LLC 501C3: Everything You Need to Know
An LLC 501(c)(3) is a nonprofit limited liability company. A limited liability company, or LLC, is a legal entity owned by one or more members that can be formed for a wide range of reasons, including charitable purposes.3 min read
2. IRS Requirements for a Tax-Exempt LLC
3. Common Uses of a Subsidiary LLC
4. How to Form a 501(c)(3) LLC
An LLC 501(c)(3) is a nonprofit limited liability company. A limited liability company, or LLC, is a legal entity owned by one or more members that can be formed for a wide range of reasons, including charitable purposes. A major advantage of an LLC is the protection it offers its members from liability such as debts of the LLC.
LLC Law Varies by State
While many states do not recognize a nonprofit LLC, there are tax-exempt LLCs. These are typically called "nonprofit limited liability companies." The most common type of nonprofit is a corporation, and it is formed under and regulated by the state in which it is founded.
You can establish a nonprofit corporation by filing Articles of Incorporation with your state's registrar. Most states require that your corporation have a board of directors to determine how the corporation will operate.
The Internal Revenue Code allows corporations to seek nonprofit status under regulation 501(c)(3). This allows the company to avoid federal income tax and allow its donors to deduct their contributions from their income tax. In addition, many states allow nonprofits exemption from sales tax, property tax, and various other state taxes.
While federal law currently does not allow nonprofit LLCs, it does allow an LLC to be a subsidiary of a nonprofit corporation. Most states do not allow nonprofit LLCs, although Kentucky, Minnesota, and Tennessee are notable exceptions.
IRS Requirements for a Tax-Exempt LLC
The IRS requires the following:
- An organizational document, including a statement limiting the LLC's operations to one or more exempt purposes
- Language specifying that the LLC operates solely for the charitable purposes of its members
- Language specifying that the LLC's members are 501(c)(3) organizations or government entities
- Language forbidding transfer of membership to anyone other than a 501(c)(3) or government entity
- Language stating the LLC, assets of the LLC, and/or any non-membership interest in the LLC can only be transferred to permitted parties for fair market value
- A statement guaranteeing the LLC's assets will be used for charitable purposes upon the dissolution of the LLC
- An agreement stating that any amendments to the LLC Articles of Incorporation or Operating Agreement will be consistent with 501(c)(3) law
- A prohibition against merging with a for-profit entity
- A prohibition against allowing members who are not 501(c)(3)s or government entities to hold assets
- An allowable contingency plan in case a member ceases to be a 501(c)(3) or government entity
- A guarantee that the members will enforce all of their rights and use all legal options to protect their interest in the LLC
- A statement promising that all LLC bylaws are consistent with enforceable state laws
Common Uses of a Subsidiary LLC
One common use of a subsidiary LLC is to hold land. This is typically done with toxic brownfields; the subsidiary allows the nonprofit corporation not to be liable. Another use is to own public service vans, such as a breast cancer charity's LLC owning a mobile mammography van. That way, the charity will not be liable for uninsured expenses.
An LLC can also be used to do the following:
- Protect the nonprofit from liabilities and risks of the LLC's activities or assets
- Operate businesses not related to the nonprofit's tax-exempt functions
- Operate a joint venture with one or more other entities
- Allow Model L fiscal sponsorship
How to Form a 501(c)(3) LLC
If you wish to operate a 501(c)(3), you must first file Form 1023 or Form 1023EZ and establish a corporation. You will then receive a tax determination letter from the IRS. The letter, which can be retroactive, allows donors to deduct their donations from their taxes. You may then form an LLC to hold assets. The LLC may or may not be exempt from state taxes regardless of what the IRS rules.
Just like a person, an LLC can engage in social good. Though it may be tax-exempt while not being a 501(c)(3), the net income will be attributed to the owner(s) and may be taxable. An LLC, unlike a nonprofit, can make donations to for-profit corporations, work with for-profit corporations, or make political contributions, all of which are forbidden for 501(c)(3)s.
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