The Nonprofit FAQ
| What actual steps do I take? Which filings come first? |
| Assuming you have a group of people who have defined a bona fide need to be met and have some idea of how to do it; and you have reason to believe you will have clients to serve or programs to benefit to the community; and you believe can can secure enough non-cash (like volunteers or inkind assistance) and financial support, you begin by securing nonprofit status in your state. Then, if you want the organization to be exempt from federal corporate income taxes and for donations you receive to qualify as tax deductions for people who make them, you apply to the IRS for federal recognition as an exempt organization -- often called a "501(c)(3) public charity". If your organization plans to be very active politically, then it will not be eligible to receive tax-deductible contributions; you still apply to the IRS for tax-exempt status. If successful, your organization will be known technically as a "501(c)(4) social welfare organization." Registration with a state as a nonprofit corporation (or equivalent) is required before the process of securing IRS recognition can begin. There are other privileges and exemptions available for nonprofit organizations through local, state and federal governments; some depend on federal recognition and some have other requirements. Further, of course, many donors, including foundations, require recognition as a public charity before they will consider making a gift or grant. Qualifying usually requires a separate application to demonstrate that the organization is eligible. Lastly, nonprofit organizations are not exempt from licensing, employment, safety, consumer protection and other laws that may require specific permits and registrations before operations begin and for as long as the organization continues to work. Nonprofits must withhold income taxes and pay social security, unemployment and other taxes related to employees. The steps are: Employer Identification Number (EIN)In order to apply to the IRS for exempt status, the organization must have an Employer Identification Number (EIN); this number may also be useful, or required, for working with state and local governments. OrganizingFulfilling the state and federal requirements for starting a new nonprofit will require a lot of planning for the new organization. Some of this planning will be reflected in the documents that are filed with the state to incorporate and with the IRS to secure exempt status and recognition as a public charity. It is possible to complete all the necessary plans and documents without professional advice, especially with the help of handbooks and guides such as the ones listed below. Many groups working on the development of a new organization will find it worthwhile to get help from lawyers and accountants who are familiar with the ins and outs of the process. Such advice can cut down on frustrating missteps and delays. If there is going to be a lot of money involved in pursuing the new organization's mission -- for employees, buildings, materials, etc. -- then the advice of experienced professionals will prove essential. IncorporationMost states have specific provisions for the formation of nonprofit corporations. Typically, there is a form to file that requires attachments including a list of the people who are forming the corporation ("incorporators"); articles of incorporation and, sometimes, bylaws ("charter documents"); and a fee. It is not necessary to file these documents in the state where the organization will operate, but a very similar set of filings (for a "foreign corporation") will almost always be required in the state where operations do take place. Since the IRS will look closely at the charter documents when reviewing the application for exempt status, it is important that they contain full and accurate descriptions of the organization's purpose or purposes, limitations on the use of revenues and assets to prevent private parties from benefiting from the organization's nonprofit status, and a plan for dissolution that assures that any remaining assets continue to be dedicated solely to charitable purposes. Contact the Secretary of State or comparable office and ask them for the appropriate application forms and list of necessary attachments. Postal ServiceNonprofit organizations can send certain kinds of mail at reduced rates. Recognition by the IRS is not required to mail at these rates (some organizations that qualify with the IRS are not eligible and vice versa). A separate application to the Postal Service is required to obtain a permit to mail at nonprofit rates, and each mailing must fit within the requirements of the program. The rates are only available for "standard mail" (which used to be called "bulk" mail); that means a relatively large number of identical pieces must be mailed at one time; they have to be sorted by the mailer and then taken to a special location (a "business mail entry" facility) to be mailed. Nonprofits often use specialized "mailing houses" to prepare their mailings. To take advantage of the lower rates, the organization has to have a permit to mail at nonprofit rates even if a mailing house handles production. There are specialists in the Postal Service regional offices who provide information about application process. They will also inspect drafts of materials that you want to mail at nonprofit rates and let you know of any potential problems (some of the rules are very specific and can lead to unexpected difficulties). The Postal Service offers seminars on the rules about standard mail and nonprofit mailing rates. It is worth inquiring about when and where these are offered. Internal Revenue ServiceYou use IRS Form 1023 to apply for recognition as an exempt entity and as a public charity. This form was revised in 2004 and the new version of the form must be used by all applicants. It is a complicated form, with many attachments related to specific parts of the application. (Form 1023 is discussed in the Nonprofit FAQ zt http://www.idealist.org/if/i/en/faq/198-304/62-42 ) Form 1024 is used to apply for recognition as a social welfare organization (501(c)(4)). "c4s" are also tax exempt; they operate under much less restrictive rules about lobbying and other forms of advocacy. Contributions to "c4s" are not tax-deductible. If everything goes smoothly, it usually takes three to six months for the IRS to process an application. The "Top Ten" reasons the IRS turns down newly submitted 1023s are listed at http://www.irs.gov/charities/article/0,,id=96361,00.html If there is some special circumstance that makes faster review necessary, it can be requested. The IRS toll-free number for exempt organizations -- 877-829-5500 -- is probably the best place to inquire about that process. "Public Charity" vs. "Private Foundation"Organizations that are classified by the IRS as "private foundations" are subject to more stringent limitations on their activities and must pay an excise tax each year based on their investment income. Organizations classified as "public charities" have looser rules and don't pay this tax. The law requires the IRS to identify a 501(c)(3) organization as a "private foundation" unless it shows that it should not be classified that way. The difference is in the amount of "public support" received; organizations that rely on a few very large gifts are likely to be identified as "private foundations." When completing Form 1023, a new organization can show that it is likely to qualify as a "public charity". Then when it files its annual reports with the IRS in subsequent years it will need to show that it receives the necessary proportion of public support; the calculations are done as part of Schedule A of Form 990. (Form 990 is discussed in the Nonprofit FAQ at http://www.idealist.org/if/i/en/faq/57-95/62-42 .) Until 2008, the IRS required five years of operations before it would make a "final determination" about which category a new organization would fit into. This "advance ruling period" is no longer required. If, however, an organization receives funding from too few sources at some later point, it may be reclassified as a "private foundation." This possibility is why the "public support test" must be completed each year as part of the preparation of Form 990. Charitable SolicitationsMore than 30 states have laws that require some nonprofits and commercial fundraisers to register prior to conducting fundraising appeals and to report on the outcome of their fundraising efforts. If your organization plans to conduct any sort of fundraising that involves broad circulation of an appeal to the general public, you will need to review the laws that apply in every area where you will solicit.
Other Privileges and ExemptionsThere are special provisions for nonprofits in many state and local tax codes; in federal, state and local grant programs and government contracts; and in the requirements of foundations and other funders. The only way to learn about these opportunities (and the rules that apply to them) is through local research and developing good relations with other nonprofit organizations. Other requirementsAs you work on developing your new organization, be sure to ask state and local officials for any other materials that explain the rules governing hiring employees, employer payroll and unemployment taxes, registering for licenses and for sales and/or income taxes under state and local law (if any), and any other matters matters of interest for setting up and managing a nonprofit in your state. These may come from several different offices at both the state and local levels. There is no comprehensive resource for locating information on all these subjects. Here too, establishing connections with other nonprofits in your area and attending conferences, orientation sessions and seminars offered on these subjects by associations and by local and state officials will help you master the requirements. InsuranceNonprofit organizations are protected in some states and by federal laws from some sorts of judgements. This protection is not absolute, though, and proving that it applies (when it does) can be expensive. As a matter of prudence, therefore, and also to assure recompense to injured parties from inadvertantly caused harm, most nonprofits purchase insurance that provides for legal defense and payment of judgements if they are imposed. There are several kinds of insurance that might be useful and policies differ greatly in the protections they offer. Careful study is necessary. Further Resources
Completely revised, expanded and updated, 8/3/05; small changes and a revision explaining that advance rulings are no longer being made as of 9/9/08, 9/11/08 -- PB |