The term “nonprofit” is loosely applied to organizations that are formed in order to benefit the public. Many of these organizations choose to formally become nonprofit corporations, formed under the laws of a particular state. Many of the issues and procedures involved in setting up a for-profit corporation also apply when setting up a nonprofit corporation.
Protection from Personal Liability
One of the major benefits of incorporating any entity is the limited liability the corporate form brings. Generally, exposure to liability claims for a corporation, whether nonprofit or for-profit, is limited to the extent of the corporation’s assets, and the personal assets of the corporation’s owners and directors are not at risk.
Example: Riverside Park Restoration Group, Inc. (RPRG) is a nonprofit corporation with a mission to clean up and restore a local park. Based on their fundraising plan, RPRG signs a yearlong contract with Howie’s Lawn Maintenance Company to cut the grass. The fundraising goals fall short, and the corporation is unable to pay Howie’s bill. The personal assets of the leaders and members of RPRG are not at risk. Like with a for-profit corporate entity, Howie can generally look only to the assets of the corporation to collect on his bill.
Achieving Tax-Exempt Status
An important distinction for nonprofit corporations is whether they qualify for and become a tax-exempt nonprofit. Tax exemption status is above and beyond nonprofit corporation status. Nonprofit corporations seeking tax-exempt status must apply to the Internal Revenue Service (and, in some states, to the state taxing authority). Typically, this status is granted under the provisions of section 501(c)(3) of the Internal Revenue Code.
The biggest benefit to achieving tax-exempt 501(c)(3) status is that, under many circumstances, a donation to such an organization can be deducted from the donor’s income tax. Such an enticement for potential donors is a major factor in helping 501(c)(3) corporations obtain donated funds.
Example: RPRG has applied for and obtained tax-exemption certification from the IRS. The company holds a fundraising campaign and receives many donations from individuals and businesses. Because RPRG is certified tax-exempt, many of the donors (depending on the donor’s individual situation) will be able to deduct the amount of their donation on their income tax return.
For many grant-giving agencies and foundations, tax-exempt, nonprofit corporation status is required before a grant application will be considered. A foundation’s own tax status can be affected were they to give grants to a for-profit organization.
Exemption from Income Taxes
Another important benefit to tax-exempt status is that a tax-exempt corporation is not required to pay income taxes on the profit from its operations.
Example: With the ball fields in the park functional again, RPRG signs a lease with the town to operate a concession stand at games on Saturdays and Sundays. Over a year’s time the profit from the stand totals $10,000. Since RPRG is tax exempt, it pays no income taxes on this profit, and it is free to reinvest the money into its public-benefit programs.
Exemption from Property Taxes
Often, tax-exempt nonprofit corporations are exempt from property taxes. The county assessor or tax collector’s office usually determines eligibility, pursuant to law, for real property tax-exemption qualification.
Example: A local philanthropist owns several acres of property adjacent to Riverside Park, for which he is paying a $4,000 annual property tax. He decides to donate the property to RPRG. Because a tax-exempt nonprofit corporation now owns the property, no annual property tax is due.
For more information on this topic, be sure to read How to Obtain 501(c)(3) Status for Your Corporation.
Michael Casey Walker is an attorney and founder of the Walker Law Firm, based in San Francisco, California. The Walker Law Firm was founded in 1988 and specializes in serving small and medium-size business clients with a variety of business issues, including business formations and dissolutions, contract review and preparation, and business disputes and litigation. Walker Law Firm also has a Trust and Probate department. You can reach the law firm via e-mail at Walker@WalkerLawFirm.com or by phone at (415) 337-7864.
Note: This article does not constitute legal advice and should not be relied upon as legal advice. If you have a legal issue or wish to obtain legal advice, you should consult an attorney in your area concerning your particular situation and facts. Nothing presented on this site or in this article establishes or should be construed as establishing an attorney-client or confidential relationship between you and Michael Casey Walker. This article is provided only as general information, which may or may not reflect the most current legal developments or be complete.