SEC Proposes Regulatory Framework for Crowdfunding Offerings

When the Jumpstart Our Business Startups Act aka the JOBS Act, was passed into law on April 5, 2012, a centerpiece of the legislation was the creation of an exemption to permit securities-based crowdfunding without registering the offerings with the Securities and Exchange Commission (SEC).  Up until the JOBS Act, crowdfunding platforms such as Kickstarter were primarily of use to artists and non-profits seeking funds for a specific project; given the myriad of Federal and state securities laws issues involved with raising funds without registering the offering with the SEC, crowdfunding was not, prior to the JOBS Act, a viable means of raising business capital.

Since the passage of the JOBS Act, startup businesses and entrepreneurs have eagerly awaited the SEC’s regulatory framework for crowdfunding.  Finally, it seems that the wait is over.  The SEC commissioners have unanimously approved a proposed regulatory framework for offerings conducted under the crowdfunding provisions of the JOBS Act.  The proposal is intended to facilitate capital raising by small businesses while at the same time providing investor protection measures.  The comment period will be open for 90 days.

The proposal will permit companies to raise up to $1 million through crowdfunding offers during any 12-month period.  Investors would be permitted to invest during any 12-month period up to $2,000.00 or 5 percent of their annual income or net worth, whichever is greater, if both their annual incomes and net worth are less than $100,000.00.  Investors may invest up to 10 percent of their annual income or net worth, whichever is greater, if either is equal to or more than $100,000.00.  Investors would not be permitted to purchase more than $100,000.00 of securities during any 12-month period through crowdfunding.

Securities that are purchased in a crowdfunding transaction may not be resold for a year under the proposal.  The holders of the securities would not count toward the threshold that requires a company to register with the SEC under Exchange Act Section 12(g). 

Companies that conduct crowdfunding offerings must file certain information with the SEC and make it available to investors and to the intermediary that is used to facilitate the offering.  The offering documents must include information about officers, directors, and holders of more than 20 percent of the issuer’s securities.  The disclosure would include a business description, a description of the use of the proceeds from the offering, and the price of the securities being offered. 

The proposed disclosure also would include certain related-party transactions, a description of the financial condition of the company, and its financial statements.  Companies would be required to update the offering document to include material changes and to provide updates about the progress in reaching the targeted offering amount.  Crowdfunding issuers also must file annual reports with the SEC and provide annual reports to investors.

The new framework requires that crowdfunding transactions take place through an SEC-registered intermediary, which will be either a broker-dealer or a funding portal.  The intermediaries will conduct the offerings through online platforms.  Intermediaries will be required to provide investors with educational materials that outline the risks of investing.  They also must take measures to reduce the risk of fraud.

Funding portals may not offer investment advice or make recommendations.  They may not solicit purchases, sales, or offers to buy securities offered or displayed on their websites.  The proposed rules impose restrictions on compensating people for solicitations and prohibit the funding portals from holding, possessing or handling investor funds or securities.  The proposal includes a safe harbor under which funding portals can engage in certain activities consistent with these restrictions.

NOTE:  the information contained herein is not, nor is it intended to be, legal advice. You should consult an attorney for advice regarding your individual situation. Contacting the proprietor of this site does not create an attorney-client relationship. Please do not send any confidential information until such time as an attorney-client relationship has been established.  The above information is excerpted from “Federal Securities Law Reports” Issue No. 2605, November 1, 2013.