SEC, State Securities Regulators Announce Promissory Note Enforcement Sweep

(June 1, 2000) – The U.S. Securities and Exchange Commission (SEC) and state securities regulators today announced a joint effort to combat the fraudulent sale of promissory notes to investors. This initiative has resulted in a significant number of enforcement actions. Although promissory notes can be appropriate investments for many individuals, federal and state securities regulators undertook the initiative because promissory notes are increasingly being used by some as vehicles to defraud investors out of millions of dollars and have become a growing problem for regulators. Promissory notes are investments that typically involve a loan to a company made by an investor in exchange for a fixed amount of periodic income.

As part of this sweep, in recent weeks, securities regulators in 28 states have taken scores of actions against hundreds of individuals and entities.¹ These state actions involved more than 3,000 investors. The SEC has filed charges in 13 enforcement actions against 38 individuals and 22 entities involved in the fraudulent sale of promissory notes. In all, the defendants named in these actions are alleged to have fraudulently obtained hundreds of millions of dollars from investors.

Several of the schemes that are the subject of these enforcement actions involve similar fraudulent fact patterns. In many cases, for example, investors were promised a high level of return in exchange for a very low level of risk. Brad Skolnik, Indiana’s Securities Commissioner and President of the North American Securities Administrators Association (NASAA), warns: “Investors are attracted to this type of investment because it has an aura of safety with an above market rate of return. Investors must never forget the first rule of finance: the greater the reward, the greater the risk. In today’s market, there’s no such thing as a ‘guaranteed’ 10% or 15% return.”

Richard H. Walker, the SEC’s Enforcement Director, stated: “In volatile markets, investors often look for safer fixed-rate investments. This flow of investor money is not lost on those looking to defraud. As this sweep illustrates, investors must be particularly skeptical when offered unrealistically high returns.”

Another common element of many of the promissory note schemes is that investors were falsely told that the money they invested was guaranteed by insurance companies, or that the notes were backed by surety bonds or other collateral. Often times, these insurance or surety companies were purportedly located offshore. In most cases, the issuers either had no insurance, collateral or other means to guarantee payment, or had significantly under-insured or under-collateralized the promissory notes.

In many of these actions, it is alleged that the sale of the promissory notes was made by an independent life insurance agent functioning as an unregistered broker-dealer. These insurance agents, lured by high commissions, frequently relied solely on the information provided to them by the issuers which, as demonstrated by the cases brought by the SEC and the states, often was false and misleading. In the cases brought by the SEC, insurance agents were involved in selling notes for 18 of the 21 issuers involved. Insurance agents were also involved in many of the cases brought by state securities regulators. In many instances, these agents were not registered with securities regulators as required in order to sell securities.

Another common element of many of the fraudulent schemes is that the elderly were targeted by the individuals and entities named in the SEC and state actions. The investors were lured into the fraudulent schemes by sales presentations which touted high returns with little or no risk.

These enforcement actions were greatly facilitated by close cooperation between state and federal securities regulators. Mr. Walker commented, “This sweep demonstrates the value of regulators joining forces to address widespread scams and to focus investors’ attention on those particular frauds.” Echoing Mr. Walker`s sentiments, NASAA’s Brad Skolnik said: “By working together, the states and the SEC can leverage their resources, bring more actions to halt these sales and shine an even brighter spotlight on a serious problem.”

¹ The following states participated in this enforcement sweep: Alabama, Arizona, California, Connecticut, Florida, Georgia, Illinois, Indiana, Kentucky, Maine, Maryland, Massachusetts, Michigan, Mississippi, Missouri, Nebraska, New Jersey, New York, North Carolina, North Dakota, Ohio, Pennsylvania, South Carolina, Tennessee, Texas, Virginia, Washington and Wisconsin.

2000 Headlines, Newsroom