Exempt Securities - Securities Regulation

Exempt Securities

1. In General

   1. Unlike exempt transactions, exempt securities are permanently exempt from the registration requirements of the '33 Act.

      1. This means not only that issuers of exempt securities are free of the burdens of registration but also that they can be resold without restrictions.

      2. In addition, the issuer is not subject to the periodic reporting requirements of the '34 Act.

   2. BUT two qualifications:

      1. (1) Exempt securities are not exempt from the '33 and the '34 Acts in their entirety

         • Transaction in most exempt securities are still subject to the antifraud provisions of both Acts, and to varying extents § 12(a)(2) of the '33 Act

           • BUT by its terms, § 12(a)(2) does not apply to securities issued under the § 3(a)(2) exemption.

      2. (2) A number of § 3's exemptions pertain to the transaction rather than the security; in these cases, the exemption does not extend to resales

2. § 3(a)(2): Government Securities, Bank Securities, and Collective, Common, or Single Trust Funds.

   1. Government Securities: § 3(a)(2) exempts securities issued or guaranteed by the United States or any of its territories, the District of Columbia, any state, any political subdivision or public instrumentality of a state or territory, or any person acting as an instrumentality of the United States government.

      1. Rule 15c2-12 requires underwriters of any municipal offerings to obtain a disclosure document (called the official statement) from issuers and, except in competitive bid underwritings, make the document available on request to any prospective purchaser.

         • The rule requires underwriters to determine that an issuer has agreed to provide certain ongoing disclosures to the secondary markets.

         • BUT offerings under $1 million and private placements are exempt from the rule.

   2. Bank Securities: § 3(a)(2) exempts securities issued by banks.

      1. Banks is defined to mean any national bank, or any banking institution organized under the laws of a state or the District of Columbia, "the business of which is substantially confined to banking and is supervised by the State or territorial banking commission or similar official."

      2. A U.S. branch or agency of a foreign bank is a bank for purposes of § 3(a)(2), provided that the nature and extent of Federal and/or State regulation and supervision of the particular branch or agency is substantially equivalent to that applicable to Federal or State chartered domestic banks doing business in the same jurisdiction.

   3. Common, Collective, and Single Trust Funds: Interests in common trust funds maintained by banks are exempt under § 3(a)(2).

      1. A common trust is a fund maintained by a bank for investing assets given to the bank in its capacity as a trustee, executor, administrator, or guardian.

         • The bank however must exercise "substantial investment responsibility," and the trust fund must not be used as a vehicle for general investment by the public. See, e.g., The Howard Savings Bank, SEC No-Action Letter (pg. 431)

      2. § 3(a)(2) also exempts collective trust funds maintained by banks.

         • A collective trust fund is a fund maintained as an investment vehicle for tax-qualified pension and profit sharing plans

           • If they pertain to tax-qualified pension and profit sharing plans, single trust funds and contracts issued by insurance companies are also exempt by the section.

3. § 3(a)(3): Short-Term Notes

   1. § 3(a)(3) exempts any note, draft, bill of exchange, or banker's acceptance arising out of a current transaction if the maturity at the time of the issuance does not exceed nine months.

      1. This is the so called commercial paper exemption and only applies to "prime quality negotiable commercial paper of a type not ordinarily purchased by the general public." Securities Act Release No. 4412

         • BUT if instruments ostensibly within the exemption include automatic rollover provisions providing for the automatic reinvestment in new debt instruments at the maturity dates unless investors direct otherwise, the exemption may be lost. See Securities Act Release No. 4412 (pg. 432)

4. § 3(a)(4): Non-Profit Issuers

   1. § 3(a)(4) exempts securities offered by issuers that are organized and operated exclusively for religious, educational, benevolent, fraternal, charitable or reformatory purposes, provided that no part of the earnings of the organization inure to the "benefit" of any person.

5. § 3(a)(5): Securities Issued by Savings and Loans, Cooperative Banks, and Similar Institutions

   1. Securities issued by savings and loan institutions, cooperative banks, homestead associations, and similar organizations are exempt, provided the issuers are supervised and examined by federal or state authorities having supervision over the operations.

   2. This exemption is also available for farmer cooperatives and certain corporations that are exempt from federal taxes.

6. § 3(a)(7): Certain Certificates Issued by Trustees or Receivers in Bankruptcy

7. § 3(a)(8): Insurance Policies and Annuities

   1. insurance and annuity contracts are exempt securities if issued by a corporation subject to regulation by insurance regulators at the state or federal level.

      1. The existence of this exemption suggests that annuity contracts are securities and therefore subject to the antifraud provisions of the Acts.

   2. The § 3(a)(8) exemption was held not to apply to variable annuities. SEC v. Variable Annuity Life Insurance Co. of America (pg. 434)

8. Exchanges Under § 3(a)(9)

   1. § 3(a)(9) exempts "[a]ny security exchanged by the issuer with its existing security holders exclusively where no commission or other renumeration is paid or given directly or indirectly for soliciting such exchange."

   2. Issue: Whether this exemption applies where a security is convertible into another security.

      1. When the convertible security's terms do not permit immediate conversion, § 3(a)(9) is available for the later delayed conversion subject to § 3(a)(9)'s limitations with respect to exclusivity and its bar to paid solicitors.

      2. If the terms allow for immediate conversion, then there is a present offer under § 2(a)(3).

         • In this case, does a prospectus needed to be provided with the convertible security (e.g. preferred stock that is convertible to common stock)?

           • Although § 3(a)(9) is not considered to exempt the initial offer of the common stock from the registration requirements of §§ 5(a) and 5(c), it is considered to exempt its actual issuance from the prospectus requirements § 5(b).

           • More than that, the exemption extends also to the continuing offer of the common inherent in the convertible securities once they have all been issued, so that it is not necessary for the issuer to use a series of nine-month prospectuses under § 10(a)(3) as long as the convertible security is outstanding.

   3. Issue: Exclusivity limitation

      1. The exemption is lost if the offering includes those who are not the issuer's existing security...