Preparing to file for 501(c)(3) status? Achieving it allows for a federal tax exemption, but requires following a detailed application process.
According to the IRS 2021 Data Book, the agency collected more than $4.1 trillion in gross taxes during the calendar year. Additionally, the federal government issued over $1.1 trillion in refunds.
Corporate entities are required by law to pay taxes yearly on accumulated income. However, 501(c)(3) organizations receive a special exception based on a few key criteria.
Are you planning on forming a 501(c)(3)?
To assist you in making sure the 501(c)(3) application process runs smoothly for your organization, we’ve created this informative guide that includes supportive material and resources to help point you in the right direction. In this guide you’ll learn about:
- The 501(c)(3) nonprofit application process
- The difference between 501(c)(3) and 501(c)(4) status
- The 501(c)(3) rules and exemptions
- The key differences between a 501(c)(3) vs. a 501(c)(4)
- How the right board management software can assist you in getting organized and creating a simplified path to success
What is a 501(c)(3)?
A 501(c)(3) is one of 30 types of nonprofits, which are all regulated by the U.S. Treasury Department. This classification holds one key feature that the rest do not: Achieving 501(c)(3) status allows for charitable contributions to be tax-deductible.
Using that selling point to attract donations is one key reason why so many leadership and board members seek eligibility under the 501(c)(3) section of the Internal Revenue Code (IRC). Many grants are also only available to 501(c)(3) nonprofits.
There are 3 main types of 501(c)(3) federal tax-exempt organizations:
- Charitable Organizations must receive at least one-third of their contributions from the public, including individuals, corporations, and other nonprofits.
- Private Foundations receive the majority of their revenue from a few donors and have stricter tax-deductible criteria for donations.
- Churches and religious organizations have their own set of favorable tax rules and special responsibilities in order to maintain their status. These can be found in the IRS 501(c)(3) Tax Guide for Churches and Religious Organizations.
Many states also give favorable tax-exempt status to 501(c)(3) nonprofits.
How to Start a 501(c)(3) Nonprofit
The application process for a 501(c)(3) Nonprofit officially begins with filing either IRS Form 1023 or Form 1023-EZ. (You can complete the Form 1023-EZ Eligibility Worksheet in the Instructions for Form 1023-EZ to find out if you qualify to use this more streamlined version.) If you are having a third party fill out your paperwork, you’ll also need Form 2848 to authorize that person to file as your representative.
Before you begin the 1023 application, there are some steps you should take in order to make the process flow smoothly:
- Conduct a needs assessment: Collect the quantitative and qualitative data that shows how your future nonprofit fulfills a need in your community. Compare your vision against existing charitable or social organizations to find your niche, the region(s) you’ll serve, any collaborative partnerships, and your mission statement.
- Create bylaws: Certain bylaws like a conflict of interest (COI) policy are required for 501(c)(3) approval, and having them in place helps speed up the process. They include your nonprofit’s membership; legal, committee, and board regulations; recordkeeping standards; safety protocols; and operations structure.
- Write articles of incorporation: This ensures you have the basic nonprofit structure in place when you apply for state incorporation, including its name, registering agent (you or someone starting the nonprofit with you), purpose, board members, employees, voting structure, and geographic area of operations. Incorporation secures your name and limits your organization’s liability.
- Register with your state: File your articles of incorporation, and fulfill other incorporation requirements, which vary by state.
- Obtain EIN: Your state may include obtaining a federal Employee Identification Number as part of its incorporation application, which you’ll then use on IRS Form 1023 or 1023-EZ. Depending on the state you live in, you may need to file federal Form SS-4 yourself to obtain the EIN.
Next, follow the instructions for filing Form 1023:
- Form 1023: The user fee is $600, and this form is approximately 40 pages long. It typically takes between three to six months to process.
- Form 1023-EZ: The user fee is $275, and this form is approximately three pages long. It takes two to four weeks to process, on average. If you have less than $250,000 in assets and will bring in less than $50,000 in donations (annual gross receipts) for the next three years, we recommend this easier form.
You can find out more about which form is right for you here.
501(c)(3) Application Process
Note: All linked forms and instructions are for the year 2021. If you need a different year, you can search here.
While you don’t have to pay taxes on a 501(c)(3) nonprofit, 501(c)(3) reporting requirements include filing an annual federal tax return. This allows the IRS to properly scrutinize your organization for adherence to 501(c)(3) rules, in particular, how much of your revenue is put toward your mission.
Form 990 should be filed when your nonprofit’s annual gross receipts are $200,000 or more, and/or when its total assets are $500,000 or more. The 2021 instructions for filing Form 990 can be found here.
Form 990-EZ is the short-form version of Form 990 and is accepted if your nonprofit’s annual gross receipts are less than $200,000 per year. In addition, its total assets need to be less than $500,000. The 2021 instructions for filing Form 990-EZ can be found here.
Form 990-N can be filed when your annual gross receipts are $50,000 or less. It is the online electric (e-file) option, also known as the “e-postcard.” You must wait until January to file, and can opt to use Form 990 or Form 990-EZ instead. The complete 2021 Form 990-N user guide can be found here.
Note: Private foundations should file Form 990-PF.
501(c)(3) Exemption Requirements
There are several key 501(c)(3) rules that govern nonprofit compliance, and they are known as exemption requirements:
- 501(c)(3) political rules put strict limits on lobbying and campaign participation.
- Nonprofit assets must only be used to benefit the approved charitable mission.
- Directors, board members, employees, and volunteers are prohibited from benefiting “unfairly” from the nonprofit (known as inurement). This includes no compensation above fair market value or using the nonprofit’s assets for personal use.
- A nonprofit must not operate outside its approved exempt mission, fail to file tax returns, or participate in activities that break public policy.
- 501(c)(3) donation rules are governed by IRS code:
- sections 509(a)(1) and 170(b)(1)(A)(vi). This exemption test states that one-third of support must come from contributions from the general public. If using the Facts and Circumstances Test on Form 990, Schedule A, at least 10% of support must come from contributions from the general public OR
- section 509(a)(2). This exemption test states that no more than one-third of financial support comes from gross investment income and unrelated business income that’s taxable, and over one-third of support must come from contributions from the general public.
The 501(c)(3) donation rules can be fairly complex, and you can learn more about the details here, including exemption exceptions for government support and grants. Check out our list of Best Technology Grants for Nonprofits to find the resources needed to make the biggest impact with your new nonprofit now and into the future.
501(c)(3) vs. 501(c)(4)
501(c)(3) exempt purposes include charitable, religious, educational, scientific, literary, testing for public safety, fostering national or international amateur sports competition, and preventing cruelty to children or animals. They are limited in their ability to lobby and prohibited from making campaign contributions and promoting or raising funds for particular candidates.
There are two ways to ensure compliance with the 501(c)(3) lobbying rules:
- The “Expenditures Test” applies if you’ve submitted IRS Form 5768.
- The “Substantial Part Test” applies if you haven’t submitted Form 5768, meaning you’ll follow the lobbying rules laid out in this test.
A 501(c)(4) nonprofit, on the other hand, serves the community through civic and social improvement, and therefore can engage in lobbying to meet those goals. However, charitable contributions to a 501(c)(4) are generally not tax-deductible as they are with a 501(c)(3).
OnBoard Powers 501(c)(3) Nonprofits
Nonprofits were the largest sector of organizations surveyed in our OnBoard 2022 Board Effectiveness Survey. The results? Survey participants said using board meeting software made them more effective, collaborative, and confident in their communication security. Here’s why:
- The organization inherent in a single platform allows for curated material to be easily accessed and reviewed beforehand, freeing up time during meetings for strategic planning and analysis.
- The greater confidence in the security of documents increases collaboration while decreasing time spent on security checks and balances since they are built into the platform.
- The single platform elevates efficiency by cutting out certain administrative tasks, such as confirming email addresses and emailing out documents.
- The intuitive analytics make benchmark and data point capture easier, which helps to increase organizational success.
Make-A-Wish® Alabama, for example, utilized OnBoard to increase its organization’s overall effectiveness. Features such as book builder and integrated voting freed up several hours per week so busy staff members had more time for building connections in the community. This improved efficiency translated into an increase in the number of wishes granted to critically ill children.
Intuitive analytics, skill tracking, time-saving features like book builder and built-in voting functionality, and optimized board work combine to make OnBoard the most intelligent solution for your leadership board. With its numerous smart features, members can quickly and seamlessly collaborate, plan, and execute the logistics for your 501(c)(3) nonprofit.
Schedule a demo today to find out why more than 3,000 companies and 100,000 subscribers worldwide use our empowering and effective board management platform to help drive their boards’ success forward.
About The Author
- Jillian Walker is a customer success manager who specializes in helping nonprofit organizations get the most from their board meetings. She's also the founder of the Indianapolis-based non-profit TraceIndy, which is dedicated to connecting professional women across communities
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