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Bates Research  |  08-06-20

FINRA Roundup: Guidance on Private Placements, Digital Assets, Virtual Hearings, and Proposals

Image © [Andriy Blokhin] /Adobe Stock

Since our last regulatory update on the adoption of FINRA’s proposal to align its suitability and non-cash compensation rules with Regulation Best Interest (“Reg BI”), the self-regulatory organization issued guidance on private placement communications, recommended that firms provide information to them on digital assets, and proposed a series of new rule changes. Bates examines the details of FINRA’s updated guidance.

Guidance on Private Placement Communications

FINRA issued guidance for members who market private placements to retail investors. Private placements are non-public securities offerings that fall within specific exemptions (Reg D) from SEC registration.

FINRA reported on SEC data showing that issuers make nearly 20,000 Reg D exemption filings each year, of which nearly “4,000 new offerings identify an ‘intermediary,’ such as a broker or finder, as participating.” FINRA requires that members participating in private placements file offering documents (Rules 5122 and 5223), with an estimated 2,000 such filings received each year. FINRA acknowledged the 50% difference between the two regulators and narrowed its guidance to “the subset of private placements marketed by member firms.” Within that subset, FINRA observed that more than 40% of the placements are subject to its rules on retail communications (Rule 2210 - Communications with the Public). FINRA noted that member firms are “increasingly involved in the distribution of private placements” through online platforms and digital advertisements, suggesting that more members will be subject to FINRA communications requirements.

FINRA’s rule requires that communications from member firms must be (i) fair and not contain false, misleading or promissory statements or claims; (ii) disclose the potential risks as well as rewards associated with the investments; (iii) be accurate and (iv) offer a “sound basis to evaluate the facts” about the product. The rule also requires that a registered principal approve each communication.

FINRA observed firm deficiencies in compliance with the communications rule. Specifically, FINRA said that firm communications often fail to balance claims of the benefits of these securities with the potential risks such as their “lack of liquidity” or their “speculative nature.” Other observed communications contained “false, misleading, or promissory statements or claims such as assertions about the likelihood of a future public offering, claims about the future success of the issuer’s business model, inaccurate or misleading assertions concerning the relative risk of the offering, or projections on investment performance.”

FINRA reminded member firms that:

  • They are liable for the distribution of third-party prepared materials if the material is non-compliant with the rule (i.e., not balanced or misleading).
  • Retail communications should not project or predict returns to investors (e.g., yields, future investment performance) however, reasonable forecasts of issuer operating metrics (e.g., sales, revenues or customer acquisitions) are permissible as long as they provides a sound basis for evaluating the facts. FINRA was very specific in its guidance on appropriate issuer operating metrics, including requiring limited time periods, reasonable growth rate assumptions, operating margins within industry averages, and reasonable sales and customer acquisition forecasts in relation to the market.
  • Real estate investment programs fall within the communications rule if they are “designed to provide distributions to investors." FINRA had specific guidance about communications on the metrics around distribution rates.
  • Marketing private placements of real estate, private equity and venture capital often use a performance measure known as the internal rate of return (IRR). FINRA determined that for “completed investment programs” (where the holdings in the pool have matured or been sold), this metric would not violate the communications rule. Further, FINRA would permit the inclusion of IRR in communications materials if it is calculated in a manner consistent with the Global Investment Performance Standards (GIPS) adopted by the CFA Institute.

Recommendations on Reporting Digital Assets 

FINRA encouraged member firms to continue to report firm activities related to digital assets. The request is an extension of prior notices to firms (see here and here) to communicate to a firm’s Risk Monitoring Analyst new or planned digital asset activities such as cryptocurrencies, other virtual coins and tokens. FINRA wants to be notified of the following kinds of activities (this list is not exclusive):

  • Management, advisory services and transactions in digital assets directly or in a pooled fund investing in digital assets
  • Transactions in derivatives tied to digital assets
  • Participation in any offerings of digital assets
  • Secondary trading of digital assets
  • Custody arrangements of digital assets
  • Acceptance of cryptocurrencies from customers or mining of cryptocurrencies
  • Clearance and settlement services for virtual coins and tokens
  • The use of distributed ledger technology or any other use of blockchain technology

FINRA Recent Actions

Virtual Hearings: In response to the COVID-19 pandemic, FINRA has administratively postponed all in-person arbitration and mediation proceedings scheduled through October 2, 2020 unless the parties stipulate to proceed telephonically or by Zoom, or the panel orders that the hearings will take place telephonically or by Zoom. FINRA has created a  Virtual Hearing Guide for Arbitrators.  Further, the Office of Hearing Officers (OHO) has administratively postponed all in-person hearings of Disciplinary Proceedings scheduled through October 2, 2020. The OHO staff makes available a Virtual Hearing Guide for Parties

Expungement: FINRA amended the Codes of Arbitration Procedure for Customer and Industry Disputes to apply a minimum filing fee for all expungement requests. The effective date of the amendment is September 14, 2020. The fee applies “irrespective of whether the request is made as part of the customer arbitration or the associated person files a straight-in request, or the requesting party adds a small damages claim.” Under the amendments, FINRA will “apply a minimum process fee and member surcharge to straight-in requests, as well as a minimum hearing session fee to expungement-only hearings held after a customer arbitration or in connection with a straight-in request.”

Continuing Proposals

Cutomer Beneficiaries: FINRA proposed adopting a rule on registered persons being named a customer’s beneficiary or holding a position of trust for a customer. (See prior Bates coverage here). The proposal is an attempt to “address potential conflicts of interest that can result in registered persons exploiting or taking advantage of being named beneficiaries or holding positions of trust for personal monetary gain.” The new rule would create a uniform, national standard to govern registered persons holding positions of trust.

Operational Challenges: FINRA introduced certain proposals to address the operational challenges affecting members due to COVID-19. First, FINRA proposed temporarily extending the deadline for completed office inspections for the 2020 calendar year to March 31, 2021, effective immediately.  Secondly, FINRA proposed changes to temporarily amend certain procedural requirements, including timing and method of service. These amendments (i) allow FINRA to serve certain documents by electronic mail; (ii) require parties to file or serve documents by electronic mail in connection with specified proceedings and processes; (iii) provide extensions of time to FINRA staff and other parties “in connection with certain adjudicatory and review processes”; and (iv) allow for National Adjudicatory Council oral arguments  to be conducted by Zoom.

First Look: Upcoming Proposals

In a recent FINRA Board Meeting, the Governors approved three upcoming proposals for future notice and comment: (i) amendments to FINRA corporate financing rules to require members to file retail communications concerning specified private placements (see discussion on related guidance, above), (ii) proposed procedures to address cheating on and eligibility for qualification examinations and (iii) amendments to trade reporting rules to require the identification of certain corporate bond trades (i.e., those “priced off of a spread to a U.S. Treasury Security or that are part of a portfolio trade.”) The latter is intended to provide context on reported trades with “prices away from the current market.”


FINRA remains diligent in a host of areas. Its recent actions on private placements, arbitration, conflicts of interest and COVID-19-related administrative matters present examples of the scope of its mandate and its determination to keep pace. FINRA’s request to be kept apprised of broker dealer activity in digital assets suggests a broader agenda in the area. Bates will continue to monitor developments.

For FINRA arbitration and litigation matters, please see:

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Contact Bates Group

Bates Group is with you every step of the way. Contact us today for more information on how our End-to-End Solutions can help your firm.