A Finra arbitrator has been accused of numerous violations, including fraud, in a landmark lawsuit brought by Alabama aimed at highlighting cracks in Finra’s expungement arbitration system, which brokers use to erase all trace of customer complaints from their record.

In its 750-page motion, the Alabama Securities Commission has accused Finra arbitrator Harvey R. Linder of “fraud, corruption and undue means” in his decision last September to erase five customer complaints from former Merrill Lynch advisor Kent Kirby’s record. Kirby is now an advisor with UBS.

Linder is also accused of misconduct for refusing to allow one of Kirby’s former customers from “presenting documents or testimony to rebut false testimony by Kirby.” The former client, Kenneth Lehmann, won a settlement of $125,000 from Merrill Lynch in 2012 over allegations that Kirby made unsuitable recommendations and trades in collateralized debt obligations.

“This case came to our attention and when we looked at it. We saw that the arbitrator basically kicked the investor out of the hearing,” Alabama Securities Commissioner Joseph Borg told Financial Advisor magazine.

"We’re documenting the problems so when Finra and the SEC are looking for expungement solutions, they can see the issues more clearly,” added Borg, who appointed two leading Public Investor Advocacy Bar Association (PIABA) attorneys as Alabama deputy attorney generals in the case.

Both Finra and arbitrator Linder declined to comment on Alabama’s motion.

This is the second serious legal rebuff of Finra arbitrators to explode into public view this year. On January 25, Judge Belinda Edwards of Superior Court of Fulton County in Georgia found that Wells Fargo and its counsel manipulated the Finra arbitrator selection process. Wells Fargo is appealing that decision and Finra has refuted the accusations.

Borg wants Finra or the SEC to remove expungements from the Finra arbitration system and take it over themselves. He has been on several Finra committees to reform the system over the past decade.

“None of Finra’s proposed fixes, which were shelved by the SEC due to PIABA lobbying last September and resurfaced in a Finra white paper last month, will fix the broken expungment system,” said Jason Doss, one of Alabama’s specially appointed deputy attorney generals.

Finra argued in a white paper that creating a specialized roster of arbitrators will add credibility to arbitrators’ decision of whether customer complaints should be removed from a rep’s records in the Central Registration Depository or CRD. But Doss, who founded PIABA’s foundation, which studies expungements, said brokers and their firms have a long track record of repeatedly hand picking Finra arbitrators who grant expungements.

Linder, for example, is one of the most frequently selected arbitrators in the country and despite the “extraordinary” burden that brokers must overcome to gain expungement, he grants expungement requests almost 100% of the time, Doss and his co-counsel, former SEC Branch Chief Lisa Braganca, argued on behalf of the Alabama Securities Commission in the motion.

A PIABA review found the broker practice of using expungement arbitration to erase all evidence of their wrongdoing has exploded by more than 1,000% since 2019. The trade group for investor attorneys argued expungement requests are “rubber-stamped” by arbitration panels 90% of the time.

“Expungements have become a cottage industry and we want to help Finra understand what we’re seeing in the trenches,” Borg said.

While arbitrator selection is supposed to be random, Linder was chosen in 25 out of his 36 expungement cases (69%) by just two law firms—Bressler Amery and Advisor Law, which specialize in expungements—Alabama argued. Linder also granted the expungement of multiple customer complaints in single arbitrations and in one such case erased 29 complaints against one broker, the complaint says.

Alabama also said in its motion that the top three Finra arbitrators in the country, who were selected by law firms representing reps seeking to erase customer complaints, “recommend expungement in almost every case.”

But the issues that tip the scale in brokers favor don’t stop there, Alabama argued. Because of the explosion in “straight-in” arbitrations, which allow brokers to name their current or former broker-dealer as a respondent rather than naming the customers who complaints they seek to erase, customers may never get notice of the proceeding or get the chance to testify. As it is, the PIABA found that customers whose complaints are the subject of expungement requests participate and object to brokers’ expungement requests just 13% of the time.

Doss and Braganca have made it a point to find and represent customers in eight expungement arbitrations in the past two years, successfully blocking six of the broker’s claims. “We get a chilly reception when we show up,” Doss said.

Broker-dealers, too, rarely object to expungements since they erase customer complaints referencing their firm, Doss said. The PIABA found that in 1,078 arbitrations filed by brokers against their brokerage firms as straight-in expungement cases between January 2015 and July 2019, brokerage firms objected just 23 times. 

Without an opposing party, arbitrators have almost no choice but to affirm expungements, especially with regard to customer settlements which are typically private and therefore provide no evidence, Borg said.

That leaves federal and state regulators with no customer complaint records to review when brokers and advisors seek to register, Alabama’s top securities cop added.

To correct the lack of opposition, the PIABA is lobbying Finra and the SEC to create an investor advocate. “We’re suggesting in the short-term that there should be an investor advocate, whose job is to find and talk to the customer or, if he’s died, find the lawyer who represented the customer, collect the facts and present it during expungement hearings,” Braganca said.