SEC General Solicitation Rules

On July 11, 2013, the day following the release of the new Regulation D General Solicitation Rules, the Wall Street Journal published an article capturing the enthusiasm of entrepreneurs ready to jump into the general solicitation fray with marketing blitzes. Businesses were considering billboards and tee shirt promotions, Twitter and Facebook, buses, newspapers and newsletters to generate interest in their operations.

The new regulations do not make raising capital through General Solicitation as easy as many entrepreneurs may have wished. Under traditional private offering rules under Regulation D, an investor could verify through a signature on an investor questionnaire and subscription agreement that the investor was deemed to be “Accredited” and therefore, qualified to make an informed judgment about his or her ability to invest in an offering. For individual investors, that generally means a net worth, exclusive of principal residence, of one million dollars or income of at least $200,000 (or $300,000 with a spouse) over the last two years with a reasonable expectation that will be the case in the current year. That standard remains in place for private offerings.

For General Solicitation, the SEC has imposed more stringent verification requirements pursuant to Rule 506(c). Now, an issuer of securities must take reasonable steps to verify the accredited status of a potential investor in a deal. An issuer can verify the accreditation status of a business by any of the following non-exclusive methods:

Obtain any IRS form that reports an investor’s income for the past two years. Those forms include, but are not limited to, Form W-2 (“Wage and Tax Statement), Form 1099 (report of various types of income), or a copy of Form 1040 (“U.S. Individual Income Tax Return”). The potential investor must also include a written representation that states he or she has a reasonable expectation of reaching the income level necessary to qualify as an accredited investor during the current year.
Review documentation for assets and liabilities that is dated within the prior three months, and a written representation from the potential investor stating that all liabilities required to make a determination of net worth have been disclosed. Documentation for assets can include bank statements, brokerage and other statements of securities holdings, certificates of deposit, and tax assessments or appraisal reports issued by an independent third party. For liabilities, a credit report from at least one of the nationwide consumer reporting agencies and the above-mentioned written representation stating an investor’s liabilities is considered an adequate form of documentation.
Obtain a written confirmation from a registered broker-dealer, an SEC-registered investment advisor, a licensed attorney, or a certified public accountant that the business advertising for funding has taken appropriate measures within the prior three months to determine that an investor is accredited.
Provide publicly available information in filings with a federal, state or local regulatory body which may include where the purchaser is a named executive officer in a reporting company and the registrant’s proxy statement discloses the purchaser’s compensation.
Take into account the amount of the investment. For example, it is likely that only an accredited investor could make a $100,000 investment in a transaction.
The new rules permit private funds that rely on exemptions under the Investment Company Act of 1940 to participate in general solicitation.

The SEC explicitly stated that merely checking a box on a questionnaire will not be adequate verification in the absence of other information about the purchase indicating accredited investor status.
Because these verification methods are much more intrusive than checking a box on a form and will obligate investors to share personal financial information with virtual strangers, there is no assurance that accredited investors will be quick to participate in General Solicitation opportunities, to the extent they exist. Now entrepreneurs must face the challenge of finding accredited investors willing to share such information, a challenge that may well affect the volume of General Solicitation undertakings.

The SEC also took actions to revise portions of Regulation D that are separate from the General Solicitation provisions. Certain persons will no longer be able to rely on Regulation D if they are subject to disqualifying acts, commonly known as “bad boy” provisions. Those disqualifying acts are substantially similar to bad actor disqualification provisions contained in Regulation A. Also, new Form D filing rules have been proposed.
It is evident that the new landscape presents new opportunities, accompanied by significant challenges. At Lewis Brisbois, we are happy to work either with entrepreneurs or investors who wish to participate in the new General Solicitation process.