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How to set up a tax exempt organization

how to set up a tax exempt organization

Setting Up a Nonprofit Tax-Exempt Corporation (A SPARC Guide)


There may come a time when you want to establish your scholarly publishing or other venture as a nonprofit corporation qualified for Section 501(c)(3) tax-exempt status. There are other types of nonprofit classifications, but 501(c)(3) is the most common and typically the most appropriate for a nonprofit publishing organization.

Simply, the corporate purpose would be, for example, an educational, literary, scientific and/or professional purpose, and other than for generating a profit to owners, partners or investors. There may be a paid staff, but non-employee directors and officers are (with rare exception) uncompensated volunteers.

Advantages to Incorporate

Nonprofit corporations granted tax-exempt status under section 501(c)(3) of the tax code are exempt from payment of federal corporate income taxes, as well as state and local corporate income taxes (in virtually all cases). However, nonprofit publishers may be subject to "unrelated business income tax" (UBIT) for income generated by advertising, sponsorships, and other business activities. Such a corporation is eligible to receive both public and private grants and contributions, with tax deduction benefits to donors when qualified.

Nonprofits also receive limited liability protection, meaning that directors or trustees, officers, and members are typically not personally responsible for the obligations and liabilities of the corporation. The corporation's life is not dependent upon its members or participants as the corporation possesses an "unlimited life." Retirement funds and qualified plans (e.g. a 401k plan) may be set up for employees more easily with a corporation than with an unincorporated entity. Generally, parties with which you do business would prefer to enter into relationships and agreements with a corporation.


The principal disadvantage to establishing a nonprofit corporation is the increased paperwork and filings required and the scrutiny of government agencies. Often, this can mean a substantial effort and expense, especially when--as is recommended--legal, financial and tax advisors are involved. Even so, many of these requirements are "one-time" events and may well be worthwhile in order to obtain permanent nonprofit 501(c)(3) tax-exempt status.

Furthermore a corporation must comply with legal and regulatory formalities including the creation and adoption of corporate bylaws, the holding of meetings of directors, and the recordation of meeting minutes kept with the corporation's records.

Starting the Process-Filing With Your State

The first step in creating a qualified nonprofit corporation is to file for a Certificate of Incorporation (or equivalent) with the jurisdiction in which you want to incorporate--any of the 50 states or the District of Columbia. Typically, this will be the jurisdiction in which the entity will have its principal operations and office, but many jurisdictions will incorporate entities operating virtually anywhere in the U.S. subject to certain conditions.

For information and instructions, contact the selected jurisdiction's office of the Secretary of State, State Corporation Commission or equivalent agency. Most if not all have websites with downloadable instructions and forms, and provide contact information. In some jurisdictions, the process is as simple as completing a one or two page form and filing it with a nominal fee payment. This form serves as an abridged version of the corporation's Articles of Incorporation. However, some jurisdictions require a full document constituting the Articles of Incorporation as part of the application. Often, on its website, the relevant agency will give instructions (e.g. an outline or template) for preparing such Articles of Incorporation. Most start-ups will benefit from obtaining the assistance of an attorney experienced in these matters for the particular jurisdiction of incorporation.

The corporation will also need to create and adopt its bylaws. Whether these need to be done as part of, or after, the

incorporation filing depends on the jurisdiction, but bylaws must be created in any case.

Upon submitting the required paperwork and any fee, it might take only a few weeks either to receive a Certificate of Incorporation (or equivalent) or an inquiry from the agency requiring your response. If the latter, you will want to respond quickly and precisely, in order to satisfy the agency's representative and resolve any open issues. You will also need to consult with the agency to determine what periodic filings are required on an on-going basis. This might be some form of an annual report that verifies to the agency the nonprofit status of the corporation for its originally stated purposes.

Continuing the Process-Filing With the Internal Revenue Service

After you have received a Certificate of Incorporation (or its equivalent) from your jurisdiction, your new nonprofit corporation has 15 months to file with the Internal Revenue Service (IRS) for 501(c)(3) tax-exempt status. Incorporation in any state as a nonprofit does not confer tax-exempt status, nor will your state recognize such status until conferred at the federal level.

Three items from the IRS are especially important and useful:

  1. IRS Publication 557. Tax Exempt Status for Your Organization, Introduction and Information [PDF]
  2. IRS Form 1023: Recognition for Application of Exemption Under Section 501(c)(3) of the Internal Revenue Code [PDF]
  3. IRS Form 8718. User Fee Form [PDF]

The IRS' comprehensive website maintains these forms and guides, as well as other relevant items. Form 1023 is the main document. Its preparation and filing is a rigorous and laborious process. The depth and breadth of required information are extensive. You will most likely require and benefit from the services of an attorney, and for financial data, a certified public accountant (CPA).

After filing, you may expect to hear back from an IRS examiner within 60 to 90 days. There may be questions from the IRS before it makes its final determination. This may involve a series of correspondence. The entire process might take up to six or seven months before you receive an IRS determination letter of 501(c)(3) tax-exempt status.

Maintaining Your Corporation's Status

Your corporation may need to engage an independent CPA for financial and tax advice. You will definitely need such services for the preparation of the corporation's annual audit and Annual Report as well as filings with the involved government agencies. This includes the annual Form 990  [PDF] to the IRS (plus any state requirement). Your Form 990 is the equivalent of an annual report in which the corporation must verify its nonprofit activities and report on its finances. These filings become publicly-accessible documents.

You may find some of the following resources to be of interest in setting up and operating a nonprofit tax-exempt corporation:

  • About® Nonprofit Organizations
  • Alliance for Nonprofit Management
  • Business Filings(TM) Q & A - Non-Profits
  • VentureLine Accounting Dictionary
  • Financial Standards Accounting Board  (FASB): Producers of the Generally Accepted Accounting Principles (GAAP) for U.S. accounting and reporting
  • The Internet Nonprofit Center publishes The Nonprofit FAQ
  • Nonprofit Start-up Answer Center: U.S. tax and regulatory information, assistance, FAQ, and many useful links, from the Delaware Association of Nonprofit Agencies
  • Tax Information for Charities & Other Non-Profits. The official IRS website covering nonprofits

The information in this document may not necessarily apply fully to your particular situation. Any discussion of legal, accounting, tax, and technical topics is for informational purposes only and does not constitute professional advice. If you require any such advice, you should seek the services of a competent professional.

Prepared by Howard Goldstein

Category: Taxes

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