In Love with L3Cs
Is it puppy love or the real thing?
The Low-profit limited-liability company (L3C) structure is attracting attention and commentary about a new way to solve community problems using market-driven practices. The idea of a “new model” is so alluring, though, that I see misunderstanding and lots of hopeful thinking. I like the structure and give lots of credit for innovation and perseverance for its creation and growth to Americans for Community Development. My concern is that the L3C is being discussed by nonprofits and businesses as a single solution to some complex problems. It isn’t.
As described in ACD’s FAQS, the L3C structure is a viable approach to attracting capital with lower than market returns and a social mission. It is not, however, a solution to nonprofit or business entities that have expenses that are higher than revenue (that’s called a deficit in both worlds). It is also not a solution to a business or nonprofit that is losing its market, audience, donors, or other revenue sources.
In this recent article in The Chicago Tribune, for example, one of the cases offered is instructive:
Social entrepreneur Mike Melillo of Watchung, N.J., hopes to secure foundation funds for his social media company by converting the LLC to an L3C. He launched SocialChord, which provides local online communities, with the intention of bringing in investors. Despite two years of trying, Melillo hasn’t nabbed the capital he was counting on. Without the L3C structure to potentially open a new funding stream, Melillo said, “at this point, I’d probably just fold.”
In this case I would want more information about the ongoing business (revenues, expenses, market potentials) before agreeing that the L3C structure brings instant relief.
The allure of the L3C has been problematic for nonprofits as well. Most nonprofits require ingoing contributed funds (individuals, foundations, events) to pay annual expenses to deliver programs and services. These donors generally expect to give to an organization with IRS tax-exempt status. The L3C structure won’t satisfy this requirement – it is developed to attract capital but not tax-deductible, contributed funds. I can think of a few (but only a few) nonprofits that only require low cost, patient capital to support their mission.
Jeff Texler recently questioned whether the L3C structure was really needed by nonprofits in a blog post on JustMeans.
I say all this not to discourage anyone from forming an L3C or advocating for a similar statute in their own state. Rather, my aim is simply to provide a needed reality check. Based on the experience of another standardized social benefit form – the UK’s CIC – the L3C is likely to be no more a magnet for investment and revenue than any other kind of business. In fact, it might even prove to be less successful, since most investors won’t know what it is. Rather than simply dreaming about how the L3C could solve your organization’s money problems, you should also look into what is already possible.
I think his point is important for nonprofits that have fallen in love with the idea of a “new model.” I recently read this online post: “I would like to form an L3C to provide housing and services to various special populations …” First, I’d be interested to know why the 501c3 structure wouldn’t work for this proposed entity. Second, I wonder if the L3C would serve this mission at all. Is this a capital need, or will ongoing support be needed?
Structure should always follow purpose and goals, not lead the way. While the booklet If the Shoe Fits published by REDF was published before the L3C existed, it’s a great primer for the questions to ask before you let the excitement of a new idea outpace the needs of the organization.