We speak with hundreds of people looking to start a nonprofit each year, and one topic comes up over and over again: Should my nonprofit be a public charity or a private foundation? And what’s the difference between the two? Many people think that if the word “foundation” is in the name of the organization, it’s automatically a private foundation, but that is not the case. There are several more misconceptions surrounding the topic, so let’s break down the basic differences between the two:
PC: Public charities typically carry out a direct charitable program. Public charities are restricted to activities related to their charitable purpose, as stated in their Articles of Incorporation. The vast majority of nonprofits, like churches, animal shelters, and youth sports clubs, are public charities.
PF: Often created by a single benefactor or family, private foundations typically don’t carry out a direct charitable program. Private foundations invest funds (or, receive regular funding from one primary source), then distribute at least five percent (5%) of their assets each year to their charitable priorities, often through grants, scholarships or other donations to public charities.
Public Support Test
PC: Public charities commonly need to pass one of two public support tests (unless they can prove they are within a few special categories like churches, hospitals and colleges). The most common public support test requires at least 1/3 of your nonprofit’s revenue to come from non-major donors. A major donor (in this case) is someone who donates 2% or more of the nonprofit’s total revenue (including program revenue).
PF: Private foundations do not need to pass the public support test, which means a private foundation can be (and often is) solely funded and controlled by one person, a family, a business or a small group of people with a common interest. Revenue of a private foundation is derived from this small pool of donors or from investments, not from donations from the general public and not from program service revenue.
PC: Public charities are generally required to have a diverse board of directors, which means that at least 50% of the board cannot be:
• related to one another (by blood or marriage)
• employed by the nonprofit
• owners of the same business
There are a variety of other requirements for public charities, which we cover in another article in more detail.
PF: One of the most important requirements for private foundations is that they must distribute at least 5% of their assets annually to their charitable cause(s). Private foundations must also file more paperwork to ensure they are following this requirement, including form 990-PF. They also are subject to more onerous laws around investments, conflicts of interest and similar matters.
• Animal Rescues
• Food pantries
• Many community foundations
• Most individual or family foundations
• Many corporate foundations
Whether you’re looking to create a public charity or a private foundation, we can help. And if you’ve accidentally classified your organization incorrectly with the IRS, we’ve assisted with the process of correcting that information as well. The first step towards starting or altering your public charity or private foundation is to request a consultation with one of our experienced nonprofit attorneys.
Or, if you’re in the planning phase of starting a new nonprofit, we also recommend you check out this free resource: Everything You Need to Know About Starting A Nonprofit.