A Short Guide to Vermont's Nonprofit Corporations Law
As Vermonters, we all feel that special pride when we come together to serve our local communities. Whether it is a charity to help feed the hungry, a school to educate children, or a new religious congregation, the first step in making these activities a reality is the creation of a nonprofit corporation. All around us, nonprofit corporations are making a daily difference in the quality of our lives. While not every nonprofit corporation has a charitable purpose, all nonprofit corporations have one thing in common: they exist to serve the needs of people. This guide is designed to provide insight and answers to some of the basic legal issues involved in creating and operating a nonprofit corporation. Before we dive into the specifics, it is helpful to understand three basic principles:
1. A nonprofit corporation, like any other business entity, is regarded by the law as a "person." Certainly not a human person, but a person nonetheless. By thinking of a nonprofit corporation as a person, it is easier to understand why creating a nonprofit corporation is a matter of legal forms and procedures. The nonprofit corporation must be "born." This is done by filing articles of incorporation and a fee with the Corporations Division of the Secretary of State's Office. By filing the articles of incorporation, you are requesting that a certificate of incorporation be issued. When the Corporations Division issues the certificate of incorporation the nonprofit corporation has a name, birth date, place of business, and the legal status to own property.
2. A nonprofit corporation has to comply with both Vermont tax statutes and the federal government Internal Revenue Service tax statutes. This means that a nonprofit corporation, although born at the Office of the Secretary of State, will need to get from the IRS an "Employer Identification Number." The EIN is the business equivalent of a person's social security number and, like a person's social security number, it is required information when a nonprofit corporation goes about its business. While a nonprofit corporation does not make a profit to share with shareholders as do for-profit corporations, many nonprofit corporations generate income, own property, pay wages, and have bank accounts. All of these activities require that the nonprofit corporation have an EIN.
3. Many nonprofit corporations--but certainly not all--will be granted a special tax exempt status by the IRS and, therefore, the state of Vermont. The most common tax exempt nonprofit corporation is the "501(c)(3) nonprofit corporation." The reference to "501(c)(3)" is a reference to a very significant part of the federal tax laws. It is Section 501, subsection (c)(3), of the Internal Revenue Code. Under this provision of the federal tax law, a person can contribute money to a nonprofit corporation and receive a tax deduction. A nonprofit corporation becomes a 501(c)(3) corporation by first incorporating under Vermont's nonprofit corporations law, and second by applying to the IRS for 501(c)(3) tax exempt status. In a very significant respect, how a nonprofit is incorporated under Vermont state law will determine whether the nonprofit is eligible to obtain 501(c)(3) tax exempt status. Therefore, while Vermont nonprofit law is separate from federal IRS tax law, the two are very much related when it comes to obtaining 501(c)(3) tax exempt status for a nonprofit corporation.
With these three basic principles in mind, lets dive in to some of the more important specific issues which any nonprofit corporation must be aware of. Ultimately, understanding what the law requires is part of the responsibility of organizing and operating a nonprofit corporation.
What is the Vermont Statute that allows for nonprofit corporations?
The law of nonprofit corporations is published in Title 11B of the Vermont Statutes Annotated. The law establishes how to create a nonprofit corporation, and sets forth certain basic principles regarding how a nonprofit corporation operates. While this guide can give you basic information on how to satisfy the law, it is not meant to be a comprehensive explanation of all that is required. If you plan on forming a nonprofit corporation, there is no substitute for a careful reading of Title 11B even if you plan on having professional help from an attorney.
What is a nonprofit corporation?
A nonprofit corporation is a formal organization of people committed to a particular purpose. Purposes may vary, but their basis is some greater good, either of the society as a whole or for a defined community of interest, and not for the individual profit of those involved. Unlike for profit corporations, a nonprofit corporation has no shareholders, and nonprofit corporations do not distribute profits. There are two kinds of nonprofit corporations under state law--public benefit nonprofit corporations and mutual benefit nonprofit corporations.
What is the difference between a public benefit and a mutual benefit nonprofit corporation?
A public benefit corporation is the kind of nonprofit most people think of--it is a charity. The public benefit nonprofit corporation exists to provide a particular public benefit such as a public library, an adult day center, or an arts council. Typically, it is a public benefit nonprofit corporation that will obtain 501(c)(3) tax exempt status from the IRS. In furtherance of its charitable mission, if a public benefit corporation dissolves, then all of its property must go to a another public benefit nonprofit corporation. The Vermont Attorney General has the authority to take a public benefit nonprofit corporation to court to ensure that it is being operated in the public interest.
In contrast, a mutual benefit nonprofit corporation is formed solely for the benefit of its members. An example of a mutual benefit nonprofit corporation is a golf club. Individuals pay to join the club, memberships may be bought and sold, and any property owned by the club is distributed to its members if the club dissolves. The club can decide, in its corporate bylaws, how many members to have, and who can be a member. Generally, while it is a nonprofit corporation, a mutual benefit corporation is not a charity. Because it is not a charity, a mutual benefit nonprofit corporation cannot obtain 501(c)(3) status. If there is a dispute as to how a mutual benefit nonprofit corporation is being operated, it is up to the members to resolve the dispute since the corporation exists to solely serve the needs of the membership and not the general public.
How do you form a public benefit or mutual benefit nonprofit corporation?
The simple answer is that you fill-out a form, entitled "Articles of Incorporation," and file it with the Corporations Division along with the statutory filing fee. A form that is properly completed and includes the filing fee is all that is needed to "give birth" to a nonprofit corporation.
Who completes the Articles of Incorporation form?
The person or persons who complete the Articles of Incorporation form are called the nonprofit corporation's "incorporators." These are the people who have come together to fulfill a public or mutual benefit by means of creating a nonprofit corporation. By completing and signing the form as the incorporators, and after the issuance of the certificate of incorporation, the nonprofit corporation exists under Vermont law. While one incorporator is enough, usually there are more since the incorporators often serve as the nonprofit corporation's initial board of directors. The board of directors are the people who have the legal authority to determine how the nonprofit corporation will fulfill its purpose, including who it employs. The nonprofit corporation will also need a name, and of course the incorporators must also decide whether the nonprofit corporation will be a public benefit or mutual benefit nonprofit corporation.
If you are forming a public benefit nonprofit corporation, and anticipate that the corporation will seek 501(c)(3) tax exempt status from the IRS, then how you fill-out the Articles of Incorporation is extremely significant. The IRS will only grant 501(c)(3) status to nonprofit corporations that function as a charity. This charitable purpose must be stated right in the Articles of Incorporation. There is standard language which achieves this charitable purpose, and the IRS makes this boilerplate language readily available in an extremely helpful IRS publication entitled "Publication 557, Tax-Exempt Status for Your Organization." Publication 557 sets out the mandatory public purpose language that must appear in a nonprofit corporation's Articles of Incorporation if it is to obtain 501(c)(3) tax exempt status. While it is best to get it done right the first time, if a mistake is made in the Articles of Incorporation, it can always be fixed by the filing of an amendment.
What is a proper name for a nonprofit corporation?
Any name will do, as long as it is not the same or similar to, or likely to be confused with, another corporation or business name already registered with the Corporations Division. If the proposed name is the same or similar, then the law requires that the proposed name be rejected in favor of the already registered name. It is a mistake to invest in signs, letterhead, or other emblems using a proposed name before the Corporations Office has issued a certificate of incorporation. You may be disappointed by not getting the first name you want, but it will be especially upsetting if you have spent money on signs or letterhead which can't be used because your first choice of names is already registered.
In addition to coming up with a unique name, the name must include the word "corporation," "incorporated," "company," or "limited," or the abbreviation "corp.," "inc.," "co.," or "ltd." The name cannot use the word "cooperative" or an abbreviation of that word since they are reserved for specialized types of nonprofit corporations.
What is a registered agent and who can serve as one?
A nonprofit corporation's registered agent is the person who accepts service of process of lawsuit papers on behalf of the corporation. The agent accepts service for the corporation. If someone sues the corporation, the papers are given or "served" to the agent. The agent must then let the board of directors know that the nonprofit corporation is being sued. While no one likes to be the one who accepts lawsuit papers, it is important to remember that the registered agent is acting on behalf of the corporation, and in accepting the papers the registered agent is not being sued personally. Any Vermont resident or any legally registered corporation in Vermont may be designated as a registered agent. The agent does not have to be a member or director of the corporation. Each agent maintains a registered office within the state, but that office need not be the principal place of business of the nonprofit corporation. A registered agent may resign at any time by giving written notice to the Corporations Division.
How do I write nonprofit corporate bylaws?
Every nonprofit corporation needs bylaws. The basic rule regarding bylaws is that they cannot conflict with Title 11B or the nonprofit corporation's articles of incorporation. Except for this basic rule, there is wide latitude as to what can be in the bylaws. The bylaws are adopted at the first meeting of the nonprofit corporation's board of directors. The bylaws set forth a wide range of details that relate to the nonprofit corporation's governance and operation. The bylaws address such issues as who is on the board of directors and how long they serve; how a person becomes a member and what are their rights and duties; and when the board of director meetings will be held and how the meetings must be noticed.
Model bylaws are posted on our web site to use as a guide. Each nonprofit corporation is different, so the model bylaws are intended only as an example. Each nonprofit corporation needs to evaluate its mission, consider how it wants to fulfill that mission, and then adopt bylaws which carry out the mission. The good thing is that the bylaws are an internal governance document; bylaws are not filed with the Corporations Division. The bylaws are for the use of the nonprofit corporation and ought to be read and understood by everyone involved. As new board of directors begin their service, it is vital that they read the bylaws. It is the entire board of directors responsibility to keep the bylaw up-to-date in a corporate book which contains the nonprofit corporation's other important documents like the articles of incorporation, certificate of incorporation, and IRS 501(c)(3) approval letter.
How does a nonprofit corporation remain in good standing with the state?
Under the nonprofit corporation statute in Title 11B, there are various ongoing filing requirements, as well as special rules if certain events happen in the "life" of the nonprofit corporation. If these requirements are not met, or certain events happen, then the certificate of incorporation issued to your nonprofit corporation may be revoked. Examples of when a certificate of incorporation may be revoked are: failing to pay fees; failing to file the biennial report with our office; being without a registered agent or registered office in Vermont; failing to notify our office that your registered agent or registered office has been changed; or failing to notify our office that your registered agent has resigned or is deceased.
Another important filing that must be completed to avoid revocation is the timely filing of the nonprofit corporation's biennial report. A nonprofit corporation must file a biennial report the year following its incorporation and then every two years thereafter and include a nominal fee. If the corporation certifies to the Corporations Division that it did not have paid officers, directors, and employees during the prior calendar year, then the fee is waived. A form will be mailed to the nonprofit corporation based upon the information on file with the Corporations Division. Because the form must be filed by a certain date, termination will occur if it is not done in time, regardless of whether the form was mailed to the correct address. (This is why it is so important to keep us apprized of any changes in your corporate mailing address!)
Luckily, the law allows a corporation that fails to file on time to file the missing report along with penalty fees to bring the corporation back into good standing. The state does not return a copy of the filed report so you must remember to keep one for your records.
Can a Board of Director be held liable for the Nonprofit Corporation?
Under Title 11B, Subchapter 3, Standard of Conduct, there are very specific standards of conduct which are required of board of directors. These standards emphasize good faith, ordinary care, and reasonableness, but not perfection. In practice, a board of director who reads Title 11B, reviews the nonprofit corporation's articles of incorporation and bylaws, and performs his or her duties in a timely and reasonable manner will likely be protected from liability under the law. However, a board member that has a question about potential liability should consult with his or her attorney.
In addition, whether a board of director has complied with the Standards of Conduct defined by law is a factual question. While a board of director may ultimately be found not liable in a lawsuit, this does not mean that he or she cannot be sued personally for actions taken as a member of the board of directors. For this reason, many nonprofit corporations purchase directors and officers liability insurance. Although this insurance can be expensive, especially for the start-up public benefit nonprofit corporation, it can be well worth the expense if the nonprofit corporation or one of its board of directors is ever sued.
This guide can be a first step to help you understand what is required to form a non-profit corporation. However, we advise that you consult with an attorney and/or accountant as you draft your articles of incorporation and decide what type of tax status to seek.