Starting a Nonprofit Isn't as Simple As It May Seem

Getting into the legal details of a nonprofit startup in Illinois

Nonprofit fundraising comes in all shapes and sizes—from raffles to membership dues—but there are certain practices that apply across the board. For starters, as Park Ridge attorney Jessica M. Wojtowicz Heston succinctly puts it: “Call an attorney.”

It’s better to make that call sooner rather than later, she says. As for why, look no further than the Illinois General Not For Profit Corporation Act. It is filled with potential pitfalls for the uninitiated. “It has all sorts of rules that you need to know,” says Schiff Hardin attorney Jack Bierig, who also advises nonprofits. “Unless you have a lawyer who really understands the rules, it’s easy to mess up. Almost every week I get calls that require knowledge of the Act.”

If you’re engaged in nonprofit fundraising, or plan to be, here’s some basic information to help you navigate the terrain:

Know your nonprofits

Many nonprofits are tax-exempt under Section 501(c)(3) of the U.S. Internal Revenue Code. Most public charities and foundations fall into the 501(c)(3) category; business associations, like the Chicago Bar Association, don’t.

“Nonprofits are generally exempt from the payment of federal income tax under section 501(c) of the Internal Revenue Code, except for unrelated business income; contributions to an organization that is exempt under 501(c)(3) are tax deductible to the donor,” Bierig says. “Those are where people are making donations. People are not making tax-advantaged donations to the Chicago Bar Association. Although they’re a nonprofit, they’re not a 501(c)(3). So don’t assume nonprofit and 501(c)(3) are the same thing.”

Be wary of private inurement

Private inurement, or arrangements that unduly benefit private parties or interests, can be devastating. “For example,” says Bierig, “if you pay your CEO too much, then you have engaged in private inurement, and [if the nonprofit is a 501(c)(3)], you can actually lose your tax-exempt status.”

Along similar lines, partnerships with professional fundraisers should be undertaken judiciously. 

“If you have arrangements with professional fundraisers, they should be looked at [by an attorney] to make sure the compensation is consistent with IRS guidelines,” says Kim Boike, an attorney with Chuhak & Tecson who focuses part of her efforts on advising nonprofits. “You always want it to be a written agreement and not a handshake. And if you’re going to explore any percentage-based compensation with a fundraising professional, that should be looked at very closely.”

Consult with a lawyer early

Most people who are new to nonprofits and the accompanying fundraising have no idea where to start.

“What happens is the charitable organization initially comes to me for help with the setup and formation,” Wojtowicz says. “After that, their next question is, ‘How do I start fundraising, and what do I need to do?’ Having an attorney who knows the ins and outs—the reporting requirements, the licensing requirements—really helps the charity to maintain the legal formalities.”

Legal counsel is equally important as operations grow.

“Often small public charities, were started by one, two or three family members,” Wojtowicz says “Suddenly, they start expanding, and they don’t know what to do. That’s where hopefully they get referred to an attorney. Sometimes they get notices that they’re not in compliance, and now they have to turn to an attorney.”

Get registrations in order

Boike often encounters this pitfall, which can lead to financial penalties. With nonprofits that raise funds in more than one state, things can get especially tricky.

“One of the key issues is making sure they understand not only the federal requirements to have and maintain their tax exemption, but also the state requirements, particularly related to fundraising,” she says. “If they conduct fundraising, they may have to register in any state where they receive contributions. Today many nonprofits have ‘donate here’ buttons on their website, so it’s important they understand the consequences of that with people from all 50 states donating to them. Confirm you’re registered [with the attorney general] in every state you need to be.”

Even relatively small nonprofit fundraisers that take place close to home can present problems.

“If you’re doing, say, a raffle, don’t just assume you can do it without any registration,” Wojtowicz says. “I find that’s the biggest thing. People are like, ‘Oh, I’m just raffling off this TV.’ Well, there is a watchdog group in Illinois that basically tracks down all these small not-for-profits and starts reporting them.”

Going it alone

If you don’t want to spring for legal counsel, there are resources at your disposal. Wojtowicz recommends “Building Better Charities” on the Illinois Attorney General website. Your safest best, however, is to lean on a legal professional.

“A lot of times, organizations that don’t have an attorney involved go and file online with the Secretary of State and organize their company, and then they get their accountant to help them with the IRS. But they don’t do the Illinois portion,” Wojtowicz says. “Then they’re suddenly having fundraisers that are bringing in lots of money, and there’s no registration in Illinois and they get hit with fines. It’s so important they just follow those formalities, which are pretty straightforward in Illinois. Without sound legal counsel, it often falls through the cracks.” 

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