If you didn’t know better, you might think the Title II Crowdfunding regulations and the Title III Crowdfunding regulations were written by two different agencies.
On one hand, the Title II regulations take a decidedly hands-off approach to the Crowdfunding marketplace. For example:
- Title II Portals are required only to take “reasonable steps” to ensure that investors are accredited.
- Issuers are not required to provide any particular information to prospective investors, not even any particular financial information.
- Title II Portals are not obligated to register with the SEC.
Recall that in the first version of the Title II regulations, the SEC didn’t even include safe harbors for determining whether an investor is accredited. The safe harbors were added only after a public uproar demanding more rules from the SEC (and thus, from the government).
Even after the addition of the safe harbors, there are many, many questions that the Title II regulations don’t even address. Operating in laissez-faire mode, the SEC has left the answers to the marketplace and to the courts.
On the other hand, the Title III regulations – all 585 pages of them, including the preambles – impose stringent and detailed requirements on issuers and portals alike. For example:
- Title III portals are required to register with the SEC.
- Title III portals are required to perform detailed background checks on every issuer and its directors, officers, and significant shareholders.
- Title III portals must deny access to any issuer if the portal believes the issuer “presents the potential for fraud or otherwise raises concerns regarding investor protection,” or if the portal is unable to adequately or effectively assess the risk.
- Title III issuers are required to provide reams of information to the investing public, including:
- The business and employment history of all its directors and officers for the previous three years.
- The reasons why the investment is risky.
- How the securities were valued.
- The names of everyone who owns more than 20% of the stock.
- An explanation how investors could be affected by the exercise of rights by the principals.
- An explanation of the capital structure.
- How the money from investors will be used.
- Detailed information must be provided not only up front, but on an annual basis.
- After subscribing, Title III investors are given the right to change their minds up to 48 hours before closing.
The Title III regulations, in fact, create a regulatory scheme that has far more in common with the rules that apply to publicly-traded companies than with the laissez-faire approach of the Title II regulations. The main question about the Title III regulations is whether they are so burdensome that they will snuff out Title III Crowdfunding before it begins.
Did different government agencies create the Title II and Title III regulations? Obviously not. The chasm between Title II and Title III can be explained by one fact: Title II investors are all accredited (for individuals, income of at least $200,000 or net worth of at least $1 million) while Title III investors can be anyone. The assumption behind the regulations is that wealthier people can take care of themselves while those of modest means need the paternalistic protection of the government.
It’s a theme that has run through U.S. securities laws for a long, long time. We’ll see how well it works for Crowdfunding.
Questions? Let me know.