General Information on Statutory Disqualification and FINRA’s Eligibility Proceedings
Article III, Section 3 of FINRA's By-Laws provides that no member shall be continued in membership if it becomes subject to disqualification; and that no person shall be associated with a member, continue to be associated with a member, or transfer association to another member if such person is or becomes subject to disqualification. FINRA's authority to deny the registration or membership of disqualified persons or members is set forth in Section 15A(g)(2) of the Securities Exchange Act of 1934 (“Exchange Act”).
FINRA Rule 9520 Series sets forth eligibility proceedings under which FINRA may allow a person subject to statutory disqualification to enter or remain in the securities industry. General information about these proceedings and statutory disqualification follows below.
Article III, Section 4 of the By-Laws states that a person is subject to a "disqualification" with respect to membership, or association with a member, if such person is subject to any "statutory disqualification" as such term is defined in Section 3(a)(39) of the Exchange Act.
The list of disqualifying events according to Section 3(a)(39) of the Exchange Act are as follows:
- certain misdemeanor and all felony criminal convictions for a period of ten years from the date of conviction.
- temporary and permanent injunctions (regardless of their age) issued by a court of competent jurisdiction involving a broad range of unlawful investment banking or securities activities.
- expulsions or bars (and current suspensions) from membership or participation in a self-regulatory organization (SRO) or foreign equivalent. Includes bars with a right to re-apply.
- bars (and current suspensions) ordered by the Securities and Exchange Commission (SEC), Commodity Futures Trading Commission (CFTC) or other appropriate regulatory agency or authority. Includes bars with a right to re-apply.
- denials or revocations of registration by the SEC, CFTC or other appropriate regulatory agency or authority.
- findings by certain foreign entities.
- findings that a member or person has made certain false statements in applications or reports made to, or in proceedings before, SROs, the SEC or other appropriate regulatory agency or authority.
- any final order of a State securities commission (or any agency or officer performing like functions), State authority that supervises or examines banks, savings associations, or credit unions, State insurance commission (or any agency or office performing like functions), an appropriate Federal banking agency (as defined in Section 3 of the Federal Deposit Insurance Act (12 U.S.C. 1813(q)), or the National Credit Union Administration, that
- bars such person from association with an entity regulated by such commission, authority, agency, or officer, or from engaging in the business of securities, insurance, banking, savings association activities, or credit union activities; or
- constitutes a final order based on violations of any laws or regulations that prohibit fraudulent, manipulative, or deceptive conduct.
- findings by the SEC, CFTC or an SRO that a person: 1) "willfully" violated the federal securities or commodities laws, or the Municipal Securities Rulemaking Board (MSRB) rules; 2) "willfully" aided, abetted, counseled, commanded, induced or procured such violations; or 3) failed to supervise another who commits violations of such laws or rules.
- certain associations with disqualified persons. In determining "association" for purposes of Exchange Act Section 3(a)(39)(E), FINRA uses the definition of "associated person" set forth in Exchange Act Section 3(a)(21).
FINRA’s Eligibility Proceedings
Generally speaking, a person who is subject to disqualification may not associate with a FINRA member in any capacity unless and until approved in an Eligibility Proceeding as set forth in Article III, Section 3(d) of FINRA's By-Laws and FINRA Rules 9520 through 9527.
However, a person who is currently associated with a FINRA member at the time the disqualifying event occurs may be permitted to continue to work in limited circumstances, provided that the member promptly files FINRA’s Form MC-400 Application (“MC-400 Application”) and the disqualifying event does not involve a licensing sanction, such as a bar, revocation or suspension.
Likewise, a member subject to disqualification may be allowed to remain a member, provided it promptly files FINRA’s Form MC-400A Application (“MC-400A Application”) requesting approval of its continued membership, and the disqualifying event does not involve a licensing sanction, such as a bar, revocation or expulsion.
Member Requirements and FINRA’s MC-400 and MC-400A Applications
Once a member becomes aware that one of its associated persons is subject to a disqualification, the member is obligated to report the event to FINRA. The member must amend the Form U4 within 10 days of learning of a statutory disqualifying event. See Article 5, Section 2(c) of the FINRA By-Laws.
The member may either file a Form U5 if it wishes to terminate the individual's association or file an MC-400 Application if the member wishes to sponsor the association of the disqualified person. The MC-400 application requests information about the terms and conditions of the proposed employment, with special emphasis on the supervision to be accorded to the disqualified person.
Firms are reminded that the Eligibility Proceedings process extends to all associated persons, including those individuals for whom firms would file a Non-Registered Fingerprint (NRF).
Failure of the member to either terminate the individual or submit an MC-400 application renders the member ineligible to continue in FINRA membership. See Article 3, Section 3(a) of the FINRA By-Laws. Further, pursuant to FINRA Rules 9522(a)(2) & (3), FINRA may cancel the membership of a firm or revoke the registration of a disqualified person where the member fails to respond to FINRA’s notice of disqualification
A member that becomes subject to disqualification must immediately amend its Form BD, in accordance with FINRA By-Laws, to report the disqualifying event and file an MC-400A application if it wishes to continue in membership. See FINRA Rules 9522(a)(2) & 9522(b). Members subject to disqualification that wish to retain their membership are required to submit an MC-400A Application.
FINRA may also cancel the membership of a member where the member fails to respond to FINRA’s notice of disqualification.
MC-400 and MC-400A Application Fee
As set forth in Section 12(a) of Schedule A to FINRA By-Laws, the application fee for filing an MC-400 Application or an MC-400A Application is $5,000. The member must authorize FINRA to deduct the application fee from its CRD account when submitting the MC-400 or the MC-400A application.
Requests for Extensions
Pursuant to FINRA Rule 9522(a)(2), the member may request, in writing, an extension of time to file either an MC-400 or an MC-400A application. FINRA’s Statutory Disqualification Group (“SD Group”) will review the request and may grant an extension for good cause shown. A member must not assume that an extension request has been granted if it has not received written approval from the SD Group. Requests for extensions can be sent to the SD Group at [email protected]
Other Eligibility Matters
Individuals in a Clerical and/or Ministerial Capacity
FINRA has the discretion to approve the applications of members seeking to associate with a disqualified person in a purely clerical or ministerial capacity without requiring applicants to undergo the hearing process before the FINRA’s National Adjudicatory Council (“NAC”) prescribed by FINRA Rule 9524. See Rule 9522(e)(2). The sponsoring member is required to file an MC-400 application, which is evaluated by Member Supervision staff. For more information, see also NASD Notice to Members 05-12.
Approved Individual Seeking Employment with New Firm
If a person subject to disqualification is approved to associate with a member and later wishes to become associated with another member, the new member is not required to undergo the full Eligibility Proceedings process in all cases. See Rule 9522(e)(2)(B). Instead, the proposed new employer should file an MC-400 application, which will be reviewed by FINRA staff. If staff finds that : (1) the terms and conditions of the proposed employment are the same in all material respects as those previously approved, and (2) there is no intervening conduct or other circumstance that would cause the employment to be inconsistent with the public interest or the protection of investors, then pursuant to SEC Rule 19h-1(a)(3)(ii), FINRA may approve the application and provide the SEC with notification of the new employment. If staff does not believe that the application meets these standards, staff may exercise its discretion to require the member to submit to the full Eligibility Proceedings process.
Exceptions to Application Requirements
Injunctions Over 10 Years Old
One exception to the requirements to file an MC-400 or MC-400A application concerns persons or members that are subject to an injunction that is greater than 10 years old. In these situations, pursuant to Rule 9522(e)(1)(A), the member may provide to FINRA a written request for relief. FINRA staff will review the request and, in its discretion, may either approve the proposed association/continued membership or require that the sponsoring or disqualified member file an application.
Change of Supervisor Requests
Another exception to the requirements to file an MC-400 application concerns a firm that seeks to change the supervisor for a disqualified individual who is working in an approved capacity pursuant to Exchange Rule 19h-1. In these situations, pursuant to Rule 9522(e)(1)(B), the member may provide to FINRA a written request to change the supervisor of the disqualified person. FINRA staff will review the proposed change and, in its discretion, may either approve the proposed change of supervisor or require that the sponsoring or disqualified member file an MC-400 application.
The Important Role of Supervision for Disqualified Persons
Pursuant to FINRA Rule 3110, each member must establish, maintain, and enforce written procedures to supervise the activities of its registered representatives and associated persons that are reasonably designed to achieve compliance with applicable securities laws and regulations and FINRA rules. It is particularly important for members to be prepared to implement appropriate supervisory controls when it sponsors the association of a person who is subject to disqualification or when it seeks to retain its membership after becoming statutorily disqualified. Almost all applications that the NAC or Member Supervision approves are subject to the member's agreement to implement a stringent plan of heightened supervision.
Plans of Heightened Supervision
In 2018, FINRA provided guidance to assist firms in developing plans of heightened supervision. See FINRA Regulatory Notice 18-15 Heightened Supervision. Heightened supervisory plans should address the nature of the specific concerns of the associated person’s incident history as well as the nature of the person’s ongoing activities. Id.
When evaluating a member’s application and the member’s proposed plan of heightened supervision of a disqualified person, FINRA staff considers: 1) the nature of the underlying disqualification, 2) the disciplinary history of the sponsoring member and proposed supervisor of the disqualified person, 3) the nature of the proposed business activities for the disqualified person, and 4) the stringency of supervisory plan that the member agrees to impose.
As a general matter, disqualified individuals seeking to act as registered representatives in retail sales capacities should be supervised on-site by a qualified and experienced securities principal to ensure stringent and comprehensive supervision. In cases where on-site supervision is not feasible, an alternative supervisory system should be proposed that will assure the protection of investors.
Interim Plans of Heightened Supervision – Effective June 1, 2021
Effective June 1, 2021, under newly adopted amendments to the FINRA Rule 9520 Series, an MC-400 application to continue associating with a statutory disqualified individual must include:
- An interim plan of heightened supervision which:
- Identifies an appropriately registered principal responsible for carrying out the interim plan of heightened supervision, who has signed the plan and acknowledged his or her responsibility for implementing and maintaining such plan.
- Complies with the provisions of FINRA Rule 3110, and be reasonably designed and tailored to include specific supervisory policies and procedures that address any regulatory concerns related to the nature of the disqualification, the nature of the sponsoring member's business, and the disqualified person's current and proposed activities during the review process.
- A written representation from the sponsoring member that the disqualified person is currently subject to an interim plan of heightened supervision.
The interim plan will be in effect throughout the entirety of the MC-400 application review process and shall be considered concluded only upon the final resolution of the eligibility proceeding.
Departments Participating in FINRA’s Eligibility Proceedings
Credentialing, Registration, Education and Disclosure ("CRED")
A member files the MC-400 Application or MC-400A Application with CRED. CRED first examines the applicable NRF, Form U4, or Form BD to determine whether there are any deficiencies. For example, all persons must be qualified (by examination or waiver) in the capacity for which they seek to associate before CRED will process an application.
CRED then compiles a package of relevant information; including but not limited to, documentation regarding the disqualifying event and Central Registration Depository (”CRD”) Records for the disqualified person, the sponsoring or disqualified member firm, and the proposed supervisor of the disqualified person. In addition, CRED will gather documentation in the form of orders, decisions, and the like related to the disciplinary events concerning the disqualified person, member, and proposed supervisor. CRED prepares an index of this information, together with the application(s) and Form U4 or Form BD and sends the index and documents to Member Supervision’s SD Group, FINRA's Office of General Counsel (OGC), and the member.
In addition, CRED updates the individual's/member’s statutory disqualification status ("SD status") in CRD. CRD composite screens for both member and individuals contain an SD status. For members, the SD status shows a null value, a "yes," or a "no."
SD status codes for representatives contain additional detail. A full list of SD status codes is available on this site.
Member Supervision’s Statutory Disqualification Group (“SD Group”)
The SD Group within Member Supervision is responsible for evaluating MC-400 and MC-400A applications. The SD Group conducts a thorough review of each file, which includes obtaining additional information from the member, the proposed associated person, and various other sources.
In assessing applications, the SD Group considers whether it is consistent with public interest and does not create an unreasonable risk of harm to the market or investors to permit a disqualified individual or member to continue in the securities industry. Typically, factors that bear on staff’s assessment include:
- the nature and gravity of the disqualifying event;
- the length of time that has elapsed since the disqualifying event;
- whether any intervening misconduct has occurred;
- any other mitigating or aggravating circumstances that may exist;
- the precise nature of the securities-related activities proposed in the application;
- the proposed plan of heightened supervision; and
- the disciplinary history and industry experience of both the member firm and the person proposed by the firm to serve as the responsible supervisor of the disqualified person.
After evaluating the application, Member Supervision will make a recommendation to either approve or deny the application to the NAC. In addition, Member Supervision has the authority to approve the applications of members and directly file a Rule 19h-1 Notice with the SEC with respect to disqualifications arising solely from findings or orders specified in Sections 15(b)(4)(D), (E) or (H) of the Exchange Act or arising under Section 3(a)(39)(E) of the Exchange Act. See FINRA Rule 9523(b); Regulatory Notice 09-19.
If FINRA approves an application, it must then file a notice with the SEC pursuant to Exchange Act Rule 19h-1 notifying the Commission of its decision. The SEC must review and acknowledge that decision before it takes effect. The SEC will notify FINRA of its decision by written communication.
Once the SEC acknowledges FINRA’s Rule 19h-1 Notice, the Firm’s plan of heightened supervision incorporated in the notice becomes final. If a member wishes to make changes to a final plan of heightened supervision, it must submit a written request to the SD Group at [email protected]
If FINRA denies an application (pursuant to Exchange Act Rule 19d-1), the member on behalf of the aggrieved individual or itself has the right to appeal to the SEC. The appeal must be filed within 30 days of FINRA’s decision. The appeal process may take several months.
In the event that Member Supervision recommends a denial of an application, the member is entitled to a hearing before a subcommittee of the NAC (“Statutory Disqualification Committee”), pursuant to FINRA Rule 9524. Present at the hearing are two individuals from the Statutory Disqualification Committee, who can be industry or non-industry representatives. A staff attorney from FINRA’s Office of General Counsel attends each hearing and serves as the custodian of the record and as advisor to the NAC. At the hearing, Member Supervision will be represented by FINRA’s Department of Enforcement. The member and the disqualified person will be afforded the opportunity to be heard in person, to be represented by counsel, and to submit any relevant evidence. The member ordinarily presents both the disqualified person and their supervisor at the hearing, together with counsel and any other witnesses or individuals who may have relevant information. A disqualified member is similarly entitled to have appropriate representatives attend the hearing.
As set forth in Section 12(a) of Schedule A to FINRA By-Laws, the hearing fee is $2,500. Applicants must pay this fee to CRED prior to the hearing.
The Statutory Disqualification Committee, which includes current or former members of the NAC, or former FINRA Directors or Governors, meets after the hearing to consider the application. The Statutory Disqualification Committee presents a recommended decision to the NAC for approval. The NAC decision is the final decision on behalf of FINRA, unless FINRA’s Board of Governors calls the matter for review. The critical inquiry in every case is the same: whether the admission of the disqualified person or member would be inconsistent with the public interest and the overriding regulatory goal to ensure the protection of investors.
The Eligibility Proceedings process may be accelerated in certain, appropriate cases when Member Supervision and the applicant member agree to the terms and conditions that would govern a disqualified person's or member's association. In these cases, a hearing would not be conducted and the scope of the NAC's review could be significantly reduced. See FINRA Rule 9523.
FINRA examiners conduct periodic Statutory Disqualification examinations to ensure compliance with supervisory conditions set forth in the agreed heightened plan of supervision. FINRA classifies individuals and members subject to disqualification into three tiers with corresponding examination requirements.
Tier I generally consists of individuals and members subject to disqualification because of securities or commodities-related misconduct including crimes described in Section 15(b)(4) of the Exchange Act.
Tier II generally consists of individuals and members subject to disqualification whose disqualifying misconduct does not relate to activities enumerated in Tier I or Tier III (below). The disqualifying event for Tier II members and individuals in most circumstances will be based on (1) felonies that are not securities or commodities related or (2) findings by certain foreign entities.
Disqualified members and persons in Tiers I and II are subject to periodic examination. FINRA staff has discretion to conduct more frequent or additional SD examinations if warranted.
Tier III consists of those individuals and members subject to disqualification that were permitted to associate or remain as a member without any plan of heightened supervision. There are no special examination requirements associated with this class of disqualified persons and members.
Pursuant to Section 12(b) of Schedule A to the FINRA By-Laws, members employing Tier I disqualified persons are required to pay an annual fee in the amount of $1,500. Members that employ Tier II disqualified persons are required to pay an annual fee in the amount of $1,000.
Any questions related to CRED can be directed to [email protected] or Chris Dragos, Director, Regulatory Review and Disclosure at (240) 386-5440. All other questions related to FINRA’s Eligibility Process can be directed to [email protected] or Patricia Delk-Mercer, Senior Director and Counsel, Statutory Disqualification, (240) 386-5461.