By Ted Knutson, CrowdFunding poses a “significant liability” for financial advisors, said University of Mississippi law professor and investor advocate Mercer Bullard on Thursday.
Advisors should tell their clients that investments put into crowd-funded start-ups should come from their fun money, Bullard said, since up to half of those new businesses can expect to be wiped out in three years.
He added that clients should be forewarned that their homes do not count toward the $1 million in net worth investors must have before they can place up to 10 percent of their assets in crowd-funded companies. Yet he said many investors are likely to assume that their residences can be applied to that $1 million mark, which means a significant portion of their savings could be put into the risky investments. While crowd-funding investors are allowed to self-certify their income and net-worth eligibility for the investments under a Securities and Exchange Commission proposal, the law professor said the SEC should protect investors from themselves by requiring them to submit pay stubs as proof.
Some clients with fewer resources will be tempted to use this funding source for their own start-ups, said Bullard, claiming that the sweet spot of crowd-funding will be the type of businessperson who offers the neighborhood a dry cleaning shop within walking distance for the first time rather than an entrepreneur aiming to be the next Google.
Bullard’s comments came during a hearing on crowd-funding held by a subcommittee of the House of Representatives.
In October, the SEC issued a series of proposals to implement provisions of the JOBS Act designed to let primarily small companies advertise for capital over the Internet and to solicit more funding from less-wealthy investors than they could before. (You can see the proposal at http://tinyurl.com/pvo6dwy. Comments are due by February 3, but federal agencies almost always accept submissions after the formal deadline.)
David Schweikert (R-Ariz.), the chairman of the Small Business Subcommittee on Investigations, Oversight and Regulations and author of the JOBS Act, which directed the SEC to develop a crowd-funding framework, has been critical of the barriers.
Schweikert said that the SEC has violated the intent of Congress by proposing complicated rules rather than lowering regulatory barriers for true beginning entrepreneurs trying to raise more money from lower wealth and income-accredited investors.
“The proposed rules could be a chilling effect for the next generation of capital-raising,” he said.
The lead subcommittee Democrat, Yvette Clarke of New York, expressed concern that the disclosure requirements could make crowd-funding costs prohibitive.
Crowdfund Capital Advisors principal Jason Best cautioned that the requirement for CPA-audited financial statements for businesses seeking to raise more than $500,000 through crowd-funding could make that half million dollar figure a soft cap because the legal and accounting obligations could consume 30 percent of the funds raised.