FCA’s crowdfunding call for input: should crowdfunding be regulated differently from more traditional forms of financing?
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In July, the FCA called for input into its crowdfunding rules. The full call for input (Call for Input) can be found here. The consultation is the first step in its post-implementation review of the FCA’s crowdfunding rules which came into force in 2014.
In the Call for Input, the FCA highlights a number of developments in the crowdfunding market since the implementation of crowdfunding rules in 2014, and includes a number of questions that the FCA would appreciate market participants’ input on. In this post, we will briefly set out crowdfunding’s regulatory context so far as the FCA is concerned, draw out key market developments highlighted by the FCA, and comment on the key matters the FCA has called for input into.
The FCA defines crowdfunding as ‘… a way in which people, organisations and businesses … can raise money through online portals to finance or re-finance their activities’ ([1.9], Call for Input). The FCA suggests crowdfunding is a way to enhance competition for finance.
There are a number of forms of crowdfunding, including investment-based, rewards-based and donation-based crowdfunding. At present the FCA’s regulatory remit extends only to platforms providing loan-based crowdfunding (where money is lent to individuals or businesses; the FCA took over regulatory responsibility for this activity in April 2014) and investment-based crowdfunding (where people invest in unlisted shares or debt securities; the FCA had regulatory responsibility for this activity prior to 2014).
In framing the context for the Call for Input, the FCA highlights the distinct risks facing loan or investment based crowdfunders as compared with bank depositors (including risks of loss of capital, default on loans, and illiquidity of crowd-funded investments), and the implementation, in April 2014, of new disclosure rules to ensure prospective investors had sufficient information to make informed investment decisions.
An interim review of the FCA’s crowdfunding measures was published in February 2015, but at that stage, despite substantial market growth, that growth was not felt to be sufficient to justify any change.
Key market developments
The FCA highlights the following significant changes in the crowdfunding market:
- Since 2013 the amount invested by way of regulated crowdfunding platforms has rapidly grown from an estimated £500 million to an estimated £2.7 billion in 2015.
- The number of firms involved in crowdfunding has increased. 9 firms are fully authorised to offer loan-based crowdfunding platforms and the FCA is considering 88 applications. As to investment-based crowdfunding platforms, at the time of the interim review in 2015 there were 14 authorised firms and 11 appointed representatives who could operate such platforms, whereas there are now 23 FCA-authorised firms and 11 appointed representatives.
The FCA notes that despite rapid growth in the crowdfunding market, equity-based crowdfunding is still fairly small compared to retail sales of investment funds. According to reports referred to by the FCA, crowdfunding platforms are being used for real-estate investment. In the FCA’s view, this suggests a trend towards using crowdfunding platforms for fund-style investments.
Matters raised in the Call for Input
The FCA has posed 15 questions in relation to loan-based crowdfunding, and 6 questions in relation to investment-based crowdfunding.
As regards loan-based crowdfunding, the FCA has focused on a number of issues including the scope for regulatory arbitrage between crowdfunding and banking business, investor protection measures in connection with crowdfunding (including adequacy of disclosure and investor classification rules), the impact of the loan-based crowdfunding market on competition in lending and investment/savings markets, and the adequacy of resolution plans of loan-based crowdfunding platform operators.
As regards investment-based crowdfunding, the FCA highlights that these firms are already subject to FCA rules relating to capital requirements and the clear provision of information. As such, the issues of focus are narrower. Particular areas of focus in the Call for Input include ensuring only sufficiently sophisticated investors are able to access this type of investment, and managing conflicts of interest between platforms (which the FCA states may be incentivised to maximise the number of available investment projects) and investors (who the FCA states may expect a higher standard of due diligence by platform operators).
In respect of both types of funding platform, the FCA raises issues in relation to the adequate disclosure of information relating to new investments and due diligence standards.
Next steps in consultation
The FCA called for comments on the Call for Input by 8 September 2016. Following further analysis, the FCA will consider publishing a consultation paper with proposed rule changes.
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