How to Keep your Tax Exempt Status: Pt. 2

Part one of this article discussed the compensation and revenue related restrictions on nonprofits, and how that relates to the overall purpose of nonprofit organizations. Part two will discuss two additional regulations every nonprofit must comply with.

A nonprofit is an organization created to serve and benefit the public. It is not uncommon for a nonprofit to attempt to benefit the public by conducting activities that might fall into the realm of politics or lobbying. It is very important for your nonprofit to keep in mind that there are very strict regulations and penalties for nonprofits engaging in these types of activities. Before your nonprofit engages in any activities related to politics or legislation, the following regulations should be considered.

Political Participation Prohibition

The IRS strictly prohibits a nonprofit organization from directly or indirectly participating in an individual’s campaign to run for public office. This prohibition ranges from an organization’s support for presidential candidates to school board members to city supervisors. The IRS may revoke an organization’s tax-exempt status if it violates this prohibition and also impose excise taxes on the organization. The most common, problematic actions for nonprofits include when it donates to campaigns, or publicly supports or criticizes a particular candidate.

An organization may participate in non-partisan activities such as voter registration and voter education campaigns, as long as these activities do not favor a particular candidate. The IRS determines whether an organization participated in prohibited political activities based on the “facts and circumstances” test. This test consists of weighing the actions in question with the organization’s regular activities. Additionally, the IRS considers the political climate at the time of the actions in question. Thus, inviting a political figure to speak at an event sponsored by the nonprofit could be a violation if done during the height of a campaign season, and not be a violation if done during a year with no elections.

Before a nonprofit deals with any political figure, or gets involved with voter education or registration, it must carefully consider the current political climate, and whether the activity appears to support a political figure.

Limits on Lobbying

The IRS does not allow an organization to be tax-exempt if a substantial part of its activities constitutes lobbying, and the organization has not filed for a 501(h) election (read more about the 501(h) election here). Lobbying is an attempt to influence the legislative acts of Congress, or any similar state or local body, or to influence public referendums, initiatives, or other legislative rules. While a nonprofit may participate in a certain amount of lobbying, it must only be done to a degree deemed acceptable by the IRS.

The IRS uses the “substantial part” test to determine whether or not a nonprofit’s lobbying is acceptable. The “substantial part” is a term with no clear definition and depends largely on the surrounding facts and circumstances. Factors considered by the IRS are:

  • The amount of time, money and workforce devoted to lobbying.
  • The amount of promotion done for the lobbying effort.
  • The frequency with which the lobbying activity is engaged in.
  • The influence of the nonprofit’s lobbying efforts.

There are no clearly defined parameters for these factors. Some courts have used 16%-20% of a nonprofit’s total expenditures as a general line of demarcation for determining whether lobbying is substantial. However, this is not an official rule, and the IRS could find lobbying to be substantial with a much smaller percentage of total expenditures. As a general rule of thumb, a number of nonprofits aim to have less than 5% of the organizations total expenditures and workforce devoted to lobbying efforts. Alternatively, a nonprofit may consider filing for a 501(h) election in order for the IRS to determine the exact amount of time and money the organization may expend in its lobbying activities.

The penalties for surpassing the limits on lobbying can result in losing tax-exempt status. Given the uncertain nature of the rule, it is important for a nonprofit to be very careful when it engages in lobbying, and should ensure that the vast majority of time, money, and workforce serve the organization’s charitable purpose rather than influence legislation.

What Does All This Mean For Your Organization?

The most important point to consider when you create and manage your nonprofit is the organization’s charitable purpose because, after all, nonprofits exist to benefit the public in the manner articulated in the organization’s purpose. Before engaging in any form of political, lobbying, or voter education/registration activity, you should carefully weigh whether or not the activity is consistent with your charitable purpose. Furthermore, you should consider whether the activity creates any impression that your organization supports or criticizes a political candidate. If there is any doubt, consult with an attorney to prevent problems with the IRS.

Part one of this article outlined the regulations on compensation, private benefit, and unrelated business income tax. The IRS designed those regulations to ensure the nonprofit’s revenue does not benefit private individuals, and to ensure the nonprofit does not generate tax-exempt revenue from activities unrelated to the charitable purpose. Part two discussed the restrictions on political and lobbying activities. Ultimately, all of these rules restrict nonprofits to ensure they conduct activities consistent with their charitable purposes and to ensure they devote their time and money to benefit the public. When you create, and as you maintain a nonprofit, make all decisions with these points in mind.

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Photo Credit:  Phillip Harder