Step 1: Calculate your crowdfinancing investment limits
Published on March 30, 2016
Based on your income, net worth, and tolerance for risk, decide what portion of your overall investment portfolio you will allocate to equity crowdfunding deals — not more than 5 or 10 percent for most people.
The first step in the seven-step crowdfunding investment plan is to calculate the maximum amount of money that you are allowed to invest each year in Title III offerings.
Title III of the Jumpstart Our Business Startups (JOBS) Act of 2012 sets forth yearly investment limits based on investors’ income and net worth. Congress’s intent was to help prevent catastrophic losses being incurred by inexperienced investors in high-risk, private securities. On October 30, 2015, the Securities and Exchange Commission issued rules (designated Regulation CF) which clarified those limits as follows:
- If an individual’s annual income or net worth is less than $100,000, he or she may invest the greater of (a) $2,000 or (b) 5 percent of the lesser of his or her annual income or net worth, over the course of the year.
- If the annual income and net worth of the individual are both greater than $100,000, he or she may invest up to 10 percent of the lesser of his or her annual income or net worth, but not more than $100,000, per year.
- Spouses may combine their incomes for the purpose of the income test.
- In calculating net worth, investors may not include the value of their primary residence.
The SEC provides guidance on calculating your net worth in its Investor Bulletin dated February 16, 2016.
Title III Investment Limit Worksheet
Current annual income $________________
Current net worth (excluding residence) $________________
Circle the dollar amount that is lower (income or net worth)
If either your income or your net worth is less than $100,000, then your investment limit is the greater of:
- $2,000 or
- 5% of the circled dollar amount above
If both your income and net worth are at least $100,000, then your limit is 10% of the circled dollar amount above, up to the absolute limit of $100,000 per year.
Investors may self-certify that they are complying with their investment limits, when they invest through crowdfunding platforms. In other words, they do not have to submit tax returns, bank statements, or other documentation to prove it.
The statutory investment limit is one thing. Your personal limit, based on your portfolio strategy, could be different, maybe lower.
The basic principle here is: Your investment portfolio should contain mostly public securities—stocks, bonds, mutual funds, money market funds, etc.—which are considered relatively safe and liquid. Private securities—equity investments in startups, for example—add diversification to your portfolio, which is good. But because private securities are relatively risky and illiquid, they should represent only a small percentage of your total investments. For most inexperienced angel investors, that percentage allocated to private securities should be no more than 5 or 10 percent, depending on your tolerance for risk. For experienced angel investors, the percentage may be as high as 15, and for family offices and institutional investors the percentage may be even higher. Before you decide set your allocation above 10 percent, seek advice from a professional investment adviser who understands private securities and alternative assets.
If in doubt, start with 5 percent of your investment portfolio. Don’t sell anything in your portfolio solely to free up cash for equity crowdfunding investments—use your discretionary income for equity crowdfunding, so you’ll be adding to your portfolio instead of replacing something already in it.
Now you have a statutory limit (based on the Title III of the JOBS Act) and a portfolio limit (based on your allocation percentage). Make sure you use the lower number as your guideline. This number is your crowdfunding investment limit for the next 12 months. The goal is to be patient and invest only in offerings that you feel positive about, not necessarily invest up to your limit each year.
Even if your annual limit is $2,000—the lowest level possible—you may be able to invest in several Title III offerings each year, depending on the minimum investment in each offering. Issuers set minimum investment levels for each offering, and those minimums might be well under $1,000. [Update 5/16/16: In fact, many Title III offerings have minimums as low as $100.]
You should re-calculate your limits, both statutory and portfolio, each year, as the numbers will probably change along with your income, net worth, risk tolerance, and value of your portfolio.
Related Articles and Resources
1. Equity Crowdfunding Laws and Regulations
Clear, authoritative summary and analysis of the SEC rules under Title III (Regulation CF), published by CrowdCheck (23-page PDF doc) http://www.crowdcheck.com/sites/default/files/CrowdCheck Regulation CF Memo.pdf
Rules for the operation of Title III crowdfunding portals, issued in October 2015 by the Financial Industry Regulatory Authority (FINRA) http://www.finra.org/industry/rule-filings/sr-finra-2015-040
2014 legislative proposal to revise Title III of the JOBS Act: the Equity Crowdfunding Improvement Act of 2014 (discussion draft)—http://financialservices.house.gov/uploadedfiles/bills-113hr-pih-crwdfnd-m001156.pdf “Crowdfunding 2.0,” a summary of the proposed Equity Crowdfunding Improvement Act, by Sheppard Mullin Richter law firm (published in National Law Review 6/25/14)—http://www.natlawreview.com/article/crowdfunding-20-proposed-equity-crowdfunding-improvement-act-2014
Jumpstart Our Business Startups Act (H.R. 3606), signed into law April 5, 2012; the entire original act (22 pages) published by the GPO http://www.gpo.gov/fdsys/pkg/BILLS-112hr3606enr/pdf/BILLS-112hr3606enr.pdf FAQs about the JOBS Act, published by the SEC (updated January 2014) http://www.sec.gov/spotlight/jobs-act.shtml
2. Investment Portfolio Strategy and Asset Allocation
Beginners’ Guide to Asset Allocation, Diversification, and Rebalancing, published by the Securities & Exchange Commission (updated 2009) https://www.sec.gov/investor/pubs/assetallocation.htm Portfolio Allocation Models, posted by Vanguard Group https://personal.vanguard.com/us/insights/saving-investing/model-portfolio-allocations
AAII Asset Allocation Models, posted by the American Association of Individual Investors, updated 12/31/15 http://www.aaii.com/asset-allocation
A Guide to Asset Allocation, published by Franklin Templeton Investments in 2014 https://www.franklintempleton.com/forms-literature/download/ALLOC-G
About the Authors
David M. Freedman and Matthew R. Nutting are authors of Equity Crowdfunding for Investors (Wiley & Sons, 2015).