What “Non-Profit” Means

This post originally appeared in 2006 on my blog, Non-Profit Concerns.

Back in 1991, Governor Richard Lamm of Colorado told his state’s Association of Nonprofit Organizations Ethics Conference, “there are a large number of use nationwide who are looking at the reasons why we give tax-exempt status to organizations.  America is filled with nonprofit hospitals that give practically no charity.  Certainly they give far less charity than their tax exemption is worth to them.”

That’s the concern. Here’s the history:

One of the things of which we as Americans can be most proud is our tradition of creating non-profit organizations to help the less fortunate. Alexis de Tocqueville wrote with admiration about the “associations” that our forefathers formed. As eloquently stated by Larry Kennedy in Quality Management in the Nonprofit World, “An organization that attains tax-exempt status is the beneficiary of a profound opportunity to apply entrepreneurship, compassion, and practicality in fulfilling social motivations while remaining exempt from any responsibility to underwrite the nation’s infrastructure through taxes. We are exempt from these burdens because we operate under the public perception that what we do is important to society and that we are managing a business that provides services for reasons other than personal financial gain.”

In 1939 the House Ways and Means Committee noted, “The exemption from taxation of money or property devoted to charitable and other purposes is based upon the theory that the government is compensated for the loss of revenue by its relief from financial burden which would otherwise have to be met by appropriations from public funds, and by the benefits resulting from the promotion of the general welfare.” As stated by the US district court in Washington, DC in the 1972 case of McGlotten v. Connally, by granting tax-exempt status “the Government relieves itself of the burden of meeting public needs which in the absence of charitable activity would fall on the shoulders of the Government.”

Tax exempt status, therefore, is granted to enable a spirit of entrepreneurship to blossom in areas serving the public good, by saving the government the burden of funding programming that charities are able to provide for the benefit of society, and not for the benefit of any one individual. (Not to confuse the issue, there are tax exempt organizations that are not 501(c)(3)s. For present purposes I am only discussing tax exempt non-profits recognized by the IRS as 501(c)(3)s.)

Today, in fact, there are two type of non-profits. The first are the classic non-profits. For example, any disease related organization that provides advocacy and education, and conducts research to rid humanity of the evil of Alzheimer’s, autism, cancer, Parkinson’s or any other true scourge on humanity. Relying on some government funding and charitable donations they offer free services to the community.

Then there are those of a different type, as mentioned by Governor Lamm. Today the government in many cases provides both tax-exempt status and 100% funding for these very organizations. That gives these non-profits an unfair advantage over for-profit competitors which could eventually lead to for-profits lobbying to have their non-profit competitors non-profit status revoked. In fact, these organizations would be better described as government subcontractors.

Far from unique, there is the example of a New York nursing home that received $32,702 in private contributions and $46,866,827 from the government according to its most recently available 990. Their CEO’s compensation totaled $578,524 or 1.2% of the total. All nursing home residents must either have government or private insurance, or be private payers. No services are provided gratis.

This charity provides important services. It pays no taxes. Should it? Its for-profit competitors do. They offer the same services. Why the difference? Does the fact that one employee receives over 1% of all government and charitable revenue bring into question the issue of “personal financial gain?” (To keep things in perspective, taxpayers pay $20,000 less to the above mentioned CEO then they pay the president and vice president of these United States, combined!)

Of equal importance is the prohibition on partisanship. Because non-profits are to serve society as a whole, they cannot support one political movement at the expense of another. That’s why during an election year non-profits refrain from honoring politicians or inviting them to events, as all candidates would have to be invited. Take the infamous case of the former Bronx-based Gloria Wise Boys and Girls Club. While there are usually three sides to every story, it appears that the Club, either with the knowledge or apathy of its Board, transferred some $875,000 to the anti-Bush liberal Air America radio station. Forgetting about everything else – including the improper use of municipal funds – that alone should be enough to have its 501(c)(3) status reviewed and possibly revoked.

Non-profits are tax exempt because it is recognized that there is a tradeoff between the non-profit’s work and the need to support society through the paying of taxes. In exchange for its providing services for the betterment of the community which, in its absence, the government would have to offer, non-profits do not have to pay taxes in support of local, state and national services. It is thus a win-win for everyone but only if all non-profits remember that they are to serve the public by saving the public an expense. If there is no tradeoff, if the non-profits receive government support (tax dollars), pay no taxes, and provide no charitable services, does not society lose? Is not the purpose of the law establishing non-profits defeated? And does this not endanger the status of all non-profits if for-profit competitors protest?

“Non-profit” does not mean not making a profit. By all means, make one. But that profit must be used for charitable purposes. It certainly cannot go to the aggrandizement of an individual, which may be the case when exorbitant salaries are paid. As Governor Lamm warned, it needs to go, at least at a minimum, to offsetting the nonprofits savings by being exempt from taxation. That’s what “nonprofit” really means.