Before forming a nonprofit organization, you should understand the types of structures available so you can choose the one that provides the most benefits. You can organize in one of four ways:
- An unincorporated association — this includes any informal group of people who get together for a common purpose, such as playing bridge. You have some legal rights, like being able to open a bank account. But the structure has some legal liabilities. Groups that are involved in risky activities generally incorporate.
- A trust — a few types of nonprofit organizations are formed as trusts. Charitable gifts made in wills are often set up as charitable trusts. But trustees aren’t protected against liability, having greater exposure to it because they’re held to a higher fiduciary standard. Members can be personally liable for the trust’s mistakes. A trust is formed under state law.
- A corporation — this is the most common. You must register with a state and make periodic filings and disclosures. There are filing fees, but they are usually small. There are two major benefits: (1) protection from liability — officers, directors and members are protected in most cases from liability from debts and (2) eligibility for grants — most government and private programs make grants only to incorporated organizations. Because you filed with a state, you’re governed by state incorporation law.
- A limited liability company — founders of small nonprofits are increasingly turning to LLC structures. They can be more flexible than traditional incorporations, but various state rules may make it difficult or impossible to organize a nonprofit this way.
State law governs nonprofit status, while federal law governs tax-exempt status. Your organization’s articles of incorporation or trust documents are needed to apply for tax-exempt status. State law generally determines whether an organization is properly created and establishes the requirements for organizing documents. Determine your state’s registration requirements, and obtain an Employer Identification Number, or EIN, for your new organization.
The nonprofit status most commonly sought by organizations is the IRS’ 501(c) tax-exempt status, which offers such advantages as:
- Enhanced credibility.
- Tax-deductible donations.
- Possible exemption from certain property taxes.
- Reduced postage rates.
Under 501(c) are various kinds of nonprofits. One of the best known is the 501(c)(3) nonprofit, which is organized for religious, educational, charitable, scientific or literary goals, for example. Generally, such an organization must file Form 1023, Application for Recognition of Exemption. You’ll also want to file Form 990, Return of Organization Exempt From Income Tax, which shows your finances, activities, governance processes, directors and key staff and shows that your nonprofit is open to public inspection.
IRS Publication 557, Tax-Exempt Status for Your Organization, offers specific details about the myriad versions of nonprofits and the rules to follow.
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