The Tax Code provides organizations exempt from federal income tax.
Charitable organizations are generally either public charities or private foundations. Among other benefits, exempt status conferred by Code Sec. 501(c)(3) allows a public charity to receive tax-deductible contributions from its donors.
Any corporation, community chest, fund, trust, or foundation may qualify for the exemption. Application for recognition of Code Sec. 501(c)(3) federal tax-exempt status is made on Form 1023.
To qualify for tax-exempt status under Code Sec. 501(c)(3), the entity must be organized and operated exclusively for religious, charitable, scientific, educational, or literary purposes, the prevention of cruelty to children or animals, the promotion of amateur sports competition, or the testing for public safety. A charitable purpose is interpreted broadly and may include purposes beyond those stated in Code Sec. 501(c)(3).
For example, a charitable purpose can include: providing relief to the poor or disadvantaged; the advancement of education, religion, or science; or lessening the burdens of government through the promotion of social welfare or other community development.
An educational organization can include a child-care center whose services are available to the general public and whose purpose is to enable individuals to be gainfully employed.
Regardless of an entity's charitable purpose, it must meet certain organizational, operational and private benefit tests in order to qualify as a tax-exempt charitable organization.
Organizational Test. The organizational test requires that the entity's "articles of organization" specifically limit its purpose to one or more exempt purposes, including that its assets are dedicated to an exempt purpose. The articles of organization also must not expressly permit the organization to carry on activities which do not further the organization's exempt purpose, except where the nonexempt activities are an insubstantial part of the organization's activities.
For example, the article of organization must not devote more than an insubstantial part of its activities to influencing legislation by propaganda or otherwise; or authorize the organization to directly or indirectly participate or intervene in any political campaign on behalf of or in opposition to any candidate for public office. Whether an organization meets the organizational requirement is determined exclusively from the language of the articles of organization and not from the activities conducted by the organization. For this purpose, "articles of organization" include trust instruments, corporate charters, articles of association or any other written instrument by which an organization is created.
Operational Test. The operational test requires that an entity must be operated exclusively for one or more exempt purposes. This means the organization engages primarily in activities that accomplish one or more of its exempt purposes.
Only an insubstantial part of the entity’s activities may be in the furtherance of nonexempt purposes. Whether an organization has a substantial nonexempt purpose is determined by taking into account all facts and circumstances, including the size and extent of all of the organization's activities. If the entity is an "action" organization, then it will not be considered as operated exclusively for an exempt purpose. An entity is an "action" organization if it devotes a substantial part of its activities to attempting to influence legislation or if it participates in political campaigns. However, if an organization fails the operational test because it is an "action" organization, it may still qualify for tax-exempt status as a social welfare organization under Code. If a charitable organization provides commercial-type insurance as an insubstantial part of its activities, then the insurance activity will be treated as an unrelated trade or business.
An entity will not be considered as operating exclusively for exempt purpose if any of its net earnings inure in whole or in part to the benefit of private shareholders or individuals. A "private shareholder or individual" is any person having a personal and private interest in the activities of the organization, such as founders of the organization, employees, board members, or family members of officers, employees, etc. The inurement prohibition does not prohibit all payments to a private shareholder or individual, but instead is directed at payments that are made for purposes other than as reasonable compensation for goods or services.
Private Benefit Test. An organization is not organized or operated exclusively for charitable purposes unless it serves a public rather than a private interest (outside interests, as opposed to inside interests addressed by the inurement prohibition under the operation test). The question of private benefit often arises in situations in which a charitable organization enters into partnerships and other joint ventures with for-profit entities. The charitable organization can form such ventures and still satisfy the operational test only if it is permitted to act exclusively in furtherance of its exempt purpose and only incidentally for the benefit of the for-profit partners.
In addition, the for-profit party cannot be allowed to control or use the charitable organization’s activities or assets for its own benefit unless such control or use is incidental.
Benefits for 501(c) status
The benefits for the non-profit organization of having 501(c) condition include exemption from federal income tax and eligibility to receive tax-deductible giving donations. Another benefit is that some organizations may be exempt from certain employment taxes.
Eligibility Criteria for 501 (c)
There are three key mechanisms for an organization to be exempt from federal income tax. The not-for profit organization must be organized and operated exclu¬sively for one or more exempt purposes.
Organized: An organization must be prearranged as a company, trust, or unincorporated association. An organization’s systematized documents (articles of incorporation, trust documents, articles of association)
Operated: Because a extensive portion of these non-profit organization’s activities must further its exempt purpose(s), certain other activities are not allowed
Exempt purpose: An organiza¬tion must have one or more exempt purposes, exempt pur¬poses: charitable, educational, religious, scientific, literary, fostering national or international sports competition, preventing cruelty to children or ani¬mals, and testing for public safety or Register non-profit organization
Duties of a accompany
While conferring benefits on 501(c) organizations, federal tax law also imposes responsibilities on organizations receiving that status.
Record Keeping: Non-profit and religious Organizations are required to create and maintain books and records detailing all actions, both financial and non-financial.
Filing Prerequisites
Annual Information Returns: Organizations recognized as tax exempt may be required to file an annual information return along with certain schedules that may be required for organizations. Certain categories of organizations are accepted from filing including nonprofit Religious Corporation and very small organizations.
Annual Electronic Notice: Small organizations are not required to file however; these nonprofit and religious organizations must submit an annual electronic notice using, Electronic Notice (e-Postcard) for Tax-Exempt Organizations not required.
Disclosure Prerequisite
Public check of Exemption Applications and Returns: Non-profit Organizations have to make their application and the annual returns, available to the public for inspection, upon request and without charge (except for a reasonable charge for copying). Each annual return must be made available for a three-year period starting with the filing date of the return.
Charitable Contributions; Confirmation and Disclosure: The Non-profit Organizations that are tax exempt must meet certain requirements for documenting charitable contri¬butions The federal tax law requires two general disclosure regulations:
1) a contributor must obtain a on paper recognition from a charity for any single con¬tribution before the contributor can claim a charitable contribution on his/her federal income tax return
2) A charitable organization must provide a written disclosure to a donor who makes a payment in surplus.
Documents keeping Requirements A contributor cannot claim a tax subtraction for any con¬tribution of cash, a check or other financial gift made on unless the donor maintains a record of the contribution in the form of either a bank record a written communication from the charity showing the name of the charity, the date of the contribution, and the amount of the contribution.
Guideline to Apply for 501 (c)
Non-profit Organizations that want to apply for 501(c) status should be aware of the forms required, the user fee, the filing deadline, and the processing procedures.
When to claim
Non-profit Organizations must file by the end of the 15th month after they were created, with a 12-month extension available. An organization that is not a private foundation is not required to file. An organization must file within 90 days of the end of the year in which it exceeds this threshold.
Determination Letter
Tax consultant reviewing an application may request additional information in writing. If all information received establishes that an organi¬zation gather the requirements for exemption, determination letter will issue to recognizing the non-profit organization’s exempt status and providing its public charity categorization. This is a main document that should be kept in the organization’s everlasting records.
