In this video, you get answers to these questions:

  • What are the pros and cons of a 501(c)(3)nonprofit organization?
  • What is a 501(c)(4) social welfare organization and what are its pros and cons?
  • When are 501(c)(4)s and 501(c)(3)s a good idea? What about business entities?
  • What are the pros and cons of a Public Benefit Corp?
  • What might a public benefit be?
  • What are the pros and cons of a B Corp?
  • What are the pros and cons of a traditional Corporation?
  • When will you be taxed as a C Corp or S Corp?
  • What are the pros of being a purpose-driven LLC?
  • What are the differences between an LLC and a Public Benefit Corp?
  • What are some examples?

Video Transcript

Which type of legal entity is best for your purpose-driven, mission-based organization? A Public Benefit Corporation, 501(c)(3), 501(c)(4), an LLC, a traditional corporation? And what are the pros and cons of those entities? Those are the questions we’re talking about today.

Imagine you want to make a difference in the world. In order to open a bank account and start receiving money and spending money, you need some sort of legal entity, unless you want to use your own Social Security number and have it be a sole proprietorship. So when you need to choose which legal entity, you have a number of options. You might be thinking a traditional corporation doesn’t feel quite right, but maybe this idea isn’t exactly a nonprofit corporation. Well, if you’re somewhere in between there, this video is for you, and my hope is that I’ll help you narrow down your options and figure out the types of questions that you should raise with an attorney helping you set up the entity that’s right for you.

Who am I? I’m Aaron Hall, I’m a business attorney. I represent business owners in Minnesota. I’ve done a number of previous videos on topics like trademark, business owner disputes, contracts, and employment law, but today, we’re talking about figuring out which legal entity is right when you have a purpose-driven organization.

All right, what are the pros and cons of a Public Benefit Corporation, nonprofit 501(c)(3), 501(c)(4), LLC, and traditional corporation, for running a purpose-based business? Well, let’s start with the fact that a 501(c)(3) is on one end of the spectrum, and then you’ve got an LLC on the other end of the spectrum, so we’ll go in order here. What are the pros and cons of a 501(c)(3) nonprofit organization? Well, one important pro or advantage is a 501(c)(3) nonprofit organization can receive donations from individuals who then get a charitable tax deduction on their income taxes. So for example, if an individual gives $1,000 to a 501(c)(3) nonprofit organization, they can use that receipt to reduce their tax liability on their personal income tax return. Also, a 501(c)(3) can receive donations from other 501(c)(3)s.

So that may be a significant benefit, but there are some cons or some disadvantages. One is that a nonprofit comes with significant government oversight. There are forms that have to be filed each year, and you don’t own the assets of the nonprofit, you are merely operating it for the public benefit, and so the attorney general in your state is going to be empowered by law to make sure that you are using those assets and those funds for the stated purpose of the nonprofit. That’s very different from an LLC, for example, where you can use the assets for generating a profit, which then benefits you. So that’s a 501(c)(3) nonprofit organization.

A similar entity is a 501(c)(4) social welfare organization. So a 501(c)(4) is similar in that it is a tax-exempt entity, but people do not get a charitable tax deduction when they donate to a 501(c)(4). Also, a 501(c)(4) can receive donations from other places, but 501(c)(3)s cannot donate to them. There’s significant government oversight to a 501(c)(4). Also, you don’t own the assets of a 501(c)(4). This is an entity that you are operating for the benefit of a social purpose, or for the benefit of social welfare. You’re not the owner. You are not permitted to take profit distributions like you could in an LLC or a corporation.

Why would you want to do a 501(c)(4)? The main benefit is it’s somewhat like a 501(c)(3), but you can do public lobbying, lobbying to change laws. But you might say, “Well, yeah, I want to change laws, but what is lobbying per se?” Lobbying has three components to it. Lobbying has occurred if your entity first publicly supports or opposes a particular position, second, on specific laws, whether state, federal, or city, and third, there’s a call to action associated with those laws. Generally speaking, if those three components are not present, there isn’t actual lobbying.

So for example, let’s say you are saying, “Hey, we want to help the environment, and we encourage you to support laws that help the environment.” Well, you haven’t had a call to action regarding specific legislation, so that’s not lobbying, as far as the definition required for purposes of this legal analysis. What’s the point there? 501(c)(4) is going to be great for a public advocacy or issue advocacy organization, but for most other organizations, it’s not going to be appropriate. 501(c)(3) can do a little lobbying, but generally speaking, it should be less than 5% of its budget, and that’s just a ballpark.

All right, so that covers 501(c)(3) and 501(c)(4). 501(c)(3) is generally your hospitals, your nonprofit schools, your churches, your other human rights charitable organizations, where you’re basically fighting poverty or helping with education, or other important benefits for the public. 501(c)(4) is lobbying and advocacy, but again, the big difference there is they can’t receive money from 501(c)(3)s, and people who donate to them don’t get a charitable tax deduction.

All right, so now we’re going to move to kind of a different category, these are going to be business entities. These are entities where you have shareholders or owners, and it’s generally for a profit. The next entity I’m going to talk about is a Public Benefit Corporation. So specifically, what are the pros and cons of a Public Benefit Corporation? One con is that you have to do annual reporting regarding your benefit. By the way, another con is this isn’t available in many states. A Public Benefit Corporation is available in Minnesota, but not every state throughout the United States.

Another con is people or individuals who donate to your business, your Public Benefit Corporation, are not going to get a charitable tax deduction, because you’re not a 501(c)(3) nonprofit. Now, if other businesses spend money to sponsor an effort, they can deduct that as a business expense, if they’re getting some publicity or business benefit out of that.

What’s a pro for a Public Benefit Corporation? Well, it’s very much like an LLC or a corporation, but it has a stated public benefit component as part of its name, and so there can be some positive public relations benefit, publicity. Also, it has all the other benefits of a corporation or LLC. I should say most of the other benefits. It can generate a profit, you have control over it, you can make business decisions. You’re really running a Public Benefit Corporation like an LLC or a corporation, but it’s very clear you are doing so so that there at least can be a partial benefit to the public.

What might that benefit be? Well, it could be something like we’re going to try to advocate for a certain political issue, or environmental issue, or educational issue, or human rights issue. It can be pro or con. Now, can it get into lobbying? It can do as much lobbying as a business can do. By the way, lobbying is generally regulated by each state. Often you have to register if you’re going to do substantial investment or time in lobbying, and so if you’re going to actually get involved in lobbying or supporting campaigns, that’s where you definitely need to talk to an attorney who’s familiar with using corporate or business money for legislative lobbying, or influencing legislators and legislation, or supporting candidates for public office.

All right, what are the pros and cons of a B Corp? A lot of times, people confuse B Corp with a public benefit corporation. That’s because they sound similar, and B Corp actually stands for Benefit Corp, but B Corp is actually a trademarked term from B Labs. B Labs is an organization that will certify businesses. So if you are a business that is working for a public benefit of some type, you can go through a certification process with B Labs, and they will give you a B Corp certification. So there’s some costs and there’s some time involved, but then you have the benefit of being able to say, “We are certified as a B Corp by B Labs.”

All right, what are the pros and cons of a traditional corporation? Well, a traditional corporation can still advertise itself as working for a cause that is important to consumers. Maybe that’s like Patagonia. Patagonia has taken a strong stand for the environment and for sustainable products, they try to use natural products, and they’re looking out for the environment, so that’s been a big part of Patagonia’s marketing. They don’t have to be a nonprofit or a Public Benefit Corporation or a B Corp in order to have a strong PR or publicity message or communicate what they are doing to help a particular cause that resonates with consumers. So you can still be a corporation and do all that without being a public benefit corporation, for example.

What’s the problem with a traditional corporation? Well, you don’t have that Public Benefit Corporation moniker or logo or slogan that you can use. Also, this raises questions about whether you’re taxed as a C Corporation or an S Corporation. Now, a traditional corporation can be taxed as a C Corp or S Corp. Likewise, a Public Benefit Corporation can be taxed as a C Corp or S Corp. A C Corporation is taxed twice, once at the company level, once at the shareholder level, but there might be some additional tax deductions a C Corp qualifies for. Most small businesses, or businesses that are not on a public stock exchange, are going to be S Corporations. What that means is you’re a corporation, maybe even a Public Benefit Corporation, but you are electing with the IRS to be taxed under subchapter S, so we call it an S Corporation. You’re really a traditional corporation with an S election.

Alright, let’s talk about LLCs. What are the pros and cons of being an LLC? Now again, we’re talking about a mission or purpose-based organization. You want to be a company that’s out there for a particular cause, or making a difference in the world. Can an LLC work for you? Absolutely. LLC is one of the most flexible entity types. An LLC can be taxed as a sole proprietorship, if there’s one owner, partnership, if there’s two owners, or either way, can be taxed as an S Corp or a Corp. So an LLC has the flexibility of all the different taxation types. An LLC can also have a lot of flexibility in its contracts among its owners.

An LLC can publicize that it is working for a particular cause or a particular issue. Just like a Public Benefit Corporation, an LLC can publicize itself for a cause. The difference there is the LLC simply can’t say it’s a Public Benefit Corporation, and the LLC doesn’t have to file an annual report stating what it’s doing towards that cause that a Public Benefit Corporation would have.

Alright, so let’s summarize here. We’ve got on one end of the spectrum a public… Or a 501(c)(3) nonprofit organization. On the other end of the spectrum, we have an LLC, and then there are a number of options within there. I think there’s a big dividing line between 501(c)(3) and 501(c)(4), which are not owned by individuals, it’s for… It’s essentially owned by the public. And then you have corporation, Public Benefit Corporation, and LLC on the other end, which are all owned by individuals, and thus don’t have that same degree of government control or oversight as those public entities would have.

Alright, so let’s talk about a few examples here. Imagine you have an organization that has events, and you generate virtually all of your money by events. You sell tickets, or you have registration fees. Well, you might think, “Hey, let’s have a nonprofit,” but there would be a strong argument to either have a Public Benefit Corporation or just an LLC, because you have money being paid in. The benefit of a nonprofit, a 501(c)(3) nonprofit, is that people get charitable tax deductions. If your entity is not relying on charitable tax deductions, then why have all that government oversight of a non-profit? An LLC is going to be better, and you have a lot of flexibility in how you use that money. You could pay yourself profit distributions, or you could roll that money back into working for a cause, but you don’t have the government looking over your shoulder.

Alright, what about a nonprofit… Or I’m sorry, an entity that wants to provide services to churches? Well, this could be a nonprofit, but more likely it’d be an LLC, or maybe a Public Benefit Corporation if you want that advantage of being able to say “We are a Public Benefit Corporation.” I personally would look seriously at an LLC. And you might say, “What about an S Corporation?” That goes to the question of LLC versus S Corporation, which is more a tax question, and dealing with payroll tax or self-employment tax. I’ve got another video on that that explains the differences between an S Corporation and an LLC from that tax perspective.

Alright, what if you have an organization that’s really donation-based, so a lot of people donate to your cause, and then you do some sort of work for that cause? Let’s say some missionaries, so faith-based missionaries. A lot of people donate money to the missionaries, maybe some churches even want to donate. That clearly needs to be a 501(c)(3), because the individuals are going to want a charitable tax deduction, and the churches can’t donate to you unless you are a 501(c)(3). In fact, a lot of missionaries just operate underneath a church or an existing 501(c)(3), which by the way, is a great option. There are a lot of umbrella organizations out there where if you want to just be a solo 501(c)(3) and do some sort of mission work, or be a startup pastor, a church plant, there are a lot of organizations that you can work under rather than setting up your own 501(c)(3).

Alright, let’s say you want to do a lot of lobbying, you’re an issue advocacy organization, NRA, for example, National Rifle Association. Well in that case, you’re going to want to have a 501(c)(4), because you are actively trying to drive legislation.

Alright. If I were in your shoes, what would I do? I would take this video to identify some questions you have for an attorney or a CPA, and then identify an attorney or CPA who’s experienced with some of these different entity types. Again, a Public Benefit Corporation isn’t available in every state, but if you’re working with an attorney who deals with LLCs, corporations, and nonprofits, often they’ll have experience in some of these hybrid or alternative entity types as well.

If you have found this helpful, and you’d like other educational videos like this, feel free to subscribe to this channel. If you have any questions, you’re welcome to put those in the comments below, I use those questions to generate new video concepts. And by the way, a little disclaimer, I’m not licensed in most states, I’m licensed in Minnesota. I don’t know your situation. You really are going to be served best by an attorney who takes the time to understand your situation and knows the laws in your jurisdiction. What I’ve talked about today are educational videos, please treat it that way, and then use that to identify questions to go get legal advice in your area. This isn’t legal advice, it’s general educational information. Again, I’m Aaron Hall, an attorney serving business owners in Minneapolis. Thanks for joining this video today.