New FINRA Suitability Rule

FINRA recently enacted a new suitability rule, FINRA Rule 2111. This rule is intended to take the core of the original NASD suitability rule, NASD Rule 2310, and add in the plain language of the rule obligations that had been created through case law. These newly codified obligations include reasonable basis suitability, customer specific suitability, and quantitative suitability. These mean that a broker now has a codified obligation to perform reasonable due diligence about a particular security before recommending it, must have a reasonable basis to believe this particular security is appropriate for this particular investor, and must have a reasonable basis to believe that he or she is not recommending too much of that particular security.

The new rule also clarifies the types of recommendations that are subject to the suitability analysis. Most importantly, a broker must ensure that a recommended investment strategy is suitable for the customer, and “investment strategy” includes a recommendation to hold instead of selling a security. This is important in that it clearly provides a burden on brokers to ensure that any recommendation that a broker makes must pass through a suitability analysis. It is also important to understand that this burden on a hold recommendation does not apply when a broker simply does not recommend that the investor do anything. There are certain instances where the law will apply an implied recommendation, such that the broker can be legally liable for that decision. A hold recommendation is not one of those instances. A broker can only be liable for a hold recommendation where it is explicitly made.

This new rule also lists more specifically factors about a specific customer which must be considered by a broker before making a recommendation. These newly added factors in the rule include a customer’s age, investment experience, amount of time they expect to hold the investment, liquidity needs, and risk tolerance. These factors do not really affect the requirements on brokers for this analysis, as courts and regulators have regularly required broker to consider these factors anyway. However, it does clarify the rule for what a broker is responsible for knowing or at least attempting to discover about the investor prior to making any recommendations.

Contact Us
Free Consultation: (800) 259-9010