Wednesday, May 10, 2017

Crowdfunding 101: Getting Started with the NC PACES Act Investment Crowdfunding Law - Pat III

Part III: Risks and Rewards of Investing in North Carolina Businesses that use the NC PACES Act

This is Part III of our series on using the NC PACES Act investment crowdfunding law.

The NC PACES Act investment crowdfunding exemption is now in effect. Please see the Secretary of State Crowdfunding website to review the FAQs and rules. Investors will want to start by reviewing the excellent Investor FAQs there.
Mark Easley

Investors should also review the investment process, investment types, vetting process, and risk analysis on the website. Experienced crowdfunding platforms like that support PACES Act offerings do things that help reduce investor risk such as vetting of the businesses, background checks, checking on compliance with the rules, document management, escrow funds transfer management, and follow up reporting on your investment.

Why is NC PACES needed?
Start-up companies and small businesses play a critical role in creating new jobs and growing the economy. The NC PACES Act crowdfunding legislation is a safe, fair, and easy to implement securities law exemption that enables a new way of financing start-ups and small businesses in North Carolina called investment crowdfunding.
North Carolina residents can now allocate a portion of their investment funds in an organized way to build a diversified portfolio of local investments.

Who can invest in NC PACES offerings?
The exemption allows any citizen of North Carolina to buy equity or debt offerings from a North Carolina company provided the disclosure, reporting, filing, escrow management, and limits described in the exemption and rules are followed. Non-accredited investors can invest a maximum of $5000 in a PACES offering. Businesses may set their own stricter limitations on who can invest. You cannot form a syndicate to aggregate many investors into an LLC, which is popular in Rule 506 offerings.

What kind of offerings can be made with NC PACES?
The PACES Act allows North Carolina companies to issue equity offerings or convertible notes, and also allows non-convertible debt offerings such as revenue share loans and promissory notes. Other types of more complex offerings are allowed, and some are prohibited. Please see the rules for more info.
Who Supports NC PACES?

The start-up and small business community in North Carolina will benefit greatly from this new form of financing. North Carolina investors see this as a great way to create and grow North Carolina companies and create jobs. 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 businesses.

Key Features of NC PACES
  • The offering 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 with little or no financial history, or $2M with reviewed or audited financials.
  • Issuers must establish minimum and maximum offering caps
  • Investor Cap: Non-accredited investors may invest no more than $5000 per issuer. Accredited investors may invest an unlimited amount.
  • Issuers must use an escrow agent to hold funds until the minimum is met. The escrow agent must be registered with state securities regulators.
  • Intermediaries: Issuers may use a professional crowdfunding platform compliant with NC PACES, but it is not required. However the offering must still be compliant with all NC PACES rules.
  • Reporting: Quarterly reports must be provided to all investors discussing management compensation, operating results, and financial condition until the offering is completed, for example the loan is repaid in full or the offering stock is converted or sold.
  • Communicating Risk: Issuers are required to communicate in writing the business plan, financials or projections, 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 that they may lose their entire investment.
What NC PACES is not:

NC PACES is NOT a radical change to the North Carolina or Federal securities laws. It permits very well understood and popular offerings such as revenue share loans, preferred stock offerings, and convertible notes. As of now 33 other states have similar exemptions.
Investment crowdfunding is also NOT like Kickstarter. Companies that raise money via investment crowdfunding will have to thoroughly document their business model, financial projections, 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.


These are high risk investments in private companies and any investor could lose all their money. The PACES Act and the rules describe the disclosure requirements, reporting requirements, filing requirements, escrow requirements and limits that help make this exemption safe and fair for both North Carolina small business and North Carolina investors, but there are no guarantees.

Experience in the UK and with accredited 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 in private companies and any investor could lose all their money. However NC PACES has provisions to help prevent excessive losses. Non-accredited investors are limited to a $5000 max investment in an offering. Information about all offerings must be filed and approved by 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 do I invest my money, and how are money transfers made?

NC PACES Act offerings, like all private offerings, are based on a set of legal offering documents generated by the issuer. PACES Act documents cannot be changed or negotiated on a case-by-case basis, because all the investors must get the same information and documents as part of the offering. The investor should carefully review these documents before investing. Both the issuing company and the investor will agree to and sign the offering documents, and the investor writes a check or does an electronics funds transfer to fund the investment, usually into the escrow account for the offering.

Once the minimum amount is raised in the escrow, the money is transferred to the offering company and the terms of the offering go into effect. If the minimum is not raised in the specified time period of 12 months or less, the investment is returned to the investor.
Once the offering is in effect, the issuing company may make loan repayments in a variety of ways, including by check, direct deposit, or other methods specified in the offering documents. Equity offerings will normally issue stock certificates of the company to the investors representing the number and type of stock shares purchased in the offering or on conversion of a convertible note.
What is the exit strategy for these offerings? How do I get my money back?

This question is not directly related to NC PACES, but a discussion of it should be part of the business plan for offerings. Businesses might have a couple of potential exit strategies, but many don’t know what it will look like at the early stages of financing. Investors who buy equity or debt securities with NC PACES offerings could see a number of different exits (meaning return on investment or loss of investment) such as:
  • The business could fail to raise the minimum offering amount – the investment is returned from escrow in 12 months or less.

  • The investor could change their mind and request a return of the investment. This can normally be done if the money is still in escrow.
  • The offering is funded, but 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. These debt offerings are the most common type for small businesses.
  • For equity offerings, the business could share profits with the shareholders in the form of dividends.
  • The business could be acquired or merge with another company or be bought out by a private equity company, and the investor receives a cash buyout or equity in the new company. This may result in a gain or loss depending on valuation.

  • Early investors in the company may have the opportunity to sell their shares in a secondary market private offering. Many shareholder agreements allow the sale of private shares back to the company or to other qualified buyers after a holding period of one year. This may result in a gain or loss depending on valuation. 
  • The business could become very successful and have an Initial Public Offering (IPO). Investors may then sell their shares on the public 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’s next?

North Carolina residents can now allocate a portion of their investment funds in an organized way to build a diversified portfolio of local investments. First decide how much you want to invest in these private offerings, and what type of offerings interest you. Are you interested in income generation (debt offerings) or long term equity growth (equity offerings)? Are there certain types of companies or products or services that interest you? These are high risk investments, so how much can you afford to risk?

Next, do your research, find some companies you are interested in, review the company profile, the management team, and the offering docs, and when you find something you like, start crowdfunding.

Note: This is just a brief overview of the NC PACES Act process, and is not intended to be legal, financial or investment advice. You should review all the information on the Secretary of State crowdfunding website, and work with a good business attorney to put your securities offering together. If you need a business attorney that is very knowledgeable about the PACES Act and crowdfunding in general you may contact Benji Jones or Jim Verdonik at Ward and Smith in Raleigh. If you need help building a profile and putting an online offering together on a crowdfunding platform you may contact Ryan Flynn at If you need help putting together a crowdfunding marketing campaign to reach investors you may contact Roy Morejon at Enventys Partners. If you need help with putting together your financial statements you may contact Brooks Malone at HPG. If you have general questions about the NC PACES Act law and rules for the state regulators, you may contact Leo John by email or phone 919-807-2249. To stay informed about NC PACES and crowdfunding please visit and follow and contact us by email

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