WASHINGTON — The Securities and Exchange Commission and a broker-dealer based in Jackson, Miss., are sparring over whether the SEC has primary jurisdiction over a securities case that involves alleged tax law violations.
The SEC insists it had the right to bring securities fraud charges against Thorn, Alvis, Welch Inc. and its president John E. Thorn Jr. last summer in connection with seven multifamily housing bond deals totaling $20 million that were sold for two Mississippi counties in 1992 and 1993.
The SEC claims that Thorn and his firm made false and misleading statements in bond documents. The commission charges they artificially inflated the compensation paid to the general contractor for the housing projects and then arranged for the contractor to "contribute" the funds back to pay issuance costs, in violation of tax law limits on issuance costs and the use of bond proceeds.
The bond documents misrepresented the compensation as a "developer's contribution" and failed to disclose that the bonds might not be tax-exempt because of the alleged tax law violations, according to the SEC.
"The issue is whether (Thorn and his firm) violated the antifraud provisions of the federal securities laws, an area in which the commission has primary jurisdiction," SEC lawyers say in a brief filed with SEC administrative law Judge Brenda Murray late last week.
"The commission and the courts have clearly stated that an underwriter has an obligation to ensure that factual disclosures in offering materials are not misleading," the SEC lawyers say.
But Thorn and his firm, represented by the law firm of King & Spalding in Atlanta, claim the SEC should not have primary jurisdiction in the case because it revolves around alleged tax law violations that have never been addressed by the Internal Revenue Service.
"A ruling premised on the tax-exempt status of the bonds should not be made in these proceedings," Thorn and his firm say in the brief, which was filed last month with Murray.
"The (IRS) has not challenged the tax-exempt status of the bonds and this tribunal lacks subject matter jurisdiction over tax questions," they say.
"The allegations in the case at hand involve highly complex issues of tax law such that any interpretation or determination of violation should be made by the (IRS) in order to maintain a uniform regulatory scheme," they added.
Thorn and his firm deny the transactions violated any tax laws. They say that after the SEC began its investigation, several law firms - including Mudge Rose Guthrie Alexander & Ferdon; Kutak Rock; Peck, Shaffer & Williams; Chapman and Cutler; and Sidley & Austin - verified the validity of the bond counsel's opinion that the structure of the transactions would not cause the interest on the bonds to be taxable.
The SEC had also filed securities fraud charges against the bond counsel, Derryl Peden of Stennett, Wilkinson & Peden, but reached a settlement agreement with him late last year in which, without admitting or denying the SEC charges, Peden agreed to pay $35,000 of his ill-gotten gains.
In their brief, Thorn and his firm claim they cannot be charged with securities fraud because they relied on Peden's opinion that the bonds' interest would be tax-exempt. Peden, they say, is the most experienced bond counsel for tax-exempt multifamily housing transactions in Mississippi, having served as bond counsel in more than 90% of such deals in the state.
"Thorn relied upon the advice of bond counsel on all tax issues and disclosure issues related to the status of the bonds and disclosure of the developer's contribution," the Thorn brief says.
But the SEC rebuts Thorn's claims and says in its brief: "An underwriter cannot knowingly make a false statement because his counsel tells him it is legal to do so."
The SEC claims in documents it filed with Murray that Thorn and his firm failed to disclose material facts to Peden that were crucial to his tax opinion. Thorn knew, but did not tell Peden, the SEC says, that the contractor was willing and able to do all that it had to do to develop the projects for compensation that did not include the "developer's contribution." The "contributions" for all the deals totaled more than $1 million, SEC officials have said.
But Thorn refutes that SEC charge, claiming Peden knew all about the developer's contribution and helped structure the transactions so that the contractor and its officials would not have to contribute any out-of-pocket cash - one of the contractor's conditions for participating in the deals.
Thorn and his firm insist they had no intent and no reason to mislead investors.
The SEC's recommended sanctions, they say, are "the equivalent of a death penalty" for Thorn and his firm.
The SEC has asked Murray to bar Thorn from the securities business, revoke the Thorn firm's registration, require the Thorn firm to pay $234,203 of ill-gotten gains and civil penalties of $250,000, and order Thorn to pay $116,431 of ill-gotten gains and civil penalties of $50,000. The SEC also asked the judge to require Thorn and his firm to cease and desist from future securities law violations.
But Thorn and his firm claim there is "no basis" for the sanctions because there has never been a determination that the bond counsel's opinion was in error, the projects were completed, and there is no evidence that investors have been harmed.
Thorn and his firm, the Thorn brief says, have "been devastated by adverse publicity and crushing expense, while the bondholders are collecting their interest on a timely basis, (the contractor and its officials) are enjoying their personal profits and equity in the projects, and Peden, having paid a $35,000 fine without admitting anything, is free to practice law with no further repercussions."
"Thorn (and the firm) are less culpable and have already suffered more than any other party interested in these bond issues," the brief says, adding, "Enough is enough."
But the commission counters the brief's plea by saying the SEC had evidence of "numerous ... examples of Thorn's lack of candor."
"He refuses to recognize the nature of his conduct, and, as a broker, there is no question that his occupation will present opportunities for future violations of the federal securities laws," the SEC says. "Based on the record, Thorn has demonstrated that he lacks the honesty and integrity required of a securities professional."
The Thorn firm has asked Murray to hear further oral arguments in the case, following the trial that was held in January. She could agree to do so or simply render a judgment in the case, said SEC and Thorn firm lawyers.
