New SEC Rule 506(c) JOBS Act General Solicitation: the Don’ts and Do’s
Yesterday the SEC complied with Section 201(a)(1) of the JOBS Act. SEC Release No. 33-9415 adopts new Rule 506(c) and thereby removes the prohibition on general solicitation or general advertising for unregistered securities offerings made under Rule 506 of the Securities Act of 1933.
Before discussing what the new rule does, noting what it doesn’t do should be considered. It doesn’t allow just anyone to invest in, for example, a hedge fund. Although anyone can be solicited under the new rule, only accredited investors may actually buy. And the new rule makes no changes to the definition of “accredited investor.” For natural persons, an accredited investor remains 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; 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.
New Rule 506(c) doesn’t open all private offerings to general solicitation. It affects only Rule 506 offerings, and not Section 4(a)(2) offerings in general, which means that even after the effective date of Rule 506(c), an issuer relying on Section 4(a)(2) outside of the Rule 506(c) exemption will be restricted in its ability to make public communications to solicit investors for its offering.
Finally, the new rule doesn’t eliminate Rule 506(b). Issuers will continue to have the ability under Rule 506(b) to conduct Rule 506 offerings subject to the prohibition against general solicitation. In other words, issuers who refrain from making general solicitations can still make privately offered securities available to non-accredited investors who meet Rule 506(b)’s sophistication requirements.
What the new rule does do is require issuers invoking the general solicitation provision to take certain steps to insure only accredited investors invest.
The requirement to take reasonable steps to verify accredited investor status is separate from and independent of the requirement that sales be limited to accredited investors, and must be satisfied even if all purchasers happen to be accredited investors. Whether the steps taken are “reasonable” will be an objective determination by the issuer in the context of the particular facts and circumstances of each purchaser and transaction. Among the factors that issuers should consider under this facts and circumstances analysis are: (1) the nature of the purchaser and the type of accredited investor that the purchaser claims to be; (2) the amount and type of information that the issuer has about the purchaser; and (3) the nature of the offering, such as the manner in which the purchaser was solicited to participate in the offering, and the terms of the offering, such as a minimum investment amount.
In addition to adopting a principles-based method of verification, the SEC includes in Rule 506(c) four specific non-exclusive methods of verifying accredited investor status for natural persons that, if used, will be deemed to satisfy the verification requirement in Rule 506(c).
Under the first method, an issuer can satisfy the verification requirement by reviewing copies of any IRS form that reports income and obtaining a written representation from the prospective investor that he or she has a reasonable expectation of reaching the income level necessary to qualify as an accredited investor during the current year.
Under the second method, an issuer satisfies the verification requirement by reviewing such things as a prospective investor’s bank and brokerage statements as well as his or her consumer credit reports. An issuer employing this method must also obtain a written representation from the prospective investor that he or she has disclosed all relevant liabilities.
Under the third method an issuer satisfies the verification requirement by obtaining a written confirmation from a registered broker-dealer, an SEC-registered investment adviser, a licensed attorney, or a certified public accountant that he or she has taken reasonable steps to verify that the purchaser is an accredited investor within the prior three months and has determined that such purchaser is an accredited investor.
Under the fourth method, an issuer satisfies the verification requirement by obtaining a statement from the prospective investor certifying that he or she qualifies as an accredited investor.
As required by Section 201(a)(2) of the JOBS Act the new rule also permits securities sold pursuant to Rule 144A to be offered to persons other than qualified institutional buyers (“QIBs”), including by means of general solicitation, provided that the securities are sold only to QIBs.
And finally, the new rule amends Form D, which is the notice that issuers must file with the SEC when they sell securities under Regulation D. The revised form adds a separate box for issuers to check if they are claiming the new Rule 506(c) exemption that permits general solicitation or general advertising.
The new rule is effective 60 days after publication in the Federal Register, which is expected during the week of July 15. View the SEC’s adopting release and the text of the new rule here.