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Kickstarter’s potential tax costs

By Kay Bell · Bankrate.com
Thursday, July 10, 2014
Posted: 3 pm ET

Crowd funding is hot, fun and successful.

The online fundraising phenomenon has helped filmmakers Rob Thomas and Zach Braff make their latest movies, given Reading Rainbow new life on the Internet and financed the most expensive bowl of potato salad ever.

tax-blog-kickstarter-potato-saladIt also raises myriad tax questions and possibly big tax bills for successful folks who end up with a lot of money through their efforts on Kickstarter, Indiegogo and similar sites.

Most expensive side dish ever

Take the case of Zack Brown of Columbus, Ohio, who turned to Kickstarter to help him finance the making of his first bowl of potato salad. It's not that Brown needed the 10 bucks; the 31-year-old is co-owner of a software company.

He said he put out the online call for potato salad cash for the "pure enjoyment and silliness of life."

Things quickly went from silly to serious. Earlier today, he had more than 5,400 backers who have pledged more than $44,000 to his Kickstarter campaign chest.

That's 4,400-plus times his original $10 goal.

That's also more than $44,000 on which Brown likely will have to report as taxable income.

Taking care of taxes

Kickstarter offers participants this tax advice: "In general, in the U.S., funds raised on Kickstarter are considered income."

But, as is usually the case with taxes, this raises more questions, such as what type of income?

Mark Luscombe, principal federal tax analyst for Wolters Kluwer, CCH, a tax publisher and software provider, says there are three tax possibilities when it comes to crowd-funding money.

The cash could be viewed as an investment, a gift or a business transaction.

In investment situations, investors typically put in money with the expectation of getting a return on their dollars. Without such an expectation, viewing crowdsourced money as an investment is less likely.

An argument could be made that the backers are simply giving their money to the project if there is no promise of anything in return. For the 2014 tax year, gifts of $14,000 or less have no tax implications for either the donor or the recipient.

But if items, even nominal ones, are provided to backers, the process looks from the tax collector's point of view more like a typical business transaction.

And this appears to be where the novice cook has sealed his potato salad tax obligation.

Potato salad payback

Brown originally promised a "bite" of salad to anyone who donated $3 or more. As the campaign took on a viral life of its own and the money continued to flow in, Brown has expanded his rewards.

He even plans to host a potato-salad party. I hope Columbus has a big venue. Brown says the whole Internet is invited.

Given the goodies he's offered, it looks like Brown will owe taxes on at least a portion of his $44,000-plus and growing pot of money.

I'm not saying that Brown would ever try to evade his tax liabilities, but if he ever had any idea of flying under IRS radar, that's long gone. His potato salad project has received global attention.

Adding to Brown's potential tax liability are the Internal Revenue Service's record keeping rules. Luscombe notes that Kickstarter via its fulfillment agent Amazon Payments issues 1099 forms on certain amounts raised on the website. The IRS gets a copy of those documents.

Know the code

The tax lives of many crowd funders are complicated because of their general unfamiliarity with the Internal Revenue Code. "A lot of Kickstarter people are artists who don't tend to think about taxes," says Luscombe.

Ben Henretig, founder of Micro-Documentaries, is an example of the creative types who have turned to crowd funding. He used Kickstarter to underwrite his film "The Happiest Place."

From the beginning, however, Henretig treated his online campaign as a business, keeping track of his film-making expenses that could be used to reduce the eventual tax bill on his crowdsourced money.

In a blog post about his experience, Henretig advised potential crowd funders to meet with an accountant before initiating an Internet appeal for financing.

"Yes, taxes can take a pretty substantial bite out of your funds," cautioned Henretig.

More tax info from Bankrate

Want the latest news on taxes, tax reform prospects, filing deadlines, IRS alerts and tax-saving tips? Subscribe to Bankrate's free Weekly Tax Tip newsletter.

You also can follow me on Twitter: @taxtweet.

Veteran contributing editor Kay Bell is the author of the book "The Truth About Paying Fewer Taxes" and co-author of the e-book "Future Millionaires' Guidebook."

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