In the July/August 2009 edition of the American Bar Association’s Business Law Today, nonprofit attorney Gene Takagi and assistant Emily Chan write about the alternatives to setting up a tax exempt charitable organization. They point out that in an environment that is increasingly competitive, the majority of new charities do not succeed.

Charity founders and their attorneys should consider many things before proceeding to file for exemption – beyond the simple questions of how, when, and what are the costs.  First, the authors stress the importance of good planning and research.  The charity should develop a business plan.  “The plan should define the nonprofit’s mission and identify its core activities, potential supporters, and targeted beneficiaries. It also should contain an assessment of the nonprofit’s environment, including its potential allies and competitors, and a projected multiyear budget.”  If there is not a “plan for viability,” good intentions alone will not provide for the needs of the intended recipients.

Secondly, charity founders need to be aware of the implications of tax exemption.  The prohibition of private inurement is a pillar of a nonprofit organization.  An ignorance of these rules could result in heavy penalties for the leadership or even a loss of tax exemption.  In addition, charities must comply with many ongoing reporting and governance obligations.

Takagi and Chan recommend considering the following alternatives:  (1) an alliance with an existing nonprofit, (2) fiscal sponsorship, or (3) a donor-advised fund.

There is no need to reinvent the wheel.  The authors point out that many charity founders do a poor job scanning other charities (over 1.8 million nonprofits last year) to find out if there are other that are already doing the same kind of work.  Collaboration may reduce a beginner’s risks while also giving the benefit of the older charity’s experience and established access to the contribution market.

A “fiscal sponsorship” is when the founders of a new charitable project form a relationship with an existing charity.  This can be set up many different ways, but it usually involves the sponsoring charity allowing the new project to benefit from its tax exempt status and other administrative support in exchange for a small portion of the funds generated for the new project.  The authors commend this arrangement but stress the importance of a well-drafted fiscal sponsorship agreement.

Takagi and Chan would direct those planning to form a grant-making private foundation to consider the benefits of using a donor advised fund instead.  These funds allow the donors to advise the sponsoring organization how they would like their contributions to be used, and these wishes will be consistently honored, though the donor technically loses control over the direction of money.  The authors list some advantages of using this method: 1) No formation costs, 2) Possibility of making immediate deductible contributions, 3) More generous deduction limits (because the sponsoring organization is a public charity), 4) No administrative, investment, or governance responsibilities (and associated risks), and 5) No need to provide oversight over grants.

The authors encourage both charitably-minded individuals and the attorneys they approach to consider some of the alternatives to forming a new tax exempt organization before assuming there is but one way to accomplish their charitable goals.

The complete article can be found at http://www.abanet.org/buslaw/blt/2009-07-08/takagi.shtml.

Advertisements