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Securities – A Quick Introduction

Updated: Feb 15

The word "securities" typically refers to a type of ownership interest in a business. The most common (or at least, the most familiar) example would be stock or shares in a business (typically a corporation). But the term "securities" refers to other types of interests as well, and they are often subject to many different laws and regulations.


What are securities?


A short definition would read something like "a financial instrument that can be bought, sold, or traded," or "a financial asset that is negotiable or can be traded."


Those are some definitions, but that's not very helpful. So perhaps the term is best illustrated with examples of types of securities (in fact, that's largely how both Texas and California define securities; see Cal. Corp. Code section 25019, Tex. Gov. Code section 4001.068).


What are some examples of securities?


Far and away the most common types of securities are stocks and bonds. Stocks represent equity ownership (you own part of a corporation). Bonds represent debt (a corporation owes you money). Other types of securities you might recognize are exchange-traded funds ("ETF," which are bundles of securities), mutual funds (also bundles of securities), and stock options (note that so-called "phantom" stock does not usually qualify as a security).


Both California's Section 25019 and Texas's Section 4001.068 include stock, treasury stock, collateral trust certificates, notes, bonds, debentures, certificate of interest for oil or gas title, and investment contracts. Texas even has a clean-up provision, which includes "any other instrument commonly known as a security, regardless of whether the instrument is similar to another instrument listed in this subsection." Tex. Gov. Code section 4001.068(a)(1)(P).


Even my corporation?


Yes, even your corporation.


If you issue shares to yourself, then you are a shareholder of a corporation (even an S corporation that you founded on your own). If you never issued yourself shares, you have other issues (which I will discuss in a later post).


Are securities regulated?


Yes. In fact, securities are pretty highly regulated.


Securities are regulated federally by the Securities and Exchange Commission ("SEC").

Each state regulates securities as well (these state securities regulations are often called "blue sky laws"). In California, the Department of Financial Protection and Innovation ("DFPI") regulates securities. In Texas, the Texas State Securities Board ("TSSB") regulates securities.


Why do I need to know this?


If you sell corporate shares (or even in some cases LLC membership interests), you might have to disclose that to the federal government (specifically the SEC), to the DFPI, to the TSSB, or to your state's regulatory authority.


A lot of states provide exemptions for some businesses (usually for smaller or closely-held businesses). For example, in Texas, if an offer is made without public solicitation and the total number of security holders is less than 36; Tex. Gov. Code section 4005.012(a)(1). California has a similar provision at Cal. Corp. Code section 25102(f) (but be aware that California also requires that you file a notice of the exemption, called a "limited offering exemption notice"; many organizers and incorporators forget this step).


Conclusion


If you own a corporation or you're a member in a member-managed LLC, it's a good idea to familiarize yourself with some of the basics. If you plan on selling your corporation down the line, you will want to make sure there is an applicable exemption before selling securities.

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