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Technology: SEC Considers Revising Rules for Online Funding

What's New in Technology

June, 2011

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Technology: SEC Considers Revising Rules for Online Funding

Finding new ways to raise capital is important to many small business owners, especially since traditional credit has slowed following the recent financial crises. New challenges require new solutions. To that end, innovative entrepreneurs have developed crowd-funding online sites as a new way for small businesses to raise capital. The growing popularity of crowd-funding along with lobbying efforts from the small business sector have prompted the U.S. Securities and Exchange Commission to agree to revisit the current regulations governing fund-raising for small businesses. Currently, crowd-funding supporters are waiting for the SEC findings and hoping that existing fund-raising rules that ban the sale of equity on such sites will be eased so startups can sell a limited amount of stocks online.

What is Crowd-Funding?
The money raising mechanism known as crowd-funding has been around for about 10 years, in one form or another. It started as a way for musicians, artists and filmmakers to use the Internet to raise money from fans and supporters. The idea was co-opted by small businesses to allow small business owners and entrepreneurs to pitch their ideas and proposals through online networks. Regulations allow these sites only to facilitate donations. Individuals assess the firms’ pitches online and decide whether they wish to donate funding to any of the businesses featured. Most companies that run the sites make money by charging a service fee to the businesses listed. SEC regulations currently prohibit these sites from conducting online equity sales that would give donors a stake in the companies they support. To comply with regulations, donors who provide funds receive a token gift in return, rather than an equity stake in the company.

Will the SEC Allow Internet-Based Equity Funding Sites?
At the beginning of May, the SEC announced it was forming a Small Business Committee to review regulations governing fund-raising for small private firms. Specifically, the SEC mentioned online crowd-funding and regulatory approaches to Internet-based capital-raising efforts. According to SEC Chairperson Mary Schapiro, the SEC has recognized that “cost-effective access to capital for companies of all sizes plays a critical role in our national economy, and companies seeking access to capital should not be burdened by unnecessary or superfluous regulations.”
The review will also look at the current ban on advertising the sales of securities and at rules requiring companies with more than $10 million in assets and 499 investors to register with the SEC and disclose financial data.

Pros and Cons
Supporters of proposed reforms believe the regulations should be revised to reflect the Internet’s critical role in business today. They believe current requirements – that date back to 1930 – are too complicated and financially burdensome considering the legal and filing fees involved. They hope that an SEC exemption will allow startups to sell a limited amount of shares through Internet sites, providing an incentive for online backers.

Others express concern that revised regulations would weaken the protection investors have and possibly enable fraud. They think investors could suffer if the reporting and disclosures currently required are eased, and believe the current rules are necessary to help individual investors make appropriately informed decisions.

No timetable has been established, but the Small Business Committee’s proposals will be subject to public comment before any action is taken.

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These articles are intended to provide general resources for the tax and accounting needs of small businesses and individuals. Service2Client LLC is the author, but is not engaged in rendering specific legal, accounting, financial or professional advice. Service2Client LLC makes no representation that the recommendations of Service2Client LLC will achieve any result. The NSAD has not reviewed any of the Service2Client LLC content. Readers are encouraged to contact their CPA regarding the topics in these articles.

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