BECOMING A NONPROFIT
Congratulations. You've got an idea for making the world a better place, and you want to start a nonprofit as the means to do so. The good news is that starting a nonprofit isn't that hard to do if you have a sound plan, the right team, and sufficient startup capital.
The bad news is that running a successful nonprofit is not easy. You'll need to think through exactly how you will bring value to the public, obtain funds, attract staff and/or volunteers, build a board of directors, and comply with the laws that regulate nonprofits. Your answers to these questions will determine whether you should start a nonprofit or consider alternatives.
HERE ARE 10 BASIC STEPS OF STARTING NONPROFIT PUBLIC BENEFIT CORPORATION
1. DETERMINE THE NAME OF THE CORPORATION
A nonprofit is typically formed as a corporation and its name can be a valuable asset. A corporation name may be adopted if the name is not the same as or too similar to an existing name on the records of the California Secretary of State, or if the name is not misleading to the public. You can check the current database of existing names in the business search page on any Secretary of State website
You must also make sure the name does not infringe on another person’s trademark rights. This is not always easy to determine, but a good start includes running a trademark search on the U.S. Patent and Trademark Office database and a simple Google search. For some founders, it may also be important to confer with intellectual property counsel to help ensure they are not infringing on another’s rights and to protect their name from being used by other parties.
2. DRAFT AND FILE THE ARTICLES OF INCORPORATION
A corporation is legally created with the filing of the articles of incorporation. Articles of incorporation typically identify:
(a) The organization’s name;
(b) Purpose or purposes of the nonprofit;
(c) Agent for service of process -- that is, a person whose name and address are identified and who can receive lawsuits and other official correspondence and other matters; and
(d) Any limitations on corporate powers.
The articles of incorporation are typically signed by an "incorporator," which can be just one person but may also be signed by the initial board of directors if they are named in the articles.
3. APPOINT A BOARD OF DIRECTORS
If the initial directors are not named in the articles of incorporation, the incorporator can and should appoint the board through a written action.
Under most state laws, a nonprofit board may be composed of as few as one director, but the IRS is unlikely to grant 501(c)(3) status to a nonprofit with only one director and most nonprofits have anywhere between three and 25 directors.
These directors should understand their duties and responsibilities to act with reasonable care and in the best interests of the organization while providing direction and oversight over the organization’s activities, finances, officers, and legal compliance.
4. DRAFT THE BYLAWS AND CONFLICT OF INTEREST POLICY
A corporation’s bylaws typically address, at a minimum, fundamental provisions related to the management of the activities and affairs of the corporation. Bylaws should provide guidance to the board and reassurance of sound governance practices to government authorities, funders, and other interested stakeholders.
Bylaws typically contain specific provisions detailing:
(a) The purpose or mission of the nonprofit;
(b) How directors are elected or otherwise selected (e.g., by majority vote of directors at the annual board meeting);
(c) How the board may take an action (e.g., by majority vote of directors);
(d) How board meetings are called and noticed (e.g., six times per year with 14 days advance notice by email);
(e) How board meetings are conducted (e.g., the chair of the board presides);
(f) The officers of the corporation (a president or chair of the board, secretary, and treasurer or chief financial officer are required by law);
(g) The duties and responsibilities of each officer;
(h) The authorization of board and non-board committees (e.g., committees tasked to act with the authority of the board versus committees that can only make recommendations);
(i) The level of indemnification provided by the corporation to protect its directors, officers and other agents; and
(j) The reports due to directors (e.g., financial reports).
If the nonprofit has voting members, the bylaws will also need to contain additional provisions regarding member rights and processes. Nonprofits considering a voting membership structure may want to first discuss such structure with a lawyer, particularly if they do not expect their members to actively participate in meetings and regularly exercise their voting rights
5. TAKE THE INITIAL BOARD ACTIONS AT A BOARD MEETING OR BY UNANIMOUS WRITTEN CONSENT OF THE DIRECTORS
The board should take the following actions:
(a) Adopt the bylaws and conflict of interest policy;
(b) Elect officers;
(c) Adopt a fiscal year (such as a year ending December 31 or June 30);
(d) Approve establishing a bank account;
(e) Approve applying for federal and state tax-exempt status;
(f) Approve reimbursement of startup expenses (if applicable); and
(g) Approve the compensation of the executive director (CEO) or the treasurer (CFO) (if applicable).
6. OBTAIN AN EMPLOYER IDENTIFICATION NUMBER (EIN)
An officer or authorized third party designee may apply for and obtain an EIN online (IRS EIN Link)
7. FILE THE INITIAL REGISTRATION FORM (FORM CT-1) WITH THE STATE ATTORNEY GENERALS REGISTRY OF CHARITABLE TRUSTS
This annual registration is required for the majority of nonprofit public benefit corporations and must be filed within 30 days after receipt of assets. The corporation’s articles of incorporation and bylaws should be included in the initial filing. The Form 1023 application and federal determination letter (Step 9) should be submitted upon receipt of the determination letter to complete the filing.
8. FILE THE STATEMENT OF INFORMATION (FORM S1-100) WITH THE SECRETARY OF STATE.
The Statement must initially be filed within 90 days of the date of incorporation. This biennial filing requirement, which identifies the organization’s address, principal officers, and agent for service of process, can be filed online or by mail.
9. APPLY FOR FEDERAL TAX EXEMPTION WITH THE INTERNAL SERVICE (IRS) AND RECEIVE A DETERMINATION LETTER FROM THE IRS.
Completing the Form 1023 application for exempt status under Internal Revenue Code (IRC) Section 501(c)(3) may be the most challenging part of the startup process. It is a legally-driven and comprehensive inquiry covering 11 Parts and 8 Schedules. A critical section for careful completion is Part IV, Narrative Description of Your Activities, which asks:
For each past, present, or planned activity, include information that answers the following questions.
What is the activity?
Who conducts the activity?
When is the activity conducted?
Where is the activity conducted?
How does the activity further your exempt purposes?
What percentage of your total time is allocated to the activity?
How is the activity funded?
List any alternate names under which you operate, including any “aka” (also known as) or “dba” (doing business as) names.
10. APPLY FOR TAX EXEMPTION WITH STATE FRANCHISE TAX BOARD (FTB) AND RECEIVES AN AFFIRMATION OF EXEMPTION LETTER FROM THE FTB.
Organizations with a 501(c)(3) federal determination letter can request state affirmation of tax exemption under Revenue & Taxation Code section 23701d from the FTB by filing Form 3500A along with a copy of the IRS determination letter.
The FTB will recognize the organization’s exemption from state income taxes as of the federal effective date. An organization that does not have a 501(c)(3) federal determination letter is otherwise required to file the more complicated Form 3500 for state income tax exemption. There is no fee for Form 3500A and a $25 fee for Form 3500.
Although the majority of nonprofits are set up without the help of a consultant, it's easy to make mistakes that become costly to correct later (such as unwisely creating voting membership structures, adding unlawful provisions to template bylaws, violating the commerciality doctrine, etc.). We recommend having experienced professionals involved. Biz Corp Nation consultants consist of board members with nonprofit incorporation experience and experienced consultants.