Will the States Reassert Control over the Regulation of Private Offerings?
Hedge Fund Law Report
Since passage of the Securities Act of 1933 and the Securities Exchange Act of 1934, regulation of public offerings of securities has largely been the province of federal, as opposed to state, regulators. Just over 60 years after passage of those laws, Congress confirmed in the National Securities Markets Improvement Act of 1996 (NSMIA) that regulation of private offerings of securities would also fall primarily within the federal jurisdiction. Specifically, NSMIA provides that the federal regulation of certain private offerings preempts state regulation, although states retain the authority to enforce anti-fraud rules in connection with such offerings. That is, the federal government has ex ante regulatory authority, and the states have ex post anti-fraud enforcement authority. To a growing chorus of state securities regulators, that ex post enforcement authority is not sufficient to police and prevent fraud and other wrongdoing in connection with private offerings. While a reversal of the preemption effected by NSMIA does not appear to be imminent, the agitation by state securities regulators is cause for concern among hedge fund managers that offer interests privately. This article examines the structure of Regulation D (Reg D), the safe harbor under the Securities Act of 1933 (Securities Act) under which many hedge funds offer interests; the limited anti-fraud enforcement authority retained by the states in connection with Reg D offerings, and the absence of any precedent for the invocation of that authority; recommendations for changes to private offering regulation recently espoused in an audit of the Reg D process conducted by the SEC’s Office of the Inspector General (OIG); and the possibility of greater state involvement in regulation of Reg D offerings.