On 24 October 2013, the Financial Conduct Authority (FCA) published a consultation paper regarding its regulatory approach to crowdfunding (CP13/13).

The FCA’s paper describes crowdfunding as “a way in which people, organisations and businesses (including business start-ups) can raise money through online portals (crowdfunding platforms) to finance or re-finance their activities and enterprises”.

Whilst crowdfunding already falls within the scope of regulation by the FCA where it involves a person carrying on a regulated activity in the UK (such as arranging deals in investments), the regulation of ‘loan-based crowdfunding’ (otherwise known as peer-to-peer lending) will only come within the FCA’s regulatory perimeter on 1 April 2014. For this reason, much of the consultation paper focuses on this aspect of the crowdfunding industry.

Proposals for loan based crowdfunding

The FCA’s proposed regime for loan-based crowdfunding relies on the existing disclosure-based regime applicable to investment-based crowdfunding. This principally involves ensuring that investors have the necessary information to make informed decisions and that all communications with investors are fair, clear and not misleading. In addition, the FCA is consulting on a set of core additional requirements that it proposes to apply to loan-based crowdfunding platforms including:

(i) Minimum prudential requirements – the proposals would impose capital requirements on platform-operating firms of the higher of a fixed minimum amount (£50,000 from 1 April 2017; with a transitional fixed minimum of £20,000 from 1 April 2014) and a volume-based measure representing a percentage of the volumes of funds loaned through the platform.

(ii) Rules in relation to client money handling – the FCA’s CASS rules, which already apply to investment-based crowdfunding platforms, would be applied to loan-based crowdfunding platforms to the extent that the firm holds money on behalf of clients.

(iii) A requirement that firms take reasonable steps to ensure existing loans continue to be managed in the event of platform failure – the FCA has proposed several examples of arrangements to ensure that this requirement is met, including the firm entering into an arrangement with another firm to take over the management and administration of loans in the event of platform failure and the firm holding sufficient capital in a segregated account to cover the cost of management and administration while the loan book is wound down.

(iv) The application of a number of FCA reporting requirements – for example, the firm will be required to give clients certain information about both the firm and the service that they are receiving, including the risks involved and the level of diligence undertaken by the firm in respect of the borrower.

Proposals for loan based crowdfunding

The FCA is also consulting on changes to the regulation of firms operating investment-based crowdfunding platforms. Broadly, the FCA is proposing to limit the ability of firms to promote investment-based crowdfunding platforms. Under the proposals, firms would be required to ensure that financial promotions promoted to retail clients in relation to unlisted shares or unlisted debt securities are only promoted to the following categories of client – those who:

  • are certified or self-certify as sophisticated investors;
  • are certified as high net worth investors;
  • confirm before the promotion is made that they are a retail client of another authorised firm that will provide them with regulated investment advice in relation to the proposed investment; or
  • certify that they will not invest more than 10% of their net investible portfolio (ie excluding the client’s primary residence, pensions and life cover) in unlisted shares or unlisted debt securities.

In addition, where no regulated advice has been provided to the client, the firm that operates the platform must comply with the FCA’s rules on appropriateness. Broadly, this will require firms to assess the appropriateness of the investment to the customer, including determining whether the client has the necessary experience and knowledge to understand the risks involved.

Next steps

The FCA’s consultation is open until 19 December 2013 and those who wish to respond may do so either online here or by writing to the FCA at the address listed in the consultation paper, which can be found here. The FCA intends to publish the new rules in a Policy Statement in February or March 2014, with a formal review of the crowdfunding regime planned for 2016.