You’ve got an idea for making the world a better place, and you want to start a 501(c)(4) nonprofit social welfare organization (instead of a 501(c)(3) charitable organization) as the means to do so. The good news is that starting a California nonprofit isn’t that hard to do if you have a sound plan, the right team, and sufficient startup capital.
The bad news is that running a successful nonprofit is not easy. Before you get started, you’ll want to consider whether 501(c)(4) is the right type of exempt organization for your plan and whether you should apply for federal exemption using Form 1024 (generally recommended) or self-declare the organization’s federal tax exempt status. You’ll also need to think through exactly how you will bring value to the public, obtain funds, attract staff and/or volunteers, build a board of directors, and comply with the laws that regulate 501(c)(4) nonprofits. Your answers to these questions will determine whether you should start a nonprofit or consider alternatives. More on these points later in this article.
Here are 10 basic steps for starting a California nonprofit public benefit corporation:
Determine the name of the corporation. A nonprofit is typically formed as a corporation and its name can be a valuable asset. In California, a corporation name may be adopted if the name is not the same as or too similar to an existing name in the records of the California Secretary of State, or if the name is not misleading to the public. You can check the current database of existing names on the business search page of the Secretary of State website. You can also reserve a name for 60 days by mailing in a Name Reservation Request. You must also make sure the name does not infringe on another person’s trademark rights. This is not always easy to determine, but a good start includes running a trademark search on the U.S. Patent and Trademark Office database and a simple Google search. For some founders, it may also be important to confer with intellectual property counsel to help ensure they are not infringing on another’s rights and to protect their name from being used by other parties.
Draft and file the articles of incorporation. A corporation is legally created with the filing of the articles of incorporation. Articles of incorporation typically identify:
(a) The organization’s name;
(b) Purpose or purposes of the nonprofit;
(c) Agent for service of process — that is, a person whose name and address are identified and who can receive lawsuits and other official correspondence and other matters; and
(d) Any limitations on corporate powers.
The articles of incorporation are typically signed by an “incorporator,” which can be just one person but may also be signed by the initial board of directors if they are named in the articles.
There are sample articles found on the Secretary of State’s website. These are a good starting point but are not comprehensive guides on every important consideration. For example, the samples provide little guidance on specific purpose statements.
A word on specific purpose statements: A broad specific purpose statement provides room for the organization’s mission to evolve without requiring an amendment to the articles of incorporation. It may also make it easier to comply with charitable trust laws that require charitable funds be used consistent with the specific purpose of the organization at the time such funds were originally acquired. If, instead, you adopt a narrow purpose statement such as “to advocate for legislation and regulations to improve the environment in San Francisco County,” you can’t use funds to advocate for environmental improvements in other counties, but the statement would provide a stronger mission anchor to help ensure that your organization stays on a specific course after the founders have left.
For additional information on this issue, read Starting a Nonprofit: Articles of Incorporation and Specific Purpose Statements.
More about the agent for service of process: It is also important to understand that the agent is responsible for receiving lawsuits and possibly other important legal documents on behalf of the organization and making sure those documents reach the President or other authorized officer in a timely manner. If the agent fails to do so (e.g., fails to have his or her mail checked regularly while away for an extended period) the organization could face negative consequences such as losing a default judgment for not showing up to defend a lawsuit. An organization can identify an individual as agent or may elect to pay for a corporate agent, which may be preferred if there is no person willing to accept this responsibility or if privacy concerns are an issue (the agent’s street address will be a matter of public record).
Appoint the board of directors. If the initial directors are not named in the articles of incorporation, the incorporator can and should appoint the board through a written action. Recruiting and appointing the initial board of directors may well be the founders’ most important startup task. A new nonprofit has a significantly better chance at long-term viability and impact when the right people are at the wheel. These individuals should share your organizational vision and core values but should also bring other skills, perspectives, and networks to the table.
Under California law, a nonprofit board may be composed of as few as one director, but it is generally recommended to have at least 3. California law also requires that not more than 49% of the current directors be “interested persons” as defined in Corporations Code section 5227, which includes any person receiving compensation from the nonprofit for services rendered within in the past 12 months and anyone related to the compensated person.
These directors should understand their duties and responsibilities to act with reasonable care and in the best interests of the organization while providing direction and oversight over the organization’s activities, finances, officers, and legal compliance. BoardSource offers valuable resources on nonprofit corporate governance, including these Ten Basic Responsibilities of Nonprofit Boards.
Draft the bylaws and conflict of interest policy. A corporation’s bylaws typically address, at a minimum, fundamental provisions related to the management of the activities and affairs of the corporation. Bylaws should provide guidance to the board and reassurance of sound governance practices to government authorities, funders, and other interested stakeholders.
Bylaws typically contain specific provisions detailing:
(a) The purpose or mission of the nonprofit;
(b) How directors are elected or otherwise selected (e.g., by majority vote of directors at the annual board meeting);
(c) How the board may take an action (e.g., by majority vote of directors);
(d) How board meetings are called and noticed (e.g., six times per year with 14 days advance notice by email);
(e) How board meetings are conducted (e.g., the chair of the board presides);
(f) The officers of the corporation (a president or chair of the board, secretary, and treasurer or chief financial officer are required by California law);
(g) The duties and responsibilities of each officer;
(h) The authorization of board and non-board committees (e.g., committees tasked to act with the authority of the board versus committees that can only make recommendations);
(i) The level of indemnification provided by the corporation to protect its directors, officers and other agents; and
(j) The reports due to directors (e.g., financial reports).
If the nonprofit has voting members, the bylaws will also need to contain additional provisions regarding member rights and processes. Nonprofits considering a voting membership structure may want to first discuss such structure with a lawyer, particularly if they do not expect their members to actively participate in meetings and regularly exercise their voting rights. Public Counsel provides an Annotated Form of Bylaws for a California Nonprofit Public Benefit Corporation on its website.
Take the initial board actions at a board meeting or by unanimous written consent of the directors. The board should take the following actions:
(a) Adopt the bylaws and conflict of interest policy;
(b) Elect officers;
(c) Adopt a fiscal year (such as a year ending December 31 or June 30);
(d) Approve establishing a bank account;
(e) Approve applying for federal and state tax-exempt status;
(f) Approve reimbursement of startup expenses (if applicable); and
(g) Approve the compensation of the executive director (CEO) or the treasurer (CFO) (if applicable).
Obtain an employer identification number (EIN). An officer or authorized third party designee may apply for and obtain an EIN online.
Notify the Internal Revenue Service (IRS) of intent to operate as a social welfare organization. Social welfare organizations will soon be required to notify the IRS within 60 days after the organization is established of its intent operate, as established by section 405 of the Protecting Americans from Tax Hikes Act of 2015 (the PATH Act). The IRS issued Notice 2016-09 on January 19, 2016 stating that he Treasury Department and the IRS intend to issue temporary regulations prescribing the manner in which social welfare organization will provide the notification. Even organizations that seek IRS recognition of tax-exempt status using Form 1024 will need to provide this new notification.
File the initial registration form (Form CT-1) with the California Attorney General’s Registry of Charitable Trusts. This annual registration is required for the majority of nonprofit public benefit corporations and must be filed within 30 days after receipt of assets. The Form and Instructions are available online. The corporation’s articles of incorporation and bylaws should be included in the initial filing. The Form 1024 application and federal determination letter (Step 9) should be submitted upon receipt of the determination letter to complete the filing.
File the Statement of Information (Form SI-100) with the Secretary of State.
The Statement must initially be filed within 90 days of the date of incorporation. This biennial filing requirement, which identifies the organization’s address, principal officers, and agent for service of process, can be filed online or by mail.
Make the decision whether to apply for federal tax exemption with the IRS and receive a determination letter from the IRS. Organizations that believe they are properly classified as a 501(c)(4) organization may self-declare their tax exempt status and begin filing Form 990s, without submitting a Form 1024 to the IRS. However, it is generally recommended to complete the Form 1024 application for exempt status under Internal Revenue Code (IRC) Section 501(c)(4), in order to have some assurance that your plan is consistent with the requirements of 501(c)(4). Form 1024 requires a comprehensive reporting of all activities carried on by the organization. A critical section for careful completion is Part II, Activities and Operational Information, which asks:
For each past, present, or planned activity, include information such as:
A detailed description of each activity including its purpose and how each activity furthers your exempt purpose;
When the activity was or will be initiated; and
Where and by whom the activity will be conducted.
Form 1024 also requires information regarding (a) annual compensation of any officers, directors, or trustees; (b) membership qualifications, classes, and voting rights, if any; and (c) actual and/or projected statement of revenues and expenses (which should be consistent with any identified activities).
Form 8718, User Fee for Exempt Organization Determination Letter Request, must be attached to Form 1024 for filing. Currently, the user fee for a new organization that anticipates gross receipts averaging more than $10,000 during its first 4 years is $850. Smaller organizations may be eligible for the $400 user fee.
The IRS may typically take 4-6 months to process a Form 1024 application for exempt status. However, the waiting period may be much longer if the application contains errors, omissions, or other information that require additional development by a special IRS department. The IRS application process is further explained on the IRS’s Where Is My Exemption Application webpage.
Apply for California tax exemption with the California Franchise Tax Board (FTB) and receive an affirmation of exemption letter from the FTB. Organizations with a 501(c)(4) federal determination letter can request California affirmation of tax exemption under California Revenue & Taxation Code section 23701f from the FTB by filing Form 3500A along with a copy of the IRS determination letter. The FTB will recognize the organization’s exemption from state income taxes as of the federal effective date. You can find a downloadable form here.
If the organization chose to self-declare its federal tax exempt status, it will need to file the long Form 3500 to apply for state income tax exemption in California.
Do you need to work with an attorney to start a nonprofit?
Although the majority of nonprofits are set up without the help of lawyers, it’s easy to make mistakes that become costly to correct later (such as unwisely creating voting membership structures, adding unlawful provisions to template bylaws, violating the commerciality doctrine, etc.). We recommend having experienced professionals involved — such as attorneys, board members with nonprofit incorporation experience, and experienced consultants. Don’t discount the value of a knowledgeable professional.
Should You Start a Nonprofit?
Now that you know how to start a California nonprofit, you should thoughtfully consider whether this is the right choice for your ideas and for the public benefit. There may be other ways to carry out your dreams, including working under the umbrella of an existing nonprofit. See Alternatives to Forming a Charitable Nonprofit published by the American Bar Association. One often overlooked alternative is fiscal sponsorship, a relationship that may allow a group to house a charitable project within an existing nonprofit with the ability to spin it off at a later date. For more information on fiscal sponsorship, see Fiscal Sponsorship: A Balanced Overview published by The Nonprofit Quarterly.
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