The IRS has identified several key benefits of having 501(c)(3) tax-exempt status in its resource Tax Basics for Tax-Exempt Organizations. We have re-printed the information here.
Benefits of Tax-Exempt Status under IRC Section 501(c)(3)
Tax exemption under Internal Revenue Code section 501(c)(3) provides a number of benefits:
- Exemption from Federal income tax;
- Tax-deductible contributions;
- Possible exemption from state income, sales, and employment taxes;
- Reduced postal rates;
- Exemption from Federal unemployment tax; and
- Tax-exempt financing.
Tax-Exempt Organizations and 501(c)(3)s
A tax-exempt organization is a trust, unincorporated association, or nonprofit corporation described in the Internal Revenue Code as exempt from Federal income tax. A 501(c)(3) is a type of exempt organization. It must be organized and operated for one or more exempt purposes described in Code section 501(c)(3):
- Testing for public safety,
- Fostering national or internationalamateur sports competition, and/or
- Preventing cruelty to children or animals.
How to Put Your 501(c)(3) Status in Jeopardy!
There are four types of activities that can jeopardize your 501(c)(3)’s tax-exempt status:
- Private benefit/inurement,
- Political activity, and
- Excessive unrelated business income(UBI).
#1 Private benefit
501(c)(3)s must avoid all activities that will substantially benefit the private interest of any individual or organization. Inurement: No part of an organization’s net earnings may inure to the benefit of a private shareholder or individual. This means that a 501(c)(3) organization is prohibited from allowing its income or assets to accrue to insiders. The prohibition of inurement is absolute. Any amount will jeopardize the organization’s 501(c)(3) status.
Lobbying is an activity designed to influence legislation. If its lobbying activities are substantial, a 501(c)(3) may risk losing its tax-exempt status. The IRS uses two tests to determine whether lobbying is substantial: the substantial part test and the expenditure test.
#3 Political Campaign Activity
Political campaign activity involves directly or indirectly participating or intervening in any political campaign on behalf of or in opposition to any candidate for elective office. The prohibition of political campaign activity is absolute. Any violation may result in the loss of tax-exempt status and the imposition of excise taxes.
#4 Excessive Unrelated Business Income (UBI)
If a nonprofit, tax-exempt organization regularly carries on a trade or business that is not substantially related to its exempt purpose, except that it provides funds to carry out that purpose, the organization is subject to tax on its income from that unrelated trade or business. Learn more here.
The information above was presented in the Internal Revenue Service’s free, online classes: Tax Basics for Tax-Exempt Organizations. Some key points from the topic Becoming/Staying a 501(c)(3) is reprinted here.
Difference Between Nonprofit & Tax-Exempt
Many people mistakenly believe that all nonprofits automatically have 501(c)(3) tax-exempt status.We have outlined in other posts the difference between nonprofit corporations and tax-exempt organizations:
- nonprofit status refers to state-law corporate status
- tax-exempt status refers to state and federal tax exemption under tax regulations.
Many nonprofits are organized as both a nonprofit corporation and a tax-exempt entity.
A nonprofit organization, whether incorporated or not, can decide whether or not it wants to apply for tax-exempt status from the IRS and the state.