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May charity transfer funds to LLC?

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May charity transfer funds to LLC?

Our 501(c)(3) nonprofit is involved with marine research. We are planning to form a Limited Liability Company to purchase a research boat so we have some liability protection. Can we transfer funds from the nonprofit to the LLC to then purchase the boat?

When you say you are planning to form an LLC to purchase the research boat, I assume that you intend the existing 501(c)(3) charity to be the sole member of the LLC.  That has become a structure of choice for many charities that want to take on a new activity that might create a new or different type of liability from which they want to protect the existing charity.  The single member LLC is a “disregarded entity” for federal income tax purposes, so the new LLC instantly has the 501(c)(3) tax-exempt status of the sole member. Third party donations to either the existing charity or to the new LLC are treated by the IRS as a gift to the existing charity because the existing charity is the only entity recognized by the IRS.  Money transferred between the existing charity and the LLC is disregarded by the IRS because it considers the two entities as one.

At the same time, the LLC is a separate legal entity under state law so that any liability it suffers is not automatically applied to the existing charity.  (See Ready Reference Page: “LLCs Becoming Entity of Choice for Subsidiaries”). We have seen this structure used to acquire real estate that could generate serious liability that could jeopardize the parent’s assets before the property is sold.  We have also seen it utilized to take on entire charitable operating programs where there was a time-constraint in obtaining recognition of exemption.

If you do use a single member LLC for the new subsidiary, be sure that to include the “magic language” for charitable tax-exempt status that the IRS expects to see in the LLC governing documents (and a state might look for if the LLC seeks any form of exempt status from state real estate or other taxes).  Because state laws differ on LLCs, the IRS is somewhat flexible about the exact language that must be used but has definite views on the ideas that should be included.  (See Ready Reference Page: “IRS Sets Forth Simplified Standards for 501(c)(3) Status for LLCs”)

Tuesday, April 16, 2024


But watch for property tax exemption issues for the separate LLC; just because the IRS regards the LLC as a disregarded entity (and therefore essentially a TEO), the local tax assessors may regard the LLC as a for-profit business entity and expect payment of property taxes.

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