Types of crowdfunding

Crowdfunding had enjoyed a meteoric rise in growth and popularity. Projections are that, whilst still relatively small in overall funding terms, this trend is set to continue. But what is it, and what are the different types of crowdfunding? 

What is it?

Crowdfunding is an alternative source of finance for your business. It is a concept whereby individuals (the crowd) collectively pool their resources – usually online – to support businesses or social enterprises. It is used in support of a wide variety of activities, including: business growth; start-ups; innovation; support of musicians by fans; disaster relief; and scientific research.

It is basically a way of raising finance by asking a large number of people for a small amount of money each. Traditionally, financing a business, project or venture involved asking a small number of people for large sums of money, for example a business angel. This type of funding switches this idea around, using the internet to talk to thousands – if not millions – of potential funders. 

Typically, those seeking funds will set up a profile of their project on a crowdfunding website. The crowd will then decide whether to back the idea or not. There are three different types including: donation; debt; and equity.

Debt crowdfunding

Debt crowdfunding occurs when investors effectively provide loans to a business, and will receive their money back with interest. Also called peer to peer lending, it allows for the lending of money while bypassing traditional lenders such as banks.

This type of funding tends to be only available for established businesses. Although, there are now a large number of specialist funders focusing on different parts of the market, for example: asset-backed lending; invoice discounting; bridging finance; and personal lending.

Equity based crowdfunding

This occurs when money is exchanged by individuals for a small stake in a business (including start-up), project or venture. As with other types of shares, apart from community shares, if it is successful the value goes up. If not, the value goes down. There have been issues and concerns over FCA compliance, but this is gradually being addressed. 

As with debt crowdfunding, there are several equity based crowdfunding specialists which concentrate on different parts of the market including start-ups, established and growth businesses.

Donation crowdfunding

Donation crowdfunding occurs when people invest simply because they believe in the cause. Rewards can be offered, such as acknowledgements on an album cover, tickets to an event, free gifts, etc. Donors typically have a social or personal motivation for putting their money in and expect nothing back, except perhaps to feel good about helping the project. 

Crowdfunding and its different types were essentially created by the need to fill the funding gap following the credit crunch. Alternative finance business lending, of which this is a big part, is a trend is forecast to continue. If you would like to know more, get in touch.

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