On July 10, 2013, the SEC adopted amendments to Rules 501 and 506, as required under Section 926 of the Dodd-Frank Act, prohibiting felons and so-called "bad actors" from participating in Rule 506 offerings of securities. The disqualification of bad actors will largely resemble the disqualification of bad actors in Regulation A, a registration exemption for smaller securities offerings.
Under the final disqualification rule, issuers will not be able to rely on the Rule 506 exemption if the issuer or other "covered persons" have a "disqualifying event."
Covered persons include:
- the issuer, its predecessors and affiliated issuers
- the issuer's directors, some officers, general partners and some managers
- beneficial owners of 20% or greater of the issuer
- investment managers and principals of pooled investment funds
- persons compensated for their services in soliciting investors and the general partners, directors, officers and managing members of such compensated solicitor
A disqualifying event includes:
criminal convictions that took place within 10 years of the proposed sale of securities (or five years of the proposed sale of securities in the case of the issuer and its predecessor or affiliated issuers) or a court injunction or restraining order occurring within five years of the proposed sale of securities, all in connection with:
- a false filing with the SEC
- the conduct of some financial intermediaries
- the purchase or sale of a security
a final order from various federal and state regulators of securities, banking, savings associations, credit unions and insurance that:
- prohibits the issuer from association with a regulated entity, from the business of securities, insurance, banking, savings associations or credit union activities
- prohibits fraudulent, manipulative or deceptive conduct and was issued within 10 years of the proposed sale of securities
- certain disciplinary orders, cease and desist orders or stop orders issued by the SEC relating to certain securities parties, violations of federal securities laws, anti-fraud provisions and registration requirements, or suspending the Regulation A exemption within five years of the proposed sale of securities
- self-regulatory organization membership suspension or expulsion, or the same with respect to association with a self-regulatory member
- the issue of a United States Postal Service false representation order within the five years preceding the proposed sale of securities
Only disqualifying events occurring after the effective date of the adopted rules will disqualify the issuer from the Rule 506 exemption. However, events that would be classified as disqualifying events, except for having occurred before the effective date of the adopted rules, must be disclosed to investors.
The SEC also adopted an exception to the disqualification from Rule 506 where the issuer can establish that it was not aware, and in the exercise of reasonable care could not have been aware, that a covered person with a disqualifying event participated in the offering. The reasonable care standard that each issuer should undertake will vary based upon the specific facts of the offering and the issuer's unique traits, though at least a factual inquiry of covered persons may be required to fulfill the reasonable care standard. Issuers must include a certification in the Form D that it is not disqualified from relying on Rule 506 due to a disqualifying event.
The Rule 506 exemption amendments will become effective 60 days after publication in the Federal Register.
SEC Adopted Amendments: