Fort Walton Beach Council agenda — 03-09-2010 Regular — reading text

implicated in civil and criminal liability issues are these federal and state securities laws. In the main, the securities law relating to fraud and misrepresentation were modeled after common law fraud. However, Congress clearly intended the securities fraud statutes to have a far broader reach than the common law. As a result, securities laws sought to include within its enforcement misrep- resentations, omissions, schemes, and artifices that would not otherwise be captured by traditional common law fraud. In addition, many of the specific elements of common law fraud have been modified by statutes at the federal and state level— albeit in different 48 Shariah, Law and `Financial Jihad': How Should America Respond? ways. Recent federal legislation aimed at curbing abusive class action litiga- tion and subsequent Supreme Court case law suggest a serious trimming of the broad reach previously granted federal securities laws. This federal trend is counter -balanced by a movement at the state level to extend the reach of the state securities laws and to interpret them more liberally than the federal counterparts. Conference participants discussed applicability of both federal and state securities laws to the disclosure of the material facts and risks of SCF, including these possible initiatives to be used in investor and policymaker educational outreach efforts: Applying Federal and State Securities Laws to Shariah. Compliant Finance There are principally seven federal statutes that govern securities transac- tions: the Securities Act of 1933; the Securities Act of 1934; the Trust Indenture Act of 1939; the Investment Company Act of 1940; the Investment Advisors Act of 1940; the Securities Investor Protection Act of 1970; and the Sarbanes -Oxley Act of 2002. Civil and criminal liability under the federal securities statutes for failure to disclose, what is broadly referred to as securities fraud, is regulated by the SEC and its principal weapons are the Securities Act of 1933 ( "1933 Act ") and the Securities Exchange Act of 1934 ( "1934 Act "). The 1933 and 1934 Acts target different markets. The 1933 Act regulates initial offerings and the 1934 Act regulates all subsequent trading, but the overriding public policy is the same: " full disclosure of every essentially important element attending the issue of a new security" and a " demand that persons, whether they be directors, experts, or underwriters, who spon- sor the investment of other people' s money should be held to the high stan- dards of trusteeship." The SEC —through its rule- making authority and its regulatory responsibili- ties— dictates the specific kinds of minimal ( and in some cases maximal) disclosure required by the specific provisions. The main weapons against securities fraud are the civil and criminal reme- dies. Thus, the SEC, in addition to administrative sanctions, has access to the civil courts to seek injunctive relief, disgorgement and even civil fines, in addition to other equity -like relief. In addition, the Department of Justice DOJ" ), often as a result of an SEC administrative investigation and criminal referral, is authorized to file criminal charges for violations of the federal securities laws when it appears the offending party had the requisite intent. 49 The Criminal and Civil Liabilities Associated with Shariah -Compliant Finance Finally, private plaintiffs have expressed and implied rights of action under several provisions. The most used and abused of all such provisions is Rule 10b -5 promulgated under the 1934 Act which provides for civil litigation and criminal prosecutions. When the class- action club is added to the civil claims brought under Rule 10b -5— although curbed significantly by recent legislation —the weapons available to prosecute claims for misstatements and omissions of material fact in SEC filings and elsewhere in the public domain are considerable. The private sector may also play a role in investigating the risks of SCF, in educating the public and in taking initiatives under existing regulations to enforce the law through civil litigations and to employ provisions such as Rule 10b -5 to hold SCF financial institutions accountable for knowingly or recklessly withholding the whole material truth about Shariah. State securities laws, usually referred to as blue sky laws, are similar to the securities, disclosure laws and securities fraud liability in federal securi- ties laws. However, as a result of Congress' efforts to curb private securities fraud litigation and recent Supreme Court rulings, the more sweeping state securities laws will take on ever greater importance in the securities plain- tiff's arsenal of litigation weapons. Material Support of Terror and Reverse Money-Laundering SCF follows -the Shariah obligation to tithe ( known as zakat) and also requires the " purification" of profits earned in violation of Shariah. There are a number of questions that lawyers, investors, policymakers and the general public need to ask of Shariah -compliant funds and regulators: Who decides what happens to the zakat funds? Which charities are selected, and by what criteria? What tracking mechanisms are in place to trace these funds? If regulators usually do not know which charities are being funded, and no tracking mechanism is in place, is this due to ignorance of the potential for funding terrorism, or willful blindness? Who is liable if Shariah -compliant funds are indeed funding terrorism and training for jihadists: the funds themselves? The regulators? The investors? The shariah advisors? Given the historical connection between some of the largest and best - known Muslim charities and the funding of terrorist groups, these questions take on added focus in the context of material support of terrorism. As the 50 Shariah, Law and ` Financial Jihad': How Should America Respond? foregoing analysis makes clear, there is, in fact, a close nexus between Shariah and global terrorism. At the very least, efforts by corporate legal counsel to dismiss these concerns will invariably run up against the wall of common understanding linking the two. In fact, this common understanding has already begun to articulate itself in the debate over materiality in the context of what is a material or relevant disclosure with respect to share- holder proxy statements demanding disclosures of what has come to be termed " global severity risks." U. S. companies can no longer consider their associations with countries or entities tainted by terror a private, non -material or irrelevant matter. While the courts have not yet entered the fray, the executive and legislative branches have laid down some important markers. The closer a company gets to any association with terror, the more it has to disclose. Reverse Money -laundering Shariah -compliant finance appears to constitute a form of what has been reverse money -laundering." After all, it stands the classic money - called " laundering model on its head — moving perfectly legitimate funds into U. S. domestic businesses via SCF, then diverting those funds to domestic or overseas charities and organizations, at least some of which have ties to terrorism. Such transactions are very difficult to spot unless government regulators already have the specific recipient charities and organizations in question under surveillance. As discussed above, this danger arises from two practices associated with Shariah -compliant finance. The first is through a charitable contribution made on behalf of individual investors by an SCF financial institution or busi- ness. This practice is rooted in the obligation of faithful Muslims to gift a cer- tain percentage of their income to charity. In the Middle East and Malaysia, SCF companies, banks, and investment funds seem to calculate the amount the individual Muslim investors owe from profits and to distribute those funds automatically to Shariah- approved charities. Only then would the net, after -Shariah- charitable -tax profits be dis- tributed to the individual investor. In the United States, although many of the reporting companies and mutu- al funds involved in SCF are unclear as to whether this service is offered, most appear to allow the individual investor to calculate and make his or her own charitable contribution. Several questions arise for those SCF businesses and investments which net the returns to the investor after this charitable payment: 51 The Criminal and Civil Liabilities Associated with Shariah -Compliant Finance Which charities are Shariah -compliant? Who makes this determination? Do the businesses or financial institutions direct these contributions or are these decisions made by the Shariah authorities? Is there any vetting of the recipients of these charities to determine what they do with these funds? Why is this process not transparent? A second troubling SCF practice contributing to reverse money -laundering arises when some of the gross income of a business deemed Shariah -com- pliant is generated by Shariah -prohibited sources. This can occur in several ways, but two are most common: The first is via what one might term the exceptional event when the Shariah " filter" misses some tainted source of income altogether. This might happen, for example, when a Shariah -compliant company in a Shariah -com- pliant mutual fund acquires a forbidden company, the main business of which is in a forbidden industry ( such as interest -based finance or hog farm- ing). The equity position in that Shariah -prohibited company must be sold. The proceeds of that sale will include a certain amount of profits attributed to the forbidden assets. That amount must be calculated and " purified" by being donated to an approved " charity." The second occasion for purification is more typical. For instance, a mutu- al fund is permitted to invest in companies which routinely earn up to a fixed percentage of their income from interest ( e.g., via overnight "float" opera- tions). Notwithstanding this leniency, any profits thus accruing to the mutual fund from this forbidden income must be " purified." Not surprisingly, Shariah advisors typically insist that such purification be performed by the SCF institution so they will have the opportunity properly to assess the amount needed to be purified and, presumably, to determine to which charities the purified funds flow. As with the zakat charitable contri- butions, the purification of funds is, as a general rule, not fully disclosed in public filings of U. S. SCF financial institutions. The three largest Muslim charities in the United States have all been impli- cated in financing terror, had their assets frozen, and they were effectively shut down. The criminal exposure arising from the " purification" process leads one to ask the following questions about any list of potential charities: Are these non -Muslim charities? If they are Muslim charities, have they been vetted and by whom? In fact, the practice of Muslim charities funneling money to terrorists is so widespread and the problem so insidious that the U. S. government keeps a 52 Shariah, Law and `Financial Jihad': How Should America Respond? list of dozens of such organizations worldwide. It will not suffice, however, to simply determine that the charities are " well- known" Muslim charities and not currently listed as designated supporters of terrorism. At a minimum, the following questions would need to be answered: Who are the ultimate beneficiaries of the contributions? Who or what is the ultimate purpose served by the charities' " good deeds "?