The Securities and Exchange Commission (SEC) is the federal agency that enforces U.S. securities laws, and its rules reach private startups as well as public companies. For most private companies, staying on the SEC’s good side means selling stock, SAFEs and other securities only under a valid exemption, filing a Form D when required, avoiding misleading statements to investors and using only properly registered intermediaries. Active traders and funds have their own obligations, including the large trader rule and Form 13H.
Many founders assume the SEC only cares about public companies. In fact, every sale of a security, including a friends-and-family round or a SAFE, is subject to federal securities law. Here is what private companies and active market participants should know.
What the SEC Does
The SEC’s mission is to protect investors, maintain fair, orderly and efficient markets, and facilitate capital formation. It administers the main federal securities statutes, including the Securities Act of 1933, which governs offers and sales of securities, and the Securities Exchange Act of 1934, which governs trading, public company reporting, broker-dealers and exchanges. The SEC writes rules, reviews filings, examines regulated firms and brings civil enforcement actions.
Private Companies: Every Offering Needs an Exemption
Under the Securities Act, every offer or sale of securities must be registered with the SEC or qualify for an exemption. Startups almost always rely on exemptions, most commonly:
- Rule 506(b) of Regulation D, which allows unlimited capital from accredited investors (and a limited number of sophisticated non-accredited investors with specified disclosure), but prohibits general solicitation.
- Rule 506(c), which permits general solicitation if all purchasers are accredited and the company takes reasonable steps to verify their status.
- Regulation Crowdfunding, which allows smaller raises from the public through a registered funding portal or broker-dealer.
- Regulation A, a more involved “mini-IPO” process with SEC qualification.
- Rule 701, which covers equity compensation to employees, directors and consultants under written plans, subject to limits and disclosure requirements.
Companies relying on Regulation D generally must file a Form D with the SEC within 15 days after the first sale, and state notice filings may also be required. Our posts on raising capital without registering with the SEC and what a Form D is cover these exemptions in more detail.
Anti-Fraud Rules Apply to Everyone
An exemption from registration is not an exemption from the anti-fraud rules. Rule 10b-5 under the Exchange Act prohibits material misstatements and omissions in connection with buying or selling any security, including in a private round. Pitch decks, investor updates and financial projections should be accurate, have a reasonable basis and disclose material risks. Overstating revenue, customers or technology can lead to SEC enforcement and investor lawsuits, even for private companies.
Using Finders and Intermediaries
Paying someone a commission or success fee for introducing investors can raise broker-dealer registration issues. A company that pays an unregistered person transaction-based compensation for selling its securities may face investor rescission claims and regulatory risk. Founders should be cautious about “finder” arrangements and confirm the intermediary’s registration status before agreeing to pay a percentage of funds raised.
When a Private Company Must Register
Under Section 12(g) of the Exchange Act, a company with total assets above a set threshold and a class of equity securities held of record by more than a specified number of holders must register with the SEC and begin public reporting, even without an IPO. The thresholds, as revised by the JOBS Act, count accredited and non-accredited holders differently, and holders who received securities under employee compensation plans are generally excluded. Fast-growing companies with many employee or crowdfunding holders should monitor their holder counts.
Public Companies: Ongoing Reporting
Public companies file annual reports on Form 10-K with audited financial statements, quarterly reports on Form 10-Q and current reports on Form 8-K for significant events. They must maintain internal controls over financial reporting and follow rules on insider trading, disclosure of material information and executive compensation. Organized records and clear disclosure controls reduce the risk of restatements and enforcement inquiries.
Large Traders: Rule 13h-1 and Form 13H
The SEC adopted Rule 13h-1 under Section 13(h) of the Exchange Act to identify market participants who trade in large volumes. A “large trader” is a person, including an individual or entity, whose transactions in national market system (NMS) securities equal or exceed either of the identifying activity levels:
- 2 million shares or $20 million during any calendar day, or
- 20 million shares or $200 million during any calendar month.
Transactions in accounts the person controls are aggregated. A large trader must identify itself by filing Form 13H with the SEC, receives a large trader identification number, and must disclose that number to its broker-dealers. Ongoing filings include:
- Annual filings after the end of each calendar year.
- Amended filings after the end of a calendar quarter if the information previously filed has become inaccurate.
- Inactive status filings for traders who have not reached the activity levels during the prior full calendar year, and reactivation filings if they do again.
- Termination filings when the filer no longer needs to report.
Broker-dealers that carry large trader accounts have their own recordkeeping and reporting obligations. Form 13H is filed electronically, and the rule does not require that an attorney make the filing, although many traders and funds use counsel or compliance advisors to monitor thresholds and deadlines.
Practical Steps to Stay Compliant
- Identify the exemption before you offer any security, including SAFEs and convertible notes.
- Calendar Form D and state notice filing deadlines.
- Review investor materials for accuracy and appropriate risk disclosure.
- Avoid paying unregistered finders transaction-based fees.
- Track holders of record and employee equity grants.
- If you trade actively, monitor aggregate volume against the large trader thresholds.
The Takeaway
The SEC’s rules apply long before an IPO. Choosing the right exemption, making the required filings, telling investors the truth and using properly registered intermediaries will keep most private companies out of trouble. Active traders should also confirm whether Form 13H applies.
Frequently Asked Questions
Do private startups have to deal with the SEC?
Yes. Every sale of securities, including SAFEs and convertible notes, must be registered or exempt. Most startups rely on Regulation D or Rule 701 and must file a Form D when using Regulation D, and the anti-fraud rules apply to all offerings.
What is a large trader under SEC rules?
Under Rule 13h-1, a large trader is a person whose transactions in NMS securities reach 2 million shares or $20 million in a calendar day, or 20 million shares or $200 million in a calendar month. Large traders must file Form 13H and provide their identification number to their brokers.
Can a startup pay a finder to introduce investors?
It is risky. Paying transaction-based compensation to someone who is not a registered broker-dealer can create regulatory issues and give investors potential rescission rights. Review any finder arrangement before agreeing to it.
Does a Form 13H have to be filed by an attorney?
No. The rule does not require an attorney to file. Many traders use counsel or compliance advisors to monitor thresholds and filing deadlines.
How Sutter Law Can Help
Sutter Law advises companies on business financing and securities compliance, including offering exemptions, Form D filings and investor documents. Contact us for a free consultation.
This article is general information, not legal advice. Reading it does not create an attorney-client relationship.
