Fiscal Sponsorship vs. Starting Your Own Nonprofit in the USA

Have a charitable idea but unsure how to get it off the ground?   

There are two common routes to launching a charitable project in the U.S., each with unique benefits and challenges that we explore in this article: 

1. Fiscal Sponsorship: Faster, cheaper, less administrative work, but also less control over your funding and operational procedures and processes. This route is often most suitable for new, low / underfunded, or short-term projects that are gaining traction.

2. Independent Non-profit: Full control but significant administrative and financial commitments with many legal and regulatory requirements and potential pitfalls. 

   
   

Ultimately, the decision on the right route depends on the project founder’s opinion on the costs and benefits, especially regarding the time, resources, and commitment to administration.

Below we will explore the benefits, risks, and possible challenges of each. 

1. Fiscal Sponsorship

Fiscal sponsorship is an arrangement where an existing nonprofit (the fiscal sponsor) offers its tax-exempt status to a project that aligns with its mission. This allows the project to operate under the sponsor’s 501(c)(3) status, enabling tax-deductible donations and potentially simplifying operations. Here are key benefits and risks:

Benefits:

1. Immediate Tax-Exempt Status: Projects can accept donations as tax-deductible under the sponsor’s 501(c)(3) status. 

2. Proof of concept: Project can test out their business model and fundraising value-add in a low-stakes structure.

3. Physical Address: Projects can usually use the physical location to have checks and mail sent to without having to find and pay a separate vendor. 

4. Automatic Compliance: Non-profits have significant compliance requirements that they must undertake routinely that would be handled by the sponsor, not the project. 

5. Administrative Support: Sponsors often handle accounting, insurance, legal issues, and grant management, freeing up time and resources for the project’s goals.

6. Lower Startup Costs: There are no fees for incorporation, IRS applications, and the sponsor may handle financial and legal tasks.

7. Exposure / Fundraising: Choosing a sponsor that is mission-aligned can open up your project to more funders and add legitimacy to your charitable purposes. 

Risks and Possible Challenges:

1. Subject to Due Diligence. Some organizations will require sponsored projects to go through significant vetting. On the flip side, you as the project should also do due diligence on the potential sponsor to ensure they are in fact capable of the support needed and in compliance with laws and regulations.  

2. Less Control: The sponsor holds control over funds and can impose guidelines or limitations. For organizations seeking to fund international projects, this may be too limiting. 

3. Fees: Many sponsors charge an administrative fee, typically a percentage of donations or project revenue.

4. Alignment with Sponsor’s Mission: Projects must align with the sponsor’s goals, which could limit the project’s scope or direction.

5. Compliance with Organizational Policies / Procedures: the fiscal sponsor’s rules and policies may influence your project’s operation, branding, or spending. The sponsor might have specific guidelines for managing funds, reporting activities, or even approving new donors, which can limit your flexibility. This can be frustrating if your vision doesn’t fully align with their policies or if you need more freedom to adapt quickly.

Fiscal Sponsorship Agreement:

If fiscal sponsorship is the right path for your idea, then a fiscal sponsorship agreement should be put in place. 

A fiscal sponsorship agreement protects both the sponsor and the project by clearly defining how funds will be managed, the level of control the sponsor has, and the project’s obligations in complying with the sponsor’s policies. A fiscal sponsorship agreement is essential in defining the relationship between a fiscal sponsor and the sponsored project. It can reduce risks and ensures both parties are on the same page. It outlines the expectations, responsibilities, and boundaries for both parties, ensuring transparency and minimizing misunderstandings. 

Key parts of a fiscal sponsorship agreement typically include:

1. Scope of Sponsorship: Describes the project’s activities, goals, and intended operations, and ensures they align with the sponsor’s mission and expectation with a certain level of specificity. For example, if your project will be desiring to issue subawards internationally, that should be disclosed and a part of the agreement. 

2. Fund Management: Details how funds will be collected, managed, and disbursed, including any administrative fees that the project will owe to the Sponsor

3. Compliance and Reporting: Outlines the project’s obligations to report progress and adhere to the sponsor’s policies and legal requirements.

4. Human Resources Support: Define human resources support if the sponsorship will require the host hire program staff, or engage consultants on behalf of the project.

5. Termination Terms: Specifies conditions under which the agreement can end and procedures for handling remaining funds. This is particularly important if the project may want to spin-off into its own non-profit someday.

6. Intellectual Property: Discuss how intellectual property will be handled, controlled, and transferred if and when the project spins out. It is usually important for projects to retain intellectual property over the materials created while they are sponsored. 

2. Starting Your Own Nonprofit

Forming a new nonprofit provides independence but involves substantial responsibility and financial contributions. A standalone nonprofit has its own board, operates under its own 501(c)(3) status, and must meet federal, state, and even local compliance requirements. Here’s a breakdown of the key benefits and challenges of starting a nonprofit: 

Benefits:

1. Autonomy: Full control over the charitable mission, funding, and operations without oversight from another entity.

2. Brand Building: Establishing a unique brand and reputation is easier with an independent organization.

3. Funding Opportunities: Some grants and donors prefer to support organizations with independent 501(c)(3) status.

   
   

Challenges:

1. Complex Setup Process: Initially establishing a nonprofit involves the following activities, which may be done independently or with the help of third party advisors/vendors: 

   • US state incorporation with specific verbiage in the Articles of Incorporation

   • Registered Address / Registered Agent

   • Federal Employment Identification Number (FEIN)

   • Bank Account (usually requires Board resolution)

   • IRS Form 1023 filing for tax exempt status 

   • Adoption of Organizational Bylaws (per state law)

2. Proof of fundraising support: Nonprofits have to meet the Public Support Test over 5 years to demonstrate that ⅓ of their income comes from the “public”. This can be a bit of a puzzle to calculate so make sure you have good accounting advice.

3. Ongoing Regulatory Compliance: Nonprofits must file annual state and IRS reports, manage board governance, and maintain legal compliance based on their activities. One example is if the nonprofit is soliciting donations on the website, it must register with certain (about 40) states to solicit donations. 

4. Independent Board of Directors: Best practice per the IRS is to have 3 members of the Board who are free of conflicts of interest. While some states allow it, it is not best practice to have paid directors. 

5. Governance Obligations: Nonprofit organizations are required to adhere to their Bylaws which requires board members to meet, discuss, make decisions, and document their actions in corporate records in compliance with state laws. 

6. Time: Nonprofit boards and officers are often required to contribute significant time to start-up nonprofit organizations to ensure legal and compliance activities are undertaken. This is because they carry the “fiduciary duties” or legal obligations to the organization.  Often, individuals join boards for celebrating and promoting a mission they believe in, and while they can do that, they also must dedicate time to the compliance aspect of their role and the organization. 

7. Insurance: Nonprofit organizations should at least maintain Director and Officer insurance to protect directors from personal liability. Other insurances may be required or recommended based on the organization’s activities. 

   
   

In sum, starting a new nonprofit is a great option if you want autonomy, but it's important and recommended that you fully understand the regulatory, administrative and financial considerations and obligations. Ideally you should talk with friends or colleagues who are fiscally sponsored, and with people who have started a non-profit.

If you have any questions on any of these considerations, feel free to use the contact us page.

Disclaimer: This information is provided for general informational purposes only and is not intended as legal advice. We recommend consulting with a qualified counselor, accountant, or attorney to ensure full compliance with all relevant laws and to address specific legal concerns.