Capital is the lifeblood of a startup company. But for founders without ties to angels and venture capital, raising capital can feel impossible. Many founders turn for help to finders—service providers who help raise capital, for a fee. But what they don’t realize is that finders are acting as securities brokers without proper certification and registration. And by working with a finder, the entrepreneur and her company are exposed to draconian penalties and investor liabilities that can never be discharged in bankruptcy.

A securities broker is a person or organization in the business of facilitating securities transactions for someone else. All brokers must register with the SEC or the states where the broker operates. Finders—whatever they may call themselves—act as brokers under federal and state definitions. By helping to raise capital for a fee, a finder acts illegally as an unregistered securities broker.

Finders typically ask for a cut of the raise—a few percentage points of the capital. This type of compensation is the hallmark of broker activity. It is permitted for registered brokers, like investment banks. But if an unregistered broker—a finder—is asking for a success-based fee, yu can be sure the finder is acting illegally.

Some states have a nominal exemption for finder activity. Ohio law, for example, exempts from registration “any person that brings an issuer together with a potential investor and whose compensation is not directly or indirectly based on sale of securities by the issuer to the investor.” But the Ohio Division of Securities takes such a narrow view of this provision that it’s rendered essentially meaningless. Any compensation paid to a finder for help in raising capital, whether or not success based, will be considered “directly or indirectly based on the sale of securities.”

The consequences of finder involvement can be severe. The finder may be fined or imprisoned. The startup company may also face civil and criminal penalties for aiding and abetting illegal activity. In some cases the company may be forced to return the money it raised. And investors will be able to sue for rescission and other damages—potentially waiting to see how the startup performs before deciding to exercise this “rescission put.” And everything the company owes on these claims can be collected from the company’s responsible officers—typically the founders and executives. And none of these damages can be discharged in bankruptcy. These are severe consequences.

Future rounds may also be tainted. The only perfect way to cure a violation of securities laws is to return all investor money tied to the violation and start over. Failing to disclose uncured illegal activity to new investors in a follow-on round will likely be fraudulent. That may in turn create damages and rights of rescission in the new round.

If the finder is a “bad actor” under federal law—for example if the finder was previously issued a cease and desist—the Company will lose its ability to use the Regulation D securities-offering exemptions. The result is that a private company offering may be deemed and illegal, unregistered securities transaction.

Many founders are tempted by the prospect of raising capital on a contingent basis. But the long-term risks of using a finder far outweigh the Pyric gains of easy access to capital. The best way to meet investors is as always through friends, family, fellow entrepreneurs, lawyers, accountants, bankers, and others in the community who can make a warm introduction. If none of that is possible, consider crowdfunding.

Raising capital can be one of the greatest challenges in building a company. Don’t make the mistake of building your company on a broken foundation.