Piercing the Corporate Veil—If You Want to Be Treated Like a Corporation, It’s Best to Act Like One
Public Charities: Annual Exempt Organization Return
Private Foundations: Annual Exempt Organization Return
Unrelated Business Income: Annual Exempt Organization Tax Return
California Corporate Tax Returns and Reports
Public Charities: Annual Exempt Organization Return
Private Foundations: Annual Exempt Organization Return
Unrelated Business Income Tax Return and Quarterly Estimated Tax Payments
Attorney General Annual Periodic Report
Public Benefit Corporations’ Annual Corporate Report
Federal and State Corporate Employment Taxes
Federal Employment Taxes and Forms
State Employment Taxes and Forms
Sales Tax Forms and Exemption From Sales Tax
Groups Exempt From Collecting and Submitting Sales Tax
Dissolving a Nonprofit Corporation
Winding Up Corporate Business and Distribution of Assets
You have now incorporated your nonprofit and have handled many initial organizational details. But before you close this book, read just a little more. After incorporating, you need to become familiar with the formalities of corporate life, such as filing tax returns, paying employment taxes, and preparing minutes of formal corporate meetings. In this chapter, we look at some tax and other routine filings required by federal, state, and local governmental agencies. At the end, we give you an overview of what’s involved in dissolving a nonprofit corporation.
The information presented here won’t tell you everything you will need to know about these subjects, but will provide some of the basics and indicate some of the major areas that you (or your tax adviser) will need to go over in more detail.
After you’ve set up a corporation of any kind, your organization should act like one. Although filing your articles of incorporation with the secretary of state brings the corporation into existence as a legal entity, this is not enough to ensure that a court or the IRS will treat your organization as a corporation. What we are referring to here is not simply maintaining your various tax exemptions or even your nonprofit status with the state—we are talking about being treated as a valid corporate entity in court and for tax purposes. Remember, it is your legal corporate status that allows your organization to be treated as an entity apart from its directors, officers, and employees and allows it to be taxed (or not taxed), sue, or be sued, on its own. It is the corporate entity that insulates the people behind the corporation from taxes and lawsuits.
Courts and the IRS do, on occasion, scrutinize the organization and operation of a corporation, particularly if it is directed and operated by a small number of people who wear more than one hat (such as those who fill both director and officer positions). If you don’t take care to treat your corporation as a separate legal entity, a court may decide to disregard the corporation and hold the principals (directors and officers) personally liable for corporate debts. This might happen if the corporation doesn’t have adequate money to start with, making it likely that creditors or people who have claims against the corporation won’t be able to be paid; if corporate and personal funds are commingled; if the corporation doesn’t keep adequate corporate records (such as minutes of meetings); or generally doesn’t pay much attention to the theory and practice of corporate life. Also, the IRS may assess taxes and penalties personally against those connected with managing the affairs of the corporation if it concludes that the corporation is not a valid legal or tax entity. In legal jargon, holding individuals responsible for corporate deeds or misdeeds is called “piercing the corporate veil.”
To avoid problems of this type, be careful to operate your corporation as a separate legal entity. Hold regular and special meetings of your board and membership as required by your bylaws and as necessary to take formal corporate action. It is critical that you document formal corporate meetings with neat and thorough minutes. Also, it is wise to have enough money in your corporate account to pay foreseeable debts and liabilities that may arise in the course of carrying out your activities—even nonprofits should start with a small cash reserve. Above all, keep corporate funds separate from the personal funds of the individuals who manage or work for the corporation.
In this section, we list and briefly discuss the main IRS tax paperwork you can expect to face as a 501(c)(3) nonprofit corporation.
Your 990 and 990-T (unrelated business income return) forms must be made available for public inspection (see the IRS website at www.irs.gov for more information).
IRS forms, instructions, fees, and penalties are subject to constant change. Make sure to get the most current information (on return deadlines, tax rates, penalties, and so on) when you file. You can download the federal tax forms discussed in this section from the IRS website, at www.irs.gov. Go to “Forms & Pubs” on the IRS website, then “Current Forms & Pubs,” and type in the form number.
Nonprofit corporations exempt from federal corporate income tax under Section 501(c)(3) and treated or classified as public charities must file IRS Form 990, Return of Organization Exempt From Income Tax (together with Form 990, Schedule A). The filing deadline is on or before the 15th day of the fifth month (within four and a half months) following the close of their accounting period (tax year). You should file this even if your 1023 federal application for exemption is still pending.
Depending on their annual gross receipts and total assets, some groups may be eligible to file a simplified IRS Form 990-EZ or a 990-N (postcard) instead of Form 990. Also, some types of nonprofits, such as churches, are exempt from annual 990 filing requirements. (See the instructions to these 990 forms on the IRS website, www.irs.gov, for more information.) Section 501(c)(3) public charities that file Form 990 or 990-EZ must also complete and submit Form 990, Schedule A (with additional schedules if required), to their return. This form is used to test whether the publicly supported charity meets the applicable support test for the year (see Chapter 4).
Watch out for short deadlines. Your first 990 return deadline may come up on you sooner than you expect if your first tax year is a short year—a tax year of less than 12 months.
EXAMPLE: If your accounting period as specified in your bylaws runs from January 1 to December 31 and your articles were filed on December 1, your first tax year consists of one month, from December 1 to December 31. In this situation, your first Form 990 would have to be filed within four and a half months of December 31 (by May 15 of the following year), only five and a half months after your articles were filed. It is likely that your federal tax exemption application would still be pending at this time.
Your federal exemption determination letter should state whether you must file Form 990.
If your nonprofit corporation makes the political expenditures election by filing Federal Election Form 5768 (discussed in “Limitation on Political Activities,” in Chapter 3), indicate on Form 990, Schedule A, that you made this election and fill in the appropriate part of the schedule showing your actual lobbying expenditures during the year.
990 returns as financial disclosure. Most California public benefit corporations must report annually to the California Attorney General. A copy of the nonprofit’s federal Form 990 must be included with the attorney general annual report form.
IRS e-Postcard, Form 990-N, annual filing requirement for small nonprofits. Small tax-exempt organizations that are not required to file 990 returns with the IRS are required to file an annual electronic notice with the IRS—Form 990-N, Electronic Notice (e-Postcard) for Tax-Exempt Organizations not Required To File Form 990 or 990-EZ. Organizations that do not file the e-Postcard or an information return Form 990 or 990-EZ for three consecutive years will have their tax-exempt status revoked.
For more information and to file a 990-N online, go to the IRS website (type “990-N” in the search box).
Very few 501(c)(3) nonprofits will be classified as private foundations. If you are one, however, you must file a Return of Private Foundation, Form 990-PF, within four and one-half months of the close of your tax year. You file this Form 990-PF instead of Form 990, discussed above. You’ll provide information on receipts and expenditures, assets and liabilities, and other information that will help the IRS determine whether you are liable for private foundation excise taxes. You should receive the form and separate instructions for completing it close to the end of your accounting period. Again, watch out for a short first year and an early deadline for filing your Form 990-PF.
The foundation manager(s) must publish a notice telling the public that they may see the annual report. Do so in a local county newspaper before the filing deadline for the 990-PF. The notice must state that the annual report is available for public inspection, at the principal office of the corporation, within 180 days after the publication of the inspection notice. A copy of the published notice must be attached to the 990-PF.
File Your Returns on Time
The IRS and the state are notoriously efficient in assessing and collecting late filing and other penalties. So, while it’s generally true that your nonprofit corporation does not have to worry about paying taxes, you should worry a bit about filing your annual information returns on time (including your employment tax returns and payments). Too many nonprofit corporations have had to liquidate when forced to pay late filing penalties for a few years’ worth of simple informational returns that they inadvertently forgot to file.
Another important aspect of late filing penalties and delinquent employment taxes is that the IRS (and state) can, and often do, try to collect these often substantial amounts from individuals associated with the corporation if the corporation doesn’t have sufficient cash to pay them. Remember, one of the exceptions to the concept of limited liability is liability for unpaid taxes and tax penalties. The IRS and state can go after the person (or persons) associated with the corporation who are determined to be responsible for reporting and/or paying taxes.
We suggest all nonprofits obtain IRS Publication 509, Tax Calendars, prior to the beginning of each year. This pamphlet contains tax calendars showing the dates for corporate and employer filings during the year.
Information on withholding, depositing, reporting, and paying federal employment taxes can be found in IRS Publication 15, Circular E, Employer’s Tax Guide, and the Publication 15-A and 15-B Supplements.
Other helpful IRS publications are Publication 542, Corporations, and Publication 334, Tax Guide for Small Business.
Helpful information on accounting methods and bookkeeping procedures is contained in IRS Publication 538, Accounting Periods and Methods, and Publication 583, Starting a Business and Keeping Records.
You can get IRS publications online at www.irs.gov. You can also pick them up at your local IRS office (or order them by phone—call your local IRS office or try the toll-free IRS forms and publications request telephone number, 800-TAX-FORM). California tax forms and information are available at www.ftb.ca.gov. California employment tax information can be downloaded from www.edd.ca.gov.
For information on withholding, contributing, paying, and reporting California employment, unemployment, and disability taxes, get the California Employer’s Guide (Publication DE 44), available online at www.edd.ca.gov.
With a few minor exceptions, Section 501(c) (3) federal tax-exempt corporations that have gross incomes of $1,000 or more during the year from an unrelated trade or business must file an Exempt Organization Business Income Tax Return (Form 990-T). The form is due within two and a half months after the close of their tax year. For a definition and discussion of unrelated trades and businesses, see “Federal Unrelated Business Income Tax,” in Chapter 5, and obtain Federal Publication 598, Tax on Unrelated Business Income of Exempt Organizations. Use booklet 598 and the separate instructions to Form 990-T to prepare this form.
The taxes imposed on unrelated business income are the same rates applied to normal federal corporate income. Remember that too much unrelated business income may indicate to the IRS that you are engaging in nonexempt activities to a substantial degree and may jeopardize your tax exemption.
In this section, we list some of the California tax reporting forms and paperwork you will need to tackle as a tax-exempt nonprofit corporation. Tax forms, instructions, and rates frequently change. Go to the Franchise Tax Board website at www.ftb.ca.gov for the latest information and forms.
Nonprofit corporations exempt from tax under 23701(d) of the California Revenue and Taxation Code (the state parallel exemption to the federal 501(c)(3) exemption) and classified by the IRS as public charities must file a California Exempt Organization Annual Information Return, Form 199. The form is due within five-and-a-half months of the close of their tax year. Depending on their annual gross receipts, some groups may be eligible to file a 199N (e-postcard) instead of Form 199. The state exemptions from the 199 filing requirements are similar to the IRS exemptions from filing Form 990. A failure to make timely 199 filings can result in a suspension of corporate rights, powers, and privileges; or a revocation of the corporation’s state tax exemption.
If you’ve made a political expenditures election with the state (by submitting a copy of your federal 5768 election form to the Franchise Tax Board within the year), attach Form FTB3509, Political or Legislative Activities by Section 23701(d) Organizations, to your annual 199 filing.
California corporations exempt under Section 23701(d) of the Revenue and Taxation Code and classified as private foundations must file Form 199. Private foundations must provide some additional information not required of public charities that file the same form. Instead of filling out Part II of this form, you can (and should, to avoid extra paperwork) provide a copy of your annual report to the attorney general (Form RRF-1—see “Attorney General Annual Periodic Report,” below), or furnish a copy of IRS Form 990-PF and its schedules instead.
All corporations that are exempt from state corporate franchise taxes under Section 23701(d) (except those formed to carry out a state function) must file an annual California Exempt Organization Business Income Tax Return, Form 109, if their gross income during the year from an unrelated trade or business is $1,000 or more. They’ll pay an 8.84% state tax (the normal corporate tax rate) on their taxable unrelated business income.
This return must be filed within four-and-a-half months of the end of the tax year. Paying the tax, unlike paying the federal unrelated business income tax, is done periodically during the year for which the tax is due, by estimating your expected income from unrelated trade or business activities during the current year. Twenty-five percent of the estimated tax must be paid within three-and-a-half months of the beginning of the tax year. The balance of the tax is payable in three equal installments on or before the 15th day of the sixth, ninth, and twelfth months of the tax year. If you’ve underestimated, at the end of the year you’ll pay any additional amount with your annual return.
The state doesn’t usually send you forms and instructions for paying this tax during your first year. You won’t receive it for later years, either, unless a prior annual information return shows that the corporation is likely to have unrelated business income. If the state does send you a form, it will be Form 100-ES.
Form 100-ES is the same form that regular profit corporations use. The normal minimum franchise tax that profit corporations must pay with their first annual estimated tax payment does not apply to tax-exempt nonprofits. Nonprofits pay a simple 8.84% rate on their estimated taxable unrelated business income. Because you must make estimated unrelated business tax payments if this tax applies to you (whether or not the Franchise Tax Board sends you the forms), make sure you pay attention to this often overlooked aspect of nonprofit corporate taxation. Penalties apply to underpayment of this estimated tax and to late filing of the return referred to above.
Subject to a few exceptions, 501(c)(3) and 23701(d) tax-exempt public benefit nonprofit corporations must file an annual report with the California Attorney General (Form RRF-1). However, religious organizations, nonprofit schools, and hospitals are exempt from the annual RRF-1 filing requirement (see the instructions to the RRF-1 form). The attorney general should mail the Form RRF-1 to you, along with a Form 990. Groups with total assets or gross receipts over $25,000 must also file a federal 990 or 990-PF annually with the attorney general (with the required schedules and attachments). Failure to make these required annual filings on time can result in late filing penalties. Groups with total assets or gross receipts of $100,000 or more must pay a Form RRF-1 filing fee.
Nonmembership public benefit corporations must furnish all directors with an annual report containing financial information, including a statement of assets, liabilities, receipts, and expenditures. The report is due within 120 days after the close of the fiscal year. (See Article 7, Section 6, of the public benefit corporation bylaws.) Membership public benefit corporations must also submit this annual report within the same time period to any member who requests it. The annual report (or a separate statement sent to all directors and members) must also disclose the details of certain indemnification or self-dealing transactions (see “Directors,” in Chapter 2, and Article 7, Section 7, of the public benefit corporation bylaws).
It should not be very difficult to compile the financial information required for this annual report. The corporation will have already prepared most of the information needed in order to comply with the state and federal annual tax return requirements discussed above. Keep in mind that this annual report to insiders must be furnished within approximately four months—120 days—after the close of the fiscal year. This is a little sooner than most of the annual state and federal tax returns, which must be submitted within four-and-one-half months of the close of the tax year.
You must pay employment taxes on behalf of the people who work for your nonprofit corporation. Directors, with certain exceptions, are not considered employees if they are paid only for attending board meetings. However, if they are paid for other services or are salaried employees of the corporation, they will be considered employees whose wages are subject to the employment taxes. Nonprofit tax-exempt corporations are often exempt from having to pay certain employment taxes for their employees (for example, federal unemployment insurance).
Independent contractors (such as consultants) who are not subject to the full control of the corporation (for example, how the work is to be performed) are generally not considered employees. Wages paid to these outsiders are not subject to the employment taxes discussed below.
Of course, it goes without saying that corporate directors, officers, and other compensated corporate personnel must report employment compensation on their individual annual federal and state income tax returns (IRS Form 1040; California Form 540).
In addition to reading this material, we recommend you get the publications listed in “More Information on Taxes,” above. This will give you more detailed and the most current information to help you compute your withholding and employer contribution payments. Also, check with the IRS and your local state employment tax district office if you need more information.
Be careful when classifying people as independent contractors. The law in this area is fuzzy, and the IRS (as well as the California Employment Development Department, which oversees state unemployment taxes) is obstinate about trying to prove that outsiders really work for the corporation (and must be covered by payroll taxes). For more information, see IRS Publication 937. An excellent legal guide to the ins and outs of independent contractor status is Working for Yourself: Law & Taxes for Independent Contractors, Freelancers & Consultants, by Stephen Fishman (Nolo).
This section summarizes the federal payroll tax paperwork and payment obligations that will apply to your 501(c)(3) nonprofit. It’s not meant to give you all the details, just a heads-up so you can go online and figure out more for yourself. (See the online payroll tax resources listed above, in “More Information on Taxes.”)
Each employee of the corporation must fill out and give the corporation an Employee’s Withholding Allowance Certificate (IRS Form W-4), on or before commencing employment. This form indicates the marital status and number of allowances claimed by the employee, and is used in determining the amount of income taxes withheld from the employee’s wages.
The corporation must withhold federal income tax from wages paid to employees based upon the wage level, marital status, and number of allowances claimed on the employee’s W-4. These, as well as other employment taxes, are withheld and reported on a calendar year basis (January 1 to December 30), regardless of the tax year of the corporation. You’ll submit returns on a quarterly basis and deposit withheld tax in an authorized bank on a quarterly (or more frequent) basis; or you can pay with the quarterly return (see IRS Publication 15).
Employees who work in a 501(c)(3) nonprofit corporation are subject to Social Security (FICA) tax withholding. Employers withhold FICA taxes from the employee’s wages, and must match the tax, too. The combined amount is reported quarterly and paid either with the quarterly return or deposited in an authorized bank. See the next section below and IRS Publication 15 for specifics.
On or before the last day of the month immediately following the end of each calendar quarter, the corporation must file an Employer’s Quarterly Federal Tax Return, Form 941. This is a consolidated return, including both withheld income taxes and Social Security taxes, and has specific payment and deposit rules.
Deposits of income and Social Security taxes must be made on a quarterly, monthly, or more frequent basis. You will want to pay careful attention to withholding, depositing, paying, and reporting these taxes to avoid costly penalties. Again, consult IRS Publication 15 for details.
Your 501(c)(3) tax-exempt nonprofit corporation should be exempt from federal unemployment (FUTA) taxes. Your federal exemption letter should tell you that you are exempt from these taxes.
Your nonprofit corporation must furnish two copies of the Wage and Tax Statement (IRS Form W-2) to each employee from whom income tax has been withheld (or would have been withheld if the employee had claimed no more than one withholding allowance on his W-4). This form must show total wages paid and amounts deducted for income and Social Security taxes. A special six-part W-2 should be used in California to show state income tax and disability insurance contributions, in addition to the required federal withholding information. Give W-2s to employees no later than January 21.
The corporation must submit each employee’s previous year’s W-2 form and an annual Transmittal of Wage and Tax Statements (Form W-3) to the Social Security Administration on or before the last day of February.
This section summarizes the state payroll tax requirements that will apply to your 501(c)(3) nonprofit. Again, see “More Information on Taxes,” above, to obtain more information online and forms.
Nonprofit corporations with employees must register with the California Employment Development Department (EDD) within 15 days of becoming subject to either the California Unemployment Insurance Code or to California personal income tax withholding provisions. Because this usually happens once wages in excess of $100 in a calendar quarter are paid, you should register right away if you plan to have any employees. Do this by preparing and submitting Commercial Employer Account Registration and Update Form, DE-1, available online at the EDD website (www.edd.ca.gov) or from a local Employment Tax District office. If you plan to apply for a sales tax permit, your permit application can also serve as your employer registration form. Employers will be required to file the DE-1 form online (see the EDD website for information).
The corporation must withhold California personal income taxes from employees’ wages according to the tax tables in the California Employer’s Guide, Publication DE-44 (available online at the EDD website). The tables take into account the marital status, claimed allowances, and wage level of the employee. These tables automatically allow for applicable exemptions and the state’s standard deduction.
Most nonprofit 501(c)(3) tax-exempt corporations are subject to California unemployment and disability insurance tax contributions and withholding. Certain churches or religious nonprofit corporations and schools that are a part of a church or religious nonprofit corporation are not subject to unemployment and disability insurance taxes. Rates change constantly. For further information, consult the California Employer’s Guide (DE-44), available online at the EDD website. If you have any questions, call your local employment tax office.
Also, certain types of services performed for 501(c)(3) tax-exempt nonprofit groups are not subject to state unemployment and disability coverage unless elected (the criterion here is the type of services, not the type of nonprofit). The California Employment Development Department should mail Form DE-1-NP, which lists these excluded services and allows you to elect coverage for any that apply to you.
California unemployment insurance can be paid by 501(c)(3) groups in one of two ways: (1) the regular contribution rate method, or (2) a prorated cost of benefits paid. Form DE-1-NP, referred to above, allows you to select which payment method you want to use.
Under the regular contribution rate method, unemployment insurance contributions are paid by the corporation at its “employer contribution rate” shown on the Quarterly Contribution Return and Report of Wages (DE-9).
Under the prorated cost of benefits method, the corporation pays the actual amount of unemployment benefits received by ex-employees who receive such benefits, to the extent that such benefits are attributable to base period wages paid by the corporation to the ex-employee. Ask the local employment tax office for Form DE-1378-F, which contains examples of your potential liability under this method.
Disability insurance contributions are paid by the employee and withheld, reported, and submitted to the state by the corporation. Again, rates change—check your California Employer’s Guide(DE-44).
All California employers must report all their new or rehired employees who work in California to the New Employee Registry within 20 days of their start-of-work date (EDD Form DE-34).
The corporation must file a quarterly return (DE-9 annd DE-9C), reporting the employment taxes mentioned above for the previous quarter and pay any balance not already deposited and paid during the quarter. For specifics, consult the California Employer’s Guide(DE-44).
Officers can be personally liable. Under Section 1735 of the California Unemployment Insurance Code, officers and other persons in charge of corporate affairs are personally liable for taxes, interest, and penalties owed by the corporation.
The corporation should prepare a six-part combined federal/state Wage and Tax Statement, IRS Form W-2. This form indicates total annual state personal income tax and state disability insurance withholding. Copies of this form should be provided to the employee.
Many nonprofits sell goods to the public and therefore are subject to collecting, depositing, and reporting sales tax. We cover some of the basic rules and exceptions in this section. For more information on the sales tax and forms, go online to the main sales tax page on the State Board of Equalization’s website.
Subject to a few exceptions, as noted in “Exempt Transactions” below, every nonprofit corporation that has gross receipts from the sale of tangible personal property in California (for example, merchandise sold to customers) must apply for a sales tax seller’s permit. You can file the application (Form BOE-400-SPA) with the nearest office of the California Board of Equalization. The form is available online, at www.boe.ca.gov. The BOE should soon allow online applications and return filings—check the website for more information. Even groups exempt from collecting sales tax, as described below, must obtain a seller’s permit. This application can also serve as an employer registration form with the Employment Development Department.
There’s no fee for applying for or obtaining a sales tax (seller’s) permit. Some applicants, however, may be required to post a bond or other security for payment of future sales taxes. A separate permit is required for each place of business at which transactions relating to sales tax are customarily entered into with customers. Sales tax is added to the price of certain goods and is collected from the purchaser.
Wholesalers, as well as retailers, must obtain a permit. A wholesaler, however, is not required to collect sales tax from a retailer who holds a valid seller’s permit and who buys items for resale to customers, provided a resale certificate is completed in connection with the transaction.
EXAMPLE: If your nonprofit sells supplies to another nonprofit with its own seller’s permit, you are exempt from collecting sales tax on the transaction—the nonprofit buyer will collect the sales tax on the supplies when it sells them to the public.
Sellers must file periodic sales and use tax returns, reporting and paying sales tax collected from customers. A seller must keep complete records of all business transactions, including sales, purchases, and other expenditures; and have them available for inspection by the Board of Equalization at any time.
Exempt Transactions
Certain transactions entered into by any kind of organization (profit or nonprofit) are not subject to the collection of sales tax. Examples are sales of personal property shipped out of state, certain sales incidental to the performance of services, and purchases of art that will be loaned by certain nonprofits. Call a Board of Equalization office for further information.
A few tax-exempt nonprofit corporations are exempt from collecting sales tax and preparing the quarterly report. To be eligible for the exemption, a nonprofit corporation must meet all of the following stringent requirements:
• The organization must be formed and operated for charitable purposes, and must qualify for the welfare exemption from property taxation provided by Section 214 of the California Revenue and Taxation Code. If the corporation owns the retail location, it must have obtained the welfare exemption for the real property at this location. If it leases the premises, it must have obtained the welfare exemption on the personal property (such as inventory and furnishings) at this location.
• The organization must be engaged in the relief of poverty and distress and the sales must be made principally as a matter of assistance to purchasers in a distressed financial condition. These conditions are fulfilled if the corporation sells its goods at reduced prices so as “to be of real assistance to purchasers.” Incidental sales to persons other than low-income consumers will not prevent the organization from obtaining the sales tax exemption.
• The property sold must have been made, prepared, assembled, or manufactured by the organization. This condition will be satisfied when the property is picked up at various locations and assembled at one or more locations for purposes of sale, even though nothing other than assembling needs to be done to place it in salable condition. Property is considered prepared when it is made ready for sale by such processes as cleaning, repairing, or reconditioning.
A nonprofit corporation seeking to obtain this exemption from sales tax collection and reporting must, as we’ve said, still apply for a seller’s permit by filing Form BOE-400-SPA, attaching to it a Certificate of Exemption—Charitable Organizations, Form BT-719, available at the nearest board of equalization office. Applicants should also request an information sheet relating to the exemption, Form BT-719-A.
Other sales tax exemptions exist for special nonprofit groups (for example, certain nonprofit cooperative nursery schools are exempt).
Many businesses, whether operating as profit or nonprofit corporations, partnerships, limited liability companies, or sole proprietorships, must obtain state licenses and permits before commencing business. While you may not be subject to the usual kind of red tape applicable to strictly profit-making enterprises (for example, contractors and real estate brokers), you should check with your local department of consumer affairs office for information concerning any state licensing requirements for your activities or type of organization. If one of the boards does not regulate your activities, they may be able to refer you to the particular state agency that oversees your operations.
Many nonprofit institutions (for example, schools or hospitals) will, of course, need to comply with a number of registration and reporting requirements administered by the state and, possibly, the federal government. A local business license or permit may also be required for your activities. Check with your city business license department.
Newly incorporated groups that have held licenses or permits for previous activities or operations should check to see if special corporate licensing requirements apply to their activities. In some cases, a separate corporate license must be taken out in the corporate name; in others a corporate license must be obtained in the name of supervisory corporate personnel.
You should also check to see if the city and county where your principal place of business is located (and other places where you plan to conduct activities) require you to obtain a permit for soliciting funds for charitable purposes. Many cities and counties have enacted permit (or other) requirements of this type.
With some exceptions, employees of a nonprofit corporation, whether officers or otherwise, must be covered by workers’ compensation insurance. Rates vary depending on the salary level and risk associated with an employee’s job. If directors are paid only for travel expenses for attending meetings, they may be exempt from coverage (although flat per-meeting payments will generally make them subject to coverage). This is a blurry area, so check with your insurance agent or broker (or your local State Compensation Insurance Commission) for names of carriers, rates, and the extent of required coverage.
For online information, go to the California Department of Insurance website at www.insurance.ca.gov and enter “Workers’ Compensation” in the search box.
Nonprofit corporations, like other organizations, should carry the usual kinds of commercial insurance to help protect against losses in the event of an accident, fire, theft, and so on. Remember, although being incorporated can help insulate directors, officers, and others from personal liability and loss, it won’t protect against losses to corporate assets. Look into coverage for general liability, product liability, and fire and theft. You should also consider liability insurance for directors and officers, particularly if your nonprofit corporation wants to reassure any passive directors that they will be protected from personal liability in the event of a lawsuit (see “Directors,” in Chapter 2). To take advantage of California’s volunteer director and officer immunity provisions, adequate director and officer liability insurance must be obtained (or be proven to be unobtainable)—see “Directors,” in Chapter 2.
We’ll end our discussion of the housekeeping details affecting California nonprofit corporations with a short summary of the Nonprofit Corporation Law provisions related to dissolving (ending) the corporation. The primary point to keep in mind here is that a California nonprofit corporation may be dissolved by mutual consent (in a voluntary dissolution) with a minimum of formality. The forms and instructions you’ll need to dissolve a nonprofit voluntarily are available online from the Secretary of State’s Business Programs Division website. (See Appendix B for more information.) You can download Certificate of Election to Wind Up and Dissolve and Certificate of Dissolution forms for nonprofit corporations from the website.
Don’t let our discussion of dissolution, court filings, and attorney general supervision scare you into thinking that this will be your fate. In fact, the great majority of small, sensibly run nonprofit corporations will never face any major problems. Of course, you should use good judgment as to when and why to pay a financial or legal adviser to answer important questions related to your individual problems. The fact that you can competently do many things on your own doesn’t mean that you will never need to see an accountant or lawyer.
Any nonprofit corporation may, on its own and out of court, decide to voluntarily wind up and dissolve, for any reason. In a nonmembership corporation, you’ll need the board’s approval; in a membership corporation, the approval of a majority of the members is needed.
The board of directors of a public benefit corporation may elect to dissolve the corporation, without membership approval, if any of the following conditions apply (the rules are essentially the same for religious corporations):
• the corporation has no members
• the corporation has not commenced business and has not issued any memberships
• the corporation has been adjudged bankrupt
• the corporation has disposed of all its assets and hasn’t conducted any activity for the past five years, or
• a subsidiary corporation must dissolve because its charter from a head organization has been revoked.
Occasionally, the court will supervise a corporation’s voluntary dissolution. This can happen upon the request of the corporation itself, or by request of 5% or more of the members or three or more creditors.
An involuntary dissolution is one that happens in court against the wishes of the nonprofit board. One-third of the membership votes of a nonprofit corporation, one-half of the directors, or the attorney general can force a dissolution as explained below. The attorney general can also trigger a dissolution for the separate reasons discussed below. The petition for dissolution must be filed in the superior court of the county of the corporation’s principal office.
One-third of the members, one-half of the directors, or the attorney general can force an involuntary dissolution by filing a court petition based on one or more of the following grounds:
• The nonprofit corporation has abandoned its activities for more than one year.
• The nonprofit corporation has an even number of directors who are equally divided and cannot agree to the management of its affairs, so that the corporation’s business cannot be conducted to advantage, or so that there is danger that its property and business (exempt-purpose activities) will be impaired and lost, and the members are so divided into factions that they cannot elect an odd-numbered board.
• The members have been unable, at two consecutive meetings (or in two written ballots), where full voting power has been exercised, or during a four-year period, whichever period is shorter, to elect successors to directors whose term has expired or would have expired upon election of their successors.
• There is internal dissension and two or more factions of members are so deadlocked that the corporation’s activities can no longer be conducted to advantage.
• Those in control of the nonprofit corporation (the directors) have been guilty of or knowingly allowed persistent and pervasive fraud, mismanagement, or abuse of authority, or the corporation’s property is being misapplied or wasted by its directors or officers.
• Liquidation is reasonably necessary because the corporation is failing and has continuously failed to carry out its purposes.
• The limited period (if this applies) for which the corporation was formed has terminated without extension of such period (one member alone can file a court petition for involuntary dissolution on this basis).
• In the case of a subordinate corporation created under the authority of a head organization, the articles of incorporation of the subordinate corporation require it to dissolve because its charter has been surrendered to, taken away, or revoked by the head organization.
In addition to the grounds mentioned above, the attorney general can bring an action for involuntary dissolution of the corporation based on its own information or upon another party’s complaint, for any of the following reasons:
• The corporation has seriously violated any provision of the statutes regulating corporations or charitable organizations.
• The corporation has fraudulently abused or usurped corporate privileges or powers.
• The corporation has, by action or default, violated any provision of law that authorizes the forfeiture of corporate existence for noncompliance.
• The corporation has failed for five years to pay to the California Franchise Tax Board any tax for which it is liable.
In certain situations, the corporation may take corrective action to avoid a dissolution initiated by the attorney general.
The California Nonprofit Corporation Law doesn’t directly provide for the involuntary winding up of a religious corporation. However, the attorney general may go to court and, following Section 9230 of the Religious Corporation Law and the procedures of Section 803 of the Code of Civil Procedure, ask a judge to rule on whether the corporation is properly qualified or classified as a religious corporation. If the judge decides that the corporation is improperly qualified, the attorney general can ask the Franchise Tax Board and IRS to revoke the corporation’s religious tax exemptions.
Once a voluntary or involuntary dissolution process begins (by vote of the board and/or members to start a voluntary winding up or upon the filing of an involuntary dissolution court petition), the corporation must stop doing business, except to the extent necessary to wind up its affairs pending a distribution of its assets. All corporate debts and liabilities must be paid or provided for (to the extent that corporate assets can do so). If any corporate assets remain after paying corporate debts, a 501(c)(3) tax-exempt nonprofit corporation must distribute them to another 501(c)(3) group as required by the “irrevocable dedication” clause in the corporation’s articles.
If your involuntary or voluntary dissolution is subject to superior court supervision, you’ll have to publish a notice to creditors of the corporation (a standard formality handled by newspapers that publish legal notices). Creditors who don’t file claims within a specified period of time after you’ve published your notice will be barred from participating in any distribution of the corporation’s assets.
