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The laws and regulations governing nonprofit organizations can be complex and multi-faceted. Before you settle into filing paperwork to create a nonprofit, it’s important to remember that the tax-exempt designation is not a “one size fits all” approach.
While most individuals or groups interested in establishing a nonprofit are familiar with the 501c3 public charity designations, they may not be aware that there are other types of 501(c) nonprofit designations that may better serve their strategic goals and objectives. While a comprehensive explanation of the dozens of classifications and the laws and regulations that apply are beyond the scope of this article, IRS Publication 557 can provide the full details.
Common Types of 501(c) Nonprofit Organizations
Some of the most common 501(c) nonprofit classifications include:
- 501(c)(3) — As mentioned earlier, this is the most common classification and includes organizations that are considered charitable, cruelty prevention for children or animals, educational, literary, national or international amateur sports, public safety, religious, or scientific.
- 501(c)(4) — Include civic associations, social welfare organizations, and employees’ associations
- 501(c)(5) — Addresses all agricultural and horticultural organizations and labor associations
- 501(c)(6) — Is designed for business leagues, chambers of commerce, and real estate associations
- 501(c)(7) — Is the classification governing all social and recreational clubs
Regardless of the specific designation, all 501(c) organizations are required by law to operate for the “public good.”
Common Laws and Regulations for Nonprofits
While there are specific federal and state laws and regulations for each 501(c) classification, there are some commonalities. For example, under IRS Code Section 501(c), these organizations are exempt from some, but not all, federal income taxes.
Nonprofits are required by law to pay Social Security and payroll taxes. In addition, the organization may be taxed on income unrelated to its mission.
Another factor to consider is that depending upon the state or states where a nonprofit is incorporated and operates, the organization may be exempt from sales tax and property taxes. However, most states have different laws and regulations depending on the 501(c) classification.
It’s Not Against the Law to Make Money!
While a nonprofit cannot distribute “profits” to its owner or investors, successful nonprofits are managed very much the same way that a private-sector business is run — maximizing net income and using investment funds (donations, grants) wisely to support “profitable” activities.
Successfully managing a nonprofit is essential for long-term sustainability and fulfillment of its mission. The difference is that for nonprofits, additional earnings are reinvested into the organization.
Take Time to Understand the 501(c) Filing Regulations
If you’ve looked at IRS Publication 557, you might have noticed that the nonprofit filing requirements are more complex than anticipated. Contracting with an experienced nonprofit accountant or consultant who has a deep understanding of the IRS 501(c) filing regulations can immensely help keep your organization in legal and tax compliance. The filing regulations can become especially complex for multi-state nonprofit organizations or larger charities with multiple 501(c) classifications for various organization segments.
Maintaining Compliance Is Crucial
Because of the federal and state tax exemptions granted to nonprofits, this sector is tightly regulated at both the state and federal levels. One of the main nonprofit compliance regulations, for which there are very few exceptions, is that tax-exempt organizations must file one of the following tax return forms: a 990, a 990-EZ, or the 990-N (also known as the e-Postcard), or a 990 PF. Failure to file the correct tax return for three or more years will result in an organization having its tax-exempt status revoked. If or when this happens, the organization is no longer “in compliance.”
In addition to the Federal IRS regulations, 13 states have an Attorney General’s Office division dedicated to overseeing charitable organizations, and 14 additional states regulate the charitable sector through the state’s office of consumer affairs. For all other states, philanthropic organizations are controlled by a business or finance overseer. At the state level, nonprofits are all subject to laws and regulations pertaining to fundraising, employment, and industry standards.
The Federal IRS and state and local governments take the 501(c) classification seriously. If you’re looking to start and expand your 501(c) nonprofit and maintain compliance, investing in a qualified, experienced advisor from the beginning is an excellent way to ensure your organization launches with a solid foundation and the knowledge and tools to build and grow throughout the years to come.