Crowdfunding (in Idaho) 101

Crowdfunding (in Idaho) 101Wendy Gerwick Couture

Associate Professor of LawUniversity of IdahoSeptember 17, 2014

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My definition: raising money from a broad-based pool of people, using the internet


OPTION ONE: Non-Equity CrowdfundingOPTION TWO: Equity crowdfunding under Title III of the JOBS Act

OPTION THREE: Equity crowdfunding under 506(c)OPTION FOUR: Instrastate equity crowdfunding

OPTION FIVE: Instrastate SCOR offering…

POTENTIAL BENEFITS

POTENTIAL BENEFITS

Raise funds from people other than friends and family

POTENTIAL BENEFITS


Break through traditional barriers to financing

POTENTIAL BENEFITS



Connect emotionally with your funders

POTENTIAL BENEFITS




Gain loyal customers

POTENTIAL BENEFITS




Gain loyal customersDemonstrate viability

of your business to bigger investors

POTENTIAL BENEFITS






MAJOR CONSIDERATIONS

POTENTIAL BENEFITS







How do I comply with federal and state securities regulations?

POTENTIAL BENEFITS








What initial expenses will I incur?

POTENTIAL BENEFITS








What initial expenses will I incur? What ongoing expenses will I

incur?

POTENTIAL BENEFITS









incur? What is my potential for liability

to the crowd if things don’t work out?

POTENTIAL BENEFITS











How will this affect my future ability to obtain funding?

OPTION ONE: Non-Equity Crowdfunding

***Raising funds from the crowd in return for a reward or a product








X

Statutory Definitions of “Security”

Federal Securities Laws § 2(a)(1) of Securities Act of 1933

§ 3(a)(1) of Securities Exchange Act of 1934

“When used in this Act, unless the context otherwise requires—[t]he term ‘security’ means any note, stock, . . . investment contract . . .”

investmentcontract

Idaho Securities Laws § 2(a)(1) of Securities Act of 1933

§ 3(a)(1) of Securities Exchange Act of 1934

“‘Security’ means a note; stock; . . . investment contract . . .”

investmentcontract

• “common enterprise”

• “expectation of profits”

• “solely on the efforts of others”

Federal test for “investment contract”SEC v. W. J. Howey Co., 328 U.S. 293 (1946).

“Includes as an ‘investment contract’ an investment in a common enterprise with the expectation of profits to be derived primarily from the efforts of a person other than the investor.”

Idaho test for “investment contract”Idaho Code § 30-14-102(28).

• “common enterprise”

• “expectation of profits”

• “solely on the efforts of others”

Federal test for “investment contract”SEC v. W. J. Howey Co., 328 U.S. 293 (1946).

“Includes as an ‘investment contract’ an investment in a common enterprise with the expectation of profits to be derived primarily from the efforts of a person other than the investor.”

Idaho test for “investment contract”Idaho Code § 30-14-102(28).








X

Not selling “securities”!!!

POTENTIAL BENEFITS






Yes, but limited to funders who are willing to give funds in return for an award or product

X

X


POTENTIAL BENEFITS







X

XYes, but only helpful if your business is able to reach people on an emotional level

X


POTENTIAL BENEFITS







X


Yes, but only helpful if your customer base overlaps with your funders

XX


POTENTIAL BENEFITS







X


Yes, but only helpful if your customer base overlaps with your funders

Yes, but be aware of potential for backlash

XXX









X


Minimal. Consult counsel to (1) review terms of use; and (2) ensure accuracy of disclosure.

X

What should creators do if they're having problems completing their project?If problems come up, creators are expected to post a project update (which is emailed to all backers) explaining the situation.

Kickstarter Basics:

Campaign OwnersYou will respond promptly and truthfully to all questions posed to you by Indiegogo or any Contributor.

Indiegogo Terms of Use:








X



XXMinimal. (1) Update if

delays/problems providing award or product; and (2) respond to questions.

Campaign OwnersYou shall meet all commitments you make in your Campaign including, but not limited to, delivering all Perks you offered with your Campaign. . . . If you are unable to fulfill any of your commitments to Contributors (including delivering any Perks), you will work with the Contributors to reach a mutually satisfactory resolution, which may include refunding their Contributions.

Indiegogo Terms of Use:

•Project Creators agree to make a good faith attempt to fulfill each reward by its Estimated Delivery Date. •Project Creators are required to fulfill all rewards of their successful fundraising campaigns or refund any Backer whose reward they do not or cannot fulfill.

Kickstarter Terms of Use:








X





Potential breach of contract/fraud/deceptive practices liability.

X








X





Potential breach of contract/fraud/deceptive practices liability.

X

Doesn’t affect capital structure

X

OPTION TWO: Equity crowdfunding under Title III of the JOBS Act

***Raising funds from the crowd in return for equity

It’s illegal under federal law to offer or sell a security unless it’s registered or satisfies a federal exemption from registration. Securities Act of 1933 § 5.

It’s illegal under state law to offer or sell a security unless it’s registered, satisfies a state exemption from registration, or state registration requirements are preempted. Idaho Code § 30-14-301.

It’s illegal under federal law to offer or sell a security unless it’s registered or satisfies a federal exemption from registration. Securities Act of 1933 § 5.

It’s illegal under state law to offer or sell a security unless it’s registered, satisfies a state exemption from registration, or state registration requirements are preempted. Idaho Code § 30-14-301.

Registered? Exempt? Preempted?

Federal Law

Idaho Law


Federal Law XIdaho Law X








X

Federal exemption; state preemption


***Raising funds from the crowd in return for equity


***Not legal until the SEC issues final rules!

Securities Act of 1933 § 4(a)(6)SEC Proposed Rules

Amount raised?Number of purchasers?

Per-investor dollar limit?

Initial information provided to investors?Ongoing reporting?

Nature of investors?Manner of offering?Issuer qualifications?




Amount raised?

• $1,000,000 (during 12-month period)

Number of purchasers?







Amount raised?



• No limit on #


• $ limit on amount each investor can invest (based on annual income & net worth)



If both the investor’s annual income & net worth are less than $100,000, limit of $2,000 or 5% of annual income or net worth, whichever is greater.

If either the investor’s annual income or net worth is equal to or more than $100,000, limit of 10% of annual income or net worth, whichever is greater, but not to exceed $100,000.




Amount raised?



• No limit on #



Initial information provided to investors?

• Laundry list of required information (description of business, purpose of proceeds, risk factors, target offering amount, ownership and capital structure, ...)

• Description of financial condition

Ongoing reporting?

Nature of investors?

Manner of offering?

Issuer qualifications?

If raising $100,000 or less, most recent tax return & financial statements certified by principal executive officer.

If raising between $1,000,000 & $500,000, financial statements reviewed by independent public accountant

If raising more than $500,000, audited financial statements.




Amount raised?



• No limit on #



Initial info to investors?



Ongoing reporting?

• Must file annual report that includes a description of financial condition (& other disclosures)


Manner of offering?


Obligation continues until the company:(1) goes public; (2) repurchases the securities; or (3) liquidates or dissolves.




Amount raised?



• No limit on #






Ongoing reporting?



• No requirement

Manner of offering?

• Must use a registered broker or registered funding portal

• No other advertising, except for notices that direct investors to the funding portal or broker





Amount raised?



• No limit on #






Ongoing reporting?



• No requirement

Manner of offering?

• Must use a registered broker or registered funding portal

• No other advertising, except for notices that direct investors to the funding portal or broker


• “Bad actor” disqualification

• No reporting issuers



POTENTIAL BENEFITS






Yes, but individual investor dollar limits; $1,000,000 cap

X


POTENTIAL BENEFITS






X


Yes, but new barrier: working through funding portals.

X


POTENTIAL BENEFITS






X


Yes, but new barrier: working through funding portals.

X

X

Yes, but more difficult when accompanied by all of the required disclosures.


POTENTIAL BENEFITS






X


Yes, but new barrier: working through funding portals

X

X Yes, but only helpful if your customer base overlaps with your investorsX









X


• Securities counsel• Audited financials if raising

$500,000+• Funding portal/broker fee

X








X




X


Ongoing annual reporting requirement (included audited financials if raised more than $500,000)

X







X




X


Ongoing annual reporting requirement (included audited financials if raised more than $500,000)

X

Federal & state securities fraud; new § 4A(c) strict liability provision with “reasonable care” defense for misrepresentations

X







X




XXOngoing annual reporting

requirement (included audited financials if raised more than $500,000)

Federal & state securities fraud; new § 4A(c) strict liability provision with “reasonable care” defense for misrepresentations

X

Must ensure that investor base doesn’t scare off venture capital

X


$1,000,000

POTENTIAL BENEFITS






X


Yes, but new barrier: working through funding portals

X



X Stigma???


OPTION THREE: Equity crowdfunding under 506(c)

***Raising funds from “accredited investors” in return for equity


***Raising funds from “accredited investors” in return for equity









X



OPTION THREE: Equity crowdfunding under 506(c)Securities Act of 1933 § 4(a)(2)SEC Rule 506(c)

Amount raised?

• No limit




Ongoing reporting?


Manner of offering?



Amount raised?

• No limit


• No limit, as long as “accredited”


• No limit


Ongoing reporting?


• Must be “accredited”

Manner of offering?


Any natural person whose individual net worth, or joint net worth with that person’s spouse, exceeds $1,000,000.

Any natural person who had an individual income in excess of $200,000 in each of the two most recent two years or joint income with that person’s spouse in excess of $300,000 in each of those years and has a reasonable expectation of reaching the same income level in the current year.


Amount raised?

• No limit




• No limit


Ongoing reporting?



• Issuer must take reasonable steps to “verify” this status

Manner of offering?


For example, tax returns, bank and brokerage statements, & credit reports – combined with written representations from investors


Amount raised?

• No limit




• No limit


• Based on market and liability considerations

Ongoing reporting?





Manner of offering?



Amount raised?

• No limit




• No limit



Ongoing reporting?





Manner of offering?




Amount raised?

• No limit




• No limit



Ongoing reporting?





Manner of offering?

• May advertise, including online



May use a crowdfunding portal!







X



Federal & state securities fraud

X







X




X

• Securities counsel• Must “verify” accredited

investor status• Sophisticated investors will

demand sophisticated disclosures, both initially & ongoing

XX







X




X

• Securities counsel• Must “verify” accredited

investor status• Sophisticated investors will

demand sophisticated disclosures, both initially & ongoing

XX

Can structure so as not to scare off future investors

X

POTENTIAL BENEFITS






Yes, but limited to “accredited investors”

X Yes, but other barrier: only “accredited investors”

X


POTENTIAL BENEFITS








X

XX

Yes, but must ensure that adequate disclosures to prevent liability


Yes, but only helpful if your customer base overlaps with your investors

POTENTIAL BENEFITS








X

XX


X YES!



OPTION FOUR: Instrastate equity crowdfunding

***Raising funds from in-state crowd in return for equity











X

Federal exemption; state exemption


OPTION FOUR: Instrastate equity crowdfundingSecurities Act of 1933 § 3(a)(11)SEC Rule 147

Idaho Code § 30-14-203Individual Order of Exemption

Amount raised?




Ongoing reporting?


Manner of offering?




Amount raised? • No limit


• No limit


• No limit


Ongoing reporting?


Manner of offering?






• No limit


• No limit



Ongoing reporting?



Manner of offering?






• No limit


• No limit



Ongoing reporting?



Manner of offering?


• Incorporated or organized in Idaho

• 80% of gross revenue derived from Idaho, 80% of assets in Idaho, 80% of proceeds intended to be used in Idaho, AND principal office in Idaho.





• No limit


• No limit



Ongoing reporting?



• Offerees and purchasers are residents of Idaho

Manner of offering?

• May advertise, but all offerees must be Idaho residents




Securities Act of 1933 § 3(a)(11)SEC Rule 147




• No limit


• No limit



Ongoing reporting?




Manner of offering?






SEC Compliance & Disclosure Interpretations:

At a minimum, must:• include disclaimers &

restrictive legends making it clear that the offering is limited to residents of the relevant state under applicable law

& • limit access to information

about specific investment opportunities to persons who confirm they are residents of the relevant state





• No limit


• No limit



Ongoing reporting?




Manner of offering?





• Individualized determination• These guidelines are based

on the following two orders of exemption that Idaho has previously approved:

In the matter of Treasure Valley Angel Fund, LLC, No. 2012-7-02

In the matter of Bright Flash Development, Inc., No. 2014-7-04




Amount raised? • No limit • $2,000,000


• No limit


• No limit



Ongoing reporting?




Manner of offering?










• No limit • No limit


• No limit • $2,500 per individual investor, unless accredited, &

• Cannot exceed 10% of net worth, excluding home, auto, & furnishings



Ongoing reporting?




• Per-investor dollar limit of $2,500 if non-accredited

Manner of offering?










• No limit • No limit


• No limit • $2,500 per individual investor, unless accredited, &

• Cannot exceed 10% of net worth, excluding home, auto, & furnishings



Ongoing reporting?




• Per-investor dollar limit of $2,500 if non-accredited

Manner of offering?





• No reporting companies

• “Bad actor” disqualifications








X









X



• Securities counsel• Sophisticated investors will

demand sophisticated disclosures, both initially & ongoing X

X







X





X


X







X





X


X


X

POTENTIAL BENEFITS






Yes, but limited to Idaho investors

X


POTENTIAL BENEFITS







X Yes, but other barrier: must ensure that only offered & sold to Idaho residents

X


POTENTIAL BENEFITS







X Yes, but other barrier: must ensure that only offered & sold to Idaho residents

X

XX


X YES!



OPTION FIVE: Instrastate SCOR offering












X

Federal exemption; state registration


Securities Act of 1933 § 3(b)(1)SEC Rule 504

Idaho Code § 30-14-304Idaho Rule 20.02

Amount raised?




Ongoing reporting?


Manner of offering?





Amount raised? • $1,000,000


• No limit.


• No limit.


Ongoing reporting?


Manner of offering?







• No limit.


• No limit.


• No, as long as registered by state that requires substantial disclosure document.

Ongoing reporting?

• Based on market and liability considerations.


• No requirement, unless state imposes.

Manner of offering?


• No reporting companies.






• No limit.


• No limit.



Ongoing reporting?




Manner of offering?

• May advertise, if offered & sold exclusively in state where registered.


• No reporting companies.


BY ANALOGYSEC Compliance & Disclosure

Interpretations:• Issuers generally use their

websites and social media presence to advertise their market presence in a broad, indiscriminate manner. Although whether a particular communication is an "offer" of securities will depend on all of the facts and circumstances, using such established Internet presence to convey information about specific investment opportunities would likely involve offers to residents outside the particular state in which the issuer did business.





• No limit.


• No limit.



• Form U-7 (can often use reviewed rather than audited financial statements)

Ongoing reporting?




Manner of offering?

• May advertise, if offered & sold exclusively in state where registered.


• No reporting companies. • Corporation or centrally-managed LLC• “Bad actor” disqualifications








X



• Securities counsel• Either reviewed or audited

financial statements• Form U-7

X







X



• Securities counsel• Either reviewed or audited

financial statements• Form U-7

X• Sophisticated investors will demand sophisticated disclosures, both initially & ongoing

X


X


X

POTENTIAL BENEFITS






X Yes, but new barrier: must ensure all offers and sales are to Idaho residents

X

Yes, but limited to Idaho investors; $1,000,000 cap


POTENTIAL BENEFITS






X Yes, but new barrier: must ensure all offers and sales are to Idaho residents

X



X

Yes, but limited to Idaho investors; $1,000,000 cap


YES!


OPTION ONE: Non-Equity CrowdfundingOPTION TWO: Equity crowdfunding under Title III of the JOBS Act

OPTION THREE: Equity crowdfunding under 506(c)OPTION FOUR: Instrastate equity crowdfunding

OPTION FIVE: Instrastate SCOR offering…

POTENTIAL BENEFITS










