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Tax Exempt Organization Planning

Tax exempt organization planning is crucial to your nonprofit corporation’s success. Especially when most of your financing is from donors seeking a tax deductible contribution. Thus, tax exemption can be the difference between fulfilling your mission or a huge tax bill. A nonprofit corporation that qualifies as a tax exempt organization does not pay federal, state, and local taxes. Plus, donors can write off their contributions on their individual tax returns. Of course, proper accounting of contributions plays a key role in a nonprofit’s operations.

Eligibility for tax exemption is determined by Internal Revenue Code section 501(c)(3). A nonprofit organization must be organized and operated exclusively for “exempt purposes” as prescribed by the IRS. The exempt purposes in section 501(c)(3) are charitable, religious, educational, scientific, literary, testing for public safety, fostering national or international amateur sports competition, and preventing cruelty to children or animals.

If you do not have an “exempt purpose” the IRS might reject your tax exemption application. And, you might lose the benefits of being a tax exempt organization. Plus, you will need to explain to your donors why their contributions are non-deductible. At that point, it would be difficult to get donors to contribute to your organization. Thus, having a tax exempt organization plan is key to the execution of your nonprofit’s goals.

Usually, nonprofit organizations fall into the charitable category of section 501(c)(3). The IRS views the term charitable in its generally accepted legal sense. Thus, charity includes:

  • relief of the poor, the distressed, or the underprivileged
  • advancement of religion
  • advancement of education or science
  • erecting or maintaining public buildings, monuments, or works
  • lessening the burdens of government
  • lessening neighborhood tensions
  • eliminating prejudice and discrimination
  • defending human and civil rights secured by law
  • combating community deterioration and juvenile delinquency

Other requirements to be eligible for tax exempt recognition state that: (1) none of the earnings of the nonprofit organization may inure to any private shareholder or individual; (2) the organization should not be an ‘action organization’ i.e. it should not attempt to influence legislation as a substantial part of its activities and it may not participate in any campaign activity for or against political candidates; and (3) the organization must vow to permanently dedicate assets of the organization to a tax exempt purpose as defined above.

Keeping track of a nonprofit organization’s tax requirements can be time consuming and complicated. But, it may be worth it. Remember that nonprofits exist as corporations. So, they possess all the benefits of corporate status. The corporate form shields owners and managers of the organization from personal liability for the group’s actions, subject to certain legal exceptions. Nonprofit incorporation formalizes the group’s goals and helps maintain organizational focus as the effort grows.