Chapter 3 of 420% of exam
Registration and Exemption of Securities
Securities, like people, must be registered in a state unless something takes them out of the requirement. Three things can do that: the security may be a federal covered security whose state registration is preempted, it may be an exempt security, or it may be sold in an exempt transaction. Keeping those three ideas apart is the single most valuable habit for this part of the exam, because the same instrument can require registration in one sale and not in the next. This chapter covers the three registration methods, the preemption rules, and the two families of exemptions.
The Three Methods of Registration
The act offers three ways to register a securities offering in a state, and the right one depends on the issuer's size and whether a federal registration statement has been filed. Coordination pairs the state filing with a federal registration under the Securities Act of 1933 so that both take effect at the same moment. Notification, sometimes called registration by filing, is a streamlined path for established issuers with an operating history and clean debt service. Qualification is the universal fallback, available to any issuer, requiring the most detailed disclosure and taking effect only when the Administrator so orders. All three produce a registration effective for one year, and the Administrator may attach conditions such as escrowing proceeds until a minimum amount is raised.
Coordination
Used when a federal registration statement is filed for the same offering; the state registration becomes effective simultaneously with the federal registration once the state's filing and pricing conditions are met.
Uniform Securities ActNotification
An abbreviated method for seasoned issuers meeting conditions on operating history, earnings, and absence of default on senior securities.
Uniform Securities ActQualification
Available to any issuer, requires the most complete disclosure, and becomes effective only when the Administrator so orders. Typical for intrastate offerings.
Uniform Securities ActWho may file
The issuer, any other person on whose behalf the offering is made, or a registered broker-dealer may file the registration statement.
Uniform Securities ActDuration and conditions
A registration is generally effective for one year; the Administrator may require escrow of proceeds and periodic reports no more often than quarterly.
Uniform Securities ActFederal Covered Securities and Preemption
Federal law removed a layer of duplicate regulation by designating certain securities as federal covered, meaning a state may not require them to be registered. The main categories are securities listed on a national exchange and securities of the same issuer that are equal or senior in rank, shares of investment companies registered under the Investment Company Act of 1940, securities sold to qualified purchasers, and securities issued under the federal private offering rule. Preemption is narrow in scope: it removes state registration only. States may still require a notice filing, collect fees, demand a consent to service of process, and, most importantly, they retain full antifraud jurisdiction over every offer and sale made in the state.
Exchange-listed securities
Securities listed on a national securities exchange, and securities of the same issuer equal or senior to them, are federal covered.
Uniform Securities ActInvestment company shares
Shares of a fund registered under the Investment Company Act of 1940 are federal covered securities.
Uniform Securities ActWhat states may still require
Notice filings, filing fees, and a consent to service of process may be required for federal covered securities offered in the state.
Uniform Securities ActAntifraud authority survives
Preemption never reaches the antifraud provisions; the Administrator may investigate and act on fraud in the sale of any security.
Uniform Securities ActAdvertising
The Administrator may require sales literature to be filed, but not for federal covered securities or for exempt securities and transactions.
Uniform Securities ActExempt Securities
An exempt security is exempt because of what it is or who issued it, so the exemption travels with the instrument through every transaction. The list is worth memorizing outright: obligations of the United States and its agencies, state and municipal obligations, obligations of Canada and its provinces, securities issued or guaranteed by banks, savings institutions, and trust companies, insurance company securities other than variable products, public utility securities, securities of nonprofit religious, educational, charitable, and fraternal organizations, and qualifying commercial paper. Two traps recur. A variable annuity is not covered by the insurance exemption because the contract holder bears the investment risk, and a bank holding company is a separate issuer that does not inherit the bank exemption.
Government obligations
Securities issued or guaranteed by the United States, any state or political subdivision, or Canada and its provinces are exempt securities.
Uniform Securities ActFinancial institutions
Securities issued or guaranteed by a bank, savings institution, or trust company are exempt; a holding company's own securities are not automatically exempt.
Uniform Securities ActInsurance company securities
Securities issued by a licensed insurance company are exempt, but variable annuities and variable life products are securities that do not fall within this exemption.
Uniform Securities ActNonprofit issuers
Securities of nonprofit religious, educational, benevolent, charitable, and fraternal organizations are exempt securities.
Uniform Securities ActCommercial paper
Short-term notes maturing in nine months or less, rated in a top category and issued in large denominations, are exempt.
Uniform Securities ActExempt Transactions
An exempt transaction is exempt because of how the sale happens, not because of the instrument. The same unregistered stock that would need registration in a public offering may be sold lawfully in an isolated resale, an unsolicited order, or a sale to institutions. Because the exemption depends on facts that exist only at the moment of sale, firms document them contemporaneously, most commonly by having a customer sign an acknowledgment that an order was unsolicited. The burden of proving any exemption falls on whoever claims it, and the Administrator may deny or revoke an exemption for a particular security or transaction by order.
Isolated non-issuer transaction
A one-off resale by someone other than the issuer, with no pattern of similar sales, is an exempt transaction.
Uniform Securities ActUnsolicited transaction
An order that originates entirely with the customer is exempt; the firm may be required to obtain a signed acknowledgment.
Uniform Securities ActInstitutional transaction
Sales to banks, insurance companies, investment companies, other broker-dealers, and similar institutional buyers are exempt transactions.
Uniform Securities ActPrivate placement
Offers to a limited number of non-institutional persons in twelve months, where buyers purchase for investment and no commission is paid for soliciting them.
Uniform Securities ActFiduciary transactions
Sales by executors, administrators, sheriffs, marshals, receivers, trustees in bankruptcy, guardians, and conservators are exempt transactions.
Uniform Securities ActBurden of proof
The person claiming an exemption must prove it, and the Administrator may by order deny or revoke a specific exemption.
Uniform Securities ActTelling the Two Exemptions Apart
The exam returns again and again to one question: is this an exempt security or an exempt transaction? A reliable method is to strip the fact pattern down to the instrument first. Ask whether the security would be exempt if it were sold to anyone at all, in any manner. If the answer is yes, as with a Treasury bond or a municipal bond, it is an exempt security and the analysis is over. If the answer is no, look at the circumstances of the sale, because only a transactional exemption can save it, and that exemption disappears the moment the circumstances change. Never let either exemption suggest that the antifraud provisions have gone away, because they apply to every offer and sale of every security without exception.
Test the instrument first
If the security would be exempt no matter who bought it, it is an exempt security and the exemption is permanent.
Uniform Securities ActThen test the circumstances
If the instrument is ordinary, only the manner of sale can create an exemption, and it applies to that sale alone.
Uniform Securities ActSame security, different result
Corporate notes sold to ten banks are an exempt transaction; the identical notes advertised to retail investors must be registered.
Uniform Securities ActAntifraud always applies
Exemption from registration never exempts anyone from the antifraud provisions or from the Administrator's jurisdiction.
Uniform Securities ActFederal covered is a third category
A federal covered security is not registered in the state because of preemption, which is distinct from both exemption concepts.
Uniform Securities ActTest your knowledge
Practice questions on Registration and Exemption of Securities