Should a nonprofit be an LLC or corporation? If you’re thinking of starting a nonprofit organization, this question is probably top of mind. These nonprofit entities are viable options (depending on your state), but they have some key differences.
In this guide, we’ll discuss the basics of nonprofit corporations and nonprofit limited liability companies, including what they are, how they’re different, and which may be the better choice for your nonprofit organization.
Nonprofit corporations are corporations that have organized to fulfill a charitable purpose or otherwise benefit society. Sometimes they’re called non-stock corporations. It’s important to note that “nonprofit” doesn’t mean that these corporations can’t make an income. “Nonprofit” simply implies that the income these corporations make isn’t distributed to the shareholders; instead, it’s reinvested into the organization’s charitable purpose.
Like a regular corporation, a nonprofit corporation has a board of directors and corporate bylaws. It technically doesn’t have shareholders or “owners” in the normal sense of the term. The nonprofit corporation structure is available in all 50 states and Washington, D.C.
We should note an important distinction between a nonprofit corporation and a benefit corporation. In a benefit corporation, sometimes called a B corporation, the business does work for a charitable cause, but it’s not a strictly non-profit organization. It’s a profit business entity that has shareholders who can receive dividends from the business profits.
For purposes of this guide, we’re covering nonprofit corporations, not benefit corporations.
A nonprofit LLC is a limited liability company that is organized for a charitable purpose. Nonprofit LLCs are actually relatively rare, as very few states allow them. As of this writing, only California, Tennessee, North Dakota, and Minnesota are the only states that allow them.
For legal purposes on the state level, nonprofit LLCs are treated as regular LLCs. But their tax treatment can be different. To qualify for 501(c)(3) status, a nonprofit limited liability company has to elect to be treated like a corporation for tax purposes. Then it can file for tax-exempt status. Even then, not all LLCs can qualify (all the members have to be qualifying nonprofit organizations).
All told, the nonprofit LLC is a pretty new, unproven structure, and the IRS is still establishing guidelines for how to treat it. While it’s still a legal entity option in the states that allow them, they’re still a bit tricky.
Some states offer a “hybrid” LLC, which is slightly different from a strict nonprofit LLC. A low-profit LLC (L3C) is a sort of blend of an LLC and a nonprofit. The L3C is technically for-profit, but its stated business purpose benefits or educates the general public somehow. These entities also have to satisfy some IRS criteria as a benefit organization.
For purposes of this guide, we won’t be covering these entities in detail, but they are options available to some groups.
Even though both a nonprofit LLC and nonprofit corporation are organized for the public benefit, there are several notable differences between a nonprofit LLC and a nonprofit corporation. For starters, there’s the critical difference of availability. Nonprofit LLCs aren’t available in the vast majority of states, but you can incorporate as a nonprofit in every state.
But the more important distinction is in how these nonprofits are structured and managed. Let’s cover those in a bit more detail.
Nonprofit LLCs and nonprofit corporations look a bit different in their daily operations. A nonprofit corporation, like any profit corporation, must meet certain corporate formalities, including appointing a board of directors, drafting and abiding by bylaws, and holding regular meetings, on top of its identity as a charitable organization.
Nonprofit LLCs, however, are a little bit simpler to run. Even though any LLC should abide by an operating agreement, it’s generally simpler than nonprofit bylaws. Likewise, nonprofit LLCs don’t have as stringent of requirements for member meetings or governance. They’re pretty easy to operate and maintain.
If a nonprofit entity wants to qualify for tax exemption status — as many do — it must meet the IRS’s criteria for doing so. One of those criteria is that the entity’s activities cannot financially benefit any private shareholders. It also has to include special language in its organizational documents, such as its Articles of Organization or Articles of Incorporation.
According to IRS guidance for nonprofit LLCs, nonprofit LLCs that want to get tax-exempt status cannot have any private shareholders or individual members. All members have to be other tax-exempt organizations. Otherwise, the IRS argues, the members could have a profit-based interest in the LLC, even though it’s organized for a charitable purpose.
Nonprofit corporations still have to meet criteria to gain tax-exempt status. But since it doesn’t technically have “business owners,” it’s a bit more straightforward. For tax purposes, the people associated with the nonprofit are employees, donors, or directors — all groups that don’t get a profitable interest in the business (not counting wages, which don’t affect the entity’s eligibility for tax exemption).
Technically, nonprofit organizations don’t have to obtain tax-exempt status, but it’s a big draw for many. So, we’ve mentioned it here. But federal tax exemption is complicated, so we recommend consulting with a licensed tax attorney for more assistance.
Generally, a nonprofit corporation is recommended over a nonprofit LLC simply because a nonprofit corporation is a bit more practical. For starters, a corporation is a more proven entity type; the IRS has firmly established guidance for their taxation, exemption from income taxes, and more. The same applies for state laws for nonprofit corporations.
Additionally, nonprofit corporations are available in every state, and nonprofit LLCs aren’t. If you have any aspirations of pursuing your nonprofit’s mission across the country, a nonprofit LLC would make it harder to cross state lines with a qualification as a foreign entity. But if you’re a nonprofit corporation, you’ll have fewer issues since all states recognize them.
Last but not least, if you’re hoping to obtain federal tax-exempt status for your nonprofit, it’s a bit easier to do so as a nonprofit corporation.
Running a profit can feel complicated and overwhelming, but you don’t have to do everything alone! ZenBusiness doesn’t currently offer formations for nonprofits, but we can help you with other essentials. Whether you need a website for your nonprofit, a domain name, a registered agent, or anything in between, we’ve got your back.
Disclaimer: The content on this page is for informational purposes only and does not constitute legal, tax, or accounting advice. If you have specific questions about any of these topics, seek the counsel of a licensed professional.
Most nonprofits are structured as corporations. Most states don’t even offer nonprofit LLCs, so practically speaking, nonprofit corporations are more common simply out of necessity. That may change later if more states adopt nonprofit LLCs, but for now, corporations are more common.
“Best” isn’t quite the right word. Every nonprofit has slightly different needs. For example, an LLC might be an easier structure to manage for a very small nonprofit. But practically speaking, a nonprofit corporation is arguably the better choice because that entity structure is more readily available. It’s also a firmly established corporate structure, so there’s less guesswork and uncertainty.
501(c)(3) entities are nonprofits that have applied for and received tax-exempt status from the federal government. Simply put, a nonprofit corporation is a business entity type, while a 501(c)(3) is a tax status an entity can elect.
Often, nonprofit corporations apply for tax exemption as a 501(c)(3) organization, but not all nonprofits are automatically 501(c)(3)s.
Nonprofit corporations and nonprofit LLCs still enjoy personal liability protection as long as they’re operated compliantly. If the nonprofit runs into legal or financial trouble, the shareholders or members usually can’t lose their personal assets to help pay up.
Since they can’t issue stock or have private owners, nonprofit entities have to rely on charitable grants, private grants, and charitable contributions to raise capital for their mission.
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