So you want to start a nonprofit? Many people are inspired to start a charity – whether in honor of a loved one, to benefit an underserved part of the community, or to run parallel to a for-profit business already in place. Whatever your “why,” it’s important to comply with all legal obligations and operate in a manner that successfully carries out your nonprofit’s mission. If you’re creating a charitable organization, hospital, church or school that is primarily supported through public donations and grants and qualifies for federal tax exemption under Code Section 501(c)(3), check out these six things to know when forming a nonprofit.
Forming a nonprofit: pre-planning
Before taking any legal steps in forming a nonprofit, there are a number of non-legal issues to consider:
- Will you be able to build a strong, motivated Board (let alone finding individuals to serve on the Board)?
- Do you have a business plan?
- Is this nonprofit addressing a new need, rather than duplicating the efforts of an already existing nonprofit?
- Will the nonprofit be able to seek donors and funding in an already-crowded nonprofit space?
- Will the community support the nonprofit long-term?
If the answer to some or all of these questions is “no,” it may mean that your philanthropic and altruistic goals may be better served by exploring other options. If you can answer “yes,” it’s time to involve an attorney and accountant who are well-versed in nonprofit issues.
Forming a nonprofit: entity formation
The first step in forming a nonprofit is to form a nonprofit corporation or in some cases, a nonprofit limited liability company. This generally involves:
- filing Articles of Incorporation with the state where the nonprofit will be domiciled
- obtaining an EIN/TIN from the Internal Revenue Service
- preparing important legal documents like Bylaws and incorporation consents
Once Articles of Incorporation are filed with the state, the nonprofit exists. However, unless you move on to the next step, the nonprofit is subject to federal income tax.
Forming a nonprofit: federal tax exemption
Applying for federal income tax exemption is how a nonprofit becomes commonly known as a 501(c)(3). Exemption is obtained by filing an online application with the IRS. The application includes:
- disclosing the nonprofit’s governance documents
- identifying the individuals associated with the nonprofit
- describing the nonprofit’s activities and disclosing additional information about the organization
The application also requires a proposed budget for several years into the future.
Forming a nonprofit: other tax exemptions and registrations
Other tax exemptions are available to certain charitable nonprofits, including exemptions from sales tax, property tax, and business privilege tax. In addition, most states require nonprofits that solicit donations from their residents to register in that state. In today’s world, where donors across the country can be reached with the click of a button, this often means registering in multiple states.
Forming a nonprofit: governance
Once you have a nonprofit that has the appropriate tax exemptions in place, what’s next? Every nonprofit corporation is required to be overseen by a Board of Directors or Board of Trustees, as well as officers who are appointed by the Board. Nonprofits should hold regular meetings where the actions and votes of the Board are documented in meeting minutes, and an annual meeting should be held for the election of Board members and officers.
Forming a nonprofit: operating restrictions
Nonprofits that qualify as 501(c)(3) organizations are highly regulated entities. Strict rules apply to both their activities and their governance. No part of the activities or the net earnings can unfairly benefit any director, officer, or any private individual. Reasonable salaries are permitted, but excess revenue cannot otherwise be distributed to individuals associated with the nonprofit. All of a nonprofit’s assets are permanently dedicated to a charitable purpose.
In the event that a 501(c)(3) organization must cease operations, all assets remaining after debts are paid must be distributed for a charitable purpose. Finally, lobbying and other legislative activity is highly scrutinized and should generally be avoided. Intervention in political campaigns or the endorsement/anti-endorsement of candidates for public office is strictly prohibited.
With a little pre-planning and guidance, an attorney can help make your charitable mission a successful reality. If you have an interest in forming a nonprofit or are seeking legal guidance for an existing organization, please reach out to our Nonprofit Attorneys for help.
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