A brief analysis of the Crowd Fund Act of 2012.

1. The CROWDFUND Act
of 2012
Analysis by:
Jeffrey A. Koeppel
Elias, Matz, Tiernan & Herrick LLP
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2. Brief History
A bipartisan effort to permit more small businesses
access the capital markets by decreasing the
regulatory burden.
A combination of six House bills, with significant
investor safeguards added by the Senate.
Signed by President Obama on April 5, 2012.
Final regulations on crowd funding to be published
by the U.S. Securities and Exchange Commission by
January 1, 2013.
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3. Crowd Funding Flow Chart
Investor Connects on the Internet Funding Portal
Deposits Funds With: Presents Issuer
With: $ to Public
Escrow Agent Issuer
Delivers Funds to: $ Target Amount Sells securities to:
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4. How Does Crowd Funding Work?
Issuer engages Funding Portal to act as an intermediary and to post Issuer’s
offering on the Portal’s website. Issuer provides Portal with its disclosure about
the company and the offering.
Funding Portal hires the Escrow Agent to process subscription payments and
stock issuances.
Investor accesses the Portal website to obtain information about the Issuer and
the offering.
Investor decides to subscribe for Issuer’s securities over the Portal; executes and
delivers subscription documents to Portal and delivers $$ to Escrow Agent for the
shares subscribed.
Investor may rescind his/her subscription under certain circumstances and get a
refund.
If the targeted amount of the offering is raised by the deadline, Escrow Agent
releases subscription funds to Issuer and provides stock certificates (paper or
electronic) to Investor.
If targeted amount is not raised by the deadline, Escrow Agent returns funds to
Investor.
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5. What is a “Funding Portal”?
Any person acting as an intermediary in a transaction
involving the offer or sale of securities for others
solely in a crowd funding transaction that does NOT:
• Offer investment advice or recommendations;
• Solicit purchases or sales offered on its website;
• Compensate employees, agents or others for such
solicitation or based on the sale of securities;
• Hold, manage or handle investor funds or securities
or
• Engage in other SEC-prohibited activities.
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6. Funding Portal Qualifications
To be exempt from having to register with the SEC as a
broker-dealer, a Funding Portal must:
• Remain subject to the examination, enforcement and
rulemaking authority of the SEC;
• Become a member of a national securities
association and register with the SEC and a self
regulatory organization;
• Remain subject to further SEC regulation; and
• Comply with the other provisions of the Crowd Fund
Act.
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7. Funding Portal Rules
Can be a broker or funding portal;
Must register with SEC and SRO (FINRA, other?);
Provide disclosures (risk) and education materials to investors;
Obtain investor certifications;
Perform background checks on issuer principals;
File disclosure materials with the SEC and provide to investors;
No distribution of proceeds to issuer unless hit target and permit
investors to rescind their subscription;
Protect investor privacy;
Not pay finders;
No financial interest in issuer;
Limit investors’ maximum annual investment in all issuers.
.
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8. Investor Rules
Cannot buy more than $2,000 or 5% of annual
income or net worth, if annual income or net worth
<$100,000;
Cannot buy more than 10% of annual income or net
worth, up to $100,000, if annual income or net worth
>$100,000;
Must buy through a Funding Portal that complies
with the Act; and,
Issuer must comply with the Act and cannot sell
more than $1 Million per year under this Rule.
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9. Issuer Rules
Provide basic disclosure about business to SEC and investors;
Financial statements: if raising up to $100,000, tax returns and
financials certified by CEO; $100,000 - $500,000, reviewed
financials; over $500,000, audited financials;
Disclose: risks, use of proceeds, targeted amount, deadline,
price, portal payment, current ownership, capital structure,
rights of existing holders, and updates;
No advertising; only directions to funding portal;
Provide annual reports with financials to investors and SEC;
and,
Comply with other SEC rules (when effective).
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10. Restrictions on Transfer
Securities purchased in a crowd funded transaction
may NOT be transferred for 1 year after purchase,
unless they are transferred:
– To the issuer;
– To an accredited investor;
– As a part of a registered offering; or
– To a member of the purchaser’s family in the event of his
death or divorce;
– Subject to other limitations to be imposed by the SEC.
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11. Crowd Funding Cannot be Used by:
Foreign companies;
Companies that already report under the Securities
Exchange Act of 1934;
Investment companies; or
Other companies as the SEC determines by
regulation; and
Issuers or portals that are “disqualified” under SEC
regulations (i.e, “bad boys”).
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12. Potential Liability to Investors
Purchaser in a crowd funded transaction may sue an “issuer” to
recover the amount paid for the security plus interest, less any
income received on the security, or for damages if s/he does
not then own the security.
Issuer is liable if it made an untrue statement of material fact or
omitted to state a material fact required to make the state-
ments, in light of the circumstances under which they were
made, not misleading, provided purchaser did not know of the
untruth or omission, and issuer did not know, and in the
exercise of reasonable care, could not have known of such
untruth or omission.
“Issuer” includes directors, partners, principal executive,
principal financial, controller and principal accounting officers of
issuer AND any person who offers or sells the security in such
offering.
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13. State Oversight
Crowd funded sales are exempt from State registration,
documentation and offering requirements as “covered
securities” and States may not charge filing fees, except for the
State where the issuer has its principal place of business or any
State where 50% or more of the purchasers reside.
However, States may examine and take enforcement action
against any Funding Portal that has its principal place of
business in that State.
States may also take enforcement action against an issuer,
Funding Portal or other person with respect to fraud or deceit or
unlawful conduct.
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14. Disqualifiers
Issuers and Funding Portals will generally be disqualified from using the crowd
funding rules if:
– The issuer has filed any registration statement that is/was subject to an
SEC stop or refusal order, the issuer is subject to an order of a State
securities, banking or insurance commission, or a Postal Service false
representation order, has had a Reg. A offering suspended, has been
convicted in the last 5 years of a false filing, of a crime involving the
purchase or sale of a security, or of an injunction for the purchase or sale
of a security; or,
– Its directors, officers or 10% beneficial owners, in the last 10 years, have
been convicted of a crime relating to the purchase or sale of a security or
false filing, a violation of any law prohibiting fraudulent, manipulative or
deceptive conduct, or arising out of its business as an underwriter, broker,
dealer or investment adviser, or in the last 5 years is subject to a court,
SEC or U.S. Postal Service order enjoining certain practices relating the
the purchase or sale of securities, has been suspended/expelled from a
national securities exchange or barred from a State regulated entity or
from engaging in the banking, insurance or securities business.
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15. For More Information:
These slides provide basic information about the
CROWDFUND Act of 2012. This publication is
provided by Elias, Matz, Tiernan & Herrick LLP as a
service to clients and friends. The information
contained in these slides should not be construed as
legal advice.
Questions regarding the matters discussed in this
presentation may be directed to:
Jeffrey A. Koeppel
202-719-1818 (O); 301-785-4319 (M)
jkoep@emth.com
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