Don't be this person.

An email from a prospective client reads like this:

"I am looking for someone to tell me how to start a nonprofit.  I need to put my business degree to work, and I like to help people, so I think that starting a nonprofit would give me the best of both worlds."

Of all the reasons to start a nonprofit, this is the least likely to succeed.

I'm not sure exactly why people think that the best path to financial or professional success is to start a nonprofit, but apparently a lot of them do.

In "Climbing the Ladder to Nonprofit Success" I wrote this:

"How do most nonprofits start? The founders find each other through their mutual interest in a problem."

Notice that nowhere in that quote do I say "to make a living." Not that making a living is a bad thing, but it's not a good reason to start a nonprofit. 

Nonprofits should exist because there is a societal problem that can be addressed on some level by a consortium of people with ideas to solve or mitigate the problem.

There are a lot of pitfalls in starting any business. Finding operating capital for the initial year or two, finding good people to move the business forward, marketing, managing growth, and dealing with setbacks are common to any new venture.

Add in the unique challenges of running a nonprofit, and you can multiply all of those challenges by ten.

In "Climbing the Ladder to Nonprofit Success" I try to give an unvarnished, down and dirty look at the world of startup nonprofits from that first meeting of minds through the next two or three years.  It's still a free whitepaper, and I offer it to anyone who asks for guidance in starting a nonprofit.

I also offer an inexpensive service designed to measure the viability of a specific group or nonprofit idea from a financial and organizational viewpoint.

Those resources aren't going to help win the race if you start from the wrong gate.

The person who wrote that email doesn't understand the differences between the motivation behind a startup for-profit and a nonprofit. I can help someone with either concept, but if they don't start with the right expectations, nothing I say or do is going to overcome that handicap.

Don't be that person. If you need help in deciding between the two business models, give me a shout. I'm happy to help you find the right gate. 

Business planning tip - Calculating payroll costs

When doing financial calculations for a business plan or 1023 application, don't underestimate payroll costs and other government-mandated overhead.

For instance, see the Payroll cost worksheet sample below.

Labor Base Rate (1 employee@ each rate)	Wage or Salary/mo	FICA/SS	401K (or other benefits)	WC Ins (2.65/$100)	SUTA (1.53%)	FUTA .06% of $7000	Health Insurance	Other	Estimated Hrs/mo
$10.00	$1,600.00	$120.48	$90.00	$42.40	$24.48	$42.00	$100.00	$-	160
$11.00	$880.00	$66.26	$45.00	$23.32	$13.46	$42.00	$-	$-	80
$12.00	$1,440.00	$108.43	$67.50	$36.16	$22.03	$42.00	$75.00	$-	120
$13.00	$2,080.00	$156.62	$90.00	$55.12	$31.82	$42.00	$100.00	$-	160
Total annual w/o benefits	$72,000.00

Cost/Mo.	Annual Total Actual Cost	Payroll Overhead
$2,019.36	$24,232.32
$1,070.05	$12,840.58
$1,791.12	$21,493.49
$2,555.57	$30,666.82
	$89,233.20	$17,233.20

I often see clients disregard these costs, or only include part of them when I review projections for business plans or 1023 applications. The overhead significantly increases the cost of labor. In this example, it is 19.3% of your actual payroll costs.

As a rule of thumb, I generally recommend adding at least 20% to your base wage or salary rate for the first year, and increasing the cost by at least 3-4% for subsequent years to allow for wage or tax increases.

If you fail to account for significant mandated costs it will seriously affect your cash flow, selling price of goods or services and your profit margins. If your target adjusted net profit (profit after all expenses and deductions from income) is in the 5-10% range, you can easily see how you could wind up in the red at the end of the year. Coming up with an extra $1436 every month is significant for any new enterprise.

Nonprofits are particularly prone to disregarding the cash flow realities of being in business.  If your cash flow depends on donations and program-focused grants, you MUST allocate funds separate from most grant funding to pay these relatively non-negotiable costs. Typically, these costs are paid from unrestricted donations, and to know your target amount, you must know your needs.

Don't lowball when it comes to estimating other overhead. I once saw a business plan that allowed $500 for an annual financial audit. After checking with a few accounting firms in the area, the actual cost was between $2500 and $3500.

You do yourself no favors by painting the most optimistic picture of your operation. First, it will leave you scrambling to find the money to pay for all the unaccounted-for costs, and second, investors, lenders or grantors will see right through that fog of optimism.

If your target income or revenue won't cover the actual projected expenses, you may have to adjust the target. Raising your selling price of goods might be an option, or adding contracted income from fees could balance the equation.

And yes, there is a chance that you will discover that your business or nonprofit can't generate enough cash under any scenario to stay afloat.

It's far better to know that now, than discover it after you are already deep in debt.

Understanding the language of nonprofits

With all the press about how bad things are, it's comforting to know that we still have a human need to help, to make things better.

A lot of awfully nice people out there want to do really nice things for people. If there is a perceived need, there is almost always someone who wants to fill it, and most of them feel that starting a nonprofit is the way to do that.

Doing those nice things effectively is not so clearly defined.

   

One of the first obstacles that greets many people is understanding what it takes to legally become a tax-advantaged nonprofit.

 

One of the core principles is that any non-profit must operate for the "public" good. The problem is that the term "public" doesn't just mean "for someone's benefit other than the founder(s)."

Benefitting just one person or a few families isn't what the term implies. When used in the strictest legal sense, it means to benefit a class of beneficiaries.  For instance, the class could be low-income children or victims of domestic violence.  The class can be geographically localized, such as low-income children in a specific city, but the mission has to be inclusive enough to have a wide-ranging impact within that geographic border.

Case in point.  One person sees a young person who needs assistance in paying for college, and wants to start a charity to benefit that one person.  That's not "public". It's targeted to that one specific beneficiary. Although the mission is purely philanthropic, it would not qualify to receive tax-exempt status.

Another person sees that low-income children in general have a hard time finding money for college.  The proposed charity is meant to acquire funds to help children in that area immediately, and any subsequent qualifying children going forward in time. Although these children may live within a specific area, such as a city, town or county, the mission is aimed at all of them. The potential area of impact might be a population of several thousand.

The latter is defined as operating in and for the public (general) good.

Another example of a non-qualifying charity would be one that exists to  benefit the founders in some way. One of the most common requests I get is for people who want to generate personal income by starting a charity.

It doesn't work that way. Once you start a charity, any funds collected belong to the public.

For instance, a person owns some undeveloped property and needs to derive income from it.

The person decides to start a charity and rent the land to urban farmers. Although on the face of it  the charity could claim that it was promoting healthy nutrition, the underlying principle is to generate income for the founder. If the rental income is principally used to pay a salary to the property owner, it is not being operated "for the public good"  in the sense that the law intends.

One of the thinnest lines any charity has to walk is the one involving use of funds. Funds have to be used primarily to advance the purpose for which they were collected. An awful lot of the legislation generated around charitable giving is to assure that the "public" derives the maximum benefit from the collected funds. Some states have even proposed legislation requiring charities to spend at least 60-80% of the funds for direct program costs, not administrative funding.

While that doesn't preclude a founder taking a salary from the charity, the salary has to be for the advancement of the mission, not to provide a job for the charity's key personnel.

You can't "sell" a charity or its assets in the way you do personal or traditional business property, i.e. for personal profit. All proceeds have to be used for the "public" good, such as by donating the assets or the proceeds of any sale of them to another charity.

These are just a few of the things that potential nonprofit founders have asked me when contemplating starting a charity of their own.

If you need more information or would like to contact me about your nonprofit plans, drop me a line at rightwords@ida.net.