Nonprofits are public organizations that must follow a variety of state and federal guidelines. The basic definition of a nonprofit is legal entity organized and operated for a collective, public or social benefit.
We talk about ethical fundraising and nonprofit best practices but do we aways walk the talk? According to the Urban Institute, “16% of nonprofits nationwide have lost their tax-exempt status. Human services organizations account for the largest share of revoked organizations.”
So if a nonprofit doesn’t follow the laws and best practices, what can happen? The most dire consequence is to lose their 501(c)(3) tax-exempt status. This also means a lost of trust among the community and donors.
Six ways to easily lose your 501(c)(3) tax-exempt status.
Private benefit / private inurement
Unrelated business income (UBI)
Annual reporting requirements
Not operating within your exempt purpose
Internal Revenue Service
The most common mistake nonprofits make that jeopardizes their tax-exempt status is failing to file each year with the IRS. Some people mistakenly think that because they’ve made no money, or break even, or even lose money, they don’t need to file. None of these matter to the IRS.
Since 2008, the Pension Protection Act of 2006, requires organizations with “annual gross receipts” of $50,000 or less to submit IRS Form 990-N or the 990-EZ, basically an electronic postcard. No other paperwork is required. Yet, many organizations fail to comply. Organizations that do not file for three consecutive taxable years lose their tax-exempt status.
Other nonprofit organizations that lose their tax-exempt status are usually unable to show adherence to their basic charitable purposes. They do not fulfil their mission. The IRS will revoke exemption status due to intentional malfeasance or self-dealing. For example, an organization that purported to run summer camps was denied exemption because most of the money raised went to the two founders, not the programs.
Just to be clear, nonprofit organizations that operate businesses like resale stores or other social ventures are in compliance with the IRS, so long as the profits from these business ventures benefit the nonprofit, not stakeholders.
Political activity such as lobbying and advocating is another area that is sometimes confusing. According to the IRS, “nonprofits are allowed to participate in an ‘insubstantial’ amount of lobbying.” This means you can advocate for your mission so long as this is not your primary function, and you don’t use significant resources.
The bottom line is file annually with the IRS, use donations raised to support programs that are within your mission, and be mindful of lobbying activities.
Michelle Crim, CFRE
Dynamic Development Strategies can help. We offer coaching, grant writing, and fundraising services for our nonprofit clients. We specialize in small to mid-size organizations because we understand your challenges. Please contact us for more information.