What's So Great About FINRA Arbitration?

April 8, 2016

In response to what the United States Congress perceived as “judicial hostility” to arbitration, Congress passed the Federal Arbitration Act1 in 1925 to ensure that arbitration agreements were on an equal footing with other contracts. In fact, the Act has been widely interpreted to ensure a “liberal federal policy favoring arbitration.”2

 

The trend favoring arbitration has been especially pronounced in recent years, with the United States Supreme Court the chief promoter of arbitration. The Supreme Court has ruled in favor of parties seeking arbitration in cases involving everything from claims of workplace discrimination in violation of federal statutes to agreements to arbitrate buried in the fine print of consumer contracts.

 

Because the Federal Arbitration Act does not create federal jurisdictional right – in other words, the ability to sue in a federal court to enforce an arbitration agreement – it is often left to state courts to enforce the federal arbitration policy embodied in the Act.

 

The trend toward compelling arbitration in cases involving the financial industry has been underway for some 30 years, since the Supreme Court in Dean, Witter, Reynolds, Inc. v. Byrd3 first suggested that claims of securities fraud are arbitrable, even though Congress expressed its clear intent in federal securities statutes to provide investors with complete relief through federal courts from fraud and other activities proscribed in those laws and even though some of the claims in that case were subject to arbitration and some were not.

 

A recent New Jersey case seems to buck the trend and, in doing so, to undermine a long-standing rule governing persons registered under federal law that seemed settled. In Barr v. Bishop Rosen & Co.,4 Bishop Rosen, a registered broker-dealer, and Stephen Barr, a Bishop Rosen broker, were sued in 2009 by a former Bishop Rosen client whose accounts Barr had handled. The case went to a FINRA arbitration in which Barr paid all of the legal fees, some $214,549.65, associated with the successful defense of both himself and Bishop Rosen.

 

It wasn’t clear from the record why Barr paid Bishop Rosen’s legal fees, or even his own bills. But he commenced a separate suit in a New Jersey state court against Bishop Rosen to recover the fees. Bishop Rosen sought to arbitrate Barr’s refund claim in reliance on two Form U-4 agreements with Barr containing arbitration clauses, one in 1997 and the other in 2009, that provided:

 

[1997] I agree to arbitrate any dispute, claim or controversy that may arise between me and my firm, or a customer, or any other person, that is required to be arbitrated under the rules, constitutions or by-laws of the organizations indicated in Item 10 as may be amended from time to time and that any arbitration award rendered against me may be entered as a judgment in any court of competent jurisdiction.

 

[2009] I agree to arbitrate any dispute, claim or controversy that may arise between me and my firm, or a customer, or any other person, that is required to be arbitrated under the rules, constitutions or by-laws of the [self regulatory organization] indicated in Section 4 (SRO registration) as may be amended from time to time and that any arbitration award rendered against me may be entered as a judgment in any court of competent jurisdiction.

 

Bishop Rosen also relied on a memorandum it circulated in 2000, to Barr and others, pursuant to NASD Rule 2080 (now FINRA Rule 2263), which advised that Barr needed to understand that, by signing a Form U-4 in the future, he would be waiving the right to sue Bishop Rosen in court.

 

However, all of that was not enough. New Jersey law, the Court held, required that Bishop Rosen advise Barr, with “clarity,” that he was waiving his right to pursue the case in a court. Otherwise, Barr could not be forced to put his case before an arbitrator against his wishes. The nine-year gap between the 2000 memorandum and the 2009 Form U-4 was too long to ensure that Barr was aware he was waiving his right to a judicial remedy.

 

The consent to arbitrate in the current version of Form U-4 is identical to the one Barr last signed, the one court found not in compliance with New Jersey law. To bring it into compliance, at least in New Jersey, firms will need to provide to their registered employees an explanation in an additional document, furnished along with the Form U-4, that the employee is waiving the right to litigate the claim in a court.

 

This case also points out a problem cropping up more and more in securities (and other) arbitrations. The long held view has been that the advantages of arbitration – lower costs, speed and finality – more than compensate litigants for giving up their right to a jury trial. None of these advantages are evident in the Bishop Rosen case.

 

The legal bills for the arbitration exceeded $200,000 on one side of the case alone. The fees associated with FINRA’s processing the matter likely added another $10,000 or more to the costs of each side. To judge from the timing of Barr’s later lawsuit against Bishop Rosen, it is likely that the arbitration, which was begun in 2009, was not concluded until at least four years later. Arbitration was hardly a time saver.

 

But most telling is the problem of finality. The arbitration did not end the controversy, but led to a brand new one: Barr’s suit against Bishop Rosen to recover the fees he paid. If the arbitration commenced by Bishop Rosen’s client had been filed in a court, the fee dispute would have been resolved in the same action.

 

So what does all of this mean? Mainly, that FINRA has work to do so reform the arbitration process it compels FINRA registrants to commit to.

 

Endnotes

 

1 9 U.S.C. §1 et seq.

 

2 AT&T Mobility LLC v. Concepcion, 560 U.S. 923 (2011).

 

3 470 U.S. 213 (1985).

 

4 412 N.J. Super. 599 (App. Div. (2015), certif. den. 224 N.J. 244 (2016).

 

 

 

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