The “Friends and Family” rule under securities regulations is meant to allow small businesses and startups to raise funds from a close circle of supporters, including family, friends, and acquaintances. While the rule is intended to simplify funding efforts, it has unfortunately become a loophole for abuse. Many issuers, often motivated by the promise of easy capital, exploit the rule at the expense of individuals who lack the financial knowledge to evaluate high-risk investments. This can lead to devastating financial losses and strained personal relationships.
Issuers exploit the rule’s allowance of up to 35 non-accredited, “sophisticated” investors by targeting unsophisticated family, friends, or acquaintances. These individuals may not meet the definition of accredited investors—those with substantial income or net worth—but are convinced to invest based on personal trust rather than a thorough understanding of the risks involved. The emotional dynamics of personal relationships often pressure individuals to invest without adequate due diligence, leaving them vulnerable to high-risk or outright fraudulent ventures.
To avoid “Friends and Family” abuse, investors should take specific steps to protect themselves. First, potential investors should request all necessary documentation, including offering memoranda, financial statements, and risk disclosures. Understanding the fine print is crucial, as it often reveals the potential risks and uncertainties involved in the investment. If the issuer is unwilling to provide comprehensive documentation or seems evasive, it’s a red flag that warrants caution.
Second, seeking independent financial or legal advice is essential. Many individuals lack the expertise to assess the viability of an investment on their own. A third-party professional can offer unbiased insights into the risks, valuation, and legitimacy of the offering. It is also wise to verify the issuer’s track record and reputation, including past business ventures and any history of litigation or financial mismanagement.
Issuers, on their part, must act ethically to prevent abuse of the “Friends and Family” rule. They should ensure full transparency by disclosing all material information about the investment, including its risks and potential for loss. Additionally, issuers should avoid pressuring family or friends into investments based on
personal loyalty or relationships. Instead, they should focus on educating prospective investors about the venture and providing ample opportunity for independent evaluation. By fostering transparency and ethical practices, issuers can build trust and credibility while avoiding legal and ethical pitfalls.
Regulators also play a key role in preventing “Friends and Family” abuse. By increasing oversight and enforcing stricter penalties for those who exploit the rule, authorities can deter bad actors from taking advantage of uninformed investors. Mandating that all investors, regardless of accreditation status, complete basic financial literacy training or pass a suitability test before investing in private offerings could further reduce the risk of exploitation.
Lastly, individuals approached with investment opportunities from friends or family should not let personal relationships cloud their judgment. It is important to remember that saying no to an investment does not equate to rejecting the person offering it. Prioritizing due diligence and financial safety over emotional obligations can protect both finances and relationships in the long term.
By Marilee Crockett
Marilee is a distinguished financial executive with extensive experience in finance, compliance, and due diligence services across various sectors. As the Chief Investment Officer at Brilliant Minds Group Exit Club (BMG Exit Club), she brings a wealth of expertise in fund compliance, regulatory reporting, and risk management to help ensure comprehensive due diligence processes.
Marilee is the Founder and Director of Crockett Investigations, a licensed private investigations firm specializing in investment KYC/AML and enhanced due diligence for startups, General Partners, and Limited Partners. During her career, she has been instrumental in facilitating thousands of Regulation D 506(b) investments, collaborating with strategic partners, General Partners, Limited Partners, including private clients who are high-net-worth individuals (HNWIs) and ultra-high-net-worth individuals (UHNWIs).
Concurrent to her role at BMG Exit Club, Marilee is a special manager and U.S.-based agent at Crockett Global Consulting for international Venture Capitalists investing in U.S. startups.
Marilee’s career includes significant experience in the financial sector, having conducted due diligence, AML/KYC, and international financial crime investigations for two of the United States’ largest banks. She also served as President of Crockett Energy Consulting in Dallas, Texas, contributing to the development of the Environment Education Center in Plano, Texas.
Marilee holds Bachelor’s and Master’s degrees from Brigham Young University in Provo, Utah. Her multifaceted experience and commitment to excellence position her as a pivotal leader at BMG Exit Club, where she continues to drive innovation and uphold the highest standards in investment management.
Marilee has lived in eight states and two foreign countries. She currently resides in the Salt Lake City metro area. In her personal time, Marilee works in the film industry, plays the violin, and enjoys spending time with her family. She is the mother of seven grown children and has eleven grandchildren.
