SEC Rule 701

Offering stock incentives to employees is a proven way to attract talent and keep key team members motivated, especially for startups. Whether you are giving away equity as a part of compensation or offering restricted stock to employees, the benefits are tangible, especially in the long run.

However, the disclosures and SEC filing requirements for issuing securities can be a significant burden for startups, small businesses, and companies that are still in the early stages of development. SEC Rule 701 is designed to offer some relief from this burden. Rule 701 provides an exemption from SEC requirements and requires no additional paperwork to take advantage of. If you are considering offering equity incentives as a startup, familiarizing yourself with Rule 701 could potentially save you a lot of trouble. Consider speaking with a securities lawyer from the Priori network to find out if you qualify for a SEC Rule 701 exemption and to design your benefits plan. 

Understanding SEC Rule 701

SEC Rule 701 is a broad exemption for companies that allows them to grant equity as a part of a written compensation benefit plan or agreement without registering with or paying any fees to the SEC.

Who Can Use a Rule 701 Exemption?

Any private company can take advantage of SEC Rule 701 when issuing compensatory stock as a part of an established benefit plan, such as a bonus, stock appreciation, profit-sharing, incentive, deferred compensation, pension or similar plan. This stock can only be issued to qualified persons providing tangible services to your company, such as employees, directors, general partners, trustees, officers, consultants and advisors.

Aggregate Limits of Rule 701

While theoretically an unlimited number of exempt stock can be issued, the amount of securities sold or options granted in any 12-month period cannot exceed:

  • $1 million,

  • 15% of the total assets of the issuer, as determined by the issuer’s most recent annual balance sheet date, or

  • 15% of the outstanding amount of the class of securities offered and sold, as determined by the issuer’s most recent annual balance sheet date. 

Disclosure Requirements 

For most startups, required disclosure documents are minimal. You must still, however, provide all recipients with a copy of the compensation benefit plan terms and conditions, which cannot be false or misleading.

If the total amount of securities sold in any 12-month period reaches over $5 million, more thorough disclosures are generally required. The company must issue a summary of the material terms of the plan, a description of the risks associated with the offerings, and the full financial statements that would be required in a Reg A offering statement. 

FAQ

Who is considered an advisor or consultant under SEC Rule 701?

Under Rule 701, any natural persons providing bona fide services to your company or its subsidiaries can be considered an advisor or a consultant. These services cannot be related to a capital-raising transaction. In other words, investors cannot generally be issued exempt stock under Rule 701 unless they are separately providing additional services.

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