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The correct legal status for a church toward the government, especially in the area of taxation, is a matter of importance to local churches. This is true not only due to tax-exemptions, but also due to Government intrusion and control issues.
Should a church have 501(c)3 status? Can a person claim a tax-exemption on donations to a church that does not have 501(c)3 status? Let’s take a few minutes to look at the legal and moral issues.
Three types of tax exempt status
Not all tax exemptions are created equal. Congress can create tax exemptions based on national policy, using the tax system as a means of enticing society to do that which Congress wants. For example, Congress has created a tax-exemption for solar energy purposes because the Congress deems this to be a socially desirable expenditure. Congress can, and does, create and remove these types of exemptions on a regular basis.
There are four major types of exemptions for churches and religious ministries.
The “Keep the Money in a Coffee Can” church
In truth, nothing needs to be done to open a tax exempt church. Just start having church and it is tax exempt. However, the church will eventually, in all likelihood, need to get a bank account, hire an employee, and own some property. If the church is meeting in a home, keeping the money in a coffee can, and has no business needs that cannot be taken care of in cash, then “keep it simple” and do nothing. The church would not need to file any reports, send any receipts, or hire any non-profit advisors. Just do it. If a member wanted to get an exemption for giving to this church, he or she would simply claim it without a receipt. If audited, the member would need to prove that the money went to church purposes (which may be difficult, having no church records). Chances of a church of this organization having donations of the size needed to bother with tax-deductions, however, are slim. If the church is going to operate on a few hundred to a few thousand dollars a year, doesn’t need a bank account, isn’t hiring employees, and will not own equipment or property in its name, just keep it simple and have church. If the church grows, get a bigger coffee can. If a coffee can becomes an unreasonable way to do business, keep reading for more options.
Non profit association
An association is a member-based organization that is not normally used for a church, but can be. Associations with less than $5,000 in revenue in any given year are automatically tax exempt. A new church could easily form a non-profit association and operate under this arrangement for a time, but soon would want to become a non-profit corporation for member-liability reasons. In short, a non-profit association is likely not the direction a church wants to go long-term.
Non profit corporation
A non-profit corporation has obtained an Employee Identification Number (EIN), whether it has employees or not. The EIN puts the church on the IRS’s radar. The church then drafts simple bylaws and registers with the state, sometimes with a small fee. While a lawyer could be hired to do this work, a couple of smart people in the church could also do the task with ease. The church would want to check state laws for non-profit corporations. Some require an annual or bi-annual report. These reports, when required, are typically fairly simple and simply let the state know that you still exist.
The benefit of corporate status is that it is much easier to get a bank account (they likely will require articles of incorporation from the state, along with an EIN). The corporate status also protects members from liabilities of the church. This status also allows the church to own property and hire employees. The non-profit corporation has the legal status of an entity that receives funds but does not pay income taxes on the funds received for the purpose of fulfilling their non-profit mission. The corporation should take care, of course, to make sure that both its income and its expenses are in line with its governing documents, for it is upon these documents that the tax-exempt status has been registered. However, it should be noted that churches are tax exempt with or without non-profit corporation status.
United States tax code, section 501, describes tax exempt organizations. The 501(c)3 is a section of the legal code that pertains to religious organizations. An organization with a 501(c)3 status is a recognized organization for receiving tax-deductible gifts from donors. It is not necessary (nor, in my opinion) recommended for a church to get a 501(c)3 official designation. A church, by the nature of the first amendment to the constitution, is exempt from federal income taxes. Donations to churches are recognized as tax deductible by the IRS for all churches, whether 501(c)3 or not.
On the downside, 501(c)3 organizations must go through a lengthy process of application and approval, and then must file annual “Form 990” reports which are burdensome to prepare.
On the upside, some foundations require 501(c)3 status to be considered for funding.
We should note that non-church religious organizations that want to be tax exempt and receive tax deductible gifts must have a 501(c)3 status. Churches are very different from parachurch or ministry organizations.
What tax-exempt status is best for your church?
The best tax-exempt status is the simplest and most natural. If you don’t need a bank account or liability protection or private property ownership, just use the coffee-can approach. If you may only exist for a short time, or will have only a few thousand dollars in annual giving, get an EIN and file with the state to be a non-profit association. If (like most churches) you may someday want to own property in the church’s name, you want liability protection for members, file with your state as a non-profit corporation. If you want to receive grant funding or be able to give donors a “certificate” that guarantees tax deductibility of donations, get a 501(c)3. Just remember that this “certificate” is really not much of a guarantee as it can be revoked at any time. The guarantees of the U.S. Constitution are much stronger.
Beware the naked man that offers you his shirt
The old African proverb has some wisdom. Church members and leaders can often be enticed by what congress is offering churches: tax exemption and donor deductibility. What we should realize is that congress is a naked man offering his shirt. His promises mean nothing, for two reasons.
First, he has nothing to offer. Congress stands before churches saying, “I’d like to offer you what you already have. All you need to do is report to us.” What an offer!
Second, and even more important, is that churches should realize that what congress offers, congress can take away. Therefore, churches should not take ANYTHING from congress. Churches are free and independent from congressional control. “Congress shall make no law respecting an establishment of religion, or prohibiting the free exercise thereof.” These words give the church a total and full separation from congress, and churches should never accept the shirt offered by congress.