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Crowdfunding set to make mark on investing landscape

SEC chief Mary Jo White faces pressure to develop crowdfunding rules.

Carolyn Kaster/Associated Press

SEC chief Mary Jo White faces pressure to develop crowdfunding rules.

For $100, Micah Lubens bought a share of a vacant, two-story brick building that was promoted as the next up-and-coming hot spot along Washington D.C.’s bustling H Street corridor.

Through food blogs, Lubens learned of plans to transform the building into a minireplica of Asian night markets, with food stalls and at least one clothing shop. The developers were offering shares of the property online for $100 a pop. In return, investors would get a cut of the profits and rent generated by the market, called Maketto.

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‘‘I figured I easily spend $100 a month on silly things, so why not try this?’’ said Lubens, 25, a project manager at a district communications firm. ‘‘I don’t have a ton of money to invest, but I’m into the food scene and this intrigued me.’’

Gathering small sums of money from a large number of people online — known as crowdfunding — is poised to take off in the investing world, with backing from Washington policy makers who see it as a chance to involve the masses in an arena dominated by big Wall Street firms and the super-wealthy.

A law signed by President Obama a year ago enables small businesses to offer a stake in their firms via the Web to anyone who wants one, a ‘‘game changer’’ that gives them ‘‘access to a big, new pool of investors — namely, the American people,’’ as he put it. Companies can raise up to $1 million a year this way once the law is implemented.

But given its potential to upend the nation’s investment landscape, critics are worried that crowdfunding will leave unsophisticated investors vulnerable to fraud or big losses, especially since small businesses generally suffer high failure rates and the firms involved in crowdfunding will have to make only limited financial disclosures.

Those fears have played a role in delaying new regulations from the Securities and Exchange Commission, which was supposed to adopt rules nearly a year ago to put the crowdfunding law into effect. Now, all eyes are on Mary Jo White, the agency’s new chairwoman, who has come under pressure by lawmakers to crank out a plan. During her confirmation hearings, White suggested that the rules are high on her priority list, and agency observers expect them to come out soon.

The concept is not entirely new. For years, crowdfunding has been a popular way to seek financial support for a new album, a smartphone app or a worthy cause.

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But while the SEC hashes out the details, investors and businesses are racing to get a piece of the action.

Several state legislatures have proposed allowing this type of crowdfunding within their borders. Internet domains with ‘‘crowdfunding’’ in their names are getting snatched up. And businesses are moving forward with their own plans, using exemptions in existing regulations that allow for some limited crowdfunding.

Among them is WestMill Capital Partners, the developer behind the H Street Project. The firm’s cofounders, Ben and David Miller, had bought several vacant storefronts in Northeast Washington in the past three years with plans to develop them for retail use. They dug into their own pockets, took out loans, and tapped wealthy people to fund the deals.

But they were frustrated by what Ben Miller described as a ‘‘disconnect.’’

‘‘The people most excited about what we were doing, the ones in the neighborhood, weren’t allowed by law to invest,’’ said Miller, 36. ‘‘We started thinking: How do we close the loop? Is there a new way?’’

They learned they could raise money from anyone as long they qualified with the SEC and registered with the localities in which they wanted to raise cash — the District of Columbia and Virginia, in their case. Nearly a year later, they got the necessary approvals.

In August, they launched the website Fundrise and began offering shares in the H Street property, which they had purchased for close to $1 million, Miller said. Within three months, they raised their $325,000 target from 175 investors.

This concept is not entirely new. For years, crowdfunding has been a popular way to seek financial support for a new album, a smartphone app or even a worthy cause. But they have not been allowed to earn a profit or buy a security unless a company gets approval from the SEC or the states.

A few states have passed rules, and others have proposed doing so in recent months. A state can set its own crowdfunding rules within its borders, with certain restrictions.

Still, federal regulators will ultimately shape the crowdfunding space.

The law that Obama signed, called the Jobs Act, limits how much people can invest in a crowdfunded project based on their net worth and income. The funds would have to be raised through a regulated portal that would make sure the income limits are observed and that investors receive educational materials about the company.

Heath Abshure, head of the North American Securities Administrators Association, said there is more to worry about than exposing unsophisticated investors to outright fraud. He is also concerned about the lack of an exit strategy for investors who want out.

‘‘Very few of these small companies succeed, and the securities themselves are extremely speculative and highly illiquid, meaning that once you buy them, you may not be able to sell them,’’ Abshure said.

Meanwhile, some industry observers say the restrictions Congress has built into the crowdfunding law may simply be too costly and onerous for many small businesses.

Under the law, companies must hire firms to audit their operations, depending on how much they intend to raise, a huge expense for a small business, said Steve Bradford, a professor at the University of Nebraska College of Law. The firms must also issue reports to investors and the SEC, which significantly adds to costs, he said.

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