As we’ve explained repeatedly on this site, every recommendation made or sales strategy employed by a brokerage firm or broker on behalf of a customer must be suitable for that customer. An unsuitable recommendation or strategy can leave the firm or broker civilly liable if the customer incurs damages.
FINRA recently issued Regulatory Notice 13-31 concerning effective practices for firms seeking to comply with the suitability rule. We thought this provided a good opportunity to again remind our readers what the suitability rule requires of every brokerage firm and broker (referred to by FINRA as “firm” and “associated person.”) The “Background” section of Regulatory Notice 13-31 contains this explanation of suitability obligations:
The rule requires a firm or associated person to “have a reasonable basis to believe that a recommended transaction or investment strategy involving a security or securities is suitable for the customer, based on the information obtained through the reasonable diligence of the member or associated person to ascertain the customer’s investment profile.” Firms and associated persons generally must attempt to obtain and analyze customer-specific information—such as customer’s age, investment experience, time horizon, liquidity needs and risk tolerance—when making recommendations to customers.
The rule also recites the three main suitability obligations:
Requires a firm or associated person to perform reasonable diligence to understand the nature of a recommended security or investment strategy involving a security, as well as its potential risks and rewards, and determine whether the recommendation is suitable for at least some investors based on that understanding.
Requires a firm or associated person to have a reasonable basis to believe that a recommendation is suitable for a particular customer based on that customer’s investment profile.
Requires a firm or associated person who has actual or de facto control over a customer account to have a reasonable basis for believing that a series of recommended transactions, even if suitable when viewed in isolation, are not excessive.
The rule added: recommended investment strategies involving a security or securities, including explicit recommendations to “hold” a security or securities.
Hugh Berkson is a Securities Attorney with McCarthy, Lebit, Crystal & Liffman, Co. LPA. Hugh is rated AV® Preeminent™ by Martindale-Hubbell®.
He obtained a business degree in Finance from the University of Texas at Austin in 1989, and is a 1994 graduate of Case Western Reserve University School of Law, where he was a member of the Order of the Barristers and received both the American Jurisprudence Award, (National Mock Trial) in 1993 and the Jonathan M. Ault Mock Trial Prize for 1993-1994.