Start a Nonprofit Corporation

Nonprofits under IRC Section 501(c), which is divided into more than 20 subclasses, are the most prevalent types of Nonprofit Corporations. Within the 501(c) grouping, 501(c)(3) Nonprofit Corporations, organized and operated exclusively for charitable, religious, scientific, literary, educational, testing for public safety, or similar purposes, are the most common.  While most types of nonprofits can accept donations and grants, only donations to 501(c)(3) corporations are tax-deductible on donors’ tax returns.

Here’s a breakdown of the types of nonprofit organizations recognized by the IRS:

• 501(c)(3) — Charitable organizations
• 501(c)(4) — Social welfare organizations
• 501(c)(5) — Labor, agricultural, and horticultural organizations
• 501(c)(6) — Business leagues and similar groups
• 501(c)(7) — Social and recreational clubs
• 501(c)(8) — Fraternal beneficiary societies
• 501(c)(9) — Voluntary employees’ beneficiary associations
• 501(c)(10) — Domestic fraternal societies
• 501(c)(11) — Teachers’ retirement fund associations
• 501(c)(12) — Mutual or cooperative utilities and related groups
• 501(c)(13) — Cemetery companies
• 501(c)(14) — State-chartered credit unions and mutual reserve funds
• 501(c)(15) — Mutual insurance companies or associations
• 501(c)(16) — Cooperative organizations financing crop operations
• 501(c)(17) — Supplemental unemployment benefit trusts
• 501(c)(18) — Employee-funded pension trusts (trusts created before June 25, 1959)
• 501(c)(19) — Veterans’ organizations
• 501(c)(21) — Black lung benefit trusts
• 501(c)(22) — Withdrawal liability payment funds
• 501(c)(25) — Title-holding corporations or trusts with multiple parents
• 501(c)(26) — State-sponsored high-risk health coverage organizations
• 501(c)(27) — State-sponsored workers’ compensation reinsurance organizations
• 501(c)(28) — National Railroad Retirement Investment Trust
• 501(c)(29) — Qualified nonprofit health insurance issuer
• 501(d) — Religious and apostolic associations
• 501(e) — Cooperative hospital service organizations
• 501(f) — Cooperative service organizations of educational organizations
• 501(k) — Child care organizations
• 521(a) — Farmers’ cooperative associations

After forming a Nonprofit Corporation, its organizers must file a form with the IRS to request a federal income tax exemption. CorpNet can assist you with your 501(c)(3) filing.

Along with the required state formation paperwork to register the nonprofit entity, you must also file Form 1023 with the IRS to request federal tax-exempt status. For a state tax exemption, you might need to file a separate state form.

Nonprofits can make profits, but they’re restricted on what they can do with those funds. Referred to as “surpluses,” all money above operating costs must be used to further the goals of the organization. Surpluses cannot be paid to the stakeholders.

Like other registered business entities, a Nonprofit Corporation is a separate legal entity with a corporate shield that protects its stakeholders from the organization’s legal and financial liabilities. If lawsuits arise, stakeholders are typically immune from individual liability as long as the entity maintains compliance with all applicable rules and regulations.

Most legal issues revolve around the loss of tax-exempt status due to misuse of the nonprofit, either through inappropriate gains or improper distribution of surpluses. A successful challenge to nonprofit status will remove the corporate veil protection and allow liability to transfer to individuals in the organization.

A Nonprofit Corporation has no owners, shareholders, or equity holders. Instead, it has a board of directors to govern the organization. Each state has its own set of rules for who may serve as board directors and officers, and requirements for the allowable minimum and maximum number of board members. No directors, officers, or other stakeholders have ownership interests in the nonprofit’s assets or profits.

Yes, if individuals work for the nonprofit, they may be placed on the organization’s payroll and receive reasonable compensation for their services.

No. Nonprofits do not have the option to file for an S Corporation election. Because a nonprofit has no individual owners, passthrough taxation isn’t possible. Only for-profit Corporations may be S Corporations.

While a tax-exempt nonprofit does not pay taxes, it must submit regular filings with the IRS to monitor the organization. States also might require a nonprofit to submit an information return.

Because loss of tax-free status has so many tax consequences, a nonprofit organization must keep accurate and up-to-date records.

Some income earned by a nonprofit may be taxable, depending on the source of the income and applicable federal and state rules.

While exempt from federal income tax on income related to the nonprofit’s exempt purpose, revenue from activities that are not substantially related to the organization’s exempt purpose may be considered “unrelated business income” and therefore be subject to tax.

Here are a few “unrelated business income” scenarios where an otherwise tax-exempt nonprofit entity might need to pay tax on certain revenue:

• A nonprofit hospital operates a for-profit medical supply store that sells products to the general public. Income from those product sales will likely be taxable because it’s not directly related to patient care.
• A private school runs a public bakery or café, and the operation does not function as part of a student education program. Income from those retail sales would be taxable because they are not substantially related to the organization’s mission.
• A food bank sells mugs, hats, t-shirts, and other branded merchandise through an online store. Because those sales are not tied to donor education or the promotion of the organization’s mission, they would likely be taxable.

Various factors, including the nature of the activity and its frequency, play into whether income from a particular revenue stream is taxable.

Yes. States require Nonprofit Corporations to designate a registered agent with a physical address in the state of incorporation to accept legal and government notices on its behalf. When registered to conduct operations in multiple states (known as foreign qualification), a nonprofit must have a registered agent in each state in which it is foreign qualified.

A Nonprofit Corporation must fulfill various compliance requirements to keep it in good standing and retain its tax-exempt status. States’ rules vary. Generally, ongoing compliance usually includes: maintaining a board of directors, maintaining a registered agent, following the organization’s bylaws, holding board meetings and recording minutes, keeping corporate records, filing annual reports, filing annual or periodic reports with the state, submitting IRS Form 990-series returns (if required), and operating consistently with the organization’s exempt purpose.