Information useful to people starting a nonprofit organization.

Five Fundamental Phases of Founding a Nonprofit

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There are so many pieces to keep track of when establishing a nonprofit organization that it can overwhelm the would-be founder. Most folks who are inspired to change the world have a great idea and just want to get to work. But then they learn about the rules and regulations required when hiring staff, and about the bureaucracy involved when establishing policies and support systems, as well as the complexity of budgeting, and it goes on and on. At first, they might recoil in disgust, but then they bolster their fortitude and take another crack at it only to see all the requirements for filing for their tax-exempt status.

At this point they retreat to the bedroom and scream into their pillows before curling up into a ball and sobbing. They think maybe it’s easier to just keep drudging through whatever it is they were doing before they came up with this great idea. Maybe it’s easier to just let the world stay broken. How can any reasonably sensible person with a life and time constraints work through these tasks without getting overwhelmed along the way?

I’m a list maker. When I find myself stymied with too many tasks, I write them all down in a list, and I get satisfaction checking them off one by one as I see the progress I’m making. But even for me the list of items here is just too long. Off the top of my head I came up with 42 items that are usually needed to establish a sustainable and legitimate nonprofit organization, and I’m certain I could add a few more with a little more concentrated thought.

My backup strategy is to group related items in a long list like this into more abstract topics. This create a shorter and less intimidating todo list. Looking at how to establish a nonprofit tax-exempt organization, these myriad tasks seem to fall into five broad categories or phases. The number five isn’t too intimidating. I can handle that. Each of these five phases involves its own sublist of course, but the largest one only has twelve items on it, so that seems better as long as I can work through the system one chunk at a time.

Here are the five fundamental phases I found:

  1. Prove my nonprofit will be of benefit to the community
  2. Determine if it’s a viable concept
  3. Grow the group (attract more people)
  4. Formalize and legalize the organization
  5. Set up the supporting systems the nonprofit will need to provide its services

I can now focus on each stage one at a time, ignoring the others for the time being. It doesn’t change the numbers, but it does calm me down a bit.

These are five important aspects to consider when starting a nonprofit organization. Click To TweetNow let’s look at each phase and work from there.

The benefit phase

This is where you determine if your organization will benefit the community. You do this by breaking down your idea into the problem you see in the world and the solution you have in mind for addressing that problem. If the problem isn’t significant or your solution won’t make any difference, you can stop here. But more likely, you’ll spend some time thinking through how you’ll create programs to implement your solutions, and drill down into your theories and assumptions about how your programs will actually create the change you want to realize. It’s also where you define the basic mission of your organization and what values your group will hold.

The viability phase

Even if your idea is amazingly great it won’t matter unless you can actually carry it out. This phase is where you figure out what it will take to make your idea real. So you’ll flesh out your business model and budget, figure out how to measure your impact on society, and assess where your money will come from. You’ll think through what non-program activities you’ll need to engage in in order to support the real work. The work in this phase is best done after reaching out to community leaders and getting their input.

The growth phase

If your idea benefits the community and is viable it’s likely you will be able to attract other people to your cause. There’s work involved here as you reach out to the community to find volunteers and co-founders. This phase also tests your assumptions so far. If people won’t step up then maybe your idea doesn’t benefit society as much as you thought, or maybe there’s still some work to do before it seems viable to people.

The formalization phase

This is where the organization is incorporated, a board of directors is formed, and the group applies for tax-exempt status from the IRS. All the legalities are explicated, and the organization attains its legal status. All too many founders gloss over the first three phases and start digging in here. At the same time, they treat this phase like a complicated recipe they need to follow, because that approach works cheaply and efficiently for a lot of situations. But decisions made here are more difficult to change later on, and working through this phase too haphazardly can result in an nonprofit filled with landmines. So be careful!

The supporting systems phase

When you make it to this fifth phase your organization will need to establish all the systems needed to support the work your group was created to do. You will create bookkeeping systems, HR and volunteer manuals, fundraising systems, and more. Researching and purchasing proper insurance and establishing financial controls isn’t the most exciting work, but getting it right before starting up operations can save your hide in the long run.
There’s an actual logic to the order of these five phases, and taking them in order can save time. If I determine the idea doesn’t provide enough benefit to the community, I don’t have to waste any time figuring out if it will be viable. If it’s not viable, I don’t need to attract people or formalize it.

On the flip side, that doesn’t mean that once you’ve completed an early stage, you can forget about it. The work involved in completing one phase tends to help make the next phase easier, but only if you can go back and examine the outcomes of that earlier work.

Remember to the point of this is to organize the work so it’s more effective and less overwhelming. If you take these phases one at a time and work your way through systematically, you will be surprised at the progress you can make.

The Business Model, or Is Your Idea Viable?

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If you’re like most nonprofit founders I’ve met, you’re excited about setting up your programs and getting to work, but this may mean you’re less attuned to things like “what are all the supporting activities I’ll need to plan for?” and “who are our customers going to be?” That all sounds too businessy to bother with. After all, aren’t you starting a nonprofit to get away from all that?

Nope.

Even if your idea for a nonprofit has a mission that undoubtedly provides a benefit to the community, this does not automatically mean that your idea will work. A sustainable nonprofit organization needs a solid business model to provide the foundation for long lasting community service. But what exactly is a business model?

A sustainable organization needs a solid business model to provide for long lasting community service. Click To Tweet

It’s a collection of important information about how your organization offers value to the community, who will benefit, how much it will cost, how it gets paid for, and what you’ll need to do and have in place in order to pull this all off.

Importantly, a business model helps you plan how your great idea will be something that actually works, so it’s a good idea to develop this early on as you begin to define your nonprofit. Like a lot of steps in the startup process, this one can seem overwhelming, but it doesn’t have to be. In fact, if you can answer nine questions, you’ve already done most of the work.

I’ve listed these questions in the first column of the table below (we’ll get to the second column shortly):

Question

Name
1. What are you offering that is of value? Value Proposition
2. To whom are you offering it? (Who are your customers or clients? Who benefits?) Customer or Client Segments / Beneficiaries
3. What relationship do you have with them in order to make this work? Customer Relations
4. How do you deliver that value to them? Channels
5. How do you capture enough resources (including money) to make it work? Revenue Streams
6. What do you need to do to deliver the value? Key Activities
7. What resources do you need to have in order to do this? Key Resources
8. What partnerships do you need to make this all work? Key Partners
9. How much does it all cost? Cost Structure

A company called Strategyzer has developed a free tool they call a business model canvas which lets us put all this up on the wall where everyone can see everything in one place. The nine questions turn into nine building blocks that are named in the second column above. These are arranged on the canvas in a way that easily relates important aspects of your idea with each other.

Let’s say you run a soup kitchen. (I’ve overly simplified this to illustrate the tool.) The value proposition might be “nutritious food” and one of your customer segments might be “homeless families” who you serve person to person in a friendly way. Your delivery channel would be the physical space you serve up the food (the soup kitchen itself) which is in a convenient location for the community you serve. Key activities would include buying food, cooking meals, etc. When you’ve filled in all the blocks in the top part of the canvas, you would get an idea of what costs might be involved, for example “food purchases” and “staff salaries”. Throw this up on the canvas and it looks something like this:

At this point, a quick glance tells you there’s no income to support your costs, so you need to figure out how you’ll bring in money. Since the customers in this situation don’t have the means to pay for the food, you need to provide something of value to someone who will pay for it. But how? Part of the answer could be to find foundations with a mission to serve the homeless. These folks would be happy to grant you some money, right? You’d add this information to the relevant blocks. Maybe it looks something like this now:

 

When you’ve reached this point for your own startup nonprofit, it’s time to begin checking your assumptions. Get as many reality checks as possible early and often.

Talking over your idea with people in the community who are already doing similar work and/or are working with a similar population is an invaluable way to gather information that will help you build your business model and make your idea more practical and effective. Go out and find those people. Offer to buy them coffee and pick their brains. Working through this tool before you sit down with them can make your time more productive (and save you coffee money).

Of course, you’ll continue to tweak this business model as your idea develops, but it’s important to start early to grasp all the hidden work you’ll need to do alongside the obvious stuff.

There’s a lot more to this tool than I have presented here, but this post is already kind of long, so I’ll stop now. Hopefully, I’ve introduced a tool that can help you better assess the amount and kinds of work you’ll need to do in order to successfully establish the nonprofit of your dreams.

Preventing Founder’s Syndrome

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I was approached to help an organization by an acquaintance. “It’s a classic case of founder’s syndrome,” she said. I knew immediately what she meant. I imagined that the founder was a bright and charismatic person who needed to do everything or micromanage everyone who tried to help. She wouldn’t settle for imperfectly completed work, and often ended up redoing the things she had delegated to others. She was probably so dedicated to the job that it was difficult to separate her work from her life. And the organization was always operating in crisis mode.

 

Wikipedia’s page on founder’s syndrome lists symptoms including that the organization is strongly identified with the leader, all decisions are made by this person in crisis mode without planning and little process, key staff and board members have all been selected by this person, outside consultants are seen as too expensive or their advice is ignored, and when things start to go south all that just intensifies.

It’s important to note a few things before moving on. First, the name “founder’s syndrome” might not be the most accurate. For one thing, not all founders find themselves in organizations with this malady; many founders establish and nurture very healthy and balanced organizations. Also, “founder’s” syndrome can revolve around other people in the organization, not just the individual who established the organization; any long-standing key player can be at the center of this complex.

But still, I can barely count the times that I’ve heard someone say “When I saw that article on founder’s syndrome I realized that’s what happened at my nonprofit!”

So as they say, it’s a “thing”, and it’s important to understand the damage an organization with this ailment can suffer. At minimum the nonprofit will hit a wall when it tries to grow beyond a certain point and fail to thrive. At worst, the organization can go up in flames, leaving behind a trail of frustrated and unmotivated volunteers, board members, and staff.

So what can a new nonprofit leader do to inoculate their organization against this affliction? Here are a few of my ideas:

  • Learn to recognize the symptoms of founder’s syndrome and educate people in your organization about them.
  • Repeat the mantra: My nonprofit is not me, and it’s not my baby. My nonprofit is everyone’s baby.
  • Practice and encourage collaboration. Delegate work to others and find a way to be happy with the results most of the time (even when the results are not exactly what you wanted).
  • Include your board and key staff in all major decisions early on. This models the expectation that everyone owns the organization, not just you.
  • Acknowledge the contribution of others. Do this publicly. Make sure you yourself are not seen as the whole organization. Paint a picture that your organization is a whole bunch of people working together.

My nonprofit is not me, and it’s not my baby. My nonprofit is everyone’s baby. Click To Tweet

One last thing. While a crisis mode is necessary for founder’s syndrome to remain virulent, it is important not to mistake it alone for this organizational disease. Many, many nonprofits start in less than perfect ways and find themselves in a period of crisis that can last for a couple of years. Income doesn’t quite meet expenses, the roof leaks and doesn’t get repaired, there’s not enough cash to buy office supplies and half the donated pens don’t write. You get the idea. This crisis environment does not create founder’s syndrome on its own. It needs your help.

Another way to think of this period is as a honeymoon, the first years when everyone is putting in 110% because they’re still infatuated with the organization. This is great, and it may even be necessary, but it’s short-lived because 110% isn’t a sustainable. Aim for 90-95% in the long run.

So plan for this honeymoon period end. When it does, all key players should have drawn clear lines that protect their personal lives from being encroached upon by the organization. Without the crisis driven environment, the threat of founder’s syndrome will wither away.

So follow the above steps, and focus on building a sustainable organization.

 

Fiscal Sponsors: What to Look For

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At a local gathering of the Nonprofit Startup School here in Portland I presented a session on how fiscal sponsorships can help new nonprofit organizations. One thing that surprised me (just a bit) was that several attendees assumed a fiscal sponsor was a for-profit organization that could help your nonprofit find money. Not so!

Normally a fiscal sponsor is an existing nonprofit with its own 501(c)(3) designation from the IRS. This sponsor can help your project by acting as the receiver and manager of your tax-exempt funds. This arrangement means you do not need to file for a tax exempt status of your own. The sponsor handles that, receives the donations, provides tax receipts, deposits the money, and authorizes all expenses. That is, they act as a financial overseer for your project, taking on a lot of the dealing with the IRS in the process. Some offer more services as part of the package, and some of those services might help you raise money, but the sponsor isn’t a place to look for money directly.

There are a few scenarios where a startup might find a fiscal sponsor to be quite useful. Let’s review three of them.

Incubator. If you’re just starting, it’s possible that you’re trying something so new and innovative that you’re just not certain if it will work or not. If your idea succeeds, you’ll want your own incorporated organization with a tax-exempt status, but if things go south, you don’t want to be left with an empty shell of a legal organization along with all the reporting requirement that entails. Simply put a fiscal sponsor allows you to skip the steps you will later need to undo. It’s like training wheels until you are certain enough to ride on your own.

Short term nonprofits. Some nonprofits work on projects that will be done in a year or two (maybe even less). In these cases, the work will be finished but the organization will still exist and need to be dissolved. Why create an organization that you know will just go away? Again, a fiscal sponsor can let you skip the step of establishing the legal entity and also skip the step of taking it apart.

Once-in-a-while nonprofits. Similarly, some nonprofits are established to do work that only comes up once a year. For most of the time the group will be doing nothing. If that’s the case, it seems like overkill to create a legal organization that will be dormant most of the time. A fiscal sponsor can be an ideal approach to this kind of work.

If you fit into one of those categories, you might next be wondering what the catch is, and it’s pretty simple. They charge you for this service. This is like a decision to rent vs. buy a house. If you rent, the landlord deals with the leaky roof and clogged drains, and you pay them rent to do that. If you buy your own house, there is no landlord. You deal with the roofers and plumbers on your own. So it’s a trade off. What works better in your situation? Typical fiscal sponsors charge a percentage of every donation made, often as low as 5% but more (perhaps 10% or 15%) if they offer more services. Once you understand the full value of these services, using a fiscal sponsor can turn out to be a great bargain.

So where do you find one? There are a handful of national 501(c)(3) organizations that are established to provide fiscal sponsor services to nonprofit projects. One is Tides, a community foundation that sponsors hundreds of nonprofit projects. If you’re starting an arts-based nonprofit, perhaps Fractured Atlas is a better fit. Search for smaller, local organizations in your community as well. Here in Portland, there’s a small, volunteer-run organization called the Charitable Partnership Fund that offers a low-fee, no-frills fiscal sponsorship option. You may have something in your community as well. The Fiscal Sponsor Directory will let you search for potential sponsors in your home city and state. You can also approach any 501(c)(3) organization with a compatible mission, but it’s wise to be thorough when looking.

Obviously, not all fiscal sponsors are alike, and some will address your situation better than others. It’s important to vet your fiscal sponsor. This is especially true when approaching smaller organizations that might not fully understand what it takes to be a good sponsor. Like hiring a contractor to help fix up a house, it’s a good idea to approach a few, take notes, compare, and pick the one that fits best. Some things to consider:

  • Do they have a good reputation in the community?
  • Do they have a written process they follow when setting up the arrangement?
  • Can you see their financial statements?
  • Does someone who understands nonprofit accounting believe them to be sound financial statements?
  • Do they have sufficient financial resources to pull this off?
  • Do they have audited books?
  • Do you have a good “gut feeling” about the people working with the sponsor?
  • Does their mission match yours?
  • Do they ask you to sign a memorandum of understanding?
  • Do they keep your funds in a separate bank account?

Try to find an organization with as many “yes” answers as possible.

 

In short, the road to successfully establishing a nonprofit organization has many steps. Using a fiscal sponsor is a legitimate shortcut on this path and can help you skip some of the more bureaucratic steps. It’s an option worth considering.

 

In the Portland area and interested in meeting with me? Drop me a line.

–Richard Seymour, Nonprofit Startup School

What the F? Sorting Fiduciary from Finance, Fiscal, and Fundraising

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I’ve seen it many times. When a nonprofit starts up its members earnestly and diligently begin to work on delivering their mission to the community, but soon enough they need to start paying the bills. In their hearts they secretly hope someone else will step in and begin to look for corporate and individual donors, write grants, and put on big events to bring in some cash. You know, fundraising.

Then someone at a board meeting mentions something about our finances or maybe how we need to get a fiscal sponsor (or become one). It all boils down to our fiduciary responsibility, this person says. Huh?

What is it about this business that drops all those F-words on us? And what do they mean?

Finance is the work related to managing the money. It can include determining the best way to invest money, making sure you always have enough cash to meet expenses, taking out loans, and general planning for the organization’s future.

Fiscal usually refers to the government’s finances (taxation and such). But in the nonprofit world, there’s also a thing called a fiscal sponsorship, where one organization with a tax exempt status (the sponsor) assists another organization (the project) that does not have that status. I’ll go into this arrangement in a future post.

Fundraising is pretty straightforward for most people. It involves figuring out how the organization will actually get the money it needs. Fundraising usually refers to contributed income (donations, grants, regular sustainers, etc.) rather than earned income (like museum ticket sales or money earned in a thrift store).

A very important concept in this F-storm is fiduciary responsibility. Fiduciary means a duty or obligation to act in the best interest of another person or institution. This concept is probably the least well understood of all the F-terms having to do with a new organization’s dollars and cents. But it’s crucial to understand it.

In my last blog post, I referred to the importance of having a separate entity (that is, someone besides you) to embody the mission, values, and interests of the organization. This “pretend person” wants to work toward the mission of your organization effectively, and to do that they want to properly care for the finances of the organization. That is, they have financial interests. Fiduciary responsibility is always putting that “person’s” financial interests before your own.

In a small for-profit organization this isn’t such a big deal. In general, the whole point is to raise money for yourself. But in a nonprofit, you give up that goal. There needs to be a clear separation between your financial needs and activities and those of the organization. It’s good to consider the money the organization has came from the community as a whole, and the law requires that the organization spend it properly. This is not true of your own personal finances.

The state and the IRS are specifically looking out for situations where the money coming into an organization ends up primarily benefiting one person or one family. As a founder, that person could be you, so it’s important to draw a clear line between what your personal needs are and what the organization is trying to do for the community.

This idea of separating interests like this is the foundation for ensuring fiduciary responsibility throughout the organization. It keeps everyone honest and helps make things more transparent. It can also help ward off founder’s syndrome (but I’ll get to that in a future blog post).

The Artificial Person

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Back around Halloween, I released a short animated video about the reasons to incorporate a nonprofit organization. Since it was a spooky time of the year, the metaphor I used was Frankenstein, an artificial person. A friend of mine watched the clip and came to the conclusion that I was anti-incorporation. Not true!


Basically, creating a corporation means the organization establishes a “fictional person” which is an actual legal term. This person can take the blame for anything you do (or anything anyone else in the organization does) in the name of the group. This limits any liability you might incur when acting as a group.

There’s also a practical side. Establishing this fictional entity is also what allows the state and the banks to recognize that your effort has a presence beyond what you might have individually. With it, you can open a bank account in the organization’s name rather than your own. It allows you to establish a clean separation of your personal life and finances from the professional life and finances of the group. It’s clearer what belongs to the organization and what belongs to you.

These are the main reasons most people incorporate as a matter of course when starting a new nonprofit. But there’s more to it than that.

Besides helping to protect you and your collaborators from mistakes you all might make, the “existence” of this pretend person encourages people to think of the organization’s goals and aspirations from an independent point of view. How many times have you seen people in an organization bicker about a decision where most of the argument is about what is best for an individual rather than the group?

Establishing another formal entity allows us to assign the mission, the principles, and the general welfare of the organization to someone besides yourself or any individual. Since the fake person is motivated purely by the organization’s values and needs when your group settles on a strategic plan or makes an important decision, that plan or decision belongs to this entity, not to you or anyone else in the group. That is, by creating a phony person, you can enable yourself to let go of your own ego. It’s a psychological trick.

Also, when you decide to move on, the organization will hopefully outlast you. The more that is owned by this nonexistent being, the fewer problems you will have in handing off responsibility when that time comes.

For all these reasons, foundations and other partners you may need to work with tend to respect organizations that have incorporated over those that have not.

While incorporating is often a great idea, not all organizations should take this step. If your group is still testing the waters and unsure if it will be able to attain sustainability, it might be better to consider an alternative such as finding a fiscal sponsor. But even in that case, having a fake person who holds the organization’s interests above all else can be an important tool in making your group successful.