FINRA Updates

New FINRA Rule 4111 to Address Financial Firm Misconduct

October 20, 2021Marianna Shafir Esq.

Subscribe to the Smarsh Blog Digest

Subscribe to receive a monthly digest of articles exploring regulatory updates, news, trends and best practices in electronic communications capture and archiving.

Smarsh handles information you submit to Smarsh in accordance with its Privacy Policy. By clicking "submit", you consent to Smarsh processing your information and storing it in accordance with the Privacy Policy and agree to receive communications from Smarsh and its third-party partners regarding products and services that may be of interest to you. You may withdraw your consent at any time by emailing privacy@smarsh.com.

On September 28, FINRA adopted new rules to address firms with a significant history of misconduct. As explained in Regulatory Notice 21-34, New Rule 4111, (Restricted Firm Obligations) requires member firms that are identified as “Restricted Firms” to deposit cash or qualified securities in a segregated, restricted account, adhere to specified conditions or restrictions, or comply with a combination of such obligations.

New Rule 9561 (Procedures for Regulating Activities Under Rule 4111) and amendments to Rule 9559 (Hearing Procedures for Expedited Proceedings Under the Rule 9550 Series) establish a new expedited proceeding to implement Rule 4111.

The new rules and rule amendments become effective on January 1, 2022.

New Rule 4111 (Restricted Firm Obligations)

The new rule allows the self-regulator to impose new obligations on broker-dealers with significantly higher levels of risk-related disclosures than other similarly sized peers, based on numeric, threshold-based criteria.

FINRA Rule 4111 establishes a multi-step, annual process through which the self-regulator will determine whether a member firm raises investor protection concerns substantial enough to require that it be designated (or re-designated) as a “Restricted Firm” and subject to additional obligations, including a “Restricted Deposit Requirement.” The multi-step process includes numerous features designed to narrowly focus the new obligations on the firms of most concern.

Each year’s process will begin with a calculation of which firms meet numeric thresholds based on firm-level and individual-level disclosure events to identify member firms with a significantly higher level of risk-related disclosures as compared to similarly-sized peers. The process also gives each member firm that is preliminarily identified by these numeric criteria several ways to affect outcomes during subsequent steps in the process. These include:

  • A one-time opportunity to avoid the imposition of obligations by voluntarily reducing its workforce
  • An opportunity to explain to the Department of Member Supervision (Department) why the firm should not be designated as a Restricted Firm or be subject to a Restricted Deposit Requirement or to propose alternatives that would still accomplish FINRA’s goal of protecting investors
  • The opportunity to request a hearing before a FINRA Hearing Officer in an expedited proceeding to challenge a Department determination

New Rule 9561 and Amendments to Rule 9559

Also adopted is new Rule 9561 (Procedures for Regulating Activities Under Rule 4111), and amendments to Rule 9559 (Hearing Procedures for Expedited Proceedings Under the Rule 9550 Series), which establishes a new expedited proceeding to implement Rule 4111.

Rule 9561 establishes a new expedited proceeding that will:

  • Allow member firms to request a prompt review of the Department’s determinations under Rule 4111 and challenge any of the “Rule 4111 Requirements” imposed, including any Restricted Deposit Requirements
  • Address a member firm’s failure to comply with any requirements imposed under Rule 4111

If a member firm requests a hearing under Rule 9561, the hearing will be subject to Rule 9559. Several amendments to Rule 9559 have been approved that are specific to hearings requested pursuant to Rule 9561. These include, among others:

  • Amendments to Rule 9559(d) and (n) to establish the authority of the Hearing Officer
  • Amendments to Rule 9559(f) to set out timing requirements for hearings conducted under Rule 9561(a) and (b)
  • Amendments to Rule 9559(p)(6) to account for the obligations that may be imposed under Rule 4111 within the content requirements of any decision issued by a Hearing Officer under the Rule 9550 Series

Rule 4111 follows the same pre-emptive regulatory approach as FINRA’s Taping Rule (FINRA Rule 3170) and requires firms that employ a large number of high-risk brokers from expelled firms to record all phone conversations — including mobile phone calls — between brokers and customers. The Taping Rule also requires that the recordings are monitored and reviewed to ensure compliance with FINRA rules. Like with taping firms, the public will be able to view which firms are restricted firms on the FINRA website.

Firms that need to comply with the new rule should invest in a FINRA-compliance provider that is equipped to record, retain and play back relevant phone conversations, comprehensively, natively and efficiently.

This new FINRA rule is positive for the public as it will help protect investors and safeguard market integrity. However, this could be seen as a negative for brokers as there will be extreme FINRA supervision and examination focused on this "bad boy" list.

Share this post!

Marianna Shafir Esq.
Smarsh Blog

Our internal subject matter experts and our network of external industry experts are featured with insights into the technology and industry trends that affect your electronic communications compliance initiatives. Sign up to benefit from their deep understanding, tips and best practices regarding how your company can manage compliance risk while unlocking the business value of your communications data.

Get a Quote

Tell us about yourself, and we’ll be in touch right away.

Smarsh handles information you submit to Smarsh in accordance with its Privacy Policy. By clicking "submit", you consent to Smarsh processing your information and storing it in accordance with the Privacy Policy and agree to receive communications from Smarsh and its third-party partners regarding products and services that may be of interest to you. You may withdraw your consent at any time by emailing privacy@smarsh.com.

Contact Us

Tell us about yourself, and we’ll be in touch right away.