Diversified Community Investment Fund: A Versatile Vehicle for Democratizing Capital

Community investment funds are an idea whose time has come. And the menu of offering strategies available to build community investment funds has now gotten slightly longer, with the addition of a particularly versatile strategy.

We’ve been focused on community investment funds for several years. In 2016 we wrote a pair of blogs discussing why they’re a great way to scale up the democratization of capital and suggesting four compliance strategies for building such a fund. We then contributed to a handbook on community investment funds published by the National Coalition for Community Capital that went deeper, surveying a couple dozen fund strategies, as well as offering practical guidance on setting one up.

Any fund that raises capital and then invests in other ventures must have a compliance strategy under the federal Investment Company Act of 1940 (the “ICA”). While a number of good fund strategies are available, there is still a gap in the law, which does not yet allow for a simple community investment fund that can invest in local businesses while raising equity capital broadly from the community and sharing profits with those community investors. Efforts are under way to fill that gap by adding new exemptions to the ICA, but those efforts have yet to bear fruit.

Still, in various conversations we’ve had in the past year, there is an emerging strategy that is suggested in some of our past publications but not explicitly described. This is a kind of hybrid strategy that is coming to be called the “diversified community investment fund” or “DCIF.” The idea is that a for-profit fund will invest primarily in real estate, but also invest a portion of its portfolio in local businesses.

That primary focus on real estate opens up at least three potential compliance strategies under the ICA, depending on the details of how it will raise and deploy capital. A detailed breakdown of those three strategies is beyond the scope of this blog, but under what is perhaps the most versatile of the three, the fund has at least 60% of its assets invested in real estate or other non-securities assets, while up to 40% of its assets can be invested in local businesses. Those investments in local businesses can take any form, including loans, equity investments (like stock), or a revenue share.

A DCIF using this strategy could raise capital using any of a number of securities offering strategies, including Regulation Crowdfunding, direct public offering (registered with state regulators), or Regulation A (qualified with the SEC). This means that it can raise capital publicly from investors of any economic class, including residents of the fund’s own community – even from folks who have never invested before.

The fund can offer either voting or nonvoting interests to those investors, or it could offer different types of securities tailored to different types of investors. It can share profits with its investors, and there are ways it could even offer limited liquidity (so investors could potentially get their money back if needed). With so much flexibility, we’re currently working with several clients who are looking to deploy some variation of the DCIF in their respective communities.

There are, of course, a lot of legal nuances to building a DCIF, and it should not be attempted without legal counsel that understands the regulatory landscape for such funds. This blog, of course, is informational only and should not be taken as legal or investment advice.

For more information about PathLight Law and the services we offer, email us at info@pathlightlaw.com.