Condominium Association Tax: Form 1120-H vs. 1120 and Exempt Income

A condominium association owes federal income tax every year, and the condominium association tax rules give the board a real choice about how that tax is calculated. Most associations file either Form 1120-H, which excludes assessment income but taxes other revenue at a flat 30%, or the standard corporate Form 1120, which taxes all income at 21% but allows broader deductions. The board makes this choice fresh each tax year, and picking the wrong form can cost the association thousands of dollars.

The Two Returns and How Each Taxes Income

Every condominium association organized as a corporation falls under the general corporate income tax by default. Section 11 of the Internal Revenue Code imposes a flat 21% tax on the taxable income of every corporation, and a condo association is no exception.¹ If the association files Form 1120 like any other corporation, all of its income goes on the return and gets taxed at that 21% rate, offset by whatever deductions apply.

The alternative is electing special treatment under Section 528, which the association does simply by filing Form 1120-H instead of Form 1120.² Under this election, the association excludes all exempt function income (mainly assessments and dues from residential unit owners) from its taxable base. Only non-exempt income like investment earnings or commercial revenue gets taxed, and it’s taxed at a flat 30%.³

The election is not permanent. A separate election must be made for each taxable year, and the board can switch between forms from one year to the next depending on which produces a lower tax bill.² For an association that collects mostly assessments and earns only modest interest on its reserve account, Form 1120-H almost always wins because the assessment income disappears entirely. An association with significant non-exempt revenue and enough deductible expenses to offset it might pay less at the 21% corporate rate on Form 1120. Run the numbers both ways before filing.

Qualifying for Form 1120-H

Filing Form 1120-H is not available to every association. The IRS requires the organization to satisfy two financial tests during the tax year, and failing either one forces the association onto Form 1120 regardless of preference.

The first is the 60% income test. At least 60% of the association’s gross income for the year must come from membership dues, fees, or assessments paid by owners of residential units.³ An association that earns substantial income from cell tower leases, parking rentals to non-residents, or other commercial sources can fall below this threshold.

The second is the 90% expenditure test. At least 90% of the association’s total spending for the year must go toward managing, maintaining, or improving association property.³ Landscaping, roof repairs, elevator maintenance, common-area utilities, and insurance premiums all count. Most well-run associations pass this test comfortably, but expenditures should be tracked throughout the year rather than reviewed at tax time.

Beyond these two tests, the association must be organized and operated to manage association property, and no part of its net earnings can benefit any private individual. That last requirement, the private inurement rule, has its own consequences discussed below.

Mixed-Use Buildings

The statute defines a “condominium management association” as one managing a project where substantially all of the units are used as residences.³ A building with a handful of ground-floor retail spaces and dozens of residential units above probably meets this standard. A true mixed-use project where commercial space makes up a significant share of the total units may not.

Commercial units also complicate the 60% income test. Only income received from owners of residential units counts toward the 60% threshold. Assessments paid by the owner of a retail or office unit do not qualify as exempt function income, even though they look identical on the books. Boards in heavily mixed-use buildings should watch this ratio through the year.

What Counts as Exempt Function Income

Exempt function income is the heart of the Section 528 advantage. Any amount that qualifies drops out of the association’s taxable base entirely when it files Form 1120-H. The statute defines it as membership dues, fees, or assessments received from owners of residential condominium units.³

What matters is the underlying nature of the payment, not its label. The income must come from unit owners in their capacity as members of the association, not as customers purchasing a specific service.⁴ Regular monthly assessments qualify. Special assessments for a new roof or lobby renovation qualify. Move-in fees charged uniformly to all owners as a condition of membership also fall on the exempt side.

What does not qualify is any fee tied to a specific service or facility usage rather than general membership. If the association charges owners separately for parking spaces, storage lockers, or pool access beyond what the standard assessment covers, those charges look more like service revenue.⁵ The regulation draws the line at whether each owner’s payment obligation arises solely from membership. Charges based on the extent to which a member uses a particular facility are not exempt function income.

How Non-Exempt Income Gets Taxed

Even an association that qualifies for Form 1120-H will owe tax on income that falls outside exempt function income. Common sources include interest earned on reserve accounts, dividends from investments, rental payments from cell tower or antenna leases, vending machine revenue, and fees charged to non-members for using association facilities.

On Form 1120-H, this non-exempt income gets taxed at a flat 30% after subtracting any expenses directly connected to producing it, plus a $100 specific deduction.³⁶ The $100 deduction is modest, and it’s the only automatic offset available on this form. Associations cannot claim net operating loss carryovers or the special corporate deductions available on Form 1120.⁴

This is where the Form 1120 comparison matters most. If an association has $50,000 in interest income and few deductions, the 30% rate on Form 1120-H produces $15,000 in tax. On Form 1120, that same $50,000 gets taxed at 21%, producing $10,500, but the assessment income also becomes taxable. An association with a large operating surplus from assessments will almost certainly pay more total tax on Form 1120. An association that spent every assessment dollar and only has investment income to show might save money at the lower corporate rate. The IRS instructions specifically encourage associations to calculate both returns and file whichever produces the lower tax.⁴

Excess Assessments and Revenue Ruling 70-604

Most associations budget conservatively and often finish the year with more assessment income than they spent. Without planning, that surplus could be treated as taxable income. Revenue Ruling 70-604 provides a straightforward escape: if the membership votes each year to either refund the excess or apply it against the next year’s assessments, the IRS treats the surplus as effectively returned to owners rather than as income to the association.

The procedure matters. The association must hold a meeting of its unit owners, and the owners must formally decide what happens to the excess. Leaving this vote to the board alone may not satisfy the ruling’s requirements. The vote typically appears as a resolution at the annual meeting, and passing it requires only a simple majority of votes cast, assuming the association’s governing documents don’t impose a higher threshold. An association that skips the vote in a given year loses the ability to shelter that year’s surplus.

One practical note: the ruling applies to excess assessments over actual operating expenses. It does not apply to non-assessment income like investment earnings. Interest on the reserve account is taxable regardless of whether the members vote to roll it forward.

Special Assessments for Capital Improvements

When an association levies a special assessment specifically for capital improvements, a separate tax rule can apply. Under Revenue Ruling 2007-31, the IRS treats special assessments designated for capital improvements as contributions to capital rather than gross income.⁷ Capital contributions are excluded from the association’s taxable income entirely under Section 118 of the tax code.

The distinction turns on how the assessment is characterized and used. An assessment earmarked for replacing a roof, repaving a parking structure, or overhauling the building’s plumbing qualifies. A general assessment that the board later decides to spend on capital work may not get the same treatment. Associations planning a major capital project should structure the special assessment from the outset as a designated capital contribution, with board resolutions and member communications that make the purpose explicit. Documentation is where this benefit falls apart.

The Private Inurement Rule

Section 528 requires that no part of the association’s net earnings benefit any private individual, and the IRS interprets this requirement using the same principles applied to other tax-exempt organizations.⁸ If the association pays rebates to members from non-exempt income, that constitutes inurement and disqualifies the entire organization from the Section 528 election.

The general benefits that all members receive from maintaining common property do not count as inurement. Fixing the elevator benefits every owner, and that’s the association’s purpose. But paying a board member an above-market stipend, giving a favored contractor sweetheart terms, or distributing investment income to select owners would all create problems. Violating the inurement rule strips the association of eligibility for the Section 528 election altogether, potentially retroactively for the year in question.

Is 501(c)(4) an Option?

A few condominium associations pursue full tax-exempt status under Section 501(c)(4) instead of relying on the annual Section 528 election. A 501(c)(4) organization is exempt from federal income tax on all income related to its exempt purposes, not just assessment income.⁹ Interest on reserves, rental income from common-area facilities, and similar revenue that would be taxed at 30% on Form 1120-H could be fully sheltered.

The qualification standard is considerably stricter. The IRS requires a 501(c)(4) organization to be operated primarily for the benefit of the community, not just its own members.⁹ A condominium association that maintains roads, green spaces, or amenities open to the general public has a stronger case than one that exclusively serves a gated community with no public access. Most condo associations cannot clear this hurdle, which is why Section 528 exists as a more accessible alternative.

Deadlines, Extensions, and Penalties

Condominium associations must file their federal return by the 15th day of the fourth month after their fiscal year ends. For the majority of associations operating on a calendar year, that means April 15.⁴

If the association needs more time, it can file Form 7004 to receive an automatic six-month extension, pushing the deadline to October 15 for calendar-year filers.¹⁰ The extension grants extra time to file the return, not to pay. If the association expects to owe tax, it should submit payment with the extension request to avoid interest.

Missing the deadline without an extension triggers the failure-to-file penalty: 5% of the unpaid tax for each month or partial month the return is late, up to a maximum of 25%.¹¹ Boards that realize they will miss a deadline should file the extension request immediately, even if the return itself is nowhere near ready.

Estimated Tax Payments

Associations that file Form 1120-H catch a useful break: the IRS does not require quarterly estimated tax payments, and the alternative minimum tax does not apply.⁴ The association simply pays whatever tax it owes when it files.

An association that files Form 1120 instead does not get this exemption. Like any other corporation, it may need to make quarterly estimated payments if its expected tax liability for the year is $500 or more. Boards switching from Form 1120-H to Form 1120 for the first time sometimes overlook this requirement and end up facing underpayment penalties on top of the tax itself. If the board is considering Form 1120, the estimated payment obligation should factor into the decision.

1
Office of the Law Revision Counsel. 26 USC 11 – Tax Imposed
2
eCFR. 26 CFR 1.528-8 – Election to Be Treated as a Homeowners Association
3
Office of the Law Revision Counsel. 26 USC 528 – Certain Homeowners Associations
4
Internal Revenue Service. Instructions for Form 1120-H (2025)
5
GovInfo. 26 CFR 1.528-9 – Exempt Function Income
6
Internal Revenue Service. 2025 Form 1120-H
7
Internal Revenue Service. Revenue Ruling 2007-31
8
eCFR. 26 CFR 1.528-7 – Inurement
9
Internal Revenue Service. Homeowners Associations Under IRC 501(c)(4)
10
Internal Revenue Service. About Form 7004 – Application for Automatic Extension of Time to File
11
Internal Revenue Service. Failure to File Penalty