By Marni Usheroff October 15, 2015
When news broke earlier this year that California regulators had stripped health insurer Blue Shield of California of its tax-exempt status, many were stunned that a company with $13 billion in revenue and $4 billion in reserves had been operating as a nonprofit.
Though the state has remained mum on why it revoked the insurer’s tax break, the move sparked debate about whether Blue Shield had been doing enough to benefit the public—providing a public benefit being the primary duty or mission of any nonprofit.
NFL, Carolina Panthers vs Indianapolis Colts. © kevin813
Just a couple of months later, the National Football League grabbed headlines by announcing it would drop its tax-exempt status. NFL commissioner Roger Goodell told team owners the exemption had become a “distraction.” Indeed, the NFL, whose teams earned a reported $10 billion in 2013, had been criticized by lawmakers for raking in revenue and paying Goodell an eight-figure salary, all while maintaining its tax break.
So what exactly is a nonprofit? If it can generate billions of dollars in revenue, what actually qualifies it for tax-exempt status? This is an especially relevant question for business reporters who may come across significant nonprofit players whether writing about health care or professional sports.
In fact, qualifying for nonprofit status has nothing to do with the magnitude of cash on an organization’s books. Rather it’s what a group plans to do with those earnings; whether that money will be put to work for public good and whether private interests will take a cut.
Below, we’ve assembled a nonprofit primer for journalists: What defines them, how they’re different from for-profit groups, and how to dig into their finances.
Nonprofits defined
A fundamental attribute of tax-exempt nonprofit organizations is that they can’t benefit private interests such as founders or shareholders, according to the Internal Revenue Service. In other words, those private interests can’t take a slice of a nonprofit’s net earnings. Nonprofit groups also must provide a significant public benefit.
American Ballet Theater ©Kent G. Becker
As of September, more than 1.5 million organizations are registered with the IRS as tax-exempt entities, according to Indiana University philanthropic studies professor Kirsten Gronbjerg, an expert on nonprofit funding and management. Nearly 70 percent of those nonprofits are 501(c)(3) groups, charities eligible to receive tax-deductible contributions. Examples span a wide range of sectors from the American Ballet Theater and churches to Mayo Clinic and the Rockefeller Foundation.
This 501(c)(3) category can be further sorted into two breeds: public charities that rely on contributions, government funding or membership fees and private foundations that depend on investment income. All other nonprofits are spread across a couple dozen categories, including 501(c)(4) public benefit organizations, which include volunteer fire departments and advocacy groups and which don’t qualify for tax-deductible contributions. Hospitals and universities are by far the largest nonprofit organizations in terms of assets and employment, according to Gronbjerg.
Different but Similar
A big difference between a for-profit organization and a charitable one is that the latter’s net revenues are not taxable. Public charities with 501(c)(3) status are also not required to pay property taxes in most communities. On the governance side, their officers, directors and trustees cannot personally benefit from the organization’s activities. For example, a nonprofit medical center can’t loan its CEO money or award a contract to a board member’s company.
Additionally, a charity’s assets (cash and other property) must be permanently dedicated to tax-exempt purposes. In the healthcare sector, that’s given rise to so-called health conversion foundations, separate nonprofits created when a hospital or other healthcare group chooses to go private and must divest significant charitable assets in order to do so. The new foundation can be linked to the for-profit group so long as there’s no self-dealing or private benefit involved.
Common Ground
Metropolitan Opera at Lincoln Center, New York City ©David Henderson
The chasms between nonprofits and for-profit businesses may widen or narrow depending on which industry they operate in. For example, while the House of Blues’ rock clubs and the Metropolitan Opera operate quite differently—the latter depends on contributions— nonprofit and for-profit hospitals often have a lot in common.
“The health care industry is unusual among nonprofit fields in that most health care for-profits and nonprofits rely extensively on the same revenues: Medicare, Medicaid and private insurance,” Gronbjerg said.
And though for-profit hospitals might offer higher salaries to their executives, some nonprofit institutions can also pay their leaders fairly princely sums, according to longtime investigative journalist Ronald Campbell of the California HealthCare Foundation Center for Health Reporting.
“There’s plenty of nonprofit hospital CEOs pulling down high six figures and even low seven figures,” Campbell said.
Just like for-profits, nonprofits must be managed like businesses, acting as wise stewards of their assets, Campbell said. That’s why they have to pay staff competitive wages-to attract and retain talent—and why they must charge patients realistic rates.
“Remember the very first rule about covering nonprofits that’s true of all nonprofits is they’ve got to make money if they’re going to stay in business,” Campbell advised. “If you go into this as reporter thinking nonprofits are charities, you’re doing yourself and your audience disservice.”
Digging into the Financials
If you are investigating a nonprofit, one of the best places to start is the Form 990. Most nonprofits given tax-exempt status by the IRS are required to file this annual return with details about the organization’s mission, programs and finances. Groups filing these documents must make available upon request their most recent three years of returns. These filings can also be found at a number of places online such as Guidestar.org and some states’ attorneys general and secretary of state offices.
“Trying to read the 990 is an art form,” Campbell said, noting that these documents unfortunately are not prepared according to generally accepted accounting principles (GAAP).
Here’s what to look for beyond the 990’s first two summary pages:
Another potential font of information is the Form 990’s Schedule K, which details whether the nonprofit has issued or is a beneficiary of any tax-exempt bonds. If so, that means access to more reliable financial statements. In the Schedule K, the organization must provide the bond’s CUSIP, a code assigned to all stocks and registered bonds. You can then search for the code on EMMA, a municipal securities database run by the Municipal Securities Rulemaking Board.
“It’s the keys to the kingdom,” Campbell said, pointing out that reporters can see if a nonprofit has any reports from a bond issue and whether it posted an audit, which is prepared according to GAAP. Another advantage: Bond-related audits are more likely to be filed on time while nonprofits can delay their 990s for many months, leaving reporters stuck with outdated information.
Campbell also suggested journalists should look at who’s on the board of directors and whether it’s too big to effectively govern. For example, it can be challenging for 40 people to reach a consensus. Other important tidbits to examine include whom the nonprofit has loaned money to, whether it’s received any loans itself and its overall financial health.
The Center for Investigative Reporting has a helpful guide for further analyzing the Form 990 and Investigative Reporters and Editors offers its members access to a trove of tip sheets by pros such as Campbell.
Slicing the Data
Campbell likes to grab three to five years of a nonprofit’s 990s, put all of the key income and expense indicators in a spreadsheet and look at the trends, checking for patterns such as declining income and an imbalance between income and expenditures.
“You may have one year where things go off the rails,” he said, “But three to four years of a steady trend in one direction tells me something.”
Campbell recalled how valuable digging into 990s was for an Orange County Register series he wrote on crooked charities. He examined documents for more than a dozen groups, tallying their donations received and expenses, especially payments to telemarketers and grants for charitable purposes.
When Campbell calculated the percentage of revenue spent on telemarketing versus the amount devoted to charitable purposes, in nearly all cases, the slice going to charity was well under 10 percent of revenue.
“A lot of this is sort of like what you learn in business reporting, that the footnotes (of SEC filings) are the most interesting part,” Campbell said. “There’s no footnotes per se, but deeper in stuff that seems obscure sometimes tells you a lot about an organization.”
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Also check out ProPublica’s comprehensive list of tools for examining nonprofits.
Correction: An earlier version of this story stated that “tax-exempt groups” are not required to pay property taxes in most communities. In fact, only public charities with 501(c)(3) status are not required to pay property taxes in most communities.
