Crowdfunding: What It Is, How It Works, Types & Websites

October 4th, 2023

25 minutes read

Crowdfunding is a method of raising money from many people who contribute small amounts to support a cause, project, or business. It can take the form of donations, pre-purchasing products, investments, or loans. Typically, crowdfunding leverages an existing community through social media and crowdfunding platforms, enabling fundraisers to reach a broader range of backers. This expands their funding options beyond traditional sources such as family, friends, family offices, and venture capitalists.

What is Crowdfunding?

Crowdfunding is a powerful method that allows individuals and businesses to raise funds by gathering small contributions from a large number of people, typically via online platforms. This approach enables entrepreneurs and creators to secure financial support without relying on traditional funding sources such as banks or venture capitalists. Crowdfunding campaigns often establish specific funding goals and timelines, offering backers a range of rewards or incentives for their contributions, such as early access to products or exclusive experiences. In regulated crowdfunding, backers are typically rewarded with financial benefits, such as equity in a company or repayment of a loan.

Beyond providing essential capital, crowdfunding delivers valuable insights, cultivates connections with potential customers, and builds a loyal community of mini ambassadors around your project. This process not only facilitates fundraising but also empowers creators to turn their ideas into reality.

Key Takeaways

Crowdfunding enables contributors and investors to choose from thousands of campaigns, allowing them to invest or donate as little as $1.
Crowdfunding sites generate revenue by taking a percentage of the funds raised or by directly charging investors for the funds provided.
Crowdfunding is regulated in many jurisdictions to facilitate business fundraising while ensuring investor protection, with frameworks established in the U.S., EU, and UK.
GoFundMe, Kickstarter, Indiegogo, Patreon, and StartEngine are among the most popular crowdfunding platforms in the world.

How Crowdfunding Works

Crowdfunding connects dreamers and supporters on digital platforms, acting as lively marketplaces where innovative ideas come to life through collective financial backing.

These platforms offer more than just transactions; they ensure a secure and user-friendly experience that protects both the creator’s vision and the supporters’ contributions. A common model is the all-or-nothing approach: if a project meets its funding goal, the money is secured; if not, all contributions are refunded.

For example: if you want to create a unique shoe but need funding, you can share your idea on a crowdfunding platform. Supporters who like your concept can contribute funds, and in return, they might receive rewards like a pair of shoes, a thank-you note, or even a small equity stake in your company. This collaboration allows exciting ideas to become reality by pooling resources online.

One of the most successful crowdfunding campaigns globally was launched by author Brandon Sanderson, who sought to publish a series of novels in 2023. Originally aiming to raise $1 million, Sanderson astonishingly garnered over $41 million from 185,341 backers through a rewards-based crowdfunding campaign.^[1]

Contributors to crowdfunding can choose from thousands of projects, starting at just $1. Crowdfunding platforms generate revenue by taking a percentage of the funds raised or by charging backers directly. While donation and reward-based projects are common, the most popular types of crowdfunding today focus on profit-making small and medium-sized enterprises (SMEs) and startups.

Types of Crowdfunding

Crowdfunding is primarily used by:

Startups aiming to launch new products or services.
Individuals facing emergencies.
Small to Medium-sized Enterprises (SMEs) seeking funding for operational expenses or real estate ventures.

The majority of crowdfunding are crowdfunding investment platforms, focusing on investment crowdfunding campaigns, utilizing debt-based crowdfunding or equity-based crowdfunding.

While the for-profit crowdfunding industry has the most platforms, the largest and most recognized crowdfunding platforms primarily focus on non-profit projects, hosting rewards-based and donation-based crowdfunding campaigns.

Illustration of the 4 types of crowdfunding models

Type of Crowdfunding	Description	Common Uses
Debt-based crowdfunding	Debt-based crowdfunding, commonly referred to as peer-to-peer lending, enables investors to provide loans with the expectation of receiving repayment along with interest, as outlined in the agreed-upon loan terms.	Personal loans, small business financing.
Equity-based crowdfunding	Equity Crowdfunding allows investors to buy shares in a company or project, becoming partial owners with a stake in its potential success.	Startups, small businesses seeking capital.
Reward-based crowdfunding	Reward-based crowdfunding lets backers give money in return for a non-financial reward, often a product or service that's in development.	Startups, creative projects, product launches.
Donation-based crowdfunding	Donation-based crowdfunding entails donors giving money to support a cause or project without expecting any financial or tangible return.	Charities, community projects, medical expenses.

Most Popular Crowdfunding Websites

The most popular crowdfunding websites GoFundMe, Kickstarter, Patreon, Indiegogo and StartEngine attract millions of people eager to develop, or back, the latest social emergencies, upcoming business or noble causes. Together, they have amassed over $25 billion for social initiatives, events, artists, innovative products, and entrepreneurial ideas.

GoFundMe

GoFundMe has become a major force in crowdfunding, raising over $30 billion since 2010, with around 150 million people participating in campaigns. The platform is especially popular among Gen Z and millennials, who prefer direct giving to individual causes. Despite many successful campaigns, only about 17% of healthcare-related fundraisers meet their goals, with the top 5% accounting for nearly half of all funds raised. High-profile campaigns, like those supporting disaster relief or individuals in crisis, have helped solidify GoFundMe’s role in modern philanthropy.^[2]

Kickstarter

Kickstarter has raised about $8.29 billion from nearly 98 million backers across more than 266,000 projects since its launch in 2009. Notable campaigns include Brandon Sanderson’s “Surprise! Four Secret Novels”, which raised over $41 million, the highest on the platform. Kickstarter’s success rate stands at around 40%, and games lead as the most funded category with over $2 billion pledged. The platform has played a significant role in supporting creative projects globally.^[3]

Patreon

Patreon has become a key player in the online creator landscape, raising $413.3 million over ten funding rounds and enabling monthly payouts of $24.3 million to creators. The platform supports over 277,950 creators, providing financial backing to musicians, podcasters, writers, and visual artists.^[4] However, it faces challenges, such as Apple’s upcoming 30% fee on iOS transactions starting in November 2024, which may affect revenue for both Patreon and its creators. Despite this, Patreon continues to grow, introducing new features to support creator income and assist in their work.

Indiegogo

Indiegogo has raised over $3 billion for more than 800,000 projects, including startups, creative works, and charitable initiatives, with around 9 million backers.^[5] The platform offers flexible funding, allowing creators to keep funds even if they don’t reach their goals, and fixed funding, which requires meeting the target. The platform features the InDemand program for continued fundraising after campaigns end and has recently launched new initiatives under CEO Becky Center, such as the eCommerce marketplace IndieShop and reduced fees, to enhance user experience and funding opportunities.

StartEngine

StartEngine is a leading equity crowdfunding platform that enables individuals to invest in startups and early-stage companies, having raised over $1.2 billion through more than 1,100 funding rounds. The platform generated approximately $15 million in annual revenue and reported a Q2 2024 gross profit of $5.72 million, a significant increase from the previous year. Additionally, StartEngine has raised over $50 million from more than 30,000 shareholders and expanded its reach by acquiring competitor SeedInvest. It also offers access to alternative assets and collectibles, solidifying its role in the crowdfunding sector.^[6]

Pros & Cons of Crowdfunding

Crowdfunding has become a dynamic and accessible avenue for individuals and startups to transform their innovative ideas into reality. By leveraging online platforms, it connects fundraisers with a global network of investors and supporters, democratizing the funding process in ways that traditional methods cannot.

Pros of Crowdfunding

Crowdfunding offers several benefits for entrepreneurs and creators by connecting them with backers and investors. Here are the key advantages of this innovative fundraising method:

Advantages of Crowdfunding	Description
Diverse Funding Pool	Crowdfunding opens the door to a wide array of investors and supporters, amplifying the reach and potential of your project through social media and online networks.
Rewards and Engagement	Often, crowdfunding operates on a rewards-based system, offering backers exclusive perks such as early access to products, special editions, or even a simple thank-you note, fostering a community of engaged supporters.
Equity without Losing Control	Particularly with equity-based crowdfunding, entrepreneurs can raise capital without relinquishing too much control to venture capitalists, and investors get a slice of the pie in return. In the United States, the Securities and Exchange Commission (SEC) regulates equity crowdfunding campaigns.^[7] In the European Union, the European Crowdfunding Service Provider for Business Regulation (ECSPR) governs both debt and equity-based crowdfunding.^[8]
Market Validation	Crowdfunding provides a platform to validate the product or idea in the market. If your project gets funded, it’s a good indicator that there is a demand.

Cons of Crowdfunding

Although crowdfunding presents startups with valuable opportunities to secure funding and foster community engagement, it also entails considerable drawbacks. Below are the key disadvantages to consider:

Disadvantages of Crowdfunding	Description
Reputation Risks	Leveraging crowdfunding can sometimes be perceived as a desperate measure, potentially risking the reputation of your startup by publicly acknowledging a lack of funds.
Platform Limitations	Adhering to the rules and fees of the crowdfunding platform can sometimes be restrictive, and failing to meet your financial target might mean you walk away with nothing. Crowdfunding platforms typically charge up to 10% on funds raised.^[9]
Pressure and Accountability	With numerous backers to answer to, the pressure to deliver on promises becomes paramount, and any failure or delay can result in public backlash.
Intellectual Property Concerns	Exposing your idea or product to a wide audience can risk imitation or theft of your concept, especially if proper IP protections are not in place.

In a nutshell, while crowdfunding offers a unique and inclusive way to fund your project, it comes with its own set of challenges and risks. Balancing the potential gains against the possible pitfalls is crucial to navigating through the crowdfunding journey successfully.

Examples of Crowdfunding

Many crowdfunded ideas and businesses have turned into successful ventures. For example, the Pebble Smartwatch raised over $20 million from more than 70,000 backers on Kickstarter, becoming one of the most successful crowdfunding campaigns and changing the wearable tech industry.^[10]

The list of crowdfunded unicorns continues to expand as various businesses evolve into unicorn companies through the strategic use of crowdfunding. Brewdog via Crowdcube, LuggageHero through Seedrs, Revolut on Seedrs and Oculus VR on Kickstarter are renowned companies, now valued at over $1 billion, that initiated their paths with the aid of crowdfunding.

Does crowdfunding really work?

Yes, crowdfunding can be effective, especially for startups and innovative projects. It allows entrepreneurs to access funding from a broad audience and gain market validation. Many successful companies have launched their products through crowdfunding platforms, proving that it can work as a viable fundraising method.

However, its success depends on several factors, including the quality of the project, effective marketing strategies, and proper management of risks associated with platform fees and execution challenges. For investors, crowdfunding offers opportunities for high returns and portfolio diversification but also carries risks such as high failure rates and limited liquidity. While crowdfunding can work well, it requires careful planning, research, and an understanding of the potential rewards and risks involved.

How do crowdfunding investors get paid?

In crowdfunding, the way investors are compensated depends on the type of campaign. In equity crowdfunding, investors may earn financial returns through dividends or profit if the business succeeds. In debt crowdfunding, investors are repaid with interest over a specified period. Rewards-based crowdfunding offers non-monetary rewards, such as the product being funded, while donation-based crowdfunding typically provides no financial return, as contributions are made philanthropically.

Do you pay back crowdfunding?

Whether you pay back crowdfunding depends on the type of crowdfunding model you use. Donation-based doesn't require payback, rewards-based offers products or perks instead of money, and equity-based provides company shares with no direct repayment. At the same time, debt-based (peer-to-peer lending) mandates repaying backers with interest.

Is crowdfunding high risk?

Crowdfunding offers exciting opportunities but comes with some important risks. These include the possibility of fraud, as the online nature of crowdfunding can sometimes lead to anonymity and misrepresentation. Startups, common in crowdfunding, have a high failure rate, and there’s limited liquidity, meaning it can be difficult to sell investments if needed. Crowdfunding platforms may also provide limited transparency, making it harder to assess the viability of projects. While these risks exist, they can be managed through thorough research, diversifying investments, understanding legal protections, and evaluating campaigns carefully.

Is it safe to use crowdfunding?

Crowdfunding is a powerful tool for raising funds but involves a careful balance between safety and risk. Many platforms operate within regulatory frameworks, offering structure and security to both creators and backers. However, the lack of universal regulation leaves participants vulnerable to unsuccessful projects or potential fraud. While there are numerous success stories of crowdfunding campaigns driving innovative projects forward, there are also instances of unfulfilled promises and mismanaged funds. Ultimately, the safety of crowdfunding depends on thorough research, prudent decisions, and choosing platforms that adhere to regulatory standards to create a secure environment for investment and fundraising.

What is crowdfunding regulated by?

Crowdfunding is regulated in various countries and jurisdictions to support business fundraising while protecting investors. In the U.S., the SEC’s Regulation Crowdfunding, under FINRA’s oversight, ensures compliance with securities laws. In Europe, the EU introduced a framework in 2021 for crowdfunding services, while the UK’s Financial Conduct Authority (FCA) regulates investment-based crowdfunding and peer-to-peer lending, both focusing on investor protection.

Is crowdfunding legal in the US?

Crowdfunding is legal in the United States, regulated primarily by the JOBS Act of 2012 and the SEC. Through Regulation Crowdfunding, companies can raise up to $5 million per year via SEC-registered intermediaries. Investors are protected by rules requiring companies to disclose important financial information and by limits on how much non-accredited investors can contribute based on their income. Securities purchased through crowdfunding generally cannot be resold for one year. Other types of crowdfunding, like donation-based campaigns, mainly follow state consumer protection laws.^[11]

Is crowdfunding regulated in the EU?

Crowdfunding in the European Union is regulated by the Regulation on European Crowdfunding Service Providers (ECSP), which came into effect on November 10, 2021. This regulation establishes uniform rules for crowdfunding platforms across EU member states, allowing them to operate with a single authorization, thereby reducing compliance costs. It includes measures to protect investors, requiring clear disclosures about risks and returns on projects. The regulation also aims to enhance access to alternative financing for businesses and foster a transparent crowdfunding environment, ultimately supporting innovation and entrepreneurship in the region.^[12]

Is crowdfunding regulated in the UK?

Crowdfunding in the UK is primarily regulated by the Financial Conduct Authority (FCA), which oversees loan-based (peer-to-peer lending) and investment-based crowdfunding, requiring platforms to obtain FCA authorization to ensure consumer protection and market integrity. While these types are subject to specific regulations aimed at enhancing transparency and investor safety, donation and reward-based crowdfunding generally remain unregulated. Additionally, the UK Crowdfunding Association (UKCFA) provides self-regulation through a code of conduct to promote ethical practices in the industry.^[13]

Article Sources

Kickstarter: “Four Secret Novels by Brandon Sanderson”
Business Standard: “$30 billion raised on crowdfunding and nonprofit giving platforms: GoFundMe”
Kickstarter: “Kickstarter Stats”
Graphtreon: “Patreon Creators Statistics”
Indigogo: “About Us”
StartEngine: “Get a piece of StartEngine”
Securities and Exchange Commission (SEC): “Regulation Crowdfunding”
EUR-lex: “Regulation European Crowdfunding Service Providers for Business”
Fundly: “Crowdfunding Fees: The True Cost of 7 Popular Platforms”
Kickstarter: “Pebble Time - Awesome Smartwatch, No Compromises”
Library of Congress: “Crowdfunding & Regulations”
European Commission: “Crowdfunding - Policy Making Timeline”
British Business Bank: “Equity crowdfunding - regulations and tax incentives”