All too often, advisors who hire AdvisorLaw to help them seek expungement of termination disclosures have Form U5 allegations relating to outside business activities (OBAs) and their disclosure, or alleged lack thereof. We frequently see instances where the advisor inquired about whether their involvement with an outside entity constituted an OBA, and they were told that they were not required to disclose it, only to later be terminated for alleged nondisclosure of an OBA. It seems that firms are largely inconsistent or vague when it comes to what does and does not constitute an OBA, as well as the proper method of disclosing the activities.
What is considered an Outside Business Activity (OBA)?
FINRA Rule 3270 pertains to the OBAs of registered persons. However, the rule leaves plenty open to interpretation. The rule itself states:
“No registered person may be an employee, independent contractor, sole proprietor, officer, director, or partner of another person, or be compensated, or have the reasonable expectation of compensation, from any other person as a result of any business activity outside the scope of the relationship with his or her member firm, unless he or she has provided prior written notice to the member, in such form as specified by the member. Passive investments and activities subject to the requirements of Rule 3280 shall be exempted from this requirement.”
It goes on to describe the firm’s obligations in regard to the notice:
“Upon receipt of a written notice under Rule 3270, a member shall consider whether the proposed activity will: (1) interfere with or otherwise compromise the registered person’s responsibilities to the member and/or the member’s customers or (2) be viewed by customers or the public as part of the member’s business based upon, among other factors, the nature of the proposed activity and the manner in which it will be offered. Based on the member’s review of such factors, the member must evaluate the advisability of imposing specific conditions or limitations on a registered person’s an outside business activity, including where circumstances warrant, prohibiting the activity. A member also must evaluate the proposed activity to determine whether the activity properly is characterized as an outside business activity or whether it should be treated as an outside securities activity subject to the requirements of Rule 3280. A member must keep a record of its compliance with these obligations with respect to each written notice received and must preserve this record for the period of time and accessibility specified in SEA Rule 17a-4(e)(1).”
While quite broadly defined, OBAs include any work for which a rep is paid (or expects to be paid) that is outside of the rep’s role with the firm. Passive, personal investments and blind trusts, however, do not qualify as OBAs.
What happens when you notify your firm of an OBA?
Whether the rep’s work with the OBA is related to the financial services industry in any way is irrelevant. All types of compensated work must be disclosed, as must any work for which the rep expects to receive compensation in the future.
The Rule requires that the rep notify the firm of the activity — there is no requirement beyond notification under the rule. Most firms have procedures in their manuals that describe steps that must be taken when officially giving notice of a potential OBA. The member firm must evaluate the OBA to determine whether it’s acceptable, and the firm will then either approve or deny the rep’s involvement with the OBA.
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Whether an activity is acceptable is to be determined through a review of the type of the business, the amount of time that the rep will spend on the outside business, and the type or amount of compensation that will be received. The firm must determine whether the associated person’s involvement in the OBA will negatively impact their responsibilities at the firm. The firm must also determine that a customer would likely not confuse the OBA with the rep’s securities business with the firm.
If an OBA presents a conflict of interest, the firm must prohibit it. If an OBA is approved, the firm is obligated to keep records of the activity and conduct compliance reviews.
What about private-securities transactions?
As with OBAs, reps are obligated to disclose private-securities transactions, as well. Private-securities transactions are those transactions that occur outside the regular scope of an individual’s employment with a member firm, including new offerings of unregistered securities. Transactions among immediate family members, transactions for which no associated person receives any selling compensation, and personal transactions in investment companies and variable annuity securities are excluded. Selling compensation is any compensation that is directly or indirectly received as a result of the purchase or sale of a security. Finder’s fees, securities or rights to acquire securities, rights of participation in profits, tax benefits, and dissolution proceeds all qualify as selling compensation.
FINRA Rule 3280 lays out the requirements pertaining to an associated person’s private securities transactions. First, Rule 3280 asserts that no associated person may participate in a private securities transaction, except in accordance with the requirements of the Rule. Next, it requires that any proposed transaction be described in written detail and submitted to the firm for approval prior to execution. The rep must state whether any compensation has been received or will be received in the future, in connection with the transaction. Should the rep wish to execute a series of related transactions involving no compensation, a single written notice will suffice.
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Regarding transactions with which compensation will be involved, the firm must advise the associated person in writing of whether it approves or disapproves of the proposed transaction. If the transaction is approved by the firm, it must be recorded in the firm’s books and records, and the rep must be supervised by the firm in regard to the transaction. Reps are only allowed to participate in such transactions upon firm approval — they may not participate in disapproved transactions in any way whatsoever.
Upon receiving notice of a transaction involving no compensation, the firm must provide the associated person with a prompt, written acknowledgment of the notice, and it may require the associated person to adhere to specified conditions in connection with their participation. Those conditions are at the firm’s discretion.
Do you have an undisclosed OBA?
In order to safeguard yourself as much as possible from being hit with an OBA or private-securities-related termination, the prudent approach is to notify your firm of any other entity or private-securities transaction with which you are involved. If the nature of the situation changes after notification is provided to and approved by the firm, giving the firm an updated notice is wise, as well.
If you were terminated by your broker-dealer or RIA, or you know that a U4 or U5 termination is imminent, hiring AdvisorLaw now is critical to ensuring that your interests are represented. Employing firms will have serious issues, and be hesitant to hire, advisors with any form of Form U4 or Form U5 termination disclosures other than “voluntary.”
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