Compliance Guide for 501(c)(3) Public Charities

Compliance Guide for 501(c)(3) Public Charities

Compliance Guide for 501(c)(3) Public Charities


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Internal Revenue ServiceTax Exempt andGovernment EntitiesExempt Organizations<strong>Compliance</strong> <strong>Guide</strong> <strong>for</strong><strong>501</strong>(c)(3) <strong>Public</strong> <strong>Charities</strong>Covers:Activities that may jeopardizea charity's exempt statusFederal in<strong>for</strong>mation returns, taxreturns or notices that must be filedRecordkeeping—why, what, whenChanges to be reported to the IRSRequired public disclosuresResources <strong>for</strong> public charities

50What activities may jeopardize a public charity’s 1tax-exempt status?. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2 Private Benefit and Inurement. . . . . . . . . . . . . . . . . . . . . . . . . 2 Political Campaign Intervention . . . . . . . . . . . . . . . . . . . . . . . 3 Legislative Activities. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4 What federal in<strong>for</strong>mation returns, tax returns and notices must be filed? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5Form 990, Return of Organization Exempt From Income Tax and Form 990-EZ . . . . . . . . . . . . . . . . . . 6Form 990-N, Electronic Notice (e-Postcard) <strong>for</strong> Tax-Exempt Organizations not Required to File Form 990 or 990-EZ . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9Form 8734, Support Schedule <strong>for</strong> Advance Ruling Period . 10Form 990-T, Exempt Organizations Business Income Tax Return . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11 Employment Tax Returns . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13 Why keep records? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14Evaluate Charitable Programs. . . . . . . . . . . . . . . . . . . . . . . . 15 Monitor Budgetary Results . . . . . . . . . . . . . . . . . . . . . . . . . . 15 Prepare Financial Statements . . . . . . . . . . . . . . . . . . . . . . . . 16 Prepare Annual In<strong>for</strong>mation and Tax Returns . . . . . . . . . . . 16 Identify Sources of Receipts . . . . . . . . . . . . . . . . . . . . . . . . . 16 Substantiate Revenues, Expenses and Deductions <strong>for</strong> Unrelated Business Income Tax (UBIT) Purposes . . . 17 Comply with Grant-Making Procedures . . . . . . . . . . . . . . . . 17 Comply with Racial Nondiscrimination Requirements . . . . 17 What records should be kept?. . . . . . . . . . . . . . . . . . . . . . . . . 18 Accounting Periods and Methods. . . . . . . . . . . . . . . . . . . . . 18 Supporting Documents . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19 How long should records be kept?. . . . . . . . . . . . . . . . . . . . . . 22 Record Retention Periods . . . . . . . . . . . . . . . . . . . . . . . . . . . 22 How should changes be reported to the IRS?. . . . . . . . . . . . . 23 Reporting Changes on the Annual In<strong>for</strong>mation Return . . . . . . . . . . . . . . . . . . . . . . . . 23 Determination Letters and Private Letter Ruling Requests . . . . . . . . . . . . . . . . . . . . . 23 What disclosures are required?. . . . . . . . . . . . . . . . . . . . . . . . . 25 <strong>Public</strong> Inspection of Annual Returns and Exemption Applications. . . . . . . . . . . . . . . . . . . . . . . . . . . 25 Sale of Free Government In<strong>for</strong>mation . . . . . . . . . . . . . . . . . 26 Charitable Contributions—Substantiation and Disclosure . 26 How to get IRS assistance and in<strong>for</strong>mation . . . . . . . . . . . . . . 29 Specialized Assistance <strong>for</strong> Tax Exempt Organizations. . . . . 29 Tax <strong>Public</strong>ations <strong>for</strong> Exempt Organizations . . . . . . . . . . . . . 30 Forms <strong>for</strong> Exempt Organizations . . . . . . . . . . . . . . . . . . . . . 31 General IRS Assistance . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32

(c)(3) cFederal tax law provides tax benefits to nonprofitorganizations recognized as exempt from federalincome tax under section <strong>501</strong>(c)(3) of the InternalRevenue Code (Code). The Code requires thattax-exempt organizations must comply with federaltax law to maintain tax-exempt status and avoidpenalties.In <strong>Public</strong>ation 4221-PC, the IRS addresses activitiesthat could jeopardize a public charity's tax-exemptstatus. It identifies general compliance requirementson recordkeeping, reporting, and disclosure <strong>for</strong>exempt organizations (EO’s) described in section<strong>501</strong>(c)(3) of the Code that are classified as publiccharities. Content includes references to the statute,Treasury regulations, IRS publications and IRS <strong>for</strong>mswith instructions. <strong>Public</strong>ation 4221-PC is neither comprehensivenor intended to address every situation.To learn more about compliance rules and proceduresthat apply to public charities exempt fromfederal income tax under section <strong>501</strong>(c)(3), seeIRS <strong>Public</strong>ation 557, Tax-Exempt Status <strong>for</strong> YourOrganization, and the Life Cycle of a <strong>Public</strong> Charityon www.irs.gov/eo. Stay abreast of new EOin<strong>for</strong>mation, also on this Web site, by signing up<strong>for</strong> the EO Update, a free newsletter <strong>for</strong> tax-exemptorganizations and practitioners who representthem. For further assistance, consult a tax adviser.1

25What activities mayjeopardize a public charity’stax-exempt status?Once a public charity has completed the applicationprocess and has established that it is exemptunder section <strong>501</strong>(c)(3), the charity’s officers, directors,trustees and employees still have ongoingresponsibilities. They must ensure that the organizationmaintains its tax-exempt status and meetsits ongoing compliance responsibilities.A <strong>501</strong>(c)(3) public charity that does not restrict itsparticipation in certain activities and does not absolutelyrefrain from others, risks failing the operationaltest and jeopardizing its tax-exempt status.The following summarizes the limitations on theactivities of public charities.Private Benefit and InurementA public charity is prohibited from allowing morethan an insubstantial accrual of private benefit toindividuals or organizations. This restriction is toensure that a tax-exempt organization serves apublic interest, not a private one. If a private benefitis more than incidental, it could jeopardize theorganization’s tax-exempt status.No part of an organization’s net earnings may inureto the benefit of a private shareholder or individual.This means that an organization is prohibited fromallowing its income or assets to accrue to insiders.An example of prohibited inurement would includepayment of unreasonable compensation to aninsider. An insider is a person who has a personalor private interest in the activities of the organizationsuch as an officer, director, or a key employee. Any

amount of inurement may be grounds <strong>for</strong> loss oftax-exempt status.In cases where a public charity provides an excesseconomic benefit to a person who is in a positionto exercise substantial influence over its affairs,the organization has engaged in an excessbenefit transaction (see Reporting Excess BenefitTransactions on page 8) that subjects the personto possible excise taxes. Go to www.irs.gov/eo<strong>for</strong> details about inurement, private benefit, andexcess benefit transactions.Political Campaign Intervention<strong>Public</strong> charities are absolutely prohibited fromdirectly or indirectly participating in, or interveningin, any political campaign on behalf of (orin opposition to) a candidate <strong>for</strong> public office.Contributions to political campaign funds or publicstatements of position made on behalf of the organizationin favor of or in opposition to any candidate<strong>for</strong> public office clearly violate the prohibitionagainst political campaign activity. Violation of thisprohibition may result in revocation of tax-exemptstatus and/or imposition of certain excise taxes.Certain activities or expenditures may not be prohibiteddepending on the facts and circumstances.For example, the conduct of certain voter educationactivities (including the presentation of public<strong>for</strong>ums and the publication of voter educationguides) in a non-partisan manner do not constituteprohibited political campaign activity. Other activitiesintended to encourage people to participatein the electoral process, such as voter registrationand get-out-the-vote drives, would not constituteprohibited political campaign activity if conducted<strong>501</strong> (c)(3)- PC3

45in a non-partisan manner. On the other hand, votereducation or registration activities with evidenceof bias that would favor one candidate over another,oppose a candidate in some manner, or havethe effect of favoring a candidate or group ofcandidates, will constitute campaign intervention.The political campaign activity prohibition is notintended to restrict free expression on politicalmatters by leaders of public charities speaking<strong>for</strong> themselves as individuals. However, <strong>for</strong> theirorganizations to remain tax exempt under section<strong>501</strong>(c)(3), organization leaders cannot make partisancomments in official organization publicationsor at official functions and should clearly indicatethat their comments are personal and not intendedto represent the views of the organization. ReadRevenue Ruling 2007-41 at www.irs.gov/eo <strong>for</strong>additional in<strong>for</strong>mation on the prohibition againstpolitical campaign intervention.Legislative ActivitiesA public charity is not permitted to engage in substantiallegislative activity (commonly referred toas lobbying). An organization will be regarded asattempting to influence legislation: if it contacts,or urges the public to contact, members or employeesof a legislative body <strong>for</strong> purposes of proposing,supporting or opposing legislation; or if theorganization advocates the adoption or rejectionof legislation.If lobbying activities are substantial, a <strong>501</strong>(c)(3)organization may fail the operational test and risklosing its tax-exempt status and/or be liable <strong>for</strong>excise taxes. Substantiality is measured by eitherthe substantial part test or the expenditure test.

The substantial part test determines substantialityon the basis of all the pertinent facts and circumstancesin each case. The IRS considers a varietyof factors, including the time devoted and expendituresdevoted by the organization to the activity,when determining whether the lobbying activityis substantial.As an alternative, a public charity (other than achurch) may elect to use the expenditure test byfiling Form 5768, Election/Revocation of Electionby an Eligible Section <strong>501</strong>(c)(3) Organizations ToMake Expenditures To Influence Legislation. Underthe expenditure test, a public charity’s lobbyingactivity will not jeopardize its tax-exempt statusprovided its expenditures related to lobbying donot normally exceed a set amount specified in section4911 of the Code. This limit is generally basedon the size of the organization and may not exceed$1 million. Read the Life Cycle of a <strong>Public</strong> Charityat www.irs.gov/eo <strong>for</strong> additional in<strong>for</strong>mation aboutthe rules against substantial legislative activities.What federal in<strong>for</strong>mationreturns, tax returns and noticesmust be filed?While <strong>501</strong>(c)(3) public charities are exempt fromfederal income tax, most of these organizationshave in<strong>for</strong>mation reporting obligations under theCode to ensure that they continue to be recognizedas tax-exempt. In addition, they may also be liable<strong>for</strong> employment taxes, unrelated business incometax, excise taxes, and certain state and local taxes.<strong>501</strong>5(c)(3)- PC

65Form 990, Return of Organization Exemptfrom Income Tax and Form 990-EZ<strong>Public</strong> charities generally file Form 990, Returnof Organization Exempt from Income Tax, Form990-EZ, Short Form Return of Organization Exemptfrom Income Tax, or Form 990-N, Electronic Notice(e-Postcard) <strong>for</strong> Tax-Exempt Organizations notRequired To File Form 990 or 990-EZ.The type of Form or Notice required is generallydetermined by the public charity’s financial activity.An organization may file Form 990-EZ if its grossreceipts are normally more than $25,000 but lessthan $100,000, and its total assets are less than$250,000 at the end of the year. (The Form 990Instructions show how to compute an organization’s“normal” receipts.) If the organization’s grossreceipts are $100,000 or greater, the organizationgenerally must file Form 990. If the organization’sgross receipts are generally less than $25,000, theorganization must file the Form 990-N, but mayelect to file a complete Form 990 or Form 990-EZ.(See Form 990-N, Electronic Notice (e-Postcard) <strong>for</strong>Tax-Exempt Organizations not Required To File Form990 or 990-EZ on page 9.)Forms 990 and 990-EZ must be filed by the 15th dayof the fifth month after the end of the organization’sannual accounting period. The due date may beextended <strong>for</strong> three months, without showing cause,by filing Form 8868, Application <strong>for</strong> Extension ofTime To File an Exempt Organization Form, be<strong>for</strong>ethe due date. An additional three-month extensionmay be requested on Form 8868 if the organizationshows reasonable cause why the return cannot befiled by the extended due date.

Forms 990 and 990-EZ Filing Exceptions<strong>Public</strong> charities that are not required to fileForms 990 or 990-EZ include:■ churches and certain church-affiliatedorganizations,■ certain organizations affiliated withgovernmental units,■ organizations that file as part of a groupruling, and■ organizations whose annual gross receiptsare normally less than $25,000 (see Form 990-N,Electronic Notice (e-Postcard) <strong>for</strong> Tax-ExemptOrganizations not Required To File Form 990 or990-EZ on page 9).If a public charity is excepted from filing a Form 990or Form 990-EZ because gross receipts are belowthe $25,000 threshold, it is not required to file areturn even if the IRS sends it a Form 990 package.Should the public charity elect to file the Form 990or Form 990-EZ, it must complete the entire return;otherwise, it must file the Form 990-N.Special Requirements <strong>for</strong>Supporting Organizations<strong>Public</strong> charities that are supporting organizationsdescribed in section 509(a)(3) are generally requiredto file Form 990 or Form 990-EZ even if their grossreceipts are less than $25,000, effective <strong>for</strong> returnsfiled after August 17, 2006. Supporting organizationsof religious organizations need not file Form 990or Form 990-EZ if their gross receipts are normally$5,000 or less. Such organizations will, however, berequired to file the Form 990-N. Supporting organizationswill be required to indicate whether they area Type 1, Type 2, or Type 3 supporting organization,<strong>501</strong> (c)(3)- PC7

identify their supported organizations, and annuallycertify that they are not controlled by a disqualifiedperson. See the instructions <strong>for</strong> Schedule A(Form 990 or Form 990-EZ) and Notice 2006-109 todetermine an organization’s appropriate supportingorganization type <strong>for</strong> in<strong>for</strong>mation return purposes.Learn about filing and new requirements applicableto supporting organizations on the IRS Nonprofitsand <strong>Charities</strong> Web site at www.irs.gov/eo.Form 990 Schedules A and B<strong>Public</strong> charities that file Form 990 or Form 990-EZmust file Schedule A of that return. Schedule Areports in<strong>for</strong>mation about compensation of officers,directors, key employees, and independentcontractors; the basis <strong>for</strong> the organization’s publiccharity classification; lobbying expenditures; andcertain other activities, as noted on Schedule Ainstructions. Private schools must fill out a specialquestionnaire on Schedule A. Organizations that fileForm 990 or Form 990-EZ also must file Schedule Bif they report contributions over a specified amounton these annual returns. See the <strong>Guide</strong>lines <strong>for</strong>Meeting the Requirements <strong>for</strong> Schedule B in theinstructions <strong>for</strong> Form 990 and Form 990-EZ and theinstructions to Schedule B (Form 990, 990-EZ) <strong>for</strong>complete in<strong>for</strong>mation.Reporting Excess Benefit TransactionsIf a public charity believes it provided an unreasonablebenefit to a person who is in a position toexercise substantial influence over the organization’saffairs, it must report the transaction on Form990 or Form 990-EZ. Excess benefit transactions aregoverned by section 4958 of the Code. Additionalin<strong>for</strong>mation can be found in the Form 990 and Form990-EZ instructions.85

Form 990-N, Electronic Notice (e-Postcard)<strong>for</strong> Tax-Exempt Organizations not RequiredTo File Form 990 or 990-EZSection 6033(i) requires a public charity to file Form990-N, Electronic Notice (e-Postcard) <strong>for</strong> Tax-ExemptOrganizations not Required To File Form 990 or990-EZ, <strong>for</strong> tax periods beginning after December 31,2006, if that organization is not required to file Form990 (or Form 990-EZ), because the organization’sgross receipts are normally $25,000 or less.The Form 990-N is due by the 15th day of the fifthmonth after the close of your tax period. For example,if your organization’s tax period ends on December 31,2007, the Form 990-N is due May 15, 2008.An organization is required to provide the followingin<strong>for</strong>mation on Form 990-N.■ the organization’s name,■ any other names the organization uses,■ the organization’s address,■ the organization’s website address (if applicable),■ the organization’s taxpayer identificationnumber (TIN),■ name and address of a principal officer ofthe organization,■ the organization’s annual tax period, and■ a statement that the organization’s annualgross receipts are still normally $25,000 or less.Form 990-N also includes a check-box <strong>for</strong> theorganization to notify the IRS that it is terminating.Read Filing Penalties and Revocation of Tax-exemptStatus on page 10, <strong>for</strong> consequences <strong>for</strong> failure to filethis annual electronic notice and www.irs.gov/eo <strong>for</strong>in<strong>for</strong>mation about the Form 990-N.<strong>501</strong> (c)(3)- PC9

105e-filing Requirements<strong>Public</strong> charities with $10 million or more in totalassets and that also file at least 250 returns in a calendaryear, (including income, excise, employmenttax, and in<strong>for</strong>mation returns such as Forms W-2’sand 1099’s), are required to electronically file Form990. Other public charities are given a choice to fileForm 990 electronically. Click on the “IRS e-file”logo on the IRS Web site to get the facts on e-filing.FILING PENALTIES ANDREVOCATION OF TAX-EXEMPT STATUSIf a Form 990 or Form 990-EZ is not filed, the IRS mayassess penalties on the organization of $20 per day untilit is filed. This penalty also applies when the filer fails toinclude required in<strong>for</strong>mation or to show correct in<strong>for</strong>ma-in<strong>for</strong>mation.Thepenalty <strong>for</strong> failure to file a return or a completereturn may not exceed the lesser of $10,000 or 5 percentof the organization’s gross receipts. For an organizationthat has gross receipts of over $1 million <strong>for</strong> the year, thepenalty is $100 a day up to a maximum of $50,000. TheIRS may impose penalties on organization managers whodo not comply with a written demand that the in<strong>for</strong>ma-in<strong>for</strong>mationbe filed.Section 6033(j) of the Code provides that failure to fileForm 990, Form 990-EZ, or Form 990-N <strong>for</strong> 3 consecutiveyears results in revocation of tax-exempt status as of thefiling due date <strong>for</strong> the third return. An organization whoseexemption is revoked under this section must apply <strong>for</strong>reinstatement by filing a Form 1023 and paying a user fee,whether or not the organization was originally requiredto file <strong>for</strong> exemption. Reinstatement of exemption maybe retroactive if the organization shows that the failureto file was <strong>for</strong> reasonable cause. In<strong>for</strong>mation with respectto the implementation of Section 6033(i) is available atwww.irs.gov/eo.Form 8734, Support Schedule<strong>for</strong> Advance Ruling PeriodA newly <strong>for</strong>med exempt organization that cannotshow enough public support to qualify as a publiccharity, rather than a private foundation, when it

files its application <strong>for</strong> exemption, may request anadvance ruling of public charity status. Within 90days after the end of the advance ruling period,which usually lasts five tax years, the charity mustfile a Form 8734, Support Schedule <strong>for</strong> AdvancedRuling Period, showing its significant and diversifiedsources of public support. If the organizationdoes not provide the in<strong>for</strong>mation or the in<strong>for</strong>mationis not sufficient to demonstrate that the organizationis a public charity, the IRS will reclassify theorganization as a private foundation.<strong>Public</strong>ation 4220, Applying <strong>for</strong> <strong>501</strong>(c)(3) Tax-ExemptStatus, details the distinctions between privatefoundations and public charities.Form 990-T, Exempt OrganizationBusiness Income Tax ReturnEven if a public charity is not required to file aForm 990 or Form 990-EZ, it must file a Form 990-T,Exempt Organization Business Income Tax Return,if it has $1,000 or more of gross receipts from anunrelated trade or business during the year. Netincome from income-producing activities is taxableif the activities:■ constitute a trade or business,■ are regularly carried on, and■ are not substantially related to the organization’sexempt purpose.The public charity must pay quarterly estimated taxon unrelated business income if it expects its tax <strong>for</strong>the year to be $500 or more. Form 990-W, EstimatedTax on Unrelated Business Taxable Income <strong>for</strong> Tax-Exempt Organizations, is a worksheet to determinethe amount of estimated tax payments required.<strong>501</strong>11(c)(3)- PC

125FORM 990-T FILING PENALTIESAn organization may be subject to interest and penaltycharges if it files a late return, fails to pay tax when due,or fails to pay estimated tax, if required, even if it did notexpect its tax <strong>for</strong> the year to be $500 or more.Exceptions and Special RulesIncome from certain business activities, is exceptedfrom the definition of unrelated business income.Earnings from these sources are not subject to theunrelated business income tax. Exceptions generallyinclude business income from:■ activities, including fundraisers, that areconducted by volunteer workers, or wheredonated merchandise is sold;■ activities conducted <strong>for</strong> the convenience ofmembers, students, patients or employees;■ qualified conventions and trade shows;■ qualified sponsorship activities; and■ qualified bingo activities.Income from certain “passive” business activitiesare usually excluded from the calculation of unrelatedbusiness activity. Examples of this type ofincome include earnings from routine investmentssuch as certificates of deposit, savings accounts, orstock dividends, royalties, certain rents from realproperty, and certain gains or losses from the saleof property.Special rules apply to income derived from realestate or other investments purchased with borrowedfunds. Such income is called “debt-financed”income. Debt-financed income generally is subjectto the unrelated business income tax.

To learn about unrelated business income, get<strong>Public</strong>ation 598, Tax on Unrelated Business Incomeof Exempt Organizations, Form 990-T instructions,and Form 990-W instructions at www.irs.gov.Employment Tax ReturnsLike other employers, all public charities that paywages to employees must withhold, deposit, andpay employment tax, including federal incometax withholding and Social Security and Medicare(FICA) taxes. A public charity must withhold federalincome tax from employee wages and pay FICA oneach employee paid more than $100 in wages duringa calendar year. To know how much income taxto withhold, a public charity should have a FormW-4, Employee’s Withholding Allowance Certificate,on file <strong>for</strong> each employee. Employment taxes arereported on Form 941, Employer’s Quarterly FederalTax Return. Any person that fails to withhold andpay employment tax may be subject to penalties.<strong>Public</strong> charities do not pay federal unemployment(FUTA) tax.<strong>Public</strong> charities do not generally have to withholdor pay employment tax on payments to independentcontractors, but they may have in<strong>for</strong>mationreporting requirements. If a charity incorrectlyclassifies an employee as an independent contractor,it may be held liable <strong>for</strong> employment taxes <strong>for</strong>that worker.The requirements <strong>for</strong> withholding, depositing,reporting and paying employment taxes areexplained in <strong>Public</strong>ation 15, Circular E, Employer’sTax <strong>Guide</strong>. For help in determining if workersare employees or independent contractors, see<strong>Public</strong>ation 15-A, Employer’s Supplemental Tax<strong>501</strong>13(c)(3)- PC

145<strong>Guide</strong>. <strong>Public</strong>ation 557, Tax Exempt Status <strong>for</strong> YourOrganization, covers the employment tax responsibilitiesof public charities. These IRS publicationscan be downloaded at www.irs.gov.Employment Taxes and ChurchesAlthough churches are excepted from filing Form990, they do have employment tax responsibilities.Employees of churches or church-controlledorganizations are subject to income tax withholding,but may be exempt from FICA taxes. Like other<strong>501</strong>(c)(3) organizations, churches are not requiredto pay federal unemployment tax (FUTA). In addition,although ministers generally are common lawemployees, they are not treated as employees <strong>for</strong>employment tax purposes. These special employmenttax rules <strong>for</strong> members of the clergy andreligious workers are explained in <strong>Public</strong>ation 517,Social Security and Other In<strong>for</strong>mation <strong>for</strong> Membersof the Clergy and Religious Workers. Churchesalso should consult <strong>Public</strong>ations 15 and 15-A and<strong>Public</strong>ation 1828, Tax <strong>Guide</strong> <strong>for</strong> Churches andReligious Organizations.Why keep records?In general, a public charity must maintain booksand records to show that it complies with tax rules.The charity must be able to document the sourcesof receipts and expenditures reported on Form 990,Return of Organization Exempt From Income Tax or

Form 990-EZ, Short Form Return of OrganizationExempt From Income Tax, and Form 990-T, ExemptOrganization Business Income Tax Return. (SeePrepare Annual In<strong>for</strong>mation And Tax Returns onpage 16.)If an organization does not keep required records,it may not be able to show that it qualifies <strong>for</strong>tax-exempt status or is a public charity. Thus, theorganization may lose its tax-exempt status or beclassified as a private foundation rather than a publiccharity. In addition, a public charity may not beable to complete its returns accurately and may besubject to penalties described under Filing Penaltiesand Revocation of Tax-exempt Status on page 10.When good recordkeeping systems are in place, apublic charity can evaluate the success of its programs,monitor its budget, and prepare its financialstatements and returns.Evaluate Charitable ProgramsA charity can use records to evaluate the successof its charitable program and determine whetherthe organization is achieving desired results. Goodrecords can also help a charity identify problemareas and determine what changes it may need tomake to improve per<strong>for</strong>mance.Monitor Budgetary ResultsWithout proper financial records, it is difficult <strong>for</strong> acharity to assess whether the charity has been successfulin adhering to budgetary guidelines. Theability to monitor income and expenses and ensurethat the organization is operating within its budget iscrucial to successful stewardship of a public charity.<strong>501</strong>15(c)(3)- PC

165Prepare Financial StatementsIt is important to maintain sufficient financial in<strong>for</strong>mationin order to prepare accurate and timelyannual financial statements. A charity may needthese statements when it is working with banks,creditors, contributors, and funding organizations.Some states require charities to make audited financialstatements publicly available.Prepare AnnualIn<strong>for</strong>mation and Tax ReturnsRecords must support income, expenses, andcredits reported on Form 990 series and other taxreturns. Generally, these are the same records usedto monitor programs and prepare financial statements.Books and records of public charities mustbe available <strong>for</strong> inspection by the IRS. If the IRSexamines a public charity’s returns, the organizationmust have records to explain items reported.Having a complete set of records will speed up theexamination.Identify Sources of Receipts<strong>Public</strong> charities may receive money or propertyfrom many sources. With thorough recordkeeping,a charity can identify the sources of receipts.Organizations need this in<strong>for</strong>mation to separateprogram from non-program receipts, taxable fromnon-taxable income, and to complete Schedule A orB of Form 990 or Form 8734, Support Schedule <strong>for</strong>Advance Ruling Period, noted in What federal in<strong>for</strong>mationreturns, tax returns, and notices must befiled? on page 5. An organization that checks box 10,11, or 12, Part IV, of Schedule A, must keep recordsshowing how much support it receives from specificcontributors.

Substantiate Revenues, Expenses andDeductions <strong>for</strong> Unrelated BusinessIncome Tax (UBIT) PurposesA public charity may need records to substantiatethe amount, if any, of unrelated business taxableincome. An organization must appropriately trackthe financial revenues and expenses subject toUBIT reporting in order to prepare its unrelatedbusiness income tax return, Form 990-T, ExemptOrganization Income Tax Return.Comply with Grant-Making Procedures(Grants to Individuals)A public charity that makes grants to individualsmust keep adequate records and case histories todemonstrate that grants to individuals serve itscharitable purposes. Case histories on grants toindividuals should show names, addresses, purposesof grants, manner of selection, and relationship(if any) that the recipient has with any members,officers, trustees, or donors of the organization.Comply with Racial NondiscriminationRequirements (Private Schools)Private schools must keep records that show thatthey have complied with requirements relating toracial nondiscrimination, including annual publicationof a racially nondiscriminatory policy throughnewspaper or broadcast media to the general communityserved. For more in<strong>for</strong>mation, see Part V ofSchedule A (Form 990 or 990-EZ), SupplementaryIn<strong>for</strong>mation – Organizations Exempt Under Section<strong>501</strong>(c)(3).<strong>501</strong> (c)(3)- PC17

185What records should be kept?Except in a few cases, the law does not require aspecial kind of record. A public charity can chooseany recordkeeping system, suited to its activities,that clearly shows the organization’s income andexpenses. The types of activities a public charityconducts determines the type of records thatshould be kept <strong>for</strong> federal tax purposes. A publiccharity should set up a recordkeeping system usingan accounting method that is appropriate <strong>for</strong> propermonitoring and reporting of its financial activities<strong>for</strong> the tax year. If a public charity has more thanone program, it should ensure that the recordsappropriately identify the income and expenseitems that are attributable to each program.A recordkeeping system should generally include asummary of transactions. This summary is ordinarilywritten in the public charity’s books (<strong>for</strong> example,accounting journals and ledgers). The books mustshow gross receipts, purchases, expenses (otherthan purchases), employment taxes, and assets.For most small organizations, the checkbook mightbe the main source <strong>for</strong> entries in the books whilelarger organizations would need more sophisticatedledgers and records. A public charity must keepdocumentation that supports entries in the books.Accounting Periods and Methods<strong>Public</strong> charities must keep their financial recordsbased on an annual accounting period called atax year in order to comply with annual reportingrequirements.

Accounting Periods - A tax year is usually 12 consecutivemonths. There are two kinds of tax years.calendar tax yearfiscal tax yearThis is a period of 12 consecutivemonths beginning January 1 andending December 31.This is a period of 12 consecutivemonths ending on the last day ofany month except December.Accounting Method - An accounting method isa set of rules used to determine when and howincome and expenses are reported. A publiccharity chooses an accounting method when itfiles its first annual return. There are two basicaccounting methods:cash methodaccrual methodUnder the cash method, a publiccharity reports income in the taxyear received. It usually deductsexpenses in the year paid.Under an accrual method, a publiccharity generally records income inthe tax year earned, (i.e., in the taxyear in which a pledge is received,even though it may receive paymentin a later year.) It records expensesin the tax year incurred, whether ornot it pays the expenses that year.For more in<strong>for</strong>mation about accounting periods andmethods, see <strong>Public</strong>ation 538, Accounting Periodsand Methods, and the instructions to Form 990 andForm 990-EZ.Supporting DocumentsOrganization transactions such as contributions,purchases, sales, and payroll will generate supportingdocuments. These documents — grant applicationsand awards, sales slips, paid bills, invoices,receipts, deposit slips, and canceled checks —contain in<strong>for</strong>mation to be recorded in accountingrecords. It is important to keep these documents<strong>501</strong> (c)(3)- PC19

205because they support the entries in books and theentries on tax and in<strong>for</strong>mation returns. <strong>Public</strong> charitiesshould keep supporting documents organizedby year and type of receipt or expense. Also, keeprecords in a safe place.Records ManagementGROSS RECEIPTSGross receipts are the amounts received from allsources, including contributions. A public charity shouldkeep supporting documents that show the amountsand sources of its gross receipts. Documents that showgross receipts include: donor correspondence, pledgedocuments, cash register tapes, bank deposit slips,receipt books, invoices, credit card charge slips, and Forms 1099-MISC, Miscellaneous Income. PURCHASES, INCLUDINGACCOUNTING FOR INVENTORY Purchases are items bought, including any items resoldto customers. If an organization produces items, it mustaccount <strong>for</strong> any items resold to customers. Thus, <strong>for</strong>example, the organization must account <strong>for</strong> the cost ofall raw materials or parts purchased <strong>for</strong> manufacture intofinished products. Supporting documents should showthe amount paid, and that the amount was <strong>for</strong> purchases.Documents <strong>for</strong> purchases include: canceled checks,cash register tape receipts, credit card sales slips, andinvoices. These records will help a public charity determinethe value of its inventory at the end of the year.See <strong>Public</strong>ation 538, Accounting Periods and Methods,<strong>for</strong> general in<strong>for</strong>mation on methods <strong>for</strong> valuing inventory.deter-EXPENSESExpenses are the costs a public charity incurs (otherthan purchases) to carry on its program. Supportingdocuments should show the amount paid and thepurpose of the expense. Documents <strong>for</strong> expensesinclude: canceled checks, cash register tapes, contracts,account statements, credit card sales slips, invoices,and petty-cash slips <strong>for</strong> small cash payments.EMPLOYMENT TAXESOrganizations that have employees must keep recordsof compensation and specific employment tax records.See <strong>Public</strong>ation 15, Circular E, Employer’s Tax <strong>Guide</strong>,<strong>for</strong> details.

ASSETS & LIABILITIESAssets are the property, such as investments, buildingsand furniture, an organization owns and uses in itsactivities. Liabilities reflect the pecuniary obligations ofthe organization. A public charity must keep records toverify certain in<strong>for</strong>mation about its assets and liabilities.Records should show:- when and how the asset was acquired- whether any debt was used to acquire the asset- documents that support mortgages, notes, loans, orother <strong>for</strong>ms of debt- purchase price- cost of any improvements- deductions taken <strong>for</strong> depreciation, if any- deductions taken <strong>for</strong> casualty losses, if any, such aslosses resulting from fires or storms- how the asset was used- when and how the asset was disposed of- selling price- expenses of saleDocuments that may show the above in<strong>for</strong>mationinclude: purchase and sales invoices, real estate closingstatements, canceled checks, and financing documents.If a public charity does not have canceled checks, it maybe able to show payment with certain financial accountstatements prepared by financial institutions.Theseinclude account statements prepared <strong>for</strong> the financialinstitution by a third party. All in<strong>for</strong>mation, includingaccount statements must be highly legible. The followingdefines acceptable account statements.IF payment is by:checkelectronicfunds transfercredit cardTHEN statement must show:check number, amount, payee’sname, and date the check amountwas posted to the account by thefinancial institutionamount transferred, payee’s name,and date the transfer was postedto the account by the financialinstitutionamount charged, payee’s name,and transaction date2150(c1)(3)- PC

225How long shouldrecords be kept?<strong>Public</strong> charities must keep records <strong>for</strong> federal taxpurposes <strong>for</strong> as long as they may be needed to documentevidence of compliance with provisions of theCode. Generally, this means the organization mustkeep records that support an item of income or deductionon a return until the statute of limitations <strong>for</strong> thatreturn runs. The statute of limitations has run when theorganization can no longer amend its return and theIRS can no longer assess additional tax. Generally, thestatute of limitations runs three years after the date thereturn is due or filed, whichever is later. An organizationmay be required to retain records longer <strong>for</strong> otherlegal purposes, including state or local tax purposes.Record Retention PeriodsRecord retention periods vary depending on the typesof records and returns.Permanent Records – Some records should be keptpermanently. These include the application <strong>for</strong> recognitionof tax-exempt status, the determination letterrecognizing tax-exempt status, and organizing documents,such as articles of incorporation and by-laws,with amendments, as well as board minutes.Employment Tax Records – If an organizationhas employees, it must keep employment tax records<strong>for</strong> at least four years after the date thetax becomes due or is paid, whichever is later.Records <strong>for</strong> Non-Tax Purposes – When records are nolonger needed <strong>for</strong> tax purposes, an organization shouldkeep them until they are no longer needed <strong>for</strong>non-tax purposes. For example, a grantor, insurancecompany, creditor, or state agency may require thatrecords be kept longer than the IRS requires.

How should changesbe reported to the IRS?Reporting Changes on theAnnual In<strong>for</strong>mation ReturnA public charity that is required to file Form 990 orForm 990-EZ must report name, address, structuraland operational changes on its annual in<strong>for</strong>mationreturn. Regardless of whether a public charity files anannual in<strong>for</strong>mation return, it may also report thesechanges to the EO Determinations Office at the mailingaddress set out in How to get IRS assistance andin<strong>for</strong>mation at the end of this publication; however,such reporting does not relieve the organization fromreporting the changes on its annual in<strong>for</strong>mation return.TIP: Attach copies of any signed or state certifiedarticles of incorporation, or association, constitutionor trust instrument or other organization document,or the bylaws or other governing document showingchanges. If signed or state certified copies of agoverning document are not available, an authorizedofficer may certify that the governing document providedis a complete and accurate copy of the originaldocument.Determination Letters andPrivate Letter Ruling RequestsA public charity may request a copy of a lostexemption letter or an updated exemption letterthat reflects a name or address change from the EODeterminations office. A public charity that has had achange in its public charity or private foundation statusshould request a new determination letter fromthe EO Determinations office as well. See How to getIRS assistance and in<strong>for</strong>mation <strong>for</strong> the appropriateaddress <strong>for</strong> the EO Determinations office.<strong>501</strong> (c)(3)- PC23

245An organization may request a determination letterregarding the effect of certain changes on its taxexempt status or public charity status. For example,as noted above, a determination letter will be issuedto classify or reclassify an organization as a publiccharity or a private foundation. A public charity mayalso request a determination letter to approve thetreatment of a contribution as an unusual grant, or todetermine whether an organization is exempt fromfiling annual in<strong>for</strong>mation returns in certain situations.However, the IRS will not make any determinationregarding any completed transaction.If a public charity is unsure about whether a proposedchange in its purposes or activities is consistent withits status as an exempt organization or as a publiccharity, it may want to request a private letter ruling.The IRS issues private letter rulings on proposedtransactions and on completed transactions—if therequest is submitted be<strong>for</strong>e the return is filed <strong>for</strong> theyear in which the transaction was completed. The IRSgenerally does not issue rulings to public charities onany other completed transactions. The IRS will issueletter rulings to public charities on matters involvinga public charity’s exempt status, its public charity status,as well as other matters including issues undersections <strong>501</strong> through 514, 4911, 4912, 4955, 4958,6033, 6104, and 6115.Consult www.irs.gov/eo <strong>for</strong> the appropriate procedures<strong>for</strong> preparing and submitting a request <strong>for</strong> adetermination letter, private letter ruling, replacementexemption letter or a letter reflecting a newname and address. For general in<strong>for</strong>mation aboutreporting changes, you may contact EO customerservice at (877)829-5500.

What disclosures are required?There are a number of disclosure requirements <strong>for</strong>public charities. Detailed in<strong>for</strong>mation on federal taxlaw disclosure requirements <strong>for</strong> <strong>501</strong>(c)(3) tax-exemptorganizations can be found in <strong>Public</strong>ation 557, TaxExempt Status <strong>for</strong> Your Organization, on the IRS<strong>Charities</strong> and Nonprofits Web site at www.irs.gov/eo,and in the final regulations.<strong>Public</strong> Inspection of Annual Returnsand Exemption ApplicationsA public charity must make the following documentsavailable <strong>for</strong> public inspection and copying uponrequest and without charge (except <strong>for</strong> a reasonablecharge <strong>for</strong> copying). The IRS makes these documentsavailable <strong>for</strong> public inspection and copying.Exemption Application – A public charity must discloseits exemption application, Form 1023, Application <strong>for</strong>Recognition of Exemption Under Section <strong>501</strong>(c)(3) ofthe Internal Revenue Code, along with each of the followingdocuments:■ all documents submitted with Form 1023;■ all documents the IRS requires the organizationto submit in support of its application; and■ the exemption ruling letter issued by the IRSAnnual In<strong>for</strong>mation Return – A public charity mustdisclose its annual in<strong>for</strong>mation return (Form 990series) with schedules, attachments, and supportingdocuments filed with the IRS. However, the organizationdoes not have to disclose Schedule B of Form990 and does not need to identify its contributors.Certain in<strong>for</strong>mation may be withheld from publicinspection. Returns need to be available <strong>for</strong> disclosure<strong>for</strong> only three years after the due date or filing date ofthe return.<strong>501</strong> (c)(3)- PC25

265Form 990-T – For returns filed after August 17, 2006, apublic charity must make its Form 990-T available <strong>for</strong>public inspection. Go to www.irs.gov/eo <strong>for</strong> in<strong>for</strong>mationregarding how the returns are to be made public.NOTE: Form 990-T must be made available by theorganization but not by the IRS.A public charity may place reasonable restrictions onthe time, place, and manner of in-person inspectionand copying, and may charge a reasonable fee <strong>for</strong>providing copies. A tax-exempt organization does nothave to comply with individual requests <strong>for</strong> copies ifit makes the documents widely available. This can bedone by posting the documents on a readily accessibleWeb site. For details on disclosure rules and procedures<strong>for</strong> <strong>501</strong>(c)(3) organizations, see the Life Cycle ofa <strong>Public</strong> Charity and the instructions to Forms 990 and1023 at www.irs.gov/eo.Sale of Free Government In<strong>for</strong>mationIf a public charity offers to sell goods or services thatare available free from the federal government, theorganization must disclose that fact in a conspicuousand easily recognized <strong>for</strong>mat. An organization thatintentionally disregards this requirement is subjectto a penalty.Charitable Contributions –Substantiation And DisclosureA public charity should be aware of the substantiationand disclosure rules imposed on donors of charitablecontributions and the disclosure rules imposed on charitiesthat receive certain quid pro quo contributions.Recordkeeping RulesA donor cannot claim a tax deduction <strong>for</strong> any cash,check, or other monetary contribution made on or after

January 1, 2007, unless the donor maintains a recordof the contribution in the <strong>for</strong>m of either a bank record(such as a cancelled check) or a written communicationfrom the charity (such as a receipt or a letter) showingthe name of the charity, the date of the contribution,and the amount of the contribution.Substantiation RulesA donor cannot claim a tax deduction <strong>for</strong> any singlecontribution of $250 or more unless the donor obtainsa contemporaneous acknowledgment of the contributionfrom the recipient public charity. A public charitymay assist the donor by providing a timely writtenstatement including the name of the public charity, dateand amount of the contribution and description of anynon-cash contributions.In addition, the acknowledgment should indicatewhether any goods or services were provided in return<strong>for</strong> the contribution. If any goods or services wereprovided in return <strong>for</strong> a contribution, the organizationshould provide a good faith estimate of the value ofgoods or services provided in return <strong>for</strong> the contribution.The public charity may either provide separateacknowledgments <strong>for</strong> each single contribution of $250or more or one acknowledgment to substantiate severalsingle contributions of $250 or more. Separatecontributions are not aggregated <strong>for</strong> purposes of measuringthe $250 threshold.Disclosure Rules That Apply toQuid Pro Quo ContributionsContributions are deductible only to the extent thatthey are gifts and no consideration is received inreturn. Depending on the circumstances, ticket purchasesand similar payments made in conjunctionwith fundraising events may not qualify as charitable<strong>501</strong> (c)(3)- PC27

285contributions in full. A contribution made by a donor inexchange <strong>for</strong> goods or services is known as a quid proquo contribution. A donor may only take a charitablecontribution deduction to the extent that the contributionexceeds the fair market value of the goods and servicesthe donor receives in return <strong>for</strong> the contribution.If a public charity conducts fundraising events such asbenefit dinners, shows, and membership drives, wheresomething of value is given to those in attendance, itmust provide a written statement in<strong>for</strong>ming donors ofthe fair market value of the specific items or servicesit provided in exchange <strong>for</strong> contributions. Token itemsand services of intangible religious value need not betaken into account. A public charity should provide thewritten disclosure statement in advance of any event,determine the fair market value of any benefit received,and state this in<strong>for</strong>mation in fundraising materials suchas solicitations, tickets, and receipts. The disclosure statementshould be made, at the latest, at the time paymentis received. Subject to certain exceptions, the disclosureresponsibility applies to any fundraising circumstancewhere each complete payment, including the contributionportion, exceeds $75.Read <strong>Public</strong>ation 1771, Charitable Contributions—Substantiation and Disclosure Requirements, and<strong>Public</strong>ation 526, Charitable Contributions, <strong>for</strong> detailson the federal tax law <strong>for</strong> organizations such as publiccharities, including churches, that receive tax-deductiblecharitable contributions and <strong>for</strong> taxpayers who makecontributions.PENALTIESPenalties apply to organizations that do not comply withdisclosure requirements and to persons responsible <strong>for</strong>the failure to comply.

How to get IRS assistanceand in<strong>for</strong>mationThe IRS offers help, through assistors and withreading material that is accessible either online,via mail by telephone, and at IRS walk-in officesin many areas across the country. IRS <strong>for</strong>ms andpublications can be downloaded from the Internetand ordered by telephone.Specialized Assistance <strong>for</strong>Tax-exempt OrganizationsGet help with questions about applying <strong>for</strong> taxexemptstatus, annual filing requirements, andin<strong>for</strong>mation about exempt organizations throughthe IRS Exempt Organizations (EO).EO Web sitewww.irs.gov/eoHighlights:■ The Life Cycle of a <strong>Public</strong> Charity – describes thecompliance obligations of charities.■ Subscribe to the EO Update, an electronicnewsletter with in<strong>for</strong>mation <strong>for</strong> tax-exempt organizationsand tax practitioners who represent them.EO Web based trainingwww.stayexempt.orgWeb based training modules:■ Tax Exempt Status■ Unrelated Business income■ Employment Issues■ Form 990■ Required Disclosures<strong>501</strong> (c)(3)- PC29

EO Customer Service (877) 829-5500EO Determinations Office mailing addressInternal Revenue ServiceTE/GE, EO Determinations OfficeP.O. Box 2508Cincinnati, OH 45201Tax <strong>Public</strong>ations <strong>for</strong>Exempt OrganizationsGet publications via the Internet or by calling theIRS at (800) 829-3676.Pub 15, Circular E, Employer’s Tax <strong>Guide</strong>Pub 15-A, Employer’s Supplemental Tax <strong>Guide</strong>Pub 463, Travel, Entertainment, Gift, and Car ExpensesPub 517, Social Security and Other In<strong>for</strong>mation <strong>for</strong>Members of the Clergy and Religious WorkersPub 538, Accounting Periods and MethodsPub 557, Tax-Exempt Status <strong>for</strong> Your OrganizationPub 583, Starting a Business and Keeping RecordsPub 598, Tax on Unrelated Business Income ofExempt OrganizationsPub 1771, Charitable Contributions – Substantiationand Disclosure RequirementsPub 1828, Tax <strong>Guide</strong> <strong>for</strong> Churches and ReligiousOrganizationsPub 3833, Disaster Relief, Providing AssistanceThrough Charitable OrganizationsPub 4220, Applying <strong>for</strong> <strong>501</strong>(c)(3) Tax-Exempt Status30

Pub 4221-PF, <strong>Compliance</strong> <strong>Guide</strong> <strong>for</strong><strong>501</strong>(c)(3) Private FoundationsPub.4202, A Charity’s <strong>Guide</strong> to Vehicle DonationsPub.4203, A Donor’s <strong>Guide</strong> to Vehicle DonationsForms <strong>for</strong> Exempt OrganizationsGet <strong>for</strong>ms via the Internet or by calling the IRS at(800) 829-3676.Form 941, Employer’s Quarterly Federal Tax ReturnForm 990-EZ, Short Form Return of OrganizationExempt From Income TaxForm 990-PF, Return of Private Foundation orSection 4947(a)(1) Nonexempt Charitable TrustTreated as a Private FoundationSchedule A, of Form 990 or 990-EZ, SupplementaryIn<strong>for</strong>mation – Organization Exempt Under Section<strong>501</strong>(c)(3)Schedule B, of Form 990, 990-EZ, or 990-PF,Schedule of ContributorsForm 990-N, Electronic Notice (e-Postcard) For Tax-Exempt Organizations not Required To File Form990 or 990-EZForm 990-T, Exempt Organization Business IncomeTax ReturnForm 990-W, Estimated Tax on Unrelated BusinessTaxable Income <strong>for</strong> Exempt OrganizationsForm 1023, Application <strong>for</strong> Recognition ofExemption Under Section <strong>501</strong>(c)(3) of the InternalRevenue Code31

Form 1041, U.S. Income Tax Return <strong>for</strong> Estatesand TrustsForm 4720, Return of Certain Excise Taxes UnderChapters 41 and 42 of the Internal Revenue CodeForm 5578, Annual Certification of RacialNon-Discrimination <strong>for</strong> a Private School Exemptfrom Federal Income TaxForm 5768, Election/Revocation of Election byan Eligible Section <strong>501</strong>(c)(3) Organization To MakeExpenditures to Influence LegislationForm 8282, Donee In<strong>for</strong>mation ReturnForm 8283, Noncash Charitable ContributionsForm 8734, Support Schedule <strong>for</strong> AdvanceRuling PeriodForm 8868, Extension of Time To File an ExemptOrganization ReturnGeneral IRS AssistanceGet materials on the latest tax laws, assistance with<strong>for</strong>ms and publications, and filing in<strong>for</strong>mation.IRS Web sitewww.irs.govfederal tax questions (800) 829-1040employment tax questions (800) 829-4933order IRS <strong>for</strong>ms (800) 829-3676and publications32

Department of the TreasuryInternal Revenue Servicew w w . i r s . g o v<strong>Public</strong>ation 4221-PC(06-07)Catalog Number 49829R

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