Welcome! This guide is the first installment of the Local Investing Resource Center’s How to Invest Locally course. It offers investors an overview, introducing foundational topics that are essential for discovering and getting started with local investing.
“Small businesses and nonprofits deserve our support because they provide so many benefits to our communities while operating in a challenging and competitive economic environment. If we don’t look out for them, who will?”
Why is it important to invest in local small businesses and nonprofits? They help create the color, culture, and uniqueness in our communities and neighborhoods. They are owned, managed, and staffed by our friends and neighbors. In what’s called the “local multiplier effect,” the money we spend and invest with local small businesses has a much higher probability of being re-spent at other local small businesses, circulating more of our money throughout our community, increasing prosperity for all. Yet, local small businesses face enormous challenges. They lack the time and connections to influence laws and regulations in their favor, and as a result, it’s harder for them to take advantage of tax loopholes and subsidies that larger corporations receive from governments. Since they typically operate in one line of business, in just one or a few places, they are less diversified and more exposed to seasonal and other regional challenges that don’t affect big businesses as much. What’s more, due to their small size, securities laws and regulations are difficult and expensive for them to navigate, making it harder for them to legally raise money from investors, often limiting their options to high interest credit cards and bank loans. Small businesses and nonprofits deserve our support because they provide so many benefits to our communities while operating in a challenging and competitive economic environment. If we don’t look out for them, who will?
We define local investing as putting one’s money to work for the mutual benefit of the investor, local small businesses and/or nonprofits, and the community as a whole. These benefits can be financial, in-kind (products & services), cultural, and more. By using their money to help start, expand, and support local businesses, local investors catalyze many positive changes, such as:
- Bringing essential and/or desired products and services to their communities
- Putting their money to work close to home, rather than in global markets and corporate banks
- Growing their local economies, enhancing the local quality-of-life
- Creating new relationships with local business people, building community
Local investing is very different than conventional investing. In today’s globalized world, investing has become a way of putting one’s money into shares and debt of multinational corporations and governments via high-speed, electronic trading platforms. A vast network of funds, brokers, advisors, and investment managers allow investors to disconnect from knowing what their money is really doing.
“Consider that in the early days of investing, all investments were local, as neighbors came together to pool money and help start essential businesses in their communities. In so many ways, local investing brings us back to our roots.”
Local investing, by comparison, is slow and engaging. Local investors must have the passion, time, and energy to find and evaluate local investing opportunities, and for getting to know the people that offer these opportunities. This is possible because local investments are much simpler—easier to understand and evaluate—than Wall Street investments. In return, investors can make money on their investments, which is very important, but local investing is about impact as much as it is about profits. Local investors can help start or expand businesses, create jobs, and increase the prosperity in their communities. They build relationships and goodwill that last well beyond the investment time horizon. Consider that in the early days of investing, all investments were local, as neighbors came together to pool money and help start essential businesses in their communities. In so many ways, local investing brings us back to our roots.
We highly recommend that local investors work together, not alone, in order to help each other out. Sharing expertise and insight helps everyone find better investing opportunities and make better investing decisions by drawing on the diversity of backgrounds and perspectives of the group. Since traditional sources of investment advice—such as accountants, brokers, financial advisors, and lawyers—do not always have the background to evaluate, understand, or encourage local investing, local investors have the opportunity to learn and become their own experts. The next three parts of this course, Local Investing Clubs & Networks, Organizing Business Showcases, and Evaluating Local Investments, all address how investors can work together to start investing in their communities.
Since the modern local investing movement is relatively new, most local investors have had to start from scratch, without the benefit of any guides or trainings. Some investors with entrepreneurial or investing backgrounds feel more comfortable diving right in and making loans to local businesses. For others, the best approach is to start small and simple by collaborating with other more experienced investors, observing the process, waiting patiently for the right opportunity, and only then making that first local investment. Using this process, local investing novices who had previously handed off all investment decisions to professional advisors have learned enough to make their own first local loan, and some have ultimately built impressive diversified portfolios of local investments. Watch the following videos to hear directly from renowned author Vicki Robin of Whidbey Island Local Lending (WILL) and Dr. Earll Murman of the Local Investing Opportunities Network (LION) of East Jefferson County, WA, who are great examples of what a beginning local investor can accomplish with patience and commitment.
Note: For the purposes of this guide, a local investor is someone that has financial resources (including IRAs, which can be invested locally) they can afford to part with for a period of time while their money is invested in their community. Generally speaking, anyone with standing credit card balances or other debt (except for a home mortgage) should invest in themselves by paying down their debts before investing in others locally. Those with the ability to do so should establish an emergency fund of a few months’ worth of expenses before investing. Finally, when starting out, it’s a good rule of thumb to avoid investing any money that you cannot afford to lose.
The Many Flavors of Local Investments
Local investing opportunities come in many forms, with varying degrees of complexity and risk. Broadly speaking, there are two main categories: securities, which are legally regulated and generally more complex, risky, and appropriate for experienced investors, and non-securities, which are generally more simple and appropriate for novice investors. Although non-securities are not traditionally considered investments, they do enable you to create a positive local impact with your money while receiving benefits in return. Here is a brief list of local investments that are not securities, and are therefore most appropriate for those just getting started with local investing to consider:
- Deposits at local banks & credit unions; these institutions can lend your money back out to local small businesses and nonprofits, but you should inquire about their commitment to do so. BankLocal is a great website that can help you identify which banks near you reinvest in your community the most.
- Donation-and reward-based crowdfunding, through websites such as Kickstarter and Indiegogo, where investors can help fund both local and non-local businesses, nonprofits, and other projects, and investors can receive non-financial rewards, such as products or services, in return. Be on the lookout for worthy local projects you might find through your network of friends and family, local news sources, and by searching crowdfunding sites themselves.
- Peer-to-peer lending at a zero interest rate, through websites such as Kiva Zip and Community Sourced Capital, or directly to local people and/or businesses. As with crowdfunding, keep your ears open locally and/or look online for these opportunities.
- Pre-sales whereby local investors/consumers pay for products or services up front, often at a small discount to retail value, in order to provide startup, expansion, or operating funds to local small businesses, which fulfill their commitment to their investors over time. Community Supported Agriculture (CSA) is a great example of this, as farmers are paid for their work before the season, when their expenses are the highest, and deliver their harvest weekly throughout the season. CSAs are great way to support local farm businesses, and are available in most regions. Credibles is a website that facilitates pre-sales for growing food businesses so that they can expand their operations to meet demand. Sometimes, creative local businesses such as restaurants or breweries will run their own presales campaigns to fund their growth. Be on the lookout for these kinds of independent campaigns and support them when you can.
Securities, on the other hand, are essentially any kind of agreement in which an investor gives money to someone else with the expectation of receiving repayment plus a profit in return. Securities include ownership stakes (shares, or equity) in a business, loans to a business (also called promissory notes, or debt), revenue-sharing agreements, and virtually any other kind of investment contract – even personal loans made between friends and family at any interest rate greater than zero (because zero percent loans are not securities; see above). Since the eventual return of the investors’ principal (the money they put in) plus any profit depends on the management and business skills of the borrower or investee, there are inherent risks in securities, which is why they are carefully regulated by governments and are generally more appropriate for investors (and their advisors) that are ready to do the work to evaluate those risks and decide if they are appropriate to take.
In addition to the type of security (equity, debt, etc.), local investment securities also vary significantly in how and to whom they are offered, advertised, and sold:
- Private Offerings of securities are generally not advertised, not as heavily regulated by governments, and arranged directly between the parties. Generally, the investment sponsors may only offer their investing opportunity to people they have a pre-existing relationship with, which is why building direct personal relationships and networks is so vital in local investing. The vast majority of local investing securities fall in this category, so the courses on this site provide guidance for both investors and businesses that want to facilitate these kinds of direct investments. They can be offered by the whole spectrum of local businesses, such as retail stores, small manufacturers, farms, construction businesses, and professional service providers; and nonprofits, such as private schools, radio stations, employment agencies for disabled people, and land trusts and other conservation organizations. Creating or joining Local Investing Clubs & Networks and Organizing Business Showcases are the best ways to meet the people that can offer these local investing opportunities.
- Direct Public Offerings (DPOs) are like local IPOs (Initial Public Offerings) that enable small businesses and nonprofits to run public campaigns to raise money from large numbers of people. DPOs must be reviewed and approved by securities regulators in one or more states before advertising and sales to eligible investors can begin. They are relatively rare because of the commitment of time, energy, and money an organization must make to receive regulatory approval and run a successful campaign, but they are growing in popularity because they allow relatively large public outreach campaigns that would not be possible otherwise. You can find out about nearby DPOs through your local networks and online listing services like CuttingEdgeX.
- Investment Crowdfunding is a new type of offering that is based on the online Donation-and Reward-based Crowdfunding model, except that the issuer may offer securities to investors, with the possibility of eventual profits, instead of just product or service rewards. As of mid-2015, investment crowdfunding is legal in several states, and is likely to expand to more states and the federal level in the coming years.
Are Local Investments Safe?
Local investments almost always depend on the ability of the people backing them (typically the owners, management, staff, directors, and/or advisors of a business) to execute their business plan, deal with the unexpected, and ultimately achieve their goals, which in turn should enable the investment to succeed. Therefore, the risks in local investing are about as varied as the people that want to raise money from investors. For example, local investors may encounter experienced local business people that have established, long-running, profitable businesses and solid reputations in the community that want to refinance a high interest bank loan at lower rates, using their existing cash flow – a good example of a fairly low risk local investment. Local investors may also encounter any number of people with dreams of starting a business to provide a product or service that they are sure will be in high demand. Even if the investor agrees and buys into the dream, the diligent local investor will recognize how little is known about the possibility of actual success. Due diligence is the process of evaluating the risks in a given investment, comparing them to the risks that the investor knows they are willing and able to accept, and making a decision about whether or not to invest. One special aspect of local investing is that local investors can work with local businesspeople during, and after, the due diligence process, to improve the way a business is run, avoid identifiable risks, and maximize potential good outcomes for all involved. We explore due diligence in much greater depth in our guide to Evaluating Local Investments.
There are a few basic principles of good due diligence that every local investor must attend to. First, you need to understand yourself: How much tolerance do you have for risk? Given your existing investment portfolio and your big picture financial situation, what kinds of investments would be most appropriate for you, and in what amounts? Here, you might benefit from the perspectives of a more experienced investor, financial advisor, or accountant; even if they are not experienced with local investing, these advisors understand issues like risk and diversification that you’ll need to consider, and can provide a valuable outside perspective on your portfolio. Second, don’t work alone. Ideally, form a group with other interested investors and share your insights and concerns with each other. As a group, you are almost guaranteed to do a better job of assessing risks and uncovering potential problems than you would on your own, regardless of your level of experience. Another benefit of participating in local investing clubs & networks is that due diligence committees can easily be formed to evaluate specific investment opportunities. Third, be patient with yourself. Look at many different local investing deals, and don’t invest until you have a feel for which investments are truly a good fit for you. Fourth, understand that you are entering a long-term business relationship with the people behind the investment, through good times and bad. So, be bold and ask lots of good, probing questions of them up front. If they use language that you do not understand, ask them to restate themselves in different terms. If you can’t get to a point where you understand each other perfectly well, you should not be investing. Finally, remember to think for yourself and don’t be afraid to walk away from an investment. Be wary of “group think” and crowd mentality. Some investing opportunities attract a great deal of enthusiasm, as investors practically line up to open their checkbooks. This does not mean that there are no risks, or that anyone has carefully considered them… often, quite the contrary. If an investment does not feel right for any reason, don’t talk yourself into it. Be patient and wait for the next good opportunity. You’ll be glad you did.
Once you have made a local investment, your job is not done. One of the great things about local investing is the relationship you can build with the people you have invested in. You can meet with them on a regular basis to hear about how their work is progressing, and you can offer your help and perspectives. When things are going well, and you’re receiving an annual dividend, or your interest payments on time, or you’re enjoying your local goods or services, then there’s not much to worry about. However, businesses, and investments made in them, can get into trouble. It’s not always the fault of management; sometimes it can be an economic recession or a natural disaster. Some businesses are seasonal and can have a hard time staying afloat during the off-season. Despite their best intentions, sometimes, management can prove to be inept, especially when dealing with surprises or forces beyond their control. The bottom line is that when trouble hits, as a local investor, you may be asked to accept delayed payments, or worse, no payments. It’s rare, but it happens, and that’s why you should only invest money that you can afford to lose, at least until you can develop a suitable level of diversification.
Most people enter into investments with high hopes for their potential. Usually, the sponsor of the investment helps this happen by selling their story and spinning it as positively as they can, because, after all, they want to raise that money to help their dreams come true. Do your best to uncover and resolve potential issues before you make the investment, and only invest with people that you trust to handle those unexpected and unplanned situations that will inevitably happen.
What about Legal Issues?
The purpose of securities laws and regulations are very clear: they exist to protect investors. They are intended to prevent fraud by investment issuers and to level the playing field by requiring disclosure of material facts and risks to potential investors. Although these laws and regulations can be hard to understand, and investors are not primarily responsible for complying with them, it can be empowering to have a basic understanding of them. Investors can avoid potentially troublesome investments and legal issues by recognizing when the sponsor of a given investment is complying with the law or ignoring it, either intentionally or unknowingly.
For local investors in the USA, here is a very brief overview of what you should know. Laws are passed by legislative bodies, such as Congress, and are generally intended to set broad policies. Rules and regulations are written by government agencies for the purpose of filling in the regulatory details needed to comply with and enforce the laws. Both laws and regulations have full legal effect. Securities laws and regulations exist on two levels: federal and state. The Securities & Exchange Commission (SEC) creates federal regulations authorized by laws that Congress passes, and it also enforces those laws and regulations. Every state also has its own securities regulator (sometimes contained within a larger department or subdivision of state government) which writes regulations based on laws passed by the state legislatures, and it enforces those laws and regulations. As a result of this system, there are always at least four legal areas pertaining to any given investment offering: federal and state securities laws, and federal and state securities regulations. They all collectively dictate the “rules of the road” for all securities offerings you will encounter.
Accredited Investor Definition:
Net worth of over $1 million (not including primary residence)
- OR -
Individual income over $200k or joint income over $300k in each of the last two years.
Accredited investor is a legal term that all investors should know, whether it applies to them or not, because it comes up quite often around securities offerings. In short, accredited investors are people with enough assets or income that lawmakers feel less need to protect them from risky investments. The legal definition, as it applies to individuals, is someone with an individual or joint net worth of over $1 million, not including the value of their primary residence, or an individual income exceeding $200,000 or a joint income exceeding $300,000 in each of the two most recent years, and a reasonable expectation of exceeding the same income level this year. Federal and state securities laws and regulations allow companies to offer securities to accredited investors only under less stringent regulatory requirements than are normally imposed on companies. Therefore, businesses that believe they can meet their funding goals by working with accredited investors exclusively will often take advantage of those types of less regulated (and therefore less expensive) securities offerings. The very real, and many people feel, unfair consequence of accredited-type offerings is that only a limited number of wealthy people have access to these investments, which typically include the most risky and also most profitable investments such as private equity funds, venture capital funds, and hedge funds. Everyone else is locked out of these opportunities. Fortunately, accredited-only investments are fairly rare in the local investing world, because most local small businesses feel they need to be able to raise money from all types of investors. For this reason, and because there are extensive resources available elsewhere that support accredited investors and businesses that want to offer accredited-type investments, the Local Investing Resource Center primarily focuses on securities offerings available to nonaccredited investors.
One final word about legal documents: When investing in local securities, a legal agreement will be needed to spell out all the relevant terms of the investment between you and the investee. For DPOs and accredited-only private offerings, it’s likely that the agreement will be written beforehand and presented to you for your review and signature. For other private offerings, as often as not, the agreement will need to be negotiated and written by one or both parties. If you are just getting started with local investing, or uncomfortable with legal agreements, you should consult an attorney before negotiating or signing any investment agreements. However, many local investors, over time, develop a level of comfort with negotiating simple investment contracts such as promissory notes. Basic template documents are available for free online, and it’s a simple matter to edit the document’s terms to match what has been negotiated. Take the “Do-It-Yourself” approach at your own risk, but know that many experienced local investors do this, especially for smaller and more straightforward local investments.
How to Get Started Investing Locally
- Review your financial situation. Do you have money to invest that you can afford to lose? Have you paid off any high interest credit card debt? Are your non-invested savings sufficient to cover emergencies, and are they working for you at a locally-focused bank or credit union? Note: IRAs can be invested locally using a tool called a Self-Directed IRA, but there are modest extra costs and paperwork involved.
- If you are just getting started, or prefer to work by yourself, consider looking for local crowdfunding and local peer-to-peer lending opportunities online, using our resource list. Be on the lookout for local businesses that are using pre-sales to fund their startup or expansion, and support them.
- Read our next module on Local Investing Clubs & Networks. If possible, join a group in your community. Use our Group Directory to look up nearby groups. Being part of a local investing group can help you build mutually beneficial relationships with other local investors, create connections to local business people that offer investing opportunities, and generally learn how to invest locally in your community.
- If there are no local investing groups nearby, consider teaming up with other interested individuals to create one yourself. Often, locally-focused economic development groups (like BALLE chapters, some Economic Development Councils (EDCs) and Small Business Development Centers (SBDCs), and local sustainability groups such as Transition Networks will have members, or know people, that will be interested in helping you create an investing group dedicated to your area. You may also use our User Directory to see if there are any interested people on our site nearby you. If so, you can send them an e-mail through our site.
- Use your connections, including through local investing groups or similarly interested groups, to find out about local investing opportunities. To kickstart these kinds of connections, read Organizing Business Showcases and organize one. Check Direct Public Offering listings on CuttingEdgeX. Be patient and wait until you hear about an investing opportunity that interests or even excites you. Reach out to the people that are offering the opportunity. Unless they have registered their investment offering with regulators in a way that allows advertising, they may only be allowed to offer the investing opportunity to people they have a pre-existing relationship with. In these cases, if you don’t know them already, you can start building a relationship by calling or meeting up in person. Ask about who is involved, the history of the business or project, what opportunities they are pursuing, and how you can support their efforts. If the relationship develops in a promising way, you may eventually be able to take the next steps.
- Once you have a potential investment you are interested in, and a quality, trusted relationship with the sponsor, do your due diligence. Read Evaluating Local Investments for a step-by-step guide and support in this process. The investment sponsor should be able to provide financial and other types of information that will help you make a decision on whether to invest. Be sure to work with other investors, if possible, to help make the best decision. If something does not feel right, and you can’t get a satisfactory resolution from the sponsor, you should politely decline to invest.
- Once you have invested, stay involved! In good times, you will enjoy financial and community returns on your investment, and in tough times, your continued support can help a local small business get through. You are now a part of a growing movement that helps build community ties, strengthens community resilience, and increases local prosperity using your investment dollars.
Modules in our How to Invest Locally course:
- Overview for Local Investors
- Local Investing Clubs & Networks (Next)
- Organizing Business Showcases
- Evaluating Local Investments
Local investing directories:
Local Banks & Credit Unions:
Peer-to-Peer 0% Lending:
- Credibles (Food businesses only)
We welcome your constructive feedback, including helpful insights, clarifications, and corrections of errors and omissions.