Earlier this year, Senator Pat Toomey, the ranking member of the Senate Banking Committee, issued a call for policy proposals that could boost economic growth. Key policy moves designed to generate more jobs and improve prosperity are always needed – even more so on the heels of a health crisis.
One of the submissions forwarded to the Committee came from two economic policy experts, David Burton and Norbert Michel. Burton is Senior Fellow in Economic Policy, Roe Institute for Economic Policy Studies, Institute for Economic Freedom and Opportunity, at The Heritage Foundation. Michel is Director, Center for Data Analysis, at The Heritage Foundation.
The document submitted by the two experts is extensive covering a broad range of policy initiatives that can improve the economy while generating opportunity for the masses. In brief, small business is key and entrepreneurship is vital to keep economic engines going. Burton and Michel note that most net job creation is created by startups launched by entrepreneurs.
“The vast majority of economic gains from innovation and entrepreneurship accrue to the public at large rather than entrepreneurs. Entrepreneurs are central to the dynamism, creativity, and flexibility that enables market economies to consistently grow, adapt successfully to changing circumstances, and create sustained prosperity. Entrepreneurship promotes the common good, prosperity, and a higher standard of living. Among the most important factors impeding entrepreneurship are securities laws that restrict entrepreneurs’ access to the capital needed to launch or grow their businesses. After all, without capital to launch a business, other impediments to entrepreneurial success are moot.”
Amongst the diverse list of policy concepts are multiple recommendations that fall under the Fintech sector. Overall, the paper is divided into six different parts but several align with various areas Fintech. When it comes to online capital formation (ie crowdfunding), Burton and Michel state that Reg A+ and Reg CF allows ordinary investors to invest in young firms and for young firms to find a new source of capital, while noting these exemptions have, so far, “been of relatively minor importance largely due to the regulatory and statutory structure of these exemptions.”
Reg D (506b) remains the exemption of choice for young firms due to its simplicity and low cost. The two authors believe the Commission should do more to simplify and streamline the “hodgepodge matrix of exemptions” while taking the cost of raising capital into consideration.
Reg CF recently received an update including an increase in the funding cap from $1.07 million to $5 million. But Burton and Michel believe more needs to be done and the two policy experts have done a solid job of outlining the opportunities for policymakers to improve the exemption. Recommendations include adjustments to liability concerns for funding portals while allowing them to more clearly curate offerings listed for investment.
Reg A+ gets some attention as well as the paper advocates for “blue sky registration and qualification requirements for all primary and secondary offerings of any Regulation A offering should be preempted.” Adjusting current investment limitations while enabling S-corp participation is recommended too.
“If the blue sky preemption issues and the income or net worth limitations were addressed, Regulation A could become a leading means for ordinary investors to invest in entrepreneurial companies.”
Regarding Reg D (506c), the authors compare the UK’s process for self-certification of sophistication for investors. Currently, accredited investors must go through a cumbersome verification process to participate in generally solicited securities offerings.
“Self-certification is permitted in the United Kingdom both for sophisticated investors and high net worth investors (income of £100,000 or more or net assets of £250,000 or more).66 Neither in the U.K. nor in 506(b) offerings (before and after the JOBS Act) has self-certification caused significant problems. The current 506(c) rules are a solution addressing a non-existent problem.”
Peer-to-peer lending receives some commentary as the two policy experts believe that removing regulatory impediments could boost this market that lost a key element when LendingClub decided to forgo the retail investor market.
“… Loans to small businesses by banks, credit unions, finance companies, or individuals in private transactions not using a P2P lending platform are almost always treated as exempt from registration requirements. Loans via P2P lending platforms are not. This fundamentally irrational disparity in treatment creates a major regulatory impediment to both consumer and small-business lending using P2P lending platforms, harming both small-business and consumer borrowers, as well as investors seeking a better return. It also protects banks from competition from non-bank financial intermediation. This impediment has proved, in practice, virtually insurmountable unless the regulatory regime governing P2P loans is improved.”
A suggestion to amend Reg CF to create a specific crowdfunding debt security category may be a path to improve small business lending.
The much-maligned and non-sensical definition of an accredited investor receives a proposal in the document. Burton and Michel believe that Congress should provide that a natural person is an accredited investor for purposes of Regulation D who has:
(1) passed a test demonstrating the requisite knowledge, such as the General Securities Representative Examination (Series 7), the Securities Analysis Examination (Series 86), or the Uniform Investment Adviser Law Examination (Series 65)58or a newly created accredited investor examination testing for substantive investment knowledge;
(2) met relevant educational requirements, such as an advanced degree in finance, accounting, business, economics or entrepreneurship; or
(3) acquired relevant professional certification, accreditation, or licensure, such as being a certified public accountant, chartered financial analyst, certified financial planner, registered representative or registered investment advisor representative.
By taking a sophistication approach instead of using a wealth metric, more access to the booming private securities market could be facilitated.
Jumping to the fast-emerging crypto or digital assets market, Burton and Michel are clearly supporters of this sector of Fintech. Pointing to the ongoing discussion of determining when a digital asset is a security, a currency, or perhaps something else, a recommendation is made for legislative action that provides more clarity for crypto firms:
“… holders of digital assets may not be deemed (1) parties to an investment contract or (2) an investor in a common enterprise unless, while the enterprise is a going concern, the holder is entitled to (1) a share of the earnings or profits of the common enterprise, or (2) a defined flow of payments from the common enterprise in consideration of the investment or, the holder has rights against the assets of the common enterprise upon liquidation.”
The authors criticize the SEC stating their analysis of the crypto sector has been “analytically weak and its guidance to marketplace participants of dubious utility and made at a glacial in pace.”
Regarding digital currencies, the two promote the opinion that tax laws should be amended where “changes in the relative value of an alternative currency and the dollar is not a taxable event and need not be reported.”
Slamming the current regulatory approach, Burton and Michel state that “securities regulators have provided guidance [for] crypto, digital, electronic or alternative currencies that is about as clear as mud.” Just about everyone in the US digital asset sector will concur with this statement.
There is plenty more in the document as it is quite extensive. A must-read for both Republicans and Democrats, private individuals as well as government professionals, as there is much here that should not engender any debate between the two parties. What is fundamentally clear is that policymakers, both elected and appointed, must continue to improve the ecosystem for risk-taking entrepreneurs and innovators. This segment of society is vital for a robust economy that generates both economic growth and wealth for all – and the country needs more of this.
You may download the complete document here.