Additional communications

Using FINRA’s name

Rule #1 for this topic: FINRA does not approve any firm, any associated person, any security, or any recommendation. Any statement that states or implies FINRA endorsement or approval violates FINRA’s rules and can trigger disciplinary action. Firms may use FINRA’s name only in ways that don’t imply such approval.

Stating on a filed communication that it was “Reviewed by FINRA” (or “FINRA Reviewed”) is acceptable, because FINRA did review it in the filing. It has not been approved by FINRA. Stating on the confirmation of an over-the-counter trade that “this transaction has been executed in conformity with the FINRA Uniform Practice Code” would also be acceptable use of their name. Finally, on the members website, some links to FINRA aren’t just acceptable, they’re required. If the website says the firm is a member of FINRA, it must link to FINRA’s actual website right next to that statement, as in “Achievable Investments is a registered broker dealer and member of FINRA (www.finra.org)”. And a firm with retail customers must put a readily apparent link to FINRA’s BrokerCheck on the first page of its website meant for retail investors, and on any page with a registered person’s professional profile.

Pre- and post-filing

Most retail communications from an established firm don’t have to be filed with FINRA at all. The ones that do are mostly filed within 10 business days after first use: retail communications that promote a specific mutual fund, ETF, variable product, or other registered investment company, and those about public DPPs, registered CMOs, or registered securities derived from an index, commodity, or other underlying asset. That means you can send it to the clients, and then FINRA gets a copy.

That is for established firms, firms that are past their first year of FINRA membership. Newly established firms have different rules. For their first year of FINRA membership, newly established firms have to prefile, at least 10 business days before first use, any retail communication published or used in public media, such as a generally accessible website, a newspaper or magazine, TV or radio, or a billboard.

In both cases, these are filings with FINRA, not approvals. FINRA reviews a retail communication filed under Rule 2210 and can require changes, but it doesn’t approve it. We are filing these communications with FINRA, usually within 10 business days after use, sometimes at least 10 business days before use. Before any retail communication is used, a registered principal of the firm must also approve it in writing, before the earlier of its first use or its filing - filing is never a substitute for that approval; municipal securities have separate MSRB communication rules, covered later in this course.

Options are the exception. Under Rule 2220, a retail communication about standardized options used before the customer has received the options disclosure document (ODD) must be submitted to FINRA for approval at least 10 calendar days before use.

There are exceptions to this default filing timeline, where even an established firm has to prefile at least 10 business days before first use. The main ones are retail communications about a mutual fund or other registered investment company that include a performance ranking or comparison in a category that isn’t generally published, or that the fund, its underwriter, or an affiliate created, and retail communications about security futures. Investment analysis tools, the interactive tools and calculators that show the likelihood of different investment outcomes, are not filed at all, whether the firm built them or got them from a third party; the firm just has to give FINRA access to the tool if FINRA asks.

Predicting the future

Communications may not predict or project performance, imply that past performance will recur, or make any exaggerated or unwarranted claim, opinion, or forecast (FINRA Rule 2210(d)(1)(F)); the exceptions are listed below. When a communication does show a mutual fund’s performance, it shows the costs at their highest rather than their most likely: the maximum front-end or deferred sales charge from the current prospectus, and the fund’s total annual operating expense ratio before any fee waivers (FINRA Rule 2210(d)(5)).

Obviously, no lies, no false or misleading statements, no misstatements of material facts, or any similar fraudulent statements can be made about the securities or the recommended strategy.

No hypotheticals, illustrations, or projections can imply that past performance will continue or repeat. Every representative should treat “past performance is no guarantee of future results” as a core rule to apply every time performance is discussed.

• We can use hypotheticals of mathematical principles, showing dollar cost averaging, or other similar principles related to the investment or recommendation.
• We can also use investment analysis tools, and the written reports they produce, provided they meet FINRA’s requirements for these tools, including all necessary disclosures.
• A research report on debt or equity securities can include a price target, provided the target has a reasonable basis, the report discloses the valuation methods used to reach it, and it comes with disclosure of the risks that could keep the target from being reached.

Comparisons need to be explained carefully. Comparisons need to explain material differences between what is being compared, including objectives, tax consequences, fees, potential additional costs and expenses, any potential guarantees or insurances, and any other necessary details. Some comparisons are easier and more logical to make, small cap growth vs small cap value, or municipal bond fund vs corporate bond fund. Some comparisons are much harder, and could be a red flag. For example, comparing a bank savings account to a mutual fund.

Considering taxes

When referencing tax-free, tax-exempt, tax-equivalent, or any other investment or strategy that involves taxes, it must explain which taxes apply. Tax-deferred must be explained as postponement or deferral, which is not the same as exemption or free. When illustrations are created of tax-deferred vs taxable compounding investments, both computations must use the same assumed investment principal amounts, and gross rate of return on the investment, which can be at most 10%. The illustration must use and identify actual federal income tax rates, and one meant for a target audience must use rates that reasonably reflect that audience’s tax bracket or brackets.

A tax-deferred versus taxable illustration must also disclose, as applicable, the degree of risk in the assumed rate of return, including a statement that the assumed rate of return is not guaranteed, the possible effects of investment losses on the comparison, and that withdrawals from the tax-deferred investment are taxed at ordinary income tax rates.

Testimonials

A testimonial is a statement from a client, or non-client, endorsing the firm, a representative, or a security. Any retail communication or correspondence that includes a testimonial about the investment advice or investment performance of the firm or its products must prominently disclose that it may not be representative of other clients’ experience, that it’s no guarantee of future performance, and whether it was paid for (required if more than $100 in value was paid); if the testimonial addresses a technical aspect of investing, the person giving it must also have the knowledge and experience to support those statements.

Taping rule

Certain firms, if they hire too many new employees from a disciplined firm, may have to put procedures in place to tape record, and review, the phone calls between their registered persons and their customers and prospects. Basically, we don’t know if these employees picked up “bad habits”, and we need to make sure that even though they worked for a company that did something bad, that is why it is disciplined, they didn’t learn and continue to do bad things. This rule tends to affect only a small number of firms, since relatively few registered persons have worked for a disciplined firm at any given time.

When a firm is notified by FINRA, or otherwise learns, that it has to begin tape recording, it has 60 days to put procedures into place to tape record, and review, all telephone conversations between all of the firm’s registered persons, not just the new hires, and both existing and potential customers. They would have 30 days from that notice or knowledge to reduce staffing, to fire enough of the new reps that cause taping to be required, in order to avoid having to put those procedures into place. If they do fire any of those reps to prevent taping, they can’t rehire the reps they let go for 180 days. This staff-reduction option is only available the first time a firm becomes a taping firm. A taping firm must keep each recording for at least 3 years, the first 2 in an easily accessible place, and report to FINRA on its supervision of its registered persons’ telemarketing by the 30th day of the month after each calendar quarter.

A taping firm is one that would fit any of the following descriptions:

• A firm with at least 5 but fewer than 10 registered persons, where 40% or more of the registered persons have been associated with a disciplined firm in the past 3 years, or
• A firm with at least 10 but fewer than 20 registered persons, where 4 or more of its registered persons have been associated with a disciplined firm in the past 3 years, or
• A member with at least 20 registered persons, where 20% or more of it registered persons have been associated with a disciplined firm in the past 3 years.

A registered person who was registered with disciplined firms for a total of 90 days or less in the past 3 years, and who has no disciplinary history, does NOT count toward the thresholds. A registered person who was registered with a disciplined firm for more than 90 days in that period, or who has a disciplinary history, DOES count.