Crowdfunding

Federal RegisterNov 5, 2013

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SECURITIES AND EXCHANGE COMMISSION

17 CFR Parts 200, 227, 232, 239, 240 and 249

[Release Nos. 33-9470; 34-70741; File No. S7-09-13]

RIN 3235-AL37

Crowdfunding

AGENCY:

Securities and Exchange Commission.

ACTION:

Proposed rules.

SUMMARY:

The Securities and Exchange Commission is proposing for comment new Regulation Crowdfunding under the Securities Act of 1933 and the Securities Exchange Act of 1934 to implement the requirements of Title III of the Jumpstart Our Business Startups Act. Regulation Crowdfunding would prescribe rules governing the offer and sale of securities under new Section 4(a)(6) of the Securities Act of 1933. The proposal also would provide a framework for the regulation of registered funding portals and brokers that issuers are required to use as intermediaries in the offer and sale of securities in reliance on Section 4(a)(6). In addition, the proposal would exempt securities sold pursuant to Section 4(a)(6) from the registration requirements of Section 12(g) of the Securities Exchange Act of 1934.

DATES:

Comments should be received on or before February 3, 2014.

ADDRESSES:

Comments may be submitted by any of the following methods:

Electronic Comments

• Use the Commission's Internet comment form (

http://www.sec.gov/rules/proposed.shtml

);

• Send an email to

rule-comments@sec.gov

. Please include File Number S7-09-13 on the subject line; or

• Use the Federal eRulemaking Portal (

http://www.regulations.gov

). Follow the instructions for submitting comments.

Paper Comments

• Send paper comments in triplicate to Elizabeth M. Murphy, Secretary, Securities and Exchange Commission, 100 F Street NE., Washington, DC 20549-1090.

All submissions should refer to File Number S7-09-13. This file number should be included on the subject line if email is used. To help us process and review your comments more efficiently, please use only one method. The Commission will post all comments on the Commission's Internet Web site (

http://sec.gov/rules/proposed.shtml

). Comments also are available for Web site viewing and printing in the Commission's Public Reference Room, 100 F Street NE., Washington, DC 20549, on official business days between the hours of 10:00 a.m. and 3:00 p.m. All comments received will be posted without change; we do not edit personal identifying information from submissions. You should submit only information that you would like to make publicly available.

FOR FURTHER INFORMATION CONTACT:

With regard to requirements for issuers, Sebastian Gomez Abero or Jessica Dickerson, Division of Corporation Finance, at (202) 551-3500, and with regard to requirements for intermediaries, Joseph Furey, Joanne Rutkowski, Leila Bham, Timothy White or Carla Carriveau, Division of Trading and Markets, at (202) 551-5550, Securities and Exchange Commission, 100 F Street NE., Washington, DC 20549.

SUPPLEMENTARY INFORMATION:

Table of Contents

I. Introduction and Background

A. Overview of Crowdfunding

B. Title III of the JOBS Act

C. Approach to Proposed Rules

II. Discussion of Proposed Regulation Crowdfunding

A. Crowdfunding Exemption

1. Limitation on Capital Raised

2. Investment Limitation

3. Transaction Conducted Through an Intermediary

4. Exclusion of Certain Issuers From Eligibility Under Section 4(a)(6)

B. Requirements on Issuers

1. Disclosure Requirements

2. Ongoing Reporting Requirements

3. Form C and Filing Requirements

4. Prohibition on Advertising Terms of the Offering

5. Compensation of Persons Promoting the Offering

6. Other Issuer Requirements

C. Requirements on Intermediaries

1. Brokers and Funding Portals

2. Requirements and Prohibitions

3. Measures To Reduce Risk of Fraud

4. Account Opening

5. Requirements With Respect to Transactions

6. Completion of Offerings, Cancellations and Reconfirmations

7. Payments to Third Parties

D. Additional Requirements on Funding Portals

1. Registration Requirement

2. Exemption From Broker-Dealer Registration

3. Safe Harbor for Certain Activities

4. Compliance

5. Records To Be Created and Maintained by Funding Portals

E. Miscellaneous Provisions

1. Insignificant Deviations From Regulation Crowdfunding

2. Restrictions on Resales

3. Information Available to States

4. Exemption From Section 12(g)

5. Scope of Statutory Liability

6. Disqualification

F. General Request for Comment

III. Economic Analysis

A. Economic Baseline

1. Existing Funding Sources Available to Startups and Small Businesses

2. Current Sources of Funding for Startups and Small Businesses That Could Be Substitutes or Complements to Crowdfunding

3. Survival Rates for Startups and Small Businesses

4. Market Participants

B. Analysis of Proposed Rules

1. Broad Economic Considerations

2. Crowdfunding Exemption

3. Issuer Requirements

4. Intermediary Requirements

5. Additional Funding Portal Requirements

6. Insignificant Deviations

7. Relationship With State Law

8. Exemption From Section 12(g)

9. Disqualification

C. Request for Comment

IV. Paperwork Reduction Act

A. Background

B. Estimate of Issuers and Intermediaries

C. Estimate of Burdens

D. Collections of Information Are Mandatory

E. Confidentiality

F. Retention Period of Recordkeeping Requirements

G. Request for Comment

V. Small Business Regulatory Enforcement Fairness Act

VI. Initial Regulatory Flexibility Act Analysis

A. Reasons for the Proposed Actions

B. Objectives

C. Small Entities Subject to the Proposed Rules

D. Projected Reporting, Recordkeeping and Other Compliance Requirements

E. Duplicative, Overlapping or Conflicting Federal Rules

F. Significant Alternatives

1. Issuers

2. Intermediaries

G. Request for Comment

VII. Statutory Authority and Text of Proposed Regulation

Exhibit A

I. Introduction and Background

A. Overview of Crowdfunding

Crowdfunding is a new and evolving method to raise money using the Internet. Crowdfunding serves as an alternative source of capital to support a wide range of ideas and ventures. An entity or individual raising funds through crowdfunding typically seeks small individual contributions from a large number of people.

crowdfunding campaign generally has a specified target amount for funds to be raised, or goal, and an identified use of those funds. Individuals interested in the crowdfunding campaign—members of the “crowd”—may share information about the project, cause, idea or business with each other and use the information to decide whether or not to fund the campaign based on the collective “wisdom of the crowd.”

Crowdfunding has been used to fund, for example, artistic endeavors, such as films and music recordings, where contributions or donations are rewarded with a token of value related to the project (

e.g.,

a person contributing to a film's production budget is rewarded with tickets to view the film and is identified in the film's credits) or where contributions reflect the pre-purchase of a finished product (

e.g.,

a music album). A number of entities operate Web sites that facilitate crowdfunding in its current form,

with some Web sites specializing in certain industries, such as computer-based gaming, music and the arts, and other Web sites focusing on particular types of entrepreneurs.

See, e.g.,

C. Steven Bradford,

Crowdfunding and the Federal Securities Laws,

2012 Colum. Bus. L. Rev. 1, 10 (2012) (“Bradford”). Crowdfunding has some similarities to “crowdsourcing,” which is the concept that “the power of the many can be leveraged to accomplish feats that were once the

province of the specialized few.”

See

Jeff Howe,

The Rise of Crowdsourcing,

Wired (Jun. 2006) (“Howe”). Crowdsourcing is an approach for problem solving that employs the “wisdom of crowds,” where “the very success of a solution is dependent on its emergence from a large body of solvers.” Daren C. Brabham,

Crowdsourcing as a Model for Problem Solving,

14 Convergence 75, 79-80 (2008) (“Brabham”).

See

Stephenson Letter; Richard Waters,

Startups seek the `wisdom of crowds,'

Financial Times, Apr. 3, 2012,

available at http://www.ft.com/intl/cms/s/0/c1f1695c-7da8-11e1-9adc-00144feab49a.html#axzz2b7QxIH5L

(“[T]he backers of [crowdfunding] argue that the hard work of making investment decisions—filtering out the best investments and limiting fraud—can be solved by tapping the `wisdom of crowds' over the internet.”).

Examples of current crowdfunding Web sites include:

www.indiegogo.com

www.kickstarter.com

www.kiva.com

and

www.rockethub.com

See

Bradford, note 1 at 12-13 (citing “Unbound: Books Are Now in Your Hands” (

http://unbound.co.uk/

), specializing in book publishing, “My Major Company” (

http://www.mymajorcompany.com/

), specializing in music, “Spot.us: Community-funded Reporting” (

http://spot.us/

), specializing in journalism, and “Heifer International” (

http://www.heifer.org/

) specializing in agriculture and ranching).

See also

Liz Gannes,

Crowdfunding for a Cause: Nonprofits Can Now Hold Fundraisers on Crowdtilt,

AllThingsD (Nov. 21, 2012),

available at http://allthingsd.com/20121121/crowdfunding-for-a-cause-non-profits-can-now-hold-fundraisers-on-crowdtilt/

(describing the use of crowdfunding for charitable purposes).

The Jumpstart Our Business Startups Act (the “JOBS Act”),

enacted on April 5, 2012, establishes the foundation for a regulatory structure for startups and small businesses to raise capital through securities offerings using the Internet through crowdfunding.

The crowdfunding provisions of the JOBS Act were designed to help provide startups and small businesses with capital by making relatively low dollar offerings of securities less costly.

They also permit Internet-based platforms to facilitate the offer and sale of securities without having to register with the Commission as brokers.

Public Law 112-106, 126 Stat. 306 (2012).

To facilitate public input on JOBS Act initiatives, the Commission solicited comment on each title of the JOBS Act through its Web site at

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

. The public comments we received on Title III are available on our Web site at

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

. Exhibit A of the release includes a citation key to the comment letters the Commission received on Title III.

See, e.g.,

158 Cong. Rec. S1781 (daily ed. Mar. 19, 2012) (statement of Sen. Carl Levin) (“Right now, the rules generally prohibit a company from raising very small amounts from ordinary investors without significant costs.”); 157 Cong. Rec. S8458-02 (daily ed. Dec. 8, 2011) (statement of Sen. Jeff Merkley) (“Low-dollar investments from ordinary Americans may help fill the void, providing a new avenue of funding to the small businesses that are the engine of job creation. The CROWDFUND Act would provide startup companies and other small businesses with a new way to raise capital from ordinary investors in a more transparent and regulated marketplace.”); 157 Cong. Rec. H7295-01 (daily ed. Nov. 3, 2011) (statement of Rep. Patrick McHenry) (“[H]igh net worth individuals can invest in businesses before the average family can. And that small business is limited on the amount of equity stakes they can provide investors and limited in the number of investors they can get. So, clearly, something has to be done to open these capital markets to the average investor[.]”).

In the United States, crowdfunding in its current form generally has not involved the offer of a share in any financial returns or profits that the fundraiser may expect to generate from business activities financed through crowdfunding.

Such a profit or revenue-sharing model—sometimes referred to as the “equity model” of crowdfunding

—could trigger the application of the federal securities laws because it likely would involve the offer and sale of a security.

Under the Securities Act of 1933 (“Securities Act”), the offer and sale of securities is required to be registered unless an exemption is available. At least one commenter has stated that registered offerings are not feasible for raising smaller amounts of capital, as is done in a typical crowdfunding transaction, because of the costs of conducting a registered offering and the resulting ongoing reporting obligations under the Securities Exchange Act of 1934 (“Exchange Act”) that may arise as a result of the offering.

Limitations under existing regulations, including restrictions on general solicitation and general advertising and purchaser qualification requirements, have made private placement exemptions generally unavailable for crowdfunding transactions, which are intended to be made to a large number of potential investors and not limited to investors that meet specific qualifications.

See

Bradford, note 1; Jenna Wortham,

Start-Ups Look to the Crowd,

N.Y. Times at B1 (Apr. 30, 2012); Joan MacLeod Heminway and Shelden Ryan Hoffman,

Proceed At Your Peril: Crowdfunding and the Securities Act of 1933,

78 Tenn. L. Rev. 879 (2011); Thomas Lee Hazen,

Crowdfunding or Fraudfunding? Social Networks and the Securities Laws—Why the Specially Tailored Exemption Must be Conditioned on Meaningful Disclosure,

90 N.C.L. Rev. 1735 (2012) (“Hazen”); C. Steven Bradford,

The New Federal Crowdfunding Exemption: Promise Unfulfilled,

40 Sec. Reg. L.J. 1 (2012).

See

Bradford, note 1 at 33.

See

Securities Act Section 2(a)(1) and Exchange Act Section 3(a)(10) (setting forth the definition of a “security” under the Securities Act and the Exchange Act, respectively).

See, e.g., Reves

Ernst & Young,

494 U.S. 56 (1990) (outlining the requirements for a note to be considered a security);

SEC

W.J. Howey Co.,

328 U.S. 293 (1946) (setting forth the definition of an investment contract).

See

Bradford, note 1 at 42.

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

Release No. 33-9415 (July 10, 2013) [78 FR 44771 (July 24, 2013)] (“

General Solicitation Adopting Release

”) (adopting rules to implement Title II of the JOBS Act). Title II of the JOBS Act directed the Commission to amend Rule 506 of Regulation D to permit general solicitation or general advertising in offerings made under Rule 506, provided that all purchasers of the securities are accredited investors. Accredited investors include natural persons who meet certain income or net worth thresholds. Although this rule facilitates the type of broad solicitation emblematic of crowdfunding, crowdfunding is premised on permitting sales of securities to any interested person, not just to investors who meet specific qualifications, such as accredited investors.

Moreover, a third party that operates a Web site to effect the purchase and sale of securities for the account of others generally would, under existing regulations, be required to register with the Commission as a broker-dealer and comply with the laws and regulations applicable to broker-dealers.

A person that operates such a Web site only for the purchase of securities of startups and small businesses, however, may find it impractical in view of the limited nature of that person's activities and business to register as a broker-dealer and operate under the full set of regulatory obligations that apply to broker-dealers.

Exchange Act Section 15(a)(1) generally makes it unlawful for a broker or dealer to effect any transactions in, or induce the purchase or sale of, any security unless that broker or dealer is registered with the Commission pursuant to Exchange Act Section 15(b). 15 U.S.C. 78

(a).

See

discussion in Section II.D.2 below. Because brokers and dealers both register as broker-dealers (

i.e.,

there is no separate “broker” or “dealer” registration under Exchange Act Section 15(b)), we also use the term “broker-dealer” in this release.

B. Title III of the JOBS Act

Title III of the JOBS Act (“Title III”) added new Securities Act Section

4(a)(6),

which provides an exemption from the registration requirements of Securities Act Section 5 for certain crowdfunding transactions. To qualify for the exemption under Section 4(a)(6), crowdfunding transactions by an issuer (including all entities controlled by or under common control with the issuer) must meet specified requirements, including the following:

Title III amended Securities Act Section 4 to add Section 4(6); however, Title II of the JOBS Act also amended Securities Act Section 4 and inserted subsections (a) and (b). The U.S. Code implemented the amendment by adding paragraph (6) at the end of subsection (a).

• The amount raised must not exceed $1 million in a 12-month period (this amount is to be adjusted for inflation at least every five years);

• individual investments in a 12-month period are limited to:

○ the greater of $2,000 or 5 percent of annual income or net worth, if annual income or net worth of the investor is less than $100,000; and

○ 10 percent of annual income or net worth (not to exceed an amount sold of $100,000), if annual income or net worth of the investor is $100,000 or more (these amounts are to be adjusted for inflation at least every five years); and

• transactions must be conducted through an intermediary that either is registered as a broker or is registered as a new type of entity called a “funding portal.”

In addition, Title III:

• adds Securities Act Section 4A, which requires, among other things, that issuers and intermediaries that facilitate transactions between issuers and investors in reliance on Section 4(a)(6) provide certain information to investors and potential investors, take certain other actions and provide notices and other information to the Commission;

• adds Exchange Act Section 3(h), which requires the Commission to adopt rules to exempt, either conditionally or unconditionally, “funding portals” from having to register as brokers or dealers pursuant to Exchange Act Section 15(a)(1);

• includes disqualification provisions under which an issuer would not be able to avail itself of the Section 4(a)(6) exemption if the issuer or other related parties, including an intermediary, was subject to a disqualifying event; and

• adds Exchange Act Section 12(g)(6), which requires the Commission to adopt rules to exempt from the registration requirements of Section 12(g), either conditionally or unconditionally, securities acquired pursuant to an offering made in reliance on Section 4(a)(6).

In this release, we are proposing new rules and forms to implement Securities Act Sections 4(a)(6) and 4A and Exchange Act Sections 3(h) and 12(g)(6). The proposed rules are described in detail below. Until we adopt rules relating to crowdfunding transactions and such rules become effective, issuers and intermediaries may not rely on the exemption provided under Section 4(a)(6).

C. Approach to Proposed Rules

We understand that Title III was designed to help alleviate the funding gap and accompanying regulatory concerns faced by startups and small businesses in connection with raising capital in relatively low dollar amounts.

The proposed rules are intended to align crowdfunding transactions under Section 4(a)(6) with the central tenets of the original concept of crowdfunding, in which the public—or the crowd—is presented with an opportunity to invest in an idea or business and individuals decide whether or not to invest after sharing information about the idea or business with, and learning from, other members of the crowd.

In this role, members of the crowd are not only sharing information about the idea or business, but also are expected to help evaluate the idea or business before deciding whether or not to invest.

See

note 7.

See

notes 1 and 2. As discussed in Section II.C.5.c below, the proposed rules would require a person to open an account with an intermediary before posting comments on the intermediary's platform. However, as discussed in Section II.C.5.a below, a person would not need to open an account with the intermediary in order to view the issuer's disclosure materials.

See

Hazen, note 8.

At the same time, Congress provided important investor protections for crowdfunding transactions under Section 4(a)(6), including individual investment limits, required disclosures by issuers and the use of intermediaries. The proposed rules would require that all crowdfunding transactions under Section 4(a)(6) be conducted through a registered intermediary on an Internet Web site or other similar electronic medium to help ensure that the offering is accessible to the public and that members of the crowd can share information and opinions. Registered intermediaries are necessary to bring the issuer and potential investors together and to provide safeguards to potential investors.

The proposed rules also would require that intermediaries provide communication channels to facilitate the sharing of information that will allow the crowd to decide whether or not to fund the idea or business.

The proposed rules further provide intermediaries a means by which to facilitate the offer and sale of securities without registering as brokers. We are mindful of the timing and presentation of information required to be disclosed to investors pursuant to the terms of the statute. The proposed rules would require that this information be provided to investors at various points in time in connection with an offering and through various electronic means, such as through filings with the Commission and disclosures provided on the intermediary's platform. We believe this approach would be most practical and useful to investors in the crowdfunding context.

See

158 Cong. Rec. S1829 (daily ed. Mar. 20, 2012) (statement of Sen. Jeff Merkley) (“The Web sites are subject to oversight by the SEC and security regulators of their principal States . . . This is a key predatory protection to prevent pump-and-dump schemes.”).

See

Mollick Letter (stating that allowing ongoing discussions between potential investors, community members and issuers is a vital aspect of avoiding fraud and improving proposed projects).

We understand that these proposed rules, if adopted, could significantly affect the viability of crowdfunding as a capital-raising method for startups and small businesses. Rules that are unduly burdensome could discourage participation in crowdfunding. Rules that are too permissive, however, may increase the risks for individual investors, thereby undermining the facilitation of capital raising for startups and small businesses.

We have directed the Commission staff, accordingly, to develop a comprehensive work plan to review and monitor the use of the crowdfunding

exemption under Section 4(a)(6) and the rules the Commission adopts to implement crowdfunding. Upon adoption of final rules, the Commission staff will monitor the market for offerings made in reliance on Section 4(a)(6), focusing in particular on the types of issuers using the exemption, the level of compliance with Regulation Crowdfunding by issuers and intermediaries and whether the exemption is promoting new capital formation while at the same time providing key protections for investors. These efforts will assist the Commission in evaluating the development of market practices in offerings made in reliance on Section 4(a)(6). These efforts also will facilitate future Commission consideration of any potential amendments to the rules implementing crowdfunding that would be consistent with the Commission's mission of protecting investors, maintaining fair, orderly and efficient markets and facilitating capital formation. We urge commenters, as they review the proposed rules, to consider and address the role that our oversight, enforcement and regulation should play once a crowdfunding market under Section 4(a)(6) begins to develop.

One press article, for example, described non-securities-based crowdfunding campaigns that successfully raised funds but have had problems manufacturing and delivering the “perks” or products that were promised in exchange for contributions.

See

Matt Krantz,

Crowd-funding dark side: Sometimes investments go down drain,

USA Today at B1 (Aug. 15, 2012). Investor confidence in crowdfunding could be eroded if such delays occur with regularity in securities-based crowdfunding and compounded by any prevalence of fraud.

See, e.g., Laws Provide Con Artists with Personal Economic Growth Plan,

North American Securities Administrators Association (Aug. 21, 2012) (identifying crowdfunding and Internet-based offers of securities as a threat to investors),

available at

http://www.nasaa.org/14679/laws-provide-con-artists-with-personal-economic-growth-plan/

See also

Adrianne Jeffries,

This is What a Kickstarter Scam Looks Like,

BetaBeat (Apr. 30, 2012),

available at

http://betabeat.com/2012/04/this-is-what-a-kickstarter-scam-looks-like/

But see

Olga Khazan,

Kickstarter spies a sunglass start-up,

Washington Post at A14 (May 28, 2012) (discussing a successful sunglasses company that used crowdfunding for startup funds);

Crowdfunding: Invested Central raises $120,000

, Washington Post at A10 (Jul. 23, 2012) (mentioning a company that was able to raise capital through crowdfunding when it could not otherwise secure traditional financing for an expansion of its business).

II. Discussion of Proposed Regulation Crowdfunding

A. Crowdfunding Exemption

New Securities Act Section 4(a)(6) provides an exemption from the registration requirements of Securities Act Section 5 for certain crowdfunding transactions. To qualify for the exemption under Section 4(a)(6), crowdfunding transactions by an issuer must meet specified requirements, including requirements with regard to the dollar amount of the securities that may be sold by an issuer and the dollar amount that may be invested by an individual in a 12-month period. The crowdfunding transaction also must be conducted through a registered intermediary that complies with specified requirements.

Title III also provides limitations on who may rely on the exemption and establishes a liability scheme for improper use of the exemption. As discussed below, the rules we are proposing are designed to aid issuers and investors in determining the applicable limitations on capital raised and individual investments.

See

Section II.C below for a discussion of the requirements on intermediaries.

See also

Section II.D below for a discussion of the additional requirements on funding portals.

1. Limitation on Capital Raised

The exemption from registration provided by Section 4(a)(6) is available to a U.S. issuer provided that “the aggregate amount sold to all investors by the issuer, including any amount sold in reliance on the exemption provided under [Section 4(a)(6)] during the 12-month period preceding the date of such transaction, is not more than $1,000,000.”

Under Section 4A(h), the Commission is required to adjust the dollar amounts in Section 4(a)(6) “not less frequently than once every five years, by notice published in the

Federal Register

, to reflect any change in the Consumer Price Index for All Urban Consumers published by the Bureau of Labor Statistics.”

Securities Act Section 4(a)(6)(A).

Several commenters indicated that the $1 million maximum aggregate amount is too low.

Several commenters requested that the Commission state that the $1 million aggregate limit pertains only to offerings under Section 4(a)(6) and does not include all exempt offerings.

Two commenters suggested, however, that the calculation of the $1 million aggregate limit should include all issuer transactions that were exempt under Securities Act Section 4(a) during the preceding 12-month period.

Another commenter requested clarification that the limitations and requirements of the offering exemption under Section 4(a)(6) would not affect other methods of raising capital that do not involve the sale of securities, such as contributions from friends and family, donation crowdfunding, gifts, grants or loans.

Several commenters had concerns about the possible integration

of an offering under Section 4(a)(6) with other exempt offerings and suggested that the Commission should allow for simultaneous or sequential offerings under Regulation D

and Section 4(a)(6) without integration.

See

High Tide Letter; TechnologyCrowdfund Letter 3 (stating that a minimum of $5 million to $10 million is necessary to start any business other than a software business); EnVironmental Letter (stating that the upper limit should be increased to $5 million or higher); VTNGLOBAL Letter (stating that Rule 506 of Regulation D permits an unlimited capital raise from accredited investors and that the same should apply to crowdfunding).

See

NSBA Letter (stating that the $1 million limitation should pertain only to offerings made in reliance on Section 4(a)(6)); ABA Letter 1; NCA Letter.

See

CommunityLeader Letter; Ohio Division of Securities Letter.

See

Crowdfunding Offerings Ltd. Letter 6.

The integration doctrine seeks to prevent an issuer from improperly avoiding registration by artificially dividing a single offering into multiple offerings such that Securities Act exemptions would apply to multiple offerings that would not be available for the combined offering.

17 CFR 230.501 through 230.508.

See

ABA Letter 1; Lingam Letter 2 (stating that offerings under Regulation D and Section 4(a)(6) should not be integrated if: (1) No general solicitation takes place; (2) the Section 4(a)(6) offering closes prior to any general solicitation related to a Regulation D offering; or (3) the Regulation D and the Section 4(a)(6) offerings occur simultaneously and the offerings have the same economic terms, but the size of the Regulation D offering is greater than the size of the Section 4(a)(6) offering); CFIRA Letter 8 (stating that CFIRA's members have opposing views on whether the integration doctrine should be applied to crowdfunded offerings); Liles Letter 1; CFIRA Letter 2; CommunityLeader Letter.

See also

Final Report of the 2012 SEC Government-Business Forum on Small Business Capital Formation (April 2013) (“2012 SEC Government-Business Forum”),

available at

http://www.sec.gov/info/smallbus/sbforumreps.htm

(recommending that we consider permitting concurrent offerings to be made to accredited investors in excess of the $1 million limit).

Section 4(a)(6) specifically provides for a maximum aggregate amount of $1 million sold in reliance on the exemption in any 12-month period. The only reference in the statute to changing that amount is the requirement that the Commission update the amount not less frequently than every five years based on the Consumer Price Index. Additionally, statements in the Congressional Record indicate that Congress believed that $1 million was a substantial amount for a small business.

We do not believe that Congress intended for us to modify the maximum aggregate amount permitted to be sold under the exemption when promulgating rules to implement the statute.

Therefore, we are not proposing to increase the limitation on the aggregate amount sold.

158 Cong. Rec. S1829 (daily ed. Mar. 20, 2012) (statement of Sen. Jeff Merkley) (“[T]he amendment allows existing small businesses and startup companies to raise up to $1 million per year. That is a substantial amount for a small business.”).

Cf.

Securities Act Section 4A(b)(1)(D)(iii) (giving the Commission discretion to increase the aggregate target offering amount that requires audited financial statements).

Title III provides that the $1 million limitation applies to the “aggregate amount sold to all investors by the issuer, including any amount sold in reliance on the exemption provided under [Section 4(a)(6)].” Section 4A(g), however, provides that “[n]othing in the exemption shall be construed as preventing an issuer from raising capital through means other than [S]ection 4[(a)](6).” These two provisions create statutory ambiguity because the first provision could be read to provide for the aggregation of amounts raised in all exempt transactions, even those that do not involve crowdfunding, while the second provision could be read to provide that nothing in the Section

4(a)(6) exemption should limit an issuer's capital raising through other methods. We believe that the overall intent of providing the exemption under Section 4(a)(6) was to provide an additional mechanism for capital raising for startup and small businesses and not to affect the amount an issuer could raise outside of that exemption. Thus, we believe the capital raised in reliance on the exemption provided by Section 4(a)(6) should be counted toward the limitation. Capital raised through other means should not be counted in determining the aggregate amount sold in reliance on Section 4(a)(6). The opposite approach—requiring aggregation of amounts raised in any exempt transaction—would be inconsistent with the goal of alleviating the funding gap faced by startups and small businesses because it would place a cap on the amount of capital startups and small business could raise. An issuer that already sold $1 million in reliance on the exemption provided under Section 4(a)(6), for example, would be prevented from raising capital through other exempt methods and, conversely, an issuer that sold $1 million through other exempt methods would be prevented from raising capital under Section 4(a)(6).

In determining the amount that may be available to be offered and sold in reliance on Section 4(a)(6) in light of the $1 million aggregate amount limitation, an issuer would include amounts sold by the issuer (including amounts sold by entities controlled by the issuer or under common control with the issuer, as well as any amounts sold by any predecessor of the issuer) in reliance on Section 4(a)(6) during the preceding 12-month period. The issuer would aggregate any amounts previously sold with the amount the issuer intends to raise in reliance on the exemption, and under the proposed rules, the combined amount could not exceed $1 million. An issuer would not include amounts sold in other exempt offerings during the preceding 12-month period. For example, if an issuer sold $800,000 pursuant to the exemption provided in Regulation D during the preceding 12 months, this amount would not be aggregated in an issuer's calculation to determine whether it had reached the maximum amount for purposes of Section 4(a)(6).

In addition, in determining the amount sold in reliance on Section 4(a)(6) during the preceding 12-month period, an issuer would not need to consider amounts received through methods that do not involve the offer or sale of securities (such as donations it received from a separate non-securities-based crowdfunding effort, contributions from friends and family, gifts, grants or loans).

In contrast, if an issuer sold $800,000 in a crowdfunding transaction pursuant to Section 4(a)(6) during the preceding 12 months, the issuer would be required to count that amount toward the $1 million aggregate amount and, thus, could only offer and sell $200,000 more in reliance on Section 4(a)(6).

Further, in light of Section 4A(g) and the reasons discussed above, we believe that an offering made in reliance on Section 4(a)(6) should not be integrated with another exempt offering made by the issuer, provided that each offering complies with the requirements of the applicable exemption that is being relied upon for the particular offering. An issuer could complete an offering made in reliance on Section 4(a)(6) that occurs simultaneously with, or is preceded or followed by, another exempt offering. An issuer conducting a concurrent exempt offering for which general solicitation is not permitted, however, would need to be satisfied that purchasers in that offering were not solicited by means of the offering made in reliance on Section 4(a)(6).

Similarly, any concurrent exempt offering for which general solicitation is permitted could not include an advertisement of the terms of an offering made in reliance on Section 4(a)(6) that would not be permitted under Section 4(a)(6) and the proposed rules.

For example, if the prospective investor in a concurrent private placement for which general solicitation is not permitted became interested in that private placement through some means other than the offering made in reliance on Section 4(a)(6), such as through a substantive, pre-existing relationship with the issuer or direct contact by the issuer or its agents outside of the offering made in reliance on Section 4(a)(6), then the fact that the offering made in reliance on Section 4(a)(6) was posted publicly on the intermediary's platform would not affect the availability of the other private placement exemption. On the other hand, if an investor first discovers the issuer through a solicitation in a Section 4(a)(6) offering, that investor would likely not be eligible to participate in a concurrent private placement in which general solicitation is not permitted.

See

proposed Rule 204 of Regulation Crowdfunding.

See also

discussion in Section II.B.4 below.

Under Section 4(a)(6), the amount of securities sold in reliance on Section 4(a)(6) by entities controlled by or under common control with the issuer must be aggregated with the amount to be sold by the issuer in the current offering to determine the aggregate amount sold in reliance on Section 4(a)(6) during the preceding 12-month period. The statute does not define the term “controlled by or under common control with” the issuer; however, the term “control” is defined in Securities Act Rule 405.

For purposes of determining whether an entity is “controlled by or under common control with” the issuer, an issuer would be required to consider whether it has “control” based on this definition.

See

17 CFR 230.405 (“The term control (including the terms controlling, controlled by and under common control with) means the possession, direct or indirect, of the power to direct or cause the direction of the management and policies of a person, whether through the ownership of voting securities, by contract, or otherwise.”). Exchange Act Rule 12b-2 similarly defines the term “control.”

See

17 CFR 240.12b-2.

See

proposed Instruction to paragraph (c) of proposed Rule 100 of Regulation Crowdfunding.

Under the proposed rules, the amount of securities sold in reliance on Section 4(a)(6) also would include securities sold by any predecessor of the issuer in reliance on Section 4(a)(6) during the preceding 12-month period.

We believe this approach is necessary to prevent an issuer from exceeding the $1 million limit by reorganizing the issuer into a new entity that would otherwise not be limited by previous sales made by its predecessor. For example, if an issuer reaches the $1 million limit under Section 4(a)(6), we do not believe the reorganization of the issuer into a new entity should permit the successor to make additional offers and sales in reliance on Section 4(a)(6) during the relevant 12-month period.

See

proposed Rule 100(c) of Regulation Crowdfunding (proposing to define issuer to include all entities controlled by or under common control with the issuer and any predecessor of the issuer).

Request for Comment

1. Should we propose that the $1 million limit be net of fees charged by the intermediary to host the offering on the intermediary's platform? Why or why not? If so, are there other fees that we should allow issuers to exclude when determining the amount to be raised and whether the issuer has reached the $1 million limit?

2. As described above, we believe that issuers should not have to consider the amounts raised in offerings made pursuant to other exemptions when determining the amount sold during the preceding 12-month period for purposes of the $1 million limit in Section 4(a)(6). Should we require that certain exempt offerings be included in the calculation of the $1 million limit? If so, which types of offerings and why? If not, why not? As noted above, at this time the Commission is not proposing to consider the amounts raised in non-securities-based crowdfunding efforts in calculating the $1 million limit in Section 4(a)(6). Should the Commission propose to require that amounts raised in non-securities-based crowdfunding

efforts be included in the calculation of the $1 million limit? Why or why not?

3. As described above, we believe that offerings made in reliance on Section 4(a)(6) should not necessarily be integrated with other exempt offerings if the conditions to the applicable exemptions are met. How would an alternative interpretation affect the utility of crowdfunding as a capital raising mechanism? Are there circumstances under which other exempt offers should be integrated with an offer made in reliance on Section 4(a)(6)? If so, what are those circumstances? Should we prohibit an issuer from concurrently offering securities in reliance on Section 4(a)(6) and another exemption? Why or why not? Should we prohibit an issuer from offering securities in reliance on Section 4(a)(6) within a specified period of time after or concurrently with a Rule 506(c) offering under Regulation D involving general solicitation? Why or why not? Should we prohibit an issuer from using general solicitation or general advertising under Rule 506(c) in a manner that is intended, or could reasonably be expected, to condition the market for a Section 4(a)(6) offering or generate referrals to a crowdfunding intermediary? Why or why not? Should issuers that began an offering under Section 4(a)(6) be permitted to convert the offering to a Rule 506(c) offering? Why or why not?

4. Under the proposed rules, whether an entity is controlled by or under common control with the issuer would be determined based on whether the issuer possesses, directly or indirectly, the power to direct or cause the direction of the management and policies of the entity, whether through the ownership of voting securities, by contract or otherwise. This standard is based on the definition of “control” in Securities Act Rule 405. Is this approach appropriate? Why or why not? Should we define control differently? If so, how?

5. Under the proposed rules, the definition of issuer would include any predecessor of the issuer. Is this approach appropriate? Why or why not? Should an issuer aggregate amounts sold by an affiliate of the issuer when determining the aggregate amount sold in reliance on Section 4(a)(6) during the preceding 12-month period? Why or why not? If so, how should we define affiliate?

2. Investment Limitation

Under Section 4(a)(6)(B), the aggregate amount sold to any investor by an issuer, including any amount sold in reliance on the exemption during the 12-month period preceding the date of such transaction, cannot exceed: “(i) The greater of $2,000 or 5 percent of the annual income or net worth of such investor, as applicable, if either the annual income or the net worth of the investor is less than $100,000; and (ii) 10 percent of the annual income or net worth of such investor, as applicable, not to exceed a maximum aggregate amount sold of $100,000, if either the annual income or net worth of the investor is equal to or more than $100,000.” Section 4A(h) further provides that these dollar amounts shall be adjusted by the Commission not less frequently than once every five years based on the Consumer Price Index. As discussed in more detail below, Section 4A(h) also provides that the income and net worth of a natural person who is investing in a crowdfunding transaction pursuant to Section 4(a)(6) shall be calculated in accordance with the Commission's rules regarding the calculation of income and net worth of an accredited investor.

The definition of the term “accredited investor” 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 501(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 Wall Street Reform and Consumer Protection Act, Public Law 111-203, 124 Stat. 1376, 1577 (July 21, 2010), (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)]. In addition, Section 413(b) of the Dodd-Frank Act specifically authorizes us to undertake a review of the definition of the term “accredited investor” as it applies to natural persons, it and requires us to undertake a review of the definition in its entirety every four years, beginning four years after enactment of the Dodd-Frank Act. Release No. 33-9416 (July 10, 2013) requests public comments on the definition of “accredited investor.”

Several commenters noted that Sections 4(a)(6)(B)(i) and (ii) technically subject some investors to two potential investment limits.

The language of the statute may be read to create potential conflicts or ambiguity between the two investment limits because paragraph (i) applies if “either” annual income or net worth is less than $100,000 and paragraph (ii) applies if “either” annual income or net worth is equal to or more than $100,000. Accordingly, in any situation in which annual income is less than $100,000 and net worth is equal to or more than $100,000 (or vice versa), the language of the statute may be read to cause both paragraphs to apply. Paragraph (i) also fixes the maximum annual investment by an investor at 5 percent of “the annual income or net worth of such investor, as applicable” and paragraph (ii) fixes the maximum annual investment by an investor at 10 percent of “the annual income or net worth of such investor, as applicable”, but neither paragraph (i) nor paragraph (ii) explicitly states when that percentage should be applied against the investor's annual income and when the percentage should be applied against the investor's net worth. Finally, paragraph (i) sets a floor for the investment limit of $2,000 per year and paragraph (ii) sets a ceiling for the investment limit of $100,000 per year, but the statutory language does not explicitly state whether the floor applies if the maximum is calculated under paragraph (ii) or whether the ceiling applies if the maximum is calculated under paragraph (i). Accordingly, discretion is required in interpreting and applying this provision of the statute.

See

RocketHub Letter 1 (stating that the Commission should clarify that the greater of income or net worth will be used to determine the investment limit); NASAA Letter (stating that the Commission should resolve the ambiguity by requiring the lesser of the two investment limits); Ohio Division of Securities Letter (stating that the Commission should apply the stricter investment limitation); ABA Letter 1; Friedman Letter.

We believe that the appropriate approach to the investment limit provision is to provide for an overall investment limit of $100,000, but within that overall limit, to provide for a “greater of” limitation based on annual income and net worth. Under the proposed rules, therefore, if

both

annual income

and

net worth are less than $100,000, then a limit of $2,000 or 5 percent of annual income or net worth, whichever is greater, would apply. If either annual income or net worth exceeds $100,000, then a limit of 10 percent of annual income or net worth, whichever is greater, but not to exceed $100,000, would apply. We believe that this clarification would give effect to the provision and would be consistent with Congressional intent in providing investment limitations; however, we request comment below on whether to calculate the investment limit based on

the lesser of annual income or net worth.

As required by Section 4A(h), the proposed rules would require a natural person's annual income and net worth to be calculated in accordance with the Commission's rules for determining accredited investor status.

Securities Act Rule 501 specifies the manner in which annual income and net worth are calculated for purposes of determining accredited investor status.

One commenter stated that Section 4(a)(6)(B) is unclear in regard to how to address the joint net worth of spouses.

The proposed rules would clarify that an investor's annual income and net worth may be calculated jointly with the income and net worth of the investor's spouse.

We believe that this approach is consistent with the rules for determining accredited investor status because the accredited investor definition contemplates both individual and joint income and net worth with a spouse as methods of calculating annual income and net worth.

See

proposed Instruction 1 to paragraph (a)(2) of proposed Rule 100 of Regulation Crowdfunding.

See also

note 9.

See

Securities Act Rule 501(a)(5) [17 CFR 230.501(a)(5)] (net worth) and Securities Act Rule 501(a)(6) [17 CFR 230.501(a)(6)] (income). Consistent with these rules, the calculation of a natural person's net worth for purposes of the investment limit would exclude the value of the primary residence of such person. A natural person's income for purposes of the investment limit calculation would be the lower of such person's income for each of the two most recent years as long as such person has a reasonable expectation of the same income level in the current year.

See

Friedman Letter.

See

proposed Instruction 2 to paragraph (a)(2) of proposed Rule 100 of Regulation Crowdfunding.

We also are proposing to allow an issuer to rely on efforts that an intermediary takes in order to determine that the aggregate amount of securities purchased by an investor will not cause the investor to exceed the investor limits,

provided that the issuer does not have knowledge that the investor had exceeded, or would exceed, the investor limits as a result of purchasing securities in the issuer's offering.

See

discussion in Section II.C.5.b.i below.

See

proposed Instruction 3 to paragraph (a)(2) of proposed Rule 100 of Regulation Crowdfunding.

In discussing the investment limitations, one commenter requested that the Commission distinguish between retail investors and institutional or accredited investors and allow institutional and accredited investors to invest in excess of the investment limitations included in the statute.

Another commenter asked that the Commission clarify whether non-U.S. citizens or non-U.S. residents are bound by the same investment limits.

Three commenters proposed that the Commission create a two-tier regulatory system based on different investment limits to reduce the regulatory burden for small, local offerings.

One of the commenters suggested that one of the tiers could consist of a “small local offering” in which investment limits would be up to $250 per investor.

The commenter asserted that smaller investments could be subject to significantly reduced regulation because a $250 investment is unlikely to pose significant risk to an investor. The second commenter suggested reducing the anticipated personal disclosure requirements for investors who invest less than $500 through an intermediary that is a community development financial institution.

See

CFIRA Letter 2.

See

TechnologyCrowdFund Letter 5.

See

ASBC Letter; City First Letter.

See also

Spinrad Letter 1 (supporting the two-tier approach described in the ASBC Letter).

See

ASBC Letter.

See

City First Letter.

The limitations in Section 4(a)(6)(B) apply to any investor seeking to participate in a crowdfunding transaction. We believe that Congress intended for investment opportunities through crowdfunding transactions relying on Section 4(a)(6) to be available to all types of investors and established the investment limitations accordingly.

The statute provides specific investment limits, and the only reference in the statute regarding changing those investment limits is the requirement that the Commission update the investment limits not less frequently than every five years based on the Consumer Price Index. Therefore, we do not believe it would be appropriate to alter those limits for any particular type of investor or, at this time, to create a different exemption based on different investment limits. Issuers can rely on other exemptions to offer and sell securities to accredited investors and institutional investors (and, in some cases, investors that do not meet the definition of accredited investor). As discussed above, concurrent offerings to these types of investors are possible if the conditions of the applicable exemption are met. Therefore, as proposed, the limitations would apply to all investors, including retail, institutional or accredited investors and both U.S. and non-U.S. citizens or residents.

See

158 Cong. Rec. S1689 (daily ed. Mar. 15, 2012) (statement of Sen. Mark Warner) (“There is now the ability to use the Internet as a way for small investors to get the same kind of deals that up to this point only select investors have gotten that have been customers of some of the best known investment banking firms, where we can now use the power of the Internet, through a term called crowdfunding.”).

Request for Comment

6. While we acknowledge that there is ambiguity in the statutory language and there is some comment regarding a contrary reading, we believe that the appropriate approach to the investment limitations in Section 4(a)(6)(B) is to provide for an overall investment limit of $100,000 and, within that limit, to provide for a “greater of” limitation based on an investor's annual income or net worth. In light of ambiguity in the statutory language, we are specifically asking for comment as to the question of whether we should instead require investors to calculate the investment limitation based on the investor's annual income or net worth at the five percent threshold of Section 4(a)(6)(B)(i) if either annual income or net worth is less than $100,000? Similarly, for those investors falling within the Section 4(a)(6)(B)(i) framework, should we require them to calculate the five percent investment limit based on the lower of annual income or net worth? Should we require the same for the calculation of the 10 percent investment limit within the Section 4(a)(6)(B)(ii) framework? If we were to pursue any of these calculations, would we unnecessarily impede capital formation?

7. The statute does not address how joint annual income or joint net worth should be treated for purposes of the investment limit calculation. The proposed rules clarify that annual income and net worth may be calculated jointly with the annual income and net worth of the investor's spouse. Is this approach appropriate? Should we distinguish between annual income and net worth and allow only one or the other to be calculated jointly for purposes of calculating the investment limit? Why or why not? Should the investment limit be calculated differently if it is based on the spouses' joint income, rather than each spouse's annual income? Why or why not?

8. We are proposing to permit an issuer to rely on the efforts that an intermediary takes in order to determine that the aggregate amount of securities purchased by an investor will not cause the investor to exceed the investor limits, provided that the issuer does not have knowledge that the investor had exceeded, or would exceed, the investor limits as a result of purchasing securities in the issuer's offering. Is this approach appropriate? Why or why not? Should an issuer be required to obtain a written representation from the investor that the investor has not and

will not exceed the limit by purchasing from the issuer? Why or why not?

9. Should institutional and accredited investors be subject to the investment limits, as proposed? Why or why not? Should we adopt rules providing for another crowdfunding exemption with a higher investment limit for institutional and accredited investors? If so, how high should the limit be? Are there categories of persons that should not be subject to the investment limits? If yes, please identify those categories of persons. If the offering amount for an offering made in reliance on Section 4(a)(6) is not aggregated with the offering amount for a concurrent offering made pursuant to another exemption, as proposed, is it necessary to exclude institutional and accredited investors from the investment limits since they would be able to invest pursuant to another exemption in excess of the investment limits in Section 4(a)(6)?

10. Should we adopt rules providing for another crowdfunding exemption with different investment limits (

e.g.,

an exemption with a $250 investment limit and fewer issuer requirements), as one commenter suggested,

or apply different requirements with respect to individual investments under a certain amount, such as $500, as another commenter suggested?

Why or why not? If so, should the requirements for issuers and intermediaries also change? What investment limits and requirements would be appropriate? Would adopting such an exemption be consistent with the purposes of Section 4(a)(6)?

See

ASBC Letter.

See

City First Letter.

11. Should we consider additional investment limits on transactions made in reliance on Section 4(a)(6) where the purchaser's annual income and net worth are both below a particular threshold? If so, what should such threshold be and why?

3. Transaction Conducted Through an Intermediary

Under Section 4(a)(6)(C), a transaction in reliance on Section 4(a)(6) must be “conducted through a broker or funding portal that complies with the requirements of [S]ection 4A(a).” We believe that requiring an issuer to use only one intermediary, rather than allowing the issuer to use multiple intermediaries, to conduct an offering or concurrent offerings in reliance on Section 4(a)(6) would help foster the creation of a crowd and better accomplish the purpose of the statute. As discussed above, a central tenet of the concept of crowdfunding is presenting members of the crowd with an idea or business so members of the crowd can share information and evaluate the idea or business. Allowing an issuer to conduct a single offering or simultaneous offerings in reliance on Section 4(a)(6) through more than one intermediary would diminish the ability of the members of the crowd to effectively share information, because essentially, there would be multiple “crowds.” Also, because practices among intermediaries may differ, were multiple intermediaries to conduct a single offering or simultaneous offerings, this could result in significant differences among such offerings. Finally, allowing an issuer to conduct an offering using more than one intermediary would make it more difficult for intermediaries to determine whether an issuer is exceeding the $1 million aggregate offering limit. Therefore, in addition to requiring the use of an intermediary in connection with an offering made in reliance on Section 4(a)(6), the proposed rules would prohibit an issuer from using more than one intermediary to conduct an offering or concurrent offerings made in reliance on Section 4(a)(6).

See

proposed Instruction 1 to paragraph (a)(3) of proposed Rule 100 of Regulation Crowdfunding.

Although the statute does not expressly require it, we also believe that in enacting Section 4(a)(6)(C), Congress contemplated that crowdfunding transactions made in reliance on Section 4(a)(6) and activities associated with these transactions would occur over the Internet or other similar electronic medium that is accessible to the public.

We believe that an “online-only” requirement enables the public to access offering information and share information publicly in a way that will allow members of the crowd to decide whether or not to participate in the offering and fund the business or idea.

We believe that other mechanisms would not offer this opportunity. The proposed rules would require that an intermediary, in a transaction involving the offer or sale of securities in reliance on Section 4(a)(6), effect such transactions exclusively through an intermediary's platform.

We propose to define the term “platform” to mean an Internet Web site or other similar electronic medium through which a registered broker or a registered funding portal acts as an intermediary in a transaction involving the offer or sale of securities in reliance on Section 4(a)(6).

The requirement that a transaction be conducted exclusively through a platform does not preclude an intermediary from performing back office and other administrative functions offline. Therefore, we propose to state that intermediaries may engage in back office and other administrative functions other than on their platforms.

Examples of such functions include document maintenance, preparation of notices and confirmations, preparing internal policies and procedures, defining and approving business security requirements and policies for information technology, and preparing information required to be filed or otherwise provided to regulators.

In this regard, we note that Section 301 of the JOBS Act states that “[Title III] may be cited as the `Capital Raising Online While Deterring Fraud and Unethical Non-Disclosure Act of 2012' ”.

See

Section 301 of the JOBS Act.

See also

158 Cong. Rec. S1689 (daily ed. March 15, 2012) (statement of Sen. Mark Warner) (“There is now the ability to use the Internet as a way for small investors to get the same kind of deals that up to this point only select investors have gotten . . ., where we can now use the power of the Internet, through a term called crowdfunding.”);

id.

at S1717 (Statement of Sen. Mary Landrieu) (“this crowdfunding bill—which is, in essence, a way for the Internet to be used to raise capital. . . .”).

See

note 2 and accompanying text. The Internet is considered to be a “perfect technology capable of aggregating millions of disparate, independent ideas in the way markets and intelligent voting systems do, without the dangers of `too much communication' and compromise.” Brabham, note 1 (citing James Surowiecki,

The Wisdom of Crowds

xix (2004)).

See

proposed Rule 100(a)(3) of Regulation Crowdfunding.

See

proposed Rule 100(d) of Regulation Crowdfunding.

See

proposed Instruction 2 to paragraph (a)(3) of proposed Rule 100 of Regulation Crowdfunding.

The proposed rules would accommodate other electronic media that currently exist or may develop in the future. For instance, applications for mobile communication devices, such as cell phones or smart phones, could be used to display offerings and to permit investors to make investment commitments. In our releases concerning the use of electronic media for delivery purposes, we discussed so-called “electronic-only” offerings as those in which investors are permitted to participate only if they agree to accept electronic delivery of all documents and other information in connection with the offering.

As discussed below, the proposed rules would require that an intermediary, in its standard account opening materials,

obtain from investors consent for such electronic delivery.

See, e.g., Use of Electronic Media by Broker-Dealers, Transfer Agents and Investment Advisers for Delivery of Information,

Release No. 34-37182 (May 9, 1996) [61 FR 24644 (May 15, 1996)];

Use of Electronic Media,

Release No. 34-42728 (Apr. 28, 2000) [65 FR 25843 (May 4, 2000)] (“

Use of Electronic Media”

See

proposed Rule 302(a) of Regulation Crowdfunding. The proposed rules would require consent to electronic delivery because we believe Congress contemplated that crowdfunding would, by its very nature, occur exclusively through electronic media.

Some commenters appear to assume that all offers and sales made in reliance on Section 4(a)(6) would be conducted online.

One commenter recommended that the Commission expressly require that all disclosure and affirmations required for crowdfunding transactions take place online.

In contrast, another commenter requested that we permit some crowdfunding elements to take place offline to encourage local community investments through entities such as community banks, community development companies and business development companies.

This commenter stated that permitting crowdfunding to take place offline also will help persons without Internet access to invest. The proposed rules would, subject to certain conditions, separately permit outreach by third parties and a third party's promotion of an issuer's offering through communication channels provided by an intermediary.

In addition, an issuer may provide a notice, subject to the conditions in the proposed rules, that directs potential investors to the intermediary's platform through which the issuer will conduct its offering.

Finally, we are not proposing to permit offerings to be conducted through means other than the Internet or similar electronic medium because we believe that allowing other non-electronic means would be inconsistent with the underlying principles of crowdfunding and the statute. Offerings made by other means would not be widely accessible by the public, which would defeat the benefit of the collective wisdom of the members of the crowd. We also believe that Internet access may be available to the public, such as through local public libraries, alleviating one commenter's concern about some persons not being able to invest unless the offerings also take place offline.

See, e.g.,

MacDonald Letter (stating that readily-available information on the Internet already provides a safeguard for crowdfunding investors); NAASA Letter (stating that NASAA is considering whether open Internet access to funding portals would provide sufficient and updated information to state regulators).

See

Cera Technology Letter.

See

Tally Letter.

See

proposed Rule 205 of Regulation Crowdfunding (promoter compensation), proposed Rule 305 of Regulation Crowdfunding (payments to third parties) and proposed Rule 402(b)(6) of Regulation Crowdfunding (conditional safe harbor), discussed below in Sections II.B.5, II.C.7 and II.D.3, respectively.

See

proposed Rule 204 of Regulation Crowdfunding (advertising) discussed below in Section II.B.4.

Request for Comment

12. The proposed rules would prohibit an issuer from conducting an offering or concurrent offerings in reliance on Section 4(a)(6) using more than one intermediary. Is this proposed approach appropriate? Why or why not? If issuers were permitted to use more than one intermediary, what requirements and other safeguards should or could be employed?

13. Should we define the term “platform” in a way that limits crowdfunding in reliance on Section 4(a)(6) to transactions conducted through an Internet Web site or other similar electronic medium? Why or why not?

14. Should we permit crowdfunding transactions made in reliance on Section 4(a)(6) to be conducted through means other than an intermediary's electronic platform? If so, what other means should we permit? For example, should we permit community-based funding in reliance on Section 4(a)(6) to occur other than on an electronic platform?

To foster the creation and development of a crowd, to what extent would such other means need to provide members of the crowd with the ability to observe and comment (

e.g.,

through discussion boards or similar functionalities) on the issuer, its business or statements made in the offering materials?

See

City First Letter and note 355.

15. Should we allow intermediaries to restrict who can access their platforms? For example, should we permit intermediaries to provide access by invitation only or only to certain categories of investors? Why or why not? Would restrictions such as these negatively impact the ability of investors to get the benefit of the crowd and its assessment of an issuer, business or potential investment? Would these kinds of restrictions affect the ability of small investors to access the capital markets? If so, how?

16. As noted above, the proposed rules would not require intermediaries' back office or other administrative functions to be conducted exclusively on their platforms. Do the proposed rules require any clarification? Are there other activities in which an intermediary may engage that would not be considered back office or administrative functions and that should be permitted to occur other than on a platform? If so, what activities are they, and why should they be permitted to occur other than on a platform?

4. Exclusion of Certain Issuers From Eligibility Under Section 4(a)(6)

Section 4A(f) excludes certain categories of issuers from eligibility to rely on Section 4(a)(6) to engage in crowdfunding transactions. These issuers are: (1) Issuers that are not organized under the laws of a state or territory of the United States or the District of Columbia; (2) issuers that are subject to Exchange Act reporting requirements;

(3) investment companies as defined in the Investment Company Act of 1940 (the “Investment Company Act”)

or companies that are excluded from the definition of investment company under Section 3(b) or 3(c) of the Investment Company Act;

and (4) any other issuer that the Commission, by rule or regulation, determines appropriate.

These are issuers who are required to file reports with the Commission pursuant to Exchange Act Sections 13(a) (15 U.S.C. 78m(a)) or 15(d) (15 U.S.C. 78

(d)).

15 U.S.C 80a-1

et seq.

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

One commenter suggested that the Commission's rules should specify that the crowdfunding exemption under Section 4(a)(6) is not available for blank check companies or hedge funds and noted that “permitting these kinds of high-risk and often complex entities to use the exemption is not consistent with the statutory goal of deterring fraud and unethical non-disclosure in crowdfunding offerings.”

Commonwealth of Massachusetts Letter.

The proposed rules would exclude the categories of issuers identified in the statute,

as well as issuers that are disqualified from relying on Section 4(a)(6) pursuant to the disqualification provisions of Section 302(d) of the JOBS Act.

The proposed rules also would exclude an issuer that has sold securities in reliance on Section 4(a)(6) if the issuer has not filed with the Commission and provided to investors, to the extent required, the ongoing annual reports required by Regulation Crowdfunding

during the two years immediately preceding the filing of the required new offering statement.

We believe that the ongoing reporting requirement should benefit investors by enabling them to consider updated

information about the issuer, thereby allowing them to make more informed investment decisions. If issuers fail to comply with this requirement, we do not believe that they should have the benefit of relying on the exemption under Section 4(a)(6) again until they file, to the extent required, the two most recent annual reports.

See

proposed Rules 100(b)(1)-(3) of Regulation Crowdfunding.

See

proposed Rule 100(b)(4) of Regulation Crowdfunding.

See also

proposed Rule 503 of Regulation Crowdfunding and Section II.E.6 below for a discussion of the disqualification provisions.

See

proposed Rules 202 and 203(b) of Regulation Crowdfunding and Section II.B.2 below for a discussion of the ongoing reporting requirements.

See

proposed Rule 100(b)(5) of Regulation Crowdfunding.

The proposed rules also would exclude an issuer that has no specific business plan or has indicated that its business plan is to engage in a merger or acquisition with an unidentified company or companies. As described above, crowdfunding is a new and evolving method to raise money that serves as an alternative source of capital to support a wide range of ideas and ventures. We believe that the exemption under Section 4(a)(6) is intended to provide an issuer with an early stage project, idea or business an opportunity to share it publicly with a wider range of potential investors. Those potential investors may then share information with each other about the early stage proposal and use that information to decide whether or not to provide funding based on the “wisdom of the crowd.” Under such circumstances, this mechanism requires the public to have sufficient information about the issuer's proposal to discuss its merit and flaws.

See, e.g.,

Section 4A(b)(1)(C) (requiring a description of the business of the issuer and the anticipated business plan of the issuer).

At the same time, an early stage proposal may not allow the crowdfunding mechanism to work appropriately if the issuer does not describe a specific project, idea, or business, or is seeking funding for unspecified corporate transactions. In such cases, individuals reviewing the proposal may not have sufficient information to formulate a considered view of the proposal, or the proposal may be less likely to attract enough perspectives to inform a crowd decision. Investors who nonetheless choose to participate may therefore be more likely to be participating in an issuance that has not been reviewed by the crowd in the manner contemplated by the exemption under Section 4(a)(6).

We are cognizant of the challenges associated with distinguishing between early stage proposals that should provide information sufficient to support the crowdfunding mechanism and those that cannot by their terms do so. We preliminarily believe that an appropriate balance can be struck by excluding an issuer that has no specific business plan or that has indicated that its business plan is to engage in a merger or acquisition with an unidentified company or companies. As described below, we do not expect that a specific “business plan” requires a formal document prepared by management or used for marketing to investors.

We understand that issuers engaging in crowdfunding transactions may have businesses at various stages of development in differing industries, and therefore, we believe that a specific “business plan” could encompass a wide range of project descriptions, articulated ideas, and business models. In particular, we recognize that the business plan for startups or small businesses seeking to rely on Section 4(a)(6) may not be fully developed or highly specific and that for many it may be less defined or detailed than the plan associated with larger issuers.

See

discussion below in Section II.B.1.a.i.(b) below.

With respect to hedge funds, we believe that under Section 4A(f)(3), hedge funds would be excluded from eligibility to rely on Section 4(a)(6) because hedge funds and other private funds typically rely on one of the exclusions from the definition of investment company under Section 3(c) of the Investment Company Act.

Investment Advisers Act (“Advisers Act”) Form PF defines a “hedge fund” generally as any “private fund” (other than a securitized asset fund) that: (1) Pays a performance fee or allocation calculated by taking into account unrealized gains (other than a fee or allocation the calculation of which may take into account unrealized gains solely for the purpose of reducing such fee or allocation to reflect net unrealized losses); (2) may borrow an amount in excess of one-half of its net asset value (including any committed capital) or may have gross notional exposure in excess of twice its net asset value (including any committed capital); or (3) may sell securities or other assets short or enter into similar transactions (other than for the purpose of hedging currency exposure or managing duration).

See

Form PF: Glossary of Terms at 4,

available at

http://www.sec.gov/rules/final/2011/ia-3308-formpf.pdf

. A “private fund” is defined as any issuer that would be an investment company as defined in Section 3 of the Investment Company Act but for Section 3(c)(1) or 3(c)(7) of that Act.

Id.

at 7.

Request for Comment

17. Section 4A(b)(4) requires that, “not less than annually, [the issuer] file with the Commission and provide to investors reports of the results of operations and financial statements of the issuer. . . .” Should an issuer be excluded from engaging in a crowdfunding transaction in reliance on Section 4(a)(6), as proposed, if it has not filed with the Commission and provided to investors, to the extent required, the ongoing annual reports required by proposed Regulation Crowdfunding during the two years immediately preceding the filing of the required offering statement? Why or why not? Should an issuer be eligible to engage in a crowdfunding transaction in reliance on Section 4(a)(6) if it is delinquent in other reporting requirements (

e.g.,

updates regarding the progress of the issuer in meeting the target offering amount)?

Why or why not? Should the exclusion be limited to a different timeframe (

e.g.,

filings required during the five years or one year immediately preceding the filing of the required offering statement)?

See

Section II.B.1.b below for a discussion of progress updates.

18. Is the proposed exclusion of issuers who fail to comply with certain ongoing annual reporting requirements too broad? If so, how should it be narrowed and why? Should the exclusion cover issuers whose affiliates have sold securities in reliance on Section 4(a)(6) if the affiliates have not complied with the ongoing annual reporting requirements? If so, should this encompass all affiliates? If not, which affiliates should it cover? Should we exclude any issuer with an officer, director or controlling shareholder who served in a similar capacity with another issuer that failed to file its annual reports? Why or why not?

19. What specific risks do investors face with “idea-only” companies and ventures? Please explain. Do the proposed rules provide sufficient protection against the inherent risks of such ventures? Why or why not?

20. Does the exclusion of issuers that do not have a specific idea or business plan from eligibility to rely on Section 4(a)(6) strike the appropriate balance between the funding needs of small issuers and the information requirements of the crowd? Why or why not? Are there other approaches that would strike a better balance among those considerations? If the proposed approach is appropriate, should we define “specific business plan” or what criteria could be used to identify them? How would any such criteria comport with the disclosure obligations described in Section II.B.1.a.i.(b) (description of the business) below?

21. Are there other categories of issuers that should be precluded from relying on Section 4(a)(6)? If so, what categories of issuers and why?

B. Requirements on Issuers

1. Disclosure Requirements

Section 4A(b)(1) provides that an issuer offering or selling securities in reliance on Section 4(a)(6) must file specified disclosures, including financial disclosures, with the Commission, provide these disclosures to investors and the relevant broker or

funding portal and make these disclosures available to potential investors. These disclosures include:

• The name, legal status, physical address and Web site address of the issuer

;

Section 4A(b)(1)(A).

• The names of the directors and officers (and any persons occupying a similar status or performing a similar function), and each person holding more than 20 percent of the shares of the issuer

;

Section 4A(b)(1)(B).

• a description of the business of the issuer and the anticipated business plan of the issuer

;

Section 4A(b)(1)(C).

• a description of the financial condition of the issuer

;

Section 4A(b)(1)(D). This provision also establishes a framework of tiered financial disclosure requirements based on aggregate offering amounts for offerings under Section 4(a)(6) within the preceding 12-month period.

• a description of the stated purpose and intended use of the proceeds of the offering sought by the issuer with respect to the target offering amount

;

Section 4A(b)(1)(E).

• the target offering amount, the deadline to reach the target offering amount and regular updates regarding the progress of the issuer in meeting the target offering amount

;

Section 4A(b)(1)(F).

• the price to the public of the securities or the method for determining the price

; and

Section 4A(b)(1)(G). This provision also requires that “prior to sale, each investor shall be provided in writing the final price and all required disclosures, with a reasonable opportunity to rescind the commitment to purchase the securities.” This provision is addressed in Sections II.C.5 and II.C.6 below.

• a description of the ownership and capital structure of the issuer.

In addition, Section 4A(b)(1)(I) specifies that the Commission may require additional disclosures for the protection of investors and in the public interest.

Section 4A(b)(1)(H). Specifically, Section 4A(b)(1)(H) requires a description of: “(i) Terms of the securities of the issuer being offered and each other class of security of the issuer . . .; (ii) a description of how the exercise of the rights held by the principal shareholders of the issuer could negatively impact the purchasers of the securities being offered; (iii) the name and ownership level of each existing shareholder who owns more than 20 percent of any class of the securities of the issuer; (iv) how the securities being offered are being valued . . .; and (v) the risks to purchasers of the securities relating to minority ownership in the issuer, the risks associated with corporate actions, including additional issuances of shares, a sale of the issuer or of assets of the issuer, or transactions with related parties.”

Commenters expressed concerns about the extent of the disclosure requirements and stated that overly burdensome rules would make offers and sales in reliance on Section 4(a)(6) prohibitively expensive.

We recognize these concerns and have considered them in determining the disclosure requirements that we should propose in this release.

See

Vim Funding Letter; ExpertBeacon Letter; CrowdFund Connect Letter.

The proposed rules generally describe the type of information that issuers would be required to disclose. We expect, however, that an issuer, along with the intermediary, would determine the format that best conveys the required disclosures and any other information the issuer determines is material to investors.

We recognize that there are numerous ways to achieve that goal and, as such, we are not proposing to mandate a specific disclosure format.

Similarly, to the extent some of the required disclosures overlap, issuers would not be required to duplicate disclosures.

Section II.B.3 below further discusses the proposed format of Form C and requests comments on the format and presentation of the information.

While the proposed rules do not mandate a specific disclosure format, Rule 306 of Regulation S-T (17 CFR 232.306) requires that all electronic filings made with the Commission, including the filings that would be required under the proposed rules, be in English. The proposed rules would not, however, prevent an issuer from providing to the relevant intermediary both an English and a foreign language version of the information for the intermediary to make publicly available through its platform. The anti-fraud and civil liability provisions of the Securities Act would apply equally to both the English and the foreign language version of the information.

As discussed further in Section II.B.3, we are proposing to require issuers to file the disclosures with the Commission on Form C.

As proposed, Form C would be filed in the standard format of eXtensible Markup Language (XML). An XML-based fillable form would enable issuers to provide information in a convenient medium without requiring the issuer to purchase or maintain additional software or technology. This would provide the Commission with data about offerings made in reliance on Section 4(a)(6). Information not required to be provided in text boxes would be filed as attachments to Form C.

Issuers would use Form C to provide the required disclosures about the crowdfunding transaction and the information required to be filed annually.

See

Section II.B.3 below.

Request for Comment

22. Rule 306 of Regulation S-T requires that all electronic filings made with the Commission, including the filings that would be required under the proposed rules, be in English. Some startups and small businesses, and their potential investors, may principally communicate in a language other than English. Should we amend Rule 306 to permit filings by issuers under the proposed rules to be filed in the other language? Why or why not? If we retain the requirement to make filings only in English, will this impose a disproportionate burden on issuers and potential investors who principally communicate in a language other than English? What will be the impact on capital formation for such issuers?

a. Offering Statement Disclosure Requirements

i. Information About the Issuer and the Offering

(a) General Information About the Issuer, Officers and Directors

Consistent with Sections 4A(b)(1)(A) and (B), we are proposing to require an issuer to disclose information about its legal status, directors, officers and certain shareholders and how interested parties may contact the issuer. Specifically, an issuer would be required to disclose:

• Its name and legal status, including its form of organization, jurisdiction in which it is organized and date of organization

;

See

proposed Rule 201(a) of Regulation Crowdfunding.

• its physical address and its Web site address

; and

Id.

• the names of the directors and officers, including any persons occupying a similar status or performing a similar function, all positions and offices with the issuer held by such persons, the period of time in which such person served in the position or office and their business experience during the past three years,

including:

See

proposed Rule 201(b) of Regulation Crowdfunding.

○ each person's principal occupation and employment, including whether any officer is employed by another employer; and

○ the name and principal business of any corporation or other organization in which such occupation and employment took place.

Although the statute does not define “officer,” the term is defined in Securities Act Rule 405

and in Exchange Act Rule 3b-2.

We are proposing to define “officer” consistent with these existing rules. Thus, an issuer would be required to disclose information regarding its president, vice president, secretary, treasurer or principal financial officer, comptroller or principal accounting officer and any person routinely performing corresponding functions with respect to

any organization, whether incorporated or unincorporated, to the extent it has individuals serving in these capacities.

17 CFR 230.405.

17 CFR 240.3b-2.

We are proposing to require disclosure of the business experience of directors and officers of the issuer during the past three years. A three-year period is less than the five-year period that applies to issuers conducting registered offerings

or exempt offerings pursuant to Regulation A.

We believe that startups and small businesses that may seek to raise capital in reliance on Section 4(a)(6) generally would be smaller than the issuers conducting registered offerings or exempt offerings pursuant to Regulation A;

thus, we believe that the less burdensome three-year period would reduce the compliance cost for issuers while still providing potential investors with sufficient information about the business experience of directors and officers of the issuer to make an informed investment decision.

See

Item 401(e) of Regulation S-K [17 CFR 229.401(e)].

See

Item 8(c) of Form 1-A [17 CFR 239.90].

There is no cap on the amount of proceeds that may be raised in a registered offering, and Regulation A limits offerings to $5 million.

Section 4A(b)(1)(B) requires disclosure of “the names of . . . each person holding more than 20 percent of the shares of the issuer.” In contrast, Section 4A(b)(1)(H)(iii) requires disclosure of the “name and ownership level of each existing shareholder who owns more than 20 percent

of any class

of the securities of the issuer” (emphasis added). The proposed rules would require disclosure of the names of persons, as of the most recent practicable date, who are the beneficial owners of 20 percent or more of the issuer's outstanding voting equity securities, calculated on the basis of voting power.

100

We refer to this group of persons as “20 Percent Beneficial Owners.” We believe that the universe of 20 Percent Beneficial Owners should be the same for the disclosure requirements and the disqualification provisions

101

because this would ease the burden on issuers by requiring issuers to only identify one set of persons who would be the subject of these rules. We believe that assessing beneficial ownership based on total outstanding voting securities is consistent with Section 4A(b)(1)(B). Section 4A(b)(1)(B) is not limited to voting equity securities, but we believe the limitation would be necessary to clarify how beneficial ownership would be required to be calculated since issuers could potentially have multiple classes of securities with different voting powers. Assessing beneficial ownership based on ownership of total outstanding voting securities, rather than based on ownership of any class of securities as potentially contemplated by Section 4A(b)(1)(H)(iii), also should ease the burden of compliance because there would be fewer 20 Percent Beneficial Owners to track.

100

See

proposed Rule 201(c) of Regulation Crowdfunding.

101

See

proposed Rule 503 of Regulation Crowdfunding and Section II.E.6 below for a discussion of the proposed disqualification provisions. This approach also would be consistent with how beneficial ownership is calculated for the Rule 506 disqualification rules.

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

Release No. 33-9414 (July 10, 2013) [78 FR 44729 (July 24, 2013)] (“

Disqualification Adopting Release”

Neither Section 4A(b)(1)(B) nor Section 4A(b)(1)(H)(iii) states as of what date the beneficial ownership should be calculated. The proposed rules would require issuers to calculate beneficial ownership as of the most recent practicable date.

102

This is the same requirement that applies to issuers conducting registered offerings or Exchange Act reporting companies.

103

We believe that it is appropriate to provide issuers relying on Section 4(a)(6) the flexibility to calculate beneficial ownership as of the most recent practicable date, otherwise such issuers would be subject to a more burdensome standard than the one that applies to issuers conducting registered offerings or Exchange Act reporting companies.

102

See

proposed Rule 201(c) of Regulation Crowdfunding.

103

See

Item 403 of Regulation S-K [17 CFR 229.403].

Request for Comment

23. Under the proposed rules the definition of the term “officer” is consistent with how that term is defined in Securities Act Rule 405

104

and in Exchange Act Rule 3b-2.

105

Should we instead define “officer” consistent with the definition of “executive officer” in Securities Act Rule 405

106

and in Exchange Act Rule 3b-7?

107

Why or why not? Which definition would be more appropriate for the types of issuers that would be relying on the exemption?

104

17 CFR 230.405.

105

17 CFR 240.3b-2.

106

17 CFR 230.405.

107

17 CFR 240.3b-7.

24. Are these proposed disclosure requirements relating to the issuer and its officers and directors appropriate? Why or why not? Should we only require the disclosures specifically called for by statute or otherwise modify or eliminate any of the proposed requirements? Should we require any additional disclosures (

e.g.,

disclosure about significant employees)? Is there other general information about the issuer or its officers and directors that we should require to be disclosed? If so, what information and why? For example, should we require disclosure of any court orders, judgments or civil litigation involving any directors and officers, including any persons occupying a similar status or performing a similar function? Why or why not? If so, what time period should this disclosure cover and why?

25. The proposed rules would require disclosure of the business experience of directors and officers of the issuer during the past three years. Is the three-year period an appropriate amount of time? Why or why not? If not, please discuss what would be an appropriate amount of time and why. Should the requirement to disclose the business experience of officers and directors include a specific requirement to disclose whether the issuer's directors and officers have any prior work or business experience in the same type of business as the issuer? Why or why not?

26. The proposed rules would require disclosure of the names of persons who are beneficial owners of 20 percent or more of the issuer's outstanding voting equity securities, calculated on the basis of voting power. Is this approach appropriate? Why or why not? Should the proposed rules require disclosure of the names of beneficial owners of 20 percent or more of any class of the issuer's voting securities, even if such beneficial ownership does not exceed 20 percent of all of the issuer's outstanding voting equity securities? Why or why not? Should the proposed disclosure requirement apply to the names of beneficial owners of 20 percent or more, as proposed, or to more than 20 percent of the issuer's outstanding voting equity securities? Why or why not?

27. The proposed rules would require that beneficial ownership be calculated as of the most recent practicable date. Is this approach appropriate? Why or why not? Should beneficial ownership be calculated as of a different date? For example, should the reported beneficial ownership only reflect information as of the end of a well-known historical period, such as the end of a fiscal year? Please explain. Should there be a maximum amount of time from this calculation date to the filing to ensure that the information is current? If so, what maximum amount of time would be appropriate?

28. Should we provide additional guidance on how to calculate beneficial ownership on the basis of voting power? If so, what should that guidance include? Should the proposed rules

require disclosure of the name of a person who has investment power over, an economic exposure to or a direct pecuniary interest in the issuer's securities even if that person is not a 20 Percent Beneficial Owner? Why or why not?

(b) Description of the Business

Consistent with Section 4A(b)(1)(C), we are proposing to require an issuer to disclose information about its business and business plan.

108

One commenter noted that the term “business plan” traditionally referred to a document prepared by management for internal use only and more recently has been used to refer to a marketing document used to solicit investors.

109

We do not expect issuers to provide those types of documents in response to this requirement.

110

Although two commenters suggested that the Commission clarify the term “business plan,”

111

the proposed rules would not specify the disclosures that an issuer must include in the description of the business and the business plan. We understand that issuers engaging in crowdfunding transactions may have businesses at various stages of development in differing industries, and therefore, we believe that the proposed rules should provide flexibility for issuers to disclose the information about their businesses.

108

See

proposed Rule 201(d) of Regulation Crowdfunding.

109

See

Ohio Division of Securities Letter.

110

Companies filing a registration statement or other filings that require a description of the business include a description of the business without providing a formal business plan.

See

Item 101 of Regulation S-K [17 CFR 229.101]. Our approach under proposed Rule 201(d) of Regulation Crowdfunding is consistent with that practice.

111

See

Cones Letter; Ohio Division of Securities Letter.

Request for Comment

29. Are these proposed disclosure requirements appropriate? Why or why not? Should we require any additional disclosures? Should we prescribe specific disclosure requirements about the business of the issuer and the anticipated business plan of the issuer or provide a non-exclusive list of the types of information an issuer should consider disclosing? Why or why not? If so, what specific disclosures about the issuer's business or business plans should we require or include in a non-exclusive list? For example, should we explicitly require issuers to describe any material contracts of the issuer, any material litigation or any outstanding court order or judgment affecting the issuer or its property? Why or why not?

30. Would more specific line item disclosures be more workable for issuers relying on Section 4A or provide more useful guidance for such issuers? Would such disclosures be more useful to investors? Why or why not? For example, should we require issuers to provide a business description incorporating the information that a smaller reporting company would be required to provide in a registered offering pursuant to Item 101(h) of Regulation S-K?

112

Why or why not? Should we require issuers to provide information regarding their plan of operations, similar to that required by Item 101(a)(2) of Regulation S-K

113

in registered offerings by companies with limited operating histories? Why or why not?

112

17 CFR 229.101(h).

113

17 CFR 229.101(a)(2).

The proposed rules, consistent with Section 4A(b)(1)(E), would require an issuer to provide a description of the purpose and intended use of the offering proceeds.

114

One commenter suggested that we require issuers to be specific and detailed when making this disclosure.

115

We expect that such disclosure would provide a sufficiently detailed description of the intended use of proceeds to permit potential investors to evaluate the investment. For example, an issuer may, among other uses, intend to use the proceeds of an offering to acquire assets or businesses, compensate the intermediary or its own employees or repurchase outstanding securities of the issuer. In its description, an issuer should use its judgment regarding the level of detail in its disclosures regarding the assets or businesses that the issuer anticipates acquiring, if applicable. If the proceeds will be used to compensate the intermediary, the issuer should disclose the amount to be used for such compensation. If the proceeds will be used to compensate existing employees and/or to hire new employees, the issuer should consider disclosing whether the proceeds will be used for salaries or bonuses and how many employees it plans to hire, as applicable. If the issuer will repurchase outstanding issuer securities, it should consider disclosing its plans, terms and purpose for repurchasing the securities. An issuer also should consider disclosing how long the proceeds will satisfy the operational needs of the business. If an issuer does not have definitive plans for the proceeds, but instead has identified a range of possible uses, then the issuer should identify and describe each probable use and factors impacting the selection of each particular use.

116

If an issuer indicates that it will accept proceeds in excess of the target offering amount,

117

the issuer would be required to provide a separate, reasonably detailed description of the purpose and intended use of any excess proceeds with similar specificity.

118

114

See

proposed Rule 201(i) of Regulation Crowdfunding.

115

See

Williams Letter (stating that an issuer should disclose how the issuer arrived at the offering target, an itemization of expected expenses within the intended use of the proceeds, a contingency plan for the use of the proceeds should circumstances change and what will be done with any leftover proceeds upon completing the intended use).

116

See

proposed Instruction to paragraph (i) of proposed Rule 201 of Regulation Crowdfunding.

117

See

Section II.B.1.a.i(d) below.

118

See

proposed Instruction to paragraph (i) of proposed Rule 201 of Regulation Crowdfunding.

Request for Comment

31. Are these proposed disclosure requirements appropriate? Why or why not? Should we require any additional disclosures, including specifying items required to be disclosed? Is the proposed standard sufficiently clear such that it would result in investors being provided with an adequate amount of information? If not, how should we change the disclosure requirement? Should the rules include a non-exclusive list of examples that issuers should consider when providing disclosure, similar to the examples discussed above?

32. Under what circumstances, if any, should an issuer be required to update the use of proceeds disclosures?

33. Is there other information regarding the purpose of the offering and use of proceeds that we should require to be disclosed? If so, what information? Should any of the examples above be included as requirements in the rules? Why or why not?

(d) Target Offering Amount and Deadline

Consistent with Section 4A(b)(1)(F), the proposed rules would require issuers to disclose the target offering amount and the deadline to reach the target offering amount.

119

In addition, an issuer would be required to disclose whether it will accept investments in excess of the target offering amount and, if it will, the issuer would be required to disclose, at the commencement of the offering, the maximum amount it will

accept.

120

For example, if the issuer sets a target offering amount of $200,000 but is willing to accept up to $750,000, the issuer would be required to disclose both the $200,000 target offering amount and the $750,000 maximum offering amount that it will accept.

121

In addition, the issuer would be required to disclose, at the commencement of the offering, how shares in oversubscribed offerings would be allocated.

122

If this disclosure is made, we do not believe it would be necessary for us to prescribe how oversubscribed offerings would be allocated because this approach would allow issuers the flexibility to structure the offering as they believe appropriate. At the same time, this approach would provide investors with the disclosure they need to make an informed investment decision.

119

See

proposed Rule 201(g) of Regulation Crowdfunding.

120

See

proposed Rule 201(h) of Regulation Crowdfunding.

121

The issuer in this case also would need to disclose the intended use of the additional proceeds.

See

proposed Instruction to paragraph (i) of proposed Rule 201 of Regulation Crowdfunding.

See also

Section II.B.1.a.i(c) above. In addition, the issuer in this case would need to provide audited financial statements at the commencement of the offering, rather than financial statements reviewed by an independent public accountant as would be required for the lower target amount.

See

Section II.B.1.a.ii below for a discussion of the financial statements requirements. As another example, an issuer that sets a target offering amount of $80,000 and a maximum offering amount of $105,000 would be required to provide financial statements reviewed by an independent public accountant (rather than tax returns for the most recently completed fiscal year and financial statements certified by the principal executive officer).

122

See

proposed Rule 201(h) of Regulation Crowdfunding.

We believe that investors in a crowdfunding transaction would benefit from clear disclosure about their right to cancel, the circumstances under which an issuer may close an offering early and the need to reconfirm the investment commitment under certain circumstances, so investors are more aware of their rights to rescind an investment commitment.

123

As such, we propose to require issuers to describe the process to cancel an investment commitment or to complete the transaction once the target amount is met,

124

including a statement that:

123

Although not specifically required by Title III, Securities Act Section 4A(b)(1)(I) provides us with discretion to require issuers engaged in transactions in reliance on Section 4(a)(6) to provide additional information for the protection of investors and in the public interest.

124

See

proposed Rule 201(j) of Regulation Crowdfunding.

• Investors may cancel an investment commitment until 48 hours prior to the deadline identified in the issuer's offering materials;

125

Section II.C.6 below further discusses the proposed cancelation provisions and requests comments on the proposed approach.

• the intermediary will notify investors when the target offering amount has been met;

• if an issuer reaches the target offering amount prior to the deadline identified in its offering materials, it may close the offering early if it provides notice about the new offering deadline at least five business days prior to that new deadline (absent another material change that would require an extension of the offering and reconfirmation of the investment commitment);

126

and

126

Id.

• if an investor does not cancel an investment commitment before the 48-hour period prior to the offering deadline, the funds will be released to the issuer upon closing of the offering and the investor will receive securities in exchange for his or her investment.

We also propose to require issuers to disclose that if an investor does not reconfirm his or her investment commitment after a material change is made to the offering, the investor's investment commitment will be cancelled and committed funds will be returned.

127

The proposed rules also would require issuers to disclose that if the sum of the investment commitments does not equal or exceed the target offering amount at the time of the offering deadline, no securities will be sold in the offering, investment commitments will be cancelled and committed funds will be returned.

128

127

See

proposed Rule 201(k) of Regulation Crowdfunding.

128

See

proposed Rule 201(g) of Regulation Crowdfunding.

See also

Section 4A(a)(7) (requiring intermediaries to “ensure that all offering proceeds are only provided to the issuer when the aggregate capital raised from all investors is equal to or greater than a target offering amount . . . .”) and discussion in Section II.C.6 below.

Request for Comment

34. Are these proposed disclosure requirements appropriate? Why or why not? Should we modify or eliminate any of the proposed requirements? Should we require any additional disclosures?

35. The proposed rules would require an issuer willing to accept investments in excess of the target offering amount to provide, at the commencement of the offering, the disclosure that would be required in the event the offer is oversubscribed. Is this approach appropriate? Why or why not?

(e) Offering Price

Consistent with Section 4A(b)(1)(G), the proposed rules would require an issuer to disclose the offering price of the securities or the method for determining the price, provided that prior to the sale, each investor is provided in writing the final price and all required disclosures.

129

See

proposed Rule 201

(l)

of Regulation Crowdfunding.

See also

Sections II.C.5 and II.C.6 below for a discussion of information that issuers would be required to provide to investors.

Request for Comment

36. Are these proposed disclosure requirements appropriate? Why or why not? Should we modify or eliminate any of the proposed requirements? Should we require any additional disclosures? Please explain.

(f) Ownership and Capital Structure

Consistent with Section 4A(b)(1)(H), the proposed rules would require an issuer to provide a description of its ownership and capital structure.

130

This disclosure would include:

130

See

proposed Rule 201(m) of Regulation Crowdfunding.

• The terms of the securities being offered and each other class of security of the issuer, including the number of securities being offered and/or outstanding, whether or not such securities have voting rights, any limitations on such voting rights, how the terms of the securities being offered may be modified and a summary of the differences between such securities and each other class of security of the issuer, and how the rights of the securities being offered may be materially limited, diluted or qualified by the rights of any other class of security of the issuer;

• a description of how the exercise of the rights held by the principal shareholders of the issuer could affect the purchasers of the securities;

• the name and ownership level of persons who are 20 Percent Beneficial Owners;

• how the securities being offered are being valued, and examples of methods for how such securities may be valued by the issuer in the future, including during subsequent corporate actions;

• the risks to purchasers of the securities relating to minority ownership in the issuer and the risks associated with corporate actions including additional issuances of securities, issuer repurchases of securities, a sale of the issuer or of assets of the issuer or transactions with related parties; and

• a description of the restrictions on the transfer of the securities.

We believe that investors in crowdfunding transactions would benefit from clear disclosure about the terms of the securities being offered and each other class of security of the issuer. The proposed rules would require disclosure of the number of securities being offered and/or outstanding,

whether or not such securities have voting rights, any limitations on such voting rights and a description of the restrictions on the transfer of the securities.

131

Although Section 4A(b)(1)(H) does not specifically call for this disclosure, we believe that such disclosure would be necessary to provide investors with a more complete picture of the issuer's capital structure than would be obtained solely pursuant to the statutory requirements. We believe this would help investors better evaluate the terms of the offer before making an investment decision.

131

See

proposed Rule 501 of Regulation Crowdfunding and Section II.E.2 below for a discussion of restrictions on resales.

Request for Comment

37. Are these proposed disclosure requirements appropriate? Why or why not? Should we modify or eliminate any of the proposed requirements? Should we require any additional disclosures? Please explain.

(g) Additional Disclosure Requirements

In addition to the statutory disclosure requirements,

132

we propose to require:

132

Section 4A(b)(1)(I) provides us with discretion to require crowdfunding issuers to provide additional information for the protection of investors and in the public interest.

• Disclosure of the name, Commission file number and Central Registration Depository number (“CRD number”)

133

(as applicable) of the intermediary through which the offering is being conducted;

134

133

The Financial Industry Regulatory Authority, Inc. (“FINRA”) will issue the CRD number.

134

See

proposed Rule 201(n) of Regulation Crowdfunding.

• disclosure of the amount of compensation paid to the intermediary for conducting the offering, including the amount of any referral or other fees associated with the offering;

135

See

proposed Rule 201(o) of Regulation Crowdfunding.

• disclosure of certain legends to be included in the offering statement;

136

See

Item 2 of General Instruction III to proposed Form C.

• disclosure of the current number of employees of the issuer;

137

See

proposed Rule 201(e) of Regulation Crowdfunding.

• a discussion of the material factors that make an investment in the issuer speculative or risky;

138

See

proposed Rule 201(f) of Regulation Crowdfunding.

• a description of the material terms of any indebtedness of the issuer, including the amount, interest rate, maturity date and any other material terms;

139

See

proposed Rule 201(p) of Regulation Crowdfunding.

• disclosure of exempt offerings conducted within the past three years;

140

and

140

See

proposed Rule 201(q) of Regulation Crowdfunding.

• disclosure of certain related-party transactions.

141

See

proposed Rule 201(r) of Regulation Crowdfunding.

Requiring an issuer to identify the name, Commission file number and CRD number (as applicable) of the intermediary through which the offering is being conducted should assist investors and regulators in obtaining information about the offering and facilitate monitoring the use of the exemption. It also could help investors obtain background information on the intermediary, for instance through filings made by the intermediary with the Commission as well as through the Financial Industry Regulatory Authority's (“FINRA”) BrokerCheck system for brokers

142

or a similar system, if created, for funding portals.

142

See

FINRA, FINRA BrokerCheck,

available at http://www.finra.org/Investors/ToolsCalculators/BrokerCheck/P015175

In addition, requiring an issuer to disclose the amount of compensation paid to the intermediary for conducting the offering, including the amount of referral or other fees associated with the offering, would permit investors and regulators to determine how much of the proceeds of the offering are used to compensate the intermediary and to facilitate the monitoring of compensation paid to intermediaries.

The requirement for an issuer to include in the offering statement certain specified legends about the risks of investing in a crowdfunding transaction is intended to help investors understand the general risks of investing in a crowdfunding transaction. In addition, the requirement that an issuer include in the offering statement certain legends about the required ongoing reports, including how those reports would be made available to investors and how an issuer may terminate its ongoing reporting obligations, is intended to help investors understand an issuer's ongoing reporting obligations and inform investors of how they will be able to access those reports.

The proposed rules also would require disclosure of the material factors that make an investment in the issuer speculative or risky.

143

We believe that this risk factor information should help investors to better understand the risks of investing in a specific issuer's offering.

143

See

proposed Rule 201(f) of Regulation Crowdfunding.

The proposed rules also would require disclosure of certain related-party transactions between the issuer and any director or officer of the issuer, any person who is a 20 Percent Beneficial Owner, any promoter of the issuer (if the issuer was incorporated or organized within the past three years), or immediate family members of the foregoing persons.

144

For purposes of this related-party transactions disclosure, “immediate family member” would have the same meaning that it has in Item 404 of Regulation S-K,

145

which relates to the disclosure of related-party transactions for Exchange Act reporting companies. This related-party transactions disclosure should assist investors in obtaining a more complete picture of the financial relationships between certain related parties and the issuer.

144

See

proposed Rule 201(r) of Regulation Crowdfunding.

145

17 CFR 229.404.

See

proposed Rule 201(r)(4) of Regulation Crowdfunding.

Several commenters suggested that we should model the disclosure form after Securities Act Form 1-A

146

or the North American Securities Administrators Association's (“NASAA”) uniform Small Company Offering Registration Form (U-7).

147

The proposed disclosure requirements regarding risk factors and related-party transactions are similar to those in Form 1-A except that, with respect to the disclosure about related-party transactions, the proposed rules would require disclosure about transactions since the beginning of the issuer's last full fiscal year, rather than the two fiscal years required in Form 1-A. Given the early stage of development of the small businesses and startups that we expect would seek to raise capital pursuant to Section 4(a)(6), as well as the investment limitations prescribed by the proposed rules, we believe that limiting the disclosure to related-party transactions since the beginning of the issuer's last full fiscal year will reduce the burden on issuers while still providing investors with sufficient information to evaluate the relationship between related parties and the issuer. Also, the proposed rules only would require disclosure of related-party transactions in excess of five percent of the aggregate amount of capital raised by the issuer in reliance on Section 4(a)(6) during the preceding 12-month period, inclusive of the amount the issuer seeks to raise in the current offering under Section 4(a)(6). For

example, an issuer seeking to raise $1 million would be required to disclose related-party transactions in excess of $50,000, which is the same threshold required in Form 1-A. We believe that, in light of the sizes and varieties of issuers that may make offerings in reliance on Section 4(a)(6), this scaled approach is more appropriate than the fixed amount approach used in Form 1-A, which might be disproportionate to the size of certain offerings and issuers.

146

17 CFR 239.90. Form 1-A is the form used for securities offerings made pursuant to Regulation A.

147

See

Commonwealth of Massachusetts Letter; Coan Letter; Liles Letter 1; Vim Funding Letter; NASAA Letter.

Two commenters suggested that the Commission require the issuer to disclose the total number of employees.

148

The proposed rules would require disclosure of the issuer's current number of employees.

149

This information should assist investors and regulators in obtaining information about the size of the businesses using the exemption. This information would make data available that could be used to evaluate whether the businesses using the exemption are creating additional jobs.

150

148

See

NASAA Letter; Ohio Division of Securities Letter.

149

See

proposed Rule 201(e) of Regulation Crowdfunding.

150

Issuers would be required to disclose the current number of employees in the offering document and the ongoing reports, which should permit comparison of the number of employees over different time periods.

The proposed rules also would require disclosure of the material terms of any indebtedness of the issuer, including, among other items, the amount, interest rate and maturity date.

151

We believe this information would be important to investors because servicing debt could place additional pressures on an issuer in the early stages of development.

151

See

proposed Rule 201(p) of Regulation Crowdfunding.

In addition, the proposed rules would require disclosure of exempt offerings conducted within the past three years.

152

For each exempt offering within the past three years, the proposed rules would require a description of the date of the offering, the offering exemption relied upon, the type of securities offered and the amount of securities sold and the use of proceeds.

153

We believe that it would be important to investors to know of prior offerings of securities. This information would better inform investors about the capital structure of the issuer and would provide information about how prior offerings were valued.

152

See

proposed Rule 201(q) Regulation Crowdfunding.

153

See

proposed Instruction to paragraph (q) of proposed Rule 201 of Regulation Crowdfunding.

Request for Comment

38. Are these proposed disclosure requirements appropriate? Why or why not? Should we modify or eliminate any of the proposed requirements? If so, how and why?

39. To assist investors and regulators in obtaining information about the offering and to facilitate monitoring the use of the exemption, the proposed rules would require an issuer to identify the name, Commission file number and CRD number (as applicable) of the intermediary through which the offering is being conducted. Is there a better approach? What other information should be provided? If so, please describe it.

40. Should we require disclosure of the amount of compensation paid to the intermediary, as proposed? Why or why not? Should we require issuers to separately disclose the amounts paid for conducting the offering and the amounts paid for other services? Why or why not?

41. Should we require the issuer to include certain specified legends about the risks of investing in a crowdfunding transaction and disclosure of the material factors that make an investment in the issuer speculative or risky, as proposed? Why or why not? Should we provide examples in our rules of the types of material risk factors an issuer should consider disclosing? Why or why not? If so, what should those examples be?

42. Should we require disclosure of certain related-party transactions, as proposed? Why or why not? The proposed rules would require disclosures of certain transactions between the issuer and directors or officers of the issuer, 20 Percent Beneficial Owners, any promoter of the issuer, or relatives of the foregoing persons. Is this the appropriate group of persons? Should we limit or expand the list of persons? If so, how and why?

43. As proposed, immediate family member, for purposes of related-party transactions disclosure, would have the same meaning that it has in Item 404 of Regulation S-K.

154

Is this the appropriate approach? Why or why not? If not, what would be a more appropriate definition and why? For purposes of restrictions on resales of securities issued in transactions made in reliance on Section 4(a)(6), “member of the family of the purchaser or the equivalent” would, as proposed, expressly include spousal equivalents.

155

Should the definition of immediate family member for purposes of related-party transactions disclosure also expressly include spousal equivalents, or would including spousal equivalents create confusion in light of the fact that the definition for purposes of related-party transactions already includes any persons (other than a tenant or employee) sharing the same household? Please explain.

154

17 CFR 229.404.

See

proposed Rule 201(r)(4) of Regulation Crowdfunding.

155

See

proposed Rule 501(c) of Regulation Crowdfunding and the related instruction thereto.

See also

Section II.E.2 below for a discussion of spousal equivalent.

44. Is it appropriate to limit the disclosure about related-party transactions to transactions since the beginning of the issuer's last full fiscal year? Why or why not? Is it appropriate to limit disclosure to those related-party transactions that exceed five percent of the aggregate amount of capital raised by the issuer in reliance on Section 4(a)(6)? Should we instead require disclosure of all related-party transactions or all transactions in excess of an absolute threshold amount?

45. Is it appropriate to require a description of any prior exempt offerings conducted within the past three years, as proposed? Why or why not? Would another time period (

e.g.,

one year, five years, etc.) or no time limit be more appropriate?

46. Should we require any additional disclosures (

e.g.,

should we require disclosure about executive compensation and, if so, what level of detail should be required in such disclosure)? If so, what disclosures and why?

ii. Financial Disclosure

Section 4A(b)(1)(D) requires “a description of the financial condition of the issuer.” It also establishes a framework of tiered financial disclosure requirements based on aggregate target offering amounts of the offering and all other offerings made in reliance on Section 4(a)(6) within the preceding 12-month period:

• issuers offering $100,000 or less are required to file with the Commission, provide to investors and the relevant intermediary and make available to potential investors income tax returns filed by the issuer for the most recently completed year (if any) and financial statements that are certified by the principal executive officer to be true and complete in all material respects;

• issuers offering more than $100,000, but not more than $500,000, are required to file with the Commission, provide to investors and the relevant intermediary and make available to

potential investors financial statements reviewed by a public accountant that is independent of the issuer; and

• issuers offering more than $500,000 (or such other amount as the Commission may establish) are required to file with the Commission, provide to investors and the relevant intermediary and make available to potential investors audited financial statements.

Section 4A(h) further provides that these dollar amounts shall be adjusted by the Commission not less frequently than once every five years, by notice published in the

Federal Register

, to reflect any change in the Consumer Price Index for All Urban Consumers published by the Bureau of Labor Statistics.

(a) Financial Condition Discussion

Consistent with Section 4A(b)(1)(D), the proposed rules would require an issuer to provide a narrative discussion of its financial condition.

156

This discussion should address, to the extent material, the issuer's historical results of operations in addition to its liquidity and capital resources. If an issuer does not have a prior operating history, the discussion should focus on financial milestones and operational, liquidity and other challenges. If an issuer has a prior operating history, the discussion should focus on whether historical earnings and cash flows are representative of what investors should expect in the future. An issuer's discussion of its financial condition should take into account the proceeds of the offering and any other known or pending sources of capital. Issuers also should discuss how the proceeds from the offering will affect their liquidity and whether these funds and any other additional funds are necessary to the viability of the business. In addition, issuers should describe the other available sources of capital to the business, such as lines of credit or required contributions by principal shareholders.

156

See

proposed Rule 201(s) of Regulation Crowdfunding.

We expect that the discussion required by the proposed rule and instruction would inform investors about the financial condition of the issuer in a manner similar to the management's discussion and analysis of financial condition and results of operations (“MD&A”) required by Item 303 of Regulation S-K

157

for registered offerings. Because issuers seeking to engage in crowdfunding transactions would likely be smaller, less complex and at an early stage of development compared to issuers conducting registered offerings or Exchange Act reporting companies, we expect that the discussion would not generally need to be as lengthy or detailed as the MD&A of Exchange Act reporting companies. We are not proposing to prescribe content or format for this information, but rather to set forth principles of disclosure. To the extent these items of disclosure overlap with the issuer's discussion of its business or business plan, issuers are not required to make duplicate disclosures. While we are not proposing to mandate a specific presentation, we expect issuers to present the required disclosures, including any other information that would be material to an investor, in a clear and understandable manner.

157

17 CFR 229.303.

Request for Comment

47. Are these proposed requirements for the discussion of the financial condition of the issuer appropriate? Why or why not? Should we modify or eliminate any of the requirements in the proposed rule or instruction? If so, which ones and why? Should we require any additional disclosures? If so, what disclosures and why? Should we prescribe a specific format or presentation for the disclosure? Please explain.

48. Should we exempt issuers with no operating history from the requirement to provide a discussion of their financial condition? If so, why? Should we require such issuers to specifically state that they do not have an operating history, as proposed? Why or why not?

49. In the discussion of the issuer's financial condition, should we require issuers to provide specific disclosure about prior capital raising transactions? Why or why not? Should we require specific disclosure relating to prior transactions made pursuant to Section 4(a)(6), including crowdfunding transactions in which the target amount was not reached? Why or why not?

(b) Financial Disclosures

As noted above, Section 4A(b)(1)(D) establishes tiered financial statement disclosure requirements that are based on aggregate target offering amounts within the preceding 12-month period. We received a range of comments on this requirement.

In response to the requirement for issuers offering $100,000 or less to file with the Commission, provide to investors and the relevant intermediary and make available to potential investors their income tax returns for the most recently completed year, one commenter suggested that, even if redacted, income tax returns should not be made public.

158

One commenter suggested that financial statements should cover the most recently completed fiscal year.

159

Other commenters suggested that issuers offering $100,000 or less should provide financial statements prepared in accordance with generally accepted accounting principles (“GAAP”), including explanatory notes, even though those financial statements would not be subject to an independent accountant's review or audit.

160

158

See

RocketHub Letter 1 (stating that information can be taken from the issuer's tax return and entered digitally, by the issuer, for inclusion in the offering materials).

159

See

CompTIA Letter.

160

See

Commonwealth of Massachusetts Letter; NASAA Letter.

For issuers offering more than $100,000, but not more than $500,000, one commenter suggested that the Commission require the financial statement review to be done by accountants in good standing for at least five years.

161

Another commenter stated that issuers in existence for less than 12 months should not be required to provide independently reviewed financial statements.

162

161

See

Philipose Letter 1.

162

See

CFIRA Letter 2.

Several commenters objected to the requirement for issuers to provide audited financial statements when offering more than $500,000 and suggested alternatives.

163

One

commenter suggested that an issuer should not be required to provide audited financial statements if: (1) The target offering amount is not greater than $100,000 (notwithstanding any other transactions made in reliance on Section 4(a)(6) within the preceding 12-month period); and (2) the issuer has not conducted a transaction in reliance on Section 4(a)(6) within the preceding six months.

164

Another commenter suggested that issuers should be required to identify the accountant used to certify or audit the financial statements.

165

163

See

CFIRA Letter 2 (stating that the requirement to provide audited financial statements should apply solely to issuers that have been engaged in their current business for more than 12 months and which are seeking to raise at least $1,000,000); Vim Funding Letter (stating that the statute gives the Commission the discretion to raise the threshold at which audits are required, “in theory all the way up to the $1,000,000 level” and asking that the Commission exercise its discretion); RocketHub Letter 1 (stating that the threshold for the audit requirement should be raised to an amount in excess of $1,000,000 and audited financial statements should only be required for issuers that have been in operation for more than two years); Parker Letter (stating that the audit requirement is an unnecessary expense); Cera Technology Letter (stating that the audit requirement should be raised to $1,000,000); ABA Letter 1 (stating that the Commission should consider a higher threshold, such as $750,000, or identify additional criteria, such as revenue levels, that would require audited financial statements); Loofbourrow Letter (stating that the Commission should not impose an audit requirement); InitialCrowdOffering Letter (stating that the requirement for audited financial statements should be eliminated); Genedyne Letter 1 (stating that the Commission should not impose an audit requirement for offerings under $1,000,000); BrainThrob Laboratories Letter (stating that the Commission should defer imposing an audit requirement until further study can determine whether it is economically beneficial to the investment community); Vogele Letter (stating that obtaining audited financial statements takes time and new businesses do not have a lot of time).

See also

2012 SEC Government-Business Forum, note

29 (recommending that the Commission consider raising the offering amount at which audited financial statements are required).

164

See

ABA Letter 1.

165

See

RocketHub Letter 1 (stating that disclosure of the identity of the accountant used to review or audit the financial statements would allow investors to conduct diligence on the accountant and permit the intermediary to track accountant activities and block issuers on their platform from using accountants who produce poor quality or fraudulent work).

Under the proposed rules, in determining the financial statements that would be required, an issuer would need to aggregate the amounts offered and sold in reliance on Section 4(a)(6) within the preceding 12-month period with the target offering amount (or the maximum offering amount, including the aggregate amount of any possible oversubscriptions if the issuer will accept oversubscriptions) of the offering for which disclosure is being provided.

166

The statute refers to aggregate “offering amounts” within the preceding 12-month period. We are proposing to require issuers to aggregate only amounts offered and sold (rather than all offered amounts, including those not sold) within the preceding 12-month period with the amount the issuer is seeking to raise in the transaction.

167

We do not believe that this provision should require an issuer to aggregate amounts offered in prior offerings but not sold (for example, because the target offering amount was not met). Otherwise, an issuer that initially sought to raise $400,000, did not complete the crowdfunding transaction because the target offering amount was not met, and would like to raise $200,000 in a second attempt would be required to provide audited financial statements rather than financial statements reviewed by a public accountant in connection with that $200,000 offering. We believe that this result would increase costs to issuers when those issuers were unsuccessful in prior offerings within the preceding 12-month period. Requiring issuers to aggregate amounts offered and sold should still prevent issuers from circumventing the framework of tiered financial disclosure requirements by structuring a larger offering as a series of smaller offerings.

168

We do not propose to prohibit issuers from providing financial statements that meet the requirements for a higher aggregate target offering amount than the proposed rules would require.

169

166

See

proposed Instruction 1 to paragraph (t) of proposed Rule 201 of Regulation Crowdfunding.

167

See also

Hutchens Letter (suggesting that the Commission “devise a rule that creates a relationship between the amount of capital actually raised by an issuer in a crowdfunding offering and the degree of financial disclosure the issuer must provide”).

168

For example, we believe aggregating completed offerings within the preceding 12-month period is necessary to avoid having an issuer who seeks to raise more than $500,000, which requires audited financial statements, structure the offering as a series of smaller offerings to circumvent this requirement.

169

See

proposed Instruction 10 to paragraph (t) of proposed Rule 201 of Regulation Crowdfunding.

The proposed rules would require all issuers to file with the Commission, provide to investors and the relevant intermediary and make available to potential investors a complete set of their financial statements (a balance sheet, income statement, statement of cash flows and statement of changes in owners' equity), prepared in accordance with U.S. generally accepted accounting principles (“U.S. GAAP”), covering the shorter of the two most recently completed fiscal years or the period since inception of the business.

170

In proposing this requirement we considered commenters' suggestions that we require financial statements prepared in accordance with U.S. GAAP,

171

as well as the fact that the same requirement applies to offerings under Regulation A.

172

170

See

proposed Instruction 2 to paragraph (t) of proposed Rule 201 of Regulation Crowdfunding. Financial statements prepared in accordance with U.S. GAAP are generally self-scaling to the size and complexity of the issuer, which should reduce the burden of preparing financial statements for many issuers.

171

See

Commonwealth of Massachusetts Letter; NASAA Letter.

172

See

Part F/S of Form 1-A. [17 CFR 239.90].

We considered proposing to require financial statements covering only the most recently completed fiscal year, as one commenter suggested,

173

rather than the two most recently completed fiscal years; however, we believe that requiring a second year will provide investors with a basis for comparison against the most recently completed period, without substantially increasing the burden for the issuer.

174

We also considered proposing to require a third year of financial statements, but we are concerned that this could be overly burdensome for the types of issuers that likely would engage in crowdfunding transactions.

175

173

See

CompTIA Letter.

174

See Smaller Reporting Company Regulatory Relief and Simplification,

Release No. 33-8876 (Dec. 19, 2007) [73 FR 934 (Jan. 4, 2008)] (in the context of requiring two years, rather than just one year, of audited balance sheet data for smaller reporting companies, the Commission noted that comparative balance sheets will provide a much more meaningful presentation for investors without a significant additional burden on smaller reporting companies, since the earlier year data should be readily available for the purposes of preparing the other financial statements).

See also SEC Advisory Committee on Smaller Public Companies, Final Report

(Apr. 23, 2006),

available at http://www.sec.gov/info/smallbus/acspc.shtml

175

Requiring a third year of financial statements also would place a greater burden on issuers relying on Section 4(a)(6) than on emerging growth companies conducting registered offerings.

See

Section 102(b) of the JOBS Act.

During the first 120 days of the issuer's fiscal year, an issuer would be able to conduct an offering in reliance on Section 4(a)(6) and the related rules using financial statements for the fiscal year prior to the most recently completed fiscal year if the financial statements for the most recently completed fiscal year are not otherwise available or required to be filed.

176

We believe this accommodation is needed because otherwise issuers would not be able to conduct offerings in reliance on Section 4(a)(6) for a period of time between the end of their fiscal year and the date when the financial statements for that period are available.

177

The issuer could not do this, however, if it was otherwise required to provide updated financial statements by the ongoing reporting requirements

178

or financial statements are otherwise available.

179

For example, if an issuer that has a calendar fiscal year end conducts an offering in April 2014, it would be permitted to include financial statements for the fiscal year ended December 31, 2012 if the financial statements for the fiscal year ended

December 31, 2013 are not yet available. Once more than 120 days have passed since the end of the issuer's most recent fiscal year, the issuer would be required to include financial statements for its most recent fiscal year.

180

Regardless of the age of the financial statements, an issuer would be required to include a discussion of any material changes in the financial condition of the issuer during any time period subsequent to the period for which financial statements are provided, including changes in reported revenue or net income, to inform investors of changes to the financial condition of the issuer.

181

176

See

proposed Instruction 8 to paragraph (t) of proposed Rule 201 of Regulation Crowdfunding.

177

Issuers conducting a registered offering after the end of their fiscal year also are permitted to use financial statements for their prior period until the 90th day after their fiscal-year end for non-accelerated filers (or 75th day for accelerated filers and 60th day for large accelerated filers) if certain conditions are satisfied.

See

Rule 3-01(c) of Regulation S-X [17 CFR 210.3-01(c)].

178

See

Section II.B.2 below for a discussion of ongoing reporting requirements.

179

Additionally, if the offering period remains open beyond 120 days after the end of the issuer's fiscal year (resulting in financial statements older than 485 days at the time the offering closes), then the issuer would be required to update the disclosure in the offering statement to include financial statements for the most recently completed fiscal year.

See

proposed Instruction 8 to paragraph (t) of proposed Rule 201 of Regulation Crowdfunding.

180

Id.

181

See

proposed Instruction 9 to paragraph (t) of proposed Rule 201 of Regulation Crowdfunding.

Section 4A(b)(1)(D)(i) requires issuers to file with the Commission, provide to investors and the relevant intermediary and make available to potential investors income tax returns and financial statements. As specified in the statute, we are proposing to require an issuer that is conducting an offering of $100,000 or less in reliance on Section 4(a)(6) to provide its filed income tax returns for the most recently completed fiscal year, if any, and its financial statements certified by its principal executive officer.

182

Although one commenter suggested the Commission should provide otherwise,

183

the statute specifically calls for the Commission to require the filing of income tax returns. To address the privacy concerns raised by commenters with regard to the requirement to provide tax returns, we are proposing to require issuers to redact personally identifiable information, such as social security numbers, from their tax returns before filing. Issuers that offer securities in reliance on Section 4(a)(6) before filing their tax returns for the most recently completed fiscal year would be allowed to use the tax return filed for the prior year, provided that the issuer discloses any material changes since that prior year. In addition, the issuer would be required to provide the tax return for the most recent fiscal year when filed with the U.S. Internal Revenue Service (if filed during the offering period). With regard to the requirement to provide financial statements that are certified to be true and complete in all material respects, we are proposing a form of the certification that would be provided by the issuer's principal executive officer.

184

182

See

proposed Rule 201(t)(1) of Regulation Crowdfunding.

183

See

RocketHub Letter 1.

184

See

proposed Instruction 4 to paragraph (t) of proposed Rule 201 of Regulation Crowdfunding.

For offerings of more than $100,000, but not more than $500,000, Section 4A(b)(1)(D)(ii) requires issuers to file with the Commission, provide to investors and the relevant intermediary and make available to potential investors financial statements reviewed by a public accountant who is “independent” of the issuer, using professional standards and procedures or standards and procedures established by the Commission for this purpose. The statute does not define the term “independent.” We propose that to qualify as an independent public accountant for purposes of this requirement, the accountant would need to comply with the Commission's independence rules, which are set forth in Rule 2-01 of Regulation S-X.

185

We believe that accounting professionals could benefit from the guidance the Commission and staff have provided about these independence rules. We also believe that financial statement reviews under these standards could provide investors with more confidence regarding the reliability of the financial statements.

186

An issuer subject to this requirement that seeks to eventually become an Exchange Act reporting company may have an easier transition because the issuer would already be complying with our independence rules.

187

185

17 CFR 210.2-01. Rule 2-01 of Regulation S-X is designed to ensure that auditors are qualified and independent both in fact and in appearance. The rule sets forth restrictions on, including but not limited to, financial, employment, and business relationships between an accountant and a client and restrictions on an accountant providing certain non-audit services to a client. The general standard of independence is set forth in Rule 2-01(b). The rule does not purport to, and the Commission could not, consider all the circumstances that raise independence concerns, and these are subject to the general standard in paragraph (b) of Rule 2-01. In considering this standard, the Commission looks in the first instance to whether a relationship or the provision of a service: (a) Creates a mutual or conflicting interest between the accountant and the client; (b) places the accountant in the position of auditing his or her own work; (c) results in the accountant acting as management or an employee of the client; or (d) places the accountant in a position of being an advocate for the client.

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For example, under the Commission's independence rules, an auditor cannot provide bookkeeping services to an audit client, so investors would be able to rely on the benefits that accompany the prohibition against an auditor auditing its own work.

See

Rule 2-01(c)(4) of Regulation S-X [17 CFR 210.2-01(c)(4)].

187

Using an accountant that is not independent in accordance with our independence rules could result in increased expense and delay to the extent that an issuer seeking to become an Exchange Act reporting company would need to obtain an audit of the financial statements by an accountant complying with the Commission's independence standards.

The statute also gives the Commission discretion to determine the professional standards and procedures used for the review of the financial statements. To implement this requirement, the proposed rules would require issuers to provide financial statements reviewed in accordance with the Statements on Standards for Accounting and Review Services (“SSARS”) issued by the Accounting and Review Services Committee of the American Institute of Certified Public Accountants (“AICPA”).

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We are not proposing new review standards for purposes of these rules at this time because we do not believe it is necessary. The AICPA's review standard is widely utilized, and we are not aware of any other widely utilized standards for reviews. Many accountants reviewing financial statements of crowdfunding issuers should be familiar with the AICPA's standards and procedures for review, which could make it less burdensome for issuers.

188

See

proposed Rule 201(t)(2) of Regulation Crowdfunding.

The issuer would be required to file with the Commission, provide to investors and the relevant intermediary and make available to potential investors a copy of the public accountant's review report.

189

This should benefit investors by giving them the ability to consider any modification that may have been made to the review report. It also would serve as a way to identify the accounting firm used to review the financial statements. As one commenter suggested,

190

investors then could conduct due diligence on the accounting firm by, for example, researching the other offerings made in reliance on Section 4(a)(6) in which the accounting firm was involved or reviewing the accounting firm's licensure status and any publicly-available disciplinary proceedings.

189

See

proposed Instruction 5 to paragraph (t) of proposed Rule 201 of Regulation Crowdfunding.

190

See

RocketHub Letter 1.

For offerings of more than $500,000, consistent with the threshold identified in Section 4A(b)(1)(D)(iii), the proposed rules would require issuers to file with the Commission, provide to investors and the relevant intermediary and make available to potential investors audited financial statements. While Congress authorized the Commission to establish a different threshold, we are not proposing at this time to raise the threshold at which an issuer would be required to provide audited financial statements, as some commenters suggested.

191

We note that Congress specifically selected $500,000 as the threshold at which to require audited

financial statements. If we were to raise the threshold to $1 million, as suggested by some commenters,

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it would eliminate the requirement for issuers ever to provide audited financial statements because the maximum offering amount under Section 4(a)(6) is $1 million. Leaving the $500,000 threshold unchanged also would provide the Commission, investors and issuers an opportunity to become familiar with the new offering exemption before considering possible changes to the threshold.

191

See

CFIRA Letter 2; Vim Funding Letter; RocketHub Letter 1; Cera Technology Letter; Genedyne Letter 1; Schwartz Letter.

192

See

CFIRA Letter 2; Vim Funding Letter; Cera Technology Letter; Genedyne Letter 1.

Under the proposed rules, the auditor conducting the audit of the financial statements would be required to be independent of the issuer and the audit would have to be conducted in accordance with the auditing standards issued by either the AICPA or the Public Company Accounting Oversight Board (“PCAOB”).

193

The proposed instructions to the rules would provide that the auditor would be required to be independent of the issuer based on the Commission's independence standard in Rule 2-01 of Regulation S-X.

194

Providing issuers with a choice of auditing standards could provide a benefit in a number of ways. If an issuer currently has audited financial statements using one of the specified standards, the issuer would not need to obtain a new audit or engage a different auditor to conduct an audit in order to engage in a crowdfunding transaction in reliance on Section 4(a)(6). If an issuer chooses to have an audit conducted in accordance with PCAOB auditing standards, it generally would not need to obtain a new audit in order to file a registration statement with the Commission for a registered offering or to register a class of securities under the Exchange Act and become an Exchange Act reporting company. The proposed rules would not require the audit to be conducted by a PCAOB-registered firm. This should mean that a greater number of accountants would be eligible to audit the issuers' financial statements, which may reduce issuers' costs.

193

See

proposed Rule 201(t)(3) of Regulation Crowdfunding.

194

17 CFR 210.2-01.

An issuer would be required to file with the Commission, provide to investors and the relevant intermediary and make available to potential investors a copy of the audit report.

195

This should benefit investors by serving as a way to identify the accounting firm used to audit the financial statements. Investors then could conduct due diligence by, for example, researching other offerings made in reliance on Section 4(a)(6) in which the accounting firm was involved or reviewing the accounting firm's licensure status and any publicly-available disciplinary proceedings.

195

See

proposed Instruction 6 to paragraph (t) of proposed Rule 201 of Regulation Crowdfunding.

An issuer that received an unqualified or a qualified audit opinion would be in compliance with the audited financial statement requirements.

196

An issuer that received an adverse opinion or a disclaimer of opinion, however, would not be in compliance with the audited financial statement requirements,

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because the auditor determined that the financial statements of the issuer do not present fairly its financial position, results of operations or cash flows in conformity with U.S. GAAP, or that the auditor does not express an opinion on the financial statements.

196

Id.

197

Id.

Under Rule 2-01 of Regulation S-X, the Commission does not recognize as a public accountant any person who: (1) Is not duly registered and in good standing as a certified public accountant under the laws of the place of his residence or principal office; or (2) is not in good standing and entitled to practice as a public accountant under the laws of the place of his residence or principal office.

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We believe that this rule promotes the use of qualified accountants that are in compliance with the requirements for their profession for the review or audit of the financial statements with respect to all offerings, including offerings in reliance on Section 4(a)(6).

199

We are not proposing to require that the public accountant be in good standing for at least five years, as one commenter suggested,

200

because that could unnecessarily restrict the pool of available public accountants by, for example, excluding accountants who are in good standing but who have been in business for fewer than five years.

198

See

17 CFR 210.2-01(a).

199

Accountants also would be subject to Rule 102(e) of the Rules of Practice and Investigations.

See

17 CFR 201.102(e). Under Rule 102(e), the Commission can censure, suspend or bar professionals who appear or practice before it if it finds such professionals, after notice and an opportunity for hearing: (1) Not to possess the requisite qualifications to represent other

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