You are here

May nonprofit convert to for-profit?

Your Legal Questions Answered

May nonprofit convert to for-profit?

We started a nonprofit a year ago to create curriculum for children's ministries. We are considering changing to a for-profit structure. We have an investor who would like to help the organization. We are trying to figure out how to sell the rights to the curriculum. It is currently owned by the nonprofit but we want to make the creator and writer of the curriculum the owner? Can our nonprofit sell those rights to that person? Are there any other ways to have an investor in a nonprofit company besides being a donor?

Some states allow nonprofit corporations to convert to for-profits, but it won’t work for charitable nonprofit corporations.  It may work for nonprofits that are not charities.  (See Ready Reference Page:  “What Do We Mean When We Say ‘Nonprofit’?”)  But all of the assets of a charitable nonprofit have to be used for charitable purposes, both as a condition of federal tax-exempt status and generally of state law.   Based on the kind of work you are doing, I assume that you have qualified for federal 501(c)(3) charitable status.

If you want to transfer the program to a for-profit entity, the normal way to make that transition is to sell the assets of the charity (or other nonprofit) to the for-profit organization.  If you are a charity, you have to be especially careful that the sale is at full fair market value.  Your state Attorney General may have an interest in the transaction.

Your curriculum writer may be a “disqualified person” with respect to the organization, even if not a founder, substantial contributor, officer or director because he or she has probably been in a position to exercise substantial influence over the organization during its existence.  It could be an excess benefit transaction if a disqualified person pays less than the work is worth.  (See Ready Reference Page:  “Charities Must Avoid Excess Benefit Transactions”)  In any case, the proceeds of the sale have to stay in the (c)(3) organization.  In many cases, the charity converts into a grantmaking organization.  (See Ready Reference Page: “Conversion Foundations Face Key Issues Early”) In other cases, it dissolves and distributes the net remaining assets to another charity.

Unfortunately, it is difficult for an investor who wants a return to help a nonprofit entity grow its operations.   An investor can make a no-interest or low-interest loan if the investor wants to get money back, but the fundamental characteristic of nonprofit corporations is “the nondistribution constraint” — they cannot pay dividends to owners or other insiders.  As a result, nonprofits are traditionally strapped for capital and normally make investments from their own earned income surplus, or, more likely, from foundation grants or other donated capital.

Tuesday, October 13, 2015

Sign-up for our free weekly Q&A

Add new comment

Sign-up for our weekly Q&A; get a free report on electioneering