Legal jargon can be difficult to read and understand for attorneys and even more so for everyone else. This problem is no less an issue in the nonprofit sector, especially given that many people wanting to start nonprofits are just looking to do good in society and might not have a legal background and/or have never been exposed to the nonprofit vocabulary. This makes it challenging to understand the complicated system and frequently overlapping terms used in the nonprofit sector.
This article will attempt to explain some of the more common terms in the nonprofit sector and help break through the “legalese.”
Nonprofit Legal Terms
With more than 1.5 million tax-exempt organizations in the U.S., according to a report by the National Center for Charitable Statistics, the nonprofit sector is a large and expanding sector so that an understanding of the basic terms would benefit any individual interested in starting a nonprofit as well as any attorneys that might possibly be faced with questions regarding the nonprofit sector, which is becoming more and more likely.
The most common terms that are confused in this sector are nonprofit, not-for-profit, and tax-exempt. Many people think they are all synonymous with each other, however, that is not the case. While the terms nonprofit and not-for-profit are in fact interchangeable, a tax-exempt organization is not necessarily the same as a nonprofit or not-for-profit organization.
The terms nonprofit and not-for-profit are typically terms used by states to designate entities that are not organized for the sole purpose of making a profit. There is no difference between these two terms other than what your state chooses to call such organizations. But, tax-exempt, in this context, refers to an organization that is under the Internal Revenue Code in some way as being exempt from paying federal income taxes. Therefore, an organization can be a nonprofit or not-for-profit, but not tax-exempt, although it would be so rare as to preclude even providing an example.
Within the tax-exempt sphere there are two common shorthand terms used to define specific organization types, public charity, and private foundation. These terms are from the Internal Revenue Code and indicate specific rules that tax-exempt organizations must follow to be classified in certain ways. First, a 501(c)(3) organization is a type of tax-exempt organization that is organized for certain purposes that include charitable, religious, educational, scientific, literary, testing for public safety, fostering national or international amateur sports competition, and preventing cruelty to children or animals. These organizations must be organized and operated to perform at least one of these purposes and can be either public charities or private foundations.
Many people use the term charitable to describe any organization that is a nonprofit/not-for-profit and/or tax-exempt organization. However, as is illustrated from the definition of 501(c)(3), not all tax-exempt organizations are involved in what is defined as charitable work. Some of them are religious in nature, educational, scientific, etc. This term is not particularly an issue in translating “legalese,” but it does provide an example of how complicated and different legal terminology is from the way people generally communicate.
In order to be a public charity, an organization must not be a private foundation by passing one of the various tests under the code section that sets out such tests, 509(a). In general, this section defines public charities and private foundations. First and one of the most common, an organization must pass a public support test, which means the organization’s support comes largely from governmental units, other publicly supported charities, and/or the general public.
Second, an organization can be a public charity as one of three different supporting organizations. Supporting organizations are not as common as the other organization types and will not be discussed in more detail here. Third, there is a specific enumeration for organizations involved in testing for public safety. Lastly, there are a number of other organizations that are specifically enumerated as public charities based on the organizational type, such as a church, school, etc.
The world of nonprofit startups can be a difficult world to enter for anyone, especially if you are not equipped with the requisite knowledge to understand the terms that are being used to describe your organization and its status, requirements, and responsibilities. However, the terms and explanations included here should be able to provide a solid basis to understand at least some of the terms that are being used by in the nonprofit sector.
Attorney Zac Kester provides generalist and strategic nonprofit legal and consulting services. He holds a Master of Laws, a post-law school advanced degree, in which he studied the unique needs of tax-exempt nonprofit organizations. His legal and consulting career has focused on nonprofit organizations.
With highly experienced legal and training personnel, Charitable Allies provides all manner of legal and educational services for boards, officers, management and staff of myriad charities throughout the sector. From basic one-time questions about a single matter to training for boards and officers to complex reorganization or merger of activities, Charitable Allies is your go-to cost-effective provider of legal services to nonprofit organizations.
Contact Zac Kester, Executive Director, at 317-333-6065 or firstname.lastname@example.org with any questions.