More Information on Crowdfunding Requirements for Issuers

by Laura Anthony, Esq. on June 01, 2012 in Crowdfunding, JOBS ACT, JOBS ACT and Crowdfunding, Securities Attorneys

On April 5, 2012 President Obama signed the JOBS Act into law. Part of the JOBS Act is the Crowdfunding Act, the full title of which is the “Capital Raising Online While Deterring Fraud and Unethical Non-Disclosure Act of 2012”. The Crowdfunding Act, creates a new exemption to the registration requirements under a newly designated Section 4(6) of the Securities Act of 1933, as amended.

On May 23, 2012 I blogged about crowdfunding requirements for Issuers as summarized in the text of the Crowdfunding Act (the “Act”).  This blog continues that discussion providing further information from the Act.

The new crowdfunding exemption allows Issuers to raise up to $1 million in a twelve month period, as long as no individual investment exceeds certain threshold amounts.  The threshold amount sold to any single investor, cannot exceed (a) the greater of $2,000 or 5% of the annual income or net worth of such investor, if their annual income or next worth is less and $100,000; and (b) 10% of the annual income or net worth of such investor, not to exceed a maximum $100,000, if their annual income or net worth is more than $100,000.  When determining requirements based on net worth, an individual’s primary residence must be excluded from the calculation.

Issuer Liability Under the Act

Section 302(c) of the Act summarizes the potential liability to an Issuer for Material Misstatements and Omissions.  In particular, the Act gives a private cause of action to a crowdfunding investor for rescission or for damages if they no longer own the security.  That is, the Act allows an investor to sue for the return of their money plus interest in exchange for giving back the stock they purchased.  If they have already disposed of the stock (by resale or otherwise) they can sue for damages.

Section 302(c) of the Crowdfunding Act imposes liability for making an untrue statement of a material fact or omitting to state a material fact required to be stated or necessary in order to make the statements, in light of the circumstances under which they were made, not misleading, provided the purchaser did not know of such untruth or omission.  The liability standard is the same as is set out in Section 12(a)(2) of the Securities Act of 1933. Section 12(a)(2) imposes liability upon sellers for offers or sales of any security by means of a prospectus or oral communication.  The pertinent “moment of time” for considering liability is the time the investor makes a commitment for purchase.  Section 12 requires that the investor prove causation that is, that they relied on the misleading information and as a result of relying on such information, they were damaged.

Unlike Section 12 of the Securities Act, the Crowdfunding Act defines the Issuer, for purposes of liability, as the Issuer’s directors or partners, the principal executive officer or officers, principal financial officer and controller or accounting officer, and any other person that is part of the Issuer that offers or sells the securities in the crowdfunding offering.    In layman’s terms, all of the key officers, directors and employees of an Issuer in a crowdfunding offering, can face personal liability for untrue statements or omissions.  I believe this is a pertinent anti-fraud incentive to Issuers and their “people” to

The Issuer (and the individuals) can raise several defenses, such as proof that the investor had actual knowledge of the information or should have been aware of the information if they had taken reasonable care and inquiry. The Act also specifically allows the Issuer to raise the defense that they did not know, and in the exercise of reasonable care, could not have known of such untruth or omission.

Other Issuer Limitations

All crowdfunding Issuers must be United States entities.  Although the Act does not limit the entity type to a corporation, I imagine that the practice and industry itself will impose such limitation.

Crowdfunding Issuers cannot be subject to the reporting requirements of the Securities Exchange Act of 1934 or a investment company.  These same restrictions currently apply for Issuers embarking on Rule 504 or Regulation A offerings.

Bad Boy Disqualification

The Act requires that the SEC create disqualification rules for both Issuers and funding portals and intermediaries and lists certain provisions to be included in the disqualification provisions.    “Bad actor” disqualification requirements, sometimes called “bad boy” provisions, prohibit issuers and others (such as underwriters, placement agents and the directors, officers and significant shareholders of the issuer) from participating in exempt securities offerings if they have been convicted of, or are subject to court or administrative sanctions for, securities fraud or other violations of specified laws.

The Act disqualifies any offering or sale of securities by a person that:

(i) is subject to a final order of a State securities commission or agency or other state authority that (a) bars the person from associated with an entity regulation by such agency; (b) bars the person from engaging in the business of securities, insurance or banking; or (c) bars the person from engaging in savings associations or credit unions;

(ii) constitutes a final order based on a violation of any law or regulation that prohibits fraudulent, manipulative, or deceptive conduct within the 10 year period ending on the date of the filing of the offering; or

(iii) has been convicted of any felony or misdemeanor in connection with the purchase or sale of any security or involving the making of any false filing with the SEC.

The Author

Attorney Laura Anthony,
Founding Partner, Legal & Compliance, LLC
Securities, Reverse Mergers, Corporate Transactions

Securities attorney Laura Anthony provides ongoing corporate counsel to small and mid-size public Companies as well as private Companies intending to go public on the over the counter market including the OTCBB and OTCQB. For almost two decades Ms. Anthony has dedicated her securities law practice towards being “the big firm alternative.” Clients receive fast and efficient cutting-edge legal service without the inherent delays and unnecessary expense of “partner-heavy” securities law firms.

Ms. Anthony’s focus includes but is not limited to crowdfunding, registration statements, PIPE transactions, private placements, reverse mergers, and compliance with the reporting requirements of the Securities Exchange Act of 1934 including Forms 10-Q, 10-K and 8-K and the proxy requirements of Section 14. Moreover, Ms. Anthony represents both target and acquiring companies in reverse mergers and forward mergers, including preparation of deal documents such as Merger Agreements, Stock Purchase Agreements, Asset Purchase Agreements and Reorganization Agreements. Ms. Anthony prepares the necessary documentation and assists in completing the requirements of federal and state securities laws and SRO’s such as FINRA and DTC for corporate changes such as name changes, reverse and forward splits and change of domicile.

Contact Legal & Compliance LLC for a free initial consultation or second opinion on an existing matter.

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