FinLaw: Serial issuers of securities need to comply with state blue sky laws

by Scott Andersen, CrowdFunding Beat Guest Editor,

As we’ve previously discussed, a serial issuer operating or using a website that displays and advertises offerings of securities (a “funding platform”) does not necessarily need to register with the SEC (or FINRA) as a broker-dealer.[1] .

However, what about State blue sky laws?

While Rule 506 of Regulation D and Regulation A+ Tier 2 offering exemptions eliminate the need to register (“blue sky”) a securities offering in the various states, state regulatory efforts remain focused on licensing persons who are effecting securities transactions within their borders. In other words, although the securities themselves are exempt from blue sky registration, the act of selling those securities to residents of the state may itself require registration. States generally license and regulate market participants such as brokers, dealers, investment advisers, business brokers and salespersons (including agents of issuers) who engage in the business of selling securities (broker-dealers) or advising others in regard to their purchase or sale (investment advisers). Serial issuers of securities thus need to comply with state blue sky laws , which require that the persons selling securities, or advising others in regard to the sales, be registered or exempt from registration in each state where securities are sold.

State securities “blue sky” laws generally predate federal law. And both federal and state securities laws exist side by side and may regulate securities offerings. As such, each securities transaction in which you participate must not only comply with federal law, but state law as well. The states not only have separate laws, but also their own securities regulatory and enforcement agencies. These state securities administrators[2] regulate securities activities in their respective states and bring actions to enforce state laws. Serial issuers are thus well advised to review the laws of each state in which securities are being offered or sold to ensure compliance with blue sky laws.

Although the specific rules of each state vary widely, state laws generally require 1) the registration of securities offerings (unless exempt), and 2) the licensing of the market participants who sell them. First, state laws require the registration of securities that will be offered or sold within a state, unless a specific exemption eliminates this requirement. Rule 506 offerings, as well as those under the new Reg A+ Tier 2, are exempt offerings under federal law.[3] Although state registration is preempted, the states for 506 offerings impose a “notice filing” requirement to alert state authorities that a securities offering is occurring in their state. States historically also require participants to consent to service of legal process and to pay a filing fee.[4] Generally, notice filings for Rule 506 offerings consist of the filing with the state all the documents (Form D) the issuer filed with the Securities and Exchange Commission (SEC), as required by the Securities Act of 1933.[5] The same remains true under Reg A+ Tier 2. [6]

Secondly, market participants such as brokers, dealers, investment advisers and agents (including agents of issuers) must be licensed with each state absent an exemption. State blue sky laws focus on who is permitted to engage in the business of selling securities, or advising others in regard to the purchase or sale of securities in the state.[7] Indeed, state regulators frequently target their regulatory efforts on the persons engaged in these securities activities. While the specific requirements of when a market participant is required to be registered differs state by state, market participants must be licensed in each state where they conduct business, absent an exemption from this requirement. The states generally have broadly defined the activities requiring registration too, thus capturing the conduct of individuals who may mistakenly think their conduct is occurring outside of the securities industry (e.g., finders, business brokers), and often require that these individuals be licensed to conduct their business activities in the state.

This may pose a dilemma if you are undertaking a securities offering that targets investors in multiple states. While many states have adopted a version of the Uniform Securities Act (an effort to make uniform state registration requirements), not all states have done so. Large states including New York, Texas, California and Florida have not adopted the Uniform Securities Act. The states that have adopted it have not necessarily adopted the most recent version[8] or adopted it with some variation or change. Yet it is incumbent on those engaging in securities transactions to comply with state law, regardless of the challenges required in evaluating registration and exemption requirements for each state. The bottom line is that market participants are required to be registered, or exempt from registration, before any securities offering may take place in a state, as the states have the important job of regulating securities activities within their borders and protecting their citizens.

The Uniform Securities Act (2002) defines “broker-dealer” as “a person engaged in the business of effecting transactions in securities for the account of others or for the person’s own account.”[9] Historically, a broad interpretation has been applied to the terms “effect” and “engaged in the business.” Similarly, the definition of “investment adviser” is “a person that, for compensation, engages in the business of advising others … as to the value of securities or the advisability of investing in, purchasing or selling securities… .”[10] And an “agent” is a person who represents a broker-dealer or issuer in “effecting or attempting to effect purchases or sales of securities,” or, where investment advisers are involved, a person “who makes any recommendations or otherwise gives investment advice regarding securities, manages accounts or portfolios of clients… .”[11] These agents must also be registered and licensed absent an exemption.

While the definition of who is required to be registered and licensed is broad, there are available exemptions, but you must consult the laws of each individual state where you are conducting a securities business to find them. NSMIA for example limits a states’ ability to regulate de minimus transactions by agents of broker-dealers. As a result, the Uniform Securities Act (2002) provides that broker-dealers with no place of business in a state and with no more than three customers there during the previous twelve month period, are exempt from registration so long as they are federally registered (or not required to be registered) under the Securities Exchange Act of 1934.[12] NSMIA also removes the state’s ability to license (other than notice filings) SEC registered investment advisers, and applies a de minimus exemption to investment advisers too. The Uniform Securities Act (2002) provides that advisers with no place of business in the state and with no more than five clients in that state are exempt from registration.[13] There are also exemptions for agents.[14]

Similarly, non-Uniform Securities Act states have similar broad definitions of market participants who are required to be licensed, unless meeting an exemption. California[15], for example, like the Uniform Securities Act, defines a “broker-dealer” as a “person engaged in the business of effecting transactions in securities in this state for the account of others or for his own account.”[16] Texas makes no distinction between a broker and dealer, and defines a dealer as a person “who engages in this state, either for all or part of his or its time, directly or through an agent, in selling, offering for sale or delivery or soliciting subscriptions to or orders for, or undertaking to dispose of, or to invite offers for any security or securities and every person or company who deals in any other manner in any security or securities within this state.”[17] In addition, Texas has interpreted that any “issuer other than a registered dealer of a security or securities, who, directly or through any person or company, other than a registered dealer, offers for sale, sells or makes sales of its own security or securities shall be deemed a dealer and shall be required to comply with the provisions hereof,”[18] absent meeting an exemption.[19]

New York’s Article 23A of the General Business Law (the “Martin Act”) is different from all other state laws. An issuer falls into the definition of a securities dealer and it is unlawful to hire a securities salesman unless that person is registered.[20] And it is unlawful for any dealer, broker or salesman to sell or offer for sale to the public within or from the state any securities issued absent the filing a registration statement.[21] Yes, issuers sometimes are defined under state blue sky laws as broker-dealers. Even in states where issuers do not need to be registered, their sales agents may need to be so.

We can go on infinitely pointing out distinctions and nuances in each state law, but the point is that state laws must be considered and complied with when offering or selling securities in any given state. It is very complex. And the failure to meet the registration or exemption requirements can, and often does, result in state enforcement proceedings or rescission of offerings, which can impact your company’s reputation and both your and its ability to sell securities in the future. [22]

This is true of everyone engaging in technology-driven capital formation and who use websites (aka “funding platforms”) to engage with investors, including;
a. Issuers (direct offerings on websites, no fees charged since it is the issuer’s own website)
b. Listing Services (offerings displayed on a website that simply charge a non-refundable fee for listing, advertising, tech tools, etc.)
c. Investment Advisers (generally who create SPVs or other funds and earn standard 2%/20% model)
d. Broker-Dealers (who charge commissions for selling securities).

Issuers that operate or use a funding platform and that are not acting or registered as a broker-dealer in the various states where investors reside will generally have difficulty navigating the intricacies of every states unique regulation. Fortunately there is another way to proceed. When you offer securities pursuant to Rule 506 or Reg A+, you can use a third party broker-dealer to effect the securities transactions on your behalf. You can do this in two different ways:

1. Become a branch office of a registered broker-dealer. This is a higher friction choice as it subjects your company and your offering(s) to an extra layer of direct regulatory oversight[23], including review (and sometimes pre-review) of all deal marketing; or,

2. A simple contract with a registered broker-dealer like FundAmerica Securities to effect your transactions in each state you do business. This allows you to stay focused on your business while using a regulated broker-dealer that meets state licensing requirements as the broker-dealer of record for your securities offering(s).

Regardless of which direction you go, as a serial issuer you need to be aware of, and in compliance with state blue sky laws in every state where your investors reside. How easy or complicated this will be depends on how you structure your business and your offerings, together with advice from your securities attorney.

About Scott Andersen:
Scott is principal at, General Counsel of FundAmerica and principal at ConsultDA. He was most recently the Deputy Regional Chief Counsel at FINRA, and prior to that was the Enforcement Director at FINRA and the NYSE, Co-Chief of the Securities Prosecutions Unit of the NY Attorney General’s office, and Asst. Attorney General for the State of NY. He concentrates his practice on securities and regulatory law.

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