Defining Terms:  Nonprofit, not-for-profit, tax-exempt, and charity. 

One of the frequent complaints against lawyers is that they overly complicate issues by using many different words that mean the same thing. In this blog, we will parse out four words often used interchangeably but may have somewhat different meanings depending on the place and discussion in which they are used.

Rather than blaming all lawyers for this confusion, a more appropriate target might be our founding fathers. In the United States, no one jurisdiction regulates charitable organizations. There is no single body of law where all the rules that govern these agencies are carefully organized, presented for easy access, and, for the purposes at hand, a place where all terms are clearly defined. Instead, there are 51 primary jurisdictions in the United States, including each of the 50 states and The US Federal Government. Those overlapping laws can include different definitions for some basic terms.

Non-profit agencies are incorporated under the laws of a specific state.

To simplify the analysis, we need to look at a charitable organization from two perspectives – the laws that govern its organizational structure and the laws that govern its tax status.  Most charities are organized as corporations under the laws of a specific state, so the laws of that state define their basic structure.  With incorporation will come operational and regulatory requirements, and, in most states, charities will be subject to the oversight of the state’s Attorney General.

Tax-exempt status is granted by the Federal Government.

While it is a state that gives life to the corporation, it is the federal government that grants the corporation the brass ring of tax-exempt status. Why is tax-exempt status important for charities? First, having tax-exempt status means the corporation will not have to pay federal corporate taxes. Yearend “surpluses” increase the corporation’s net assets instead of being “profit,” subject to taxation.  Equally important, being tax-exempt can also mean that contributions made to the organization are deductible on an individual’s personal income tax return. [What it takes to be a tax-exempt corporation (or what is referred to as a “public charity” under section 501(c)3 of the Internal Revenue Code) is a complex series of organizational structural requirements and the promise of certain behavior, all of which will be dealt with in a future blog.]

When the phrase “tax-exempt” is used, it refers to an organization that has undergone the IRS exemption application process and been granted tax-exempt status.  There are approximately 1.5 million 501(c)3 tax-exempt entities in the United States today.

But don’t states also grant tax exemptions?    Yes, while federal tax exemption allows corporations to avoid federal corporate taxes and make contributions tax-deductible, many states also tax the income of corporations, impose sales taxes and regulate real estate taxes across their state.  After receiving an exemption from the IRS, agencies will go through another application process to gain exemption from state taxation.  The scope of state exemptions is subject to the vagaries of state law.  This can lead to different tax treatments. For example, in some states, tax-exempt hospitals must pay real property taxes, while in other states, all hospitals, tax-exempt or investor-owned, don’t.

Nonprofit versus Not-for-profit, the same or different? 

Some commentators contrast the two seemingly similar labels – nonprofit and not-for-profit- suggesting that “nonprofit” connotes a fully exempt, 501(c)3-certified agency. In contrast, “not-for-profit” refers to something less, such as fraternal organizations, trade groups or lobbying organizations.    More commonly, these two terms are used interchangeably.  Adding to the confusion is how these organizations are referred to in their state of incorporation.  In New York State, for example, a majority of charities are formed under the New York Not-for-Profit Corporation law.  Arguably, a charity would be both a nonprofit and a not-for-profit in New York.  To avoid any confusion, the practice in New York is to refer both to the organizing statute and the federal tax status, so the mantra becomes “Acme for the Good, a New York Not-for-Profit Corporation, exempt from taxes under Section 501(c)3 of the Internal Revenue Code.”

In The Non-Profit Governance Blog, we intend to speak to those directors who serve on boards of 501(c)3 exempt organizations, more commonly called charities, and as a general rule, we will call them nonprofits.

So are all Charities, Nonprofits, and vice versa?

“Charities” is a more generic term that refers to a broad range of agencies and entities that seek to promote the public good and benefit society or specific groups of people in need.  Nonprofit organizations would be a subset of all charities that would also include educational, religious, and philanthropic endeavors, which may or may not have some preferred tax status or even some formal corporate form.

Bonus Word:  Eleemosynary 

A phrase sometimes intoned by lawyers, often with a decidedly British accent and an air of superiority, is the term eleemosynary institution. (Warning – Don’t try this one unless you have a lot of practice and have checked the pronunciation online.)  Simply stated, it means a charity, an organization devoted to charitable purposes.  Its old English roots and Latin derivation go back to the concept of almsgiving – supporting the poor and destitute.  Eleemosynary institutions ran poor houses, orphanages and charnel houses.  Today, its meaning is a bit broader, and its use is considered more of an affectation.

So Let’s Review:

Charity – a general term that refers to a wide range of philanthropic organizations serving people in need or promoting some public good.

Tax-exempt – denotes an organization that has been granted exemption from taxation and can receive contributions that are tax-deductible for the donor.

Nonprofit and not-for-profit – often used interchangeably but sometimes distinguished from each other, with nonprofit referring to a tax-exempt charity and not-for-profit referring to something else. 

Eleemosynary organization – forget about it…

And don’t forget – Community Benefit Organization. As discussed in our Blog on ESG-C, some people promote the idea that all these terms should be abandoned in favor of the term “community benefit organization.”