Key Takeaways

  • Nonaccredited investors are individuals who do not meet SEC income or net worth thresholds.
  • The JOBS Act and Regulation Crowdfunding enable limited fundraising from nonaccredited investors.
  • Legal compliance is critical to avoid regulatory penalties, especially regarding disclosures and limitations.
  • Rule 504, Rule 506(b), and intrastate exemptions are common legal paths used in these offerings.
  • Equity crowdfunding is increasingly popular but comes with specific annual caps and investor limits.
  • Companies should weigh the costs of compliance and potential risks when accepting funds from nonaccredited investors.
  • Legal counsel is strongly recommended for ensuring securities law compliance.

What Is a Nonaccredited Investor?

A nonaccredited or unaccredited investor is an investor who does not meet the income or net worth requirements set by the Securities and Exchange Commission (SEC). Currently, an accredited investor is an individual with a net worth of at least $1 million or an income of more than $200,000 annually, or $300,000 combined with a spouse.

Nonaccredited investors have less than $1 million in assets, outside of their primary residence, and an annual income below $200,000. They make up the clear majority of potential investors.

The SEC limits investment choices for unaccredited investors to protect people from getting into investments over their heads. Private funds and hedge funds for accredited investors have fewer SEC controls because it's assumed the parties know the risks involved.

Private investments can be offered to nonaccredited investors if they meet an exemption, such as being a company employee. Before the passage of the 2012 Jumpstart Our Business Startups (JOBS) Act, those wanting to raise capital were usually limited to 35 unaccredited investors in the pool.

The JOBS Act eliminated minimum income and net worth thresholds. That was designed to open crowdfund investing in private equities to a huge new market.

Six Important Facts About the JOBS Act

  1. On May 16, 2016, Title III of the JOBS Act expanded the capabilities of equity crowdfunding, allowing nonaccredited investors to privately invest in companies for the first time since the Great Depression. It allowed new opportunities for investors and a larger pool of potential funding for new companies. Transactions are handled by a broker-dealer or through a funding portal.
  2. Fundraising cycles are shorter. The SEC capped the amount a company can receive in a year. A company looking to raise more than $1 million through unaccredited investors will have to start the cycle every year.
  3. Investments are limited. The SEC allows investors to make less than $100,000 per year to invest $2,000, or 5 percent of their annual income, in equity crowdfunding. Investors making more than $100,000 can invest up to 10 percent of their income but no more than $100,000 per year.
  4. Portal offerings are patrolled. The investing platforms approved by the SEC are required to contain a variety of resources to help nonaccredited investors make informed decisions about their investments. That includes investment guides and all the documents a company is required to disclose.
  5. There are regulations on resales. Nonaccredited investors must wait at least a year to sell their shares unless they sell them to an accredited investor.
  6. Companies must disclose a great deal of information to seek crowdfunding, including:
  • Price to the public of the securities
  • The target offering amount
  • The deadline to reach the target offering
  • A discussion of the company's financial condition
  • Detailed financial statements

Raising Money From Nonaccredited Investors

Registering shares of stock with the SEC can be too big of an undertaking in terms of time and resources for many young companies. Many rely on an exemption from SEC registration.

The challenge is that each state has its own rules about issuing stocks without registration, so the SEC allows companies to override state requirements under certain criteria. One is to restrict the offer to accredited investors. To include nonaccredited investors, companies have to offer detailed disclosure documents.

Many startups shy from this because the disclosure documents can be costly to prepare. The SEC has another workaround in this case. If the finance offering is less than $1 million, unaccredited investors can participate without the full offering-style disclosure.

The offering would still have to comply with state securities laws, often called blue sky laws. It must be within the state of residence of the investors, not the company. So legal research is necessary to determine the requirements in each potential state of every nonaccredited investor.

Also, all documents provided to prospective investors must be accurate and not misleading, or they could be subject to the anti-fraud provisions of the Exchange Act of 1934.

The result is that many companies find the professional fees required to raise money from nonaccredited investors prohibitive. Most early-stage companies exclude nonaccredited investors from fundraising.

Common SEC Exemptions for Raising Money From Nonaccredited Investors

The SEC provides several exemptions that allow companies to raise capital from nonaccredited investors without registering securities. These exemptions come with detailed compliance obligations, but they open doors to alternative fundraising channels:

  • Rule 504 of Regulation D: Allows companies to raise up to $10 million in a 12-month period. It permits general solicitation under certain conditions, but requires compliance with state securities laws, often referred to as “blue sky” laws.
  • Rule 506(b) of Regulation D: Permits up to 35 nonaccredited investors if they are sophisticated—meaning they have sufficient knowledge and experience to evaluate investment risks. General solicitation is not allowed under this exemption.
  • Regulation Crowdfunding (Reg CF): Enables companies to raise up to approximately $5 million per year from both accredited and nonaccredited investors via SEC-registered funding portals.
  • Intrastate Exemption (Rule 147 and 147A): Useful if all investors and the business are located within one state. The offering must comply with the state’s specific regulations and cannot be advertised out-of-state.
  • Regulation A+ (Tier 1 and Tier 2): Offers a broader exemption, with Tier 2 allowing up to $75 million in capital raising, though it involves heightened disclosure and compliance obligations.

These options vary significantly in terms of costs, filing requirements, and ongoing reporting obligations, making legal guidance essential when selecting the right exemption.

Risks and Challenges When Accepting Funds From Nonaccredited Investors

While access to a broader investor pool may be appealing, raising money from nonaccredited investors carries several risks:

  • Regulatory Noncompliance: Failing to follow SEC or state guidelines can result in enforcement actions, rescission rights, or civil penalties.
  • Investor Suitability: Companies must ensure nonaccredited investors are properly informed and capable of understanding investment risks.
  • Disclosure Burden: Even under exemptions, companies must provide detailed financial and operational disclosures to avoid fraud claims.
  • Limitations on Resale: Securities purchased by nonaccredited investors are generally restricted from resale for at least 12 months.
  • High Legal and Accounting Costs: Preparing compliant disclosure documents and financial statements can be costly and complex.
  • Dilution and Investor Management: Taking funds from many small investors can complicate cap table management and future financing rounds.

Despite these challenges, some companies successfully use these methods—particularly those with compelling missions, strong local support, or unique business models suited for community investment.

How to Structure a Compliant Offering to Nonaccredited Investors

To ensure compliance and minimize liability, companies raising funds from nonaccredited investors should follow these steps:

  1. Choose the Right Exemption: Identify which SEC exemption fits your capital needs and investor base.
  2. Develop Disclosure Materials: Provide investors with a detailed private placement memorandum (PPM) or offering circular explaining the business, risks, and financials.
  3. Use a Registered Portal (if crowdfunding): If using Regulation Crowdfunding, conduct the offering through a registered broker-dealer or funding portal.
  4. Limit Investor Communications: Avoid general solicitation unless the exemption allows it; communications must be factual and not misleading.
  5. Verify Investor Eligibility and Limits: Ensure nonaccredited investors are within the financial investment caps based on their income and net worth.
  6. Comply With State Blue Sky Laws: Research and adhere to state-specific filing requirements for each investor’s state of residence.
  7. Maintain Accurate Records: Keep documentation on investor communications, subscription agreements, and all disclosures provided.

Companies should engage legal counsel early in the fundraising process to avoid compliance pitfalls and ensure smooth execution.

Alternatives to Raising Money From Nonaccredited Investors

Given the regulatory and financial burden of accepting funds from nonaccredited investors, some startups consider alternative options, including:

  • Friends and Family Rounds (Under Rule 506(b)): While legally permissible, even these must be approached with caution. Proper disclosures and filings may still be required.
  • Convertible Notes or SAFEs for Accredited Investors Only: These instruments simplify early-stage financing while limiting securities law exposure.
  • Accelerators or Incubators: Many programs provide funding along with mentorship, often without the complications of broad investor participation.
  • Grants and Competitions: Non-dilutive capital can come from government programs, foundations, or pitch competitions.
  • Revenue-Based Financing: Offers capital in exchange for a percentage of future revenues instead of equity, sidestepping SEC registration.

These alternatives may help companies raise early funds more efficiently while preparing for broader offerings down the line.

Frequently Asked Questions

  1. Can a company legally raise funds from nonaccredited investors?
    Yes, but only under specific SEC exemptions like Rule 504, Rule 506(b), or Regulation Crowdfunding, which impose limitations and disclosure obligations.
  2. How much can I raise from nonaccredited investors?
    The amount varies by exemption. For example, Regulation Crowdfunding currently allows up to $5 million in a 12-month period.
  3. What disclosures are required when raising money from nonaccredited investors?
    Companies must disclose financial statements, the business plan, use of proceeds, risk factors, and other material facts, particularly under Regulation Crowdfunding.
  4. Do nonaccredited investors need to be “sophisticated”?
    Yes, under Rule 506(b), they must have sufficient financial knowledge to understand the investment or be advised by someone who does.
  5. Can nonaccredited investors sell their shares quickly?
    Typically not. There is usually a one-year holding period before shares can be resold, and liquidity is limited.

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