EFL Cases - Defenses and Counterclaims

What happens most often in these cases is that the broker does not have the cash to pay the balance owed, and so the brokerage firm files a FINRA claim to enforce the promissory note.  When we represent brokers in these cases, we offer a variety of defenses and counterclaims in their behalf.  Under the right circumstances, defenses and counterclaims can prevent enforcement of the EFL, or offset the amounts owed.  While these defenses and counterclaims vary depending on the particular facts of the individual case, we discuss some of the more common ones here.

An EFL as represented in a promissory note is essentially a contract, so the defenses that are generally available against contract enforcement are available here.  These might include:

Misrepresentation.  If the brokerage firm misrepresented a material fact related to the promissory note, or a material term of the promissory note, then the note would be unenforceable.  For instance, a manager may have made promises to a broker during the recruitment process that he was not authorized to make, maybe about favorable treatment for a broker's clients, which the broker then relied on to her detriment.

Lack of consideration.  If the promissory note was unsupported by consideration when the broker signed it, it would be unenforceable.  "Consideration" is a legal term that basically just means each side gives up something of value to the other to create a binding agreement.  In the usual situation, consideration exists when the firm gives cash to the broker, who then gives a promise to repay the cash with interest over time.  But sometimes circumstances can change, as happened in Wells Fargo Advisers LLC v. Agre, FINRA Arbitration No. 15-01073 (March 22, 2017).  In that case, respondent Agre was employed by Wachovia Securities and had signed a promissory note for an EFL with that firm.  When Wells Fargo took over Wachovia, it amended Agre's promissory note to extend the forgiveness terms over an additional 4 years, lowering the interest rate and shrinking the amount forgiven each year.  Agre left Wells Fargo before the loan was paid off under the amended terms, but after he would have completed payment under the original note.  The arbitrators concluded that the amended note was unenforceable for lack of consideration, because Agre got nothing of benefit out of the amendment.  Wells Fargo, on the other hand, gained four additional years of control over Agre, while he was left in a worse position because he received no new money and in fact extended his existing loan risk.  Moreover, the arbitrators rejected Wells Fargo's argument that the lower forgiveness amounts benefitted Agre because he owed less in income tax on those amounts, on the grounds that Wells Fargo benefitted too from lowering its payments.

Laches.  "Laches" is another legal term that means "delay."  If the brokerage firm deliberately delayed filing an enforcement action to the broker's detriment, the arbitrators may conclude that the promissory note is unenforceable.

Unconscionability.   An unconscionable contract is one that is so unfair to one side that it should not be enforced.  Proof of unconscionability could include substantively unfair terms in the contract, or unfair bargaining between the parties.  If one side had no choice but to enter into a contract, that is evidence that the agreement is unconscionable.  In support of their decision not to enforce the amended promissory note in the Agre case, the arbitrators pointed out that Agre both had no input into the terms of the amended note, and was pressured to accept it.

Contract of adhesion.  With a contract of adhesion, one party is offered a contract on a "take it or leave it" basis, with no opportunity to negotiate its terms.  If the terms of such a contract are found to be unconscionable, a court may void them.

Illegality.  If a contract requires a party to violate the law, it is unenforceable.  If, for example, a promissory note's terms required a broker to sell the firm's financial products to clients without regard to the suitability of those investments, the note would in essence require the broker to violate the law and arguably should not be enforced.

Breach of the Covenant of Good Faith and Fair Dealing.  The law implies into every contract a covenant of good faith and fair dealing.  A breach of this covenant on the firm's part, with respect either to the promissory note itself or other employment agreements between firm and broker, can support a finding that a promissory note is unenforceable.  Such a breach could also support a successful counterclaim offsetting amounts owed under the promissory notes, as was the case in Wells Fargo Advisors LLC v. Grundstedt, FINRA Arbitration No. 11-02245 (April 25, 2014).  Grundstedt, like Agre above, had worked for Wachovia when it was taken over by Wells Fargo.  Grundstedt had three EFLs, the first from his bonus when he joined Wachovia in 2008, and two others signed with Wells Fargo after the takeover.  When Grundstedt started with Wachovia, he also signed a variety of other employment agreements, once of which was a registered representative agreement in which Wachovia promised him various kinds of "support" during his employment. When Wells Fargo took over Wachovia, it began to make changes, including "consolidating operations, closing branches, [and] changing payouts[.]"  According to Grundstedt's counterclaim, these changes meant that Wells Fargo no longer provided him with the "support" promised him by Wachovia and resulted in his production dropping significantly.  Grundstedt argued that the failure to provide the agreed-upon support breached the covenant of good faith and fair dealing in his Wachovia employment contracts, to his financial detriment.  The arbitrators ruled that Wells Fargo did in fact breach the agreements, and reduced the amount Grundstedt owed under the first EFL accordingly.  (However, because Grundstedt took the next two EFLs after Wells Fargo began to make the changes he complained of, those promissory notes were enforceable without reduction.)  This decision may support an argument that a firm has changed so much that it is no longer the same place with which the broker originally entered into an agreement.

Counterclaims a broker may be able to file against a brokerage firm include, among others, claims for:

In general, it appears that if a brokerage firm engages in substantial misconduct, a broker is more likely to win on a counterclaim.  Yet another arbitration in which the broker won demonstrates this point.  Merrill Lynch, Pierce, Fenner & Smith Inc. v. Connell, FINRA Arbitration No. 10-03486 (May 6, 2011).  The arbitrators' decision does not reflect the relevant facts, but an article describing the decision provides more clarity.  Merrill Lynch hired respondent Connell in 2009, luring him away from his previous employer with the promise of a $3.3 million dollar "bonus."  Connell signed a promissory note for this bonus, which Merrill Lynch was to pay him in annual installments of $476,500 over seven years.  Two days before Connell was to receive his first bonus/loan forgiveness payment, Merrill Lynch fired him, alleging he had improperly brought client information with him from his prior firm.  Merrill Lynch sought to have the promissory note enforced, and Connell counterclaimed.  The arbitrators ruled for Connell, refusing to enforce the promissory note and ordering Merrill Lynch to pay him $476,500 in damages, as well as attorneys fees and costs.

It's a fact that brokerage firms win most EFL cases.  Arbitrators seem primed to enforce a signed promissory note against a broker, at least in the absence of egregious behavior by the firm.  But defenses and counterclaims sometimes carry the day, and may at least minimize a broker's losses.  Contact us at 866-597-2221 to discuss your case.