Many investors retain financial advisors and brokers to help them invest their hard-earned money. They rely on financial advisors and brokers to provide insight and investment guidance.
Unfortunately, there are instances where investors lose money due to the negligence or fraud of their financial advisors or brokers.
While many brokers and financial advisors will blame their clients’ losses on the markets, those excuses are too often mere fiction. When the promises that a rebounding market will restore the losses turn out to be hollow, clients often (and justifiably) become angry and wonder if there’s anything they can do.
If you have suffered financial loss in your investment account, you may be wondering whether you can sue your broker or financial advisor. The simple answer is yes. You can sue your broker or advisor. You have two options: filing an arbitration or filing a suit (though the latter is far rarer, as discussed below).
Our goal with this article is to provide you with much of the information you’ll need to decide whether to sue your broker or financial advisor. Let’s dive in.
What is the Difference Between a Broker and Investment Advisor?
Stockbrokers often advertise themselves as financial advisors, presumably because it sounds better. But “investment advisor” is a defined term under the law, and is different than a stockbroker. Investment advisors also often call themselves financial advisors. Confused? Let’s try to clear it up.
First and foremost “financial advisor” doesn’t mean anything under the law. There’s no regulatory agency that oversees “financial advisors.” It’s a marketing term, meant to engender trust.
Brokers and investment advisors are similar in the sense that they both provide financial services to investors who are looking for help managing their money. However, these two professions differ significantly in the specific services they offer, how they’re paid for those services and the regulatory agencies who oversee them. We’ll tackle those in order.
What services do they provide? The key distinguishing factor between a stockbroker and an investment advisor is that a broker can execute a securities trade for a client, whereas an investment advisor can make a recommendation, but cannot execute the trade. Thus, the investment advisor has to work with a broker to put the trade through. Almost all investment advisors, and most brokers, advertise that they will manage their client’s money and create a proper portfolio for their clients. Thus, the key difference in services offered is who actually puts the trades through.
How are they paid? Investment advisors are invariably paid a percentage of the assets under management, while brokers may sometimes charge a commission on each trade, or may instead bill a percentage of the assets under management (often called a “wrap fee”).
Who oversees them? Brokers must be licensed by the Financial Industry Regulatory Authority (FINRA) to buy or sell securities. Conversely, an investment advisor is not required to earn any type of legal designation to offer their services. But: depending on how much money they have under management, investment advisors must register with the SEC or the states in which they provide services. While brokers and investment advisors work under different regulators, one person can be both a broker and an investment advisor, so long as they follow the proper registration rules.
Also relevant to the distinction between brokers and investment advisors is the professional standards applicable to each.
- Regulation Best Interest standard – Brokers are required to follow the SEC’s relatively new “best interest” standard (“Reg BI”), put in place in mid-2020. While few arbitrators have faced cases brought under the new standard, in plain English, it means that a broker is supposed to put their client’s interests first and should provide only the lowest-cost option of similarly situated investments. For investment services provided before Reg BI went into effect, brokers were only required to make investment recommendations that were suitable for their clients, given their clients’ investment objective, risk tolerance, tax situation, and other factors unique to their investors. It is thought that the suitability standard is weaker than that imposed by Reg BI.
- Fiduciary standard – investment advisors are subject to the fiduciary standard, which states that the advisor should always act in the best interests of their clients. The fiduciary standard requires advisors to recommend the best option available. While all investment advisors are fiduciaries, only some brokers are, depending on the nature of their relationship with their clients.
Those who are considering hiring a new broker should check their background and history on FINRA’s BrokerCheck to ensure no prior history of FINRA violations. And those considering hiring an investment advisor would be well served to check the SEC’s Investment Advisor Public Database for similar information regarding prior violations.
Both investment advisors and brokers can be sued if they fail to follow these professional standards. However, the investor and their securities lawyer will need to prove that the broker or advisor actually acted wrongfully.
The Differences Between Suing a Broker and an Investment Advisor
Investors who lose money due to misconduct by their broker or investment advisor may have grounds for a lawsuit, but there are significant differences between suing a broker versus an investment advisor. The primary difference is whether the advisor or broker follows the suitability/Reg BI or fiduciary standard. That said, brokers registered with FINRA are subject to its rules of conduct and can be held liable for their violations of FINRA’s rules and regulations. Investment advisors are not subject to FINRA’s rules but can be held liable under state or federal laws.
Suing a Brokerage Firm
Brokers most commonly work for large brokerage firms, so suing a broker will also often involve taking legal action against a powerful firm. These firms take negligence and fraud claims extremely seriously and employ teams of highly qualified investment advisor attorneys to fight FINRA arbitration claims. If you are considering taking legal action against a brokerage firm, you would be well served to employ your own experienced securities lawyer for what will be a time-consuming legal battle.
Investment advisors also often work for brokerage firms, Investment advisors also commonly work for insurance companies, banks, and wealth management firms. Filing a claim against one of these companies will also likely involve a legal battle against a team of experienced attorneys who specialize in fighting fraud and negligence claims.
Lawsuits Against Self-Employed Brokers and Investment Advisors
Some investment advisors are self-employed, which means the lawsuit would be filed against the advisor directly. While an independent advisor may not have the same resources as a large firm, they will still likely fight the allegations with guidance from an experienced attorney.
The nature of a claim may vary depending on whether you are suing a broker or financial advisor, their legal professional standards, and whether they work independently or for a large company. But regardless of the circumstances, you should strongly consider speaking with an experienced securities lawyer before taking legal action.
Instances when you can sue your broker or financial advisor
Financial advisors and brokers can fail to perform their professional duties as expected. Consequently, they may be held liable for their client’s investment losses. Here are a few instances when you can sue your broker or financial advisor.
Breach of fiduciary duty
A financial professional’s fiduciary duty can arise from a number of sources: state common law can and the Securities and Exchange Commission’s new Regulation Best Interest (“Reg. BI”) does create a fiduciary duty, and the Investment Advisors Act of 1940 creates a fiduciary duty for investment advisors. What does that mean in English? In sum, they must:
- Perform their duties with the highest level of professionalism, care, and skill.
- Act in the best interest of their clients.
- Put the client’s interests above their own.
If your broker or financial advisor breaches any of the above duties, you may have a right to receive compensation for your financial loss.
Legally, brokers need to have the express legal authority to execute trades on their client’s behalf. If your broker makes transactions without your approval and you lose money in the process, you can be entitled to compensation.
Material omission or misrepresentation
Brokers and financial advisors should give you all the information necessary to make an informed investment decision. If you lose money due to their misrepresentation or failure to disclose relevant information, you can sue them.
Financial advisors and brokers should recommend securities that align with their client’s investment objective, risk tolerance, tax status, and other factors unique to each client. Before June 30, 2020, FINRA’s suitability rule required that investments be “suitable” for each client given the clients’ unique profiles. Thereafter, SEC Reg. BI required that investment advice be made with the investors’ best interests first and foremost. If you lose money because your broker made inappropriate investments, you should hire an attorney to claim compensation.
Excessive trading, commonly called “churning,” happens when a broker trades within their client’s account with the intent to generate commissions rather than investment gains. The more frequent the trading, and the higher the commissions, the more likely the broker is churning his customer’s account. If you are a victim of churning, you can sue your broker or financial advisor.
Lack of diversification
It is commonly understood and accepted that a diversified portfolio is less likely to suffer wild swings in value as the markets increase and decrease in value. While there can be valid reasons an account is concentrated in a single security or type of security, the broker must discuss with their client the avoidable risks associated with that concentration. Your broker or financial advisor may be held liable if you lose your money due to a lack of diversification.
Proving negligence or fraud to sue your broker successfully
Losing any amount of money on investment can be frustrating, stressful, and set you back financially. There are two elements to any claim: liability (did the broker or financial advisor do something wrong?) and damages (did their conduct caused you to suffer losses?).
Deciding whether the first element – liability – can be satisfied requires more than a simple loss of money. A successful claim requires that the investor prove that their financial professional acted wrongfully (negligently or fraudulently), with that wrongful conduct has caused a loss. This bears repeating: a simple loss is not enough to prove wrongdoing.
In some cases, your broker’s fraud or negligence may be obvious, but the case can be a bit complex in others. Therefore, it would help if you hired an experienced attorney to help you prove negligence or fraud. Your attorney will help you collect the evidence you need to sue your broker or financial advisor successfully.
The vast majority of brokerage firm customer agreements contain an arbitration clause. Most investment advisory agreements also contain arbitration clauses. Brokerage firm arbitration clauses almost always require that you bring claims through a FINRA arbitration only. Investment advisory arbitration clauses rarely require FINRA arbitration and instead use AAA, JAMS, or other private arbitration forums. If your agreement has an arbitration clause, arbitration is the only legal avenue you have to resolve any dispute with your broker or financial advisor unless you can prove that your financial advisor lied to you about the arbitration clause itself.
FINRA arbitration is similar to court litigation. Legal claims against brokers or financial advisors tend to be very complex not only in the claims themselves but the rules and requirements of the FINRA arbitration forum. Therefore, investors are often best served when they utilize an experienced attorney to help pursue the claim.
The arbitration process is more or less a trial in itself. Witnesses are questioned, exhibits are presented, and arbitrators review the facts, arguments, and law to reach a conclusion and issue an award.
An investor who is successful in winning their case and receives an award must then convert that award into money. There are a variety of ways to promote the collection, and an experienced attorney can help the winning investor navigate the steps following a successful award.
Challenging an arbitration award
Arbitration is binding. However, if you are unsatisfied with the arbitration award, a court can review it.
Note that the court will not review or overturn the arbitration award unless you prove that the arbitrators were biased, did not apply the law to the facts, or failed to consider the evidence you put before them. Generally speaking, you have to prove that the arbitration process was unfair, which is a difficult standard to meet.
In the rare case in which your investment agreement does not contain an arbitration clause, you can file a court case. Note that if you decide to file a lawsuit, the court in which you file suit will have strict procedural rules in place, and you will be required to adhere to those rules. Court cases tend to be more expensive than arbitrations, and often take far longer to resolve than do arbitrations. That said, common wisdom finds that juries are often (but not always) more generous than are arbitrators. Whether the benefits of a jury outweigh the costs of pursuing a claim through the court system is an analysis that requires great experience in both forums.
Have a candid conversation with your attorney before deciding between filing a lawsuit and pursuing the claim through arbitration.
Hire an experienced securities attorney
If you are thinking of suing your broker or financial adviser, you should hire an experienced attorney. Contact Hugh Berkson today to discuss how you can get the compensation you deserve.
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.