For Profit Subsidiaries
Posted on Wednesday, April 22, 2015
It is not uncommon for nonprofit organizations to form for-profit subsidiaries. These for-profit subsidiaries are most frequently found in hospitals and colleges but other 501(c)(3) organizations also have for-profit subsidiaries for a variety of reasons.
A nonprofit can protect its tax-exempt status by creating a for-profit subsidiary to engage in activities that are unrelated to its charitable purpose.
A nonprofit may have a significant amount of unrelated business income (UBI) on which it is required to pay unrelated business income tax. Too much UBI can threaten the tax exempt status of the nonprofit. By setting up a for-profit subsidiary, the nonprofit can move the unrelated business activity to a separate entity.
Most nonprofit organizations rely on contributions. A for-profit subsidiary may be able to gain better financing and additional resources through private investors.
A for-profit subsidiary may be able to offer better compensation without the concern for excessive compensation and private inurement as in a nonprofit.
Nonprofit organizations are required to make their annual Form 990 available to the public. Along with the organization’s income and expenses, Form 990 also discloses compensation information for certain employees. There is no such disclosure requirement for for-profit entities.
An additional entity requires additional cost, both in expenses and in employees’ time. A nonprofit should make sure it is adequately staffed to take on the additional work of a for-profit subsidiary without taking away from its nonprofit programs.
The nonprofit must make sure that the for-profit subsidiary maintains a separate identity or it may threaten its tax exempt status.
- Interest, rents and royalties from a controlled subsidiary are subject to unrelated business income tax.
Type of Entity
The most common types of entities selected for a for-profit subsidiary are a corporation or an LLC depending on the nonprofit’s goals. However, there are many things to consider when choosing the type of entity. Please contact your accountant to determine the best entity type for your specific circumstance.
If your nonprofit is considering forming a for-profit subsidiary, make sure you consider all of the advantages and disadvantages prior to formation.
Posted by: Carrie Minnich, CPA
Posted in Mission Minded Nonprofits
Disclaimer: The information contained in Dulin, Ward & DeWald’s blog is provided for general educational purposes only and should not be construed as financial or legal advice on any subject matter. Before taking any action based on this information, we strongly encourage you to consult competent legal, accounting or other professional advice about your specific situation. Questions on blog posts may be submitted to your DWD representative.