The CRA will tax money raised through crowdfunding
Crowdfunding has become a legitimate avenue for entrepreneurs and artists to raise money for their unique ideas or projects, but anyone crowdfunding needs to know that the CRA can tax you on the money raised.
If a person received money for their business or project, such as a movie, and they receive the completed product or a promotional item, but not equity or a cut of the profits, then that's considered to be business income. But whether those crowdfunding expenses are deductible or not depends on whether they follow the Income Tax Act.
There continues to be debate in Canada about the pros and cons of crowdfunding, but the latest statistics by research firm Massolution show that $2.7 billion was raised worldwide for more than one million campaigns in 2012.
Canada isn't the only country creating legislation around crowdfunding. The United States recently introduced legislation that lets startups raise equity investments of up to $1 million a year through social media or elsewhere on the Internet, but only through accredited American investors. Those shares wouldn't have to be registered for public trading, according to the New York Times. A second part of the legislation comes into effect later and it will allow crowdfunding from the general public.
While crowdfunding has provided funds for many projects that otherwise wouldn't have happened, there are risks involved for donators and recipients of the money.
For donators, there's no guarantee that the project will come to fruition. Satirical news website Gawker recently raised $200,000 to buy a video that allegedly showed Toronto's mayor Rob Ford smoking crack cocaine. While the campaign created a lot of media hype, unfortunately Gawker was unable to contact the sellers of the video. In the end, they decided to donate the funds to four Ontario charities.
Los Angeles entrepreneur, Seth Quest, serves as a cautionary tale for entrepreneurs when he went bankrupt after he failed to deliver on his Kickstarter project. He was hit with a lawsuit and declared bankruptcy, which also hurt his reputation.
"When you fail on Kickstarter, it's a very public failure," Quest told Inc. magazine. "It definitely derailed my career substantially. Your backers can give you massive support, but they can also tear you down if you fail."
Crowdfunding is also very different than being backed by a venture capitalist or angel investor since you miss out on guidance from experienced businesspeople. They've invested a good amount of money into your project, which makes sense that they become personally involved.
Crowdfunding websites look like they are here to stay with Kickstarter, the world's largest platform, recently launching in Canada. As the websites gain traction for projects ranging from tech startups or art projects, other traditional businesses, such as a coffee shops, are testing the waters.
But, there's also some weird projects that have been oddly successful through crowdfunding. The reach of the Internet really is a powerful thing.
Have you or will you ever invest in a crowdfunding project?
Josephine Lim, MSN Money