So you think you want to start a nonprofit in Arizona? Our firm receives many calls weekly from people who want to start a nonprofit in Arizona, and we have even published a more general start-up guide. Here, we provide an overview of the legal documents and mechanics required to start a nonprofit in Arizona and apply for tax exemption for it.
1. Select the Entity Type
Arizona founders have four entity options when starting an Arizona nonprofit: 1) form a nonprofit corporation; 2) form a charitable trust; 3) form an unincorporated association; or 4) form a limited liability company.
We typically recommend forming a nonprofit corporation due to its superior flexibility and liability protection benefits. In our experience, trusts are less flexible and better suited for wealth transfer vehicles than a nonprofit organization.
We don’t recommend using an unincorporated association in Arizona as they do not protect participants from personal liability.
LLCs will not qualify for exemption if their members are not other tax-exempt entities.
For these reasons, this post will cover the process of forming a nonprofit corporation in Arizona and applying for tax-exempt status.
2. Form the Entity
Very generally, there are twelve steps to forming a nonprofit corporation:
I. Recruit a Board of Directors.
First, you will want to recruit an initial Board of Directors for your nonprofit corporation. Unless you are starting a private foundation, at least a majority of these individuals should be independent parties who are at least 18 years old, support your charitable cause, and have a good reputation in the community.
In Arizona, you must have at least one Director, though many states require a minimum of three directors.
II. Choose a Name.
Selecting the right name for your nonprofit corporation is more challenging than you think and is one of the most important decisions when starting a nonprofit. Ideally, you will want to choose a name that
- is available in the state,
- is distinctive enough to qualify for federal trademark protection without infringing on the rights of other organizations,
- will relate to your tax-exempt organization’s mission, products, or services,
- will be easy for your donors and constituents to remember, and
- has an available Internet domain name (.org is preferable for nonprofits).
When you have selected at least one possible name for your corporation, you should perform a Preliminary Name Search on the Arizona Corporation Commission’s and the Arizona Secretary of State’s websites to see if the name is available.
If you expect some time to pass before the corporation is incorporated or are worried about someone else taking the name you have selected, you can reserve the name with the ACC for 120 days for a $45 fee.
To determine whether your name will infringe on a federally registered trademark or service mark, search the United States Patent & Trademark Office’s searchable database.
III. Secure a Registered Agent.
The Arizona registered agent (also known as a statutory agent) must be an individual or business entity with a street address in Arizona. Your registered agent agrees to accept service on behalf of the nonprofit corporation in the event the nonprofit corporation is sued. The registered agent can be a board member or other volunteer willing to provide the registered agent service.
However, selecting a board member to serve as statutory agent can lead to problems as those many groups forget to replace the agent when their term is up or to update the ACC when they move. Many law firms, including our office, will serve as statutory agents on behalf of their clients. A whole industry of professional service companies will also be the nonprofit’s statutory agent for a fee.
IV. Select a Business Address.
All Arizona corporations must have a known place of business that is a physical or street address (not a P. O. Box). An Arizona corporation may have a separate mailing address, including a P.O. Box, so long as there is a street address for the known place of business. The business address may be the same as that of the Arizona statutory agent.
V. Prepare Articles of Incorporation.
Filing a nonprofit’s Articles of Incorporation begins its legal existence. In addition to Arizona law, nonprofit Articles must comply with state and federal tax law. For example, Arizona Articles for a nonprofit corporation must state its “character of affairs.”
To qualify as a tax-exempt organization under Internal Revenue Code Section 501(c), the nonprofit Articles of Incorporation must limit the organization’s purpose to those that are tax-exempt.
To qualify under 501(c)(3), the corporation must exclusively pursue one or more of the following purposes: charitable, educational, religious, literary, testing for public safety, preventing cruelty to animals or children, or promoting amateur sports competition.
In Arizona, the Articles of Incorporation must be filed with the ACC. The ACC includes an incorporation form on its website. We do not recommend using this form because it does not have any of the tax language required for tax-exempt status.
VI. File Certificate of Disclosure.
The Certificate of Disclosure requires the initial directors and officers to disclose bankruptcies, criminal convictions, or administratively dissolved entities.
VII. File Articles of Incorporation.
The Articles of Incorporation and Certificate of Disclosure must be filed with the ACC. The filing fee is $40 ($75 to expedite).
Once the state approves, your Arizona nonprofit corporation officially exists, but several more steps exist to complete the formation. If the Articles of Incorporation are filed on an expedited basis, a new Arizona nonprofit corporation can usually be formed within two weeks.
VIII. Publish Articles of Incorporation.
Newly formed corporations whose principal business address is outside of Maricopa or Pima counties must publish their approved Articles of Incorporation in the legal notices section of a newspaper of general circulation.
The Arizona Corporation Commission’s approval letter will contain information on how to publish and provide the list of approved newspapers. The filing fees can be pretty high. One way to avoid this is to list the known place of business in Maricopa or Pima counties.
IX. Prepare Bylaws.
A nonprofit’s Bylaws are the rules governing its internal affairs.
Together with the Articles of Incorporation, the Bylaws form the governance structure for the nonprofit. Perhaps most importantly, the nonprofit’s Bylaws prescribe how the Board of Directors is selected and how decisions are made. In Arizona, directors can be chosen by board vote, designation of a third party, one or more members or delegates, or through a combination of those.
Read our blog post for more information and tips on what to include (and exclude) from your Arizona nonprofit bylaws.
X. Prepare Governance Policies.
We always recommend new nonprofit corporations adopt critical governance policies, and Arizona law requires specific Arizona nonprofits to have a conflict of interest policy. In addition to the conflict of interest policy, we also encourage our clients to keep whistleblower, document retention, confidentiality, joint venture, travel and expense reimbursement, signature authority, and other policies which may be necessary under applicable federal law or advisable for prudent governance.
XI. Hold the Organizational Meeting.
The organizational meeting is the initial meeting of the board of directors of your nonprofit organization. During the organizational meeting, the directors will approve the articles, ratify the act(s) of the incorporator, adopt Bylaws, elect directors and officers not identified in the Articles, authorize someone to open a bank account, adopt governance policies, and pass other necessary resolutions required to begin operations.
Certain banks may require their own resolution language to open a bank account.
XII. Obtain Employer Identification Number.
A federal employer identification number (“EIN”) is a unique nine-digit number that identifies you to the IRS. You can think of the EIN as your nonprofit’s social security number. Your nonprofit will need an EIN to open a bank account, your nonprofit must request an EIN from the IRS. You can request an Employer Identification Number from the IRS online. Check the correct boxes and list the proper tax year end, as those mistakes can be challenging to fix.
3. Investigate Business Licenses
Depending on the type of activities your nonprofit organization plans to conduct, and where it is located, it may need to obtain local and state licenses or a permit.
Arizona nonprofits that may require an additional license include those providing medical services, behavioral health services, education, housing, food service, etc. For local business licenses, check with the clerk for the city or town where the nonprofit’s primary office is located (or county if it is an unincorporated area).
4. Apply for Tax-Exempt Status
Once the entity is formed, the next step is to apply for federal tax-exempt status with the IRS. As mentioned, the most common type of tax-exempt entity is 501(c)(3). Because it is the most sought-after, this post will focus on the process of applying for 501(c)(3) status. Note, though, that the process is generally very similar for the other exempt entities.
I. File Online.
Applicants must apply for exemption online at pay.gov by electronically filing a Form 1023 Application for Recognition of Exemption with the IRS (for other exemption types, file a Form 1024).
There are two versions of the 1023: the full 1023 and the 1023-EZ. The 1023-EZ is a streamlined application only available to certain nonprofits. Schools, churches, and supporting organizations are ineligible to file the 1023-Are.
A litany of other factors can exclude a nonprofit from filing 1023-EZ. Still, the most common hurdle is that only nonprofits that expect their gross revenue to be less than $50,000 each year for the first three years and whose assets are expected to total less than $250,000 are eligible.
For a complete list of eligibility requirements, read the Instructions for Form 1023-EZ. Form 1023 asks for considerable detail regarding your nonprofit’s planned activities. Check the IRS website for more information on Form 1023 and Form 1023-EZ filing requirements.
II. Provide a Solid Narrative Statement.
Form 1023 will ask you to describe your activities in detail. We recommend drafting a narrative statement explaining the who, what, when, where, and how of each activity you plan to conduct.
Narrative statements that are too vague or brief tend to elicit additional questions from the IRS, which can prolong the process and, in our experience, leave a poor impression on the IRS agent assigned to make your determination. On the other hand, narrative statements that are too long tend to create an image of trying too hard.
We generally suggest drafting a 1 to a 2-page narrative statement as an attachment to the entire 1023. For 1023-EZ applicants, you are only given 250 characters to describe your activities, so use it wisely!
III. Use Proper Language.
First-time founders sometimes unknowingly misuse nonprofit jargon when communicating with the IRS. This misunderstanding can result in a long list of questions that may not apply to your nonprofit but must be answered.
For example, strict rules govern whether scientific research is in the public interest or done for a commercial purpose. Statements that your nonprofit conducts research are likely to trigger a list of questions about scientific research. Standard terms which can cause similar confusion include research, advocacy, partnership, politics, and publishing.
IV. Prepare and Submit Related Documents.
Often, the IRS demands applicants provide copies of contracts, grant applications, agreements, scholarship applications, cost-sharing agreements, and other evidence supporting the applicant’s plans. We have found that preparing and submitting draft documents of relevant information for your planned activities with the application can streamline the determination process significantly.
V. Timing.
There is a deadline to apply to be a 501(c)(3). If Form 1023 is filed within 27 months of your nonprofit’s formation, your 501(c)(3) status will be retroactive to the date of incorporation. If it is filed past the 27-month deadline, the exemption will be prospective from the date the application for exemption was filed.
Overall, the IRS review process for 501(c)(3) status can take up to 6 months or longer. It is possible to request expedited processing in cases where the applicant is providing disaster relief or has been offered a grant that will lapse unless the entity provides the grantor with a favorable determination letter by a specific date.
VI. Costs
The filing fees for 1023s are costly. The IRS filing fee for the full 1023 is $600 and $275 for the 1023-EZ. If you make a mistake and get denied, they will keep the filing fees, so you want to get it right the first time.
5. State Tax Exemption
Many states, including Texas and California, require a separate filing to qualify for exemption at the state level. Arizona relies on the federal exemption; therefore, no additional form must be filed with the Arizona Department of Revenue.
6. Complete the Joint Tax Application
Groups that plan to hire employees or that qualify for state tax exemptions must file a Joint Tax Application with the Arizona Department of Revenue. This will provide a state-issued number required to set up payroll accounts and apply for exemptions from transaction privilege (Arizona’s version of sales tax) and property taxes.
A federal tax exemption exempts the corporation from state income tax; however, it does not exempt the corporation from other state and local taxes. Note that Arizona does not have broad-based exemptions from property tax or transaction privilege tax, so before submitting a joint tax application, make sure it is necessary for your nonprofit corporation.
Contact your county assessor to determine if you might qualify for property tax exemption. Most nonprofits do not qualify.
7. Fundraising Before Exemption
Arizona does not regulate fundraising unless your organization serves veterans. Therefore, there is no prohibition against fundraising in Arizona before exemption, so long as you don’t misrepresent your status.
We recommend disclosing to potential donors that an application for 501(c)(3) status is pending. That way, donors are on notice that the entity is not yet a 501(c)(3), and there is a chance they will not be able to deduct their gift.
8. Corporate Maintenance
I. Annual Meeting.
Each corporation should have at least one meeting a year, typically the annual meeting. Most nonprofit organizations fill vacancies at the annual meeting, provide a financial and operations report to the Board, and approve the budget for the upcoming year. All Board meetings should be memorialized in the form of minutes or unanimous written consent. For help documenting Board meetings, check out our Guide to Taking Minutes.
II. Annual Reports.
Each year, every Arizona non-profit corporation must maintain compliance with the state by filing an annual report with the ACC to keep your organization’s information up to date. The report lists the current officers, directors, and statutory agent. It is due one year from your nonprofit corporation’s incorporation date. The report may be filed online or by mail. There is a $10 fee.
III. Form 990s.
Once your nonprofit has obtained its exemption, you need to stay compliant by filing Form 990 on an annual basis. The federal Form 990 is an annual information return that all 501(c) organizations must file with the federal government. Form 990 is similar to a corporate tax return but with several significant differences.
It is an information report summarizing income and expense activity and governance information about the prior year’s activities and accomplishments. The complete Form 990 requests significant detail about structure and operations and requires knowledge about more prominent donors.
No federal taxes are due on net income from tax-exempt activities unless the organization has income unrelated to its tax status. It is highly recommended that nonprofit organizations seek the assistance of a qualified professional to prepare Form 990.
9. Review IRS Determination Letter
If your application is successful, you will receive a determination letter from the IRS confirming your tax-exempt status. Read the letter carefully, as it will specify the 990 filing requirements as well as any other limitations on the exemption. Also, check for accuracy, as the IRS is not immune from making mistakes.
10. Register to Fundraise
Arizona only requires groups that serve veterans to register to fundraise. However, an Arizona nonprofit that solicits or receives donations in other states may have filing and reporting obligations in those states. For more information, download our guide to fundraising registration requirements in all 50 states.
Conclusion
Our staff has helped form countless Arizona nonprofit corporations and has obtained an exemption for hundreds of entities all over the country. We have counseled tax-exempt organizations through the common pitfalls of founding a nonprofit and worked through unique circumstances.
Forming an Arizona nonprofit takes a lot of time, effort, and resources, but it can be a smooth and painless process with the right team. If you are considering starting a nonprofit, please reach out for a free consultation to see how we can help you.
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 federal tax and fundraising regulations nationwide. Ellis also advises donors concerning major gifts. To schedule a consultation with Ellis, call 602-456-0071 or email us through our contact form.