Brokers Not Responsible for Judging Clients Mental Competence
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In a ruling that tests the limits of the know your customer rule, the Texas Supreme Court found that a broker isnt responsible for deciding whether a client is competent to make financial decisions. The unanimous opinion overturned a $2.3 million award, including $1 million in punitive damages, against Edward Jones and one of its brokers for negligence in working with an elderly widow.
Delmar McKinney contended that his only duty was to faithfully carry out his clients instructions when he decided to handle a stock transfer in 1989 for 91-year-old Beatrice Cairns. Court documents show McKinney, a Jones broker in Taylor, Texas, acted carefully in handling the relationship. Cairns nephew had asked McKinney for help in signing over $300,000 of her securities to him. Cairns allegedly had given the nephew power of attorney. McKinney refused, insisting on a meeting with Cairns.
After four hours with Cairns in her home, McKinney agreed to the transfer and opened an account with the nephew. McKinney earned commissions over the next year, but nothing spectacular. The account ultimately was converted into an annuity.
Cairns family grew concerned that the nephew was taking advantage of her failing health and got a guardian appointed. Cairns died, and the family fought over the estate in probate, filing the negligence lawsuit against McKinney and his firm.
The Texas Supreme Court said a jury could only find negligence if McKinney had breached a legal duty that he owed Cairns. The court agreed there was some evidence Cairns wasnt competent to make financial decisions at the time she worked with McKinney, but stated that existing laws adequately provide for voiding transactions.
The court concluded: Stockbrokers and other service providers cannot be expected to have any expertise in assessing mental capacity. A stockbrokers fiduciary obligation to a client does not include the duty to ascertain the clients mental competence.
The court also said that neither the NYSEs know your customer rule nor the NASDs suitability rule can be stretched into requirements that stockbrokers ascertain their clients competence.
Brokers shouldnt expect the court ruling to be a defense if they clearly take advantage of an elderly client, says Randall Steinmeyer, a securities attorney with Reinhardt & Anderson in St. Paul, Minn. He agrees that both NYSE and NASD rules governing broker conduct dont spell out a duty to determine competency. But, implicit should be that the broker surmise whether the client is competent, he says.
James Beckley, a securities attorney in Wheaton, Ill., expects the opinion to be used vigorously by brokers and firms in negligence claims. But it so clearly flies in the face of [NYSE] Rule 405, he says, he doubts theyll have much success.
Arbitration panels will come down hard on a broker who appears to have advanced his interests over a clients, where mental competence is an issue, Steinmeyer says. It doesnt matter what some Southern court has said.
