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SEC Division of Corporation Finance updates Rule 506 Compliance and Disclosure Interpretations

On December 4, 2013, the staff of the SEC’s Division of Corporation Finance issued new guidance regarding the “bad actor” disqualification provisions of Rule 506(d) of Regulation D under the Securities Act and the related disclosure requirements of Rule 506(e) through an update to its Securities Act Rules Compliance and Disclosure Interpretations (CDIs). Under Rule 506(d), issuers cannot rely on Rule 506 if the issuer, any affiliated issuer, or certain directors, officers or owners of the issuer have been subject to a disqualifying event. The new CDIs provide clarification to issuers seeking to comply with Rule 506(d). Some of the more significant CDIs relate to the following:

  • Timing. An issuer is generally required to determine if the bad actor disqualification applies any time it relies on Rule 506 to offer or sell securities. An issuer that is not offering securities, such as a fund that is winding down and closed to investment, need not determine whether Rule 506(d) applies unless it commences a Rule 506 offering. Issuers may reasonably rely on a covered person’s agreement to provide notice of a potential or actual bad actor triggering event that may cause disqualification.

  • Placement Agents. If a placement agent or one of its covered control persons becomes subject to a disqualifying event while an offering is ongoing, the issuer may continue to rely on Rule 506 if the issuer terminates its engagement with the placement agent and the placement agent does not receive any compensation for any future sales in that offering. The issuer may also continue to rely on Rule 506 if the disqualifying event affects only a covered control person of the placement agent, if that person is terminated or ceases to perform a role with respect to the placement agent that would cause him or her to be a covered person with respect to the issuer for purposes of Rule 506(d).

  • Reasonable Care Exception. Rule 506(d) provides a reasonable care exception if the issuer can establish that it did not know, and despite the exercise of reasonable care could not have known, that a disqualification existed under Rule 506. The reasonable care exception may apply where, despite the exercise of reasonable care, the issuer was unable to determine the existence of a disqualifying event, was unable to determine that a particular person was a covered person, or initially reasonably determined that the person was not a covered person but subsequently learned that determination was incorrect.

    Source: Securities Act Rules Compliance and Disclosure Interpretations, available at: securitiesactrules-interps.htm. 

Copyright © 2020 Godfrey & Kahn S.C.National Law Review, Volume IV, Number 44


About this Author

Susan Hoaglund, Investment Management Attorney, Godfrey Kahn law firm

Susan Hoaglund is a member of the Investment Management Practice Group. Susan provides advice to investment advisers, investment companies, broker-dealers and banks regarding legal, regulatory and compliance matters.

Chris Cahlamer Investment Management Attorney

Chris Cahlamer is the team leader of the firm’s Investment Management Practice Group, where he practices in investment management and securities law, focusing on investment companies, investment advisers, regulatory examinations, new product development, SEC compliance and reporting obligations, CCO support, private fund formation and operation, investment company reorganizations, investment advisor mergers and acquisitions, and general corporate and board fiduciary issues.

Chris earned his law degree, summa cum laude, at Marquette University Law School. While there, he received the Corporate Practice Institute Award and served as senior articles editor on the Marquette Law Review. He completed his undergraduate education at St. Norbert College, graduating as a member of the honors program and earning his bachelor’s degree, summa cum laude, in international economics and political science.

Chris is a member of the State Bar of Wisconsin and the American Bar Association.

Carol A. Gehl, Securities Law Attorney, Godfrey and Kahn law firm

Carol Gehl is a shareholder and the team leader of the Securities Practice Group in the Milwaukee office.

Carol’s practice is focused on investment management entities, including mutual funds, hedge funds, investment advisers and broker-dealers throughout the nation. During the last number of years, Carol has facilitated the organization of numerous mutual funds, hedge funds and investment advisers; assisted in SEC and FINRA examinations of regulated entities; provided ongoing advice to mutual fund Boards of Directors; and assisted with several mergers of investment advisers and...