The SEC JOBS Act and Title III Crowdfunding

Congress passed the Jumpstart Our Business Startups (JOBS) Act way back in April of 2012 — and the startup world rejoiced. Finally, we’d be able to raise money through non-accredited investors, just like all of our friends were doing to pay for their EPs and trips to South America and medical procedures! Crowdfunding — which the startup world invented — was finally a legal option for startups.

So what’s so great about the American JOBS Act, anyway? The ability to raise equity crowdfunding without having to make a public offering is probably the most significant change that the JOBS Act made, of course. Any startup founder can tell you that raising money from friends and family — or, if you have the right type of product, running a crowdfunding campaign — is essential for getting those early dollars.

And, of course, those early dollars are essential for any startup’s survival.

But before we jump into the weeds of the JOBS Act — and trust me, it’s wetlands-level weeds in there — let’s talk a little bit about equity crowdfunding.

Equity crowdfunding vs. rewards-based crowdfunding

There are two main types of crowdfunding: equity and rewards-based crowdfunding. Usually when people talk about crowdfunding, they’re referring to rewards-based crowdfunding. That’s probably the type you’re most familiar with: It’s what Kickstarter does. Companies offer tiers of rewards in exchange for different levels of support.

Rewards-based crowdfunding a great way to raise money from your community, but it’s rarely a good resource to raise the level of money that many startups are looking for when they’re raising a round. Sure, there are the occasional astronomical raises — Pebble Time pulled in more than 20 million for their watch — but in 2016, for example, no one raised more than $600k on Kickstarter. In comparison, the average seed round (or first round) of funding for startups in 2016 was $1.4 million. That’s more than double what the top earners are raising on Kickstarter.

Which brings us to equity crowdfunding.

Equity crowdfunding

Equity crowdfunding is closer to the traditional ways that startups and SMBs have raised funds. Instead of rewards in the form of physical objects, investors get equity in the company. Equity crowdfunding is primarily for private, early-stage companies and leads to a more involved, longer term relationship between investors and companies than rewards-based crowdfunding.

The biggest pro of equity crowdfunding is that you can raise larger amounts of money in a public way. But the biggest con is that give up some ownership of your company in exchange for that money. Rewards-based crowdfunding, on the other hand, allows you to retain full ownership of your company but typically leads to smaller raises.

Equity crowdfunding is very similar to traditional fundraising, with two key differences that have come from the JOBS Act:

1. It lets startups raise publicly
2. It allows for investment from non-accredited investors.

“In determining if equity crowdfunding is a fit for your company, it is important to consider your ability to build a community around your business, or tap into an existing one,” Ryan Rutan, founding partner of the startup crowdfunding site Fundable and Chief Innovation Officer at Startups.co, says. “Exposure to investors via crowdfunding is often left to chance or seen as a foregone conclusion that the platform will provide the traffic. It must be a core focus of the startup to drive as much awareness as possible – and that generally starts months before the raise.”

So how, exactly, has the JOBS Act changed the crowdfunding scene? Let’s take a look at the two most important sections for startups: Title II and Title III.

Title II of the JOBS Act

Title II of the JOBS Act went into effect in 2012 and has led to almost $1.4 billion raised. This section lets startups raise money from accredited investors, publicly. Before Title III passed, startups weren’t allowed to announce publicly that they were raising. That (obviously) makes it harder to raise. And the reason it’s been more successful than Title III is probably related to the facts that, a) investment firms have lots of money and therefore it’s easier to deal with paperwork and, b) they’re not limited by that pesky $1 million cap.

Title III of the JOBS Act

Title III is the section of the JOBS Act that lets startups raise money from non-accredited investors publicly. Previously, you had to have an income of more than $200,000 a year and a net worth of at least $1 million. With Title III of the JOBS Act, anyone can now technically invest via equity crowdfunding.

Title III of the JOBS Act went into effect in the spring of 2016 but, unfortunately, rollout hasn’t been great. The first issue is that it has a $1 million cap. That’s okay for smaller startups raising early rounds — but not so appealing for anyone wants to raise a larger round. Title III also involves a lot of time-consuming paperwork, all of which lawyers have to review.  For the privilege of raising only $1 million, it’s not worth it for many companies to go with non-accredited investors.

There’s also the not-so-tiny problem that some accredited investment firms don’t want to invest in companies that have non-accredited investors. (And honestly, can you blame them? From their perspective, it’s asking the pros to work with the amateurs.)

Fixing the JOBS Act

But don’t worry — this isn’t the last we’ll see of JOBS Act Reform. Before Title III was implemented last year, Congress introduced a bill called the Fix Crowdfunding Act. The goal is to raise the cap to $5 million. It would also allow entrepreneurs to “test the waters” for investor interest before opening a public round. The bill should also reduce the cost of raising money by decreasing the amount of paperwork startups would have to complete.

It sounds like the government is taking a cue from the startup world and iterating on this problem, doesn’t it? Too bad they can’t take another hint from us and make that rapid iteration. Maybe then we’d finally get the JOBS Act that works for us.

In the meantime, if you’re interested in learning more about crowdfunding — or starting a crowdfunding campaign — why not head over to Fundable and get a campaign started?

Reference: https://obamawhitehouse.archives.gov/economy/jobsact