Waivers of Disqualification under Regulation A and Rules 505 and 506 of Regulation D
Oct. 12, 2017
Regulation A and Rule 505 of Regulation D
The disqualification provisions of Rules 262 and 505 under the Securities Act make the exemptions from registration under Regulation A and Rule 505 of Regulation D unavailable for an offering if, among other things, an issuer, any of its predecessors, or any affiliated issuer is subject to certain administrative orders, industry bars, an injunction involving certain securities law violations or specified criminal convictions. Disqualification also occurs if any of the issuer’s directors, officers, general partners, 10 percent beneficial owners of any class of the issuer’s equity securities, or promoters, underwriters, persons compensated for soliciting purchasers, or any of the underwriters’ or paid solicitors’ partners, directors, or officers, is subject to administrative orders, injunctions, associational bars or specified convictions. A Commission order to pay civil money penalties alone does not result in a disqualification from relying on Regulation A or Rule 505.
Rule 506 of Regulation D
Rule 506 of Regulation D under the Securities Act has disqualification provisions that are similar to those in Regulation A and Rule 505, but there are differences. For example, in Rule 506(d) one of the categories of covered persons includes beneficial owners of 20 percent or more of an issuer’s voting equity securities, whereas in Rule 262 of Regulation A and Rule 505 of Regulation D, the category includes beneficial owners of 10 percent or more of any class of the issuer’s equity securities. Another category of covered persons in Rule 506(d), but not in Rule 262 and Rule 505, includes any investment manager of an issuer that is a pooled investment fund and any director, executive officer, or other officer participating in the offering, of any such investment manager or general partner or managing member of such investment manager.
Although the disqualifying events in Rule 506(d) are also similar to disqualifying events in Regulation A, they are broader in certain respects. In addition to certain administrative orders, industry bars, injunctions involving securities law violations and specified criminal convictions covered under Regulation A and Rule 505, the disqualifying events in Rule 506(d) also include:
- Commission cease and desist orders involving scienter-based antifraud provisions of the federal securities laws and violations of Section 5 of the Securities Act; and
- final orders of certain state and federal regulatory authorities.
Factors Considered in Waiver Requests
The Commission may waive Regulation A or Regulation D disqualifications upon a showing of good cause that it is not necessary under the circumstances that the exemptions be denied. A waiver could include conditions or limitations. The Commission has delegated authority to grant these waivers to the Director of its Division of Corporation Finance. The Commission retains authority to consider waiver requests and review actions taken pursuant to this delegated authority.
The Division will consider, among other facts and circumstances, the factors below when it evaluates whether a party seeking a waiver has shown good cause that it is not necessary under the circumstances that the exemptions be denied. A waiver, which could include conditions or limitations, may be granted if a review of all the facts and circumstances leads the Division to determine that the waiver applicant has met its burden to show good cause and that it is not necessary under the circumstances that the exemptions be denied. In making this determination, the Division will consider the nature of the violation or conviction and whether it involved the offer and sale of securities. In addition, the Division will consider whether the conduct involved a criminal conviction or scienter based violation, as opposed to a civil or administrative non-scienter based violation. Where there is a criminal conviction or a scienter based violation involving the offer and sale of securities, the burden on the party seeking the waiver to show good cause that a waiver is justified would be significantly greater.
The Division also will consider the factors below when it evaluates a waiver request. No single factor is dispositive, and the burden will be on the waiver applicant to show good cause that it is not necessary under the circumstances that the exemptions be denied. The provisions from which the waiver applicant is disqualified are safe harbors that facilitate private or limited offerings of securities and investors in such offerings do not receive the benefits of the registration requirements of the Securities Act. Therefore, the focus of our analysis will be on how the identified misconduct bears on the applicant’s fitness to participate in these exempt offerings.
- Who Was Responsible for the Misconduct? Specifically, the Division would consider who was responsible for the misconduct and what role the bad actor or actors have or had with respect to the party seeking the waiver. For example, the Division would consider it a negative factor if the party seeking the waiver is the same as the party responsible for the misconduct or if an individual, such as an executive officer, director or control person, committed the misconduct and such individual continues to exert influence on the operations of the entity seeking the waiver. The Division would also consider whether the misconduct reflects more broadly on the entity as a whole. If warning signs were disregarded or the tone at the top of the party seeking the waiver condoned, encouraged or did not address the misconduct, or actions or omissions by the party seeking the waiver, or any of its affiliates, obstructed the regulatory or law enforcement investigation, then these factors would weigh against granting a waiver. Depending on the circumstances and the conduct at issue, if misconduct committed by one or more individuals resulted in the waiver applicant’s disqualification, and the applicant removes or terminates its association with those individuals, the Division would generally view such actions taken as favorable to the waiver request.
- What Was the Duration of the Misconduct? The Division would consider whether the misconduct occurred over an extended period or whether it was an isolated instance. If the misconduct was an isolated instance, then this factor would weigh favorably in the waiver determination. If the misconduct occurred over an extended period, then this factor would weigh negatively in the waiver consideration.
- What Remedial Steps Have Been Taken? The Division would consider what remedial measures the party seeking the waiver has taken to address the misconduct, when those remedial measures began, and whether those measures are likely to prevent a recurrence of the misconduct and mitigate the possibility of future violations. The Division would look at whether there were changes in the control of the party seeking the waiver or if the personnel involved in the misconduct remain employed by the party seeking the waiver. The Division also would look at whether the party seeking the waiver has taken steps to improve training or has made improvements to its policies, procedures or practices. The Division’s analysis of the importance of these remedial steps would focus on how they relate to the party’s ability to prevent future misconduct and harm to investors, clients or customers. Depending on the circumstances, the remedial steps undertaken by the party may support a conclusion that, despite the past violation, the party would be less likely to engage in future misconduct. On the other hand, if the conduct in question or similar conduct has happened on prior occasions, this may support a conclusion that the party would be more likely to engage in future misconduct.
- Impact if the Waiver is Denied. The Division would consider the severity of the impact on the issuer or third parties, such as investors, clients or customers, if the waiver request is not granted and weigh any such impact against the facts and circumstances relating to the misconduct to assess whether disqualification would be a disproportionate hardship in the light of the parties involved in, and the nature of, the misconduct. Applicants should submit information concerning whether or how often they have used the relevant exemption in the past, or how they plan to use the exemption in the future, and explain why a waiver is needed.
Parties seeking a waiver must submit a waiver request that includes appropriate justification, addressing the factors outlined above, describing why a waiver should be granted. The party seeking a waiver bears the burden of establishing such justification. The Division has asked in the past, and will continue to ask where appropriate, that the recipient of a waiver provide disclosure about the disqualifying event to investors a reasonable time before future sales occur in offerings made under Regulation A or Rules 505 or 506 of Regulation D.
Inquiries about waivers of disqualification under Regulation A and Regulation D should be directed to the Division’s Office of Small Business Policy at 202-551-3460.
 The Commission has the authority to order a variety of sanctions against certain regulated entities and persons, including censure, placing limitations on their activities, imposing civil money penalties, barring individuals from being associated with specified entities and from participating in the offering of any penny stock, and suspension or revocation of registration. See Release 33-9414 (July 10, 2013) [78 FR 44730, 44743] (July 24, 2013) (“Bad Actor Adopting Release”). When the Commission adopted the bad actor provisions of Rule 506(d) of Regulation D, it stated that the proposed rule was based on an established interpretative position under Regulation A that the disqualifying effect of a Commission disciplinary order continues only for as long as some act is prohibited or required to be performed pursuant to the Commission’s order (with the consequence that censures and orders to pay civil money penalties, assuming the penalties are paid in accordance with the order, are not disqualifying, and a disqualification based on a suspension or limitation of activities expires when the suspension or limitation expires). See footnote 156 and the accompanying text of the Bad Actor Adopting Release [78 FR 44743] (citing the Commission’s statements dating back to the 1980s, that “[in] those instances where persons are subject to orders containing no definite time limitations, the Commission has consistently taken the position that a person is subject to the order only so long as some act is being performed pursuant to such order; i.e. establishing procedures to assure appropriate supervision of salesmen and reporting on such procedures). The staff of the Division of Corporation Finance has taken the same view. See Release No. 33-6455, Question 66 (Mar. 3, 1983).
 Compare 17 CFR 230.506(d) with 17 CFR 230.262.
 These disqualifying events may involve a state or other regulatory authority imposing a bar from association with a regulated entity, engaging in the business of securities, insurance or banking, or engaging in savings association or credit union activities, or a final order based on a violation of any law or regulation that prohibits fraudulent, manipulative or deceptive conduct and is issued within 10 years of the proposed sale of securities. 17 CFR 230.506(d)(1)(iii).
 See Rule 30-(b)(1) and (c) of the Rules of Organization and Program Management Governing Delegations of Authority to the Director of the Division of Corporation Finance [17 CFR 200.30-1].
 The Commission identified other factors, such as a change of control, change of supervisory personnel, absence of notice and opportunity for hearing, and relief from a permanent bar for a person who does not intend to apply to reassociate with a regulated entity, that could, depending on the specific facts, be relevant to the evaluation of a waiver request. See Bad Actor Adopting Release at 78 FR 44748.
 The Supreme Court has defined “scienter” as “a mental state embracing intent to deceive, manipulate, or defraud.” See Ernst & Ernst v. Hochfelder, 425 U.S. 185, 194 n. 2 (1976).
 The fact that the misconduct did not involve the offer and sale of securities does not necessarily mean that a waiver will be granted. In addition, in considering this factor, the Division’s analysis is not limited to misconduct that involved a Regulation A or Regulation D offering; instead, the Division will consider whether the misconduct involved any offer and sale of securities.
 For purposes of this policy, whether the party seeking the waiver, or any of its affiliates, obstructed the investigation does not depend on the Division of Enforcement making a referral to a criminal authority, nor must the conduct meet all the elements of a criminal charge under 18 U.S.C.§§ 1501-1521. Staff will not regard legitimate and vigorous advocacy by parties or their attorneys to be “obstruction” or weigh against granting a waiver.