The Structure and Basis of a Non-Profit Business/Organization
For starters, what is a non-profit business?
An NPO is a business and/or organization which typically maintains a ‘tax-exempt’ status by the government and the IRS, usually due to social causes, public benefit, and altruistic activities the organization provides.
If a company is classified as a 501(c)(3), how does it make capital?
These organizations tend to have a plethora of accounting and business entities, which means they possess various funds from donors, sales, services (such as insurance, banking, credit unions).
What if the not-for-profit business suddenly stops receiving revenue from donors/grants?
NPO’s have what we refer to as an ‘operating reserve‘, which in simple terms, is an emergency savings that has no restricted fund/assets that the company may use in time of dire need (i.e. loss of revenue, increase in expenses, delayed payments, etc.). There is no legal limit as to how much can be saved. Fun fact: Harvard University has $34 billion tucked away in their operating reserve.
NPO Income and Net Earnings for the Year
As these types of organizations have founder and not owners, they are not permitted to make profit or benefit from the net earnings of the organization. As there is no point in establishing an organization with the sole objective of not distributing its profits, one might wonder how NPO organizations’ objectives can be modeled to allow a sufficient economic analysis.
So, where does the income come from?
As stated above, from a number of sources, such as:
– grant writing
– sponsorships
– revenue generation
1. Grant Writing
This takes place when the organization applies for grants made available by the government bodies and humanitarian companies.
2. Sponsorships
Let’s say your for-profit company decides to sponsor a non-profit organization as a form of advertising. Your business would make a payment to be associated with certain events which, in return will bring attention to the NPO and your corporation. The set of shared goals through a marketing campaign directed at both entity’s audiences will gain benefit. (for-profit will gain business, NPO would gain more humanitarian help/donations)
3. Revenue Generation
This is based on the sales of products and goods to support the organizations work and services. A good example of a revenue would be the sale of Girl Scout Cookies. The money made from the sale of the goods goes to the council’s local area to benefit girls and also towards programming, scholarships, or for local community service projects.
What do non-profits present each year to the government?
An NPO prepares a few documents that need to be presented at the end of each fiscal year:
- balance sheet
- income
- expenditure statement
This proves whether the staff has responsibly managed the organizations budget.
– If the net income is more than the expenditure (how much outflow of money there is), the organization has a surplus of money.
– If the management has spent more than it has brought in, it is in deficit and may possibly owe money to some 3rd party shareholders.
What is done with the surplus?
Retained earnings is what is accumulated after you have paid expenses and dividends to your business’s shareholders or owners. The amount should be positive in the account. The money can be either be (re)invested for:
- safekeeping
- kept for dividends (paying dividends to shareholders at a later date)
- reinvested back into the organization. (During this, the money can be used to fund operational costs, funding an expansion, compensation, and benefit for the founders/management and staff)
Expenses Made by NPO’s
A non-profit organization is similarly operated the same way a small business is. Some of the expenses that NPO’s have to look after are rent, insurance, payment on loans, utilities, basic administration expenses. These are examples of fixed costs. These expenses do not change over time
Variable costs, do change over a duration of time. They are dependent on a production output. These are production and supplies expenses, commissions, advertising and publicity. As the volume of production and output increases, variable costs will also increase
Knowing all this, do all NPO’s classify as a 501(c)(3) of the IRS code?
Short answer, no. Some non-profit businesses are actually granted by the state, meaning the regulatory laws must be followed as what the state implies. These are written as 501(c). They may not allow the donors/charities to write off donations.
501(c)(3) is considered to be a charity, thus allowing donors to make charitable donations which are tax-deductible.
501(c)(6) is a non-taxable, meaning is has no liability to make a compulsory payment for income earned (briefly put – the organization does not pay taxes to the government), but donors do not receive a tax deception for making a donation.
Finally, what is needed for a non-profit organization?
A brief breakdown of some of the essentials needed to fund an NPO:
1. Business name
Choose a name that is not being used by any other entity.
2. Board of Directors
Most states in the U.S. require you to appoint a Board of Directors to organize the operations of the business. The number of members is a state-by-state requirement, but usually it must be composed of 3 members.
3. Write the Certificate of Incorporation
A formal paperwork you must file with the state and pay a small fee.
4. Write the bylaws
These will outline the day-to-day rules for your organization and provide comprehensive guidelines and rules to control the actions of your members.
5. File Federal IRS Form 1023
This applies you for recognition of exemption from federal income tax under the IRS code of 501(c)(3). Your organization may or may not be eligible for this.
6. Obtain Licenses and Permits
These must comply with federal, local, and state laws.
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This is an overall run down of some of the steps that need to be taken for the federal application of an NPO. It goes more in depth, but fear not, our panel of experts are more than ready to help guide you with any questions on building your own non-profit business. Contact Bargain Business Plan today to learn more about our team. Our consultations are always free.
