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Employment Issues: A New Way to Look at Disclosure

NASD's rules about reporting complaints are anything but clear. Here's some help in deciphering them.

Complaints against brokers are on the rise. You knew that. But did you know by how much? The NASD's dispute resolution unit reports a 25 percent increase in the number of arbitrations filed by public customers from 2002 to 2003, and a 45 percent rise from 2001. That's alarming.

Many of these complaints are undoubtedly credible and will likely result in monetary awards or settlements. Others, however, are cynical attempts by claimants to take advantage of the negative publicity surrounding Wall Street.

Whether you think they have merit or not, customer complaints (and lawsuits) must be disclosed to your broker/dealer and to the NASD. Failure to do so may have serious consequences. Unfortunately, the NASD's U-4 form does not make this requirement clear — or rather, the portion of the U4 that addresses disclosure (Item 14I) does so in an upside-down fashion.

Turning 14I on Its Head

It's easiest to understand your reporting obligations under Item 14I when they are explained in reverse order.

Item 14I(3)

If a rep has been the subject of an investment-related, consumer-initiated written complaint within the past 24 months, he must disclose this fact to his firm, if (a) the complaint alleges involvement in one or more sales practice violations and contains a request for compensatory damages of $5,000 or more. (If no damage amount is put forth, the complaint must be reported unless the firm has made a good faith determination that the damages from the alleged conduct would be less than $5,000.) or, (b) the complaint alleges that a rep was involved in forgery, theft, misappropriation, or conversion of funds or securities.

If the complaint is unwritten, the rep generally does not have a U-4 disclosure obligation under this section. In addition, written complaints seeking less than $5,000 and involving no allegation of forgery, etcetera generally do not require U-4 disclosure.

Item 14I(2)

A rep must disclose an investment-related, consumer-initiated complaint that alleges involvement in one or more sales practice violations settled for $10,000 or more. All complaints — written and oral — that result in a settlement of $10,000 or more must be disclosed. Importantly, even if the rep did not pay a penny toward the settlement because the broker/dealer wrote the check (for $10,000 or more) and settled the case against the wishes of the rep, he still has a lifetime of answering “yes” to the U-4 question about settlement.

Item 14I(1)

Frequently, a complaining customer will reject offers of settlement or assertations by reps of innocence. Consequently, a registered rep could be named as a respondent or defendant in investment-related, consumer-initiated arbitration or civil litigation. If a rep is named in arbitration or litigation and the matter is still pending, he will be in a situation that requires a U-4 “yes” response. If the matter goes to trial and an award or judgment of even a penny is rendered, the rep must also respond “yes” to the appropriate question on the U-4. Keep in mind that settling a case for under $10,000 avoids the dreaded “yes.” Though such a settlement sometimes requires a rep to sacrifice a “moral” victory, the practical implications — avoiding a U-4 “yes” — might be worth it.

Finally, a reminder on what you should absolutely not do: pay off the complaining customer. It should go without saying that this is a bad idea. In recent months, the NASD has fined, suspended and even barred reps who have made such payments. For instance, in the NASD case of Sundarajan Krishnaswamy, the rep “settled” for a mere $180 on a customer's complaint concerning commissions charged on a municipal bond transaction. The NASD imposed a fine of $2,500 and a 10-business-day suspension of all capacities without forcing the broker to admit or deny the allegations.

So make sure you know what to disclose and when — and avoid checkbook diplomacy.

Writer's BIO: Bill Singer Bill Singer is an attorney who operates He may be contacted at [email protected]

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