Nonprofits Pay Income Taxes

It may come as a surprise to many, but nonprofits can have taxable income, known as Unrelated Business Taxable Income (UBTI).  Even if they get a tax exemption from the IRS.

If an organization has UBTI of $1,000, it must submit 990-T Unrelated Business. You can check out his form at the IRS website –https://www.irs.gov/pub/irs-pdf/f990t.pdf

The government defines taxable income as income not substantially related to the organization’s tax-exempt purposes or activities. The idea is to prevent nonprofit organizations from competing with for-profit firms unfairly. The tax due is known as Unrelated Business Income Tax (UBIT), and it conforms to the corporate tax rate. Often, an activity generates unrelated business income if it meets three requirements:

  1. It’s a trade or business
  2. It’s regularly carried on, and
  3. It’s not substantially related to furthering the exempt purpose of the organization.

For example, an organization runs a pizza parlor selling pizza to the public. The nonprofit’s mission and programs don’t relate to the parlor’s business. The nonprofit pays employees to run the pizza place. All this information points to the pizza parlor generating unrelated business income that’s taxable.

On the other hand, a humanitarian-service organization holds a bake sale. While the sale is unrelated to the mission, It’s likely to be tax-exempt if not “regularly carried on.” Nonprofit’s activities are considered regularly carried on if they show a frequency, continuity, similarity to comparable commercial activities of for-profit businesses.

Some unrelated business activities may not be taxed. For instance, if an organization sells donated items, or if volunteers perform all the labor involved in the business, proceeds are exempt from taxes.

Note that if the IRS notices too much UBTI, it may revoke the tax-exempt status, which can spell disaster for a nonprofit. To avoid this potential risk, organizations should consider the following:

  • Resources and volunteers must spend most of the time on the mission, not business activities
  • Most of the revenue must come from the public and mission-related programs. The percentage of business income should be minimal

 

Interested on CPE credits regarding nonprofits?  Online Practical CPE Courses

You can also check out my books:

Nonprofit Finance: A Practical Guide – Second Edition — First edition nominated for a  2016 McAdam Book Award

15 Quick Tips on Becoming a Great Consultant  — Free on Kindle Unlimited

 

 

Tax Forms Nonprofits Need

It may come as a shock that nonprofits may be tax-exempt, but they may need to file tax returns and even pay taxes on certain income, including those at local, state, and federal levels. If nonprofits fail to file the forms, they may lose their tax exemption,  be liable for penalties and interest, making tax compliance a priority to many organizations. This article focuses on federal and California tax forms and requirements.

Below are some tax issues and forms nonprofits should mind:

Sales Tax

States and local authorities may collect sales tax on fundraising efforts, including proceeds from auctioned items. Some states allow for exemptions if the nonprofit files an exemption form before the event.

In California, sales taxes are applied to certain auction items, and the nonprofit must remit the tax using the form BOE401a2. Depending on the case, you may need to file the taxes online and pay using a regular check, e-check or another method.

Payroll Taxes

Nonprofit organizations must follow the law when it comes to payroll taxes, including withholdings and paying their share of Social Security tax unless the nonprofit has its own approved retirement plan.

Nonprofits file the same payroll forms, as for-profit business do, such as the form941, Employer’s Quarterly Federal Tax Return, and form 940- Employer’s Annual Federal Unemployment Tax Return. Also, a nonprofit distributes tax forms W-2 to employees in the beginning of the following year with summaries of salaries and withholding.

Note that states have their own payroll taxes that nonprofit must comply with and pay. California has the form DE1NP Registration Form for Nonprofit Employers and DE-9 Quarterly Contribution Return and Report of Wages.

Annual Information Tax Returns

Except for religious organizations and a few others, nonprofits are required to file a form within the 990 tax series a few months after their year-end. Small organizations may file online the e-card 990-N, giving the IRS basic information, such as name and address of the nonprofit. Larger organizations file the forms 990 Return of Organization Exempt from Income Tax, or the 990-EZ, which are more detailed, requiring specific numbers for revenues and expenses along with information on programs and board of directors. If the nonprofit doesn’t file taxes for 3 years, its tax-exemption may be revoked, including smaller organizations.

In addition, states like California have their own reporting and paying system. In California, for instance, requires annual reporting – FTB 199N of smaller organizations, with larger ones filing longer, more detailed form 199.

Unrelated Business Income Tax

There are instances where nonprofit may compete unfairly with for-profit businesses, such as a nonprofit opening a restaurant with no connection to its mission. Many exceptions apply, but if the organization is deemed to have unrelated business income, it must file form 990-T with the IRS and pay the proper tax, also known as UBIT.

Note that California requires that nonprofits with taxable income to fill out the form 109 Exempt Organizations Business Income Tax Return.  Other states may have their own reporting and paying requirements.

>>Be sure to double check the requirements for these forms at least once a year, since things change often and you don’t want to be out of compliance. For instance, Obamacare has requirements for businesses, including nonprofits, to provide health insurance for employees if the organization has a certain number of employees.  It also may be possible for smaller nonprofits to get the Small Employer Tax Credit.  Since Obamacare may change in the future, keep an eye of this and other issues.

 

Check out the book “Nonprofit Finance: A Practical Guide- Second Edition” –– First edition Nominated for the 2016 McAdam Book Award

What you need to organize a nonprofit well – Article-Blog