Although it may seem like a basic question, understanding what it means to be a nonprofit organization is the foundation of being able to understand a nonprofit’s financial reporting and management.
And the best way to fully grasp what it means to be a nonprofit is to examine the difference between a nonprofit and for-profit organization.
These four areas are key to understanding the difference between a nonprofit and for-profit company, and thereby what it truly means to be a nonprofit so you can prioritize the financial health of your organization.
Starting and structuring a new business venture involves many important decisions. One key consideration is whether to form your organization as a non profit, not-for-profit or for-profit entity. While these terms are sometimes used interchangeably, there are distinct differences between non profit, not-for-profit and for-profit organizations when it comes to their purpose, function, legal structure and tax status.
In this comprehensive guide, we will break down the key characteristics of non profits, not-for-profits and for-profits to help you determine which structure best aligns with your business goals and vision.
What is a Non Profit?
A non profit organization is formed to pursue a social cause or provide some type of public benefit, rather than earn profits for owners or shareholders. Non profits aim to address issues like healthcare, education, environmental conservation, social services, community development, arts and culture, and more.
Some key features of non profit organizations include:
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Mission-driven: The primary goal is to further a social cause or public good, not make money.
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Tax-exempt status: Non profits are exempt from paying federal income tax under IRS section 501(c)(3). Donations made to nonprofits are tax deductible.
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Public support Much of the revenue comes from donations grants membership dues, fundraisers and corporate sponsorships.
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Volunteer-run: Non profits often rely heavily on volunteers and have unpaid boards of directors.
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No owners: Assets and earnings cannot be distributed to any owners, directors or stakeholders. Everything is reinvested back into the mission.
Some examples of well-known non profit organizations include Habitat for Humanity, American Red Cross, Feeding America, United Way, Boys & Girls Clubs of America, Goodwill, and the YMCA.
What is a Not-For-Profit?
Unlike the legal designation of “nonprofit”, not-for-profit is more of a colloquial term used to describe an organization that does not earn profits for its owners Not-for-profits typically fall under the IRS category of “other tax-exempt organizations” and include
- Social welfare organizations
- Labor unions
- Trade associations
- Fraternal societies
- Credit unions
- Chambers of commerce
Some key aspects of not-for-profit organizations
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Member-focused: Tend to serve members of a specific profession, industry or interest area.
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Various tax-exemptions: Qualify for federal tax exemption under sections like 501(c)(4), 501(c)(5), 501(c)(6), etc. Donations are not tax deductible.
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Self-funded: Revenue comes from membership dues, service fees, product sales and investments.
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Flexible structure: Can pay salaries and have paid staff. Board members may be compensated.
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No profit distribution: Assets and earnings cannot be distributed to any owners or members.
Examples of not-for-profit organizations include social clubs, homeowners associations, cooperatives, advocacy groups and alumni associations.
Key Differences Between Non Profit vs. Not-For-Profit
While non profit and not-for-profit organizations share some commonalities, there are important distinctions between them:
Purpose
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Non profit: Benefits the public/society
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Not-for-profit: Benefits members
Tax status
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Non profit: 501(c)(3)
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Not-for-profit: 501(c)(4), 501(c)(5), 501(c)(6), etc.
Donation deductibility
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Non profit: Yes
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Not-for-profit: No
Compensation
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Non profit: Typically volunteer-based
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Not-for-profit: Can pay staff
Funding sources
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Non profit: Grants, donations, fees
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Not-for-profit: Dues, fees, sales
Examples
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Non profit: Habitat for Humanity
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Not-for-profit: Credit unions
Profit distribution
- Both types cannot distribute profits or assets to owners, directors or members
Governance
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Both types have boards of directors
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Not-for-profits may allow members to vote
How For-Profit Organizations Differ
In contrast to the mission-focused nature of non profits and not-for-profits, for-profit organizations aim to earn profits for their owners and shareholders. The primary goal is not philanthropy but rather optimizing revenue.
Some major differences include:
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Purpose: Maximize profits for owners
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Tax status: Subject to federal income tax
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Compensation: Can pay salaries and dividends
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Ownership: Has shareholders who can sell ownership shares
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Funds: Revenue from sales and services
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Example: Typical businesses like retailers, manufacturers, professional service firms
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Profit distribution: Earnings can be distributed to owners and shareholders
Choosing the Right Structure
When starting a new venture, take the time to carefully weigh the differences between non profit vs. not-for-profit vs. for-profit structures. Analyze your goals, funding needs, target audience and intended outcomes.
Here are some key questions to ask:
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Will my activities serve the public benefit or just members?
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Is earning profits my central goal?
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Will I rely on grants and donations?
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Do I need my organization to be tax-exempt?
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Will I have shareholders who expect dividends?
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Will I pay staff salaries and compensate board members?
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Do I want donors to be able to deduct contributions?
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Will volunteers be the main source of labor?
Consider both the legal and practical implications. An attorney can help you choose the ideal structure and officially register your entity with the state.
The right business format can help position your organization for success in pursuing its goals and best serving its intended community. Carefully weigh non profit vs. not-for-profit vs. for-profit as you plan your endeavor.
The Difference Between a Nonprofit and For-Profit: Organizational Motive
While for-profit companies exist for the purpose of—you guessed it—making a profit, nonprofit organizations exist to maintain assets in order to continue providing and expanding services that support their mission.
And while this is one of the most basic differences between a nonprofit and for-profit organization, a common misconception is that operating without a profit motive means not being allowed to have a profit.
This is far from the truth!
When nonprofits are able to have a surplus of revenues over expenses—a “profit”—the surplus can be re-invested into the organization. This allows the organization to continue to expand its services. Therefore, the better managed a nonprofit’s finances are, the more money is left at the end of the day to grow and expand the mission.
The Difference Between a Nonprofit and For-Profit: Performance Metrics and KPIs
Nonprofits have different performance metrics and key performance indicators (KPIs) than for-profit companies.
For-profit companies typically rely on profitability, or the bottom line, to measure overall performance. But because nonprofits are not profit-driven, profitability is seldom used to measure how a nonprofit is performing. Instead, nonprofits commonly rely on program outcomes to measure performance.
Each nonprofit has its own unique measurement standards. For example, a food bank may measure performance based on the number of meals served, whereas a crisis and counseling center may measure performance based on the number of counseling sessions provided.
Further, depending on the number of programs that a nonprofit has, there could be different performance metrics for each program. Determining which performance measurement standards your nonprofit should apply is key to understanding your organization’s overall effectiveness, as well as what information is needed for accurate financial reporting.
Nonprofit vs For-Profit: Which should I start?
What is the difference between a nonprofit and a not-for-profit company?
Under federal and state law, both nonprofit and not-for-profit companies can operate as tax-exempt organizations. Still, despite their similarity in name and tax status, both types of organizations are more different than you may think at first. Learn more about the differences between nonprofit vs. not-for-profit companies.
Do nonprofits make a profit?
By definition, nonprofits do not aim to turn a profit – it’s right there in the name. Instead, they serve the public good. While they do operate to earn revenue, nonprofits raise funds via donations, grants, and endowments to benefit an external cause.
What is the difference between a nonprofit and a charity?
Instead, they serve the public good. While they do operate to earn revenue, nonprofits raise funds via donations, grants, and endowments to benefit an external cause. Nonprofits include charities and foundations, as well as educational organizations, religious organizations, and hospitals.
What is a nonprofit organization?
What Is a Nonprofit? A nonprofit organization is primarily established to address a specific cause or advocate for a shared point of view. While they generate income, the key difference between them and a for-profit business is that the earnings are reinvested back into their mission, ensuring societal benefits rather than personal gain.
