Can a Nonprofit Have a For-Profit Division? Key Facts and Compliance Tips

What is a for-profit division of a nonprofit?

A for-profit division of a nonprofit refers to a business entity that generates revenue for a nonprofit organization through activities unrelated to its tax-exempt purpose. Rather than operating these activities directly within the nonprofit, organizations typically create a separate legal entity—such as a wholly owned subsidiary corporation—to conduct for-profit business while maintaining clear separation between charitable and commercial operations. This structure allows nonprofits to diversify their funding sources without jeopardizing their tax-exempt status.

Nonprofit vs. for-profit: Key differences

To fully understand the separation of a nonprofit from its for-profit subsidiary, it helps to understand how not-for-profit organizations and for-profit organizations differ in the eyes of the IRS. The fundamental distinction between nonprofit and for-profit organizations lies in their core purpose and how they handle revenue.

Nonprofit organizations

• Primary purpose is charitable, educational, or public benefit
• Cannot distribute profits to individuals or shareholders
• Qualify for tax-exempt status under IRC 501(c)(3)
• Must reinvest excess revenue into their mission
• Subject to public benefit requirements 

For-profit organizations

• Primary purpose is generating profit for owners/shareholders
• Can distribute profits as dividends or owner draws
• Pay corporate income taxes on profits
• Have flexibility in business operations and compensation
• Answer primarily to shareholders or owners

Why would a nonprofit form a for-profit division?

Nonprofits increasingly explore for-profit divisions to address funding challenges and expand their impact beyond traditional charitable activities. Here’s a closer look at the advantages of forming a for-profit subsidiary.

Financial sustainability

• Generates unrestricted revenue for operations
• Reduces dependence on donations and grants
• Creates predictable income streams
• Builds financial reserves for economic downturns

Mission advancement

• Funds programs that donors might not support
• Scales successful programs through earned revenue
• Attracts impact investors and social entrepreneurs
• Demonstrates organizational innovation and adaptability

Operational flexibility

• Offers market-rate compensation to attract talent
• Allows equity participation for key employees
• Enables joint ventures with commercial partners
• Provides structure for fee-based services

IRS regulations and compliance essentials for nonprofit for-profit organizations

The IRS maintains strict oversight of nonprofit commercial activities to ensure tax-exempt organizations primarily serve public rather than private interests. Understanding and following these regulations is crucial to avoid penalties, excise taxes, or even revocation of your nonprofits tax-exempt status.

The key is proper structuring—typically through a separate C corporation or LLC subsidiary—and complete legal, financial, and operational separation between the two entities, including:

• Separate incorporation documents and EINs (employer identification number)
• Distinct bank accounts and financial records
• Separate offices and operations, when feasible
• Market-rate transactions between entities
• Written agreements for all inter-entity dealings
• No subsidization of for-profit by nonprofit
• Clear allocation of shared expenses
• Separate employees and payroll systems
• Distinct branding and marketing materials
• Independent decision-making processes
• Separate insurance policies and contracts
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How to create a for-profit division under a nonprofit

Creating a for-profit subsidiary requires careful planning and execution to ensure legal compliance and operational success. This step-by-step process guides nonprofits through establishing a properly structured commercial entity while protecting their tax-exempt status.

Step 1: Assess your organization’s mission fit and feasibility

As you’re deciding on a for-profit division of your nonprofit organization, you’ll need to evaluate how your commercial activities will relate to the nonprofit’s charitable purpose and identify potential mission drift concerns. You should also consider how your charity’s stakeholders—including donors, beneficiaries, and the larger community—will react to the new arm of the business and whether the intended business activities could potentially damage the reputation of your nonprofit.

And, of course, you’ll want to consider the full financial and legal implications of this new for-profit business venture, including what the start-up costs and ongoing expenses will be, what revenue can be expected, the possible legal and compliance risks, and whether there is adequate demand for your for-profit activities.

If you’re unsure whether your intended for-profit subsidiary puts you at legal risk, consult an attorney for guidance.

Step 2: Choose a legal structure

The most common business structures for for-profit divisions of nonprofit organizations are C corporations and limited liability companies (LLCs). C-corporations are the most common legal structure as they provide clear separation and do not carry the same pass-through taxation complications as LLCs. However, they’re also less flexible than LLCs and may be subject to more complex governance.

Step 3: Submit all required legal paperwork

Setting up a for-profit subsidiary of a nonprofit is similar to setting up any other business venture and you’ll need to submit the required paperwork required of your new business structure. This can include things like articles of incorporation or organization, EINs, business licenses and permits, and professional licenses.

Step 4: Set up separate governance and accounting

As touched upon previously, maintaining financial separation between a nonprofit and its for-profit division is a critical step in ensuring your nonprofit maintains its tax-exempt status. But you’ll also want to consider who you’re putting in charge of your for-profit subsidiary and whether there are any potential conflicts of interest amongst members of the board of directors and other stakeholders. 

While some overlap in board members is allowed within a for-profit company and its nonprofit arm, appointing a majority of independent directors is preferred, as is maintaining separate meetings and schedules between the boards.

Step 5: Monitor ongoing compliance and file annual reports

It’s important to regularly review your for-profit organization’s activities to ensure there is adequate financial, legal, and organizational separation between it and your nonprofit parent organization. If the IRS suspects the nonprofit is directly controlling or benefiting from the activities of the for-profit company, you risk having your tax-exempt status revoked.

Because for-profit divisions of non-profits can be heavily scrutinized, it’s more important than ever to ensure your business complies with all legal requirements, which includes filing an annual report to avoid penalties and stay in good standing with the state.

Nonprofit for-profit division FAQs

Can a for-profit create a nonprofit arm?

Absolutely. Many for-profit organizations establish nonprofit subsidiaries or affiliated foundations to pursue charitable activities. Examples include corporate foundations like the Walmart Foundation or Google.org. The for-profit parent can receive tax deductions for contributions, while the nonprofit must operate independently with its own board and charitable purpose.

What are the tax implications?

For-profit divisions owned by nonprofit organizations must pay regular corporate income taxes on their profits. Additionally, when profits are distributed to the nonprofit parent as dividends, the nonprofit may owe unrelated business income tax (UBIT). However, if the for-profit activities are substantially related to the nonprofit's exempt purpose, some income may avoid UBIT.

How does this affect donations and grants?

Operating a for-profit division typically doesn't directly impact charitable donations, but donor perception matters. Some foundations restrict grants to organizations with limited commercial activity. Best practice includes transparent communication about how commercial revenue supports the charitable mission and maintaining clear separation in fundraising materials.

What happens if the for-profit division loses money?

Losses in a for-profit subsidiary generally cannot offset the nonprofit's other income for tax purposes. The nonprofit's investment is at risk, but proper corporate structure limits liability. Sustained losses may trigger board scrutiny and require strategic reassessment. Document business purpose and charitable intent even during unprofitable periods.

Can staff work for both entities?

Yes, employees can work for both the nonprofit and for-profit subsidiary, but careful documentation is essential. Time must be accurately tracked and allocated between entities. Compensation should be charged to the appropriate organization. Shared employees need clear reporting relationships and should understand confidentiality obligations to both entities.

How LegalZoom can help

Starting and managing a for-profit division of a nonprofit organization requires navigating complex legal and tax requirements. LegalZoom's comprehensive business formation services help both nonprofits and for-profit entities establish proper legal structures while maintaining compliance. Our experienced attorneys can guide you through entity formation, governance documentation, and ongoing compliance needs.

Our services include:

• Nonprofit formation with 501(c)(3) application support
• Business entity creation for C-corporations and LLCs
• Registered agent services in all 50 states
• Operating agreements and bylaws customized for your structure
• Ongoing compliance calendar to maintain good standing
• Business license research for your specific industry
• Attorney consultations for complex structuring questions

Belle Wong, J.D. contributed to this article.