Wall Street’s ‘Suitability’ Duties to Customers are Updated


A new Financial Industry Regulatory Authority (FINRA) rule (Rule 2111) significantly broadens stockbroker duties owed to customers. The rule, which took effect July 9, 2012, is expected to weaken or eliminate certain arguments brokerage firms use to try to deflect liability (“New FINRA rule seen as weakening brokerage defenses,” by Suzanne Barlyn, Reuters).

The new rule clarifies the suitability standard as follows:

  • It codifies the three main suitability obligations requiring brokers to (i) perform due diligence to understand the risks of an investment or investment strategy, and determine whether it is suitable for anyone, (ii) have a reasonable basis for believing the investment or investment strategy is suitable for the particular customer based on that customer’s investment profile; and (iii) have a reasonable basis for believing that a series of securities transactions are not excessive (if the broker has control over the account).
  • It expands the factors that brokers must consider when making recommendations to customers to include age, investment experience, time horizon, liquidity needs, and risk tolerance, as well as other factors.
  • It covers recommendations of investment strategies (not just securities transactions), which it defines broadly to include recommendations to “hold” (or refrain from selling) a security, even one that the broker did not make the original recommendation to purchase.

In Regulatory Notice 12-25 (captioned “Suitability ? Additional Guidance on FINRA’s New Suitability Rule”), FINRA further explicitly reaffirms that “a broker’s recommendation must be consistent with his customer’s best interests,” and that this “prohibits a broker from placing his or her interests ahead of the customer’s interests.” The hallmark of a fiduciary is the requirement to always put the client’s interests first. Thus, according to FINRA, brokerage firms and their registered representatives are subject to a fiduciary standard of care when they recommend an investment or investment strategy.

Regulatory Notice 12-25 also clarifies that the term “customer” includes a potential customer or anyone with whom the firm has even an informal business relationship, even if that person does not have an account at the firm. An investor takes a huge risk when cashing in pension assets on the advice of a broker, which is often before the investor has opened an account with the firm. Thus FINRA’s own written guidance debunks the argument that the firm owed no duty under those circumstances because the investor was “not a customer.”

Page Perry is an Atlanta-based law firm with over 170 years of collective experience maintaining integrity in the investment markets and protecting investor rights.