Understanding the Nonprofit Public Support Test: Safeguarding Your Organization's Status
As a nonprofit leader, we have all wished for one foundation who could swoop in and make all our financial issues go away. A foundation that would invest so deeply in our mission that we could focus on the work instead of the hustle. Somebody can dream, right?
This is one wish that could be incredibly harmful and damaging to your organization should it ever come true. And we, as nonprofit leaders, need to be prepared to turn these types of gifts away to protect our organization – or know how to mitigate the danger.
Maintaining nonprofit status is crucial for organizations dedicated to serving the public good. One significant aspect of this status is passing the Nonprofit Public Support Test, which ensures that a nonprofit receives a substantial portion of its income from the general public rather than a few large donors.
Failing this test could jeopardize an organization's tax-exempt status. It's important that you understand what the nonprofit public support test entails and how nonprofits can safeguard their status without overly relying on a small number of funders. The purpose of the public support test is to:
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Prove our organization and mission is crucial and valuable to the broader community.
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Ensure that one single entity (person, company, or foundation) does not have too much power or influence on us in how to serve our community.
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Create sustainability – if we rely too heavily on one donor, and that donor chooses or cannot support us any longer, will we be forced to dissolve.
Failing the Public Support Test has very expensive implications – the IRS will change your tax status from a Charity to a Foundation (which will require you to start giving away a portion your income/assets to other charities) in addition to multiple penalties. To reverse it requires lawyers, money, and time.
Simply, wishing for a Fairy Godmother (or Father) does harm, not good, to your organization.
What is the Nonprofit Public Support Test?
The nonprofit public support test is a requirement by the Internal Revenue Service (IRS) for organizations seeking to maintain their tax-exempt status under Section 501(c)(3) of the Internal Revenue Code. This test is designed to ensure that a nonprofit organization receives a sizable portion of its financial support from the general public, rather than from a few large donors or sources that could potentially influence the organization's activities.
You can find your public support calculation in your 990, Schedule A, Part 3 line #15. This % must be above 33%.
Please remember that some foundations do their own calculation out of an abundance of caution to ensure no harm comes to partners.
The Importance of Diversified Funding
Relying heavily on a small number of donors or funding sources can pose significant risks to a nonprofit organization. Not only does it potentially jeopardize the organization's tax-exempt status if it fails the public support test, but it also creates vulnerability to the whims and priorities of those donors. Diversifying funding sources not only helps in passing the public support test but also strengthens the organization's financial stability and resilience overall.
Strategies to Ensure Compliance
1. Broaden Your Donor Base: Actively seek support from a diverse range of individuals, corporations, foundations, and government agencies. Cultivate relationships with donors who are aligned with your organization's mission and values.
2. Encourage Small Donations: While large donations can be significant, a sturdy base of small donors can demonstrate broad public support for your organization. Implement strategies to encourage regular giving from individuals who may not have the capacity to make large donations but are passionate about your cause.
3. Diversify Revenue Streams: Explore alternative revenue sources such as earned income through programs or events. Developing fee-for-service programs can provide additional sources of income while furthering your organization's mission.
4. Transparency and Accountability: Maintain transparent financial practices and governance structures. Provide donors with clear information about how their contributions are being used and the impact they are making. Building trust with donors is essential for long-term support.
5. Grant Writing and Fundraising Efforts: Invest in learning how to write grants or find professional grant writing and fundraising expertise to maximize opportunities for securing funding from a variety of sources. Develop compelling proposals tailored to the priorities and requirements of different funders.
The more you have been able to protect and secure your public support, the larger gifts you will be able to accept.
The nonprofit public support test serves as a safeguard to ensure that tax-exempt organizations remain accountable to the public and operate in the interest of the greater good. By diversifying funding sources, nonprofits can mitigate the risk of failing this test while also strengthening their financial sustainability and independence. Building a broad base of support from individuals, foundations, corporations, and government entities not only helps in meeting compliance requirements but also ensures resilience in the face of economic uncertainty and changing donor priorities. As stewards of public trust, nonprofit organizations must prioritize transparency, accountability, and strategic financial management to fulfill their missions effectively.
Additional notes:
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The public support test is a complex and difficult formula.
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The calculation uses a rolling five-year period.
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All donations from the same donor are combined and the IRS formula determines if the contributions are more than 33% (or more than 10% in some circumstances).
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A bequest is exempt from the public support test (a person who has passed away obviously has no ability to influence your activities).
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A single donation is less concerning than sustained larger gifts.
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