This special edition podcast covers two announcements from the SEC first brought to my attention by my guest, Mark Roderick, who is best known as The Crowdfunding Attorney.
The first is that in due course, it will be permitted to pay commissions to someone who helps you find equity for your projects based on the amount of money that they raise for you. This is a seismic change. The second is the addition of non-accredited investors to deals that would normally only be available to accredited investors.
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What You're Going to Learn
SEC Announces Very Important Changes in Crowdfunding Rules
SEC Already Made Two Major Changes to Crowdfunding Rules During COVID – Here Are Two More
Soon You Can Legally Pay Commission to People Who Bring You Equity
SEC Changes to Allow More Crowdfunding Platforms to Reach Non-Accredited Investors
Important New SEC Rule Real Estate Syndicators Need to Know
SEC Changes to Crowdfunding Rules Opens Access to Even More Investors
SEC Already Made Two Major Changes to Crowdfunding Rules During COVID – Here Are Two More
ADAM GOWER: Give me, kind of the 30 second, really the headline, to what happened with these, the two that have already passed with the SEC. And actually what I'll do is I'll create short clips from these. So, I'm going to ask the question, then give me just a brief answer. But then, let's dive in a little bit deeper, if you don't mind, into these two latest because these are really news breaking. So give me the 30 seconds. First of all, what were the crowdfunding enhancements that they made earlier in the summer?
MARK RODERICK: Well, back in March, the SEC came out with these proposals and there were a whole bunch of proposals and probably hundreds of pages. But I'm going to narrow it down to two things. One, they increased the amount a sponsor could raise to five million dollars a year from one million and that is a big increase. You know, it's a 500% increase. And the second thing they did is eliminated the limits on how much an accredited investor could invest in a Title III offering. And those two things together are extraordinarily important. Either one would have been important, but together they are so important that the focus of private fundraising is now going to change from old fashioned private placements, whether they're done offline or online. It's going to change from Rule 506, whether 506(b) or 506(c) to Title III crowdfunding. That is absolutely going to happen. And we're talking about, you know, a multibillion dollar industry. So, that's going to be the effect.
SEC Changes to Allow More Crowdfunding Platforms to Reach Non-Accredited Investors
ADAM GOWER: Fantastic. So, again, let me please, just let me translate. When you talk about titles this and portals that. Let me just put it into language that I understand and that would mean, for example, we have Reg CF portals like, just for example, Small Change. What they've been doing, is doing, crowdfunding in the traditional sense. They are regulated by FINRA, overseen by the SEC and they only do Reg CF, which is non-accredited investors. When you talk about Title II, what are you talking about exactly? Are you talking about crowdfunding platforms like CrowdStreet, and RealCrowd and Realty Mogul?
MARK RODERICK: Yes, I'm sorry. Yes. Let me translate. We talk about titles because all the crowdfunding stuff came from a law. The JOBS Act, that was signed into law by President Obama in 2012. And laws, in this country, are divided, the pieces of them, are divided into things called "titles". That's all it's about. They could be called chapters or they could be called anything else, but they happen to be called titles. So, the part of the JOBS Act that introduced what Small Change does, what you call regulation crowdfunding. It just happened to appear in Title III of the JOBS Act, so we call it Title III crowdfunding, whereas, the changes to Rule 506, that allow general solicitation, were in Title II of the JOBS Act. So, yes, people like RealCrowd and CrowdStreet, and so many others, rely on Rule 506(c), which we refer to as Title II crowdfunding.
ADAM GOWER: Right.
MARK RODERICK: Is that a good translation?
ADAM GOWER: Yes, perfect, and therefore, the shift means that those sites like CrowdStreet, Realty Mogul, RealCrowd, I don't want to leave anybody off, because I know all about, I don't want to offend anyone but, what that means is, that they can now raise money from non- accredited investors. That's the bottom line is it?
MARK RODERICK: It is the bottom line and not only can, but should, right away!
SEC Changes to Crowdfunding Rules Opens Access to Even More Investors
ADAM GOWER: So, the difference means that now, the CrowdStreets and the RealCrowds and Realty Moguls of the world, they can now apply to be a Reg CF funding portal and should. That's the point you're making, right?
MARK RODERICK: Absolutely.
ADAM GOWER: OK. So now, a sponsor, once they do that and they get approved, etc. They go through all the paperwork. Once they do that, a sponsor can now list on those platforms and through them they can raise from non-accredited investors, which is something they were unable to do before.
MARK RODERICK: That's right. And I'm just going to, and you can edit this out if you want. But the reason they should, is not just because they are going to make more money and they will absolutely make more money. You know, those sites are now appealing to 10 million American households. If they offer Title III, they will appeal to 120 million American households. So, the pool of capital becomes much, much deeper. But, just as important, and you knew I was going to say this, in this podcast. We have this terrible situation in America of growing deep and growing wealth and income inequality. And this is something that crowdfunding can help address, which is one of the reasons it's so cool. But, those sites, the CrowdStreets and the RealCrowds, they have these terrific deals. Terrific real estate investments that used to be only for very wealthy people. Now, because of crowd fund Title II crowdfunding, they've been made available to the 8 million American accredited investors, but by using Title III, these sites can make these opportunities available to, you know, 150 million Americans. And, they should. It's good for them and it's good for the country. And those fortunately, those two things are not intention. Everyone wins. So, you knew I was going to say that because that's what my blog post says.
ADAM GOWER: I know you're passionate about that, and it's very interesting. I'm going to ask you something about that, as we wrap up, but I'm going to save, I just tapped out a reminder not to forget to ask it. I do want to ask you and we're spending a lot of time on these earlier changes, I'm particularly interested in the ones that you announced yesterday in your email. But, before we go there, the expansion to unlimited investment in a Reg CF deal, for an accredited investor. What was the deal with that and why was there ever any kind of restriction on that?
MARK RODERICK: Well, it was a mistake. You know, there's an old saying, you've probably heard, there are two things you never want to see being made. One is sausage, the other is law.
ADAM GOWER: I remember, that's right. You told me that.
MARK RODERICK: And, so when the JOBS Act was being written, like all legislation, it just gets marked up in overnight drafting sessions of people throwing in things at the last minute. And probably, no one thought about it. They just thought, oh, this is a new kind of crowdfunding, new kind of capital formation. It's very dangerous, you know, because there's no SEC review. We're allowing in non-accredited investors, so we're going to limit how much each person can invest. Because by definition, we're going to limit how much they can lose. And no one in the process stepped back and thought, but wait a second, accredited investors in Reg D can invest as much as they want anyway. Why would they be limited here? It just didn't occur to anyone. So, now it has occurred to them. And now, accredited investors are treated the same across all the different kinds of capital raising. Reg A, Regulation A accredited investors can invest anything. Non-accredited are limited. Reg D accrediteds can invest anything and now in Title III or regulation crowdfunding, accrediteds can also invest anything. So, this was very much a fix rather than a policy change.
The SEC Considers Legalizing Finders Fees and Commissions for Crowdfunding
ADAM GOWER: So, let's get on to these two ultra exciting ones. The ones that you reported on yesterday. Let's start with commissions. That's really interesting. This idea of Finders because, I see a lot of stuff out in the market that make me wonder, at the moment. But, this seems to be a very fundamental change. Can you explain again, in layman's terms, what this means people will be able to do?
MARK RODERICK: Yes. So under current law, as it has always been, since the 1930s. If you are a person who goes out and finds capital for companies. Because you have a big rolodex, and I realize, you're old enough to understand what a rolodex was.
ADAM GOWER: I'm afraid I do.
MARK RODERICK: The millennials listening, are, what the hell is a rolodex? But anyway, it was a list of all your contacts. It was paper. It's actually paper. But anyway, someone who had a lot of contacts would be in the business of, a company would call them and say, listen, I'm trying to raise 2 million dollars for this project, whatever it was, real estate or anything else. Do you know anyone who might be interested? And these people, and we've always called them "Finders", would say, well, yeah, I actually do know somebody. And the deal is, if I'll introduce you to that person and I'll talk with them for you, and if they end up investing, you give me something. And usually, you give me a percentage of what they invest. And guess what? That has always been illegal. It is always, at the same time, if you can keep these two things in your brain, it has been illegal and a key component of how the private equity markets actually operate. Those people are supposed to be, under the letter of the law, they're supposed to be registered as broker dealers, under Section 15 of the Exchange Act, but they're not. And they're out there. This issue gets raised by securities lawyers like me, time after time. A client will call and say, listen, there's a guy out here who says he can raise 5 million dollars for me, he wants 5%. I say that's illegal. We get on the phone with the guy, he says..
ADAM GOWER: I've been doing it for 40 years.
MARK RODERICK: I've been doing this for 25 years. And he's not lying.
ADAM GOWER: A confession.
MARK RODERICK: It's a confession, but this is how the private securities market has worked. And the SEC has simply turned a blind eye. Every now and again, it'll bring an enforcement action and you'll get a lot of, you know, lecture seminars. Lawyers telling you, you can't do this. And in the very room, where the lawyer is giving the seminar, saying you can't do this, you know, the deals are being done. So, the SEC, literally for decades, has been wringing its hands and it's always being told, you've got to come up with some rules because this is happening. You might as well regulate it. So, that's the background. The facts on the ground is this is being done. So this, what happened, you know, whenever it was, last week, finally, after literally decades, the SEC has made proposals to legalize, under some circumstances, what finders do and this is enormously important.
Commissions Are Not Allowed in Crowdfunding. Wrong! New SEC Rules Set to Change That
ADAM GOWER: It is seismic. So let me ask this, though, first of all, its not law, so you can't go out and do it yet technically. But, if it becomes law, and I know I'm asking you to predict how it might look, but, what would it mean? Would you just fall under the category naturally in some way, or would you have to apply to be, fill out some kind of application to be an official finder and be certified or licensed?
MARK RODERICK: I understand. No. There is, as proposed, there is no licensing about it. It is really just a question of having two contracts. One, the Finder has a contract with the issuer, the companies trying to raise money, and it says what the Finder is going to do and how he is going to be compensated. And two, a contract, a disclosure with the investors. Investors need to know that if they are dealing with Adam and Adam is being compensated as a Finder, investors need to know that. Because, you know, they might then be a little more wary of what Adam is telling them about this fabulous opportunity, knowing Adam will take a piece of the action. But that's it. There is no licensure at all.
ADAM GOWER: Phenomenal. Now, does that also mean that if a deal goes wrong, liability will now transfer to the Finder as well, for having raised money?
MARK RODERICK: Not simply for having raised money. The finder will not necessarily be, I mean, no one's liable if a deal just goes bad. The Finder is going to be liable if he lied about the deal, under just the general anti-fraud rules, as Finders are now. So, this is not increasing a Finder's liability. In fact, Finders have an enormous exposure now because what they're doing is illegal. And therefore, even if a deal just goes bad, you know, the real estate market collapses and people lose their money, the Finder is liable, as an unlicensed broker dealer. That's current law. So, the net effect of these proposals is to dramatically reduce the Finders legal liability.
The One Thing Wall Street Fears Just Happened – New SEC Rules to Change Everything
MARK RODERICK: One of the first questions that I and many others had, about this Finders proposal, as important and welcome as it is, is, well, how's the world of regulated broker dealers going to feel about this? Right? Because they're saying, wait a second.
ADAM GOWER: That's our job.
MARK RODERICK: That's our job. We have to go to school. We're licensed. We're regulated. Have to deal with FINRA. Why are you going to let these guys take a piece of our pie? And that has indeed, anecdotally, been the reaction of the broker dealer community. They don't like this and now we're into turf wars and politics. And, I could well see Wall Street pushing back, not only on the Finders Rule, but on crowdfunding, generally. Crowdfunding is the internet. The internet is about eliminating middlemen, right, whatever the industry is. Well, it so happens that all of Manhattan, from the East River to the Hudson River, are middlemen. And up to this point, they haven't, you know, crowdfunding hasn't been on their radar. It's just been too small. But as it grows, I guarantee you, those middlemen are going to push back. They're going to say, well, we have to protect investors. You know, we can't allow that. We're the only ones who can protect investors. So, you know that crowdfunding is beginning to be successful when it starts to receive pushback from Wall Street.
