By Andy Sirkin
Those wishing to raise money for real estate investments will soon be able to advertise their offerings to the general public without registering a securities offering either with the Securities and Exchange Commission (the “SEC”) or with any state securities regulatory agency. It is difficult to overstate the importance of this change for small real estate developers and syndication companies, including those offering tenancy in common (“TIC”) interests as (Internal Revenue Code Section) 1031 tax-deferred exchange opportunities. Previously, the vast majority of real estate investment opportunities, including 1031 TIC investments, had to be offered privately regardless of the number of investors involved. The new law will dramatically ease the regulatory burden for these investment offerings, make it much easier to find investors and raise investment capital, and lower the risk for organizers, sponsors and brokers.
Each time a real estate investment is offered, the seller, broker, and any other professional involved in the offering, needs to ask him/herself whether the offering is regulated by securities law. Contrary to what many real estate professionals believe, the fact that a purchaser receives a deed does not mean that she is not buying a security. A similarly common misconception is that a sale to fewer than 35 people is not a security. In fact, even a single piece of investment property, deeded to two people, can be a regulated securities offering if the circumstances bring it within the relevant legal definitions under federal or state law. The key question is whether the investor will be relying on someone else’s efforts to make a profit.
If a real estate investment offering is a security, the difficulty and cost of making the offering historically depended on whether it was going to be advertised. This is because Federal law exempts certain “private” offerings from the expensive and time-consuming securities registration and approval requirements imposed by the SEC and most states. The catch was that the offering could only be promoted privately; marketing the investment to the general public was prohibited.
The first step in easing these restrictions was the enactment of the “The Jumpstart Our Business Startups Act (the “JOBS Act”) on April 5, 2012. The JOBS Act requires the SEC to revise its regulations to allow advertising of investment offerings provided that all of the investors are “accredited”. The SEC issues its proposed revisions on August 29, 2012. After a comment period, the final regulations will be adopted.
THE NEW SEC REGULATIONS
SEC will amend Rule 506 of Regulation D, which is one of a group of SEC Rules exempting private securities offerings from registration requirements. Under current law, a Rule 506 offering can include an unlimited number of “Accredited Investors” and up to 35 investors who are not “Accredited”. There are a variety of ways that in investor may qualify as “Accredited”, but the most common way is by satisfying thresholds of net worth (currently $1,000,000 excluding primary residence) or annual income (currently $200,000 individual, or $300,000 with spouse, in each of the two most recent years, with a reasonable expectation of continuity). A Rule 506 offering also requires that the sponsor file an informational form with the SEC, and that investors receive a Private Placement Memorandum (“PPM”), a detailed business plan with a series of important disclosures, disclaimers and warnings. And, of course, current law prohibited advertising or promotion of Rule 506 offerings to the general public.
To satisfy the requirements of the JOBS Act, SEC has proposed a new Rule 506(c) under which the investment offering could be marketed, and investors solicited, through general advertising and marketing. To qualify to advertise and offering under Rule 506(c), the investment group must be limited to “Accredited Investors”, and the project sponsor must reasonable steps to verify that each investor satisfies the accreditation requirements. SEC has suggested a variety of methods of verification depending on the basis through which the investor claims to be “Accredited”. Other current requirements for a Rule 506 offering, including preparing a PPM and filing a form with SEC, would continue to be required.
(Read The Full Text of the SEC Proposed Regulations).
ABOUT THE AUTHOR
D. Andrew Sirkin is a recognized expert in fractional ownership and other co-ownership arrangements including shared vacation homes, TICs, equity sharing, co-housing, and legal subdivisions such as condominiums. His practice areas include transaction planning, offering materials, co-ownership agreements and CC&Rs, entity formations, regulatory approvals, fractional lending and mediation. From offices in San Francisco California, Evergreen Colorado, and Paris France, he has worked on projects all over the World, including most U.S. States, as well as Italy, France, Spain, Portugal, Ireland, Argentina, Nicaragua, Costa Rica, Panama, Dominican Republic, Nicaragua, Belize and Mexico. Since 1985, he has prepared fractional ownership documentation for over 6,000 clients. He is an accredited instructor with the California Department of Real Estate, and frequently conducts co-ownership workshops for attorneys, real estate agents, corporations, and prospective home buyers. He has written numerous articles on related topics, including "Securities Law Primer For Real Estate Professionals" and "TICs and 1031s", all of which are available at www.andysirkin.com. Mr. Sirkin can be contacted via email at DASirkin@earthlink.net. Mr. Sirkin can be reached by telephone at 415-738-8545.