The Various Models of Fiscal Sponsorship: How much do the differences matter?
Many social enterprises go through a developmental phase of fiscal sponsorship – being the recipient organization (fiscal sponsoree) relative to a sponsoring 501(c)(3) organization (fiscal sponsor). The fiscal sponsor typically provides support in the form of:
- Facilitating charitable contributions to the sponsoree;
- Providing programmatic and/or personnel resources; and
- Providing bookkeeping, HR, and other “back office” functions.
While fiscal sponsorships can be structured in many different ways, most organizations use one of the models defined and described in the articles and book by Gregory L. Colvin, of the law firm Adler & Colvin. Those models have been assigned the names “Model A” through “Model F,” and then there’s “Model X.”
A few key points about these models:
- These specific models are not formally established legal structures that have been established or vetted by the IRS (or other legal regulators);
- Instead, these models are practitioner-created structures designed to comply with legal requirements under the established guidance;
- The seven models cover a wide range of commercial transactions that could occur between a 501(c)(3) organization and a sponsored project;
- Of the seven structures, Models A, B, and C are the most common for social enterprises seeking early-stage support;
- Some fiscal sponsors limit their sponsorship structures to a single model.
As a very simplified summary of Models A, B, and C:
Model A uses a “direct project” approach, where the fiscal sponsor treats the fiscal sponsoree as a part of its own organization, and in a legal sense, carries out the program activities directly. In Model A, the social entrepreneurs may become legal employees of the fiscal sponsor.
Model B uses a contractor relationship, where the fiscal sponsor “commissions” the sponsoree to carry out the sponsoree’s programs, paying the sponsoree a corresponding “fee.” In Model B, the fiscal sponsoree often forms a separate legal entity, whether to limit liabilities generally or to fulfill a request (read: demand) of the fiscal sponsor.
Model C initially seems very similar to Model B, in that the fiscal sponsoree typically forms a separate legal entity and enters into a contract with the fiscal sponsor. However, the contract between the parties in Model C takes the form of a grant agreement. As a grant, the fiscal sponsoree must usually provide periodic grant reports to the fiscal sponsor.
Often, fiscal sponsorees don’t meaningfully consider the pros and cons of a particular fiscal sponsorship model. Instead, the parties often commit to a model inadvertently, subordinating this choice to other factors, such as committing to a fiscal sponsor based on the fee structure.
However, parties to a fiscal sponsorship (particularly the sponsoree) should carefully consider the options, as the choice of sponsorship model can affect:
- Whether the project can, or might be required to, form a separate legal entity.
- Whether the project can easily separate from the fiscal sponsor in the future.
- Whether the project, after separation, will be permitted to structure itself as a for-profit business entity.
- Whether the project, after separation, can easily receive all of the project-related assets developed during the fiscal sponsorship (including IP); also, if the project can receive the project-related assets, whether it must pay “fair market value” for those assets.
To add another layer of complexity, the tax-exempt laws do not spell out how these issues should be handled under the various models. Instead, the fiscal sponsors must make their own interpretations of how to comply with the tax-exempt laws given the particular model they use. Therefore, fiscal sponsorees should negotiate their fiscal sponsorship agreements with these issues in mind, but with an understanding that the particular model will inform the options available to the fiscal sponsor.
The upshot – social enterprises entering into a fiscal sponsorship arrangement should carefully consider the terms of the arrangement, and where the terms are too restrictive for the project goals, may need to consider an alternative model and perhaps an alternative sponsor.