A nonprofit organization is neither a legal nor technical definition but generally refers to an organization that uses surplus revenues to achieve its goals rather than distributing them as profit or dividends. States in the U.S. defer to the IRS designation conferred under IRS Code Section , when the IRS deems an organization eligible. Nonprofits may or may not have shareholders.
While nonprofit organizations are permitted to generate surplus revenues, they must be retained by the organization for its self-preservation, expansion, or plans. Nonprofits have controlling members or boards. Many have paid staff, including management, while others employ unpaid volunteers and even executives who work without compensation (or work for a token fee, such as $10 per year). Where there is a token fee, its general goal is meeting legal requirements for establishing a contract between the executive and the organization.
Some nonprofits may also be charities or service organizations; they may be organized as a nonprofit corporation, trust, or cooperative, or they exist informally. A similar type of organization, termed a supporting organization, operates like a foundation but is more complicated to administer, holds a more favorable tax status, and is restricted in the public charities it supports.
Legal Aspects of Nonprofits
Nonprofits have a wide diversity of structures and purposes. Nevertheless, for legal classification, there are some elements of importance:
- Economic activity
- Supervision and management provisions
- Accountability and auditing provisions
- Provisions for the amendment of the statutes or articles of incorporation
- Provisions for the dissolution of the entity
- Tax status of corporate and private donors
- Tax status of the foundation
In most jurisdictions, some of the above elements must be expressed in the charter of establishment. Others may be provided by the supervising authority at each particular jurisdiction. While affiliations will not affect a legal status, they may be taken into consideration in legal proceedings as an indication of purpose.
Most countries have laws that regulate the establishment and management of nonprofits and require compliance with corporate governance regimes. Most large organizations are required to publish financial reports detailing their income and expenditure publicly. In many aspects nonprofits are similar to corporate business entities although there are often significant differences. Both nonprofit and for-profit corporate entities must have board members, steering committee members, or trustees who owe the organization a fiduciary duty of loyalty and trust. A notable exception to this requirement involves churches, which are often not required to disclose finances to anyone, including church members.
Formation and Structure
In the United States, nonprofit organizations are formed by filing bylaws and/or articles of incorporation in the state in which they expect to operate. The act of incorporating creates a legal entity enabling the organization to be treated as a corporation by law and to enter into business dealings, form contracts, and own property as any other individual or for-profit corporation may do.
Nonprofits can have members but many do not. The nonprofit may also be a trust or association of members. The organization may be controlled by its members who elect the board of directors, board of governors, or board of trustees. Nonprofits may have a delegate structure to allow for the representation of groups or corporations as members. Alternatively, it may be a nonmembership organization and the board of directors may elect its own successors.
The two major types of nonprofit organization are membership and board-only. A membership organization elects the board, holds regular meetings, and has the power to amend the bylaws. A board-only organization typically has a self-selected board and a membership whose powers are limited to those delegated to it by the board. A board-only organization’s bylaws may even state that the organization does not have any membership, although the organization’s literature may refer to its donors as “members.” Examples of such organizations are FairVote and the National Organization for the Reform of Marijuana Laws. The Model Nonprofit Corporation Act imposes many complexities and requirements on membership decision-making. Accordingly, many organizations, such as Wikimedia, have formed board-only structures. The National Association of Parliamentarians has generated concerns about the implications of this trend for the future of openness, accountability, and understanding of public concerns in nonprofit organizations. Specifically, they note that nonprofit organizations, unlike business corporations, are not subject to market discipline for products and shareholder discipline of capital. Therefore, without membership control of major decisions such as election of the board, there are few inherent safeguards against abuse. A rebuttal to this assertion might be that, as nonprofit organizations grow and seek larger donations, the degree of scrutiny increases, including expectations of audited financial statements.