Can An LLC Be A Nonprofit?
By Bazal Razzaq
Updated: June 22, 2023
Editorial Note: We earn a commission if you use the services recommended on this page. Commissions do not affect our opinions or recommendations.
- What is an LLC?
- The Ultimate Checklist: Top Mistakes to Avoid When Forming An LLC
- How to change your LLC name in 2023?
- How to set up an LLC as a Non-US resident
- The Power of Partnership: Unleashing The Potential of A Multi Member LLC
- What Is A Foreign LLC?
- Mastering the Art of Maintenance: Things To Do After Setting Up An LLC
- Exploring the Basics: What is a Single Member LLC?
- C Corp vs LLC – Which Business Structure is Right for You?
- Which is the best state to form an LLC in?
- Unlocking the Benefits of an LLC (Limited Liability Company)
- A Guide to Business License: Everything you need to know
- Operating Agreement 101: A Key To A Successful LLC
- One LLC, Multiple Streams of Income: can you have multiple businesses under one LLC?
- Articles of Organization Made Easy: Everything You Need to Know
- What Is A LLC Annual Report: A Comprehensive Guide for Business Owners
- Exploring Eligibility: Who Can Be LLC Members?
- What Is A Domestic Limited Liability Company?
- What is An EIN, and Do You Need One?
- What Is a Registered Agent, and Why Does Your Business Need One?
- What is a Series LLC?
- How to start a business with no money in 6 steps
- Member Managed vs Manager Managed LLC – Which Structure Fits Your Business?
In the entrepreneurial realm, where minds challenge their dreams into reality, two entities have stood proudly at opposite ends of the spectrum, Nonprofits, and Limited Liability Companies. For the longest time, we’ve known them as two structures with distinct purposes, missions, and approaches. So asking the following can sound confusing: Can an LLC be a nonprofit entity?
Wondering the same? If you happen to come across this blog, you were. So without waiting for the turtles to come home, let’s get into it!
Can My LLC Be Registered As A Nonprofit Entity?
The short answer is – it depends. A nonprofit can be a Limited Liability Company only in certain circumstances. The state must first allow the nonprofit to get the LLC status, and then the nonprofit LLC must be wholly owned by a tax-exempt nonprofit entity(as per the IRS).
With that being said, not just anybody can form a nonprofit LLC. Only existing nonprofit organizations can set up nonprofit LLCs as subsidiaries or LLC cells.
Forming a nonprofit LLC as a corporation is similar to forming a for-profit organization, with only one added step applying for a 501(c)(3) status with the IRS. But with a nonprofit LLC, there are a few more rules to be followed, like each member/owner of the LLC needs to register as a nonprofit. The added step makes the whole process a little complex, making forming a nonprofit corporation easier than a nonprofit LLC.
What is a nonprofit LLC?
An LLC, or limited liability company, is a hybrid entity that combines the tax benefits of a sole prop or partnership with the liability protection of a corporation. They’re a great choice for small business owners that want the benefits of a big company minus the cost and formalities.
You can imagine a nonprofit LLC as a hybrid entity that merges the absolute best of both worlds: the innovative mindset of an LLC and the noble idea of a nonprofit organization. It’s almost like having a superhero team with a business twist. A nonprofit LLC is created to meet the same goals and mission as a nonprofit corporation: to serve the public good and welfare.
These nonprofit structures hustle to support charities covering education, health, housing, economic development, women empowerment, health, and more. Also, they share a mutuality: they’re both not-for-profit entities. Like a nonprofit corporation, a nonprofit LLC doesn’t work to support or flatter its owners and members. Instead, the money goes to support their cause or improve their business.
It makes a meaningful impact, embracing the power of business and humility.
Pros: Can an LLC be a nonprofit entity?
Even if it isn’t the more traditional choice, there are several benefits to forming a nonprofit LLC:
- Limited Liability Protection: If you’re a regular on our blog, you already know the best part of starting a nonprofit LLC or an LLC. A nonprofit LLC owner/member has limited liability protection against any future debts and obligations of the LLC. If the LLC gets sued or can’t pay its debts for some reason, the holding company’s assets and belongings won’t be at risk.
- Tax Benefits: Most nonprofit businesses are exempt from paying federal and state income taxes. Likewise, nonprofit LLCs can apply for federal and state tax-exempt status under Section 501(c)(3) of the Internal Revenue Code.
- Flexibility in Structure: Nonprofit LLCs are more flexible than traditional LLCs regarding decision-making, management, and internal structures. A basic example of this could be how traditional nonprofit corporations must have a board of directors, but a nonprofit LLC can be run and managed by its owners/members.
- Limited Reporting: Unlike traditional nonprofit corporations, a nonprofit LLC has fewer reporting and compliance requirements. Reduced administrative burdens and charges allow businesses to focus more on mission-related activities.
- Fundraising: Nonprofit LLCs can engage in fundraising events and activities the same way as nonprofit corporations, which allows them to seek donations from individuals, foundations, and business corporations.
Cons: Can an LLC be a nonprofit?
While nonprofit LLCs have their fair share of benefits, they also have a few disadvantages that companies should consider.
- Tax Liability: Even though a nonprofit LLC is exempt from paying off federal and state taxes, it may still be subject to other taxes like sales, property, or unrelated business income tax(UBTI). If the LLC involves activities unrelated to its tax-exempt purpose, its income or profits will be subjected to UBTI. It can complicate the tax status of the LLC and result in additional tax liabilities.
- Public Disclosure: Much like nonprofit corporations, a nonprofit LLC will also be subject to disclosing its financial details. The resulting lack of transparency can affect trust issues and lack of support from investors, the public, and potential partners.
- Public Trust: A nonprofit LLC may face confusion and doubt from the general public and potential donors, unlike traditional nonprofit structures, like nonprofit corporations or charitable trusts. LLCs are usually associated with for-profit ventures, which can create about the nonprofit’s missions and intentions, affecting the public’s perception and trust.
Finally, it’s important to remember that not all states support forming a nonprofit LLC. So before making any major decisions, check with your state laws and regulations.
Nonprofit LLC vs. Nonprofit Corporations
A Nonprofit LLC is pretty similar to a for-profit LLC. Nonprofit LLCs provide limited liability protection of personal assets and resources against debts, obligations, and litigations for business owners(unlike a sole prop structure), just as a corporation would do. But they’re far more flexible in running, organizing, and managing. Also, as mentioned earlier, they have fewer reporting and compliance requirements.
What sets a nonprofit LLC apart is that its purpose is not just to make money but to serve, help and inspire the general public in a good way. It’s a hybrid legal structure that combines the goodwill and mission-driven focus of a traditional nonprofit corporation and the liability protection of an LLC.
The fact that a tax-exempt organization must own it is what splits a nonprofit LLC from a nonprofit corporation.
A Nonprofit corporation is a corporation that’s created and managed solely to serve charitable purposes. It can’t be bought or sold because it has no stocks and shareholders. Any profits a nonprofit corporation makes either a) go to the corporation’s core mission or b) are used to keep the corporation up and running.
It’s a legal entity formed for charitable and public purposes like educational, humanitarian, religious, or scientific issues. It runs without the primary goal of generating profits for its owners/members. A board of directors governs nonprofit corporations with limited liability protection for their directors, officers, and other members.
They rely completely on donations, grants, and fundraisings to support their activities. Nonprofit corporations must comply with certain regulations and reporting requirements to maintain their nonprofit status.
But then again, can an LLC be a nonprofit entity, and is it even wise to do so?? Forming a nonprofit LLC can be a little complicated for a few reasons. First, some states could set laws and regulations against forming a nonprofit LLC. Some states have this law stating that a nonprofit LLC must only be formed for business purposes. Yep. Because LLCs are controlled by state law, you’d need to find out if your state wouldn’t approve the formation of a nonprofit LLC.
Another major reason is gaining 501(c)(3) status and meeting the IRS’s requirements for nonprofit LLCs.
Despite their differences, nonprofit LLCs and corporations can apply for the 501(c)(3) Status with the government to avoid being federally taxed. Depending on the state, state taxes may also be exempted.
IRS rules for forming a nonprofit LLC
When setting up a nonprofit LLC, the IRS will decide your tax-exempt status. Each owner/member of the LLC must be a tax-exempt organization. So, the central question, “Can an LLC be a nonprofit,” really depends on the twelve pointers mentioned below, and the following twelve criteria must be met for the formation of a nonprofit LLC:
- The organizational papers should restrict the LLC’s activities to one or more exempt objectives.
- The language in your organizational documents must contain the clear purpose of the concerned nonprofit LLC by mentioning that its activities will be limited to charitable purposes specifically.
- The LLC members/owners must be 501(c)(3) entities, government units, or instrumentalities of an American state or its political subdivision.
- Organizational documents must restrict any transfer of membership interests to any organization separate from section 501(c)(3) or governmental unit.
- The operating agreement must mention that only nonmembers, not 501(c)(3) organizations, governmental units, or instrumentalities, may acquire LLC interests or assets in exchange for fair market value. In other words, any other firm that is not a 501(c)(3) organization, governmental unit, or instrumentality must buy LLC interests at fair market value.
- The organizational language must guarantee that if/when the LLC is dissolved, its assets devoted to charitable purposes will continue to be devoted to only charitable purposes.
- All organizational documents require any amendments to the articles of organization to comply with section 501(c)(3).
- The organizational documents must limit the LLC from merging with, becoming, or converting into a for-profit business entity.
- The LLC’s organizational language must state that it must not transfer any assets to members who no longer qualify as 501(c)(3) organizations, governmental entities, or instrumentalities.
- The organizational language must contain an accepted contingency plan if one(or more) members/owners cease to be a 501(c)(3) government unit or instrumentality.
- The organizational documents must mention that the LLC-exempt members should uphold their LLC rights and seek all available legal and equitable remedies to secure LLC interests.
- Organization documents must be consistent with state LLC laws, enforceable at law, and in equity.
The Proper Way To Form A Nonprofit
While there’s no correct or incorrect way to form a nonprofit LLC, there is a proper way. Here’s how:
- Starting a nonprofit LLC through a Corporation is the most common and suitable way.
- State laws set for forming LLCs vary from state to state.
- You can set up an LLC or corporation by filling necessary documents with your Secretary of State(SOS).
- A board of directors manages corporations, so nonprofits must be corporations in some states.
- The same board of directors drafts the internal rules for the nonprofit.
Featured Best LLC Services
On Northwest Registered Agent’ Website
On IncFile’ Website
On Business Rocket’ Website
Frequently Asked Questions (FAQs)
An LLC can be a nonprofit entity so long as a single tax-exempt organization owns it and meets a dozen requirements set forth by the IRS.
A 501 LLC may refer to a nonprofit LLC with 501(c)(3) status, meaning it’s exempted from federal taxes.
Most often, you’ll notice nonprofits formed as corporations rather than LLCs. That’s because all members/owners of a nonprofit LLC must also be tax-exempt organizations.
So, to open a nonprofit LLC, you must first create a nonprofit corporation. There is little difference between these entities since they both receive tax-exempt status.