If you follow our blog, you may have seen our recent article about the pros and cons of public charities and private foundations (and how to decide which is best for your nonprofit.) Most founders concentrate on obtaining 501(c)(3) status – a public charity, especially if the intent is to attract support from the general public.

But how do you know what your nonprofit’s status is?

And how do you maintain your public charity status?

Here’s what you need to know:

Reviewing and understanding your IRS determination letter

When filing for tax-exempt status, your nonprofit organization must apply to the IRS for 501(c)(3) classification. If your application is approved, you’ll receive a determination letter explaining your rights and responsibilities as a tax-exempt organization. (Note: Donors and grantors often wish to see your determination letter for proof of your tax-exempt status.)

Look at your determination letter and find the line at the top that says “Public Charity Status.” It should be followed by a reference to an Internal Revenue Code section that identifies how your nonprofit qualified as a public charity when the IRS issued the determination letter. Your goal is to maintain that public charity status in the coming years.

Public support test for a public charity – definition and timing 

What is a public support test? It’s a provision that the IRS requires most public charities to maintain their tax-exempt status. The simplest definition of the test states that at least 33.3% of donations must be given by donors who give less than 2% of the nonprofit’s overall receipts. Essentially, it ensures that a nonprofit’s income is from a diverse set of donors rather than a single source.

Since the IRS provides a five-year grace period for new nonprofits, the public support test only comes into play once a nonprofit organization is in its sixth year of existence. Once your organization files Form 990 or 990-EZ for its sixth year, it’ll be subject to the public support test. Note that the public support test is based on five years consisting of the current year and the four years previous to the current year. The test considers sources of income only and does not include expenses. Should your nonprofit fail the test, a year is given to correct the outcome.

Maintaining your nonprofit’s public charity status 

There are many different types of public charities. But for simplicity, we’ll focus on the public support tests for IRS Sections 509(a)(1) and 509(a)(2) organizations, both of which are exempt under IRS Section 501(c)(3).

To maintain public charity status, a nonprofit organization must receive 33.3% of its support from public sources. This includes grants and contributions from individuals, corporations, private foundations, and the government. For a 509(a)(2) organization, this also includes revenue from programmatic activities (admission fees, tuition, etc.).

There are some exclusions:

• No matter the type of public charity, public support excludes income from investments, fundraising, and unrelated business activities. 
• For a 509(a)(1) organization, public support excludes contributions from private donors and related parties who give more than 2% of the total support over five years. 
• For a 509(a)(2) organization, public support excludes contributions and program revenue from disqualified persons of the organization (like trustees, officers, family members, entities they control, etc.).
• For a 509(a)(2) organization, public support excludes program revenue from a single source that exceeds 1% of total support.

The exclusions help prevent donors from treating a charity like it was their own (private) entity while simultaneously taking advantage of the favorable contribution limits of a public charity.

Planning strategies for your nonprofit’s public support test 

Here are some helpful tips to help your organization better prepare for the public support test:

• Keep track of significant donors
• Familiarize yourself with the public support test calculations
• Keep track of your public support percentage
• For private foundations, review a grantee’s tax forms (Form 990, Schedule A)

The two most challenging issues you want to avoid are having too much investment income unrelated to the organization’s mission and having too few donors (where just a few donors keep the nonprofit afloat.)

Don’t worry, but be wary regarding your nonprofit’s public charity status

When it comes to maintaining public charity status, most nonprofits don’t have a problem. Passing the public support test is easy if your organization has a broad base of donors and earns revenue from initiatives that further the organization’s exempt purpose. But if you run into difficulties or have questions, feel free to contact our expert accounting team at Qbix. We’ll help you maintain your public charity status, assist with your accounting, and give you more time to fulfill your mission. Gain peace of mind and schedule a no-obligation call today.

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