Accounting Expert Answers Common Questions About Crowdfunding
Pitching in to help out via crowdfunding campaigns has become more popular than ever during the pandemic, but a UMD accounting expert warns that giving out the goodness of your heart doesn't always mean you've given a tax-deductible charitable gift.
In a year that emptied food pantries and diaper banks, erased millions of jobs and wiped out businesses and families’ savings, at least one market was booming: crowdfunding.
More than 6.45 billion crowdfunding campaigns were hosted globally in 2019, and the pandemic was expected to increase that significantly in 2020 and to triple by 2025, according to a February report.
With so many people donating to—or benefitting from—crowdfunding last year, taxpayers preparing to file their returns have a lot of questions about it, said Maryland Smith accounting lecturer and CPA Samuel Handwerger. The answers, he adds, are a mix of good news and bad news.
These transactions are not ambiguous, he said. “Since they involve exchange of dollars, you know the tax code will have something to say about each one. And indeed it does.”
Here are some of the questions he’s hearing, and his answers:
Are charitable donations to a crowdfunding appeal tax-deductible?
No, said Handwerger. “While giving to a needy person’s crowdfunding campaign qualifies as a good deed in the heavenly code, the tax code does not recognize this as a deductible charitable donation.”
In defining what “charity” means in the tax code, the Supreme Court has said, “Charity begins where the certainty in beneficiaries ends, for it is the uncertainty of the objects and not the mode of relieving them which forms the essential element of charity.”
“I’m not sure what that means, either, but it seems like a fun one to memorize and recite at the next Zoom party,” Handwerger said. He explained that the donation is not charity unless it’s meant for a charitable class of individuals. Making a donation for the benefit of one at the exclusion of others is certainly a “gift,” but it is not charitable.
Do people who benefitted from a crowdfunding campaign aimed at helping them weather a family financial crisis owe tax on those gifts?
No, said Handwerger. “The receipt of those monies are gifts, albeit not charitable gifts, from the various donors. Gifts in the tax code are not subject to income tax to the recipient.”
However, that’s true only if the crowdfunding sponsor offered nothing in return for those so-called gifts. “Once you start getting into a possible ‘quid pro quo’ arrangement,” he said, “now the tax code will look at this as a business transaction and it becomes a taxable event.”
So, if the crowdfunding campaign offered T-shirts or a batch of chocolate chip cookies for donors who make contributions of $10 or more, that’s no longer a gift—it’s a sale. “And that is taxable income.”
What about donations to a charitable organization earmarked to help a specific person severely affected by COVID-19? Are they tax-deductible?
Sorry, said Handwerger. “Remember that Supreme Court opinion I suggested we memorize? A gift with the intention to benefit only certain people privately without the possibility of assisting a ‘class’ of individuals in need of charity is only a gift, it is not a ‘charitable’ gift.”
Donors wanting a charitable organization to “earmark” a donation for the specific benefit of a named individual cannot obtain a deduction for that gift. In such a case, the donation is not considered a contribution to charity. It’s merely using the charity as a conduit for a gift to a specific individual.
On the other hand, general-use restrictions, such as a stipulation that funds be used for school scholarships or a building fund, are acceptable and aren’t considered improper earmarks.
Is money that a business received from a crowdfunding site taxable, or is it a gift?
“A business receiving money from a crowdsourcing site certainly cannot claim that as a gift. ‘Gifts to a business’ is somewhat of an oxymoron. You can be gratuitous out of the goodness of your heart to a human, but not to a business.” He says the tax result here will depend on how the funds were raised.
“Suppose the business was still in the development phase, and the venture capitalists took a hike when the pandemic broke loose,” Handwerger said. “So the business owner sets up a crowdsourcing fund asking for help, with a promise that donors will receive a working version of the gadget under invention when it’s done. This is ‘reward-based crowdfunding,’ and it’s taxable income to the business.”
On the other hand, Handwerger said, if the donor receives a piece of the business as an owner/investor, then the money received is not taxable. It is equity crowdfunding—and it is also not deductible by the giver. “It’s an investment made with the expectation of a possible return on the money.”
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