For many business lawyers, securities law can feel like a complex and intimidating field. However, nearly every lawyer working with businesses – whether in corporate transactions, finance, real estate, or employment law – will encounter securities law compliance issues at some point. The key is knowing when a transaction involves the issuance of a security and recognizing when to bring in a securities lawyer.
This article provides a high-level overview of U.S. securities law for non-securities lawyers, helping you identify red flags and understand the fundamental principles of securities regulation. Remember, securities are regulated at both the federal and state levels, meaning an offering could involve SEC regulations and multiple state securities laws.
What Is a Security? More Than Just Stocks and Bonds
Many assume that securities law only applies to publicly traded companies on the New York Stock Exchange. In reality, securities laws affect private companies, startups, real estate investments, and private equity funds, as well as businesses raising capital from friends and family.
Under the Securities Act of 1933, a security is broadly defined and includes:
- Stocks and bonds
- Limited partnership interests
- Convertible notes and SAFEs
- Investment contracts (such as real estate investment deals, token sales, and joint ventures)
The key test used to determine whether an instrument is a security is the Howey Test, established in SEC v. W.J. Howey Co. (1946). An investment is considered a security if:
- It involves an investment of money
- In a common enterprise
- With an expectation of profits
- Primarily from the efforts of others
If a transaction meets these criteria, it is likely a security, meaning federal and state securities laws apply – even if the parties involved did not realize it.
Why It Matters: The Risks of Violating Securities Laws
Securities laws exist to protect investors from fraud and ensure they receive the necessary disclosures before making investments. Companies issuing securities must comply with federal securities laws and state blue sky laws.
Failure to comply can lead to serious consequences, including:
- Rescission rights: Investors may demand their money back.
- Regulatory enforcement: The SEC, state regulators, or FINRA can investigate and penalize companies for improper securities offerings.
- Criminal liability: In extreme cases, willful violations can result in criminal charges.
For business lawyers, the biggest risk is advising on a deal that involves unregistered securities – without ensuring proper exemptions or disclosures. In some cases, lawyers can be held liable for aiding and abetting securities fraud. Additionally, many malpractice insurance policies exclude coverage for securities-related claims unless a special rider is in place.
Common Situations Where Securities Laws Apply
Even if you don’t practice securities law, you may encounter situations that trigger securities regulations. Here are some common examples:
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Startup Fundraising and Private Offerings
Whenever a startup raises money from investors, whether through SAFEs, convertible notes, or equity rounds, it is issuing securities. These transactions must comply with Regulation D (Rule 506(b) or 506(c)) or another exemption.
Key Considerations:
- Hiring Finders: Some startups use finders to locate investors. Paying unregistered finders can lead to securities violations if they are not properly registered.
- Regulation D Compliance: Most private placements rely on Reg D exemptions, requiring proper filings with the SEC and state regulators.
When to call a securities lawyer: If a client is raising capital or hiring a finder, they need securities law guidance to ensure compliance.
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Private Investment Deals & Joint Ventures
Not all business partnerships involve securities, but when passive investors contribute money and expect profits from others’ efforts, securities laws likely apply.
Example:
A real estate developer raises funds from passive investors, promising them a share of rental income and resale profits. This likely qualifies as a security, requiring compliance with securities regulations.
When to call a securities lawyer: If investors are passive and not actively involved in managing the business, securities laws may apply.
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Employee Equity Compensation & Stock Plans
Issuing stock or stock options to employees, advisors, or consultants involves securities laws, including compliance with Rule 701 and state equivalents.
When to call a securities lawyer: If a company is granting stock or expanding an equity compensation plan, securities compliance should be reviewed.
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Mergers, Acquisitions, and Business Sales
If a business sale involves stock transfers, seller-financed equity, or investor rollovers, it may be a securities transaction.
When to call a securities lawyer: If a deal involves stock instead of cash, securities laws could apply.
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Crowdfunding & Online Investment Platforms
With the rise of Regulation Crowdfunding (Reg CF) and online investment platforms, more companies are raising capital online. These transactions require strict SEC compliance.
When to call a securities lawyer: If a client is raising money through crowdfunding or token sales, securities regulations must be followed.
How Securities Laws Regulate Offerings: Registration vs. Exemptions
Most securities transactions must either be registered with the SEC or fall under an exemption.
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SEC Registration (Public Offerings)
Public companies must register securities with the SEC, file disclosures, and comply with ongoing reporting requirements under the Securities Exchange Act of 1934.
Example:
An IPO (initial public offering) requires full SEC registration and strict compliance with securities laws.
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Private Placement Exemptions
Most private companies raise capital through exemptions, avoiding full SEC registration. The most common exemptions include:
- Regulation D (Rule 506(b) or 506(c)) – Used for venture capital and angel investment fundraising. The most widely used exemption.
- Regulation A+ – Allows larger private offerings with some public-style disclosures.
- Regulation CF – Permits crowdfunding up to $5 million per year, but compliance is complex.
When to call a securities lawyer: If a client is raising capital, a securities lawyer can ensure they choose the right exemption and file proper disclosures.
Key Takeaways for Non-Securities Lawyers
- When in doubt, assume it’s a security. If passive investors are involved, securities laws likely apply.
- Fundraising requires compliance. Even private companies must follow SEC and state securities laws.
- Reg D is the most common exemption. But proper filings are still required.
- Misleading investors leads to liability. Even in private deals, full disclosure is critical.
- Paying finders can be risky. Ensure compliance before engaging an unregistered broker.
- Fixing securities mistakes is costly. Getting legal guidance upfront prevents regulatory headaches.
Need Help with Securities Compliance?
Securities laws can be complex, but understanding their implications can help protect your clients from regulatory trouble. The Securities Team at Avisen Legal can help navigate the rules and ensure compliance.
Get Professional Guidance Today: If you or your client needs help navigating securities regulations, contact the Securities Team at Avisen Legal for tailored legal support.
