the individual was deemed to be statutorily disqualified from association with any broker-dealer. After the SEC upheld FINRA’s action, the individual then applied to the Court of Appeals for review of the SEC’s decision.
The opinion recites an overview of the facts: The individual became the subject of several tax liens from 2003 to 2010 (three federal liens and two Georgia liens), and became aware of each of them on or around the time they were issued. The individual was registered with a small broker-dealer, of which he served as the president and chief compliance officer, during this time period.He amended his U4 from time to time, but never disclosed the existence of the tax liens.
During a routine examination by FINRA in 2013, the FINRA staff asked the individual to complete a personal activity questionnaire, which, among other things, asked if he had any unsatisfied liens or judgments against him. He answered no to that question. FINRA’s background search on the individual revealed the tax liens and after being contacted by FINRA about them, the individual amended his U4 to disclose the liens in December 2013.
FINRA later filed a formal complaint against the individual and charged him with failing to disclose timely the tax liens on his U4, and with making a false statement to FINRA on the questionnaire. With respect to the U4 violation, FINRA alleged that his failure to amend was a willful violation. After a hearing, FINRA suspended the individual for seven months, and fined him $20,000. The hearing panel found that the violation with respect to the U4 was willful. FINRA’s National Adjudicatory Council upheld the findings and sanctions, and the individual then appealed to the SEC. The SEC affirmed the willful nature of the U4 violation, rejecting the individual’s arguments to the contrary, including his assertion that he “misunderstood the scope of the disclosure required by question 14M.”
According to the COA’s opinion, on appeal, the individual “challenges only the SEC’s finding that he acted willfully in failing to disclose his tax liens on his Form U4, and, thus, was subject to statutory disqualification.” The Court explained that “A person acts ‘willfully’ within the meaning of the federal securities laws if he “intentionally committed the act which constitutes the violation.” . ZPR Inv. Mgmt, 861 F.3d at 1255 (alteration omitted).A person “need not also be aware that he is violating one of the Rules or Acts.” Id. (quotation omitted).”
The individual contended that his failure to disclose the tax liens was unintentional because he misunderstood his reporting requirements, believing that the U4 question only related to liens that could impact his broker-dealer of clients, and not those liens against him personally. The Court was unpersuaded by this argument, and deferred to the FINRA Hearing Panel’s credibility determination. The Court held that “The credibility determination is also supported by the unambiguous language of question 14M [the individual’s] inconsistent testimony about when he first learned of the tax liens, and that [the individual’s] purported misunderstanding of question 14M conflicted with his testimony that he was unaware of the contents of Form U4.” The Court then distinguished the facts of this case with other cases where no finding of willfulness was made.
In concluding the opinion, the Court held that, “We reject [the individual’s] contention that FINRA’s application of the willfulness standard is inconsistent and ‘so vague’ that it provides no guidance and deprives its members and associated persons of “fair procedure.” The willfulness standard applied in this case is consistent with the standard that has long been applied by the SEC and by federal appellate courts.” The Court then noted that “[a} finding of willfulness is dependent on the facts and circumstances of each individual case,” and then stated, in response to the individual’s argument that other cases may not always impose a willfulness finding for a U4 omission, that the SEC does not abuse its discretion in imposing lesser sanctions as a reward for settlement. The Court then denied the individual’s petition for review of the SEC’s decision.
The case referenced is Elgart v. Securities and Exchange Commission, Case No. 17-15283, September 19, 2018).
So, what’s the takeaway for registered persons or those who are applying for registration? Read the U4 carefully.Understand what it asks, and, when in doubt, seek help to make sure that you are accurately completing the U4. Then, be mindful of changes in your situation or of events that occur that might require an update to your U4. If you can avoid regulatory inquiries and enforcement actions like this, you’ll save yourself a lot of time, energy and money.
If you’ve got disclosures on your U4 that concern you and you’d like to clean up, if possible, you’ll be interested in our FREE report, The Financial Advisor’s Guide to a Cleaner U4.