Private Secondary Markets

Sept. 4, 2024
Private secondary markets icon small

Startups and other companies that raise capital via exempt offerings—sometimes referred to as private offerings—issue securities to investors that are often illiquid. Unlike securities of publicly traded companies, securities of privately held companies may not be freely traded by investors.

The transactions or markets where investors sell these securities to other investors are called private secondary transactions or private secondary markets.

What do I need to consider before engaging in a private secondary transaction?

  • Do my securities have federal securities law restrictions?

    Generally, depending on how the securities are sold initially, the securities may be deemed restricted. This can include securities purchased from the company or in a secondary transaction from an affiliate of the issuer. Restricted securities are not freely tradeable and typically bear a “restrictive” legend that notes the resale limitations of the securities.

    Some examples of restricted securities include securities acquired in:

    Some examples of securities that are not deemed “restricted” include securities acquired in:

  • What federal pathways are frequently used by smaller business investors to sell their securities and how do those pathways overlap with state requirements?

    There are several federal exemptions available for small business investors to sell their securities in a private secondary transaction.

    If an investor’s offering meets the requirements of one of the following exemptions, that resale offering still needs to be registered or meet an exemption under state securities laws, unless the issuer of the security is a reporting company. In addition, state securities regulators have authority to investigate and bring enforcement actions for fraud, impose state notice filing requirements, and collect state fees.

Section 4(a)(1) is a commonly used exemption for the resale of securities by any person other than an issuer, underwriter, or dealer.

Some investors structure their resale transactions based on practices that have been developed through case law. Any such offerings would need to comply with the requirements of this or another available exemption.

Rule 144 provides one pathway for the resale of restricted securities. Depending on whether the issuer is a reporting company and whether the investor is an affiliate, the rule has conditions on the length of time the securities must be held, the way in which they are sold, and the amount that can be sold at any one time.

Broker-dealers may rely on the Section 4(a)(3) exemption. This exemption is for transactions by a dealer that is not acting as an underwriter, which includes any person who bought the securities with a view to distribute them. This exemption is not available for the resale of restricted or control securities.

If an investor’s offering meets the requirements of one of the following exemptions, that resale offering is not required to be registered or qualified by state securities regulators. State securities regulators, however, have the authority to investigate and bring enforcement actions for fraud, impose state notice filing requirements, and collect state fees.

Broker-dealers often rely on the Section 4(a)(4) exemption. This exemption is for the broker’s part of a transaction that executes an unsolicited customer order in the market. It is not available when the broker knows or has reasonable grounds to believe that the selling customer’s part of the transaction is not exempt from registration.

Section 4(a)(7) provides one pathway for the resale of restricted securities. The exemption has several conditions, including limitations on the types of purchasers and the way in which the securities are sold, as well as information that must be provided to prospective purchasers.

This resource represents the views of the staff of the Office of the Advocate for Small Business Capital Formation. It is not a rule, regulation, or statement of the Securities and Exchange Commission (“Commission”).  The Commission has neither approved nor disapproved its content. This resource, like all staff statements, has no legal force or effect: it does not alter or amend applicable law, and it creates no new or additional obligations for any person. This resource does not provide legal advice. This resource was produced and disseminated at U.S. taxpayer expense.

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Last Reviewed or Updated: Sept. 19, 2024