A fiscal sponsorship involves an existing 501(c)(3) nonprofit offering to provide its tax-exemption and associated benefits to another group, usually a charitable project. The project should generally be aligned with the overall mission of the sponsoring charity.

Donors wishing to support the project give directly to the sponsoring organization, designating their gift to the project. Tax-deductibility of the gift is provided by the fact that the sponsor has 501(c)(3) status.

Fiscal sponsorship is an often-misunderstood and misapplied area of nonprofit operations. But when properly utilized, these arrangements can be beneficial, especially for those being sponsored.

Projects

As mentioned above, charitable projects are a great example of an appropriate use case. Many times these projects are small, community-based activities that are temporary in nature. It makes little sense to go through all of the formality of incorporating at the state level, then applying for IRS 501(c)(3) status, for a project that is expected to wind down within 3 years or less. It could easily take a year or more just to get incorporated and receive an IRS letter of determination.

In such a situation, those managing the project may seek out the assistance of an existing nonprofit to provide fiscal sponsorship. The sponsoring charity will not directly operate the project, but it is responsible for reasonable oversight. As mentioned above, donors to the project give to the sponsor for tax-deductibility, and the sponsor manages those funds on behalf of the project.

Micro-Charities

There’s no universally-accepted definition of a micro-charity. What we mean by that is an ongoing charitable activity that is intended to be operated indefinitely, and is small enough that those operating it would prefer to not formalize their own nonprofit organization. Examples of this could include a married couple moving abroad to operate a religious missions project, or a small neighborhood tutoring program. There are infinitely more possibilities that fiscal sponsorship could benefit.

Not-So-Micro Charities

We would be remiss if we limited the potential benefit of fiscal sponsorship to micro-charities.  Such an arrangement can benefit even larger projects, especially those in which the founders would prefer to focus all their effort on mission, and let someone else handle the tax and compliance concerns.  We’re convinced that many people who start nonprofits would probably have chosen a fiscal sponsorship opportunity had they known it was an option for them.

As An Interim Step for Those Seeking 501(c)(3) Status

Our final use case involves an organization that is actually seeking its own 501(c)(3) status, but wishes to begin operations prior to IRS approval.  This is an often-overlooked opportunity to launch faster than what the process would seem to dictate.  Technically, the IRS doesn’t forbid incorporated nonprofits from operating prior to 501(c)(3) determination, but there is no guarantee of IRS approval.  That translates into much uncertainty with regard to the tax-deductibility of gifts by donors who give before IRS status is granted.  Further, most states require a nonprofit to have 501(c)(3) status prior to initiating ANY fundraising activity.

The solution is fiscal sponsorship.  Founders of a nonprofit can temporarily come under fiscal sponsorship, while the 12-18 month process of finalizing their own status plays out.  It’s a clever strategic move that allows the organization to launch fundraising and operations quickly.

For the Sponsor

The decision by an existing nonprofit to provide fiscal sponsorship services to a group or project is not to be done without careful consideration. Legally, the sponsor is the organization that the project’s donors are financially supporting. There are several important things to keep in mind:

• Regardless of the percentage of designated funds given over to the project, the sponsor is fully responsible for those monies.
• The sponsor receipts the donors for tax purposes.
• The sponsor has some accountability for the actions of the project, varying in degree by the model of fiscal sponsorship used.  Read more below about the specific models of fiscal sponsorship.  Compass Charitable Partners operates under the Model C arrangement.
• The sponsor must have sufficient visibility into the project to ensure it is operating in a manner consistent with 501(c)(3) requirements.
• Money designated to a sponsored project is considered restricted funds.

For the Project

Those operating the project have their end of the bargain to uphold, as well. Factors to consider include:

• In order to benefit from a compliant fiscal sponsorship arrangement, the project is considered subordinate to the sponsor. Even though most sponsors exercise little control over their projects, those operating the projects must understand that they don’t have quite the same level of control as they would if they chose to formalize their own charity.
• Any funds passed through from the sponsor that is used for personal compensation is potentially subject to employment or independent contractor treatment.  This is not a problem, but rather a factor to understand.
• Donations given straight to the project that bypass the sponsor are not tax-deductible and the donor must be alerted to that fact.  A Model F arrangement may be an exception to this rule, but those are rare and complex.
• Should a fiscal sponsor decide for any reason to no longer provide that service to your project, the project no longer has tax-exempt coverage. Most projects in this situation either seek another sponsor or start their own 501(c)(3).

There are many ways to structure fiscal sponsorship arrangements so that they pass legal muster. However, there is a framework that works best to ensure compliance and accountability.

Donor Relations

Acknowledging and thanking donors is essential to continued financial support. Too often, however, sponsors are slow to respond to project supporters. That shouldn’t be. Best practice is for the sponsor to send a written or electronic “thank you” to each donor. It is OK for the project leaders to acknowledge the gift, too, as long as the letter makes clear that the sponsor is the 501(c)(3) providing tax-deductibility for the gift.

Cash Flow

It is perfectly legal for a fiscal sponsor to pass-through, dollar-for-dollar, the money designated by donors to a project. That’s not the best way for a number of reasons, including transparency, accountability, and potential tax issues for those operating the project.

The better way is for the sponsor to set up a fund for each sponsored project. The money is retained in the 501(c)(3) until requested in writing for a specified purpose by the project. Then, funds can be dispersed in a controlled manner for known reasons.

Reporting

The project operators should provide an expenditure accountability report back to the fiscal sponsor, detailing exactly when and for what purposes the money was spent. Because the sponsor is accountable for expenditures, these periodic reports will assist in preparation of the sponsor’s Form 990 at the end of the year. Ideally, the sponsor will provide a template report to the project on a monthly or quarterly basis. Annual reporting can work, but doesn’t provide the visibility truly necessary for compliant oversight.

Fiscal sponsorships that are properly operated fall within one of several different models.

Fiscal sponsorships are a great way for temporary or smaller charitable projects…or even larger ones…to operate with most of the same benefits available to organizations with 501(c)(3) status. Properly structured, all parties can be well-served, from the donor, to the project, to the sponsor themselves.  It’s a great model for effective charitable work that is vastly under-utilized.