Seeking initial company funding through friends and family is a popular strategy. You need startup cash and you're cool handing over some company shares to a willing investor - sounds easy! However, many founders are unaware that raising money in this fashion implicates Federal Securities Regulations under the Securities and Exchange Commission (SEC), or how to comply with those rules. That's a mouthful, but here are some basics:
Generally, taking a cash investment in exchange for equity in your company creates a security, which must either be registered with the SEC or qualify under one of the exemptions to registration. Security registration can be a long and expensive process, so most start-ups seek to fall under an exemption when raising money.
One common exemption is to raise capital from an accredited investor, which include individuals with a net worth of over $1 million or an annual income greater than $200K. So if your investor meets this criteria, a security registration may not be necessary. Other exemptions are also available, including for investors who are actively involved in the operations of the company. However, even when using these exemptions, official forms may need to be filed with the SEC.
So, whenever you take an investment or give someone equity in your company, you should always consult with an attorney to ensure you structure the investment properly and are in compliance with all regulations.
This blog is for informational purposes only and should not be relied upon as legal advice.