New York and New Jersey Entrepreneurs May Be Able to “Crowdfund” Their Businesses Soon Under New Federal Rules

2008-03-13_Rave_crowd.jpgNew federal laws may allow entrepreneurs and small business owners to seek investors publicly without having to go through the complex and expensive process of creating an initial public offering (IPO). New businesses may soon be able to raise capital via social media and the internet, in a process known as “crowdfunding.” Currently, websites like Kickstarter allow people to crowdfund creative projects, but businesses seeking equity investments have had to follow strict regulations enforced by the Securities and Exchange Commission (SEC). New rule proposals recently issued by the SEC, however, may change that.

Entrepreneurs have generally had to limit their efforts to raise capital to private sources. According to Forbes, most startup capital comes from the entrepreneurs themselves, who might invest their own savings, take out loans, or use credit cards. Family members, such as parents and spouses, account for a small percentage of startup capital. “Outsiders,” including government programs, venture capitalists, angel investors, and other businesses, account for some startup financing. Venture capitalists fund 0.04% of all startups, and angel investors fund 0.91%. Despite such a small percentage of businesses, venture capitalists are expected to invest $2.7 billion in New York-based startups in 2013. A startup seeking individual equity investors may only approach people who meet certain criteria as “accredited investors,” such as individuals whose net worth is at least $1 million or whose annual income exceeds $200,000.

The Jumpstart Our Business Startups Act (JOBS Act) became law in April 2012. Its purpose was, in part, to help businesses that are not large enough for an IPO but have difficulty raising capital through private channels. It raises the maximum number of shareholders corporations may have, from five hundred to two thousand, before they are required to register with the SEC. The JOBS Act allows companies to raise up to $1 million per year from individual investors, and it greatly relaxes the restrictions on who may invest. Individual investors with a net worth or annual income below $100,000 may invest up to the greater of $2,000 or five percent of their annual income, while investors with a net worth or annual income above $100,000 may invest a maximum of ten percent of their annual income. Companies must still provide information to the SEC, such as names of directors and officers, but the reporting burden is far less than for fully public companies.

The provisions of the JOBS Act allowing crowdfunding took effect on September 23, 2013, and the SEC has issued a proposal for regulations governing the crowdfunding process. The SEC’s stated goal is to balance business’ capital needs with the need to protect potential investors from fraud. Companies must use intermediaries, which may be similar to websites like Kickstarter, to raise capital by crowdfunding. These intermediaries must be certified by the SEC, and the companies seeking capital must make various financial disclosures. The public may comment on the proposed rules for a period of ninety days.

Business attorney Samuel C. Berger offers fixed-fee legal-service packages to New York and New Jersey entrepreneurs and businesses, representing clients in a variety of legal matters. Our goal is to enable our clients to understand their rights and obligations, to help their operations run smoothly, and to grow their businesses, and to realize their dreams. Contact us today online or at (212) 380-8117 to schedule a confidential consultation with a member of our legal team.

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Statute of Limitations for Civil Suits by the SEC is on the Supreme Court’s Docket: Gabelli v. Securities and Exchange Commission, New York & New Jersey Business Lawyer Blog, October 12, 2012
State Small Business Credit Initiative Creates Loans for New York and New Jersey Small Businesses, New York & New Jersey Business Lawyer Blog, January 10, 2012
Photo credit: By Ildar Sagdejev (Specious) (Own work) [GFDL or CC-BY-SA-3.0-2.5-2.0-1.0], via Wikimedia Commons.