Crowdfunding, Crowdinvesting, Kickstarter, and the JOBS Act
Provided by HG.org
In 2012, the US federal government passed a bill called the JOBS act. Among its provisions was one allowing for small investments in exchange for equity in that company or project without having to go through the SEC or qualify as an investor. What is the difference between crowdinvesting and crowdfunding, what is Kickstarter, and how does it all work from a legal standpoint?
Kickstarter is famous for crowdfunding. The idea behind crowdfunding is to allow inventors or other creative types to ask millions of strangers to contribute a relatively small amount of money to help them reach a funding goal designed to facilitate the creation of some thing, be it a product, a book, a film, etc. In exchange for the small investments, the start-up seeking funding pledges something of value in return. So, in a way, Kickstarter's model is essentially a method of allowing pre-orders for merchandise or services. Other websites offer similar services without the pre-order element, such as gofundme.com, turning the process into more one of simple panhandling via the internet in an effort to get funded for whichever idea, goal, dream, etc. the user needs money for.
However, crowdfunding is unique from traditional forms of financing in several ways. First, unlike more traditional means of raising capital, there is no repayment of cash required. Although Kickstarter relies on the granting of rewards for funding, these rewards can be grossly disproportionate to the amount of funds contributed, such as tee-shirts with corporate logos given after a $50 contribution. Other sites require no return at all. Those who “invest” in crowdfunded projects are really just paying into helping a dream come true or a product come to market. The return on such “investment” is usually seeing the product come to market and become available for purchase.
Crowdinvesting, on the other hand, is a bit more complicated. In crowdinvesting, any person can invest a certain amount of money into a company and then receive equity without having to go through the SEC or be a qualified investor. Much of the rest of the world has used this method of investing, sometimes called “microinvesting,” for years. Because a crowdinvestor is essentially buying a small piece of the equity of a company, it is similar to the concept of public stock sales, but it is not as thoroughly regulated. To qualify, investments must remain under a certain dollar threshhold to prevent triggering more stringent SEC requirements and investor protections. Crowdinvestors actually do expect a financial return on their investments, not simply a payout in the form of promotional items or seeing a dream fulfilled.
Once crowdinvesting was legalized under the JOBS act, many were hopeful that Kickstarter, with its large infrastructure for crowdfunding, would add crowdinvesting to its portfolio. However, that does not appear to be in Kickstarter's future plans. Given the existing regulation of investments versus simple funding, and the potential for even more in the future, its hesitancy to enter this new area of crowdsourced financing is understandable. It is also possible that Kickstarter, which has already had its share of scandals from fully funded projects not making it to market, is worried about the increased threat of fraud and liability that would likely come from people giving over money and expecting a financial return on that investment.
This leaves something of a void for investors interested in dabbling in relatively small, high-risk/high-return investments, and those seeking capital through crowdinvesting. If you are considering starting a platform for crowdinvesting, you should carefully analyze the requirements set forth in the JOBS act and contact an experienced securities attorney who can help you to understand the process and legal requirements for such an enterprise. Similarly, if you are a start-up seeking funding through crowdinvesting, you should also seek the assistance of counsel to ensure that you do not run afoul of the requirements of this relatively new law. On the other hand, if you are an investor who believes you have been defrauded through a crowdinvesting scheme, you should contact an attorney for assistance in prosecuting this claim, as well as the SEC, who may investigate and take action, including possible federal criminal sanctions, against the responsible party.
Read more on this legal issueHow Does Venture Capital Work?
Doing Due Diligence: Private Investigation of Your Business Partners and Contracts
Legal Considerations in Using Other People’s Money to Start Your Business
How to Pay for the Purchase of a Business
Disclaimer: While every effort has been made to ensure the accuracy of this publication, it is not intended to provide legal advice as individual situations will differ and should be discussed with an expert and/or lawyer.