Fiscal sponsorships are a popular way for new nonprofit organizations or temporary projects to attract tax-deductible donations or secure grants that require 501(c)(3) status. However, the IRS has specific requirements that must be met to qualify as a fiscal sponsorship. That’s why organizations need to understand the difference between fiscal sponsorship and fiscal agency so that funds solicited under a sponsorship maintain their tax-deductible characterization.
Fiscal sponsorship is an arrangement that allows a nonprofit or program that doesn’t have tax-exempt status to benefit from the 501(c)(3) tax-exempt status of a sponsoring organization for any funds that are accepted under the sponsorship agreement.
Under a fiscal sponsorship arrangement, the exempt sponsor can accept funds restricted for the purpose of the sponsored project on the project’s behalf. The sponsor, in turn, accepts the responsibility to ensure the funds are properly spent to achieve the project’s goals. A key requirement of the sponsorship is that the sponsoring organization retain ultimate discretion and control over the use of the funds. That is, if the sponsor does not believe the project is achieving the project’s goals or complying with restrictions for charitable funds, the sponsor can work with another group to accomplish the project’s goals or directly pursue the work.
This arrangement is useful for new charitable endeavors that want to test the waters before deciding whether to form an independent entity. It’s also helpful for temporary projects or coalitions looking for a neutral party to administer their funds.
The fiscal sponsor will often perform administrative functions for the project or organization that are incidental to the fiscal sponsorship, such as receiving funds and providing back-office support. Because of this, fiscal sponsors typically charge a project fee of 5-10% of funds raised under the sponsorship to cover their costs.
A fiscal agency refers to an arrangement with an established charity that has 501(c)(3) tax-exemption to act as the legal agent for a project. However, unlike a fiscal sponsorship, a fiscal agent does not retain ultimate discretion and control over the use of the funds. Rather, a fiscal agent is an agent of the charity and subject to its direction and control in the way it manages the organization’s funds.
Under agency law, the legal agent acts on behalf of the project, but the project or its parent organization has the ultimate right and legal duty to direct and control the agent’s activities.
A fiscal agency arrangement can be beneficial when a small nonprofit that has its own tax-exempt status wishes to contract with another tax-exempt organization to provide back office or administrative support.
The Main Difference Between Fiscal Sponsorship and Fiscal Agency
The critical distinction between a fiscal sponsorship and a fiscal agency arrangement is whether donations are tax-deductible. When donors contribute funds to a non-exempt project that has a fiscal sponsor, the donations are tax-deductible. Those that are contributed to a project with a fiscal agent are not necessarily tax-deductible.
Many organizations intend to form fiscal sponsorships so that they can raise tax-deductible contributions. However, they sometimes fail to establish a relationship with the sponsor that meets the IRS criteria for fiscal sponsorship. It’s critical to ensure your arrangement complies with the IRS criteria before telling donors that funds donated are tax-deductible.
IRS Criteria for a Fiscal Sponsorship
The IRS criteria are as follows:
- Grants/donations are given to a 501(c)(3) tax-exempt organization (the sponsor) that acts as a guardian of the funds for a project that does not have 501(c)(3) status.
- The sponsor must use funds received for specific charitable projects that further the sponsor’s own tax-exempt purpose.
- The sponsor must retain discretion and control as to the use of the funds.
- The sponsor must maintain records that substantiate the use of funds for appropriate 501(c)(3) purposes.
- Typically, the project will be short-term, or the sponsored group is seeking tax-exempt status.
How to Find a Fiscal Sponsor
You will need to do some research to find a fiscal sponsor that fits your project. Start by:
- Making a list of organizations familiar with your work
- Adding any groups that appear to have a similar purpose to yours
- Confirming the organization’s 501(c)(3) status
- Meeting with someone from each of those organizations to discuss your project and desired fiscal sponsorship relationship
In Arizona, TAP-AZ, an affiliate of Vitalyst Health Foundation, acts as a fiscal sponsor to projects that meet its criteria. Also, note that fiscal sponsorship fees can vary widely and are typically higher if the organization is administering government grants or other funds with significant reporting obligations.
Understand Your Fiscal Agreement and What it Means for Your Project’s Tax-Deductible Status
Whether you’re a newly formed nonprofit or a small nonprofit in need of administrative assistance, fiscal sponsorship may provide the right solution. Projects and organizations benefit when donors can claim a charitable tax deduction for donations. That said, it’s critical that your organization or project fully understands the fiscal agreement with its sponsor to ensure that it qualifies under the IRS’s criteria for fiscal sponsorship. Otherwise, the tax-deductible advantages that accompany donations made under a sponsorship arrangement may be in jeopardy.
Ellis Carter is a nonprofit lawyer with Caritas Law Group, P.C. licensed to practice in Washington and Arizona. Ellis advises nonprofit and socially responsible businesses on corporate, tax, and fundraising regulations nationwide. Ellis also advises donors with regard to major gifts. To schedule a consultation with Ellis, call 602-456-0071 or email us through our contact form.