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There are some exciting developments at NYU with respect to law and social enterprise. And now that I’m healing and have passed the NY bar (hallelujah!), I’m getting reinspired by my alma mater to jump back into this space.

Here’s a thought for the day: there’s this notion among proponents of new legal forms for social enterprises that corporations are required to maximize profit and cannot consider social and environmental factors. I’m still trying to find where in the law that this profit maximization duty exists.

After I excitedly debuted this blog, my health faltered. Further blog posts now have to be put on hold so I can focus on healing. In the meantime, I welcome any and all any questions you may have, and I will do my best to respond.

All the best!
Keren

A: Yes. Non-profits can make money, but there are some limits.

Limit 1: Let’s say you are a university making money by owning and operating a macaroni factory, you will need to pay a tax on the revenue generated by the factory because macaroni has nothing to do with higher education. (True story involving my beloved alma mater NYU Law!)[2]

In other words, if a non-profit’s business has no relation to its mission, the IRS will tax the business’s revenue. This is called the Unrelated Business Income Tax.[3] The IRS specifically requires that a business be “substantially related” to the non-profit’s mission. What might be substantially related? The Girl Scout cookie business is substantially related to the organization’s mission because it helps young girls develop business skills. Greystone Bakery provides jobs to the “hard to employ” population in Yonkers, NY.

Whether the IRS would be satisfied that a particular business has a substantial relation to a non-profit’s mission is a good question for a lawyer.

In the meantime, the macaroni story can serve as a guide to what the IRS considers an unrelated business.

Limit 2: Profit generated by nonprofits must be used to achieve the mission.[1]

This is probably best explained with an example. Business A has had an incredibly successful year. It has generated significant revenue. After covering its costs and funding new projects or enhancing existing operations, it has a surplus; money is left over. Business A can and may decide to distribute the surplus to its owners, so they can share in the business’s success.

Nonprofits are not allowed to distribute its profits to individuals in that way. The IRS prohibits this kind of personal benefit. The expectation is that any profit will remain within the organization to achieve the social mission. It is important to note here that this limit does not prevent nonprofits from compensating employees. It prevents them from handing out surplus money to individuals, as Business A might.


[1] Exact IRS language: “To be tax-exempt under section 501(c)(3) of the Internal Revenue Code, an organization must be organized and operated exclusively for exempt purposes set forth in section 501(c)(3), and none of its earnings may inure to any private shareholder or individual.”

[3] Exact IRS language: “For most organizations, unrelated business income is income from a trade or business, regularly carried on, that is not substantially related to the charitable, educational, or other purpose that is the basis of the organization’s exemption.” The IRS may also levy a harsher penalty if the non-profit generates extensive revenue and only provides minimal charitable services.

It is a myth that non-profits cannot make money – revenue – income.

Nonprofits not only can make money, they do.[1] In 2008, the non-profit sector generated approximately $980 billion dollars through the sale of goods and services.[2]

Examples abound. Hospitals and universities charge fees for services. Goodwill Industries retail sales total $2.69 billion in revenue.  The Girl Scouts has been in the cookie business since 1917, generating about $715 million in revenue annually.

The “non-profit = no profit” myth comes up in conversations with social entrepreneurs who will often ask how to form a hybrid organization for their revenue-generating venture that solves a social problem (ex. selling cakes made by the homeless). They say that in addition to a non-profit organization, they need a for-profit arm.  The assumption within such a statement is that only a for-profit can make money. To put it simply and bluntly, the assumption is just wrong.

The word “non-profit” can be a misnomer because it implies that an organization does not or cannot generate income. It may be helpful instead to consider an alternative word “not-for-profit.” A “not-for-profit” may generate income, but that is not its ultimate objective. Its mission is its top priority, and any money generated circles back to achieve the mission.

So if you have a revenue-generating idea, don’t assume you are limited to a for-profit form, still go through the steps outlined in my previous post, and know that tax-exempt status may still be an option for you.

One important caveat: the IRS does place certain limitations on certain profits a non-profit may make. These limits will be discussed in a later post.


[1] Official IRS language: “An exempt organization is not taxed on its income from an activity substantially related to the charitable, educational, or other purpose that is the basis for the organization’s exemption. Such income is exempt even if the activity is a trade or business.” http://www.irs.gov/pub/irs-pdf/p598.pdf

I’ve always loved the inspiring, fancy, and ambiguous words that the social entrepreneurship sector uses to define itself. Here is a sample:

A social entrepreneur…

These words have captivated me because of the excitement about they inspire. They make me, and I imagine others in the sector, feel different, on the cutting edge, pioneering, important.

But after many a blank stare from people who hear the various definitions of social entrepreneurship, I’ve come to realize that those adjectives complicate and confuse what is actually a fairly simple concept. Words like ‘innovative’ and ‘global,’ at the end of the day, do not offer a clear, concrete picture of social entrepreneurship. They even may serve to alienate and exclude people. To bring some clarity to the concept, I propose that the field embrace an unadorned, truer definition of social entrepreneurship.

In its simplest form, social entrepreneurship is: the attempt to solve a social problem or fulfill a social need by starting a new initiative.

That’s it. At the end of the day, that’s what it is. Just like an entrepreneur starts a business, a social entrepreneur starts an initiative to solve a social problem. Significantly, this definition does not include the word ‘innovative.’ I have found through my research in the sector that the use of word ‘innovative’ does little more than arbitrary exclude some from the field. For example, the first person to sell fair trade coffee may be innovative, while the second is not. It also does not include phrasing similar to ‘global scale,’ which often leads to the field overlooking impressive local efforts that effect important community change. Both an oratorically gifted individual who aims to change international policy is just as much of a social entrepreneur as an organization starting a small, local grassroots initiative to address poverty in a single community.

To make the definition more concrete, below are some examples of social entrepreneurship.

  • Paul Farmer co-founded Partners in Health to treat “untreatable” health problems, such as multi-drug resistant tuberculosis, in poor communities around the world.
  • Jane Addams co-founded, in 1889, Hull House, the first settlement house in the United States.
  • Hannah Davis co-founded the Ghana Sustainable Aid Project to promote healthy and sustainable development in a rural village in Ghana.

At the end of the day, each of these individuals is attempting to solve social problems by starting new initiatives. They are all social entrepreneurs.

Someone once told me that I’m not a normal lawyer. In that vein, this is not a normal law blog. It’s about hope, clarity, and impact. It’s about making the law understandable and accessible to all, and knocking down the barriers between a great idea and implementation.

Yes, I’ve got the law credentials:

  • Admitted to the bar
  • Graduated from NYU Law cum laude
  • 2010– 2011 Social Entrepreneur in Residence at NYU Law
  • Founder of the NYU Law and Social Entrepreneurship Association
  • Alumni of the NYU Catherine B. Reynolds Program in Social Entrepeneurship.

And I’m taking on the law with a brand new perspective.

Welcome to RazEsquire. A new kind of lawyer is in.

Mission

Knocking down barriers between a great idea and implementation.

Making the law understandable and accessible to all.

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