Thousands of Nonprofit Groups Face New Tax Burden Starting Friday

(AP2005)

WASHINGTON -- Thousands of nonprofit businesses across the U.S. -- from homeowners associations to Masonic lodges to collectors' clubs -- could be stripped of their tax-exempt status on Friday because of filing rules that changed three years ago but are still catching filers unaware.

The Internal Revenue Service in June issued state-by-state lists of groups "at risk of automatic revocation" effective Oct. 15 because of failure to file proper tax forms.

Organizations affected will have to pay taxes on their income starting immediately after the deadline. To get their exemption reinstated, groups would have to reapply as if they were new businesses, IRS spokesman Jim Dupree said.

Before regulations changed in 2006, nonprofits making less than $25,000 annually didn't have to file annual tax returns. Congress, however, passed legislation mandating almost all tax-exempt organizations except churches file annual forms starting in 2008.

The law also requires a nonprofit failing to file the appropriate forms for three consecutive years to be stripped of its federal tax-exempt status, and 2010 is the first time companies could have three years of noncompliance, according to a statement from IRS Commissioner Doug Shulman.

Despite the IRS sending out more than 1 million pieces of informational mail, many groups apparently didn't get the memo regarding Form 990-N, nicknamed the "e-postcard" by the IRS.

A section of the IRS website for nonprofits states that it is not an annual return, just an "annual electronic notice." It requires small nonprofits to report contact information and confirm that it has not gone out of business.

More than 1.5 million nonprofits are registered in the United States, according to the National Center for Charitable Statistics. The IRS listed 316,359 of them -- almost 21 percent -- with imperiled status.

Tennessee groups are the most endangered in the nation -- with 31.9 percent of its 29,304 nonprofits on the IRS hit list. Iowa is the most compliant state, with 13.2 percent of its 27,936 nonprofits found to be filing improperly.

The IRS uses sliding deadlines because company fiscal years don't necessarily follow the calendar year, but when the first deadline passed May 17 and the first three-year rules would be enforced, the IRS "found that many organizations had still not filed a return," Shulman said.

The IRS elected to extend the filing deadline until Oct. 15, but Dupree said it won't be clear how many made the cut until early 2011. There will not be another extension, he said.

Because the organizations affected are all relatively small, their sudden transition to for-profit business isn't expected to make much of an impact on state revenues, Maryland comptroller spokeswoman Caron Brace said, adding that only "preliminary" research has been done on the issue. She said the freshly for-profit businesses would be taxed just like any other.

"It's a level playing field," Brace said. "If they don't have that status, everybody has to pay it."

The effect on organizations, however, is not that negligible, according to University of Maryland finance professor Elinda Kiss.

"It's certainly going to have an impact. If you are taxable, that reduces your profits," Kiss said. "You have less available to do whatever it is you do."

Among the nonprofits in danger of instantly becoming for-profit businesses are branches of the Fraternal Order of Police, judo club and chapters of the American Federation of Government Employees, to name a few.

A spokeswoman for the AFGE, which represents 600,000 federal and District employees, hadn't heard of the law change, but Kenneth Lyons, the president of AFGE local chapter 3721, said he was aware his chapter was on the list and that they would be submitting the proper paperwork early this week.

"It was just not realizing that certain laws applied and filing forms incorrectly," Lyons said. "The IRS could have been a little more clear on this."

The Grand Lodge of Maryland Controller Bettie Dunkin said the oversight is fixable, but it's not easy because the form is only available online and involves being redirected to other sites.

"It's an older membership, computers really aren't their thing," Dunkin said. "There's just a lot of confusion out there."

The list's numbers may be slightly inflated by groups that have gone out of business since 2007, but many are just not aware of the change.

"They can certainly apply to be reinstated," Dupree said. "But if they have to reapply they'll be treated like a new organization."

Groups applying for reinstatement would have to pay taxes on their income until they get re-approved, Dupree said, and they would have to notify donors that their contributions would no longer be tax deductible. He said it was hard to say how long it would take for individual applications to be processed, but that the reapplication fees would be $400 for organizations making less than $10,000 and $850 for others up to $25,000.

Organizations looking for more information on Form 990-N (or the e-postcard) can find it on the IRS website.

Capital News Service contributed to this report.