FTB Revocation Policy for Failure to File Statement of Information or Form RRF-1


At a meeting of the California Bar Association’s Tax Exempt Organizations Committee last Friday, the issue of the California Franchise Tax Board (“FTB”) revoking an organization’s state tax-exempt status for failure to timely file a Statement of Information with the California Secretary of State was raised.  Several representatives of the FTB present at the meeting confirmed that failure to timely file a Statement of Information with the Secretary of State or a Form RRF-1, Annual Registration Renewal with the California Attorney General’s Registry of Charitable Trusts after the appropriate notices have been given by those agencies will generally result in reporting the organization as suspended to the FTB.  The FTB will then send out a notice of suspension or forfeiture to the organization indicating that it will suspend the organization if it fails to comply within 60 days (see, generally, FTB’s website). 

According to the FTB representatives present at the meeting, if an organization is suspended because it fails to take steps to comply with any requirements leading to suspension in a timely manner, the FTB may revoke its state tax-exempt status.  In order to reinstate its tax-exempt status, the organization will be required to file the full Form 3500, even if it was not required to file Form 3500 to obtain exemption initially.  Moreover, the organization may be subject to income tax or the $800 minimum franchise tax for any period in which it is operating without exempt status if it is not able to reinstate its exemption retroactively.

Although the automatic revocation of state exemption for failing to file an annual return for three consecutive years (and the corresponding IRS regulation regarding automatic revocation of federal exemption) is widely known, this was the first we had heard of the FTB’s policy regarding revocation of state exemption for failure to file a Statement of Information or Form RRF-1.  The FTB has agreed to further discuss this policy at the next meeting of the Committee and we will update this post with any further information we receive.


California Youth Equality Act Aimed at Boy Scouts of America


Boy scout badge 


Nonprofit organizations may obtain recognition of federal tax exemption under Section 501(c)(3) of the Internal Revenue Code. In California, the corresponding provision for state tax exemption is Section 23701d of the Revenue and Taxation Code. Section 23701d is very similar to Section 501(c)(3) and states the following:

"Corporations, community chests or trusts, organized and operated exclusively for religious, charitable, scientific, testing for public safety, literary, or educational purposes, or to foster national or international amateur sports competition (but only if no part of its activities involved the provision of athletic facilities or equipment), or for the prevention of cruelty to children or animals, no part of the net earnings of which inures to the benefit of any private shareholder or individual, no substantial part of the activities of which is carrying on propaganda or otherwise attempting to influence legislation, (except as otherwise provided in Section 23704.5), and which does not participate in, or intervene in (including the publishing or distribution of statements), any political campaign on behalf of (or in opposition to) any candidate for public office."

Last week, the California State Senate passed SB 323, or the Youth Equality Act, a bill that will amend Section 23701d in order to deny or revoke state tax exemption for youth organizations that discriminate. The bill, aimed at the Boy Scouts of America, was designed to bring nonprofit youth groups in line with California's existing non-discrimination laws by levying state sales, use, and corporate taxes on those organizations with discriminatory practices. Specifically, SB 323 proposes the addition of the following language to the code:

"Notwithstanding any other law, an organization organized and operated exclusively as a public charity youth organization that discriminates on the basis of gender identity, race, sexual orientation, nationality, religion, or religious affiliation shall not be exempt from taxes imposed by this part."

Critics of the measure are concerned about its constitutionality, citing free speech issues and U.S. Supreme Court cases that recognize a private organization's right to make membership decisions. Although the Boy Scouts recently approved new guidelines allowing homosexual-identifying youths to become members, its policy still prohibits openly homosexual adults from serving as leaders.

Another criticism of the bill is that the language leaves open the meaning of gender identity. An expansive definition of gender identity could have unintended (or possibly intended) consequences on nonprofit schools and institutions that have traditionally been all-boys or all-girls.

To become law, SB 323 requires a two-thirds vote from the California State Assembly and then Governor Jerry Brown's signature. If passed, the result will create a disconnect between state and federal exemption requirements, prohibiting, for example, the Boy Scouts from being recognized as exempt under state law because of its discriminatory policies, but having no change to its status as exempt under federal law. The bill is currently in the Assembly awaiting review.


Can We Have a Nonvoting Director?



No. All directors have a right to vote on each matter presented to the board of directors for action.*

     * applicable to California nonprofit corporations. See Cal. Corp. Code Secs. 5211(c), 7211(c), 9211(c).


Q:  What about directors who have a conflict of interest in a transaction being voted upon?

A:  All directors (even the ones with a conflict of interest) have a right to vote on each matter presented to the board for action. Even a conflict of interest policy requiring a director to abstain from such votes cannot prevent a director from exercising his or her statutory right. BUT (and this is a big but*) any director of a nonprofit public benefit or religious corporation with a material financial interest in a transaction being voted upon should voluntarily recuse himself or herself from the meeting and not be present during debate and voting on the transaction if it involves a compensation arrangement or property transfer.

     * cue immature laughter

The recusal is necessary in order to meet the requirements for a rebuttable presumption that the transaction is not an excess benefit transaction subject to penalties.

It should be noted that an interested director need not abstain from a vote to avoid a self-dealing transaction under state law. However, the interested director's vote will not count in meeting the safe harbor under Cal. Corp. Code Sec. 5233(d)(2) or 9243(d)(3).

Q:  So what about an ex officio director?

A:  An ex officio director, like any director, has a right to vote on each matter presented to the board for action. Ex officio in this context simply means that the person is a director by virtue of holding another office. For example, the CEO of an affiliated organization might be an ex officio director of a particular nonprofit corporation. If the CEO resigns from the CEO position, he or she would no longer be a director because it's only the person in that office that is the ex officio director. It is a common mistake to interpret ex officio to mean nonvoting.


FTB 199N: Annual Electronic Filing Requirement for Small Tax-Exempt Organizations


For accounting periods starting on or after January 1, 2010, small California tax-exempt organizations are required to file an annual return with the Franchise Tax Board (FTB) by the 15th day of the 5th month after the close of the organization's tax year. Currently, tax-exempt organizations with annual gross receipts that are normally $50,000 or less may complete this requirement by submitting a Form 199N, or what is commonly referred to as the e-Postcard, with no cost to file. (See FTB Form 199 and electronic Form 199N requirements). These organizations may also elect to instead file a Form 199 but organizations with annual gross receipts that are normally over $50,000 may only complete their annual filing requirement by submitting the longer and more detailed Form 199. Previously, the FTB required only those organizations that had an average gross receipts amount of more than $25,000 to file an annual return.

The California e-Postcard requires basic information about the organization, such as:

  • Entity ID number or California Corporation number
  • Organizational name (and any other names the organization uses)
  • Federal employer identification number
  • Tax year (or any changes to the initial tax year)
  • Mailing address
  • Name and address of a principal officer
  • Website address, if applicable
  • Total gross receipts
  • Whether the organization terminated or went out of business, if applicable
  • Contact person's name and telephone number

An organization that fails to file this form for three consecutive years will automatically lose its exempt status. Some organizations are exempt from this filing requirement such as churches and political organizations. Organizations that have an exemption application pending with the FTB can still file the e-Postcard so long as the organization's gross receipts are normally $25,000 or less.

For additional information about the filing, or to file the e-Postcard, go to: 199N California e-Postcard.


New California Law Affecting Fiscal Sponsors



Nonprofits in California serving as fiscal sponsors must be aware of the new law that may require them to maintain directors' and officers' liability insurance and disclose annually to the Attorney General how they comply with their charitable trust responsibilities. These requirements are triggered if three conditions are met:

  1. The organization is subject to the California Supervision of Trustees and Fundraisers for Charitable Purposes Act (generally applicable to charitable corporations and other entities holding property for charitable purposes);
  2. The organization holds restricted net assets (fiscal sponsors generally hold restricted assets for each project they sponsor); and
  3. The organization has negative unrestricted net assets (i.e., the organization has insufficient unrestricted assets to cover all of its liabilities).

The new requirement was codified in California Government Code Section 12599.8, which became effective on January 1, 2013:

For any year that the balance sheet of a charitable organization shows that it holds restricted net assets, while reporting negative unrestricted net assets, the organization shall provide an explanation of its compliance with its charitable trust responsibilities and proof of directors' and officers' liability insurance coverage to the Attorney General's Registry of Charitable Trusts.


CalNonprofits: Step by Step Guide for Starting a Nonprofit



Emily and I wrote the Step by Step Guide for Starting a Nonprofit for our good friends at CalNonprofits. Check it out here.

If you're an executive or board member of a nonprofit and not familiar with CalNonprofits, you should be. Here's a short excerpt from their website:

The California Association of Nonprofits (CalNonprofits) is a statewide membership organization that brings nonprofits together to advocate for the communities we serve. In 2013 we are entering a new period of renewed activity and impact, and we invite you to join us as we chart a new course.


Changes to California Articles of Incorporation Filings



Effective January 1, 2013, the articles of incorporation of a California nonprofit corporation must now include the entity street address and mailing address.

The changes to the requirements and a fill-in form for a nonprofit public benefit corporation are available here.

The changes to the requirements and a fill-in form for a nonprofit mutual benefit corporation are available here.

The changes to the requirements and a fill-in form for a nonprofit religious corporation are available here.


Board Actions by Written Consent & Interested Director Transactions

  Written consent

Boards of California nonprofit public benefit corporations may take actions by voting at meetings or by the unanimous written consent of all directors. Generally, a unanimous written consent takes the form of a document detailing a board action or actions signed by all the directors then in office. This document may also be signed in counterparts, that is, each director may sign on a copy of the document (i.e., a counterpart) rather than on one original document, and the action will be validly taken once all the signed counterparts are confirmed.

Typically, the Secretary of the corporation is responsible for collecting all the counterparts, which may be sent to the Secretary by fax or email (e.g., scanned copy). Particularly for important actions, it would be good practice for the Secretary to collect all counterparts with original, wet signatures (rather than the faxed or emailed copies). The written consents should be maintained along with the board meeting minutes in the board's minute book.

From a governance perspective, it is generally encouraged that a board take action by voting at a duly held meeting for various reasons including encouraging more thorough discussion than might otherwise take place without talking face-to-face or via conference call. Unanimous written consents should therefore not replace a board’s responsibility and duty to conduct meetings or have discussions but it can provide an attractive option when unusual circumstances arise that may otherwise prevent the board from taking acting at a meeting. Additionally, the higher voting requirement of unanimous approval, in particular, may bring some assurance to other board members and outsiders that the action at issue has an appropriate level of board support.

While the concept of unanimous written consent seems generally straightforward, there are certain circumstances that pose challenges to the process such as approving a transaction in which a director has a material financial interest (in such capacity, an “interested director”). This becomes all the more challenging if half of the directors or more are interested directors. Unfortunately, California law is not explicit as to whether an action could be approved via written consent under those circumstances. Here, we take a closer look at the California provisions at play to hopefully shed some light on best practices for organizations struggling with this issue.

Interested Director Transactions

Where a proposed action to be taken involves an interested director, as defined in California Corporations Code Section 5233(a), the interested director's consent is neither included nor required for the unanimous written consent where all of the following three requirements in Corporations Code Section 5211(b) are met:

  1. One of the self-dealing safe harbor rules in Corporations Code Section 5233(d)(2) and (3) are met;
  2. The establishment of those facts is included in the written consent or in other records of the corporation; and
  3. The noninterested directors approve the action by a vote that is sufficient without counting the votes of the interested directors.

Requirement 1 – Self-dealing Safe Harbor Rules

The first requirement for a valid unanimous written consent of a transaction with an interested director turns to the procedural mechanisms that would otherwise be encouraged if the transaction were instead approved at a meeting. A transaction with an interested director is generally considered a “self-dealing transaction” unless it falls under one of the three safe harbor provisions provided for in the California Corporations Code Section 5233(d). These safe harbor provisions, if met, give the presumption that the transaction was appropriately approved by the Board as fair and reasonable as to the corporation and furthermore prevent a court from granting certain remedies such as requiring the interested director to pay to the corporation for any profits made from the transaction or return of any of any property lost to the corporation as a result of the transactions (see CCC Section 5233(h)). For purposes of a valid unanimous written consent, an organization must satisfy either subsection (2) or (3) of the three safe harbors in Section 5233(d) (reproduced below, emphasis added):

(1) The Attorney General, or the court in an action in which the Attorney General is an indispensable party, has approved the transaction before or after it was consummated; or

(2) The following facts are established:

(A) The corporation entered into the transaction for its own benefit;

(B) The transaction was fair and reasonable as to the corporation at the time the corporation entered into the transaction;

(C) Prior to consummating the transaction or any part thereof the board authorized or approved the transaction in good faith by a vote of a majority of the directors then in office without counting the vote of the interested director or directors, and with knowledge of the material facts concerning the transaction and the director's interest in the transaction. Except as provided in paragraph (3) of this subdivision, action by a committee of the board shall not satisfy this paragraph; and

(D) (i) Prior to authorizing or approving the transaction the board considered and in good faith determined after reasonable investigation under the circumstances that the corporation could not have obtained a more advantageous arrangement with reasonable effort under the circumstances or (ii) the corporation in fact could not have obtained a more advantageous arrangement with reasonable effort under the circumstances; or

(3) The following facts are established:

(A) A committee or person authorized by the board approved the transaction in a manner consistent with the standards set forth in paragraph (2) of this subdivision;

(B) It was not reasonably practicable to obtain approval of the board prior to entering into the transaction; and

(C) The board, after determining in good faith that the conditions of subparagraphs (A) and (B) of this paragraph were satisfied, ratified the transaction at its next meeting by a vote of the majority of the directors then in office without counting the vote of the interested director or directors.

The second safe harbor listed in Section 5233(d)(2) is particularly important for purposes of this article. Section 5233(d)(2) provides a safe harbor if, among other things, the board approves that transaction by a vote of a majority of the directors then in office without counting the vote of the interested director or directors. The difficult question then is whether this safe harbor can apply when at least half of the board is composed of interested directors. For example, if there were 10 directors on a board and 6 directors were interested directors in a proposed transaction, could the 4 remaining directors approve the transaction and meet the safe harbor requirement? I believe the answer is "no."

Some have interpreted Section 5233(d)(2)(C) to mean that a board need only look at the number of noninterested directors for purposes of defining the numerical threshold that constitutes “a majority of directors then in office.” Therefore, in our hypothetical, this interpretation means that the 4 noninterested directors could approve the transaction by written consent so long as a majority of the 4 noninterested directors approved (i.e., at least 3 of the 4 noninterested directors). I disagree with that interpretation. I read Section 5233(d)(2)(C) as describing a two-step process. First, the Board must look to all directors, regardless of whether he or she is an interested director, for purposes of defining the numerical threshold that constitutes “a majority of directors then in office.” Then, when the Board votes, it cannot include any votes by interested directors for meeting that numerical threshold. Therefore, in our hypothetical, this means the organization needs an affirmative written consent by at least 6 of the 10 directors then in office to constitute “a majority of directors then in office.” However, because the organization only has 4 noninterested directors, it cannot practically meet this requirement.

Requirement 2 – Establishment of Facts on Record

The second requirement for a valid unanimous written consent focuses on proper recordation of the transaction. This requirement essentially means the written consent should be drafted to adequately evidence that the safe harbor provisions were met. For example, if relying upon the safe harbor in Section 5233(d)(2), the consent should mirror the statutory provisions by, for example:

  • Explaining why the board considered the transaction to be for the corporation's own benefit (see CCC Section 5233(d)(2)(A);
  • Explaining why the board considered the transaction to be fair and reasonable as to the corporation (see CCC Section 5233(d)(2)(B);
  • Documenting the material facts concerning the transaction and the director's interest in the transaction (see CCC Section 5233(d)(2)(C); and
  • Explaining why the corporation could not have obtained a more advantageous arrangement with reasonable effort under the circumstances (the federal regulations for obtaining a rebuttable presumption of reasonableness may be helpful here) (see CCC Section 5233(d)(2)(D)).

Such considerations and their explanations are fundamentals to ensuring directors are acting with due care and loyalty to the organization when a transaction involves an interested director and that voting directors understand what exactly is being voted on. Additionally, although the safe harbors help to protect an organization from certain legal penalties, they do not prevent someone from challenging the validity of that action whether in a court of law, by investigation, or through public criticism for which the organization’s documentation can be an important defense.

Requirement 3 – Sufficient Board Approval Without Counting Interested Directors

The third requirement for a valid unanimous written consent focuses again on how a board should determine a sufficient vote by requiring approval by the noninterested directors by a vote that is sufficient without counting the votes of the interested directors. It is important to note that this requirement was drafted after the provisions related to self-dealing transactions which did not expressly contemplate how self-dealing rules under Section 5233(d) would apply to the unanimous written consent procedure. Thus, this third requirement, though sounding repetitive, reiterates that the board must meet the applicable legal requirements to constitute a board action which here, include not only those provisions related to self-dealing transactions but also those provisions related to a unanimous written consent.

In some situations, there may appear to be no meaningful difference. For example, assuming our interpretation of Section 5233(d)(2)(C) as discussed above applies, an organization with a 10-person board must first establish there are at least 6 noninterested directors who can vote on the transaction at issue in order to satisfy Section 5233(d)(2)(C). If there are 6 noninterested directors and all 6 approve the transaction through unanimous written consent, it appears a sufficient quorum and vote has occurred for a valid unanimous written consent.

However, the conclusion changes if, for example, a 10-person board has 8 noninterested directors and only 6 noninterested directors consented to the transaction. The hypothetical organization here has met the voting requirements under Section 5233(d)(2)(C) which requires a majority of all directors in office to meet quorum (i.e., at least 6 directors of the 10-person board) and approval by a majority of the noninterested directors for a board action (i.e., at least 5 of the 8 noninterested directors). However, Section 5233(d)(2)(C) only addresses actions taken at a meeting. Therefore, the self-dealing rules must be understood with consideration of the unanimous written consent rules which, when taken together, mean a sufficient vote occurs by unanimous written consent when: (i) the number of noninterested directors who can vote on the transaction is at least equal to the number of directors that would be required to satisfy a quorum of a majority of all directors in office (i.e., at least 6 directors of the 10-person board) and (ii) the transaction is approved in writing by all of the noninterested directors who can vote on the transaction (i.e., in this hypothetical, all 8 noninterested directors).

With all the increased scrutiny on financial transactions between nonprofits and their directors (Financial Transactions With Your Board: Who is Looking?), it becomes imperative to approve such transactions in a lawful and thoughtful manner. Ideally, such transactions should be appropriately vetted, discussed, deliberated, and voted upon at a meeting. Where it becomes necessary to vote on the transaction by unanimous written consent, boards should follow the requirements to the letter. And where the requirements are not clear, it may pay to take the conservative approach. 

- Emily Chan & Gene Takagi


California Benefit Corporation and Flexible Purpose Corporation

California Governor Jerry Brown announced today that he signed into law AB 361 (Benefit corporations) and SB 201 (Flexible purpose corporations).  These laws will provide social entrepreneurs with two additional forms of legal entities to consider when creating their social enterprises and represents a tremendous step forward for businesses looking to factor social good into their traditional bottom lines.

Click here for our Handout on the California benefit corporation and flexible purpose corporation.

Green Business 2

I'll be speaking about both of these new entities and the L3C (not yet in California) on Friday, October 14, to the Santa Barbara County Bar Association Tax Section.  And Emily and I will be presenting on social enterprise legal entities at the Net Impact Annual Conference in Portland, Oregon on Saturday, October 29.

Additional Resources:

Everything You Ever Wanted to Know About the Flexible Purpose Corporation (And Then Some) – Business for Good


California Property Tax Exemption: Must Primarily Benefit Californians


In California, in order to qualify for State property tax exemption, a nonprofit’s property must be irrevocably dedicated to religious, hospital, scientific, or charitable purposes; and “the charitable [and/or other exempt] activities must be found to primarily benefit persons within the geographical boundaries of the State of California.”  For a more detailed look at the requirements set forth by the State Board of Equalization (BOE), visit the BOE’s Frequently Asked Questions – Property Tax Payment & Relief – Welfare or Veterans’ Organization Exemptions.  Here’s an excerpt:

What are the conditions that an organization must meet in order to be considered a “charitable” organization for purposes of qualifying for the Organizational Clearance Certificate, which is needed to receive the Welfare or Veterans’ Organization Exemption?

In general, the organization must demonstrate that it is in receipt of substantial donations from outside sources. Those donations, in turn must be passed on to a segment of the public that is sufficiently large that a gift to the organization may be viewed as benefiting the community as a whole.

Although an organization’s receipt of donations is an important criteria by which its charitable purpose can be demonstrated, the absence of donations, by itself, will not result in a determination that a charitable purpose does not exist if it can be shown that the organization is providing a benefit or gift to the community. (Stockton Civic Theatre v. Board of Supervisors (1967) 66 Cal.2d. 20)

In addition, the organization must meet ALL of the following criteria:

  • It must not be organized or operated for profit.
  • No part of the net earnings of the organization may benefit any private person.
  • The organization’s property (1) must be irrevocably dedicated to religious, hospital, scientific, or charitable purposes, and (2) may not benefit any private person upon liquidation, or abandonment except a fund, foundation, or corporation organized and operated for religious, hospital, scientific, or charitable purposes.
  • The organization must qualify as an exempt organization for state or federal income tax purposes.
  • The charitable activities must be found to primarily benefit persons within the geographical boundaries of the State of California.

So, a charity with property in California that helps the homeless throughout the country would probably not qualify for property tax exemption unless most of its activities benefited persons in California. A charity dedicated to international relief work (e.g., aiding disaster victims) would also not qualify. [Editorial:  Seems pretty short sighted in these times where the world has flattened and our contributions outside the State have great impact to the welfare of the State and persons within the State.]

For more information on this issue, read the Mitchell Silberberg & Knupp Charitable Sector Alert here.  Thanks to MSK attorney and fellow UCLA Law alum Ofer LIon for sharing his article.

Also check out our previous post on the California property tax welfare exemption.

8/15/11 UPDATE:  Read more about this issue on The Nonprofit Quarterly website - Some California Nonprofits with Global Focus Denied Tax Exemption, which also references The New York Times article on the subject.