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Money From the Masses

Crowdfunding sites let entrepreneurs leverage the power of peer persuasion.

Tapping the power of crowds has become popular in many areas of business, so it was only a matter of time before it made its way into funding. Now, a coterie of crowdfunding sites for small businesses, artists and other small commercial enterprises has cropped up. Sites like ProFounder.com, Kickstarter.com and peerbackers.com allow entrepreneurs and artists to find donors to support their projects. Most of the time, these "investments" are really donations that the entrepreneur has little or no obligation to repay, let alone deliver a return. But even companies that collect investments in amounts of $25, $50, or $100, as many crowdfunded businesses do, need to be sure they're complying with securities laws.

"From a legal perspective, it can get tricky," says Hank Heyming, an attorney and serial entrepreneur in Richmond, Va. "When you do the gift model, a lot of times people are giving something in return." It's important that any item given to funders not have significant value, or it could be considered an offering and run afoul of Securities and Exchange Commission requirements.

Many businesses seeking money on peerbackers.com, a crowdfunding site for small businesses and charitable causes, offer some of their products or services to investors. For example, The Cupcake Suite, a startup proposed by a trio of New York City cookbook authors, will send backers two recipe cards and a box of cupcake truffles for a $10 investment, or a half-dozen whoopie pies for a $25 investment.

Despite offering such tasty rewards, peerbackers.com co-founder Sally Outlaw says most businesses are funded through the site by existing contacts, with cumulative totals of $25,000 or less.

"Eighty to 90 percent of the people that are going to back you are your own network who learn about you through press coverage and your own networking," Outlaw says. But crowdfunding sites take the pressure off entrepreneurs having to ask people they know in person for money, she says. Although Heyming acknowledges donors' concerns over the lack of assurance that those seeking funding will do what they say they will with the money, he is optimistic that the model is an option for businesses that can launch on a shoestring.

"I've had several different clients use this very successfully. The pro is that it's free money," he says. 

Gwen Moran is a freelance writer and co-author of The Complete Idiot's Guide to Business Plans (Alpha, 2010).

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This article was originally published in the January 2011 print edition of Entrepreneur with the headline: Money From the Masses.

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