The exclusive 501(c)(3) status: cracking the code to nonprofit bliss

In order to receive all the tax benefits available to a nonprofit organization, it is imperative to apply for 501(c)(3) status; however, there are some organizations that may not need the tax incentives that the status provides. Here are two questions to ask yourself before you go through the tedious (but ultimately rewarding!) process of applying:

Will your nonprofit bring in enough taxable income to make avoiding taxes a concern? Simply put, if your organization does not bring in any income from business activities, it won’t owe any taxes. But if you plan to have a business activity that is related to your mission (fees from clients receiving your services), then being tax-exempt will save you money.

Do you need to be eligible for grants or attract large contributions?
If you plan to apply for grants from resources that usually only provide funds to tax-exempt organizations, and if you plan to ask individuals or organizations for larger contributions, then you should apply.

How Do I Apply for 501(c)(3) Status?

Once you have decided to apply for 501(c)(3) status, you must file IRS Form 1023, or the Application for Recognition of Exemption Under Section 501(c)(3) of the Internal Revenue Code.  You can find a copy of Form 1023 from the IRS website at www.irs.gov.

Full disclosure: the IRS estimates that the average person will need more than four hours to learn about the form, and another eight hours to complete and return it to the IRS. This makes for a long day, so be prepared.

To get the most out of your tax-exempt status, you’ll want to file your Form 1023 within 27 months of the date you file your nonprofit articles of incorporation.

You will also need to determine what kind of 501(c)(3) organization you intend to form. The types of organizations that the IRS will recognize as a 501(c)(3) organization fall roughly into three categories:

  • Charitable
  • Mutual benefit
  • Religious

Don’t forget: Your organization must be a corporation, trust or other unincorporated association, as individuals or partnerships do not qualify for 501(c)(3) status.

Understanding the Specifics

There are a total of 11 sections on the IRS Form 1023:

1. Identification of Applicant: This section asks for basic information, such as the name of your nonprofit corporation, contact information, and when you filed your articles of incorporation.

2. Organizational Structure: This section asks that you attach a copy of your articles of incorporation and your bylaws.

3. Required Provisions in Your Organizing Document: There are certain clauses that you must have in your articles of incorporation in order to get your 501(c)(3) exemption (please refer to the Form for details).

4. Narrative Description of Your Activities: /Here, you are asked to/ provide a detailed, narrative description of the organization’s activities.

5. Compensation and Financial Arrangements:The purpose of this section is to prevent people from creating a nonprofit for the benefit of its founders, insiders, or major contributors.

6. Members and Others That Receive Benefits from the Nonprofit: You must report if your nonprofit will provide goods or services.

7. Your History: If the nonprofit is a “successor” to an incorporated or preexisting organization (such as an unincorporated association), the IRS wants to know this.

8. Details on Your Specific Activities: You will be asked to provide details about certain types of activities that may be scrutinized, such as political and fundraising.

9. Financial Data: You must provide a statement of revenues, expenses and a balance sheet.

10. Public Charity or Private Foundation: This section relates to your nonprofit’s classification as a public charity or private foundation.

11. Fee Information: You must pay a fee when you submit your Form 1023 application.

Fingers Crossed: What Happens Next

After reviewing your application, the IRS will do one of three things:

  1. Grant you federal tax exemption
  2. Request further information
  3. Issue a proposed adverse determination (a denial of tax exemption).  If you receive a proposed denial of tax-exempt status and you wish to appeal, see a lawyer immediately.

Now that you’ve gained some top-line specifics about the 501(c)(3) process, you can check out How to Form a Nonprofit Corporation by Anthony Mancuso (Nolo) for line-by-line instructions on completing Form 1023, and other useful tidbits to guide you.

For further questions, please visit the following website:

http://www.irs.gov/charities/article/0,,id=96109,00.html

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