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Grading the SEC’s Proposed Crowdfunding Changes

Grading the SEC’s Proposed Crowdfunding Changes
By Andy Gordon
Date July 15, 2020

The SEC is about to make a series of modifications to equity crowdfunding regulations. These updates come a little more than four years after it first enabled regular investors like you and me to crowdfund startups. 

Back then, the SEC was mostly concerned with protecting investors. But the limits, restrictions and procedural requirements designed to protect investors had the unintended consequence of preventing crowdfunding from taking full flight. 

The SEC has to get these new rules right. We have no idea when the crowdfunding rules will be reevaluated  again. But it won’t be soon. This year’s changes will likely determine the course of crowdfunding for the next five to ten years. 

So it’s worth asking, did the SEC do enough? Is it making crowdfunding more user-friendly and attractive? Did it make changes that appeal to both startups and investors? 

To achieve that, the SEC needs to significantly lower costs — both in terms of money and time — for startups. It’s also absolutely necessary to simplify and streamline crowdfunding rules for investors. I’ve spent the last five years explaining them to my readers. If you don’t know the rules, you can’t make the best decisions on how to invest. 

And crowdfunding is unnecessarily complicated. Fewer and more straightforward rules would increase understanding and lead to wider adoption. That would raise the odds of long-term success for both startups and their investors. 

The finalized changes should be coming out later this year. Exactly when is hard to say — especially given everything that’s going on right now. The SEC recently concluded the comments phase for its proposal (published in March) to update Reg CF (crowdfunding) rules (as well as Reg A+ and Reg D (506c) rules). If the SEC acts before the year is out, I’d consider it a victory.

Before the SEC’s final round of changes becomes official, here’s how I grade its draft proposals in three key areas…

Lowering costs. Right now, startups can only raise $1.07 million under Reg CF. Increasing the maximum raise for startups $5 million — as proposed —  is a big improvement. That’s a lot more capital for startups to work with. But most startups need more than $5 million to work with. So even at the higher $5 million level, companies still have to think hard before committing the time, effort and cost it takes to do a successful Reg CF raise. 

Crowdfunding under Reg A+ doesn’t fully solve this problem for startups. Startups can raise more than $5 million under Reg A+. But they have to expend even more time and money (thanks to needlessly tough SEC rules) to get that capital. Startups shouldn’t have to be in permanent fundraising mode. 

The best solution is to allow startups to raise $30 million underReg CF. It would have a dramatic and immediate impact on the startup space. 

Many of the most promising startups crowdfunding today reach their $1 million targets in less than a week. At that rate, raising $5 million would take about a month. Reaching $15 million would take three months. And it would take about 6 months for startups to raise $30 million. These are types of scenarios startups going the VC route are used to. And if crowdfunding could match it, more top-notch startups would turn to the crowd instead. 

Raising the fundraising limits definitely helps founders. But it also helps investors. Higher limits mean the best startups are more likely to crowdfund. And that leads to better investment opportunities. 

The SEC is also trying to eliminate another time-cost issue for investors. Current government rules force investors to limit their overall annual CF investments. This means investors must keep close track of each individual startup investment they make. It’s particularly burdensome for individuals investing through more than one equity crowdfunding portal. 

No such limits are placed on property investments, precious metal investments, forex trading or even buying lottery tickets. It’s completely unwarranted. In its proposed updates, the SEC would raise the investment limit for nonaccredited investors by basing it on the higher (instead of the existing lower) requirement of either their net worth or income. This doesn’t go nearly far enough. The SEC should end this nonsense now. Particularly since this rule is not practically enforceable. Final grade: C-


Simplify and streamline. Investment terms among the major portals should be standardized. There are so many types of securities that startups can choose from. Common equity. Preferred equity. Convertible notes (with and without discounts). SAFEs. It’s too complicated. SAFEs especially would benefit from standardization. Right now, serious investors have to pour over the fine print of individual SAFEs. The SEC did nothing to address this.

The SEC also declined to simplify the mechanics of raising money. Startups can raise up to $1 million under Reg CF. That increases to $20 million under Reg A+ Tier 1 and up to $50 million under Reg A+ Tier 2. All of these have different cost structures. All have different reporting and auditing requirements. But only one has to follow Blue Sky laws. Do you have any idea which one? Of course you don’t. It’s Reg A+ Tier 1.

It’s complicated and unwieldy for both founders and investors. And right now, the SEC isn’t doing anything about it.

I believe there should be one set of rules to govern all crowdfunding activity.  Let’s get rid of the Tier One pathway and the blue sky laws that force startups to conform to 54 different sets of laws (50 states plus four territories). Final grade: D


Rules that contribute to long-term success. Just the single change of increasing the CF raise max immediately reduces funding risk. Every time a startup raises, there’s a chance it won’t go well. The less often they have to go to the well, the better their odds of surviving. 

But the SEC’s proposal to allow CF companies to “test the waters” before beginning a raise doesn’t move the needle. Its proposal to remove out-of-date rules that constrain advertising campaigns is also welcome but not game-changing.  Grade: B-

Crowdfunding (not to mention the economy as a whole) can use all the help it can get. But the SEC didn’t quite rise to the occasion. The SEC is thinking small at a time when it should be thinking big. But at least it’s giving crowdfunding a nudge  in the right direction. And when the final changes are issued, we can give the SEC a small measure of our thanks. Crowdfunding is still on course.

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