Creating a Non-Profit Organization

Non-profit organizations are not technically legally defined business forms — in the US, the determination that a business is a non-profit organization is generally dependent on whether it has been classified by the Internal Revenue Service as a tax-exempt under Section 501(c) of the Internal Revenue Code. A non-profit organization operates like a normal business, except that it may be limited by federal and state laws in the way it generates excess revenues (in essence, profits) or must use excess profits to achieve its business goals or otherwise expand; a non-profits organization may not distribute excess revenues. In any event, a non-profit organization cannot issue capital stock or other means of beneficial ownership by which it could distribute excess revenues.

Non-profits organizations are generally formed by establishing a corporation at the state level; alternatively, a business trust or association form may be used as authorized by a particular state’s laws. Non-profit organization management structures fall into two categories: membership and board-only. In the membership format, a non-profit’s members take the place of shareholders in a for-profit company, in that non-profit members elect the organization’s board of directors/trustees and/or approve major strategic decisions. In the board-only format, all decision-making authority is generally retained by a board of directors/trustees, who also select their own successors. In all other aspects, a non-profit organization is treated like a normal corporation or organized business, in that it may enter into agreements, buy, hold, and sell property, and sue and be sued in its own name.

After formation, a non-profit organization almost always undertakes the step of obtaining exemption from income tax (although a non-profit organization need not necessarily seek tax-exempt status). Although many states track with federal designations and determinations, exemptions must also be obtained at the state level in every jurisdiction where a non-profit is subject to taxation. At the federal level, a non-profit organization makes an application to the IRS for 501(c) status. Once the IRS determines that the organization meets the requirements for a 501(c) organization, it issues an authorization letter granting the organization exemption from income taxation. Note that the exemption does not cover employment taxes, which the organization still must pay, nor does the exemption cover income made outside its stated purpose to the IRS. In addition, if an organization ceases to meet the criteria for a tax-exempt organization, the IRS may remove the tax-exempt status. Finally, despite its tax-exempt status, a non-profit organization is usually required to file Form 990, a report of the organization’s financial activities, which form is made publicly available