Crowdfunding has become an increasingly popular buzzword for startup companies. Rather than being limited to wealthy accredited investors, crowdfunding, under the Jumpstart Our Business Startups Act (JOBS Act) offers the possibility of certain qualified start-up companies raising money online from unaccredited investors by selling equity, rather than offering rewards a la Kickstarter. However, a number of states have become frustrated with the slow pace of rulemaking at the Securities and Exchange Commission (SEC). These states, like Massachusetts, Florida and Texas, have enacted their own crowdfunding laws that rely on the existing “intrastate” offering exemption. This has created the need for some clarifications from the SEC about the use of the intrastate exemption for crowdfunding purposes.
On September 23, the SEC Advisory Committee on Small and Emerging Companies (Advisory Committee) convened to submit its recommendations in order to modernize Rule 147 under the Securities Act of 1933 to facilitate these recently enacted state-based crowdfunding initiatives.
Section 3(a)(11) of the Securities Act of 1933 currently provides an exemption from federal registration requirements for the intrastate offers and sales of securities. Securities Act Rule 147 provides a safe-harbor for those companies seeking to qualify for the Section 3(a)(11) exemption. However, the current safe-harbor provided under Rule 147 can be difficult to satisfy.
During its meeting, the Advisory Committee identified the follow problems with Rule 147:
• the current rule does not permit offers to out-of-state residents, thereby preventing any offering on a public website;
• the current rule requires a series of “80% tests” in order for a company to be deemed to be doing business within a state, and these tests are difficult to satisfy and may harm small businesses; and
• companies must be incorporated in the state where the offering would be conducted.
Rule 147 in its current state makes any online crowdfunding virtually impossible for start-up companies looking to take advantage of the Section 3(a)(11)exemption.
In attempting to address these rules, the Advisory Committee recommended that the rule be modernized to allow Rule 147 offers to be viewed by out-of state residents, while continuing to limit sales to residents of the state in which the company has its main office. This solution would allow local companies to reach out to local residents using a public website without violating Rule 147. The Advisory Committee also recommended that the percentage threshold criteria be removed and that the requirement that the issuer be incorporated or organized in the same state where all sales occur be eliminated.
These are welcome recommendations from the Advisory Committee. But as we have seen in the past, the SEC has been slow to adopt regulations under the JOBS Act. While crowdfunding remains an exciting potential opportunity for start-ups, the Advisory Committee recommendations serve as an important reminder that the current state of the law still creates a significant barrier for many start-up companies seeking to generate local investment through websites.