Thursday, October 3, 2013

Tax Facts for Nonprofits: Some Important IRS Rules to Live By

You probably know how essential it is to thank your donors for their contributions. What you may not know is that a written acknowledgement is actually required by the IRS for any donation of $250 or more. Or that there has been a recent spate of cases in which the IRS denied tax deductions on gifts because the thank you notes did not do enough to establish the donations were purely charitable.

Here's what you need to say: "Our nonprofit is an IRS-qualified 501(c)(3) organization and your contribution is tax-deductible to the extent provided by law. No goods and services were provided in exchange for your gift."

Here are a few more important IRS rules you should know about:
  • Compensation: The IRS really notices how much your board and staff are paid. Total compensation packages have to remain within reasonable limits or the IRS can impose serious excise taxes on the individual board members and managers involved.
  • Business activities: Nonprofits are prohibited from competing unfairly with for-profits. If you do so, or if you have business activities that are unrelated to your mission, you have to pay the appropriate taxes or face losing your tax-exempt status.
  • Lobbying: Direct and indirect intervention as well as participation in political campaigns supporting or opposing a candidate for public office is explicitly prohibited for 501(c)(3) nonprofits. Doing so results in automatic loss of tax-exempt status. You can advocate in support of legislation if it is clearly consistent with your mission, but be sure to proceed cautiously and carefully.
  • Governance policies: IRS Form 990 asks whether your organization has adopted a number of specific policies. There is no law that gives the agency any oversight over corporate governance. However, here's what the IRS says: "The absence of appropriate policies can lead to opportunities for excess benefit transaction, inurement, operation for non-exempt purposes, or other activities consistent with exempt status." So it is indeed prudent for your agency to have written policies in regard to conflict of interest, Executive Director compensation, gift acceptance, and documentation of Board meeting minutes.
  • Independent contractor versus employee: Many small nonprofits I work with mistakenly try to save money by designating folks who are core staff as independent contractors. Here's the basic IRS guideline: "a worker is your employee if you have the right to control not only what work will be done, but also how the worker will do it." You might get away with this. But if you're caught, the IRS will send you a hefty bill for all the employment taxes you should have been withholding and paying.
  • Surplus income: No, you cannot divide up a surplus and distribute it to staff. For-profit businesses get to share profits as they see fit. The beneficiary of a surplus in a nonprofit must be the organization itself - not an individual.
The IRS often gets a bad rap - but I have to say that if you take the time to use their online resources you will actually find them amazingly easy to navigate, comprehensive, and helpful. For more specifics on any of the above, check them out at

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