There has been a ton of press lately about crowdfunding for creative projects. PhotoShelter just came out with a pdf about how it works with examples from real artists, Miki Johnson did a twitter-based fotochat on the topic the other day, and it’s been hitting the mainstream media as well. In all of this, however, I am not seeing something that really needs to be addressed: the tax consequences.
First off, I want to make it clear that I am not a tax law expert. I did very well in my Federal Income Tax class in law school and I do have a twisted bit that sort of enjoys tax stuff, but I’m not an expert. I want to encourage all of you who are considering using crowdfunding to consult with a CPA who knows about these issues (if your CPA doesn’t even like Quickbooks, you will want to find someone more up-to-date) and, maybe, even a tax lawyer.
Why the big fuss? Because there are potentially a lot of tax issues connected with crowdfunding.
I know, it doesn’t sound like that should be a concern for many artists, but what if you offer a print or a book to those who give you money to fund your project? Those are tangible items and that “trade” is going to be considered a sale by at least some of the gazillion* sales tax entities in the USA (*there are over 7500, really). Some tax people online have suggested that the companies like Kickstarter might be themselves in trouble for the sales tax issues, because they could be considered like Amazon. Even so, for the artist, I think the sales tax issues should not be ignored.
Let’s say you are doing this solo, that is not as a collaborative project. You may have to report the money you raise as income and pay the appropriate tax on it. For many artists, that will mean reporting it on your Schedule C and paying both Federal and State taxes… even local taxes for some places. If you haven’t figured this into the amount you need to raise, you could end up with a big bill come April 15.
Oh, and I really hope I don’t have to say this, but just in case: you can’t suddenly claim to be a not-for-profit business or that this project is non-for-profit and expect not to get taxed. Sorry, it doesn’t work that way. The IRS will laugh as they take their cut if you try that. Becoming a non-for-profit requires other filings done ahead of time.
Let’s say, however, that this project is a collaboration… you and your designer buddy, for example. Who pays the taxes then? How is the business for this project structured? Are you a partnership of some kind (you probably will be as far as the taxman is concerned if you don’t make other arrangements–like organizing an LLC for this)? If you’re not solo, then there are specific tax forms required for reporting this income, first for the “group” then for your own taxes. Depending on the form of your collaborative entity, you might get taxed more than once, even! (Another reason to talk to a professional early on!)
If you’re a corporation, there may be a way out of paying tax on the money as the money “donated” might fit as a “capital contribution” under IRC §118. Maybe. But, the government loves to look closely at those claims and who wants to invite an audit? Also if, for example, you are giving your donors a book or preview tickets or something in exchange, §118 will likely not work for you anyway.
Not for Equity!
No matter what kind of entity your business is (for this crowdfunded project) you must not exchange equity in your entity for the money. That is, for example, you can’t say “If you give me $1000, you’ll get $X from every sale of my book” or “X% of any profit I make.” As soon as you start talking equity, you not only have the IRS to deal with, you will get the attention of the Securities and Exchange Commission (SEC). Why? Because what you will be doing is like selling stock. Trust me, you do not want to deal with all that gets involved in that for your $25,000 (or whatever) project.
Interestingly, in the UK there is at least one site set up for exactly that, where the “donors” do get equity, and I think it’s a great idea. However, I have no idea how it could be done here with all the SEC-related rules, especially.
It may be possible that the money you get via crowdfunding could be classified as a non-taxable gift under IRC §102. I’m still skeptical about this, though. To be a gift under that section, the giver has to be under no obligation to give and the giver must not expect anything of value in return for making the gift (note, there are other parts to this, under case law, but these are the bits of most concern). So, let’s say, again, that you offer a copy of your photo book or a signed print to your donors–well, that sure sounds like getting something of value. It doesn’t have to be of equal value, by the way, so you can’t get around it that way. Moreover, something of value to the IRS here isn’t just a tangible thing! It could be an intangible like goodwill if your donor uses the fact that s/he donated to you to get good press!
Worse yet, each gift gets examined separately. This makes for a paperwork nightmare if you have hundreds of little donors, some of whom got something of value but others who didn’t, etc.
What to do?
First, don’t panic if you have used or are using crowdfunding already. Second, contact a reputable CPA who understands not only what you do as an artist but also who is at least familiar with the crowdfunding concept. A good CPA can do the research necessary to find the answers you need and can guide you through a lot of this, but you do want to start with someone who has a clue. You could also contact a true tax specialist lawyer for great, personalized advice.
The one thing you don’t want to do is ignore all of these issues and play the equivalent of the tax roulette, hoping that the IRS doesn’t find you. I would bet dollars to donuts that the IRS is paying particular attention to these new entities like Kickstarter and they will follow the money. Be smart about your business and get the best advice you can.
For more information: