FINRA penalized 15 broker-dealers a total of $3.7 million for sales of GPB Capital Holdings private placements dating back to the spring of 2018. Private placements have become an area of focus for FINRA recently and were highlighted at FINRA’s 2023 Annual Conference.
FINRA Filing Requirements for Private Placement Offerings
The term “private placement” means a non-public offering of securities conducted in reliance on an available exemption from registration under the Securities Act. FINRA reviews private placement offering filings from member firms in accordance with FINRA Rules 5122 and 5123. 5122 Filings are required for proprietary or affiliated offerings at or before the first offering of the securities. 5123 Filings for non-proprietary offerings are required within 15 days of the first sale. FINRA approval of these filings is not required, and these filings are considered to be notice filings. Exemptions for some of the filing requirements exist for offerings with investors such as Qualified Institutional Buyers as defined in Rule 4512(c) or Qualified Purchasers, as defined in Section 2(a)(51)(A) of the Investment Company Act. Sales materials and retail communications used for private placement offerings are also required to be filed with FINRA.
FINRA’s Private Placement Filing and Review program reviews approximately 15% of offering filings, which are prioritized by risk. The member firm risk profile, the size of the offering, and the type of the offering are considered. FINRA is focused on making sure that firms make a reasonable investigation into a private placement that they recommend to retail investors.
Broker-Dealer Due Diligence Obligations
Panelists at FINRA’s 2023 Annual Conference emphasized that member firms are responsible for due diligence on the private placements, and it should be documented. The recommendations for clients to invest in private placements must be suitable and in compliance with Regulation Best Interest and FINRA Rule 2111. FINRA recently released Regulatory Notice 23-08 which details Regulation Best Interest considerations related to recommendations of private placements.
What to Expect from FINRA Examinations
The FINRA Examinations team will review private placements after they have taken place. The team determines which offerings to review based on defaults, litigation or complaints, size of offerings and input from FINRA’s Private Placement & Risk Management groups.
The Examinations team will review
- filings;
- general supervision of the private placement process;
- due diligence on the offering;
- completeness of the disclosures;
- Reg BI considerations; and,
- conflicts of interest.
Information from the initial filings, the Risk Monitoring group’s observations, and the Exams group’s findings are shared at FINRA to create a larger picture of the offering and to detect and prevent potential risk issues with private placements as early as possible.
What Your Firm Should Be Doing Now
Member firms and their associated persons have many obligations that they must comply with when offering private placements. FINRA recently published Regulatory Notice 23-08 which reminds members of their obligations when selling private placements (i.e., unregistered offerings sold pursuant to the Regulation D safe harbors under Sections 3 and 4 of the Securities Act of 1933 (Securities Act) outlining the regulator’s expectations of private placement business regarding:
- Reg BI considerations;
- FINRA Rule 2111 applications;
- reasonable investigation processes;
- red flags;
- Rule 2110;
- communications with the public; and
- Supervision (Rule 3110).
Firms should review this notice, SEC private placement and Reg BI notices, as well as recent regulatory findings related to private placement violations. These are valuable resources for reviewing and improving your firm’s private placement compliance program.
Oyster Consulting’s experts stay current with regulatory and compliance issues and are ready to help you navigate the challenges that your firm faces. Our consultants have the regulatory and compliance experience you need to review your firm’s policies, procedures and controls testing around Reg BI, red flags, communications with the public, and supervision of private placement business.
Modernizing your compliance program may be the first step you need to successfully and efficiently manage new or complex rules. Oyster Solutions compliance management software is the tool you need to stay on top of complex regulatory requirements like Reg BI. The Oyster Solutions Fund Analyzer module provides documentation of compliance with FINRA’s Regulation Best Interest (Reg BI).
