Investment Crowdfunding Exemptions: Understand What You Can and Cannot Do to Advertise Your Offering

This article expands upon a recent overview of the securities law exemptions commonly used for investment crowdfunding campaigns.

The six distinct exemptions or "paths" outlined below are the most commonly used by companies to raise capital from the "crowd," two of which are specific to companies conducting business in North Carolina.

For each of the exemptions, an outline of the key structural and mechanical requirements is provided, as well a summary of the rules relating to the use of advertising and general solicitation in an offering covered by that exemption.

Accredited Investor Crowdfunding (aka "Rule 506(c)" Offerings)

This is the most flexible (i.e. the least regulated) and most common form of investment crowdfunding.

Offering Structure and Mechanics:

  • Maximum Offering Amount: Unlimited.
  • Investor Suitability Requirements: Unlimited number of accredited investors, however, some offerings to accredited investors may utilize a special purpose vehicle (or "SPV") to structure the investment. In these circumstances, there will not be more than 99 total investors in the SPV. A natural person qualifies as an "accredited investor," if such person:
    • Has a net worth of at least $1,000,000, excluding the value of the person's primary residence; or,
    • Has an income of at least $200,000 each year for previous two years (or $300,000 combined income, if the investor is married) and the expectation to make the same amount in the year in which the investment is made; and,
    • Is a company "insider" (i.e., any director, executive officer, or general partner)
    • In addition, high-net worth banks, financial institutions, and other entities qualify as accredited investors. (See Rule 501 of Regulation D).
  • Individual Investment Caps: None.
  • Use of Internet: Permitted (but not required).
  • Use of a Portal: Permitted (but not required).
  • Required Disclosures: None stipulated, but a disclosure document (sometimes called a Private Placement Memorandum or "PPM") is often used to ensure investors have access to all material information necessary to make an investment decision.
  • Filing Requirements: Form D is filed with the United States Securities and Exchange Commission ("SEC") and notice filings and fees are delivered to applicable states. States may require offering documents to be filed.
  • On-going Reporting Requirements: None stipulated by statute.

Rules Governing Advertising and General Solicitation:

Federal and state regulations do not place any limits on the manner in which a Rule 506(c) offering can be advertised. So you can use any form of communication to solicit interest in or advertise a Rule 506(c) offering (so long as it’s not misleading). 

It is important to note that Rule 506's other exemption rule, Rule 506(b), does not allow general advertising.  Care must be taken not to engage in any activity that could be deemed to be an "offer" or "conditioning the market" for any offering that is seeking to comply with Rule 506(b) as opposed to Rule 506(c). 

Rule 506(c) does not require any specific filing to "launch" the offering, which eliminates concerns about conditioning the market for the sale of securities. Rule 506(c) does not dictate that a company includes specific legends in offering materials or advertisements (though they are often used to highlight the limitations on resales of the securities sold in the offering and may be required by state "blue sky" laws).  In addition, there is no explicit requirement to provide any specific disclosure to investors at the time they receive an offer (though they are often provided one). 

Tier 2 of Regulation A (aka "Regulation A+" or the "Mini-IPO")

This exemption is similar to a registered public offering. Issuers often engage a registered broker-dealer (or an investment bank) to assist in sales efforts and may elect to list the securities issued in the offering for trading on one or more of the secondary markets. 

Offering Structure and Mechanics:

  • Maximum Offering Amount: Up to $50 million in any rolling 12 month period.
  • Investor Suitability Requirements: None (anyone can invest).
  • Individual Investment Caps: Capped at 10% of income or net worth for non-accredited investors (unless the securities are listed on an exchange).
  • Use of Internet: Permitted but not required.
  • Use of a Portal: Permitted but not required.
  • Required Disclosures: Form 1-A "offering statement."
  • Filing Requirements: SEC review and qualification of Form 1-A; limited state notice.
  • On-Going Reporting Requirements: Reports filed annually and every six months and upon the occurrence of certain significant events.

Rules Governing Advertising and General Solicitation:

Other than specific solicitation of interest communications (discussed below), you may not advertise an offering or make any offers (whether orally or in writing) before your company's offering statement is filed with the SEC. You can begin to advertise your company's offering once your offering statement is filed with the SEC, but the content of your advertising will depend on whether or not your company's offering statement has been qualified. You have broad flexibility in the way you communicate with investors within the context of these rules, but you must include specific legends and make appropriate disclosure documents available to investors. 

Advertising After Filing and Qualification of the Offering Statement:

Once your company's offering statement is filed (but before it is qualified), you can make oral offers and also written offers through the use of a "preliminary offering circular" (which will be a part of your company's preliminary offering statement on Form 1-A). Your company's preliminary offering circular must be identified as such and include certain prescribed legends.  Once your company's offering statement is qualified, you can continue to make oral and written offers, but you must provide potential investors the most recent preliminary offering circular filed with the SEC with any written offers.  Note that you may not sell any securities until your company's offering statement is qualified and you must deliver your company's final qualified offering circular to each purchaser within two business days of each sale.

Solicitation of Interest (“Testing the Waters”):

You may use any form of communication to solicit interest in a potential offering at any time before you file your company's offering statement and before that offering statement is formally qualified by the SEC. This process (often referred to as "testing the waters") is designed to let you assess whether there's sufficient market interest in your company generally, or in the specific terms of the securities your company is offering, before going through the burden or incurring the (not insignificant) expense of preparing, filing, and qualifying a formal offering statement. 

Irrespective of when they are used, all testing the waters communications must include specific legends, and you must provide access to the preliminary offering circular if you use these communications after the offering statement is filed but before it is qualified. Note also that your solicitation of interest materials must be filed with the SEC as exhibits to your company's offering statement.  These materials are subject to securities antifraud rules.

Tier 1 of Regulation A

This exemption generally mirrors Tier 2 of Regulation A, except that each state in which offers are made will also regulate the offering.

Offering Structure and Mechanics:

  • Maximum Offering Amount: Up to $20 million in any rolling 12 month period.
  • Investor Suitability Requirements: Any resident of a state in which your company's offering is qualified.
  • Individual Investment Caps: None.
  • Use of Internet: Permitted but not required.
  • Use of a Portal: Permitted but not required.
  • Required Disclosures: Form 1-A "offering statement."
  • Filing Requirements: SEC and state review and qualification of Form 1-A.
  • On-going Reporting Requirements: None stipulated by statute.

Rules Governing Advertising and General Solicitation:

The rules outlined above for Tier 2 Regulation A Offerings generally apply to offerings conducted under Tier 1 of Regulation A. However, state(s) may impose additional requirements and place additional restrictions on your company's Tier 1 offering. For instance, some states will not permit you to test the waters, others may require your company to prefile and/or place additional legends on advertising materials.  You should work closely with a qualified securities attorney to understand what additional rules apply under state law if you are working on an offering under Tier 1 of Regulation A. 

Regulation Crowdfunding (aka Title III of the JOBS Act, Reg CF, or Section 4(a)(6) Offerings)

This is the exemption that is most commonly referred to as "crowdfunding." You must conduct these offerings through a single on-line platform that is operated by a qualified intermediary (in this case, either a registered funding portal or a registered broker-dealer). There are strict limitations placed on the manner by which your offering may be advertised.

 Offering Structure and Mechanics:

  • Maximum Offering Amount: $1.07 million in any rolling 12 month period.
  • Investor Suitability Requirements: None (anyone can invest).
  • Individual Investment Caps: All investments in any 12 month period may not exceed between $2,200 and $107,000, depending on the investor's annual income or net worth.
  • Use of Internet: Required.
  • Use of a Portal: Must use a single platform operated by a registered funding portal or a registered broker-dealer.
  • Required Disclosures: Form C (no review or qualification required).
  • Filing Requirements: Filed with the SEC prior to commencement (no review process).
  • On-going Reporting Requirements: Reports filed annually.

Rules Governing Advertising and General Solicitation:

Marketing plays a key role in any successful crowdfunding campaign. However, you should not make any “offers” of securities, either publicly or privately, before filing your company's Form C with the SEC.  In addition, (other than some very limited exceptions described below) communications about your company's offering must only be found on the platform. 

The content of your company's crowdfunding campaign will combine marketing materials (text, graphics, videos, visuals, testimonials, etc.) that focus on the "story" behind your company, the purpose of your company's offering and intended use of the proceeds raised, the nature of the securities being sold, and other required legal disclosures. These materials are prepared in advance of filing and typically double as the content for much of your company's Form C. Once your company's Form C is filed, your company's campaign page will be launched through the platform. All of these materials are subject to securities antifraud rules, so appropriate care must be taken in their preparation. Platforms also include a communication channel (basically a chat or Q&A function)—a place where your company can discuss its offering with investors and potential investors.

After launch, you may not communicate any of the "Terms of the Offering" off-platform through any form of advertisement—except for a limited form of notice called a "tombstone notice." Terms of the Offering include:

  • The amount of securities offered;
  • The nature of the securities;
  • The price of the securities; and,
  • The closing date of the offering period.

The intent of these rules is to drive investors to the intermediary’s site to find out more about the specific Terms of the Offering.

Tombstone Notice:

A tombstone notice is a simple offering announcement or advertisement. It includes no more than the following information:

  • A statement that your company is conducting an offering.
  • The name of the portal.
  • A link to the portal's platform.
  • The Terms of the Offering (see above).
  • Factual information about the legal identity and business location of your company, limited to:
    • Your company's name;
    • Your company's address, phone number, and website;
    • The e-mail address of a company representative; and,
    • A brief description of your company's business.

You can disseminate a tombstone notice in any way after your company's offering is launched. But it cannot contain any information beyond what is identified here.

Other Communications:

You may continue to advertise during your company's offering, as long as you do not include any terms of its offering. You can create press releases, advertisements, newsletters, and other publicity to help grow your business—so long as these materials do not include any Terms of the Offering. These ordinary course advertisements may also include a simple statement that your company is conducting a crowdfunding campaign and provide a link to your company's intermediary's platform, but any mention of the Terms of the Offering is prohibited. You may (and typically will) link to the platform’s website where your company's campaign is being hosted. However, you should understand that a link acts as an indirect communication of the terms contained on the linked website. So linking to a website that contains the Terms of the Offering could mean that you no longer comply with the advertising rules (i.e., the linked information contains the Terms of the Offering but includes more information than the tombstone rules permit, which is a violation of law). So be careful about linking to any website that contains the Terms of the Offering.

NC PACES Offering (aka NCPO or NC Intrastate Crowdfunding)

This exemption closely mirrors that of Regulation Crowdfunding but is structured as an "intrastate" offering exemption, which means that only companies doing business in North Carolina can use the exemption and sales must only be made to North Carolina residents.

Offering Structure and Mechanics:

  • Maximum Offering Amount: $1 million in any rolling 12 month period (or $2 million with 12 months of audited or reviewed financials).
  • Investor Suitability Requirements: Any North Carolina resident.
  • Individual Investment Caps: $5,000 per offering every 12 months for non-accredited investors; no cap on accredited investors.
  • Use of Internet: Required.
  • Use of a Portal: Must use a single portal operated by your company, a registered funding portal, or a registered broker-dealer.
  • Required Disclosures: Form NCE, a specific disclosure document, and escrow required.
  • Filing Requirements: Notice filed with the North Carolina Department of the Secretary of State Securities Division ("Division") 10 business days before commencement.
  • On-going Reporting Requirements: Reports filed quarterly and annually.

Rules Governing Advertising and General Solicitation:  

Like offerings under Regulation Crowdfunding, you may not make any “offers” of securities, either publicly or privately, before filing certain documents with the Division and receiving its approval of your company's offering. Once the offering is approved, your company's campaign can be launched on the platform.  This platform (which can be operated by your company or through a qualified intermediary) operates as your company's exclusive channel to receive disclosure documents and to communicate with investors. 

In principle, you can use any form of communication on the platform and can give as much information as you like, but again, all of this is subject to securities antifraud rules, so take appropriate care in preparing these materials. In addition, the Division has yet to take a firm position about whether certain content placed on the platform that is not part of your company's disclosure materials approved by the Division (such as a video discussing your company and its offering) must also comply with the advertising rules outlined below.

Offering Notices:

After your company's offering is launched, you may promote the offering only through the use of a specific type of "offering notice." Your company's offering notice may be communicated in print or distributed electronically, including through video, social media, your company's website, etc. Also, the offering notice content must closely mirror what you can include in a tombstone notice under Regulation Crowdfunding. 

You may include:

  • A statement that your company is conducting its securities offering pursuant to the NC PACES exemption;
  • The name of the escrow agent to which all investor funds are to be directed; and,
  • The terms of the offering" (which will be the same as those described above under Regulation Crowdfunding).

You may also include factual information about your company, but this information must not include anything other than:

  • Your company's name, legal identity, and business location;
  • Your company's address, phone number, and website;
  • The email address of your company's representative; and,
  • A brief description of your company's business.

Your company's offering notice must, in all instances:

  • Direct prospective investors to the website address of the platform where the disclosure document relating to your company's offering is posted; and,
  • Include a disclaimer that sales are restricted to North Carolina residents.

Ordinary Course Advertising:

These rules vary pretty significantly from Regulation Crowdfunding in that in most cases no mention of your company's offering may be made in ordinary course advertising materials. While you may continue to advertise your company's products or services in the ordinary course of business during the offering, if these advertisements include information beyond the limited factual information about your company that you can include in an offering notice, you must be certain not to reference any terms of the offering or the offering generally, or provide a link to the platform where the NCPO is being conducted.   

Local Public Offering (aka "LPO" Under NC Intrastate Crowdfunding)

This "intrastate" offering exemption is hybrid by design. It relies on many of the same rules and regulations that govern an NC PACES Offering, discussed above, however, there is significantly more flexibility in how your company's offering can be conducted and advertised.

Offering Structure and Mechanics:

  • Maximum Offering Amount: Up to $250,000 in any rolling 12 month period.
  • Investor Suitability Requirements: Any North Carolina resident.
  • Individual Investment Caps: $5,000 per offering every 12 months for non-accredited investors; no cap on accredited investors.
  • Use of Internet: Permitted but not required.
  • Use of a Portal: Permitted but not required. May not use a North Carolina funding portal or a registered broker dealer.
  • Required Disclosures: Form NCE-LPO, a specific disclosure document, and escrow required.
  • Filing Requirements: Notice filed with the Division 10 business days before commencement.
  • On-going Reporting Requirements: Reports filed quarterly and annually.

Rules Governing Advertising and General Solicitation:  

In general, the same rules govern your company's LPO that govern the NCPO. You may not make any “offers” of securities, either publicly or privately, before filing the appropriate documents with the Division and receiving its approval of the offering.  Once your company's offering is approved, however, you generally have much more flexibility in how you conduct an LPO.  You may, but are not required to, use the Internet to advertise or communicate with investors.  You may, but are not required to, establish a platform to facilitate the LPO; however, you may not conduct an LPO through a registered North Carolina funding portal or broker dealer.

After your company's LPO has cleared regulatory review and is launched, you may solicit investors through the use of an offering notice that meets the requirements discussed above. You may also continue to engage in ordinary course advertising related to your company's business, subject to the same limitations discussed under the NCPO rules.  Unlike the NCPO, however, your company's LPO may also use any additional advertising materials, as long as they have been approved in advance by the Division.  You may also host public meetings or gatherings to promote your company's LPO, as long as proper notice is given to the Division. 

But remember, under all circumstances you must provide a potential investor with the disclosure document at the time you make the offer. If an advertisement is an offer, it must provide a website address or link to the disclosure document.  You will also need to include the appropriate legends on these advertising materials.

Conclusion

Regardless of which exemption you elect to use for your company's offering, it is apparent that there are many rules to follow (and potential traps for the unwary). Failure to comply carries with it the potential for large monetary penalties, loss of reputation, and, in some cases, even criminal charges.  You should work closely with a qualified securities attorney to understand the rules of crowdfunding and how to comply with them.

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© 2018 Ward and Smith, P.A. For further information regarding the issues described above, please contact Benji Taylor Jones.

This article is not intended to give, and should not be relied upon for, legal advice in any particular circumstance or fact situation. No action should be taken in reliance upon the information contained in this article without obtaining the advice of an attorney.

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