Receiving funding from non-accredited investors

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December 20, 2017

by a searcher from University of Texas at Austin

When funding a search or acquisition is there any increased liability from raising capital from non-accredited investors? (i.e. anyone who makes under $250k/year or less than $1M in net worth)

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Reply by a searcher
from University of Pennsylvania in Chicago, IL, USA
I'll let the lawyers weigh-in on this, but I can provide a few data points, since I got deep into this stuff when I was raising capital for a hedge fund in###-###-#### Basically, under Reg D of the Securities Act, there are three rules, 504, 505, and 506 that allow for unregistered, private offerings. Rule 504 allows an offering up to $1M to any type of investor with no specific disclosure requirements###-###-#### and 506 allow for some non-accredited, but there are additional requirements. One common sense aspect of all these rules is that any investor has to be of sufficient sophistication to evaluate the investment. Therein lies the problem... how do you objectively assess "sophistication". It can be argued one way or another. Obviously, accreditation is an objective way to measure sophistication, but paradoxically, wealth or high-income doesn't necessarily mean someone is sophisticated... but the reasoning is that they could afford to hire advisors to help. Lawyers in my experience have very divergent views on this topic - and fall in either the "no non-accredited investors under any circumstances camp" or the more moderate position of some non-accredited is ok, provided you meet all Federal and State requirements, and the non-accredited investor is sophisticated (has investing or business experience or education, etc.). I think non-accredited investors are fine, provided you know the people REALLY well, know that they aren't going to be in the poor house if the venture heads south, and have objective proof that they can analyze the investment (professional experience, MBA, whatever). So in my view, Yes, there is increased liability but it is manageable.
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Reply by a searcher
from New York University in Wilmington, NC, USA
I spoke with a lawyer about this a while back... he explained that a non-accredited investor has the right to sue if you lose their money, so why put yourself in that situation? Sure, if it's family/friends who you firmly believe would never sue, then maybe you have a case... If you really want to go the route of non-accreditation, consider this: a non-accredited investor could sign the accredited investor questionnaire as if they were actually accredited... then, from what I understand, your liability would disappear.
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