Securities Law Compliance: An Overview of Small Offering Exemptions and Registration for Business Owners Interested in Raising Money

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Following is an overview of several elements to be considered by issuers undertaking a “small offering” or “private placement” of securities. For purposes of this discussion, a “security” includes stock in a corporation; certain debt instruments, such as promissory notes or debentures, when issued under particular circumstances; limited partnership interests; and investment contracts. The latter category may include membership interests in limited liability companies under some circumstances, as well as many other forms of investment opportunities. A “small offering” of securities for purposes of this discussion is one that qualifies for an exemption from registration under the federal Securities Act of 1933, as amended. The same offering may be exempt or registered under applicable state laws.

General Observations

The definition of a ”security” is provided by statute, with some judicial gloss added over the years as securities fraud cases have been litigated. Stock in a corporation (even a small ”mom and pop” corporation) is the clearest example of a security as defined by statute. Debt instruments such as promissory notes or debentures may also be securities in many cases.

The sale of securities is regulated at both the state and federal levels. The essential purpose of securities regulation is investor protection through adequate pre-sale disclosure of material aspects of the investment opportunity. “Material” facts are those that would be important to a reasonable investor in making a decision to purchase the securities.

At both the state and federal levels, the general rule is that securities must be registered with the regulatory authority, unless the securities, or the transactions in which the securities are sold, are exempt from registration under applicable statutes or regulations. Sale of unregistered, non-exempt securities is unlawful.

State securities laws (also known as “blue sky laws”) of the state of the issuer and of each state in which investors are solicited will apply. The effect of state and federal securities laws on an offering will depend upon a number of factors, including the amount of capital to be raised, and when, where, and from whom it is to be raised. Issuers should keep in mind that state and federal requirements are cumulative in effect: they must comply with the both sets of requirements, and follow the most restrictive requirement in those cases where state and federal requirements diverge.

Compliance with disclosure requirements is typically easier and less costly if the issuer has prepared a comprehensive business plan.The business plan can be very useful as the basis for required disclosure documents. Equally important is the business and financial planning reflected in the plan. By anticipating and scheduling the capital needs of the business, it should be possible to adapt the securities offerings, and their related expenses, more closely to the actual capital needs of the business. For example, it could be that the necessary capital for a “first phase” of business development could be raised within a single state, and perhaps from a limited number of specially qualified investors that would allow the business to avoid the securities registration process altogether for that phase. Preparation of a business plan that anticipates the need for outside capital will frequently force a client to evaluate business organization not only in terms of operational effectiveness, but also in terms of appeal to outside investors.

State Law Considerations

Generally, most states have both small offering exemptions from registration and simplified small offering registration processes. These exemptions or registrations are typically conditioned by restrictions on the aggregate amount of the offering, the number and qualifications of the purchasers (net worth, income, and/or sophistication requirements), and the manner in which the offering may be made (e.g., no advertising or general solicitation of purchasers; no commissions to salespersons). A commonly used statutory exemption from registration in Oregon permits sales of securities to not more than 10 persons in any 12 month period, subject to certain restrictions on advertising, commissions on sales, and other matters, but without regard to purchaser qualifications involving income, wealth, or investment sophistication. If a proposed offering cannot be structured to qualify for an exemption or a simplified registration, then a full registration will be required.

The small offering registrations in Oregon are described in Chapter 441, Division 65, of the Oregon Administrative Rules. There are three categories of small offering registrations under Division 65, differentiated by the dollar amount of securities to be sold, certain other factors such as numbers and qualifications of purchasers, and the required form of disclosures. A qualified advisor can help the client determine which, if any, of the registration options may be best suited to the issuer’s needs.

To meet its burden of full disclosure, a prudent issuer of securities will prepare a written disclosure document, sometimes referred to as a prospectus or offering memorandum. Written disclosures are typically advisable, and are required in a registered offering. Among other things, disclosures will include a thorough presentation of the key elements of the business plan; a discussion of the security (e.g., stock) to be sold, including the rights and obligations that attach to it, such as voting rights or dividend preferences; risks of the business and of the investment; and intended application of invested funds. In some cases, audited financial statements will be required of existing businesses.

In addition to the disclosure document, other offering documents will typically include a registration application if the offering is not relying upon an exemption; a subscription agreement; a purchaser qualification questionnaire; salesperson registration application; and proceeds escrow instructions and agreement.

Applications for registration of the offering and licensing of salespersons, and, in most cases, disclosure documents must be submitted to the regulatory agency (in Oregon, the Department of Consumer and Business Services, Division of Finance & Corporate Securities). An order of registration or permit must be obtained prior to any sale of the securities. Issuers should plan for a minimum of four weeks for review of a small offering registration application at the state level, and anticipate the possibility that the review period could be extended to address comments or concerns expressed by the securities examiners.

If the proposed offering does not fit within the small offering exemptions or registrations, most states, including Oregon, have a “full” registration process that requires submission of an application for registration and disclosure documents to the securities regulators for review. In Oregon, regulators will review the merits of a fully-registered offering to determine whether, in the eyes of the regulators, the offering is “fair, just and equitable” to potential investors. The regulators will review all aspects of the proposed investment opportunity before issuing the order of registration allowing sales of the securities. The review process typically results in negotiations between the regulators and the issuer of the securities resulting in modifications of the disclosure documents, if not the terms of the offering itself.  Review time will generally be longer than for a small offering registration, and could easily be six to eight weeks.

Typically, it is advantageous from a time standpoint to attempt to structure an offering to fit within an exemption from registration, or within a category of simplified registration. Qualification for one or more exemptions from registration minimizes or eliminates the role of state regulators in the offering process. As a practical matter, however, most offerings require appropriate written disclosure documents, regardless of whether the offering is proceeding under an exemption or a form of registration.

With respect to state law considerations generally, issuers should identify the states in which offers and sales may occur as soon as possible, and keep the number as small as possible. Compliance costs and filing fees can be substantial.  In Oregon, for example, both the small offering and full registration processes require a filing fee based on the size of the offering, with the maximum fee being $1,500. In some states, pre-sale notice filings with the regulators are required even when the offering is relying upon an exemption. Advance planning may eliminate confusion and delay, and will likely result in some cost savings.

Federal Law Considerations

In addition to state laws, federal securities laws will apply to small offerings of securities. However, federal law is not usually a major obstacle for most small offerings.

Offerings by issuers limited to offerees and purchasers in the state in which the issuer is located may qualify for an ”intrastate offering exemption” from federal registration. The intrastate exemption does not impose other purchaser qualification standards, although state law standards, if any, will apply. Certain additional restrictions on the use of proceeds and on subsequent transfer of the securities will apply to securities sold pursuant to this exemption. No filings are necessary to utilize the intrastate offering exemption.

In addition to, or instead of, the intrastate offering exemption, a small offering may be exempt from federal registration as a private placement under Section 4(2) of the Securities Act. A private placement, in essence, is a sale of securities by an issuer to a relatively small number of purchasers with whom the issuer has a preexisting relationship. General solicitation of purchasers (e.g., advertising) is not permitted.

A small offering may also be structured to qualify for exemption under federal administrative rules known as “Regulation D.” Requirements under Regulation D vary somewhat according to the amount of the offering and the qualifications of the purchasers. States are preempted from regulation of sales under Regulation D, Rule 506, and for this reason, among others, Rule 506 has become an increasingly popular exemption from federal registration for private companies. Rule 506 is a “safe harbor” for compliance with Section 4(a)(2) of the Securities Act of 1933, and is, by far, the most frequently used rule under Regulation D.

In July 2013, the SEC adopted final and proposed rules pursuant to the federal JOBS Act that will expand but also complicate reliance on Rule 506 in some circumstances. Rule 506(b) retains the long-standing terms of Rule 506 with respect to information requirements, general solicitation restrictions, and post-sale (but no pre-sale) notice filing requirements. New Rule 506(c), effective on September 23, 2013, will permit a Rule 506 offering with the use of general solicitation (e.g., advertising), so long as all purchasers of securities in the offering are accredited investors, and the issuer has taken reasonable steps to verify that accredited status. However, under proposed rules issued on the same date, a Rule 506(c) offering could require a pre-sale notice filing, and pre-usage filing of information used in the general solicitation of potential investors. These could be significant barriers to usage of the 506(c) exemption for many issuers of securities. The entrepreneurial startup and angel investing communities are actively seeking changes to the proposed rules during the comment period to make it more user-friendly. Reaction from the SEC at the end of the comment period may occur before the end of 2013.

Additional Considerations

It is a common misconception that use of an exemption from registration exempts the issuer of securities from the antifraud restrictions of securities laws. That is untrue at both the state and federal levels. Securities ”fraud” does not imply or require an intent to deceive. Rather, it may arise from a simple failure by the issuer to disclose a material fact, or a misrepresentation of a material fact (even if innocently done), if the issuer knew or reasonably should have known of the existence of the true fact. An issuer seeks protection from securities fraud claims by full disclosure of material facts in a written disclosure document.

The consequences of securities sales without adequate disclosures or proper attention to registration or exemption requirements can be disastrous for a small business. A purchaser of securities in such a case may be entitled to rescission of the investment (i.e., recovery of the purchase price), plus interest and attorneys’ fees. The purchaser may recover those amounts from the entity, or if the entity is unable to pay, from its officers, directors, or other material participants who may be personally liable in some circumstances.

Cost Factors

The foregoing discussion may indicate why it is difficult to estimate the cost of securities compliance in a particular offering. Attorneys’ and accountants’ time involved in preparing the necessary documents and satisfying requirements for exemptions or registrations under applicable securities laws is not directly related to the amount of the offering. Issuers will be able to reduce costs by preparing a comprehensive business plan that adequately describes the proposed business and/or product, its history and its proposed production and marketing; financial planning and projections for the business; and proposed use of the proceeds of the offering, among other things. It will be cheaper to limit the offering to as few states as possible. Multi-state compliance may require additional registration fees and will require additional attorneys’ fees.

Appropriate arrangements for payment of fees will be negotiated with each client. Direct costs such as filing fees and printing costs are payable by the client.


This discussion is only a summary of certain aspects of small offering registrations and exemptions. Businesses contemplating a securities offering are urged to consult qualified advisors at the earliest possible time. Questions about any of the foregoing may be directed to Lee Lashway.

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