Difference between Nonprofit and Tax-Exempt Status

The terminologies “Nonprofit” and “Tax Exempt Status” used to define the professional and trade associations is often confusing. It is necessary to clarify both of the two key terms. Organizations are usually controlled and operated as both tax-exempt and non-profit entities. The status of the non-profit refers to the incorporation status under the law of the state, and the tax-exempt status states to the federal income tax exemption under the Internal Revenue Code (IRC).

What are the Differences between Nonprofit and Tax-Exempt Status?

Non-profit Organizations

Though there are nonprofit organizations, associations are given permission to make income than expenses but they retain the nonprofit status. As nonprofit organizations, associations are banned from distributing the net earning to the individuals who have control of the organizations. And also, they are barred from collecting the equity appreciation for the private benefit. Nonprofit organizations undertake programs to benefit the members and the public rather than individuals. Their earnings must be by law and dedicated to furthering the purposes for which they are formed. These non-profit organizations have no shareholders and they do not pay to the dividends. All the earnings are reinvested within the organization of its nonprofit purposes.

Tax- Exempt Entities

Most of the associations are tax-exempt entities but they do not need to be. As the necessities for the federal income tax exemption is more inflexible than that of the nonprofit corporation status. Still, there are certain organizations that do not qualify for the tax exempt status from the federal income tax. The nonprofit organizations, which qualified for the tax exemption status to the federal income tax are under the Section 501 (c) (3) or Section (c) (6), and the smaller number comes under the Section 501 (c) (4) or Section 501 (c) (5).

What does Tax Exemption Mean?

A Tax Exemption status means that an organization is exempted from paying the income tax on the income generating activities, which are significantly related to the purposes for which the organization is formed. An organization however should pay the federal income tax on income which is not related to the purposes of tax-exempt status and it is referred to as Unrelated Business Income (UBI). Organizations, which meets the needs for the federal tax exemption rely on the status to exempt the income from the state corporate income tax.
Still, most of the associations, which are in tax-exempt status do continue to a wide variety of other taxes, this includes federal payroll taxes (Medicare, Social Security, and unemployment), local and state unemployment taxes, personal property taxes, real estate taxes, franchise taxes, sales and use taxes and taxes on lobbying activities. Tax exemptions for the local and state taxes are given for certain types of philanthropic organizations, and also for certain universities and colleges, hospitals and other entities.
These organizations need to fulfill the guidelines of both the tax exemption and nonprofit status to maintain the status under the state and federal tax codes and state corporation laws.