How to Establish a Foundation

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methods

1Planning Your Foundation

2Forming the Foundation

3Getting IRS Approval

Other Sections

Questions & Answers

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Establishing a private foundation can be a rewarding and socially beneficial venture, particularly if you are more interested in advancing broad causes than providing direct services. The IRS identifies several factors which distinguish a private foundation from a public charity, but the basic dichotomy is simple enough: A private foundation generally funds other nonprofits, and a public charity provides direct services. Since private foundations are tax exempt, the IRS has a stringent process to determine whether an organization qualifies. In addition, anyone interested in starting a Private foundation will have to do extensive pre-planning and filing paperwork and registering in the states in which they operate.

Steps

Method 1

Method 1 of 3:

Planning Your Foundation

1. 
   1
   Decide on a purpose for your foundation. A private foundation is an entity formed for charitable purposes. Generally, a foundation donates money to other nonprofits instead of running its own charitable enterprise. Determining the purpose for your foundation is the first and most important step because the activities a foundation engages in determine the necessary scope of the foundation.

   • For example, the Bill and Melinda Gates Foundation might donate money for a specific purpose, like literacy, but they do not actually teach people to read. They give the money to other organizations already involved in literacy education. The Red Cross, on the other hand, actually engages in disaster relief efforts and medical education.
   • To illustrate how the purpose of a foundation affects its staffing and funding needs, consider a foundation formed to fund a community athletic center versus a foundation formed to fund AIDS research. The former will obviously require a smaller endowment and staff, and may need to invest more conservatively than the latter.
2. 
   2
   Consider the foundation’s staffing needs. Once you’ve determined the purpose of the foundation, you can get some idea of how many full and/or part time employees you’ll need to run it on a day to day basis.

   • For example, a large foundation like the Coca-Cola Foundation has many employees and contractors, including those who give financial and legal advice, others who review grants, and administrative staff. A more modest foundation, like the community athletic center foundation in the previous example, could conceivably get by with no full time staff other than the chief benefactor.
   • Don’t forget to consider necessities like office equipment and office space in addition to the salaries and benefits. A good rule of thumb is that total administrative costs should run about 15% of the organization’s budget each year.
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3. 
   3
   Calculate the size of the initial endowment. After estimating your staffing needs, you can begin to get an idea of how much the initial endowment will need to be in order to realize the purposes you’ve laid out.

   • There is not an ironclad formula to determine the necessary size of a generic foundation’s endowment. Economic conditions vary too much and the missions of various foundations are too diverse to break it down to a cookie cutter formula. However, as a very general rule of thumb, the size of a foundation should be roughly twice its annual operating budget.
   • A foundation must donate 5% of its total endowment annually. Don’t forget to factor that into your calculations when thinking about the size of the endowment.
4. 
   4
   Look for a financial planner. Money is important to any organization, but a foundation is money. While it's money with a purpose, the money has to be there to achieve the purpose. A few people might have the expertise to manage the endowment of a foundation, but most of us don't. So using the services of a CPA or a CFP is going to be a built–in expense. It's your job to make sure it's money well spent.

   • A huge CPA firm with offices all over the globe, like BDO or Marcum, will certainly have the personnel to give you sound advice. But you might want to look locally first. You're more likely to find someone who is going to be personally invested in your mission, which can pay dividends when you begin to recruit for the board of directors.
   • If no one local impresses you, contact your state association of nonprofits (or CPAs) and ask for a referral. You can find your state association at https://www.councilofnonprofits.org/find-your-state-association.
   • Whoever you decide on, make sure you find a financial planner who open, honest, and is willing to educate you and (eventually) other members of the board.
5. 
   5
   Figure out how the Foundation will sustain itself. Since a charitable foundation must donate 5% of its total endowment annually, it is imperative that the endowment be invested in such a way as to make up for the five percent loss plus administrative costs.

   • Of course, there are many ways to invest money, and some strategies are more appropriate for certain organizations than others. Work with your accountant to formulate a strategy allowing the foundation to get on its feet and on sound footing financially.
6. 
   6
   Choose the foundation’s legal structure. Private foundations can take one of two legal structures, charitable trust or nonprofit corporation. Both charitable trusts and nonprofit corporations have advantages and disadvantages, and the decision can be permanent, so it’s very important to carefully consider what’s right for you.

   • A charitable trust is the oldest form of nonprofit entity. In some ways, trusts are more flexible than nonprofit corporations. For example, trusts arent' required to board meetings at specific intervals, they are subject to fewer governmental registration fees, and receive more favorable tax treatment once they are in operation.
   • There are drawbacks to the trust as well. For example, trustees aren't protected from personal liability like officers of a corporation are. In addition, trusts are permanent entities. It is impossible to change the business form or operating rules of a trust without a court order.
   • A nonprofit corporation is the newer, and now more common method of setting up a private foundation. Nonprofit corporations must choose board members who meet at specified times during the year, write bylaws, and generally are more expensive to start up than a charitable trust. However, once they are set up, a nonprofit corporation can be run in any way the board sees fit. Bylaws, operational policies, and even corporate officers can be changed by a simple majority vote of the board of directors. Additionally, a nonprofit corporation is not a permanent entity, and offers greater protection from personal liability than does a charitable trust.
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Method 2

Method 2 of 3:

Forming the Foundation

1. 
   1
   Create the bylaws. Once you’ve made the preliminary decisions, you need to get to the business of actually forming the foundation, and determining the hierarchy and the rules of operation should be taken care of right away.

   • If you are forming your foundation as a trust, use an attorney to formulate the rules of operation for the trust. While using an attorney to assist in the creation of an incorporated foundation is preferable but not mandatory, a trust is a different story. Since trusts are irrevocable, using an attorney is a necessity and not a luxury.
   • If you are forming the foundation as a nonprofit corporation, you can afford to be a little more experimental in formulating your bylaws. That’s because the board of directors can always change them later. There are numerous free resources offering sample bylaws for nonprofit corporations available on the web, and you can look at a great example at http://nonprofitally.com/start-a-nonprofit/nonprofit-bylaws.
   • It isn’t absolutely necessary to form bylaws before you select trustees and/or a board of directors, but it might be wise. That way, you’ll have a group of people who are basically committed to your vision, and not a group of people negotiating a vision.
2. 
   2
   Select trustees or board of directors. The board of directors or group of trustees ultimately have the final say on matters concerning the foundation. You should therefore give considerable thought to choosing its members, but don’t get too bogged down, and don’t create too many seats on your board. About a dozen members should be more than sufficient for even the largest foundations. Specific skill sets and connections are probably less important than energy and commitment to your vision. A good board of directors is generally a necessary but not sufficient condition for the foundation’s success. When selecting this group, weigh the following factors:

   • Commitment to the foundation's goals and vision. Boards of directors and trustees choose priorities and overarching goals for the nonprofit. They need to all be pulling in the same direction.
   • Willingness and ability to fundraise. In addition to deciding which goals to pursue first and selecting corporate officers, members of the board are typically the group doing most of the fundraising on behalf of the nonprofit.
   • An understanding of when to step up or step back. The board of directors or group of trustees are the governing body of your foundation. Except in the smallest foundations, they aren’t the managers, and the managers need to be given the latitude to do their jobs.
3. 
   3
   Register with the state. It’s necessary to write bylaws and choose a board of directors in order to register your foundation with the state, so once those two crucial steps are completed, go ahead and register your foundation with the secretary of state’s office in your state. The costs vary widely by state, from $8 in Kentucky to over $1000 in the District of Columbia, but $50-$400 is more typical.
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Method 3

Method 3 of 3:

Getting IRS Approval

1. 
   1
   Apply for an EIN. An EIN is an Employer Identification Number, and it’s like a Social Security number the IRS uses to keep track of businesses. Even if you don’t have any actual employees, you’ll still need to apply for an EIN, but it’s fast, free, and easy.

   • All you’ll need to know is some basic information about your nonprofit, including a contact person, the address, the type of business entity, and what your foundation does. Fill out the online application at https://www.irs.gov/businesses/small-businesses-self-employed/apply-for-an-employer-identification-number-ein-online.
2. 
   2
   Fill out Form 1023. Form 1023 is the IRS application for 501(c)3 tax exempt status. As you might expect, the IRS wants to vet any non-taxpaying organization very carefully. As a result, Form 1023 is really an application packet, and at nearly 70 pages, a long one at that. The application fee is anywhere from $400-$850.

   • When the stringency of the application process is coupled with potential impact of a rejected application, Form 1023 is not considered a do-it-yourself type of application. It is strongly recommended you use the services of an attorney, accountant, or otherwise experienced professional to complete Form 1023. Anticipate that cost being anywhere from $2500-$5000.
   • Even the IRS’ very conservative estimate cautions that Form 1023 will take a layman 100 hours or more. If you do choose to complete Form 1023 yourself, be prepared to provide detailed information on your nonprofit’s purpose, financial picture, corporate structure, activities, and compensation to employees and members of the board or trustees, as well as copies of corroborating documents. You can examine Form 1023 at https://www.irs.gov/uac/about-form-1023.
3. 
   3
   Fill out Form 990-PF. Form 990-PF (PF stands for private foundation) is like an income tax return for foundations. Even if your organization is applying for (or has received) tax exempt status, you’ll still have to complete Form 990-PF.

   • In essence, Form 990-PF is a detailed financial report of your foundation’s activities. You will need to know anything relevant to your balance sheet and current accounts, including revenues, operating expenses, and in particular, charitable distributions and income or losses from investments.
   • At “only” thirteen pages, Form 990-PF is more manageable than Form 1023, and it’s more feasible for a novice to complete it. Nonetheless, it’s the type of tax form for which most people would enlist the services of an accountant. You can find a copy of Form 990-PF at https://www.irs.gov/pub/irs-access/f990pf_accessible.pdf.
4. 
   4
   Fill out Form 5227 (if you are organized as a trust). Form 5227 is a tax form applicable to trusts specifically. Both charitable trusts and non-charitable trusts must file Form 5227 (in addition to Form 990-PF for charitable trusts). It asks for much the same type of information Form 990-PF does—identifying information, gross income, investments, etc.—so it shouldn’t require much extra time to complete if you choose to tackle it yourself.
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Community Q&A

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• Question

  Is a website necessary for a foundation?

  

  Community Answer

  It wouldn't be a bad idea. How else are people going to know to ask you for money?

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• Question

  I have a non-profit agency. I want to establish a foundation for a specific purpose under the non-profit. Are there additional steps I should take? Arizona

  

  Community Answer

  There's not a good way to answer that without more information. However, I would direct you to http://www.cof.org/content/foundation-basics#whatispubliccharity for a description of private foundations, public charities, and hybrids.

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• Question

  Can you make contributions to a charitable foundation over multiple years?

  

  CageyCat

  Top Answerer

  Of course you can make contributions to a charitable foundation over multiple years. Some people like to set up Bill Pay in their online banking account. The bank makes the auto pay based on what amount you specify. Or, you can authorize the foundation to make a "demand" on your account, which your bank will fulfil until you withdraw your authorization. Both of these bank methods can stay in operation for years--however long you wish. On the other hand, some people still prefer to write a check and mail it themselves.

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  Thank you for your feedback.
  If How.com.vn has helped you, please consider a small contribution to support us in helping more readers like you. We’re committed to providing the world with free how-to resources, and even $1 helps us in our mission.Support How.com.vn

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