JOBS Act Broker-Dealer Registration Exemption

The JOBS Act contained many provisions which were aimed at making the capital raising process easier, simpler and quicker from a host of angles.  Many things promised in the JOBS Act will not come to fruition until the SEC promulgates the regulations on the specific topic.  Some of these are equity crowdfunding, and the ability for issuers to use general solicitation in Rule 506 offerings.

One of the things contained in the JOBS Act which went into effect immediately, was an exemption for broker-dealer registration for persons or entities acting as brokers in certain 506 offerings.  The SEC just confirmed this in a recent FAQ available here.  I’ll give a quick overview below.

Section 201(c) of the JOBS Act adds a new paragraph (b) to Section 4 of the Securities Act (paraphrased – see the FAQ for actual statutory language), which states that registration as a broker-dealer is not required for

(i) a person that operates a platform or mechanism (this includes social media and websites) where an offer, sale, purchase or negotation occurs with respect to the securities at issue (note that this exemption would apply to portals and sites where general solicitation is used by issuers – but general solicitation is still not allowed in 506 offerings until the SEC promulgates those regulations);

(ii) a person that invests or co-invests in the issuer; or

(iii) a person who provides ancillary services with respect to such securities. “Ancillary services” means providing due diligence services (as long as they don’t include investment advice or recommendations where seperate compensation is received) or the provision of standardized documents to the issuers and investors, so long as the person doesn’t negotiate the terms of the transaction (and the use of the standardized documents is not required).

The exemption is only available if the following factors are complied with: (i) no compensation can be recieved in connection with the purchase or sale of the securities (this appears to foreclose the use of transaction based compensation, success fees and other fee structures and payments); (ii) such person and each associated person does not have possession of customer funds or securities in connection with the purchase or sale, and; (iii) the person is not otherwise disqualified.

The SEC states in its FAQ that it believes this exemption is likely only applicable to (or will only be used by) companies in the venture capital industry.  A venture fund can host a site listing their portfolio companies, co-invest with other investors in the portfolio companies and provide standard investment documents.  I believe the exemption is wider than that, applying to individuals hosting portals and providing ancillary services, provided there is no transaction based compensation or success fees.  This clarifies some of the grey area the SEC had shrouded over who needed to register as a broker and who didn’t.

It looks like this exemption may not be available to solve the Kramer v. SEC issue of whether a finder (who provides ancillary services) can take transaction based compensation.  The exemption in 201 would prohibit that, and hence still require registration in the SEC’s opinion, although we are still awaiting the appeal court decision in Kramer v SEC which may force the SEC’s hand to change that position.

Lastly, this exemption does not preempt any state registration requirements to anyone looking to undertake the above referenced activities should review the applicable state laws.