6 Things to Know if Your Nonprofit Is Considering Becoming a Fiscal Sponsor

The Internal Revenue Service can take up to a year to process paperwork and grant tax-exempt status to a new nonprofit. That’s a long wait for any group that wants to attract tax-deductible donations to address a pressing social need.

To get things rolling right away, many organizations seek an established nonprofit to serve as a fiscal sponsor. Doing so allows a fledgling group to solicit donations while it waits for the IRS. Because the sponsor often provides workspace and advises the sponsored organization, a start-up charity often can get a home base and a mentor relationship from the arrangement.

The benefits can run both ways. Acting as a fiscal sponsor can permit an established nonprofit to support efforts that complement its mission without investing large amounts of time and money. If, for instance, a food bank wants to get involved in community organizing, acting as a fiscal sponsor to a fledgling group could help it understand the staff time and expertise that organizing entails.

But an organization that serves as a fiscal sponsor can incur risks, such as threats to its reputation or the possibility of turning off donors who are not fans of the new line of work, warns George Constantine, a partner at the Venable law firm. Before entering into a fiscal-sponsorship agreement, established nonprofits should take some basic precautions, like thoroughly vetting the new group and writing a contract that lays out in detail the activities, responsibilities, and expectations of each organization.

Before entering an agreement, have a clear idea of the risks involved. For instance, if an early-childhood advocacy organization sponsors a group operating a day care center, the advocacy group will take on new liabilities, particularly if it lets the sponsored group use its space and equipment.

Keep in mind that the sponsoring organization might have new interactions with members of the community through the work of the sponsored organization. Don’t view the new group as simply “renting out” your 501(c)(3) status, Constantine says. A sponsored organization’s actions in the community will reflect on the parent organization. “Any missteps could cause reputational harm,” he says.

Here are some additional steps Constantine recommends nonprofit leaders take before entering into a formal sponsorship agreement.

Ensure the proposed group has a plan. It can make sense for a newly established group to seek sponsorship if it needs to move fast. Maybe it’s working on a time-sensitive awareness campaign. Or perhaps it wants to establish a service, like a day care center, before the start of the school year. Despite the need for speed, it’s important to make sure the potential partner has a solid business plan. Has it identified others working on similar projects as partners or to ensure the work of two groups doesn’t overlap too much? Will it need other resources to meet its goals? If it is an ongoing project, does it have a plan for attracting other donors?

“If there isn’t a concrete strategy,” Constantine says, “it raises some red flags.” By granting sponsorship, the sponsor signals that it has bought into the smaller organization’s business plan.

Sponsor efforts that support your mission. An established nonprofit shouldn’t let just any group use its tax-exempt status. Make sure it’s a good match both personally and professionally. Often the fledgling organization is started by people who have worked for or partnered with the sponsoring organization. Consider what it is like to work with these people and whether they share similar communication and management styles.

Ideally, a fiscal sponsor and the sponsored organization should share a common mission, too, Constantine says. Serving as a sponsor will take time and resources. Don’t commit unless it’s going to benefit your nonprofit’s cause.

Define the length of the agreement. Be clear that the sponsorship will come to an end. Often, the parties to a sponsorship agreement will plan upfront that the relationship will dissolve once the IRS processes the sponsored organization’s application for tax-exempt status. Without clear language in an agreement, “inertia can always set in,” Constantine says. “It’s important to be clear upfront that the relationship is not permanent.”

Give yourself an escape hatch. Sometimes the termination of the relationship isn’t pegged to an IRS decision. This happens when a new organization is set up to work on a limited campaign or to advance a project on a pilot basis. To ensure that the sponsored organization’s work continues to support the larger nonprofit’s broader mission, arrange for an annual review of the relationship.

To curtail “mission creep,” a fiscal-sponsor contract should include a no-fault opt-out clause that allows the sponsor to terminate the relationship with a 60- or 90-day notice.

Protect your organization. Be sure to budget for any incremental insurance costs the new activities might require and for a lawyer to craft any legal disclaimers that might be necessary. Have a clear understanding of the sponsored organization’s fundraising plan.

As the parent organization, make sure you are registered to solicit for funds in each jurisdiction where the sponsored organization plans to raise money, and make sure that the practices it uses are both legal and in line with the culture of your organization.

Problems can arise, Constantine says, when the newly created group takes a more aggressive fundraising tack than the sponsoring organization would. For instance, a sponsored organization might use language in its solicitations with older people that preys on fear. Such manipulative pitches can be both a legal and reputational risk for the sponsoring organization.

Know your responsibilities. Define the support your staff will provide and the amount of time they will spend doing so.

It is unrealistic to think that a sponsored organization will run on its own without the support of the larger organization’s staff. The contract should include language that sets clear expectations for how staff will support the sponsored organization. Doing this will help determine how much staff time is budgeted. It will also allow staff members to oversee the work of the sponsored organization, which will help keep it accountable for fulfilling its mission.