Requirements to Maintain 501C3 Status

By Elizabeth Rayne

More than 100 501(c)(3) organizations lose their exempt status every year, according to the Nonprofit Risk Management Center. The Internal Revenue Code section 501(c)(3) is a provision in the federal tax code, which allows certain nonprofit organizations, including charities, churches, educational institutions and other organizations that meet the requirements to be exempt from certain taxes. The IRS regulates and regularly reviews exempt organizations to ensure that they are following the regulations and that the organization continues to do the work that led to its exempt status. Failing to follow the guidelines can lead to fines and, in some cases, the loss of 501(c)(3) status.

More than 100 501(c)(3) organizations lose their exempt status every year, according to the Nonprofit Risk Management Center. The Internal Revenue Code section 501(c)(3) is a provision in the federal tax code, which allows certain nonprofit organizations, including charities, churches, educational institutions and other organizations that meet the requirements to be exempt from certain taxes. The IRS regulates and regularly reviews exempt organizations to ensure that they are following the regulations and that the organization continues to do the work that led to its exempt status. Failing to follow the guidelines can lead to fines and, in some cases, the loss of 501(c)(3) status.

Political Activity

Generally, 501(c)(3) organizations may not participate in any political or substantial lobbying activity. Specifically, they may not make contributions to political campaign funds nor promote a particular candidate for office. Lobbying, or attempting to influence legislative activity, is only allowed if the expenditures are under a certain amount based on the size of the organization. To ensure that political activities will not put the organization in danger of losing exempt status, charities may file Form 5768, which allows the organization to spend a portion of their funds on lobbying; the organization may have to pay excise tax on expenditures that are more than a certain amount.

Ready to form a nonprofit? Get Started Now

Non-Exempt Activity

The 501(c)(3) organization's activities and income must be focused on the purpose as reported to the IRS. In other words, if your organization's exemption is based on the purpose of providing clothing to homeless people, your activities and income must focus on that purpose. If instead, you use donated funds to pay exorbitant salaries while failing to help any homeless people, you will likely lose your tax-exempt status. Similarly, if you decide to use your funds to provide college scholarships to your local high school, although it is also a charitable activity, you may put your exempt organization in jeopardy if you do not first notify the IRS that you are changing the focus of the organization.

Inurement or Personal Benefit

Inurement, which occurs if a shareholder or other insider receives personal benefits from the organization, is strictly prohibited for 501(c)(3) organizations. For example, the nonprofit may not sell property of the organization to a board member for less than the fair market value, nor may a shareholder receive free services from the nonprofit that others pay for. Employees and directors can, however, receive reasonable compensation for work completed, but exorbitant salaries would likely violate the rule.

Unrelated Business Income

Although all organizations need some income to operate, exempt organizations may not have substantial, unrelated business income. This includes money made from activities that are not related to the organization's purpose, such as renting out office space or selling merchandise. The majority of the organization's efforts must go to the exempt purpose of the organization, but some unrelated business income is permitted. Typically, exempt organizations must pay taxes on unrelated business income and report the income on Form 990-T, Exempt Organization Business Income Tax Return.

Reporting and Taxes

Generally, the IRS requires exempt organizations to file an annual report. However, certain exempt organizations, including churches and some nonprofits with very small budgets, are not required to do so. The state where the organization is located may also require the organization to file reports annually or biannually. Although 501(c)(3) organizations are exempt from certain taxes, many nonprofits must pay employment tax, excise tax, unrelated business income tax, as well as state and local taxes.

Ready to form a nonprofit? Get Started Now
What Is a 501C Non Profit?

References

Resources

Related articles

Rules of Nonprofit Lobbying

The Internal Revenue Code provides rules for nonprofits regarding lobbying and involvement in political campaigning. Categories of nonprofits include those exempt from taxes under 501(c)(3) and those exempt under 501(c)(4). While 501(c)(3) organizations are not entirely restricted from lobbying activities, restrictions apply regarding the amount of money they can spend on these activities. If a nonprofit violates the restrictions imposed by the Internal Revenue Code, it may have to pay excise taxes and its tax-exempt status may be revoked.

What Is a 501 C 7 Corporation?

Provided the Internal Revenue Service guidelines for exempt status are met, individuals that choose to organize around a shared social interest may operate as exempt social clubs. This IRS designation is available for people who share a particular purpose, so long as the organization is supported by member fees and dues. In addition, some contact among members is required, and no club may discriminate against certain protected classes.

What is the Difference Between a 501C3 & 501C4?

Many nonprofit organizations are created for the purposes of providing some benefit to the public. Depending on the specific civic purpose of the organization and its anticipated level of involvement in politics, it may be eligible for a federal income tax exemption under subchapter 501(c)(3) or 501(c)(4) of the Internal Revenue Code. Knowing the eligibly requirements and costs and benefits to each classification will help you determine the best way to register your nonprofit.

Doing the right thing has never been easier.

Related articles

Rules for 501(c)3 Corporations

Many charities pursue 501(c)(3) status because it allows organizations to avoid certain taxes and accept tax-deductible ...

Charity Vs. 501(c)(3)

All 501(c)(3) organizations are a type of charity. However, not all charities decide to file for 501(c)(3) status, and ...

501(c)(3) Auxiliary Restrictions

A 501(c)(3) auxiliary organization is an independent legal entity organized to support a parent organization that is ...

Can a Nonprofit Business Earn an Income?

Nonprofit organizations are given special tax status because of the benefits they provide to the community through ...

Browse by category