How to Form and Operate a California Mutual Benefit Nonprofit

How to Form and Operate a California Mutual Benefit Nonprofit

California nonprofit mutual benefit corporations make up many of California’s business leagues, trade or professional associations, fraternal societies, homeowners’ associations and social clubs. This article explores why a mutual benefit corporation might make sense for your organization and what you need to do to form one.

What is a California nonprofit mutual benefit corporation?

A California nonprofit mutual benefit corporation is a legal entity incorporated in California and governed by the California Nonprofit Mutual Benefit Corporation law.​ It is a corporation, meaning that it exists as an entity separate from its founders and managers, it has independent filing requirements with federal and state authorities (described more below), it provides limited liability protection for its directors, officers, members and other agents, and it can enter into contracts and obligations on its own behalf.

A nonprofit mutual benefit corporation is set up for the benefit of its members. Often groups of individuals or businesses seeking to advance a common goal will establish this type of corporation. For example, a homeowners’ association, a chamber of commerce, a fraternal society or a social club will likely choose a nonprofit mutual benefit corporation as their entity of choice.

Two of the major factors that distinguish a nonprofit mutual benefit corporation from other types of nonprofit and for profit corporations are the following:

  • The assets of the corporation can only be distributed to members upon dissolution of the corporation, not during its operation.
  • It can be established for any lawful purpose and is not limited to charitable or public purposes.

To clarify, a for profit corporation can distribute its assets to its shareholders during the course of its operations, for example through dividends. This encourages investment in the corporation and provides the opportunity for a return on investment for shareholders. A nonprofit mutual benefit corporation can only distribute its assets upon dissolution.

A nonprofit public benefit corporation is a type of nonprofit corporation usually used by organizations such as charities, schools and hospitals with tax exempt status under section 501(c)(3) of the Internal Revenue Code. It must be formed for charitable or public purposes. If a nonprofit mutual benefit corporation is formed for such purposes, it is in violation of the laws that govern it and should restructure itself as a public benefit corporation.

How is a nonprofit mutual benefit corporation governed?

Like all corporations, a nonprofit mutual benefit corporation is governed by its Board of Directors. The Board has ultimate responsibility for the actions of the organization and elects officers - a President, a Secretary and a Treasurer, at a minimum - to perform the fundamental tasks of the corporation.

A nonprofit mutual benefit corporation may also have a larger membership in addition to its board of directors. For example, these may be the businesses or professionals who benefit from the activities of the organization. The corporation may be established to allow these members to vote on certain decisions of the corporation, most importantly the election of the board of directors, just as shareholders vote in a for profit corporation. This is not legally required. Many mutual benefit corporations choose to have a non-voting membership that has access to other benefits such as a newsletter, special discounts, invitation and access to certain events, but no governance authority.

When does it make sense for my organization?

Here are some reasons you may want to form a nonprofit mutual benefit corporation:

  • The purpose of your organization is not profit, but to mutually benefit your members.
  • Members are interested in your organization not as a financial investment but meet and join others to advance a common goal, such as improving a business community, setting up a farmers market, sharing a love of a sport, or just enjoying each others’ company.
  • Your organization wants to apply for exemption from federal and state income and/or franchise taxes under Sections 501(c)(6), 501(c)(7), 501(c)(8) or 501(c)(10) of the Internal Revenue Code and the equivalent section of a state revenue law.
  • Your organization is not established for a charitable or public purposes but would benefit from the “nonprofit” brand.

How do I form a mutual benefit corporation?

Once you have decided that the nonprofit mutual benefit corporation type is the best for your organization, you can follow the following steps to form and begin operations.

  • Gather an initial group of potential board members willing and able to engage in the governance of your organization.
  • Develop a general plan for the operation of the nonprofit. This should include who will be the managers of the organization, who will be the members and what benefits the nonprofit will provide them, whether you want a voting membership, what will be the main activities of the nonprofit and what will be its main revenue sources and the main expenses.
  • Prepare and submit Articles of Incorporation. Ensure that those Articles are in compliance with the requirements for Articles of a Nonprofit Mutual Benefit Corporation.
  • Draft Bylaws for the corporation in compliance with California law. These bylaws will govern the management of the nonprofit and address whether there is a voting membership, how decisions will be made, how the Board will be elected, what officers the nonprofit will have and what record-keeping and reporting requirements apply.
  • Hold the first meeting of the board, adopt the bylaws, elect the officers, determine principal office, establish accounting year and take other appropriate board actions.
  • Set up a corporate records book.
  • Apply on-line and obtain an employer identification number.
  • Open a bank account.
  • File the first Statement of Information from with the California Secretary of State.
  • File for tax exempt status with the Internal Revenue Service.
  • File for tax exempt status with the California Franchise Tax Board.
  • Establish procedures to make required periodic filings with the Internal Revenue Service, the California Franchise Tax Board and the California Secretary of State.

What are some of the ongoing operational issues that I should be aware of?

Ensure the nonprofit is up to date with its federal and state filings.​

Failure to file may eventually result in loss of exempt status. The main filing to be aware of are:

Monitor the nonprofits transactions to spot potential conflicts of interest.

When a nonprofit engages in a financial transaction with an interest person (including members of the board), it can result in liability for both the nonprofit and the interested party. Be sure to have all board members and officers be aware of the rules in this area and annually sign a conflicts statement.

Properly report any unrelated business income.​

If the nonprofit is going to engage in any commercial activity that is ongoing and not related to its exempt purpose (such as a coffee shop or advertising in its newsletter), it needs to pay tax on the income from that activity.

Ensure compliance with political campaign and lobbying rules governing the nonprofit.​

If the nonprofit engages in political campaigning and/or lobbying, it should ensure that it is aware of and in compliance with the regulations that govern such activities.

Act like a corporation.​

In order for the board to maintain the liability protection of the corporate structure, it has to act like a board - meet regularly, be engaged and keep minutes. This will be important for the success of the nonprofit as well as to protect board members from personal liability with respect to their activities on the board.

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