Feb 05, 2016 / Insight

Regulation Crowdfunding: Will It Be a Game-Changer?

Regulation Crowdfunding, which will allow small private companies to sell their own securities to investors for the first time in over 80 years, is set to go live on May 16, 2016. This comes over three years after President Obama signed the JOBS Act into law, with the SEC finally approving the final regulations last October.

Prior to Regulation Crowdfunding, only accredited investors could invest in a company unless it registered to go public with the SEC, a costly and time-consuming process beyond the means of most small companies. The genesis of the prohibition made sense – it was meant to protect small and unsophisticated investors from losing their investment money in companies that were not subject to public scrutiny and vetting. But a lot has changed since 1933, including technologies that allow instantaneous communication, collaboration, and dissemination of information. The availability of these new tools, combined with regulatory protections around how and how much one may invest, formed the backdrop of Regulation Crowdfunding.

As enacted, Regulation Crowdfunding most likely will not be a game-changer. Most significantly, a company may raise no more than $1 million per 12-month period using Regulation Crowdfunding, and individual investors, even accredited ones, are limited in how much they can invest in such an offering. These limitations, together with regulatory and compliance costs, will make it unattractive to many companies considering Regulation Crowdfunding. Yet the policy shift is a step in the right direction. If the crowdfunding intermediaries are able to establish and preside over a reliable crowdfunding marketplace, future expansions of Regulation Crowdfunding could create a powerful and transformative marketplace for capital formation.

The final regulations are almost 700 pages long, so anyone interested in making or investing in a Regulation Crowdfunding offering should consult with counsel. Below are a few of the highlights of the final Regulation Crowdfunding rules:

  1. The offering must be conducted through a broker-dealer or a new type of intermediary called a funding portal.
  2. If the investor has an annual income or net worth of less than $100,000, he or she may invest the greater of the following, on an aggregate basis across all Regulation Crowdfunding offerings in any 12-month period:
    1. $2,000 or
    2. 5% of the lesser of the investor’s annual income or net worth.
  3. If the investor has an annual income and net worth equal to or greater than $100,000, he or she may invest the lesser of the following, on an aggregate basis across all Regulation Crowdfunding offerings in any 12-month period:
    1. 10% of the investor’s annual income;
    2. 10% of the investor’s net worth; or
    3. $100,000.
  4. An investor may cancel an investment commitment until 48 hours prior to the issuer’s deadline.
  5. Companies making a Regulation Crowdfunding offering will have to make a number of detailed disclosures and must provide financial statements that, depending on the size of the Regulation Crowdfunding offering, may need to be reviewed by an independent CPA (offering between $100,000 and $500,000) or audited by an independent auditor (offering over $500,000, for a company that has raised using Regulation Crowdfunding before).

You can read the final rules here: https://www.sec.gov/rules/final/2015/33-9974.pdf.

For more information, contact Carlo D’Itri at Carlo@cypressllp.com.