Many people equate the term nonprofit with tax-exempt. While this may be fairly accurate when considering federal and state income taxes, it is not necessarily true when considering other forms of state and local taxation, including sales and use taxes and property taxes.
Like pretty much everything at the federal and local levels, state approaches to taxing charitable transactions are not uniform. And approaches are not necessarily the same within a state when distinguishing between sales to nonprofits and sales by nonprofits.
While most states provide some form of property tax break for both real estate and personal property owned by nonprofit organizations, this application is also inconsistent. Your key takeaway from this article should be to identify the areas where further study of a particular state’s laws is needed to determine your state and local tax liabilities.
Sales and Use Tax
Currently, 17 states tax sales to nonprofits, but even those states have exceptions to the rule. For example, California does not offer a sales or use tax exemption for nonprofit organizations, but it does exempt sales to volunteer fire departments, some youth organizations, veterans’ organizations, and religious organizations.
Construction contracts for nonprofit organizations are taxable in 24 states, but again with some exceptions. For example, Arizona taxes contractors on their income from most nonprofit construction contracts, but provides some limited exemptions. The construction of domestic violence shelters and affordable housing for residents 62 and older is exempt from the tax. The construction of some healthcare facilities is also exempt.
Sales to schools are taxable in seven states. However, in these states, the seller may need to distinguish whether the sale is to a public or private school to know if the sale is taxable.
Another unique state and local tax issue that nonprofit organizations seeking a sales tax exemption need to be aware of is that in several states, local jurisdictions may tax sales and thus also exempt sales differently than their state system. States in this category include Colorado, Arizona, Louisiana, Illinois, Alabama, Idaho, and Alaska. Alaska does not have a state sales tax, but local jurisdictions can and do collect sales taxes. A nonprofit organization in one of these states also needs to be aware of local tax regulations.
Sales by non-profit organizations
Some states tax sales by nonprofit organizations. Some of these states distinguish between sales that are part of the ordinary course of business of the nonprofit organization and those that are made for specific purposes. One such special purpose is sales for fundraising activities in support of the charitable mission. However, the sale of training materials by a professional affiliate would not fall under this exemption, although the proceeds support the charitable mission.
Because nonprofit sales are taxable in many jurisdictions, the issues and legal developments affecting for-profit businesses in the sales and use tax world impact nonprofits equally. Many remote sellers have become aware of the implications South Dakota vs. Wayfair, who have blessed Economic Nexus Legislation as an opportunity for states to tax out-of-state sellers who have not previously met the Nexus standards to allow such taxation.
These economic context laws also affect non-profit organizations that sell in states other than where they are based. This means that these nonprofit organizations need to learn whether their sales are taxable in multiple jurisdictions, just as for-profit corporations have done.
Most states exempt nonprofit real estate and personal property from ad valorem taxes, but exemptions vary from state to state, and eligibility for the exemptions also varies. In some states, the only qualification criteria is the IRS 501(c)(3) Designation Letter. In other cases, this is not sufficient, since a use qualification must also be proven and not all exempted uses in organizations meet the exemption criteria.
501(c)(3) corporations are mentioned in this discussion because, as with most state and local tax matters, the property tax exemptions may specifically identify the subnumber designation in 501(c) and exempt only the property of some organizations or exempt the property of all of them . 501(c)(3) entities may be exempt, but 501(c)(4) or (6) entities are not.
In addition, property that would otherwise be tax-exempt may lose that exemption if used for commercial purposes. For example, a non-profit organization may own an office building that it uses for its tax-exempt purpose. It uses part of the property for administrative tasks and other parts of the property for the training and further education of its customer group. Since some office space in the building is unoccupied, she decides to rent this part to a tenant. Depending on the federal state, it can lose the property exemption for the entire building or for the rented part of it. But if the renter is another qualifying nonprofit organization, the exemption would not be lost in some states.
Other Tax Types
Some states have unique taxes for their jurisdiction. The state of Washington does not have an income tax per se, but instead has a business and occupation tax that taxes the gross receipts of corporations doing business in the state. Because it is a gross receipts tax, it is considered a consumption tax and not an income tax. This distinction leads to an unexpected result for many nonprofit organizations. While they are used to being exempt from state income taxes simply because of their 501(c) status, this is not the case in Washington. A nonprofit organization’s gross receipts are likely to be subject to Washington business and professional taxes. This is not to say that this will apply to everyone as there may be exceptions for some organizations in certain circumstances.
In addition, Ohio has the business tax. This gross receipts tax specifically exempts nonprofit organizations. A rule has been enacted to clarify that a for-profit cooperative is not a non-profit organization.
As with nearly all aspects of state and local taxation, nonprofits face a number of compliance challenges that require them to be familiar with the state and local tax laws of every jurisdiction in which they do business. Nonprofit organizations that own property or make sales should check with their state and local tax advisors to determine compliance with tax laws that affect their operations. In the state and local tax world, nonprofit doesn’t necessarily mean tax-free.
This article does not necessarily represent the opinion of the Bureau of National Affairs, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.
Information about the author
Dawn R. Fork, a state and local tax attorney with Dickinson Wright PLLC’s Phoenix office, her practice focuses on property tax relief, sales and use tax advice and litigation, and state income tax advice and litigation.
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