Nonprofit Law Made Easy

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By contrast, most charitable organizations are required—to be tax-exempt—to achieve recognition of exempt status. There are exceptions to this requirement, such as for churches, certain other religious organizations, and small organizations. Certain employee benefit funds are likewise required to obtain recognition of exempt status. Political organizations, while not required to secure recognition of exempt status, must to be exempt give notice of their formation to the IRS. The leadership of many types of tax-exempt organizations thus must decide whether to pursue recognition of exemption for the entity.

For some, the operative factor is the expense of the process. Another element of the decision may be aversion to interaction with the IRS—and to avoid it if it is not absolutely necessary. Or, the parties may be confident that the organization is eligible for exempt status, so that recognition of exemption is not needed.

The countervailing and often prevailing factor is the comfort of an IRS ruling: knowing that the agency is in agreement with the view that the organization is a tax-exempt entity. For the most part, the process of seeking recognition of taxexempt status from the IRS entails the filing of a formal application for that status. To state these requirements another way, the filing of the Form usually is mandatory, while the filing of the Form or or letter is voluntary. This involves a threshold notice rule.

This threshold notice rule is of two parts. One rule is that the notice as to tax-exempt status that is, the application must be given to the IRS within 15 months from the end of the month in which the organization was organized. The IRS, however, provided an automatic month period extension of time for this filing, thereby converting it to a month period. The application is formatted to reflect which of these two threshold periods is being used. The point is that a successful application, if filed within this month period, will be retroactive to the date of formation of the organization.

An organization is considered organized on the date it became an entity a charitable one. In determining the date on which a corporation is organized for purposes of this exemption recognition process, the IRS looks to the date the entity came into existence under the law of the state in which it was incorporated, which usually is the date its articles of incorporation were filed in the appropriate state office. This date is not the date the organizational meeting was held, bylaws adopted, or actual operations began. The IRS has general discretionary authority, on a showing of good cause, to grant a reasonable extension of time fixed by the tax regulations for making an election or application for relief in respect of the federal income tax law.

This discretionary authority may be exercised where the time for making the election or application is not expressly prescribed by statute, the request for the extension is filed with the IRS within a period the agency considers reasonable under the circumstances, and it is shown to the satisfaction of the IRS that granting the extension will not jeopardize the interests of the federal government. The IRS acknowledged that it can exercise this discretionary authority to extend the time for satisfaction of the threshold notice period requirement which is not fixed by statute. The IRS has outlined the information and representations that must be furnished and some factors that will be taken into consideration in determining whether an extension of this nature will be granted.

The application is formatted to accommodate this request.

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Thus, where a charitable organization timely files the application for recognition of tax exemption, and the determination letter or ruling ultimately is favorable, the ability to receive deductible charitable gifts is effective as of the date the organization was formed.

An organization that qualifies for tax exemption as a charitable organization but files for recognition of exemption after the applicable threshold notice period can be exempt as a social welfare organization for the period commencing on the date of its inception to the date tax exemption as a charitable entity becomes effective. Contributions to social welfare organizations, however, are rarely deductible as charitable gifts, so this approach is of little utility to charitable organizations that rely significantly on support in the form of contributions.

Inasmuch as these organizations are inherently exempt and need not file for recognition of exemption, they can file for recognition of exemption at any time. The determination letter generally will be silent as to the date of applicability of exemption because it is irrelevant. Once an organization no longer qualifies for this exception, it is required to file the application within 90 days after the close of the year in which its gross receipts exceeded the amounts permitted under the exception.

Thus, this notice period is used in this circumstance instead of the general threshold notice rule.

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An organization in this situation can, therefore, be tax-exempt as a charitable entity from its inception—no matter how many years have elapsed—as long as it files the application on a timely basis that is, under the day rule. This notice must be transmitted no later than 24 hours after the date on which the organization is established, for the exemption to be available from the formation date.

This notice must be submitted in writing and electronically. If this notice is provided after the hour period, the exemption is only prospective. This notice Form must contain the following: the name and address of the organization and its electronic mailing address; the purpose of the organization; the names and addresses of its officers, highly compensated employees, contact person, custodian of records, and members of its board of directors; the name and address of, and relationship to, any related entities; and such other information the IRS may require.

Any material change in the information provided in the initial notice must be reported to the IRS within 30 days of the change. The taxable income of the organization, in this circumstance, is computed by taking into account any exempt function income and any directly related deductions. The requirement also does not apply to an entity that is required to report to the Federal Election Commission under the Federal Election Campaign Act as a political committee. Further, the requirement is not applicable to any other type of tax-exempt organization that is nonetheless subject to the political campaign activities tax see Chapter An organization filing an application for recognition of exemption has the burden of proving that it satisfies all of the requirements of the particular tax exemption category.

The preparer of the application must make a judgment as to the extent of the contents of the document. It is a process not unlike the preparation of a prospectus for a business in conformity with securities law requirements. Every statement made in the application should be carefully considered and tested against the applicable law. The prime objectives must be completeness and accuracy: it is essential that all material facts be correctly and fully disclosed.

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  • Of course, the determination as to which facts are material and the marshaling of these facts requires judgment. Also, the manner in which the answers are phrased can be significant; in this regard, the exercise can be more art than science.

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    The preparer or reviewer of the application should be able to anticipate the concerns the contents of the application may cause the IRS and to see that the application is properly prepared, while simultaneously minimizing the likelihood of conflict with the agency. Organizations that are entitled to tax-exempt status have been denied recognition of exemption, or at least have caused the process of gaining the recognition to be more protracted, because of inartful phraseologies in the application that motivated the IRS to muster a case that the organization did not qualify for exemption.

    Consequently, the application for recognition of tax exemption should be regarded as an important legal document and constructed accordingly. The fact that the application is available for public inspection and dissemination see Chapter 6 only underscores the need for the thoughtful preparation of it. The application for recognition of exemption seems to be a document that tax-exempt organizations misplace more than may other.

    The organization should endeavor to maintain copies of it. An exempt organization is required to provide a copy of the application to a requestor if it had a copy of the document on or after July 15, Generally, others may rely on this determination letter or ruling as well. This is particularly important to donors and grantors such as private foundations to charitable organizations. Donors of large gifts want the protection of the ruling, to be assured that they are entitled to the maximum charitable contribution see Chapter 5.

    Private foundations want the comfort of reliance, so that they will not inadvertently make a grant that requires expenditure responsibility or is for noncharitable purposes.

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    • If that were to happen, however, another application might be required. Generally, the tax-exempt status of the predecessor entity will, in effect, be transmitted to the successor entity. If the predecessor organization is a publicly supported charity see Chapter 3 , the public support received by the predecessor can be used in measuring the public support of the successor entity. If an application for recognition of status as a charitable entity is filed, a specific question about successor organizations must be answered.

      This phraseology is from the tax regulations; the determination letter language adds sources of support to the list of changes involved.

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      The IRS must be notified of these material changes. This matter of materiality can affect the timing of the communication of the change to the IRS. A material change should be communicated to the IRS as soon as possible after the change is made or becomes effective. Thus, the issue is not whether a change should be communicated to the IRS, but when.

      For example, a change in the facts may entail a substantial expansion or revision of exempt function activities. Although all of these changes are to be reported as part of the filing of an annual information return unless previously reported , substantial changes should be communicated to the IRS when they occur.

      Occasionally, however, tax exemption can be achieved by means of the group exemption procedure.

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      An organization such as a chapter, local, post, or unit that is affiliated with and is subject to the general supervision or control of a central organization usually a state, regional, or national organization may be recognized as a tax-exempt organization solely by reason of its relationship with the parent organization. Tax-exempt status acquired in this manner is referred to as tax exemption on a group basis.

      The advantage of the group exemption is that each of the organizations covered by a group exemption determination is relieved from filing its own application for recognition of tax exemption. The procedures by which group exemption may be recognized by the IRS contemplate a functioning of the parent organization as, in effect, an agent of the IRS. This means that the parent organization must responsibly and independently evaluate the exempt status of the prospective group members from the standpoint of the organizational and operational tests applicable to them.

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      A parent organization is required to annually file with the IRS a list of its qualifying group members; this listing amounts to an attestation by the parent organization that the members of the group qualify as exempt organizations so that the IRS need not carry out an independent evaluation as to the exempt status of these organizations. Assuming that the general requirements for recognition of tax-exempt status are satisfied, a group exemption letter will be issued to a parent organization where these requirements as to affiliated organizations are met and each of the affiliated organizations has an organizing document although they do not have to be incorporated.

      Also, the exemption to be recognized must be under the general exemption rules. Private foundations see Chapter 3 may not be included in a group exemption arrangement, nor may an organization that is organized and operated in a foreign country. For example, with respect to this third requirement, a parent organization may be tax-exempt as a charitable entity with all of the affiliated organizations exempt as social welfare organizations. As to the sixth requirement, if one or more of the affiliates have not been organized within the month period, the group exemption determination will be issued only if all of the affiliates agree to be recognized as exempt from the date of the application rather than the date of their formation.

      Once a group exemption determination is issued, certain information must be submitted to the IRS annually by the parent organization at least 90 days before the close of its annual accounting period. This information must include notice as to any changes in the purposes, character, or method of operation of the subordinates. Also, this submission must include a list of any organizations that are no longer to be included in the group exemption and of other entities added to the group. Additional information is required.

      An affiliated organization may, rather than file a separate annual information return see Chapter 4 , file in combination with the parent organization. For this option to be available, however, each of the affiliates must be tax-exempt under the same federal tax law provision.