On April 24, 2014, Charles Schwab & Co., the financial services brokerage firm, agreed to pay $500,000 in fines and acknowledged a ruling by the Financial Industry Regulatory Authority (“FINRA”) Board of Governors, which concluded that Charles Schwab had violated FINRA rules by including a class action waiver clause in its customer agreement. See FINRA Decision, Department of Enforcement v. Charles Schwab & Co., Complaint No. 2011029760201 (April 24, 2014) (available here).
In 2012, FINRA brought an administrative enforcement action against Schwab for violating its rules after Schwab, in October 2011, added a class action waiver to its customer account agreements. Decision, at 1-2. FINRA Rule 2268(d)(3) of the Customer Code prohibits member firms from placing in predispute arbitration agreements “any condition that . . . limits the ability of a party to file any claim in court permitted to be filed in court under the rules of the forums in which a claim may be filed under the agreement.” Additionally, Rule 2268(d)(1) states, “[n]o predispute arbitration agreement shall include any condition that . . . limits or contradicts the rules of any self-regulatory organization”; the waiver limited and contradicted Rule 12204(d), which provides that a FINRA member may not enforce an arbitration agreement against a member of a certified or putative class action until: class certification is denied; the class is decertified; the class member is excluded from the class by the court; or the class member elects not to participate in or withdraws from the class.
Schwab’s attempt to ban customer class actions arose following a $235 million class action settlement that had alleged that it misled thousands of clients about its YieldPlus money-market fund. In February 2013, a FINRA Hearing Panel held that although Schwab had violated FINRA rules by banning class action lawsuits, the Federal Arbitration Act (“FAA”) preempted such rules. Id. at 2. The Hearing Panel had also found that Schwab had violated Rule 2268(d)(1) by preventing arbitrators from consolidating claims in arbitration (contradicting Rule 12312(b), which provides that they have such authority), and that the FAA did not preclude enforcement of those rules governing the powers of arbitrators and the procedures for FINRA arbitration. Id. at 3. For this violation, the Panel ordered Schwab to remove this language, notify all customers, and pay a fine of $500,000. Id.
FINRA appealed the Hearing Panel’s decision to the Board of Governors. The board considered two central questions:
The first is whether . . . FINRA rules preserve for customers the ability to bring or participate in judicial class actions and FINRA arbitrators the ability to consolidate more than one party’s claims in arbitration. The second is whether the . . . FAA, which applies to arbitrations of commercial transactions, applies to NASD and FINRA arbitration rules and preempts enforcement of those rules.
Id. at 2. The Board affirmed the part of the Hearing Panel’s ruling concluding that Schwab had broken FINRA’s rules by inserting the class action waiver. Id. at 28. The Board reversed the Panel’s prior holding that the FINRA rule on this point was preempted, finding that the FAA does not dictate specific arbitration procedures and that FINRA’s procedures do not “act as an obstacle to the FAA’s goals”; thus, FINRA “may enforce” the rules against Schwab. Id.
As part of the settlement, Charles Schwab was required to notify all of its customers that the waiver has been withdrawn and is no longer in effect.