Nonprofit versus 501(c)(3) Organization: What’s the Difference?

The Basic Difference

While the terms “nonprofit organization” and “501(c)(3) organization” often are used interchangeably, they are not the same thing. A nonprofit organization is a type of legal entity created under state law. A 501(c)(3) organization is an organization that is tax-exempt under Section 501(c)(3) of the Tax Code.

Nonprofit Organizations

When individuals with a common cause unite for a purpose other than making a profit, such as promoting the arts, helping animals, or supporting education, they can form a nonprofit by following the rules set by their state. This process typically involves filing articles of incorporation or other founding documents that state their nonprofit purpose.

State law specifies what reports a nonprofit organization must file, as well as how the organization must operate. Rules that nonprofit organizations must follow under state law include requirements to avoid conflicts of interest, to govern the organization, and to keep the public informed of its operations.

State law also specifies what kinds of legal entities may be registered as nonprofit organizations. Nonprofit corporations, for example, allow individuals to organize under a board of directors with corporate bylaws.

Section 501(c)(3) of the Tax Code

Section 501(c)(3) is a provision of the Tax Code that allows organizations with certain purposes to be exempt from federal income taxes. To be eligible for that exemption, the organization must have a purpose that is religious, charitable, literary, or, among other purposes, educational. Individuals who donate to 501(c)(3) organizations may also receive a federal tax deduction for their donation. However, an organization must apply for tax exemption under Section 501(c)(3) to become tax-exempt and to allow its donors to benefit from a tax deduction from their donation. An application seeking tax exemption under Section 501(c)(3) can take several months to process.

Generally speaking, nonprofit organizations may apply for tax-exempt status under Section 501(c)(3) if their nonprofit purposes are also religious, charitable, literary, educational, or of another kind specified under that Section. A nonprofit organization is not a 501(c)(3) organization until its application for federal tax-exempt status is approved. Once approved, the newly exempt organization may have yearly reporting requirements to meet in order to retain its 501(c)(3) tax-exempt status.

Section 501(c)(3) also imposes restrictions on the organizations that it exempts from federal income taxes. For example, 501(c)(3) organizations must avoid political campaigning to retain their tax-exempt status.

State Tax Exemption

While Section 501(c)(3) may exempt an organization from federal income tax, each state has its own rules for granting state-level tax exemptions, such as exemption from sales or property taxes. The application process (if any) for each state is different.

Creating a Nonprofit Organization Responsibly

Forming a tax-exempt nonprofit organization responsibly requires careful planning before its first registration. An attorney can assist you with choosing a state to incorporate, drafting bylaws and organizational policies, securing appropriate tax exemptions, responding to information requests and investigations by tax authorities, and complying with reporting requirements.

Angulo Law, A.P.C. provides short- and long-term support to help you establish and maintain your nonprofit organization strategically.