Navigating Fiscal Sponsorship: Addressing Compliance and Legal Considerations
I. Introduction
In the evolving landscape of social innovation and community empowerment, fiscal sponsorship emerges as an important tool for driving change. It's a vehicle that accelerates the launch of new initiatives, fuels grassroots movements, and amplifies the impact of visionary leaders. However, within the realm of fiscal sponsorship, there lies a maze of legal and administrative complexities that can pose significant challenges to both sponsors and their projects.
We’ve discussed fiscal sponsors in this space before, and you can check out our guide regarding deciding whether to use a fiscal sponsor here. As well as a presentation on fiscal sponsor issue spotting here.
In this blog post, we'll delve into the intricacies of fiscal sponsorship, highlighting the critical importance of understanding and addressing legal concerns. Fiscal sponsors are tax-exempt organizations that extend their tax-exempt status to the projects they sponsor, allowing these projects to benefit from the same tax advantages. By doing so, they accept contributions intended for the projects' purposes, facilitating charitable activities while ensuring compliance with regulatory requirements. While maintaining tax-exempt status at the federal level is a widely discussed topic, there are also very important state law considerations for fiscal sponsors, which we discuss below.
II. Governance and Oversight
Governance is essential for managing a fiscal sponsor. The sponsor’s board of directors has a fiduciary duty to ensure that the sponsor operates in line with its mission, complies with legal and regulatory requirements, and manages its financial resources effectively.
The sponsor must ensure that their sponsored projects align with the sponsor's mission and comply with all applicable laws. This includes managing risks associated with projects, including legal, financial, and reputational risks. This requires setting up proper internal controls, conducting regular reviews, and addressing issues as they arise. The sponsor also has responsibility for supporting sponsored projects, ensuring the project adheres to best practices and complies with the sponsor’s standards. While the sponsor’s board is not going to be involved in the day-to-day of that work, the directors have a fiduciary duty to make sure that that sponsor’s leadership and staff are doing that work, and holding projects accountable.
III. Fiscal Sponsors and State Charitable Solicitation Registration
Fiscal sponsors serve as intermediaries between donors and charitable projects, receiving solicited funds on behalf of these projects and either bringing the project team into the sponsor’s organization to spend them directly (Model A) or re-granting the funds to the project team’s entity and making sure the grantee spends the money in a charitable and compliant manner (Model C). By allowing projects to solicit donations to the sponsor for the project’s purposes, a fiscal sponsor is constantly engaging in charitable fundraising activities. These activities are subject to state regulatory oversight to protect the interests of donors and the public. Charitable registration requirements vary by state, but generally apply to organizations that solicit contributions for charitable purposes.
Many sponsors do not realize, or do not think, they need to register in states where they have projects. However, if a project is soliciting charitable contributions in a state, the sponsor likely needs to register. This is because everything flows up to the sponsor, meaning that all fundraising activities undertaken by the project are ultimately attributed to the sponsor.
Registering as a charitable organization ensures compliance with state regulations, demonstrates transparency and accountability in fundraising activities, and ensures projects can seamlessly fundraise. It’s also important to register proactively, before a project begins, to ensure there is no disruption to fundraising for the project.
IV. We Need an Audit?
Most likely yes. Many states require tax-exempt organizations, which fiscal sponsors are, to undergo audits based on their annual revenue as part of the process to register for soliciting contributions and to renew that registration. These audit requirements can vary significantly from state to state, but they generally apply to organizations that reach certain revenue thresholds. For example, $2 million triggers the audit requirement in California, while $500,000 triggers an audit in Illinois. Even if all of a fiscal sponsors’ projects are small, the total donations across all projects can easily trigger an audit, sometimes to the sponsor’s surprise
It is important for sponsors to be aware of and plan for these audits from the beginning. Conducting an audit proactively is much more efficient than trying to go back and conduct one retroactively to meet regulatory requirements. By staying ahead of these requirements, sponsors can avoid delays and complications in their registration process, ensuring continuous compliance and the project’s ability to solicit contributions.
V. Contracts
When fiscal sponsors enter contracts, it’s crucial to clearly identify the parties involved and to understand which model of fiscal sponsorship you are using.
· If you’re in a Model A fiscal sponsorship, there are two critical things to remember (that we see sponsors and projects forget all the time): (A) the party to the contract needs to be the fiscal sponsor and NOT “the project” – the project is not a legal entity and a contract in its name means the project may not have any contractual rights at all, and (B) that means the fiscal sponsor needs to know about the contract and authorize its signature (either directly or through a clear delegation policy with oversight). We've seen situations where projects have signed contracts without the sponsor’s knowledge (leading to an unpleasant surprise when things get messy). Because a Model A sponsor assumes all associated risks and responsibilities with respect to the project, that means the sponsor is going to bear all of the financial liability and compliance obligations, even if its project personnnel carrying out the contract terms.
· If you’re in a Model C fiscal sponsorship, then it depends on the type of contract.
o Grant and gift agreements need to be signed by the sponsor, without specific reference to the project entity. (And of course checks need to be written to the sponsor, not that project entity).
o BUT, other contracts (employment agreements, purchase agreements for goods and services), are typically going to be signed by the project entity, and NOT the sponsor. The project entity will still report back on how it spends the money it gets from the sponsor, and it may describe different contracts that it used to spend the money, but the project entity is the operator so it signs the contracts in this situation.
As a result, fiscal sponsors must thoroughly understand the activities and operations of the project before signing any contract. This understanding helps in assessing potential risks and ensuring that the project’s use of funds and activities aligns with the sponsor’s mission. Fiscal sponsors should implement strong review and oversight processes to manage risk effectively, and make sure that its project teams are following the above rules. This includes scrutinizing contract terms and understanding who the parties are, who is signing, and whether project deliverables are clear. By taking these steps, sponsors can protect themselves from potential issues and their interests.
X. Conclusion
In the dynamic field of fiscal sponsorship, understanding and addressing compliance and legal considerations is crucial for both fiscal sponsors and their sponsored projects. Fiscal sponsors, by extending their tax-exempt status to projects, play a vital role in facilitating charitable activities and ensuring funds are used effectively. However, this responsibility also comes with significant regulatory and administrative obligations.
It is essential for sponsors to prioritize legal diligence and risk management to uphold their mission and maintain the trust of donors. Prioritizing compliance and proactive risk management is not just a regulatory necessity but a fundamental aspect of responsible and effective fiscal sponsorship.