SEC ADOPTS REGULATIONS IMPLEMENTING REGULATION CROWDFUNDING UNDER SECTION 4(a)(6) OF THE SECURITIES ACT

Transcription

1 SEC ADOPTS REGULATIONS IMPLEMENTING REGULATION CROWDFUNDING UNDER SECTION 4(a)(6) OF THE SECURITIES ACT On Octber 30, 2015, the Securities and Exchange Cmmissin ( SEC ) vted t adpt Regulatin Crwdfunding (Regulatin CF). Regulatin CF is the set f rules and frms that will implement securities crwdfunding in the United States. The SEC was required t adpt these rules under the prvisins f Title III f the JOBS Act f The final rules cme after the SEC reviewed and cnsidered ver 485 cmment letters frm prfessinal trade assciatins, investr rganizatins, law firms, investment cmpanies and investment advisers, brker-dealers, ptential funding prtals, members f Cngress, the SEC s Investr Advisry Cmmittee, state securities regulatrs, gvernment agencies, ptential issuers, accuntants, and ther interested parties. The rules will g int effect n May 16, 2016, althugh entities that wish t act as brker-dealers and crwdfunding prtals under Regulatin CF will be able t start the applicatin prcess frm the end f January. The changes frm the SEC s prpsed rules riginally published in Octber 2013 are limited, and almst all thse changes fall n the side f reducing burdens n the issuer. Of particular nte is the fact that first-time issuers under the new rules will nt be required t have their financial statements audited, and nging reprts are nt required even t be reviewed by an accuntant. Additinally, the rules increase the ability f crwdfunding prtals t use subjective criteria in deciding which cmpanies fferings t hst n their sites, and als t invest in thse fferings. Frm a technical perspective, the fact that the SEC has made it pssible t file dcuments in PDF frm will reduce the lgistical burden n issuers. On the negative side, individual investment limits were reduced t be based n the lesser f a persn s incme r net wrth. Additinally, the exclusin f crwdfunding sharehlders frm the sharehlder f recrd cunt that triggers full registratin with the SEC has becme cnditinal. Three weeks prir t the SEC adpting its final rules, FINRA, which is the self-regulatry rganizatin fr brker-dealers and which will als versee the new funding prtals, submitted its final Funding Prtal Rules t the SEC fr final apprval. Sectin 4(a)(6) f the Securities Act, the crwdfunding exemptin Offers f securities t the public (which includes ffers made ver the internet) must be registered with the SEC under the Securities Act f 1933, unless an exemptin frm registratin is available. The JOBS Act added a new exemptin t the Securities Act, Sectin 4(a)(6), t permit securities crwdfunding withut registratin. The exemptin is subject t the fllwing statutry cnditins: The aggregate amunt sld t all investrs, including any amunt sld in reliance n the new exemptin, may nt exceed $1 millin in any 12-mnth perid. The language f the statute (the JOBS Act) suggests that fferings made under ther exemptins (Regulatin D, fr example) might cunt twards the $1 millin limit, but the SEC s view is that since Cngress intended crwdfunding t be an additinal surce f funds fr small cmpanies, the limit applies slely t sales under Sectin 4(a)(6), and that amunts sld under ther 1

2 exemptins will nt affect the limit. As discussed belw, the SEC will permit crwdfunding fferings t be made cncurrently with ther exempt fferings, effectively permitting unlimited sizes f fferings t be made withut registratin. An investr is limited in the amunt he r she may invest in crwdfunding securities in any 12-mnth perid: If either the annual incme r the net wrth f the investr is less than $100,000, the investr is limited t the greater f $2,000 r 5% f the lesser f his r her annual incme r net wrth. If the annual incme and net wrth f the investr are bth greater than $100,000, the investr is limited t 10% f the lesser f his r her annual incme r net wrth, t a maximum f $100,000. Fr calculating an investr s net wrth, Regulatin CF uses the same methd as used in Regulatin D, which excludes the value f the investr s primary residence. Investrs may include their spuse s incme fr the purpses f the incme test. The lesser f standard is a change frm the prpsed rules, which tk a greater f apprach t calculating the investment limit based n incme r net wrth. This change will significantly limit the funds available frm nn-accredited investrs. Hwever, the SEC s rules permit cncurrent fferings under Sectin 4(a)(6) and Rule 506(b) r (c), which may effectively result in accredited investrs nt being subject t any limit n their investment. The transactin must be made thrugh a brker, r thrugh a funding prtal (a new designatin under the Securities Exchange Act f 1934) that meets the requirements set ut belw. The issuer must cmply with the disclsure and ther requirements set ut belw. Nte that cmpliance with each f these requirements is a cnditin t availability f the exemptin frm registratin. If these cnditins are nt met and the relief fr insignificant deviatins discussed belw is nt available, then the issuer will have vilated the Securities Act by making an unregistered ffering f securities t the public. Requirements fr issuers Incrpratin and eligibility The issuer must be incrprated r rganized under the laws f a state r territry f the United States, r the District f Clumbia. It may nt be an investment cmpany as defined under the Investment Cmpany Act f 1940, and cannt be an SEC-reprting cmpany. Blank check cmpanies frmed fr unspecified purpses r t acquire ther cmpanies cannt make fferings under Regulatin CF. Additinally, the exemptin is nt available t any issuer that is disqualified by reasn f the bad actr disqualificatin, r if the issuer (r any entities cntrlled by r under cmmn cntrl with the issuer) has previusly ffered securities under Regulatin CF and failed t file its nging reprts with the SEC. Many cmmentatrs urged the SEC t allw issuers t be able t issue securities thrugh the use f single purpse funds. This wuld avid the messy cap table prblem identified by sme angel and venture capital investrs wh d nt want t have t deal with numerus small investrs in a cmpany. Hwever, the SEC declined t create such an exemptin, citing Cngressinal intent and the language f the statute, which specifically excludes investment cmpanies frm being able t rely n 2

3 Sectin 4(a)(6). When determining issuer eligibility fr the amunt f funds t be raised and financial statements requirements, the SEC has clarified the language cntained in the statutry text f Sectin 4(a)(6) that the definitin f issuer includes all entities cntrlled by r under cmmn cntrl with the issuer and any predecessrs f the issuer. Fr example, a single real estate develper that is raising funds fr multiple issuers is subject t a 12-mnth cap f $1 millin raised under Regulatin CF aggregated acrss all issuing cmpanies. Additinally, if an issuer cntrlled by that develper had made a previus ffering under Regulatin CF, then all future fferings in any cmpany cntrlled by the develper in excess f $500,000 wuld be required t include audited financial statements. The definitin f cmmn cntrl may als have an impact n franchisees. If the franchise agreement cntrls the issuer and all ther franchisees (i.e., has the pwer t direct r cause the directin f the management and plicies f the entity), then all franchisees wuld be aggregated tgether when determining amunts ffered and sld under Regulatin CF and the financial statements t be required. Disclsure The SEC requires that issuers prvide certain infrmatin t investrs thrugh the intermediaries' platfrms and t the SEC directly via a filing f Frm C n EDGAR, the SEC s data handling system. Frm C will cnsist f XML-fillable fields in the frnt prtin f the Frm and then Exhibits which will include the rest f the infrmatin required t be filed. Sme infrmatin is mandatry, but the issuer may include ther infrmatin in the Frm. The mandatry infrmatin fr each issuer includes: The name, legal status (i.e., frm, state, and date f rganizatin), physical address, and website address. The names f the directrs and fficers (and any persns ccupying a similar status r perfrming a similar functin), the psitins and ffices held by thse persns, hw lng they have served in thse psitins, and the business experience f thse persns ver the past three years. The name f each persn wh is a beneficial wner f 20% r mre f the issuer's utstanding vting equity securities. These are the same sharehlders cvered by the Bad Actr disqualificatin prvisins discussed belw. A descriptin f the business f the issuer and anticipated plan f business. The current number f emplyees f the issuer. A discussin f the material risk factrs that make an investment in the issuer speculative r risky. The target ffering amunt and the deadline t reach the target amunt, including a statement that if the sum f the investment cmmitments des nt equal r exceed the target ffering amunt at the ffering deadline, n securities will be sld in the ffering, investment cmmitments will be cancelled and cmmitted funds will be returned. Statement with respect t whether the issuer will accept investment in excess f the target amunt and the maximum it will it accept. If the issuer accepts investments abve the stated target, it must state the methd it will use t allcate versubscriptins. 3

4 A descriptin f the purpse and intended use f the ffering prceeds. The SEC elabrates that it expects issuers t prvide a detailed descriptin f the intended use f prceeds with enugh infrmatin t allw investrs t understand hw the ffering prceeds will be used. If an issuer is uncertain hw the prceeds will be used, it shuld identify the prbable uses and the factrs impacting the selectin f each use. Similarly, if the issuer accepts prceeds abve the target amunt, it shuld indicate the purpse and intended use f thse excess funds. A descriptin f the prcess t cmplete the transactin r t cancel an investment cmmitment. The price f the securities r the methd fr determining the price. If the issuer has nt set a price at start f the campaign, it must prvide a final price prir t any sale f securities. A descriptin f the wnership and capital structure f the issuer. This requirement als includes: Disclsure f the terms f the securities being ffered as well as each ther class f security f the issuer; Any rights held by principal sharehlders; Name and wnership level f any 20% beneficial wner; Hw the securities being ffered are valued and hw the securities may be valued in the future; Risks t purchasers f the securities relating t minrity wnership and the risks assciated with crprate actins like the additinal issuance f shares, issuer repurchases, and the sale f the issuer r issuer assets t related parties; and Descriptin f the restrictins n the transfer r the securities. The name, SEC file number and Central Registratin Depsitry number f the intermediary cnducting the ffering. A descriptin f the intermediary s financial interests in the issuer s transactin, including the amunt f cmpensatin paid t the intermediary fr cnducting the ffering and the amunt f any referral r ther fees assciated with the ffering. A descriptin f the material terms f any indebtedness f the issuer. Material terms include the amunt, interest rate, maturity date, and any ther terms a purchaser wuld deem material. A descriptin f any exempt ffering cnducted within the past three years. The descriptin shuld include the date f the ffering, the ffering exemptin relied upn, the type f securities ffered, the amunt f securities sld, and the use f prceeds. A descriptin f any cmpleted r prpsed transactin invlving the issuer r any entity under cmmn cntrl with the issue fr value exceeding five percent f the amunt raised under Sectin 4(a)(6) within the past 12 mnths, including the current ffering, when a cntrl persn, prmter, r family member had a direct r indirect material interest. A descriptin f the financial cnditin f the issuer, including discussin f liquidity, capital resurces, and histrical results f peratins cvering each perid fr which financial statements are prvided. The tax infrmatin and financial statements certified by the principal executive fficer, reviewed financial statements, r audited financial statements f the issuer, depending n the level f the raise and raises within the previus 12 mnths, r whether this is the first ffering f the issuer under Regulatin CF. 4

5 A descriptin f any events that wuld have triggered disqualificatin under the Bad Actr disqualificatin had they ccurred after the effective date f the final rule. Updates n prgress twards meeting the target ffering amunt. A statement regarding where n the issuer s website investrs will be able t find the issuer s annual reprt, and the date by which the annual reprt will be available. A statement regarding whether the issuer r any f its predecessrs failed t cmply with the nging reprting requirements f Regulatin CF. Any ther material infrmatin necessary in rder t make previus statements nt misleading. Other than the infrmatin abut the issuer that is required t be entered int the XML prtin f the Frm C (which is cvers things like name, address, size f ffering, etc.), the SEC des nt specify the frmat r medium in which the mandatry disclsure must be presented, leaving flexibility fr crwdfunding issuers t present sme infrmatin in written ffering dcuments, sme in vides, and ther infrmatin by graphic means. In respnse t suggestins made in the cmment prcess, the SEC includes an ptinal Questin and Answer ( Q&A ) frmat that an issuer can fllw in rder t prvide the mandatry disclsure nt cvered by the XML prtin f the Frm. While this might assist sme issuers wh have nt sught prfessinal advice t make sure that they d nt miss any imprtant items, the Q&A itself is quite technical, and uses securities cncepts such as beneficial wner and material terms f utstanding classes f securities which may be cnfusing t nn-lawyers. All infrmatin abut an ffering psted n an intermediary s site must be filed with the SEC via its electrnic EDGAR data-handling system. The wrding f the SEC s riginal prpsals suggested that while the mandatry disclsure wuld have t be filed n Frm C, it might be pssible t pst n the intermediary s website additinal infrmatin that did nt have t be filed. The SEC has made it clear that this is nt the case. Online fferings, currently nrmally made in reliance n the exemptin frm registratin prvided by Regulatin D, use a variety f ffering materials, including ffering memranda, slide decks, vides and ther materials. All these will need t be filed, but the SEC has made that prcess easier by permitting the filing f data in PDF frmat (nt permitted in ther types f SEC filing). Vide and audi cannt be filed thrugh EDGAR; a transcript must be filed instead. Nt nly must all these ptinal materials be filed, but the issuer (and in sme circumstances the intermediary, as discussed in Liability belw) is liable fr any misstatements made in them. Financial statements Issuers f securities under Regulatin CF are required t prvide financial statements prepared in accrdance with US Generally Accepted Accunting Practices (U.S. GAAP) cvering the tw mst recently cmpleted fiscal years (r shrter perid since inceptin). The type f review that these financial statements have t underg depends n the amunt sught, the amunt f securities that the issuer has already sld in reliance n Regulatin CF in the preceding 12 mnths, and whether the issuer has previusly sld securities in an ffering under Regulatin CF: If current ffer plus previus raises amunts t $100,000 r less, the financial statements must be certified by the principal executive fficer and accmpanied by infrmatin frm the cmpany s tax returns (but nt the tax returns themselves). 5

6 If current ffer plus previus raises amunts t $ ,000, the financial statements will be required t be reviewed by a CPA. If current ffer plus previus raises amunts t $500,000 r mre, the financial statements must be audited by a CPA. Hwever, if the issuer has nt previusly sld securities under Regulatin CF, the financial statements will nly be required t be reviewed by a CPA. The financial statements are nt permitted t be mre than 18 mnths ld. If mre than 120 days has passed since the end f the mst recently-ended fiscal year, the issuer will have t prduce financial statements fr that mst recent year, but until that pint culd use financial statements frm the preceding year. N interim financials are required. The review standards t be used by the accuntant are the Statements n Standards fr Accunting and Review Services issued by the American Institute f Certified Public Accuntants. While there has been widespread applause at the mre flexible psitin taken by the SEC in the final rules with respect t audit requirements, issuers shuld realize that the review prcess is a substantive ne and that if they have been using simple financial statement sftware like QuickBks, the reviewing CPA is likely t require them t revise, refrmat and expand their financial statements in rder t meet GAAP requirements. One issue that startups with revenue shuld pay particular attentin t is their revenue recgnitin plicies. The SEC des nt exempt very early-stage cmpanies frm these requirements. The SEC reiterated its psitin in the Prpsing Release that financial statements prepared in accrdance with U.S. GAAP are generally self-scaling t the size and cmplexity f the issuer, which reduces the burden f preparing financial statements fr many early stage issuers. Thus, even cmpanies at the business plan stage seeking $500,000 wuld have t prduce financial statements reviewed by a CPA. Issuer Filing Requirements and Frm C The Frm C must be filed and made public prir t the start f the ffering. This means that n exclusive first lk, either by the issuer r any intermediary, will be permitted. All ptential investrs must have access t the ffering at the same time. Regulatin CF creates a new XML-based fillable frm, Frm C, fr use in allwing issuers t prvide required infrmatin. There are several variants f Frm C: Frm C: used fr the riginal ffering statement t prvide the required disclsures. Frm C/A: used fr amendments t a previusly filed Frm C. Frm C-U: used by issuers at the end f the ffering t disclse the ttal amunt f securities sld. Frm C-AR: used by issuers t prvide the required annual reprts. Frm C-AR/A: used fr amendments t a previusly filed Frm C-AR. Frm C-TR: used by issuers wh are terminating their reprting. Frm C will be used fr the prvisin f sme f the mandatry infrmatin in XML frmat, with ther required disclsures being submitted as an attachment t Frm C. Thse attachments can be in PDF frm, which is a new and very welcme develpment fr the EDGAR filing prcess. (The attachments can als be in EDGAR HTML r ASCII.) As discussed abve, s lng as all the mandatry infrmatin is filed and presented t investrs, the media used t present that disclsure are nt specified by the SEC. 6

7 When infrmatin is presented in the frm f vide, the text f the vide script must be filed; the EDGAR system des nt handle vide files. Regulatin CF requires issuers t file Frm C with the SEC via EDGAR, as well as prviding the Frm C t the intermediary, investrs, and ptential investrs; hwever, it allws issuers t satisfy this latter requirement by prviding the intermediary with a cpy f the disclsures prvided t the SEC and directing investrs t the intermediary via r the issuer s website. T file a Frm C the issuer must have EDGAR filing cdes and a Central Index Key (CIK) cde. If an issuer des nt already have these cdes it can btain them frm the SEC. The issuer may als wrk with an intermediary t prepare the disclsures and have the intermediary submit the Frm C. The SEC des nt review, cmment n r in any way apprve the disclsure. It wuld be flish, hwever, t assume that the SEC will nt read infrmatin that is n EDGAR. An investr prtectin agency cannt be expected t lk the ther way if it sees infrmatin that it finds trubling, and issuers shuld perate n the assumptin that the SEC staff and the state regulatry authrities will be scuring the Frms C that are filed fr ptentially misleading statements. Onging disclsure requirements Issuers that have sld securities in reliance n Sectin 4(a)(6) must file infrmatin with the SEC and pst it n their websites n an annual basis. The annual filing must be made within 120 days f the issuer s fiscal year-end. The infrmatin included in the annual reprt is similar t that required in the initial filing, except that, in respnse t numerus bjectins t the burden f nging reprting as riginally prpsed, n accuntants audit r review f the financial statements will be necessary. Regulatin CF prvides fr five ways in which a cmpany is able t cease filing nging reprts with the SEC. Annual filing requirements cntinue until: The issuer becmes a fully-reprting registrant with the SEC; The issuer has filed at least ne annual reprt, but has n mre than 300 sharehlders f recrd; The issuer has filed at least three annual reprts, and has n mre than $10 millin in assets; The issuer r anther party purchases r repurchases all the securities sld in reliance n Sectin 4(a)(6); r The issuer ceases t d business. The ability fr an issuer t cease filing if it has 300 r fewer hlders f recrd, r assets nt exceeding $10 millin, is a mdificatin frm the prpsed rule. These changes mitigate sme f the cmpliance cst fr small cmpanies that have issued securities under Regulatin CF, as des the eliminatin f the requirements fr CPA review r audit. Advertising and publicity Pursuant t Sectin 4A(b)(2) f the Securities Act, an issuer may nt advertise the terms f the f the ffering, except fr ntices which direct investrs t the funding prtal r brker. Under the new rules, an issuer and any persn acting n behalf f the issuer may publish a limited 7

8 ntice (smetimes called a tmbstne ) that advertises the terms f an ffering s lng as the ntice includes the address f the intermediary s platfrm n which infrmatin abut the issuer and ffering may be fund. While acknwledging that the statute restricts the ability f ptential issuers t advertise, the SEC has explained that restrictins n advertising the terms f the ffering are meant t direct the investrs t the intermediary s platfrm. Once at the intermediary platfrm, the investrs will have access t the infrmatin that will allw them t make an infrmed decisin abut the ffering. Under the rules, a ntice advertising the terms f an ffering may cntain n mre than the fllwing (it can cntain less): A statement that the issuer is cnducting an ffering, the name f the intermediary cnducting the ffering and a link t the intermediary s platfrm; The terms f the ffering (the amunt f the securities being ffered, the nature f the securities, the price f the securities, and the clsing date f the ffering perid); and Factual infrmatin abut the legal identity and the business lcatin f the issuer. This infrmatin is limited t the name f the issuer f the security, the address, phne number and the website f the issuer, an address fr a representative f the issuer, and a brief descriptin f the issuer s business. The rules d nt place restrictins n hw the issuer distributes these ntices, the frmat f the ntice, r its medium. Issuers can use scial media, audi, vide r street theater, s lng as nly the permitted cntent is included. An issuer culd place these ntices n varius scial media sites t attract ptential investrs and the ntice wuld direct them t the intermediary page where they culd access the infrmatin necessary t make an infrmed investment decisin. N ther public cmmunicatins abut the ffering are permitted. Psts n Facebk, tweets n Twitter, LinkedIn updates and the like that d nt fllw these limitatins wuld all likely result in the issuer s vilatin f Sectin 5 f the Securities Act. Under the rules, an issuer is allwed t cmmunicate with investrs and ptential investrs abut the terms f the ffering thrugh cmmunicatin channels prvided by the intermediary thrugh its platfrm, s lng as the issuer identifies itself as the issuer in all cmmunicatins. Anyne acting n behalf f the issuer must identify their affiliatin with the issuer n all cmmunicatins n the intermediary s platfrm. The SEC has clarified that the restrictins apply nly t persns acting n behalf f the issuer. If a persn whse nly cnnectin t the issuer was that she lved the cmpany s prduct were t tweet that she intended t invest because the cmpany was sure t succeed, this wuld be unlikely t be a prblem fr the issuer. Issuers may engage third-parties t prmte the ffering in tw cntexts thrugh the cmmunicatin channels prvided by the intermediary, and thrugh tmbstne ntices. Intermediaries are required t create cmmunicatin channels n their platfrms t facilitate discussin between prspective investrs and the issuer (see belw). Regulatin CF anticipates instances where the issuer will have paid a prmter t respnd t investrs thrugh thse cmmunicatin channels. In that situatin, such cmpensatin must be disclsed by the prmter with any cmmunicatin n the platfrm. The secnd cntext invlves payments t third-parties fr publishing tmbstne ntices that direct t the intermediary s ffering page. Regulatin CF states that an issuer may nt pay a third party t d what it cannt d itself. Paid 8

9 prmters shuld cnsider whether the disclsure requirements f Sectin 17(b) f the Securities Act apply t them. An issuer wuld nt be prhibited frm disseminating ther infrmatin abut the cmpany in the nrmal curse f its business that des nt relate t the terms f the ffering, such as general business advertising. Requirements fr intermediaries The fllwing requirements apply t bth brker-dealers and funding platfrms; funding platfrms will be subject t sme limitatins n their activities discussed in Special limitatins n funding prtals belw. Registratin A persn acting as an intermediary in a transactin invlving the sales f securities fr smene else pursuant t Sectin 4(a)(6) must: Register with the SEC as a brker r as a funding prtal. Regulatin CF creates a streamlined registratin prcess fr funding prtals. Nn-U.S. funding prtals are nly be allwed t register with the SEC if the funding prtal is based in a jurisdictin that has an infrmatinsharing agreement with the SEC, and the funding prtal is registered in that jurisdictin. Register with a self-regulatry rganizatin, r SRO (the nly eligible SRO at present being FINRA). Obligatins with respect t fraud preventin and cmpliance The statute requires intermediaries t take risks t reduce the risk f fraud, and Regulatin CF requires intermediaries t take psitive actin in several areas: Intermediaries must have a reasnable basis fr believing that the issuer has met the disclsure and prcess requirements described belw. An intermediary may rely n issuer representatins t frm that reasnable basis fr belief. Hwever, the SEC emphasized that an intermediary has a respnsibility t assess whether reliance n representatins is reasnable, given its curse f interactins with ptential issuers. This means that the representatin must be detailed enugh t evidence a reasnable awareness by the issuer f its bligatins and its ability t cmply with thse bligatins. As a result, this requirement cannt be met with a simple representatin ( checking the bx ) that the issuer has cmplied with Regulatin CF, but requires an inquiry int the issuer and the steps it has taken t cmply with Regulatin CF. Intermediaries must have a reasnable basis fr belief that the issuer has established a way t keep accurate recrds f the hlders f securities. Similarly with the reasnable basis fr belief as t issuer cmpliance, the SEC prvides that an intermediary may accept representatins frm an issuer that it has established a means t keep track f securityhlders. Hwever, any such representatin frm the issuer must detail recrdkeeping functins such as: Mnitring the issuance f securities thrugh the intermediary s platfrm; Maintaining a master security hlder list; 9

10 Maintaining a transfer jurnal r ther such lg; Effecting the exchange r cnversin f any securities; Maintaining a cntrl bk demnstrating histrical registratin f thse securities; and Cuntersigning and legending physical certificates. If the issuer has engaged a registered transfer agent, the intermediary will be deemed t have met the requirement f establishing a reasnable basis fr belief. The intermediary must deny access t its platfrm if it has a reasnable basis t believe that any specified persn is subject t a Bad Actr disqualificatin. This requirement is tied t the statutry mandate under Sectin 4A(a)(5) f the Securities Act that an intermediary cnduct a backgrund and securities enfrcement regulatry histry check n the issuer and its cvered persns. In rder t meet this requirement, the intermediary must cnduct these checks n the issuer, predecessrs f the issuer, fficers and directrs (r any persn ccupying a similar status r perfrming a similar functin), and any 20 percent beneficial wner f the issuer. The intermediary must deny access t its platfrm if it has a reasnable basis t believe that the issuer r the ffering presents the ptential fr fraud r therwise raises cncerns abut investr prtectin. Here, the intermediary must be able t adequately and effectively assess the risk f fraud frm the issuer r its ffering, and may nt ignre facts abut the issuer that indicate fraud r investr prtectin cncerns. If it cannt adequately assess the issuer r reslve cncerns, the intermediary must deny access t its platfrm. This may ccur, fr example, where an issuer s directrs are freign natinals whse cuntry f rigin des nt allw fr third parties t review criminal r regulatry enfrcement backgrund infrmatin. If it becmes aware f the ptential fr fraud after granting access t its platfrm, it must cancel the ffering. The SEC des nt further define what cnstitutes cncerns abut investr prtectin, and creates sme ambiguity as t what is required f intermediaries. Opening f investr accunts An intermediary may nt accept any investment cmmitment frm investrs in a transactin under Regulatin CF, until that investr has pened an accunt with the intermediary and cnsented t electrnic delivery f materials. The SEC des nt specify the exact infrmatin that the intermediary must btain frm an investr, and leaves it t intermediaries t determine what they will require fr business purpses and cmpliance purpses. The requirements that investrs cnsent t electrnic delivery f infrmatin is imprtant fr the functining f securities crwdfunding. As almst all activity related t the ffering and nging reprting will be delivered electrnically via , by being directed t a URL, and thrugh the intermediary s prtal, investrs are required t cnsent t such delivery f infrmatin in lieu f paper mailings. Ntices regarding prmters f the issuer At the time that an investr pens an accunt with an intermediary, the intermediary must infrm the investr that anyne wh prmtes an ffering in exchange fr cmpensatin, r wh is a funder r an emplyee f an issuer prmting the issuer thrugh the cmmunicatin channels n the platfrm must disclse the fact that he r she is engaging in prmtinal activities n behalf f the issuer. The SEC believes this requirement will assist investrs by alerting them at the utset abut the prmtinal activities f issuers r representatives f issuers. 10

11 Cmpensatin disclsure An additinal ntice requirement fr intermediaries when establishing an accunt fr an investr includes disclsure f the manner in which they will be cmpensated in cnnectin with fferings and sales made in reliance n Sectin 4(a)(6). Fr a platfrm that will accept a range f cmpensatin types frm issuers (e.g., flat fee, cmmissin, equity interest, etc.), each type f cmpensatin that it will accept must be disclsed. The SEC determined that this requirement is better suited t the time f an investr s accunt pening rather than prir t the pint when an investr makes an investment cmmitment because it will help investrs make better-infrmed decisins when reviewing fferings n the platfrm. Prvisin f educatinal materials As part f the statutry requirements fr fferings under Sectin 4(a)(6), intermediaries are required t prvide disclsures and investr educatinal materials. Regulatin CF requires these educatinal materials t be prvided t investrs at the time they pen accunts with intermediaries. Regulatin CF further requires that the materials be written in plain language and therwise designed t cmmunicate effectively specified infrmatin. These materials are required t cver: The prcess fr investing n the intermediary s platfrm. The risks assciated with crwdfunding securities. The types f securities that may be ffered n the intermediary s platfrm and the risks assciated with each, including dilutin (nte that the intermediary may be deemed nt t have met this criterin if an issuer sells a securities prduct nt previusly explained in its educatin materials). Restrictins n resale. The type f infrmatin that an issuer is required t deliver annually, and that such infrmatin may cease t be prvided in the future. Investr limit amunts. The limitatin s n an investr s right t cancel an investment cmmitment and circumstances in which an issuer may cancel and investment cmmitment. The need fr an investr t cnsider whether crwdfunding securities are apprpriate fr him r her. That at the end f the ffering, there might nt be any nging relatinship between the issuer and the intermediary. The circumstances under which an issuer may cease t publish annual reprts and the crrespnding absence f current financial infrmatin abut the issuer. The SEC declined t develp its wn investr educatinal materials fr the purpse f this requirement, instead leaving it t each platfrm t determine the best means t educate their investrs. These educatinal materials must be made cntinuusly available. Shuld the intermediary make material revisins t its educatinal materials, it must prvide the updated materials t all investrs prir t accepting any additinal investment cmmitments r effecting any further transactins. 11

12 Acknwledgement f risk Prir t accepting any investr cmmitments fr any particular ffering, Regulatin CF requires that intermediaries receive a representatin frm the investr that the investr has reviewed the educatinal materials and understands that the entire amunt f the investment is at risk and may be lst. Additinally, intermediaries must require investrs t cmplete a questinnaire that demnstrates the investr s understanding that: There are restrictins n the investr s ability t cancel an investment cmmitment and btain a return f the cmmitment. It may be difficult t resell securities acquired in an ffering f securities under Sectin 4(a)(6). Investing in securities sld under Sectin 4(a)(6) invlves risk and that the investr shuld nt invest any funds unless the investr is able t bear the entire lss f the investment. The SEC declined t develp such a questinnaire and instead left it t the discretin f intermediaries. The SEC stated that this flexibility will allw intermediaries t tailr questinnaires t the business and likely investr base f the intermediary. Intermediaries may require additinal infrmatin in these questinnaires, such as infrmatin cncerning the investr s level f investment experience, where the investr acquired any infrmatin abut the ffering, and the percentage f the investrs liquid net wrth represented by the prpsed investment. Whatever frmat the prcess may take, the intermediary will be required t receive the representatin and questinnaire respnses frm the investr each time an investr makes an investment cmmitment even if the investr has previusly made investments thrugh the intermediary. Requirements fr intermediaries with respect t transactins The SEC sets ut the methds by which an intermediary must cmply with the statutry requirements fr managing fferings taking place under Sectin 4(a)(6) in in Rules 303 and 304. Intermediary must make issuer infrmatin available During the curse f an ffering, the intermediary must make the issuer s required disclsure infrmatin publicly available n the intermediary s website. This infrmatin must be available fr at least 21 days prir t any sale f securities and displayed in a manner that allws fr any visitr, including regulatrs, t access, dwnlad, and save. This rule pses cmpliance challenges fr intermediaries. First, it is unclear hw an issuer s amendment t its disclsure infrmatin impacts the 21-day availability requirements prir t sale. Secnd, it is pssible an intermediary will be liable fr allwing sales t ccur if the issuer has nt supplied the cmplete set f infrmatin it is required t disclse. As such intermediaries must ensure that issuer s disclsures are cmplete. The intermediary is nt required t ascertain whether investrs have reviewed the disclsure material. Investr qualificatins Intermediaries are respnsible fr ensuring an investr stays within the annual investment limit. T cmply with this requirement, intermediaries must have a reasnable basis fr believing that the investr satisfies his r her annual investment limit. An intermediary may rely n investr representatins cncerning the investr s annual incme, net wrth, and the amunt f the investr s ther investments made under Sectin 4(a)(6). 12

13 Additinally, fr each transactin, intermediaries are required t btain a representatin frm an investr that the investr has reviewed the educatinal materials and require the investr t cmplete a questinnaire cvering the restrictins n the ability f the investr t cancel the investment cmmitment, the limitatins n resale f securities, and the riskiness f transactins under Sectin 4(a)(6). Cmmunicatin channels fr issuers and investrs Regulatin CF is designed n the premise that crwdfunding requires the crwd t be able t cmmunicate with each ther and with the issuer t evaluate the investment pprtunity. As such, the final rules require that the intermediary establish cmmunicatin channels n the intermediary s platfrm t prvide a centralized and transparent means fr members f public t asset the investment ffering. Specifically, the intermediary must: Permit public access t view the discussins made in the cmmunicatin channels; Restrict psting f cmments t thse persns wh have pened an accunt with the intermediary n its platfrm; Require that any persn psting a cmment in the cmmunicatin channels clearly and prminently disclse with each psting whether he r she is a funder r an emplyee f an issuer engaging in prmtinal activities n behalf f the issuer, r is therwise cmpensated, whether in the past r prspectively, t prmte the issuer's ffering; and If a funding prtal, nt participate in the cmmunicatins ther than t establish guidelines fr cmmunicatins and remve abusive r ptentially fraudulent cmmunicatin. The SEC leaves pen t intermediaries whether t allw their registered users t pst under their real names r under aliases. Either chice will affect the quality f cmmunicatins presented. Fr example, real names might limit participatin, but aliases culd encurage inaccurate r abusive psts. Other cnsideratins fr intermediaries when establishing cmmunicatin channels include bjective enfrcement f cmmunicatins. Fr instance, prmtin f a psitive cmment r remval f a negative cmment that is nt abusive may be cnsidered the prvisin f investment advice. Prviding ntices t prspective purchasers Upn receipt f an investment cmmitment, the intermediary must prvide the investr with a ntificatin disclsing: The dllar amunt f the investment cmmitment; The price f the securities, if knwn; The name f the issuer; and The date and time by which the investr may cancel the investment. Transmissin r maintenance f funds frm investrs The rules pertaining t transmissin f funds under Regulatin CF vary based n the status f the intermediary as a registered brker-dealer r funding prtal. Brker-dealers must cmply with existing regulatins set ut in Rule 15c2-4. Under the regulatin, funds must be prmptly depsited int a separate bank accunt until the clse f the ffering when it is prmptly transmitted t the issuer. Funding prtals, which are prhibited frm handling funds r securities, must: 13

14 Direct funds t a qualified third-party that has agreed t hld the funds in escrw, with qualified third-parties including a registered brker-dealer, bank r credit unin; and Direct the qualified third party t transmit funds t the issuer r return funds t the investr depending n the result f the ffering under Sectin 4(a)(6). Cnfirmatin f transactins Intermediaries are respnsible fr sending ntice t investrs cnfirming the cmpletin f the transactin. Thse ntices must disclse pertinent details f the transactin, including: The date f the transactin; The type f security that the investr is purchasing; The identity, price, and number f securities purchased by the investr, as well as the number f securities sld by the issuer in the transactin and the price(s) at which the securities were sld; If a debt security, the interest rate and the yield t maturity calculated frm the price paid and date f maturity; If a callable security, the first date that the securities can be called by the issuer; and The surce, frm and amunt f any remuneratin received r t be received by the intermediary in cnnectin with the transactin, including any remuneratin t be received by the intermediary frm persns ther than the issuer. Intermediary respnsibility fr cancellatins and recnfirmatins At varius times during an ffering, the intermediary may be respnsible fr recnfirming an investment cmmitment with investrs r cancelling the investment cmmitment. In the event than an issuer makes a material change t the terms f an ffering r t the infrmatin prvided by the issuer, intermediaries are required t cntact investrs that have made a cmmitment and request the investr re-cmmit t the investment in light f the new infrmatin. This cnfirmatin must be received within five days r else the investment cmmitment must be cancelled by the intermediary. If the intermediary was required t cancel the investment cmmitment, it must then send a ntice f the cancellatin t the investr and direct a refuse f the investr s funds. In the case f a material change ccurring within five days f the target end f the ffering established by the issuer, the ffering must be extended t allw five full business days fr the investr t re-cmmit t the investment. If an issuer des nt raise the target funds by the deadline it established, the intermediary has five days t prvide investrs with ntice f the cancellatin f the investment cmmitment, direct the refund f investr funds, and prevent investrs frm cmmitting any additinal funds t the ffering. Prtect the privacy f infrmatin cllected frm investrs The statutry language f Sectin 4A(a)(9) f the Securities Act requires that intermediaries prtect the privacy f infrmatin cllected frm investrs. Rather than creating new privacy rules, the SEC adpted rules t clarify that brker-dealers and funding prtals are required t cmply with Regulatin S-P, Regulatin S-ID, and Regulatin S-AM. Taken tgether, these regulatins bligate intermediaries t have plicies and prcedures in place t prtect nnpublic infrmatin abut investrs, prevent identify theft, and limit the infrmatin shared with affiliates. 14

15 Limitatin n payments t finders An intermediary in an ffering under Sectin 4(a)(6) is prhibited frm cmpensating finders r any persn fr prviding persnally identifiable infrmatin n any investr r ptential investrs. Financial interest in issuers By statute, the directrs, fficers, r partners f an intermediary are prhibited frm having a financial interest in an issuer using its services. The SEC clarified the way in which this prhibitin applies t the intermediary itself. An intermediary may receive a financial interest in the intermediary as a frm f cmpensatin fr the services perfrmed by the intermediary; the financial interest must be f the same class and at the same terms as the securities being sld under Sectin 4(a)(6). Special limitatins n funding prtals Under the Securities Exchange Act and Regulatin CF, funding prtals are limited purpse brkerdealers that may assist issuers in the ffering and sale f securities subject t certain limitatins n their activities. The statutry prhibitins n funding prtals include: Paying fr finding ptential investrs; Giving investment advice r recmmendatins; Sliciting ffers r sales t buy the securities ffered n its prtal Cmpensating anyne fr such slicitatin r based n the sale f securities n its prtal; Hlding r managing funds; and Permitting their fficers, directrs r partners t have a financial interest in an issuer using their services. The SEC prvided additinal clarificatin f the statutry limitatins by creating a cnditinal safe harbr fr funding prtals. Under the cnditinal safe harbr, funding prtals may: Determine whether and under what terms t allw an issuer t ffer securities n the funding prtal s platfrm; Apply bjective criteria t highlight fferings n the platfrm; Prvide search functins fr investrs t search and srt fferings based n bjective criteria; Prvide cmmunicatin channels that allw the issuer t cmmunicate with investrs and ptential investrs; Advise issuers n the structure and cntent f the ffering; Cmpensate third parties fr referring persns t the prtal and ther services, s lng as the referral des nt include persnally identifiably infrmatin f any ptential investr and the cmpensatin is nt transactin based unless the party is a registered brker-dealer; Pay r ffer t pay cmpensatin t a registered brker-dealer fr services; Receive cmpensatin frm a registered brker-dealer; Advertise the existence f the funding prtal and identify ne r mre issuers using bjective 15

16 criteria t determine which issuers t identify; Deny access t the funding prtal s platfrm if the funding prtal has a reasnable basis fr believing that the issuer presents the ptential fr fraud; Direct investrs where t transmit funds fr the purchase f securities; and Direct third-parties t release funds t issuers r return funds t investrs. Curatin f fferings by funding prtals In its prpsed rules, the SEC expressly prhibited funding prtals frm curating fferings, as such subjective curatin wuld be investment advice an activity prhibited t funding prtals by statute. In the final rules, the SEC relaxed this requirement by prviding funding prtals the ability t determine whether and under what terms t allw issuers nt their platfrms s lng as curatin des nt result in the prvisin f investment advice. This requirement is cnnected with the advertising restrictins discussed belw. Fr instance, curatin by the funding prtal may nt supprt a claim that the issuers n the platfrm are safer r better investments. Instead, the curatin shuld be a back-ffice type activity that helps prtals bring frward the types f issuers they want withut that activity becming a selling pint fr the platfrm f the issuers. Highlighting issuers and fferings In keeping with the prhibitin n prviding investment advice, funding prtals are nly permitted t highlight specific issuers r fferings thrugh the applicatin f bjective criteria that is reasnably designed t highlight a brad selectin f issuers. The bjective criteria must be applied cnsistently t all issuers and fferings and may nt highlight issuers and fferings based n the advisability f investing, whether implicitly r explicitly. Sme f the bjective criteria nted by the SEC are: the type f securities being ffered; the gegraphic lcatin f the issuer; and the number r amunt f investment cmmitments made. Funding prtals may nt use the bjective criteria in such a way that it highlights r prmtes a specific ffering, as that wuld nt be designed t highlight a brad selectin f issuers. Funding prtals are further prhibited frm receiving special r additinal cmpensatin fr identifying r highlighting (r ffering t highlight) an issuer r ffering n the platfrm. Prviding search functins Funding prtals may prvide search functins that allw investrs t srt thrugh fferings based n bjective criteria. The search functin may allw fr the search t be based n multiple criteria that wuld result in investrs nly viewing a limited number f fferings. The SEC identifies examples f acceptable search criteria that include the percentage f the target ffering amunt that has been met, gegraphic prximity t the investr, and days remaining befre the ffering deadline. Any criteria chsen by the funding prtal must nt crss int advisability f investing. Prviding cmmunicatin channels In prviding cmmunicatin channels as required by all intermediaries in fferings under Sectin 4(a)(6), funding prtals have limitatins n their participatin in thse cmmunicatin channels. Funding prtals, and their assciated persns, may nt participate in the cmmunicatins thrugh the cmmunicatin channels. They may nly establish guidelines abut cmmunicatin thrugh the prvided channels and may remve abusive and fraudulent cmmunicatins. Funding prtals are required t make these cmmunicatin channels pen t the public and nly allw ptential investrs with accunts t pst n these channels. Funding prtals must require any cmmenter psting in the 16

17 channels t disclse if he r she is receiving cmpensatin fr prmting an issuer. The SEC clarifies that any cmmunicatin channel can include ratings f the ffering by investrs and ptential investrs (e.g., up-vtes, dwn-vtes, likes, dislikes). Any rating system used must prvide fr bth psitive and negative ratings. If the funding prtal nly allws fr psitive ratings, that may be cnsidered investment advice. Advising Issuers Funding prtals are permitted t advise an issuer abut the structure r cntent f the ffering, which includes preparing the ffering dcumentatin. The SEC nted that a funding prtal culd prvide predrafted templates r frms t the issuers, and prvide advice n the types f securities the issuer can ffer, the terms f thse securities and crwdfunding regulatins. Paying fr referrals Funding prtals may cmpensate a third party fr referring ptential investrs t the prtal s lng as the third party des nt prvide the funding prtal with any persnally identifiable infrmatin abut any f the ptential investrs. This might include hyperlinks frm third parties sites. Cmpensatin fr such referrals may nt be based n the purchase r sale f a security n the prtal s platfrm unless the third party is a registered brker-dealer. Cmpensatin arrangements with registered brker-dealers Funding prtals may enter int certain agreements with registered brker-dealers where they can pay each ther fr services. The prpsed rules permit a funding prtal t pay r ffer t pay a registered brker-dealer fr services in cnnectin with an ffering made in reliance n Sectin 4(a)(6). In additin, the SEC allws funding prtals t prvide services and be paid by a registered brker-dealer in cnnectin with the funding prtal s ffer r sale f securities in reliance n Sectin 4(a)(6). Hwever, the final rules d nt allw a funding prtal t receive cmpensatin fr referrals f investrs in fferings made ther than in reliance n Sectin 4(a)(6). This is relevant t the financial cnsideratins fr funding prtals ffering securities f an issuer pursuing cncurrent fferings under Sectin 4(a)(6) and Rule 506(c). The funding prtal may nt receive cmmissins fr referring accredited investrs t a brker-dealer managing the ffering under Rule 506(c). Advertising the funding prtal and fferings Funding prtals are subject t limitatins n publicity that d nt apply t brker-dealers (which have pre-existing and strict rules abut advertising and the use f scial media). Under the final rules, a funding prtal is: Permitted t advertise its wn existence; Permitted t identify issuers r fferings in its advertisements based n bjective criteria that wuld identify a large selectin f issuers, s lng as the criteria used d nt implicitly endrse ne issuer r ffering ver thers and are cnsistently applied t all issuers and fferings; and Prhibited frm receiving special r additinal cmpensatin fr identifying r highlighting an issuer r ffering in its advertisements. The rule des nt restrict the media frmats that funding prtals may use t advertise, and is slely fcused n the cntent. 17