Investors often purchase promissory notes because they trust the financial advisor recommending them. When a note defaults, the advisor’s brokerage firm may argue that it never approved the investment or received a commission.
Those facts matter, but they do not necessarily end the inquiry.
Potential brokerage-firm liability may depend on whether the advisor participated in a private securities transaction, whether the firm knew or should have known about the outside activity, and whether it reasonably investigated warning signs.
What Is Selling Away?
“Selling away” generally refers to a financial professional’s participation in a securities transaction outside the regular scope of employment with a brokerage firm.
Under FINRA Rule 3280, an associated person must provide prior written notice to the firm before participating in a private securities transaction. Participation can include:
- Recommending or promoting a promissory note;
- Introducing customers to the issuer;
- Identifying or soliciting investors;
- Attending investor meetings;
- Preparing offering documents;
- Discussing expected returns;
- Facilitating paperwork or fund transfers; and
- Executing documents for the issuer.
Promissory notes marketed as investments are often securities, although the legal analysis depends on the note’s terms and surrounding circumstances.
The Columbia Capital, Jennings, and Pugh Matter
FINRA actions involving former Columbia Capital Securities representatives Josiah D. Jennings (CRD No. 6031164) and William N. Pugh (CRD No. 4855771) illustrate why firm approval and commissions are not the only relevant issues.
According to FINRA’s findings, Jennings and Pugh participated in a private offering involving promissory notes issued by a private equity fund. The offering raised approximately $8 million from 18 accredited investors, nearly all of whom were Columbia Capital customers.
FINRA found that Jennings:
- Participated in preparing offering documents;
- Selected investors for solicitation;
- Attended initial investor meetings;
- Executed promissory notes on behalf of the fund; and
- Did not provide Columbia Capital with prior written notice of the transactions.
FINRA found that Pugh:
- Held an interest in the fund and its general partner;
- Helped identify prospective investors;
- Participated in solicitation meetings;
- Handled follow-up communications;
- Facilitated note purchases and transfers; and
- Did not provide Columbia Capital with prior written notice.
Neither representative received a conventional commission from the note transactions.
Jennings and Pugh each accepted a 10-month suspension and $10,000 fine without admitting or denying FINRA’s findings.
The matter highlights two important points:
- Approval of an outside business does not automatically authorize securities transactions conducted through that business.
- An advisor can participate in a private securities transaction without receiving a commission.
Why Outside-Business Disclosures Matter
Under FINRA Rule 3270, a registered person generally must provide prior written notice before engaging in an outside business activity.
After receiving notice, the brokerage firm must consider whether the activity could:
- Interfere with the advisor’s responsibilities;
- Create conflicts involving customers;
- Be viewed as part of the firm’s business; or
- Involve private securities transactions governed by Rule 3280.
Suppose an advisor discloses that the advisor owns, manages, or consults for an outside company. If that company later raises money from the advisor’s brokerage customers, the original disclosure may become important evidence in evaluating the firm’s supervision.
An outside-business disclosure is therefore a starting point – not the end of the firm’s review.
Why Lack of Firm Approval May Not Be a Complete Defense
A brokerage firm may argue that it cannot be responsible because the promissory note was not an approved product. Lack of approval is relevant, but selling away exists precisely because the transaction occurred outside the firm’s approved platform.
The supervision inquiry may include:
- Was the investor already a customer of the firm?
- Did the advisor use the brokerage relationship to gain the investor’s trust?
- Did the investor liquidate brokerage assets to purchase the note?
- Were funds transferred from an account held through the firm?
- Did the advisor use a firm office, email account, or assistant?
- Had the advisor disclosed a role with the issuer?
- Were multiple firm customers investing in the same outside business?
- Did branch inspections reveal offering materials?
- Did missed payments or complaints create warning signs?
A brokerage firm is not automatically responsible whenever an advisor conceals an outside investment. The question is whether the firm maintained and enforced a reasonable supervisory system and responded appropriately to red flags.
Why Lack of a Commission May Not End the Inquiry
FINRA Rule 3280 applies even when the advisor does not expect to receive selling compensation.
Compensation may also include more than a traditional commission, such as:
- Finder’s fees;
- Ownership interests;
- Securities or options;
- Profit participation;
- Rights to future proceeds;
- Expense reimbursements;
- Tax benefits; or
- Increased value in an affiliated business.
The Jennings and Pugh matters reinforce this point. FINRA found that both representatives participated in the note offering even though neither received a conventional commission.
The Separate Kestra Promissory-Note Complaint
A separate BrokerCheck matter involving former Kestra Investment Services representative John William Spach (CRD No. 2731192) also illustrates the risks associated with outside promissory notes.
The disclosure alleged that Spach introduced a client to an outside investment opportunity. The client reportedly invested $475,000 and received a promissory note that later defaulted.
The investor requested $450,000 in damages, and the matter was reported as settled for $450,000. The disclosure also included allegations that Spach attempted to resolve an oral complaint without the firm’s knowledge or consent.
FINRA later barred Spach after finding that he refused to provide information and documents requested during an investigation. Spach accepted the sanction without admitting or denying FINRA’s findings.
The customer allegations and settlement are not findings that Spach or Kestra was liable. Nevertheless, the matter shows why supervision questions may remain even when a firm characterizes the investment as an outside activity.
Relevant issues may include what the advisor disclosed, what the firm knew, how the investor’s money moved, and whether warning signs required additional investigation.
Red Flags Brokerage Firms May Need to Investigate
No single warning sign necessarily establishes a supervisory failure. Several red flags together, however, may require closer review.
Potential warning signs include:
- An advisor owns or manages an outside company;
- The outside company raises money from the advisor’s customers;
- Customers liquidate brokerage investments before purchasing notes;
- Multiple customers send funds to the same unfamiliar entity;
- The advisor uses personal email for investment communications;
- The notes promise unusually high or guaranteed returns;
- The advisor describes the notes as safe, secured, or insured;
- The advisor receives an ownership interest or indirect benefit;
- Branch inspections reveal outside offering materials;
- Customers report missing interest payments;
- The advisor attempts to settle complaints privately; or
- The advisor’s outside role changes without an updated disclosure.
Potential Claims Against a Brokerage Firm
Depending on the evidence, an investor may have claims involving the following:
Failure to supervise
The firm allegedly failed to establish or enforce procedures reasonably designed to identify outside securities transactions and investigate warning signs.
Negligence
The firm allegedly failed to act reasonably when reviewing outside-business disclosures, account activity, correspondence, branch operations, or customer complaints.
Misrepresentations or omissions
Material information about the issuer, note, collateral, risks, conflicts, or lack of firm approval may have been misstated or withheld.
Unsuitable recommendations
The promissory note may have been inconsistent with the investor’s age, financial condition, experience, risk tolerance, income needs, or need for liquidity.
Regulation Best Interest violations
The advisor may have placed personal financial interests ahead of the retail customer’s interests or failed to consider risks, costs, conflicts, concentration, and reasonable alternatives.
Vicarious liability
Depending on the facts and governing law, an investor may argue that the advisor appeared to act within the brokerage relationship or used the authority and trust created by that relationship.
Brokerage-firm liability is not automatic. Each claim depends on the transaction, the firm’s knowledge, available warning signs, supervisory practices, and applicable law.
Documents Promissory-Note Investors Should Preserve
Investors should gather:
- The promissory note and any amendments;
- Subscription and offering documents;
- Checks and wire confirmations;
- Brokerage and bank statements;
- Records showing asset liquidations;
- Emails, text messages, letters, and voicemails;
- Marketing presentations and financial projections;
- Documents describing guarantees or collateral;
- Interest-payment records;
- Default, maturity, and extension notices;
- Communications with the issuer;
- Notes from meetings with the advisor;
- The advisor’s business card and email signature;
- Tax documents related to the note; and
- Complaints submitted to the advisor or firm.
Investors should also prepare a timeline showing who recommended the note, what was represented, how the money moved, when payments stopped, and what happened after the default.
Questions Investors Should Ask
An investor reviewing a potential selling-away claim should determine:
- Was the promissory note a security?
- Was the advisor associated with a FINRA brokerage firm?
- Was the investor a customer of that firm?
- Did the advisor disclose a role with the issuer?
- Did the firm approve or restrict that outside activity?
- Did the advisor recommend, promote, document, or facilitate the transaction?
- Did funds come from an account held through the firm?
- Did the advisor receive a direct or indirect financial benefit?
- Were there warning signs the firm could have detected?
- What principal, interest, tax, and professional-fee losses resulted?
Do Not Wait Indefinitely for Repayment
Investors sometimes delay investigating their rights because the issuer promises an extension, refinancing, property sale, or repayment plan.
Waiting can be risky. FINRA eligibility rules, statutes of limitation, contractual provisions, and other deadlines may apply. Repeated assurances that repayment is coming do not necessarily pause those deadlines.
How Sonn Law Helps Promissory-Note Investors
Sonn Law Group represents investors in FINRA arbitration claims involving selling away, promissory notes, private placements, unsuitable recommendations, misrepresentations, and failure to supervise.
An investigation may include:
- Determining whether the note was a security;
- Examining the advisor’s relationship with the issuer;
- Reviewing outside-business disclosures;
- Tracing funds from brokerage accounts;
- Identifying direct and indirect compensation;
- Evaluating supervisory red flags;
- Reviewing firm and branch oversight;
- Calculating principal and lost-interest damages; and
- Identifying potentially responsible parties.
Speak With a Selling-Away Attorney
Investors who purchased outside promissory notes through a financial advisor should not assume that recovery is limited to the issuer or individual advisor.
Even when the brokerage firm did not approve the note—and even when the advisor received no conventional commission—the firm’s knowledge, supervision, and response to warning signs may require careful examination.
Sonn Law Group represents investors nationwide in FINRA arbitration claims involving outside promissory notes and selling away. Contact the firm for a confidential evaluation of the transaction and potential recovery options.
Frequently Asked Questions
Is every promissory note a security?
No. The answer depends on the note’s terms and surrounding circumstances. However, many promissory notes marketed as investments are securities.
Can a brokerage firm be liable for a note it never approved?
Potentially. Lack of approval is relevant, but it does not automatically defeat a claim. The inquiry may focus on outside-business disclosures, warning signs, account activity, and the adequacy of the firm’s supervision.
Must the advisor receive a commission?
No. FINRA Rule 3280 applies even when the advisor receives no selling compensation. Compensation may also include ownership interests, profits, securities, or other indirect benefits.
Does approval of an outside business authorize promissory-note sales?
Not necessarily. An outside business may later involve securities transactions requiring separate notice and review under FINRA Rule 3280.
Are the Jennings and Pugh matters allegations?
Jennings and Pugh resolved FINRA’s findings through separate Acceptance, Waiver and Consent agreements. Each accepted the sanctions without admitting or denying the findings.
Does a customer settlement establish liability?
No. A settlement does not necessarily include an admission or finding of wrongdoing.
This article is for general informational purposes and does not provide legal or investment advice. Customer allegations are not findings of liability unless established through an authorized proceeding.
