In line with the continued growth of crowdfunding, the Financial Conduct Authority (FCA) this month announced a further review of the existing regulation. Year-on-year the FCA is receiving higher numbers of applications from crowdfunding platforms looking for regulatory approval. There are now over 100 platforms in the UK with, or seeking, FCA authorisation.
New rules came into force in 2014 for the regulation of crowdfunding platforms operated by firms authorised by the FCA. The rules were introduced to provide sufficient protection for investors while continuing to allow consumers and businesses access to the innovative method of funding.
The FCA issued a paper last week calling for “input to the post-implementation review of crowdfunding rules” which serves primarily as a request for evidence and feedback. The paper (and the progress of the review) will be of interest to consumers and consumer organisations with an interest in investments offered on crowdfunding platforms as well as the platforms themselves.
The paper asks interested parties for their thoughts on the sector – specifically whether they are aware of any significant commercial developments that should be brought to the attention of the FCA, and whether such developments should merit a change to the current regulatory approach.
The FCA’s concerns
The initial thoughts of the FCA on the future regulation of the sector are apparent and a few of the main points and concerns raised were as follows:
- When the rules were introduced in 2014, the crowdfunding market was at an early stage of development. The market has grown rapidly since 2014 with investment on regulated crowdfunding platforms in the UK rising from £500m in 2013 to around £2.7bn in 2015. The infrastructures, systems and controls of firms may not be able to keep pace with that growth and rules may need to be changed to reflect the current scale and status;
- The regulatory framework for investment-based crowdfunding includes provision which requires firms to assess whether investors have the experience and knowledge to understand risk but the same approach is not applied to loan-based crowdfunding. As the general awareness of crowdfunding grows, the associated risks may not be fully appreciated and this type of investor assessment might also be required in the future for loan-based crowdfunding;
- Disclosure is not currently standardised across crowdfunding platforms, which can decide on their own basis what information they wish to disclose and how to disclose it. The FCA may consider a standardised minimum level of disclosure;
- An emerging feature of platforms since 2014 is a much broader pooling of credit risk (by matching multiple lenders to a single borrower in loan-based crowdfunding and pooling the risk of the lenders across the platform as a whole). This pooling could mean that some firms operating loan-based crowdfunding platforms are also operating collective investment schemes. This could create blurred lines between loan-based crowdfunding and other business models (for example asset management) leading to a risk of regulatory arbitrage whereby firms may conduct business similar to asset management which the current regulatory regime is not designed for; and
- Crowdfunding platforms may seek to have as many projects available as possible with a view to maximising profit but this is not in the best interests of investors who will expect higher standards of due diligence. Firms currently have flexibility to develop their own due diligence standard but given recent cases where businesses have failed shortly after successfully raising capital, it may be that minimum due diligence standards are required.
Will UK crowdfunding face further regulation?
While many equity crowdfunding and crowdlending platforms in the UK were keen to see some kind of regulation from the FCA in 2014, they did not want the industry to become over-regulated or for the “crowd” to be taken out of crowdfunding. The FCA’s launch of this review will have undoubtedly sparked questions for many established UK crowdfunding platforms – particularly whether or not they are set to face further regulation and whether any preparatory steps should be taken.
Although the paper provides a useful understanding of the FCA’s concerns about the industry and some suggestions for change, it is worth emphasising at this stage that it is only the first step in the review process. The FCA has invited all comments by 8 September 2016. The responses will be combined with market research carried out by the FCA to produce a bank of evidence for the review. Only if justified by the evidence would the FCA then consider issuing a consultation paper containing proposals for change. Any consultation paper would also invite feedback and for that reason the review process could be fairly lengthy.
Between now and then it is difficult to determine quite how different (or similar) the shape of crowdfunding rules may be post-review. Worth always bearing in mind is that the FCA worked closely with crowdfunding platforms back in 2014 to ensure that any regulation would not be excessively strict, attempting to achieve a balance between investor protection and access to investment opportunities. Whilst this review may well spark change in crowdfunding regulation to match the growth of the sector, if the FCA follows a similar approach this time around, the review may not necessarily lead to an over-regulated industry.