Colorado Bookkeeping | 5 Things to Know Before Filing Tax-Exempt Status

In Colorado, as a popular and reliable bookkeeping and accounting company, Net Prophet is often asked if there is a difference between a nonprofit organization and a tax-exempt organization. And we always answer, “There definitely is.” Yes, these two very different classifications do not equal the same entity, namely:

Nonprofit status means the organization is state-approved as an entity that exists with a specific purpose, cause or mission in mind as opposed to a for-profit company that exists mainly to make money or a profit.  

Tax-exempt: is a federal income tax classification, under the Internal Revenue Code, that allows a non-profit to claim exemption from paying corporate income taxes on any profits they raise if they are deemed appropriate to receive tax-exempt status.

The numbers and letters, “501(c)3” or “501(c)s,” are what the Internal Revenue Service uses to reference the code explaining the tax-exempt status.

In order for a nonprofit organization to receive their tax-exempt status, they must abide by certain requirements and apply with both the IRS and the state in which the nonprofit exists.

When it comes to filing for tax-exempt status, there are five things you should know:

  1. Creating a nonprofit organization and applying for a tax-exempt status can be a complex process that can take a lot of time. The IRS claims the average person spends 105 hours to complete the paperwork for the 1023 form alone, and then other federal forms and state filings must be completed.
  2. After the forms are filed, if the government finds any mistakes, delays can last up to a year, or more, which is why it is so important to use an account, like Net Prophet, that knows about proper bookkeeping practices for nonprofits. We have submitted countless tax-exempt forms and are familiar with the process.
  3. Typically, tax-exempt applications are processed as quickly as possible, unless an error is found. To make sure you have filed correctly, completely answer all the questions asked. The checklists found on the last pages of Form 1023 or Form 1024 will help you streamline the process. Even better and safer is to hire a professional. Sometimes the IRS will work with an organization to speed up the process, however, there must a good reason for doing so, like a pending grant that is dependent on the tax-exempt status.
  4. Just because an organization receives tax-exempt status, does not mean the classification remains in effect indefinitely. A variety of reporting documents must be submitted annually to keep your non-profit organization compliant. Each year, hundreds of thousands of organizations have their tax-exempt status revoked for failing to file the documents necessary to maintain the tax-exempt status. Once a status is revoked, the process to reverse this can be very time-consuming and involve a lot of money.
  5. To maintain tax-exempt status, a nonprofit must comply with all the rules that apply, including:
  1. Your organization must not be involved in any political activity.
  2. Remain consistent with the purpose of the exemption.
  3. Receive a mixture of funding from individual donors, corporations, and foundations.
  4. The IRS requires that at least 33 % of its funding come from a wide range of the general public.
  5. Make sure the organization is maintaining the original purpose of serving the community, and not being used to provide financial resources to a board member.

If you are interested in claiming tax-exempt status or need helping to maintain this status, call Net Prophet today at (303) 396-5707.