“TO BE or NOT TO BE (501c3), That Is The Question”, Shakespeare

The question of nonprofit 501(c)3 status

The differences between not for profit organizations and for profit businesses are becoming less distinct due to the increase in the establishment of “social enterprises”. This raises the question for many founders of what the form of their organization should be: for profit; not for profit without 501(c)3 status; or nonprofit with 501(c)3 tax status.

This question arises when a for-profit company has in its mission to contribute to society in a way that historically fell to government or nonprofit organizations. At the same time, nonprofit organizations are finding that selling products or charging for services is required for financial survival due to the changing donation environment. This discussion examines three key factors to consider when deciding whether an organization should become a 501(c)3 or not.

When Should I Do It?

The first consideration is based on timing. An organization can obtain 501(c)3 status at any time, not just when it is established. Factors to consider in this respect are cost and time required to obtain this status.  Addition concerns are regulations applying to 501(c)3 status, control of the organization, and tax considerations. Additionally, organizations are registered at the state level as a for-profit or nonprofit organization which determines their LEGAL regulation which falls to the States. Conversely, the federal regulation of organizations primarily involves taxation and fair trade issues. 501(c)3 issues fall solely in the area of federal tax regulations. The decision may be to delay federal filing until the organization becomes more established and able to deal with the administrative requirements.

When Don’t I Need 501(c) 3 Status?

The second consideration should be based on the sources of funding and the use of funds. Organizations with gross revenue under $5,000/yr. do not need to file for 501(c)3 status at all. If funding for the organization is not anticipated to come from large donations from nonprofit foundations, or private donors, 501(c)3 status may not be helpful. Further, if the founder wishes to control the use of funds for expenses, investment or retention as profits, 501(c)3 would pose unwanted restrictions on the ability to do this. This needs to be considered for both short and long term time frame of the organization.

Loss of Control Of a 501(c) 3 organization:

The third consideration is who will have control of the organization. The Board of Directors of a 501(c) 3 organization has fiduciary responsibility, which means control of funds received and expensed by the organization. The Board is also precluded from being paid for their services. Therefore, if a founder wishes to be paid by the organization as the Executive Director or CEO, for example, they will not be able to serve on the Board of Directors and will not have total control over the use of funds without Board approval. This loss of control of the strategic direction of the organization and use of funds is often a determining factor in deciding not to obtain 501(c)3 status.

How To Make The Decision:501(c)3 IRS status

Individuals or groups starting a social enterprise should seek the advice of an appropriately trained attorney and tax specialist to decide which of the three organization structures is best for them:
– For-profit company under both state and federal regulations
– Non-profit organization under state regulation but not IRS 501(c)3 status,
– Nonprofit organization under both state and federal regulations.

To get more information on starting and managing your nonprofit, contact arthelmstetter@b2bplanner.com or call 937-985-0481.

References:

State of Ohio:http://www.ohioattorneygeneral.gov/Files/Publications-Files/Publications-for-Non-Profits/NonprofitHandbook

Federal Regulations: https://www.irs.gov/charities-non-profits