FINRA Release Funding Portal Rules
On October 12, 2015, Financial Industry Regulatory Authority, Inc. (“FINRA”) announced that it would file with the Securities and Exchange Commission (“SEC”) a proposed rule change to adopt Funding Portal Rules 100, 110, 200, 300, 800,900 and 1200 (collectively, the “Funding Portal Rules”) and related forms. In addition, FINRA proposed to adopt new FINRA Rule 4518 (Notification to FINRA in Connection with the JOBS Act) in the FINRA rulebook.
The proposed rules are part of FINRA’s effort to implement the crowdfunding provisions of Title III of the Jumpstart Our Business Startups Act (“JOBS Act”). The amended Funding Portal Rules substantially lighten the regulatory burdens on prospective crowdfunding portals (or “Portals”) in comparison to FINRA’s initial set of proposed rules. (See proposing release 13-34, October 2013).
The SEC is generally expected to finalize its rules for Title III crowdfunding by the end of the year and FINRA’s Proposed Amendment suggests that it is gearing up to accept applications from prospective Portals as soon as the SEC’s rules are finalized and effective.
Under Title III of the JOBS Act, securities issuers meeting the applicable requirements would be able to sell their securities to the public in exempt offerings so long as solicitations were conducted on licensed crowdfunding Portals. To ensure that offerings met the requirements of the JOBS Act, the SEC proposed to regulate Portals through FINRA and, in 2013, FINRA proposed an initial slate of rules for prospective Portals. FINRA proposed to treat Portals as a separate category of FINRA member (distinct from broker-dealers) with minimal regulatory requirements.
This latest iteration of the Funding Portal Rules is an additional reduction in regulatory burdens on potential Portals. In particular:
- Fidelity Bond – The 2013 proposed Funding Portal Rules would have required Portals to maintain fidelity bond coverage. In response to some public comments, FINRA has eliminated the requirement of a fidelity bonding, reasoning that its removal would be “in the interest of reducing potential burdens on prospective funding portal members given the limited nature of funding portal business and given that regulatory experience with funding portals is developing.”
- Anti-Money Laundering – The 2013 proposed Funding Portal Rules included a proposed requirement that funding portal members implement a written anti-money laundering program. In response to comments, FINRA reasoned that the anti-money laundering rules would be unnecessary because funding Portals are prohibited from holding, managing, possessing or otherwise handling investor funds or securities and are thereby not in a position to facilitate money laundering. Consequently, FINRA removed the anti-money laundering requirement from its latest proposed rules.
- Central Registration Depository – FINRA expects that Portals will be required to submit mandatory filing information to FINRA via a submission system it has not yet created. Some commenters suggested that such filings instead be made through the Central Registration Depository, similar to current FINRA Rule 1010(a). FINRA declined to make any change in its proposed new rules, however, suggesting that there will be greater “regulatory flexibility” in its new submission system.
- Associated Persons of Portals – In its release, FINRA responded to comments it received regarding the regulation of “associated persons” of Portals through Rule 100(b). It claimed that one commenter suggested that the definition be loosened so as to exclude from the definition employees of a funding Portal whose functions exclusively relate to providing various services to issuers. FINRA declined to make a change in response, reasoning that the services to be provided to issuers will be an important component of the business model of many fund Portals and, accordingly, an appropriate subject of regulation. On the other hand, however, FINRA also declined to make a change in response to a comment that such associated persons be subject to examination and licensing requirements. FINRA reasoned that it was too early to impose such a requirement but that examination and licensing might be appropriate in the future “as FINRA gains experience under the proposed rules.”
- Application of Additional Rules – Some commentators suggested that FINRA should incorporate into its rules those rules from the FINRA rulebook that currently apply to broker-dealer members or that FINRA should duplicate, within the proposed Funding Portal Rules, standards adopted by the SEC in Regulation Crowdfunding. FINRA declined to expand its rules in this way, however, reasoning that its intent was “to streamline the proposed rules to the extent possible to reflect the limited scope of activity permitted by funding portals while also maintaining investor protection.” FINRA stated that it would “enforce any rules for funding portals adopted by the SEC” and, consequently, that there was no need to duplicate the SEC’s rules within FINRA’s rules.
- Miscellaneous – In its release, FINRA discussed several other comments it had received in the comment process. For each topic, FINRA analyzed the request and concluded that it would be premature to mandate a particular approach at this early stage in the development of the funding Portal business. FINRA reasoned that it could adopt additional rules later and that foreclosing some business methods at the outset might have undesirable consequences.
While it is too early to predict how Portals will fare under the SEC’s rules, when they are finalized, and FINRA’s rules, if they are adopted, FINRA’s approach in its latest release reflects a mature consideration of the issues and an intention to implement Regulation Crowdfunding in a streamlined and efficient manner. Prospective Portals should continue to watch for the expected release of the SEC’s final rules, leading to a launch of true interstate crowdfunding in the coming months.
Originally published October 13, 2015, on CrowdFundBeat.
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