Guest Post: The Point of Profit — Do You Really Need It?July 21, 2014 Category: Uncategorized
This column is part of a monthly series by Tivoni Devor on “The Business of Nonprofits.”
What is profit?
Profit is all the money your organization has minus expenses, including salaries, bonuses, debt management, etc. Revenue minus expenses equals surplus revenue.
Surplus revenue can be used in many ways including expansion, reinvestment and savings. If surplus revenue is distributed to the owners and investors of the organization it becomes classified as profit.
Do you need to be profitable?
When starting a new social venture you’ll have to decide whether to be a for-profit or a nonprofit. There are many factors that drive this decision, but at the core you’ll need to ask yourself: “Do I need to produce a profit?” The short answer to this question is that you only need to produce a profit if someone demands that you do.
Do you have investors? Do you have an exit strategy to sell your business for massive profits? Do you need to be in absolute control of your venture? If these three key items don’t apply to you, then you probably don’t need to run your venture as a for-profit.
Nonprofits can’t take investors, but they can take in loans or issue bonds to raise quick capital. Nonprofits organizations can’t be sold to make millions for the board and staff like a web start-up, but they can issue bonuses and provide severance packages. Nonprofit boards can be designed to give the executive director a wide amount of latitude and independence — or not. One benefit to going the nonprofit direction is the tax-exempt status that you enjoy as a nonprofit – no business income tax, property tax, or sales tax on items purchased.
One myth I’ve often come across is that nonprofits can’t generate earned revenue at a margin that allows them to self-finance their social mission. Nonprofits can make plenty of money from traditionally for-profit practices like retail sales, consulting work, construction, housing, and other services.
Look at hospitals, universities and retail giants like Goodwill Industries and Ten Thousand Villages — all nonprofits operating in the for-profit sector generating massive amounts of surplus revenue and paying their executive staff six or seven figure salaries, all without risking their nonprofit status.
The key is that income must be mission-related. Unrelated business income tax, or UBIT, is the penalty nonprofits face if they earn income that is unrelated to their mission as stated on their 990. It means they have to pay income tax on the revenue just like if they were a for-profit. The worse case scenario is that an organization may lose its nonprofit status if the revenue-generating activity is too far afield from your mission.
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The key term here is “related” – it’s really the IRS’s interpretation of your mission and it’s relation to how you generate earned revenue that will put your revenue in the related or unrelated bucket. What you can do to make sure your revenue is mission-related is to update your mission to reflect how you generate income and that you use the income to further your mission.
In the for-profit world, your surplus revenue can be either reinvested back into the company or you can issue dividends to your investors, or pocket the profits if you are the sole-owner. In the nonprofit world, all the money must stay with the organization, reinvested back into the community, or put into a rainy-day fund.
Picking a Path
So when starting a new social venture it’s very important to understand the tax and management implications of how you setup your new business, be it for-profit or nonprofit. But no matter what decision you make, you are free to generate income and be well-paid for the good work you do.
While the lines between nonprofit and for-profits are blurring, there are clear and distinct differences in terms of personal, legal and financial responsibilities. So consider these well. Once you choose a way to operate, it is very hard to, if not impossible, to switch.
Tivoni Devor, MBA, has spent his entire career in the nonprofit sector. While working for diverse institutions in many roles, Tivoni has often found himself developing earned revenue models and designing strategic partnerships. Tivoni currently works as the Manager of Partnerships and Outreach at the Urban Affairs Coalition, where he helps social entrepreneurs leverage fiscal sponsorship to jumpstart their nonprofit endeavors. Tivoni Devor lives in Point Breeze with his wife Jennifer and daughter Ava. The thoughts and content of his columns are his and his alone. You can follow him on Twitter: @tivonidevor.