Crowdfunding is a growing resource for innovators and entrepreneurs.
Typically associated with startup innovations, it’s a way to fund a special project by collecting money from a large group of people in exchange for a future, not-yet-built reward. In concept, crowd-funders get a good deal on your new product while you get the resources to get it off the ground.
Among the more notable products launched this way: Oculus Rift, a virtual-reality headset, which raised $2.4 million in 30 days and was later sold to Facebook; the Pebble smartwatch, which raised $30 million over two campaigns but ultimately shut down; Tile, a small Bluetooth-connected tag that can help you locate misplaced items; and Flow Hive, a honey tap for your beehive, which raked in over $12 million.
Now, even well-established brands like GE, Hasbro, and Anheuser-Bush are using crowdfunding as a tool to test new ideas. Whether you’re a hopeful startup or an established company, there are some legal issues you should consider before launching a crowdsourcing campaign of your own.
Fulfilling your contract
Crowdfunding campaigns through platforms such as Kickstarter, IndieGoGo and others are typically connected with some reward model: Fund us at X level, we’ll give you Y. When you enter into such an agreement seeking funds, you’re creating what likely constitutes a legal contract. If your project is funded, you’re obligated to deliver on your promises.
If something goes awry and you fail to deliver, you could be held in breach of contract. Depending on the size of your campaign, you could face claims from individual funders or a larger class action suit.
Truth in marketing
Overpromising or failure to deliver can open you to more than just breach of contract claims. You may be subject to false advertising or consumer protection laws or claims for fraud or misrepresentation.
Reducing risk
Not that long ago, few companies could have successfully sold a product before it existed. But now crowdfunding has provided a relatively low risk way to validate your ideas and launch something new.
Here are some tips for using crowdfunding:
- Protect yourself. Before initiating a crowdfunding project, consider forming an LLC or other business entity that offers some personal asset protection.
- Be realistic. Think carefully about the rewards you offer. Be sure you can deliver the promised product.
- Watch your wording. Ensure the word “invest” (and variations thereof) does not appear anywhere in your pitch, unless you are actually engaging in an equity-based crowdfunding project.
- Communicate. If you’re experiencing delays, be transparent with funders. Good communication can head off a lot of problems.
- Plan for taxes. Recognize that proceeds from the campaign are taxable. Include tax planning in your budget and consult an advisor about proper accounting methods.
Crowdfunding can be a successful way to launch a new project. But before you kick off a campaign, understand the legal risks and structure your project appropriately.