Kategorie: Crowdfunding

Introduction

On 10 November 2021, the long-awaited EU Regulation on European Crowdfunding Service Providers, for business (Regulation (EU) 2020/1053) (the ECSPR) that aims to create a harmonised regulatory framework for crowdfunding platforms in the EU has started to apply.

In the first part of our publication we have analysed the scope of application of the ECSPR and the authorisation requirements that prospective CSPs will need to comply with under the new regime. In this second part of our publication we will take a closer look at the investor protection requirements under ECSPR and analyse the impact that the new regime will have on the existing regulatory framework on crowdfunding in Germany.

Investor Protection Requirements

Investor categorization & Entry knowledge test

In term of investor categorization, the ECSPR differentiates between sophisticated investors (professional clients under the MiFID II and persons meeting certain qualification criteria set out in Annex II of the new Regulation) and non-sophisticated investors. Whereas sophisticated investors will not be subject to any limitations when investing, non-sophisticated investors will be subject to mandatory entry knowledge test prior to investing in particular crowdfunding project. Therefore, prior to providing non-sophisticated investors with the full access to crowdfunding offers, CSPs will have to assess investors’ knowledge and experience, financial situation, investment objectives and risk awareness in order to assess which crowdfunding projects are appropriate for them. Periodic appropriateness assessment will have to be conducted every two years.

Key Investment Information Sheet (KIIS)

Inspired by similar concepts that have emerged years ago under the PRIIPs and the UCITS framework, the ECSPR requires CSPs to ensure that investors are provided with a so called Key Investor Information Sheet (KIIS) for each crowdfunding offer. Limited to maximum 6 A4 pages, the KIIS will have to contain key information about the project owner, the project itself, terms and conditions of the fund raising, risk factors, details on associated fees and costs as well as appropriate risk warnings. The KIIS will need to be drawn up by the project owner for each crowdfunding offer and CSPs will be required to have adequate procedures in place to verify the completeness, correctness and clarity of information contained in it.

Since the KIIS will neither be verified nor approved by the NCA like securities prospectus, project owners will be required to make proper disclosure thereto in order to warn prospective investors about the risks associated with investment in respective project. Lending based CSPs providing portfolio management services will be additionally required to draft the KIIS at platform level which shall contain key information on the CSP, available loans in which investors’ funds can be invested as well as information on fees and risks associated with investments.

Auto-investing and use of filtering tools

The use of commonly used filtering tools and automated systems have been also addressed in the new ECSPR. To that end, where filtering tools are available on the platform, based on which investor can shortlist available projects in accordance with the pre-specified criteria (e.g. economic sector, interest rate etc.), the results provided to investors are not to be considered as investment advice as long as information are provided in a neutral manner and without provision of a specific recommendation. On the other hand, CSPs using automated processes based on which investor funds can be automatically allocated to specific projects in accordance with predetermined parameters (so called auto-investing) will be considered as individual portfolio management of loans.

Right to withdraw

Non-sophisticated investors will be able to revoke their offer or expression of interest to invest in a particular crowdfunding offer, within a 4-day pre-contractual reflection period, without the need to provide any reason or to incur penalty of any kind. For this purpose, CSPs will need to provide investors with the clear information on the reflection period and the ways in which investors’ right can be exercised.

The impact of the ECSPR on national framework in Germany

Up until recently, the roles of fundraisers and investors in crowdfunding structures in Germany, could potentially fall under the scope of some regulated financial services.

1. First, the lending activity of the investor itself could (under certain conditions) constitute the regulated activity of credit business (Kreditgeschäft) within the meaning of Section 1 paragraph 1 Nr. 2 of the German Banking Act (Kreditwesengesetz “KWG”).

• Second the fundraising via crowdfunding platform could also trigger the licensing requirement for the provision of the so called deposit business (Einlagengeschäft) within the meaning of Section 1 paragraph 1 Nr. 1 KWG.

German national law and administrative practice of the German Federal Financial Supervisory Authority (BaFin) have stipulated a number of exemptions from these regulated activities whose application needs to be assessed always on a case by case basis (like for instance the frequently used exemption for qualified subordinated loans whose granting does not trigger either of the aforementioned regulated activities).

With the aim of bridging this regulatory uncertainty, the German national transposition law (Schwarmfinanzierung-Begleitgesetz), which was adopted on 10 June 2021, makes necessary amendments to KWG by stipulating that fundraisers and lenders that raise/invest funds via crowdfunding platform authorized under the ECSPR, are not to be considered to be providing either of the above mentioned regulated activities.

Further, public offering of securities can generally trigger prospectus obligation under the German Prospectus Act (Wertpapierprospektgesetz “WpPG”), where no exemptions apply. In line with the ECSPR, the national transposition law exempts securities offering made on crowdfunding platforms operating under the new regime from requirements under WpPG.

Timeline & Outlook

Whereas the ECSPR has started to apply as of 10 November 2021 for all in-scope CSPs, the Regulation provides for an additional transitional period for operators of crowdfunding platforms that were operating under national rules before the go-live date of the ECSPR. They will have to apply for a new license and bring their business in line with new requirements by 10 November 2022.

On 10 November 2021, ESMA has published the Final Report on Technical Standards (RTS and ITS) that shall help prospective European CSPs with preparation for compliance with new requirements. In addition to this, in February 2021 ESMA has also published Q&A that bring more clarity to questions around the use of SPVs in crowdfunding structures, transitional provisions and operational requirements under the ECSPR.

The ECSPR promises to overcome existing obstacles embedded in national regimes of individual Member States by enabling CSPs to provide crowdfunding services based on a single set of rules on a cross-border basis and project owners to raise funds from investors from all across the EU. However, it remains to be seen whether and to what extent will the new regime be accepted on the market and whether it will really meet the expectations of EU lawmakers and the crowdfunding industry.

Introduction

On 10 November 2021, the long-awaited EU Regulation on European Crowdfunding Service Providers, for business (Regulation (EU) 2020/1053) (the ECSPR) that aims to create a harmonised regulatory framework for crowdfunding platforms in the EU has started to apply. The ECSPR was published in the EU Official Journal on 20 October 2020 after more than 2 years of long and intense discussions between EU lawmakers.

Unlike in the US where the first crowdfunding regulation was introduced already back in 2015[1], the EU did not have a common regulatory approach to this innovative way of fundraising which enables investors to directly invest in different projects of predominantly start-up companies and SMEs via online platforms. This lack of a harmonised regulatory framework has led to the creation of significant divergences in national rules on crowdfunding of various EU Member States which has been recognised as the main impediment to the provision of crowdfunding services on a cross-border basis in the EU.

With the aim of overcoming existing divergences in national frameworks, new Regulation provides a level-playing field for crowdfunding platforms in the EU, by introducing a harmonized set of rules that will be enable European crowdfunding service providers (CSPs) to explore the full potential of the EU single market.

In this first part of our publication we will analyse the scope of application of the ECSPR and the authorisation requirement that prospective CSPs will need to fulfil under the new regime.

Scope

The new EU framework on crowdfunding will cover two most common crowdfunding practices:

1. the facilitation of granting of loans (lending based crowdfunding)
2. placement of transferable securities and/or instruments admitted for crowdfunding purposes and/or reception and transmission of investors orders with respect to such instruments (investment based crowdfunding)

Only crowdfunding offers with a consideration not exceeding EUR 5,000,000 per project owner over a 12 month period will be under the scope of the ECSPR. Offers exceeding this threshold will need to be made in accordance with general requirements on public offering of transferable securities and provision of regulated financial services (e.g. under Prospectus Regulation, MiFID II etc.).

It is worth mentioning that some other types of crowdfunding practices, like donation-based crowdfunding or reward-based crowdfunding (in which case investors receive a non-financial consideration for their investment), will not be directly covered by the ECSPR.

Investment based crowdfunding

In terms of investment based crowdfunding, the ECSPR covers the placement of both transferable securities as well as other instruments admitted for crowdfunding purposes.

Transferable securities

The definition of transferable securities under the ECSPR is based on the definition under Art. 4 (1) (44) MIFID II. In the wake of ever-increasing use and popularity of crypto-assets the legitimate question that can be asked is whether crypto-assets can also be used for the purposes of fundraising in accordance with the new regime on investment based crowdfunding under the ECSPR? See our detailed analysis on this topic in our previous article.

Instruments admitted for crowdfunding purposes

This is a new definition introduced by the ECSPR which basically refers to shares in private limited companies issued by the project owner (or an SPV) that are not subject to transferability restrictions under national law. To this end, the EU lawmaker has decided to leave national lawmakers the possibility to allow or prohibit the use of shares in private limited companies for crowdfunding purposes. In Germany for instance, shares in private limited companies (Gesellschaften mit beschränkter Haftung „GmbH“) will not be suitable instruments for crowdfunding purposes, given that their transfer is subject to notarisation under national law.

Lending based crowdfunding

When it comes to facilitation of granting of loans the EU lawmaker emphasises that this crowdfunding practice shall be clearly distinguished from activities of regulated credit institutions that grant credits for their own account and take deposits or other repayable funds from the public. The operator of a crowdfunding platform acts as an intermediary who merely facilitate the conclusion of a loan agreement between the fundraiser (project owner) and the lender (investor) without at any moment acting as a lender or a fundraiser itself.

Under the ECSPR the term “loan” refers solely to an agreement in which a defined amount of money is made available to the project owner for an agreed period of time and which creates an unconditional repayment obligation of the lent amount (together with accrued interest) to investor in accordance with the instalment payment schedule. Despite seeming quite straight forward, this definition excludes certain types of loan agreements like for instance qualified subordinated loan agreements that have been frequently used in Germany as a way of circumvention of onerous national requirements on fund raising and lending.

Authorisation requirements

Legal entities that provide crowdfunding services within the meaning of the ECSPR will need to obtain authorization from the national competent authority (NCA) in their Member State of establishment and once authorized, they will be able to provide crowdfunding services across the EU on a cross-border basis (based on the EU passport for the provision of crowdfunding services).

Apart from being located in the EU, the prospective CSPs will also be required to fulfil a number of regulatory requirements for the purposes of authorisation under the new regime that can be summarized as follows:

Prudential requirements

Prudential safeguards need to be put in place in the form of own funds, insurance policy or combination of both equal to amount of at least the highest between:

1. EUR 25.000, or
2. one quarter of the fixed overheads of the preceding year, reviewed annually, including the cost of servicing loans for three months when the CSP also facilitate the granting of loans.

Entities that are already subject to CRR regime or are authorised as electronic money institution (under EMD) or payment services provider (under PSD 2) are not required to fulfil additional prudential requirements under this Regulation.

Conflict of interest & Inducements

In order to prevent potential conflict of interest, CSPs will be prohibited from having participation in crowdfunding offers offered on their platforms as well as from offering crowdfunding offers of persons closely related to them (i.e. their shareholders having more than 20% of shares/voting rights, their managers, employees or persons related to them).

The ECSPR also stipulates a „mini ban on inducements“ for CSPs by prohibiting them from paying or receiving any remuneration, discount or non-monetary benefit for routing investor’s orders to a particular crowdfunding offer offered on their or a third party platform.

Due diligence

Prior to listing crowdfunding offer on their platform, CSPs will be required to perform the necessary due diligence as regards whether the project owner has a criminal record and/or place of incorporation in a non-cooperative jurisdiction or high-risk third country. 

Provision of asset safekeeping & payment services

Given that in the course of crowdfunding intermediation, platforms usually need to collect investors’ funds (i.e. via wire transfer/credit card payment), place them on a designated account and then transfer them to the project owner account, the ECSPR sets clear boundaries with respect to provision of other regulated activities that can be essential part of this process. To that end, CSPs will be prohibited from providing payment services unless they hold a separate authorisation under the Payment Services Directive (PSD II) as well as custody services with respect to transferable securities where they are not authorised under the MiFID II or CRD IV framework.

Therefore, where CSPs do not hold above mentioned licenses to provide these services on their own, they will have to enter into cooperation arrangements with authorised third parties and inform their clients about relevant terms and conditions of service agreements and the fact that services will be provided by a third party.

Indirect effect of the AML/CTF rules

Besides bringing payment transactions for crowdfunding purposes indirectly under the scope of AML/CTF rules (by virtue of the fact that all payments will have to run through authorised payment providers that are obliged entities under the EU AMLD framework) the ECSPR does not explicitly bring CSPs on the list of obliged entities that are required to comply with rules on prevention of money laundering and terrorist financing. The recently published proposal of the EU AML/CTF Regulation, which we have analysed in our previous article, adds only crowdfunding service providers, operating outside the scope of the ECSPR to the list of obliged entities that are required to comply with AML requirements. Nevertheless, in one of its recitals[2] the ECSPR specifies that the EU Commission shall assess the necessity of adding the CSPs on the list of obliged entities in the future.

Individual portfolio management of loans

Allocation of pre-determined amounts of investors’ funds to one or several crowdfunding projects by CSPs in accordance with individual mandate will be defined as a provision of portfolio management services under the ECSPR in the case of which CSPs will be required to comply with additional requirements. The CSPs will have to properly define investment parameters for each portfolio management mandate and put in place effective systems and procedures on risk management, record-keeping and regular reporting to investors.

In the second part of our publication we will analyse the investor protection requirements that the prospective CSPs will need to comply with as well as the impact of the ECSPR on national regulatory framework in Germany.

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[1] https://www.sec.gov/news/pressrelease/2015-249.html

[2] Recital 32 of the Regulation (EU) 2020/1503