Starting a Not-for-Profit Organization

Article Written by : Credit Card Processing Blog
Not-for-profit organizations (NPO) generally are exempt from paying taxes, including income, transfer and sales taxes. Most of us think of NPOs as charities, universities, churches, as well as professional and technical societies such as ASHRAE. While such large organizations can contribute greatly to the welfare of their members and society, a need also exists for smaller NPOs.

Unlike for-profit organizations (FPO) there is no individual ownership of stock in NPOs; NPOs exist as public, non-stock entities. When revenue exceeds expense the difference must be reinvested in the organization for growth or improvements consistent with the NPO’s mission: income cannot be disbursed to members of the organization.

The first step in starting an NPO is to define its purpose or mission. The Internal Revenue Service has several classifications. Under Internal Revenue Code § 501(c)(3), an organization can qualify as an NPO by engaging in research, education and training, or public outreach. A section 501(c)(6) NPO qualifies by promoting industry or professional organizations, and may have as its primary activity lobbying or the influencing of legislation. This article focuses on 501(c)(3) NPOs.

To qualify as a 501(c)(3), the entity must demonstrate that its research, training or outreach activities will be conducted to benefit its members, government agencies, other NPOs, or the public in general. A major opportunity for small NPOs is to focus on special areas of expertise that provide these benefits, often in synergy rather than competition with a large NPO. For example, the Building Diagnostics Research Institute has worked with ASHRAE, the Air-Conditioning Contractors of America (ACCA), and the National Energy Management Institute (NEMT) in its mission to disseminate information to government agencies, the industry, and the general public on criteria and procedures to ensure improved building performance during normal conditions and extraordinary incidents.

The second step in forming any NPO is to select directors. These individuals will be responsible and accountable under fiduciary standards established by the State in which the organization is registered. Directors are also responsible for making sure that the NPO’s activities comply with its stated purpose.

Directors serve without salaries and must be independent of situations that could cause a conflict of interest. The primary role of the directors is to oversee the technical and fiscal operations of the organization. In starting an NPO, the initial directors will be listed in the articles of incorporation, and should have assisted in the formulation of the NPO’s mission.

The third, and probably most difficult step in forming an NPO is to develop a sustainable funding program. A substantial percentage (e.g., 70% to 80%) of funds entering the NPO’s coffers must come from grants, research contracts, tuition and/or donations. A small percentage may come from consulting, so long as the consulting is compatible with the mission of the organization. One of the greatest pitfalls in starting an NPO is to be overoptimistic that sufficient funds will be available in a timely manner.

Once the NPO has received approval of its articles of incorporation from the State in which it is registered, a set of bylaws must be developed and adopted by the directors. After the bylaws have been adopted, the NPO must apply for tax-exempt status with the IRS, which includes submission of the state-approved articles of incorporation and bylaws. IRS issuance of 501(c)(3) status typically takes six to eight months. During that time, the NPO can function according to its articles of incorporation, which should stipulate that the requirements of IRS § 501(c)(3) will be met.
In conclusion, NPOs and FPOs have similar opportunities and pitfalls. The selection of the business model and the success of the organization really depends on the purpose and mission that is agreed upon by those who are willing and committed to start the organization, the intended recipients of the products and services, the State in which the organization will be incorporated, and the IRS.