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Nonprofits enter twilight zone

As many as one in five Maryland nonprofit businesses could be stripped of their tax-exempt status Friday because of filing rules that changed three years ago and caught some of them unawares.

The Internal Revenue Service in June listed 6,788 Maryland nonprofits as “at risk of automatic revocation” effective Oct. 15 because of failure to file proper tax forms. Organizations affected will have to pay taxes on their income starting immediately after the deadline. To get their exemption reinstated, groups will have to reapply as if they were new, IRS spokesman Jim Dupree said.

Before regulations changed in 2006, nonprofits making less than $25,000 a year didn’t have to file annual tax returns. Congress, however, passed legislation mandating that almost all tax-exempt organizations except churches file annual forms starting in 2008.

The law also requires a nonprofit that fails to file the appropriate forms for three consecutive years to be stripped of its federal tax-exempt status. This year is the first time some companies will have recorded three years of noncompliance, according to a statement from IRS Commissioner Doug Shulman.

Although the IRS sent out more than 1 million informational items, many groups apparently didn’t get the memo regarding Form 990-N, nicknamed the “e-postcard” by the IRS.

A section of the IRS website for nonprofits states that it is not an annual return, just an “annual electronic notice.” It requires small nonprofits to report contact information and confirm that they have not gone out of business.

Just over 1.5 million nonprofits are registered in the United States, according to the National Center for Charitable Statistics. According to the IRS, 316,359 of them — almost 21 percent — are imperiled. At the state level, Maryland falls in the middle of the pack, with 20.8 percent of its 32,692 nonprofits in danger.

Tennessee is the worst in the nation with 31.9 percent of its 29,304 nonprofits on the IRS hit list. Iowa is the most compliant state, with just 13.2 percent of its 27,936 nonprofits found to be filing improperly.

The IRS uses sliding deadlines because groups’ fiscal years don’t necessarily follow the calendar year. When the first deadline passed May 17, the IRS “found that many organizations had still not filed a return,” Shulman said.

The IRS elected to extend the filing deadline until Oct. 15, but Dupree said it won’t be clear how many made the cut until early 2011. There will not be another extension, he said.

No cash cow

Because the organizations affected are small, their sudden change of status isn’t expected to result in much state revenue, according to Maryland comptroller’s spokeswoman Caron Brace, though she said there had been little research on the issue. She said these freshly for-profit businesses would be taxed just like any other.

“It’s a level playing field,” Brace said. “If they don’t have that status, everybody has to pay it.”

The effect on the organizations, however, is not as negligible, according to University of Maryland finance professor Elinda Kiss.

“It’s certainly going to have an impact. If you are taxable, that reduces your profits,” Kiss said. “You have less available to do whatever it is you do.”

The Maryland list shows that organizations across the spectrum are affected, including seven chapters of the Fraternal Order of Police, a Calvert County judo club, and 16 chapters of the American Federation of Government Employees.

A spokeswoman for the AFGE, which represents 600,000 federal and District employees, hadn’t heard of the law change, but Kenneth Lyons, the president of AFGE local chapter 3721, said he was aware his chapter was on the list and added that it would be submitting the proper paperwork early this week.

“It was just not realizing that certain laws applied and filing forms incorrectly,” Lyons said. “The IRS could have been a little more clear on this.”

The list also includes 25 Masonic lodges governed by the Grand Lodge of Maryland, which called all of them once the oversight was discovered, according to Grand Lodge Controller Bettie Dunkin. It wasn’t an easy fix, she said; the form is only available online and involves being redirected to other sites.

“It’s an older membership, computers really aren’t their thing,” Dunkin said. “There’s just a lot of confusion out there.”

Lost and gone forever

The list’s numbers may be slightly inflated by the inclusion of organizations such as Baltimore’s American Dime Museum, which presumably hasn’t filed taxes since it went out of business in 2007. Many, though, are just modest organizations that aren’t aware of the change.

“They can certainly apply to be reinstated,” Dupree said. “But if they have to reapply they’ll be treated like a new organization.”

Groups applying for reinstatement would have to pay taxes on their income until they get reapproved, Dupree said, and they would have to notify donors that their contributions would no longer be tax-deductable. He said it was hard to say how long it would take for individual applications to be processed, but that the reapplication fees would be $400 for organizations making less than $10,000 and $850 for others up to $25,000.

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