SEC and State Compliance Part 3: Solicitation in Rule 506(b) Offerings
As a syndication attorney, this
is the second most common
problem that I see happening not
only with people who I meet with
for the first time, but it's
also the problem that I think is
definitely under a lot of
scrutiny by regulators on
exactly how they can be fixed
and address this problem. We're
gonna go through that problem.
The problem is solicitation that
occurs with Regulation D, Rule
506(b) offerings. Just as an
aside that number one problem is
when people just assume that
it's not a security, that what
they're offering, they are
making investments with private
investors who are going to be
taking on a passive role. And
they're saying, Well, its
friends and family. That's the
number one problem. It's not
correct. It is a security, it
needs to be either registered
with the SEC, or fall under an
exemption, like Regulation D.
But let's go on to the number
two most common thing that I
see, in this series, this seven
part series on how to stay out
of trouble, in compliance with
both the SEC and state
regulators.
This is what it looks like.
There's a Regulation D Rule
506(b) offering, because someone
wants to include non accredited
investors in their investment.
They don't know everybody, and
that is the where the problem
lies. So we're going to talk
about solicitation, how that
works, what the problem is, and
what the what the real rules are
about it. And then we'll put
that in the context of how to be
in compliance with the SEC. So
let's go to a whiteboard. So we
can outline things a little bit
easier here. So what is
solicitation?
Well, it falls under Rule 502.
"But I thought we were talking
about Rule 506(b)?" Yes, it
does. And 506. Rule 502 is where
we have in Rule 502(c), as it
relates to Rule 506(b) just for
manner speaking, because what
it's what this rule says is any
kind of offering except as
provided in rule 504(b)(1),
which no one really uses
anymore. So let's get rid of
that. Or if it falls under
506(c). So what does that leave
us with? We're not doing we're
not really talking about rule
504. We're not talking about
Rule 506(c) that means we must
be talking about
506(b).
So we're talking about Rule
506(b) here. So we've heard
different things about well, you
can't advertise you can't do
this need to have a they need to
be people are known you people
in your network. Let's put it
all in context. The rule
actually doesn't say explicitly
that you need to know everybody.
However, what it does say is the
following. So there are two
there are two examples that are
given on what is what is
solicitation. So the first set
of examples is an advertisement
a article a notice a that is in
like a newspaper.
Magazine or similar media or TV
or radio. Now this just kind of
shows how lawmakers really
aren't that up to date. Because
this was I mean, we revised this
whole section much later. Come
on who's really doing this
anyway, it was really
advertising in the newspaper
We're actually a lot of people
do advertise their fiber 60s in
the newspapers successfully. But
that's not really what we're
interested in most of the time
people want to know about, what
about the web?
And social media. Right? I mean,
that's what most people are
going to as their first time.
But Rule 502(c) is really saying
that this is general
advertising. But it's it's
includes this, it's not limited
to just this. It's really
anything. So I think this is the
similar, I think any regulator
would agree that if you put it
on the web, or social media or
Tik Tok, or YouTube or whatever,
we're talking about something
similar. So that is definitely
general solicitation, right. The
other example that they give,
actually, we'll go to the other
example in just a minute. Let's
talk first about what we mean by
putting it, putting this
advertisement out there on the
network and what you can and
what you can't do. So when we
are advertising and when we're
soliciting. So a general
solicitation means we're making
a public announcement to the
world, we're putting it out
there where anybody could find
out about it and come to us.
What the SEC is trying to
prevent here in Rule 506(b), is
they're trying to prevent people
from putting together
syndications and funds by just
broadcasting it out whereby they
get non accredited investors.
Because the thought is this, if
you could put a net out there,
that is broadcast totally loud,
loud. But we're able to bring in
non accredited investors, those
non accredited investors don't
have as much protection. So
that's the main interest of the
state and the and the SEC, is
protecting those individual non
accredited investors. If you're
broadcasting it out, there's no
one watching your back. So
compare this compare this to
rule two, a Regulation A
offering, and a Regulation A
offering, all the documents are
put together, and it's given to
the SEC who reviews it and and
makes sure that it's that
there's enough there that an
investor a non accredited
investor could go in. That's why
it's okay to advertise on a
Regulation A offering. And it's
okay to have non accredited
investors in the same one. But
under 506(b), it would be
completely abnormal. It used to
be 506(c) originally didn't
exist. It used to be that the
only kind of ways to market to
market a Regulation D was not on
was no solicitation of any kind.
So actually allowing
solicitation to occur under
506(c) is totally new. It's very
different and brand new for us.
Whereas 506(b) is it's been
there for for pretty much since
the get go. And under 506(b) now
we're trying we are trying to
say okay, if you know if you
have this relationship, then you
could do it. So that brings us
to this. Well, the establishment
of the relationship issue,
right? Because if you can't do a
general advertisement, then
there's only one other
conclusion, right, that the
investor had to have come to you
through another means right?
Meaning that you knew them. So
you weren't making a general
solicitation. You were making a
very specific solicitation.
Brother in law, are you
interested in investing in this
very clear cut, very directed,
it's to somebody who I know as
well already within my network.
That's the difference. So that's
kind of the overarching thought
about why you need to know them.
Now, this is definitely 100% Not
to say. So I am not saying this
at all. I'm not saying that you
can bring in investors, who a
friend of a friend of a friend
knows because you're not making
a direct communication with
them. That's probably not okay.
Now, it doesn't specifically say
that in the rules. But once it
starts getting reasonably
removed from you, it stops
looking a lot like like it
starts looking more like some
sort of general solicitation.
And, or some attempt to get
around the rules, I think it's
definitely the best possible
advice that I could give you is
if you're going to do a
Regulation D rule 506. B
offering, you only solicit to
people that you already know. So
it's not a general solicitation,
it's a you go to them to the
people that you already have a
pre existing relationship with.
It's clear cut, you've already
got the relationship. I know who
all these people I'm putting
this offering out there, right.
So that's clear cut. Where
people start bending the rules
is always well, how do I have to
know them? Right, and I get this
question a lot. How do I have to
know them in order to bring them
into my offering? You know, what
about the friend of a friend?
You know, can I do that? And by
the way, I want to compensate my
friend of a friend. We'll deal
with that in the Finder
selection later. But for now,
that's probably not okay. It
probably is outside of the
rules, because it starts looking
like a general solicitation
where if I'm relying on people
that aren't me to go and talk to
other people, even if they're
not being compensated, that
starts looking a lot like some
sort of solicitation. So that
brings us to our next part, our
next example, that the SEC gives
us, or actually the the
lawmakers give us on exactly
what to do with are exactly the
most common way that used to
exist, and still pretty darn
common in order to build the
network and find investors. And
that is a seminar or meeting. So
what happened at first is people
would say, Okay, we cannot sell,
we cannot do a solicitation, but
here's what we're gonna do.
Instead, I'm gonna pull it out
there, hey, come to my meeting.
And we're going to talk about
real estate. Now, people would
show up at this, at this
meeting, I'm just using real
estate as an example. It can be
anything investing in
businesses, investing in notes,
whatever it is. So people would
show up to this meeting, and it
wasn't really about that. It was
about let me tell you about
these investment that we're
working on. And we can you can
come in that way. So this rule
very specifically under Rule
502(c)(2) says, okay, hold on a
minute here, whenever there is a
seminar or a meeting, where
there's been any kind of
advertisement.
And I'm not gonna go through the
exceptions, because there are a
few exceptions. They're actually
very, very rare. So. So there's
if there's been this sort of
solicitation of hey, come to my
meeting, but at that meeting,
where I'm basically selling,
that's not okay. That is a
solicitation as well. So these
are the two ideas. A
solicitation is, you know, no
advertising, no doing this fake
seminar thing in order to
actually advertise. This is
something that the SEC is very,
very aware of. And this is
something that every every
regulator knows is going on. To
a large extent, that
solicitations are happening,
that it's happening, you know,
and people are being sneaky and
clever. Now, there's only so
much that the SEC or any state
can regulate it. But people are
getting to get caught. And
people are going to have major,
major penalties as a result of
it. The odds of it, of getting
caught and that happening, I
predict this is a prediction. I
predict it's going to go on the
rise. I think as the economy
changes as people start
investing more and more into
alternative investments. And
these things pick up even more
than they are today. Because I
think that the alternative
investment horizon is extremely
bright. But that's another topic
for another day to about why
public markets are failing
investors, but the private
market, these alternative
investments are going to do
great, and they're going to do a
lot and they're going to make
investors a lot of money. And
they're going to make
syndicators and fund managers
Oh, lot of money in the in the
very near future mean they're
already do but they will make
even more. And what's going to
start happening is that that
hunger for investors for non
accredited investors who can
come into the offerings, people
are just going to be more and
more frustrated when they're
trying to put these deals
together because they want more
and more of those non accredited
investors. And it's
understandable that they do I
get people in my, you know, that
we just we talked to every day
who were putting put deals
together. And a lot of times,
it's how can I make this work
where I can have non accredited
investors. But I don't have but
I can make this happen. And 99%
of the time, these people are
actually trying to just do a
good thing. They're trying to,
you know, be the Robin Hood,
like the stock trading platform
of real estate or something. For
the non accredited investors,
for the every person, for the
for the people who aren't, who
don't qualify for that. That's
very noble, it's, it's a great
thing to do. It's just it's not
within the rules. And the
regulators know this. And the
whole point of the rule is to
protect those non accredited
investors from not from these
people who are trying to do a
good thing, but from the people
who are unscrupulous and will
take advantage of them. And so
how can the state regulators in
the SEC monitor this more? Well,
there's going to be a lot more
investigations, and there's
going to be a lot more things
that starts happening as people
start digging deeper into, well,
what's actually going on here.
Now, I've seen this happen
firsthand. So I have a client
who was putting together a a
Rule 506(b) offering, before
they hired me, they had put
together a Rule 506(c) offering
and and put it out there as
well. Now, that offering
actually never happened. And
actually the both two offerings,
we changed everything radically
and restructured it and and put
it forward because it was much
more there. There were technical
problems about the assets that
they wanted to actually acquire
weren't weren't available, there
were real real estate assets.
And it turned out that the that
they just didn't want to go
through that and wanted to
repackage it. So nothing
happened. But under that rule
506(c) offer. They were testing
the waters, they were putting
they put some advertisements out
there. Well, the state, one of
the states, one of the 50
states, a state regulator had
seen that ad. And they were
concerned about it. So they
thought maybe then they were
advertising a Rule 506(b)
offering. So they wrote my
client a letter and said, Please
tell us everything you can about
this offering. Now, this wasn't
the offering that I did for
them. This was actually a 506(c)
offering that was actually done,
but they didn't have an attorney
at the time, who knew to put
that sort of thing, make it very
clear that it's a Rule 506(c)
offering only accredited
investors, the independent
verification, blah, blah, blah.
So they didn't know. So the
regulator's didn't know, but
they The point is that they were
watching. And they reached out
to my client and said, Okay,
what about this and tell us
about every other offer you have
going on? Because then as they
did an investigation, they
started hearing about the other
offer that I wrote the 506(b)
offer. I don't know how it came
about, oh, I know how it came
about. Because we did a we filed
the forum D on it ahead of time.
So they they saw that they
looked up all the deals that the
that my client had done, they
saw that there was also this
this Rule 506(b) offer. And they
wanted to know about what went
on Who are they how many
investors did they have? What
states were they coming from
what what was the money? Why
didn't they receive notice?
Well, the fact is, is that
didn't know if there hadn't been
a sale occurred. So it was okay
that nothing happened. But they
were watching. And I think
they're going to be watching
more and more. You see a lot of
advertisements of these offers
that are out there. And it's
kind of hard to figure out
whether it's Rule 506(c) or
506(b). And so but they'll make
may makes mention of a state
where we've got this great
multifamily property in Texas,
hey, we're going to be doing oil
and gas in Louisiana or
wherever. In North Dakota. The
states are also looking and
monitoring it because they're
concerned that their their
citizens are going to be taken
advantage of. So they are going
to be watching and they're going
to increase the level of
investigation. Now the SEC today
He doesn't proactively
investigate until there's been a
lawsuit. But they could change
their mind, they could decide to
be more proactive about. And
they may, certainly the states
can can do whatever the states
want in terms of investigating,
they have a right to not only
make sure that they get noticed,
but also to investigate to see
if that what's going on. And I
predict that it's going to
happen more and more. One thing
I've also noticed is that people
are putting together, what
they're saying is, oh, we're
testing the waters and plan on
doing a Regulation A offering,
where they're not trying to do a
Regulation A offering, as soon
as you submit to there. Tell me
more about this investment.
Because it says specifically for
non accredited investors, you're
going to notice that oh, this,
we're actually not going to be
able to do the the Regulation A
offering. But we are doing a
Regulation D Rule 506(b)
offering. That's not going to
fly. No regulator is going to
let that slip, I predict that
all the people that are doing
that are also going to get
munched and rightly so they're
trying to skirt the rules.
Again, just like I discussed in
the first video, this series,
regulators are very smart
people. They're great lawyers,
they really are. And their job,
their mission in life is to
protect the public. Don't try
and get clever, just follow the
rules, and everything's fine.
Their rules are wide enough for
everybody to be able to raise as
much money to do whatever
projects they want to do. The
rules are there to protect the
public. And by complying with
the rules, we stay out of
trouble with the SEC and the
states. We're in compliance,
we're doing better for our
investors anyway, because we're
complying with those rules. I
mean, how awful would it be if
one of your investors loved what
you were doing? They just loved
it. It was so amazing. They
called you every week. We're
just like, Oh, you're the
greatest person ever. But
someone else was unhappy. And
then the SEC stomped on them.
Because they were you did
something or I was wrong. And
now the person who who loved
you. They're out also, their
whole deal just fell completely
apart suddenly and they love.
That's why investors get hurt by
this as well. So I hope this
helps. That is about
solicitation. So solicitation of
Regulation D Rule 506(b) offers.
It's happening out there, but it
doesn't need to, and it
shouldn't it is against the
rules. And when we say no
solicitation, bottom line is no
solicitation. That's all the
regulators are asking for is to
follow that very simple rule
that you follow. Rule 502(c)
have really good Regulation D
Rule 506(b), my name is Tilden
Moschetti.
I am a syndication attorney with
the Moschetti Syndication Law
Group. If we can help you with
your Regulation D Rule 506(b)
offering or your 506(c)
offering. Feel free to give us a
call and let's talk about your
project so we can make sure that
you are in compliance and that
ultimately you're successful in
putting raising the money and
bringing what you want people to
invest in out to the public so
that people can invest, make
money, you make money, everybody
wins.