- House Subcommittee Approves Securities Act of 2008 to Expand SEC Enforcement Remedies
- July 30, 2008 | Authors: W. Hardy Callcott; Hope M. Jarkowski
- Law Firms: Bingham McCutchen LLP - San Francisco Office; Bingham McCutchen LLP - Washington Office; Bingham McCutchen LLP - Boston Office
On July 9, 2008, the Capital Markets, Insurance, and Government Sponsored Enterprises Subcommittee took up the Securities Act of 2008 and approved the Act for consideration by the House Financial Services Committee. The chair of the Subcommittee, Paul Kanjorski (D-PA), noted that many of the provisions were recommended to the Subcommittee by the SEC and that the Act has the support of the SEC and state securities regulators. The Subcommittee approved the bill unanimously, on a bipartisan basis. Therefore — although Congress usually finds it difficult to pass bills in an election year — there is a real possibility that the bill could become law. At a minimum, passage of the bill through the House this year (it is not clear that there is current significant interest in the Senate for such a bill) could create substantial momentum for final passage of a similar bill early in the next Congress.
The Act would amend numerous provisions within the Securities Act of 1933, the Securities Exchange Act of 1934, the Investment Company Act of 1940 and the Investment Advisers Act of 1940. The changes potentially affect not only securities firms, but also public companies and anyone else subject to the federal securities laws. Summarized below are some of the more substantive changes contained in the Act. The legislation is likely to be amended and some of the provisions below may change before the final bill is considered by Congress.
1. Penalties in Cease and Desist Proceedings
- Section 8A of the Securities Act would be amended by adding a new provision that would provide the SEC with the authority to impose civil money penalties in cease and desist proceedings before an SEC administrative law judge, against anyone alleged to have violated the Act. Currently, the SEC may only impose civil money penalties in administrative proceedings against securities industry firms and professionals. Against other defendants (such as public companies, officers and directors, accountants, or ordinary market traders) the SEC currently may only obtain civil money penalties in federal district court. Section 8A also sets out a method by which a respondent subject to the penalty provisions may offer evidence on his or her ability to pay such fines and the impact of such fines on his or her ability to continue in business. The proposed provision contains tiers for the penalties as follows:
First Tier: establishes a maximum penalty of $6,500 for each violative act or omission committed by any natural person, and a $65,000 cap for each violative act or omission committed by any other person, that constitutes a violation of the Securities Act or any rule or regulation thereunder.
Second Tier: increases the maximum penalties to $65,000 for natural persons and $325,000 for all other persons for each act or omission that involves fraud, deceit, manipulation, or deliberate or reckless disregard of a regulatory requirement.
Third Tier: sets a maximum penalty of $130,000 for a natural person or $650,000 for all other persons if the act or omission involves fraud, deceit, manipulation, or deliberate or reckless disregard of a regulatory requirement and such act or omission directly or indirectly resulted in substantial losses or created a significant risk of substantial losses to other persons or resulted in substantial pecuniary gain to the person who committed the violative act.
- Section 21B(a) of the Exchange Act, Section 9(d)(1) of the Investment Company Act, and Section 203(i)(1) of the Advisers Act would be similarly amended by adding subsections that would authorize the SEC to impose civil penalties in cease and desist proceedings against any defendant before administrative law judges.
- The expansion of the SEC’s civil money penalty authority in administrative proceedings to include all potential defendants, not just securities industry firms and professionals, will likely be the most controversial aspect of the bill. Although the SEC’s track record in winning cases in front of its own administrative law judges is not perfect (in recent years it has often lost a higher percentage of actual litigated cases in front of ALJs than it has in district court), the SEC is certainly perceived to have a “home court advantage” in front of its own ALJs as compared with cases in federal court. Also, in administrative proceedings, the initial appeal is to the SEC itself — the very entity that authorized the case in the first place. (Thereafter, respondents may appeal to the U.S. courts of appeal.) Also, because the Federal Rules of Evidence do not apply in administrative proceedings, the SEC may use evidence that would not be admissible in federal district court.
2. SEC Authority Over Formerly Associated Persons
- Section 15B(c)(8) of the Exchange Act would be amended to empower the SEC to remove from office or censure any person who is, or at time of the alleged misconduct was, a member of the Municipal Securities Rulemaking Board. Currently, this section and the sections listed below apply to individuals currently associated with a regulated entity, but do not clearly apply to individuals associated with such a firm at the time of the alleged violation, but who are no longer so associated at the time the SEC brings the case.
- Section 15C of the Exchange Act would be amended to provide the SEC and other regulatory agencies the authority to institute disciplinary proceedings against persons associated with or seeking to become associated, or who at the time of the alleged misconduct were associated or seeking to become associated with, registered or unregistered government securities brokers and dealers. The specific provisions to be amended are 15C(c)(1)(C), 15C(c)(2)(A), and 15C(c)(2)(B).
- Section 21(a)(1) of the Exchange Act would be amended to provide the SEC with the authority to conduct investigations into alleged violations committed by individuals who were formerly associated with members of national securities exchanges and national securities associations, as well as former participants of registered clearing agencies.
- Section 19(h)(4) of the Exchange Act would be amended to expand the disciplinary authority of the regulatory agencies of the self-regulatory organizations by providing the regulatory agencies with the authority to remove from office or censure persons who, at the time of the alleged misconduct, either are or were officers of self-regulatory organizations.
- Section 36(a) of the Investment Company Act would be amended to empower the SEC to bring an action in district court against persons who are, or at the time of the alleged misconduct were, serving or acting, with respect to any investment company, as an officer, director, member of any advisory board, investment adviser, depositor, or as principal underwriter if the investment company was an open-end company, unit investment trust, or face-amount certificate company.
3. Scope of Exemption from State Securities Registration
The Act proposes to add a provision to the Securities Act that would allow the NYSE, AMEX, or NASDAQ to establish tiers on which stocks can be listed and traded, even if those stocks would not otherwise qualify as covered securities exempt from state registration requirements.
4. Collateral Bars
The Act would amend provisions of the Exchange Act and Advisers Act to prevent associated persons who violate the federal securities laws in one capacity (e.g., as an associated person of a broker or dealer) from being associated with other securities businesses in a different capacity (e.g., as an associated person of an investment adviser). Specifically, the Act would amend Sections 15(b)(6)(A), 15B(c)(4), and 17A(c)(4)(C) of the Exchange Act and Section 203(f) of the Advisers Act. Currently, the law does not permit the SEC to bar someone whose misconduct occurred while associated with a broker-dealer from associating with an investment adviser (or vice-versa), although the SEC often seeks such a collateral bar in settlements.
5. Exempt Offerings
The Act would amend Section 18(b)(4)(D) of the Securities Act to clarify that states can require that notice filings for exempt securities contain all of the information required by Form D including the appendix to Form D (even though the appendix is not required for filings with the SEC on Form D).
6. Unlawful Margin Lending
This section of the Act would amend Section 7(c)(1)(A) of the Exchange Act by striking “; and” and replacing it with “; or”. This seemingly innocuous change avoids a potentially problematic reading of the section. Currently, the section reads in a manner where one could conclude that so long as a broker-dealer extended, maintained, or arranged for credit to a customer and the credit was collateralized by securities, then the broker-dealer would not have to abide by the margin rules and regulations of the Federal Reserve Board of Governors. While there may be little risk that any broker-dealer or exchange member would actually argue this interpretation, the amendment will eliminate any potential confusion.
This section of the Act would amend certain provisions of the Securities Investor Protection Act of 1970 (“SIPA”) to add securities futures and options on securities futures to the list of covered claims a customer can make against a broker-dealer that the Securities Investor Protection Corporation ("SIPC") will cover, so long as these positions are carried in a securities account pursuant to a portfolio margining program approved by the SEC. These amendments would open the door for SIPC coverage but would not address the conflicting regulatory requirements of the SEC and the CFTC that prevent securities futures and options on securities futures from being carried in a securities account. However, the amendments will be a positive step towards removing regulatory road blocks to effective portfolio margining that can fully realize the benefits of hedging securities positions with futures positions. The sections amended would include:
- 15 U.S.C. 78fff-3(a)(1) (SIPC Advances);
- 15 U.S.C. 78lll(2) (Definition of Customer);
- 15 U.S.C. 78lll(4) (Definition of Customer Property);
- 15 U.S.C. 78lll(9) (Definition of Gross Revenues); and
- 15 U.S.C. 78lll(11) (Definition of Net Equity).
8. Application of Advisers Act Section 205 to State-Registered Advisers
The Act would clarify that Section 205 of the Advisers Act regarding contractual provisions between clients and advisers does not apply to state registered advisers. This amendment will clarify that certain hedge fund and private equity advisers, who may be subject to state (but not SEC) registration, may charge performance fees that would not be permitted for most SEC registrants.
9. Sharing Privileged Information With Other Authorities
The Act would add a new subsection to Section 24 of the Exchange Act. The new subsection would provide that the SEC shall not be deemed to have waived any privilege by sharing information with another agency of the U.S. government, any foreign securities authority, any foreign law enforcement authority, or any state securities or law enforcement authority. The SEC would not be compelled to disclose privileged information obtained from a foreign securities authority if the authority represents to the SEC that it has made a good faith determination that the information is in fact privileged. No federal agency or state securities or law enforcement authority would be deemed to have waived any applicable privilege by sharing information with the SEC. Nothing in the provision would provide the SEC with a right to refuse disclosure of information to Congress or to refuse complying with an order of a federal court in an action commenced by the United States or the SEC.
10. Nationwide Service of Subpoenas
The Act would amend provisions in the Securities Act, the Exchange Act, the Investment Company, and the Advisers Act to allow for nationwide service of subpoenas. Under the Act, when the SEC institutes a proceeding in U.S. district court in any district, subpoenas issued by the court to compel attendance of witnesses or production of documents may be served in any other district. Such subpoenas could be served and enforced without application to the court or a showing of cause, notwithstanding applicable provisions of the Federal Rules of Civil Procedure.