Although there are pros and cons to incorporating at the state level for charitable nonprofits, or 501(c)(3)s), the charitable organizations that do incorporate do so because of advantages ranging from tax breaks to legal protections to make it easier to secure federal tax-exempt status.
Nonprofit incorporation is very similar to creating a for-profit corporation. However, nonprofit corporations take the extra step of applying for tax-exempt status with the IRS.
What Does Nonprofit Incorporation Involve?
Nonprofit incorporation usually involves these steps:
- Choose a business name that is legally available in your state and file for an Employer Identification Number (EIN).
- Prepare and file your articles of incorporation with your state's corporate filing office, and pay a filing fee.
- Create bylaws that will dictate how the corporation will be operated.
- Appoint an initial board of directors.
- Hold the first meeting of the board of directors.
- Apply for any licenses or permits that your corporation will need to operate in your state and local municipality.
Your state's corporate filing division is usually part of the secretary of state's office. You can request a packet of nonprofit materials from that office, which will include sample articles of incorporation, the state's laws on nonprofit corporations, and instructions on how to find an available business name.
Incorporation procedures vary from state to state, so it is important to study your state's requirements. You might want to connect with your state association of nonprofits as well for further guidance. Consulting an attorney who specializes in nonprofit incorporation might be wise, too.
How to File for Federal Tax Exemption
After you have filed all the paperwork for nonprofit incorporation in your state and received a copy of your articles of incorporation, you can move on to submitting your application to the IRS for your federal nonprofit status as a 501(c)(3) organization. It is best to file within 27 months after the end of the month in which you were incorporated.
Make sure that your organization has one or more 501c3 qualified "purposes." Accepted purposes include charitable, religious, educational, scientific, literary, testing for public safety, fostering amateur sports competition, and preventing cruelty to children or animals.
Figure Out Which Form You Need
There are two IRS forms to choose from when you register as a tax-exempt 501(c)(3) nonprofit.
Form 1023-EZ.This streamlined form is for small to mid-sized organizations. If your organization is incorporated in a U.S. state or territory and has fewer than $50,000 in gross receipts and $250,000 in assets, you can file 1023-EZ. The 1023-EZ must be filed online, and the fee is $275.
There is an eligibility worksheet that you can fill out to make sure that you qualify to file using the 1023-EZ.
Form 1023. If you are a larger organization, you must complete IRS Package 1023, Application for Recognition of Exemption. This is a complicated application of more than 60 pages, so read the instructions first.
You will need to have been incorporated and have bylaws, articles of corporation, financial projections, and a federal EIN. The fee is $600 regardless of revenues.
Some organizations may operate as tax-exempt nonprofits without filing these forms. Organizations that are exempt include small charities that have fewer than $5,000 in gross annual receipts, churches (including synagogues, temples, and mosques), and certain church-related groups,
Filling out the application for tax exemption can be arduous but very important to get right. Acceptance may depend on how well you accomplish this task.
After You File the Proper Form
The IRS will review your application and send you a "determination letter" indicating that it has approved your nonprofit status. Or, the IRS might ask you for more information. It can also deny your application. If that happens, you can file an appeal with the IRS.
Larger organizations that file Form 1023 often find that hiring an attorney to prepare their filing saves time and money. One of the reasons the IRS gives for taking a long time to grant tax exemption or to deny it is that there is often incomplete information on the form. Getting professional help may speed things up.
Do You Need to Apply to Your State?
You may need to apply to your state for tax-exempt status as well. Some states require a separate application to get a state tax exemption, while some states are satisfied with your federal tax-exempt status. To find out what your state requires, contact your state tax agency.
When Can You Start Fundraising?
It would be best if you did not fundraise until you've received your letter of determination from the IRS stating that you are now tax-exempt. The IRS stipulates that you should file for exemption within 27 months of receiving your corporate formation status from your state. Expect a lag between filing and acceptance.
Tax exemption includes being able to assure your donors that they might take a tax deduction for their contributions. Starting to fundraise before that tax exemption is legal puts your nonprofit on shaky ground and could mean that you have to return donations, should your tax exemption fall through.
First, check to see if your city and state require you to have a solicitation license before you can fundraise.
Many nonprofits don't realize that they must register to fundraise in all states from which they receive donations. Even if you are a local organization, you may receive donations from other states if you accept online donations. Not paying attention to out-of-state registration laws can result in penalties. Become aware of what you should do before you begin any fundraising.
Frequently Asked Questions
What is a nonprofit?
There are many types of nonprofits, but the most common is the 501(c)(3) or charitable nonprofit. All nonprofits, charitable or otherwise, serve the public good rather than owners or shareholders. Nonprofits may earn a profit, but it never goes to a person or group of people. Profits go back into the organization to serve its mission.
How do I dissolve a nonprofit?
A nonprofit may need to close for many reasons, from having completed its mission to declaring bankruptcy. However, extra care must be taken when closing a charitable nonprofit. For instance, funds remaining after payment of debts must be given to another charitable nonprofit. No assets may go to board members, staff, or donors. Also, arrangements for restricted donations must be worked out with the original donors when possible.
How do I write a nonprofit grant proposal?
Charitable nonprofits raise money from individuals but also from private and corporate foundations. Grant research and writing are well-developed skills that even small nonprofits will want to cultivate. Grant research can be done fairly easily through directories especially developed for this purpose. Grant writing requires the ability to pull together a lot of information and the writing skills to turn that information into a persuasive case for funding.
How do I get a job at a nonprofit?
The nonprofit sector represents a sizable piece of the U.S. economy. Because of that and the increased interest in finding work with purpose, many people search for good nonprofit jobs each year. There are proven nonprofit job search techniques and many online ways to find those jobs.
You can also find nonprofit jobs that are traditional such as in finance or as CEO, or specialized positions such as data scientist and user experience designer.
How much does it cost to start a nonprofit?
The cost of starting a nonprofit varies according to location, size of the organization, and whether there will be any paid staff. Initial costs include fees for incorporation and applying for tax-exempt status, physical space and equipment, employees, and insurance. Preplanning is a must and a realistic assessment of funds.
What is the major difference between a nonprofit and a for-profit organization?
The primary differences between nonprofit and for-profit organizations are mission, ownership, and income. A nonprofit's mission is to serve the general welfare, not an owner or shareholders.
A nonprofit may earn a profit, but that profit must be returned to the organization to support its mission.
Furthermore, making a profit cannot be the primary goal of a nonprofit. Charitable nonprofits, or 501(c)(3)s, must receive a substantial part of their income from the general public through donations and grants.
What board members are needed for a nonprofit?
Incorporated nonprofits are required by state law to have a board of directors. The directors have duties defined by corporation law that are similar to boards for regular corporations. Your state's incorporation laws will determine the minimum number of directors.
Your first board of directors should be picked carefully as its members will guide you through the startup phase of your organization. You will want to find people with expertise, passion for your cause, and the ability to help raise money. Nonprofit board directors are volunteers who will guide your organization but not operate it. The board hires the CEO, but that person hires the staff.