I run a 501(c)(3) nonprofit organization that has a mission to restore the community environment. Increasingly there are for-profit companies doing a substandard job of what we provide for free as a nonprofit. I would like to start a for-profit arm that would allow us to go after the business that is solicited by the city where I live. Would this be okay?
If you are doing the same work as for-profits do now as a substantial part of your activities, I assume that you have made a decision that it is within your charitable mission to do it. If so, there is no rule that says you can’t be paid to perform services that are part of your mission. Hospitals and colleges charge their patients and students every day. Orchestras and theater groups charge those who watch their performances. You could charge for the work just as the for-profits do and increase your revenue to allow you to do more. Your customers might even think it is more valuable than your current free service and you wouldn’t have to pay unrelated business income tax (“UBIT”) on the profit because the service wouldn’t generate unrelated business income. (See Ready Reference Page: “Nonprofits Often Worry About UBIT”)
(If you are working in Pennsylvania, the state has what I think is a unique law that allows a “small business” to enjoin competition from a charitable organization. (See Ready Reference Page: “Act 55 Defines ‘Charity’ Eligible for Exemption”) But the challenge is applicable only to “unrelated” business activity and we are assuming that this work isn’t unrelated.)
Your question asks about competing for “business that is solicited by the city” in which you live. If you are talking about business solicited by the municipality itself, it seems unlikely that the city would rule out a nonprofit competitor. But if it does and you have time to serve the city’s needs as well as your other customers, you could form a for-profit organization to pursue that work alone. You would just have to pay regular business taxes on the profits, which you would avoid if you do the same kind of work through your nonprofit.
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A myriad of violations occur when nonprofits try to add, mimick or scheme to include for-profit activities that are in general, for fundraising purposes. The nuances get many in deep trouble.
I agree entirely that a nonprofit that starts a business activity as a fundraising venture takes real risks, not only the existential risk of losing its exemption for "too much" unrelated business activity, but also the financial risk of just losing money. Since this group is apparently already doing the activity that it considers related to its exempt pupose, it seems much less risky to charge fees for what it is currently doing for free.
Our mission is to help low-income residents (200% of poverty line) deal with a particular health issue. Because of our work, private practitioners are doing lots more similar work and charging substantial $$. This answer suggests that we could start accepting over-income patients and billing them (at whatever fee-for-service/billing rate the market would bear) and NOT have to pay UBIT. I was pretty sure we would have to keep track of the numbers and pay UBIT. Am I wrong about that?
The issue is whether the activity producing the income is from an activity that is unrelated to the purpose for which your organization has an exemption. With an environmental group such as that in the original question, I assumed that the general public is the beneficiary and anything to clean up the environment will be within the scope of the exemption. You have added a limitation stating that your “mission” is to help lower income people with this condition, but I don’t know whether the low income limitation is part of the basis on which you were granted exemption. If your exempt purpose is to help people with the illness and you have unilaterally added the low income limitation for your activities, you could increase (or eliminate) the limitation and still be within your mission if you help people with greater resources. In that case, the new income would not be unrelated for IRS purposes and no tax would be due.
Even if you got an exemption only to help low income residents, if helping any resident with the illness is still a charitable purpose (which I think it would be), you can expand your mission by saying you will provide your services to people with greater resources. That is done by notifying the IRS that you are doing so on your 990.
In addition, even if it is outside your exempt purpose, you can do some of it, as long as it is not “too much” and you pay the UBIT tax. —Don Kramer
Thank you Mr. Kramer. As I originally stated, our mission is related to engage youth in activities which restore our environment. We currently have a floral farm that we use to beautify our community. We sell the bouquets and have contractual relationships with major clients who purchase our product to help support our mission e.g., beautifying the community, engaging youth in community activities through this sustainable activity. The only difference here referencing the cleanup projects we run would be that we actively participate in work that we now pursue for free because we have relationships through other vehicles that fund this purpose. We are currently 100% dependent on state and federal grants and private foundations to support our mission, but this isn't sustainable for growth. My goal is to become less dependent on grant opportunities and more reliant on our capability to sustain our organization. It sounds like I am aligned in that what we do with the cleanup is directly in line with our organizational purpose.
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