Most people identify a nonprofit organization as one that doesn’t pay any taxes. Charitable companies often seek out this status because it creates new ways for people to work together toward the common good. We get to transform our shared beliefs and hopes into meaningful action under this business structure.
Almost 40 different types of tax exempt organizations are possible to form in the United States under the current tax code. Although the 501(c)(3) structure is the most popular and well-known option out of all of them, a nonprofit organization can form as a social welfare organization, Chamber of Commerce, or labor union and still receive this designation.
Nonprofit organizations follow several critical aspects of behavior with their daily activities. They are accountable, honest, open, and trustworthy so that every person who invests their time or money into the company can feel like they are contributing to something that helps their community.
Several advantages and disadvantages of nonprofit organizations are essential to consider if you are thinking about starting or joining one soon.
List of the Advantages of Non-Profit Organizations
1. After establishing this status, most companies are exempt from paying taxes.
Nonprofit organizations in the United States qualify under the 501(c) federal income tax exemption for corporations. Specific information must get provided during the articles of incorporation and application for the status to ensure that the actions provided by the company are for the common good. Once the state and local government awards this option, then the business becomes exempt from local, state, and national tax laws.
Individuals working with a 501(c)(3) organization are often more willing to donate because it helps them to reduce their tax liability at the same time.
2. The founders are completely separate from the nonprofit organization.
A nonprofit organization must go through the same incorporation process as a for-profit company. That means the founders get to benefit from the separation of personal and professional assets. It takes the burden of any lawsuits, fines, or debt away from the owners of the company – assuming that the financial records are kept separately. Employees and board members also possess limited liability under the structure.
If something unexpected happens to the finances of the nonprofit, then creditors don’t have the option to pursue your personal assets unless specific circumstances exist. As long as you keep your personal and professional books separate after incorporating, you won’t need to worry about losing your home if the business tanks.
3. If someone acts unethically in a nonprofit, then they are held responsible for those actions.
If an individual behaves unethically or illegally while trying to take advantage of the lack of liability to debt or legal matters, then the justice system still provides a provision that can hold people responsible for their conduct. The shield of a nonprofit does not protect someone if their actions harm the company.
4. The nonprofit organization holds its own identity.
A nonprofit organization does more than hold a legal status that protects the personal assets and interests of its owners from the corporate finances. It also creates an identity that transcends its founders. This advantage is an attractive one to those who want to start a mission-driven company the calendar for multiple generations. Donors are more likely to work with organizations that have a long-term vision in place because they want to know that their money is going to be put toward the common good.
5. Organizations with 501(c)(3) status qualify for public and private grants.
Most government agencies and foundations limit their grant rewards to public charities or organizations that have a 501(c)(3) status. Companies that receive this designation can also offer tax deductions to those who give charitable contributions to them, including other businesses. When you add in the eligibility for public and private grants with this advantage, it is much easier to receive the capital needed to fund new activities with this structure than it is for a for-profit organization to find the needed resources.
6. Nonprofit organizations can still offer employee benefits.
Because a nonprofit organization must go through the incorporation process, it opens the door for employees to have a chance to receive specific benefits with their employment contract. The company can offer group life insurance, pension plans, health insurance, and other options based on what state and local laws allow. These advantages are not always available to workers who get hired by partnerships, limited liability companies, or sole proprietors.
Many nonprofit organizations struggle to provide high salaries to their workers, so they compensate people in creative ways. You might get more vacation days, have flexible work arrangements, or receive more sick time that you can use.
7. Several financial benefits become available with nonprofit status.
The advantages of incorporation for a nonprofit organization extend into the financial sector in the same way that for-profit companies can also benefit. The business can utilize lower postal rates on third-class bulk mailing activities, receive cheaper advertising rates, except free radio announcements, or have their brand present it in a public service announcement on television.
Many for-profit companies will offer discounts to nonprofits as a way to create a stable B2B marketplace. That means it is cheaper to do business with the 501(c) status while the economic contributions getting made can still make the same impact.
8. Some nonprofits have minimal reporting responsibilities.
Nonprofits are similar to corporate business entities in many aspects, although there are usually significant differences in the way operations get conducted. Churches have a tremendous advantage with the status because they are not usually required to disclose their financial situation to anyone. That provision even includes members of the congregation. That’s why the largest facilities, often referred to as megachurches, receive additional scrutiny because the wages paid might not be reasonable – but there are no disclosure requirements that can get enforced unless a violation of their 501(c) status occurs.
9. Nonprofits can choose to have members or operate without them.
Nonprofit organizations can have members, but many of them operate without them. It can also be a trust or an association of members. The company can be controlled by its members who elect a board of trustees, governors, or directors or choose to have a delegate structure that allows for representation. It can even be a non-membership organization, and the board may elect its own successors.
10. You don’t need to incorporate to take advantage of the 501(c) status.
Although the benefits of incorporating a nonprofit business are numerous, there are workarounds available if that structure is not suitable for your current needs. Each state has its own provisions that you must follow to use this advantage, but the process is fairly straightforward when dealing with the IRS.
11. Nonprofits make a positive difference in people’s lives.
Arguably the most obvious advantage of being a nonprofit organization is that the work you do has the potential to make a difference in the lives of others every day. Your people are working on social issues that you and every other founder get passionate about when trying to make the world a better place. Even if your wages are low, there is always the satisfaction of knowing that your efforts are part of a broader solution that provides assistance where it is needed the most.
12. Workers might be eligible for the Public Service Loan Forgiveness program.
Some nonprofit organizations qualify to provide a unique benefit to their employees. If the company qualifies for a 501(c)(3) status, then your workers may qualify or be eligible for the public service loan forgiveness programs that exist in the United States. This unique benefit encourages recent graduates to look for work in your industry because it allows them to manage their finances proactively.
With some students graduating with over $100,000 in debt, this government benefit can help you to start attracting top-tier employee assets without always paying the highest wages.
List of the Disadvantages of Non-Profit Organizations
1. The paperwork requirements for nonprofit organizations is extensive.
When a company receives its exempt status, then the nonprofit must keep detailed records that the public can access in some way. Failing to meet the administrative requirements can result in a forfeiture of this status. Companies must also submit annual filings to their state and the IRS by the published deadlines in order to remain in their 501(c) status. If the founders or the Board of Directors is unfamiliar with these requirements, then it can take more than a year to restore what gets lost when filing date gets missed.
2. There are several costs to consider when filing for nonprofit status.
Organizations that wish to become a nonprofit must file for this status in their state and with the federal government in the United States. You must file Form 1023 during this process, which is an expense that will be $850 for most new companies. If you don’t expect revenues to exceed $40,000 over a 4-year period, then the standard filing fee can get reduced to $400. The actual expenses that you will pay vary by state because the incorporation fees are handled at that level of government.
3. Shared control is a requirement of nonprofit organizations.
Personal control has limitations under the scope of a nonprofit organization. This company is subject to laws and regulations based on the industry where it operates, along with its own articles of incorporation and bylaws. Some states require a nonprofit to have several directors, and these are the only people allowed to appoint officers or elect them so that policies receive the reviews that are mandated throughout the year.
4. Nonprofits receive more scrutiny from the general public.
Nonprofit organizations by definition are dedicated to the public interest. That means its finances must be open to public inspection. Anyone has the right to obtain a copy of the state and federal tax filings to learn about expenditures and salary information. Each company must also operate an annual general meeting where information about the budget and other mandated tasks must take place in the presence of anyone who wishes to attend. Publication of the time and date of these meetings is usually mandatory, and failing to meet this requirement can result in future problems with the nonprofit designation.
5. There is no guarantee that you’ll receive this status.
The IRS is willing to grant your company nonprofit status, then most states are going to follow suit. There’s just one problem: your business does not have a guarantee that the status will be awarded to it. A prospective nonprofit must organize, get an employer identification number, and then complete the tasks necessary to apply for the appropriate 501(c) status based on their planned activities, mission statement, and corporate vision.
After reviewing your application, the IRS will issue a determination letter that informs you as to whether you qualify for the status or do not.
6. No distribution to officers is permissible as a nonprofit company.
A 501(c)(3) nonprofit organization is prohibited from distributing any of its proceeds to board members or officers. Although the company does receive permission to pay a reasonable salary with its status, the remainder of the assets must be used in some way to achieve its stated charitable purpose.
Should a nonprofit organization transfer excessive assets to one of its officers or board members or enter into a transaction with one of these people, then the individual could get charged an excise tax on the proceeds as a penalty.
7. Limited political actions may be necessary with nonprofit status.
The United States considers a nonprofit organization to be charitable when its efforts are focused on scientific, literary, educational, or religious pursuits. Unless your 501(c) status specifically states otherwise, your company must refrain from intentionally or unintentionally lobbying elected officials or participating in political campaigns. Either activity could cause the company to lose its nonprofit status.
That doesn’t mean that your officers or a Board of Directors can’t have political opinions. It just requires these individuals to share them in a context that falls outside of the nonprofit organization.
8. Nonprofit companies can struggle to provide visible or tangible results.
Just because your company decides to be a nonprofit organization doesn’t mean that you’re going to change the world immediately. If you or your fellow founders are prone to disappointment and frustration when tangible outcomes aren’t visible, then working in this structure can be challenging. You may want to look for leaders that can help you to recognize the impact that you make every day, even if it doesn’t seem like you are making the world a better place.
The competition levels are high for nonprofits because individuals only have so much money that they can donate. If you don’t hit your fundraising goals, then your time might be limited.
9. Nonprofits must incorporate to provide personal asset protection.
If a nonprofit organization doesn’t go through the incorporation process, then the pass-through liabilities that partnerships and sole proprietors face may apply to you. Although the cost of incorporation may be high, it is usually worthwhile to make this investment because it creates some separation between your personal and professional assets.
There are currently over 1 million companies operating as a 501(c)(3) nonprofit organization in the United States. Another 500,000 companies register and operate under a different status in this section of the tax code. These businesses include private foundations and public charities. Contributions in the United States generally total over $350 billion each year. Religious organizations receive about 1/3 of all donations, well educational institutions bring in about 15% of the annual haul.
The primary challenge that faces companies like this is a lack of funding. Money can either come from within the organization, donations, fundraising activities, or the government. If cutbacks occur at the state or federal level, then the nonprofit often faces the issue of devolution. A loss of funds almost always directly translates into fewer activities that benefit the general public.
When considering the advantages and disadvantages of a nonprofit organization, the functions of the business must come under consideration. It may be the correct choice to pursue if you want to help people and you can manage the administrative responsibilities.
Blog Post Author Credentials
Louise Gaille is the author of this post. She received her B.A. in Economics from the University of Washington. In addition to being a seasoned writer, Louise has almost a decade of experience in Banking and Finance. If you have any suggestions on how to make this post better, then go here to contact our team.