Paying a “Finder’s Fee” Could Mean Trouble for Your Business

It’s a common misconception that companies can use the “finders exemption” in the Securities Exchange Act of 1934 to get around SEC regulations. Many start-ups use “finders” to connect their company with potential investors and capital sources, but unless a company pays these finders a flat, non-commission fee, the finder is effectively acting as a broker and is required to be properly licensed. If they aren’t licensed, working with them risks tainting the entire financing round and may lead to fines and penalties.

When the SEC investigates and finds that a business has used an unlicensed broker-dealer, the toll can be catastrophic. Just the presence of an investigation itself is enough to scare away most future investors, and can lead to current investors having the right to rescind their investment in the company.

Any knowledgeable start-up should be talking to their attorney and conducting honest audits of their activities to make proactive changes before regulatory agencies like the SEC get involved. If one finds that it is dealing with an unlicensed broker-dealer, they should stop that activity immediately. Follow these three simple steps to understand the difference between a broker-dealer and a finder and know what your company can do to prevent running afoul of their regulatory duties.

1. Know the difference between broker-dealers and “finders.” Under SEC regulations, it doesn’t matter what a broker-dealer calls themselves, whether a finder, facilitator or consultant. If they are actively inducing the sale of securities, they are acting as a broker-dealer and as such are required to register with the SEC. Doing business with any person acting as a broker-dealer without a license can have ruinous effects on a business’ future.

2. Don’t pay commission to any unregistered broker-dealer. If a person is introducing a company to a potential investor and is not properly licensed, the fee they charge must be paid on a flat basis (or not tied to the amount of funds raised). If a finder asks for or receives a commission or percentage-based incentive, then they may be acting as a broker-dealer. Talk to your attorney about the best method for proceeding.

3. Protect your business. The use of unregistered broker-dealers under the auspices of “consultants” or “finders” is a big deal in the SEC’s eyes. Not complying with the letter of the law can bring the kinds of investigations that shut down start-ups or halt the flow of funds. While the SEC is putting increased scrutiny on the securities market, it makes sense for businesses to actively protect their interests by staying well within regulatory guidelines.