Congratulations! You’re about ready to start your nonprofit journey (or maybe you already have), and you’ve gotten to the point of filing your state paperwork. You’ve downloaded a template off of the internet, figured out what you need to include, gotten your board together, and are just about ready to file your nonprofit paperwork. Have you begun working on your Nonprofit Articles Of Incorporation?
STOP.
If you’re like hundreds of new nonprofit leaders every year, you’re about to not include two crucial clauses that will make the IRS automatically reject your application when you apply for nonprofit status (if you’re using the long form) or revoke your nonprofit status if they audit you (if you’re using the short form).
What are you about to do wrong? While the majority of corporations either don’t need to file articles of incorporation at all or only need some basic information (registered agent, name, and board), your nonprofit is required to have two additional clauses at the state level to get approved by the IRS at the federal level: a purpose clause and a dissolution of assets clause.
These both must be in your articles of incorporation when you create your nonprofit with the state, or you will be rejected at the federal level.
We’ll get to those clauses in a moment, but first, what are we talking about here?
The first stage of legally forming any company (including a nonprofit) is to create the company. This is done by applying for a certificate of formation/certificate of incorporation from your state. To do this, you file a short form, often called the Articles of Incorporation. In most cases, once you receive your certificate of formation, you’ve created your company or organization, and you can then start doing business as that company, including creating a bank account, signing checks, and completing contracts under that business name.
The form your state asks you to fill out will be pretty standard, with an option for adding additional clauses to your Articles of Incorporation. These articles may specify the powers of your organization, the liabilities of directors and officers, the control and powers of directors, etc. This document forms the basis for how your organization is governed and will be treated by law.
How does this apply to nonprofits?
Unlike other companies, which all pay income taxes, most nonprofits apply for tax-exempt status. If you’re forming a nonprofit, you know this means your nonprofit won’t pay any taxes on most of the income it receives. If you’re applying for 501(c)3 status like many nonprofits do, you also want your donors to get a tax write-off on their donations to you.
When you apply for federal tax-exempt status, the IRS will ask you if you have two clauses in your Articles of Incorporation (which goes by a different name in a couple of states).
1. A purpose clause.
“Section 501(c)(3) requires that your organizing document limit your purposes to one or more exempt purposes within section 501(c)(3), such as charitable, religious, educational, and/or scientific purposes. Does your organizing document meet this requirement?”
2. A dissolution clause.
Section 501(c)(3) requires that your organizing document provide that upon dissolution, your remaining assets be used exclusively for section 501(c)(3) exempt purposes, such as charitable, religious, educational, and/or scientific purposes. Depending on your entity type and the state in which you are formed, this requirement may be satisfied by the operation of state law. Does your organizing document meet this requirement?
What are these clauses for?
Purpose Clause
To qualify for tax-exempt status, your nonprofit must be limited to doing things that are tax-exempt. Namely, it must be organized exclusively for charitable, religious, educational, or scientific purposes. To keep your nonprofit accountable to this extent, the IRS requires that you include a purpose clause in your Articles of Incorporation that explicitly states this requirement. This is not required of any other type of corporation, so check your articles to make sure you, or whoever you trusted to file your nonprofit at the state level, included such a clause. For example:
“The Corporation is organized exclusively for charitable, scientific, and educational purposes, pursuant to Section 50l(c)(3) of the Internal Revenue Code of 1986, as amended, and its successors, and regulations issued thereunder, including but not limited to [include your specific purpose, such as rescuing animals, feeding the hungry, etc. here]”
Dissolution Clause
The IRS also wants to make sure that if your nonprofit were to stop operating for some reason, the proceeds don’t go into your, or your directors, personal bank accounts. Therefore, you’re required to include a dissolution clause in your articles of incorporation. This dissolution clause mandates that, if your nonprofit were to dissolve, your assets would either a) be distributed to other nonprofit organizations or b) they will be distributed appropriately by the government. For example:
“Upon the winding up and dissolution of the Corporation, the assets of the Corporation remaining after payment of, or provision for payment of, all debts and liabilities of the Corporation, shall be distributed to an organization or organizations, as determined by the Board of Directors, recognized as exempt under Section 501(c)(3) of the Code or any successor provision, and used exclusively to accomplish the purposes for which this Corporation is organized.”
Ensuring these Clauses are in Your Nonprofit Articles of Incorporation
These clauses seem fairly simple. Why do so many nonprofit leaders miss them? The vast majority of new nonprofit leaders miss these clauses because these must be filed at the state level, but you don’t learn these must be in your Articles of Incorporation until you go to fill out the federal form. You cannot amend your articles at the federal level, so either a nonprofit leader will miss these requirements entirely and be automatically rejected, or they’ll have to create or amend their Articles of Incorporation once they are ready to file at the federal level, which can cost additional weeks and hundreds of dollars in some states.
What if I’ve already filed, and these clauses aren’t in my Articles of Incorporation?
If you’re reading this article and you’ve already filed with the state, you’ll need to file an amendment to your certificate of formation/articles of incorporation. This process is very state-specific, so you’ll want to get some help making sure your amendment is clear and unambiguous. When you file for federal nonprofit status, you must include both your original articles and amended articles so the IRS can see that you have fixed your mistake.
But save yourself the time, money, and hassle. Whether you use a template, a law professional, or us (we’ll make sure it’s in there, but it never hurts to check), make sure your nonprofit Articles of Incorporation has the two clauses the IRS requires. It will save you lots of money and hassle in the long run.
