Common Litigation Challenges for Financial Advisors

In the securities law arena, there are more issues than just fraud, misrepresentation, breach of contract, etc. Financial advisors are sometimes involved in the following types of litigation problems and should, therefore, be familiar with the following terms: Promissory Notes, Broker Raiding, Regulatory Compliance, Solicitation, Broker Protocol and Sunset Agreements/Sale of Practice.

If you already have some knowledge of these terms, you are ahead of the game. If you are not familiar, reading this article will give you a good foundation of things you need to know for each one.

Promissory Note

According to Merriam-Webster a Promissory Note is a written promise to pay at a fixed or determinable future time a sum of money to a specified individual or to bearer. A Promissory Note is a tool utilized by major brokerage firms to entice brokers to join with their firm. The Promissory Note is essentially a loan given to the newly acquired broker which is usually forgiven over time if the broker stays loyal to the issuing firm. If the advisor remains with the new firm for the duration of the loan (often 5 or 7 years), the broker does not have to repay the loan. If the broker resigns or is terminated prior to the expiration of the loan, the brokerage firm normally sends a demand letter requesting the broker repay the balance of the promissory note. If the broker refuses to pay, and the financial advisor and brokerage firm are unable to reach a mutually satisfactory settlement agreement, the brokerage firm will often elect to sue the broker for failure to repay promissory note.

Broker Raiding

It is not uncommon for brokers to move from firm to firm for any given reason. You can imagine there will always be a dispute as to whose clients the investors are. Are they the Broker's clients or are they the firmís clients? There are rules and regulations covering such actions. However, things do not always go to plan. Broker Raiding occurs when one firm attempts to recruit a large group, sometimes all, of another firm's financial advisors in a particular branch office - leaving the old firm with no financial advisors in a particular location. If this happens, you can rest assure there will be a lawsuit to follow, since many of the broker left, this could force the firm to close its doors. This can also transpire if a broker is planning on leaving and coerces other financial advisors to leave with them, to the new firm. Again, the losing firm would bring action against the brokers. Such claims are often called broker raiding cases.

Broker Protocol

Prior to 2004, there were countless lawsuits whenever a broker left one Firm for another. The broker would take some of the Firmís clients with them, because essentially, people invest in their brokers not the Firms they work for. To minimize the lawsuits, major Firms like Merrill Lynch, Citigroup, and UBS Financial Services formed an impartial agreement in regard to Broker Recruiting called the ďProtocolĒ. The Protocol, in essence, alleviates the need for non-competes, and non-solicit agreements between broker and firm, and to subdue the cost of litigation. It began with the large Firms, and is now catching on with the smaller ones and the Protocol has a membership of almost 550 Firms now. When a broker or financial advisor leaves a firm for whatever reason, two lists are created. Both lists have the following information- customerís name, addresses, telephone numbers, email addresses and account type. The only difference between the two lists is, one has the account numbers and the other does not. The losing firm keeps the list with account numbers and the broker gets the list without. This gives the broker a chance to call his customers to switch to the brokerís new firm, and equally the losing firm a chance to call and keep the customers with them. However, the Protocol does not eliminate all potential litigation. Litigation associated with one broker moving to a new firm includes pre-resignation, claims for amounts due under promissory notes, claims for training costs, claims for violations of the Protocol, and raiding claims arising form group hires. The goal of the protocol though was to reduce litigation in these situations and generally speaking when the protocol is in place and followed, litigation at least over solicitation of clients can be avoided.


Soliciting is the act of contacting a person and bringing up a request, either to do something or purchase stated items. Brokers do this on a daily basis. Every time a broker calls their clients to invest in a prospective investment, it is defined as solicitation. Solicitation goes hand in hand with a brokerís day to day undertaking. The broker finds investments, does due diligence on these new investments, and then contact his/her clients to have them purchase these investments. Brokers will often solicit their customers/clients when leaving a securities firm, attempting to have their clients follow them to the broker's new firm. In turn, brokerage firms will have as many brokers as possible calling all the clients of the broker they just fired or released, to attempt to keep the customers with the firm. More firm clients, equals more money. It is a cutthroat process. There are rules in place governing what actions are permitted in this regard (and what are not). See above regarding broker protocol for some guidance. But when these rules are violated and an advisor solicits clients improperly, litigation often follows.

Sunset Agreement / Sale of Practice

A sunset agreement is when a senior financial advisor who is about to retire, selects a junior financial advisor, and takes them under their wing. Basically, the senior advisor gives the junior advisor all of their clientele and accounts, with a catch. The junior advisor will pay the senior advisor an agreed upon percentage each year or a lump sum in exchange for the opportunity to retain the clients when the senior advisor retires. This practice is great for the firm because it keeps the current clients/customers with the firm, instead of finding a new firm because their broker retired. This also helps the junior advisors with attaining skills and a huge foot-in-the-door with customers. However, when these deals go south, litigation follows.

The more educated you are the better decisions you, as an investor are going to make.

AUTHOR: Daxton White

Copyright The White Law Group, LLC - Google+
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Disclaimer: While every effort has been made to ensure the accuracy of this publication, it is not intended to provide legal advice as individual situations will differ and should be discussed with an expert and/or lawyer. For specific technical or legal advice on the information provided and related topics, please contact the author.

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