What makes a relationship "substantive" under 506(b)?

A substantive relationship is one that you, or someone acting for you, have with a prospective investor, that began before the offering, and in which you learned about the person's finances and sophistication. Offering only to people like this is the most common way issuers show they did not use general solicitation.

The phrase is not written into any rule. The rule itself bans general solicitation in a 506(b) offering. SEC staff treat this kind of relationship as the main way, not the only way, to show there was none.

"Someone acting for you" can include members of your GP team, employees, or a registered broker-dealer or investment adviser, and others depending on the facts. You do not have to hold every relationship personally, but you should be able to show who held it and what they learned.

A referral does not create a relationship. A person introduced by an investor or a friend arrives with no relationship with you, and you, or someone acting for you, still has to learn about and evaluate their finances and sophistication.

The timing is the part people most often get wrong. A relationship formed after the offering begins does not count for that offering, and forming one in a hurry just before taking money does not fix that.

When an offering begins is a judgment on the facts, with no bright-line date. An offering begins when offering efforts begin, and that can be earlier than any signed document. A conservative working rule follows: someone you meet once you are working on a specific deal should not be offered that deal under 506(b). Get to know them now, and they may be eligible for a later offering.

There is no minimum period, and no number of touches or days creates a relationship. What matters is what you know about the person's finances and sophistication, and whether you actually evaluated it.

In a 2015 no-action letter, SEC staff said the quality of the relationship between issuer and investor is the most important factor, and that no particular duration or questionnaire is enough on its own. Some firms use internal waiting periods as evidence that a relationship was not formed for a specific deal. That is a practice, not a legal requirement, and elapsed time alone creates nothing.

The rule does not literally require a phone call or a meeting. Many securities attorneys still want a live conversation, in person, by phone or by video, as part of every relationship, because it is the practical way to learn about someone and to show it later.

A form someone filled in on your website is data, not a relationship. A LinkedIn connection is not one either. Neither is a business card, attending the same meetup, belonging to the same investor group or paid community, or ticking an "I am accredited" box.

Friendship gets you partway. With friends and family you still need to have learned about their finances and sophistication. A series of sales calls to a cold list during a live raise does not turn strangers into relationships for that raise.

A useful first conversation covers status (accredited, and on what basis, or sophisticated, and how), and suitability: whether the person could absorb a loss, whether they need the money back soon, and whether an illiquid hold fits their plans. No specific current offering is discussed.

Write a short note soon after: the date, who held the conversation, how you met, and what you learned in the person's own words. Keep it factual, and never record a status you did not actually learn. A record of a conversation is not itself the relationship. The substance is what you learned about the person's finances and sophistication, and when.

You can keep getting to know these contacts. Do not share details of a specific 506(b) offering with them until your relationship checks are complete.

Keep in mind what the relationship does and does not do. It speaks to one question: whether you used general solicitation. It does not answer questions about disclosure, suitability or the accuracy of what you said.

The issuer decides which exemption applies, with its securities attorney. This article is education, not legal advice. Whether your relationship with a particular person meets the standard, and when your offering began, are questions for your own securities attorney, ideally before you write your relationship policy. The rule is Rule 502(c), https://www.law.cornell.edu/cfr/text/17/230.502, and SEC staff interpretations are in the Securities Act Rules Compliance and Disclosure Interpretations, https://www.sec.gov/rules-regulations/staff-guidance/compliance-disclosure-interpretations/securities-act-rules. The 2015 staff letter is at https://www.sec.gov/divisions/corpfin/cf-noaction/2015/citizen-vc-inc-080615-502.htm.