How Crowdfunding Is Changing Investing

Until recently, if you wanted to invest your hard-earned dollars you had some basic, well-worn options, such as stocks, bonds, or mutual funds. You could also buy real estate or commodities, like gold, foreign exchange, indexes, or even pork bellies. But outside of investing in your brother-in-law’s used car lot, it wasn’t particularly easy for Average Joe or Average Jane to put money into private businesses. Over the last several years, another option has become popular: equity crowdfunding.

In May 2016, Title III of the Jumpstart Our Business Startups Act, or JOBS Act, went into effect, enabling ordinary investors to use approved crowdfunding portals to back private companies in exchange for equity. Previously, only the wealthy, “accredited” few, with annual earnings over $200,000 per year or net worth of $1 million, could invest in private companies for equity.

Crowdfunding isn’t new, of course. Sites like Kickstarter or GoFundMe have been around for some time, providing online platforms to raise money for creative projects, product development, and mission-based activities. What’s different now is that startups and small businesses can use crowdfunding portals to acquire capital from millions of Joes and Janes—and go beyond t-shirts, discounts, and prizes and instead offer real ownership stakes. 

Rules of the road

Because there are risks investing in privately held companies, Title III places annual limits on the amount of money each person may invest in crowdfunded offerings. In any 12-month period, if you have an annual income or net worth under $100,000, you may invest up to the greater of $2,000 or 5 percent of your annual income or net worth (whichever is less). If you have an annual income or net worth over $100,000, you may invest up to 10 percent of your annual income or net worth (whichever is less) but no more than $100,000. 

For businesses, Title III requires that securities be offered only via a registered crowdfunding portal or through the online platform of a broker-dealer. Companies cannot offer crowdfunding investments directly to individuals. Equity crowdfunding portals and broker-dealers must be registered with the SEC and be members of FINRA, the Financial Industry Regulatory Authority. As of March 2017, there were 25 approved crowdfunding portals, including popular sites such as Seedinvest and Wefunder. There are also international equity crowdfunding sites that give exposure to startups in other countries, such as OurCrowd and CrowdInvest. Finally, companies may offer only up to $1 million of securities in any 12-month period via approved crowdfunding platforms.

Do’s and Don’ts

Before you jump in and spin the crowdfunding wheel, take a moment to consider these key tips:

1. Equity crowdfunding doesn’t face the same level of regulatory scrutiny as traditional venture capital investments, so only invest in a crowdfunding portal you trust. Does the portal have any regulatory oversight? Does it provide enough information and resources to make you comfortable that the business is on the up and up, and has a decent chance of success?
2. Invest only as much as you’re willing to lose. Remember, these are risky investments. Equity crowdfunding enables businesses to raise money but it doesn’t provide access to the experience and street smarts that come from working with angel investors or VC’s. 
3. Don’t invest money you’ll need tomorrow. Even if your horse comes in, you may not be able to access your winnings any time soon. As an equity crowdfunding investor, you’re typically restricted from selling your shares in the first year, and you may have to wait even longer.

Equity crowdfunding can be a win-win for companies and ordinary investors. Companies gain easier access to capital, with less red tape, and ordinary investors have another vehicle to make a buck while supporting entrepreneurship and small business. As long as everyone keeps their eyes open and does their homework, the benefits should outweigh the risks.

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