The impact of regulation on crowdfunding
It should come as no surprise that UK financial regulation does not really cater for crowdfunding.
That's because, in its broadest sense, 'crowdfunding' or 'peer-to-peer finance' represents the rather late arrival of e-commerce marketplace services to the financial services industry. Unlike 'traditional' forms of finance - where a single provider creates products to suit its own profitability - crowdfunding platforms enable consumers and/or small businesses to directly agree their own terms and spread their money in small amounts across many different borrowers or investment opportunities.
Different forms of crowdfunding involve different legal instruments (e.g. donations, loans, bonds or shares), some of which are more highly regulated than others.
The term 'crowdfunding' itself really only describes a marketplace for supporters to make small donations to projects and perhaps receive rewards, which is not regulated as a financial service. Crowdfunding not-for-profit projects and micro-businesses in emerging markets also tend to fall into the unregulated category.
On the other hand, 'peer-to-peer lending' platforms facilitate simple loans for as little as £10 that are not regulated as investments but may be subject to certain consumer credit requirements, so the platforms who deal with consumers hold a Consumer Credit Licence. 'Crowd-investing' enables people to invest small amounts directly in shares and debentures.
This is typically regulated as investment activity where individuals are involved, and the leading crowd-investment platforms are authorised by the Financial Conduct Authority. However, there are numerous commercial finance platforms also entering the markets for property, trade invoices and other business assets, in particular.
Despite some key differences, however, all these platforms have a similarly transparent 'architecture of participation' and share certain common operational risks. Yet traditional regulation impacts on them in different ways, as noted above, and small changes can trigger awkward regulatory requirements.
This needlessly increases operational costs and complexity for both platform operators and participants. Tax incentives also favour traditional products, inhibiting the ability of ordinary savers and investors to diversify into new financial services.
As a result, the operators of both peer-to-peer lending and crowd investment platforms have been calling for proportionate regulation of their activities for some years. The Peer-to-Peer Finance Association and UK Crowd Funding Association each have self-regulatory codes to govern peer-to-peer lending and crowd-investing respectively, with similar types of controls to address common types of operational risk (e.g. segregation of customer funds from the operator's own funds).
Platform operators have also engaged openly with policy and regulatory officials through events like the Peer-to-Peer Finance Policy Summit in December 2012.
While the government has been slow to actually remove regulatory barriers, it has broadly welcomed the innovation and alternative sources of funding that the various forms of crowdfunding represent. Funds from the government's Business Finance Partnership scheme are even being lent to businesses through several peer-to-peer lending platforms.
In the meantime, the government is consulting on plans for the Financial Conduct Authority to specifically regulate peer-to-peer lending, along with consumer credit, from 1 April 2014. And the FCA is listening to concerns where regulation is creating an awkward customer experience that may inhibit consumer participation for little benefit, and constrain innovation and competition.