To Live and Dissolve In California: Nonprofit Dissolution and the California Attorney General

Being a nonprofit corporation is always harder than being a for-profit: you have to follow additional rules, you can’t just do anything you want, you have to limit your benefits to insiders, and you have additional regulators looking over your shoulder.

And it’s not just more difficult during life – in California, your nonprofit corporation can’t even die in peace. You have to ask the Attorney General’s office for permission.

After years of maintaining a very helpful Guide to nonprofit dissolution, California’s Attorney General’s Charities Bureau (the “AG”) has issued some proposed regulations to formalize these requirements. With a couple of minor exceptions (most of which will be addressed in a Part II to this post), there is not a lot of new there. Still, it provides a useful opportunity for us to summarize a common project of ours and dilemma of our clients: wrapping up your California nonprofit in a compliant manner.

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Dissolution of California nonprofit public benefit corporations has always been a process. Clients are often surprised that they can’t just shut it down and go home. Instead, they have to go through a legal process that, even if everything with the nonprofit is in good order (and it often isn’t), is going to take several months from beginning to end. And that the final distribution to another charity (and, yes, it needs to be another charity) needs to wait until the very end.

Nonprofits can either work through the Attorney General’s Guide to Dissolution themselves or outsource it to a law firm to draft all of the required documents and handle the filing and correspondence with the Attorney General (the “AG”).

The AG’s Guide does a pretty good job summing it up, but here are the top 10 things to know if you’re looking to dissolve a California nonprofit public benefit corporation:

1. At Best, It’s a Five Step Process that will Take Several Months.

• First, the nonprofit needs to approve the plan of dissolution internally (more below).

• Then, the nonprofit needs to send a letter to the AG with VERY specific information and attachments.

• The nonprofit will then wait for a “waiver of objections” from the AG (assuming there are no issues) – lately, this step alone has been taking 2-4 months, even if the AG has no questions, and even longer if they do.

• If and when that waiver of objections finally comes back, then the nonprofit should execute its plan of dissolution, paying final expenses distributing out remaining assets until the bank account hits $0.

• Then (and ONLY then), can the nonprofit file a signed and dated Certificate of Dissolution with the California Secretary of State, officially terminating the existence of the nonprofit.

2. The Corporation Needs to Approve a Plan of Dissolution and a Successor to its Remaining Assets. To dissolve, a 501(c)(3) nonprofit can only distribute its assets to another 501(c)(3). So, if your nonprofit has assets remaining, the Board should formally approve, at a meeting with quorum and minutes or a unanimous written consent, a plan for where to send any remaining assets once activities are wrapped up and bills are paid. That documented plan of dissolution and the Board’s approval will be reviewed by the AG.

3. The Successor Can’t Just Be Anyone – It Needs to Be an Appropriate Recipient for Any Restricted Assets in Good Standing with the IRS and AG. Restricted assets include any donations made to the dissolving charity for a specific purpose AND, any other asset (even assets listed as ‘unrestricted’ on the books) to the extent the Articles of Incorporation state a specific purpose. Your assets include not just cash, but also any investment assets, real property, intellectual property (e.g. copyrights and trademarks), and any tangible property you have. All of that needs to go another charity that matches your nonprofit’s purposes.

So, if you’ve been running an animal shelter and your Articles reference operating an animal shelter, your remaining assets should probably go to an animal shelter – the AG will likely reject your proposal to send it to a private school. The AG will also likely reject any successor that has lost its tax exempt status with the IRS or that is delinquent or unregistered with the AG (assuming it is operating or soliciting in CA).

4. There is a LOT That Needs to Go into the Letter to the AG. And you really want to get it right the first time. You will be especially unhappy if you wait three months to hear back from the AG only to find out you missed something and now have to send that in and wait all over again for them to process it.

Check them out for yourself, but between the Guide and proposed regulations, the letter should be signed by an authorized director or the nonprofit’s attorney and include:

• All “material facts” regarding the dissolution plan, submitted under penalty of perjury.

• The full legal name of the corporation.

• The nonprofit’s registration number with the AG’s Registry of Charities and Fundraiser.

• The nonprofit’s federal EIN from the IRS.

• The nonprofit’s Corporation Number from the California Secretary of State.

• The plan of dissolution, including the identity of the recipient or recipients, the amount to be distributed to each recipient, an explanation of how they have the same or similar charitable purposes as the dissolving corporation, and whether the assets are restricted.

• A request to a waiver of objection to the AG of this planned distribution.

• If the dissolving corporation is not current with the AG, an explanation as to why.

• Financial statements for the last 3 years of operation (e.g. the last 3 years of 990s if filed and, if not, a complete income and expense statement and end-of-year balance sheet).

• Financial statements for the current incomplete year (this is actually only in the guide, but not the proposed regulations – I plan to keep including them until the AG tells us otherwise or these regulations are final)

• A copy of the founding documents (i.e. Articles of Incorporation), including any amendments.

• A copy of the unanimous written consent or meeting minutes where the Board approved the dissolution and the plan.

• All documents showing restrictions on any restricted assets (this is from the proposed regulations and is arguably new; the corporation always had to explain the restrictions, now it may have to provide the gift agreement that created the restriction too).

5. It is a Little Easier if There Are No Assets Remaining, But Not That Much Easier. The above list of what needs to go to the AG gets a little lighter if you have no assets, since you don’t have to explain any final distribution. But, unless you never received any cash or other assets (in which case, a shortened process might be available), you still have to send a request to the AG, with most of the above attachments, and get back a letter from them permitting you to move forward and dissolve.

6. And No, You Can’t Bypass the Detailed AG Review of Your Successor By Just Transferring All Assets Now and Dissolving Later. Based on above, it might be tempting to just say “Well, who cares about dissolution? I’ll just transfer everything remaining to the charity I want to have the assets and deal with all that paperwork some other time.” But no, you can’t do that if you’re a California nonprofit. That is because any transfer of substantially all of a nonprofit’s assets (i.e. 75% or more) requires a 20-day notice to the AG with a very similar list of information, and the opportunity for the AG to say ‘no’ or insist on changes. The AG has another useful publication on that topic.

So, congratulations, now you are writing 2 letters to the AG in order to wrap things up, instead of doing it all in one. There are situations where that makes sense strategically (e.g. if the successor needs the assets sooner, the turnaround time on a 20-day notice is generally faster than a dissolution), but the point is that it’s not going to get you out of a detailed AG review.

7. If You’re Thinking About Dissolving, You Should Start Getting Your House in Order. All of the above assumes your nonprofit is in good standing with all regulators (the IRS, the Franchise Tax Board, the Secretary of State, the AG), has a functioning Board that can approve the dissolution, and has financial statements ready to be attached to the letter. In my experience, if an organization is thinking about dissolving, it’s often because some of those pieces are missing. And, generally speaking, the dissolution is not going to go through smoothly unless you fix all of these issues. So, if you’re thinking about dissolving and owe filings to those regulators, get started fixing that now.

8. You Still Need to Do Stuff Even After the Dissolution. The annoying thing about dissolution: even when you’re done, you’re not done.

The filing of the Certificate of Dissolution ends the legal existence of the nonprofit, which concludes that tax year. But the filings for that year cannot be completed until the tax year is over, and won’t be due for at least several more months. So even after the organization is gone, you need an officer sticking around to sign the returns, and ideally a tax preparer that has been prepaid to complete those returns and get them filed. This can be a bit frustrating logistically.

One benefit to working with a law firm on your dissolution is that they may be able to hold the reserve in their client trust account. This way you can get your assets to $0 so you can put the nonprofit in the ground (i.e. file the Certificate of Dissolution), and still use the nonprofit’s money to pay for the funeral (the final filings in this strained metaphor).

9. Private Foundations Should Take Extra Care in Dissolving. Like always, if you’re a private foundation, you have more to worry about than your public charity peers. While both private foundations and public charities are 501(c)(3)’s, private foundations are less favored by our tax code, including when it comes to dissolution. Unlike a public charity, which just needs to distribute to 501(c)(3)’s or spend its assets down, a foundation needs to fit its final distribution into IRC Section 507.

And IRC 507 says… sorry, but that’s way too complicated to get into now — here’s the IRS publication on the topic if you want to torture yourself. Just know that, in practice, it’s not that different – a distribution of all remaining assets to one or more established public charities will do the job just fine; and even a distribution to another private foundation can be made to work. But there’s a process and you should talk to your attorney and/or tax preparer early in the process so as to not inadvertently trigger a pretty nasty tax penalty by doing it wrong (e.g. all tax benefits received by the foundation or all remaining assets…).

10. Plan Ahead. It’s Not Going to Be Any Easier Later. I would not be surprised if, in reading all of that, you decided that you want to put off dissolving your nonprofit. Understandable.

But a significant challenge that I see with dissolving organizations, and something that sometimes causes them to be surprisingly expensive and to go on forever, is that the dissolving nonprofit is rarely “at its best.” Maybe most or all of the staff is gone, or the Board has disengaged. Maybe the financials are a mess and there’s nothing left to pay an accountant. And now that all needs to get cleaned up and a bunch of paperwork and multiple sets of signatures need to get submitted to the AG for a several months-long process, often involving back-and-forth? Good luck!

As unpleasant as it may seem, if you’ve managed to read this far into a blog post on dissolution, I guarantee you that you have a lot more energy for getting this done than the remaining volunteer directors are going to have a few years from now.

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Our firm handles this sort of project quite often, making it much less unpleasant for us (if not exactly fun). So if and when you decide your nonprofit is ready to call it and if you want someone to walk you through this, I’d encourage you to reach out to our Dissolution Team by email or set up a consultation with our firm to usher your organization into whatever the nonprofit corporation version of the afterlife may be.

We’ll follow up with a Part II to this post if you’re curious about what the rest of the proposed regulations have to say about nonprofits that are not dissolving, but just trying to get out of California…