The new EU crowdfunding regulation: implications for Bulgaria
Background
Bulgaria is one of the growing fintech destinations in the CEE Region; however, compared with other more developed markets crowdfunding in Bulgaria is still in its infancy. As such it has not attracted the attention of Bulgarian lawmakers before 2021, when the European Crowdfunding Service Providers Regulation (Regulation (EU) 2020/1503) (the “ECSPR”) became directly applicable across the EU, including in Bulgaria. Before that, the local crowdfunding business was in practice out of the regulatory perimeter.
To recall: crowdfunding is an increasingly popular source of novelty finance for start-ups and small and medium-sized enterprises which typically rely on small investments from a big number of investors. A crowdfunding scheme will normally involve the following principal players:
the project owner that proposes the project to be funded;
investors who finance the presented project; and
a crowdfunding service provider (“CSP”) that connects project owners and investors through an online crowdfunding platform.
A cornerstone of the new EU crowdfunding framework is that any CSP which facilitates in-scope crowdfunding must be authorised. Once authorised, a CSP can provide crowdfunding services across the other Member States.
Grandfathering
Though the ECSPR is applicable as of 10 November 2021, it provides for a transitional period which allows an entity already engaged in the provision of crowdfunding services, prior to this date, to continue to do so on a transitional basis, without complying with the ECSPR until 10 November 2022. After that date, they will only be able to engage in such activities if authorised as a CSP.
However, since 10 November 2021, it is an offence for entities to start providing crowdfunding services until being authorised as a CSP by the competent authority in their Member State.
Legislative framework
The European crowdfunding framework consists of the ECSPR, together with a few amendments to Directive 2014/65/EU ("MiFID II") (namely to exclude CSPs from the scope of MiFID II).
The ECSPR establishes a bespoke regime on in-scope crowdfunding aiming to eliminate the considerable divergences in the national rules and practices in the EU Member States. The ECSPR in general covers the organisation, authorisation, and supervision of CSPs and the provision of crowdfunding services and in this regard introduces a number of investor protection rules. Further, the ECSPR provides that detailed rules on certain matters shall be set out in technical standards adopted by the European Commission on a motion by ESMA and EBA (without limitation, rules on complaints handling, conflict of interest, business continuity plan; in relation to crowdfunding loans: calculation of the default rates, credit risk assessment, and loan valuation). The ECSPR and the said technical standards (when adopted) represent the core crowdfunding legislation that Bulgarian CSPs and other market participants have to comply with.
Finally, though the aim of the ECSPR is to create a uniform EU legal framework, it grants discretion to the Member States to determine certain rules at the national level. Consequently, the Bulgarian government has prepared a bill to transpose the ECSPR into Bulgarian law which addresses matters that require national input (the “Bill”). The Bill appoints the Financial Supervision Commission (the Bulgarian non-banking financial regulator) as the competent authority for the authorisation and supervision of CSPs and also empowers it to regulate further the in-scope crowdfunding services by the adoption of an ordinance.
What crowdfunding is in-scope?
The new framework will apply to the popular crowdfunding practices which entail financial return for investors, namely:
peer-to-peer business lending: the project owner receives money from crowdlenders, with the intention that it is repaid to the crowdlenders with interest; and
investment-based crowdfunding: the project owner offers its securities or admitted instruments to a number of potential investors in exchange for financing.
Some other types of crowdfunding, like peer-to-peer consumer lending, donation-based crowdfunding or reward-based crowdfunding (where investors receive a non-financial consideration for their investment) are not covered by the ECSPR.
Crowdfunding offers over €5,000,000 (the Bill reconfirms this threshold for Bulgaria) calculated over 12 months on a per-project owner basis) will out-of-scope and will instead be subject to MIFID II and the Prospectus Regulation 2017/1129/EU and the respective Bulgarian implementing legislation.
Some key impacts of the new framework on market participants
CSP must act as a neutral intermediary and not permit any discrimination between project owners or investors within the CSP;
project owners are required to provide a detailed key investment information sheet (“KIIS”) to the CSPs and to Investors. The Bill provides for the same standard of civil liability for the project owner as for prospectus regarding false, misleading or incomplete information in the KIIS;
CSPs marketing communications must be consistent with the information provided by the project owner in the KIIS and must comply with a number of other requirements;
CSP has an obligation to assess non-sophisticated Investors to ensure their services are appropriate for the non-sophisticated Investors before providing them;
CSPs are required to simulate the non-sophisticated Investors ability to bear losses;
As a rule, the non-sophisticated investors have a four-day reflection period in which they can revoke their investments without giving a reason.
Comment
Local CSPs will have to prepare themselves for the transition from a fully unregulated environment to, in relative terms, a considerable degree of regulation and supervision. It is worth noting that the ECSPR introduces fines for non-compliance of up to EUR 500,000; under the Bill the fines for the first violation are half of that amount, but still, this is particularly high in the light of the local standard of living. Scary for legal entities may be that the penalty for the first violation could reach up to 2.5% of the total turnover for the last year.
Undoubtedly, the EU crowdfunding regulation is a step in the right direction that will give the investors confidence that certain minimum protective standards are in place. This framework is relatively less burdensome than to what applies to other financial sectors (e.g., lighter prudential requirements are provided for CSPs, the KIIS does not need to be approved by the competent authorities). The fact that crowdfunding services can only be rendered by entities established within the EU may bring in Bulgaria non-EU CSPs, who wish to reach the EU market through a local subsidiary. On the other hand, local CSPs may face increased competition from EU platforms passporting their services in Bulgaria.
In a nutshell, it remains to be seen how local CSPs will assess and cope with the new set of requirements and whether the new regime will deter their development of or will be giving a boost to the Bulgarian crowdfunding industry.