Financial watchdogs are tightening up the rules for crowdfunding investments.
The Financial Conduct Authority, which regulates financial services in the UK, is drawing up guidelines as a blueprint for crowdfunding over concerns that many investors lending money are not given clear information about the businesses receiving their cash.
Crowdfunding has risen in popularity as start-up businesses have had problems in funding projects due to a credit squeeze by banks.
Crowdfunding works by large numbers of investors pooling small amounts of cash, typically in response to a pitch from an entrepreneur on a web site.
Returns range from an equity stake to free gifts or just a mention as a backer on the firm’s web site.
Unsophisticated investors
Equity funding is already regulated – so the new rules apply crowdfunding by peer-to-peer lending, which comes under consumer credit regulations in the UK. The FCA has recently taken on the role of regulating consumer credit from the Office of Fair Trading.
The FCA is worried that unsophisticated investors may not realise that they may not receive any return on their investment or that their cash is unprotected by the financial ombudsman or the Financial Services Compensation Scheme if anything goes wrong.
Separately, tax authorities in the US and Europe are also looking at taxing non-equity donations to crowdfunding appeals as income.
Crowdfunding has raised millions of pounds worldwide for projects that would otherwise have been denied funding by banks.
Christopher Woolard, the FCA’s director of policy, risk and research, said: “Investors need to be told exactly what the risks of investing by crowdfunding mean to them. We want to provide clear and transparent guidelines to investors and projects seeking funding, not to stop this innovative source of finance.”
More information about entrepreneurs
The new guidelines will demand companies and individuals seeking crowdfunding donations to provide a key features document that explains what happens to any money raised and the risks to the donor.
Entrepreneurs will also have to undergo a creditworthiness review and crowdfunding platforms.
Web sites will need to have strategies in place to make sure anyone lending money to an entrepreneur will get their money back if the crowdfunding company closes.
Borrowers and lenders will also have a 14-day cooling off period in case either party changes their mind about making or accepting any money.
Crowdfunding platforms that flout the new rules face fines of the value of the loan or at least £50,000, whichever is the highest.
Until April 2017, the minimum fine is discounted to £20,000 to allow crowdfunding platforms to transition to the guidelines.
