Kudos to you for being willing to undertake a business model that tends to be more challenging than most. Why is it challenging? Let’s start with getting it started.
We sometimes speak with organizations that honestly believe they are operating as nonprofit organizations without having taken a crucial step toward legitimacy. What do I mean?
Setting up a nonprofit only starts with registering the entity with the Secretary of State. The nonprofit isn’t truly a tax-exempt entity, where donations are tax-deductible to the donor, until and unless the organization has applied for – and received – tax-exempt status from the IRS.
The Nevada Secretary of State, for example, has one main type of nonprofit – a “nonprofit corporation.” Sure, if you log onto SilverFlume, you’ll see a few others, like Nonprofit Cooperative Associations (which are usually HOAs) and others, but we’ll focus on the most popular one – the Nonprofit Corporation. So, step one on your journey is to register that entity with the Secretary of State. Well, step 1 SHOULD be a business plan but let’s be real, they’re a pain and even though they’re about the most valuable thing you can do in advance of starting any kind of business, very few people take the time. Okay, rant over.
The next step is to file for your EIN and then brew yourself a pot of VERY strong coffee and tackle the 1023 or 1024 application. Sidebar: the 1023 application is for 501(c)3 organizations and the 1024 application is for most others. 501(c)3s, which are often either public charities or private foundations, cannot engage in lobbying activities as a major portion of their activities. Now, this doesn’t mean they can’t; it just can’t be the sole focus. I joke about how invasive the 1023 and 1024 applications are. If you think they’re bad, you should see the Instructions for 1023 Form which themselves take up 40 pages.
Another sidebar: if you’re forming a nonprofit because “I want to do [insert mission of another nonprofit] but I want to do it [only slightly differently],” then let’s talk. I helped establish Vegas Shepherd Rescue, an animal rescue (duh), that focuses on rescue and rehabilitation of German Shepherds (double duh). If I, as an example, were to speak with someone who wanted to form a nonprofit to rescue only white German Shepherds, I would first mute the phone so I could throw a little tantrum and then explain that our community is fractured enough with the sheer number of nonprofits pursuing the same donor dollars. If your mission is even close to that of another nonprofit’s but you think you have a small tweak that could make things better, I STRONGLY encourage you to take that existing nonprofit’s Executive Director or Board President to coffee or a Zoom call and discuss how you might be able to contribute your ideas to their efforts. They will even give you credit! Please, please, please, don’t form a nonprofit with a slightly different mission just because you want to be in charge. Every nonprofit I know would welcome some fresh ideas and someone with the energy to execute them. Okay, second rant over.
Let’s talk about these IRS forms, shall we? The forms themselves are a deceptively short 30 pages. Because the form asks all sorts of questions about where you’re getting the money and what you’re doing with it, that require attaching an entirely separate “Additional Documentation” file when you apply, the form is nowhere near 30 pages. Then, you have to create and adopt bylaws, a conflict of interest policy if you’re striving for extra credit, and also provide copies of any marketing materials and contracts you might have that impact your organization. Is a for-profit entity subleasing you space at free or reduced rent? Enclose a copy of the lease. Do you have any contracts or other agreements with your board members, like if one board member happens to own a video production company and the organization happens to contract with that board member to handle its marketing? Enclose a copy of that contract. Are any of your board members related personally or professionally? Explain. It’s like those terrible exam questions in high school. “If a train leaving the station going west at 80mph passes a train leaving another station at 120mph, do aliens wear hats?” And even if you DO have the answer to that, the question ends with the dreaded “Explain.”
Worse yet is the section on Financial Data. If you haven’t been operating already, which many nonprofits haven’t, then you still have to provide three total years of financial data. Yes, it very much requires you to peer into a crystal ball and guess what your financial statements will look like this year, next year, and the year after that. Notably, this is where that business plan would come in super handy. Just sayin’.
It’s our biggest challenge to wring out of our clients, like a waterlogged dishtowel, all the information necessary to file a solid tax-exempt application. Being a federal agency that has no money and is woefully understaffed, the IRS takes FOR-EH-VER to process these applications. So, you want that application to be a masterpiece when you submit it, replete with all the answers to those questions that require you to “Explain.”
The sort-of good news is that, a few years back, for reasons I still can’t fathom, the IRS made it easier for you to not pay them taxes. The 1023EZ form is a very short, 3-page application for tax-exempt status. The catch? You can only file this short form if you qualify. Of course, there are 18 different qualifiers, starting with a revenue cap. You can’t file the 1023EZ form if you expect to generate more than $50,000 in revenue in any of the organization’s first three years of existence. Then there are 17 more. If you’re feelin’ lucky, head to page 13 of the Instructions for Form 1023EZ to see if you can check the other boxes.
Forming a nonprofit to fulfill a charitable or social purpose is a noble mission. Keep in mind, “nonprofit” is a tax status, NOT a business plan. Nonprofits can – and should – still generate revenue, engage in strategic planning, market, keep an eye on their finances, all to bolster the fulfillment of that mission.