LPL Financial in the Sights of State Securities Regulators Over Non-Traded REITs
The Enforcement Section of the Massachusetts Division of the Office of the Secretary of the Commonwealth has initiated an administrative complaint against LPL Financial LLC relating to its sales practices of non-traded real estate investment trusts (“REITs”.)
In 2012, there were in excess of $500 billion in REIT offerings in the marketplace. REITs engage in the acquisition, development and management of real estate properties. Unlike traditional real estate investments, REITs are usually completely illiquid. REITs are attractive to investors because they distribute at least 90% of their taxable income to investors. However, if income does not meet distribution demand, a REIT may resort to paying distributions out of borrowed money. Non-traded REITs have additional risks: no ready market – limited redemption programs; high fees and commissions – typically range from 15-18%; and sporadic valuation.
According to the Complaint filed by the Commonwealth of Massachusetts, LPL’s brokers committed regulatory infractions in 95% of the sales of non-traded REITs between 2006 and 2009, including violations of Massachusetts requirements, prospectus requirements and LPL’s own compliance manuals. The Complaint charged LPL with failure to supervise its brokers who sold the REITs, as well as unethical and dishonest business practices.
The Complaint reflects that regulators focused their investigation on LPL’s sales of Inland American Real Estate Trust, Inc. (“Inland American”), the largest non-traded REIT in the industry, with $11.2 billion in real estate assets. Massachusetts investigators allege that of the 597 non-traded REIT transactions reviewed ($28 million worth), 569 had regulatory violations. According to the Complaint, LPL received gross commissions of $1.8 million for those sales.
The alleged violations include sales made in violation of Massachusetts 10% concentration limit – designed to cap an individual’s purchase to 10% of his/her liquid net worth; sales made in violation of similar concentration limits contained in prospectuses; and sales made in violation of LPL’s compliance manuals and written supervisory procedures.
The Complaint further alleges that LPL’s training of its brokers in regard to non-traded REITs was severely lacking. According to regulators, one LPL supervisor was unaware of the Massachusetts requirements regarding the sales of non-traded REITs and others relied solely on publically available internet sources for information about REITs.
The Complaint alleges violations of Massachusetts securities laws and FINRA rules and seeks the payment of restitution and penalties.
