Equity crowdfunding now offers a new opportunity to invest. The days of startup investment as the exclusive domain of recognized venture capitalists are (finally) over.
As of May 16, you too can be a venture capitalist, just like the moguls you watch on shows like Shark Tank, thanks to the launch of equity crowdfunding in the U.S. The only difference is that your investments may be capped at $2,000 per year, depending on your income and net wealth.
Nonetheless, the new rules allow you to buy shares in private companies, shares once available only to accredited (i.e., wealthy) investors.
Equity crowdfunding also affects small private businesses that can now issue up to $1 million in securities annually via equity crowdfunding. Unlike donation-based crowdfunding investors who support artists and entrepreneurs on websites like Kickstarter, equity crowdfunders own a piece of your business, with the risks and rewards that minority ownership entail.
Crowdfunding investors can lose their shirts, which is why the rules limit how much you can invest this way. If your annual income or net worth is less than $100,000, you can invest 5 percent of your income or worth per year, up to the $2,000 cap. For others, the 12-month cap on all crowdfunded security purchases is $100,000.
The crowdfunding rules allow you to invest in companies through either a broker-dealer or a funding portal, which is an online site that brings together issuers and investors. Crowdfunding portals must satisfy rules set out by the Financial Industry Regulatory Authority (FINRA) that are meant to offer some fraud protections to crowdfunding investors.
These rules include avoiding false claims or omitted information, and ban portals from predicting how the securities it lists will perform in the future.
There is nothing in the crowdfunding rules that prevents you from borrowing the money you invest this way, as long as your crowdfunding investments conform to the specified limits.
That means you can fund your crowdfunding investment with money borrowed via a personal loan or credit card advance, although the interest rates might make it financially unattractive to pursue this source of funding.
Equity crowdfunding's launch on Monday followed years of torturous consideration. The original law authorizing equity crowdfunding, the Jumpstart Our Business Startups Act, was passed in 2010.
The Act allows small companies to publicly raise capital, within limits, without registering as a public company with the Securities and Exchange Commission, while waiving the requirement that investors be accredited. It's taken until now for regulators to work out all the kinks and help provide some protection to investors.
Many in the financing industry are still concerned about the viability of companies that raise money through crowdfunding after being rejected by professional investors such as venture capitalists and angel investors. A startup seeks the validation conferred from professional investors, validation not available with crowdfunding.
However, it's fair to say that crowdfunding companies will include their share of hidden gems that will work out well for investors. And if less-affluent investors pick nothing but losers, the most they can lose in a year is $2,000, a relatively modest amount that hopefully will not break anyone's finances.