Requirements for
Meeting Regulation D
Rule 501 - Definitions and Terms Used in Regulation
D
The
most relevant portion of Rule 501 is the definition of an “accredited investor.”
• Accredited
Investor - Although there are several categories available to satisfy this
standard, there are two generally relied upon approaches for individual
investors. The more prominent is the ‘net worth’ standard of $1MM, exclusive of
primary residence. As an alternative for individual investors there is the
‘net income’ test, requiring income in excess of $200,000 in each of the two
most recent years or joint income with one’s spouse in excess of $300,000 in
each of those years and a reasonable expectation of reaching the same income
level in the current year. For the
institutional investor, the most common standard met is having total assets in
excess of $5MM.
Rule 502 - General Conditions to Be Met
Rule
502 provides conditions for funds qualifying under the Regulation D Safe Harbor
provisions. Issued securities must
comply with certain integration rules, and limits on resale. A fund must also furnish certain information
to any non-accredited investors in any offering.
Most
notable among these conditions, Rule 502 contains public offering restrictions
in accordance with rule 4(2) of the Securities Act.
• No Public Offering of Securities - Neither
the issuer nor any person acting on its behalf shall offer or sell the
securities by any form of general solicitation or general advertising,
including, but not limited to, the following:
- Any advertisement, article, notice or
other communication published in any newspaper, magazine, or similar media or
broadcast over television or radio; and
- Any seminar or meeting whose attendees
have been invited by any general solicitation or general advertising.
There are certain exceptions for
activities held outside of the United States, including journalist access to
press conferences, meetings with an issuer or its selling representatives, and
press-related materials.
Rule 503 - Filing of Notice of Sales
Rule
503 governs the filing of Form D with the SEC.
An issuer offering or selling securities in reliance on Rule 504, Rule
505 or Rule 506 shall file with the SEC five copies of a notice on Form D no
later than 15 days after the first sale of securities.
Rule 504 - Exemption for Limited Offerings and Sales
of Securities Not Exceeding $1,000,000
Rule
504 provides an exemption to registration where no more than $1MM of securities
are offered during any 12 month period.
Securities Exchange Act of 1934 companies (those subject to the
reporting requirements of section 13 or 15(d) thereof), investment companies,
and certain development stage companies may not employ the Rule 504
exemption.
Note
that under certain conditions, Rule 504 exempt companies may engage in general
solicitation in connection with securities.
Rule 505 - Exemption for Limited Offers and Sales of
Securities Not Exceeding $5,000,000
Rule
505 provides an exemption to registration where no more than $5MM of securities
are offered during any 12 month period, and there is a limited number of
non-accredited investors in any offering.
Investment companies may not employ the Rule 505 exemption.
• Limitation
on Number of Purchasers - Requires that there are no more than, or the
issuer reasonably believes there are no more than, 35 non-accredited investor purchasers
of securities from the issuer in any offering under this exemption.
Rule 506 - Exemption for Limited Offers and Sales
without Regard to Dollar Amount of Offering
Rule 506 provides an exemption where a fund meets conditions for both the nature of investors, and the number of non-accredited investors in any offering. Qualifying funds are permitted to raise an unlimited amount of capital.
- Limitation
on Number of Purchasers - Requires that there are no more than, or the
issuer reasonably believes that there are no more than, 35 non-accredited
investor purchasers of securities from the issuer in any offering under this
exemption.
- Nature
of Purchasers - Each non-accredited investor, either alone or with his
purchaser representative(s), must have such knowledge and experience in
financial and business matters that he is capable of evaluating the merits and
risks of the prospective investment, or the issuer reasonably believes
immediately prior to making any sale that such purchaser comes within this
description.
Disqualification
from Regulation D
Rule 507 - Disqualifying Provision Relating to
Exemptions Under Rule 504, Rule 505 and Rule 506
Rule
507 provides that no exemption under Regulation D will be available if an
issuer has been found to be in violation of Rule 503 Form D filing requirements.
Rule 508 - Insignificant Deviations from a Term,
Condition or Requirement of Regulation D
Rule
508 describes conditions for certain insignificant violations not resulting in the loss of exemption
under Regulation D.
Note
that violations of general solicitation rules, maximum dollar limits or number
of purchasers will be deemed significant.
“Bad Actors” Provision
As
set forth in the Dodd-Frank Bill, the SEC will promulgate rules that disqualify
“bad actors” from relying on the Rule 506 exemption under Regulation D. Currently, these rules only apply to Rule 505
exemptions. The SEC will issue this set
of rules by July 21, 2011.
The
new provisions bar an individual that:
(1)
is subject to a final order of an appropriate regulatory body that bars the
person from association with an entity regulated by such authority, engaging in
the business of securities, insurance, or banking, or engaging in savings
association or credit union activities, or constitutes a final order based on a
violation of any law or regulation that prohibits fraudulent, manipulative, or
deceptive conduct within the 10-year period ending on the date of the filing of
the offer or sale; or
(2)
has been convicted of any felony or misdemeanor in connection with the purchase
or sale of any security or involving the making of any false filing with the
Commission.
*
Nothing in these
rules obviates the need to comply with any applicable state law relating to the
offer and sale of securities. Regulation
D is intended to be a basic element in a uniform system of Federal-State
limited offering exemptions consistent with the provisions of sections 18 and 19(c)
of the Act. In those states that have
adopted Regulation D, or any version of Regulation D, special attention should
be directed to the applicable state laws and regulations, including those
relating to registration of person who receive remuneration in connection with
the offer and sale of securities, to disqualification of issuers and other
persons associated with offerings based on state administrative orders or
judgments, and to requirements for filings of notices of sales.
It
is important to note that hedge funds are subject to all federal securities
laws, and while this article discusses a particular set of registration
exemptions to the Securities Act of 1933 under Regulation D, there are several
other important federal laws for sponsors and managers to keep in mind:
•
Securities Exchange Act of 1934
•
Investment Advisers Act of 1940
•
Investment Company Act of 1940
•
Commodities Exchange Act
* * *
Robert
Kiggins, Esq. of McCarthy
Fingar LLP, is author of the blog, and may be reached at (914) 385-1024 or rkiggins@mccarthyfingar.com.
