Private Placement / PPM Attorney - Comparing 504, 505, and 506

When raising capital via the private placement process, a business will typically use one of three exemptions to the registration requirements under federal securities laws.  In this post, I briefly summarize and compare each of the exemptions.

Rule 504

One of the exemptions from the federal securities laws regarding the registration of offerings of securitiescomes in Rule 504. Rule 504 provides an exemption for the offer and sale of up to $1MM of securities in a single twelve month period. In general, an issuer of securities may not advertise, market or otherwise publicly solicit the sale the securities. Purchasers must receive restricted securities, meaning that the securities may not be sold without either registration or an exemption. Unlike some other exemptions, Rule 504 allows for a private sale without any specific disclosure requirements, although care should be taken to provide sufficient information to investors to avoid violating the anti-fraud provisions of the federal securities laws – as I mentioned in an earlier post – disclose, disclose disclose. Make sure there are no false statements, no misleading statements either, and no omissions that might make what you have disclosed misleading.

Rule 505

Another exemptions from the federal securities laws regarding the registration of offerings of securities comes in Rule 505.  Rule 505 allows a company to raise an aggregate amount of $5,000,000 over a twelve-month period.  Similar to Rule 504, Rule 505 does not permit an issuer to use general advertising or general solicitation to market its offering.  A Rule 505 offering is available to an unlimited number of accredited investors and up to 35 non-accredited investors.  Unlike a Rule 504 offering, nonaccredited investors must receive a substantive disclosure document that includes financial statements, although even if only accredited investors are involved, care must be taken such that the anti-fraud requirements are met and that there are no false statements, no misleading statements, and no omissions that might make what you have disclosed misleading.   Purchasers must receive restricted securities, meaning that the securities may not be sold without either registration or an exemption.

Rule 506

The final exemption I will discuss here comes in Rule 506.   Rule 506 contains no limit on the amount of capital that can be raised in an offering. Similar to other exemptions, an issuer using Rule 506 cannot use general advertising or general solicitation to market its offering.  Rule 506 is available to an unlimited number of accredited investors and up to 35 non-accredited investors.  Unlike Rule 505, all nonaccredited investors, either alone or via a purchaser representative, must be sophisticated, that is, they must have sufficient knowledge and experience in financial and business matters to make them capable of evaluating the merits and risks of the prospective investment.  Just as with Rule 505, nonaccredited investors must receive a substantive disclosure document that includes financial statements, although even if only accredited investors are involved, care must be taken such that the anti-fraud requirements are met and that there are no false statements, no misleading statements, and no omissions that might make what you have disclosed misleading.  Purchasers must receive restricted securities, meaning that the securities may not be sold without either registration or an exemption.

As always, make sure you get the advice of a securities attorney with private placement experience.  There are lots of complicated regulatory requirements to comply with, both on the state and federal level.  A private placement attorney can help you navigate the regulations and to draft your private placement memorandum.