What are the Tax Implication of Earned Income for Nonprofits?

Earned Income for Nonprofits Part 2

Welcome to Part 2 of our series on earned income for nonprofits, by Erikca Harney. In Part 1, Ericka covered some of the basic considerations and shared one of her experiences in starting a revenue generating program for a nonprofit.

Part 2 is about considering the tax implications for earned revenue.

What are the Tax Implications of Earned Income for Nonprofits?

Now that you have identified a few ideas for earned income ventures, there are other items to consider.

First, Unrelated Business Income Tax (UBIT). Depending on the earned income strategy you have chosen, you may be subject to taxes on that income. According to the IRS, an activity is an unrelated business (and subject to UBIT) if it meets three requirements:

  1. Is a trade or business
  2. Is regularly carried on, AND
  3. Is not substantially related to the furtherance of the exempt purpose of the organization

So if you chose to do something that is not related to the exempt purpose, you would be taxed on that income. Still, too many nonprofits, taxed income is better than no income. In The Purple Lunchbox example, since we were hiring clients to prepare the meals, the effort was directly related to the exempt purpose of its parent organization, God’s Closet, and so it was not subject to UBIT.

In addition to being aware of  UBIT, you have to decide what business format to use for your social enterprise. Depending on what you are doing, it could be a program within your organization, a separate LLC, separate 501(c)(6), or separate L3C (low-profit limited liability company). Sharing the differences among all of those is a blog unto itself – so that’s where you consult a business attorney (or get one on your board real quick). Each has its benefits and challenges. For The Purple Lunchbox, it remained a program of God’s Closet rather than a separate entity.

Another great example of an earned income strategy that remains a program of an organization is the Girl Scout Cookie Sale. Because of the educational portions of the sale, it’s a program rather than an annual fundraising event.

What to Consider:

After your board and staff narrow down the possibilities to 2-3 great ideas, further questions to ask are:

  1. Strategic alignment: Does this fit with your organization’s strategic future and plans?
  2. Operational feasibility: Do you have the capacity with people, resources, skills?
  3. Marketing Feasibility: Can this work in the market you are targeting? What is necessary for it to be successful?
  4. Financial feasibility: How much will this cost to launch and can you secure the funding? How long will it take to recoup your initial investment and are you willing to put in the time commitment?

Other Great Resources to Guide You on Earned Income for Nonprofits

The IRS has created a great site to help you and your nonprofit organization stay exempt – the site is aptly called: Stay Exempt.  Other websites and tools:

I hope I’ve given you a few questions to consider as you determine whether an earned income strategy might be right for your organization. There is much more around the idea of earned income than what is on the surface. But the effort of digging below the surface could lead to an outcome that is well worth the time, money and research that is put into it.

Discussion Questions:

Who would be your biggest cheerleader for starting a social enterprise at your organization? Who would be the biggest naysayer? What do you do to convince the latter?

Ericka Harney

Ericka Harney, CFRE, GPC, CVA

Ericka Harney, CFRE, GPC, CVA* is the Executive Director of the Accounting & Financial Women’s Alliance (AFWA) and The Foundation of AFWA. Born with an entrepreneurial drive and passion for service, Ericka has over 15 years of professional experience in the nonprofit and business sectors. (*While she knows some stuff, Ericka is also not an attorney nor an accountant/CPA. Please consult legal counsel and financial advice when considering a business venture.)

 Follow Ericka on Twitter: @ErickaHarney, @CauseHead

 

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Ericka Harney, CFRE, GPC, CVA* is the Executive Director of the Accounting & Financial Women’s Alliance (AFWA) and The Foundation of AFWA. Born with an entrepreneurial drive and passion for service, Ericka has over 15 years of professional experience in the nonprofit and business sectors. A business owner since sixth grade, she quickly grew her career in fundraising, grants, and nonprofit management. Ericka is responsible for raising $13 million in funds, serving as a federal grant review chair, providing consulting services to nonprofits, co-founding a social enterprise catering company, and teaching communication and fundraising at the university level. To gain a broad foundation to build on, she pursued higher education in marketing and communication, earning a masters and bachelors in Communication, a bachelors in marketing and is currently pursuing a Ph.D. in Organizational Leadership concentrating on Nonprofit Leadership from Eastern University in St. David’s, PA. She currently serves on the board of directors for Girl Scouts of Kentucky’s Wilderness Road Council, Professional Women’s Forum and God’s Closet, Inc. (*While she knows some stuff, Ericka is also not an attorney nor an accountant/CPA. Please consult legal counsel and financial advice when considering a business venture)

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