- There are three main types of crowdfunding: equity-based crowdfunding, donation-based crowdfunding and debt-based crowdfunding.
- The main legal obstacles for crowdfunding include the shareholder cap and the prohibitions on offers of equity (including advertising prohibitions).
- Generally, if your project achieves its funding goal, all pledged funds are transferred to your bank account. If your project does not meet its funding goal, all pledges are cancelled and no funds are transferred.
Crowdfunding is a scheme where projects, ventures and startup companies seek donations from the public, generally through the Internet. Investments and donations are usually made through public marketplaces, which co-ordinate and administer the fundraising.
Types of Crowdfunding
There are three main types of crowdfunding:
- Equity-based crowdfunding (or investment crowdfunding or crowd sourced equity funding): Asking a crowd to donate to a project or business in exchange for equity. Whilst equity-based funding may create a shareholding in a business, dividends are rare and investments are likely to become diluted if more shares are issued. There are strict equity capital raising laws to follow, including advertising prohibitions.
- Donation-based crowdfunding: Asking a crowd to donate to a project or business in exchange for non-monetary rewards. They returns can be tangible or intangible (such as the finished product)
- Debt-based crowdfunding (or peer to peer lending): Asking a crowd to donate to a project or business in exchange for financial return at a later date. The potential of dividend returns can be raised through debt-based crowdfunding.
Popular crowdfunding platforms are Pozible, Kickstarter and Indiegogo.
Benefits of Crowdfunding
Crowdfunding is beneficial to obtain finance by reaching out to a broad public audience, whether it be for a creative startup or for a non-profit. It may be a way to source funds more quickly and efficiently compared to traditional channels. Donaters (or crowdfunders) can provide useful feedback on any project, as well as assist with your marketing interests. You can achieve validation of concept much earlier through crowdfunding than through traditional avenues of financing. Notably, crowdfunding platforms allow crowdfunders to personally invest in a project at a range of price points.
Pitfalls of Crowdfunding
Whilst crowdfunding attracts interest from the public, it also exposes your ideas to potential imitators and raises a number of legal and taxation requirements. Managing and delivering a crowdfunding campaign requires ongoing communication and maintenance. Equity crowdfunding is not permissible under current Australian law, which restricts a non-wholsale offer to a person offer resulting in up to 20 investors investing up to $2m in 12 months.The law is being reviewed.
- Whilst crowdfunding can be a quick source of capital, there are risks for both investors and for businesses. Ensure you are aware of the conditions and obligations of funding.
- Crowdfunding in Australia is still in its infancy. Without substantial regulation in this field, investors should conduct their due diligence before investing.
- Potential investors should ask how the fund-seeker intends to use your funds if targets are reached
Legal Issues Behind Crowdfunding
Crowdfunding is still a relatively new area of financing in Australia. Currently, legislation imposes a limit for unlisted public companies, and on private companies, and there are prohibitions on publicly advertising an equity offer.
Businesses seeking to raise funds through crowdfunding websites need to be cautious of how their raised funds are used. Crowdfunding websites take a cut of the funding that is processed through their platforms, as well as charge substantial transaction fees and take no responsibility for the trustworthiness of the people seeking funds. In short, crowdfunding websites are not accountable if a project does not succeed.
Regulation of crowdfunding in Australia, particularly for equity-based funding, is still under consideration and scrutiny. The law is being reviewed and aims to enhance the transparency of how funds are collected and used.
Frequently Asked Questions about Crowdfunding
Q: Do I need to be a registered business to crowdfund?
A: If the project is a hobby, there may not be any GST or income tax implications. However, if raising funds to start a business, registration with an ABN is likely to be required.
Q: Is crowdfunded money a donation?
A: If you are in business, what you give in return for the money received will help to determine the tax issues. If you treat the money received as a donation to your business then there could be GST and income tax issues, as it is likely that the money will be revenue. The cost of providing any rewards (say goods or services) should be a tax deduction.
Q: What are the main legal obstacles for crowdfunding?
A: Widespread equity crowdfunding is not permissible under current Australian law, which restricts a non-wholesale offer to a person offer resulting in up to 20 investors investing up to $2m in 12 months. The law is being reviewed with a view to permitting equity crowdfunding, subject to strict rules and caps.
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