Baylor Law SchoolBaylor Law SchoolNonprofit OrganizationsNonprofit Organizations

Spring 2005 CourseSpring 2005 CourseIntroduction;

Organization of the Nonprofit Corporation

Prepared By:

Darren B. MooreBourland, Wall & Wenzel,

A Professional Corporation

Attorneys and Counselors

City Center Tower II

301 Commerce Street, Suite 1500

Fort Worth, Texas 76102

(817) 877-1088

(817) 877-1636 (facsimilie)

E-mail: dmoore@bwwlaw.com

©Bourland, Wall & Wenzel, P.C.

NONPROFIT ORGANIZATIONSSPRING 2005

INSTRUCTORS:Darren B. Moore; Michael V. Bourland

REQUIRED MATERIALS: Phelan & Desiderio, Nonprofit Organizations Law and Policy, ThomsonWest, 2003.

Other required materials will be provided to you during the course or accessible at www.bwwlaw.com (nonprofit; student).

You will need access to (but do not need to purchase) the Internal Revenue Code and the Texas Non-Profit Corporation Act.

Administrative Matters

The Baylor Law School attendance policy applies to this course.

When you arrive for each class session, you are expected to have read the designated assignment and reviewed the questions and notes contained therein. The University and Law School Honor Code apply.

Grades will be based on a final examination. Class participation will be considered in determining whether to increase a student’s final grade.

Office hours will be by appointment. Questions via email are always welcome. Contact information:

Darren B. Moore(817) 877-1088 (Office)(817) 801-0132 (Home)dmoore@bwwlaw.com

Why study the law of nonprofits?

• Large market sector

• Participation on boards, etc.

• Tax exempt planning

• Estate Planning

• Other

Purposes of Course• Gain familiarity with different structures of nonprofit organizations

• Understand planning involved in choosing appropriate structure

• Learn the basics of organization and operation under the Texas Non-Profit Corporation Act

• Learn how to recognize and advise nonprofit organizations on major tort liabilities/Understand state and federal standards of care applicable to nonprofits

• Gain a familiarity with charitable immunity and its application

• Gain familiarity with tax issues such as tax exemption, unrelated business income tax, etc.

• Learn the tax rules related to various tax-exempt entities

• Gain a basic familiarity with charitable giving

Nonprofit Sector• Many earn profit• May or may not be

tax-exempt• Charitable, religious,

educational (and many more)

• Take up where business and gov’t fail

Example Nonprofits• Supporting Organizations (e.g. Gladney Fund)• Research Organizations (e.g. CRECD)• Camps (e.g. Cho-Yeh Camp and Conference Center)• Churches/Associations of churches• Family Foundations • City Missions• Community Foundations• NFL• AFCA• Political Organizations• World Relief Organizations • Hospitals, day care centers, retirement villages• Country Clubs• Trade Associations

Nonprofit Sector

0

50

100

150

200

250

Amountin

billionsof

dollars

Dues,fees &charges

Contributions

Government

Other

• Estimated to generate revenues exceeding 15% of nation’s gross national product

• Nonprofits include unions, lodges, fraternities, sports clubs, and even Harley associations!

• NFL – spends less than 1% of its $35 million budget on charitable activities, pays comm’r $1.5 million/ year and spends $1.5 million/ year to lease its office speace

• Motion Picture Academy – spends around $6 million for Oscars

• An estimated 1.2 million organizations are tax exempt (not counting churches!)

• Since 1970 has grown 4X as fast as the rest of the economy

• Estimated to control property worth more than $850 billion (not including churches!)

Source: America’s Nonprofit Sector in Brief, unpaginated (1998), an update and revision of Virginia A. Hodgkinson et al. NONPROFIT ALMANAC 1996-1997 156, 159, 160 (1996).

Registered Nonprofit Organizations by Total Assets (Texas)

0.00%

10.00%

20.00%

30.00%

40.00%

50.00%

60.00%

70.00%

80.00%

90.00%

Lessthan

$100,000

$250K-$499,999

$1-5 mil. $10-$100mil.

Number of RegisteredOrganizations

Assets Reported onForm 990

Source: National Center for Charitable Statistics, Urban Institute

Doesn’t include most religious congregations.

Registered Nonprofit Organizations by Total Assets (National)

0.00%

10.00%

20.00%

30.00%

40.00%

50.00%

60.00%

70.00%

80.00%

90.00%

Lessthan

$100,000

$250K-$499,999

$1-5 mil. $10-$100mil.

Number of RegisteredOrganizations

Assets Reported onForm 990

Source: National Center for Charitable Statistics, Urban Institute

Doesn’t include most religious congregations.

Registered Nonprofit Organizations by IRC Subsection (Texas) (2003)

(c)(1)(c)(2)(c)(3)(c)(4)(c)(5)(c)(6)(c)(7)(c)(8)(c)(9)(c)(10)(c)(12)(c)(13)(c)(14)(c)(15)(c)(16)(c)(17)(c)(19)(c)(25)(c)(27)(c)(40)(c)(50)Other

Source: National Center for Charitable Statistics, Urban InstituteDoesn’t include most religious congregations.

Registered Nonprofit Organizations by IRC Subsection (National)(2003)

(c)(1)(c)(2)(c)(3)(c)(4)(c)(5)(c)(6)(c)(7)(c)(8)(c)(9)(c)(10)(c)(11)(c)(12)(c)(13)(c)(14)(c)(15)(c)(16)(c)(17)(c)(18)(c)(19)(c)(20)(c)(40)(c)(50)Other

Source: National Center for Charitable Statistics, Urban InstituteDoesn’t include most religious congregations.

Registered Texas Nonprofits by County (2003)

Dallas

Tarrant

Harris

Travis

Bexar

All Others

Source: National Center for Charitable Statistics, Urban InstituteDoesn’t include most religious congregations.

Registered Nonprofits by IRS Ruling Date Since 1950s

1950s1960s

1970s1980s

1990s

0

5000

10000

15000

20000

25000

Source: National Center for Charitable Statistics, Urban InstituteDoesn’t include most religious congregations.

The Third SectorWhat is a nonprofit organization?

A. Sources of Revenue– Donative nonprofit– Commercial nonprofit

B. Recipients of benefits– Public benefit– Mutual benefit

Nonprofit Purpose

• What is an acceptable nonprofit purpose?– Is it the same as a charitable purpose?

• Should there be a public policy restriction on the ability of groups to organize as a nonprofit?

• Who determines whether a group’s purpose is acceptable?

Reasons for Choosing Nonprofit Status

• Potential tax benefits (federal, state, local)

• Postage rates, government assistance programs

• Liability protection in some circumstances

• “Halo” effect

• Exercise of first amendment rights (speech, association)

Entitlement to Tax Exemption

• Should the government subsidize certain activities?– If so, what types? All types?

• Should the government provide a double subsidy for charitable, religious, educational organizations?

• Should there be limits on an organization’s ability to qualify as charitable, religious, educational?– What should the standard be for each?– Who should determine if the standard is met?

Nonprofit Organizational Structure

• Nonprofit unincorporated association– Typically a default

• Nonprofit Corporation– Most common

• Charitable Trust (covered in T&E)– Oldest form (Statute of Uses – 1601)

Formation – TexasConsiderations

• Speed of establishing• Concerns with limited

liability• Sophistication & goals of

organizers• Financial resources of

organizers• Type & scale of activities

to be conducted

• Capacity to sue & be sued

• Capacity to contract• Permanence• Ease of dissolution/

amendment• Governance• Tax considerations• Duties of directors• Federal tax

considerations

Nonprofit Unincorporated Associations

PRO’sRelatively easy to

establishFlexible/informalTexas Uniform

Unincorporated Nonprofit Association Act

CON’s Few established rules Case-law not well-

established Difficulty with

charitable immunity Potential issues with

lenders Conflict of laws

concerns

Nonprofit Unincorporated Associations

Unincorporated association, other than one created by a trust, consisting of three or more members joined by mutual consent for a common, nonprofit purpose

Governed by the Texas Uniform Unincorporated Nonprofit Association Act (since 1995) (1396-70.01)

Separate legal entity

Formation not governed by statute (usually have Constitution, Articles of Association, or Bylaws)

Powers: Promote aims and purposes and advance members’ interests by all legitimate and legal means (not necessarily charitable, e.g. trade association, unions)

Nonprofit Unincorporated Associations

Rights

• Sue or be sued

• Sue or be sued by a member

• Acquire, hold, encumber, transfer real or personal property without the need for trustees

• Be a beneficiary of a trust, contract, will, life insurance

• Can apply for 501(c)(3) status

• Can apply for property tax exemption

Nonprofit Unincorporated Associations

Dissolution

o If inactive for 3+ years (or shorter if spelled out in governing documents), property to be transferred according to associational rules or to a similar nonprofit

o If seeking 501(c)(3) confirmation, property must be pledged to charitable purposes such that upon dissolution assets will pass to another qualified entity

o If seeking ad valorem exemption, must pledge assets for charitable use and have a dissolution clause in governing documents (same as 501(c)(3) rules)

o For charitable immunity must pledge assets for charitable purposes and have dissolution clause (same as 501(c)(3) rules)

o Chapter 126 of CPRC governs receivership for local religious congregation if the above aren’t accomplished

Charitable Trusts

• Fiduciary relationship with respect to property created by declaration of trust by trustor investing trustee with legal title to property for the benefit of charitable beneficiary– Ascertainable or public – Governed by state’s trust act– Trustee owes fiduciary duties– Trustee more limited in ability to delegate duties

Nonprofit Corporations

PRO’s Well-established rules Well-established case-

law Internally flexible Extensive powers as an

entity

CON’s Cost to set up & run Rules to follow Giving up religious

freedom??? Even where funded

entirely by a single individual, must have at least three directors (IRS will request non-related)

Subject to Texas franchise tax unless granted exemption

Nonprofit Corporations

A corporation whose income may not be distributed to its members, directors, or officers in the form of dividends or otherwise (note: salaries paid must be reasonable)

May be organized for any lawful purpose (certain prohibited purposes: 1396-2.01(B))

Governed in Texas by the Texas Non-profit Corporation Act

Note: While purposes are broad, care should be taken if later applying for 501(c)(3) recognition (in which case must be organized exclusively for charitable, educational or religious purposes)

Nonprofit Corporations

Rights/Powers

Perpetual existenceSue and be sued in the corporate namePurchase, lease, own (sell, convey, donate)

property in the corporate nameLend money (prohibition to directors)ContractMake donations for public welfareFor other powers see 1396-2.02

Nonprofit CorporationsEstablishing a Texas Nonprofit Corporation

• Choose a name (note: certain restrictions, 1396-2.04)

• Draft & adopt Articles of Incorporation (will control over bylaws to extent of a conflict)

• Submit AoI to Secretary of State with $25 filing fee ($50 for expedited service)

• File an assumed name certificate if applicable

• Meet to adopt bylaws, appoint directors & officers, establish bank accounts, etc. (practically done by using a Unanimous Consent in Lieu of Organizational Meeting)

• File Form SS-4 with IRS to obtain a federal tax ID number if paying any wages

• If applicable, write state comptroller to request exemption from franchise tax (e.g., Nonprofit corporation organized for religious purposes exempted – Tax Code s 171.058)

• If applicable, write chief appraiser to apply for property tax exemption (e.g., place of religious worship exempt – Tax Code s 11.20)

• If applicable, transfer real property by deed and personal property by bill of sale

• If applicable, change all existing contracts and accounts to reflect the new corporate name (e.g. lease agreements, employment contracts and contracts for services and utilities)

Nonprofit CorporationsArticles of Incorporation

1. Name of corporation2. Statement of nonprofit purpose3. Period of duration4. Purpose or purposes (take care if applying for tax exemption)5. If the corporation is to have no members, a statement to that effect6. If management is to be vested in the members (e.g. a congregational church), a statement to that effect7. Any other provision not inconsistent with law8. Street address of the registered office9. Name of the registered agent10. Number of directors constituting the initital board with names and addresses11. Name and address of each incorporator12. Dissolution clause

Issuance of a Certificate of Incorporation begins the corporate existence and is conclusive evidence that conditions precedent have been met (except in suit by AG for involuntary dissolution)

Additional Provisions (as applicable)1. Language providing for indemnification of directors to extent permitted by law2. Additional language helpful with federal tax exemption3. Provision governing amendments (to change votes, etc.)

Nonprofit CorporationsAmending/Restating Articles

• Adopt a resolution approving proposed amendments (board or members)

• Prepare and file Articles of Amendment ($25)

• If the amendments are extensive, or if for some other reason the corporation desires to do so, may file Restated Articles of Incorporation (restate AoI in entirety – still file AoA)

Nonprofit CorporationsMerger/Consolidation

• Each corporation must adopt a Plan of Merger or Plan of Consolidation (members or board)

• File Articles of Merger or Consolidation ($50)

• In the case of a merger, one corporation designated as surviving corporation

• In the case of consolidation, the two corporations become a new corporation

• Separate existence of the various corporations cease

• The surviving corporation (merger) or new corporation (consolidation) has all rights, etc. of each merging or consolidating corporation and be responsible for all the liabilities and obligations of the merging or consolidating corporation

Nonprofit CorporationsDissolution

Voluntary Vote to adopt resolution to

dissolve (board or members) Cease to conduct affairs except to

winding up Mail notice of proposed dissolution

to each known creditor or claimant Adopt a Plan of Distribution Pay liabilities and obligations Return assets held with a

condition (e.g. fee simple determinable or right of reverter)

Distribute remaining assets for tax-exempt purposes

File Articles of Dissolution with SoS ($5)

Limited survival for three years

Involuntary Judicial decree Attorney General Secretary of State Limited survival for three years

May apply for reinstatement depending on reason for dissolution

Court may appoint receiver over assets

Nonprofit CorporationsDissolution Clause

• AoI“Upon the dissolution of the Corporation, the Corporation shall, after paying or making provision for the payment of all the liabilities of the Corporation, distribute all of the assets of the Corporation to <name a tax-exempt org.> or to another organization that is a qualified charitable organization under Section 501(c)(3) of the Internal Revenue Code of 1986, as amended, or corresponding section of any future federal code, which will be determined by action of the Corporation and shall require at least two-thirds (2/3) of the vote of <members or board members> present at a meeting at which a quorum is present, which is duly called and held in accordance with the Corporation’s adopted procedures.”

• Bylaws“This Corporation is organized and operated primarily for the purpose of engaging in <insert charitable, religious or educational purpose>. It is to be operated in a way that does not result in the accrual of distributable profits, realization of private gain resulting from payment of compensation in excess of a reasonable allowance for salary or other compensation for services rendered, or realization of any other form of private gain. The Corporation pledges its assets for use in performing its <charitable, religious, or educational> functions. It directs that on discontinuance of the Corporation by dissolution or otherwise, its assets are to be transferred to a charitable, religious, educational or other similar organization that is qualified as a charitable organization under Section 501(c)(3) of the Internal Revenue Code of 1986, as amended.

Bylaws

• Govern the everyday operation of the organization

• Part of the “governing documents”• Subject to the Articles of Incorporation & Texas

Nonprofit Corporation Act• Adopted at the first organizational meeting after

approval of Articles of Incorporation• Not filed with Secretary of State• Will be included (usually) with Form 1023/1024

filed with IRS for federal exemption

Components of Bylaws

• Name, purposes, powers and offices• Members (if applicable)• Board of Directors (if applicable)• Committees• Notices• Officers, Employees and Agents• Contracts, checks, deposits and funds• Miscellaneous• Amendments• Operation and Dissolution

Areas Typically Addressed

• Provisions concerning the Board of Directors

• Provisions concerning members

• Provisions governing committees of the Board

• Voting and procedural requirements

Bylaws: Purposes

• Must be organized and operated exclusively for purposes within appropriate code section (e.g. 501(c)(3) – religious, charitable or educational)

Bylaws: Type of Governance

1. Member led

2. Board of director led

3. Hybrid (some decisions presented to and made by the members and the rest by the directors)

Board of Director Led

• Member Corporation: Board of directors makes all decisions except for “big ticket” items and anything else carved out for members in governing documents

• Nonmember Corporation: governed by board of directors; can have various classes of directors, executive committee, etc.

Member Led

• Member controlled: members control daily operation

• Board of director controlled: simple day to day operations decided by board but most decisions presented to and decided by members

• Keep in mind there may be a single member or there may be classes of members with only one class having voting rights or voting rights as to certain decisions (take care here when forming public charities)

Bylaws: Board of Directors

• General powers• Number (at least 3)• Qualification (e.g. educational or certifications)• How elected/removed• Term of office• Filling of vacancies• Meetings (annual, regular, special), quorum,

manner of acting• Absolute prohibition against loans to directors• Take care to watch for inurement

Bylaws: Officers

• As many as deemed necessary• Owe fiduciary duties• Elected or appointed• Directors may be officers• President and secretary cannot be same• Compensation to be reasonable• Provisions for term, removal, vacancies• Can name officers names other than President,

VP, etc.

Bylaws: Membership

• Member or no member (classes of membership)• Election of members• Qualifications and rights of members (or classes

of members)• Eligibility• Meetings, notice, voting, etc.• Removal/exclusion from membership• Quorum• May restrict voting to certain members

Judicial Intervention into Private Association Affairs

• Traditionally not disposed to interfere with internal management of voluntary association

• Private association has the right to make and enforce its own rules (generally)

• Rationale: by becoming a member, you have subjected yourself to the organization’s power

• Constitutional Issues

Exceptions to Policy of Noninterference

• Where member’s civil or property rights are involved, courts will look at whether organization followed its own rules

• Where fraud, arbitrariness, oppression or bad faith were involved

Constitutional Issues

• Private associations entitled to right of expressive association under First Amendment

• “Forced inclusion of an unwanted person in a group infringes the group’s freedom of expressive association if the presence of that person affects in a significant way the group’s ability to advocate public or private viewpoints.” (Boy Scouts v. Dale (2000))– Freedom of association plainly presupposes a

freedom not to associate

Next Week

• Read pages 93-147 covering governance and state standards of care