The United States Securities and Exchange Commission (the “SEC”) recently alleged in a civil complaint a legal position that potentially places a common interpretation of Minnesota’s securities registration exemptions at risk of violating federal securities laws. In December 2012, the SEC filed an action (SEC v. Danny Garber, et al., 12-civ-9339 (S.D.N.Y.)) challenging, among other allegations, a 2006 Minnesota statute that exempted certain securities offerings from registration, claiming that the Minnesota statute failed to comply with Rule 504(b)(1)(iii)’s exemption requirements under the Securities Act of 1933. The SEC alleged that the Minnesota statute did not satisfy Rule 504’s exemption requirements because the provision failed to limit sales and securities offerings to “accredited investors” and instead exempted from registration any offering to “institutional buyers,” which according to the SEC included but was not limited to accredited investors.

Under the Securities Act of 1933, any offer or sale of securities must be either registered with the SEC or fall under a specific exemption from the registration requirements. Rule 504(b)(1)(iii) exempts securities offerings up to $1 million from Securities Act registration where the offerings are made exclusively according to state law registration exemptions that permit general solicitation and advertising that is limited to accredited investors.

Under the 2006 Minnesota exemption, which has since been repealed, an institutional buyer included corporations with a class of equity securities registered under Section 12(b) or 12(g) of the Securities Exchange Act of 1934, qualified institutional buyers defined in Rule 144A of the Securities Act, and accredited investors defined in Rule 501(a) of the Securities Act. See Minn. Stat. 80A.15(2)(g) (repealed 2006). Minnesota’s current statutory scheme expressly incorporates Rule 501(a)’s accredited investor definition, but similar to its 2006 exemption, its registration exemption is not limited to accredited investors—securities offerings to accredited investors, institutional investors, federal covered investment advisers, and any other person excepted by Minnesota rule are all exempt from registration. See Minn. Stat. 80A.46 § 202(13)(A)–(D) and 80A.41 § 102(1), (12) (Lexis 2013).

Consequently, it would appear that Minnesota’s current statutory scheme does not comply with Rule 504’s exemption requirements, according to the SEC’s interpretation of Minnesota’s 2006 provisions. The problem for the securities markets is that many transactions over the years have been conducted with the assumption by private securities law practitioners that: (a) Minnesota’s statute qualifies under Rule 504, and (b) the Rule 504 exemption enables the transaction to result in freely trading securities to be issued, i.e., securities with no holding period. The private practitioners would also have support from the fact that SEC Rule 504 was promulgated under Section 3 of the Securities Act of 1933, a statute that exempts certain specified classes of securities from registration. The SEC’s litigation position implicitly must turn on the theoretical possibility that unaccredited investors could be included in the ranks of registered investment advisers, or because 12(b) or 12(g) reporting companies could have less net worth than is required of an accredited investor, or because the State of Minnesota has discretion to create a rule that might exempt unaccredited investors from state registration requirements. Then are Rule 504 transactions involving properly accredited Minnesota investors at risk of violating the federal registration requirements? Apparently so if the SEC’s litigation position is sustained, unless a cogent argument by the defense is raised that Rule 504 cannot be interpreted in a manner that conflicts with Section 3 of the Securities Act.

The SEC’s articulated position that Rule 504’s exemption requirements were not applicable to Minnesota’s statute underscores the potential liability and risk that many securities attorneys face in issuing attorney opinion letters regarding Minnesota’s registration exemption. Absent clarification of the validity of Minnesota’s registration exemption under Rule 504, attorneys run the risk of violating federal securities laws; if Minnesota’s registration exemption is not applicable under Rule 504, then purchasers are required to satisfy the mandated holding period, and attorney opinion letters to the contrary would be in violation of federal securities laws. Further research and clarification is needed to ensure that securities attorneys are not unknowingly violating the federal securities laws.