United States: New York Court Finds Absolute Immunity Applies To Broker-Dealer U-5 Termination Statements

On March 29, the New York Court of Appeals held in Rosenberg v. MetLife, Inc. that statements made by a brokerage firm in a U-5 Termination Notice are subject to an absolute privilege in a suit for defamation. This ruling is a major victory for the broker-dealer community because it both encourages firms to accurately and fully disclose reportable events and protects them from defamation lawsuits brought by disgruntled former employees.

Although not subject to defamation suits for false or misleading disclosures in Form U-5s, employers must still comply with NASD regulations requiring accurate disclosure of the circumstances relating to an employee’s termination. Accordingly, there remains every incentive for member firms to use appropriate care and good judgment when making U-5 filings.

The Rosenberg decision centers on the degree of protection given to employer statements in a Form U-5, the Uniform Termination Notice for a Securities Industry Registration. The NASD and the NYSE require that a member firm file this form within thirty days of a registered representative’s departure. The form asks the employer to provide an explanation for an employee’s involuntary termination. The contents of a Form U-5 may be reviewed by regulatory authorities and, in certain circumstances, other broker-dealers and members of the investing public. Upon receipt of a Form U-5, the NASD may, and routinely does, investigate involuntary terminations to determine whether any securities law violations have occurred.

Recognizing that securities regulations mandate that member firms file a Form U-5, many courts have given employers either qualified or absolute immunity for statements made in a Form U-5. With qualified immunity, a defamation claim may still succeed if a claimant can show that the speaker acted with malice. Whether malice was involved is typically a question of fact. It may therefore be difficult to dispose of a defamation claim on a motion to dismiss if the requisite facts establishing malice are alleged. Absolute immunity, by contrast, precludes an individual from pursuing any defamation action against the speaker. Thus, when absolute immunity applies, a defamation claim may be dismissed at the outset of the case.

The Rosenberg case began after the defendant, MetLife, Inc., terminated plaintiff Chakie Rosenberg’s employment as a registered representative. As described in the Court’s decision, MetLife had investigated the branch that employed Rosenberg and determined that he and other employees had engaged in activities which suggested the sale of speculative insurance policies and possible money laundering. When MetLife terminated Rosenberg, it filed a Form U-5 that contained the following statement regarding his termination: "An internal review disclosed Mr[.] Rosenberg appeared to have violated Company policies and procedures involving speculative insurance sales and possible accessory to money laundering violations."

Rosenberg brought an action in New York federal court seeking damages for libel, employment discrimination, fraudulent misrepresentation, and breach of contract. The libel claim alleged that MetLife’s Form U-5 statements were defamatory and made with malicious intent. The trial court dismissed Rosenberg’s libel claim and held that MetLife’s statements in the Form U-5 were entitled to an absolute privilege. Plaintiff appealed to the Second Circuit. Finding uncertainty under New York law on this issue, the Second Circuit certified the following question to the New York Court of Appeals: "Are statements made by an employer on an NASD employee termination notice (‘Form U-5’) subject to an absolute or qualified privilege in a suit for defamation?"

The New York Court of Appeals ruled that an absolute privilege applies to such statements, given the U-5’s pivotal role in the initiation of NASD investigations of possible securities law violations and the strong public interest in promoting accurate and complete disclosure by regulated firms. The Court found the filing of a U-5 and the NASD investigation that follows to be analogous to quasi-judicial proceedings in which absolute immunity has been accorded to statements made at the preliminary or investigative stage, such as complaints filed against lawyers in ethical grievance proceedings. In these situations, public policy favors absolute privilege in order to encourage complete candor with investigators without fear of retribution in civil lawsuits filed by those who may be implicated. Since the Form U-5 was designed to alert regulators to potential misconduct and "to enable the NASD to investigate, sanction and deter misconduct," it "can be viewed as a preliminary or first step in the NASD’s quasi-judicial process."

In discussing the public interests at stake, the Court focused on the needs of the investing public. The Court stated, "[t]he NASD’s actions ultimately inure to the benefit of the investing public, which faces the potential for substantial harm if exposed to unethical brokers. Accurate and forthright responses on the Form U-5 are critical to achieving these objectives." The Court rejected the position articulated by the dissent, which stressed how U-5 reporting could unfairly penalize a departing employee and prevent that employee from obtaining new employment or from retaining customers. For the majority, the interests of the investing public and their access to complete and accurate information about brokers were so significant as to warrant absolute immunity and eclipse the reputational and employment interests of a terminated employee.

The decision is a significant victory for the broker-dealer community. Member firms will be further encouraged to make accurate and complete disclosure of the circumstances surrounding the termination of a registered representative because they no longer face liability for defamation, at least in New York. At a minimum, the ruling will enable firms to obtain dismissal of defamation claims based on U-5 filings before they reach the trial or hearing stage and avoid substantial litigation costs.

Although critics argue that the decision may open the door to the reckless or even intentional filing of false Form U-5 statements regarding former employees, there are a number of factors that should militate against this feared misconduct. First, firms remain subject to the requirement to make complete and accurate disclosures in their Form U-5 filings. Second, regulators routinely review Forms U-5 for accuracy and completeness. These reviews take place at or about the time the filings are made and during the course of regulatory examinations. Third, firms may be disciplined for filing false or misleading Forms U-5, and disciplinary action often involves a public proceeding accompanied by negative press. Fourth, false accusations of wrongdoing against a former employee invariably result in an investigation of both the employee and the firm, with all of the costs and risks that a regulatory investigation entails. Accordingly, there remain many disincentives for firms to abuse the regulatory filing process and the absolute immunity accorded them in Rosenberg. Indeed, the Court’s ruling may lead NASD and NYSE regulators to engage in a more painstaking review of Form U-5 disclosures. For their part, former employees are not without recourse. They may still file an action to expunge or modify an inaccurate or misleading Form U-5. They simply cannot pursue a tort claim against their former employer.

Although Rosenberg establishes absolute immunity as the standard in New York, other states are not bound by this decision. Therefore, firms need to be mindful of the continuing risk of defamation suits in those jurisdictions that do not recognize the same public policy need for an absolute privilege. This may be an area where regulators will seek a way to achieve greater uniformity.

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