Oregon State Bar Bulletin MAY 2015
Crowdfunding Your Law Practice
By Amber Hollister & Beverly Michaelis
Crowdfunding is a billion-dollar industry worldwide. You may have read about North Drinkware, the Portland company that met its funding goal in five hours and 15 minutes on Kickstarter, a popular crowdfunding platform (www.kickstarter.com ). North Drinkware initiated a Kickstarter campaign to raise money for “The Oregon Pint,” a handcrafted drinking glass with a three-dimensional model of Mount Hood integrated into the mold. In the first 18 days on Kickstarter, nearly 5,000 backers contributed $455,372 to North Drinkware’s project.1
Crowdfunding is most successful when used to promote a cause or new product idea that captures the public’s imagination. Wikipedia describes it as the practice of funding a project or venture by raising monetary contributions from a large number of people. The crowdfunding model requires three types of actors: the entrepreneur who proposes the idea or project to be funded; individuals or groups who support the idea; and a web-based moderating platform that brings the parties together to launch the idea.
As North Drinkware’s experience illustrates, successful campaigns can quickly raise a significant amount of money. It is easy to understand why a lawyer might be tempted to use crowdfunding to jump-start, expand or reinvent a law practice.
The Ethics of Crowdfunding for Lawyers
Is it permissible for lawyers to crowdfund a law practice through a third-party crowdfunding platform like Kickstarter? The waters are largely untested. No jurisdiction, including Oregon, has published an ethics opinion or other formal guidance on the propriety of crowdfunding. As with all legal applications of new technologies, the ethics law can be slow to catch up with modern-day practice. Nevertheless, a preliminary look at crowdfunding suggests that it is not per se prohibited by the Oregon Rules of Professional Conduct. As with any novel approach to practicing law, whether crowdfunding is permissible depends on the type of funding model used by the lawyer and the specifics of how the lawyer implements the fund-raising campaign.2 Wise lawyers will proceed with extreme caution.
Equity vs. Donation-Based Funding
There are two types of crowdfunding models: equity-based (or investment-based) and donation-based. Equity-based crowdfunding requires the entrepreneur to pay investors a financial return through the purchase of equity, debt or revenue-based securities. A lawyer’s use of equity-based crowdfunding to fund a law practice implicates Oregon RPC 5.4(a)’s prohibition on fee sharing with nonlawyers and the RPC 5.4(d) prohibition on nonlawyer ownership of a law firm. For this reason, equity-based crowdfunding of a law firm is not allowed.
Donation-based crowdfunding appears to avoid that particular problem. Assuming donations are made with no agreement for any return payment or other quid pro quo, it is unlikely that the lawyer’s professional judgment would be limited by the arrangement. See Comment(1) to ABA Model Rule 5.4. (“These limitations are to protect the lawyer’s professional independence of judgment. Where someone other than the client pays the lawyer’s fee or salary, or recommends employment of the lawyer, that arrangement does not modify the lawyer’s obligation to the client.”) Similarly, with donation-based crowdfunding there is no chance for nonlawyer ownership of the law firm.
Does this mean Oregon lawyers can pursue a donation-based crowdfunding campaign without constraint? Not necessarily.
Perks and Rewards for Donors
Most donation-based crowdfunding campaigns come with strings attached. Entrepreneurs pre-sell a product or service to launch a business concept. The pre-sold products or services are promoted on crowdfunding platforms as “perks” or “rewards” for donors.
Perks that are informational in nature (e.g., a newsletter on the overall state of the lawyer’s business or goals to provide legal services) are unlikely to implicate any ethics rule as long as they do not disclose client confidences. Oregon RPC 1.6(a). However, if a lawyer wants to give a perk or reward that has value (e.g., a gift card or a sports ticket), the lawyer should consider whether the perk might amount to fee sharing with a nonlawyer. RPC 5.4(a). In particular, lawyers should be wary of linking the value of the perk or reward to the amount of business generated by the law firm.3
Often donors have the option to promote crowdfunding drives through social media or other platforms. Lawyers should keep in mind they may not reward any donor for recommending their firm or legal services. Oregon RPC 7.2(b) (lawyers are prohibited from giving “anything of value to a person for recommending the lawyer’s services”); see OSB Legal Ethics Ops 2005-73 and 2005-35. This means lawyers should not offer extra bonuses or perks for promotion by their boosters. There is no acknowledged de minimis exception to this rule in Oregon.
Moreover, if a lawyer offers a perk or reward for a particular level of donation he or she has zero plan to deliver, Oregon RPC 8.4 would likely be implicated. Under Oregon RPC 8.4 it is professional misconduct for a lawyer to knowingly “engage in conduct involving dishonesty, fraud, deceit or misrepresentation that reflects adversely on the lawyer’s fitness to practice law.” Lawyers may not mislead donors or others about the perks or rewards offered. Oregon RPC 4.1; 7.1.
Trust Accounts and Third-Party Payment
Crowdfunding campaigns may also raise significant trust accounting issues. Lawyers are required to hold property of clients or third persons in a lawyer trust account separate from the lawyer’s own property. RPC 1.15-1(a). Conversely, lawyers may only deposit funds in their business accounts when they have earned them. Lawyers running a crowdfunding campaign must consider whether they are immediately entitled to donations made or if the donations remain property of a third person. A lawyer’s promise to complete a task, provide a service or meet a fundraising goal before accepting payment would likely trigger a requirement to place donated funds in a lawyer trust account. RPC 1.15-1.
Finally, a lawyer who is considering using donation-based crowdfunding to pay for fees and costs associated with a particular client or case — as opposed to funding the firm’s mission at large — should be aware of the third-party payment requirements of Oregon RPC 1.8(f). Under Oregon RPC 1.8(f), lawyers are required to obtain a client’s informed consent prior to accepting third party payment. They must also ensure that their professional judgment is not limited by the third party payment and that they maintain all client confidences as required by Oregon RPC 1.6. See also RPC 5.4(c) (lawyer must not allow a person who pays a lawyer to render legal services for another to direct the representation).
Crowdfunding platforms are not free to the entrepreneur. In addition to collecting payment processing fees, these companies receive a percentage of the funds raised if a campaign is successful. (If a campaign is not successful, the entrepreneur may owe a reduced fee — the terms vary from platform to platform.)
As long as crowdfunding fees are reasonably designed to reimburse the hosting companies for advertising and administrative services provided to the lawyer and are not based on any legal work performed by the lawyer, they would be permissible. Oregon RPC 7.2(a) provides that a lawyer “may pay the cost of advertisements permitted by these rules and may hire employees or independent contractors to assist as consultants or advisors in marketing a lawyer’s or law firm’s services.” See also OSB Legal Ethics Op No 2007-180 (attorney who pays a fixed periodic fee to participate in a nationwide Internet-based attorney referral service, or a fee based on the number of hits on the attorney’s website, unrelated to particular work derived from the hits, is not engaged in an improper fee-sharing arrangement with a non-attorney).
Content and Promotion of a Crowdfunding Campaign
To raise money, crowdfunding campaigns appeal to donors by making representations about the product or service the entrepreneur is seeking to promote. Oregon RPC 7.1 provides: “A lawyer shall not make a false or misleading communication about the lawyer or the lawyer’s services. A communication is false or misleading if it contains a material misrepresentation of fact or law, or omits a fact necessary to make the statement considered as a whole not materially misleading.”
Therefore, lawyers are responsible for ensuring that representations made about their services on a crowdfunding platform are accurate and complete. Minimally, this includes disclosing where the lawyer is admitted to practice law, since crowdfunding websites can be accessed anywhere in the world by potential clients or donors. Promotional activity (including use of social media accounts to attract donors) must also comply with Oregon RPC 7.1.
If a crowdfunding site includes language that could be construed as an advertisement for the lawyer, the site must comply with Oregon Rule 7.2(c) by including the name and office address of at least one lawyer or law firm responsible for its content.
Disclaimers Lend Clarity
Lawyers who pursue donation-based crowdfunding should consider adding appropriate disclaimers to their web-based appeal. For instance, a lawyer might include a warning to clients that by making a donation, they do not establish any attorney-client relationship or enter into any contract to receive legal representation. Lawyers should also explain that a donation does not entitle the donor to any capital, equity or similar ownership interest in any entity formed using donations.
An additional disclaimer may be appropriate if clarification is needed regarding the perks or rewards offered by the lawyer in exchange for a donation.
Are Crowdfunding Donations Taxable Income?
Lawyers who raise money via crowdfunding — or are considering doing so — would be well advised to consult with a CPA or tax lawyer about the tax consequences. The IRS does not provide explicit instructions on reporting donations. Crowdfunding platforms avoid the issue by using third-party services to collect money. Third-party services are only required to issue a 1099 to the IRS and the recipient of the money if that person or company raised at least $20,000 and received 200 or more transactions in a year.
However, failure to meet the IRS threshold does not mean that donations are tax free and non-reportable. Money raised through crowdfunding is likely to be regarded as taxable income by the IRS and the Oregon Department of Revenue.4 Lawyers who evade tax obligations may face disciplinary consequences. RPC 8.4(a)(2).
If you are tempted to start a crowdfunding campaign, take your time and investigate the process. In addition to meeting your ethical obligations as outlined above, talk to a CPA or tax lawyer. Become familiar with crowdfunding platforms, and read up on third-party payment processing guidelines.
The bar cannot provide wholesale approval of any crowdfunding platform. After all, terms of service and site design are constantly in flux. When venturing into uncharted technological territory, early adoptors must exercise their own professional judgment on a case-by-case basis to ensure that they are complying with their professional obligations.
2. Whether a lawyer may ethically host her own crowdfunding website is beyond the scope of this article.
3. Offering a free consultation or legal services as a perk would raise additional red flags. As a starting point, lawyers would be unable to run any conflicts check prior to agreeing to providing services, as is required by our rules. In addition, there would be a question of whether the donation could be deemed a retainer for legal services for purposes of trust account rules. RPC 1.15-1(a). For more information about offering legal services online see the May 2011 Bar Counsel article, “What Hath the Web Wrought? Advertising in the Internet Age,”www.osbar.org/publications/bulletin/11may/barcounsel.html.
4. Julianne Pepitone, “Raised Money on Kickstarter? Time to Pay Uncle Sam,” NBC News(www.nbcnews.com/tech/innovation/raised-money-kickstarter-time-pay-uncle-sam-n51236).
ABOUT THE AUTHOR
Amber Hollister is deputy general counsel for the Oregon State Bar. She can be reached at (503) 620-0222, or toll-free (800) 452-8260, ext. 312, or by email at firstname.lastname@example.org . Beverly Michaelis is a practice management adviser with the OSB Professional Liability Fund. She blogs at http:// oregonlawpracticemanagement.com and can be reached at (503) 639-6911 or toll-free at (800) 452-1639, ext. 415, or by email, email@example.com .
© 2015 Amber Hollister & Beverly Michaelis