Political Activities of Section 501(c)(3) Organizations
When dealing with Section 501(c)(3) organizations and the issue of political activities, the Internal Revenue Code (the “Code”) separates political activities into two separate components: attempts to promote or defeat a candidate for public office; and attempts to influence legislative acts.
Absolute Prohibition - Political Campaign Activities
Section 501(c)(3) tax-exempt organizations are prohibited from participating in, or intervening in (including the publishing or distributing of statements), any political campaign on behalf of or in opposition to any candidate for public office. The prohibition of political campaign activities is absolute.
Whether an organization violates the ban on political intervention depends on all the facts and circumstances of each case. The Internal Revenue Service (the “IRS” or “Service”) has broad discretion to determine whether violations have occurred and, if so, what penalties to apply. Violations of the ban on political activity can result in serious consequences including the revocation of an organization’s tax exempt status or the imposition of an excise tax.
“Candidate for public office” is described in regulations as “an individual who offers himself, or is proposed by others, as a contestant for an elective public office, whether such office be national State, or local.” “Candidate” does not include a person who seeks an appointive office, and the IRS has ruled that a person nominated for the federal judiciary is not made a candidate by virtue of Senate confirmation hearings.
“Campaign” is not explicitly defined in law or regulations. However, there are generally two possible interpretations of the term “campaign.” First, the term can be defined as a fixed period of time beginning with the formal initiation of a campaign and culminating on the election of a person. Second, the term can be defined with reference to the activities of a candidate, which means that even activities conducted prior to the beginning of a formal campaign would be included. The IRS has shown some support for the fixed period of time definition in a private letter ruling.
The following activities are examples of impermissible political activities and, accordingly, should be avoided completely:
Making direct or indirect contributions to a PAC or a candidate’s campaign committee (even if otherwise permitted under applicable election laws);
Reimbursing employees or executives, directly or indirectly, for their contributions to a candidate or their PAC;
Endorsing or opposing, directly or indirectly, a candidate for public office;
Purchasing tickets to political fundraisers or reimbursing employees for their attendance at political fundraisers;
Transferring or loaning funds to another entity, either related or unrelated, then having the entity make a political contribution;
Providing non-financial support to a candidate or their PAC;
Providing space, sponsoring an event or permitting a Section 501(c)(3) organizations ’s name to be used to solicit contributions;
Providing use of a mailing list to a candidate; and
Rating candidates for public office.
The following activities are permissible activities:
Conducting programs to educate voters on issues;
Get-out-the-vote efforts;
Inviting candidates to speak at events;
Providing or participating in candidate forums; and
Voter registration drives.
Permissible Activities - Limited Lobbying Efforts
Section 501(c)(3) provides that “no substantial part of the activities” of an exempt organization may be devoted to “carrying on propaganda, or otherwise attempting, to influence legislation.” This is not an outright prohibition on influencing legislation. Rather, no “substantial part” of an organization’s activities can be devoted to influencing legislation.
“Legislation” includes “action by Congress, by any State legislature, by any local council or similar governing body, or by the public in a referendum, initiative, constitutional amendment, or similar procedure.” An organization will be treated as attempting to influence legislation if it “(a) contacts, or urges the public to contact, members of a legislative body for the purpose of proposing, supporting, or opposing legislation; or (b) advocates the adoption or rejection of legislation.”
The Code provides two regimes to determine whether lobbying activities are being conducted on an insubstantial basis. The organization may seek protection under: (i) the facts and circumstances test, or (ii) Section 501(h).
Facts and Circumstances Test:
In determining whether the lobbying activities are conducted on an insubstantial basis, the Service will review all of the relevant facts and circumstances. For purposes of the facts and circumstances test, the term “lobbying” includes “attempting to influence legislation by propaganda or otherwise” and “proposing, supporting, or opposing legislation.”
“Substantial part” is not defined in law or regulations. Thus, it is unclear whether “substantial part” is measured by level of activity (such as time spent) or simply upon expenditures. The test is purely based on facts and circumstances. This creates a very risky environment for the tax-exempt organization because the IRS has broad discretion to revoke an organization’s exempt status for any lobbying expenditures it deems to be substantial.
Section 501(h) Test:
Section 501(h) provides a bright-line expenditures test for eligible electing organizations. Under this test, the actual amount of an organization’s charitable expenditures are measured against its lobbying expenditures to determine whether its lobbying expenditures are “substantial.” The election is made by filing Form 5768, and it is made effective from the beginning of the taxable year in which the election is made. In addition, an organization may later voluntarily revoke the election.
Organizations which are eligible to make the election are:
Educational institutions described in Section 170(b)(1)(A)(ii);
Hospitals and medical research organizations described in Section 170(b)(1)(A)(iii);
Organizations supporting government schools described in Section 170(b)(1)(A)(iv);
Organizations publicly supported by charitable contributions within the meaning of Section 170(b)(1)(A)(vi);
Organizations publicly supported by fee income within the meaning of Section 509(a)(2); and
Certain Section 509(a)(3) supporting organizations.
Excluded from the list of eligible organizations are churches and private foundations.
Section 501(h) limits lobbying expenditures to the lesser of $1,000,000 or the amount determined from the following table:
Lobbying expenditures in excess of the limits set forth above are called “excess lobbying expenditures.” A 25% excise tax is imposed on excess lobbying expenditures in any year. A total loss of exemption results if an organization “normally” spends more than 150% of the permissible amounts.
“Lobbying” for purposes of Section 501(h) includes (i) direct lobbying and (ii) grass roots lobbying.
Direct lobbying refers to attempts to influence a legislative body through communication with a member or employee of a legislative body, or with a government official who participates in formulating legislation.
Grass roots lobbying refers to attempts to influence legislation by attempting to affect the opinion of the public with respect to the legislation and encouraging the audience to take action with respect to the legislation. Grass roots lobbying occurs when the public is encouraged to contact legislators and contact information is provided.
In either direct lobbying or grass roots lobbying, the communication must refer to and reflect a view on the legislation. The following activities are exempt from the definition of lobbying:
Technical Advice: If requested in writing by a legislative body for technical advice on pending legislation, the 501(c)(3) is not lobbying when it responds to such request.
Self-Defense Activity: Contacting legislators on matters that may affect the 501(c)(3)’s existence, tax-exempt status, or similar matters is not considered lobbying.
Executive Branch Lobbying: Contacts with executive branch employees or legislators in support or of opposition to proposed regulations are not considered lobbying.
Member Communications: A 501(c)(3)’s communications to its members on legislation is not lobbying so long as the nonprofit does not encourage its members to lobby.
Nonpartisan Analysis: A 501(c)(3) has not engaged in lobbying if it makes results of nonpartisan analysis, study or research available that sufficiently present a full and fair exposition of the relevant facts to enable a reader to form an independent opinion.
Broad Issues: A 501(c)(3)’s discussion of broad social, economic and similar policy issues that require legislation is not lobbying if the merits of the legislation are not addressed.
Many organizations shy away from the 501(h) test in fear that it will increase their audit risk, when in actuality, the opposite is true. The Service generally looks favorably at the Section 501(h) test as opposed to the squishy “facts and circumstances” test.
Penalties
Tax on Political Campaign Activities:
A Section 501(c)(3) organization that engages in political campaign activity will risk exposure to monetary sanctions or exempt status revocation. Section 4955 authorizes the Service to levy a tax on any “political expenditure” by a Section 501(c)(3) organization. A “political expenditure” is a payment or promise to pay money to influence the selection, nomination or appointment of anyone to public office.
The initial tax on the organization is 10% of the political expenditure. There is also a 2.5% tax on managers who know that the expenditure was improper. If the expenditure is not corrected, there is an additional tax equal to 100% of the amount of the expenditure. Correction means recovery of the expenditure, if possible, and implementation of procedures to prevent recurrence.
In the case of flagrant violations of the prohibition against political expenditures, Section 6852 authorizes the Service to make “termination assessments.” Such an assessment results in the tax payable by the organization or any manager under Section 4955 of the Code. Section 7409 also authorizes, upon recommendation from the IRS Commissioner, a civil action to be brought in the name of the United States to seek an injunction to prevent flagrant political expenditures by Section 501(c)(3) organizations. Fortunately, the Service in general uses these draconian remedies sparingly.
Tax on Disqualifying Lobbying Expenditures:
Section 4912 imposes a tax on disqualifying lobbying expenditures when an organization loses its exemption under Section 501(c)(3) as a result of excess lobbying expenditures. The rate of tax is 5% of the expenditures. A separate tax of 5% is imposed on an organization manager where that manager knew such expenditures would likely result in disqualification of the organization’s exempt status. This separate tax on the manager does not apply if an election under Section 501(h) is in effect.
Non-Profit Board Best Practices
Nonprofit and tax-exempt organizations are under scrutiny like never before. At the federal level, the Internal Revenue Service (the “IRS”) has demonstrated a strong interest in good governance practices and in compliance with tax laws and regulations. At the state level, secretaries of state, through their responsibility to oversee charitable organizations, are concentrating a significant amount of energy on enforcing compliance statutes to ensure transparency and consumer protection.
Boards of directors of nonprofit corporations do not want any distraction from the achievement of their organization’s mission. Therefore, they too are setting higher standards for governance and financial practices. The responsibility for meeting the heightened expectations of today’s increasingly stringent climate falls directly on the organization’s board of directors and senior leadership. The following will summarize nonprofit corporate governance “best practices” that nonprofit corporations should consider when setting up its board of directors and after it begins its operations.
Best Practices
Independent Directors
A substantial majority of the members of the board of directors should be independent of the organization’s senior executive officers, both in fact and appearance. In implementing this recommendation, organizations that maintain an executive committee of the board of directors should not constitute the membership of the committee and confer authority upon it so as to evade the substance of this recommendation.
Duties of Directors
Duty of Care
The duty of care requires the director to be informed regarding the affairs of the organization and to exercise the care that a prudent person in his or her position would exercise, and to do so in a manner that the director reasonably believes to be in the best interest of the organization.
To fulfill his or her duty of care, at a minimum, a director should: (i) regularly attend meetings of the board of directors; (ii) be informed about the affairs and finances of the organization; and (iii) exercise his or her independent judgment with respect to issues under consideration.
Directors frequently rely upon staff members to provide information regarding the affairs and finances of the organization. In general, a director may rely upon information supplied by staff members, the organization’s legal counsel, public accountants or board committees, unless the director is aware that such information is not accurate or has other reason to believe that the information may not be reliable. If, however, sufficient information is not supplied, it is the director’s duty to request additional information. The director should read written information that is provided.
Although the director may rely upon information provided by staff, he or she should exercise independent judgment and should not hesitate to take a position differing from that of the staff should he or she believe that to be appropriate.
Duty of Loyalty
The duty of loyalty requires a director to exercise his or her duties in a manner that furthers the interest of the organization rather than his or her personal interest or the interest of another person or organization. Matters related to this duty include: (i) conflicts of interest; (ii) corporate opportunity; and (iii) confidentiality.
A director should reveal to the board of directors any conflicts of interest that he or she may have when those conflicts or potential conflicts may be relevant. For example, if the organization will be doing business with a company owned by the director or a family member, the board should be informed of that relationship. Similarly, if the director also serves as a director, committee member or employee of a competitor of the organization, the board should be so informed.
If the board will be making decisions that present a conflict or potential conflict of interest, the affected director should answer any questions that board members have about the conflict and should abstain from voting on the matter. It is usually appropriate that the affected director leave the room while the matter is being discussed or considered so that other directors will feel comfortable in addressing the matter.
It is often advisable to obtain comparable information so the board has evidence that the transaction is fair to the organization. The minutes should describe the disclosure of the conflict, any recusals and any comparable information on which the board relied.
It is good practice for a nonprofit corporation to have a written conflict of interest policy requiring each director, among other things, to complete and deliver an annual disclosure statement identifying potential conflicts of interest such as the director’s employer, entities owned by the director and organizations for which the director serves on a board or committee. Typically, the president of the nonprofit corporation reviews this information so that he or she will be generally aware of potential conflicts of interest.
A director is obligated to refer to the corporation business opportunities appropriate for the corporation prior to using them for his or her personal benefit. For example, a director desiring to purchase a parcel of real property that by its nature or location might be of interest to the corporation is required to permit the corporation the opportunity to acquire the property prior to purchasing it personally.
The director must not disclose to others confidential matters of the organization. Any question as to whether any corporate information is confidential should be addressed to counsel for the organization.
Responsibilities of Directors
Before his or her term begins, the new director should undertake to become knowledgeable about the organization. The director should review the following: (i) articles of incorporation and bylaws, (ii) determination letter from the IRS, (iii) most recent tax return, (iv) most recent audited financial statements or year-end statements if audited financial statements are not available, (v) most recent annual report, (vi) list of the current officers and directors of the organization, (vii) summary of applicable insurance, (viii) mission statement, and (ix) chart showing the relationship among the organizations, if the organization is part of a system of affiliated organizations.
The board of directors is charged with defining and overseeing the implementation of the organization’s mission. The board is responsible for: (i) developing and overseeing implementation of a strategic plan; (ii) protecting the organization’s long-term values and mission against sacrifice for short-term gains; (iii) assuring that the programs operated by the organization are consistent with its mission; and (iv) preserving the organization’s assets against waste or abandonment.
The board of directors approves the organization’s annual budget (capital and operating) as well as modifications to the budget throughout the year. While staff can prepare and make recommendations regarding the budget, ultimately it is the directors who must make decisions regarding the addition of new programs and the making of capital expenditures. Should the organization experience financial difficulty, it is the board that must make difficult decisions such as the elimination of programs for the overall welfare of the organization and balancing the immediate needs of the organization’s programs with the long-term financial well-being of the organization.
Finally, it is the responsibility of the board to oversee the management and investment of the organization’s endowment and investments so as to assure the long-term viability of the organization and the availability of its resources, when needed. The board must assure that donations are invested and used in the manner required by donors and otherwise as required by law. In addition, in many organizations, it is expected that directors will actively assist in the organization’s fund-raising efforts, by donating to the organization as well as assisting the organization in obtaining donations from others. Indeed, many foundations and other organizations that typically make donations to charities are disinclined to support a charity where its directors do not contribute to the organization.
Board Operations
The board of directors should consider and determine appropriate action on the following matters: (i) processes for setting agendas and distributing information; (ii) policy concerning expected time commitments of directors, and the extent to which other directorships or other factors (such as health) may impair a director’s ability to satisfy such commitments; (iii) policy concerning rotation of the chair and membership of the board of directors and its corporate governance, audit and compensation committees; and (iv) whether to appoint a “lead” independent director or an independent director to serve as chair of the board of directors or to preside at meetings of non-management directors.
The board of directors also should consider establishing and maintaining training and education programs for all directors, in regard to (i) their legal and ethical responsibilities as directors, (ii) the financial condition, the principal operating risks and the performance factors materially important to the business of the corporation and (iii) the operation, significance and effects of compensation incentive programs and related party transaction.
Finally, the board of directors should decide how to conduct periodic evaluations by the directors of (i) the effectiveness and adequacy of meetings of the board of directors and its committees, (ii) the adequacy and timeliness of the information provided by management to the board of directors, (iii) the diversity of experience of individual directors and (iv) the contributions of each director.
Ethical Issues
In recent years, nonprofit organizations have been subjected to increased scrutiny as a result of scandals in the nonprofit world and business world and the passage of legislation commonly referred to as Sarbanes Oxley. With the exception of its provisions relating to document destruction and reporting of violations of law, most of Sarbanes Oxley’s requirements do not apply to nonprofit corporations.
However, some commentators believe that the standards set by Sarbanes Oxley will eventually become the accepted practice for nonprofit corporations. In some states, legislatures are considering adopting Sarbanes-like requirements for nonprofit organizations. In that light, nonprofit corporations may wish to consider the following actions:
Establishing an audit committee separate from the finance committee. The audit committee, which would be composed of persons not employed by the nonprofit and who are knowledgeable about financial matters, would make recommendations regarding the selection of the auditors, oversee the auditors, and establish processes for addressing complaints regarding accounting and internal control issues.
Establishing a nominating/governance committee composed of directors who are not employees. The committee would assume responsibility for nominating qualified candidates for directors, monitoring corporate governance, and monitoring compliance with ethical standards.
Establishing a policy regarding the retention and destruction of documents.
Establishing a procedure that allows employees to alert management and/or board to ethical issues and violations of law without fear of retaliation.
Establishing a conflict of interest policy.
Charitable Mission, Vision and Tax Exemption
Many, but not all, nonprofit corporations qualify for exemption from federal income tax because they are described in one or more provisions of Section 501(c) of the Internal Revenue Code (the “Code”). In most cases, to be afforded the benefits of tax exemption, the nonprofit corporation must apply to the IRS for recognition of exemption. The most common status is that of a charitable organization described in Section 501(c)(3) of the Code, which affords both exemption from federal income tax and deductibility of charitable contributions to the organization. Generally, 501(c)(3) status is available to charitable, religious and educational organizations. Qualification under other provisions of Section 501(c) affords exemption from federal income tax, but generally does not afford deductibility of contributions to the organization.
A 501(c)(3) organization is presumed to be a private foundation unless it qualifies as a public charity. When the IRS recognizes an organization as exempt under Section 501(c)(3), it also characterizes it as either a private foundation or a public charity. For the reasons discussed below, ordinarily it is preferable to qualify as a public charity.
An organization described in Section 501(c)(3) may be classified a “public charity” if it is a hospital, church or school, meets a financial test demonstrating that it has broad public support or supports one or more publicly supported organizations.
Section 501(c)(3) public charities are subject to a variety of limitations on their operations, including prohibitions on: (i) certain political activity; (ii) any substantial amount of lobbying; and (iii) allowing the assets or income of the organization to inure to the benefit of private persons.
A 501(c)(3) public charity is not permitted to engage in any political campaign activity in support of or opposition to any candidate for public office. Accordingly, directors who are inclined to involve themselves personally in such activity must be careful not to undertake such activity in their capacity as directors of the 501(c)(3) organization. For example, they should not conduct meetings at the organization’s office space or use the letterhead for political correspondence or purport to be speaking on behalf of the organization.
A 501(c)(3) public charity may engage in lobbying only if the amount of the lobbying is not substantial. Unfortunately, the Code does not define either “substantial” or “lobbying” for the purposes of applying the substantial part test. Lobbying by directors for its causes is usually attributed to the nonprofit organization, even when the directors volunteer their efforts.
A 501(c)(3) public charity is expected to operate for the benefit of the public and the charitable class served by the organization, rather than the benefit of private persons. Transactions between directors (and other private persons as well) and the exempt organization must be structured in a manner that does not improperly benefit the private person. Such improper benefit to private persons is referred to as “private inurement.” Private inurement can occur in numerous different ways. For example, the organization may not loan money to a key employee or an affiliated business corporation unless the terms are arm’s-length. Ordinarily, this would mean that the organization has determined that the loan is a sound business decision, the loan bears interest at a commercially reasonable rate and is properly secured. Similarly, the exempt organization cannot pay excessive compensation, pay for services that are not provided or provide free or below-market price goods or services to private persons other than members of the charitable class the organization serves. This prohibition on private inurement frequently raises significant issues for 501(c)(3) organizations desiring to participate in partnerships with taxable entities or individuals.
A “disqualified person” who engages in an “excess benefit transaction” with a 501(c)(3) organization that is a public charity or with a 501(c)(4) organization can be subject to an excise tax of 25% of the excess benefit, and, if correction of the excess benefit is not timely made, to an excise tax of 200% of the excess benefit. Officers and directors who knowingly participate in such a transaction may be subject to an excise tax of 10% of the excess benefit. These excise taxes are commonly referred to as intermediate sanctions.
“Disqualified persons” are persons with substantial influence on the exempt organization. They include officers and directors of the public charity and persons in positions of authority with the public charity during the previous five years, as well as their family members and companies owned by them. In an “excess benefit” transaction, the value of the economic benefit conferred by the exempt organization exceeds the value of the consideration it receives. Potential excess benefit transactions include (but are not limited to) compensation decisions affecting officers, directors and key employees, and transactions involving the sale of property between a public charity and one of its managers or employees.
A transaction may be presumed not to involve any excess benefit if: (i) it is approved by a committee or board comprised entirely of disinterested directors; (ii) when valuing the benefit conferred by the charity, the directors used comparable information as a guide; and (iii) the directors documented their decision-making process.
Committee Organization
Corporate Governance Committee
The board of directors should establish a corporate governance committee composed exclusively of independent directors with responsibility for the identification and nomination (or recommending to the full board of directors the nomination) of independent members of the board of directors, and for extending invitations to prospective independent board members. The corporate governance committee should appoint (or recommend to the full board of directors the appointment of) the persons to serve on each of the other standing committees of the board of directors.
The corporate governance committee should adopt a corporate code of ethics and conduct that includes the establishment of one or more mechanisms through which information concerning violations of law by the corporation or its management personnel, or breaches of fiduciary duty to the corporation which could have a material effect on the corporation, not appropriately addressed by corporate officers, can be freely transmitted to more senior officers and, if necessary, to a committee consisting solely of independent directors.
Audit Committee
The board of directors should establish an audit committee, composed exclusively of independent directors. Audit committees typically consist of three to five members.
The audit committee should meet regularly outside the presence of any senior executive officer and should be: (i) authorized to engage and remove the corporation’s outside auditor (or if legally permissible, to recommend such engagement or removal to the board of directors), and to determine the terms of the engagement of the outside auditor; (ii) authorized and afforded resources sufficient to engage independent accounting and legal advisers when determined by the committee to be necessary or appropriate; and (iii) responsible for recommending or establishing policies relating to non-audit services provided by the corporation’s outside auditor to the corporation and other aspects of the corporation’s relationship with the outside auditor that may adversely affect that firm’s independence.
Finally, the resolution of the board of directors creating the audit committee should specify whether the foregoing decisions are to be made exclusively by the audit committee or by the full board of directors (or by the independent directors) upon recommendation of the committee.
Compensation Committee
The board of directors should establish a compensation committee, composed exclusively of independent directors. Compensation committees typically consist of three to five members.
The compensation committee should meet regularly outside the presence of any senior executive officer and should be: (i) responsible for determining, or making a recommendation with respect to, the compensation (including executive benefits) of the senior executive officers of the corporation; and (ii) authorized and afforded resources sufficient to engage independent executive compensation and legal advisers when determined by the committee to be necessary and appropriate.
In determining or recommending the amount, form and terms of compensation of senior executive officers, the compensation committee should (i) evaluate the performance of such officers, and (ii) be guided by, and seek to promote, the long term interests of the corporation and its shareholders.
The resolution of the board of directors creating the compensation committee should specify whether the foregoing decisions are to be made exclusively by the compensation committee or by the full board of directors (or by the independent directors) upon the recommendation of the committee.
In deliberating on the compensation of the chief executive officer, the compensation committee should meet outside the presence of any senior executive officer; the chief executive officer may, if the compensation committee chooses, participate in the deliberations on the compensation of any other officer.
Special Committee for Interested Director/Executive Transactions
In addition to approvals required by law, a committee composed exclusively of independent directors and appointed for the purpose by or on the recommendation of the independent directors or a committee composed exclusively of such directors, should review and approve any material transaction between the corporation and any director or senior executive officer of the corporation (and any person or entity controlling or controlled by such director or officer, or in which such director or officer has a direct or indirect material financial interest), including a loan or guarantee by the corporation.
Such review and approval should include: (i) an explanation of why the transaction is in the best interests of the corporation without regard to the interest or desire of the individual (or related person or entity); (ii) a documented rationale for engaging in the transaction with a related party rather than with a third person; (iii) a specific determination of the fairness of the transaction; and (iv) a review of the public disclosure that may be appropriate for the transaction.
Legal Compliance Committee
The board of directors should establish a legal compliance committee composed exclusively of independent directors. The legal compliance committee should be charged with obtaining and evaluating regular reports from the corporate officers responsible for implementing the corporation’s internal controls, codes of ethics and compliance policies, including general counsel, the chief financial officer, the chief internal auditor and the chief compliance officer.
These regular reports should contain information about the corporation’s legal and compliance affairs including, at a minimum, information about violations or potential violations of law and breaches of fiduciary duty by an executive officer or director that could have a material adverse effect on the corporation.
Ideal Board of Directors Make-Up
A nonprofit corporation generally should seek to have a wide range of experience and knowledge on its board of directors. An organization’s goal should be to bring in diligent, honest, independent directors that maintain an attitude of constructive criticism, ask probing questions and require accurate answers.
Lobbying Guidelines for Section 501(c)(6) Organizations
An organization that is exempt from taxation under Section 501(c)(6) of the Internal Revenue Code (the “Code”) is permitted to engage in virtually unrestricted lobbying activities, provided that such activities are germane to the common interests of its members. The only restrictions that exist are less substantive in nature and are concerned primarily with whether an exempt entity's activities generally improve the business conditions of one more lines of business, where actually achieving an improvement is immaterial.
Accordingly, an exempt organization is precluded from providing individual members with benefits that constitute private inurements. Additionally, an exempt entity is constrained by notice requirements and the deductibility (or nondeductibility) of certain funds that it expends in furtherance of its lobbying efforts. Therefore, the activities of 501(c)(6) tax-exempt entities are, for the most part, regulated by tax laws and incentives; beyond the avoidance of conflicts of interest and aspirational goals such as increased disclosure, such entities face few ethically based restrictions.
Sections 501(a) and (c)(6) of the the Code exempt from taxation: “business leagues, chambers of commerce, real-estate boards," and boards of trade (each a “501(c)(6) organization” or a “501(c)(6) entity”). A business league is defined as “an association of persons having some common business interest, the purpose of which is to promote such common interest and not to engage in a regular business of a kind ordinarily carried on for profit. It is an organization of the same general class as a chamber of commerce or board of trade. Thus, its activities should be directed to the improvement of business conditions of one or more lines of business as distinguished from the performance of particular services for individual persons.”
The following will evaluate the guidelines and restrictions that exist for 501(c)(6) entities, beginning with a general discussion based on the statutory restrictions provided by the Code and concluding with an evaluation of the ethical guidelines that the boards of directors of 501(c)(6) organizations should consider.
Statutory Concerns for 501(c)(6) Organizations
Beyond the statutory requirements imposed by Section 501(c)(6) and Reg. Section 1.501(c)(6)-1, there are no restrictions placed on the particular activities conducted by entities exempt from taxation under those sections of the Code. Revenue Ruling 61-177 states that “There is no requirement, by statute or regulations, that a business league, chamber of commerce, etc., in order to be considered exempt as such, must refrain from carrying on propaganda or influencing legislation.”
Specifically, Revenue Ruling 61-177 answers the question of whether an organization that otherwise meets the requirements of Section 501(c)(6) may qualify for tax exemption if “its sole or principal activity is the advocacy of legislation beneficial to such common business interest.” Because the objectives sought by the entity in question in the Revenue Ruling could only be achieved through legislation, the Internal Revenue Service (“IRS”) found that the entity's legislative activities in advocating its common interests were “germane” to the achievement of its objectives and were within the scope of the Section 501(c)(6) exemption.
Therefore, in order to maintain its exempt status, a 501(c)(6) organization need only satisfy the following criteria: (1) its purpose is the promotion of the common business interest of its members, (2) its principal activity is not the performance of particular services for individual persons, (3) its purpose is not to engage in a regular business of a kind ordinarily carried on for profit, (4) its activities are directed to the improvement of business conditions of one or more lines of business, and (5) its net earnings do not inure to the benefit of any member.
Activities Must Improve Business Conditions
A 501(c)(6) organization must act in ways that improve the business conditions of one or more lines of business, where a “line of business” is defined as a “trade or occupation, entry into which is not restricted by a patent, trademark, or other means that allow private parties to restrict the right to engage in the business.” Given that the activities of a 501(c)(6) entity must have a goal of benefiting at least one line of business and the members of the 501(c)(6) entity as a group, it follows that the organization cannot take part in activities that are primarily related to particular services for individual persons.
Examples of permissible activities are presenting information, group opinions, and trade statistics to government agencies and bureaus as well as lobbying that is directed towards promoting legislation that is related to the common interests of its members. However, it is immaterial whether a 501(c)(6) entity's activities actually improve business conditions. Rather, the standard for determining whether an organization's activities satisfy the requirements for its tax exempt status is whether "reasonably prudent businessmen believe they will improve business conditions.”
To aid a 501(c)(6) entity in its compliance with statutorily mandated procedures, the IRS has provided the following guidelines regarding legislative activities:
Interview the organization's officers and review the minutes, newsletters, web sites, and correspondence to identify any legislative activities.
Determine whether any lobbying is related to the organization's exempt purpose.
Determine whether any officials of the organization are registered lobbyists.
Review any contracts with outside lobbyists to determine the extent and the nature of such lobbying.
Determine whether the business league is subject to the reporting requirements of IRC section 6033(e).
Review dues statements of business leagues subject to such requirements to determine whether amounts used for lobbying were properly reported.
Inspect Form 990-T filed by business leagues which elected not to or failed to provide such notification to verify the proxy tax under IRC section 6033(e)(2).
Prohibition Against Private Inurement
The net earnings of a Section 501(c)(6) entity may not inure "to the benefit of any private shareholder or individual." The determination of whether such an inurement has occurred is fact specific and is determined by courts on a case-by-case basis. Consequently, an exact definition of what constitutes an inurement does not exist.
Nevertheless, certain factors may be helpful in providing guidance to 501(c)(6) entities in their efforts to avoid impermissible inurements. For instance, an inurement results from "an expenditure of organizational funds resulting in a benefit which is beyond the scope of the benefits which logically flow from the organization's performance of its exempt functions." Thus, disbursements of cash to members which essentially equate to a rebate of dues paid are not considered inurements if such distributions are paid in the same proportion as the dues are paid.
The inurement prohibition does not prevent 501(c)(6) organizations from providing their members with informative material, such as newsletters. However, members of an exempt entity are precluded from receiving benefits at special rates that are not made available to other members.
As a general rule, the management of a 501(c)(6) entity may want to keep the following guidelines in mind:
Review the organizational documents, membership solicitation materials, minutes, and contracts with employers to identify the types of benefits provided to officers and members.
Review the organization's employment contracts, Forms W-2 and other employment records to determine the number and duties of the organization's employees and the reasonableness of salaries and benefits.
Review the disbursement journal to identify any payments to members and determine the reason for any such payments.
Because the evaluation of alleged inurements is specific to each case, the above IRS guidelines may assist an exempt entity in recognizing possible sources of concern with respect to potential inurement problems.
Sections 6033(e) and 527
Expenditures for 501(c)(6) entities that relate to lobbying activities may be subject to the requirements of Section 6033(e). Section 6033(e) of the Code imposes a notice requirement and proxy tax on the lobbying expenditures of certain business leagues.
Under Section 6033(e)(1)(A)(i), a 501(c)(6) entity must include on its tax return the total expenditures and dues paid to the entity that fall within Section 162(e)(1), which denies the deductibility of certain lobbying and political expenditures. In addition, Section 6033(e)(1)(A)(ii) requires a 501(c)(6) entity to provide to each person who pays dues to the exempt entity notice of a reasonable estimate of the portion of such dues which are not deductible under Section 162(e)(1).
A 501(c)(6) entity may also be subject to taxation under Section 527(f) if its advocacy of public policy issues includes the discussion of the positions of public officials who are also candidates for public office. Section 527 exempts "political organizations that collect and expend monies for exempt function purposes" from Federal income tax, except with respect to their investment income.
A "political organization" is defined as a "party, committee, association, fund or other organization (whether or not incorporated), organized and operated primarily for the purpose of accepting contributions or making expenditures, or both, for an exempt function." Further, an "exempt function" is defined as “influencing or attempting to influence the selection, nomination, election, or appointment of any individual to any Federal, State, or local public office or office in a political organization, or the election of Presidential or Vice-Presidential electors, whether or not such individual or electors are selected, nominated, elected, or appointed.”
However, a 501(c)(6) organization may be imposed a tax under Section 527(f) if its political expenditures are from its general treasury rather than from a separate segregated fund.
Where an "advocacy communication" explicitly calls for the election or defeat of an individual with respect to his or her bid for public office, the expenditure for such communication is inarguably for an exempt function. However, where an advocacy communication does not explicitly advocate a victory or defeat of an individual to public office, the determination of whether an expenditure directed to that end is for an exempt function requires an evaluation of surrounding facts and circumstances. Revenue Ruling 2004-6 sets forth the following guidelines for determining whether an advocacy communication is for an exempt function under Section 527(e)(2):
The communication identifies a candidate for public office;
The timing of the communication coincides with an electoral campaign;
The communication targets voters in a particular election;
The communication identifies that candidate's position on the public policy issue that is the subject of the communication;
The position of the candidate on the public policy issue has been raised as distinguishing the candidate from others in the campaign, either in the communication itself or in other public communications; and
The communication is not part of an ongoing series of substantially similar advocacy communications by the organization on the same issue.
Additionally, the IRS in its Internal Revenue Manual has provided the following guidelines for a 501(c)(6) entity's examination of its political activities:
Interview the officers and review the minutes, newsletters, web sites, and correspondence to identify possible political activities conducted by the organization or the existence of a separate political fund.
Analyze the following accounts for possible political expenditures:
Legal fees,
Bonuses,
Printing,
Advertising, and
Entertainment
Analyze bank statements, disbursement journals, etc., to identify whether the organization maintained a separate segregated fund for the purpose of making political expenditures.
Ethical Considerations
Little guidance appears to exist regarding when it is ethically appropriate for a 501(c)(6) entity to adopt and then publicly lobby for a particular legislative position. Such a dearth of information may be due to the absence of restrictions placed on the substantive nature of lobbying that is legally permissible for 501(c)(6) entities. Indeed, the law seems to constrain the activities of exempt organizations through notification requirements and the provision of tax exemptions for certain lobbying expenditures. Moreover, given that a business league must act to promote its members' common interests in order to qualify for exempt status under § 501(c)(6), it might be assumed that a 501(c)(6) entity is unlikely to conduct activities that are contrary to its members' wellbeing, thus minimizing the need for ethically based restrictions. However, some guidance is available in the two articles discussed below.
Conclusion
Once an organization has been given tax exempt status under Section 501(c)(6), it should focus on two general guidelines in order to maintain its standing with the IRS: it should (1) ensure that its activities improve the business conditions of one or more lines of business and (2) prohibit any benefits to its members that may constitute a private inurement. From an income tax perspective, a 501(c)(6) entity should also be mindful of notice requirements and deductibility issues with respect to its lobbying activities and the funds it expends in furtherance of those activities. Beyond statutory and tax-based requirements, the board of directors of a 501(c)(6) entity must consider its fiduciary obligations to the trade associations they serve, paying particular attention to potential conflicts of interest among directors and increased disclosure directed towards association members.
Forming and Organizing a Non-profit 501(c)(3) Organization
Forming and Organizing a Non-profit 501(c)(3) Organization
A Section 501(c)(3) public charity corporation, a type of charitable organization, is a tax-exempt non-profit organized under Section 501(c)(3) of the Internal Revenue Code (the “IRC”). A 501(c)(3) public charity corporation is generally the type of organization that people are referring to when discussing non-profits, though the terminology used to refer to charitable corporations may differ between the IRC and state statutes, and even among states themselves. For instance, some states refer to a charitable corporation as either a non-stock corporation, not-for-profit corporation or non-profit public benefit corporation. Most charitable organizations are formed as corporations because the form is familiar.
Initial Considerations
Select the State of Incorporation
Before forming a non-profit, the founder should determine in which state to incorporate. Corporations, both for-profit and non-profit, are governed by the laws of the state of incorporation. These laws may vary across states, including their requirements for:
What must be included in the articles of incorporation.
The fiduciary duties of the corporation's directors.
The available protections against liability for the acts of the non-profit's directors and officers.
The available protections against liability for the acts of volunteers.
While most for-profit corporations elect to incorporate in Delaware because of, among other things, its well-developed body of corporate law, the same considerations generally do not apply to non-profits. Non-profits face additional concerns unique to their status, such as:
Additional costs of applying to do business as a foreign corporation if incorporated in a state other than where it will primarily conduct its charitable activity. Non-profits, particularly new or small non-profits, generally have tight budgets and must continuously be aware of expenditures that are not used directly for their charitable purposes.
Importance to the non-profit's image that it be incorporated in the state where it will mainly conduct its charitable activities.
State-specific charitable solicitation rules associated with seeking donations from the public.
State's immunity and volunteer protection laws. Some non-profits may rely heavily on volunteers to carry out their purpose and many directors serve without compensation on the non-profit's board.
Complexity and burden of other state and local regulations impacting non-profits and the degree to which state and local authorities (such as the attorney general) oversee and police non-profits.
Name Requirements
Before drafting formation documents or making any filings, the founder should select a name for the non-profit. The name may not be deceptively similar to another for-profit or non-profit entity's name that is filed or reserved with the applicable state office. Different states have different naming requirements and prohibitions.
A non-profit qualifying as a public charity may use the term "foundation" in its name. Doing so does not make it a private foundation and jeopardize its classification by the IRS as a public charity if all the other criteria for being a public charity are met (see IRS Form 1023 instructions).
Before filing the incorporation documents, the founder should check with the applicable state office to see if the selected name is available. There are two methods of checking name availability:
Many state websites provide a free online name check function that provides a general sense of the name's availability.
Filing a name availability form with the applicable state office for a fee, which provides a more official confirmation of a name's availability.
It is best practice to check the name availability in each state that the non-profit intends to conduct its charitable activities.
If the non-profit intends to use its name as a trademark, service mark, domain name or trade name, the founder should also consider running a trademark and copyright search to see if the name is currently registered by another business, either for-profit or non-profit. These searches can be conducted for free online with the United States Patent and Trademark Office and the United States Copyright Office.
Conducting a name availability search, whether online or by filing the name availability form, does not reserve the name or guarantee that the name will be approved. Reserving a name is optional, but if a founder opts to reserve a name, it should act quickly to file a name reservation form. This will prevent the name from being taken by another entity while the organizational documents are being prepared and filed with the state.
It is often a good idea, particularly if an attorney is handling the filing for a client, to have backup name choices in case a name is already taken or rejected. Some states provide the option of listing, in the non-profit's order of preference, multiple name choices on a single name availability or name reservation form. The first available name on the list is then indicated as available or reserved, respectively. This saves both time and cost for the filer because the fee is typically per form and not per name.
To reserve a name, the founder should complete the name reservation form on the applicable state office website. The name can be reserved for a fee for a limited time period in most states. Most states permit a name reservation to be renewed (for a fee), though they vary as to when a renewal must be requested and how many times a name reservation may be renewed.
Complete Pre-incorporation Logistics
Designate the Incorporator
The incorporator is the person who executes the articles of incorporation and takes the initial steps to organize the non-profit (unless initial directors are listed in the articles of incorporation). The incorporator can be the founder, an initial director or an outside third party and does not need to be an attorney.
Prepare Non-profit's Initial Business Plan
The business plan describes how the non-profit intends to implement its mission and achieve its goals. A business plan should generally include:
A purpose clause (also known as a mission statement) that gives a clear reason why the non-profit exists.
An outline of general goals, concrete objectives and specific planned activities.
An assessment of the non-profit's strengths and weaknesses, including an inventory of resources (such as money, people and expertise) available to it.
Practical ideas about how to use the non-profit's strengths and resources to achieve its goals.
Information in the business plan, including the purpose clause, will be used in:
Discussions with potential directors and employees during the recruitment process and in performance evaluations.
The non-profit's organizational documents.
The IRS forms, including Form 1023 (the application for 501(c)(3) tax-exempt status) and Form 990 (the annual information return for tax-exempt organizations).
Fundraising requests and efforts to build community support.
Order or Create a Minute Book
A minute book (sometimes referred to as a corporation kit) is a loose-ring binder in which a non-profit can store the minutes of the board of directors (sometimes referred to as board of trustees) and members (if any), the articles of incorporation, the by-laws, federal or state tax-exempt status designation letters and copies of annual reports and filings.
The minute book ensures the non-profit's records are maintained, organized and easily referenced. It is important for a non-profit to keep up-to-date copies of the minutes of the board and members (if any) in the event that its actions are challenged by the state's attorney general or scrutinized by a watchdog organization.
A well-maintained and organized minute book can also be helpful when compiling information to file the annual Form 990 with the IRS. Form 990 requires a substantial amount of detail and must be made available to the public. Accurate and complete reporting minimizes the risk of a lawsuit and bad publicity.
A minute book can be purchased through a service company or online. It is usually comprised of: a binder with labeled dividers for each document type, a corporate seal, blank membership certificates, a blank member ledger, blank minute paper, and sample board resolutions and minutes.
Determine if Non-profit Will Have Members
Most non-profits elect to be board-driven, meaning there are no members or the members have limited rights. For example, members of a board-driven non-profit do not have full voting rights. Instead, the board is usually self-perpetuating, with the board electing the directors. However, board-driven non-profits often use the term member when referring to donors to show appreciation and create a sense of community. The by-laws should clearly define "member" when the non-profit does not intend to grant voting or other statutory rights. Section 501(c)(3) public charity corporations tend to be board-driven, unless required by state law to have voting members.
Non-profits electing to have members with the right to vote are known as member-driven non-profits. Some states require non-profits to be member-driven. The non-profit's by-laws generally outline member eligibility and other requirements of membership. Members typically have the right to elect and remove directors and vote on major corporate events such as mergers, asset sales or dissolution.
Some states permit the members of a member-driven non-profit to enter into voting agreements, though the state's non-profit law may restrict the purpose or application of the voting agreement. Other states however expressly declare these agreements unenforceable. Members contemplating a voting agreement should first review the laws of the state of incorporation.
There are additional administrative tasks associated with member-driven non-profits, including: keeping up-to-date member lists, providing notice of member meetings, and recording and filing the minutes of member meetings.
Identify and Recruit Initial Directors
The board of directors is chiefly responsible for ensuring that the non-profit fulfills its mission as stated in the non-profit's articles of incorporation and business plan. The board acts as trustee of the non-profit's assets and ensures that the non-profit is well-managed and remains fiscally sound. In fulfilling its obligations, board members are subject to three basic fiduciary duties.
The duty of care, which requires a director to be fully and adequately informed and to act with care when making decisions and acting for the non-profit.
The duty of loyalty, which requires a director to act and make decisions in the best interest of the non-profit and not in the director's own personal interest.
The duty of obedience, which requires a director to understand and act to promote the non-profit's goals and mission.
Fiduciary duties are the standards of care imposed by state law. A director generally meets these standards by, among other things:
Attending all regular board meetings and committee meetings, if the director is on a committee. Attendance is usually permitted by telephone or video conferencing if all participants can hear each other and participate.
Reviewing and understanding materials provided for the meetings.
Requesting additional information or reports as needed.
Making independent determinations on non-profit actions.
Not relying on information known to be unreliable and communicating those concerns to the board.
Disclosing any conflicts of interest according to the non-profit's policies.
While there are many similarities in the duties of directors of for-profit and non-profit corporations, there are significant differences of which a non-profit director should be aware. For instance, unlike directors of a for-profit corporation who owe fiduciary duties to the corporation's shareholders, non-profit directors do not owe their duties to the non-profit's members. Most non-profits do not have members (the non-profit equivalent to a for-profit's shareholders) and in those that do, the members do not hold a financial stake in the non-profit that must be protected by the directors. Instead, non-profit directors owe their duties to: the non-profit itself, the constituents served by the non-profit according to its purpose clause, and the non-profit's donors, when funds are earmarked for specific activities.
The IRS recommends that non-profits recruit active and engaged directors with the commitment, skills, expertise and other characteristics to serve the organization and its needs. When recruiting directors, non-profits should focus on areas of expertise that benefit the non-profit. For instance, a non-profit may wish to recruit directors who are either lawyers, accountants or on the boards of for-profit companies because of the specific skills they have. They may also wish to recruit directors who: have previous experience serving or working for a non-profit and/or are knowledgeable about the constituency the non-profit serves.
It is also common to select directors with an ability to contribute or can direct fundraising on behalf of the non-profit. Non-profits often have a "give-or-get" practice that requires each director to either donate a certain amount each year to the non-profit or fundraise an equivalent amount through the director's contacts.
Procedural Steps
Draft and File Formation Documents
Although the articles of incorporation is the only document required to be filed with the state's secretary of state or similar state agency, there are several other documents needed to properly form and organize a non-profit, as well as to obtain tax-exempt status. The first step is to obtain the necessary information (such as the name of the director(s) and registered agent(s)) before drafting these documents.
Draft and File the Articles of Incorporation
The articles of incorporation is the primary governance document of the corporation and is filed with the state of incorporation. In addition to meeting state requirements when drafting the articles, the following IRC requirements to apply for tax-exempt status should also be included:
A purpose clause that is properly limited to one or more of the exempt purposes set out in Section 501(c)(3) to meet the IRS' organizational test. IRS Publication 557 provides helpful examples of purpose clauses that may or may not meet the organizational test. Some states may require a more specific purpose statement for state tax exemption purposes.
A statement that prohibits the non-profit from engaging in non-exempt activities or using its earnings to benefit an individual.
A dissolution clause that permanently dedicates the non-profit's assets to an exempt purpose. This means that if the non-profit decides to dissolve, the assets will not be returned or distributed to any members or private individuals (unless otherwise required by law). The assets must instead be transferred to another non-profit that is a Section 501(c)(3) entity, or to the federal government or to a state or local government for a public purpose. If going to another non-profit, some states also require that the transferee non-profit have a similar exempt purpose as the dissolving non-profit.
The articles of incorporation must be filed, along with the state-specified fee, with the secretary of state or similar state department of the chosen jurisdiction. Generally, the articles may be submitted to the appropriate department in person, by mail, by fax or, in some states, online. The filing fee is usually significantly lower for non-profits than for for-profits.
Most states offer expedited processing of organizational documents upon the non-profit's request, for an additional fee. The additional fee must usually be paid separately from the regular filing fee. The non-profit's corporate existence begins once the articles of incorporation have been approved by the state agency.
Apply for Agency Approvals
Before filing the articles of incorporation with the state, it should be verified whether any state agencies must first approve the filing. The agencies that must approve the filing typically vary depending on the purpose and activities of the non-profit. For example, approval may be required from the department of health for the establishment of an adult care facility or from the office of children and family services for programs for domestic violence victims. Most states require that these approvals be attached to and filed with the articles of incorporation.
Draft the By-laws
By-laws set forth the governance rules of a non-profit, but are secondary to the articles of incorporation and are not filed with the state. If there is any conflict between the articles of incorporation and the by-laws, the articles of incorporation govern. Typical areas covered by the by-laws include:
The non-profit's purpose.
The meeting procedures for members (if any) and directors (including notice and voting requirements).
The rights, eligibility requirements and responsibilities of members (if any) and directors (including board term limits).
The officer positions.
The types of committees of the non-profit.
Some states also require the by-laws to include a statement identifying the corporation as a non-profit. As best practice, the by-laws should include the following additional provisions:
A provision requiring the non-profit to have conflict of interest and sexual harassment policies.
Procedures for the management and conduct of ordinary business affairs during natural disasters and other similar emergencies where normal procedures cannot be followed, such as notice or quorum requirements for a board meeting.
Indemnification of its directors and officers.
Compensation policies for directors.
Hold Organizational Meeting
After filing the articles of incorporation with the secretary of state or similar state agency, the incorporator must authorize organizational resolutions. This may be done either by holding a meeting or by written consent, if permitted by state law. If the articles identify the initial board of directors, the board should authorize the organizational resolutions. The incorporator or, if applicable, the board should hold an organizational meeting to:
Adopt the by-laws.
If the articles do not identify the initial board of directors, elect and establish the board and any committees.
Elect the officers.
Approve the corporate seal.
Authorize applications for federal and state tax-exempt status.
Set an accounting period and tax year.
For a member-driven non-profit, approve the issuance of memberships, membership certificates, and, if applicable, set and schedule membership dues or assessments.
Approve the initial transactions of the non-profit, such as opening bank accounts.
The non-profit should create minutes that accurately record the actions taken by the incorporator or, if applicable, the board and file those minutes in the non-profit's minute book.
Complete Post-incorporation Logistics
File Any Necessary Foreign Qualifications
If the non-profit is going to conduct its charitable purpose in other states or is located in a state other than its state of incorporation, it needs to be properly qualified. The non-profit should check the specific requirements of each state. This typically involves:
Checking the name availability of the non-profit in the foreign state.
Preparing and filing any necessary documents, often called a certificate of authority. These documents often contain similar information to the articles of incorporation and include a submission to service of process in the jurisdiction.
Payment of fees.
Apply for Employer Identification Number
The non-profit must apply for an employer identification number (EIN) with the IRS, even if there are no employees. A non-profit must have an EIN before it can file its tax-exemption application. An EIN is also necessary for reporting purposes and to identify the non-profit. It is often required before a non-profit can transact business, such as opening a bank account. A non-profit can apply for an EIN at no charge on the IRS' website.
Obtain Licenses or Permits
The non-profit should obtain any licenses or permits the non-profit needs to conduct its activities, such as for gaming, gambling or soliciting donations along a highway.
Apply for Federal Tax-exempt Status
The non-profit must file IRS Form 1023, along with the appropriate fee, for exemption from federal income tax under Section 501(c)(3). Certain small organizations may be able to use Form 1023-EZ. Organizations with Section 501(c)(3) tax-exempt status are able to solicit tax-deductible contributions. When status is granted, the IRS will send a letter of determination that the non-profit can use to prove its tax-exempt status and should keep in its minute book.
The non-profit must promptly file its federal tax exemption application. For federal purposes, the exemption date applies retroactively to the date of formation if the application was filed within 27 months of incorporation. Filings made after that time will have an effective date as of the filing, though the non-profit may file for a waiver of the 27-month rule. The IRS may grant a waiver if cause for the delay is shown.
Apply for State Tax-exempt Status
The non-profit must also apply for state tax-exempt status with the appropriate state agency. While some states will automatically grant tax-exempt status from state income taxes to a non-profit that has been granted federal tax-exempt status, others may have additional or alternative requirements.
The non-profit should also check to see if it needs to file separate applications to obtain other types of state and local tax exemptions, including from sales, use and property taxes and business license fees.
Comply with Charitable Solicitation Laws
The non-profit must comply with state and local charitable solicitation laws. If the non-profit intends to solicit charitable donations from the public in any state, it should:
Register with the applicable authorities in each of those states.
Renew its registrations annually.
File annual financial statements, if required.
Include disclosures on donor materials, if required.
In an effort to simplify and standardize the registration process, the Multi-State Filer Project (MSFP) developed the Unified Registration Statement (URS). Thirty-six states and Washington, D.C. accept the URS in lieu of their own registration forms. Some states may require additional forms so that the URS complies with state law. These additional forms are listed on the MSFP's website.
Non-profits electing to use the URS must:
Fill out the URS form, including any additional state-specific items.
Photocopy the completed form.
Execute and attach any required governance documents.
Include the applicable state's registration fee.
Mail the form to each individual state where the non-profit is registering. The MSFP does not process or mail completed URS forms. This must be handled by the non-profit.
Most states have registration exemptions for fundraising below certain dollar thresholds. Non-profits that are required to register but fail to do so before fundraising may risk incurring penalties and having to return donations.
Comply with Labor and Employment Laws
The non-profit should review and become familiar with relevant labor and employment laws regarding employees, volunteers and contractors.
Obtain Liability Insurance
The non-profit should obtain general and property liability insurance, if determined appropriate. Some states will only grant director or officer immunity if the non-profit either has general liability insurance or shows a good faith effort to obtain insurance.
File Form 990
The non-profit must file IRS Form 990, the annual information return for tax-exempt organizations. It requires the non-profit to provide a detailed report on its: exempt and other activities, finances, governance, compliance with federal tax filings and requirements, and compensation paid.
Mission Matters Most
It all begins with an idea.
Non-profit organizations fill a vital and valuable need in supporting the health of our communities. Their success is important, if not necessary. In today’s reality, they face complex, ever-changing, and often pressing demands from stakeholders. These demands often create a competing interest between strategic, long-term planning and the immediate demands of success and reporting.
A thriving organization requires strategic thought, governance, sustainability, organization, and high-impact programming. In fact, they are intimately intertwined. All too often, in the sector, the conversations around these topics are siloed. Occurring out of context or disjointed from one another leaving the organization exposed to unnecessary risks. It simply isn’t enough to be well-intended with a valuable contribution, non-profits and associations require a business-minded approach that fosters stability and sustainability. The days of good ideas executed with minimal resources and fleeting attention to the bottom line are long gone.
The nonprofit sector is large, complex and diverse but the principles of success are the same. In the vast ocean of nonprofits, organizations differ in purpose, size, and numerous other characteristics. The most successful (not always measured in dollars and cents) are those that have an acute sense of mission. Driven by an unwavering commitment to strategic purpose, these organizations are able to succinctly define their mission and communicate it to stakeholders and funders alike. These organizations use the lens of mission to drive decision-making across each pillar of the organization.
The complex, and often competing, priorities that many nonprofits and associations face creates an environment ripe for mission drift – when the organization starts to move away from its stated mission, purpose and goals. The ramifications must be considered carefully. In smaller organizations, far too often lack of resources and limited capacity often drive decision-making that create risk. By renewing focus on (or prioritizing focus on) strategic planning and maintaining laser focus on the mission, organizations that meet needs within the community can find their way.
Let us help you create customized, functional strategies that are designed to complement your board of directors, existing management team, and other professional advisors. From organizational, management, marketing, and educational outreach, to public relations, membership recruitment and retention, compliance services, and industry or initiative advocacy, we offer a full-service solution that will create value for your organization while successfully achieving your unique mission. Organizations rely on Nexus Advisors to help them further their missions, create stakeholder and member value, advance their industry or initiative, and ensure regulatory compliance. Our specialized team of professionals has more than 30 years combined non-profit and association experience. Nexus Advisors can help your organization focus on what is most important - its mission.
To learn more about Nexus Advisors and meet our team, visit https://www.nexusadvisorsms.com/.