03 Dec Legal Remedies in Crowdfunding

1. What is Crowdfunding

Crowdfunding is a means to raise funds for a specific project. It is done through platforms where backers may pledge varying amounts of money depending on the amounts set by the person heading the project. It is often used as a means to raise capital for a person to produce a product, often involving new technology.

Though crowdfunding can be categorized in three ways, (i.e., Rewards-Based, Equity-Based and Donation-Based) this article will focus only the Rewards-Based Crowdfunding category. This category of crowdfunding seeks capital from backers to help in the development of a product and they will in turn give the backers rewards based on tiers. These tiers would dictate the amount which the backer contributes, the higher the price paid the more rewards a backer gets when the project is completed. For example a computer peripheral manufacturer goes on a crowdfunding platform seeking to gain capital to produce a new type of keyboard, lower tiers would give the backer the keyboard once it is produced, while higher tiers may include more merchandise from the manufacturer and custom parts for the keyboard they would later on receive.

Crowdfunding is not limited to actual pieces of hardware, such as keyboards, smart assistants and smartphones, it can also be used to fund development of software, such as games. These campaigns then market their respective products on a crowdfunding platform in order to reach out to possible investors for their product. Once they meet their funding goal they proceed with producing the product and thereafter ship or send them to the investors depending on the tier they participated in .

2. What Law Governs Crowdfunding

Since Rewards Based Crowdfunding concerns paying a sum of money in exchange for a thing to be received by the investor it would be considered a sale transaction. Hence the provisions on the law on contracts, specifically on contracts of sale contained in the Civil Code shall apply to these transactions.

Since the mode by which these products are to be sold to the investors is through a platform where they initially market a proposal of a product which is not yet in existence at the time of perfection, the transaction will be considered a sale of a future thing. Such sale is provided under Articles 1247 and 1461 of the Civil Code on the sale of future goods and goods having potential existence. Article 1247 provides that “All things which are not outside the commerce of men, including future things, may be the object of a contract” while

Article 1461 provides that “Things having potential existence may be the object of the contract of sale. The efficacy of the sale of a mere hope or expectancy is deemed subject to the condition that the thing will come into existence. The sale of a vain hope or expectancy is void”.

The provisions cited above concern the concept of emptio rei speratae and emptio spei. The former being a sale of a thing, which has yet to exist, but is reasonably certain to come into existence as a natural increment or incident of something already existing which is already owned by the seller and the title of which shall be vested upon the buyer once the thing comes into existence. The latter concerns the sale of hope or expectancy where there is no certainty as to the thing or its quality and quantity, it is the sale of the hope that the thing shall exist.

The difference between the two concepts is that the former will be void in case the thing does not come into existence while the latter will still be a valid sale even if the hope does not materialize . Of the two concepts a Reward-Based Crowdfunding would more be akin to an emptio spei as the campaigners for the product would be selling the hope that the product they are presenting would come into existence.

3. Crowdfunding Mishaps

Due to the massive reach of crowdfunding platforms it has attracted several people who have ideas for products that they wish to sell. Products which were marketed on the platform have received varying degrees of success and failure.

There are several ways wherein a crowdfunded product may fail. Ranging from the products being below the quality of the product promised to them, or in some extreme cases, the campaigners disappear outright from the platform never to be heard from again by the investors. Some cases of crowdfunding are outright schemes to defraud investors by offering a product which is physically impossible to be produced.

In any case the law gives investors remedies depending why the crowdfunding project failed. Since the transaction concerned is considered a contract of sale, the remedies given to the buyer in case the seller fails to deliver on his obligation may be resorted to by the investors in a Reward-Based Crowdfunding campaign.

4. Possible Legal Remedies of Backers/Investors

The various ways in which a crowdfunding campaign may fail would dictate which remedy will be available to the investors. Remedies may range from enforcing the warranties on the contract to outright having the sale declared void.

One way a crowdfunding project may fail is by the delivery of a thing not of the same quality as the one marketed by the campaigners. One such example is a smart watch that claimed to be capable of replacing a person’s smartphone by integrating an entire smartphone on a wristband which will be worn similar to a watch. The campaigners marketed this product as being capable of doing what a smartphone can do, however the end product had having lackluster performance, far from what the investors were promised.

The claims of the campaigners in this example may be considered an express warranty. Under Article 1547 of the Civil Code, any affirmation of fact or any promise by the seller relating to the thing is an express warranty if the natural tendency of such affirmation or promise is to induce the buyer to purchase the same, and if the buyer purchased the thing relying thereon. Based on the foregoing a crowdfunding campaign claiming to create something with certain features which would necessarily make investors support their projects would be considered an express warranty for the product. Hence the failure to deliver on such promise would allow the buyer-investors to recover based on the breach of warranty made by the seller-campaigner.

An extreme example of a crowdfunding failure is when the campaigners attempt to sell a product which is downright impossible to create. One example is a campaign to create artificial gills for shallow diving. The campaigners claimed that through a simple device, which would convert the oxygen in the water to breathable oxygen, to be worn on a person’s mouth while diving would allow the person to basically breathe underwater. Their claims were actually disproven by themselves when they admitted all their marketing materials were faked and that it was scientifically impossible to create such a device. The campaigners later on refunded all the money of their investors.

This example would be a sale of a vain hope or expectancy. Article 1461 of the Civil Code provides that the sale of a vain hope or expectancy is void. In case the investors were not refunded their money from the example above, the legal remedy under our laws would be to have such sale declared void. Moreover, even under the law on contracts a remedy may be available as the object of this contract, an impossible object, would be outside the commerce of men.

Crowdfunding being a form of sale has several remedies in case such projects fail. The remedies available to investors highly depend on the result of the project, this article provided some examples to demonstrate how the law can protect investors in case these campaigns fail to deliver.

Sources:

https://www.nerdwallet.com/blog/small-business/reward-crowdfunding/

https://www.investopedia.com/terms/c/crowdfunding.asp

New Civil Code of The Philippines

Villanueva, Law on Sales

https://www.kickstarter.com/projects/neptune/neptune-pine-smartwatch-reinvented

https://www.indiegogo.com/projects/triton-world-s-last-artificial-gills-scam#/