Friday, November 1, 2013

SEC Proposes Rules on JOBS Act Crowdfunding Provisions

With constant advances in technology, crowdfunding has been a popular source used in a number of areas to raise money for various types of projects.  Its aim is to receive small contributions from a large amount of people.  Prior to the passage of the JOBS Act, this mechanism of raising capital was never used for the offer or sale of securities.  The crowdfunding exemption was intended to bridge the gap in raising funds and overbearing regulations for small businesses.    

The immediate concern for this type of fundraising is investor protection.  Thus, the SEC was tasked with formulating rules that allow for implementation of the crowdfunding provisions while safeguarding the market and investors.  Just recently, the SEC proposed rules that would “permit individuals to invest subject to certain thresholds, limit the amount of money a company can raise, require companies to disclose certain information about their offers, and create a regulatory framework for the intermediaries that would facilitate the crowdfunding transactions.”  Since the proposed rules encompass nearly 600 pages, the following is a brief overview of some of the important issues.  

According to the proposed rules, the maximum amount a company could raise from crowdfunding offering within a 12-month period is $1 million.  Over the course of the 12-month period, the maximum investment per investor is based on the annual income or net worth.  For investors with both an annual income and net worth less than $100,000, the maximum investment is the greater of $2,000 or 5% of their annual income or net worth.  For investors with either annual income or net worth equal to or more than $100,000, the maximum investment is 10% of their annual income or net worth, whichever is greater.  However, investors are not permitted to purchase more than $100,000 of securities through crowdfunding during the 12-month period.   

Companies conducting a crowdfunding offering are required to file certain information with the SEC.  This information is to be made available to investors, potential investors, and the intermediary facilitating the crowdfunding. Such information includes the following: (1) information about officers and directors as well as owners of 20 percent or more of the company; (2) a description of the company’s business and the use of proceeds from the offering; (3) the price to the public of the securities being offered, the target offering amount, the deadline to reach the target offering amount, and whether the company will accept investments in excess of the target offering amount; (4) certain related-party transactions; (5) a description of the financial condition of the company; and (6) financial statements of the company that, depending on the amount offered and sold during a 12-month period, would have to be accompanied by a copy of the company’s tax returns or reviewed or audited by an independent public accountant or auditor.  Any company relying on the use of crowdfunding to raise capital must file an annual report with the SEC and provide that report to investors. 

In order to achieve investor protection, the JOBS Act requires crowdfunding to take place through an SEC-registered intermediary.  This can be either a broker-dealer or a funding portal.  In a nutshell, the proposed rules would require intermediaries to take measures to reduce the risk of fraud, provide investors with educational materials and information about the issuer and offering, provide communications channels on the online platform that permit investors to discuss the offering, and facilitate the offer and sale of crowdfunded securities. The proposed rules prohibit funding portals from the following: (1) offering investment advice or making recommendations; (2) soliciting purchases, sales or offers to buy securities offered or displayed on its website; (3) imposing certain restrictions on compensating people for solicitations; and (4) holding, possessing, or handling investor funds or securities.

The SEC is providing 90 days of public comment before determining whether to adopt the proposed rules.  To review the proposed rules in their entirety, click here

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