The JOBS Act signed into law by President Obama in April created a new exemption from the Securities Act of 1933 for “crowdfunding transactions”. This exemption allows entrepreneurs to raise small sums of money from large groups of people without having to complete a securities offering with the SEC. The concept of crowdfunding is to loosen the restrictive securities laws so that new companies can raise small sums of money from large groups of people. By limiting the amount of money raised by each person the law limits each investors risk. Crowdfunding can be used to fund any type of business or venture including a real estate business or investment, a new movie, or a technology business. Popular crowdfunding portals include, kickstarter.com, earlyshares.com, and indiegogo.com.
In order to qualify as a “crowdfuning transaction”, the issuer of the investment cannot sell more than $1M of securities in a 12 month period. Additionally, the amount that can be invested depends on the income or net worth of the investor. For investors with net worth or annual income less than $100,000, they can invest the greater of $2,000 or 5% of their annual income or net worth. For investors with annual income or net worth greater than $100,000, they can invest up to 10% of their annual income or net worth not to exceed $100,000. There is no requirement that investors be “accredited investors” and anyone can invest at least $2,000 in a “crowdfunding transaction”.
In addition to the restrictions on the amounts raised, the transaction must also be conducted through a broker of “funding portal” that provides risk disclosures and other information to investors. A funding portal is a new system of exchange that has been used in recent years by many small companies but has only recently been recognized in law under the JOBS Act. A funding portal is defined as a person that acts as an intermediary in a transaction involving the offer or sale of securities for the account of others. There are a number of restrictions placed upon funding portals such as prohibitions on investment advice or recommendations, they cannot solicit offers or transactions, they cannot compensate employees based on the sale of securities, and they cannot hold, manage or possess investor funds or securities. Funding portals must register with the SEC as a funding portal but they do not have to be registered as broker-dealer.
The SEC has 9 months from the signing of the act in April to adopt regulations and guidelines. Crowdfunding will be an important and commonly used funding mechanism for many new small businesses and should be considered as an option in every business or investment where the funds being raised are $1M or less.