October 8

What You Should Know About Rewards-Based Crowdfunding

The web has revolutionized business operations in numerous ways: email, social-media marketing, and online job recruiting are just a few of the biggies. But another innovation is dramatically enhancing your ability to obtain business financing via online crowdfunding.

Whether it’s equity crowdfunding, rewards crowdfunding, donation crowdfunding, or lending crowdfunding, these methods allow you to solicit financing for your projects via the web from people all around the world.

The most common way to finance small-business operations is through rewards-based crowdfunding. Popular rewards crowdfunding platforms like GoFundMe, Indiegogo, and Kickstarter offer a quick and easy way to acquire financing for a fledgling venture, especially if you don’t qualify for traditional business loans. 

How does it work?

Simply describe your project on a crowdfunding platform and set a fundraising goal needed to get the venture off the ground. People interested in supporting your idea can then contribute relatively small amounts of money via the platform.

In return, if your fundraising goal is met, you promise to provide contributors with a reward—typically a product, service, or incentive of some type. The value of the reward is usually based on the amount contributed, and most campaigns offer multiple reward tiers that increase in value depending on the amount pledged.

For example, let’s say you’re designing a new solar-powered smartphone charger. For those who pledge $100, you offer a coupon worth 50% off the price of the charger. For those who pledge $500, you offer to send them a free charger. And for those who pledge $1,000, you offer to send them three free chargers, with a lifetime service warranty.

However, the rewards don’t have to be that substantial. Some businesses simply offer a hand-written thank-you note in return for a small pledge. There’s no requirement on how much or how little your reward has to be.

One important caveat: if your fundraising goal is not met by the deadline, you must return all of the funds.

What kid of business ventures work best?

Rewards crowdfunding typically works best for client-facing businesses that produce tangible products. They’re particularly beneficial for startups that want to test the market and incentivize backers without incurring a major expense or giving up control by selling an ownership stake in the company.

Rewards crowdfunding often works well with relatively simple business ideas. If it’s difficult to quickly explain the value of your project in layman’s terms, you might want to pursue another financing option.

Most rewards campaigns seek less than $100,000 and generally last between 1-3 months.

How much does it cost?

In exchange for using their platform, crowdfunding sites usually keep around 5% of the funds raised. But with some platforms, those fees can be as high as 13%. The platform’s payment processor may also take an additional cut—generally around 3%—for processing the transactions.

Are there any risks involved?

As with all financing opportunities, crowdfunding comes with some potential risks. For example, if you promise a product, reach your goal, and fail to deliver, you could face a breach of contract claim.

We’ll devote a future article on the legal and tax issues involved with crowdfunding, but for now, if you’re interested in learning more about the risks and rewards involved, contact us today.

We offer a complete spectrum of legal services for businesses and can help you make the wisest choices on how to deal with your business throughout life and in the event of your death. We also offer a LIFT Start-Up Session™ or a LIFT Audit for an ongoing business, which includes a review of all the legal, financial, and tax systems you need for your business. Call us today to schedule. Or, schedule online.

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