The fraudulent sale of mutual funds to deliberately avoid breakpoints or the sale of proprietary mutual funds to garner fees and commissions is actionable, and is often a sign of other misconduct.
Mutual funds grant volume discounts on sales commissions charged to customers. The levels at which the discounts become effective are called "breakpoints," and can be reached in three ways: (1) in a single purchase; (2) over a 13-month period pursuant to a letter of intent; (3) and from the time of the initial purchase under rights of accumulation. In re: Advest, Inc., SEC Release No. 34-24072, 1987 SEC LEXIS 2624 (February 9, 1987).
It is a fraudulent and deceptive practice to engage in the sale of back-end loaded, Class "B" mutual fund shares, where a customer would otherwise be entitled to quantity discounts or "breakpoints" from the sale of front end loaded Class "A" shares. This is a form of stockbroker fraud or misconduct.
For example, if a client purchased five different funds totaling $100,000 within any particular family of funds, by investing $25,000 in each fund, in Class B Shares, the broker will receive fees or commissions of typically 5% or $5,000. Should the client sell these Class B shares, there is a surrender penalty associate with the sale of these securities, and this penalty decreases each year. Typically after 5 years, there is no penalty. However, the broker gets paid upon the initial purchase of these shares, in this example, $5,000 or the 5% commission.
Had this same customer purchased $100,000 of Class A shares, and sought to purchase five different funds, within a particular family of funds that customer would otherwise be entitled to quantity discounts, or "break-points" and could pay a commission, albeit front end loaded of less than 2% or in our example, $2,000.
In an effort to maximize commissions, at the expense of a customer, a broker may purchased back-end loaded or "B" shares, as opposed to front-end loaded "A" shares, where the customer would be eligible to earn "break-points." This practice has been declared "fraudulent and deceptive," per se, by securities regulators. ( See, e.g. NASD Press Release, June 25, 2003 ("NASD Brings Enforcement Action For Class B Mutual Fund Share Sales Abuses")).
This practice, is contrary to just and equitable principles of trade, and a violation of NASD Conduct Rule IM-2010, and cannot be justified by merely furnishing to customers a prospectus which describes the breakpoints and the 12b-1 fees associated with Class A and Class B purchases. Mason, Moran & Co., 35 S.E.C. 84, 90 (1953), quoted in, In re: Russel L. Irish, SEC Release No. 34-7687 (1987)(while registrant claimed it complied with disclosure requirements of the federal securities laws by furnishing the customer with a prospectus which included breakpoint information, the Commission held that while the prospectus requirements were intended to provide the investor with more information than had theretofore been generally available in the ordinary securities transaction, these requirements were not intended to abrogate the greater disclosure duties traditionally imposed on brokers and dealers in a fiduciary position); See also, "SEC and NASD Action Plan on Mutual Fund Sales Load Charges," SEC Release 2003-07 (January 16, 2003); NASD Notice to Members 95-80 (Sept. 1995); NASD Notice to Members 94-16 (Mar. 1994); Suitability Issues for Multi-Class Mutual Funds, NASD Regulatory And Compliance Alert (Summer 2000)
This is a form of stockbroker fraud or misconduct and is often indicative of other bad behavior by the offending stockbroker.
Guiliano Law Firm, P.C. Practice limited to the representation of investors in arbitration claims against stockbrokers for fraud, the sale of unsuitable investments, breach of fiduciary duty, failure to supervise. National Practice. Contingent Fee. Free Consultation. (877) SEC-ATTY.