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Morton Bruce Erenstein, Exchange Act Rel. 56768, November 8, 2007

NASD appeal, failure to cooperate
Time between appeal and decision - 9 months, 30 days.
Time between last brief and decision - 6 months, 21 days.
Pages - 17


Respondent, a registered representative appealed NASD sanctions.  The NASD found that he had failed to answer a question about his tax returns during testimony before the NASD staff and failed to timely respond to a written request for information from the NASD.  He was suspended from association for one year.

The NASD inquiry was based on a customer complaint that claimed Erenstein had, among other things, made unsuitable recommendations to a customer, and converted a customer's funds.  After his counsel responded to a request for a written response to the complaint, respondent then provided testimony to NASD staff.  He claimed that that the purportedly converted funds was compensation paid by the customer for assistance in liquidating certain securities.  He claimed he had orally informed his firm of this arrangement, but admitted he did not obtain written approval from his firm for this outside activity.  During his testimony he refused to answer a question from NASD staff about whether he reported the $10,000 he claimed was income on his tax returns. He claimed he had no documents that would verify that he had done specific work for the customer to earn the purported fee as opposed to converting the funds.  NASD staff then asked him to provide copies of his tax returns.  He refused to do so.  Respondent's counsel argued that the tax information was not relevant or that it was subject to a "heightened " standard of relevance.

About 7 months later, after receiving a Wells notice concerning possible disciplinary charges, respondent submitted the tax returns "under protest."  The $10,000 was not included in his initial tax return for the year in question, but was included in an amendment filed 5 years later. 

After proceedings were filed by the NASD, respondent filed for bankruptcy.  A discharge was entered by the bankruptcy court and the NASD staff determined not to seek monetary penalties against respondent.  

The NASD hearing panel imposed a bar.  On appeal the NASD reduced the sanction to a one year suspension, noting that respondent had eventually produced the tax return information sought by NASD staff.

The Commission found that there was no dispute concerning the facts that established the violations.  

The Commission also found that there is no obligation for the NASD to explain why it sought the information being sought as the rule speaks of "any matter involved in" an investigation.  The Commission cited various long standing precedent and noted that it is well established that an associated person may not "second guess" an NASD information request or "set conditions on their compliance."  A belief that the NASD does not need the information is no excuse for failure to provide it.  Thus, the NASD is not required to establish the relevancy of the request.  However, the Commission found the information requested here to be relevant, noting that omission of the money from his tax returns could support an inference that he had converted the funds and reporting the income would support an inference he did not.

Respondent's argued that because he acted on the advice of counsel, a sanction based on that advice denied him his right to counsel.  He also argued that tax returns are confidential and that "discovery" is permitted only with a heightened showing of relevancy.  The Commission distinguished the cases cited by respondent concerning limits on NASD inquiry.  It noted that the Quattrone case involved only the issue of whether there was a genuine issue of material fact concerning whether the NASD complied with its own rules, and therefore summary disposition was inappropriate.  The Ochanpaugh case is not relevant because it dealt with the issue of whether the information sought by the NASD constituted  books of an associated person.  Here there was no question but that the tax returns were respondent's and in his possession.  

Also, the Commission rejected the argument about confidentiality of tax returns, noting that the courts permit such discovery where the taxpayer has made an issue of his income or where they are relevant and the information is not easily obtainable from another source. The Commission found that the cases cited by respondent do not support his claim that tax returns are subject to a heightened relevancy standard.  Here, respondent made his income an issue by claiming the money he had received was income he earned due to services he provided his customer.

Finally, the Commission dismissed the reliance on counsel argument by noting that reliance on counsel is immaterial to a person's obligation to supply information to the NASD.  Further, the NASD in imposing a sanction, took into account that respondent had relied on counsel's advice.

Respondent raised a number of procedural objections, including to the length of time the NASD took to consider the matter.  These were all rejected by the Commission.  It noted that the decision it reviews is that of the NASD on appeal, not the hearing panel decision.

Last, the Commission rejected respondent's claim a that the sanction was excessive.  It noted the crucial nature of the NASD cooperation rule because the NASD lacks subpoena authority to conduct investigations. The NASD guidelines provide for a two year suspension where there is mitigation.  Here, the one year suspension struck the appropriate balance according to the Commission.  The Commission also found that general deterrence is an appropriate goal in sanctioning, but that it is not sufficient by itself, as a justification for a suspension.  

In dealing with the tax returns, the Commission did not distinguish a NASD investigation from discovery in a civil matter and arguendo assumed the relevancy of the concept, finding on the facts that respondent had made an issue of his income.  It could have quashed this line of argument permanently by simply noting that the ability of NASD (or its own staff) to investigate a matter is simply not governed by the standards that may apply to discovery in a civil matter.  See, for example, SEC v. Isbrandtsen, 245 F.Supp 518 (S.D.N.Y., 1965) ( SEC entitled to make persistent and thororough inquiry).

The Commission has again provided an extensive discussion of why it believed the sanction appropriate in this case. 

Again, my long standing query --- why did it take 9 months to issue this decision?  The matter was routine and raised no difficult legal or factual issues.