Crowdfunding is one of the newer ways to fund your business. It’s brought real change to the world of startup finance, as well as the lives of business owners who’ve benefited from it. But what is crowdfunding? And is it a potential source of business finance for your bright idea?

What is crowdfunding?

Put simply, crowdfunding is when people who need money post about their idea or issue online and ask investors to make a contribution towards it. This usually takes place via a specific crowdfunding platform, which helps the people build and promote their appeal, whilst taking a small cut of the money raised.

If you’re on social media, you’ve probably seen crowdfunding campaigns in action. People use crowdfunding for:

  • funding a new business
  • raising money for charity
  • clearing debts
  • getting help after hardship, such as illness or a break-in

The most well-known crowdfunding sites are Kickstarter, Crowdfunder and GoFundMe, although smaller specialist sites are springing up all the time.

One of the great things about crowdfunding is that it doesn’t just raise money, it raises your profile too. As you circulate your appeal online, you reach people who are passionate about your product or project. They share it with their contacts and your appeal can snowball into success.

Plus, you may build an audience eager to buy from you when you do get your business off the ground. If your appeal really takes off and goes viral, you might find yourself a crowdfunding success story that raises a fortune and grabs the headlines too.

Types of crowdfunding

  • Peer-to-peer lending – Investors give money to a third party, who distribute the funds to businesses as loans. The investors receive an agreed rate of interest and the business receives vital funding.
  • Investment-based crowdfunding – Investors invest in a business and receive a stake in the business in return. Think Dragon’s Den on a smaller scale.
  • Reward-based crowdfunding – Investors get a non-cash reward for investing, as a thank you from the business. This will usually be in the spirit of the business, such as a free version of the product they’re seeking funding to produce.
  • Charity crowdfunding – This is specifically for donations rather than investment. People use this for fundraising and clearing debt.

Why do people invest in crowdfunding projects?

There are lots of reasons why people choose to crowdfund businesses or individuals.

  • Investment – Some people put money into crowdfunding projects because it is an affordable and accessible way to start investing.
  • Self-interest – If a crowdfunder is offering something you want, it makes sense to invest in it.
  • Making the world a better place – For some people, crowdfunding is more than money, it’s a movement. It is a way to help the underdog, spread happiness and support people’s dreams.

What can I use crowdfunding to pay for?

Any costs associated with your business

You can use the money you raise to fund any costs associated with your business.

Peer-to-peer lending is like a conventional business loan. You’ll write a business plan and budget. If approved for the loan, you can use the money as agreed.

With investment or reward-based crowdfunding, you don’t need to submit a business plan but it is sensible to write one. It’ll help you work out how much you need and give investors confidence in your plan.

Once you’ve raised your funds, you are free to put your plan into action. That could include product development, marketing, research or a salary whilst you get your business off the ground.

Can I use crowdfunding to pay myself a salary whilst I start my business?

You can. Regardless of what type of crowdfunding you use, paying yourself a salary is a legitimate use of funds.

Be upfront about how you’ll use the money. Part of the joy of investing is knowing you’ve helped someone quit their job to pursue their dream.

Can I use crowdfunding to pay off debts?

Yes. Crowdfunding can be used for any purpose. You write your appeal and send it out into the world. If your situation resonates with people, they’ll contribute.

To raise money to pay off debts, you’d use charitable crowdfunding rather than peer-to-peer lending or investment-based crowdfunding.

There are even crowdfunding sites specifically for people looking for help with their debt. Zero Bound is a platform that helps young people pay off their student debts in exchange for community volunteering.

What if I only raise some of the money?

Most investment-based crowdfunding works on an all-or-nothing basis. You have to raise all of the money you’ve requested. If you don’t reach your goal, no-one is charged for their pledge.

That’s because – with this type of crowdfunding - the money is an investment, not a donation. If you fail to raise the required amount, you’ll not be able to put your plans into action effectively, and you’ll not be able to deliver return on investment for the people who’ve pledged.

Depending on the needs of your project, it is important for you check whether this applies to the crowdfunding platform you choose.

Is crowdfunding right for me?

You need to have an audience to make crowdfunding work. Only a small minority of crowdfunding attempts are successful. Publishing an appeal and hoping it’ll go viral isn’t a strategy for success.

Have you got an audience?

  • If you already have a platform – like a well-established social media page or active fan base - you are more likely to succeed, as you’ll have an audience to start sharing your appeal.
  • If you think there’ll be significant media interest you’ll have a better chance of success.

Have you got the time to make it work?

Make sure you approach the opportunity with the same care as you would any source of business finance, to maximise your chance of success:

  • research your options
  • write for your ideal audience / investor
  • prepare supporting information about your project
  • respond to investors and reward their faith in you
  • make sure you’ve accounted for all of your startup costs, because if you hit that goal, you’ll have to start your business and fulfil the cost of all your rewards.

So, what do you think? Is crowdfunding the answer to your business finance needs? Or is a more conventional route right for you?

I'm ready to give it a try! Read our blog post on writing a successful crowdfunding appeal for more tips.

I'm not so sure! Take a look at our guide to funding options for startups.

Download your Ultimate Guide to Starting a Business now, for free!

Download your Ultimate Guide to Starting a Business now, for free!