Crowdfunding – the online method of raising money from people around the world – is less than a decade old, allowing artists, activists and a growing number of entrepreneurs to connect with financial support far outside the conventional lending system.
Here’s how crowdfunding works. Through sites like Kickstarter, Indiegogo or RocketHub, campaigners seeking funding create a pitch that educates potential funders – or “backers,” as they’re often called – on their project. Campaigns share their funding goal and the various rewards backers will receive for taking part; backers respond with pledges made via credit card. If the campaign meets its goal and deadline, the crowdfunding site activates all the card-based pledges and the campaign is funded.
While estimates vary widely, research organization Massolution put 2013 crowdfunding revenue at $5.1 billion globally. Many crowdfunding efforts today are artistic or cause-based, but that is expected to change in the near future.
Implementing the crowdfunding provisions of the 2012’s Jumpstart Our Business Startups (JOBS) Act, the U.S. Securities and Exchange Commission is putting final touches on regulations allowing ordinary investors to participate in equity crowdfunding for the first time. This would mean that business owners could raise money via the web in exchange for a piece of ownership in their company.
Because the process of crowdfunding is relatively easy compared to other means of obtaining capital, some might neglect to research potentially unfavorable tax, financial or legal implications from their campaign. Potential crowdfunding campaigners might want to make a preliminary call to a qualified tax adviser, financial planner or an attorney before launching any online fundraising effort. Individuals, companies and nonprofits have different tax issues and financial precedents that could blunt the effectiveness of any fundraising campaign.
Depending on the fundraising goal and how that money will be handled in the aftermath of the campaign, experts say some situations may call for a particular legal entity to be formed in advance. If appropriate, participants could seek guidance to form an actual business or nonprofit entity. Discussing structural issues in advance will not only help with tax issues, but also lead to better strategies for fundraising and long-term mission.
Beneficiaries should also consider any potential tax issues they could face as recipients of money from crowdfunding campaign. Depending on individual circumstances, crowdfunding a person’s unpaid medical bills may have significantly different tax ramifications than crowdfunding one’s independent film project. It is not enough to consider the tax issues for the campaign and campaigners. Beneficiaries require their own due diligence to make sure crowdfunding provides the most efficient solution for their needs.
Finally, backers should consider whether they have any tax questions about their support. To date, most crowdfunding supporters give such small amounts tax issues don’t really surface. That may change in the future as crowdfunding moves into the commercial arena. No matter what the circumstance, any potential crowdfunding backer who works with a qualified tax, financial or legal professional should consider asking if there are more efficient ways to offer support.
Bottom line: If you are interested in crowdfunding either as a campaigner, a beneficiary or a backer, research a potential project thoroughly or consider getting individualized tax, financial or legal advice before you proceed.