What is Crowdfunding? Straightforward Answers.
After twenty years since its debut, there is still a lot of mystery around the subject of crowdfunding. We’ve put together answers to 7 of your top questions to help you understand what crowdfunding represents. Peer-to-peer lending can be of tremendous value to your investment efforts as a real estate developer and accredited investor.
1. What is crowdfunding?
Crowdfunding is an internet-based funding model that brings together those that need capital with those that have funds needing investment and returns. It is a peer-to-peer model that avoids traditional funding sources such as conventional mortgages and public offerings. Crowdfunding provides greater access to capital for business and individuals undeserved by the banking system and that don’t have the network connections needed to find private funding sources. The internet has provided a channel that conveniently connects parties across regions in real-time, providing greater opportunities than previously available.
2. What are the advantages of crowdfunding?
Crowdfunding offers lower risk than alternative investments and sources of capital. Working together, investors create greater opportunity by pooling funds to access larger and more profitable opportunities. The cumulative expertise provides greater insight in selecting suitable opportunities that represent the least risk and greatest potential returns. Rather than pitching your opportunity to a conventional lender that bases their underwriting criteria on impersonal metrics that don’t relate to your industry, crowdfunding platforms cater to specific niches and put extra due-diligence into evaluating projects and the opportunities they offer.
3. When was crowdfunding created?
In 2003, ArtistShare created the first modern online crowdfunding model for the purpose of allowing many individual contributors to make small investments in the recording projects of musical artists. As a precursor to debt-based funding platforms for real estate, contributors were guaranteed a free download of the artists album once released. This structure is also known as a rewards-based model that offers a fixed incentive, rather than a share in the form of debt or equity. The fact that ArtistShare’s Maria Schneider won a Grammy Award in 2005 demonstrates the success and validity of the crowdfunding model. Many other notable platforms has since expanded the industry to include niches such as software, charity, medical, and numerous other investments and causes.
4. Is crowdfunding more risky than other investments?
Platforms that have an excellent record of accomplishment and engage in the due-diligence required to ensure project success represent much less risk than direct lending. Investing money independently as a private money lender requires conducting your own research and evaluation without the aid of a team of experienced real estate professionals and investors. When investments fail, there is a much greater potential of losing your stake, despite your best efforts to recover funds. Experienced crowdfunding platforms know what to look for in underwriting opportunities to keep defaults to a minimum, and handle recovery when they do occur. Making smaller investments in numerous projects allows accredited investors to diversify their portfolios and lower their overall risk-profile.
5. Who invented crowdfunding?
ArtistShare was the first formally organized crowdfunding platform open to the larger public. The concept of gathering many small contributions through the internet was pioneered by a British rock band in 1997. The innovation allowed the group to raise more than $60k from fans to fund their US tour. This is a perfect example of crowdfunding creating a greater opportunity than would ever have been possible before online funding. Prior to the internet, numerous organizations including governments and private businesses have used pooled funding models to raise capital for large projects. This has included civic projects, war campaigns, and business ventures throughout history. Working together in any capacity has always proven to create greater benefits for all stakeholders involved.
6. Are all crowdfunding sites the same?
Each funding platform has a unique business model that suits the needs of its primary industry and clients. Models that specialize in specific industries, such as real estate, offer greater expertise and knowledge of risk factors specific to the niche. Reputable sites carefully screen all project sponsors and contributors to minimize risk and prevent fraud. Some models require the recipient of the funds to pay back the money borrowed. Others are based on charitable and rewards-based models. The way that your interest is secured can also vary among platforms. Some emphasize debt, equity, or a combination of both. Your selection will depend on your investment or project goals, and the level of risk and return you’re seeking.
7. How long does the funding process take?
One of the remarkable things about crowdfunding is the speed at which projects can acquire financing. When all financial information is readily available for the project sponsor (borrower), fund managers can make faster and more efficient decisions. Conventional loan sources typically take months to render lending decisions for larger projects. Sponsors can get the funds they need in weeks, rather than waiting months to get a project into the next phase of development. This level of efficiency allows investors to take advantage of opportunities typically lost due to time restrictions.
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