UBS Financial Services has agreed to pay $2 million to settle Financial Industry Regulatory Authority charges that the firm inaccurately represented the tax status of thousands of interest payments to customers, a hefty penalty that reflected recidivist behavior allegedly discovered by examiners.
The firm agreed to pay the fine and be censured while neither admitting nor denying FINRA’s findings that it violated Municipal Securities Rulemaking Board rules G-27 on supervision, G-17 on fair dealing and G-8 on books and records. Most of the fines — $1.75 million are due to MSRB violations.
FINRA found that from August 2015, when it had previously sanctioned UBS for similar violations, through the end of 2017, the firm continued to fail to timely identify and properly address certain short positions in securities. FINRA also found that they inaccurately represented the tax status of thousands of municipal securities.
Short positions are created when a trader sells a security first with the intention of repurchasing it or covering it later at a lower price.
Customer purchase municipal securities because the interest earned on them is exempt from federal and many state and local taxes. However, only the interest that is received from an issuer is exempt from that taxation.
When firms are short municipal securities held in customer accounts, the firm would then be the source of the interest payments to customers, FINRA said. Then the interest earned by those customers is known as “substitute interest” and is subject to taxation.
From 2015 to 2017, supervisors at UBS were responsible for identifying and covering all short positions created as a result of a branch error or trading that occurred at the branch. FINRA found that the firm did not maintain procedures or provide training to instruct employees responsible for covering short positions in what ways they should attempt to obtain municipal securities.
“The firm also did not provide guidance to supervisors that any short position in municipal securities held past settlement would result in the payment of substitute interest to customers and inaccuracies in customer statements regarding the tax status of certain interest accruals or payments, if the short position was not addressed before settlement date,” FINRA said.
FINRA found in certain instances, UBS employees sought and waited to receive internal approvals to purchase municipal securities at particular prices. In some instances, their inaction caused the firm to pay substitute interest and make misstatements and omissions to customers regarding the tax status of certain interest payments, FINRA found.
UBS’s systems and procedures caused the firm to make inaccurate representations on 2,853 customer account statements to the effect that $261,610 in interest that customers had received on municipal bond positions in their accounts was tax-exempt. UBS also inaccurately reported on 950 other customer account statements that they had received taxable substitute interest paid by the firm, when in fact some or all of the interest they had received was tax-exempt interest paid by the municipal bond issuer, FINRA found.
“In many instances, the firm made these inaccurate statements to the same customer on multiple account statements,” FINRA said.
UBS agreed to pay restitution to customers who may have incurred increased state tax liabilities and UBS also has to pay the Internal Revenue Service.
This has all happened before. In August 2015, UBS consented to a censure and a fine of $750,000 for violating identical MSRB rules. UBS inaccurately represented 4,371 customers that at least $1.165 million in interest that the Firm had paid to them was tax exempt, FINRA found. Since UBS did not have the municipal bonds in its possession, UBS was paying taxable interest to its customers, FINRA found. FINRA also found that UBS had failed to maintain a record allocating the short positions to particular customer accounts.
UBS is a full service brokerage firm headquartered in New Jersey and has 640 branch offices and about 12,000 registered individuals.
The firm’s attorney did not immediately respond to comment.
