Limitations and Ongoing Reporting Requirements
Your first organizing meeting is an excellent time to bring up the limitations of applying for nonprofit status and the requirements involved in annual reporting to the IRS and to your state. Everyone concerned with the actual organizing must understand the ramifications of becoming a nonprofit and how it may directly affect them. The law prohibits any personal gain from nonprofit work. This means monetary compensation cannot depend on a sliding-scale model that would make payment directly contingent on the success of the organization.
Similarly, the core organizers may want to be compensated for eventual work they do. But such work must be compensated at the fair market value; organizers should not be paid simply for being on the board. Board members may be reimbursed for travel or miscellaneous expenses related to their attendance at board meetings.
These limitations are quite different from how for-profit organizations operate, and misunderstandings cause many groups unnecessary problems. Organizers need to be honest if your group agrees to move forward. Everyone must understand exactly what they will and won't be permitted to do.
Limits on Activities Outside Your Purpose
A nonprofit is also restricted to its purpose in everything it does. Taxes may result if the group chooses to undertake an activity that falls outside its tax-exempt purpose. For example, an organization may decide to sell trinkets as part of its fundraising program, but the group will incur a tax liability if it sells the items for more than they cost. The group is in the nonprofit business, not the commercial trinket business. The best advice here is to let an accountant figure it out. This activity will need to be reported to the IRS in the group's annual statement if it is to remain in compliance.
Sloppy reporting of financial activities is the way most organizations get into trouble. It's one thing to mistakenly conduct activities outside your purpose or outside the strict rules governing tax exemption. Failure to report those mistakes and pay any taxes owed is a much more serious offense.
Reporting Requirements
The other major element that many start-up nonprofits fail to consider is the ongoing requirement to file annual financial reports with a number of public and private entities. Although as a federally recognized tax-exempt organization you do not have to pay federal income tax, you do have to make a detailed financial report to the IRS using Form 990. These forms are public record, and anyone can see exactly what funds your organization garnered over the past year and where that money went.
Most states also have a requirement that all corporations submit a report of their annual meeting. These reports are not complicated, but they must be sent in every year for the entire life of the organization.
Failure to submit the state or federal reports will cause real trouble for your organization. In extreme cases, your tax-exempt status may be revoked and your corporation formally closed. At your initial meeting, you need to decide if you are prepared to take on the long-term responsibility that comes with filing for tax-exempt status.
