When the IRS examines a 501(c)(3) application, one of the major issues they are looking for is any potential conflict that exists. This conflict of interest could exist between the nonprofit organization and its board members, directors, trustees, or key employees. In my experience working with clients who are applying for their 501(c)(3) status, I have seen many situations arise in which a conflict of interest presents itself and may jeopardize the approval of the application. Even if this issue does pass the initial review completed by the IRS, if the conflict of interest is not addressed and dealt with appropriately, it could jeopardize future compliance with the IRS as well as damage the organization’s reputation; which, in turn, will damage funding.

Conflicts of interest in nonprofit organizations must be addressed very seriously whether they seem small or large. How an organization manages conflicts of interest that arise will determine whether an organization is frequently involved in legal problems and public scandals or actually accomplishing the organization’s mission. Conflicts of interest can arise whenever an individual, who has authority or decision-making power in a nonprofit organization, will privately benefit from a transaction, agreement, or activity of the organization.

One simple example of a conflict of interest is a board member with voting rights who will also be employed by the organization for other duties. The board of directors are responsible for reviewing and approving a nonprofit organization’s budget which would include the salaries and compensation of employees and independent contractors. If one of your board members will receive compensation then an obvious conflict arises if this board member has the authority to set his or her compensation. There are multiple ways to deal with this issue, some more extreme than others. For example, one solution would be to remove the board member from the board of directors altogether. However, such as drastic step does not need to be taken. A typical solution to such an issue would be to have this board member abstain from voting on his or her’s individual compensation. This in turn allows the board member to remain on the board and receive compensation for their duties as an employee, while avoiding a dangerous conflict. Although this issue may seem obvious, many board members do not see some of the more discrete conflicts of interests that arise throughout the lifecycle of their organization.

A useful way to discover if a conflict of interest exists during a decision-making process is to check and see if a decision will benefit any of your director. Of course, this will require all of your directors to be upfront and honest about any aspect of the decision that may benefit them.

Another asset to your organization is your conflict of interest policy. When you organization applies for its 501(c)(3) tax exempt status, the IRS requests that you adopt a conflict of interest policy and submit it with your application. However, you should always remember that this policy serves as a guideline and cannot replace careful consideration and an ethical approach to any decision made by a board. Each member of your Board should be required to acknowledge acceptance of the conflict of interest policy on an annual basis, and the policy should be reviewed at the initiation of all Board meetings. This will serve as a key reminder to every decision maker about their responsibility to disclose and avoid any conflicts of interest.

Nonprofit board members and executives must not only be able to recognize potential conflicts of interest, but they must determine when these conflicts present areas of concern and what to do about them. This can be a great responsibility and should be taken seriously – your organization’s tax exempt status and your future funding depend on it.

The Cyber-Assistant will do good things for first-time 501(c)(3) applicants but will it do enough to justify waiting to submit your 1023 application?

In 2003, the IRS started a review and revision process of how they examined applications for 501(c)(3) tax exempt status. They called this process, “Project ASPIRE,” and was created in response to the large increase in 1023 applications. At that point, the number of exempt applications was increasing by over 40% while the number of IRS Exempt Organization employees was remaining the same. The goal of Project Aspire was to find ways to streamline the 1023 application process, both for the applicant and the IRS. Following the project the IRS made some good strides, most notably, the elimination of Form 8734 (Advance Ruling Period). However, the major recommendation of this project was to continue previous efforts to develop a fully interactive filing for the 1023 application, termed the “Cyber-Assistant.”

One of the major changes in submitting your 1023 application through the Cyber-Assistant will be the stated decrease in the filing fee ($200 regardless of previous or projected revenue). It also may cut down on paper; however, since the last report, the application would still be printed and then mailed to the IRS. 

For as much flak as the IRS takes, I must say that they are doing the right thing here. After all, that 2003 project that was mentioned earlier, Project ASPIRE, stands for:

Alleviate any application backlog

Streamline the determinations process

Prioritize application review

Improve customer service

Redirect resources to cases deserving enhanced review and compliance

Enhance quality control 

But while all of this is good, is it really beneficial to wait for the Cyber Assistant to apply for your 501(c)(3) tax exempt status? After all, the idea for the Cyber Assistant dates back well beyond 2003 and the IRS has promised its release year after year.

Here are some reasons you should not wait:

1. Benefits of obtaining 501(c)(3) status that may apply to your organization include discounts on postage, exemption from state and sales taxes, property tax exemptions, and eligibility for private and government grants. In determining whether or not to wait, you need to determine if you can afford to miss these benefits.
2. Your 501(c)(3) status will be retroactive to the date of your incorporation as long as you submit your 1023 application within 27 months of being formed. This means that previous donations to your organization may qualify as tax deductible contributions. If you submit your1023 application after this, you will lose this benefit and be required to submit additional paperwork.
3. Delays and technical issues may plague the Cyber Assistant for many of its initial months once it is released. Although the IRS has designed it with the end-user in mind, good intentions do not always mean good implementation. As with most new software releases, the Cyber Assistant will not be immune to bugs and technical issues, which may add delays to processing your 1023 application. Furthermore, with the stated lower filing fee, I would guess that there will be more applications than ever…leading to further delays!

Above all, you should know that the Cyber Assistant will not make foolproof the 1023 application, just make it more convenient. The point of the Cyber Assistant is to refer you to previous IRS publications when you arrive to a question that you do not know how to answer. But this still means that you will have to read that IRS publication and try to figure out what they are saying! In some cases, the Cyber Assistant will provide broad advice on certain subjects but that will not replace professional advice to your specific organization and questions. So weigh your options carefully when you are considering whether or not to wait for the Cyber Assistant. 

Information taken from:
Advisory Committee on Tax Exempt and Government Entities
http://www.irs.gov/pub/irs-tege/act_rpt2_part1.pdf

Fees for Applying for 501c3 Tax Exempt Status are Set Increase!

User fees will increase for all applications for exemption (Forms 1023, 1024, and 1028) postmarked January 3, 2010:

• $400 for organizations whose gross receipts are $10,000 or less annually over a 4-year period
• $850 for organizations whose gross receipts exceed $10,000 annually over a 4-year period
• $3,000 for group exemption letters

Last time the IRS increased their fees they received a deluge of applications and had a huge backlog for months. Don’t wait until the last minute to receive your exempt status, get your 501c3 application (Form 1023) in before the holidays to save money and expedite the process. 

Remember, you will face additional hurdles if you apply more than 27 months after the end of the month in which your organization was legally formed.

Benefits of 501c3 Tax Exempt Status

The primary benefits of tax exempt status include:

• Donors can make charitable contributions and receive a tax deduction. Most often donors will refuse to offer funding if they will not receive a tax deduction.
• The organization will be qualified to receive private and public grant money.
• As a tax exempt organization you can save money on lower postage rates on corporate mailings.