FINRA expelled a firm for Regulation Best Interest violations for the first time over failure to disclose compensation, churning accounts, among other violations.
Salomon Whitney Financial, based in Melville, N.Y., was expelled from FINRA membership for nondisclosure and other violations in selling $21.3 million of a pre-IPO offering to 171 investors from March 2018 to December 2021, receiving $3 million in compensation, including $936,000 in an undisclosed 5% commission, according to the order. The company was also accused of failing to supervise for excessive trading and churning despite a record of similar violations. The firm accepted the findings without admitting or denying them in a letter of Acceptance, Waiver and Consent, or AWC.
SW Financial told its investors that it would receive a 10% sales commission from the pre-IPO sale and did not disclose that it was also getting another 5% as well as any carried interest. The company made $2 million in the undisclosed compensation arrangement. The firm also misrepresented its compensation to FINRA.
SW Financial failed to confirm that the issuer of the offerings had possession of or access to the pre-IPO shares identified in the offering documents or that the issuer’s markups were reasonable and not excessive.
“SW Financial therefore lacked a reasonable basis to believe that the Offerings were suitable for, or in the best interests of, at least some customers,” stated the FINRA document.
The firm violated Reg BI rules in failing to protect the best interest of customers, along with sections 17(a)(2) and (3) of the Securities Act of 1933, according to the order.
Two of the firm’s former registered representatives churned nine customer accounts, racking up $350,000 in total trading costs and realized losses of more than $465,000. The excessive trades to drive up compensation violated Section 10(b) of the Exchange Act and Rule 10b-5 thereunder, and also violated FINRA Rules 2020, 2111, and 2010, the order stated.
“In one instance, a retired, 75-year-old customer whose account was excessively traded had a cost-to-equity ratio (or break-even point) of more than 103 percent, paid $101,806 in commissions, and incurred realized losses of $131,979, which comprised most of his retirement savings,” according to FINRA.
The firm failed to follow up on red flags and establish a system to monitor private placement offerings and safeguards against excessive trading and churning.
SW Financial, with 38 registered representatives and four branch offices in the New York metropolitan area, is an introducing broker-dealer that generates most of its revenue from commissions charged in connection with buying and selling equities for its retail customers.
The firm has been a FINRA member since January 2008, and has had issues almost from the start, including three previous letters of acceptance, waiver and consent with FINRA and a consent order with Connecticut.
In February 2018, SW Financial consented to an AWC because from June 2014 through June 2015, the firm failed to supervise registered representatives’ mutual fund recommendations and to ensure that reps did not contact people on the firm’s do-not-call list and the national do-not-call registry. The company was censured, fined $35,000 and ordered to pay $49,687.44 plus interest in restitution. The firm was ordered to revise its supervisory system for mutual fund transactions and telemarketing.
In April 2014, agreed to an AWC because from July 2008 through November 2009, SW Financial failed to establish a reasonable supervisory system and written procedures to monitor transactions in non-traditional exchange-traded funds and failed to provide reasonable formal training regarding non-traditional ETFs. The company allowed its reps to recommend non-traditional ETFs without performing reasonable due diligence to understand the risks and features associated with the products. SW Financial was censured and fined $30,000.
In September 2011, SW Financial entered into an AWC because from July 2008 through September 2011, the firm improperly imposed a “handling fee” on customer transactions that was not reasonably related to any direct handling-related services or expenses incurred by the firm. The firm was censured, fined $60,000 and was required to disclose all compensation to customers along with establishing better oversight and record keeping.
In March 2011, SW Financial entered into a Consent Order with the State of Connecticut that failed to disclose to Connecticut customers that a transactional “handling fee” included a profit to the firm, that certain customers paid lower fees, and that the fee was not based on the costs of handling a particular transaction. The firm was fined $12,500 and agreed to stop the practice, along with reimbursing each Connecticut customer the difference between the handling fee and the actual amount of SW Financial’s expense.
“The serious misconduct in this case exposed customers to significant risk of harm and necessitated expulsion of SW Financial from FINRA membership,” said Christopher J. Kelly, Senior Vice President and Acting Head of FINRA’s Department of Enforcement. “Firms cannot make material misstatements or omissions when they sell securities to customers. Firms also must reasonably surveil for, and respond to, red flags of excessive trading and churning. When firms, particularly those with significant disciplinary histories, commit egregious sales practice and supervisory violations, expulsion from FINRA membership may be warranted.”
FINRA also suspended the firm’s CEO Thomas Diamante for nine months in all capacities followed by a three-month suspension in all principal capacities, fined him $50,000, and required him to requalify by examination if he seeks to register with FINRA as a general securities principal or investment banking representative in the future.
Steven A. Morelli is a contributing editor for InsuranceNewsNet. He has more than 25 years of experience as a reporter and editor for newspapers and magazines. He was also vice president of communications for an insurance agents’ association. Steve can be reached at email@example.com.
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