Dear Nonprofiteer, If a for-profit launches a nonprofit, whose name is it, anyway?

Dear Nonprofiteer,

Two individuals who own a small, for-profit corporation that does development work under contracts with the U.S. State Department and USAID are considering whether to establish a related nonprofit non-governmental organization (NFP or NGO).

Let’s call their for-profit business Development Providers Company. Development Providers Co. has been around for about 10 years and has a good reputation. The founders believe they have identified a need in the not-for-profit sector for a new organization to do innovative development research and similar work under federal grants (as opposed to contracts). If it’s permitted and not a bad idea, they want people to know that the NFP will be able to build on some of the expertise developed by the founders and their for-profit company. Thus, they would like to give the proposed NFP a name like “Development Providers Research Center.”

The founding contributors to the new NFP would be the two Development Providers Co. founders, but the goal is for the NFP to be a public charity, not a private foundation. The goal is for the NFP to get its funding directly from U.S government grants, World Bank grants, or from universities that get grants.

The initial work given to the NFP would likely be from Development Providers Co., so the NFP can get some past performance experience before and while it applies for U.S. grants.

The NFP will be a non-stock, non-member organization run by a 5-person Board of Directors. The board will be 2 founders + 3 independent directors.

First things first, would giving the organization a name that included the name of a for-profit company be a red flag for the IRS and possibly hinder the IRS’s approval of the NFP's application for 501c3 status? Any thoughts on this would be much appreciated.

Sincerely, It's Two, Two, Two Mints in One

Dear Mints:

In the scenario you've outlined, a similarity of names is the least of your problems. The real red flag for the IRS (as well as for any grantors, individual or institutional) is the relationship between Development Providers Co. and the new NFP. If the work of the two groups is so similar that Development Providers Co. can simply pass on some of its work to the NFP, then the NFP looks like nothing more than a tax dodge. The founders appear to be trying to avoid paying taxes on what they've been doing all along. You've put your finger on it when you say, "If it's permitted and not a bad idea . . ." It probably isn't permitted, and it's a terrible idea.

The Nonprofiteer has recent experience with an organization whose for-profit and nonprofit sides became tangled together. What became clear in that situation is that it's virtually impossible for the directors of a nonprofit to fulfill their duty of loyalty to the agency when some of those directors also have a direct pecuniary stake in the type of work that the nonprofit does. There's simply too great a temptation to take profitable individual advantage of opportunities to which the nonprofit is entitled. This is true even (perhaps especially) when the for-profit company predates the NFP. The U.S. Government, whatever its failings, wasn't born last night, and before it gives a grant to a nonprofit it will want to be sure that the agency's Board of Directors isn't full of people in a position to profit from that grant.

The Nonprofiteer understands that the founders believe themselves to be sacrificing rather than maximizing their profits by peeling off a portion of their money-making work. But the road to Hell is paved with misconceptions of this sort. From your description, it's clear the two organizations are related closely enough that in fairly short order the nonprofit's independent directors will be saying, "Why did Development Providers Co. apply for that contract when Development Providers Research could have secured a grant to do the same thing?" Especially given that the actual work will be done by the two founders, it will be difficult-to-impossible to decide which organization's needs have priority. The only basis for doing so would be the personal convenience of the founders, and while that's fine for business it won't pass muster in the nonprofit world.

Could the founders establish Development Providers Research and then make the work of Development Providers Co. a revenue-generating subsidiary like other charities' thrift shops? Sure, but then the NFP would owe Unrelated Business Income Taxes (UBITs). Moreover, the salaries paid in a revenue-generating subsidiary of a nonprofit are expected to be in line with the salaries of its nonprofit employees, meaning that the founders couldn't expect to be paid what they've been paid in the past for their expertise.

In short, you've outlined an almost perfect conflict of interest, between the founders in their roles as executives of Development Providers Co. and the founders in their roles as NFP Board members. What's good for the not-for-profit is low-cost services from Development Providers Co., while what's good for the Co. is high-margin contracts. The twain do not meet.

Thus, regardless of the name, this is an either-or proposition: run a for-profit business in fostering international development, or run a nonprofit doing closely related work. The Nonprofiteer understands the temptation to have one hand wash the other, but she predicts in this case you'll end up with dirty hands all 'round.

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Comments

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  • Perhaps a L3C or B corp would be applicable?

  • As you may know from some earlier pieces, I regard L3Cs as a solution in search of a problem. Certainly a closely-held corporation would be an appropriate form for this new business, as would a sole proprietorship; but in either case the amount of contribution to the public good would be a matter of the owner's discretion rather than the requirements of the law, as with nonprofits.

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    Nonprofiteer

    The Nonprofiteer is Kelly Kleiman, principal of NFP Consulting, which provides Board development, strategic planning and fund-raising services to charities and philanthropies. Through her consulting practice and in her guise as The Nonprofiteer, Kelly has spent the past 25-plus years helping small and mid-sized nonprofits organize themselves better and raise more money. These days she focuses especially on helping them use high-skill volunteers. Kelly is also a lawyer and freelance journalist whose reportage and essays have appeared in the New York Times, Wall Street Journal, Washington Post, Christian Science Monitor and other dailies; in magazines including In These Times and Chicago Philanthropy; in the alternative press; on websites including the Huffington Post; and on the radio, including the BBC and WBEZ Chicago Public Radio. She and her fellow "Dueling Critic" Jonathan Abarbanel present a weekly podcast of their reviews of Chicago theater at DuelingCritics.net. Earlier in her career she was dean of admissions of IIT Chicago-Kent College of Law and Executive Director of the Chicago Children’s Choir, and practiced real estate and zoning law with the firm of Rudnick &amp; Wolfe. Kelly holds undergraduate and law degrees from the University of Chicago. She was a founding Board member of the Association of Consultants to Nonprofits and also served for 5 years on the Board of the Association for Women Journalists–Chicago. She can be reached ("Dear Nonprofiteer . . .") at KellyNFP@yahoo.com.

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