Rule 506(b) versus 506(c), explained plainly

The question I am asked most often about Regulation D is which half of Rule 506 a company should use. The answer depends on four things: who the company is allowed to sell to, how it is allowed to find them, what it has to verify before the sale, and what each choice costs in process. Everything else about the two rules is the same, and the sameness is worth stating first because it is where most misunderstanding lives.

Both rules sit inside Regulation D, which is a set of exemptions from the registration requirement of the Securities Act of 1933. Both allow an issuer to raise an unlimited amount. Both produce restricted securities, meaning the purchaser cannot freely resell them. Both require a Form D notice to be filed after the first sale. Both are federal exemptions that preempt state registration, while still allowing states to require a notice filing and a fee. Neither one is a license to say anything you like, because the antifraud provisions of the securities laws apply to every offering, exempt or not.

The comparison in one table

Feature	Rule 506(b)	Rule 506(c)
General solicitation or advertising	Not permitted	Permitted
Who may purchase	Accredited investors, plus up to 35 non accredited investors who are sophisticated	Accredited investors only
Verification of accredited status	Issuer may rely on a reasonable belief, commonly a self certification questionnaire	Issuer must take reasonable steps to verify, and self certification alone is not enough
Disclosure to non accredited purchasers	Specified information is required if any non accredited investor buys	Not applicable, because none may buy
Amount that may be raised	Unlimited	Unlimited
Resale of the securities	Restricted	Restricted
Form D	Required within 15 days after the first sale	Required within 15 days after the first sale
Typical way prospects are found	Existing relationships and introductions	Any channel, including public announcements

What general solicitation means in practice

General solicitation is the line that divides the two rules. Under 506(b) an issuer may not advertise the offering or reach people with whom it has no substantive relationship. A website page describing the offering, a public post, a mass email, or a speaking slot where the terms are pitched to a room of strangers would all cross the line. The practical consequence is that a 506(b) raise runs through people the issuer or its agents already know, and through introductions from them.

Under 506(c) the issuer may speak publicly about the offering. That opens the funnel, and it changes the character of the work. A public offering page brings inquiries from people the company has never met, and the company will have to qualify them before it can sell to any of them. The freedom to solicit is real, and it is paid for in verification.

What the issuer has to verify

Under 506(b) the standard is a reasonable belief that each purchaser is accredited. In practice that is a questionnaire the investor completes and signs, and the issuer relies on it unless something indicates it is untrue. A 506(b) issuer may also sell to a limited number of non accredited purchasers, but each must be sophisticated enough to evaluate the investment, and the issuer must give them a set of disclosures comparable to what a registered offering would contain. Most 506(b) issuers avoid non accredited purchasers entirely to avoid that disclosure burden.

Under 506(c) the standard is different in kind. Reasonable steps to verify each purchaser’s accredited status are required of the issuer, and a signed questionnaire alone does not satisfy that. The rule includes a list of methods that are deemed reasonable, such as reviewing tax forms for income, reviewing bank and brokerage statements together with a credit report for net worth, or obtaining a written confirmation from a licensed attorney, a certified public accountant, a registered broker dealer or a registered investment adviser. Many issuers use a third party verification service so that the sensitive documents are handled by the service rather than by the company. The verification has to be current at the time of sale, which for a raise that runs over months means some purchasers will have to refresh it.

Who counts as accredited

Both rules lean on the accredited investor definition. For a natural person the common tests are an annual income above a stated threshold in each of the two most recent years with a reasonable expectation of the same in the current year, or a net worth above a stated threshold excluding the value of the primary residence. The definition also includes people holding certain professional licenses, and it includes entities that meet asset tests or are owned entirely by accredited investors. The thresholds and categories are set by rule and revised from time to time, so the current definition on Investor.gov is the place to check rather than any article, including this one.

The point for a founder is simple. Accredited status is the gate, and the two rules differ in how hard the issuer has to check the gate rather than in where the gate sits.

What each choice costs

A 506(b) raise is cheaper to run per prospect and more constrained in reach. The questionnaire is light, the outreach is warm, and the risk sits in the definition of a substantive relationship. A firm that stretches that definition to reach strangers has left the exemption and may not know it.

A 506(c) raise is heavier per prospect and wider in reach. The verification step costs time and money for every purchaser, some prospects will decline to hand over financial documents and walk away, and the public nature of the offering means every public statement becomes part of the record. The benefit is that the company may say it is raising, which under 506(b) it may not.

There is also a rule about switching. An issuer that starts under 506(b) and then begins general solicitation has to treat the offering as 506(c) from that point, and every purchaser after the switch has to be verified. Starting under 506(c) and moving to 506(b) does not work, because the solicitation has already happened.

What both rules require of the issuer regardless

Three obligations sit under both halves of the rule and are easy to lose sight of while comparing them. The first is disclosure discipline. Even where no specific disclosure document is required, every statement the issuer makes to a prospective purchaser has to be true and complete in the ways that matter, because the antifraud provisions apply to exempt offerings exactly as they apply to registered ones. The second is the resale restriction. Securities sold under either rule are restricted, and the issuer has to tell purchasers so, mark the certificates or the book entries, and refuse to register a transfer that does not meet the conditions for resale. The third is the bad actor rule. An offering loses the exemption if the issuer or certain related persons have a disqualifying event in their history, and the issuer has to ask the question of each covered person before relying on the rule. A questionnaire to officers, directors and significant holders is the usual way to ask it, and it belongs in the document set from the start.

How I read the choice

When a company already has the relationships it needs, I lean toward 506(b), because the process is lighter and the sensitive document handling is smaller. When the company will need to reach beyond its network, or wants to describe the offering publicly for any reason, 506(c) is the honest choice, and the verification cost is the price of that honesty. What I discourage is choosing 506(b) for its lighter process and then behaving as if solicitation were permitted. That is the one combination the rule does not allow.

The hard part is rarely the rule text. It is the discipline of running the outreach inside the rule chosen, day after day, when a prospect on the phone asks a question that a 506(b) issuer is allowed to answer only because a relationship already exists.

Educational content only. Not legal, tax, or investment advice, and not an offer to sell or a solicitation of an offer to buy any security.