Differences Between a 501(c) and an L3C

By John Cromwell

The low-profit limited liability company, known as L3C, is a new organizational form that is now available for charitable organizations. The traditional method for organizing a charitable group is to file for 501(c) status with the Internal Revenue Service. Despite these organizational structures' shared focus on charitable purposes, they have some key differences regarding federal taxation, fundraising and distribution of organizational assets. Also, the group's location may influence the organizational options that are available. When considering which organizational type to pursue, consider consulting with an attorney.

The low-profit limited liability company, known as L3C, is a new organizational form that is now available for charitable organizations. The traditional method for organizing a charitable group is to file for 501(c) status with the Internal Revenue Service. Despite these organizational structures' shared focus on charitable purposes, they have some key differences regarding federal taxation, fundraising and distribution of organizational assets. Also, the group's location may influence the organizational options that are available. When considering which organizational type to pursue, consider consulting with an attorney.

Taxation

L3Cs are allowed to make profits, which are taxable by the IRS. On the other hand, 501(c) organizations generally are not structured to make a profit, which makes them exempt from taxation. These nonprofits include corporations organized by an act of Congress, charitable organizations, civic leagues, labor organizations, business leagues and fraternal societies. A very common organization under 501(c) is the 501(c)(3) entity. A 501(c)(3) is a foundation organized for a religious, charitable or educational purpose. A tax benefit specific to a 501(c)(3) organization is that any contribution it receives is tax deductible for the donor.

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Fundraising

Nonprofit organizations have a wealth of fundraising options, from foundation and governmental grants to donations. As a for-profit organization, an L3C can raise capital by issuing debt or selling shares. However, its benevolent purpose may make it difficult to attract investment. To make up for this, the L3C was structured to obtain program related investments, or PRIs, from private foundations. Nonprofits are generally prevented from investing in for-profit businesses. With approval from the IRS, nonprofit foundations may invest in businesses through PRIs so long as the business in some way promotes the foundations’ charitable purpose. L3Cs are structured to expedite IRS approval for PRIs, and there is a movement to make it so any PRI made to an L3C is automatically approved.

Distributing Organization Assets

Nonprofits are prohibited from distributing its assets to its owners or board members. The proceeds that the nonprofit generates from its activities must be used exclusively for its charitable purpose. In contrast, an L3C is permitted to distribute the proceeds from its activities to its owners.

Adoption of Organizational Form

Since section 501(c) is part of the U.S. Tax Code, any business in the country can apply for that status so long as it meets all requirements. On the other hand, only nine states allow L3Cs: Illinois, Louisiana, Maine, Michigan, North Carolina, Rhode Island, Utah, Vermont and Wyoming. Only organizations in these states can apply for L3C standing.

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Foundation Vs. 501(c)(4)

References

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Rules & Regulations for Non Profit Foundations

Nonprofit foundations that meet certain requirements are eligible for special tax treatment by the IRS under Section 501(c)(3) of the Internal Revenue Code. Donors to such organizations enjoy tax benefits as well. Most nonprofit organizations must apply for 510(c)(3) status before taking advantage of its benefits. Under certain circumstances, however, the IRS may revoke a nonprofit foundation's status.

Rules of Nonprofit Lobbying

The Internal Revenue Code provides rules for nonprofits regarding lobbying and involvement in political campaigning. Categories of nonprofits include those exempt from taxes under 501(c)(3) and those exempt under 501(c)(4). While 501(c)(3) organizations are not entirely restricted from lobbying activities, restrictions apply regarding the amount of money they can spend on these activities. If a nonprofit violates the restrictions imposed by the Internal Revenue Code, it may have to pay excise taxes and its tax-exempt status may be revoked.

What is the Difference Between a 501C3 & 501C4?

Many nonprofit organizations are created for the purposes of providing some benefit to the public. Depending on the specific civic purpose of the organization and its anticipated level of involvement in politics, it may be eligible for a federal income tax exemption under subchapter 501(c)(3) or 501(c)(4) of the Internal Revenue Code. Knowing the eligibly requirements and costs and benefits to each classification will help you determine the best way to register your nonprofit.

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