State Antifraud Authority

This is the single most important concept in this unit, and one of the most frequently tested topics on the entire Series 66 exam. No matter what exemptions apply, antifraud provisions are always in play.

The Core Rule

States retain full antifraud authority over securities activity with a sufficient connection to their state (offers/sales originating in, directed into, or accepted in the state), regardless of registration status. This includes:

• Federal covered securities (NYSE-listed stocks, mutual funds, valid Regulation D private placements)
• Exempt securities (government bonds, municipal securities, bank securities)
• Exempt transactions (private placements, unsolicited trades, institutional sales)
• Registered securities (securities that went through state or federal registration)

Registration status creates no exception. If fraud occurs in connection with the offer, sale, or purchase of any security with the required territorial connection to the state, the state administrator has jurisdiction to investigate and take enforcement action.

What Antifraud Authority Means in Practice

The state securities administrator can:

• Investigate suspected fraud involving any security, regardless of its registration status
• Bring enforcement actions (administrative proceedings, civil actions, referrals for criminal prosecution)
• Issue cease and desist orders to stop ongoing fraudulent activity

Antifraud Provisions Cannot Be Waived

• No contract, condition, or stipulation can bind a securities purchaser or advice recipient to waive compliance with the USA, its rules, or an administrator's orders going forward
• An investor cannot sign away their right to be protected from fraud
• Even sophisticated or accredited investors retain antifraud protections

Exam Tip: Gotchas

• A prospective waiver of antifraud protection is void. If the exam describes an agreement or contract clause attempting to waive compliance with the Act in advance, the answer is that the waiver provision is void and unenforceable.

The Interplay with Federal Preemption

The National Securities Markets Improvement Act (NSMIA) preempts state registration requirements for federal covered securities. But NSMIA explicitly preserves state antifraud authority.

Exam Tip: Gotchas

• Exempt from registration does NOT mean exempt from antifraud. This is the most frequently tested concept in this unit. Even U.S. government bonds and completely exempt transactions are subject to state antifraud authority.
• If a question asks what a state can do regarding a federal covered or exempt security, the answer almost always includes "enforce antifraud provisions."
• Exchange-listed securities (NYSE, Nasdaq, and similar) are the exception to the notice filing row above. Investment-company shares and Regulation D placements are the commonly tested categories that carry a state notice filing (other non-listed federal covered categories can too). Federal law bars states from requiring any filing or fee at all on exchange-listed securities, so there is nothing to fail to file and no basis for a stop order against them. Antifraud authority still applies regardless.

Common Exam Scenarios

Here are the patterns the exam uses to test this concept:

Scenario 1: "A security is exempt from state registration. Can the state administrator take action if fraud is involved?"

• Answer: Yes. Antifraud authority applies to ALL securities.

Scenario 2: "A valid Regulation D private-placement exemption (traditional or verified-accredited, not the small-issue exemption) is a federal covered security. What can the state require?"

• Answer: Notice filing, fees, and antifraud enforcement. The state cannot require registration.

Scenario 3: "An investor's contract includes a clause requiring them to prospectively waive compliance with the Act before any dispute has even arisen. Is that clause enforceable?"

• Answer: No. A prospective waiver of compliance with the Act is void (this differs from a bargained settlement releasing an already-existing fraud claim, which can be valid).

The Advisory Antifraud Provision

Everything above is the general antifraud provision: it applies to any person, triggered by an offer, sale, or purchase of any security. The USA also has a narrower, advisory-specific rule that applies without a securities transaction.

The advisory antifraud provision has two prongs:

The core fraud prohibitions have no exemption, though the administrator can adopt limited exemptions from certain advisory provisions by rule or order (e.g., a broker-dealer customer transaction where the firm isn't acting as an adviser with respect to that transaction). Both provisions (general and advisory) can apply to the same conduct.

Four Prohibited Acts Under the Rendition-of-Advice Prong

• Employing any device, scheme, or artifice to defraud
• Engaging in any act, practice, or course of business that operates as a fraud or deceit
• Principal trading, or acting as broker for a party other than the client (an agency cross transaction), without written disclosure and the client's informed consent
• Engaging in dishonest or unethical practices as the administrator may define by rule

Principal Trading Disclosure

When an adviser acts as principal in a transaction with a client (buying from or selling to the client out of the firm's own inventory), the rule requires:

• Written disclosure of the capacity the adviser is acting in (oral disclosure does not satisfy the rule)
• The client's informed consent before completion of the transaction (not after); the consent itself need not be in writing, but it must be obtained transaction-by-transaction
• Disclosure and consent on a per-transaction basis (a blanket consent at account opening does not satisfy the rule for future transactions)

Agency Cross Transactions

When an adviser acts as broker for a party other than the client on the other side of the client's trade (an agency cross transaction), the consent mechanics differ from a straight principal trade.

Full written disclosure is still required. But the client's consent may be obtained prospectively (in advance, in writing, covering future agency cross transactions), rather than transaction-by-transaction, provided the disclosure and consent otherwise meet the rule's conditions.

Exam Tip: Gotchas

• Existing client, no completed transaction (a portfolio review, a recommendation) is rendition of advice, not solicitation, even when the adviser makes a false statement. Solicitation only covers attracting new clients.
• Principal trading is not prohibited, but it requires written, per-transaction disclosure and the client's informed consent obtained before completion. A blanket consent at account opening does not satisfy the rule; the disclosure (not the consent itself) is what must be written.
• Don't confuse principal trading with agency cross transactions: principal trading needs transaction-by-transaction consent, while an agency cross transaction can be covered by advance written consent, since the adviser isn't trading against the client out of its own account.

What Should You Check on Exam Day?

• Can you state that states retain full antifraud authority over securities with a sufficient connection to their state, regardless of registration status?
• Do you know that a prospective waiver of antifraud protection is void, even for sophisticated or accredited investors?
• Can you explain how NSMIA preempts state registration of federal covered securities but preserves antifraud authority?
• Do you know exchange-listed securities owe no notice filing or fee at all, unlike investment-company and Regulation D federal covered securities?
• Can you distinguish the advisory antifraud provision's two prongs: rendition of advice (existing clients, no transaction needed) and solicitation (new clients)?
• Do you know principal trading requires written, per-transaction disclosure and consent before completion, while an agency cross transaction allows properly documented advance written consent instead?