Antifraud, Competition, and Recordkeeping

The previous sections covered how new issues come to market and which securities are exempt from registration. This section covers the background rules that apply to all of it: the SEC's competition mandate, three distinct antifraud provisions, and the broker-dealer (BD) recordkeeping requirements that create an audit trail.

What competition factors does the SEC have to consider?

The competition mandate imposes a balancing test on the SEC.

When the SEC is making rules or deciding whether an action is "necessary or appropriate in the public interest," it must also consider:

• Efficiency of the markets
• Competition among market participants
• Capital formation

This is why the SEC periodically relaxes exemptions like Regulation D (Reg D) or adopts accommodations like the modernized intrastate-offering safe harbor: the competition mandate tells the agency it cannot focus only on investor protection. The SEC must weigh whether a proposed rule makes capital harder to raise.

Think of it this way: The competition mandate is why Reg D exists at all. Small businesses cannot afford a full registration process, and the mandate forces the SEC to carve out private-placement pathways that keep capital flowing to them.

What does the antifraud provision prohibit?

The Securities Act offer-and-sale antifraud provision applies to fraud in offers or sales, not just registered offerings. It prohibits the use of interstate commerce or the mails to:

• Employ any device, scheme, or artifice to defraud
• Obtain money or property by means of an untrue statement of a material fact or a material omission
• Engage in any transaction, practice, or course of business that operates as a fraud or deceit

What Securities Transactions Does the Antifraud Provision Cover?

The offer-and-sale prohibition applies to registered and exempt offers or sales, including:

• Registered offerings
• Exempt-class securities (government, municipal, commercial paper, nonprofit)
• Reg D private placements
• Intrastate offerings

Registration status does not remove antifraud duties. A separate Exchange Act general purchase-or-sale antifraud rule reaches fraud by any person in connection with a securities purchase or sale. Neither general provision is limited to broker-dealers.

Which Antifraud Prongs Require Scienter?

For SEC civil enforcement under the Securities Act offer-and-sale provision:

• The "device, scheme, or artifice to defraud" prong: requires scienter (intent or recklessness).
• The material-misstatement and fraud-or-deceit prongs: can reach negligent conduct. Scienter is not required.

These prong-specific standards concern the Securities Act provision, not the comparison between the two Exchange Act rules below.

Exam Tip: Gotchas

• The Securities Act prohibition also reaches exempt offers and sales, including private placements. "Exempt from registration" is not "exempt from antifraud." A material misstatement in a commercial paper offering is still actionable.

What manipulative or deceptive devices are broker-dealers prohibited from using?

The broker-dealer antifraud rule is the BD-specific antifraud provision under the Securities Exchange Act (SEA).

• Prohibits a broker or dealer from using any manipulative, deceptive, or other fraudulent device in contravention of SEC rules that are "necessary or appropriate in the public interest or for the protection of investors"
• Operates alongside the Securities Act offer-and-sale prohibition and the Exchange Act general purchase-or-sale rule
• Focuses specifically on BD conduct; the other two prohibitions are not limited to broker-dealers

Exam Tip: Gotchas

• The three antifraud provisions cover different conduct. The Securities Act provision covers offers or sales by any person. The Exchange Act general rule covers purchases or sales by any person. The broker-dealer-specific prohibition targets manipulative or deceptive BD conduct. The trade-confirmation rule, covered in the Customer Records unit, governs confirmation delivery instead.

What records must broker-dealers create?

The broker-dealer record-creation rule requires BDs to create and maintain detailed records of their business activities. It is the "make" side of BD recordkeeping. The companion broker-dealer record-preservation rule (covered later) governs "preserve" and retention periods.

Which Core Records Must a Broker-Dealer Keep?

When Must the Firm Deliver Customer Account Records?

For an account with a natural person as customer or owner, the record-creation rule requires the BD to furnish the customer account record when the firm is, or within the prior 36 months was, required to make a suitability determination:

• Within 30 days of account opening
• At least every 36 months thereafter

The furnishing duty does not apply if no suitability determination was required for the account during the prior 36 months. The customer record must contain the profile information used for suitability determinations.

How Long Must a Broker-Dealer Retain These Records?

Combined with the broker-dealer record-preservation rule, BDs must retain most records for 3 to 6 years, with the first 2 years readily accessible (in the office or electronically retrievable on short notice).

Customer account information has its own clock: the last update, or the original information if it was never updated, must be preserved for at least 6 years after the account closes.

Exam Tip: Gotchas

• The 36-month furnishing cycle is conditional. For a covered natural-person account, the firm furnishes the record within 30 days of opening and at least every 36 months thereafter. If no suitability determination was required during the prior 36 months, this furnishing duty does not apply.

What Should You Check on Exam Day?

• Can you list the three factors the competition mandate forces the SEC to weigh: efficiency, competition, and capital formation?
• Do you know the antifraud provision covers every securities transaction, including exempt securities and Reg D private placements?
• Can you state which antifraud prong requires scienter and which reaches negligent conduct?
• Can you apply the 30-day opening and 36-month furnishing deadlines to a natural-person account, including the exception when no suitability determination was required during the prior 36 months?
• Can you state the broker-dealer record retention rule: 3 to 6 years, with the first 2 years readily accessible?