New Risks in Washington Private Securities Offerings

150 150 Karr Tuttle Campbell

In September 2008, the Washington Securities Division increased the risks of making private offerings in Washington State in reliance upon Rule 506 of Regulation D under the Securities Act of 1933. Rule 506 is the safe harbor from registration under federal and state securities laws that is used by most small businesses and others for raising  equity capital privately within the United States. Reliance upon Rule 506 is typically accompanied by the filing of a Form D, which is readily accessible by the public.

Originally designed to generate statistics to enable the Securities and Exchange Commission (SEC) to gauge the extent to which private and other limited offerings are a source of financing in the United States, a Form D acts as a notice to regulators and to the public that such an offering has occurred or is in progress. A Form D does not serve as a disclosure document to investors in the offering.

In 1989 the SEC eliminated the filing of a Form D under federal law as a condition to the availability of Rule 506 in private offerings, so that no such condition exists in the federal version of Rule 506 today. Unlike the SEC, Washington has retained as a condition to the availability of the Washington version of Rule 506 the requirement of filing a Form D in Washington and with the SEC before the lapse of 15 days from the date of first sale in the state. Absent another available exemption, any loss of the Rule 506 safe harbor would give investors in a private offering a right to sue in a private lawsuit for rescission of the investment, prejudgment interest and attorneys fees under the civil liability provisions of the Securities Act of Washington at any time  before Washington’s three-year statute of limitations has run,  irrespective of any enforcement restraint that regulators may exercise. A comment to the Washington Securities Division by a  Committee of the American Bar Association (ABA) urged the Division to take the opportunity in adopting the September regulation to conform the Washington approach to that of the SEC by rescinding that portion of the Washington Rule 506 regulation that conditions the availability of Washington’s Rule 506 upon the filing of a Form D.  However, the Division declined to do so, and that provision remains on the books today as part of Washington’s Rule 506 regulation.

Washington’s September regulation was promulgated in coordination with new electronic filing requirements for Form D under federal law. For the first time the Washington regulation requires that companies raising capital in reliance upon Rule 506 set forth the date of the first sale of the securities within the state of Washington in the Form D filing. If the date of first sale in Washington is not set forth in the Form  D, the safe harbor under Washington Rule 506 by its terms would fail. Also, setting forth the date of first sale in a Form D makes it particularly easy for disgruntled investors to track the Form D filing history and  assert failure of the Rule 506 safe harbor if there is the slightest failure to meet the Washington Form D filing deadline. A comment by the ABA Committee urging the SecuritiesDivision not to require separate disclosure of the date of first sale in the filing of a Form D in Washington was rejected by the Securities Division when it adopted the September regulation.

The SEC has a rule that provides flexibility for “inadvertent and immaterial” lapses in compliance with Rule 506, but no such flexibility exists as to Rule 506 under Washington’s comparable regulation. Indeed, the Washington September regulation included a very meticulously parsed provision tolling the 15-day deadline for filing a Form D until the next day if the deadline should fall on a weekend or holiday, which suggests that the intention behind the September regulation is that there be no flexibility for the Form D filing deadline and that it be strictly construed. Similarly, no “inadvertent and  immaterial” flexibility would exist if the Form D filed in Washington  should omit to set forth the date of first sale.

Historically, Rule 506 has been extensively used as a compliance tool by small businesses in private offerings in Washington, and with the current credit crunch, small businesses may increasingly seek to rely upon private offerings of securities to fund their operations. Although no Form D need be filed with the SEC in order for federal Rule 506 to be available, Washington’s Rule 506 will by its terms fail if for whatever reason the 15-day filing deadline is missed or the date of first sale in Washington is not included. And any such missed filing deadline or date of first sale omission will now be publicly available for anyone to see. Under some circumstances, the date of first sale and filing  deadline requirements could interact with one another to create a compliance dilemma, which might not be capable of being fixed. For  example, a re-filing after thedeadline has passed of a defective Form  D that omitted to set forth the date of first sale would jeopardize  reliance upon the Washington Rule, irrespective of any waiver of the  late filing by the Division (which might not be available in any event).  These new nuances should be at the top of the checklist for those who intend to rely upon Rule 506 in private securities offerings in  Washington in the future.

For more information on regulatory compliance for private and other securities offerings, please contact Mike Liles, Jr., at (206) 224-8068, moc.elttutrraknull@selilm, Walter M. Maas III at (206) 224-8076,  moc.elttutrraknull@saamw, Christian C. Weinmann at (206) 224-8128, moc.elttutrraknull@nnamniewc .




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