Surging penalties for pre-signed forms contested for first time

For the first time, financial advisors have contested the rising penalties in cases of pre-signed and altered forms, which could help other advisors who face sanctions for forms violations.

Penalties began increasing in 2016 for pre-signed and altered forms following a fall 2015 bulletin from the Mutual Fund Dealers Association of Canada (MFDA) that said the regulator would seek harsher sanctions for the infraction. In recent years, penalties of $25,000 or more have been common.

“Advisors have very little leverage when it comes to negotiating a penalty with the MFDA, or CIRO [Canadian Investment Regulatory Organization] now,” said Zachary Pringle, a litigator with Babin Bessner Spry LLP in Toronto, in reference to forms violations. “It doesn’t make sense from a cost-benefit perspective to fight [the regulator] … the legal costs will most assuredly be greater than the potential savings an advisor might have in contesting the penalty.”

As advisors have settled with regulators in these cases, “the MFDA has effectively had unfettered discretion to arbitrarily increase the penalties,” Pringle said.

He wants advisors to understand that a penalty in a settlement and a penalty in a contested hearing can differ. When a hearing panel accepts a settlement with an advisor, the panel is agreeing that the sanction suggested by regulatory staff falls within a reasonable range. In contrast, at a contested penalty hearing, the panel decides “what the appropriate penalty is based on the facts before them,” Pringle said, such as number of forms infractions, time period, and whether there is evidence of client harm. (Typically, no quantifiable client harm results from pre-signed forms.)

The potential difference between the two penalty outcomes was apparent in three forms cases Pringle contested last year, for which CIRO recently published its reasons (in December, February and also February). The table below shows the penalty decisions compared to the penalties originally suggested by regulatory staff.

Penalty decisions in cases of contested penalties for forms violations

Case details (number of forms, time period)	Penalty suggested by regulatory staff	Penalty suggested by counsel for defendant	Penalty decision
33 altered/pre-signed forms, 2016 to 2020	$23,000 plus costs	$10,000 to $13,000	$18,500
87 altered/pre-signed forms, 2015 to 2021	At least $35,000 plus costs	$22,500	$28,000
54 altered/pre-signed forms, 2017 to 2020	At least $30,000 plus costs	$20,000	$22,500

“What these three decisions do now is give advisors numbers to anchor settlements on for future [similar] cases,” Pringle said.

CIRO confirmed this. In an emailed statement, a spokesperson said regulatory staff’s approach to sanctions is informed by “prior relevant cases, which also guide hearing panels in determining appropriate penalties.”

“Financial advisors can expect that penalties in contested cases will serve as benchmarks for future settlements, as long as the facts are similar,” the statement said.

When regulators settle with an advisor on a penalty informed by the contested cases, the advisor “should get a bit of a discount on that penalty,” Pringle said. “That’s the purpose of settlement — it’s to avoid a hearing; it’s to avoid costs.”

When CIRO was asked more generally how it would approach forms infractions going forward given the merger of the two self-regulatory organizations, it said it conducts “thorough evaluations of all cases, prioritizing cases with serious misconduct and the greatest potential impact to investors and market integrity. Our risk-based approach ensures we focus on cases that most effectively deter future harmful conduct.”

In particular, “we will continue to address serious issues such as pre-signed forms and signature falsification, targeting cases with the most significant harm and potential for deterrence.”

Deterrence: Are we there yet?

Deterrence, and whether it’s been achieved, was discussed in the contested cases.

Some hearing panels have endorsed higher fines to achieve deterrence, citing the persistence of pre-signed and altered forms. But MFDA staff haven’t yet presented evidence showing whether deterrence is being achieved, Pringle said — a point he made in the first contested case.

“There is some authority for the idea that when a prosecutor is seeking to extend ranges in the name of enhanced general deterrence, it should provide some evidence,” the hearing panel responded. “The lack of this evidence influenced the panel’s decision not to order a fine as high as [regulatory] staff requested.”

For the other two cases, Pringle compiled data from regulatory enforcement reports (see table below) and presented it to the hearing panels.

Increased sanctions from 2016 to 2019 had a “drastic” effect on the overall rate of pre-signed form cases opened between 2020 and 2022, Pringle said. Without having assessed the stats, “a hearing panel in 2022 will not necessarily know that in 2020 there’s a significant decrease in the amount of forms files that were opened,” he said.

He added that deterrence always lags increased sanctions because enforcement cases opened in a given year often involve misconduct from earlier years.

Cases opened by the MFDA 2012–2022 with primary allegation of pre-signed or altered forms

	’12	’13	’14	’15	’16	’17	’18	’19	’20	’21	’22
Total pre-signed	75	54	46	75	103	94	70	94	22	32	12
% of total cases opened	16%	13%	11%	17%	23%	19%	16%	21%	5%	8%	3%
Total altered forms	44	36	54	46	10	21	11	12	6	7	12
% of total cases opened	9%	8%	13%	10%	2%	5%	2%	3%	1%	2%	3%
Total contraventions	474	426	418	444	446	469	458	453	461	414	378
% of total, pre-signed and altered	25%	21%	24%	27%	25%	24%	18%	24%	6%	10%	6%

Enforcement staff said, however, that the pandemic may explain why the regulator opened fewer investigations in 2020 and beyond.

“[M]ember audits did not function as before during the pandemic,” the hearing panel said in the later of the February decisions. “As a result, the degree to which increases in penalties after 2016 have affected greater general deterrence and reduced form violations is somewhat obscure.”

Regulatory staff also said if rising penalties have had some deterrent effect, “it is no time to stop using them.”

Still, “the total number of contravention files did not fall off at the same rate as pre-signed and altered forms files,” the hearing panel said in the earlier February decision. And it suggested that a sanctions decision aimed at deterrence should be informed by evidence.

“It may be that in the future if [regulatory] staff wishes to seek a significant change in the range of penalties awarded for certain conduct, documentation indicating the persistence or growth of such conduct could be introduced,” the hearing panel said.

At the same time, that documentation “would have to be balanced against the knowledge of industry experts on the panel and their particular experience of what is happening in the securities industry,” it said.

To that point, the later decision said: “Members of this panel have expressed continued frustration that such misconduct in relation to altered and pre-signed forms is still occurring.”

But again, the hearing panel noted that enforcement figures show forms violations shrinking as a percentage of cases opened. As a result, the panel said it would use its judgment to decide on an appropriate penalty, the later decision said.

Emerging stats on deterrence will be important to watch. CIRO’s latest enforcement report, released last October, shows the number of completed proceedings involving pre-signed forms at mutual fund dealers have fallen steadily in recent years, from 46 in 2019 to 18 last year.

Tip: Passed a previous audit? Don’t rest easy

In deciding cases of pre-signed and altered forms, regulators consider several factors.

In the three cases he argued, lawyer Zachary Pringle said one factor the hearing panel considered was how long the misconduct continued. That’s worth noting, because forms infractions can occur over many years if firms fail to identify them in initial audits only to flag them at a later audit. “It’s a bit of a snowballing effect,” Pringle said, and the regulator will say “the impetus is on the advisor to know what the rules are.”