Blogger Joe Patti brought to my attention a new corporate form, born last year in Vermont, that seeks to increase the organizational options for socially focused enterprise. The Low-Profit Limilted Liability Company (aka, the L3C) works to balance the nimbleness and clarity of a small business with the alternate income and capital opportunities of a nonprofit.
As a refresher, corporate forms are creatures of the tax code and liability laws. They exist to facilitate collaborative action for commerce or for social purpose. When forming a business, individuals and groups can select from many forms — S Corporation, C Corporation, LLC, LLP, Sole Proprietorship, and such — depending on the nature of the work they have in mind. The 501c3 nonprofit is a particular flavor of the Non-stock corporate form, designed to assist enterprises with a social or public purpose that can’t sustain their operations or capital needs through traditional markets (so philanthropy and volunteerism step in).
Unlike the for-profit world, which has a full palette of options for corporate form, social enterprises have had rather few. The 501c3 is required by most donors, government granting agencies, and foundations for gifts and grants. But it carries a cost, as well — it’s hard to manage, govern, and sustain, its awkward for enterprises that plan a profit (even a small one), and it tends to be permanent even when permanence isn’t required.
So, in response, the L3C is intended to look and act like a small business (its parent form, the Limited Liability Company, is a darling of entrepreneurs), but also allow for social investment from a range of foundations and donors. Donations to an L3C are not tax-deductible for the donor, nor will they qualify for traditional grants and government subsidy. But they could become vehicles for attracting Program Related Investments (PRI), which foundations use to encourage activity in blighted communities or industries.
The L3C continues to pop up as an option for the beleagered newspaper industry, for example, where the traditional profit engines have vanished, but public interest in a vibrant city newspaper remains. In North Carolina, one foundation sees the L3C as a viable option to bolster that state’s global-market-weary furniture manufacturing businesses. A series of L3C organizations could purchase and renovate warehouse and factory space, with foundation money, then lease it at a lower rate to furniture companies that can no longer bear the weight of their own facilities.
The Nonprofit Law Blog is keeping tabs on these initiatives and others. And it will be interesting to see whether cultural enterprises find a way to explore the new options.
Like any other corporate form, state law to create the option is just a first step (Vermont, Michigan, and Wyoming already have them on the books, legislation is pending in Georgia, Illinois, Missouri, Montana, North Carolina, North Dakota, Oregon, Tennessee, Washington, and Utah). Next comes actual case law that reinforces the legal status of the new form, and its ability to shield owners from liability. Also, foundations will have to approve of the form and its structure as a valid recipient of their funds.
But as a minor modification of the established LLC, the L3C has promise to move quickly as a national option (and even if it doesn’t you can always incorporate in Vermont, Michigan, or Wyoming). I’ll be watching for someone in the arts to take the bait.
Thanks for this post. I have been pursuing an option like this for our music school (Da Capo Institute) for quite awhile. We are currently pursuing our formal 501c3 non profit status but it is very bulky and it doesn’t feel like it is always the right fit.
Problem is that without the nonprofit certification, access to capital for growth is severely limited. particularly in these economic times where so much capability is being shifted to the government and the large national organizations.
Our vision is for Da Capo to grow as a social enterprise and even be “franchised” to additional countries and regions.. but that feels like a long way off right now. both from the legal and cultural acceptance conditions.
Bait taken and eaten! Fractured Atlas formed an L3C subsidiary last fall. We’ll be using it in connection with our liability insurance program.
IMHO, the most important aspect of the “case law” on this is going to come in the form of IRS rulings. If the IRS is willing to concede that investment in an L3C is prima facie evidence of legitimate PRI, then we’ll have a wonderful vehicle for social entrepreneurship on our hands. If not, then I fear most institutional funders will remain too risk averse to jump in.
If I remember right, a 501c3 requires a yearly audit to prove that they are doing what they say they are doing. I’ve noticed this audit can run $20,000+. For a company starting out, this can be a heavy burden.
To the previous commenter recalling annual reporting requirements: not quite true. There are certainly reporting requirements for tax-exempt organizations — both at the federal and state level. Not all require audited financials, or extensive documentation. As your organization gets bigger and accepts more donations, your requirements tend to increase. Small nonprofits have minimal filing and process requirements, but still need to keep track of what those are.
Good stuff on this subject available from the IRS:
http://www.irs.gov/charities/article/0,,id=169727,00.html
And from the state government where your nonprofit is registered.
It’s good to see this innovation getting wider attention. There are two imporatnt points to consider. First, the L3C structure is designed to attract a flexible mix of capital including private capital and philanthropic PRIs. The structure is not a good model for nonprofit endeavors that will require operating subsidies from contributions or grants. Second, there is currently a bit of a problem for both foundations and private investors who are considering providing funds to L3cs because there isn’t an existing accountability system of IRS 990s, state registrations, etc. I have faith that some good examples and practices will emerge and give some more momentum to this great idea.