Tax Exempt Organizations

Tax-exempt status frees an organization from the obligation of paying income taxes to state and federal tax bodies. An organization must send its annual filings to the IRS to retain its status. These annual filings are not a renewal, and the organization can still maintain its tax-exempt status even if it did not meet its filing requirements in a year.

An organization can obtain a tax-exempt status when it incorporates with the Secretary of State of a particular state as a nonprofit. With a nonprofit designation, the organization does not need to apply for 501(c) status to be exempt from state sales and income taxes and qualify for state-awarded grants and contracts.

Depending on their purpose, nonprofits do not require 501(c)(3) or federal tax-exempt status to function. However, a 501(c)3 offers certain benefits that are lacking in other designations, but the purpose and financial size of the organization determine whether it needs to apply for the status.

Nonprofits that want federal tax-exempt status need to file for 501(c) designation with the IRS. If the mission of the organization qualifies it for the status, the IRS approves the application. For example, a children's charity may be designated as a 501(c)(3) while a national trade association may be given a 501(c)(6) designations. The 501(c)(3) qualifies donors for a tax deduction when they donate.

Tax-exempt organizations may establish subordinate 501(c)(3) organizations for the collection and disbursement of tax-deductible donations. Trade associations with 501(c)(6) designation usually own 501(c)(3) foundations for purposes of collecting and disbursing tax-deductible contributions. For instance, a national trade association that advocates for architects may own a foundation, which sponsors students to study architecture in college.


According to recent regulations, an organization will be designated as 501(c)(3) if it can prove that public contributions can support at least one-third of its functions at the time of filing for tax-exempt status.

A nonprofit organization must follow state and federal tax laws strictly. If you wish to obtain federal 501(c)(3) status, your organizations must be ready to subject itself to the scrutiny of the IRS during the lengthy application process. However, you will not renew the tax-exempt status if your application is approved.

While your organization is not required to renew its 501(c)(3) status, the Internal Revenue Service has some filing requirements your organization must comply with to maintain its tax-exempt designation. One of the conditions is to file an annual report of your yearly revenue and operations with the IRS. Furthermore, you must adhere to state reporting and registration requirements that apply to your organization to avoid losing your corporate and exempt designation.

Changes to 501(c)(3) Status Effective Dates for New Nonprofits

The 2006 update of the tax code required all 501(c) organizations except churches to file a version Form 990 annually. Nonprofits that fail to submit the form for three consecutive years will have their tax-exempt status revoked automatically.

The new regulation led to an odd situation where the tax-exempt status of applicant nonprofits was revoked even before their designation as such was approved. Primarily, the new rules designated the applicant organizations as tax exempt from the date of the application without considering their operations or contributions before that time.

In Revenue Procedure 2013-9, the IRS formally included failure to file Form 990 in its considerations for effective dates. The new rules now state that the status of applicants (except for those described in § 501(c)(29)) as tax-exempt will be effective as of the formation of the organization if:

  • The purpose and activities of the organization before the application comply with exemption requirements.
  • The organization has not failed to observe Form 990 filing requirements for three consecutive years.
  • The organization applied for tax-exempt status within 27 months from the end of its month of formation.

The implication is that if a nonprofit that is applying for 501(c)(3) status, and it is over 27 months since the formation of the organization, and you did not file Form 990 since the nonprofit was formed, your effective tax exemption date will take effect after the 27 months.

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