What is the difference between Crowdfunding and Peer-to-Peer (P2P) lending?

Crowdfunding and peer-to-peer (P2P) lending have become trendy ways to fund small businesses. But while both crowdfunding and peer-to-peer lending involve other people giving you money, they have some big differences―like the way you get that money and your responsibilities after taking it. So crowdfunding might work better for your business than P2P lending, or vice versa.

Crowdfunding is, much like it sounds like, raising money from a bunch of people. Usually those people give you money in exchange for some type of compensation. Crowdfunding gets classified by the type of compensation. If you’re offering backers products, merchandise, or recognition, that’s reward crowdfunding. But sometimes backers get shares in your company (basically partial ownership), which makes it equity crowdfunding. Generally speaking, reward crowdfunding works best for specific products and projects, while equity crowdfunding tends to work better for a business as a whole.

Peer-to-peer lending is a specific type of business financing in which individual investors―not traditional banks or credit unions―provide funding to businesses.

P2P lending usually takes the form of business loans or lines of credit. And while individual investors are the ones ponying up the money, they typically do so through a lending platform. Often these platforms pool together money from different P2P investors to extend business loans.

Thanks to P2P lending platforms, the borrower and the investor never actually interact in most cases. The lending platform acts as a middleman. So the borrower applies, gets funded, and repays the loan through the platform.

Business owners often prefer P2P lending over traditional loans because P2P lenders generally have lower borrower requirements (such as credit score and revenue requirements). At the same time, P2P lenders also often have lower interest rates than many alternative lenders.

In other words, P2P lending sites are kind of like a happy medium between banks and short-term online lenders (though specific rates and requirements will depend on the P2P lender you go with).

Both crowdfunding and P2P lending give your business money from individuals. The primary difference is that P2P lending gives you a business loan that you have to pay back in agreed terms, while crowdfunding gives you funds that are subject to the business performance.

But there’s more to it than that. So we’re going to address three points of comparison:

• Who’s giving you money?
• How do you get them to give you money?
• What do you have to give them in exchange for the money?

With crowdfunding, anyone can give you money. Sites like Kickstarter let people invest as little as $1 to your campaign, making it easy for all sorts of people to invest. Plus, many crowdfunding platforms publicly list active campaigns, so anyone can find your campaign and give money.

So what about P2P lending? Well, it depends on which lender you’re going with.

Funding Circle, for example, only accepts accredited investors on its P2P lending platform. In fact, you’ve got to commit to investing $250,000 to even get started. So some P2P lenders really limit who can fund businesses.

However, like StreetShares, It lets would-be investors fund businesses by simply buying bonds. Anyone can buy these bonds, and the amounts start at just $25. Now, if you want to invest a lot (over $500,000), then you’ll need to be an accredited investor. But otherwise, anyone can invest.

When it comes to getting money, crowdfunding is all about your campaign. No matter what crowdfunding platform you end up using, you’ll end up creating some type of campaign page or site. It will probably include the following information:

• Who you are
• Why you want money
• What your plan is for the money
• Why backers should trust you
• What backers get in return

And all this information will probably be presented through a variety of media, including text, photos, and videos.

If you’re doing rewards crowdfunding, your campaign will probably focus more on the cool product you’re creating and the awesome rewards you’re offering. If you’re doing equity crowdfunding, you’ll probably include more data about projected performance and the state of the market. Either way, though, crowdfunding requires a snazzy campaign that convinces people to back you.

Peer-to-peer lending, however, usually requires a formal application. That means the platform itself creates and accepts your application. It will probably be the one that analyzes your application and decides whether or not you get approved. Unlike crowdfunding campaigns, these applications don’t offer much room for your creativity or sales skills. Instead, they ask for basic information and documents:

• Personal credit score
• Business credit score
• Annual revenue
• Length of time in business

In other words, P2P lending is a much more data-driven process than crowdfunding. And if you don’t meet certain minimum requirements, you’ll probably get denied. Even if you do meet the requirements, you might get a lower amount than you asked for.

P2P lending usually has a much faster turnaround than crowdfunding. An online P2P lender can have money in your bank account within a week of your application, while a crowdfunding campaign often takes a month or more.

In crowdfunding, what you owe your backers will depend on whether you choose rewards or equity crowdfunding.

With rewards crowdfunding, you will, of course, have to give backers the rewards you promised. Platforms like Kickstarter make it easy to give backers updates while they’re waiting for these rewards, since the delivery process can sometimes take quite a while (like, say, you’re manufacturing a board game or shooting a movie).

Then there’s equity crowdfunding. As we said above, your backers will get a certain amount of equity in your company, meaning they get partial ownership. The details will, of course, depend on the exact arrangement you come to. But this often means they get a portion of company profits, some decision-making power in the company, and company stock shares.

Peer-to-peer lending, however, operates just like traditional financing. That means if you get a P2P loan, you’ll have to pay back the loan in full―plus interest and fees. Your P2P lender will put you on a repayment schedule to ensure your loan gets paid back within the loan term (which can be anywhere from a few months to many years, depending on the lender).

Crowdfunding and P2P lending both provide excellent ways to get money for your business. But while they both let you receive funding from individual investors, they work quite differently. It is important to know what your business needs and which ways of funding can help you to get funds in a better way. If you are not sure what are the right financing options for you, consult us to help you out!