How To Operate A Title II Portal And A Title III Portal On The Same Platform

crainsMost Title II and Title IV portals will also want to operate Title III portals, and vice versa. Can they do it?

The Title III regulations issued by the SEC appear to contemplate that a Title III portal – a “funding portal” – will do more than operate a Title III portal. For example, 17 CFR §227.401 provides that “A funding portal. . . .is exempt from the broker registration requirements of section 15(a)(1) of the Exchange Act in connection with its activities as a funding portal.” If a Title III portal couldn’t do anything else, that extra language at the end wouldn’t be necessary.

The same is true for of the regulations issued by FINRA. FINRA prohibits Funding Portals from making false or exaggerated claims, implying that past performance will recur, claiming that FINRA itself has blessed an offering, or engaging in other misconduct, but a well-behaved Title II or Title IV portal would have no trouble meeting those standards.

What about the platform itself? The Title III regulations (17 CFR §227.300(c)(4)) define “platform” as:

A program or application accessible via the Internet or other similar electronic communication medium through which a registered broker or a registered funding portal acts as an intermediary in a transaction involving the offer or sale of securities in reliance on section 4(a)(6) of the Securities Act.

Nothing there would prohibit Title II, Title III, and title IV securities from appearing on the same website.

The fly in the ointment is 17 CFR §227.300(c)(2)(ii), which provides that a Title III portal may not:

  • Offer investment advice or recommendations; OR
  • Solicit purchases, sales or offers to buy the securities displayed on its platform.

What does that mean, in the context of a portal offering both Title II and Title III securities? What it should mean is that a Title III portal cannot offer investment advice or recommendations concerning Title III securities, and cannot solicit purchases, sales, or offers of Title III securities. The idea of Title III is to protect Title III investors. Why should the SEC care whether the portal is offering investment advice concerning Title II or Title IV securities?

But we can’t be 100% sure that’s what it means. If it means that a Title III portal can’t offer investment advice about any securities and can’t solicit offers to buy any securities, then we need to steer clear.

I’ve spoken informally with the SEC and they’re not sure how to interpret 17 CFR §227.300(c)(2)(ii). They suggested I submit a request for a no-action ruling and I guess I will, unless one of my Crowdfunding colleagues already has.

Pending that guidance, there are several ways to operate a Title II portal, a Title III portal, and a Title IV portal on the same platform:

  • Operate the portals through a single legal entity. Avoid giving investment advice to anybody or soliciting purchases, sales, or offers of any securities.
  • Operate the portals through one legal entity. If you want to offer investment advice and/or actively solicit, do it through or more additional legal entities. For now, limit the investment advice and active solicitation to Title II and Title IV securities.
  • Create a separate legal entity to hold the Title III license. Create an arm’s length license agreement between that entity and the entity that owns the platform (a simple downloadable form is here). List all the deals on the same platform, but make sure that when an investor clicks on a Title III deal the Title III portal handles the investment process.

Finally, FINRA is a wonderful organization, but I’m not necessarily eager to have FINRA looking at everything my clients do. All other things being equal, I might choose option #3 just to keep a degree of separation between the regulated entity and my non-regulated activities. But that’s not necessarily the end of it – FINRA will want to explore the relationship between the funding portal and its affiliates.

Questions? Let me know.

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2 thoughts on “How To Operate A Title II Portal And A Title III Portal On The Same Platform

  1. Ivan June 1, 2016 at 11:18 pm Reply

    Hi Mark, this is such an interesting topic I’ve come back to reread this article several times already. I’m wondering if you would choose option 3 above, then would the entity operating the Title II platform need to be registered as BD or IA? What about common control? Even using a license agreement,(link above not working) what happens if they are both under common control?

    • crowdfundattny June 2, 2016 at 1:24 pm Reply

      No problem to have them under common control.

      The Title II entity stands on its own. Whether it has to register as an Investment Adviser or Broker-Dealer depends on its business model.

      Did you look at the recent post with the diagram of a Crowdfunding business?

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