In this episode of the BarryLaw Podcast, Barry Rosenzweig talks about the legal formation and operation of non-profits.
Patrick Mazorol is an attorney with Erickson & Wessman, PA, in Minneapolis, MN. He can be reached at 952-921-5853 or [email protected].
Pat Mazorol focuses his law practice on estate planning, trusts, probate, charitable planning and non-profit organizations.
Barry Rosenzweig has been an attorney for over 25 years and is nationally known as a visionary in his profession. Barry Rosenzweig can be reached at (952) 920-1001 in Minnesota and (480) 227-2203 in Arizona. He can also be reach by email at [email protected] or online at www.barrylaw.com.
Today, we're talking about nonprofits with Pat Mazorol, a great nonprofit attorney.
Welcome to the Barry law legal podcast. Barry Rosenzweig has been an attorney for over 25 years and is nationally known as a visionary in his profession. In each episode, attorney Barry Rosenzweig, interviews, lawyers, real estate agents, lenders, and other professionals that bring popular legal related topics into focus for his listeners. So, get ready for an educational and exciting episode. Now here's your host Barry Rosenzweig.
Barry Rosenzweig: Today in the studio, we have Pat Mazorol, and he's an attorney that I've known quite a while and his background has been an estate planning, trust and probate, charitable planning and nonprofits. And we're here today to talk about nonprofits. Welcome Pat.
Pat Mazorol: Hi Barry. Good to see you.
Barry Rosenzweig: You too. Tell me a little bit about your background.
Pat Mazorol: Well, I'm an attorney, of course, I actually started out in the sciences. I'm a physics background, worked in technology for a few years and decided I really wanted to practice law like that idea of engaging directly with individuals. And I spent most of my career actually in the trust wealth management industry, which is around estate planning. We work with charities, private foundations and so forth. And I'm now practicing law with a firm in Minneapolis.
Barry Rosenzweig: Okay. And if I remember correctly, you were in the legislature as well.
Pat Mazorol: I was in the legislature for a term representing West Bloomington, Southie [01:44 inaudible].
Barry Rosenzweig: Well, we're going to, like I say, talk about nonprofits today because that's an area you're experienced in and worked in for quite a while, and I think a lot of people are unaware of what a true nonprofit is, what the reasons for it is, what the benefits. why you would set one up, why you wouldn't set one up, how you set one up. So, we're going to delve into some of those things today. I think we'll start out very general and ask you what a nonprofit organization is from a legal standpoint and a practical standpoint.
Pat Mazorol: Well, from a legal standpoint, it's usually a corporation. It can be a different type of entity, but nearly all nonprofits in Minnesota are in a corporate form. So just like any for-profit type corporation, they're registered with the secretary of state, they have a board of directors, they have a statement and articles of incorporation and bylaws and all of that. The real difference is with a nonprofit that it cannot be used for the benefit of individuals, for instance, in a for profit corporation, shareholders make money from the corporation that doesn't occur at a nonprofit.
Barry Rosenzweig: So, who are they designed to benefit?
Pat Mazorol: They're designed to benefit whoever the purpose or mission of the nonprofit corporation says it's to benefit. So, it may be children, may be educational purposes, may be to address poverty, homelessness, that sort of thing. But it's really the beneficiaries are those that receive benefits from the corporation.
Barry Rosenzweig: And the beneficiaries cannot be anybody who's part of the organization or runs the organization?
Pat Mazorol: Well, it couldn't, certainly couldn't be directly because you can't set up a corporation to benefit yourself and get the sorts of tax benefits and legal benefits that a nonprofit corporation is intended to give what we might call owners though, a nonprofit doesn't technically have owners. Those who want to set up a nonprofit really do so for purposes of helping others. And so that's really where the state says and has guards against making sure you are profiting others by this organization. You're not profiting yourself. now having said all that, those that run and work in nonprofit corporations certainly are entitled to salaries and compensation for the work they do.
Barry Rosenzweig: And is that probably like a reasonable salary for the work they do comparable to the same type of salary they get in a similar company?
Pat Mazorol: Exactly. And those are the kinds of questions that the IRS and the state will ask.
Barry Rosenzweig: Yeah. Aside from the intrinsic value of creating a nonprofit for beneficiaries, is it strictly a tax benefit that they're getting for that, for doing those things? Is that the primary reason besides providing services or finances to other individually?
Pat Mazorol: It's definitely the primary reason. with a nonprofit you're able to receive donations from others. And those donations from the donors may be tax deductible. There is exemption from if properly done exemption from state sales tax, exemption from federal income tax, for any growth in the income to the nonprofit. In some cases, exemption from property tax.
Barry Rosenzweig: Can any type of company, as long as the funds are used to benefit others, be set up that way?
Pat Mazorol: Yeah. I think the edginess would come or the test would come really in what is their primary purpose and, and where do they really focus the majority of their activities. a nonprofit corporation is set up that way, primarily not necessarily exclusively, but really primarily to benefit others. Now, a nonprofit corporation may engage in other related activities that don't necessarily address that purpose directly. And for that, they end up paying taxes for that income.
Barry Rosenzweig: So, nonprofits sometimes do actually pay tax.
Pat Mazorol: Correct.
Barry Rosenzweig: Okay. Their income and revenue, does that have to primarily come from donors? I mean, is there other areas they can receive income or where would other places they would receive income?
Pat Mazorol: Yeah, there are other places. some nonprofits are set up with membership fees for instance, or they may provide services where there's some sort of a fee for service that adds to their revenue. And if that goes directly to the nonprofit mission it's not income per se, but a lot of nonprofits. And I think what most of the public is familiar with are the types of things that we give funds to charities. And that's a big part of most nonprofit organizations.
Barry Rosenzweig: Let give me a scenario. You tell me if I were a client coming to you, what advice you would give them as far as if they could set one up or not? a small restaurant or coffee shop and their purpose is to supply, you know, food or beverages or coffee to people who are if low income. And it, maybe they have standards as to what's considered low income and they actually produce the products like anybody else would and they pay for it. And then they basically let's say sell them at very little profit or low cost, maybe just enough to cover their overhead. But the primary purpose is to not have people come in and to make a profit for money, but their purposes to give to people low income and come in who have low income. Is that something that somebody could do and still take a salary out?
Pat Mazorol: They can take a salary and if it were set up so that anything over and above that is received as revenue beyond their expenses goes into feeding itself back into serving those same people.
Barry Rosenzweig: So, you can reinvest the money that you've had income back into the business, is that correct?
Pat Mazorol: That's correct. What you can't do is have say the owner, I hesitate to call it owner cause nonprofits don't have owners as such, but you can't have any individual receive any benefit from the, what we would call profit the revenue above expense.
Barry Rosenzweig: But if you're, like you said if there was a profit earlier you said, if there's a profit over and above their expenses, they may have to be taxed on it. But you're saying that that's only directly related to something that's not for the benefit of what it was set up for.
Pat Mazorol: Correct. That's called unrelated business income tax.
Barry Rosenzweig: Almost like a side business or something like that. And that's part of the organization.
Pat Mazorol: That's correct.
Barry Rosenzweig: Okay. Alright. What does it take to start one legally?
Pat Mazorol: Yeah. To legally start a establish the corporation doesn't take a lot, but it's a filing with the secretary of state and there's certain things that need to be in the articles of incorporation to fulfill the statutory requirements of, of being a nonprofit. Now that establishes an organization, but to really get all the benefits, all the tax benefits, there's a secondary follow up step. That's a little bit more onerous, and that is applying to the IRS for that tax-exempt certification. And that takes a little bit more diligence and understanding what the questions on that form are all about.
Barry Rosenzweig: Does the IRS have to actually put their stamp of approval on it and say, yes, we allow it, or do they basically accept it and not really comment in whether it truly is a nonprofit?
Pat Mazorol: No, they very much question it. their purpose is to assure that all of the activities and purposes of the organization meet nonprofit statute and allow them to say, we're going to exempt you from tax and with that. And so, there's a number of questions behind that. You know, how do you operate yourself? How much are you paying your directors? How much are you paying employees? Are there any side agreements, for instance, you couldn't have someone with let's take your example with a food supply business who's supplying this restaurant and making money that way. So that's the, what the IRS is just making sure there's no way this is being set up for individual profit.
Barry Rosenzweig: How long does the IRS take once you submit it?
Pat Mazorol: I tell clients figure on about six months to get back the certification.
Barry Rosenzweig: And so, you said it has to be filed well, you have to, the documents have to be produced.
Pat Mazorol: Correct.
Barry Rosenzweig: Then you file it with the secretary state. Is that what you said?
Pat Mazorol: For the original incorporation, correct.
Barry Rosenzweig: Okay. Is it a regular corporation or is it like a nonprofit organization you file with them?
Pat Mazorol: You file it Pretty much like a regular corporation, but it's got all the terms within it that are different that make it nonprofit.
Barry Rosenzweig: And then what about the attorney General's office? Do they get some type of filing with them at all or not?
Pat Mazorol: Yeah. The attorney General's role, think of the, every nonprofit organization as really a public service nongovernmental public service. And so, it doesn't have owners, as I mentioned earlier, so the real standing of protection of the organization is a protection of public service. And so, the attorney general is sort of the attorney for the state and for individuals of the state is granted the authority over oversight of nonprofits. And that comes into play in a number of different ways.
Barry Rosenzweig: So, they are aware of It just like in secretary of state and the IRS auditors, there's different disclosures, different filings for all those organizations.
Pat Mazorol: Correct. In certain circumstances, there's a need to actually file something with the attorney general, but it isn't always necessary. But for instance, if a nonprofit were sued, the attorney general gets notified. in Hennepin County, if a nonprofit is a beneficiary on an estate. And that beneficiary designation is a formula, a percentage, rather than a fixed amount, the attorney general gets notified. because they're there to assure that the nonprofit gets what it's due and to assure that.
Barry Rosenzweig: So it sounds like if somebody had an estate or a will or their own trust, and they designate some portion, maybe all, but some portion of their estate to be donated to the nonprofit, that is something that the attorney General's office gets involved in?
Pat Mazorol: In Hennepin County. And if it's not a fixed amount, for instance, if someone leaves $50,000 to a nonprofit and they receive a check for $50,000, there's nothing to be looked into. if it's a formula though. [13:23 inaudible].
Barry Rosenzweig: Does a nonprofit have to file a tax return? Is it different than a corporate tax return?
Pat Mazorol: It's a different return. It's not a tax return per se. It's a form 990 and effectively what it is, it can be pretty lengthy and more detailed even than our own tax returns. But the purpose of that is to assure that the funds that are being received, the purposes for which they're being spent, the salaries of the highest paid employees and officers are all in line with what is appropriate for a nonprofit.
Barry Rosenzweig: Other than tax returns, what information is public?
Pat Mazorol: Well, everything that's filed with the secretary of state. So, your articles of incorporation are public, who your directors are is public, at least initial directors. This form 990 is a public record. So that can be searched. frequently Donors, particularly major donors will want to, will do that. They'll go and search that 990 and they want to see, you know, for instance, the percentage of funds that are going directly to benefit others is high enough. And that there isn't a high percentage on salaries or administration.
Barry Rosenzweig: Again, we're going to go back to starting a nonprofit. Is that something that somebody could do themselves?
Pat Mazorol: Yes. As a lawyer I guess yes, you could. The problems of course run into, there are issues of doing it accurately and not having a back and forth conversation either with the secretary of state or with the IRS before you get it right. And the IRS, you asked earlier about the IRS as diligence on this application and it's pretty intense. So even prepared by a lawyer, there might be some follow up, back and forth conversation. So, I wouldn't recommend it. I suppose someone could search for the forms and at least get a form, a nonprofit established, but I think it's sort of, it's the compliance that comes after that in particular that becomes troublesome.
Barry Rosenzweig: Do you recommend follow ups to make sure everything's in compliance like yearly or pretty much unless they come to you and say, I have questions, or do you think it's a good idea that people check with you every so often to make sure things are going right.
Pat Mazorol: I strongly strongly recommend it. I mean, there are, you know, there are annual filings with the secretary of state that are pretty straight forward, but on the other hand, you want to make sure that for instance, your corporate minutes are up to date that you're exercising a proper duty of due diligence over how funds are being spent, having that recorded and having an attorney on retainer of some sort to do that is advisable. All of my nonprofit clients do that. That's something that I talked to them about. I think one of the dangers of person who wants to start a nonprofit can have, as they're immersed in the mission, doing good and wonderful things for others, a lawyer can be troublesome, but in fact, it's the lawyers oversight that will help keep them in compliance and out of trouble.
Barry Rosenzweig: I always equate it to like an insurance policy.
Pat Mazorol: Correct.
Barry Rosenzweig: You buy insurance and you pay what it is, and hopefully never use it, but if you need it, it's there and going to an attorney and having them do everything for you and look it over and advise you on things as again, insurance, and they don't find anything wrong. It's still good insurance to pay because they, you know, you're doing everything right.
Pat Mazorol: You know, you're doing it right. Yes.
Barry Rosenzweig: What are some of the top things that can throw somebody out of compliance with a nonprofit and all of a sudden, they're not a nonprofit anymore?
Pat Mazorol: Well, a big one is not filing their 990 or other annually required forms. Another one which we've talked about in a couple of contexts here is overpayment of directors, someone getting a benefit, that's clearly beyond what they should and not performing the duties that they're established to do.
Barry Rosenzweig: With all these obligations and risks that a director takes on. Why would somebody want to be a director?
Pat Mazorol: Because they're good people.
Barry Rosenzweig: As long as they behave.
Pat Mazorol: As long as they behave. I mean, you know, I think the state looks favorably on nonprofits. It is a public service and the intention isn't to have a gotcha on directors who give up their time and resources. But at the same time, you have to make sure you're doing it for the right purposes and not getting personal benefit from it.
Barry Rosenzweig: And in that corporate documents you spoke of where it has the mission sort of speak about the nonprofit, is that, that's correct?
Pat Mazorol: That's correct.
Barry Rosenzweig: How specific or vague can you be in there and can be across the board on different things that you're deciding to have a mission on?
Pat Mazorol: There's actually some standard language that can be used that's very broad. I encourage my clients though, if they're doing this to think through what's their real purpose, and I attempt to have them somewhat narrow, leave enough breadth in there so that, you know, they aren't going to get caught going outside of what their purpose is. But narrow it in the sense of it focuses the board and it focuses them on why are they really doing this and I think it helps focus the organization toward its purpose.
Barry Rosenzweig: And you have to have a board of directors.
Pat Mazorol: You have to have a board of directors. You have to have at least three on that board. Typically, when you get started, you'll name three or more as your original board, and in most nonprofits, that board of directors is self-perpetuating, self-sustaining in that they elect the next board. They assure that the board continues. nonprofits typically and by statutory default, don't have members. They have a board of directors, which again is not an owner, but basically the ones that make all the decisions.
Barry Rosenzweig: In a nonprofit, what do the actual directors do? Do they, and how often do they meet?
Pat Mazorol: Yeah, they meet, I have them meet at least annually, depending upon the activities of the organization. They might meet more frequently than that, but their primary role is to oversee the executive director of the organization to assure that the finances are appropriate, are being appropriately handled. They approve the 990 before that goes out to the IRS. And they assure that all the operations are within the four corners of the articles of incorporation and bylaws.
Barry Rosenzweig: And are there legal documents that are involved in those annual meetings where people directors sign off on?
Pat Mazorol: Well, the meeting is documented through minutes, and that's another one of those things that an attorney can help make sure are kept up to date. And the minutes are there to say, what did the board of directors do. And depending upon the bylaws and the organization, oftentimes in that annual meeting, they'll be renewing the role of the executive director. They'll be approving an annual budget. They'll be, as I said earlier, approving the 990, kind of all of the high level oversight, they'll assure that, you know, they'll get reports on the activities of the organization during the year, and are those activities within the mission and purpose of the organization.
Barry Rosenzweig: So, Pat, if the listeners have any questions and want to get ahold of you, what's the best way to do that?
Pat Mazorol: Well, they can call me. my telephone, my office phone is (952) 921-5853. They can look at our website which is www.cericksonlaw.com, E-R-I-C-K-S-O-N-L-A-W. So www.cericksonlaw.com, or they can email me directly at [email protected]
Barry Rosenzweig: Sounds great. I appreciate you coming in and we'll talk again.
Pat Mazorol: Thank you.
Barry Rosenzweig: Thank you.
This has been the Barry law legal podcast tune in again, as Barry interviews, lawyers, real estate agents, lenders, and other professionals that bring popular legal related topics into focus for his listeners. Barry Rosenzweig can be reached at (952) 920-1001 in Minnesota and (480) 227-2203 in Arizona. He can also be reached by [email protected] or [email protected]