Becoming a Crowdfund Investor: Risks and Potential Rewards - dummies

Becoming a Crowdfund Investor: Risks and Potential Rewards

By Sherwood Neiss, Jason W. Best, Zak Cassady-Dorion

Part of Crowdfund Investing For Dummies Cheat Sheet

Make no mistake: Crowdfund investments are high risk. On average, 50 percent of new companies fail within their first year, so these investments should be only a small part of your overall financial portfolio. If you’re completely risk averse, you have no business investing in small, private companies at all. If, however, you can tolerate volatility and risk in a small portion of your portfolio for the sake of potentially receiving some significant financial returns, a crowdfund investment may make sense.

To try to decrease your risk, keep these investment mantras firmly in mind:

  • I will invest only in people I know and trust.

  • I will invest only in products or services I will use myself.

  • I will invest only in businesses in which I want to be active as a marketing engine, as an advisor, and/or as an unpaid service provider.

  • I understand that this is a long-term investment, I may never see my investment, and if I do it may be a long time off and may not be the amount I put in.

  • I am investing only as much as I can afford to walk away from today.

If you’re an unaccredited investor (meaning your net worth is less than $1 million excluding your primary residence, and you haven’t earned more than $200,000 for each of the past two years), you can’t invest every dime you’ve got in crowdfund investment campaigns. Per the JOBS Act, the Securities and Exchange Commission (SEC) sets specific limits on how much any individual can invest. Here’s the breakdown of how much the SEC allows you to risk on crowdfund investments based on your annual income or net worth.

SEC Investment Limits Based on Annual Income or Net Worth
If Your Annual Income or Net Worth Is . . . You Can Invest Up To . . . Which Caps Out At . . .
Less than $40,000 $2,000 $2,000
$40,000 to $99,999.99 5% of your annual income or net worth $5,000
$100,000 or more 10% of your annual income or net worth up to $100,000 $100,000

Keep in mind that each example reflects an aggregate amount: the total amount that you can put into all your crowdfund investments each year.

Another two pieces of must-know information:

  • If you purchase equity in a business via a crowdfund investment, by law you must hold that investment for at least 12 months from the time of purchase. So, take your time and make solid decisions upfront because you can’t retreat for at least a year.

  • After these securities are tradable, a market may not develop unless there is demand for them. So, just because you don’t have to hold onto them anymore doesn’t mean that you’ll be able to get rid of them. Have a long-term horizon when making these investments.