New Technology and Service Options Do Not Trump Law and Regulations

A couple weeks ago I received a letter from Wells Fargo. After mentioning some brokerage account details there were a couple paragraphs of disclosure about $2.5 M in penalties for failing to effectively protect business-related electronic records.  Wells Fargo has been having a rough time lately.  But this situation is just so self-inflicted, and so likely to happen elseware as Financial Services organization’s technology personnel attempt to demonstrate that they can “deliver more for less…” that I thought it might be worth sharing as a cautionary tale.

The disclosures outlined that the bank’s brokerage and independent wealth management businesses paid $1 million and another $1.5 million in fines & penalties because they failed to keep hundreds of millions of electronic documents in a “write once, read many” format — as required by the regulations under which they do business.

Federal securities laws and Financial Industry Regulatory Authority (FINRA) rules require that electronic storage media hosting certain business-related electronic records “preserve the records exclusively in a non-rewriteable and non-erasable format.” This type of storage media has a legacy of being referred to as WORM or “write once, read many” technology that prevents the alteration or destruction of the data they store. The SEC has stated that these requirements are an essential part of the investor protection function because a firm’s books and records are the “primary means of monitoring compliance with applicable securities laws, including anti-fraud provisions and financial responsibility standards.”  Requiring WORM technology is associated with maintaining the integrity of certain financial records.

Over the past decade, the volume of sensitive financial data stored electronically has risen exponentially and there have been increasingly aggressive attempts to hack into electronic data repositories, posing a threat to inadequately protected records, further emphasizing the need to maintain records in WORM format. At the same time, in some financial services organizations “productivity” measures have resulted in large scale, internally-initiated customer fraud, again posing a threat to inadequately protected records.

My letter resulted from a set of FINRA actions announced late last December that imposed fines against 12 firms for a total of $14.4 million “for significant deficiencies relating to the preservation of broker-dealer and customer records in a format that prevents alteration.” In their December 21st press release FINRA said that they “found that at various times, and in most cases for prolonged periods, the firms failed to maintain electronic records in ‘write once, read many,” or WORM, format.”

FINRA reported that each of these 12 firms had technology, procedural and supervisory deficiencies that affected millions, and in some cases, hundreds of millions, of records core to the firms’ brokerage businesses, spanning multiple systems and categories of records. FINRA also announced that three of the firms failed to retain certain broker-dealer records the firms were required to keep under applicable record retention rules.

Brad Bennett, FINRA’s Executive Vice President and Chief of Enforcement, said, “These disciplinary actions are a result of FINRA’s focus on ensuring that firms maintain accurate, complete and adequately protected electronic records. Ensuring the integrity of these records is critical to the investor protection function because they are a primary means by which regulators examine for misconduct in the securities industry.”

FINRA reported 99 related “books and records” cases in 2016, which resulted in $22.5 million in fines. That seems like real money…

Failure to effectively protect these types of regulated electronic records may result in reputational (impacting brand & sales) and financial (fines & penalties) harm. Keep that in mind as vendors and hype-sters attempt to sell us services that persist regulated data. New technology and service options do not supersede or replace established law and regulations underwhich our Financial Services companies operate.

REFERENCES:
“FINRA Fines 12 Firms a Total of $14.4 Million for Failing to Protect Records From Alteration.”
December 21, 2016
http://www.finra.org/newsroom/2016/finra-fines-12-firms-total-144-million-failing-protect-records-alteration

“Annual Eversheds Sutherland Analysis of FINRA Cases Shows Record-Breaking 2016.”
February 28, 2017
https://us.eversheds-sutherland.com/NewsCommentary/Press-Releases/197511/Annual-Eversheds-Sutherland-Analysis-of-FINRA-Cases-Shows-Record-Breaking-2016

“Is Compliance in FINRA’s Crosshairs?”
http://www.napa-net.org/news/technical-competence/regulatory-agencies/is-compliance-in-finras-crosshairs/

SEC Rule 17a-4 & 17a-3 of the Securities Exchange Act of 1934:
“SEC Rule 17a-4 & 17a-3 – Records to be made by and preserved by certain exchange members, brokers and dealers.” (vendor summary)
http://www.17a-4.com/regulations-summary/

“SEC Interpretation: Electronic Storage of Broker-Dealer Records.”
https://www.sec.gov/rules/interp/34-47806.htm

“(17a-3) Records to be Made by Certain Exchange Members, Brokers and Dealers.”
http://www.finra.org/industry/interpretationsfor/sea-rule-17a-3

“(17a-4) Records to be Preserved by Certain Exchange Members, Brokers and Dealers.”
http://www.finra.org/industry/interpretationsfor/sea-rule-17a-4

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