Public Charity vs. Private Foundation

What Makes an Organization a Public Charity

A public charity is a 501(c)(3) organization that draws broad financial support from the general public, from governmental units, or from a combination of both, rather than depending heavily on one source. Churches, schools, hospitals, and organizations that pass one of the IRS's public support tests all generally qualify as public charities. Public charities are the more common and, in most respects, the more lightly regulated of the two categories, since the IRS treats broad public support as a practical check on an organization serving a genuinely public purpose rather than a narrow private interest.

What Makes an Organization a Private Foundation

A private foundation is typically funded by a small number of sources, often a single individual, family or company, rather than a broad public base, and it commonly operates by making grants to other charities rather than running its own direct programs (though some, called private operating foundations, do run their own programs). Because a private foundation's funding and control are concentrated, the IRS applies a stricter set of rules to it than to a public charity, reflecting the greater risk of an insider using the foundation for personal benefit when there isn't a broad donor or member base providing outside oversight.

The Public Support Test, in Plain Terms

For most public charities organized under Section 509(a)(1) and 170(b)(1)(A)(vi), the IRS uses one of two tests to confirm broad public support:

• The one-third support test: if public and governmental support equals at least one-third of the organization's total support over the measuring period, the organization automatically qualifies as a public charity.
• The 10% facts-and-circumstances test: an organization with public support of at least 10%, but less than one-third, can still qualify if it demonstrates, based on facts the IRS specifies, that it's operated like a public charity rather than a private foundation.

For these tests, a single individual, trust or corporation's contributions generally count as public support only up to 2% of the organization's total support for the period, which is what keeps a handful of very large donors from artificially inflating an organization's public support percentage.

Extra Rules Only Private Foundations Face

Beyond the general 501(c)(3) rules every exempt organization follows, private foundations face additional requirements, including:

• A 5% minimum distribution: a private foundation's minimum investment return, generally 5% of the combined fair market value of its assets not used directly for its exempt purpose, sets a floor on its required annual payout, per the IRS.
• A 1.39% excise tax on net investment income, under Section 4940, which public charities don't pay, per the IRS.
• Restrictions on self-dealing, excess business holdings, jeopardizing investments, and taxable expenditures, a set of rules (Sections 4941 through 4945) aimed specifically at the closer insider control a private foundation typically has.

Different Annual Returns

Public charities file Form 990, 990-EZ or 990-N depending on their size. Private foundations, regardless of size, generally file Form 990-PF, which includes reporting on the foundation's investment income, the excise tax owed, and its grants and distributions for the year. The different form reflects the different set of rules each category has to demonstrate compliance with.

Which Status a New 501(c)(3) Starts With

When the IRS approves a new organization's 501(c)(3) application, it also makes an initial determination of public charity or private foundation status, generally based on the organization's anticipated sources of support described in the application. A new organization expecting broad public support can get an advance ruling period before its actual public support is measured; one that doesn't expect broad public support, such as a family-funded grantmaking entity, is typically classified as a private foundation from the start.

A New Organization Can Be Classified Either Way Based on Its Funding Plan

Founders sometimes assume every 501(c)(3) starts as a public charity by default. It doesn't; the classification depends on your organization's actual or expected funding sources. An organization funded mainly by one family foundation or one company, rather than broad public donations, should expect private foundation classification and plan for its stricter rules from day one.

Falling Below the Public Support Threshold Has Real Consequences

A public charity that later fails to maintain the public support level its test requires risks being reclassified as a private foundation, which brings the 5% distribution requirement, the excise tax, and the other private foundation rules it didn't previously have to follow. Track your public support percentage over time, not just at formation, especially if your funding becomes more concentrated.

Some Structures Blend the Two Worlds

Supporting organizations and donor-advised funds have their own specific rules that don't map neatly onto either the public charity or private foundation category as described here. If your organization's funding or governance structure is unusual, confirm its specific classification rather than assuming it falls cleanly into one bucket.

This Is Not Tax Advice

Which classification applies to a specific organization, and how to calculate its public support percentage or minimum distribution amount, are technical determinations with real financial consequences if done incorrectly. Talk to a tax professional familiar with exempt organizations before relying on a self-assessment of your status.