Merrill Lynch Faces Penalties Related to the use of Leverage Loans in Brokerage Accounts

This January, the Financial Industry Regulatory Authority (FINRA), fined Merrill Lynch $7 million for improperly supervising customers’ use of leverage in their brokerage accounts. The clients had been sold loan management accounts (LMAs), which are lines of credit that allowed the customers to borrow money by using their brokerage accounts as collateral. This is similar to the use of margin in a brokerage account. Unfortunately, many clients used the proceeds from LMA accounts to purchase more securities, and ended up losing large amounts of money in the process.

A securities backed line of credit (SBLOC) allows investors to borrow money against their brokerage investments without having to first liquidate them. These products have often been aggressively marketed to investors as a way to alleviate temporary cash-flow concerns without disrupting a client’s long-term investment strategies. And while it’s true that these lines of credit can be a fast and easy way to get liquid funds, they’re not without significant risks.

For example, if the value of the investment funds in your account decreases quickly, you may be forced to come up with extra money to prevent your securities being sold to pay back the loan. Also, it’s essential to remember that SBLOCs are “demand loans,” meaning that the lending institution can demand the full amount of the loan back at any time.

In Merrill Lynch’s case, employees from the firm took monetary proceeds from LMA loans and used that money to buy more securities for clients – something that, in most cases, the loan agreement prohibited. In using these funds to purchase other securities, especially risky ones with potential liquidity problems, FINRA found that Merrill Lynch employees had been inadequately supervised by the firm, which, according to FINRA, lacked systems and procedures to prevent and detect these actions.

If, after careful consideration of your options, you’ve decided that it’s best for you to take out a SBLOC, the SEC says that it’s essential to do your research before committing to anything and recommends specific steps: First, it’s important to understand who you’re actually borrowing from; is it your brokerage firm, a clearing firm, a bank affiliate, or another firm entirely?

While your brokerage firm may have a great reputation, they may not always vet their financial partners thoroughly – so if your lender is a third party, it’s your responsibility to determine if they’re a credible financial firm. To do this, you may want to look at any online reviews, news websites, as well as the FINRA and SEC websites. These sites can help you make sure the company you’re using isn’t currently involved in any recent actions, judgements, or settlements that could indicate bad customer service or unethical business practices.

After identifying the firm that’s actually providing the loan, the SEC encourages potential borrowers to read the entire loan agreement in detail. You may want to share the documents with trusted lawyers, accountants, or friends with financial experience to make sure there aren’t any major loopholes or surprises that could seriously affect you down the line.

Finally, the SEC tells customers to take a look at how your broker is paid in regard to recommending a specific loan product. In many cases, the broker may not be legally or professionally obligated to suggest the product that is best for you – rather simply one that is suitable. So, it pays to do your own research.

If you’ve lost money due to taking out a loan management account or another leverage-based loan at Merrill Lynch or another firm, especially one whose employees reinvested the loan proceeds into securities unsuitable for your financial goals, you may be able to recover some or all of your losses. To see if a firm you’ve invested in has been charged by the FINRA, visit the FINRA Newsroom today.

The attorneys at Silver Law Group are leaders in the field of securities arbitration. We represent individual and institutional investors across the United States who have lost money at the hands of a trusted financial advisor. Our services are provided on a contingency-fee basis, which means we are only compensated if there is a recovery of losses. Contact us for a complimentary consultation about your situation.