Financial Services

"Absolute Immunity" Upheld for Financial Institutions Filing SARs

First Circuit reaffirms absolute immunity for filing suspicious activity reports without good faith requirement in AER Advisors v. Fidelity

August 2019

By Susan B. Hollinger*

The United States Court of Appeals for the First Circuit reaffirms the concept of absolute immunity from private rights of action for filing Suspicious Activity Reports (SAR).

See: AER Advisors Inc. v. Fidelity Brokerage Services, LLC, No. 18-1884 (1st Cir. 2019)

In 2011, William and Peter Deutsch, clients of a registered investment advisor, AER, which had joined Fidelity’s Wealth Central platform, had been investing in shares of a specific Chinese stock known as China Medical Technologies, Inc. (“China Medical”), eventually accumulating millions of shares. During the course of accumulating those shares, Fidelity offered the Deutsches an opportunity to engage in securities lending for a fee, but the Deutsches declined. Unbeknownst to the Deutsches, Fidelity nonetheless engaged in securities lending using the Deutsches’ China Medical shares. Not only did Fidelity not notify the Deutsches about lending out their shares, Fidelity made money from the loans, but never paid any compensation to the Deutsches and never posted any collateral against their loaned shares.

According to court filings, after a series of related events, Fidelity found itself in the position in which it had loaned more China Medical securities than legally permitted which triggered a recall obligation, and because the price of China Medical shares more than doubled, Fidelity was buying over a million shares on the open market. The SEC shortly thereafter halted trading in China Medical shares.

After it purchased the shares on the open market, Fidelity filed a SAR with FinCEN, accusing the Deutsches of manipulating China Medical’s stock price.1  Approximately one month after the SAR filing, the SEC opened an investigation of both AER and Peter Deutsch for possible market manipulation; both were subpoenaed and interviewed, and State securities agencies investigated AER. Although the SEC and State ended up not bringing charges, Peter Deutsch and AER apparently spent hundreds of thousands of dollars in defense costs, and Peter Deutsch claimed to have suffered emotional distress.

Plaintiffs AER and the Deutsches sued Fidelity in Florida federal district court based on diversity jurisdiction, alleging, among other claims, Florida law claims of fraud and negligent reporting, although they did recognize during appeal that the dispute devolved from the scope and application of federal law. Plaintiffs claimed there was bad faith in the filing of the SAR because it was intentionally misleading in order to cover up Fidelity’s own wrongdoing. Florida sits in the Eleventh Circuit, which has held that immunity from civil liability for filing an SAR is conferred only with respect to an SAR filing made in good faith.

Fidelity, however, was successful in having the case moved to federal court in Massachusetts (due to the majority of facts not occurring in Florida), which sits in the First Circuit, and was further successful in having First Circuit law applied to federal questions, rather than Eleventh Circuit law. First Circuit law holds that the Bank Secrecy Act provides a financial institution with absolute immunity from civil liability for filing an SAR. The district court found that there is no “good faith qualification to immunity” which means that “immunity applies even to fraudulent SARs filed by an institution to falsely point blame at others to cover up its own wrongdoing.”

In reaffirming the lower court ruling, the First Circuit emphasized that Congress could have easily added a good-faith requirement to the statute, but did not; that it was intended to provide the broadest possible exemption from civil liability for the reporting of suspicious transactions. The immunity is so broad that it provides protection to financial institutions when SARs are fabricated or filed with malice. Adding a subjective good faith requirement on a filing would create a risk of second guessing and discourage disclosure, noted the Court.

The First Circuit did note, however, that although private actions are not recognized for filing SARs in bad faith, remedies other than private damage actions are available for willfully filing false reports including government penalties such as fines and imprisonment. And until the Supreme Court or an en banc First Circuit overrules it, or Congress changes the statute, the prior First Circuit panel precedent of absolute immunity applies in the First Circuit.

Footnote.

1. Although the existence and contents of a SAR are confidential and cannot be disclosed, Plaintiffs allege the filing of the SAR based on an internal memo from Fidelity’s compliance department recommending investigation of the Deutsches for attempting to influence a short squeeze of China Medical stock.


* Susan Hollinger is admitted in New Hampshire, Massachusetts and Vermont.

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