If your broker solicits you to purchase securities away from the brokerage firm, your broker is “selling away,” which is a violation of self-regulatory rules and federal securities laws. These transactions are known as “private securities transactions” and are subject to special rules and heightened supervision from brokerage firms. FINRA Rule 3280 strictly prohibits selling away except for in very limited circumstances. While brokers are required to report, in writing, the solicitation of security interests not associated with their brokerage firms, they do not always comply. Brokerage firms are extremely concerned about private securities transactions, because if they are known of, discoverable, or in the rare circumstance approved by the firm, the firm is required to treat the "outside" investment just as if it was done "inside" the firm, and account for it in all of its compliance and books and records supervision.
Typically, these investments are in the form of private placements, or other non-public investments such as oil & gas drilling partnerships or other “private” investment opportunities. Promissory notes and real estate investments are other examples of investments your broker may solicit for your purchase. If your broker is tempting you with unusually high or guaranteed returns, be wary. The purchase of these investments could result in serious economic harm to you, as the risk usually outweighs the reward.
A broker may engage in selling away to avoid any red-tape from the firm’s compliance department. The broker probably knows that his/her firm will not approve of the investment, so they fail to seek approval. Or, more likely, the broker is greedy, and out for his or her personal gain. High commission rates typically come from exceptionally risky investments, which is a red flag for selling away. Be on the lookout for excessive fees, and for brokers that push highly illiquid or high-risk investments.
Many times when a broker engages in selling away, the client is unaware that the investment is not approved by the broker’s firm. One of the reasons selling away is prohibited is because these situations give rise to deception and fraud on the part of the broker. Believing that the investment is approved or endorsed by the brokerage firm lends to a false sense of security and puts you at risk of losing significant amounts of money. Be sure to always confirm with your broker, in writing, that your purchase of a specific investment or security is sold by the brokerage firm. It is also important to carefully review your account statements as these types of investments will not appear on your statements. Additionally, selling away typically involves more obscure securities, rather than a large-company stock fund.
A broker may be liable for your losses even if they simply refer you to another investment or recommend another investment. If the broker facilitates the investment in any manner, whether or not they disclaim their role in the investment, the broker and his/her firm may be liable for any losses associated with such investment. Even just referring you to another investment or recommending another investment subjects the broker to liability, and if the firm could have or should have discovered the private investment, it will subject the firm to potential liability, as well.
Brokers that sell away run the risk of being barred indefinitely from selling securities. Other penalties include suspension and sanctions. The repercussions a broker faces depends on a variety of factors, including whether the broker tried to hide the sale from his/her brokerage firm and the number of clients involved and injured. A claim for selling away will likely give way to other claims, such as suitability and unauthorized trading and most directly, failure to supervise. The brokerage firm is also at risk if it knew of the sale but failed to act on the notice. For examples of disciplinary actions taken against brokers and brokerage firms, look here.
Claims for selling away are typically heard through FINRA’s arbitration process as most broker/investor agreements contain mandatory arbitration clauses. Additionally, you are required to arbitrate at FINRA if your dispute is with a broker or brokerage firm that is a member of FINRA, and if the dispute involves the securities business of the broker/brokerage firm.
To learn more about selling away, call us at 903-597-2221 or contact us online.