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Maintaining Tax-Exempt Status As A Nonprofit

Posted by Terry Mosteller | Jun 24, 2022 | 0 Comments

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Securing tax-exempt status is a necessity for most nonprofits, but the process does not end once the organization is approved. Nonprofit organizations must maintain their tax-exempt status by taking several additional compliance measures after the approval. Nonprofits who fail to meet the IRS nonprofit tax-exempt requirements are at risk of having their tax-exempt status revoked, which can be devastating for the organization. If you have questions about maintaining tax-exempt status as a nonprofit, you can learn more by contacting Mission Counsel's nonprofit lawyers at (816) 368-1181.

IRS Annual Information Returns

Most tax-exempt nonprofit organizations must file an annual return with the Internal Revenue Service (IRS). Organizations that fail to file the annual return or file it late may suffer IRS-assessed penalties. Additionally, organizations that fail to file as required for three straight years automatically have their tax-exempt status revoked. In general, organizations that normally have at least $5,000 in gross receipts are required to file annual returns. However, some of these smaller organizations may be required to file an annual electronic notice.

In addition to these federal requirements, most states require nonprofit organizations to file at least one report or registration each year. The four common filing requirements include:

  • Corporate filings
  • Financial reports
  • Fundraising registration
  • State tax-exemption filings

Nonprofits Must Have a Corporate Structure

All nonprofits are required to create and maintain a corporate board comprised of officers and a board of directors. Organizations that do not meet this requirement could lose their tax-exempt status. Board members must regularly attend meetings regarding the functioning of the organization and vote on important organizational issues. Additionally, these members are required to act in the best interests of the nonprofit. In most nonprofits, the major actions and decisions of the board of directors are made through corporate resolution and recorded in a minutes book.

Nonprofits have the option to use a membership structure, in which the organization's members have voting rights. However, many nonprofits assign all decision-making responsibilities to the board of directors. In organizations with membership structures, the members are actively involved in major organizational decisions and have the right to elect directors, change articles and bylaws, and vote on mergers or dissolutions.

What Is the Nonprofit's Purpose?

Nonprofits must have a clearly defined purpose when applying for tax-exempt status with the IRS and must continue serving this purpose to maintain their status. According to the Internal Revenue Service Internal Revenue Code on Section 501(c)(3) organizations, a nonprofit must serve one of the following exempt purposes to qualify for tax-exempt status:

  • Charity
  • Science
  • Religion
  • Education
  • Literary reasons
  • Prevention of cruelty to children or animals
  • Testing for public safety
  • National or international amateur sports competition

The charity category is broad and covers a wide range of generally accepted types of charities, including those related to the following categories:

  • Assisting the poor, distressed, or underprivileged
  • Advancement of religion
  • Advancement of science or education
  • Lessening governmental burdens
  • Building or maintaining public buildings, monuments, or works
  • Fighting against discrimination and prejudice
  • Improving neighborhood relations
  • Protecting human and civil rights
  • Fighting against juvenile delinquency and community deterioration

Documentation For Nonprofit Organizations

Nonprofit organizations that participate in fundraising or solicit public donations in any other way must document any donations they receive. The nonprofit should provide donors with a receipt or other type of written acknowledgment for donations that total at least $250. The donors may use this documentation to apply for tax deductions when they file their returns with the IRS.

Some nonprofits receive donated goods or services, and these donations must also be documented. The nonprofit should estimate the fair market value of these goods or services and provide that estimate on the donor's receipt. Keeping accurate donation records is vital to maintaining tax-exempt status as a nonprofit. You can learn more about documenting nonprofit donations by speaking with one of the veteran nonprofit lawyers at Mission Counsel.

Can Nonprofits Participate in Lobbying?

Nonprofit organizations should be aware of lobbying activities and the various local, state, and federal laws and requirements related to lobbying. While section 501(c)(3) nonprofits are permitted to engage in some lobbying, too much focus on influencing legislation will put the organization at risk of losing its tax-exempt status with the IRS. However, nonprofits may be involved with public policy through activities like raising awareness of certain issues through meetings or educational materials.

Nonprofits are also strictly prohibited from engaging in any event or activity that promotes a political candidate for any type of office. This restriction includes making donations to a political campaign. Any nonprofit that offers explicit support for someone running for political office is likely to have its tax-exempt status revoked when submitting an annual information report to the IRS.

What Taxes Are Exempt Nonprofits Required to Pay?

While tax-exempt nonprofits have no tax burden for the vast majority of the money they take in, all 501(c)(3) organizations must pay state and federal taxes for unrelated business income. According to the Internal Revenue Service, unrelated business income tax is due on income from any regular trade or business that is not significantly related to the nonprofit's charitable, educational, or another purpose that was designated as the basis of the nonprofit's tax-exempt status. If a nonprofit fails to pay this tax, the organization could have its tax-exempt status revoked.

Contact Our Nonprofit Lawyers For More Information

Forming and maintaining a well-run nonprofit organization is not easy. The tax implications for nonprofits are often complex, as laws at the local, state, and federal levels may be relevant to the organization's tax status. While most nonprofit organizations may qualify for tax-exempt status, receiving and maintaining tax-exempt status as a nonprofit requires thorough record-keeping and documentation, along with meeting the stringent legal requirements of the IRS.

At Mission Counsel, our team of dedicated nonprofit lawyers is committed to helping nonprofit organizations succeed at all levels - from their formation to their sustained success once the organization has been established. If you are involved with a nonprofit and have questions regarding the legal and financial aspects of running a section 501(c)(3) organization, our attorneys are here to provide legal guidance. Contact Mission Counsel today at (816) 368-1181 to learn more about taxes and nonprofits.

About the Author

Terry Mosteller

Hi, I'm Terry Mosteller. I'm the founding attorney at Mission Counsel, where I help nonprofits and small and medium-sized businesses overcome obstacles so that they can focus on what they do best–accomplishing their mission. My goal is to get to know not just the legal challenges...

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