PayPal Frozen Accounts Reveal Crowdfunding Growing Pains

PayPal Frozen Accounts Reveal Crowdfunding Growing Pains

Robert J. Mullins CFB Sr.Staff writer

The controversy over PayPal freezing funds of crowdfunded startups has given the payments processing site a black eye, but a closer look shows it’s just an indication of how existing financial institutions have to adapt to the nascent crowdfunding phenomenon.

PayPal is in the process of reviewing and revising its policies related to accepting funds from donors to projects that use crowdfunding platforms such as Kickstarter, Indiegogo and others to collect funds. When a donor gives money to a startup through those platforms, PayPal processes the payments that go into specific projects.

Payments processing firms like PayPal, which is owned by eBay, are subject to some of the same regulations that companies like Visa and MasterCard have to follow, which are designed to protect consumers. And like so many scams that proliferate on the Internet, sites like PayPal have to be on the lookout for fraud.

Lately, PayPal has frozen some of the accounts of crowdfunded projects because of questions about their validity. According to news reports, companies subject to their funds being frozen include the wearable glasses maker GlassUp, a gaming company call Red Thread Games and an e-mail tools company called Mailpile. Each of them had their funds frozen for a time over the last two months, generating plenty of criticism for PayPal.

In a blog post dated Sept. 11, Tomer Barel, vice president of risk management for PayPal, tried to explain PayPal’s position on the issue and that it is reviewing its policies.

“There are unique regulatory and risk aspects inherent to this new way to raise money from supporters around the world,” Barel wrote. “Because the model is so new, it is potentially open to abuse. PayPal has a responsibility to ensure that the system remains secure, in compliance … and that consumers who contribute to these campaigns understand where their money is going.”

Contacted this week by CrowdFundBeat, a spokeswoman for PayPal said the review is still underway.

Commenters to Barel’s post were not in a charitable mood.

“Perhaps it’s time to get your priorities straight and deal with issues that cause real harm to the community,” wrote one poster. Said another: “The problem … is that you collect tens of thousands of dollars of other people’s money, and THEN decide to just hold onto it. That’s exactly as bad as a completely fraudulent crowdfund.”

But even one of PayPal’s competitors says there are legitimate reasons why PayPal would have concerns. However, Bill Clerico, co-founder and CEO of WePay, said he thinks his company has a better approach to studying certain suspicious transactions and quickly letting the legitimate ones go through.

Payments processors are subject to state, U.S. and international regulations governing such transactions, said Clerico. In addition, these companies are subject to Payment Card Industry (PCI) compliance, an industry group headed by Visa, MasterCard and others.

Clerico understands why PayPal would be suspicious seeing

Bill Clerico, CEO of WePay

a crowdfund site suddenly have its funding skyrocket from zero to $1 million in just a few days and want to put the brakes on.

“Crowdfunding is sort of this new area of payment processing and it’s not really clear how it fits into the existing regulatory framework, and so they are still trying to figure that out,” he said.

Processing systems also have to be on the lookout for fraud, just as the public in general has to be wary of e-mail scams. In the wake of natural disasters like Hurricane Sandy and tragedies like the Boston Marathon bombing, Web scams proliferated online disguised as fundraisers for victims of those calamities. Frauds can exploit crowdfunding sites, too, said Clerico.

WePay offers an open application program interface (API) that crowdfunding platforms can use to set up a simple but secure way of accepting crowdfund payments and verifying their legitimacy. Clerico says WePay has been processing such payments securely for almost two years and that it gets more of its business from crowdfunding than does PayPal. Because a smaller percentage of PayPal’s processing is for crowdfunding sites, it may take it more time to support those payments securely.

WePay is to announce Oct. 21 that it processes $1.5 million in payments per day to crowdfunding platforms such as GoFundMe, CustomMade, Bookfresh and Soldsie.