On October 23, 2013, the Securities and Exchange Commission (the “SEC”) issued its proposed rules to implement Title III of the Jumpstart Our Business Startups Act of 2012 (the “JOBS Act”), which would permit companies to raise up to $1 million a year from an unlimited number of investors, including non-accredited investors, through intermediaries registered with the SEC, while remaining exempt from the Securities Act registration requirements. See Proposed Rules to Implement JOBS Act, available at http://www.sec.gov/rules/proposed/2013/33-9470.pdf. Commonly referred to as the crowdfunding exemption, the ninety day comment period closes on February 3, 2014.

According to the SEC, “the intent of the JOBS Act is to make it easier for startups and small businesses to raise capital from a wide range of potential investors and provide additional investment opportunities for investors.” There are concerns, however, that the lengthy proposed rules, spanning more than 176 pages in the Federal Register, contain requirements that will make this new exemption too burdensome and costly for small companies to comply with.

The proposed rules contain a number of provisions aimed at protecting investors from possible fraud, including limits on the amount that investors can invest based on their annual income or net worth and extensive disclosure requirements about the management, ownership and financial condition of a company. The type of financial disclosure depends on the amount of funding sought by a company through crowdfunding. If the targeted offering amount is less than $100,000, then a company must only provide tax returns for the most recently completed year and financial statements certified by the principal executive officer of the company. If it is between $100,000 and $500,000, a company will be required to provide financial statements reviewed by an independent public accountant. If it is greater than $500,000, a company will be required to provide audited financial statements. Companies that have relied on this crowdfunding exemption will also have an ongoing requirement to file annual reports with the SEC.

The crowdfunding offerings are to be conducted through SEC-registered intermediaries – either a broker-dealer or a funding portal, which is a new type of SEC registrant. The proposed rules contain a number of provisions governing the activities of these intermediaries that are also intended to reduce the risk of fraud for investors, including that intermediaries must conduct background and securities enforcement regulatory history checks on each company, as well as on each of its officers, directors and persons holding more than twenty percent (20%) of the outstanding equity of the company. Intermediaries face potential statutory liability for non-compliance. Additionally, the intermediaries must become members of the Financial Industry Regulatory Authority (“FINRA”). FINRA released its own set of proposed rules that apply to these intermediaries and the deadline to provide comments to FINRA’s proposed rules is also February 3, 2014. See FINRA Proposed Rules, available at http://www.finra.org/Industry/Regulation/Notices/2013/P370744.

Opinions and conclusions in this post are solely those of the author unless otherwise indicated. The information contained in this blog is general in nature and is not offered and cannot be considered as legal advice for any particular situation.