Crowdfunding and the New Federal Jobs Act by Cliff Ennico

Cliff EnnicoAs I am writing this, a new law called the “Jumpstart Our Business Startups Act” (J.O.B.S. for short) has passed both houses of Congress and is sitting on the President’s desk awaiting signature.

Among other things, the law will change the federal securities laws to make it easier for small companies to raise capital from total strangers by “crowdfunding” – soliciting small investments from hundreds (sometimes thousands) of individual investors and their retirement accounts through online advertising.

Up to now, there have been two major regulatory roadblocks to “crowdfunding” in the United States:

  • the Securities and Exchange Commission (S.E.C.) requires a startup company to go through the cumbersome initial public offering (IPO) process if it intends to sell more than $1 million in securities by “general solicitation or general advertising” (basically any means of mass communication, including the Internet); and
  • even though offerings of less than $1 million are exempt from this requirement, the securities laws (known as “blue sky laws”) of most states impose additional restrictions on these small offerings – for example, in Connecticut, the proposed sale of securities to more than 10 people (whether or not Connecticut residents) triggers a requirement that the company file a detailed business plan with the state Department of Banking.

The new J.O.B.S. Act opens the door to crowdfunding in two major ways:

  • it states clearly that offers and sales of up to $1 million in securities may be sold by “general solicitation and general advertising” as long as certain conditions are met (more on those later); and
  • it expressly overrules state “blue sky laws” that are inconsistent with the federal law.

So small companies looking to raise capital should be breaking out the Champagne, right?

Not so fast . .

The J.O.B.S. Act imposes a few conditions on “crowdfunding”.  Here are the most important:

  • the amount of each individual’s investment is limited to $2,000 or 5% of the individual’s annual income or net worth, whichever is larger, if the individual’s annual income or net worth is less than $100,000;
  • the amount of each individual’s investment is limited to $100,000 or 10% of the individual’s annual income or net worth, whichever is less, if the individual’s annual income or net worth is $100,000 or more;
  • the transaction must be accomplished exclusively through a “funding portal” that is registered with the S.E.C.;
  • the company files an offering statement with the S.E.C. and delivers copies to each investor; and
  • the company agrees to file an annual report on its operations and financial condition with the S.E.C. and delivers copies to each investor.

The offering statement must contain the following information:

  • the company’s name, legal status, physical address and website address;
  • the names of its directors and officers (for a corporation) or managing members (for a limited liability company), and each person owning more than 20% of the company’s securities;
  • a description of the company’s business and its anticipated business plan;
  • a description of the company’s financial condition, including tax returns and financial statements reviewed by the company’s president (for offerings of up to $100,000), financial statements reviewed by an independent accountant (for offerings of $100,001 to $500,000) and audited financial statements (for offerings of $500,001 to $1 million);
  • a description of how proceeds of the offering will be used;
  • “the target offering amount, the deadline to reach the target offering amount, and regular updates regarding the progress of the issuer in meeting the target offering amount”;
  • the offering price of the securities and the method the company used to set the price;
  • a description of the company’s ownership and capital structure and “the risks to purchasers of the securities relating to minority ownership in the issuer, the risks associated with corporate actions, including additional issuances of shares, a sale of the issuer or of assets of the issuer, or transactions with related parties”; and
  • such other information as the S.E.C. may require by regulation.

In other words, companies desiring to use the “crowdfunding” option will have to go through much of the paperwork involved in an initial public offering (IPO), although on a streamlined scale, and will have to file annual reports with the S.E.C. just like public companies do.

Presumably, entrepreneurs setting up “portals” for crowdfunded offerings will help their customers with the necessary paperwork and monitor each customer to ensure compliance with the law.  But those entrepreneurs will have to wait a while.  First, the S.E.C. will have to develop rules for companies wishing to register as “funding portals” (the law gives the S.E.C. 270 days to do this).  Next, the S.E.C. will have to review and approve applications by companies seeking “portal” status.  You just know those first few applications will take a while to work through the system.

In short, while the J.O.B.S. Act is a step in the right direction, don’t hold your breath that your company will be able to “crowdfund” any time soon.

Cliff Ennico (, a leading expert on small business law and taxes, is the author of “Small Business Survival Guide,” “The eBay Seller’s Tax and Legal Answer Book” and 15 other books.

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