The Financial Industry Regulatory Authority (FINRA) recently proposed a change to Rule 12104 of the Code of Arbitration Procedure for Customer Disputes which would broaden the arbitrators’ authority to make referrals to FINRA for disciplinary investigation during an arbitration proceeding.

Under current FINRA rules, arbitrators may refer a case to FINRA for disciplinary investigation only at the conclusion of an arbitration. The proposal for mid-case referrals is designed to permit FINRA to detect and minimize fraudulent activity as early as possible and obtain evidence before it is lost.

Proposed Rule 12104(b) would permit arbitrators to refer a case for investigation “during the prehearing, discovery, or hearing phase of a case, which the arbitrator has reason to believe poses a serious, ongoing, imminent threat to investors that requires immediate action.” Thus if an arbitrator becomes aware of evidence or other information they deem poses a serious, ongoing, imminent threat to investors, they have discretion to refer the case immediately to FINRA’s Enforcement division.

The Rule clarifies that a referral should not be based solely on allegations in the parties’ pleadings. This is intended to avoid unnecessary mid-case referrals and disruption to an ongoing arbitration proceeding. Moreover, such a referral would be redundant as FINRA’s Enforcement division already reviews pleadings filed before FINRA Dispute Resolution.

Proposed Rule 12104(c) provides that parties will be notified of any mid-case referral. Parties then have 10 days to request the panel withdraw from the case. If such a request is made, the panel must withdraw. As a result, the case would proceed with a new panel selected by the parties under FINRA rules.

The proposal has been submitted to the Securities and Exchange Commission for approval. You can read the text of the proposed rule here.


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