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How New Equity Crowdfunding Rules Will Benefit Black Entrepreneurs

Minority-owned businesses in the U.S. lag far behind white-owned companies. The SEC’s new rules could change that.

How New Equity Crowdfunding Rules Will Benefit Black Entrepreneurs
[Photo: Hero Images/Getty Images]

According to a 2006 study, African-Americans are 79% more likely to be interested in entrepreneurship than whites. Yet African-American–owned businesses have lower annual revenues, profits, and payrolls and fail at higher rates than white-owned businesses. The Securities and Exchange Commission (SEC) recently passed new rules on equity crowdfunding that have the potential to change all that.

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The Demographic Divide

According to the Minority Business Development Agency (MBDA), there are 1.9 million African-American–owned firms in the United States that annually contribute $136 billion and 910,000 jobs to the American economy. The ranks of those companies have grown dramatically over the past decade, with black business ownership growing at roughly triple the national rate of new firms created between 2002 and 2007.

Yet African-American–owned businesses still lag far behind white-owned businesses in the U.S. The former have average annual revenues of only $72,000, compared with $490,000 for non-minority–owned companies. With lower sales, African-American–owned firms likewise pay their employees less; employees at the average minority-owned firm earn an annual salary of roughly $26,000, compared to $29,842 at non-minority employers. And as of 2007, the latest year for which data are available, just 6% of black-owned businesses were even large enough to have employees in the first place.

Access to financial capital remains the key barrier facing black entrepreneurs. African-American–owned businesses with gross receipts above $500,000 are three times as likely to be denied loans as white-owned firms of similar size. And while the Small Business Administration’s 7(a) lending program guaranteed about 44,300 loans in 2012, only 1,080 of the businesses that received them were run by black entrepreneurs.

Where Crowdfunding Comes In

Equity crowdfunding is emerging as a way to increase capital access to the black-owned businesses that need it most. Until recently, average Americans have been prohibited from using platforms like Kickstarter and Indiegogo to invest directly in promising local businesses in exchange for a return.

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That right has been the sole preserve of “accredited investors”–comparatively wealthy individuals and institutions worth over $1 million, a select group that amounts to the top 2% of the U.S. population.

But the SEC’s new rules, released under Title III of Jumpstart Our Business Startups Act (JOBS Act), will allow many more Americans to directly invest in local businesses, letting many more minority-owned companies raise capital when the rules take effect in February 2016.

This comes at a time when millennials, who some experts believe are more interested in impact investing, look poised to benefit from the largest intergenerational wealth transfer in human history. In this evolving climate, black entrepreneurs in particular have a lot to gain.

The Upsides Of Expanding Equity Crowdfunding

Equity crowdfunding reduces risk by spreading out investment stakes to many instead of just a few. On average, because of the difficulty securing external financing, minority business owners are slightly more likely to put a higher percentage of their own funds into startup costs than are white entrepreneurs. It’s no secret that crowdfunding can offer an appealing alternative.

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What’s more, equity crowdfunding might also help black investors build wealth. Under current SEC rules, online platforms that focus mostly on African-American businesses haven’t really succeeded because most communities of color don’t have the wealth to qualify as accredited investors. By lowering the bar for individuals to invest, the SEC is making it easier for more people to gain a stake in minority-owned ventures, which could in turn narrow the racial wealth gap.

Finally, the new rules might have dramatic effects on low-income neighborhoods. According to Robert Fairlie of the National Poverty Center, increasing the number and average employee base of minority-owned businesses by just 10% would create some 1 million new jobs for minorities.

What Needs To Happen First

But in order for the new SEC rules to realize their full potential, several changes need to take place first. Crowdfunding platforms need to do a better job than they have in the past of directing capital toward minority entrepreneurs.

Community outreach in low-income neighborhoods will also be crucial. Entrepreneurs and investors in those communities will need to learn how to take advantage of the new tools, both from a technological and business perspective.

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Finally, as the 2016 presidential candidates draw national attention to the importance of small businesses to the economy, that conversation needs to include innovative ways of supporting minority-owned companies. The expansion of equity crowdfunding to more Americans will not only help widen entrepreneurs’ investment options, it can also reduce barriers to capital that have too long kept African-American businesses and communities from thriving.

Zach Komes is a senior at George Washington University and Roosevelt’s Emerging Fellow for Economic Development. He also interns at City First Enterprises, which helped develop ImpactUs, a crowdfunding platform for community development financial institutions.