While business loans and credit cards are often a source of finance for small businesses, there has always been alternative options out there for small business funding. In the past these traditionally came in the forms of government and community grants, or small loans or investments from friends and family. But the alternative lending market has exploded in recent years, and platforms like Kickstarter, Indiegogo, GoFundMe and Patreon have all popped up to allow entrepreneurs and small businesses new opportunities to access funding for their ventures.
These platforms have made it possible for individuals and businesses to get a range of creative, innovative and unique projects off the ground, that may have never been financed through traditional methods.
As exciting as this is for small businesses and start-ups, when it comes to the legal implications of how these crowdsourced funds are taxed, there are a lot of grey areas. Both for the creators of the campaigns, and their backers.
While most of these sites mention taxes in the terms of services on their webpages, none of them provide any definitive information on how income from crowdfunding should be reported, and what taxes will need to be paid on it. On the other hand, Indiegogo notes that taxing authorities may classify the funds raised in a campaign as taxable income to the owner or any beneficiary. While Kickstarter suggests that expenses may be deductible against the income, and some amounts raised may be considered non-taxable gifts, but doesn’t go into further detail.
The Canadian Revenue Authority ruled that crowdfunding, where the recipient was operating as a business, was a taxable income in August 2013. However, in America the Internal Revenue Code and IRS guidance don’t address crowdfunding, leaving possibilities open as to how it should be treated for tax purposes, this could mean that raising funds to help someone pay their medical bills will result in changes to their eligibility for services like Medicaid or Social Security. While in Australia, like Canada again, the tax implications are dependent on whether the recipient was carrying out an enterprise, or the model used to raise funds. In most circumstances, it’s safest to consider amounts received through reward-based crowdfunding campaigns as taxable income.
There’s also a timing problem for creators of campaigns, where often the income they’ve received from crowdfunding platforms is taxable in one year, but the related expenses which usually are not incurred until after the campaigns completion, are not deductible until the following tax year. This can result in cash flow problems for the campaign creator that could affect their ability to complete the project.
While crowdfunding is becoming more common, tax support and guidance remains unclear on many points. If a client is considering using alternative methods of lending to help them further expand, or undertake a new project, then advise they draft a tax and implementation plan for the crowdfunding campaign before launch. Or help them with the process of creating one, so all potential issues can be addressed ahead of time.