SECTIONS ON THIS PAGE
- Introducing Key Legal and IRS Problems for Tax-Exempt Non-Profits
- Introduction to Non-Profit Issues
- Church Law & Tax: Top 5 Reasons Religious Organizations Go to Court
- Articles from Board Source on Top 10 Legal Problems for Non-Profits
- IRS Requirements for Non-Profit Compliance
- Inurement (Excessive Benefits)
- Misuse of Funds, Restricted/Designated Solicited Funds
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This research material is meant to be informational and educational – NOT legal advice. I am a research writer and blogger, not a lawyer. If you have concerns about potential legal issues related to abusive actions by individuals and/or institutions, see a lawyer who can help you identify and interpret relevant local, state, and federal laws and regulatory statutes.
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Introducing Key Legal and IRS Problems
for Tax-Exempt Non-Profits
Many practices and lapses can cause serious problems for non-profits. These include legal issues (both criminal and civil) and IRS regulatory issues.
Beside the harm these problems can inflict on the people involved, and how they can waste the organization’s resources, some can also potentially put the non-profit’s tax-exempt status at risk. The sections and links on this page explore some of those problems in general, and the IRS website links are key to finding current information to avoid problems in maintaining tax-exempt status.
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Introduction to Non-Profit Issues
This page offers a step-by-step tutorial to help take you to a basic level of understanding on relevant legal and ethical standards regarding key non-profit problems. This base is intended to equip you with a set of “system indicators” for healthy/toxic organizations, so you can evaluate for yourself various allegations of improprieties an institution and its leaders. This material covers general legal/ethical background from three sources:
- Articles on Top 10 Legal Problems of Non-Profits.
- Articles on Top 5 Reasons Religious Organizations Go to Court.
- IRS requirements for non-profit compliance.
If you are involved in a church or ministry non-profit organization yourself, the information in this tutorial could spare you from some potentially disastrous consequences. The problems discussed are ones that harm people. They also waste an organization’s resources. Some can also potentially put the non-profit’s tax-exempt status at risk. So, this information can help your organization to do good plus do no harm, and maintain its tax-exempt status as a corporation created to serve the public interest.
A Few Words on Background …
I have been involved with and studying volunteer organizations and non-profits for my entire adult life. And, given my long-term studies in dynamics of power and abuse, I have a fairly developed framework for analyzing toxic systems, based on investigative research as much as by being a survivor of spiritual abuse myself.
I’m not an MBA or CPA or non-profit lawyer. I just have a lot of experience with organizational systems, most of them non-profits. And this may be one time when my having a broad-based resume of experience is an advantage – not because it gives me “all the answers,” but helps me ask a lot of constructive questions. This is especially helpful because things all too often go wrong, even when we want to do what’s right.
So, I’m often observing situations carefully and aiming to ask the previously unasked question, in order to help an individual or an organization become the best they can be. Also, because I’m not a professional, I have to figure out how to reason through technical materials and translate them into something understandable. I don’t always get it right, but I do try to be conscientious with the sources, and consider both facts and opinions.
Before we get into the heart of the matter, I will mention that I discovered while working at a seminary that the most hated course in M.Div. program was probably Church Administration. Most students in that program went be equipped for pastoring and teaching. So, I’d periodically hear complaints like: “Why do we have to take this horrific class in administrating? It’s not as if you can make such a class fun … but does it have to be that boring? And is it really that relevant?”
I think it get it about why it was despised. Pastors and teachers and missionaries and ministers generally aren’t gifted to administrate. But they certainly should’ve seen it as necessary, all part of “doing things decently and in order.” In fact, as we’ll see shortly in the article on Top 10 Legal Risks Facing Non-Profits, most in paid ministry have to do at some of that boring old administrative stuff. However, if we choose to constitute a congregation as a tax-exempt corporation, we merge an organic Body with organizational business. So, like it or not, a business model requires taking care of business, even if pastors and teachers don’t feel like CEOs.
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Church Law & Tax
Top 5 Reasons Religious Organizations Go to Court
Church Law & Tax keeps track of the top reasons churches end up in court. In recent years, they have posted infographics that show the top five reasons churches go to court each year for that year and the previous years, starting in 2011. (Since it takes time to process these statistics, the new infographic is usually posted mid-year/June, so check their search function to find the most recent edition.) The issues that appear on their infographic covering 2011 through 2016 are as follows:
- Sexual Abuse of a Minor (every year; #1 reason, five of six years).
- Insurance Coverage Disputes (every year).
- Personal Injury (every year).
- Property Disputes (every year).
- Zoning (2011, 2012, 2015, 2016).
- Affordable Care Act (2014 only).
- Religious Freedom (2013 only).
Their annual analysis of data for 2017 is at this post.
Here is an article by Attorney Richard Hammar on The Top 5 Reasons Religious Organizations Went to Court in 2015. This gives from one to three paragraphs of description for each of the top five issues in 2015, plus what percentage of cases each item accounted for:
- Sexual abuse of minors (11.7% of cases).
- Property disputes (10.2% of cases).
- Nonsexual personal injuries (9.5% of cases).
- Zoning (4.9% of cases).
- Insurance coverage disputes (4.5% of cases).
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Articles from Board Source on
Top 10 Legal Problems for Non-Profits
These Board Source articles are older (2010), but I still find the issues relevant as I continue to track problems that occur in non-profits.
In 2010 and 2011, several websites posted versions of an article on “Top 10 Legal Risks Facing Non-Profits,” by Melanie Lockwood Herman, Jeffrey S. Tenenbaum, and Kristen E. Sitchler. As we take a look at two versions of this material, see how you think they fit with the categories of concern from the IRS documents.
Top 10 Legal Risks Article – Original Shorter Version
The shorter version on Venable has a one-paragraph summary of each of the top 10 issues. Here is their list, plus short quotes from a select few.
- Exposures from social media use, misuse and naivete.
- Going rogue: Unhappy staff and volunteers. Bullying, intentional infliction of emotional distress, assault. Quote: “What’s the board’s role? The board should ensure that an easy-to-use internal complaint procedure is in place and that the CEO sets the tone for appropriate workplace behavior. A CEO who could play the boss in The Devil Wears Prada is a liability exposure your nonprofit cannot afford.”
- IRS Form 990 and federal tax-exempt status.
- Misuse of copyrights and trademarks.
- Lobbying and political activity compliance.
- Third-party sexual harassment. Quote: “Many board members may not be aware that the nonprofits they serve are exposed to claims alleging third-party sexual harassment—illegal harassment committed against employees by vendors or volunteers, or illegal harassment committed by the nonprofit’s employees where third parties such as vendors or volunteers are victims.”
- Failure to limit contracting authority and other common mistakes in contracting.
- Lack of synchronicity in board policy and practice. Quote: “From time to time, every board should examine its practices in light of the nonprofit’s overarching mission. Ask, what would our stakeholders say if a light was shined on our governance operations? Getting the nonprofit’s policies and practices “in sync” with its mission is a worthwhile exercise for every organization.”
- Failure to understand and manage conflicts of interest. Quote: “Nonprofits that fail to manage conflicts of interest run the risk of losing public confidence, or worse, becoming the object of a media scandal. Such risks provide ample reason to avoid even the appearance of impropriety by implementing a well-drafted conflict of interest policy and a transparent disclosure process and procedure for managing conflicts.”
- Reliance on the goodwill, good nature, and insurance coverage of others.
Top 10 Legal Risks Article Part II – Longer Notes-and-Tips Version
The longer version from BoardSource has notes and tips from a teaching session on the 10 issues. This article focuses on the seven issues that presenters talked about the most.
- Social media
- Unhappy employees
- IRS Form 990
- Copyrights and trademarks
- Contracting mistakes
- Conflicts of interest
It helped me process the material in these articles to cluster various items into categories of issues. Here’s what I came up with:
- Personnel, sexual harassment, hostile work environment/bullying.
- Partnerships, contracts, good will, insurance, conflicts of interest.
- Financial transparency and accountability, failure to use designated solicited funds for the intended purpose, inurement (excessive benefits to board members and/or employees, and/or those related to or associated with them)
- Media and communications, social media, intellectual property misuse, copyright and trademark misuse.
- Legal and administrative problems such as actions being out of sync with the corporation’s bylaws; conflicts of interest by board members, staff, and volunteers.
Top 10 Legal Risks – Potential Implications
- What did you learn from these articles that could help right now in the church you’re at, or in other ministries or non-profit agencies you work with?
- How do these 10 issues relate with the top issues the IRS is concerned about?
- How do they fit in with the 10 categories of Complaint on IRS Form 13909?
- How do these articles add to our understanding of legal issues for organizations?
- How do these articles add to our understanding about moral/ethical issues for the relational organism of a church or ministry?
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IRS Requirements for Non-Profit Compliance
The following resources address the key issues the IRS is most concerned about, as highlighted in their basic compliance guide for non-profits. These issues include: governance, transparency, conflicts of interest, and inurement (excessive benefits).
IRS General Publications for Non-Profits
Compliance Guide for 501(c)(3) Public Charities. This is an accessible introduction to key issues for non-profits. It contains a section on inurement, and other important IRS administrative requirement issues.
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The IRS Compliance Guide – Basic Prohibitions and Problems
From the Compliance Guide for 501(c)(3) Public Charities, we learned there are three things the IRS prohibits. In order to keep non-profit agencies functioning in the public interest, they cannot:
- Use the non-profit for personal benefit.
- Conduct political campaign intervention.
- Be involved in legislative activities/lobbying.
But the Table of Contents for the Compliance Guide is also instructive on other issues in the scope of organizational processes and procedures of concern to the IRS. The IRS doesn’t dictate exactly how each and every one of these must be done, so there is room for freedom. But these are the issues the IRS may dig deeper into, if they end up conducting an investigation into your non-profit organization. Check it out – it’s only 30 pages and it’s a great overview. There are only a few main sections in the Guide, and here are topics they deal with:
Three key prohibited activities that can jeopardize a public charity’s tax-exempt status – inurement, campaigning, lobbying.
Federal information returns, tax returns, and notices that have to be filed.
Record keeping – why, what kinds, how to do them, and how long to keep them.
Governance procedures and practices – mission statement, organizational documents, governing body, governance and management policies, financial statement and information reporting, and transparency.
Reporting changes to the IRS.
Required disclosures – public inspection of annual returns and exemption applications, sale of free government information, and substantiation and disclosure of charitable contributions.
All things considered, that doesn’t seem like a whole lot to deal with. It’s just that it may take time and practice to get everything fully up to their standards and then sustain them. But that is the responsibility we sign up for when we choose to become a non-profit – especially if we serve on the board of directors or the staff.
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Inurement (Excessive Benefits)
Organizationally speaking, it is a clear problem when the “servants” become both shareholders (participants) and stakeholders (recipients) in the non-profit. Non-profits gain IRS tax-exempt status in part by functioning in the public interest. When that changes to operating for private benefit, it is illegal. It’s called inurement, and it can lead to the IRS revoking the privilege of tax-exempt status.
This important article on Church Exemption from Form I-990 by lawyer Laura Umetsu examines the issue of churches not being required to submit IRS Form I-990 (though other non-profits are), why that has happened, and how this lack of transparency and accountability creates significant potential for private inurement by church leaders. She makes both legal and practical arguments for why churches should no longer be exempt from this IRS regulation, and suggests reasonable and relatively elegant solutions for fixing the underlying legal structures in this complex problem.
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Misuse of Funds, Restricted/Designated Solicited Funds
StartChurch has posted two helpful articles on topics related to funds:
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