[ferdek]

Official SEC document regarding regulation SHO describes both illegal and legal cases when you can "just" fail to deliver [0]. Market makers which also happen to have hedge-fund branches are having the most flexibility in this.

[0] https://www.sec.gov/investor/pubs/regsho.htm

[tdees40]

So it may not be illegal in all cases (although it is in many cases), but how does failing to deliver close out a short position?