Proposal on Distributing Funds Disgorged and Collected through New SRO Disciplinary Proceedings to Harmed Investors

23-0010
Type: Rules Bulletin >
Request for Comments
Distribute internally to
Legal and Compliance
Operations
Regulatory Accounting
Research
Retail
Senior Management

Contact

Executive Summary

Currently, harmed investors cannot receive a payment from the New Self-Regulatory Organization of Canada (New SRO)1  related to their losses even if disgorgement was ordered in disciplinary proceedings against their investment firm or investment advisor who breached the regulatory requirements. While disgorgement orders are not imposed for the purpose of compensating investors, the funds received under these orders could be distributed to investors to offset some of the losses they incurred as a result of the conduct giving rise to the order.

Between April 2009 and December 2022, in 77 enforcement cases, IIROC hearing panels ordered $7.9 million in disgorgement, of which IIROC collected over $1 million.

MFDA hearing panels also ordered disgorgement, which was included in the global monetary sanction imposed on the respondents and collected through the MFDA enforcement proceedings.

In 2022, an internal working group (Working Group) reviewed regulatory models that exist in various jurisdictions for providing payments to harmed investors from disgorged funds and prepared a proposal on how the disgorged funds collected through disciplinary proceedings could be paid to harmed investors in the New SRO context.

New SRO does not have the ability to order compensation or restitution. As a regulator, the focus of New SRO is compliance with and enforcement of high industry standards and regulatory requirements.  There are several dispute resolution and compensation options available to investors in Canada: complaints to their firms, which may result in private settlement and, where unsuccessful, may be escalated to the Ombudsman for Banking Services and Investments (OBSI), or may proceed to arbitration or civil court. As such, rather than creating a standalone restitution program, the Working Group has recommended that New SRO build on its current enforcement processes, which already include disgorgement and collection of the funds through disciplinary proceedings to provide a mechanism for the distribution of these funds to harmed investors.

New SRO publishes the proposal for comments and welcomes feedback from all stakeholders.

How to Submit Comments

Comments should be submitted in writing by May 1, 2023 and delivered to:

General Counsel’s Office
New Self-Regulatory Organization of Canada
[email protected]

Commentators should be aware that a copy of their comment letter will be made publicly available online at www.iiroc.ca.

  • 1Prior to January 1, 2023, Investment Industry Organization of Canada (IIROC) and the Mutual Fund Dealers Association of Canada (MFDA).
  1. Ill-gotten Gains May be Disgorged through New SRO Enforcement Proceedings

    Monetary sanctions in disciplinary proceedings typically include fines and disgorgement. Examples of disgorgement are ill-gotten profits, fees or commissions charged by a financial advisor or a firm that the clients should not have paid. The idea behind disgorgement is that wrongdoers should not benefit financially from their misconduct. Disgorgement aims to ensure that respondents, who are found to be liable for breaching regulatory requirements, do not keep any funds they had obtained, directly or indirectly, or benefit from losses avoided as a result of the contravention.
  2. Disgorgement May Not Provide Full Compensation to Harmed Investors

    Disgorgement is not the same as restitution. Restitution is a remedy that aims to compensate an aggrieved investor for all their losses. Disgorgement, on the other hand, is a remedy that is aimed at depriving a wrongdoer of the benefits of their misconduct and is not intended to compensate individual investors. Amounts ordered and collected through disgorgement therefore would not generally be of the same order of magnitude as restitution and may not be enough to provide full compensation to harmed investors.

    Even if a disgorgement order is made in disciplinary proceedings, and the funds are collected and distributed, investors may need to pursue other compensation options (e.g., a complaint through OBSI, arbitration or court) to obtain full recovery of their losses.

    Conversely, amounts collected and distributed through disgorgement could at least offset some investor losses, even if not fully compensatory, in cases where recovery is uncertain and may take years to pursue.  
  3. Disgorged Funds May Not be Available to all Affected Investors

    The Working Group identified that it would be a challenge to determine which investors would be eligible to participate in the distribution of the disgorged funds. Having considered different options, the Working Group recommended that the class of eligible investors be limited to those who suffered direct financial losses because of the contravention giving rise to the disgorgement. As such, a class of potential eligible investors could be identified early at the investigation and prosecution stages.

    Investors would not be prevented from bringing civil claims in court or seeking compensation through other avenues (e.g., private settlement, OBSI, arbitration) for losses arising from the same conduct outside of the proposed program.
  4. Disgorged Funds can Only be Distributed to Investors if Successfully Collected

    One important feature of the proposed program is that it would be premised on collection of the funds by New SRO. The Working Group recognized that investors may have difficulties collecting the money even if there is an outstanding order to pay. The proposal therefore posits that, instead of ordering direct compensation to harmed investors, New SRO should collect on disgorgement orders from the respondents and, when the funds are received, distribute them to harmed investors.
  5. Limits on the Use of the New SRO Restricted Fund

    Currently, amounts collected as disgorgement in a New SRO disciplinary proceeding go into the New SRO Restricted Fund, along with other amounts collected from enforcement proceedings such as fines and settlements. The New SRO Restricted Fund is reserved for limited purposes enumerated in the New SRO Recognition Orders, which do not include payments to harmed investors. Therefore, to make such payments, New SRO would need to seek approvals from the Governance Committee of its Board of Directors and the Canadian Securities Administrators to extend the uses of the Restricted Fund.
  6. Separation between Enforcement Prosecution and Distribution of Funds to Harmed Investors

    The primary goals of New SRO’s disciplinary proceedings are: to determine whether there has been a breach of regulatory requirements, to ensure compliance with and enforcement of those requirements, and to maintain high industry standards.

    To maintain the integrity and focus of New SRO enforcement processes, the Working Group recommended that these processes be kept apart from the administration of the proposed program and distribution of the disgorged funds. A program administrator, separate from the New SRO Enforcement function, would therefore be responsible for assessing claims and overseeing the distribution of disgorged funds to harmed investors.
  7. Claim Assessment and Distribution of Funds

    Under the proposed program, after New SRO disciplinary proceedings are concluded and funds are disgorged and collected, a notice would be provided to all known eligible investors, either by direct notice to investors or, in more complex cases involving large amounts or a large group of claimants, a public notice.

    Potential claimants would have to opt-in to participate within an appropriate time, e.g., between 30 and 90 days of the notice, to ensure efficiency and certainty of the process. Claim assessment and distribution of funds would be then carried out by the program administrator.

    If the amount available for distribution is less than the total of eligible claims, the funds would be distributed between the claimants on a pro rata basis. If any portion of the funds remained unclaimed, residual amounts could be used for the other enumerated purposes of the New SRO Restricted Fund.

    To avoid double recovery, investors would be required to declare any recovery obtained elsewhere when seeking a payment from the disgorged funds; and, vice versa, investors would be required to disclose amounts recovered through the program in other proceedings.
  8. Request for Comments and Specific Questions

    New SRO invites all stakeholders to comment on the proposal, which is found in the Appendix.

    Among various elements of the proposed program, we encourage stakeholders to particularly comment on:
    • proposed restraints on claimants’ eligibility, i.e., limiting the program by the parameters of the underlying enforcement action, where claims are readily provable as being connected to the misconduct giving rise to disgorgement;
    • limiting the program to disgorgement only, and difficulties with providing fuller compensation to harmed investors; and
    • potential for investor confusion in terms of their loss recovery options in an already complex dispute resolution and investor compensation landscape.
  9. Appendix

    Proposal on Distributing Funds Disgorged and Collected through New SRO Disciplinary Proceedings to Harmed Investors (pdf)
23-0010
Type: Rules Bulletin >
Request for Comments
Distribute internally to
Legal and Compliance
Operations
Regulatory Accounting
Research
Retail
Senior Management

Contact

Other Notices associated with this Enforcement Proceeding:

02/01/23

23-0010

Proposal on Distributing Funds Disgorged and Collected through New SRO Disciplinary Proceedings to Harmed Investors

Type
Request for Comments