The Two Exemptions Available for Companies Under SEC Rule 506

The Two Exemptions Available for Companies Under SEC Rule 506

The Jumpstart Our Business Startups (JOBS) Act of 2012 lifted a ban on the public solicitation of private investments that had been in place for some 80 years. Now, companies that use Regulation D are permitted to raise capital from both accredited and non-accredited investors. SEC Rule 506 of Regulation D provides more information about how this works.

Regulation D
Reg D issued by the Securities and Exchange Commission (SEC) covers private placement exemptions. Under Regulation D, startups and small businesses can raise funds in a less expensive and faster way than by releasing the company to the public. It enables the raising capital through debt securities and equities without the need for SEC registration, although companies and investors must follow all binding federal and state requirements. This includes the filling out of required paperwork and the disclosing of certain important information.

Companies are required to electronically fill out “Form D.” However, this requirement is much less difficult than the preparations required for a public offering. Companies offering private securities are also required to disclose any “bad actor” events during the time period of issuing the security offering.

SEC Rule 506 provides two important exemptions companies may utilize when offering private securities, enabling them to raise an unlimited amount of capital – Rule 506 (b) and Rule 506 (c).

Rule 506 (b) Offerings
Rule 506 (b) allows the participation of an unlimited number of accredited investors and 35 non-accredited investors, identified as “sophisticated” investors. A non-accredited, sophisticated investor must possess sufficient knowledge and experience in financial and business matters. This knowledge and experience make them trustworthy to evaluate the risks and benefits (through a cost-benefit analysis) of a prospective investment opportunity.

However, SEC Rule 506 (b) does not allow issuers of securities to use general solicitation for advertising their offerings. Companies must remain available for questions posed by potential investors. Also, companies can choose the information they will disclose as long as it complies with anti-fraud regulations and does not contain any misleading or false information.

Rule 506 (c) Offering
Reg D 506 (c) applies to accredited investors. Under Rule 506 (c), companies may engage in general solicitation to advertise a private offering and remain compliant with the SEC’s requirements. However, all the investors in such an offering must be accredited investors. The company must also take the necessary steps to verify the accredited status of these investors. An unlimited number of investors may invest, allowing the company to raise an unlimited amount of capital. Also, Rule 506(c) investors to invest in a project immediately with no cool-off period to wait through.

As one can see, the SEC Rule 506 (b) and Rule 506(c) exemptions provide ways for both issuers and investors to obtain significant financial benefits under their requirements.

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