In order for contributions to a charitable organization to be deductible, the organization must be an IRS tax-exempt non-profit organization. Before making a contribution to a charitable organization, potential donors may inquire about the organization’s tax exempt status. In these cases, the organization should be able to demonstrate to the potential donor that it is, in fact, a tax-exempt organization. Many people confuse being a non-profit organization and having IRS tax-exempt status. An organization is established as a non-profit by filing with the state as a non-profit corporation. One becomes a tax-exempt organization by filing Form 1023 (or 1023EZ) with the IRS. However, churches are automatically exempt and do not need to apply for tax-exempt status.
Having tax-exempt status means that the organization is not subject to income tax on its revenues and that donors may deduct certain contribution to the organization.
Federal Tax Exempt Status
For non-profit organizations that are not churches, it is fairly easy to prove tax-exempt status. However, for a church, that proof is more elusive. When an organization file Form 1023 with the IRS, and it is approved, the organization will receive an exemption letter from the IRS. This is sufficient proof. The organization should keep a copy of this letter on hand and have it available to show to anyone who inquires about the tax-exempt status. In addition, taxpayers can consult IRS Publication 78. This publication is a current listing of all organizations that have tax-exempt status with the IRS. It is no longer published in print, but can be accessed via the IRS website (http://www.irs.gov/Charities-&-Non-Profits/Exempt-Organizations-Select-Check).
An organization may also be covered by a group exemption. This occurs when a parent organization hold an exemption that is applicable to its affiliated organizations. For example, Habitat for Humanity, International has a group exemption that applies to the local Habitat affiliates. If in doubt, the parent organization can verify that the local affiliate is covered by the group exemption.
For churches, proving tax exempt status is more problematic. Churches are automatically exempt, so they do not have to file Form 1023 for an exemption. In order to have this proof, a church could File a Form 1023 and receive an exemption letter. However, the time involved in preparing the form and the fees associated with the application are both substantial. Most likely, a professional would need to be consulted to facilitate preparation of the form, which adds to the expense.
Some churches may be covered under a group exemption from its denomination. But many denominations do not hold a group exemption, so this may not be an option. Some denominations resist getting a group exemption, as it would be in conflict with their concept of church autonomy, as each church covered would have to agree that it was a subordinate organization under the supervision or control of the parent.
So the bottom line is that a church that has not applied for tax-exempt status or is not covered by a group exemption cannot “prove” its status. It can, however, make reference to the IRS definition of a church and show that it meets the five points included in the definition:
1. The organization must be organized and operated exclusively for religious, charitable, scientific, or other charitable purpose.
2. Net earnings may not inure to the benefit of any private individual or shareholder.
3. No substantial part of its activity may be attempting to influence legislation.
4. The organization may not intervene in political campaigns.
5. The organization’s purposes and activities may not be illegal or violate fundamental public policy.
A short document addressing these five points could provide assurance to potential donors that the church is, in fact, a church and therefore tax-exempt.
It should be noted that a Federal tax exemption applies to income tax only. The organization would still be liable for payroll taxes, as if it were a profit-making organization.
State and Local Tax Exempt Status
Churches and other non-profit organizations are exempt from sales tax in many states. This exemption can apply to sales made by a church, sales made to a church, or both. State laws vary, so a tax-exempt organization should check with the State Department of Revenue to determine laws within the state. Most states require that the organization apply for exemption from sales tax. When the application is approved, the organization will receive an “exemption” number that must be used when purchasing taxable goods or services.
State unemployment tax laws vary, so the non-profit organization should check with the state agency administering unemployment taxes to determine if it is subject to these taxes.
Non-profit organization may also be exempt from property taxes. All states recognize some exemption from property taxes, but the extent of the exemption varies from state-to-state and sometimes from county-to-county. In some cases, the use of the property may determine its tax-exempt status. For example, a church buys a plot of land, with future plans to build a new worship center on the site. In most states, this property would be exempt from property tax. However, the new construction is delayed for a period of time, so the church leases the property to a cattle farmer for grazing. The farmer fences in the property and the cattle contentedly graze. In many states, this action removes the property from the tax exempt roles as the property is not being used as a part of the exempt purpose of the church.
There are many taxes that organizations may be subject to. It is imperative that the administrators of the organization make a proper determination about what taxes the organization is exempt from and what taxes must be paid.