What is Crowdfunding?

Crowdfunding is a means of raising small amounts of money from a large number of people to fund a new product, cause, or business.

Unlike traditional sources of funding, where founders and their companies seek larger amounts from relatively few sources of funding (banks, angel investors, and venture capitalists), crowdfunding solicits small amounts of money from a large number of investors.

Crowdfunding is typically carried out online via a crowdfunding platform- a crowdfunding site designed to allow project creators to create a campaign to solicit money from supporters of their idea.

Crowdfunding allows the creators of a product, creative work, or business to organize a campaign on a crowdfunding platform where they describe, showcase, and pitch their product, creative work, company, or idea. They then market their campaign and solicit the crowd to contribute to their project, oftentimes in exchange for the promise of a reward, to be paid back, or with equity in the company.

Depending on your project or startup, there are several types of crowdsourcing that have emerged over the past 20 years, each with unique funding models, along with its own advantages and disadvantages.

Donation-Based Crowdfunding

Donation-based crowdfunding is a type of backer-supported crowdfunding where the campaign creator(s) ask backers to contribute to a campaign without any type of reward or stake in the venture.

Donation-based crowdfunding is the oldest (and one of the most popular) types of modern-day crowdfunding and is most often associated with charities and social causes.

The most popular donation-based crowdfunding platforms include platforms like GoFundMe, Fundly, and RocketHub.

Although the pros of donation-based crowdfunding (like not having to deliver rewards or give up an economic stake in the company) are readily apparent, individuals and for-profit ventures may have difficulty relying on the charity of the crowd to raise startup project capital.

Reward-Based Crowdfunding

The most popular type of crowdfunding for entrepreneurial projects and ventures is reward-based crowdfunding (think Kickstarter & Indiegogo).

In reward-based crowdfunding, campaign supporters are promised a reward for contributing to a project. Most often, rewards include the products or services that the campaign was created to fund.

Crowdfunding raises startup capital while also allowing startups to gain exposure, build awareness, and validate their ideas with early “customers”.

Unlike many other types of new venture capital, reward-based crowdfunding does not require startups to incur additional debt or to give up ownership or equity in their venture. However, a large portion of the capital raised in reward-based crowdfunding often goes to the delivery of the rewards.

Lending-Based Crowdfunding

Lending-based crowdfunding (aka debt-based crowdfunding or peer-to-peer lending) is a type of investor-funded crowdfunding where campaign creators solicit unsecured loans from the crowd. In lending-based crowdfunding, campaign creators ask supporters to invest in projects with the promise of future repayment plus interest.

Examples of popular lending-based crowdfunding platforms include LendingClub, Prosper, Funding Circle, and Kiva.

Compared to other forms of crowdfunding, lending-based crowdfunding does not require giving up any equity in the venture, nor does it require campaigns to offer rewards to supporters. On the other hand, unlike backer-based crowdfunding models, the capital raised through lending-based crowdfunding has to be paid back to the investors in your campaign.

Equity-Based Crowdfunding

In equity crowdfunding, entrepreneurs offer equity in their ventures in exchange for their campaign supporter’s investment.

Equity crowdfunding provides the potential to combine some of the benefits of crowdfunding with a funding structure similar to traditional equity funding options.

Examples of equity crowdfunding platforms include AngelList, CircleUp, Fundable, and Crowdfunder.