4 Steps To Help Clients Apply For Tax-Exempt Status

Tax professional in an office discussing non-profit status with a client.

So, your client is starting a nonprofit organization, maybe a local community orchestra, or perhaps a program that provides low-income children with school supplies. What your client may not know is that the mere act of establishing a nonprofit and applying for an EIN does not automatically grant the organization tax-exempt status. Ensure your nonprofit client enjoys all the benefits of tax-exempt status by making sure they check all four of these boxes: 

Incorporate the nonprofit  

Every nonprofit organization must incorporate in the entity’s home state in order to apply for tax-exempt status. Your client will likely need to create and file Articles of Incorporation in their state.  

Your client’s Articles of Incorporation define exactly what their nonprofit does and helps the IRS determine if the organization’s activities qualify as tax-exempt. The Small Business Administration offers a tool to search for incorporation requirements by state. 

Apply for an EIN 

Any nonprofit seeking tax-exempt status also needs to obtain an EIN, even if the organization has no employees. Formally known as an Employer Identification Number, your client’s EIN allows the U.S. government to identify a business or nonprofit entity for tax reporting purposes. To apply for an EIN, your client will need to file Form SS-4. Your client can also fill out and submit the form using the IRS EIN Assistant.  

File Form 1023 to apply for 501(c)(3) status 

Once your nonprofit client has an EIN, they must need to file Form 1023 in order to apply for tax-exempt status under Section 501(c)(3) of the Internal Revenue Code. The IRS uses Form 1023 to determine if an organization qualifies for exemption from federal income taxation. This tax form may take several days to complete and requires substantial documentation from the nonprofit, such as Articles of Incorporation and nonprofit bylaws.  

It can take up to a year for the IRS to review Form 1023 and determine if your client qualifies for tax exemption. Smaller nonprofits may be able to file Form 1023-EZ instead.  

Pay filing fees 

Applying for tax-exempt status will also require payment of filing fees to submit Form 1023 or Form 1023-EZ. Nonprofits filing Form 1023 must have to pay the IRS a filing fee of $600. Those filing the shorter Form 1023-EZ only have to pay $275.  

Tax-exempt status FAQs:  

What does tax-exempt status mean? 

Tax-exempt status is a designation the IRS gives certain organizations or individuals who are not required to pay federal income taxes, property taxes, and sales taxes. Most organizations with tax-exempt status are charitable, religious, or educational nonprofits. However, tax-exempt status only extends so far – a nonprofit with employees, for example, must still pay payroll taxes.  

Who qualifies for tax-exempt status? 

Organizations involved in activities for public or community benefit rather than making a profit will generally qualify for tax exemption. Examples of organizations that may qualify for tax exemption include nonprofits like social welfare organizations or charitable entities; churches and religious groups; civic organizations; and secondary schools and colleges.  

What are the benefits of tax-exempt status? 

The benefits of tax-exempt status are substantial and well worth the time and money spent to apply: 

  • Exemption from federal and state income taxes 
  • Ability to accept tax-deductible donations 
  • Potential for sales and property tax exemptions at the state and local levels 
  • U.S. Postal Service discounts 
  • Access to exclusive grant opportunities and public funds earmarked for 501(c)(3) organizations 

With so many money-saving benefits to gaining tax-exempt status, it’s critical for nonprofits to take the time to collect requisite documentation to ensure a successful application for that 501(c)(3) designation. TaxSlayer Pro provides you with resources to help you support your clients as they navigate applying for tax-exempt status and other key aspects of the Internal Revenue Code.