Many entrepreneurs want to start an enterprise that makes a positive impact in their community. They fulfill that goal by starting a nonprofit business. The people that take this path gain a great sense of satisfaction from what they do. However, starting a nonprofit is not for the faint-of-heart. Not only do you have the standard business challenges, but such enterprises are heavily scrutinized by the federal and state governments constantly watching out for abuses of the system.
A nonprofit differs from a regular business in that it is not founded to realize financial gain for the owners or shareholders, but to achieve some social mission. In reality, nonprofit organizations can and should make a profit, but that profit must be used solely for the operation of the organization or towards its mission. Profit in this sense refers to an excess of revenues over expenses - something even a nonprofit organization needs to achieve to stay financially sound.
There are many social organizations that are unincorporated and exist simply to do charitable work. Their goals are achieved with volunteers. However, there are also many charities that operate as nonprofit businesses. What distinguishes the two is that a nonprofit business is incorporated.
To incorporate you need to file articles of incorporation with the appropriate local state entity. States differ on what the requirements to register as a nonprofit are, but all states require you to set up certain organizational structures. By incorporating, the nonprofit is an ongoing entity and is protected for operations of the nonprofit.
Incorporating as a nonprofit may make an organization eligible for certain benefits, such as state sales, property, and income tax exemptions. However, organizing as a nonprofit business at the state level does not automatically grant the organization exemption from federal income tax. To qualify as exempt from federal income taxes, an organization must meet requirements contained in the Internal Revenue Code.
Any nonprofit can become tax exempt from federal income taxes by applying to the Internal Revenue Service (IRS). Religious, educational, charitable, scientific, literary, testing for public safety, fostering national or international amateur sports competition, or prevention of cruelty to children or animals organizations are all eligible for tax exempt status from the federal government if they meet their rules for nonprofit status.
The most common type of federal tax exempt status is "501(c)(3)," which refers to the part of the Internal Revenue Code that sets the rules for establishing tax exemption. With 501(c)(3) status your organization is not only exempt from federal taxes, but you can also solicit donations in which donors can take a tax deduction for the amount of their donations. This is a great benefit, so it is well worth the work it takes to gain and maintain tax exempt status.
The IRS sets strong guidelines for how a nonprofit should be run because it believes that a well-governed charity is more likely to obey the tax laws, safeguard charitable assets, and serve charitable interests than one with poor or lax governance. A charity that has clearly articulated purposes that describe its mission, a knowledgeable and committed governing body and management team, and sound management practices is more likely to operate effectively and consistent with tax law requirements. Consequently, the IRS asks about an organization's governance, both when it applies for tax exempt status and then annually as part of an information return.
