There seems to be some misconception regarding the term “non-profit” and the federal tax exempt status. Some of the questions that I commonly hear people ask are “Why does the director of a non-profit organization receive a salary?” or “Why can a non-profit organization collect money and pay employees?” It’s a tricky question to answer without stepping on all the wrong toes or getting wrapped up in the political perspectives of charity work, social work, and paid versus non-paid employees. So, for the sake of objectivity, let’s dissect what it means to be a non-profit organization in the U.S.
Although there are many different structures available for tax-exempt filings, the most commonly referenced is the 501c3. A 501c3 not-for-profit organization can only be formed for the sole purpose of conducting charitable activities and cannot benefit private shareholders. The Internal Revenue Service (IRS) regulates and monitors activities carried out by 501c3 organizations to ensure that their activities are solely intended to advance charitable activities.
However, differing perspectives on what constitutes a charitable activity have led to a broad definition of what is deemed as beneficial to society or as having a purpose that advances social change. For this reason, a federally recognized 501c3 organization is limited in the scope and amount of political involvement, also known as lobbying, that it can conduct. The federal government has enforced these regulations to keep political involvement to a minimum to preserve the integrity of charity while also allowing for advocacy of underserved populations; a voice that may otherwise go unheard if not for the support of established and focused non-profit initiatives.
Successfully forming a non-profit organization and becoming recognized as tax-exempt by the IRS is a process that generally takes up to fifteen months to complete. The application process is quite rigorous and often involves the assistance of an attorney that specializes in non-profit law. Before an organization can file for tax-exempt status, it must meet certain criteria, including:
· Formation as an association, trust, or corporation
· An identified charitable purpose (as categorized by the IRS)
· Be in existence for at least 3 years
· Submit articles of organization and financial statements
· Have 5 volunteer board members who physically meet 2 times annually
Besides the fact that the formation of a non-profit organization requires commitment to a set of long-term goals to achieve tax-exempt status, the organization must adhere to additional standards of accountability. As set forth by the Better Business Bureau (BBB), the Standards for Charitable Accountability ensure that each non-profit organization spends at least 65% of all expenses on program activities, no more than 35% on fundraising, and compensates no more than 10% of board members.
With respect to board member compensation, a board member that is paid any type of salary is prohibited from being the chairperson or treasurer of the board. However, it seems that people are really interested in why board members and program staff are compensated for charitable work in the first place, and the answer is simple- time is worth money. Even volunteer time is calculated at a specific rate and considered an in-kind contribution. You may not like the fact that someone is getting paid to organize a worldwide effort to cure cancer or remedy poverty, but these are large scale projects that require significant resources to be effective. Without these resources in place, advancing altruistic causes would be very difficult.
Going back to the original question- “why are non-profits allowed to collect money and utilize that money to pay employees or directors?”- the best way to explain this is to view a non-profit organization as a type of business. The overall goal of that business is not to generate profits, rather it’s goal is to create an impact on a target population in a specific service environment. To reach that goal, the organization must accomplish objectives that require resources. Resources require money.
Source by Chris Bouchard