Non-Profit Organization Types and Common Issues
The author has seen a lot of the pitfalls in operating nonprofits and developed some ways to ensure things run smoothly. Following is a quick reference for non-profits.
What is a nonprofit organization?
As a starting point, it helps to clarify what a nonprofit organization actually is. Many people confuse the terms “charity” and “foundation” for “nonprofit.” While charities and foundations are specific types of nonprofit organizations, an entire world of other nonprofit organizations exists outside of these limited structures.
Somewhat counter intuitively, nonprofit corporations can make a profit but are restricted in how they can distribute the money they make. Forming a nonprofit corporation does not necessarily mean the organization is tax exempt. Only after meeting the requirements of the federal tax code and applying for exemption will the IRS recognize a nonprofit as tax exempt.
When we talk with potential clients about setting up a nonprofit organization, there is often some initial confusion over how to “pick” a type of nonprofit. This likely stems from a misunderstanding on how nonprofit law works. The most basic misunderstanding is that the client doesn’t get to “pick” a type of nonprofit to fit into; the nonprofit type picks you. Based on the type of operations you want to run, you’re either a nonprofit organization or you’re not. If you are, then your operations will dictate the category of your nonprofit exemption under the IRS Code. Rarely will one idea fit entirely into more than one category organization, but sometimes you should split your intended operation into two or more organizations in order to accomplish all of your goals.
Below you can find a very brief description of some of the most common types of nonprofit organizations.
Types of Nonprofit Organizations
This is the designation people think of most often when they talk about nonprofit organizations and refers to the particular section of the Internal Revenue Code which authorizes these public charities. 501(c)(3) organizations include churches, the Red Cross, local food banks, and the like. One significant advantage of a 501(c)(3) organization over other types of non-profits is that donations to such organizations are tax-deductible. In many instances, this makes qualifying organizations more attractive targets for donations. However, along with this advantage comes strict regulation of the activities and operations of 501(c)(3) organizations. A failure to abide by all such laws and regulations jeopardizes the organization’s 501(c)(3) status, and in some cases, its nonprofit status altogether.
To qualify as a 501(c)(3)-type organization, you must be “organized and operated exclusively for religious, charitable, scientific, testing for public safety, literary, or educational purposes, or to foster national or international amateur sports competition . . ., or for the prevention of cruelty to children and animals.” IRC 501(c)(3). Additionally, no part of the net earnings may inure to the benefit of any private shareholder or individual. Id. Finally, no substantial part of the activities of the organization may be the carrying on of propaganda or otherwise influencing legislation, and the organization may not participate in or intervene in any political campaign on behalf of or in opposition to any candidate for public office. Id.
There are many other factors to consider depending on the type of activities for the organization, but these are the basics. The most important thing is to make sure that you are setting this organization up correctly from the beginning, and that you have quality legal advice to guide your organization’s operations.
501(c)(4) Social Welfare Organizations
Unlike with 501(c)(3) organizations, donations to 501(c)(4)s are not tax deductible except for in very rare cases when they are deductible as trade or business expenses. 501(c)(4) organizations are “civic leagues” that are organized for the purposes of “social welfare;” meaning the common good or general welfare of a community. Common examples of 501(c)(4) organizations are home owners’ associations, veterans’ organizations, and organizations that advocate publicly for a specific ideology or set of ideas. Such organizations may engage in unlimited amounts of lobbying for legislation as long as such engagement relates to the exempt purpose. They may also participate in political campaigns and elections as long as the organization’s primary activity remains the promotion of social welfare. One advantage of a 501(c)(4) organization over other political organization is that 501(c)(4)s do not have to disclose their donors at the federal level.
501(c)(6) Business Leagues
Business leagues, chambers of commerce, real-estate boards, boards of trade, and professional football leagues are all examples of 501(c)(6) organizations. Many industry trade groups are organized as a 501(c)(6) organization to pool money for more effective use. Like, a 501(c)(4), a 501(c)(6) may engage in unlimited amounts of lobbying for legislation as long as such engagement relates to the organization’s exempt purpose. They can participate in political campaigns and elections as long as the organization’s primary activity remains the promotion of social welfare.
There are really too many different types of political organizations to discuss here. The bottom line is: if you want to talk about candidates, political parties, ballot initiatives, specific pieces of legislation, or lobbying work, then you should consider establishing a political organization. Some organizations are allowed to donate directly to candidates, while others are forbidden from coordinating with candidates altogether. Many political organizations stand on their own, while others complete a web of nonprofit organizations designed to advance multiple goals. Whatever type of political organization fits your needs best, it’s likely that intricate reporting requirements and operational tests will apply; these are often strictly enforced and should not be ignored. However, with this strict oversight comes the ability to engage in a much wider array of activities than other types of nonprofits.
Many 501(c)(4) and (c)(6) nonprofit organizations have counterpart political organizations that allow them to expressly advocate for or against candidates or even to corral donations for a candidate’s campaign. While dealing with a stand-alone political organization can sometimes be tricky, operating a suite of complementary organizations is often near impossible without expert legal and accounting advice; however, it may be what’s required to achieve your goals.
Nonprofits play a vital role in modern society. They serve the needy, educate the public, and take on important issues. Running a nonprofit isn’t easy, but with the right help it can be rewarding and effective. The key is to make sure that your organization is setup correctly from the very beginning and that you have experienced legal and accounting professionals on call to help guide your organization through the bureaucratic labyrinth.
ABOUT THE AUTHOR: Zakhem Law LLC
Zakhem Law, LLC represents all types of nonprofit organizations from churches to soccer clubs, trade groups to hard-hitting political operations. We can help get your nonprofit up and running from the initial stages of incorporation, applying for federal tax exemption and assisting in your ongoing operations and governance. We’ve seen a lot of the pitfalls in operating nonprofits and developed some ways to ensure things run smoothly.
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Disclaimer: While every effort has been made to ensure the accuracy of this publication, it is not intended to provide legal advice as individual situations will differ and should be discussed with an expert and/or lawyer. For specific technical or legal advice on the information provided and related topics, please contact the author.