Although the Securities and Exchange Commission (SEC) has broad regulatory power, the Series 66 tends to focus on the state administrator. This unit primarily covers enforcement under state-based rules and regulations. When a federal rule or regulation applies, it will be noted.
The state administrator has many responsibilities related to supervising the securities markets and financial professionals. The Uniform Securities Act (USA) is enacted by legislators, and the administrator enforces the provisions in that law. The administrator can’t change the USA, but they do interpret and enforce it. This is similar to a police officer: they can’t rewrite the law, but they do have discretion in how they apply it.
The administrator’s most important role is enforcing the USA’s anti-fraud provisions. Protecting investors from being taken advantage of by financial professionals, issuers of securities, and even other investors is their central function. To do that, the USA gives the administrator these powers:
We covered the registration of persons and securities in the previous unit. Registration gives the administrator a “gatekeeper” role. If the administrator can show that an action affecting a person’s registration status is in the public interest*, they have broad authority to keep that person out of the industry (temporarily or permanently).
*Any action taken against a person’s registration status must qualify as “in the interest of the public.” Technically, if it cannot be argued to benefit the public in some way, the administrator cannot deny, suspend, or revoke a registration.
If an applicant has a checkered past, their registration may be denied. That’s why the application process requires extensive disclosure: it helps prevent bad-faith actors from entering the securities industry.
Once registration becomes effective, the administrator continues to monitor a registered person’s or issuer’s activities for compliance with securities laws and regulations. Certain events or conduct can put a person’s or security’s registration at risk. If the situation is serious enough, registration can be suspended or revoked:
The specifics of denials, suspensions, and revocations are covered later in this unit.
If an agent or investment adviser representative’s (IAR’s) registration is suspended or revoked, that action doesn’t affect the firm’s registration. However, if a broker-dealer or investment adviser’s registration is revoked, all employee registrations become inactive. An agent or IAR must be associated with a broker-dealer or investment adviser to be properly registered. If the firm loses its registration, the representative can’t operate on that firm’s behalf.
Even so, the representative may re-associate with a different firm and then apply for registration.
Denials, suspensions, and revocations are punitive actions (punishments) the administrator can take against an applicant or registrant. A person’s or security’s registration can also be withdrawn or canceled, which typically isn’t punitive (covered in a future chapter). Bottom line: managing registration is one of the administrator’s core powers, and it determines which financial professionals and securities may access the investing public.
If the administrator has reason to believe an unethical or illegal act has occurred in their state, they have broad investigatory powers. In most cases, investigations begin with complaints and tips from the public. According to the North American Securities Administrators Association’s (NASAA’s) 2019 report, state administrators received over 8,000 complaints, which led to 5,320 investigations. Those investigations resulted in 1,640 enforcement actions.
This power has several layers, so it helps to look at the USA’s language:
The administrator may conduct public or private investigations within or outside of this State that the administrator considers necessary or appropriate to determine whether any person has violated, is violating, or is about to violate [the USA]
An investigation may be:
Investigations may occur within or outside the administrator’s state, but the administrator must have jurisdiction. You’ve probably heard the term on shows like COPS. Police officers generally have authority only within the city or state where they operate. If an illegal act occurs outside that area, they typically can’t prosecute it. The same concept applies to the state administrator.
The administrator has jurisdiction if a financial professional (registered person) and/or client was physically in their state during:
*Please visit the links above if you need a refresher on the legal definitions of offers and sales. The details are important!
We discussed federal-covered advisers previously. As a reminder, these are typically larger advisers (based on assets under management). The SEC primarily regulates these advisers, so can a state administrator investigate them? Sometimes. A state administrator may investigate a covered adviser only if they suspect the adviser is committing fraud in that state. Otherwise, the administrator’s authority over federal-covered advisers is generally limited to requiring a notice filing.
If jurisdiction exists, the administrator may investigate any registered person or issuer. An investigation might lead to a punishment, such as a suspension or revocation, or it may result in no action. It depends on what the administrator finds.
The administrator may require or permit a person to testify, file a statement, or produce a record, under oath or otherwise as the administrator determines, as to all the facts and circumstances concerning a matter to be investigated or about which an action or proceeding is to be commenced.
The administrator has subpoena power and may require a person to provide information on a given subject. However, the administrator may not violate a person’s 5th amendment right against self-incrimination. Under the immunity procedure, the administrator can’t force a person to testify if that testimony could lead to criminal proceedings against them.
The administrator may publish information concerning an action, proceeding, or an investigation… if the administrator determines it is necessary or appropriate in the public interest and for the protection of investors.
The administrator may publicly disclose information about an investigation, but isn’t required to do so. If a punitive action is taken against a person or issuer, the results are usually disclosed publicly.
A key part of the administrator’s job is interpreting and enforcing the USA. To support compliance, the administrator may create rules, forms, orders, and notices.
Rules
A rule is used when a legal provision needs clarification or further interpretation for all registered persons and related parties. Rules may be created and applied across states through NASAA, or created by a specific state administrator for that state only. For example, here’s an NASAA rule relating to investment advisory contracts. The USA addresses these contracts, but additional interpretation was needed.
Orders
Orders are similar to rules, but they usually apply to a specific person or situation. For example, here’s an order from New Mexico’s administrator relating to single-agent broker-dealers during COVID-19. The order doesn’t apply to all broker-dealers - only those with a single agent.
A common type of order is a cease and desist order. These are formal warnings that may be issued before legal action is pursued. If the administrator believes unethical or illegal conduct may be occurring, they can issue a cease and desist as a warning. There’s no legal requirement that further action must follow, so it’s possible nothing happens after the order - especially if the conduct stops.
If the administrator believes the conduct is continuing, they may petition a court for an injunction. If a judge agrees, the injunction legally requires the person to stop the activity. The administrator can’t issue an injunction directly, but they can work through the court system to obtain one.
An injunction can limit harm to investors in the short term while an investigation is still ongoing. After the investigation is complete, the administrator may pursue several actions:
*All of these actions are discussed in detail later in this unit. Follow the links above for more information.
Forms
Forms are a major tool for making required disclosures. The administrator can create, change, or remove forms to help ensure registered persons comply with the USA. The law requires certain disclosures, and the forms help standardize how that information is provided. These are the primary forms to know for the exam:
| Form | Use |
|---|---|
| Form BD | Broker-dealer registration form |
| Form ADV | Investment adviser registration form |
| Form ADV-E | Audit result form for advisers taking custody |
| Form ADV-W | Investment adviser registration withdrawal form |
| Form U4 | Agent & IAR registration form |
| Form U5 | Agent & IAR registration withdrawal form |
Notices
Notices are public announcements about a situation or market condition. For example, here’s a notice from Colorado’s state administrator about operations during the COVID-19 crisis. The notice explains that staff are primarily working from home, examinations are being performed remotely, and licensing (registration) applications continue to be processed normally.
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