On April 5, 2012, President Obama signed into law the Jumpstart Our Business Startups Act (the “JOBS Act”), a collection of reforms to the U.S. federal securities laws designed to reduce the regulatory burdens on small businesses and facilitate capital formation.1 The JOBS Act directed the Securities and Exchange Commission (the “SEC”) to amend Rule 506 of Regulation D under the Securities Act of 1933 to permit general solicitation or general advertising in unregistered offerings made under Rule 506, provided that all purchasers are accredited investors. The SEC proposed rules on August 29, 2012 to implement that requirement.
Proposed Amendments to Rule 506
Section 4(a)(2) of the Securities Act exempts from registration the offer and sale of securities by an issuer in a transaction “not involving any public offering.” This exemption has been interpreted to restrict an issuer from using public announcements, advertising or general solicitations when offering and selling securities. Rule 506, which creates a “safe harbor” for issuers seeking to use the Section 4(a)(2) exemption, currently prohibits the issuer, or any person acting on its behalf, from offering or selling securities through any form of general solicitation or general advertising.
To implement the JOBS Act, the SEC proposes to add new Rule 506(c), which would permit the use of general solicitation to offer and sell securities under Rule 506, provided that:
- the issuer takes reasonable steps to verify that the purchasers are accredited investors;
- all purchasers of securities are accredited investors, either because they fit within one of the categories of persons that qualify as accredited investors or the issuer reasonably believes that they do, at the time of the sale of securities; and
- the other requirements of Regulation D (other than the general solicitation prohibition) are satisfied.
Verification of Accredited Investor Status
The SEC noted that the purpose of the verification mandate is to address concerns, and reduce the risk, that the use of general solicitation under Rule 506 may result in sales to non-accredited investors. The SEC noted that under the proposed rule, whether the steps taken by an issuer to verify that all purchasers are accredited investors are “reasonable” would be an objective determination that is based on the facts and circumstances of each transaction. The SEC also noted that amendments to Rule 506 must be flexible to accommodate different types of issuers and different types of accredited investors that may purchase securities in these offerings. The SEC provided a non-exclusive list of factors that an issuer would consider when determining the reasonableness of the steps taken to verify that a purchaser is an accredited investor, including:
- the nature of the purchaser and the type of accredited investor that the purchaser claims to be;
- the amount and type of information that the issuer has about the purchaser; and
- the nature and terms of the offering, including the manner in which the issuer was solicited and whether it requires a high minimum investment amount.
- Publicly available information in filings with a federal, state or local regulatory body;
- Third-party information that provides reasonably reliable evidence, such as W-2 Forms, tax returns or trade publications; and
- Verification of a person’s status by a third party, such as a broker-dealer, attorney or accountant, provided that the issuer has a reasonable basis to rely on such third-party verification.
1. The text of the JOBS Act, as passed by the House on March 27, 2012, is available at http://www.gpo.gov/fdsys/pkg/BILLS-112hr3606enr/pdf/BILLS-112hr3606enr.pdf. For a more comprehensive discussion of the changes to U.S. federal securities laws instituted by the JOBS Act, please see our earlier client alert, The U.S. Jumpstart Our Business Startups Act (The JOBS Act), available at http://www.curtis.com/siteFiles/Publicati ons/Public%20Company%20Client%20Alert.pdf.↩
2. QIBs are defined generally as institutions that own and invest at least $100 million in securities on a discretionary basis.↩