Thursday, 4 April 2013

Can non-profit organizations meet all the needs for-profit businesses currently meet?

Tuesday, June 30, 2009

 By Ken Goldstein

 


I just came across an interesting blog post by Stephen Monrad with title of "Can non-profit organizations meet all the needs for-profit businesses currently meet?" (link presently unavailable for viewing) His conclusion is that "If a non-profit organization wanted to produce toothbrushes, there is no reason in principle that it couldn't."

I found it to be an interesting post. What follows is the comment that I left on the blog:

In the original post you say that there "is no reason that I could find that they need to limit their work to charitable or social goals." Well, actually, there is... In the U.S., at least, nonprofits receive their tax-exempt status - 501(c)(3) - from the IRS. The application requires a statement of the organization's charitable, educational, or social goals or mission. Presumably, the IRS reviews that before approving the application... presumably...

But, that doesn't mean that a nonprofit couldn't manufacture toothbrushes. If, somehow, the production of toiletries were related to the charitable purpose. For example, I'm aware of a catering company that is a tax-exempt nonprofit. The nonprofit's mission is to train at-risk populations in how to work in the food industry. New cooks enter the program, are trained, work real catering gigs, and then graduate to make room for the next group of new cooks.

To the clients hiring them for parties, they're just like any other caterer, but to the IRS it's a legitimate social enterprise providing educational assistance. I don't know how to translate that story to making toothbrushes, but you get the point.

A nonprofit can also run a for-profit business. A typical example would be a thrift shop set up to support a social cause. In this case, the IRS sees the profit from that enterprise as "Unrelated Business Income." The nonprofit does pay taxes on that portion of their income, but as long as it doesn't become their primary activity, it doesn't endanger their tax-exempt status for the charitable work.

In one of the comments, Clyde writes, "... Losses are a definite probability, but profit is a no-no, by definition." You'd think so, but "nonprofit" is really a misnomer. Nonprofits can (and, in good years, should) earn more than they spend in order to build reserves for lean years (such as we're now experiencing). What nonprofits are barred from doing is distributing that profit to the Board or principals as dividends. Profit is wonderful, as long as it is re-invested into the charitable mission.

Anyway, thanks for this post - It's an interesting conversation. 
The above text comes from the blog below...


Tuesday, June 30, 2009

Can non-profit organizations meet all the needs for-profit businesses currently meet?

I just came across an interesting blog post by Stephen Monrad with title of "Can non-profit organizations meet all the needs for-profit businesses currently meet?" His conclusion is that "If a non-profit organization wanted to produce toothbrushes, there is no reason in principle that it couldn't."

I found it to be an interesting post. What follows is the comment that I left on the blog:

In the original post you say that there "is no reason that I could find that they need to limit their work to charitable or social goals." Well, actually, there is... In the U.S., at least, nonprofits receive their tax-exempt status - 501(c)(3) - from the IRS. The application requires a statement of the organization's charitable, educational, or social goals or mission. Presumably, the IRS reviews that before approving the application... presumably...

But, that doesn't mean that a nonprofit couldn't manufacture toothbrushes. If, somehow, the production of toiletries were related to the charitable purpose. For example, I'm aware of a catering company that is a tax-exempt nonprofit. The nonprofit's mission is to train at-risk populations in how to work in the food industry. New cooks enter the program, are trained, work real catering gigs, and then graduate to make room for the next group of new cooks.

To the clients hiring them for parties, they're just like any other caterer, but to the IRS it's a legitimate social enterprise providing educational assistance. I don't know how to translate that story to making toothbrushes, but you get the point.

A nonprofit can also run a for-profit business. A typical example would be a thrift shop set up to support a social cause. In this case, the IRS sees the profit from that enterprise as "Unrelated Business Income." The nonprofit does pay taxes on that portion of their income, but as long as it doesn't become their primary activity, it doesn't endanger their tax-exempt status for the charitable work.

In one of the comments, Clyde writes, "... Losses are a definite probability, but profit is a no-no, by definition." You'd think so, but "nonprofit" is really a misnomer. Nonprofits can (and, in good years, should) earn more than they spend in order to build reserves for lean years (such as we're now experiencing). What nonprofits are barred from doing is distributing that profit to the Board or principals as dividends. Profit is wonderful, as long as it is re-invested into the charitable mission.

Anyway, thanks for this post - It's an interesting conversation.

19 comments:

  1. To me, the more interesting question is, "Can for-profit business meet all the needs nonprofits currently meet?"

    Media darling TOMS Shoes is making the case that it can provide shoes to a lot of the world...it doesn't translate everywhere, but it's very fun to think about.
    ReplyDelete
  2. Suppose I wanted to start a non-profit to manufacture beer. Making beer is clearly not meeting a social need. It is in fact probably contributing to alcoholism and drunk driving.

    So, it's a nutty idea. But suppose I'm a rich nut who likes beer. Suppose it costs a million dollars to set up a beer producing business and I have a million dollars lying around. Is there a way for me to set up a non-profit to produce beer with a board of directors and whatever else most non-profits have? More specifically, could I legally prevent my non-profit from ever distributing profits?

    I'm not worried about the tax issues. If the government wants to tax the retained earnings, the non-profit could just pay the taxes. What I am concerned about is the legal structure. Could a beer producer be set up that is legally prevented from paying dividends?
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  3. Stephen: I love your idea of a nonprofit brewer! The simplest answer to your question - "Could a beer producer be set up that is legally prevented from paying dividends?" - is "Yes."

    If you are successful in getting a 501(c)(3) for such a brewery, then you would be prohibited from distributing profits or dividends to investors or directors. Any violation of that would result in the IRS yanking your nonprofit status.

    But... since you're not worried about paying taxes on the non-charitable income, that's not really an issue for you, therefor, not much of a deterrent.

    Other than the fun of thinking of a nonprofit brewery, I think the bigger question is why such an enterprise would want to organize as a nonprofit in the first place? The tax-exempt status is what most are after. If you don't care about that, then why bother?

    So, just for fun, how can we justify a brewery as a social enterprise? How about we open it up in Milwaukee and come up with a "cultural preservation" mission?

    Sam: Absolutely, for-profit companies can "do well by doing good." But "all the needs"? Probably not. While many needs can be met through creative use of the profit motive, many more needs arise out of market failures of some kind.

    I believe there are some needs that only a nonprofit can fulfill because there's simply no way to turn a profit on solving it. But I'd love to see you try to prove me wrong!
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  4. Ken G

    I don't think there is a social reason in the usual sense to develop a non-profit brewery.

    I'm coming at this trying to figure out if we need for-profit businesses at all. Here's an analogy. Government used to be a for-profit venture. Kings would provide law and order and make a tidy profit in the process. Eventually we discovered that an elected government could provide law and order and other government services without paying decision makers obscene amounts of money. People used to think there was something special about kings that was needed to govern well. We've gotten over it.

    Is there something special about investors in for-profit businesses that is needed for them to work well? If not, I'd want to give them the heave-ho too. I was just curious how much legal changes would be needed to run traditional for-profit enterprises on a non-profit basis.

    Finally, in a broad sense, all of economic production is intended to benefit society. If people want beer, it's socially useful. It makes them happy.
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  5. Stephen: I like where you're going with this, and that Kings for Profit analogy is great. I'll be checking out your blog more often to see where you go with these ideas.
    ReplyDelete
  6. "Nonprofit" truly is a misnomer. I prefer "social profit" or "social good". It keeps the eye on the real work of the organization.

    "Nonprofit" has to do with your tax status, and is definitely not a way to approach doing business.
    ReplyDelete
  7. I recently came across your blog and have been reading along. I thought I would leave my first comment. I dont know what to say except that I have enjoyed reading. Nice blog. I will keep visiting this blog very often.


    Margaret

    http://grantfoundation.net
    ReplyDelete
  8. I’m Not sure it can be done.
    Please consider this for us your insight and assistance is vital.

    Tiles for Smiles is a nonprofit organization dedicated to the advancement of Children with Cerebral Palsy. Our purpose is to provide schools, religious and other charitable organizations a resource to expand their fund raising activities by producing engraved tile, stone and any other product that can assist their efforts and financial growth. Through the production and sale of specialty craft items, and participation in local craft events, we will raise support, awareness and funding. Our intention is to grow to enable a greater level of financial assistance for local and national therapeutic centers along with organizations that support Children with Cerebral Palsy.

    We are currently in our final stages with the IRS in consideration of our 501 tax exempt status and question 13 goes just like this –
    Please explain how granting exemption to would not provide an unfair advantage by operating as an exempt organization, over for-profit competitors. Competition with commercial firms is strong evidence of the predominance of nonexempt commercial purpose for determining weather an organization can be classified as tax exempt. And if the conduct of a business with apparently commercial character is a taxpayer’s sole activity the fact weighs heavily against exemption.


    All officers are non-compensated (volunteers) as we are a volunteer organization.

    Any opinions on this would be very much appreciated.
    THANK YOU
    Peace
    Tom P.
    ReplyDelete
  9. Question: Can a non-profit organization (a church for instance) financially support a for-profit company that is not its own? I'm talking about supporting a for-profit on a regular monthly basis? Legal? Thanks!
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  10. Hi HJ - I'd need to hear more about the type of business being "supported" by the nonprofit, and why they would be doing it, but I'd guess that the IRS would be very suspicious of such an ongoing arrangement.

    The appearance (whether deliberate or innocent) would be that you're using the tax-exempt status of the nonprofit to raise capital for a business on which you would keep the profit for personal use.

    You'd need to have a very strong argument for why that business is mission related, and not just an attempt to circumvent tax laws, to even think about trying it.
    ReplyDelete
  11. To Ken G., Stephen M. et al.:

    There are numerous social reasons that could be invoked earnestly for a non-profit brewery. Before I even came across this discussion, I had mulled over the very idea on my own.

    Any of the following could be relied up sincerely (perhaps even more than one):

    * bolstering local production of an otherwise nationally & internationally distributed product

    * bolstering local consumption of brewing inputs -- materials, equipment, grains, bottles

    * training workers in the brewing arts in particular and business in general

    * reducing the carbon footprint in the consumption of beer: a beer produced & consumed locally, with as much of its inputs being locally sourced as well, has a much greener profile than a beer that has been trucked halfway across the country.

    Enjoy.

    Thanks, too, for stirring this discussion.
    ReplyDelete
  12. http://www.finnegans.org/

    This is a brewer in MN who donates all of its profits to charities through it's Community Fund. Just to add to the discussion of a nonprofit brewery!
    ReplyDelete
  13. Not for profit is different to tax exemption. In the US it appears (from a quick read of online material) that the IRS tax exemption clause is referred to as a "501(c)". This is in reference to tax exemption. If a NFP Corporation (or association) is setup for a purpose (eg toothbrush manufacture) and its main purpose is the manufacture and distribution of this product, then it meets the criteria of an NFP if moneys made from the sale of these items go back into further manufacture and distribution of the product. This means that in the normal order of business, wages can be paid to employees by the NFP, as well as all usual business expenses paid. The only difference is in the ability to receive tax exemption under certain circumstances. There are many other requirements for NFP status in Australia and I am unaware if these are different in the US. As a general rule Multinational Corporations use NFPs as a way of writing off tax and I can't see there being any major differences between countries in this respect. If anything US legislature is probably friendlier to corporations.
    Yes this is a simplified example and there are a multitude of variations on the theme. My point is to not mix up tax exemption and Not For Profit. They are not the same thing.
    ReplyDelete
  14. I regards to the beer Nut setting up as non profit, you could always set up with the "Mission" being to provide affordable beer to under priviledged and indegents. After all health care is non profit, and I have none to speak of. So here is what you do; You set it up to provide beer to low income individuals and survey to see if there is an increase of arrests in low income families.

    After all, there is a non profit that studies the mating habits of the housefly. Figure that one out.
    ReplyDelete
  15. Currently, I work for a non-profit and they have me setting up a for profit entity.

    It is a weatherization service that will be offered to paying clients; with the proceeds going right back into the non-profit.

    Initially, I was going to set up a LLC but now I am considering setting it up under the non-profit organization.

    As long as the profits are used to supplement the non-profit I should be ok, right?
    ReplyDelete
  16. Hi to John M:

    If you do the for-profit weatherization under the non-profit, the IRS could take issue. Even though it's financially supporting the organization, if it doesn't fit into the mission, they'll consider it "Unrelated Business Income" and want you to pay taxes on it. You may want to run this past your lawyer and/or auditor for confirmation. Best of luck!
    ReplyDelete
  17. Just found your blog and read Stephen Monrad's comment wondering if we need non-profits at all. My response is that non-profits fill gaps where the need may not be perceived as great enough, the potential for profit not large enough or the social cause not attractive enough. Usually, successful non-profits arise where all three of these coincide.
    ReplyDelete
  18. My son and some friends are contemplating setting up a non-profit bar/community center that would donate all of its profits to various other non-profits in their community, as well as provide a community space for arts and music. Any ideas on the best way to frame their mission statement, etc. to assist in IRS approval of 501(c)3 status? Thanks very much. Very interesting discussion.







 

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