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Regulation and Compliance > Federal Regulation > FINRA

FINRA Adopts Restricted Firm Rules

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What You Need to Know

  • New rules and amendments become effective on Jan. 1, 2022.
  • Restricted firms could be required to deposit cash or securities in a segregated account.
  • Firms have a chance to challenge the restricted label or lay off high-risk brokers before being subject to the new requirements.

The Financial Industry Regulatory Authority said Wednesday that it has adopted new rules to crack down on risks posed by broker-dealers with a significant history of misconduct, including  firms with a high concentration of individuals with a similar history.

FINRA’s plan, approved by the Securities and Exchange Commission in late July, adopts Rule 4111, Restricted Firm Obligations, which uses criteria to decide whether to designate BDs as “restricted firms.”

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

Rule 4111 allows FINRA 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 explained in Regulatory Notice 21-34.

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.

Under Rule 4111, “the obligations that can be imposed include a requirement to deposit cash or qualified securities in a segregated, restricted account, and other conditions and restrictions that are necessary or appropriate for the protection of investors and in the public interest,” FINRA explained.

“The direct financial impact of a restricted deposit is likely to change such member firms’ behavior — and therefore protect investors,” FINRA said.

Rule 4111 sets up a multi-step, annual process through which FINRA 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,” FINRA explained.

“The multi-step process includes numerous features designed to narrowly focus the new obligations on the firms most of 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,” according to FINRA.

Firms also get “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 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; and the opportunity to request a hearing before a FINRA Hearing Officer in an expedited proceeding to challenge” the restricted firm label.

Jon Henschen, president of Henschen & Associates, a firm that helps advisors find broker-dealer relationships, said in a previous interview that FINRA’s new rules are “a positive for the public and a negative for the broker-dealers that are categorized as a ‘restricted firm.’”

The rules could “potentially drive out of business most firms that fall into this category,” Henschen said. “Not only will working capital have to go in a non-productive direction, but their reputation will be harmed and [recruiting] will be much more difficult.”


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