To Be or Not To Be a 501c3 Organization March 2016 D’Ann Johnson Texas C-BAR

Questions to Consider in Forming a Nonprofit

Questions to Consider in Forming a Nonprofit Is the organization necessary? Are there competing organizations that are already providing this service? What is the primary community that will be served? Is there a strong commitment from the organizers and participants to build the organization?

Questions to Consider What are the goals of the organization? Should we form a separate organization or be a part of another organization? What form of organization is best? Will the organization want to engage in political activity? Will the organization engage in activities that will subject directors to liability?

More Questions to Consider What are the group’s resources? Volunteers, property, equipment, capacity? What will the financial needs include? What type of fundraising will the group do? Who will handle the reporting obligations? Is this a long-range project or will the group dissolve after a certain time? Do you want to hire employees?

What is a Nonprofit? A nonprofit is an artificial person. It has a board of directors. The board has legal responsibilities to manage the affairs of the nonprofit. A nonprofit can: Buy and sell Borrow and lend Sue and be sued.

True or False. The following are characteristics of a nonprofit: Limited Liability. Formal meetings. Private benefits for officers. Record-keeping requirements. Tax-exempt donations. No profit motive. Public record disclosure. Tax-exemptions. Unlimited political activity.

Advantages of a Nonprofit

Advantages of a Nonprofit Limited liability for board or members. Income earned in furtherance of exempt purposes is tax free. Contributions made to organization are tax free. Life of organization is perpetual. Qualify for grants. Lower postal and advertising rates. Free public service announcements/internet space. Can enter contracts or borrow money. Franchise, sales, and property tax exemptions.

Disadvantages of a Nonprofit Corporate governing documents. Formal filing of IRS Form 1023. IRS filing cost of $400-800. Organized and operated for tax-exempt purposes. Public disclosure requirements. Annual reports. Increased government regulation and more formal procedures.

Other Corporate Options For-Profit Corporation Unincorporated Association Fiscal Sponsorship

Steps to Incorporate Choose a name and check if it is available with Secretary of State Draft Cert of Formation and file with SOS Draft Bylaws Hold organizational meeting Obtain Federal EIN File IRS Form 1023

Choosing a Name Check the availability of the name with the Secretary of State The name cannot be deceptively similar to the name of another corporation Reserve the name or file the Certificate of Formation with the Secretary of State

Texas BUSINESS ORGANIZATIONS CODE What you need to file Certificate of Formation: 1 incorporator 3 directors 2 officers 1 registered agent $25

Certificate of Formation Certificates are like a birth certificate-a very important document for the organization. Who will run the organization: directors or members? Make sure the purposes reflect your mission and include the language necessary for state and federal tax exemptions. Is the duration of the organization perpetual?

Bylaws-the Rules of the Organization Provisions for membership Provisions for governance Number of Directors Officers Provisions for conducting business Committees Meetings Voting Provisions for amending Provisions for liability protection

IRS Form 1023 A nonprofit is not tax-exempt unless it has less than $5,000 a year in income or files Form 1023 and obtains a tax- exemption ruling from the IRS.

Charitable Purposes

What Organizations Qualify for Federal Tax Exemption Under IRC Section 501(c)(3)? Must be organized and operate exclusively for purposes set forth in Section 501(c)(3) Charitable Educational - Religious Scientific - Testing for public safety Literary - Prevention of cruelty to children or animals Amateur sports competition

Charitable Purposes Include: Relief of poor, distressed or underprivileged; Lessening neighborhood tensions; Elimination of prejudice and discrimination; Lessening the burdens of government; Defending human and civil rights; and Combating community deterioration and juvenile delinquency.

Organizations that Failed to Obtain Tax-Exempt Status An organization whose purpose was to increase business in a deteriorated, minority neighborhood by creating PSAs, a speaker’s bureau, operating a telephone service providing information on shops and transportation

Organizations that Failed to Obtain Tax-Exempt Status An organization whose purpose was to revive retail sales in an economically declining area by purchasing land for the construction of a retail center. The land was sold to city without any economic benefit to organization; minorities must be used in construction and operation of center, and stores had to employ certain percentage of minorities.

Pointers on Purposes Clauses Some descriptions may be too restrictive to allow a nonprofit to expand its mission. If the organization carries on a trade or business for profit, an exemption may be denied even if profits are expended on an exempt purpose. Income not substantially related to the exempt purpose may be subject to taxation.

The Narrative is Important Describe the activity in detail State when the activity will start and how, when, where, and by whom it will be conducted Identify requirements to receive services If there is a fee, explain the amount and the basis for it State goals Note percentage of time and funds spent on activities

How to Qualify as a Public Charity Publicly supported organization or Support test

Publicly Supported Organizations Broad-based solicitation program Broad-based support Representative governing body Availability of facilities or services to public Receives funds from: Government grants (1/3 test) Corporate contributions Individual donations

Must receive more than 1/3 of total support each year from: Support Test Must receive more than 1/3 of total support each year from: Gifts, grants, contributions, or membership fees; and Gross receipts from an activity related to the exempt purposes of the organization; and Cannot receive more than 1/3 of income from unrelated business or investment income.

Two Important IRS Rules Political activity cannot be a substantial part of the activities of the organization. Activities must not personally benefit directors, officers, or members.

State and Local Tax Exemptions Not automatic-you must apply State sales, excise, and use tax Hotel occupancy tax State franchise tax Local property taxes-for land and office equipment (real and personal property)

Board of Directors & Governance Issues Separation of board/staff responsibilities Accountability D&O/Gen. liability insurance Key governance issues The pain-in-the-neck board member Conflicts of interest

Maintain Corporate Formalities Record keeping Financial report Meetings Standards of Duty In good faith, With ordinary care, and In the best interest of the nonprofit.

True or False A nonprofit cannot engage in political activity. All contributions to a 501c3 are tax- exempt. All income earned by a nonprofit is tax free. Nonprofit directors have limited liability.

Political Activity A nonprofit can engage in some political activity if it is not substantial.

Contributions Quid pro quo contributions are not tax-exempt.

Income Unrelated business income is not tax exempt.

Limited Liability Directors are liable for actions not taken in good faith and in the best interest of the nonprofit, loans to directors, excess benefits, and unpaid federal withholding taxes.

www.texascbar.org Djohnson@texascbar.org