Opinion ID: 2105662
Heading Depth: 1
Heading Rank: 5

Heading: Can the State Use Aiding and Abetting to Establish Secondary Liability for Violations of the Antifraud Provisions of Iowa Code Section 502.401?

Text: The State alleged that McHose aided and abetted the violation of securities fraud as defined in Iowa Code section 502.401. In his answer McHose asserted that chapter 502 prohibits the State from using aiding and abetting to establish secondary liability for securities fraud violations. As McHose points out, the district court concluded the State had failed to prove McHose aided and abetted the violation of securities fraud as defined in section 502.401. The court therefore did not address the issue McHose raised in his answer and now raises here. A. Aiding and abetting securities violations. Aiding and abetting is `a method by which courts create secondary liability' in persons other than the violator of the statute. Central Bank, N.A. v. First Interstate Bank, N.A., 511 U.S. 164, 184, 114 S.Ct. 1439, 1452, 128 L.Ed.2d, 119, 137 (1994) (quoting Pinter v. Dahl, 486 U.S. 622, 648 n. 24, 108 S.Ct. 2063, 2079 n. 24, 100 L.Ed.2d 658, 683 n. 24 (1988)). In Central Bank, the Supreme Court refused to extend private civil liability under § 10(b) of the Securities Exchange Act of 1934 to parties who merely aid and abet manipulative or deceptive practices. Id. at 191, 114 S.Ct. at 1455, 128 L.Ed.2d at 141. The court refused to do so [b]ecause the text of § 10(b) does not prohibit aiding and abetting. Id. Section 10(b) is the general antifraud provision of the 1934 Securities Exchange Act and provides in part: It shall be unlawful for any person, directly or indirectly, by the use of any means or instrumentality of interstate commerce or of the mails, or of any facility of any national securities exchange .... (b) To use or employ, in connection with the purchase or sale of any security registered on a national securities exchange or any security not so registered, any manipulative or deceptive device or contrivance in contravention of such rules and regulations as the [Securities and Exchange Commission] may prescribe. 15 U.S.C. § 78j (1996). In 1942, the Securities and Exchange Commission adopted rule 10b-5 pursuant to § 10(b). Rule 10b-5 provides: It shall be unlawful for any person, directly or indirectly, by the use of any means or instrumentality of interstate commerce, or of the mails or of any facility of any national securities exchange, (a) To employ any device, scheme, or artifice to defraud, (b) 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 were made, not misleading, or (c) To engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person, in connection with the purchase or sale of any security. 17 C.F.R. § 240.10b-5 (1996). Our securities law has an antifraud provision that has language similar to the language in rule 10b-5. See Iowa Code § 502.401. Section 502.401 provides: It is unlawful for any person, in connection with the offer to sell, offer to purchase, sale or purchase of any security in this state, 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. Similar to § 10(b) and rule 10b-5, section 502.401 does not expressly provide for secondary liability through aiding and abetting. Iowa Code section 502.503 does, however, have an aiding and abetting provision. Section 502.503 provides in part: 1. Affiliates of a person liable under either section 502.501 [sellers of unregistered securities] or 502.502 [sellers of registered and unregistered securities who sell in violation of antifraud provisions of section 502.401], partners, principal executive officers or directors of such person, persons occupying a similar status or performing similar functions for such person, persons (whether employees of such person or otherwise) who materially aid and abet in the act or transaction constituting the violation, and broker-dealers or agents who materially aid and abet in the act or transaction constituting the violation, are also liable jointly and severally with and to the same extent as such person, unless: .... b. With respect to section 502.502 [fraudulent practices], subsection[ ] 2 [seller of unregistered securities in violation of antifraud provisions of section 502.401]..., any person liable hereunder proves that the person did not know, and was not grossly negligent in failing to know, of the existence of the facts by reason of which the liability is alleged to exist. (Emphasis added.) B. Person or affiliate status. McHose claims he was neither an affiliate of any of the defendants liable under sections 502.501 or 502.502 nor a partner, principal executive officer or director of any such defendants. McHose ignores the following broad language in section 502.503(1): [P]ersons (whether employees of [a person liable under either section 502.501 or 502.502] or otherwise) who materially aid and abet in the act or transaction constituting the violation ... are ... also liable jointly and severally with and to the same extent as [persons liable under either section 502.501 or 502.502.] We agree with the State that such language is broad enough to include persons who are not affiliates of primary violators nor partners, principal executive officers or directors of such violators. Thus, section 502.503(1) imposes secondary liability on any person who materially aid[s] and abet[s] in the act or transaction constituting the securities fraud defined in section 502.401. C. Standing and purchaser status. McHose also contends the State has no authority and therefore no standing to invoke the aiding and abetting provisions of section 502.503(1) against him. In support of his contention, McHose argues that the antifraud provisions make sellers liable only to purchasers, and the State is not a purchaser. See Iowa Code § 502.502(2) (any person who offers or sells a security in violation of section 502.401 shall be liable to the purchaser). We agree with the State that the aiding and abetting provisions of section 502.503(1) do not limit standing to purchasers. When standing is put in issue, the question is whether the personthe State herewhose standing is challenged is a proper party to request an adjudication of the issue. 59 Am.Jur.2d Parties § 30, at 416 (1987). McHose's argument that the State lacked standing to proceed against aiders and abettors fundamentally misconstrues the statutory scheme of chapter 502. Purchaser status, as listed in section 502.502, goes only to the requirements for a private suit involving fraudulent practices in the offer, sale, and purchase of securities. The requirements for a private party to maintain an action and the requirements for State action must not be confused under a clear legislative mandate. After all, the State is suing on behalf and for the benefit of defrauded purchasers. The State must therefore have the benefit of any theory of liability available to individual purchasers suing in their own names in the absence of any contrary legislative intent. In an analogous case at the federal level, the court held that defrauded purchaser or seller status was not required for the Securities and Exchange Commission to seek enforcement of rule 10b-5 and § 10(b) of the Securities Exchange Act. SEC v. Wong, 252 F.Supp. 608 (D.P.R.1966). In so holding, the court said: This is the case of a public agency enforcing public policy. The [Securities and Exchange Commission] does not have to engage in the purchase or sale of securities. In order to bring suit under the statutes which it has a duty to enforce, a regulatory agency need not be itself the victim. The Commission acts here under the authority of the Securities Exchange Act to protect the public and not to protect itself as an investor. Section 21(e) of the Securities Exchange Act permits the Commission to institute an action to enjoin violations of the provisions such as those allegedly involved here, or, similarly, any provision of the Act or the Rules thereunder, with no further allegations than that the defendants are engaged in acts and practices which have violated Section 10(b) or Rule 10(b)(5). Id. at 611. Our securities law has a provision similar to § 21(e) of the Securities Exchange Act. That provision is Iowa Code section 502.604, and it allows the State to seek court action to enforce the provisions of chapter 502. Cf. Joseph C. Long, A Guide to the Investigative and Enforcement Provisions of the Uniform Securities Act, 37 Wash. & Lee L.Rev. 739, 755-63 (1980) (describing state enforcement powers as reaching all parts of the Uniform Securities Act). Section 502.604 clearly implies that the State has standing under section 502.502. Iowa's prohibition of fraudulent practices, as well as its enforcement provisions, closely track the prohibitions and enforcement of rule 10b-5 at the federal level. See generally Edward R. Hayes, The New Iowa Uniform Securities Law, 25 Drake L.Rev. 267 (1975). We find the Wong court's assessment of a similar statutory scheme persuasive and in line with the Supreme Court's position on similar matters. See Blue Chip Stamps v. Manor Drug Stores, 421 U.S. 723, 751 n. 14, 95 S.Ct. 1917, 1933 n. 14, 44 L.Ed.2d 539, 558 n. 14 (1975) ([p]urchaser-seller rule imposes no limitations on the standing of the SEC to bring actions for injunctive relief under § 10(b) and Rule 10b-5); SEC v. National Sec., Inc., 393 U.S. 453, 467 n. 9, 89 S.Ct. 564, 572 n. 9, 21 L.Ed.2d 668, 680 n. 9 (1969) (This is a suit brought by the Securities and Exchange Commission; the terms `purchase' and `sale' are relevant only to the question of statutory coverage. Therefore there are no `standing' problems lurking in the case.). The public policy statement in section 502.611 is further reason for us to find no standing problems lurking in this case. As mentioned, this provision requires us to interpret and implement chapter 502 to effectuate its general purpose to protect investors.