At times it is folly to hasten at other times, to delay. The wise do everything in its proper time. - Ovid
A milestone was quietly missed Wednesday when the SEC didn’t announce a meeting to release proposed regulations for investment crowdfunding. By failing to announce a meeting by Wednesday the SEC is unlikely to be able to meet the statutory deadline for having a final rule in place by the end of the year. This is due to the various steps the SEC is legally required to follow, each of which require a certain amount of time (for a brief primer on the process the SEC has to go through see this post). While there are some ways the SEC could possibly shorten the process to make the deadline, none of them are likely, which leaves us with the disappointing realization that the dream of investment crowdfunding will be delayed.
But that does not mean that it will be denied, and while it would be ideal for the regulations to be done on time, allowing small businesses and small investors to begin crowdinvesting, it is better for the SEC to be late and get it right than be on time and get it wrong, because if they get it wrong small businesses and investors could find themselves in a position where they have to deal with even greater delays and confusion down the road.
You may be asking yourself “Hey dummy, isn’t the fact that they don’t have rules the source of delay? Once the rules are out we are ready to go, right?” And my answer would be: not necessarily, and please don’t call me dummy. As we are starting to see in the context of the recently released proposed 506(c) regulations, there is a real danger that proposed rules can be delayed, side tracked, or set aside if they are not sufficiently thorough and if the SEC is perceived to have not done the necessary analysis.
For those of you who haven’t been following the new Rule 506(c) regulations that were spawned by Title II of the JOBS act, they are supposed to lift the ban on general solicitation in accredited-investor-only Regulation D raises. To help protect investors, the law specified that the issuer of a security needed to take reasonable steps to determine that the investors are all accredited, using methods determined by the SEC. The regulations the SEC put out in response were a bit…minimalist, with the SEC deciding not to even give a non-exclusive list of methods it considered reasonable for determining accreditation status.
While some groups, including the American Bar Association (pdf), are just fine with that approach, others have a problem with it, including some powerful Senators (pdf) and investor advocacy organizations who fear that the SEC has not created sufficient investor protection requirements to prevent unaccredited investors from being swept up in scams. These groups have asked the SEC to withdraw the proposed regulation and create a new one, and there have been talks of lawsuits to get the rule set aside on the grounds that the SEC has failed to do sufficient economic analysis, a strategy has been used successfully in the past by parties opposed to other SEC regulations. If this happens, all the folks who want to participate in 506(c) deals will have to wait for the SEC to redo the rules, put them back out for comment, finalize the rules, let them sit in the Federal Register and then finally begin. It might have been quicker if the SEC had taken an extra month or two to address all the concerns of potential opponents
If the SEC is vulnerable on 506(c), which while important is also just modifying something that has existed for a while, how much more vulnerable must the Staff and Commissioners feel with regard to investment crowdfunding, something for which there is no real precedent to point to or use to as a basis for economic analysis? I wouldn’t be surprised if a large part of the delay is from the SEC doing and checking and rechecking the economic analysis for the proposed rule, weighing the costs and benefits of every bit of investor protection, and drafting and redrafting provisions to make them as airtight and litigation proof as possible. Of course, if it comes to that, the lawyers and economists who may be pulled off crowdfunding to redo 506(c) won’t help matters either.
This delay stinks, but if it leads to a stronger, better, more reliable rule, a rule that won’t be set aside by the courts or undone by legislation a year in, throwing the market into limbo, then it will be worth it. In the mean time we can keep commenting on ways to make crowdfunding safe and effective, be thinking about how we will participate (without making an offer for the sale of securities), and keeping the words of a guy named Thomas Jefferson, maybe you heard of him, in our minds when he said: “Delay is preferable to error.”