One Step Closer to Regulating Crowdfunding in Colombia

 

Introduction

This article provides an overview of the most recent developments in Colombian legislation regarding the emergence of financial services through virtual platforms under the technique known as fintech, especially the regulation on crowdfunding. The latter, taking into account the most recent consultation document published by the URF (Unidad de Regulación Financiera by its Spanish acronym), a government agency part of the Ministry of Finance in charge of developing new financial regulation in Colombia. The consultation document presents a general view of the different regulation alternatives of crowdfunding in the world and proposes a set of guidelines in order to develop a legal framework in Colombia for crowdfunding.

Technological innovation schemes: Fintech

The development of technological innovation schemes where financial services are offered to the customers of the financial business is increasing rapidly. These innovative financial techniques known as fintech, allow the individuals who participate in the financial market to transact swiftly and directly, access more information, and reduce the operational costs and the time to complete financial transactions. The emerging of financial services through technological schemes has increased the efficiency of the financial service providers and the financial systems.

What is crowdfunding?

The companies that work with fintech cover a wide range of sub-industries, one of them being crowdfunding, which specifically works as a financial system that raises money from a large number of individuals through virtual platforms in order to finance projects, businesses or personal activities.

Even though there are different types of models by which the crowdfunding can be developed (i.e. donation-based crowdfunding, lending crowdfunding, equity crowdfunding, etc.) the models of crowdfunding that develop financial schemes are the ones that have caught the attention of most countries in terms of the applicable legal framework, those are: lending crowdfunding and equity crowdfunding.

This kind of crowdfunding, generally known as investment or financial crowdfunding is characterized by financial schemes whereby companies raise money from a large group of sponsors. Usually, the sponsors are only required to invest a small amount of money. In return the sponsors will receive initial capital or equity shares of the company.

Benefits of financial crowdfunding

In comparison with some of the traditional investment methods, financial crowdfunding has many added values. Among others, it is important to highlight the broad portfolio of investment projects offered, lower operational costs, wider range of investors and easier ways for the small and medium-sized business to access alternative sources of funding. The above mentioned benefits have allowed these platforms to grow at an accelerated speed. As of 2016, over 2,000 platforms operate under this scheme in the world.

Risks of financial Crowdfunding

However, being such a new figure in the financial market, the crowdfunding still presents a myriad of risks that regulators need to consider. Among others, the regulatory bodies that have implemented crowdfunding legal frameworks, highlight the following risks: (i) Giving the lack of control over the virtual platforms, there is a possibility that the company that receives the investment fails to comply with the payment to the investor, (ii) taking into account the fact that crowdfunding takes place in virtual platforms, there is a possibility of failures in the operative systems of the platforms, including cyber attacks, (iii) possible financing of illegal activities or money laundering, (iv) Fraudulent behavior of the administrators of the virtual platforms, (v) absence of exit mechanisms or liquidation of the acquired investment and (vi) investors may not count with detailed information of the financial market.

Proposals for future regulation in Colombia

Taking the latter into account and aware of the growth of financial crowdfunding worldwide, the URF of the Ministry of Finance in Colombia, has recently published a consultation paper whereby makes a general review of the different alternatives to regulate crowdfunding, taking into account the benefits and risks of this financing source, and proposes new guidelines for the establishment of a new regulatory framework that would permit to use this technique in Colombia.

The consultation document of the URF is based on the Colombian legal framework that regulates financial activities, in order to propose a regulation on crowdfunding, taking into account the current limitations that the regime imposes on crowdfunding. Essentially, the URF focuses on two main scenarios in order to propose guidelines for the regulation: (i) the possibility that crowdfunding platforms are considered forms of illegal and unauthorized fundraising, and (ii) regarding equity crowdfunding, under the Colombian legal framework, the activities performed by these kind of platforms and the companies that seek to raise funds, might be construed as an offer of securities to the public that has been carried out without seeking authorization and registration from the relevant authorities. Both activities, being thoroughly regulated in Colombia and requiring relevant authorizations from the financial authority.

Consequently, it is necessary to adjust the current legal framework, in order to allow crowdfunding in Colombia and, at the same time, ensure the investor protection and stability for the financial system. The URF proposes three main strategies for a future regulation of crowdfunding in Colombia: (i) to undertake a definition of financial crowdfunding, clearly recognized in the law, (ii) to regulate the activity in order for it to be performed, exclusively, by entities under the surveillance and control of the Superintendence of Finance (Colombian financial authority) and, (iii) to establish some duties and conditions to be complied by all the parties that interact in the crowdfunding market.

The above mentioned strategies would allow the performance of financial activities under crowdfunding to be developed in an orderly manner, with clear rules and duties and most importantly under the surveillance and control of the government, which will be the base of a stable financial system that interacts with technology and moves along with the development around the world.

Conclusion

With all being said, we understand that the Colombian authorities will promptly adopt a legal framework for financial crowdfunding, so that these types of financial innovation initiatives contribute to the development of projects of the small and medium-sized business in the country that cannot access other traditional financing schemes.