Earlier this month, President Obama signed into law the Jumpstart Our Business Startups (JOBS) Act, which authorized “crowdfunding” – the process of raising small amounts of money from a large group of people, in particular via the internet.
For supporters, it’s a huge step forward for small businesses seeking startup and growth capital, one that will lead to more jobs and a stronger economy.
For detractors, however, crowdfunding represents a major step in the wrong direction, where poorly informed investors could lose significant amounts of money in bad business ideas, fraudulent investments, and online scams.
It’s too early to tell who’s right and who’s wrong (even if it’s likely that both are). But it’s not too early to start thinking about how crowdfunding will work for individual investors. Here are five key takeaways:
1. You’ll have more opportunities to get in on the ground floor of startups:
“’Crowdfunding’ is a new outgrowth of social media that describes a capital-raising strategy whereby groups of people pool money, composed of small individual contributions, to support accomplishment of a particular goal. Today, there is increasing interest in crowdfunding as a means of offering investors an ownership interest in an early-stage or small company.” (President Signs The JOBS Act Into Law To Simplify Capital Formation by Patton Boggs LLP)
2. You’re limited in the amount of money you can invest:
“Investors having an annual income under $100,000 may only invest up to the greater of $2,000 or 5% of their income. Investors with an annual income over $100,000 may invest up to 10% of their annual income in any offering, up to a maximum of $100,000. These investor limits apply in the aggregate to all investments made, regardless of issuer.” (JOBS Act Becoming Law by Dechert LLP)
3. You are required to hold the shares for at least 12 months:
“No resales are permitted for one year except to the issuer, an accredited investor, a member of the investor’s family or pursuant to a registered offering… It appears that the one-year restriction on resale described above applies to private as well as public resales.” (President Obama Signs JOBS Act: Landmark Reform for Small and Emerging Growth Companies Now Law by Sheppard Mullin Richter & Hampton LLP)
4. You’ll have to do more homework before investing:
“The main concern is fraud. It will be easier for companies with nothing more than in idea to swindle investors. This is always the balancing act of a mixed economy. We want to have a free and robust market while protecting the unsuspecting. Yes, there will be more fraud.” (The JOBS Act and Crowdfunding – Letting Go by Looper Reed & McGraw, P.C.)
5. You’re likely to lose more money than you make:
“Given the small amount of money that can be raised under [the crowdfunding] exemption (the aggregate amount of securities sold to all investors within any 12-month period may not exceed $1 million), I expect that many of the issuers that use it will be start-ups just trying to get off the ground. Many, if not most, of these companies will fail and there will be investor losses.” (Crowdfunding – There Will Be Investor Losses by Allen Matkins Leck Gamble Mallory & Natsis LLP)
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