Today, FinTech continue to be a driving force in the financial landscape of the economy. There has always been a demand for financial supports amongst individuals, entrepreneurs and Small & Medium Enterprise (SME), which remains unaddressed through existing financial institutions. FinTech startups are trying to fill this gap through Crowdfunding model using social platform. These platforms provide wider reach to individual for investing excess of funds and provide funding to those who needs it with valid purpose.
The concept of crowdfunding using Peer to Peer (P2P) model is evolving and is being used in increasingly creative ways. It is platform where likeminded individuals or entities, collaborate collectively using technology based platforms to support each other needs. The objective is to facilitate solicitation of funds from multiple investors and providing funding to individuals to pursue their projects and offer a chance of success. To summarize it mobilizes wealth that could fuel social and economic development and which is also the prime principles of Islamic Banking and Finance. Islamic Crowdfunding has been gaining interest globally as it shares common objectives of sharing risk and returns, tangible projects with transparent process ensuring community development and the additional elements is permissibility in line with Shariah principles.
Islamic crowdfunding platforms are based on cooperation (Taawun) and are designed to comply with the Shariah principles but is open to both Muslims and Non-Muslims. The funding should not have any element of interest (Riba), gambling (Maysir), non-permissible (Haram) and speculative (Gharar). These are some basic features, which distinguish from Conventional Crowdfunding platform and also existence of Shariah supervisory board to ensure the transaction structures, processes and agreements are in compliance with Islamic law. Islamic crowdfunding can be categorized primarily into four types and each type can operate on different Islamic Contracts based on the transaction purpose.
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Charity Based Crowdfunding
This crowdfunding platform is meant for collecting funds for social conscious, philanthropic and non-profitable projects. The funders provide funds for charity purpose and without expectation of any returns. In Islamic based Charity crowdfunding the contribution is provided based on the concept of Sadaqah and Waqf etc. Waqf is defined as a charitable endowment (trust) made for religious, educational, social or community services and cannot be sold, donated or inherited. However, Sadaqah is a voluntary act of charity performed by Muslims on personal basis and without any obligations.
These platforms assist funders to search for various charities campaign, perform online donations and set up fund raising pages and monitoring of progress towards the projects’ fundraising goals. Generally the crowdfunding platform may charge a fee per donation or a percentage of each donation (or both) for providing the platform services. The example of Charity based Islamic crowdfunding platforms are www.waqfworld.org, www.seedout.org etc.
Reward Based Crowdfunding
Rewards-based crowdfunding allows individuals or SMEs to pitch their business ideas to raise capital from funders through online platforms. The funders or contributors treat contribution as donation and don’t expect any repayment or monetary returns. However, there could be rewards in the form of an acknowledgement or as a token of appreciation for the funders. These platforms provides an opportunity for funding the individuals, which may be considered as un-bankable by traditional financial institutions due to lack of collateral or sufficient credit worthiness scores required for financing. This platform provides fund seeker the least costly way to raise capital, however a percentage fee has to be paid to the platform service provider. www.halallauncher.com is a reward based Islamic Crowdfunding platform using Sadaqah model and personal rewards are gratitude notes and material rewards comprises of caps, t-shirts, pens, bags, etc.
Financing Based Crowdfunding
Lending or financing based crowdfunding is called Peer-to-Peer (P2P) financing and is also known as Social banking. The financing transaction between investor and entrepreneur is performed over the web platform. This is attractive amongst the investors looking for a fixed return, which is dependent on the underlying Islamic financing structures. Islamic financing based crowdfunding is Shariah compliant and investor gets principal and profit in return. The platform assesses the credit worthiness of entrepreneur to measure the ability to handle business and payback the financing and profit amount. The credit worthiness assessment may not be as detailed as financial institutions; however a preliminary screening is performed.
Financing can be done based on Mudharabah (Profit-Sharing) contract. This structure comprises of both debt and equity component. The debt component as the investor doesn’t have any ownership or shareholding rights, and equity component comprises of sharing the profit from the venture. In this structure there is no interest element involved and is based on risk and return sharing model. The another contract which is generally practiced is Murabaha (Mark Up) Financing or Commodity Murabaha based structure where the returns are fixed on the financing amount and is practiced by Dubai-based Beehive (www.beehive.ae). There are other Shariah Compliant financing based platforms are Singapore-based KapitalBoost and ClubEthis and Jakarta based Blossom Finance etc.
Equity Based Crowd Funding
Equity crowd funding facilitates raising of money from investors by selling equity in the company, which allows the investor to participate in gains and losses. Under this model many investors’ pool funds together to invest in equity of startups looking for funding, it can also be for a specific securitized project. Its profit and loss sharing model is in line with principles of Shariah. It offers various benefits such as easy access to funding, avenues for investment for small and medium-sized investors and promotes innovation, job creation, and economic development.
Equity based crowdfunding is gaining popularity particularly in the area of property crowdfunding. The property crowdfunding platform is offering a virtual marketplace, trust and transparent ecosystem, where the entrepreneurs and infrastructure developers can raise campaign and transact with the investors without any geographical limitations. Islamic Structures such as Musharakah (Equity Based Partnership) or Mudharabah (Profit & Loss Sharing) are being practiced as an underlying contract for Equity based crowdfunding. Crowdfunding platforms offering Equity based Shariah compliant campaign are www.EthisKapital.com, www.alchemiya.com etc.
Crowdfunding and Financial Inclusion
Apart from the above models of crowdfunding platform, one area where Islamic crowdfunding can contribute the most is the Financial Inclusion. Crowdfunding platforms can contribute to financial inclusion efforts by providing improved access to Shariah compliant funds and financial assets to the unbanked population in need of financing. Kenya’s M-Changa is already making strides with this model. Since its September 2012 launch it has raised $900,000 through 46,000 donations to 6,129 fundraisers. M-Changa, digitizes the practice of “Harambee”, community fundraising—by allowing people in the same community to use their mobile money to make donations to individuals (e.g., to support a relative’s education) or to community causes. Another example is Kiva which lends to thousands of entrepreneurs in countries where Islamic law impacts how people can borrow money and pay it back. By lending as little as $25 on Kiva, funders can help a borrower start or grow a business, go to school, access clean energy or realize their potential. This crowdfunding platform has helped facilitate more than 1 million loans from funders in developed economies to low-income entrepreneurs in developing countries.
Since crowdfunding has a backing of technological innovation, it can complement traditional banking services by providing access to financial services such as mobile money, digital credit, remittance, digital microinsurance etc. to those who might have been left out by formal banking channels due to logistics and higher cost issue.
The crowdfunding industry is in its early stages of development and only a handful of Islamic crowdfunding platforms are available worldwide but it’s growing. The unique advantage to Islamic based Crowdfunding is existence of ethical and social responsibility element, which make it a “value based” platforms.
There is no doubt that Crowdfunding is causing a disruptive innovation, which financial institutions cannot ignore. The ease of access, speed of online transactions, transparency, as well as the ability to match the needs directly makes Crowdfunding highly appealing, especially to Millennials. This social network of like-minded investors and entrepreneurs forms a trust based platform. There will be a pressure on margins, impact on customer-base, reduce in deposit and finance takers etc. Hence the need of day is collaboration with FinTech as a partner and leverage on their technology and business model strengths. The platform providers can leverage on FI’s strength in the area of compliance to mitigate the operational risks related to investor funds security, frauds, money laundering and any other regulatory compliance. The catch here is that FIs should embrace this trend and make it work to their advantage
Dr. Nafis is currently an Associate Professor of Finance at Henley Business School, University of Reading Malaysia and his research is focussed on Fintech, banking regulation, financial market, corporate finance and Islamic banking and finance. firstname.lastname@example.org
Lokesh Gupta is a co-founder and Head of Consulting at RM Applications and has 15 years of extensive experiences in Consulting, Risk Data Mart Development, Project management and its implementation. email@example.com