In a settlement with a broker-dealer on July 22, 2021, the Financial Industry Regulatory Authority, Inc. (“FINRA”) fined a broker-dealer for selling a private placement under Rule 506(b) of Reg D “without having established pre-existing, substantive relationships with the offerees prior to participating in those offerings. As a result, each of those sales constituted an unregistered distribution of securities in contravention of Section 5 of the Securities Act of 1933, and, thereby, violated FINRA Rule 2010.” In other words, to meet the requirement that there be no general solicitation, a “pre-existing, substantive relationship” must be established with each investor prior to it participating in the offering. It is worth quoting FINRA from the settlement:
The [Securities and Exchange Commission] has issued guidance that a broker-dealer, acting on behalf of an issuer, can demonstrate the absence of general solicitation under Rule 502(c) of Regulation D if it demonstrates that it has established a pre-existing, substantive relationship with a prospective investor. For example, a broker-dealer could establish a pre-existing,
substantive relationship with a prospective investor through a previous investment in
securities offered through the broker-dealer or through submission and approval of an
investor qualification questionnaire. The SEC has also issued guidance that “[a]
preexisting relationship is one . . . that was established through . . . a registered broker-dealer . . . prior to the registered broker-dealer[’s] . . . participation in the offering.”
In contrast, Rule 506(c) allows general solicitation but investors must all be accredited and must be reasonably determined to be so. The ruling may make Rule 506(c) a preferred route for private placements.