As you may recall, there was much excitement in 2012 after President Obama signed the JOBS Act into law. This excitement was around Title III, also known as the Crowdfunding Title, which created certain exemptions from the requirement to obtain a permit from the Securities and Exchange Commission (SEC) before starting an investment crowdfunding campaign. No entrepreneur has been able to make use of the law, however, because we have been waiting for the SEC to promulgate rules, as required by the law passed by Congress. The SEC fell behind schedule and took until last Friday, October 30, 2015, to finalize the rules it was required to make per the JOBS Act. The rules are set to go into effect on January 29, 2016.1
We at the Sustainable Economies Law Center have been asked about what the imminent implementation of the Crowdfunding Title of the federal JOBS Act means for state-level crowdfunding laws and pending legislation, which many states have adopted or considered largely in response to the SEC's tardiness. At the Sustainable Economies Law Center, we think the answer depends on the state, since the details of state-level crowdfunding laws and pending legislation around the nation vary greatly. Although SELC was among the early advocates who got momentum going for the federal crowdfunding legislation, we think there are some great innovations in the state-level investment crowdfunding laws that have since passed, some of which may better serve community-based businesses.
While some states copied provisions of the federal crowdfunding laws, meaning rules and restrictions are the same (but apply to just one state, of course), other states adopted crowdfunding laws that allow each investor to invest as much as $10,000, including non-accredited investors - an amount that exceeds limits per investor found in the federal law. Federal law limits investments per investor to as little as $2,000, depending on the investor's income or net worth. Another example is Oregon's "Community Public Offering" rules, which allow each investor to invest up to $2,500, regardless of the investor's income or net worth. Oregon’s approach saves entrepreneurs and investors from the hassle of collecting and sharing information about each investor's income or net worth, which some advocates of that law have said is a great advantage for entrepreneurs who do not have much time or money to handle lots of paperwork.
The choice to raise capital under the federal crowdfunding law or under a state-level crowdfunding law, which would generally still require compliance with other federal securities law provisions, will depend on a variety of factors, including the nature of the enterprise, the pool of potential investors, and the geographical location of potential investors. Complying with the federal crowdfunding law allows an entrepreneur to accept investments from all over the nation, without worrying about complying with the laws of multiple states, so this may be a huge advantage for some enterprises that are seeking a national or large regional market. For other enterprises that are more place-based, this difference might be trivial, and it might make more sense to raise capital under the state-level crowdfunding laws in those states, if available.
SELC has been a sponsor of pending legislation in California called the Local Economies Securities Act, or AB 2751. We think this bill, if passed into law, would be more advantageous than the federal JOBS Act for many enterprises, especially beginning farmers seeking to access farmland, agricultural land trusts, and place-based solar and wind energy enterprises. These are among the types of enterprises that the bill was designed for, but we think other types of enterprises might find it more advantageous as well.
Before going into more detail about California's Local Economies Securities Act, let's first review the Crowdfunding Title III of the JOBS Act for some context.
Summary of the JOBS Act - the Federal Crowdfunding Law:
A securities offering is exempt from registration under the federal crowdfunding law where the total amount of securities sold during any 12 month period does not exceed $1 million. Individual investors are limited as follows:
If the investor's net worth is below $100,000, then they can invest up to $2,000 or up to 5% of their net worth, whichever is greater.
If the investor's net worth is above $100,000, then they can invest up to 10% of the investor’s annual income or net worth, whichever is lesser, and no more than $100,000.2
Additionally, issuers ("issuer" is the term that securities laws use to refer to an enterprise selling securities in its own business, but not a third party broker selling stock or other securities) must use a regulated, web-based "funding portal" to communicate about the offering to prospective investors. The web platforms will be regulated and will be required to take some steps to ensure that offerings are compliant with the law, but operators of these web platforms will be prohibited from making investment recommendations or offering investment advice to users of the platform.3 Furthermore, among other requirements, the business raising money must have its financial statements reviewed if raising more than $100,000, or audited if raising more than $500,000.4
(There are many other restrictions and requirements in the JOBS Act that we will not cover in this post and this information should not be relied upon as legal advice.)
JOBS Act Severely Limits Advertising and Communication
There are some requirements and restrictions in the JOBS Act that are cause for concern, especially for community-rooted enterprises. At SELC, our greatest reservation about the new federal law is that "offerings must be conducted exclusively through a platform operated by a registered broker or a funding portal"5 which will limit the use of various communication methods that entrepreneurs and investors alike may prefer to use to discuss the offering.
More specifically, the SEC's newly set rules about advertising state that "An issuer may not, directly or indirectly, advertise the terms of an offering made" except for statements that direct investors to the intermediary's platform and include "no more than" the following: 1) a "statement that the issuer is conducting an offering," 2) the "terms of the offering," and 3) "[f]actual information about the legal identity and business location of the issuer, limited to the name of the issuer of the security, the address, phone number and website of the issuer, the e-mail address of a representative of the issuer and a brief description of the business of the issuer."6
This means that an entrepreneur will only be able to communicate extremely limited information about their securities offering through in-person conversations, emails, flyers, or presentations and other events, among other more personal forms of communication. They may use those other communication methods to alert potential investors that the entrepreneur has a securities offering open to the public and that one can learn more about it by visiting a certain URL, but not much additional information is allowed. For example, an entrepreneur telling a story about what motivated them to start their business, or other personal background information regarding their knowledge and experience is not among the information that is allowed in advertising. This eliminates opportunities for the kind of personalized communication that fosters meaningful relationships between entrepreneurs and investors - something we believe will hold back both entrepreneurs and investors alike.
We believe that personal relationships are vital for both entrepreneurs and investors to build trust in one another that will lead to successful investments and successful businesses. In some cases, personal communication between an entrepreneur and an investor might lead an investor to decide that the investment opportunity is not the right fit, and it might lead the investor to decide not to invest. In those cases, personal communication actually protects investors from making investments that are not in the investor’s best interest or are not aligned with the investor’s values. For this reason we believe that any state-level crowdfunding law that allows more direct, personal, and varied communication between entrepreneurs and investors will ultimately provide the biggest advantage for both the businesses raising funds and for the investors' protection.
Furthermore, we also believe that this very limited scope rule on advertising is unrealistic for many entrepreneurs to follow. The Sustainable Economies Law Center works with many entrepreneurs and we know that the ones who have the intense passion that is typically necessary to start a successful business or organization are often so passionate about their work that it's very difficult to avoid talking about it, especially during a fundraising campaign.
SELC's California Local Economies Securities Act, AB 2751:
SELC is sponsoring legislation in the California State Legislature that we are very excited about because we think it will better open doors to raising capital for a variety of enterprises necessary to the economic and ecological health of California, including small farms, agricultural land trusts, cooperatives, nonprofits, locally-controlled renewable energy organizations, and small businesses. The bill is divided into four distinct exemptions from permitting requirements: one for nonprofit organizations, one for any small business raising up to $500,000, one for farmland purchases and other beginning farm expenses up to $2 million, and one for place-based wind and solar energy systems up to $2 million. In the small business, farmland, and energy exemptions, each investor would be limited to investing up to $1,000, up to $5,000, or up to 5% of net worth per enterprise per year, depending on the investor's income and wealth, as described in the bill. Each exemption contains investor protections such as a set of disclosure documents with a stern warning to investors required as the cover sheet, among other investor protections. You can read more about the bill and how to express your support here.
1SEC Release NO. 33-9974, October 29, 2015, page 1
2SEC Regulation Crowdfunding § 227.100(a)
3See generally the US JOBS Act of 2012, Title III, Sections 302 and 304
4US JOBS Act of 2012, Title III, Section 302, 4A (b)(1)(D)
5SEC Release NO. 33-9974, October 29, 2015, page 13
6SEC Regulation Crowdfunding § 227.204
NOTE: this article was originally posted on November 3, 2015, and was updated on February 25, 2016 to reflect changes to the Local Economies Securities Act (LESA).