Non-Profit Status and Incorporation. LSU Alumni of San Diego, Inc.

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1 Non-Profit Status and Incorporation LSU Alumni of San Diego, Inc. 1

2 For several years now, auditors and tax advisors have recommended that LSU Alumni Chapters apply for an EIN, attain non-profit status, and consider incorporation. After exploring the issues with our own tax and legal advisors, the San Diego chapter has become the first LSU Alumni chapter to incorporate and apply for 501(c)3 tax exempt status. We are now: LSU Alumni of San Diego, Inc. Our Disclaimer: We are not tax experts. As with all tax and accounting issues, we recommend that you consult with an expert on these subjects (attorney, CPA, etc.) prior to making a decision regarding any actions that you or your chapter may take. The information included in this presentation is intended as a compilation of issues we were presented with and information we gathered during our chapter s incorporation process. 2

3 In The Beginning Back when many of our alumni chapters were founded, there were fewer IRS and State rules in place to regulate the activities of small, informal groups such as alumni chapters. Making a good faith effort to account for funds raised was sufficient, and there was little chance that the IRS would pursue a small group of volunteers for unpaid taxes. In The Beginning Liability lawsuits usually occurred only in the event of serious injury, death, or libel. Deep pockets lawsuits, where any and all parties are named in lawsuits for the purpose of seeking out larger settlements, were a rarity. 3

4 Then The World Changed Unscrupulous individuals used the guise of being charitable to steal funds. Well-intentioned individuals and groups failed in their fiduciary responsibilities and spent donated funds in poorly chosen ways. Economic downturn caused the IRS to seek new ways of collecting tax revenue from any available source. Then The World Changed The world discovers deep pockets lawsuits, where any group remotely related to an event may be sued over injury or other issues. More organizations begin to be sued over small issues or even non-issues. Whether your organization was primarily responsible for an event or only involved peripherally, you could be named in a lawsuit as plaintiffs seek out any available sources of funds. And for nonincorporated organizations, the officers and directors could be named as defendants individually, placing personal assets at risk. 4

5 Rules, Rules, Rules To better track all sources of income, the IRS required ALL bank and investment accounts to be opened with a VALID tax id number (SSN) or employer identification number (EIN). To ensure that only groups involved in valid and IRS recognized non-profit activities enjoyed an exemption from paying tax on their earnings, the IRS created various non-profit statuses (501(c)) that must be formally applied for by groups or corporations. Rules, Rules, Rules The IRS attempted to implement mandatory tax withholding on interest earned on organizations bank accounts. When the banking industry fought against this initiative, the IRS began requiring that ALL interest paid on these accounts be reported (Form 1099) so that the IRS could match interest paid to the tax returns of organizations. After the dot com scandals (financial valuations and stock values not based on fact), the Sarbanes-Oxley Act regarding corporate financial conduct was implemented. Following recent non-profit scandals (such as Red Cross debit cards after Katrina), Congress has sought to extend these oversights to non-profit organizations. 5

6 We re Doing Just Fine Why Change? Financial Issues The owner of the SSN/EIN on your chapter s bank account is legally required to pay tax on all taxable income of the chapter. If that SSN/EIN belongs to someone OTHER than the chapter itself (i.e., LSUAA or the chapter president), that person or entity bears the legal obligation for any unpaid taxes, interest, and penalties. In the distant past of our chapters, LSUAA would allow chapters to use the LSUAA EIN to open their bank accounts. This is no longer allowed due to changes in IRS regulations. If you are still using the LSUAA EIN for your chapter s bank accounts, you should apply for your own EIN. We re Doing Just Fine Why Change? Financial Issues If the legal name on your chapter s bank account does not match the legal name recognized by the IRS (as with above, if you are using someone else s SSN/EIN), backup withholding (forced withholding on interest earned) can be implemented on your chapter s accounts. 6

7 We re Doing Just Fine Why Change? Financial Issues If your chapter does not have tax-exempt status, funds raised through events and memberships can be reduced by the amount of tax due. Why work hard to donate chapter income to Uncle Sam? Legal Issues If your chapter has taxable income (donations or grants are non-taxable; membership dues may be taxable) and it is not filing a tax return, the officers and directors can be made legally responsible for the payment of taxes, interest, and penalty from personal assets. We re Doing Just Fine Why Change? Doesn t LSUAA Handle These Issues? LSU alumni chapters are affiliates of the LSU Alumni Association, but are not under the LSUAA umbrella. What does that mean? Your chapter is responsible for its own fiscal operations and integrity (bank accounts, taxes, etc.). Your chapter is NOT granted tax-exempt status by virtue of its association with LSU. LSUAA does not have a Group Exemption Letter from the IRS. Your chapter is responsible for the operation of its own activities and events, including maintaining its own liability insurance. LSUAA can issue an insurance rider on its policy for chaptersponsored events if LSUAA is participating; however, this rider only indemnifies LSUAA and named vendors NOT the chapter or its officers/members 7

8 Preparing For Change People are generally resistant to change. This will be true in your pursuit of tax-exempt status and/or incorporation. As much as we would like to believe that nothing will change, invariably it will. Both non-profit status and incorporation bring with them paperwork requirements, fiduciary requirements, and forms. It is important that your board take the time to fully discuss all aspects of the choices you make, answer all questions or concerns, and seek professional advice (paid or pro bono). First Things First The EIN It is easy and painless to obtain an EIN. Your chapter can obtain an EIN from the IRS online, by going to: individual/index.jsp If you have made the decision to incorporate, your attorney may make application for you as part of the incorporation process. Use this EIN for all of your chapter s bank or investment accounts and IRS forms. 8

9 Non-Profit Status Section 501(c) of the Internal Revenue Code defines 25 different types of non-profit organizations, defining such entities as civic leagues and credit unions. LSU Alumni Chapters fit the criteria for either of two statuses: 501(c)3 Organized exclusively for religious, charitable, scientific, testing for public safety, literary, or educational purposes, to foster national or international amateur sports competition, or to prevent cruelty to children or animals. 501(c)7 Social and Recreation Clubs Non-Profit Status Section 501(c)3 also carries with it two qualities that make it desirable to many organizations: 1. The opportunity to allow donors to deduct all or part of the value of donations made to the organization on their personal tax return. 2. An increased availability of grant sources and corporate contributions; many foundations and corporations will only give funds or grants to 501(c)3 entities. 9

10 Non-Profit Status Incorporation is NOT a requirement to apply for non-profit status. To apply for 501(c)3 status, complete IRS Form To apply for 501(c)7 status, complete IRS Form An attorney or CPA can assist with this application, and may be especially helpful when completing the longer, more detailed Form Check your board and membership for a CPA or attorney willing to help you pro bono. Incorporation As stated earlier, incorporation is not required to obtain tax exempt status. However, incorporation can provide two benefits to the organization: 1. Incorporation creates a separate legal entity that pays its own taxes and protects the people who run it and work for it from personal liability. 2. Incorporation can shield those who run a nonprofit from becoming liable for the organization s debt. 10

11 Incorporation The legal protection from liability provided by incorporation is not absolute; gross mismanagement, criminal activities, unethical behavior, or use of the corporation for personal gain are some ways that this protection can be nullified. Some states have also enacted laws that protect volunteers and members of unincorporated associations from liability. Incorporation and Insurance While incorporating can generally shield members and directors from liability, it will not prevent someone seeking deep pockets for compensation from attempting to recover funds from the individual directors. This is especially true if the corporation has few assets. Various forms of insurance, including liability insurance and officers and directors insurance, can provide funds not only to pay claims against the corporation but to offset any legal costs to directors should they be sued individually. 11

12 So What Did We Choose? The San Diego Chapter evaluated the two forms of non-profit status, and determined that we would apply for 501(c)3 status. This would allow us to solicit tax-deductible contributions for chapter activities or building scholarship endowments. Our status is currently pending our Form 1023 is being reviewed by the IRS. Another factor in our decision to pursue 501(c)3 status is the amount of funds we are able to raise through our activities (primarily our annual Crawfish Boil), which allows us to contribute significant amounts each year to multiple programs at LSU. So What Did We Choose? LSU Alumni of San Diego, Inc., was incorporated in the State of California in May, Due to the size of our major fundraiser (approximately 3,000 participants), we decided to incorporate to utilize the legal protections provided for our officers and members. Additionally, we have chosen to obtain both liability and officers & directors insurance. This is again due in part to the size of our activities, as well as the inclusion of alcoholic beverages (beer) in our Crawfish Boil. 12