New Securities and Exchange Commission (SEC) rules went into effect May 16, 2016 allowing companies to sell and offer securities through crowdfunding. These rules and amendments are designed to help start-up and early stage companies raise capital while providing investors with additional protection.

The final rules recognize crowdfunding as an evolving method of raising capital and permit individuals to invest in securities-based crowdfunding transactions subject to certain limits:

•    Issuers are capped at $1 million for the amount of capital they may raise through crowdfunding in any 12-month period. 

•    If the investor’s annual income or net worth is less than $100,000, the maximum that can be invested is the greater of $2,000 or 5% of the lesser of the investor’s annual income or net worth. 

•    If the investor’s annual income and net worth are equal to, or greater than $100,000, the maximum that can be invested is 10% of the investor’s annual income, but not to exceed $100,000.  

Calculating net worth involves adding up all of an investor’s assets and subtracting all liabilities. The resulting sum is the investor’s net worth. The value of a primary residence is not included in the net worth calculation. Correspondingly any mortgage or loan against a primary residence is not included in a liability unless the loan amount is over the fair market value of the house then it would count as a liability. Any increases in a loan amount within 60 days of the purchase will count as a liability as well. 

Investors can only invest in a crowdfunding offering through a broker dealer or funding portal both of which must be registered with the SEC and be a member of the Financial Industry Regulatory Authority. Companies cannot offer crowdfunding offerings directly. 

Broker dealers and funding portals that operate crowdfunding portals are required to offer disclosure to investors. These materials include, among other things, information about directors and officers, description of the business, use of proceeds, maximum offerings, deadline for the offering, details of related party transactions and risks. 

The new rules also provide for tiered financial disclosure to investors which depends on the amount of money raised by the company in the prior 12 months:
•    If the issuer raised $100,000 or less the issuer must disclose financial statements and specific line items from their income tax returns as certified by an officer of the company.
•    If the amount raised is between $100,000 and $500,000 the financial statements must be reviewed by an independent public accountant who must produce a review report.
•    If the amount is between $500,000 – $1 million and it is first time crowdfunding, then an accountants review report – otherwise the financial statements must be audited.
Funding portals and broker dealers are required to provide online forums for investors to discuss investment opportunities.  Investors have 48 hours to change their mind and cancel their investment.  If the company makes a material change to the offering terms, then the investor must be given 5 business days to reconfirm their investment. 

For more information, please see SEC Investor Bulletin: Crowdfunding for Investors For information on crowdfunding in Canada please call Barbara Hendrickson at BAX Securities Law (416) 601 -1004.

This publication is not intended to constitute legal advice. No one should act on it or refrain from acting on it without consulting with a lawyer. BAX does not warrant or guarantee the accuracy or currency or completeness of the publication. No part of this publication may be reproduced without the prior written permission of BAX Securities Law.