Personal and business Tax
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Maintaining 501(c)(3) Status: Four Activities That Can Jeopardize Your Nonprofit’s Exemption

1. Private Benefit or Inurement

Private benefit occurs when an individual or organization receives a benefit from a Section 501(c)(3) organization. A tax-exempt organization that provides a substantial amount of private benefit may risk losing its tax-exempt status (this does not include paying reasonable salaries).

Inurement occurs when an “insider” (officer, director, or key employee) receives any of an organization’s net income or inappropriately uses its assets for personal gain. Any amount of inurement, no matter how small, can jeopardize an organization’s tax-exempt status.

Best practices:

  • Pay only reasonable compensation for services rendered

  • Document all compensation decisions

  • Avoid loans to officers or directors

  • Ensure all transactions with insiders are at arm’s length

  • Adopt and enforce a conflict of interest policy

2. Substantial Lobbying Activity

Lobbying is defined as “the attempt to influence legislation.” If a Section 501(c)(3) organization conducts substantial lobbying, it risks losing its tax-exempt status.

The IRS uses one of two methods to determine whether lobbying activities are substantial:

  • Substantial part test – Subjective test based on facts and circumstances, considering time and money spent

  • Expenditure test – Objective mathematical test applying a dollar limit based on total expenditures (organizations electing this test must file Form 5768)

Best practices:

  • Track all lobbying expenditures carefully

  • Educate staff and volunteers on what constitutes lobbying

  • Consider whether to make the 501(h) election (expenditure test)

3. Political Campaign Activity

Political campaign activity is directly or indirectly participating or intervening in any political campaign on behalf of or in opposition to any candidate for elective public office. For a 501(c)(3), violating the political campaign prohibition may result in revocation of tax-exempt status and imposition of certain excise taxes.

Prohibited activities include:

  • Endorsing or opposing candidates

  • Making contributions to political campaigns

  • Distributing candidate scorecards or voter guides that favor one candidate over another

  • Hosting candidate forums that favor one candidate

Best practices:

  • Maintain strict neutrality in all election-related activities

  • Avoid any statement that could be interpreted as endorsement or opposition

  • Ensure candidate forums include all qualified candidates and ask nonpartisan questions

4. Substantial Unrelated Business Activity

UBI (unrelated business income) is income that an exempt organization receives from conducting activities not related to its exempt purpose. Even if an organization uses the income from an unrelated activity to help pay for its exempt activities, that income is still UBI. For 501(c)(3)s, if the conduct of UBI-generating activities is substantial, the organization could jeopardize its tax-exempt status.

Best practices:

  • Monitor UBI levels and ensure they remain insubstantial relative to overall activities

  • File Form 990-T if UBI exceeds $1,000

  • Consider whether to establish a for-profit subsidiary for significant unrelated activities

Automatic Revocation

Failure to file Form 990 for three consecutive years results in automatic revocation of tax-exempt status. Organizations that lose their status must reapply for exemption and may face tax liabilities during the gap period.

At Nova Tax & Accounting Services , we provide Form 990 preparation and nonprofit compliance services to help organizations maintain their 501(c)(3) status. Schedule your free consultation to discuss your organization’s compliance needs.