Private Foundation vs. Public Charity: Which Should You Start? 

Starting a nonprofit is a powerful way to create lasting change in your community and beyond. Two common structures for those pursuing philanthropic efforts are private foundations and public charities. While both play vital roles in supporting charitable activities, they each serve different purposes and have unique benefits. 

If you’re considering starting a private foundation or a public charity, you need to gain a thorough understanding of how each works so you can choose the right structure for your organization’s success, sustainability, and compliance with legal requirements. Here’s a closer look at some of the key differences between public charities and private foundations to help you determine which structure best fits your mission. 

Understanding Public Charities 

A public charity is a type of nonprofit organization recognized under Section 501(c)(3) of the Internal Revenue Code that relies on broad public support to carry out its mission. They are typically more involved in direct service to the community and rely heavily on public support, including donations from individuals, government grants, and private foundations. Examples include schools, hospitals, museums, healthcare services, arts organizations, governmental agencies, and churches.

Public charities have to meet certain requirements to attain and remain compliant with 501(c)(3) status, including: 

• Organizational Purpose: The organization must be established and operated exclusively for one or more charitable purposes: religious, charitable, scientific, educational, or literary, testing for public safety, fostering national or international amateur sports competition, or preventing cruelty to children or animals. Its governing documents (e.g., articles of incorporation, bylaws) must clearly state this purpose and prohibit any activities that would not further the stated mission. 
• Public Support Test: Public charities must meet the public support test, which requires them to receive a significant portion of their financial support from the general public, government entities, or other public charities. 
• Charitable Activities and Operations: They have to actively conduct charitable activities in line with their exempt purposes. Simply holding assets or distributing grants may not be sufficient; the organization must demonstrate an ongoing commitment to serving its mission. 
• Private Inurement and Private Benefit Prohibition: Public charities are prohibited from allowing their earnings to benefit any private shareholder or individual, meaning that no part of the organization’s income or assets can benefit insiders such as founders, board members, or substantial contributors. 
• Limitation on Political Activities: These organizations are strictly prohibited from participating in any political campaign on behalf of or in opposition to any candidate for public office. 
• Annual Reporting and Disclosure: Public charities are required to file an annual information return, typically Form 990, Form 990-EZ, or, for smaller organizations, Form 990-N (e-Postcard). They also have to make their application for 501(c)(3) status and their three most recent annual returns available for public inspection. 
• Compliance with State Requirements: Beyond federal requirements, public charities must also comply with state laws, including registration with the state’s charity regulator, often the state’s Attorney General or Department of Consumer Affairs. 

Advantages of Public Charities 

Public charities come with several distinct advantages, making them a compelling choice for individuals looking to start a nonprofit with a strong community presence, the ability to raise diverse funds, and a focus on programmatic impact. These include: 

• Diverse fundraising options: Public charities can solicit donations from the general public, companies, and grant-making organizations, offering a wider fundraising net.
• Tax benefits for donors: Contributions to public charities are eligible for the highest possible tax deductions, making them an attractive option for donors. 
• No payout requirement: Unlike private foundations, public charities aren’t required to distribute a specific percentage of their assets annually.
• Lower Reporting Requirements: Compared to private foundations, public charities typically have fewer reporting obligations related to their investments and grant-making activities, allowing them to focus more on their mission. 
• Higher Level of Public Trust: Due to their direct community involvement and reliance on public support, public charities often enjoy a higher level of trust from donors, which can be advantageous when building relationships and expanding their impact. 

Disadvantages of Public Charities 

While public charities offer significant advantages in terms of fundraising opportunities, public trust, and flexibility, they also come with certain challenges that potential founders should carefully consider. These challenges primarily stem from the heightened transparency and accountability expected of organizations that rely on public support. 

More Stringent Public Disclosure Requirements: Public charities are required to file an annual report to the IRS (Form 990) that details their finances, programs, and governance. This transparency is necessary for accountability. However, it can also be time-consuming and often requires the assistance of accounting or legal professionals, especially for larger organizations with complex operations. 

Greater Public Scrutiny: Due to their reliance on donations and public support, public charities are held to a higher standard of accountability and transparency by donors, media, and community members. Any missteps—such as misuse of funds, conflicts of interest, or controversial activities—can quickly become public and damage the organization’s reputation. Maintaining this level of transparency requires strong internal controls and governance practices, as well as clear communication with stakeholders about how the organization is using its resources. 

Understanding Private Foundations 

A private foundation is another type of 501(c)(3) organization but is typically funded by a single individual, family, or corporation. Unlike public charities, private foundations are typically funded by a single individual, family, or corporation, and they do not rely on public donations. They often focus on grantmaking, providing financial support to other charitable organizations, individuals, or specific programs that align with their mission. 

Because private foundations do not need to maintain a diverse donor base, they are not required to engage in fundraising activities or solicit contributions from the general public. This allows them more freedom in how they manage their resources. However, private foundations also face additional regulatory requirements, such as the 5% payout rule, which mandates that they distribute a portion of their assets each year to charitable causes. 

Advantages of Private Foundations

Private foundations offer a unique set of advantages that can make them an appealing choice for individuals or families looking to make a lasting impact through philanthropy. These advantages revolve around the control and privacy that the foundation structure provides, making it possible for founders to pursue their charitable goals with fewer external constraints. 

• Greater Control and Flexibility Over Grantmaking: Private foundations have significant control over how their funds are used, allowing them to set specific priorities for their grantmaking and charitable activities. They can support a wide range of causes and develop long-term strategies that align closely with the founder’s vision. They also have the flexibility to make grants to individuals (such as scholarships) and to a broader range of charitable activities, which public charities may find more restrictive. Additionally, foundations can invest in projects with social or environmental impact, using both grantmaking and program-related investments (PRIs) to further their goals. 
• Family Involvement: Private foundations provide an opportunity for families to work together across generations, fostering a tradition of philanthropy and shared values. Family members can serve on the foundation’s board, participate in grantmaking decisions, and contribute to shaping the foundation’s mission and impact. 
• Less Public Reporting Required: While private foundations must file Form 990-PF annually, they are not subject to the same public support tests and donor transparency requirements as public charities. This can make their financial reporting more straightforward in some respects. Because their funding comes from private sources, there is less pressure to disclose every aspect of their operations to the public, offering a degree of privacy to the donors and decision-makers behind the foundation. 

Disadvantages of Private Foundations 

Private foundations offer a high degree of control and the ability to execute specific philanthropic visions. But they also come with certain limitations, particularly regarding funding flexibility and regulatory requirements. 

• Limited Fundraising Opportunities: Private foundations primarily rely on their initial endowment or contributions from a small circle of supporters. They do not generally solicit donations from the public, which can limit their ability to expand their funding base over time. This reliance on a limited pool of funding makes it challenging for private foundations to scale up their operations or respond to new opportunities without additional contributions from their founders or significant investment returns. 
• Payout Requirement: The IRS requires private foundations to distribute 5% of their assets for charitable purposes, including grants, administrative costs, and other qualifying expenditures each year, which can limit flexibility in how funds are managed over time. This payout rule ensures that foundations actively use their funds for charitable activities rather than simply accumulating wealth. Failure to meet the annual payout requirement can result in significant penalties, making it important for foundations to plan their grantmaking activities carefully to maintain compliance. 
• Additional Taxes: While donations to private foundations are tax-deductible, the limits on deductibility are less favorable compared to those for donations to public charities.

For example, cash contributions to private foundations are generally deductible up to 30% of an individual’s adjusted gross income (AGI), compared to 60% for public charities. Non-cash contributions, such as stock or real estate, are typically limited to 20% of AGI when donated to a private foundation, which can make private foundations a less attractive option for donors seeking to maximize their charitable tax deductions. Additionally, private foundations are subject to an excise tax on their net investment income, which can reduce the resources available for their charitable activities. 

Factors to Consider When Deciding Between a Private Foundation and a Public Charity 

Several key factors can influence your decision to establish a private foundation or public charity. Consider your long-term vision for the organization, your funding options, and the level of control you wish to maintain over its exempt purposes and charitable activities. 

Mission and Goals 

What are your long-term charitable goals? Private foundations allow more control over your charitable programs, while public charities often have wider community engagement. Assessing your mission can help determine which structure best aligns with your objectives. 

Funding Stability 

Do you have a consistent, large funding source, or will you rely on public donations? Public charities supporting organizations are typically funded through donations from the public, grants, and government support, while private foundations often rely on an endowment from a single donor or family. 

Control and Flexibility 

How much control do you want over the organization’s operations and decision-making? A private foundation may be the right choice if you prefer more oversight over your charitable activities. However, a public charity often involves a broader governance structure than corporate foundations, requiring a diverse board to maintain public support. 

Steps to Start a Private Foundation or Public Charity 

Before establishing an exempt charitable organization, you should understand the steps involved in starting either a private foundation or a public charity. Here is a high-level view of the process to help ensure that you set up your charitable organization correctly and comply with all regulations.

Step 1: Determine Your Charitable Mission 

Your mission is the heart of your nonprofit, guiding all activities and decisions. It’s essential to align your mission with the type of organization you plan to create. For example, public charities often focus on community service and programs, while private foundations may focus more on grantmaking and supporting other charitable initiatives. Align your mission with the organization type. Consider how you want the supporting organization to make a difference in your community and which structure best supports those efforts. 

Step 2: Choose Between a Private Foundation and a Public Charity 

Decide whether a private operating foundation or public charity is the best fit for your goals based on factors like funding sources, level of control, and tax considerations. If you seek broader fundraising opportunities and are comfortable with public accountability, a public charity may be ideal. If you prefer greater control over grantmaking and have a significant initial endowment, a private foundation might be a better choice. 

Step 3: Draft Bylaws and Governance Documents 

Ensure proper documentation, which varies between the two types of entities. Drafting bylaws and other governance documents helps establish the rules by which your organization will operate. These documents outline the responsibilities of board members, decision-making processes, and procedures for managing finances, ensuring that your organization functions smoothly and in compliance with legal standards. 

Step 4: File the Necessary IRS Forms 

To obtain tax-exempt status, you will need to file specific forms with the IRS. Public charities generally file Form 1023 or Form 1023-EZ to apply for recognition of their 501(c)(3) status. Private foundations typically file Form 1023-EZ or Form 1024-A, depending on their circumstances. These forms require detailed information about your organization’s purpose, structure, and planned activities. 

Step 5: Maintain Ongoing Compliance 

Once established, both private foundations and public charities must comply with ongoing regulatory requirements to maintain their tax-exempt status. This includes filing annual information returns (Form 990, 990-PF, or 990-N) and keeping up with state-level reporting. Additionally, regular board meetings, accurate record-keeping, and adherence to the mission help ensure continued compliance and transparency. This ongoing compliance ensures that your organization adheres to legal and tax obligations, including meeting private foundation rules and federal income tax. 

Get Help from Chisholm Law

Understanding the key differences between a private foundation and a public charity is key when deciding which structure is right for you. Private foundations offer greater control over grantmaking and investment flexibility but come with stricter payout requirements and limited fundraising opportunities. Public charities, on the other hand, have access to broader fundraising channels and often enjoy higher public trust, but they must meet more rigorous public support tests and reporting obligations. 

Given the complexities involved in choosing the right structure, seeking legal counsel is a smart choice for ensuring compliance and avoiding costly mistakes. At Chisholm Law, we guide clients through every step of the foundation and public charity formation process, from drafting bylaws to filing the necessary IRS forms. Our goal is to help you establish a solid foundation that aligns with your vision and meets all regulatory requirements. 

Set up a free consultation with us today to start building your private foundation or public charity. Let Chisholm Law help you turn your philanthropic vision into a lasting legacy. a solid foundation for your family name and your charitable endeavors. 

*Past results do not determine future outcomes