You need to know the state and federal procedures regarding how to start a nonprofit in Texas if you plan to start a nonprofit organization in the state. Forming a nonprofit to secure federal and state tax-exempt status can be a complicated and time-consuming process. Therefore, it is advisable to consult with an attorney and an accountant with experience in nonprofits.
Before beginning the filing process, you should:
- Read the Internal Revenue Service (IRS) publication, Tax-Exempt Status for Your Organization (Pub. 557).
- Read the Texas Secretary of State's booklet, Doing Business with the Secretary of State: A Guide for Texas Nonprofit Corporations.
- Determine the name your organization will use, and be sure it is available and doesn't infringe on any trademark.
- Develop a clear purpose for your organization that meets the state and federal requirements for a nonprofit.
- Create Texas nonprofit corporation bylaws that will support your tax-exempt status.
Two other sources of information are:
- The Texas Association of Nonprofit Organizations
- The Texas Community Building with Attorney Resources (Texas CBAR) booklet, Forming a Nonprofit Tax-Exempt Corporation in Texas
Types of Nonprofit Organizations
The term "nonprofit" most often refers to a nonprofit corporation. Although there are other organizational structures that may be used, a nonprofit corporation usually offers the most advantages and will be the primary focus here.
The two main considerations in determining how to structure a nonprofit are limiting liability for the organizers and avoiding taxes. A Texas nonprofit may be organized in one of the following manners:
Unincorporated nonprofit association. This is the nonprofit version of a general partnership. While it may qualify to avoid taxation, it does not protect the organizers from personal liability. This type of organization is not required to register with the Texas Secretary of State. An unincorporated nonprofit association is governed by Chapter 252 of the Texas Business Organizations Code.
Nonprofit corporation. This structure provides both limited liability for organizers and the greatest likelihood of obtaining both state and federal tax exemptions. You may reserve the name of your corporation for 120 days by filing an Application for Reservation or Renewal of Registration of an Entity Name (Form 501) with the Texas Secretary of State.
Nonprofit LLC. Although a Texas limited liability company (LLC) may be organized for any lawful purpose, including a nonprofit purpose, there is no specific provision in the law for a separate nonprofit LLC. While an LLC formed for a nonprofit purpose would provide the members with limited liability, it poses significant problems in obtaining federal tax-exempt status. The position of the IRS is that an LLC may only be granted tax-exempt status if all of the members of the LLC are exempt organizations.
Filing the Certificate of Formation
To form a Texas nonprofit corporation, you need to file a Certificate of Formation – Nonprofit Corporation (Form 202) with the Texas Secretary of State. There is a $25 filing fee.
Your nonprofit may be managed by its members, or by a board of directors. If you have a board, it must have at least three members. There is a place on Form 202 to indicate your choice. Form 202 contains important instructions and other useful information.
Applying for a Federal Employer Identification Number
You will need to obtain an employer identification number (EIN), which is also referred to as a tax identification number. This is done by filing an Application for Employer Identification Number (Form SS-4) with the IRS. This may be done online, by fax, or by mail. An EIN is required, regardless of whether your nonprofit will have employees.
Applying for Federal Tax-Exempt Status
To avoid federal taxes, you will need to apply to the IRS for an exemption under Section 501(c) of the Internal Revenue Code. This is done by filing an Application for Recognition of Exemption (Form 1023) with the IRS, and paying a $600 "user fee." It can take several months for the IRS to process the application. The IRS says it takes several hours to learn how to complete Form 1023, and several more hours to complete it.
If your nonprofit meets certain requirements, you can use Form 1023-EZ, with a $275 user fee. However, Form 1023-EZ may only be filed online, after you set up an online account with pay.gov.
Applying for Texas Tax Exemptions
Texas tax exemptions are obtained from the Texas Comptroller of Public Accounts. There are three types of state taxes that may apply to nonprofit corporations, as well as unincorporated nonprofit associations: franchise tax, sales and use tax, and hotel occupancy tax. To avoid paying these taxes, you need to file an application for exemption.
There are several application forms. If you obtain a federal tax exemption, you will file an Application for Exemption - Federal and All Others (Form AP-204) once your federal exemption is received. If you won't be obtaining a federal exemption, there are separate forms for charitable organizations (Form AP-205), homeowners' associations (Form AP-206), educational organizations (Form AP-207), and religious organizations (Form AP-209).
Running a successful nonprofit in Texas requires more than a big idea; it also requires you to know both the federal and Texas-specific rules and regulations that apply to your organization. To help ensure that your nonprofit will thrive, take the time you need to educate yourself before you begin.