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Securities Law> Exemptions From Registration> Exempted Transactions

The Private Offering Exemption From SEC Registration Requirements

Section 4(2) of the Securities Act of 1933 exempts sales of a company’s securities from federal registration requirements if the sales do not involve a public offering. In such private offerings, the company remains liable for damages arising from false or misleading statements and may still remain subject to registration or disclosure requirements under state laws. However, if the private offering exemption of Section 4(2) applies, some of the burden and expense of SEC registration and reporting requirements may be avoided.

  • Be “sophisticated” investors who have sufficient financial and business experience to evaluate the risks and worth of the investment and to be able to bear the risk of the investment;
  • Have access to the same type of information normally provided in a prospectus included in a registration statement for a public offering; and
  • Have agreed not to pass the securities on to the public.

In making the private offering, the company must not use any public solicitation such as “cold” sales calls or general advertising concerning the offering. Providing private offering securities to just one person who does not meet the requirements for purchasers may make the entire offering a violation of the Securities Act. Beyond that bright line, however, applicability of the private offering exemption becomes less defined as the number of purchasers of the private offering increases and their relationship to the seller becomes more remote.

Rule 506 of the Commission provides a “safe harbor” rule that also may be used to determine applicability of the private offering exemption. Rule 506 provides that securities may be sold to an unlimited number of “accredited investors” such as banks or higher net worth individuals and up to 35 other purchasers. However, even the non-accredited investors must be considered “sophisticated” or able to evaluate the risks of the proposed investment.

“Accredited investor” is a term of art that includes:

  • A bank, insurance company, registered investment company, business development company, or Small Business Investment Company;
  • An employee benefit plan, within the meaning of the Employee Retirement Income Security Act, with its investment decisions made by a bank, insurance company, or registered investment advisor, or with total assets in excess of $5 million;
  • A charitable organization, corporation or partnership with assets exceeding $5 million;
  • A director or executive officer of the company selling the securities;
  • A business in which all the equity holders are accredited investors;
  • A natural person with a net worth of at least $1 million;
  • A natural person with income exceeding $200,000 for each of the two most recent years or joint income with a spouse exceeding $300,000 in each of the most recent two years and a reasonable expectation of the same income in the current year; or
  • A trust with assets of at least $5 million that has its purchase decisions made by a sophisticated person so long as the trust was not formed to acquire the offered securities.

Copyright 2012 LexisNexis, a division of Reed Elsevier Inc.

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