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<\/p>\n\nMost startups rely on Rule 701 to issue employee equity. It’s a federal exemption that allows private companies to issue up to $10M in equity to employees, without extensive disclosures. Rule 701 is friendly to startups and small companies who want to issue equity but can’t afford expensive accountants or lawyers. <\/p>\n\n
Rule 701 was recently updated. We’ll walk through the changes and break down the mechanics of the exemption in detail.<\/p>\n\n
The Economic Growth, Regulatory Relief, and Consumer Protection Act of 2018 mandated that the SEC revise Rule 701(e) to increase the threshold from $5M to $10M on aggregate securities sales during a consecutive 12-month period. Basically, private companies can now issue up to $10M of securities to employees without extensive disclosures. <\/p>\n\n
The higher limit means fewer companies will be subject to the additional disclosure requirements. Preparing additional disclosures is complex and the change will save a lot of time and money.<\/p>\n\n
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There are two methodologies for calculating the 12-month window. It can either be on a rolling 12 month basis or a fixed basis from a certain date. Once a company chooses to use one methodology, they are required to stick with it going forward. <\/p>\n\n
Most companies align the 12-month period to their fiscal year. However, if a company is issuing a lot of securities at a certain time of year (because of bonus structures or cohort hiring), it may make sense to structure the 12-months so the large batch of securities is split across two periods. <\/p>\n\n
Your outside counsel can give you advice about the best way to structure your grants. If your company is close to the $10M threshold, it’s important to plan equity issuance carefully if you want to avoid triggering additional disclosures. Carta has tools<\/a> to help you measure your Rule 701 tally in real time and to run a Rule 701 compliance check every time you issue equity.<\/p>\n\n The effective date of the SEC action was July 23, 2018. Companies relying on Rule 701 that already issued securities in their 12-month period can retroactively apply the new $10M disclosure threshold to all securities issued in that period.<\/p>\n\nWhen does the Rule 701 change take effect?<\/h3>\n\n