Starting a nonprofit or charitable project is an exciting journey, full of potential to make a real impact. But it can also feel overwhelming when you hit the roadblocks of legal requirements and the process of securing tax-exempt status. It’s a lot to handle when all you want to do is focus on your mission.
That’s where fiscal sponsorship comes in. It offers a helpful shortcut for new projects or organizations by allowing them to work under the umbrella of an existing tax-exempt nonprofit. This means you can receive donations and apply for grants without having to go through the time-consuming and complicated process of obtaining your own 501(c)(3) status.
In this post, we’ll explore the ins and outs of fiscal sponsorships, the benefits they offer, and what both the sponsoring organization and the sponsored project need to know to make it work smoothly.
I. What is Fiscal Sponsorship?
Fiscal sponsorship is a partnership where a tax-exempt organization (known as the sponsor) helps another group or project (called the sponsored organization) that doesn’t yet have its own tax-exempt status. The sponsor agrees to receive and manage donations or grants for the sponsored organization, and pass those funds on to the sponsored organization while ensuring those funds are used properly for charitable purposes. This arrangement allows the sponsored organization to operate and raise money without going through the lengthy process of becoming a tax-exempt nonprofit themselves.
Imagine a group of community members wants to start an after-school tutoring program but doesn’t have a nonprofit set up yet. They reach out to a local educational foundation that already has tax-exempt status. The foundation agrees to be their fiscal sponsor. This means any donations or grants meant for the tutoring program are made to the foundation, which then oversees the funds and passes them along to the group to run their program. The public can donate to the foundation which will carry and then pass on the funds to the community organization, and in return, the foundation ensures the funds are used properly and may charge a small administrative fee.
In sum, a fiscal sponsorship allows:
- Non-exempt sponsored organization receive tax-deductible donations from the public;
- Provide donors tax-deductible donations by donating funds to the sponsor;
- Apply for grants from foundations or government agencies;
- Avoid the administrative burden of becoming a fully-fledged nonprofit entity;
- Sponsored organizations can receive tax-deductible donations and apply for grants;
- Sponsor organizations can focus on their mission rather than nonprofit governance and compliance;
- Fiscal sponsorships are particularly useful for short-term projects or one-time initiatives that don’t warrant the creation of a permanent nonprofit.
While fiscal sponsorship is incredibly useful, it’s important to understand that it’s not just a “pass-through” arrangement. Sponsors must maintain oversight to ensure the funds are used in line with their charitable purposes and legal requirements.
II. Key Responsibilities in a Fiscal Sponsorship
The Sponsor’s Role:
The fiscal sponsor holds significant responsibility, acting as the legal and financial gatekeeper for the sponsored project. According to IRS guidelines, the sponsor must ensure that the funds are used for charitable purposes aligned with their tax-exempt mission.
- Oversight: Sponsors must maintain sufficient oversight to ensure funds are used appropriately. This can be achieved through regular reporting and financial reviews, control and approval of activities the funds are used on.
- Control: The sponsor must retain complete discretion and control over the use of funds. They cannot simply act as a conduit for donations.
- Accountability: The sponsor is responsible for ensuring compliance with both IRS regulations and the terms of the fiscal sponsorship agreement.
The Sponsored Organization’s Role:
The sponsored project or organization agrees to operate under the sponsor’s tax-exempt umbrella and comply with its oversight requirements.
- Reporting: Regular updates and financial reports are often required to demonstrate that funds are being used appropriately. If the parties prefer a reimbursement model, processes for submitting and getting expenditures approved are a must.
- Approval for Activities: The sponsored organization typically needs to get approval for specific activities to ensure they align with the sponsor’s mission. Many times these can be set out in project scope.
- Fee Structure: In exchange for these services, sponsors often charge an administrative fee, either as a fixed rate or a percentage of the funds.
III. Types of Fiscal Sponsorships
There are several models of fiscal sponsorship, but the two most common include:
- Model A (Comprehensive Fiscal Sponsorship): The sponsor takes full responsibility for the project, including legal, financial, and employment obligations. The project is treated as an internal program of the sponsor.
- Model C (Pre-Approved Grant Relationship): In this model, the sponsored organization remains separate but receives grants from the sponsor for specific projects. The sponsor maintains oversight but does not take on the project as part of its own operations.
Other types of fiscal sponsorships can include Model B (Direct Project Fiscal Sponsorship), where the sponsor oversees the project but allows for greater independence in management, and Model D (Independent Contractor Model), where the sponsored organization operates as an independent contractor while the sponsor manages the financial aspects. Each model varies in terms of the level of control and involvement by the sponsor, and the choice of model depends on the needs and structure of both the sponsor and the sponsored organization. Understanding these options allows organizations to select the model that best fits their goals and operational style while ensuring compliance with legal and tax-exempt requirements.
IV. Best Practices for Fiscal Sponsorship Agreements
For fiscal sponsorships to work smoothly, the agreement between the sponsor and the sponsored organization must be well-structured. Some key elements to include are:
- Project Description and Charitable Purpose: Clearly outline the scope of the project and how it aligns with the sponsor’s charitable mission. Being thorough up front on approved activities can reduce the burden for both parties by avoiding additional submissions, reviews, and approvals for fund usage.
- Reporting Requirements: Define how often financial and project reports must be submitted. The sponsored organization should report on a schedule agreed upon in the contract—typically quarterly or semi-annually. Reports should include key metrics that measure the success of the project and ensure funds are being used for the proper charitable purposes.
- Approval of Activities: Establish guidelines for which activities need pre-approval to ensure alignment with the sponsor’s exempt purposes. The primary limitation of fiscal sponsorship is that the sponsored organization must use the funds in accordance with the sponsor’s charitable purposes. Clear guidelines on what requires approval can streamline operations and avoid delays.
- Fund Disbursements: Set a schedule for fund disbursements and determine whether a reimbursement model or grant-like disbursements will be used. Typically, fund disbursements follow a reimbursement model, where the sponsored organization submits expenses or requests for funds based on actual expenditures. Alternatively, disbursements can be scheduled in advance, allowing the sponsor to maintain control without having to approve each expense.
- Administrative Fees: Administrative fees are retained by the sponsor to cover costs associated with account management, reporting, and oversight. Fees usually range between 5% to 15% of the funds transferred to the sponsored organization. The sponsored organization should ensure they are receiving adequate services, such as financial management and compliance oversight, in exchange for the fees retained by the sponsor.
- Termination Provisions: Including details on the end of the relationship is just as important as setting out the initial terms. The agreement should include final reporting and accounting requirements to ensure that all funds have been properly disbursed and accounted for. This ensures compliance with tax reporting and closes the relationship on clear terms.
Conclusion
Fiscal sponsorships offer an invaluable way for emerging projects and organizations to access funding and operate under the umbrella of a tax-exempt entity without the complexities of forming their own nonprofit. With a well-structured agreement in place, both the sponsor and the sponsored organization can ensure a smooth partnership that benefits all parties involved. By clearly defining project purposes, reporting requirements, fund disbursements, and administrative fees, fiscal sponsorships allow organizations to focus on their mission while enjoying the financial and legal advantages of tax-exempt status. Whether you’re just starting a charitable project or looking to streamline your operations, a fiscal sponsorship can be a powerful tool to help achieve your goals.
This blog is for general information purposes only and should not be relied upon as specific legal advice. This article, or contacting Apex, does not in any way form an attorney-client relationship. If you have any questions or would like to learn more, please contact us or visit our blog.