Crowdfunding Explained: What is Crowdfunding?

November 24th, 2019
23 minutes read

Crowdfunding is an industry in rapid growth all over the world, with great potential for both investors and individuals or businesses looking for funding. In simple terms, crowdfunding is a way of raising funds from the public for either a business, an individual, a project, or a campaign. However, lots of different terms are being used to describe crowdfunding and it is not always clear how crowdfunding and its many subcategories should be understood and defined.

In this article, we will provide simple and clear answers to the questions many investors and seekers of funding have asked themselves: What is crowdfunding? How does crowdfunding work? And what is it used for? Also, we will make sure that you understand the basics of the most important crowdfunding models: Lending-based crowdfunding, Equity-based crowdfunding, Reward-based crowdfunding, and Donation-based crowdfunding.

What is Crowdfunding?

Crowdfunding is a technology-enabled financial service that has grown increasingly since the beginning of the 2000s, closely tied to the development of the internet. The crowdfunding phenomenon covers a wide range of ways to raise money (or other resources) from the crowd for specific purposes through an open call. This allows capital seekers to raise funds from a large number of capital givers through online crowdfunding platforms acting as intermediaries, instead of raising finance from traditional funding sources like banks, mutual funds or business angels.

What crowdfunders (investors or donors) get in return for their money depends on what kind of crowdfunding model is being used to raise funds. As compensation for their financial risk, crowdfunders can receive either a tangible reward (e.g. interest payments, ownership in the business or a finished product), or an intangible reward (e.g. recognition, or the joy of supporting a project you are passionate about). In the latter case, the funds raised are provided as a pure donation.

In the categorisation of crowdfunding, an important distinction can be made between investment crowdfunding and non-investment crowdfunding. This distinction highlights a fundamental difference between crowdfunding where funders act as investors aiming to achieve an economic return and crowdfunding where funders are either aiming to support a charitable project or receive a non-monetary reward. Thus, based on the rights of funders in the specific project or venture, crowdfunding can be categorised into four overall crowdfunding models illustrated in the figure below.

The different Crowdfunding Business Models

These crowdfunding models with subtypes will be explained further in the section “Crowdfunding Models: The Main Types of Crowdfunding” that you will find later in the article.

Towards a Definition of Crowdfunding

Because of the many different crowdfunding models and the rapid development of the industry, definitions of crowdfunding are often limited and so far no comprehensive definition of crowdfunding has been widely agreed upon in the industry. However, across most crowdfunding definitions three main elements can be identified: 1. A great number of funders are involved in the financing (the crowd); 2. An online platform facilitates and promotes the contact between the providers and the seekers of capital; 3. There is an open call to participate in the financing.

To give you an idea of how important regulatory institutions around the world define crowdfunding, we have compiled some of the most common definitions used in the market below:

The European Commission: “Crowdfunding is an emerging alternative form of financing that connects those who can give, lend or invest money directly with those who need financing for a specific project. It usually refers to public online calls to contribute finance to specific projects.”

The U.S. Securities and Exchange Commission: “Crowdfunding is an evolving method of raising money via the Internet to fund a variety of projects.”

The U.K. Financial Conduct Authority: “Crowdfunding is a way in which people and businesses (including start-ups) can try to raise money from the public to support a business, project, campaign or individual.”

Crowdfunding Terminology: P2P Lending, Crowdlending or Marketplace Lending?

If you are new to crowdfunding, finding your way around the different crowdfunding types can be confusing, especially as different terms are often used to describe the same type of crowdfunding business model. An example of this is P2P lending. Or should I say crowdlending? Or maybe marketplace lending? Or what about using debt-based crowdfunding that we just learned is one of the four main types of crowdfunding? The point is, of course, that all four terms (and there are more out there) describe exactly the same business model, so do not get confused about the many different terms flying around.

Another example of terms that are used interchangeably to describe the same crowdfunding model are crowdinvesting, investment crowdfunding, crowdequity and equity crowdfunding.

To a large degree, the differing in the terms used is country-specific. For example, the European Banking Authority prefers the term lending-based crowdfunding, the UK Financial Conduct Authority prefers loan-based crowdfunding, whereas marketplace lending has become standard in the US.

To avoid confusion and create a clear division between the different types of crowdfunding and their characteristics, we will instead follow the terminology suggested by the Cambridge Centre for Alternative Finance and use the terms debt-based crowdfunding and equity-based crowdfunding in this guide to crowdfunding. Also, because many crowdfunding platforms offer secondary markets, the difference between a debt security and a loan agreement is unclear, why we prefer the broader term of debt-based crowdfunding to a term focused solely on lending.

Because the crowdfunding market is developing rapidly and in many cases are characterised by fast incorporation of new technologies, most categorisations of crowdfunding are provisional and new ones are added regularly. An example of this is crypto lending and the incorporation of smart contracts in P2P lending.

Crowdfunding Models: The Main Types of Crowdfunding

The main crowdfunding models are debt-based crowdfunding, equity-based crowdfunding, reward-based crowdfunding, and donation-based crowdfunding. In this section, you will find descriptions of each crowdfunding model, their subcategories and their characteristics.

Debt-based Crowdfunding

Debt-based crowdfunding is characterised by investors providing funds in exchange for the right to have their money paid back with interest according to the repayment terms specified in a loan contract or debt security.

The latest worldwide data available on the crowdfunding market shows that debt-based crowdfunding is the dominating crowdfunding model in the world when it comes to volumes raised. Thus, debt-based crowdfunding accounts for a total of 99.6% of the worldwide funds raised through crowdfunding. However, this can largely be explained by a hugely dominant market share on the Chinese crowdfunding market – by far the largest crowdfunding market in the world.

To get a more nuanced picture, we must look at the different regions around the world. Here, according to numbers derived from reports produced by Cambridge Centre for Alternative Finance (CCAF), debt-based crowdfunding models account for the following share of the overall funds raised with crowdfunding:

  • 99.7% of the Chinese crowdfunding market
  • 93.3% of the American crowdfunding market
  • 89.8% of the UK crowdfunding market
  • 83.5% of the Asia-Pacific market without China
  • 79.1% of the European crowdfunding market

Below, we will briefly describe the most important types of debt-based crowdfunding with suggestions for further reading. The list will be updated continuously as new business models emerge.

P2P Consumer Lending

P2P consumer lending is also known as marketplace consumer lending and consumer crowdlending. This type of debt-based crowdfunding is characterised by individuals or institutional investors providing loans with consumption as purpose to a natural person (as opposed to a legal entity such as a business, a non-governmental organisation or a public organisation).

P2P consumer lending provides financing for personal and household purposes and usually involves unsecured loans that do not require the borrower to put up any collateral. However, some loans can be backed with collateral in for example a car or another tangible asset.

The loans provided in P2P consumer lending all have consumption as their purpose, which can cover a wide variety of lending types, such as pay-day loans, wedding loans, travel loans, student loans, car loans, and refinancing. The loans are usually only covered by a personal guarantee and will typically have a wide range of interest rates, depending on purpose, compared to 100% collateral backed loans. Pay-day loans are often the most expensive type of loan with the highest interest rates (and also carry the highest risk). In some instances, car or home loans can be fairly cheap with low interest rates and low risk, since the purpose involves a tangible asset.

In general, lending money to consumption can be a very risky affair, especially if you are lending money to someone who is going to use it on something that is not a tangible asset. It is impossible to sell a family’s vacation from one year ago or other already consumed intangible “assets”. Also, repayments usually rely solely on the borrower’s ability to generate a salary-based income. Compared to P2P business lending that usually relies on the assets of a business to generate income, P2P consumer lending is dependent on a single person or family’s household income.

P2P Business Lending

P2P business lending is also known as marketplace business lending and business crowdlending. This type of debt-based crowdfunding is characterised by individuals or institutional investors providing secured or unsecured loans to a business. Borrowers are often small and medium-sized enterprises, who in recent years have started to view P2P business lending as an attractive alternative to more traditional ways of raising funds. The main reasons for businesses to use crowdlending instead of bank loans are speed, availability and simplicity.

You can read more about P2P business lending in our article SME Business Crowdlending: Finance for the Future.

P2P Real Estate Lending

P2P real estate lending is also known as property lending and it involves individuals or institutional investors that provide a loan secured against a property. The borrower can be either a consumer or a business.

For real estate developers and landlords, P2P real estate lending can be a way to acquire a loan for a real estate project instead of offering equity and shares in their company. However, because real estate is a capital-intensive industry, P2P real estate lending often only offers interest-bearing or full-bullet loans that have only one total payment at the end of the loan. Investors should, therefore, be aware that investing in P2P property loans might provide less cash flow compared to other types of debt-based crowdfunding.

On the other hand, a positive aspect that might outweigh the low cash flow is the security of a property. Real estate is a great way to build a collateral backed portfolio with more secure assets that do not have the same price fluctuations as shares in a business or a stockpile in a warehouse might have. However, although real estate is often a superior asset class when it comes to security compared to other assets available in P2P lending, real estate can carry other types of loans, which can affect the risk profile of the project. This is also the explanation for the very high interest rates you will find in some P2P property lending projects.

You can read more about P2P property lending in our article The Ultimate Guide to Real Estate Crowdfunding with Examples that explains both debt-based real estate crowdfunding and equity-based real estate crowdfunding. 

Invoice Trading

Invoice trading, invoice financing, receivables financing and invoice crowdlending are all general terms used to describe the type of debt-based crowdfunding where individuals or institutional investors purchase invoices or receivable notes from a business at a discount. This allows companies to finance slow-paying customers.

The act of using a supplier as a credit line or “bank” is common practice since invoices are usually not interest-bearing: you buy a product or service and pay the amount in for example three months. For companies, being able to sell this invoice with a discount to get the cash right away helps equalize the company’s liquidity while someone else carries the liquidity fluctuations. Thus, investors carry the risk of the buyer not being able to pay for the product or service.

There are two ways for companies to finance their outstanding invoices. The first and most basic is invoices being sold for immediate payment to directly improve the working capital of the company. The second and more complex is invoices being used as receivables to secure a revolving line of credit usually allowing companies to borrow up to 80% of the eligible receivables. The characterisation of invoice trading is that it is asset-backed lending: the asset is a debt from one company to another amounting in an invoice to be paid at a certain date in the future.

You can read more about invoice trading in our article What is Invoice Trading?

Balance Sheet Lending

In balance sheet lending, the crowdfunding platform does not act solely as an intermediary between borrowers and lenders as in P2P consumer lending and P2P business lending. Instead, the platform provides loans directly to a consumer or business making the platform entity directly liable for defaults, whereas the investors are lending money to the company that runs the platform.

You can read more about this other type of business model for debt-based crowdfunding in our article Balance Sheet Lending: What is it and how does it differ from P2P Lending?


Mini-bonds are debt securities in the form of unsecured retail bonds that individuals or institutional investors purchase from companies. They usually have a life span of three to five years, must be held until they mature, and pay regular interests with the initial investment returned including a lump sum when they mature. Some mini-bonds also include rewards, such as products or discounts.

P2P Lending with Loan Originators

A traditional P2P lending transaction includes a borrower, a crowdfunding platform facilitating the transaction and a lender/investor. However, some P2P lending platforms use a business model where loan originators are utilized to bring in borrowers to the platform, meaning that the platform only needs to focus on administration and on bringing investors to the platform.

Loan originators are sales entities that use marketing to acquire borrowers looking for a loan. P2P lending with loan originators allows platforms to facilitate loans faster compared to traditional P2P lending. However, it often comes with additional risk for investors, as the use of loan originators makes the lending transaction less transparent.

You can read more about P2P lending with loan originators in our article What is a Loan Originator in P2P Lending?

P2P Student Lending

P2P student lending is focused on providing finance for students by offering the crowd attractive interest payments in return for their funds. Because P2P platforms in general have lower overhead costs compared to traditional banks, P2P student lending also has the potential to offer students more attractive interest rates compared to traditional bank lending. This can especially be the case on platforms that have an element of social impact investing. Here, investors might be willing to accept lower interest payments because they want to help aspiring students.

You can read more about P2P student lending in our article Peer-to-Peer Student Lending: Lend to Students with P2P Loans.

Blockchain-based P2P Lending

Blockchain-based P2P lending is still in its infancy but has the potential to revolutionise the P2P lending market as well as the whole crowdfunding market. The key features that blockchain could add to the lending process is increased trust in the form of better transparency, data integrity and data immutability, as well as a larger degree of decentralisation in the form of increased privacy, reliability and versatility.

Few platforms have yet to utilise the blockchain technology in their lending process, but there are some interesting use cases out there that you can read more about in our article about Crypto P2P Lending.

Debt-based Crowdfunding Pros & Cons


  • Stable cashflow & returns: It is easier to predict compared to crowdequity.
  • Less risk: Instead of buying a piece of a company, lending money usually involves less risk, lending with a crowd opens up for wider diversification.
  • Short investment duration: The duration of loans is specified clearly, so you know how long the investment will run if the loan is paid on time.


  • Returns are capped: You know exactly what interest rate you are going to get paid if the loan is paid back in full. In case a borrower misses payments, late fees can increase the return a little bit.
  • High maintenance: The administration of borrowers and transactions requires ongoing maintenance, which might result in high fees. Shorter investment durations mean that the monthly repayments will require you to actively reinvest the money.
  • Taxation right away: When lending money to someone you will usually start receiving returns monthly instantly. This also means you are going to be taxed right away, compared to postponing it until the total return of the investment is realized

Equity-based Crowdfunding

Equity-based crowdfunding is also known as crowdinvesting and is characterised by individuals or institutional investors providing funds in exchange for unlisted shares in a company or project. Since this gives partial ownership of the company or project, the reward for investors is a possible future cash flow stream and increase of stock price. Thus, investors will generally profit if the company or project performs well and lose the full investment if it fails. However, as equity crowdfunding becomes more common the marketability on secondary markets also increases, which means that the probability of losing the full investment decreases (if one is willing to sell at the offered price).  

The latest worldwide data available on the crowdfunding market shows that equity-based crowdfunding is the second-largest crowdfunding model in the world. However, because of the dominating position of debt-based crowdfunding, equity-based crowdfunding still only accounts for 0.30% of the worldwide funds raised through crowdfunding.

Looking at the different regions around the world, equity-based crowdfunding models account for the following share of the overall funds raised with crowdfunding:

  • 14.0% of the European crowdfunding market
  • 13.0% of the Asia-Pacific market without China
  • 8.8% of the UK crowdfunding market
  • 4.9% of the American crowdfunding market
  • 0.3% of the Chinese crowdfunding market

Equity crowdfunding opens investment opportunities that were previously only accessible to venture capital, private equity and angel investors. The main difference between equity-based crowdfunding and the more traditional ways of raising funds with equity is that equity is offered to a wide range of potential investors through an open call on a crowdfunding platform. This type of funding is a combination of raising funds on a small stock market and raising funds from private investors.

The two main equity-based crowdfunding models are startup equity crowdfunding and real estate equity crowdfunding. More on these below.

Startup Equity Crowdfunding

If you are looking to invest in startups and early-stage companies but do not have the funds act as a business angel or have access to venture capital, startup equity crowdfunding can be an interesting option.

Startup equity crowdfunding is the online process of trading your money with early-stage companies, for shares representing a percentage of ownership in the business. A shareholder with partial ownership has the right to profits that might arise if the company succeeds with its business plan. On the other hand, if the company fails, the shareholder will lose some or all of the investment.

Just like the stock market is open for anyone if they can afford the price of one stock, crowdinvesting platforms are opening the markets for companies that are not yet ready for a public offering – those starting up.

Equity crowdinvesting is helping to democratise both the process of funding capital and the investment market. This is done for funders by open the door to a large pool of potential investors – “the crowd”. At the same time, for investors, the door opens to a large pool of potential projects and ways to invest in startup equity.

Real Estate Equity Crowdfunding

Real estate crowdfunding is a way for property developers and landlords to raise money. This is done by offering equity in a property to a large pool of investors that each contributes with a small amount of money – instead of one investor with a huge amount. The key difference between traditional real estate financing and real estate equity crowdfunding is that crowdfunding is done online with the platform used to facilitate the process.

Along with the crowdfunding platform, the real estate developers can use social media platforms such as Facebook, Instagram or Twitter to market their projects directly to a much larger audience of potential investors.

Many investors have taken advantage of real estate equity crowdfunding as an alternative method to invest in real estate deals that would not be available without an online platform. Likewise, developers looking to receive funding are benefiting from the many relationships with smaller investors by getting funding faster, saving time and getting access to valuable feedback from the online community.

Equity-based Crowdfunding Pros & Cons


  • The sky is the limit: Equity investments do not have a cap on the possible value increase, so it is not unusual to see above 20 % advertised returns with a possibility for more.
  • Convenience & diversification: Even if you have the money to invest in property yourself instead of with a crowd, you would limit yourself to fewer projects and would have to do all the maintenance.
  • Tax benefits: With equity investments, you usually first pay tax when the shares are sold.


  • Last in line: You will be the last in line for payouts. If the company do not rise in value or create profits, you will not get any return on the investment.
  • High risk, high reward: With the chance of high reward also comes high risk – often when it goes wrong with equity investments it goes completely wrong, and the chance of losing some or all of your invested money is very much present.
  • Long & unknown investment duration: Equity investments in small and medium-sized companies are usually not very liquid and the holding period usually last five to ten years.

Non-investment Models (Crowdfunding without an Economic Return for Investors)

Reward-based Crowdfunding

In reward-based crowdfunding, backers provide funds in exchange for a non-monetary reward, usually a pre-order of a unique or new product or service still under production. This enables businesses to secure cash flows and launch their product with paying customers and orders already in the books. To compensate and attract backers of a product or service not yet available, a discount on the expected future market price will often be provided.

The reward offered is typically a service or product developed and produced with the help of the funds raised in the crowdfunding campaign and for entrepreneurs and companies, reward-based crowdfunding can be a particularly effective way to test the market potential of their products.

Reward-based crowdfunding was the first crowdfunding model to develop and might still be one best known in the general public. However, according to the latest worldwide data available on the crowdfunding market, reward-based crowdfunding represents only a tiny fraction of the funds raised with crowdfunding (0.06%).

Looking at the different regions around the world, reward-based crowdfunding accounts for the following share of the overall funds raised with crowdfunding:

  • 4.7% of the European crowdfunding market
  • 2.0% of the Asia-Pacific market without China
  • 1.0% of the American crowdfunding market
  • 0.7% of the UK crowdfunding market
  • 0.0% of the Chinese crowdfunding market

Donation-based Crowdfunding

In donation-based crowdfunding, donors provide funds for philanthropic or sponsorship reasons with no expectation or right of remuneration in exchange for:

  • The joy of supporting a good cause (pure donation)
  • A non-tangible asset, such as a token, recognition or brand promotion (reward donation)
  • A tangible asset of much lower value than the donation, e.g. a t-shirt or a pen

The idea behind donation-based crowdfunding was aimed at raising funds for social projects and charitable causes such as development assistance and NGOs – for example in the form of aid to fugitives or extraordinary help during catastrophes. However, as more and more platforms emerge, donation-based crowdfunding has expanded to include everything from charitable personal projects like help paying for medical treatment, participation in events and support for athletes or art to all kinds of both imaginable and unimaginable projects – some belonging to the more weird and shady category. Therefore, to avoid scammers, make sure to do your homework before supporting a project.

Donation-based crowdfunding is the smallest of the four main types of crowdfunding and according to the latest worldwide data available on the crowdfunding market, donation-based crowdfunding only represents 0.03% of the funds raised with crowdfunding in the world.  

If we look at the different region around the world, donation-based crowdfunding accounts for the following share of the overall funds raised with crowdfunding:

  • 1.6% of the European crowdfunding market
  • 1.5% of the Asia-Pacific market without China
  • 0.7% of the UK crowdfunding market
  • 0.7% of the American crowdfunding market
  • 0.0% of the Chinese crowdfunding market

How Does Crowdfunding Work?

To make a crowdfunding transaction happen, we need at least three parties:

Providers of funding: Crowdfunding involves different agents that usually do not have any connection except for the project being funded. Most often, these are private individuals, companies or other institutional investors.

Seekers of funding: The seekers of funding are the project owners. These are often either private individuals, small and medium-sized companies (SMEs) or non-governmental organisations (NGOs) depending on the crowdfunding model being used to raise funds.

An online platform mediating the transaction: The platform publishes and promotes the projects under its own conditions with the goal of attracting providers of funding. In return, the platform will typically demand a fee. What platform to choose depends on your goal as an investor or fundraiser. If you are interested in investing in crowdfunding, you can find five tips to pick the best crowdfunding platforms below.

Five Tips to Pick the Best Crowdfunding Platforms for Investing

1 Transparent crowdfunding platforms are trustworthy platforms

To avoid scams, always look for platforms who are transparent about their funding and willing to share data – either on their own website or here on By doing so, you will dodge the sketchiest platforms. Also, trustworthy platforms have projects where you can easily understand what your investment consists of – both in terms of risks and expected returns. Do not let yourself be fooled by platforms promising unrealistically high returns with little risk. And always remember, there are plenty of alternatives out there – and plenty of platforms committed to working for transparency in the crowdfunding market, so there is no need to compromise.

As an investor, you will want to invest on platforms that are in the market for the long run. Therefore, two important indicators to look for when evaluating a platform is the total funding volume and growth level of the platform. If you want to dig deeper into the funding volume of different crowdfunding platforms, spend some time exploring the P2P lending and equity crowdfunding volumes in our data-section.

2 Understand the type of crowdfunding offered by the platform

As you have learned from this article, you will find many different possibilities for investing in crowdfunding. All the different subcategories of debt-based crowdfunding and equity-crowdfunding will have projects available for investing that are structured in ways that will affect the risk and expected return of each project. Therefore, make sure you understand the crowdfunding model(s) offered on the platform you have targeted as subject for your investments and that the projects offered are relevant for your risk profile as an investor.

3 Let your appetite for risk guide your choice

When choosing a crowdfunding platform for investing, it is essential to understand how the platform is structured and how this affects the risk you incur as an investor. In p2p lending, there are two different business models: One that involves three parties (investor, platform, borrower) and one that also involves a loan originator. In general, the risk structure is more complex on platforms with loan originators, but this type of platform will often have a higher volume of loans and, therefore, be to provide a more stable short-term cash flow. Three party platforms, on the other hand, are usually more straightforward and might have a higher quality of loans. Also, it is useful to distinguish between platforms operating with a direct investment structure and platforms with an indirect investment structure.

Just like in more traditional ways of investing, risk and return will always balance, so do not get carried away by platforms promising extraordinarily or unrealistically high returns.

4 Prepare for the worst before it happens

What happens if a crowdfunding platform goes bankrupt? Or an investment underperforms? Debt-based crowdfunding and equity-based crowdfunding have the potential to yield high returns, but as mentioned above: with a high expected return comes high risk. You should, therefore, look for platforms that are willing to address how your investments will be dealt with in the case of either platform bankruptcy, loan originator bankruptcy, defaults on loans, or in the case that an equity investment underperforms or fails. Before you start investing on a platform, always make sure to find the answer to these questions.

If you cannot find the answers on the website of the platform, this can be an opportunity to test the quality of their customer service – a service that should be high on your list of requirements for platforms. Especially if an investment turns out bad, good customer service is essential. If a platform is not able to answer your questions, either on their website or through customer service, you should probably look elsewhere to invest your hard-earned money.

5 Minimum investment, buyback guarantee, auto invest, secondary market and other platform features

It might seem obvious, but you should pick platforms that fit you as an investor – however, not just in term of risk and reward. For example, are you after passive income or are you willing to spend time on your investments? What is the time horizon of your investments? And how much predictability do you prefer in your cash flow? Some platforms allow you to invest for as little as 1 Euro in each project, whereas others have very high minimum investments. Therefore, make sure you invest on platforms where you have enough capital to build a diversified portfolio for your crowdfunding investments. In the same way, some platforms offer features that one type of investor will find attractive while others will not. Some of the most sought-after features are auto invest, secondary markets, and insurance-like products, such as buyback guarantees and provision funds, which can – depending on what you are after as an investor – help you achieve your goal.