William Carleton, Counselor @ Law

Non-accredited investment crowdfunding in North Carolina this summer?

Go to Crowdsourcing.org to get an update from Mark Easly and Steve Reaser on the progress being made in North Carolina toward accomplishing a state investment crowdfunding exemption for non-accredited investors. From what they report, it sounds like North Carolina might put such a law in place this month.

You know how I feel about the North Carolina bill. It puts the "crowd" back into investment crowdfunding (when the Senate gutted Congressperson Patrick McHenry's successful bipartisan bill in the process of putting together the JOBS Act, a chance for a meaningful experiment with investment crowdfunding at the federal level was lost).

Let's hope that in the process of committee markups and conference committees and the like, the North Carolina bill stays simple and true to the core experiment, which is to explore the question, might everyone, whether or not accredited, be permitted to participate in backing startups and small businesses?

Because most startups fail and because even the most sophisticated angel investors lose most of their money on most deals, there should be paternalism in the bill, and there is: investors who are not accredited can invest no more than $2,000 per issuer.

I'm glad North Carolina doesn't get into sliding scales or other tests or information gathering requirements that would not only overly complicate the essential investor protection of a cap, but would actually expose investors to risks of breaches of privacy.

I also like how Mark and Steve talk about how the exemption needs to be as relatively easy and frictionless as a Reg D offering that's limited to accredited investors. Throw in the paternalism of a cap, to mitigate an individual's loss, and the comparison to a Reg D deal is exactly the right analogy by which to measure the honesty of the experiment.

Photo: Kim Seng / Flickr.

Equity crowdfunding in Canada

Interesting tweet last night from John Koetsier, linking to his article in VentureBeat about how non-accredited investment crowdfunding has been taking place in British Columbia for some time.

John's tweet and article say that BC is the only place in North America where equity crowdfunding for non-accredited investors is currently legal.

The tweet drew a response from a company called Fundrise, which stated that "Our current [crowdfunded] equity offering is available to non-accredited investors." I tweeted back to ask @Fundrise what exemption they are relying on, but haven't heard back.

It is true, as we have long blogged about here, that certain platforms are cobbling together regulatory compliance strategies from existing, and sometimes little used, securities exemptions, to perform what very much looks like equity crowdfunding. Bolstr comes to mind (see this guest post that Charlie Tribbett and Larry Baker wrote for this blog last summer). Bolstr is finding a way to use Rule 504 of Reg D to crowdfunding effect.

It may be Fundrise is using 504, too. Or perhaps they have a different approach.

Equity crowdfunding for accredited investors is going to re-shape the angel investing landscape. As for crowdfunding for non-accredited investors, I put little hope on the Title III of the JOBS Act. If equity crowdfunding for non-accrediteds takes off in the US, it will be via the creativity of platforms that utilize existing exemptions, or new state laws or regulations that establish intrastate investment crowdfunding exemptions.

Housekeeping

Couple housekeeping items today.

First, I wanted to let everyone know that I have updated the statecrowdfundinglaw.com site to add new information about the North Carolina investment crowdfunding bill.

That's the only new development to the site in over a month. If you know of any state initiative - legislative or regulatory - to make investment crowdfunding legal in a given state, let us all know in the comments and I'll add your info to the site. Wikipedia is watching.

Second, I welcome any thoughts on how to escalate, to the SEC and/or the White House and/or Congress, the concern with the bias in the accredited investor definition, which essentially penalizes or discriminates against same sex couples. Is this cause best advanced by a petition, or a Tumblog, or something else?

Photo, "Marie cleaning a balcony," by  ZarrSadus / Flickr.

North Carolina iterates investment crowdfunding bill

State legislators in North Carolina continue to work on an investment crowdfunding bill. (For context, see this earlier post about the North Carolina initiative.)

You can find the text of both the original and a more recent substitute bill here.

I didn't see a redline or any committee report summarizing the changes that had been made to the original bill, so I ran a redline myself and posted it here on AWS.

I'm not going to say that the changes are going in the wrong direction because I'm just not sure and would probably need to spend more time with the text. But you can most definitely see that the bill is starting to sound more legalistic, like a securities law.

For instance, note what happened to the mandatory disclaimer from the orginal bill (which I think was borrowed from language my friend Joe Wallin had developed and blogged). The idea is to require the crowdfunding issuer to warn investors that they are as likely to lose their investment as Kickstarter backers are to never actually see a copy of the finished film they backed.

Joe's language, in the original bill:

"I acknowledge that I am investing in a high-risk, speculative business venture, that I may lose all of my investment, and that I can afford the loss of my investment. I understand this offering has not been reviewed by the State, and no authority has expressed an opinion on the merits of this offering."

The new language in the substitute bill, somewhat harder to understand but friendlier to lawyers:

"IN MAKING AN INVESTMENT DECISION, INVESTORS MUST RELY ON THEIR OWN EXAMINATION OF THE ISSUER AND THE TERMS OF THE OFFERING, INCLUDING THE MERITS AND RISKS INVOLVED. THESE SECURITIES HAVE NOT BEEN RECOMMENDED BY ANY FEDERAL OR STATE SECURITIES COMMISSION OR REGULATORY AUTHORITY. FURTHERMORE, THE FOREGOING AUTHORITIES HAVE NOT CONFIRMED THE ACCURACY OR DETERMINED THE ADEQUACY OF THIS DOCUMENT. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE. THESE SECURITIES ARE SUBJECT TO RESTRICTIONS ON TRANSFERABILITY AND RESALE AND MAY NOT BE TRANSFERRED OR RESOLD EXCEPT AS PERMITTED BY SUBSECTION (E) OF SEC RULE 147, 17 C.F.R. § 230.147(E) AS PROMULGATED UNDER THE SECURITIES ACT OF 1933, AS AMENDED, AND THE APPLICABLE STATE SECURITIES LAWS, PURSUANT TO REGISTRATION OR EXEMPTION THEREFROM. INVESTORS SHOULD BE AWARE THAT THEY WILL BE REQUIRED TO BEAR THE FINANCIAL RISKS OF THIS INVESTMENT FOR AN INDEFINITE PERIOD OF TIME."

Also stripped out - unless it has been placed elsewhere and I've missed it - is the entrepreneur protection of insulating issuers from suits except in the case of fraud or breach of fiduciary duty. (Hopefully that deletion is not a sign that the North Carolina legislators will tack back to the assumption that an issuer is just another name for a likely scam artist.)

On the other hand, there are signs in the substitute bill that the legislators know they are experimenting. At the bottom of the substitute bill, a simple sentence is tucked in that reads, "This act is effective when it becomes law and expires on July 1, 2017." That's good. It should take the pressure off to get everything right, remove the fear that the exemption doesn't work like all the rest.

It shouldn't work like existing exemptions. Something needs to be ventured to see if investment crowdfunding might work for non-accredited investors.

Maybe it takes 2 JOBS Acts to effectuate crowdfunding?

Steve Reaser made me aware this morning of the following statement from Rep. Patrick McHenry of North Carolina:

"New crowdfunding legislation will pave the way for startups and entrepreneurs to grow their businesses and fuel job creation around the country. While the SEC has delayed implementation of crowdfunding rules at the federal level, I applaud North Carolina leaders such as Tom Murray for taking the initiative of offering crowdfunding across the state. From small craft breweries in Asheville to high-tech startups in RTP [Research Triangle Park], crowdfunding offers a new source of capital to entrepreneurs chasing the American Dream."

Tom Murray is Rep. Tom Murray, a North Carolina state legislator who, along with co-sponsors, introduced a crowdfunding bill in his state that I think gets things right and corrects the mistakes that were made by the US Senate when it gutted Rep. McHenry's successful (in the House) bi-partisan crowdfunding bill that had had the support of the White House.

Taking the Congressman's statement at face value, he seems to be saying that states might as well address the gap left by failure of the SEC to promulgate rules at the federal level. To my mind, the federal legislation is not something any rules can implement. I think that, at the federal level, Rep. McHenry might better push for a do-over.

But supporting state investment crowdfunding initiatives gets to the same place, and perhaps a better place.

Map via Wikipedia.

State crowdfunding exemptions should not ask companies to collect information about an investor's income

Recent item from the Proskauer Privacy Law Blog:

"California Assembly Member, Bonnie Lowenthal, recently introduced the 'Right to Know Act of 2013' (AB 1291), which would require any company that retains a  California resident’s personal information to provide a copy of that information to that person, free of charge, within 30 days of the request."

Can you imagine a tiny, five person startup company dealing with such requests from the 1,000 investors it raised an aggregate couple hundred thousands dollars from?

To keep privacy law compliance costs from being a major use of proceeds item in any investment crowdfunding offering, state legislators should be smart about not exposing sensitive personal investor information to crowdfunding issuers, beyond the kind of information state corporate codes already require companies to keep.

For instance, a company must keep a shareholder list, and should ordinarily collect an investor's street or email address so it has a way of sending her those notices that the corporate law or the company charter require.

But that's about it.

Requiring startups and small businesses to collect information about a given investor's income or net worth - not to mention requiring startups and small businesses to then hire resources to test the veracity of such information - is the wrong investor protection in the wrong context. What such a requirement asks of the issuer is out of proportion to the funds being raised. Just as importantly, requiring startups and small businesses to gather such information exposes investors to the risk that highly sensitive information about them will be disseminated, either wilfully or through neglect or by accident.

All four of the state investment crowdfunding initiatives that we know of - the two regulatory exemptions in place in Kansas and Georgia, and the two bills introduced in state legislatures in Washington and North Carolina - have merits, will do well to borrow features of the others, and are (unlike the federal investment crowdfunding exemption for non-accredited investors) on the right track. But the initiatives that drop the income and net worth tests of the federal bill, those make the right call, sparing investors unnecessary exposure.

Photo: Chad Miller / Flickr.

Statecrowdfundinglaw.com

Here's a homemade website to help us track what states have regulatory non-accredited investment crowdfunding exemptions on the books, and what state legislatures are this year considering such exemptions legislatively: http://statecrowdfundinglaw.com.

Thanks to Steve Reaser's research, we know that two states already have regulatory exemptions: Kansas and Georgia. Kansas's has been in effect since 2011!

The bill in North Carolina, highly praised here yesterday, seems to draw the best elements of the Kansas regulatory exemption and the bill in Washington State.

As we did with the Facebook account password protection bills that seem to be sweeping the state legislatures, let's keep track of the crowdfunding initiatives in different states, and compare them.

Image credit: Elliott Avedon Virtual Museum of Games.