A family foundation lets you become a philanthropist even if you’re not as wealthy as Bill Gates. But don't treat a nonprofit like a hobby or use it to an unreasonable personal advantage. To stay on the good side of the Internal Revenue Service, you must run it like a business.

More retirees are starting family foundations—with as little as a few hundred thousand dollars—to help a favorite cause directly. Other potential benefits include trimming taxes and building family members’ social consciousness and business skills. But as the popularity of family foundations has soared, the IRS has begun scrutinizing them. Among the potential problems are family members being paid exorbitant amounts for running a foundation and donors gaining lucrative contracts for support services. Federal law prohibits this sort of self-dealing.

IRS rules generally forbid foundations from entering into financial relationships with insiders, known as “disqualified persons.” That includes officers, directors, trustees, substantial contributors, and family members of people in any of those categories. Suppose Jack and Jill Jones start a foundation to raise funds for animal shelters and open a foundation office in a building they own, charging rent of only $50 a month. That’s illegal, because it sets up a financial relationship. They could, however, donate the space.

There are a few exceptions to this rule. Money managers and attorneys may provide personal services even if they are disqualified persons, as long as they charge reasonable and customary fees. Similarly, salaries for officers must be “reasonable,” meaning similar to what other comparable foundations—of like size and budget in the same geographical area—pay people with similar experience working the same number of hours and performing similar duties.

To help foundations comply with this law, several associations publish salary surveys. It is possible to pay an officer more than the median salary, but only if you can justify your decision by documenting the person’s special skills or services. There are financial penalties for breaking the rule. If the IRS determines that an officer’s salary is unreasonable, the officer would be assessed a “self-dealing penalty” of 10% of the excess compensation—that is, the amount the insider was paid above the amount deemed reasonable. So if an insider took an annual salary of $150,000 for a job for which reasonable pay was considered to be only $100,000, the officer would be personally liable for a $5,000 penalty—10% of the $50,000 difference. The foundation would also be penalized.

“In every instance, you have to put the foundation’s interests ahead of your own,” says Jeffrey D. Haskell, senior vice president of tax and legal affairs for Foundation Source in Fairfield, Conn. You need to document everything you do, Haskell says, maintaining complete records of all donations and transactions, and you should develop written policies covering conflicts of interest, investment practices, travel and expense rules, and document retention.

Also ask your advisor about donor-advised funds, a simpler and cost effective philanthropy alternative.