Crowdfunding in the UK has been around for a while and last year generated over US$60m in revenue here, which has also opened up the floodgates for scams. So, how can you try to crowdfund safely?
Though crowdfunding seems to have been around as long as we’ve had businesses, it only became a widely popular funding source in the 2000s.
Crowdfunding is when small businesses and individuals raise money online from many people interested in investing – the investment amounts tend to be small. It is usually done through digital platforms but can also happen through the business.
- Loan-based or debt crowdfunding. Through loan-based crowdfunding, people and institutions lend money to individuals or businesses in the expectation of a financial return through interest payments and the repayment of capital over time. It's also referred to as peer-to-peer and peer-to-business lending
- Investment-based or equity-based crowdfunding. Through investment-based crowdfunding, consumers invest in new or established businesses by buying investments like shares or debentures
- Donation-based crowdfunding. If people support a charitable cause or organisation, they can invest without expecting a return. In some cases, rewards can be given to investors
What makes this sort of fundraising so attractive is the small investment required – it can be as little as £5 – which reduces the barriers to investing for those new to the idea.
What are some of the risks?
The pandemic increased people’s financial anxiety and, coupled with spending more time online, made them more susceptible to hard-to-spot online financial scams. The popularity of crowdfunding during this time led to the Financial Conduct Authority (FCA) closely watching the industry to protect consumers, although it's worth remembering that the FCA does not regulate donation-based crowdfunding.
All investments carry risks, and crowdfunding, no matter how well-intentioned, is unfortunately no different. Some of the risks include:
- Fraudulent campaigns: when the company misleads investors and misuses the money
- The fundraising platform could be fake and used to gather people's financial information or invest in counterfeit companies
- A lack of protection if something goes wrong: If the company runs into trouble, most crowdfunding campaigns are not covered by the Financial Services Compensation Scheme (FSCS), which leaves you more vulnerable as an investor
- You may not get your money back quickly. This is referred to as 'highly illiquid' as there's no secondary market where you can easily sell on your shares. This means it can be challenging to sell your investment, as the shares offered on crowdfunding platforms are not listed on recognised investment exchanges
- You could lose all the money you invest. The FCA points out that most start-up companies fail, which means you could lose all of your investment. If the company doesn't fail, it can take a very long time to recoup your money. The value of any shares can also be diluted from multiple rounds of funding
In April 2023, UK Tech News reported that a crowdfunding website took action against a company on its platform for misleading investors. The business used fake bank statements and paperwork, stock imagery and fabricated employee numbers. The crowdfunding platform reimbursed investors after discovering the fraudulent account.
In 2020, a financial tech company crowdfunding for investment was issued a warning from the FCA for being unregistered and placing its investors at risk.
How could you get involved with crowdfunding more safely?
You should only invest money you can afford to lose. If you're asked to support a cause and aren't sure if you should get involved, here are some pointers to help you spot legitimate campaigns:
- The UK Crowdfunding Association, formed in 2013, aims to maintain a code of conduct (Opens in new window) for crowdfunding platforms. The UKFCA website lists platforms that have subscribed to their rules to promote trust with investors
- As always, if it sounds too good to be true, it probably is, so be sure to thoroughly evaluate a crowdfunding campaign's aims and deliverables to assess if it is realistic
- When you’re engaging with investment fundraising, check if the firm can be found on the FCA register (Opens in new window) You can also check with the FCA to ensure that the company you’re investing in doesn’t have a history of fraudulent activity
- If you have invested and feel that the risks or the type of investment were not made clear by the platform, you can complain to the company and escalate to the Financial Ombudsman Service (Opens in new window) if their reply is unsatisfactory
- When donating to a crowdfund for a good cause, you can check whether they are regulated by the fundraising regulator (Opens in new window)
- You can report a scam (Opens in new window) to the FCA
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