Going from an LLC to an incorporated nonprofit requires a few steps to make sure you can operate as a tax-exempt organization under Section 501(c)(3).
If you’re thinking of starting a charitable organization, a nonprofit could be a good choice. But can you convert an existing LLC to a nonprofit?
If you’ve already formed a limited liability company (LLC) and want to make it a nonprofit business, we’ll take you through each step in this how-to guide.
Key Takeaways
You can convert an LLC to a nonprofit if the business entity is eligible under IRS Section 501(c)(3).
501(c)(3) nonprofits benefit from federal and state tax exemption and gain more access to funding resources.
To convert to a 501(c)(3) nonprofit organization, eligible LLCs must first convert to a corporation, amend the Articles of Incorporation, and file Form 1023 with the IRS.
What Is a Nonprofit?
Nonprofits are entities that aim to better the community. Businesses that claim nonprofit status are eligible for tax-deductible contributions. In most cases, they’re referred to as charitable organizations.
To qualify for nonprofit status, owners must declare that none of the entity’s earnings can go to a private shareholder or individual. It also cannot be an action organization. Many choose to start a nonprofit online to ensure proper compliance.[1]
Privately owned, for-profit businesses have more flexibility and freedom to redirect earnings or choose a business purpose. According to the Internal Revenue Service (IRS), “Nonprofits are not allowed to operate for the benefit of private interests.” This means nonprofits cannot have private shareholders with personal or private interests in the organization’s activities.[2]
This includes interests of:
- The creator or creator’s family
- Shareholders of the organization
- Other designated individuals
- Persons controlled directly or indirectly by private interests
For example, any action organization looking to influence legislation cannot be a nonprofit because the entity serves private interests. Because nonprofit organizations are tax-exempt, they should serve a neutral and public purpose that benefits all.[1]
Nonprofit vs. LLC
Anyone can start a nonprofit, but it is particularly beneficial for those looking to start organizations for social purposes like public charities, foundations, churches, and the like.[3]
If you already have an LLC, you might wonder how to switch it to a nonprofit. However, each entity type has pros and cons, and doing your research first is essential.
Before converting your LLC to a nonprofit, compare and contrast each entity type's benefits and characteristics to ensure you choose the best one for your business needs. See the sections below for a quick and easy snapshot of nonprofits vs. LLCs.
Business Purpose and Model
- Nonprofit: Distribute earnings to a public and social cause, cannot serve any private interests[3]
- LLC: Hybrid business entity with selected features of a corporation and a partnership, which can include purpose for private interest[4]
Tax Structure
- Nonprofit: Tax exempt via eligibility to receive tax-deductible contributions, meaning nonprofits do not owe taxes because they distribute earnings to social causes[1]
- LLC: Pass-through taxation, meaning profits are taxed as part of the LLC members’ personal income, among other freedoms from liability and business debt[4]
Business Ownership
- Nonprofit: Nonprofits don’t have shareholders but rather an executive director who reports to a board of directors[5]
- LLC: Owners are referred to as LLC members, who control membership interests and ownership[4]
While nonprofits have their benefits, there are certainly trade-offs when choosing between becoming a tax-exempt organization or a for-profit business. If necessary, many entrepreneurs seek legal advice to understand the implications of claiming tax-exempt status with the IRS.
How to Convert an LLC to Nonprofit
Now that you’ve weighed your options, are you ready to change your LLC to a nonprofit organization? If so, the next section will break down the four steps to go from a limited liability, for-profit business to a nonprofit with tax-exempt status.
1. Determine Your Eligibility
Even if you think being a nonprofit would fit your entity’s needs better than being an LLC, you must prove your eligibility before converting.
Businesses must be eligible for tax-exempt status under Section 501(c)(3) of the Internal Revenue Code.[1] This federal law enforced by the IRS applies to every state, but check your state laws for additional eligibility requirements.
To be eligible, none of the entity’s earnings can benefit private interests, and the company cannot be an action organization.[2] Additionally, a nonprofit corporation must:
- Be organized under state law
- Operate with a recognized exempt purpose, such as educational, literary, religious, scientific, medical, and charitable causes[6]
- Support a wide-reaching and undesignated group in need
- Limit political activities, such as lobbying and political campaigns
- Derive at least one-third of its financial support from the general public
2. Convert Your LLC to a Corporation
501(c)(3) nonprofit status is a tax classification, not an entity type. To go from an LLC to a nonprofit, you must first convert your LLC to a corporation.
Most states allow a simple conversion by filing the appropriate paperwork. However, some states may require businesses to incorporate a new corporation as a nonprofit entity and transfer their LLC’s assets.[7] These include:
- California
- Indiana
- Iowa
- Maryland
- Minnesota
- New York
- North Dakota
- Rhode Island
- Texas
- Utah
- Virginia
- District of Columbia
Check state laws to ensure you follow legislation unique to your state and specific filing requirements.
3. Amend Your Articles of Incorporation
Whether you convert your LLC to a corporation or form a new one, you must update and file Articles of Incorporation with the state. Be sure to include the specific language and statements required by the IRS, as mentioned in step 1, to reflect your nonprofit purpose. Also, include other state requirements, such as appointing a registered agent.
4. Apply for 501(c)(3) Status
To be recognized by the IRS as a tax-exempt organization under Section (501)(c)(3) of the Internal Revenue Code, you must file a Form 1023 application and pay the filing fee. The IRS has a step-by-step guide to the application process, reviewing what organizations must do to receive tax-exempt status successfully.
Note that, for some business owners, the process does not stop here. Depending on your state, you may also have to register as a nonprofit on the state level or apply for an exemption from state taxes. Refer to your state’s resources and laws, typically through the Secretary of State, to learn more.
LLC to Nonprofit: Final Tips
With your new nonprofit, following steps to maintain your tax-exempt status is essential. Even though nonprofit organizations don’t have to pay federal taxes, they still need to file informational returns using IRS Form 990. This makes information about the nonprofit’s revenue, expenses, governance, liabilities, programs, and activities available to the public and the IRS.[5]
Some companies post their 990s on their websites. When done correctly, this allows stakeholders, donors, and members of the public to review financial information and assess the business’s operations and impact. However, this information must be correct, as posting misreported information can negatively impact how the public perceives the use of donated funds.[5]
This issue highlights the importance of electing a trustworthy board of directors and members to hold meetings, secure licenses, report taxes, and more.
Other than IRS Form 990, your Secretary of State might require that you file other paperwork for your nonprofit corporation to maintain tax-exempt status and stay in good standing.
FAQs
How do I change my LLC to a nonprofit organization?
Before converting to a nonprofit organization, check your company’s eligibility to operate under Section 501(c)(3) of the Internal Revenue Code. To change an LLC to a nonprofit, you must convert your LLC to a corporation, update your Articles of Incorporation, and file Form 1023.
How do I convert my LLC to a corporation?
You can file Form 8832 with the IRS to classify your entity as a corporation.
What are the benefits of being a nonprofit organization?
Nonprofits are mission-driven organizations with a social purpose. Those with 501(c)(3) status are exempt from paying federal and state income taxes because they use their resources to benefit a public good. With a greater sense of purpose for the staff, some people are willing to volunteer their time and work for free, minimizing labor costs. Nonprofits can also gain more access to funding sources.
What are the downsides of a nonprofit organization?
Relying on charitable giving can result in unpredictable revenue streams if donor preferences or abilities change. Similarly, organizations must comply with donor preferences and stipulations on top of other regulations. Nonprofits may also face a disadvantage when hiring because they compete with for-profit entities that often offer higher pay.
How do I turn my LLC into a nonprofit in California?
For a filing fee of $150, you can convert your California LLC into a nonprofit corporation. You will also need to update your Articles of Incorporation to contain a statement of conversion. See more here.
Bibliography
- Internal Revenue Service. “Exemption Requirements - 501(c)(3) Organizations.” Accessed December 1, 2023.
- Internal Revenue Service. “Inurement/Private Benefit - Charitable Organizations.” Accessed December 1, 2023.
- Investopedia. “The Pros and Cons of Being a Nonprofit.” Accessed December 1, 2023.
- Investopedia. “Pros and Cons of a Limited Liability Company (LLC).” Accessed December 1, 2023.
- Investopedia. “Nonprofit Organization (NPO): Definition and Example.” Accessed December 1, 2023.
- Internal Revenue Service. “Exempt Purposes - Internal Revenue Code Section 501(c)(3).” Accessed December 1, 2023.
- Internal Revenue Service. “Limited Liability Companies as Exempt Organizations - Update.” Accessed December 1, 2023.