Maintaining Tax-Exempt Status: A Guide for Nonprofits
Running a nonprofit is no easy task, and it can be all too easy to miss deadlines to turn in annual paperwork that solidifies your tax-exempt status. All nonprofits must be 501(c)(3) qualified to sustain their tax-exempt status, a qualification granted by the IRS only after all the right documentation and steps are fulfilled.
To help your nonprofit remain a tax-exempt organization and gain a better grasp of tax reporting, we’ll explore the following topics:
- Why should your nonprofit maintain tax exempt status?
- Have you filed Form 990?
- Are you fulfilling your stated purpose?
- Where is your money going?
- Are you involved in any political activities?
Eager to learn more about tax exemption and filing best practices? Let’s dive in.
Why should your nonprofit maintain tax exempt status?
If your organization loses tax-exempt status, then you’ll be subject to federal income tax and must pay corporate income tax on your annual revenue. This means that all donations are subject to income tax. Additionally, donors would no longer be able to receive tax deductions for their gifts. Not only is this expensive for your organization, but donors and private foundations may be less likely to contribute to you.
Luckily, the Internal Revenue Service outlines simple steps to ensure your nonprofit continues to qualify for tax-exempt status. The 501(c)(3) status exempts an organization from federal income tax and can apply to any private foundations, churches, educational institutions, hospitals, and charities—as long as they follow a few important qualifications.
In particular, to maintain tax-exemption for your organization, here are the items to avoid as listed by the IRS:
- Private benefit and unrelated business income
- Lobbying and political campaign involvement
- Not reporting your finances annually
- Operating differently than your approved exempt purpose
Nonprofits, churches, and private foundations alike can qualify for 501(c)(3) status, but have different requirements to meet based on the differences in how they secure income. Once you’ve filed a Form 1023 to establish your tax-exempt status, it is simple to remain compliant, as long as you’re sure to complete the annual requirements.
Follow along with these 4 questions your organization can ask to maintain your status and make tax season a breeze:
Have you filed Form 990?
Most importantly, you must file your financial information via an annual Form 990 to maintain tax-exempt status. This annual document includes statements of revenue, expenses, and your balance sheets. Depending on your organization’s assets, you may qualify for different types of Form 990:
- Form 990. If your nonprofit’s total donations are greater or equal to $200,000 or the total value of all assets is $500,000 or more, then your organization is required to file a form 990. Typically for large nonprofits.
- Form 990-EZ. Your organization qualifies for this form if your gross receipts are between $50,000 and $200,000. This form is for mid-sized to large nonprofits.
- Form 990-N. If your organization's gross receipts are less than $50,000 then you qualify to fill this form. This is the shortest form designed for smaller nonprofits.
- Form 990-PF. This is the form for private foundations regardless of their financial status.
File 990s are always due the fifteenth of the 5th month after your fiscal year ends. For example, if your fiscal year ends in January, your Form 990 would be due on June 15.
Don’t make the mistake of missing your annual deadline for your 990, as it can cost up to $10,000 or 5% of your gross receipts in late fees. If you make it a habit of forgetting to file for 3 consecutive years, you can lose your tax-exempt status and have to file for exemption again. If you’re concerned about filing your 990 late, you can notify the IRS before your deadline by filing a Form 8688 for a six months extension to your original filing due date.
All of these items are double checked when submitting your Form 990, however, managing your finance sheets can sound easier than in reality. Submit the form that your organization is categorized for to save you time and money when filing.
If you’re unsure about which form your organization qualifies for, File 990’s guide walks through how you should file and what information is required for each form such as:
- Your mission
- Initiative accomplishments
- Revenue and gross annual receipts
- Your balance sheet
- Leadership names and contact information
Using e-filer software for your 990 can streamline the process and make sure you never miss your deadline. Re:charity's guide highlights the easiest to use e-filer software solutions that cover data security, nonprofit chapter filing, and on-demand customer support for Form 990 submissions. The e-filers can remind you about your deadline, ask questions to simplify the information necessary for the form, and coordinate form inputs for several chapters of your organization.
Are you fulfilling your stated purpose?
Your nonprofit must be working toward the purpose of their organization that they submitted to the IRS for tax-exempt approval. If your mission does change, you can notify the IRS via your annual form 990, and should be accepted as long as the purpose still qualifies for exemption.
For example, imagine that a nonprofit transitions from a homeless shelter to a food bank because the community’s needs changed but the organization still had the resources available. The organization would still be tax exempt, as long as the organization notifies the IRS.
Additionally, your organization cannot participate in illegal activities and maintain tax-exempt status. Fortunately, as nonprofits are meant to be committed to social good, this item should come naturally for your organization.
Where is your money going?
As a charitable organization with 501(c)(3) status, all of your work must not hold any private interest and your revenue must not benefit private individuals. Be sure that your organization’s revenue goes toward initiatives that further your cause and mission. None of your organization’s revenue can go toward a private individual or interest.
Your revenue should go toward furthering your cause either by investing in your organization’s resources, people, and community. This revenue should come from fundraising and donations to maintain tax-exempt status. If your organization has unrelated business income from activities that are not substantially related to your exemption purpose, then this can be seen as taxable income.
For example, income from excessive advertising and corporate sponsorships can be seen as unrelated business income. Advertising your corporate sponsors may not be substantially related to your stated charitable exemption purpose. Be sure that all of your nonprofit’s funding methods are focused on enhancing your overall mission to avoid liability for unrelated business income.
Are you involved in any political activities?
Although charitable organizations may have ties with political groups or campaigns, they cannot commit a substantial amount of their time or resources to influencing legislation. Your organization cannot participate in political campaigns on behalf of candidates. The bottom line: lobbying cannot be a substantial part of your 501(c)(3) organization’s activities.
Once you’ve secured tax-exemption, it’s more of a matter of what not to do to avoid losing your exemption status. Run your nonprofit with the intention of helping your community and double check before expanding into any activities that may involve helping a private group or individual.
Keep track of your donations and revenue using fundraising software to avoid money managing faux pas. As long as you don’t break rules and file Form 990 annually, your tax-exempt status will remain intact!