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Nonprofit Partnerships: Follow These 3 Tax Steps for Success

10/21/2020 Bryan Pautsch

Most people use the terminology “partnership” believing a partnership is when two or more organizations come together to pool their resources and collaborate to achieve a common purpose. Unfortunately from a legal and tax perspective, a “partnership” is a legal agreement between two or more organizations that involve a complex interaction of business law, tax law and intellectual property rules.

There are many positive outcomes for a nonprofit organization to form a partnership with another organization(s) such as:

  • increasing revenue
  • reducing costs
  • gaining efficiencies
  • taking on larger projects
  • new and broader markets
  • gaining new advocates

As part of a nonprofit’s due diligence in determining whether a partnership is beneficial, the nonprofit organization should contact their legal/tax advisors and consider the following steps:

  1. Understand the legal/tax structure of your partner(s)
  2. Understand the legal nature of your relationship/agreement
  3. Understand the tax issues for entering into a new “business relationship”

Understanding the legal and tax structure of your Partner(s)

The first step is to understand the legal/tax structure of your Partner.  You should determine the following:

  1. How is your Partner set up legally?  Is it a legally incorporated entity; a partnership; a limited liability company or some other type arrangement 
  2. Is your Partner a tax-exempt organization?  If so, is tax-exempt classification the same as your organization?
  3. Is your Partner a taxable organization? 

Understanding the structure of your Partner will provide your advisors the information needed to adequately identify and recognize the issues involved in completing Steps 2 and 3.

Understanding the legal nature of your relationship/agreement

In determining the type of the agreement/relationship with your Partner both parties should agree on the following:

  1. Define the specific expectations and roles of each party
  2. Determine operational control and how and how decisions will be made
  3. Define the time period  (if any)
  4. Define an exit strategy  
  5. Determine the financial and capital resources required for each party
  6. Determine how the relationship will evaluate the success of the project
  7. Determine the intellectual property issues
  8. Understand the liability risk and insurance
  9. Consider separate legal representation
  10. Document your relationship in writing

The legal structure may be a separate legal entity such as a type of partnership or a limited liability company or a type of contractual arrangement (such as joint programming; shared services and back office support; memorandum of understanding). Your legal advisor can assist in determining the nature of our relationship and in understanding each type of legal structure.

Understanding the tax issues for a nonprofit organization entering into a new business relationship

Nonprofit organizations must be mindful of the IRC and the conditions of its tax-exempt recognition. Depending on the nature and structure of a nonprofit’s partnership” the following tax issues should be considered:

  1. Consistent with your Mission
  2. Unrelated Business Income
  3. Private Inurement/Benefit
  4. State Charitable Solicitation Statutes
  5. Protecting Intellectual Property Rights
  6. Employment law and employment tax
  7. Sales Tax and Other State Tax Issues
  8. Lobbying and Political Activity
  9. Control

Bryan Pautsch is the Nonprofit Tax Leader at VonLehman CPA & Advisory Firm. He has over 25 years of nonprofit tax experience. You can contact Bryan at 859.331.3300 or bpautsch@vlcpa.com.

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