NC PACES ACT
The “North Carolina Providing Access to Capital for Entrepreneurs and Small business (NC PACES) Act” is a North Carolina state law that enables a new way to finance small business and startups in our state using investment crowdfunding.
The NC PACES Act was passed unanimously by the General Assembly and signed by the Governor in 2016. It went into effect with the publication of the rules by the North Carolina Securities Division of the Secretary of State’s office on April 1st, 2017
Investment crowdfunding has grown into into a significant source of funding in many areas of the national economy, including startup financing, small business lending, and various types of project financing. With PACES, everyone in North Carolina can participate in this growing opportunity.
Now any North Carolina resident can invest in a North Carolina startup or small business which creates a PACES compliant debt or equity offering.
A new or existing North Carolina business can raise up to $2M per offering with a North Carolina PACES Offering (NCPO), or up to $250K per offering with a Local Public Offering (LPO).
Investment crowdfunding has been growing significantly around the nation, with billions of dollars raised. Now it’s our turn North Carolina! It’s time to start investment crowdfunding our most promising North Carolina startups and small businesses to help grow the economy, create jobs, and enable new products and services in your community and all over our state.
Helpful NC PACES Act links
- NC PACES Act Rules Forms FAQs
- NC PACES Act Text (pdf)
- NC PACES Act Legislative History
NC PACES Act Frequently Asked Questions
Key Features and Benefits
Some additional FAQs about the new law can be found here.
What types of businesses can use the NC PACES Act?
Businesses ranging from tech startups to retail shops and restaurants can use the exemption. They just have to be registered to do business in North Carolina and the investors have to be North Carolina residents. Broadly, there will be two main categories:
High Growth Businesses
- Tech startups and other high growth businesses that are building company value and plan to have an exit strategy will be able to raise equity funding using convertible notes, SAFES, or preferred equity offerings.
Revenue Generating Businesses
- Existing businesses that already have a reasonable revenue stream will be able to borrow money using debt offerings like revenue share loans or traditional loans. Most of the small businesses in North Carolina fall into this category. Revenue share loans in particular have been very effective offerings for small businesses to use.
Why is NC PACES needed?
- Start-up companies and small business play a critical role in creating new jobs and growing the economy. The NC PACES Act crowdfunding legislation enables a new way of financing start-ups and small business in North Carolina.
What is NC PACES?
- NC PACES is a safe, fair, and easy-to-implement securities law exemption that enables this new type of financing for North Carolina small business and start-ups
The North Carolina exemption is similar to the federal Reg D 506(c) and Regulation CF financial offering exemptions which are used by thousands of start-ups and small businesses every year.
What is the Status of NC PACES?
- The NC PACES Act was passed unanimously in the North Carolina General Assembly and signed into law by the Governor in July 2016. The rules were published by the Secretary of State Securities Division on April 1st, 2017, and the law is now in effect.
What is new in NC PACES?
- The North Carolina model is similar to the existing equity and convertible debt offerings like Reg D 506(C), and allows debt offerings such as revenue share loans, but with a couple of new ideas allowed by the exemption:
- The exemption allows non-accredited North Carolina investors to buy equity or debt offerings from the North Carolina issuer provided the disclosure, reporting, registration, and limits described in the exemption are followed.
- The North Carolina issuer is allowed to promote the offering via the web or any other method provided the disclosure, reporting, registration, and limits described in the exemption are followed.
- That’s it. Very simple, and it’s a model that is well understood by the start-up investment and small business services community.
Where did NC PACES come from?
The investment crowdfunding model has been used successfully in the US, UK, Australia and elsewhere for the last 5+ years, and billions of dollars have been raised for startups and small businesses.
As of 2017 thirty six states have intrastate crowdfunding exemptions in place, and eight other states are in various stages of considering the idea.
NC PACES was created by the Secretary of State Securities Division regulators working together with state legislature sponsors, the North Carolina Commerce Department, an expert team of local entrepreneurs, investors and legal experts, and the State Bar Association Securities Committee.
Who Supports NC PACES?
- The start-up and small business community in North Carolina will benefit greatly from this new form of financing.
- For the first time, retail investors in North Carolina will have the opportunity to participate in the economic growth of their communities by investing limited amounts in start-ups and small business. This as a great way to help create and grow North Carolina companies and create jobs
What are the key features of NC PACES?
- The issuer must be a North Carolina business.
- The investor must be a North Carolina resident.
- Fundraising Cap: Within a 12-month period issuers may raise up to $1M without audited financials, or $2M with reviewed or audited financials.
- Investor Cap: Small investors may invest no more than $5000 per issuer, unless they are accredited.
- Intermediaries: Issuers may use a professional crowdfunding platform compliant with NC PACES, but it is not required for LPO offerings.
- Reporting: Quarterly reports must be provided to all investors discussing management compensation, operating results, and financial condition.
- Solicitation: Issuers are permitted to promote the offering publicly, after filing notice with the state securities regulatory agency.
- Communicating Risk: Issuers are required to communicate in writing the business plan, financials, use of funds, and risk factors of the offering. Investors are required to certify in writing by the time of sale that they understand the risks of unregistered securities and may lose their entire investment.
- The state regulators may pass additional rules as real-world usage merits.
What NC PACES is not:
- NC PACES is NOT a radical change to the North Carolina or Federal securities laws. It is similar to the very well understood and popular federal Reg D 506 offering method.
- Investment crowdfunding is also NOT like Kickstarter. Companies that raise money via investment crowdfunding have to thoroughly document their business model, financial targets, offering terms, how the investment may see a return, and more. Investors will choose whether or not to participate based on this and other information that is made publicly available during the fundraising process, providing for a high degree of transparency and accountability.
- NC PACES is NOT an expensive state government program. It is simply an exemption to allow a new type of securities offering which is regulated by the NC Secretary of State Securities Division as part of their normal activities. NC PACES does not require any funding from North Carolina taxpayers.
Is NC PACES Safe?
- The Act and the rules are designed to make these types of investments transparent and safe. The Act and the rules describe the disclosure requirements, reporting requirements, registration requirements, and limits that will make this exemption safe and fair for both North Carolina small business and North Carolina small investors.
- These protection requirements have been reviewed and enhanced by the North Carolina Secretary of State’s Securities Division, the NC Bar Association Securities Committee, and crowdfunding industry experts.
- Experience with investment crowdfunding sites in the US over the last 5 years show very limited fraud potential with these kinds of safeguards. Having the crowd examine the offerings actually creates a powerful barrier to fraud.
Can investors lose all their money?
- These are high risk investments and any investor could lose their money. However NC PACES has provisions to prevent excessive losses. Investors are limited to a $5000 max investment in an offering. Information about all offerings must be filed with state regulators. There will be a written contract between the issuer and the investor specifying all the terms and risks, and an escrow account that will allow the investment to be returned in case the minimum offering amount is not raised. Investors must explicitly confirm in writing that they understand the high risk nature of these investments.
- NC PACES allows any offering to attract both accredited investors to invest larger amounts, and non-accredited investors to invest up to $5000. Existing data from successful crowdfunding campaigns shows that most offerings have both types of investors.
How does the NC PACES Act compare to the Federal Jobs Act?
#1 – Easier
Intrastate investment crowdfunding using NC PACES is much easier for startups and small businesses to actually implement. The regulations on Federal Title III Regulation Crowdfunding that the SEC issued in 2015 are 865 pages long. The NC PACES Act contains all the necessary state regulations in a 10 page bill and several pages of rules.
#2 – Cheaper
- Raising money under the Federal JOBS Act national crowdfunding exemption is expected to be very expensive; some estimates suggest that as much as 15% to 20% of the money raised will go to “overhead” expenses rather than being used to grow the business.
There are several ways the NC PACES Exemption keeps costs down:
- Audited financials — which can be very expensive to produce — are not required if the issuing company is raising $1,000,000 or less. A company raising between $1,000,000 and $2,000,000 will typically have more operational history, and in these cases the cost of reviewed or audited financials is a reasonable burden.
- Crowdfunding website portals using Regulation Crowdfunding will face extensive costs to comply with the Federal regulations — and those costs will certainly be passed along to the companies that are fundraising.
- A North Carolina start-up or small business that wants to create an offering will still want to retain the services of a good North Carolina securities attorney to help implement the offering terms and documentation, a good accountant to help generate financial statements, and in most cases a good crowdfunding platform that is compliant with NC PACES. But because of standardization and simplicity, the cost of raising money should be in line with or even less than the cost of Reg D 506 type offerings.
#3 – Simpler
- The amount that can be invested by any non-accredited person is a flat $5,000.
- This is much more straightforward and safer than the national version which uses a sliding scale based on investor income or net worth — which could lead to a situation where startup companies are forced to handle highly sensitive financial information of potential investors in order to ensure that they do not lose their exemption.
#4 – Angel-Friendly
- Accredited investors are excluded from this $5,000 cap — they can invest as much as they choose.
- Where investment crowdfunding is already in use the data shows that most successful raises are accomplished through a combination of many small ($1,000 to $5,000) investments along with a few more substantial sums ($25,000 to $100,000), usually by a lead investor that is familiar with the business opportunity and has helped to negotiate the terms.
- In order to support this “80/20 rule” effect, a crowdfunding exemption must support both smaller non-accredited investors as well as more experienced “angel” investors.
- A company raising money should benefit from a mix of smaller and larger investors as well — your “team” has just grown to a whole new level as you can tap into a crowd of passionate supporters as well as some more experienced and connected investors.
- Having experienced lead investors participating in an offering is another form of protection for non-accredited investors. They can invest right along side of much more experienced investors.
How big is the investment crowdfunding opportunity?
- It’s big, and growing fast. See some of the latest statistics here.
- Forbes Magazine has reported that trends are showing crowdfunding will surpass traditional VC funding.
- Entrepreneur Magazine estimates that crowdfunding provided a $65 Billion boost to the worldwide economy.
- Investment crowdfunding is here to stay. This can be an important new source of start-up and small business financing in North Carolina which will help to create more jobs and put more investment dollars to work here in our state.
How will Crowdfunding Platforms support the NC PACES Act?
- Since the NC PACES Act has become law, internet investment crowdfunding platforms can support investment crowdfunding campaigns under this new legal exemption. These platforms can be North Carolina based platforms, or national platforms that are compliant with NC PACES and are registered to do business in North Carolina. Localstake NC is the first platform to open for business in North Carolina to support the PACES Act.
- The platforms want issuers to succeed in their fundraising, and provide tools and information to help increase the chances of success. The best platforms provide in-depth guidance and education based on industry best practices.
- Issuers can expect platforms to help ensure compliance with all requirements of the new law, including the dollar limits (per-investor and aggregate), the registration and disclosure requirements, and the rules limiting what businesses may use this exemption.
But many platforms go further, by helping to take care of compliance rules for issuers.
- Issuers must ensure that each investor is a resident of North Carolina. Verification is necessary to ensure that the issuer is in compliance.
- Each investor is required to certify in writing that they understand the risks and restrictions inherent in privately issued securities. This documentation must be collected, validated for completeness, and preserved for any future inquiries.
- After a successful fundraise it will be necessary to keep investors informed of the progress of the business on an ongoing basis. Platforms are expected to help with this process, keeping track of the “mailing list” so that entrepreneurs simply post their latest update and it is distributed to all who need it, and remains archived for their future reference.
- Crowdfunding platforms may have other unique features designed to help issuers raise money and help investors find appropriate investments. It is important, though, to make sure that the platform an issuer decides to partner with has taken appropriate steps to ensure compliance with all aspects of the NC JOBS/PACES Act.
Why should a startup or small business choose crowdfunding?
Here are four reasons more powerful than money, according to the founder of the very successful crowdfunding platform Indiegogo.com, Slava Rubin:
- Market validation. A successful crowdfunding campaign is proof that a market exists for your product or service. That, in turn, can help you get funding from VCs, angels, even banks, because you’ve just removed some of the risk from the equation.
- Testing your marketing. If you’re going to launch, you’re going to have to sell, and a crowdfunding campaign is a cheap way for you to exercise your marketing chops.
- Extra Promotion, interesting crowdfunding campaigns get written about, and sites like Indiegogo also go out of their way to promote campaigns, adding a multiplier to the marketing you try out.
- Data capture. You cut out the middle man between yourself and your market when you crowdfund, and reap the reward not just in dollars, but in access to information like your fans’ contact information, giving you the opportunity to build a long-term relationship with the people who fund you.
Rubin said those reasons, along with the money, make a powerful case for crowdfunding. And that case is likely to get more powerful with time.
“This will go down as the decade of crowdfunding,” he said. “By the end of this decade, people won’t talk about crowdfunding…it will just be layered into the fabric of funding.”
Here is a very interesting video where the Indiegogo founder discusses best practices for crowdfunding called “How to Raise $1M in 30 Days or Less”
How will a North Carolina start-up or small business create and execute an investment crowdfunding campaign offering using NC PACES?
A North Carolina business that wants to issue equity, convertible debt, or revenue share or similar debt securities will need to go through a number of steps to prepare for the offering. Typically they will discuss their business idea one-on-one with one or more advisors who can help them understand how to value and promote their offering. These advisors may be NC securities attorneys, startup community members, experienced entrepreneurs or potential investors. Entrepreneurs can also study online educational tools and see examples of good campaigns available on crowdfunding platforms. It is a good practice to have at least some investors who are ready to invest before the crowdfunding campaign is begun.
Then the issuer will need to get ready for the crowdfunding offering:
- Choose a crowdfunding platform partner if desired. It must be a platform registered to do business in North Carolina and be compliant with NC PACES.
- Choose a North Carolina securities attorney to help prepare offering documents. In many cases we expect these to be based on open source documents compliant with NC PACES.
- Prepare a business valuation and the offering size and limits.
- Prepare business disclosure documentation as required by NC PACES
- Get background checks on officers/owners as required by NC PACES
- Prepare documents to file with Secretary of State for PACES exemption
- Set up an escrow account at a North Carolina bank or escrow service
- Plan the Crowdfunding campaign marketing strategy and length
Once everything is ready, the NC PACES exemption compliant securities offering paperwork is submitted to Secretary of State. When the Crowdfunding offering campaign is launched and marketing efforts begin, potential North Carolina investors are qualified by the platform or the issuer, and qualified potential NC investors examine the opportunity on the platform or from the issuer’s documentation.
Interested NC Investors sign a commitment and move money to escrow. If the campaign goal (minimum offering size) is reached:
- NC Investors reconfirm and sign offering docs
- NC Issuer receives the funds from escrow
- NC Investors receive countersigned offering docs and stock or debt instrument
- NC Issuer provides on-going reports and communication to investors and regulators as required by NC JOBS/PACES
If the campaign goal is not reached:
- All investor funds are returned to them from escrow.
What is the exit strategy for these offerings?
This question is not directly related to NC PACES, but can be part of the business plan for offerings. Businesses might have a list of potential exit strategies, but most don’t know what it will look like at the early stages of financing. Investors who buy securities or debt with these offerings could see a number of different exits (return on or loss of investment) such as:
- The business could fail to raise the minimum offering amount – the investment is returned from escrow.
- The business could fail to become profitable and go out of business – the investment is lost. NC PACES requires very clear warnings on issuer documentation and an acknowledgement in writing from the investor that they understand that these investments are high risk and that all of the investment may be lost.
- For debt offerings, the business would make debt payments to investors as specified in the terms until the investment is repaid.
- For convertible debt offerings, the company may have a future qualified financing event which will allow the debt to be converted into equity according to the terms of the convertible note.
- The business could share profits with the shareholders in the form of dividends.
- The business could be acquired or merge with another company and the investor receives cash or equity in the new company based on the valuation of the business. This may result in a gain or a loss depending on valuation.
- The business could be bought out by a large investor who pays cash to the existing shareholders based on the valuation of the business. This may result in a gain or a loss depending on valuation.
- The business could become very successful and have an Initial Public Offering (IPO) or a Regulation A+ Mini Public Offering. Investors may then sell their shares on the open market.
Other scenarios are possible. Keep in mind it could take many years to achieve any return. The investment crowdfunding websites have lots of investor education available on this topic.
What are the NC PACES Act Advertising Rules?
How can I reach investors for my NC PACES securities offering?
- News stories. If a reporter wants to write or talk about your offering, that is absolutely fine. You can even let a media outlet know about your business and your plans for the future, but be careful: NCPOs cannot prepare, pay for, authorize or approve the articles. That means you may provide information for an article that is published independently, but you cannot direct or dictate the content.
- Advertising. All issuers can publish advertisements that contain the certain, basic information allowed by the crowdfunding rules.
- Events. You may not host events.
- Customers. Of course you can raise money from your customers, if they are residents of North Carolina.
Can I use Twitter, Facebook and other social media to advertise my NC PACES securities offering?
- You can advertise using an “advertising notice” if:
- the notice includes a link to the platform where the disclosure document is posted,
- you include a disclaimer that sales shall be to “NC residents only”, and
- you only include the terms of the securities offering and specific, limited factual information about the issuer.
18 NCAC 06A .2043 MANDATORY CONTENT REQUIREMENT IN PERMITTED ADVERTISING
An advertising notice may advertise the issuer’s securities offering only if the notice:
(1) directs prospective investors to the platform (or website, if any) where the disclosure document is posted. NOTE: For example, an active hyperlink to the disclosure document would be a way of directing prospective investors to the platform (or website, if any);
(2) includes a disclaimer that sales under the Exemption are restricted to North Carolina residents. NOTE: For example, the words “NC residents only” is a way of wording the disclaimer; and (3) includes no more information than that permitted by Rule .2044 of this Section.
18 NCAC 06A .2044 OTHER REQUIREMENTS FOR PERMITTED ADVERTISING NOTICES
In addition to the content required by Rule .2043 of this Section, an advertising notice may include one or more of the following statements:
(1) a statement that the issuer is conducting the securities offering pursuant to the Exemption;
(2) the name of the escrow agent to which all investor funds shall be directed;
(3) the terms of the securities offering. For purposes of this Rule and Rules .2011 and .2045 of this Section, “terms of the offering” means:
(a) the amount of securities offered;
(b) the nature of the securities;
(c) the price of the securities; and
(d) the closing date of the offering period; and
(4) factual information about the issuer that is limited to:
(a) the legal identity and business location of the issuer;
(b) the name of the issuer;
(c) the address, phone number, and website of the issuer;
(d) the email address of a representative of the issuer; and
(e) a brief description of the business of the issuer.
How Do I Use the NC PACES Act for My Offering?
If you are using an NC PACES offering, you can build a company profile on the Localstake NC platform which is PACES compliant for what is called a North Carolina Paces offering (NCPO).
Another option is to make a website yourself if you prefer to use a smaller offering type called a Local Public Offering (LPO). But if you make your own, your website has to be compliant with the PACES law and the rules on the NC Secretary of State website, so you should get familiar with those too. Read the FAQs first, then the PACES Act rules to get a good idea how this all works.
North Carolina based startups and small businesses that want to raise money using the NC PACES Act crowdfunding law (referred to as issuers of an investment offering) will follow the registration, reporting, escrow management, record keeping, promotion, and procedure rules of the PACES Act on the Secretary of State website. Localstake NC and your attorney will help you stay compliant.
Once your offering filing is approved by state regulators, businesses can start raising money using equity or debt offerings to raise up to $2M if you have reviewed or audited financials, and up to $1M if you do not.
North Carolina accredited angel investors can invest an unlimited amount, and North Carolina unaccredited retail investors can invest up to $5000 per offering.
PACES allows three different sizes of offerings depending on the amount of money you want to raise, and the rules are slightly different for each.
- Local Public Offering (LPO) – you can raise up to $250k, and promote the offering in a variety of ways including social media, advertising, and events. You do not have to use the internet to promote or list your offering, but if you do you must have a PACES compliant website. You will still need to follow all the PACES rules, except where the LPO rules provide you with a better alternative that override the normal PACES rules. This is a “do-it-yourself” offering that under the current rules cannot use a registered funding platform or broker/dealer to host the offering. You will create and register the offering and submit the offering docs and marketing plan to the NC Securities Division, and meet with them to get the offering approved before you can launch.
- NC PACES Offering (NCPO, up to $1M, also called the Invest NC Exemption) – you can raise up to $1M without audited or reviewed financial statements as long as you give investors financial information required by anti-fraud rules. In this case, you must use a PACES compliant crowdfunding platform like Localstake NC, and you cannot publicly promote the offering other than with a limited tombstone type description that links to the offering website. With this type of offering, the platform will provide the tools and assistance to put the offering together, get it registered with the state regulators, manage the offering campaign, and make sure everything is compliant. In many cases this will be easier and more effective for issuers even if they are raising $250K or less.
- NC PACES Offering (NCPO, up to $2M, also called the Invest NC Exemption) – you can raise up to $2M if you have GAAP compliant financial statements that have been reviewed or audited by a CPA. Your financial statements must cover the longer of 12 months or the period required by GAAP. In this case, you must have a PACES compliant platform, and you cannot publicly promote the offering outside the platform other than with a limited tombstone type description that links to the offering website.
What type of offering should I do?
NC PACES allows equity or debt offerings of various types, and three popular ones for startups and small businesses are revenue share loans, preferred equity, or convertible note offerings. Whichever type you choose, you will need to work with Localstake NC and your attorney to help you put together things like disclosure documents, subscription agreements, term sheets, and the state filing forms you will need to do to set up your offering, get it approved, and make sure you are in compliance with the NC PACES securities law rules.
A key decision here is your goal for how much will you raise, and what is the minimum amount you need that will help your business achieve your objectives. PACES requires that any funds collected from investors to be kept in an escrow account until the minimum amount is reached. PACES requires that the minimum for an NCPO must be at least 20% of your goal and for an LPO at least 25% of your goal. You can read the issuer and escrow account FAQs for more information.
You should also make sure your company meets at least one of the requirements in Rule 147A for using an intrastate exemption. The company must establish that it has a meaningful presence within the state by satisfying at least ONE of the following FOUR “doing business” requirements:
- 80% of its revenues come from within the state, or
- 80% of its assets are located in the state, or
- 80% of the funds raised are to be used to fund operations in the state, or
- a majority of the company’s employees are based in the state.
If your company does not meet at least one of these requirements, then you will need to use one of the other exemptions like 506c or Regulation Crowdfunding.