How Many Shareholders Can Own Non-registered Stock

Sept. 24, 2014

The SEC'southward Role of Investor Education and Advocacy is issuing this Investor Message to educate investors nigh investing in unregistered securities offerings, or private placements, under Regulation D of the Securities Act.

What is a private placement?

A securities offering exempt from registration with the SEC is sometimes referred to as a private placement or an unregistered offering. Under the federal securities laws, a company may non offer or sell securities unless the offer has been registered with the SEC or an exemption from registration is available.

More often than not speaking, individual placements are not subject to some of the laws and regulations that are designed to protect investors, such as the comprehensive disclosure requirements that apply to registered offerings. Individual and public companies appoint in private placements to enhance funds from investors. Hedge funds and other individual funds also engage in private placements.

Equally an individual investor, you may exist offered an opportunity to invest in an unregistered offering. You may exist told that you are beingness given an sectional opportunity. The opportunity may come up from a broker, associate, friend or relative. You lot may have seen an ad regarding the opportunity. The securities involved may exist, amid other things, common or preferred stock, express partnerships interests, a membership interest in a express liability company, or an investment product such as a note or bond. Keep in mind that private placements can be very risky and whatsoever investment may be difficult, if not most impossible to sell.

Red flags. Fraudsters may use unregistered offerings to conduct investment scams. Come across our Investor Alarm about ruddy flags to watch out for in an unregistered offering.

Unregistered offerings ofttimes can exist identified by capitalized legends placed on the offer documents and on the certificates or other instruments that stand for the securities. The legends will land that the offer has not been registered with the SEC and the securities have restrictions on their transfer. Y'all should read the offer documents carefully to understand the risks involved.

What is Regulation D?

When reviewing individual placement documents, you may see a reference to Regulation D. Regulation D includes three SEC rules—Rules 504, 505 and 506—that issuers frequently rely on to sell securities in unregistered offerings. The entity selling the securities is commonly referred to as the issuer. Each dominion has specific requirements that the issuer must meet. If you take reason to believe that an unregistered offer claiming to rely on one of these rules does not satisfy the applicative requirements, consider this a red flag about the investment.

Rule 504

Dominion 504 permits sure issuers to offering and sell upwardly to $1 1000000 of securities in any 12-month menstruum. These securities may be sold to any number and type of investor, and the issuer is not subject to specific disclosure requirements. Mostly, securities issued under Dominion 504 will exist restricted securities (equally further explained below), unless the offering meets certain additional requirements. As a prospective investor, yous should ostend with the issuer whether the securities being offered nether this rule volition be restricted.

Rule 505

Under Dominion 505, issuers may offering and sell up to $5 million of their securities in whatsoever 12-calendar month period. In that location are limits on the types of investors who may purchase the securities. The issuer may sell to an unlimited number of accredited investor south, merely to no more than 35 not-accredited investors. If the issuer sells its securities to non-accredited investors, the issuer must disclose certain information nigh itself, including its financial statements. If sales are made only to accredited investors, the issuer has discretion as to what to disclose to investors. Any information provided to accredited investors must exist provided to non-accredited investors.

Accredited investor. An individual volition exist considered an accredited investor if he or she:

earned income that exceeded $200,000 (or $300,000 together with a spouse) in each of the prior two years, and reasonably expects the aforementioned for the electric current year, OR
has a net worth over $1 meg, either lonely or together with a spouse (excluding the value of the person'due south chief residence and whatsoever loans secured by the residence (up to the value of the residence)).

Rule 506

An unlimited amount of coin may be raised in offerings relying on one of two possible Rule 506 exemptions. Similar to Dominion 505, an issuer relying on Rule 506(b) may sell to an unlimited number of accredited investors, but to no more than 35 non-accredited investors. Still, different Rule 505, the non-accredited investors in the offering must exist financially sophisticated or, in other words, have sufficient cognition and experience in financial and business matters to evaluate the investment. This sophistication requirement may be satisfied past having a purchaser representative for the investor who satisfies the criteria. An investor engaging a purchaser representative should pay particular attention to whatever conflicts of interest the representative may have.

As with a Rule 505 offering, if non-accredited investors are involved, the issuer must disclose sure information about itself, including its financial statements. If selling only to accredited investors, the issuer has discretion as to what to disclose to investors. Whatever information provided to accredited investors must be provided to non-accredited investors.

Full general advertizing. Issuers relying on the Dominion 506(c) exemption can generally advertise their offerings. As a result, you may see an investment opportunity advertised through the Internet, social media, seminars, print, or radio or goggle box broadcast. Just accredited investors, yet, are immune to purchase in a Dominion 506(c) offering that is widely advertised, and the issuer volition have to take reasonable steps to verify your accredited investor status.

What should you do before investing?

Private placements may be pitched as a unique opportunity being offered to only a scattering of investors, including you. Be conscientious. Don't be fooled by this high-pressure sales tactic. Fifty-fifty if the deal is "unique," it may not be a good investment. It is important for yous to obtain all the information that you need to make an informed investment conclusion . In fact, issuers relying on the Rule 505 and 506(b) exemptions from registration must provide non-accredited investors an opportunity to ask questions and receive answers regarding the investment. If an issuer fails to adequately respond your questions, consider this a warning against making the investment.

Unlike registered offerings in which certain information is required to be disclosed, investors in private placements are by and large on their ain in obtaining the information they need to make an informed investment decision. Investors need to fully understand what they are investing in and fully appreciate what risks are involved.

Some things to consider.

What do the fiscal statements, if provided, tell you about the business?
Are the claims and expectations reasonable?
How reasonable is the issuer'south reliance on a particular technology, client, product or natural resources claim?
Who are the issuer'south competitors?
What is the experience and groundwork of direction?
How long has the issuer been in business and has the issuer conducted prior offerings?
How does the issuer program to use the money raised?
If the securities you lot are investing in have transfer restrictions, when will and how may the restrictions exist lifted?
Because you may not exist able to resell your investment easily, are you comfy property it indefinitely?

In do, issuers often provide a document chosen a private placement memorandum or offering memorandum that introduces the investment and discloses information about the securities offering and the issuer. Withal, this document is non required and the absence of this certificate or like disclosure may exist a ruby flag to consider before investing. Moreover, private placement memoranda typically are non reviewed by whatsoever regulator and may not nowadays the investment and related risks in a balanced light .

All issuers relying on a Regulation D exemption are required to file a document called a Form D no later on than fifteen days later they first sell the securities in the offering. The Course D will include cursory information almost the issuer, its management and promoters, and the offering itself. If the offering yous are considering has prior sales, yous tin can search for the Form D filing on the SEC's website at sec.gov/edgar/searchedgar/webusers.htm.

Form D is not registration. Fraudsters may effort to lure you into investing with them by falsely challenge to be registered, or that the offering is registered, with the SEC. In a recent example, SEC 5. Fleet Mutual Wealth, the SEC obtained a federal court order freezing stolen investor money. The SEC alleged that the defendants falsely promised investors guaranteed returns of 2%-3% per week through the use of a high frequency trading strategy, but instead used investors' coin to operate a pyramid scheme. The defendants allegedly recruited investors by falsely claiming that their business firm was "registered" or "duly registered" with the SEC and pointing to the business firm'south Form D filings to support this misrepresentation.

What if my broker recommends the investment?

If your broker recommends the investment, you lot should know that your broker, along with his or her firm, has a duty to conduct a reasonable investigation of the investment and the issuer's representations virtually it. The scope of the investigation depends on the circumstances of the investment, including its complexity and the risks involved. For example, the private placement of shares by a large public visitor may warrant less investigation than a start-upwards with little or no track tape. Generally, a broker should not just rely blindly on the issuer for information just should separately investigate and verify an issuer's statements and claims. If your broker is recommending the investment and fails to satisfy its duties to investigate the issuer and the offering, this failure could constitute a violation of the antifraud provisions equally well equally other federal securities laws.

In improver, your broker must make up one's mind whether an investment in the private placement is suitable for you. This ways your broker will take to consider factors such as your age, financial state of affairs, current and future needs, investment objectives and tax condition.

Your broker'south duties, even so, should not substitute for your own judgment in making the investment. Your broker can assist and enable you lot to better understand the opportunity and risks, as well as investigate and get together additional data, just it is your money, your run a risk and your determination whether to invest. Yous should also ask about the compensation your broker is receiving for the transaction and whatever relationships, business concern ties or other conflicts of interest that may exist between your banker and the issuer.

Brokers' misconduct. In SEC five. Provident Royalties, LLC, Provident allegedly raised $485 meg through diverse unregistered offerings from at least 7,700 investors nationwide, promising high returns and misrepresenting how investor funds would be used. In a split case, the Financial Manufacture Regulatory Authority (FINRA)—a body that regulates brokers—sanctioned a number of brokers involved in the offerings for selling securities without having a reasonable basis for recommending the securities.

In another case, In the Matter of Advanced Equities, Inc., the SEC charged a broker with allegedly making exaggerated misstatements to investors when pitching an unregistered offer of securities in a non-public culling free energy company. The SEC alleged, for example, that the broker said the company had more than $2 billion in order backlogs when the backlog never exceeded $42 million.

Investment advisers. Investment advisers are discipline to unlike duties than brokers. Investment advisers accept a fiduciary duty to act in the best interests of their clients. The groundwork and qualifications of an investment adviser registered with the SEC are available through the Investment Adviser Public Disclosure website.

What should I know almost restricted securities?

Mostly, almost securities that yous larn in a private placement will be restricted securities. You should not expect to be able to easily and rapidly resell your restricted securities. In fact, you should expect to concord the securities indefinitely .

There are two main things to think nearly earlier buying restricted securities. The beginning is that unless y'all have made arrangements with the issuer to resell your restricted securities every bit part of a registered offer, you lot will need to comply with an exemption from registration to resell. One rule commonly relied upon to resell requires y'all to hold the restricted securities for at least a year if the company does not file periodic reports (such as annual and quarterly reports) with the SEC. You may wish to rent an chaser to aid y'all comply with the legal requirements to resell restricted securities. Issuers may require a legal opinion that you satisfy an exemption to resell your restricted securities.

The 2nd thing to remember about is whether they are easy to sell. This effect primarily affects the sale of restricted securities in private companies. Information nigh a private company is not typically available to the public, and a private visitor may non provide information to you or your buyer. The restricted status of your securities may besides transfer to your buyer. For these reasons, it may be difficult to concenter buyers.

In add-on to these considerations, specific contractual restrictions that you may enter into when investing may forbid you from freely transferring the securities.

What else should I know?

Despite not beingness subject to the same disclosure obligations as registered offerings, private placements are subject to the antifraud provisions of the federal securities laws. Whatever information provided must be true and may non omit any fabric facts necessary to preclude the statements fabricated from being misleading. You should be enlightened that information technology may be difficult or impossible to recover the money you invest in an offering that turns out to be fraudulent. In improver, fifty-fifty though the offering may be exempt from SEC registration, the offering may accept to separately comply with land securities laws, including state registration requirements or a state exemption from registration.

Background cheque. It is always a good idea to cheque on the background of an investment professional. It is easy and free. Details of an investment professional's background and qualifications are bachelor through the Investment Adviser Public Disclosure website and FINRA's BrokerCheck. If y'all have any questions on checking the background of an investment professional, phone call the SEC's toll-free investor assistance line at (800) 732-0330. You can too check with your state securities regulator regarding the person soliciting your investment.

Individual placements may offer great opportunity. However, the attractive potential rewards often come with high risks of loss .

Additional Information

For more information about Regulation D offerings, please visit sec.gov/answers/regd.htm.

For our Investor Alert about reddish flags to watch out for in an unregistered offering, visit investor.gov/news-alerts/investor-alerts/investor-warning-ten-ruddy-flags-unregistered-offering-may-be-scam.

For our Investor Message nigh hedge funds, visit investor.gov/news-alerts/hedge-funds.

For more information about restricted securities, visit sec.gov/investor/pubs/rule144.htm.

For our Investor Bulletin about accredited investors, visit investor.gov/news-alerts/investor-bulletins/investor-bulletin-accredited-investors.

For our Investor Alarm near generally advertised unregistered offerings, visit investor.gov/news-alerts/investor-alerts/investor-alert-advertising-unregistered-securities-offerings.

For the SEC release regarding SEC v. Provident Royalties, LLC, visit sec.gov/litigation/litreleases/2009/lr21118.htm.

For FINRA's news releases regarding the sanctioning of brokers in connection with the Provident Royalties offerings, visit finra.org/newsroom/newsreleases/2011/P123441 and finra.org/newsroom/newsreleases/2011/P125193.

For FINRA's regulatory detect regarding a broker-dealer's obligation to bear reasonable investigations, visit finra.org/Manufacture/Regulation/Notices/2010/P121299.

For the SEC release regarding In the Matter of Avant-garde Equities, Inc., visit sec.gov/News/PressRelease/Detail/PressRelease/1365171484816.

For more information nearly investment advisers, visit investor.gov/researching-managing-investments/working-investment-professionals/brokers-advisors/research-advisor.

For our Investment Adviser Public Disclosure (IAPD) website, visit adviserinfo.sec.gov.

For FINRA'southward BrokerCheck resources, visit world wide web.finra.org/Investors/ToolsCalculators/BrokerCheck/.

For more data about recovering funds from fraudulent investment schemes, visit sec.gov/answers/recoverfunds.htm.

For our Investor Alarm about false claims of SEC registration, visit investor.gov/news-alerts/investor-alerts/investor-alert-beware-false-claims-sec-registration.

For the SEC release regarding SEC v. Fleet Mutual Wealth, visit sec.gov/News/PressRelease/Detail/PressRelease/1370540883619.

For our Investor Alarm well-nigh pyramid schemes, visit investor.gov/news-alerts/investor-alerts/investor-alarm-beware-pyramid-schemes-posing-multi-level-marketing-progr.

For our Investor Alarm about marijuana-related investments, visit investor.gov/news-alerts/investor-alerts/investor-alert-marijuana-related-investments.

For our Investor Alert near Bitcoin and other virtual currency-related investments, visit investor.gov/news-alerts/investor-alerts/investor-alert-bitcoin-other-virtual-currency-related-investments.

For our Investor Alert about private oil and gas offerings, visit investor.gov/news-alerts/investor-alerts/investor-alert-individual-oil-gas-offerings.

For FINRA's investor alert virtually private placements, visit finra.org/Investors/ProtectYourself/InvestorAlerts/PrivateOfferings/P339650.

For NASAA's investor warning nigh individual placements, visit nasaa.org/wp-content/uploads/2013/04/Private-Placements.pdf.

For boosted educational information for investors, run across the SEC'due south Office of Investor Instruction and Advocacy'south website for investors, Investor.gov.