Specific Communications Rules

Investment Company ProductsNew FINRA members must pre-file their retail communications at least 10 business days before first use with the Advertising Regulation Department of FINRA. That applies during their first year of association and applies to all retail communications other than free-writing prospectuses filed with the SEC—those can be filed with FINRA within 10 days but after-the-fact. Also, if a member firm has problems getting their advertising up to regulatory standards, FINRA can require that firm to pre-file all their retail communications or just the types that are causing the problems.

After their first year of registration member firms file most of their retail communications with FINRA, but within 10 days after they have already been used. On the other hand, retail communications concerning certain investments still must be pre-filed. Not only must some of these communications be pre-filed, but also members must wait to see if any changes are demanded by FINRA and must withhold using the communications until they have been approved by the regulators. As the rule states:

At least 10 business days prior to first use or publication (or such shorter period as the Department may allow), a member must file the following retail communications with the Department an withhold them from publication or circulation until any changes specified by the Department have been made.

The communications subject to this heightened requirement are:

Retail communications concerning registered investment companies that include or incorporate performance rankings or performance comparisons of the investment company with other investment companies when the ranking or comparison category is not generally published or is the creation, either directly or indirectly of the investment company, its underwriter or an affiliate. Such filings must include a copy of the data on which the ranking or comparison is based.

The rule defines "registered investment companies" as "including mutual funds, exchange-traded funds, variable insurance products, closed-end funds and unit investment trusts." So, if there is a ranking that did not come from, say, Lipper or Morning star, but, rather, by the fund or its underwriter—FINRA wants to look at that sort of publication, before it goes out.

Specific Retail Communications
Retail communications for investment company securities that contain a ranking or performance comparison used to require members to file a copy of the ranking or comparison used when filing the retail communication with FINRA. The rule was created back when FINRA staff did not have ready access to such rankings or comparisons. Now that such information is readily available online, members simply need to maintain back-up materials supporting what was cited in their retail communications.

FINRA also used to require any retail communication involving bond mutual fund volatility to be filed 10 days prior to first use. Also, any such communication had to be preceded or accompanied by a prospectus when delivered to an investor. Now, FINRA allows these retail communications to be filed within (after) 10 days of first use and has eliminated the prospectus-delivery requirement for these communications.

Members offering and providing investment analysis tools allowing customers to make their own investment decisions used to be required to provide access to the tools to FINRA staff. Now, members simply must provide such access upon FINRA's request. Members also no longer must file report templates and the retail communications themselves with FINRA.

Communications Regarding Variable Contracts
Communications about variable contracts are subject to the FINRA standards for communications generally, as well as a few that are specific to these products. First, a statement to a customer or, say, a full-page advertisement in Forbes magazine must be clear that what is being offered or advertised is a variable annuity or variable life insurance (VLI) policy and not a traditional insurance product.

Liquidity is not available on deferred variable contracts, so if a customer is sold an annuity or variable life policy thinking it makes a good short-term investment that can be liquidated for a good price, that's a problem if it turns out to be a lie. Remember that cashing in or "surrendering" a deferred variable annuity can subject the investor to a 10% penalty tax plus surrender charges/contingent deferred sales charges to the annuity company. If the customer didn't realize that, we're looking at securities fraud.

There are "guarantees" offered in variable contracts, but these guarantees are subject to the insurance company's ability to pay claims. That needs to be made clear to investors, and it needs to be made clear that "backed up by the insurance company" and "you can't lose money" are not the same thing.

Even though variable life insurance ties cash value and death benefit values to the ups and downs of the investment markets, it must be presented primarily as a life insurance product as opposed to a security. If the regulators feel that you're selling VLI as a way to invest in the stock and bond market while barely considering the more important insurance protections, you could have problems. To that end, don't compare VLI to mutual funds, stocks or bonds; compare it to other types of insurance, including term, whole life, or variable universal life (VUL) insurance.

Unlike with a mutual fund —where you never even imply what future results might be—when selling insurance, illustrations are routinely used. Chances are an agent will show illustrations of a whole life insurance policy compared to a VLI and perhaps a VUL policy. The illustrations are not guarantees, and the insurance company must be careful how they present this information. They can show a hypothetical illustration as high as a "gross rate" of 12%, provided they also show how things would work out with a "gross rate" of 0%. Whatever the maximum rate used, it must be reasonable given recent market conditions and the available investment options. Since mortality and expense charges reduce returns, illustrations must be figured using the maximum charges. Current charges may also be included.

Websites and Broker Check
FINRA requires member firms to include a prominent reference to FINRAs Broker-Check and a hyperlink to it on the initial web page intended to be viewed by retail investors, as well as on any page containing a professional profile of any registered person conducting business with retail investors. Clearly, FINRA wants to encourage investors to check out their registered representatives both before and after they start investing through them. A few minutes with Broker Check will confirm—or not—whether the individual is licensed and with which firm, as well as any disciplinary reports or arbitration awards of $15,000 or more paid out to disgruntled customers.

Public Appearances
Registered representatives frequently attract customers by holding seminars, or speaking to a local chamber of commerce, for example. This activity is called a public appearance. Member firms must establish written supervisory procedures to appropriately handle public appearances through education and training, documentation, and surveillance. Evidence that the firm has implemented such procedures must be maintained and made available to FINRA staff upon request.

If the agent uses PowerPoint slides or gives attendees a handout or DVD, these communications are subject to principal review and approval according to the rules on retail communications and correspondence.

Agents who make securities recommendations through public appearances must have a reasonable basis to believe the recommendation is suitable. And, if the agent has a conflict of interest such as receiving compensation from sales of the security, these must be clearly disclosed.

Independently Prepared Reprint
Broker-dealers and agents are not allowed to write or commission a favorable publication about the firm and then pass it off as positive press. They are also not allowed to hire English majors to churn out favorable press through fake magazines and web-sites like a propaganda machine.

On the other hand, if the firm or an agent wants to use a reprint of an article published by an unaffiliated third party, such activity is allowed subject to FINRA rules. For example, if Forbes or Bloomberg publish a favorable article about the broker-dealer, the firm can distribute this independently prepared reprint. They may not alter the article other than to correct facts or to make it confirm to FINRA rules. And, the publisher must be an independent third party.

Recordkeeping and Filing Requirements
Member firms must maintain a separate file containing retail communications and independently prepared reprints. The file must include the names of the persons who prepared and approved the communication's first use and must be maintained for 3 years from the date of its last use.

Members must also maintain records of its registered representatives' correspondence. A file showing the persons who prepared and approved the correspondence must be maintained for 3 years. Firms typically have all emails route to a central mailbox, where they can be reviewed and archived.

During its first year of operation, a FINRA member pre-files retail communications 10 business days before first use. After that, assuming the firm does not have problems getting their communications in compliance, the firm files such communications within 10 business days after first use. We explored some communications that are always subject to pre-filing, as well. And, a firm with a history of misleading communications may be required to pre-file with FINRA for a stated time or indefinitely.

FINRA may send a written request for records concerning retail communications over a stated time. Members must comply with such spot checks within the required time frame.