The Nonprofit FAQ

Who can benefit from a nonprofit's activities?

Someone wrote in usnonprofit-l (in July 1994): Non-profits are organizations and no individual or group is supposed to benefit financially from the activities of the organization. Putnam Barber answered: I think this comment would be stronger if it said that no-one involved in the organization is supposed to benefit /personally/ from its activities. The issue is confused because we use the word "benefit" for so many purposes in talking about nonprofits (no-one objects, do they, to the "employee benefits package"?). Because the issue is confused, observers have tended to follow the language of the IRS code and speak technically of "a prohibition against private inurement." /Inurement/ is a an old-fashioned word for getting used to something. We've seen it in the common phrase "become inured to" a wrong. It's been extended in this special context to mean something like "enjoyment of ill-gotten gains." The lawyers, accountants and tax-agents have struggled mightily trying to come up with clear and consistent standards in this area but is much confusion and dispute still. In my state (Washington), most nonprofit corporations are (1) not allowed to have stockholders and (2) "no part of" their "income" may be distributed to "members, directors or officers." I know this thought is not what the original comment was pointing at, but it's still important to recognize that /of course/ individuals (people who get scholarships from foundations, for example) and groups (apple growers who benefit from the work of the Apple Commission, for another example) "benefit financially" from the work of nonprofits. The prohibition on "private inurement" is designed to bar an organization from using tax-exempt (donated!) income exclusively to grant scholarships to the children of its board members, or to prevent suppliers from taking control of a trade association and controlling the selection of printers, insurance companies, etc., so that only the suppliers who are in on the deal can get the association's business. I believe a major part of the difficulty that infects this whole discussion is that people tend to go at it "negatively" -- trying to describe what is /not/ permitted -- rather than affirmatively focusing on the goal. What is supposed to happen is that a group of people get together with some public-spirited purpose and agree to marshal resources from among themselves and the wider community to be used to address that goal. Laws and regulations get into the story at three points: 1. States allow people to form nonprofit corporations because it's useful to all of us to make it easier for people to work together in this public-spirited way. We don't have to worry too much about exactly what they're doing or how they go about it as long as its their own money they're using and all of it goes to the public purpose. 2. Many state governments (though not all) and the federal government have over the years identified some "public-spirited purposes" as being worthy of further encouragement. Encouragement -- tax-exemptions and other benefits -- is given only to organizations which qualify. The rules for qualifying are often complicated and obscure. In Washington, there are 33,000 regular nonprofit corporations; 7,000 organizations (4,500 of them churches) have qualified for exemption from state-and-local property taxes. If you're interested in this topic in detail, NYU School of Law will send you for $9.50 a 120-page compendium of "Privileges and Exemptions Enjoyed by Nonprofit Organizations." Write room 205, 110 W 3rd St, NY, NY 10012. More than half of most pages in this useful book is used for references to laws, regulations and other sources. 3. If the organization solicits donations from the public, most states and the federal government get involved in (a) encouraging some sorts of donations to some sorts of organizations and (b) protecting donors from some kinds of scams and rip-offs. The familiar "section 501(c)(3)" is a reference to the section of the IRS code that allows certain organizations ("religious, charitable, scientific or educational" organizations, in the language of 1894 that survives to this day) to pass on to their donors a further benefit: the right to deduct the amount of the donation when calculating their /personal/ income taxes ("subject", of course, "to other provisions of the law"). Many states have laws that regulate "charitable solicitations" and try to ensure that organizations seeking donations from the public will do so in ethical ways and use the proceeds for public-spirited purposes. Whether or not an organization has been recognized by the IRS under section 501(c)(3), it is worth checking with /state/ authorities to be sure all the rules are understood and followed /before/ planning any serious fund-raising efforts that depend on soliciting donations from individuals.