501c3 organizations, also known as nonprofit organizations, and 501c6 organizations, also known as trade associations, are designations in the nonprofit organizational structure.
They’re easily confused. The accounting requirements for 501c3 and 501c6 organizations can be just as confusing. The Internal Revenue Service (IRS) exempts both from paying federal income taxes, but their core purpose and political activities differentiate them.
Despite their differences, both nonprofit organizations succeed when they can manage finances more effectively, comply with regulations, and plan for the future.
The purpose of a 501c3 nonprofit organization is to serve the public, meaning their activities must benefit the public. 501c3 organizations can achieve this by providing services like food distribution, housing, and religion or by educating and informing the public about their causes and missions. However, a 501c3 nonprofit can only lobby its causes within reason.
As such, the IRS limits the purposes of a 501c3 to charitable, educational, testing for public safety, religious, scientific, literary, prevention of cruelty to animals and children, and fostering amateur sports nationally or internationally. Some notable examples of 501c3 organizations in the US include the New York Cancer Foundation and For the Love of Alex.
Don’t miss: Trends in Nonprofit Accounting: A Guide for 2023
On the other hand, the purpose of a 501c6 nonprofit organization is to serve its members. This makes it an association of people with a common business interest, one that enhances the conditions of the business and not its profits. Therefore, the regulations on lobbying here are more relaxed than in the case of 501c3 organizations.
And since the IRS doesn’t consider a 501c6 a charitable organization, its purposes include business leagues, real estate boards, professional football leagues, chambers of commerce, and boards of trade. An excellent example of a 501c6 is the National Board for Health and Wellness Coaching.
The most significant difference between the two is their electioneering capabilities, which are activities that show active participation in an election campaign.
According to the IRS, 501c3 organizations can lobby for their claimed purpose if they don’t influence legislation, support public office or any candidate, or intervene or participate in a political campaign. Therefore, these nonprofits cannot engage in electioneering, but they can offer to fund nonprofits that purposefully lobby.
Since 501c6 organizations are allowed to lobby for their purpose, the only IRS rule provided here is that the nonprofit must communicate and inform its members of the due percentage used in lobbying.
Otherwise, the IRS is liable to enforce a proxy tax penalty. Apart from that, 501c3 organizations can spend their resources on electioneering if they don’t spend more than 49% of their resources.
501c6 organizations are exempt from federal taxes but may not escape state and local taxes because they must file the 1024 Form to acquire their Letter of Determination. On the contrary, 501c3 organizations file Form 1023 or 1023-EZ, which exempts them from federal, state, and local taxes.
Many nonprofits solicit support by offering tax deductions on donations because they encourage more donors to support causes passionate to them while reducing their taxes. However, only 501c3 organizations have the power to offer these tax deductions because their causes are considered charitable.
As such, any 501c3 donor can get a tax deduction for property or cash donations. And if members of a 501c3 incur monthly fees, the fees are also tax deductible. But donor information is shared with the IRS for gifts worth $5,000 or more.
Members of 501c6 nonprofits are not so lucky because their donations are not charitable. Nonetheless, membership fees can be tax deductible if claimed as business expenses, even though a proxy tax is charged.
This is why the IRS requires 501c6 companies to announce publicly that fees and donations are not tax deductible. The IRS also requires 501c6 to protect donor information regardless of the amount donated. And if your donors are not claiming these funds in their tax reports, it exempts them from funds accountability.
Most 501c3 grants are for charity use, meaning the organizations can give and receive grants if they further their core mission. On the other hand, 501c6 organizations only receive grants if they can apply for them as per the grant organizations’ requirements.
Both 501c3 And 501c6 organizations must register with IRS and meet reporting requirements before engaging in any lobbying activities. Both must file Form 990, which shows they benefit the organization’s membership or the public.
For both organizations, the IRS imposes an excise tax on individuals or private shareholders if they benefit substantially from the nonprofit’s earnings. If this is determined, both companies lose their tax-exempt status as well.
All this to say: Nonprofit organizations thrive when they can effectively and efficiently manage finances, comply with regulations, and plan for tomorrow. That’s why both 501c3 and 501c6 nonprofit organizations can benefit from a modern cloud accounting solution in several ways.
Managing their financial transactions more efficiently and effectively. This includes tracking income and expenses, generating financial reports, and reconciling bank statements. This can help the organization better understand its financial situation and make more informed decisions.
Compliance. Both 501c3 and 501c6 organizations are required to file annual tax returns and report certain information to the IRS. A modern accounting solution can help ensure that the organization is keeping accurate records and complies with all relevant regulations.
Fundraising and grant management. Many nonprofit organizations rely on donations and grants to fund their operations. A modern accounting solution can help track donations, generate donation receipts, and manage grants.
Budgeting and forecasting. This can help the organization plan for the future and ensure it has the resources it needs to achieve its goals.
These nonprofit organizations aim to serve charitable causes, like preventing cruelty to animals and children. 501c3 organizations are exempt from federal, state, and local taxes.
These nonprofit organizations aim to serve their members by promoting a common interest that must not be a regular business operation. 501c6 organizations are only exempted from federal taxes.
Many factors can differentiate these two nonprofit organizations, but their core mission and political affiliations provide the most evident differences. For instance, 501c3 organizations are solely for charity, while 501c6 organizations are solely for meeting their members’ common interests.