Perpetrators of Crowdfunding Fraud Can't Hide From The Law Forever

For years, crowdfunding has been a bit like the Wild West of finance. But as the industry continues to grow, state and federal authorities are catching up to abusers of the system.
Perpetrators of Crowdfunding Fraud Can't Hide From The Law Forever
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5 min read
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Crowdfunding feels like a great idea. It’s a way to help a startup get off the ground by contributing money in exchange for a gift. Lots of people would love to have known Bill Gates at the start of Microsoft or been best friends with today’s equivalent of the Wright Brothers.

Today, crowdfunding, which allows entrepreneurs to pitch to the grassroots masses, and avoid bank loans and angel investors, has raised $34 billion globally with 191 platforms in the U.S. alone and is expected to grow to $300 billion as an industry by 2025, according to research by Fundly.com.

Any crowdfunding platform will happily tout its successes. Kickstarter links to them on its front page, as does Indiegogo. Crowdfunding even made the movie Veronica Mars possible, with 91,585 donors raising $5,702,153 on Kickstarter back in 2013. And yes, people use crowdfunding all of the time for personal reasons like travel expenses, funds for weight loss programs and skin tightening treatment, and help with legal bills for divorces.

But there’s a nastier underbelly to crowdfunding: Fraud. Fraud occurs when a business fails to deliver promised gifts to donors (or those gifts turn out to be just plain lemons) or when donor money is misused. State and federal authorities are starting to get wise and catch up to crowdfunding abuses, but in many respects, the industry needs a new sheriff in town.

Crowdfunding platforms and legal liability.

Crowdfunding platforms are how project creators reach a wider array of possible backers than they might otherwise. Often a project creator has three duties: Follow the crowdfunding platform’s Terms of Service, complete the project, and provide all promised perks. At that point, most platforms feel their involvement ends.

The University of Pennsylvania conducted a study of Kickstarter, surveying almost 500,000 backers. The study looked at failures and found:

  • 9 percent of Kickstarter projects did not deliver rewards;
  • 8 percent of dollars pledged went to failed projects;
  • 7 percent of backers did not get a chosen reward; and
  • 65 percent of backers agreed or agreed strongly that “the reward was delivered on time.”

Also, the study found that the projects most likely to fail wanted $1,000 or less. While the study did not go into why, that may have to do with tiny projects not getting enough exposure or the inexperience of the project runners. Furthermore, project runner behavior mattered. Backers reported less dissatisfaction if they got a refund or at least a really good explanation for the failure.

Related: Beating the Odds and Avoiding Failure When Crowdfunding

Kickstarter’s Terms of Service, part 4, states: “When a creator posts a project on Kickstarter, they’re inviting other people to form a contract with them. Anyone who backs a project is accepting the creator’s offer and forming that contract.”

A backer is party to a contract. Hence, it’s a legal agreement subject to legal action if breached.

First legal actions.

On April 30, 2014, Washington State Attorney General, Bob Ferguson, brought the first enforcement action in the nation against Altius Management, court documents show. This was to pay for irregularities arising from the 2012 Asylum Playing Cards Kickstarter campaign, they said. Ferguson won his case, and the defense had to pay $54,851, according to the attorney general's office.

In June of 2015, the Federal Trade Commission intervened in a case involving a misuse of crowdfunding money, suing for $122,000, the FTC said. A part of the verdict involved the defense having to honor all stated refund policies, court documents show.

In September 2016, the Oregon Justice Department confirmed that it was investigating the Coolest Cooler, according to The Oregonian newspaper. Although some backers had never received their perks, the product was being sold on Amazon, it reported. In 2017, the company settled with the Oregon Department of Justice, where they were required to deliver to over 800 people who still hadn’t gotten coolers, The Oregonian reported.

Related: 3 Mistakes to Avoid When Running a Crowdfunding Campaign

The sheriff.

The Federal Trade Commission protects consumers from scams. And it should be handling crowdfunding. There are some responses to FOIA requests. However, the last one on the FTC’s website dates back to 2017. Otherwise, the FTC seems to have been rather hands-off unless funds are misused, as in the 2015 case.

But the sheriff may have, after a few years, come back to town, because on August 29, 2018, The Verge reported the FTC is back investigating crowdfunding. After campaigns on both Indiegogo (2015) and Kickstarter (2016), the iBackPack netted over $700,000, it reported. But the backpacks haven’t shipped yet, The Verge reported, and iBackPack's website no longer works. The campaign runner last updated in 2017, according to the product's Kickstarter campaign page. It’s a situation ripe for an investigation by the sheriff. And maybe there will be justice.

The deputy.

But the FTC doesn’t seem to intervene if a product is delivered but doesn’t perform as expected. Who handles that? It would appear no one. Where is the Lemon Law for crowdfunded products?

Related: In Landmark Move, FTC Takes Action Against Kickstarter Campaign Fraud 

And which agency is going to handle crowdfunded rewards, perks, and products which injure or kill someone? The deputy, it would seem, has been sleeping on the job. If the crowdfunding industry grows as it is predicted to, we need law enforcement to keep up with it at a similar pace.

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