Operating a tax-exempt nonprofit organization comes with significant responsibilities and complex compliance requirements. While 501(c)(3) status provides valuable federal income tax exemption and allows donors to claim charitable deductions, maintaining this privileged status requires meticulous attention to IRS regulations, annual filing requirements, governance standards, and operational restrictions.
The consequences of noncompliance can be severe—ranging from penalty assessments to automatic revocation of tax-exempt status. Yet many nonprofit board members, executive directors, and volunteers struggle to navigate the intricate web of tax compliance requirements, especially as their organizations grow and evolve.
At Pyramid Financial Services, we work with nonprofit organizations throughout North Carolina to ensure they maintain full tax compliance while focusing their energy on advancing their charitable missions. This comprehensive guide provides a detailed checklist of everything your 501(c)(3) organization needs to do to maintain tax-exempt status in 2025 and beyond.
Before diving into compliance requirements, let's establish what 501(c)(3) status means and why maintaining it matters.
Section 501(c)(3) of the Internal Revenue Code grants tax-exempt status to organizations organized and operated exclusively for religious, charitable, scientific, literary, or educational purposes. These organizations:
The IRS recognizes two categories of 501(c)(3) organizations:
Public Charities: Organizations that receive substantial public support, such as churches, schools, hospitals, and community organizations. Public charities face fewer restrictions and receive more favorable tax treatment for donors.
Private Foundations: Organizations typically funded by a single source (individual, family, or corporation) that make grants rather than conduct direct charitable activities. Private foundations face stricter rules and additional excise taxes.
Most small and mid-sized nonprofits operate as public charities, which is the focus of this compliance guide.
The single most important compliance requirement for maintaining 501(c)(3) status is filing the appropriate annual information return. Failure to file for three consecutive years results in automatic revocation of tax-exempt status.
The IRS requires different forms based on your organization's gross receipts and total assets:
Form 990-N (e-Postcard):
Form 990-EZ:
Form 990:
Form 990-PF:
Depending on your organization's activities, you may need to complete additional schedules:
Schedule A (Public Charity Status and Public Support): Required for most public charities to demonstrate they meet public support tests or qualify as supporting organizations.
Schedule B (Schedule of Contributors): Lists contributors who gave more than a certain threshold ($5,000 or 2% of contributions). Not publicly disclosed but provided to IRS.
Schedule C (Political Campaign and Lobbying Activities): Reports any political or lobbying activities. Most 501(c)(3)s are prohibited from political campaign activities and restricted in lobbying.
Schedule D (Supplemental Financial Statements): Required if your organization holds investments, conservation easements, or other specific assets.
Schedule G (Fundraising and Gaming Activities): Details professional fundraising activities and gaming events like bingo or raffles.
Schedule H (Hospitals): Required for hospital organizations reporting charity care and community benefit activities.
Schedule I (Grants and Assistance): Lists grants made to organizations or individuals during the year.
Schedule J (Compensation Information): Details compensation paid to current and former officers, directors, trustees, and key employees.
Schedule L (Transactions with Interested Persons): Discloses business transactions and relationships with board members, officers, or substantial contributors.
Schedule M (Noncash Contributions): Required if noncash contributions exceed $25,000.
Schedule O (Supplemental Information): Provides narrative explanations for items on the main form or other schedules.
Schedule R (Related Organizations): Reports relationships with related organizations, subsidiaries, or parent entities.
Our nonprofit accounting services include complete Form 990 preparation with all necessary schedules, ensuring accuracy and full disclosure while minimizing your administrative burden.
Form 990 series returns are due by the 15th day of the 5th month after your fiscal year ends:
Automatic Extensions: File Form 8868 to receive an automatic 6-month extension. However, this only extends the filing deadline, not the time to correct any operational deficiencies or pay applicable taxes.
Missing filing requirements creates serious problems:
Automatic Revocation: Failing to file for three consecutive years results in automatic revocation of 501(c)(3) status. Reinstatement requires reapplying for exemption—a time-consuming and potentially expensive process.
Penalties: Organizations that file late but within the three-year window face penalties:
Public Disclosure Issues: Form 990 is publicly available. Failure to file damages your organization's credibility with donors, grantmakers, and the public.
Beyond annual filing requirements, maintaining 501(c)(3) status requires ongoing operational compliance with IRS standards.
Your organization must operate primarily to accomplish one or more exempt purposes specified in Section 501(c)(3):
What This Means in Practice: Substantially all of your activities must further your exempt purpose. While some unrelated business activity is permitted (discussed below), your primary focus must remain on charitable activities.
Document how your programs and activities advance your stated exempt purposes. Include program descriptions in board minutes, grant applications, and your Form 990.
501(c)(3) organizations cannot allow their net earnings to benefit any private individual or shareholder. This absolute prohibition means:
Excess Benefit Transactions: Providing unreasonable compensation or benefits to "disqualified persons" (officers, directors, substantial contributors, or their family members) violates the inurement prohibition. The IRS can impose excise taxes on both the disqualified person who received excess benefits and organization managers who approved the transaction.
Intermediate Sanctions: Rather than immediately revoking exempt status for benefit violations, the IRS typically assesses intermediate sanctions—excise taxes of 25% of the excess benefit (sometimes up to 200% if not corrected), plus 10% on organization managers who knowingly approved the transaction.
Reasonable Compensation: Pay compensation comparable to what similar organizations pay for similar positions. Document compensation decisions with:
Professional accounting services help establish reasonable compensation policies and document decisions to withstand IRS scrutiny.
Common violations include:
To maintain exemption, your organization must continue to meet both tests:
Organizational Test: Your articles of incorporation or other governing documents must limit purposes to exempt activities and include a dissolution clause dedicating assets to another 501(c)(3) organization upon dissolution.
Review your governing documents to ensure they still include required language. If you've amended your articles since receiving exemption, verify that compliant language remains.
Operational Test: Your actual activities must further your exempt purposes. The IRS looks at all facts and circumstances, including:
Among the strictest 501(c)(3) compliance requirements are prohibitions on political campaign activity and limitations on lobbying.
501(c)(3) organizations are absolutely prohibited from participating or intervening in political campaigns for or against any candidate for public office. This prohibition is absolute—even minimal campaign activity can jeopardize exempt status.
Prohibited Activities:
Permissible Activities:
The line between permissible issue advocacy and prohibited campaign activity can be subtle. When in doubt, consult with experienced nonprofit advisors before engaging in activities that could be construed as political.
While 501(c)(3)s can engage in some lobbying, substantial lobbying jeopardizes exempt status. The IRS applies two different tests:
Substantial Part Test (Default):If lobbying activities constitute a "substantial part" of your organization's total activities, you risk losing exemption. The IRS considers all relevant facts, including:
This subjective test creates uncertainty, as "substantial" has no precise definition.
501(h) Election (Expenditure Test):Many public charities elect to be measured by a clear expenditure test rather than the vague substantial part test. Under this election:
Lobbying Expenditure Limits:
Grassroots Lobbying: Only 25% of allowable lobbying expenditures can support grassroots lobbying (encouraging the general public to contact legislators).
Make the 501(h) election by filing Form 5768. This election provides clear spending limits and removes ambiguity about permissible lobbying levels.
Maintain clear records distinguishing:
Use separate tracking codes in your accounting system for advocacy expenses, and train staff on proper classification.
While 501(c)(3) organizations are exempt from federal income tax on income related to their exempt purposes, they must pay tax on unrelated business income.
Income is subject to UBIT if it meets three criteria:
All three criteria must be met for income to be taxable.
Advertising Revenue: Advertising in newsletters or on websites generally creates UBIT, though acknowledging sponsors ("This program made possible by XYZ Company") typically doesn't.
Rental Income: Renting property with substantial services provided (like a conference center with catering and event support) may generate UBIT. Simple property rental without services generally doesn't.
Museum or Bookstore Sales: Merchandise unrelated to your exempt purpose (t-shirts with your logo, general gift items) creates UBIT. Items substantially related to your mission (educational books sold by a literacy nonprofit) typically don't.
Affinity Programs: Endorsing commercial products or services in exchange for royalties (credit cards, insurance programs) often generates UBIT.
Corporate Sponsorships: Acknowledging sponsors is fine, but providing substantial return benefits (advertising, logos exceeding certain sizes, comparative language) may create UBIT.
If your organization has gross unrelated business income of $1,000 or more, you must:
Important: Even if your unrelated business operates at a loss, file Form 990-T to establish the loss for potential carryforward to future years.
Certain income is specifically excluded from UBIT:
Plan your revenue-generating activities to leverage these exceptions where possible.
Proper documentation of charitable contributions protects both your donors' tax deductions and your organization's compliance standing.
You must provide written acknowledgment for contributions of $250 or more. The acknowledgment must include:
Timing: Provide acknowledgment by the earlier of:
Best practice: Send acknowledgment letters promptly after receiving contributions, not waiting until year-end.
If a donor receives something of value in exchange for a contribution exceeding $75, you must provide written disclosure stating:
Example: Donor pays $150 for a fundraising gala ticket. The meal and entertainment value $40. You must provide disclosure showing $110 is deductible.
Donations Under $250:Donor is responsible for substantiation; you don't need to provide acknowledgment (though it's good practice).
Donations $250-$500:Provide written acknowledgment describing the property (no value required).
Donations $501-$5,000:Donor must obtain qualified appraisal (for most property) and you must sign Form 8283 acknowledging receipt.
Donations Over $5,000:Donor must attach qualified appraisal to tax return; you sign Form 8283 acknowledging receipt and must file Form 8282 if you sell the property within three years.
Vehicles: For donated vehicles valued over $500, you must file Form 1098-C with the IRS and provide a copy to the donor within 30 days.
Keep records of:
Implement systems to automatically generate compliant acknowledgment letters for donations meeting thresholds.
Beyond filing requirements, maintaining 501(c)(3) status requires strong governance practices and public transparency.
While federal law doesn't specify minimum board size, best practices include:
Many states impose specific board requirements for nonprofits incorporated in their jurisdiction. Verify your state's rules.
The IRS expects 501(c)(3) organizations to have and enforce conflict of interest policies addressing:
Include your conflict of interest policy in Form 990, Part VI, and ensure board members annually disclose potential conflicts.
Maintain a written document retention policy specifying how long you'll retain:
While not legally required, a written whistleblower policy demonstrates good governance. The policy should:
Include existence of whistleblower policy on Form 990, Part VI.
Make the following documents available for public inspection:
You can provide copies (charging reasonable copying fees) or make documents available on your website (fulfilling disclosure obligations).
Many nonprofits use GuideStar, Candid, or similar services to publicly share Form 990 and other transparency documents.
Federal 501(c)(3) status doesn't automatically ensure state-level compliance. Most states impose additional requirements.
Most states require nonprofits soliciting donations to register with the state attorney general or secretary of state. Registration typically requires:
Important: Registration requirements often apply even if you only solicit online or through direct mail, not just in-person solicitation.
North Carolina Requirements: North Carolina requires charitable organizations to register with the Solicitation Licensing Branch before soliciting contributions. Contact us for guidance on North Carolina charitable registration compliance.
Federal 501(c)(3) status doesn't automatically provide state or local tax exemptions. Apply separately for:
Each exemption has specific requirements and application processes.
Most states require annual reports from incorporated nonprofits, separate from federal Form 990:
Failure to file may result in administrative dissolution of your corporation.
501(c)(3) organizations with employees have substantial employment tax obligations.
Income Tax Withholding: Withhold federal income tax from employee wages based on Form W-4 elections.
FICA Taxes (Social Security and Medicare):Most 501(c)(3) employees are subject to FICA taxes (7.65% employee portion withheld from wages, plus 7.65% employer portion). Churches and qualified church-controlled organizations may be exempt.
Federal Unemployment Tax (FUTA):Most 501(c)(3)s are exempt from FUTA tax, but must file Form 940 if:
Deposits:
Quarterly Filing:
Annual Filing:
Form 1099 Reporting: File Form 1099-NEC for non-employee compensation of $600+ paid to independent contractors.
Ministers and religious workers face unique tax treatment:
Religious organizations should work with specialized tax advisors to ensure proper treatment of clergy compensation.
Understanding what catches IRS attention helps you proactively address compliance risks.
Excessive Compensation: Unusually high compensation for officers, directors, or key employees compared to comparable organizations triggers scrutiny.
Related Party Transactions: Transactions with board members, officers, substantial contributors, or their family members receive close examination.
Unrelated Business Income: Substantial unrelated business income or failure to file Form 990-T when required draws attention.
Political Activity: Any indication of political campaign involvement triggers investigation.
Excessive Fundraising Costs: High ratio of fundraising expenses to revenue suggests potential problems.
Significant Changes: Dramatic changes in revenue, expenses, compensation, or activities from prior years prompt questions.
Schedule L Transactions: Any transactions reported on Schedule L (loans to/from insiders, business dealings with board members) receive scrutiny.
If selected for audit:
Our nonprofit tax services include audit representation, protecting your organization's interests during IRS examinations.
Modern tools can simplify nonprofit compliance significantly.
Invest in integrated software handling:
Popular options include QuickBooks Nonprofit, Blackbaud Financial Edge, or Sage Intacct for Nonprofits.
Implement systems for:
Cloud-based solutions (Google Drive, Dropbox, or nonprofit-specific platforms) provide secure storage with role-based access.
Create automated reminders for:
Maintaining 501(c)(3) compliance while advancing your charitable mission requires significant expertise. Many nonprofits benefit from professional support:
Consider professional nonprofit accounting services if:
Bookkeeping: Monthly transaction recording, bank reconciliation, financial statement preparation.
Form 990 Preparation: Complete and accurate annual information return filing with all necessary schedules.
Payroll Processing: Wage calculation, tax withholding, quarterly and annual employment tax filings.
Audit Preparation: Organizing records and coordinating with independent auditors.
Strategic Planning: Budget development, financial forecasting, sustainability analysis.
Compliance Consultation: Guidance on maintaining tax-exempt status and addressing IRS questions.
At Pyramid Financial Services, our nonprofit accounting team provides comprehensive services tailored to tax-exempt organizations' unique needs. We understand the balance between compliance requirements and your mission focus, handling financial complexity so you can concentrate on changing lives and strengthening communities.
Tax compliance isn't just a bureaucratic obligation—it's fundamental to maintaining the public trust that makes charitable work possible. Donors, grantmakers, and the communities you serve expect nonprofits to operate with the highest standards of financial integrity and transparency.
By systematically addressing the compliance requirements outlined in this guide, your organization protects its tax-exempt status, builds donor confidence, and ensures long-term sustainability. The time and resources invested in proper compliance pay dividends through:
Don't let compliance challenges distract from your important work. Contact Pyramid Financial Services today to discuss how our nonprofit accounting expertise can support your organization's compliance needs and mission success. We're committed to helping nonprofits throughout North Carolina maintain financial health and full compliance so they can focus on making a difference in their communities.