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To Be or Not To Be a 501c3 Organization. March 2016 D’Ann Johnson Texas C-BAR. Questions to Consider in Forming a Nonprofit. Questions to Consider in Forming a Nonprofit. Is the organization necessary? Are there competing organizations that are already providing this service?
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To Be or Not To Be a 501c3 Organization March 2016 D’AnnJohnson Texas C-BAR
Questions to Consider in Forming a Nonprofit • Is the organization necessary? • Are there competing organizations that are already providing this service? • What is the primary community that will be served? • Is there a strong commitment from the organizers and participants to build the organization?
Questions to Consider • What are the goals of the organization? • Should we form a separate organization or be a part of another organization? • What form of organization is best? • Will the organization want to engage in political activity? • Will the organization engage in activities that will subject directors to liability?
More Questions to Consider • What are the group’s resources? Volunteers, property, equipment, capacity? • What will the financial needs include? • What type of fundraising will the group do? • Who will handle the reporting obligations? • Is this a long-range project or will the group dissolve after a certain time? • Do you want to hire employees?
What is a Nonprofit? • A nonprofit is an artificial person. • It has a board of directors. • The board has legal responsibilities to manage the affairs of the nonprofit. • A nonprofit can: • Buy and sell • Borrow and lend • Sue and be sued.
True or False. The following are characteristics of a nonprofit: • Limited Liability. • Formal meetings. • Private benefits for officers. • Record-keeping requirements. • Tax-exempt donations. • No profit motive. • Public record disclosure. • Tax-exemptions. • Unlimited political activity.
Advantages of a Nonprofit • Limited liability for board or members. • Income earned in furtherance of exempt purposes is tax free. • Contributions made to organization are tax free. • Life of organization is perpetual. • Qualify for grants. • Lower postal and advertising rates. • Free public service announcements/internet space. • Can enter contracts or borrow money. • Franchise, sales, and property tax exemptions.
Disadvantages of a Nonprofit • Corporate governing documents. • Formal filing of IRS Form 1023. • IRS filing cost of $400-800. • Organized and operated for tax-exempt purposes. • Public disclosure requirements. • Annual reports. • Increased government regulation and more formal procedures.
Other Corporate Options • For-Profit Corporation • Unincorporated Association • Fiscal Sponsorship
Steps to Incorporate • Choose a name and check if it is available with Secretary of State • Draft Cert of Formation and file with SOS • Draft Bylaws • Hold organizational meeting • Obtain Federal EIN • File IRS Form 1023
Choosing a Name • Check the availability of the name with the Secretary of State • The name cannot be deceptively similar to the name of another corporation • Reserve the name or file the Certificate of Formation with the Secretary of State
Texas BUSINESS ORGANIZATIONS CODE • What you need to file Certificate of Formation: • 1 incorporator • 3 directors • 2 officers • 1 registered agent • $25
Certificate of Formation • Certificates are like a birth certificate-a very important document for the organization. • Who will run the organization: directors or members? • Make sure the purposes reflect your mission and include the language necessary for state and federal tax exemptions. • Is the duration of the organization perpetual?
Bylaws-the Rules of the Organization • Provisions for membership • Provisions for governance • Number of Directors • Officers • Provisions for conducting business • Committees • Meetings • Voting • Provisions for amending • Provisions for liability protection
IRS Form 1023 • A nonprofit is not tax-exempt unless it has less than $5,000 a year in income or files Form 1023 and obtains a tax-exemption ruling from the IRS.
What Organizations Qualify for Federal Tax Exemption Under IRC Section 501(c)(3)? • Must be organized and operate exclusively for purposes set forth in Section 501(c)(3) • Charitable • Educational - Religious • Scientific - Testing for public safety • Literary - Prevention of cruelty to children or animals • Amateur sports competition
Charitable Purposes Include: • Relief of poor, distressed or underprivileged; • Lessening neighborhood tensions; • Elimination of prejudice and discrimination; • Lessening the burdens of government; • Defending human and civil rights; and • Combating community deterioration and juvenile delinquency.
Organizations that Failed to Obtain Tax-Exempt Status • An organization whose purpose was to increase business in a deteriorated, minority neighborhood by creating PSAs, a speaker’s bureau, operating a telephone service providing information on shops and transportation
Organizations that Failed to Obtain Tax-Exempt Status • An organization whose purpose was to revive retail sales in an economically declining area by purchasing land for the construction of a retail center. The land was sold to city without any economic benefit to organization; minorities must be used in construction and operation of center, and stores had to employ certain percentage of minorities.
Pointers on Purposes Clauses • Some descriptions may be too restrictive to allow a nonprofit to expand its mission. • If the organization carries on a trade or business for profit, an exemption may be denied even if profits are expended on an exempt purpose. • Income not substantially related to the exempt purpose may be subject to taxation.
The Narrative is Important • Describe the activity in detail • State when the activity will start and how, when, where, and by whom it will be conducted • Identify requirements to receive services • If there is a fee, explain the amount and the basis for it • State goals • Note percentage of time and funds spent on activities
How to Qualify as a Public Charity • Publicly supported organization or • Support test
Publicly Supported Organizations • Broad-based solicitation program • Broad-based support • Representative governing body • Availability of facilities or services to public • Receives funds from: • Government grants (1/3 test) • Corporate contributions • Individual donations
Support Test • Must receive more than 1/3 of total support each year from: • Gifts, grants, contributions, or membership fees; and • Gross receipts from an activity related to the exempt purposes of the organization; and • Cannot receive more than 1/3 of income from unrelated business or investment income.
Two Important IRS Rules • Political activity cannot be a substantial part of the activities of the organization. • Activities must not personally benefit directors, officers, or members.
State and Local Tax Exemptions • Not automatic-you must apply • State sales, excise, and use tax • Hotel occupancy tax • State franchise tax • Local property taxes-for land and office equipment (real and personal property)
Board of Directors & Governance Issues • Separation of board/staff responsibilities • Accountability • D&O/Gen. liability insurance • Key governance issues • The pain-in-the-neck board member • Conflicts of interest
Maintain Corporate Formalities • Record keeping • Financial report • Meetings • Standards of Duty • In good faith, • With ordinary care, and • In the best interest of the nonprofit.
True or False • A nonprofit cannot engage in political activity. • All contributions to a 501c3 are tax-exempt. • All income earned by a nonprofit is tax free. • Nonprofit directors have limited liability.
Political Activity • A nonprofit can engage in some political activity if it is not substantial.
Contributions • Quid pro quo contributions are not tax-exempt.
Income • Unrelated business income is not tax exempt.
Limited Liability • Directors are liable for actions not taken in good faith and in the best interest of the nonprofit, loans to directors, excess benefits, and unpaid federal withholding taxes.
