What You Need to Know: New Crowdfunding and Exemption Regulations

Effective March 15, a new SEC regulation will change certain registration exemptions to increase and streamline access to capital. These regulatory exemptions are critical to entrepreneurs, emerging businesses, and investors because they provide less complex and lower-cost alternatives for raising capital than the standard registration process defined by the Securities Act of 1933.

The updated exemptions also aim to simplify the process of raising seed money and growth capital for firms of all sizes and will provide ease of integration so that issuers can more seamlessly take advantage of multiple exemptions. This post covers the testable details related to these exemptions.

Other recent regulatory changes related to exemptions will also be reviewed. These include:

• Revisions to the longstanding definition of “accredited investors” for individuals and business entities
• New “bad actor” provisions that disqualify certain individuals from the use of these exemptions
• New provisions for “testing the waters” and demo day activities
• Updates to requirements for offering integration

Which Securities Qualification Exams Does this New SEC Rule Impact?

Most securities qualifications exams will be impacted, and candidates should expect to see questions about these new rules at this time. Normally, for several months after a rule change’s effective date, related questions are included as experimental questions that don’t count toward exam scores, but since such questions are not identified, it’s best to be prepared as if all questions will count toward your score.

What Changes to Existing Exemption Limits are Effective March 15?

Certain exemptions will benefit from an increase in maximum offering amounts, as shown in the table below. New “bad actor” and “testing the waters” provisions were also added to certain exemptions. Details on these provisions are provided later in this article.

Exemption	Overview	Old Regulation	New Regulation
Reg A (aka Reg A+)	Provides registration exemptions for raising limited amounts of capital in a 12-month period	Tier 2 offering maximum is $50 million	Tier 2 offering maximum is raised to $75 million
		Tier 2 secondary sales maximum is $15 million	Tier 2 secondary sales maximum is raised to $22.5 million
			“Testing the waters” is permitted both before and after the offering statement is filed with the SEC
			“Bad actor” provisions now apply
Reg D, Rule 504	Provision of Reg D that permits sale to accredited and non-accredited investors as long as 12-month maximum is not exceeded	Maximum offering amount of $5 million	Maximum offering amount raised to $10 million
Reg D, Rules 506(b) and 506(c)	Provisions of Reg D that permit sale to accredited and a limited number of non-accredited investors		“Bad actor” provisions now apply
Regulation Crowdfunding	Permits companies to raise capital through online crowdfunding when handled by SEC-registered broker-dealers or funding portals	Maximum offering limit of $1.07 million	Maximum offering limit raised to $5 million
		For accredited investors, investment limit of $107,000 in a 12-month period For non-accredited investors, investment limit in a 12-month period is the lesser of $2,200 or the greater of 5% of the investor’s annual income or net worth if either the investor’s annual income or net worth is $107,000 or less or 10% of the greater of the investor’s annual income or net worth, not to exceed an amount sold of $107,000, if both the investor’s annual income and net worth exceed $107,000	No investment limit for accredited investors For non-accredited investors, investment limit in a 12-month period is: The greater of $2,200 or the greater of 5% of the investor’s annual income or net worth if either the investor’s annual income or net worth is $107,000 or less Or 10% of the greater of the investor’s annual income or net worth, not to exceed an amount sold of $107,000, if both the investor’s annual income and net worth exceed $107,000
			Certain “testing the waters” communications are permitted before filing to proceed

Changes to “Accredited Investors” Definition

The SEC’s final rules create new categories of individuals and entities that qualify as accredited investors, regardless of their wealth. The fundamental requirement for these investors is that they demonstrate the ability to assess an investment opportunity.

The expanded definition of individual accredited investors includes:

• Investors that hold a Series 7, Series 65, or Series 82 qualification. Other professional designations will be added to this list in the future.
• “Knowledgeable employees” associated with private funds such as qualifying hedge funds, venture capital funds, or private equity funds. These “knowledgeable employees” include officers and directors of the fund as well as certain employees who have been engaged in investing activities at the fund for at least a year. These individuals are considered accredited investors for investments in their funds only.

The amendments have also been updated to allow spousal equivalents to pool finances for the purpose of qualifying as accredited investors. Individuals or spouses and spousal equivalents can qualify as accredited investors by maintaining net worth of $1 million or more (minus the value of a primary residence), or by meeting minimum income requirements.

Income requirements have not changed: Individuals who have earned $200,000 or more in income over the past two years and spouses and spousal equivalents who have earned $300,000 or more in the past two years automatically qualify as accredited investors. They must also expect to continue earning income at these levels in the foreseeable future.

The expanded definition of entity accredited investors includes:

• SEC-registered broker-dealers and SEC- and state-registered investment advisors
• Banks, savings and loan institutions, insurance companies, small business investment companies, or rural business investment companies
• Charitable organizations with assets in excess of $5,000,000
• Family offices providing investment advice for wealthy clients (as defined under the Investment Advisers Act of 1940) that are managing assets of more than $5,000,000, and family clients of these offices
• Municipal and ERISA (Employee Retirement Income Security Act) employee benefit plans with assets of more than $5,000,0000
• Trusts with assets exceeding $5,000,000

These entities cannot have been formed for the sole purpose of investing in these offerings.

Bad Actors Provisions

These provisions prohibit the use of crowdfunding, Reg D, and Reg A for securities offerings in situations where certain “covered persons” have been involved in disqualifying events.

Covered persons include:

• The issuer
• Any director, executive officer, officer participating in the offering, general partner, or managing member of the issuer
• Any beneficial owner of 20% or more of the issuer’s outstanding voting equity securities, calculated on the basis of voting power
• Any paid promoter or solicitor
• Any investment manager of an issuer that is a pooled investment fund

Events that are disqualifying include:

• Criminal convictions
• Court injunctions and restraining orders
• “Final orders” of certain federal and state securities, banking, insurance, credit union, and commodity regulators
• SEC disciplinary orders and stop orders
• Suspension or expulsion or barring from association with a member firm or SRO

Testing the Waters for Crowdfunding and Offering Exemptions

The new SEC crowdfunding regulations permit issuers to attempt to quantify the level of investor interest before filing to proceed with crowdfunding or determining which exemption could be used for the offering. In doing so, issuers may prepare and use generic materials that are not subject to filing or legend requirements to “test the waters.” This provision was already available for other registered offerings and is now extended to include crowdfunding and Reg A offerings.

Demo Day Activities

Demo day events are used by start-up companies to make presentations to prospective investors. These events typically focus on the company’s business plan, but frequently conclude with the company’s capital-raising plans. The 2021 crowdfunding rules permit companies to discuss their securities offerings, provided these discussions are limited to:

• Notification that the issuer is in the process of offering or planning to offer securities
• Description of the type and amount of securities being offered
• Description of the intended use of the proceeds from the offering

Demo day communications, including this information about potential offerings, are not deemed general solicitation or general advertising.

2021 Updates to SEC Offering Integration Rules

Capital access for issuers has been streamlined via updates to offering integration rules. These rules provide a new definition for when public and private offerings must be considered a single offering and when they are separate events for the purpose of applicable regulations:

• Any offering made more than 30 calendar days before the beginning of a new offering or more than 30 calendar days after the termination of any other offering will not be integrated with the new offering. The waiting period of 30 days that is now in effect was reduced from the old rule of six months. Codified under new Rule 152(b) and its safe harbors, these provisions apply to offerings made under Reg A, Rule 147, Rule 147A, Reg D, Regulation Crowdfunding, and Reg S.
• There is no waiting period between offerings involving sophisticated investors, which permits issuers to conduct simultaneous registered and private offerings.