Settling the Matter

More brokers and firms are being forced to settle customer claims, particularly where the claim is less than the total arbitration expense.

Settling the Matter

By Mark J. Astarita, Esq.

In June, we addressed how to avoid customer disputes. This month, we jump ahead to how to resolve them, either by settlement or an arbitral award.

As in most litigated matters, arbitrations often are resolved between the parties before the actual arbitration hearings commence, or even during the hearings. Many cases continue through the arbitration process, in part because the low cost of the proceeding does not serve as a deterrent. Even so, settlements constitute a fair percentage of all securities arbitration proceedings.

There are as many reasons to settle an arbitration as there are claims themselves. However, even in an arbitration proceeding, cost is an underlying consideration. Money must be spent on lawyers, exhibits and experts, while the broker loses work time — and money — preparing for and attending the hearings.

Most brokers do not want to settle a customer claim. A settlement carries with it an implied acknowledgment that the broker did something wrong, and although settlement documents can be drafted to make it explicit that there was no wrongdoing, the impression of wrongful conduct remains. Additionally, there is something inherently “wrong” with paying a customer when one did nothing wrong.

But with the arbitration process becoming more cumbersome and more like the trial process, the costs and time delays in the arbitration process are increasing. For this reason, more brokers and firms are being forced to settle customer claims, particularly where the claim is less than the total arbitration expense.

In securities arbitration, the broker who settles a claim has all of the emotional consequences of every wrongly accused defendant who settles a case. Additionally, the broker has a series of unique concerns that do not affect the average businessman.

First and foremost, there is a misconception that if a case is settled for less than $5,000 (for example, $4,900), a securities professional will not have a reportable event on his Form U-4. Although this is correct in theory, it is wrong in practice and can lead to far greater problems than a customer complaint — an inaccurate CRD report can itself lead to a regulatory complaint.

Those who subscribe to the $4,900 settlement theory base their belief that the event does not have to be disclosed upon Question 22 H (2) on Form U-4, which asks: “Have you ever been the subject of an investment-related, consumer-initiated complaint or proceeding that was settled or decided against you for $5,000 or more, or found of fraud or the wrongful taking of property?”

This response seems simple enough. If the claim is settled for $4,900 before a decision, the response to this question is “No.” However, the entire argument totally ignores the question immediately prior to Question 22 H (2). Question 22 H (1) asks: “Have you ever been the subject of an investment-related, consumer-initiated complaint or proceeding that alleged compensatory damages of $10,000 or more, fraud, or the wrongful taking of property?”

Note the words “ever” and “alleged” in the question. Despite the arguments regarding a $4,900 settlement, a broker subjected to a customer complaint can’t avoid answering this question “Yes.” If a complaint alleged damages in excess of $10,000 or fraud, the answer is still “Yes.” That “Yes” answer remains on the Form U-4, even if the case is settled.

Therefore, the broker who is the subject of a $20,000 customer complaint for churning must amend his Form U-4 to answer “Yes” to Question 22 H (1) upon receipt of the complaint. When he settles the complaint for $4,900 the following week, he can still answer Question 22 H (2) with a “No,” but the answer to Question 22 H (1) still remains a “Yes.” Because the whole exercise is an attempt to keep a “Yes” answer off of the U-4 (a laudable effort), the entire exercise is futile.

While this is certainly unfair, the entire U-4 process is unfair in many respects. The solution to this unfair form is to prepare in advance to avoid the complaint, not to attempt contortions of English and logic.

Another area of concern in customer settlements is confidentiality agreements. Understandably, brokers and firms prefer that the whole world does not learn how much a customer was paid and on what terms the settlement was made. Therefore, many settlements contain confidentiality agreements, which provide for severe penalties if the terms of the settlement are disclosed to any third party.

Confidentiality agreements encourage settlements by reducing the risk of copycat arbitrations by other customers and are found in agreements in most industries for this and other valid reasons. However, once again, the securities industry must be careful. An improperly worded settlement agreement can have grave consequences for members of this industry.

In May 1986, the National Association of Securities Dealers (NASD) notified its members that it can be a violation of the Rules of Fair Practice for members to use confidentiality agreements. In Notice to Members 86-36, the NASD stated that agreements “which directly or indirectly preclude customers or any party from cooperating with an NASD investigation could violate Article IV, Section 5 of its Rules of Fair Practice, as a failure to make information available in an investigation.” The Notice also states, “members should not place any conditions on a customer’s cooperation, or request them to withdraw complaints filed with regulatory bodies as a condition of negotiating and completing a settlement.”

This notwithstanding, settlement agreements with customers can still contain confidentiality agreements. The NASD notice attempts to prevent using the settlement procedure to remove complaints from a broker’s or firm’s record by demanding the withdrawal of a complaint and then wording the confidentiality agreement to prevent the customer from speaking to the regulators. In July 1995, the NASD “reminded” members that settlements of customer complaints must not result in agreements that impede or obstruct NASD examinations or investigations of potential violations.

The last issue is paying the settlement award. The various self-regulatory agencies (SROs) have enacted rules regarding the payment of awards, and it is a violation of various SRO rules for a member to fail to pay an award. For example, Section 41 of the NASD Code of Arbitration Procedure requires that all monetary awards be paid within 30 days of receipt unless a motion to vacate the award has been filed with a court of competent jurisdiction. Further, the section provides that the award shall bear interest if not paid in 30 days.

In August 1995, the SEC approved an amendment to the Interpretation of the NASD Board of Governors that also makes it a violation of the Rules of Fair Practice for a broker/dealer or a broker to fail to honor a written and executed settlement agreement obtained in connection with an SRO arbitration proceeding or NASD mediation.

Arbitration and customer disputes are a serious aspect of the financial industry, with rules and regulations making the arbitration, and even the resolution of a complaint, a regulatory nightmare for even the most seasoned professional. Care must be taken to ensure compliance, even when resolving such disputes.

Mark J. Astarita, Esq., is a partner in the New York City law firm of Sallah Astarita & Cox, LLC. He represents financial professionals in a wide variety of matters, including customer arbitrations. He can be reached at or by e-mail.

Securities Attorney at Sallah Astarita & Cox | 212-509-6544 | | Website | + posts

Mark Astarita is a nationally recognized securities attorney, who represents investors, financial professionals and firms in securities litigation, arbitration and regulatory matters, including SEC and FINRA investigations and enforcement proceedings.

He is a partner in the national securities law firm Sallah Astarita & Cox, LLC, and the founder of The Securities Law Home Page -, which was one of the first legal topic sites on the Internet. It went online in 1995 and is updated daily with news, commentary and securities law related links.