The world of raising investment capital changed on September 23rd 2013. The rules that regulate how capital is raised were officially changed by the SEC as a result of the Jumpstart Our Business Startups Act (JOBS Act), passed in April 2012.
The new regulation D (Reg. D) rules are defined in 506(c) and allow developers and real estate syndicators to publicly advertise and market their projects to accredited investors. The term accredited is misleading as there is no accreditation process just requirements that state you are accredited if you have a net worth of at least $1 million (excluding your primary residence) or an annual individual income of at least $200,000 ($300k jointly with a spouse). You may be asking yourself what actually changed as developers and syndicators have had private investors in the past. These were through referrals, handshakes, and private pitches at accredited investor only meetings. There was no allowance for a public ask for capital unless. Now anyone can be asked for an investment and the accredited part can be dealt with later.
The rules themselves were put in place with the goal of easing the process of raising capital for startups. Due to the way the regulations are written though, the rules also apply to hedge funds, movies, real estate projects, etc. Essentially any company raising private capital uses Reg. D and now there is a new set of rules (the “c” rules) in Reg. D in addition to the old “a” or “b” rules to perform a capital raise.
For you, this may not mean that you will be putting on a Super Bowl ad, but I wouldn’t put it past a hedge fund who is looking to attract new investors. The only pre-requisite to that level of advertising is a proper filing with the SEC and properly verifying the accredited status of their investors. This could be problematic for the average investor who is not accredited and is watching the ads on TV or wherever they end up. To protect the average investor, the SEC has added more stringent verification for 506(c) offerings. If you are raising capital you need to verify status by one of these methods:
- Verify income – using tax returns, pay stubs, etc. You need to physically see and retain a copy of the documentation.
- Verify net worth – by reviewing bank or brokerage statements, appraisal reports, credit reports, etc.
- Third party – verification is allowed using a letter from a broker-dealer, registered investment advisor, attorney, or CPA.
- Grandfathering – the investor into a new round of financing after they have already invested in a previous round.
These are strict requirements with a good purpose, to protect the unaccredited investor from being swept up in the public advertising and marketing campaign. Despite the good purpose, the new requirements are quite the burden for the average real estate developer or syndicator. This is where the growing online resources such as RealtyMogul, Collaperty, and FundRise come into play. These online resources provide a marketplace where real estate projects can be publicly advertised and investor status verification can be outsourced. For a more complete list of online marketplaces for accredited investments on my website, use this shortened URL http://wp.me/pS3iU-Af.
So what do you need to know if you are going to try and publicly raise capital?
- Speak to your lawyer – often
- You now have a strict burden of verifying your investors are accredited. Self-attestation won’t be enough.
- You will have to file your intention to publicly raise capital with the SEC before you generally solicit.
- You will also have to file every public communication you make with the SEC and include specific disclaimers in your public messaging.
One more important fact, if you do generally solicit for investors and don’t file your one time SEC filing begging for forgiveness, you will be stuck in a 1yr penalty box that will deny you the right to generally solicit using 506(c).
The good news is that you can still raise funds privately under the old regulations such as 506(a); which allows general solicitation but requires investors and investment to be local or 506(b) which does not allow general solicitation but allows investments of any size and location.
If you are interested in exploring raising private capital or investing your private capital I’m here to help.