Is it OK for Brokers to Borrow from Customers?
FINRA Proposes Tightening Rule On Borrowing
FINRA Rule 3240
FINRA Rule 3240 states that stockbrokers may only borrow from or lend to a customer if their firm has a policy in place allowing this type of financial arrangement. However, most brokerage firms generally prohibit the practice. According to the Financial Regulatory Authority (FINRA) no person associated with a member in any registered capacity may borrow money from or lend money to any customer of such person unless:
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The member has written procedures allowing the borrowing and lending of money between such registered persons and customers of the member
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The borrowing or lending arrangement meets one of the following conditions:
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The customer is a member of such person’s immediate family.
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The customer is a financial institution regularly engaged in the business of providing credit, financing, or loans, or other entity or person that regularly arranges or extends credit in the ordinary course of business and is acting in the course of such business.
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The customer and the registered person are both registered persons of the same member
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The lending arrangement is based on a personal relationship with the customer, such that the loan would not have been solicited, offered, or given had the customer and the registered person not maintained a relationship outside of the broker-customer relationship; or
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The lending arrangement is based on a business relationship outside of the broker-customer relationship.
Why is Borrowing or Lending From Customers Frowned Upon?
FINRA Rule 3240 generally prohibits borrowing and lending arrangements between registered persons and their customers. Such loans have the potential for abuse of customers, especially older investors. This action of borrowing or lending money from customers can create a conflict of interest and can also be seen as unethical. This can also cause harm to the relationship between customer and client which can then lead to legal and financial issues. Maintaining a professional relationship with customers is imperative and violating that trust tends to hard reputations of companies or small businesses.
Financial advisors or brokers taking advantage of their clients is not a new movement. Although these crooks will go after anyone, they often target elderly victims with fixed incomes. Classified as elder fraud, this is a rapidly growing crime. Reported losses more than doubled from 2019 to 2021, when they reached almost $1.7 billion, according to the annual Elder Fraud Report from the Federal Bureau of Investigation (FBI).
A large percentage of these losses are from brokers borrowing funds, only to use the funds for other purposes, leaving elder folk defrauded. Typically, when borrowing or lending money from brokers or registered officials occurs, some kind of line is being crossed whether it is an issue of a conflict of interest or simply being unprofessional.
What is FINRA?
FINRA stands for The Financial Industry Regulatory Authority, and it is a non governmental organization that regulates the securities industry in the United States. The primary responsibility of FINRA is overseeing and managing the activities of brokerage firms, and for enforcing rules and regulations related to the trading of securities.
Seeking restitution through FINRA arbitration can be a legal option if you feel as though you are a victim of fraud. After retaining a securities fraud attorney, you may begin the process of filing a claim through FINRA. The claim typically entails a description of the fraudulent behavior you’ve experienced, the amount of money lost or stolen, and any supporting documentation that may assist your case.
Once the claim is filed, FINRA will appoint an arbitrator to hear the case. Arbitrators review the evidence and come to a decision about whether the investor is entitled to restitution. If the arbitrator rules in favor of the investor, they will issue an award for damages, and this can be used to seek restitution from the person or company that defrauded the investor.
FINRA is managed by the Securities and Exchange Commission (SEC) and is authorized by Congress to protect U.S. investors from investment fraud by making sure the broker-dealer industry operates fairly and honestly.
Violations of FINRA Rule 3240
On April 6, 2023 the Financial Industry Regulatory Authority (FINRA), the self-regulator who oversees brokers and brokerage firms, reportedly barred William Winchester III. Between the years of March 2009 and September 2016, Winchester was associated with LPL Financial and then later created a partnership with Raymond James. Winchester reportedly borrowed more than $850,000 from three of his customers without notifying his member firm or obtaining the firm’s approval, according to the AWC.
These actions committed by William Winchester were unethical and unprofessional. He purportedly violated several regulatory rules including, NASD Rule 23702 and FINRA Rules 3240 and 2010. Following these actions, Tennessee ordered him to pay a fine of $45,000 and to complete five FINRA training courses. The state also ordered a three-year period of heightened supervision.
On March 1, 2022 According to the Financial Industry Regulatory Authority (FINRA), the regulator allegedly suspended broker Andrew Elsoffer from the securities industry for 2 years following an investigation. FINRA further found that between May 15, 2018 and July 30, 2018, he purportedly loaned a total of $13,703 to one customer and allegedly made false statements to FINRA.
Elsoffer’s alleged actions are in violation of NASD Rule 2510(b) and FINRA Rules 3240, 8210 and 2010, according to the Letter of Acceptance Waiver and Consent. Elsoffer was assessed a deferred fine of $15,000 and suspended from association with any FINRA member in all capacities for two years.
John Terzis Allegedly Borrowed $200,000 from a Customer according to a Letter of Acceptance Waiver and Consent on December 23, 2022. Due to these actions, The Financial Industry Regulatory Authority (FINRA) has barred financial advisor John Nicholas Terzis from associating with any FINRA member at any time. By failing to report and repay Loan from Elderly Customer he violated the FINRA rule 3240, and also falsely stated in response to a firm compliance questionnaire that he had not issued or participated in any promissory notes outside of LPL, and had not solicited clients to lend funds, according to the letter.
On July 20, 2023, FINRA barred financial advisor Billy Stanage Jr. after he reportedly failed to provide information in its investigation. The firm, Commonwealth Financial Network Inc. reportedly determined that Stanage had obtained a loan from a client without seeking firm approval which is a violation of FINRA rule 3240. As previously mentioned, this rule is enforced to prevent fraud and maintain professionalism between broker and client. Failing to disclose any outside business activities and obtaining approval from their member firms before engaging in such activities is a violation of this particular rule.
Conflicts of Interest – FINRA Rule 3240
The issues of conflict of interest within this rule are very prevalent. FINRA rule 3240 is designed to protect investors from financial exploitation. Especially those who are older. However, this rule in particular can create a conflict of interest for broker-dealers who want to place trades for senior investors. This is due to the fact that the rule requires broker-dealers to obtain written approval from the senior investors’ firm prior to opening a brokerage account or placing a trade.
This requirement commonly creates conflicts of interest for broker dealers and investors firms because they may be reluctant to recommend trades that require approval from the senior investors. It’s a common occurrence when firms have policies prohibiting certain types of investments or intervening on placing trades for clients. Conflicts of interest can arise in any relationship where a duty of care or trust exists between two or more parties. It is important to collect written evidence of your arrangement, your relationship with the customer, and any correspondence with the firm regarding the lending or borrowing arrangement.
Hiring a FINRA Attorney
FINRA arbitration is a process in which an impartial arbitrator or panel of arbitrators is appointed to hear the dispute and render a decision. The White Law Group helps clients navigate the arbitration process and represent their interests throughout the proceedings. This can include preparing and filing the initial claim, conducting discovery, presenting evidence and arguments at the hearing, and appealing the decision if necessary.
If you have an investment related dispute, the securities attorneys at the White Law Group may be able to help you. The White Law Group, LLC is a national securities fraud, securities arbitration, investor protection, and securities regulation/compliance law firm dedicated to helping investors in claims in all 50 states against their financial professional or brokerage firm.
Since the firm launched in 2010, it has handled over 700 FINRA arbitration cases. The firm has offices in Seattle, Washington and Chicago, Illinois and reviews securities cases across the country.
