VW Blog

Understanding Reg D Exemptions for Raising Capital

August 16, 2011   |   By Kevin Vela

We regularly assist clients with capital raises, and one of the most critical components of any capital raise is filing for registration exemptions with state and Federal securities boards. For today, we’ll discuss raising money across state lines and save smaller one state only raises for later.

If your business wants to raise money across state lines, then you will likely want to familiarize yourself with Regulation D.  Under the Securities Act of 1933, any offer to sell securities must either be registered with the SEC or meet an exemption.  These exemptions are commonly known as Regulation D, or “Reg D.”

Note, this blog is for informative purposes only and is not a complete description, nor should it be relied upon before filing.  Rather, we’re hoping that the information below will provide you with some broad guidelines, help you to develop a fund raising plan, and provoke some questions to discuss when you meet with your attorney.  (Speaking of attorneys, we know some great small business/startup ones here – www.velawood.com).

Regulation D contains three rules (Rule 504, Rule 505, Rule 506) which provide exemptions from the registration requirements, allowing some companies to offer and sell their securities (just about everything is a “security”) without having to register the securities with the SEC.  Though a Reg D exemption generally means that companies do not have to file reports with the SEC, you will have to file a Form D prior to, or shortly thereafter your first sale of securities.  Form D is a brief informational notice about the company, it’s officers and stock promoters (if any).

Before we get into the Reg D rules, understand that a few restrictions apply to all of the exemptions below:

  • The company cannot solicit or advertise their securities to the public; and
  • Investors receive “restricted securities” which puts a noose on secondary transfers (with some exceptions).

Rule 504

Rule 504 provides an exemption for the offer and sale of up to $1,000,000 of securities in a 12-month period. In narrow instances, some companies may not qualify for 504 even if they are raising less than $1M so…check with your attorney.  Now, a benefit of 504 is that general offering and solicitations are permitted under this rule as long as they are in accordance with state law and restricted to accredited investors.  Further, Rule 504 allows companies to sell securities that are not restricted if the securities are only sold to accredited investors and the securities meet certain state registration rules commonly referred to as “Blue Sky Laws.”

Rule 505

Rule 505 provides an exemption for offers and sales of securities totaling up to $5 million in any 12-month period.  Under this exemption, securities may be sold to an unlimited number of “accredited investors” and up to 35 “unaccredited investors” who do not need to satisfy the sophistication or wealth standards associated with other exemptions. Purchasers must buy for investment only, and not for resale.  The issued securities are restricted, in that the investors may not sell their securities for at least six months, oftentimes up to two years, without registering the transaction.  Any offering under 505 should provide significant disclosures in the offering memorandum.  Also, Rule 505 exemptions impose a level of financial reporting that 504 companies do not have to meet.

Rule 506

Under Rule 506, companies can raise an unlimited amount of capital, provided that they do not use general solicitation or advertising to market the securities.  506 Companies can sell the securities to an unlimited number of accredited investors and up to 35 other purchasers.  Unlike Rule 505, all non-accredited investors, either alone or with a purchaser representative, must be sophisticated – that is, they must have sufficient knowledge and experience in financial and business matters to make them capable of evaluating the merits and risks of the prospective investment.  Some other rules of 506 offerings are:

  • The Company can raise an unlimited amount of capital;
  • Seller must be available to answer questions by prospective purchasers;
  • Financial statement requirements are the same as for Rule 505; and
  • Purchasers receive restricted securities, which may not be freely traded in the secondary market after the offering.

Though the rules above may seem like a lot, they really aren’t.  With a good plan and an attorney on your side, you can successfully put together an offering which qualifies for an exemption, and raise the money your business needs.  If you have questions about whether your capital raise meets any of the requirements or exemptions of the Securities Act of 1933, please feel free to contact us to learn more.


Posted in Funding & Capital Raising, Securities, Startups
Kevin Vela
Kevin Vela is the managing partner at Vela Wood. He focuses his practice in the areas of venture financing, mergers & acquisitions, corporate law, capital raises, and real estate investment activities. You can see Kevin's attorney profile HERE.