FINRA LAWYER BLOG

As the Financial Industry Regulatory Authority (FINRA) continues to crack down on broker-dealers with anti-money laundering program (AML)-related deficiencies, broker-dealers and AML compliance officers (AMLCOs) should take note of the most common AML program compliance deficiencies mentioned in recent FINRA enforcement actions. These top six areas of deficiency are the most likely focus areas of FINRA enforcement going into 2017.

1. Ignoring Risks of Low-Priced Securities

The greatest number of FINRA AML-related enforcement actions in the past year revolved around failures to prevent and detect violations involving large volume sales of low-priced securities. FINRA sanctioned firms for failing to supervise new registered representatives bringing in penny stock business and failing to document and/or investigate high-risk activities involving lump penny stock deposits followed by rapid liquidation and proceeds distribution.

On August 18, the U.S. Securities and Exchange Commission (SEC) announced it has adopted new rules proposed by the Financial Industry Regulatory Authority (FINRA) that lessen the requirements for “capital acquisition brokers” (CABs) – firms that serve to advise private placements or mergers and acquisitions and aren’t involved with managing customer accounts or trading securities.

CABs are FINRA members and subject to FINRA bylaws, but in return for limiting their activities, they are held to a relaxed set of rules compared with those of traditional broker-dealers.

Around 16% to 19% of firms currently registered with FINRA are solely engaged in advising clients around financial alternatives, mergers and acquisitions or raising equity capital and debt in private placements.

FINRA recently entered into a settlement with Gar Wood Securities LLC (the “AWC”) concerning allegations that Gar Wood facilitated the sale of restricted securities in violation of the Section 5 of the 1933 Act, and the Firm failed to identify “suspicious” activity in a customer’s account that should have warranted the filing of a Form SAR-SF. The customer, identified as ICG, was apparently in business of issuing loans secured by low-priced stock. Over a two-year period, ICG supposedly deposited penny stocks into its Gar Wood brokerage account and immediately liquidated the positions and wire transferred the proceeds. ICG’s activity caught the attention of FINRA, which identified the following “red flags” that Gar Wood apparently failed to act upon:

• ICG opened a new account and delivered physical certificates representing a large block of thinly traded or low priced securities; • ICG had a pattern of depositing physical share certificates, immediately selling the shares and then wiring out the proceeds of the sale; • ICG deposited share certificates that were recently issued or represented a large percentage of the float for the security; • The lack of a restrictive legend on deposited shares seemed inconsistent with the date the customer acquired the securities or the nature of the transaction in which the securities were acquired; • ICG had limited assets but received an electronic transfer or journal transaction of large amounts of low priced unlisted securities; • Issuers’ SEC filings were not current, were incomplete or nonexistent; and ” Some of the company stocks deposited and sold in the ICG account involved shell companies that issued shares; and • JP Morgan, the original clearing firm for the ICG account, closed the ICG account after JP Morgan identified several red flags related to ICG’s operations.

The AWC is worthwhile reading for attorneys who counsel broker-dealers on anti-money laundering compliance.