Are nonprofits tax exempt? Not automatically. Forming a nonprofit under state law creates a legal entity, but it does not, by itself, remove any federal tax obligation. To stop owing federal income tax on mission-related revenue, an organization has to apply to the IRS, qualify under a specific section of the tax code, and keep meeting the rules year after year. Even after approval, several categories of tax still apply.
What Tax-Exempt Status Actually Covers
Federal tax-exempt status means an organization does not pay federal income tax on money it receives to carry out its mission: donations, grants, program fees, and similar revenue. It does not mean the organization is free from every tax. Payroll taxes, unrelated business income tax, and various state and local taxes can still apply, and the organization must continue filing informational returns with the IRS each year.
The tax code recognizes more than two dozen types of exempt organizations, including social welfare organizations under 501(c)(4), business leagues under 501(c)(6), and social clubs under 501(c)(7).1Internal Revenue Service. Exempt Organization Types The most common category is 501(c)(3), which covers groups organized for charitable, religious, educational, scientific, or literary purposes. It is also the only category that makes donations tax-deductible for the people giving them, which is why the requirements below focus on it.
What It Takes to Qualify as a 501(c)(3)
An organization must pass two IRS tests: an organizational test and an operational test.
The Organizational Test
Your founding documents (articles of incorporation, a trust instrument, or articles of association) must limit the organization’s purposes to exempt activities such as charitable, religious, educational, scientific, or literary work. The documents cannot authorize non-exempt activities as anything more than an insubstantial part of what the organization does.2eCFR. 26 CFR 1.501(c)(3)-1 If the stated purposes are broader than what Section 501(c)(3) allows, the IRS will deny the application regardless of how the organization actually operates.
The Operational Test
The organization must actually spend its time and resources on its stated exempt purpose. Programs that primarily benefit private individuals or insiders rather than the public disqualify the organization. No part of the organization’s net earnings can flow to private shareholders or individuals, a rule the IRS calls the private inurement prohibition.3Internal Revenue Service. Exemption Requirements – 501(c)(3) Organizations Violating either the operational test or the inurement rule can cost the organization its status and trigger back taxes on income previously received tax-free.
Limits on Lobbying and Political Activity
A 501(c)(3) faces an absolute ban on participating in political campaigns. It cannot support or oppose any candidate for public office. It also cannot devote a substantial part of its activities to lobbying, meaning efforts to influence specific legislation.3Internal Revenue Service. Exemption Requirements – 501(c)(3) Organizations Most organizations can elect the “expenditure test” by filing Form 5768, which replaces the vague substantial-part standard with dollar caps tied to exempt-purpose spending, up to an absolute ceiling of $1,000,000 in lobbying expenditures. Exceeding the limit triggers an excise tax of 25 percent of the excess.4Internal Revenue Service. Measuring Lobbying Activity: Expenditure Test Churches and private foundations cannot make this election.
Public Charity or Private Foundation
Every 501(c)(3) is classified as either a public charity or a private foundation. Most are public charities, meaning they draw support from a broad base such as government grants, public donations, or revenue tied to their exempt purpose. The IRS generally looks for at least one-third of an organization’s support to come from public sources, though organizations receiving between 10 percent and one-third can still qualify under a facts-and-circumstances test.5Internal Revenue Service. Facts and Circumstances Public Support Test Organizations that do not meet the tests default to private foundation status, which carries a 1.39 percent annual excise tax on net investment income and detailed rules on self-dealing, minimum distributions, and business holdings.6Office of the Law Revision Counsel. 26 USC 4940
How to Apply
Before filing for exemption, the organization needs an Employer Identification Number (EIN). Do not request one until the organization is legally formed under state law, because the IRS starts the clock on annual filing requirements as soon as the EIN is issued.7Internal Revenue Service. Employer Identification Number
Smaller organizations may qualify for the streamlined Form 1023-EZ if they meet three conditions: gross receipts of $50,000 or less in each of the past three years, projected gross receipts of $50,000 or less in each of the next three years, and total assets under $250,000.8Internal Revenue Service. Instructions for Form 1023-EZ Organizations that exceed any threshold, or have more complex structures, file the full Form 1023, which requires detailed narratives of activities and three years of financial statements or projections.
Both forms are filed electronically through Pay.gov.9Internal Revenue Service. Applying for Tax Exempt Status The non-refundable user fee is $275 for Form 1023-EZ and $600 for Form 1023.10Internal Revenue Service. Form 1023 and 1023-EZ User Fee Streamlined applications are typically processed within a few weeks; full applications can take several months. If the IRS approves the application, it issues a determination letter, the official document confirming tax-exempt status.11Internal Revenue Service. Exempt Organizations Rulings and Determinations Letters Keep it permanently. Donors, grant-makers, and state agencies will ask for it.
What It Takes to Stay Exempt
Tax-exempt status is not a one-time approval. The organization must file an annual return from the Form 990 series to keep it. Which form depends on size:12Internal Revenue Service. Form 990 Series
- Form 990-N (e-Postcard) for organizations with annual gross receipts of $50,000 or less.
- Form 990-EZ for organizations with gross receipts under $200,000 and total assets under $500,000.
- Form 990 for organizations exceeding either of the 990-EZ thresholds.
The return is due by the 15th day of the fifth month after the fiscal year ends, which is May 15 for a calendar-year organization.13Internal Revenue Service. Exempt Organization Annual Filing Requirements Overview Late filing without reasonable cause triggers a penalty of $25 per day, capped at the lesser of $13,000 or 5 percent of gross receipts. Organizations with gross receipts above $1,309,500 face $130 per day, capped at $65,000 per return.14Internal Revenue Service. 2025 Instructions for Form 990
Miss three consecutive years and the IRS automatically revokes exempt status. No warning, no hearing.13Internal Revenue Service. Exempt Organization Annual Filing Requirements Overview The organization then owes income tax on revenue received after the revocation date, and reinstatement requires a new application.
Taxes Nonprofits Still Owe
Unrelated Business Income Tax
If an organization regularly earns money from a business activity that is not substantially related to its exempt mission, that income is subject to unrelated business income tax, or UBIT.15Office of the Law Revision Counsel. 26 USC 513 The tax exists to prevent exempt organizations from gaining a competitive advantage over for-profit businesses. An educational institution that rents its parking lot to a commercial operator for year-round public use, for example, would likely owe tax on that rental income. An organization with $1,000 or more in gross income from an unrelated business must file Form 990-T.16Internal Revenue Service. 2025 Instructions for Form 990-T
Three important exceptions exist:15Office of the Law Revision Counsel. 26 USC 513 activities where substantially all the work is done by unpaid volunteers (a volunteer bake sale, for instance), activities run primarily for the convenience of the organization’s members, students, patients, or employees (a campus bookstore or hospital cafeteria), and the sale of donated merchandise, as many thrift stores do.
Payroll Taxes
Tax-exempt status does not relieve an organization of its obligations as an employer. Nonprofits with employees must withhold federal income tax from wages just like any other employer.17Internal Revenue Service. Employer’s Supplemental Tax Guide (2026) A narrow exception applies to ministers, whose earnings are not subject to mandatory income tax withholding. Most nonprofit employees are also subject to Social Security and Medicare (FICA) taxes: 6.2 percent for Social Security on earnings up to $184,500 in 2026, and 1.45 percent for Medicare on all earnings, with the organization paying a matching share.18Social Security Administration. Contribution and Benefit Base One break: 501(c)(3) organizations are exempt from Federal Unemployment Tax (FUTA), which for-profit employers normally owe.19Internal Revenue Service. Section 501(c)(3) FUTA Exemption
State and Local Taxes
Federal exemption does not automatically extend to state and local taxes. Most states require a separate application for state income tax exemption, and many issue their own sales and use tax certificates that must be periodically renewed. Some states recognize the federal exemption automatically; others run an independent review. Property tax exemptions for nonprofit-owned buildings typically require a separate application to the local tax assessor. Before assuming the organization owes no state or local tax, check with the tax agency in each state where it operates or solicits donations.
What It Means for Donors
One practical benefit of 501(c)(3) status is that donors who itemize can deduct contributions on their federal returns. Cash contributions to a public charity are deductible up to 60 percent of the donor’s adjusted gross income; cash to a private foundation is capped at 30 percent.20Internal Revenue Service. Charitable Contribution Deductions Donations to other exempt categories, such as 501(c)(4) social welfare organizations, are generally not deductible.
When a donor receives something in return for a contribution, such as a dinner ticket or merchandise, the organization must provide a written disclosure if the payment exceeds $75. The disclosure must state that only the amount exceeding the fair market value of what the donor received is deductible, and it must include a good-faith estimate of that value. Failing to provide the disclosure carries a penalty of $10 per contribution, up to $5,000 per fundraising event or mailing.21Internal Revenue Service. Charitable Contributions: Quid Pro Quo Contributions