Not all securities are available to the public to purchase. Restricted securities allow companies to sell shares in their company before they submit all the necessary information to the Securities and Exchange Commission to make an initial public offering. They are sometimes offered as part of a compensation plan for employees, or as remuneration for individuals who provided start-up capital.

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What can you do with a restricted security that can’t be sold on the market? If the security meets the SEC’s requirements, it might be possible to sell a restricted security. And that security might have a selection of interested buyers, especially if the issuing company has some good media buzz.

How Do I Remove a Restricted Legend from a Security?

Before an individual can sell their restricted securities on the market, they need to have the “restricted” legend removed from the security by a transfer agent. The transfer agent will need a letter of consent from the issuing company. Individuals who own restricted securities and want their legends removed should consider getting a securities attorney. Disputes over legend removals are covered by state laws, rather than the SEC, and having an attorney can help deal more effectively with issuing companies.

That’s not all. If an individual or a broker-dealer wants to sell their restricted security, they must meet the conditions of Rule 144.

Selling Unregistered Securities Under Rule 144

Holding Period: Investors must hold onto their restricted securities for a certain amount of time. How long depends on the company that issues the securities.

  • If the issuer has reporting requirements, then the holding period is 6 months.
  • For companies that have no reporting requirements, the holding period would last 1 year.
  • If an investor purchases a security from a non-affiliate, the time that the non-affiliate held the security counts toward the purchaser’s total hold time. If the non-affiliate seller held the security for three months, the purchaser can sell it in three months if the issuing company has reporting requirements, and the security meets the rest of the conditions under Rule 144.

Current Public Information: In order to sell an unregistered security, there has to be sufficient public information on the company. Reporting companies already have to submit thorough information about their business to the SEC, while non-reporting companies have to make certain information available.

Note about Reporting Requirements:

“Reporting requirements” describe the information issuing companies must submit to the SEC. These reports include general information about the business, as well as properties, legal proceedings, and financial statements.

The SEC does not require every business to report this type of information — there are several factors that could lead to an exemption. If a company is non-reporting, basic information about the company, including financial statements and information about the CEOs, needs to be publicly available.

Rules for Affiliates

There are different rules for affiliates and non-affiliates. An affiliate, as defined under Rule 405, is a person who has the power to cause the direction of management and policies, either by ownership or contract. Affiliates might be shareholders or someone who provides advisory services.

Trading Volume Formula: Affiliates cannot sell more than 1% outstanding shares of the same class being sold. If the security is listed on the stock exchange, the number of unregistered securities sold cannot be greater than either 1% of the outstanding shares or the average weekly trading volume during the four weeks preceding the filing of a notice of sale on Form 144.

Ordinary Brokerage Transactions: Affiliates must handle their securities just as they would regular securities transactions. Brokers should not receive more than regular commissions. Neither sellers nor brokers can solicit orders to buy the securities.

Limitations and Form 144: If the sale involves more than 5,000 shares or the amount is collectively more than $50,000 in a three-month period, the seller must submit Form 144.

Form 144 requires the signee to attest that they do not know any adverse information about the securities. It also requires that the seller submit information about the brokers selling the securities, as well as any information about market makers who are acquiring the securities.

What Happens When a Broker-Dealer Breaks Rule 144?

Control persons have gone to great lengths to conceal their affiliation with a company in order to get around the requirements of Rule 144. In 2016, the SEC brought an enforcement action against the control person of Cannabiz Mobile, alleging that they installed a co-conspirator as the sole director Cannabiz in order to conceal their connection with the company. This allowed the control person to fraudulently sell the company’s stock directly to the public market. The judgment in 2018 ordered the control person had to return the over $1.1 million in securities as well as pay a $160,000 penalty

What Can I Do with My Restricted Security?

If an affiliate sold you a restricted security, you can recover your losses with the help of a security attorney. Get in touch with the securities attorneys at Fitapelli Kurta for a free case evaluation; call (877) 238-4175 or email info@fkesq.com.

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