SEC Proposes Eliminating a Significant Burden on Raising Capital in Private Markets

By Mauro Viskovic, Esq

Startup, developmental and emerging growth businesses nationwide welcomed a recent proposal from the Securities and Exchange Commission that, if adopted, would make it considerably less difficult for them to raise capital.  

For many businesses seeking to raise start-up or working capital, banks are simply not an option due to the stringent credit requirements, asset encumbrances and overall rigidity that are associated with bank loans.  Accordingly, an alternative capital source for them are individual “angel” investors and, in some cases, venture capital and private equity funds.  

“Finders” are individuals who can connect businesses to these sources of investment capital in exchange for commission-based compensation; however, under current SEC regulations, such finders must be registered with the SEC as brokers.  Such registration is prohibitively costly and burdensome for finders seeking to assist small to middle market businesses.  As a result, many businesses are unable to connect with important sources of capital, leading to many of such businesses failing to execute on their business plan and, in many cases, reaching the unfortunate conclusion of ceasing operations.    

To address this issue, the SEC recently proposed a new exemption from broker registration requirements for finders who assist companies with raising capital in private markets from accredited investors.  If adopted, the proposed exemption would, under certain circumstances, permit individuals to solicit investments on behalf of companies seeking capital from accredited investors without registering with the SEC as brokers.  

The SEC’s proposal addresses a problem area in the SEC’s regulatory framework and, in doing so, seeks to facilitate investments for smaller businesses, including women- and minority-owned businesses.  Smaller businesses and their investors frequently encounter challenges connecting with each other in the private market, particularly in regions that lack established robust capital-raising networks.  In these areas, finders can play an important and discrete role in bridging the gap between small businesses that need capital and investors who are interested in supporting emerging enterprises.

Under current federal law, such finders are subject to essentially the same regulations and registration requirements as brokers who facilitate the trading of Fortune 500 companies in public exchanges.  The cost and burden of both the initial registration and the ongoing administration and reporting are enormous and the SEC seeks to address the current regulatory structure which makes it difficult for an individual to connect an investor to a small business seeking to raise start-up capital.  

The effect of the proposal on finder’s obligations would be sweeping.  Finders would not be required to register with the SEC or FINRA, and they would not need to notify the SEC of their intent to rely on the relief offered under the proposed exemption.  Moreover, finders would not be subject to periodic inspections or examinations, nor would they be required to maintain records of their activities.  Further, the proposal does not impose any limitations on the amounts that can be raised from investors, the size of the offerings, or the types of companies that can take advantage of the relief.  

This proposal would not affect the investment restrictions applicable to physician practices and other healthcare providers, which are subject to the prohibition on the “corporate practice of medicine” in most states.  The corporate practice of medicine doctrine has traditionally limited the ability of non-professional individuals and entities from investing in an ownership interest in healthcare providers.  

The SEC’s press release and summary of the proposal can be found here.  It is important to note that the proposed exemption on federal registration, if adopted, would not preempt related state regulations on finders and, as such, finders would need to analyze applicable state laws to ensure they are complying with relevant requirements.  In New York, a recent proposal would require all finders to be subject to all of the filing and exam requirements of brokers, broker-dealers and salespersons under New York law.  Such requirements, however, would be less onerous than the current federal broker registration requirements.  We will continue to monitor and provide updates on the New York proposal. 

Weiss Zarett represents business owners and investors in connection with a broad range of private investment transactions. If you are raising capital for your business venture or considering to participate as an investor in a private offering, please email Mauro Viskovic, Esq. at mviskovic@weisszarett.com or call us at (516) 627-7000.

Weiss Zarett Brofman Sonnenklar & Levy, P.C. is a Long Island law firm providing a wide array of legal services to the members of the health care and financial services industries, including corporate and transactional matters, employment, civil and administrative litigation, regulatory issues, bankruptcy and creditors’ rights, and commercial real estate transactions.

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