U.S. SEC officials to Knoxville founders: Know the rules before you raise
Two SEC attorneys joined UTK's Haseeb Qureshi to walk through the capital-raising compliance landscape and warn founders what's at stake if they get it wrong.
When seeking funding, founders have no shortage of options: bootstrapping, angels, friends and family, venture capital, SAFE notes, special purpose vehicles (SPVs), crowdfunding, and more. But what most don’t consider is the regulatory compliance tied to each pathway.
Two attorneys from the U.S. Securities and Exchange Commission’s Office of the Advocate for Small Business Capital Formation — Special Counsel Pablo Echeverri and T.J. Collins — sat down with University of Tennessee, Knoxville’s Haseeb Qureshi to discuss the most important things founders should know before raising capital. The event was coordinated by the UT Winston College of Law.
So, what is the single most important thing for founders to remember? In true attorney fashion, both Echeverri and Collins said: “It depends.”
The good news is that more legislation addressing small business formation and capital access is gaining traction in Congress.
“These bills are passing through subcommittees and actually hitting the floors this session,” Collins said. “Hopefully, this will mean new pathways to capital and formation will open up for small business owners and founders.”
Small business, it turns out, may be one of the last truly bipartisan issues.
“Small business is like the last standing matter of bipartisanship,” Echeverri said. “It doesn’t have any strong opposition, and everyone knows and agrees that it’s important for our small businesses to do well.”
How does the SEC fit into the picture?
The SEC doesn’t regulate most everyday small businesses. Its rules come into play when founders begin selling equity, ownership stakes, or investment instruments to raise capital. Every offer and sale of securities — even to just one person — must be either registered with the SEC or conducted under an exemption from registration.
Echeverri and Collins emphasized that these rules apply to companies of all sizes, private and public alike, including sales to friends, family, angel investors, and venture capital funds. Penalties for non-compliance can be severe, and selling securities without registration or a valid exemption is illegal.
Full SEC registration is expensive, time-consuming, and generally intended for public companies.
Most small businesses use exemptions instead:
- Regulation D (Reg D) is an SEC regulation governing private placement exemptions that helps smaller companies skip the lengthy registration process and obtain funding faster. Under Reg D, founders can raise an unlimited amount from accredited investors without public advertising. The SEC defines accredited investor status on its website.
- Regulation Crowdfunding (Reg CF) permits a company to raise up to $5 million in 12 months from both accredited and non-accredited investors, with required disclosures filed with the SEC. Collins and Echeverri did caution, however, that founders planning to seek venture capital down the road should think carefully: a crowdfunded cap table can complicate future fundraising.
- Regulation A sits between crowdfunding and a full IPO. It has two offering tiers: Tier 1, for offerings of up to $20 million in 12 months, and Tier 2, for offerings of up to $75 million in 12 months.
Whichever path founders choose, both attorneys had the same bottom-line advice.
“If you choose to take an exemption, seek good legal counsel,” Collins said. “It’s always best to seek out good lawyers early versus having to fork out so much money later.”
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