State regulators urge Congress not to expand private securities markets

State securities regulators Thursday called on Congress not to erode their oversight of private capital raising, pointing out that sales of unregistered securities often are a cause of investor harm.

“State securities regulators oppose policies designed to expand the opaque, minimally regulated private markets,” the North American Securities Administrators Association states in its 2023 federal policy agenda. “Expanding these markets would exacerbate an already critical problem for our nation and our capital markets — nobody, including businesses, investors, legislators and regulators, has a clear line of sight into these private securities markets.”

Unregistered securities, also known as private placements, can only be sold to accredited investors who meet certain wealth and income thresholds. But Justin Burse, deputy commissioner of the Kentucky Department of Financial Institutions, said they often don’t understand what they’re getting into.

“Not even the sophisticated, well-funded investors have access to adequate information about the operations of private companies,” Burse said during a NASAA webinar Thursday.

NASAA President Andrew Hartnett illustrated the potential dangers of private securities transactions.

“States took at least 121 administrative actions against unregistered offerings in 2021,” said Hartnett, who is Iowa deputy insurance commissioner. “These offerings involved billions in investments. Even setting aside some of the huge unregistered crypto securities cases, these cases involved tens of millions of dollars of investor money and millions of dollars of restitution. This is important work.”

State regulators are asking Congress to preserve state authority to register small offerings, especially those under $500,000, and to require notice to states of certain securities transactions. They also are seeking to have federal financial regulators to establish a “bad actors” database.

Other NASAA priority requests to Congress include legislation that would require disclosure by the largest private companies, strengthen the Securities and Exchange Commission’s definition of an accredited investor, and fund an SEC study of private and public markets. They also want Congress to require the SEC’s office of the advocate for small business capital Formation to coordinate more with state regulators.

“Any further erosion of the state authority to register offerings with the states, require notices to the states of securities transactions and otherwise promote responsible capital formation within their states is simply dangerous for businesses, investors and our capital markets,” the NASAA agenda states.

The goals NASAA outlined are likely to put the organization on a collision course with Republican lawmakers, who have made reducing regulatory barriers to capital formation a priority. The GOP controls the House, where such legislation has a good chance of being approved. It may hit a wall, however, in the Senate, where Democrats are in the majority.

The NASAA officials on the webinar didn't choose to address an audience question about the political prospects for their agenda.

Advocates for expanding private markets assert it will provide the capital that start-up businesses need to grow and create jobs while giving investors an avenue to increase their returns.

Hartnett said state regulators don’t oppose capital formation done “the right way” and have attempted to bolster investment in emerging businesses by underrepresented populations.  

“We’re trying to work on this on both ends,” he said. “We’re both trying to help entrepreneurs build their businesses and trying to ensure that those raising money do so the right way, and taking action when they do not.”

The state regulators also are asking Congress to preserve the existing securities regulations as it works on legislation regarding digital assets. They don’t want themselves or the SEC to be displaced, for instance, by a self-regulatory organization for cryptocurrency.

“We believe state and federal securities laws apply to the majority of tokens, crypto assets and other products out there,” said Claire McHenry, deputy director of the Nebraska Department of Banking and Finance Bureau of Securities. "Long before the FTX [crypto exchange] collapse, state securities regulators were hard at work in this space to protect Main Street investors.”