illustrations in the rule regarding how the aggregate offering
limitation is calculated in the event that an issuer sells securities
pursuant to Rule 504 and Rule 505 within the same twelve-month
period.\154\ We also are seeking comment on whether any additional
changes to Rule 504 should be made at this time that would further
increase issuer capital formation options without any increase in risks
to investors.
---------------------------------------------------------------------------

    \152\ For example, in order to address the potential
inefficiencies associated with state law review and qualification of
Regulation A offering statements, as highlighted by the GAO Report
to Congress required under Title IV of the JOBS Act, state
securities regulators and NASAA implemented a streamlined
coordinated review program for Regulation A offerings that was
designed to address many of the perceived concerns of market
participants. See Factors that May Affect Trends in Regulation A
Offerings, GAO-12-839 (July 2012) available at: http://www.gao.gov/assets/600/592113.pdf (``GAO Report''). See also note 11 above for a
brief description of state coordinated review programs.
    \153\ Pub. L. 112-106, 126 Stat. 306.
    \154\ See Notes 1 and 2 to Rule 504(b)(2). [17 CFR
230.504(b)(2)].
---------------------------------------------------------------------------

    In light of the proposed changes to Rule 504, we also seek comment
on the continued utility of Rule 505 as an exemption from registration.
Rule 505 is used far less frequently than Rule 506, and an increase in
the Rule 504 offering ceiling from $1 million to $5 million could
diminish its utility.
    The proposed amendments to Rule 504 would raise the aggregate
amount of securities an issuer may offer and sell in any twelve-month
period from $1 million to $5 million, which is the maximum statutorily
allowed under Section 3(b)(1).\155\ The Commission has not raised the
12-month aggregate offering limit in Rule 504 since 1988, when the
Commission increased the original Rule 504 offering limit of $500,000
to $1 million.\156\ We believe that raising the aggregate offering
limitation to the maximum statutorily allowed under Section 3(b)(1)
would facilitate issuers' ability to raise capital. The proposed
offering limitation would increase the flexibility of state securities
regulators to set their own state offering limitations and to consider
whether any additional requirements should be implemented at the state
level. In addition, it would facilitate state efforts to increase the
efficiencies associated with the registration of securities offerings
in multiple jurisdictions through regional coordinated review programs.
---------------------------------------------------------------------------

    \155\ Rules 504 and 505 were adopted pursuant to the
Commission's small issues exemptive authority under Section 3(b)(1)
of the Securities Act, which gives the Commission authority to adopt
an exemption for offerings not exceeding $5 million where the
Commission believes registration under the Securities Act is not
necessary by reason of the small amount involved or the limited
character of the public offering.
    \156\ See SEC Rel. No. 33-6758 (Mar. 3, 1988) [53 FR 7870 (Mar.
10, 1988)]. See also discussion in Section V below.
---------------------------------------------------------------------------

    Much like the deference that Congress provided to the states in the
intrastate offering exemption under Section 3(a)(11), in adopting Rule
504, the Commission placed substantial reliance upon state securities
laws and regulations.\157\ As the Commission has stated previously, we
believe that the size and local nature of the smaller offerings that
are typically conducted by smaller issuers pursuant to Rule 504 does
not warrant imposing extensive regulation at the federal level.\158\
---------------------------------------------------------------------------

    \157\ Seed Capital Release at 1; see also SEC Rel. No. 33-6389
(Mar. 8, 1982) [47 FR 11251 (Mar. 16, 1982)].
    \158\ Seed Capital Release, at 2.
---------------------------------------------------------------------------

    The purpose of Rule 504 is to aid small businesses raising ``seed
capital.'' \159\ Rule 504 permits eligible

issuers \160\ to offer and sell securities to an unlimited number of
persons without regard to their sophistication, wealth or experience
and, in certain circumstances, without delivery of any specified
information.\161\ These offerings are, however, subject to federal
antifraud provisions and civil liability provisions. \162\ Securities
issued under the exemption are restricted,\163\ and the offering is
subject to the prohibition against general solicitation and general
advertising,\164\ unless the rule's specified conditions permitting the
issuance of freely tradable securities and a public offering are
met.\165\
---------------------------------------------------------------------------

    \159\ Id. ``Seed capital'' refers to the initial investments
that are typically made in newly formed startup companies in order
to assist such companies with the beginning of their operations.
These investments are usually relatively small in total dollar
amounts.
    \160\ See note 143 and related text in the discussion above.
    \161\ Rule 504 permits sales to an unlimited number of
accredited and non-accredited investors. See note 105 and related
text in the discussion above.
    \162\ Seed Capital Release, at 2. 15 U.S.C. 77l(a)(2).
    \163\ See Rule 504(b)(1) [17 CFR 230.504(b)(1)]; Rule
144(a)(3)(ii) [17 CFR 230.144(a)(3)(ii)].
    \164\ See Rule 504(b)(1) [17 CFR 230.504(b)(1)]; Rule 502(c) [17
CFR 230.502(c)].
    \165\ See note 144 and related text in the discussion above.
---------------------------------------------------------------------------

    Similar to the rationale underlying our proposal to ease the
eligibility requirements for issuers under Rule 147, increasing the
Rule 504 offering limit to $5 million would create a larger federal
exemptive framework for state regulators to tailor and coordinate among
themselves state specific requirements for smaller offerings by smaller
issuers that are consistent with their respective sovereign interests
in facilitating capital formation and the protection of investors in
intrastate and regional interstate securities offerings. Increasing the
offering limit from $1 million to $5 million may also make the Rule 504
exemption more attractive to start-up companies seeking capital
financing, as compared to alternative financing methods, as the legal
and accounting expenses of the offering may be offset by the larger
gross proceeds of the offering to the issuer.
    In conjunction with our proposed increase to the Rule 504 aggregate
offering amount limitation, we are proposing to adopt provisions that
would disqualify certain bad actors from participation in offerings
conducted pursuant to the exemption.\166\ We believe that the proposed
disqualification provisions, which are substantially similar to related
provisions in Rule 506 of Regulation D,\167\ would create a more
consistent regulatory regime across Regulation D that would benefit
investors in Rule 504 offerings with increased protections. We also
believe that our proposed rule amendments may bolster efforts among the
states to enter into, or revise existing, regional coordinated review
programs that are designed to increase efficiencies associated with the
registration of securities offerings in multiple jurisdictions without
increasing risks to investors.
---------------------------------------------------------------------------

    \166\ See proposed Rule 504(b)(3).
    \167\ See 17 CFR 230.506(d). See also Rule 262 of Regulation A,
17 CFR 230.262, and Rule 505(b)(2)(iii) of Regulation D, 17 CFR
230,505(b)(2)(iii).
---------------------------------------------------------------------------

    The proposed Rule 504 disqualification provisions would be
implemented by reference to the disqualification provisions of Rule 506
of Regulation D.\168\ We believe that creating a uniform set of bad
actor triggering events across the various exemptions from Securities
Act registration should simplify due diligence, particularly for
issuers that may engage in different types of exempt offerings. As
proposed, the bad actor triggering events for Rule 504 would be
substantially similar to existing provisions in Regulation D,\169\
Regulation A,\170\ and those adopted today in Regulation Crowdfunding
\171\ and would apply to the issuer and other covered persons (such as
underwriters, placement agents, and the directors, officers and
significant shareholders of the issuer). Consistent with the
Commission's treatment of disqualification in Rule 506(e), we propose
that disqualification would only occur for triggering events that occur
after effectiveness of any rule amendments,\172\ but disclosure would
be required for triggering events that pre-date effectiveness of any
rule amendments.\173\
---------------------------------------------------------------------------

    \168\ See proposed Rule 504(b)(3), referencing the
disqualification provisions of Rule 506(d), 17 CFR 230.506(d), and
note to proposed Rule 504(b)(3), referencing the disclosure
provisions of Rule 506(e), 17 CFR 230.506(e).
    \169\ See Rules 505(b)(2)(iii) and 506(d) of Regulation D, 17
CFR 230,505(b)(2)(iii), 230.506(d).
    \170\ See Rule 262 of Regulation A, 17 CFR 230.262.
    \171\ See Rule 503 of Regulation Crowdfunding.
    \172\ See proposed Rule 504(b)(3).
    \173\ See id.
---------------------------------------------------------------------------

    Issuers have overwhelmingly relied upon Rule 506 instead of Rule
504 for offerings of $1 million or less.\174\ As discussed more fully
in Section V below, data suggests that this may be due to the
preemption of state registration requirements, which is available to
Rule 506 offerings, but not Rule 504 or 505 offerings.\175\ State
regulators seeking to modernize and coordinate their regulatory regimes
to facilitate early-stage capital financings may benefit from the
proposed changes to Rule 504.
---------------------------------------------------------------------------

    \174\ For the period 2009 through 2014, 34,705 Form D filings
were made for offerings of less than $1 million, of which 3,719
reported an offering made in reliance upon Rule 504. This
represented 11% of all Regulation D offerings raising less than $1
million. During this time period, 30,461 Form D filings reported an
offering made in reliance upon Rule 506, representing 88% of all
Regulation D offerings raising less than $1 million. Only 525 Form D
filings reported reliance upon Rule 505, representing only 2% of all
Regulation D offerings during this time period raising less than $1
million. See Scott Bauguess, Rachita Gullapalli and Vladimir Ivanov,
``Capital Raising in the U.S.: An Analysis of the Market for
Unregistered Securities Offerings, 2009-2014'' (October 2015)
(``Unregistered Offerings White Paper''), available at http://www.sec.gov/dera/staff-papers/white-papers/unregistered-offering10-2015.pdf.
    \175\ Id. The data on Regulation D offerings for the period from
2009 through 2014, suggests that the preemption of state securities
laws registration and qualification requirements, which is unique to
Rule 506 offerings in Regulation D, may be of greater value to
issuers than the unique features of either Rules 504 or 505. Data
suggests that Rule 506 is the dominant offering method even among
those offerings eligible for Rules 504 or 505. Almost 50% of all
Rule 506 offerings by non[hyphen]funds issuers since 2009 were for
$1 million or less and therefore may have qualified for the Rule 504
exemption based on offering size. An additional 20% of offerings
were for between $1 million and $5 million and therefore could have
claimed a Rule 505 exemption based on offering size.
---------------------------------------------------------------------------

    We also are seeking public comment on whether additional changes to
Rule 504 should be adopted in the final amended rules. In particular,
in conjunction with the proposed increase in the Rule 504 offering
amount limitation, we are contemplating amending the calculation of the
aggregate offering limitation in Rule 504(b)(2).\176\ Currently, this
rule requires issuers to aggregate all securities sold within the
preceding 12 months in any transaction that is exempt under Section
3(b) or in violation of Section 5(a) of the Securities Act for purposes
of computing the aggregate offering price under Rule 504.\177\ This
rule also includes illustrations of how the aggregate offering
limitation is calculated in the event that an issuer sells securities
pursuant to Rule 504 and Rule 505 within the same twelve-month
period.\178\
---------------------------------------------------------------------------

    \176\ We seek comment below on whether, if Rule 505 is retained
in the final rules, a corresponding change should be made to Rule
505(b)(2), 17 CFR 230.505(b)(2). See Request for Comment 63 below.
    \177\ 17 CFR 230.504(b)(2); see also 17 CFR 230.505(b)(2).
    \178\ See Notes 1 and 2 to Rule 504(b)(2). [17 CFR
230.504(b)(2)].
---------------------------------------------------------------------------

    When the current aggregation provisions in Rules 504 and 505 were
originally adopted in Rule 505's predecessor Rule 242, the Commission
noted that aggregating offering amounts across offerings conducted
pursuant to Section 3(b) was intended to ``limit[] the potential for
the issuer to raise large sums by circumventing the registration
provisions of the Securities Act through

multiple offerings pursuant to Section 3(b).'' \179\ In the intervening
years, however, in implementing Congressional mandates,\180\ the
Commission has increased the potential for issuers, particularly
smaller issuers, to raise large sums of capital in offerings that are
exempt from registration in a more cost-effective manner, while
continuing to provide appropriate safeguards for investors.\181\
Therefore, we are seeking comment on whether the current requirements
for Rule 504(b)(2), as they relate to the aggregation of offering
proceeds across all offerings that are conducted pursuant to Securities
Act Section 3(b), should be retained in the amended rules.
---------------------------------------------------------------------------

    \179\ SEC Rel. No. 33-6180 (Jan. 17, 1980). This provision was
subsequently carried over into Rule 505 and adopted into Rule 504
when Regulation D was adopted by the Commission in 1982. See SEC
Rel. No. 33-6389 (March 8, 1982); SEC Rel. No. 33-6339 (Aug. 7,
1981).
    \180\ See JOBS Act, Pub. L. 112-106, 126 Stat. 306.
    \181\ See, e.g., Regulation A, 17 CFR 230.251 et seq., providing
non-Exchange Act reporting companies with the option to raise up to
$20 million annually pursuant to the requirements of Tier 1 and up
to $50 million annually pursuant to the requirements of Tier 2.
---------------------------------------------------------------------------

    The Commission has brought a number of enforcement actions in
recent years against persons that have sought to use the provision in
Rule 504(b)(1)(iii) permitting conditional use of general solicitation
and general advertising to engage in fraudulent offerings.\182\ In
light of the foregoing, we also are seeking comment on whether we
should adopt additional changes to Rule 504 that could potentially
increase investor protections in such offerings. In particular, we are
considering, and seeking comment on, whether limitations on resale
should be imposed on securities sold in reliance on Rule 504(b)(1)(iii)
or whether Rule 504(b)(1)(iii) should be repealed.\183\
---------------------------------------------------------------------------

    \182\ See, e.g., SEC v. Stephen Czarnik, Case No. 10-cv-745
(S.D.N.Y.), Litigation Release No. 21401 (Feb. 2, 2010); SEC v.
Yossef Kahlon, a/k/a Jossef Kahlon and TJ Management Group, LLC,
Case No. 4:12-cv-517 (E. D. Tex.) (Aug. 14, 2012).
    \183\ Any such amendment would not affect the resale status of
securities sold under the exemptions in Rules 504(b)(1)(i) and
504(b)(1)(ii), which exempt certain offerings of securities that are
registered under a state securities law that requires the public
filing and delivery of a disclosure document to investors before
sale. As such, the resale limitations of Rule 502(d) would continue
not to apply to securities sold in transactions that are exempted by
those rules and those securities would not be ``restricted
securities'' for purposes of Rule 144.
---------------------------------------------------------------------------

    Lastly, we propose certain technical amendments to Rules 504 and
505. We propose a technical amendment to Rule 504(b)(2), and its
related provision in Rule 505(b)(2), that would update the reference to
Securities Act Section 3(b) to Section 3(b)(1). This technical revision
is necessary in light of the re-designation of Section 3(b) as Section
3(b)(1) that occurred as a result of the Securities Act amendments in
Title IV of the JOBS Act.\184\ Additionally, we propose technical
amendments to the notes to Rule 504(b)(2) that would update the current
illustrations of how the aggregate offering amount limitation is
calculated in the event that an issuer sells securities pursuant to
Rule 504 and Rule 505 within the same twelve-month period.\185\ This
technical revision is necessary in order to account for the proposed
increase to the Rule 504 aggregate offering amount limitation.
---------------------------------------------------------------------------

    \184\ Pub. L. 112-106, 126 Stat. 306, at Sec. 401.
    \185\ See Notes 1 and 2 to proposed Rule 504(b)(2).
---------------------------------------------------------------------------

Request for Comment
    As proposed, should we increase the Rule 504 offering limit from a
maximum of $1 million of securities in a twelve-month period to a
maximum of $5 million of securities in a twelve-month period? Why or
why not? Should we adopt a higher or lower aggregate offering limit? If
so, what should the aggregate offering limit be and why? For example,
should we use our general exemptive authority to adopt a $20 million
annual offering limit in Rule 504 that aligns with the maximum offering
limit permitted under Tier 1 of Regulation A? 52.
    52. Would the proposed increase in the Rule 504 aggregate offering
amount limitation give state securities regulators greater flexibility
to develop regional coordinated review programs that would rely on Rule
504 at the federal level? Why or why not? What additional changes, if
any, could we make to Rule 504 in order to facilitate efforts by state
securities regulators to develop robust coordinated review programs
that include appropriate investor protections and encourage capital
formation?
    53. Should we amend Rule 504, as proposed, to include bad actor
disqualification provisions that align with those included in Rule
506(d) of Regulation D? Why or why not?
    54. As proposed, should issuers only be disqualified from reliance
on Rule 504 for bad actor disqualifying events that occur after the
effectiveness of any final rule amendments? Why or why not?
    55. If we adopt bad actor disqualification provisions for Rule 504
offerings, should we require issuers to provide disclosure to
purchasers of any bad actor disqualifying events that occur before
effectiveness of any final rule amendments as proposed? Why or why not?
    56. Should we amend the method by which an issuer calculates
compliance with the Rule 504 aggregate offering amount limitation to
remove the reference to other offerings conducted pursuant to Section
3(b)(1)? Or should we instead continue to require issuers to aggregate
Rule 504 offerings with all offerings conducted within the prior
twelve-month period pursuant to Section 3(b)(1) and/or in violation of
Section 5(a) when calculating the offering amount limitation? Why or
why not? Should offerings made in violation of Section 5(a) be
aggregated in all instances?
    57. Are there additional changes to Rule 504 that would increase
the general utility of the exemption or provide additional investor
protections? If so, please explain.
    58. Should Rule 504 be available to Exchange Act reporting
companies? Why or why not?
    59. Should securities sold in reliance on Rule 504(b)(1)(iii)
pursuant to a state law exemption that permits general solicitation and
general advertising so long as sales are made only to accredited
investors be subject to the limitations on resale in Rule 502(d) and,
as such, be deemed ``restricted securities'' for purposes of Rule 144?
Alternatively, should we adopt a requirement, similar to proposed Rule
147(e),\186\ that would require the securities to come to rest within
such state by only prohibiting resales to out of state residents for a
period of nine months after such securities are purchased by an
investor? Why or why not?
---------------------------------------------------------------------------

    \186\ See proposed Rule 147(e) and related discussion in Section
II.B.4.c above.
---------------------------------------------------------------------------

    60. Are there other amendments we should make to Rule
504(b)(1)(iii) to address concerns about potential abuse of this
provision? Please explain.
    61. Should we repeal Rule 504(b)(1)(iii), in light of our proposed
revisions to Rule 147? With the exception of the unrestricted status of
securities sold pursuant to Rule 504(b)(1)(iii), what value would this
rule continue to provide to issuers and investors?

C. Continued Utility of Rule 505 as an Exemption From Registration

    As noted above, in light of the proposed changes to Rule 504, we
also are seeking comment on the continued utility of Rule 505 as an
exemption from registration. Rule 505 is used far less frequently than
Rule 506, and an increase in the Rule 504 offering ceiling from $1
million to $5 million could diminish its utility. Rule 505 is available
to both non-reporting and

reporting issuers,\187\ so long as the aggregate offering amount does
not exceed $5 million in any twelve-month period.\188\ An issuer
relying upon Rule 505 may not engage in general solicitation or general
advertising and securities issued under the exemption are restricted
securities.\189\
---------------------------------------------------------------------------

    \187\ Rule 505 is available to any issuer that is not an
investment company.
    \188\ As with Rule 504, the aggregate offering price includes
proceeds from offers and sales under Section 3(b) or in violation of
Section 5(a) of the Securities Act. See note 176 above.
    \189\ See Rule 505(b), 17 CFR 230.505(b).
---------------------------------------------------------------------------

    Issuers relying upon Rule 505 are subject to additional conditions
not required under Rule 504, such as the following:
     Sales to no more than 35 non-accredited investors and an
unlimited number of accredited investors; \190\
---------------------------------------------------------------------------

    \190\ Rule 505(b)(2)(ii), 17 CFR 230.505(b)(2)(ii).
---------------------------------------------------------------------------

     Delivery of a disclosure document to non-accredited
investors \191\ that generally contains the same information as
included in a Securities Act registration statement.\192\
---------------------------------------------------------------------------

    \191\ Rule 505(b)(1), 17 CFR 230.505(b)(1). An issuer may decide
what information to give to accredited investors, subject to the
antifraud provisions of the federal securities laws. If the issuer
provides information to accredited investors, it must make this
information available to the non-accredited investors as well. As
noted in Section III.B above, however, certain offerings conducted
pursuant to Rule 504 also require the delivery of a disclosure
document to investors, as required under state law.
    \192\ Financial statements required to be provided to non-
accredited investors under Rule 502(b) must be audited by a
certified public accountant. As indicated in the note to Rule
502(b)(1), ``issuers providing required information to non-
accredited investors should also consider providing such information
to accredited investors as well, in view of the antifraud provisions
of the federal securities laws.''
---------------------------------------------------------------------------

     Disqualification of felons and other ``bad actor'' from
participating in the offering.\193\
---------------------------------------------------------------------------

    \193\ Rule 505(b)(2)(iii) refers to the disqualification
provisions of Rule 262 of Regulation A. Issuers relying upon Rule
506 of Regulation D are also subject to similar disqualification
provisions under Rule 506(d) of Regulation D. While not currently
applicable to Rule 504 offerings, we propose to adopt bad actor
disqualification provisions for Rule 504 that would be substantially
similar to those applicable to Rule 506 offerings. See discussion
Section III.B above.
---------------------------------------------------------------------------

    With the exception of the offering limitation contained in Rule
505, the Rule 505 requirements are substantially similar to the
requirements of Rule 506.\194\ Nevertheless, issuers have
overwhelmingly elected to rely upon Rule 506 instead of 505, including
in offerings of up to $5 million.\195\ As discussed more fully in
Section V below, data from Forms D filed with the Commission suggest
that the preemption of state securities law registration and
qualification requirements available only to issuers relying upon Rule
506 may offset the unique features of Rule 504 or 505 offerings.\196\
---------------------------------------------------------------------------

    \194\ Unlike Rule 504, Rule 505 is available to companies that
are subject to the requirements of Section 13 or 15(d) of the
Exchange Act, as well as to development stage companies that either
have no specific business plan or purpose or have indicated that
their business plan is to engage in a merger or acquisition with an
unidentified company or companies. Data suggests, however, that less
the 4% of all issuers during the 2009-2014 period that conducted
Rule 505 offerings were Exchange Act reporting companies (50
companies out of a total of 1337 companies).
    \195\ For the period 2009 through 2014, 65,514 offerings on Form
D were filed for offerings raising less than $5 million, of which
1,368 filings reported an offering made in reliance upon Rule 505 of
Regulation D, representing only 2% of all offerings made in reliance
upon Regulation D during this time period, and 60,427 Form D filings
reported an offering made in reliance upon Rule 506, representing
approximately 92% of all offerings reporting reliance upon
Regulation D during this time period. Variations in percentages are
due to reporting errors and issuers ability to claim more than one
exemption on the Form D. Issuers also overwhelmingly relied upon
Rule 506 instead of Rule 504 when undertaking offerings for $1
million or less. See discussion on the use of Rule 504 in Section
V.B.4 below.
    \196\ See note 175 and related text in the discussion above. For
the period 2009 through 2014, $5.773 trillion was raised under
Regulation D of which 0.1% was raised in reliance on Rule 504, 0.1%
was raised in reliance on Rule 505, and at least 99.2% was raised in
reliance on Rule 506 (we do not have data with respect to the
remaining 0.6% of aggregate capital raised under Regulation D).
During the same time period, there were 118,846 new and continuing
offerings under Regulation D of which 3.3% were made in reliance on
Rule 504, 1.2% were made in reliance on Rule 505, and at least 94.8%
were made in reliance on Rule 506 (we do not have data with respect
to the remaining 0.7% of new and continuing offerings made under
Regulation D during this time period). In 2014, Rule 505 offerings
represented 1.48% of all new Regulation D offerings and 0.04% of all
aggregate capital raised under Regulation D.
---------------------------------------------------------------------------

    Amending Rule 504 to allow for a larger aggregate offering amount
of up to $5 million may reduce the incentives to use Rule 505 by
issuers contemplating an exempt offering. Absent additional amendments
to Regulation D, if we were to eliminate Rule 505, Regulation D would
be limited to two offering exemptions, Rule 504 and Rule 506. Rule 504
would be available only to non-reporting issuers \197\ that are not
investment companies \198\ or development stage companies \199\ for
offerings of up to $5 million in a twelve-month period and would permit
general solicitation and the issuance of unrestricted securities in
certain limited situations. Rule 506 would be available to all issuers
without any aggregate offering limitations and would permit the
issuance of only restricted securities, while allowing general
solicitation under certain limited circumstances.\200\ We are seeking
comment on the utility of Rule 505 in light of the proposed changes.
---------------------------------------------------------------------------

    \197\ See 17 CFR 230.504(a)(1).
    \198\ See 17 CFR 230.504(a)(2).
    \199\ See 17 CFR 230.504(a)(3).
    \200\ In such scenario, Rule 505 of Regulation D would be
repealed and reserved.
---------------------------------------------------------------------------

Request for Comment
    62. Should we repeal Rule 505? Why or why not?
    63. If Rule 505 is retained, should it be modified in some manner?
For example, if we amend the manner in which the aggregate offering
amount limitation is calculated in Rule 504 offerings, should we make a
corresponding change to the manner in which the Rule 505 aggregate
offering amount limitation is calculated? \201\ What additional
changes, if any, should be made to the rule?
---------------------------------------------------------------------------

    \201\ See discussion in Section III.B and request for comment 0
above.
---------------------------------------------------------------------------

    64. Should Rule 505 be replaced with a new Securities Act exemption
having, any, or all, of the following features:
     Early-stage capital formation as its primary purpose;
     eligibility only for non-Exchange Act reporting issuers;
     subject to the anti-fraud provisions of the federal
securities laws and the civil liability provisions of Section 12(a)(2)
of the Securities Act;
     exempting holders of the securities from the registration
requirements of Section 12(g) of the Exchange Act;
     a relatively low maximum aggregate offering amount over a
12-month period, such as $100,000;
     a limit on the maximum investment amount per investor,
such as $2,000;
     a higher maximum investment amount for more sophisticated
investors, based on criteria, such as net worth, net income or some
other proxy for investment sophistication;
     ``covered security'' status under Section 18 of the
Securities Act by either enacting a new ``safe harbor'' pursuant to
Securities Act Section 4(a)(2) or by defining purchasers of securities
issued in an offering pursuant to the exemption as ``qualified
purchasers,'' pursuant to Securities Act Section 18(b)(3);
     additional or alternative criteria?
    65. Alternatively, whether or not we repeal Rule 505 and if, as
proposed, we increase the aggregate offering amount that may be raised
pursuant to Rule 504 to $5 million of securities in a twelve-month
period, should the amendments to Rule 504 include some of the
provisions currently required by Rule 505? If so, which ones and why?
Should any such requirement of current Rule 505 only be required if the
Rule 504

offering exceeds a certain aggregate offering amount of securities,
such as the Rule 504 current annual offering limit of $1 million or
some other amount?

IV. General Request for Comment

    We solicit comment, both specific and general, on each component of
the proposals. We request and encourage any interested person to submit
comments regarding:
     the proposals that are the subject of this release;
     additional or different revisions to the rules discussed
above; and
     other matters that may have an effect on the proposals
contained in this release.
    Comment is solicited from the point of view of both issuers and
investors, as well as of capital formation facilitators, such as
broker-dealers, and other regulatory bodies, such as state securities
regulators. Any interested person wishing to submit written comments on
any aspect of the proposal is requested to do so. With regard to any
comments, we note that such comments are of particular assistance to us
if accompanied by supporting data and analysis of the issues addressed
in those comments. We urge commenters to be as specific as possible.

V. Economic Analysis

    This section analyzes the expected economic effects of the proposed
amendments relative to the current baseline, which is the regulatory
framework and state of the market \202\ in existence today, including
current methods available to potential issuers to raise capital up to
$5 million. We are mindful of the costs imposed by, and the benefits
obtained from, our proposed amendments. Relative to this baseline, our
analysis considers the anticipated benefits and costs for market
participants affected by the proposed amendments as well as the impact
of the proposed amendments on efficiency, competition, and capital
formation.\203\ We also analyze the potential benefits and costs
stemming from alternatives to the proposed rule amendments that we
considered. Many of the benefits and costs discussed below are
difficult to quantify, especially when analyzing the likely effects of
the proposed amendments on efficiency, competition, and capital
formation. For example, it is difficult to precisely estimate the
extent to which the proposed amendments to Rule 147 would promote
future reliance by issuers on this exemption, or the extent to which
future use of Rule 147 would affect the use of other offering methods.
Similarly, it is difficult to quantify the effect of the proposed
amendments on investor protection. Therefore, much of the discussion in
this section is qualitative in nature. However, where possible, we have
attempted to quantify the expected effects of the proposed amendments.
---------------------------------------------------------------------------

    \202\ The term ``market'' as used throughout this economic
analysis refers to capital markets in general, and where discussed
in the context of a specific rule, relates to the provisions of the
relevant exemption or safe harbor. We refer, for example, to the
Rule 147 and Rule 504 exemptions as the Rule 147 and Rule 504
markets because each of those rules' provisions prescribe
requirements that determine who can participate and how the
participants (issuers/investors/intermediaries) can engage in
transactions under each exemption. Participants face different
trade-offs when choosing between the markets created by each of the
exemptions and safe harbors.
    \203\ Securities Act Section 2(b) requires us, when engaging in
rulemaking that requires us to consider or determine whether an
action is necessary or appropriate in the public interest, to
consider, in addition to the protection of investors, whether the
action will promote efficiency, competition, and capital formation.
See 15 U.S.C. 77b(b).
---------------------------------------------------------------------------

A. Baseline

    The proposed amendments would primarily impact the financing market
for startups and small businesses.\204\ The baseline for our economic
analysis of the proposed amendments to Rule 147 and Rule 504--including
the baseline for our consideration of the effects of the proposed
amendments on efficiency, competition and capital formation--is the
regulatory framework and market structure in existence today, in which
startups and small businesses seeking to raise capital through
securities offerings must register the offer and sale of securities
under the Securities Act, unless they can rely on an existing exemption
from registration under the federal securities laws. In addition to a
description of the type and number of issuers that currently offer and
sell securities in reliance on the Rule 147 and Rule 504 exemptions,
our analysis includes a description of investors who purchase or may
consider purchasing such securities and a discussion of the role of
intermediaries in such offerings.
---------------------------------------------------------------------------

    \204\ In 2013, there were more than 5 million small businesses
defined by the U.S. Census Bureau as having fewer than 500 paid
employees. See U.S. Department of Commerce, United States Census
Bureau, Business Dynamics Statistics, Data: Firm Characteristics
(2013), available at http://www.census.gov/ces/dataproducts/bds/data_firm.html.
---------------------------------------------------------------------------

1. Current Market Participants
    As discussed above, existing Rule 147 is a safe harbor for
complying with the intrastate offering exemption provided by Section
3(a)(11) of the Securities Act. Consistent with the statutory
exemption, Rule 147 imposes no offering amount limit but requires that
issuers offer and sell securities to residents of the same state or
territory in which the issuer is resident. In addition, issuers seeking
to rely on the safe harbor must satisfy certain prescriptive threshold
requirements to be considered ``doing business'' in-state. Existing
Rule 504 limits the offering amount to $1 million in a 12-month period
and permits general solicitation under certain conditions, such as that
offers and sales are made exclusively in one or more states that
provide for securities registration and the public filing and delivery
to investors of a substantive disclosure document before sale.\205\
Table 1 summarizes the main characteristics of Rule 147 and Rule 504.
---------------------------------------------------------------------------

    \205\ See Section III.A above.

                                             Table 1--Main Characteristics of Existing Rule 147 and Rule 504
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                              Issuer and
        Type of offering            Offering limit       Solicitation          investor       Filing requirement    Restriction on       Blue sky law
                                         \206\                               requirements                               resale            preemption
--------------------------------------------------------------------------------------------------------------------------------------------------------
Rule 147........................  None..............  Only intrastate     All issuers must    None..............  Interstate resales  No.
                                                       solicitation.       be incorporated                         are restricted
                                                                           and ``doing                             for nine months
                                                                           business'' in                           from the later of
                                                                           state.                                  the last sale in,
                                                                          All investors must                       or the completion
                                                                           be residents in                         of, the
                                                                           state..                                 offering.\207\
Rule 504........................  $1 million........  General             Excludes            File Form D.\209\   Restricted in some  No.
Regulation D....................                       solicitation        investment                              cases.\210\
                                                       permitted in        companies, blank-
                                                       certain             check companies,
                                                       cases.\208\         and Exchange Act
                                                                           reporting
                                                                           companies.
--------------------------------------------------------------------------------------------------------------------------------------------------------

    The proposed amendments to Rule 147 and Rule 504 would primarily
affect securities issuers, particularly startups and small businesses
that rely on unregistered offerings under these and other exemptions to
raise capital, and accredited and non-accredited investors in
unregistered offerings.
---------------------------------------------------------------------------

    \206\ Aggregate offering limit on securities sold within a 12-
month period.
    \207\ Rule 147(e), 17 CFR 230.147(e). Additional resale
restrictions may apply under state securities laws, which typically
restrict in-state resales for a period of one-year.
    \208\ No general solicitation or advertising is permitted unless
the offering is registered in a state requiring the use of a
substantive disclosure document or sold under a state exemption for
sales to accredited investors with general solicitation.
    \209\ Filing is not a condition of the exemption, but it is
required under Rule 503.
    \210\ Restricted unless the offering is registered in a state
requiring the use of a substantive disclosure document or sold under
a state exemption limiting sales only to accredited investors.
---------------------------------------------------------------------------

a. Issuers
i. Rule 147 Issuers
    Under current Rule 147, there are no restrictions on the type of
issuers that can utilize the safe harbor, and there is no limit on the
amount of capital that can be raised. However, there are in-state
residency and eligibility requirements that an issuer must satisfy in
order to rely on Rule 147. Eligible issuers are those that are
incorporated or organized in-state, have their ``principal office'' in-
state, and can satisfy three 80% thresholds concerning their revenues,
assets and use of net proceeds.
    While we do not have access to data on the number and size of
offerings,\211\ the amount of capital raised, and the type of issuers
currently relying on the Rule 147 safe harbor, the nature of the
eligibility requirements leads us to believe that the rule is currently
being used by U.S. incorporated firms that are likely small businesses
seeking to raise small amounts of capital without incurring the costs
of registering with the Commission.
---------------------------------------------------------------------------

    \211\ Unlike Regulation D, which requires the filing of a Form
D, Rule 147 does not require any filing with the Commission, and we
thus have no source of reliable data about the prevalence and scope
of Rule 147 offerings.
---------------------------------------------------------------------------

    Currently, issuers that intend to conduct intrastate crowdfunding
offerings are required to use Rule 147 by most of the states that have
enacted crowdfunding provisions.\212\ Based on information from
NASAA,\213\ as of September 2015, 29 states and the District of
Columbia have enacted state crowdfunding provisions, and more states
are expected to promulgate similar provisions in the near future. Since
December 2011, when the first state (Kansas) enacted its crowdfunding
provisions, 118 state crowdfunding offerings have been reported to be
filed with the respective state regulator.\214\ Of these offerings, 102
were reported to be approved or cleared, as of August 1, 2015. Most of
the cleared offerings were in Georgia, Michigan, Oregon, Kansas and
Indiana.
---------------------------------------------------------------------------

    \212\ See http://www.nasaa.org/industry-resources/corporation-finance/instrastate-crowdfunding-resource-center/intrastate-crowdfunding-directory/.
    \213\ See NASAA's Intrastate Crowdfunding Resource Center at
http://www.nasaa.org/industry-resources/corporation-finance/instrastate-crowdfunding-resource-center/. See also http://www.nasaa.org/industry-resources/corporation-finance/instrastate-crowdfunding-resource-center/intrastate-crowdfunding-directory/.
    \214\ Id. The jurisdictions included in the estimate are
Alabama, District of Columbia, Georgia, Idaho, Indiana, Kansas,
Maine, Maryland, Massachusetts, Michigan, Oregon, Texas, Vermont,
Washington and Wisconsin.
---------------------------------------------------------------------------

    Given that almost all the enacted state crowdfunding provisions
currently exclude reporting companies and entities defined as an
investment company under the Investment Company Act of 1940, we expect
that issuers that rely on Rule 147 are likely operating companies
(``non-fund issuers''). While information on the size of these issuers
is not available, data from NASAA shows that most issuers are from
varied industries such as agriculture, manufacturing, business
services, retail, entertainment, and technology.
    We anticipate that many potential issuers of securities under
proposed Rule 147, particularly those utilizing Rule 147 for intrastate
crowdfunding, will continue to be small businesses, early stage firms
and start-ups that are close to the ``idea'' stage of the business
venture. Some of these issuers may lack business plans that are
sufficiently developed to attract venture capitalists (VCs) or angel
investors that invest in high risk ventures, or may not offer the
profit potential or business model to attract such investors.\215\
---------------------------------------------------------------------------

    \215\ In this regard, a study of one large crowdfunding platform
revealed that relatively few companies on that platform operate in
technology sectors that typically attract VC investment activity.
See Ethan R. Mollick, The Dynamics of Crowdfunding: An Exploratory
Study (Working Paper) (June 26, 2013), available at http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2088298.
---------------------------------------------------------------------------

ii. Rule 504 and Rule 505 Issuers
    Rule 504 of Regulation D provides an exemption from registration
under Section 3(b)(1) of the Securities Act for offerings that do not
exceed $1 million during a 12-month period. An analysis of Form D
filings indicates that reliance on Rule 504 exemptions has been
declining over time. As shown in Figure 1, while offerings under Rule
506 of Regulation D grew significantly from 1993 to 2014, offerings
under Rule 504 and Rule 505 in 2014 were one quarter of 1993 levels. In
addition, while offering activity under Rule 504 has been higher than
under the Rule 505 exemption, the number of new Rule 504 offerings
peaked in 1999, with 3,402 new offerings initiated, and steeply
declined afterward. Compared to the early 1990s when Rule 504 offerings
constituted approximately 28% of all

new Regulation D offerings, the proportion of Rule 504 offerings
between 2009 and 2014 ranged between 3% and 4% of all new Regulation D
offerings.
---------------------------------------------------------------------------

    \216\ Data is not readily available for the period 2002-2008
during which Form D was a paper-based filing. The form became
available electronically in March 2009. Since the data for year 2009
is only for the period April to December, the number of new
Regulation D offerings shown is underestimated for 2009.
[GRAPHIC] [TIFF OMITTED] TP10NO15.001

    The current limited use of the Rule 504 exemption and the
predominance of Rule 506 are also evident when we consider the total
amount raised in offerings under each of these exemptions. Overall,
capital formation in the Rule 504 market constituted approximately 0.1%
of the capital raised in all Regulation D offerings initiated during
2009-2014.\217\ Considering only Regulation D offerings of up to $1
million (the maximum amount that a Rule 504 offering can raise in a
year) initiated by non-fund issuers, the share of Rule 504 offerings
was slightly higher at 7%.
---------------------------------------------------------------------------

    \217\ See Unregistered Offerings White Paper.
---------------------------------------------------------------------------

    During the period 2009-2014, issuers relying on the Rule 504
exemption were predominantly non-fund issuers. As shown in Table 2,
less than 3% of new Rule 504 offerings during 2009-2014 were initiated
by fund issuers.\218\ Similarly, between 2009 and 2014, the amounts
raised by fund issuers in both new and continuing \219\ Rule 504
offerings constituted a small proportion (1% to 6%) of amounts reported
to be raised in all Rule 504 offerings.
---------------------------------------------------------------------------

    \218\ Based on an analysis of Form D filings. Our analysis uses
the same assumptions and methodologies described in Unregistered
Offerings White Paper, note 174 above.
    \219\ These offerings were initiated in previous years and
continued raising capital in subsequent years. In order to
accurately capture the level of capital formation under the Rule 504
exemption, we consider capital raised during a year by new offerings
as well as incremental capital raised during the year by continuing
offerings.

                              Table 2--Rule 504 Capital Raising Activity, 2009-2014
----------------------------------------------------------------------------------------------------------------
                                                           Proportion by       Total amount      Proportion by
                                          Number of      non-fund  issuers      raised ($      non-fund  issuers
                                          offerings               %              million)               %
----------------------------------------------------------------------------------------------------------------
2009................................                579                 98                 91                 94
2010................................                714                 99                131                 99
2011................................                721                 98                113                 99
2012................................                632                 98                109                 96
2013................................                599                 96                 97                 94
2014................................                544                 97                 94                 96
----------------------------------------------------------------------------------------------------------------

    Figure 2 shows the size of Rule 504 issuers during the period 2009-
2014.\220\ Of all the issuers that disclosed their size in their Form D
filings (approximately 80% of all Rule 504 issuers), more than three
quarters of

offerings were initiated by issuers that had no revenues, or had
revenues or net asset values of less than $1 million. From this
reported size, we believe that a vast majority of Rule 504 issuers
likely consist of startups and small businesses. The small size of
issuers is also reflected in the average age of issuers, as measured by
years since incorporation. Based on Form D filings, 51% of Rule 504
issuers initiated their offerings during the year of their
incorporation or in the subsequent year. Another 14% of issuers
initiated their offerings between two and three years since
incorporation.\221\
---------------------------------------------------------------------------

    \220\ Based on an analysis of Form D filings.
    \221\ Id.
    [GRAPHIC] [TIFF OMITTED] TP10NO15.002

    Most Rule 504 issuers in the past five years reported to operate in
the technology, real estate or other industry (Figure 3).\222\
---------------------------------------------------------------------------

    \222\ Id.
    [GRAPHIC] [TIFF OMITTED] TP10NO15.003

    As reported in Form D filings, during the period 2009-2014, Rule
504 issuers had their principal place of business in California (22%),
followed by Texas, New York, Florida, Colorado and Illinois, though
most were incorporated in Delaware (19%), California (14%) and Nevada
(10%). In addition, approximately 32% of the Rule 504 offerings had
separate states of incorporation and principal places of business.
While only approximately 2%

of Rule 504 offerings were initiated by foreign-incorporated issuers, a
larger number (5%) reported their principal place of business to be
outside the United States. In addition, approximately 90% of issuers in
the Rule 504 market initiated only one offering, and approximately 83%
of such offerings were of equity securities during the period 2009-
2014.
b. Investors
    Currently, Rule 147 limits offers and sales to residents of the
same state as the issuer. There are no other limitations on who can
invest in Rule 147 and Rule 504 offerings. Although the Commission does
not track data concerning investors participating in Rule 147
offerings, data from Form D filings provide some insights into the
number and type of investors in Rule 504 offerings.
    Table 3 below, shows that almost 31,000 investors participated in
new Rule 504 offerings initiated during the period 2009-2014.\223\ An
analysis of Form D filings indicates that the average and median number
of investors in Rule 504 was approximately 11 and 4, respectively.
---------------------------------------------------------------------------

    \223\ Based on an analysis of Form D filings. See also
Unregistered Offerings White Paper.

                     Table 3--Number and Type of Investors in Rule 504 Offerings, 2009-2014
----------------------------------------------------------------------------------------------------------------
                                                                                % Offerings with
                                                          Total investors   Average number of    non-accredited
                                                                                investors          investors
----------------------------------------------------------------------------------------------------------------
2009...................................................              4,004                  9                 53
2010...................................................              5,427                 10                 54
2011...................................................              5,512                 11                 57
2012...................................................              6,295                 13                 58
2013...................................................              5,573                 13                 61
2014...................................................              3,996                 10                 60
2009-2014..............................................             30,807                 11                 57
----------------------------------------------------------------------------------------------------------------

    Offerings that involved non-accredited investors between 2009 and
2014 were typically smaller and, on average, had fewer investors than
those offerings that involved only accredited investors. The presence
of non-accredited investors was larger in Rule 504 offerings, where the
number of non-accredited investors is not limited, than in Rule 505 or
Rule 506 offerings, where the number of non-accredited investors is
limited to 35. Table 3 above shows that approximately 57% of Rule 504
offerings during 2009-2014 reported having sold, or intending to sell,
to non-accredited investors.\224\ These offerings, on average, had 16
investors, compared to 8 investors in Rule 504 offerings that reported
not having sold or intending to sell to non-accredited investors.\225\
---------------------------------------------------------------------------

    \224\ Id.
    \225\ Based on an analysis of Form D filings.
---------------------------------------------------------------------------

    We believe, given investment limitations under state crowdfunding
provisions, that many investors affected by the proposed amendments to
Rule 147 would likely be individual retail investors whose broad access
to potentially riskier investment opportunities in early-stage ventures
is currently limited, either because they do not have the necessary
accreditation or sophistication to invest in most private offerings or
because they do not have sufficient funds to participate as angel
investors. Intrastate crowdfunding offerings may provide retail
investors with additional investment opportunities, although the extent
to which they invest in such offerings will likely depend on their view
of the potential return on investment as well as the potential risks,
including fraud.
    In contrast, larger, more sophisticated or well-funded investors
may be less likely to invest in intrastate crowdfunding offerings. The
relatively low offering amount limits, in-state investor residency
requirements, and low investment limits for crowdfunding investors
under state laws \226\ may make these offerings less attractive for
professional investors, including VCs and angel investors.\227\ While
an intrastate crowdfunding offering can bring an issuer to the
attention of these investors, it is possible that professional
investors would prefer to invest in offerings relying on Rule 506,
which are not subject to the investment limitations applicable to
crowdfunding.
---------------------------------------------------------------------------

    \226\ Most state crowdfunding provisions allow up to $2 million
offering size, and a maximum investment of $10,000 by non-accredited
investors.
    \227\ An observer suggests that, unlike angels, VCs may be less
interested in crowdfunding because, if VCs rely on crowdfunding
sites for their deal flow, it would be difficult to justify charging
a 2% management fee and 20% carried interest to their limited
partners. See Ryan Caldbeck, Crowdfunding_Why Angels, Venture
Capitalists And Private Equity Investors All May Benefit, Forbes,
Aug. 7, 2013.
---------------------------------------------------------------------------

c. Intermediaries
    Issuers of private offerings may use broker-dealers to help them
with various aspects of the offering and to help ensure compliance with
the ban on general solicitation and advertising that exists for most
private offerings. Private offerings can also involve finders and
investment advisers who connect issuers with potential investors for a
fee.\228\ We do not have information on the extent of intermediary use
in Rule 147 offerings; however, an analysis of Form D filings indicates
that intermediaries are used less frequently in Rule 504 offerings than
in registered offerings. Approximately 20% of Rule 504 offerings
reported using an intermediary during the period 2009-2014. The average
commissions and fees paid by Rule 504 issuers that reported using an
intermediary was approximately 6% of the offer amount.
---------------------------------------------------------------------------

    \228\ Depending on their activities, these persons may need to
be registered as broker-dealers.
---------------------------------------------------------------------------

    Although we are unable to predict the use of broker-dealers,
transfer agents, investment advisers and finders in private offerings
as a result of the proposed rules, data on the use of broker-dealers
and finders in the Rule 506 market suggests that they may not currently
play a large role in private offerings. Form D filings indicate that
approximately 21% of Rule 506 offerings, including 15% of Rule 506
offerings initiated by non-fund issuers, used an intermediary during
2009-2014.\229\ The use of a broker-dealer or a finder increased with
offering size, while the average total fee declined with offering
size.\230\ We base these estimates, however, only on available data
from the Regulation D market. It is

possible that issuers engaging in other types of private offerings, for
which data is not available to us, may use broker-dealers and finders
more frequently.\231\
---------------------------------------------------------------------------

    \229\ See Section IV(c) in Unregistered Offerings White Paper.
    \230\ Id. Intermediaries participated in 16% of Rule 506
offerings of up to $1 million and 30% of offerings of more than $50
million. The average total fee (commission plus finder fee) paid by
issuers conducting offerings of up to $1 million was 6.5% while the
average total fee paid by issuers conducting offerings of more than
$50 million was 1.9%.
    \231\ A number of states that have enacted crowdfunding
provisions require that the offer and sale of securities by means of
intrastate crowdfunding be conducted through a funding portal or a
broker-dealer. Some intrastate crowdfunding provisions require the
offering portals to be registered generally with the state, or as a
broker-dealer. Based on FOCUS Reports filed with the Commission, as
of December 2014, there were 4,267 registered broker-dealers, with
average total assets of approximately $1.1 billion per broker-
dealer. The aggregate assets of these registered broker-dealers
totaled approximately $4.9 trillion. See Crowdfunding Adopting
Release for a more detailed discussion of intermediaries in
crowdfunding offerings.
---------------------------------------------------------------------------

2. Alternative Methods of Raising up to $5 Million of Capital
    The potential economic impact of the proposed amendments, including
their effects on efficiency, competition and capital formation, will
depend primarily on the extent of use of the amended Rule 147 and Rule
504 exemptions, and how these methods compare to alternative methods
that startups and small businesses can use for raising capital.
    As the proposed amendments to Rule 504 would permit offerings up to
$5 million by all types of issuers, the analysis below discusses
alternatives available for startups and small businesses to access up
to $5 million in capital. Current state crowdfunding provisions, most
of which require issuers to rely on Rule 147 for federal exemption,
have offering limits up to $4 million and restrict private funds and
investment companies from utilizing crowdfunding provisions. Our
analysis below, therefore, also subsumes a discussion of alternative
sources for non-fund issuers to raise capital up to $4 million.\232\
---------------------------------------------------------------------------

    \232\ While offerings greater than $5 million that are
registered or exempt under state law, subject to certain conditions,
could be raised under amended Rule 147, and fund issuers would not
be excluded from using the exemption, we believe that the impact of
the proposed amendments on larger offerings and fund offerings is
not likely to be significant, given the local nature of offerings
and also current state regulations for larger offerings. See Section
V.B (discussing the impact of the proposed rule amendments is
analyzed more in detail).
---------------------------------------------------------------------------

    Startups and small businesses can potentially access a variety of
external financing sources in the capital markets through, for example,
registered or unregistered offerings of debt, equity or hybrid
securities and bank loans. Issuers seeking to raise capital must
register the offer and sale of securities under the Securities Act or
qualify for an exemption from registration under the federal securities
laws. Registered offerings, however, are generally too costly to be
viable alternatives for startups and small businesses. Issuers
conducting registered offerings must pay Commission registration fees,
legal and accounting fees and expenses, transfer agent and registrar
fees, costs associated with periodic reporting requirements and other
regulatory requirements, and various other fees. Two surveys concluded
that the average initial compliance cost associated with conducting an
initial public offering is $2.5 million, followed by an ongoing
compliance cost for issuers, once public, of $1.5 million per
year.\233\ Moreover, issuers conducting registered offerings usually
pay underwriter fees, which average approximately 7% for initial public
offerings, approximately 5% for follow-on equity offerings and
approximately 1-1.5% for public bond issuances.\234\ Hence, for an
issuer seeking to raise less than $5 million, a registered offering
typically may not be economically feasible.
---------------------------------------------------------------------------

    \233\ See IPO Task Force, Rebuilding the IPO On-Ramp, at 9 (Oct.
20, 2011) for the two surveys, available at http://www.sec.gov/info/smallbus/acsec/rebuilding_the_ipo_on-ramp.pdf (``IPO Task Force'').
The estimates should be interpreted with the caveat that most firms
in the IPO Task Force surveys likely raised more than $1 million.
The IPO Task Force surveys do not provide a breakdown of costs by
offering size. However, compliance related costs of an initial
public offering and subsequent compliance related costs of being a
reporting company likely have a fixed cost component that would
disproportionately affect small offerings.
     Title I of the JOBS Act provided certain accommodations to
issuers that qualify as emerging growth companies (EGCs). According
to a recent working paper, the underwriting, legal and accounting
fees of EGC and non-EGC initial public offerings were similar (based
on a time period from April 5, 2012 to April 30, 2014). For a median
EGC initial public offering, gross spread comprised 7% of proceeds
and accounting and legal fees comprised 2.4% of proceeds. See Susan
Chaplinsky, Kathleen W. Hanley, and S. Katie Moon, 2014, ``The JOBS
Act and the Costs of Going Public,'' working paper, August 14, 2014,
available at http://ssrn.com/abstract_id=2492241.
    \234\ See, e.g., Hsuan-Chi Chen and Jay R. Ritter, ``The Seven
Percent Solution,'' 55 J. Fin. 1105-1131 (2000); Mark Abrahamson,
Tim Jenkinson, and Howard Jones, ``Why Don't U.S. Issuers Demand
European Fees for IPOs?'' 66 J. Fin. 2055-2082 (2011); Shane A.
Corwin, ``The Determinants of Underpricing for Seasoned Equity
Offers,'' 58 J. Fin. 2249-2279 (2003); Lily Hua Fang, ``Investment
Bank Reputation and the Price and Quality of Underwriting
Services,'' 60 J. Fin. 2729-2761 (2005); Rongbing Huang and Donghang
Zhang, ``Managing Underwriters and the Marketing of Seasoned Equity
Offerings,'' 46 J. Fin. Quant. Analysis 141-170 (2011); Stephen J.
Brown, Bruce D. Grundy, Craig M. Lewis and Patrick Verwijmeren,
``Convertibles and Hedge Funds as Distributors of Equity Exposure,''
25 Rev. Fin. Stud. 3077-3112 (2012).
---------------------------------------------------------------------------

a. Exempt Offerings
    For startups and small businesses that can potentially access
capital under the Rule 147 safe harbor and Rule 504 exemption,
offerings under other existing exemptions from registration may
represent alternative methods of raising capital. For example, startups
and small businesses could rely on current exemptions and safe harbors,
such as Section 3(a)(11), Section 4(a)(2),\235\ Regulation A,\236\ and
Rule 506 of Regulation D.\237\
---------------------------------------------------------------------------

    \235\ Securities Act Section 4(a)(2) provides that the
provisions of the Securities Act shall not apply to ``transactions
by an issuer not involving a public offering.''
    \236\ Regulation A provides a conditional exemption from
registration for certain small issuances. We recently adopted
amendments to Regulation A, which became effective on June 19, 2015.
See 2015 Regulation A Release.
    \237\ Rule 506(b) of Regulation D provides a nonexclusive safe
harbor from registration for certain types of securities offerings.
Rule 506(c) of Regulation D is a new exemption from registration
that the Commission adopted to implement Section 201(a) of the JOBS
Act.
---------------------------------------------------------------------------

    Each of these exemptions, however, includes restrictions that may
limit its suitability for startups and small businesses seeking to
raise capital up to $5 million. Table 4 below lists the main
requirements of these exemptions.

                                            Table 4--Other Exemptions Currently Available for Capital Raising
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                              Issuer and
        Type of offering            Offering limit       Solicitation          investor             Filing          Restriction on       Blue sky law
                                         \238\                               requirements         requirement           resale            preemption
--------------------------------------------------------------------------------------------------------------------------------------------------------
Section 3(a)(11)................  None..............  All offerees must   All issuers and     None..............  No \239\..........  No.
                                                       be resident in      investors must be
                                                       state.              resident in state.
Section 4(a)(2).................  None..............  No general          Transactions by an  None..............  Restricted          No.
                                                       solicitation.       issuer not                              securities.
                                                                           involving any
                                                                           public offering
                                                                           \240\.

Regulation A....................  Tier 1: up to $20   Testing the waters  U.S. or Canadian    File testing the    No................  Tier 1: No Tier 2:
                                   million with $6     permitted both      issuers,            waters materials,                       Yes
                                   million limit on    before and after    excluding           Form 1-A for
                                   secondary sales     filing the          investment          Tiers 1 and 2
                                   by affiliates of    offering            companies, blank-   offerings; file
                                   the issuer;         statement.          check companies,    annual, semi-
                                  Tier 2: up to $50                        reporting           annual, and
                                   million with $15                        companies, and      current reports
                                   million limit on                        issuers of          for Tier 2; file
                                   secondary sales                         fractional          exit report for
                                   by affiliates of                        undivided           Tier 1 and to
                                   the issuer..                            interests in oil    suspend or
                                                                           or gas rights, or   terminate
                                                                           similar interests   reporting for
                                                                           in other mineral    Tier 2.
                                                                           rights \241\.
Rule 505                          $5 million........  No general          Unlimited           File Form D \242\.  Restricted          No.
Regulation D....................                       solicitation.       accredited                              securities.
                                                                           investors and up
                                                                           to 35 non-
                                                                           accredited
                                                                           investors.
Rule 506(b)                       None..............  No general          Unlimited           File Form D \243\.  Restricted          Yes.
Regulation D....................                       solicitation.       accredited                              securities.
                                                                           investors and up
                                                                           to 35 non-
                                                                           accredited
                                                                           investors.
Rule 506(c)                       None..............  General             Unlimited           File Form D \245\.  Restricted          Yes.
Regulation D....................                       solicitation is     accredited                              securities.
                                                       permitted,          investors; no non-
                                                       subject to          accredited
                                                       certain             investors.
                                                       conditions \244\.
--------------------------------------------------------------------------------------------------------------------------------------------------------

    While we do not have complete data on offerings relying on an
exemption under Section 3(a)(11) or Section 4(a)(2), certain data
available from Regulation D and Regulation A filings allow us to gauge
how frequently issuers seeking to raise up to $5 million use these
exemptions. Based on Form D filings from 2009 to 2014, a substantial
number of issuers chose to raise capital by relying on Rule 506(b),
even though their offering size would qualify for an exemption under
Rule 504 or Rule 505.\246\ As shown below, in the upper part of Table 5
reporting the number of Regulation D offerings by all types of issuers,
most of the issuers made offers for amounts of up to $1 million from
2009 to 2014. Most of the offerings up to $5 million rely on the Rule
506(b) exemption. The lower part of Table 5 shows a similar pattern for
the number of offerings by non-fund issuers only. The overwhelming
majority of non-fund issuers (approximately 78%) for offerings less
than $5 million were five years or younger, and 68% of such issuers
were two years or younger, with a median age of approximately one year.
More than 93% of the non-fund issuers that made Regulation D offerings
with offer sizes of $5 million or less during this period were
organized as either a corporation or a limited liability company.
Almost 23% reported no revenues, while approximately 21% had revenues
of less than $5 million.\247\
---------------------------------------------------------------------------

    \238\ Aggregate offering limit on securities sold within a
twelve-month period.
    \239\ Although Section 3(a)(11) does not have explicit resale
restrictions, the Commission has explained that ``to give effect to
the fundamental purpose of the exemption, it is necessary that the
entire issue of securities shall be offered and sold to, and come to
rest only in the hands of residents within the state.'' See 1961
Release. State securities laws, however, may have specific resale
restrictions. Securities Act Rule 147, a safe harbor under Section
3(a)(11), limits resales to persons residing in-state for a period
of 9 months after the last sale by the issuer. [17 CFR 230.147]
    \240\ Section 4(a)(2) of the Securities Act provides a statutory
exemption for ``transactions by an issuer not involving any public
offering.'' See SEC v. Ralston Purina Co., 346 U.S. 119 (1953)
(holding that an offering to those who are shown to be able to fend
for themselves is a transaction ``not involving any public
offering.'')
    \241\ The Regulation A exemption also is not available to
companies that have been subject to any order of the Commission
under Exchange Act Section 12(j) entered within the past five years;
have not filed ongoing reports required by the regulation during the
preceding two years, or are disqualified under the regulation's
``bad actor'' disqualification rules.
    \242\ Filing is not a condition of the exemption, but it is
required under Rule 503.
    \243\ Filing is not a condition of the exemption, but it is
required under Rule 503.
    \244\ General solicitation and general advertising is permitted
under Rule 506(c). All purchasers must be accredited investors and
the issuer must take reasonable steps to verify accredited investor
status.
    \245\ Filing is not a condition of the exemption, but it is
required under Rule 503.
    \246\ See Unregistered Offerings White Paper. This tendency
could, in part, be attributed to two features of Rule 506:
preemption from state registration (``blue sky'') requirements and
an unlimited offering amount. See also GAO Report.
    \247\ These percentages could be higher because almost 45% of
the Regulation D issuers declined to disclose their size.

                  Table 5--Number of Regulation D and Regulation A Offerings By Size, 2009-2014
----------------------------------------------------------------------------------------------------------------
                                                                   Offering size
                                 -------------------------------------------------------------------------------
                                                      $1-$2.5
                                   <=$1 million       million     $2.5-5 million   $5-50 million   >$50 million
----------------------------------------------------------------------------------------------------------------
All offerings:
    Rule 504....................           3,719

    Rule 505....................             525             450             393
    Rule 506(b).................          29,751          15,805          13,562          26,847          11,942
    Rule 506(c).................             710             304             295             533             161
                                 -------------------------------------------------------------------------------
    Total.......................          34,705          16,559          14,250          27,380          12,103
----------------------------------------------------------------------------------------------------------------
Regulation A....................               5               4              29
Non-fund offerings:
    Rule 504....................           3,643
    Rule 505....................             501             432             342
    Rule 506(b).................          27,106          14,113          11,633          18,670           2,733
    Rule 506(c).................             588             261             270             419              89
                                 -------------------------------------------------------------------------------
    Total.......................          31,838          14,806          12,245          19,089           2,822
----------------------------------------------------------------------------------------------------------------
Note: Data based on Form D and Form 1-A filings from 2009 to 2014. We consider only new offerings and exclude
  offerings with amount sold reported as $0 on Form D. Data on Rule 506(c) offerings covers the period from
  September 23, 2013 (the day the rule became effective) to December 31, 2014. We also use the maximum amount
  indicated in Form 1-A to determine offering size for Regulation A offerings.

    The table above also includes the number of Regulation A offerings
by size. From 2009 to 2014, 38 issuers relied on Regulation A for
offerings of up to $5 million.\248\ This data does not reflect the
recent amendments to Regulation A adopted by the Commission on March
25, 2015. The amendments allow issuers to raise up to $50 million over
a 12-month period and preempt state registration requirements for
certain Regulation A offerings (Tier 2 offerings). As these amendments
became effective only recently, more time is needed to assess how the
changes in Regulation A will affect capital raising by small
issuers.\249\
---------------------------------------------------------------------------

    \248\ We only consider offerings with offering statements that
have been qualified by the Commission. For purposes of counting
filings, we exclude amendments or multiple 1-A filings by the same
issuer in a given year. For purposes of determining the offering
size for Regulation A offerings, we use the maximum amount indicated
on the latest pre-qualification Form 1-A or amended Form 1-A. We
reclassify two offerings that are dividend reinvestment plans with
uncertain offering amounts as having the maximum permitted offering
amount.
    \249\ See 2015 Regulation A Adopting Release.
---------------------------------------------------------------------------

b. Regulation Crowdfunding
    The analysis above does not include securities-based crowdfunding
transactions under the Regulation Crowdfunding exemption. Under these
rules, which are not yet in effect, offerings pursuant to Regulation
Crowdfunding are limited to a maximum amount of $1 million over a 12-
month period and are subject to ongoing disclosure requirements.
Securities issued pursuant to these rules can be sold to an unlimited
number of investors (subject to certain investment limits), are freely
tradable after one year, and can be offered and sold across states
without state registration. In addition to the existing regulatory
scheme of exemptions and safe harbors described above, Regulation
Crowdfunding will provide a new exemption from the registration
requirements of the Securities Act. Once effective, this exemption will
provide startups and small businesses with an alternate source for
raising up to $1 million in capital in a 12-month period through
certain securities-based crowdfunding transactions. Unlike intrastate
crowdfunding provisions enacted at the state level, the new federal
crowdfunding exemption would allow interstate offerings. Table 6 below
presents a comparison of the provisions of Regulation Crowdfunding and
intrastate crowdfunding that rely on current Rule 147 for federal
exemption.

 Table 6--Intrastate Crowdfunding and Regulation Crowdfunding Provisions
------------------------------------------------------------------------
                                     State level
                                    crowdfunding +        Regulation
                                   current rule 147   crowdfunding \251\
                                        \250\
------------------------------------------------------------------------
Investor Base..................  All investors,       All investors, all
                                  resident in- state.  states.
State Registration.............  Exemption provided   Preemption.
                                  by state.
Issuer Incorporation/Residency   Issuer should be     Excludes foreign
 Limitations.                     incorporated and     private issuers.
                                  ``doing-business''
                                  in state.
Excluded Issuers...............  Exchange Act         Exchange Act
                                  reporting            reporting
                                  companies,           companies,
                                  investment           investment
                                  companies and        companies, pooled
                                  blank check          investment funds,
                                  companies (under     and blank check
                                  most state           companies.
                                  provisions).
Offering Size Limits...........  $250,000--$4         Up to $1 million.
                                  million, depending
                                  on state. Average
                                  (median) limit:
                                  $1.6 ($2) million.
Security Type..................  Equity and debt in   Any security.
                                  some states;
                                  equity only in
                                  other states; any
                                  security in some
                                  other states.

Audited Financials Requirement.  Most states, if      Required for
                                  offer greater than   offerings greater
                                  $1 million.          than $500,000
                                                       with the
                                                       exception of
                                                       first-time
                                                       crowdfunding
                                                       issuers offering
                                                       more than
                                                       $500,000 but not
                                                       more than
                                                       $1,000,000, who
                                                       are permitted to
                                                       provide financial
                                                       statements
                                                       reviewed by an
                                                       independent
                                                       accountant,
                                                       unless the issuer
                                                       has audited
                                                       statements
                                                       otherwise
                                                       available.
                                                       Reviewed
                                                       financial
                                                       statements are
                                                       required for
                                                       offerings greater
                                                       than $100,000 but
                                                       not more than
                                                       $500,000, unless
                                                       the issuer has
                                                       audited
                                                       statements
                                                       otherwise
                                                       available.
General Solicitation...........  Allowed but only to  Allowed with
                                  investors resident   limitations on
                                  in state.            advertising.
Investment Limits..............  $2,500-$10,000,      (a) the greater of
                                  depending on         $2,000 or 5% of
                                  state, for non-      the lesser of the
                                  accredited           investor's annual
                                  investors.           income or net
                                 None, in most         worth if either
                                  states, for          annual income or
                                  accredited           net worth is less
                                  investors.           than $100,000, or
                                                       (b) 10% of the
                                                       lesser of the
                                                       investor's annual
                                                       income or net
                                                       worth if both
                                                       annual income and
                                                       net worth are
                                                       $100,000 or more,
                                                       subject to
                                                       investment cap of
                                                       $100,000.
Restrictions on Resale.........  Interstate resales   12-month resale
                                  restricted for       limitation;
                                  nine months \252\.   resale within one
                                                       year to issuer
                                                       and certain
                                                       investors.
Exemption from Section 12(g)     No exemption.......  Exempted, provided
 Registration Requirements.                            that the issuer
                                                       is current in its
                                                       ongoing annual
                                                       reports required
                                                       pursuant to Rule
                                                       202 of Regulation
                                                       Crowdfunding, has
                                                       total assets as
                                                       of the end of its
                                                       last fiscal year
                                                       not in excess of
                                                       $25 million, and
                                                       has engaged the
                                                       services of a
                                                       transfer agent
                                                       registered with
                                                       the Commission
                                                       pursuant to
                                                       Section 17A of
                                                       the Exchange Act.
------------------------------------------------------------------------

c. Private Debt Financing
    While equity-based financing, including principal owner equity,
accounts for a significant proportion of the total capital of a typical
small business, other sources of capital for startups and small
businesses include loans from commercial banks, finance companies and
other financial institutions, business credit cards and credit
lines.\253\
---------------------------------------------------------------------------

    \250\ Information based on provisions reflective of most states
that have enacted crowdfunding provisions. See http://www.nasaa.org/industry-resources/corporation-finance/instrastate-crowdfunding-resource-center/intrastate-crowdfunding-directory/.
    \251\ See Regulation Crowdfunding Adopting Release.
    \252\ Rule 147(e), 17 CFR 230.147(e). States may impose
additional resale restrictions.
    \253\ Using data from the 1993 Survey of Small Business Finance,
one study indicates that financial institutions account for
approximately 27% of small firms' borrowings. See Allen N. Berger
and Gregory F. Udell, The Economics of Small Business Finance: The
Roles of Private Equity and Debt Markets in the Financial Growth
Cycle, 22 J. Banking & Fin. 613 (1998). See also 1987, 1993, 1998
and 2003 Surveys of Small Business Finances, available at http://www.federalreserve.gov/pubs/oss/oss3/nssbftoc.htm. The Survey of
Small Business Finances was discontinued after 2003. Using data from
the Kauffman Foundation Firm Surveys, one study finds that 44% of
startups use loans from financial institutions. See Rebel A. Cole
and Tatyana Sokolyk, How Do Start-Up Firms Finance Their Assets?
Evidence from the Kauffman Firm Surveys (2012), available at http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2028176.
---------------------------------------------------------------------------

    For example, a 2014 study reports that startups frequently resort
to bank financing early in their lifecycle.\254\ The study finds that
businesses rely heavily in the first year after formation on external
debt sources such as bank financing, mostly in the form of personal and
commercial bank loans, business credit cards, and credit lines. Another
recent report, however, shows a decline in bank lending to small
businesses, which fell by $100 billion from 2008 to 2011.\255\ This
report also shows that less than one-third of small businesses reported
having a business bank loan by 2012. Similarly, an FDIC report shows
that, as of June 2014, small business lending, specifically business
loans of up to $1 million, by FDIC-insured depository institutions
amounted to approximately $590 billion, which is 17% lower than the
2008 level.\256\
---------------------------------------------------------------------------

    \254\ See Robb, A., and D. Robinson, 2014, The Capital Structure
Decisions of New Firms, Review of Financial Studies 27(1), pp. 153-
179 (``Robb'').
    \255\ See The Kauffman Foundation, 2013 State of
Entrepreneurship Address (Feb. 5, 2013), available at http://
www.kauffman.org/~/media/kauffman_org/
research%20reports%20and%20covers/2013/02/soe%20report_2013pdf.pdf.
The report cautions against prematurely concluding that banks are
not lending enough to small businesses as the sample period of the
study includes the most recent recession.
    \256\ We define small business loans to include commercial and
industrial loans of up to $1 million and loans secured by nonfarm
nonresidential properties and commercial and industrial loans of up
to $1 million to U.S. addressees. See Federal Deposit Insurance
Corporation, Statistics on Depository Institutions Report, available
at http://www2.fdic.gov/SDI/SOB/ (``FDI Statistics'').
---------------------------------------------------------------------------

    An earlier study by Federal Reserve Board staff covering the pre-
recessionary period suggests that 60% of small businesses had
outstanding credit in the form of a credit line, a loan or a capital
lease.\257\ These loans were borrowed from two types of financial
institutions: Depositary and non-depositary institutions (e.g., finance
companies, factors or leasing companies).\258\ Lines of credit were the
most widely used type of credit.\259\ Other types included mortgage
loans, equipment loans, and motor vehicle loans.\260\
---------------------------------------------------------------------------

    \257\ See Federal Reserve Board, Financial Services Used by
Small Businesses: Evidence from the 2003 Survey of Small Business
Finances (October 2006), available at http://www.federalreserve.gov/pubs/bulletin/2006/smallbusiness/smallbusiness.pdf (``2003
Survey'').
    \258\ See Rebel Cole, What Do We Know About the Capital
Structure of Privately Held Firms? Evidence from the Surveys of
Small Business Finance (Working Paper) (Feb. 2013), available at
http://onlinelibrary.wiley.com/doi/10.1111/fima.12015/pdf
    \259\ See 2003 Survey, note 257 (estimating that 34% of small
businesses use lines of credit).
    \260\ Id.
---------------------------------------------------------------------------

    Small businesses may also receive funding from various loan
guarantee programs of the Small Business Administration (``SBA''),
which makes credit more accessible to small businesses by either
lowering the interest rate of the loan or enabling a market-based loan
that a lender would

not be willing to provide, absent a guarantee.\261\ SBA loan programs
include 7(a) loans,\262\ and CDC/504 loans.\263\ For example, in fiscal
year 2014, the SBA supported approximately $28.7 billion in 7(a) and
CDC/504 loans distributed to approximately 51,500 small
businesses.\264\ SBA guaranteed loans, however, currently account for a
relatively small share (18%) of the balances of small business loans
outstanding.\265\
---------------------------------------------------------------------------

    \261\ Numerous states also offer a variety of small business
financing programs, such as Capital Access Programs, collateral
support programs and loan guarantee programs. These programs are
eligible for support under the State Small Business Credit
Initiative, available at http://www.treasury.gov/resource-center/sb-programs/Pages/ssbci.aspx.
    \262\ 15 U.S.C. 631 et seq. 7(a) loans provide small businesses
with financing guarantees for a variety of general business purposes
through participating lending institutions.
    \263\ 15 U.S.C. 695 et seq. The CDC/504 loans are made available
through ``certified development companies'' or ``CDCs'', typically
structured with the SBA providing 40% of the total project costs, a
participating lender covering up to 50% of the total project costs
and the borrower contributing 10% of the project costs.
    \264\ See U.S. Small Business Administration, FY 2016
Congressional Budget Justification and FY 2014 Annual Performance
Report, available at https://www.sba.gov/content/fiscal-year-2016-congressional-budget-justificationannual-performance-report (``2014
Annual Performance Report''). SBA also offers the Microloan program,
which provides funds to specially designated intermediary lenders
that administer the program for eligible borrowers. The maximum loan
amount is $50,000, but the average is about $13,000. See Microloan
Program, U.S. Small Business Administration, available at http://www.sba.gov/content/microloan-program.
    \265\ As of the end of fiscal year 2014, the SBA guaranteed
business loans outstanding (including 7(a) and 504 loans) equaled
$107.5 billion. See Small Business Administration Unpaid Loan
Balances by Program, available at https://www.sba.gov/sites/default/files/files/WDS_Table1_UPB_Report.pdf. This comprises approximately
18% of the approximately $590 billion in outstanding small business
loans for commercial real estate and commercial and industrial loans
discussed above. In 2014, the SBA expanded eligibility for loans
under its business loan programs. See SBA 504 and 7(a) Loan Programs
Updates (Mar. 21, 2014) [79 FR 15641 (Apr. 21, 2014)]. In addition
to loan guarantees, the SBA program portfolio also includes direct
business loans, which are mainly microloans (outstanding direct
business loans equaled $137.1 billion), and disaster loans.
---------------------------------------------------------------------------

    Borrowing from financial institutions is, however, relatively
costly for many early-stage issuers and small businesses as they may
have low revenues, irregular cash-flow projections, insufficient assets
to offer as collateral, and high external monitoring costs.\266\ Many
startups and small businesses may find loan requirements imposed by
financial institutions difficult to meet and may not be able to rely on
these institutions to secure funding. For example, financial
institutions generally require a borrower to provide collateral and/or
a guarantee,\267\ which startups, small businesses and their owners may
not be able to provide. Collateral may also be required for loans
guaranteed by the SBA.
---------------------------------------------------------------------------

    \266\ See Robb.
    \267\ Approximately 92% of all small business debt to financial
institutions is secured, and owners of the firm guarantee about 52%
of that debt. See Berger, A., and G. Udell, 1995, Relationship
Lending and Lines of Credit in Small Firm Finance, Journal of
Business 68(3), pp. 351-381. Some studies of small business lending
also document the creation of local captive markets with higher
borrowing costs for small, opaque firms as a result of strategic use
of soft information by local lenders. See Agarwal, Sumit, and Robert
Hauswald, 2010, Distance and Private Information in Lending, Review
of Financial Studies 13(7), pp. 2757-2788.
---------------------------------------------------------------------------

    Other sources of debt financing for startups and small businesses
include peer-to-peer and peer-to-business lending,\268\
microfinance,\269\ and other alternative online lending channels.\270\
According to some industry estimates, the global volume of ``lending-
based crowdfunding,'' which includes peer-to-peer lending to consumers
and businesses, had risen to approximately $11.08 billion in 2014.\271\
Technology has facilitated the growth of alternative models of small
business lending. According to one academic study,\272\ the outstanding
portfolio balance of online alternative lenders has doubled every year,
albeit this market represents less than $10 billion in outstanding loan
capital. According to the 2014 Small Business Credit survey,\273\ 18%
of all small businesses surveyed applied for credit with an online
lender.\274\
---------------------------------------------------------------------------

    \268\ Such debt transactions are facilitated by online platforms
that connect borrowers and lenders and potentially offer small
businesses additional flexibility with regard to pricing, repayment
schedules, collateral or guarantee requirements, and other terms.
See Ian Galloway, Peer-to-Peer Lending and Community Development
Finance, Federal Reserve Bank of San Francisco (Working Paper)
(2009), available at http://www.frbsf.org/publications/community/wpapers/2009/wp2009-06.pdf.
    \269\ See Craig Churchill and Cheryl Frankiewicz, Making
Microfinance Work: Managing for Improved Performance, Geneva
International Labor Organization (2006). Microfinance consists of
small, working capital loans provided by microfinance institutions
that are invested in microenterprises or income-generating
activities. According to one report, in fiscal year 2012, the U.S.
microfinance industry was estimated to have disbursed $292.1 million
across 36,936 microloans, and was estimated to have $427.6 million
in outstanding microloans (across 45,744 in microloans). See FIELD
at the Aspen Institute, U.S. Microenterprise Census Highlights, FY
2012, available at http://fieldus.org/Publications/CensusHighlightsFY2012.pdf.
    \270\ Several models of online small business lending have
emerged: Online lenders raising capital from institutional investors
and lending on their own account (for example, short-term loan
products similar to a merchant cash advance); peer-to-peer
platforms; and ``lender[hyphen]agnostic'' online marketplaces that
facilitate small business borrower access to various loan products,
from term loans and lines of credit to merchant cash advances and
factoring products, from traditional and alternative lenders. See
Karen Gordon Mills and Brayden McCarthy, The State of Small Business
Lending: Credit Access during the Recovery and How Technology May
Change the Game, Harvard Business School Working Paper 15-004
(2014), available at http://ssrn.com/abstract=2470523 (``Mills-
McCarthy 2014).
    \271\ See Massolution, 2015CF Crowdfunding Industry Report:
Market Trends, Composition and Crowdfunding Platforms, available at
http://reports.crowdsourcing.org/index.php?route=product/product&product_id=54 (``Massolution 2015'') at 56. The Massolution
2015 report refers to peer-to-peer lending to consumers and peer-to-
business lending to small businesses as ``lending based''
crowdfunding. Our discussion refers to peer-to-peer lending more
broadly in a sense synonymous with ``lending-based'' crowdfunding.
    \272\ See Mills McCarthy 2014.
    \273\ The survey was conducted by the Federal Reserve Banks of
New York, Atlanta, Cleveland, and Philadelphia between September and
November of 2014. It focused on credit access among businesses with
fewer than 500 employees in Alabama, Connecticut, Florida, Georgia,
Louisiana, New Jersey, New York, Ohio, Pennsylvania, and Tennessee.
The survey authors note that since the sample is not a random
sample, results were reweighted for industry, age, size, and
geography to reduce coverage bias. See Federal Reserve Banks of New
York, Atlanta, Cleveland and Philadelphia, Joint Small Business
Credit Survey Report (2014), available at http://www.newyorkfed.org/smallbusiness/SBCS-2014-Report.pdf.
    \274\ Id. The survey also showed differences in the use of
online lenders by type of borrower: 22% of small businesses
categorized in the survey as ``startups'' (i.e. businesses that have
been in business for less than five years) applied for credit with
online lenders. By comparison, 8% of small businesses categorized in
the survey as ``growers'' (i.e. businesses that were profitable and
experienced an increase in revenue) applied with online lenders, and
3% of small businesses categorized in the survey as ``mature firms''
(i.e. businesses that have been in business for more than five
years, had over ten employees, and had prior debt), applied with an
online lender. The latter two categories of small businesses were
more likely to apply for credit with bank lenders than with online
lenders.
---------------------------------------------------------------------------

    Family and friends are also sources through which startups and
small businesses can raise capital. This source of capital is usually
available early in the lifecycle of a small business, before the
business engages arm's-length, more formal funding channels.\275\ Among
other things, family and friends may donate funds, loan funds or
acquire an equity stake in the business. A recent study finds that most
of the capital supplied to startups by friends and family is in the
form of loans.\276\ Family and friends, however, may be able to provide
only a limited amount of capital compared to other sources. We do not
have data available on these financing sources that could allow us to
quantify their magnitude and compare them to other current sources of
capital.
---------------------------------------------------------------------------

    \275\ See Paul Gompers and Josh Lerner, The Venture Capital
Cycle (MIT Press 2006).
    \276\ See Robb at 1219.

---------------------------------------------------------------------------

B. Analysis of Proposed Rules

1. Introduction
    In general, the proposed amendments to Rule 147 and Rule 504 are
intended to expand the capital raising options available to startups
and small businesses, including through the use of intrastate and
regional securities offering provisions that have been enacted or could
be enacted by various states, and thereby promote capital formation
within the larger economy.
    Securities-based crowdfunding is a relatively new and evolving
capital market which provides startups and small businesses an
alternative mechanism of raising funds using the Internet, by selling
small amounts of securities to a large number of investors. Title III
of the JOBS Act directed the Commission to establish rules for an
exemption that would facilitate this market at the federal level.
Around the same time, some states began enacting intrastate
crowdfunding statutes and rules that provide issuers with exemptions
from state registration. Most state crowdfunding rules require issuers
to comply with the requirements of Section 3(a)(11) and Rule 147, while
one state currently provides issuers with the option of utilizing Rule
504 or another Regulation D exemption.
    By modernizing the existing requirements under Rule 147, the
proposed amendments would facilitate capital formation through
intrastate crowdfunded offerings as well as through other state
registered or state exempt offerings. By raising the offering amount
limit under Rule 504 from $1 million to $5 million, the proposed
amendments may facilitate offerings, including those registered or
exempt in a state, or regional offerings made pursuant to the
implementation of regional coordinated review programs.\277\ Such
programs, when implemented, may enable Rule 504 issuers to register
their offering in any one of the several states where they make the
offering, instead of registering in all the states of solicitation,
thereby saving time and money for issuers.
---------------------------------------------------------------------------

    \277\ See http://www.nasaa.org/industry-resources/corporation-finance/coordinated-review/. See also the ``Reciprocal Crowdfunding
Exemption'' proposed by the Massachusetts Securities Division
available at http://www.sec.state.ma.us/sct/crowdfundingreg/Reciprocal%20Crowdfunding%20Exemption%20-%20MA.PDF.
---------------------------------------------------------------------------

    As discussed below, the effects of the proposed amendments on
capital formation would depend, first, on whether issuers that
currently raise or plan to raise capital would choose to rely on
securities offerings pursuant to amended Rules 147 and 504 in lieu of
other methods of raising capital, such as Regulation Crowdfunding and
Rule 506 of Regulation D. To assess the likely impact of the proposed
amendments on capital formation, we consider the features of amended
Rules 147 and 504 that potentially could increase the use of securities
offerings by new issuers and by issuers that already rely on other
private offering options.
    Second, to the extent that securities offerings under amended Rule
147 and Rule 504 provide capital raising options for issuers that
currently do not have access to capital, the proposed amendments could
enhance the overall level of capital formation in the economy in
addition to any reallocation of demand for capital amongst the various
capital raising options that could arise from issuers changing their
capital raising methods.
    Third, to the extent that states currently have residency and
eligibility requirements in addition to prescriptive threshold
requirements that correspond to existing Rule 147 provisions, the
impact of the proposed amendments to Rule 147 on capital formation
would significantly depend on whether states choose to modernize their
provisions to align with the amended Rule 147. Any changes to the
intrastate and regional securities offering provisions that may be
enacted would, in turn, affect the expected use of amended Rule 504.
For instance, while current intrastate crowdfunding provisions in most
states require issuers to rely on Rule 147 for the federal exemption,
to the extent the amended state provisions require the offerings to
comply with either Rule 147 or Rule 504 in the future, the choice
between reliance on these two exemptions could depend on issuers'
preferences with respect to general solicitation, target investor base,
and investor location. For example, while Rule 147 offerings would be
restricted to in-state investors, Rule 504 offerings would be available
to investors in more than one state, thus making regional offerings
feasible. At the same time, there is no limit on the maximum offering
amount under proposed Rule 147 for an offering that is registered with
a state, while the proposed amendments under Rule 504 limit the maximum
amount that can be sold over a twelve-month period to $5 million.\278\
---------------------------------------------------------------------------

    \278\ While the proposed amendments to Rule 147 would limit the
availability of the federal exemption to offerings of $5 million or
less that are conducted pursuant to an exemption under state law, we
believe the impact of this provision may not be significant given
that existing crowdfunding state exemptions do not permit offerings
greater than $4 million. States may have non-crowdfunding exemptions
for larger offerings and issuers seeking to rely on any such state
exemption could continue to conduct the offering pursuant to Section
3(a)(11) or find an alternate federal exemption.
---------------------------------------------------------------------------

    Finally, the impact of the proposed amendments on aggregate capital
formation also would depend on whether new investors are attracted to
the Rule 147 and Rule 504 markets or whether investors reallocate
existing capital among various types of offering options. For example,
if the amended exemptions allow issuers to reach a category of
potential investors significantly different from those that they can
reach through other offering methods, capital formation, in aggregate,
could increase. However, if the amended exemptions are viewed by
investors as substantially similar to alternate exemptions, investors
may simply reallocate their capital from other markets to the Rule 147
or Rule 504 markets. Investor demand for securities offered under
amended Rule 147 and Rule 504 could, in particular, depend on the
extent to which expected risk, return and liquidity of the offered
securities compare to what investors can obtain from securities in
other exempt offerings and in registered offerings.
    Investor demand also would depend on whether state offering
reporting requirements are sufficient to enable investors to evaluate
the aforementioned characteristics of Rule 147 and Rule 504 offerings.
For example, investors may be less willing to participate in intrastate
crowdfunding or regional offerings that are made in reliance on
exemptions from both state registration under state crowdfunding
provisions and registration with the Commission under Rule 147 and Rule
504 and that are subject to lower reporting requirements.
Alternatively, the state registration requirement for using general
solicitation in Rule 504 offerings, the proposed amendment to
disqualify certain bad actors from participation in Rule 504 offerings,
the maximum offering amount for state exempt offerings that rely on
Rule 147, and the reporting requirements for larger intrastate
crowdfunding offerings under state provisions may mitigate some of
these investor protection concerns. For example, in a number of states,
current intrastate crowdfunding provisions require issuers for
offerings greater than $1 million to submit audited financial
statements.\279\
---------------------------------------------------------------------------

    \279\ See NASAA's Intrastate Crowdfunding Resource Center at
http://www.nasaa.org/industry-resources/corporation-finance/instrastate-crowdfunding-resource-center/, retrieved in June 2015.
---------------------------------------------------------------------------

    The proposed amendments to Rule 147 and Rule 504 would remove or

reduce certain burdens identified by market observers.\280\ We believe
that the potential use of amended Rule 147 and Rule 504 depends largely
on how issuers perceive the trade-off between the costs of disclosure
requirements, if any under state regulation, and the benefits of access
to accredited and non-accredited investors. Some issuers may prefer to
offer securities under amended Rule 147 or Rule 504 because of the
potentially limiting features associated with other exemptions. For
instance, relative to Regulation Crowdfunding, the use of amended Rule
147 and Rule 504 in intrastate crowdfunding offerings would depend on
whether the benefits of a larger offering size and fewer reporting
requirements outweigh the costs of a more geographically limited
investor base, compliance with issuer residency provisions under state
crowdfunding laws and the potential for registration under Section
12(g) of the Exchange Act. Compared to amended Rules 147 and 504, other
exemptions could remain attractive to issuers. For example, securities
sold pursuant to the exemptions from registration under Rule 506 of
Regulation D, which account for a significant amount of exempt
offerings,\281\ are subject to limits on participation by non-
accredited investors. In contrast, issuers relying on amended Rule 147
or amended Rule 504 could sell securities to an unlimited number of
non-accredited investors at the federal level, which would allow for a
more diffuse investor base. General solicitation is currently permitted
under Rule 506(c) of Regulation D, and issuers relying on Rule 506(c)
can more easily reach institutional and accredited investors, making it
less necessary for them to seek capital from a broader non-accredited
investor base, especially if trading platforms aimed at accredited
investors in privately placed securities continue to develop.\282\ In
addition, offerings under Rule 506 that are limited only to accredited
investors have no disclosure requirements, except for a notice filing.
Finally, relative to the Regulation A exemption, amended Rules 147 and
504 would have fewer disclosure and other regulatory requirements at
the federal level. However, unlike Regulation A securities, which are
freely resalable, Rule 147 and Rule 504 securities could be less liquid
due to their resale restrictions.
---------------------------------------------------------------------------

    \280\ See ABA Letter.
    \281\ See discussion in Section V.2 above.
    \282\ For example, ``NASDAQ Private Market's affiliated
marketplace is an electronic network of Member Broker-Dealers who
provide accredited institutions and individual clients with access
to the market. Companies use a private portal to enable approved
parties to access certain information and transact in its
securities.'' See NASDAQ Private Market overview, available at:
https://www.nasdaqprivatemarket.com/market/overview.
---------------------------------------------------------------------------

    Overall, the proposed amendments to Rule 147 and Rule 504 could
increase the aggregate amount of capital raised in the economy if used
by issuers that have not previously conducted offerings using the
provisions or other exemptions, or registered offerings. The impact of
the proposed amendments on capital formation could also be
redistributive in nature by encouraging issuers to shift from one to
another capital raising method. This potential outcome may have a
significant net positive effect on capital formation and allocative
efficiency by providing issuers with access to capital at a lower cost
than alternative capital raising methods and by providing investors
with additional investment opportunities. The net effect also would
depend on whether investors find the rules' disclosure requirements and
investor protections to be sufficient to evaluate the expected return
and risk of such offerings and to choose between offerings reliant on
Rule 147, Rule 504 and other exempt offerings.
    As these proposed amendments are not currently in effect, the data
does not exist to estimate the effect of the proposed rules on the
potential rate of substitution between alternative methods of raising
capital and the overall expansion (or decline, if any) in capital
raising by potential issuers affected by the proposed amendments.
However, we anticipate that the proposed amendments would result in an
increased use of the Rule 147 exemption for intrastate offerings,
including for intrastate crowdfunding as more states enact provisions
facilitating such offerings. Similarly, we expect the proposed
amendments would increase the use of the Rule 504 exemption, especially
by facilitating efforts among state securities regulators to implement
regional coordinated review programs that would enable regional
offerings. Although it is not possible to predict the extent of such
increase or the type and size of the issuers that would conduct
intrastate crowdfunding offerings, the current number of businesses
pursuing similar levels of financing through alternative capital
raising methods, as discussed in the baseline section, provide an upper
bound for Rule 147 and Rule 504 usage.\283\ Nevertheless, the baseline
data show that the potential number of issuers that might seek to offer
and sell securities in reliance on amended Rules 147 and 504 is large,
particularly when compared to the current number of approximately 9,000
reporting companies.\284\
---------------------------------------------------------------------------

    \283\ We believe the numbers in the baseline provide an upper
bound because unlike Rule 147 offerings, investors from multiple
states are permitted to invest in Regulation D offerings, which
attracts more issuers, especially those that want to raise larger
amounts. Similarly, unlike Rule 504, Rule 506 provides state
preemption and permits unlimited offer amounts, which appears to
make Rule 506 offerings more attractive for issuers.
    \284\ See U.S. Securities and Exchange Commission, FY 2016
Congressional Budget Justification, 2016 Annual Performance Plan, FY
2014 Annual Performance Report, available at http://www.sec.gov/about/reports/secfy16congbudgjust.pdf.
---------------------------------------------------------------------------

    We recognize that the proposed amendments to Rules 147 and 504
could raise investor protection concerns. For instance, as we discuss
in detail further in this section, allowing Rule 147 issuers to have
more dispersed assets and revenues could reduce oversight of issuers by
in-state securities regulators. However, we believe such concerns are
mitigated by the continuing applicability of state regulatory
requirements that may impose additional eligibility conditions, as well
as the residency requirements for investors and issuers under the
amended rule provisions.\285\ As discussed above, in adopting Rules 147
and 504, the Commission placed substantial reliance upon state
securities laws and regulations on the rationale that the size and
local nature of smaller offerings conducted pursuant to these
exemptions does not warrant imposing extensive regulation at the
federal level.\286\ State legislators and securities regulators could
determine the specific additional rule requirements, if any, that
should be required to regulate local offerings and provide additional
investor protections.\287\ In this regard, the proposed amendments
could provide greater flexibility to states in designing regulations
that would work best for issuers and investors in their state. We
believe that such latitude

could improve the efficiency of local capital markets and could lead to
competition between states for attracting issuers to locate in their
jurisdictions.
---------------------------------------------------------------------------

    \285\ By requiring offerings to be sold only to residents of the
state in which the issuer has its principal place of business,
amended Rule 147 would help ensure that issuers and investors are
sufficiently local in nature so as to allow effective oversight by
state regulators. Further, most states require Rule 504 offerings to
be registered under state securities laws, which enables states to
regulate capital raising activity in this market.
    \286\ See Seed Capital Release, Executive Summary and Rule 147
Adopting Release. See also discussion in Sections II.A and III.B
above.
    \287\ According to the NASAA Enforcement Report for 2013,
securities violations related to unregistered securities sold by
unlicensed individuals, including fraudulent offerings marketed
through the Internet, remain an important enforcement concern. The
report does not detail the number and category of violations by type
of exemption from registration. See NASAA Enforcement Report,
available at: http://www.nasaa.org/wp-content/uploads/2011/08/2014-Enforcement-Report-on-2013-Data_110414.pdf.
---------------------------------------------------------------------------

    In addition to state regulations, the proposed amendments that
condition the availability of the amended Rule 147 exemption on states
having an exemption that limits the maximum offering size and includes
investment limits, and the proposed amendments to Rule 504 to
disqualify certain bad actors from participation in Rule 504 offerings,
could help to address such investor protection concerns. Finally, it
should be noted that the Commission would retain authority under the
antifraud provisions of the federal securities laws to pursue
enforcement action against issuers and other persons involved in such
offerings. Nevertheless, if investors demand higher returns because of
a perceived increase in the risk of fraud as a result of less extensive
federal regulation, issuers may face a higher cost of capital. We are
unable to predict if or how the proposed amendments would affect the
incidence of fraud in Rules 147 and 504 offerings.
    In the sections below, we analyze in more detail the potential
costs and benefits stemming from the specific amendments proposed