How Is a Nonprofit Different From a For-Profit Business?
Getting Beyond the Myths
Astonishingly, one of the most frequent questions about forming a nonprofit comes from business owners who wonder if, since their business is not profitable, they can turn it into a nonprofit.
The term "nonprofit" leads to a vast misunderstanding of what charitable organizations do and the role they play in our society. It's not about having or not having a profit.
What makes an organization a nonprofit has to do with purpose, ownership, and public support. Charitable nonprofits typically have these elements below.
- A mission that focuses on activities that benefit society and whose goal is not primarily for profit. Called "exempt purposes," these activities include "charitable, religious, educational, scientific, literary, testing for public safety, fostering national or international amateur sports competition, and preventing cruelty to children or animals."
- Public ownership where no person owns shares of the corporation or interests in its property.
- Income that must never be distributed to any owners but recycled back into the nonprofit corporation's public benefit mission and activities.
In contrast, a for-profit business typically seeks to generate income for its founders and employees. Profits, made by sales of products or services, measure the success of for-profit companies, and those profits are shared with owners, employees, and shareholders.
There are many types of nonprofits other than charitable ones, ranging from your local credit union to the Chamber of Commerce in your city. Some nonprofits depend on membership fees and sales of specific services or products. They all have IRS numbers starting with 501(c). Charitable nonprofits are designated as 501(c)(3) organizations.
In 2015, there were approximately 1.56 million registered nonprofits in the US. That number included all organizations listed as 501(c).
Most 501(c)(3) nonprofits provide a service, but some are foundations that make grants to other nonprofits to help them pursue their missions.
The typical charitable nonprofit depends primarily on donations, grants, and mission-related earned income to fund its socially-oriented activities.
The workforces of nonprofits and for-profit organizations also look different. Businesses employ paid staff, while nonprofits may have a workforce made up of both paid staff and volunteers. In fact, in many nonprofits, volunteers outnumber paid employees.
Volunteers are more than just unpaid workers, however. Volunteers, especially those most loyal over time to the organization, often become the best donors. Volunteers thus serve two roles: Helping the organization with staffing and supporting the nonprofit through monetary contributions ranging from cash donations to bequests through their wills.
Nevertheless, most charities must employ some professionals to work full or part-time to keep the place running. They typically have a professional leader, fundraising and marketing staff, business staff such as an accountant, and highly trained people to carry out programs, such as education, health services, and therapeutic services.
Nonprofits may be exempt from federal taxes, and donors to charitable nonprofits may be able to deduct their contributions from federal taxes.
Traditional Charitable Nonprofit Organizations Share These Characteristics
Many people think that nonprofit means that the organization cannot make a profit. That is a myth. To survive, nonprofit organizations, just like businesses, must make sure that the organization's revenues exceed its expenses.
But, instead of seeking profit for profit's sake, nonprofits pursue public benefit purposes recognized under federal and state law.
The public owns a nonprofit organization. It belongs to no private person, and no one person controls the organization.
The assets of a nonprofit are irrevocably dedicated to the charitable, educational, literary, scientific, or religious purposes of the organization.
The cash, equipment, and other property of a nonprofit cannot be given to anyone or used for anyone's private benefit without fair market compensation to the nonprofit organization.
A nonprofit's property is permanently dedicated to exempt purposes. When and if the organization dissolves, any remaining assets after debts and liabilities are satisfied, must go to another nonprofit organization—not to members of the former nonprofit or any other private individual.
Control of an incorporated nonprofit lies with a governing board of directors or trustees. The responsibility of that board is to see that the organization fulfills its purpose. Board members do not act as individuals but must serve as a group.
No one has permanent tenure on a board, and the board can, if necessary, fire an executive or remove board members.
This means that no one, not even the founder of the organization, can control a nonprofit. Most nonprofit boards of directors are not compensated, except for expenses such as travel to and from board meetings.
Nonprofit organizations are accountable to the public and must file annual information returns with the federal and state governments.
IRS public disclosure requirements apply to all tax-exempt organizations. That involves making the nonprofit's three most recent Form 990 or 990-PF returns as well as related supporting documents available to the public. Most nonprofits make them available at their headquarters and on their websites. The tax forms are also easily obtained through services such as Guidestar.
At the state level, nonprofits are usually overseen by the State's Attorney General's Office. That office commonly has the power to take a nonprofit corporation to court to make sure it complies with the law.