Friday September 21, 2018
Article of the Month
Crowdfunding Issues for Advisors to Consider
In the wake of natural disasters, national tragedies and medical misfortunes, donation-based crowdfunding campaigns seek to raise funds to help those in need. Online crowdfunding platforms make it possible for individuals to create campaigns within minutes of a disaster striking. By utilizing social media and other web-based platforms, campaign organizers are able to publicize their campaigns and collect thousands of dollars in donations for their causes.
Crowdfunding as a fundraising method has sky rocketed in popularity in recent years. A 2016 study from the Pew Research Center found that 22% of American adults surveyed had contributed to a crowdfunding campaign. Yet, despite this rise in popularity, there is little to no guidance for donors and advisors regarding the tax consequences of making donations to non-qualified charitable crowdfunding campaigns. The IRS has not released guidelines for these types of donations, leaving advisors to rely on traditional tax concepts to interpret how transfers to crowdfunding campaigns should be treated for tax purposes.
This article will examine donation-based crowdfunding and shed light on several issues for advisors to consider. Along with income and gift tax implications, there are also practical considerations that must be taken into account. These considerations include accountability for funds raised and whether donations will helpor hinderthe ultimate beneficiary of the campaign funds. By understanding the potential issues that exist in the murky waters of donation-based crowdfunding, advisors will be better prepared to work alongside their clients in order to guard against unwelcome and unexpected tax consequences in the future.
Crowdfunding is the practice of funding a project, charitable campaign, personal campaign or commercial venture by raising money from large numbers of individuals through a variety of online platforms. There are various types of crowdfunding, including donation-based, reward-based, equity-based and debt-based crowdfunding. This article will focus on donation-based crowdfunding, where individuals give money for a cause, project or person without receiving anything in return.
There are numerous crowdfunding platforms that serve as webhosts for individuals to launch their crowdfunding campaigns. GoFundMe is one of the leading donation-based crowdfunding platforms, with over $5 billion raised since its launch in 2010. Crowdfunding platforms, like GoFundMe, serve as the web host for the campaign, manage donations and track the campaign's progress.
Individuals who are not affiliated with qualified charities can set up crowdfunding websites to raise money for a variety of needs, including funeral costs, hospital bills, housing costs and adoption fees. Crowdfunding campaigns are also often sparked by the occurrence of national tragedies. Numerous campaigns were launched to help victims of the Las Vegas shootings, California wildfires and Hurricane Harvey. These campaigns gain attention by being shared across social media platforms and are often set up to benefit a friend or relative in need. One of the largest crowdfunding campaigns was set up to help victims of the Las Vegas shooting in October 2017. The campaign raised more than $10.8 million in its first 15 days.
Qualified Sec. 501(c)(3) charities are also entering into the crowdfunding arena. By creating crowdfunding pages, charitable organizations are able to appeal to a diverse field of donors and promote their charitable causes. In other instances, qualified public charities have partnered with existing crowdfunding campaigns. It is important to note, however, that some crowdfunding platforms charge a "platform fee" to public charities that use their websites. Thus, if an individual is considering giving to a qualified public charity's crowdfunding campaign, he or she may want to research the crowdfunding platform to see if it assesses a fee on public charities. If so, it may be preferable to give directly to the public charity itself in order to avoid reducing the total amount transferred to the charitable cause.
Is the Donation Tax Deductible?The IRS permits taxpayers who contribute to qualified charitable organizations, as defined in Sec. 170, to deduct their contributions. Therefore, donors who give directly to public charities are accustomed to receiving charitable income tax deductions for their gifts.
What happens, however, when an individual makes a donation to a crowdfunding campaign? Is that contribution deductible? The answer is it depends. If the crowdfunding campaign is run by a qualified, 501(c)(3) organization, then the contribution may be deductible. If the campaign is organized and run by an individual or a group that has not received tax-exempt status from the IRS and is not a qualified charitable organization, then the donation will not be deductible.
How can individuals tell whether or not their contributions to a crowdfunding campaign are going directly to a charitable organization? Some crowdfunding platforms will clearly label the campaign as one that is benefiting a qualified, or "certified," public charity. Alternatively, the organization itself will typically make it clear if it has tax-exempt status. In addition, advisors can urge their clients to look up the name of the organization on the IRS's "Tax Exempt Organization Search" tool on irs.gov.
In general, as a rule of thumb, if a crowdfunding campaign's website does not clearly indicate that donations are being made to a qualified charity, then it is unlikely that contributions will be tax deductible. In addition, if the campaign is raising funds for a specific individual, rather than the general public, then donations are not likely to be deductible. See PLR 201701021. This is because gifts to public charities must be made either "to" or "for the use of" the charitable organization in order to be deductible. A donation made to a qualified charity to benefit a specific individual is not deductible, regardless of how deserving that person may be. As such, if a crowdfunding campaign is requesting donations to pay for a specific individual's medical costs, rebuild a particular family's home or cover an individual's funerals costs, then those donations will not be deductible charitable contributions.
Becca was heartbroken after seeing television coverage of the most recent wildfires spreading across California. She wanted to make a contribution to the cause and discussed her options during her monthly meeting with her advisor, Garrett. Becca mentioned that she saw a Facebook post for a crowdfunding campaign that was established to help rebuild a family's home that had been destroyed by a wildfire. Garrett sat down with Becca to take a look at the campaign's website. After reviewing the campaign's information, it was clear that the campaign was not being organized by an exempt, qualified charitable organization because the funds raised would be going to only one family in particular. Upon closer examination, it was evident that the campaign was organized by a family member rather than a qualified charity. As such, Garrett suggested that they conduct more research to identify an exempt charitable organization providing similar support to affected families in the area. A simple internet search provided plenty of options and qualified organizations for Becca to choose from. Becca decided to make a contribution to a tax-exempt organization that will help to rebuild homes in the aftermath of the wildfires. As an added bonus, Becca will be entitled a charitable income tax deduction for her donation.
Is the Donation a Taxable Gift?
For donations to crowdfunding campaigns that are not organized by qualified charities, there is uncertainty regarding whether the donor may be required to report a taxable gift when he or she transfers funds to a crowdfunding campaign. In general, when an individual transfers funds or property to another individual, he or she may be required to file a Form 709 gift tax return. The annual gift tax exclusion allows individuals to transfer up to $15,000 per person, in 2018, without filing a gift tax return. For the annual exclusion to apply, the transfer must be considered a completed, present interest gift. Sec. 2503(b). This means that the gift recipient must have immediate use, possession or enjoyment of the property or income. Reg. 25.2503-3(b).
Gift tax issues arise in the crowdfunding arena where a campaign is organized not by a public charity but by an individual or group on behalf of an individual or group of individuals. This is because transfers to public charities qualify for an unlimited charitable gift tax deduction. Alternatively, if a donor transfers funds to a campaign that is raising money to cover costs of a child's medical bills, the donor has technically has made a taxable gift and may have to file Form 709. If the donation is less than $15,000, the donor may be able to argue that the transfer qualifies for the annual exclusion. However, under certain circumstances, that argument may fail to persuade the IRS.
1. Is the Donation a Completed Gift?
As stated above, the gift tax exclusion applies if the gift has been completed. Regulation 25.2511-2(b) explains that a gift is not complete if the donor reserves the power to revest the beneficial title to the property in himself. For crowdfunding sites, if the donor is able to claim a refund for his or her donation, is the transfer an incomplete gift for gift tax purposes? Alternatively, is the gift incomplete until the funds are distributed from the campaign to the beneficiary or cause?
The IRS has not provided a definitive answer to questions regarding the gift tax implications for contributions to donation-based crowdfunding campaigns. The only guidance that the IRS has provided in the area of crowdfunding was in Information Letter 2016-0036. This letter, however, focused not on donation-based crowdfunding but on reward and equity-based crowdfunding. As such, advisors must look to established gift tax principles to guide clients who plan to make contributions to an independent crowdfunding campaign. Advisors counseling clients through the donation process should review the crowdfunding site's terms of service, along with the terms of the payment processor for the site. In addition, the terms may be subject to state-specific laws and, as such, the controlling state's laws should also be considered.
2. Is the Donation a Present Interest Gift?
If the donation is determined to be a completed gift, then the next inquiry for the donor and advisor is whether the gift qualifies for the annual exclusion as a present interest gift. If the donation is going to benefit a large number of potential recipients, who cannot be presently determined, then the donation may not qualify as a present interest gift. Reg. 25.2503-3. In addition, if the campaign organizer is holding the donations in trust for the ultimate recipient, then the gift may not qualify as a present interest gift until the recipient has the right to the immediate use, possession or enjoyment of the funds. Reg. 25.2503-3(b).
In these situations, advisors should talk to the campaign organizer. If the recipient has the ability to withdraw the funds immediately, then the donation may qualify as a present interest gift under Sec. 2503. This could be accomplished by attaching a Crummey power to the trust, which would provide the recipient the right to withdraw the donor's gift from the trust for a limited period of time. See Crummey v. Commissioner, 397 F.2d 82 (9th Cir. 1968). Do note, however, that if the trust is set up as a special needs trust, giving the beneficiary the right to withdraw the transferred funds could jeopardize the purpose of the special needs trust and put the beneficiary's needs-based government assistance at risk.
Because of the uncertainty in this area, guidance from the IRS is needed to clarify the gift tax implications for donors giving to crowdfunding campaigns. In the meantime, advisors should educate their donors on these issues and help steer them in the right direction. If the donor is worried about exceeding his or her lifetime exemption amount, it may be preferable to give directly to a public charity to avoid any gift tax questions or unforeseen consequences. By giving directly to a public charity, not only will the donor not have to file a Form 709 gift tax return, the donor will be entitled to a charitable income tax deduction for the amount of the gift.
Will the Donation Jeopardize the Recipient's Needs-Based Benefits?For those receiving needs-based government assistance, like Medicaid, Supplemental Security Income or other income-based support, receiving a large sum of money through a crowdfunding campaign could jeopardize important benefits. Even though the funds received through a crowdfunding campaign are considered gifts rather than taxable income to the beneficiary, for purposes of qualifying for certain government assistance, the beneficiary's resources as a wholenot just the beneficiary's taxable incomeare taken into account.
For example, to be eligible to receive Supplemental Security Income (SSI), an individual's countable resources cannot exceed $2,000 (or $3,000 for a couple). For purposes of SSI, countable resources include, cash, stocks, bonds, real estate (other than the individual's residence), life insurance and other deemed resources. Thus, if the beneficiary of a crowdfunding campaign receives a large sum of cash or property, then he or she could be at risk of losing needs-based government assistance.
Because of these concerns, advisors should encourage clients who are considering giving to a crowdfunding campaign to contact the campaign organizer to ensure that the donation will not do more harm than good by putting the campaign recipient's government benefits at risk. One way to safeguard the donations is to ensure that the funds raised are not deemed the property of the campaign recipient. This may be accomplished by channeling the donations to a carefully drafted special needs trust. By sending the funds directly to a special needs trust, the recipient's benefits may be protected and the donations used to pay for costs that Medicaid and other needs-based benefit programs will not cover. (Note, however, that if a donor makes a contribution to a special needs trust, this may require the filing of a Form 709 gift tax return, since the contribution will not be a present interest gift for purposes of the gift tax annual exclusion amount. See the above present interest gift tax discussion for more information).
Will the Funds be used for the Campaign's Stated Purpose?In addition to the tax implications and uncertainties surrounding crowdfunding donations, there are other potential issues to consider. When donors make gifts to crowdfunding campaigns that are not created by qualified charities, they run the risk that their donations will not be used as intended. Unlike qualified public charities, which must submit annual filings to the IRS and are subject to oversight by regulators and boards of directors, independent crowdfunding campaigns are not subject to government regulation. The terms of GoFundMe's website warn donors that "All Donations are at [their] own risk" and that it assumes "no responsibility to verify whether the Donations are used in accordance with any applicable laws."
While many crowdfunding platforms have procedures in place to guard against misuse and fraud, with the number of crowdfunding campaigns increasing each year, there have been numerous reported instances of scammers using crowdfunding pages to tug on the public's heart strings in order to unlawfully acquire large sums of cash. For example, in 2015 a thief set up a crowdfunding campaign to pay for the funeral of a Fayetteville, NC family killed in a house fire, when, in reality, the fire and the family did not exist. In another instance, a Brighton, MI resident falsely claimed to be suffering from stage-four breast cancer and raised more than $31,000 from nearly 400 people using a crowdfunding website. In other instances, criminals have claimed to be raising funds for real events and individuals but never transferred the funds to the specified person or cause. While sometimes the scammers are caught, in other instances they are able to take off with thousands of dollars.
It is important to note, however, that the majority of crowdfunding campaigns are organized for legitimate purposes. GoFundMe estimates that fraudulent campaigns make up less than one tenth of one percent of its campaigns. Still, advisors should counsel their clients to do their research and exercise caution before handing over a donation to a crowdfunding campaign in order to ensure that the funds will be used exactly as intended. Clients should be encouraged to thoroughly research the campaign and cause or, alternatively, only give to a campaign if they know the organizer or organization. Alternatively, donors could choose to donate directly to a qualified public charity instead. This may offer clients peace of mind in knowing that appropriate safeguards and regulations are in place to protect their donations.
With the number of donation-based crowdfunding campaigns increasing each day, it is important that advisors educate their clients on the possible implications of their contributions. Without firm guidance from the IRS or federal legislation stating otherwise, it can be assumed that contributions to crowdfunding campaigns that are not organized by public charities may be considered reportable gifts for gift tax purposes. For clients with taxable estates, this is an important consideration and topic of discussion.
Additionally, clients may incorrectly assume that every donation to a crowdfunding campaign qualifies for a charitable income tax deduction. By explaining that a charitable income tax deduction only applies if the campaign is organized by a qualified tax-exempt charity, advisors can ensure that their clients are giving in a way that meets both their financial and philanthropic goals. Often times, it may be preferable to give directly to a charitable organization in order to ensure that the client's donation qualifies for a charitable deduction and that it will be used for the organization's stated purpose. Because public charities are subject to government oversight and regulation, not only does the donor receive comfort in knowing that the funds are safeguarded but he or she can also be assured that the beneficiary's needs-based government assistance will not be jeopardized.
While a donation to a crowdfunding campaign may be motivated by noble and altruistic intentions, it is important that donors know to exercise caution before handing over a large sum to a crowdfunding campaign. Not only is the campaign's legitimacy something that should be considered, but the tax treatment of the donation should also be on the forefront of the donor's mind. Until further guidance is provided by Congress or the IRS, advisors should discuss the issues raised in this article with their clients in order to prevent unintended tax and legal consequences. With an understanding of the issues involved with donation-based crowd funding, advisors can arm their clients with knowledge that will protect their best interests and fulfill their charitable and financial objectives.
Published September 1, 2018