Clarifying Section 29(b) Rescission: Convertible Notes Not Voidable Absent Contractual Broker-Dealer Obligations – Commentary on EMA Financial, LLC v. Vystar Corp. (2d Cir. 2025)

Introduction

The Second Circuit’s July 17 2025 summary order in EMA Financial, LLC v. Vystar Corp., Nos. 24-10-cv & 24-1647-cv, may be “non-precedential” in the formal sense, yet it delivers an instructive reaffirmation of the Circuit’s recent Xeriant, Inc. v. Auctus Fund LLC opinion and clarifies several practical questions surrounding Section 29(b) of the Securities Exchange Act of 1934, the private rescission remedy, and the mechanics of convertible note transactions.

The litigation stemmed from an $80,000 discounted convertible note and accompanying Securities Purchase Agreement (“SPA”) executed in January 2018 between EMA Financial, LLC (“EMA”), a New York-based fund that frequently finances micro-cap issuers, and Vystar Corp. (“Vystar”), a Delaware company. When the relationship soured, EMA sued for breach of contract; Vystar counter-sued, seeking rescission and damages on the theory that EMA had acted as an unregistered broker-dealer in violation of Section 15(a)(1) and that, accordingly, the Note and SPA were voidable under Section 29(b).

The district court (first Judge Andrew L. Carter, then Magistrate Judge Gabriel W. Gorenstein) declined to grant either side relief. Both parties cross-appealed. The Second Circuit’s brief—but densely reasoned—order affirms in full, delivering three core holdings:

Section 29(b) rescission is unavailable where the underlying contracts are facially lawful, even if the plaintiff asserts that unlawful transactions later occurred (Xeriant–approved reasoning).
On a matured-through-default convertible note, the issuer may cure by repaying the balance in cash, thereby extinguishing a holder’s right to insist on further share conversions—and the holder must prove concrete damages from any delay.
Delaware contract principles govern interest accrual, expense offsets, and liquidated-damage waivers in such instruments, with careful attention paid to the parties’ own drafting.

Summary of the Judgment

Applying de novo review of cross-motions for summary judgment, the Court of Appeals:

Affirmed the district court’s March 29 2021 grant of summary judgment to EMA on Vystar’s rescission claim, holding that nothing in the Note or SPA required EMA to act as a broker-dealer; therefore the contracts were not “unlawful” and could not be voided under Section 29(b).
Affirmed the November 27 2023 dismissal of EMA’s damages claim because (a) the Note was already in default before EMA’s disputed conversion notices, and (b) Vystar’s January 31 2019 cash payment satisfied the outstanding principal and interest.
Affirmed dismissal of Vystar’s breach-of-contract counterclaims, rejecting its contentions about improper interest accrual, illegal offsets, and damages from mis-sequenced conversions.
Rejected both parties’ miscellaneous arguments, including EMA’s late attempt to revive liquidated-damages and Vystar’s estoppel and over-conversion defenses, as waived or moot.

Net result: Neither side recovered a penny; the Second Circuit validated the district court’s legal findings, reinforcing the contours of Section 29(b) rescission and clarifying contract-damage analysis for defaulted convertible notes.

Analysis

Precedents Cited and Their Influence

Xeriant, Inc. v. Auctus Fund LLC, ___ F.4th ___, 2025 WL 1748776 (2d Cir. June 25 2025) – The backbone of the panel’s Section 29(b) reasoning.
Key proposition: Section 29(b) rescission targets contracts whose very formation violates the securities laws; it does not allow unwinding otherwise-lawful agreements simply because unlawful acts (e.g., acting as an unregistered dealer) may be performed later.
Mullins v. City of New York, 653 F.3d 104 (2d Cir. 2011) – Standard for de novo appellate review of summary judgment.
Truitt v. Salisbury Bank & Trust Co., 52 F.4th 80 (2d Cir. 2022) – Restated summary-judgment standard under Fed. R. Civ. P. 56.
Geico Gen. Ins. Co. v. Green, 308 A.3d 132 (Del. 2022) – Three-element test for breach of contract under Delaware law, guiding disposition of the parties’ contract claims.
Wilkins v. United States, 598 U.S. 152 (2023) – Cited for waiver doctrine when a party disavows a claim or defense.

Legal Reasoning

Section 29(b) Application

The Court adopted Xeriant’s two-step framework: (1) identify the specific contract the plaintiff seeks to rescind; (2) determine whether obligations imposed by that contract require any party to violate the Exchange Act. Vystar failed step (2) because no clause in the SPA or Note obliged EMA to: (a) engage in the business of effecting transactions for others; (b) sell shares on EMA’s or Vystar’s behalf; or (c) convert debt rather than accept cash.

Vystar’s evidence—emails showing EMA “intended” to resell converted shares—may implicate post-contract conduct but not the facial legality of the instruments. Therefore, Section 29(b) rescission was foreclosed.
No Private Right under Section 15(a)(1)
Judge Carter’s earlier determination, unchallenged on appeal, that Section 15(a)(1) confers no private right of action also dismantled Vystar’s independent statutory counterclaim.
EMA’s Damages

Because an “Event of Default” (insufficient share reserve) occurred in September 2018, § 3.16 rendered the Note’s entire balance “immediately due and payable.” The legal effect: EMA could demand cash repayment or continue submitting conversion notices, yet Vystar retained the contractual prerogative to satisfy the debt in money. Vystar’s January 31 2019 payment did precisely that. EMA showed no lost economic expectancy from the temporary delay, and thus failed the damages element of Delaware breach-of-contract law.
Liquidated-Damages Waiver
EMA had pled a 150 % liquidated-damages theory but repeatedly abandoned it during discovery, motion practice, and oral argument. Invoking Wilkins, the panel held the claim waived, demonstrating the power—and peril—of strategic abandonments.
Vystar’s Counterclaims
- Interest Accrual: The Note’s “Issue Date” controls, notwithstanding when funds are disbursed. Delaware courts enforce clear drafting.
- $3,200 Offset: The SPA authorized a “non-accountable” reimbursable expense payment. “Non-accountable” meant EMA did not have to document third-party payments; Vystar could not rewrite the clause.
- Conversion Sequence: Even if EMA breached the “principal-and-interest” pairing requirement, Vystar could not prove damages; indeed, EMA’s sequencing reduced dilution. Under Delaware law, nominal or theoretical injuries do not meet the damages element.

Impact of the Judgment

Although styled as a summary order, EMA Financial has immediate persuasive force, particularly for the micro-cap finance ecosystem and for litigants challenging “toxic convertible” notes. Key implications include:

Reinforced Boundary of Section 29(b): Litigants must identify contractual illegality, not merely post-execution misconduct. This constrains issuers’ increasingly popular rescission suits against funds.
Importance of Drafting Precision: Clear “Issue Date,” “non-accountable” cost language, and default acceleration clauses were dispositive. Drafters should expect courts to enforce plain text, even if commercial practice diverges.
Damages Proof Burden: For both noteholders and issuers, actual economic loss must be shown. The decision admonishes parties who rely on formulaic liquidated-damages clauses without preserving them procedurally.
Waiver Vigilance: The panel’s waiver analysis is a cautionary tale: once a party disclaim a remedy, it may be irrevocably lost.
Second Circuit Harmonization: By dovetailing with Xeriant, the order signals a stable doctrinal environment regarding dealer registration claims—a frequent battleground in the private-convertible marketplace.

Complex Concepts Simplified

Section 29(b) Rescission: A provision allowing courts to “void” (unwind) any contract whose formation violates securities laws. It is not a tool to punish later misconduct; the underlying agreement must itself mandate illegal conduct.
Unregistered Broker-Dealer (Section 15(a)(1)): Generally, any person engaged in the business of effecting securities transactions for others must register with the SEC. Violations can lead to enforcement, but private parties do not obtain an automatic lawsuit right.
Convertible Note: A debt instrument that allows (but seldom obliges) the holder to convert principal and accrued interest into shares—often at a discount—after a “seasoning” period (here, 180 days).
Event of Default & Acceleration: A contractually defined trigger (e.g., failure to maintain a share reserve) that makes the entire outstanding balance “immediately due,” allowing the lender to demand repayment without waiting for maturity.
Non-Accountable Expense: A fixed fee that the payer need not substantiate with invoices or third-party receipts. Common in private placements to cover diligence and legal costs.
Liquidated Damages: An amount the parties agree upfront will serve as compensation upon breach, enforceable unless unconscionable or a penalty. Here, 150 % of balance, but ultimately waived.

Conclusion

EMA Financial, LLC v. Vystar Corp. underscores the Second Circuit’s commitment to textual contract interpretation and its narrow view of Section 29(b) rescission. Even though the order itself lacks formal precedential effect, practitioners would be remiss to ignore its lessons:

When challenging a convertible note under the Exchange Act, issuers must isolate specific contractual clauses compelling broker-dealer activity; generalized “business model” allegations are insufficient.
Noteholders should preserve liquidated-damages and other alternative-remedy theories throughout litigation; waiver is fatal.
Clear drafting on interest start dates, default acceleration, and expense offsets dramatically reduces litigation risk.
Actual, quantifiable damages remain essential under Delaware contract law; mere technical breaches or dilution speculation will not carry the day.

In the broader legal context, the decision complements Xeriant, signaling a consistent trajectory in the Second Circuit: lawful financing contracts will not be unwound simply because they enable—rather than compel—post-execution securities activities. Market participants should calibrate their compliance strategies accordingly.