Brokerages failed to pay nearly 30% of dispute awards with investors last year, watchdog says

A significant number of harmed investors still aren’t receiving award money after winning disputes with brokers or brokerage firms, a watchdog organization says.

When companies mishandle money, investors can fight for compensation through the Financial Industry Regulatory Authority, or FINRA, an independent, self-regulatory organization that oversees brokers and brokerage firms.

FINRA may resolve issues through arbitration, which involves a panel hearing about the investor’s complaint, and it’s typically faster and cheaper than going to court. It’s required if cited in the brokerage contract or requested by the investor.

However, nearly 30% of FINRA arbitration awards went unpaid in 2020, according to a report from the Public Investors Advocate Bar Association, a group of lawyers representing investors in arbitration and litigation.

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Although there were fewer in-person arbitration hearings in 2020 due to Covid-19, the percentage of unpaid customer awards increased to 29.7% from 26.9% the previous year.

For 2020, FINRA reported 64 arbitration awards worth $20,895,826.21. Of these totals, 19 awards — for a total of $5,050,328.98 — weren’t paid, according to PIABA’s analysis, meaning nearly 30% of the investors did not collect. 

The reason why is that many brokers don’t have sufficient reserves or the insurance to cover arbitration awards, which isn’t required by FINRA or the Securities and Exchange Commission, the report found.

“I can’t think of a single client that’s sat across my desk, who didn’t express great surprise that their broker or investment advisor had no insurance,” said Hugh Berkson, former PIABA president and report co-author, on a call with reporters.

“It’s ironic that these firms are pitching to their clients, ‘you need to hire me because I will help you be fiscally responsible, but when I’m called to task, I may or may not be fiscally responsible myself,'” he said.

Many investors don’t uncover problems until there’s a stock market correction, the report finds, and the inability to collect damages from arbitration awards may cause “unprecedented harm” to retirees and those preparing to leave the workforce.

“Investors today have no seatbelt against unscrupulous stockbrokers, investment advisors and firms that handle hundreds of millions of customer dollars without sufficient capital reserves or liability insurance,” Berkson said.

Moreover, the unpaid awards may present a significantly understated picture of the problem because investors and their arbitration lawyers routinely do not bring cases where they know there’s no chance of getting paid, he said.

“FINRA remains focused on reducing the amount of unpaid awards, as described in our 2018 discussion paper,” a FINRA spokesperson said, adding the “lack of payment typically results from respondents declaring bankruptcy or going out of business.”

Since the 2018 report, the organization has taken steps to reduce risks from brokers and firms that may be less likely to pay awards, the spokesperson said. 

“FINRA appreciates that PIABA recognizes that customer recovery can be a challenge across the financial services industry and dispute resolution forums, and we remain committed to working with all stakeholders on this important issue.”

FINRA has identified approaches to improve customer recovery, such as requiring firms to raise or preserve more funds, expanding insurance coverage, creating a fund for unpaid awards and more, according to the organization’s 2018 report.  

However, FINRA says these solutions require federal legislation, rules from the SEC or SEC approval.