On June 2, 2010, the U.S. Securities and Exchange Commission (“SEC”) issued an order approving an amendment to the Financial Industry Regulatory Authority’s (“FINRA”) Rule 9554, which sets forth the consequences of failing to comply with an arbitration award or related settlement or an order of restitution or settlement providing for restitution to a customer. Prior to approving the Amendment, the SEC received three comments, all of which supported the change. The amendment will become effective July 2, 2010. 

FINRA members have 30 days to make good on an award or settlement. Rule 9554 states that if the member fails to pay, FINRA may initiate an “expedited action” by providing written notice that a failure to comply within 21 days of the notice will result in a suspension or cancellation of the offending party’s FINRA membership. The change to the rule provides that the inability to pay is no defense to a charge of failure to comply in an expedited action. That is, a member cannot avoid the sanction of suspension or cancellation of its membership because it is unable to pay the award.

Under the former version of the rule, a member could demonstrate its inability to pay by submitting an affidavit and Statement of Financial Condition together with supporting documentation, such as tax returns. The amendment reflects a determination by FINRA that bankruptcy court is the best forum for adjudicating a financial condition defense.

The change is aimed at curbing unfounded assertions of the inability to pay. Previously, the inability to pay was a complete defense, regardless of the reason for the inability. That is, a member could dispose of its assets via “sham” gifts and thus avoid payment to its customer. The SEC hopes the rule change will “increase the probability of customers having their awards paid” or, at least, “prompt meaningful settlement discussions between claimants and respondents.”

Other defenses to a failure to comply or failure to make good still remain. These are: (1) the member has fully complied with the award or settlement; (2) the claimant agreed to installment payments or otherwise settled the matter; (3) the member has moved to vacate or modify the award; and (4) the member has sought protection from creditors through bankruptcy proceedings.