There are currently more than 180,000 organizations in the state of California. These nonprofits earn a combined revenue of approximately $430 billion annually and have $916 billion worth of assets.
While the process of applying for 501(c)(3) tax exemption may seem daunting, to say the least, the advantages that come along with obtaining tax exemption are numerous.
501(c)(3) compliance benefits:
- Having recognition, and credibility for your nonprofit
- Being exempt from IRS income tax, federal, sales, payroll, and property taxes (more information can be found on the California Department of Revenue website)
- Eligibility for grants on local, state, and federal levels. Lots of funders will only consider an application if you are registered as a 501(c)(3) entity and have your 501(c)(3) certificate to prove this.
- Allows you to give tax deductions to donors when they donate to your nonprofit
- A nonprofit or exempt organization in California may qualify for nonprofit mailing privileges, such as discounted postage rates.
- Media outlets are also inclined to give discounted and even free announcements and press releases for nonprofits. Simply show them your 501(c)(3) certificate or tell them that you are 501(c)(3) compliant, and they will gladly make a public service announcement on your behalf.
These are just some of the benefits of being 501(c)(3) certified, and it is in your organization’s best interest to find out how this compliance can help your nonprofit save money and grow from strength to strength.
Now that you are aware of the benefits of obtaining a federal tax-exempt status, you’ll need to know how to qualify for it.
Here are the prerequisites for federal tax exemption eligibility:
- The nomination of 3 directors, unrelated to each other
- Adopt bylaws and conflict of interest policy
- File articles of incorporation
- Have an EIN
1. Select a name for your organization
Once you’ve identified the unfulfilled need in your community, it’s time to start thinking of a name for your nonprofit organization. This deserves careful consideration as the name of your organization is ultimately its brand.
Additionally, the name of the nonprofit should give people an indication of what the organization is about.
For example, the Oral Cancer Foundation in Newport Beach, California, assists people with cancer and health-related issues. At the same time, Shelter Partnership Inc. in Los Angeles, California, assists homeless people with housing and human services. And the Last Chance for Animals organization is an animal rescue and shelter service.
- The California Secretary of State will accept a corporation name provided it is not misleading to the public or too similar to an existing name on the agency’s records.
- Additionally, in the state of California, the name you choose should not relate to the United States Olympic Committee, such as: “Citis Altius Fortius,” “Olympic,” or “Olympiad.”
- Furthermore, the name of your nonprofit should in no way be related to financial institutions such as “trust company” or “band and trust.”
- Moreover, the organization’s business name should contain the word “incorporated” or “corporation” or, at the very least, abbreviations like “Corp.”
Head over to the California Secretary of State website for official name guidelines.
If you’re keen on a name for the nonprofit, and it meets the above requirements, you should go ahead and reserve the name for 60 days by filling in a name reservation request form.
If you plan on creating a website for the organization, you may want to check the availability of the name as a web domain, and if it’s available, buy it to prevent others from using it.
2. Nominate a California registered agent
A registered agent is the designated individual in charge of receiving legal notices and documents from the state. A registered agent is necessary and is a reliable channel of communication between your organization and the state of California if your organization ever gets sued. This is because the registered agent will receive the lawsuit on your nonprofit’s behalf.
Anyone may be nominated as a registered agent so long as they are:
- Physically located in California: The registered agent needs to be a resident of California and must be 18 years older to fulfill the role.
- Have an office: The registered agent must also be available at the listed address during business hours to receive mail on behalf of the nonprofit.
- Are available during regular working hours: As they are commonly referred to in California, a registered agent or “service of process” agent receives legal documents and court summons. This is why they need to be available during business hours.
“The selected individual maybe someone within the organization, including yourself.”
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3. Recruit your board members
Directors are the governing body, cabinet, or management of your nonprofit, and the officer is responsible for keeping the minutes of the organizational meetings held between directors and members.
When choosing directors and officers for your nonprofit, you need to know Internal Revenue Service and residency requirements:
- Directors in California need to be 18 years or older
- No residency or membership is required
- Board must be made up of at least three members to serve the positions of President, secretary, and treasurer
- The president may not hold the office of treasurer or secretary
Under California law, it is recommended that your board consists of between three to 25 directors.
4. Consent to bylaws and conflict of interest policy
To complete your California nonprofit organization application, you’ll need to apply for Recognition of Exemption under section 501(c)(3) of the Internal Revenue Code and have two documents for a successful outcome:
- The first is a Bylaws document which acts as your organization’s operating manual, outlining operating procedures and so on.
- The second is a Conflict of Interest Policy, a collection of rules put in place to ensure that all decisions ultimately benefit the nonprofit’s purpose and not the nonprofit members’ personal agenda.
5. Select a California nonprofit startup corporation structure
There are four corporate structures for nonprofits in California as follows:
- Public benefit corporations: These nonprofits are created for charity purposes, act as a social welfare organization or civic league.
- Religious corporations: These nonprofits are solely for religious purposes, such as a church.
- Mutual benefit corporations: These nonprofits may or may not pursue IRS and state tax-exemptions.
- Mutual benefit common interest development corporations: These nonprofits are created under the Davis Stirling Common Interest Development Act to oversee common interest development, such as a homeowner’s association.
6. Prepare and file nonprofit Articles of Incorporation
Your organization’s Articles of Incorporation properly mark the creation of your nonprofit. It documents when and where the nonprofit was formed and captures the necessary information to verify the existence of your organization.
That said, the IRS will look for a few introductory provisions when vetting your 501(c)(3) tax exemption application, so you must meet both the state of California’s requirements and IRS requirements to avoid unnecessary amendments or your application declined.
Here’s what your nonprofit articles of incorporation should state explicitly:
Your California nonprofit corporation must be limited to one or more of the following categories:
- Testing for public safety
- Preventing cruelty to children or animals
Here you’ll need to state the purpose of the organizations’ assets and the consequences of dissolved assets.
- Name of the California nonprofit
- The name of the registered agent, including the street and mailing address of the registered office of the filing entity
- The initial address of the organization
- The initial mailing address of the organization (if different from the street address)
Under California law, the following statement must also be contained in the Articles of Incorporation:
“This corporation is a nonprofit public benefit corporation and is not organized for the private gain of any person. It is organized under the Nonprofit Public Benefit Corporation Law for (public or charitable [insert one or both]) purposes.”
As we mentioned in the section above, there are four nonprofit structures in the state, and you’ll need to determine which one yours falls into. Additionally, the state of California also provides four templates for Articles of Incorporation for a Domestic Nonprofit Corporation, and they are as follows:
- Form ARTS-PB-501(c)(3): Articles of Incorporation – Public Benefit Corporation
- Form ARTS-MU: Articles of Incorporation – Mutual Benefit Corporation
- Form ARTS-RE: Articles of Incorporation – Common-Interest Development Corporation
- Form ARTS-RE: Articles of Incorporation – Religious Corporation
Please choose the relevant template or create your own articles and then file them with the California Secretary of State.
Additionally, to get your 501(c)(3) tax exemption in order, you should use your nonprofit’s assets solely for the purposes sanctioned under section 501(c)(3).
The provisions required for 501(c)(3) eligibility can be found in this sample IRS document.
However, you may file your documents online or do so via mail. Online is the quicker option, and the turnaround is usually between 1-3 days, while forwarding your documents via mail will have you waiting anywhere between 8-17 days for the outcome.
7. File an initial report
After filing Articles of Incorporation, an initial report must be filed, as per California Corporations Code Section 6210. The initial report serves as an information update due to the secretary of state once the nonprofit is registered. It is required by law to keep your business in good standing, avoid penalties for not doing so and prevent involuntary dissolution.
The report or Form CT-1 must be filed within 90 days of incorporation. Failure to do so within this timeframe may result in a penalty of $50.
8. Secure an EIN (Employer Identification Number)
An Employer Identification Number is also referred to as a Federal Tax Identification Number or Federal Employer Identification Number. It is a nine-digit number assigned by the IRS to identify your nonprofit or business entity. You can think of it as a social security number for your nonprofit.
While many people believe that only nonprofits who plan to hire employees need an EIN, all nonprofit organizations will need to apply for it. An EIN can be used to open a business bank account, submit 990 returns to the IRS, and apply for your 501(c)(3) compliance.
The form needed for your EIN is the IRS Form SS-4, and you may send the completed form back via phone, fax, mail, or online.
The ETA when using the online or phone method is almost instantaneous, while the fax option will take four working days, and the mail option will have you waiting anywhere between 4-5 weeks.
Please head over to this Understanding Your EIN document to guide you further.
9. Apply for federal tax exemption
Once you’ve fulfilled the requirements mentioned above, you may go ahead and file the 1023 form and apply for your nonprofit’s 501(c)(3) tax-exempt status. This application is an in-depth examination of the nonprofit’s structure, programs, and governance.
It also allows for federal tax exemption of organizations such as public charities and private operating foundations, while being overseen by the US Department of Treasury via the Internal Revenue Service.
However, if you plan on running a smaller organization or expect your nonprofit’s gross income to be under $50,000 over the next three years, you can fill out the form 1023-EZ instead.
All other types of nonprofits, including 501(c)(4)s and 501(c)(6)s, must apply using Form 1024.
A determination letter will be sent to you stating the outcome of the application for exemption from federal taxes.
10. Apply for California state tax exemption
After applying for federal tax exemption, you need to file for California state tax exemption as well. If running a nonprofit or charity, you may qualify for tax exemption. Having a tax-exempt status means the nonprofit will not pay tax on certain nonprofit income. Your organization must apply to get tax-exempt status from the IRS.
The relevant form is called the FTB or Form 3500A and can be found on the California Tax Agency’s website, referred to as the California Franchise Tax Board. The application for recognition of exemption must be submitted to the IRS.
Additionally, your nonprofit may acquire a Consumer’s Certificate of Exemption (valid for five years) to gain sales tax exemption on services and items used in the organization’s not-for-profit activities. In this case, you’ll need to complete the application Form dr-5.
11. Other applicable permits and licenses
Legally operating your nonprofit organization means securing all applicable licenses and permits. Admittedly, federal, state, and local requirements are extensive, so we suggest you access valuable guides and permit and license look-up tools to search for your locality and business type.
In most cases, residents of California are required to produce a business license or occupational license. This is a local business tax receipt furnished annually by the county government. While not all counties in California will require you to do so, some of them insist that you file or lodge your new business with them.
You can learn more about these requirements by checking with your local tax collector’s office.
Additional state registration and reporting requirements
You may need to register with the state prior to carrying out any fundraising activities in California. This will depend on the size of the nonprofit and its activities.
For more information, feel free to head over to The Office of the California Attorney General, Registry of Charitable Trusts division.
12. Submit an annual report
The very mention of annual reports may seem premature initially; however, the state of California requires nonprofits to submit a yearly report at the end of each financial or calendar year to the California Secretary of State.
Additionally, it’s a great way to show donors how your nonprofit has reached its goals.
Start your nonprofit’s first year by identifying its target market, your team, and your fundraising goals so you can make the most of donor outreach, community partnerships, and volunteer recruitment.
Costs of starting a new nonprofit in California
The costs of starting a nonprofit will vary from state to state. Below we’ve listed the costs of starting a 501(c)(3) in the state of California:
- Articles of Incorporation: $30 by mail or $45 in-person + optional $250-$500 preclearance service + optional $350-$500 expedited filing service
- 501(c): $275 or $600 IRS filing fee
- Statement of information (Form SI-100): $20
- California charitable organization registration: $25
- California FTB exemption: $25 ($0 for exemption request)
After you’ve started your nonprofit, there are a few necessary steps that you should take to keep your organization running smoothly. Let’s take a closer look at them below:
Open a business bank account
- Maintain accounting and tax filing
- Ensure that your personal assets are kept separate from your nonprofits’ assets
To open a bank account, you will need to provide:
- Your EIN
- A copy of your articles of incorporation
- A copy of your organization’s bylaws.
Hire a business accountant
- Simplify payroll and bookkeeping
- Prevent your nonprofit from avoiding penalties and tax errors
- Manage your nonprofit’s funding
- Focus on growing your nonprofit
- Manage risks
You may opt for General liability, Personal liability, or Worker’s compensation insurance.
Build a website
As we mentioned earlier, you may want to create a website for your organization to legitimize your business or give it more credibility. A dedicated website is also one of the best ways to share your nonprofit’s vision, mission, and story with supporters. Consequently, it’s also a great way to announce upcoming events and goals.
Sign legal documents
One aspect that tends to get overlooked is signing legal documents in your personal capacity instead of as an authorized representative of your nonprofit.
If you’ve appointed yourself as a registered agent of the nonprofit, then the following tips will help avoid personal liability:
- State the registered name of your nonprofit
- Use your name and signature
- State your position/role in the organization as its authorized representative
When signing legal documents on behalf of the nonprofit, it is important that you do so in your capacity as the registered agent, as opposed to your capacity as an individual.
Example: Instead of signing your name only, state the name of the nonprofit and then your name and position within the organization before signing.
Nonprofit organizations do not have owners but founders. The founders are not allowed to make a profit or benefit from the money coming into the organization. However, there are other ways to earn an income from your nonprofit such as receiving compensation in the form of a salary. But this must be disclosed to the IRS.
The name that you choose must not be too similar to any other nonprofit organization.
A 501(c)(3) is a nonprofit for charitable, religious, and educational purposes. On the other hand, a 501(c)(4) is a social welfare group. Donors of 501(c)(4) nonprofits are not disclosed, neither are the donations tax-deductible.
If your nonprofit makes less than $25,000 per year, there are no fees. However, if your organization makes between $25,000 and $50 million, you’ll need to pay $225 annually. Any amount over $50 million requires a yearly fee of $30.
In order to sit on a board of directors, you will need to sign an agreement to live a life of integrity. You may also be required to agree to a background check.