What is Rule 701?
Rule 701 is an SEC exemption that allows companies to issue equity as compensation without registering securities, provided they stay within specific thresholds. Under securities law, every securities issuance requires an exemption - Rule 701 provides this for compensatory benefit plans while protecting stakeholder interests.
Eligibility Requirements
Your company must pass at least one of these three tests during any 12-month period:
Test 1: $1 Million Test - Total value of Rule 701 shares issued is less than $1 million
Test 2: 15% of Outstanding Securities Test - Total number of Rule 701 shares issued is less than 15% of Outstanding securities of that class
Important: Test 2 contains ambiguous language about calculating "by class" versus combined. Rule 701(d)(3)(iii) states to include "all currently exercisable or convertible options, warrants, rights or other securities" as Outstanding, suggesting convertible securities such as preferred stock should be included with common stock when determining what is Outstanding. With this in mind, our platform treats all classes as one, since most startups have preferred shares that convert to common and all classes typically convert into a single share class upon IPO. The detailed report however shows results on both a consolidated and class-by-class basis. If you have concerns about which approach applies to your situation, consult legal counsel to confirm compliance.
Test 3: 15% of Assets Test - Total value of Rule 701 shares issued is less than 15% of total assets
Additional Disclosure Requirements
If Rule 701 sales exceed $10 million in any 12-month period, you must provide additional disclosures to ALL participants before sale including:
Copy of the compensatory benefit plan or contract
Plan summary (specific format depends on whether your plan is subject to ERISA employment law requirements)
Information about investment risks
Audited financial statements with specific SEC formatting requirements (no more than 180 days old)
Parent company financials (if using parent's total assets for Test 3 calculations)
Critical: Failure to provide required disclosures to all participants before the sale date (date of sale being the grant date or exercise date) results in loss of Rule 701 exemption for the entire offering.
Using the Pulley Platform
Go to Compliance > Rule 701
Set your 12-month period end date
Provide total asset value an associated balance sheet date (needed for Test 3)
Select whether you want to include/exclude draft securities
Review results and download detailed report
Period Selection: Choose either rolling 12-month or fixed period (like fiscal year end), but stay consistent. If you set December 31, 2024 as your end date, the calculation includes all Rule 701 securities originally issued from January 1, 2024 through December 31, 2024.
Downloadable Reports: The detailed report includes both the simplified view (treating all Outstanding securities as one class for eligibility test 2) shown in the UI and the class-by-class analysis for Test 2 that may be required for full SEC compliance.
How We Calculate Eligibility
Rule 701 shares must:
Be originally issued within your 12-month period
Still be outstanding as of period end date
Have Rule 701 federal exemption explicitly set in Pulley
Note: Shares created from exercised options/warrants or settled RSUs automatically inherit the Rule 701 exemption from the underlying security when applicable.
Key calculation rules:
Shares from Exercised Options/Exercised Warrants/Settled RSUs: The platform automatically tracks shares created from exercised options/warrants or settled RSUs and uses the original grant date of the underlying securities for the share's original grant date (not the exercise or settlement date)
Transferred Securities: Use original grant date of the security prior to the transfer
Valuation: Options/warrants use exercise price; RSUs/RSAs use fair market value on grant date; shares created from exercises/settlements use value of the underlying security
Outstanding Securities: Excludes Rule 701 securities per SEC guidance
Draft Securities: Assumed issued on your calculation date since the intent is to issue them in the near term
System Warnings & Data Quality
The platform alerts you to:
Missing issue dates on securities
Compensatory securities (options, RSUs, RSAs) without federal exemption settings
Missing valuation indicators needed to value Rule 701 securities for Test 1 and Test 3 calculations
Disclaimer: This information is for general guidance only and should not be construed as legal advice. Consult with legal counsel for specific compliance matters.