Raising money is a critical concern for most small businesses. Whether it’s seed funding to get the business started or raising capital to take the business to the next level, every business needs money. But it’s not as simple as offering potential investors an opportunity and then letting the money pour in. Anytime a business seeks to raise money by promising a return of some sort on the investment, then securities laws apply.
Complying with Both Federal and State Law
The two primary federal securities laws that apply when a business wants to raise money from investors are the Securities Act of 1933 and the Securities Exchange Act of 1934. Let’s say you have friends from college that might be interested in investing in your business. If there is an expectation that those friends could potentially earn a return on their investment, then regardless of what you and your friends call the investment, it is a securities transaction, and you must comply with federal securities laws. In addition, your business must comply with the securities laws in the state where your investors live.
Securities Must Either be Registered or Exempt From Registration
To comply with both federal and state law, every securities transaction must either be registered with the Securities and Exchange Commission (the “SEC”) or exempt from registration. And because state securities laws also apply, you must also register in the state where the securities are being sold or find an exempt from registration in that state. Generally, a federal registration will mean that the state does not have to review and approve the transaction, but the state may still require a notice filing and registration fees with the state’s regulatory body.
Securities Fraud: Small Businesses Beware
Regardless of whether the securities transaction must be registered with the SEC and/or a state agency or is exempt from the registration requirements, all securities transactions are subject to anti-fraud provisions. This means that the small business and its principal owners and managers cannot make any false or misleading statements about the business or the investment opportunity. If you do mislead investments, then you can face criminal, civil, and administrative enforcement actions, and you can personally be sued by the investors and ordered to repay their investment.
So how do small businesses raise money?
With this dual regulatory system and the potential penalties for getting it wrong, you may be wondering, “How can my small business raise money? This seems too complex.” Most small businesses raise money by trying to fit within the exemptions to registration in order to minimize some of the legal complexity. There are multiple exemptions to registration based on the number and types of investors you are considering and the type of disclosures you make to potential investors. This is why it’s so important to discuss your business plans with your attorney long before you approach potential investors.
