Fiscal sponsorship, explained for new projects

Fiscal sponsorship lets a charitable project start raising money before it has its own tax-exempt status, or without ever getting it. An established 501(c)(3), the fiscal sponsor, accepts donations and grants for the project and makes sure the money is spent on charitable work. Donors give to the sponsor, so their gifts can be deductible.

It is a practical arrangement, not a legal status. No IRS form creates it, and there is no "fiscally sponsored" designation. What holds it together is a written agreement and the sponsor's genuine control over the funds.

Why it works under tax law

Deductions follow the recipient. Section 170 of the Internal Revenue Code allows a deduction for a gift "to or for the use of" a qualifying charitable organization. A gift to your unincorporated project, or to an LLC, does not qualify. A gift to an established 501(c)(3) does.

The sponsor must keep control. In Rev. Rul. 68-489, the IRS held that a 501(c)(3) does not jeopardize its exemption by distributing funds to organizations that are not themselves exempt, provided it limits the distributions to specific projects that further its own exempt purposes, retains control and discretion over the use of the funds, and keeps records showing they were used for 501(c)(3) purposes.

That is the line every legitimate sponsorship respects. A charity that accepts money and automatically forwards it to whoever the donor names is acting as a conduit, which puts both the donor's deduction and the charity's exemption at risk.

The two common models

People in the nonprofit field often refer to these as "Model A" and "Model C," labels from a widely used practitioner framework. The names matter less than the structure.

Comprehensive (direct project) sponsorship

The project becomes a program of the sponsor. Legally, there is no separate entity.

• The sponsor owns the project's bank account, equipment and intellectual property.
• Staff are the sponsor's employees, and contracts are signed in the sponsor's name.
• Grants and donations are the sponsor's revenue and appear on its Form 990.
• The sponsor's board has final authority, usually exercised through an advisory committee of the project's leaders.

Best for: projects that want the sponsor to handle payroll, insurance and compliance, and that are comfortable inside another organization's structure.

Pre-approved grant relationship

The project stays separate, often as its own nonprofit corporation that has not yet been recognized, or as an informal group. The sponsor raises money for a charitable purpose it has approved and then makes grants to the project.

• The project runs its own operations, hires its own people and carries its own insurance.
• The sponsor keeps discretion over each grant and requires reports on how the money was spent.
• The project is responsible for its own taxes and filings. The grants are income to the project, which matters if it is not exempt.

Best for: groups with their own administrative capacity that want more independence.

What the sponsor controls

Whatever the model, expect the sponsor to keep authority over:

• The money. Funds are the sponsor's until spent or granted, and the agreement should say the sponsor can redirect them if the project ends or departs from its charitable purpose.
• Approval of spending. Budgets, large expenses and contracts usually need sign-off.
• Donor acknowledgments. The sponsor, as the recipient, provides written acknowledgments. Donors need one for any single contribution of $250 or more, and a written disclosure is required when a donor pays more than $75 and receives goods or services in return.
• Grant reporting. Funders deal with the sponsor, which signs the grant agreement and reports on it.
• Public representation. Many sponsors review how the project describes the relationship and require that it avoid political campaign activity, which a 501(c)(3) cannot engage in.

Fees, in general terms

Sponsors charge for administration, risk and staff time. Fees are commonly set as a percentage of funds received, sometimes with different rates for grants and individual gifts, and sometimes as flat or tiered charges. There is no standard rate, and the IRS does not set one.

Compare offers by what the fee buys: bookkeeping, payroll, insurance coverage, donor receipts, grant reporting, audit costs, legal review of contracts. A lower fee with fewer services can cost more in the end.

What to put in the agreement

1. The charitable purpose the sponsor is approving.
2. The model, and who owns funds, property and intellectual property.
3. Fees and when they are deducted.
4. Approval and reporting requirements.
5. How either side can end the arrangement, with notice periods.
6. What happens to remaining funds and assets if the project leaves, including transfer to a successor 501(c)(3).

When to graduate to your own 501(c)(3)

Sponsorship is often a stage, not a destination. Signs that a project is ready to stand on its own:

• Steady, growing revenue that makes the sponsor's fee significant compared with the cost of running your own compliance.
• A real board of people willing to take on legal and financial oversight.
• Funders or partners who want to contract with you directly.
• Strategic differences with the sponsor about direction or risk.

How the move works. You form a nonprofit corporation, adopt bylaws, get an EIN and apply for recognition; our guide to starting a nonprofit has the sequence. Once the new organization is recognized, the sponsor can transfer remaining project funds to it under the agreement, subject to any donor or grant restrictions.

Tell the IRS about the history. Form 1023 treats you as a "successor" if you took over activities previously conducted by another organization, or 25% or more of the fair market value of another organization's net assets, and asks successors to complete Schedule G. A project spun out of a comprehensive sponsorship usually fits that description. The Form 1023 guide explains the schedules.

Before graduating, read should you start a nonprofit with fresh eyes. Some projects find that staying sponsored is the better long-term answer.

501Nonprofit.com is a private company, not the IRS. This page is general information, not legal or tax advice for your organization. Example organizations and figures are hypothetical.