Good Counsel: Should You Self-Declare?
While associations can declare themselves tax-exempt, you should know the pitfalls first.
It’s a little-known fact that certain organizations including trade associations can declare themselves tax-exempt without seeking a determination letter from the Internal Revenue Service. The IRS has stated that its exempt organizations office “will review organizations to ensure that they have classified themselves correctly and that they are complying with applicable rules.” In late March, the IRS issued questionnaires to assess compliance to about 1,300 organizations, saying that responding was optional but encouraged. The organizations had 60 days to respond.
Should your organization self-declare tax-exempt status? Consider these pros, cons, and an important exception before you decide.
Pros: If an organization decides to declare itself tax exempt, it will initially save time and money. Organizations that self-declare will not need to undergo the expense of preparing, or hiring outside experts to prepare, an application for tax exemption (Form 1024). In addition, self-declaring organizations can avoid the IRS user fee that must accompany the application ($850 for most organizations). They can also avoid delays in receiving an IRS determination letter, as the approval process can be lengthy.
Cons: The most significant downside of self-declaring is that the organization will receive no determination letter from the IRS that it has approved the tax exemption. If the IRS later challenges the purported exemption, the organization may face an IRS audit or may fail to receive a favorable determination. In the worst case, taxes or penalties may apply. If the IRS challenges the organization’s tax-exempt status after 27 months from its formation, the organization cannot seek a determination that would be retroactive to its formation date.
Form 990 requirement: An organization that has lost its tax-exempt status for failure to file tax returns for three consecutive years cannot declare itself tax exempt for subsequent years. To regain tax-exempt status, the organization must file an application with the IRS. In such cases, any favorable IRS determination is only effective as of the date of the application.
Many organizations choose to apply for tax exemption even though they could declare themselves exempt without IRS intervention. Self-declaring organizations should consult an expert to review the organization’s structure and operations to determine whether the organization will be tax-exempt.