Finding the money to finance an enterprise is often the biggest challenge that entrepreneurs face. The more unusual or innovative a business is the harder it may be to find investors. Venture capitalists and angel investors can be hard to find, but can often bring a boom for online entrepreneurs.
However, Securities and Exchange Commission (SEC) regulations have made it harder and more expensive to raise capital for online entrepreneurs. Congress hoped to change this with a provision to the 2012 JOBS Act that allowed for crowdfunding, raising money for online ventures. Under current law, crowdfunding must be a donation with no promise of financial returns.
The regulations crowdfunding authorized will allow a company to raise up to $1 million a year and issue stock or equity to investors. However, regulated crowdfunding will not be legal in the U.S. until the SEC approves a set of rules for it. The problem is that the rules approved by the SEC require a company that engages in crowdfunding to engage in the kind of reporting, auditing, and accounting that any other stock company does and anybody who has ever dealt with an accountant or an attorney knows that can get real expensive real fast.
Consequently, it could cost $39,000 to raise $100,000 through crowdfunding, Sherwood Neis of Crowdfund Capital Advisors wrote in Venturebeat magazine. Neis thinks that the compliance costs required by the SEC will increase the cost of crowdfunding 12.9% to 39%. If he’s right, it would be cheaper to use some credit cards to finance a startup than to use regulated crowdfunding.
Neiss thinks crowdfunding will only be worthwhile if you need a lot of money. He thinks it might be worthwhile for those who need to raise $500,000 or more. That means those who can find alternatives to regulation crowdfunding should use them.
Even with its limitations, crowdfunding could be a useful tool for some entrepreneurs. However, you’ll need a really compelling idea that will catch the popular imagination for crowdfunding to work. You’ll also need some patience, and plan to deal with lawyers and accountants.
All companies that engage in regulated crowdfunding will have to provide investors with a business plan and specific financial records, including a valuation of the company under the new rules, which are expected to go into effect this year.
A company that raises up to $100,000 will have to provide two years of financial statements and a tax return to the SEC. Companies that raise between $100,000 and $500,000 will have to provide financial statements that have been reviewed by an independent certified public accountant (CPA). Companies which raise over $500,000 will have to be audited just like any stock company.
Crowdfunding websites will charge a fee for raising money online, which can vary widely, and get pretty expensive. Regulated crowdfunding might be a useful tool for online entrepreneurs that cannot raise money elsewhere. But regulating crowdfunding may also make it too expensive for most entrepreneurs to take advantage of.