What the Heck Is a Willful Violation?

Let's see how the Uniform Securities Act explains the meaning of the term "willful violation." The notes to the USA state: As the federal courts and the SEC have construed the term “willfully” in § 15(b) of the Securities Exchange Act of 1934, 15 U.S.C. § 78o(b): all that is required is proof that the person acted intentionally in the sense that he was aware of what he was doing. Proof of evil motive or intent to violate the law, or knowledge that the law was being violated, is not required. So, don't think for a moment that a willful violation occurs because the person clearly knew he was violating the law or maybe even the specific statute.  No, no, no. The so-called "investment adviser" was not declared mentally incompetent at the time she created a little-pretend family of mutual funds. So . . . she obviously knew the "mutual fund investments" she was "selling" to people were bogus. Willful violation. Of course, the New Jersey Bureau of Securities took away her license as an RIA. . . more importantly, the attorney general's office got a plea bargain out of her in a criminal proceeding leading to PRISON time. For more on this case, see http://www.nj.gov/oag/newsreleases08/pr20080429c.html.

But, that's just ONE example of a "willful violation." A "willful violation" could involve a financial planner getting her license revoked by the state but continuing to offer and provide financial planning services, anyway. That could--believe it or not--lead to criminal penalties. But that would be highly unusual.

The Uniform Securities Act  makes it clear that one can defraud an investor without any intent to defraud. Through negligence, incompetence, or breach of fiduciary duty, you can be sued and/or lose your license, but it's not a crime to buy somebody an inappropriate security. It's just often a career-ender. Check out what the Uniform Securities Act has to say at the very beginning: Part I Fraudulent and Other Prohibited Practices

Sec. 101. [SALES AND PURCHASES.] It is unlawful for any person, in connection with the offer, sale or purchase of any security, directly or indirectly

(1) to employ any device, scheme, or artifice to defraud,

(2) to make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they are made, not misleading, or

(3) to engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person.

OKAY, notice the last two lines under (3)??That means that a sloppy/incompetent/negligent person can violate the securities laws of the state by "engaging in a course of business which does or would operate as a fraud." How? Because the dude is so incompetent that all investors likely get bad information or no information. He's not going to jail; he's just going into a new industry at his earliest convenience. For example, a few years ago a new registered representative in Illinois had an elderly client who wanted "government bonds for safety and income." Dude bought her government bonds . . . issued by Honduras and Nicaragua. Was the investor defrauded? Yes. Did the dude go to jail? No. And since he didn't mean to hurt anyone, he's still a registered representative, right? Wrong. He acted in a way that operated as a fraud on the investor. He's not a criminal; he's just incompetent. And now, he's in a new line of work, hopefully one more suited to his particular skill set.

How to think about SECURITIES

When confronting tough questions concerning securities, try to process the information like this:


1. Is the INVESTMENT of money a SECURITY? 
     If so, it is subject to the state's anti-fraud authority.
2. Is the security exempt? 

3. Is the transaction exempt? 
      If no on both questions--somebody forgot to get the thing registered!


Okay, let's apply that little list. An indexed annuity is outside the scope of the SECURITIES act, so it's not even subject to the Uniform Securities Act's anti-fraud statutes. On the other hand, a church bond is merely an exempt SECURITY. That means it escapes registration fees and paperwork but is still subject to the Uniform Securities Act's anti-fraud statutes. Finally, a private placement involves a NON-exempt security being offered/sold in a special way. The people connected to the offer, sale, or purchase of this security are all subject to the state's anti-fraud authority.


Now you see why the Howey Decision was so important--if the respondent's lawyers can convince the hearing officer or judge that the investment was not a security, the client walks. Right? If it's not a security . . . it's not a security. If it IS a security it IS subject to anti-fraud rules AND will either need to be registered or exempted from registration.

more help

The Administrator

The Series 65 and Series 66 are obsessed with the Uniform Securities Act. You will see tons of questions about securities registration and registration/exemptions for agents, advisers, etc. You will also see challenging questions about what the Administrator can and can't do, or what he would or would not do given various made-up little scenarios. For example, the following question should look pretty similar to something you'll see on your exam:

Under the Uniform Securities Act, the Administrator may bring an action in a court of law to force an agent to
A. resign from the firm
B. retake his exam
C. return money to a client
D. none of the choices listed

EXPLANATION: the true bad boys in the business often blow off Administrative orders, which are outside the realm of criminal complaints. For example, Chrisopher Maltasanti might not become overly concerned about the New Jersey Bureau of Securities' little "cease and desist order," even if he would probably quake in his boots over an arrest warrant from the FBI. So, if somebody is thumbing his nose at the Administrator, the Administrator can bring an action in court to request that the judge help to get the person's attention. The judge, if persuaded that it's necessary and in the public interest, can then issue a court order designed to convince the person breaking the rules to comply with the Administrator's cease & desist order. The Uniform Securities Act says [verbatim] "upon a proper showing by the [Administrator] the court may enter an order of rescission, restitution or disgorgement directed to any person who has engaged in any act constituting a violation of any provision of this act, or any rule or order hereunder." The "rescission, restitution or disgorgement" tells us that the answer is "C." To illustrate how this might play out, let's say that an unregistered adviser engages in some self-dealing in which he charges clients "management fees" in order to put them into "securities" of various deadbeat companies he owns, and no disclosure is provided that he owns the companies or how much debt they've accumulated with no hope of profits, and all clients lose big money. Happens all the time, believe it or not. And when it happens, the Administrator could file a civil action asking the court to issue an order that forces the shady guy to give back his advisory fees and give the clients their original money plus interest. The fact that the guy will NEVER be granted a securities registration of ANY kind is a foregone conclusion, by the way.