Nat Smart was employed as an investment adviser representative and sold many of his clients on a municipal bond fund of which he was fond, telling his clients that the returns earned on it were completely free from federal taxation. Unfortunately, he had some unhappy clients when, at the end of the year, they discovered that they had to pay federal tax on the capital gains earned by the fund when it sold some of the bonds it held. Nat was as surprised as they were. Based on these facts, which of the following statements is necessarily true?
I. Because Nat was as surprised as they were, he is guiltless.
II. Nat is subject to civil liability payments.
III. Nat will be subject to the criminal penalties for fraud and may spend time in prison.
Answer: B - Only Selection II is an accurate statement. In telling his clients that the returns earned on a municipal bond fund were totally tax-free, Nat misled the clients, whether intentionally or not. This constitutes fraud, and Nat is, at a minimum subject to civil liability payments, so this is “necessarily” true. Whether or not Nat will be subject to criminal penalties for fraud and spend time in prison depends on his ability to prove that he had no knowledge that he was misleading his clients.