The Pros and Cons of Nonprofit Incorporation

Tax Deductions and Liability Issues Are Top Persuaders

Nonprofit board discussing incorporation.
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State incorporation is usually the first step towards becoming a fully tax-exempt charity.

But many startup organizations wonder, “Is it worthwhile?” To help you decide, we've put together the advantages and disadvantages to nonprofit incorporation and IRS exemption

Benefit #1: No Taxes

As a nonprofit corporation, your organization can get state and federal exemptions from corporate income taxes plus certain other taxes.

Federal corporate tax rates can be very high while state corporate taxes can take a bite as well.

If you expect to earn large amounts of money from your mission-related services, exhibits, product sales, or performances, you'll want to seek an exemption. A tax-exempt nonprofit also saves on local taxes from state and county.

Benefit #2: Tax Exempt Public and Private Donations

Once incorporated, most charities go on to apply for nonprofit designation from the IRS. As a 501(c)(3) nonprofit you can receive grants and donations. Foundations only give grants to 501(c)(3) organizations.

Individual donors to your nonprofit corporation can claim personal federal and state income tax deductions, and bequests may be exempt from federal estate taxes.

Benefit #3: Protection from Personal Liability

One of the most significant advantages of incorporation has to do with protecting members of your organization from personal liability.

 

Board members, officers, and employees of your organization receive protection from liability for corporate debts or lawsuits. Creditors can only go after your corporate assets, not the personal assets of the people who manage, work for, or volunteer for your nonprofit.

Even if you do incorporate and receive some of these protections, it is wise to purchase liability insurance to cover situations that may lie outside of incorporation law.

Benefit #4: Organizational Perpetuity

A corporation is separate from the individuals who manage or organize it. It is this separate legal existence that provides protection from liability.  But it also means that the organization becomes immortal in a way. 

The nonprofit corporation continues to exist beyond the lifetime or involvement of the people who began it or who have managed it. Because the organization persists in this way, it is more attractive to donors who want to fund a cause for the long term.

Benefit #5: Employee Benefits

Being a corporation opens the door for employee benefits such as group life insurance, health insurance, a pension plan, etc., advantages not available to workers in unincorporated organizations.

Benefit #6: Corporate Structure

Forming a nonprofit corporation is not simple.  But the preparation requires clarity about mission, operating rules, and procedures for decision making. 

It's essential for a nonprofit, whose board members may hold opposing ideas, to have clear-cut rules about delegation of authority and how to get things done. Having all of these principles in the articles of incorporation and bylaws makes running the organization much easier.

Other Benefits

Other advantages of incorporation include exemptions from county real and personal property taxes; lower postal rates on third-class bulk mailing; cheaper advertising rates; free radio and television public service announcements (PSAs), and more depending on your activities.

Disadvantages

Disadvantages of incorporation include a lot of paperwork and some expense.  For instance, you may need to hire a lawyer to prepare your documents. Then there is the time and energy to comply with regulations and to grow your organization.

There are restrictions too, such as no pay for your directors and limits on political campaigning and lobbying. And when your organization closes, its assets must be given to another nonprofit.

But if the benefits of incorporating make sense and outweigh the disadvantages, you may be ready to move ahead. Certainly, if you anticipate that your nonprofit will grow, it would be wise to incorporate and apply for tax exemption earlier rather than later.

If you don't incorporate, you might be an unincorporated nonprofit association