What you (and your donors) need to know about charitable tax deductions

Young people working in a donations distribution center

By: Laura Lloyd

Published: March 23, 2022

As a nonprofit organization, you are probably exempt from taxes on any items you purchase that support the work of your core mission. Your tax status is based on the fact that you devote most of your activities to alleviating society’s ills, as outlined by the government of Texas, for little to no fee. 

But that same tax-exempt status plays a part in the taxes you file for your donations. And your donors can claim tax deductions from their donations, which your organization can use as a potent fundraising incentive.

Here’s how to figure your tax deductions for any donations made to your organization, plus a breakdown of how donors can deduct the money or goods they gift your organization. 

How to figure your organization’s tax deductions

The most common type of charitable organization that qualifies for tax-exempt status under the federal government is a 501(c)(3), but there are 27 types of 501(c) organizations that may qualify. These types of organizations are incorporated, and their articles of incorporation state that they are formed for charitable purposes. 

Any income generated in activities related to the organization’s purpose is usually not taxed. Those types of activities may include:

  • Work performed almost entirely by volunteers
  • Sales of donated merchandise
  • The rental or exchange of donor mailing lists
  • Giving token items to donors in return for contributions

(Information provided by findlaw.com)

Even though your organization is tax-exempt, you’ll need to submit a 990, a 990EZ, or a 990-N (depending on your financial activity) to report your income and show that no tax is due. If you have paid employees working in your nonprofit organization, you will still need to pay your employee’s portion of Social Security, Medicare, and unemployment taxes.

Some income (essentially any income generated from activities unrelated to your organization’s core purposes) can be taxed by the federal and state governments. This is called an Unrelated Business Tax, and while it does not affect your tax-exempt status for activities relating to your core purposes, it is required for any income outside that scope.

So, for instance, if your organization’s primary mission is to find homes for rescue animals, but you also sell t-shirts, you’ll need to pay taxes on the sale of the t-shirts. In Texas, taxes may apply to anything your charitable organization sells, and the rules are precise. 

For example, if you sell food, sales tax applies to any food items intended or prepared for immediate consumption. So you wouldn’t have to pay sales tax on a whole loaf of bread, but you would need to pay sales tax for the sale of a sandwich.

Many kinds of activities, like auctions and banquets, can be held tax-free under certain exacting conditions. You’ll want to talk to a CPA to learn whether your fundraiser qualifies as a tax-free event.

Tax-exempt status in Texas is based on being one of several types of nonprofit organizations, and each organization needs to file a different form to earn tax exemption:

  • Form AP-205 – Charitable Organizations
  • Form AP-206 – Homeowners’ Associations
  • Form AP-207 – Educational Organizations
  • Form AP-209 – Religious Organizations
  • Form AP-204 – Federal and All Other Organizations

Each type of organization is eligible for the same tax breaks and deductions. Still, it’s essential to file the correct form, or the state of Texas may not recognize your charitable status.

How to help your donors figure tax deductions

If yours is a charitable organization (again, usually defined by a 501(c)(3) status), your donors can deduct up to 50% of their adjusted gross income in their donations.

While cash donations are always welcome (and should be accompanied by a receipt from you, the charity), donations-in-kind can be deducted, too. Any item worth over $500 will need a recent appraisal provided by the donor so that the IRS can confirm that the donated item is worth whatever your charity sells it for.

Donors can even deduct their stocks, mutual funds, real estate, and other non-cash gifts. There are specific rules on the dates these are signed into ownership by the charity, however, so talk to a qualified CPA (like us!) to understand the details. All donations must be dated by December 31 to qualify for that tax year’s deductions.

Reminding your donors that they can earn deductions on their donations to your organization can attract more donors and encourage larger donations for your charity. Just be sure to provide them with clear, itemized receipts that include the date of gift, amount or value of contribution, accurate names and addresses of both the donor and your organization, and acknowledgment of your 501(c)(3) status.

There’s an easy way to stay tax-compliant

There’s no doubt that navigating the murky waters of tax exemption for nonprofit organizations is mired in nuanced, little-known rules and regulations. It’s tricky to ensure your charity is on the right side of tax law, and it’s a time-consuming activity that drags you away from your core mission.

At Lloyd and Hodge, we are experts in helping nonprofits stay tax-compliant as painlessly as possible. We’re the hassle-free answer to your tax headaches, and we’re only a phone call away. Contact us to get your taxes started.

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