Crowdfunding is a method of raising capital from a large number of people who each contribute a relatively small amount.
Currently, crowdfunding is unregulated in Ireland. However, a significant change is due to come into effect from the 10 November 2021, when the Regulation on European Crowdfunding Service Providers ("the Regulation") will enter into application.
The recitals to the Regulation recognise that crowdfunding is an increasingly established form of alternative finance for start-ups and small and medium-sized enterprises, which typically rely on small investments from a large number of investors. A crowdfunding service provider ("CSP") operates a digital platform open to the public that businesses can then use to seek funding from investors.
There are usually three parties involved in a crowdfunding arrangement:
- The "project owner" who proposed the project to be funded and seeks funding via the crowdfunding platform;
- Investors who invest in the proposed project (via the grant of loans and/or the acquisition of transferrable securities or admitted instruments); and
- The CSP that provides the online platform bringing the project owner and investor together.
Effects of the Regulation
The aim of the Regulation is to provide a set of uniform rules which will apply throughout the EU in relation to the provision of lending-based and investment-based crowdfunding. The Regulation does not apply to project owners who are classified as consumers as defined in the Consumer Credit Directive, i.e., a natural person who, in transactions covered by that Directive, is acting for purposes which are outside his trade, business or profession.
The new rules are expected to increase the availability of investment and lending based crowdfunding platforms by introducing various safeguards for the investor but also allowing authorised CSPs to offer their services to potential investors across the EU.
A summary of the main provisions of the Regulation are as follows:
A CSP must apply for authorisation to the designated competent authority designated by the Member State in which they are established. (In Ireland, this is likely to be the Central Bank.) In applying for authorisation, CSPs must provide various documentation including name, legal form, constitutional documents, programme of operations, description of governance arrangements and details of policies in relation to risk assessment, complaints handling, business continuity and the details of the natural person responsible for the management of the CSP.
CSPs will be subject to ongoing supervision by the relevant competent authority and will also need to provide an annual report. The competent authority may withdraw authorisation if the CSP is not providing services or no longer meets the conditions for authorisation.
Competent authorities shall have various supervisory and investigatory powers such as:
- carrying out on-site inspections or investigations at sites in order to access documents and other data, where a reasonable suspicion exists that there has been an infringement of the Regulation;
- prohibiting a crowdfunding offer where they find that the Regulation has been infringed or where there are reasonable grounds for suspecting that it would be infringed; and
- transferring existing contracts to another CSP in cases where a CSP's authorisation is withdrawn.
A CSP authorised in one Member State will be able to passport its services into other Member States.
- Operational Requirements
The Regulation places new obligations on CSPs, which include:
- a duty to act honestly, fairly, professionally and in the best interests of investors;
- a requirement to exercise effective and prudent management and adopt risk assessment and risk management procedures and policies;
- a minimum level of due diligence in relation to project owners;
- an effective and transparent procedure in relation to complaints handling, whereby clients can file complaints free of charge; and
- avoiding conflicts of interests.
- Key Investment Information Sheet
A project owner will be required to provide a Key Investment Information Sheet ("KIIS") for each crowdfunding offer. A KIIS includes details of the project, a responsibility statement by the project owners, charges that may be incurred, details of the crowdfunding process, a description of the risk factors (including financial risks) and investors rights. Each KIIS must also be fair, clear and not misleading.
- Investor Protection
The Regulation distinguishes between non-sophisticated and sophisticated investors (defined by reference to the Markets in Financial Instruments Directive (commonly known as MiFID II)). Non-sophisticated investors must be offered more in-depth advice and guidance, including their ability to bear losses and a warning in case their investment exceeds either EUR 1,000 or 5% of their net worth, followed by a reflection period of four calendar days.
- Bulletin Boards
A CSP may operate a bulletin board on which it allows clients to advertise interest in buying and selling loans, transferable securities or admitted instruments for crowdfunding purposes. However, this bulletin board may not consist of an "internal matching system" that brings together buying and selling interests resulting in a contract.
The European Securities and Markets Authority ("ESMA") is required to establish a register of all CSPs, which will be publicly available on its website and shall be updated on a regular basis. The register will contain certain information on each CSP including name, address and a list of the Member States in which it has notified its intention to provide crowdfunding services.
- Payment Services
Given the potential confusion between crowdfunding services and payment services, the Regulation makes clarifies that only payment service providers are permitted to provide such services. Therefore, an authorisation to provide crowdfunding services does not equate to an authorisation to provide payment services.
Accordingly, where a CSP provides payment services in connection with its crowdfunding services, it also needs to be an authorised payment service provider. CSPs must also inform their clients of any payment services they provide, and must confirm, as part of any application to a competent authority for authorisation, whether they intend to provide payment services themselves or whether such services will be outsourced to an authorised third party.
Interestingly, a competent authority may withdraw a CSP's authorisation to provide crowdfunding services in circumstances where it or a third party acting on its behalf has lost its authorisation to provide payment services (or, for that matter, investment services).
- Administrative Penalties
The Regulation envisages relatively significant penalties for CSPs who are found to have infringed certain provisions.
Member States are required to give competent authorities the power to impose administrative penalties and other administrative measures including maximum fines of at least EUR 500,000 or up to 5% of total annual turnover.
- Marketing Requirements
Marketing communications from CSPs must be clearly identifiable as such and be fair, clear and misleading. In April 2021, the Central Bank published a Consultation Paper on Crowdfunding Marketing Requirements, in anticipation of the Regulation coming into force. Under that consultation, the Central Bank envisages establishing new rules regarding crowdfunding advertising and all marketing communications must comply with the Central Bank's Consumer Protection Code 2012.
Crowdfunding has become a legitimate and effective way for firms to raise finance. The Regulation recognises this, and seeks to place the activity on a firmer legislative footing.
Project owners and investors alike will benefit from a more regulated framework and will increase the accessibility of the industry through the passporting system. This greater certainty is all the more welcome given Brexit and the increased focus on Ireland as a location for crowdfunding and other financial services.
Written by Barry Fagan and Eoin Ó Cuilleanain
 Regulation (EU) 2020/1503 of the European Parliament and of the Council of 7 October 2020 on European crowdfunding service providers for business, and amending Regulation (EU) 2017/1129 and Directive (EU) 2019/1937.
 On 8 July 2021, the ESMA requested the European Commission to defer the date of application of the Regulation and sought clarification on several points of interpretation. At the time of writing, the European Commission have yet to release a response addressing this.
 Directive 2008/48/EC of the European Parliament and of the Council of 23 April 2008 on credit agreements for consumers and repealing Council Directive 87/102/EEC.
 Directive 2014/65/EU of the European Parliament and of the Council of 15 May 2014 on markets in financial instruments and amending Directive 2002/92/EC and Directive 2011/61/EU.
 As defined in the Payment Services Directive, i.e., Directive (EU) 2015/2366 of the European Parliament and of the Council of 25 November 2015 on payment services in the internal market, amending Directives 2002/65/EC, 2009/110/EC and 2013/36/EU and Regulation (EU) No 1093/2010, and repealing Directive 2007/64/EC.
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