501(c)(3) – Is it the Right Fit for You?
Thank goodness for non-profit organizations! So many exist and they do wonderful things for our communities, our neighbors, veterans, pets, and more. At Levesque & Associates, we have the pleasure of working with multiple non-profit organizations and enjoy being part of the good work – even if it’s just taxes and bookkeeping – that these people do. We are often approached by clients who are interested in starting a non-profit organization of their own. What most people do not realize, however, is that becoming a non-profit is not as simple as filling out a form and then making donations or contributions. If you have considered establishing a 501(c)(3) and operating as a non-profit, there are many things you should consider. Speak with your CPA or lawyer to make sure this is the right fit for your goals and to be sure the appropriate steps are taken.
Steps to becoming a non-profit organization
- Choose a name for your nonprofit corporation (check with the Secretary of State to make sure the name is not already in use).
- File “articles of incorporation” with your state. This step must include specific language to make sure that you receive the tax-exempt status you are seeking. Some states may offer specific information via a packet to help you with this step.
- Apply for a federal tax ID number (EIN).
- Apply for tax-exempt status with the IRS (Package 1023). You must submit the application along with a copy of your filed articles of incorporation. Some non-profits may be able to use a simplified version of the application.
- Apply for tax-exempt status with your state (not applicable in all states). Some states will automatically grant tax-exempt status after you’ve filed your articles of incorporation and received federal tax-exempt status.
- Draft your corporation bylaws.
- Appoint directors. These individuals will make policy decisions and adopt the bylaws.
- Obtain any necessary licenses or permits for your type of business (state and county specific).
*Some states may have additional requirements which is why it is recommended that you work with a professional to ensure compliance.
Once you’ve earned your non-profit status, the work isn’t over. There are requirements to maintain the 501(c)(3) status. Failing to comply with requirements can lead to fines and, for many organizations each year, loss of 501(c)(3) status. The IRS regularly reviews the activities of non-profit organizations to ensure that they are continuing to do the work that originally earned them the 501(c)(3) status.
The IRS generally requires exempt organizations to file an annual report. Some states may require annual or biannual reports as well. 501(c)(3) organizations must also file a specific tax return each year (form 990). While non-profit organizations are exempt from certain taxes, most must still pay any employment taxes, taxes on unrelated business income, as well as some state and local taxes. Depending on the activity of the organization, these tax returns can become quite complex. If an organization fails to file the appropriate return three years in a row, tax-exempt status will be revoked. If you do not have any activity, you must still file a return (called a Zero Return).
Regular meetings of the Board of the Directors are also expected and meeting minutes should be created any time the board meets to discuss policies, procedures, changes, etc. One item that is the responsibility of the board is the determination of pay and benefits for the Executive Director and any other key employees. The compensation must be reasonable and comparable to amounts paid by comparable organizations. This item is often the primary focus of the IRS for exempt organization audits. The discussion of pay and benefits as well as the process used to make these determinations should be well documented.
If the functions of your 501(c)(3) change, you must notify the IRS. Sometimes organizations begin with a need in mind but overtime the focus shifts or they find another area in which they feel they can be more impactful. If this happens, you must notify the IRS that the focus of your organization has changed or risk losing non-profit status.
You may feel like everything in your 501(c)(3) is streamlined, but take note that record keeping and tax filings are not easy (or cheap) for non-profits and those unexpected expenses will consume a portion of the funds you intend to donate.
*If you’re not an entity and are looking for more control over where your contributions can go, call us to discuss other options for contributions including Charitable Remainder Trusts and Donor Advised Funds.