Jen: This is the PKF Texas Entrepreneur’s Playbook. I’m Jen Lemanski, and I’m back again with Annjeanette Yglesias, one of our tax managers and a member of our not-for-profit team. Annjeanette, welcome back to the playbook.

Annjeanette: Hi, Jen, it’s nice to be here.

Jen: So, we’ve talked a lot about different not-for-profit topics, and what are some options for families that are looking to invest?

Annjeanette: Family philanthropy is a really hot topic, especially here in Houston with all the opportunities and wealth in the city. Typically, when we talk about family philanthropy, two things come up: private foundations and donor advised funds.

Jen: Is there a difference between the two, I’m assuming? And what is that difference?

Annjeanette: A private foundation is a separate legal entity. It’s a 501(c)(3) organization that has its own tax filings and its own set up process, etc. But a donor advised fund is just an account that is set up at a 501(c)(3) organization that a donor can contribute to and then suggest grants be made out of.

Jen: How would a family decide which option is best for them?

Annjeanette: There’s a lot of things to consider when deciding which vehicle is the best. Is a private foundation the best for a certain family to use or is a donor advised fund the best?

There are several considerations, but one of the most important considerations is the administrative tasks that go into maintaining each of these types of vehicles. A private foundation is going to be more responsibility on the donor family, because they’ll have to maintain the accounting records, make sure that tax filings are made and, most importantly, administer the grant programs. With a donor advised fund, on the other hand, all the donor family does is contribute money to the donor advised fund, and the sponsoring organization takes care of the rest. It takes care of maintaining the funds, filing the appropriate forms, things like that. So that’s definitely one consideration.

Another consideration is setup time. A private foundation has to be established as a legal entity first, and then get its 501(c)(3) status from the IRS, and then it can go forth and start doing grant programs. That process can take up to six months—maybe a year—depending on how fast the paperwork gets through the system, but a donor advised fund can be set up within a week. It’s basically minimal paperwork, because the entity itself—the 501(c)(3)—is already created. You’re just setting up a donor advised fund, which is an account within that organization.

Jen: Perfect. It sounds like they need to talk with you if they need some advice on which would be best to meet their goals, right?

Annjeanette: Exactly. It’s important to have a conversation with a tax advisor, because families have different goals, charitable goals and family goals. There’s different succession planning that has to be discussed, and also, most importantly, is what assets are going to be used to fund these vehicles. Those are the types of things that we can help clients with.

Jen: Perfect. We will get you back to talk about a little bit more.

Annjeanette: That sounds good.

Jen: To learn more about how PKF Texas can help your not-for-profit organization, visit PKFTexas.com/NotForProfit. This has been another Thought Leader Production brought to you by PKF Texas The Entrepreneur’s Playbook. Tune in next week for another chapter.

Churches, synagogues, mosques and other religious congregations aren’t required to file tax returns, so they might not regularly hire independent accountants. But regardless of size, religious organizations often are subject to other requirements, such as paying unrelated business income tax (UBIT) and properly classifying employees.

Without the oversight of tax authorities or outside accountants, religious leaders may not be aware of all requirements to which they’re subject. This can leave their organizations vulnerable to fraud and its trustees and employees subject to liabilities.

Common Vulnerabilities
To effectively prevent financial and other critical mistakes, make sure your religious congregation complies with IRS rules and federal and state laws. In particular, pay attention to:

  • Employee classification. Determine which workers in your organization are full-time employees and which are independent contractors. Depending on many factors, such as the amount of control your organization has over them, their responsibilities, and their form of compensation, individuals you consider independent contractors may need to be reclassified as employees.
  • Clergy wages. Most clergy should be treated as employees and receive W-2 forms. Typically, they’re exempt from Social Security taxes, Medicare taxes and federal withholding but are subject to self-employment tax on wages. A parsonage (or rental) allowance can reduce income tax, but not self-employment tax.
  • UBIT. If your organization regularly engages in any type of business activity that’s unrelated to its religious mission, be aware of certain tax and reporting rules. Income from such activities could be subject to UBIT.
  • Lobbying. Your organization shouldn’t devote a substantial part of its activities in attempting to influence legislation. Otherwise you might risk your tax-exempt status and face potential penalties.

Trust and Protect
Faith groups can be particularly vulnerable to fraud because they generally foster an environment of trust. Also, their leaders may be reluctant to punish offenders. Just keep in mind that even the most devout and long-standing members of your congregation are capable of embezzlement when faced with extreme circumstances.

To ensure employees and volunteers can’t help themselves to collections, require that at least two people handle all contributions. They should count cash in a secure area and verify the contents of offering envelopes. Next, they should document their collection activity in a signed report. For greater security, encourage your members to make electronic payments on your website or sign up for automatic bank account deductions.

Seek Expertise
Although your religious congregations are subject to less IRS scrutiny than even your fellow not-for-profit organizations, that doesn’t mean you can afford to ignore financial best practices. Contact your advisors for guidance.

You can’t serve the needs of your not-for-profit’s members unless you know what those needs are. Many organizations take the pulse of their membership with regular surveys but fail to conduct them strategically — and end up with useless information.

Instead, maximize your next survey’s effectiveness by focusing on your objectives during every stage of the process:

1. Define. Do determine exactly what you want to learn. Keep a clear focus and sense of purpose. Don’t ask members for information you can’t or won’t use. You must be prepared to take action based on the results of your survey.

2. Design. Do determine format (multiple choice or open-ended questions, or both) and medium (print or online) upfront. Do make sure your questions are as clear and specific as possible. Overly broad queries can result in too wide a range of answers to be actionable. Use consistent scales, avoid confusing terms and keep questions short and to the point. Don’t ask for demographic information unless it’s useful and actionable. People value their privacy and are more likely to provide honest answers when they remain anonymous.

3. Deploy. Do explain how you plan to use the results. Do set a deadline for responses and send reminders. Don’t email surveys on a weekend. People tend to pay more attention when information is received midweek.

4. Discuss. Do relay survey results to participants along with your action plan, sharing as much information as possible. Don’t wait long periods before compiling and distributing results. If you fail to communicate at this stage, people will be less likely to help in the future.

5. Demonstrate. Do use survey results to enact positive changes that will better serve your members. Regularly reassess your action plan to ensure the changes are effective. Don’t forget to keep participants informed of your progress. Link your actions to survey results so that your membership knows you’re accountable, responsive and actively engaged in meeting their needs.

Jen: This is the PKF Texas Entrepreneur’s Playbook. I’m Jen Lemanski, and I’m back again with Annjeanette Yglesias, one of our tax managers and a member of our not-for-profit team. Annjeanette, welcome back to The Playbook.

Annjeanette: Thanks, Jen. It’s good to be here.

Jen: So, tax manager, tax reform is a hot topic this year. How has it impacted not-for-profit organizations?

Annjeanette: It’s interesting, because tax reform has been a hot topic, and the tax reform has some direct impacts for nonprofit organizations, as well as some indirect impacts, because a lot of nonprofit organizations receive their funding from the general public.

Jen: So, what are some of the direct impacts not-for-profits have seen?

Annjeanette: Well, tax reform affected nonprofit organizations in several ways. First of all, with unrelated business income, or UBI. UBI activities were previously allowed to offset each other. The losses from one could offset the income from another, and so you had a netting effect.

But now with tax reform, the IRS is requiring that all UBI activities must be reported individually. So that benefit – there is no longer available. Also, under tax reform, the UBI tax rate has been lowered to 21%. Previously it was a graduated scale with the highest tax bracket being 35%.

Jen: Oh my gosh. So that’s a good thing?

Annjeanette: Absolutely a good thing. But there are also some more negative things that came out of tax reform as well. For example, the IRS is now imposing a 21% excise tax on compensation of covered employees over $1 million.

Jen: Oh my gosh.

Annjeanette: So basically, that portion of an employee’s compensation that exceeds $1 million, the nonprofit organization will have to pay a 21% excise tax on that.

Jen: Oh my gosh.

Annjeanette: In addition, there’s a 1.4% net investment income tax now imposed on certain educational institutions, like private colleges and universities. So, that’s something else to think about.

Jen: Now, are there any indirect aspects? You mentioned that earlier.

Annjeanette: Yes, absolutely. Because of the nature of nonprofit organizations, how they receive a lot of their funds from the general public, there are several provisions in tax reform that affected the general public – namely individuals. So, individuals now have a little bit of a decreased incentive to donate to nonprofit organizations, because even though the individual income-based limitation increased to 60%, the standard deduction has now doubled. So, the incentive for an individual to make a donation to a nonprofit organization has been substantially reduced.

Jen: Well, great. Well, we’ll get you to talk some more about tax reform and not-for-profits, and we’ll have you back again.

Annjeanette: Sounds good.

Jen: To learn more about how PKF Texas can help your not-for-profit organization, visit PKFTexas.com/notforprofit. This has been another Thought Leader production brought to you by PKF Texas The Entrepreneur’s Playbook.

Communication breakdowns between a not-for-profit’s accounting and development departments can lead to confusion, embarrassment and even financial problems. Here are three ways your organization can facilitate cooperation between these two critical functions.

1. Recognize Differences
Accounting and development typically record their financial information differently, which is why they can produce numbers that vary but nonetheless are both correct. Development may use a cash basis of accounting, while accounting records contributions, grants, donations and pledges in accordance with Generally Accepted Accounting Principles (GAAP).

Let’s say a donor makes a payment in March 2018 on a pledge made in December 2017. The development department will enter the amount of the payment as a receipt in its donor database in March. But accounting will record the payment against the pledge receivable that was recorded as revenue when the pledge was made in December. Receipt of the check won’t result in any new revenue in March because the accounting department recorded the revenue in December. Both departments’ figures for March 2018 (and for December 2017) will be accurate, but they’ll disagree with each other.

2. Establish Policies and Procedures
Your not-for-profit should try to reconcile its accounting and development schedules at least monthly. It also needs clear protocols for communicating important activity — or both departments, and your organization, could experience negative consequences.

If, for example, development fails to inform accounting about grants on a timely basis, the latter won’t be aware of the grants’ financial reporting requirements and could forfeit funds for noncompliance. If the accounting department doesn’t record grants or pledges in the proper financial period according to GAAP, your organization could run into significant issues during an audit, which could jeopardize funding.

3. Require Regular Communication
Schedule meetings so that accounting representatives can educate development staff about the information it needs, when it needs it and the consequences of not receiving that information. For its part, development should provide accounting with ample notice about prospective activity such as pending grant applications and proposed capital campaigns.

Development should also present status reports on different types of giving, including gifts, grants and pledges. This is especially important for those items received in multiple payments, because accounting may need to discount them when recording them on the financial statements.

Two-way Road
The activities of your accounting and development departments directly affect each other, so careful coordination is essential.

Jen: This is the PKF Texas Entrepreneur’s Playbook. I’m Jen Lemanski, and I’m back again with Annjeanette Yglesias, one of our tax managers and a member of our not-for-profit team. Annjeanette, welcome back to the Playbook.

Annjeanette: Thanks, Jen. It’s good to be here.

Jen: So, not-for-profit… you work with different organizations, and I think the most popular type of not-for-profit organization is 501(c)(3), correct?

Annjeanette: Yes, that’s correct. There are over 30 different types of nonprofit organizations, according to the internal revenue code, and 501(c)(3) organizations are definitely the most popular. Those organizations have purposes for educational, scientific, religious, prevention of cruelty to animals—those types of organizations fall within 501(c)(3).

Jen: So, are there any limitations that we need to be aware of for not-for-profit organizations?

Annjeanette: Well, that really depends. 501(c)(3) organizations can fall into two categories: either a public charity or a private foundation. Private foundations definitely have more restrictions associated with them than public charities do.

Jen: So, there’s different tax rules for each type of entity, correct?

Annjeanette: That’s correct, and the tax rules depend on whether the 501(c)(3) is a public charity or a private foundation, because private foundations have more restrictive activity rules than public charities do.

Jen: And what type of restrictions are there?

Annjeanette: For example, the IRS requires that private foundations distribute a certain amount of their funds annually, and, also, private foundations are subject to a 1% to 2% excise tax on their net investment income. Those two rules are not applicable to public charities. Also, private foundations are restricted in the amount of voting stock that they can hold in a private company, as well as there are several rules that the IRS imposes regarding self-dealing and self-dealing really deals with substantial contributors and any interested persons of the organization.

Jen: So, does the 990 come into play? I would assume that they know the different limitations, but that’s where they call you, right?

Annjeanette: That’s right. If any organization has a question on if they have to follow any of these restrictions, they can certainly call us, and we can walk them through it.

Jen: Perfect. Well, it sounds like there’s a lot more to talk about, and we’ll get you back.

Annjeanette: Sounds good.

Jen: To learn more about how PKF Texas can help your not-for-profit organization, visit PKFTexas.com/notforprofit. This has been another Thought Leader production brought to you by PKF Texas The Entrepreneur’s Playbook. Tune in next week for another chapter.

The commerciality doctrine was created along with the operational test to address concerns over not-for-profits competing at an unfair tax advantage with for-profit businesses. But even business activities related to your exempt purpose could fall prey to the commerciality doctrine, resulting in the potential loss of your organization’s exempt status.

Several Factors Considered
The operational test generally requires that a not-for-profit be both organized and operating exclusively to accomplish its exempt purpose. It also requires that no more than an “insubstantial part” of its activities further a nonexempt purpose. Your organization can operate a business as a substantial part of its activities as long as the business furthers your exempt purpose.

But under the commerciality doctrine, courts have ruled that some organizations’ otherwise exempt activities are substantially the same as those of commercial entities. They consider several factors when evaluating commerciality, including:

  • Whether an organization has set prices to maximize profits,
  • The degree to which it provides below-cost services,
  • Whether it accumulates unreasonable reserves,
  • The use of commercial promotional methods such as advertising,
  • Whether the business is staffed by volunteers or paid employees,
  • Whether it sells to the general public, and
  • The extent to which the not-for-profit relies on charitable donations. (They should be a significant percentage of total support.)

No single factor is decisive for courts or the IRS.

Possible UBIT Issues
There’s another risk for not-for-profits operating a business. You could pass muster under the commerciality doctrine but end up liable for unrelated business income tax (UBIT).

Revenue that a not-for-profit generates from a regularly conducted trade or business that isn’t substantially related to furthering the organization’s tax-exempt purpose may be subject to UBIT. Much depends on how significant the business activities are to your organization as a whole. There are also several exceptions.

Seek Advice First
If you’re thinking about launching a new business to drum up additional revenues, consult your advisors first. They can help reduce the risk that your organization will run into potential exemption or UBIT issues.

Done well, delegation allows not-for-profit executives to focus on their most important tasks, helps to build bench strength and gets staffers out of the office before midnight. But done poorly, it can create more burdens than it eases. Here are five practices all not-for-profit leaders should adopt.

1. Choose Tasks Wisely
Always try to devote your time to the projects that are the most valuable to your organization and can best benefit from your talents. On the other hand, delegate tasks that frequently reoccur, such as sending membership renewal notices, or tasks that require a specific skill in which you have minimal or no expertise, such as reconciling bank accounts.

2. Pick the Right Person
Before you delegate a task, consider the person’s main job responsibilities and experience and how those correlate with the project. However, keep in mind that employees may welcome opportunities to test their wings in a new area or take on greater responsibility. Be sure to consider staffers’ schedules and whether they actually have time to do the job well.

3. Perfect the Handoff
When handing off a task, be clear about the goals, expectations, deadlines and details. Explain why you chose the individual and what the project means to the organization as a whole. Also let the employee know if he or she has any latitude to bring his or her own methods and processes to the task. A fresh pair of eyes might see a new and better way of accomplishing it.

4. Keep in Touch — to an Extent
Delegation doesn’t mean dumping a project on someone else and then washing your hands of it. Ultimately, you’re responsible for the task’s completion, even if you assign it to someone else. So stay involved by monitoring the employee’s progress and providing coaching and feedback as necessary. Remember, however, there’s a fine line between remaining available for questions and micromanaging.

5. Acknowledge the Help
A good delegator never takes credit for someone else’s work. Be sure you generously — and publicly — give credit where credit is due. This could mean verbal praise in a meeting, a note of thanks in a newsletter or a letter to the person’s manager. If the project’s size and scope warrant it, consider offering extra time off or a special gift.

Fiscal sponsorships occur when an established charity provides a kind of legal and financial umbrella to a charitable project that lacks 501(c)(3) status. This type of arrangement can benefit both groups. But before agreeing to be a sponsor, be sure you understand how these arrangements work and the risks involved.

Mutually Beneficial
In a fiscal sponsorship, the 501(c)(3) sponsor is legally responsible for the charitable project. It acts as employer to the project’s paid workers and manages all of its funds. Donations and grants are made directly to the fiscal sponsor, thus qualifying their donors for a charitable deduction (if the donors itemize deductions and other applicable requirements are met).

It’s easy to see why small charitable projects seek fiscal sponsorships. Such relationships can provide much-needed infrastructure and fiscal management to a project. By making it possible to receive charitable donations, sponsorships can make more funds available. Plus, associating with an established charity can enhance the project’s credibility.

These arrangements benefit sponsors, too. A sponsorship can provide greater exposure for the 501(c)(3) organization, possibly resulting in new donors for established programs. When you choose a project that shares your mission and basic objectives, it can enhance your own program offerings with minimal monetary outlay. Although a sponsorship isn’t intended to be a source of income for the sponsor, nonprofits often charge a nominal fee to offset their overhead costs.

Prime Candidates
Projects that can best benefit from a fiscal sponsorship generally include those that are:

  • Too small to have staff or much infrastructure,
  • Temporary or periodic,
  • Waiting to secure 501(c)(3) status, but that want to operate sooner, or
  • Based outside the United States.

When you find a good candidate, make sure you thoroughly discuss each partner’s expectations and roles. Mutually agree on start and termination dates and decide which group will make decisions about what. Because nothing causes conflict like money issues, be sure to decide on the sponsorship charge (up to 10% is typical), how disbursements will be handled and who will handle audit and reporting requirements.

Both parties must understand the key responsibilities in the relationship. First and foremost, the fiscal sponsor is responsible because the project and its sponsoring nonprofit are legally one entity.

Consult Advisors
Keep in mind that any fiscal sponsorship involves some risk to your organization’s finances and reputation. So it’s important to discuss your plans with legal and financial advisors before entering into one of these arrangements.

How efficient is your not-for-profit? Even tightly run organizations can use some improvement — particularly in the accounting area. Adopting the following six tips can help improve timeliness and accuracy.

  1. Set cutoff policies. Create policies for the monthly cutoff of invoicing and recording expenses — and adhere to them. For example, require all invoices to be submitted to the accounting department by the end of each month. Too many adjustments — or waiting for different employees or departments to turn in invoices and expense reports — waste time and can delay the production of financial statements.
  2. Reconcile accounts monthly. You may be able to save considerable time at the end of the year by reconciling your bank accounts shortly after the end of each month. It’s easier to correct errors when you catch them early. Also reconcile accounts payable and accounts receivable data to your statements of financial position.
  3. Batch items to process. Don’t enter only one invoice or cut only one check at a time. Set aside a block of time to do the job when you have multiple items to process. Some organizations process payments only once or twice a month. If you make your schedule available to everyone, fewer “emergency” checks and deposits will surface.
  4. Insist on oversight. Make sure that the individual or group that’s responsible for financial oversight (for example, your CFO, treasurer or finance committee) reviews monthly bank statements, financial statements and accounting entries for obvious errors or unexpected amounts. The value of such reviews increases when they’re performed right after each monthly reporting period ends.
  5. Exploit your software’s potential. Many organizations underuse the accounting software package they’ve purchased because they haven’t learned its full functionality. If needed, hire a trainer to review the software’s basic functions with staff and teach time-saving shortcuts.
  6. Review your processes. Accounting systems can become inefficient over time if they aren’t monitored. Look for labor-intensive steps that could be automated or steps that don’t add value and could be eliminated. Often, for example, steps are duplicated by two different employees or the process is slowed down by “handing off” part of a project.