Crowdfunding your startup

Crowdfunding – the aggregation of small payments from a broad base of funders – has been enabled by the technologies of the Internet, particularly social media and easy electronic payments. Filmmakers have been bootstrapping movies with crowdfunding for some time. It has been widely used in the non-profit arena. Kickstarter operates a popular crowdfunding platform for creative endeavors. Kiva is well-known in the microfinance arena., a new Chicago non-profit on whose board I serve, is using crowdfunding to channel aid directly to individuals in need.

Why not, then, use crowdfunding to start your for-profit venture? Well, there’s one very big reason, and it has three letters – S, E, and C. The cardinal principle of federal securities law, as enforced by the Securities and Exchange Commission, is this: any investment offering to the public requires registration of the securities, a complex process beyond the means of nearly every startup – that is, unless there is a valid exemption.

The promising news (if you are an entrepreneur with a good idea and an extensive social network) is that Congress is moving to create a just such an exemption for crowdfunding offerings. The “Entrepreneur Access to Capital Act” (H.R. 2930) passed the House of Representatives with nearly unanimous support, 407-17. A similar bill, the “Democratizing Access to Capital Act of 2011” (S. 1791), has been introduced in the Senate.

The bills are similar, but not identical. Most significantly, the House bill allows companies to crowdfund up to $1,000,000 in any 12-month period – and up to $2,000,000 if the company provides potential investors with audited financial statements. The limit in the Senate bill is a flat $1,000,000. Moreover, the House bill allows a maximum investment by any individual of $10,000, dwarfing the Senate cap of $1,000. (Wrap your mind around the prospect of crowdfunding $1,000,000 in capital, a thousand dollars at a time!) Finally, while the House bill permits the use of “intermediaries” to provide a platform for the administration of crowdfunded offerings, the Senate bill mandates their use. Differences between the House bill and any ultimate Senate version would be worked out in committee before a final bill is sent to the President.

Where does it go from here? The bill is awaiting action in the Senate. Some influential groups, such as the North American Securities Administrators Association (NASAA) and the SEC’s Advisory Committee on Small and Emerging Companies, have expressed concerns about the potential for fraud and abuse. Because President Obama is a supporter, I predict that some kind of crowdfunding bill will reach his desk. However, its simplicity and utility still hangs in the balance. Even after final passage, it’s not quite over until the SEC weighs in with rules to flesh out in some of the details that the legislation leaves out.

More to come.

Categorised as: Fundraising

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