Legally Speaking, It Depends – Crowdfunding Legal and Business Issues

Following the great suggestions made by many of the columnists here, you may be considering writing and producing your own short or feature. Even calling on every favor and friend you have, there will likely still be a need for extra funding to complete the project. Many approaches are available to fill those gaps. One that has great potential and might look attractive to your needs is crowdfunding some or all of your budget.

crowdfundingThough it can be a successful route, there are many potential pitfalls, legal caveats and business issues of which you should be aware before they unpleasantly surprise you and derail your production dreams.

Seemingly the current rave with everyone you know dabbling in it, crowdfunding is still an incredibly new phenomena, still figuring itself out, morphing, experimenting (and failing sometimes). Even the old man in the game, Kickstarter has only recently celebrated its fifth anniversary.

Which Flavor of Crowdfunding is Your Favorite?

There are lots of different approaches to crowdfunding, with lots of different organizations serving those approaches with more coming (and going) all the time. It’s enough to start your head spinning and keep it spinning.

Types of Crowdfunding:

Charity based (e.g. fund drives for public broadcasting) – The main goal of the funding is to support the charity. The product or gifts are an afterthought or extra and are not reflected in the money being donated. These crowdfunding approaches are usually only available for not-for-profit fundraising and are unlikely to be available to general filmmakers.

Donation based – The funds are secondarily going to support the project. There has to be an exchange of something of actual worth for the money donated. The premium prices for the goods are an acceptable overcharging to allow the funded to take their profit and succeed in their goals. If the price to object ratio is too far in either direction there are problems. (Even though Kickstarter hates to be referred to as such, it is more like a high priced store than any other analogy.)

Equity based – The funds are primarily going to “own” the project. “A piece of the action” is what’s on the block. There are no or incidental premiums offered. This is a security relationship and therefore a government regulated one. This type of crowdsourcing needs to be managed according to the regulatory body that governs that investment mechanism. Differentiated from the much stricter and more regulated equity financing in general, equity crowdfunding is just about to become available in the United States as part of the CROWDFUND Act recently passed and signed into law. Once implemented a much broader swath of potential investors will be available. Similar schemes are offered as a funding source in some other countries though the concept is still new enough that those few that offer it are still figuring out the kinks.

Even between these broad approaches there are specialists and generalists, all or nothing or cumulative cash, curated or all comers, value added or one offs. Head still spinning?

Crowdfund Source Varieties

In an attempt to slow that spin down a bit, we’ll compare different flavors of crowdfunding approaches and evaluate their merits for the filmmaker.

Generalists and Specialists – Some crowdfunding sources take nearly all types of projects, under broad categories of interests. These Generalists can benefit filmmakers to a degree in having a higher volume of visitors making it easier to be seen and providing more familiarity and confidence with the public making contributing to projects feel less risky. On the other hand it is easy to get lost in the crowd with a lot of options around you. This is where the Specialists can offer a more focused and thematically similar offerings for the prospective public funder. A crowdfunding site that specializes in filmmakers’ projects will be appealing because everyone there will be interested in filmmaking. But being in a crowd where everyone looks alike with similar projects can be just as difficult for the individual project to stand out. And specialist sites have much less traffic so it will be up to the filmmaker to bring the potential audience to the site and convince them it is a safe place to put their money in order to help your project.

All or Nothing vs. Cumulative Cash – Many of the most popular crowdsourcing sites offer an All or Nothing approach. That’s where you have to reach or exceed your financing goal in the time alotted or else you don’t get any funding. The risk is that you may put in a considerable effort during the campaign trying to reach your funding goal and in the end have nothing to show for it. If you find you haven’t reached the goal you needed to pursue the project, you know that you need to rethink before you’ve committed to moving forward. A reset is not always a bad thing. And the All or Nothing approach has a built in excitement for the funders, “will they make it?” that is somewhat lacking with the alternatives.

Comparatively, some sites offer a Cumulative Cash approach which, for a usually higher percentage fee, allows the filmmaker to take all the money pledged during the crowdfunding campaign. This might be attractive to a filmmaker because they at least get something for all the effort put forth. But this approach must be done with care. It would be easy to get caught offering a reasonable perk if fully funded (like a DVD copy of the project) that would be financially difficult or impossible to deliver if you don’t take in enough money to actually produce the project.

Curated or All Comers – Some sites are Curated meaning they evaluate each proposed project to see if it lives up to a criteria set up by the crowdfund organizers. Someone judging whether you are worthy may be daunting but it serves many goals. It makes sure that the selected campaigns are all of sufficient caliber and have certain criteria in common. It also looks to the public that the projects have already been vetted and so there is less of an appearance of taking a risk on a “stranger out of the blue”. Those sites that take All Comers or have very low criteria in evaluating projects leave it to the project leaders themselves to prove their legitimacy and trustworthiness to prospective funders. Not to say that scoundrels don’t seep through the cracks of both systems regardless of how well protected.

Value Added or One Offs – One other variation amongst crowdfunding sites is those that provide a Value Added experience. That is they not only offer the crowdfunding service but also offer some additional services that make it a one stop shop for the needs of the project. These can be additional options for fulfillment services (necessary in every successful crowdfunded campaign, especially the large ones) or for filmmaker specialist crowdfunders some offer opportunity of marketing and distribution options to successful campaigns. As opposed to the One Off crowdfunders, who leave you to your own devices once the campaign funds are distributed, it might be attractive to have the option for additional services from the same resource.

Watch Your Step

Each type of crowdfunding has particular issues that can be troublesome to the unwary. Many of the issues are shared to some degree amongst the other types, but, their prevalence can vary and some are particular to a specific type. For instance, in the rare event where a filmmaker might find him or herself using charity based crowdfunding, there is the predominant issue of abiding by all the rules and requirements of not-for-profit related ventures.

Donation Pitfalls

Fulfillment issues – Make sure that what is promised can be timely and accurately delivered. Because the donation model is particularly tied to the exchange for something of value it is important that the delivery be as expected by the donor. And the costs of the actual fulfillment of those promises is one that should be accounted for in the calculations of the goal to raise. Failure to fulfill those promises can have grave consequences.

Cumulative cash issues – Whatever level of funds raised in a cumulative arrangement needs to be able to fulfill those perks promised. Aside from not promising something that cannot be delivered without full funding, planning must accommodate all funding level possibilities. For example, economics of scale cannot be counted on to lower production costs if there are too few orders to fill. Pricing and scheduling must account for these possibilities.

You are responsible – Most sites used for crowdfunding are essentially conduits and are treated as such by the law. Fail to deliver on promises and it is you that will be held accountable. The state of Washington recently filed a class action suit against a “successful” crowdfunding campaigner that failed to deliver the promised goods.

The super successful failure – Plan for success beyond your wildest dreams as well. There are too numerous examples of hugely successful campaigns that raised so much more than their goals that the fulfillment issues and costs involved in production of the promised goods ate up an unanticipated and significant portion of the money raised. Have a plan that accommodates the added complications and costs that can come with being too successful.

Taxes and money issues – One element often overlooked is the fact that all this income is actually that, income. It is taxable and you have to abide by the laws, filing criteria and rules accordingly. Figure the tax issues in your calculations. And realize that there will be delay between the end of the successful campaign and the delivery of the collected funds. Take that delay as well as the fact that some payments may never materialize into account.

Equity Pitfalls

Though equity crowdfunding has yet to become a reality in the United States, there are pitfalls that can be anticipated and planned for.

Bookkeeping – In equity crowdfunding your contributors are actual stockholders with actual expectations regarding their investments in your project. Record keeping and reporting are going to be high priorities in these situations as well as abiding by all government imposed regulations.

Technically it is their movie – These contributors own a piece of the film. Because of that they have rights and you have obligations to them that do not exist between you and contributors to donation based crowdfunders.

Limitations – The current US rules to be implemented have limitations as to who can contribute and how much. Though broader than traditional equity investment schemes, it is not open to everyone. Also, there is a current project cap of only $1 Million per year. It is likely for filmmakers that other sources of funds will be needed. Be clear about how the relations between all these different funding sources are to be handled.

General Notes

Every good campaign required dedicated effort by those involved. You are prepared to run a small army when you get into production for your film. You are likely going to have to do the same thing to be able to run a successful crowdfunding campaign.

Have plans for each possible outcome. Know what you’ll do if you don’t succeed. Know what you’ll do if you reach your goal. Know what you’ll do if you hit astronomical numbers. That way you’ll know which playbook to refer to as the campaign progresses and you won’t be playing catch up.

What to do if the campaign doesn’t succeed?

Learn from it. Grow from it. If you decide to try it again, take strides to better your results by studying how others’ successful campaigns differed from yours. But also be honest with yourself. It might not be your time yet.

Head still spinning?

It is a lot to take in and things are changing all the time. But it is possible to prepare a campaign that takes all the issues into account and has a good shot at success. Observe and learn from those that have come before. Ask questions. Prepare properly. You’ll be able to spot the ones that are doing things right and emulate them. Maybe yours will be the next big breakout. Let’s hope you’ve prepared for any eventuality.

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