FINRA self-reporting program echoes MCDC


WASHINGTON — Dealers who sell interests in 529 plans can avoid supervisory rule violation fines under a new Financial Industry Regulatory Authority enforcement initiative that is reminding market participants of a sweeping Securities and Exchange Commission program from years ago.

FINRA launched the 529 Plan Share Class Initiative this week to encourage broker-dealers to review their supervisory systems and procedures governing 529 plan share-class recommendations, self-report supervisory violations and provide FINRA with a plan to remediate harmed customers by April 1. In turn, FINRA enforcement will recommend a settlement that includes restitution for the impact on affected customers and a censure, but no fine.

The FINRA initiative focuses on 529 college savings plans.

“This is the first time that we’ve done something like this, requested self-reporting of violations in exchange for a recommendation of settlement terms that include restitution and a plan to fix the issue, but no fine,” Chip Jones, FINRA’s senior vice president of member relations and education, said in a video attached to the press release.

The initiative would only cover member firms, and would not cover individuals associated with the firms.

Section 529 plans are set up by states under the Section 529 of the Internal Revenue Code for parents or others to invest funds used to pay tuition costs for children or other beneficiaries. The interests from these funds are considered to be municipal securities and are called municipal fund securities. All fifty states and the District of Columbia sponsor at least one type of 529 plan.

Dealers that underwrite or sell interests in 529 plans are subject to Municipal Securities Rulemaking Board rules because 529 plans are municipal fund securities, a type of municipal security.

Most relevant to the new initiative, those rules include Rule G-19 on suitability and Rule G-27 on supervision. Rule G-19 requires that firms and brokers that sell municipal securities have a reasonable basis to believe that a recommended transaction is suitable in light of the customer’s investment profile. Rule G-27 requires firms to establish and maintain a supervisory system that is reasonably designed to achieve compliance with applicable securities laws and rules.

Shares in 529 plans are commonly sold in different classes with fees and expenses that vary widely from plan to plan. Class C shares, for example, typically impose higher annual fees than Class A shares.

“FINRA is concerned that some firms may not provide supervision reasonably designed to ensure that representatives recommend a 529 plan share class that is tailored to the unique circumstances and needs of each customer,” it said in its release.

This initiative is similar to the Municipalities Continuing Disclosure Cooperation Initiative, and dealers involved in 529 plans should self-report, said Justin Underwood, federal policy advisor for the Bond Dealers of America.

The MCDC initiative — launched in 2014 and wrapped up in 2016 — promised underwriters and issuers that they would receive lenient settlement terms if they self-reported instances involving materially inaccurate statements related to continuing disclosure obligations in Rule 15c2-12.

It led to SEC settlements with 72 underwriters representing 96% of the underwriting market as well as 72 issuers.

“This is a very slippery slope and I think if dealers learned anything from the MCDC initiative, they should go ahead and self-report if they’re involved in this type of activity,” Underwood said.

In 2019, FINRA plans to continue to examine and investigate firms’ supervision of share-class recommendations to customers of 529 plans. If a firm doesn’t self-report, and FINRA later finds supervisory failures by that firm, it will result in the recommendation of sanctions.

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