In last month’s newsletter, we mentioned the new Form 1023-EZ as an alternative for some small charitable nonprofits filing for exemption with the IRS. However, considering the bare bones nature of the form and significant use of filer attestations, questions have been raised about the reliability of an exemption granted pursuant to Form 1023-EZ. Are there enough unknowns to cause concern? This unease among some donors may be a good reason to think twice before jumping at the opportunity to save time and money on the easy method.
It’s no secret that the exempt organization division at the IRS has suffered recently. In response to the tea party scandal, the House recently proposed cutting the tax enforcement division budget by 25%. Form 1023-EZ is a product of reduced staff, increased scrutiny of IRS decisions and complaints about slow turnaround of exemption applications. But what are the implications of using the 1023-EZ instead of the regular Form 1023?
Form 1023-EZ does not require an explanation of an organization’s activities or even a copy of the organizational documents. The filer is simply checking a series of boxes confirming that the organization is in compliance with all requirements of Code Section 501(c)(3). Sure, they get a determination letter faster, but what are they giving up? If the organization is not using a professional who is familiar with these requirements, they risk incorrectly answering the questions and potentially operating an organization that does not actually qualify for charitable status. Even if the organization does not use a professional to file the regular Form 1023, there are enough disclosures and explanations on the longer form for the IRS to assess whether or not the activities qualify for exempt status and make recommendations for changes so that the activities will qualify.
Imagine the negative impact on an organization that finds out years after formation that it never met the requirements for charitable status. Would donors demand a refund of their contributions? Will the IRS impose penalties for an inaccurate tax filing? How much will the organization owe in taxes for the years they were actually a for-profit organization?
The IRS has stated that a determination letter “issued to an organization that submitted Form 1023-EZ may not be relied upon if it was based on inaccurate material information.” Some private foundations have questioned what this means for their due diligence requirements. Do they need to investigate the activities and operations of potential donee organizations who filed Form 1023-EZ? Many may decide it’s easier to simply not give to organizations that filed Form 1023-EZ. It’s likely that this information will be publicly available on Guidestar.org or the IRS website, and state regulators have indicated that they will view Form 1023-EZ filing as a possible red flag.
It’s tempting for small organizations to choose the easy, cheap route for acquiring an IRS determination letter, but is it worth the risk? If you’re filing for exempt status, we highly recommend consulting with a professional familiar with the rules for charitable organizations, especially if you want to use Form 1023-EZ. Let us know if you need help with any of these filings!
