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Understanding Blue Sky Laws

Post on: April 28, 2017 | Abby Johansen | 0

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Where does a company turn to understand state-level regulations imposed upon it? Blue sky laws of course.  These descriptively named regulations are designed to protect investors from fraud.  As one may guess, the range of possible regulations and requirements of each state can seem as wide as the sky itself.  The term was created by a Supreme Court description of fraudulent securities as “speculative schemes which have no more basis than so many feet of ‘blue sky’”.[1]

Each state has their own individual set of securities regulations.  While each specific statute varies from state to state, generally, states require registration of all securities and sales, as well as registration of stockbrokers and brokerage firms.[2]  One key similarity between each state’s blue sky laws are that to comply, registration must take place before a security is sold or even offered.[3]  In accordance with the terms of their statutes, each state has created their own regulatory agency to oversee and police these laws.[4] 

The lack of uniformity amongst the state securities acts and resulting regulations is often where investors run into efficiency issues and accidental violations.  There are 50 different sets of securities regulations and it is not only the statutes that differ themselves, but often how they are interpreted.[5]  This increases the risk of unclear compliance requirements and exceptions.

Normally, a company has two options when it comes to state registration over a securities transfer: meet the specific state’s exception or comply with that state’s registration procedures.[6] Following the registration requirements of each state where securities transfers are made can be costly in terms of time and resources for many companies.  For instance, if a company’s activities within a state falls within the definition of “conducting business” within that state, the company must register to do business there before selling or offering any securities. 

Generally, the attention-grabbing state securities regulation violations are tied to scandalous and fraudulent schemes.  Last month, the Tennessee Department of Commerce & Insurance Securities Division fined a Nashville area oil and gas investment company, Royal Energy of Tennessee, LLC, and their operator, John G. Westine, for violations of their state blue sky laws.  The company’s list of violations included: selling unregistered securities, failing to register as a broker-dealer or an investment advisor before selling securities, and participating in a scheme to defraud investors.  Royal Energy of Tennessee and Westine were hit with a Final Order of $170,000 in civil penalties and a permanent bar from any future conduct or transactions as a broker-dealer, agent of a broker-dealer, investment advisor, or investment advisor representative in the state.[7]  On top of the proceedings in Tennessee, their operator, Westine, is presently incarcerated in a California federal prison due to a separate fraudulent oil production enterprise scheme in violation of federal law for defrauding investors of over $3 million.[8]

A serious fraudulent scheme is not required in order to suffer the consequences of violating state blue sky laws, however.  Fines and penalties can be tacked on to inadvertent violators too.  According to Virginia’s own regulations, a potential blue sky law violator case could face civil penalties up to $10,000 or be forced to retract any authority or registration granted by the Virginia Corporation Commission.[9]  It is essential for those involved in transfers of securities to understand the requirements of each specific state where they do business.  On the other hand, it has been suggested that the federal government should step and pre-empt state blue sky laws to reduce associated costs, delays, and uncertainty.[10]  In the meantime, companies and individuals should make it a priority to be aware of and comply with state blue sky laws.

 

[1] See Hall v. Geiger-Jones Co., 242 U.S. 539, 551 (1917).

[2] See Richard I. Alvarez & Mark J. Astarita, Introduction to the Blue Sky Laws (Fed. 15, 2016), http://www.seclaw.com/bluesky.htm.

[3] See id.

[4] See id.

[5] See id.

[6] See Rutherford B. Campbell, The Role of State Blue Sky Laws After the JOBS Act and the National Securities Markets Improvement Act, The CLS Blue Sky Blog (Feb. 15, 2017), http://clsbluesky.law.columbia.edu/2017/02/15/the-role-of-state-blue-sky-laws-after-the-jobs-act-and-the-national-securities-markets-improvement-act/.

[7] See Nashville Oil and Gas Investment Company Barred for Securities Violations, TN Department of Commerce & Insurance (Mar. 10, 2017), https://www.tn.gov/commerce/news/nashville-oil-and-gas-investment-company-barred-for-securities-violations.

[8] See California Man Sentenced to 40 Years for Running Multi-Million Dollar Fraud Scheme in Kentucky, Department of Justice U.S. Attorney’s Office Eastern District of Kentucky (Feb. 25, 2016), https://www.justice.gov/usao-edky/pr/california-man-sentenced-40-years-running-multi-million-dollar-fraud-scheme-kentucky.

[9] See Va Code § 13.1-521, Violations Punishable by the Commission.

[10] See David R. Burton, Needed Policy Reforms to Improve Entrepreneurs Access to Capital, The Heritage Foundation (Jan. 24, 2017), http://www.heritage.org/markets-and-finance/commentary/needed-policy-reforms-improve-entrepreneurs-access-capital.


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Disclaimer: WealthForge provides this information to our clients and other friends for educational purposes only. It should not be construed or relied upon as legal advice.

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Abby Johansen

Abby is a part of the legal team at WealthForge where she manages state business licensing compliance and handles tasks ranging from corporate governance to compiling management team minutes. Abby is currently a law student at the University of Richmond, where she is a member of the Journal of Law and Technology and serves as Vice President for the Student Intellectual Property Association.
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