Essential Steps and Key Considerations
Creating a private foundation is a significant undertaking that requires careful planning, strategic thinking, legal work and compliance oversight. Private foundations, funded by individuals, families or corporations, differ from public charities and come in two main types: non-operating and operating. Non-operating private foundations primarily focus on making grants to other organizations, while operating foundations actively run their own charitable programs. This article will focus exclusively on non-operating private foundations, outlining key steps and important considerations for their successful establishment and management.
1. Define the Foundation’s Mission and Vision
Before diving into the legal and operational aspects, it’s crucial to clearly define the mission and vision of the foundation. The mission statement should succinctly describe the foundation’s purpose, the specific issues the foundation aims to address and the population the foundation intends to serve. The vision should provide a long-term view of what the foundation hopes to achieve. A well-defined mission and vision will guide the foundation’s activities, funding decisions and overall strategy.
2. Incorporate the Foundation and Draft Bylaws
Incorporating the foundation as a nonprofit corporation is the next step. This process involves filing articles of incorporation with the Secretary of State’s office. The articles of incorporation should include the foundation’s name, purpose, planned duration, planned dissolution information, incorporator’s contact information and board of directors. Incorporating provides the foundation with legal recognition, allows the foundation to enter into contracts and protects the foundation’s founders from personal liability. Requirements for private foundations vary greatly by state, so it’s important to consider the difference when choosing where to incorporate.
The foundation’s bylaws are the internal rules that govern your nonprofit and will serve as your foundation’s operating manual. Bylaws should be drafted carefully to ensure they comply with both state law and IRS regulations. Bylaws typically cover:
- The size and composition of the board of directors
- Procedures for electing and removing directors
- The roles and responsibilities of officers
- The process for holding meetings and voting
- Conflict of interest policies
- Procedures for amending or restating the bylaws
3. Obtain an Employer Identification Number (EIN)
An Employer Identification Number (EIN) is required for tax reporting and banking purposes whether you choose to have employees or not. You can obtain an EIN from the IRS online or by submitting Form SS-4. Note: When obtaining your EIN, beware of scams. Applying for an EIN is always free, despite many third-party sites who will offer this service for a fee.
4. Apply for Federal Tax-Exempt Status
To obtain federal tax-exempt status under Section 501(c)(3) of the Internal Revenue Code, the foundation must file Form 1023 or Form 1023-EZ (if eligible). The full Form 1023 is a comprehensive document that requires detailed information about the foundation’s structure, governance, financial projections and planned activities. If approved, the foundation will be recognized as a tax-exempt entity, meaning it won’t pay federal income tax on income related to its exempt purposes. While the approval process may take anywhere from three to twelve months, the foundation may commence its operations during this period of pending approval. Donors to the foundation may also be eligible for tax deductions.
5. Establish Financial Policies and Procedures
Sound financial management is essential for the foundation’s sustainability and compliance with legal requirements. Establishing financial policies and procedures early on can help ensure transparency and accountability. Key financial policies should include:
- Grantmaking policy
- Procedures for approving and documenting expenses
- Investment policy for managing the foundation’s assets
- Recordkeeping and reporting requirements
- Gift acceptance policy, should you choose to accept donations
6. Comply with Federal and State Registration Requirements
Maintaining tax-exempt status and complying with legal requirements is an ongoing responsibility. The foundation must file an annual Form 990-PF with the IRS, which provides detailed information about its finances, operations and grantmaking activities. In addition to federal requirements, the foundation may need to register with the state in which it operates, particularly if it plans to solicit donations. Many states require charitable organizations to register with the state’s attorney general or another regulatory body. This registration process typically involves filing an annual report and financial statements.
