Why it matters
In a new regulatory notice, the Financial Industry Regulatory Authority (FINRA) reminded regulated firms not to prohibit the exercise of whistleblower rights in settlement agreements with employees and customers. Notice 14-40 cautioned firms that including confidentiality provisions “that prohibit or restrict a customer or any other person from communicating” with regulatory authorities about a possible securities law violation constitutes a violation of FINRA Rule 2010. The guidance does not preclude confidentiality provisions per se, but suggests that financial institutions include in the provision language that “expressly authorize[s]” employees or customers to communicate with authorities such as the Securities and Exchange Commission (SEC). Financial institutions should tweak potentially problematic language in settlement agreements and consider using FINRA’s sample language going forward to avoid rule violations and disciplinary action.
In 2004, FINRA issued Notice to Members 04-44, where the regulator warned firms about prohibiting or restricting customers or others from disclosing to regulators the terms of a settlement and the underlying facts of the dispute.
Ten years later, Regulatory Notice 14-40 reiterated the importance of complying with FINRA Rule 2010, the Standards of Commercial Honor and Principles of Trade, “which requires firms to observe high standards of commercial honor and just and equitable principles of trade in the conduct of their business” when drafting settlement agreements.
A customer or any other person “may, at any time, alert FINRA to potentially fraudulent or suspicious activities by a firm or its associated persons through FINRA’s Investor Complaint Center or communicate directly with SEC staff regarding a possible securities law violation,” the guidance stated.
Instead of drafting a confidentiality provision in a settlement agreement to prohibit or restrict an individual’s ability to communicate with a regulatory authority, firms should take the opposite approach, FINRA said.
“Confidentiality provisions in settlement agreements should be written to expressly authorize, without restriction or condition, a customer or other person to initiate direct communications with, or respond to any inquiry from, FINRA or other regulatory authorities,” according to Notice 14-40.
The regulator noted that confidentiality provisions in settlement agreements are not verboten, providing an example of acceptable language: “Any non-disclosure provision in this agreement does not prohibit or restrict you (or your attorney) from initiating communications directly with, or responding to any inquiry from, or providing testimony before, the SEC, FINRA, any other self-regulatory organization or any other state or federal regulatory authority, regarding this settlement or its underlying facts or circumstances.”
FINRA added that discovery stipulations should not be used to foreclose whistleblower rights, either.
During the arbitration discovery process, the parties generally exchange documents and information. FINRA’s Discovery Guide allows for confidentiality agreements between the parties, stating that “[i]f a party objects to document production on grounds of privacy or confidentiality, the arbitrators or one of the parties may suggest a stipulation between the parties that the documents in question will not be disclosed or used in any manner outside of the arbitration of the particular case, or the arbitrators may issue a confidentiality order.”
Such stipulations do not impact the disclosure of documents to regulators, FINRA noted, and firms that use the confidentiality provisions in discovery agreements to prohibit or restrict an individual’s ability to communicate with regulators “may result in FINRA disciplinary proceedings for violation of FINRA Rule 2010.”
To read Regulatory Notice 14-40, click here.