Crowdfunding is defined as raising small amounts of money from a large number of people, who are known as crowdfunders, typically via the Internet or a social media portal.
While this was a relatively small market five years ago, observers at Forbes magazine have estimated that the global crowdfunding market raised over $30 billion worldwide in 2015.  For seed-stage start‑ups, crowdfunding has emerged as an increasingly common financing strategy, since it enables them to finance their project while at the same time generating public attention and building brand awareness.
Crowdfunding can take a variety of forms: it may be donation-based, rewards-based, debt-based, or equity-based. In this article, we will focus specifically on the regulatory framework that governs equity financing in Canada.
The emergence of equity crowdfunding represents a significant departure from the general Canadian securities legislation framework, under which a company is required to issue a prospectus in order to raise capital from the general public.
Canadian securities regulators in some jurisdictions have adopted regulatory exemptions for crowdfunding from prospectus requirements that allow small- and medium-sized enterprises to raise capital from a large number of investors through online funding portals, thereby democratizing the general populace’s access to investment in early-stage start-ups.
On May 14, 2015, British Columbia, Saskatchewan, Manitoba, Quebec, New Brunswick and Nova Scotia adopted substantially harmonized registration and prospectus exemptions, commonly referred to as the start-up crowdfunding exemptions. 
Under these exemptions, start-ups whose head office is located in a participating jurisdiction and that are not reporting issuers are allowed to offer their shares for sale to the general public through an online funding portal registered with the applicable securities regulatory authority, using the pre-established offer documents that are available on the portal. However, the start-up crowdfunding exemptions provide relatively low subscription limits, since start-ups may only raise up to $250,000 per offering, subject to a limit of two offerings per calendar year, for a total of $500,000 per calendar year. Similarly, investors may only invest up to $1,500 per offering, but there is no limit as to the number of offerings in which an investor may participate.
Equity crowdfunding was further entrenched in the Canadian securities regulatory framework on January 25, 2016, when Multilateral Instrument 45-108 – Crowdfunding came into force in Manitoba, Ontario, Quebec, New Brunswick and Nova Scotia. This equity crowdfunding prospectus exemption also allows start-ups and small- and medium-sized enterprises to raise capital through a registered online funding portal on a prospectus-exempt basis and provides for a higher limit on the capital that may be raised.
Under the equity crowdfunding prospectus exemptions, eligible issuers may raise a maximum of $1,500,000 per 12-month period. The main eligibility criteria for an issuer are that it be incorporated under Canadian law and headquartered in Canada and that a majority of its directors reside in Canada. In addition, the issuer may not be an investment fund. Subscription limits for investors will vary depending on whether an investor is an accredited investor (as defined in securities regulations). In Ontario only, another category of investors called “permitted clients” (as defined in the securities regulations) is subject to its own specific investment limits. Investments by non-accredited investors will be limited to $2,500 per offering (up to an annual maximum of $10,000, only in Ontario). While investments by accredited investors may be higher, they are limited to $25,000 per offering (up to an annual maximum of $50,000, only in Ontario). In Ontario, investors who are considered to be permitted clients are not subject to limits on the amount of capital they can invest.
Legal issues in crowdfunding
Start-ups that are considering an equity crowdfunding scenario should bear in mind the future implications of relying on the start-up crowdfunding exemptions and equity crowdfunding prospectus exemptions.
First, a company that has relied on the start-up crowdfunding exemption or equity crowdfunding prospectus exemption will lose its status as a private issuer under National Instrument 45-106 – Prospectus Exemptions  and will thus become subject to certain reporting requirements under the applicable securities legislation, such as the requirement to file a report of exempt distribution with the relevant securities regulators each time it issues securities.
Second, a company that has relied on the equity crowdfunding prospectus exemption will become subject to certain continuous disclosure obligations, including the obligation to provide the relevant securities regulators with annual financial statements and to make those financial statements available to investors within 120 days of their financial year end. The financial statements must be accompanied by an examiner’s report or an auditor’s report, depending on the total amount of funds raised by the company under an exemption or exemptions from the date it was incorporated to the end of its last financial year (the examiner must produce a report where the amount exceeds $250,000 and the auditor must do so where the amount exceeds $750,000).
Third, crowdfunding investors will become shareholders of the company and therefore enjoy the statutory rights granted to shareholders under the laws governing business corporations. Basic shareholders’ rights include the right to receive annual financial statements, elect the board of directors and appoint auditors of the company. Start-ups may consider circumscribing investors’ rights in a shareholders’ agreement or a voting rights agreement. Those agreements could be included in the documents made available at the time of the share issue through the funding portals. Start-ups may also consider issuing a specific class of shares with limited rights, which would require an amendment to the company’s articles of incorporation before launching an equity crowdfunding campaign.
Investors should also keep in mind that while equity crowdfunding allows private investors to invest in start-ups, this kind of investment may prove largely illiquid, since shares acquired via a crowdfunding portal may not be resold except under another available prospectus exemption or by filing a prospectus.
As long as crowdfunding campaigns comply with the new crowdfunding exemptions for start‑ups, they can be very effective for building brand awareness. For a seed-stage start-up, given that liquidity and marketing are often cited as the two major obstacles to growth, crowdfunding is a useful solution on both fronts. For investors, they can enjoy the advantage of being in a strategic position by being as close as possible to the idea that is the source of the development and publicizing their support for a start‑up at a relatively low cost.
-  This article was originally published as part of the following article by the same authors: “Early-Growth Financing and Capital Structure, Guiding Your Company to the Next Level” in LEXPERT, online: http://www.lexpert.ca/article/early-growth-financing-and-capital-structure/?p=13%7C56&sitecode=CCCA.
-  According to Forbes magazine in 2015: Chance Barnett, “Trends Show Crowdfunding To Surpass VC in 2016”, Forbes, online: Forbes magazine http://www.forbes.com/sites/chancebarnett/2015/06/09/trends-show-crowdfunding-to-surpass-vc-in-2016/#64c648d0444b.
-  Canadian Securities Administrators, “Multilateral CSA Notice 45-316: Start-up Crowdfunding Registration and Prospectus Exemptions”, online: British Columbia Securities Commission, online: British Columbia Securities Commission <https://www.bcsc.bc.ca/45-316_[Multilateral_CSA_Notice]_05142015/
-  In Quebec, Regulation 45-106 respecting prospectus and registration exemptions, 2005 GOQ 2, 3664.