Hybrid profit/non-profit enterprises may be the new model for public/private enterprise.
L3Cs
For those of us in finance, accounting or law, the low profit, limited liability (“L3C”) corporation is the new method of corporate structuring and financing especially useful where private and public projects intersect. L3Cs and Benefit Corporations (a Benefit Corporation is defined only slightly differently, and generally, the social enterprise aspirations of the two legal entities are the same) are new legal entities and structures that may become the preferred way of operating because they provide a structure for profit plus social enterprise. Not many states* have legislation establishing these profit-making-with-social-good new entities and structures. In Illinois, we have L3Cs. At the Federal level, the Internal Revenue Code (“IRC”) provides comfort and support to these emerging entities at the state level. As demonstrated herein, foundations and socially-oriented entrepreneurs can and should form L3Cs as operating companies or as subsidiaries.
A new way to raise capital is always exciting. In addition to shareholder investment and grant money for a socially conscientious start-up, now available are below market debt as approved by new IRC regulations (see Internal Revenue Service (“IRS”) guidelines found in the IRS’s Publication 5005) and funding from private foundations pursuing their established social or charitable purposes by means of Program Related Investments (“PRIs”).
The new corporate structures are consistent with all known charitable and social purposes. For example, a new L3C can simultaneously operate to benefit energy and communications infrastructure, to grow and distribute food in urban facilities, to employ a cross-spectrum of unemployed educated and non-college graduates, to help animal welfare, and to provide low-income housing while at the same time making a profit at such social needs, and more.
Social Enterprise is Growing in Illinois
In Illinois, L3Cs fit squarely within IRS guidelines. For example, first, foundations (e.g., 501(c)(3) organizations for charitable, educational or religious purposes that traditionally can receive donations which are tax deductible to the donor) and other tax-exempt organizations no longer need worry over audits due to inappropriate investments or debt. The L3C is permitted to make profit and the foundation is permitted to make a return on investment without concern for unrelated business taxable income issues or the like so long as the L3C’s business pursues, at least in part, the charitable or social purpose of the foundation that invests in the L3C. The foundation or other organization may invest in the L3C using equity or debt PRIs. The potentially meaningful return on its investment to the organization is all protected by the new IRS safe-harbors. It’s a big social triumph – an L3C can make a profit, and then distribute the funds to its foundation shareholder!
Second, IRC rules for municipal bonds are expanding to promote social enterprises. By providing incentives to municipal bond issuers by means of conduit municipal bonds, local government bodies can go farther afield in financing projects that are beyond traditional municipal projects such as schools, parks, water and sewers, hospitals and roads. For example, a municipal issuer may help finance a public/private venture to operate facilities for seniors, or operate a closed-loop energy system, or assemble and operate an urban food production facility with a minimal eco-footprint.
Urban Social Enterprises Around Chicago
One excellent urban model enterprise in Illinois is a building whose tenants are selected based upon their contribution to a model that creates an energy feedback loop. Thus, one tenant in the building grows fish in aquaculture tanks and uses the fish waste water to grow vegetables hydroponically. Another tenant brews beer. The fish/vegetable producer collects the waste plant material (stems, roots, etc.), the beer producer collects the waste grains used in brewing, and both producers deliver their waste to another tenant who places such organic waste into an anaerobic digester which breaks down the waste and manufactures methane. The methane powers the furnace and generator for the heat and electricity needs for the building and its tenants. The fish and vegetables are sold to distributors for profit. The energy needs of the building and the tenants are in a closed-loop system – it can operate off the grid! The fish/vegetable and beer companies “purchase” their heat and electricity from the anaerobic digester company.
Other early-stage L3C urban projects: An energy L3C collects scrap food from a large grocery chain. The scrap food is put into a large anaerobic digester that produces methane. The L3C sells the methane to a municipality to fuel its fleet of methane-powered vehicles; a job’s L3C places ex-cons initially into a training program designed by a nationwide electronics retailer, and then graduates them into a sales or support job collecting a modest placement fee for its services. Each of these L3Cs can be capitalized with funds from investors, foundation PRIs, and government grants.
*L3C states: Illinois, Louisiana, Maine, Michigan, North Carolina, Rhode Island, Utah, Vermont, and Wyoming
Benefit Corp. states: Vermont, Maryland, New York, New Jersey, Virginia and Hawaii
To talk about social enterprises and the new methods of raising capital, contact attorney Mark A. Rudis at mark@attorneytaxlien.com.