SEC Considers Exempting 'Crowdfunding' From Registration Requirements, Corp Fin's Cross Tells Congress

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At a Congressional hearing yesterday, the SEC's Director of the Division of Corporation Finance testified that the SEC staff is currently considering- and a newly formed Advisory Committee on Small and Emerging Companies will also consider and provide input on - potential methods to enhance the ability of small businesses to raise capital, including by potentially increasing the minimum size of offerings that would be exempted from SEC registration requirements, including (but not limited to) small business or startup fundings conducted online and/or through social media referred to via as 'crowdfunding.'

The term 'crowdfunding' and a possible tie to an exemption from SEC Registration requirements to loosen regulatory burdens on startup companies to encourage capital formation and job growth was popularized recently in a White House Fact Sheet posted in connection with President Barack Obama's proposed American Jobs Act and related initiatives including the Startup America partnership, and further publicised in a number of blog posts by the Administration, e.g. here and here. The reference to 'crowdfunding' in the White House Fact Sheet is cited below.

A personal observation - and please see the disclaimer on the right side of our blog: it is very interesting to see continued references to the challenges of complying with the Sarbanes-Oxley Act, presumably in particular Section 404 on internal control reporting, with respect to challenges to small business and start-ups in particular. This issue was debated not only after Sarbox (resulting in some amendments to the initial SEC and PCAOB rulemaking implementing Sarbox 404) but also during and after the Dodd-Frank Act which provided certain additional exemptions and calls for studies. The continued interest in Sarbox could be the thinking among some that there is something of a fixed cost and/or minimal staffing component to certain of the Sarbox 404 requirements.


Crowdfunding is referenced in the White House Fact Sheet as follows:


"As part of the President’s Startup America initiative, the Administration will pursue efforts to reduce the regulatory burdens on small business capital formation in ways that are consistent with investor protection. This includes working with the SEC to explore ways to address the costs that small and new firms face in complying with Sarbanes-Oxley disclosure and auditing requirements. The administration also supports establishing a “crowdfunding” exemption from SEC registration requirements for firms raising less than $1 million (with individual investments limited to $10,000 or 10% of investors’ annual income) and raising the cap on “mini-offerings” (Regulation A) from $5 million to $50 million. This will make it easier for entrepreneurs to raise capital and create jobs."

In her testimony yesterday before the House Committee on Oversight and Government Reform's Subcommittee on TARP, Financial Services and Bailouts of Public and Private Programs, Corp Fin Director Meredith Cross described 'crowdfunding' and the SEC's consideration of same as follows:


Generally, the term “crowdfunding” is used to describe a form of capital raising whereby groups of people pool money, typically comprised of very small individual contributions, to support an effort by others to accomplish a specific goal. This funding strategy was initially developed to fund such things as films, books, music recordings, and charitable endeavors. At that time, the individuals providing the funding were more akin to contributors than “investors” and were either simply donating funds or were offered a “perk,” such as a copy of the related book.

Another personal observation: (I remind you again of the disclaimer posted on the right side of this blog): My own experience with 'crowdfunding' earlier this year was in responding to a request for funding a project posted by a singer-songwriter friend (NB, that would be you), which he posted on facebook , to fund a new CD and songbook. His facebook post, in turn, linked to specific info about his project posted on the crowdfunding webite , including his funding goal, and total amount raised toward that goal. Those wishing to make a contribution to the project could do so via electronic fund transfer via Amazon. An apparent ongoing debate about vs. other crowdfunding sites is the fact that kickstarter runs an 'all or nothing' funding collection program, either the goal is met and everyone's pledges are paid, or the goal is not met and (presumably) no one's pledges are collected. Read more about the all-or-nothing kickstarter model and other facts on's FAQs. Significantly, this was not an 'investment' and did not purport to be a 'security' but I offer this example up for those of you interested in learing about some of the crowdfunding mechanisms out there, such as those referenced in Cross' testimony. (Postscript: my singer-songwriter friend NB met his funding goal.)

Following are some additional highlights from Cross's testimony on crowdfunding yesterday:


As these capital raising strategies did not provide an opportunity for profit participation, initial crowdfunding efforts did not raise issues under the federal securities laws.

…Proponents of crowdfunding are advocating for exemptions from the Securities Act registration requirements for this type of capital raising activity in an effort to assist early stage companies and small businesses.

...For example, the Commission received a rulemaking petition requesting that the Commission create an exemption from the Securities Act registration requirements for offerings with a $100,000 maximum offering amount that would permit individuals to invest up to a maximum of $100.

…in considering whether to provide an exemption from the Securities Act registration requirements for capital raising strategies like crowdfunding, the Commission needs to be mindful of its responsibilities both to facilitate capital formation and protect investors.

The Commission’s rules previously included an exemption, Rule 504, which allowed a public offering to investors (including non-accredited investors) for securities offerings of up to $1 million, with no prescribed disclosures and no limitations on resales of the securities sold. These offerings were subject only to state blue sky regulation and the antifraud and other civil liability provisions of the federal securities laws.

In 1999, that exemption was significantly revised due in part to investor protection concerns about fraud in the market in connection with offerings conducted pursuant to this exemption.

In assessing any possible exemption for crowdfunding, it would be important to consider this experience and build in investor protections to address the issues created under the prior exemption.

Some of the questions to consider with regard to crowdfunding include:
what information — for example, about the business, the planned use of funds raised, and the principals, agents, and finders involved with the business — should be required to be available to investors;

what restrictions should there be on participation by individuals or firms that have been convicted or sanctioned in connection with prior securities fraud;

should a Commission filing or notice be required so that activities in these offerings could be observed;

should securities purchased be freely tradable; and

should websites that facilitate crowdfunding investing be subject to regulatory

Advisory Committee on Small and Emerging Co's
SEC's Cross also told the Congressional subcommittee that input on crowdfunding and other capital formation issues would be sought from the SEC's new Advisory Committee on Small and Emerging Companies. This new advisory committee, and its members, were announced earlier this week in this SEC press release.

Bills Introduced To Exempt Certain Crowdfunding
As reported by Bloomberg's Phil Mattingly today, a number of Congressional bills have already been submitted to provide certain exemptions from SEC registration requirements for crowdfunding. See Mattingly's article, U.S. House Republicans Embrace Obama Push to Ease SEC Rules.


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