November 16, 2018 Articles

A Question of Privilege: The Still Unsettled Law Surrounding FINRA’s Form U5 Uniform Termination Notice

By Beth Howland

In furthering its mission to protect investors and market integrity, the Financial Industry Regulatory Authority (FINRA) has established various rules and regulations for its broker-dealer firm members, including with respect to the termination of a firm employee (or “associated person”). Specifically, FINRA member firms must file a Uniform Termination Notice for Securities Industry Registration, commonly called a Form U5, within 30 days after terminating an associated person’s employment. The member firm must disclose on the Form U5 whether the separation was voluntary, a permitted resignation, or a termination. If the separation was voluntary, the member firm is not required to describe the circumstances surrounding the separation. However, when a member firm describes a terminated employee as having been “permitted to resign,” “discharged,” or “other,” it must also provide an explanation of the circumstances surrounding the separation. The disclosures provided on a Form U5 then become part of the associated person’s Central Registration Depository (CRD) record, which the public can access through BrokerCheck, FINRA’s online investor protection tool.

Because these records are public and could directly affect the terminated employee’s future employment opportunities, Form U5 termination disclosures are one of the most fertile grounds for disputes—including legal action—between associated persons and former employers. The defense of privilege is one of the most commonly used defenses for employers in Form U5 legal actions. This article addresses the unsettled law on whether qualified or absolute privilege applies to Form U5 disclosures. Advance consideration of these issues can help minimize disputes related to FINRA’s Form U5 and legal action by terminated associated persons.

The Purpose of Form U5 Disclosures

FINRA’s Form U5 disclosures are used for a variety of purposes. First, FINRA itself may use the information on a Form U5 for investigatory or enforcement purposes. That is, FINRA may use the Form U5 to identify and sanction individuals who have violated FINRA rules or applicable statutes and regulations. See FINRA Regulatory Notice 10-39 (NTM 10-39). FINRA and other regulatory agencies may also use Forms U5 to make licensing and registration decisions. Second, the investing public may use information from a Form U5 by accessing BrokerCheck. Finally, other member firms may use a Form U5 when making employment decisions.

This last purpose, providing information to other member firms, often gives rise to hotly contested employment disputes. When a Form U5 indicates that an associated person was terminated or permitted to resign, this can serve as a warning to other member firms that there may be some risk associated with hiring that associated person. Thus, because the Form U5 can have a direct effect on employment opportunities, disputes over the language contained in the Form U5 are common. These disputes usually involve defamation claims or requests for expungement, but they can also involve claims for interference with business relations, negligence, and invasion of privacy.

Requirements That Firms Complete the Disclosures

As noted above, when an associated person’s separation is not voluntary, section 3 of the Form U5 requires the firm to provide a detailed and accurate explanation if the reason given is “Discharged” or “Other” or “Permitted to Resign.” Specifically, “[a] firm must provide sufficient detail when responding to Form U5 questions such that a reasonable person may understand the circumstances that triggered the affirmative response.” NTM 10-39.

FINRA also provides strict guidelines on how member firms should answer the questions regarding termination. Question 7F asks, in part, “. . . was the individual discharged or permitted to resign from your firm, after allegations were made that accused the individual of violating investment-related statutes, regulations, rules or industry standards of conduct?” In responding to Question 7F, FINRA requires firms to

err on the side of interpreting the term “investment-related” in an expansive manner. . . . The scope of the term pertains to securities, commodities, banking, insurance or real estate. . . . Accordingly, a firm may be required to provide an affirmative answer to a question even if the matter is not securities related.

Id.

Notably, firms can and will be sanctioned by FINRA if they fail to timely file a Form U5. See NTM 10-39 (firms “may be subject to administrative and civil penalties for failing to provide complete and accurate information on Form U5 in a timely manner”); see also NASD Notice to Members 04-09 (“Of course, firms that fail timely to file amendments to Forms U4 and U5 may, in addition to paying a late fee, be subject to disciplinary action.”).

Litigation and Arbitration Related to Form U5 Disclosures

The contents of a Form U5 and thus an associated person’s CRD record are important to that person’s future employment opportunities. Because of this, information reported on a Form U5 often serves as the basis for defamation claims by associated persons against their former employers. Associated persons may also request that FINRA expunge allegedly false information from the CRD records. Regardless of whether the information is true, many associated persons are motivated to dispute the contents of the Form U5 because it can affect employment opportunities. The member firm often is carrying out its regulatory duty. On the other hand, an associated person feels that he or she has been blacklisted in the industry. The tension between the requirements FINRA sets forth for member firms and the desire of associated persons to remain gainfully employed inevitably leads to litigation regarding Form U5 language.

The Shield of Privilege and the Changing Landscape

In some ways, FINRA’s requirements related to the Form U5 put member firms between a rock and a hard place. Employers generally prefer to simply confirm past employment, without sharing negative information about a former employee. At least one purpose served by an employer’s providing limited information is avoidance of a defamation lawsuit. However, when an associated person misbehaves, FINRA regulations require member firms to do exactly that—share negative information—and do it in a way that will inevitably be made public.

However, although the dilemma is very real, some of the member firms’ concerns can be alleviated by the defense of privilege—whether it be qualified or absolute. Historically, many states have either applied a qualified privilege to Form U5 disclosures or the law has been unclear as to what, if any, privilege applies. Employers usually have a good argument that at a bare minimum, a qualified privilege should apply to Form U5 disclosures. A qualified privilege defense typically places the burden on the associated person to prove that the former employer was malicious or reckless in drafting the language of the Form U5.

In recent years, some courts have granted an even stronger shield to member firms by finding that absolute privilege applies to Form U5 disclosures. In 2007, New York’s highest court took a clear step toward protecting member firms. In Rosenberg v. MetLife, Inc., the court stated that “[t]he absolute privilege generally is reserved for communications made by individuals participating in a public function, such as executive, legislative, judicial, or quasi-judicial proceedings.” 866 N.E.2d 439, 444 (N.Y. 2007). The Court of Appeals held that the Form U5 disclosures were absolutely privileged, concluding that because the Form U5 played a regulatory, quasi-judicial function, statements made by member firms should be “subject to an absolute privilege.” Id. at 445.

Since Rosenberg, both state and federal courts in California have held that disclosures on a Form U5 are protected by an absolute privilege. In Fontani v. Wells Fargo Investments, LLC, the California Court of Appeal concluded that communications “made in preparation for or to prompt an investigation” are immune to defamation suits. 28 Cal. Rptr. 3d 833, 842 (Cal. Ct. App. 2005). The Fontani court reasoned that because the Form U5 may be a precursor to an investigation into a broker’s conduct, the disclosures on a Form U5 are not actionable for defamation or interference with prospective business advantage. Id. at 843. More recently, in an unpublished opinion, the U.S. Court of Appeals for the Ninth Circuit found that the Form U5 “was absolutely privileged under § 47(b),” the section of the California Civil Code that defines privilege. Adjian v. JPMorgan Chase Bank, N.A., 697 F. App’x 528, 530 (9th Cir. 2017). The Northern District of California recently came to the same conclusion. See Sullivan v. SII Invs., Inc., No. 18-cv-00666-SI (N.D. Cal. Feb. 20, 2018) (“Here, the Court finds that defendant’s U5 filing is protected by absolute privilege under section 47.”).

While California and New York have applied an absolute privilege to Form U5 disclosures, the majority of state courts that have addressed the question have concluded that a qualified privilege applies to FINRA’s Form U5. States in which courts have held that a qualified privilege applies are Arizona, Connecticut, Florida, Illinois, Michigan, Oklahoma, and Tennessee. See Wietecha v. Ameritas Life Ins. Corp., No. CIV 05-0324, 2006 WL 2772838, at *11 (D. Ariz. Sept. 27, 2006); Dickinson v. Merrill Lynch, Pierce, Fenner & Smith Inc., 431 F. Supp. 2d 247, 261–62 (D. Conn. 2006); Smith-Johnson v. Thrivent Fin. for Lutherans (M.D. Fla. July 20, 2005); Dawson v. New York Life Ins. Co., 135 F.3d 1158, 1163–64 (7th Cir. 1998); Andrews v. Prudential Sec., Inc., 160 F.3d 304, 307 (6th Cir. 1998); Glennon v. Dean Witter Reynolds, Inc., 83 F.3d 132, 137 (6th Cir. 1996).

Finally, it should be noted that in addition to judicial rulings, there have also been legislative actions on this topic. Multiple states have enacted statutes that provide for qualified immunity by adopting the National Conference of Commissioners on Uniform State Laws’ Uniform Securities Act. See, e.g., Haw. Rev. Stat. Ann. § 485a-507 (2006); Idaho Code Ann. § 30-14-507(2004); Iowa Code Ann. § 502.507 (2005); Kan. Stat. Ann. § 17-12a507 (2005); Okla. Stat. Ann. tit. 71, § 1-507 (2004); S.D. Codified Laws § 47-31B-507 (2002); Vt. Stat. Ann. tit. 9, § 5507 (2006).

It is important for employment counsel practicing in the FINRA arena to remain aware of developments related to privilege and Form U5 disclosures, especially in those states where it is unsettled as to whether absolute or qualified privilege applies.


Beth Howland
is an associate with Bressler, Amery & Ross, P.C., in Birmingham, Alabama.


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