Right or Wrong?
by John P. Joseph
Recently a pastor told me he had been pastoring a small church for many years and was wondering if he had been doing things correctly. I discovered neither he or the board had incorporated the church with the state. The pastor asked, “Should we incorporate?”
This article will track my conversation with him.
Our discussion focused on the legal status of an unincorporated church along with the risks associated with it. We talked about what incorporation means along with its advantages and disadvantages and the process to incorporate.
An Unincorporated Association
Since church leadership never formally incorporated his church, it was in essence an “unincorporated association.” In other words, his church is a group of people simply meeting for a common purpose. In his unincorporated association, members are personally liable for the acts other members commit in the course of the association’s business.There is nothing improper with this per se, but there are disadvantages and risks to continue operating in this fashion.
Disadvantages of being unincorporated
Traditionally, the states and courts have rendered a list of disadvantages to being unincorporated.
First,the state in which the members meet does not formally recognize the existence of this group of believers. This can have serious repercussions.
Second, the members individually can be personally liable for the liabilities of the church. This can be serious in cases of sexual molestation, personal injuries on the premises, breach of contract, and other matters.
Third, the church cannot enter into any agreements or contracts. This can hinder their efforts to operate as an organized entity.
Fourth, the church will have difficulty suing in case someone wronged it or will be defenseless if someone sues it. Not being able to sue has it challenges. In the case where a member is negligent and causes damages to other members, it may leave members without a legal remedy to address such injuries and damages. This potential personal liability of every member for the acts of other members makes incorporation appealing.
Fifth, the church cannot own or transfer property in its own name. Although not recommended, I do know of one unincorporated church that purchased land decades ago and currently holds title as an “unincorporated church.” Although some states and courts have removed some of the disadvantages of being unincorporated, the obvious choice for the church is to be incorporated.
But what does it mean to be incorporated?
What is incorporation?
When an unincorporated church group incorporates, it means it has completed the process by which the state recognizes it as a formal legal entity. The state lists the newly formed corporation as an entity doing business in the state as a nonprofit corporation. This allows the church to act in a corporate way and not as a group of individual members. Formal incorporation has many benefits, and unincorporated churches need to seriously consider this course of action.
Benefits of incorporation
First, the church places the world on notice that it exists as a bona fide entity recognized by the state with a “registered agent.” A registered agent is a person who acts on the church’s behalf to receive legal documents.
Second, the church can own and transfer property in the name of the church. Additionally, a bank can loan money to the church directly without requiring personal guarantees of the membership or leaders.
Third, members of the church have a shield of liability available that renders them not personally liable for the acts of other members. This is significant since we live in a very litigious society.
Fourth, the church can enter into contracts or agreements as a corporation.
Fifth, the church has standing to sue and be sued. In other words, if someone wrongs the church, the church can go to court and seek damages.
Disadvantages of incorporation
First, because the state now legally recognizes the church, some individuals are suspect of any government entanglement. I believe this fear is unfounded. True, state statutes regulate aspects of church governance. But usually state provisions are only applicable if the church fails to provide provisions of governance in their articles of incorporation and bylaws.
Second, some perceive that the costs of incorporation are excessive. The costs and charges by the state and an attorney are usually reasonable, however. Although each state has its own costs associated with filing the articles of incorporation, I have yet to see any prohibitive fee. Additionally, one can locate an affordable attorney experienced in nonprofit law.
Are you wondering if your church is incorporated? If you are not sure of the status of your church, there is a way to find out.
Determining if your church is incorporated
It is important to determine if your church is incorporated since the courts may hold individual members in unincorporated churches personally responsible for liabilities of the church. This puts the responsibility on church leadership to verify incorporation. Contact your secretary of state and obtain the phone number of the Division of Corporations to verify your church’s current status as a corporation. Usually you can get this information over the phone.
If the church is incorporated, order a Certificate of Status for the church and a certified copy of your Charter or Articles of Incorporation. These documents verify the current status of the church. It is important to maintain these documents as permanent records. If your church is current, that is good news.
The Division of Corporations may inform you that at one time the church filed the articles, but is no longer in good standing with the state. This can happen for two reasons: Your church status may have lapsed because it failed to pay the annual fee or file the annual report. If this is the case, an attorney can assist with the process to get reinstated. A small reinstatement fee may be required.
If you verify that your church never incorporated, discuss incorporating with a church attorney. Three types of church corporations exist in the United States.
Types of church corporations
Membership Corporation. In the membership corporation, church members govern the church. This is the most common type.
Trustee Corporation. In this type of corporation, the trustees control the corporation.
Corporation Sole. Hierarchical-type churches usually use this type and leadership consists of a single individual.
For the purposes of this article I will mainly address the most common type: membership corporation.
Incorporating as a church: preliminary thoughts
First, consider hiring an attorney. I would not recommend retaining someone simply because he or she attends your church or sits on your board. Retain an attorney who practices in the area of nonprofit corporate law.
Next, file your corporate papers to make clear the structure of your entity is in fact a church. Not all organizations are set up like a church. How a church operates with its members is critical for Internal Revenue Service approval to receive donations and recognize contributions for tax purposes. What does the IRS look for in determining whether an organization is a church?
In Private Letter Ruling Number 200830028, the IRS cited specific criteria to determine if an organization can be classified as a church.
The 14 points are:
1. A distinct legal existence
2. A recognized creed and form of worship
3. A definite and distinct ecclesiastical government
4. A formal code of doctrine and discipline
5. A distinct religious history
6. A membership not associated with any other church or denomination
7. An organization of ordained ministers
8. Ordained ministers selected after completing prescribed studies
9. Literature of its own
10. Established places of worship
11. Regular congregations
12. Regular religious services
13. Sunday Schools for religious instruction of the young
14. Schools for the preparation of its ministers.
While referring to these 14 points in the Private Letter Ruling, the IRS stated, “While some of these are relatively minor, others, e.g. the existence of an established congregation served by an ordained ministry, the provision of regular religious services and religious education for the young, and the dissemination of a doctrinal code, are of central importance.”
The next step is the actual process of incorporation.
Process of Incorporation: Articles of Incorporation
Incorporation is basically the formation of a legal corporation. The process of incorporation is rather straightforward, yet deceptively simple. You must follow your state requirements and also meet the IRS language and structure previously discussed. The structure and language are critical to receiving approval for your 501(c)(3) application.
Each state has a uniform method of incorporating nonprofit organizations, including religious organizations. The procedure begins with drafting and filing the charter or articles of incorporation. Most such documents include at least the following:
1. Name of the corporation.
2. Place or street address, city, and county of the principal office.
3. Purpose of the corporation.
4. Names and addresses of the persons who are the initial trustees, directors, or incorporators of the corporation.
5. Required IRS language should be included. (See sidebar “Suggested IRS language for Articles of Incorporation.”)
6. Process for dissolution of the corporation.
7. Period of duration. Usually perpetual.
8.Name and address of the registered office and agent.
9. Membership requirements and governance.
10. General and specific purposes.
11. Affiliation, if any.
12. Signature by the incorporator(s) in front of a notary.
The church sends this document to the secretary of state of its state for filing. Enclose the proper filing fee. Enclose a duplicate set of papers for the secretary of state to stamp and return for the church’s permanent records. The corporation exists upon filing by the secretary of state.
Fees and costs to incorporate:
Your attorney will charge you a reasonable fee for the time he took to discuss your options and create the legal documents to be filed. The secretary of state will charge to incorporate. Both expenses are usually not prohibitive. You may also want your attorney to order a corporate kit or binder that contains a sample set of bylaws and a metal seal for stamping documents on behalf of the corporation. The church can use the seal for stamping corporate resolutions required by your bank or closing documents at a title company.
IRS approval or recognition
The next issue is receiving tax-exempt status as a church. There are a couple of methods available for tax-exempt recognition by the IRS.
First, if your church is a member of a convention or association of churches, you may want to come under your denomination’s umbrella. This way you can bypass the process of making application directly to the IRS. Churches under a type of district control may want to check with their leadership and determine if their headquarters or general council has obtained a group-exemption ruling from the IRS. If the denominational headquarters has such a ruling, I recommend that the church inquire about the denomination adding the church under its umbrella. If no group ruling is available to the church, then making application for exemption is your next step.
Second, you can apply directly to the IRS and complete the 501(c)(3) application process. Generally, the IRS will not treat a charitable organization as tax-exempt unless it applies for recognition of exemption by filing a current Form 1023, Application for Recognition of Exemption.The IRS requires this application before it will recognize a church’s exemption from federal income tax. Generally, an organization required to apply for recognition of exemption must file a properly completed and executed Form 1023 with the IRS within 27 months from the end of the month in which it was organized for its exemption to be effective from its date of formation. The IRS can extend this deadline if the organization meets certain requirements. Be advised this process will take a few months and the application is rather extensive.
Once you have filed your articles of incorporation or charter and have received recognition of exemption from the IRS, your next step is to simply maintain the church corporation current or in good standing with your state.
Maintaining your church as a corporation
Maintaining your corporation is not difficult. In many states church corporations only need to file a simple annual or biannual report with the state. Usually this requires an inexpensive annual renewal fee. Here you will update the state with the names and addresses of the current officers and directors.
If a church fails to keep its corporation current with the state, the state may penalize the church’s corporate status or declare the corporate status as lapsed. The penalties imposed upon corporations differ from state to state. A lapsed corporation may have to pay a fine or penalty to be reinstated. Some states even cancel the corporation’s certificate of incorporation. This is serious since it terminates the corporation’s existence. The consequences could be dire since it may affect your church’s ability to operate and enter into contracts and agreements. Usually the state will send the church a notice of such action before it takes place. If the state has cancelled or dissolved your church corporation, many states have a process for reinstatement. Your attorney can assist you.
I recommend that churches verify with the secretary of state every year that they are in good standing. If your state offers a Certificate of Status, I suggest you pay the extra money and receive it every year and file it with your legal documents. Remember, the church needs to keep all legal documents as permanent records.
After discussing the issues of staying unincorporated and the advantages of incorporation, the pastor I introduced at the beginning of this article decided to incorporate. The advantages of incorporation, such as shielding your members from personal liability, justify incorporating your church. I believe this pleases the Lord. As Paul wrote “Let all things be done decently and in order” (1 Corinthians 14:40). I pray the same can be said of your church.