What Is A 501(C)(3) Organization?

 

In its most basic form, a 501(c)(3) is a tax-exempt nonprofit organisation. Words like charity, nonprofit, and 501(c)(3) are often used interchangeably; nevertheless, not all charities have 501(c)(3) status.

Continue reading to find out what a nonprofit organisation is and what it has to do to get 501(c)(3) status.

What exactly is a non-profit organisation?

Nonprofit organisations are companies formed to assist certain causes rather than to profit stockholders. This does not exclude them from making a profit; however, any revenues must be put back into the organisation.

Nonprofits may pay salaries to staff and directors, but they may not pay dividends or other profit-sharing payments. Nonprofits often seek to further a certain cause or objective, or to satisfy a community need.

What is a 501(c)(3) organisation?

A 501(c)(3) organisation is a form of charity that has been granted tax-exempt status by the IRS. According to the IRS, there are eight types of organisations that may qualify for 501(c)(3) registration.

Religious Scientific Literary Educational Charitable
Testing for public safety
Sports tournament for amateurs
Cruelty to women, children, or animals must be avoided.

When founding a nonprofit company, your articles of incorporation must contain language limiting the organization’s purpose to one of these categories and prohibiting it from participating in actions that are not related to that goal.

Aside from falling into one of these categories, your organisation must also fit into one of three 501(c)(3) classifications to qualify for this status. All three divisions are intended to aid in the advancement of a non-discriminatory cause, purpose, or community.

Public Giving

The majority of 501(3)(c) organisations are public charities. These organisations engage in direct philanthropic activities. Donations to public charities come from a diverse range of organisations and people.

The public support test is the most significant aspect in deciding whether your organisation qualifies for public charity status. To pass, your organisation must derive at least one-third of its income from the general public, government backing, or grants from groups that get public support. Public charities are often supported by a large number of modest donations.

Private Funding

A private foundation is formed to help other charitable organisations rather than to do direct philanthropic activities. Most organisations that seek for 501(c)(3) status are assumed to be private foundations by default, unless they qualify for a different status.

Private foundations, as opposed to public charities, are funded by a small group of people, a family, or a firm. This gives you more say over who sits on the board of directors and how money are spent. Private foundations are obligated to devote at least 5% of their annual earnings to charitable purposes.

Foundation for Private Operation

Private operational foundations are private foundations founded to conduct direct charity activities. They are created and administered in the same manner as a private foundation, but instead of making grants to third-party charitable groups, they utilise their finances for their own purpose.

How to Obtain Tax Exemption

The procedures below will assist you in planning and forming a nonprofit organisation:

Organize your organisation – Because 501(c)(3) organisations are limited, it is critical to plan your organisation methodically to guarantee that it fits all regulations. Your organization’s mission should be as explicit as possible, and you should have a strategy for how it will be built and administered.

Incorporate – Once you’ve developed a strategy, you must officially organise by founding a company. This involves deciding on a name, forming a board of directors, creating bylaws, and submitting all required documents to your state’s company registration agency.

Apply to the IRS – Once your articles of incorporation have been authorised, you must apply to the IRS for tax-exempt status using Form 1023 or 1023-EZ, depending on your contributions and assets. This is a vital stage. Prepare to present extensive information on your organization’s structure, finances, activities, and goals. After you’ve submitted your application, you should get an answer between 3 to 12 months.

Comply – Receiving 501(c)(3) tax-exempt status may be a lengthy and difficult process, therefore being compliant is critical. In addition to maintaining thorough records and adhering to all necessary organisational formalities, your organisation will be expected to submit Form 990 with the IRS each year to outline its finances and activities.

What Advantages Do 501(c)(3) Organizations Have?

There are various benefits to 501(c)(3) organisations. These are some examples:

The most major and apparent advantage is that 501(c)(3) organisations are tax-exempt. This means they are exempt from federal income tax, sales tax, and property tax as long as all proceeds is utilised for charitable purposes.

Donations to 501(c)(3) organisations are tax-deductible, and donors may deduct their contributions from their income taxes. This may assist your organisation attract more contributors.

Grant eligibility – To be eligible for most local, state, and federal grants, organisations must have 501(c)(3) status.

Additional credibility – Obtaining 501(c)(3) status may increase your organization’s reputation in the eyes of funders and other organisations.

Discounts – Tax-exempt organisations are often eligible for discounts on items such as postage and advertising.

What are the disadvantages of becoming a 501(c)(3)?

While the benefits of 501(c)(3) status are great, there are some negatives to this distinction. These are some examples:

More limitations and monitoring on earnings – Profits cannot be handed to members of the organisation other than a regular pay. You may expect the IRS to scrutinise your financial records. Larger earnings will attract greater attention, and if the IRS believes that the organisation is too lucrative, paying executives too much, or not benefiting its intended purpose or community adequately with its income, you may lose tax-exempt status.

Tax-exempt organisations are not authorised to endorse political candidates or make campaign contributions. Lobbying is also strictly prohibited.

Individuals do not obtain assets if the company fails – Unlike a regular corporation, a 501(c)(3) organization’s leftover assets cannot be given to members if it ends operations. These assets must instead be allocated for permitted charity causes. Your bylaws should contain a dissolution provision that specifies how these payouts will be made if your organisation dissolves.

Aside from these constraints, founding and running a 501(c)(3) corporation entails a significant amount of paperwork and some additional costs. People tend to hold charity organisations and its members to higher standards than for-profit firms, therefore there may be greater scrutiny from the public.

Keeping Your Tax-Exempt Status

As you can see, qualifying for tax-exempt status is not straightforward. After all of your hard work to get permission, it is critical that you work just as hard to maintain your position. Failure to satisfy all of the standards for a 501(c)(3) on a consistent basis might result in the expensive loss of such status. Even if you continue to fulfil the basic standards, your organisation may lose its status if its emphasis changes and it begins to assist a cause or community that was not mentioned in its initial mission statement. To preserve your tax-exempt status, you must submit a Form 5768 with the IRS.