Written by The White Law Group• November 21, 2022• 8:43 pm• Blog, Securities Fraud

The Trouble with Private Placements Under Regulation D

Private Placement Investors Attorney

Are you concerned about a private placement investment you made with your financial advisor? The attorneys at the White Law Group may be able to help you recover your investment losses through FINRA Arbitration.

A security offering exempt from registration with the SEC is sometimes referred to as a private placement investment or an unregistered offering. Under the federal securities laws, a company may not offer or sell securities unless the offering has been registered with the SEC or an exemption from registration is available.

Generally speaking, private placements are not subject to some of the laws and regulations that are designed to protect investors, such as the comprehensive disclosure requirements that apply to registered offerings. Private and public companies engage in private placements to raise funds from investors. Hedge funds and other private funds also engage in private placements.

As an individual investor, you may be offered an opportunity to invest in an unregistered offering. You may be told that you are being given an exclusive opportunity. The opportunity may come from a broker, acquaintance, friend or relative. You may have seen an advertisement regarding the opportunity. The securities involved may be, among other things:

-common or preferred stock,

– limited partnerships interests,

-a membership interest in a limited liability company, or

– an investment product such as a note or bond.

Keep in mind that private placement investments can be very risky and may be difficult, if not virtually impossible, to sell.

Regulation D: What is it?

When reviewing private placement documents, you may see a reference to Regulation D. Regulation D includes three SEC rules—Rules 504, 505 and 506—that issuers often rely on to sell securities in unregistered offerings. The entity selling the securities is commonly referred to as the issuer. Each rule has specific requirements that the issuer must meet.

If you have reason to believe that an unregistered offering claiming to rely on one of these rules does not satisfy the applicable requirements, consider this a red flag about the investment.

Rule 504

Rule 504 permits certain issuers to offer and sell up to $1 million of securities in any 12-month period. These securities may be sold to any number and type of investor, and the issuer is not subject to specific disclosure requirements. Generally, securities issued under Rule 504 will be restricted securities (as further explained below), unless the offering meets certain additional requirements. As a prospective investor, you should confirm with the issuer whether the securities being offered under this rule will be restricted.

Rule 505

Under Rule 505, issuers may offer and sell up to $5 millions of their securities in any 12-month period. There are limits on the types of investors who may purchase the securities. The issuer may sell to an unlimited number of accredited investors, but to no more than 35 non-accredited investors. If the issuer sells its securities to non-accredited investors, the issuer must disclose certain information about itself, including its financial statements. If sales are made only to accredited investors, the issuer has discretion as to what to disclose to investors. Any information provided to accredited investors must be provided to non-accredited investors.

Rule 506

An unlimited amount of money may be raised in offerings relying on one of two possible Rule 506 exemptions. Similar to Rule 505, an issuer relying on Rule 506(b) may sell to an unlimited number of accredited investors, but to no more than 35 non-accredited investors. However, unlike Rule 505, the non-accredited investors in the offering must be financially sophisticated or, in other words, have sufficient knowledge and experience in financial and business matters to evaluate the investment. This sophistication requirement may be satisfied by having a purchaser representative for the investor who satisfies the criteria. An investor engaging a purchaser representative should pay particular attention to any conflicts of interest the representative may have.

As with a Rule 505 offering, if non-accredited investors are involved, the issuer must disclose certain information about itself, including its financial statements. If selling only to accredited investors, the issuer has discretion as to what to disclose to investors. Any information provided to accredited investors must be provided to non-accredited investors.

Private Placement Investors: What should you do before investing?

Private placements may be pitched as a unique opportunity being offered to only a handful of investors, including you. Be careful. Don’t be fooled by this high-pressure sales tactic. Even if the deal is “unique,” it may not be a good investment.

It is important for you to obtain all the information that you need to make an informed investment decision.
In fact, issuers relying on the Rule 505 and 506(b) exemptions from registration must provide non-accredited investors an opportunity to ask questions and receive answers regarding the investment. If an issuer fails to adequately answer your questions, consider this a warning against making the investment.

Unlike registered offerings in which certain information is required to be disclosed, private placement investors are generally on their own in obtaining the information they need to make an informed investment decision. Investors need to fully understand what they are investing in and fully appreciate what risks are involved.

FINRA Private Placement Investment Rules

As of October 1, 2021, The Financial Industry Regulatory Authority Inc’s rules regarding private placements require that brokers, in addition to filing private placement memorandums, must also file retail communication such as web pages, slide decks, summaries, teasers, fact sheets and investor packets related to private placements. Retail communications to 25 or more investors will now be due at the same time as the PPM (private placement memorandum).

For more information please see: FINRA: Private Placement Offerings Rule Change

Private Placement Investors may have Claims

Brokers have a fiduciary duty to make investment recommendations that are consistent with the clients’ net worth, investment experience and objectives. Risk tolerance, age, and liquidity needs also need to be considered.

When brokers violate securities laws, such as making unsuitable investments in private placement investments, the brokerage firm they are working with may be liable for investment losses through FINRA Arbitration.

If you are a private placement investor and have suffered significant losses, please contact the securities attorneys of The White Law Group at 888-637-5510 for a free consultation.

The White Law Group’s FINRA arbitration attorneys have handled over 700 FINRA arbitration claims involving unauthorized trading, unsuitable investments, fraud, negligence, churning/excessive trading, and improper use of margin.

The White Law Group, LLC is a national securities fraud, securities arbitration, investor protection, and securities regulation/compliance law firm with offices in Chicago, Illinois and Seattle, Washington.

For more information on The White Law Group, visit https://whitesecuritieslaw.com.