1. Nonprofit Corporation: Everything You Need to Know
2. Benefits of a Nonprofit Corporation
3. Disadvantage to Nonprofits that are Tax Exempt
4. Nonprofit Incorporation
5. Frequently Asked Questions

Nonprofit Corporation: Everything You Need to Know

A nonprofit corporation is created for a non-profit purpose, which means that it is created to help the general public. While it does not need to benefit everyone, it must benefit a group of people, which can include the animal population, a specific geographical area (i.e. park, neighborhood, etc.), those suffering from a particular disease (i.e. cystic fibrosis, down syndrome, etc.), veterans, the homeless, etc. The purpose of the corporation is to raise the funds to help those specific people that the corporation was created to benefit.

Benefits of a Nonprofit Corporation

There are many benefits to establishing a nonprofit corporation, one of the most obvious being the tax benefits. Most nonprofit corporations enjoy tax deductions, particularly those operating as 501(c)(3) corporations. Nonprofit corporations falling under this category are not required to pay corporate income tax, and similarly are exempt from paying other local and state taxes that other companies otherwise have to pay. Other benefits to operating a nonprofit corporation include the ability to apply for grants and limited liability for the members. A nonprofit corporation can apply for both private and public grants. Therefore, the nonprofit can reach out to the public, other charities, and even private entities to solicit donations. In terms of limited liability, creditors are limited to the assets of the nonprofit. Therefore, if creditors are owed money above and beyond what the nonprofit has, they cannot hold the members, directors, managers, or employees of the nonprofit personally liable for the outstanding debt of the nonprofit.

Disadvantage to Nonprofits that are Tax Exempt

Some disadvantages to incorporating includes:

  • Incorporating a nonprofit means more paperwork, additional fees and requirements, and additional regulation by the IRS.
  • Filing for incorporation and tax-exemption can be complex, time-consuming, and a bit more costly than not incorporating at all.

Nonprofit Incorporation

Once a nonprofit incorporates as a corporation, it must abide by the states laws in which it incorporates, which can also include tax requirements. With that being said, however, most nonprofits, including those that qualify as a 501(c)(3), are exempt from paying state or local taxes. But while the nonprofit corporation is exempt from paying taxes, the incorporated nonprofit must abide by the other requirements for formation, including drafting bylaws, filing the articles of incorporation, hiring a board of directors, obtaining an Employer Identification Number (EIN), and holding the initial meeting that establishes the structure and operations of the nonprofit. In every aspect, the nonprofit must abide by all formation requirements, as any other business would do. The only difference is that the nonprofit can generally benefit from greater tax benefits. Therefore, ensure that you are aware of all of the tax benefits and deductions that can help your nonprofit save money and continue running smoothly.

In addition to incorporating, nonprofit companies can in fact be established as LLCs in some states, including Delaware, California, Michigan, Minnesota, and Texas. Be mindful that, if you choose to operate your nonprofit as an LLC, you’ll want to ensure that your nonprofit is treated as a corporation for taxes purposes to be exempt from paying income tax, sales tax, and property tax. Most other states do not allow nonprofit corporations to operate as LLCs as those states believe that these types of organizations don’t necessarily have an economic purpose but are rather charitable organizations that operate for the benefit of the general public.

Frequently Asked Questions

You may have several questions pertaining to nonprofit corporations, as well as the steps to take for applying for tax-exempt status. Below are some questions to assist you in your quest for either establishing a nonprofit, or determining whether or not to incorporate your nonprofit organization.

1.     How can I apply for nonprofit status?

First and foremost, you may want to hire an attorney who is well versed in this area to help you through the process. You’ll want to think about the purpose of your organization, and if it makes sense to establish your nonprofit at this time. You can choose to incorporate your nonprofit as a corporation (or an LLC in some states), remain an unincorporated organization, or set your nonprofit up as a trust. You’ll also need to determine, if you do incorporate, what states to incorporate in, if more than one.

2.     How can I apply for tax-exempt nonprofit status?

You’ll need to first determine whether or not you are in fact tax exempt. It’s probably best to hire an attorney to assist you during this time. Your attorney can help you conduct preliminary research regarding the chances of your nonprofit becoming tax-exempt. Be mindful that, if you don’t currently establish a nonprofit, you’ll need to establish a nonprofit organization and take all steps necessary to register within the state you choose.

3.     Are all nonprofit organizations tax exempt?

No, not all nonprofits can claim an exemption on taxes. For example, some charitable organizations choose to be unincorporated nonprofits thereby excluding them from a tax exemption. Furthermore, small or temporary charitable activities do not qualify for tax-exempt status. The following three tests must be met in order for a nonprofit benefit from the tax-exempt status:

  1. Organizational test. A nonprofit must be organized in a manner to benefit the public in some way or another. This can include any number of charitable groups that benefit education, religion, the prevention of cruelty to children or animals, amongst several other categories.
  2. Political test. A nonprofit cannot participate in a political campaign or spend money for political reasons.
  3. Asset test. The nonprofit must indicate that it will not allocate any assets for personal gain to anyone, including employees, supporters, relatives, or any other related person.

4.     What exactly does a tax exemption mean?

Tax-exempt status provides a nonprofit organization from paying corporate income tax on income earned from activities related to the purpose of the organization. As previously noted, a nonprofit is not automatically exempt from paying federal or state taxes. It is a benefit in which a nonprofit must meet three different criteria in order to benefit. However, some states allow tax-exempt status, even if the organization does not meet such requirements for federal tax-exempt status.

5.     When should and when should I not apply for nonprofit tax-exempt status?

There are times when your nonprofit should in fact claim tax-exempt status, including times when your nonprofit can meet the required criteria. If your organization is committed to remaining in existence and helping a category identified in the tax codes (which specify 29 categories of nonprofit organization), then you should apply for such a benefit. Furthermore, if your nonprofit plans on applying for grants on a consistent basis, then you’ll want to apply for a tax exemption.

However, you will not want to apply for tax-exempt status if you are unsure whether or not the nonprofit will continue business. Furthermore, if your organization doesn’t need the financial assistance, then you may not need this benefit. Lastly, if a fiscal agent is willing to handle all grant applications, then you will not need to file for tax-exempt status.

If you need additional help learning more about incorporating a nonprofit, or you are unsure whether or not you should establish a nonprofit, you can post your legal need on UpCounsel’s marketplace. UpCounsel accepts only the top 5 percent of lawyers to its site. Lawyers on UpCounsel come from law schools such as Harvard Law and Yale Law and average 14 years of legal experience, including work with or on behalf of companies like Google, Menlo Ventures, and Airbnb.