All Forum Posts by: Roland Wiederaenders

@Jillian Sidoti You are absolutely correct.  I still like to make my clients aware of all of their options.  One of the most common questions that I get as an attorney is "how do I include non-accredited investors in my offering?" and to fully inform, I tell them about Rule 504, along with the onerous information delivery requirements under Rule 502(b) for non-accredited investors included in Rule 506(b) offerings.

Raise $5 Million From Non-Accredited Investors Under Amended Rule 504

On October 26, 2016, the SEC adopted final rules amending Rule 504 of Regulation D under the Securities Act of 1933, as amended (the “Act”). This amendment to Rule 504 was effective January 21, 2017, and the repeal of Rule 505 (described herein) was effective May 22, 2017.

History

Rule 504 and Rule 505 of Regulation D historically were exemptions from registration for offerings of limited size and character. While Rule 506 allows issuers to sell an unlimited dollar amount of securities to a theoretically unlimited number of investors (as long as they are solely accredited investors), historically, Rule 505 limited offerings to $5 million in any twelve-month period. Rule 505 offerings could be sold, however, subject to restrictions on advertising (or “general solicitation”), to an unlimited number of accredited investors and up to 35 non-accredited investors. Rule 504 had a $1 million limit but there was no limit on the number of investors who could invest, regardless of their status as accredited or non-accredited. While Rule 505 included the expansive disclosure requirements of Rule 502(b) for non-accredited investors, Rule 504 did not include any specific disclosure requirements.

Revised Rule 504

The amendments to Rule 504 adopted by the SEC aand now in effect increased the offering limit under Rule 504 from $1 million to $5 million. Following effectiveness of this rule, the SEC has repealed Rule 505. While the dollar limit under Rule 504 has increased, there has been no change in the number of investors permitted in a Rule 504 offering, and the rule itself places no limits on the number of investors (accredited or not). The amendments to Rule 504 also subject issuers to Rule 506(d) bad actor disqualifications, providing additional investor protection.

As a general rule, reporting under the Exchange Act is required once an issuer has 500 investors, or 2,000 if all investors are accredited. Consequently, unless some other limitation applies (such as Section 3(c)(1) of the Investment Company Act of 1940, which limits certain investment funds to 100 investors), issuers relying on Rule 504 who include non-accredited investors will be limited to 500 investors.

Rule 504 is not available to an issuer who is subject to the Exchange Act reporting requirements, investment companies, or development stage companies that either have no specific business plan or purpose or has indicated that their business plan is to engage in a merger or acquisition with an unidentified company or companies, or other entity or person.

Rule 504 permits public solicitation of investors only under certain circumstances. General solicitation is allowed when the offering is registered under state law or when the offering is permitted under a state law that allows general solicitation solely to accredited investors.

Coordination with State Blue Sky Laws

The Rule 504 offering exemption does not, however, preempt state blue sky laws as does Rule 506 of Regulation D. Consequently, an issuer relying on Rule 504 must identify corresponding state securities law exemptions for the states where the issuer’s investors reside.

@Johnny Wahba, yessir, please give me a call when convenient.

Be sure to consider Investment Company Act of 1940 implications and more importantly the Investment Adviser Act of 1940.  At first you will probably be regulated by the state where you reside, but each state has its own investment adviser registration regime.  There are exemptions that you might be able to use, and there is one in Texas (and in other states, and at the national level too) known as the "private fund adviser" exemption where essentially you are exempt if you are selling solely to accredited investors.  You could argue too that you aren't giving advice with respect to securities and thus don't have to register as an investment adviser, but once you combine more than one real estate asset in a single entity, you are determining valuations of the securities by reference to multiple assets, and in that case, I think that you become an investment adviser (and can't say that you are just giving advice with respect to real estate).

There was a final Department of Labor rule released last spring that may have applicability to this.  Apart from that, though, I agree with what Don said.  If I find out anything more, I will write again.

What arose from my conversations with him really is identifying that the biggest challenge is making sure that the money legally may be wired to the United States.  There are prohibited investor lists that you would need to check, but beyond that, the securities laws compliance issues are relatively straight-forward.

@Dave Park, I would be happy to discuss this with you.  It sounds like you would want to form a business entity through which your investors would invest, and the entity would buy the development.  Ideally, you would control the entity and your investors would be passive.  What Bryan said is correct, in that as soon as you do what I just describe, and accept investors into a business entity that you are sponsoring, you have sold securities to the investors, and potentially could be held personally liable for securities fraud (i.e., there is no protection because you are operating through a business entity) if something unforeseen happens in the deal (even though you have done nothing wrong).  Also, you should consider the investment adviser rules, but there may be an exception to the registration requirements that might apply.  Also, watch out for compensating people for investor referrals because that implicates the broker-dealer laws.  Please call me if you would like to discuss.

@Michael Le, if you are concerned about issues with Chinese securities regulators, then yes.  That would be the Chinese equivalent of the SEC saying that you violated laws of China in connection with your sale of private securities in a US company to Chinese residents. I can only help you comply with US federal and (US) state securities laws. But, I would say that unless you knowingly included false information about China law that was a material inducement to an investor to invest and the investor sustained losses because of your statement, I think that it would be unlikely for a US court to enforce a Chinese anti-fraud law.  Unless there were something like that, I have to limit my representation to US law, so if you were fined by the Chinese SEC for failing to file some pre-sale notice, for example, the advice I provide you wouldn't extend to compliance with Chinese securities laws.  I may be able to find someone, and considering the massive influx of Chinese investment dollars, this is probably something that would be a good idea for me to learn about professionally. 

Thanks to Joel, Matt, and Bryan for the mentions.

The exemption we would rely on for the offer, sale, and issue of securities to foreign nationals is Regulation S under the Securities Act of 1933. If your selling efforts are directed solely outside the United States, you are subject to the rules of the securities regulators in the jurisdiction where the investors reside (i.e., China), but a US issuer can sell securities to a foreign national investor under Regulation S almost easier than under Regulation D (i.e., Rule 506). There is no requirement under Regulation S, for example, that the foreign investors be accredited. (Note, however, that if you have a group of foreign investors investing together in the United States through a single business entity (formed in the US, for instance, a Texas LLC), and that entity in turn invests in private securities, if the entity is saying it is accredited because all of its investors are accredited (Rule 501(a)(8)), its foreign investors will have to be accredited for those purposes -- that is a Regulation D rule and not Regulation S, however.) There are some specific provisions that you need to include in your subscription agreement or company agreement, the most noteworthy of which is that the foreign investor has to agree not to enter into any shorting transactions with respect to the private securities they are purchasing (how they could do that, I'm not sure, but it is a technical requirement of Reg S). I'm not sure about the laws of China, but as mentioned above, they have limitations on the amount you can take out of the country. The same level of disclosure in the Regulation S offering is required, of course, since you are still bound by the anti-fraud rules. The rule here is you are bound to disclose all material facts related to the investment, and not fail to disclose any fact where the failure is material. This is the case because the foreign investor still could sue you in a United States court for securities fraud.