Are Brokerage Contracts Headed For a Huge Change?

Mandatory arbitration clauses in brokerage contracts could soon be a thing of the past. Lawmakers are calling on the Securities and Exchange Commission (SEC) to exercise its authority under the Dodd-Frank Act to ban what they call the “abuse of forced arbitration contracts.”

As Senator Al Franken (D-Minn) and his colleagues noted in their letter to SEC Chair Mary Jo White, “The Dodd-Frank Act was enacted, among other reasons, to protect American consumers from abusive financial services practices.  Section 921 reflects Congress’s concern over the increasingly widespread use of mandatory arbitration agreements in customer and client contracts, and grants the Commission authority to restrict or prohibit the use of these provisions.”  The SEC, however, has yet to take such action.

Mandatory arbitration clauses have been a hot topic since the Financial Industry Regulatory Authority (FINRA) challenged the class action waiver included in Charles Schwab’s customer agreements. FINRA’s Enforcement Department had charged Schwab with violating FINRA rules concerning language or conditions that firms may place in customer agreements when Schwab amended its customer account agreement to include a provision requiring customers to waive their rights to bring or participate in class actions against the firm.

However, a FINRA hearing panel recently held that FINRA could not enforce its class action rules prohibiting waivers in light of the U.S. Supreme Court’s interpretation of preemption under the Federal Arbitration Act (FAA) in AT&T Mobility v. Concepcion. As noted in the decision, “The amended language used in Schwab’s customer agreements to prohibit participation in judicial class actions does violate FINRA rules, but that FINRA may not enforce those rules because they are in conflict with the Federal Arbitration Act (FAA).”

The lawmakers cite the Schwab decision as further evidence that swift action by the SEC is needed to protect investors.  “If arbitration offers investors an efficient forum to resolve disputes, as some argue, investors may choose that option—but they should be given the choice.  It is equally important that investors not be precluded from bringing class actions because of contractual fine print imposed by a mandatory waiver class action clause.”

While the SEC has not yet indicated what action it will take, if any, several SEC commissioners have spoken out on the issue. “A client’s right to bring private actions under the Exchange Act is meaningful, and the client should not be required to waive — prematurely — their legal rights, including their rights to bring an action in federal or state court,” Luis A. Aguilar stated.

If you have any questions the use of mandatory arbitration provisions in brokerage contracts or other agreements, please contact me or the Scarinci Hollenbeck attorney with whom you work.