An Association Primer on 501(c)(3) Foundations
During the past two decades, there has been a significant increase in the number of foundations established by industry trade associations and professional societies. These foundations, as not-for-profit organizations exempt from federal income tax under Section 501 (C)(3) of the IRS Code, are not only nonprofit, but they are also entitled to receive contributions from donors that qualify as a charitable gift deduction on the donors’ IRS tax returns. These foundations are often created to help fund educational, charitable, literary and scientific activities and can be a powerful strategic tool to expand available resources. At the same time, foundations are not a quick solution to the challenge of generating non-dues revenue.
The following content is intended to offer an objective review of association-related foundations and help answer the following questions:
Weighing the Tax Rationale
- If you do not have a foundation, should you start one?
- If you have a foundation, should you continue it or dissolve it?
- Should the association or society make a contribution to the foundation to which it is related?
Every organization in the United States that collects revenue is subject to paying federal taxes unless it is specifically exempt. Section 501(c) of the IRS Code lists more than 30 types of organizations that are exempt from paying federal income tax on net revenue. One particular group is associations that are exempt under Section 501(c)(6) — commonly referred to as “business leagues.” Another group includes organizations that operate “exclusively for educational, charitable, literary and scientific purposes,” which are exempt under Section 501(c)(3). Not only are these organizations exempt from paying federal income tax on their net revenues, but they are also entitled to receive contributions from donors who may claim them as charitable tax deductions on their federal individual or corporate income tax returns.
While funds contributed to a Section 510(c)(3) organization must be used only for educational, charitable, literary and scientific purposes, they can also be used by a related (c)(6) association if the association funds the same kind of exempt programs, products and services.
Strategically, foundations exempt under Section 501(c)(3) can be very valuable to attract contributions from individual donors, including gifts of cash, appreciated stock or real estate, bequests and other forms of planned giving. But despite popular belief, foundations are not necessary to attract contributions from corporations and businesses. In all but a very small number of cases, a contribution (sponsorship, advertisement, etc.) from a corporation or business to the association is deductible by the corporation or business as an ordinary business expense. So, the tax impact is the same whether a corporation or business contribution is made to an organization exempt under Section 501(c)(3) or Section 501(c)(6). It is deductible as a charitable gift or as an ordinary business expense. However, there is a 10-percent-of-revenue limit placed on corporate or business charitable gifts deductions.
When it Pays to Create a Foundation
Professional societies and industry trade associations may choose to start a foundation that can qualify for exempt status under Section 501(c)(3) if all of the following are true:
If the four criteria are not met, the society/association may choose to proceed with plans to establish educational, charitable, literary or scientific programs, products and services, but will do so without establishing a foundation. Instead, the association may choose to establish “board-designated” funds to segregate contributions. Such contributions are usually not deductible to the donor as a charitable gift, but may be deductible to corporations and businesses as usual business expenses.
- A sizable number of members are interested in making contributions in excess of $100, and they will only do so if they can get a charitable-gift deduction for tax purposes.
- A sufficient amount of members are willing to volunteer as leaders of this new organization.
- Leadership has identified a need for “educational, charitable, literary or scientific” programs, products or services that the association leadership believe are attractive to potential donors and essential to the association’s mission.
- Little or no need exists for the association to provide financial support to the new foundation.
From time to time, public, private and corporate foundations may be interested in supporting the educational, charitable, literary or scientific activities of a professional society or industry trade association. Usually, these foundations are required to make grants to organizations that are exempt under 501(c)(3) of the IRS Code. However, do not start an association-related foundation for the sole purpose of accepting such a grant. There are more than a few examples of associations having to financially support foundations that were started to receive a foundation grant.
Requirements to Establish and Maintain a Foundation
Establishing a foundation is fairly simple and straightforward. A corporation must be formed and incorporated in a state. You may want to determine the reporting and registration requirements of the state you are considering. The IRS Application for Tax Exempt Status must also be completed and submitted to the IRS. It usually takes approximately six months for the IRS to act on an application.
Once established, the foundation must meet the following requirements:
These costs of doing business must be considered when contemplating the establishment of a society/association related foundation. Other costs could include employee salaries, fundraising-related efforts, IT (i.e., database and database maintenance), printing, supplies, etc. These expenses all add up to overhead that some prospective donors are leery of when considering supporting the foundation. Professional societies and industry trade associations that fail to consider the cost of doing business can find themselves “donating” more funds and in-kind staff support to the foundation than the foundation is raising in revenue.
- It must submit an annual registration to the state, listing its officers and directors.
- An annual audit may be required by the state in which it is registered to demonstrate transparency and maintain eligibility for funding.
- Employees who are soliciting funds in a state may have to register, and there may be other regulations that require compliance.
- The board of directors may consider acquiring directors and officers and general liability insurance.
- All association-related foundations are required to annually file a non-profit organization tax return with the IRS.
What Should an Organization Do If It has a Foundation It Does Not Need?
There are times when professional societies and industry trade associations decide that their foundations are no longer serving a useful purpose. For example, they may have met the needs they were created to address, or may not have had success in raising money.
There are two options in such cases:
If you want to dissolve a foundation, contact an attorney for assistance in filing the proper paperwork with the IRS and the state in which the foundation is incorporated.
- Dissolve the foundation and disperse its assets, or
- Place the foundation in a dormant state.
If the organization believes that there may be a future need for the foundation, it can place the foundation in a dormant state. This halts all activity but stops short of legal dissolution. To achieve this result, the association governing board assumes the governing board role of the foundation, fundraising activity is stopped, annual tax filings and reports continue to be submitted, and other ongoing requirements are met.
Foundations are significant endeavors and certainly all decisions related to creating or managing them should not be taken lightly. Take the time necessary to explore your options and be thoughtful in your approach. Some foundations are established for the wrong reasons, and as a result, they become a burden rather than an asset. If you currently do not have a foundation, take a hard look to determine if you can achieve your objectives without establishing one. If a foundation is right for your organization, commit to it. If done right — and for the right reasons — it can be a significant asset for the association and help drive and create new value for members.
MAY 2015 EDITION
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