California real estate investors have many options when deciding where to put their money. This includes a real estate syndicate, in which investors contribute money to a real estate project under the management of a syndicator or sponsor. Since a real estate syndicate investment often involves buying ownership equity in a business entity, such as a limited partnership or limited liability company, state and federal securities laws may be a factor. In order to avoid inadvertent securities law violations, syndicators and investors alike should be aware of the general requirements and exemptions in laws like the federal Securities Act of 1933.
Securities Law Enforcement
Both federal and state laws define “securities” very broadly. In addition to stocks and bonds, the term also includes a variety of “investment contracts.” An investor in a real estate syndicate often entrusts their money to a syndicator, who will handle the actual operations of the syndicate. This type of investment is likely, in many cases, to be an “investment contract” within the meaning of state and federal laws.
At the state level, the California Department of Corporations (DOC) is responsible for enforcing securities laws. The Securities and Exchange Commission (SEC) handles federal securities enforcement. Anyone seeking to sell a security, possibly including an interest in a real estate syndicate, to the public must register with securities regulators. This can be a time-consuming and expensive process, as demonstrated by the overall rarity of companies “going public” by making an initial public offering (IPO) of stock to the public. State and federal laws provide exemptions to these rules, however.
State Exemptions for Real Estate Syndicates
Section 25102 of the California Corporations Code identifies multiple exemptions from the usual requirement of a permit from the DOC to offer a security for sale. One of these, found in subsection (f), may apply to real estate syndicates. This subsection exempts the offer or sale of a security if the total number of purchasers, both within California and out of state, does not exceed 35; the purchasers “have a preexisting personal or business relationship with the offeror” or “have the capacity to protect their own interests in connection with the transaction”; the purchasers intend to hold on to the security rather than reselling it; and the offer is not made via a published advertisement. The offeror must file a notice with the DOC, indicating its compliance with these requirements, in order to avoid a penalty.
Federal Exemptions – Regulation D
The exemptions from the registration requirements of federal securities laws are collectively known as “Regulation D,” found in Title 17 of the Code of Federal Regulations, beginning at § 230.500. An offeror claiming an exemption under Regulation D must file a notice, known as Form D, with the SEC before or at the time of their first sale.
The exemption provisions place restrictions on the total amount of capital sought from investors, the type of investors that may be involved, and the manner in which the offeror approaches investors. Regulation D generally prohibits public advertisements of offerings, but the SEC has relaxed these rules somewhat in recent years. Offerors may be able to solicit investors directly, provided that they meet the SEC’s definition of an “accredited investor.”
More Blog Posts:
When Is an Interest in a California Real Estate Syndicate a “Security” Under State and Federal Laws? Titles and Deeds, June 5, 2017
FINRA Arbitration of Disputes Related to Real Estate Syndicates, Titles and Deeds, May 2, 2017
Organizing a Real Estate Syndicate and Securities in California, Titles and Deeds, April 25, 2017