Eliminating the Prohibition Against General Solicitation and General Advertising in Rule 506 and Rule 144A Offerings

Federal RegisterJul 24, 2013

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SECURITIES AND EXCHANGE COMMISSION

17 CFR Parts 230, 239 and 242

[Release No. 33-9415; No. 34-69959; No. IA-3624; File No. S7-07-12]

RIN 3235-AL34

Eliminating the Prohibition Against General Solicitation and General Advertising in Rule 506 and Rule 144A Offerings

AGENCY:

Securities and Exchange Commission.

ACTION:

Final rules.

SUMMARY:

We are adopting amendments to Rule 506 of Regulation D and Rule 144A under the Securities Act of 1933 to implement Section 201(a) of the Jumpstart Our Business Startups Act. The amendment to Rule 506 permits an issuer to engage in general solicitation or general advertising in offering and selling securities pursuant to Rule 506, provided that all purchasers of the securities are accredited investors and the issuer takes reasonable steps to verify that such purchasers are accredited investors. The amendment to Rule 506 also includes a non-exclusive list of methods that issuers may use to satisfy the verification requirement for purchasers who are natural persons. The amendment to Rule 144A provides that securities may be offered pursuant to Rule 144A to persons other than qualified institutional buyers, provided that the securities are sold only to persons that the seller and any person acting on behalf of the seller reasonably believe are qualified institutional buyers. We are also revising Form D to require issuers to indicate whether they are relying on the provision that permits general solicitation or general advertising in a Rule 506 offering.

Also today, in a separate release, to implement Section 926 of the Dodd-Frank Wall Street Reform and Consumer Protection Act, we are adopting amendments to Rule 506 to disqualify issuers and other market participants from relying on Rule 506 if “felons and other `bad actors' ” are participating in the Rule 506 offering. We are also today, in a separate release, publishing for comment a number of proposed amendments to Regulation D, Form D and Rule 156 under the Securities Act that are intended to enhance the Commission's ability to evaluate the development of market practices in Rule 506 offerings and address certain comments made in connection with implementing Section 201(a)(1) of the Jumpstart Our Business Startups Act.

DATES:

The final rule and form amendments are effective on September 23, 2013.

FOR FURTHER INFORMATION CONTACT:

Charles Kwon, Special Counsel, or Ted Yu, Senior Special Counsel, Office of Chief Counsel, Division of Corporation Finance, at (202) 551-3500, or, with respect to private funds, Holly Hunter-Ceci, Senior Counsel, Chief Counsel's Office, or Alpa Patel, Senior Counsel, Investment Adviser Regulation Office, Division of Investment Management, at (202) 551-6825 or (202) 551-6787, Securities and Exchange Commission, 100 F Street NE., Washington, DC 20549.

SUPPLEMENTARY INFORMATION:

We are adopting amendments to Rule 144A,

Form D,

and Rules 500,

501,

502

and 506

of Regulation D

under the Securities Act of 1933,

and to Rules 101,

102

and 104

of Regulation M

under the Securities Exchange Act of 1934.

17 CFR 230.144A.

17 CFR 239.500.

17 CFR 230.500.

17 CFR 230.501.

17 CFR 230.502.

17 CFR 230.506.

17 CFR 230.500 through 230.508.

15 U.S.C. 77a

et seq.

17 CFR 242.101.

17 CFR 242.102.

17 CFR 242.104.

17 CFR 242.100 through 242.105.

15 U.S.C. 78a

et seq.

Table of Contents

I. Introduction

II. Final Amendments to Rule 506 and Form D

A. Eliminating the Prohibition Against General Solicitation

1. Proposed Rule Amendment

2. Comments on the Proposed Rule Amendment

3. Final Rule Amendment

B. Reasonable Steps To Verify Accredited Investor Status

1. Proposed Rule Amendment

2. Comments on the Proposed Rule Amendment

3. Final Rule Amendment

a. Principles-Based Method of Verification

b. Non-Exclusive Methods of Verifying Accredited Investor Status

C. Reasonable Belief That All Purchasers Are Accredited Investors

D. Form D Check Box for Rule 506(c) Offerings

1. Proposed Form Amendment

2. Comments on the Proposed Form Amendment

3. Final Form Amendment

E. Specific Issues for Private Funds

F. Technical and Conforming Amendments

III. Final Amendment to Rule 144A

IV. Integration With Offshore Offerings

V. Paperwork Reduction Act

A. Background

B. Revisions to PRA Reporting and Cost Burden Estimates

VI. Economic Analysis

A. Background

B. Economic Baseline

1. Size of the Exempt Offering Market

2. Affected Market Participants

a. Issuers

b. Investors

c. Investment Advisers

d. Broker-Dealers

3. Current Practices

C. Analysis of the Amendment to Rule 506

1. Benefits to Issuers

2. Benefits to Investors

3. Costs

4. Indirect Effects on Other Markets

5. Retention of Rule 506(b)

D. Verifying Accredited Investor Status in Rule 506(c) Offerings

E. Analysis of the Amendment to Rule 144A

F. Additional Information Collection and Disclosur

VII. Final Regulatory Flexibility Analysis

A. Reasons for, and Objectives of, the Action

B. Significant Issues Raised by Public Comments

C. Small Entities Subject to the Final Rule and Form Amendments

D. Projected Reporting, Recordkeeping and Other Compliance Requirements

E. Duplicative, Overlapping or Conflicting Federal Rules

F. Significant Alternatives

VIII. Statutory Authority and Text of Final Rule and Form Amendments

I. Introduction

On August 29, 2012, we proposed rule and form amendments

to implement Section 201(a) of the Jumpstart Our Business Startups Act (the “JOBS Act”).

Section 201(a)(1) of the JOBS Act directs the Commission, not later than 90 days after the date of enactment, to amend Rule 506 of Regulation D

under the Securities Act of 1933 (the “Securities Act”) to permit general solicitation or general advertising in offerings made under Rule 506, provided that all purchasers of the securities are accredited investors.

Section 201(a)(1) also states that “[s]uch rules shall require the issuer to take reasonable steps to verify that purchasers of the securities are accredited investors, using such methods as determined by the Commission.” Section 201(a)(2) of the JOBS Act directs the Commission, not later than 90 days after the date of enactment, to revise Rule 144A(d)(1) under the Securities Act

to permit offers of securities pursuant to Rule 144A to persons other than qualified institutional buyers (“QIBs”),

including by means of general solicitation or general advertising, provided that the securities are sold only to persons that the seller and any person acting on behalf of the seller reasonably believe are QIBs.

See Eliminating the Prohibition Against General Solicitation and General Advertising in Rule 506 and Rule 144A Offerings,

Release No. 33-9354 (Aug. 29, 2012) [77 FR 54464 (Sept. 5, 2012)] (the “Proposing Release”).

Public Law 112-106, sec. 201(a), 126 Stat. 306, 313 (Apr. 5, 2012).

The Commission adopted Regulation D in 1982 as a result of the Commission's evaluation of the impact of its rules on the ability of small businesses to raise capital.

See Revision of Certain Exemptions From Registration for Transactions Involving Limited Offers and Sales,

Release No. 33-6389 (Mar. 8, 1982) [47 FR 11251 (Mar. 16, 1982)]. Over the years, the Commission has revised various provisions of Regulation D in order to address, among other things, specific concerns relating to facilitating capital-raising as well as abuses that have arisen under Regulation D.

See, e.g.,

Additional Small Business Initiatives,

Release No. 33-6996 (Apr. 28, 1993) [58 FR 26509 (May 4, 1993)] and

Revision of Rule 504 of Regulation D, the “Seed Capital” Exemption,

Release No. 33-7644 (Feb. 25, 1999) [64 FR 11090 (Mar. 8, 1999)].

The definition of the term “accredited investor” that is applicable to Rule 506 is set forth in Rule 501(a) of Regulation D [17 CFR 230.501(a)] and includes any person who comes within one of the definition's enumerated categories of persons, or whom the issuer “reasonably believes” comes within any of the enumerated categories, at the time of the sale of the securities to that person. For natural persons, Rule 502(a) defines an accredited investor as a person: (1) Whose individual net worth, or joint net worth with that person's spouse, exceeds $1 million, excluding the value of the person's primary residence (the “net worth test”); or (2) who had an individual income in excess of $200,000 in each of the two most recent years, or joint income with that person's spouse in excess of $300,000 in each of those years, and has a reasonable expectation of reaching the same income level in the current year (the “income test”).

Although the Dodd-Frank Act did not change the amount of the $1 million net worth test, it did change how that amount is calculated—by excluding the value of a person's primary residence. This change took effect upon the enactment of the Dodd-Frank Act. In December 2011, we amended Rule 501 to incorporate this change into the definition of accredited investor.

See Net Worth Standard for Accredited Investors,

Release No. 33-9287 (Dec. 21, 2011) [76 FR 81793 (Dec. 29, 2011)].

17 CFR 230.144A(d)(1).

The term “qualified institutional buyer” is defined in Rule 144A(a)(1) [17 CFR 230.144A(a)(1)] and includes specified institutions that, in the aggregate, own and invest on a discretionary basis at least $100 million in securities of issuers that are not affiliated with such institutions. Banks and other specified financial institutions must also have a net worth of at least $25 million. A registered broker-dealer qualifies as a QIB if it, in the aggregate, owns and invests on a discretionary basis at least $10 million in securities of issuers that are not affiliated with the broker-dealer.

The Commission originally adopted Rule 506 as a non-exclusive safe harbor under Section 4(a)(2) (formerly Section 4(2)) of the Securities Act,

which exempts transactions by an issuer “not involving any public offering” from the registration requirements of Section 5 of the Securities Act.

Under existing Rule 506, an issuer may sell securities,

without any limitation on the offering amount, to an unlimited number of “accredited investors,” as defined in Rule 501(a) of Regulation D, and to no more than 35 non-accredited investors who meet certain “sophistication” requirements.

The availability of Rule 506 is subject to a number of requirements

and is currently conditioned on the issuer, or any person acting on its behalf, not offering or selling securities through any form of “general solicitation or general advertising.”

Although the terms “general solicitation” and “general advertising” are not defined in Regulation D, Rule 502(c) does provide examples of general solicitation and general advertising, including advertisements published in newspapers and magazines, communications broadcast over television and radio, and seminars where attendees have been invited by general solicitation or general advertising.

By interpretation, the Commission has confirmed that other uses of publicly available media, such as unrestricted Web sites, also constitute general solicitation and general advertising.

In this release, we refer to both general solicitation and general advertising as “general solicitation.”

15 U.S.C. 77d(a)(2).

15 U.S.C. 77e.

Under Rule 506(b)(2)(ii) [17 CFR 230.506(b)(2)(ii)], each purchaser in a Rule 506 offering who is not an accredited investor must possess, or the issuer must reasonably believe immediately before the sale of securities that such purchaser possesses, either alone or with his or her purchaser representative, “such knowledge and experience in financial and business matters that he [or she] is capable of evaluating the merits and risks of the prospective investment.”

Offerings under Rule 506 are subject to all the terms and conditions of Rules 501 and 502. If securities are sold to any non-accredited investors, specified information requirements apply.

See

Rule 502(b) [17 CFR 230.502(b)].

Rule 502(c) of Regulation D [17 CFR 230.502(c)].

Id.

See Use of Electronic Media for Delivery Purposes,

Release No. 33-7233 (Oct. 6, 1995) [60 FR 53458, 53463-64 (Oct. 13, 1995)];

Use of Electronic Media,

Release No. 33-7856 (Apr. 28, 2000) [65 FR 25843, 25851-52 (May 4, 2000)].

Rule 144A is a non-exclusive safe harbor exemption from the registration requirements of the Securities Act for resales of certain “restricted securities”

to QIBs. Resales to QIBs in accordance with the conditions of Rule 144A

are exempt from registration pursuant to Section 4(a)(1) (formerly Section 4(1)) of the Securities Act,

which exempts transactions by any person “other than an issuer, underwriter, or dealer.” Although Rule 144A does not include an express prohibition against general solicitation, offers of securities under Rule 144A currently must be limited to QIBs, which has the same practical effect. By its terms, Rule 144A is available solely for resale transactions; however, since its adoption by the Commission in 1990,

market participants have used Rule 144A to facilitate capital-raising by issuers.

The term “Rule 144A offering” in this release refers to a primary offering of securities by an issuer to one or more financial intermediaries—commonly known as the “initial purchasers”—in a transaction that is exempt from registration pursuant to Section 4(a)(2) or Regulation S under the Securities Act,

followed by the resale of those securities by the initial purchasers to QIBs in reliance on Rule 144A.

“Restricted securities” are defined in Securities Act Rule 144(a)(3) [17 CFR 230.144(a)(3)] to include, in part, “[s]ecurities acquired directly or indirectly from the issuer, or from an affiliate of the issuer, in a transaction or chain of transactions not involving any public offering.”

In order for a transaction to come within existing Rule 144A, a seller must have a reasonable basis for believing that the offeree or purchaser is a QIB and must take reasonable steps to ensure that the purchaser is aware that the seller may rely on Rule 144A. Further, only securities that were not, when issued, of the same class as securities listed on a U.S. securities exchange or quoted on a U.S. automated interdealer quotation system are eligible for resale under Rule 144A. Also, the seller and a prospective purchaser designated by the seller must have the right to obtain from the issuer, upon request, certain information on the issuer, unless the issuer falls within specified categories as to which this condition does not apply.

15 U.S.C. 77d(a)(1).

See Resale of Restricted Securities; Changes to Method of Determining Holding Period of Restricted Securities Under Rules 144 and 145,

Release No. 33-6862 (Apr. 23, 1990) [55 FR 17933 (Apr. 30, 1990)].

While Rule 144A applies to resales of securities of both U.S. and non-U.S. issuers, one of the objectives of Rule 144A was to make primary offerings of non-U.S. issuers' securities available to U.S. institutions in the U.S. market through intermediaries (rather than compelling such investors to go to overseas markets) by making the private offering market in the United States more attractive to non-U.S. issuers.

See Resale of Restricted Securities; Changes to Method of Determining Holding Period of Restricted Securities Under Rules 144 and 145,

Release No. 33-6806 (Oct. 25, 1988) [53 FR 44016 (Nov. 1, 1988)].

Regulation S under the Securities Act [17 CFR 230.901 through 230.905] was adopted in 1990 as a safe harbor from the registration requirements of the Securities Act for any offer or sale of securities made outside the United States. It provides that any “offer,” “offer to sell,” “sell,” “sale” or “offer to buy” that occurs outside the United States is not subject to the registration requirements of Section 5. Regulation S does not affect the scope or availability of the antifraud or other provisions of the Securities Act to offers and sales made in reliance on Regulation S.

Rule 506 offerings and Rule 144A offerings are widely used by U.S. and non-U.S. issuers to raise capital. In 2012, the estimated amount of capital (including both equity and debt) reported as being raised in Rule 506 offerings and non-asset-backed securities (“non-ABS”) Rule 144A offerings by operating companies was $173 billion and $636 billion, respectively, and by pooled investment funds, such as venture capital funds, private equity funds and hedge funds, was $725 billion and $4 billion, respectively, compared to $1.2 trillion raised in registered offerings.

In 2011, the estimated amount of capital (including both equity and debt) reported as being raised in Rule 506 offerings and non-ABS Rule 144A offerings by operating companies was $71 billion and $438 billion, respectively, and by pooled investment funds was $778 billion and $4 billion, respectively, compared to $985 billion raised in registered offerings.

These data points underscore the importance of the Rule 506 and Rule 144A exemptions for issuers seeking access to the U.S. capital markets.

These statistics are based on a review of Form D electronic filings with the Commission—specifically, the “total amount sold” as reported in the filings—and data regarding other types of offerings (

e.g.,

public debt offerings and Rule 144A offerings) from Securities Data Corporation's New Issues database (Thomson Financial).

See

Vladimir Ivanov and Scott Bauguess,

Capital Raising in the U.S.: An Analysis of Unregistered Offerings Using the Regulation D Exemption, 2009-2012

(July 2013) (the “Ivanov/Bauguess Study”),

available at:

http://www.sec.gov/divisions/riskfin/whitepapers/dera-unregistered-offerings-reg-d.pdf

. For non-ABS Rule 144A offerings, since the databases we used to obtain the Rule 144A data do not distinguish between operating companies and funds, we classified issuers with SIC codes between 6200 and 6299 as funds, and the rest as operating companies.

The amount of capital raised through offerings under Regulation D may be larger than what is reported in Form D filings because, although the filing of a Form D is a requirement of Rule 503(a) of Regulation D [17 CFR 230.503(a)], it is not a condition to the availability of the exemptions under Regulation D. Further, once a Form D is filed, the issuer is not required to file an amendment to the filing to reflect a change that occurs after the offering terminates or a change that occurs solely with respect to certain information, such as the amount sold in the offering. For example, if the amount sold does not result in an increase in the total offering amount of more than 10% or the offering closes within a year, the filing of an amendment to the initial Form D is not required. Therefore, a Form D filed for a particular offering may not reflect the total amount of securities sold in the offering in reliance on the exemption.

See id.

To implement Section 201(a) of the JOBS Act, we proposed amending Rule 506 to add new paragraph (c), under which the prohibition against general solicitation contained in Rule 502(c) would not apply, provided that all purchasers of the securities are accredited investors and the issuer takes reasonable steps to verify that such purchasers are accredited investors. In addition, we proposed amending Form D, which is a notice required to be filed with the Commission by each issuer

claiming a Regulation D exemption, to add a check box to indicate whether an issuer is claiming an exemption under Rule 506(c). We also proposed an amendment to Rule 144A to provide that securities sold pursuant to Rule 144A may be offered to persons other than QIBs, including by means of general solicitation, provided that the securities are sold only to persons that the seller and any person acting on behalf of the seller reasonably believe are QIBs.

The comment period for the proposed rule and form amendments closed on October 5, 2012. We received over 225 comment letters on the Proposing Release, including from professional and trade associations, investor organizations, law firms, investment companies and investment advisers, members of Congress, the Commission's Investor Advisory Committee,

state securities regulators, issuers, individuals and other interested parties. Most of the comment letters focused on the proposed amendments to Rule 506. As discussed below, commenters were sharply divided in their views on the proposed amendments to Rule 506, whereas commenters generally supported the proposed amendments to Rule 144A and Form D.

The SEC Investor Advisory Committee (“Investor Advisory Committee”) was established in April 2012 pursuant to Section 911 of the Dodd-Frank Wall Street Reform and Consumer Protection Act [Pub. L. 111-203, sec. 911, 124 Stat. 1376, 1822 (July 21, 2010)] (the “Dodd-Frank Act”) to advise the Commission on regulatory priorities, the regulation of securities products, trading strategies, fee structures, the effectiveness of disclosure, initiatives to protect investor interests and to promote investor confidence and the integrity of the securities marketplace. The Dodd-Frank Act authorizes the Investor Advisory Committee to submit findings and recommendations for review and consideration by the Commission.

We have reviewed and considered all of the comments that we received on the proposed rule and form amendments and on Section 201(a) of the JOBS Act.

We are adopting new paragraph (c) to Rule 506 as proposed, with one modification, and the amendments to Form D and to Rule 144A as proposed. We are also adopting the technical and conforming rule amendments as proposed. We discuss these amendments in detail below.

To facilitate public input on JOBS Act rulemaking before the issuance of rule proposals, the Commission invited members of the public to make their views known on various JOBS Act initiatives in advance of any rulemaking by submitting comment letters to the Commission's Web site at

http://www.sec.gov/spotlight/jobsactcomments.shtml

. The comment letters relating to Section 201(a) of the JOBS Act submitted in response to this invitation are located at

http://www.sec.gov/comments/jobs-title-ii/jobs-title-ii.shtml

. The comment letters submitted in response to the Proposing Release are located at

http://www.sec.gov/comments/s7-07-12/s70712.shtml

. Many commenters submitted comment letters both before and after the issuance of the Proposing Release. Dated comment letters refer to those submitted before the issuance of the Proposing Release or by commenters that submitted multiple letters.

We acknowledge the concerns of some commenters that the elimination of the prohibition against general solicitation for a subset of Rule 506 offerings may affect the behavior of issuers and other market participants in ways they believe could compromise investor protection.

Preserving the integrity of the Rule 506(c) market and minimizing the incidence of fraud are critical objectives for the Commission in implementing Section 201(a) of the JOBS Act. We are adopting today the bad actor disqualification for Rule 506 offerings mandated by the Dodd-Frank Act, which may address some of those concerns.

We are also issuing a proposing release to amend Regulation D and Form D to enhance the Commission's ability to analyze the Rule 506 market and to amend Rule 156 under the Securities Act to provide guidance to private funds on the application of the antifraud provisions of the federal securities laws to their sales literature.

Upon the effectiveness of Rule 506(c), the Commission staff will monitor developments in the market for Rule 506(c) offerings so as to be able to undertake a review of market practices in Rule 506(c) offerings, including the steps taken by issuers and other market participants to verify that the purchasers of the offered securities are accredited investors, as well as the impact of the amendments to Rule 506 on capital formation.

See, e.g.,

letters from Investor Advisory Committee; North American Securities Administrators Association, Inc. (“NASAA”); Consumer Federation of America (“Consumer Federation”).

Disqualification of Felons and Other “Bad Actors” from Rule 506 Offerings,

Release No. 33-9414 (July 10, 2013) (the “Bad Actor Release”).

See Amendments to Regulation D, Form D and Rule 156,

Release No. 33-9416 (July 10, 2013).

II. Final Amendments to Rule 506 and Form D

A. Eliminating the Prohibition Against General Solicitation

Section 4(a)(2) of the Securities Act exempts transactions by an issuer “not involving any public offering.” An issuer relying on Section 4(a)(2) is restricted in its ability to make public communications to attract investors for its offering because public advertising is incompatible with a claim of exemption under Section 4(a)(2).

As noted above, Rule 506 currently conditions the availability of the safe harbor under Section 4(a)(2) on the issuer, or any person acting on its behalf, not offering or selling securities through any form of general solicitation.

Section 201(a)(1) of the JOBS Act directs the Commission to amend Rule 506 to provide that the prohibition against general solicitation contained in Rule 502(c) shall not apply to offers and sales of securities made pursuant to Rule 506, as so amended, provided that all purchasers of the securities are accredited investors and the issuer takes reasonable steps to verify their status as accredited investors.

See Non-Public Offering Exemption,

Release No. 33-4552 (Nov. 6, 1962) [27 FR 11316 (Nov. 16, 1962)].

See

Rule 502(c) and Rule 506(b)(1) of Regulation D [17 CFR 230.506(b)(1)]. The failure to comply with Rule 502(c) is deemed to be significant to the offering as a whole, which means that an issuer cannot rely on the “insignificant deviation” relief in Rule 508 of Regulation D for violations of Rule 502(c).

See

Rule 508(a)(2) [17 CFR 230.508(a)(2)].

This mandate affects only Rule 506, and not Section 4(a)(2) offerings in general,

which means that even after the effective date of Rule 506(c), an issuer relying on Section 4(a)(2) outside of the Rule 506(c) exemption will be restricted in its ability to make public communications to solicit investors for its offering because public advertising will continue to be incompatible with a claim of exemption under Section 4(a)(2). We are amending Rule 500(c) of Regulation D accordingly to make this clear.

Congress' directive in Section 201(a)(1) of the JOBS Act, and not Section 4(a)(2) of the Securities Act or our interpretation of Section 4(a)(2), is the reason that Rule 506, “as revised pursuant to [Section 201(a)(1)], shall continue

to be treated as

a regulation issued under section 4[(a)](2) of the Securities Act of 1933” (emphasis added).

Similarly, securities issued in Rule 506(c) offerings are deemed to be “covered securities” for purposes of

Section 18(b)(4)(E) of the Securities Act,

only by virtue of Section 201(a)(1) of the JOBS Act.

In this regard, we also note that bills that would have amended Section 4(a)(2) directly, rather than requiring the Commission to amend Rule 506, to permit the use of general solicitation were introduced and considered by Congress, but were not enacted.

See

Access to Capital for Job Creators, H.R. 2940, 112th Cong., 1st Sess. (2011) (proposing to amend Section 4(a)(2) by adding the phrase “whether or not such transactions involve general solicitation or general advertising”); Access to Capital for Job Creators, S.1831, 112th Cong., 1st Sess. (2011) (same).

As revised, Rule 500(c) reads as follows: “Attempted compliance with any rule in Regulation D does not act as an exclusive election; the issuer can also claim the availability of any other applicable exemption. For instance, an issuer's failure to satisfy all the terms and conditions of rule 506

(b)

(§ 230.506

(b)

) shall not raise any presumption that the exemption provided by section 4

(a)

(2) of the Act is not available.” (additions italicized).

Section 201(a)(1) of the JOBS Act.

15 U.S.C. 77r(b)(4)(E). This means that state blue sky registration requirements do not apply to securities offered or sold in Rule 506(c) offerings.

1. Proposed Rule Amendment

To implement the mandated rule change, we proposed new Rule 506(c), which would permit the use of general solicitation to offer and sell securities under Rule 506, provided that the following conditions are satisfied:

• All terms and conditions of Rule 501

and Rules 502(a)

and 502(d)

must be satisfied;

Rule 501 sets forth definitions for the terms used in Regulation D, such as “accredited investor.”

Rule 502(a) addresses the question of integration by providing a six-month safe harbor from integration for successive Regulation D offerings and a five-factor framework to apply in cases in which the six-month safe harbor is not available.

Rule 502(d) provides that, for resale purposes, securities acquired in a Regulation D offering, except as provided in Rule 504(b)(1), have the status of securities acquired in a transaction under Section 4(a)(2) of the Securities Act. Rule 144(a)(3)(ii) [17 CFR 230.144(a)(3)(ii)] defines “restricted securities” as securities “acquired from the issuer that are subject to the resale limitations of § 230.502(d) under Regulation D. . . .” Separately, Section 201(b) of the JOBS Act added Section 4(b) of the Securities Act, which provides that “[o]ffers and sales exempt under [Rule 506 as amended pursuant to Section 201 of the JOBS Act] shall not be deemed public offerings under the Federal securities laws as a result of general advertising or general solicitation.” Thus, securities acquired under new Rule 506(c) would also meet the definition of “restricted securities” under Rule 144(a)(3)(i) [17 CFR 230.144(a)(3)(i)] (“[s]ecurities acquired directly or indirectly from the issuer, or from an affiliate of the issuer, in a transaction or chain of transactions not involving any public offering”).

• all purchasers of securities must be accredited investors; and

• the issuer must take reasonable steps to verify that the purchasers of the securities are accredited investors.

Offerings under proposed Rule 506(c) would not be subject to the requirement to comply with Rule 502(c), which contains the prohibition against general solicitation. While we proposed Rule 506(c) to enable issuers to use general solicitation in Rule 506 offerings, we also preserved, in current Rule 506(b), the existing ability of issuers to conduct Rule 506 offerings subject to the prohibition against general solicitation.

2. Comments on the Proposed Rule Amendment

Commenters were sharply divided in their views on the proposed amendment to Rule 506. Commenters who supported the proposed amendment to Rule 506 stated that Rule 506(c), if adopted, would assist issuers, particularly early stage and smaller issuers, in raising capital by allowing them to solicit investments from a larger pool of investors.

These commenters generally approved of the flexibility afforded by the manner in which we proposed to implement Rule 506(c)'s verification requirement,

as further discussed below, and supported retaining, in its current form, the ability of issuers under existing Rule 506(b) to conduct Rule 506 offerings subject to the prohibition against general solicitation.

A number of commenters stated that they supported the availability of Rule 506(c) for private funds pursuant to the Commission's guidance in the Proposing Release.

See, e.g.,

letters from Biotechnology Industry Organization (“BIO”); National Small Business Association (“NSBA”).

See

letters from Linklaters LLP (“Linklaters”) (stating that a “straightforward, focused rule that provides issuers with the flexibility to continue to adapt to market practice is the best way to realize the spirit and intent of the Jumpstart Our Business Startups Act”); BlackRock (stating that “[o]verall, we believe that the Proposed Rule is in accordance with the intent of Congress and will facilitate the formation of capital”); Securities Regulation Committee, Business Law Section of the New York State Bar Association (“SRC of NYSBA”).

See, e.g.,

letters from the Federal Regulation of Securities Committee, Business Law Section of the American Bar Association (“ABA Fed. Reg. Comm.”); Angel Capital Association (“ACA”) (Sept. 27, 2012); The CrowdFund Intermediary Regulatory Advocates (“CFIRA”); Investment Program Association (“IPA”); Montgomery & Hansen, LLP (“Montgomery & Hansen”); NSBA; Committee on Securities Regulation of the New York City Bar Association (“NYCBA”); Sullivan & Cromwell LLP (“S&C”); Securities Industry and Financial Markets Association (“SIFMA”) and The Financial Services Roundtable (“FSR”) (Oct. 5, 2012).

See, e.g.,

letters from BlackRock; Dukas Public Relations (“Dukas”); Forum for U.S. Securities Lawyers in London; Hedge Fund Association (“HFA”); Investment Adviser Association (“IAA”); Managed Funds Association (“MFA”) (Sept. 28, 2012); NYCBA; SRC of NYSBA. In the Proposing Release, we stated that private funds that engage in general solicitation under proposed Rule 506(c) would not be precluded from relying on the exclusions from the definition of “investment company” set forth in Section 3(c)(1) and Section 3(c)(7) of the Investment Company Act of 1940.

Other commenters opposed the proposed amendment to Rule 506 in its entirety or in part. Many of these commenters expressed concern that the proposed amendment, if adopted, would increase the risk of fraudulent and abusive Rule 506 offerings and asserted that additional investor safeguards are necessary under Rule 506(c).

A number of these commenters urged the Commission to adopt rules concerning bad actor disqualifications for Rule 506 offerings, as required by Section 926 of the Dodd-Frank Act.

Other commenters recommended that the Commission amend the definition of “accredited investor” by raising the income and net worth thresholds for natural persons or by implementing other measures of financial sophistication.

Some commenters stated that the Commission should condition the availability of the Rule 506(c) exemption on the filing of Form D or require the advance filing of Form D, or both.

Other commenters argued that the Commission should adopt specific standards or requirements that would govern the content and/or manner of general solicitations in Rule 506(c) offerings, particularly with respect to advertising by private funds.

A number of commenters urged the Commission to require that the materials used to generally solicit investors in Rule 506(c) offerings be filed with or furnished to either the Commission or to FINRA.

See, e.g.,

letters from AARP; AFL-CIO and Americans for Financial Reform (“AFR”); Sen. Levin; CFA Institute; Council of Institutional Investors (“CII”); Consumer Federation; Fund Democracy, Inc. (“Fund Democracy”); Office of the Secretary of the Commonwealth of Massachusetts Securities Division (“Massachusetts Securities Division”); NASAA.

Public Law 111-203, sec. 926, 124 Stat. 1376, 1851 (July 21, 2010) (to be codified at 15 U.S.C. 77d note).

See, e.g.,

letters from AFL-CIO and AFR; Consumer Federation; Fund Democracy; Commissioner of Securities, State of Hawaii (“Hawaii Commissioner of Securities”); Investor Advisory Committee; Rep. Waters; Commissioner of Securities, State of Missouri (“Missouri Commissioner of Securities”); NASAA.

See, e.g.,

letters from AARP; AFL-CIO and AFR; BetterInvesting; CFA Institute; Consumer Federation; Investor Advisory Committee; Investment Company Institute (“ICI”); Rep. Waters; Massachusetts Securities Division (July 2, 2012).

See, e.g.,

letters from AARP; AFL-CIO and AFR; Consumer Federation; Hawaii Commissioner of Securities; Investor Advisory Committee; Massachusetts Securities Division (July 2, 2012); Missouri Commissioner of Securities; Commissioner of Securities and Insurance, State of Montana (“Montana Commissioner of Securities”); NASAA; Ohio Division of Securities.

See, e.g.,

letters from Sen. Levin; Consumer Federation; ICI; Independent Directors Council (“IDC”); Rep. Waters; Montana Commissioner of Securities; NASAA.

See, e.g.,

letters from AFL-CIO and AFR; Investor Advisory Committee; ICI; Massachusetts Securities Division (July 2, 2012).

A number of commenters requested that the Commission provide transitional guidance with respect to ongoing offerings under existing Rule 506 that commenced before the effectiveness of Rule 506(c).

For example, in some situations, the initial closings in these offerings may have already occurred, and could have included non-accredited investors pursuant to offering procedures that would not have involved any form of general solicitation.

Several commenters suggested that the Commission clarify that an issuer would be entitled to conduct the portion of the

offering following the effectiveness of Rule 506(c) in accordance with the requirements of new Rule 506(c), without the portion of the offering occurring after the rule's effectiveness affecting the portion of the offering that was completed prior to the rule's effectiveness.

See

letters from ABA Fed. Reg. Comm.; Forum for U.S. Securities Lawyers in London; S&C; IPA.

See

letter from ABA Fed. Reg. Comm.

See

letters from ABA Fed. Reg. Comm.; S&C (stating that “[w]e believe that such issuers should be allowed, upon effectiveness of the final rule, to use the new Rule 506(c) exemption and use general solicitation for the remaining portion of their offerings, provided that they satisfy the requirements of Rule 506(c) going forward.”).

3. Final Rule Amendment

After considering the comments, we are adopting Rule 506(c) as proposed, with one modification. Under new Rule 506(c), issuers can offer securities through means of general solicitation, provided that they satisfy all of the conditions of the exemption.

These conditions are:

We also note that broker-dealers participating in offerings in conjunction with issuers relying on Rule 506(c) would continue to be subject to FINRA rules regarding communications with the public, which, among other things, (1) generally require all member communications to be based on principles of fair dealing and good faith, to be fair and balanced, and to provide a sound basis for evaluating the facts in regard to any particular security or type of security, industry or service; and (2) prohibit broker-dealers from making false, exaggerated, unwarranted, promissory or misleading statements or claims in any communications.

See

FINRA Rule 2210.

• all terms and conditions of Rule 501 and Rules 502(a) and 502(d) must be satisfied;

New Rule 506(c)(1).

• all purchasers of securities must be accredited investors;

and

New Rule 506(c)(2)(i).

• the issuer must take reasonable steps to verify that the purchasers of the securities are accredited investors.

New Rule 506(c)(2)(ii).

Issuers relying on Rule 506(c) for their offerings will not be subject to the prohibition against general solicitation found in Rule 502(c).

In addition and as further discussed below, in response to comments from a wide range of commenters asking for greater certainty with respect to satisfying the verification requirement, we are also including in Rule 506(c) a non-exclusive list of methods that issuers may use to verify the accredited investor status of natural persons.

Offerings under Rule 506(c) will also not be subject to the information requirements in Rule 502(b) for non-accredited investors, because all purchasers in Rule 506(c) offerings are required to be accredited investors.

Issuers will continue to have the ability under Rule 506(b) to conduct Rule 506 offerings subject to the prohibition against general solicitation. As we noted in the Proposing Release, offerings under existing Rule 506(b) represent an important source of capital for issuers of all sizes, and we believe that the continued availability of existing Rule 506(b) will be important for those issuers that either do not wish to engage in general solicitation in their Rule 506 offerings (and become subject to the requirement to take reasonable steps to verify the accredited investor status of purchasers) or wish to sell privately to non-accredited investors who meet Rule 506(b)'s sophistication requirements. Retaining the safe harbor under existing Rule 506(b) may also be beneficial to investors with whom an issuer has a pre-existing substantive relationship.

In this regard, we do not believe that Section 201(a) requires the Commission to modify Rule 506 to impose any new requirements on offers and sales of securities that do not involve general solicitation. Therefore, the amendment to Rule 506 we are adopting today does not amend or modify the requirements relating to existing Rule 506(b).

See

Release No. 33-7856, at 25852 (noting that “one method of ensuring that general solicitation is not involved is to establish the existence of a `pre-existing, substantive relationship'” and that “there may be facts and circumstances in which a third party, other than a registered broker-dealer, could established a `pre-existing, substantive relationship' sufficient to avoid a `general solicitation' ”).

Finally, with respect to transition matters, for an ongoing offering under Rule 506 that commenced before the effective date of Rule 506(c), the issuer may choose to continue the offering after the effective date in accordance with the requirements of either Rule 506(b) or Rule 506(c). If an issuer chooses to continue the offering in accordance with the requirements of Rule 506(c), any general solicitation that occurs after the effective date will not affect the exempt status of offers and sales of securities that occurred prior to the effective date in reliance on Rule 506(b).

B. Reasonable Steps To Verify Accredited Investor Status

Section 201(a)(1) of the JOBS Act mandates that our amendment to Rule 506 require issuers using general solicitation in Rule 506 offerings “to take reasonable steps to verify that purchasers of the securities are accredited investors, using such methods as determined by the Commission.” As noted in the Proposing Release, we believe that the purpose of the verification mandate is to address concerns, and reduce the risk, that the use of general solicitation in Rule 506 offerings could result in sales of securities to investors who are not, in fact, accredited investors.

See, e.g., Markup of H.R. 2940, Access to Capital for Job Creators Act,

Subcommittee on Capital Markets and Government Sponsored Enterprises, House Financial Services Committee, 112th Cong. (Oct. 5, 2011) (remarks of Rep. Waters, explaining that she is introducing the amendment that requires issuers to take reasonable steps to verify accredited investor status because “we must take steps to ensure that those folks are indeed sophisticated”); 157 Cong. Rec. H7291 (daily ed. Nov. 3, 2011) (remarks of Rep. Maloney (same)); 157 Cong. Rec. H7294 (daily ed. Nov. 3, 2011) (remarks of Rep. Lee (same)).

1. Proposed Rule Amendment

To implement the verification mandate of Section 201(a)(1), we proposed to condition the Rule 506(c) exemption on the requirement that issuers using general solicitation “take reasonable steps to verify” that the purchasers of the offered securities are accredited investors. As proposed, whether the steps taken are “reasonable” would be an objective determination by the issuer (or those acting on its behalf), in the context of the particular facts and circumstances of each purchaser and transaction. Under this principles-based approach, issuers would consider a number of factors when determining the reasonableness of the steps to verify that a purchaser is an accredited investor, such as:

• 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 of the offering, such as the manner in which the purchaser was solicited to participate in the offering, and the terms of the offering, such as a minimum investment amount.

These factors would be interconnected, and the information gained by looking at these factors would help an issuer assess the reasonable likelihood that a potential purchaser is an accredited investor, which would, in turn, affect the types of steps that would be reasonable to take to verify a purchaser's accredited investor status.

In the Proposing Release, we considered providing a list of specified methods for satisfying the verification requirement, which was suggested by some commenters on Section 201(a) prior to the issuance of the Proposing Release.

We expressed concern that, in

designating such a list—for example, by setting forth particular types of information that issuers may rely upon as conclusive means of verifying accredited investor status—there may be circumstances where such information will not actually verify accredited investor status or where issuers may unreasonably overlook or disregard other information indicating that a purchaser is not, in fact, an accredited investor. Also, we were concerned that requiring issuers to use specified methods of verification would be impractical, burdensome and potentially ineffective in light of the numerous ways in which a purchaser can qualify as an accredited investor, as well as the potentially wide range of verification issues that may arise, depending on the nature of the purchaser and the facts and circumstances of a particular Rule 506(c) offering. Even if the list of specified methods was not mandatory, but rather, constituted a non-exclusive list, we were concerned that a non-exclusive list of specified methods could be viewed by market participants as, in effect, required methods, in which compliance with at least one of the enumerated methods could be viewed as necessary in all circumstances to demonstrate that the verification requirement has been satisfied, thereby eliminating the flexibility that proposed Rule 506(c) was intended to provide.

See

letters from MFA (June 26, 2012) (suggesting that the Commission publish a non-exclusive list of the types of third-party evidence that an investor could provide to establish accredited investor status, in conjunction with certifying that he or she is an accredited investor); NASAA (July 3, 2012) (recommending that the Commission set forth non-exclusive safe harbors to specify the types of actions that would be deemed

“reasonable steps to verify” for three types of accredited investors: natural persons who purport to satisfy the income test; natural persons who purport to satisfy the net worth test; and entities who purport to meet one of the other tests set forth in Rule 501(a)).

We requested comment in the Proposing Release on our proposed principles-based method and its effectiveness in limiting sales of securities in Rule 506(c) offerings to only accredited investors. We also requested comment on possible alternative approaches for implementing the verification mandate of Section 201(a)(1), such as a rule that specifies mandatory methods for verifying accredited investor status or a non-exclusive list of verification methods that would function as a safe harbor for compliance with the verification requirement.

2. Comments on the Proposed Rule Amendment

Commenters expressed a wide range of views on the proposed approach to the verification requirement in Rule 506(c). Some commenters commended the Commission for proposing a flexible, principles-based standard for verification.

For example, one commenter stated that the Commission's proposed approach would provide issuers with the flexibility to develop tailored, reliable and cost-effective procedures for verification.

A number of commenters stated that the discussion in the Proposing Release of the factors that issuers may take into account in verifying accredited investor status would assist issuers in assessing the reasonableness of their verification processes.

Other commenters asserted that not requiring issuers to use certain specified methods to verify a purchaser's accredited investor status would permit advancements in verification methods over time.

Some commenters expressed support for the Commission's proposal that accredited investor status may be verified through an attestation or certification by a third party, provided that the issuer has a reasonable basis to rely on such third-party verification.

See, e.g.,

letters from HFA; MFA (Sept. 28, 2012); BIO; ABA Fed. Reg. Comm.; IAA; Linklaters; NYCBA; SRC of NYSBA; SIFMA and FSR (Oct. 5, 2012); Artivest Holdings, Inc. (“Artivest”).

See

letter from SIFMA and FSR (Oct. 5, 2012).

See, e.g.,

letters from SRC of NYSBA; S&C; SIFMA and FSR (Oct. 5, 2012); IAA.

See

letters from ACA (Sept. 27, 2012); CFIRA.

See, e.g.,

letters from IAA; SIFMA and FSR (Oct. 5, 2012); Tannenbaum Helpern Syracuse & Hirschtritt LLP (“Tannenbaum Helpern”). A number of commenters noted that the availability of third-party verification could address investors' privacy and security concerns in providing information to an issuer.

See, e.g.,

letters from L. Neumann; NSBA. One commenter urged the Commission not to limit third-party verification providers to certain types of entities.

See

letter from Tannenbaum Helpern. One commenter suggested the possibility of requiring investors to self-certify as to accredited investor status under penalty of perjury.

See

letter from NSBA.

Other commenters opposed the Commission's proposed approach, for various reasons. A number of these commenters opposed the proposed verification standard because, in their view, self-certification by itself should be sufficient to satisfy the verification requirement.

Some commenters opposed the proposed verification standard because it did not prescribe specific verification methods, which they believed is required in order to satisfy the verification mandate in Section 201(a).

One commenter stated that the Commission should deem the verification requirement to be satisfied if all purchasers in a Rule 506(c) offering are in fact accredited investors.

Another commenter stated that verification of accredited investor status should not be a condition of the Rule 506(c) exemption when the purchaser is actually an accredited investor.

See, e.g.,

letters from C. Hague; G. Brooks; Golenbock Eiseman Assor Bell & Peskoe LLP; P. Christenson; W. Johnson.

See, e.g.,

letters from AFL-CIO and AFR; Sen. Levin; Consumer Federation; Fund Democracy; Rep. Waters; Massachusetts Securities Division; The Options Clearing Corporation (“OCC”); Ohio Division of Securities.

See

letter from IPA.

See

letter from S. Keller.

Commenters expressed differing views on whether the Commission should include a non-exclusive list of methods in proposed Rule 506(c) for satisfying the verification requirement. Many commenters, encompassing a wide range of perspectives (

e.g.,

state government officials, law firms, investor organizations, professional and trade associations, and individuals), urged the Commission to provide such a non-exclusive list.

A number of these commenters cited the lack of legal certainty that the verification requirement has been satisfied in any given situation as the reason why, in their view, the Commission should include a non-exclusive list of verification methods in Rule 506(c).

In contrast, other commenters stated that the Commission should not include a non-exclusive list of verification methods in Rule 506(c), arguing that such a list could be viewed by market participants as the required verification methods, which would thereby undermine the flexibility of the Commission's proposed approach.

See, e.g.,

letters from ACA (Sept. 27, 2012 and Dec. 11, 2012); BIO; CFIRA; HFA; Hawaii Commissioner of Securities; IAA; Investor Advisory Committee (stating that the “facts and circumstances” based approach proposed by the Commission does not do enough either to ensure only accredited investors purchase in the offering or to provide issuers with the certainty they need to develop appropriate procedures); J. McLaughlin; MFA (Sept. 28, 2012); Montana Commissioner of Securities; NASAA; Tufts Stephenson & Kasper, LLP; Nevada Securities Division; OCC; Ohio Division of Securities; Pepper Hamilton LLP (“Pepper Hamilton”); Plexus Consulting Group, LLC (“Plexus Consulting Group”); Small Business Investor Association (“SBIA”); South Carolina Securities Commissioner; Virginia Division of Securities.

See, e.g.,

letters from ACA (Sept. 27, 2012 and Dec. 11, 2012); HFA; Investor Advisory Committee; OCC.

See, e.g.,

letters from ABA Fed. Reg. Comm.; Artivest; BlackRock; S&C; SIFMA and FSR (Oct. 5, 2012).

If there were to be a non-exclusive list of verification methods, commenters expressed a range of views on what should be included in such a list, such as verification by certain third parties or through tax returns and third-party documentary proof such as Forms W-2, Forms 1099, bank statements, brokerage account statements, tax assessment valuations and appraisal reports.

With

respect to the types of third parties that could provide verification services, commenters named registered brokers-dealers,

banks and other financial institutions,

registered investment advisers,

certified financial planners,

attorneys,

and accountants.

Other commenters suggested including in a non-exclusive list of verification methods self-certification, plus a minimum investment amount such as $25,000,

$100,000,

$250,000,

$500,000

or $1,000,000.

See, e.g.,

letters from B. Methven; L. Neumann; NASAA.

See, e.g.,

letters from Massachusetts Securities Division (July 2, 2012); J. McLaughlin; NASAA; OCC; Pepper Hamilton; Plexus Consulting Group; SBIA.

See

letter from Massachusetts Securities Division (July 2, 2012).

See, e.g.,

letters from Plexus Consulting Group; SBIA.

See, e.g.,

letters from Plexus Consulting Group; NSBA (stating that “if there must be some kind of enhanced verification, we recommend that a certification by the investor's attorney, CPA, certified financial advisor or other licensed professional should be sufficient”).

Id.

See

letter from Montgomery & Hansen.

See

letters from B. Methven; SBIA (provided the issuer is a small business investment company (“SBIC”) or a fund that has been authorized to apply to be an SBIC by the U.S. Small Business Administration).

See

letter from J. Joseph (stating that “[s]ome may feel that that number is $25,000, perhaps $100,000 but certainly at $250,000 there should be no question that the investor is properly qualified and accredited”).

See

letter from MFA (Sept. 28, 2012) (stating that “[i]n considering the appropriate minimum investment level, we have previously recommended a minimum investment level of 50% of the accredited investor net worth or total asset thresholds, currently $500,000 for an individual, and $2,500,000 for an entity”).

See

letter from Pepper Hamilton.

In contrast, one commenter argued that the ability to satisfy a minimum investment amount would not necessarily mean a person is an accredited investor, but rather, that the investor could be “over-concentrated in the investment.”

Another commenter stated that the verification requirement should not be deemed satisfied simply because an issuer possesses general information about the average compensation in the investor's profession or workplace.

Letter from Massachusetts Securities Division (July 2, 2012).

See

letter from NASAA.

Several commenters stated that there should be a “grandfather” provision from the verification mandate for an issuer's existing investors who purchased securities in a Rule 506(b) offering prior to the effective date of Rule 506(c),

and one commenter proposed to limit the scope of any grandfather provision to only existing accredited investors.

Two of these commenters reasoned that, as issuers are prohibited from engaging in general solicitation activities in Rule 506(b) offerings, their existing investors did not purchase securities in offerings that used general solicitation, and any future investments by these investors would be based on their pre-existing relationship with the issuers, and not as a result of general solicitation.

Therefore, a grandfather provision would be appropriate because the purpose of the verification mandate in Section 201(a) of the JOBS Act is to require the verification of the accredited investor status of only prospective purchasers who come to the issuer “as a result of” the issuer's general solicitation activities.

One commenter stated that, for existing investors, a “reaffirmation representation” of accredited investor status received shortly before or simultaneously with any subsequent investment should be sufficient for Rule 506(c) purposes.

100

See

letters from MFA (Sept. 28, 2012); IAA; Tannenbaum Helpern.

See

letter from Pepper Hamilton.

See

letters from MFA (Sept. 28, 2012); Tannenbaum Helpern.

See

letter from Tannenbaum Helpern.

100

See

letter from Pepper Hamilton.

3. Final Rule Amendment

After considering the comments and as directed by Section 201(a) of the JOBS Act, we are adopting as a condition of new Rule 506(c) the requirement that issuers take “reasonable steps to verify” that purchasers of the offered securities are accredited investors. This requirement is separate from and independent of the requirement that sales be limited to accredited investors, and must be satisfied even if all purchasers happen to be accredited investors.

101

We are also including in Rule 506(c) a non-exclusive list of methods that issuers may use to satisfy the verification requirement. As discussed above, a number of commenters urged the Commission to provide greater certainty for issuers that the verification requirement has been satisfied by providing a non-exclusive list of methods for verifying the accredited investor status of purchasers in Rule 506(c) offerings. Upon further consideration, we have concluded that a general requirement that issuers take “reasonable steps to verify” that the purchasers are accredited investors, combined with a non-exclusive list of verification methods that are deemed to meet this requirement, would maintain the flexibility of the verification standard while providing additional clarity and certainty that this requirement has been satisfied if one of the specified methods is used. We have specified methods for verifying the accredited investor status of natural persons because we believe that the potential for uncertainty and the risk of participation by non-accredited investors is highest in offerings involving natural persons as purchasers.

101

This will avoid diminishing the incentive for issuers to undertake the reasonable verification steps envisioned by the statute.

a. Principles-Based Method of Verification

Under Rule 506(c), issuers are required to take reasonable steps to verify the accredited investor status of purchasers. Consistent with the Proposing Release, whether the steps taken are “reasonable” will be an objective determination by the issuer (or those acting on its behalf), in the context of the particular facts and circumstances of each purchaser and transaction. Among the factors that issuers should consider under this facts and circumstances analysis are:

• 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 of the offering, such as the manner in which the purchaser was solicited to participate in the offering, and the terms of the offering, such as a minimum investment amount.

As noted in the Proposing Release, these factors are interconnected and are intended to help guide an issuer in assessing the reasonable likelihood that a purchaser is an accredited investor—which would, in turn, affect the types of steps that would be reasonable to take to verify a purchaser's accredited investor status. After consideration of the facts and circumstances of the purchaser and of the transaction, the more likely it appears that a purchaser qualifies as an accredited investor, the fewer steps the issuer would have to take to verify accredited investor status, and vice versa. For example, if the terms of the offering require a high minimum investment amount and a purchaser is able to meet those terms, then the likelihood of that purchaser satisfying the definition of accredited investor may be sufficiently high such that, absent any facts that indicate that the purchaser is not an accredited investor, it may be reasonable for the issuer to take fewer steps to verify or, in certain cases, no additional steps to verify accredited investor status other than to confirm that the purchaser's cash

investment is not being financed by a third party.

Regardless of the particular steps taken, because the issuer has the burden of demonstrating that its offering is entitled to an exemption from the registration requirements of Section 5 of the Securities Act,

102

it will be important for issuers and their verification service providers to retain adequate records regarding the steps taken to verify that a purchaser was an accredited investor.

102

SEC

Ralston Purina,

346 U.S. 119, 126 (1953) (“Keeping in mind the broadly remedial purposes of federal securities legislation, imposition of the burden of proof on an issuer who would plead the exemption seems to us fair and reasonable.”).

Nature of the Purchaser.

In determining the reasonableness of the steps to verify accredited investor status, an issuer should consider the nature of the purchaser of the offered securities. The definition of “accredited investor” in Rule 501(a) includes natural persons and entities that come within any of eight enumerated categories in the rule, or that the issuer reasonably believes come within one of those categories, at the time of the sale of securities to that natural person or entity. Some purchasers may be accredited investors based on their status, such as:

• a broker or dealer registered pursuant to Section 15 of the Securities Exchange Act of 1934 (the “Exchange Act”);

103

See

17 CFR 230.501(a)(1).

• an investment company registered under the Investment Company Act of 1940 (the “Investment Company Act”) or a business development company as defined in Section 2(a)(48) of that Act.

104

See id.

Some purchasers may be accredited investors based on a combination of their status and the amount of their total assets, such as:

• a plan established and maintained by a state, its political subdivisions, or any agency or instrumentality of a state or its political subdivisions, for the benefit of its employees, if such plan has total assets in excess of $5 million;

105

See id.

• an Internal Revenue Code (“IRC”) Section 501(c)(3) organization, corporation, Massachusetts or similar business trust, or partnership, not formed for the specific purpose of acquiring the securities offered, with total assets in excess of $5 million.

106

See

17 CFR 230.501(a)(3).

Natural persons may be accredited investors based on either their net worth or their annual income, as follows:

• a natural person whose individual net worth, or joint net worth with that person's spouse, exceeds $1 million, excluding the value of the person's primary residence;

107

See

17 CFR 230.501(a)(5).

• a natural person who had an individual income in excess of $200,000 in each of the two most recent years, or joint income with that person's spouse in excess of $300,000 in each of those years, and has a reasonable expectation of reaching the same income level in the current year.

108

See

17 CFR 230.501(a)(6).

As Rule 501(a) sets forth different categories of accredited investors, an issuer should recognize that the steps that will be reasonable to verify whether a purchaser is an accredited investor will vary depending on the type of accredited investor that the purchaser claims to be. For example, the steps that may be reasonable to verify that an entity is an accredited investor by virtue of being a registered broker-dealer—such as by going to FINRA's BrokerCheck Web site

109

—will necessarily differ from the steps that may be reasonable to verify whether a natural person is an accredited investor.

109

This Web site is available at:

http://www.finra.org/Investors/ToolsCalculators/BrokerCheck/

As we stated in the Proposing Release, the verification of natural persons as accredited investors may pose greater practical difficulties as compared to other categories of accredited investors, particularly for natural persons claiming to be accredited investors based on the net worth test. These practical difficulties likely will be exacerbated by privacy concerns about the disclosure of personal financial information. As between the net worth test and the income test for natural persons, we recognize that commenters have suggested that it might be more difficult for an issuer to obtain information about the assets and liabilities that determine a person's net worth—particularly the liabilities—than it would be to obtain information about a person's annual income,

110

although there could be privacy concerns with respect to either test. The question of what type of information would be sufficient to constitute reasonable steps to verify accredited investor status under the particular facts and circumstances will also depend on other factors, as described below.

110

See

letters from NASAA (stating that “[v]erification of net worth is more challenging because an individual could provide proof of assets but not liabilities.”); P. Sigelman (Sept. 28, 2012).

Information about the Purchaser.

The amount and type of information that an issuer has about a purchaser can also be a significant factor in determining what additional steps would be reasonable to take to verify the purchaser's accredited investor status. The more information an issuer has indicating that a prospective purchaser is an accredited investor, the fewer steps it may have to take, and vice versa.

111

Examples of the types of information that issuers could review or rely upon—any of which might, depending on the circumstances, in and of themselves constitute reasonable steps to verify a purchaser's accredited investor status—include, without limitation:

111

If an issuer has actual knowledge that the purchaser is an accredited investor, then the issuer will not have to take any steps at all.

• publicly available information in filings with a federal, state or local regulatory body—for example, without limitation:

○ the purchaser is a named executive officer of an Exchange Act registrant, and the registrant's proxy statement discloses the purchaser's compensation; or

○ the purchaser claims to be an IRC Section 501(c)(3) organization with $5 million in assets, and the organization's Form 990 series return filed with the Internal Revenue Service discloses the organization's total assets;

112

Such an organization is required to make the Form 990 series returns available for public inspection.

See

Internal Revenue Service,

Public Disclosure and Availability of Exempt Organizations Returns and Applications: Documents Subject to Public Disclosure,

available at:

http://www.irs.gov/Charities-&-Non-Profits/Public-Disclosure-and-Availability-of-Exempt-Organizations-Returns-and-Applications:-Documents-Subject-to-Public-Disclosure

(last reviewed or updated April 28, 2013).

• third-party information that provides reasonably reliable evidence that a person falls within one of the enumerated categories in the accredited investor definition—for example, without limitation:

○ the purchaser is a natural person and provides copies of pay stubs for the two most recent years and the current year; or

○ specific information about the average compensation earned at the purchaser's workplace by persons at the level of the purchaser's seniority is publicly available; or

• verification of a person's status as an accredited investor by a third party, provided that the issuer has a

reasonable basis to rely on such third-party verification.

113

For example, in the future, services may develop that verify a person's accredited investor status for purposes of new Rule 506(c) and permit issuers to check the accredited investor status of possible investors, particularly for web-based Rule 506 offering portals that include offerings for multiple issuers. This third-party service, as opposed to the issuer itself, could obtain appropriate documentation or otherwise take reasonable steps to verify accredited investor status. Several commenters, in fact, have recommended that the Commission take action to facilitate the ability of issuers to rely on third parties to perform the necessary verification.

See

letters from NASAA (July 3, 2012) (recommending that the Commission allow an issuer to obtain the necessary verification through registered broker-dealers, provided that there are independent liability provisions for failure to adequately perform the verification); Massachusetts Securities Division (July 2, 2012) (urging the Commission to adopt as a safe harbor or best practice the use of an independent party, such as a broker-dealer, bank, or other financial institution, that would verify the accredited investor status of purchasers). One commenter, however, expressed concerns that some of the Web sites that currently offer lists of accredited investors could be used to facilitate fraud, noting that some offer lists based on “ethnicity, gender, and lifestyle—presumably to make [it] easier for scammers to relate to marks—and ominously, `seniors.' ” Letter from I. Moscovitz and J. Maxfield (June 27, 2012).

Nature and Terms of the Offering.

The nature of the offering—such as the means through which the issuer publicly solicits purchasers—may be relevant in determining the reasonableness of the steps taken to verify accredited investor status. An issuer that solicits new investors through a Web site accessible to the general public, through a widely disseminated email or social media solicitation, or through print media, such as a newspaper, will likely be obligated to take greater measures to verify accredited investor status than an issuer that solicits new investors from a database of pre-screened accredited investors created and maintained by a reasonably reliable third party. We believe that an issuer will be entitled to rely on a third party that has verified a person's status as an accredited investor, provided that the issuer has a reasonable basis to rely on such third-party verification. We do not believe that an issuer will have taken reasonable steps to verify accredited investor status if it, or those acting on its behalf, required only that a person check a box in a questionnaire or sign a form, absent other information about the purchaser indicating accredited investor status.

The terms of the offering will also affect whether the verification methods used by the issuer are reasonable. We continue to believe that there is merit to the view that a purchaser's ability to meet a high minimum investment amount could be a relevant factor to the issuer's evaluation of the types of steps that would be reasonable to take in order to verify that purchaser's status as an accredited investor. By way of example, the ability of a purchaser to satisfy a minimum investment amount requirement that is sufficiently high such that only accredited investors could reasonably be expected to meet it, with a direct cash investment that is not financed by the issuer or by any third party, could be taken into consideration in verifying accredited investor status.

Commenters suggested a number of alternative approaches to implementing the verification mandate. Some commenters urged us to adopt a requirement that prescribes specific methods of verification that issuers must use, either because they believed such methods are needed for issuers seeking clarity on how to comply with this condition of Rule 506(c)

114

or because they believed that such methods are needed to maintain investor protection.

115

We have decided not to take such an approach. As we stated in the Proposing Release, we believe that, at present, requiring issuers to use specified methods of verification will be impractical and potentially ineffective in light of the numerous ways in which a purchaser can qualify as an accredited investor, as well as the potentially wide range of verification issues that may arise, depending on the nature of the purchaser and the facts and circumstances of a particular Rule 506(c) offering. We are also concerned that a prescriptive rule that specifies required verification methods could be overly burdensome in some cases, by requiring issuers to follow the same steps, regardless of their particular circumstances, and ineffective in others, by requiring steps that, in the particular circumstances, would not actually verify accredited investor status.

114

See, e.g.,

letter from Handler Thayer, LLP.

115

See, e.g.,

letters from AARP; CII.

We believe that the approach we are adopting appropriately addresses the concerns underlying the verification mandate by obligating issuers to take reasonable steps to verify that the purchasers are accredited investors, but not requiring them to follow uniform verification methods that may be ill-suited or unnecessary to a particular offering or purchaser in light of the facts and circumstances. We also expect that such an approach will give issuers and market participants the flexibility to adopt different approaches to verification depending on the circumstances, to adapt to changing market practices, and to implement innovative approaches to meeting the verification requirement, such as the development of reliable third-party databases of accredited investors and verification services. In addition, we anticipate that many practices currently used by issuers in connection with existing Rule 506 offerings will satisfy the verification requirement for offerings pursuant to Rule 506(c).

b. Non-Exclusive Methods of Verifying Accredited Investor Status

In addition to adopting a principles-based method of verification, we are including in Rule 506(c) four specific non-exclusive methods of verifying accredited investor status for natural persons that, if used, are deemed to satisfy the verification requirement in Rule 506(c); provided, however, that none of these methods will be deemed to satisfy the verification requirement if the issuer or its agent has knowledge that the purchaser is not an accredited investor.

116

While the principles-based method of verification is intended to provide an issuer with the flexibility to address the particular facts and circumstances surrounding its offering, we appreciate the view of some commenters that the final rule should include a non-exclusive list of specific verification methods for natural persons that may be relied upon by those issuers seeking greater certainty that they satisfy the rule's verification requirement.

117

Accordingly, we are adding a non-exclusive list of specific verification methods to supplement our principles-based framework for verifying accredited investor status.

118

Issuers are not required to use any of the methods discussed below, and can apply the reasonableness standard directly to the specific facts and circumstances presented by the offering and the investors.

119

116

Because an issuer must have a reasonable belief that the purchaser is an accredited investor, the issuer could not form such reasonable belief if it has knowledge that the purchaser is not an accredited investor. See Section II.C of this release for a discussion of the reasonable belief standard in the definition of accredited investor in Rule 501(a).

117

See, e.g.,

letters from ACA (Sept. 27, 2012 and Dec. 11, 2012); Investor Advisory Committee; MFA (Sept. 28, 2012).

118

Information and documentation collected for these verification purposes may be subject to federal and/or state privacy and data security requirements.

See, e.g.,

Regulation S-P [17 CFR 248.1-248.30] (implementing notice requirements and restrictions on a financial institution's ability to disclose nonpublic personal information about customers);

Privacy of Consumer Financial Information (Regulation S-P),

Release No. 34-42974 (June 22, 2000) [65 FR 40334 (June 29, 2000)].

119

We expect that many issuers will conduct Rule 506(c) offerings in reliance on the principles-based method of verification, in light of its flexibility and efficiency.

First, in verifying whether a natural person is an accredited investor on the basis of income, an issuer is deemed to satisfy the verification requirement in Rule 506(c) by reviewing copies of any Internal Revenue Service (“IRS”) form that reports income, including, but not limited to, a Form W-2 (“Wage and Tax Statement”), Form 1099 (report of various types of income), Schedule K-1 of Form 1065 (“Partner's Share of Income, Deductions, Credits, etc.”), and a copy of a filed Form 1040 (“U.S. Individual Income Tax Return”),

120

for the two most recent years, along with obtaining a written representation from such person that he or she has a reasonable expectation of reaching the income level necessary to qualify as an accredited investor during the current year. In the case of a person who qualifies as an accredited investor based on joint income with that person's spouse, an issuer would be deemed to satisfy the verification requirement in Rule 506(c) by reviewing copies of these forms for the two most recent years in regard to, and obtaining written representations from, both the person and the spouse.

120

A person could provide a redacted version of an Internal Revenue Service form so as to disclose only information about annual income and to avoid disclosure of personally identifiable information, such as a Social Security number, or other information that would not be relevant to the determination of a person's annual income.

Second, in verifying whether a natural person is an accredited investor on the basis of net worth, an issuer is deemed to satisfy the verification requirement in Rule 506(c) by reviewing one or more of the following types of documentation, dated within the prior three months,

121

and by obtaining a written representation from such person that all liabilities necessary to make a determination of net worth have been disclosed. In the case of a person who qualifies as an accredited investor based on joint net worth with that person's spouse, an issuer would be deemed to satisfy the verification requirement in Rule 506(c) by reviewing such documentation in regard to, and obtaining representations from, both the person and the spouse. For assets: Bank statements, brokerage statements and other statements of securities holdings, certificates of deposit, tax assessments and appraisal reports issued by independent third parties are deemed to be satisfactory; and for liabilities: A consumer report (also known as a credit report) from at least one of the nationwide consumer reporting agencies is required.

122

Commenters did not provide examples of any other type of documentation that would, in our view, adequately evidence liabilities.

123

We recognize that it will be difficult for an issuer to determine whether it has a complete picture of a natural person's liabilities, and therefore, for purposes of this method, consistent with the suggestions of some commenters, we are requiring a consumer report and a written representation from such person that all liabilities necessary to make a determination of net worth have been disclosed.

121

A person could provide redacted versions of these documents so as to disclose only information about the amounts of assets and liabilities and to avoid disclosure of personally identifiable information, such as a Social Security number, or other information that would not be relevant to the determination of a person's net worth.

122

We note that the Fair Credit Reporting Act (“FCRA”) [15 U.S.C. 1681

et seq.

] requires each of the nationwide consumer reporting agencies to provide a person with a free copy of his or her consumer report, upon request, once every 12 months. In addition, the FCRA permits third parties to access individual consumer reports with the written permission of the individual.

123

One commenter suggested that the Commission “require the issuer to obtain a list of liabilities from the investor, which would include a sworn statement that all material liabilities are disclosed.” Letter from NASAA. Another commenter noted that liabilities can be cross checked against UCC 1 filings, bankruptcy information on Public Access to Court Electronic Records (PACER), and credit reports.

See

letter from P. Sigelman (Sept. 28, 2012).

Third, an issuer is deemed to satisfy the verification requirement in Rule 506(c) by obtaining a written confirmation from a registered broker-dealer, an SEC-registered investment adviser, a licensed attorney, or a certified public accountant that such person or entity has taken reasonable steps to verify that the purchaser is an accredited investor within the prior three months and has determined that such purchaser is an accredited investor.

124

While third-party confirmation by one of these parties will be deemed to satisfy the verification requirement in Rule 506(c), depending on the circumstances, an issuer may be entitled to rely on the verification of accredited investor status by a person or entity other than one of these parties, provided that any such third party takes reasonable steps to verify that purchasers are accredited investors and has determined that such purchasers are accredited investors, and the issuer has a reasonable basis to rely on such verification.

124

For purposes of this method, a licensed attorney must be in good standing under the laws of the jurisdictions in which the attorney is admitted to practice law, and a certified public accountant must be in good standing under the laws of the place of the accountant's residence or principal office.

Fourth, with respect to any natural person who invested in an issuer's Rule 506(b) offering as an accredited investor prior to the effective date of Rule 506(c) and remains an investor of the issuer, for any Rule 506(c) offering conducted by the same issuer, the issuer is deemed to satisfy the verification requirement in Rule 506(c) with respect to any such person by obtaining a certification by such person at the time of sale that he or she qualifies as an accredited investor.

We are including the first three methods in our non-exclusive list of methods that are deemed to satisfy the verification requirement in Rule 506(c) because we believe that there will likely be few instances in which they would not constitute reasonable steps to verify accredited investor status. With respect to the verification method for the income test, there are numerous penalties for falsely reporting information in an Internal Revenue Service form, and these forms are filed with the Internal Revenue Service for purposes independent of investing in a Rule 506(c) offering. Similarly, we believe that the various forms of documentation set forth in the verification method for the net worth test ordinarily are generated for reasons other than to invest in a Rule 506(c) offering (with the possible exception of appraisal reports) and, in combination with a consumer report and a written representation from the investor regarding his or her liabilities, constitute sufficiently reliable evidence that such person's net worth exceeds $1 million, excluding the value of the person's primary residence. With respect to the third-party verification method, we have included written confirmations from certain third parties in our non-exclusive list of verification methods because these third parties are subject to various regulatory and/or licensing requirements. Registered broker-dealers

125

and SEC-registered investment advisers

126

are regulated by

the Commission; and in the United States, attorneys and certified public accountants are licensed at the state level and are subject to rules of professional conduct

127

as well as, to the extent they appear or practice before the Commission in any way, to the Commission's Rules of Practice.

128

125

Registered broker-dealers are subject to a comprehensive system of oversight by the Commission as well as FINRA. In particular, registered broker-dealers, among other things, must maintain and preserve specified books and records, develop effective supervisory policies and controls, and comply with FINRA rules regarding registration and qualification requirements for their associated persons as well as general and specific conduct rules. In addition, registered broker-dealers are subject to examinations by both FINRA and Commission staff.

126

An investment adviser must register with the Commission unless it is prohibited from registering under Section 203A of the Investment Advisers Act of 1940 [15 U.S.C. 80b-3a] (the “Advisers Act”) or is exempt from registration under Advisers Act Section 203 [15 U.S.C. 80b-3]. Investment advisers that are prohibited from registering with the Commission instead may be subject to regulation by the states, but the antifraud provisions of the

Advisers Act continue to apply to them.

See

Advisers Act Sections 203A(b) and 206 [15 U.S.C. 80b-3(a), 15 U.S.C. 80b-6]. SEC-registered investment advisers are subject to examinations by Commission staff.

127

Attorneys are subject to state standards for professional competence and ethical conduct, such as those based on the American Bar Association (“ABA”) Model Rules of Professional Conduct, which have been adopted by most states in the United States. For example, Rule 4.1 of the ABA Model Rules of Professional Conduct prohibits an attorney from knowingly making a false statement of material fact or law to a third person or failing to disclose a material fact to a third person when disclosure is necessary to avoid assisting a criminal or fraudulent act by a client. Accountants are also subject to state standards for professional competence and ethical conduct, such as those based on the AICPA Code of Professional Conduct.

See

AICPA Code of Professional Conduct ET 201.01, 202.01;

See also

letter from Massachusetts Securities Division (July 2, 2012).

Commenters on the Proposing Release were divided on the Commission's interpretation that the reasonable belief standard in Rule 501(a) applies to offerings under Rule 506(c). Several commenters supported this interpretation;

132

and other commenters opposed this interpretation.

133

132

See

letters from ABA Fed. Reg. Comm. (stating that it “strongly support[s] the continued inclusion of the reasonable belief standard in the accredited investor definition, whether the offering is conducted under Rule 506(b) without general solicitation, or under Rule 506(c) with general solicitation”); IAA; MFA (Sept. 28, 2012) (stating that “[e]liminating the `reasonable belief' standard in the definition of accredited investor would preclude issuers from relying on Rule 506(c)” and that, if this were the case, “[i]ssuers would not engage in general solicitation and Section 201 would fail in its intended purposes to modernize the securities laws”); NSBA; NYCBA; P. Rutledge.

133

See

letters from AFL-CIO and AFR (stating that “the legislative record reflects unmistakable congressional intent that securities sold through general solicitation and advertising under Rule 506 be sold only to accredited investors, not individuals issuers reasonably believe to be accredited investors”); Sen. Levin (stating that the “Proposed Rule also creates, with no statutory basis, an alternative to the `reasonable steps' requirement in the statute by stating that issuers may engage in a general solicitation or advertising so long as they `reasonably believe' that the investors to be addressed will be accredited”); Consumer Federation (stating that a reasonable belief standard “is in direct conflict with the statutory mandate that all investors in offerings sold through general solicitation and advertising be accredited investors and that the Commission specify methods issuers must follow to ensure that this is the case”); Fund Democracy (arguing that “Congress intentionally chose not to make such [a reasonable belief] exception to the mandate that Rule 506 purchasers be accredited investors”).

We are reaffirming the view that we expressed on this issue in the Proposing Release. In our view, the difference in the language between Section 201(a)(1) and Section 201(a)(2) reflects only the differing manner in which the reasonable belief standard was included in the respective rules at the time they were adopted, and does not represent a Congressional intent to eliminate the existing reasonable belief standard in Rule 501(a) or for Rule 506 offerings.

134

We note that the definition of accredited investor remains unchanged with the enactment of the JOBS Act and includes persons that come within any of the listed categories of accredited investors, as well as persons that the issuer reasonably believes come within any such category.

134

Both Rule 506 and Rule 144A currently provide for a reasonable belief standard regarding the eligibility of an investor to participate in an offering under the respective rules, but they reach that result in different ways. For Rule 506, the Commission chose to include the reasonable belief standard within the Rule 501(a) definition of “accredited investor”; for Rule 144A, the Commission chose to include the standard as a condition, in paragraph (d)(1), to the use of the exemption.

Further, as discussed in the Proposing Release, we continue to recognize that a person could provide false information or documentation to an issuer in order to purchase securities in an offering made under new Rule 506(c). Thus, even if an issuer has taken reasonable

steps to verify that a purchaser is an accredited investor, it is possible that a person nevertheless could circumvent those measures.

135

If a person who does not meet the criteria for any category of accredited investor purchases securities in a Rule 506(c) offering, we believe that the issuer will not lose the ability to rely on Rule 506(c) for that offering, so long as the issuer took reasonable steps to verify that the purchaser was an accredited investor and had a reasonable belief that such purchaser was an accredited investor at the time of sale.

136

135

We note that several federal courts have been unsympathetic to attempts by investors who represented that they were accredited investors at the time of the sale of securities to subsequently disavow those representations in order to pursue a cause of action under the federal securities laws.

See, e.g.,

Wright

Nat'l Warranty Co.,

953 F.2d 256 (6th Cir. 1991) (rejecting the plaintiffs' argument that Rule 505 was unavailable because the plaintiffs “specifically warranted and represented in the subscription agreement . . . that they were accredited investors”);

Goodwin Properties, LLC

Acadia Group, Inc.,

No. 01-49-P-C, 2001 U.S. Dist. LEXIS 9975 (D. Me. 2001) (noting that the plaintiffs “provided the defendants with reason to believe that they were accredited investors as defined by 17 C.F.R. § 230.501(a)” and stating that therefore “[t]hey cannot now disavow those representations in order to support their claims against the defendants”);

Faye L. Roth Revocable Trust

UBS Painewebber Inc.,

323 F. Supp. 2d 1279 (S.D. Fla. 2004) (stating that the plaintiffs “cannot disavow their representations that they were accredited investors” and concluding that there was no material dispute that the offering complied with Regulation D).

136

Our views regarding an issuer's ability to maintain the exemption for a Rule 506(c) offering notwithstanding the fact that not all purchasers meet the criteria for any category of accredited investor are consistent with our views regarding the effect of attempts by prospective investors to circumvent the requirement in Regulation S that offers and sales be made only to non-U.S. persons.

See Statement of the Commission Regarding Use of Internet Web sites to Offer Securities, Solicit Securities Transactions or Advertise Investment Services Offshore,

Release No. 33-7516 (Mar. 23, 1998) [63 FR 14806 (Mar. 27, 1998)] (“In our view, if a U.S. person purchases securities or investment services notwithstanding adequate procedures reasonably designed to prevent the purchase, we would not view the Internet offer after the fact as having been targeted at the United States, absent indications that would put the issuer on notice that the purchaser was a U.S. person.”).

D. Form D Check Box for Rule 506(c) Offerings

Form D is the notice of an offering of securities conducted without registration under the Securities Act in reliance on Regulation D.

137

Under Rule 503 of Regulation D, an issuer offering or selling securities in reliance on Rule 504, 505 or 506 must file a notice of sales on Form D with the Commission for each new offering of securities no later than 15 calendar days after the first sale of securities in the offering. Form D is currently organized around 16 numbered “items” or categories of information. The information required to be provided in a Form D filing includes basic identifying information, such as the name of the issuer of the securities and the issuer's year and place of incorporation or organization; information about related persons (executive officers, directors, and promoters); the exemption or exemptions being claimed for the offering; and factual information about the offering, such as the duration of the offering, the type of securities offered and the total offering amount.

137

Form D also applies to offerings conducted using the Section 4(a)(5) exemption. The Commission adopted Form D when it adopted Regulation D in 1982. Release No. 33-6389 (adopting Form D as a replacement for Forms 4(6), 146, 240 and 242).

1. Proposed Form Amendment

We proposed revising Form D to add a separate field or check box for issuers to indicate whether they are claiming an exemption under Rule 506(c). Item 6 of Form D currently requires the issuer to identify the claimed exemption or exemptions for the offering from among Rule 504's paragraphs and subparagraphs, Rule 505, Rule 506 and former Section 4(5), as applicable. Under the proposal, a new check box in Item 6 of Form D would require issuers to indicate specifically whether they are relying on the Rule 506(c) exemption. In addition, the current check box for “Rule 506” would be renamed “Rule 506(b),” and the current check box for “Section 4(5)” would be renamed “Section 4(a)(5)” to update the reference to former Section 4(5) of the Securities Act.

We explained in the Proposing Release that this revision would provide additional information needed to assist our efforts to analyze the use of general solicitation in Rule 506(c) offerings and the size of this offering market. The information would also help us to look into the practices that may develop to satisfy the verification requirement, which would assist us in assessing the effectiveness of various verification practices in identifying and excluding non-accredited investors from participation in Rule 506(c) offerings.

2. Comments on the Proposed Form Amendment

Most commenters who expressed a view on the proposed checkbox in Form D supported the addition of this checkbox for issuers to indicate whether they are relying on Rule 506(c) for their offerings.

138

Only one commenter opposed the proposed checkbox.

139

A number of commenters recommended that the Commission include additional information requirements in Form D for Rule 506(c) offerings, beyond a checkbox to indicate reliance on Rule 506(c).

140

Some commenters asked for confirmation that issuers may check

both

the Rule 506(b) box and the Rule 506(c) box in a Form D under certain circumstances.

141

138

See, e.g.,

letters from MFA (Sept. 28, 2012); BIO; S&C; Tannenbaum Helpern; ABA Fed. Reg. Comm.; IAA; SIFMA and FSR (Oct. 5, 2012); SRC of NYSBA.

139

Letter from J. McLaughlin (stating that “Section 201(a)(1) does not authorize the Commission to impose a separate Form D filing requirement on issuers who choose to engage in general solicitation”).

140

See, e.g.,

letters from AARP; AFL-CIO and AFR; Consumer Federation; Investor Advisory Committee; NASAA; Massachusetts Securities Division (July 2, 2012); Fund Democracy.

141

See

letters from J. Gross; NYCBA; IAA.

3. Final Form Amendment

We are adopting the revision to Form D as proposed. Issuers conducting Rule 506(c) offerings must indicate that they are relying on the Rule 506(c) exemption by marking the new check box in Item 6 of Form D. Further, as proposed, the current check box for “Rule 506” will be renamed “Rule 506(b),” and the current check box for “Section 4(5)” will be renamed “Section 4(a)(5).”

We are of the view that an issuer will not be permitted to check both boxes at the same time for the same offering. We remind issuers that once a general solicitation has been made to the purchasers in the offering,

142

an issuer is precluded from making a claim of reliance on Rule 506(b), which remains subject to the prohibition against general solicitation, for that same offering.

142

That is, the purchasers became interested in the offering because of, or through, the general solicitation, and not through some means other than the general solicitation, such as through a substantive, pre-existing relationship with the company or direct contact by the company or its agents outside of the general solicitation.

See Revisions of Limited Offering Exemptions in Regulation D,

Release No. 33-8828 (Aug. 3, 2007) [72 FR 45116, 45129 (Aug. 10, 2007)].

E. Specific Issues for Private Funds

Private funds, such as hedge funds, venture capital funds and private equity funds, typically rely on Section 4(a)(2) and Rule 506 to offer and sell their interests without registration under the Securities Act.

143

In addition, private funds generally rely on one of two exclusions from the definition of “investment company” under the Investment Company Act—Section

3(c)(1)

144

and Section 3(c)(7)

145

—which enables them to be excluded from substantially all of the regulatory provisions of that Act.

146

Private funds are precluded from relying on either of these two exclusions if they make a public offering of their securities.

147

Section 3(c)(1) excludes from the definition of “investment company” any issuer whose outstanding securities (other than short-term paper) are beneficially owned by not more than 100 beneficial owners,

148

and which is not making and does not presently propose to make a public offering of its securities. Section 3(c)(7) excludes from the definition of “investment company” any issuer whose outstanding securities are owned exclusively by persons who, at the time of acquisition of such securities, are “qualified purchasers,”

149

and which is not making and does not at that time propose to make a public offering of its securities.

143

See, e.g.,

Implications of the Growth of Hedge Funds, Staff Report to the Securities and Exchange Commission

(Sept. 2003) (“Staff Report on Hedge Funds”), available at:

http://www.sec.gov/news/studies/hedgefunds0903.pdf.

144

15 U.S.C. 80a-3(c)(1).

145

15 U.S.C. 80a-3(c)(7).

146

We also refer in this release to “pooled investment funds” because that term is used in Form D. Issuers that rely on Section 3(c)(1) or 3(c)(7) of the Investment Company Act are a subset of pooled investment funds.

147

See also

Section 202(a)(29) of the Advisers Act [15 U.S.C. 80b-2(a)(29)] (defining a “private fund” as an issuer that would be an investment company under the Investment Company Act, but for Sections 3(c)(1) or 3(c)(7) of that Act). Many ABS issuers also rely on the exclusions contained in Sections 3(c)(1) or 3(c)(7) of the Investment Company Act. These ABS issuers frequently participate in Rule 144A offerings.

148

See also

Rule 3c-5 under the Investment Company Act [17 CFR 270.3c-5] (providing that the section's limit of 100 beneficial owners does not include “knowledgeable employees,” as defined in the rule).

149

See

Section 2(a)(51) of the Investment Company Act [15 U.S.C. 80a-2(a)(51)] and the rules there under.

See also

letter from AFL-CIO and AFR.

Some commenters expressed concerns about private funds engaging in general solicitation under proposed Rule 506(c).

152

Other commenters, however, supported the removal of the prohibition against general solicitation in Rule 506(c) offerings with respect to private funds,

153

with some commenters stating that the removal of the ban would bring greater transparency to the private fund industry and allow managers of private funds to communicate more effectively with the public and prospective investors.

154

152

See, e.g.,

letters from A. La Rosa; A. Pierwola; AFL-CIO and AFR; C. Erickson; Consumer Federation; E. Guthrie; F. Urling; Fund Democracy; J. Clark; K. Pesson; M. Gessford; M. Trail; M. Zartler; R. Dunn; S. Johnston; W. Cunningham.

153

See, e.g.,

letters from BlackRock; Dukas; Forum for U.S. Securities Lawyers in London; HFA; IAA; MFA (Sept. 28, 2012); NYCBA; SRC of NYSBA.

154

See, e.g.,

letters from Dukas; HFA.

Some commenters who were concerned about private funds engaging in general solicitation recommended that we impose additional conditions on private funds that rely on Rule 506(c). In particular, a number of commenters believed that private funds engaging in general solicitation should be subject to some form of content and/or other restrictions, and suggested potential methods.

155

For example, some believed that, in order to engage in general solicitation, private funds should be held to performance and advertising standards that are analogous to mutual fund standards.

156

One of these commenters suggested that the Commission develop rules tailored to the ways private funds calculate and present investment performance, rather than extending mutual fund performance rules to private funds.

157

Some made other suggestions, such as

requiring each private fund relying on Rule 506(c) to disclose that the private fund is not registered with the Commission and should not be confused with a registered fund, such as a mutual fund.

158

With respect to private funds sold through broker-dealers subject to FINRA's rules of conduct, some commenters believed that we should direct FINRA to require the filing and review of private fund advertisements.

159

155

See, e.g.,

letters from ICI; AFL-CIO and AFR; C. Corn; Sen. Levin (stating that “Congress did not contemplate removing the general solicitation ban—without retaining any limitations on forms of solicitation—for private investment vehicles”); Consumer Federation; D. Kronheim; D. Smith; Fund Democracy; G. Lavy; G. Morin; Investor Advisory Committee; IDC; J. Sanders; Rep. Waters; NASAA; P. Turney; Sens. Reed, Levin, Durbin, Harkin, Lautenberg, Franken and Akaka.

156

See, e.g.,

letters from C. Corn; Sen. Levin (noting that “[a]lready, the Commission has determined that the manner and substance of solicitation and advertising for investments in registered investment companies deserves significant regulatory oversight. Many of those same concerns apply to investments in private investment vehicles. Accordingly, the Commission should impose analogous protections for investments in private funds.”); Consumer Federation (stating that “[s]hort of an outright prohibition on general solicitation and advertising by private funds, the Commission should at the very least adopt clear standards for the reporting of performance and fees by private funds, and delay their eligibility from engaging in general solicitation and advertising until such time as those standards are in place,” including a requirement to include in private fund advertisements “a clear, prominent warning that they are not mutual funds and carry special risks.”); D. Kronheim; D. Smith; Fund Democracy (noting that an alternative would be to “apply mutual fund advertising and valuation rules to hedge funds that engage in [general solicitation and advertising] (and, in any case, require standardized performance and fee reporting for all hedge funds), and require explicit, large-font disclaimers that hedge funds are not mutual funds and present special risks.”); G. Lavy; ICI (recommending content restrictions on private fund advertising at least as extensive as those currently applicable to mutual funds (

e.g.,

disclaimers regarding the performance figures or measures displayed in any advertisement), with a prohibition on use of performance advertising until the Commission can develop a new rule regarding such advertising); IDC; NASAA (stating that “because the investment strategies of private funds are typically more opaque, risky, and illiquid than those of mutual funds, private fund advertisements should be subject to restrictions that are comparable to the rules for mutual funds.”); P. Turney.

157

See

letter from ICI (arguing that the antifraud provisions in Section 206(4) of the Advisers Act [15 U.S.C. 80b-6(4)] and Rule 206(4)-8 thereunder [17 CFR 275.206(4)-8] would not be enough to protect investors because these advertisements will be presented before accredited and non-accredited investors at the same time).

158

See

letters from ICI; IDC.

159

See

letters from AFL-CIO and AFR (stating that “FINRA already pre-reviews broker-dealer advertising; the same requirement should apply to general solicitation and advertising in Rule 506 offerings in light of the significant potential for abuse.”); ICI (noting that “FINRA has developed an infrastructure to handle such filings and an expertise to substantively review them, and accordingly is best positioned to handle this task.”).

Finally, some commenters opposed the imposition of content and/or other restrictions for private funds.

160

They asserted that purchasers of the securities of a private fund that relies on Rule 506(c), must be, at a minimum, accredited investors and thus have met objective criteria demonstrating financial sophistication, which they believed eliminates the risk that other types of investors could be defrauded.

161

A number of commenters pointed out that advertisements of private funds are subject to the antifraud provisions of the federal securities laws and suggested that liability under such provisions provides sufficient investor protections.

162

160

See, e.g.,

letters from Verrill Dana LLP (stating that “[t]here is no suggestion in Section 201 that the Commission must distinguish between `issuers that engage in operational businesses' and `those that are merely investment vehicles'”); Artivest (noting that for private funds managed by a registered commodity pool operator, the National Futures Association Rule 2-29 contains standards regarding marketing materials).

161

In general, private funds that pay performance fees to their managers are available only to “qualified clients” that have at least $1 million in assets under management or that have a net worth of $2 million (excluding the value of the client's primary residence).

See

Rule 205-3 under the Advisers Act [17 CFR 275.205-3].

See also

letter from BlackRock.

162

See, e.g.,

letters from BlackRock; HFA; MFA (Mar. 22, 2013).

We have carefully considered commenters' suggestions and concerns. We are mindful of certain commenters' concerns that private funds engaging in general solicitation may raise certain investor protection issues. We also understand that other commenters believe that additional measures regarding private fund advertising are not necessary because the antifraud provisions of the federal securities laws continue to apply. We will monitor and study the development of private fund advertising and undertake a review to determine whether any further action is necessary.

We remind investment advisers to private funds that they are subject to Rule 206(4)-8 under the Advisers Act.

163

Rule 206(4)-8 provides that it shall constitute a fraudulent, deceptive or manipulative act, practice or course of business within the meaning of Section 206(4) of the Advisers Act for any investment adviser to a pooled investment vehicle

164

to “(1) [m]ake any untrue statement of a material fact or to omit to state a material fact necessary to make the statements made, in light of the circumstances under which they were made, not misleading, to any investor or prospective investor in the pooled investment vehicle; or (2) otherwise engage in any act, practice or course of business that is fraudulent, deceptive, or manipulative with respect to any investor or prospective investor in the pooled investment vehicle.”

165

163

17 CFR 275.206(4)-8.

164

Rule 206(4)-8 defines a pooled investment vehicle to mean any investment company as defined in Section 3(a) of the Investment Company Act [15 U.S.C. 80a-3(a)] or any company that would be an investment company under Section 3(a) of that Act but for the exclusion provided from that definition by either Section 3(c)(1) or Section 3(c)(7) of that Act [15 U.S.C. 80a-3(c)(1) or (7)].

165

Id.

As was stated by the Commission when it adopted Rule 206-4(8), “[t]he rule clarifies that an adviser's duty to refrain from fraudulent conduct under the federal securities laws extends to the relationship with ultimate investors and that the Commission may bring enforcement actions under the Advisers Act against investment advisers who defraud investors or prospective investors in those pooled investment vehicles.”

166

We further stated that we “intend to employ all of the broad authority that Congress provided us in section 206(4) and direct it at adviser conduct affecting an investor or potential investor in a pooled investment vehicle.”

167

Recently, for example, we have brought enforcement actions against private fund advisers and others for material misrepresentations to investors and prospective investors regarding fund performance, strategy, and investments, among other things.

168

166

Prohibition of Fraud by Advisers to Certain Pooled Investment Vehicles,

Release No. IA-2628 (Aug. 3, 2007) [72 FR 44756 (Aug. 9, 2007)].

167

Id.

168

See, e.g.,

In the Matter of Oppenheimer Asset Management Inc. and Oppenheimer Alternative Investment Management, LLC,

Release No. IA-3566 (Mar. 11, 2013);

In the Matter of Sentinel Investment Management Corp.,

Release No. IA-3530 (Dec. 27, 2012);

In the Matter of Weizhan Tang,

Release No. IA-3482 (Oct. 5, 2012);

In the Matter of Calhoun Asset Management, LLC, et al.,

Release No. IA-3428 (July 9, 2012);

In the Matter of Belal K. Faruki,

Release No. IA-3405 (May 17, 2012);

In the Matter of GMB Capital Management LLC, et al.,

Release No. IA-3399 (Apr. 20, 2012).

We believe that investment advisers that have implemented appropriate policies and procedures regarding, among other things, the nature and content of private fund sales literature, including general solicitation materials, are less likely to use materials that materially mislead investors or otherwise violate the federal securities laws. Accordingly, we believe that investment advisers to private funds should carefully review any such policies and procedures that have been implemented to determine whether they are reasonably designed to prevent the use of fraudulent or materially misleading private fund advertising and make appropriate amendments to those policies and procedures, particularly if the private funds intend to engage in general solicitation activity.

169

We remind investment advisers that are registered or required to be registered under Section 203 of the Advisers Act that they must adopt and implement written policies and procedures reasonably designed to prevent violations of the Advisers Act which include, but are not limited to, violations of Section 206 of the Advisers Act and the rules thereunder. They must also review, no less frequently than annually, the adequacy of the written policies and procedures and the effectiveness of the policies and procedures' implementation.

See

CFR 275.206(4)-7.

F. Technical and Conforming Amendments

We proposed a number of technical and conforming amendments to Rules 502 and 506 of Regulation D. Under the proposal, we would amend various provisions in Rule 502(b) to clarify that the references to sales to non-accredited investors under Rule 506, and the corresponding informational requirements, would be applicable to offerings under Rule 506(b) and not to offerings under Rule 506(c). We proposed to amend Rule 502(c) to clarify that Rule 502(c)'s prohibition against general solicitation would not apply to offerings under Rule 506(c). In addition, as Section 201(c) of the JOBS Act renumbered Section 4 of the Securities Act, we proposed to amend Regulation D and Rule 144A to update the references to Section 4. Finally, the proposal would update references to Section 2 of the Securities Act in these rules as some of the references have not been updated to reflect the current numbering scheme in Section 2. We received no comments regarding these technical and conforming amendments and are adopting these rule amendments as proposed.

III. Final Amendment to Rule 144A

Section 201(a)(2) of the JOBS Act directs the Commission to revise Rule 144A(d)(1) under the Securities Act to provide that securities sold pursuant to Rule 144A may be offered to persons other than QIBs, including by means of general solicitation, provided that securities are sold only to persons that the seller and any person acting on behalf of the seller reasonably believe is a QIB. To implement the mandated rule change, we proposed amending Rule 144A(d)(1) to eliminate the references to “offer” and “offeree.” All of the commenters that expressed a view on the proposed amendment to Rule 144A(d)(1) stated that they supported the Commission's proposal.

170

We are adopting the amendment as proposed. As amended, Rule 144A(d)(1) will require only that the securities be sold to a QIB or to a purchaser that the seller and any person acting on behalf of the seller reasonably believe is a QIB.

171

Under this amendment, resales of securities pursuant to Rule 144A can be conducted using general solicitation, so long as the purchasers are limited in this manner.

172

170

See

letters from IAA; SIFMA and FSR (Oct. 5, 2012); J. Johnson; OTC Markets Group Inc.

171

Rule 144A(d)(1).

172

The general solicitation that is permitted in Rule 144A resales from the initial purchaser to the QIBs will not affect the availability of the Section 4(a)(2) exemption or Regulation S for the initial sale of securities by the issuer to the initial purchaser.

As a result of the Section 201(a)(2) mandate and the resulting Rule 144A revisions, we are also making technical and conforming revisions to the exceptions in Regulation M relating to transactions in Rule 144A securities, specifically Regulation M Rules 101(b)(10), 102(b)(7) and 104(j)(2). When adopted in 1996, the exceptions delineated in Rules 101(b)(10)(i), 102(b)(7)(i) and 104(j)(2)(i) were generally intended to permit transactions in securities eligible for resale under Rule 144A during a distribution of securities, provided that offers and sales of such securities were made solely to QIBs or persons reasonably believed to be QIBs in certain transactions exempt from registration.

173

See Anti-Manipulation Rules Concerning Securities Offerings,

Release No. 34-38067 (Dec. 20, 1996) [62 FR 520 (Jan. 3, 1997)] at 530 (“As adopted, the exception permits transactions in Rule 144A Securities during a distribution of such securities, provided that sales of such securities within the United States are made solely to: Qualified institution buyers (`QIBs'), or persons reasonably believed to be QIBs, in transactions exempt from registration under the Securities Act . . . The exception covers both the Rule 144A security being distributed and any reference security.”).

As explained above, Section 201(a)(2) of the JOBS Act directs the Commission to revise Rule 144A to permit offers of securities to persons other than QIBs. As noted above, Rule 144A is being amended to eliminate references to “offer” and “offeree,” so that the amended rule will require only that securities be sold to a QIB or to a purchaser that the seller and any person acting on behalf of the seller reasonably believes is a QIB.

In order to conform the language in Regulation M to Rule 144A, as amended, we are conforming the Regulation M exceptions by similarly eliminating the references to “offered” and “offerees.” We believe that these conforming modifications do not result in any substantive change to the Regulation M exceptions and are consistent with the purpose of the exceptions.

As a transition matter, for an ongoing Rule 144A offering that commenced before the effective date of the amendment to Rule 144A(d)(1), offering participants will be entitled to conduct the portion of the offering following the effective date of the amendment to Rule 144A(d)(1) using general solicitation, without affecting the availability of Rule 144A for the portion of the offering that occurred prior to the effective date of the amended rule.

IV. Integration With Offshore Offerings

In the Proposing Release, we noted that the mandate in Section 201(a) that the Commission amend Rule 506 and Rule 144A to permit the use of general solicitation in transactions under those rules has raised questions from some commenters

174

regarding the impact of the use of general solicitation on the availability of the Regulation S safe harbors for concurrent unregistered offerings inside and outside the United States.

175

The safe harbors are important when U.S. and non-U.S. companies engage in global offerings of securities in which the U.S. portion of the offering is conducted in accordance with Rule 144A or Rule 506 and the offshore portion is conducted in reliance on Regulation S.

174

See, e.g.,

letters from ABA Fed. Reg. Comm. (Apr. 30, 2012); L. Neumann (June 12, 2012); NYCBA (May 4, 2012); SecuritiesLawUSA, PC (June 26, 2012); SIFMA (Apr. 27, 2012).

175

Regulation S provides a safe harbor for offers and sales of securities outside the United States and includes an issuer and a resale safe harbor. Two general conditions apply to both safe harbors: (1) The securities must be sold in an offshore transaction and (2) there can be no “directed selling efforts” in the United States. Rule 902(c)(1) [17 CFR 230.902(c)(1)] broadly defines “directed selling efforts” as: Any activity undertaken for the purpose of, or that could reasonably be expected to have the effect of, conditioning the market in the United States for any of the securities offered in reliance on Regulation S. Such activity includes placing an advertisement in a publication “with a general circulation in the United States” that refers to the offering of securities being made in reliance upon Regulation S.

We expressed our view on this issue in the Proposing Release, which we are reaffirming in this release.

176

Concurrent offshore offerings that are conducted in compliance with Regulation S will not be integrated with domestic unregistered offerings that are conducted in compliance with Rule 506 or Rule 144A, as amended. As explained in the Proposing Release, we believe that our view is consistent with the historical treatment of concurrent Regulation S and Rule 144A/Rule 506 offerings.

177

176

All of the commenters who expressed a view on our interpretation supported it and encouraged us to reiterate it in this release.

See

letters from ABA Fed. Reg. Comm; Forum for U.S. Securities Lawyers in London; IAA; IPA; NYCBA.

177

See Offshore Offers and Sales,

Release No. 33-6863 (Apr. 24, 1990) [55 FR 18306 (May 2, 1990)] (stating that “[o]ffshore transactions made in compliance with Regulation S will not be integrated with registered domestic offerings or domestic offerings that satisfy the requirements for an exemption from registration under the Securities Act.”). In addressing the offshore transaction component of the Regulation S safe harbor, the Commission also stated, “Offers made in the United States in connection with contemporaneous registered offerings or offerings exempt from registration will not preclude reliance on the safe harbors.”

Id.

at n. 36. Likewise, in addressing directed selling efforts, the Commission stated, “Offering activities in contemporaneous registered offerings or offerings exempt from registration will not preclude reliance on the safe harbors.”

Id.

at n. 47.

See also

Rule 500(g) of Regulation D [17 CFR 230.500(g)] (formerly Preliminary Note No. 7 to Regulation D) (“Regulation S may be relied upon for such offers and sales even if coincident offers and sales are made in accordance with Regulation D inside the United States.”).

V. Paperwork Reduction Act

A. Background

The amendment to Form D contains a “collection of information” requirement within the meaning of the Paperwork Reduction Act of 1995 (“PRA”).

178

We published a notice requesting comment on the collection of information requirement in the Proposing Release for the rule and form amendments. We submitted that requirement to the Office of Management and Budget (“OMB”) for review and approval in accordance with the PRA and its implementing regulations.

179

The title of this requirement is: “Form D” (OMB Control No. 3235-0076).

180

178

44 U.S.C. 3501

et seq.

179

44 U.S.C. 3507(d); 5 CFR 1320.11.

180

Form D was adopted under the authority of Sections 2(a)(15), 3(b), 4(a)(2), 19(a) and 19(c)(3) of the Securities Act [15 U.S.C. 77b(a)(15), 77c(b), 77d(a)(2), 77s(a) and 77s(c)(3)].

We adopted Regulation D and Form D as part of the establishment of a series

of exemptions for offerings and sales of securities under the Securities Act. The Form D filing is required to be made by issuers as a notice of sales without registration under the Securities Act based on a claim of exemption under Regulation D or Section 4(a)(5) of the Securities Act. The Form D filing is required to include basic information about the issuer, certain related persons, and the offering. This information is needed for implementing the exemptions and analyzing their use. The information collection requirements related to the filing of Form D with the Commission are mandatory to the extent that an issuer elects to make an offering of securities in reliance on the relevant exemption. Responses are not confidential. The hours and costs associated with preparing and filing forms and retaining records constitute reporting and cost burdens imposed by the collection of information requirements. An agency may not conduct or sponsor, and a person is not required to respond to, a collection of information requirement unless it displays a currently valid OMB control number.

As discussed above, we proposed to amend Form D to add a check box to indicate an offering relying on the Rule 506(c) exemption. In the Proposing Release, we requested comment on our PRA burden hour and cost estimates and the analysis used to derive such estimates. One commenter responded to our request for comment on the PRA analysis and stated that it believed that the cost estimates in the PRA and economic analysis are too low.

181

See

letter from NSBA (stating that “the compliance cost estimates should include the time required by the issuer and their advisors to familiarize themselves with the rule and to comply with the additional verification requirements and the time and costs of investors to comply (for example, with a third-party verification requirement)”). For PRA purposes, we consider only the burden of responding to the collection of information in Form D; we do not consider any of the other costs, direct or indirect, of conducting a Rule 506(c) offering.

B. Revisions to PRA Reporting and Cost Burden Estimates

Consistent with the PRA analysis in the Proposing Release, we believe that the addition of a check box on Form D to indicate that an issuer is relying on the Rule 506(c) exemption for its offering will have a negligible effect on the paperwork burden of the form. Form D already contains a check box for each basis of exemption claimed under Regulation D; this change simply conforms the form to the new rule amendment. Accordingly, we estimate that under the amendment to Form D, the burden for responding to the collection of information in Form D will be substantially the same as before the amendment to Form D. We believe, however, that the amendment to Rule 506 could increase the number of Form D filings that are made with the Commission because we expect issuers may conduct more Rule 506 offerings.

The table below shows the current total annual compliance burden, in hours and in costs, of the collection of information pursuant to Form D. For purposes of the PRA, we estimate that, over a three-year period, the average burden estimate will be four hours per Form D filing. Our burden estimate represents the average burden for all issuers. This burden is reflected as a one hour burden of preparation on the issuer and a cost of $1,200 per filing. In deriving these estimates, we assume that 25% of the burden of preparation is carried by the issuer internally and that 75% of the burden of preparation is carried by outside professionals retained by the issuer at an average cost of $400 per hour. The portion of the burden carried by outside professionals is reflected as a cost, while the portion of the burden carried by the issuer internally is reflected in hours.

Table 1—Estimated Paperwork Burden Under Form D, Pre-Amendment to Rule 506

Number of

responses

Burden hours/form

Total burden hours

Internal issuer time

External professional time

Professional costs

(A)

182

(B)

(C)=(A)*(B)

(D)

(E)

(F)=(E)*$400

Form D

18,187

72,748

18,187

54,561

$21,824,400

According

to our Division of Economic and Risk Analysis (“DERA”), in 2012, 16,067 companies made 18,187 new Form D filings. The annual number of new Form D filings rose from 13,764 in 2009 to 18,187 in 2012, an average increase of approximately 1,474 Form D filings per year, or approximately 10%. Assuming that the macroeconomic factors underlying this increase persist and the number of Form D filings continues to increase by 1,474 filings per year for each of the next three years, the average number of Form D filings in each of the next three years, absent the elimination of the prohibition against general solicitation, would be approximately 21,135.

182

We had previously estimated the number of responses to be 25,000, as reflected in OMB's Inventory of Currently Approved Information Collections (available at:

http://www.reginfo.gov/public/do/PRAMain;jsessionid=D37174B5F6F9148DB767D63DF6983A65

), but we are revising this estimate to reflect the number of new Form D filings made in 2012.

We anticipate that new paragraph (c) of Rule 506 could result in an even greater annual increase in the number of Form D filings than the 10% annual increase estimated above. As a reference point for the potential increase, we use the impact of another past rule change on the market for Regulation D offerings. In 1997, the Commission amended Rule 144(d) under the Securities Act

183

to reduce the holding period for restricted securities from two years to one year,

184

thereby increasing the attractiveness of Regulation D offerings to investors and to issuers. There were 10,341 Form D filings in 1996. This was followed by a 20% increase in the number of Form D filings in each of the subsequent three calendar years, reaching 17,830 by 1999. Although it is not possible to predict with any degree of accuracy the increase in the number of Rule 506 offerings following the elimination of the prohibition against general solicitation for a new category of Rule 506 offerings, we assume for purposes of this analysis that there could be a similarly significant increase.

183

17 CFR 230.144(d).

184

See Revision of Holding Period Requirements in Rules 144 and 145,

Release No. 33-7390 (Feb. 20, 1997) [62 FR 9242 (Feb. 28, 1997)].

For purposes of the PRA and based on our analysis above, we estimate that the amendment to Rule 506 will result in a 20% increase in Form D filings relying on the Rule 506 exemption, or approximately 3,637 filings.

185

We also assume that the number of Form D filings will increase by approximately 3,637 in each year following the adoption of the rule.

185

This number is based on the 18,187 new Form D filings that were made in 2012.

Based on this increase, we estimate that the annual compliance burden of the collection of information requirements for the first year in which issuers will make Form D filings after the adoption of Rule 506(c) will be an aggregate of 21,824 hours of issuer personnel time and $26,188,800 for the services of outside professionals per year.

Table 2—Estimated Paperwork Burden Under Form D, Post-Amendment to Rule 506

Number of responses

Burden hours/form

Total burden hours

Internal issuer time

External professional time

Professional costs

(A)

186

(B)

(C)=(A)*(B)

(D)

(E)

(F)=(E)*$400

Form D

21,824

87,296

21,824

65,472

$26,188,800

VI. Economic Analysis

A. Background

We are adopting amendments to

Rule 506 and Rule 144A to implement the requirements of Section 201(a) of the JOBS Act.

187

Section 201(a)(1) directs the Commission to revise Rule 506 to provide that the prohibition against general solicitation contained in Rule 502(c) shall not apply to offers and sales of securities made pursuant to Rule 506, as amended, provided that all purchasers of the securities are accredited investors. Section 201(a)(1) also provides that “such rules shall require the issuer to take reasonable steps to verify that purchasers of the securities are accredited investors, using such methods as determined by the Commission.” Section 201(a)(2) of the JOBS Act directs the Commission to revise Rule 144A(d)(1) to provide that securities sold pursuant to Rule 144A may be offered to persons other than QIBs, including by means of general solicitation, provided that securities are sold only to persons that the seller and any person acting on behalf of the seller reasonably believe are QIBs.

186

The information in this column is based on the 18,187 new Form D filings that were made in 2012, plus the additional 3,637 filings we estimate would be filed in the first year after the effectiveness of Rule 506(c).

187

As explained above, the Commission in this release is adopting only those rule and form amendments that are specifically mandated by Section 201(a). Correspondingly, we analyze the economic impacts—including the benefits and costs—only of those rules and form amendments considered within the scope of this release.

We are mindful of the costs imposed by and the benefits obtained from our rules. The discussion below addresses the economic effects of the amendments to Rule 506, Rule 144A and Form D, including the likely benefits and costs of the amendments as well as the effect of the amendments on efficiency, competition and capital formation.

188

Some of the costs and benefits stem from the statutory mandate of Section 201(a), whereas others are affected by the discretion we have exercised in implementing this mandate. These two types of costs and benefits may not be entirely separable to the extent that our discretion is exercised to realize the benefits that we believe were intended by Section 201(a).

188

Section 2(b) of the Securities Act [15 U.S.C. 77b(b)] requires the Commission, when engaging in rulemaking that requires it to consider whether an action is necessary or appropriate in the public interest, to consider, in addition to the protection of investors, whether the action would promote efficiency, competition, and capital formation.

B. Economic Baseline

The baseline analysis that follows is in large part based on information collected from Form D filings submitted by issuers relying on Regulation D to raise capital. As we describe in more detail below, we believe that we do not have a complete view of the Rule 506 market, particularly with respect to the amount of capital raised. Currently, issuers are required to file a Form D within 15 days of the first sale of securities, and are required to report additional sales through amended filings only under certain conditions. In addition, issuers may not report all required information, either due to error or because they do not wish to make the information public. Commenters have suggested and we also have evidence that some issuers do not file a Form D for their offerings in compliance with Rule 503.

189

Consequently, the analysis that follows is necessarily subject to these limitations in the current Form D reporting process.

189

Many commenters asserted that non-compliance with Form D filing obligations is widespread.

See, e.g.,

letters from Investor Advisory Committee (stating that “[i]t is generally acknowledged that a significant number of issuers do not currently file Form D. . .”); AARP (stating that “[s]imply adding a checkbox to a form that too often goes unfiled and then only after the fact is inadequate to the task at hand.”); AFL-CIO and AFR (stating that “many issuers today flout the Form D filing requirement for such offerings, further limiting the Commission's ability to provide effective oversight”).

See also

Securities and Exchange Commission, Office of Inspector General,

Regulation D Exemption Process

(Mar. 31, 2009) (“OIG Report”), available at:

http://www.sec-oig.gov/Reports/AuditsInspections/2009/459.pdf

(stating that while the Commission staff “strongly encourage companies to comply with Rule 503, they are aware of instances in which issuers have failed to comply with Rule 503. . .”). Based on its analysis of the filings required by FINRA Rules 5122 and 5123 during the period of December 3, 2012 to February 5, 2013, DERA estimates that as many as 9% of the offerings represented in the FINRA filings for Regulation D or other private offerings that used a registered broker did not have a corresponding Form D.

1. Size of the Exempt Offering Market

Exempt offerings play a significant role in capital formation in the United States. Offerings conducted in reliance on Rule 506 account for 99% of the capital reported as being raised under Regulation D from 2009 to 2012, and represent approximately 94% of the number of Regulation D offerings.

190

The significance of Rule 506 offerings is underscored by the comparison to registered offerings. In 2012, the estimated amount of capital reported as being raised in Rule 506 offerings (including both equity and debt) was $898 billion, compared to $1.2 trillion raised in registered offerings.

191

Of this $898 billion, operating companies (issuers that are not pooled investment funds) reported raising $173 billion, while pooled investment funds reported raising $725 billion.

192

The amount reported as being raised by pooled investment funds is comparable to the amount of capital raised by registered investment funds. In 2012, registered investment funds (which include money market mutual funds, long-term mutual funds, exchange-traded funds, closed-end funds and unit investment trusts) raised approximately $727 billion.

193

190

See

Ivanov/Bauguess Study.

191

See id.

192

See id.

193

In calculating the amount of capital raised by registered investment funds, we use the net amounts (plus reinvested dividends and reinvested capital gains), which reflect redemptions, and not gross amounts, by open-ended registered investment funds because they face frequent redemptions and do not have redemption restrictions and lock-up periods common among private funds. In addition, we use the new issuances of registered closed-end funds and the new deposits of registered unit investment trusts.

See

2013 Investment Company Institute Factbook, available at:

http://www.icifactbook.org

In 2011, the estimated amount of capital (including both equity and debt) reported as being raised in Rule 506 offerings was $849 billion compared to $985 billion raised in registered offerings.

194

Of the $849 billion, operating companies reported raising $71 billion, while pooled investment funds reported raising $778 billion.

195

More generally, when including offerings pursuant to other exemptions—Rule 144A, Regulation S and Section 4(a)(2)—significantly more capital appears to be raised through exempt offerings than registered offerings (Figure 1).

196

194

See

Ivanov/Bauguess Study.

195

See id.

196

See id.

197

The 2012 non-ABS Rule 144A offerings data is based on an extrapolation of currently available data through May 2012 from Sagient Research System's Placement Tracker database. For more detail, see the Ivanov/Bauguess Study.

ER24JY13.014

At present, issuers are required to file a Form D not later than 15 days after the first sale of securities in a Regulation D offering and an amendment to the Form D only under certain circumstances. Since issuers are not required to submit a Form D filing when an offering is completed, and submit amendments only under certain circumstances, we have no definitive information on the final amounts raised. Figure 2, below, illustrates that at the time of the Form D filing, only 39% of offerings by non-pooled investment fund issuers were completed relative to the total amount sought. Separately, 70% of pooled investment funds state their total offering amount to be “Indefinite” in their Form D filings. As a result, the Form D filings of these pooled investment funds likely do not accurately reflect the total amount of securities offered or sold.

ER24JY13.015

2. Affected Market Participants

The amendments to Rule 506 we are adopting today will affect a number of different market participants. Issuers of securities in Rule 506 offerings include both reporting and non-reporting operating companies and pooled investment funds. Investment advisers organize and sponsor pooled investment funds that conduct Rule 506 offerings. Intermediaries that facilitate Rule 506 offerings include registered broker-dealers, finders and placement agents. Investors in Rule 506 offerings include accredited investors (both natural persons and legal entities) and non-accredited investors who meet certain “sophistication” requirements. Each of these market participants is discussed in further detail below.

a. Issuers

Based on the information submitted in 112,467 new and amended Form D filings between 2009 and 2012, there were 67,706 new Regulation D offerings by 49,740 unique issuers during this four-year period.

198

The size of the average Regulation D offering during this period was approximately $30 million, whereas the size of the median offering was approximately $1.5 million.

199

The difference between the average and median offering sizes indicates that the Regulation D market is comprised of many small offerings, which is consistent with the view that many smaller businesses are relying on Regulation D to raise capital, and a smaller number of much larger offerings.

198

See

Ivanov/Bauguess Study.

199

See id.

A study of unregistered equity offerings by publicly-traded companies over the period 1980-1996 found that the mean offering amount was $12.7 million, whereas the median offering amount was $4.5 million.

See

Michael Hertzel, Michael Lemmon, James Linck and Lynn Rees,

Long-Run Performance Following Private Placements of Equity,

57 Journal of Finance 2595 (2002).

Some information about issuer size is available from Item 5 in Form D, which requires issuers in Regulation D offerings to report their size in terms of revenue ranges or, in the case of certain pooled investment funds, net asset value ranges. All issuers can currently choose not to disclose this size information, however, and a significant majority of issuers that are not pooled investment funds declined to disclose their revenue ranges in the Forms D that they filed between 2009 and 2012. For those that did, most reported a revenue range of less than $1 million (Figure 3).

200

During the 2009-2011 period, approximately 10% of all public companies raised capital in Regulation D offerings; in 2012, approximately 6% of such companies did so.

201

These public companies tended to be smaller and less profitable than their industry peers, which illustrates the significance of the private capital markets to smaller companies, whether public or private.

202

200

See

Ivanov/Bauguess Study.

201

Id.

(explaining the methodology of using listings in the Standard & Poor's Compustat database and the University of Chicago's Center for Research in Securities Prices database to determine which companies were public companies).

202

Id.

ER24JY13.016

During this period, pooled investment funds conducted approximately 24% of the total number of Regulation D offerings and raised approximately 81% of the total amount of capital raised in Regulation D offerings.

203

More than 75% of pooled investment funds declined to disclose their net asset value range.

203

Id.

204

Id.

ER24JY13.017

Between 2009 and 2012, approximately 66% of Regulation D offerings were of equity securities, and almost two-thirds of these were by issuers other than pooled investment funds.

204

Non-U.S. issuers accounted for

approximately 19% of the amount of capital raised in Regulation D offerings, indicating that the U.S. market is a significant source of capital for these issuers.

205

Id.

Unlike in Regulation D offerings, issuers conducting Rule 144A offerings are not required to disclose information about their offerings to the Commission, which limits our ability to measure the size of the Rule 144A market. Based on transaction information collected by third-party data providers,

206

we can broadly characterize the Rule 144A market as being divided between ABS and non-ABS offerings. These sources indicate that, over the four-year period from 2009 to 2012, there were 3,510 non-ABS Rule 144A offerings by 1,965 unique issuers. During this period, the average non-ABS offering size was approximately $526 million, while the median non-ABS offering size was $350 million. These offering sizes are significantly larger than the average and median amounts of Regulation D offerings, as discussed above, indicating that the Rule 144A market, as compared to the Regulation D market, is characterized by much larger issues (which we presume correlate to larger issuers, as well) and, based on the number of Rule 144A offerings, far fewer issuers. Another significant difference from Regulation D offerings is the type of security offered. During this period, over 99% of the non-ABS offerings in the Rule 144A market were debt offerings,

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compared to 13% of Regulation D offerings.

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These statistics are based on a review of data from Securities Data Corporation's New Issues database (Thomson Financial) and Sagient Research System's Placement Tracker database.

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This statistic is based on a review of data from Securities Data Corporation's New Issues database (Thomson Financial) and Sagient Research System's Placement Tracker database.

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See

Ivanov/Bauguess Study.

b. Investors

We have relatively little information on the types and number of investors in Rule 506 offerings. Form D currently requires issuers in Rule 506 offerings to provide information about the total number of investors who have already invested in the offering and the number of persons who do not qualify as accredited investors.

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In 2012, approximately 153,000 investors participated in offerings by operating companies, while approximately 81,000 investors invested in offerings by pooled investment funds.

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Because some investors participate in multiple offerings, these numbers likely overestimate the actual number of unique investors in these reported offerings. In offerings under Rule 506(b), both accredited investors and up to 35 non-accredited investors who meet certain sophistication requirements are eligible to purchase securities. In offerings under new Rule 506(c), only accredited investors will be eligible to purchase securities.

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See

Item 14 of Form D. Form D does not require any other information on the types of investors, such as whether they are natural persons or legal entities.

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These numbers are based on initial Form D filings submitted in 2012.

Information collected from Form D filings indicates that most Rule 506 offerings do not involve broad investor participation. More than two-thirds of these offerings have ten or fewer investors, while less than 5% of these offerings have more than 30 investors. Although Rule 506 currently allows for the participation of non-accredited investors who meet certain sophistication requirements, such non-accredited investors reportedly purchased securities in only 11% of the Rule 506 offerings conducted between 2009 and 2012.

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Only 8% of the offerings by pooled investment funds included non-accredited investors, compared to 12% of the offerings by other issuers.

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See

Ivanov/Bauguess Study.

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Id.

ER24JY13.018

As stated above, between 2009 and 2012, the size of the median Regulation D offering, based on the information in Form D filings, was approximately $1.5 million. The presence of so many relatively small offerings suggests that a sizable number of current investors in Rule 506 offerings are natural persons or legal entities in which all equity owners are natural persons. This is because smaller offerings may not provide sufficient scale for institutional investors to earn a sizable return. Institutional investors typically have a larger investible capital base and more formal screening procedures compared to investors who are natural persons, and the associated costs of identifying potential investments and monitoring their investment portfolio lead them to make larger investments than natural persons.

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As for whether natural persons investing in these offerings are accredited investors or non-accredited investors, almost 90% of the Regulation D offerings conducted between 2009 and 2012 did not involve any non-accredited investors.

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See, e.g.,

George Fenn, Nellie Liang and Stephen Prowes, The Economics of Private Equity Markets (1998); Steven Kaplan and Per Strömberg,

Leveraged Buyouts and Private Equity,

23 Journal of Economic Perspectives 121 (2009).

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See

Ivanov/Bauguess Study.

While we do not know what percentage of investors in Rule 506 offerings are natural persons, the vast majority of Regulation D offerings are conducted without the use of an intermediary,

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suggesting that many of the investors in Regulation D offerings likely have a pre-existing relationship with the issuer or its management because these offerings would not have been conducted using general solicitation. This category of investors is likely to be much smaller than the total number of eligible investors for Rule 506(c) offerings, which is potentially very large. We estimate that at least 8.7 million U.S. households, or 7.4% of all U.S. households, qualified as accredited investors in 2010, based on the net worth standard in the definition of “accredited investor” (Figure 6).

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An analysis of all Form D filings submitted between 2009 to 2012 shows that approximately 11% of all new offerings reported sales commissions of greater than zero because the issuers used intermediaries.

See

Ivanov/Bauguess Study. We assume that the lack of a commissi

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