For years, companies and project promoters have solicited donations and other forms of contributions through crowdfunding (think Indiegogo or Kickstarter).  But they have not been able to sell stock through crowdfunding (sometimes called “equity crowdfunding”) because the securities laws forbade it.  Then came the JOBS Act, Title III of which instructed the SEC to adopt rules to allow equity crowdfunding.

On October 30, 2015, the SEC adopted those rules in what they called “Regulation Crowdfunding”.  Regulation Crowdfunding permits the following:

• A company may raise up to $1 million per year through crowdfunding;
• Any individual may invest up to the following amounts in once company per year:
  • If annual income or net worth is less than $100,000, the greater of:
    • $2,000 or
    • 5 percent of the lesser of their annual income or net worth.
  • If both annual income and net worth are equal to or more than $100,000, 10 percent of the lesser of their annual income or net worth;
  • In any case not to exceed $100,000 per individual per year across all crowdfunding offerings.

Funding Portals

All crowdfunding transactions must take place through an SEC-registered intermediary, which can be either a registered broker-dealer or a new entity called a “funding portal”.  Funding portals must register with the SEC, become a member of FINRA, and comply with numerous rules and regulations contained in Regulation Crowdfunding.  For a more detailed outline of these requirements, click here.

Required Disclosure

Companies conducting crowdfunding offerings must file certain information with the SEC and provide this information to investors and the intermediary facilitating the offering.  They must also file an annual report with the SEC and provide the report to their investors.  A summary of these requirements is also available at the above link.

A Game Changer for Small Investors?

Many people are excited about the prospect of small private companies being able to raise money from “main street” investors. However, crowdfunding has some drawbacks, including all the hoops that must be jumped through to qualify.  More importantly, to obtain a meaningful amount of capital, the company will need as many as a hundred or possibly even several hundred investors, due to the tiny amounts that may be invested.  Not only is this a daunting administrative burden, it also greatly increases the chances that the company will get at least one (if not more than one) “squeaky wheel” investor, who at the least drains management time with questions and complaints, and at the worst could end up filing a securities lawsuit.  Time will tell how effective this new crowdfunding exemption proves to be.

This article is not intended and should not be relied upon as legal or tax advice pertaining to any specific matter.  You are encouraged to seek competent legal and tax counsel before proceeding with any transaction involving any of the matters discussed above.