There are many issues affecting society, and you can start a nonprofit in the US to solve some of these problems. There are more than 1 million nonprofits in the world and more than 10 million people are employed by nonprofits in the US. In the US, nonprofits receive donations totaling more than a trillion dollars in revenue and expenditures per year. In addition, nonprofits receive over 8 billion hours of volunteering time, valued at more than $150 billion per year.
However, despite all of the donations and volunteer hours that nonprofits receive per year, there are still a lot of problems that exist in this world and there is plenty of room for individuals to solve some of these problems. Starting or participating in a nonprofit is a great way to help. In the US, the 501(c)(3) public charity is one of the most used types of nonprofit in the U.S.
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What is a Nonprofit?
It is important to understand what a nonprofit is. A 501(c)(3) public charity nonprofit covers a wide variety of nonprofits such as museums, hospitals, organizations that focus on child welfare, animals, the environment, religious organizations, and many other things.
A nonprofit is run similar to any other business. Both a regular business and a nonprofit can pay their employees a salary or hourly wage. But, the fundamental difference is what they do with the profits of the business. When a regular business makes a profit, the profits are typically given to the owners of the business. But, when a nonprofit makes a profit, it reinvests the money back into programs and goals that support the mission statement of the nonprofit.
The First Step to Start a Nonprofit in the US is Incorporation
When you are looking to create a nonprofit in the US, one of the first things you want to do is incorporate the nonprofit as a corporation on the state level. For example, if you want to create a nonprofit in the State of Georgia, you’ll create a Georgia nonprofit corporation. The corporation is the legal entity for the nonprofit in the U.S. This is important because the corporation offers the board of directors limited liability where they potentially will not be personally liable for any potential lawsuits or trouble the nonprofit could have.
US Nonprofits must have Tax Exemption Status with Form 1023
Once a nonprofit has been legally organized as a nonprofit at the state level, you’ll then want to apply with the Internal Revenue Service (IRS) for tax-exemption status on the federal level. You can do this by filing the IRS Form 1023.
Form 1023 is a very detailed document and you don’t want to fill this document out in a day typically. Form 1023 will require you to explain the following:
- Financial data of the nonprofit,
- Independence of the board members, as discussed below,
- The compensation structure of the officers and directors,
- The purpose of the nonprofit, etc.
It is important to note that while you are waiting to hear back on being approved for your tax-exempt status, people can still donate to your nonprofit, and once you receive your tax-exemption status, the donors are entitled to tax deductions retroactively.
Once you receive your federal tax-exempt status, you can file for recognition of tax-exemption status with the State the nonprofit is incorporated in as well. This may help the nonprofit avoid paying income taxes on the state level as well.
Benefits of a Nonprofit
One of the main benefits the government allows for tax-exempt entities is that the nonprofit can generally avoid most income taxes on the federal level and the state level. A nonprofit’s tax-exempt status incentivizes individuals to donate to nonprofits because they can receive a tax deduction on their yearly taxes.
Some of the main benefits of being legally compliant as a 501(c)(3) include:
- The nonprofit will have limited liability, as we stated earlier, which will help protect the board members from being personally liable if something bad happens,
- Certain taxes will not have to be paid and the nonprofit can apply for grant money,
- You can get cheaper prices on your postage, and
- The nonprofit can potentially last forever.
Therefore, if you desire to help make a positive impact on society, a nonprofit is a great way to organize your goals and your ambitions. Once a nonprofit is created, it is important to create a Board of Directors.
The Board of Directors Will Make or Break a Nonprofit
When you’re starting a nonprofit, one of the first things that you need to do is understand the importance of your Board of Directors. The Board of Directors have a legal obligation to oversee the administration and management of the nonprofit. Most Board of Directors generally do not participate in the day-to-day management of the nonprofit, but they are legally required to monitor, guide, and ensure the nonprofit is employing good management practices. However, while the Board of Directors are not required to participate in day-to-day management, in many smaller nonprofits, many do.
What to Look for in Board of Directors
When you are picking your board members, it is important to have board members that can bring value to the nonprofit. Many times, nonprofits select Board of Directors that are celebrities or individuals with notoriety in the local community. However, these board members are very busy and do not have a lot of time to serve the nonprofit in a valuable way. Therefore, these individuals may not necessarily be the best to have as board members because they can’t monitor and guide the management of the nonprofit.
A quality Board of Directors comprises of individuals that are strong in areas where the nonprofit founders are not. For example, if the founder doesn’t have a strong background in accounting, it would be wise to add a board member with a strong accounting background.
In addition, adding a lawyer or someone with a strong legal background should be a priority for a nonprofit. A lawyer would be able to help ensure the nonprofit complies with the IRS rules to maintain the nonprofit’s tax exemption status. Maintaining the tax exemption status is very important. Without the tax exemption status, it would be very difficult to raise money because donors no longer have an economic incentive to donate to the nonprofit, and donors are no longer receiving the proper tax deductions.
In addition, the IRS may monitor the nonprofit’s events to ensure the nonprofit is advancing the mission statement that it told the IRS that it would be. A person with a legal background would help with this area as well as ensure that board members are following their fiduciary duties and avoiding conflicts of interest.
Board members have fiduciary duties to the nonprofit. Fiduciary duties explain the most fundamental obligations that a board member owes to the nonprofit. Some of the main fiduciary duties include the duty of care which shows the board has enough oversight and actively participates in the nonprofit, the duty of loyalty which shows the board members are avoiding conflicts of interest, and the duty of obedience which ensures the board members are acting in a way that is consistent with the mission statement of the nonprofit. Drafting a fiduciary duty checklist is a great way to ensure proper governance of the nonprofit and keep penalties from incurring.
The Board of Directors must follow their Fiduciary Duties and Avoid Conflict
Fiduciary Duties require board members to legally act in a responsible, honest, and efficient manner. The Meeting Minutes are an excellent way for the board members to show they are following their fiduciary duties. Many states require nonprofits to meet and the minutes can serve as the official record of what occurred at a meeting and show the board members are following the corporate bylaws as well.
Taking the minutes of a meeting is a skill that requires knowing what to leave out and what to include. This is why lawyers often serve as the secretary in many nonprofits, since a lawyer would know what to include and how to write in a way to shows legal compliance with the IRS.
When judging the actions of the board, board members are given a lot of leeway with the business judgment rule. The business judgment rule shields the board of directors and officers from liability as long as they are authorized, acting in good faith, and in the best interest of the nonprofit. The business judgment rule is a major reason why nonprofits should be incorporated.
Board members must also act independently by doing one of the following two things: 1) Ensuring they are not related to another board member, officer, or employee and 2) not being paid as an executive. However, at smaller nonprofits, board members typically serve in executive roles such as the president or treasurer because there are not enough capable and willing people. If a board member is paid to serve in one of these roles, then the person can help minimize the potential for conflict of interest by ensuring that in meetings that pertain to staff compensation, that board member is not present when they are talking about their income. Please ensure this is noted in the meeting minutes.
The IRS Considers Inurement Illegal
While the nonprofit is avoiding conflict of interest, it should also avoid private inurement. Private inurement is where board members or officers use their position to influence the use of the organization’s assets for their personal gain and to the detriment of the nonprofit. Private inurement can occur in many ways including the following.
- Business transactions of the nonprofit with a board member or an executive where the board member is buying goods or services on terms that are overly favorable to the board member or the executive,
- There is a very high, above-the-market compensation or salary given to the board member or the executive, or
- The nonprofit gives low or no-interest-rate loans to a board member or an executive.
If a nonprofit participated in inurement, it will be in violation of the IRS rules and will likely lose its tax-exempt status. Without tax-exempt status, donors will not want to donate as the donors will no longer receive a tax deduction. Nonprofits must avoid inurement and other forms of bad acts. This can be accomplished by having adequate policies and procedures.
Board Members can be Compensated
The compensation for the Board of Directors should be fair and comparable to other similar nonprofits. It should be approved by independent directors, and documented in the meeting minutes. The compensation of everyone in the nonprofit should be reviewed regularly by an audit committee.
It is critical to understand that the Board of Directors are very important for any nonprofit and they should be selected with care because they can either add value or devalue a nonprofit.
Policies and Procedures help a Nonprofit function Properly
Policies and Procedures are very important in any business, including nonprofits. They introduce proper controls to ensure the nonprofit has written instructions and guidelines, so the business can operate without being dependent on any one person. They also help ensure the board of directors and the nonprofit are following good governance practices. Some of the policies and procedures may include the following:
- Conflict of interest policy,
- Whistleblower policy,
- Document retention and destruction policy,
- Gift acceptance policy,
- Joint venture policy, etc.
Fundraising for a NonProfit can be done with a Proper Strategy
Every business must generate revenue to survive and have sustainability, and a nonprofit is no exception. While many people mistakenly do not consider a nonprofit an actual business, it is a business. A few of the main differences between nonprofit and for-profit businesses include:
- A nonprofit differs in that the nonprofit uses any profit on programs that support its mission statement it told the IRS, while a regular business can distribute the profit to the owners of the business.
- The owner of a regular business may get paid twice (e.g., a salary and profits given to the owner). The founders of a nonprofit can not receive profits from a nonprofit.
- A nonprofit can receive money (e.g., donations and grants) and generally do not have to pay federal income taxes on the money.
Most nonprofits fundraise to bring in revenue for the nonprofit. They typically come in the form of donations and grants from a variety of sources.
Nonprofits should Raise Funds from its Board of Directors
One of the first fundraising strategies is to raise money through the nonprofit’s Board of Directors. When starting a nonprofit, as discussed earlier, you want to have a board of directors. The board oversees the administration and management of the nonprofit and these are the people that typically want the nonprofit to be successful. Therefore, it is common to have the board members donate to the nonprofit. This fundraising requirement is often included in the Board Members Agreement when the board members agree to become a part of the nonprofit’s board. You can find a sample Board Member’s Agreement here.
While many nonprofits require the board to make a sizable donation once a year, another strategy is to have the board members make small monthly donations. If the board members are not willing to give, then it may be time for a cultural change and the board chair should start having some tough conversations with some of the board members.
Family and Friends May Contribute to your Nonprofit
Friends and family are great sources to donate to your nonprofit because you should have an inherent comfort with approaching them for money. These are the people that want you to be successful, likely more than any other group of individuals.
It is very important to treat your friends and family with the same amount of respect that you would treat a high-net-worth individual or a foundation, when you are asking for money. Many of your family and friends probably are already given money to nonprofits such as religious organizations. Therefore, these individuals already have the willingness to give, and likely are willing to donate to your nonprofit.
Donors benefit by giving because their donations are tax-deductible. Charities that receive donations of $250 or more are required by law to provide the donor with a receipt. The law nor the IRS does not have a set requirement or standard format for the receipt. However, generally, you want to include the following:
- Donor’s name,
- Date of the donation,
- Donation amount, and
- Whether any goods or services were exchanged.
If a person is donating items such as clothing, you should include a line for the description of the items and the fair market value of the goods.
You can find a sample donation receipt here.
Fundraising Events should be Low in Effort and High in Donations
Fundraising events are a great way to raise funds for your nonprofits. However, fundraising events can be expensive and require a high amount of effort, while only generating a low amount of donations. In addition, planning the events can take you away from the charity’s mission. The best kind of events are low in effort and high in donations.
Breakfast fundraisers are great events to host because the breakfast is less expensive and you don’t have to have appetizers, entrees, and desserts. Alcohol is not required, and the events are shorter since individuals have to go to work. Invite an exciting speaker and the nonprofit could bring in new donors. You may even invite some of your donors to present on a topic.
Fundraising in many ways is the lifeblood of a charity and it is important to have both a marketing and legal strategy when planning these events.
Foundations give Grants to Nonprofits Every Year.
Foundations in the U.S. are required by law to give away money (e.g. grants) every year. Your nonprofit should apply for grants from foundations that support your nonprofit’s mission statement.
These foundations can be found by monitoring nonprofits that have a similar mission statement as yours. Every year, U.S. nonprofits are legally required to file Form 990, a tax form that discusses the nonprofit’s financial information. You can request Form 990 and Schedule B of the nonprofits that are similar to yours. On this Form 990, you will see the foundations and agencies that gave them money, and then you can apply to those foundations and potentially start receiving grant money from them.
Wills and Trusts leave Money to Nonprofits
There are many other sources of donations including planned giving where individuals leave sums of money in their wills and trusts for nonprofits when the person passes away. Asking major donors to increase their contribution is another way for nonprofits to fundraise.
In addition, there are many tools for nonprofits to use such as the donor pyramid, which helps nonprofits to take donors from the bottom of the pyramid where many small donors are to the top where larger, but less frequent donations are made. Donor databases also help facilitate regular communication with nonprofits, and social media is a great way to show the activities of the nonprofits and seek donations.
Overall, a nonprofit is a great legal entity that can help individuals all over the world. It is important for nonprofits to be strategic and have an actual plan for how they are going to cultivate donations. Nonprofits that follow sound legal strategy will be set to inspire and change the world for the better.