Although the precise dividing line between for-profit and a nonprofit organizations occasionally is fuzzy, a key characteristic of nonprofit organizations is the absence of “owners.” As a result, a nonprofit does not have a goal of earning a return on its owners’ investment. Usually its goal is to provide services for its community, sometimes defined quite broadly. This definition corresponds approximately to that in most state statutes. 1
The definition also emphasizes a basic distinction between the two types of organizations— a distinction that is the cause of many management control problems in nonprofit organizations. In a for-profit company, decisions made by management are intended to increase (or at least maintain) profits. Success is measured, to a significant degree, by the amount of profit the organization earns. By contrast, in a nonprofit organization, decisions made by management ordinarily are intended to produce the best possible service with the available resources. Success in a nonprofit organization is measured primarily by how much service the organization provides and by how well these services are rendered. More basically, the success of a nonprofit organization is measured by how much it contributes to the public well-being.
Since service is a more vague, less measurable concept than profit, it is more difficult to measure performance in a nonprofit organization. It is also more difficult to make clear-cut choices among alternative courses of action in such an organization; relationships between service costs and benefits, and even the amount of benefits, usually are difficult to measure. Despite these difficulties, management must do what it can to assure that resources are used efficiently and effectively. Thus, the central problem is to find out what management control policies and practices are useful for nonprofit organizations.
The distinction between for-profit and nonprofit organizations is not black and white. A for-profit company must render services that its customers find adequate if it is to earn a profit. A nonprofit must receive funds from operating revenues or other sources that are at least equal to its expenses if it is to continue to render services. Thus, the distinction is not based on the need for funds, per se, but on the attitude toward the uses of funds.
Nor does the distinction relate solely to the types of services provided. Some hospitals, medical clinics, schools, even religious organizations operate as for-profit organizations, even though the services they provide often are thought of as being provided by nonprofit organizations. Moreover, in addition to proprietary (i.e., for-profit) hospitals, an increasing number of nonprofit hospitals are being managed by for-profit companies.
NATURE OF THE SECTOR
Any categorization of nonprofit organizations is certain to have gray areas.2 Nevertheless, the categories shown in Exhibit 1 can serve as a useful frame of reference. As this exhibit indicates, an important distinction exists between public (governmental) and private nonprofit organizations. Within the public category, the division among federal, state, and local government entities provides a useful organizing scheme; any of these entities can have agencies, commissions, or authorities.
Within the private category, an important distinction is between charitable organizations, for which donor contributions are tax deductible, and commercial and membership organizations, for which donor contributions ordinarily are not tax deductible. The former category includes health, educational, social service, religious, cultural, and scientific organizations; in the latter are social clubs, fraternal organizations, labor unions, and similar entities.
To encourage educational, charitable, and other social welfare activities, the Internal Revenue Service (IRS) has made it relatively easy to obtain tax-exempt status. In fiscal year 1994, for example, it approved about 46,000 . . .
1 Some people prefer the term not-for-profit on the grounds that a business enterprise with a net loss is literally a nonprofit organization. Black's Law Dictionary, Kohler's Dictionary for Accountants, Webster's Third New International Dictionary, Funk and Wagnalls Dictionary, and American Heritage Dictionary do not list “not-for-profit,” however. Practice varies widely among states and is not uniform for the statutes of a given state. In federal statutes, the usual term is nonprofit. In income tax regulations, not-for-profit refers to a corporation that is operated as a hobby of the owners.
2 Some work has been done to develop a common language to define, describe, and classify nonprofit organizations by major function and type. See Virginia A. Hodgkinson and Christopher Toppe, “A new Research and Planning Tool for Managers: The National Taxonomy of Exempt Entities,” Nonprofit Management & Leadership, Vol. 1, No. 4, Summer 1991.