What Is Crowdfunding?

Examples of crowdfunding
Photo:

The Balance

Crowdfunding is any financing method that involves taking small amounts of money from a large number of individuals.

Key Takeaways

  • Crowdfunding occurs when an entity seeks small-dollar funding from a large group of individuals.
  • Crowdfunding is typically facilitated by websites that connect fundraising entities with individuals who are willing to contribute to that entity.
  • The funders may or may not expect something in return for their funding. It could be viewed as a donation, or they may expect equity, products, or services.

How Does Crowdfunding Work?

Crowdfunding combines the concepts of crowdsourcing and microfinancing, bringing together various individuals who commit small amounts of money to projects and entities they want to support. This is often done through websites that make it easy for entities to find potential funders. Funders could expect something in return for their contributions—such as equity, products, or services—or they may donate the funds.

The people who fund crowdfunding projects and entities may do so without expecting anything in return—they're donations to a cause they support. Others fund projects in exchange for products, services, or equity.

Example of Crowdfunding

One common example of crowdfunding is a creative project a musician you like may use crowdfunding to produce their next album. They make a Kickstarter page for the new album, outlining the basic ideas they have for it. You (along with other fans) contribute $10 to the project. In return, you will receive a digital copy of the album when it's done.

Oftentimes crowdfunding efforts often involve tiered rewards. A $10 donation may earn you a digital copy of the album, whereas a $20 donation gets a vinyl album shipped to your house.

Types of Crowdfunding

Reward-Based Crowdfunding

Perhaps the most popular crowdfunding method comes in the form of rewards-based sites like Kickstarter and Indiegogo. With reward-based crowdfunding, people can pledge money to creative projects, a novel piece of technology, or any other product or service.

Peer-to-Peer Lending

Ever loan small amounts of money to a friend or relative? Platforms like Lending Club and Prosper apply that same concept to crowdfunding. This enables borrowers to get access to funds outside of traditional banking channels. People willing to take a little risk to lend money to other individuals can create whole loan portfolios at the click of a button.

Donation-Based Crowdfunding

Crowdfunding sites are also used by nonprofits seeking donations. Sites like GoFundMe give organizations a free platform to raise funds for their causes. Instead of taking a cut of their donations, GoFundMe asks contributors directly for a donation to help keep the site running.

Note

Contributors who give through sites like GoFundMe don't usually expect anything in return. They're simply contributing to a cause or organization that they support.

Equity Crowdfunding

The smallest slice of the crowdfunding pie, equity crowdfunding nonetheless has the potential to change the way individuals invest their money. Equity crowdfunding enables investors to make real investments in private companies. Sites like AngelList, CircleUp, and OurCrowd offer their own take on equity crowdfunding.

Equity crowdfunding is less regulated than other methods of equity financing. While most businesses need to go through an SEC registration process to issue equity shares, companies can issue up to $1.07 million in securities through crowdfunding methods without going through that process.

There are limits on how much investors can invest through equity crowdfunding. These limits depend on the investor's income bracket and net worth. If either your net worth or annual income falls below $107,000, you can invest up to $2,200 or 5% of your annual income (whichever is greater) through equity crowdfunding every year.

Real Estate Crowdfunding

Real estate crowdfunding sites combine the concepts of crowdfunding and real estate investment trusts. Examples of these sites include Fundrise, RealtyMogul, and CrowdStreet. Contributors kick in small amounts in exchange for equity in real estate (often commercial real estate).

Frequently Asked Questions (FAQs)

What is the most funded Kickstarter ever?

In March 2022, fantasy author Brandon Sanderson launched the most funded Kickstarter project ever. The author raised $41,754,153 from 185,341 backers in exchange for four novels to be released throughout 2023.

Does crowdfunding have to be paid back?

There are a few different kinds of crowdfunding: reward-based, donation-based, peer-to-peer lending, and equity crowdfunding. In donation-based crowdfunding, the project creator is not required to provide anything in return. With rewards-based crowdfunding, those who contribute to the project won't be charged until the project is completely funded.

Was this page helpful?
Sources
The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts within our articles. Read our editorial process to learn more about how we fact-check and keep our content accurate, reliable, and trustworthy.
  1. Office of Investor Education and Advocacy. "Regulation Crowdfunding."

  2. Office of Investor Education and Advocacy. "Updated Investor Bulletin: Crowdfunding for Investors."

  3. Kickstarter. "Most Funded."

  4. Kickstarter. "When Is My Card Charged?"

Related Articles