Staying on Target

STAYING ON TARGET
Avoiding Loss of Tax-Exempt Status
Debra Scott, JD, MPH
SP Consulting, a division of
The Scott Practice, LLC
www.scottpractice.com

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Form 990 and Tax Compliance – Review reporting requirements
under Form 990 which solicits information on these five activities
Webinar Agenda
Non-profit Tax Exempt Status – Overview of nonprofit
organizations and IRC 501(c)
Five Activities That Can Jeopardize Tax Exempt Status –
Discuss each of the five activities that may cause revocation
Failure to File Form 990 – Discuss the consequences of non-
filing or incorrect reporting and rules governing automatic
revocation
Form 990 Analysis –What certain disclosures on Form 990
reveal to third parties and the IRS
Questions
Brief Outline of Today’s Webinar

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TAX EXEMPT STATUS
Brief Overview of Nonprofit

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What is a Tax Exempt Organization?
Definition:
A tax exempt organization is recognized by the Internal Revenue
as an entity organized for an exempt purpose as set forth under
the Internal Revenue Code section 501(c).
Focus of Webinar:
501(c)(3) charitable organizations that are required to file
annually Form 990, Form 990 EZ or Form 990 N.

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Size and Financial Scope
of the Nonprofit Sector,
1999-2009
Source: Katie L. Roeger, Amy
Blackwood, and Sarah L. Pettijohn,
2011, "The Nonprofit Sector in
Brief: Public Charities, Giving and
Volunteering, 2011." Urban
Institute, National Center for
Charitable Statistics, Core Files
(1999–2009); the Internal Revenue
Service Business Master Files,
Exempt Organizations (1999–2009);
Notes: Reporting public charities
include only organizations that
both reported (filed IRS Forms 990)
and were required to do so.
Organizations that had their tax
status revoked for failing to file a
financial return for three
consecutive years have been
removed from the 2009 nonprofit
total.

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Size and Financial Scope
of the Nonprofit Sector,
1999-2009
Source: Katie L. Roeger, Amy
Blackwood, and Sarah L.
Pettijohn, 2011, "The Nonprofit
Sector in Brief: Public Charities,
Giving and Volunteering, 2011."
Urban Institute, National Center
for Charitable Statistics, Core
Files (1999–2009); the Internal
Revenue Service Business Master
Files, Exempt Organizations
(1999–2009);
Notes: Reporting public charities
include only organizations that
both reported (filed IRS Forms
990) and were required to do so.
Organizations that had their tax
status revoked for failing to file a
financial return for three
consecutive years have been
removed from the 2009 nonprofit
total.
1999
2004 2009
% change 1999-
2009
% change 1999-
2009 (inflation
adjusted)
All nonprofits 1.2 million 1.39 million 1.43 million 19.1 ─
Reporting
nonprofits
425,503 533,119 628,700 47.8 ─
Revenues ($) 1.08 trillion 1.50 trillion 1.87 trillion 72.4 33.9
Expenses ($) 972 billion 1.37 trillion 1.89 trillion 94.1 50.7
Assets ($) 2.41 trillion 3.29 trillion 4.30 trillion 78.6 38.7
Public charities,
501(c)(3)
632,604 823,267 1,007,384 59.2 ─
Reporting
public charities
247,308 300,933 362,926 46.8 ─
Revenues ($) 800 billion 1.07 trillion 1.40 trillion 75 35.9
Expenses ($) 731 billion 998 billion 1.40 trillion 91.6 48.8
Assets ($) 1.47 trillion 1.89 trillion 2.53 trillion 71.8 33.4

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Revoked Tax Exempt Status
Source: Amy Blackwood
and Katie L.
Roeger, 2011, "Revoked:
A Snapshot of
Organizations that Lost
their Tax-Exempt
Status." Urban
Institute, National
Center for Charitable
Statistics, Master File
(2011)
Type of Organization
Number of
Revoked
Organizations
Percent of
Revoked
Organizations
All
nonprofits
Percentage
revoked by
type
Arts, culture, and
humanities
26,991 10 137,779 20
Education 26,870 10 225,119 12
Environment and animals 9,079 3 62,340 15
Health 20,135 7 111,254 18
Human services 87,167 31 444,296 20
International and foreign
affairs
3,617 1 21,999 16
Public and social benefit 78,665 28 483,166 16
Religion-related 16,930 6 241,360 7
Unknown 10,145 4 28,777 35
Total 279,599 100 1,756,090 16
Organizations that Lost their Tax-Exempt Status

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JEOPARDIZE TAX EXEMPTION
Brief Overview of Five Activities that May

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Organized for Exempt Purpose
Under Internal Revenue Code Section 501(c)(3), entities that are
“organized and operated exclusively” for religious, educational
or charitable purposes may obtain receive tax exempt status under
the condition that it does not engage in certain types of activities.

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Inurement
&
Private Benefit
Lobbying
Activity
Political
Campaign
Activity
Unrelated
Business
Income
Failure to
File
Most of the activities that jeopardize tax exemption are activities that
serve private or political interests.
Five Common Activities That Jeopardize Tax Exemption

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Inurement of Net Earnings versus Private Benefit
Inurement
Inurement generally is applied only to insiders
who have the ability to control and make
significant decisions regarding the organization.
No part of a tax-exempt organization’s
net earnings may inure to the benefit of an
insider.
An insider is a person who has a private interest
in the activities of the organization.
The determination is solely a factual case-by-
case determination.
Issue may arise in the case of executive
compensation.
Private Benefit
Emanates from the basic tenet of 501(c)(3) that
requires the organization to operate “exclusively”
for exempt purposes.
May apply to insiders or outsiders.
“Operational Test” and the “Primary Purpose Test”
to determine if the organization excessively engages
in a private interest.
The determination is solely a factual case-by-case
determination.
Where this issue may develop is in the case of
private/nonprofit partnerships.

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Private Benefit
OPERATIONAL TEST
The entity must show that it
engages primarily in activities
which accomplish one or more of
the exempt purposes expressed in
IRC Section 501(c)(3).
Under the operational test the
focus is on the entities activities.
PRIMARY PURPOSE TEST
Here the courts have looked at
the purpose of the activity and
whether such purpose fulfils a
charitable purpose versus a
private or commercial purpose.
There are different ways to
analyze the substantiality of a
private benefit such as
quantitatively where the amount
of the benefit is analyzed.

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Example of Primary Purpose Test
Rev. Rul 76-206, 1976-1 C.B. 154,

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Inurement of Net Earnings/Executive Compensation
Authorizing key employees, such as an Executive Director to receive
unreasonable compensation puts the nonprofit’s tax-exemption at risk.
What is reasonable compensation depends of the totality of the
circumstances.
Comparability data is one means of substantiating the reasonableness
of executive compensation.

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Example of Compensation Comparison
Comparing compensation of officers, directors and key employees
Small (< $200K) Medium (>$200k <
$1M)
Large (>$1M <$5M) X-Large (> $5M)
$44,435
$55,831
$92,853
$104,250
$56,870
$67,826
$106,750
$126,548
$69,250
$72,580
$156,561
$183,502
$72,200
$84,789
$186,510
$201,870
Annual Nonprofit Revenue
2014 Executive Director Salary Comparison
0-3 YRS
3-5 YRS
5-10 YRS
10+ YRS
Experience

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Political Campaign Activity
Political campaign activity is not the same as lobbying activity.
Tax exempt 501(c)(3)organizations that participate or intervene
in any political campaign on behalf of any candidate for public
office is subject to revocation of its tax exempt status.

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Unrelated Business Income
An organization may lose its tax exempt status if earns
excessive income from a regularly carried on trade or business
that is not substantially related to its tax exempt purpose.
Here again we go back to that operational test where we look
at the activities of the organization and determine if such
activities substantially relate to an exempt purpose.

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Is This Unrelated Business Income?
Three conditions must be met before the
tax exempt organization’s activity will be
construed as unrelated business activity.
 The activity must be a trade
or business;
 The trade or business must
be regularly carried on; and
 The trade or business must
substantially unrelated to
the entity’s tax exempt
purpose.

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Is This Unrelated Business Income?
If all three conditions are present, then
under IRC 513(a) (1) and Regs. 1.513-
(e)(1) we look to see if an exception
applies:
• Volunteer Labor
• Convenience Exception
• Donated Merchandise

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Example of Volunteer Labor Exception
Joseph Farms of Indiana v. Commissioner, 85 T.C. 9 (1985),

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IRS NONPROFIT REPORTING
Form 990 and Tax Compliance

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Form 990
Most 501(c)(3) tax exempt organizations must file an information
return called a Form 990.
Purpose of Form 990:
 promote public transparency
 tax compliance
Format of 990:
 various interview formats
 close ended yes or no questions
 open ended descriptive narratives

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Types of
Informational Returns • Return of Organization Exempt from
Income TaxFORM 990
• Short Form Return of Organization
Exempt from IncomeFORM 990-EZ
•Electronic Notice (e-Postcard)FORM 990-N
Most public charities file
annually one of these
informational returns.
Form 990 must be filed on or
before the 15th day of the 5th
month following the end of
the organization’s tax year.
Some tax exempt
organizations such as churches
and certain church-affiliated
organizations.

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Data Source
32%
60%
8%8%
Categories of Tax-Exempt
Entities
Other 501(c )(3) 501(c )(4)
Source: GAO analysis of IRS data as
of September 30, 2006.
Note: The 501(c)(3) organizations
are the public charities and
foundations; (501)(c)(4) are social
welfare organizations.

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Form 990 must be filed on or
before the 15th day of the 5th
month following the end of the
organization’s tax year.
Some tax exempt organizations
such as churches and certain
church-affiliated organizations.
Form 990 Filing Requirements
Gross Receipts and Asset
Thresholds
Form Type Required
Gross Receipts ≤ $50,000 990-N
Gross Receipts > $50,000 and <
$200,000 and
Total Assets < $500,000
990 - EZ
Gross Receipts ≥ $200,000 or
Total Assets > $500,000
990
Unrelated Trade or Business Income ≥
$1000
990 - T

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Penalty for Form 990 Noncompliance
In the event Form 990 or Form 990 –EZ:
A. Is not timely filed;
B. Shows incomplete information; or
C. Provides incorrect information
IRS may assess penalties on the organization of $20 per
day not to exceed the lessor of $10,000 or 5 percent of
the organizations gross receipts.
For larger organizations with over $1 million in gross
receipts, the IRS can fine the organization up to a
maximum of $50,000.

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Penalty for Form 990 Noncompliance
If an organization fails to file Form 990, Form 990-EZ or
Form 990-N for 3 consecutive years its tax exempt status
will automatically be revoked as of the filing due date of
the third return.
If an organization is suffers automatic revocation, it must
apply for reinstatement.

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Streamlined Retroactive Reinstatement Process
For Form 990 –N and 990-EZ Filers

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FORM 990 LINE ITEMS
Form 990 and Tax Compliance

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Review of the Following
Sections of Form 990
Most questions under Form 990
concern tax compliance under the
principal that funds should not be
transferred to those who control
the organization.
This principal is known as the
nondistribution constraint –
meaning that controlling persons
of the nonprofit organization are
constrained from distributing
funds to “insiders” in exchange for
special tax, legal and regulatory
treatment.
Part IV & Schedule A
• Self-Dealing Transactions
Form 990 Part V
• Compliance
Form 990 Part VI
• Governance
Form 990
Part VII
• Compensation

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Closer Look at Executive Compensation & Nonprofit Expenses
Financial Analysis

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QUESTIONS
It’s Time For

Staying on Target

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