Crowdfunding Regs TL;DR
A way to stand out from the crowd
Hi all 👋
The bulk are you are new subs, thanks to a shout out from Jason Mikula…so, welcome!
If you want a topic covered, or better explanation, please let me know!
On to crowdfunding…💸
Crowdfunding Laws TL;DR
WTF’s A Crowdfunding, Anyway?
Generally, there are three models of crowdfunding:
Donation: you give money and don’t expect to get anything.
Reward: you give money in exchange for a (future) product (e.g., Kickstarter).
Equity: you invest money to own part of a company (e.g., Republic, AngelList).
The donation and rewards models need to comply with things like UDAAPs, but are generally less regulated than equity crowdfunding.
Because equity crowdfunding involves securities (aka, an investment in a business), securities laws are triggered.
Securities Offerings
Public offerings of securities must be registered with the SEC (expensive! Too many lawyers!) or fall under a registration exemption.
Federal & State Exemptions
Securities offerings are regulated at both the federal and state levels.
However, some federal exemptions “preempt” state laws. Aka, if you comply with the federal law, you don’t need to worry about the state law.
Each state has its own unique registration and exemption requirements. So it’s generally best to rely on a federal exemption that preempts state laws, unless you’re raising $$ in a limited number of states.
At the federal level, the key exemptions for securities crowdfunding are: Reg D, Reg Crowdfunding (CF), and Reg A+.
Most crowdfunding you see uses Reg CF, but let’s run through all of them.
Reg D
Reg D has three main flavors for crowdfunding: Rule 504, and Rule 506(b) and (c).
Rule 504
Key pieces of Rule 504:
Can’t sell more than $5M of securities in any 12-month period.
Can’t publicly advertise the offering (with some limited exceptions that generally require registering the securities).
Can’t resell until the issuer (aka, company issuing the securities) registers the securities.
Does not preempt state securities laws.
Rule 504 isn’t a great option if you want to publicly promote the campaign, and if you’re raising $$ in many states.
Rule 506(b)
Key pieces of Rule 506(b):
Can raise an unlimited $$ from an unlimited number of accredited investors.1
Can raise an unlimited $$ from no more than 35 unaccredited investors, though they must be “sophisticated” and you need to provide unaccredited investors with certain disclosures.
Cannot publicly advertise the offering.
Rule 506(b) isn’t a great option if you want to publicly promote the campaign, or raise from a lot of non-accredited investors.
Rule 506(c)
Under Rule 506(c), you:
Can raise unlimited $$.
Can only raise from accredited investors.
Must take reasonable steps to verify investors are accredited.
Can publicly advertise the offering.
Rule 506(c) is the friendliest crowdfunding private offering exemption, but isn’t great if you want to raise from non-accredited investors.
Reg CF
Who Can Raise $$ with Reg CF?
Companies can’t use Reg CF if they’re:
Non-US companies
Investment companies
Blank check companies
SEC-reporting companies
Bad actors2
Reg CF Issuer Obligations
Companies that raise $$ via crowdfunding have both initial and on-going disclosure obligations.
Initially, you must file a form with the SEC that discloses info like:
The business’s organization
Directors and officers
20%+ owners
Business plan
How the crowdfunded $$ will be used
How the offering price was determined
Financials (which can range from basic financial statements to audited financials, depending on how much you’re raising)
Crowdfunding companies are also required to provide updates to the SEC based on commitment milestones (i.e., once you raise certain amounts).
After a crowdfunding raise, an issuer has on-going reporting obligations to post annual reports on their website until certain milestones are hit (like going public).
Where Can You Crowdfund Capital?
To raise equity via Reg CF, you must use a crowdfunding portal. There are two kinds: broker-dealers and funding portals.
Both types of portals must register with the SEC and be members of FINRA (a TL;DR on FINRA and broker-dealers is coming soon…).
These intermediaries have on-going obligations like:
Providing investors with educational info about the offering
Making sure investors make certain representations
Establishing communication channels for issuers and investors.
How Can You Advertise?
During the campaign, issuers can provide public “notices” that provide basic facts about the campaign, and link to the crowdfunding portal.
However, issuers can only provide specifics of the offering terms (like price and closing date) on the portal.
Under Reg CF, issuers can generally only talk to prospective investors through the crowdfunding portal.
How Much Can Companies Raise?
Under current Reg CF limits, companies can raise up to $5M in any 12-month rolling period.
How Much Can Investors Invest?
There are no limits on how much accredited investors can invest.
Unaccredited investors have limits:
If either the investor’s annual income or net worth is <$107K, they can only invest up to the greater of (a) $2.2k or (b) 5% of the lesser of their net worth or annual income.
If both the investor’s annual income and net worth are >$107K, they can invest up to 10% of their annual income or net worth, with a $107K cap.
Integrations
Many securities exemptions have limits on how much you can raise (like Reg CF). And many of the exemptions require that you “integrate” (add together) amounts you raise under different exemptions.
However, Reg CF offerings are not integrated with other offerings. So you can raise up to $5M via Reg CF, while also raising money in a private offering in the same year.
Reg A+
Reg A+ is often called a “mini-IPO” because it resembles a mix between Reg CF and a traditional IPO. The exact requirements depend on whether you’re doing a Tier 1 or Tier 2 offering.
Who Can Use Reg A+?
Generally, Reg A+ issuers can’t be:
Non-US companies
Blank check companies
Investment companies
Company issuing fractional undivided interests in oil, gas, or mineral rights
Companies subject to certain SEC orders or disqualifications
Process
To rely on Reg A+, the issuer must file an offering statement with the SEC.
This will disclose things like a description of the business, info about management, investment risks, and how proceeds will be used.
Offering Statements
There are some limits on when you can make offers or sales:
You can only make offers to investors after you file your offering statement with the SEC.
You can only make sales once the SEC qualifies3 your offering statement.
However, they can “test the waters” by talking with prospective investors4 before you file your offering statement with the SEC.
Overview of Key Limits
Resales
If securities were offered under an exemption, there’s a good chance they’re “restricted.” That means you can’t just go around and resell them right away.
The details are too much for a TL;DR. But, to give you an idea, if you buy a security under one of the securities exemptions, you may need to wait until a certain amount of time passes, or until the securities are fully registered with the SEC.
Don’t want to miss more FinTech law summaries as they roll out in the coming weeks?
If you enjoyed the summaries, why not share?
About
Hi! I’m Reggie. I’m a FinTech lawyer at BlueVine, and any views expressed are my own (well, sort of? I mean, they’re laws and regulations, so they’re not really “mine”). These TL;DRs are not legal or financial advice, obv.
Accredited investor = (1) someone who has $200k in annual income for at least the past 2 years (or $300k combined income if married), (2) someone who has a net worth of at least $1M, (3) entities w/ >$5M in assets, (4) entities owned by all accredited investors, (5) certain knowledgeable employees, and (6) people with certain certifications (like Series 65).
Bad actors generally include: directors, officers, owners of 20% or more, and promoters or solicitors of a securities issuer that have something like a criminal securities-related convictions, state ban from engaging in securities or banking-related activities, or disciplinary orders from the SEC or a securities association like FINRA.
So this is weird. Technically, the SEC doesn’t “approve” the offering statement, but they “qualify” it. It’s sort of like approve the offering documents but not the offering?
Both accredited and non-accredited.