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Legacy of 2012 JOBS Act: Deregulation of Angel Investing

Editor’s Note: This is an updated version of  a similar article, published in January of 2013. To view that article, click here.

The JOBS Act Makes Raising Capital Easier Than Ever

Signed into law by President Obama on April 5, 2012, the Jumpstart Our Business Startups Act (or JOBS Act) made it somewhat easier, and often less costly, for many startups and small businesses to raise capital from investors in private securities offerings. The act also helps growth-stage businesses raise capital in “mini-IPOs” with a scaled-down registration process.

The stated goal of the act was to boost economic recovery and help create new jobs. It does that by enhancing the flow of capital. While it helps growing companies reach out to more investors, it also helps angel investors find more growing companies in which to invest.

Indeed, from the point of view of an investor, the JOBS Act has (a) modestly increased the supply of private-company investment opportunities; and (b) resulted in a surge in the number of both accredited and non-accredited investors who participate in private securities offerings (including both equity and debt securities).

See the actual text of the JOBS Act (H.R. 3606) published by the Government Printing Office, and FAQs published by the SEC.

Raising Capital with The JOBS Act

The JOBS Act comprises six provisions to help startups and growing businesses raise capital in the U.S. financial markets:

  • Title I has been nicknamed the “IPO on-ramp.” It creates a class of businesses known as emerging growth companies (EGCs), defined as those with less than $1 billion of revenue, to be indexed for inflation. Title I reduces regulatory burdens and costs associated with going public for EGCs, and creates a “transitional on-ramp” that phases in certain SEC compliance measures over a number of years following an IPO. Title I is the only part of the JOBS Act that applies specifically to EGCs.
  • Title II lifts the ban on general solicitation and advertising for private offerings under Rule 506(b) of Regulation D. The benefit of general solicitation is that issuers can announce their offers to a much wider pool of potential investors. However, they can still sell shares only to accredited investors. Title II also permits general solicitation for the sale of some restricted securities to “qualified institutional buyers” under Rule 144A. We’ll explore Title II further below.
  • Title III is crowdfunding. It legalizes the offering of up to $1 million in equity and debt securities by private startups and small businesses to all investors (including non-accredited investors).

Crowdfunding can be done through two kinds of online intermediaries:

  • Broker-dealer platforms
  • Funding portals (the newly created class of regulated entities)

Under Title III, issuers may publicize their offerings only on the funding platform or portal where the offerings are listed; they may not generally solicit. We’ll talk more about Title III below.

You may also like, “New Crowdfunding Rules Fuse Capitalism with Social Networks”

  • Title IV increases the amount of securities that can be issued in a 12-month period by a private company from $5 million to $50 million under Regulation A. This has become known as Regulation A-plus. It is also being called the “mini-IPO” because it involves a scaled-down SEC registration process, which essentially lets a company go public without the massive costs of a traditional IPO. Both accredited and non-accredited investors can participate in Reg. A-plus offerings.
  • Title V increases the maximum allowable number of shareholders in a private company from 500 to 2,000 (up to 500 of whom may be non-accredited investors). Beyond that threshold, a company must register the applicable class of shares with the SEC under the Securities Act of 1934, which is a process as onerous as making an IPO registered under the Securities Act of 1933.
  • Title VI helps banks and bank holding companies stay private longer (or go private) by increasing the maximum allowable shareholder of record threshold from 500 to 2,000.

Deeper Dive: General Solicitation

The most important provision of the JOBS Act for accredited investors is Title II, which lifts the ban on general solicitation. The Securities Act of 1933 (as clarified by subsequent SEC regulations and court rulings) required that when a private company, or a person or entity acting on behalf of the company, offered or sold equity in its business to investors, it could solicit only those people with whom they had preexisting, established relationships, and whom they knew to be accredited or sophisticated investors.

Now, thanks to Title II of the JOBS Act, such companies have the option to solicit the public generally, although they still must restrict the sale of equity to accredited investors. That means investors in general, even those who have no relationship with anyone in the private capital markets, may receive Regulation D Rule 506(b) offerings.

Now, thanks to Title II of the JOBS Act, such companies have the option to solicit the public generally, although they still must restrict the sale of equity to accredited investors.

The SEC issued final rules for general solicitation in 2013. Thousands of people who never considered diversifying into alternative asset classes, and many who didn’t even realize they could, have done so since 2013.

Deeper Dive: Securities Crowdfunding

Title III of the JOBS Act created an exemption to the registration requirements of the Securities Act of 1933 to allow startups and growing businesses to sell equity to all investors, not just accredited ones, through online broker-dealer platforms and crowdfunding portals.

This “crowdfunding exemption” became known as Section 4(a)(6) of the Securities Act.

In 2014, the Securities and Exchange Commission, alongside the Financial Industry Regulatory Authority, issued rules for the operation of securities crowdfunding portals, swinging the door to online angel investing wide open.

You may also like, “CrowdFinance 7 Steps-#7 Manage Your Crowdfunding Portfolio”

The SEC and FINRA will continue to regulate equity crowdfunding, adjusting the rules and attempting to police the system against any fraud.

The new Section 4(a)(6) of the Securities Act limits the amount of capital that a company can raise via equity crowdfunding to $1 million per year.[2] It also limits the amount of money that non-accredited investors can invest based on their net worth or income to make sure nobody goes broke via crowdfunding. It does not, however, limit the number of investors to whom a company can sell shares via a funding portal.

The new Section 4(a)(6) of the Securities Act limits the amount of capital that a company can raise via equity crowdfunding to $1 million per year.

Whereas traditional angel deals typically required investors to put up tens or hundreds of thousands of dollars apiece just to walk in the door, equity crowdfunding investors can buy shares for less than $1,000 (in some cases less than $100).

So, companies that issue shares on crowdfunding portals or through broker-dealers, based on Section 4(a)(6), can expect to receive many smaller investments from a much larger number of investors. This essentially turns the traditional angel deal on its head: from a small group of “large” dollar amount investors to a big group—a crowd—of “small” dollar amount investors.

[1] For purposes of the 2,000 shareholder threshold, shareholders who received securities pursuant to an employee stock ownership plan (ESOP) or other employee compensation plan and crowdfunding investors will not be counted as shareholders of record.

[2] Some members of Congress have already proposed increasing the capital-raise limit to as much as $5 million; but we are not optimistic about this happening soon.

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About David M. Freedman

David M. Freedman has worked as a financial and legal journalist since 1978. He has served on the editorial staffs of business, trade and professional journals, most recently as senior editor of The Value Examiner (National Association of Certified Valuators and Analysts). He is coauthor of Equity Crowdfunding for Investors, published in June 2015 by…

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