Can FINRA Lead to Criminal Charges?
Learn about the Scenarios in Which a FINRA Investigation Can Lead to Federal Criminal Charges
The Financial Industry Regulatory Authority (FINRA) is a private self-regulatory organization (SRO). As such, it does not have the authority to press federal criminal charges. However, a FINRA investigation can still lead to prosecution by the U.S. Attorney’s Office, and federal criminal penalties can include prison time (among other serious consequences).
What is FINRA?
As we’ve discussed previously (here and here), FINRA plays an important role in regulating the financial markets. Its mission, as stated on FINRA’s website, is “to protect investors and promote market integrity.” FINRA achieves this mission through oversight, education, and enforcement.
While FINRA is a private SRO, its role in regulating the financial markets is well-established and even required by law. Specifically, FINRA’s authority comes from the Securities Exchange Act of 1934, which, among other things, requires broker-dealers and registered representatives to join a self-regulatory organization.
FINRA is the only SRO for broker-dealers and registered representatives that the U.S. Securities and Exchange Commission (SEC) has approved. As a result, broker-dealers and registered representatives have no choice but to comply with FINRA’s rules.
What Does FINRA Do?
FINRA’s role is similar to the SEC’s in some respects. This is because, as the SEC explains, its role is to “protect investors, maintain fair, orderly, and efficient markets, and facilitate capital formation.” The SEC also regulates broker-dealers and registered representatives, among other securities industry participants.
In practice, FINRA does several things. These include:
1. FINRA Sets Rules for Broker-Dealers and Registered Representatives
FINRA sets rules for broker-dealers and registered representatives. These rules apply in addition to the rules established by the SEC. While FINRA’s rules incorporate many of the SEC’s rules and regulations by reference, FINRA also establishes rules and policies of its own.
2. FINRA Sets Rules for Broker-Dealer Firms
In addition to setting rules for broker-dealers and registered representatives, FINRA also sets rules for broker-dealer firms. Broker-dealer firms must comply with FINRA’s oversight requirements while also providing oversight of their brokers’ and registered representatives’ practices. FINRA’s rules detail firms’ obligations to their clients, and these rules also establish requirements for compliance with anti-money laundering laws and other disclosure and reporting obligations.
3. FINRA Licenses and Examines Broker-Dealers and Registered Representatives
FINRA licenses and examines broker-dealers and registered representatives. FINRA licenses brokers and registered reps through its Securities Industry Essentials (SIE) Exam. This is a qualification exam that brokers and registered reps must pass before obtaining their Series 7 or Series 63 license. FINRA’s web page on “Qualification Exams” explains the SIE Exam and the other exams (including the Series 7 and Series 63 exams) that licensed professionals must complete throughout their careers.
4. FINRA Audits Broker-Dealer Firms
Along with licensing and examining broker-dealers and registered representatives, FINRA also audits broker-dealer firms. During these audits, FINRA tests broker-dealer firms’ compliance programs and policies and procedures to ensure that they meet the SRO’s requirements. FINRA also conducts anti-money laundering (AML) audits and assesses firms’ cybersecurity vulnerabilities, among other inspection and enforcement activities.
5. FINRA Investigates Broker-Dealers, Registered Representatives, and Broker-Dealer Firms
FINRA opens investigations into broker-dealers, registered representatives, and broker-dealer firms when it uncovers potential violations of its rules. For example, if FINRA identifies potential evidence of insider trading, it may open an investigation to determine whether the evidence substantiates enforcement action. FINRA’s investigative process is similar to the SEC’s in many respects, and firms and individuals need to approach these investigations with the same level of caution and concern they would devote to investigations conducted by the SEC, the U.S. Department of Justice (DOJ), and other federal agencies.
FINRA Sanctions for Violations of Its Rules and the Federal Securities Laws
When FINRA’s audits and investigations uncover evidence of violations, FINRA can impose several types of sanctions. These sanctions can result in significant costs for broker-dealers, registered representatives, and broker-dealer firms, and they can also lead to criminal prosecution in some cases.
FINRA Sanctions for Individual Licensees
When individuals violate FINRA’s rules or the federal securities laws, FINRA has the authority to impose several sanctions. These sanctions include:
- Censure – Censure is a “formal” reprimand for a FINRA violation. While FINRA’s website does not provide details, censures can range from informal verbal notices to formal written reprimands that are disclosed to the public.
- Fines – FINRA can impose fines for violations of its rules and the federal securities laws. Fines can range from several thousand dollars to tens of thousands of dollars or more depending on the nature of the violation.
- Suspension – FINRA can suspend brokers’ and registered representatives’ licenses to prevent them from continuing to work in the securities industry. Suspensions can also involve fines, and they can last for months or even years depending on the circumstances involved.
- Expulsion – FINRA can also expel brokers and registered representatives from the securities industry. These individuals can never work in the securities industry again, either as a broker or an employee of a broker-dealer or other regulated entity.
- Injunction – FINRA can also seek to enjoin brokers’ and registered representatives’ participation in the securities industry. This means that the SRO can obtain a court order preventing them from acting as a broker-dealer, investment advisor, or other regulated entity.
- Disgorgement – FINRA can also seek disgorgement of profits from brokers and registered representatives who violate its rules or the federal securities laws. Disgorgement requires brokers and registered representatives to repay their ill-gotten gains.
- Restitution – FINRA can also seek restitution for investors who suffer losses due to FINRA violations. Restitution involves paying money to investors to compensate them for their losses.
FINRA Sanctions for Broker-Dealer Firms
In addition to imposing sanctions on individual licensees, FINRA can also impose sanctions on broker-dealer firms. These sanctions can include:
- Censure – FINRA can censure broker-dealer firms for violations of its rules or the federal securities laws. Censure can involve an informal notice or a formal written reprimand, and it can also involve notification of the firm’s clients.
- Fines – FINRA can fine broker-dealer firms for violations of its rules or the federal securities laws. Fines can range from several thousand dollars to tens of thousands of dollars or more depending on the nature of the violation.
- Suspension – FINRA can also suspend broker-dealer firms from the securities industry. This can prevent them from continuing to operate, and it can force them to cease operations altogether.
- Expulsion – FINRA can also expel broker-dealer firms from the securities industry. This can prevent them from continuing to operate, and it can force them to cease operations altogether.
- Injunction – FINRA can also seek to enjoin broker-dealer firms from participating in the securities industry. This means that the SRO can obtain a court order forcing them to cease operations on a permanent basis.
- Disgorgement – FINRA can also seek disgorgement of profits from broker-dealer firms that violate its rules or the federal securities laws. Disgorgement requires broker-dealer firms to repay their ill-gotten gains.
- Restitution – FINRA can also seek restitution for investors who suffer losses due to a broker-dealer firm’s FINRA violations. Restitution involves paying money to investors to compensate them for their losses.
Federal Criminal Charges Resulting from FINRA Investigations
As we mentioned above, FINRA does not have the authority to press criminal charges. But, FINRA can refer its investigations to the SEC and DOJ, and these agencies can then prosecute FINRA violations in federal court. Some examples of FINRA violations that can lead to federal criminal charges include:
- Insider trading
- Money laundering
- Securities fraud
Each of these violations can lead to fines, prison time, and other criminal penalties. For example, money laundering carries up to a $500,000 fine and up to 20 years of federal imprisonment under 18 U.S.C. Section 1956 (with each transaction constituting a separate offense).
Insider Trading
FINRA can refer insider trading cases to the SEC and DOJ for prosecution. Federal prosecutors can charge individuals and entities with insider trading under 15 U.S.C. Section 78j. Section 78j prohibits the use of “any manipulative or deceptive device or contrivance” in connection with the purchase or sale of any security registered with the SEC. As the SEC explains, “Examples of manipulative practices include, but are not limited to, ‘front running’ (trading ahead of a customer order), spreading false or misleading information about a company, rigging quotes, prices, or trades to create a false or deceptive picture of the demand for a security, ‘churning’ (engaging in excessive trading to generate commissions), and ‘marking the close’ (buying or selling securities near the close of trading to manipulate the closing price).”
Money Laundering
FINRA can also refer money laundering cases to the SEC and DOJ for prosecution. Federal prosecutors can charge individuals and entities with money laundering under 18 U.S.C. Section 1956. Section 1956 prohibits, among other things, conducting financial transactions that are designed to conceal the source of criminal proceeds. Under federal law, money laundering is a felony offense, and prosecutors can seek up to 20 years of federal imprisonment for each transaction.
Securities Fraud
Finally, FINRA can refer securities fraud cases to the SEC and DOJ for prosecution. Federal prosecutors can charge individuals and entities with securities fraud under 18 U.S.C. Section 1348. Section 1348 is the federal securities fraud statute, and it prohibits individuals and entities from engaging in “any scheme or artifice to defraud” in connection with the purchase or sale of any security registered with the SEC. Securities fraud is an extremely serious federal offense that carries substantial fines and up to 25 years of federal imprisonment.
