Considering Fiscal Sponsorship? Don’t Forget to Comply with IRS Requirements
Sometimes, groups wish to serve their communities by carrying out charitable activities. However, for a variety of reasons, the group does not want to form a nonprofit corporation and apply to the IRS for tax-exempt status. Sometimes, the work will be for a limited duration; in other cases, the group does not have the money or resources to form a corporation or to file an application with the IRS; and sometimes the organization does not have the time or resources to comply with all of the ongoing IRS, state, and local government requirements. In such cases, it may make sense for the group of concerned individuals to enter into a fiscal sponsorship arrangement with another nonprofit organization.
What is a Fiscal Sponsorship Arrangement?
Fiscal sponsorships are a relatively common way for new, temporary, or small-scale charitable initiatives to operate – and to receive tax-deductible donations or grants – without the burden of creating and maintaining their own tax-exempt entity. Fiscal Sponsors, for their part, can advance their charitable mission by supporting the work of allied projects. However, these arrangements must be structured and monitored carefully to ensure that they do not run afoul of IRS rules. If a fiscal sponsorship arrangement is not managed correctly or is abused, then the Fiscal Sponsor’s 501(c)(3) status may be jeopardized as a result.
Under a fiscal sponsorship arrangement, an individual or group looking to conduct a charitable project may operate under the tax-exempt status of an existing 501(c)(3) organization, called the Fiscal Sponsor. This relieves the project of the responsibility of forming an independent 501(c)(3) entity. The Fiscal Sponsor receives and manages donations to the project, making them tax-deductible because the Fiscal Sponsor already has tax-exempt status. Since contributions are made in the Fiscal Sponsor's name, it is responsible for accounting for the donations and reporting them to the IRS on its Form 990. The Fiscal Sponsor is also responsible for acknowledging tax-exempt donations.
Fiscal Sponsors typically provide additional administrative support, including accounting, payroll processing, and the use of office space and equipment. In exchange for these services, Fiscal Sponsors often charge a predetermined administrative fee to provide their services – most commonly a percentage of the donations made to the project.
General Requirements for Fiscal Sponsorship Arrangements
The following are four practices to keep in mind when considering a fiscal sponsorship arrangement:
1. Ensure consistency with the Fiscal Sponsor’s tax-exempt mission: An organization acting as a Fiscal Sponsor must ensure that creating and maintaining a fiscal sponsorship arrangement is consistent with its own tax-exempt mission. For example, a Fiscal Sponsor that is organized and operated for a specific mission should ensure that its sponsored projects also address that substantive area. Fiscal Sponsors should also periodically review the activities of sponsored projects to ensure that they remain consistent with their own tax-exempt mission. Finally, Fiscal Sponsors should not support projects that engage in activities which 501(c)(3) organizations are prohibited from engaging in, such as lobbying in support of political candidates and carrying on an excessive amount of unrelated business activities.
2. Ensure that the Fiscal Sponsor has “complete discretion and control” over donated funds, and communicates with donors accordingly: The IRS has ruled that donations to a fiscally sponsored project are only tax-deductible if the Fiscal Sponsor exercises “complete discretion and control” over the donated funds, also known as “variance power.” The Fiscal Sponsor cannot be a passive “conduit” for donations to the project, and must be able to prevent uses of donated funds that are at odds with its tax-exempt mission. The Fiscal Sponsor and the project should clearly communicate to donors that funds earmarked for the project are subject to the Fiscal Sponsor’s discretion and control, and Fiscal Sponsors should not guarantee that donated funds will be advanced automatically to the project.
3. Fiscal Sponsors should exercise ongoing financial control and oversight: In order to exercise discretion and control over donated funds, Fiscal Sponsors should review and audit the financial activities of their projects on an ongoing basis and should require periodic financial reports. For example, Fiscal Sponsors should only disburse funds to projects after they’ve had a chance to review and confirm that the funds will be spent in a permissible manner. If projects are given a bank account for general spending, the Fiscal Sponsor should audit account activities to ensure that funds are being spent permissibly.
4. Execute a Fiscal Sponsorship Agreement: A written Fiscal Sponsorship Agreement should set forth the key terms relating to financial management, financial oversight, and reporting requirements. The agreement should also define the duration of the agreement, procedures for terminating the agreement, and what happens to project funds and property when the agreement is terminated.
