As in so many things, Mark Twain put it best: “It ain’t what you don’t know that gets you into trouble. It’s what you know for sure that just ain’t so.”

One thing some people know for sure is that the state securities or "blue sky" laws are a thing of the past. Well, as Mr. Twain himself might have put it, “the reports of the blue sky laws” death are greatly exaggerated.”

Here is your guide to what you need to know about blue sky.
NSMIA and preemption of blue sky laws

The National Securities Market Improvement Act of 1996 (or NSMIA) amended Section 18 of the Securities Act to preempt all state securities registration (but not antifraud) requirements regarding so-called “covered securities.”

That term includes securities that are:

• listed or approved for listing on any US stock exchange (NYSE, Nasdaq, etc.);
• issued by a listed company and equal or senior in rank to its listed securities (e.g., bonds issued by a company with listed stock);
• sold to “qualified purchasers,” a term the SEC has yet to define (as we explain below);
• sold in secondary market transactions (i.e., transactions under Sections 4(a)(1), 4(a)(3), or 4(a)(7) of the Securities Act) involving securities of SEC registrants;
• sold in Regulation D offerings under Rule 506 (i.e., unlimited offering amount); and
• exempt from registration by some–but not all–provisions of Section 3(a) of the Securities Act (including Section 3(a)(9) exchanges, government or municipal securities, bank securities and commercial paper, but not including securities issued in connection with Section 3(a)(10) fairness hearings).

Bear in mind that states remain authorized under NSMIA to impose “notice filings” for all offerings of covered securities with the exception of those “listed securities” described in the first and second bullet points above. As a result, you still want to vet the blue sky issues in, say an offering of bank securities exempt under Section 3(a)(2) of the Securities Act, because some states may require notice filings.
What remains after NSMIA?

Although NSMIA exempts from blue sky registration requirements many of the offerings you will encounter, there are some significant exceptions. In particular:

Private placements outside of Rule 506 under Regulation D do not qualify for federal preemption.

For example, in an offering under Section 4(a)(2) to institutional accredited investors that does not comply with all of the requirements of Rule 506 under Regulation D, you will want to review each relevant state’s blue sky laws to confirm that all investors are exempt institutional investors. The definition of “institutional investor” varies from state to state (e.g., an entity formed as a partnership or limited liability company is not an exempt institutional purchaser under California’s blue sky statute).

Rule 144A offerings and so-called Section 4(1-1/2) offerings for issuers that are not reporting companies do not qualify for federal preemption.

This can present blue sky issues for certain secondary offerings conducted in reliance on these exemptions. (Rule 144A offerings for listed companies are exempt because Rule 144A is a safe harbor for a Section 4(a)(1) or 4(a)(3) exemption.)

Employee plan offerings complying with Rule 701 are not preempted unless the plan relates to securities for an issuer with securities listed on a national securities exchange.

Bear in mind that Rule 701 can only be used by SEC reporting companies in limited circumstances. As a result, Rule 701 offerings generally require you to think about blue sky issues. Fortunately, many states’ blue sky statutes have exemptive provisions based on Rule 701. But the analysis must include each state where an employee resides because some states may require a notice filing to claim the exemption.

Rights offerings and exchange offers complying with the provisions of the SEC’s cross-border takeover Rules (Rule 801 and Rule 802) do not qualify for federal preemption.

As a result, you need to consider blue sky laws for the states where existing securityholders reside. Most states have exemptions for offers to existing shareholders as well as mergers and exchange offers, but these vary widely.

NSMIA does not preempt exchange offers under Section 3(a)(10) of the Securities Act, although it does preempt exchange offers with existing securityholders under Section 3(a)(9).

You will want to review blue sky laws for each state where securityholders reside to see if there is a state law analog to Section 3(a)(10). Many states–but not all–have adopted such provisions.
Some common misconceptions about blue sky

Common Misconception #1: Offerings of securities are preempted from state securities law registration requirements if they are sold only to “institutional investors.” WRONG! The correct answer is only some private offerings to institutional investors qualify for preemption.

Common Misconception #2: Offerings of securities guaranteed by an issuer of listed securities are preempted from state securities law registration requirements. WRONG! The correct answer is only listed securities or securities issued (not just guaranteed) by listed companies are preempted.

Common Misconception #3: Secondary market transactions in securities are preempted from state securities laws requirements. WRONG! The correct answer is only transactions under Section 4(a)(1) or 4(a)(3) are preempted if the issuer is a reporting company. State securities statutes include different types of non-issuer exemptions that may apply to these transactions, including exemptions for “isolated” transactions, the so-called “manual” exemption and unsolicited transactions conducted through a registered broker-dealer. You still need to review blue sky issues here because these exemptions may vary significantly from state to state.