What Are The Legal Risks Of Equity Crowdfunding?

By - October 31, 2025 - Uncategorized

Equity crowdfunding has created new opportunities for startups and small businesses to raise money. Instead of relying solely on angel investors or venture capitalists, businesses can access capital from a wider pool of people (including both accredited and non-accredited investors) in exchange for an ownership stake in the company. While this is an exciting option, it also has a number of legal risks. Breaking rules related to crowdfunding can lead to penalties or lawsuits and have a long-term impact on your business. Before launching a crowdfunding campaign, it’s important to consider these risks.

Navigating the Legal Framework of Equity Crowdfunding

In the United States, the Securities and Exchange Commission (SEC) oversees the federal securities laws that regulate equity crowdfunding. The SEC does this through Regulation Crowdfunding (Reg CF), which was introduced under the JOBS Act. Reg CF is a legal framework that strictly limits who can make an investment, how much money can be raised, and what information the business needs to disclose.

Key requirements under Reg CF include:

• Raising caps: There is a maximum dollar amount that companies are allowed to raise through crowdfunding. This helps ensure crowdfunding continues to be a resource for smaller businesses rather than a replacement for large public securities offerings.
• Investor limits: Depending on the investor’s income or net worth, each person can only make an investment up to a certain dollar amount.
• Platform use: Campaigns can’t be self-hosted, but rather must be run through SEC-registered funding portals or broker dealers.

Violating these regulations could lead to fines, shareholders demanding their money back, or businesses being blocked from fundraising in the future.

Disclosure and Legal Obligations

Companies are legally obligated to provide investors with important information about the business and investment opportunity, including:

• Financial statements
• Descriptions of the business, how it operates, and its leadership team
• Potential challenges and risks that the business faces
• Terms of the securities offering

The information disclosed must be complete and accurate. A company can be held liable if it provides misleading information, exaggerates its potential, or hides key risks of the investment. Companies that don’t comply with these crowdfunding regulations can also face lawsuits from shareholders. Even if you don’t intentionally break the rules, you could still face claims of negligence.

Managing Investors and Their Rights

While traditional crowdfunding backers may receive various perks for their financial contributions, accredited and non-accredited equity crowdfunding investors receive ownership rights. This can create challenges when you have many investors.

For instance, businesses may face issues related to:

• Voting rights: Who will have the right to vote on company matters?
• Profit sharing: Will shareholders be entitled to dividends or other financial returns?
• Disputes: How will you handle disputes between shareholders over company direction, pay, or decisions by leadership?

Shareholder agreements can help limit certain rights, but they don’t get rid of all investor protections. Having multiple investors can also make it difficult to communicate effectively with everyone.

Intellectual Property Risks Under Varying State Laws

When running a crowdfunding investment campaign, businesses often have to share details about their product, service, or strategy. While this may help attract investors, it can also create risks related to intellectual property (IP), especially when information is shared on public crowdfunding platforms.

Common IP-related risks include:

• Loss of trade secrets: A proprietary idea or method might not be considered a trade secret once it’s been disclosed.
• Copycats: When company information is made public, competitors may use it to replicate your business model.
• Trademark or copyright issues: You’ll have to make sure promotional materials don’t violate others’ IP rights.

It’s also important to keep in mind that IP-related laws can vary from state to state. If your company operates or raises money in multiple states, it’s crucial to be aware of the different state laws. It can also be helpful to protect intellectual property through trademarks, patents, and/or NDAs.

Ongoing Reporting Requirements That Regulation Crowdfunding Imposes

Legal obligations don’t end just because a crowdfunding campaign does. Under regulation crowdfunding rules, companies must continue to meet requirements on reporting and recordkeeping.

These requirements may include:

• Annual reports: Companies have to file updates—including financial statements and business updates—with the SEC every year.
• Shareholder communications: Businesses are required to inform shareholders of significant changes.
• Recordkeeping: Companies must keep accurate records of securities issued and details about investors.

If your company fails to comply with these requirements, the SEC may take action to enforce them. You could also face lawsuits from shareholders. Additionally, it’s important to keep in mind that even though recordkeeping and reporting can be expensive, you’re still obligated to follow any appliable regulation, so try to plan for these expenses.

Exit Strategies and Future Financing

Equity crowdfunding can make exit strategies and future rounds of financing more complicated. That’s because it can be more challenging to manage buyouts, mergers, or acquisitions when you have multiple small shareholders. These challenges could scare off potential buyers or larger investors.

A few risks related to exit strategies and future financing include:

• Having trouble raising additional funds: If the cap table is filled with small shareholders, larger investors may be hesitant to finance a company.
• Buyout complications: Negotiating buyouts can be time-consuming when many investors are involved and can delay or derail an investment deal.
• Exit disputes: If a shareholder feels the terms of an acquisition undervalue their shares, they may be hesitant to agree to those terms.

It’s also important to consider how crowdfunding could impact your company’s long-term growth. You may need to employ legal arrangements like shareholder agreements or drag-along rights to help prevent problems down the road.

As you can see, there are a variety of risks involved in these types of crowdfunding campaigns. Fortunately, working with a business attorney can help ensure your investment offering is set up properly, maintains compliance with applicable securities regulations, and supports your company’s long-term interests. To learn more about working with an attorney and book a free consultation, contact Steven’s Law Firm today.