Corporate Finance & Securities

Washington Senate Passes Version of House Crowdfunding Bill

Capitol Building OlympiaFriday afternoon the Washington Senate passed its version of a state crowdfunding bill by a 46-2 margin. It was a bit dramatic for those of us invested in the bill, as the Senate had to put the bill to a vote by the end of the day Friday, and it wasn’t certain the bill would be considered. But the Senate passed the crowdfunding bill with only few hours to spare.

The Senate bill is largely similar to the crowdfunding bill passed by the Washington House of Representatives on February 13. But, the Senate bill includes an amendment drafted by Senators Angel and Hobbs that makes a few crucial improvements.

Details of Washington Senate Crowdfunding Bill

We’ve already looked at the House’s original crowdfunding bill, sponsored by Representative Cyrus Habib and others, which was considered by the House of Representatives. We also discussed the version of the crowdfunding bill that was passed by the House, which included an amendment by Representative Hudgins.

Now we’ll take a fresh look at the bill by discussing the details of the Senate’s version as amended by Senators Angel and Hobbs.

Who Can Participate in Washington Crowdfunding?

Only companies that are organized and doing business in Washington can take advantage of the state crowdfunding legislation. Additionally, each investor must be a resident of the state of Washington at the time of purchase.

How Much Money Can Be Raised or Invested?

Companies can raise a maximum of $1,000,000 during any 12 month period. Investors with annual income or net worth less than $100,000 can invest the greater of $2,000 or 5% of their annual income or net worth. Investors with annual income or net worth exceeding $100,000 can invest 10% of their annual income or net worth up to $100,000.

How Will the Crowdfunding Portals Work?

This part of the legislation is left largely to The Washington Department of Financial Institutions (DFI). We do know that working with portals will be optional–companies can work directly with the DFI (as opposed to working with the DFI through a portal) to take advantage of the crowdfunding exemption.

Crowdfunding portals will have to meet regulatory requirements before they can offer crowdfunding services. The version of the crowdfunding bill that passed the House only permitted “associate development organizations” and “port districts” to be crowdfunding portals. Associate development organizations are a unique type of non profit corporation. Importantly, the version of the crowdfunding bill that passed the Senate has an additional provision that allows the DFI to create rules to allow other businesses to be crowdfunding portals provided that these businesses comply with rules that will be issued by the DFI.

If a portal is involved, the portal is required to gather the following as a prerequisite to offering services to the company seeking crowdfunding:

  1. Descriptions of the type of entity (LLC, corporation, partnership, etc.), location, and business plan;
  2. The intended use of the proceeds;
  3. The identities of the officers, directors, managers, and major (10% or greater) owners;
  4. The outstanding securities; and
  5. Any outstanding litigation pending or threatened against the company or its officers, directors, managers, or key shareholders.

After collecting this information, portals will work with the DFI to get approval to move forward with the crowdfunding offering.

What Measures Are in Place to Protect Investors?

The Senate version includes a variety of measures to protect investors:

  1. All funds raised by the company seeking crowdfunding must be held in escrow until a minimum threshold for raised capital is met. This provides investors some protection from investing in a company that is under-capitalized.
  2. The investor must sign a statement acknowledging that the investment is high-risk, and that the investor can afford to lose all of the money in
    vested through crowdfunding.
  3. The company has to issue publicly available quarterly reports that include officer and director compensation as well as a brief analysis of the business operations and financial condition of the company. It is not entirely clear whether the reports have to be made available only to shareholders and the DFI, or if they have to be made available to the entire public. If the reports are required to be made available to the general public, that could be a significant deterrence to utilizing the crowdfunding exemption, as small businesses generally don’t want to share this type of information with others, especially their competitors.
  4. The Angel-Hobbs amendment also added a bad-actor disqualification, which directs the DFI to implement rules prohibiting companies and individuals with a history of violating securities laws from taking advantage of the crowdfunding exemption.

What Are the Key Differences Between the Senate and House Versions of the Bill?

The Angel-Hobbs amendment made at least three major changes and a few minor technical improvements to the original bill. The major differences are:

  1. The expanded definition of portals. The importance of this expanded definition depends largely on what the DFI does with its ability to issue rules allowing companies to become portals. Assuming the DFI’s rules allow for-profit businesses to become portals without making the regulatory barriers so high that no businesses want to start a portal, this could be a very significant difference between the bills. I think portals will be an essential part of crowdfunding, and I don’t believe associate development organizations or port districts are well-suited to be portals–so in my opinion the utility of the Washington crowdfunding bill will be determined to a large extent by the DFI’s portal-related rules.
  2. The bad actor requirements. There’s no good reason to allow those that violate securities laws to utilize the crowdfunding exemption. Adding this restriction protects investors and advances the interest of crowdfunding in general, as it will likely only take a few horror stories of unsuspecting investors getting swindled for crowdfunding to get a reputation that prevents investors from participating in crowdfunding offerings.
  3. Quarterly reporting for all crowdfunding companies. The House version of the bill only extended certain reporting requirements to companies utilizing portals. The Angel-Hobbs amendment makes the reporting requirements consistent for companies regardless of whether they’re using a portal. This makes a lot of sense when you look at the issue from an investor-protection perspective: Why should investors that invest in a company that is not using a portal get less information than investors that invest in a company that is using a portal?

Stack of CashExample of a small technical improvement: The House version required the investor risk acknowledgement discussed above to be signed electronically; the Angel-Hobbs amendment added that the risk acknowledgement could be signed manually.

 

What’s Next for Washington Crowdfunding?

First, the Senate and House versions of the bill have to be reconciled. The process consists of the House reviewing and either concurring in the amendments, asking the Senate to reconsider and concur with the House version of the bill, or refusing to concur and asking the Senate for a conference to reconcile the bills. It is my understanding that the different houses of the legislature have been working together on this bill, including working together on the Senate amendments, and it seems likely that the House will concur. This means the Senate version of the bill will likely get presented for Governor Inslee’s signature.

Don’t Start Crowdfunding Just Yet

Once the bills are reconciled and agreed, Governor Inslee will have the option of signing the bill into law or vetoing the bill. If he signs it into law, the crowdfunding rules will still not be “live,” as the DFI has until April 1, 2015, to issue rules to enact crowdfunding in Washington. Given the novelty and controversial nature of crowdfunding, I anticipate the rulemaking process will take the full allotted time, or longer, as the DFI will likely allow lengthy comment periods for the proposed rules.

We’ll keep an eye on the developments and post updates here and on our Twitter account (@inVigorLawGroup) as we get them.

Photo: moose mama | Flickr (Capitol Building)
Photo: Amagill | Flickr (Stack of Cash)

If you have any questions about crowdfunding and raising capital for your business, please comment below or contact us.

        


Kyle Hulten

When I'm not in the office I enjoy cooking, gardening, and watching my toddler son explore his little universe.


146 N Canal Street, Suite 350   |   team@invigorlaw.com