Grygo is the chief content officer for FTF & FTF News.
Is a chief compliance officer (CCO) at a broker-dealer automatically on the hook for any regulatory mishaps at a firm?
Not necessarily, says FINRA, the self-regulatory organization (SRO) for U.S. broker-dealers. FINRA officials issued a regulatory notice last month that sets out to clarify a CCO’s role. The notice focuses on the scope of Supervision Rule 3110, which governs “the CCO’s role and how FINRA assesses a CCO’s liability under Rule 3110,” according to FINRA.
In the notice, the SRO says that it “will bring an action against a CCO under Rule 3110 for failure to supervise only when the firm confers on the CCO supervisory responsibilities and the CCO fails to discharge those responsibilities in a reasonable manner. In those instances, FINRA also will consider whether charging the CCO is the appropriate regulatory response to address the violation after weighing aggravating and mitigating factors.”
To prove its point, the regulator cites data from 2018 to 2021. “Of the nearly 440 FINRA disciplinary actions involving Rule 3110 violations for supervisory failures, CCOs were charged in 28 instances,” FINRA says. “Of those 28, 18 involved a CCO who was also the CEO or president of the firm — a role that confers supervisory responsibilities. For each of the remaining 10 matters, FINRA found that the firm had conferred upon the CCO specific supervisory responsibilities that the CCO failed reasonably to perform.”
The background section of the notice states that “Rule 3110 sets out a comprehensive set of supervisory obligations for member firms and requires firms to designate individual supervisors and identify their responsibilities. The rule requires each member firm to establish and maintain a system, including written procedures, to supervise the activities of each associated person that is reasonably designed to achieve compliance with applicable securities laws and regulations, and with applicable FINRA rules.”
Firms must also designate:
- An appropriately registered principal or principals with authority to carry out the supervisory responsibilities of the member for each type of broker-dealer business in which it engages;
- One or more appropriately registered principals in branch offices with authority to carry out the supervisory responsibilities assigned to that office; and
- Each registered representative to an appropriately registered person who is responsible for supervising that representative’s activities.
Individual liability is big under Rule 3110.
“Individual supervisors have an additional duty under Rule 3110 to investigate ‘red flags’ that suggest misconduct at the firm may be occurring and to act reasonably upon the results of the investigation. FINRA can bring enforcement actions under Rule 3110 against individual supervisors when they fail to discharge reasonably their supervisory responsibilities,” according to the notice.
In particular, though, it’s the individual executives that will bear the brunt of responsibility.
“A firm’s supervisory obligations under Rule 3110 rest with the firm and its president (or equivalent officer or individual, e.g., CEO) and flow down by delegation to the firm’s designated supervisors,” according to the notice.
The president “or equivalent officer or individual” rather than CCO will bear the “ultimate responsibility for compliance” unless the president chooses to delegate “particular functions to another person in that firm, and neither knows nor has reason to know that such person’s performance is deficient,” according to the notice. This the president or equivalent position and “designated principals” must fulfill the firm’s supervisory obligations according to Rule 3110.
So, the president or the equivalent cannot really pass the buck to the CCO. If they do, regulatory karma will get you.
“Chief compliance officers play an important role in facilitating compliance by promoting strong practices that protect investors and market integrity. That does not automatically make them supervisors, subject to FINRA’s supervisory requirements,” says Jessica Hopper, executive vice president, enforcement for FINRA, in a prepared statement.
Lastly, FINRA takes many factors into consideration before it will act against a CCO. It will not automatically take on the CCO.
“FINRA also will consider whether it is more appropriate to charge the firm or its president with failure to reasonably supervise rather than the CCO. … Finally, FINRA also will consider whether, based on the facts and circumstances of a particular case, it is more appropriate to bring informal, as opposed to formal, action against the CCO for failure to supervise. In some cases, it may be more appropriate to issue a Cautionary Action Letter, particularly in cases involving a CCO’s first-time violation of Rule 3110,” according to the notice.
The full text of the regulatory notice can be found here: https://bit.ly/3r6t8ZH
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