Whether you’ve recently exited a business or are just looking for some new investment opportunities, knowing where to invest your money is an important consideration. One of the newest entrants to the market, and one which has a potential significant upside, equity crowdfunding is worth a look at.

The equity crowdfunding process is relatively simple, and looks like this:

1. You start by browsing potential investments
2. Businesses provide their business plan, forecasts, and other information to help you make your decision
3. You decide whether the equity on offer is worth the valuation and whether to make an investment
4. Before you can make an investment, the platform will carry out a series of checks to confirm your identity, prevent money laundering, and verify that you understand the risk of your investment
5. Checks complete. Your equity crowdfunding investment is processed

What to consider when investing equity crowdfunding?

Like almost any form of investment, your money is at risk when you invest using equity crowdfunding. To help you decide whether this form of investment is for you, we’ve listed the advantages and disadvantages, along with a list of questions to ask yourself before investing, below.

High returns on successful investments

Your early, risky investment pays off when successful. Investment platform Seedrs released data showing that its investors had generated an annualised rate of return of 14.44 per cent between 2012 and 2016. Of course, future results may vary (and other platforms may vary), but in its short history so far, equity crowdfunding has delivered some excellent returns. For example, when Camden Town Brewery was sold to AB InBev in December 2015, investors received a return of almost 70 per cent on their investment.

Invest in exciting startups

The businesses seeking to crowdfund tends to be relatively small, often pre-profit (although some are more established), with exciting potential to disrupt a niche. Short of becoming an angel investor – which is out of reach for many – equity crowdfunding is your best opportunity to invest in these exciting young businesses. If one in particular is a success, you get the satisfaction of having invested in there first.

Invest in brands you believe in

For many investors, equity crowdfunding isn’t just about investing to make a profit; it’s also about getting involved with a brand you’re passionate about. For example, many of the investors in BrewDog were regulars at its bars and drinkers of its beer – investment for them was about more than just making a profit, it was about owning a part of a business they believed in.

Tax incentives

A lot of the businesses seeking equity crowdfunding are eligible for either the Enterprise Investment Scheme (EIS) or the Seed Enterprise Investment Scheme (SEIS).

EIS income tax relief can potentially reduce your income tax liability by 30 per cent, and SEIS income tax relief can potentially reduce your liability by 50 per cent. These incentives make investing in equity crowdfunding a potentially much lower risk for individuals with a relatively high net worth because losses may be written off from their tax bill.

Low barrier to entry

Some equity crowdfunding investments can be accessed for as little as £10, making this form of investing one of the easiest to get into with a low budget. This could be an advantage for new investors who want the excitement and experience of investing while limiting their losses.

High risk

As with any investment with potentially high returns, you also have to accept a high risk. If you were to invest in ten different crowdfunding investments, it would not be unusual for eight of them to fail – and it’s not outside the realms of possibility that nine or even all ten will fail. Investors are often happy to take this risk because a few successes will often outweigh the losses.

Low liquidity

Crowdfunding investments have very low liquidity, which means that once you’ve bought them, it’s hard to sell them until one of a few scenarios occurs. If you do buy shares you must accept that you will likely hold them until either (a) the business goes bust, (b) a larger investor (such as a VC fund) buys the business, or (c) the business is listed on an exchange, allowing you to trade your shares.

Our “should you invest in” series will also look at P2P lending, property crowdfunding, robo-advisory, the Innovative Finance ISA (IFISA) and EIS/SEIS.