Forming a nonprofit and then gaining (and keeping) the organization’s tax-exempt status is definitely more complicated than starting an LLC or other for-profit business. So, what do you need to know if you’re considering this path?
Step 1: File Articles of Incorporation
The first step is to file Articles of Incorporation with the Secretary of State to create a nonprofit corporation. (Although it is an option, don’t establish a nonprofit LLC. Doing so makes applying for tax-exempt status more difficult and expensive.)
Among other items, the Articles will ask for the purpose of the organization. To avoid problems later, stick to the IRS’s suggested language:
is organized exclusively for charitable, religious, educational, and scientific purposes, including, for such purposes, the making of distributions to organizations that qualify as exempt organizations under section 501(c)(3) of the Internal Revenue Code, or the corresponding section of any future federal tax code.
Step 2: Obtain a Federal Employer Identification Number (FEIN)
The FEIN will allow the organization to open a business bank account. The application can be completed online on the IRS’s website, and you should receive the tax ID number immediately. The IRS will also mail a confirmation letter, which may be required by your bank.
Step 3: Draft Bylaws and a Conflict of Interest Policy
Bylaws are the governing document for a nonprofit. The bylaws dictate how decisions will be made and responsibilities carried out. Will the organization have members? How many people can serve on the board of directors? (Ohio’s nonprofit statute requires a minimum of three.) How long will people serve on the board? How often will you hold board meetings? If you have members, are there certain types of decisions that have to be approved by both the board and the members? Will there be a paid executive director and/or other paid staff?
In addition to the bylaws, your organization should also prepare a conflict-of-interest policy. For example, how will the organization deal with a board member who also wants to be paid to provide services? How will the organization make sure that this board member is the right service provider for the organization’s needs and that the board member is not being paid above-market rates for their services just because of their position on the board?
The policy should also prohibit anyone with a financial interest from voting on a compensation decision. Particularly in newly-formed nonprofit organizations, there is often a mistaken belief that the founder “owns” the nonprofit and can do almost whatever they like with the money the nonprofit raises. The reality is that no one “owns” a nonprofit organization, and you would be jeopardizing your tax-exempt status if you were setting (or even voting on) your own salary or other compensation.
If you follow these steps, you will have a created a nonprofit corporation with the state, and you’ll be ready to apply for recognition of the organization’s tax-exempt status with the IRS.
Reach out to our office if you need any help.
