Florida financial reform after Madoff.

• Author: McAuley, James F.

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The Bernard Madoff scandal sent an estimated $50 billion shock wave through the financial markets in late 2008 with national credit markets already near freefall after the Lehman Brothers bankruptcy. Madoff displayed the image of a highly successful investment advisor while creating the largest Ponzi scheme in U.S. history. The Florida Legislature took swift action to improve financial regulations with the passage of House Bill 483 in June 2009. (1) Governor Charlie Crist, the cabinet, and the Florida Legislature recognized and acted upon the immediate need for improving investor protection.

HB 483 amended Ch. 517, the Florida Securities and Investor Protection Act (FSIPA), which is administered by the Office of Financial Regulation (OFR), an agency supervised by the Financial Services Commission. (2) OFR is statutorily tasked with regulating under the FSIPA and bringing action against violators of the FSIPA. (3) Under the FSIPA, the OFR regulates securities offerings, investment advisers, broker-dealers, and their associated persons doing business in Florida. (4)

HB 483 bolstered protection for investors from Madofflike Ponzi schemes by incorporating additional licensing and enforcement authority to the existing regulatory framework. The bill's sponsor, Representative Tom Grady, recognized the importance of updating Florida's laws, saying, "[by] increasing the tools available to the state to prosecute violators of our securities laws, we protect investors and foster needed trust in the system." (5) HB 483 improves existing investor protections in various ways, one of which provides incentives to whistleblowers for original information regarding money laundering. (6) The bill also expands the role of the Office of Statewide Prosecution and the statewide grand jury by adding criminal violations of the Florida Money Laundering Act and the FSIPA to the list of offenses that may be addressed by the statewide grand jury and prosecuted by the Office of Statewide Prosecution. (7) In addition, the bill allows for the OFR to impose an emergency suspension in circumstances when a brokerdealer, investment adviser, associated person, or issuer of securities fails to provide books and records requested by the OFR pursuant to its statutory authority. (8) The amended FSIPA also brings additional state legal resources to bear on violations of securities laws by authorizing the Florida attorney general, with permission from the OFR, to investigate and bring securities fraud charges of either criminal or civil nature for violations of the anti-fraud provisions of the FSIPA. The OFR and the AG each have the ability to seek injunctive relief, obtain restitution for victims, and obtain civil money penalties and attorneys' fees. (9) The legislation also amends F.S.[section] 517.191(6) and clarifies that the OFR may pursue both administrative sanctions and civil actions against any person who violates the FSIPA, but states the person shall not be subject to both civil money penalties and administrative fines for the same acts.

Perhaps the single most comprehensive change enacted through HB 483 is the creation of new licensing and disciplinary guidelines under F.S.[section] 517.1611 (2009). This section of the new law authorizes the Financial Services Commission to adopt, by rule, disciplinary guidelines that "shall specify a range of penalties based upon the severity and repetition of specific offenses." (10) These disciplinary guidelines will be "applicable to each ground for disciplinary action that may be imposed by the office." Thus, HB 483 has mandated that the OFR will establish guidelines for imposition of fines, suspensions, and restrictions of registration for brokers, investment advisers, and associated persons with a record of violations. This new rule and associated matrix takes into account severity and repetition of offenses. (11)

F.S.[section] 517.1611 also mandates that the commission adopt by rule "disqualifying periods" to establish when "an applicant will be disqualified from eligibility for registration." (12) "Disqualified from eligibility for registration" is a new term introduced by the legislature. In as much as the OFR had statutory authority to deny an applicant registration under F.S. [section] 517.161, prior to this new law, the plain language of the new licensing provisions would indicate that upon a determination of disqualification from eligibility, an individual subject to the provisions of the statute and OFR rule will be disqualified from registration by the office during the applicable statutory term. The disqualifying period has been established by the legislature as 15 years for a felony and five years for a misdemeanor. (13) In F.S. [section] 517.1611(2)(b), the legislature specified these disqualifying periods to be based upon "crimes involving moral turpitude or fraudulent or dishonest dealing." The legislature did not define the phrase "moral turpitude" in F.S. [section] 517.1611(2), but instead directed the Financial Services Commission, through the OFR, to promulgate rules, which give specific meaning to "crimes involving moral turpitude." The commission noticed Rule 69W-600.0021, Florida Administrative Code, for development in the Florida Administrative Weekly on August 21, 2009. The rule became final on March 2, 2010. (14)

Rule 69W-600.0021 establishes a list of crimes that OFR has categorized as Class A and B, with Class A including the more serious offenses. Class A crimes (15-year disqualifying period) includes felonies "involving any type of fraud" as well as crimes of moral turpitude, while Class B (five-year disqualifying period) consists of misdemeanor offenses based upon the same statutory standard. The enumerated disqualifying periods may be shortened by certain "mitigating factors" set forth in the rule. Rule 69W-600.0021 is designed to create what can be termed up-front protection for investors, as each seeks to screen out applicants with a criminal history directly involving fraud or moral turpitude. Moral turpitude has been defined by the Florida Supreme Court as associated with "conduct of inherent baseness and depravity in the private social relations or duties owed by man to man or by man to society." (15)

Given the limitations imposed by federal law, as discussed herein, these enactments are designed to prevent licensing individuals with a documented history of fraud or "moral turpitude" and, thus, represent an appropriate legislative response to the fraud perpetrated by Bernard Madoff. However, Madoff is not the only perpetrator preying on the investing public. A recent survey by the North American Securities Administrators Association (NASAA), a state regulatory umbrella group, and AARP revealed that nearly six million Americans ages 55 and up attended a free lunch or dinner seminar in the past three years. (16) AARP data also reveals that over a quarter of invitees (27 percent) have received 10 or more invitations to these free lunch seminars. (17) These "free lunches" are attractive to seniors, not because of the free lunch, but because of the desire for safe investments. Florida's elderly population is especially vulnerable to such seminars that, according to NASAA and other regulatory authorities, often provide a "common setting for fraudsters to engage with their victims." (18) These seminars are also common venues for salesmen to encourage retirement age individuals to invest, often in various unsuitable products, including specific types of annuities. (19)

Suitability Concerns

Suitability is a concept long recognized as a necessary guideline and principle of the securities industry. It has been adopted by the OFR in its rules as well. (20) An in-depth discussion of suitability is beyond the scope of this article, as "suitability" is infused with regulatory and judicial interpretations. By adopting Conduct Rule 2310 (Recommendations to Customers), the OFR endorses the guidelines established by the former NASD. (21) This rule calls upon FINRA members to evaluate customers' needs based upon specific factual information keyed to the financial sophistication and background of individual customers, including their other security holdings, financial situation, and needs. A distinction is drawn between "institutional" customers and "noninstitutional" customers. (22) Application of the conduct rules for suitability will also depend upon whether a "recommendation" has been made by a broker or investment adviser. Suitability is also regulated by the OFR in the context of municipal securities by adoption of guidelines of the Municipal Securities Rulemaking Board (MSRB). (23)

A Synopsis of State Investor Protection

State securities regulators have a long history of providing protection and leadership on issues of real concern to Main Street investors. In fact, state securities regulation predated federal regulation by almost a quarter century. The first regulation by a state occurred in Kansas in 1911, and these regulations became known generically as "blue sky laws." (24) Florida first enacted its securities regulation in 1913.25 Florida's courts also have a long history of jurisprudence supporting state statutes focused on investor protection. (26)

The securities regulations of most states share four elements: 1) they require registration of securities to be offered or sold within the state, unless they fall within specific exemptions from registration; 2) they require registration and licensing of firms and individual brokers that will sell...